-----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, WxPPZ5zi3lGYczoRGevs7vRAT5xNwdFc0qKa6HPQC+EI1o0mNwrB4bm3bEw8UFW2 W/o/ihybC7//T2kJBiR1mA== 0001017062-98-001268.txt : 19980605 0001017062-98-001268.hdr.sgml : 19980605 ACCESSION NUMBER: 0001017062-98-001268 CONFORMED SUBMISSION TYPE: S-1/A PUBLIC DOCUMENT COUNT: 7 FILED AS OF DATE: 19980604 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTERPLAY ENTERTAINMENT CORP CENTRAL INDEX KEY: 0001057232 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 330102707 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: S-1/A SEC ACT: SEC FILE NUMBER: 333-48473 FILM NUMBER: 98642143 BUSINESS ADDRESS: STREET 1: 16815 VON KARMAN AVE CITY: IRVINE STATE: CA ZIP: 92606 BUSINESS PHONE: 7145535603 S-1/A 1 AMENDMENT NO. 3 TO FORM S-1 FILE NO. 333-48473 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JUNE 4, 1998 REGISTRATION NO. 333-48473 =============================================================================== SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------- AMENDMENT NO. 3 TO FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ---------------- INTERPLAY ENTERTAINMENT CORP. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 7372 33-0102707 (STATE OR OTHER (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER JURISDICTION OF CLASSIFICATION CODE NUMBER) IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 16815 VON KARMAN AVENUE, IRVINE, CALIFORNIA 92606 (949) 553-6655 (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) CHRISTOPHER J. KILPATRICK, PRESIDENT INTERPLAY ENTERTAINMENT CORP. 16815 VON KARMAN AVENUE IRVINE, CALIFORNIA 92606 (949) 553-6655 (NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE) COPIES TO: NICK E. YOCCA, ESQ. JEFFREY D. SAPER, ESQ. K.C. SCHAAF, ESQ. PATRICK J. SCHULTHEIS, ESQ. STRADLING YOCCA CARLSON & RAUTH, WILSON SONSINI GOODRICH & ROSATI, A PROFESSIONAL CORPORATION PROFESSIONAL CORPORATION 660 NEWPORT CENTER DRIVE, SUITE 1600 650 PAGE MILL ROAD NEWPORT BEACH, CALIFORNIA 92660 PALO ALTO, CALIFORNIA 94304-1050 (949) 725-4000 (650) 493-9300 APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after this Registration Statement becomes effective. If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. [_] If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_] If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_] If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_] If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. [_] ---------------- THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- ++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++ +INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A + +REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE + +SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY + +OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT + +BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR + +THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE + +SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE + +UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF + +ANY STATE. + ++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++ SUBJECT TO COMPLETION, DATED JUNE 4, 1998 PROSPECTUS dated , 1998 6,250,000 Shares [LOGO OF INTERPLAY] Common Stock All of the 6,250,000 shares of Common Stock offered hereby (the "Offering") are being issued and sold by Interplay Entertainment Corp. ("Interplay" or the "Company"). A non-management stockholder of the Company (the "Selling Stockholder") has granted the Underwriters a 30-day option to purchase up to an additional 937,500 shares of Common Stock. The Company will not receive any proceeds from the sale of stock by the Selling Stockholder. Prior to the Offering, there has been no public market for the Common Stock of the Company. It is currently estimated that the initial public offering price of the Common Stock offered hereby will be between $8.00 and $10.00 per share. See "Underwriting" for a discussion of the factors to be considered in determining the initial public offering price. Application has been made for the quotation of the Company's Common Stock on the Nasdaq National Market under the symbol "IPLY," subject to official notice of issuance. SEE "RISK FACTORS" BEGINNING ON PAGE 5 FOR A DISCUSSION OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE INVESTORS. THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
================================================================================ PRICE TO UNDERWRITING PROCEEDS TO PUBLIC DISCOUNT(1) COMPANY(2) - ------------------------------------------------------------------------------- Per Share.............................. $ $ $ - ------------------------------------------------------------------------------- Total(3)............................... $ $ $ ================================================================================
(1) The Company and the Selling Stockholder have agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act of 1933, as amended. See "Underwriting." (2) Before deducting offering expenses payable by the Company estimated at $1,000,000. (3) The Selling Stockholder has granted the Underwriters a 30-day option to purchase up to an additional 937,500 shares of Common Stock solely to cover over-allotments, if any, at the Price to Public less the Underwriting Discount. If all such shares are purchased, the total Price to Public and Underwriting Discount will be $ and $ , respectively, and the Selling Stockholder will receive proceeds of $ . See "Underwriting." The shares of Common Stock are offered by the several Underwriters subject to prior sale, when, as and if delivered to and accepted by the Underwriters and subject to their right to reject orders in whole or in part. It is expected that delivery of the certificates representing shares of the Common Stock will be made at the offices of Piper Jaffray Inc. in Minneapolis, Minnesota on or about , 1998. Piper Jaffray inc. Bear, Stearns & Co. Inc. UBS Securities INTERPLAY PRODUCTIONS [ANIMATED DEPICTIONS OF CHARACTERS AND ARTWORK FROM THE COMPANY'S STAR TREK, REDNECK RAMPAGE, EARTHWORM JIM, CLAY FIGHTER AND VR SPORTS POWERBOAT RACING TITLES] CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK OF THE COMPANY, INCLUDING OVER-ALLOTMENT, STABILIZING AND SHORT-COVERING TRANSACTIONS IN SUCH SECURITIES, AND THE IMPOSITION OF A PENALTY BID, DURING AND AFTER THE OFFERING. FOR A DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITING." 2 BY GAMERS. [Title names interspersed with animated FOR GAMERS. product artwork and pictures of product packaging] STRATEGY -------- FLAT CAT ACTION M.A.X. - ------ TANTRUM CONQUEST OF THE NEW WORLD DESCENT CAESARS PALACE DESCENT II BRIDGE DELUXE II WITH OMAR SHARIF STAR TREK: STARFLEET ACADEMY BATTLE CHESS CARMAGEDDON USCF CHESS REDNECK RAMPAGE BEAT THE HOUSE CLAY FIGHTER 63 1/3 ROLE PLAYING ------------ BLACK ISLE STUDIOS FALLOUT STONEKEEP SHINY ----- EARTHWORM JIM MDK ADVENTURE --------- TRIBAL DREAMS OF LIGHT AND DARKNESS -- THE PROPHECY SPORTS ------ VR SPORTS VIRTUAL POOL VIRTUAL POOL 2 VR BASEBALL '97 VR SPORTS POWERBOAT RACING JIMMY JOHNSON'S VR FOOTBALL '98 [Wording interspersed with animated product artwork and pictures of product packaging] PROSPECTUS SUMMARY The following summary is qualified in its entirety by, and should be read in conjunction with, the more detailed information and Consolidated Financial Statements and Notes thereto (the "Consolidated Financial Statements") included elsewhere in this Prospectus. Except as otherwise noted, all information in this Prospectus, including financial information, share and per share data, assumes no exercise of the Underwriters' over-allotment option. See "Underwriting." Investors should carefully consider the information set forth under the heading "Risk Factors." THE COMPANY Interplay Entertainment Corp. ("Interplay" or the "Company") is a leading developer, publisher and distributor of interactive entertainment software for both core gamers and the mass market. The Company, which commenced operations in 1983, is most widely known for its titles in the action/arcade, adventure/role-playing game ("RPG"), strategy/puzzle and sports categories, and has published such hit titles as Descent, Fallout, Stonekeep, Battle Chess and Virtual Pool. The Company has produced titles for many of the most popular interactive entertainment software platforms, and currently balances its development efforts by publishing interactive entertainment software for personal computers ("PCs") and current generation video game consoles, such as the PlayStation(R) manufactured by Sony Computer Entertainment ("PlayStation") and Nintendo 64. Interplay was named Publisher of the Year in 1996 by Computer & Net Player magazine. The worldwide market for interactive entertainment software has grown significantly in recent years. According to the International Development Group ("IDG"), a market research firm, the worldwide market for interactive entertainment software generated sales of more than 220 million retail units in 1997 and is projected to generate more than 437 million retail units in 1999, representing a 41% compound annual growth rate. The interactive entertainment software market is composed primarily of software for PCs and current generation video game consoles. The Company seeks to publish interactive entertainment software titles that are, or have the potential to become, franchise titles that can be leveraged across several releases and/or platforms, and has published many such successful franchise titles to date. In addition, the Company secures licenses to use popular intellectual properties, such as Star Trek, Caesars Palace and Major League Baseball, for incorporation into certain of its products. Of the more than 40 titles currently in development by the Company, more than half are sequels to successful titles or incorporate licensed intellectual properties. In addition to developing products through its internal product development group of approximately 290 employees worldwide, the Company seeks to publish titles from leading third party interactive entertainment software developers. Through relationships with such developers, the Company believes that it is able to supplement its internally developed product line with products developed by talented third party developers while reducing its exposure to certain of the financial risks associated with internal product development. The Company believes that one of its core strengths is its developer-friendly management culture, which the Company believes provides it with a competitive advantage in forging strategic relationships with successful third party interactive entertainment software developers. The Company's internal software producers manage external product development efforts to ensure that externally developed titles satisfy the Company's product development standards. The Company also seeks to leverage its investments in existing gameplay technologies into new titles, while internally and externally developing new technologies which can be used in multiple future title releases. The Company has developed a worldwide sales and distribution capability. In North America, Interplay sells and distributes its products primarily through its direct sales force and, to a lesser extent, through third party distribution arrangements. In certain international markets, the Company has established direct sales and distribution capabilities, while in the majority of international markets the Company utilizes third party distribution arrangements. The Company's wholly owned subsidiary, Interplay OEM, Inc., distributes both Company-published and third party-published titles to computer hardware and peripheral device manufacturers for use in bundling arrangements. In addition, the Company sells its games directly through its web site and generates royalty-based revenues from use of its games by providers of on-line gameplay who distribute through popular on-line services, such as America Online. The Company was incorporated in the State of California in 1982, and conducts business under the trade name "Interplay Productions." The Company will be reincorporated in the State of Delaware prior to the effective date of the Offering. The principal executive offices of the Company are located at 16815 Von Karman Avenue, Irvine, California 92606, and its telephone number at that location is (949) 553-6655. 3 THE OFFERING Common Stock offered by the Company............ 6,250,000 shares Common Stock to be outstanding after the Offering............... 18,591,728 shares(1) Use of Proceeds......... For repayment of indebtedness and for working capital and other general corporate purposes. See "Use of Proceeds." Proposed Nasdaq National Market symbol.......... IPLY
SUMMARY CONSOLIDATED FINANCIAL DATA (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
EIGHT MONTHS THREE MONTHS YEAR ENDED APRIL 30, ENDED DECEMBER 31, ENDED MARCH 31, ----------------------------------------- ------------------- ---------------- 1993 1994 1995 1996 1997 1996 1997 1997 1998 ------- ------- ------- ------- -------- ----------- ------- ------- ------- (UNAUDITED) (UNAUDITED) STATEMENTS OF OPERATIONS DATA(2): Net revenues........... $25,355 $52,668 $79,546 $96,952 $ 83,262 $ 50,364 $85,961 $22,410 $40,996 Gross profit........... 11,981 21,445 34,055 47,013 20,782 14,639 41,097 8,902 21,775 Operating income (loss)................ 3,917 5,296 6,047 (417) (34,684) (22,302) (2,786) (6,850) 4,512 Net income (loss)...... 2,623 3,203 4,249 (744) (27,219) (17,469) (5,059) (5,443) 2,849 Net income (loss) per share(3): Basic.................. $ 0.32 $ 0.37 $ 0.40 $ (0.07) $ (2.46) $ (1.58) $ (0.45) $ (0.49) $ 0.26 Diluted................ $ 0.29 $ 0.32 $ 0.35 $ (0.07) $ (2.46) $ (1.58) $ (0.45) $ (0.49) $ 0.23
THREE MONTHS ENDED -------------------------------------------------- MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, 1997 1997 1997 1997 1998 --------- -------- --------- -------- --------- (UNAUDITED) QUARTERLY STATEMENTS OF OP- ERATIONS DATA: Net revenues.............. $ 22,410 $ 20,502 $ 23,833 $ 53,308 $ 40,996 Gross profit.............. 8,902 6,561 9,680 26,557 21,775 Operating income (loss)... (6,850) (9,327) (4,431) 8,045 4,512 Net income (loss)......... (5,443) (9,990) (5,481) 6,493 2,849
MARCH 31, 1998 ----------------------- ACTUAL AS ADJUSTED(4) -------- -------------- (UNAUDITED) BALANCE SHEET DATA: Working capital........................................ $ 17,442 $ 53,596 Total assets........................................... 78,327 98,020 Total long-term debt (including current portion)....... 38,680 205 Stockholders' equity................................... 1,669 61,643
- ------- (1) Based on shares outstanding at March 31, 1998. Includes 1,388,700 shares of Common Stock issuable upon the closing of the Offering upon the exercise of Common Stock Warrants by the cancellation of Subordinated Secured Promissory Notes at an exercise price of $6.30 per share (based on an assumed initial public offering price of $9.00 per share). Excludes (i) 2,053,206 shares of Common Stock issuable upon exercise of stock options outstanding at March 31, 1998, which had a weighted average exercise price of $4.80 per share, (ii) 1,680,541 shares of Common Stock reserved for issuance under the Company's 1997 Stock Incentive Plan and (iii) 200,000 shares of Common Stock reserved for issuance under the Company's Employee Stock Purchase Plan. See "Management--Employee Benefit Plans--Stock Incentive Plans," "Description of Capital Stock--Common Stock Warrants" and Notes 6 and 13 of Notes to Consolidated Financial Statements. (2) Effective May 1, 1997, the Company changed its fiscal year end from April 30 to December 31. (3) See Note 2 of Notes to Consolidated Financial Statements for an explanation of the number of shares used in computing net income per share. (4) As adjusted to reflect the sale by the Company of 6,250,000 shares of Common Stock offered hereby at an assumed initial public offering price of $9.00 per share and the application of the estimated net proceeds therefrom, and the exercise of Common Stock Warrants having an aggregate purchase price of $87,488 by the cancellation of Subordinated Secured Promissory Notes in the aggregate principal amount of $8,661,320. See "Use of Proceeds," "Description of Capital Stock--Common Stock Warrants" and Notes 6 and 13 of Notes to Consolidated Financial Statements. As used in this Prospectus, references to Interplay or the Company refer to Interplay Entertainment Corp., a Delaware corporation, its California predecessor, and its wholly and majority owned subsidiaries. Interplay(TM), Interplay Productions(R), the Interplay logo(R), By Gamers. For Gamers.(TM), and certain of the Company's product names and publishing labels referred to herein are trademarks of the Company. This Prospectus also includes trademarks of other companies. 4 RISK FACTORS An investment in the shares of Common Stock offered hereby involves a high degree of risk. In addition to the other information in this Prospectus, the following factors should be considered carefully in evaluating the Company and its business before purchasing shares of Common Stock offered by this Prospectus. This Prospectus contains, in addition to historical information, forward-looking statements that involve risks and uncertainties. The cautionary statements made in this Prospectus should be read as being applicable to all related forward-looking statements wherever they appear in this Prospectus. The Company's actual results may differ materially from the results discussed in the forward-looking statements. Factors that might cause such a difference include, but are not limited to, those discussed below, as well as those discussed elsewhere in this Prospectus. FLUCTUATIONS IN OPERATING RESULTS; UNCERTAINTY OF FUTURE RESULTS; SEASONALITY The Company's operating results have fluctuated significantly in the past and will likely fluctuate significantly in the future, both on a quarterly and an annual basis. A number of factors may cause or contribute to such fluctuations, and many of such factors are beyond the Company's control. Such factors include, but are not limited to, demand for the Company's and its competitors' products, the size and rate of growth of the market for interactive entertainment software, changes in computing platforms, the number of new products and product enhancements released by the Company and its competitors during the period, changes in product mix, product returns, the timing of orders placed by distributors and dealers, delays in shipment, the timing of development and marketing expenditures, price competition and the level of the Company's international and OEM, royalty and licensing net revenues. The uncertainties associated with the interactive entertainment software development process, lengthy manufacturing lead times for Nintendo- compatible products, possible production delays, and the approval process for products compatible with the Sony Computer Entertainment, Nintendo and Sega video game consoles, as well as approvals required from other licensors, make it difficult to accurately predict the quarter in which shipments will occur. Because of the limited number of products introduced by the Company in any particular quarter, a delay in the introduction of a product may materially adversely affect the Company's operating results for that quarter. A significant portion of the Company's operating expenses is relatively fixed, and planned expenditures are based primarily on sales forecasts. If net revenues do not meet the Company's expectations in any given quarter, operating results may be materially adversely affected. The interactive entertainment software industry is highly seasonal, with the highest levels of consumer demand occurring during the year-end holiday buying season, followed by demand during the first calendar quarter resulting both from demand for interactive entertainment software for PCs and video game consoles purchased during the holidays and from continuing demand for titles released in the preceding fourth calendar quarter. As a result, net revenues, gross profits and operating income for the Company have historically been highest during the fourth and the following first calendar quarters, and have declined from those levels in the subsequent second and third calendar quarters. The failure or inability of the Company to introduce products on a timely basis to meet such seasonal increases in demand may have a material adverse effect on the Company's business, operating results and financial condition. The Company may over time become increasingly affected by the industry's seasonal patterns. Although the Company seeks to reduce the effect of such seasonal patterns on its business by distributing its product release dates more evenly throughout the year, there can be no assurance that such efforts will be successful. There can be no assurance that the Company will be profitable in any particular period given the uncertainties associated with software development, manufacturing, distribution and the impact of the industry's seasonal patterns on the Company's net revenues. As a result of the foregoing factors and the other factors discussed in "Risk Factors," it is likely that the Company's operating results in one or more future periods will fail to meet or exceed the expectations of securities analysts or investors. In such event, the trading price of the Common Stock would likely be materially adversely affected. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." 5 RECENT LOSSES The Company has experienced significant losses in recent periods, including losses of $5.1 million and $27.2 million, respectively, in the eight months ended December 31, 1997 and in the Company's former fiscal year ended April 30, 1997. The losses resulted primarily from delays in the completion of certain products, which led the Company to release alternative titles developed by third parties which did not achieve broad market acceptance, and the sharp decline in the market for titles for the Macintosh and Sega Saturn platforms, both of which resulted in a high level of product returns and markdowns which reduced net revenues. Operating results for the year ended April 30, 1997, were also negatively affected by the Company's decision to write-off $5.9 million in prepayments to third party developers relating to titles or platform versions of titles which had been cancelled or which were expected to achieve lower unit sales than were originally forecast, an excessive reliance on development projects utilizing new technologies in the face of increasing development costs, slower than expected growth in sales in the Japanese market, and investments in new product lines in the sports and edutainment categories. There can be no assurance that the Company will not experience similar problems in current or future periods or that the Company will be able to generate sufficient net revenues to attain or sustain profitability in the future. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." DEPENDENCE ON NEW PRODUCT INTRODUCTIONS; RISK OF PRODUCT DELAYS AND PRODUCT DEFECTS The Company's products typically have short life cycles, and the Company depends on the timely introduction of successful new products, including enhancements of or sequels to existing products and conversions of previously released products to additional platforms, to generate net revenues to fund operations and to replace declining net revenues from older products. In the Company's former fiscal year ended April 30, 1997, the Company's results of operations were adversely affected by a number of factors, including delays in the completion of certain new products which led the Company to release alternative titles developed by third parties that did not achieve broad market acceptance. If in the future for any reason net revenues from new products were to fail to replace declining net revenues from existing products, the Company's business, operating results and financial condition could be materially adversely affected. The timing and success of new interactive entertainment software product releases remains unpredictable due to the complexity of product development, including the uncertainty associated with new technology. The development cycle of new products is difficult to predict but typically ranges from 12 to 24 months and another six to 12 months for the porting of a product to a different technology platform. In the past, the Company has repeatedly experienced significant delays in the introduction of certain new products, and the Company anticipates that it will experience delays in the introduction of new products, including certain products currently under development, in the future. Because net revenues associated with the initial shipments of a new product generally constitute a high percentage of the total net revenues associated with a product, any delay in the introduction of, or the presence of a defect in, one or more new products expected in a period could have a material adverse effect on the ultimate success of such products and on the Company's business, operating results and financial condition. The costs of developing and marketing new interactive entertainment software have increased in recent years due to such factors as the increasing complexity and content of interactive entertainment software, increasing sophistication of hardware technology and consumer tastes and increasing costs of obtaining licenses for intellectual properties, and the Company expects this trend to continue. There can be no assurance that new products will be introduced on schedule, if at all, or that, if introduced, they will achieve significant market acceptance or generate significant net revenues. In addition, software products as complex as those offered by the Company may contain undetected errors when first introduced or when new versions are released. There can be no assurance that, despite testing by the Company, errors will not be found in new products or releases after commencement of commercial shipments, resulting in loss of or delay in market acceptance, which could have a material adverse effect on the Company's business, operating results and financial condition. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." UNCERTAINTY OF MARKET ACCEPTANCE; DEPENDENCE ON HIT TITLES Consumer preferences for interactive entertainment software are continually changing and are extremely difficult to predict. Historically, few interactive entertainment software products have achieved sustained market acceptance. Rather, a limited number of releases have become "hits" and have accounted for a substantial 6 portion of revenues in the industry. Further, publishers with a history of producing hit titles have enjoyed a significant marketing advantage because of their heightened brand recognition and customer loyalty. The Company expects the importance of introducing hit titles to increase in the future. There can be no assurance that new products introduced by the Company will achieve significant market acceptance, that such acceptance, if achieved, will be sustainable for any significant period, or that product life cycles will be sufficient to permit the Company to recover development and other associated costs. Most of the Company's products have a relatively short life cycle and sell for a limited period of time after their initial release, usually less than one year. The Company believes that these trends will continue and that the Company's future revenue will continue to be dependent on the successful production of hit titles on a continuous basis. Because the Company introduces a relatively limited number of new products in a given period, the failure of one or more of such products to achieve market acceptance could have a material adverse effect on the Company's business, operating results and financial condition. Further, if market acceptance is not achieved, the Company could be forced to accept substantial product returns or grant significant markdown allowances to maintain its relationship with retailers and its access to distribution channels. In the event that the Company is forced to accept significant product returns or grant significant markdown allowances, its business, operating results and financial condition could be materially adversely affected. DEPENDENCE ON THIRD PARTY SOFTWARE DEVELOPERS The Company relies on third party interactive entertainment software developers for the development of a significant number of its interactive entertainment software products. As reputable and competent third party developers continue to be in high demand, there can be no assurance that third party software developers that have developed products for the Company in the past will continue to be available to develop products for the Company in the future. Many third party software developers have limited financial resources, which could expose the Company to the risk that such developers may go out of business prior to completing a project. In addition, due to the limited control that the Company exercises over third party software developers, there can be no assurance that such developers will complete products for the Company on a timely basis or within acceptable quality standards, if at all. Increased competition for skilled third party software developers has required the Company to enter into agreements with licensors of intellectual property and developers of games that involve advance payments by the Company of royalties and guaranteed minimum royalty payments, and the Company expects to continue to enter into such arrangements. If the sales volumes of products subject to such arrangements are not sufficient to recover such royalty advances and guarantees, the Company would be required to write-off unrecovered portions of such payments, which could have a material adverse effect on its business, operating results and financial condition. Further, there can be no assurance that third party developers will not demand renegotiation of their agreements with the Company. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business--Product Development." RAPIDLY CHANGING TECHNOLOGY; PLATFORM RISKS The interactive entertainment software industry is subject to rapid technological change. The introduction of new technologies, including operating systems such as Microsoft Windows 95, technologies that support multi-player games, new media formats such as on-line delivery and digital video disks ("DVDs") and as yet unreleased video game platforms could render the Company's current products or products in development obsolete or unmarketable. The Company must continually anticipate and assess the emergence of, and market acceptance of, new interactive entertainment software platforms well in advance of the time the platform is introduced to consumers. Because product development cycles are difficult to predict, the Company is required to make substantial product development and other investments in a particular platform well in advance of introduction of the platform. If the platforms for which the Company develops software are not released on a timely basis or do not attain significant market penetration, the Company's business, operating results and financial condition could be materially adversely affected. Alternatively, if the Company fails to develop products for a platform that does achieve significant market penetration, then the Company's business, operating results and financial condition could also be materially adversely affected. 7 The emergence of new interactive entertainment software platforms and technologies and the increased popularity of new products and technologies may materially and adversely affect the demand for products based on older technologies. In this regard, the Company's results of operations in its former fiscal year ended April 30, 1997 were adversely affected by a sharp decline in the market for titles for the Macintosh and Sega Saturn platforms, which declines resulted in a high level of product returns and markdown allowances. The broad range of competing and incompatible emerging technologies may lead consumers to postpone buying decisions with respect to products until one or more of such technologies gain widespread acceptance. Such postponement could have a material adverse effect on the Company's business, operating results and financial condition. The Company is currently actively developing products for the Microsoft Windows 95, PlayStation and Nintendo 64 platforms. The Company's success will depend in part on its ability to anticipate technological changes and to adapt its products to emerging game platforms. There can be no assurance that the Company will be able to anticipate future technological changes, to obtain licenses to develop products for those platforms on terms favorable to the Company or to create software for those new platforms, and any failure to do so could have a material adverse effect on the Company's business, operating results and financial condition. INDUSTRY COMPETITION; COMPETITION FOR SHELF SPACE The interactive entertainment software industry is intensely competitive and is characterized by the frequent introduction of new interactive entertainment software platforms and software products. The Company's competitors vary in size from small companies to very large corporations with significantly greater financial, marketing and product development resources than those of the Company. Due to these greater resources, certain of the Company's competitors are able to undertake more extensive marketing campaigns, adopt more aggressive pricing policies, pay higher fees to licensors of desirable motion picture, television, sports and character properties and pay more to third party software developers than the Company. The Company believes that the principal competitive factors in the interactive entertainment software industry include product features, brand name recognition, access to distribution channels, quality, ease of use, price, marketing support and quality of customer service. The Company competes primarily with other publishers of PC and video game console interactive entertainment software. Significant competitors include Electronic Arts, GT Interactive Software Corp., Cendant Corporation, Activision, Inc., Microsoft Corporation, LucasArts Entertainment Company, Midway Games Inc., Acclaim Entertainment Inc., Microprose (Spectrum Holobyte), Virgin Interactive Entertainment, Inc. and Hasbro Inc. In addition, integrated video game console hardware/software companies such as Sony Computer Entertainment, Nintendo and Sega compete directly with the Company in the development of software titles for their respective platforms. Large diversified entertainment companies, such as The Walt Disney Company, many of which own substantial libraries of available content and have substantially greater financial resources than the Company, may decide to compete directly with the Company or to enter into exclusive relationships with competitors of the Company. The Company also believes that the overall growth in the use of the Internet and on-line services by consumers may pose a competitive threat if customers and potential customers spend less of their available home PC time using interactive entertainment software and more on the Internet and on- line services. Retailers of the Company's products typically have a limited amount of shelf space and promotional resources, and there is intense competition among consumer software producers, and in particular interactive entertainment software products, for high quality retail shelf space and promotional support from retailers. To the extent that the number of consumer software products and computer platforms increases, competition for shelf space may intensify and may require the Company to increase its marketing expenditures. Due to increased competition for limited shelf space, retailers and distributors are in an increasingly better position to negotiate favorable terms of sale, including price discounts, price protection, marketing and display fees and product return policies. The Company's products constitute a relatively small percentage of any retailer's sales volume, and there can be no assurance that retailers will continue to purchase the Company's products or to provide the Company's products with adequate levels of shelf space and promotional support, and a prolonged failure in this regard may have a material adverse effect on the Company's business, operating results and financial condition. 8 DEPENDENCE UPON THIRD PARTY LICENSES Many of the Company's products, such as its Star Trek, Major League Baseball and Caesars Palace titles, are based on original ideas or intellectual properties licensed from third parties. There can be no assurance that the Company will be able to obtain new licenses, or renew existing licenses, on commercially reasonable terms, if at all. Should the Company be unable to obtain licenses for the underlying content that it believes offers the greatest consumer appeal, the Company would either have to seek alternative, potentially less appealing licenses, or release the products without the desired underlying content, either of which events could have a material adverse effect on the Company's business, operating results and financial condition. There can be no assurance that acquired properties will enhance the market acceptance of the Company's products based on such properties, that the Company's new product offerings will generate net revenues in excess of their costs of development and marketing or minimum royalty obligations, or that net revenues from new product sales will meet or exceed net revenues from existing product sales. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business--Products." DEPENDENCE ON DISTRIBUTION CHANNELS; RISK OF CUSTOMER BUSINESS FAILURES; PRODUCT RETURNS The Company currently sells its products directly through its own sales force to mass merchants, warehouse club stores, large computer and software specialty chains and through catalogs in the U.S. and Canada, as well as to certain distributors. Outside North America, the Company generally sells to third party distributors. The Company's sales are made primarily on a purchase order basis, without long-term agreements. The loss of, or significant reduction in sales to, any of the Company's principal retail customers or distributors could materially adversely affect the Company's business, operating results and financial condition. The distribution channels through which consumer software products are sold are characterized by continuous change, including consolidation, financial difficulties of certain distributors and retailers, and the emergence of new distributors and new retailers such as warehouse chains, mass merchants and computer superstores. As more consumers own PCs, the distribution channels for interactive entertainment software have changed and are expected to continue to change. Mass merchants have become the most important distribution channels for retail sales of interactive entertainment software. A number of these mass merchants, includingWal-Mart, have entered into exclusive buying arrangements with other software developers or distributors, which arrangements prevent the Company from selling certain of its products directly to that mass merchant. If the number of mass merchants entering into exclusive buying arrangements with software distributors other than the Company were to increase, the Company's ability to sell to such merchants would be restricted to selling through the exclusive distributor. Because sales to distributors typically have a lower gross margin than sales to retailers, this would have the effect of lowering the Company's gross margin. In addition, this trend could increase the Company's exposure to product returns and expose the Company to greater risks, any of which could have a material adverse impact on the Company's business, operating results and financial condition. In addition, emerging methods of distribution, such as the Internet and on-line services, may become important in the future, and it will be important for the Company to maintain access to these channels of distribution. There can be no assurance that the Company will maintain such access or that the Company's access will allow the Company to maintain its historical levels of sales volume. Distributors and retailers in the computer industry have from time to time experienced significant fluctuations in their businesses, and there have been a number of business failures among these entities. The insolvency or business failure of any significant distributor or retailer of the Company's products could have a material adverse effect on the Company's business, operating results and financial condition. Sales are typically made on unsecured credit, with terms that vary depending upon the customer and the nature of the product. Although the Company has obtained insolvency risk insurance to protect against any bankruptcy, insolvency or liquidation that may occur involving its customers, such insurance contains a significant deductible and a co-payment obligation, and the policy does not cover all instances of non- payment. In addition, while the Company maintains a reserve for uncollectable receivables, the actual reserve may not be sufficient in every circumstance. As a result, a payment default by a significant customer could have a material adverse effect on the Company's business, operating results and financial condition. 9 The Company is exposed to the risk of product returns and markdown allowances with respect to its distributors and retailers. The Company allows distributors and retailers to return defective, shelf-worn and damaged products in accordance with negotiated terms, and also offers a 90-day limited warranty to its end users that its products will be free from manufacturing defects. In addition, the Company provides markdown allowances to its customers to manage its customers' inventory levels in the distribution channel. Although the Company maintains a reserve for returns and markdown allowances, and although the Company's agreements with certain of its customers place certain limits on product returns and markdown allowances, the Company could be forced to accept substantial product returns and provide markdown allowances to maintain its relationships with retailers and its access to distribution channels. Product returns and markdown allowances that exceed the Company's reserves could have a material adverse effect on the Company's business, operating results and financial condition. In this regard, the Company's results of operations for the former fiscal year ended April 30, 1997 were adversely affected by a sharp decline in the market for titles for the Macintosh and Sega Saturn platforms, which resulted in a higher than expected level of product returns and markdown allowances and consequently reduced net revenues. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--General." DEPENDENCE ON LICENSES FROM AND MANUFACTURING BY HARDWARE COMPANIES The Company is required to obtain a license to develop and distribute software for each of the video game console platforms for which the Company develops products, including a separate license for each of North America, Japan and Europe. The Company has obtained licenses to develop software for the PlayStation in North America and Japan and is currently negotiating agreements covering additional territories. In addition, the Company has obtained a license to develop software for the Nintendo 64 in North America and is currently negotiating with Nintendo for licenses covering additional territories. There can be no assurance that the Company will be able to obtain licenses from hardware companies on acceptable terms or that any existing or future licenses will be renewed by the licensors. In addition, each of Sony Computer Entertainment, Nintendo and Sega have the right to approve the technical functionality and content of the Company's products for such platform prior to distribution. Due to the nature of the approval process, the Company must make significant product development expenditures on a particular product prior to the time it seeks such approvals. The inability of the Company to obtain such approvals could have a material adverse effect on the Company's business, operating results and financial condition. Hardware companies such as Sony Computer Entertainment, Nintendo and Sega may impose upon their licensees a restrictive selection and product approval process, such that licensees are restricted in the number of titles that will be approved for distribution on the particular platform. While the Company has prepared its future product release plans taking this competitive approval process into consideration, if the Company has incorrectly predicted the impact of this restrictive approval process, and as a result the Company fails to obtain approvals for all products in the Company's development plans, such failure could have a material adverse effect on the Company's business, operating results and financial condition. The Company depends upon Sony Computer Entertainment and Nintendo for the manufacture of the Company's products that are compatible with their respective video game consoles. As a result, Sony and Nintendo have the ability to raise prices for supplying such products at any time and effectively control the timing of the Company's release of new titles for those platforms. PlayStation products consist of CD- ROMs and are typically delivered by Sony Computer Entertainment within a relatively short lead time. Manufacturers of Nintendo and other video game cartridges typically deliver software to the Company within 45 to 60 days after receipt of a purchase order. If the Company experiences unanticipated delays in the delivery of video game console products from Sony Computer Entertainment or Nintendo, or if actual retailer and consumer demand for its interactive entertainment software differs from that forecast by the Company, its business, operating results and financial condition could be materially adversely affected. FUTURE CAPITAL REQUIREMENTS The Company expects that its capital requirements will increase significantly in the future. The Company did not generate cash flow from operations in the three months ended March 31, 1998, the eight months ended 10 December 31, 1997 and the former fiscal year ended April 30, 1997. There can be no assurance that the Company will ever generate cash flow from operations. The Company's ability to fund its capital requirements out of available cash, its bank line of credit and cash generated from operations will depend on numerous factors, including the progress of the Company's product development programs, the rate of growth of the Company's business, and the commercial success of the Company's products. The Company will likely be required to seek additional funds through debt or equity financing. The issuance of additional equity securities by the Company could result in substantial dilution to stockholders. If adequate funds are not available on acceptable terms, the Company would be required to delay or scale back its product development and marketing programs, which could have a material adverse effect on the Company's business, operating results and financial condition. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." DEPENDENCE ON KEY PERSONNEL The Company's success depends to a significant extent on the continued service of its key product design, development, sales, marketing and management personnel, and in particular on the leadership, strategic vision and industry reputation of its founder and Chief Executive Officer, Brian Fargo. The Company's future success will also depend upon the Company's ability to continue to attract, motivate and retain highly qualified employees and contractors, particularly key software design and development personnel. Competition for highly skilled employees is intense, and there can be no assurance that the Company will be successful in attracting and retaining such personnel. Specifically, the Company may experience increased costs in order to attract and retain skilled employees. The Company's failure to retain the services of Brian Fargo or its other key personnel or to attract and retain additional qualified employees could have a material adverse effect on the Company's business, operating results and financial condition. RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS; CURRENCY FLUCTUATIONS International net revenues accounted for 27.4%, 28.7%, 38.4% and 25.4% of the Company's total net revenues in the three months ended March 31, 1998, the eight months ended December 31, 1997 and the former fiscal years ended April 30, 1997 and 1996, respectively. The Company intends to continue to expand its direct and indirect sales, marketing and product localization activities worldwide. Such expansion will require significant management time and attention and financial resources in order to develop improved international sales and support channels. There can be no assurance, however, that the Company will be able to maintain or increase international market demand for its products. International sales and operations are subject to a number of inherent risks, including the impact of possible recessionary environments in economies outside the U.S., the time and financial costs associated with translating and localizing products for foreign markets, longer accounts receivable collection periods and greater difficulty in accounts receivable collection, unexpected changes in regulatory requirements, difficulties and costs of staffing and managing foreign operations, and political and economic instability. For example, the Company has recently experienced difficulties selling products in certain Asian countries as a result of economic instability in such countries, and there can be no assurance that such difficulties will not continue or occur in other countries in the future. There can be no assurance that the foregoing factors will not have a material adverse effect on the Company's future international net revenues and, consequently, on the Company's business, operating results and financial condition. The Company currently does not engage in currency hedging activities. Although exposure to currency fluctuations to date has been insignificant, there can be no assurance that fluctuations in currency exchange rates in the future will not have a material adverse effect on net revenues from international sales and licensing, and thus on the Company's business, operating results and financial condition. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." MANAGEMENT OF GROWTH The Company has recently undergone a period of rapid growth that has placed a significant strain on the Company's financial, management and other resources. The Company's ability to manage its growth effectively, 11 should it continue, will require it to continue to improve its operational, financial and management information systems and to attract, train, motivate, manage and retain key employees. If the Company's executives are unable to manage growth effectively, the Company's business, operating results and financial condition could be materially adversely affected. PROTECTION OF PROPRIETARY RIGHTS The Company regards its software as proprietary and relies primarily on a combination of copyright, trademark and trade secret laws, employee and third party nondisclosure agreements and other methods to protect its proprietary rights. The Company owns or licenses various copyrights and trademarks. While the Company provides "shrinkwrap" license agreements or limitations on use with its software, the enforceability of such agreements or limitations is uncertain. The Company is aware that unauthorized copying occurs within the computer software industry, and if a significantly greater amount of unauthorized copying of the Company's interactive entertainment software products were to occur, the Company's operating results could be materially adversely affected. While the Company does not copy protect its products, it does not provide source code to third parties unless they have signed nondisclosure agreements with respect thereto. The Company relies on existing copyright laws to prevent unauthorized distribution of its software. Existing copyright laws afford only limited protection. Policing unauthorized use of the Company's products is difficult, and software piracy can be expected to be a persistent problem, especially in certain international markets. Further, the laws of certain countries in which the Company's products are or may be distributed either do not protect the Company's products and intellectual property rights to the same extent as the laws of the U.S. or are weakly enforced. Legal protection of the Company's rights may be ineffective in such countries, and as the Company leverages its software products using emerging technologies, such as the Internet and on- line services, the ability of the Company to protect its intellectual property rights, and to avoid infringing the intellectual property rights of others, becomes more difficult. In addition, the intellectual property laws are less clear with respect to such emerging technologies. There can be no assurance that existing intellectual property laws will provide adequate protection to the Company's products in connection with such emerging technologies. As the number of interactive entertainment software products in the industry increases and the features and content of these products further overlap, software developers may increasingly become subject to infringement claims. Although the Company makes reasonable efforts to ensure that its products do not violate the intellectual property rights of others, there can be no assurance that claims of infringement will not be made. Any such claims, with or without merit, can be time consuming and expensive to defend. From time to time, the Company has received communication from third parties asserting that features or content of certain of its products may infringe upon the intellectual property rights of such parties. There can be no assurance that existing or future infringement claims against the Company will not result in costly litigation or require the Company to license the intellectual property rights of third parties, either of which could have a material adverse effect on the Company's business, operating results and financial condition. See "Business--Intellectual Property and Proprietary Rights." ENTERTAINMENT SOFTWARE RATING SYSTEM; GOVERNMENTAL RESTRICTIONS Legislation is periodically introduced at the state and federal levels in the U.S. and in foreign countries to establish a system for providing consumers with information about graphic violence and sexually explicit material contained in interactive entertainment software products. Such a system would include procedures with which interactive entertainment software publishers would be expected to comply by identifying particular products within defined rating categories and communicating such ratings to consumers through appropriate package labeling and through advertising and marketing presentations consistent with each product's rating. In addition, many foreign countries have laws which permit governmental entities to censor the content of certain works, including interactive entertainment software. In certain instances, the Company may be required to modify its products to comply with the requirements of such governmental entities, which could delay the release of those products in such countries. Such delays could have a material adverse effect on the Company's business, operating results and financial condition. While the Company currently voluntarily 12 submits its products to industry-created review boards and publishes their ratings on its game packaging, the Company believes that mandatory government- run interactive entertainment software products rating systems eventually will be adopted in many countries which represent significant markets or potential markets for the Company. Due to the uncertainties inherent in the implementation of such a rating system, confusion in the marketplace may occur, and the Company is unable to predict what effect, if any, such a rating system would have on the Company's business. In addition to such regulations, certain retailers have in the past declined to stock certain of the Company's products because they believed that the content of the packaging artwork or the products would be offensive to the retailer's customer base. While to date such actions have not had a material adverse effect on the Company's business, operating results or financial condition, there can be no assurance that similar actions by the Company's distributors or retailers in the future would not have a material adverse effect on the Company's business, operating results or financial condition. DEVELOPMENT OF INTERNET/ON-LINE SERVICES OR PRODUCTS The Company seeks to establish an on-line presence by creating and supporting sites on the Internet. The Company's future plans envision conducting and supporting on-line product offerings through these sites or others. The ability of the Company to successfully establish an on-line presence and to offer on-line products will depend on several factors that are outside the Company's control, including the emergence of a robust on-line industry and infrastructure and the development and implementation of technological advancements to the Internet to increase bandwidth and the speed of responsiveness to the point that will allow the Company to conduct and support on-line product offerings. Because global commerce and the exchange of information on the Internet and other similar open, wide area networks are relatively new and evolving, there can be no assurance that a viable commercial marketplace on the Internet will emerge from the developing industry infrastructure, that the appropriate complementary products for providing and carrying Internet traffic and commerce will be developed, that the Company will be able to create or develop a sustainable or profitable on- line presence or that the Company will be able to generate any significant revenue from on-line product offerings in the near future, or at all. If the Internet does not become a viable commercial marketplace, or if such development occurs but is insufficient to meet the Company's needs or if such development is delayed beyond the point when the Company plans to have established an on-line service, the Company's business, operating results and financial condition could be materially adversely affected. YEAR 2000 COMPLIANCE Many currently installed computer systems and software products are coded to accept only two digit entries in the date code field. These date code fields will need to accept four digit entries to distinguish 21st century dates from 20th century dates. As a result, in less than two years, computer systems and software used by many companies may need to be upgraded to comply with such Year 2000 requirements. The Company believes that its products, which are self-contained software programs that run independently of external chronology, will not be significantly affected by Year 2000 problems. The Company is currently in the process of investigating whether its internal accounting systems and other operational systems are Year 2000 compliant. The Company has been informed by the vendor of its internal accounting software that upgrades that will bring such software into Year 2000 compliance will be provided to the Company under its existing software maintenance agreement in the third quarter of 1998. The Company expects to effect the conversion of its internal accounting system to such upgraded software by the end of 1998. There can be no assurance that such upgrades will be provided on a timely basis or will be free of errors. In addition, there can be no assurance that certain of the Company's products or the Company's internal computer systems and networks or those of its key vendors, developers and distributors will not be adversely affected by Year 2000 issues, which could have a material adverse effect on the Company's business, operating results and financial condition. RISKS ASSOCIATED WITH ACQUISITIONS As part of its strategy to enhance distribution and product development capabilities, the Company intends to pursue acquisitions of complementary businesses, products and technologies. Some of these acquisitions could be 13 material in size and scope. While the Company will continue to search for appropriate acquisition opportunities, there can be no assurance that the Company will be successful in identifying suitable acquisition opportunities. If any potential acquisition opportunity is identified, there can be no assurance that the Company will consummate such acquisition, and if such acquisition does occur, there can be no assurance that it will be successful in enhancing the Company's business or will be accretive to the Company's earnings. As the interactive entertainment software industry continues to consolidate, the Company may face increased competition for acquisition opportunities, which may inhibit its ability to complete suitable transactions or increase the cost thereof. Future acquisitions could also divert substantial management time, could result in short term reductions in earnings or special transaction or other charges and may be difficult to integrate with existing operations or assets. The Company may, in the future, issue additional shares of Common Stock in connection with one or more acquisitions, which may dilute its stockholders, including investors in the Offering. Additionally, with respect to future acquisitions, the Company's stockholders may not have an opportunity to review the financial statements of the entity being acquired or to vote on such acquisitions. CONTROL BY DIRECTORS AND OFFICERS The Company's directors and officers and Universal Studios, Inc. ("Universal"), which currently has two representatives on the Company's Board of Directors, will, in the aggregate, beneficially own approximately 59.4% of the Company's outstanding Common Stock following the completion of the Offering, assuming that the Underwriters' over-allotment option is not exercised. These stockholders, if acting together, would be able to control substantially all matters requiring approval by the stockholders of the Company, including the election of directors (subject to the cumulative voting rights of the Company's stockholders) and the approval of mergers or other business combination transactions. Such concentration of ownership could discourage or prevent a change in control of the Company. See "Principal Stockholders." Certain directors, officers and other affiliates of the Company will receive a material benefit as a result of the Offering. See "Use of Proceeds." SHARES ELIGIBLE FOR FUTURE SALE Sales of Common Stock, including Common Stock issued upon the exercise of outstanding options, in the public market after the Offering could materially adversely affect the market price of the Common Stock. Such sales also might make it more difficult for the Company to sell equity or equity-related securities in the future at a time and price that the Company deems acceptable, or at all. Upon the completion of the Offering, the Company will have 18,591,728 shares of Common Stock outstanding. Of these shares, the 6,250,000 shares sold in the Offering (7,187,500 shares if the Underwriters' over-allotment option is exercised in full) will be freely tradable without restriction under the Securities Act of 1933, as amended (the "Securities Act"), unless purchased by "affiliates" of the Company, as that term is defined in Rule 144 under the Securities Act ("Rule 144"). The remaining 12,341,728 shares of Common Stock held by existing stockholders (11,404,228 shares if the Underwriters' over-allotment option is exercised in full) are "restricted securities," as that term is defined in Rule 144 and were issued and sold by the Company in reliance on exemptions from the registration requirements of the Securities Act. These restricted shares may be sold in the public market only if registered or pursuant to an exemption from registration, such as Rule 144. Holders of an aggregate of 12,340,528 shares of Common Stock following the Offering (11,043,028 shares if the Underwriters' over-allotment option is exercised in full) and holders of options to purchase an aggregate of 1,730,188 shares of Common Stock have agreed, pursuant to certain lock-up agreements with the Representatives that they will not offer, sell, contract to sell, grant any option to sell or otherwise dispose of, directly or indirectly, any shares of Common Stock owned by them or that could be purchased by them through the exercise of options to purchase Common Stock of the Company for a period of 180 days after the date of this Prospectus without prior written consent of Piper Jaffray Inc. Such lock-up agreements will not apply to the sale of Common Stock by the Selling Stockholder pursuant to the exercise of the Underwriters' over-allotment option. Upon expiration of the lock-up agreements, 10,974,249 shares held by existing stockholders (10,036,749 shares if the Underwriters' over-allotment option is exercised in full) will be eligible for sale subject to the volume and other restrictions of Rule 144, and 1,361,279 shares will be eligible for sale without restriction under Rule 144(k). As of the date hereof, 2,053,206 shares were subject to outstanding options to purchase 14 Common Stock, of which 1,730,188 shares are subject to the lock-up agreements described above. Following completion of the Offering, holders of 11,719,813 shares (10,782,313 shares if the Underwriters' over-allotment option is exercised in full) will be entitled to certain demand and piggyback registration rights upon termination of lock-up agreements. Any exercise of these registration rights could impair the Company's ability to raise capital through the sale of its equity securities and, if such registered shares are sold, could have a material adverse effect on the market price of the Common Stock. See "Description of Capital Stock--Registration Rights" and "Shares Eligible for Future Sale." BROAD DISCRETION OF MANAGEMENT TO ALLOCATE OFFERING PROCEEDS The Company expects to utilize the net proceeds from the Offering to repay certain amounts outstanding under its bank line of credit, to repay certain Subordinated Secured Promissory Notes, to repay certain amounts payable to certain affiliates of the Company, to expand its sales and marketing activities, to fund product development, and for working capital and general corporate purposes. The Company may use a portion of the net proceeds for acquisitions of complementary products, technologies or businesses. However, no commitments or agreements with respect to any acquisition currently exist. The Company currently is not able to estimate precisely the allocation of the proceeds among such uses, and the timing and amount of expenditures will vary depending upon numerous factors. The Company's management will have broad discretion to allocate the net proceeds of the Offering and to determine the timing of expenditures, and there can be no assurance that the net proceeds can or will be invested to yield a significant return. See "Use of Proceeds," "Certain Transactions--Transactions with Fargo and Universal" and "--Other Transactions." ANTI-TAKEOVER EFFECTS; DELAWARE LAW AND CERTAIN CHARTER AND BYLAW PROVISIONS; PREFERRED STOCK The Company's Certificate of Incorporation and Bylaws, as well as Delaware corporate law, contain certain provisions that could have the effect of delaying, deferring or preventing a change in control of the Company and could materially adversely affect the prevailing market price of the Common Stock. Certain of such provisions impose various procedural and other requirements that could make it more difficult for stockholders to effect certain corporate actions. See "Description of Capital Stock." DILUTION The initial public offering price is substantially higher than the net tangible book value per share of Common Stock. Investors purchasing shares of Common Stock in the Offering will incur immediate and substantial net tangible book value dilution of $5.79 per share, assuming an initial public offering price of $9.00 per share. To the extent that options to purchase the Company's Common Stock are exercised, there will be further dilution. In addition, the Company may issue additional shares in connection with compensation of employees, acquisitions of complementary products, technologies or businesses or strategic relationships. To the extent that such pool is increased or additional shares are issued, there will be additional dilution. See "Dilution," "Capitalization" and "Description of Capital Stock." 15 USE OF PROCEEDS The net proceeds to the Company from the sale of the 6,250,000 shares of Common Stock offered by the Company hereby are estimated to be approximately $51,312,500 at an assumed initial public offering price of $9.00 per share and after deducting the estimated underwriting discount and offering expenses. If the Underwriters' over-allotment option is exercised, the Company will not receive any proceeds from the sale of Common Stock by the Selling Stockholder. The Company expects to use approximately $25.4 million of the net proceeds to repay amounts outstanding under the Company's current bank line of credit, which terminates in May 1999 and which bears interest at a rate per annum equal to the London Interbank Offered Rate plus 4.87% (10.56% at March 31, 1998). In addition, the Company expects to use approximately $6.3 million of the net proceeds to repay Subordinated Secured Promissory Notes, which bear interest at the rate of 12% per annum and are payable upon the closing of the Offering, and accrued interest thereon. See "Description of Capital Stock-- Common Stock Warrants." The Company expects to use approximately $1.5 million of the net proceeds to pay certain amounts due to Universal Interactive Studios under the terms of an existing distribution agreement. See "Certain Transactions." The Company expects to use the remainder of the net proceeds of the Offering for working capital and general corporate purposes, including increasing the Company's product development and sales and marketing activities. From time to time, the Company reviews possible strategic acquisitions of businesses, products or technologies complementary to those of the Company, and a portion of the net proceeds may also be used for such acquisitions. The Company is not currently a party to any commitments or agreements with respect to any acquisitions. Pending such uses, the Company intends to invest the net proceeds of the Offering in short-term, interest bearing, investment-grade securities. DIVIDEND POLICY The Company anticipates that all future earnings will be retained to finance future growth, and the Company does not anticipate paying any dividends on its Common Stock in the foreseeable future. The Company's bank line of credit agreement currently restricts the Company from paying cash dividends without the prior written consent of the bank. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." 16 DILUTION The net tangible book value (deficit) of the Company as of March 31, 1998 was $(328,000) or $(0.03) per share. "Net tangible book value (deficit) per share" is determined by dividing the number of shares of Common Stock outstanding into the net tangible book value of the Company (tangible assets less liabilities). After giving effect to the Offering and use of net proceeds described herein, and the exercise of certain Common Stock Warrants by the cancellation of certain Subordinated Secured Promissory Notes, the pro forma net tangible book value of the Company at March 31, 1998 would have been approximately $59,646,000 or $3.21 per share based on an assumed initial public offering price of $9.00 per share. This represents an immediate increase in the net tangible book value of approximately $3.24 to present stockholders and an immediate dilution of $5.79 per share to new investors purchasing shares of Common Stock at the assumed initial public offering price. The following table sets forth this per share dilution: Initial public offering price per share: $9.00 Net tangible book value (deficit) before the Offering...... $(0.03) Increase resulting from the Offering....................... 3.24 ------ Pro forma net tangible book value per share after the Offer- ing......................................................... 3.21 ----- Dilution per share to new investors.......................... $5.79 =====
The following table summarizes the difference between existing stockholders and new investors with respect to the number of shares of Common Stock purchased from the Company, the total cash consideration paid and the average price paid per share (before deducting the estimated underwriting discount and offering expenses):
SHARES OF COMMON AVERAGE STOCK PURCHASED TOTAL CONSIDERATION PRICE ------------------ ------------------- PER NUMBER PERCENT AMOUNT PERCENT SHARE ---------- ------- ----------- ------- ------- Existing Stockholders(1)........ 12,341,728 66.4% $24,393,000 30.2% $1.98 New Investors................... 6,250,000 33.6 56,250,000 69.8 9.00 ---------- ----- ----------- ----- Total......................... 18,591,728 100.0% $80,643,000 100.0% ========== ===== =========== =====
- -------- (1) Based on shares outstanding at March 31, 1998. Includes 1,388,700 shares of Common Stock issuable upon the closing of the Offering upon the exercise of Common Stock Warrants by the cancellation of Subordinated Secured Promissory Notes at an exercise price of $6.30 per share (based on an assumed initial public offering price of $9.00 per share). Excludes (i) 2,053,206 shares of Common Stock issuable upon exercise of stock options outstanding at March 31, 1998, which had a weighted average exercise price of $4.80 per share, (ii) 1,680,541 shares reserved for issuance pursuant to future option grants under the Company's 1997 Stock Incentive Plan and (iii) 200,000 shares of Common Stock reserved for issuance under the Company's Employee Stock Purchase Plan. See "Management--Employee Benefit Plans--Stock Incentive Plans," "Description of Capital Stock--Common Stock Warrants" and Notes 6 and 13 of Notes to Consolidated Financial Statements. 17 CAPITALIZATION The following table sets forth the capitalization of the Company as of March 31, 1998, and as adjusted to give effect to (i) the sale of 6,250,000 shares of Common Stock offered by the Company hereby at an assumed initial public offering price of $9.00 per share and the application of the net proceeds after deducting the estimated underwriting discount and offering expenses payable by the Company, and (ii) the issuance of 1,388,700 shares of Common Stock upon the closing of the Offering upon the exercise of Common Stock Warrants at an exercise price of $6.30 per share by the cancellation of Subordinated Secured Promissory Notes. This table should be read in conjunction with "Use of Proceeds," "Selected Consolidated Financial Information" and the Consolidated Financial Statements included elsewhere in this Prospectus.
MARCH 31, 1998 --------------------- ACTUAL AS ADJUSTED -------- ----------- (IN THOUSANDS) Current Portion of Long-Term Debt......................... $ 14,825 $ 170 ======== ======== Accrued Expenses.......................................... $ 22,231 $ 20,425 ======== ======== Long-Term Debt: Bank line of credit..................................... $ 23,820 $ -- Other long-term debt.................................... 35 35 -------- -------- Total long-term debt, net of current portion.......... 23,855 35 -------- -------- Stockholders' Equity: Preferred Stock, $.001 par value, 5,000,000 shares authorized; no shares issued and outstanding, actual and as adjusted........................................ -- -- Common Stock, $.001 par value, 50,000,000 shares autho- rized; 10,953,028 and 18,591,728 shares issued and out- standing, actual and as adjusted(1).................... 11 19 Paid-in capital......................................... 18,494 78,460 Accumulated deficit..................................... (17,028) (17,028) Cumulative translation adjustment....................... 192 192 -------- -------- Total stockholders' equity.............................. 1,669 61,643 -------- -------- Total capitalization (including long-term debt)......... $ 25,524 $ 61,678 ======== ========
- -------- (1) Based on shares outstanding at March 31, 1998. Includes 1,388,700 shares of Common Stock issuable upon the closing of the Offering upon the exercise of Common Stock Warrants by the cancellation of Subordinated Secured Promissory Notes at an exercise price of $6.30 per share (based on an assumed initial public offering price of $9.00 per share). Excludes (i) 2,053,206 shares of Common Stock issuable upon exercise of stock options outstanding at such date, which had a weighted average exercise price of $4.80 per share, (ii) 1,680,541 shares reserved for issuance pursuant to future option grants under the Company's 1997 Stock Incentive Plan and (iii) 200,000 shares of Common Stock reserved for issuance under the Company's Employee Stock Purchase Plan. See "Management--Employee Benefit Plans--Stock Incentive Plans" and "Description of Capital Stock--Common Stock Warrants" and Notes 6 and 13 of Notes to Consolidated Financial Statements. 18 SELECTED CONSOLIDATED FINANCIAL DATA (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) The selected consolidated statements of operations data for the former fiscal years ended April 30, 1995, 1996 and 1997 and the eight months ended December 31, 1997, and the selected consolidated balance sheets data as of April 30, 1996 and 1997 and as of December 31, 1997 are derived from the Company's audited consolidated financial statements included elsewhere in this Prospectus. The selected consolidated statements of operations data for the three months ended March 31, 1998 and 1997 and the consolidated balance sheets data as of March 31, 1998 are unaudited and are derived from the Company's consolidated financial statements included elsewhere in this Prospectus. The selected consolidated statements of operations data for the years ended April 30, 1993 and 1994, and the selected consolidated balance sheets data as of April 30, 1993, 1994, and 1995 are derived from the Company's audited consolidated financial statements not included in this Prospectus. The selected consolidated statements of operations data for the eight months ended December 31, 1996 is derived from the Company's unaudited consolidated financial statements. The unaudited pro forma income (loss) per share is derived from the unaudited pro forma data included elsewhere in this Prospectus. The Company's historical results are not necessarily indicative of the results that may be achieved for any other period. The following data should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements included elsewhere in this Prospectus.
EIGHT MONTHS ENDED THREE MONTHS ENDED YEAR ENDED APRIL 30, DECEMBER 31, MARCH 31, ----------------------------------------- -------------------- -------------------- 1993 1994 1995 1996 1997 1996 1997 1997 1998 ------- ------- ------- ------- -------- --------- --------- --------- --------- STATEMENTS OF OPERATIONS DATA(1): Net revenues............ $25,355 $52,668 $79,546 $96,952 $ 83,262 $ 50,364 $ 85,961 $ 22,410 $ 40,996 Cost of goods sold...... 13,374 31,223 45,491 49,939 62,480 35,725 44,864 13,508 19,221 ------- ------- ------- ------- -------- --------- -------- --------- --------- Gross profit............ 11,981 21,445 34,055 47,013 20,782 14,639 41,097 8,902 21,775 ------- ------- ------- ------- -------- --------- -------- --------- --------- Operating expenses: Marketing and sales.... 4,421 7,698 14,280 23,285 24,627 15,747 20,603 7,280 8,589 General and administra- tive.................. 1,589 4,805 5,528 9,025 9,408 8,730 8,989 3,088 2,855 Product development.... 2,054 3,646 8,200 15,120 21,431 12,464 14,291 5,384 5,819 ------- ------- ------- ------- -------- --------- -------- --------- --------- Total operating ex- penses................ 8,064 16,149 28,008 47,430 55,466 36,941 43,883 15,752 17,263 ------- ------- ------- ------- -------- --------- -------- --------- --------- Operating income (loss)................. 3,917 5,296 6,047 (417) (34,684) (22,302) (2,786) (6,850) 4,512 Other income (expense).. 112 68 1,046 (807) (1,600) (1,085) (2,273) (375) (1,418) ------- ------- ------- ------- -------- --------- -------- --------- --------- Income (loss) before in- come taxes............. 4,029 5,364 7,093 (1,224) (36,284) (23,387) (5,059) (7,225) 3,094 Provision (benefit) for income taxes........... 1,406 2,161 2,844 (480) (9,065) (5,918) -- (1,782) 245 ------- ------- ------- ------- -------- --------- -------- --------- --------- Net income (loss)....... $ 2,623 $ 3,203 $ 4,249 $ (744) $(27,219) $ (17,469) $ (5,059) $ (5,443) $ 2,849 ======= ======= ======= ======= ======== ========= ======== ========= ========= Net income (loss) per share(2): Basic.................. $ 0.32 $ 0.37 $ 0.40 $ (0.07) $ (2.46) $ (1.58) $ (0.45) $ (0.49) $ 0.26 ======= ======= ======= ======= ======== ========= ======== ========= ========= Diluted................ $ 0.29 $ 0.32 $ 0.35 $ (0.07) $ (2.46) $ (1.58) $ (0.45) $ (0.49) $ 0.23 ======= ======= ======= ======= ======== ========= ======== ========= ========= Pro forma (unaudited).. $ (1.78) $ (0.17) $ 0.25 ======== ======== ========= SELECTED OPERATING DATA: Net revenues by segment: North America.......... $19,436 $40,094 $51,892 $54,702 $ 38,606 $ 27,735 $ 51,833 $ 9,562 $ 23,516 International.......... 2,919 2,227 13,829 24,579 32,006 13,955 24,642 10,333 11,223 OEM, royalty and li- censing............... 3,000 10,347 13,825 17,671 12,650 8,674 9,486 2,515 6,257 Net revenues by plat- form: Personal computer...... $14,978 $20,314 $36,804 $60,254 $ 45,192 $ 25,639 $ 42,520 $ 14,623 $ 21,191 Video game console..... 7,377 22,007 28,917 19,027 25,420 16,051 33,955 5,272 13,548 APRIL 30, ----------------------------------------- DECEMBER 31, MARCH 31, 1993 1994 1995 1996 1997 1997 1998 ------- ------- ------- ------- -------- -------------------- -------------------- BALANCE SHEETS DATA: Working capital......... $ 5,546 $22,775 $25,227 $18,485 $ 7,890 $13,616 $17,442 Total assets............ 10,073 35,450 44,226 68,511 69,005 77,821 78,327 Total long-term debt (including current portion)............... 469 384 262 108 14,970 38,154 38,680 Stockholders' equity (deficit).............. 5,953 25,053 30,069 30,195 3,401 (1,267) 1,669
- -------- (1) Effective May 1, 1997, the Company changed its fiscal year end from April 30 to December 31. (2) See Note 2 of Notes to Consolidated Financial Statements for an explanation of the number of shares used in computing net income (loss) per share. 19 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL The Company commenced operations in 1983, and operated as an independent development studio until 1988, creating interactive entertainment software games for publishers such as Electronic Arts and Activision. In 1988, the Company began publishing software through an affiliate label relationship with Activision, pursuant to which Activision distributed the Company's software in North America. The Company began publishing and distributing its own interactive entertainment software for both PCs and video game consoles in 1992 and has continued to build its publishing and distribution infrastructure since that date. In addition to developing products through its internal product development group, the Company publishes titles developed by third party interactive entertainment software developers. The Company derives net revenues primarily from direct sales of interactive entertainment software for PCs and video game consoles to retailers and mass merchants, from indirect sales to software distributors in North America and internationally, from the distribution by the Company on an affiliate label basis of titles published by third parties, and from direct sales to end-users through the Company's catalogs and the Internet. The Company also derives royalty-based revenues from licensing arrangements, from the sale of products by third party distributors in international markets, and from OEM bundling transactions. The Company recognizes net revenues from the sale of its products upon shipment. Subject to certain limitations, the Company permits customers to obtain exchanges within certain specified periods and provides price protection on certain unsold merchandise. Net revenues from product sales are reflected after deducting an allowance for returns and price protection. With respect to license agreements which provide customers the right to multiple copies in exchange for guaranteed amounts, net revenues are recognized upon delivery of the product master or the first copy. Per copy royalties on sales which exceed the guarantee are recognized as earned. In order to expand the Company's distribution channels and engage in software development in overseas markets, in 1995 the Company established operations in the United Kingdom and in Japan. In July 1997, the Company initiated a licensing strategy in Japan and terminated its operations there. International net revenues accounted for approximately 27.4%, 28.7%, 38.4% and 25.4% of the Company's net revenues during the three months ended March 31, 1998, the eight months ended December 31, 1997 and the former fiscal years ended April 30, 1997 and April 30, 1996, respectively. In January 1997, the Company formed a wholly owned subsidiary, Interplay OEM, Inc. ("Interplay OEM"), which had previously operated as a division of the Company. Interplay OEM distributes the Company's interactive entertainment software titles, as well as those of other software publishers, to computer hardware and peripheral device manufacturers for use in bundling arrangements. The Company also derives net revenues from the licensing of certain of its intellectual properties and certain of its products to third parties for distribution in markets and through channels which are outside the Company's primary focus. OEM, royalty and licensing net revenues accounted for 15.2%, 11.0% and 15.2% of the Company's total net revenues for the three months ended March 31, 1998, the eight months ended December 31, 1997 and the former fiscal year ended April 30, 1997, respectively. OEM, royalty and licensing net revenues generally are incremental net revenues and do not have significant additional product development or sales and marketing costs, and accordingly have a more significant impact on the Company's operating results. The Company expects that OEM, royalty and licensing net revenues may decline, both in dollars and as a percentage of net revenues, as a larger proportion of OEM, royalty and licensing net revenues are generated from royalty-based licensing transactions, as opposed to the shipment of finished goods, and as the OEM channel of distribution becomes more competitive. Cost of goods sold related to PC and video game console net revenues represents the manufacturing and related costs of interactive entertainment software products, including costs of media, manuals, duplication, packaging materials, assembly, freight and royalties paid to developers, licensors and hardware manufacturers. Cost of goods sold related to royalty-based net revenues primarily represents third party licensing fees and royalties paid by the Company. Typically, cost of goods sold as a percentage of net revenues for video game console products 20 and affiliate label products are higher than cost of goods sold as a percentage of net revenues for PC based products due to the relatively higher manufacturing and royalty costs associated with these products. Also included in the cost of goods sold is the amortization of prepaid royalty and license fees paid to third party software developers. Prepaid royalties are expensed over a period of six months from initial shipment. The Company evaluates the likelihood of future realization of prepaid royalties quarterly, on a product by product basis, and charges cost of goods sold for any amounts that it deems unlikely to be realized through future product sales. The Company's net loss for the former fiscal year ended April 30, 1997 increased to $27.2 million from $0.7 million in the comparable 1996 period. The Company's results of operations for the former fiscal year ended April 30, 1997 were adversely affected by a number of factors, including delays in the completion of certain products, which led the Company to release alternative titles developed by third parties which did not achieve broad market acceptance, and a sharp decline in the market for titles for the Macintosh and Sega Saturn platforms, both of which resulted in a higher than expected level of product returns and markdown allowances. The Company increased its reserves by approximately $5.4 million during fiscal 1997 in response to these increased returns and markdown allowances. According to PC Data, a market research firm, from 1996 to 1997, the U.S. market for Macintosh titles declined approximately 66% and Sega Saturn's share of the U.S. market for interactive entertainment software declined from 14.9% to 9.3% during such period, according to The TRST Report, published by NPD Group, a market research firm. Operating results for the period were also negatively affected by (i) the Company's decision to write-off $5.9 million in prepayments to third party developers relating to titles or platform versions of titles which had been cancelled or which were expected to achieve lower unit sales than were originally forecast, (ii) an excessive reliance on development projects utilizing new technologies in the face of increasing development costs (total development costs were $21.4 million in fiscal 1997 as compared with $15.1 million in fiscal 1996) , (iii) slower than expected growth in sales in the Japanese market, and (iv) investments in new product lines in the sports and edutainment categories. The Company has taken a number of steps to address these issues, both strategically and operationally. During the second half of 1997, the Company restructured its internal development organization into five divisions, each of which is dedicated to the production and development of products for a particular product category. The Company believes that this divisional approach will enable the Company to better manage its internal and external development processes and to obtain greater efficiency and predictability in its product development process. The Company is also in the process of restructuring its product development pipeline such that a significant number of the products under development will be utilizing existing core technologies or other game content in order to reduce the development costs and development time for such products. In addition, in July 1997 the Company closed its Japanese office, and initiated a licensing strategy in Japan in order to avoid the high costs of conducting operations there. The Company also discontinued and absorbed the cost of approximately 20 Macintosh and Sega Saturn development projects, and, due to lower than expected sales growth and intense competition in the edutainment product category, the Company suspended its product development plans for its edutainment product line. In March 1998, the Company granted a third party exclusive distribution rights for certain titles in such product line. Effective May 1, 1997, the Company changed its fiscal year end from April 30 to December 31. Accordingly, the discussion of financial results set forth below compares the three months ended March 31, 1997 to the comparable 1996 period, the eight months ending December 31, 1997 to the comparable 1996 period, and compares the Company's previous fiscal years ended April 30, 1997, 1996 and 1995. The Company's operating results have fluctuated significantly in the past and will likely fluctuate significantly in the future, both on a quarterly and an annual basis. A number of factors may cause or contribute to such fluctuations, and many of such factors are beyond the Company's control. There can be no assurance that the Company will be profitable in any particular period. It is likely that the Company's operating results in one or more future periods will fail to meet or exceed the expectations of securities analysts or investors. See "Risk Factors--Fluctuations in Operating Results; Uncertainty of Future Results; Seasonality." 21 RESULTS OF OPERATIONS The following table sets forth certain consolidated statements of operations data and segment and platform data for the periods indicated expressed as a percentage of net revenues:
EIGHT MONTHS ENDED THREE MONTHS ENDED YEAR ENDED APRIL 30, DECEMBER 31, MARCH 31, ----------------------- --------------------- --------------------- 1995 1996 1997 1996 1997 1997 1998 ------ ------ ------ --------- --------- --------- --------- STATEMENTS OF OPERATIONS DATA: Net revenues............ 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of goods sold...... 57.2 51.5 75.0 70.9 52.2 60.3 46.9 ------ ------ ------ --------- --------- --------- --------- Gross profit........ 42.8 48.5 25.0 29.1 47.8 39.7 53.1 ------ ------ ------ --------- --------- --------- --------- Operating expenses: Marketing and sales... 18.0 24.0 29.6 31.3 24.0 32.5 21.0 General and adminis- trative.............. 6.9 9.3 11.3 17.3 10.5 13.8 7.0 Product development... 10.3 15.6 25.7 24.8 16.6 24.0 14.2 ------ ------ ------ --------- --------- --------- --------- Total operating ex- penses............. 35.2 48.9 66.6 73.4 51.1 70.3 42.2 ------ ------ ------ --------- --------- --------- --------- Operating income (loss)................. 7.6 (0.4) (41.6) (44.3) (3.3) (30.6) 10.9 Other income (expense).. 1.3 (0.9) (1.9) (2.2) (2.6) (1.7) (3.4) ------ ------ ------ --------- --------- --------- --------- Income (loss) before in- come taxes............. 8.9 (1.3) (43.5) (46.5) (5.9) (32.3) 7.5 Provision (benefit) for income taxes........... 3.6 (0.5) (10.9) (11.8) -- (8.0) 0.6 ------ ------ ------ --------- --------- --------- --------- Net income (loss)... 5.3% (0.8)% (32.6)% (34.7)% (5.9)% (24.3)% 6.9% ====== ====== ====== ========= ========= ========= ========= SELECTED OPERATING DATA: Net revenues by segment: North America......... 65.2% 56.4% 46.4% 55.1% 60.3% 42.7% 57.4% International......... 17.4 25.4 38.4 27.7 28.7 46.1 27.4 OEM, royalty and li- censing.............. 17.4 18.2 15.2 17.2 11.0 11.2 15.2 ------ ------ ------ --------- --------- --------- --------- 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% ====== ====== ====== ========= ========= ========= ========= Net revenues by plat- form: Personal computer..... 46.3% 62.2% 54.3% 50.9% 49.5% 65.3% 51.7% Video game console.... 36.3 19.6 30.5 31.9 39.5 23.5 33.1 OEM, royalty and li- censing.............. 17.4 18.2 15.2 17.2 11.0 11.2 15.2 ------ ------ ------ --------- --------- --------- --------- 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% ====== ====== ====== ========= ========= ========= =========
THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THE THREE MONTHS ENDED MARCH 31, 1997 Net Revenues Net revenues for the three months ended March 31, 1998 increased 82.9% to $41.0 million from $22.4 million in the comparable 1997 period. North American net revenues increased to $23.5 million from $9.6 million in the 1997 period, and international net revenues increased to $11.2 million from $10.3 million in the 1997 period. The increase in net revenues in the 1998 period was primarily due to increased title releases and unit sales volumes, including significant new title releases, such as VR Sports Powerboat Racing and Die By The Sword and a higher than expected level of product returns and markdowns recorded during the 1997 period. OEM, royalty and licensing net revenues increased to $6.3 million, or 15.2% of net revenues, in the 1998 period from $2.5 million, or 11.2% of net revenues, in the 1997 period, primarily attributable to increased OEM bundling transactions and licensing revenues on edutainment products. The Company expects that OEM, royalty and licensing revenues may decline, both in dollars and as a percentage of net revenues, on a comparative quarterly basis during the remainder of 1998 as a larger proportion of OEM, royalty and licensing net revenues are generated from royalty-based licensing transactions, as opposed to the shipment of finished goods, and as such distribution channels become more competitive. 22 Cost of Goods Sold; Gross Margin Cost of goods sold increased 42.3% in the three months ended March 31, 1998 to $19.2 million, or 46.9% of net revenues, from $13.5 million, or 60.3% of net revenues in the comparable 1997 period. Gross margin increased to 53.1% of net revenues from 39.7% of net revenues in the 1997 period. The increase in gross margin was primarily attributable to lower costs of PC product sales offset in part by greater manufacturing costs attributable to an increased number of video game console products sold during the 1998 period. The improvement in gross margin was also attributable to changes in the product mix of internally and externally developed products, reductions in costs of increased affiliate product revenues and increased OEM, royalty and licensing net revenues. The 1997 period also included the effects of additional write- offs of prepaid royalties relating to titles or platform versions of titles which had been cancelled or which were expected to achieve lower unit sales than were originally anticipated. Operating Expenses Total operating expenses increased 9.6% to $17.3 million, or 42.2% of net revenues, in the three months ended March 31, 1998 from $15.8 million, or 70.3% of net revenues, for the comparable 1997 period. Marketing and Sales. Marketing and sales expenses primarily include advertising and retail marketing support, sales commissions, marketing and sales personnel, customer support services, fulfillment and other costs. Marketing and sales expenses increased 18.0% to $8.6 million, or 21.0% of net revenues, for the three months ended March 31, 1998 from $7.3 million, or 32.5% of net revenues for the comparable 1997 period. The increase in absolute dollars was primarily attributable to increased advertising and other marketing costs associated with the increase in titles launched and products sold during the 1998 period. The decrease as a percentage of net revenues was primarily attributable to operating efficiencies achieved as a result of the increased net revenues base. The Company expects that marketing and sales expense in future periods may increase both in absolute dollars and as a percentage of net revenues from the levels experienced in the three months ended March 31, 1998 as the Company increases its marketing and sales operations. General and Administrative. General and administrative expenses primarily include administrative personnel expenses, facilities costs, professional expenses and other overhead charges. General and administrative expenses decreased 7.5% to $2.9 million, or 7.0% of net revenues, in the three months ended March 31, 1998 from $3.1 million, or 13.8% of net revenues in the comparable 1997 period. The decrease in absolute dollars was primarily attributable to lower overhead costs offset in part by increased personnel and operations costs and facilities charges in North America and Europe in support of increased net revenues. The decrease as a percentage of net revenues was primarily attributable to operating efficiencies gained as a result of an increased net revenue base. The Company expects that in future periods general and administrative expenses will increase in absolute dollars, but may vary as a percentage of net revenues. Product Development. Product development expenses, which primarily include personnel and support costs, are charged to operations in the period incurred. Product development expenses increased 8.1% to $5.8 million, or 14.2% of net revenues, in the three month period ended March 31, 1998 from $5.4 million or 24.0% of net revenues in the comparable 1997 period. The increase in absolute dollars was primarily due to the increase in the number of products under development, offset in part by cost efficiencies achieved as a result of the reorganization of the development process. The decrease as a percentage of net revenues primarily reflected cost savings and operating efficiencies gained as a result of increased net revenues. The Company expects that in future periods product development expenses will increase in absolute dollars, but may vary as a percentage of net revenues. Other Income (Expense) Other income (expense) primarily includes interest expense on the Company's bank line of credit and Subordinated Secured Promissory Notes. Other expense increased to $1.4 million in the three months ended 23 March 31, 1998 from $0.4 million in the comparable 1997 period. This increase was primarily due to increased borrowings under the Company's line of credit to support increased working capital requirements in the 1998 period and interest on the Subordinated Secured Promissory Notes, which were issued from October 1996 through February 1997 and were outstanding throughout the 1998 period. Provision (Benefit) for Income Taxes The Company recorded a tax provision of $0.2 million in the three months ended March 31, 1998 compared to a tax benefit of $1.8 million for the comparable 1997 period. No tax benefit was recorded in the 1998 period due to the uncertainty of realization in future periods. EIGHT MONTHS ENDED DECEMBER 31, 1997 COMPARED TO THE EIGHT MONTHS ENDED DECEMBER 31, 1996 Net Revenues Net revenues for the eight months ended December 31, 1997 increased 70.7% to $86.0 million from $50.4 million in the comparable 1996 period. North American net revenues increased to $51.8 million from $27.7 million in the 1996 period, and international net revenues increased to $24.6 million from $14.0 million in the 1996 period. The increase in net revenues in the 1997 period was primarily due to increased title releases across multiple platforms in the eight months ended December 31, 1997 as compared with the eight months ended December 31, 1996, including significant title releases, such as Clay Fighter 63 1/3 and Star Trek: Starfleet Academy, in the calendar fourth quarter of 1997, and a higher than expected level of product returns and markdowns recorded during the 1996 period. OEM, royalty and licensing net revenues decreased to 11.0% of net revenues in the 1997 period from 17.2% in the 1996 period. Cost of Goods Sold; Gross Margin Cost of goods sold increased 25.6% in the eight months ended December 31, 1997 to $44.9 million, or 52.2% of net revenues, from $35.7 million, or 70.9% of net revenues, in the comparable 1996 period. Gross margin increased to 47.8% in the 1997 period from 29.1% in the 1996 period. The increase in gross margin was primarily due to reductions in sales by the Company on an affiliate label basis of titles published by third parties, reductions in OEM royalty expenses as a percentage of net revenues, and changes in the product mix of externally developed products released during the periods, offset in part by greater manufacturing costs attributable to an increased number of video game console products released during the 1997 period. The 1996 period also included the effects of additional write-offs of prepaid royalties relating to titles or platform versions of titles which had been cancelled or which were expected to achieve lower unit sales than were originally forecast. Operating Expenses Total operating expenses increased 18.8% to $43.9 million, or 51.1% of net revenues, in the eight months ended December 31, 1997 from $36.9 million, or 73.4% of net revenues, for the comparable 1996 period. Marketing and Sales. Marketing and sales expenses increased 30.8% to $20.6 million, or 24.0% of net revenues, for the eight months ended December 31, 1997 from $15.7 million, or 31.3% of net revenues, for the comparable 1996 period. The increase in absolute dollars was primarily due to advertising and other marketing costs associated with the increase in products launched during the period. The decrease as a percentage of net revenues was primarily attributable to operating efficiencies gained as a result of an increased net revenues base. General and Administrative. General and administrative expenses increased 3.0% to $9.0 million, or 10.5% of net revenues, in the eight months ended December 31, 1997 from $8.7 million, or 17.3% of net revenues, in the comparable 1996 period. The increase in absolute dollars was primarily attributable to increased personnel and operations and facilities costs both in North America and Europe in support of increased net revenues. The decrease as a percentage of net revenues was primarily attributable to operating efficiencies gained as a result of an increased net revenues base. 24 Product Development. Product development expenses increased 14.7% to $14.3 million, or 16.6% of net revenues, in the eight months ended December 31, 1997 from $12.5 million, or 24.8% of net revenues, in the comparable 1996 period. The increase in absolute dollars was primarily due to the addition of personnel in the Company's product development group, an increase in the number of products under development and the initiation of European and OEM product development in the 1997 period. The decrease as a percentage of net revenues primarily reflected operating efficiencies gained as a result of increased net revenues. Other Income (Expense) Other expense increased to $2.3 million in the eight months ended December 31, 1997 from $1.1 million in the comparable 1996 period. This increase was primarily due to increased borrowings under the Company's line of credit to support increased working capital requirements in the 1997 period and interest on the Subordinated Secured Promissory Notes, which were issued from October 1996 through February 1997 and were outstanding throughout the 1997 period. Provision (Benefit) for Income Taxes The Company recorded no tax provision in the eight months ended December 31, 1997, compared to a tax benefit of $5.9 million in the comparable 1996 period. No tax benefit was recorded in the 1997 period due to the uncertainty of realization in future periods. YEAR ENDED APRIL 30, 1997 COMPARED TO THE YEAR ENDED APRIL 30, 1996 Net Revenues Net revenues in the year ended April 30, 1997 decreased 14.1% to $83.3 million from $97.0 million in the comparable 1996 period. North American net revenues decreased to $38.6 million in the 1997 period from $54.7 million in the 1996 period and international net revenues increased to $32.0 million in the 1997 period from $24.6 million in the 1996 period. OEM, royalty and licensing net revenues accounted for 15.2% of total net revenues for the 1997 period, compared to 18.2% for the 1996 period. The decrease in net revenues for the 1997 period was primarily due to a decreased number of title releases resulting from certain product delays across multiple platforms, lower unit sales of the titles released during the period and a higher than expected level of product returns and markdowns recorded during the period. Cost of Goods Sold; Gross Margin Cost of goods sold increased 25.1% to $62.5 million, or 75.0% of net revenues, in the year ended April 30, 1997 from $49.9 million, or 51.5% of net revenues, in the comparable 1996 period. Gross margin decreased to 25.0% in the 1997 period from 48.5% in the 1996 period. The decrease in gross margin in the 1997 period was primarily due to an increase in royalty expenses attributable to the write-off of $5.9 million in prepaid royalties relating to titles or platform versions of titles which had been cancelled or which were expected to achieve lower unit sales than originally forecast, increased sales of video game console titles and affiliate label products and disproportionate returns and markdowns in the 1997 period, offset in part by increased OEM volumes. Operating Expenses Total operating expenses increased 16.9% to $55.5 million, or 66.6% of net revenues, in the year ended April 30, 1997 from $47.4 million, or 48.9% of net revenues, in the comparable 1996 period. Marketing and Sales. Marketing and sales expenses increased 5.8% to $24.6 million, or 29.6% of net revenues, in the 1997 period from $23.3 million, or 24.0% of net revenues, in the 1996 period. The increase in absolute dollars was primarily due to increased commissions expense on European sales offset in part by lower marketing and advertising expenses due to a decrease in titles released during the period. 25 General and Administrative. General and administrative expenses increased 4.2% to $9.4 million, or 11.3% of net revenues, in the 1997 period from $9.0 million, or 9.3% of net revenues, in the 1996 period. The increase in absolute dollars was primarily attributable to increased personnel and facilities costs in North America, Europe and Japan. Product Development. Product development expenses increased 41.7% to $21.4 million, or 25.7% of net revenues, in the 1997 period from $15.1 million, or 15.6% of net revenues, in the 1996 period. The increase in absolute dollars was primarily attributable to an increase in the number of products under development, the inclusion of a full year of operations of Shiny, an interactive entertainment software developer in which the Company acquired a 91% interest in 1995, localization and development costs in Japan, initiation of European and OEM product development and increased product development personnel and facilities costs. Other Income (Expense) Other expense increased to $1.6 million in the 1997 period from $0.8 million in the 1996 period. The increase was primarily due to interest expense related to borrowings under the Company's bank line of credit to support increased working capital requirements and interest on the Subordinated Secured Promissory Notes which were issued from October 1996 through February 1997. Provision (Benefit) for Income Taxes The Company's income tax benefit in the 1997 period was $9.1 million, compared to an income tax benefit of $0.5 million in the 1996 period. The benefit for income taxes as a percentage of pre-tax income declined from 39.2% to 25.0% due to the recording of a valuation allowance of $2.9 million in the 1997 period. YEAR ENDED APRIL 30, 1996 COMPARED TO THE YEAR ENDED APRIL 30, 1995 Net Revenues Net revenues in the year ended April 30, 1996 increased 21.9% to $97.0 million from $79.5 million in the comparable 1995 period. North American net revenues increased to $54.7 million and international net revenues increased to $24.6 million in the 1996 period from $51.9 million and $13.8 million, respectively, in the 1995 period. OEM, royalty and licensing net revenues were 18.2% of net revenues for the 1996 period, compared to 17.4% for the 1995 period. The increase in net revenues in the 1996 period was primarily due to an increase in the number of title releases across multiple platforms with increased individual title successes, including Stonekeep and Descent II, which resulted in increased international net revenues, particularly in Europe, and increased net revenues from retailers and resellers. The increase was also due to increases in OEM, royalty and licensing net revenues. These increases were offset in part by reduced affiliate label sales and increased product returns and markdowns. Cost of Goods Sold; Gross Margin Cost of goods sold increased 9.8% to $49.9 million, or 51.5% of net revenues, in the year ended April 30, 1996 from $45.5 million, or 57.2% of net revenues, in the comparable 1995 period. Gross margin was 48.5% in the 1996 period, as compared to 42.8% in the 1995 period. The increase in gross margin was primarily attributable to the increase in overall product sales, a product mix emphasizing higher margin PC titles and reductions in affiliate label net revenues. Operating Expenses Total operating expenses increased 69.3% to $47.4 million, or 48.9% of net revenues, in the year ended April 30, 1996 from $28.0 million, or 35.2% of net revenues, in the comparable 1995 period. Marketing and Sales. Marketing and sales expenses increased 63.1% to $23.3 million, or 24.0% of net revenues, in the 1996 period from $14.3 million, or 18.0% of net revenues, in the comparable 1995 period. The 26 increase for the 1996 period both in absolute dollars and as a percentage of net revenues was primarily attributable to increased advertising and marketing costs in support of increased product releases, promotional programs, commissions on international sales and personnel and overhead. General and Administrative. General and administrative expenses increased 63.3% to $9.0 million, or 9.3% of net revenues, in the 1996 period from $5.5 million, or 6.9% of net revenues in the 1995 period. The increase in both absolute dollars and as a percentage of net revenues was primarily attributable to increased personnel and operating and facilities costs in North America, Europe and Japan. Product Development. Product development expenses increased 84.4% to $15.1 million, or 15.6% of net revenues, in the 1996 period from $8.2 million, or 10.3% of net revenues, in the 1995 period. The increase in product development expenses in both absolute dollars and as a percentage of net revenues was primarily attributable to an increase in the number and complexity of products in development, the expansion of the Company's internal development capabilities (including the acquisition of Shiny), the initiation of localization and development in Japan and increased facilities costs and overhead requirements. Other Income (Expense) Other expense increased $1.8 million to $0.8 million in the year ended April 30, 1996, compared to other income of $1.0 million in the comparable 1995 period. The increase was primarily due to interest expense in the 1996 period related to borrowings under the Company's bank line of credit to support operations, while the Company earned income on cash balances during the 1995 period. Provision (Benefit) for Income Taxes The Company's income tax benefit in the year ended April 30, 1996 was $0.5 million, compared to an income tax provision of $2.8 million in the comparable 1995 period. 27 QUARTERLY RESULTS OF OPERATIONS The following tables set forth certain unaudited consolidated statements of operations data for each of the eight calendar quarters in the period ended March 31, 1998, as well as the percentage of the Company's net revenues represented by each item. This information was derived from the Company's unaudited consolidated financial statements that include, in the opinion of the Company, all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation when read in conjunction with the Consolidated Financial Statements included elsewhere in this Prospectus.
THREE MONTHS ENDED ------------------------------------------------------------------------------- JUNE 30, SEPT. 30, DEC. 31, MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, 1996 1996 1996 1997 1997 1997 1997 1998 -------- --------- -------- --------- -------- --------- -------- --------- (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENTS OF OPERATIONS DATA: Net revenues............ $18,574 $13,669 $29,038 $22,410 $20,502 $23,833 $53,308 $40,996 Cost of goods sold...... 10,210 10,459 20,952 13,508 13,941 14,153 26,751 19,221 ------- ------- ------- ------- ------- ------- ------- ------- Gross profit............ 8,364 3,210 8,086 8,902 6,561 9,680 26,557 21,775 ------- ------- ------- ------- ------- ------- ------- ------- Operating expenses: Marketing and sales.... 4,898 4,744 8,052 7,280 5,954 5,851 9,358 8,589 General and administra- tive.................. 3,311 2,766 3,395 3,088 4,014 2,948 3,453 2,855 Product development.... 4,353 4,648 4,851 5,384 5,920 5,312 5,701 5,819 ------- ------- ------- ------- ------- ------- ------- ------- Total operating ex- penses................ 12,562 12,158 16,298 15,752 15,888 14,111 18,512 17,263 ------- ------- ------- ------- ------- ------- ------- ------- Operating income (loss)................. (4,198) (8,948) (8,212) (6,850) (9,327) (4,431) 8,045 4,512 Other income (expense).. (260) (294) (875) (375) (663) (1,050) (1,552) (1,418) ------- ------- ------- ------- ------- ------- ------- ------- Income (loss) before in- come taxes............. (4,458) (9,242) (9,087) (7,225) (9,990) (5,481) 6,493 3,094 Provision (benefit) for income taxes........... (1,739) (2,311) (2,272) (1,782) 0 0 0 245 ------- ------- ------- ------- ------- ------- ------- ------- Net income (loss)....... $(2,719) $(6,931) $(6,815) $(5,443) $(9,990) $(5,481) $ 6,493 $ 2,849 ======= ======= ======= ======= ======= ======= ======= ======= Net income (loss) per share: Basic.................. $ (0.25) $ (0.62) $ (0.61) $ (0.49) $ (0.90) $ (0.49) $ 0.65 $ 0.26 ======= ======= ======= ======= ======= ======= ======= ======= Diluted................ $ (0.25) $ (0.62) $ (0.61) $ (0.49) $ (0.90) $ (0.49) $ 0.54 $ 0.23 ======= ======= ======= ======= ======= ======= ======= =======
THREE MONTHS ENDED ------------------------------------------------------------------------------ JUNE 30, SEPT. 30, DEC. 31, MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, 1996 1996 1996 1997 1997 1997 1997 1998 -------- --------- -------- --------- -------- --------- -------- --------- PERCENTAGE OF NET REVE- NUES: Net revenues............ 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of goods sold...... 55.0 76.5 72.2 60.3 68.0 59.4 50.2 46.9 ----- ----- ----- ----- ----- ----- ----- ----- Gross profit............ 45.0 23.5 27.8 39.7 32.0 40.6 49.8 53.1 Operating expenses: Marketing and sales.... 26.4 34.7 27.7 32.5 29.0 24.5 17.6 21.0 General and administra- tive.................. 17.8 20.2 11.7 13.8 19.6 12.4 6.5 7.0 Product development.... 23.4 34.0 16.7 24.0 28.9 22.3 10.7 14.2 ----- ----- ----- ----- ----- ----- ----- ----- Total operating ex- penses................ 67.6 88.9 56.1 70.3 77.5 59.2 34.8 42.2 ----- ----- ----- ----- ----- ----- ----- ----- Operating income (loss)................. (22.6) (65.4) (28.3) (30.6) (45.5) (18.6) 15.0 10.9 Other income (expense).. (1.4) (2.2) (3.0) (1.7) (3.2) (4.4) (2.9) (3.4) ----- ----- ----- ----- ----- ----- ----- ----- Income (loss) before in- come taxes............. (24.0) (67.6) (31.3) (32.3) (48.7) (23.0) 12.1 7.5 Provision (benefit) for income taxes........... (9.4) (16.9) (7.8) (8.0) 0.0 0.0 0.0 0.6 ----- ----- ----- ----- ----- ----- ----- ----- Net income (loss)....... (14.6)% (50.7)% (23.5)% (24.3)% (48.7)% (23.0)% 12.1% 6.9% ===== ===== ===== ===== ===== ===== ===== =====
Net revenues for the three months ended December 31, 1997 and March 31, 1998 were $53.3 million and $41.0 million, respectively. The increase for such three month periods reflected the market's seasonality, together with the Company's successful introduction of a number of new product titles. Net revenues of $18.6 million, $13.7 million and $29.0 million for the three months ended June 30, 1996, September 30, 1996 and December 31, 1996, respectively, reflected lower net revenues arising from product delays during those periods and the resulting introduction of fewer titles than in other periods and a higher than expected level of product returns and markdown allowances. 28 Cost of goods sold for the three month periods ended September 30, 1996, December 31, 1996, March 31, 1997 and June 30, 1997 included the effects of additional write-offs of prepaid royalties relating to titles or platform versions of titles which had been cancelled or which were expected to achieve lower unit sales than were originally forecast, which, combined with the lower net revenues, resulted in lower gross margin during such periods. Interest expense has increased on a comparative basis over the periods presented, reflecting debt service on the Company's $14.7 million in Subordinated Secured Promissory Notes issued from October 1996 through February 1997 together with increased borrowings on the Company's bank line of credit. The Company's operating results have fluctuated significantly in the past and will likely fluctuate significantly in the future, both on a quarterly and an annual basis. A number of factors may cause or contribute to such fluctuations, and many of such factors are beyond the Company's control. Such factors include, but are not limited to, demand for the Company's and its competitors' products, the size and rate of growth of the market for interactive entertainment software, changes in computing platforms, the number of new products and product enhancements released by the Company and its competitors during the period, changes in product mix, product returns, the timing of orders placed by distributors and dealers, delays in shipment, the timing of development and marketing expenditures, price competition and the level of the Company's international net revenues. The uncertainties associated with the interactive entertainment software development process, lengthy manufacturing lead times for Nintendo-compatible products, possible production delays, and the approval process for products compatible with the Sony Computer Entertainment, Nintendo and Sega video game consoles, as well as approvals required from other licensors, make it difficult to accurately predict the quarter in which shipments will occur. Because of the limited number of products introduced by the Company in any particular quarter, a delay in the introduction of a product may materially adversely affect the Company's operating results for that quarter. A significant portion of the Company's operating expenses is relatively fixed, and planned expenditures are based primarily on sales forecasts. If net revenues do not meet the Company's expectations in any given quarter, operating results may be materially adversely affected. The interactive entertainment software industry is generally highly seasonal, with the highest levels of consumer demand occurring during the year-end holiday buying season, followed by demand during the calendar first quarter resulting both from demand for interactive entertainment software for PC's and video game consoles acquired during the holidays and from continuing demand for titles released in the preceding fourth quarter. As a result, net revenues, gross profits and operating income for the Company have historically been highest during the fourth and the following first calendar quarters, and have declined from these levels in the subsequent second and third calendar quarters. The failure or inability of the Company to introduce products on a timely basis to meet such seasonal increases in demand may have a material adverse effect on the Company's business, operating results and financial condition. The Company may over time become increasingly affected by the industry's seasonal patterns. Although the Company seeks to reduce the effect of such seasonal patterns on its business by distributing its product release dates throughout the year, particularly during the quarters ending June 30 and September 30, there can be no assurance that such efforts will be successful. There can be no assurance that the Company will be profitable in any particular period given the uncertainties associated with software development, manufacturing, distribution and the impact of the industry's seasonal patterns on the Company's net revenues. As a result of the foregoing factors and the other factors discussed in "Risk Factors," it is likely that the Company's operating results in one or more future periods will fail to meet or exceed the expectations of securities analysts or investors. In such event, the trading price of the Common Stock would likely be materially adversely affected. See "Risk Factors--Fluctuations in Operating Results; Uncertainty of Future Results; Seasonality." LIQUIDITY AND CAPITAL RESOURCES The Company has funded its operations to date primarily through the use of bank lines of credit and equipment leases, and through cash generated by the sale of securities. As of March 31, 1998, the Company's principal sources of liquidity included cash and short term investments of approximately $1.9 million and the 29 Company's bank line of credit bearing interest at the London Interbank Offered Rate plus 4.87% (10.56% at March 31, 1998), expiring May 31, 1999. The Company's bank line of credit balance was $23.8 million at March 31, 1998. Under the terms of the bank line of credit, the Company has available borrowings up to $35.0 million through August 30, 1998, $30.0 million through December 30, 1998 and $25.0 million through May 31, 1999, based in part on qualifying receivables and inventory. Within the overall credit limit of $35.0 million is the Company's ability to draw down up to $10.0 million in excess of its borrowing base through August 30, 1998, and up to $5.0 million in excess of its borrowing base through December 30, 1998. The Company is currently in compliance with all terms of its credit agreement. The Company's primary capital needs have historically been to fund working capital requirements necessitated by its sales growth, the development and introduction of products and related technologies and the acquisition or lease of equipment and other assets used in the product development process. The Company's operating activities used cash of $0.2 million during the three months ended March 31, 1998, used cash of $15.3 million during the eight months ended December 31, 1997, used cash of $17.0 million during the year ended April 30, 1997, provided cash of $2.5 million in the year ended April 30, 1996 and used cash of $8.7 million in the year ended April 30, 1995. The cash used by operating activities in the three months ended March 31, 1998 was primarily attributable to increased trade receivables, offset in part by net income during the period and increased accounts payable and accrued expenses. The cash used by operating activities in the eight months ended December 31, 1997 was primarily attributable to increased trade receivables, particularly in the year-end holiday selling season, together with a net loss of $5.1 million. The increase in cash used by operating activities in the year ended April 30, 1997 was primarily due to a net loss of $27.2 million, offset in part by increased liabilities and accrued expenses. Cash provided by operations in the year ended April 30, 1996 primarily resulted from increases in liabilities, and the use of operating cash in the year ended April 30, 1995 primarily resulted from increased royalty advances and receivables, offset by net income during the period. Cash provided by financing activities of $0.9 million in the three months ended March 31, 1998 and $12.2 million in the eight months ended December 31, 1997, resulted primarily from borrowings under the Company's bank line of credit. Cash provided by financing activities of $20.7 million in the year ended April 30, 1997, resulted primarily from the issuance of Subordinated Secured Promissory Notes and borrowings under the Company's bank line of credit. Cash provided by financing activities of $5.5 million in the year ended April 30, 1996, resulted primarily from borrowings under the Company's bank line of credit, and cash provided by financing activities of $0.6 million in the year ended April 30, 1995 resulted primarily from a tax benefit due to the exercise of stock options. Cash used in investing activities was $0.3 million, $0.8 million and $3.5 million in the three months ended March 31, 1998, the eight months ended December 31, 1997 and the year ended April 30, 1997, respectively, which consisted of capital expenditures, primarily for office and computer equipment used in Company operations. Cash used in investing activities of $7.5 million in the year ended April 30, 1996 resulted primarily from $4.6 million in capital expenditures and $3.2 million used in the acquisition of Shiny Entertainment. Cash provided by investing activities of $11.7 million in the year ended April 30, 1995 resulted primarily from $15.0 million in proceeds from the sale of marketable securities, offset in part by $3.3 million in capital expenditures. The Company does not currently have any material commitments with respect to any capital expenditures. The Company expects that its capital requirements will increase significantly in the future as it increases its product development and sales and marketing programs, primarily due to increased headcount in these areas, increased advance royalty payments to third party developers and increased sales and marketing expenses. The Company has not yet definitively determined such capital uses. The Company believes that funds available under its bank line of credit, the net proceeds from the Offering and anticipated funds from operations will be sufficient to satisfy the Company's projected working capital, capital expenditure requirements and debt obligations in the normal course of business for at least the next twelve months. See "Use of Proceeds." There can be no assurances, however, that the Company will not be required to raise additional debt or equity financing during such period, nor that if the Company is required to raise additional financing during such period it will be able to do so on commercially reasonable terms. See "Risk Factors--Future Capital Requirements." 30 RECENT ACCOUNTING PRONOUNCEMENTS In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." In addition, the American Institute of Certified Public Accountants issued Statement of Position ("SOP") 97-2, "Software Revenue Recognition" and SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." SFAS Nos. 130 and 131 and SOP 97-2 are effective for fiscal years beginning after December 15, 1997. SOP 98-1 is effective for fiscal years beginning after December 15, 1998. The Company does not believe that adoption of these standards will have a material impact on the Company's results of operations. YEAR 2000 ISSUE Many currently installed computer systems and software products are coded to accept only two digit entries in the date code field. These date code fields will need to accept four digit entries to distinguish 21st century dates from 20th century dates. This inability to recognize or properly treat the Year 2000 may cause the Company's systems and applications to process critical financial and operational information incorrectly. The Company continues to assess the impact of the Year 2000 issue on its reporting systems and operations. The Company is currently in the process of investigating whether its internal accounting systems and other operational systems are Year 2000 compliant. The Company has been informed by the vendor of its internal accounting software that upgrades that will bring such software into Year 2000 compliance will be provided to the Company under its existing software maintenance agreement in the third quarter of 1998. The Company expects to effect the conversion of its internal accounting system to such upgraded software by the end of 1998. The Company believes that necessary conversions of other operational systems can also be accomplished through vendor upgrades and enhancements as provided under its system maintenance agreements currently in effect. The Company does not anticipate significant costs associated with any necessary conversions. However, there can be no assurance that certain of the Company's internal computer systems or networks or those of its key vendors and distributors will not be adversely affected by such Year 2000 issues, which could have a material adverse effect on the Company's business, operating results or financial condition. See "Risk Factors--Year 2000 Compliance." 31 BUSINESS Interplay is a leading developer, publisher and distributor of interactive entertainment software for both core gamers and the mass market. The Company, which commenced operations in 1983, is most widely known for its titles in the action/arcade, adventure/RPG, strategy/puzzle and sports categories, and has published such hit titles as Descent, Fallout, Stonekeep, Battle Chess and Virtual Pool. The Company has produced titles for many of the most popular interactive entertainment software platforms, and currently balances its development efforts by publishing interactive entertainment software for PCs and current generation video game consoles, such as the PlayStation and Nintendo 64. Interplay was named Publisher of the Year in 1996 by Computer & Net Player magazine. The Company seeks to publish interactive entertainment software titles that are, or have the potential to become, franchise software titles that can be leveraged across several releases and/or platforms, and has published many such successful franchise titles to date. In addition, the Company secures licenses to use popular intellectual properties, such as Star Trek, Caesars Palace and Major League Baseball, for incorporation into certain of its products. Of the more than 40 titles currently in development by the Company, more than half are sequels to successful titles or incorporate licensed intellectual properties. INDUSTRY BACKGROUND The worldwide market for interactive entertainment software has grown significantly in recent years. According to IDG, the worldwide market for interactive entertainment software generated sales of more than 220 million retail units in 1997, and is projected to generate more than 437 million retail units in 1999, representing a 41% compound annual growth rate. The interactive entertainment software market is composed primarily of software for PC platforms and video game consoles. This market growth has been driven by the significant growth in the worldwide installed base of PCs and video game consoles, the emergence of a strong international market for interactive entertainment software, particularly in Western Europe, and the emergence of powerful software distribution channels capable of reaching a broad consumer base. According to IDG, U.S. retail sales of PC interactive entertainment software exceeded 45 million units in 1997 and are projected to grow 27% annually to more than 73 million units in 1999. Also, according to IDG, approximately 43 million units of interactive entertainment software for PlayStation and Nintendo 64 video game consoles were sold in the U.S. in 1997, and these unit sales are expected to grow 56% annually to approximately 106 million in 1999. The international market for PC interactive entertainment software is growing rapidly as well. According to IDG, international sales of interactive entertainment software for PCs were 53 million units in 1997 and are projected to grow 27% annually to 85 million units in 1999. Similarly, growth in the video game console installed base outside of the U.S. has driven an increase in international sales of interactive entertainment software for video game consoles, with 77 million units sold outside of the U.S. in 1997 and 171 million units projected to be sold in 1999, representing a compound annual growth rate of 48%, according to IDG. The distribution channels for interactive entertainment software have changed significantly in recent years and have become increasingly competitive. During the 1980s, consumer software was typically sold through specialty stores. Today, mass merchants and consumer electronics stores such as Wal-Mart, Best Buy, Price-Costco, Kmart, CompUSA and Target are the most important distribution channels for retail sales of consumer software. Competition for shelf space has intensified due to the fact that these high volume retailers generally only stock a limited number of titles which are expected to sell large numbers of units. This trend has increased the importance of developing well-known brands and publishing labels with a history of successful sales. 32 Today, a limited number of titles capture a majority of the sales in the interactive entertainment software market. According to PC Data, in 1997 the top 100 PC titles released (approximately nine percent of the titles released) generated 67% of the industry's overall revenues. This hit-driven market has led to higher production budgets for titles as well as more complex development and production processes and longer development cycles. Publishers with a history of producing hit titles have enjoyed a significant marketing advantage because of their heightened brand recognition and customer loyalty. The importance of the timely release of hit titles, as well as the increased scope and complexity of the product development and production process, have increased the need for disciplined product development processes that limit cost and schedule overruns. This in turn has increased the importance of leveraging the technologies, characters or storylines of such hit titles into additional interactive entertainment software products in order to spread development costs among multiple products. The Internet and on-line services represent an emerging segment of the interactive entertainment software market. While competing with interactive entertainment software as an alternative use of the home PC, the Internet and on-line services also present a new platform on which publishers and distributors can market, advertise and distribute their products, whether through direct sales from web sites or through sponsoring multi-player on-line tournaments featuring their games. The ability for users to compete on-line provides an additional product feature which may increase demand for interactive entertainment software products. As interactive entertainment software continues to gain mass market acceptance, it will become increasingly important for publishers of such software (i) to achieve brand name recognition for their products among both core gamers and the mass market by offering innovative products with captivating gameplay across multiple platforms, (ii) to secure relationships with third party interactive entertainment software developers with proven track records of developing hit titles, (iii) to identify and address the technical, creative and marketing risks before committing significant development resources to a title, (iv) to aggressively market and sell these products through traditional and emerging distribution channels and (v) to leverage their existing software technology, and the brand recognition associated with it, by producing sequel and add-on titles. BUSINESS STRATEGY The Company's objective is to enhance its position as a leading developer, publisher and distributor of interactive entertainment software for both core gamers and the mass market. The key elements of the Company's business strategy are as follows: Maximize Franchise and Brand Value. The Company seeks to publish hit titles whose strong consumer appeal and resulting consumer loyalty create franchise titles for the Company. Further, the Company seeks to leverage its franchise titles into recurring sources of revenue by publishing sequels and add-ons and by pursuing merchandising opportunities as they arise. To date, the Company has published many successful franchise titles, including Descent, Virtual Pool, Clay Fighter and Stonekeep, and believes that many of its products slated for release in 1998 may become additional franchise titles. In addition, the Company has developed or is developing products based on popular intellectual properties licensed to the Company, such as Star Trek, Caesars Palace and Major League Baseball. The Company believes that the exposure and name recognition of these properties, combined with well-designed gameplay, may create franchise titles for the Company. The Company currently publishes titles under the Interplay, Shiny, VR Sports and Signature Series labels. To create franchise value within specific product genres, the Company plans to introduce genre-specific labels over time, including its Tantrum, Tribal Dreams, Flat Cat and Black Isle Studios labels. Secure Relationships with Proven Hit Developers. In order to maintain its competitive position in its hit-driven industry, the Company devotes significant resources to securing relationships with third party interactive entertainment software developers with proven track records of developing hit titles. The Company believes that its developer-friendly culture, distribution capability and success as a publisher of well-known titles has enabled it to attract and retain proven hit developers. Relationships such as these have led to the release of such franchise titles as the Descent series, Virtual Pool and Redneck Rampage. In furtherance of this strategy, in 1995 the Company acquired a 91% interest in Shiny Entertainment, Inc. ("Shiny"), the developer of the hit Earthworm Jim title. 33 Manage Product Development Process. In order to limit cost and schedule overruns while maintaining a creative and entrepreneurial environment for its development group, the Company has implemented a divisional product development and production process, based on product genres. The Company believes that breaking down the development function into divisions enables it to improve its software design capabilities, to better manage its internal and external development processes and to enhance its software development tools and techniques, thereby allowing for greater efficiency and improved predictability in the software development process. Leverage and Expand Distribution Channels. The Company seeks to leverage and expand its channels of distribution in order to reach a larger number of consumers in the retail, direct, budget and on-line markets, both domestically and internationally. The Company has also established Interplay OEM, which distributes the Company's interactive entertainment software titles, as well as those of other software publishers, to computer hardware and peripheral device manufacturers for use in bundling arrangements. In 1995, the Company established a European subsidiary ("Interplay Europe") to focus on distribution to the European markets, both directly and through third-party distributors and joint ventures. The Company also plans to increase its presence in other international markets by licensing its titles to publishers in such markets, by entering into distribution arrangements and by establishing direct distribution capabilities. Finally, the Company seeks to leverage and expand its capabilities to distribute its products over the Internet both through direct on-line marketing and sales efforts and through the use of certain of its games by providers of on-line gameplay who distribute through popular on-line services, such as America Online. Develop and Leverage Advanced Technology. The Company seeks to leverage its investments in existing game technologies while internally and externally developing new technologies which can be used in multiple future titles. The Company develops proprietary engines, development tools and related technology which enable it to develop advanced 3D games on a timely and cost-effective basis and with reduced technology risk. For example, the Company is incorporating the advanced proprietary human motion and depth perception technology developed by Shiny into certain of the Company's sports titles. PRODUCTS The Company develops, publishes and distributes interactive entertainment software titles that provide immersive game experiences by combining advanced technology with engaging content, vivid graphics and rich sound. The Company utilizes the experience and judgment of the avid gamers in its product development group to select and produce the products it publishes. This has resulted in the publication of a wide variety of games that have received numerous awards, including the Academy of Interactive Arts & Sciences' Best Title, Computer Game Review's Gold and Platinum Triads and PC Entertainment's Editor's Choice Awards. The Company's strategy is to develop products for those platforms, whether PC or video game console, that have or will have sufficient installed bases for such development to be economically viable. The Company currently publishes products for multiple PC platforms, including Windows 95, and for the current generation of video game consoles, including the PlayStation and Nintendo 64. The Company assesses the potential acceptance and success of emerging platforms and the anticipated continued viability of existing platforms based on many factors, including the number of competing titles, the ratio of software sales to hardware sales with respect to such platform, the installed base of the platform, the change in the rate of sales of the platform and the cost and timing of development for the platform. The Company has entered into license agreements with Sony Computer Entertainment and Nintendo pursuant to which the Company is granted the right to develop, sublicense and distribute products for such platforms in specified territories, which products are manufactured by the licensor for the Company. The Company pays the licensor a royalty and/or manufacturing fee in exchange for such license and manufacturing services. Such agreements grant the licensor certain approval rights over the products developed for such platforms, as well as over the packaging and marketing materials for such products. There can be no assurance that the Company will be able to obtain future licenses from hardware companies on acceptable terms or that any existing or future licenses will be renewed by the licensors. The inability of the Company to obtain such approvals could have a material adverse effect on the Company's business, operating results and financial condition. See "Risk Factors--Dependence on Licenses from and Manufacturing by Hardware Companies." 34 The interactive entertainment software market can generally be divided into five major categories or product genres: action/arcade, adventure/RPG, strategy/puzzle, sports and simulation. From January 1, 1995 to March 31, 1998, the Company released 65 titles, and currently has more than 40 titles in various stages of development. Below are two tables, the first highlighting selected Company releases since 1995 which the Company believes are, or will become, franchise titles, and the second listing selected titles currently scheduled for release in the next twelve months which are either sequels to franchise titles or which the Company believes present franchise title opportunities. SELECTED TITLES RELEASED SINCE 1995
TITLE GENRE PLATFORM DEVELOPER Carmageddon Action/Arcade PC Third party - ------------------------------------------------------------------------------- Clay Fighter 63 1/3 Action/Arcade N64 Interplay - ------------------------------------------------------------------------------- Descent Action/Arcade PC, PlayStation, Mac Third party - ------------------------------------------------------------------------------- Descent II Action/Arcade PC, PlayStation, Mac Third party - ------------------------------------------------------------------------------- Die By the Sword Action/Arcade PC Third party - ------------------------------------------------------------------------------- MDK Action/Arcade PC, PlayStation Shiny - ------------------------------------------------------------------------------- Redneck Rampage Action/Arcade PC Third party - ------------------------------------------------------------------------------- Star Trek: Starfleet Academy Action/Arcade PC, Mac Interplay - ------------------------------------------------------------------------------- Fallout Adventure/RPG PC, Mac Interplay - ------------------------------------------------------------------------------- Stonekeep Adventure/RPG PC Interplay - ------------------------------------------------------------------------------- Caesars Palace Strategy/Puzzle PC, PlayStation Third party - ------------------------------------------------------------------------------- M.A.X. Strategy/Puzzle PC Interplay - ------------------------------------------------------------------------------- Jimmy Johnson's VR Football '98 Sports PlayStation Third party - ------------------------------------------------------------------------------- Virtual Pool Sports PC, PlayStation, Mac Third party - ------------------------------------------------------------------------------- Virtual Pool 2 Sports PC Third party - ------------------------------------------------------------------------------- VR Baseball '97 Sports PC, PlayStation Interplay - ------------------------------------------------------------------------------- VR Sports Powerboat Racing Sports PC, PlayStation Third party SELECTED TITLES SCHEDULED TO BE RELEASED IN THE NEXT TWELVE MONTHS - -------------------------------------------------------------------------------- TITLE GENRE PLATFORM DEVELOPER - -------------------------------------------------------------------------------- Crime Killer Action/Arcade PlayStation Third party - ------------------------------------------------------------------------------- Descent III Action/Arcade PC Third party - ------------------------------------------------------------------------------- Descent: Freespace The Great War Action/Arcade PC Third party - ------------------------------------------------------------------------------- Earthworm Jim 3D Action/Arcade PC, PlayStation, N64 Third party - ------------------------------------------------------------------------------- Messiah Action/Arcade PC, PlayStation Shiny - ------------------------------------------------------------------------------- Wild 9 Action/Arcade PlayStation Shiny - ------------------------------------------------------------------------------- Baldur's Gate Adventure/RPG PC Third party - ------------------------------------------------------------------------------- Fallout 2 Adventure/RPG PC Interplay - ------------------------------------------------------------------------------- Star Trek: Secret of Vulcan Fury Adventure/RPG PC Interplay - ------------------------------------------------------------------------------- Caesars Palace VIP Series Strategy/Puzzle PC Third party - ------------------------------------------------------------------------------- M.A.X. 2 Strategy/Puzzle PC Interplay - ------------------------------------------------------------------------------- VR Football '99 Sports PlayStation Third party - ------------------------------------------------------------------------------- VR Baseball '99 Sports PC, PlayStation Interplay
35 Although the Company anticipates that it will release the titles listed in the table immediately above in the next twelve months, the timing and success of new interactive entertainment software product releases remains unpredictable due to the complexity of product development, including the uncertainty associated with new technology. The development cycle of new products is difficult to predict but can typically range from 12 to 24 months, and there can be no assurance that such titles will be released in the next twelve months or at all. There also can be no assurance that, if introduced, such new titles will become franchise titles, achieve market acceptance or generate any significant revenues. While the level of sales required for a title to be profitable varies depending on the costs associated with such title, in general, the Company considers titles to be hit titles if they sell more than 100,000 units. A significant delay in the introduction of, or the presence of a defect in, one or more of such titles or other new products, or the failure of one or more of such titles to generate significant net revenues, could have a material adverse effect on the success of such products and on the Company's business, operating results and financial condition. See "Risk Factors--Dependence on New Product Introductions; Risk of Product Delays and Product Defects" and "--Uncertainty of Market Acceptance; Dependence on Hit Titles." The Company has the right to distribute certain of the titles listed in the above tables only in specified territories. For example, the Company only has the right to distribute Carmageddon in North America. In addition, the Company's right to distribute certain of its sports titles, such as VR Baseball '99, in a given international territory varies depending upon the relevant sports league's approvals obtained by the Company. As part of its strategy to develop franchises, the Company has recently adopted a separate publishing label for each of its five major product categories: Tantrum, for the action/arcade division; Tribal Dreams, for the adventure division; Black Isle Studios, for the RPG division; Flat Cat, for the strategy/puzzle division, and VR Sports, for the sports division. The Company also releases titles under the Shiny label. The length of time required to attract consumer awareness of each of these product labels will vary based on a number of factors, including the number of commercially successful titles released by the particular development group. Below is a partial summary of the Company's internally and externally developed titles that have been released previously or are being developed for release in the next twelve months in the various product categories. The only titles that have individually contributed more than 10% of the Company's net revenues in any fiscal year since the Company's former 1995 fiscal year have been Stonekeep, which was developed internally by the Company, and Descent II, which was developed by a third party developer, and each of which accounted for more than 10% of the Company's net revenues in the Company's former fiscal year ended April 30, 1996, and Clay Fighter 63 1/3 and Star Trek: Starfleet Academy, both of which were developed internally by the Company, and each of which accounted for more than 10% of the Company's net revenues in the eight month period ended December 31, 1997. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." The fact that these titles accounted for more than 10% of the Company's net revenues in a particular period is not an indication that these or any other titles will do so in future periods. See "Risk Factors--Uncertainty of Market Acceptance; Dependence on Hit Titles." TANTRUM--ACTION/ARCADE TITLES The Descent Series. Developed by Parallax and originally published in February 1995, Descent and its sequel have sold more than 1.1 million retail units worldwide. Descent has also earned critical acclaim, winning Best Computer Game of 1995 and Best Title of 1995 from the Academy of Interactive Arts and Sciences and Golden Triad honors from Computer Game Review. Descent: FreeSpace The Great War, which Parallax is currently developing for release in 1998, will be a 3D space simulator featuring large-scale dog-fights and huge capital ships as "landscapes" for the environments, and includes an on-line, multi-player option which allows up to 12 users to join a game. Parallax is also currently developing Descent III, which incorporates a new advanced proprietary engine, for release by the Company in the next twelve months. Star Trek: Starfleet Academy. Developed internally by the Company and based on Paramount's original Star Trek television and motion picture series, Star Trek: Starfleet Academy combines real-time 3D action with strategic game play. The game includes full motion video of actors, including three members of the original cast, William Shatner as Captain Kirk, Walter Koenig as Ensign Chekov and George Takei as Lieutenant Sulu. Released in September 1997, the game has sold in excess of 350,000 retail units worldwide. 36 Die By The Sword. Developed for the Company by Treyarch Invention, Die By The Sword includes advanced technology that allows full motion control of the game's characters, which engage in hand-to-hand combat. The proprietary graphics engine includes a four person multi-player mode and allows players to attack and defend themselves in a 360(degrees) environment featuring realistic combat graphics and gameplay. TRIBAL DREAMS--ADVENTURE TITLES Star Trek: Secret of Vulcan Fury (under development). Star Trek: Secret of Vulcan Fury is the third in a series of original Star Trek adventure games developed internally by the Company. The game is expected to combine proprietary motion-capture animation technology with original Star Trek episodes written by one of the original Star Trek television writers. The game will feature the voices of certain members of the original cast, challenging story-based puzzles and the opportunity for players to assume the roles of six Star Trek characters: Captain Kirk, Mr. Spock, Doctor McCoy, Lieutenant Sulu, Ensign Chekov and Chief Engineer Scott. BLACK ISLE STUDIOS--RPG TITLES Stonekeep. The Company internally developed Stonekeep, an RPG that takes place in a subterranean labyrinth and features 3D rendered dungeons and creatures, a rich soundtrack and vivid special effects. Stonekeep has sold in excess of 300,000 retail units worldwide since its release in November 1995. Stonekeep was named Best RPG of 1995 by Computer Player and Editor's Choice for Best RPG by PC Entertainment. The Company is currently developing a sequel to Stonekeep. Fallout 2 (under development). The Company is currently developing Fallout 2 as the sequel to Fallout: A Post Nuclear Role Playing Game, an RPG set in the aftermath of a catastrophic nuclear war, which has sold in excess of 100,000 retail units worldwide since its release in October 1997. The original Fallout won numerous industry awards including the Editor's Choice Award and RPG of the Year 1997 by PC Gamer and the CG Choice Award and RPG of the Year 1997 by Computer Gaming World. Fallout 2 will combine the original Fallout's gameplay with new scenarios and characters. FLAT CAT--STRATEGY/PUZZLE TITLES M.A.X. Mechanized Assault & Exploration ("M.A.X."). Developed internally by the Company, M.A.X., which allows players to lead a modern military unit into various combat scenarios, has sold in excess of 150,000 retail units worldwide since its release in January 1997. M.A.X. includes both real-time and turn- based strategy elements. The Company is currently developing M.A.X. 2, which will include three gameplay modes including real-time gameplay, simultaneous turn-based gameplay and classic turn-based gameplay. The Caesars Palace VIP Series. The Company is internally developing a series of simulated gambling products based on its license to use the Caesars Palace brand. The Company is releasing Caesars Palace VIP Series, which includes individual products for blackjack, craps and video poker and will include a slot machine product currently under development, each of which include casino sound effects, official tutorials and authenticated odds. In 1997 the Company released Caesars Palace for the PC and PlayStation. VR SPORTS--SPORTS TITLES VR Baseball. Developed internally by the Company, VR Baseball '97 is licensed by the Major League Baseball Players Association and Major League Baseball Properties, Inc. and delivers real-time, 360(degrees), 3D professional baseball that allows players to view and play from any angle or position. VR Baseball '97 has sold more than 100,000 retail units worldwide since its release in March 1997. The Company recently released the PlayStation version of VR Baseball '99, and is currently developing the PC version of such title, which incorporates the advanced proprietary human motion and depth perception technology developed by Shiny. Virtual Pool. Developed by Celeris, Virtual Pool, the Company's first sports title, is a realistic billiards simulation that has sold more than 250,000 retail units worldwide and has won a number of awards, including 37 Best Simulation of 1995 from the Academy of Interactive Arts & Sciences, Best Sports Game of 1995 from PC Gamer magazine and Best VR Game of 1995 from Computer Player magazine. The Company has also published Celeris' Virtual Snooker and Virtual Pool 2 titles. VR Sports Powerboat Racing. Developed by East Point for the PC and PlayStation, VR Sports Powerboat Racing allows the user to race powerboats on up to eight different watertracks against computer opponents or up to eight Internet or networked players. The player's perspective can be either from the driver's seat or from behind the boat, and races can take place during the day or at night. SHINY Shiny development teams have created games in the action/arcade and adventure categories. Shiny titles include the following: MDK. MDK, a futuristic 3D fighting game released in March 1997, was the first title released by Shiny after its acquisition by Interplay in 1995 and has sold in excess of 400,000 retail units worldwide. The game was published by Shiny and Interplay internationally and by Playmates Interactive Entertainment, Inc. in North America. The Company is currently developing a sequel to MDK for which it will have worldwide distribution rights. Messiah (under development). Messiah will be a surrealistic 3D action game centered on the player's ability to invade the bodies of game characters and take possession of their actions. The game includes advanced proprietary human motion and depth perception technology that creates realistic skin texture and movement. Though still under development, the game has received significant market exposure, including an appearance on the cover of Next Generation magazine. PRODUCT DEVELOPMENT The Company develops or acquires its products from a variety of sources, including its five internal development divisions, Shiny, Interplay Europe and publishing relationships with leading independent developers. The Development Process. The Company develops original products both internally, using its in-house development staff, and externally, using third party software developers working under contract with the Company. Producers on the Company's internal staff monitor the work of both inside and third party development teams through design review, progress evaluation, milestone review and quality assurance. In particular, each milestone submission is thoroughly evaluated by the Company's product development staff to ensure compliance with the product's design specifications. The Company enters into consulting or development agreements with third party developers which are generally on a flat-fee, work-for-hire basis or on a royalty basis, whereby advances are paid based on the achievement of milestones. In royalty arrangements, the Company ultimately pays continuation royalties to developers once the Company's advances have been recouped. In addition, in certain cases, the Company will utilize third party developers to port products to new platforms. The Company's products typically have short life cycles, and the Company depends on the timely introduction of successful new products, including enhancements of or sequels to existing products and conversions of previously released products to additional platforms, to generate net revenues to fund operations and to replace declining net revenues from existing products. The development cycle of new products is difficult to predict, and involves a number of risks. See "Risk Factors--Dependence on New Product Introductions; Risk of Product Delays and Product Defects." INTERNAL PRODUCT DEVELOPMENT U.S. Product Development. The Company's U.S. internal product development group (excluding Shiny's development group) presently consists of approximately 250 people. Once a design is selected by the Company, 38 a production team, development schedule and budget are established. The Company's internal development process includes initial design and concept layout, computer graphic design, 2D and 3D artwork, programming, prototype testing, sound engineering and quality control. The development process for an original, internally developed product typically takes from 12 to 24 months, and another six to 12 months for the porting of a product to a different technology platform. The Company utilizes a variety of advanced hardware and software development tools, including animation, sound compression utilities, clay modeling and video compression for the production and development of its interactive entertainment software titles. The Company recently restructured its internal development organization into five divisions, each dedicated to the production and development of products for a particular product category. Within each division, development teams are assigned to a particular project. These teams are generally led by a producer or associate producer and include game designers, software programmers, artists, product managers and sound technicians. The Company believes that this divisional approach promotes the creative and entrepreneurial environment necessary to develop innovative and successful titles. In addition, the Company believes that breaking down the development function into divisions enables it to improve its software design capabilities, to better manage its internal and external development processes and to create and enhance its software development tools and techniques, thereby enabling the Company to obtain greater efficiency and improved predictability in the software development process. Shiny. In 1995, in order to supplement its development capabilities and to obtain innovative software development talent, particularly in the development of software for video game consoles, the Company acquired a 91% interest in Shiny. Prior to the acquisition, David Perry, Shiny's President and founder, produced a number of highly successful interactive entertainment software titles, including CoolSpot, Aladdin, Earthworm Jim and Earthworm Jim II. Shiny recently completed MDK and currently has three original titles under development including Wild 9 and Messiah, which will be distributed worldwide by the Company under the Shiny label. Shiny's development group presently consists of approximately 25 people. International Development. The Company is building international development resources through Interplay Europe, whose software producers manage the efforts of local third party developers in European countries. Historically, the Company's international product development efforts have consisted primarily of the localization of existing Company products. The Company currently has several original products, including Earthworm Jim 3D and Crime Killer, under development through Interplay Europe. Interplay Europe's development group presently consists of approximately 20 people. EXTERNAL PRODUCT DEVELOPMENT In order to expand its product offerings to include hit titles created by third party developers, and to leverage its sales and distribution capabilities, the Company enters into publishing arrangements with third party developers, including foreign developers and publishers who wish to utilize the Company's sales and distribution network in North America. In the eight months ended December 31, 1997, and the former fiscal years ended April 30, 1997 and 1996, approximately 50%, 33% and 67%, respectively, of new products released by the Company which the Company believes are or will become franchise titles were developed by third party developers. In the three months ended March 31, 1998, six of the Company's seven new products released were developed by third party developers. The Company expects that the proportion of its new products which are developed externally may vary significantly from period to period as different products are released. The Company's focus in obtaining publishing products is to select titles that combine advanced technologies with creative game design. The publishing agreements usually provide the Company with the exclusive right to distribute a product on a worldwide basis (however, in certain instances the agreement provides for a specified territory). The Company typically funds external development through the payment of advances upon the completion of milestones, which advances are credited against royalties based on sales of the products. Further, the Company's publishing arrangements typically provide the Company with ownership of the trademarks relating to the product as well as exclusive rights to sequels to the product. The Company manages the production of external development projects by appointing a producer from one of its internal product development divisions to oversee the product's development and work with the third party developer to design, develop and test the game. 39 The Company believes this strategy of cultivating relationships with talented third party developers, such as the developers of Descent and TombRaider, provides an excellent source of quality products, and a number of the Company's commercially successful products have been developed under this strategy. However, the Company's reliance on third party software developers for the development of a significant number of its interactive software entertainment products involves a number of risks. See "Risk Factors-- Dependence on Third Party Software Developers." SALES AND DISTRIBUTION The Company's sales and distribution efforts are designed to broaden product distribution and to increase the penetration of the Company's products in domestic and international markets. The Company supplements its direct distribution efforts in North America with third party distributors and affiliate label relationships. Over the past several years, the Company has increased its sales and distribution efforts in international markets through the formation of Interplay Europe and through licensing and third party distribution strategies elsewhere. The Company also distributes its software products through Interplay OEM in bundling transactions with hardware and peripheral companies and through on-line services. North America. In North America, the Company sells its products primarily to mass merchants, warehouse club stores, large computer and software specialty retail chains and through catalogs. A majority of the Company's North American retail sales are to direct accounts, and a lesser percentage are to third party distributors. The Company's principal direct retail accounts include CompUSA, Best Buy, Electronics Boutique, Toys "R" Us, Wal-Mart and Kmart. The Company's principal distributors in North America include GT Interactive, Ingram Micro, Beam Scope and Merisel. The Company also distributes product catalogs and related promotional material to end-users who can order products by direct mail, by using a toll-free number, or by accessing the Company's web site. See "Risk Factors--Dependence on Distribution Channels; Risk of Customer Business Failures; Product Returns." The Company sells to retailers and distributors through its North American sales organization. The Company's North American sales force is largely responsible for generating retail demand for the Company's products by presenting new products to the Company's retail customers in advance of the products' scheduled release dates, by providing technical advice with respect to the Company's products and by working closely with retailers and distributors to sell the Company's products. The Company typically ships its products within a short period of time after acceptance of purchase orders from distributors and other customers. Accordingly, the Company typically does not have a material backlog of unfilled orders, and net sales in any quarter are substantially dependent on orders booked in that quarter. Any significant weakening in customer demand would therefore have a material adverse impact on the Company's operating results and on the Company's ability to maintain profitability. See "Risk Factors--Fluctuations in Operating Results; Uncertainty of Future Results; Seasonality." The Company seeks to extend the life cycle and financial return of many of its products by marketing those products differently along the product's sales life. Although the product life cycle for each title varies based on a number of factors, including the quality of the title, the number and quality of competing titles, and in certain instances seasonality, the Company typically considers a title as "back catalog" six months after its initial release. The Company utilizes marketing programs appropriate for the particular title, which generally include progressive price reductions over time to increase the product's longevity in the retail channel as the Company shifts its advertising support to newer releases. The Company introduced its Signature Series product line in 1996 to market its older titles in the under $15.00 price category. The Company has acquired the right to distribute certain products on an affiliate label basis whereby it distributes products that are produced and published by a third party and are marketed under the third party's name with the package bearing a notation that the product is being distributed by the Company. The Company's focus in obtaining affiliate label products is to select titles that complement the Company's product families. Products that are distributed through the Company's affiliate label program are generally purchased directly from the third party and sold based on a distribution mark- up. These products generally have a lower gross margin than internally and externally developed products. 40 The Company provides terms of sale comparable to competitors in its industry. In addition, the Company provides technical support in North America for its products through its customer support department and a 90-day limited warranty to end-users that its products will be free from manufacturing defects. While to date the Company has not experienced any material warranty claims, there can be no assurance that the Company will not experience material warranty claims in the future. See "Risk Factors--Dependence on Distribution Channels; Risk of Customer Business Failures; Product Returns." International. The Company, through Interplay Europe, employs approximately 15 persons dedicated to sales to the European market. Interplay Europe maintains relationships with distributors and retailers throughout the continent. For example, Interplay Europe has entered into an agreement with Infogrames U.K. and Virgin Interactive Entertainment Limited to pool resources in order to distribute PC and video game console software to independent software retailers in the United Kingdom, and has entered into distribution agreements with Acclaim Entertainment pursuant to which Acclaim Entertainment distributes certain of the Company's titles in selected European countries. Net revenues from such distribution agreements with Acclaim Entertainment represented 6.5%, 7.4%, 14.9% and 7.0% of the Company's net revenues in the three months ended March 31, 1998, the eight months ended December 31, 1997 and the Company's former fiscal years ended April 30, 1997 and 1996, respectively. In addition, Interplay Europe manages sales and distribution efforts in Central and Eastern Europe, the Near East, the Middle East, and Africa. The Company seeks to localize its products for the various international markets and intends to release localized versions of many of its products simultaneously with the commercial release of these titles in North America. The Company has built a distribution capability in certain of the developed markets in Asia and the Americas utilizing third party distribution arrangements for specified products and platforms. In 1995 the Company established operations in Japan in order to expand its Japanese sales. In July 1997, the Company initiated a licensing strategy in Japan and terminated its operations there. For example, the Company recently licensed a number of its titles to Sony Computer Entertainment to publish in Japan on the PlayStation. The Company has recently entered into an agreement with Electronic Arts Pty. Ltd. pursuant to which Electronic Arts has the exclusive right to market and distribute the Company's PC products in Australia and New Zealand, and an agreement with Roadshow Entertainment Pty. Ltd., pursuant to which Roadshow Entertainment Pty. Ltd. has the exclusive right to market and distribute the Company's video game console products in those countries. OEM. Interplay OEM employs approximately 20 people focused on the distribution of interactive entertainment software in bundling transactions to hardware and peripheral companies. Under these arrangements, one or more software titles, which are typically limited feature versions of the retail version of a game, are bundled with hardware or peripheral devices and are sold by the OEM so that the purchaser of the hardware device obtains the software on a discounted basis as part of the hardware purchase. In addition, Interplay OEM has established a development capability in order to create modified versions of titles which support its customers' technologies. Although it is customary for OEM customers to pay the Company a lower per unit price on sales through OEM bundling arrangements, such arrangements typically involve a high unit volume commitment to the Company. OEM net revenues generally are incremental net revenues and do not have significant additional product development or sales and marketing costs, and accordingly have a more significant impact on the Company's operating results. There can be no assurance, however, that OEM sales will continue to generate consistent profits for the Company, and a decrease in OEM sales or margins could have a material adverse effect on the Company's business, operating results and financial condition. In addition to distributing the Company's titles, Interplay OEM serves as the exclusive OEM distributor for a number of interactive entertainment software publishers, including LucasArts Entertainment Company, Microprose (Spectrum Holobyte) and Sales Curve Interactive Ltd. Interplay OEM's hardware customers include many of the industry's largest computer and peripheral manufacturers including IBM, Hewlett-Packard, Compaq, Apple Computer, NEC, Diamond Multimedia, Packard Bell, Creative Labs and Rockwell. The Company currently devotes seven employees to modifying existing Company products into suitable OEM products. On-Line Services. The Company has entered into an agreement with Games On- Line, Inc., doing business as Engage Games Online ("Engage"), an Internet/on- line games and entertainment company, pursuant to which 41 Engage modifies the Company's games to enable them to be offered as multi- player games on on-line services, such as America Online, and through a number of Internet access providers. Engage performs certain services which include modifying the Company's games, managing the on-line game site and chat areas and organizing activities and tournaments to promote the games. The agreement obligates Engage to pay the Company royalty fees based upon the revenue generated by the Company's games through subscriber fees, player use fees, advertising revenue, bounty fees and transaction fees. See "Certain Transactions--Engage Transactions." The Company's North American and international distribution channels are characterized by continuous change, including consolidation, financial difficulties of certain distributors and retailers, and the emergence of new distributors and new retailers such as warehouse chains, mass merchants and computer superstores. The Company is exposed to the risk of product returns and markdown allowances with respect to its distributors and retailers. The Company allows distributors and retailers to return defective, shelf-worn and damaged products in accordance with negotiated terms. The Company considers return requests on a case-by-case basis, taking into consideration factors such as the products involved, the customer's historical sales volume and the customer's credit status. The Company also offers a 90-day limited warranty to its end users that its products will be free from manufacturing defects. In addition, the Company provides markdown allowances, which consist of credits given to customers to lower the sales price of certain products in an effort to increase sales to its customers to help manage its customers' inventory levels in the distribution channel. Although the Company maintains a reserve for returns and markdown allowances, and although the Company manages its returns and markdown allowances through its authorization procedure, the Company could be forced to accept substantial product returns and provide markdown allowances to maintain its relationships with retailers and its access to distribution channels. The Company's reserve for returns and doubtful accounts was $14.5 million, $14.9 million and $9.1 million for the eight months ended December 31, 1997 and the Company's former fiscal years ended April 30, 1997 and 1996, respectively. Product returns and markdown allowances that exceed the Company's reserves could have a material adverse effect on the Company's business, operating results and financial condition. See "Risk Factors--Dependence on Distribution Channels; Risk of Customer Business Failures; Product Returns." MARKETING The Company's marketing department is organized into five product groups, mirroring the Company's five product development groups, to promote a focused marketing strategy and brand image for each product group. In addition, the marketing department has three functional groups (public relations, creative services and direct sales) that support the five product groups. The Company's marketing department develops and implements marketing programs and campaigns for each of the Company's titles and product groups. The Company's marketing activities in preparation for a product launch include print advertising, game reviews in consumer and trade publications, retail in- store promotions, attendance at trade shows and public relations. The Company sends direct and electronic mail promotional materials to its large database of gamers. The Company has also selectively used radio advertisements in connection with the introduction of certain of its products. The Company budgets a portion of each product's sales for cooperative advertising and market development funds with retailers. Every title and brand is launched with a multi-tiered marketing campaign that is developed on an individual basis to promote product awareness and customer pre-orders. The Company anticipates that over time, as the market for its products matures and competition becomes more intense, it will become necessary to devote more resources to marketing its products and the marketing costs for its products will increase accordingly. The Company uses on-line marketing primarily through the maintenance of several web sites. These sites provide news and information of interest to its customers through free demonstration versions, contests, games, tournaments and promotions. Also, to generate interest in new product introductions, the Company provides free demonstration versions of upcoming titles both through magazine cover mounts and through game samples that consumers can download from the Company's web site. 42 COMPETITION The interactive entertainment software industry is intensely competitive and is characterized by the frequent introduction of new hardware systems and software products. The Company's competitors vary in size from small companies to very large corporations with significantly greater financial, marketing and product development resources than those of the Company. Due to these greater resources, certain of the Company's competitors are able to undertake more extensive marketing campaigns, adopt more aggressive pricing policies, pay higher fees to licensors of desirable motion picture, television, sports and character properties and pay more to third party software developers than the Company. The Company believes that the principal competitive factors in the interactive entertainment software industry include product features, brand name recognition, access to distribution channels, quality, ease of use, price, marketing support and quality of customer service. The Company competes primarily with other publishers of PC and video game console interactive entertainment software. Significant competitors include Electronic Arts, GT Interactive Software Corp., Cendant Corporation, Activision, Inc., Microsoft Corporation, LucasArts Entertainment Company, Midway Games Inc., Acclaim Entertainment Inc., Microprose (Spectrum Holobyte), Virgin Interactive Entertainment, Inc. and Hasbro Inc. In addition, integrated video game console hardware/software companies such as Sony Computer Entertainment, Nintendo and Sega compete directly with the Company in the development of software titles for their respective platforms. Large diversified entertainment companies, such as The Walt Disney Company, many of which own substantial libraries of available content and have substantially greater financial resources than the Company, may decide to compete directly with the Company or to enter into exclusive relationships with competitors of the Company. The Company also believes that the overall growth in the use of the Internet and on-line services by consumers may pose a competitive threat if customers and potential customers spend less of their available home PC time using interactive entertainment software and more on the Internet and on- line services. Retailers of the Company's products typically have a limited amount of shelf space and promotional resources, and there is intense competition among consumer software producers, and in particular interactive entertainment software products, for high quality retail shelf space and promotional support from retailers. To the extent that the number of consumer software products and computer platforms increases, competition for shelf space may intensify and may require the Company to increase its marketing expenditures. Due to increased competition for limited shelf space, retailers and distributors are in an increasingly better position to negotiate favorable terms of sale, including price discounts, price protection, marketing and display fees and product return policies. The Company's products constitute a relatively small percentage of any retailer's sales volume, and there can be no assurance that retailers will continue to purchase the Company's products or to provide the Company's products with adequate levels of shelf space and promotional support, and a prolonged failure in this regard may have a material adverse effect on the Company's business, operating results and financial condition. See "Risk Factors--Industry Competition; Competition for Shelf Space." MANUFACTURING The Company's PC-based products consist primarily of CD-ROMs, user manuals and packaging. Substantially all of the Company's CD-ROM duplication is performed by unaffiliated third parties. Printing of the user manual and packaging, manufacturing of related materials and assembly of completed packages are performed to the Company's specifications by unaffiliated third parties. To date, the Company has not experienced any material difficulties or delays in the manufacture and assembly of its CD-ROM-based products, and has not experienced significant returns due to manufacturing defects. Sony Computer Entertainment and Nintendo manufacture the Company's products that are compatible with their respective video game consoles, as well as the manuals and packaging for such products, and ship finished products to the Company for distribution. PlayStation products consist of CD-ROMs and are typically delivered by Sony Computer Entertainment within a relatively short lead time. Manufacturers of Nintendo and other video game cartridges typically deliver software to the Company within 45 to 60 days after receipt of a purchase order. If the Company experiences unanticipated delays in the delivery of manufactured software products, its net sales and operating results could be materially adversely affected. Furthermore, the long manufacturing cycle 43 associated with video game cartridges requires that the Company forecast retailer and consumer demands for its manufactured titles further in advance of shipment than for PC-based products or PlayStation CD-ROMs. See "Risk Factors--Dependence on Licenses from and Manufacturing by Hardware Companies." INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS The Company holds copyrights on its products, product literature and advertising and other materials, and holds trademark rights in the Company's name, the Interplay logo, its "By Gamers. For Gamers.(TM)" slogan and certain of its product names and publishing labels. The Company does not currently hold any patents. The Company has licensed certain products to third parties for distribution in particular geographic markets or for particular platforms, and receives royalties on such licenses. The Company also outsources some of its product development to third party developers, contractually retaining all intellectual property rights related to such projects. The Company also licenses certain products developed by third parties and pays royalties on such products. See "--Product Development." The Company regards its software as proprietary and relies primarily on a combination of copyright, trademark and trade secret laws, employee and third party nondisclosure agreements and other methods to protect its proprietary rights. The Company owns or licenses various copyrights and trademarks. While the Company provides "shrinkwrap" license agreements or limitations on use with its software, the enforceability of such agreements or limitations is uncertain. The Company is aware that unauthorized copying occurs within the computer software industry, and if a significantly greater amount of unauthorized copying of the Company's interactive entertainment software products were to occur, the Company's operating results could be materially adversely affected. While the Company does not copy protect its products, it does not provide source code to third parties, unless they have signed nondisclosure agreements with respect thereto. The Company relies on existing copyright laws to prevent unauthorized distribution of its software. Existing copyright laws afford only limited protection. Policing unauthorized use of the Company's products is difficult, and software piracy can be expected to be a persistent problem, especially in certain international markets. Further, the laws of certain countries in which the Company's products are or may be distributed either do not protect the Company's products and intellectual property rights to the same extent as the laws of the U.S. or are weakly enforced. Legal protection of the Company's rights may be ineffective in such countries, and as the Company leverages its software products using emerging technologies, such as the Internet and on- line services, the ability of the Company to protect its intellectual property rights, and to avoid infringing the intellectual property rights of others, becomes more difficult. In addition, the intellectual property laws are less clear with respect to such emerging technologies. There can be no assurance that existing intellectual property laws will provide adequate protection to the Company's products in connection with such emerging technologies. As the number of software products in the interactive entertainment software industry increases and the features and content of these products further overlap, interactive entertainment software developers may increasingly become subject to infringement claims. Although the Company makes reasonable efforts to ensure that its products do not violate the intellectual property rights of others, there can be no assurance that claims of infringement will not be made. Any such claims, with or without merit, can be time consuming and expensive to defend. From time to time, the Company has received communication from third parties asserting that features or content of certain of its products may infringe upon the intellectual property rights of such parties. There can be no assurance that existing or future infringement claims against the Company will not result in costly litigation or require the Company to license the intellectual property rights of third parties, either of which could have a material adverse effect on the Company's business, operating results and financial condition. See "Risk Factors--Protection of Proprietary Rights." EMPLOYEES As of March 31, 1998, the Company had 501 full time employees, including 296 in product development, 120 in sales and marketing and 85 in finance, general and administrative. This includes 33 full time employees of 44 Shiny, 20 full time employees of Interplay OEM and 47 full time employees of Interplay Europe. The Company also retains independent contractors to provide certain services, primarily in connection with its product development activities. The Company and its full time employees are not subject to any collective bargaining agreements and the Company believes that its relations with its employees are good. From time to time the Company has retained actors and/or "voice over" talent to perform in certain of the Company's products, and the Company expects to continue this practice in the future. These performers are typically members of the Screen Actors Guild ("SAG") or other performers' guilds, which guilds have established collective bargaining agreements governing their members' participation in interactive media projects. The Company or an affiliated entity may be required to become subject to the jurisdiction of SAG's collective bargaining agreement, or some other applicable performers guild, with respect to the Company's development projects in the future in order to engage the services of performers in the development of the Company's products. FACILITIES The Company's headquarters are located in Irvine, California, where the Company leases approximately 101,325 square feet of office space. This lease expires in June 2006 and provides the Company with one five year option to extend the term of the lease and expansion rights, on an "as available basis," to approximately double the size of the office space. Interplay Europe leases approximately 10,000 square feet of space in Buckinghamshire, England. This lease expires, at Interplay Europe's option, either in November 2000 or in November 2005. Shiny leases approximately 4,100 square feet of space in Laguna Beach, California, which lease expires in October 1998 and which provides Shiny with an option to extend the term for an additional five years. The Company believes that its facilities are adequate for its current needs and that suitable additional or substitute space will be available in the future to accommodate expansion of the Company's operations. LEGAL PROCEEDINGS From time to time, the Company is involved in litigation relating to claims arising out of its operations in the normal course of business. As of the date of this Prospectus, the Company is not a party to any legal proceedings, the final outcome of which, in management's opinion, individually or in aggregate, would have a material adverse effect on the Company's business, operating results or financial condition. 45 MANAGEMENT DIRECTORS, EXECUTIVE OFFICERS AND CERTAIN SIGNIFICANT EMPLOYEES The following table sets forth certain information regarding the Company's directors and executive officers and certain significant employees, and their ages as of March 31, 1998:
NAME AGE POSITION WITH THE COMPANY ---- --- ------------------------- Brian Fargo............. 35 Chairman of the Board of Directors and Chief Executive Officer Christopher J. Kilpa- trick.................. 41 President and Director Richard S.F. Lehrberg... 50 Executive Vice President and Director James C. Wilson......... 48 Chief Financial Officer Steven "Chuck" Camps.... 38 Chief Operating Officer and Assistant Secretary Phillip G. Adam......... 44 Vice President of Business Development Kim Motika.............. 37 Vice President of Sales Patricia J. Wright...... 37 Vice President of Development Keven F. Baxter......... 38 Vice President of Corporate Affairs and General Counsel Peter A. Bilotta........ 43 President of Interplay Productions Limited Jill S. Goldworn........ 34 President of Interplay OEM, Inc. David Perry............. 30 President of Shiny Entertainment, Inc. David R. Dukes(1)(2).... 53 Director Charles S. Paul(2)...... 48 Director Mark Pinkerton(1)....... 37 Director Paul A. Rioux(1)(2)..... 52 Director
- -------- (1) Member of the Audit Committee of the Board of Directors. (2) Member of the Compensation Committee of the Board of Directors. Brian Fargo, Chairman of the Company's Board of Directors, founded the Company in 1983 and has served as the Company's chief executive officer since that time. Prior to June 1995, Mr. Fargo also served as the Company's President. Mr. Fargo also currently serves as a member of the Board of Directors of the Interactive Digital Software Association. Christopher J. Kilpatrick has served as President of the Company since June 1995, and served as Vice President and General Counsel of the Company from May 1994 to May 1995. From June 1990 to May 1994 Mr. Kilpatrick was a shareholder and member of Stradling Yocca Carlson & Rauth, counsel to the Company, and was a shareholder of such firm until September 1997. Mr. Kilpatrick currently serves as a director of several privately-held companies, including Masimo Corporation, a manufacturer of medical devices. Richard S.F. Lehrberg joined the Company as Vice President in November 1991 and has served as Executive Vice President of the Company since October 1994. Mr. Lehrberg served as a director of the Company since April 1989. Prior to joining the Company, from December 1988 to November 1991, Mr. Lehrberg served as President of Lehrberg Associates, an international licensing company. From August 1982 to November 1988, Mr. Lehrberg was employed by Activision, Inc., an interactive entertainment software publisher, in various positions, including Vice President and General Manager of the Entertainment Division. James C. Wilson joined the Company in August 1997 and has served as Chief Financial Officer of the Company since October 1997. Prior to joining the Company, from January 1996 to August 1997, Mr. Wilson served as Chief Financial Officer, Treasurer and Vice President of Administration of Cloud 9 Interactive Inc., a publisher and developer of educational and entertainment multi-media products. Between October 1993 and December 1995, Mr. Wilson served as Vice President--Finance and Chief Financial Officer of Applause Enterprises Inc., a worldwide distributor of gifts and toys. Between February 1992 and October 1993, Mr. Wilson served as a Finance Executive for Sega of America, a video game system manufacturer. 46 Steven "Chuck" Camps joined the Company in February 1993 and has served as Chief Operating Officer of the Company since June 1995 and as Assistant Secretary since October 1994. Mr. Camps served as Chief Financial Officer of the Company from February 1993 through October 1997. Mr. Camps served as a consultant to the Company from October 1992 to February 1993. Prior to consulting for the Company, Mr. Camps served as Chief Financial Officer of Pratt Industries (USA), Inc., a manufacturing and finance company. Prior to July 1987, Mr. Camps served as a Manager at Arthur Andersen & Co., a worldwide accounting firm. Phillip G. Adam joined the Company as Vice President of Sales and Marketing in December 1990 and has served as Vice President of Business Development of the Company since October 1994. Prior to joining the Company, from January 1984 to December 1990, Mr. Adam served as President of Spectrum Holobyte, an interactive entertainment software publisher, where he was a co-founder. From May 1990 to May 1996, Mr. Adam served as the Chairman or a member of the Board of Directors of the Software Publishers Association and, during part of such period, as President of the Software Publishers Association. From March 1997 to March 1998 Mr. Adam served as the Chairman of the Public Policy Committee of the Interactive Digital Software Association. Kim Motika joined the Company as National Sales Manager in November 1991, and was promoted to Vice President of Sales of the Company in October 1994. Prior to joining the Company, from May 1989 to October 1991, Ms. Motika served as a Sales Manager for Ashton-Tate, a software publisher, and served as Western Regional Vice President of Ingram Micro, a worldwide distributor of information technology products, from 1983 to 1988. Patricia J. Wright joined the Company as Vice President of Marketing of the Company in October 1995 and has served as Vice President of Development since June 1997. Prior to joining the Company, from April 1993 to October 1995, Ms. Wright served as Vice President of Marketing for Activision, Inc. and as Director of Marketing for the Barbie Products division of Mattel, Inc., a toy manufacturer, from January 1990 to April 1993. Keven F. Baxter joined the Company as Corporate Counsel in June 1995, was promoted to General Counsel in June 1996 and has served as Vice President of Corporate Affairs of the Company since October 1997. Prior to joining the Company, from 1988 to 1994, Mr. Baxter practiced corporate law in the Business and Technology Group of the law firm Brobeck, Phleger & Harrison. Peter A. Bilotta has served as President of Interplay Europe since August 1994. Prior to joining the Company, from January 1992 to July 1994, Mr. Bilotta served as Managing Director--Distributed Territories of Acclaim Entertainment Ltd., an entertainment software publisher. Mr. Bilotta also served as Managing Director and Chief Executive Officer of Arena Entertainment Inc., an interactive entertainment software publisher, from March 1991 to December 1991. Mr. Bilotta serves as a director of Interactive Media, Ltd., a privately-held interactive entertainment software developer, and Bizarre Love Triangle, a privately-held interactive entertainment software distributor. Jill S. Goldworn has served as President of Interplay OEM, Inc., the Company's OEM subsidiary, since December 1996. Prior to that, Ms. Goldworn served as Vice President, OEM and Merchandising of the Company since June 1995. Prior to that, Ms. Goldworn served as Director of the OEM division of the Company from September 1992 to June 1995. Prior to joining the Company, from November 1991 to August 1992, Ms. Goldworn served as Director of Contract Sales of PC Globe, Inc., a publisher of desktop geography software. David Perry has served as President of Shiny Entertainment, Inc. since October 1993. Mr. Perry founded Shiny, developer of Earthworm Jim, in October 1993. Prior to founding Shiny, from January 1991 to September 1993, Mr. Perry served as a consulting engineer for Virgin Interactive Entertainment Inc., an interactive entertainment software publisher. David R. Dukes was elected to serve as a director of the Company in March 1998. From September 1989 until his retirement in May 1998, Mr. Dukes was employed by Ingram Micro in various executive capacities, 47 including Acting President of Ingram Micro Asia-Pacific from May 1997 to May 1998, Chief Executive Officer of Ingram Alliance from January 1994 to May 1998, President of Ingram Micro from September 1989 to December 1991 and Chief Operating Officer of Ingram Micro from September 1989 to December 1993. Mr. Dukes currently serves as Vice Chairman of the Board of Directors of Ingram Micro. Charles S. Paul has served as a director of the Company since October 1994. Mr. Paul served as a member of the Compensation Committee from October 1994 to December 1995. Since March 1995, Mr. Paul has been employed by Sega GameWorks, a location-based entertainment company, and has served as the Chairman and Chief Executive Officer of Sega GameWorks L.L.C., a location-based entertainment software company, since March 1996. Mr. Paul previously served as Executive Vice President of Universal from December 1986 to March 1995. Mr. Paul is a director of National Golf Properties, Inc. and Entertainment Properties Trust, both real estate investment trusts. Mark Pinkerton has served as a director of the Company since March 1998. Mr. Pinkerton has served as a Senior Manager of Corporate Development and Strategic Planning for Universal since July 1996. From February 1995 to June 1996, Mr. Pinkerton was an independent consultant. Mr. Pinkerton was a Vice President in the Mergers and Acquisitions Department of the Investment Banking Division of Lehman Brothers Inc., an investment banking and stock brokerage firm, from August 1991 to January 1995. Paul A. Rioux has served as a director of the Company since July 1996. Mr. Rioux has served as President of Universal Studios New Media, Inc., a subsidiary of Universal, since April 1996. Previously, from November 1989 to April 1996, Mr. Rioux served as Executive Vice President of Sega of America. All members of the Board of Directors hold office until the next annual meeting of stockholders or until their successors are elected and qualified. The Bylaws do not permit removal of directors except for cause, unless approved by a two-thirds vote of the Company's stockholders. Officers serve at the discretion of the Board of Directors. Messrs. Pinkerton and Rioux were appointed as directors by Universal pursuant to its rights under the Shareholders' Agreement. See "Certain Transactions--Transactions With Fargo and Universal." BOARD COMMITTEES The Company has two standing committees of the Board of Directors: an Audit Committee and a Compensation Committee. The Audit Committee reviews the functions of the Company's management and independent auditors pertaining to the Company's financial statements and performs such other related duties and functions as are deemed appropriate by the Audit Committee and the Board of Directors. The Compensation Committee determines officer and director compensation and administers the Company's benefit plans. DIRECTOR COMPENSATION The Company's directors currently do not receive cash or equity compensation for attendance at Board of Directors or committee meetings. However, in the future, non-employee directors may receive compensation for attendance and may be reimbursed for certain expenses in connection with attendance at board and committee meetings. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION. The Compensation Committee currently consists of Messrs. Dukes, Paul and Rioux. No member of the Compensation Committee or executive officer of the Company has a relationship that would constitute an interlocking relationship with executive officers and directors of another entity. During 1997, decisions regarding executive compensation were made by the Compensation Committee of the Board of Directors, which then consisted of Messrs. Fargo, Kilpatrick and Rioux. Messrs. Fargo and Kilpatrick are directors, officers and employees of the Company. Mr. Rioux is an officer of Universal Studios New Media, Inc., a subsidiary of Universal, which has entered into various transactions with the Company. See "Certain Transactions--Transactions with Fargo and Universal." 48 EXECUTIVE COMPENSATION The following table sets forth certain information concerning compensation earned during the twelve months ended December 31, 1997 by the Company's Chief Executive Officer, each of the two other most highly compensated executive officers of the Company whose total salary and bonus during such year exceeded $100,000 (collectively, the "Named Executive Officers") and a selected executive officer. SUMMARY COMPENSATION TABLE
LONG-TERM ANNUAL COMPENSATION COMPENSATION AWARDS ----------------------- --------------------- SECURITIES NAME AND PRINCIPAL POSITION SALARY BONUS OTHER(1) UNDERLYING OPTIONS(#) - --------------------------- -------- ----- -------- --------------------- Brian Fargo....................... $237,500 $ -- $ -- -- Chief Executive Officer Christopher J. Kilpatrick......... 200,000 -- 4,750 20,000 President Richard S.F. Lehrberg............. 200,000 -- 4,792 -- Executive Vice President James C. Wilson................... (2) (2) (2) 50,000 Chief Financial Officer
- -------- (1) Consists of matching payments made under the Company's 401(k) plan. See "Employee Benefit Plans--401(k) Plan." (2) Mr. Wilson joined the Company in August 1997 at an annual base salary of $135,000. Although not a Named Executive Officer for the year ended December 31, 1997, the Company anticipates that he will so qualify in future years. OPTION MATTERS Option Grants. The following table sets forth certain information concerning stock options granted to the Named Executive Officers and a selected executive officer during the twelve months ended December 31, 1997. STOCK OPTION GRANTS DURING TWELVE MONTHS ENDED DECEMBER 31, 1997
POTENTIAL REALIZABLE VALUE AT ASSUMED ANNUAL RATES OF NUMBER OF PERCENT OF TOTAL STOCK PRICE SECURITIES OPTIONS APPRECIATION FOR UNDERLYING GRANTED TO EXERCISE OPTION TERM ($)(4) OPTIONS EMPLOYEES IN PRICE EXPIRATION --------------------- NAME GRANTED(1) FISCAL YEAR ($/SH)(2) DATE(3) 5% 10% - ---- ---------- ---------------- --------- ---------- ---------- ---------- Christopher J. Kilpatrick(5).......... 20,000 5.7% $8.00 07/17/07 $100,623 $254,999 James C. Wilson......... 50,000 14.3 8.00 07/17/07 251,558 637,497
- -------- (1) Represents options granted pursuant to the Company's 1997 Plan. All such options were granted at an exercise price equal to the fair market value of the Common Stock on the date of grant. All such options vest at the rate of 20% per year. (2) Subsequent to December 31, 1997, the Compensation Committee repriced all options granted at an exercise price of greater than $8.00 which were held by current employees of the Company or its wholly owned subsidiaries, including the options listed above, to an exercise price of $8.00. (3) Options granted to such individuals pursuant to the 1997 Plan expire 10 years from the date of grant. 49 (4) Represents amounts that may be realized upon exercise of the options immediately prior to expiration of their terms assuming appreciation of 5% and 10% over the option term. The 5% and 10% numbers are calculated based on rules required by the Securities and Exchange Commission (the " Commission") and do not reflect the Company's estimate of future stock price growth. The actual value realized may be greater or less than the potential realizable value set forth. (5) Pursuant to the terms of his employment contract, Mr. Kilpatrick's options granted prior to December 31, 1997 will be fully vested as of the closing of the Offering. See "Management--Employment Agreements." Recent Option Grants. In February 1998, the Company granted options to purchase an aggregate of 240,100 shares of Common Stock to certain officers and other employees of the Company, including Brian Fargo (150,000 shares) and Christopher J. Kilpatrick (20,000 shares). The options granted to Messrs. Fargo and Kilpatrick have an exercise price of $8.00 per share and vest over a period of five years from the date of grant. Option Exercises and Year-End Option Values. Shown below is information relating to the exercise of stock options during the twelve months ended December 31, 1997 for each of the Named Executive Officers and a selected executive officer, and the year-end value of unexercised options. AGGREGATE OPTION EXERCISES AND 1997 YEAR-END OPTION VALUES
NUMBER OF SECURITIES VALUE OF UNDERLYING UNEXERCISED IN-THE- UNEXERCISED OPTIONS MONEY OPTIONS AT AT YEAR-END YEAR-END(1) SHARES ACQUIRED (EXERCISABLE/ (EXERCISABLE/ NAME ON EXERCISE VALUE REALIZED UNEXERCISABLE) UNEXERCISABLE) - ---- --------------- -------------- -------------------- ------------------- Brian Fargo............. -- -- 0/ 0 -- Richard S.F. Lehrberg... -- -- 572,874/ 0 $5,068,216/ $ 0 Christopher J. Kilpa- trick.................. -- -- 251,528/ 0 1,076,647/ 0 James C. Wilson......... -- -- 0/ 50,000 0/ 50,000
- -------- (1) Represents an amount equal to the difference between the assumed initial public offering price of $9.00 per share and the option exercise price, multiplied by the number of unexercised in-the-money options. Reflects on a retroactive basis the repricing of certain options held by Messrs. Kilpatrick and Wilson to an exercise price of $8.00 per share subsequent to December 31, 1997. EMPLOYEE BENEFIT PLANS Stock Incentive Plans. The Company has granted options under three stock option plans. The Interplay Productions Incentive Stock Option, Nonqualified Stock Option and Restricted Stock Purchase Plan--1991 (the "1991 Plan") was adopted by the Board of Directors and stockholders of the Company in March 1992, the Interplay Productions 1994 Incentive Stock Option and Nonqualified Stock Option Plan (the "1994 Plan") was adopted by the Board of Directors and stockholders of the Company in March 1994 and the Interplay Productions 1997 Stock Incentive Plan (the "1997 Plan" and, together with the 1991 Plan and the 1994 Plan, the "Plans") was adopted by the Board of Directors and stockholders of the Company in January 1997. The Plans have been amended from time to time. The 1991 Plan and the 1994 Plan were terminated by the Board of Directors for purposes of future grants in March 1998. The Company believes that its equity compensation program is an important element of the overall compensation package which it can offer to attract and retain employees and that it represents a competitive advantage over certain competitors. The Company anticipates that it will be necessary in the future to grant options to attract key personnel, to retain its existing employees and, where appropriate, as part of strategic acquisition opportunities. See "Risk Factors--Dilution." The Plans are administered by the Board of Directors, unless the Board of Directors delegates such authority to a committee composed of members of the Board of Directors (hereinafter referred to collectively as the "Board"). Subject to certain limitations set forth in the Plans, the Board has the authority (i) to select the persons to whom rights under the Plans (the "Awards") will be granted, (ii) to determine whether an Award will be an 50 incentive stock option within the meaning of Section 422 of the Internal Revenue Code (an "ISO"), an option that does not qualify as an ISO (a "Nonqualified Stock Option," and together with ISOs, the "Options"), a right to purchase restricted stock (a "Right to Purchase") under either the 1991 Plan or the 1997 Plan, or a combination of the foregoing, and (iii) to specify the type of consideration to be paid to the Company upon the exercise of an Award. All employees, directors, consultants, advisors or other independent contractors of the Company or of any present or future parent or subsidiary corporation of the Company are eligible to participate in the Plans. Any eligible person may be granted a Nonqualified Stock Option or a Right to Purchase under either the 1991 Plan or the 1997 Plan, but only employees may be granted ISOs under the Plans. As of March 31, 1998, an aggregate of 898,425, 639,984 and 2,219,891 shares of the Company's Common Stock were authorized pursuant to the 1991 Plan, 1994 Plan and the 1997 Plan, respectively, of which, 302,198, 638,784, and 539,350 shares, respectively, were subject to currently outstanding Options. The 1991 Plan and 1994 Plan were terminated for purposes of future grants in March 1998. As of March 31, 1998, an aggregate of 1,680,541 shares of Common Stock were available for grant under the 1997 Plan. No shares of the Company's Common Stock have been issued pursuant to Rights to Purchase under any of the Plans. In addition, 572,874 shares are subject to non-statutory options granted outside the Company's stock option plans. To the extent any outstanding Award expires or terminates prior to exercise in full or if shares issued upon exercise of an Award are repurchased by the Company, the unexercised portion of such Award or the repurchased shares are returned to the pool of shares reserved under the 1997 Plan and will thereafter be available for grant or offer under the 1997 Plan. The exercise price per share of an ISO under the 1997 Plan must equal at least the fair market value of a share of the Company's Common Stock on the date of grant. However, the exercise price per share of any ISO granted to a person who at the time of grant owns stock possessing more than ten percent of the total combined voting power of all classes of stock of the Company or any parent or subsidiary corporation of the Company must be at least 110% of the fair market value of a share of the Company's Common Stock on the date of grant. The exercise price per share of Nonqualified Stock Options granted under the 1997 Plan must be at least 85% of the fair market value of a share of the Company's Common Stock on the date of grant. In no event shall any person receive options or Rights to Purchase under the 1997 Plan in any one calendar year pursuant to which the aggregate number of shares of Common Stock that may be acquired thereunder exceeds 500,000 shares. Employee Stock Purchase Plan. The Company's Employee Stock Purchase Plan (the "Purchase Plan"), covering an aggregate of 200,000 shares of Common Stock, was adopted by the Board of Directors and approved by the Company's stockholders in March 1998. The Purchase Plan, which is intended to qualify as an "employee stock purchase plan" under Section 423 of the Internal Revenue Code of 1986, as amended (the "Code"), will be implemented by twelve-month offerings with purchases occurring at six-month intervals commencing on the date of this Prospectus. The Purchase Plan will be administered by the Board of Directors. The Purchase Plan permits eligible employees to purchase Common Stock through payroll deductions, which may not exceed 15% of an employee's compensation. The price of stock purchased under the Purchase Plan will be 85% of the lower of the fair market value of the Common Stock at the beginning of the offering period or on the applicable purchase date. 401(k) Plan. The Company maintains a defined contribution retirement plan with a cash or deferred arrangement as described in Section 401(k) of the Code (the "401(k) Plan"). The 401(k) Plan is intended to be qualified under Section 401(a) of the Code. All employees of the Company are eligible to participate in the 401(k) Plan on the first day of the plan year or the first day of the seventh month of the plan year, whichever first occurs, following completion of one year of service with the Company. The 401(k) Plan provides that each participant may make elective contributions up to 15% of his or her compensation, subject to statutory limits. The Company also provides a 50% matching contribution, up to six percent of an employee's compensation, subject to statutory limits. Under the terms of the 401(k) Plan, allocation of the matching contribution is integrated with Social Security, in accordance with applicable non-discrimination rules under the Code. 51 EMPLOYMENT AGREEMENTS The Company has entered into an employment agreement with Brian Fargo for a term of five years commencing March 1994, pursuant to which he currently serves as Chairman of the Board of Directors and Chief Executive Officer of the Company. The employment agreement provides for a base salary of $250,000 per year, with such annual raises as may be approved by the Board of Directors, plus annual bonuses at the discretion of the Board of Directors. In the event that Mr. Fargo is terminated without cause or resigns for good reason as set forth in the agreement, the Company is required to pay Mr. Fargo 150% of his base salary and 75% of his imputed annual bonuses for the remainder of the term of the agreement, which payments are contingent upon Mr. Fargo's non-competition with the Company, as defined in the agreement. Mr. Fargo is also entitled to participate in the incentive compensation and other employee benefit plans established by the Company from time to time. The Company has entered into an employment agreement with Christopher J. Kilpatrick for a term of five years commencing May 1994, pursuant to which he currently serves as President of the Company. The employment agreement provides for a base salary of $157,200 per year, with annual raises determined by the Board of Directors of not less than ten percent per year, plus annual bonuses at the discretion of the Board of Directors. In the event Mr. Kilpatrick is terminated by the Company at any time for any reason, or in the event Mr. Kilpatrick terminates his employment on or before November 14, 1998 for good reason as defined in the agreement, or after November 14, 1998 for any reason, the Company is required to pay Mr. Kilpatrick 150% of his base salary and 75% of his imputed annual bonuses for 12 months following such termination, which payments are contingent upon Mr. Kilpatrick's non- competition with the Company, as set forth in the agreement. In addition, in the event Mr. Kilpatrick is terminated without cause or resigns for good reason as defined in the agreement, all stock options held by Mr. Kilpatrick will vest to the extent they would have vested through the end of the term of the agreement. In June 1995, following a change in control of the Company as defined in the agreement, all of the stock options then held by Mr. Kilpatrick automatically vested. Upon the closing of the Offering, the options granted Mr. Kilpatrick in 1997 will automatically vest. Mr. Kilpatrick is also entitled to participate in the incentive compensation and other employee benefit plans established by the Company from time to time. The Company has entered into an employment agreement with Richard S.F. Lehrberg for a term of five years commencing March 1994, pursuant to which he currently serves as Executive Vice President of the Company. The employment agreement provides for a base salary of $200,000 per year, with annual raises as approved by the Board of Directors. Mr. Lehrberg is also entitled to an annual bonus based on the achievement of goals and objectives agreed upon by the Board of Directors and Mr. Lehrberg, up to a maximum of $134,000 per year. In 1994 and 1995, Mr. Lehrberg agreed to defer the receipt of bonuses in the amounts of $120,000 and $34,000, respectively, payable under the agreement, and such accrued bonuses will be paid following the closing of the Offering. In the event Mr. Lehrberg is terminated without cause or resigns for good reason as set forth in the agreement, the Company is required to pay Mr. Lehrberg 150% of his base salary and 75% of his imputed annual bonuses for the remainder of the term of the agreement, which payments are contingent upon Mr. Lehrberg's non-competition with the Company, as defined in the agreement. Mr. Lehrberg is also entitled to participate in the incentive compensation and other employee plans established by the Company from time to time. LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS The Company's Bylaws provide that the Company will indemnify its directors and officers and may indemnify its employees and other agents to the fullest extent permitted by the General Corporation Law of the State of Delaware (the "DGCL"). The Company believes that indemnification under its Bylaws covers at least negligence and gross negligence by indemnified parties, and permits the Company to advance litigation expenses in the case of stockholder derivative actions or other actions, against an undertaking by the indemnified party to repay such advances if it is ultimately determined that the indemnified party is not entitled to indemnification. Prior to the closing of the Offering, the Company expects to have in place liability insurance for its officers and directors. In addition, the Company's Certificate of Incorporation provides that, pursuant to the DGCL, its directors shall not be liable for monetary damages for breach of the directors' fiduciary duty to the Company and its 52 stockholders. This provision in the Certificate of Incorporation does not eliminate the directors' fiduciary duty, and in appropriate circumstances equitable remedies such as injunctive or other forms of non-monetary relief will remain available under the DGCL. In addition, each director will continue to be subject to liability for breach of the director's duty of loyalty to the Company, for acts or omissions not in good faith or involving intentional misconduct, for knowing violations of law, for actions leading to improper personal benefit to the director and for payment of dividends or approval of stock repurchases or redemptions that are unlawful under the DGCL. The provision also does not affect a director's responsibilities under any other law, such as the federal securities laws or state or federal environmental laws. The Company has entered into separate indemnification agreements with its directors and officers. These agreements require the Company, among other things, to indemnify them against liabilities that may arise by reason of their status or service as directors or officers (other than liabilities arising from actions not taken in good faith or in a manner the indemnitee believed to be opposed to the best interests of the Company), and to advance their expenses incurred as a result of any proceeding against them as to which they could be indemnified. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers or persons controlling the Company pursuant to the foregoing provisions, the Company has been informed that in the opinion of the Commission, such indemnification is against public policy as expressed in the Securities Act and is therefore unenforceable. The Company believes that its Certificate of Incorporation and Bylaw provisions and indemnification agreements are necessary to attract and retain qualified persons as directors and officers. 53 PRINCIPAL STOCKHOLDERS The following sets forth certain information concerning the beneficial ownership of the Company's outstanding Common Stock as of March 31, 1998 for (i) each person (or group of affiliated persons) who is known by the Company to own beneficially five percent or more of the Company's Common Stock, (ii) each director of the Company, (iii) each of the Named Executive Officers, and (iv) all directors and executive officers of the Company as a group.
PERCENTAGE OF OUTSTANDING SHARES OWNED ------------------------------ SHARES BENEFICIALLY BEFORE AFTER NAME AND ADDRESS OF BENEFICIAL OWNER OWNED(1)(2) OFFERING OFFERING(3) - ------------------------------------ ------------ ------------ -------------- Universal Studios, Inc.(4)....... 5,408,216 49.4% 29.1% Mark Pinkerton(5) Paul A. Rioux(5) 100 Universal City Plaza Universal City, CA 91608 Brian Fargo(6)................... 4,922,897 45.0 28.2 16815 Von Karman Avenue Irvine, CA 92606 Christopher J. Kilpatrick(7)..... 251,628 2.3 1.4 Richard S. F. Lehrberg(8)........ 574,557 5.0 3.3 James C. Wilson.................. -- -- -- Charles S. Paul.................. -- -- -- David R. Dukes................... -- -- -- All Directors and Executive Offi- cers as a Group (7 persons)(9).................. 11,157,298 94.7% 59.4%
- -------- (1) Beneficial ownership is determined in accordance with the rules of the Commission and generally includes voting or investment power with respect to securities. Shares of Common Stock subject to options currently exercisable, or exercisable within 60 days of May 1, 1998, are deemed outstanding for computing the percentage of the person holding such options but are not deemed outstanding for computing the percentage of any other person. Except as indicated by footnote and subject to community property laws where applicable, the persons named in the table have sole voting and investment power with respect to all shares of Common Stock shown as beneficially owned by them. (2) Excludes shares which will be issued to such persons upon the closing of the Offering pursuant to the conversion of Subordinated Secured Promissory Notes and Common Stock Warrants held by such persons at an exercise price of $6.30 per share (based on an assumed initial public offering price of $9.00 per share), as follows: Brian Fargo (317,460 shares), Christopher J. Kilpatrick (15,873 shares) and Richard S.F. Lehrberg (47,619 shares). See "Description of Capital Stock--Common Stock Warrants." (3) The percentages indicated reflect the issuance of 1,388,700 shares upon the closing of the Offering pursuant to the exercise of Common Stock Warrants by the cancellation of Subordinated Secured Promissory Notes at an exercise price based on an assumed initial public offering price of $9.00 per share. See "Description of Capital Stock--Common Stock Warrants." (4) Universal has granted the Underwriters' 30-day option to purchase up to 937,500 shares to cover over-allotments, if any. If such option is exercised in full, following the completion of the Offering Universal will beneficially own 4,470,716 shares, or 24.1%, of the Company's Common Stock. (5) Messrs. Pinkerton and Rioux, who are employees of Universal or its subsidiaries and have been appointed as directors by Universal, disclaim beneficial ownership of the shares held by Universal. (6) Does not include 5,408,216 shares held by Universal, as to which Mr. Fargo may be deemed to have beneficial ownership due to certain contractual rights held by Mr. Fargo, as such rights terminate upon the closing of the Offering. See "Certain Transactions--Transactions with Fargo and Universal." (7) Includes 251,528 shares subject to options exercisable within 60 days of May 1, 1998. (8) Includes 572,874 shares subject to options exercisable within 60 days of May 1, 1998. (9) Includes 824,402 shares subject to options exercisable within 60 days of May 1, 1998. 54 CERTAIN TRANSACTIONS TRANSACTIONS WITH FARGO In April 1991, Brian Fargo, the Chief Executive Officer and Chairman of the Board of Directors of the Company, loaned $536,375 to the Company, evidenced by a promissory note due April 30, 1996, which note was subsequently converted into a demand note. The note provides that interest accrues at a rate of nine percent per year with accrued interest paid on a semi-annual basis. As of December 31, 1997, the loan balance was $16,107. Prior to moving to its current business location in August 1996, the Company occupied premises owned by Mr. Fargo consisting of approximately 22,792 square feet located at 17922 Fitch Avenue, Irvine, California, pursuant to a Lease Agreement, dated March 1, 1994, between the Company and Mr. Fargo, which had a term extending through December 31, 2002 and provided for monthly rent of $19,125, subject to increase in accordance with the Consumer Price Index. The Company entered into a restated Lease Agreement with Mr. Fargo in October 1996. When the Company relocated to its present location in August 1996, Interplay subleased such premises to Engage pursuant to a Sublease Agreement dated October 1, 1996, and the Company concurrently executed an agreement with Engage pursuant to which the Company subleased 5,000 square feet of specialized audio facilities from Engage, on the same terms, until December 1997. In December 1997, Engage entered into a direct lease with the owner of such property and all leases and subleases involving the Company were terminated. TRANSACTIONS WITH FARGO AND UNIVERSAL The Company, Mr. Fargo and Universal entered into a Stock Purchase Agreement, dated January 25, 1994, for the purchase of Common Stock. On March 30, 1994, pursuant to the Stock Purchase Agreement, Universal purchased 1,824,897 shares of Common Stock from the Company for a purchase price of $15 million and 1,216,598 shares of Common Stock from Mr. Fargo for a purchase price of $10 million. Pursuant to the Stock Purchase Agreement, the Company, Mr. Fargo and Universal entered into an Option Agreement, dated March 30, 1994, pursuant to which Mr. Fargo granted Universal an option to purchase additional shares of Common Stock held by Mr. Fargo. Pursuant to such Agreement, Universal purchased 1,216,598 additional shares of Common Stock from Mr. Fargo at a price of $9.10 per share on April 25, 1995 and 1,150,123 additional shares of Common Stock at a price of $14.62 per share on April 26, 1996, such that Universal became a 35% owner of the Company as of April 25, 1995 and a 45% owner of the Company as of April 26, 1996. In order to acquire sufficient shares of Common Stock for sale to Universal on each of the three sale dates, Mr. Fargo acquired such number of shares as was required for sale to Universal from existing shareholders of the Company in simultaneous transactions. Pursuant to the Stock Purchase Agreement, the Company, Mr. Fargo and Universal entered into a Shareholders' Agreement dated March 30, 1994, as amended October 8, 1996 and in March 1998, which contains certain restrictions on transfer of shares, rights of first refusal, voting provisions, registration rights and certain restrictions on corporate actions. Only the mutual rights of first refusal as between Universal and Mr. Fargo and the registration rights of Universal and Mr. Fargo will survive the closing of the Offering. See "Description of Capital Stock--Registration Rights." For his services in connection with such transaction, Mr. Fargo was awarded a bonus of $1.0 million by the Board of Directors on March 28, 1994. Mr. Fargo has agreed to defer the payment of such bonus to a future date. The Company has entered into three Merchandising License Agreements with MCA/Universal Merchandising Inc., a subsidiary of Universal. Pursuant to an agreement dated May 23, 1994, the Company has the exclusive right to use the theme and characters of the Waterworld motion picture in software products for specified platforms until July 31, 1998. Pursuant to an agreement dated May 23, 1994, the Company has the non-exclusive right to use the theme and characters of the Casper motion picture in software products for specified platforms for a period of three years following the release of such motion picture. Pursuant to an agreement dated April 16, 1996, the Company has the exclusive right to the theme and characters of the Flipper motion picture for an interactive story book product on specified platforms until June 1, 2001. Each of the agreements provide for the Company to pay specified advances against royalties and for specified royalty 55 guarantees. To date, the Company has paid a total of $0.5 million, $0.3 million and $30,000, respectively, in advances and royalty payments under such agreements. In addition, pursuant to a letter agreement dated September 27, 1996, with Universal Interactive Studios, a subsidiary of Universal ("UIS"), the Company has the exclusive distribution rights in North America for PlayStation versions of Disruptor (the "Disruptor Agreement"), plus the exclusive rights to manufacture, publish and distribute Disruptor on any video game platform outside of North America. Currently, approximately $1.9 million is due UIS pursuant to the Disruptor Agreement, of which $1.5 million will be paid to UIS upon the closing of the Offering. On August 16, 1995, the Company and UIS entered into an exclusive distribution agreement pursuant to which UIS agreed to distribute the Company's interactive software products in Europe through UIS's affiliate, MCA Home Video, Inc., which in turn distributes through Cinema International Corporation ("CIC"). The distribution agreement was subsequently terminated, and the Company and UIS/CIC are currently negotiating a final accounting reconciliation to determine the amounts owed to the Company. In December 1996 UIS, on behalf of CIC, paid $300,000 to the Company as an interim payment pending the resolution of the final accounting reconciliation. The Company issued a promissory note to UIS dated December 20, 1996 in the principal amount of $300,000 (the "Advance Note") evidencing the interim payment made to the Company. The Advance Note is guaranteed by Interplay Europe, does not bear interest and was payable on March 31, 1997. In March 1998, the Company entered into an agreement with UIS whereby the Company agreed to pay to UIS all net amounts owed to UIS under the Disruptor Agreement and the Company and UIS agreed to work together to determine the final amount, if any, due to Interplay to resolve such accounting dispute and to pay any amounts found to be owing to the other party in connection therewith. Mark Pinkerton and Paul A. Rioux, directors of the Company, are employees of Universal or its subsidiaries. ENGAGE TRANSACTIONS In June 1995, the Company formed a subsidiary to divest Engage, which formerly operated as a division of the Company. Pursuant to a Stock Purchase Agreement dated June 30, 1995, the Company sold 10,000,000 shares of common stock of Engage to Mr. Fargo for $237,000. In connection with such sale, the Company and Mr. Fargo entered into an Option Agreement dated June 30, 1995, granting the Company an option to repurchase all of such shares at an aggregate exercise price of $337,000 at any time prior to June 30, 2005 (the "Termination Date"). In conjunction with a financing agreement between Engage and Mr. Fargo, the Option Agreement was amended in March 1998 to reduce the shares subject to such option to 19% of the shares held by Mr. Fargo and to reduce the exercise price to $250,000. In the event the Company elects not to exercise its option to repurchase the shares, upon certain events Universal has an option to purchase the shares at the same exercise price. If Universal exercises its option to purchase the shares, the Company has an option to purchase such shares from Universal at the $250,000 exercise price until the Termination Date. Prior to March 1996, the Company loaned Engage approximately $1.8 million to fund the operations of Engage, which debt was evidenced by a convertible demand promissory note dated March 29, 1996, bearing interest at the prime rate plus two percent per annum. Approximately, $0.8 million of the principal amount was repaid to the Company in a number of installments during 1996 and 1997. In connection with a secured debt financing in August 1997, the remaining outstanding principal of approximately $1.0 million was converted into a secured convertible promissory note due in August 1998, bearing interest at a rate of eight percent per annum. As part of the August 1997 transaction, the Company loaned an additional $100,000 to Engage on the same terms. In March 1996, the Company entered into an agreement with Engage which, among other things, provides that the Company will provide certain administrative services to Engage, and grants Engage the exclusive right to use certain of the Company's products in Internet-based on-line services. Engage currently owes the Company approximately $300,000 in connection with such agreement. FINANCING TRANSACTIONS In October 1996, the Company sold an aggregate of $2,400,000 in Subordinated Secured Promissory Notes and Common Stock Warrants to Brian Fargo ($2,000,000), Richard S.F. Lehrberg ($300,000) and 56 Christopher J. Kilpatrick ($100,000). The Secured Subordinated Promissory Notes bear interest at a rate of 12% per annum. Messrs. Fargo, Lehrberg and Kilpatrick elected to receive 11,688, 1,683 and 100 shares of Common Stock, respectively, in lieu of the May 1997 interest payment due under the Secured Subordinated Promissory Notes, at a price of $11.25 per share. In February 1998, the Company offered to amend the terms of such Notes and Warrants to permit the exercise of the Warrants or the repayment of the Notes upon the closing of this Offering whether or not this Offering constitutes a Qualified Event (as defined in the Notes and Warrants). Messrs. Fargo, Lehrberg and Kilpatrick have elected to exercise such Warrants for 317,460, 47,619 and 15,873 shares of Common Stock, respectively, by canceling such Notes effective upon the closing of the Offering at an exercise price of $6.30 per share (based upon an assumed initial public offering price of $9.00 per share). See "Description of Capital Stock--Common Stock Warrants." OTHER TRANSACTIONS In March 1998, the Company entered into Indemnification Agreements with all of its directors and executive officers providing for indemnification of such persons by the Company in certain circumstances. See "Management--Limitation of Liability and Indemnification Matters." David R. Dukes, a director of the Company, is an officer and director of Ingram Micro, a customer of the Company. During the eight months ended December 31, 1997 and the three months ended March 31, 1998, the Company derived net revenues of $2.4 million and $1.3 million, respectively, from sales to Ingram Micro. See "Business--Sales and Distribution." Until September 1997, Christopher J. Kilpatrick, an officer and director of the Company, was a shareholder of Stradling Yocca Carlson & Rauth, counsel to the Company. The Company has entered into Employment Agreements with certain executive officers. See "Management--Employment Agreements." 57 DESCRIPTION OF CAPITAL STOCK Upon the completion of the Offering, the authorized capital stock of the Company will consist of 50,000,000 shares of Common Stock, $.001 par value, and 5,000,000 shares of Preferred Stock, $.001 par value. COMMON STOCK As of March 31, 1998, there were 10,953,028 shares of Common Stock issued and outstanding and held by 17 stockholders of record and 2,053,206 shares of Common Stock reserved for issuance upon the exercise of stock options outstanding under the Company's 1991 Plan, 1994 Plan, 1997 Plan and non- statutory stock options granted outside the Company's plans. The outstanding shares of Common Stock are fully paid and nonassessable. The Company's Certificate of Incorporation provides that holders of Common Stock are entitled to one vote for each share on all matters submitted to a vote of stockholders, provided that, with respect to the election of directors, stockholders shall be entitled to cumulate their votes whereby each stockholder will have a number of votes equal to the number of shares held multiplied by the number of directors to be elected. In addition, with respect to the election of directors, certain preferential voting rights will exist until the closing of the Offering. See "Certain Transactions--Transactions with Fargo and Universal." The Certificate of Incorporation of the Company provides that the authorized number of directors shall be between seven and nine, with the exact number fixed at seven until changed by unanimous vote of the Board of Directors. Subject to the preference in dividend rights of any series of Preferred Stock which the Company may issue in the future, the holders of Common Stock are entitled to receive such cash dividends, if any, as may be declared by the Board of Directors out of legally available funds. Upon liquidation, dissolution or winding up of the Company, after payment of all debts and liabilities and after payment of the liquidation preferences of any shares of Preferred Stock then outstanding, the holders of the Common Stock will be entitled to all assets that are legally available for distribution. Other than the rights described above, the holders of Common Stock have no preemptive subscription, redemption, sinking fund or conversion rights and have equal rights and preferences. The rights and preferences of holders of Common Stock will be subject to the rights of any series of Preferred Stock which the Company may issue in the future. PREFERRED STOCK The Board of Directors has the authority, without further action by the stockholders, to issue up to 5,000,000 shares of Preferred Stock, $.001 par value, in one or more series and to fix the rights, preferences and privileges thereof, including voting rights, terms of redemption, redemption prices, liquidation preference and number of shares constituting any series or the designation of such series. The rights of the holders of the Common Stock will be subject to, and may be adversely affected by, the rights of the holders of any Preferred Stock that may be issued in the future. The issuance of Preferred Stock could have the effect of making it more difficult for a third party to acquire a majority of the outstanding voting stock of the Company, thereby delaying, deferring or preventing a change in control of the Company. Furthermore, such Preferred Stock may have other rights, including economic rights senior to the Common Stock, and, as a result, the issuance thereof could have a material adverse effect on the market value of the Common Stock. The Company has no present plans to issue shares of Preferred Stock. COMMON STOCK WARRANTS In connection with its subordinated debt financing in October 1996 through February 1997, the Company issued and sold certain Common Stock Warrants (the "Warrants") to purchasers of its Subordinated Secured Promissory Notes (the "Notes"), at a price equal to one percent of the purchaser's total investment in the Notes and Warrants. The Company sold an aggregate of $14,803,000 of such Notes and Warrants. The Warrants entitle the Warrant holder to purchase, by surrender of such holder's Note, up to that number of shares of Common Stock equal to the quotient determined by dividing the purchaser's aggregate investment in the Notes and Warrants by the Exercise Price (as defined below), rounded to the nearest whole number of shares. The 58 "Exercise Price" per share of Common Stock under the Warrants is the product of 0.70 multiplied by either of the following amounts, as applicable: (i) in the event of a Qualified IPO (as defined in the Warrants), the initial public offering price of Common Stock; or (ii) in the event of a Sales Transaction (as defined in the Warrants), the fair market value per share of the Company's Common Stock as established in such Sales Transaction or, if no such price is established, as determined in good faith by the Board of Directors. In February 1998, the Company offered to amend the terms of each holder's Note and Warrant to permit such holder to exercise its Warrant upon the closing of the Offering whether or not the Offering constitutes a Qualified IPO, and offered each holder the option to either exercise its Warrant effective upon the closing of the Offering or to have its Note repaid following the closing of the Offering. Holders of an aggregate amount of $8,748,808 of the Notes and Warrants elected to exercise their Warrants, and 1,388,700 shares of Common Stock will be issued to such holders upon the closing of the Offering at an exercise price of $6.30 per share (based on an assumed initial public offering price of $9.00). Holders of $5,993,650 in principal amount of the Notes elected to have their Notes repaid out of the proceeds of the Offering. See "Use of Proceeds." REGISTRATION RIGHTS The Shareholders' Agreement provides each of Universal and Brian Fargo with certain registration rights with respect to their respective shares of the Common Stock of the Company. Pursuant to the terms of the Shareholders' Agreement, each of Universal and Mr. Fargo have four demand registrations, whereby such party may require the Company to register not less than 1,000,000 shares of the Common Stock owned by such party, subject to certain conditions and restrictions contained therein. Each of Universal and Mr. Fargo also have unlimited piggyback registrations whereby they are entitled to be notified of and participate in registrations of the Company's Common Stock initiated by the Company or a third party, subject to certain conditions and restrictions. The Company has also agreed to indemnify and hold harmless the stockholders who are a party to the Shareholders' Agreement and the officers and directors of Universal from any loss, claim or damage arising from such registrations unless, and to the extent that, such loss, claim or damage arises out of or is based upon an untrue statement, alleged untrue statement or omission or alleged omission made in reliance upon and in conformity with written information furnished by or on behalf of such party for use in the preparation of the documents related to the registration. The Company and the holders of the Warrants have entered into an Investors Rights Agreement, as amended ("Investors Rights Agreement") which provides such holders with certain registration rights with respect to the shares of Common Stock issuable upon exercise of the Warrants. Pursuant to the terms of the Investors Rights Agreement, the Warrant holders have one demand registration, whereby the holders of a majority of the shares of Common Stock issuable upon exercise of the Warrants may require the Company to register the shares of Common Stock owned by such parties, subject to certain conditions and restrictions. In addition, the Investors Rights Agreement provides the Warrant holders certain piggyback registration and S-3 registration rights, subject to certain conditions and restrictions. The Company has also agreed to indemnify and hold harmless the stockholders who are a party to the Investors Rights Agreement from any loss, claim or damage arising from such registrations unless, and to the extent that, such loss, claim or damage arises out of or is based upon an untrue statement, alleged untrue statement or omission or alleged omission made in reliance upon and in conformity with written information furnished by or on behalf of such party for use in the preparation of the documents related to the registration. DELAWARE ANTI-TAKEOVER LAW The Company is subject to the provisions of Section 203 of the Delaware General Corporation Law (the "DGCL"). Section 203 provides, with certain exceptions, that a Delaware corporation may not engage in certain business combinations with a person or affiliate or associate of such person who is an "interested stockholder" for a period of three years from the date such person became an interested stockholder, unless: (i) the transaction resulting in the acquiring person's becoming an interested stockholder, or the business combination, is approved by the board of directors of the corporation before the person becomes an interested stockholder, (ii) the interested stockholder acquires 85% or more of the outstanding voting stock of the corporation in the same 59 transaction that makes it an interested stockholder, excluding (a) shares held by directors who are also officers, or (b) shares held in certain employee stock plans in which employee participants do not have the right to determine confidentially whether shares held subject to the plan will be tendered in a tender or exchange offer, or (iii) on or after the date the person becomes an interested stockholder, the business combination is approved by the corporation's board of directors and by the holders of at least two-thirds of the corporation's outstanding voting stock, at an annual or special meeting (excluding shares held by the interested stockholder). Except as otherwise specified in Section 203, an "interested stockholder" is defined as: (a) any person that is the owner of 15% or more of the outstanding voting stock of the corporation, (b) any person that is an affiliate or associate of the corporation and was the owner of 15% or more of the outstanding voting stock of the corporation at any time within the three-year period immediately prior to the date on which it is sought to be determined whether such person is the interested stockholder, or (c) the affiliates and associates of any such person. By restricting the ability of the Company to engage in business combinations with an interested person, the application of Section 203 to the Company may provide a barrier to hostile or unwanted takeovers. A "business combination" includes a merger, asset sale or other transaction resulting in a financial benefit to such interested stockholder. For purposes of Section 203, an "interested" stockholder is a person who, together with affiliates and associates, owns (or within three years prior, did own) 15% or more of the corporation's voting stock. CERTAIN PROVISIONS OF THE COMPANY'S CERTIFICATE OF INCORPORATION AND BYLAWS The Company's Certificate of Incorporation also provides that stockholder action can be taken only at an annual or special meeting of stockholders and may not be taken by written consent. The Bylaws provide that special meetings of stockholders can be called only by the Chairman of the Board, the President or the Board of Directors. Stockholders are not permitted to call a special meeting or to require that the Board of Directors call a special meeting of stockholders. Moreover, the business permitted to be conducted at any special meeting of stockholders is limited to the business set forth in the notice for the meeting. The Bylaws set forth an advance notice procedure with regard to the nomination, other than by or at the direction of the Board of Directors, of candidates for election as directors at any special meeting of stockholders and with regard to business to be brought before an annual meeting of stockholders of the Company, other than the election of directors. The Bylaws do not permit removal of directors except for cause, unless approved by a two- thirds vote of the Company's stockholders. See "Management--Directors, Executive Officers and Certain Significant Employees." The Company's Certificate of Incorporation limits the liability of directors to the Company and its stockholders to the fullest extent permitted by the DGCL. Specifically, under the DGCL, a director will not be personally liable for monetary damages for breach of the director's fiduciary duty as a director, except liability (i) for a breach of the director's duty of loyalty to the Company or its stockholders, (ii) for acts or omissions by a director not in good faith or which involve intentional misconduct or a knowing violation of the law, (iii) for liability arising under Section 174 of the DGCL (relating to the declaration of dividends and purchase or redemption of shares in violation of the DGCL), or (iv) for any transaction from which the director derived an improper personal benefit. The inclusion of this provision in the Company's Certificate of Incorporation may have the effect of reducing the likelihood of derivative litigation against Directors and may discourage or deter stockholders or management from bringing a lawsuit against directors for breach of their duty of care. This limitation on monetary liability does not alter the duties of Directors, affect the availability of equitable relief, or affect the availability of monetary relief predicated on claims based on federal law, including the federal securities laws. TRANSFER AGENT AND REGISTRAR The transfer agent and registrar for the Common Stock is U.S. Stock Transfer Corporation, Glendale, California. 60 SHARES ELIGIBLE FOR FUTURE SALE Prior to the Offering, there has been no public market for the Common Stock. Future sales of substantial amounts of Common Stock in the public market could adversely affect prevailing market prices and adversely affect the Company's ability to raise additional capital in the capital markets at a time and price favorable to the Company. Upon completion of the Offering, the Company will have 18,591,728 shares of Common Stock outstanding, assuming no exercise of outstanding options. Of these shares, the 6,250,000 shares sold in the Offering (7,187,500 shares assuming the Underwriters' over-allotment option is exercised in full) will be freely transferable without restriction or further registration under the Securities Act, unless they are purchased by "affiliates" of the Company as that term is used under the Securities Act. The remaining 12,341,728 shares held by existing stockholders (11,404,228 shares assuming the Underwriters' over-allotment option is exercised in full) will be "restricted securities" as defined in Rule 144 ("Restricted Shares"). Restricted Shares may be sold in the public market only if registered or if they qualify for an exemption from registration under Rule 144, which is summarized below. Sales of Restricted Shares in the public market, or the availability of such shares for sale, could adversely affect the market price of the Common Stock. All officers, directors, certain stockholders and certain option holders have agreed with the Underwriters that they will not sell any Common Stock owned by them for a period of 180 days after the effective date of the Offering without the prior written consent of Piper Jaffray Inc. (the "180-Day Lock-Up"). An aggregate of 12,340,528 shares of Common Stock (11,403,028 shares assuming the Underwriters' over-allotment option is exercised in full) are subject to the 180-Day Lock-Up. Upon the expiration of the 180-Day Lock-Up (or earlier upon the consent of Piper Jaffray Inc.), 10,974,249 Restricted Shares (10,036,749 Restricted Shares assuming the Underwriters' over-allotment option is exercised in full) will become eligible for sale subject to the volume and other restrictions of Rule 144, and 1,361,279 Restricted Shares will be eligible for sale without restriction under Rule 144(k). In general, under Rule 144, beginning 90 days after the effective date of the Offering, any person (or persons whose shares are aggregated) who has beneficially owned Restricted Shares for at least one year is entitled to sell, within any three-month period, a number of shares that does not exceed the greater of one percent of the then outstanding shares of the Company's Common Stock (approximately 185,917 shares immediately after the Offering) or the average weekly trading volume during the four calendar weeks preceding such sale. Sales under Rule 144 are also subject to certain requirements as to the manner of sale, notice and availability of current public information about the Company. In addition, Restricted Shares which have been beneficially owned for at least two years and which are held by non-affiliates may, under Rule 144(k) be sold free of any restrictions under Rule 144. The Company intends to file a registration statement on Form S-8 under the Act to register shares of Common Stock reserved for issuance under its Plans, thus permitting the resale by non-affiliates of shares issued under the plan in the public market without restriction under the Securities Act. Such registration statement will become effective immediately upon filing, which is expected on or shortly after the closing of the Offering. As of the closing of the Offering, options or rights to purchase 2,053,206 shares of Common Stock will be outstanding under the Company's Plans, of which 1,730,188 shares are subject to the 180-Day Lock-Up. 61 UNDERWRITING The Company and the Selling Stockholder have entered into a Purchase Agreement (the "Purchase Agreement") with the underwriter's listed in the table below (the "Underwriters"), for whom Piper Jaffray Inc., Bear, Stearns & Co. Inc., and UBS Securities LLC are acting as representatives (the "Representatives"). Subject to the terms and conditions contained in the Purchase Agreement, the Company has agreed to sell to the Underwriters, and each of the Underwriters has severally agreed to purchase from the Company, the aggregate number of shares of Common Stock set forth opposite their respective names below:
NAME OF UNDERWRITER NUMBER OF SHARES ------------------- ---------------- Piper Jaffray Inc. ......................................... Bear, Stearns & Co. Inc. ................................... UBS Securities LLC.......................................... --------- Total..................................................... 6,250,000 =========
Subject to the terms and conditions of the Purchase Agreement, the Underwriters have agreed to purchase all of the Common Stock being sold pursuant to the Purchase Agreement, if any is purchased (excluding Common Stock covered by the over-allotment option granted by the Selling Stockholder to the Underwriters). In the event of a default by any Underwriter, the Purchase Agreement provides that, in certain circumstances, purchase commitments of nondefaulting Underwriters may be increased or the Purchase Agreement may be terminated. The Underwriters propose initially to offer the shares to the public at the public offering price set forth on the cover page of this Prospectus. The Underwriters may allow a selling concession not in excess of $ per share to certain dealers. The Underwriters may allow, and such dealers may reallow, a concession not in excess of $ per share to other dealers. After the Offering, the public offering price and other selling terms may be changed by the Underwriters. The Selling Stockholder has granted the Underwriters an option, exercisable by the Representatives within 30 days after the date of the Purchase Agreement, to purchase up to an additional 937,500 shares of Common Stock at the same price per share to be paid by the Underwriters for the shares offered hereby. The Underwriters may exercise such option solely for the purpose of covering over-allotments incurred in the sale of shares of Common Stock offered hereby. To the extent such option to purchase is exercised, each Underwriter will become committed to purchase such additional shares of Common Stock in the same proportion as set forth in the above table. The Company and its directors, officers and certain stockholders (holding in the aggregate 12,340,528 shares of Common Stock upon completion of the Offering, or 11,403,028 shares if the Underwriters' over-allotment option is exercised in full) have agreed to deliver to the Representatives prior to the date of this Prospectus lock-up agreements under which they agree not to, directly or indirectly, offer, pledge, sell, contract to sell, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant for the sale of, or otherwise dispose of or transfer any shares of Common Stock or any securities exchangeable or exercisable for or convertible into its Common Stock, whether now owned or hereafter acquired or with respect to which the Company and any such director, officer or stockholder has or hereafter acquires the power of disposition, or participate in any registration statement under the Securities Act with respect to any of the foregoing or enter into any swap or any other agreement or any transaction that transfers, in whole or in part, directly or indirectly, the economic consequence of ownership of the Common Stock for a period of 180 days after the date of this Prospectus, without the prior written consent of Piper Jaffray Inc. on behalf of the Underwriters. Such lock-up agreements shall not apply to the sale of Common Stock by the Selling Stockholder pursuant to the exercise of the Underwriters' over-allotment option. Piper Jaffray Inc. may, at its sole discretion and at any time without notice, release all or any portion of the shares subject to such lock-up agreements. See "Shares Eligible for Future Sale." 62 In the Purchase Agreement, the Company, the Selling Stockholder and the Underwriters have agreed to indemnify each other against certain liabilities, including liabilities under the Securities Act, and to contribute to payments the Underwriters may be required to make in respect thereof. The Company has agreed to reimburse the Underwriters for their reasonable out of pocket expenses incurred in connection with the Offering. The Company and Piper Jaffray Inc. are parties to an agreement pursuant to which Piper Jaffray Inc. has in the past performed and may in the future perform certain financial advisory services to the Company, including advice with respect to mergers and acquisitions. The Representatives have informed the Company and the Selling Stockholder that they do not intend to confirm sales to accounts over which they exercise discretionary authority without the prior written approval of the customer. Prior to the Offering there has been no public market for the Common Stock. The initial public offering price was determined by negotiation between the Company, the Selling Stockholder and the Representatives. Among the factors considered in determining such public offering price were the nature of the Company's business, its history and present state of development, recent financial operating information, prospects and management abilities, the general conditions of the securities markets at the time of the Offering and other factors deemed relevant. During and after the Offering, the Underwriters may purchase and sell Common Stock in the open market. These transactions may include overallotment, stabilizing transactions and purchases to cover syndicate short positions created in connection with the Offering. The Underwriters also may impose a penalty bid, whereby selling concessions allowed to syndicate members or other broker-dealers in respect of the Common Stock sold in the Offering for their account may be reclaimed by the syndicate if such securities are repurchased by the syndicate in stabilizing or covering transactions. These activities may stabilize, maintain or otherwise affect the market price of the Common Stock, which may be higher than the price that might otherwise prevail in the open market. These transactions may be effected on the Nasdaq National Market, in the over-the-counter market or otherwise, and these activities, if commenced, may be discontinued at any time. 63 LEGAL MATTERS The validity of the Common Stock offered hereby will be passed upon for the Company by Stradling Yocca Carlson & Rauth, a Professional Corporation, Newport Beach, California. An investment partnership in which certain shareholders of Stradling Yocca Carlson & Rauth are partners holds an aggregate of $100,000 of the Company's Subordinated Secured Promissory Notes and Common Stock Warrants, which will be converted into 15,873 shares of Common Stock upon the closing of the Offering at an exercise price of $6.30 per share (based on an assumed initial public offering price of $9.00 per share), and holds 523 shares of the Company's Common Stock. Certain legal matters in connection with the Offering will be passed upon for the Underwriters by Wilson Sonsini Goodrich & Rosati, Professional Corporation, Palo Alto, California. EXPERTS The Consolidated Financial Statements and schedule of the Company as of April 30, 1996 and 1997, and as of December 31, 1997, and for each of the three years in the period ended April 30, 1997 and the eight months ended December 31, 1997 included in this Prospectus and elsewhere in the Registration Statement have been audited by Arthur Andersen LLP, independent public accountants, as indicated in their reports with respect thereto, and are included herein in reliance upon the authority of said firm as experts in giving said reports. AVAILABLE INFORMATION The Company has filed with the Commission a Registration Statement on Form S-1 under the Securities Act with respect to the shares of Common Stock offered hereby. This Prospectus, which constitutes a part of the Registration Statement, does not contain all the information set forth in the Registration Statement and the exhibits and schedules thereto. For further information with respect to the Company and the Common Stock offered hereby, reference is made to the Registration Statement and to the exhibits and schedules filed therewith. A copy of the Registration Statement may be inspected without charge at the public reference facilities of the Commission located at 450 Fifth Street, N.W., Washington, D.C. 20549, and at the regional offices of the Commission located at 7 World Trade Center, Suite 1300, New York, New York 10048, and 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. Copies of all or any part of the Registration Statement may be obtained at the prescribed rates from the Public Reference Section of the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 and its public reference facilities in New York, New York and Chicago, Illinois, upon the payment of the fees prescribed by the Commission. The Registration Statement is also available through the Commission's website on the world wide web at http://www.sec.gov. Statements made in this Prospectus as to the contents of any contract, agreement or other document referred to are not necessarily complete. With respect to each such contract, agreement or other document filed as an exhibit to the Registration Statement, reference is made to the exhibit for a more complete description of the matter involved, and each such statement shall be deemed qualified by such reference. 64 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Report of Independent Public Accountants................................... F-2 Consolidated Balance Sheets................................................ F-3 Consolidated Statements of Operations...................................... F-4 Consolidated Statements of Stockholders' Equity (Deficit).................. F-5 Consolidated Statements of Cash Flows...................................... F-6 Notes to Consolidated Financial Statements................................. F-7
F-1 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Interplay Entertainment Corp.: We have audited the accompanying consolidated balance sheets of INTERPLAY ENTERTAINMENT CORP. (a Delaware corporation) and subsidiaries as of April 30, 1996 and 1997 and December 31, 1997, and the related consolidated statements of operations, stockholders' equity (deficit) and cash flows for each of the three years in the period ended April 30, 1997 and the eight months ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. The Subordinated Secured Promissory Notes mature on November 30, 1998 and give the holders the option, 30 days thereafter, to notify the Company in writing that the Notes are due and payable. In addition, the Company's line of credit matures in May 1999. For further discussion about the terms of these borrowings and management's plan in connection with their repayment, see Notes 6 and 13. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Interplay Entertainment Corp. and subsidiaries as of April 30, 1996 and 1997 and December 31, 1997, and the related consolidated statements of operations, stockholders' equity (deficit) and cash flows for each of the three years in the period ended April 30, 1997 and the eight months ended December 31, 1997 in conformity with generally accepted accounting principles. Arthur Andersen LLP Orange County, California March 20, 1998 (except for the first paragraph of Note 8--Litigation and Note 13-- Reincorporation, for which the date is May 29, 1998) F-2 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
APRIL 30, ---------------- DECEMBER 31, MARCH 31, 1996 1997 1997 1998 ------- -------- ------------ ----------- (UNAUDITED) ASSETS ------ Current Assets: Cash and cash equivalents................... $ 4,923 $ 5,410 $ 1,536 $ 1,937 Trade receivables, net of allowances of $9,100, $14,894, $14,461 and $11,394, re- spectively................................. 22,983 22,346 34,684 38,233 Inventories................................. 5,896 7,404 6,338 6,065 Prepaid licenses and royalties.............. 14,483 10,914 12,628 12,382 Income taxes receivable..................... 1,425 1,601 1,427 -- Deferred income taxes....................... 323 7,889 7,792 7,522 Other....................................... 6,053 2,354 4,218 3,365 ------- -------- -------- -------- Total current assets........................ 56,086 57,918 68,623 69,504 ------- -------- -------- -------- Property and Equipment, net................... 7,838 8,117 7,026 6,746 ------- -------- -------- -------- Other Assets.................................. 4,587 2,970 2,172 2,077 ------- -------- -------- -------- $68,511 $ 69,005 $ 77,821 $ 78,327 ======= ======== ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) - ---------------------------------------------- Current Liabilities: Accounts payable............................ $16,945 $ 16,975 $ 17,121 $ 14,193 Accrued expenses............................ 15,549 21,100 22,549 22,231 Short term borrowings....................... 5,050 10,950 -- -- Current portion of long-term debt........... 57 123 14,767 14,825 Income taxes payable........................ -- 880 570 813 ------- -------- -------- -------- Total current liabilities................. 37,601 50,028 55,007 52,062 ------- -------- -------- -------- Long-Term Debt, net of current portion........ 51 14,847 23,387 23,855 ------- -------- -------- -------- Deferred Income Taxes......................... 366 403 434 434 ------- -------- -------- -------- Minority Interest............................. 298 326 260 307 ------- -------- -------- -------- Commitments and Contingencies Stockholders' Equity (Deficit): Preferred stock, no par value-- Authorized--5,000,000 shares Issued and outstanding--none............... -- -- -- -- Common stock, $.001 par value-- Authorized 50,000,000 shares Issued and outstanding--10,829,781, 11,114,060, 10,951,828 and 10,953,028 shares, respectively....................... 11 11 11 11 Paid-in capital............................. 17,783 18,020 18,408 18,494 Retained earnings (accumulated deficit)..... 12,401 (14,818) (19,877) (17,028) Cumulative translation adjustment........... -- 188 191 192 ------- -------- -------- -------- Total stockholders' equity (deficit)...... 30,195 3,401 (1,267) 1,669 ------- -------- -------- -------- $68,511 $ 69,005 $ 77,821 $ 78,327 ======= ======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements. F-3 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
EIGHT MONTHS ENDED THREE MONTHS ENDED YEARS ENDED APRIL 30, DECEMBER 31, MARCH 31, ---------------------------------- ----------------------- ------------------------ 1995 1996 1997 1996 1997 1997 1998 ---------- ---------- ---------- ----------- ---------- ----------- ----------- (UNAUDITED) (UNAUDITED) (UNAUDITED) Net revenues............ $ 79,546 $ 96,952 $ 83,262 $ 50,364 $ 85,961 $ 22,410 $ 40,996 Cost of goods sold...... 45,491 49,939 62,480 35,725 44,864 13,508 19,221 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Gross profit............ 34,055 47,013 20,782 14,639 41,097 8,902 21,775 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Operating expenses: Marketing and sales..... 14,280 23,285 24,627 15,747 20,603 7,280 8,589 General and administrative......... 5,528 9,025 9,408 8,730 8,989 3,088 2,855 Product development..... 8,200 15,120 21,431 12,464 14,291 5,384 5,819 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Total operating ex- penses................. 28,008 47,430 55,466 36,941 43,883 15,752 17,263 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Operating income (loss)................. 6,047 (417) (34,684) (22,302) (2,786) (6,850) 4,512 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Other income (expense): Interest income......... 244 102 190 48 92 324 6 Interest expense........ (38) (531) (1,907) (1,088) (3,009) (663) (1,346) Other................... 840 (378) 117 (45) 644 (36) (78) ---------- ---------- ---------- ---------- ---------- ---------- ---------- Total other income (ex- pense)................. 1,046 (807) (1,600) (1,085) (2,273) (375) (1,418) ---------- ---------- ---------- ---------- ---------- ---------- ---------- Income (loss) before provision (benefit) for income taxes........... 7,093 (1,224) (36,284) (23,387) (5,059) (7,225) 3,094 Provision (benefit) for income taxes........... 2,844 (480) (9,065) (5,918) -- (1,782) 245 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Net income (loss)....... $ 4,249 $ (744) $ (27,219) $ (17,469) $ (5,059) $ (5,443) $ 2,849 ========== ========== ========== ========== ========== ========== ========== Net income (loss) per share: Basic................... $ 0.40 $ (0.07) $ (2.46) $ (1.58) $ (0.45) $ (0.49) $ 0.26 ========== ========== ========== ========== ========== ========== ========== Diluted................. $ 0.35 $ (0.07) $ (2.46) $ (1.58) $ (0.45) $ (0.49) $ 0.23 ========== ========== ========== ========== ========== ========== ========== Weighted average number of common shares outstanding: Basic................... 10,568,042 10,661,944 11,085,632 11,066,487 11,123,327 11,114,060 10,952,375 ========== ========== ========== ========== ========== ========== ========== Diluted................. 12,045,687 10,661,944 11,085,632 11,066,487 11,123,327 11,114,060 14,144,627 ========== ========== ========== ========== ========== ========== ==========
The accompanying notes are an integral part of these consolidated financial statements. F-4 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
COMMON STOCK RETAINED CUMULATIVE ------------------ PAID-IN EARNINGS TRANSLATION SHARES AMOUNT CAPITAL (DEFICIT) ADJUSTMENT TOTAL ---------- ------ ------- --------- ----------- -------- Balance, April 30, 1994................... 10,565,136 $11 $16,146 $ 8,896 $-- $ 25,053 Exercise of stock op- tions................ 176,763 -- 54 -- -- 54 Tax benefit from exer- cise of stock op- tions................ -- -- 620 -- -- 620 Compensation of stock options granted...... -- -- 93 -- -- 93 Net income............ -- -- -- 4,249 -- 4,249 ---------- --- ------- -------- ---- -------- Balance, April 30, 1995................... 10,741,899 11 16,913 13,145 -- 30,069 Exercise of stock op- tions................ 177,104 -- 140 -- -- 140 Repurchase of common stock................ (89,222) -- -- -- -- -- Tax benefit from exer- cise of stock op- tions................ -- -- 424 -- -- 424 Compensation for stock options granted...... -- -- 306 -- -- 306 Net loss.............. -- -- -- (744) -- (744) ---------- --- ------- -------- ---- -------- Balance, April 30, 1996................... 10,829,781 11 17,783 12,401 -- 30,195 Exercise of stock op- tions................ 313,403 -- 58 -- -- 58 Repurchase of common stock................ (29,124) -- (275) -- -- (275) Proceeds from war- rants................ -- -- 148 -- -- 148 Compensation for stock options granted...... -- -- 306 -- -- 306 Net loss.............. -- -- -- (27,219) -- (27,219) Translation adjust- ment................. -- -- -- -- 188 188 ---------- --- ------- -------- ---- -------- Balance, April 30, 1997................... 11,114,060 11 18,020 (14,818) 188 3,401 Issuance of common stock................ 16,362 -- 184 -- -- 184 Repurchase of common stock................ (178,594) -- -- -- -- -- Compensation for stock options granted...... -- -- 204 -- -- 204 Net loss.............. -- -- -- (5,059) -- (5,059) Translation adjust- ment................. -- -- -- -- 3 3 ---------- --- ------- -------- ---- -------- Balance, December 31, 1997................... 10,951,828 11 18,408 (19,877) 191 (1,267) Issuance of common stock................ 1,200 -- 10 -- -- 10 Compensation for stock options granted...... -- -- 76 -- -- 76 Net income............ -- -- -- 2,849 -- 2,849 Translation adjust- ment................. -- -- -- -- 1 1 ---------- --- ------- -------- ---- -------- Balance, March 31, 1998 (unaudited)............ 10,953,028 $11 $18,494 $(17,028) $192 $ 1,669 ========== === ======= ======== ==== ========
The accompanying notes are an integral part of these consolidated financial statements. F-5 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS)
EIGHT MONTHS ENDED THREE MONTHS ENDED YEARS ENDED APRIL 30, DECEMBER 31, MARCH 31, -------------------------- -------------------- ----------------------- 1995 1996 1997 1996 1997 1997 1998 ------- ------- -------- ----------- -------- ----------- ----------- (UNAUDITED) (UNAUDITED) (UNAUDITED) Cash flows from operating activities: Net income (loss)..... $ 4,249 $ (744) $(27,219) $(17,469) $ (5,059) $(5,443) $ 2,849 Adjustments to reconcile net income (loss) to the cash provided by (used in) operating activities-- Depreciation and amortization......... 756 1,985 3,172 1,817 2,138 741 840 Gain on sale of property and equipment............ -- (21) -- -- -- -- -- Noncash expense for stock options........ 93 306 306 204 204 76 76 Noncash interest expense.............. -- -- -- -- 184 -- -- Write-off of non- current assets....... -- 388 250 -- -- -- -- Deferred income taxes................ 1,360 (335) (6,649) -- 128 -- 653 Minority interest in earnings (loss) of subsidiary........... -- 25 28 (4) (66) 23 44 Changes in assets and liabilities: Trade receivables.... (7,824) (3,229) 3,926 (1,823) (12,338) 3,641 (9,708) Inventories.......... (1,343) (2,193) (1,508) (824) 1,066 (805) 273 Income taxes receivable.......... -- (1,403) (176) -- 174 -- 1,427 Other current assets.............. (1,364) (2,232) 5,732 2,713 (1,864) (258) (2,837) Other assets......... (1,098) (467) 5,610 -- 543 -- -- Prepaid licenses and royalties........... (6,897) (5,966) (4,102) (3,922) (1,714) 90 245 Accounts payable..... (328) 7,589 (1,999) (272) 146 (3,059) (2,927) Accrued expenses..... 4,027 9,223 5,618 7,047 1,449 5,061 8,968 Income taxes payable............. (347) (467) -- (5,919) (310) (1,807) (140) ------- ------- -------- -------- -------- ------- ------- Net cash provided by (used in) operating activities......... (8,716) 2,459 (17,011) (18,452) (15,319) (1,740) (237) ------- ------- -------- -------- -------- ------- ------- Cash flows from investing activities: Purchase of property and equipment........ (3,323) (4,585) (3,451) (1,981) (792) (617) (296) Proceeds from sales of property and equipment............ -- 14 -- -- -- -- -- Acquisition of subsidiary, net of cash acquired of $119................. -- (3,196) -- -- -- -- -- Proceeds from sale of investment in affiliate............ -- 200 -- -- -- -- -- Proceeds from sale of marketable securities........... 15,012 69 -- -- -- -- -- ------- ------- -------- -------- -------- ------- ------- Net cash provided by (used in) investing activities......... 11,689 (7,498) (3,451) (1,981) (792) (617) (296) ------- ------- -------- -------- -------- ------- ------- Cash flows from financing activities: Net borrowings on line of credit............ -- 5,050 5,900 5,392 12,296 466 971 Issuances of Subordinated Secured Promissory Notes and Warrants............. -- -- 14,803 13,230 -- 1,961 -- Borrowings (repay- ments) on notes pay- able................. (122) (117) (75) (34) (62) 31 (48) Proceeds from exercise of stock options..... 54 140 58 57 -- -- 10 Tax benefit from stock option exercise...... 620 424 -- -- -- -- -- Other financing activ- ities................ -- (11) -- -- -- -- -- ------- ------- -------- -------- -------- ------- ------- Net cash provided by financing activities......... 552 5,486 20,686 18,645 12,234 2,458 933 ------- ------- -------- -------- -------- ------- ------- Effect of exchange rate changes on cash and cash equivalents...... -- (58) 263 -- 3 -- 1 ------- ------- -------- -------- -------- ------- ------- Net increase (decrease) in cash and cash equivalents........... 3,525 389 487 (1,788) (3,874) 101 401 Cash and cash equivalents, beginning of year............... 1,009 4,534 4,923 4,923 5,410 3,135 1,536 ------- ------- -------- -------- -------- ------- ------- Cash and cash equivalents, end of year.................. $ 4,534 $ 4,923 $ 5,410 $ 3,135 $ 1,536 $ 3,236 $ 1,937 ======= ======= ======== ======== ======== ======= ======= Supplemental cash flow information: Cash paid during the year for: Interest.............. $ 22 $ 480 $ 1,638 $ 822 $ 2,936 $ 563 $ 1,372 ======= ======= ======== ======== ======== ======= ======= Income taxes.......... $ 1,318 $ 526 $ -- $ -- $ -- $ -- $ -- ======= ======= ======== ======== ======== ======= =======
The accompanying notes are an integral part of these consolidated financial statements. F-6 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) 1. LINE OF BUSINESS Interplay Entertainment Corp., a Delaware corporation, and its subsidiaries (collectively with Interplay Productions, a California corporation, the "Company"), develop, publish, and distribute interactive entertainment software. In addition, the Company distributes certain titles to hardware or peripheral device manufacturers for use in bundling arrangements. The Company's software is developed for use on various interactive entertainment software platforms, including personal computers and current generation video game consoles, such as the PlayStation and Nintendo 64. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Consolidation The accompanying consolidated financial statements include the accounts of Interplay Entertainment Corp. and its wholly-owned subsidiaries, Interplay Productions Limited (U.K.), Interplay OEM, Inc., Interplay Productions Pty Ltd (Australia), Interplay Co., Ltd., (Japan) and its 91 percent-owned subsidiary Shiny Entertainment, Inc. All significant intercompany accounts and transactions have been eliminated. Change of Fiscal Year End Effective May 1, 1997, the Company changed its fiscal year end from April 30 to December 31. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash and Cash Equivalents and Noncash Activities The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. During the fiscal year ended April 30, 1997, in a noncash financing transaction, the Company acquired 29,124 shares of common stock in exchange for a $275 note payable. Inventories Inventories consist of CD-ROMs, video game console cartridges (cartridges), manuals, packaging materials, supplies and packaged software ready for shipment and are valued at the lower of cost (first-in, first-out) or market. Prepaid Licenses and Royalties Prepaid licenses and royalties consist of payments for intellectual property rights, payments to celebrities and sports leagues and advanced royalty payments to outside developers. In addition such costs include certain other outside production costs generally consisting of film cost and amounts paid for digitized motion data with alternative future uses. Payments to developers represent contractual advanced payments made for future royalties. These payments are contingent upon the successful completion of milestones, which generally represent specific deliverables. Royalty advances are recoupable against future sales based upon the contractual royalty rate. The Company amortizes the cost of licenses, prepaid royalties and other outside production costs to cost of sales over six months commencing with the initial shipment of the title at a rate based upon the number F-7 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) of units shipped. Management evaluates the future realization of such costs quarterly and charges to cost of goods sold any amounts that management deems unlikely to be fully realized through future sales. Such costs are classified as current and noncurrent assets based upon estimated net product sales. Property and Equipment Property and equipment are stated at cost. Depreciation of computers, equipment and furniture and fixtures is provided using the straight-line method over a five year period. Leasehold improvements are amortized on a straight line basis over the lesser of the estimated useful life or the remaining lease term. Other Non-current Assets Other non-current assets consist primarily of goodwill which the Company is amortizing on a straight-line basis over seven years (see Note 3). Accumulated amortization as of April 30, 1995, 1996 and 1997 and December 31, 1997 was $0, $327, $710 and $965, respectively. Long-lived Assets As prescribed by Statement of Financial Accounting Standards (SFAS) No. 121, "Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed of," the Company assesses the recoverability of its long-lived assets (including goodwill) by determining whether the asset balance can be recovered over the remaining depreciation or amortization period through projected undiscounted future cash flows. Cash flow projections, although subject to a degree of uncertainty, are based on trends of historical performance and management's estimate of future performance, giving consideration to existing and anticipated competitive and economic conditions. Fair Value of Financial Instruments The carrying value of cash and cash equivalents, accounts receivable, accounts payable and notes payable approximates the fair value. In addition, the carrying value of all borrowings approximate fair value based on interest rates currently available to the Company. Revenue Recognition Revenues are recorded when products are delivered to customers in accordance with Statement of Position (SOP) 91-1, Software Revenue Recognition. For those agreements that provide the customers the right to multiple copies in exchange for guaranteed amounts, revenue is recognized at the delivery of the product master or the first copy. Per copy royalties on sales that exceed the guarantee are recognized as earned. The Company is generally not contractually obligated to accept returns, except for defective product. However, the Company permits customers to return or exchange product and may provide price protection on products unsold by a customer. In accordance with SFAS No. 48, revenue is recorded net of an allowance for estimated returns, exchanges, markdowns, price concessions, and warranty costs. Such reserves are based upon management's evaluation of historical experience, current industry trends and estimated costs. The amount of reserves ultimately required could differ materially in the near term from the amounts included in the accompanying consolidated financial statements. Postcontract customer support provided by the Company is limited to telephone support. These costs are not material and are charged to expenses as incurred. Product Development Product development expenses are charged to operations in the period incurred and consist primarily of payroll and payroll related costs. F-8 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Income Taxes The Company accounts for income taxes using the liability method as prescribed by the SFAS No. 109, "Accounting for Income Taxes." The statement requires an asset and liability approach for financial accounting and reporting of income taxes. Deferred income taxes are provided for temporary differences in the recognition of certain income and expense items for financial reporting and tax purposes given the provisions of the enacted tax laws. Foreign Currency Translation The Company follows the principles of SFAS No. 52, "Foreign Currency Translation," using the local currency of its operating subsidiaries as the functional currency. Accordingly, all assets and liabilities outside the United States are translated into U.S. dollars at the rate of exchange in effect at the balance sheet date. Income and expense items are translated at the weighted average exchange rate prevailing during the period. Gains or losses arising from the translation of the foreign subsidiaries' financial statements are included in the accompanying consolidated balance sheets as a separate component of stockholders' equity (deficit). Gains (losses) resulting from foreign currency transactions amounted to $(7), $325, $364 and $246 during the years ended April 30, 1995, 1996 and 1997 and the eight months ended December 31, 1997, respectively, and are included in other income (expense) in the consolidated statements of operations. Net Income (Loss) Per Share The Company accounts for net income per share in accordance with SFAS No. 128 "Earnings Per Share" and SFAS No. 129, "Disclosure of Information about Capital Structure." Basic net income (loss) per share is computed by dividing income (loss) available to common stockholders by the weighted average number of common shares outstanding. Diluted net income (loss) per share is computed by dividing income (loss) available to common stockholders by the weighted average number of common shares outstanding plus the effect of any dilutive stock options and common stock warrants issued in connection with Subordinated Secured Promissory Notes. For the year ended April 30, 1995 and the three months ended March 31, 1998, 1,477,645 and 3,192,252 dilutive stock options and warrants, respectively, were included in the diluted net income per share calculation. For years ended April 30, 1996 and 1997 and the eight months ended December 31, 1997, all options and warrants to purchase common stock were excluded from the diluted loss per share calculation as the effect of such inclusion would be antidilutive (see Note 10). F-9 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Pro Forma Data (unaudited) Pro forma net income (loss) represents the reduction of interest expense assuming (i) the conversion or repayment of the Subordinated Secured Promissory Notes (Notes) as of the beginning of the period, and (ii) the application of proceeds of the Offering to repay the outstanding borrowings on the line of credit. Pro forma net income (loss) per share was computed by dividing pro forma net income (loss) by the pro forma weighted average shares outstanding. Pro forma weighted average shares includes an estimated number of shares of common stock from the exercise of common stock warrants, and an estimated number of shares of common stock issued in the Offering sufficient to repay the outstanding borrowings on the line of credit and the Notes that are not expected to convert to common stock.
EIGHT MONTHS THREE MONTHS YEAR ENDED ENDED ENDED APRIL 30, DECEMBER 31, MARCH 31, 1997 1997 1998 ---------- ------------ ------------ Pro forma net income (loss): Historical income (loss) before pro- vision (benefit) for income taxes.. $ (36,284) $ (5,059) $ 3,094 Adjust interest expense............. 1,616 2,379 1,062 Less provision (benefit) for income taxes.............................. (9,065) -- 245 ---------- ---------- ---------- Pro forma net income (loss)......... $ (25,603) $ (2,680) $ 3,911 ========== ========== ========== Pro forma net income (loss) per share: $ (1.78) $ (0.17) $ 0.25 ========== ========== ========== Pro forma weighted average number of common shares outstanding: 14,368,776 15,772,694 15,665,519 ========== ========== ==========
Stock-Based Compensation As permitted under generally accepted accounting principles, the Company accounts for employee stock options in accordance with the Accounting Principles Board Opinion No. 25 and makes the necessary pro forma disclosures mandated by SFAS No. 123 (see Note 10). Pending Accounting Pronouncements In June 1997, the Financial Accounting Standards Board (FASB) issued SFAS No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." In addition, the American Institute of Certified Public Accountants issued SOP 97-2, "Software Revenue Recognition" and SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." SFAS No. 130, SFAS No. 131 and SOP 97-2 are effective for fiscal years beginning after December 15, 1997 and SOP 98-1 is effective for fiscal years beginning after December 15, 1998. The Company does not believe that adoption of these standards will have a material impact on the Company's results of operations. Unaudited Quarterly Information The accompanying financial information as of March 31, 1998 and for the three months ended March 31, 1997 and 1998 is unaudited and has been prepared on substantially the same basis as the annual financial F-10 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) statements. In the opinion of management, the unaudited information contains all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position and results of operations as of such date and for such periods. 3. ACQUISITION Effective June 24, 1995, the Company acquired a 91 percent interest in Shiny Entertainment, Inc. (Shiny) for $3,624 in cash and stock. The acquisition was accounted for using the purchase method. The allocation of purchase price is summarized as follows: Cash and cash equivalents............................................ $ 119 Receivables.......................................................... 107 Other current assets................................................. 6 Property and equipment............................................... 417 Goodwill............................................................. 3,057 Accounts payable and accrued expenses................................ (82) ------ Total purchase price............................................... $3,624 ======
The purchase agreement requires the Company to pay the former owner of Shiny additional cash payments of up to $5,325 upon the delivery and acceptance of five future Shiny interactive entertainment software titles, as defined. Future payments, if any, will be expensed in the six-month period following the initial shipment of such products. As of December 31, 1997, the Company had not been required to make any additional payments. 4. DETAIL OF SELECTED BALANCE SHEET ACCOUNTS Inventories Inventories consist of the following:
APRIL 30, ------------- DECEMBER 31, MARCH 31, 1996 1997 1997 1998 ------ ------ ------------ --------- Packaged software..................... $4,211 $5,309 $4,171 $3,852 CD-ROMs, cartridges, manuals, packag- ing and supplies..................... 1,685 2,095 2,167 2,213 ------ ------ ------ ------ $5,896 $7,404 $6,338 $6,065 ====== ====== ====== ======
Other Current Assets Other current assets consist of the following:
APRIL 30, ------------- DECEMBER 31, MARCH 31, 1996 1997 1997 1998 ------ ------ ------------ --------- Prepaid expenses....................... $2,960 $ 977 $1,640 $1,301 Royalties receivables.................. 1,331 581 1,644 -- Deposits............................... 553 560 162 214 Other receivables...................... 236 236 772 1,850 Stockholder receivable................. 973 -- -- -- ------ ------ ------ ------ $6,053 $2,354 $4,218 $3,365 ====== ====== ====== ======
F-11 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Property and Equipment Property and equipment consists of the following:
APRIL 30, ---------------- DECEMBER 31, MARCH 31, 1996 1997 1997 1998 ------- ------- ------------ --------- Computers and equipment........... $ 9,179 $11,325 $12,383 $12,793 Furniture and fixtures............ 336 702 474 511 Leasehold improvements............ 1,249 1,514 1,125 1,144 ------- ------- ------- ------- 10,764 13,541 13,982 14,448 Less--accumulated depreciation and amortization..................... (2,926) (5,424) (6,956) (7,702) ------- ------- ------- ------- $ 7,838 $ 8,117 $ 7,026 $ 6,746 ======= ======= ======= =======
Accrued Expenses Accrued expenses consist of the following:
APRIL 30, --------------- DECEMBER 31, MARCH 31, 1996 1997 1997 1998 ------- ------- ------------ --------- Royalties payable..................... $ 5,463 $ 8,178 $ 6,901 $ 5,051 Accrued payroll....................... 2,621 2,261 2,707 3,027 Payable to distributor................ 2,806 1,715 4,240 554 Accrued bundle and affiliate.......... 2,115 4,149 2,923 2,981 Deferred income....................... -- 2,464 3,442 4,845 Other................................. 2,544 2,333 2,336 5,773 ------- ------- ------- ------- $15,549 $21,100 $22,549 $22,231 ======= ======= ======= =======
5. SHORT-TERM BORROWINGS In May 1993, the Company entered into a trade finance agreement with a bank, bearing interest at prime (8.25 percent at April 30, 1996) plus one-half percent. Amounts outstanding under this agreement were $5,050 at April 30, 1996. This agreement expired in October 1996. In April 1996, the Company entered into a line of credit agreement with the same bank, bearing interest at prime plus one-half percent. No amounts were outstanding under this line of credit at April 30, 1996, and the line of credit expired in June 1996. In October 1996, the Company entered into a trade finance agreement with two banks, bearing interest at prime (8.5 percent at April 30, 1997) plus one-half percent. Amounts outstanding under this agreement were $10,950 at April 30, 1997. In June 1997, the Company retired this trade finance agreement and entered into a Loan and Security Agreement with a financial institution (see Note 6). F-12 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) 6. LONG-TERM DEBT Long-term debt consists of the following:
APRIL 30, ------------- DECEMBER 31, MARCH 31, 1996 1997 1997 1998 ---- ------- ------------ --------- Subordinated Secured Promissory Notes............................. $-- $14,655 $ 14,655 $ 14,655 Loan Agreement..................... -- -- 23,246 23,820 Other.............................. 108 315 253 205 ---- ------- -------- -------- 108 14,970 38,154 38,680 Less--current portion.............. (57) (123) (14,767) (14,825) ---- ------- -------- -------- $ 51 $14,847 $ 23,387 $ 23,855 ==== ======= ======== ========
Subordinated Secured Promissory Notes From October 1996 through February 1997, the Company issued $14,803 in Subordinated Secured Promissory Notes (Notes) and nondetachable Warrants to purchase common stock (Warrants). Employees, officers, and directors of the Company hold $2,600 of the total Notes outstanding. Of the total proceeds received, $14,655 represents the principal amount of the Notes and $148 represents the purchase price of the Warrants. The amount paid for the Warrants approximates management's estimate of the fair market value of the Warrants at the date of issuance and is included in paid-in capital in the accompanying consolidated balance sheets. The Notes bear interest at a rate of 12.0 percent per year. Interest is payable quarterly, with the first payment due May 1, 1997. The principal amount and all accrued but unpaid interest will be payable upon the consummation of a qualified initial public offering (IPO), as defined or the sale of substantially all of the Company's assets or a merger where the Company is not the surviving entity (Sales Transaction). If neither of these events occur prior to November 30, 1998, the Note holders may elect to extend the Notes one additional year or may notify the Company in writing of their desire to full payment in cash. Interest expense related to the notes was $856 for the year ended April 30, 1997 and $1,172 for the eight months ended December 31, 1997. Each Warrant holder has the right to purchase from the Company the number of shares of common stock equal to the investor's aggregate investment (including Notes and Warrants) divided by the product of .70 multiplied by (a) the IPO price per share or (b) in the event of a Sales Transaction, the fair market value per share as determined in the Sales Transaction. The term of the Warrants commenced on the date of issuance and expire upon the redemption of the Notes, as described above (see Note 13). Total interest due on the Notes at May 1, 1997 was $856. The Company offered to pay the interest in cash or offered to issue one share of common stock for each $11.25 of interest due (management's estimate of fair value of the Company's common stock at the time). Interest of $672 was paid in cash and $184 of interest was paid with 16,362 shares of common stock. Loan Agreement In June 1997, the Company entered into a Loan and Security Agreement (Loan Agreement) with a financial institution which was amended in February 1998. Borrowings under the Loan Agreement bear interest at LIBOR (5.72 percent at December 31, 1997) plus 4.87 percent (10.59 percent at December 31, 1997). The agreement F-13 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) provides for a line of credit and letters of credit to be issued, based in part on qualified receivables and inventory. Combined borrowings under this Loan Agreement may be up to a maximum of $35,000 through August 30, 1998; $30,000 from August 31 to December 30, 1998; and $25,000 thereafter. Within the total credit limits, the Company may borrow up to $10,000 in excess of its borrowing base through August 1998 and up to $5,000 in excess of its borrowing base thereafter through December 30, 1998. The line of credit is secured by cash, accounts receivable and inventory and expires in May 1999. 7. INCOME TAXES The Company files a consolidated U.S. Federal income tax return which includes substantially all of its domestic operations. The Company files separate tax returns for each of its foreign subsidiaries in the countries in which they reside. Income (loss) before provision (benefit) for income taxes consists of the following:
EIGHT MONTHS YEARS ENDED APRIL 30, ENDED ------------------------ DECEMBER 31, 1995 1996 1997 1997 ------ ------- -------- ------------ Domestic.............................. $5,689 $(1,890) $(32,888) $(2,784) Foreign............................... 1,404 666 (3,396) (2,275) ------ ------- -------- ------- Total............................... $7,093 $(1,224) $(36,284) $(5,059) ====== ======= ======== ======= The provision (benefit) for income taxes is comprised of the following: EIGHT MONTHS YEARS ENDED APRIL 30, ENDED ------------------------ DECEMBER 31, 1995 1996 1997 1997 ------ ------- -------- ------------ Current: Federal............................. $ 915 $ (275) $ (1,689) $ (179) State............................... 125 10 -- -- Foreign............................. -- 456 153 51 ------ ------- -------- ------- 1,040 191 (1,536) (128) Deferred: Federal............................. 1,591 (653) (7,303) 128 State............................... 213 (18) (226) -- ------ ------- -------- ------- 1,804 (671) (7,529) 128 ------ ------- -------- ------- $2,844 $ (480) $ (9,065) $ -- ====== ======= ======== =======
The Company's available net operating loss (NOL) carryforward for federal tax reporting purposes approximates $17,300 and may be subject to certain limitations as defined under Section 382 of the Internal Revenue Code. The federal NOL carryforwards expire through the year 2012. The Company's NOL's for state tax reporting purposes approximate $13,000 and expire through the year 2002. F-14 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) A reconciliation of the statutory federal income tax rate and the effective tax rate as a percentage of pretax income is as follows:
YEARS ENDED EIGHT MONTHS APRIL 30, ENDED -------------------- DECEMBER 31, 1995 1996 1997 1997 ---- ----- ----- ------------- Statutory income tax rate.............. 34.0 % (34.0)% (34.0)% (34.0)% State and local income taxes, net of federal income tax benefit............ 6.6 (3.0) (3.0) (3.0) Valuation allowance.................... -- -- 8.0 39.7 Other.................................. (0.5) (2.2) 4.0 (2.7) ---- ----- ----- ----- Effective income tax rate.............. 40.1 % (39.2)% (25.0)% -- % ==== ===== ===== =====
The components of the Company's net deferred income tax asset (liability) are as follows:
APRIL 30, ---------------- DECEMBER 31, 1996 1997 1997 ------- ------- ------------ Current deferred tax asset (liability): Prepaid royalties......................... $(4,681) $(3,060) $(2,760) Nondeductible reserves.................... 3,655 5,532 5,603 Accrued expenses.......................... 675 769 1,015 Foreign loss and credit carryforward...... 568 207 1,008 Federal and state net operating losses.... -- 6,264 6,668 Research and development credit carryforward............................. -- 831 831 Other..................................... 106 241 330 ------- ------- ------- 323 10,784 12,695 Valuation allowance....................... -- (2,895) (4,903) ------- ------- ------- $ 323 $ 7,889 $ 7,792 ======= ======= ======= Non-current deferred tax asset (liability): Depreciation expense...................... $ (591) $ (585) $ (625) Nondeductible reserves.................... 155 127 191 Other..................................... 70 55 -- ------- ------- ------- $ (366) $ (403) $ (434) ======= ======= =======
F-15 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) 8. COMMITMENTS AND CONTINGENCIES Leases The Company leases office space in Irvine, California for its corporate offices. The lease expires in June 2006 with one five-year option to extend the term of the lease. The Company has also entered into various computer equipment operating leases. Future minimum lease payments under noncancelable operating leases are as follows: Year ending December 31: 1998............................................................... $ 2,036 1999............................................................... 1,710 2000............................................................... 1,414 2001............................................................... 1,522 2002............................................................... 1,669 Thereafter......................................................... 6,133 ------- $14,484 =======
Total rent expense was $362, $697 and $2,089 for the years ended April 30, 1995, 1996 and 1997, respectively, and $1,292 for the eight months ended December 31, 1997. Pending Internal Revenue Service Examination The Internal Revenue Service (the IRS) is currently examining the Company's consolidated federal income tax returns for the years ended April 30, 1994, 1995 and 1996. The consolidated federal income tax return for the year ended April 30, 1997 remains open. The IRS has preliminarily challenged the timing of certain tax deductions taken by the Company. The Company is currently contesting such challenges. However, if the IRS is successful in its position, the effect on the consolidated financial statements would be to reduce amounts currently shown as deferred income taxes and net operating loss carryforwards and the recording of interest expense of approximately $700. In conjunction with this matter, the Company has recorded certain reserves and, in the opinion of management, settlement of this matter will not have a material adverse effect on the consolidated financial position or operating results of the Company. Litigation In July 1997, S3 Incorporated (S3), an original equipment manufacturer (OEM) customer, filed a complaint against the Company claiming, among other things, that the Company breached its obligations to S3 under a license agreement. In September 1997, the Company filed a cross-complaint against S3 claiming, among other things, that S3 breached the license agreement by failing to make guaranteed payments. Both parties are seeking in excess of $1,000 in the lawsuit. On April 28, 1998, the Company entered into a Settlement and Release Agreement pursuant to which S3 has agreed to pay the Company certain amounts in full settlement of all claims. The Company is also involved in other litigation arising from the normal course of business. Management believes that the final outcome of all legal matters will not have a material adverse effect on the Company's financial position or results of operations. Employment Agreements The Company has entered into employment agreements with three of its officers providing for, among other things, salary, bonuses and the right to participate in certain incentive compensation and other employee benefit plans established by the Company. Under these agreements, upon termination without cause or resignation for F-16 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) good reason, as defined, the employees are entitled to 150 percent of their annual salary and 75 percent of the imputed bonus, as defined. These agreements expire in 1999. 9. COMMON STOCK During 1994, the Company issued 1,824,897 shares of common stock for cash to a corporate stockholder. In addition, the corporate stockholder purchased 1,216,598 shares of common stock for cash from the founder of the Company (the Founder). In connection with this transaction, the corporate stockholder was granted options to purchase additional shares from the Founder, which were exercisable in 1995 and 1996. The corporate stockholder exercised these options and purchased 1,150,123 and 1,216,598 shares from the Founder during 1996 and 1995, respectively. On May 26, 1995, the Company entered into an Agreement of Settlement and Mutual Release with a former employee whereby 89,222 shares of common stock were cancelled and the former employee's remaining shares of 45,000 shares were retained by the former employee. On February 1, 1997, the Company repurchased 29,124 shares of common stock from an employee in exchange for a $275 note payable. The note bears interest at 7 percent and is payable over 36 months. On September 12, 1997, the Company entered into a Separation and Release Agreement with a former employee whereby 178,594 shares of common stock were cancelled and the former employee's remaining shares of 149,500 shares were retained by the former employee. 10. EMPLOYEE BENEFIT PLANS Stock Option Plans The Company has three stock option plans. Under the Incentive Stock Option, Nonqualified Stock Option and Restricted Stock Purchase Plan--1991 (1991 Plan), the Company may grant options to its employees to purchase up to 2,250,000 shares of common stock. Under the Incentive Stock Option and Nonqualified Stock Option Plan--1994 (1994 Plan), the Company may grant options to its employees to purchase up to 808,300 shares of common stock. Under the 1997 Stock Incentive Plan, adopted in 1997, the Company may grant options to its employees, consultants and directors to purchase up to 700,000 shares of common stock (See Note 13). Options under all three plans generally vest over five years. Holders of options under the 1991 Plan and the 1994 Plan shall be deemed 100 percent vested in the event of a merger in which the Company is not the surviving entity, a sale of substantially all of the assets of the Company, or a sale of all shares of common stock of the Company. The Company has treated the difference, if any, between the exercise price and the estimated fair market value, as determined by the board of directors on the date of grant, as compensation expense for financial reporting purposes. Compensation expense for the vested portion aggregated $306 for each of the years ended April 30, 1996 and 1997 and $204 for the eight months ended December 31, 1997. F-17 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) The following is a summary of option activity pursuant to the Company's stock option plans:
APRIL 30, 1996 APRIL 30, 1997 DECEMBER 31, 1997 ------------------- ------------------- ------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE --------- -------- --------- -------- --------- -------- Options outstanding at beginning of year...... 1,665,479 $1.69 1,824,025 $ 3.16 1,630,022 $ 4.59 Granted................. 418,050 8.79 136,800 14.08 263,750 11.25 Exercised............... (177,104) 0.79 (313,403) 0.18 -- -- Cancelled............... (82,400) 7.16 (17,400) 8.50 (54,800) 12.50 --------- ----- --------- ------ --------- ------ Options outstanding at end of year............ 1,824,025 $3.16 1,630,022 $ 4.59 1,838,972 $ 5.31 ========= ===== ========= ====== ========= ====== Options exercisable..... 1,434,775 1,218,102 1,324,132 ========= ========= =========
The following outlines the significant assumptions used to calculate the fair value information presented utilizing the Black Scholes Single Option approach with ratable amortization:
APRIL 30, --------------------- DECEMBER 31, 1996 1997 1997 ---------- ---------- ------------ Risk free rate.......................... 6.1% 6.1% 6.1% Expected life........................... 7.12 years 7.13 years 8.02 years Expected volatility..................... -- -- -- Expected dividends...................... -- -- -- Weighted-average grant-date fair value of options granted..................... $2.34 $3.68 $3.61
A detail of the options outstanding and exercisable as of December 31, 1997 is as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------------- -------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF NUMBER CONTRACT EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING LIFE PRICE OUTSTANDING PRICE --------------- ----------- ---------- -------- ----------- -------- $ 0.15-$ 0.47 676,659 4.31 years $ 0.21 676,659 $ 0.21 2.00- 4.44 274,913 6.15 years 3.48 274,913 3.48 4.50- 8.50 446,350 7.26 years 7.91 278,360 7.84 10.00- 14.62 441,050 8.49 years 11.65 94,200 11.62 ------------- --------- ---------- ------ --------- ------ $ 0.15-$14.62 1,838,972 6.30 years $ 5.31 1,324,132 $ 3.30 ============= ========= ========== ====== ========= ======
F-18 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) The following table shows pro forma net loss as if the fair value based accounting method prescribed by SFAS No. 123 had been used to account for stock based compensation cost:
EIGHT MONTHS YEARS ENDED APRIL 30, ENDED ---------------------- DECEMBER 31, 1996 1997 1997 ---------- ----------- ------------ Net loss as reported.................. $ (744) $ (27,219) $(5,059) Pro forma compensation expense........ (121) (348) (276) --------- ----------- ------- Pro forma net loss.................... $ (865) $ (27,567) $(5,335) ========= =========== ======= Basic and diluted net loss as report- ed................................... $ (0.07) $ (2.46) $ (0.45) Basic and diluted pro forma net loss.. $ (0.08) $ (2.49) $ (0.48)
Profit Sharing 401(k) Plan The Company sponsors a 401(k) plan (the Plan) for full-time employees over 18 years of age. Eligible employees may participate in the Plan in each year in which the employee has greater than 1,000 hours of service with the Company. The Company matches 50 percent of the participant's contributions up to the first six percent of the participant's salary deferral. The profit sharing contribution amount is at the sole discretion of the Company's board of directors. Participants vest at a rate of 20 percent per year after the first year of service for profit sharing contributions and 20 percent per year after the first three years of service for matching contributions. Participants become 100 percent vested upon death, permanent disability or termination of the Plan. Benefit expense for the years ended April 30, 1995, 1996 and 1997 was $53, $160, and $229, respectively, and $178 for the eight months ended December 31, 1997. 11. RELATED PARTIES The Company has amounts due from a business controlled by the Chairman and CEO of the Company. Net amounts due, prior to reserves, at April 30, 1996, and 1997 and December 31, 1997 were $1,607, $783 and $1,515, respectively. Such amounts at April 30 and December 31, 1997 are fully reserved. Through December 1997, the Company rented office space from the Chairman and CEO of the Company. Rent expense paid to the Chairman and CEO was $236, $248 and $191 for the years ended April 30, 1995, 1996 and 1997, respectively and $160 for the eight months ended December 31, 1997. 12. SIGNIFICANT CUSTOMERS For the year ended April 30, 1997 one customer accounted for approximately 15 percent of net revenues. No single customer accounted for ten percent or more of net revenues in the years ended April 30, 1995 and 1996 and the eight months ended December 31, 1997. 13. SUBSEQUENT EVENTS Reincorporation On March 2, 1998, the Board of Directors of Interplay Productions approved a reincorporation plan. Under the reincorporation plan Interplay Productions formed a new subsidiary in Delaware into which Interplay F-19 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Productions will be merged. The new Delaware Corporation has 50,000,000 shares of Common Stock and 5,000,000 shares of Preferred Stock authorized for issuance. The reincorporation plan became effective on May 29, 1998. Initial Public Offering On March 2, 1998, the Company's Board of Directors authorized management to pursue an initial public offering of the Company's common stock (IPO). The Company plans to file an S-1 Registration Statement with the Securities and Exchange Commission to sell common stock to the public. The proceeds of the offering will be used, in part, to repay debt. Subordinated Secured Promissory Notes As discussed in Note 6, the Note holders may elect to convert their Notes to common stock upon the closing of a qualified IPO, as defined. In accordance with the terms of the Notes, the Company has requested that each holder elect to either convert the outstanding principal amount to common stock upon the closing of the IPO or receive full payment in cash from the proceeds of the IPO. In the event this IPO is completed, the holders of approximately $8,700 of Notes and Warrants have elected to exercise their Warrants by cancellation of their Notes to common stock and the balance of approximately $6,100 have requested payment in cash. If the Company does not complete the IPO prior to November 30, 1998, the holders have the option, 30 days thereafter, to notify the Company in writing, that they declare the Notes due and payable or may unilaterally elect to extend the Notes one year. Management's current projections indicate that there will be sufficient cash flow from operations to fund that obligation should the Note holders elect cash payment. However, if the Company is not able to achieve the operating plan and therefore cash flows from operations are insufficient to repay the Notes, management would be prepared to implement certain cost-cutting measures. Such measures would include deferrals of advertising expenditures, capital additions and product development projects. Stock Options (unaudited) Effective February 9, 1998, the Company repriced substantially all outstanding options with exercise prices greater than $8 per share and subsequently reissued these options with exercise prices equal to $8 per share, management's estimate of the fair value of the Company's common stock as of the date of reissuance. The effect of this has not been reflected in the information in Note 10. These options were accounted for as new grants. Effective February 23, 1998, the number of shares authorized under the 1991 Plan and the 1994 Plan were reduced to 898,425 and 639,984, respectively, and such plans were terminated for purposes of future grants. The aggregate reduction of 1,519,891 shares were contributed to the 1997 Plan resulting in 2,219,891 authorized shares under the 1997 Plan, of which 1,680,541 remain available for grant. Also, on February 23, 1998, the Company granted 240,100 stock options with an exercise price equal to the estimated fair market value of $8 per share. F-20 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) A schedule of the options outstanding as of February 28, 1998 giving effect for the repricing discussed above is as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------------- -------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF NUMBER CONTRACT EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING LIFE PRICE OUTSTANDING PRICE --------------- ----------- ---------- -------- ----------- -------- $0.15-$ 0.47 676,659 4.15 years $0.20 676,659 $0.20 2.00- 4.44 274,913 5.99 years 3.48 274,913 3.48 4.50- 6.66 81,500 6.37 years 5.33 61,500 5.61 7.00- 10.00 1,021,634 8.36 years 8.15 320,260 8.19 ------------ --------- ---------- ----- --------- ----- $0.15-$10.00 2,054,706 6.58 years $4.80 1,333,332 $3.05 ============ ========= ========== ===== ========= =====
14. OPERATIONS BY GEOGRAPHICAL AREA The Company operates in one industry segment. Information about the Company's operations in the United States and foreign areas for the fiscal years ended April 30, 1995, 1996 and 1997 and for the eight months ended December 31, 1997 and the three months ended March 31, 1998 is presented below:
APRIL 30, APRIL 30, APRIL 30, DECEMBER 31, MARCH 31, 1995 1996 1997 1997 1998 --------- --------- --------- ------------ --------- Net revenues: United States......... $68,021 $78,823 $ 54,469 $65,199 $31,245 United Kingdom........ 11,525 18,127 27,867 20,689 9,751 Other................. -- 2 926 73 -- ------- ------- -------- ------- ------- Consolidated net revenues........... $79,546 $96,952 $ 83,262 $85,961 $40,996 ======= ======= ======== ======= ======= Income (loss) from oper- ations: United States......... $ 5,090 $(1,410) $(30,764) $ 298 $ 1,478 United Kingdom........ 957 1,853 (3,871) (2,666) 3,034 Other................. -- (860) (49) (418) -- ------- ------- -------- ------- ------- Consolidated income (loss) from operations......... $ 6,047 $ (417) $(34,684) $(2,786) $ 4,512 ======= ======= ======== ======= ======= Identifiable assets: United States......... $39,211 $57,550 $ 53,722 $65,535 $69,650 United Kingdom........ 5,015 10,234 13,836 12,033 9,070 Other................. -- 727 1,447 253 (393) ------- ------- -------- ------- ------- Consolidated identifiable assets............. $44,226 $68,511 $ 69,005 $77,821 $78,327 ======= ======= ======== ======= =======
F-21 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) AMOUNTS AND DISCLOSURES AS OF MARCH 31, 1998 AND FOR THE THREE MONTHS ENDED MARCH 31, 1997 AND 1998 ARE UNAUDITED (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Net revenues for the years ended April 30, 1995, 1996 and 1997 and the eight months ended December 31, 1997 and the three months ended March 31, 1998 were made to geographic regions as follows:
APRIL 30, 1995 APRIL 30, 1996 APRIL 30, 1997 DECEMBER 31, 1997 MARCH 31, 1998 --------------- --------------- --------------- ------------------- --------------- AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT ------- ------- ------- ------- ------- ------- --------- --------- ------- ------- North America........... $51,892 65.2% $54,702 56.4% $38,606 46.4% $ 51,833 60.3% $23,516 57.4% Europe.................. 12,911 16.2 17,683 18.3 26,752 32.1 19,941 23.2 8,265 20.2 Rest of world........... 918 1.2 6,896 7.1 5,254 6.3 4,701 5.5 2,958 7.2 OEM, royalty and licensing.............. 13,825 17.4 17,671 18.2 12,650 15.2 9,486 11.0 6,257 15.2 ------- ----- ------- ----- ------- ----- --------- ------- ------- ----- $79,546 100.0% $96,952 100.0% $83,262 100.0% $ 85,961 100.0% $40,996 100.0% ======= ===== ======= ===== ======= ===== ========= ======= ======= =====
F-22 FUTURE RELEASES BALDUR'S GATE CAESARS PALACE VIP SERIES CRIME KILLER DESCENT: [ANIMATED DEPICTIONS OF CHARACTERS AND FREESPACE THE GREAT WAR ARTWORK FROM CERTAIN OF THE LISTED FUTURE RELEASES ARE ARRANGED VERTICALLY TO THE LEFT OF THE RIGHT COLUMN] EARTHWORM JIM 3D FALLOUT 2 M.A.X. 2 MESSIAH REDNECK RAMPAGE RIDES AGAIN STAR TREK: SECRET OF VULCAN FURY VR BASEBALL '99 VR FOOTBALL '99 WILD 9 THERE CAN BE NO ASSURANCE THAT THE ANTICIPATED FUTURE TITLES WILL BE RELEASED IN A TIMELY MANNER, IF AT ALL. SEE "RISK FACTORS" COMMENCING ON PAGE FIVE. STAR TREK AND RELATED ELEMENTS(TM) & (C) 1998 PARAMOUNT PICTURES. ALL RIGHTS RESERVED. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- NO DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFOR- MATION OR TO MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS IN CON- NECTION WITH THE OFFER MADE IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH IN- FORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR UNDERWRITERS. THIS PROSPECTUS DOES NOT CONSTITUTE ANY OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY OF THE SECURITIES OFFERED HEREBY TO ANY PERSON OR BY ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED OR IN WHICH THE PERSON MAKING SUCH OFFER OR SO- LICITATION IS NOT QUALIFIED TO DO SO OR TO ANYONE TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUB- SEQUENT TO THE DATE OF THE PROSPECTUS. ---------------- TABLE OF CONTENTS
PAGE ---- Prospectus Summary....................................................... 3 Summary Consolidated Financial Data...................................... 4 Risk Factors............................................................. 5 Use of Proceeds.......................................................... 16 Dividend Policy.......................................................... 16 Dilution................................................................. 17 Capitalization........................................................... 18 Selected Consolidated Financial Data..................................... 19 Management's Discussion and Analysis of Financial Condition and Results of Operations........................................................... 20 Business................................................................. 32 Management............................................................... 46 Principal Stockholders................................................... 54 Certain Transactions..................................................... 55 Description of Capital Stock............................................. 58 Shares Eligible for Future Sale.......................................... 61 Underwriting............................................................. 62 Legal Matters............................................................ 64 Experts.................................................................. 64 Available Information.................................................... 64 Index to Consolidated Financial Statements............................... F-1
---------------- UNTIL , 1998 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS EFFECTING TRANSACTIONS IN THE REGISTERED SECURITIES, WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- 6,250,000 Shares [LOGO OF INTERPLAY APPEARS HERE] Common Stock ---------------- PROSPECTUS ---------------- Piper Jaffray inc. Bear, Stearns & Co. Inc. UBS Securities , 1998 - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The following table sets forth all costs and expenses, other than underwriting discounts and commissions, payable by the Company in connection with the sale of the Common Stock being registered hereunder. All of the amounts shown are estimates except for the SEC registration fee and the NASD filing fee.
TO BE PAID BY THE COMPANY ------------- SEC registration fee........................................... $ 21,203 NASD filing fee................................................ 7,688 Nasdaq National Market application fee......................... 94,000 Printing expenses.............................................. 150,000 Legal fees and expenses........................................ 250,000 Accounting fees and expenses................................... 175,000 Blue sky fees and expenses..................................... 25,000 Transfer agent and registrar fees.............................. 50,000 Directors and officers insurance premiums...................... 150,000 Miscellaneous.................................................. 77,109 ---------- Total........................................................ $1,000,000 ==========
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS (a) As permitted by the Delaware General Corporation Law ("DGCL"), the Certificate of Incorporation of the Company (Exhibit 3.1 hereto) eliminates the liability of directors to the Company or its stockholders for monetary damages for breach of fiduciary duty as a directors, except to the extent otherwise required by the DGCL. (b) The Certificate of Incorporation provides that the Company will indemnify each person who was or is made a party to any proceeding by reason of the fact that such person is or was a director or officer of the Company against all expense, liability and loss reasonably incurred or suffered by such person in connection therewith to the fullest extent authorized by the DGCL. The Company's Bylaws (Exhibit 3.2 hereto) provide for a similar indemnity to directors and officers of the Company to the fullest extent authorized by the DGCL. (c) The Certificate of Incorporation also gives the Company the ability to enter into indemnification agreements with each of its directors and officers. The Company has entered into indemnification agreements with certain of its directors and officers (Exhibit 10.11 hereto), which provide for the indemnification of such persons against any and all expenses, judgments, fines, penalties and amounts paid in settlement, to the fullest extent permitted by law. (d) The Purchase Agreement to be entered into among the Company and the Underwriters (the form of which is filed as Exhibit 1.1 to this Registration Statement) requires the Underwriters to indemnify the Company and its officers and directors for certain liabilities, including certain liabilities under the Securities Act. ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES The following is a summary of transactions by the Company during the last three years preceding the date hereof involving sales of the Company's securities that were not registered under the Securities Act: From March 31, 1995 to March 31, 1998, the Company issued an aggregate of 1,058,700 nonqualified stock options to purchase Common Stock pursuant to the Company's Incentive Stock Option and Nonqualified Stock Option Plan--1994 (the "1994 Plan") and pursuant to the Company's 1997 Stock Incentive Plan (the II-1 "1997 Plan") to officers, directors and employees of the Company as described in the Prospectus, at a weighted average exercise price of $9.91. Such options were issued but not sold, in the view of the Company, and, therefore, registration thereof was not required. During the same period, the Company issued an aggregate of 667,270 shares of its Common Stock to three executive officers, eight employees and one terminated employee upon the exercise of non-plan options and options issued under the Incentive Stock Option, Nonqualified Stock Option and Restricted Stock Purchase Plan--1991 (the "1991 Plan") with purchase prices ranging from $0.153 to $4.44 per share for an aggregate consideration of $253,080.62 and the Company issued an aggregate of 1,200 shares of Common Stock upon the exercise of options under the 1994 Plan to one terminated employee at a purchase price of $8.50 per share. During the period referred to above, no options issued pursuant to the 1997 Plan were exercised. From October 10, 1996 to February 21, 1997, the Company issued Subordinated Secured Promissory Notes (the "Notes") and Warrants to purchase Common Stock, in the aggregate amount of $14,803,000 to 51 accredited investors, as defined under the Act, in a private offering. Subsequent to the closing of the private offering, the Company exchanged the original Notes bearing interest at the prime rate plus five percent (5%), but not less than ten percent (10%), per annum for Notes of equivalent principal value, but bearing interest at the rate of twelve percent (12%) per annum. Between May 7, 1997 and June 4, 1997, the Company issued 16,362 shares of Common Stock to Note holders who elected to convert the accrued interest on their Notes in the aggregate amount of $184,072.50 into such shares. ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES (a) Exhibits
EXHIBIT NO. DESCRIPTION ------- ----------- 1.1 Form of Purchase Agreement among the Company and the Underwriters.+ 2.1 Agreement and Plan of Reorganization and Merger, dated May 29, 1998, between the Company and Interplay Productions. 3.1 Amended and Restated Certificate of Incorporation of the Company. 3.2 Amended and Restated Bylaws of the Company. 4.1 Specimen form of stock certificate for Common Stock.+ 4.2 Shareholders' Agreement among MCA Inc., the Company, and Brian Fargo, dated March 30, 1994, as amended. 4.3 Investors' Rights Agreement dated October 10, 1996, as amended, among the Company and holders of its Subordinated Secured Promissory Notes and Warrants to purchase Common Stock.+ 5.1 Opinion of Stradling Yocca Carlson & Rauth, a Professional Corporation.+ 10.1 Amended and Restated 1997 Stock Incentive Plan (the "1997 Plan").+ 10.2 Form of Stock Option Agreement pertaining to the 1997 Plan.+ 10.3 Form of Restricted Stock Purchase Agreement pertaining to the 1997 Plan.+ 10.4 Incentive Stock Option and Nonqualified Stock Option Plan--1994, as amended (the "1994 Plan").+ 10.5 Form of Nonqualified Stock Option Agreement pertaining to the 1994 Plan.+ 10.6 Incentive Stock Option, Nonqualified Stock Option and Restricted Stock Purchase Plan--1991, as amended (the "1991 Plan").+ 10.7 Form of Incentive Stock Option Agreement pertaining to the 1991 Plan.+ 10.8 Form of Nonqualified Stock Option Agreement pertaining to the 1991 Plan.+ 10.9 Intentionally omitted. 10.10 Employee Stock Purchase Plan.+ 10.11 Form of Indemnification Agreement for Officers and Directors of the Company.+
II-2
EXHIBIT NO. DESCRIPTION ------- ----------- 10.12 Form of Subordinated Secured Promissory Note between the Company and note holders.+ 10.13 Form of Warrant to Purchase Common Stock between the Company and warrant holders.+ 10.14 Von Karman Corporate Center Office Building Lease between the Company and Aetna Life Insurance Company of Illinois ("Aetna"), dated September 8, 1995, together with amendments thereto.+ 10.15 Loan and Security Agreement among Greyrock Business Credit, a Division of NationsCredit Commercial Corporation ("Greyrock"), the Company, and Interplay OEM, Inc. ("Interplay OEM"), dated June 16, 1997, as amended, with Schedules.+ 10.16 Intentionally omitted. 10.17 Intentionally omitted. 10.18 Letter of Credit Agreement among Greyrock, the Company and Interplay OEM, dated September 10, 1997.+ 10.19 Letter of Credit Agreement among Greyrock, the Company and Interplay OEM, dated September 24, 1997.+ 10.20 Master Equipment Lease between Brentwood Credit Corporation and the Company, dated March 28, 1996, with Schedules.+ 10.21 Intentionally omitted. 10.22 Master Equipment Lease Agreement between General Electric Capital Computer Leasing Corporation ("GECC") and the Company, dated December 14, 1994, as amended, with Schedules.+ 10.23 Confidential License Agreement for Nintendo 64 Video Game System, between the Company and Nintendo of America, Inc., dated October 7, 1997. (Portions omitted pursuant to a request for confidential treatment.)+ 10.24 PlayStation License Agreement, between Sony Computer Entertainment of America and the Company, dated February 16, 1995. (Portions omitted pursuant to a request for confidential treatment.) 10.25 Master Merchandising License Agreement between Paramount Pictures Corporation and the Company, dated as of June 16, 1992. (Portions omitted pursuant to a request for confidential treatment.)+ 10.26 Employment Agreement between the Company and Brian Fargo, dated March 28, 1994, as amended.+ 10.27 Employment Agreement between the Company and Christopher J. Kilpatrick, dated May 1, 1994, as amended.+ 10.28 Employment Agreement between the Company and Richard S.F. Lehrberg, dated March 28, 1994, as amended.+ 21.1 Subsidiaries of the Company.+ 23.1 Consent of Stradling Yocca Carlson & Rauth, a Professional Corporation (contained in the opinion filed as Exhibit 5.1 hereto).+ 23.2 Consent of Arthur Andersen LLP. 24.1 Power of Attorney (included as page II-5 to the Registration Statement).+ 27.1 Financial Data Schedule.+
- -------- + Previously filed. II-3 (b) Financial Statement Schedules NUMBER Schedule II--Valuation and Qualifying Accounts All other schedules are omitted because they are not required under the related instructions, are inapplicable, or the information is included in the Consolidated Financial Statements or the Notes thereto. ITEM 17. UNDERTAKINGS The Company hereby undertakes to provide to the Representatives at the closing specified in the Purchase Agreement certificates in such denominations and registered in such names as required by the Underwriters to permit prompt delivery to each purchaser. Insofar as indemnification for liabilities arising under the Act may be permitted to directors, officers and controlling persons of the Company pursuant to the foregoing provisions or otherwise, the Company has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Company of expenses incurred or paid by a director, officer or controlling person of the Company in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Company will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question of whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. The Company hereby undertakes that: (1) For purposes of determining any liability under the Act, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the Company pursuant to Rule 424(b)(1) or (4) or 497(h) under the Act shall be deemed to be part of this registration statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Act, each post- effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. II-4 SIGNATURES PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, AS AMENDED, THE REGISTRANT HAS DULY CAUSED THIS AMENDMENT NO. 3 TO REGISTRATION STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY OF IRVINE, STATE OF CALIFORNIA, ON THE 3RD DAY OF JUNE, 1998. INTERPLAY ENTERTAINMENT CORP. /s/ Brian Fargo By: _________________________________ BRIAN FARGO CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, AS AMENDED, THIS AMENDMENT NO. 3 TO REGISTRATION STATEMENT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS IN THE CAPACITIES AND ON THE DATES INDICATED. SIGNATURE TITLE DATE /s/ Brian Fargo Chairman of the - ------------------------------------- Board of Directors June 3, 1998 BRIAN FARGO and Chief Executive Officer (Principal Executive Officer) /s/ Christopher J. Kilpatrick President and - ------------------------------------- Director June 3, 1998 CHRISTOPHER J. KILPATRICK /s/ James C. Wilson Chief Financial - ------------------------------------- Officer (Principal June 3, 1998 JAMES C. WILSON Financial and Accounting Officer) * Executive Vice - ------------------------------------- President and June 3, 1998 RICHARD S.F. LEHRBERG Director * Director - ------------------------------------- June 3, 1998 MARK PINKERTON * Director - ------------------------------------- June 3, 1998 CHARLES S. PAUL * Director - ------------------------------------- June 3, 1998 PAUL A. RIOUX * Director - ------------------------------------- June 3, 1998 DAVID R. DUKES *By: /s/ Brian Fargo ---------------------------------- BRIAN FARGO ATTORNEY-IN-FACT II-5 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Interplay Entertainment Corp: We have audited in accordance with generally accepted auditing standards, the consolidated financial statements of Interplay Entertainment Corp. included in this registration statement and have issued our report thereon dated March 20, 1998. Our audit was made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule included on page S-2 is the responsibility of the Company's management and is presented for purposes of complying with the Securities and Exchange Commission's rules and is not part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. Our report on the consolidated financial statements includes an explanatory paragraph that states that the Subordinated Secured Promissory Notes ("Notes") mature on November 30, 1998 and that the holders have the option to notify the Company in writing that they declare the Notes due and payable. In addition, the Company's line of credit matures in May 1999. Terms of these borrowings and management's plans in connection with repayment are, 30 days thereafter, discussed further in Notes 6 and 13 to the consolidated financial statements. Arthur Andersen LLP Orange County, California March 20, 1998 S-1 INTERPLAY ENTERTAINMENT CORP. AND SUBSIDIARIES SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS (AMOUNTS IN THOUSANDS)
BALANCE AT CHARGED TO BALANCE BEGINNING COSTS AND AT END DESCRIPTION OF PERIOD EXPENSES DEDUCTIONS OF PERIOD ----------- ---------- ---------- ---------- --------- Year Ended April 30, 1995 Allowance for doubtful accounts and returns............................ $ 1,448 $10,878 $ (7,294) $ 5,032 ======= ======= ======== ======= Year Ended April 30, 1996 Allowance for doubtful accounts and returns............................ $ 5,032 $26,882 $(22,814) $ 9,100 ======= ======= ======== ======= Year Ended April 30, 1997 Allowance for doubtful accounts and returns............................ $ 9,100 $34,424 $(28,630) $14,894 ======= ======= ======== ======= Eight Months Ended December 31, 1997 Allowance for doubtful accounts and returns............................ $14,894 $21,915 $(22,348) $14,461 ======= ======= ======== =======
S-2 EXHIBIT INDEX
SEQUENTIALLY EXHIBIT NUMBERED NO. DESCRIPTION PAGE ------- ----------- ------------ 1.1 Form of Purchase Agreement among the Company and the Underwriters.+ 2.1 Agreement and Plan of Reorganization and Merger, dated May 29, 1998, between the Company and Interplay Productions. 3.1 Amended and Restated Certificate of Incorporation of the Company. 3.2 Amended and Restated Bylaws of the Company. 4.1 Specimen form of stock certificate for Common Stock.+ 4.2 Shareholders' Agreement among MCA Inc., the Company, and Brian Fargo, dated March 30, 1994, as amended. 4.3 Investors' Rights Agreement dated October 10, 1996, as amended, among the Company and holders of its Subordinated Secured Promissory Notes and Warrants to purchase Common Stock.+ 5.1 Opinion of Stradling Yocca Carlson & Rauth, a Professional Corporation.+ 10.1 Amended and Restated 1997 Stock Incentive Plan (the "1997 Plan").+ 10.2 Form of Stock Option Agreement pertaining to the 1997 Plan.+ 10.3 Form of Restricted Stock Purchase Agreement pertaining to the 1997 Plan.+ 10.4 Incentive Stock Option and Nonqualified Stock Option Plan--1994, as amended (the "1994 Plan").+ 10.5 Form of Nonqualified Stock Option Agreement pertaining to the 1994 Plan.+ 10.6 Incentive Stock Option, Nonqualified Stock Option and Restricted Stock Purchase Plan--1991, as amended (the "1991 Plan").+ 10.7 Form of Incentive Stock Option Agreement pertaining to the 1991 Plan.+ 10.8 Form of Nonqualified Stock Option Agreement pertaining to the 1991 Plan.+ 10.9 Intentionally omitted. 10.10 Employee Stock Purchase Plan.+ 10.11 Form of Indemnification Agreement for Officers and Directors of the Company.+ 10.12 Form of Subordinated Secured Promissory Note between the Company and note holders.+ 10.13 Form of Warrant to Purchase Common Stock between the Company and warrant holders.+ 10.14 Von Karman Corporate Center Office Building Lease between the Company and Aetna Life Insurance Company of Illinois ("Aetna"), dated September 8, 1995, together with amendments thereto.+ 10.15 Loan and Security Agreement among Greyrock Business Credit, a Division of NationsCredit Commercial Corporation ("Greyrock"), the Company, and Interplay OEM, Inc. ("Interplay OEM"), dated June 16, 1997, as amended, with Schedules.+ 10.16 Intentionally omitted. 10.17 Intentionally omitted. 10.18 Letter of Credit Agreement among Greyrock, the Company and Interplay OEM, dated September 10, 1997.+ 10.19 Letter of Credit Agreement among Greyrock, the Company and Interplay OEM, dated September 24, 1997.+ 10.20 Master Equipment Lease between Brentwood Credit Corporation and the Company, dated March 28, 1996, with Schedules.+
SEQUENTIALLY EXHIBIT NUMBERED NO. DESCRIPTION PAGE ------- ----------- ------------ 10.21 Intentionally omitted. 10.22 Master Equipment Lease Agreement between General Electric Capital Computer Leasing Corporation ("GECC") and the Company, dated December 14, 1994, as amended, with Schedules.+ 10.23 Confidential License Agreement for Nintendo 64 Video Game System, between the Company and Nintendo of America, Inc., dated October 7, 1997. (Portions omitted pursuant to a request for confidential treatment.)+ 10.24 PlayStation License Agreement, between Sony Computer Entertainment of America and the Company, dated February 16, 1995. (Portions omitted pursuant to a request for confidential treatment.) 10.25 Master Merchandising License Agreement between Paramount Pictures Corporation and the Company, dated as of June 16, 1992. (Portions omitted pursuant to a request for confidential treatment.)+ 10.26 Employment Agreement between the Company and Brian Fargo, dated March 28, 1994, as amended.+ 10.27 Employment Agreement between the Company and Christopher J. Kilpatrick, dated May 1, 1994, as amended.+ 10.28 Employment Agreement between the Company and Richard S.F. Lehrberg, dated March 28, 1994, as amended.+ 21.1 Subsidiaries of the Company.+ 23.1 Consent of Stradling Yocca Carlson & Rauth, a Professional Corporation (contained in the opinion filed as Exhibit 5.1 hereto).+ 23.2 Consent of Arthur Andersen LLP. 24.1 Power of Attorney (included as page II-5 to the Registration Statement).+ 27.1 Financial Data Schedule.+
- -------- + Previously filed. EX-2.1 2 AGREEMENT & PLAN OF MERGER DATED 5/29/98 EXHIBIT 2.1 AGREEMENT AND PLAN OF MERGER OF INTERPLAY ENTERTAINMENT CORP., A DELAWARE CORPORATION AND INTERPLAY PRODUCTIONS, A CALIFORNIA CORPORATION THIS AGREEMENT AND PLAN OF MERGER, dated as of May 29, 1998 (this "Agreement"), is between Interplay Entertainment Corp., a Delaware corporation ("Subsidiary"), and Interplay Productions, a California corporation ("Parent"), which corporations are sometimes referred to herein as the "Constituent Corporations." R E C I T A L S A. Subsidiary is a corporation duly organized and existing under the laws of the State of Delaware and has an authorized capital of 55,000,000 shares, 50,000,000 of which are designated "Common Stock," $0.001 par value, and 5,000,000 of which are designated "Preferred Stock," $0.001 par value. As of March 2, 1998, 1,000 shares of Common Stock were issued and outstanding, all of which were held by Parent. No shares of Preferred Stock were outstanding. B. Parent is a corporation duly organized and existing under the laws of the State of California and has an authorized capital of 90,000,000 shares, all of which are designated "Common Stock," no par value. As of May 21, 1998, 10,953,028 shares of Common Stock were outstanding. C. The Board of Directors of Parent has determined that, for the purpose of effecting the reincorporation of Parent in the State of Delaware, it is advisable and in the best interests of Parent and its shareholders that Parent merge with and into Subsidiary upon the terms and conditions herein provided. D. The respective Boards of Directors of Subsidiary and Parent have approved this Agreement and have directed that this Agreement be submitted to a vote of their respective stockholders and executed by the undersigned officers. NOW, THEREFORE, in consideration of the mutual agreements and covenants set forth herein, Subsidiary and Parent hereby agree, subject to the terms and conditions hereinafter set forth, as follows: I. MERGER 1.1 MERGER. In accordance with the provisions of this Agreement, the Delaware General Corporation Law and the California General Corporation Law, Parent shall be merged with and into Subsidiary (the "Merger"), the separate existence of Parent shall cease and Subsidiary shall be, and is herein sometimes referred to as, the "Surviving Corporation," and the name of the Surviving Corporation shall be "Interplay Entertainment Corp." 1.2 FILING AND EFFECTIVENESS. The Merger shall become effective when the following actions have been completed: (a) This Agreement has been adopted and approved by the stockholders of each Constituent Corporation in accordance with the requirements of the Delaware General Corporation Law and the California General Corporation Law; (b) All of the conditions precedent to the consummation of the Merger specified in this Agreement have been satisfied or duly waived by the party entitled to satisfaction thereof; and (c) An executed Certificate of Merger or an executed counterpart of this Agreement meeting the requirements of the Delaware General Corporation Law has been filed with the Secretary of State of the State of Delaware. The date and time when the Merger shall become effective, as aforesaid, is herein called the "Effective Date of the Merger." 1.3 EFFECT OF THE MERGER. Upon the Effective Date of the Merger, the separate existence and corporate organization of Parent shall cease and Subsidiary, as the Surviving Corporation, shall continue its corporate existence under the laws of the State of Delaware. II. CHARTER DOCUMENTS, DIRECTORS AND OFFICERS 2.1 CERTIFICATE OF INCORPORATION. The Certificate of Incorporation of Subsidiary as in effect immediately before the Effective Date of the Merger shall continue in full force and effect as the Certificate of Incorporation of the Surviving Corporation until duly amended or repealed in accordance with the provisions thereof and applicable law. 2.2 BYLAWS. The Bylaws of Subsidiary as in effect immediately before the Effective Date of the Merger shall continue in full force and effect as the Bylaws of the Surviving Corporation until duly amended or repealed in accordance with the provisions thereof and applicable law. 2.3 DIRECTORS AND OFFICERS. The directors and officers of Parent immediately before the Effective Date of the Merger shall be the directors and officers of the Surviving Corporation until the expiration of their current terms and until their successors have been duly elected and qualified, or until -2- their prior resignation, removal or death, subject to the Certificate of Incorporation and the Bylaws of the Surviving Corporation. III. MANNER OF CONVERSION OF STOCK 3.1 PARENT SHARES. Upon the Effective Date of the Merger: (a) Each share of Common Stock, no par value of Parent, issued and outstanding immediately before the Effective Date of the Merger shall by virtue of the Merger and without any action by the Constituent Corporations, by the holder of such shares or by any other person be converted into and exchanged for one (1) fully paid and nonassessable shares of Common Stock, $0.001 par value, of the Surviving Corporation. 3.2 PARENT OPTIONS. Upon the Effective Date of the Merger, the Surviving Corporation shall assume and continue Parent's 1997 Stock Incentive Plan and all other employee benefit plans of Parent. A number of shares of the Surviving Corporation's Common Stock shall be reserved for issuance upon the exercise of stock options, equal to the number of shares of Parent's Common Stock so reserved immediately before the Effective Date of the Merger. 3.3 SUBSIDIARY COMMON STOCK. Upon the Effective Date of the Merger, each share of Common Stock, $0.001 par value, of Subsidiary issued and outstanding immediately before the Effective Date of the Merger shall, by virtue of the Merger and without any action by Subsidiary, by the holder of such shares or by any other person be canceled and returned to the status of authorized but unissued shares. 3.4 EXCHANGE OF CERTIFICATES. After the Effective Date of the Merger, each holder of an outstanding certificate representing shares of Common Stock of Parent may, at such stockholder's option, surrender the same for cancellation to the Surviving Corporation or to its transfer agent (the "Exchange Agent"), and each such holder shall be entitled to receive in exchange therefor a certificate or certificates representing the number of shares of the Surviving Corporation's Common Stock into which the surrendered shares were converted as herein provided. Until so surrendered, each outstanding certificate theretofore representing shares of Common Stock of Parent shall be deemed for all purposes to represent the number of shares of the Surviving Corporation's Common Stock, as adjusted pursuant to Section 3.1 above, into which such shares of Common Stock of Parent were converted in the Merger. The registered owner on the books and records of the Surviving Corporation or the Exchange Agent of any such outstanding certificate shall, until such certificate has been surrendered for transfer or conversion or otherwise accounted for to the Surviving Corporation or the Exchange Agent, have and be entitled to exercise voting and other rights with respect to and to receive dividends and other distributions upon the shares of Common Stock of the Surviving Corporation represented by such outstanding certificate as provided above. Each certificate representing Common Stock of the Surviving Corporation so issued in the Merger shall bear the same legends, if any, with respect to restrictions on transferability as the -3- certificates of Parent so converted and given in exchange therefor, unless otherwise determined by the Board of Directors of the Surviving Corporation in compliance with applicable laws. If any certificate for shares of Subsidiary stock is to be issued in a name other than that in which the certificate surrendered in exchange therefor is registered, it shall be a condition of issuance thereof that the certificate so surrendered shall be properly endorsed and otherwise in proper form for transfer, that such transfer otherwise be proper and that the person requesting such transfer pay to the Exchange Agent any transfer or other taxes payable by reason of issuance of such new certificate in a name other than that of the registered holder of the certificate surrendered or establish to the satisfaction of Subsidiary that such tax has been paid or is not payable. IV. TRANSFER OF ASSETS AND LIABILITIES 4.1 TRANSFER OF ASSETS AND LIABILITIES. On the Effective Date, (i) the rights, privileges, powers and franchises, both of a public as well as of a private nature, of each of the Constituent Corporations shall be vested in and possessed by the Surviving Corporation, subject to all the disabilities, duties and restrictions of or upon each of the Constituent Corporations; (ii) all rights, privileges, powers and franchises of each of the Constituent Corporations, all property, real, personal and mixed, of each of the Constituent Corporations, all debts due to each of the Constituent Corporations on whatever account and all things in action or belonging to each of the Constituent Corporations shall be transferred to and vested in the Surviving Corporation; (iii) all property, rights, privileges, powers and franchises, as well as all other interests, shall be as effectively the property of the Surviving Corporation as they were of the Constituent Corporations before the Effective Date; and (iv) the title to any real estate vested by deed or otherwise in either of the Constituent Corporations shall not revert to either of the Constituent Corporations or be in any way impaired by reason of the Merger. Notwithstanding the foregoing, (i) the liabilities of the Constituent Corporations and of their stockholders, directors and officers shall not be affected by the Merger; (ii) all rights of creditors and all liens upon any property of either of the Constituent Corporations shall be preserved unimpaired notwithstanding the Merger; and (iii) any claim existing or action or proceeding pending by or against either of the Constituent Corporations may be prosecuted to judgment as if the Merger had not taken place; provided, however, that the claims and rights of the creditors of either or both of the Constituent Corporations may be modified with the consent of such creditors; and, provided further, that all debts, liabilities and duties of or upon each of the Constituent Corporations shall attach to the Surviving Corporation and accordingly may be enforced against it to the same extent as if such debts, liabilities and duties had been incurred or contracted by it. 4.2 FURTHER ASSURANCES. From time to time, as and when required by Subsidiary or by its successors or assigns, there shall be executed and delivered on behalf of Parent such deeds and other instruments, and there shall be taken or caused to be taken by it such further and other actions as shall be appropriate or necessary in order to vest or perfect in or conform of record or otherwise by Subsidiary the title to and possession of all the property, interests, assets, rights, privileges, immunities, powers, franchises and authority of Parent and otherwise to carry out the purposes of this Agreement, and the officers and directors of Subsidiary are fully authorized in the name and on behalf of Parent or otherwise to take all such actions and to execute and deliver all such deeds and other instruments. -4- V. GENERAL 5.1 COVENANTS OF SUBSIDIARY. Subsidiary covenants and agrees that it will, on or before the Effective Date of the Merger: (a) Qualify to do business as a foreign corporation in the State of California and in connection therewith irrevocably appoint an agent for service of process as required under the provisions of Section 2105 of the California General Corporation Law. (b) File all documents with the California Franchise Tax Board necessary for the assumption by Subsidiary of all of the franchise tax liabilities of Parent. (c) Take such other actions as may be required by the California General Corporation Law. 5.2 DEFERRAL. Consummation of the merger may be deferred by the Board of Directors of Parent for a reasonable period of time if the Board of Directors determines that deferral would be in the best interests of Parent and its shareholders. 5.3 AMENDMENT. The parties hereto, by mutual consent of their respective Boards of Directors, may amend, modify or supplement this Agreement in such manner as may be agreed upon by them in writing at any time before or after adoption and approval of this Agreement by the stockholders of Subsidiary and Parent, but not later than the Effective Date; provided, however, that no such amendment, modification or supplement not adopted and approved by the stockholders of Subsidiary and Parent shall affect the rights of such stockholders or change any of the principal terms of this Agreement. 5.4 ABANDONMENT. At any time before the Effective Date of the Merger, this Agreement may be terminated and the Merger may be abandoned for any reason whatsoever by the Board of Directors of either Parent or of Subsidiary, or of both, notwithstanding the approval of this Agreement by the shareholders of Parent or by the stockholders of Subsidiary, or by both. In the event of abandonment of this Agreement, as above provided, this Agreement shall become wholly void and of no effect, and no liability on the part of either Constituent Corporation or its Board of Directors or its stockholders shall arise by virtue of such termination except as provided in Section 5.5 hereof. 5.5 EXPENSES. If the Merger becomes effective, the Surviving Corporation shall assume and pay all expenses in connection therewith not theretofore paid by the respective parties. If for any reason the Merger shall not become effective, Parent shall pay all expenses incurred in connection with all the proceedings taken in respect of this Agreement or relating thereto. 5.6 REGISTERED OFFICE. The registered office of the Surviving Corporation in the State of Delaware is located at Corporation Service Company, 1013 Centre Road, Wilmington, Delaware 19805, and Corporation Service Company is the registered agent of the Surviving Corporation at such address. 5.7 AGREEMENT. Executed copies of this Agreement will be on file at the principal place of business of the Surviving Corporation at 16815 Von Karman, Irvine, California 92606, and, upon -5- request and without cost, copies thereof will be furnished to any stockholder of either Constituent Corporation. 5.8 GOVERNING LAW. This Agreement shall in all respects be construed, interpreted and enforced in accordance with and governed by the laws of the State of Delaware and, so far as applicable, the merger provisions of the California General Corporation Law. 5.9 COUNTERPARTS. In order to facilitate the filing and recording of this Agreement, the same may be executed in any number of counterparts, each of which shall be deemed to be an original and all of which together shall constitute one and the same instrument. -6- IN WITNESS WHEREOF, this Agreement having first been approved by resolutions of the Boards of Directors of Subsidiary and Parent is hereby executed on behalf of each of such two corporations and attested by their respective officers thereunto duly authorized. INTERPLAY ENTERTAINMENT CORP. a Delaware corporation /s/ Christopher J. Kilpatrick ____________________________________ Christopher J. Kilpatrick, President /s/ Lisa A. Latham ____________________________________ Lisa A. Latham, Secretary INTERPLAY PRODUCTIONS, a California corporation /s/ Christopher J. Kilpatrick ____________________________________ Christopher J. Kilpatrick, President /s/ Lisa A. Latham ____________________________________ Lisa A. Latham, Secretary -7- EX-3.1 3 AMENDED & RESTATED CERTIFICATE OF INCORPORATION EXHIBIT 3.1 AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF INTERPLAY ENTERTAINMENT CORP. The undersigned hereby certifies that: 1. She is the duly elected and acting Secretary of Interplay Entertainment Corp., a Delaware corporation (the "Corporation"). 2. The present name of the corporation (hereinafter called the "Corporation") is Interplay Entertainment Corp., which is the name under which the Corporation was originally incorporated; the original Certificate of Incorporation was filed with the Secretary of State of the State of Delaware on February 27, 1998. 3. This Amended and Restated Certificate of Incorporation was duly adopted in accordance with Sections 242 and 245 of the Delaware General Corporation Law. 4. The Certificate of Incorporation of the Corporation, as amended and restated herein, at the effective time of filing of this Amended and Restated Certificate of Incorporation with the Delaware Secretary of State, shall read in full as follows: "AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF INTERPLAY ENTERTAINMENT CORP. ARTICLE 1 The name of this Corporation is Interplay Entertainment Corp. ARTICLE 2 The registered office of the Corporation in the State of Delaware is located at 1013 Centre Road, in the City of Wilmington, County of New Castle. The name of the Corporation's registered agent at that address is Corporation Service Company. ARTICLE 3 The purpose of the Corporation is to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of the State of Delaware, as amended from time to time. ARTICLE 4 The total number of shares of all classes of stock which this Corporation shall have authority to issue is 55,000,000, of which (i) 50,000,000 shares shall be designated "Common Stock" and shall have a par value of $0.001 per share; and (ii) 5,000,000 shares shall be designated "Preferred Stock" and shall have a par value of $0.001 per share. The Board of Directors is authorized, subject to limitations prescribed by law, to provide for the issuance of the shares of Preferred Stock in one or more series, and, by filing a certificate pursuant to the applicable law of the State of Delaware, to establish from time to time the number of shares to be included in each such series, and to fix the designation, powers, preferences and rights of the shares of each such series and the qualifications, limitations or restrictions thereof. The authority of the Board with respect to each series shall include, but not be limited to, determination of the following: (a) The number of shares constituting that series and the distinctive designation of that series; (b) The dividend rate on the shares of that series, whether dividends shall be cumulative and, if so, from which date or dates, and the relative rights of priority, if any, of payment of dividends on shares of that series; (c) Whether that series shall have voting rights, in addition to the voting rights provided by law and, if so, the terms of such voting rights; (d) Whether that series shall have conversion privileges and, if so, the terms and conditions of such conversion, including provision for adjustment of the conversion rate in such events as the Board of Directors shall determine; (e) Whether or not the shares of that series shall be redeemable and, if so, the terms and conditions of such redemption, including the date or dates upon or after which they shall be redeemable and the amount per share payable in case of redemption, which amount may vary under different conditions and at different redemption dates; (f) Whether that series shall have a sinking fund for the redemption or purchase of shares of that series and, if so, the terms and amount of such sinking fund; and (g) The rights of the shares of that series in the event of voluntary or involuntary liquidation, dissolution or winding up of the Corporation, and the relative rights of priority, if any, of payment of shares of that series. ARTICLE 5 (a) The business and affairs of the Corporation shall be managed by or under the direction of the Board of Directors and elections of directors need not be by written ballot unless otherwise provided in the Bylaws. The number of directors which shall constitute the whole Board of Directors of the Corporation shall be between seven (7) and nine (9), unless changed by amendment to this Certificate of Incorporation, with such number being initially fixed at seven (7). The exact number of directors constituting the whole Board of Directors may be changed from time to time by the Board of Directors, within the limits provided above, in accordance with the Bylaws of the Corporation. 2 (b) At all elections of directors of the Corporation, each stockholder shall be entitled to as many votes as shall equal the number of votes which, in the absence of this provision (b), such stockholder would have been entitled to cast for the election of directors with respect to such stockholder's shares of stock, multiplied by the number of directors to be elected by such stockholder. Such stockholder may cast all of such votes for a single director or may distribute them among the number to be voted for, or for any two or more of them as such stockholder may see fit. (c) Meetings of the stockholders may be held within or without the State of Delaware, as the Bylaws may provide. The books of the Corporation may be kept (subject to any provision contained in the Delaware Statutes) outside the State of Delaware at such place or places as may be designated from time to time by the Board of Directors or by the Bylaws of the Corporation. ARTICLE 6 A director of this Corporation shall not be personally liable to the Corporation or its stockholders for monetary damages for breach of fiduciary duty as a director, provided that this provision shall not eliminate or limit the liability of a director (i) for any breach of his duty of loyalty to the Corporation or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of the law, (iii) under Section 174 of the General Corporation Law of the State of Delaware, or (iv) for any transaction from which the director derives an improper personal benefit. If the General Corporation Law of the State of Delaware is hereafter amended to authorize corporate action further limiting or eliminating the personal liability of directors, then the liability of the directors of the Corporation shall be limited or eliminated to the fullest extent permitted by the General Corporation Law of the State of Delaware, as so amended from time to time. Any repeal or modification of this Article 6 by the stockholders of the Corporation shall be prospective only, and shall not adversely affect any limitation on the personal liability of a director of the Corporation existing at the time of such repeal or modification. ARTICLE 7 This Corporation shall, to the maximum extent permitted from time to time under the law of the State of Delaware, indemnify and upon request shall advance expenses to any person who is or was a party or is threatened to be made a party to any threatened, pending or completed action, suit, proceeding or claim, whether civil, criminal, administrative or investigative, by reason of the fact that such person is or was or has agreed to be a director or officer of this Corporation or while a director or officer is or was serving at the request of this Corporation as a director, officer, partner, trustee, employee or agent of any corporation, partnership, joint venture, trust or other enterprise, including service with respect to employee benefit plans, against expenses (including attorney's fees and expenses), judgments, fines, penalties and amounts paid in settlement incurred in connection with the investigation, preparation to defend or defense of such action, suit, proceeding or claim; provided; however, that the foregoing shall not require this Corporation to indemnify or advance expenses to any person in connection with any action, suit, proceeding, claim or counterclaim initiated by or on behalf of such person. Such indemnification shall not be exclusive of other indemnification rights arising under any by-law, agreement, vote of directors or stockholders or otherwise and shall inure to the 3 benefit of the heirs and legal representatives of such person. Any person seeking indemnification under this Article Seven shall be deemed to have met the standard of conduct required for such indemnification unless the contrary shall be established. Any repeal or modification of the foregoing provisions of this Article Seven shall not adversely affect any right or protection of a director or officer of this corporation with respect to any acts or omissions of such director or officer occurring prior to such repeal or modification. ARTICLE 8 In furtherance and not in limitation of the power conferred upon the Board of Directors by law, the Board of Directors of the Corporation shall have the power to make, alter, amend, change, add to or repeal the Bylaws of the Corporation, subject to the right of stockholders entitled to vote with respect thereto to alter and repeal Bylaws made by the Board of Directors. ARTICLE 9 Stockholders of the Corporation may not take action by written consent in lieu of a meeting. Any action contemplated by the stockholders must be taken at a duly called annual or special meeting. ARTICLE 10 The Corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation, in the manner now or hereafter prescribed by statute, and all rights conferred upon stockholders herein are granted subject to this reservation. ARTICLE 11 The Corporation is to have perpetual existence." IN WITNESS WHEREOF, Interplay Entertainment Corp. has caused this certificate to be signed by the undersigned, and the undersigned has executed this certificate and does affirm the foregoing as true under penalty of perjury this 29th day of May, 1998. /s/ LISA A. LATHAM --------------------------------------- Lisa A. Latham, Secretary 4 EX-3.2 4 AMENDED & RESTATED BYLAWS EXHIBIT 3.2 AMENDED AND RESTATED BY-LAWS OF INTERPLAY ENTERTAINMENT CORP. Section 1. Law, Certificate of Incorporation and By-Laws 1.1. These by-laws are subject to the certificate of incorporation of the corporation. In these by-laws, references to law, the certificate of incorporation and by-laws mean the law, the provisions of the certificate of incorporation and the by-laws as from time to time in effect. Section 2. Stockholders 2.1. Annual Meeting. The annual meeting of stockholders shall be held at -------------- 10:00 a.m. on the first Wednesday in June in each year, unless that day be a legal holiday at the place where the meeting is to be held, in which case the meeting shall be held at the same hour on the next succeeding day not a legal holiday, or at such other date and time as shall be designated from time to time by the board of directors and stated in the notice of the meeting. At such annual meeting the stockholders shall elect a board of directors, and shall transact such other business as has been set forth in the notice of the meeting or as may be required by law or these by-laws. 2.2. Special Meetings. A special meeting of the stockholders may be called ---------------- at any time by the chairman of the board, if any, the president or the board of directors. A special meeting of the stockholders shall be called by the secretary, or in the case of the death, absence, incapacity or refusal of the secretary, by an assistant secretary or some other officer, upon application of a majority of the directors. Any such application shall state the purpose or purposes of the proposed meeting. Any such call shall state the place, date, hour, and purposes of the meeting, and the business transacted at any special meeting shall be limited to the purposes set forth in such call. 2.3. Place of Meeting. All meetings of the stockholders for the election of ---------------- directors or for any other purpose shall be held at such place within or without the State of Delaware as may be determined from time to time by the chairman of the board, if any, the president or the board of directors. Any adjourned session of any meeting of the stockholders shall be held at the place designated in the vote of adjournment. 2.4. Notice of Meetings. Except as otherwise provided by law, a written ------------------ notice of each meeting of stockholders stating the place, day and hour thereof and, in the case of an annual meeting, any business to be transacted at such annual meeting other than the election of directors, and, in the case of a special meeting, the purposes for which the meeting is called, shall be given not less than ten nor more than sixty days before such special meeting, to each stockholder entitled to vote thereat, and to each stockholder who, by law, by the certificate of incorporation or by these by-laws, is entitled to notice, by leaving such notice with him or at his residence or usual place of business, or by depositing it in the United States mail, postage prepaid, and addressed to such stockholder at his address as it appears in the records of the corporation. Such notice shall be given by the secretary, or by an officer or person designated by the board of directors, or in the case of a special meeting by the officer calling the meeting. As to any adjourned session of any meeting of stockholders, notice of the adjourned meeting need not be given if the time and place thereof are announced at the meeting at which the adjournment was taken except that if the adjournment is for more than thirty days or if after the adjournment a new record date is set for the adjourned session, notice of any such adjourned session of the meeting shall be given in the manner heretofore described. No notice of any meeting of stockholders or any adjourned session thereof need be given to a stockholder if a written waiver of notice, executed before or after the meeting or such adjourned session by such stockholder, is filed with the records of the meeting or if the stockholder attends such meeting without objecting at the beginning of the meeting to the transaction of any business because the meeting is not lawfully called or convened. Neither the business to be transacted at, nor the purpose of, any meeting of the stockholders or any adjourned session thereof need be specified in any written waiver of notice. 2.5. Quorum of Stockholders. At any meeting of the stockholders a quorum as ---------------------- to any matter shall consist of a majority of the votes entitled to be cast on the matter, except where a larger quorum is required by law, by the certificate of incorporation or by these by-laws. Any meeting may be adjourned from time to time by a majority of the votes properly cast upon the question, whether or not a quorum is present. If a quorum is present at an original meeting, a quorum need not be present at an adjourned session of that meeting. Shares of its own stock belonging to the corporation or to another corporation, if a majority of the shares entitled to vote in the election of directors of such other corporation is held, directly or indirectly, by the corporation, shall neither be entitled to vote nor be counted for quorum purposes; provided, however, that the foregoing shall not limit the right of any corporation to vote stock, including but not limited to its own stock, held by it in a fiduciary capacity. 2.6. Action by Vote. When a quorum is present at any meeting, a plurality of -------------- the votes properly cast for election to any office shall elect to such office and a majority of the votes properly cast upon any question other than an election to an office shall decide the question, except when a larger vote is required by law, by the certificate of incorporation or by these by-laws. No ballot shall be required for any election unless requested by a stockholder present or represented at the meeting and entitled to vote in the election. 2.7. Action without Meetings. Unless otherwise provided in the certificate ----------------------- of incorporation, any action required or permitted to be taken by stockholders for or in connection with any corporate action may be taken without a meeting, without prior notice and without a vote, if a consent or consents in writing, setting forth the action so taken, shall be signed by the holders of outstanding stock having not less than the minimum number of votes that would be necessary to authorize or take such action at a meeting at which all shares entitled to vote thereon were present and voted and shall be delivered to the corporation by delivery to its registered office in Delaware by hand or certified or registered mail, return receipt requested, to its principal place of business or to an officer or agent of the corporation having custody of the book in which proceedings of meetings of stockholders are recorded. Each such written consent shall bear the date of signature of each stockholder who signs the consent. No written consent shall be effective to take the corporate action referred to therein unless written consents signed by a number of stockholders sufficient to take such action are delivered to the corporation in the manner specified in this paragraph within sixty days of the earliest dated consent so delivered. If action is taken by consent of stockholders and in accordance with the foregoing, there shall be filed with the records of the meetings of stockholders the writing or writings comprising such consent. If action is taken by less than unanimous consent of stockholders, prompt notice of the taking of such action without a meeting shall be given to those who have not consented in writing and a certificate signed and attested to by the secretary that such notice was given shall be filed with the records of the meetings of stockholders. In the event that the action which is consented to is such as would have required the filing of a certificate under any provision of the General Corporation Law of the State of Delaware, if such action had been voted upon by the stockholders at a meeting thereof, the certificate filed under such provision shall state, in lieu of any statement required by such provision concerning a vote of 2 stockholders, that written consent has been given under Section 228 of said General Corporation Law and that written notice has been given as provided in such Section 228. 2.8. Proxy Representation. Every stockholder may authorize another person or -------------------- persons to act for him by proxy in all matters in which a stockholder is entitled to participate, whether by waiving notice of any meeting, objecting to or voting or participating at a meeting, or expressing consent or dissent without a meeting. Every proxy must be signed by the stockholder or by his attorney-in-fact. No proxy shall be voted or acted upon after three years from its date unless such proxy provides for a longer period. A duly executed proxy shall be irrevocable if it states that it is irrevocable and, if, and only as long as, it is coupled with an interest sufficient in law to support an irrevocable power. A proxy may be made irrevocable regardless of whether the interest with which it is coupled is an interest in the stock itself or an interest in the corporation generally. The authorization of a proxy may but need not be limited to specified action, provided, however, that if a proxy limits its authorization to a meeting or meetings of stockholders, unless otherwise specifically provided such proxy shall entitle the holder thereof to vote at any adjourned session but shall not be valid after the final adjournment thereof. 2.9. Inspectors. The directors or the person presiding at the meeting may, ---------- but need not, appoint one or more inspectors of election and any substitute inspectors to act at the meeting or any adjournment thereof. Each inspector, before entering upon the discharge of his duties, shall take and sign an oath faithfully to execute the duties of inspector at such meeting with strict impartiality and according to the best of his ability. The inspectors, if any, shall determine the number of shares of stock outstanding and the voting power of each, the shares of stock represented at the meeting, the existence of a quorum, the validity and effect of proxies, and shall receive votes, ballots or consents, hear and determine all challenges and questions arising in connection with the right to vote, count and tabulate all votes, ballots or consents, determine the result, and do such acts as are proper to conduct the election or vote with fairness to all stockholders. Notwithstanding the foregoing, in the event that a stockholder seeks to nominate one or more directors pursuant to Section 3.3 of these by-laws, the directors shall appoint two inspectors, who shall not be affiliated with the Corporation, to determine whether a stockholder has complied with Section 3.3 of these by-laws. If the inspector shall determine that a stockholder has not complied with Section 3.3 of these by-laws, the inspectors shall direct the person presiding over the meeting to declare to the meeting that a nomination was not made in accordance with the procedures prescribed by the by-laws; and the person presiding over the meeting shall so declare to the meeting and the defective nomination shall be disregarded. On request of the person presiding at the meeting, the inspectors shall make a report in writing of any challenge, question or matter determined by them and execute a certificate of any fact found by them. 2.10. List of Stockholders. The secretary shall prepare and make, at least -------------------- ten days before every meeting of stockholders, a complete list of the stockholders entitled to vote at such meeting, arranged in alphabetical order and showing the address of each stockholder and the number of shares registered in his name. The stock ledger shall be the only evidence as to who are stockholders entitled to examine such list or to vote in person or by proxy at such meeting. Section 3. Board of Directors 3.1. Number. The number of directors which shall constitute the whole ------ board shall not be less than seven (7) nor more than nine (9) in number. The exact number of directors shall be fixed from time to time by a resolution adopted by a unanimous vote of directors then serving. Until otherwise fixed by the directors, the number of directors constituting the entire board of directors shall be seven (7). The number of directors may be decreased to any number permitted by the foregoing at any time by the directors by vote of a majority of the directors then in office, but only to eliminate vacancies existing by reason of the death, resignation or removal of one or more directors. Directors need not be stockholders. 3.2. Tenure. At each annual meeting of the stockholders, directors shall be ------ elected to hold office for a term expiring at the next annual meeting of stockholders. The Secretary shall have the power to certify at any time as to the number of directors authorized. Except as otherwise provided by law, by the certificate of incorporation or by these by-laws, each director shall hold office until the successors of such directors are elected and qualified, or until he sooner dies, 3 resigns, is removed or becomes disqualified. 3.3. Nomination. Nominations of persons for election to the board of ---------- directors may only be made by or at the direction of the board of directors or by any stockholder beneficially owning (as defined by Rule 13d-3 of the Securities Exchange Act of 1934, as amended) of record at least one percent (1%) of the issued and outstanding capital stock of the corporation. Nominations of persons to be elected to the Board of Directors at any special meeting of stockholders shall be made pursuant to timely notice in writing to the Secretary. To be timely, a stockholder's notice (which shall only be required with respect to a special meeting of stockholders) shall be delivered to or mailed and received at the principal executive offices of the corporation not less than 45 days nor more than 90 days prior to the meeting; provided, however, that in the event that less than 55 days' notice or prior public disclosure of the date of the meeting is given or made to stockholders, notice by the stockholder to be timely must be so received not later than the close of business on the 10th day following the date on which such notice of the date of the meeting was mailed or such public disclosure was made. Such stockholder's notice (which shall only be required with respect to a special meeting of stockholders) shall set forth (A) as to each person whom the stockholder proposes to nominate for election or reelection as a director, (i) the name, age, business address and residence address of such person, (ii) the principal occupation or employment of such person, (iii) the class and number of shares of the capital stock of the corporation which are beneficially owned by such person and (iv) any other information relating to such person that would be required to be disclosed in solicitations of proxies for election of directors, or would be otherwise required, in each case pursuant to Regulation 14A promulgated under the Securities Exchange Act of 1934, as amended (including without limitation such person's written consent to being named in the proxy statement as a nominee and to serving as a director if elected); and (B) as to the stockholder giving the notice (i) the name and address of such stockholder and (ii) the class and number of shares of the capital stock of the corporation which are beneficially owned (as defined by Rule 13d-3 of the Securities Exchange Act of 1934, as amended) by such stockholder. If requested in writing by the Secretary at least 15 days in advance of the annual meeting, a stockholder whose shares are not registered in the name of such stockholder on the corporation's books shall provide the Secretary, within ten days of such request, with documentary support for such claim of beneficial ownership. At the request of the board of directors, any person nominated by the board of directors for election as a director shall furnish to the Secretary that information required to be set forth in a stockholder's notice of nomination which pertains to the nominee. 3.4. Powers. The business and affairs of the corporation shall be managed by ------ or under the direction of the board of directors who shall have and may exercise all the powers of the corporation and do all such lawful acts and things as are not by law, the certificate of incorporation or these by-laws directed or required to be exercised or done by the stockholders. 3.5. Vacancies. Vacancies and any newly created directorships resulting from --------- any increase in the number of directors may be filled by vote of the stockholders at a meeting called for the purpose, or by a majority of the directors then in office, although less than a quorum, or by a sole remaining director. When one or more directors shall resign from the board, effective at a future date, a majority of the directors then in office, including those who have resigned, shall have power to fill such vacancy or vacancies, the vote or action by writing thereon to take effect when such resignation or resignations shall become effective. The directors shall have and may exercise all their powers notwithstanding the existence of one or more vacancies in their number, subject to any requirements of law or of the certificate of incorporation or of these by-laws as to the number of directors required for a quorum or for any vote or other actions. 3.6. Committees. The board of directors may, by vote of a majority of the ---------- whole board, (a) designate, change the membership of or terminate the existence of any committee or committees, each committee to consist of one or more of the directors; (b) designate one or more directors as alternate members of any such committee who may replace any absent or disqualified member at any meeting of the committee; and (c) determine the extent to which each such 4 committee shall have and may exercise the powers of the board of directors in the management of the business and affairs of the corporation, including the power to authorize the seal of the corporation to be affixed to all papers which require it and the power and authority to declare dividends or to authorize the issuance of stock; excepting, however, such powers which by law, by the certificate of incorporation or by these by-laws they are prohibited from so delegating. In the absence or disqualification of any member of such committee and his alternate, if any, the member or members thereof present at any meeting and not disqualified from voting, whether or not constituting a quorum, may unanimously appoint another member of the board of directors to act at the meeting in the place of any such absent or disqualified member. Except as the board of directors may otherwise determine, any committee may make rules for the conduct of its business, but unless otherwise provided by the board or such rules, its business shall be conducted as nearly as may be in the same manner as is provided by these by-laws for the conduct of business by the board of directors. Each committee shall keep regular minutes of its meetings and report the same to the board of directors upon request. 3.7. Regular Meetings. Regular meetings of the board of directors may be ---------------- held without call or notice at such places within or without the State of Delaware and at such times as the board may from time to time determine, provided that notice of the first regular meeting following any such determination shall be given to absent directors. A regular meeting of the directors may be held without call or notice immediately after and at the same place as the annual meeting of the stockholders. 3.8. Special Meetings. Special meetings of the board of directors may be ---------------- held at any time and at any place within or without the State of Delaware designated in the notice of the meeting, when called by the chairman of the board, if any, the president, or by one-third or more in number of the directors, reasonable notice thereof being given to each director by the secretary or by the chairman of the board, if any, the president or any one of the directors calling the meeting. 3.9. Notice. It shall be reasonable and sufficient notice to a director to ------ send notice by mail at least forty-eight hours or by facsimile at least twenty- four hours before the meeting addressed to him at his usual or last known business or residence facsimile number or to give notice to him in person or by telephone at least twenty-four hours before the meeting. Notice of a meeting need not be given to any director if a written waiver of notice, executed by him before or after the meeting, is filed with the records of the meeting, or to any director who attends the meeting without protesting prior thereto or at its commencement the lack of notice to him. Neither notice of a meeting nor a wavier of a notice need specify the purposes of the meeting. 3.10. Quorum. Except as may be otherwise provided by law, by the certificate ------ of incorporation or these by-laws, at any meeting of the directors a majority of the directors then in office shall constitute a quorum; a quorum shall not in any case be less than one-third of the total number of directors constituting the whole board. Any meeting may be adjourned from time to time by a majority of the votes cast upon the question, whether or not a quorum is present, and the meeting may be held as adjourned without further notice. 3.11. Action by Vote. Except as may be otherwise provided by law, by the -------------- certificate of incorporation or by these by-laws, when a quorum is present at any meeting the vote of a majority of the directors present shall be the act of the board of directors. 3.12. Action Without a Meeting. Any action required or permitted to be taken ------------------------ at any meeting of the board of directors or a committee thereof may be taken without a meeting if all the members of the board or of such committee, as the case may be, consent thereto in writing, and such writing or writings are filed with the records of the meetings of the board or of such committee. Such consent shall be treated for all purposes as the act of the board or of such 5 committee, as the case may be. 3.13. Participation in Meetings by Conference Telephone. Members of the ------------------------------------------------- board of directors, or any committee designated by such board, may participate in a meeting of such board or committee by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other or by any other means permitted by law. Such participation shall constitute presence in person at such meeting. 3.14. Compensation. In the discretion of the board of directors, each ------------ director may be paid such fees for his services as director and be reimbursed from his reasonable expenses incurred in the performance of his duties as director as the board of directors from time to time may determine. Nothing contained in this section shall be construed to preclude any director from serving the corporation in any other capacity and receiving reasonable compensation therefor. 3.15. Interested Directors and Officers. --------------------------------- (a) No contract or transaction between the corporation and one or more of its directors or officers, or between the corporation and any other corporation, partnership, association, or other organization in which one or more of the corporation's directors or officers are directors or officers, or have a financial interest, shall be void or voidable, solely for this reason, or solely because the director or officer is present at or participates in the meeting of the board or committee thereof which authorizes the contract or transaction, or solely because his or their votes are counted for such purpose, if: (1) The material facts as to his relationship or interest and as to the contract or transaction are disclosed or are known to the board of directors or the committee, and the board or committee in good faith authorizes the contract or transaction by the affirmative votes of majority of the disinterested directors, even though the disinterested directors be less than a quorum; or (2) The material facts as to his relationship or interest and as to the contract or transaction are disclosed or are known to the stockholder entitled to vote thereon, and the contract or transaction is specifically approved in good faith by vote of the stockholders; or (3) The contract or transaction is fair as to the corporation as of the time it is authorized, approved or ratified by the board of directors, a committee thereof, or the stockholders. (b) Common or interested directors may be counted in determining the presence of a quorum at a meeting of the board of directors or of a committee which authorized the contract or transaction. Section 4. Officers and Agents. 4.1. Enumeration; Qualification. The officers of the corporation shall be a -------------------------- president, a treasurer, a secretary and such other officers, if any, as the board of directors from time to time may in its discretion elect or appoint including without limitation a chairman of the board, one or more vice presidents and a controller. The corporation may also have such agents, if any, as the board of directors from time to time may in its discretion choose. Any officer may be but none need be a director or stockholder. Any two or more offices may be held by the same person. Any officer may be required by the board of directors to secure the faithful performance of his duties to the corporation by giving bond in such amount and with sureties or otherwise as the board of directors may determine. 6 4.2. Powers. Subject to law, to the certificate of incorporation and to the ------ other provisions of these by-laws, each officer shall have, in addition to the duties and powers herein set forth, such duties and powers as are commonly incident to his office and such additional duties and powers as the board of directors may from time to time designate. 4.3. Election. The officers may be elected by the board of directors at -------- their first meeting following the annual meeting of the stockholders or at any other time. At any time or from time to time the directors may delegate to any officer their power to elect or appoint any other officer or any agents. 4.4. Tenure. Each officer shall hold office until the first meeting of the ------ board of directors following the next annual meeting of the stockholders and until his respective successor is chosen and qualified unless a shorter period shall have been specified by the terms of his election or appointment, or in each case until he sooner dies, resigns, is removed or becomes disqualified. Each agent shall retain his authority at the pleasure of the directors, or the officer by whom he was appointed or by the officer who then holds agent appointive power. 4.5. Chairman of the Board of Directors, President and Vice President. The ---------------------------------------------------------------- chairman of the board, if any, shall have such duties and powers as shall be designated from time to time by the board of directors. Unless the board of directors otherwise specifies, the chairman of the board, or if there is none the chief executive officer, shall preside, or designate the person who shall preside, at all meetings of the stockholders and of the board of directors. Unless the board of directors otherwise specifies, the president shall be the chief executive officer and shall have direct charge of all business operations of the corporation and, subject to the control of the directors, shall have general charge and supervision of the business of the corporation. Any vice president shall have such duties and powers as shall be set forth in these by-laws or as shall be designated from time to time by the board of directors or by the president. 4.6. Treasurer and Assistant Treasurers. Unless the board of directors ---------------------------------- otherwise specifies, the treasurer shall be the chief financial officer of the corporation and shall be in charge of its funds and valuable papers, and shall have such other duties and powers as may be designated from time to time by the board of directors or by the president. If no controller is elected, the treasurer shall, unless the board of directors otherwise specifies, also have the duties and powers of the controller. Any assistant treasurers shall have such duties and powers as shall be designated from time to time by the board of directors, the president or the treasurer. 4.7. Controller and Assistant Controller. If a controller is elected, he ----------------------------------- shall, unless the board of directors otherwise specifies, be the chief accounting officer of the corporation and be in charge of its books of account and accounting records, and of its accounting procedures. He shall have such other duties and powers and may be designated from time to time by the board of directors, the president or the treasurer. Any assistant controller shall have such duties and powers as shall be designated from time to time by the board of directors, the president, the treasurer or the controller. 4.8. Secretary and Assistant Secretaries. The secretary shall record all ----------------------------------- proceedings of the stockholders, of the board of directors and of committees of the board of directors in a book or series of books to be kept therefore and shall file therein all actions by written consent of stockholders or directors. In the absence of the secretary from any meeting, an assistant secretary, 7 or if there be none or he is absent, a temporary secretary chosen at the meeting, shall record the proceedings thereof. Unless a transfer agent has been appointed the secretary shall keep or cause to be kept the stock and transfer records of the corporation, which shall contain the names and record addresses of all stockholders and the number of shares registered in the name of each stockholder. He shall have such other duties and powers as may from time to time be designated by the board of directors or the president. Any assistant secretaries shall have such duties and powers as shall be designated from time to time by the board of directors, the president or the secretary. Section 5. Resignations and Removals. 5.1. Any director or officer may resign at any time by delivering his resignation in writing to the chairman of the board, if any, the president, or the secretary or to a meeting of the board of directors. Such resignation shall be effective upon receipt unless specified to be effective at some other time, and without in either case the necessity of its being accepted unless the resignation shall so state. A director (including persons elected by directors to fill vacancies in the board) may be removed from office with or without cause by the vote of the holders of two-thirds of the shares issued and outstanding and entitled to vote in the election of directors. The board of directors may at any time remove any officer either with or without cause. The board of directors may at any time terminate or modify the authority of any agent. No director of officer resigning and (except where a right to receive compensation shall be expressly provided in a duly authorized written agreement with the corporation) no director or officer removed shall have any right to any compensation as such director or officer for any period following his resignation or removal, or any right to damages on account of such removal, whether his compensation be by the month or by the year or otherwise; unless, in the case of a resignation, the directors, or, in the case of removal, the body acting on the removal, shall in their or its discretion provide for compensation. Section 6. Vacancies. 6.1. If the office of the president or the treasurer or the secretary becomes vacant, the directors may elect a successor by vote of a majority of the directors then in office. If the office of any other officer becomes vacant, any person or body empowered to elect or appoint that officer may choose a successor. Each such successor shall hold office for the unexpired term, and in the case of the president, the treasurer and the secretary until his successor is chosen and qualified or in each case he sooner dies, resigns, is removed or becomes disqualified. Any vacancy of a directorship shall be filled as specified in Section 3.5 of these by-laws. Section 7. Capital Stock. 7.1. Stock Certificates. Each stockholder shall be entitled to a certificate ------------------ stating the number and the class and the designation of the series, if any, of the shares held by him, in such form as shall, in conformity to law, the certificate of incorporation and the by-laws, be prescribed from time to time by the board of directors. Such certificate shall be signed by the chairman or vice chairman of the board, if any, or the president or a vice president and by the treasurer or an assistant treasurer or by the secretary or an assistant secretary. Any of or all the signatures on the certificate may be a facsimile. In case an officer, transfer agent, or registrar who has signed or whose facsimile signature has been placed on such certificate shall have ceased to be such officer, transfer agent, or registrar before such certificate is issued, it may be issued by the corporation with the same effect as if he were such officer, transfer agent, or registrar at the time of its issue. 7.2. Loss of Certificates. In the case of the alleged theft, loss, -------------------- destruction or mutilation of a certificate of stock, a duplicate certificate may be issued in place thereof, upon such terms, including receipt of a bond sufficient to indemnify the corporation against any claim on account 8 thereof, as the board of directors may prescribe. Section 8. Transfer of Shares of Stock. 8.1. Transfer on Books. Subject to the restrictions, if any, stated or noted ----------------- on the stock certificate, shares of stock may be transferred on the books of the corporation by the surrender to the corporation or its transfer agent of the certificate therefor properly endorsed or accompanied by a written assignment and power of attorney properly executed, with necessary transfer stamps affixed, and with such proof of the authenticity of signature as the board of directors or the transfer agent of the corporation may reasonably require. Except as may be otherwise required by law, by the certificate of incorporation or by these by-laws, the corporation shall be entitled to treat the record holder of stock as shown on its books as the owner of such stock for all purposes, including the payment of dividends and the right to receive notice and to vote or to give any consent with respect thereto and to be held liable for such calls and assessments, if any, as may lawfully be made thereon, regardless of any transfer, pledge or other disposition of such stock until the shares have been properly transferred on the books of the corporation. It shall be the duty of each stockholder to notify the corporation of his post office address. 8.2. Record Date and Closing Transfer Books. In order that the corporation -------------------------------------- may determine the stockholders entitled to notice of or to vote at any meeting of stockholders or any adjournment thereof, the board of directors may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the board of directors, and which record date shall not be more than sixty nor less than ten days before the date of such meeting. If no such record date is fixed by the board of directors, the record date for determining the stockholders entitled to notice of or to vote at a meeting of stockholders shall be at the close of business on the day next preceding the day on which notice is given, or, if notice is waived, at the close of business on the day next preceding the day on which the meeting is held. A determination of stockholders of record entitled to notice of or to vote at a meeting of stockholders shall apply to any adjournment of the meeting; provided, however, that the board of directors may fix a new record date for the adjourned meeting. In order that the corporation may determine the stockholders entitled to consent to corporate action in writing without a meeting, the board of directors may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the board of directors, and which date shall not be more than ten days after the date upon which the resolution fixing the record date is adopted by the board of directors. If no such record date has been fixed by the board of directors, the record date for determining stockholders entitled to consent to corporate action in writing without a meeting, when no prior action by the board of directors is required by the General Corporation Law of the State of Delaware, shall be the first date on which a signed written consent setting forth the action taken or proposed to be taken is delivered to the corporation by delivery to its registered office in Delaware by hand or certified or registered mail, return receipt requested, to its principal place of business or to an officer or agent of the corporation having custody of the book in which proceedings of meetings of stockholders are recorded. If no record date has been fixed by the board of directors and prior action by the board of directors is required by the General Corporation Law of the State of Delaware, the record date for determining stockholders entitled to consent to corporate action in writing without a meeting shall be at the close of business on the day on which the board of directors adopts the resolution taking such prior action. In order that the corporation may determine the stockholders entitled to receive payment of any dividend or other distribution or allotment of any rights or to exercise any rights in respect of any change, conversion or exchange of stock, or for the purpose of any other lawful action, the board of directors may fix a record date, which record date shall not precede the date upon which 9 the resolution fixing the record date is adopted, and which record date shall be not more than sixty days prior to such payment, exercise or other action. If no such record date is fixed, the record date for determining stockholders for any such purpose shall be at the close of business on the day on which the board of directors adopts the resolution relating thereto. Section 9. Indemnification. 9.1. Right to Indemnification. Each person who was or is made a party or is ------------------------ threatened to be made a party to or is otherwise involved in any action, suit or proceeding, whether civil, criminal, administrative or investigative (hereinafter a "proceeding"), by reason of the fact that he or she is or was a director officer of the corporation or is or was serving at the request of the corporation as a director or officer of another corporation or of a partnership, joint venture, trust or other enterprise, including service with respect to employee benefit plans (hereinafter an "indemnitee"), whether the basis of such proceeding is alleged action in an official capacity as a director or officer or in any other capacity while serving as a director or officer, shall be indemnified and held harmless by the corporation to the fullest extent authorized by the Delaware General Corporation Law, as the same exists or may hereafter be amended (but, in the case of any such amendment, only to the extent that such amendment permits the corporation to provide broader indemnification rights than such law permitted the corporation to provide prior to such amendment), against all expense, liability and loss (including attorneys' fees, judgments, fines, ERISA excise taxes or penalties and amounts paid in settlement) reasonably incurred or suffered by such indemnitee in connection therewith and such indemnification shall continue as to an indemnitee who has ceased to be a director or officer and shall inure to the benefit of the indemnitee's heirs, executors and administrators; provided, however, that, except as provided in this Section 9.1 with respect to proceedings to enforce rights to indemnification, the corporation shall indemnify any such indemnitee in connection with a proceeding (or part thereof) initiated by such indemnitee only if such proceeding (or part thereof) was authorized by the board of directors of the corporation. The right to indemnification conferred in this Section 9.1 shall be a contract right and shall include the right to be paid by the corporation the expenses incurred in defending any such proceeding in advance of its final disposition (hereinafter an "advancement of expenses"); provided, however, that, if the Delaware General Corporation Law requires, an advancement of expenses incurred by an indemnitee in his or her capacity as a director or officer (and not in any other capacity in which service was or is rendered by such indemnitee, including without limitation, service to an employee benefit plan) shall be made only upon delivery to the corporation of an undertaking, by or on behalf of such indemnitee, to repay all amounts so advanced if it shall ultimately be determined by final judicial decision from which there is not further right to appeal that such indemnitee is not entitled to be indemnified for such expenses under this Section 9 or otherwise (hereinafter an "undertaking"). 9.2. Right of Indemnitee to Bring Suit. If a claim under Section 9.1 of --------------------------------- these by-laws is not paid in full by the corporation within forty-five (45) days after a written claim has been received by the corporation, the indemnitee may at any time thereafter bring suit against the corporation to recover the unpaid amount of the claim. If successful in whole or part in any such suit or in a suit brought by the corporation to recover an advancement of expenses pursuant to the terms of an undertaking, the indemnitee shall be entitled to be paid also the expense of prosecuting or defending such suit. In (i) any suit brought by the indemnitee to enforce a right to indemnification hereunder (but not in a suit brought by the indemnitee to enforce a right to an advancement of expenses) it shall be a defense that, and (ii) any suit by the corporation to recover an advancement of expenses pursuant to the terms of an undertaking the corporation shall be entitled to recover such expenses upon a final adjudication that, the indemnitee has not met the applicable standard of conduct set forth in the Delaware General Corporation Law. Neither the failure of the corporation (including its board of directors, independent legal counsel, or its stockholders) to have made a determination prior to the commencement of such suit that indemnification of the indemnitee is proper in the circumstances because the indemnitee has met the 10 applicable standard of conduct set forth in the Delaware General Corporation Law, nor an actual determination by the corporation (including its board of directors, independent legal counsel, or its stockholders) that the indemnitee has not met such applicable standard of conduct, shall create a presumption that the indemnitee has not met the applicable standard of conduct or, in the case of such a suit brought by indemnitee, be a defense to such suit. In any suit brought by the indemnitee to enforce a right hereunder, or by the corporation to recover an advancement of expenses pursuant to the terms of an undertaking, the burden of proving that the indemnitee is not entitled to be indemnified or to such advancement of expenses under this Section 9 or otherwise shall be on the corporation. 9.3. Non-Exclusivity of Rights. The rights of indemnification and to the ------------------------- advancement of expenses conferred in this Section 9 shall not be exclusive of and shall not affect any other right which any person may have or thereafter acquire under any statue, provision of the Certificate of Incorporation, by-law, agreement, vote of stockholders or disinterested directors or otherwise, and shall inure to the benefit of the heirs and legal representatives of such person. 9.4. Insurance. The corporation may maintain insurance, at its expense, to --------- protect itself and any director, officer, employee or agent of the corporation or another corporation, partnership, joint venture, trust or other enterprise against any expense, liability or loss, whether or not the corporation would have the power to indemnify such person against such expense, liability or loss under the Delaware General Corporation Law. 9.5. Indemnification of Employees or Agents of the Corporation. The --------------------------------------------------------- corporation may, to the extent authorized from time to time by the board of directors, grant rights to indemnification and to the advancement of expenses, to any employee or agent of the corporation to the fullest extent of the provisions of this Section 9 with respect to the indemnification and advancement of expenses of directors or officers of the corporation. 9.6. Indemnification Contracts. The board of directors is authorized to ------------------------- enter into a contract with any director, officer, employee or agent of the corporation, or any person serving at the request of the corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise, including employee benefit plans, providing for indemnification rights equivalent to or, if the board of directors so determines, greater than, those provided for in this Section 9. 9.7. Effect of Amendment. Any amendment, repeal or modification of any ------------------- provision of this Section 9 by the stockholders or the directors of the corporation shall not adversely affect any right or protection of a director or officer of the corporation existing at the time of such amendment, repeal or modification. Section 10. Corporate Seal. 10.1. Subject to alteration by the directors, the seal of the corporation shall consist of a flat-faced circular die with the word "Delaware" and the name of the corporation cut or engraved thereon, together with such other words, dates or images as may be approved from time to time by the directors. Section 11. Execution of Papers. 11.1. Except as the board of directors may generally or in particular cases authorize the execution thereof in some other manner, all deeds, leases, transfers, contracts, bonds, notes, checks, drafts or other obligations made, accepted or endorsed by the corporation shall be signed by the chairman of the board, if any, the president, a vice president or the treasurer. 11 Section 12. Fiscal Year. 12.1. The fiscal year of the corporation shall end on December 31. Section 13. Amendments. 13.1. These by-laws may be adopted, amended or repealed by vote of a majority of the directors then in office (except that any amendment or repeal of Section 3.1, 3.3 or 13.1 of these bylaws shall be made only by unanimous vote of the directors then serving) or by vote of a majority of the stock outstanding and entitled to vote. Any by-law, whether adopted, amended or repealed by the stockholders or directors, may be amended or reinstated by the stockholders or the directors. 12 EX-4.2 5 SHAREHOLDERS AGREEMENT / BRIAN FARGO / MCA INC. EXHIBIT 4.2 - -------------------------------------------------------------------------------- ----------------------- SHAREHOLDERS' AGREEMENT ----------------------- Dated as of March 30, 1994 - -------------------------------------------------------------------------------- TABLE OF CONTENTS -----------------
Page ---- ARTICLE I CERTAIN DEFINITIONS...................................... 1 ARTICLE II TRANSFER OF SHARES....................................... 4 Section 2.1. Transfer to Related Parties........... 4 Section 2.2. Transfers to Others................... 5 Section 2.3. MCA Right of First Refusal............ 5 Section 2.4. Individual Shareholder Right of First Refusal.................... 9 Section 2.5. Legend on Certificates................ 10 Section 2.6. No Other Transfers; Termination of Restrictions..................... 10 ARTICLE III REGISTRATION OF COMMON STOCK............................. 10 Section 3.1. Piggyback Registration Rights......... 10 Section 3.2. Demand Registration Rights............ 12 Section 3.3. Provision of Information.............. 16 Section 3.4. New Certificates...................... 16 Section 3.5. Indemnification....................... 17 Section 3.6. Standby............................... 20 Section 3.7. Assignment............................ 20 ARTICLE IV CORPORATE GOVERNANCE..................................... 20 Section 4.1. Representation on the Board and Committees...................... 20 Section 4.2. Voting................................ 22 Section 4.3. Corporate Actions..................... 22
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Page ---- ARTICLE V CERTIFICATE OF INCORPORATION............................. 24 Section 5.1. Certificate of Incorporation.......... 24 ARTICLE VI MISCELLANEOUS............................................ 24 Section 6.1. Survival of Agreement; Term........... 24 Section 6.2. Directors' and Officers' Insurance and Indemnification................. 24 Section 6.3. Notices............................... 25 Section 6.4. Further Assurances.................... 26 Section 6.5. Binding Effect........................ 26 Section 6.6. Complete Agreement.................... 26 Section 6.7. Counterparts.......................... 26 Section 6.8. Headings.............................. 26 Section 6.9. Conflict with Bylaws.................. 26 Section 6.10. Governing Law......................... 26 Section 6.11. Injunctive Relief..................... 27
-ii- SHAREHOLDERS' AGREEMENT ----------------------- This Shareholders' Agreement, dated March 30, 1994, is by and among INTERPLAY PRODUCTIONS, INC., a California corporation (the "Company"), MCA INC., a Delaware corporation ("MCA"), and Brian Fargo (the "Individual Shareholder" and with MCA, the "Shareholders"). WITNESSETH: WHEREAS, the Company, MCA and the Individual Shareholder have entered into a Stock Purchase Agreement, dated January 25, 1994, pursuant to which, among other things, MCA is purchasing from the Company and the Individual Shareholder an aggregate of 3,041,495 shares of Common Stock, no par value, of the Company; WHEREAS, pursuant to and as a condition to the closing of the Stock Purchase Agreement, the Company, MCA and the Individual Shareholder have agreed to enter into this Shareholders' Agreement; and WHEREAS, the Company, MCA and the Individual Shareholder desire to enter into this Shareholders' Agreement to provide certain rights and obligations among them; NOW, THEREFORE, in consideration of the premises and the mutual agreements, covenants and provisions contained herein, and other valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: ARTICLE I CERTAIN DEFINITIONS As used in this Shareholders' Agreement, the terms defined below shall have the respective meanings hereinafter specified. Whenever used in this Shareholders' Agreement, any noun or pronoun shall be deemed to include both the singular and plural and to cover all genders. Unless otherwise specified, (a) the terms "hereof," "herein" and similar terms refer to this Shareholders' Agreement as a whole and (b) references herein to Sections refer to Sections of this Shareholders' Agreement. "Board" shall have the meaning specified in Section 4.1. "Common Stock" shall mean the Common Stock of the Company, no par value. "Company" shall mean Interplay Productions, Inc., a California corporation. "Control" (including the terms "controlling," "controlled by" and "under common control with") means the possession, direct or indirect, of the power to direct or cause the direction of the management and policies of a corporation partnership or other entity (including without limitation, the power to direct the voting of any securities held by such corporation, partnership or other entity), whether through the ownership of the voting securities of such corporation, partnership or other entity, by contract, or otherwise, unless the context indicates otherwise; provided, however, that the ownership of fifty -------- ------- percent (50%) or more of the voting securities of such corporation, partnership or other entity shall in any event be deemed to constitute control. "Employee Options" shall have the meaning specified in Section 4.3(a) of the Stock Purchase Agreement. "Exchange Act" shall mean the Securities Exchange Act of 1934, as amended, and the rules and regulations promulgated thereunder. "Incentive Plan" shall have the meaning specified in Section 4.4(ii). "Individual Shareholder" shall have the meaning specified in the preamble to this Shareholders' Agreement, and shall include his Permitted Transferees. "MCA" shall mean MCA, INC., a Delaware corporation. "MCA Designees" shall have the meaning specified in Section 4.2. "MCA Options" shall mean the options for the purchase of shares of Common Stock granted pursuant to the Option Agreement. "MCA Shareholders" shall mean MCA and its Permitted Transferees. -2- "Option Agreement" shall mean the Option Agreement, dated the date hereof, by and among MCA, the Company and the Shareholders listed therein. "Permitted Transferees" shall mean individuals or entities to whom or to which shares of Common Stock are transferred in accordance with Section 2.1 hereof. "Person" shall have the meaning specified in Section 2.1(b). "Proposal" shall have the meaning specified in Section 2.3. "Public Offering" shall mean the completion of a sale by the Company of shares of Common Stock pursuant to an effective registration statement under the Securities Act. "Purchaser" shall have the meaning specified in Section 2.3. "Purchaser Information" shall have the meaning specified in Section 2.3. "Registration Statement" shall have the meaning specified in Section 3.1. "Restricted Securities" shall have the meaning specified in Section 3.1. "SEC" shall mean the Securities and Exchange Commission. "Securities Act" shall mean the Securities Act of 1933, as amended, and the rules and regulations thereunder. "Shareholders" shall mean MCA and the Individual Shareholder, and, subject to the transfer restrictions set forth herein, transferees which acquire Common Stock in accordance with this Shareholders' Agreement, from time to time, and are required by this Shareholders' Agreement to agree to be bound, and agree to be bound, by the terms and conditions hereof (as amended). The term "Shareholder" shall mean any one of the Shareholders and, in the case of a Shareholder who is a natural person, the term "Shareholder" shall also include such Shareholder's legal representatives, executors or administrators when the context so requires. -3- "Stock Purchase Agreement" shall mean the stock purchase agreement, dated January 25, 1994, by and among the Company, MCA and the Individual Shareholder. "Third Party" shall have the meaning set forth in Section 2.3(b) hereof. "Third-Party Investment" shall have the meaning set forth in Section 2.3(b) hereof. "Third-Party Shares" shall have the meaning set forth in Section 2.3(b) hereof. ARTICLE II TRANSFER OF SHARES Section 2.1. Transfer to Related Parties. (a) The Individual --------------------------- Shareholder may transfer shares of Common Stock to a spouse or child of the Individual Shareholder, to a trust for the benefit of a spouse or child of such Individual Shareholder or as required by court order, and, upon the death of an Individual Shareholder, such Individual Shareholder's executors, administrators or legal representatives may transfer shares of the Common Stock to the Individual Shareholder's heirs or legatees without complying with the restrictions of Section 2.3 of this Shareholders' Agreement, so long as the transferee agrees in writing to be bound by the terms and conditions of this Shareholders' Agreement, as amended from time to time. (b) The MCA Shareholders may transfer shares of Common Stock to any corporation, partnership or other person or entity (collectively, a "Person"), provided (i) the transferee agrees in writing to be bound by the terms and - -------- conditions of this Shareholders' Agreement, as amended from time to time, and (ii) one of the following conditions has been met: (x) MCA owns, directly or indirectly, 100% of the outstanding capital stock of the transferee; (y) MCA owns, directly or indirectly, 50% or more of the outstanding capital stock of the transferee and MCA has given the Company 150 days prior notice of any such transfer; or (z) the transfer is made to a transferee controlled by MCA in connection with a corporate reorganization of MCA involving more than $1 billion in assets of MCA. The provisions of this Section 2.1(b) shall apply for a maximum period of two years from and after the date hereof and shall cease to restrict transfers by MCA of any of the shares of Common Stock after the earlier of the second anniversary of the date hereof or the date the Company is first subject to the periodic reporting requirements under the Exchange Act; provided, -------- however, - ------- -4- that nothing in this Section 2.1(b) shall affect the voting restrictions and the rights of first refusal set forth in this Agreement. The MCA Shareholders hereby agree that, before MCA divests itself of control over any transferee hereunder, the MCA Shareholders shall first transfer all of the shares of Common Stock beneficially owned by such transferee to another corporation, partnership or other entity pursuant to the first sentence of this Section 2.1(b). Section 2.2. Transfers to Others. (a) Following the earlier of the ------------------- date the Company is first subject to the periodic reporting requirements under the Exchange Act or two (2) years from the date hereof, in addition to transfers permitted by Section 2.1, the Individual Shareholder may transfer shares of Common Stock to any entity or individual, upon complying with the restrictions of Section 2.3 of this Shareholders' Agreement, so long as such transfer is accompanied by an opinion of counsel, satisfactory to the Company and MCA, that such transfer may be effected without registration under the Securities Act and so long as such transferee agrees in writing to be bound by the terms and conditions of this Shareholders' Agreement, as amended from time to time. (b) Following the earlier of the date the Company is first subject to the periodic reporting requirements under the Exchange Act or two (2) years from the date hereof, in addition to transfers permitted by Section 2.1, any MCA Shareholder may transfer shares of Common Stock upon complying with the restrictions set forth in Section 2.4 of this Shareholders' Agreement (i) pursuant to a Registration Statement as contemplated by Article III or (ii) pursuant to an opinion of counsel, satisfactory to the Company and MCA, that such transfer may be effected without registration under the Securities Act, so long as such transferee in the case of the foregoing clause (ii) agrees in writing to be bound by the terms and conditions of this Shareholders' Agreement, as amended from time to time. Section 2.3. MCA Right of First Refusal. (a) For as long as the MCA -------------------------- Shareholders own 10% of the then outstanding Common Stock and except for the transfer of shares of Common Stock (i) from the Individual Shareholder in connection with the exercise of, and in accordance with the terms of, the MCA Option, (ii) by the Individual Shareholder pursuant to Section 2.1, or (iii) pursuant to subsection (b) of this Section 2.3, the Individual Shareholder may not sell, give or transfer any shares of Common Stock to any other person or entity unless (a) the Individual Shareholder shall have received a written offer (the "Proposal") from a bona fide proposed purchaser of such shares (the "Purchaser"), which Proposal shall remain open and -5- available for acceptance for at least thirty (30) days and provide for the sale of a designated number of shares to the Purchaser (subject only to the rights of MCA under this Section 2.3) at a sales price consisting solely of cash at closing, and containing the written agreement of the Purchaser to be bound by the terms and conditions of this Shareholders' Agreement, as amended from time to time, and (b) the Individual Shareholder shall have first offered such shares of Common Stock to MCA in writing at the price and on the terms specified in the Proposal. Each Proposal shall include the following information ("Purchaser Information"): the name of the Purchaser; the identity of each holder of 10% or more of the equity or voting power of the Purchaser; a description of any agreement or understanding, written or oral, with any Shareholder, the Company, or any affiliate of the Company; and any other information reasonably requested by MCA. From and after the second anniversary of the date hereof, if MCA shall not have exercised each of the MCA Options, MCA shall not be permitted to exercise its right of first refusal under this Section 2.3 unless the price per share at which the Individual Shareholder proposes to sell Common Stock shall be less than $9 per share (adjusted to give effect to any stock splits, reverse stock splits, reclassifications or other similar events occurring after the date hereof), in which case MCA's rights of first refusal under this Section 2.3 shall continue to apply to such proposed sale. Subject to the first sentence of this Section 2.3, the right of first refusal granted to MCA hereunder shall not be transferable or assignable by MCA and may be retained by MCA notwithstanding the transfer of Common Stock by MCA hereunder. The offer to MCA shall be open for a period of fifteen (15) calendar days from the date thereof. No exercise of a right of first refusal pursuant to this section shall be effective unless such exercise shall be for the entire number of shares to be sold, given or transferred. Unless MCA elects to accept such offer as provided herein, the Individual Shareholder may sell all (but not less than all) of such shares of Common Stock to the Purchaser in accordance with the terms of the Proposal, provided that such sale is made within one hundred twenty (120) days of the date of the Proposal. If such sale is not consummated within such 120-day period, the restrictions provided for herein shall again become effective, and no sale, transfer, or assignment of such Common Stock may be made thereafter without again offering the same to MCA in accordance with this Shareholders' Agreement. -6- The Individual Shareholder may pledge or otherwise encumber his Common Stock to secure indebtedness of the Individual Shareholder owing to a bank or other financial institution approved in writing by MCA, which approval shall not be unreasonably withheld; provided, however, that any transferee pursuant to -------- ------- this paragraph shall acquire only a security interest in the Common Stock and the Individual Shareholder shall retain all voting rights to such Stock while pledged or encumbered, and title to such Common Stock shall not pass to such transferee until he or it has first offered such Common Stock to MCA at fair market value. For purposes of this section, fair market value is to be determined by an appraiser selected by MCA and approved by the Individual Shareholder. Any appraiser selected hereto shall be a nationally recognized investment banking firm. The fees of any such appraiser are to be borne by the Individual Shareholder. Notwithstanding the foregoing, MCA shall not have any right of first refusal with respect to (i) shares of Common Stock sold by the Individual Shareholder pursuant to Rule 144 under the Securities Act which are sold within the volume limitations set forth in Rule 144(e) or pursuant to Rule 144(k) (provided that any such transferee shall not be bound by the terms of this Shareholders' Agreement) or (ii) shares of Common Stock sold pursuant to the provisions of subsection (b) of this Section 2.3. (b) Notwithstanding the provisions of subsection (a) of this Section 2.3, for a period ending on the earlier of (x) the second anniversary of the date hereof and (y) the date of the Company's initial Public Offering, MCA shall not have a right of first refusal in respect of a single investment in shares of Common Stock of the Company by one or more third parties (the "Third Party Investment"), which is not, prior to such investment, affiliated with the Company or the Individual Shareholder (the "Third Party"), so long as the Third- Party Investment meets each of the following conditions: (i) the aggregate number of shares of Common Stock to be purchased by the Third Party (the "Third-Party Shares") does not exceed fifteen (15%) percent of the fully diluted outstanding shares of Common Stock of the Company (the term "fully diluted" being used herein to mean after giving effect to (A) the exercise of all then outstanding options, warrants or other then-existing rights to purchase Common Stock, whether or not immediately exercisable, (B) the issuance of shares of Common Stock to MCA and (C) consummation of the Third-Party Investment); -7- (ii) the price per share paid by the Third-Party for each of the Third-Party Shares is not less than $8.22 in cash per share; and (iii) the Third-Party is not one of the parties listed on Annex A hereto. The Individual Shareholder, the Company and MCA further covenant and agree that (i) shares of Common Stock transferred to the Third Party in respect of the first $14 million of the net proceeds to be paid in connection with the Third Party Investment may be sold to the Third Party by the Individual Shareholder and that the proceeds of any such sale may be retained by the Individual Shareholder; (ii) shares of Common Stock transferred to the Third Party in respect of the next $2 million of the net proceeds to be paid in connection with the Third Party Investment shall be issued and sold by the Company and that the proceeds of any such sale shall be retained by the Company; and (iii) shares of Common Stock to be issued or transferred, as the case may be, to the Third Party in respect of any amount in excess of $16 million to be paid in connection with the Third Party Investment shall be issued or transferred and sold by the Company and the Individual Shareholder, respectively, in equal proportions and that the one half of the proceeds of any such sale shall be retained by each of the Company and the Individual Shareholder. In connection with the Third-Party Investment, the Company shall be permitted to grant to the Third-Party Investor (i) not more than one (1) seat on the Company's Board of Directors; (ii) piggy-back registration rights which shall be pari passu with those granted to MCA; and (iii) not more than one (1) demand registration right, which shall not be exercisable prior to the second anniversary of the date of this Agreement. In the event of any issuance and sale of shares of Common Stock by the Company pursuant to a Third-Party Investment, the Company and the Individual Shareholder agree that, simultaneously with the consummation of any Third-Party Investment, the Company shall issue to MCA, in exchange for the payment by MCA of the aggregate par value, if any, of the Common Stock to be issued to MCA pursuant to this paragraph, such number of shares of Common Stock so that MCA's percentage ownership of the fully diluted outstanding Common Stock following the consummation of the Third-Party Investment is identical to its percentage ownership of the fully diluted outstanding Common Stock immediately prior to such consummation. -8- Section 2.4. Individual Shareholder Right of First Refusal. For so --------------------------------------------- long as the Individual Shareholder owns 10% or more of the then outstanding Common Stock and except for the transfer of shares of Common Stock by MCA pursuant to Section 2.1, MCA may not sell, give or transfer any shares of Common Stock to any other person or entity unless (a) MCA shall have received a Proposal from a Purchaser, which Proposal shall remain open and available for acceptance for at least thirty (30) days and provide for the sale of a designated number of shares to the Purchaser (subject only to the rights of the Individual Shareholder under this Section 2.4) at a sales price consisting solely of cash at closing, and containing the written agreement of the Purchaser to be bound by the terms and conditions of this Shareholders' Agreement, as amended from time to time, and (b) MCA shall have first offered such shares of Common Stock to the Individual Shareholder in writing at the price and on the terms specified in the Proposal. Each Proposal shall include the Purchaser Information and any other information reasonably requested by the Individual Shareholder. For purposes of this paragraph, "MCA" shall be deemed to include the MCA Shareholders. The offer to the Individual Shareholder shall be open for a period of fifteen (15) calendar days from the date thereof. No exercise of a right of first refusal pursuant to this section shall be effective unless such exercise shall be for the entire number of shares to be sold, given or transferred. Unless the Individual Shareholder elects to accept such offer as provided herein, MCA may sell all (but not less than all) of such shares of Common Stock to the Purchaser in accordance with the terms of the Proposal, provided that such sale is made within one hundred twenty (120) days of the date of the Proposal. If such sale is not consummated within such 120-day period, the restrictions provided for herein shall again become effective, and no sale, transfer, or assignment of such Common Stock may be made thereafter without again offering the same to the Individual Shareholder in accordance with this Shareholders' Agreement. MCA may pledge or otherwise encumber its Common Stock to secure indebtedness of MCA or any of its affiliates; provided, however, that any -------- ------- transferee pursuant to this paragraph shall acquire only a security interest in the Common Stock and MCA shall retain all voting rights to such Stock while pledged or encumbered, and title to such Common Stock shall not pass to such transferee until he or it has first offered such Common Stock to the Individual Shareholder at fair market value. For purposes of this section, fair market value is to be determined -9- by an appraiser selected by the Individual Shareholder and approved by MCA. Any appraiser selected hereto shall be a nationally recognized investment banking firm. The fees of any such appraiser are to be borne by MCA. If MCA proposes to sell all or substantially all of its Common Stock in a transaction which would give rise to the Individual Shareholder's right of first refusal under this Section 2.4, then the Individual Shareholder shall have the right to assign his right of first refusal hereunder to the Company. Section 2.5. Legend on Certificates. Each outstanding certificate ---------------------- representing shares of Common Stock beneficially owned by any Shareholder shall bear an endorsement reading substantially as follows: The transfer, sale, gift, pledge or encumbrance of the securities represented by this certificate and the voting rights related thereto (including the grant of an irrevocable proxy) are subject to the provisions of an agreement dated March 28, 1994, among the Interplay Productions, Inc. (the "Company"), MCA Inc. and the Individual Shareholder (as defined therein), a copy of which is on file at the principal executive office of the Company. Section 2.6. No Other Transfers; Termination of Restrictions. Except ----------------------------------------------- as permitted by this Article II, none of the Shareholders shall transfer any shares of Common Stock, and any purported transfer not permitted by this Article II shall be void. The provisions of this Article II with respect to shares of Common Stock shall apply equally to any rights or options to purchase Common Stock or securities convertible into or exchangeable for Common Stock. ARTICLE III REGISTRATION OF COMMON STOCK Section 3.1. Piggyback Registration Rights. If at any time while the ----------------------------- Common Stock (shares of Common Stock and any securities issued as a dividend thereon, or in exchange therefor, hereinafter in this Article III referred to as "Restricted Securities") is outstanding, the Company proposes to file a registration statement under the Securities Act (other than on Forms S-4 or S-8 under the Securities Act or their equivalent), with respect to any shares of Common Stock (a "Registration Statement"), it will give written notice, specifying the form and manner of, and all other relevant facts involved in, such -10- proposed registration (including without limitation, the identity of the managing underwriter and the estimated price (net to the seller of any underwriting commissions and discounts) at which the Restricted Securities are expected to be sold), to each of the Shareholders that hold Restricted Securities at least thirty (30) days prior to the date of filing of the proposed Registration Statement. Upon written request by any Shareholder within fifteen (15) days after receipt of such notice, the Company will include in the securities transaction to be registered by such Registration Statement all of the Restricted Securities of the Company that such Shareholder desires to sell, subject to the following: (a) The Company will pay the expense of such registration, except that each holder of Restricted Securities that are included in such registration shall pay all underwriting discounts and commissions applicable to his or its Restricted Securities and all legal fees and expenses of his or its counsel, if any; and (b) If such Registration Statement is for a prospective underwritten offering, the holder agrees to sell his or its Restricted Securities, if the Company so requests, on the same basis as the other Restricted Securities being sold under such Registration Statement, including executing a customary underwriting agreement and providing customary representations and warranties thereunder. The Company may withdraw any Registration Statement before it becomes effective or postpone the offering of Restricted Securities contemplated by such Registration Statement without any obligation to the holder of any Restricted Securities. If such Registration Statement involves an underwritten offering by the Company and the managing underwriter advises the Company in writing that, in its opinion, the number of shares of Common Stock proposed to be included in such Registration Statement exceeds the number which can be sold in such offering without materially and adversely affecting the successful marketing thereof, the Company will include in such Registration Statement to the extent of the number of shares of Common Stock which the Company is so advised can be sold in such offering without such material adverse effect (i) first, the shares of Common Stock proposed by the Company to be sold for its own account; (ii) second, the shares of Common Stock proposed to be registered by other shareholders of the Company pursuant to a written demand registration right; and (iii) third, other shares of Common Stock requested to be included in such Registration Statement pro rata among all Shareholders and -11- other Persons with piggyback registration rights both requesting and entitled to such registration on the basis of the number of such securities requested to be included by such Shareholders. Section 3.2. Demand Registration Rights. (a) At any time after the -------------------------- second anniversary of the date hereof, the MCA Shareholders or the Individual Shareholder may demand, by giving the notice set forth below, that the Company file a registration statement under the Securities Act with respect to at least 1,000,000 shares of the Common Stock beneficially owned by the MCA Shareholders or the Individual Shareholder; provided, however, that (x) the MCA Shareholders -------- ------- shall initially be entitled to two (2) demand registrations pursuant to this Section 3.2 and shall be entitled to one (1) additional demand registration for each exercise by MCA of the MCA Options under the Option Agreement and (y) the Individual Shareholder shall be entitled to a total of four (4) demand registrations pursuant to this Section 3.2; and provided, further, that the MCA -------- ------- Shareholders nor the Individual Shareholder shall be entitled to more than one (1) demand registration per calendar year. The notice shall: (i) be given in writing by an MCA Shareholder or the Individual Shareholder; (ii) set forth the number of shares of Common Stock subject to registration; (iii) be accompanied by an opinion of counsel to such MCA Shareholder or the Individual Shareholder that the sale of the number of shares of Common Stock proposed, and on the terms and to the prospective purchasers proposed, must be registered under the Securities Act; and (iv) request that the Company effect the registration of the sale of such shares. The MCA Shareholders or the Individual Shareholder desiring to sell the shares of Common Stock described in the notice may not offer such shares until the registration of the sale of such shares has been effected (unless such registration is withdrawn or abandoned), and the consummation of any sale pursuant thereto shall be subject to prior compliance by such MCA Shareholders or the Individual Shareholder with Sections 2.4 and 2.3 hereof, respectively (unless the provisions of either Section 2.4 or Section 2.3 are no longer in effect). For purposes of this Section 3.2, if the sale of Common Stock hereunder is underwritten, the MCA Shareholders or the Individual Shareholder shall satisfy their respective obligations under -12- Section 2.4 or Section 2.3 by: (i) delivering a letter from the managing underwriter or underwriters of the proposed sale, specifying, in good faith, a reasonable estimation of the offering price; (ii) offering all of the shares included in the proposed sale to the MCA Shareholders or the Individual Shareholder pursuant to either Section 2.4 or Section 2.3, in writing at the price specified in the underwriter's letter; and (iii) complying with Section 2.4 or Section 2.3 in all other respects (other than with respect to the provision of the Purchaser Information). Upon receipt of a notice from any MCA Shareholders or the Individual Shareholder demanding registration of the sale of such MCA Shareholders' or the Individual Shareholder's shares of Common Stock, the Company shall, subject to the provisions set forth below, use its best efforts to cause a registration statement covering the sale of such MCA Shareholders' or the Individual Shareholder's shares of Common Stock to become effective as soon as possible. The Company's registration of the sale of MCA Shareholders' or the Individual Shareholder's shares of Common Stock shall be subject to the terms and conditions set forth in Subclauses (a) and (b) of Section 3.1 (provided, that -------- the word "registration" shall be substituted for the words "Registration Statement" in Subclause (b)). If the MCA Shareholders or the Individual Shareholder shall have given written notice of the exercise of a demand right pursuant to this Section 3.2 and such exercise shall thereafter be withdrawn without any shares of Common Stock having been registered under the Securities Act, the MCA Shareholder or the Individual Shareholder having delivered such notice shall pay the expense of such registration. If the Company has given written notice, pursuant to Section 3.1 hereof, to holders of Restricted Securities of its intention to file a Registration Statement, and has not withdrawn such notice, no demand registration notice shall be given under this Section 3.2 until sixty (60) days after the effective date of a Registration Statement prepared pursuant to Section 3.1. The MCA Shareholders' or the Individual Shareholder's demand registrations pursuant to this Section 3.2 shall be assignable to not more than two (2) transferees each of the Common Stock held by any MCA Shareholder or the Individual Shareholder. Any MCA Shareholder's or the Individual Shareholder's right to demand registration of any shares of Common Stock pursuant to this Section 3.2 shall terminate on the date that such MCA Shareholder or the Individual Shareholder shall be free to -13- transfer such shares without restrictions as to volume pursuant to Rule 144(k) under the Securities Act. (b) If and whenever the Company is required by the provisions of this Section 3.2 to use its best efforts to effect the registration of the sale of any of its securities under the Securities Act, the Company shall, as expeditiously as possible: (i) prepare and file with the SEC a registration statement with respect to such securities and use its best efforts to cause such registration statement to become and remain effective; (ii) cooperate with the MCA Shareholders or the Individual Shareholder, as the case may be, and cooperate with any underwriter who shall sell such shares in connection with its review of the Company; (iii) prepare and file with the SEC such amendments and supplements to such registration statement and the prospectus used in connection therewith as may be necessary to keep such registration statement effective for sixty (60) days from the date of its effectiveness and to comply with the provisions of the Securities Act and the Exchange Act with respect to the disposition of all securities covered by such registration statement for such period; (iv) furnish to the MCA Shareholders or the Individual Shareholder, as the case may be, such number of copies of the prospectus forming a part of such registration statement (including each preliminary prospectus), in conformity with the requirements of the Securities Act, and such other documents as such MCA Shareholders or the Individual Shareholder may reasonably request in order to facilitate the disposition of such securities; (v) use its best efforts to register or qualify the securities covered by such registration statement under the "blue sky" laws of such jurisdictions as the MCA Shareholders or the Individual Shareholder, as the case may be, shall reasonably request, and do any and all other acts and things which may be necessary or advisable to enable the MCA Shareholders or the individual -14- shareholder, as the case may be, or any underwriter offering such securities for the MCA Shareholders or the Individual Shareholder, as the case may be, to consummate the disposition thereof, during the period provided in subclause (iii) above, in such jurisdictions; provided, however, that in no event shall the -------- ------- Company be obligated to qualify to do business in any jurisdiction where it is not then qualified or to take any action which would subject it to the service of process in suits other than those arising out of the offer or sale of the securities covered by such registration statement in any jurisdictions where it is not then subject; (vi) (A) notify the MCA Shareholders or the Individual Shareholder, as the case may be, at any time when a prospectus relating thereto is required to be delivered under the Securities Act, of the happening of any event as a result of which the prospectus forming a part of such registration statement, as then in effect, includes an untrue statement of a material fact or omits to state any material fact required to be stated therein or necessary to make the statements therein not misleading in the light of the circumstances then existing, and (B) at the request of the MCA Shareholders or the Individual Shareholder, prepare and furnish to such of the MCA Shareholders or the Individual Shareholder a reasonable number of copies of any supplement to or any amendment of such prospectus that may be necessary to that, as thereafter delivered to the purchasers of such securities, such prospectus shall not include any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading in the light of the circumstances then existing; and (vii) enter into an underwriting agreement in the form then currently in use by major underwriters, and consistent with the provisions of this Section 3.2, with the underwriters of the securities covered by such registration statement. In the case of any registration statement filed pursuant to a demand delivered under this Section 3.2, the Company shall be permitted to include in such registration statement a -15- number of shares of common stock which can be sold within the limitations set forth in the next sentence of this paragraph. If such registration statement involves an underwritten offering and the managing underwriter advises the MCA Shareholders or the Individual Shareholder, as the case may be, in writing that, in its opinion, the number of shares of Common Stock proposed to be included in such registration statement exceeds the number which can be sold in such offering without materially and adversely affecting the successful marketing thereof, the Company will include in such registration statement to the extent of the number of shares of Common Stock which the MCA Shareholders or the Individual Shareholder are so advised can be sold in such offering without such material adverse effect (i) first, the shares of Common Stock proposed to be sold by the MCA Shareholders or the Individual Shareholder, as the case may be, and (ii) second, such other shares of Common Stock requested to be included in such registration statement by the Company which, in the opinion of the managing underwriter, would not have the material adverse effect referred to above. Anything in this Section 3.2 to the contrary notwithstanding, the Company may defer the filing of any registration statement required under Section 3.2, or delay the effectiveness of any such registration statement, for a maximum of ninety (90) days from the date on which such registration would otherwise have been filed or become effective, and if the Company shall have filed a Registration Statement to offer shares of Common Stock, as described in Section 3.1 hereof, for a maximum of sixty (60) days after such Registration Statement shall have been declared effective. Section 3.3. Provision of Information. As a condition to the Company's ------------------------ obligations under Section 3.1 or Section 3.2 to cause shares to be included in a Registration Statement, or to be registered, respectively, the holder of any Restricted Securities which are to be included therein shall provide such information and execute such documents (including any reasonable and customary agreement or undertaking relating to expenses, indemnification or other matters contemplated by this Shareholders' Agreement) as may be required by the Company in connection therewith. Section 2.4. New Certificates. As expeditiously as possible after the ---------------- effectiveness of any Registration Statement or registration provided for in Sections 3.1 or Section 3.2, respectively, the Company will deliver in exchange for any certificates evidencing Restricted Securities so registered, new stock certificates not bearing the legend set forth in Section 2.5 of this Shareholders' Agreement. In the event that any such securities remain unsold when such Registration Statement -16- or registration ceases to be effective, the stock certificates not bearing such legend evidencing such unsold securities shall be delivered to the Company in exchange for certificates bearing such legend. Section 3.5. Indemnification. In connection with any registration of --------------- securities pursuant to this Shareholders' Agreement, to the extent permitted by law, the Company shall indemnify the MCA Shareholders and the Individual Shareholder and the MCA Shareholders and the Individual Shareholder shall indemnify the Company in the manner provided in this Section 3.5: (a) The Company shall indemnify and hold harmless each MCA Shareholder and the Individual Shareholder, each officer and each director, if any, of such MCA Shareholder, the underwriter, if any, for the sale or distribution of such MCA Shareholder's or the Individual Shareholder's securities, and each person, if any, who controls such MCA Shareholder or underwriter, against all losses, claims, damages or liabilities, joint or several, to which such MCA Shareholders, the Individual Shareholder or any such officer, director, underwriter or controlling person may become subject, under the Securities Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions or omissions in respect thereof) arise out of or are based upon any untrue statement or alleged untrue statement of any material fact contained in any registration statement, prospectus or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading in the light of the circumstances then existing and, subject to Section 3.5(c), the Company shall reimburse each MCA Shareholder, the Individual Shareholder, and any such officer, director, underwriter or controlling person, for any legal or other expenses reasonably incurred by such MCA Shareholder, the Individual Shareholder, and any such officer, director, underwriter or controlling person, in connection with investigating or defending any such loss, claim, damage, liability or action; provided, however, that the Company shall not be -------- ------- required to indemnify and hold harmless or reimburse the MCA Shareholders, the Individual Shareholder, or any such officer, director, underwriter or controlling person, as the case may be, to the extent that any such loss, claim, damage, liability or expense arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission in any document made in reliance upon and in conformity with -17- written information furnished to the Company by or on behalf of such MCA Shareholders, the Individual Shareholder, or any such officer, director, underwriter or controlling person for use in the preparation of such documents. (b) Each MCA Shareholder and the Individual Shareholder shall indemnify and hold harmless the Company, each of its directors and officers, and each person, if any, who controls the Company, against all losses, claims, damages or liabilities to which the Company or any such director or officer or controlling person may become subject, under the Securities Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions or omissions in respect thereof) arise out of or are based upon any untrue or alleged untrue statement of any material fact contained in any registration statement, prospectus or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading in light of the circumstances then existing, in each case, to the extent, but only to the extent, that such untrue statement or alleged untrue statement or omission or alleged omission was made in reliance upon and in conformity with written information furnished to the Company by and on behalf of such MCA Shareholder or the Individual Shareholder, as the case may be, for use in the preparation thereof; and, subject to Section 3.5(c), such MCA Shareholder or the Individual Shareholder, as the case may be, shall reimburse the Company for any legal or other expenses reasonably incurred by the Company or any such director, officer or controlling person in connection with investigating or defending against any such loss, claim, damage, liability or action. (c) Within thirty (30) days after receipt by an indemnified party, under (a) or (b) above, of notice of the commencement of any action or proceeding, the indemnified party shall promptly notify the indemnifying party, in writing, that such notice has been received. The failure to so notify the indemnifying party shall not relieve the indemnifying party from any liability hereunder with respect to the action or proceeding, except to the extent that the indemnifying party is actually prejudiced by such failure to give notice. In case any such action or proceeding is brought against an indemnified party, the indemnifying party shall be entitled to participate in and, unless in such indemnified party's reasonable judgment a -18- conflict of interest between such indemnified and indemnifying parties may exist in respect of such claim or proceeding, to assume the defense thereof, jointly with any other indemnifying party similarly notified to the extent that it may wish, with counsel reasonably satisfactory to such indemnified party, and after notice from the indemnifying party to such indemnified party of its election to so assume the defense thereof, the indemnifying party shall not be liable to such indemnified party for any legal or other expenses subsequently incurred by the latter in connection with the defense thereof, other than reasonable costs of investigation. No indemnifying party shall be liable for any settlement of any action or proceeding effected without its written consent. No indemnifying party shall, without the consent of the indemnified party, consent to entry of any judgment or enter into any settlement which does not include as an unconditional term thereof the giving by the claimant or plaintiff to such indemnified party of a release from all liability in respect of such claim or proceeding. (d) If the indemnification provided for in this Section shall for any reason be held by a court to be unavailable to an indemnified party under subparagraph (a) or (b) hereof in respect of any loss, claim, damage or liability, or any action or proceeding in respect thereof, then, in lieu of the amount paid or payable under subparagraph (a) or (b) hereof, the indemnified party and the indemnifying party under subparagraph (a) or (b) hereof shall contribute to the aggregate losses, claims, damages and liabilities (including legal or other expenses reasonably incurred in connection with investigating the same), (i) in such proportion as is appropriate to reflect the relative fault of the Company, the MCA Shareholders and the Individual Shareholder with respect to the statements or omissions which resulted in such loss, claim, damage or liability, or action or proceeding in respect thereof, as well as any other relevant equitable considerations, or (ii) if the allocation provided by clause (i) above is not permitted by applicable law, in such proportion as shall be appropriate to reflect the relative benefits received by the Company, the MCA Shareholders and the Individual Shareholder from the offering of the securities hereunder. No individual or entity guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any individual or entity who was not guilty of such fraudulent misrepresentation. -19- (e) The indemnification and contribution required by this Section shall be made by periodic payments of the amount thereof during the course of the investigation or defense, as and when bills are received or expense, loss, damage or liability is incurred. Section 3.6. Standby. Each holder of any Restricted Securities agrees ------- that, with respect to any registration statement under the Securities Act that the Company may file, if requested by the managing underwriter of the sale to be registered or, if such sale is not underwritten, the Company, such holder will not sell any securities of the Company (whether or not such securities are Restricted Securities, and however acquired), other than securities, if any, of such holder included in such registration statement and securities sold to a Permitted Transferee, for a period of at least five (5) days before, and up to one hundred and twenty (120) days after, the date such registration statement is declared effective. Section 3.7. Assignment. The registration rights contained in this ---------- Shareholders' Agreement shall be transferable by the holder of any Restricted Securities to any person or entity that acquires such Restricted Securities from such holder (excluding any person or entity that acquires such Restricted Securities in a transaction with respect to which a registration statement under the Securities Act is effective at the time), provided that (a) the transfer of such Restricted Securities is conducted in accordance with this Shareholders' Agreement, and (b) such person or entity agrees, in writing, to be bound by the terms and conditions of this Shareholders' Agreement, as amended from time to time. Pursuant to Section 3.2 of this Shareholders' Agreement, the MCA Shareholders' and the Individual Shareholder's rights to demand registration of the Common Stock shall be assignable to not more than two (2) transferees of each of the MCA Shareholders and the Individual Shareholder of the Common Stock held by any MCA Shareholders or the Individual Shareholder. ARTICLE IV CORPORATE GOVERNANCE Section 4.1. Representation on the Board and Committees. (a) The Board ------------------------------------------ of Directors of the Company (the "Board") shall consist of nine (9) members. Upon consummation of the transactions contemplated by the Stock Purchase Agreement, the Board shall consist of: five (5) designees of the Individual Shareholder; two (2) designees of MCA; and one (1) designee of the Third Party, if any, with one vacancy on the Board to be -20- filled as provided in the following sentence. Upon exercise by MCA of its option to purchase the First Period Shares (as defined in the Option Agreement) under the Option Agreement, MCA shall have the right to fill the vacancy referred to in the immediately preceding sentence with a designee of its choice so that, immediately following the election of such designee, the Board shall consist of: five (5) designees of the Individual Shareholder; three (3) designees of MCA; and one (1) designee of the Third Party, if any. Upon exercise by MCA of its option to purchase the Second Period Shares (as defined in the Option Agreement) under the Option Agreement, one of the Individual Shareholder's designees shall resign from the Board so that, immediately following such resignation, the Board shall consist of: four (4) designees of the Individual Shareholder; three (3) designees of MCA; and one (1) designee of the Third Party, if any, with one vacancy on the Board which shall remain unfilled. Following the exercise by MCA of its option to purchase the Second Period Shares, upon request of the Individual Shareholder, MCA agrees to vote the shares of Common Stock then owned by it to amend the Company's Bylaws to reduce the size of the Board to eight (8) members. In the event that a resolution relating to a matter brought before the Board for a vote of the Board results in an equal number of directors voting in favor of and against such resolution, the Shareholders agree that the Individual Shareholder, as Chairman of the Board, shall cast the deciding vote in favor of or against such resolution, as the case may be, and that such vote shall be deemed to have definitively resolved the matter with respect to which the Board was otherwise at an impasse. The provisions of this Section 4.1(a) are subject to the limitations set forth in the last sentence of Section 4.1(c). (b) From and after the date hereof, the Board shall establish a Compensation Committee which shall consist of 3 members, one of whom shall be designated by the MCA Shareholders. The consent of the MCA Shareholders' designee on the Compensation Committee shall be required (i) to grant options under the Incentive Plan (as defined below) to any employee of the Company whose salary exceeds $100,000 per year and (ii) to establish any bonus plan of the Company. (c) The Shareholders agree to take all necessary action to provide the MCA Shareholders and the Individual Shareholder with representation on the Board and all committees thereof as set forth in this Section 4.1 and to cause their nominees to vote as required in 4.1; provided that the representation of -------- the MCA Shareholders on the Board and each such committee shall be no fewer than one member. Such necessary action shall include, but not be limited to, an increase in the size of the Board or any such committee or the removal of incumbent directors or -21- incumbent members of any such committee. The provisions of this Section 4.1 and of Section 4.2 shall terminate upon the date of the Company's initial Public Offering. Section 4.2. Voting. In the event that the MCA Shareholders and the ------ holders of shares of Common Stock sold pursuant to any Third-Party Investment together beneficially own, in the aggregate, shares of Common Stock in excess of the shares of Common Stock beneficially owned, in the aggregate, by the Individual Shareholder, then the MCA Shareholders shall only vote such number of shares of Common Stock as, when added to the number of Third-Party Shares, is equal to the number of shares of Common Stock beneficially owned, in the aggregate, by the Individual Shareholders. In the event that a resolution relating to a matter brought to a vote of the Shareholders results in an equal number of votes in favor of and against such resolution, the Shareholders agree that the Individual Shareholder, as Chairman of the Board, shall cast the deciding vote in favor of or against the resolution, as the case may be, and that such deciding vote shall be deemed to have definitely resolved the matter with respect to which the Shareholders were otherwise at an impasse. The voting restrictions set forth in this Section 4.2 will terminate upon the consummation of a Public Offering. To the extent required to enforce the provisions of this Agreement, MCA and the Individual Shareholder hereby grant to the Secretary of the Company an irrevocable proxy to vote the shares of Common Stock held by them as such shares are required to be voted under Section 4.1 hereof and under this Section 4.2. Section 4.3. Corporate Actions. Without the prior written consent of ----------------- MCA, the Company will not: (i) amend or otherwise change its charter or by-laws; (ii) issue, sell or agree to or authorize for issuance or sale, shares of any class of its equity securities, other than (A) pursuant to the consummation of the Third Party Investment, if any, (B) pursuant to and in accordance with the terms of Employee Options outstanding on the date hereof, (C) pursuant to options issued to employees of the Company after the date hereof covering a number of shares of Common Stock no greater than and having an average exercise price no less than the number of shares of Common Stock covered by and average exercise price of Employee Options outstanding on the date hereof that expire unexercised, (D) pursuant to options issued to employees of the Company after the date hereof under an -22- option plan approved by MCA authorizing the grant of options in respect of not more than an aggregate of 5% of the outstanding shares of Common Stock (the "Incentive Plan") or (E) pursuant to a Public Offering; (iii) issue, sell or agree to or authorize for issuance or sale any securities convertible or exchangeable into, or options with respect to, or warrants to purchase or rights to subscribe to, any shares of capital stock of the Company, other than options referred to in clauses (C) and (D) of the foregoing subparagraph (i); (iv) effect any reorganization or reclassification of the capital stock of the Company; (v) other than pursuant to the agreements between the Company and employees of the Company listed on schedule 4.4 hereto, declare, set aside, make or pay any dividend or other distribution (whether in cash, stock or property) with respect to its capital stock; (vi) redeem, purchase or otherwise acquire or agree to redeem, purchase or otherwise acquire, directly or indirectly, any of its capital stock (other than pursuant to non-cash exercise of options pursuant to options granted pursuant to plans in effect on the date hereof or pursuant to the Buy/Sell Agreements listed on the schedule of exceptions to the Stock Purchase Agreement); (vii) enter into any extraordinary corporate transaction such as a merger or sale of all or substantially all of its assets; (viii) make any capital expenditure, acquisition or divestiture above $2,500,000; (ix) incur any debt in excess of an aggregate of $17,000,000, including currently available credit lines, whether or not the Company shall have borrowed funds pursuant to such credit lines; or (x) institute any material change in the overall composition of senior management of the Company; provided, however, that the hiring of, or -------- ------- the termination of employment of any single individual by the Company (other than the termination of employment of the Individual Shareholder) shall not require the consent of MCA pursuant to this clause (x). -23- The provisions of this Section 4.4 shall terminate upon the earlier of (i) such time as the MCA Shareholders beneficially own in the aggregate less than fifteen percent (15%) of the outstanding shares of Common Stock or (ii) the date of consummation of the Company's initial Public Offering. If as of the second anniversary of the date hereof, MCA has not exercised both of the MCA Options, MCA's consent to the actions specified in this Section 4.3 shall not be unreasonably withheld. ARTICLE V CERTIFICATE OF INCORPORATION Section 5.1. Certificate of Incorporation. The Shareholders agree ---------------------------- that, as of the date of this Shareholders' Agreement, the Certificate of Incorporation of the Company shall be as attached hereto as Exhibit A. ARTICLE VI MISCELLANEOUS Section 6.1. Survival of Agreement; Term. This Shareholders' Agreement --------------------------- shall not be terminated or amended, nor any provision hereof waived, except by an instrument in writing signed by the Company, MCA and the Individual Shareholder; provided that, without the consent of any party affected no such -------- amendment, waiver or termination shall further restrict the transferability of any Common Stock held by such party, impose any obligation on such party, diminish the benefits of such party hereunder or restrict the rights of such party as set forth herein; and provided further that this Shareholders' -------- ------- Agreement shall automatically terminate on the tenth anniversary of the date of this Shareholders' Agreement. Notwithstanding the foregoing, any provision of this Shareholders' Agreement which specifically provides for termination of such provision on an earlier date shall terminate on such other date. Section 5.2. Directors' and Officers' Insurance and Indemnification. ------------------------------------------------------ To the extent commercially available, the Board shall consider maintaining directors' and officers' insurance, and each director of the Company shall be covered under such insurance. The Company at all times shall indemnify, defend and hold harmless the directors and officers of the Company against all losses, claims, damages or liabilities to the full extent permitted under California Law or the Company's -24- Articles of Incorporation or Bylaws in effect at the date hereof (to the extent consistent with applicable law). Section 6.3. Notices. All notices to be given by any party hereunder ------- shall be in writing and shall be deemed to have been duly given if mailed, by first class or registered mail, three (3) business days after deposit in the United States Mail, or if telexed or telecopied, sent by telegram, or delivered, when confirmation is received, to the relevant party at its address set forth on the stock ledger of the Company in the case of any Shareholder (excluding the MCA Shareholders) or, in the case of the Company, to it at: Interplay Productions, Inc. 17922 Fifth Avenue Irvine, CA 92714 Attention: Chuck Camps Telecopy: (714) 252-2820 with a copy to: Stradling, Yocca, Carlson & Rauth 660 Newport Center Drive Newport Beach, CA 92660 Attention: Christopher J. Kilpatrick Telecopy: (714) 725-4100 or, in the case of the MCA Shareholders, to them at: MCA INC. 100 Universal City Plaza Universal City, CA 91608 Attention: Charles S. Paul Telecopy: (818) 777-7180 with a copy to: Wachtell, Lipton, Rosen & Katz 51 West 52nd Street New York, New York 10019-6188 Attention: Pamela S. Seymon Telecopy: (212) 371-1658 The parties may change their respective addresses for purposes of notice hereunder by giving notice of such change to all other parties in the manner provided in this Section. -25- Section 6.4. Further Assurances. Each shareholder agrees to take, or ------------------ cause to be taken, all such further and other commercially reasonable actions as shall be necessary to make effective the provisions of this Agreement. The Individual Shareholder further covenants and agrees to use his reasonable best efforts to assist in the marketing and consummation of any Public Offering. Section 6.5. Binding Effect. This Shareholders' Agreement supersedes -------------- all prior negotiations, statements and agreements of the parties hereto with respect to the subject matter of this Shareholders' Agreement, and shall be binding upon and inure to the benefit of the respective permitted successors and assigns of the parties hereto. Section 6.6. Complete Agreement. This Shareholders' Agreement ------------------ represents the entire agreement among the Shareholders and the Company with respect to the matters set forth herein, and the parties hereto acknowledge that there have been no representations, warranties, covenants or agreements made by any party hereto other than those contained in this Shareholders' Agreement, the Stock Purchase Agreement and the Option Agreement. Section 6.7. Counterparts. This Shareholders' Agreement may be ------------ executed in counterparts, each of which shall be signed by the Company and one or more Shareholders, and all of which are deemed to be one and the same agreement binding upon the Company and each of the Shareholders. Section 6.8. Headings. The headings of the various sections of this -------- Shareholders' Agreement have been inserted for convenience of reference only and shall not be deemed to be a part of this Shareholders' Agreement. Section 6.9. Conflict with Bylaws. If and to the extent that any -------------------- provision of this Shareholders' Agreement conflicts with or is inconsistent with any provision of the Bylaws of the Company, such provision of this Shareholders' Agreement shall be controlling and, to the extent practicable, the conflicting or inconsistent provision of the Bylaws shall be construed in a manner consistent with such provision of this Shareholders' Agreement. Section 6.10. Governing Law. This Shareholders' Agreement shall be ------------- governed by and construes in accordance with the laws of the State of California, without regard to its conflicts of law doctrine. By execution and delivery of this -26- Shareholders' Agreement, each of the Shareholders accept, generally and unconditionally, the nonexclusive jurisdiction of the state or federal courts in California, and irrevocably consent to the service of process of any such court in any action or proceeding concerning this Shareholders' Agreement by the mailing of copies of such service by registered or certified mail, postage prepaid, to his or its notice address specified in Section 6.3 hereof, such service to become effective ten (10) days after deposit in the United States mail. Section 6.11. Injunctive Relief. Each Shareholder recognizes that in ----------------- the event a Shareholder fails to observe the terms and conditions of this Shareholders' Agreement any remedy at law may prove to be inadequate relief to the Company, MCA and the other Shareholders; therefore, each Shareholder agrees that the Company, MCA and the other Shareholders shall be entitled to temporary and permanent injunctive relief in any such case without the necessity of proving actual damages. -27- IN WITNESS WHEREOF, the parties have duly executed this Shareholders' Agreement as of the date first above written. INTERPLAY PRODUCTIONS, INC. By: /s/ Brian Fargo ------------------------------ Brian Fargo President MCA INC. By:______________________________ Charles S. Paul Executive Vice President /s/ Brian Fargo --------------------------------- Brian Fargo -28- IN WITNESS WHEREOF, the parties have duly executed this Shareholders' Agreement as of the date first above written. INTERPLAY PRODUCTIONS, INC. By: ------------------------------ Brian Fargo President MCA INC. By: /s/ Charles S. Paul ------------------------------ Charles S. Paul Executive Vice President _________________________________ Brian Fargo -28- INTERPLAY PRODUCTIONS 16815 VON KARMAN IRVINE, CALIFORNIA 92606 October 8, 1996 MCA INC. 100 Universal City Plaza Universal City, California 91608 Attn: Robert Biniaz RE: Amendment to the Shareholders' Agreement Ladies and Gentlemen: As you know, Interplay Productions, a California corporation (the "Company") is contemplating the formation of a new wholly-owned subsidiary (the "Subsidiary") for the purpose of conducting its OEM operations. In connection with such formation, the Company may require certain waivers from and consents of MCA INC. ("MCA") pursuant to that certain Shareholders' Agreement dated March 30, 1994, by and among the Company, MCA and Brian Fargo (the "Shareholders' Agreement"). In connection with obtaining such consent from MCA, the Company has agreed to amend the Shareholders' Agreement to include certain restrictions on actions that may be taken in connection with the Subsidiary. This Letter Agreement will evidence such amendments. Capitalized terms used but not defined herein shall have the meanings ascribed to them in the Shareholders' Agreement. Section 4.3 of the Shareholders' Agreement may preclude the Company from forming the Subsidiary and transferring certain assets into such entity. The parties hereby agree that, if the activities of the OEM division are spun off to the Subsidiary, on and after the date on which assets are transferred to the Subsidiary, existing Section 4.3 shall become subsection (a), and a new Section 4.3(b) shall be added which shall read as set forth on Attachment 1 hereto (with "Subsidiary" defined as such Subsidiary). MCA INC. October 8, 1996 Page 2 If the above conforms with your understanding of our agreement with respect to these issues, please sign this Letter Agreement where indicated below and return the enclosed copy of this letter to my attention at the Company at your earliest convenience. Very truly yours, INTERPLAY PRODUCTIONS By: /s/ Brian Fargo --------------------- Brian Fargo /s/ Brian Fargo ------------------------ Brian Fargo AGREED AND ACKNOWLEDGED: MCA INC. By: /s/ Sanford R. Climan -------------------------- Sanford R. Climan Name/Title: Executive Vice President ------------------------- cc: Ruth R. Fisher, Esq. Munger, Tolles & Olson ATTACHMENT 1 (b) Without the prior written consent of MCA, the Subsidiary will not: (i) amend or otherwise change its charter or bylaws; (ii) issue, sell or agree to or authorize for issuance or sale, shares of any class of its equity securities, other than (A) pursuant to options issued to employees of the Subsidiary after the date hereof under an option plan approved by MCA authorizing the grant of options in respect of not more than an aggregate of 5% of the outstanding shares of Subsidiary common stock or (B) pursuant to a Public Offering; (iii) issue, sell or agree to or authorize for issuance or sale any securities convertible or exchangeable into, or options with respect to, or warrants to purchase or rights to subscribe to, any shares of capital stock of the Subsidiary, other than options referred to in clause (A) of the foregoing subparagraph (ii); (iv) effect any reorganization or reclassification of the capital stock of the Subsidiary; (v) declare, set aside, make or pay any dividend or other distribution (whether in cash, stock or property) with respect to its capital stock unless, at the time of the record date and of the payment date related thereto, the Subsidiary is wholly-owned by the Company; (vi) redeem, purchase or otherwise acquire or agree to redeem, purchase or otherwise acquire, directly or indirectly, any of its capital stock (other than pursuant to non-cash exercise of options pursuant to options granted pursuant to plans approved by MCA); (vii) enter into any extraordinary corporate transaction such as a merger or sale of all or substantially all of its assets; (viii) make any capital expenditure, acquisition or divestiture above $2,500,000; or (ix) incur any debt in excess of an aggregate (together with the Company) of $17,000,000, including currently available credit lines, whether or not the Company or Subsidiary shall have borrowed funds pursuant to such credit line. In addition to the foregoing, MCA shall be entitled to have access to and to make copies of such books and records of the Subsidiary related to the Subsidiary's business, operations and affairs, as MCA shall request from time to time, provided MCA shall not be entitled to access or copies in excess of that access and information required to be provided to a director of the Subsidiary under applicable law. The provisions of this Section 4.3(b) shall terminate upon the earlier of (i) such time as the MCA Shareholders beneficially own in the aggregate less than fifteen percent (15%) of the outstanding shares of Common Stock or (ii) the date of consummation of the Company's initial Public Offering. UNIVERSAL STUDIOS, INC. 100 Universal City Plaza Universal City, California 91608 March 20, 1998 Interplay Productions 16815 Von Karman Avenue Irvine, California 92606 Mr. Brian Fargo Interplay Productions 16815 Von Karman Avenue Irvine, California 92606 Re: Shareholders' Agreement ----------------------- Reference is made herein to the Shareholders' Agreement, dated as of March 30, 1994 (the "Agreement"), by and among Interplay Productions, a California corporation (the "Company"), Universal Studios, Inc., a Delaware corporation ("Universal" and, formerly, MCA Inc.), and Brian Fargo ("Fargo"). WHEREAS, the Company is currently contemplating an initial public offering of shares of its common stock pursuant to an effective registration statement on Form S-1 under the Securities Act of 1933, as amended ("IPO"); WHEREAS, in connection with the contemplated IPO, the Company intends to re-incorporate in the State of Delaware (as so re-incorporated, "Interplay Delaware"); WHEREAS, upon such re-incorporation, Interplay Delaware will continue to be bound by the terms and conditions of all of the Company's agreements, including, without limitation, the Agreement; WHEREAS, pursuant to Section 4.1 of the Agreement, the Board of Directors of the Company (the "Board") is set at nine (9) members, and Universal has the right to designate three (3) members to the Board; WHEREAS, rights under the Agreement to designate members to the Board will terminate upon consummation of an IPO; WHEREAS, in contemplation of the IPO, the Company desires to reduce the number of members on the Board to seven (7), and such Board will be the Board of Directors of Interplay Delaware upon consummation of the IPO; and WHEREAS, the parties hereto desire to amend Fargo's rights of first refusal under the Agreement to allow Universal to make transfers pursuant to Rule 144 under the Securities Act of 1933, as amended; NOW, THEREFORE, in consideration of the mutual covenants and agreements contained herein, the parties agree as follows: 1. Subject to the terms and conditions set forth herein, the parties hereto agree that the number of members on the Board may be reduced to seven (7), that Universal shall have the right to designate two (2) members of such Board, and that Fargo shall have the right to designate three (3) members of such Board. 2. The following paragraph shall be added as the last paragraph of Section 2.4 of the Agreement: Notwithstanding the foregoing, the Individual Shareholder shall not have any right of first refusal with respect to shares of Common Stock sold by MCA pursuant to Rule 144 under the Securities Act which are sold within the volume limitations set forth in Rule 144(e) or pursuant to Rule 144(k) (provided that any such transferee shall not be bound by the terms of this Shareholders' Agreement). 3. Universal consents to the re-incorporation of the Company in Delaware; provided, that, upon consummation of the IPO, Interplay Delaware's (i) -------- certificate of incorporation shall provide for cumulative voting in the elections of directors of Interplay Delaware and shall set the number of members on the Board between seven (7) and nine (9), and (ii) bylaws shall set the initial number of members on the Board at seven (7), shall provide that such number shall be set from time to time by a resolution by a unanimous vote of directors then serving, and shall not require a nomination process in the election of members to the Board at annual meetings of the stockholders; provided, further, that so long as Universal owns greater than ten percent (10%) - -------- ------- of the issued and outstanding shares of common stock of Interplay Delaware, Fargo shall not (a) make a shareholder proposal to eliminate such cumulative voting rights or amend any provisions of Interplay Delaware's certificate of incorporation or bylaws relating to the number of members on the Board or the procedures by which such members are elected, or (b) vote any shares of common stock of Interplay Delaware in favor of any such proposal. Furthermore, the Company and Fargo acknowledge and agree that the Agreement, as amended by the terms of this letter agreement, shall continue in full force and effect after such re-incorporation, and that Interplay Delaware shall be the successor to the Company and shall succeed to the Company's rights and obligations thereunder and hereunder. 4. The provisions of Section 1 of this letter agreement shall terminate on the earlier of (i) July 30, 1998 and (ii) the consummation of an IPO by Interplay Delaware. For purposes of clarification, the parties hereto acknowledge and agree that neither Fargo nor Universal has waived any of its rights under the Agreement except to the extent expressly set forth herein, and that if an IPO by Interplay Delaware is not consummated on or prior to July 30, 1998, each of Universal and Fargo shall have the right to cause, and upon any such party's request, each of the parties hereto shall use its best efforts to cause, Interplay Delaware to take promptly all actions necessary or desirable to comply with the terms and conditions of the Agreement, including, without limitation, Section 4.1 thereof pursuant to which the number of members on the Board is to be set at nine (9), of which Universal has the right to designate three (3). Please confirm your agreement to the above by executing and returning a copy of this letter to Universal. Thank you. Very truly yours, UNIVERSAL STUDIOS, INC. By: /s/ BRIAN C. MULLIGAN ----------------------------- Name: Brian C. Mulligan Title: Vice President AGREED AND ACCEPTED: - -------------------- INTERPLAY PRODUCTIONS By: /s/ CHRISTOPHER J. KILPATRICK -------------------------------- Name: Christopher J. Kilpatrick Title: President BRIAN FARGO /s/ BRIAN FARGO - ------------------------------------- EX-10.24 6 PLAYSTATION LICENSE AGREEMENT DATED 2/16/95 EXHIBIT 10.24 Confidential Portions Omitted SONY PLAYSTATION(TM) LICENSE AGREEMENT THIS LICENSE AGREEMENT is entered into as of the 16th day of February, 1995, by and between SONY COMPUTER ENTERTAINMENT OF AMERICA, a division of Sony Electronic Publishing Company, with offices at 711 Fifth Avenue, New York, New York 10022 (hereinafter "Sony"), and Interplay Productions, with offices at 17922 Fitch Avenue, Irvine, CA 92714 (hereinafter "Licensee"). WHEREAS, Sony and/or its affiliates have developed a CD-based interactive console for playing video games and for other entertainment purposes known as PlayStation(TM) (formerly known under the development code name "PS-X") (hereinafter referred to as the "Player") and also own or have the right to grant licenses to certain intellectual property rights used in connection with the Player. WHEREAS, Licensee desires to be granted a non-exclusive license to develop and distribute Licensed Products (as defined below) pursuant to the terms and conditions set forth in this Agreement. WHEREAS, Sony is willing, on the terms and subject to the conditions of this Agreement, to grant Licensee the desired non-exclusive license to develop and distribute Licensed Products, and desires to manufacture such Licensed Products for Licensee. NOW, THEREFORE, in consideration of the representations, warranties and covenants contained herein, and other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, Licensee and Sony hereby agree as follows: 1. DEFINITION OF TERMS. 1.1 "Executable Software" means Licensee's object code software which includes the Licensee Software and any software (whether in object code or source code form) provided by Sony which is intended to be combined with Licensee Software for execution on a Player and has the ability to communicate with the software resident in the Player. 1.2 "Intellectual Property Rights" means, by way of example but not by way of limitation, all current and future worldwide patents and other patent rights, copyrights, trademarks, service marks, trade names, mask work rights, trade secret rights, technical information, know-how, and the equivalents of the foregoing under the laws of any jurisdiction, and all other proprietary or intellectual property rights throughout the universe, including without limitation all applications and registrations with respect thereto, and all renewals and extensions thereof. 1.3 "Licensed Territory" means the countries listed in Exhibit A, as may be in effect from time to time. 1.4 "Licensed Products" shall mean the Executable Software embodied on CD- ROM media. 1.5 "Licensed Trademarks" means the trademarks, service marks and logos designated by Sony. Nothing contained in this Agreement shall in any way grant Licensee the right to use the trademark "Sony" in any manner as a trademark, trade name, service mark or logo other than as expressly permitted by Sony. Sony may amend such Licensed Trademarks upon reasonable notice to Licensee. 1.6 "Licensee Software" means Licensee's application object code and data (including audio and video material) developed by Licensee in accordance with this Agreement, which, when linked to any software provided by Sony, create Executable Software. 1 1.7 "Packaging" means, with respect to each Licensed Product, the carton, containers, packaging and wrapping materials (but excluding instructional manuals, liners or other user information for such Licensed Product to be inserted in the jewel case). 1.8 "Sony Materials" means any data, object code, source code, documentation, and hardware provided or supplied to Licensee by Sony, including, without limitation, any portion or portions of the development tools. 2. LICENSE GRANT. Sony hereby grants to Licensee, and Licensee hereby accepts, for the term of this Agreement, within the Licensed Territory, under Sony's Intellectual Property Rights, including without limitation any relevant patents Sony may own or have acquired by license, a non-exclusive, nontransferable license, without the right to sublicense (except as specifically provided herein): (i) to use the object code version of any software supplied by Sony that is intended to be combined with Licensee Software and executed on a Player internally as may reasonably be necessary to develop Licensed Products; (ii) to reproduce and distribute executable files for execution on a Player incorporating such software in accordance with the provisions of this License Agreement, including without limitation, Section 7; (iii) to market, distribute and sell such Licensed Products; (iv) to use the Licensed Trademarks in connection with the packaging, advertising and promotion of the Licensed Products; and (v) to sublicense to end users the right to use the Licensed Products for non- commercial purposes only and not for public performance. 3. DEVELOPMENT TOOLS. After execution of this Agreement, Sony will provide to Licensee the hardware and software development tools which Sony deems to be necessary for development of the Executable Software pursuant to an agreement to be entered into separately between the parties hereto. 4. LIMITATIONS ON LICENSES; RESERVATION OF RIGHTS. 4.1 REVERSE ENGINEERING PROHIBITED. Licensee hereby agrees not to ------------------------------ disassemble, peel semiconductor components, decompile, or otherwise reverse engineer or attempt to reverse engineer or derive source code from, all or any portion of the Sony Materials (whether or not all or any portion of the Sony Materials are integrated with the Licensee Software), or permit or encourage any third party to do so, or use or acquire any materials from any third party who does so. Licensee shall not use, modify, reproduce, sublicense, distribute, create derivative works from, or otherwise provide to third parties, the Sony Materials, in whole or in part, other than as expressly permitted by this License Agreement. Licensee shall be required in all cases to pay royalties in accordance with Section 9 hereto to Sony on any of Licensee's products utilizing Sony Materials or which are in any way derived from the disassembly, decompilation, reverse engineering of, or use of source code derived from, the Sony Materials. 4.2 RESERVATION OF SONY'S RIGHTS. The licenses granted in this License ---------------------------- Agreement extend only to development of Licensed Products for use on the Player, in such format as may be designated by Sony. Without limiting the generality of the foregoing, Licensee shall not have the right to distribute or transmit the Executable Software or the Licensed Products via electronic means or any other means now known or hereafter devised, including without limitation, via wireless, cable, fiber optic means, telephone lines, microwave and/or radio waves, or over a network of interconnected computers or other devices; provided, however, that Licensee may distribute the Licensed Software in its discretion so long as it does not contain any Sony Materials or Licensed Trademarks. This License Agreement does not grant any right or license, under any Intellectual Property Rights of Sony or otherwise, except as expressly provided herein, and no other right or license is to be implied by or inferred from any provision of this License Agreement or the conduct of the parties hereunder. Licensee shall not make use of any of the Sony Materials and Player or any Intellectual 2 Property Rights related to the Sony Materials and Player (or any portion thereof) except as authorized by and in compliance with the provisions of this License Agreement or as may be otherwise expressly authorized in writing by Sony. No right, license or privilege has been granted to Licensee hereunder concerning the development of any collateral product or other use or purpose of any kind whatsoever which displays or depicts any of the Licensed Trademarks. 4.3 RESERVATION OF LICENSEE'S RIGHTS. Licensee retains all rights, title -------------------------------- and interest in and to the Licensee Software, including without limitation, Licensee's Intellectual Property Rights therein, and nothing in this Agreement shall be construed to restrict the right of Licensee to develop products incorporating the Licensee Software (separate and apart from the Sony Materials) for any hardware platform or service other than the Player. 5. QUALITY STANDARDS FOR THE LICENSED PRODUCTS. 5.1 QUALITY ASSURANCE OF PRODUCT PROPOSAL. The Licensed Products, ------------------------------------- including, without limitation, the contents and title of each of the Licensed Products, and/or Licensee's use of any of the Licensed Trademarks, shall be subject to Sony's prior written approval, which shall be within Sony's sole discretion as to acceptable standards of quality. Before Licensee commences programming of the Licensee Software for each of the Licensed Products, Licensee shall submit to Sony, for Sony's written approval or disapproval, which shall not be unreasonably withheld or delayed, a written proposal (the "Product Proposal") [*]. In the event that Sony rejects such Product Proposal, Sony shall have the right in its sole discretion to request Licensee to make revisions or modifications to such proposal, and any such changes shall be made at Licensee's cost. Licensee shall notify Sony promptly in writing in the event of any material proposed change in any portion of the Product Proposal and shall, from time to time at the request of Sony for quality assurance purposes, submit work-in-progress on the Licensed Product during the development process, in a medium designated by Sony, for Sony's approval. Sony agrees to be reasonable with respect to work-in-progress submissions. Sony shall have the right, from time-to-time with appropriate notice to Licensee, to limit the number of proposed Licensed Products that Licensee may submit to Sony for review and approval or disapproval, during any [*] period following the effective date of this Agreement. [*] Licensee agrees that all Licensed Products will be designed (if an original title for the Player) or modified (if a pre-existing title) to substantially utilize the particular capabilities of the Sony Materials and the Player, as may be described in the Product Proposal relating to that Licensed Product. 5.2 APPROVAL OF EXECUTABLE SOFTWARE. Following Sony's written approval of ------------------------------- the Product Proposal, Licensee shall on or before the date specified in the Product Proposal, deliver to Sony for its inspection and evaluation, a prototype of the Executable Software for the proposed Licensed Product. Such prototype shall be in the format prescribed by Sony. Sony will evaluate such prototype Executable Software and notify Licensee in writing of its approval or disapproval of such Executable Software, which shall not be unreasonably withheld or delayed. If such Executable Software is disapproved, Sony shall specify the reasons for such disapproval in writing and state what corrections and/or improvements are necessary. After making the necessary corrections and/or improvements, Licensee may submit a new prototype for approval or disapproval by Sony. No approval by Sony of any element of the Executable Software shall be deemed an approval of any other element of the Licensed Product, nor shall any such approval be deemed to constitute a waiver of any of Sony's rights under this Agreement. ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 3 5.3 APPROVAL OF PACKAGING AND ARTWORK. For each proposed Licensed --------------------------------- Product, Licensee shall be responsible, at Licensee's expense, for developing all artwork and mechanicals ("Artwork") set forth on the Packaging, and all instructional manuals, liners and other user materials ("Inserts") inserted into the jewel box (Artwork and Inserts herein collectively referred to as "Printed Materials"). All Printed Materials shall comply with the requirements of the Sony Guidelines (hereinafter "Guidelines") to be provided to Licensee subsequent to the execution of this License Agreement, and as may be amended from time to time by Sony. At the time prototype Executable Software for a proposed Licensed Product is submitted to Sony for inspection and evaluation, Licensee shall also deliver to Sony, for review and evaluation, the proposed final Printed Materials for such proposed Licensed Product, and a form of limited warranty for the proposed Licensed Product. Licensee agrees that the quality of such Printed Materials shall be of the same quality as that associated with high quality consumer products. Sony shall promptly evaluate any and all proposed Printed Materials submitted to Sony by Licensee, and shall use reasonable efforts to approve or disapprove any such submitted Printed Materials [*]. If any of the Printed Materials are disapproved, Sony shall specify the reasons for such disapproval and state what corrections are necessary. After making the necessary corrections to the disapproved Printed Materials, Licensee may submit new proposed Printed Materials for approval by Sony. Sony shall not unreasonably withhold its approval of the proposed Printed Materials submitted for review by Licensee. No approval by Sony of any element of the Printed Materials shall be deemed an approval of any other element of the Licensed Product, nor shall any such approval be deemed to constitute a waiver of any of Sony's rights under this Agreement. 5.4 ADVERTISING MATERIALS. Pre-production samples of the advertising, --------------------- merchandising, promotional, and display materials of or concerning the Licensed Products (collectively referred to hereinafter as the "Advertising Materials") shall be submitted by Licensee to Sony, free of cost, for Sony's evaluation and approval as to quality, style, appearance, usage of any of the Licensed Trademarks, and appropriate reference of the notices, prior to any actual production, use, or distribution of any such items by Licensee or in its behalf. No such proposed Advertising Materials shall be produced, used, or distributed directly or indirectly by Licensee without first obtaining the written approval of Sony. Sony shall promptly evaluate any and all Advertising Materials submitted to Sony by Licensee, and shall use reasonable efforts to approve or disapprove any such submitted Advertising Materials [*]. Subject in each instance to the prior written approval of Sony, Licensee may use such textual and/or pictorial advertising matter (if any) as may be created by Sony or in its behalf pertaining to the Sony Materials and/or to the Licensed Trademarks on such promotional and advertising materials as may, in Licensee's judgment, promote the sale of the Licensed Products within the Licensed Territory. Sony shall have the right to use the Licensed Products in any advertising or promotion for Player at Sony's expense, subject to giving Licensee reasonable prior notice of such advertisement or promotion. Sony shall confer with Licensee regarding the text of any such advertisement. If required by Sony and/or any governmental entity, Licensee shall include, at Licensee's cost and expense, the required consumer advisory rating code(s) on any and all marketing and advertising materials used in connection with the Licensed Product, which shall be procured in accordance with the provisions of Section 6 below. 6. LABELING REQUIREMENTS. All Printed Materials for each unit of the Licensed Products shall have conspicuously, legibly and irremovably affixed thereto the notices specified in a template to be provided to Licensee subsequent to the execution of this License Agreement, which template may be amended from time to time by Sony during the term of this License Agreement. Licensee agrees that, if required by Sony or any governmental entity, it shall submit each Licensed Product to a consumer advisory ratings system designated by Sony and/or such governmental entity for the purpose of obtaining rating code(s) for each Licensed Product. Any and all costs and expenses incurred in connection with obtaining such rating code(s) shall be borne solely by Licensee. Any required consumer advisory rating code(s) procured hereby shall be displayed on the Licensed Product and the associated Printed Materials in accordance with the Guidelines, at Licensee's cost and expense. ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 4 7. MANUFACTURE OF THE LICENSED PRODUCTS. 7.1 MANUFACTURE BY SONY. ------------------- 7.1.1 APPOINTMENT OF SONY AS EXCLUSIVE MANUFACTURER. Licensee --------------------------------------------- hereby appoints Sony, and Sony hereby accepts such appointment, as the exclusive manufacturer of all units of the Licensed Products. Licensee acknowledges and agrees that it shall purchase from Sony one hundred percent (100%) of its requirements for finished units of the Licensed Products and Inserts for such Licensed Products, subject to Section 7.1.3 below, during the term of the Agreement. Sony shall provide to Licensee written specifications setting forth terms relating to the manufacturing of Licensed Products and their component parts ("Specifications") subsequent to execution of this Agreement, which may be amended from time to time upon reasonable notice to Licensee. Sony shall have the right, but no obligation, to subcontract any phase of production of any or all of the Licensed Products or any part thereof. 7.1.2 CREATION OF MASTER CD-ROM. Following approval by Sony of ------------------------- each Licensed Product pursuant to Section 5.2, Licensee shall provide Sony with two (2) copies (in the form of CD write-once discs or such other form as may be requested by Sony in the Specifications) of the pre-production Executable Software for the original master CD-ROM (the "Master CD-ROM") from which all other copies of the Licensed Product are to be replicated. Promptly following such receipt of such samples, Sony shall create the Master CD-ROM from one (1) such sample of the pre-production Executable Software in compliance with specifications effective at the time of replication. The price for mastering shall be based on the market price for mastering CD-ROM discs, plus costs necessary to protect Sony's Intellectual Property Rights in the Sony Materials and the Player. Licensee shall be responsible for the costs, as set forth in the Specifications, of creating such Master CD-ROM. In order to insure against loss or damage to the copies of the Executable Software furnished to Sony, Licensee will retain duplicates of all such Executable Software. Sony shall not be liable for loss of or damage to any copies of the Executable Software. 7.1.3 DELIVERY OF PRINTED MATERIALS. Licensee shall deliver the ----------------------------- film for all Printed Materials to Sony or at Sony's option to Sony's designated manufacturing facility in accordance with the Specifications, at Licensee's sole risk and expense. In the event that Licensee elects to be responsible for manufacturing the Printed Materials, Licensee shall deliver such Printed Materials, in the minimum order quantities set forth in Section 7.2.2 below. 7.1.4 MANUFACTURE OF UNITS. Upon approval, pursuant to Section 5, -------------------- of such pre-production samples of the Executable Software for the Master CD-ROM and the associated Artwork, Sony will, in accordance with the terms and conditions set forth in this Section 7, and at Licensee's expense (a) manufacture units of the Licensed Product for Licensee; (b) manufacture Licensee's Packaging and Inserts (subject to Licensee's right to manufacture its own Printed Materials at Licensee's sole cost and expense); and (C) package the CD-ROMs with the Printed Materials. 7.2 PRICE, PAYMENT AND TERMS. ------------------------ 7.2.1 PRICE. The applicable price for manufacture of any units of ----- the Licensed Products ordered hereunder shall be determined by Sony and provided to Licensee in the Specifications prior to manufacture of the Licensed Products. Such price shall be based on [*] (subject to Section 7.1.4 above), [*] provided by Sony [*]. Purchase price(s) shall be stated in United States dollars and are subject to change by Sony at any time upon reasonable notice to Licensee; provided, however, the applicable price shall not be changed with respect to any units of the Licensed Products which are the subject of an effective purchase order but which have not yet been delivered by Sony at the designated F.O.B. point. Prices ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 5 for the finished units of the Licensed Products are exclusive of any foreign or U.S. federal, state, or local sales or value-added tax, use, excise, customs duties or other similar taxes or duties, which Sony may be required to collect or pay as a consequence of the sale or delivery of any units of the Licensed Products to Licensee. Licensee shall be solely responsible for the payment or reimbursement of any such taxes, fees, and other such charges or assessments applicable to the sale and/or purchase of any finished units of any of the Licensed Products. 7.2.2 ORDERS. Licensee shall issue to Sony written purchase ------ order(s) in accordance with the Specifications. Such orders shall reference this Agreement, give Licensee authorization number, specify quantities by Licensed Product, state requested delivery date and all packaging information and be submitted on or with an order form to be provided in the Specifications. Licensee acknowledges that Sony may impose lead times (a) with respect to initial orders, of [*] from the date on which Sony receives all materials necessary to complete the manufacturing of Licensed Products pursuant to this Section 7 and the Specifications referred to herein, and (b) with respect to reorders, [*] provided that Sony has in inventory additional Printed Materials in anticipation of reorders as set forth in this Section. All purchase orders shall be subject to acceptance by Sony. Licensee shall issue to Sony, for each of the Licensed Products approved by Sony pursuant to Section 5.1, a non- cancelable Purchase Order for at least [*] units of such Licensed Product. In the event that Sony manufactures the Printed Materials for the Licensee pursuant to Section 7.1.3 above, Licensee may, at Licensee's option, allow Sony to purchase an additional 20% of such Printed Materials at Licensee's expense in anticipation of reorders. Licensee agrees that such Printed Materials will be stored by Sony for a period of no more than ninety (90) days. Licensee may order additional units of any of such Licensed Products in the minimum reorder quantity of [*] units per order, provided that reorder quantities may be less than [*] units per order (but in no event less than [*] units per order), in Sony's sole discretion, in the event that either (i) Sony has additional quantities of Printed Materials in stock with respect to any such Licensed Product, or (ii) Licensee agrees to provide its own Printed Materials in accordance with Section 7.1.3 above. Licensee shall have no right to cancel or reschedule any Purchase Order (or any portion thereof) for any of the Licensed Products unless the parties shall first have reached mutual agreement as to Licensee's financial liability with respect to any desired cancellation or rescheduling of any such Purchase Order (or any portion thereof). 7.2.3 PAYMENT TERMS. Orders will be invoiced upon shipment, and ------------- will include royalties payable pursuant to Section 9 hereto. Each invoice will be paid within [*] days of the date of the invoice. No other deduction may be made from remittances unless an approved credit memo has been issued by Sony. No claim for credit due to shortage or breakage will be allowed unless it is made within seven (7) days from the date of shipment. Each shipment of Licensed Products to Licensee shall constitute a separate sale obligating Licensee to pay therefore, whether said shipment be whole or partial fulfillment of any order. All sums owed or otherwise payable to Sony under this Section 7 and under Section 9 hereto shall bear interest at the rate of one and one-half (1-1/2%) percent per month, or such lower rate as may be the maximum rate permitted under applicable law, from the date upon which payment of the same shall first become due up to and including the date of payment thereof whether before or after judgment. Licensee shall be additionally liable for all of Sony's costs and expenses of collection, including, without limitation, reasonable fees for attorneys and court costs. Notwithstanding the foregoing, such specified rate of interest shall not excuse or be construed as a waiver of Licensee's obligation to timely provide any and all payments owed to Sony hereunder. 7.3 DELIVERY OF LICENSED PRODUCTS. Sony shall have no obligation to store ----------------------------- completed units of Licensed Products. Delivery of Licensed Products shall be in accordance with the Specifications. Title, risk of loss, or damage in transit to any and all Licensed Products manufactured by Sony pursuant to Licensee's orders shall vest in Licensee immediately upon delivery to the carrier. ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 6 7.4 TECHNOLOGY EXCHANGE AND QUALITY ASSURANCE. There will be no ----------------------------------------- technology exchange between Sony and Licensee under this Agreement. Due to the proprietary nature of the mastering process, Sony will not under any circumstances release any master discs or other in-process materials to the Licensee. All such physical master discs, stampers, etc. shall be and remain the sole property of Sony. 7.5 INSPECTION AND ACCEPTANCE. Licensee may inspect and test any units of ------------------------- the Licensed Products at Licensee's receiving destination. Any finished units of the Licensed Products which fail to conform to the Specifications and/or any descriptions contained in this Agreement may be rejected by Licensee by providing written notice thereof to Sony within thirty (30) days of receipt of such units of the Licensed Products at Licensee's receiving destination. In such event, the provisions of Section 11.4 regarding Sony's warranty of the units shall apply with respect to any such rejected units of the Licensed Products. Subject to the provisions of Section 11.4.1 hereto, if Licensee fails to properly reject any units of the Licensed Products within such thirty (30) day period, such Licensed Product units shall be deemed accepted by Licensee and may not be subsequently rejected. 8. MARKETING AND DISTRIBUTION. In accordance with the provisions of this License Agreement, Licensee shall, at no expense to Sony, diligently market, sell and distribute the Licensed Products, and shall use its reasonable best efforts to stimulate demand for such Licensed Products in the Licensed Territory and to supply any resulting demand. Licensee shall use its reasonable best efforts to protect the Licensed Products from and against illegal reproduction and/or copying by end users or by any other persons or entities. Such methods of protection may include, without limitation, markings or insignia providing identification of authenticity and packaging seals. Subject to availability, Licensee shall sell to Sony quantities of the Licensed Products at as low a price and on terms as favorable as Licensee sells similar quantities of the Licensed Products to the general trade; provided, however, Sony shall not directly or indirectly resell any such units of the Licensed Products within the Licensed Territory without Licensee's prior written consent. 9. ROYALTIES. Licensee shall pay Sony a per unit royalty in United States dollars, as set forth on Exhibit B hereto, for each unit of the Licensed Products manufactured. Payment of such royalties shall be made to Sony in conjunction with the payment to Sony of the manufacturing costs for each unit and pursuant to the payment terms of Section 7.2.3 hereto. No costs incurred in the development, manufacture, marketing, sale, and/or distribution of the Licensed Products shall be deducted from any royalties payable to Sony hereunder. [*] Similarly, there shall be no deduction from the royalties otherwise owed to Sony hereunder as a result of any uncollectible accounts owed to Licensee, or for any credits, discounts, allowances or returns which Licensee may credit or otherwise grant to any third party customer of any units of the Licensed Products, or for any taxes, fees, assessments, or expenses of any kind which may be incurred by Licensee in connection with its sale and/or distribution of any units of the Licensed Products and/or arising with respect to the payment of royalties hereunder. In addition to the royalty payments provided to Sony hereunder, Licensee shall be solely responsible for and bear any cost relating to any withholding taxes and/or other such assessments which may ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 7 provide Sony with official tax receipts or other such documentary evidence issued by the applicable tax authorities sufficient to substantiate that any such taxes and/or assessments have in fact been paid. 10. REPRESENTATIONS AND WARRANTIES. 10.1 REPRESENTATIONS AND WARRANTIES OF SONY. Sony represents and warrants -------------------------------------- solely for the benefit of Licensee that Sony has the right, power and authority to enter into this License Agreement and to fully perform its obligations hereunder. 10.2 REPRESENTATIONS AND WARRANTIES OF LICENSEE. Licensee represents and ------------------------------------------ warrants that: (i) there is no threatened or pending action, suit, claim or proceeding alleging that the use by Licensee of all or any part of the Licensee Software or any underlying work or content embodied therein, or any name, designation or trademark used in conjunction with the Licensed Products infringes or otherwise violates any Intellectual Property Right or other right or interest of any kind whatsoever of any third party, or otherwise contesting any right, title or interest of Licensee in or to the Licensee Software or any underlying work or content embodied therein, or any name, designation or trademark used in conjunction with the Licensed Products; (ii) Licensee has the right, power and authority to enter into this License Agreement and to fully perform its obligations hereunder; (iii) the making of this License Agreement by Licensee does not violate any separate agreement, rights or obligations existing between Licensee and any other person or entity, and, throughout the term of this License Agreement, Licensee shall not make any separate agreement with any person or entity that is inconsistent with any of the provisions of this License Agreement; (iv) Licensee shall not make any representation or give any warranty to any person or entity expressly or impliedly on Sony's behalf, or to the effect that the Licensed Products are connected in any way with Sony (other than that the Licensed Products have been developed, marketed, manufactured, sold, and/or distributed under license from Sony), (v) the Executable Software shall be distributed by Licensee solely in object code form; (vi) each of the Licensed Products shall be marketed, sold, and distributed in an ethical manner and in accordance with all applicable laws and regulations; and (vii) Licensee's policies and practices with respect to the marketing, sale, and/or distribution of the Licensed Products shall in no manner reflect adversely upon the name, reputation or goodwill of Sony. 11. INDEMNITIES; LIMITED LIABILITY. ------------------------------ 11.1 INDEMNIFICATION BY SONY. Sony shall indemnify and hold Licensee ----------------------- harmless from and against any and all claims, losses, liabilities, damages, expenses and costs, including, without limitation, reasonable fees for attorneys, expert witnesses and litigation costs, and including costs incurred in the settlement or avoidance of any such claim which result from or are in connection with a breach of any of the representations or warranties provided by Sony herein; provided, however, that Licensee shall give prompt written notice to Sony of the assertion of any such claim, and provided, further, that Sony shall have the right to select counsel and control the defense and/or settlement thereof, subject to the right of Licensee to participate in any such action or proceeding at its own expense with counsel of its own choosing. Sony shall have the exclusive right, at its discretion, to commence and prosecute at its own expense any lawsuit or to take such other action with respect to such matters as shall be deemed appropriate by Sony. Licensee agrees to provide Sony, at no expense to Licensee, reasonable assistance and cooperation concerning any such matter; and Licensee shall not agree to the settlement of any such claim, action or proceeding without Sony's prior written consent. 11.2 INDEMNIFICATION BY LICENSEE. Licensee shall indemnify and hold Sony --------------------------- harmless from and against any and all claims, losses, liabilities, damages, expenses and costs, including, without limitation, reasonable fees for attorneys, expert witnesses and litigation costs, and including costs incurred in the settlement or avoidance of any such claim, which result from or are in connection with (i) a breach of any of the representations or warranties provided by Licensee herein, including without limitation claims resulting from Licensee's failure to timely pay, any withholding taxes or other assessments as set forth in Section 9 8 hereto or any breach of Licensee's confidentiality obligations as set forth in Section 14 hereto; or (ii) any claim of infringement or alleged infringement of any third party's Intellectual Property Rights with respect to the Licensee Software; or (iii) any claims of or in connection with any bodily injury (including death) or property damage, by whomsoever such claim is made, arising out of, in whole or in part, the sale, and/or use of any of the Licensed Products manufactured by Sony hereunder, unless due to the negligence of Sony in performing any of the specific duties and/or providing any of the specific manufacturing services required of it hereunder; provided, however, that Sony shall give prompt written notice to Licensee of the assertion of any such claim, and provided, further, that Licensee shall have the right to select counsel and control the defense and/or settlement thereof, subject to the right of Sony to participate in any such action or proceeding at its own expense with counsel of its own choosing. Licensee shall have the exclusive right, at its discretion, to commence and/or prosecute at its own expense any lawsuit or to take such other action with respect to such matter as shall be deemed appropriate by Licensee. Sony shall provide Licensee, at no expense to Sony, reasonable assistance and cooperation concerning any such matter. If Sony is joined as a party to any lawsuit initiated by or against Licensee, Licensee shall indemnify and hold Sony harmless from and against all claims, losses, liabilities, damages, expenses and costs, including, without limitation, reasonable fees for attorneys and court costs, incurred in connection with any such lawsuit. Sony shall not agree to the settlement of any such claim, action or proceeding without Licensee's prior written consent. 11.3 LIMITATION OF LIABILITY; LICENSEE'S OBLIGATIONS. ----------------------------------------------- 11.3.1 LIMITATION OF SONY'S LIABILITY. IN NO EVENT SHALL SONY OR ------------------------------ ITS AFFILIATES, SUPPLIERS OFFICERS, DIRECTORS, EMPLOYEES OR AGENTS BE LIABLE FOR PROSPECTIVE PROFITS, OR ANY SPECIAL, INCIDENTAL OR CONSEQUENTIAL DAMAGES ARISING OUT OF OR IN CONNECTION WITH THIS AGREEMENT, INCLUDING WITHOUT LIMITATION THE BREACH OF THIS AGREEMENT BY SONY, THE MANUFACTURE OF THE LICENSED PRODUCTS AND THE USE OF THE LICENSED PRODUCTS BY LICENSEE OR ANY END-USER, WHETHER UNDER THEORY OF CONTRACT, TORT (INCLUDING NEGLIGENCE), INDEMNITY, PRODUCT LIABILITY OR OTHERWISE. IT IS THE RESPONSIBILITY OF LICENSEE TO REVIEW THE ACCURACY OF THE DATA ON THE UNITS MANUFACTURED BY SONY FOR LICENSEE. IN NO EVENT SHALL SONY'S LIABILITY ARISING UNDER OR IN CONNECTION WITH THIS AGREEMENT, INCLUDING WITHOUT LIMITATION ANY LIABILITY FOR DIRECT DAMAGES, AND INCLUDING WITHOUT LIMITATION ANY LIABILITY UNDER SECTION 11.1 AND ANY WARRANTY IN SECTION 11.4 HERETO, EXCEED THE TOTAL AMOUNT PAID BY LICENSEE TO SONY UNDER THIS AGREEMENT. EXCEPT AS EXPRESSLY SET FORTH HEREIN, NEITHER SONY, NOR ANY AFFILIATE, NOR ANY OF THEIR RESPECTIVE DIRECTORS, OFFICERS, EMPLOYEES OR AGENTS, SHALL BEAR ANY RISK, OR HAVE ANY RESPONSIBILITY OR LIABILITY, OF ANY KIND TO LICENSEE OR TO ANY THIRD PARTIES WITH RESPECT TO THE QUALITY AND/OR PERFORMANCE OF ANY PORTION OF THE SONY MATERIALS OR THE LICENSED PRODUCTS, INCLUDING, WITHOUT LIMITATION, THE OPERATION OR PERFORMANCE OF ANY OF THE LICENSED PRODUCTS. 11.3.2 LIMITATION OF LICENSEE'S LIABILITY. IN NO EVENT SHALL ---------------------------------- LICENSEE BE LIABLE TO SONY FOR ANY PROSPECTIVE PROFITS, OR SPECIAL, INCIDENTAL OR CONSEQUENTIAL DAMAGES ARISING OUT OF OR IN CONNECTION WITH (i) THIS AGREEMENT OR (ii) THE USE OR DISTRIBUTION IN ACCORDANCE WITH THE TERMS AND CONDITIONS OF THIS AGREEMENT OF ANY OBJECT CODE PROVIDED BY SONY, IN WHOLE OR IN PART, OR ANY LICENSEE SOFTWARE BY LICENSEE OR ANY THIRD PARTY, WHETHER UNDER THEORY OF CONTRACT, TORT (INCLUDING NEGLIGENCE), INDEMNITY, PRODUCT LIABILITY OR OTHERWISE, PROVIDED THAT LICENSEE EXPRESSLY AGREES THAT SUCH LIMITATIONS SHALL NOT APPLY TO DAMAGES RESULTING FROM LICENSEE'S BREACH OF SECTIONS 2, 4, 11.2, 12.2 OR 14 OF THIS AGREEMENT, AND PROVIDED FURTHER THAT SUCH LIMITATIONS SHALL NOT APPLY TO AMOUNTS WHICH LICENSEE MAY BE REQUIRED TO PAY TO THIRD PARTIES UNDER SECTIONS 11.2 OR 17.9. 9 11.3.3 LICENSEE'S OBLIGATIONS. If at any time or times subsequent ---------------------- to the approval of the Executable Software pursuant to Section 5.2, Sony identifies any material bugs with respect to the Licensed Product or any bugs are brought to the attention of Sony, Licensee shall, at no cost to Sony, promptly correct any such bugs, to Sony's reasonable satisfaction. In the event any units of any of the Licensed Products create any risk of loss or damage to any property or injury to any person, Licensee shall immediately take effective steps, at Licensee's sole liability and expense, to recall and/or to remove such defective product units from any affected channels of distribution. Licensee shall provide all end-user support for the Licensed Products. 11.4 WARRANTIES; DISCLAIMER OF WARRANTIES. ------------------------------------ 11.4.1 MANUFACTURING WARRANTY. Sony warrants that the units that are manufactured by Sony for Licensee pursuant to Section 7 of this Agreement shall, at time of delivery to Licensee, be [*]. The sole obligation of Sony under this warranty shall be, for a period of [*] the date of shipment of such discs by Sony to Licensee, at Sony's election, either to replace, to issue credit, or to refund to Licensee the purchase price paid to Sony for any such [*]. Such warranty is the only warranty applicable to the Licensed Product manufactured by Sony for Licensee pursuant to Section 7 of this Agreement. This warranty shall not apply to damage resulting from accident, alteration, negligence or misuse of the Licensed Products. If, during the aforesaid period, a [*] is received by Licensee, Licensee shall notify Sony and, upon request by Sony, provide Sony with the returned disc(s) and a written description of the [*]. Sony shall not accept the return of any disc(s) except [*] (i.e., those discs that are not [*], and all such returns must be authorized by Sony in writing and in advance. All discs for which return is authorized will be sent to a place designated by Sony at Sony's expense. If the defect did not arise from causes placing liability on Sony under the above warranty, Licensee shall reimburse Sony for expenses incurred in shipping, processing and analyzing the discs. Sony's judgment as to the [*] shall be final and binding. 11.4.2 DISCLAIMER OF WARRANTY. EXCEPT AS OTHERWISE EXPRESSLY SET ---------------------- FORTH ABOVE, NEITHER SONY NOR ITS AFFILIATES AND SUPPLIERS MAKE, NOR DOES LICENSEE RECEIVE, ANY WARRANTIES, EXPRESS, IMPLIED OR STATUTORY REGARDING THE SONY MATERIALS AND THE PLAYER AND/OR THE UNITS OF THE LICENSED PRODUCTS MANUFACTURED HEREUNDER. SONY SHALL NOT BE LIABLE FOR ANY INJURY, LOSS OR DAMAGE, DIRECT OR CONSEQUENTIAL, ARISING OUT OF THE USE OR INABILITY TO USE THE UNITS. WITHOUT LIMITING THE GENERALITY OF THE FOREGOING, SONY AND ITS AFFILIATES AND SUPPLIERS EXPRESSLY DISCLAIM THE IMPLIED WARRANTIES OF MERCHANTABILITY AND FITNESS FOR A PARTICULAR PURPOSE AND THEIR EQUIVALENTS UNDER THE LAWS OF ANY JURISDICTION, REGARDING THE SONY MATERIALS AND THE PLAYER AND/OR THE UNITS MANUFACTURED HEREUNDER. ANY WARRANTY AGAINST INFRINGEMENT THAT MAY BE PROVIDED IN SECTION 2-312(3) OF THE UNIFORM COMMERCIAL CODE AND/OR IN ANY OTHER COMPARABLE STATUTE IS EXPRESSLY DISCLAIMED. 12. COPYRIGHT, TRADEMARK AND TRADE SECRET RIGHTS. 12.1 LICENSEE RIGHTS. The copyrights with respect to the Licensee --------------- Software (exclusive of the rights licensed from Sony hereunder) and any names or other designations used as titles for the Licensed Products are and shall be the exclusive property of Licensee or of any third party from which Licensee has been granted the license and related rights to develop and otherwise exploit any such Licensee Software or any such names or other designations. ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 10 12.2 SONY RIGHTS. ----------- 12.2.1 LICENSED TRADEMARKS. The Licensed Trademarks and the ------------------- goodwill associated therewith are and shall be the exclusive property of Sony. Nothing herein shall give Licensee any right, title or interest in or to any of the Licensed Trademarks, other than the non-exclusive license and privilege during the term hereof to display and use the Licensed Trademarks solely in accordance with the provisions of this License Agreement. Licensee shall not do or cause to be done any act or thing contesting or in any way impairing or tending to impair any of Sony's rights, title, or interests in or to any of the Licensed Trademarks, nor shall Licensee register any trademark in its own name or in the name of any other person or entity which is similar to or is likely to be confused with any of the Licensed Trademarks. 12.2.2 LICENSE OF SONY MATERIALS AND PLAYER. Subject to the rights ------------------------------------ granted by Sony to Licensee hereunder, all rights with respect to the Sony Materials and Player, including, without limitation, all of Sony's Intellectual Property Rights therein, are and shall be the exclusive property of Sony. Nothing herein shall give Licensee any right, title or interest in or to the Sony Materials or the Player (or any portion thereof), other than the non- exclusive license and privilege during the term hereof to use the Sony Materials and Player for the development of the Executable Software solely in accordance with the provisions of this License Agreement. Licensee shall not do or cause to be done any act or thing contesting or in any way impairing or tending to impair any of Sony's rights, title, and/or interests in or to the Sony Materials or the Player (or any portion thereof). 12.3 EFFECT OF TERMINATION. Upon the expiration or earlier termination of --------------------- this License Agreement for any reason, Licensee shall immediately cease and desist from any further use of the Licensed Trademarks and Sony Materials licensed hereunder, subject to the provisions of Section 16.3, below. 13. COPYRIGHT, TRADEMARK AND TRADE SECRET PROTECTION. In the event that either Licensee or Sony discovers or otherwise becomes aware that any of the Intellectual Property Rights of the other embodied in any of the Licensed Products have been or are being infringed upon by any third party, then the party with knowledge of such infringement or apparent infringement shall promptly notify the other party. 14. CONFIDENTIALITY. 14.1 NONDISCLOSURE AGREEMENT. Licensee hereby acknowledges that the ----------------------- Nondisclosure Agreement dated December 14, 1993 between Sony and Licensee ("Nondisclosure Agreement") will remain in full force and effect with respect to the Confidential Information of Sony throughout the term of this Agreement. In the event of any conflict or inconsistency between the provisions of the Nondisclosure Agreement and the provisions of this Section 14, the provisions of the Nondisclosure Agreement shall control with respect to the Confidential Information of Sony. 14.2 CONFIDENTIAL INFORMATION. For the purposes of this License Agreement, ------------------------ "Confidential Information" of Sony means (i) the Sony Materials and information regarding Sony's finances, business, marketing and technical plans, (ii) all documentation and information relating to the foregoing (other than documentation and information expressly intended for use by and released to end users or the general public), and (iii) any and all other information, of whatever type and in whatever medium (including without limitation all data, ideas, discoveries, developments, know-how, trade secrets, inventions, creations and improvements), that is disclosed in writing or in any other form by Sony to Licensee. "Confidential Information" of Licensee shall mean the Licensee Software as provided to Sony pursuant to this License Agreement and all documentation and information relating thereto that is disclosed in writing or in any other form by Licensee to Sony if the information is designated as (or is provided under circumstances indicating the information is) confidential or proprietary. 11 14.3 PRESERVATION OF CONFIDENTIALITY; NON-DISCLOSURE. Each party ----------------------------------------------- ("receiving party") shall hold all Confidential Information of the other party ("disclosing party") in trust and in strict confidence for the sole benefit of the disclosing party and for the exercise of the limited rights expressly granted to the receiving party under this License Agreement. The receiving party shall take all steps necessary to preserve the confidentiality of the Confidential Information of the disclosing party, and to prevent it from falling into the public domain or into the possession of persons other than those persons to whom disclosure is authorized hereunder, including but not limited to those steps that the receiving party takes to protect the confidentiality of its own most highly confidential information. Except as may be expressly authorized by the disclosing party in writing, the receiving party shall not at any time, either before or after any termination of this License Agreement, directly or indirectly: (i) disclose any Confidential Information to any person other than an employee or subcontractor of the receiving party who needs to know or have access to such Confidential Information for the purposes of this License Agreement, and only to the extent necessary for such purposes (and with respect to any subcontractor, only in accordance with Section 17.5 below); (ii) except as otherwise provided in this License Agreement, duplicate the Confidential Information for any purpose whatsoever; (iii) use the Confidential Information for any reason or purpose other than as expressly permitted in this License Agreement; or (iv) remove any copyright notice, trademark notice and/or other proprietary legend set forth on or contained within any of the Confidential Information. 14.4 OBLIGATIONS UPON UNAUTHORIZED DISCLOSURE. ---------------------------------------- 14.4.1 NOTICE TO DISCLOSING PARTY. If at any time the receiving -------------------------- party becomes aware of any unauthorized duplication, access, use, possession or knowledge of any Confidential Information, the receiving party shall immediately notify the disclosing party. The receiving party shall provide any and all reasonable assistance to the disclosing party to protect the disclosing party's proprietary rights in any Confidential Information that the receiving party or its employees or permitted subcontractors may have directly or indirectly disclosed or made available and that may be duplicated, accessed, used, possessed or known in a manner or for a purpose not expressly authorized by this License Agreement including but not limited to enforcement of confidentiality agreements, commencement and prosecution in good faith (alone or with the disclosing party) of legal action, and reimbursement for all reasonable attorneys' fees (and all related costs), costs and expenses incurred by the disclosing party to protect its proprietary rights in the Confidential Information. The receiving party shall take all reasonable steps requested by the disclosing party to prevent the recurrence of any unauthorized duplication, access, use, possession or knowledge of the Confidential Information. 14.4.2 ACCOUNTING, ETC. If Licensee violates or fails to comply --------------- with any of the terms or conditions of this Section 14 or Section 4 hereto, Sony shall be entitled to an accounting and repayment of all forms of compensation, commissions, remuneration or benefits which Licensee directly or indirectly realizes as a result of or in connection with any such violation or failure to comply. Such remedy shall be in addition to and not in limitation of any injunctive relief or other remedies to which Sony may be entitled under this Agreement or otherwise, at law or in equity. 14.5 EXCEPTIONS. The foregoing restrictions will not apply to information ---------- to the extent that the receiving party can demonstrate such information: (i) was known to the receiving party at the time of disclosure to the receiving party by the disclosing party as shown by the files of the receiving party in existence at the time of disclosure; (ii) becomes part of information in the public domain through no fault of the receiving party; (iii) has been rightfully received from a third party authorized by the disclosing party to make such disclosure without restriction; (iv) has been approved for release by prior written authorization of the disclosing party; or (v) has been disclosed by court order or as otherwise required by law (including without limitation to the extent that disclosure may be required under Federal or state securities laws), provided that the receiving party has notified the disclosing party immediately upon learning of the possibility of any such court order or legal requirement and has given the disclosing party a reasonable opportunity (and cooperated with the disclosing party) to contest or limit the scope of such required disclosure (including application for a protective order). Information shall not be deemed known to the receiving party or publicly 12 known for purposes of the above exceptions (A) merely because it is embraced by more general information in the prior possession of the receiving party or others, or (B) merely because it is expressed in public material in general terms not specifically the same as Confidential Information. 14.6 CONFIDENTIALITY OF AGREEMENT. The terms and conditions of this ---------------------------- License Agreement shall be treated as Confidential Information; provided that each party may disclose the terms and conditions of this License Agreement: (i) to legal counsel; (ii) in confidence, to accountants, banks and financing sources and their advisors; and (iii) in confidence, in connection with the enforcement of this License Agreement or rights under this License Agreement. Both parties shall treat the fact that the parties have entered into this License Agreement as Confidential Information until a public announcement regarding this License Agreement is released by Sony, at its sole discretion, announcing that Licensee has become a Licensee under this License Agreement. 15. TERM AND TERMINATION. 15.1 EFFECTIVE DATE; TERM. This License Agreement shall not be binding -------------------- upon the parties until it has been signed by or on behalf of each party, in which event it shall be effective as of the date first written above (the "Effective Date"). Unless sooner terminated in accordance with the provisions hereof, the initial term of this License Agreement shall be for four (4) years from the Effective Date. 15.2 TERMINATION BY SONY. Sony shall have the right to terminate this ------------------- License Agreement immediately, by providing written notice of such election to Licensee, upon the occurrence of any of the following events or circumstances: (i) If Licensee breaches any of its material obligations provided for in this License Agreement, including, but not limited to, a failure to pay any amount due hereunder, and such breach is not corrected or cured within thirty (30) days after receipt of written notice of such breach; (ii) Licensee's statement that it is unable to pay any amount due hereunder, or is unable to pay its debts generally as they shall become due; or (iii) Licensee's filing of an application for, or consenting to, or directing the appointment of, or the taking of possession by, a receiver, custodian, trustee or liquidator of all or substantially all of Licensee's property, whether tangible or intangible, wherever located; or (iv) The making by Licensee of a general assignment for the benefit of creditors; or (v) The commencing by Licensee or Licensee's intention to commence a voluntary case under any applicable bankruptcy laws (as now or hereafter may be in effect); or (vi) The adjudication that Licensee is a bankrupt or insolvent; or (vii) The filing by Licensee or the intent to file by Licensee of a petition seeking to take advantage of any other law providing for the relief of debtors; or (viii) Licensee's acquiescence to, intention to acquiesce to, or failure to have dismissed within ninety (90) days, any petition filed against it in any involuntary case under any such bankruptcy law; or (ix) If control of more than [*] of the ownership of Licensee or substantially all of Licensee's assets are transferred to any person or entity [*]; or (x) if, directly or indirectly, control of more than twenty-five percent (25%) of the ownership of Licensee or substantially all of Licensee's assets are transferred to [*] or any other dedicated platform holder, known or unknown. 15.3 PRODUCT-BY-PRODUCT TERMINATION BY SONY. In addition to the events of -------------------------------------- termination described in Section 15.2, above, Sony, at its option, shall be entitled to terminate, on a product-by-product basis, the licenses and related rights herein granted to Licensee (a) in the event that Licensee fails to notify Sony promptly in writing of any material change to any of the elements approved in Section 5.1, above; (b) if Licensee fails to provide Sony in accordance with the provisions of Section 5.2, above, with the prototype Executable Software for any Licensed Product, in the format required by Sony, and which meets Sony's specifications; provided, however, Sony shall not be entitled to exercise such right of termination if Licensee's ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. 13 failure to provide such final Executable Software for any of the Licensed Products is directly caused by Sony's failure to timely comply with any of its material obligations expressly set forth herein. 15.4 NO REFUNDS. In the event of the termination of this License Agreement ---------- in accordance with any of the provisions of Sections 15.2 or 15.3, above, no portion of any payments of any kind whatsoever previously provided to Sony hereunder shall be owed or be repayable to Licensee. 16. EFFECT OF EXPIRATION OR TERMINATION. 16.1 INVENTORY STATEMENT. Within thirty (30) days of the date of ------------------- expiration or the effective date of termination with respect to any or all Licensed Products, Licensee shall provide Sony with an itemized statement, certified to be accurate by an officer of Licensee, specifying the number of unsold units of the Licensed Products as to which such termination applies, on a title-by-title basis, which remain in its inventory and/or under its control at the time of expiration or the effective date of termination. Sony shall be entitled to conduct a physical inspection of Licensee's inventory and work in process during normal business hours in order to ascertain or verify such inventory and/or statement. 16.2 REVERSION OF RIGHTS. If this License Agreement is terminated by Sony ------------------- as a result of any breach or default by Licensee, the licenses and related rights herein granted to Licensee shall immediately revert to Sony, and Licensee shall cease and desist from any further use of the Sony Materials and any Intellectual Property Rights related to the Sony Materials, and, subject to the provisions of Section 16.3, below, Licensee shall have no further right to continue the development, marketing, sale, and/or distribution of any units of the Licensed Products, provided, however, that Licensee may distribute the Licensee Software in its discretion so long as it does not contain any Sony Materials or Licensed Trademarks, nor to continue to use the Licensed Trademarks. 16.3 DISPOSAL OF UNSOLD UNITS. Provided this License Agreement is not ------------------------ terminated due to a breach or default by Licensee, Licensee may, upon expiration or termination of this License Agreement, sell off existing inventories of Licensed Products, on a non-exclusive basis, for a period of ninety (90) days from the date of expiration or termination of this License Agreement, and provided such inventories have not been manufactured solely or principally for sale during such period. Subsequent to the expiration of such ninety (90) day period, or in the event this License Agreement is terminated as a result of any breach or default by Licensee, any and all units of the Licensed Products remaining in Licensee's inventory shall be destroyed by Licensee within five (5) working days of such expiration or termination. Within five (5) working days after such destruction, Licensee shall provide Sony with an itemized statement, certified to be accurate by an officer of Licensee, indicating the number of units of the Licensed Products which have been destroyed (on a title-by-title basis), the location and date of such destruction, and the disposition of the remains of such destroyed materials. 16.4 RETURN OF CONFIDENTIAL INFORMATION. Upon the expiration or earlier ---------------------------------- termination of this License Agreement, Licensee and Sony shall immediately deliver to the other party, as the disclosing party all Confidential Information of the other party, including any and all copies thereof, which the other party previously furnished to it in furtherance of this License Agreement, including, without limitation, any such information, knowledge, or know-how of which either party, as the receiving party, was apprised and which was reduced to tangible or written form by such party or in its behalf at any time during the term of this License Agreement. 16.5 RENEWAL OR EXTENSION OF LICENSE AGREEMENT. Sony shall be under no ----------------------------------------- obligation to renew or extend this License Agreement notwithstanding any actions taken by either of the parties prior to the expiration of this License Agreement. Upon the expiration of this License Agreement neither party shall be liable to the other for any damages (whether direct, consequential, or incidental, and including, without limitation, any expenditures, loss of profits, or prospective profits) sustained or arising out of or alleged to have 14 been sustained or to have arisen out of such expiration. However, the expiration of this License Agreement shall not excuse either party from its previous breach of any of the provisions of this License Agreement or from any obligations surviving the expiration of this License Agreement, and full legal and equitable remedies shall remain available for any breach or threatened breach of this License Agreement or any obligations arising therefrom. 16.6 TERMINATION WITHOUT PREJUDICE. The expiration or termination of this ----------------------------- License Agreement in accordance with the provisions of Section 15, above, shall be without prejudice to any rights or remedies which one party may otherwise have against the other party. 17. MISCELLANEOUS PROVISIONS. 17.1 NOTICES. All notices or other communications required or desired to ------- be sent to either of the parties shall be in writing and shall be sent by registered or certified mail, postage prepaid, return receipt requested, or sent by recognized international courier service (e.g., Federal Express, DHL, etc.), telex, telegram or facsimile, with charges prepaid and subject to confirmation by letter sent via registered or certified mail, postage prepaid, return receipt requested. The address for all notices or other communications required to be sent to Sony or Licensee, respectively, shall be the mailing address stated in the preamble hereof, or such other address as may be provided by written notice from one party to the other on at least ten (10) days' prior written notice. Any such notice shall be effective upon the date of receipt. 17.2 FORCE MAJEURE. Neither Sony nor Licensee shall be liable for any loss ------------- or damage or be deemed to be in breach of this License Agreement if its failure to perform or failure to cure any of its obligations under this License Agreement results from any event or circumstance beyond its reasonable control, including, without limitation, any natural disaster, fire, flood, earthquake, or other Act of God; shortage of equipment, materials, supplies, or transportation facilities; strike or other industrial dispute; war or rebellion; or compliance with any law, regulation, or order (whether valid or invalid) of any governmental body, other than an order, requirement, or instruction arising out of Licensee's violation of any applicable law or regulation; provided, however, that the party interfered with gives the other party written notice thereof promptly, and, in any event, within fifteen (15) working days of discovery of any such Force Majeure condition. If notice of the existence of any Force Majeure condition is provided within such period, the time for performance or cure shall be extended for a period equal to the duration of the Force Majeure event or circumstance described in such notice, except that any such cause shall not excuse the payment of any sums owed to Sony prior to, during, or after any such Force Majeure condition. 17.3 NO PARTNERSHIP OR JOINT VENTURE. The relationship between Sony and ------------------------------- Licensee, respectively, is that of licensor and licensee. Licensee is an independent contractor and is not the legal representative, agent, joint venturer, partner, or employee of Sony for any purpose whatsoever. Neither party has any right or authority to assume or create any obligations of any kind or to make any representation or warranty on behalf of the other party, whether express or implied, or to bind the other party in any respect whatsoever. 17.4 ASSIGNMENT. Sony has entered into this License Agreement based upon ---------- the particular reputation, capabilities and experience of Licensee and its officers, directors and employees. Accordingly, Licensee may not assign this License Agreement or any of its rights hereunder, nor delegate or otherwise transfer any of its obligations hereunder, to any third party unless the prior written consent of Sony shall first be obtained. Any attempted or purported assignment, delegation or other such transfer without the required consent of Sony shall be void and a material breach of this License Agreement. Subject to the foregoing, this License Agreement shall inure to the benefit of the parties and their respective successors and permitted assigns. Sony shall have the right to assign any and all of its rights and obligations hereunder to any affiliate(s), including, without limitation, its obligations under Section 7 hereof. 15 17.5 SUBCONTRACTORS. Licensee shall not sell, assign, delegate, -------------- subcontract, sublicense or otherwise transfer or encumber all or any portion of the licenses herein granted. Licensee shall have the right to employ suitable subcontractors for the purposes of assisting Licensee with the development of the Licensed Products, provided that Licensee must obtain the prior written consent of Sony. Licensee shall not disclose to any subcontractor any Confidential Information of Sony (as defined herein and in the Nondisclosure Agreement), including, without limitation, any Sony Materials, unless and until Licensee shall have such subcontractor sign a written agreement containing substantially identical terms to the Nondisclosure Agreement and the confidentiality provisions of this Agreement and shall submit a copy of such agreement to Sony. Any and all agreements between Licensee and its permitted subcontractors shall provide that Sony is a third party beneficiary of such agreements and has the full right to bring any actions against such subcontractors to comply in all respects with the terms and conditions of this Agreement. Notwithstanding any consent which may be granted by Sony for Licensee to employ any such permitted subcontractor(s), or any such separate agreement(s) that may be entered into by Licensee with any such permitted subcontractor, Licensee shall remain fully liable for its compliance with all of the provisions of this License Agreement and for the compliance of any and all permitted subcontractors with the provisions of any agreements entered into by such subcontractors in accordance with this Section 17.5. Licensee shall cause its subcontractors to comply in all respects with the terms and conditions of this License Agreement, and hereby unconditionally guarantees all obligations of its subcontractors. 17.6 COMPLIANCE WITH APPLICABLE LAWS. The parties shall at all times ------------------------------- comply with all applicable regulations and orders of their respective countries and all conventions and treaties to which their countries are a party or relating to or in any way affecting this License Agreement and the performance by the parties of this License Agreement. Each party, at its own expense, shall negotiate and obtain any approval, license or permit required in the performance of its obligations, and shall declare, record or take such steps to render this License Agreement binding, including, without limitation, the recording of this License Agreement with any appropriate governmental authorities (if required). 17.7 GOVERNING LAW; CONSENT TO JURISDICTION. This License Agreement shall -------------------------------------- be governed by and interpreted in accordance with the laws of the State of New York, excluding that body of law related to choice of laws, and of the United States of America. Any action or proceeding brought to enforce the terms of this License Agreement or to adjudicate any dispute arising hereunder shall be brought in the courts of the County of New York, State of New York (if under State law) or the Southern District of New York (if under Federal law). Each of the parties hereby submits itself to the exclusive jurisdiction and venue of such courts for purposes of any such action and agrees that any service of process may be effected by delivery of the summons in the manner provided in the delivery of notices set forth in Section 17.1, above. 17.8 LEGAL COSTS AND EXPENSES. In the event it is necessary for either ------------------------ party to retain the services of an attorney or attorneys to enforce the terms of this License Agreement or to file or defend any action arising out of this Agreement, then the prevailing party in any such action shall be entitled, in addition to any other rights and remedies available to it at law or in equity to recover from the other party its reasonable fees for attorneys and expert witnesses, plus such court costs and expenses as may be fixed by any court of competent jurisdiction. The term "prevailing party" for the purposes of this Section shall include a defendant who has by motion, judgment, verdict or dismissal by the court, successfully defended against any claim that has been asserted against it. 17.9 REMEDIES. Unless expressly set forth to the contrary, either party's -------- election of any remedies provided for in this License Agreement shall not be exclusive of any other remedies available hereunder or otherwise at law or in equity, and all such remedies shall be deemed to be cumulative. Any breach of Sections 2, 4, 5, 6, 7.1.1, 12 and 14 of this Agreement would cause irreparable harm to Sony, the extent of which would be difficult to ascertain. Accordingly, Licensee agrees that, in addition to any other remedies to which Sony may be entitled, in the event of a breach by Licensee or any of its employees or permitted subcontractors of any such sections of this Agreement, Sony shall be entitled to the immediate issuance without bond of exparte 16 injunctive relief enjoining any breach or threatened breach of any or all of such provisions. In addition, Licensee shall indemnify Sony for all losses, damages, liabilities, costs and expenses (including actual attorneys' fees and all related costs) which Sony may sustain or incur as a result of such breach. 17.10 SEVERABILITY. In the event that any provision of this License ------------ Agreement (or portion thereof) is determined by a court of competent jurisdiction to be invalid or otherwise unenforceable, such provision (or part thereof) shall be enforced to the extent possible consistent with the stated intention of the parties, or, if incapable of such enforcement, shall be deemed to be deleted from this License Agreement, while the remainder of this License Agreement shall continue in full force and remain in effect according to its stated terms and conditions. 17.11 SECTIONS SURVIVING EXPIRATION OR TERMINATION. The following sections -------------------------------------------- shall survive the expiration or earlier termination of this License Agreement for any reason: 4, 6, 7.2, 9, 10.2, 11, 12, 13, 14, 15.4, 16, 17.4, 17.5, 17.7, 17.8, 17.9, 17.10. 17.12 WAIVER. No failure or delay by either party in exercising any right, ------ power, or remedy under this License Agreement shall operate as a waiver of any such right, power, or remedy. No waiver of any provision of this License Agreement shall be effective unless in writing and signed by the party against whom such waiver is sought to be enforced. Any waiver by either party of any provision of this License Agreement shall not be construed as a waiver of any other provision of this License Agreement, nor shall such waiver operate as or be construed as a waiver of such provision respecting any future event or circumstance. 17.13 MODIFICATION. No modification of any provision of this License ------------ Agreement shall be effective unless in writing and signed by both of the parties. 17.14 HEADINGS. The section headings used in this License Agreement are -------- intended primarily for reference and shall not by themselves determine the construction or interpretation of this License Agreement or any portion hereof. 17.15 INTEGRATION. This License Agreement (together with the Exhibits ----------- attached hereto) constitutes the entire agreement between Sony and Licensee and supersedes all prior or contemporaneous agreements, proposals, understandings, and communications between Sony and Licensee, whether oral or written, with respect to the subject matter hereof; provided, however, that notwithstanding anything to the contrary in the foregoing, the Nondisclosure Agreement referred to in Section 14 hereto shall remain in full force and effect. 17.16 COUNTERPARTS. This Agreement may be executed in two counterparts, ------------ each of which shall be deemed an original, and both of which together shall constitute one and the same instrument. 17.17 CONSTRUCTION. This License Agreement shall be fairly interpreted in ------------ accordance with its terms and without any strict construction in favor of or against either of the parties. 17 IN WITNESS WHEREOF, the parties have caused this License Agreement to be duly executed as of the day and year first written above. SONY COMPUTER ENTERTAINMENT OF AMERICA INTERPLAY PRODUCTIONS By /s/ Stephen M. Pace By /s/ BRIAN FARGO -------------------------- ---------------------------- Title: President Title: President ---------------------- ------------------------ Date: Feb. 27, 1995 Date: 2/20/95 ----------------------- ------------------------- NOT AN AGREEMENT UNTIL EXECUTED BY BOTH PARTIES 18 EXHIBIT A LICENSED TERRITORY 1. LICENSED TERRITORY: United States and Canada ------------------- 2. ADDITIONAL PROVISIONS: ---------------------- (a) DISTRIBUTION CHANNELS. Licensee may, pursuant to the licenses --------------------- granted in Section 2 above, distribute Licensee's Licensed Products throughout the Licensed Territory and may use such distribution channels as Licensee deems appropriate, including the use of third party distributors, resellers, dealers and sales representatives (collectively, "Distributors"). (b) LIMITATIONS ON DISTRIBUTION. Notwithstanding any other provisions --------------------------- in this License Agreement, Licensee shall not, directly or indirectly, solicit orders from and/or sell any units of the Licensed Products to any person or entity outside of the Licensed Territory, and Licensee further agrees that it shall not directly or indirectly solicit orders for and/or sell any units of the Licensed Products in any situation where Licensee reasonably should know that such Licensed Products will be exported or resold outside of the Licensed Territory. (c) CHANGES TO LICENSED TERRITORY. The licenses granted in Section 2 ----------------------------- of this License Agreement may only be exercised by Licensee in the Licensed Territory. Sony shall have the right to delete, and intends to delete any country or countries from the Licensed Territory if, in Sony's reasonable judgment, the laws or enforcement of such laws in such country or countries do not protect Sony's Intellectual Property Rights. In the event a country is deleted from the Licensed Territory, Sony shall deliver to Licensee a notice stating the number of days within which Licensee shall cease exercising such licenses in the deleted country or countries. Licensee agrees to cease exercising such licenses, directly or through subcontractors, in such deleted country or countries, by the end of the period stated in such notice. E-1 EXHIBIT B ROYALTIES A. PER UNIT ROYALTY. The per unit royalty due under Section 9 of the ----------------- Agreement with respect to each Licensed Product shall be [*] unless otherwise set forth below with respect to a Licensed Product: B. ADJUSTMENTS TO ROYALTY - HIT TITLE REBATE ----------------------------------------- (1) In the event that the total purchases by Licensee from Sony with respect to any Licensed Product exceed the following numbers of units during [*] of the Licensed Product, Licensee shall be entitled to a rebate with respect to royalties paid by Licensee to Sony pursuant to Section 9 of the Agreement which shall be credited to Licensee's account 60 days following the date that the relevant royalties are paid, as follows:
VOLUME ROYALTY REBATE ------ -------------- a. Over [*] units and up to [*] units [*]% of Royalty paid with respect to such units b. Over [*] units and up to [*] units [*]% of Royalty paid with respect to such units c. Over [*] units [*]% of Royalty paid with respect to such units
(2) Each title shall be considered independently for purposes of calculating and the rebates shall be [*]. By way of example: a. If Licensee's aggregate orders for a single Licensed Product are less than [*] no rebate is available. b. If Licensee's aggregate orders for a single Licensed Product exceed [*] but are less than [*] Licensee will receive [*]% of the Royalty paid as a rebate with respect to the first units, at the time Licensee places such excess order. c. If Licensee's aggregate orders for a single Licensed Product exceed [*] but are less than [*] Licensee will receive [*]% of the Royalty paid as a rebate with respect to the first [*] units, at the time Licensee places such excess order. (Please note that in this case Licensee will only receive a [*]% additional rebate with respect to the first [*] units because they have already received a [*]% rebate. ____________ [*] Confidential Portions Omitted and Filed Separately with the Commission. E-2 [LOGO OF SONY COMPUTER ENTERTAINMENT APPEARS HERE] PRODUCT PROPOSAL PAGE 1 OF 3 (Please use a separate form for each title) BASIC INFORMATION - ----------------- GAME TITLE DATE - ------------------------------------------------------------------------------------------------------------------ PUBLISHER DEVELOPER/LOCATION - ------------------------------------------------------------------------------------------------------------------ PRODUCT MANAGER SUBMISSION CONTACT - ------------------------------------------------------------------------------------------------------------------ PHONE FAX - ------------------------------------------------------------------------------------------------------------------ ESRB RATING (EXPECTED) E-MAIL ADDRESS - ------------------------------------------------------------------------------------------------------------------ PRODUCT DESCRIPTION: Please attach a comprehensive description of the game including story line, artwork, characteristics of the user interface and a description of any special requirements/features. If the game is a conversion from another platform please include a list of the enhancements made for the PlayStation(R) game console release. GENRE Action Sports Strategy Story Simulation ------ ------ -------- ----- ---------- [_] Shooter [_] Baseball [_] General Strategy [_] Casual Adventure [_] Flight [_] Wrestling [_] Football [_] Puzzle [_] Serious Adventure [_] Action-Oriented Racing [_] Basketball [_] RPG [_] Action-Oriented Sports [_] Soccer [_] Fight Scrolling [_] Golf [_] Fight Head-to-Head [_] Hockey [_] Scrolling Character [_] Sport-Oriented Racing [_] Other [_] Other New Genre (please state) ____________________________________ - --------- PLAYERS [_] One player [_] Two player [_] Multi-player PERIPHERALS [_] Standard Controller [_] Analog [_] Joystick [_] Sphere 360 [_] Standard Light Gun [_] Synchronized Light Gun [_] Steering Wheel [_] Mouse [_] Track Ball Other__________________ ACCESSORIES [_] Link Cable [_] Multi tap [_] Memory Card Other__________________ AUDIENCE [_] 3-6 Years [_] 7-11 Years [_] 12-18 Years [_] 19-24 Years [_] 25+ Years [_] Family [_] Primarily Girls [_] Primarily Boys ____________ PLEASE INITIAL WHEN THIS SECTION IS COMPLETE LICENSING INFORMATION - --------------------- LICENSED MATERIAL: Does the proposed title contain licensed material? [_] Yes [_] No If yes, please include proof of your organization's right to the material TERRITORY: Will the proposed title be licensed in other territories? [_] Yes [_] No If yes, please specify [_] Japan [_] Europe ____________________ When ____________ PLEASE INITIAL WHEN THIS SECTION IS COMPLETE
PRODUCT PROPOSAL PAGE 2 OF 3 RELEASE INFORMATION - ------------------- ESTIMATED DATE OF QA SUBMISSION TO SCEA / / RELEASE DATE / / - ------------------------------------------------------------------------------------------------------ SONY EXCLUSIVE TIME PERIOD: / / - / / - ------------------------------------------------------------------------------------------------------ AVAILABILITY ON OTHER PLATFORMS: If already released, or to be released on other platforms please list all dates that are being considered for each version on each platform. [_] PlayStation(TM) game console exclusive / / N64 / / Saturn / / 3D Accelerator Card - ----------------------------------------------------------------------------------------------------- / / PC / / Macintosh / / Other - ----------------------------------------------------------------------------------------------------- Will there be a same or similar product available on other platforms? [_] Yes [_] No ___________ PLEASE INITIAL WHEN THIS SECTION IS COMPLETE DEVELOPMENT TEAM INFORMATION - ---------------------------- PROGRAMMING TEAM: Please describe the development team responsible for the creation of this title. Indicate if the development team is in-house or external, the number of people directly involved in development, and the names of titles that this team has completed as a group or has significantly contributed to on an individual basis. PUBLISHER RELATIONSHIP: Is this team internal, external or mixed? [_] Internal [_] External [_] Mixed COMPOSITION: Please list the number of individuals you have working in each area. Programmers Sound artists Designers Animators Producers Graphic Artists Number:______ Number:______ Number:______ Number:______ Number:______ Number:______ How many PlayStation(R) games have been written by core developer members? __________________ TITLE TRACK RECORD (PLEASE ATTACH): ___________ PLEASE INITIAL WHEN THIS SECTION IS COMPLETE MARKETING RESOURCES - ------------------- MARKETING PLANS: Please describe the marketing strategy that will be used to support this title. Please indicate projected release date of marketing materials below each item. [_] Intention of participating in SCEA's co-marketing opportunities. [_] Publisher's own demo MEDIA: Print ads Television Radio Direct Mail Brochures Announcements / / / / / / / / / / / / ---------------------------------------------------------------------------------------- ___________ PLEASE INITIAL WHEN THIS SECTION IS COMPLETE
PRODUCT PROPOSAL PAGE 3 OF 3 PRODUCT PLANNING REQUIREMENTS - ----------------------------- REQUIREMENTS: This package must include a completed Product Proposal Form and detailed design documents providing the following information: [_] The proposed title, story line, characters and game style [_] The schedule and/or anticipated delivery dates with respect to any deliverable items [_] A description of any multiple player options [_] Prototype of the game, or [_] A description of any licensed rights of third parties to be used by the Licensee [_] Videotape of gameplay [_] A profile of the development team [_] A competitive analysis In addition, SCEA may require samples of past work. ___________ PLEASE INITIAL WHEN THIS SECTION IS COMPLETE PRODUCT MANAGEMENT - ------------------ PRODUCT MANAGER: The undersigned publisher certifies that this proposal accurately describes this title and the resources necessary to complete its development. Any subsequent material changes to this proposal may affect approval of the title. PUBLISHER SIGNATURE: NAME ----------------------------------------------------------------------------------------------- TITLE ----------------------------------------------------------------------------------------------- SIGNATURE DATE ----------------------------------------------------------------------------------------------- SUBMISSION INFORMATION - ---------------------- Submission: After assembling the required materials, please forward them with a copy of this completed form to: Attn: (assigned Account Manager) SCEA 919 E. Hillsdale Blvd., Suite 200 Foster City, CA 94404 Phone: 650.655.8000 Note: Upon receipt of the proposal, SCEA will make every effort to respond within 3 weeks. Please note that failure to supply additional information as requested may result in delays to the approval process. The information contained in this proposal will be treated with the utmost discretion and confidentiality. SCEA must approve this proposal before development begins.
EX-23.2 7 CONSENT OF ARTHUR ANDERSEN LLP EXHIBIT 23.2 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the use of our report (and to all references to our Firm) included in or made a part of this registration statement. /s/ Arthur Andersen LLP Orange County, California June 3, 1998 -----END PRIVACY-ENHANCED MESSAGE-----