-----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, MfedeMLQEtchYPhOMA768BizwcNj5ZnuruPNKi1Hh+0wr3vaF61BZi/6oBc7BOrR YQn70jXOccdDT98eKr2RfA== 0000950144-99-007768.txt : 19990621 0000950144-99-007768.hdr.sgml : 19990621 ACCESSION NUMBER: 0000950144-99-007768 CONFORMED SUBMISSION TYPE: S-1/A PUBLIC DOCUMENT COUNT: 5 FILED AS OF DATE: 19990618 FILER: COMPANY DATA: COMPANY CONFORMED NAME: NICHOLS TXEN CORP CENTRAL INDEX KEY: 0001072096 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MANAGEMENT SERVICES [8741] IRS NUMBER: 631182099 STATE OF INCORPORATION: DE FISCAL YEAR END: 0831 FILING VALUES: FORM TYPE: S-1/A SEC ACT: SEC FILE NUMBER: 333-71031 FILM NUMBER: 99649096 BUSINESS ADDRESS: STREET 1: 10 INVERNES CENTER PARKWAY STREET 2: SUITE 500 CITY: BIRMINGHAM STATE: AL ZIP: 35242 BUSINESS PHONE: 2059959898 MAIL ADDRESS: STREET 1: 10 INVERNESS CENTER PARKWAY STREET 2: SUITE 500 CITY: BIRMINGHAM STATE: AL ZIP: 35242 S-1/A 1 NICHOLS TXEN CORPORATION 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JUNE 18, 1999 REGISTRATION NO. 333-71031 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------- AMENDMENT NO. 2 TO FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 --------------------- NICHOLS TXEN CORPORATION (Exact name of Registrant as specified in its charter) --------------------- DELAWARE 8741 63-1182099 (State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer incorporation or organization) Classification Code Number) Identification Number)
--------------------- 2500 CORPORATE DRIVE BIRMINGHAM, ALABAMA 35242 (205) 437-6000 (Address, including zip code, and telephone number, including area code, of Registrant's principal executive offices) --------------------- PAUL D. REAVES CHIEF EXECUTIVE OFFICER NICHOLS TXEN CORPORATION 2500 CORPORATE DRIVE BIRMINGHAM, ALABAMA 35242 (205) 437-6000 (Name, address, including zip code, and telephone number, including area code, of agent for service) --------------------- COPIES TO: JOHN R. WYNN, ESQ. J. VAUGHAN CURTIS, ESQ. LANIER FORD SHAVER & PAYNE, P.C. ALSTON & BIRD LLP P.O. BOX 2087 ONE ATLANTIC CENTER, 1201 WEST PEACHTREE ST. HUNTSVILLE, ALABAMA 35804 ATLANTA, GEORGIA 30309-3424 (256) 535-1100 (404) 881-7000
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO 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, as amended (the "Securities Act"), 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, 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, check the following box. [ ] CALCULATION OF REGISTRATION FEE
- ------------------------------------------------------------------------------------------------------------------------- - ------------------------------------------------------------------------------------------------------------------------- AMOUNT OF TITLE OF EACH CLASS OF PROPOSED MAXIMUM REGISTRATION SECURITIES TO BE REGISTERED AGGREGATE OFFERING AMOUNT(1) FEE(1) - ------------------------------------------------------------------------------------------------------------------------- Common Stock, $0.01 par value.............. $39,000,000 $10,842* - ------------------------------------------------------------------------------------------------------------------------- - -------------------------------------------------------------------------------------------------------------------------
* A registration fee of $9,730 was paid when the Registration Statement was first filed on January 22, 1999. (1) Estimated solely for the purpose of computing the registration fee in accordance with Rule 457(o) under the Securities Act of 1933, as amended. 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. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 SUBJECT TO COMPLETION, DATED JUNE , 1999 THE INFORMATION CONTAINED IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. THESE SECURITIES MAY NOT BE SOLD UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. 2,625,000 SHARES (NICHOLS TXEN LOGO) COMMON STOCK $ PER SHARE - -------------------------------------------------------------------------------- This is an initial public offering of shares of common stock of Nichols TXEN Corporation. Nichols Research Corporation, which currently owns all of the common stock of Nichols TXEN, will own approximately 73% of the outstanding shares of the common stock after the offering. Accordingly, Nichols Research will be able to control the management and operation of Nichols TXEN. This is a firm commitment underwriting. Nichols TXEN expects that the price to the public in the offering will be between $11.00 and $13.00 per share. The market price of the shares after the offering may be higher or lower than the offering price. The common stock will be listed on the Nasdaq National Market under the symbol "NTXN." INVESTING IN THE COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" BEGINNING ON PAGE 8.
PER SHARE TOTAL --------- ----------- Price to the public............................ $ $ Underwriting discount.......................... Proceeds to Nichols TXEN.......................
Nichols TXEN has granted an over-allotment option to the underwriters. Under this option, the underwriters may elect to purchase a maximum of 375,000 additional shares from Nichols TXEN within 30 days following the date of this prospectus to cover over-allotments. - -------------------------------------------------------------------------------- NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. CIBC WORLD MARKETS FRIEDMAN BILLINGS RAMSEY THE ROBINSON-HUMPHREY COMPANY The date of this prospectus is ______________ , ____. 3 Inside Front Cover Nichols TXEN High Technology Driven Outsourcing Services Software Application Services Administrative Services Outsourcing Outsourcing Our Technology & Customer's Personnel Our Technology & Our Personnel TXENet Secure Private Network / Intranet - Internet Technology-based Software Applications for - Managed Care Organizations - Physician Practices - Portal Site Application - 3rd Party Applications & Content - Integrated Internet Connectivity - E-commerce Applications Value Proposition - Timely access to sophisticated enterprise-level software applications - Rapid delivery through an Internet-technology based network - More efficient administrative functions - Access to knowledge and experienced personnel - Better cost control & variable rate operating cost structure - Enhanced connectivity via Internet - High degree of scalability - Faster implementation of new business and technology - Less technology risk - Less capital expenditures for healthcare administrative technologies (Background photo: healthcare and technology composite) 4 Nichols TXEN Customers Managed Care Software Application Services Outsourcing Our Technology & Customer's Personnel Intranet Portal Site Application Managed Care Administrative Services Outsourcing Our Technology & Our Personnel Physician Practice Software Application Services Outsourcing Our Technology & Customer's Personnel Intranet Portal Site Application Physician Practice Administrative Services Outsourcing Our Technology & Our Personnel TXENet Nichols TXEN secure private network/intranet Network Data Center Software Application Services
Nichols TXEN E-commerce Software Nichols TXEN Software Applications 3rd Party Applications/Content - -------------------------------- ---------------------------------- ------------------------------ - -Provider Claim Inquiry(*) -High-end Managed Care Administration -Medical Informatics - -Eligibility Verification -Medical Utilization Management -Claim Edit - -Benefit Inquiry(*) -Managed Care Decision Support -DRG Code Finder - -Direct Employer Benefit/Enrollment(*) -Internet-based Reporting & Analysis(*) -Automated Medical Criteria - -Member Inquiry/Update+ -Integrated Physician Practice Management -Automated Fee Schedules -Medical Case Management(*) -Medical Informatics -High-end Physician Practice Administration -Lab/Pharmacy Connectivity -Insurance Collections -Eligibility Verification -Appointment Scheduling -Claim Status -Direct Payor Connects -Medical Records -Internet-based Reporting & Analysis(*) -Provider Enrollment -Integrated Managed Care Administration
Internet Protocols Healthcare Participants Health Plan Members Government Remote Employees Intermediaries Employers Physicians Internet Connections -Standard Internet Connections -3rd Party Portal Sites* TXENetlink - -Customer Internet Sites+ Labs Suppliers Pharmacy Patients Medical Informatics Hospitals (Graphics: computer and network art work) (Background photo: healthcare and technology composite) * currently testing + under development 5 TABLE OF CONTENTS
PAGE ------ Prospectus Summary.......................................... 3 Risk Factors................................................ 8 Forward-Looking Statements.................................. 15 Use of Proceeds............................................. 15 Dividend Policy............................................. 15 Capitalization.............................................. 16 Dilution.................................................... 17 Selected Financial Data..................................... 18 Management's Discussion and Analysis of Financial Condition and Results of Operations................................. 21 Business.................................................... 31 Management.................................................. 50 Certain Transactions........................................ 56 Principal Stockholders...................................... 58 Description of Capital Stock................................ 59 Shares Eligible for Future Sale............................. 60 Underwriting................................................ 61 Legal Matters............................................... 63 Experts..................................................... 63 Where You Can Find More Information......................... 64 Index to Financial Statements............................... F-1
------------------------------------ Nichols TXEN's principal executive offices are located at 2500 Corporate Drive, Birmingham, Alabama 35242. Our telephone number is (205) 437-6000. Our Internet address is www.nicholstxen.com. Information contained on our Web site is not a part of this prospectus. Unless otherwise stated, all information contained in this prospectus assumes no exercise of the over-allotment option granted to the underwriters and reflects a 7.5 to 7.0 reverse stock split which will become effective on the closing of this offering. The underwriters are offering the shares subject to various conditions and may reject all or part of any order. MDr98(TM), MDrWEB(TM), Decision Manager 3.0(TM), TXEN-MHS(TM), TXENetlink(TM), TXENet(TM), WebSTEPP(TM), Xtend(TM), Xtend/MHS(TM), Xtend/HEDIS(TM), FirstSTEPP(TM), CaseSTEPP(TM), NextSTEPP(TM), InfoSTEPP(TM), MDr-STEPP(TM), MDr-WebSTEPP(TM), MDr-InfoSTEPP(TM), TXEN MD.com(TM) and TXEN HR.com(TM) are trademarks of Nichols TXEN. Trade names and trademarks of other companies appearing in this prospectus are the property of their respective holders. 6 PROSPECTUS SUMMARY This summary highlights information contained in other parts of this prospectus. Because it is a summary, it does not contain all of the information that you should consider before investing in the shares. You should read the entire prospectus carefully. NICHOLS TXEN OUR BUSINESS We are a software application, connectivity and administrative outsourcing services provider. We use Internet-based technology and TXENet, our secure network, to deliver our software applications and services to managed care organizations and physician practice groups to improve their operational efficiency and quality of care. Managed care organizations manage risks, benefits and costs under healthcare plans, and physician practice groups deliver healthcare services. We offer a broad range of information technology and services to perform healthcare administrative functions such as insurance claims processing, physician billing and medical utilization management, which helps control and coordinate medical services used by patients. Based on our fee structure for these outsourcing solutions, approximately 77% of our total revenues in fiscal year 1998 were recurring. We consider recurring revenue to be monthly fees paid by our customers that are continuing in nature because they are based on the number of enrolled health plan members per month, the number of transactions processed, a fixed fee or a percentage of customer collections. We are organized into two divisions, Managed Care Services and Physician Practice Services. As of May 31, 1999, we had 96 managed care services customers representing over 3.0 million lives and 279 physician practice services customers representing over 3,000 physicians. Our applications and outsourcing solutions enable customers to concentrate on providing quality healthcare rather than focusing on administrative issues. We allow customers the flexibility to perform administrative functions with their own staffs utilizing our technology, or to outsource to us some or all of their administrative and processing functions. We are able to rapidly implement our outsourcing services because of our highly trained and knowledgeable personnel, secure intranet and flexible outsourcing method. Our solutions provide the following benefits to our customers: - timely access to sophisticated enterprise-level, or company-wide, software applications through a secure network; - more efficient administrative functions; - enhanced electronic communications, or connectivity, via Internet-based technology or direct connections for transmittal and retrieval of information among healthcare industry participants; - better control of costs; - high degree of scalability, or the ability to easily expand business operations; and - faster implementation of new business and technology. A majority of our transactions are currently conducted over our intranet using Internet communication protocols and we plan to migrate all of our customers to Internet-based technologies. An intranet is a private network with many characteristics of the Internet, but which is designed to be used within a company or group of organizations. We are expanding our existing network architecture to include additional Internet-based software application services. These software applications, hosted on our network data center, are intended to provide additional functionality and to improve our customers' connectivity with participants in the healthcare industry. Our customers will be able to use this expanded connectivity and new software application services to conduct electronic business transactions, or e-commerce. We are also developing WebSTEPP, our healthcare intranet portal site. WebSTEPP is designed to provide easy access to TXENet software application services and additional Internet applications and content offered through strategic relationships with some of the leading Internet-based healthcare companies. 3 7 OUR MARKET OPPORTUNITY Healthcare costs in the United States have risen dramatically over the past two decades. In response to these cost pressures, membership in all forms of managed care plans is increasing, creating many new start-up organizations and fueling rapid growth in existing organizations. These managed care programs are using a variety of benefit and reimbursement models, which are expanding healthcare administration complexities. These administrative complexities further intensify healthcare costs. In fact, we estimate that between 30% to 40% of every healthcare dollar is spent to cover administrative costs. Managed care organizations and physician groups often lack the information technology and operational resources to manage insurance risk and to function efficiently within this more complex and sophisticated healthcare environment. Traditional healthcare information technology systems do not adequately address the new information demands caused by these administrative complexities. As a result, an increasing number of healthcare companies are outsourcing their healthcare information and administrative services. The market for healthcare information technology and administrative services outsourcing is, according to the Gartner Group, expected to increase to approximately $3.8 billion in 2001. We believe that the Internet and Internet-based technology, such as TXENet, are well suited to handle complex communications between healthcare providers and payors and to improve administrative functions. The Internet's open architecture, accessibility and acceptance make it a powerful communications medium, overcoming many of the limitations inherent in legacy healthcare information systems. In addition, we believe delivery of software applications over a network using Internet-based technology is gaining acceptance. OUR STRATEGY Our objective is to develop and use Internet-based technology to become the leading software applications provider and the leading administrative services provider to managed care organizations and physician groups. Our strategy includes the following key elements: - focus on providing outsourcing solutions for the administrative and information challenges of healthcare; - expand our high recurring revenue model; - increase efficiencies through expanded Internet-based connectivity, additional Internet-based software applications and process automation; - establish strategic relationships with additional leading Internet-based healthcare participants; and - acquire complementary businesses and technologies. 4 8 OUR HISTORY Our company is the result of several acquisitions made by our parent company, Nichols Research Corporation. Nichols Research formed CSC Acquisition, Inc. as a wholly owned subsidiary on June 6, 1995. On June 30, 1995, CSC Acquisition acquired Computer Services Corporation. Since its incorporation in 1967, Computer Services primarily performed information technology services for, and sold turnkey computer systems to physician practices. Nichols Research formed Nichols SELECT Corporation as a wholly owned subsidiary on September 17, 1996. On September 23, 1996, CSC Acquisition was merged into Nichols SELECT. On December 16, 1994, Nichols Research acquired 19.9% of the capital stock of TXEN, Inc. with an option to acquire the remaining 80.1% of TXEN. Since its incorporation in 1989, TXEN provided information technology outsourcing and administrative services outsourcing for the managed care industry. On August 29, 1997, Nichols Research acquired the remaining 80.1% of TXEN through a merger of TXEN into Nichols SELECT. After the merger Nichols SELECT continued to be wholly owned by Nichols Research. Following the TXEN acquisition, Nichols SELECT changed its name to Nichols TXEN Corporation. THE OFFERING Common stock offered by Nichols TXEN........ 2,625,000 shares Common stock to be outstanding after the offering(1)................................. 9,625,000 shares Use of proceeds............................. For working capital, to fund possible acquisitions, and other general corporate purposes. Proposed Nasdaq National Market symbol...... NTXN - --------------------------- (1) Excludes 746,000 shares of common stock issuable upon exercise of employee and director stock options outstanding on May 31, 1999, pursuant to the Nichols TXEN 1998 Stock Option Plan and the Non-Employee Director Stock Option Plan. These options were granted subject to completion of the offering at an exercise price equal to the initial public offering price. 5 9 SUMMARY FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE DATA) The financial data presented below represents the historical operating statements of Nichols TXEN and TXEN. TXEN was acquired by Nichols TXEN on August 29, 1997. The financial data for TXEN is presented because of the significance of TXEN to the performance of the combined entity.
NICHOLS TXEN CORPORATION ------------------------------------------------------------------- NINE MONTHS YEARS ENDED AUGUST 31, ENDED MAY 31, ----------------------------------------------- ----------------- 1994 1995 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- ------- ------- STATEMENTS OF OPERATIONS DATA (HISTORICAL BASIS): Revenues...................... $ 8,357 $ 9,382 $10,370 $12,438 $43,480 $30,454 $38,086 Gross profit.................. 2,653 3,082 3,932 4,669 20,224 14,225 17,659 Selling, general and administrative expenses.... 1,336 1,859 1,932 2,251 7,367 5,102 7,142 Research and development...... 634 762 710 1,155 2,771 1,948 2,289 Write-off of purchased in-process research and development................ -- -- -- 8,500 -- -- -- Intangible asset impairment... -- -- -- -- -- -- 4,297 Income (loss) from operations................. 332 112 343 (8,222) 5,539 3,926 227 Net income (loss)............. 228 71 320 (7,673) 3,252 2,300 (302) PER SHARE DATA(1): Earnings (loss) per share..... $ 0.03 $ 0.01 $ 0.05 $ (1.10) $ 0.46 $ 0.33 $ (0.04) Weighted average common shares outstanding................ 7,000 7,000 7,000 7,000 7,000 7,000 7,000
MAY 31, 1999 --------------------- AS ACTUAL ADJUSTED(2) ------- ----------- BALANCE SHEET DATA: Working capital............................................ $ 7,710 $36,005 Total assets............................................... 54,934 83,229 Long-term debt............................................. -- -- Total stockholders' equity................................. 48,779 77,074
TXEN, INC. ---------------------------------- YEARS ENDED JUNE 30, ---------------------------------- 1994 1995 1996 1997 ------ ------ ------ ------- STATEMENTS OF OPERATIONS DATA (HISTORICAL BASIS): Revenues........................ $2,653 $4,706 $6,860 $14,980 Gross profit.................... 1,274 2,972 3,648 10,132 Selling, general and administrative expenses...... 1,017 1,371 2,467 2,945 Research and development........ 126 624 926 1,069 Income (loss) from operations... (59) 631 (277) 5,409 Net income (loss)............... $ (105) $ 683 $ (153) $ 3,421
- --------------------------- (1) The earnings per share data gives effect to the outstanding capital stock of Nichols TXEN held by Nichols Research on a pro forma basis applied for Nichols Research's proportionate share for all periods presented. (2) Adjusted to give effect to the receipt of the estimated net proceeds of this offering based upon an assumed initial public offering price of $12.00 per share and the application of the net proceeds. 6 10 The financial data presented below combines the historical statements of operations and other statistical data for Nichols TXEN and TXEN. The combined data presented below should not be viewed as a representation of what the actual combined results would have been for the periods indicated before the acquisition of TXEN. There are many variables which could change the combined results presented if Nichols TXEN and TXEN had operated on a combined basis for the periods indicated before the acquisition of TXEN.
NICHOLS TXEN AND TXEN COMBINED ------------------------------------------------------------------- NINE MONTHS YEARS ENDED AUGUST 31, ENDED MAY 31, ----------------------------------------------- ----------------- 1994 1995 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT STATISTICAL DATA) STATEMENTS OF OPERATIONS DATA (COMBINED BASIS): Revenues(1).............. $11,551 $14,140 $18,274 $27,921 $43,480 $30,454 $38,086 Gross profit............. 4,179 6,122 6,886 14,787 20,224 14,225 17,659 OTHER STATISTICAL DATA (COMBINED BASIS): Growth of revenues....... 13.8% 22.4% 29.2% 52.8% 55.7% 38.7% 25.1% Gross profit margin...... 36.2% 43.3% 37.7% 53.0% 46.5% 46.7% 46.3% Revenue Mix (Percent of Revenues): Managed Care........... 27.7% 33.6% 43.3% 55.5% 66.4% 65.4% 66.4% Physician Practice..... 72.3% 66.4% 56.7% 44.5% 33.6% 34.6% 33.6% Recurring.............. 75.1% 76.4% 78.0% 71.6% 76.6% 76.8% 78.5% Non-recurring.......... 24.9% 23.6% 22.0% 28.4% 23.4% 23.2% 21.5% Customer Data: Number of Managed Care customers........... 24 33 50 70 87 87 96 Number of Physician Practice customers(2)........ 191 184 202 231 252 244 279
- --------------------------- (1) Includes revenues from turnkey systems. Revenues from turnkey systems decreased from approximately 8% of combined revenues in fiscal year 1994 to less than 1% of combined revenues in fiscal year 1998. (2) Excludes turnkey system customers. In November 1997, we decided to discontinue sales of turnkey systems to physician practice customers. 7 11 RISK FACTORS You should carefully consider the following factors and other information in this prospectus before deciding to invest in the shares. WE MAY NOT BE ABLE TO CONTINUE COMPETING SUCCESSFULLY WITH COMPANIES OFFERING COMPETING PRODUCTS AND SERVICES. Our business is highly competitive. If we are unable to successfully compete with other companies in our industry, our business, financial condition or results of operations could be adversely affected. The market for our technology and services is rapidly changing and requires potentially expensive technological advances. We believe our future success will depend, in part, upon our ability to: - enhance our current technology and services; - respond effectively to technological changes; - sell additional services to our existing client base; - introduce new technologies; and - meet the increasingly sophisticated needs of our customers. Competitors may develop products or technologies that are better or more attractive than those offered by us or that may render our technology and services obsolete. We plan to expand our business using Internet-based technology and will encounter significant competition from other companies pursuing a similar strategy. In addition, we plan to significantly limit the sale of turnkey computer systems to customers who desire to process their transactions internally. Accordingly, we may be at a competitive disadvantage to other vendors offering such systems. Many of our current and potential competitors are larger and offer broader services and have significantly greater financial, marketing and other competitive resources than us. AFTER THIS OFFERING, WE WILL STILL BE CONTROLLED BY NICHOLS RESEARCH, WHICH COULD MAKE IT MORE DIFFICULT FOR OTHERS TO ACQUIRE US. Upon completion of this offering, Nichols Research will own approximately 73% of our outstanding common stock, or 70% if the underwriters' over-allotment option is exercised in full. Therefore, Nichols Research will control us and have the power to elect all of our directors and appoint our management. In addition, Nichols Research will be able to approve actions requiring the consent of our stockholders. Such control by Nichols Research could limit the price that investors might be willing to pay in the future for our shares and could make it more difficult for a third party to acquire us. CONTROL OF NICHOLS TXEN BY NICHOLS RESEARCH FOLLOWING THE OFFERING COULD PRESENT CONFLICTS OF INTEREST. The control by Nichols Research could also cause a conflict of interest. Initially, one of our six directors will be an officer and director of Nichols Research, one of our directors will be a director of Nichols Research and an officer of Nichols TXEN, two of our directors will be officers of Nichols TXEN and two of our directors will be independent directors who are not Nichols Research affiliates or our employees. Our directors who are also directors of Nichols Research may favor Nichols Research in decisions that affect both companies. Nichols Research has entered into a Voting Agreement, a Corporate Services Agreement and a Tax Sharing Agreement with us. These agreements were negotiated while we were a wholly owned subsidiary of Nichols Research. As a result, the terms of these agreements may be less favorable to us than the terms we could have obtained from unaffiliated third parties. See "Certain Transactions -- Corporate Services Agreement," "-- Voting Agreement" and "-- Tax Sharing Agreement." 8 12 IF CUSTOMERS TERMINATE OR MODIFY EXISTING CONTRACTS, IT COULD ADVERSELY AFFECT OUR EARNINGS. We believe that our long-term success largely depends upon our ability to retain customers and generate recurring revenues from contracts. If we are unable to retain customers and generate recurring revenues, our performance will be adversely affected. We may lose customers if they are acquired by other companies who have existing technology capabilities. We could also lose customers or have customers transfer from higher revenue producing administrative services to technology services if they consolidate or grow sufficiently to perform their administrative services in house. Approximately 50% of our contracts do not contain penalty provisions for termination or are outside of their initial term and may be terminated at any time. Five of our contracts, representing approximately 4% of our revenues, specifically allow for switching from administrative services outsourcing to information technology outsourcing without penalties. For those contracts that contain financial penalties for termination or transfers from administrative services to technology services, the penalties are usually not sufficient to replace the ongoing revenue that we would have received if the change had not occurred. Typically our contracts have an initial term of two to five years. Termination penalties range from a two months service fee to a six months service fee or, for some physician practice customers, penalties are based on recouping transaction price discounts included in long-term contracts. In general, these penalties decrease over the initial term of the contract. We have recently experienced early termination of technology outsourcing services by two significant physician practice customers, and several of our managed care customers have transferred their outsourcing requirements from administrative services to technology services. Any termination, significant reduction or modification of our business relationships with any of our significant customers or with a number of smaller customers could have a material adverse effect on our business, financial condition or results of operations. WE MAY NOT BE ABLE TO RECRUIT AND RETAIN THE PERSONNEL WE NEED TO SUCCEED. Significant competition exists for employees with the skills we require, such as the ability to program computers and understand the healthcare industry. Qualified employees are in great demand and are likely to remain a limited resource for the foreseeable future. We may not be successful in attracting and retaining needed personnel. If we are not successful, our business may be adversely affected. WE MAY LOSE CUSTOMERS OR INCUR LIABILITY FOR ERRORS OR IMPROPER HANDLING OF CUSTOMER TRANSACTIONS OR INFORMATION RETRIEVED FROM OUR NETWORK. Our customers demand reliability and quality when their transactions are processed, but errors may occur. Errors and mistakes in processing customer transactions may result in loss of data, inaccurate information and delays. Such errors could cause us to lose customers and could result in liability. In addition, materials downloaded by our customers through Nichols TXEN's software products may be subsequently distributed to others and it is possible that claims could be made against us for defamation, negligence, copyright or trademark infringement or other alleged infractions based on the nature and content of such materials. The contractual protections included in our customer contracts and our insurance coverage may not be sufficient to protect us against such liability. In addition, appropriate insurance may be unavailable in the future at commercially reasonable rates. A successful claim in excess of our insurance coverage could have a material adverse effect on our business, financial condition or results of operations. Even unsuccessful claims could result in the expenditure of funds in litigation, as well as diversion of management time and resources. WE MAY INCUR LIABILITY AS A RESULT OF PROVIDING UTILIZATION REVIEW SERVICES. We recommend to our customers whether a claim for payment or service should be denied or existing coverage should be continued based on the customer's plan or contract and industry standard clinical support criteria. Our customers are ultimately responsible for deciding whether to deny claims for payment or medical services. It is possible, however, that liability may be asserted against us for denial of medical service or payment of medical claims. The contractual protections included in our customer contracts and our insurance coverage may not be sufficient to protect us against such liability. If the protections are not adequate, our business may be adversely affected. See "Business -- Government Regulation." 9 13 THE GOVERNMENT HAS INCREASED SCRUTINY OF BILLING AND CLAIMS ACTIVITIES AND ANY VIOLATIONS COULD RESULT IN SIGNIFICANT PENALTIES OR OTHER PUNISHMENT. We perform billing and claims services which are governed by numerous federal and state civil and criminal laws, including the False Claims Act and the Health Insurance Portability and Accountability Act of 1996, or HIPAA. Violations of such laws could significantly damage our business. The federal government in recent years has placed increased scrutiny on billing and collection practices of healthcare providers and related entities and, in particular, potentially fraudulent billing practices such as submissions of inflated claims for payment and upcoding. Violations of the laws regarding billing and coding may result in civil monetary penalties, criminal fines, imprisonment or exclusion from participation in Medicare, Medicaid and other federally funded healthcare programs for us and our customers. See "Business -- Government Regulation." MANY OF OUR INTERNET-BASED E-COMMERCE PRODUCTS ARE IN THE DEVELOPMENT STAGE AND WE MAY EXPERIENCE DIFFICULTIES DEVELOPING AND COMMERCIALIZING THESE PRODUCTS. We are currently developing new Internet-based e-commerce products and face all of the risks, uncertainties, expenses, delays, problems and difficulties typically encountered in developing and commercializing new products. We have limited experience in developing and commercializing Internet-based e-commerce products and it is possible that we will have unanticipated expenses, problems or technical difficulties that could cause material delays in product commercialization. As of the date of this prospectus, we have not realized any revenues directly related to our e-commerce services. There can be no assurance our e-commerce Internet products when developed will result in revenues or profits. IF WE ARE UNABLE TO MAKE FUTURE ACQUISITIONS, OUR RATE OF GROWTH MAY BE ADVERSELY AFFECTED. One aspect of our growth strategy involves making acquisitions. If we are unable to make acquisitions, we may not meet our growth expectations and our business and financial condition or results of operations could be materially and adversely affected. We may be unable to identify suitable acquisition candidates in the future. In addition, we compete with companies to acquire other businesses. We expect this competition to continue to increase, making it more difficult to acquire suitable companies on favorable terms. IF WE CANNOT INTEGRATE ACQUIRED COMPANIES WITH OUR BUSINESS, OUR PROFITABILITY MAY BE ADVERSELY AFFECTED. Even though we may acquire additional companies in the future, we may be unable to successfully integrate the acquired businesses and realize anticipated economies, operational and other benefits in a timely manner. If we are unable to successfully integrate acquired businesses, any of the following may occur which could have a negative impact on our profitability: - substantial costs from trying to combine our operations with those of the acquired business; - delays in offering the acquired products or services; - diversion of management's attention from our existing business; or - damage to our relationships with our key customers and employees. Integrating acquired companies generally involves combining management and services, taking advantage of economies of scale and other economic benefits and combining the two corporate cultures into one common culture. Integration of an acquired business is especially difficult when we acquire a business in a market in which we have limited or no expertise, or with a corporate culture different from ours. IF OUR ASSETS BECOME IMPAIRED, IT COULD ADVERSELY AFFECT OUR BUSINESS. During the third quarter of fiscal year 1999, we recorded an intangible asset impairment charge of $4.3 million to adjust the intangible assets of our Physician Practice Services division. After giving effect to this impairment, we still had $31.5 million of intangible assets at May 31, 1999. We cannot give assurances 10 14 that the recorded value of goodwill or other intangible assets will ever be realized. Our future ability to realize the value of intangible assets is determined based on undiscounted future operating cash flows. The future write-off of additional unamortized intangible assets would have a material effect on our earnings. IF WE DO NOT ADEQUATELY ADDRESS YEAR 2000 CONCERNS, WE MAY LOSE REVENUE OR INCUR ADDITIONAL COSTS. Many computer programs were designed and developed without considering the upcoming change in the century, which could lead to failure of computer applications or create erroneous results by or at the year 2000. This issue is referred to as the "Year 2000" problem. It is possible that our computer systems, software products or other business systems, or those of our suppliers or customers, could malfunction as a result of the Year 2000 problem. A malfunction could cause us to lose revenue or incur substantial costs. In addition, telecommunication and utility services, which are important to our operations, could malfunction due to the Year 2000 problem. As a result of the Year 2000 problem, many of our customers may suffer delays in reimbursement from Medicare and Medicaid programs, other federal or state healthcare programs and other third-party payors. Such delays may also damage us. We may not be able to identify, successfully remedy or assess all date-handling problems in our business systems or operations or those of our customers and suppliers. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Year 2000." SYSTEM FAILURES OR PERFORMANCE PROBLEMS WITH OUR NETWORK DATA CENTER COULD DAMAGE OUR BUSINESS. Substantially all customer transactions are processed at our network data center, which is located at a single site. We do not have a permanent mirror processing site to which processing could be transferred in case of a catastrophic event. As a result, any system failure or performance problems with our network data center could damage our business. In order to operate without interruption, we must guard against: - telecommunications failures; - equipment failures; - power outages, fires, tornadoes and other natural disasters at the network data center; and - other potential interruptions. Our customer contracts contain performance guarantees and any interruption could require us to reduce fees charged to customers and reduce our revenues. A system failure could require us to spend money replacing existing equipment or adding redundant facilities. Any failure by us to adequately and promptly address the problems could damage our reputation, or make it more difficult for us to attract new customers. OUR STRATEGIC RELATIONSHIPS MAY NOT PROVIDE ANTICIPATED BENEFITS. We have entered into several strategic relationships and may enter into additional strategic relationships in the future. Some of these relationships are in the early stages of development and it is possible that these relationships will not provide us with the ability to successfully develop or sell our services. In addition, we may not be able to establish relationships with or provide our services to key participants in the healthcare industry if we have established relationships with their competitors. Also, some of our current and potential partners may decide to compete with us. If any of our current or future strategic relationships are disrupted, or if we do not realize the expected benefits from these relationships, our business may be adversely affected. THERE ARE RESTRICTIONS RELATED TO THE LICENSING OF OUR CORE PROCESSING SOFTWARE THAT MAY ADVERSELY IMPACT OUR BUSINESS. Our core processing software for the Managed Care Services business, known as MHS, was licensed in 1989 from CSC Healthcare Services, Inc. We currently hold three perpetual, non-transferable and non-marketable source code and object code MHS licenses. Since 1989, we have significantly enhanced and modified our version of MHS, which is known as TXEN-MHS. We have not requested nor received any 11 15 updates or enhancements from CSC, and we are not dependent upon CSC for support of TXEN-MHS. As a condition to the license grant from CSC, we are restricted from offering TXEN-MHS or managed care administrative services to a CSC managed care customer without written consent from CSC. We are also restricted from selling turnkey versions of TXEN-MHS without written consent from CSC. These limitations may reduce market opportunities and restrict our business growth. In addition, if we violate the restriction or otherwise breach the licensing agreement and do not cure such violation or breach, CSC could terminate the licenses. Termination of the licensing arrangements with CSC could have a material adverse effect on our business, financial condition or results of operations. WE RELY ON PROPRIETARY TECHNOLOGY WHICH WE MAY BE UNABLE TO PROTECT FROM INFRINGEMENT OR WHICH MAY INFRINGE TECHNOLOGY OWNED BY OTHERS. Our proprietary software and other confidential information are important to our business. We do not own any patents and we have not registered any copyrights, trademarks, service marks or trade names with the United States Patent and Trademark Office. Instead, we rely on a combination of trade secrets, common law intellectual property rights, license agreements, nondisclosure and other contractual provisions which may not adequately protect our technology or information. These actions do not prevent independent third-party development of competitive products or services. Recently, we were contacted by legal counsel representing the owner of patented technology allegedly possessing functionality similar to that of our non-patented technology for electronic integrated commerce and healthcare management systems. We were offered an opportunity to obtain a license for the use of this patented technology. If it is determined that the functionality of our technology overlaps this or other technology, we may be subject to intellectual property infringement claims and we could be required to enter into a license agreement or royalty arrangement with the party asserting the claim or be forced to stop using some of our technology. We may also be required to indemnify customers for claims made against them. These consequences could have a material adverse effect on our business. CHANGES IN THE HEALTHCARE INDUSTRY COULD REDUCE DEMAND FOR OUR TECHNOLOGY AND SERVICES. The healthcare industry in the United States is in a period of change and uncertainty. As a result, healthcare organizations may alter the way they operate and pay for services. Participants in the healthcare industry are also rapidly consolidating, which can reduce our customer base and market opportunities. Our transaction processing technology and services are designed to function within the current healthcare financing and reimbursement system. During the past several years, the healthcare industry has been subject to increasing levels of government regulation of, among other things, reimbursement rates and capital expenditures. Future legislation may further increase government involvement in healthcare, lower reimbursement rates and otherwise change the operating environment for our customers. As in the past, healthcare organizations may react to these proposals and the uncertainty surrounding such proposals in ways that could result in a reduction or deferral in the use of our technologies and services. We cannot predict with any certainty what impact, if any, healthcare reforms might have on our business, financial condition or results of operations. See "Business -- Government Regulation." NEW REGULATIONS REGARDING COMPUTER MEDICAL RECORDS COULD INCREASE OUR COSTS. The United States Department of Health and Human Services has proposed regulations regarding electronic signatures and the maintenance and transmission of computer medical records. These regulations establish minimum required standards for electronic record-keeping. We do not know if these regulations will be adopted in their present form or a different form, or at all. However, if these regulations or other similar laws are adopted, they may require modifications to our computer software, Internet access and record-keeping practices. These changes may require us to make substantial capital expenditures. See "Business -- Government Regulation." 12 16 WE MAY BE REQUIRED TO COMPLY WITH ADDITIONAL LICENSING REGULATIONS AND CONSUMER PROTECTION LAWS. Because we provide administrative and business services to health plans, we are required to be licensed in many states as a third-party administrator or private review agent and to meet state requirements for continued licensure. In addition, federal and state consumer protection laws may apply to us when we bill patients directly for the cost of physician services that are provided. Failure to comply with any of these laws or regulations could result in a loss of licensure, or other fines and penalties. Enactment of legislation expanding the scope of medical practice to utilization review activities could require additional licensure obligations, or require restructuring of physician arrangements. See "Business -- Government Regulation." CHANGES IN LAWS REGARDING THE PROTECTION OF CONFIDENTIAL PATIENT INFORMATION COULD PREVENT CUSTOMERS FROM USING OUR SERVICES. The confidentiality of patient records is subject to substantial regulation by state governments. Although compliance with these laws and regulations is at present principally the responsibility of the physician or other healthcare providers, regulations governing patient confidentiality rights are evolving rapidly. Substantial additional legislation governing the dissemination of medical record information has been proposed at both the state and federal level. This legislation may require holders of medical information to implement security measures and impose restrictions on the ability of third-party processors, like us, to transmit patient data and make that information available via the Internet without specific patient consent. Any change in legislation could restrict healthcare providers from using our services. See "Business -- Government Regulation." GOVERNMENT REGULATION OF INTERNET-BASED HEALTHCARE SERVICES OR THE INTERNET COULD ADVERSELY AFFECT OUR BUSINESS. Our Internet-based services are subject to developing and changing regulation. The Internet and its associated technologies are also subject to government regulation. Many existing laws and regulations, when enacted, did not anticipate the Internet-based healthcare services we are developing and it is possible that these laws and regulations may be applied to our Internet-based healthcare business. Accordingly, we may be adversely affected by current regulations as well as future regulations specifically targeted to this new segment of the healthcare industry. BREACHES OF OUR NETWORK SECURITY COULD RESULT IN LIABILITY AND DAMAGE TO OUR REPUTATION. To the extent that our activities involve the storage of confidential customer and patient information at our network data center and its transmission over private and public networks, including the Internet, security breaches could result in liability and damage to our reputation. Despite the implementation of security measures, our infrastructure may be vulnerable to physical break-ins, computer viruses, programming errors or similar disruptive problems. If our security measures are circumvented, proprietary and confidential information could be misappropriated or our operations interrupted. We may be required to expend significant capital and other resources to protect against the threat of security breaches. Any costs or imposition of liability that is not covered by insurance or is in excess of insurance coverage could have a material adverse effect on our business. WE HAVE LARGE AMOUNTS OF PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT TECHNOLOGY WHICH MAY NEVER BE SUCCESSFULLY DEVELOPED. In August 1997, Nichols Research acquired TXEN and allocated $8.5 million to in-process technology. The purchased in-process technology may never be successfully developed. To the extent the in-process technology is not successfully developed, this failure could have a material adverse effect on our business, financial condition or results of operations. The acquired in-process technology consisted of ten software development projects to perform managed care administrative functions and provide enhanced information reports. The fair value of the acquired in-process technology was determined based on an analysis of the markets, projected cash flows and risks associated with achieving such cash flows. At the date of the acquisition, the technological feasibility of the acquired technology had not been established and the 13 17 acquired technology has no alternative future uses. We estimate that the cost to complete these projects will be $1.8 million, of which $445,000 was spent in fiscal year 1998 and of which $1.3 million is expected to be spent in fiscal year 1999. FUTURE SALES OF OUR COMMON STOCK COULD CAUSE OUR STOCK PRICE TO DECLINE. There will be 9,625,000 shares of common stock outstanding immediately after the offering, or 10,000,000 shares if the underwriters' over-allotment option is exercised in full. Future sales of large amounts of our common stock could cause our stock price to decline. The 7,000,000 shares of common stock held by Nichols Research will be "restricted securities" as defined in Rule 144 under the Securities Act. These shares may be sold in the future without registration under the Securities Act to the extent permitted by Rule 144 or another exemption under the Securities Act. In addition, at any time after this offering, Nichols Research may cause us to register for sale any or all of its shares of common stock. Also, up to an additional 746,000 shares of common stock which may be issued upon exercise of options outstanding as of May 31, 1999, under our stock-based compensation plans will become available for future sale in the public market. THE PRICE OF OUR COMMON STOCK MAY BE VOLATILE. You may not be able to resell your shares at or above the initial public offering price. The market price of the common stock may fluctuate significantly due to a variety of factors, including: - announcements of technological innovations or new products or services by us or our competitors; - fluctuations in our results of operations; - changes in the general condition of the economy or the healthcare or information technology industries; - changes in earnings estimates by public market analysts; and - changes in our business strategies. The stock market in general, and the market for technology-related and healthcare-related stocks in particular, have experienced extreme volatility often unrelated to the operating performance of particular companies. 14 18 FORWARD-LOOKING STATEMENTS Some of the information in this prospectus contains forward-looking statements within the meaning of the federal securities laws. Forward-looking statements typically are identified by use of terms such as "may," "will," "expect," "anticipate," "plan," "estimate" and similar words, although some forward-looking statements are expressed differently. You should be aware that Nichols TXEN's actual results could differ materially from those contained in the forward-looking statements due to a number of factors, including technological changes, increased competition, insufficient capital resources and adverse economic conditions. You should also consider carefully the statements under "Risk Factors" and other sections of this prospectus, which address additional factors that could cause Nichols TXEN's actual results to differ from those set forth in the forward-looking statements. USE OF PROCEEDS Nichols TXEN estimates that the net proceeds from the sale of the shares of common stock in this offering will be approximately $28.3 million. If the underwriters fully exercise the over-allotment option, the net proceeds of the shares sold by Nichols TXEN will be approximately $32.5 million. "Net Proceeds" is what Nichols TXEN expects to receive after paying the underwriting discount and other expenses of the offering. For the purpose of estimating net proceeds, Nichols TXEN is assuming that the public offering price will be $12.00 per share. Nichols TXEN will use the net proceeds for general corporate purposes, including working capital. Some of the net proceeds may be used to fund acquisitions of complementary products, technologies or businesses. We have discussions on an ongoing basis regarding possible acquisitions of or investments in businesses or technologies that are complementary to our business. Although we may use a portion of the net proceeds for these kinds of possible acquisitions, no agreements or commitments in this regard currently exist. We may, however, change the allocation of these proceeds in response to developments or changes that affect our business or our industry. Our management may spend the proceeds from this offering in ways that the stockholders may not deem desirable. Pending use of the net proceeds for the above purposes, we plan to invest such funds in short-term, investment grade, interest-bearing securities. We cannot predict that the proceeds will be invested to yield a favorable return. DIVIDEND POLICY Currently we intend to retain our earnings to finance future growth, and therefore, we do not anticipate paying cash dividends in the foreseeable future. The Board of Directors may review our dividend policy from time to time to determine the desirability and feasibility of paying dividends after giving consideration to our capital requirements, operating results and financial condition and other factors as the Board of Directors deems relevant. 15 19 CAPITALIZATION The following table shows: - The capitalization of Nichols TXEN on May 31, 1999. - The capitalization of Nichols TXEN on May 31, 1999, assuming the completion of the offering at an assumed public offering price of $12.00 per share and the use of the net proceeds as described under "Use of Proceeds."
MAY 31, 1999 --------------------- AS ACTUAL ADJUSTED ------- ----------- (IN THOUSANDS) Total debt.................................................. $ -- $ -- ======= ======= Stockholders' equity: Common stock; $0.01 par value, 30,000,000 shares authorized, 7,000,000 shares issued and outstanding, actual; 9,625,000 shares issued and outstanding, as adjusted(1)............................................. 70 96 Additional paid-in capital................................. 52,838 81,107 Retained earnings (deficit)................................ (4,129) (4,129) ------- ------- Total stockholders' equity............................... 48,779 77,074 ------- ------- Total capitalization................................... $48,779 $77,074 ======= =======
- --------------------------- (1) The adjusted number of shares issued and outstanding at May 31, 1999, does not include employee and director stock options to purchase 746,000 shares of common stock at the initial public offering price per share. 16 20 DILUTION Nichols TXEN's net tangible book value on May 31, 1999, was approximately $17.3 million, or $2.47 per share. "Net tangible book value" is total assets minus the sum of liabilities and intangible assets. "Net tangible book value per share" is net tangible book value divided by the total number of shares outstanding before the offering. After giving effect to adjustments relating to the offering, Nichols TXEN's pro forma net tangible book value on May 31, 1999, would have been $45.6 million or $4.73 per share. The adjustments made to determine the pro forma net tangible book value per share are as follows: - An increase in total assets to reflect the net proceeds of the offering as described under "Use of Proceeds" (assuming that the public offering price will be $12.00 per share); and - The addition of the number of shares offered by this prospectus to the number of shares outstanding. The following table illustrates the pro forma increase in net tangible book value of $2.52 per share and the dilution (the difference between the offering price per share and net tangible book value per share) to new investors: Assumed initial public offering price per share............. $12.00 Net tangible book value per share as of May 31, 1999 (1).... $2.47 Increase in net tangible book value per share attributable to the offering........................................... 2.26 ----- Pro forma net tangible book value per share after giving effect to the offering.................................... 4.73 ------ Dilution per share to new investors in the offering(2)...... $ 7.27 ======
The following table shows the difference between existing stockholders and new investors with respect to the number of shares purchased from Nichols TXEN, the total consideration paid and the average price paid per share. The table assumes that the public offering price will be $12.00 per share.
SHARES PURCHASED TOTAL CONSIDERATION ------------------- ----------------------- AVERAGE PRICE NUMBER PERCENT AMOUNT PERCENT PER SHARE --------- ------- ----------- ------- ------------- Existing stockholders.......... 7,000,000 72.7% $52,908,000(3) 62.7% $ 7.56 New stockholders............... 2,625,000 27.3 31,500,000 37.3 12.00 --------- ----- ----------- ----- Total....................... 9,625,000 100.0% $84,408,000 100.0% ========= ===== =========== =====
- --------------------------- (1) The adjusted number of shares issued and outstanding at May 31, 1999, does not include employee and director stock options to purchase 746,000 shares of common stock at the initial public offering price per share. (2) Dilution is determined, after giving effect of this offering, by subtracting net tangible book value per share from the assumed initial public offering price of $12.00 per share. Dilution to new investors will be $7.03 per share if the underwriters' over-allotment option is exercised in full. (3) Represents the book value of the net assets transferred by Nichols Research to Nichols TXEN. 17 21 SELECTED FINANCIAL DATA This section presents selected historical data of Nichols TXEN. You should read carefully the financial statements included in this prospectus, including the notes to the financial statements. The selected data in this section is not intended to replace the financial statements. The statement of operations data set forth below, for the years ended August 31, 1996, 1997 and 1998, and the balance sheet data at August 31, 1997 and 1998, have been audited by Ernst & Young LLP, independent auditors. The statement of operations data for the years ended August 31, 1994 and 1995, the nine-month periods ended May 31, 1998 and 1999, and the balance sheet data at August 31, 1994, 1995 1996, and at May 31, 1998 and 1999, are derived from the unaudited financial statements of Nichols TXEN. We believe that the unaudited financial data fairly reflects the results of operations and the financial condition of Nichols TXEN for the respective periods.
NICHOLS TXEN CORPORATION ------------------------------------------------------------------- NINE MONTHS ENDED YEARS ENDED AUGUST 31, MAY 31, ----------------------------------------------- ----------------- 1994 1995 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENTS OF OPERATIONS DATA (HISTORICAL BASIS): Revenues..................... $ 8,357 $ 9,382 $10,370 $12,438 $43,480 $30,454 $38,086 Cost of revenues............. 5,704 6,300 6,438 7,769 23,256 16,229 20,427 ------- ------- ------- ------- ------- ------- ------- Gross profit................. 2,653 3,082 3,932 4,669 20,224 14,225 17,659 Selling, general and administrative expenses... 1,336 1,859 1,932 2,251 7,367 5,102 7,142 Research and development..... 634 762 710 1,155 2,771 1,948 2,289 Depreciation and amortization.............. 351 349 947 985 4,547 3,249 3,704 Write-off of purchased in- process research and development(1)............ -- -- -- 8,500 -- -- -- Intangible asset impairment................ -- -- -- -- -- -- 4,297 ------- ------- ------- ------- ------- ------- ------- Income (loss) from operations................ 332 112 343 (8,222) 5,539 3,926 227 Other income (expense)(2).... 9 -- 94 656 (4) (3) (21) Income tax expense........... 113 41 117 107 2,283 1,623 508 ------- ------- ------- ------- ------- ------- ------- Net income (loss)............ $ 228 $ 71 $ 320 $(7,673) $ 3,252 $ 2,300 $ (302) ======= ======= ======= ======= ======= ======= ======= Earnings (loss) per share(3).................. $ 0.03 $ 0.01 $ 0.05 $ (1.10) $ 0.46 $ .33 $ (.04) ======= ======= ======= ======= ======= ======= ======= Weighted average common shares outstanding(3)..... 7,000 7,000 7,000 7,000 7,000 7,000 7,000 ======= ======= ======= ======= ======= ======= =======
18 22
AUGUST 31, MAY 31, ----------------------------------------------- ----------------- 1994 1995 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS) BALANCE SHEET DATA: Working capital........... $ 872 $ 2,224 $ 900 $ 2,223 $ 5,780 $ 4,464 $ 7,710 Total assets.............. 2,059 8,349 10,497 52,052 57,715 62,143 54,934 Long-term debt............ -- -- -- -- -- -- -- Total stockholder's equity................. 1,497 9,382 9,702 45,829 49,081 48,129 48,779
- --------------------------- (1) The total purchase price of TXEN was allocated to net assets acquired of which $8.5 million was allocated to in-process research and development and was expensed in the fourth quarter of fiscal year 1997. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- TXEN Acquisition." (2) Includes Nichols Research's 19.9% proportional share of income for TXEN in fiscal years 1996 and 1997, recorded using the equity method of accounting, and other miscellaneous items. (3) The earnings (loss) per share data gives effect to the outstanding capital stock of Nichols TXEN held by Nichols Research on a pro forma basis applied for Nichols Research's proportionate share for all periods presented. 19 23 On August 29, 1997, TXEN was merged with Nichols TXEN. Due to the significance of TXEN, we have included selected financial data related to TXEN which should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations." The following table summarizes selected financial data for TXEN which should be read in conjunction with the financial statements of TXEN appearing elsewhere in this prospectus. The statement of operations data set forth below, for the years ended June 30, 1995, 1996 and 1997, and the balance sheet data at June 30, 1995, 1996 and 1997, have been derived from financial statements audited by Ernst & Young LLP, independent auditors. The statement of operations data for the year ended June 30, 1994, and the balance sheet data at June 30, 1994, are derived from the unaudited financial statements of TXEN. We believe that the unaudited financial data fairly reflects the results of operations and the financial condition of TXEN for the respective periods.
TXEN, INC. ------------------------------------- YEARS ENDED JUNE 30, ------------------------------------- 1994 1995 1996 1997 ------- ------- ------- ------- (IN THOUSANDS) STATEMENTS OF OPERATIONS DATA (HISTORICAL BASIS): Revenues.......................................... $ 2,653 $ 4,706 $ 6,860 $14,980 Cost of revenues.................................. 1,379 1,734 3,212 4,848 ------- ------- ------- ------- Gross profit...................................... 1,274 2,972 3,648 10,132 Selling, general and administrative expenses...... 1,017 1,371 2,467 2,945 Research and development.......................... 126 624 926 1,069 Depreciation and amortization..................... 190 346 532 709 ------- ------- ------- ------- Income (loss) from operations..................... (59) 631 (277) 5,409 Other income (expense)............................ (97) (60) 31 (9) Income tax expense (benefit)...................... (51) (112) (93) 1,979 ------- ------- ------- ------- Net income (loss)................................. $ (105) $ 683 $ (153) $ 3,421 ======= ======= ======= =======
JUNE 30, ------------------------------------- 1994 1995 1996 1997 ------- ------- ------- ------- (IN THOUSANDS) BALANCE SHEET DATA: Working capital (deficit)......................... $ (293) $ 197 $ 176 $ 1,846 Total assets...................................... 1,873 4,147 4,431 9,833 Long-term debt.................................... 1,072 204 1,150 916 Total stockholders' equity........................ 497 1,103 939 4,390
20 24 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS You should read this discussion together with the financial statements and other financial information included in this prospectus. OVERVIEW Nichols TXEN is a software application services provider and an administrative services provider to managed care organizations and physician groups in the healthcare industry. By offering customers a broad range of medical billing and claims processing solutions, our outsourcing services help clients to enhance quality and lower costs by reducing the time and personnel needed to process healthcare transactions. Our services are delivered to customers through our secure private network. Over the last two years, we have converted our network architecture to Internet-based technology. We are organized into two business divisions. Both divisions earn revenue under one to five-year contracts which are primarily based on the number of transactions processed or the number of enrolled health plan members per month. As a result, 76.6% of our total revenues in fiscal year 1998 were recurring. Our Managed Care Services division provides technology and services to managed care customers, such as: - health maintenance organizations, or HMOs; - integrated delivery systems, or IDSs; - physician-hospital organizations, or PHOs; - Medicare and Medicaid HMOs; - independent practice associations, or IPAs; - insurance carriers; and - provider sponsored organizations, or PSOs; - third-party administrators, or TPAs.
Our Physician Practice Services division provides technology and services to physician practice customers, such as: - hospital-based physicians; - hospital emergency departments; and - physician groups; - physician networks.
As of May 31, 1999, Nichols TXEN had 96 managed care services customers representing over 3.0 million lives and 279 physician practice services customers representing approximately 3,000 physicians. Background Nichols Research formed CSC Acquisition, Inc. as a wholly owned subsidiary on June 6, 1995. On June 30, 1995, CSC Acquisition acquired Computer Services Corporation. Since its incorporation in 1967, Computer Services primarily performed information technology services for, and sold turnkey computer systems to, physician practices. Nichols Research formed Nichols SELECT Corporation as a wholly owned subsidiary on September 17, 1996. On September 23, 1996, CSC Acquisition was merged into Nichols SELECT. On December 16, 1994, Nichols Research acquired 19.9% of the capital stock of TXEN, Inc. with an option to acquire the remaining 80.1% of TXEN. Since its incorporation in 1989, TXEN provided information technology outsourcing and administrative services outsourcing for the managed healthcare industry. On August 29, 1997, Nichols Research acquired the remaining 80.1% of TXEN through a merger of TXEN into Nichols SELECT, which after the merger continued to be wholly owned by Nichols Research. After the TXEN merger, Nichols SELECT changed its name to Nichols TXEN Corporation. TXEN Acquisition In fiscal year 1995, Nichols Research purchased 19.9% of the capital stock of TXEN, for approximately $1.5 million. In August 1997, Nichols Research exercised its option to acquire the remaining 80.1% of the capital stock of TXEN for aggregate consideration of approximately $43.8 million. The total purchase price for the TXEN acquisition was allocated to the TXEN assets and liabilities. The excess of the purchase price over the fair market value of the tangible assets acquired, $42.8 million, was allocated to the following intangibles: $8.5 million to in-process research and development, $17.4 million to goodwill, 21 25 $14.1 million to other intangibles and $2.8 million to capitalized software development. In-process research and development of $8.5 million was expensed in the fourth quarter of fiscal year 1997. The fair value of the acquired in-process technology was determined based on an analysis of the markets, cash flows and risk of achieving such cash flows. Goodwill and other intangibles of $30.7 million are being amortized using the straight-line method over an estimated useful life of 20 years. Of the total purchase price for the acquisition of TXEN, $8.5 million was allocated to ten software programs and systems constituting in-process technology. At the date of acquisition, the technological feasibility of the acquired technology had not been established and the acquired technology has no alternative future uses. Assurances cannot be given that the purchased in-process technology will be successfully developed. The acquired in-process technology consisted of ten software and systems development projects to reduce the time and personnel needed to perform managed care administrative functions and provide enhanced information reports. At the date of acquisition, the estimated cost to complete the projects was $1.8 million, of which $0.4 million was spent in fiscal year 1998 and of which $1.3 million is expected to be spent in fiscal year 1999. To the extent the in-process technology is not successfully developed, this could have a material adverse impact on Nichols TXEN's operating results and financial condition. Nichols Research Corporate Services Agreement Nichols TXEN is currently a wholly owned subsidiary of Nichols Research. After the offering, Nichols Research will retain a controlling equity interest in Nichols TXEN. Nichols Research will furnish administrative services to us pursuant to a Corporate Services Agreement. Under the services agreement, Nichols Research will provide or assist with various administrative services, including public reporting compliance, corporate record keeping, risk management, employee benefit administration, investor and media relations administration, preparation of tax returns, centralized cash management and financial and other services for an annual fee. In fiscal year 1999, the fee will be 2.4% of operating expenses less costs of goods sold, which are defined as direct materials and purchased labor. We believe that the charges under the services agreement are reasonable. For additional items, such as software development services or administrative services that create unusual demands for resources, Nichols Research will charge Nichols TXEN based upon costs actually incurred in performing the services, plus a reasonable fee as agreed to by Nichols Research and Nichols TXEN. We are not obligated to use Nichols Research for these additional services. The services agreement has an initial term of one year and automatically renews for successive one-year terms, unless canceled by either Nichols Research or Nichols TXEN upon 90 days prior written notice. Corporate administrative expenses paid by Nichols TXEN to Nichols Research were $192,000 in fiscal year 1996, $250,000 in fiscal year 1997 and $696,000 in fiscal year 1998. The increase in such expenses in fiscal years 1996 and 1997 was a result of growth by Nichols TXEN. The increase in such expenses in fiscal year 1998 was the result of the TXEN acquisition and continued growth of the combined companies. We expect that administrative expenses paid to Nichols Research will continue to increase as we continue to experience growth in revenues. Physician Practice Reorganization Historically, we have offered software application outsourcing services and turnkey systems to potential physician practice customers. Nichols TXEN made a strategic decision to discontinue turnkey computer systems sales to physician practice customers. On November 3, 1997, when Nichols TXEN announced it would discontinue sales of turnkey systems to physician practice customers, we had 84 physician practice customers with turnkey systems. Nichols TXEN offered technical support to these customers through December 31, 1998. Revenues related to the support of these physician practice turnkey customers for fiscal year 1998 were approximately $0.4 million, or less than 1.0% of Nichols TXEN's total revenues for fiscal year 1998. The conversion of our physician practice customers from turnkey systems to outsourcing services reduced our revenues and increased costs during the transition period which began in November 1997 and ended in December 1998. Since November 1997, Nichols TXEN has not received any revenues from turnkey 22 26 system sales to physician practice customers. Prior to our announcement, turnkey system sales for physician practice customers were approximately $0.5 million in each of fiscal years 1997 and 1996. Revenues associated with turnkey sales typically have higher margins in the year installed than outsourcing services revenues; however, turnkey revenues are non-recurring and less predictable. We believe that by offering only outsourcing services to physician practice customers, we will achieve a predictable, recurring revenue stream which over time will exceed the operating margins attained through turnkey system sales. In order to offer only outsourcing services to physician practice customers, we have increased support staff and infrastructure. The Physician Practice Services division also experienced a reduction in technology outsourcing revenues from physician practice customers. This reduction was caused primarily because two significant customers elected to perform their administrative services with turnkey systems utilizing their own administrative staffs. We have concentrated our marketing resources toward physician practice customers that will utilize our complete administrative outsourcing services. We believe administrative outsourcing provides a greater amount of gross profit contribution than technology outsourcing. However, the margin percentage related to administrative outsourcing is less than technology outsourcing due to the significantly greater amount of cost of revenues required. We also believe that customers utilizing our administrative outsourcing services will be less likely to convert to a turnkey system because typically the customer does not have a large administrative staff. As a result of the discontinuance of turnkey sales, the reduction in technology outsourcing, and the emphasis on administrative outsourcing, we took a charge of $4.3 million in the quarter ended February 28, 1999, which represents all of the goodwill related to the 1995 purchase of the physician practice business of Computer Services Corporation. The impairment charge reflects our assessment based on a discounted cash flow analysis that the goodwill was unrecoverable. NINE MONTHS ENDED MAY 31, 1999, COMPARED TO NINE MONTHS ENDED MAY 31, 1998 Revenues. Revenues increased 25.1% to $38.1 million in the first nine months of fiscal year 1999 from $30.5 million in the corresponding period of fiscal year 1998. The increase in revenues resulted from the addition of new customers during the first nine months of fiscal year 1999 representing $3.4 million in revenues and 44.9% of the revenues increase, as well as a net increase in the utilization of Nichols TXEN's services by existing customers representing $4.2 million in revenues or 55.1% of the revenues increase. Cost of Revenues. Cost of revenues increased 26.0% to $20.4 million in the first nine months of fiscal year 1999 from $16.2 million in the corresponding period of fiscal year 1998. As a percent of revenues, cost of revenues increased to 53.7% in the first nine months of fiscal year 1999 from 53.3% in the corresponding period of fiscal year 1998. The dollar and percentage increase was due primarily to the employment of additional support staff required by the increase in our new customer business as well as an increase in our existing customer business. The increase was also attributable to the emphasis on administrative outsourcing in the Physician Practice Services division resulting in greater cost of revenues. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased 40.0% to $7.1 million in the first nine months of fiscal year 1999 from $5.1 million in the corresponding period of fiscal year 1998. As a percent of revenues, selling, general and administrative expenses increased to 18.8% in the first nine months of fiscal year 1999 from 16.8% in the corresponding period of fiscal year 1998. The dollar and percentage increase was due primarily to the employment of additional staff resulting from the increase in our new customer business as well as an increase in our existing customer business. Research and Development. Research and development expenses increased 17.5% to $2.3 million in the first nine months of fiscal year 1999 from $1.9 million in the corresponding period of fiscal year 1998. As a percent of revenues, research and development expenses decreased to 6.0% in the first nine months of fiscal year 1999 from 6.4% in the corresponding period of fiscal year 1998. The dollar increase was due 23 27 primarily to the hiring of staff to develop additional software. The percentage decrease was due primarily to our ability to leverage our research and development infrastructure. Depreciation and Amortization. Depreciation and amortization expenses increased 14.0% to $3.7 million in the first nine months of fiscal year 1999 from $3.2 million in the corresponding period of fiscal year 1998. As a percent of revenues, depreciation and amortization expenses decreased to 9.7% in the first nine months of fiscal year 1999 from 10.7% in the corresponding period of fiscal year 1998. The dollar increase was due primarily to additional capital expenditures required by the increase in our business. The percentage decrease was primarily due to the increase in revenues. Intangible Asset Impairment. In the second quarter of fiscal year 1999, Nichols TXEN recorded an intangible asset impairment charge of $4.3 million to adjust the intangible assets of the Physician Practice Services division to their fair value. Management regularly monitors results of operations and other developments within the industry to adjust its cash flow forecast, as necessary, to determine if an adjustment is necessary to the carrying value of our intangible assets. Income Taxes. A tax expense of $0.5 million was recorded in the first nine months of fiscal year 1999 compared to $1.6 million tax provision in the corresponding period of fiscal year 1998. The tax expense was due primarily to the $4.3 million intangible asset impairment charge taken during the second quarter of fiscal year 1999. FISCAL YEAR ENDED AUGUST 31, 1998, COMPARED TO FISCAL YEAR ENDED AUGUST 31, 1997 The principal reason for the change in Nichols TXEN's historical operating data from fiscal year 1998 compared to fiscal year 1997 was the effect on results of operations of the TXEN acquisition in August 1997. The fiscal year ended 1998 contains a full year of operating results with TXEN, compared to an equity adjustment which reflects 19.9% of the results of operations of TXEN in fiscal year 1997. Revenues. Revenues increased 249.6% to $43.5 million in fiscal year 1998 from $12.4 million in fiscal year 1997. The primary reason for this increase in our revenues was the inclusion of TXEN's operations for 12 months in fiscal year 1998 which included revenues of $28.9 million and represented 93.0% of the revenues increase. The increase in revenues was also a result of the addition of new physician practice customers during fiscal year 1998 as well as a net increase in utilization of our services by existing physician practice customers. Cost of Revenues. Cost of revenues increased 199.3% to $23.3 million in fiscal year 1998 compared to $7.8 million in fiscal year 1997. As a percent of revenues, cost of revenues decreased to 53.5% in fiscal year 1998 from 62.5% in fiscal year 1997. The dollar increase was primarily due to the inclusion of TXEN's operations for 12 months in fiscal year 1998 which included cost of revenues of $12.7 million and represented 81.9% of the cost of revenues increase. The dollar increase was also a result of our decision to transition the physician practice business solely to outsourcing which required an initial investment in infrastructure and support staff in order to acquire and maintain those customers. The decrease as a percentage of revenues was attributable to the inclusion of TXEN's operations in fiscal year 1998. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased 227.3% to $7.4 million in fiscal year 1998 from $2.3 million in fiscal year 1997. As a percent of revenues, selling, general and administrative expenses decreased to 16.9% in fiscal year 1998 from 18.1% in fiscal year 1997. The dollar increase was due to the inclusion of TXEN's operations for 12 months in fiscal year 1998 which included selling, general and administrative expenses of $4.6 million and represented 90.2% of the selling, general and administrative expenses increase. The dollar increase was also a result of an increase in the staff necessary to support our increase in revenues for Physician Practice Services. The decrease as a percentage of revenues was attributable to our ability to generate synergies resulting from the TXEN acquisition. Research and Development. Research and development expenses increased 139.9% to $2.8 million in fiscal year 1998 from $1.2 million in fiscal year 1997. As a percent of revenues, research and development expenses decreased to 6.4% in fiscal year 1998 from 9.3% in fiscal year 1997. The dollar increase was due 24 28 primarily to the inclusion of TXEN's operations for 12 months in fiscal year 1998 which included research and development expenses of $2.0 million. Research and development expenses incurred by the Physician Practice Services division decreased by $0.4 million due primarily to discontinued turnkey development. The decrease as a percentage of revenues was attributable to our ability to leverage our research and development infrastructure resulting from the TXEN acquisition. Depreciation and Amortization. Depreciation and amortization expenses increased 361.6% to $4.5 million in fiscal year 1998 from $1.0 million in fiscal year 1997. As a percent of revenues, depreciation and amortization expenses increased to 10.5% in fiscal year 1998 from 7.9% in fiscal year 1997. The dollar and percentage increase was due to the inclusion of TXEN's operations for 12 months in fiscal year 1998 which included depreciation and amortization expenses of $3.3 million and represented 94.3% of the depreciation and amortization expenses increase. Write-off of Purchased In-Process Research and Development. The acquisition of TXEN was accounted for under the purchase method of accounting. Accordingly, the purchase price was allocated to the individual TXEN assets acquired and liabilities assumed based upon their respective fair values at the date of acquisition. The transaction resulted in the allocation of $42.8 million of acquisition costs to intangible assets, of which $8.5 million was allocated to in-process research and development and charged to expense in the fourth quarter of fiscal year 1997. Other Income (Expense). Other expense in fiscal year 1998 was $(0.01) million compared to other income of $0.7 million in 1997. The change was due to the inclusion of TXEN's operations for 12 months in fiscal year 1998 in the statements of operations compared to the 19.9% investment in TXEN reflected in other income in fiscal year 1997. Income Taxes. A tax provision of $2.3 million was recorded in fiscal year 1998 compared to $0.1 million in fiscal year 1997. The effective tax rate was 41.2% in fiscal year 1998. A tax provision was recorded for the loss before income taxes in fiscal year 1997 as a result of the difference between financial and taxable income. This difference was primarily attributable to the $8.5 million write-off of purchased in-process research and development in fiscal year 1997 which was not deductible for tax purposes. FISCAL YEAR ENDED AUGUST 31, 1997, COMPARED TO FISCAL YEAR ENDED AUGUST 31, 1996 The discussion and analysis below includes information on a historical basis for Nichols TXEN prior to the acquisition of TXEN. The acquisition of TXEN materially affected our results of operations after the acquisition and the information presented below should be considered in light of the acquisition. Revenues. Revenues increased 19.9% to $12.4 million in fiscal year 1997 from $10.4 million in fiscal year 1996. The primary reason for this increase in our revenues was attributable to outsourcing services generated from new customers during fiscal year 1997. Cost of Revenues. Cost of revenues increased 20.7% to $7.8 million in fiscal year 1997 from $6.4 million in fiscal year 1996. As a percent of revenues, cost of revenues increased to 62.5% in fiscal year 1997 from 62.1% in fiscal year 1996. The dollar and percentage increase was due primarily to the employment of additional support staff required by the increase in our new customer business as well as an increase in our existing customer business. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased 16.5% to $2.3 million in fiscal year 1997 from $1.9 million in fiscal year 1996. As a percent of revenues, selling, general and administrative expenses decreased to 18.1% in fiscal year 1997 from 18.6% in fiscal year 1996. The dollar increase was due primarily to the employment of additional staff resulting from the increase in our new customer business as well as an increase in our existing customer business. The decrease as a percentage of revenues was attributable to our ability to leverage our selling, general and administrative infrastructure. Research and Development. Research and development expenses increased 62.7% to $1.2 million in fiscal year 1997 from $0.7 million in fiscal year 1996. As a percent of revenues, research and development 25 29 expenses increased to 9.3% in fiscal year 1997 from 6.8% in fiscal year 1996. The dollar and percentage increase was due primarily to the hiring of staff to develop additional software. Depreciation and Amortization. Depreciation and amortization expenses increased 4.0% to $1.0 million in fiscal year 1997 from $0.9 million in fiscal year 1996. As a percent of revenues, combined depreciation and amortization expense decreased to 7.9% in fiscal year 1997 from 9.1% in fiscal year 1996. The dollar increase was due primarily to completion of development projects, whose costs were amortized beginning in fiscal year 1997 over a useful life of five years. The decrease as a percentage of revenues was attributable to a reduction in fixed capital expenditures. Write-off of Purchased In-Process Research and Development. The acquisition of TXEN was accounted for under the purchase method of accounting. Accordingly, the purchase price was allocated to the individual TXEN assets acquired and liabilities assumed based upon their respective fair values at the date of acquisition. The transaction resulted in the allocation of $42.8 million of acquisition costs to intangible assets, of which $8.5 million was allocated to in-process research and development and charged to expense in the fourth quarter of fiscal year 1997. Other Income. Other income increased to $0.7 million in fiscal year 1997 from $0.1 million in fiscal year 1996. As a percent of revenues, other income increased to 5.3% in fiscal year 1997 from 0.9% in fiscal year 1996. The dollar and percentage increase was due primarily to the 19.9% investment in TXEN. Income Taxes. An income tax provision of $0.1 million was recorded in fiscal year 1997, compared to a $0.1 million tax provision in fiscal year 1996. The tax provision in fiscal year 1997 was affected by the non-deductible $8.5 million write-off of purchased in-process research and development in fiscal year 1997. LIQUIDITY AND CAPITAL RESOURCES Since 1995, we have financed our operations primarily through a combination of cash from operations and capital contributions on an as-needed basis from Nichols Research. Working capital was $7.7 million at May 31, 1999, compared to $4.5 million at May 31, 1998. Included in working capital are cash and cash equivalents of $0.7 million at May 31, 1999, compared to $0.6 million at May 31, 1998. During the nine months ended May 31, 1999, operating activities provided $3.3 million in cash. Investing activities used $4.4 million for the nine months ended May 31, 1999, of which $4.0 million was used to acquire property, plant and equipment. Accounts receivable from customers were outstanding on average approximately 81 days during the nine months ended May 31, 1999, compared to approximately 139 days during the nine months ended May 31, 1998. The decrease in payment time for the nine months ended May 31, 1999, compared to the nine months ended May 31, 1998, was due primarily to the enhancement of collection procedures for the Managed Care Services division. Working capital was $5.8 million at August 31, 1998, compared to $2.2 million at August 31, 1997. Included in working capital are cash and cash equivalents of $1.8 million at August 31, 1998, compared to $0.2 million at August 31, 1997. During fiscal year 1998 operating activities provided $6.3 million of cash. Investing activities used $4.8 million for the fiscal year ended August 31, 1998, of which $4.2 million was used to acquire property, plant and equipment. Accounts receivable from customers were outstanding on average approximately 82 days during fiscal year 1998 compared to approximately 52 days during fiscal year 1997, excluding the TXEN accounts receivable. The increase in payment time in fiscal year 1998 compared to fiscal year 1997 was due primarily to the addition of the managed care business where customers typically take longer to pay their invoices. Historically, the Physician Practice Services division has experienced collections within 60 days of billing. We believe that by continuing to apply the collection procedures used in the Physician Practice Services division to the Managed Care Services division, delays in payments on accounts receivable will be further reduced because of active management of outstanding accounts. We believe that the net proceeds from this offering, together with other available funds, will be sufficient to meet our capital requirements for the next 24 months. We may also utilize cash to acquire or invest in complementary products, technologies or businesses. Nichols TXEN continually evaluates acquisition 26 30 opportunities. Although we generally expect to have positive cash flow from our existing operations, we may require additional amounts of cash for acquisitions of complementary businesses. Nichols TXEN expects to finance any acquisitions through a combination of the net proceeds from this offering, internally- generated funds, additional debt or equity financing from capital markets and short-term or long-term borrowings from Nichols Research. We have no agreement with Nichols Research to ensure that funds will be available on acceptable terms or available at all. Nichols TXEN does not have an independent credit facility. REVENUE COMPOSITION -- COMBINED BASIS We are organized into two divisions. Our Managed Care Services division represents the business conducted by TXEN prior to the acquisition of TXEN by Nichols TXEN in August 1997. The Physician Practice Services division represents the business conducted by Computer Services Corporation prior to its acquisition by Nichols Research in 1995. The information set forth in the tables below is presented by combining the historical data of Nichols TXEN with the historical data of TXEN for the periods prior to the TXEN acquisition conformed to the 12-month period ended August 31. Significant intercompany transactions have been eliminated. Due to the significance of TXEN, we believe that the presentation of revenues on a combined basis presents a more meaningful and complete discussion of our business because it demonstrates revenue trends of the historic businesses of Nichols TXEN. The combined data presented below should not be viewed as a representation of what the actual combined results would have been for the periods indicated before the acquisition. Many variables exist, including market presence and management composition, that could have changed the combined results presented if Nichols TXEN and TXEN had operated on a combined basis for the periods indicated before the acquisition. Combined revenue growth has been primarily driven by market acceptance of Nichols TXEN's outsourcing solutions for information technology and administrative services by larger managed care and physician practice entities resulting in an increase in average contract size. The significant growth in revenues in the Managed Care Services division versus the growth in revenues in the Physician Practice Services division was the result of a more mature sales and marketing infrastructure. In conjunction with the TXEN acquisition, the current management team has formed, and continues to develop, a stronger sales and marketing infrastructure for the Physician Practice Services division. The following table summarizes our revenues by division for the periods indicated on a combined basis:
NINE MONTHS ENDED YEARS ENDED AUGUST 31, MAY 31, ----------------------------------------------- ----------------- 1994 1995 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT STATISTICAL DATA) REVENUES: Managed Care.......... $ 3,194 $ 4,758 $ 7,904 $15,483 $28,861 $19,928 $25,276 Physician Practice.... 8,357 9,382 10,370 12,438 14,619 10,526 12,810 ------- ------- ------- ------- ------- ------- ------- Total............... $11,551 $14,140 $18,274 $27,921 $43,480 $30,454 $38,086 ======= ======= ======= ======= ======= ======= ======= PERCENTAGE OF REVENUES: Managed Care.......... 27.7% 33.6% 43.3% 55.5% 66.4% 65.4% 66.4% Physician Practice.... 72.3 66.4 56.7 44.5 33.6 34.6 33.6 ------- ------- ------- ------- ------- ------- ------- Total............... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% ======= ======= ======= ======= ======= ======= =======
One of our principal objectives is to increase recurring revenue. We define recurring revenue to be monthly fees paid by our customers which are continuing in nature because they are based on the number of enrolled health plan members per month, the number of transactions processed, a fixed fee or a percentage of customer collections. Revenues from transaction-based or membership-based fees are recognized as the services are provided. Recurring revenues as a percentage of total revenues decreased in fiscal year 1997 compared to fiscal year 1996 as a result of an increase in software sales in fiscal year 1997. We consider 27 31 our non-recurring revenues to be revenues based on sales of computer hardware and software and professional services based on time and materials, such as programming and implementation fees. Revenues from professional services are recognized when the services are performed. The table below summarizes information related to our recurring and non-recurring revenues for the periods indicated on a combined basis:
NINE MONTHS ENDED YEARS ENDED AUGUST 31, MAY 31, ----------------------------------------------- ----------------- 1994 1995 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT STATISTICAL DATA) REVENUES: Recurring............ $ 8,675 $10,801 $14,261 $19,985 $33,320 $23,374 $29,894 Non-recurring........ 2,876 3,339 4,013 7,936 10,160 7,080 8,192 ------- ------- ------- ------- ------- ------- ------- Total.............. $11,551 $14,140 $18,274 $27,921 $43,480 $30,454 $38,086 ======= ======= ======= ======= ======= ======= ======= PERCENTAGE OF REVENUES: Recurring............ 75.1% 76.4% 78.0% 71.6% 76.6% 76.8% 78.5% Non-recurring........ 24.9 23.6 22.0 28.4 23.4 23.2 21.5 ------- ------- ------- ------- ------- ------- ------- Total.............. 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% ======= ======= ======= ======= ======= ======= =======
YEAR 2000 Overview Historically, some computerized systems have had two digits rather than four digits to define the applicable year, which could result in recognizing a date using "00" as the year 1900 rather than the year 2000. This could cause significant software failures or miscalculations and is generally referred to as the "Year 2000" problem. We recognize that the impact of the Year 2000 problem extends beyond our computer hardware and software and may affect utility and telecommunication services, as well as the systems of customers and suppliers. The Year 2000 problem is being addressed within Nichols TXEN by the individual business divisions and progress is reported periodically to management. We have committed resources to conduct extensive risk assessments and to take corrective action, where appropriate. Managed Care. The core managed care applications, consisting of TXEN-MHS and FirstSTEPP, were designed with a century date field. As a result, these applications have no pervasive architectural problems with dates spanning the Year 2000. To ensure no minor programming related issues exist, we have dedicated an IBM AS/400 server for testing and have set its internal clock for the middle of the Year 2000. As a result of Year 2000 testing, we identified minor server and processing issues related to Year 2000 problems that required approximately 1,500 hours to correct and 300 hours to test. Year 2000 upgrades and testing of the managed care applications were completed in December 1998. We have made our test AS/400 available to customers to perform their own Year 2000 simulations. Physician Practice. Nichols TXEN has identified all of the active applications specific to the Physician Practice Services division including MDr98, a transaction-based medical practice management application. These applications are processed by an IBM mainframe computer. We designed a comprehensive plan to analyze each of these active applications, determine any Year 2000 problems, implement appropriate modifications and validate the final changes. Year 2000 upgrades, modification and testing of the Physician Practice applications were completed in April 1999. The compliance program required approximately 1,320 hours of programming and 1,160 hours of testing. We believe that our decision support application, Decision Manager 3.0, is Year 2000 compliant. 28 32 Internal Information Systems Nichols TXEN's internal information systems utilize hardware and software from several commercial suppliers. We have investigated our internal information systems for Year 2000 compliance and have not identified any hardware or software applications that require modification. Our accounting software is installed in an IBM AS/400 and was designed to be Year 2000 compliant. Third Parties We have had communications with our significant suppliers and customers to evaluate their Year 2000 compliance plans and states of readiness and to determine the extent to which our systems may be affected by the failure of others to remedy their own Year 2000 issues. However, we have not independently confirmed all information received from other parties with respect to Year 2000 issues. As such, there can be no assurance that such other parties will complete their Year 2000 conversion in a timely fashion or will not suffer a Year 2000 business disruption. Contingency Plans Because our Year 2000 conversions are expected to be completed prior to any potential disruption to our business, we have not yet completed the development of a comprehensive Year 2000 specific contingency plan. However, we have minimized our exposure to Year 2000 failure of significant third-party suppliers by purchasing electronic data interchange software and database resources from multiple suppliers of these products and services. In addition, we have the ability to manually replicate many of the electronic services provided by significant suppliers. If we determine that our business is at material risk of disruption due to the Year 2000 problem, or discover that our Year 2000 conversions are not adequate, we will work to enhance our contingency plan. If our Year 2000 conversions fail to perform as anticipated, then we would hire additional staff to manually process our customers' data. In addition, disruptions in electronic communications would cause us to rely on traditional communication methods such as the United States Postal Service and private delivery companies. While inconvenient, we believe that we could meet our business obligations under the above-described worst case scenario. The costs of slower response and processing times, combined with additional staff salaries may, however, be substantial and may materially affect our financial condition. Cost for Year 2000 Compliance We believe that the total cost of Year 2000 compliance activity will not be material to our operations, liquidity and capital resources. The total cost for Year 2000 compliance was $256,800, which represents 4,280 hours of analysis, modification and testing. We do not anticipate any additional costs to maintain our level of Year 2000 readiness. RECENT ACCOUNTING PRONOUNCEMENTS During 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 130, Reporting Comprehensive Income, which requires changes in comprehensive income to be shown in a financial statement that is displayed with the same prominence as other financial statements. This statement is effective for fiscal year 1999. Management does not believe that Nichols TXEN has material other comprehensive income which would require such separate disclosure. In June 1997, the Financial Accounting Standards Board issued Statement No. 131, Disclosures About Segments of an Enterprise and Related Information, which is effective for years beginning after December 15, 1997. Statement No. 131 establishes standards for the way that public companies report information about operating segments in annual financial statements and requires reporting of selected information about operating segments in interim financial statements issued to the public. It also establishes standards for disclosures regarding products and services, geographic areas and major customers. Statement No. 131 defines operating segments as components of a company about which separate financial information is available that is evaluated regularly by the chief operating decision maker 29 33 in deciding how to allocate resources and in assessing performance. Statement No. 131 was adopted in 1998, but had no effect on Nichols TXEN's financial statements. In June 1998, the Financial Accounting Standards Board issued Statement No. 133, Accounting for Derivative Instruments and Hedging Activities, which is required to be adopted in years beginning after June 15, 1999. Because of Nichols TXEN's minimal use of derivatives, management does not anticipate that the adoption of the new statement will have a significant effect on earnings or the financial position of Nichols TXEN. During 1998, the American Institute of Certified Public Accountants issued Statement of Position, or SOP, 98-1, Accounting for the Costs to Develop or Obtain Software for Internal Use. SOP 98-1 is effective for fiscal years beginning after December 15, 1998. Nichols TXEN believes that it is substantially in compliance with this pronouncement and that the implementation of this pronouncement will not have a material adverse effect on our financial statements. FORWARD-LOOKING STATEMENTS Statements made in Management's Discussion and Analysis of Financial Condition and Results of Operations which look forward in time involve risks and uncertainties. Such risks and uncertainties include the following: - Nichols TXEN's assessment of the state of its Year 2000 readiness; - anticipated expenditures and potential risks; - the adequacy of Nichols TXEN's current working capital and other available sources of funds; - the ability of Nichols TXEN to successfully implement its operating strategy; - changes in economic cycles; - competition from other companies; - changes in laws and governmental regulations applicable to Nichols TXEN; and - other risk factors detailed in this prospectus. 30 34 BUSINESS NICHOLS TXEN We are a software application services provider and an administrative services provider to managed care organizations and physician practice groups within the healthcare industry. Customers access these outsourcing services through our secure networks connected to our network data center. A majority of our transactions are currently conducted over our intranet using Internet communication protocols and we plan to migrate all of our customers to Internet-based technologies. Our outsourcing services improve quality and reduce costs by minimizing the time and personnel needed to process healthcare transactions by offering customers a broad range of medical billing, claims processing and connectivity solutions. As a result of our fee structure for these outsourcing solutions, approximately 77% of our revenues for fiscal year 1998 were recurring. We offer a broad range of products and services that allow customers the flexibility to perform administrative functions with their own staffs utilizing our software application services and technology or to outsource to us some or all of their administrative and technology processing functions. Each customer contracts with us for the level of outsourcing service needed. Our outsourcing solutions provide customers with significant benefits, including: - timely access to sophisticated enterprise-level application software; - more efficient administrative functions; - variable rate operating cost structure; - faster implementation of new business and technology; - enhanced connectivity via Internet-based technology or direct connections for transmittal and retrieval of information between healthcare industry participants; - reduced capital expenditures for administrative and operational healthcare technologies; - less risk of customers' technology becoming obsolete; - access to knowledgeable and experienced personnel; and - easy-to-use decision support software designed to enhance operational analysis. As a result, our services enable customers to concentrate on providing quality healthcare by focusing on core competencies. We believe that our ability to offer both software application services and administrative services through Internet-based technology differentiates us from competitors that offer only turnkey software solutions, only administrative services or only healthcare connectivity solutions. Nichols TXEN is organized into two divisions. Our Managed Care Services division provides technology and services to: - HMOs; - IDSs; - Medicaid HMOs; - PHOs; - PSOs; - insurance carriers; and - IPAs; - Medicare HMOs; - TPAs.
Our Physician Practice Services division provides technology and services to: - hospital-based physicians; - physician groups; and - hospital emergency departments; - physician networks.
As of May 31, 1999, we had 96 managed care services customers representing over 3.0 million lives and 279 physician practice services customers representing over 3,000 physicians. 31 35 INDUSTRY BACKGROUND Healthcare costs in the United States have risen dramatically over the past two decades and, according to the Health Care Financing Administration, or HCFA, represented approximately $1.1 trillion in 1997, or approximately 14% of the gross domestic product, and are projected to increase to $2.1 trillion in 2007. Pressures from both the private and public sectors to reduce costs have caused significant changes in the healthcare industry. Although reimbursement for healthcare has historically been fee-for-service reimbursement, federal and state governments, corporations and other payors are increasingly using alternative reimbursement models. A fixed-fee payment system, such as capitation in which a hospital, clinic or doctor is paid a fixed amount per individual without regard to the actual number or nature of services provided, shifts the financial risk of delivering healthcare from payors to providers of healthcare. Risk shifting and other cost reduction factors have resulted in complex arrangements among employers, providers, and public and private payors. For example, a point-of-service plan is one of the most complex benefit and contractual arrangements in health insurance. Point-of-service plans, which have experienced rapid growth, provide different levels of benefits based on how a plan participant selects a provider. Physician groups and managed care organizations often lack the technical and operational resources to function within this more complex and sophisticated healthcare environment. According to a 1998 survey conducted by InterStudy, membership in commercial HMOs is expected to rise from approximately 66 million members in 1997 to approximately 105 million members in 2001. InterStudy also reported that membership in point-of-service plans increased 36.9%, from 8.5 million lives in 1997, to 11.7 million lives in 1998. HCFA estimates that enrollment in Medicare and Medicaid managed care arrangements will double by 2003. This increase in membership in managed care, especially Medicaid and Medicare, is creating many new start-up organizations and fueling rapid growth in existing organizations. For example, according to the January 1999 Health Trends Report, from 1997 to 1998, membership in Medicaid HMOs grew 39.5%. Many of these managed care organizations lack capital to acquire the needed technology or lack the expertise to perform increasingly complex administrative functions. This shift to managed care has also increased the level of review and audit by government and other payors. Regulatory changes and increased scrutiny result in information and administrative requirements outside the capabilities of many healthcare organizations. The complexity and change in healthcare has created an increased dependence and need for information. Physician groups and managed care organizations need access to a greater spectrum of information related to the cost and quality of healthcare. The financing and delivery of healthcare requires that consistent, accurate information be shared confidentially across a large and fragmented industry. Inefficiencies within the healthcare system consume enormous amounts of time, resources and money. Nichols TXEN estimates that 30% to 40% of every healthcare dollar spent covers administrative costs. Much of this inefficiency and waste is a direct result of poor information exchange among healthcare participants. For example, a 1997 Towers Perrin Integrated Healthcare Services Group study indicates approximately 30% to 40% of claim forms are either incomplete or inaccurate. This study also estimates that by automating the movement of administrative information, healthcare administrative expenses could be reduced by 20%. Private networks and public networks, such as the Internet, enable rapid communication of data among participants in the healthcare industry. The Internet's open architecture, universal accessibility and growing acceptance make it an increasingly important environment for business-to-business and business-to-consumer interaction. For many industries, the Internet is connecting previously disconnected business processes and allowing companies to automate workflows, lower distribution costs and extend their market reach. We believe the healthcare industry, because of its size, fragmentation and dependence on information exchange, is particularly well suited to benefit from greater use of the Internet. In addition, we believe that HCFA's recent approval of the secure transmission of medical data over the Internet will increase the utilization of electronic healthcare transactions. The increasing costs related to administrative complexities, the growing demand for connectivity and the continued growth in managed care are driving healthcare industry participants to outsource their information technology and administrative services. A 1998 HIMSS survey indicates that healthcare 32 36 organizations are poorly equipped to support managed care. Less than 10% of the companies surveyed indicated they had the software capability to perform utilization management, risk management, benefits management, claims management and health outcomes reporting. The HIMSS survey also indicates an increasing demand for healthcare information technology outsourcing solutions, with approximately 59% of healthcare organizations surveyed outsourcing some portion of their information technology services. According to the Gartner Group, the market for healthcare information technology and administrative services outsourcing is expected to be $3.8 billion in 2001. STRATEGY Nichols TXEN's objective is to use Internet-based technology to become the leading software application services provider and the leading administrative services provider to managed care organizations and to physician practices. Our strategy includes the following key elements: - Focus on providing outsourcing solutions for the administrative and information challenges of healthcare. We believe contractual complexity and an increase in the volume of healthcare transactions caused by managed care will continue to force healthcare companies to outsource information technology, especially administrative services. We plan to focus additional resources on providing administrative services using our Internet-based technology to meet the increased demand for complete solutions versus information technology outsourcing only. Our outsourcing solutions provide a faster and more efficient response to the needs of payors and providers than the alternative of buying a turnkey system and expanding in-house administrative infrastructure. We believe that we have an advantage over companies that provide only administrative services because we develop our own solutions and operate our own network data center and can directly and more quickly address the new, changing information demands of the healthcare industry. Furthermore, we believe that our history of effectively distributing software through our network data center positions us to capitalize on the improved distribution and access provided by the Internet. - Expand high recurring revenue model. We currently have a significant recurring revenue stream which is comprised of long-term, transaction-based and membership-based contracts. In addition, our focus on quality and customer satisfaction results in high customer retention rates enabling our revenues to increase as customers grow their businesses. We have identified many opportunities to provide additional solutions to new and existing customers. We believe that the continued development and enhancement of our Internet-based software application services and administrative outsourcing services will create additional recurring revenue opportunities through new fees, revenue sharing partnerships and e-commerce. - Increase efficiencies through expanded Internet-based connectivity, additional Internet-based software applications and process automation. Because we control the core processing software, technology, intranets, network data center and communications connectivity, we have the ability to rapidly make efficiency improvements. Nichols TXEN believes that planned improvements in automatic claim filing, automatic claim adjudication and automatic generation of payments will increase operating efficiencies and improve customer services. We plan to continue to invest in our Internet capabilities to enhance communication efficiencies. In addition, we invest in high-speed peripheral technology in the areas of document imaging, mail room operations and direct electronic data interchange. Because we actually perform administrative functions using our own technology, we maintain a dedicated team focused on reengineering processes for maximum efficiency. We have the ability to link physician practice processing software and managed care processing software to integrate claims and billing activities between our managed care clients and our physician practice clients providing for increased efficiency, quality and customer satisfaction. Increasing efficiency through automation and expanded connectivity enables us to realize economies of scale. 33 37 - Establish additional strategic relationships with leading Internet-based healthcare companies. We are pursuing additional strategic relationships with leaders in key Internet-based healthcare industry segments to broaden our portfolio of applications and services, and increase the number of managed care and physician practice services customers. We believe our existing connectivity with our customer base can be leveraged through additional product offerings provided through strategic relationships. - Acquire complementary businesses and technologies. We will focus on acquisitions of businesses, product lines, or technologies that can increase our customer base or enhance our capabilities. We intend to acquire other companies whose customer base, product lines or technologies would be complementary to our outsourcing model. NETWORK TECHNOLOGY ARCHITECTURE Our outsourcing services are delivered to customers through TXENet, our secure private network. Over the last two years, we have converted our network architecture to Internet-based technology. As of May 1999, approximately 50% of our managed care customers and 30% of our physician practice customers process their transactions using Internet protocols. We expect that most of our customers will be converted to Internet-based technology by December 2000. TXENet Our customers and our employees may access our application services through TXENet. We expect that by December 1999, our customers will be able to use a standard Internet browser to access our internally developed software applications and complementary third-party software to process transactions and manage business operations. The applications will be accessed through WebSTEPP, which is our intranet portal site application that will consolidate and provide easy access and organization of software application services. TXENetlink Our customers may access additional products and services by purchasing TXENetlink, which connects TXENet to the Internet. Customers using WebSTEPP will be able to obtain additional complimentary Internet applications and Internet content through our strategic relationships. TXENet users will be able to extend to their customers, suppliers and employees at remote locations access to Internet applications and content. We believe that this ability to extend our software application services will add significant value for a TXENet user. These extended services will be a focus of our e-commerce activities. TXENetlink customers will also receive basic Internet services, such as e-mail, web site hosting and general Internet access. 34 38 MANAGED CARE SERVICES DIVISION The Managed Care Services division's goal is to reduce the time and personnel needed to perform managed care administrative tasks through an optimized combination of technology, process automation and well-trained personnel. Our Managed Care Services customers access needed application services through TXENet to improve efficiency, automation connectivity and decision support. Our solutions help clients to: - increase operational efficiencies and reduce administrative expenses; - expand connectivity and automation utilizing Internet-based applications and services, or direct connections; - manage sophisticated benefit plans and complex provider contracts; - increase automatic claims processing and administrative workflow; - improve decision making through in-depth information analysis; and - focus on providing quality healthcare. Customers contract for services on a per enrolled health plan member per month basis which provides predictable administrative costs and enables customers to expand their business quickly without the need for additional infrastructure. These services lower the start-up costs and barriers to entry facing managed care organizations, enabling large organizations to enter niche markets easily and enabling small organizations to gain market entry. We have identified over 9,000 organizations that may benefit from our outsourcing services. The chart on the following page illustrates our Managed Care Services division. 35 39 MANAGED CARE SERVICES Nichols TXEN Customers Managed Care Software Application Managed Care Administrative Services Outsourcing Services Outsourcing Our Technology & Customer's Personnel Our Technology & Our Personnel | | | | ------Intranet Portal Site Application------- | | | TXENet Nichols TXEN secure private network/intranet Network Data Center Software Applications Services
Nichols TXEN E-commerce Software Nichols TXEN Software Applications 3rd Party Applications/Content - -------------------------------- ---------------------------------- ------------------------------ - -Provider Claim Inquiry* -High-end Managed Care Administration -Medical Informatics - -Eligibility Verification -Medical Utilization Management -Claim Edit - -Benefit Inquiry* -Managed Care Decision Support -DRG Code Finder - -Direct Employer Benefit/Enrollment* -Internet-based Reporting & Analysis* -Automated Medical Criteria - -Member Inquiry/Update+ -Integrated Physician Practice Management -Automated Fee Schedules -Medical Case Management*
Internet Protocols | | | TXENetlink | | Government Remote Employees Intermediaries Connections Health Plan Members ------------ Physicians -Standard Internet Connections* Employers -Internet Portal Site Applications* Labs -3rd Party Portal Sites* Suppliers -Customer Internet Sites* Pharmacy Patients Medical Informatics Hospitals Healthcare Participants * Currently Testing + In Development 36 40 Managed Care Technology Services Managed Care Technology Services, or MCT, customers outsource their technology functions to us but use their own administrative staff. Using high-speed connections, customers access software application services through our secure network. The primary applications that our customers use are internally developed, high-end software systems for managed care administration, decision support and medical management. Other applications include integrated third-party software. MCT customers are able to use the following software applications of Nichols TXEN: - TXEN-MHS -- to manage and control premium billing, capitation, benefit plans, membership data, eligibility, provider contracts, referrals, authorizations, claims and accounts payable; - Xtend -- to analyze transaction data and evaluate performance and quality; and - FirstSTEPP -- to automate functions previously performed manually, such as the approval of surgical procedures, hospital admissions, utilization review and specialist referrals. We also provide software application support, implementation, consulting and software development services. As of May 31, 1999, we provided MCT services to 61 customers, of which 13 were turnkey customers. We plan to make the following software generally available to our managed care customers by December 1999: - CaseSTEPP -- to automate functions associated with in-patient case management, such as patient case tracking, allocation and billing of staff time, cost tracking, supplier negotiation and concurrent review; - NextSTEPP -- to provide an Internet-enabled version of TXEN-MHS; - InfoSTEPP -- to provide Internet and intranet access to information directly from TXEN-MHS and Xtend; - WebSTEPP -- to serve as our intranet portal site that provides consolidated, easy access to TXENet application services, Internet content, and Internet applications; - TXEN MD.Com -- to provide physicians with the ability to use the Internet to access information regarding eligibility status, membership, benefits, patient payment responsibility, claim status, paid claim information and explanation of payments; and - TXEN HR.Com -- to provide human resources departments with the ability to use the Internet to access information regarding employment status, claim status, enrollment and benefits. Managed Care Administrative Services Managed Care Administrative Services, or MCA, customers outsource all of their information technology and some or all of their administrative functions to our Managed Care Services division. Through Nichols TXEN's administrative services center, customers utilize our personnel and technology to perform: - claims processing; - check processing; - eligibility management; - mailroom operations; - capitation risk management; - automated data entry; and - premium billing; - other related administrative services.
For our MCA customers, we use TXEN-MHS, FirstSTEPP and Xtend software applications to perform administrative functions. We create and maintain membership and eligibility data and provider and employer databases for customers. We enter claim information which is furnished by customers electronically or on paper. Our specialized software processes the claim based upon the applicable plan rules or the provider benefit contract rules. The claim is then paid or held for further examination. Depending on the nature of the claim, this adjudication process may be performed automatically by our specialized software or manually by our trained personnel. As part of our strategy, we intend to increase our ability to offer automatic claims adjudication to improve efficiency. Nichols TXEN also performs 37 41 utilization review services based on customer approval criteria which include determining the necessity of medical procedures and issuing certificates of admission or specialists referrals when appropriate. All denial recommendations are forwarded to the customer for final decision. We also offer customers in-patient care management services to monitor quality of care and length of stay. Many of the managed care organizations in our selected markets do not possess the resources to initiate a comprehensive utilization review program. We offer this capability with our internal professional medical staff consisting of physicians and nurses. As of May 31, 1999, we provided MCA services to 35 customers. Managed Care Services Supporting Software TXEN-MHS Managed Care Administration System. TXEN-MHS is the core software supporting our MCT and MCA services. Over the past nine years, we have modified and enhanced our licensed core software for managed care transaction processing in order to offer a comprehensive solution to the entire spectrum of managed care companies. We have combined TXEN-MHS with third-party products to provide integrated processing of related transactions. This provides our customers a single point of access to imaging and workflow management, clinical editing, provider credentialing and other functions. TXEN-MHS has electronic data interchange features that permit electronic transmission of information. The modular design and integrated database of TXEN-MHS provide the user with flexibility in system configuration for efficient operation without programmer intervention. We believe TXEN-MHS offers higher rates of automatic adjudication, automation and administrative efficiencies than competitive systems. FirstSTEPP Medical Management System. FirstSTEPP, our medical management system, improves the efficiency of utilization review services. FirstSTEPP, which is fully integrated with TXEN-MHS, supports pre-certification, authorization and utilization management requirements. FirstSTEPP is a distributed client-server system with "point and click" functionality for ease of use. User-defined medical treatment protocols assist medical management staffs to comply with the terms of individual benefit plans. In the FirstSTEPP application, menus are work driven, with most functions employing "drag and drop" functionality. Because FirstSTEPP is integrated with TXEN-MHS, information is instantly accessible concerning provider contracts, fee schedules, current enrollment, eligibility and member demographic data. FirstSTEPP allows utilization review nurses and physicians to perform quality outcomes management and assign patterns of treatment criteria. FirstSTEPP guides users through a predetermined task list of integrated functions that include: - - pre-certifications; - document templates; - - admission processing; - incidents of care templates; - - review and discharge processing; - correspondence processing; and - - authorization templates; - staff and workgroup management. - - inpatient hospitalization case management;
FirstSTEPP eliminates paperwork, minimizes compliance issues, eliminates double data entries and reduces administrative problems. FirstSTEPP features automated data storage and retrieval as well as internal and external correspondence capabilities. Xtend Decision Support Application Suite. The Xtend decision support application suite assists users in finding, analyzing and interpreting mission-critical information from managed care transaction data. The Xtend architecture is divided into two key components. The first component, Xtend/MHS, is a powerful transaction data replication engine and customized report writer. Xtend/MHS offers the following features: - - integration with TXEN-MHS; - transaction data replication; and - - easy information retrieval; - reporting templates. - - "point and click" visual interface;
38 42 The second component of Xtend is an executive information system, or EIS, into which specific modules may be connected. The first module available for the EIS system is the Xtend/HEDIS module which is based on industry standards for quality comparisons as published by NCQA. Xtend/HEDIS offers the following features: - easy manipulation of HEDIS reporting measures and other benchmarking measures; - quality of care analysis; - utilization and member analysis; and - integration with industry-standard spreadsheet and word processing software. PHYSICIAN PRACTICE SERVICES DIVISION The Physician Practice Services division's goal is to reduce the time and personnel needed to perform physician practice administrative tasks through an optimized combination of technology, process automation and well-trained personnel. Our Physician Practice Services customers can access needed application services through TXENet to improve efficiency, automation connectivity and decision support. Customers contract for services on a per transaction or percentage of revenues basis which provides customers with predictable administrative costs and enables them to expand their businesses quickly without the need for additional infrastructure. Our solutions help clients to: - accelerate collections; - improve compliance; and - reduce fixed expenses; - provide administrative efficiencies and timely data through electronic connectivity. - perform eligibility checks; - query claims status;
The Physician Practice Services division targets hospital-based and other physician groups, hospital emergency departments and physician networks. As of May 31, 1999, Nichols TXEN had 279 physician practice customers representing approximately 3,000 physicians. The chart on the following page illustrates our Physician Practice Services division. 39 43 PHYSICIAN PRACTICE SERVICES Nichols TXEN Customers Physician Practice Software Application Physician Practice Administrative Services Outsourcing Services Outsourcing Our Technology & Customer's Personnel Our Technology & Our Personnel | | | | ------Intranet Portal Site Application------- | | | TXENet Nichols TXEN secure private network/intranet Network Data Center Software Application Services
Nichols TXEN Software Applications 3rd Party Applications/Content - ---------------------------------- ------------------------------ - -High-end Physician Practice Administration -Medical Informatics - -Insurance Collections -Lab/Pharmacy Connectivity - -Appointment Scheduling -Eligibility Verification - -Direct Payor Connects -Claim Status - -Internet-based Reporting & Analysis* -Medical Records - -Provider Enrollment - -Integrated Managed Care Administration
Internet Protocols | | | TXENetlink | | Government Remote Employees Internet Intermediaries Connections Health Plan Members ------------ Physicians -Standard Internet Connections* Employers -Internet Portal Site Application* Labs -3rd Party Portal Sites* Suppliers -Customer Internet Sites* Pharmacy Patients Medical Informatics Hospitals Healthcare Participants * Currently Testing + In Development 40 44 Physician Practice Technology Services Physician Practice Technology Services, or PPT, customers outsource their software applications and system functions to Nichols TXEN, but use their own administrative staff. Through high-speed connections customers access application services from our secure network. The primary applications that our customers use are our internally developed, high-end software applications for physician practice administration, decision support and financial management. In addition, we offer integrated third-party supporting software applications. We differentiate our physician practice solutions by enabling customers to connect directly to payors, hospitals and other providers. PPT customers are able to use the following software applications of Nichols TXEN: - MDr98 -- to manage and control appointment scheduling, medical billing, electronic remittance, payment processing, electronic claims submission and insurance follow-up; and - Decision Manager 3.0 -- to analyze billing and practice information to detect trends regarding payments, utilization, costs and demographics. In addition, we offer PPT customers access to our automated mailroom and customized statement processing capabilities. We also provide software support, implementation, consulting and software development services. As of May 31, 1999, we provided PPT services to 218 customers. We plan to make the following software generally available to our customers by December 1999: - MDr-STEPP -- to provide an Internet-enabled version of MDr98; - MDr-WebSTEPP -- to serve as our intranet portal site that provides consolidated, easy access to TXENet physician practice applications; and - MDr-InfoSTEPP -- to provide intranet and Internet access to information directly from MDr98 and Decision Manager 3.0. Physician Practice Administrative Services Physician Practice Administrative Services, or PPA, customers outsource all of their information technology systems and some or all administrative functions to the Physician Practice Services division. Through our back office service centers, customers utilize our personnel and technology to perform: - - billing; - data entry; - - chart development; - coding; - - claims submission; - statement processing; - - insurance follow-up; - payment posting; and - - first level collections; - operational analysis.
For PPA customers, we use MDr98 and Decision Manager 3.0 to perform administrative functions. We create and maintain patient, medical chart, physician credentials, insurance and referral data bases for customers. Nichols TXEN enters billing information that is furnished by customers electronically or on paper. Our specialized software processes the bills based upon payor plan rules, current procedural technology, or CPT, guidelines and applicable provider fee schedules. In addition, our specialized software edits the bill to ensure accuracy based on predetermined rules. The bill is then submitted electronically or mailed to the appropriate payor. As part of our strategy, we intend to increase our ability to automate billing submissions and remittances electronically to improve efficiency. Nichols TXEN also performs physician procedure and diagnosis coding based on CPT guidelines, international classification of disease guidelines, commonly known as ICD-9 codes, and public and private payor guidelines. In addition, we provide trained temporary staffing for physician offices for administrative work and billing-oriented tasks. As of May 31, 1999, we provided PPA services to 61 customers. 41 45 Physician Practice Services Supporting Software MDr98 Physician Practice Administration System. MDr98 is the core software supporting our PPT and PPA services. Over the past 30 years, Nichols TXEN has modified and enhanced our core software for physician practice transaction processing. We believe MDr98 is the only software product that offers physician practice groups the complete functionality and market place connectivity necessary to succeed in today's complex healthcare environment. Our MDr98 is a comprehensive medical practice management system consisting of one or more terminals and printers installed in medical offices and linked by dedicated communication lines to our network data center. MDr98 is a complete medical practice administration system for large physician networks, hospital-based physicians, hospital emergency departments and management services organizations. MDr98 is integrated with the Managed Care Services division's transaction processing software so customers may receive real-time eligibility verification, preliminary claims editing, online claims submission and electronic remittance. MDr98 capabilities include the following functions: - - billing management; - insurance processing and tracking; - - appointment scheduling; - windows and text based screens; - - payments and statement management; - electronic claim filing and remittance; - - secondary filing; - decision management; and - - master patient index; - medical records interfaces. - - claims submission management;
We can file claims electronically from our network data center to more than 300 insurance carriers, Medicare and Medicaid. Explanation of benefits or payments information appears on-screen for medical office staff to review, adjust and post with a single keystroke. A claim screening system using edits and error checking techniques helps assure that the claim has the correct information before it is transmitted for payment. MDr98 also provides on-line access to selected payors and hospitals through our network data center. This capability affords customers the ability to obtain information regarding claim status, patient eligibility, benefit plan, referring physician, pre-certification and other data which reduces errors that delay payments. Customers can also access hospital admission data to apply charges to patient accounts. We added a master patient index that enables any physician to securely share information with any other physician on the network and facilitates integration with hospital systems. Decision Manager 3.0. Decision Manager 3.0 support application assists users in finding, analyzing and interpreting mission-critical information from physician practice transaction data. Decision Manager 3.0 has a powerful transaction data replication engine and customized report writer. Decision Manager 3.0 offers the following features: integration with MDr98, transaction data replication, easy information retrieval, reporting templates and "point and click" visual interface. Decision Manager 3.0 is a Microsoft Windows-based decision support application designed for Microsoft Access. Options available with Decision Manager 3.0 include activity-based cost analysis, procedure analysis and diagnosis, reimbursement analysis and referral summary. Decision Manager 3.0 offers improved control over data selection and sorting, along with greater flexibility to customize reports. STRATEGIC RELATIONSHIPS In addition to outsourcing application technology developed by Nichols TXEN, our managed care and physician practice customers may also access additional integrated applications offered by our strategic partners. These partners include: Beech Street/CAPP Care Corporation. Provides online electronic access to Beech Street/CAPP Care, one of the largest physician practice organization networks. The Beech Street/CAPP Care network has over 4,300 hospitals and healthcare facilities and over 320,000 provider locations under contract and serves more than 15 million individuals in the United States. 42 46 HealthGate Data Corporation. Provides over 27 million pages of health and medical information over the Internet. HealthGate helps healthcare professionals, patients and health conscious consumers make better informed healthcare decisions. HealthStream, Inc. Provides a comprehensive library of online real-time continuing education courses for physicians, nurses and allied healthcare professionals. Medicode. Medicode develops and markets medical claims editing and bill review software, healthcare pricing databases, disease management and utilization analysis products and coding publications, and software for payors, providers and employees. The Potomac Group. Provides online electronic access to the eligibility databases of over 40 commercial and government payors. ENVOY Corporation. Provides electronic data interchange services to the healthcare industry and offers batch claims submission and online eligibility verification, claims, status, and referral processing to managed care organizations. OPERATIONS Network Data Center We believe that our method of delivering software applications and administrative services using Internet-based technology delivered through our network data center is superior to that offered by turnkey system vendors. The accessibility of network resources from a central location gives us the ability to implement systemwide software upgrades without the delay experienced by typical turnkey system vendors. Customers connect to TXENet and the underlying network data center directly through their own local area networks, or LANs, utilizing high-speed digital communications. The network data center presently processes over 500 million transactions per year. The network uses IBM AS/400 midrange and IBM S/390 massively parallel servers as the core transaction servers. The servers currently have over 2.5 terabytes of disk space with approximately 7,000 devices attached. We believe that our network connection with customers adds value to the technology and services we offer. The cost of computer systems necessary to process healthcare related transactions is substantial. Our network data center model eliminates or reduces costs associated with the following: hardware and software upgrades and maintenance, performance monitoring, floor space, system training, insurance, computer operations, electrical power, security administration, climate control, back-up processes and off-site storage. The centralized network data center enables Nichols TXEN to achieve economies of scale utilizing a single system for many customers. The centralized network data center allows us to offer efficiencies in transaction processing and the ability to supplement our basic services with more advanced technologies, such as decision support information, Internet connectivity and higher quality peripheral and supporting technology. Because our strategy has been to deploy our technology over a wide-area network, we expect that continued integration with the Internet should be easier, more cost effective and more comprehensive. Customers using our network data center have immediate access to new software products developed by Nichols TXEN, upgrades of existing products and third-party software connected to the network. In addition, enhancements made to address issues for one customer may be shared by all users of our network. The center also facilitates customer support because customer representatives can access software and customer data while answering customer inquiries. Nichols TXEN has an extensive disaster recovery plan for our network data center, which is located in Birmingham, Alabama. Our data center is protected from power outages and all data is backed up daily to a remote location. It is possible, however, that a disaster, such as a tornado or fire, could disable or destroy our equipment and facilities. As a contingency plan for such disasters, Nichols TXEN has contracted with a third party to provide temporary computer facilities, utilizing our data back-ups and software. We should be able to resume network data center operations within 72 hours of major damage. 43 47 Sales and Marketing We market and sell our services through our own direct sales force. We divide our sales and marketing activities between obtaining new customers and expanding services offered to existing customers. As of May 31, 1999, Nichols TXEN employed 17 sales representatives with geographic and market segment assignments to market our services and technology to new customers, and we employed five account managers to sell additional services and technology to existing customers. These representatives also support existing customers in obtaining new business by assisting their marketing programs. We consider our approach to sales and marketing a competitive advantage. Nichols TXEN utilizes specialized software to manage marketing and sales activities. The software helps manage market research, sales management reports, forecasting and sales-cycle tracking. At the core of all sales and marketing efforts is a strategic, internally-developed database with detailed records of each prospect in target markets. Sales prospects are generated through customer references, requests for proposals, direct mail, trade shows and our internal telemarketing efforts. As of May 31, 1999, we employed seven marketing representatives whose primary function is to generate sales leads from activities that include telephone calls, Internet searches, market research and direct mail solicitations. We estimate that we will make telemarketing calls to approximately 17,000 potential customers in fiscal year 1999. Implementation, Support and Training Services We believe that a close and active service and support relationship is important to customer satisfaction and provides us with important information regarding customer requirements and additional sales opportunities. Proper implementation, training and on-going technical support are necessary for the solutions to operate effectively and efficiently. Each customer goes through a detailed implementation process which includes the set-up of business rules and databases, the conversion of historical data and classroom training conducted at our training facilities. Nichols TXEN supports each customer with technical support analysts and account coordinators who oversee customer software and business issues and answer questions. In addition to on-going support, the customer receives software updates. Customers may also request custom software modifications to meet specific customer requirements. These custom modifications are implemented into our regular upgrades and can, therefore, be shared with all customers. We provide on-line and printed documentation for software and implementation information. Research and Development Software product vendors primarily rely on customer comments regarding their products in order to decide upon software enhancements. In addition to this approach, because we control the software, we have a unique insight into enhancements that will improve productivity. These enhancements improve automation and, therefore, contribute to the efficiency of all users. Nichols TXEN also leverages customer-funded modifications by making them available to all network users. Research and development costs were $1.0 million in fiscal year 1996, $1.6 million in fiscal year 1997 and $3.3 million in fiscal year 1998, of which 3% in fiscal year 1996, 4% in fiscal year 1997 and 19% in fiscal year 1998, respectively, were customer-sponsored research and development related to the modification and development of software products. As of May 31, 1999, our research and development staff consisted of 65 employees. To enhance the usability of TXENet and TXENetlink applications, our software developers use graphical user interface tools, primarily Java and Internet-browser technology. The graphical interface makes data entry, information review, integration and workflow on software systems faster, easier and more intuitive. Planned enhancements for our core Internet-based applications include a visually enhanced customer service module, a benefit plan building assistant to navigate users through the data entry process, and Internet-based reporting and decision support. We focus a substantial part of our research and development effort on improving automatic claim filing and automatic claim adjudication. Planned enhancements to achieve this goal include computer-aided claims classification, enhanced MDr98 pre-claim submission audits, increased integration between TXEN-MHS and MDr98, optical character recognition, improved mail room capabilities and enhanced electronic verifications, submissions and receipts. In addition to the basic applications, we currently offer two primary decision support products, Xtend for managed care and 44 48 Decision Manager 3.0 for physicians. We are expanding the Internet connectivity of our core decision support software applications to more fully integrate with Internet publishing of key decision support information. In addition, we have adopted ORACLE as the fully scalable Xtend database. COMPETITION The business of providing software application services and administrative services to managed care organizations and medical practices is highly competitive. The market for our transaction processing technology and services is characterized by rapid change and technological advances requiring ongoing expenditures for research and development and the timely introduction of new technology and enhancements of existing technology. Our future success will depend, in part, upon our ability to enhance our current technology and services, respond effectively to technological changes, sell additional services to our existing customer base, introduce new technologies and meet the increasingly sophisticated needs of our customers. In general, we compete based on price, the performance of our products and the quality of our service with competitors that vary in the size, scope and breadth of the products and services they offer. We compete with a number of companies that serve various segments of the healthcare industry, including: - administrative outsourcing providers; - software application service providers; - vendors of turnkey software systems; and - Internet healthcare connectivity solutions providers. We believe that we have numerous competitors for our administrative outsourcing solutions with no single competitor having a dominant position, except for Medaphis Inc. with respect to physician practice services. We believe the software application service provider market is relatively new, quickly evolving and without a clearly established market leader. We believe that there are numerous turnkey system vendors including McKesson HBOC, Inc., Medical Manager Corp. and IDX Systems Corporation. We believe that Internet healthcare solutions providers are numerous and include CareInsite, Inc., Healtheon Corporation and Cybear, Inc. In addition, the ability of potential customers to perform administrative services in-house is a competitive factor. Potential customers may be influenced to select a turnkey system by the customer's management information systems department who may believe that our service solutions will reduce the department's internal staff and equipment requirements. Many of our current and potential competitors have significantly greater financial, marketing and other competitive resources than Nichols TXEN. Current and potential competitors, including providers of information technology to other segments of the healthcare industry, may establish joint marketing arrangements or other relationships to compete more effectively against us and new competitors may emerge. INTELLECTUAL PROPERTY Our success is dependent, in part, on our ability to protect our proprietary software and confidential information from unauthorized use and disclosure. We do not own any patents and have not registered any copyrights, trademarks, service marks or trade names with the United States Patent and Trademark Office. We rely on a combination of trade secrets, common law intellectual property rights, license agreements, nondisclosure and other contractual provisions and technical measures to establish and protect our proprietary rights in our intellectual property and confidential information. There can be no assurance that the legal protections afforded to us or the steps taken by us will be adequate to prevent misappropriation of our technology and confidential information. In addition, these protections do not prevent independent third-party development of competitive products or services. Although we believe that our proprietary rights do not infringe upon the proprietary rights of third parties, we were recently contacted by legal counsel representing the owner of patented technology allegedly possessing functionality similar to that of our non-patented technology for electronic integrated commerce and health care management systems. We were offered an opportunity to obtain a license for the use of this patented technology. If it is determined that the functionality of our technology overlaps this or other technology, we may be subject to intellectual 45 49 property infringement claims and we could be required to enter into a license agreement or royalty arrangement with the party asserting the claim or be forced to stop using some of our technology. We may also be required to indemnify customers for claims made against them. While we intend to vigorously defend any claims, these consequences could have a material adverse effect on our business. FACILITIES We currently occupy approximately 109,000 square feet in two leased facilities in Birmingham, Alabama. In addition, we have leased approximately 25,000 square feet in Birmingham that is scheduled to be occupied by April 2000. We currently lease approximately 5,000 square feet in Gadsden, Alabama and Huntsville, Alabama, to house a portion of our PPA operations. EMPLOYEES Nichols TXEN had 586 employees as of May 31, 1999, of which 332 were in the Managed Care Services division, 202 were in the Physician Practice Services division, and 52 were in corporate support services such as finance, administration, marketing and internal information technology support. We believe our relationship with our employees is good. None of our employees are governed by a collective bargaining agreement. In order to augment our hiring of ready-to-work skilled individuals, we have employed several programs to educate and train our work force. We offer our employees extensive training courses covering: - - software; - managed care and physician practice operations; - - management; - claims examination; and - - project management; - human resources.
We augment our regular recruiting efforts of university visits, job fairs and employee referral programs with a special recruiting and training program for college graduates from a variety of disciplines with high grade point averages. These college graduates are placed in an intense sixteen-week training program. The training program educates these new employees on the managed care market and also provides concentrated training on business division products and service. During fiscal year 1998, we conducted fall, spring and summer classes training 48 new employees. At the end of the training program, these new employees were assigned positions with Nichols TXEN. To recruit and train additional personnel, Nichols TXEN participates in a six-week pre-employment screening program developed and funded primarily by the State of Alabama. Instruction provides participants with the basic skills necessary for a position with us. The State of Alabama screens and selects applicants expressing an interest in the program. Individuals are not paid for participation in the program and we are not obligated to hire any of the participants at the end of the program. We use a database of scanned resumes and specialized software to manage our recruiting and hiring efforts. GOVERNMENT REGULATION The healthcare industry is subject to intensive regulation by both the federal and state governments. One of Nichols TXEN's services, the preparation and submission of claims for payment, has been subject to periodic and continuing scrutiny for compliance with laws and regulations regarding, among other things, inducements for patients referrals or services which are government-reimbursed, incentives to improperly code for procedures, and licensure. This regulatory framework is complex and the laws are very broad in scope, subject to differing interpretations and lack substantive court decisions addressing many arrangements under which we have conducted and expect to conduct our business. Any failure to comply, or alleged failure to comply, with applicable laws and regulations could have a material adverse effect on our business, financial condition or results of operations. 46 50 Licensure, Registration and Consumer Protection In general, Nichols TXEN's third party administration and utilization review operations are regulated by statutes and regulations of various states. We are currently licensed as a Third Party Administrator or Private Review Agent, or have been deemed to have achieved licensure by virtue of our URAC accreditation by the American Accreditation Health Care Commission, in all states in which we provide these services. We believe that we are in substantial compliance with the licensing laws of each state in which we conduct business. In addition, federal and state consumer protection laws may apply to our billing activities in which we bill patients directly for the cost of physician services provided. We believe that we are in substantial compliance with the consumer protection laws of each state in which we conduct business. Professional Practice Persons engaged in the practice of medicine and nursing must be licensed in various states. The professional practice of each profession is regulated by its respective professional board. Professional practice rules and regulations are comprehensive and generally set forth various activities which constitute professional misconduct, or for which a professional may be subject to sanctions, including loss of professional license. We believe that all of our physicians and nurses are in substantial compliance with all applicable professional regulations. However, legislative efforts are underway in certain states which, if implemented, could impose additional professional practice obligations on our physicians conducting utilization reviews. Anti-Kickback Statute Under Medicare, Medicaid and other government funded healthcare programs, federal and state governments enforce a federal statute that prohibits the offer, payment, solicitation or receipt of any remuneration, directly or indirectly, overtly or covertly, in cash or in kind to induce or in exchange for (1) referring patients covered by the programs, or (2) leasing, purchasing, ordering or arranging for or recommending the lease, purchase or order of any item, good, facility or service covered by the programs. Prohibited remuneration includes any kickbacks, bribes or rebates. The statute is commonly referred to as the Anti-Kickback Statute. A person or entity that violates the Anti-Kickback Statute may be penalized. These penalties include criminal fines of up to $25,000 per violation and imprisonment. In addition, civil penalties can be imposed up to $50,000 per violation, plus three times the actual damages. Further, the Secretary of the Department of Health and Human Services has the authority to exclude or bar individuals or entities who violate the Anti-Kickback Statute from participating in Medicare and Medicaid. Exclusion may be imposed even if participation is indirect. If Nichols TXEN, our personnel, or any significant customer is penalized under the Anti-Kickback Statute, for whatever reason, there may be a significant loss in our revenue. The Anti-Kickback Statute is broad in scope and courts have not been consistent in their interpretations of the law. To clarify what acts or arrangements will not be subject to prosecution by the Department of Health and Human Services, or DHHS, Office of Inspector General or the United States Attorney, DHHS adopted a set of safe harbor regulations. DHHS continues to publish clarifications to such safe harbors. Arrangements that meet all the requirements of an applicable safe harbor are considered not to violate the Anti-Kickback Statute. The activities covered by the safe harbors include the following: - investment interests; - rental of space, land, or equipment; - personal services and management - sales of physician practices; contracts; - warranties; - physician referral services; - payments to employees; and - discounts; - waivers of beneficiary deductibles and - group purchasing organizations; co-payments.
47 51 Failure to fit within a safe harbor provision does not necessarily mean that the structure of a transaction is illegal or that it will be prosecuted under the Anti-Kickback Statute. We do not believe that the final regulations contain a safe harbor which covers all the arrangements under which we provide billing services to our customers. However, we believe that our billing arrangements with physicians and other customers do not violate the federal Anti-Kickback Statute, or similar state laws. The Health Insurance Portability and Accountability Act of 1996 In an effort to combat healthcare fraud, Congress included several anti-fraud measures in HIPAA. HIPAA broadened the scope of fraud and abuse laws, such as the Anti-Kickback Statute, to include all healthcare services, whether or not they are reimbursed under a federal program. Federal healthcare offenses include healthcare fraud and making false statements relative to healthcare matters. Any person or entity that knowingly and willfully defrauds or attempts to defraud a healthcare benefit program or obtains by means of false or fraudulent pretenses, representations or promises, any of the money or property of any healthcare benefit program in connection with the delivery of healthcare services is subject to a fine and/or imprisonment. In addition, any person or entity that knowingly and willfully falsifies or conceals or covers up a material fact or makes any materially false or fraudulent statements in connection with the delivery of or payment of healthcare services by a healthcare benefit plan is subject to a fine and/or imprisonment. Civil fines and exclusion may be imposed on individuals who retain an ownership or control interest in a Medicare or Medicaid participating entity after such individuals have been excluded from participating in the Medicare or Medicaid program. In particular, civil monetary penalties or exclusion may be imposed on any person who engages in a pattern or practice of presenting or causing to be presented a claim for an item or services that is based on a code that the person knows or should know will result in a greater payment to the person than the code the person knows or should know is applicable to the item or service actually provided. We believe that all of our operations comply with HIPAA. False Claims Act Under the Federal False Claims Act, liability may be imposed on any person who knowingly submits or participates in submitting claims for payment to the federal government which are false or fraudulent, or which contain false or misleading information. Liability may also be imposed on persons who knowingly make or use a false record or statement to avoid an obligation to pay the federal government. "Person" includes an individual, company or corporation. Various state laws impose liability for similar acts. Claims under the Federal False Claims Act may be brought by the federal government or private "whistleblowers." If we are found liable for a violation of the Federal False Claims Act, or any similar state law, it may result in substantial civil and criminal penalties. In addition, Nichols TXEN could be prohibited from processing Medicaid or Medicare claims for payment. The Federal Food, Drug and Cosmetic Act The United States Food and Drug Administration, or FDA, is responsible for assuring the safety and effectiveness of medical devices under the Federal Food, Drug and Cosmetic Act. Computer applications and software are considered medical devices and subject to regulation by the FDA when they are indicated, labeled or intended to be used in the diagnosis of disease or other conditions, or in the cure, mitigation, treatment or prevention of disease, or are intended to affect the structure or function of the body. We do not believe that any of our current applications or services are subject to FDA jurisdiction or regulation; however, as we expand our application and service offerings into new areas, we may become subject to FDA regulation. Nichols TXEN has no experience in complying with FDA regulations and compliance with FDA regulations could prove to be time consuming, burdensome and expensive. Prompt Payment Laws Various states have passed laws regarding the prompt payment of medical claims by health plans. If a claim is brought against us, and we are found to have violated a law regarding the prompt processing of claims for payment, we may incur civil or other penalties. 48 52 Government Investigations There is increasing scrutiny by law enforcement authorities, the DHHS Office of Inspector General, the courts and Congress of arrangements between healthcare providers and suppliers or other contractors which have a potential to increase utilization of government healthcare resources. In particular, scrutiny has been placed on coding of claims for payment and contracted billing arrangements. Investigators have demonstrated a willingness to look beyond the formalities of business arrangements to determine the underlying purposes of payments between healthcare providers and suppliers and contractors. Although, to our knowledge, neither Nichols TXEN nor any of its customers is the subject of any investigation, we cannot tell whether Nichols TXEN, or its customers, will be the target of governmental investigations in the future. Confidentiality Various federal and state laws establish minimum standards for the maintenance of medical records to protect the confidentiality of patient medical information. In the course of our business, we receive medical records for various patients of our customers. As a result, Nichols TXEN is subject to one or more of these medical records and confidentiality laws. In addition, the applicability to the Internet of existing laws in various jurisdictions governing personal privacy is uncertain and demand for our services may be affected by additional regulation of the Internet. For example, until recently HCFA guidelines prohibited transmission of Medicare eligibility information over the Internet. Any new legislation or regulation regarding the Internet, such as the new rules recently mandated by federal law and proposed by the HCFA to ensure the integrity and confidentiality of patient data by creating mandatory security standards for entities which maintain or transmit health information electronically, could have an adverse effect on our business. LEGAL PROCEEDINGS We are involved in various lawsuits and claims arising in the normal course of business. In our opinion, although the outcomes of these suits and claims are uncertain, in the aggregate they should not have a material adverse effect on our business, financial condition or results of operations. 49 53 MANAGEMENT EXECUTIVE OFFICERS AND DIRECTORS The following table sets forth information concerning each of Nichols TXEN's directors and executive officers:
NAME AGE POSITION ---- --- -------- Thomas L. Patterson(1)............... 56 Chairman of the Board Paul D. Reaves(1).................... 42 Chief Executive Officer and Director H. Grey Wood......................... 43 President, Chief Operating Officer and Director John D. McKay........................ 37 Chief Financial Officer W. Sanders Pitman.................... 37 Vice President and General Manager, Managed Care W. Luckey Crocker.................... 44 Vice President and General Manager, Physician Practice Chris H. Horgen(1)................... 52 Director James D. Kever(2)(3)................. 46 Director James I. Harrison, Jr.(2)(3)......... 66 Director Patsy L. Hattox...................... 50 Secretary Allen E. Dillard..................... 39 Treasurer
- --------------------------- (1) Member of the Executive Committee. (2) Member of the Audit Committee. (3) Member of the Compensation Committee. All directors of Nichols TXEN hold office until the next annual meeting of the stockholders and the election and qualification of their successors. Officers serve at the discretion of the Board of Directors. Thomas L. Patterson has been Chairman of the Board of Nichols TXEN since the acquisition of TXEN, Inc. in August 1997. Since May 1998, Mr. Patterson has been employed part-time in the capacity of Chairman of the Board. From 1989 to August 1997, Mr. Patterson served as Chief Executive Officer and President of TXEN, Inc., one of our predecessors, which he co-founded. In 1980, Mr. Patterson founded SEAKO, Inc., an information technology company for practice management and managed care systems. From 1980 to 1989, Mr. Patterson served as President of SEAKO, Inc. He also serves on the Board of Directors of Nichols Research. Paul D. Reaves has served as our Chief Executive Officer since May 1998. Mr. Reaves was a co-founder of TXEN, Inc. and he served as Executive Vice President of TXEN, Inc. from 1989 to 1997. From 1981 to 1989, Mr. Reaves was employed by SEAKO, Inc. in programming, implementation, customer support and sales and marketing. Mr. Reaves served as Vice President of SEAKO, Inc. from 1985 to 1989. H. Grey Wood has served as our President since January 1998 and as our Chief Operating Officer since August 1997. Mr. Wood served as Vice President and General Manager of TXEN, Inc. from 1995 to 1997. From 1993 to 1995, he was Director and General Manager of the physician Practice Management Group of CSC Healthcare Systems, Inc., a vendor of turnkey practice management and managed care software. John D. McKay has served as our Chief Financial Officer since 1997. From 1988 to 1996, he served as Controller of one of our predecessors, Computer Services Corporation. From 1982 to 1988, Mr. McKay held various staff and management positions with Ernst & Young LLP, focusing on healthcare related companies, including HMOs, hospitals and large physician groups. Mr. McKay is a Certified Public Accountant. W. Sanders Pitman has served as Vice President and General Manager of the Managed Care Services division since May 1997. In 1990, Mr. Pitman assisted in the formation of MACESS Corporation, a supplier of imaging and workflow solutions for the managed care industry. From 1990 to 1997, Mr. Pitman 50 54 served in various positions with MACESS, most recently as Chief Operating Officer. From 1986 until 1990, Mr. Pitman held practice management and managed care sales positions with SEAKO, Inc. W. Luckey Crocker has served as Vice President and General Manager of the Physician Practice Services division since September 1998. Mr. Crocker served as Vice President of existing account sales from June 1998 to September 1998. Mr. Crocker was Director of Existing Account Sales from 1996 to June 1998. Mr. Crocker worked in sales for International Business Machines from 1993 to 1996. He was Director of the Practice Management Division for CSC Healthcare Systems, Inc., from 1989 to 1993, Vice President for Special Projects for SEAKO, Inc. from 1988 to 1989, and Vice President of Sales and Customer Support for Computer Services Corporation from 1987 to 1988. Chris H. Horgen became a director of Nichols TXEN in 1998. Mr. Horgen served as a director of TXEN, Inc., from 1992 to 1994. Mr. Horgen is a co-founder of Nichols Research and has served as its Chairman of the Board since 1991 and as its Chief Executive Officer since March 16, 1999. Mr. Horgen also served as Chief Executive Officer of Nichols Research from 1983 to 1997. Mr. Horgen was Co-Chairman of the Board of Nichols Research from 1984 to 1991 and its Executive Vice President from 1976 to 1983. Mr. Horgen also serves as a director of SouthTrust Bank of Alabama, N.A. James D. Kever became a director of Nichols TXEN in 1998. Mr. Kever has served as President and Co-Chief Executive Officer of ENVOY Corporation, an electronics data interchange company, since 1995. He has served as a director of ENVOY Corporation since 1991. Mr. Kever joined ENVOY Corporation as Treasurer and General Counsel in 1981. From 1984 to 1995, he served as Executive Vice President of ENVOY. Mr. Kever is a Certified Public Accountant and an attorney. James I. Harrison, Jr. became a director of Nichols TXEN in 1998. Mr. Harrison is the owner of Carport, Incorporated, a retail automotive parts store chain, and has served as its Chairman of the Board and Chief Executive Officer since 1983. Mr. Harrison founded Harco Drug, Inc., a retail drug-store chain, in 1961 and served as its Chairman of the Board and Chief Executive Officer from 1961 to 1997, at which time it was merged with the RiteAid Corporation. Mr. Harrison serves as a director of AmSouth Bank Corporation and ALFA, Inc. Patsy L. Hattox became Nichols TXEN's Secretary in 1998. Ms. Hattox has been employed by Nichols Research since 1976, and has served as the Secretary and Chief Administrative Officer of Nichols Research since 1991. Ms. Hattox serves on the Board of Directors of Nichols Research. Ms. Hattox's compensation is paid by Nichols Research. Allen E. Dillard became Nichols TXEN's Treasurer in 1998. Mr. Dillard has been employed by Nichols Research since 1992 and has served as the Chief Financial Officer of Nichols Research since 1994. Mr. Dillard's compensation is paid by Nichols Research. COMMITTEES OF THE BOARD OF DIRECTORS The Executive Committee is empowered to exercise all authority of the Board of Directors of Nichols TXEN except as limited by the Delaware General Corporation Law. Under Delaware law, an executive committee may not, among other things, recommend to stockholders actions required to be approved by stockholders, fill vacancies on the Board of Directors, amend the bylaws or approve the reacquisition or issuance of shares of the corporation's capital stock. The Compensation Committee is responsible for reviewing and recommending salaries, bonuses and other compensation for our executive officers. The Compensation Committee also is responsible for administering our stock option plans and for establishing the terms and conditions of all stock options granted under these plans, unless these functions have been retained by the Board of Directors. The Audit Committee is responsible for recommending independent auditors, reviewing with the independent auditors the scope and results of the audit engagement, monitoring our financial policies and control procedures and reviewing and monitoring the provisions of non-audit services performed by our auditors. 51 55 DIRECTOR COMPENSATION Prior to completion of this offering, non-employee directors received no compensation for service on the Board of Directors. Following completion of this offering, directors not employed by Nichols TXEN or Nichols Research will receive a fee of $2,500 for each board meeting attended and $500 for each committee meeting attended which is held independently of a board meeting. After completion of this offering, the non-employee directors will be eligible to receive options pursuant to Nichols TXEN's Non-Employee Director Stock Option Plan. The Director Stock Option Plan will become effective upon consummation of this offering. Under the Director Stock Option Plan, each director who is not an officer or employee of Nichols TXEN, Nichols Research or an officer or employee of a majority-owned subsidiary or joint venture of Nichols TXEN, will be granted an option to purchase 5,000 shares of common stock at the initial public offering price. Each subsequently appointed or elected non-employee director will be granted an option to purchase 1,000 shares of common stock at an exercise price equal to the fair market value on the date of the grant. In addition, each non-employee director will be granted an option at each annual meeting of stockholders to purchase 1,000 shares of common stock at an exercise price equal to the fair market value on the date of the grant. A total of 50,000 shares of common stock are available for awards under the Director Stock Option Plan. DIRECTOR INDEMNIFICATION Nichols TXEN has entered into indemnification agreements with each of its directors that provide the maximum indemnification allowed to directors under Delaware law. In addition, as authorized by our amended and restated bylaws and Delaware law, the indemnification agreements provide generally that we will advance expenses incurred by directors in any action or proceeding as to which they may be entitled to indemnification. EXECUTIVE COMPENSATION The following table sets forth the total compensation paid or accrued by Nichols TXEN for the fiscal year ended August 31, 1998, for its Chief Executive Officer and the four highest compensated executive officers of Nichols TXEN whose total annual salary and bonuses determined at August 31, 1998, exceeded $100,000: SUMMARY COMPENSATION TABLE
ANNUAL COMPENSATION YEAR ENDED AUGUST 31, 1998(1) -------------------- ALL OTHER NAME AND PRINCIPAL POSITION SALARY BONUS COMPENSATION(2) --------------------------- -------- -------- --------------- Paul D. Reaves..................................... $125,000 $ 78,432 $1,993 Chief Executive Officer Thomas L. Patterson................................ 133,529 -- 2,000 Chairman of the Board H. Grey Wood....................................... 125,000 69,368 2,000 President and Chief Operating Officer W. Sanders Pitman.................................. 110,000 187,704 1,420 Vice President and General Manager, Managed Care W. Luckey Crocker.................................. 78,750 25,000 2,000 Vice President and General Manager, Physician Practice
- --------------------------- (1) "Annual Compensation" does not include the value of perquisites or other personal benefits, if any, furnished by Nichols TXEN to the officers (or for which it reimburses the officers), unless the value of such benefits in total exceeds the lesser of $50,000 or 10% of the total annual salary and bonus reported in the above table. (2) Amounts matched into a 401(k) Plan by Nichols TXEN under the Nichols Research Retirement Plan for the fiscal year ended August 31, 1998. 52 56 EMPLOYEE BENEFIT PLANS 401(k) Plan Substantially all full-time employees of Nichols TXEN are covered by a defined contribution plan offered through Nichols Research. Employees are permitted to defer up to 15% of their salary. Nichols Research matches the employee contribution's up to a maximum of 2% of the employee's salary. Discretionary contributions may also be made to the plan as determined annually by the Nichols Research Board of Directors. Amounts charged to Nichols TXEN's earnings with respect to the plan were approximately $38,000 for fiscal year 1996, $38,000 for fiscal year 1997 and $124,000 for fiscal year 1998. We intend to establish our own defined contribution plan with similar terms in the future. Until that time, we will bear our allocable share of the costs of the Nichols Research plan. 1998 Stock Option Plan Nichols TXEN adopted the Nichols TXEN Corporation 1998 Stock Option Plan on November 6, 1998. Nichols TXEN has reserved 1,700,000 shares of common stock, subject to adjustments, for issuance to key employees of Nichols TXEN, its subsidiaries and its parent corporation, Nichols Research. As of May 31, 1999, options exercisable for 746,000 shares of common stock at an exercise price equal to the initial public offering price were granted subject to the completion of this offering. The 1998 Stock Option Plan permits a committee composed of either the entire Board of Directors or two or more disinterested non-employee directors of Nichols TXEN to issue incentive stock options as defined in Section 422 of the Internal Revenue Code of 1986, as amended, and non-statutory stock options that do not conform to the requirements of that Code section. The committee has discretionary authority to determine the individuals to whom options will be granted from among those individuals who are eligible, as well as the number of options to be granted to each individual. The exercise price of each incentive stock option shall not be less than 100% of the fair market value of the common stock at the time of the grant, except in the case of a grant to an employee who owns 10% or more of the outstanding stock of Nichols TXEN, the exercise price shall be not less than 110% of such fair market value. The exercise price of each non-statutory option will be determined by the committee at the time of the grant of the non-statutory stock option, which price may not be less than the fair market value of the shares at the time the option is granted, except that with respect to not more than 10% of the shares of common stock authorized under the 1998 Stock Option Plan, a committee composed solely of disinterested non-employee directors may establish an exercise price below fair market value. In addition, options may not be repriced to specify a price less than the initial exercise price, except that with respect to not more than 10% of the shares of common stock authorized under the 1998 Stock Option Plan, a committee composed solely of disinterested non-employee directors may approve a repricing of options specifying a lower price. No non-statutory option is exercisable either in whole or in part prior to the earlier of the date specified in the non-statutory option or six months from the date the non-statutory option is granted. Each non-statutory option will expire on the earlier of the date specified in the non-statutory option or ten years from the date the non-statutory option is granted. No incentive option is exercisable, either in whole or in part, prior to two years from the date it is granted and in no event is an incentive option exercisable after the expiration of five years from the date it is granted. Each incentive option is exercisable in three installments. Up to one-third of the total shares granted may be purchased after 24 months from the date of the grant, up to an additional one-third may be purchased after 36 months and up to the final one-third may be purchased after 48 months. Incentive option recipients may accumulate installments not yet exercised, which may be exercised, in whole or in part, in any subsequent period but not later than five years from the date the incentive option is granted. The Board of Directors may amend the 1998 Stock Option Plan without stockholder approval, except with respect to: - a change in the number of shares for which options may be granted under the 1998 Stock Option Plan either in the aggregate or as to any individual employee; 53 57 - a change in the provisions relating to the determination of employees to whom options may be granted; - removal of the administration of the 1998 Stock Option Plan from the committee; - a decrease in the price at which incentive options may be granted; or - a change in the restrictions on repricing options. Employees' Stock Purchase Plan On November 6, 1998, our Board of Directors and Nichols Research, as our sole stockholder, adopted and approved the Nichols TXEN Corporation Employees' Stock Purchase Plan. The plan was amended and restated on June 18, 1999, by our Board of Directors and Nichols Research. A total of 1,000,000 shares of common stock, subject to adjustments, have been reserved for purchase by employees upon the exercise of options granted under the plan. The Stock Purchase Plan will be administered by a committee composed of either the entire Board of Directors or two or more non-employee directors who do not have a material financial relationship with Nichols TXEN or any of its subsidiaries. Persons serving on the Stock Purchase Plan's committee may receive option grants under the Stock Purchase Plan. Employees of Nichols TXEN, Nichols Research and their subsidiaries are eligible to receive options under the Stock Purchase Plan. On each March 1, June 1, September 1 and December 1, beginning after the effective date of this offering, each eligible employee will be granted a non-transferable option to purchase common stock from Nichols TXEN on the last day of the option period. Option periods are three month periods beginning on March 1, June 1, September 1 and December 1 and ending on the next May 31, August 31, November 30 and February 28. Options expire at the end of the option period. The price for stock purchased under each option is 85% of its fair market value on the first day or the last day of the option period, whichever is less. Fair market value on any day means the closing price of the common stock on the Nasdaq National Market on such day, or if not traded on such day, on the last preceding day on which the stock was traded. An employee may exercise the option granted to him only by authorizing payroll deductions. As of the last day of the option period, the amount of payroll deductions during such option period will be used to purchase from Nichols TXEN whole shares of common stock under the employee's option. If an employee of Nichols Research participates in our Stock Purchase Plan, he must allocate his payroll deduction between the purchase of Nichols Research stock and Nichols TXEN stock. An employee of Nichols Research is required to allocate either 20% or 40% of his payroll deductions to purchase Nichols TXEN stock with the balance of his payroll deductions allocated to purchase Nichols Research stock. If during an option period an employee becomes ineligible to purchase stock under the Stock Purchase Plan because of the termination of employment or if payroll deductions are discontinued during an option period, the employee's payroll deductions will be returned without interest to the employee. EMPLOYMENT AGREEMENTS Nichols TXEN's predecessor, TXEN, Inc., entered into an employment agreement with Thomas L. Patterson on December 16, 1994. His employment agreement was amended by Nichols TXEN on August 29, 1997, June 1, 1998, and November 6, 1998. Under the provisions of the employment agreement, Mr. Patterson is employed as the Chairman of the Board of Directors of Nichols TXEN on a part-time basis for a term that ends two years after the effective date of this offering. His base salary is an hourly rate for each hour of service performed by him. The employment of Mr. Patterson will terminate upon his death or disability, upon 30 days prior written notice by either party, or for good cause. If Mr. Patterson is terminated by Nichols TXEN on 30 days prior written notice or if Mr. Patterson terminates his employment for good cause or due to his death or disability, he will be paid, as additional compensation, 50% of his annualized base salary for six months after the date of termination. 54 58 Nichols TXEN's predecessor, TXEN, Inc., entered into an employment agreement with Paul D. Reaves on December 16, 1994. His employment agreement was amended by Nichols TXEN on August 29, 1997, and November 6, 1998. Under the provisions of the employment agreement, Mr. Reaves is employed as the Chief Executive Officer for a term that ends two years after the effective date of this offering. The employment agreement automatically renews on a month-to-month basis thereafter. The employment agreement provides that Mr. Reaves will be paid a monthly base salary of $12,500, subject to increases as authorized by the Board of Directors. He may be awarded discretionary performance bonuses. The employment of Mr. Reaves will terminate upon his death or disability, upon 30 days prior written notice by either party, or for good cause. If Mr. Reaves is terminated by Nichols TXEN on 30 days prior written notice or if Mr. Reaves terminates his employment for good cause or due to his death or disability, he will be paid, as additional compensation, 50% of his annualized base salary for six months after the date of termination. Nichols TXEN entered into an employment agreement with H. Grey Wood on August 29, 1997. His employment agreement was amended on November 6, 1998. Under the provisions of the employment agreement, Mr. Wood is employed as President and Chief Operating Officer of Nichols TXEN for a term that ends two years after the effective date of this offering. The employment agreement automatically renews on a month-to-month basis thereafter. The employment agreement provides that Mr. Wood will be paid a monthly base salary of $12,500, subject to increases as authorized by the Board of Directors. He may be awarded discretionary performance bonuses. The employment of Mr. Wood will terminate upon his death or disability, upon 30 days prior written notice by either party, or for good cause. If Mr. Wood is terminated by Nichols TXEN on 30 days prior written notice or if Mr. Wood terminates his employment for good cause or due to his death or disability, he will be paid, as additional compensation, an amount equal to his monthly base salary for six months after the date of termination. 55 59 CERTAIN TRANSACTIONS CORPORATE SERVICES AGREEMENT After this offering, Nichols Research will retain a controlling equity interest in Nichols TXEN. Nichols Research will furnish administrative services to Nichols TXEN pursuant to a Corporate Services Agreement. Under the services agreement, for an annual fee Nichols Research will provide or assist with various administrative services, including: - public reporting compliance; - corporate record keeping; - risk management; - employee benefits administration; - administration of investor and media relations; - tax return preparation; - centralized cash management; and - financial services. In fiscal year 1999, the fee is 2.4% of operating expenses less costs of goods sold, defined as direct materials and purchased labor. In fiscal years 1996, 1997 and 1998 under a similar arrangement, Nichols TXEN paid $192,453, $249,577, and $696,214, respectively, to Nichols Research for administrative services. Nichols TXEN believes that the charges under the services agreement are reasonable. For additional items, such as software development services or administrative services that create unusual demands for resources, Nichols Research will charge Nichols TXEN costs actually incurred in performing such services plus a mutually acceptable fee. For the fiscal years ended August 31, 1996, 1997 and 1998, Nichols TXEN paid $145,506, $174,070 and $0, respectively, to Nichols Research for these additional services. Nichols TXEN is not obligated to use Nichols Research for these additional services. During the term of the services agreement, the Nichols TXEN Board of Directors will elect as Secretary of Nichols TXEN the Secretary of Nichols Research and will elect as Treasurer of Nichols TXEN the Chief Financial Officer of Nichols Research. The Secretary and Treasurer of Nichols TXEN will serve in such capacities without compensation from Nichols TXEN. The services agreement automatically renews for successive one-year terms, unless canceled by either Nichols Research or Nichols TXEN upon 90 days prior notice following the initial one-year term. VOTING AGREEMENT Nichols Research has entered into a Voting Agreement with Nichols TXEN dated November 6, 1998, which will become effective upon completion of this offering. Pursuant to the voting agreement, Nichols Research has agreed to vote all of its shares of Nichols TXEN common stock at any meeting at which directors of Nichols TXEN are elected in favor of the election of independent directors so that after such election, if such persons are elected, there will be at least two independent directors of Nichols TXEN. The voting agreement will terminate upon the earlier of five years from the date of the voting agreement or the date upon which Nichols Research beneficially owns 50% or less of the common stock of Nichols TXEN. TAX SHARING AGREEMENT Nichols Research and Nichols TXEN have entered into a Tax Sharing Agreement which generally provides for the manner in which the parties will bear taxes for the period beginning on September 1, 1998, and ending upon the sale by Nichols TXEN of the common stock pursuant to this offering and income tax deficiencies or refunds resulting from future audit adjustments. Nichols TXEN will be required to pay to Nichols Research an amount equal to the excess of the income tax liability which Nichols TXEN would have for the short period over the amount which Nichols TXEN has previously paid (or 56 60 been charged with by Nichols Research) with respect to such taxes. If additional taxes must be paid by Nichols TXEN or Nichols Research as a result of an adjustment made by a tax regulatory authority, and as a result of that adjustment the other party would obtain an offsetting tax benefit, the party obtaining the tax benefit pays an amount equal to the additional tax to the party whose income tax liability was increased. Likewise, if income taxes are reduced as a result of an adjustment made by a tax regulatory authority, and as a result of that adjustment the other party would suffer an offsetting tax detriment, the party whose taxes were reduced must pay such amount to the other party. The tax sharing agreement also contains provisions dealing with contesting adjustments made by tax regulatory authorities, determining who will bear the expense of any such challenge and cooperation between the parties. THE TXEN ACQUISITION As part of the TXEN acquisition, the TXEN shares of the following named executive officers and directors of Nichols TXEN were purchased by Nichols Research for the following consideration consisting of cash and common stock of Nichols Research:
AGGREGATE NAME CONSIDERATION ---- -------------- (IN THOUSANDS) Thomas L. Patterson......................................... $19,855 Paul D. Reaves.............................................. 8,519 H. Grey Wood................................................ 1,800 W. Luckey Crocker........................................... 463 Chris H. Horgen............................................. 2,672
NETWORK SERVICES AGREEMENT WITH ENVOY CORPORATION Nichols TXEN contracts with ENVOY Corporation for batch claims submission, online verification and referral processing services. James D. Kever serves as Co-Chief Executive Officer of ENVOY Corporation. Mr. Kever is a director of both ENVOY Corporation and Nichols TXEN. The initial term of the agreement ended December 31, 1998, and renews automatically for consecutive one year terms unless either party gives 30 days notice of termination. ENVOY is compensated by Nichols TXEN according to the number of transactions processed. For the fiscal year ended August 31, 1998, we paid ENVOY an aggregate of $117,886 and for the nine months ended May 31, 1999, we paid ENVOY an aggregate of $248,850. 57 61 PRINCIPAL STOCKHOLDERS Prior to this offering, Nichols Research owned 7,000,000 shares, or 100% of Nichols TXEN. Nichols TXEN will sell 2,625,000 shares in connection with this offering, and thereafter, Nichols Research will own 7,000,000 shares, or approximately 73% of Nichols TXEN and 70% if the underwriters' over-allotment option is exercised in full. In addition, Chris H. Horgen, the Chairman of the Board of Nichols Research, has authority to direct the voting and disposition of Nichols Research's shares of Nichols TXEN and, therefore, beneficially owns these shares. Mr. Horgen disclaims beneficial ownership of these shares. As of May 31, 1999, options covering 746,000 shares of common stock pursuant to the 1998 Stock Option Plan and the Non-Employee Director Stock Option Plan were granted subject to completion of this offering. The tables below set forth the option grants to the executive officers and directors of Nichols TXEN, other officers and employees of Nichols TXEN as a group, and other officers and employees of Nichols Research as a group. 1998 STOCK OPTION PLAN
NUMBER OF SHARES SUBJECT TO OPTIONS ------------------ Nichols TXEN executive officers and directors: Thomas L. Patterson....................................... 40,000 Paul D. Reaves............................................ 89,000 H. Grey Wood.............................................. 94,000 W. Sanders Pitman......................................... 79,000 W. Luckey Crocker......................................... 22,500 John D. McKay............................................. 22,500 Chris H. Horgen........................................... 40,000 Allen E. Dillard.......................................... 5,000 Patsy L. Hattox........................................... 5,000 Other officers and employees of Nichols TXEN................ 329,000 Other officers and employees of Nichols Research............ 10,000
NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN
NUMBER OF SHARES SUBJECT TO OPTIONS ------------------ James D. Kever.............................................. 5,000 James I. Harrison, Jr....................................... 5,000
The right to exercise options under the 1998 Stock Option Plan will not vest until 24 months from the grant date. Up to one-third of the shares subject to these initial grants may be purchased after 24 months from the date of grant, up to an additional one-third may be purchased after 36 months from the date of grant, and up to the final one-third may be purchased after 48 months from the date of grant. None of the options may be exercised later than five years from the grant date. The right to exercise options under the Non-Employee Director Stock Option Plan will not vest until six months from the grant date. The exercise price per share for all of the stock options listed above is the initial public offering price. 58 62 DESCRIPTION OF CAPITAL STOCK GENERAL Nichols TXEN's authorized capital stock consists of 30,000,000 shares of common stock, par value $0.01 per share. As of May 31, 1999, Nichols TXEN had issued and outstanding 7,000,000 shares of common stock. After this offering, Nichols TXEN will have 9,625,000 shares of common stock outstanding. COMMON STOCK Holders of shares of common stock are entitled to one vote per share for the election of directors and all matters to be submitted to a vote of Nichols TXEN's stockholders. Nichols TXEN's amended and restated certificate of incorporation does not provide for cumulative voting and, accordingly, the holders of a majority of the shares of common stock entitled to vote in any election of directors may elect all of the directors standing for election. The holders of shares of common stock are entitled to share ratably in such dividends as may be declared by the Board of Directors and paid by Nichols TXEN out of funds legally available therefor. In the event of a dissolution, liquidation or winding up of Nichols TXEN, holders of shares of common stock are entitled to share ratably in all assets remaining after payment of all liabilities and liquidation preferences, if any. Holders of shares of common stock have no preemptive, subscription, redemption or conversion rights. The outstanding shares of common stock are, and the shares of common stock to be issued by Nichols TXEN in connection with this offering will be, duly authorized, validly issued, fully paid and nonassessable. The transfer agent and registrar for the common stock is ChaseMellon Shareholder Services. CERTAIN PROVISIONS OF DELAWARE LAW Nichols TXEN is subject to the provisions of Section 203 of the Delaware General Corporation Law. In general, Section 203 prohibits a publicly held Delaware corporation from engaging in a "business combination" with an "interested stockholder" for a period of three years after the date of the transaction pursuant to which the person became an interested stockholder, unless the business combination is approved in a manner prescribed by Delaware law. For purposes of Section 203, a "business combination" includes a merger, asset sale or other transaction resulting in a financial benefit to the interested stockholder, and an "interested stockholder" is a person who, together with affiliates and associates, then owns, or owned during the previous three years, 15% or more of Nichols TXEN's voting stock. Section 203 could prohibit or delay mergers or other takeover or change in control attempts with respect to Nichols TXEN and, accordingly, may discourage attempts to acquire Nichols TXEN. LIMITATIONS ON LIABILITY AND INDEMNIFICATION OF OFFICERS AND DIRECTORS Nichols TXEN's amended and restated certificate of incorporation provides that a director of Nichols TXEN shall not be personally liable to Nichols TXEN or its stockholders, except liability for: - breach of the director's duty of loyalty; - acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of the law; - the unlawful payment of a dividend or unlawful stock purchase or redemption; and - any transaction from which the director derives an improper personal benefit. The amended and restated certificate of incorporation and the amended and restated bylaws also provide that Nichols TXEN shall indemnify directors and officers of Nichols TXEN to the fullest extent permitted by the Delaware General Corporation Law. Nichols TXEN has entered into indemnification agreements with each of its directors. 59 63 SHARES ELIGIBLE FOR FUTURE SALE Prior to this offering no market existed for the shares of the common stock of Nichols TXEN. Nichols TXEN can make no predictions as to the effect, if any, that sales of shares or the availability of shares for sale will have on the market price prevailing from time to time. Nevertheless, sales of significant amounts of the common stock in the public market, or the perception that such sales may occur, could adversely affect prevailing market prices. Upon consummation of this offering, Nichols TXEN will have outstanding 9,625,000 shares of common stock. Of the 9,625,000 shares outstanding upon completion of this offering, the 2,625,000 shares sold in this offering will be freely tradable without restriction or further registration under the Securities Act, unless they are purchased by "affiliates" of Nichols TXEN as that term is defined in Rule 144 under the Securities Act. The remaining 7,000,000 outstanding shares of common stock may be sold in the public market only if registered or sold pursuant to an exemption from registration such as Rule 144 or 144(k) promulgated under the Securities Act. Nichols Research may cause Nichols TXEN to register for sale any or all of its shares of common stock. Nichols Research, the officers and directors of Nichols TXEN and the executive officers and directors of Nichols Research have agreed not to offer, sell, contract to sell, grant any option to purchase or otherwise dispose of, or agree to dispose of (other than as gifts), any shares of common stock until 180 days after the date of this prospectus without the prior written consent of CIBC World Markets Corp. CIBC World Markets Corp., in its sole discretion and without notice, may earlier release for sale in the public market all or any portion of the shares subject to such lock-up agreements. In general, under Rule 144 as currently in effect, beginning 90 days after the date of this prospectus, a person who has beneficially owned shares for at least one year is entitled to sell in "brokers' transactions" or to market makers, within any three-month period a number of shares that does not exceed the greater of: - 1% of the number of shares of common stock outstanding; or - the average weekly trading volume in the common stock during the four calendar weeks preceding the required filing of a Form 144 with respect to such sale. Sales under Rule 144 are subject to the availability of current public information about Nichols TXEN. After the expiration of the 180-day lock-up period, 7,000,000 shares owned by Nichols Research will be eligible for sale in the public market subject to compliance with Rule 144. After the completion of this offering, Nichols TXEN intends to file a Registration Statement on Form S-8 under the Securities Act to register: - the 1,700,000 shares of common stock reserved for issuance under the 1998 Stock Option Plan; - the 50,000 shares of common stock reserved under the Non-Employee Director Stock Option Plan; and - the 1,000,000 shares of common stock reserved for issuance under the Employees' Stock Purchase Plan. 60 64 UNDERWRITING Nichols TXEN has entered into an underwriting agreement with the underwriters named below. CIBC World Markets Corp., Friedman, Billings, Ramsey & Co., Inc. and The Robinson-Humphrey Company, LLC are acting as representatives of the underwriters. The underwriting agreement provides for the purchase of a specific number of shares of common stock by each of the underwriters. The underwriters' obligations are several, which means that each underwriter is required to purchase a specified number of shares, but is not responsible for the commitment of any other underwriter to purchase shares. Subject to the terms and conditions of the underwriting agreement, each underwriter has severally agreed to purchase the number of shares set forth opposite its name below:
NUMBER OF UNDERWRITER SHARES ----------- --------- CIBC World Markets Corp. ................................... Friedman, Billings, Ramsey & Co., Inc. ..................... The Robinson-Humphrey Company, LLC.......................... --------- Total.................................................... 2,625,000 =========
This is a firm commitment underwriting. This means that the underwriters have agreed to purchase all of the shares offered by this prospectus (other than those covered by the over-allotment option described below) if any shares are purchased. Under the underwriting agreement, if any underwriter defaults in its commitment to purchase shares, the commitments of the non-defaulting underwriters may be increased or the underwriting agreement may be terminated, depending on the circumstances. The shares should be ready for delivery on or about , 1999, against payment in immediately available funds. The representatives have advised Nichols TXEN that the underwriters propose to offer the shares directly to the public at the initial public offering price that appears on the cover page of this prospectus. In addition, the representatives may offer some of the shares to securities dealers at such price less a concession of $ per share. The underwriters may also allow, and such dealers may reallow, a concession not in excess of $ per share to other dealers. After the shares are released for sale to the public, the representatives may change the offering price and other selling terms at various times. Nichols TXEN has granted the underwriters an over-allotment option. This option, which is exercisable for up to 30 days after the date of this prospectus, permits the underwriters to purchase a maximum of 375,000 additional shares from Nichols TXEN to cover over-allotments. If the underwriters exercise all or part of this option, they will purchase shares covered by the option at the initial public offering price that appears on the cover page of this prospectus, less the underwriting discount. If this option is exercised in full, the total price to the public will be $ and the total proceeds to Nichols TXEN will be approximately $ . The underwriters have severally agreed that, to the extent the over-allotment option is exercised, they will each purchase a number of additional shares proportionate to the underwriter's initial amount reflected in the foregoing table. The following table provides information regarding the amount of the discount to be given to the underwriters by Nichols TXEN:
TOTAL WITHOUT EXERCISE OF TOTAL WITH FULL EXERCISE OF PER SHARE OVER-ALLOTMENT OPTION OVER-ALLOTMENT OPTION --------- ------------------------- --------------------------- Nichols TXEN........................... $ $ $ Total.......................................... $ $
61 65 Nichols TXEN estimates that the total expenses of the offering, excluding the underwriting discount, will be approximately $1,000,000. Nichols TXEN has agreed to indemnify the underwriters against liabilities specified in the underwriting agreement, including liabilities under the Securities Act of 1933. Nichols TXEN, Nichols Research, the officers and directors of Nichols TXEN and the executive officers and directors of Nichols Research have agreed to a 180-day "lock-up" with respect to the shares and other securities that they beneficially own, including securities that are convertible into shares of common stock and securities that are exchangeable or exercisable for shares of common stock. This means that, subject to some exceptions, for a period of 180 days following the date of this prospectus, Nichols TXEN and such persons may not offer, sell, pledge or otherwise dispose of these securities without the prior written consent of CIBC World Markets Corp. When determining whether to release shares from the lock-up agreements, CIBC World Markets Corp. may consider, among other factors, market conditions at the time, the number of shares for which the release is requested and the stockholder's reasons for requesting the release. The representatives have informed Nichols TXEN that they do not expect discretionary sales by the underwriters to exceed five percent of the shares offered by this prospectus. There is no established trading market for the shares. The offering price for the shares has been determined by the representatives and Nichols TXEN, based on the following factors: - the history of and the prospects for the industry in which Nichols TXEN competes; - Nichols TXEN's management; - Nichols TXEN's past and present operations; - Nichols TXEN's historical results of operations; - Nichols TXEN's prospects for future earnings and business potential; - the general condition of the securities markets at the time of this offering; - the recent market prices of securities of generally comparable companies; - the market capitalizations and stages of development of other companies which Nichols TXEN and the representatives believe to be comparable to Nichols TXEN; and - other factors deemed to be relevant. Rules of the Securities and Exchange Commission may limit the ability of the underwriters to bid for or purchase shares before the distribution of the shares is completed. However, the underwriters may engage in the following activities in accordance with the rules: - stabilizing transactions -- The representatives may make bids or purchases for the purpose of pegging, fixing or maintaining the price of the shares, so long as stabilizing bids do not exceed a specified maximum. - over-allotments and syndicate covering transactions -- The underwriters may create a short position in the shares by selling more shares than are set forth on the cover page of this prospectus. If a short position is created in connection with this offering, the representatives may engage in syndicate covering transactions by purchasing shares in the open market. The representatives may also elect to reduce any short position by exercising all or part of their over-allotment option. - penalty bids -- If the representatives purchase shares in the open market in a stabilizing transaction or syndicate covering transaction, they may reclaim a selling concession from the underwriters and selling group members who sold those shares as part of this offering. 62 66 Stabilization and syndicate covering transactions may cause the price of the shares to be higher than it would be in the absence of such transactions. The imposition of a penalty bid might also have an effect on the price of the shares if it discourages resales of the shares. Neither the underwriters nor Nichols TXEN make any representation or prediction as to the effect that the transactions described above may have on the price of the shares. These transactions may occur on the Nasdaq National Market or otherwise. If such transactions are commenced, they may be discontinued without notice at any time. LEGAL MATTERS The validity of the issuance of the shares of the common stock offered hereby will be passed upon for Nichols TXEN by Lanier Ford Shaver & Payne, P.C., Huntsville, Alabama. John R. Wynn is a member of the law firm Lanier Ford Shaver & Payne, P.C., and is a director of Nichols Research. As of the date of this prospectus, six attorneys of Lanier Ford Shaver & Payne, P.C., including Mr. Wynn, beneficially owned an aggregate of 31,321 shares of Nichols Research common stock. Legal matters in connection with this offering will be passed upon for the underwriters by Alston & Bird LLP, Atlanta, Georgia. EXPERTS The financial statements and schedule of Nichols TXEN and financial statements of TXEN, Inc., appearing in this prospectus and the registration statement have been audited by Ernst & Young LLP, independent auditors, to the extent indicated in their reports thereon also appearing elsewhere herein and in the registration statement. Such financial statements and schedule have been included herein in reliance upon such reports given upon the authority of such firm as experts in accounting and auditing. 63 67 WHERE YOU CAN FIND MORE INFORMATION Nichols TXEN has filed a registration statement on Form S-1 with the Securities and Exchange Commission in connection with this offering. In addition, upon completion of the offering, Nichols TXEN will be required to file annual, quarterly and current reports, proxy statements and other information with the Securities and Exchange Commission. You may read and copy the registration statement and any other documents filed by Nichols TXEN at the Securities and Exchange Commission's Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. Please call the Securities and Exchange Commission at 1-800-SEC-0330 for further information on the Public Reference Room. The Securities and Exchange Commission's Internet site at "http://www.sec.gov". This prospectus is a part of the registration statement and does not contain all of the information included in the registration statement. Whenever a reference is made in this prospectus to any contract or other document of Nichols TXEN, the reference may not be complete and you should refer to the exhibits that are part of the registration statement for a copy of the contract or document. After the offering, Nichols TXEN expects to provide annual reports to its stockholders that include financial information examined and reported on by Nichols TXEN's independent public accountant. 64 68 INDEX TO FINANCIAL STATEMENTS NICHOLS TXEN CORPORATION: Report of Independent Auditors.............................. F-2 Balance Sheets as of August 31, 1997 and 1998, and May 31, 1998 (unaudited) and May 31, 1999 (unaudited)............. F-3 Statements of Operations for the three years ended August 31, 1996, 1997 and 1998, and the nine months ended May 31, 1998 (unaudited) and May 31, 1999 (unaudited)............. F-4 Statements of Changes in Stockholder's Equity for the four years ended August 31, 1995, 1996, 1997 and 1998, and the nine month period ended May 31, 1999 (unaudited).......... F-5 Statements of Cash Flows for the three years ended August 31, 1996, 1997 and 1998, and the nine months ended May 31, 1998 (unaudited) and May 31, 1999 (unaudited)............. F-6 Notes to Financial Statements............................... F-7 TXEN, INC.: Report of Independent Auditors.............................. F-17 Balance Sheets as of June 30, 1996 and 1997................. F-18 Statements of Operations for the two years ended June 30, 1996 and 1997............................................. F-19 Statements of Changes in Stockholders' Equity for the three years ended June 30, 1995, 1996 and 1997.................. F-20 Statements of Cash Flows for the two years ended June 30, 1996 and 1997............................................. F-21 Notes to Financial Statements............................... F-22
F-1 69 REPORT OF INDEPENDENT AUDITORS To the Stockholder of Nichols TXEN Corporation We have audited the accompanying balance sheets of Nichols TXEN Corporation as of August 31, 1997 and 1998, and the related statements of operations, changes in stockholder's equity and cash flows for each of the three years in the period ended August 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material aspects, the financial position of Nichols TXEN Corporation as of August 31, 1997 and 1998, and the results of its operations and its cash flows for each of the three years in the period ended August 31, 1998 in conformity with generally accepted accounting principles. ERNST & YOUNG LLP Birmingham, Alabama January 7, 1999 F-2 70 NICHOLS TXEN CORPORATION BALANCE SHEETS (IN THOUSANDS)
AUGUST 31, MAY 31, ----------------- ----------------- 1997 1998 1998 1999 ------- ------- ------- ------- (UNAUDITED) ASSETS Current assets: Cash and cash equivalents............................. $ 237 $ 1,804 $ 573 $ 693 Accounts receivable, less allowance for doubtful accounts of $150 and $500 at August 31, 1997 and 1998, respectively................................. 6,946 9,919 15,673 11,487 Deferred income taxes................................. 156 436 369 394 Other................................................. 575 1,455 1,199 1,291 ------- ------- ------- ------- Total current assets................................... 7,914 13,614 17,814 13,865 Property and equipment, net............................ 4,783 6,527 6,069 8,939 Deferred income taxes.................................. -- -- -- 606 Intangible assets, net................................. 39,355 37,574 38,260 31,524 ------- ------- ------- ------- Total assets........................................... $52,052 $57,715 $62,143 $54,934 ======= ======= ======= ======= LIABILITIES AND STOCKHOLDER'S EQUITY Current liabilities: Accounts payable...................................... $ 1,105 $ 751 $ 525 $ 558 Accrued compensation and benefits..................... 459 1,444 1,725 1,540 Income taxes payable.................................. 419 2,126 1,535 661 Payable to Nichols Research and affiliates............ 1,003 2,635 5,101 2,161 Deferred revenue...................................... 2,371 379 4,218 98 Other................................................. 334 499 246 1,137 ------- ------- ------- ------- Total current liabilities.............................. 5,691 7,834 13,350 6,155 Deferred income taxes.................................. 532 800 664 -- Commitments Stockholder's equity: Common stock.......................................... 70 70 70 70 Additional paid-in capital............................ 52,838 52,838 52,838 52,838 Retained earnings (deficit)........................... (7,079) (3,827) (4,779) (4,129) ------- ------- ------- ------- Total stockholder's equity............................. 45,829 49,081 48,129 48,779 ------- ------- ------- ------- Total liabilities and stockholder's equity............. $52,052 $57,715 $62,143 $54,934 ======= ======= ======= =======
See accompanying notes. F-3 71 NICHOLS TXEN CORPORATION STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT SHARE DATA)
NINE MONTHS ENDED YEARS ENDED AUGUST 31, MAY 31, --------------------------- ----------------- 1996 1997 1998 1998 1999 ------- ------- ------- ------- ------- (UNAUDITED) Revenues..................................... $10,370 $12,438 $43,480 $30,454 $38,086 Cost of revenues............................. 6,438 7,769 23,256 16,229 20,427 ------- ------- ------- ------- ------- Gross profit................................. 3,932 4,669 20,224 14,225 17,659 Selling, general and administrative expenses................................... 1,932 2,251 7,367 5,102 7,142 Research and development..................... 710 1,155 2,771 1,948 2,289 Depreciation and amortization................ 947 985 4,547 3,249 3,704 Write-off of purchased in-process research and development............................ -- 8,500 -- -- -- Intangible asset impairment.................. -- -- -- -- 4,297 ------- ------- ------- ------- ------- Income (loss) from operations................ 343 (8,222) 5,539 3,926 227 Other income (expense): Other income (expense)...................... -- -- (4) (3) (21) Equity in earnings of TXEN, Inc............. 94 656 -- -- -- ------- ------- ------- ------- ------- Income (loss) before income taxes............ 437 (7,566) 5,535 3,923 206 Income tax expense........................... 117 107 2,283 1,623 508 ------- ------- ------- ------- ------- Net income (loss)............................ $ 320 $(7,673) $ 3,252 $ 2,300 $ (302) ======= ======= ======= ======= ======= Earnings (loss) per common share............. $ 0.05 $ (1.10) $ 0.46 $ 0.33 $ (0.04) ======= ======= ======= ======= ======= Weighted average common shares outstanding... 7,000 7,000 7,000 7,000 7,000 ======= ======= ======= ======= =======
See accompanying notes. F-4 72 NICHOLS TXEN CORPORATION STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY (IN THOUSANDS)
COMMON STOCK ADDITIONAL RETAINED TOTAL ------------------ PAID-IN EARNINGS STOCKHOLDER'S SHARES AMOUNT CAPITAL (DEFICIT) EQUITY --------- ------ ---------- --------- ------------- BALANCE AT AUGUST 31, 1995.................. 7,000,000 $70 $ 9,038 $ 274 $ 9,382 Net income.................................. -- -- 320 320 --------- --- ------- ------- ------- BALANCE AT AUGUST 31, 1996.................. 7,000,000 70 9,038 594 9,702 Contribution from Nichols Research for acquisition of TXEN....................... -- 43,800 -- 43,800 Net loss.................................... -- -- (7,673) (7,673) --------- --- ------- ------- ------- BALANCE AT AUGUST 31, 1997.................. 7,000,000 70 52,838 (7,079) 45,829 Net income.................................. -- -- 3,252 3,252 --------- --- ------- ------- ------- BALANCE AT AUGUST 31, 1998.................. 7,000,000 70 52,838 (3,827) 49,081 Stock dividend and reverse stock split...... 7,000,000 70 -- -- -- Net loss (unaudited)........................ -- -- (302) (302) --------- --- ------- ------- ------- BALANCE AT MAY 31, 1999 (UNAUDITED)......... 7,000,000 $70 $52,838 $(4,129) $48,779 ========= === ======= ======= =======
See accompanying notes. F-5 73 NICHOLS TXEN CORPORATION STATEMENTS OF CASH FLOWS (IN THOUSANDS)
NINE MONTHS ENDED YEARS ENDED AUGUST 31, MAY 31, --------------------------- ----------------- 1996 1997 1998 1998 1999 ------ -------- ------- ------- ------- (UNAUDITED) CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss)........................... $ 320 $ (7,673) $ 3,252 $ 2,300 $ (302) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization.............. 947 985 4,547 3,249 3,704 Provision for doubtful accounts............ -- -- 350 108 272 Equity in earnings of TXEN, Inc............ (94) (656) -- -- -- Deferred income taxes...................... 54 (4) (12) (81) (1,364) Write-off of purchased in-process research and development......................... -- 8,500 -- -- -- Intangible asset impairment................ -- -- -- -- 4,297 Changes in assets and liabilities, net of effects of acquisition: Accounts receivable...................... (531) (584) (3,323) (8,835) (1,840) Other assets............................. (228) (73) (880) (624) 164 Accounts payable......................... 2 5 (354) (580) (193) Accrued compensation and benefits........ 59 44 985 1,266 96 Payable to Nichols Research and affiliates............................ 438 309 1,632 5,214 (1,939) Other current liabilities................ 115 79 120 1,759 357 ------ -------- ------- ------- ------- Net cash provided by operating activities... 1,082 932 6,317 3,776 3,252 CASH FLOWS FROM INVESTING ACTIVITIES: Additions to property and equipment......... (684) (909) (4,185) (3,071) (4,012) Payments for acquisitions, net of cash acquired.................................. -- (17,439) -- -- -- Additions to deferred software development cost...................................... (280) (490) (565) (369) (351) ------ -------- ------- ------- ------- Net cash used by investing activities....... (964) (18,838) (4,750) (3,440) (4,363) CASH FLOWS FROM FINANCING ACTIVITIES: Transfers from Nichols Research............. -- 17,892 -- -- -- ------ -------- ------- ------- ------- Net cash provided by financing activities... -- 17,892 -- -- -- ------ -------- ------- ------- ------- Net increase (decrease) in cash and cash equivalents............................... 118 (14) 1,567 336 (1,111) Cash and cash equivalents at beginning of period.................................... 133 251 237 237 1,804 ------ -------- ------- ------- ------- Cash and cash equivalents at end of period.................................... $ 251 $ 237 $ 1,804 $ 573 $ 693 ====== ======== ======= ======= ======= SUPPLEMENTAL DISCLOSURE OF NON-CASH TRANSACTIONS: Issuance of Nichols Research common stock as consideration in acquisitions............. $ -- $ 26,325 $ -- $ -- $ --
See accompanying notes. F-6 74 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS AUGUST 31, 1998 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Description of Business Nichols SELECT Corporation, a wholly owned subsidiary of Nichols Research Corporation, was incorporated under the laws of the State of Delaware on September 17, 1996. Nichols TXEN is a provider of outsourcing solutions for information technology and administrative services in the managed care and physician practice management markets. All references to Nichols TXEN in the notes to the Financial Statements refer to Nichols TXEN Corporation and its predecessor businesses and divisions, as discussed below. Nichols Research formed CSC Acquisition, Inc. as a wholly owned subsidiary on June 6, 1995. On June 30, 1995, CSC Acquisition acquired Computer Services Corporation (CSC). Nichols Research formed Nichols SELECT Corporation as a wholly owned subsidiary on September 17, 1996. On September 23, 1996, CSC Acquisition was merged into Nichols SELECT. On December 16, 1994, Nichols Research acquired 19.9% of the capital stock of TXEN, Inc., with an option to acquire the remaining 80.1% of TXEN. On August 29, 1997, Nichols Research exercised its option and acquired the remaining 80.1% of TXEN through a merger of TXEN into Nichols SELECT, which after the merger continued to be wholly owned by Nichols Research. After the TXEN merger, Nichols SELECT changed its name to Nichols TXEN Corporation. Basis of Presentation The accompanying financial statements have been prepared using Nichols Research's historical basis in the selected assets and liabilities of Nichols TXEN. The financial statements reflect the results of operations, financial condition and cash flows of Nichols TXEN as a component of Nichols Research and may not be indicative of the actual results of operations and financial position of Nichols TXEN. Nichols TXEN believes the statements of operations include a reasonable allocation of administrative costs, which are described in Note 2, incurred by Nichols Research on behalf of Nichols TXEN. On November 6, 1998, Nichols TXEN amended its Certificate of Incorporation to change the authorized capital stock from 1,000 shares of $1.00 par value common stock to 30,000,000 shares of $0.01 par value common stock and effected a 7,500-for-1 stock split in the form of a stock dividend of 7,499 shares for each one share outstanding. As a result of the stock split, the outstanding shares of common stock of Nichols TXEN increased to 7,500,000 shares. On June 18, 1999, Nichols TXEN effected a reverse stock split in the form of a reduction in the number of issued and outstanding shares of common stock from 7,500,000 shares to 7,000,000 shares. All share and per share amounts have been retroactively restated to reflect the reverse stock split. Earnings Per Share In February 1997, Statement of Financial Account Standards (SFAS) No. 128, Earnings per Share, was issued which requires the presentation of basic and diluted earning per share for each period presented in the Company's financial statements. SFAS No. 128 also requires presentation for sale of securities in a public market. Basic earnings per share of common stock is computed by dividing net income by the weighted average number of common shares outstanding during the period. For purposes of the calculation of basic earnings per share, weighted average common shares outstanding assumes shares of Common Stock are outstanding for each period presented (see Basis of Presentation above). Diluted earnings per share is calculated in the same manner as basic earnings per share as there are no additional common stock equivalents in include. Employee stock options for approximately 746,000 shares of common stock are to be issued upon completion of an initial public offering of Nichols TXEN's common stock at the offering price are assumed to have no dilutive effect. F-7 75 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Revenue Recognition Revenue from services is recognized either as the services are performed based on Nichols TXEN's standard rates for the applicable services or as contract milestones are achieved, if specified and required under the contract with the customer. Revenue from post-contract customer support is recognized in the period the customer support services are provided. Nichols TXEN's long-term contracts typically have initial terms ranging from two to five years. These contracts contain automatic one year renewal provisions. Substantially all of these contracts contain financial penalties for early termination or transfer from administrative services to technology services. The Company recognizes revenues monthly based on contractual services provided during the month. For example, monthly bills to customers include amounts due for any claims adjudicated, processed or coded in the prior billing month. Revenue recognized under contracts with milestones has not been significant in prior years and the Company currently has no such agreements in effect. Concentration of Credit Risk and Financial Instruments Financial instruments which subject Nichols TXEN to credit risk are primarily trade accounts receivable. Concentrations of credit risk with respect to trade accounts receivable are limited due to the large number and diversity of customers comprising Nichols TXEN's customer base. Nichols TXEN believes that any risk associated with trade accounts receivable is adequately provided for in the allowance for doubtful accounts. Nichols TXEN generally does not require collateral on its trade accounts receivable. Property and Equipment Property and equipment are recorded at cost and depreciated using the straight-line method over estimated useful lives of three to ten years for equipment and furniture and over the terms of the related leases for leasehold improvements. In March 1995, the Financial Accounting Standards Board issued Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of, which requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets' carrying amount. Statement No. 121 also addresses the accounting for long-lived assets that are expected to be disposed of. Nichols TXEN adopted Statement No. 121 in the first quarter of fiscal year 1997 with no impact to the financial statements. Income Taxes Historically, Nichols TXEN's operations have been included in the consolidated federal income tax returns filed by Nichols Research. Income tax expense as presented in the accompanying financial statements has been calculated on a separate tax return basis. Deferred income taxes are provided for temporary differences between financial and taxable income, primarily related to accrued liabilities, intangible amortization and use of accelerated depreciation methods for income tax purposes. Cash and Temporary Cash Investments Nichols TXEN considers cash equivalents as those securities that are available upon demand or have maturities of three months or less at the time of purchase. At August 31, 1998, temporary cash investments consisted of various money market accounts, primarily with an Alabama bank. F-8 76 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Intangible Assets Goodwill and customer base are being amortized on a straight-line basis over twenty years. Workforce is being amortized on a straight-line basis over seven years. Nichols TXEN periodically evaluates the recoverability of such intangibles resulting from business acquisitions and measures the amount of impairment, if any, by assessing current and future levels of income and cash flows as well as other factors, such as business trends and prospects and market and economic conditions. Nichols TXEN assesses long-lived assets, of which goodwill associated with assets acquired in a purchase business combination is included, for impairment evaluations under Statement No. 121. Deferred software development costs which are primarily comprised of salaries and related costs, are expensed until technological feasibility is established and then capitalized until a marketable product is completed. Technological feasibility is established upon completion of a working model or when a detail product design and program design exists. Amortization of capitalized software costs begins when the related product is available for general release to customers and is provided for each product based on the greater of the amount computed using (1) the ratio of current gross revenues to total current and anticipated future gross revenues for the related software or (2) the straight-line method over a five-year life or the product's estimated economic life, if shorter. Stock Options From time to time Nichols Research has granted stock options for the purchase of shares of the common stock of Nichols Research to selected Nichols TXEN employees. These grants had an exercise option price equal to the fair value of the shares at the date of option grant. Nichols Research accounts for stock option grants in accordance with the Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and intends to continue to do so; accordingly, no compensation expense for such stock option grants is included in the financial statements of Nichols TXEN. Use of Estimates The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from the estimates. Interim Financial Statements (Unaudited) The accompanying unaudited financial statements as of May 31, 1998, and May 31, 1999, have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the nine months ended May 31, 1999, are not necessarily indicative of the results that may be expected for the year ended August 31, 1999. 2. RELATED PARTY TRANSACTIONS Nichols TXEN utilized the central cash management system of Nichols Research to finance its operations. Cash requirements are satisfied either by intercompany transactions between Nichols Research and Nichols TXEN under the centralized cash management system or by cash from operations. Such F-9 77 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 2. RELATED PARTY TRANSACTIONS (CONTINUED) intercompany transactions are included in the payable to Nichols Research's account. Intercompany transactions between Nichols Research and Nichols TXEN do not bear interest and, therefore, no interest charge is reflected in the accompanying statements of operations. Nichols Research provides and assists with various administrative services for Nichols TXEN. Such corporate administrative expenses amounting to $192,453, $249,577 and $696,214, have been allocated to Nichols TXEN during the fiscal years ended August 31, 1996, 1997 and 1998, respectively, and are reflected in the accompanying statements of operations as selling, general and administrative expenses. These costs were allocated to Nichols TXEN by multiplying certain direct operating expenses by a standard overhead rate for each period presented. The standard overhead rate was developed through analysis of actual services and related estimated costs provided to Nichols TXEN on a historical basis. However, the costs of these transactions may differ from those that would result from transactions with unrelated parties. An analysis of the intercompany activity included in the payable to Nichols Research and affiliates follows:
YEARS ENDED AUGUST 31, ------------------------ 1996 1997 1998 ------ ------ ------ Allocation of corporate services and employee benefits...... $ 192 $ 250 $ 696 Other net payments/transfers to Nichols Research relating to normal cash management activity........................... 46 22 936 Payable to Nichols Research................................. $ 731 $1,003 $2,635 Average amount outstanding to Nichols Research.............. $ 742 $ 831 $3,189
Substantially all full-time employees of Nichols TXEN are covered by a defined contribution plan offered through Nichols Research. Employees are permitted to defer up to 15% of their salary. Nichols Research matches the employee's contribution up to a maximum of 2% of the employee's salary. Discretionary contributions may also be made to the plan as determined annually by the Nichols Research Board of Directors. Amounts charged to Nichols TXEN's earnings with respect to the plan were approximately $38,000, $38,000 and $124,000 for 1996, 1997 and 1998, respectively. Nichols TXEN intends to establish its own defined contribution plan with similar terms in the future. Until that time, Nichols TXEN will bear its allocable share of the costs of the Nichols Research plan. Nichols TXEN contracts with ENVOY Corporation for batch claims submission, online verification and referral processing services. James D. Kever serves as Co-Chief Executive Officer of ENVOY Corporation. Mr. Kever is a director of both ENVOY Corporation and Nichols TXEN. The initial term of the agreement ended December 31, 1998, and renews automatically for consecutive one year terms unless either party gives 30 days notice of termination. ENVOY is compensated by Nichols TXEN according to the number of transactions processed. For the fiscal year ended August 31, 1998, we paid ENVOY an aggregate of $117,886 and for the nine months ended May 31, 1999, we paid ENVOY an aggregate of $248,850. F-10 78 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 3. INCOME TAXES Income taxes allocated to Nichols TXEN were determined as if Nichols TXEN filed on a separate income tax return basis. The provisions for income taxes for the years ended August 31, consist of the following :
1996 1997 1998 ---- ---- ------ (IN THOUSANDS) Current: Federal.................................................... $154 $101 $2,070 State...................................................... 16 10 225 ---- ---- ------ 170 111 2,295 ---- ---- ------ Deferred: Federal.................................................... (46) (4) (11) State...................................................... (7) -- (1) ---- ---- ------ (53) (4) (12) ---- ---- ------ $117 $107 $2,283 ==== ==== ======
The significant components of deferred tax assets and liabilities as of August 31:
1997 1998 ----- ----- (IN THOUSANDS) Current deferred tax assets: Accrued liabilities not currently deductible............... $ 92 $255 Allowance for doubtful accounts receivable................. 64 181 ---- ---- Total current deferred tax assets........................... 156 436 ---- ---- Non-current deferred tax liabilities: Basis difference for property and equipment................ 311 472 Amortization of intangibles................................ 221 328 ---- ---- Total non-current deferred tax liabilities.................. 532 800 ---- ---- $376 $364 ==== ====
Income tax expense as a percentage of income before income taxes for the years ended August 31, varies from the federal statutory rate due to the following:
1996 1997 1998 ----- ------ ----- Statutory federal income tax rate........................... 34.0% (34.0)% 34.0% State income taxes, net of federal benefit.................. 3.7 -- 4.1 Non-deductible write-off of purchased in-process research and development........................................... -- 38.2 -- Equity in earnings of TXEN, Inc............................. (7.3) (2.9) -- Other....................................................... (3.6) 0.1 3.1 ----- ------ ----- 26.8% 1.4% 41.2% ===== ====== =====
Nichols TXEN made payments in lieu of income taxes to Nichols Research of approximately $100,000, $75,000 and $1,800,000, in 1996, 1997 and 1998, respectively. F-11 79 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 4. COMMITMENTS Nichols TXEN leases office facilities under various operating leases. The leases generally have terms of one to ten years. Rent expense for all operating leases for the years ended August 31, was as follows:
1996 1997 1998 ----- ----- ----- (IN THOUSANDS) Total rent expense.......................................... $ 299 $ 333 $ 821
Future minimum lease payments under operating leases with remaining terms of one year or more for the years ended August 31, are (in thousands):
1999 2000 2001 2002 2003 THEREAFTER ------ ------ ------ ------ ------ ---------- Total.................................... $1,535 $1,659 $1,659 $1,659 $1,659 $8,163
5. PROPERTY AND EQUIPMENT Property and equipment was comprised of the following as of August 31:
1997 1998 ------ ------ (IN THOUSANDS) Furniture and fixtures...................................... $1,152 $1,400 Data processing and computer equipment...................... 2,627 5,275 Other....................................................... 1,511 2,042 ------ ------ 5,290 8,717 Less accumulated depreciation............................... 507 2,190 ------ ------ $4,783 $6,527 ====== ======
6. INTANGIBLE ASSETS Intangible assets were comprised of the following as of August 31:
1997 1998 ------- ------- (IN THOUSANDS) Goodwill.................................................... $23,536 $23,536 Customer base............................................... 13,365 13,365 Deferred software development costs......................... 2,864 3,872 Workforce................................................... 780 780 ------- ------- 40,545 41,553 Less accumulated amortization............................... 1,190 3,979 ------- ------- $39,355 $37,574 ======= =======
7. EMPLOYEE STOCK OPTIONS AND STOCK PURCHASE PLANS Nichols Research has employee stock option plans that provide for the issuance of incentive stock options (as defined by the Internal Revenue Code) and nonstatutory stock options to key employees, including officers of Nichols TXEN. Options are, in general, nontransferable and exercisable only during employment. Options expire five years from the date of grant. F-12 80 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 7. EMPLOYEE STOCK OPTIONS AND STOCK PURCHASE PLANS (CONTINUED) A summary of activity relating to Nichols Research stock options of Nichols TXEN's employees is as follows:
INCENTIVE NONSTATUTORY TOTAL STOCK OPTIONS TOTAL ------- ------------- ------------ Outstanding at August 31, 1996........................... 104,460 93,996 10,464 Outstanding at August 31, 1997........................... 133,564 123,063 10,501 Outstanding at August 31, 1998........................... 131,385 125,374 6,011 Exercisable at August 31, 1998........................... 19,291 19,291 --
WEIGHTED NUMBER WEIGHTED WEIGHTED AVERAGE AVERAGE RANGE OF OPTIONS AVERAGE REMAINING NUMBER EXERCISABLE EXERCISE PRICES OUTSTANDING EXERCISE PRICE CONTRACTUAL LIFE EXERCISABLE PRICE --------------- ----------- -------------- ---------------- ------------ ------------ $10.00 -- $15.50 43,615 $12.02 1.93 years 18,541 $11.88 $20.38 -- $23.50 52,770 22.49 3.74 years 750 21.50 $24.50 -- $25.00 35,000 24.93 3.94 years -- --
Nichols Research has an employee stock purchase plan that allows eligible employees to purchase common stock at less than fair value. The purchase price is 85% of fair market value on each quarterly purchase date. Purchases are limited to the lesser of 10% of an employee's annual compensation or $25,000. Shares of common stock issued under this plan were 2,018, 3,482 and 20,373, in 1996, 1997 and 1998, respectively. In October 1995, the Financial Accounting Standards Board issued Statement No. 123, Accounting for Stock-Based Compensation, which requires that financial statements include disclosures about the stock-based employees compensation and allows, but does not require, a fair value-based method of accounting for such compensation. As allowed under the provisions of Statement No. 123, Nichols TXEN has elected to apply APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for its stock based plans. Accordingly, no compensation cost has been recognized for the qualified stock option plans and the employee stock purchase plans. Had compensation cost for these programs been determined based on the fair value at the grant dates for awards under these programs consistent with Statement No. 123, Nichols TXEN's net income (loss) would have been reduced to the pro forma amounts indicated below. The effects of applying Statement No. 123 on a pro forma basis are not likely to be representative of the effects on reported pro forma net income (loss) for future years as the estimated compensation cost reflects only options granted subsequent to August 31, 1995.
1996 1997 1998 ------- ------- ------- (IN THOUSANDS) Net income (loss): As reported................................................ $ 320 $(7,673) $ 3,252 Pro forma.................................................. 302 (7,766) 2,934
The fair value of each option grant is estimated on the date of grant using a type of Black-Scholes option-pricing model with the following weighted-average assumptions used for option grants in fiscal 1996, 1997 and 1998, respectively; dividend yield of 0% for all years, expected volatility factors of 0.378, 0.312 and 0.391; risk-free interest rates of 6.64%, 6.23% and 6.37%; and expected lives of four years. F-13 81 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 8. BUSINESS COMBINATIONS In fiscal year 1995, Nichols Research purchased 19.9% of the capital stock of TXEN, for approximately $1.5 million. In August 1997, Nichols Research exercised its option to acquire the remaining 80.1% of the capital stock of TXEN for aggregate consideration of approximately $43.8 million. The total purchase price for the TXEN acquisition was allocated to the TXEN assets and liabilities. The excess of the purchase price over the fair market value of the tangible assets acquired, $42.8 million, was allocated to the following intangibles: $8.5 million to in-process research and development, $17.4 million to goodwill, $14.1 million to other intangibles and $2.8 million to capitalized software development. In-process research and development of $8.5 million was expensed in the fourth quarter of 1997. The fair value of the acquired in-process technology was determined based on an analysis of the markets, cash flows and risk of achieving such cash flows. Goodwill and other intangibles of $30.7 million are being amortized using the straight-line method over an estimated useful life of 20 years. Of the total purchase price for the acquisition of TXEN, $8.5 million was allocated to ten software programs and systems constituting in-process technology. At the date of acquisition, the technological feasibility of the acquired technology had not been established and the acquired technology has no alternative future uses. There can be no assurance that the purchased in-process technology will be successfully developed. The acquired in-process technology consisted of ten software and systems development projects to reduce the time and personnel needed to perform managed care administrative functions and provide enhanced information reports. At the date of acquisition, the estimated cost to complete the projects was $1.8 million, of which $0.4 million was spent in fiscal year 1998 and of which $1.3 million is expected to be spent in the fiscal year 1999. To the extent the in-process technology is not successfully developed, this could have a material adverse impact on Nichols TXEN's operating results and financial condition. The following unaudited pro forma summary presents information as if the TXEN acquisition had occurred at the beginning of the fiscal year ended August 31, 1996. The charge of $8.5 million related to the write-off of purchased in-process research and development has been included in the pro forma results for the year ended August 31, 1996. The pro forma information is presented for informational purposes only. It is based on historical information and does not necessarily reflect the actual results that would have occurred nor is it necessarily indicative of future results of operations of the combined companies.
1996 1997 -------- ------- (IN THOUSANDS) Revenues.................................................... $ 18,274 $27,921 Net income (loss)........................................... $(10,266) $ 1,030
9. SUBSEQUENT EVENTS (UNAUDITED): In connection with a proposed public offering of a portion of Nichols TXEN's common stock, Nichols TXEN and Nichols Research would execute and deliver related agreements, the proposed forms of which are summarized below. Services Agreement Nichols Research will furnish administrative services to Nichols TXEN pursuant to a Corporate Services Agreement. Under the Corporate Services Agreement, Nichols Research will provide various administrative services, including public reporting compliance, corporate record keeping, risk management, employee benefit administration, administration of investor and media relations, tax return preparation, centralized cash management and financial and other services for an annual fee. In fiscal year 1999, the fee is 2.4% of operating expenses less costs of goods sold defined as direct materials and purchased labor. In fiscal years F-14 82 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 9. SUBSEQUENT EVENTS (UNAUDITED): (CONTINUED) 1996, 1997 and 1998, under a similar arrangement, Nichols TXEN paid $192,453, $249,577, and $696,214, respectively, to Nichols Research for administrative services. Nichols TXEN believes that the charges under the Corporate Services Agreement are reasonable. For additional items, such as software development services or administrative services that create unusual demands for resources, Nichols Research will charge Nichols TXEN costs actually incurred in performing such services plus a mutually acceptable fee. For the fiscal years ended August 31, 1996, 1997 and 1998, Nichols TXEN paid $145,506, $174,070 and $0, respectively, to Nichols Research for these additional services. Nichols TXEN is not obligated to use Nichols Research for these additional services. During the term of the services agreement, the Nichols TXEN Board of Directors will elect as Secretary the Secretary of Nichols Research and will elect as Treasurer the Chief Financial Officer of Nichols Research. The Secretary and Treasurer will serve in such capacities without compensation from Nichols TXEN. The services agreement automatically renews for successive one-year terms, unless canceled by either Nichols Research or Nichols TXEN upon 90 days prior notice following the initial one-year term. Voting Agreement Nichols Research has entered into a Voting Agreement with Nichols TXEN dated November 6, 1998, which will become effective upon completion of an initial public offering. Pursuant to the Voting Agreement, Nichols Research has agreed to vote all of its shares of Nichols TXEN common stock at any meeting at which directors are elected in favor of the election of independent directors so that after such election, if such persons are elected, there will be at least two independent directors of Nichols TXEN. The Voting Agreement will terminate upon the earlier of five years from the date of the Voting Agreement or the date upon which Nichols Research owns beneficially 50% or less of the common stock of Nichols TXEN. Tax Sharing Agreement Nichols Research and Nichols TXEN have entered into a Tax Sharing Agreement which generally provides for the manner in which the parties will bear taxes for the period beginning on September 1, 1998, and ending upon the sale by Nichols TXEN of the common stock pursuant to this offering and income tax deficiencies or refunds resulting from future audit adjustments. Nichols TXEN will be required to pay to Nichols Research an amount equal to the excess of the income tax liability which Nichols TXEN would have for the short period over the amount which Nichols TXEN has previously paid (or been charged with by Nichols Research) with respect to such taxes. If additional taxes must be paid by Nichols TXEN or Nichols Research as a result of an adjustment made by a tax regulatory authority, and as a result of that adjustment, the other party would obtain an offsetting tax benefit, the party obtaining the tax benefit pays an amount equal to the additional tax to the party whose income tax liability was increased. Likewise, if income taxes are reduced as a result of an adjustment made by a tax regulatory authority, and as a result of that adjustment, the other party would suffer an offsetting tax detriment, the party whose taxes were reduced must pay such amount to the other party. The Tax Sharing Agreement also contains provisions dealing with contesting adjustments made by tax regulatory authorities, determining who will bear the expense of any such challenge and cooperation between the parties. 10. INTANGIBLE ASSET IMPAIRMENT (UNAUDITED) At February 18, 1999, Nichols TXEN recorded an intangible asset impairment charge of $4.3 million. As previously disclosed, management regularly monitors its results of operations and other developments within the industry to adjust its cash flow forecast, as necessary, to determine if an adjustment is necessary to the carrying value of Nichols TXEN's intangible assets. F-15 83 NICHOLS TXEN CORPORATION NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) AUGUST 31, 1998 10. INTANGIBLE ASSET IMPAIRMENT (UNAUDITED) (CONTINUED) During the second quarter of 1999, the management of Nichols TXEN believed there were events and changes in circumstances that warranted a re-assessment as to whether the carrying amount of the goodwill related to the 1995 purchase of the practice management business of CSC was still recoverable. These events include: (1) loss of two significant customers; (2) discontinuance of turnkey sales; and (3) a reduction in technology outsourcing revenues. Therefore, in accordance with applicable accounting rules, management prepared an undiscounted cash flow analysis over the estimated recovery period to determine if these intangible assets were still recoverable. Management prepared the analysis with assumptions that reflected its current outlook on the business. In all instances, management believed the assumptions inherent in the analysis were reasonable and supportable. The following key assumptions were used in management's undiscounted cash flow analysis: (1) revenue was forecasted to decline through fiscal 2000 and then remain flat; (2) EBITDA margin was forecasted to continue to decrease in 1999, increase slightly over the following four years and then stabilize at a moderate margin over the remaining life of the assets; and (3) capital spending would be maintained in the range of 3% of revenue. Since the undiscounted cash flow model showed an impairment of Nichols TXEN's long-lived assets, Nichols TXEN used a discounted cash flow model to measure the fair value of these long-lived assets, which was consistent with Nichols TXEN's policy. The fair value calculation determined the fair value of the long-lived assets was less than book value, which resulted in the write-off of all of the goodwill associated with the CSC acquisition in accordance with paragraph 12 of SFAS 121. 11. CONTINGENCY (UNAUDITED) In the third quarter of fiscal 1999 Nichols TXEN was contacted by legal counsel representing the owner of patented technology allegedly possessing functionality similar to that of Nichols TXEN's non-patented technology for electronic integrated commerce and healthcare management systems. This claim has been referred to counsel, and is in the early stages of evaluation. Nichols TXEN has been offered an opportunity to obtain a license for the use of this patented technology. Nichols TXEN can give no assurance that the terms of any offered licenses will be acceptable to Nichols TXEN. F-16 84 REPORT OF INDEPENDENT AUDITORS The Board of Directors and Stockholders TXEN, Inc. We have audited the accompanying balance sheets of TXEN, Inc. as of June 30, 1996 and 1997 and the related statements of operations, changes in stockholders' equity and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of TXEN, Inc. at June 30, 1996 and 1997 and the results of its operations and its cash flows for the years then ended in conformity with generally accepted accounting principles. As discussed in Note 1 to the financial statements, in 1996 the Company changed its method of accounting for depreciation. ERNST & YOUNG LLP Birmingham, Alabama August 1, 1997 F-17 85 TXEN, INC. BALANCE SHEETS (IN THOUSANDS)
JUNE 30, --------------- 1996 1997 ------ ------ ASSETS Current assets: Cash and cash equivalents.................................. $ 631 $1,146 Accounts receivable, net of allowance for doubtful accounts of $35 and $125 at June 30, 1996 and 1997, respectively............................................. 1,096 4,771 Prepaid expenses........................................... 85 111 Income taxes receivable.................................... 25 -- Deferred income taxes...................................... 301 211 Inventory.................................................. 17 15 Other...................................................... 4 -- ------ ------ Total current assets........................................ 2,159 6,254 Property and equipment, net................................. 2,272 2,917 Deferred software development............................... -- 662 ------ ------ Total assets................................................ $4,431 $9,833 ====== ====== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Note payable to stockholder................................ $ 8 $ 8 Customer deposits.......................................... 129 -- Accounts payable and accrued expenses...................... 171 722 Accrued salaries, bonuses and vacation..................... 209 398 Income taxes payable....................................... -- 433 Current portion of long-term debt.......................... 253 276 Short-term notes........................................... 135 -- Deferred revenue........................................... 1,071 2,049 Interest payable........................................... -- 231 Accrued officers salaries.................................. -- 288 Other...................................................... 7 3 ------ ------ Total current liabilities................................... 1,983 4,408 Interest payable............................................ 200 -- Accrued officers salaries................................... 288 -- Deferred income taxes....................................... 124 395 Long-term debt to stockholders.............................. 258 274 Long-term debt.............................................. 639 366 Stockholders' equity: Preferred stock, $.002 par value; 1 share authorized, 1 share and 0 shares issued and outstanding at 1996 and 1997, respectively....................................... 1,500 -- Class A common stock, $.002 par value; 5,000,000 shares authorized, 5,000,000 and 4,000,500 shares issued and outstanding at 1996 and 1997, respectively............... 10 8 Class B common stock, $.002 par value; 1,250,000 shares authorized, 0 and 999,500 shares issued and outstanding at 1996 and 1997, respectively........................... -- 2 Additional paid-in capital................................. 410 1,910 Retained earnings (deficit)................................ (532) 2,889 Notes receivable from stockholders......................... (449) (419) ------ ------ Total stockholders' equity............................... 939 4,390 ------ ------ Total liabilities and stockholders' equity.................. $4,431 $9,833 ====== ======
See accompanying notes. F-18 86 TXEN, INC. STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT SHARE DATA)
YEARS ENDED JUNE 30, --------------------- 1996 1997 --------- --------- Revenues.................................................... $ 6,860 $14,980 Cost of revenues............................................ 3,212 4,848 ------- ------- Gross profit................................................ 3,648 10,132 Selling, general and administrative expenses................ 2,467 2,945 Research and development.................................... 926 1,069 Depreciation and amortization............................... 532 709 ------- ------- Income (loss) from operations............................... (277) 5,409 Other income (expense): Interest expense........................................... (153) (88) Interest income............................................ 102 75 Other...................................................... -- 4 ------- ------- Income (loss) before income taxes and cumulative effect of a change in accounting principle............................ (328) 5,400 Income tax expense (benefit)................................ (93) 1,979 ------- ------- Income (loss) before cumulative effect of a change in accounting principle...................................... (235) 3,421 Cumulative effect on prior years of changing to a different depreciation method (net of taxes of $33)................. 82 -- ------- ------- Net income (loss)........................................... $ (153) $ 3,421 ======= =======
See accompanying notes. F-19 87 TXEN, INC. STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (IN THOUSANDS)
NOTES CLASS A CLASS B ADDITIONAL RETAINED RECEIVABLE TOTAL PREFERRED COMMON COMMON PAID-IN EARNINGS FROM STOCKHOLDERS' STOCK STOCK STOCK CAPITAL (DEFICIT) STOCKHOLDERS EQUITY --------- ------- ------- ---------- --------- ------------ ------------- BALANCE, JUNE 30, 1995.... $1,500 $10 $-- $ 410 $ (379) $(437) $1,104 Issuance of notes receivable from stockholders............. -- -- -- -- -- (65) (65) Payments received on notes................... -- -- -- -- -- 89 89 Accrued interest on notes................... -- -- -- -- -- (36) (36) Net loss.................. -- -- -- -- (153) -- (153) ------ --- -- ------ ------ ----- ------ BALANCE, JUNE 30, 1996.... 1,500 10 -- 410 (532) (449) 939 Issuance of notes receivable from stockholders............. -- -- -- -- -- (16) (16) Conversion of preferred stock to common stock.... (1,500) -- 2 1,498 -- -- -- Contribution of common stock to treasury and subsequent retirement.... -- (2) -- 2 -- -- -- Payments received on notes................... -- -- -- -- -- 73 73 Accrued interest on notes................... -- -- -- -- -- (27) (27) Net income................ -- -- -- -- 3,421 -- 3,421 ------ --- -- ------ ------ ----- ------ BALANCE, JUNE 30, 1997.... $ -- $ 8 $2 $1,910 $2,889 $(419) $4,390 ====== === == ====== ====== ===== ======
See accompanying notes. F-20 88 TXEN, INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEAR ENDED JUNE 30, ------------------- 1996 1997 -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss)........................................... $(153) $ 3,421 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization.............................. 532 709 Cumulative effect of change in accounting principle, net of tax of $32.............................................. (82) -- Deferred income taxes...................................... (64) 360 Provision for doubtful accounts............................ (65) 90 Loss on sublease........................................... 6 -- Changes in operating assets and liabilities: Accounts receivable...................................... 44 (3,764) Prepaid expenses......................................... (36) (26) Income taxes receivable.................................. (7) 25 Inventory................................................ 3 2 Other.................................................... 1 (1) Interest payable......................................... 29 31 Customer deposits........................................ 4 (129) Accounts payable and accrued expenses.................... (156) 551 Accrued salaries, bonuses and vacation................... 76 190 Income taxes payable..................................... -- 433 Deferred revenue......................................... 437 978 ------- ------- Net cash provided by operating activities................... 569 2,870 CASH FLOWS FROM INVESTING ACTIVITIES Purchases of property and equipment......................... (1,060) (1,328) Additions to deferred software development costs............ -- (688) ------- ------- Net cash used in operating activities....................... (1,060) (2,016) CASH FLOWS FROM FINANCING ACTIVITIES Principal payments on long-term debt........................ (188) (250) Notes payable............................................... 135 (135) Payments on debt to stockholders............................ (9) -- Increase in debt to stockholders............................ 63 16 Principal payments on note payable to stockholder........... (42) -- Increase in notes receivable from stockholders.............. (11) 30 ------- ------- Net cash used in financing activities....................... (52) (339) ------- ------- Net (decrease) increase in cash and cash equivalents........ (543) 515 Cash and cash equivalents at beginning of year.............. 1,174 631 ------- ------- Cash and cash equivalents at end of year.................... $ 631 $ 1,146 ======= =======
See accompanying notes. F-21 89 TXEN, INC. NOTES TO FINANCIAL STATEMENTS JUNE 30, 1997 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization TXEN, Inc. facilitates the administration of health benefits by providing healthcare organizations hardware and software solutions through either outsourcing or turnkey agreements primarily in the United States. TXEN also provides data processing services through management service organization, or MSO, agreements. Cash and Cash Equivalents TXEN considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Revenue Recognition Outsourcing/MSO. Outsourcing and MSO fees are recognized as services are provided. System sales. Software license fees and equipment revenue are recognized upon delivery of the software product to the customer, unless TXEN has significant related obligations remaining. Revenue requiring any significant obligations to customers is deferred and recognized once the remaining obligations become insignificant. Professional services. Revenue from professional services is recognized either as the services are performed based on TXEN's standard rates for the applicable services or as contract milestones are achieved, if specified and required under the contract with the customer. Revenue from post-contract customer support is recognized in the period the customer support services are provided. Concentration of Credit Risk and Financial Instruments. Financial instruments which subject TXEN to credit risk are primarily trade accounts receivable. Concentrations of credit risk with respect to trade accounts receivable are limited due to the large number and diversity of customers comprising TXEN's customer base. TXEN believes that any risk associated with trade accounts receivable is adequately provided for in the allowance for doubtful accounts. TXEN generally does not require collateral on its trade accounts receivable. Software Development Cost Under Statement of Financial Accounting Standards No. 86, "Accounting for Software Costs," once technological feasibility is established related to software development costs for new products or for enhancements to existing products which extend the product's useful life, the costs are capitalized until the product or enhancement is available for release to customers, after which the capitalized costs are amortized over the product's estimated life giving consideration to estimates of recoverability and net realizable value. Total costs capitalized for software development were $0 and $687,338, during the fiscal years ended June 30, 1996 and 1997, respectively. Capitalized software development costs are being amortized over five years. Accumulated amortization of capitalized software development cost were $0 and $25,887, during fiscal years ended June 30, 1996 and 1997, respectively. TXEN capitalized interest related to software development costs of $0 and $27,177, during the fiscal years ended June 30, 1996 and 1997, respectively. F-22 90 TXEN, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Research and Development Research and development is conducted by TXEN under both customer sponsored and TXEN sponsored programs. Total research and development costs incurred by TXEN were $926,000 and $1,756,338, during the fiscal years ended June 30, 1996 and 1997, respectively. Inventory Inventory is carried at the lower of cost or market using the specific identification method. Property and Equipment and Change in Depreciation Method Property and equipment is stated on the basis of cost. Property and equipment are depreciated over the estimated useful lives of the assets (generally three to seven years). Depreciation and amortization had been provided using the straight-line method for items purchased prior to July 1, 1994, and double- declining balance for items purchased after July 1, 1994. During the fiscal year ended June 30, 1996, TXEN adopted the straight-line method of depreciation for all assets. The new method of depreciation was adopted to better match the cost of the property and equipment with the revenues generated by those assets and has been applied retroactively to property and equipment acquired in prior years. The effect of the change in fiscal year 1996, was to decrease loss before cumulative effect of the change in accounting principle by approximately $28,400. The adjustment of $81,615 (after reduction for income taxes of $32,252) to apply the new method, is included in net loss for fiscal year 1996. Income Taxes All income tax amounts and balances have been computed in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." Under Statement No. 109, the liability method is used in accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Stock Options TXEN has elected to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," (APB 25) and related interpretations in accounting for its employee stock options because the alternative fair value accounting provided for under Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," (SFAS 123) requires use of option valuation models that were not developed for use in valuing employee stock options. Under APB 25, because the exercise price of TXEN'S employee stock options equals the market price of the underlying stock on the date of the grant, no compensation expense is recognized. Use of Estimates The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. F-23 91 TXEN, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) 2. PROPERTY AND EQUIPMENT Property and equipment consists of the following as of June 30:
1996 1997 ------ ------ (IN THOUSANDS) Computer equipment.......................................... $2,162 $3,016 Software.................................................... 285 334 Furniture and fixtures...................................... 923 1,112 ------ ------ 3,370 4,462 Less accumulated depreciation............................... 1,098 1,545 ------ ------ $2,272 $2,917 ====== ======
3. LONG-TERM DEBT AND LINES OF CREDIT TXEN has two revolving credit lines with a bank which are payable on demand totaling $1,000,000 which are collateralized by certain assets of TXEN and the general guaranty of the primary stockholders. There were no borrowings under the credit lines at June 30, 1996 and 1997. On March 17, 1994, TXEN borrowed $1,342,719 from the bank under a long-term note. The note, which has a balance of $892,031 and $641,834 at June 30, 1996 and 1997, respectively, and matures on October 17, 1998, bears interest at prime plus 1/2% and is cross-collateralized with assets pledged under the revolving credit lines. Annual maturities of long-term debt are as follows: 1998 -- $275,411 and 1999 -- $366,423. TXEN incurred $54,474 and $19,500 during the fiscal years ended June 30, 1996 and 1997, respectively, of long-term debt to two stockholders for the purchase of common stock of TXEN that was then sold to various employees of TXEN in exchange for notes receivable. Interest accrues at 8.0% and matures on October 1, 1997. TXEN paid $146,975 and $115,268 in interest during the fiscal years ended June 30, 1996 and 1997, respectively. 4. LEASES TXEN operates in leased premises and also leases certain equipment. The future minimum lease payments under operating leases for the next three years and in the aggregate are as follows:
(IN THOUSANDS) 1998........................................................ $278 1999........................................................ 98 2000........................................................ 224 ---- $600 ====
Rent expense for the fiscal years ended June 30, 1996 and 1997, was $263,668 and $251,985, respectively. TXEN is also subleasing space to another tenant over the next two years. The total estimated minimum sublease rentals to be received in the future under this sublease are $33,209 and $6,642 at June 30, 1996 and 1997, respectively. F-24 92 TXEN, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) 5. STOCKHOLDERS' EQUITY On December 16, 1994, TXEN entered into a Stock Purchase Option Agreement with a third-party. Under the terms of the agreement, TXEN sold one share of convertible preferred stock to the third-party for $1,500,000. TXEN also authorized 1,250,000 shares of Class B common stock which was reserved for issuance upon the conversion of the preferred stock. On July 17, 1996, the Stock Purchase Option Agreement with the holder of the preferred stock was amended to allow the holder of the preferred stock to accelerate the date to exercise the option to purchase all of the issued and outstanding Class A common stock of TXEN. The option is exercisable for a period of 30 days after release of TXEN's audited financial statements for the fiscal year ended June 30, 1997. The holder of the preferred stock converted all of the preferred stock to Class B common stock which is a condition precedent to the right to exercise the option to purchase all of the outstanding shares of Class A common stock of TXEN. TXEN expects the option to be exercised which will require all related party balances to be settled prior to the purchase. As a result, accrued officers salaries and the related interest payable have been classified as current liabilities on the balance sheet. 6. INCOME TAXES TXEN paid $0 and $1,161,001 in income taxes during the fiscal years ended June 30, 1996 and 1997, respectively. Significant components of TXEN's current deferred tax liabilities and assets at June 30, 1996 and 1997 are as follows:
1996 1997 ----- ------ (IN THOUSANDS) Deferred tax liabilities: Tax over book depreciation................................. $228 $ 260 Software development costs................................. -- 239 ---- ----- 228 499 Deferred tax assets: Allowance for doubtful accounts............................ 13 45 Accrued salaries and interest.............................. 185 188 Accrued leave.............................................. 44 78 Other...................................................... 6 4 Net operating loss carryforwards........................... 157 -- ---- ----- 405 315 ---- ----- $177 $(184) ==== =====
F-25 93 TXEN, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) 6. INCOME TAXES (CONTINUED) Significant components of the provision for income taxes (benefit) are as follows:
1996 1997 ----- ------- (IN THOUSANDS) Current: Federal.................................................... $ 4 $1,599 State...................................................... -- 163 Benefit of operating loss carryforward..................... -- (143) ---- ------ Total current............................................... 4 1,619 Deferred: Federal.................................................... (56) 314 State...................................................... (8) 46 ---- ------ Total deferred.............................................. (64) 360 ---- ------ $(60) $1,979 ==== ======
7. RELATED PARTY TRANSACTIONS TXEN has a note payable to a stockholder of TXEN for $8,333 at June 30, 1996 and 1997, bearing interest at 8.0%. Payment of the principal balance and accrued interest will be made upon demand except where TXEN is restricted from doing so by any agreements with third-parties in force at that time. TXEN has notes and accrued interest receivable from stockholders of TXEN of $448,783 and $418,833 at June 30, 1996 and 1997, respectively, which bear interest at 8.0%. TXEN incurred $269,202 in expenses with an affiliated company for contracted services of which $38,857 is included in accounts payable at June 30, 1997. TXEN had $188,037 of revenue from an affiliated company during the fiscal year ended June 30, 1997. 8. SAVINGS AND RETIREMENT PLAN TXEN has a savings and retirement plan administered by Nichols Research for all eligible employees pursuant to Section 401(k) of the Internal Revenue Code. TXEN will match employee contributions to the savings and retirement plan at a level determined annually by the TXEN's Board of Directors. TXEN's contribution for the fiscal years ended June 30, 1996 and 1997, was $3,400 and $6,009, respectively. 9. STOCKHOLDERS' AGREEMENT Certain members of management are also stockholders of TXEN and owned approximately 60% of the Class A common stock at June 30, 1997. Under a stock purchase agreement, TXEN is committed to purchase management's common stock in the event of death, retirement or termination of employment. The price to be paid for the common stock is set by formula in the Employee Stock Purchase Agreement. As discussed in Note 5, the holder of the Class B common stock has the right to exercise an option to purchase all of the outstanding shares of Class A common stock of TXEN for a period of 30 days after release of TXEN's audited financial statements for the fiscal year ended June 30, 1997, which would include all the stock held by members of management. F-26 94 TXEN, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) 10. CONTINGENCY TXEN entered into an agreement with a customer whereby TXEN must deliver the final version of software currently under development by August 1, 1999. If the software is not ready to be released to the customer by August 1, 1999, TXEN must pay a penalty of $195,000. Management estimates that delivery of the software under development will occur prior to the deadline and no penalty will be incurred and, therefore, no accrual for this contingency has been recorded in the financial statements. 11. STOCK OPTION PLANS During 1996, the Board of Directors approved the TXEN, Inc., 1996 Incentive Stock Option Plan which authorized the issuance of options to purchase up to 100,000 shares of common stock and the Key Employee Incentive Stock Option Plan which authorized the issuance of options to purchase up to 40,000 shares of common stock. All options under the 1996 Plans have five-year terms. Incentive stock options vest and become exercisable at the end of two years of continued employment while non-qualified stock options are exercisable upon grant. The pro forma information regarding net income is required by SFAS 123, and has been determined as if TXEN had accounted for its employee stock options under the fair value method required by SFAS 123. The fair value for these options was estimated at the date of grant using the minimum value method with the following assumptions for 1996: risk-free interest rates of 6.30%; weighted-average expected life of the options of 4 years; no volatility factors of the expected market price of TXEN's common stock because TXEN is privately held; and no dividend yields. If TXEN had adopted SFAS 123 in accounting for its stock options granted in fiscal year 1996, its net income would have been decreased by approximately $31,000. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The effect of applying pro forma disclosures based on SFAS 123 are not likely to be representative of the effects on future net income. As of June 30, 1996, there were no options which had been exercised. During fiscal year 1997, 123,371 shares were granted with an exercise price of $6.20 and remain outstanding at June 30, 1997. The weighted average fair value of options granted during the year was $6.78 with a weighted average contractual life of 4.2 years. F-27 95 Nichols TXEN Software Application Services Screen Print of NextSTEPP (Photo: High-end, Comprehensive Managed Care Administration) (Photo: Screen Print of FirstSTEPP) Workflow-driven Medical utilization management (Photo: Screen Print of TXEN MD.Com) Extranet e-commerce provider-oriented inquiry for patient eligibility, benefit and claim information (Photo: Screen Print of MDrSTEPP) High-end, Comprehensive physician practice administration 96 - -------------------------------------------------------------------------------- (NICHOLS TXEN LOGO) NICHOLS TXEN CORPORATION 2,625,000 SHARES COMMON STOCK --------------------------- PROSPECTUS --------------------------- ______ , ____ CIBC WORLD MARKETS FRIEDMAN BILLINGS RAMSEY THE ROBINSON-HUMPHREY COMPANY - -------------------------------------------------------------------------------- YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. NO DEALER, SALESPERSON OR OTHER PERSON IS AUTHORIZED TO GIVE INFORMATION THAT IS NOT CONTAINED IN THIS PROSPECTUS. THIS PROSPECTUS IS NOT AN OFFER TO SELL NOR IS IT SEEKING AN OFFER TO BUY THESE SECURITIES IN ANY JURISDICTION WHERE THE OFFER OR SALE IS NOT PERMITTED. THE INFORMATION CONTAINED IN THIS PROSPECTUS IS CORRECT ONLY AS OF THE DATE OF THIS PROSPECTUS, REGARDLESS OF THE TIME OF THE DELIVERY OF THIS PROSPECTUS OR ANY SALE OF THOSE SECURITIES. DEALER PROSPECTUS DELIVERY OBLIGATION: UNTIL _______ , _____ (25 DAYS AFTER THE COMMENCEMENT OF THE OFFERING), ALL DEALERS THAT EFFECT TRANSACTIONS IN THESE SECURITIES, WHETHER OR NOT PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO THE DEALERS' OBLIGATION TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS. 97 PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The expenses in connection with the issuance and distribution of the securities being registered are: Securities and Exchange Commission registration fee......... $ 10,842 National Association of Securities Dealers, Inc. filing fee....................................................... 4,400 Nasdaq National Market listing fee.......................... 75,000 Accountants' fees and expenses.............................. 250,000 Legal fees and expenses..................................... 300,000 Blue Sky fees and expenses.................................. 16,000 Transfer Agent's fees and expenses.......................... 30,000 Printing and engraving expenses............................. 165,000 Miscellaneous............................................... 148,758 ---------- Total Expenses........................................... $1,000,000 ==========
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS Section 145 of the Delaware General Corporation Law permits indemnification by Nichols TXEN of any director, officer, employee or agent of Nichols TXEN or person who is serving or was serving at Nichols TXEN's request as a director, officer, employee or agent of another corporation or other enterprise, against expenses (including attorneys' fees), judgments, fines and amounts paid in settlement, actually and reasonably incurred by him in connection with the defense of any threatened, pending or completed action (whether civil, criminal, administrative or investigative), to which he is or may be a party by reason of having been such director, officer, employee or agent provided that he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of Nichols TXEN, and, with respect to any criminal action or proceeding had no reasonable cause to believe his conduct was unlawful. Nichols TXEN also has the power under Section 145 to indemnify persons set forth above from threatened, pending or completed actions or suits by or in the right of Nichols TXEN to procure a judgment in its favor by reason of the fact that such person was a director, officer, employee or agent of Nichols TXEN or is or was serving at the request of Nichols TXEN as a director, officer, employee or agent of another corporation or enterprise against expenses actually and reasonably incurred by him in connection with the defense or settlement of the action if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of Nichols TXEN, except that no indemnification can be made with regard to any claim, issue or matter as to which the person has been adjudged to be liable for negligence or misconduct in the performance of his duty to Nichols TXEN unless and only to the extent that the Delaware Court of Chancery or the court in which the action was brought determines that the person was fairly and reasonably entitled to indemnity. Any indemnification (unless ordered by a court) must be made by Nichols TXEN only as authorized in the specific case upon a determination that indemnification of the person is proper in the circumstances because he has met the applicable standards of conduct. The determination must be made by the Board of Directors by a majority vote of a quorum consisting of directors who are not parties to the action, or if a quorum is not obtainable or, even if obtainable, a quorum of disinterested directors so directs, by independent counsel in a written opinion, or by the stockholders. Nichols TXEN may pay the expenses of an action in advance of final disposition if authorized by the Board of Directors in a specific case, upon receipt of an undertaking by the person to be indemnified to repay any such advances unless it shall ultimately be determined that such person is entitled to be indemnified by Nichols TXEN as authorized by law. Article XI of Nichols TXEN's amended and restated certificate of incorporation and Article Eight of Nichols TXEN's amended and restated bylaws provide for indemnification of Nichols TXEN's directors, officers, employees or agents to the extent permitted by Section 145 of the Delaware General Corporation II-1 98 Law. Article XI of Nichols TXEN's amended and restated certificate of incorporation and Article Eight of Nichols TXEN's amended and restated bylaws further provide that Nichols TXEN may purchase and maintain insurance on behalf of those persons described above as eligible for indemnification for liability arising out of such person's duties or status with Nichols TXEN whether or not indemnification in respect of such liability would be permissible. Nichols TXEN has entered into indemnification agreements with each of its directors to give such directors additional contractual assurances regarding the scope of the indemnification set forth in Nichols TXEN's amended and restated certificate of incorporation and to provide additional procedural protections. At present, there is no pending litigation or proceeding involving a director, officer or employee of Nichols TXEN regarding which indemnification is sought, nor is Nichols TXEN aware of any threatened litigation that may result in claims for indemnification. Nichols TXEN has in effect an officers and directors liability insurance policy with National Union Fire Insurance Company. The policy provides indemnity to the directors and officers of Nichols TXEN for the loss arising from any claim by reason of a wrongful act where there is no corporate indemnification. The insurance provides for Nichols TXEN to be reimbursed for any indemnification it may be required by statute or Nichols TXEN's amended and restated bylaws to make to any of its directors and officers in connection with a claim by reason of a wrongful act. Pursuant to exclusions, the policy covers negligent acts, errors, omissions or breach of duty by a director or officer. The principal exclusions from coverage include the following: (1) claims involving various violations of Section 16(b) of the Securities Exchange Act of 1934; (2) dishonest acts; and (3) libel, slander, or non-monetary damages. The policy has no deductible amount per director or officer for each loss. A $100,000 deductible self-insurance retention applies to Nichols TXEN, except for securities law claims for which a $250,000 deductible applies. The limit of liability under the policy is $15,000,000 in the aggregate annually in excess of deductibles and participations. ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES Upon incorporation of Nichols TXEN on September 17, 1996, five hundred shares of the Company's $1.00 par value common stock were issued to the founder and sole stockholder, Nichols Research, in exchange for its initial capital contribution of $1,000.00 in cash. Upon the merger of Computer Services Corporation with and into Nichols TXEN on September 23, 1996, five hundred shares of the common stock were issued to Nichols Research, the sole stockholder of Computer Services Corporation, in exchange for all of its shares of Computer Services Corporation. All 1,000 shares sold were issued pursuant to Section 4(2) of the Securities Act of 1933, in an exempt transaction by Nichols TXEN not involving any public offering. ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES (a) Exhibits.
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 1.1* -- Proposed form of Underwriting Agreement 2.1+ -- Agreement of Merger among Nichols Research Corporation, Nichols SELECT Corporation, TXEN, Inc. and the shareholders of TXEN, Inc., dated August 27, 1997 3.1+ -- Registrant's Amended and Restated Certificate of Incorporation 3.2+ -- Registrant's Amended and Restated Bylaws 4.1* -- Specimen Stock Certificate 5.1* -- Opinion and Consent of Lanier Ford Shaver & Payne, P.C.
II-2 99
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 10.1+ -- Nichols TXEN Corporation 1998 Stock Option Plan** 10.2a+ -- Nichols TXEN Corporation Employee's Stock Purchase Plan 10.2b -- Amended and Restated Nichols TXEN Corporation Employees' Stock Purchase Plan** 10.3+ -- Nichols TXEN Corporation Non-Employee Director Stock Option Plan** 10.4+ -- Employment Agreement dated December 16, 1994, as amended, between Registrant and Thomas L. Patterson** 10.5+ -- Employment Agreement dated December 16, 1994, as amended, between Registrant and Paul D. Reaves** 10.6+ -- Employment Agreement dated August 29, 1997, as amended, between Registrant and H. Grey Wood** 10.7+ -- Corporate Services Agreement dated November 6, 1998, between Registrant and Nichols Research Corporation 10.8+ -- Tax Sharing Agreement dated November 6, 1998, between Registrant and Nichols Research Corporation 10.9+ -- Form of Indemnification Agreement between Registrant and its directors 10.10+ -- Software Licensing Agreement between CSC Healthcare Systems, Inc. and TXEN, Inc. dated June 1, 1993 10.11+ -- Voting Agreement dated November 6, 1998, between Registrant and Nichols Research Corporation 10.12+ -- Commercial Lease dated September 1, 1996, between Computer Services Corporation and Birmingham S.S.P., Inc. 10.13+ -- Commercial Lease dated October 31, 1985, between Computer Services Corporation and Wimberly & Thomas Building Restoration Partnership 10.14+ -- Lease between Nichols SELECT Corporation and Birmingham S.S.P., Inc. 10.15+ -- Office Space Lease dated May 6, 1998, between the Registrant and Raytheon Engineers & Constructors, Inc. 10.16+ -- Office Lease dated April 13, 1998, between the Registrant and Metropolitan Life Insurance Company 10.17+ -- Sublease dated May 5, 1997, between TXEN, Inc. and ABB Environmental Systems, Inc. 10.18 -- Lease dated May 8, 1998, between the Registrant and Daniel Meadow Brook South, LLC 11.1+ -- Computation of Earnings Per Share 23.1 -- Consent of Ernst & Young LLP, independent auditors, with respect to Nichols TXEN Corporation 23.2 -- Consent of Ernst & Young LLP, independent auditors, with respect to TXEN, Inc. 23.3* -- Consent of Lanier Ford Shaver & Payne, P.C. (included in Exhibit 5.1) 24.1+ -- Power of Attorney 27.1+ -- Financial Data Schedule (for SEC use only)
- --------------------------- * To be filed by amendment. ** Management contract or compensatory plan or arrangement. + Previously filed. (b) Financial Statement Schedules. Schedule II -- Valuation and Qualifying Accounts. II-3 100 ITEM 17. UNDERTAKINGS (a) The undersigned Registrant hereby undertakes to provide to the underwriters at the closing specified in the underwriting agreement, certificates in such denominations and registered in such names as required by the underwriters to permit prompt delivery to each purchaser. (b) Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant as been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. (c) The undersigned Registrant hereby undertakes that: (i) For purposes of determining any liability under the Securities Act, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in the form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of the registration statement as of the time it was declared effective. (ii) For the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement 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-4 101 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the registrant has duly caused this Amendment No. 2 to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Birmingham, State of Alabama, on the 18th day of June, 1999. Nichols TXEN Corporation By: John D. McKay ------------------------------------ John D. McKay, Chief Financial Officer Pursuant to the requirements of the Securities Act of 1933, this Amendment No. 2 has been signed by the following persons in the capacities and on the dates indicated.
SIGNATURE TITLE DATE --------- ----- ---- * Chief Executive Officer and June 18, 1999 - ------------------------------------------------ Director (Principal Executive Paul D. Reaves Officer) * Chairman of the Board June 18, 1999 - ------------------------------------------------ Thomas L. Patterson * President, Chief Operating Officer June 18, 1999 - ------------------------------------------------ and Director H. Grey Wood * Director June 18, 1999 - ------------------------------------------------ Chris H. Horgen * Director June 18, 1999 - ------------------------------------------------ James D. Kever * Director June 18, 1999 - ------------------------------------------------ James I. Harrison, Jr. John D. McKay Chief Financial Officer (Principal June 18, 1999 - ------------------------------------------------ Financial and Accounting Officer) John D. McKay *By: John D. McKay - ------------------------------------------------ John D. McKay Attorney-in-fact
II-5 102 AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULE To the Stockholder of Nichols TXEN Corporation We have audited the financial statements of Nichols TXEN Corporation as of August 31, 1997 and 1998, and for each of the three years in the period ended August 31, 1998, and have issued our report thereon dated January 7, 1999, included elsewhere in this Registration Statement. Our audit also included the financial statement schedule listed in Item 16(b) of this Registration Statement. This schedule is the responsibility of management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. Ernst & Young LLP Birmingham, Alabama January 7, 1999 S-1 103 NICHOLS TXEN CORPORATION SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
ADDITIONS CHARGED TO ADDITIONS BALANCE AT COSTS AND CHARGED TO BALANCE BEGINNING EXPENSES OTHER ACCOUNTS DEDUCTIONS AT END ----------- ----------- -------------- ---------- -------- (IN THOUSANDS) For the nine months ended May 31, 1999 Allowance for doubtful accounts (unaudited)...................... $500 $272 $ -- $(547) $225 ---- ---- ---- ----- ---- Total valuation and qualifying accounts....................... $500 $272 $ -- $(547) $225 ==== ==== ==== ===== ==== For the year ended August 31, 1998 Allowance for doubtful accounts..... $145 $512 $ -- $(157) $500 ---- ---- ---- ----- ---- Total valuation and qualifying accounts....................... $145 $512 $ -- $(157) $500 ==== ==== ==== ===== ==== For the year ended August 31, 1997 Allowance for doubtful accounts..... $ 5 $ -- $140(1) $ -- $145 ---- ---- ---- ----- ---- Total valuation and qualifying accounts....................... $ 5 $ -- $140 $ -- $145 ==== ==== ==== ===== ==== For the year ended August 31, 1996 Allowance for doubtful accounts..... $ 5 $ -- $ -- $ -- $ 5 ---- ---- ---- ----- ---- Total valuation and qualifying accounts....................... $ 5 $ -- $ -- $ -- $ 5 ==== ==== ==== ===== ====
- --------------------------- (1) Acquisition of TXEN, Inc. S-2 104 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 1.1* -- Proposed form of Underwriting Agreement 2.1+ -- Agreement of Merger among Nichols Research Corporation, Nichols SELECT Corporation, TXEN, Inc. and the stockholders of TXEN, Inc., dated August 27, 1997 3.1+ -- Registrant's Amended and Restated Certificate of Incorporation 3.2+ -- Registrant's Amended and Restated Bylaws 4.1* -- Specimen Stock Certificate 5.1* -- Opinion and Consent of Lanier Ford Shaver & Payne, P.C. 10.1+ -- Nichols TXEN Corporation 1998 Stock Option Plan** 10.2a+ -- Nichols TXEN Corporation Employee's Stock Purchase Plan 10.2b -- Amended and Restated Nichols TXEN Corporation Employees' Stock Purchase Plan** 10.3+ -- Nichols TXEN Corporation Non-Employee Director Stock Option Plan** 10.4+ -- Employment Agreement dated December 16, 1994, as amended, between Registrant and Thomas L. Patterson** 10.5+ -- Employment Agreement dated December 16, 1994, as amended, between Registrant and Paul D. Reaves** 10.6+ -- Employment Agreement dated August 29, 1997, as amended, between Registrant and H. Grey Wood** 10.7+ -- Corporate Services Agreement dated November 6, 1998, between Registrant and Nichols Research Corporation 10.8+ -- Tax Sharing Agreement dated November 6, 1998, between Registrant and Nichols Research Corporation 10.9+ -- Form of Indemnification Agreement between Registrant and its directors 10.10+ -- Software Licensing Agreement between CSC Healthcare Systems, Inc. and TXEN, Inc. dated June 1, 1993 10.11+ -- Voting Agreement dated November 6, 1998, between Registrant and Nichols Research Corporation 10.12+ -- Commercial Lease dated September 1, 1996, between Computer Services Corporation and Birmingham S.S.P., Inc. 10.13+ -- Commercial Lease dated October 31, 1985, between Computer Services Corporation and Wimberly & Thomas Building Restoration Partnership 10.14+ -- Lease between Nichols SELECT Corporation and Birmingham S.S.P., Inc. 10.15+ -- Office Space Lease dated May 6, 1998, between the Registrant and Raytheon Engineers & Constructors, Inc. 10.16+ -- Office Lease dated April 13, 1998, between the Registrant and Metropolitan Life Insurance Company 10.17+ -- Sublease dated May 5, 1997, between TXEN, Inc. and ABB Environmental Systems, Inc. 10.18 -- Lease dated May 8, 1998, between the Registrant and Daniel Meadow Brook South, LLC 11.1+ -- Computation of Earnings Per Share 23.1 -- Consent of Ernst & Young LLP, independent auditors, with respect to Nichols TXEN Corporation 23.2 -- Consent of Ernst & Young LLP, independent auditors, with respect to TXEN, Inc. 23.3* -- Consent of Lanier Ford Shaver & Payne, P.C. (included in Exhibit 5.1) 24.1+ -- Power of Attorney 27.1+ -- Financial Data Schedule (for SEC use only)
- --------------------------- * To be filed by amendment. ** Management contract or compensatory plan or arrangement. + Previously filed. EX-10.2B 2 AMENDED AND RESTATED EMPLOYEES STOCK PURCHASE PLAN 1 EXHIBIT 10.2b AMENDED AND RESTATED NICHOLS TXEN CORPORATION EMPLOYEES' STOCK PURCHASE PLAN ARTICLE I PURPOSES Nichols TXEN Corporation previously established the Plan set forth herein in order to encourage ownership of its Common Stock by its employees and employees of certain Affiliates, by providing them a convenient means for regular and systematic purchases on an advantageous basis, thereby increasing their interest in the Company's success. The Company hereby amends and restates the Plan to permit employees of its parent corporation, Nichols Research Corporation, to make limited purchases of the Common Stock of the Company pursuant to the terms of the Plan. ARTICLE II DEFINITIONS "Affiliate" means a subsidiary of the Company (including corporations becoming subsidiaries subsequent to the adoption of the Plan) in an unbroken chain of corporations beginning with the Company if at the time of the granting of the Option each of such corporations other than the last corporation in the unbroken chain owns stock possessing 50% or more of the total combined voting power of all classes of stock in one of the other corporations in such chain. "Board " means the Company's Board of Directors. "Code" means the Internal Revenue Code of 1986, as amended from time to time, and regulations thereunder. "Company" means Nichols TXEN Corporation. "Effective Date" shall mean the later of (1) the date a registration statement initially registering the Company's common stock under the Securities Act of 1933 is declared effective by the Securities and Exchange Commission, or (2) the date the Plan is approved by the shareholders of the Company. "Employee" means all employees (full-time and part-time) of the Company, its Affiliates or the Parent. "Employer" means the Company, its Affiliates which are designated by the Board as an employer for purposes of this Plan, and the Parent. The Board may from time to time change the designation of Affiliates who are employers for purposes of this Plan. "Option" means a right to purchase Stock granted under Section 4.1. "Option Period" means a three-month period beginning on the Effective Date of the Plan and any March 1, June 1, September 1, and December 1 thereafter, and ending on the next February 28, May 31, August 31, or November 30. -1- 2 "Parent" means Nichols Research Corporation, the parent corporation of the Company, and any of its subsidiaries as referred to in Section 424(f) of the Code other than the Company and its Affiliates. "Plan" means the Nichols TXEN Corporation Employees' Stock Purchase Plan set forth herein, as it may be amended from time to time. "Stock" means the one cent ($.01) par value per share Common Stock of Nichols TXEN Corporation. ARTICLE III ELIGIBILITY AND PARTICIPATION 3.1 Participation. On the Effective Date and on each March 1, June 1, September 1, and December 1 thereafter, an Employee may elect to participate in the Plan by authorizing payroll deductions through the Employee's Employer. An Employee of the Parent may elect to participate in the Plan provided such employee is also a participant in the Parent's employee stock purchase plan (as defined in Section 423 of the Code). An Employee electing to participate in the Plan pursuant to this Section 3.1 shall continue as a participant in the Plan until such time as he discontinues payroll deductions pursuant to Section 5.3. Once participation is discontinued hereunder, an Employee may not again elect to participate in the Plan until the next succeeding March 1 or, in the case of an Employee subject to the reporting requirements of Section 16(a) of the Securities Act of 1934, until the later of (i) the March 1 immediately following his discontinuance of payroll deductions, or (ii) the March 1 next occurring after the date which is six (6) months after the date such Employee discontinued payroll deductions under the Plan. 3.2 Eligibility. An Employee who elects to participate in the Plan under Section 3.1 shall be eligible for an Option on the first day of an Option Period if he is an Employee of an Employer. ARTICLE IV GRANTING OF OPTIONS 4.1 Option Periods. On each March 1, June 1, September 1, and December 1 beginning with the Effective Date, each Employee who is participating in the Plan and who is eligible for an Option under Article III shall be granted an Option to purchase Stock from the Company on the last day of the Option Period beginning on that date, by authorizing payroll deductions under Article V. Notwithstanding the foregoing, no Employee shall be eligible for an Option under Article III if such Employee, immediately after the Option is granted, shall own 5% or more of the voting power or value of all classes of stock of the Company, any of its Affiliates, or the Parent, treating the maximum amount of stock available to him under the Plan for such Option Period and shares subject to any other option as owned by him and treating as owned by him shares owned by others to the extent provided in Section 425 (d) of the Code. Any Options granted in an Option Period which are not exercised on the last day of the Option Period shall expire as of the end of the Option Period. 4.2 Exercise Price. For any Option Period, the exercise price of each Option shall be the lesser of (a) 85% of the fair market value of the stock on the first day of the Option Period, or (b) 85% of the fair market value of the Stock on the last day of the Option Period. Fair market value on any day means the closing sale price of the Stock as reported on the Nasdaq National Market on such day or, if not traded on such day, on the last preceding day on which the Stock was traded. -2- 3 4.3 Nontransferability. Options granted to an Employee are not transferable, and may be exercised during the Employee's lifetime only by him. Any attempt of assignment, transfer, pledge, hypothecation, or other disposition of any Option contrary to the provisions of this Plan, and the levy and attachment or any similar proceedings upon any Option, shall be null and void. 4.4 Stockholder Approval. If the Plan is not approved by the Company's stockholders on or before the date which is twelve (12) months after the Board of Directors adopts the Plan, then the Plan shall be null and void. 4.5 Limits on Stock Purchase. Notwithstanding any other provision of this Plan, no Employee may purchase in an Option Period more than the number of shares equal to 10% of his annual basic rate of compensation divided by the exercise price of the option. In addition, no Employee may be granted an Option which permits him to purchase during a calendar year under the Plan and any other employee stock purchase plan within the meaning of Section 423 of the Code, shares of the Company, its Affiliates, and the Parent having an aggregate fair market value, determined at the time such Option is granted, of more than $25,000. For any employee that participates in both this Plan and the Parent's employee stock purchase plan, in no event shall the aggregate amount of payroll deductions from the Employee's compensation to purchase options under both plans exceed 10% of such compensation. If an Employee of the Parent participates in this Plan, he shall elect to allocate either (a) 20% of his payroll deduction, or (b) 40% of his payroll deduction to the purchase of Stock under this Plan with the balance of such payroll deduction allocated to purchase stock of the Parent. 4.6 Amount of Stock Available. An aggregate of 1,000,000 shares of Stock shall be available for purchase under the Plan, subject to adjustment under Section 4.7. To the extent Options expire unexercised, the Stock subject to such Options shall become available for subsequent grant. Stock available for purchase under the Plan shall be authorized but unissued shares or reacquired shares. 4.7 Adjustments of Amount of Stock. In the event of change in the number of shares of Stock outstanding by reason of a stock dividend, stock split or other recapitalization, or by reason of a merger or consolidation or otherwise, the number of shares of stock available under this Plan, and the fair market value of such shares at the beginning of the Option Period during which such change occurs, shall be adjusted in such manner as the Board, in its discretion, deems equitable and appropriate. ARTICLE V PAYMENT FOR STOCK 5.1 Payroll Deductions. Each Employee may exercise Options granted to him under Section 4. 1, exclusively by authorizing payroll deductions on a form provided by his Employer. The actual exercise of the Options shall occur on the last day of the Option Period. Deductions may be authorized beginning on the Effective Date or any March 1, June 1, September 1 or December 1 thereafter, in any integral percentage, up to ten (10%) percent of an Employee's basic rate of compensation paid by the Employer. Total deductions may not exceed $25,000 for any calendar year. A payroll deduction authorization hereunder shall remain in effect until changed or discontinued pursuant to Section 5.3. -3- 4 5.2 Purchase of Stock. As of the last day of each Option Period the amount of payroll deductions during such Option Period for each person who remains an Employee on such date shall be used to purchase from the Company whole shares of Stock under the Employee's Option. Any balance which is attributable to a fractional share shall be retained by the Employer and treated as a payroll deduction by the Employee for the next Option Period if he remains an Employee. Upon the purchase of shares of Stock under an Option, the Company shall deliver, or cause to be delivered, promptly to the Employee stock certificates for such shares. Such shares shall be registered in the name of the Employee or in the Employee's name jointly with a member of the Employee's family. 5.3 Change; Discontinuance. (a) Any Employee who is not subject to the reporting requirements of Section 16(a) of the Securities Exchange Act of 1934 may decrease (but not below 1% of the basic rate of compensation paid by the Employer) or increase (within the limits specified in Section 5.1) payroll deductions authorized under Section 5.1 by signing and filing with the Employer a form provided for this purpose. Such change in payroll deductions shall be effective on the March 1, June 1, September 1, or December 1 next occurring after the Employee's change form is received by the Employer. An Employee subject to the reporting requirements of Section 16(a) of the Securities Exchange Act of 1934 may not change his payroll deductions in accordance with this Section 5.3. (b) An Employee may discontinue payroll deductions authorized under Section 5.1 at any time, by signing and filing with his Employer, within the time prescribed in rules and regulations adopted under Article VIII, a form provided for this purpose. Once discontinued hereunder, payroll deductions may not be made again until the next succeeding March 1 or, in the case of an Employee subject to the reporting requirements of Section 16(a) of the Securities Act of 1934, until the later of (i) the March 1 immediately following his discontinuance of payroll deductions, or (ii) the March 1 next occurring after the date which is six (6) months after the date such Employee discontinued payroll deductions under the Plan. 5.4 Refund of Contributions. If during an Option Period an Employee for whom contributions are being made under Section 5.1 becomes ineligible to have Stock purchased for him under Section 5.2, or discontinues his contributions under Section 5.3, his payroll deductions during such Option Period shall be returned without interest to him within 30 days of the date on which the Company first learns of the Employee's ineligibility, or the date on which the Employee informs his Employer that he wishes to discontinue contributions. If the aggregate amount of payroll deductions under Section 5.1, during any Option Period exceeds the purchase price of Stock available under the Plan, the available Stock shall be allocated to Employees in proportion to the respective maximum number of shares that can be purchased during the Option Period, and amounts not used to purchase Stock shall be returned without interest to the respective Employees as soon as practicable. Any payroll deductions in excess of the limits in Section 4.5 shall be returned without interest to an Employee within 30 days of the date on which the Company first learns of the existence of any excess contributions. 5.5 Rights of Employees. An Employee shall have no right, title or interest in any Stock subject to an Option, including no right to receive dividends, until such Stock has been purchased for him and issued to him. -4- 5 5.6 Requirements of Securities Laws. No shares of Stock may be issued under any Option until all requirements of Federal, state or other securities laws, and of any securities exchange upon which Stock may be listed, with respect to the purchase, sale and issuance of the Stock shall have been satisfied. If any action must be taken because of such requirements, then the purchase, sale and issuance of the shares shall be postponed until such action can reasonably be taken. Upon demand by the Company, an Employee shall deliver to the Company a representation in writing that the purchase of all shares of Stock under an Option is being made for investment only and not for resale or with a view to distribution, and containing such other representations and provisions with respect thereto as the Company may reasonably require in order to comply with any registration requirements or exemptions therefrom of applicable securities laws. ARTICLE VI APPLICABLE LAW Options granted under this Plan shall be construed and shall take effect in accordance with the laws of the State of Delaware. ARTICLE VII AMENDMENT; TERMINATION 7.1 Amendment. The Board of Directors, insofar as permitted by law, shall have the right from time to time with respect to any shares at the time not subject to options, to suspend or discontinue the Plan or revise or amend it in any respect whatsoever, except that without approval of the shareholders of the Company, no such revision or amendment shall: (a) increase (except as provided in Section 4.7) the number of shares of stock available for purchase under the Plan, or (b) remove the administration of the Plan from the Committee. 7.2 Termination. The Plan may be terminated by the Board at any time, in its entirety or as to any group of Employees. In the event of termination of the participation of an Employee under this Article VII during an Option Period, no further payroll deductions shall be made with respect to such Employee's annual basic rate of compensation under Section 5.1, but Stock shall be purchased for him under the terms of Section 5.2 as of the last day of the Option Period. If the Plan is terminated by the Board under this Article VII and if (a) any reclassification or change of outstanding shares of Stock, (b) any consolidation or merger of the Company with or into another corporation, or (c) any sale, lease, exchange or other disposition of all or substantially all the property and assets of the Company occurs on or prior to the last day of the Option Period during which the Plan is terminated, then notwithstanding the foregoing, no Stock shall be purchased as of the last day of such Option Period and each Optionee's payroll deductions during such Option Period shall be returned without interest to him within 30 days. -5- 6 ARTICLE VIII ADMINISTRATION The Plan shall be administered by a committee (the "Committee") composed of either the entire Board of Directors or a committee of the Board of Directors that is composed solely of two or more Non-Employee Directors. For this purpose, the term "Non-Employee Director" shall mean a person who is a member of the Company's Board of Directors who (a) is not currently an officer or employee of the Company or any parent or subsidiary of the Company, (b) does not directly or indirectly receive compensation for serving as a consultant or in any other non-director capacity from the Company or any parent or subsidiary of the Company that exceeds the dollar amount for which disclosure would be required pursuant to Item 404(a) of Regulation S-K promulgated under the Securities Act of 1933 and the Securities Exchange Act of 1934 ("Regulation S-K"), (c) does not possess an interest in any other transaction with the Company or any parent or subsidiary of the Company for which disclosure would be required pursuant to Item 404(a) of Regulation S-K, and (d) is not engaged in a business relationship with the Company or any parent or subsidiary of the Company which would be disclosable under Item 404(b) of Regulation S-K. In the event the Committee is a committee composed of two or more Non-Employee Directors, the Board of Directors may from time to time remove members from, add members to, and fill vacancies, on the Committee. An Employee member of the Committee shall be eligible to participate in the Plan and receive options under the Plan. The Board may prescribe, amend and rescind, and the Committee may recommend to the Board, rules and regulations for administration of the Plan, and the Committee shall have full power and authority to construe and interpret the Plan. A majority of the members of the Committee shall constitute a quorum and the acts of a majority of the members present at a meeting or the consent in writing signed by all members of the Committee shall be the acts of the Committee and shall be final, conclusive and binding upon all parties, including the Company, its Affiliates, the Parent, the stockholders, the Employees and all persons or entities claiming by or through the Employees. The Board may correct any defect or any omission or reconcile any inconsistency in the Plan or in any Option granted hereunder in the manner and to the extent it shall deem desirable. The expense of the Plan shall be paid for by the Company. ARTICLE IX LIMITATIONS OF SALE OF STOCK PURCHASED UNDER THE PLAN The Company does not intend to restrict or influence any Employee in the conduct of his own affairs. An Employee may, therefore, sell Stock purchased under the Plan at any time he chooses; provided, however, that because of certain Federal tax requirements, each Employee will agree by entering the Plan, promptly to give the Company notice of any Stock disposed of within two (2) years after the date of the last day of the Option Period during which the Stock was purchased showing the number of such shares disposed of and the date or dates of disposition. The Employee assumes the risk of any market fluctuations in the price of such Stock. -6- EX-10.18 3 LEASE DATED MAY 8, 1998 1 EXHIBIT 10.18 LEASE AGREEMENT by and between DANIEL MEADOW BROOK SOUTH, L.L.C. ("Landlord") and NICHOLS TXEN CORPORATION ("Tenant") Dated May 8, 1998 for Meadow Brook South Suite Number 100 containing 73,915 square feet of Rentable Floor Area Term: 120 months 2 TABLE OF CONTENTS
Page ---- 1. Certain Definitions.................................................... 1 2. Lease of Premises...................................................... 2 3. Term................................................................... 3 4. Possession............................................................. 3 5. Rental Payments........................................................ 3 6. Base Rental............................................................ 4 7. Base Rental Escalation................................................. 4 8. Additional Rental...................................................... 5 9. Operating Expenses..................................................... 6 10. Tenant Taxes; Rent Taxes............................................... 9 11. Payments............................................................... 9 12. Late Charges.......................................................... 10 13. Use/Rules............................................................. 10 14. Alterations and Installations......................................... 10 15. Repairs............................................................... 10 16. Landlord's Right of Entry............................................. 11 17. Insurance............................................................. 11 18. Waiver of Subrogation................................................. 12 19. Default............................................................... 12 20. Waiver of Breach...................................................... 15 21. Assignment and Subletting............................................. 15 22. Destruction........................................................... 16 23. Landlord's Lien....................................................... 17 24. Tenant's Waiver of Redemption and With Regard to Billings............. 17 25. Services by Landlord.................................................. 17 26. Attorneys' Fees and Homestead......................................... 18 27. Time.................................................................. 18 28. Subordination and Attornment.......................................... 18 29. Estoppel Certificates................................................. 19 30. No Estate............................................................. 19 31. Cumulative Rights..................................................... 19 32. Holding Over.......................................................... 19 33. Surrender of Premises................................................. 20 34. Notices............................................................... 20 35. Damage of Theft of Personal Property.................................. 20 36. Eminent Domain........................................................ 20 37. Parties............................................................... 21 38. Liability of Tenant................................................... 22 39. Intentionally Omitted................................................. 22 40. Force Majeure......................................................... 22 41. Landlord's Liability.................................................. 22 42. Landlord's Covenant of Quiet Enjoyment................................ 22 43. Intentionally Omitted................................................. 23 44. Hazardous Substances.................................................. 23
i 3
Page 45. Submission of Lease.................................................................................................. 23 46. Severability......................................................................................................... 24 47. Entire Agreement..................................................................................................... 24 48. Headings............................................................................................................. 24 49. Brokers.............................................................................................................. 24 50. Governing Law........................................................................................................ 24 51. Guaranty............................................................................................................. 25 52. Authority............................................................................................................ 25 53. Financial Statements................................................................................................. 25 54. Joint and Several Liability.......................................................................................... 25 55. ERISA Compliance..................................................................................................... 25 56. Delivery of Documents................................................................................................ 25 57. Use of Name of Tenant................................................................................................ 26 58. Rule Against Perpetuities............................................................................................ 26
Exhibit "A" Legal Description of Land Exhibit "B" Floor Plan(s) Exhibit "C" Work Letter Exhibit "D" Confirmation Notice Exhibit "E" Building Standard Services Exhibit "F" Rules and Regulations Exhibit "G" Special Stipulations Exhibit "H" Absolute Unconditional and Continuing Guaranty of Payment of Lease Obligations Exhibit "I" Promissory Note 4 LEASE AGREEMENT THIS LEASE AGREEMENT ("LEASE"), is made and entered into this 8th day of May, 1998 (the "Effective Date"), by and between Landlord and Tenant. W I T N E S S E T H: 1. Certain Definitions. For purposes of this Lease, the following terms shall have the meanings hereinafter ascribed thereto: (a) Landlord: Daniel Meadow Brook South, L.L.C. (b) Landlord's Address: Daniel Realty Company 3595 Grandview Parkway Birmingham, Alabama 35243 (c) Tenant: Nichols TXEN Corporation (d) Tenant's Address: Nichols TXEN Corporation 10 Inverness Center Parkway Suite 500 Birmingham, Alabama 35242 (e) Building Address: 2500 Corporate Drive Birmingham, Alabama 35252 (f) Suite Number: 100 (g) Rentable Floor Area of the Demised Premises shall be: 73,915 (h) Rentable Floor Area of the Building shall be: 98,553 square feet. (i) Rental Term: One hundred twenty (120) months. (Article 3) (j) Base Rental Rate: $17.25 per square foot of Rentable Floor Area of the Demised Premises per year, subject to adjustments as set forth in Article 7 and paragraph 4.01(2) of Exhibit "G". (k) Rental Commencement Date: The earlier of (a) April 1, 1999; or (y) the date upon which Tenant occupies the Demised Premises and operates therefrom. (l) Rent Deposit: $108,553.00 (Article 5[C]). 1 5 (m) Construction Allowance: The amount equal to $15.00 multiplied by the Rentable Floor Area of the Demised Premises. (n) Security Deposit: $ None (Article 443[a]). (o) Broker(s): Daniel Realty Corporation and Zachary T. Hutto, II (Article 49). (p) State: The State of Alabama. (q) Lease Year: The twelve month period commencing on the Rental Commencement Date, or, if the Rental Commencement Date is not on the first day of a calendar month, commencing on the first day of the first calendar month following the Rental Commencement Date, and each successive twelve month period thereafter during the Lease Term. (r) Use: General offices in connection with Tenant's business as a software development company for the managed healthcare industry. (s) Expense Stop: The Operating Expense Amount as defined in Article 8(c) herein for the calendar year 1999 per square foot of Rental Floor Area of the Demised Premises per year (adjusted as set forth in Article 8(c)(x) as if the Project had been in operation and occupied during all of calendar year 1999. 2. Lease of Premises. Landlord, in consideration of the covenants and agreements to be performed by Tenant, and upon the terms and conditions hereinafter stated, does hereby rent and lease unto Tenant, and Tenant does hereby rent and lease from Landlord, certain premises (the "Demised Premises") in the building (hereinafter referred to as "Building") located or to be located on that certain tract of land (the "Land") more particularly described in Exhibit "A" attached hereto and by this reference made a part hereof, which Demised Premises are outlined in red or crosshatched on the floor plan attached hereto as Exhibit "B" and by this reference made a part hereof, with no easement for light, view or air included in the Demised Premises or being granted hereunder. The obligations of Landlord and Tenant with respect to the initial leasehold improvements to the Demised Premises are set forth in Exhibit "C" attached hereto and by this reference made a part hereof. Landlord shall cause the Demised Premises to be "ready for occupancy" (as defined in Exhibit "C" attached hereto) not later than April 1, 1999, subject to force majeure, delays caused by Tenant and Tenant's compliance with the terms and provisions of Exhibit "C" attached hereto. In the event the Demised Premises are not ready for occupancy on or before April 1, 1999 (the "Turnover Date"), Landlord shall reimburse Tenant, as set forth below, for any rental expense actually incurred by Tenant in excess of the rental expense Tenant would have incurred but for the delay in the Turnover Date based on the rental rates in effect for the month of March, 1999 (the "Excess Rent Payments"). The reimbursement obligation set forth in the immediately preceding sentence shall apply only to Tenant's office premises at the following locations: Inverness Office Park Building 10 22,152 Rentable Square Feet Inverness Office Park Building 31 15,872 Rentable Square Feet Meadow Brook Corporate Park Building 300 21,058 Rentable Square Feet Such obligation of Landlord for Excess Rent Payments shall continue until the Demised Premises are "ready for occupancy" as defined in Exhibit "C" attached hereto. Notwithstanding the foregoing, Landlord shall have no obligation to reimburse Tenant for any Excess Rent Payments if the Turnover Date shall be delayed due to force majeure or delays caused by or within the reasonable control of Tenant. 2 6 The "Project" is comprised of the Building, the Land, the Building's parking facilities, any walkways, covered walkways, tunnels or other means of access to the Building and the Building's parking facilities, all common areas, including any lobbies or plazas, and any other improvements or landscaping on the Land. The Project is located in the development known as "Meadow Brook South" (the "Development"). 3. Term. The term of this Lease ("Lease Term") shall commence on the Effective Date, and, unless extended or sooner terminated as provided in this Lease, shall end on the expiration of the Rental Term designated in Article 1(i) above, which Rental Term shall commence on the Rental Commencement Date, unless the Rental Commencement Date shall be other than the first day of a calendar month, in which event the Rental Term shall commence on the first day of the calendar month following the month in which the Rental Commencement Date occurs. Promptly after the Rental Commencement Date, Landlord shall send to Tenant a Confirmation Notice in the form of Exhibit "D" attached hereto and by this reference made a part hereof, specifying the Rental Commencement Date, the date of expiration of the Lease Term established in accordance herewith and certain other matters Landlord may deem appropriate. 4. Possession. Taking of possession by Tenant shall be deemed conclusively to establish Tenant has accepted the Demised Premises as suitable for Tenant's intended use and that Landlord's construction obligations with respect to the Demised Premises have been completed and that the Demised Premises, to the extent of Landlord's construction obligations with respect thereto, are in good and satisfactory condition (subject to completion of any incomplete or corrective items specified in a "punch list" approved by Landlord and Tenant). 5. Rental Payments. (a) Effective upon the Rental Commencement Date, and continuing thereafter throughout the Lease Term, Tenant covenants and agrees to pay Landlord, all Rent due and payable under this Lease, at the times and in the manner provided in this Lease. As used in this Lease, the term "Rent" shall mean the Base Rental (as hereinafter defined), Tenant's Forecast Additional Rental (as hereinafter defined), Tenant's Additional Rental (as hereinafter defined), and any other amounts that Tenant assumes or agrees to pay under the provisions of this Lease that are owed to Landlord, including without limitation any and all other sums that may become due by reason of any default of Tenant or failure on Tenant's part to comply with the agreements, terms, covenants and conditions of this Lease to be performed by Tenant. For both Tenant's and Landlord's accounting purposes, it is agreed that Rent charges of every kind herein set forth shall begin to accrue on the Rental Commencement Date and continue throughout the Lease Term and any extensions or renewals thereof. With regard to payments of Base Rental and Tenant's Forecast Additional Rental, the first installment shall be due, in advance, on the Rental Commencement Date. Each subsequent installment, in an amount equal to one twelfth (1/12) of the annual rate, shall be due, in advance, on the first day of each month next ensuing after the Rental Commencement Date, and continuing thereafter throughout the Lease Term and any extensions or renewals thereof. All Rent payable by Tenant hereunder to Landlord shall be paid, in lawful money of the United States of America, to Landlord at the address provided for payment of Rent or to such other payee or address as Landlord may designate in writing to Tenant. Tenant shall pay all Rent and other sums of money as shall become due from and payable by Tenant to Landlord under this Lease at the times and in the manner provided in this Lease, without demand, deduction, set-off or counterclaim. 3 7 (b) If the Rental Commencement Date is other than the first day of a calendar month or if this Lease terminates on other than the last day of a calendar month, then the installments of Base Rental and Tenant's Forecast Additional Rental for such month or months shall be prorated on a daily basis. Also, if the Rental Commencement Date occurs on other than the first day of a calendar year, or if this Lease expires or is terminated on other than the last day of a calendar year, Tenant's Additional Rental shall be prorated for such commencement or termination year, as the case may be, by multiplying such Tenant's Additional Rental by a fraction, the numerator of which shall be the number of days of the Lease Term (from and after the Rental Commencement Date) during the commencement or expiration or termination year, as the case may be, and the denominator of which shall be 365, and the calculation described in Article 8 hereof shall be made as soon as possible after the expiration or termination of this Lease, Landlord and Tenant hereby agreeing that the provisions relating to said calculation shall survive the expiration or termination of this Lease. (c) As security for Tenant's obligations to take possession of the Demised Premises in accordance with the terms of this Lease and to comply with all of Tenant's covenants, warranties and agreements hereunder, Tenant has deposited with Landlord the Rent Deposit set forth in Article 1(l) above. Such amount shall be applied by Landlord to the first monthly installment(s) of Base Rental as they become due hereunder. In the event Tenant fails to take possession of the Demised Premises as aforesaid or otherwise fails to comply with any of Tenant's covenants, warranties or agreements hereunder, said sum shall be retained by Landlord for application in reduction, but not in satisfaction, of damages suffered by Landlord as a result of such breach by Tenant. Unless otherwise required by State law, Landlord shall not be required to keep such deposit separate from its general accounts. (d) No payment by Tenant or acceptance by Landlord of an amount less than the Rent herein stipulated or otherwise becoming due shall be deemed a waiver of any other Rent due. No partial payment or endorsement on any check or any letter accompanying such payment of Rent shall be deemed an accord and satisfaction, but Landlord may accept such payment without prejudice to Landlord's right to collect the balance of any Rent due under the terms of this Lease or any late charge assessed against Tenant hereunder. All payments received by Landlord shall be applied by Landlord as Landlord shall determine, regardless of any notation that may be made on any check or any letter accompanying such payment. 6. Base Rental. Subject to adjustments in accordance with Article 7 and paragraph 4.01(2) of Exhibit "G" below, from and after the Rental Commencement Date, Tenant shall pay to Landlord a base annual rental (herein called "Base Rental") equal to the Base Rental Rate set forth in Article 1(j) above multiplied by the Rentable Floor Area of the Demised Premises set forth in Article l(g) above. Payments of Base Rental shall be made at the times and in the manner set forth in Article 5(a) hereinabove. 7. Base Rental Escalation. (a) As used in this Article 7, the term "Subsequent Year" shall mean each Lease Year of the Lease Term following the first Lease Year. The term "Prior Year" shall mean the Lease Year immediately preceding each Subsequent Year. (b) On the first day of each Subsequent Year, the Base Rental Rate shall be increased to an amount equal to the Base Rental Rate set forth below: Second Lease Year $17.61 per square foot of Rentable Floor Area Third Lease Year $17.98 per square foot of Rentable Floor Area Fourth Lease Year $18.36 per square foot of Rentable Floor Area
4 8 Fifth Lease Year $18.76 per square foot of Rentable Floor Area Sixth Lease Year $19.16 per square foot of Rentable Floor Area Seventh Lease Year $19.58 per square foot of Rentable Floor Area Eighth Lease Year $20.01 per square foot of Rentable Floor Area Ninth Lease Year $20.45 per square foot of Rentable Floor Area Tenth Lease Year $20.91 per square foot of Rentable Floor Area
8. Additional Rental. (a) Subject to the terms of this Article 8, from and after the Rental Commencement Date, Tenant shall pay to Landlord "Tenant's Forecast Additional Rental" (as defined in subparagraph (b) hereinbelow) and "Tenant's Additional Rental" (as defined in subparagraph (c) hereinbelow). Payments of Tenant's Forecast Additional Rental shall be made as set forth in Article 5(a). (b) For purposes of this Lease, "Tenant's Forecast Additional Rental" shall mean Landlord's reasonable estimate of Tenant's Additional Rental for the coming calendar year or portion thereof. If at any time it appears to Landlord that Tenant's Additional Rental for the current calendar year will vary from Landlord's estimate by more than five percent (5%), Landlord shall have the right to revise, by notice to Tenant, its estimate for such year, and subsequent payments by Tenant for such year shall be based upon such revised estimate of Tenant's Additional Rental. Failure to make a revision contemplated by the immediately preceding sentence shall not prejudice Landlord's right to collect the full amount of Tenant's Additional Rental. Prior to the Rental Commencement Date and thereafter prior to the beginning of each calendar year during the Lease Term, including any extensions thereof, Landlord shall present to Tenant a statement of Tenant's Forecast Additional Rental for such calendar year; provided, however, that if such statement is not given prior to the beginning of any calendar year as aforesaid, Tenant shall continue to pay during the next ensuing calendar year on the basis of the amount of Tenant's Forecast Additional Rental payable during the calendar year just ended until the month after such statement is delivered to Tenant. (c) For purposes of this Lease, "Tenant's Additional Rental" shall mean for each calendar year (or portion thereof) the Operating Expense Amount (defined below), less the Expense Stop set forth in Article 1(s), multiplied by the number of square feet of Rentable Floor Area of the Demised Premises. As used herein, "Operating Expense Amount" shall mean an amount equal to (x) plus (y) where: (x) equals the amount of Operating Expenses (as defined below) for such calendar year divided by the greater of (i) 95% of the number of square feet of Rentable Floor Area of the Building, or (ii) the total number of square feet of Rentable Floor Area occupied in the Building for such calendar year on an average annualized basis; provided, however, if the Operating Expenses actually incurred by Landlord are lower than would be incurred if at least 95% of the Building were occupied or if Landlord shall not furnish any particular item(s) of work or services (the cost of which would otherwise be included within Operating Expenses) to portions of the Building because (A) such portions are not occupied, (B) such item of work or services is not required or desired by the tenant of such portion, (C) such tenant is itself obtaining such item of work or services, or (D) of any other reason, then appropriate adjustments shall be made to determine Operating Expenses for such calendar year as though the Building were actually occupied to the extent of the greater of (i) or (ii) above and as though Landlord had furnished such item of work or services to the greater of (i) or (ii) above; and 5 9 (y) equals a management fee contribution equal to three percent (3%) of the difference between Tenant's Base Rental Rate and the Expense Stop, plus three percent (3%) of the per square foot amount described in (x) above. (d) Within one hundred twenty (120) days after the end of the calendar year in which the Rental Commencement Date occurs and of each calendar year thereafter during the Lease Term, or as soon thereafter as practicable, Landlord shall provide Tenant a statement showing the Operating Expenses for said calendar year, and a statement comparing Tenant's Forecast Additional Rental with Tenant's Additional Rental. In the event Tenant's Forecast Additional Rental exceeds Tenant's Additional Rental for said calendar year, Landlord shall credit such amount against Rent then owing or next due hereunder or, if the Lease Term has expired or is about to expire, refund such excess to Tenant if Tenant is not in default under this Lease (in the instance of a default such excess shall be held as additional security for Tenant's performance, may be applied by Landlord to cure any such default, and shall not be refunded until any such default is cured). In the event that the Tenant's Additional Rental exceeds Tenant's Forecast Additional Rental for said calendar year, Tenant covenants and agrees to pay Landlord, within thirty (30) days of receipt of the statement, an amount equal to such difference, Landlord's failure to provide Tenant said statement within one hundred twenty (120) days as set forth above shall not affect Tenant's obligation for payment of any amounts due under Article 8. The provisions of this Lease concerning the payment of Tenant's Additional Rental shall survive the expiration or earlier termination of this Lease. (e) For so long as Tenant is not in default under this Lease, Landlord's books and records pertaining to the calculation of Operating Expenses for any calendar year within the Lease Term may be audited by an authorized representative of Tenant at Tenant's expense, at any time within twelve (12) months after the end of each such calendar year; provided that Tenant shall give Landlord not less than thirty (30) days' prior written notice of any such audit. For purposes hereof, an authorized representative of Tenant shall mean a bona fide employee of Tenant, any of the "big six" accounting firms, or any other party reasonably approved in writing by Landlord. In no event shall an authorized representative of Tenant include the owner of any office building in the metropolitan area in which the Demised Premises are located or any affiliate of such owner. Prior to the commencement of such audit, Tenant shall cause its authorized representative to agree in writing for the benefit of Landlord that such representative will keep the results of the audit confidential and that such representative will not disclose or divulge the results of such audit except to Tenant and Landlord and except in connection with any dispute between Landlord and Tenant relating to Operating Expenses. Such audit shall be conducted during reasonable business hours at Landlord's office where Landlord's books and records are maintained. Tenant shall cause a written audit report to be prepared by its authorized representative following any such audit and shall provide Landlord with a copy of such report promptly after receipt thereof by Tenant. If Landlord's calculation of Tenant's Additional Rental for the audited calendar year was incorrect, then Tenant shall be entitled to a prompt refund of any overpayment or Tenant shall promptly pay to Landlord the amount of any underpayment, as the case may be. 9. Operating Expenses. (a) For the purposes of this Lease, "Operating Expenses" shall mean all expenses, costs and disbursements (but not specific costs billed to specific tenants of the Building) of every kind and nature, computed on an accrual basis, relating to or incurred or paid in connection with the ownership, management, operation, landscaping, repair and maintenance of the Project, including but not limited to, the following: 6 10 1. wages, salaries and other costs of all on-site and off-site employees engaged either full or part-time in the operation, management, maintenance or access control of the Project, including taxes, insurance and benefits relating to such employees, allocated equitably; 2. the cost of all supplies, tools, equipment, materials and replacements used in the operation, management, repair, maintenance and access control of the Project; 3. the cost of all utilities for the Project, including but not limited to the cost of electricity, gas, water, sewer services and power for heating, lighting, air conditioning and ventilating; 4. the cost of all maintenance, janitorial, trash and garbage disposal and service agreements for the Project and the equipment therein, including but not limited to security service, garage operators, window cleaning, elevator maintenance, HVAC maintenance, janitorial service, waste recycling service, landscaping maintenance and customary landscaping replacement; 5. the cost of repairs and general maintenance of the Project; 6. amortization (together with reasonable financing charges) of the cost of acquisition and/or installation of capital investment items (including security and energy management equipment), amortized over their respective useful lives, which are installed for the purpose of reducing operating expenses, promoting safety, complying with governmental requirements, or maintaining the first-class nature of the Project; 7. the cost of casualty, rental loss, liability and other insurance applicable to the Project and Landlord's personal property used in connection therewith; 8. the cost of trash and garbage removal, air quality audits, vermin extermination, and snow, ice and debris removal; 9. the cost of legal and accounting services incurred by Landlord in connection with the management, maintenance, operation and repair of the Project, excluding the Landlord's general accounting, such as partnership statements and tax returns, and excluding services described in Article 9(b)(14) below; 10. all taxes, assessments and governmental charges, whether or not directly paid by Landlord, whether federal, state, county or municipal and whether they be by taxing districts or authorities presently taxing the Project, or by others subsequently created or otherwise, or imposed as a result of any lapses of any special abatement, and any other taxes and assessments attributable to the Project or its operation (and the costs of contesting any of the same), including business license taxes and fees, excluding, however, taxes and assessments imposed on the personal property of the tenants of the Project, federal and state taxes on income, death taxes, franchise taxes, and any taxes (other than business license taxes and fees) imposed or measured on or by the income of Landlord from the operation of the Project; and it is agreed that Tenant will be responsible for ad valorem taxes on its personal property and on the value of the leasehold improvements in the Demised Premises to the extent that the same exceed Building Standard allowances, if said taxes are based upon an assessment which includes the cost of such leasehold improvements in excess of Building Standard allowances (and if the taxing authorities do not separately assess Tenant's leasehold improvements, Landlord may make an appropriate allocation of the ad valorem taxes allocated to the Project to give effect to this sentence); 7 11 11. the cost of operating the management office for the Project and an equitable portion of the cost of operating the management office for the Development, including in each case the cost of office supplies, bulletins or newsletters distributed to tenants, postage, telephone expenses, maintenance and repair of office equipment, non-capital investment equipment, amortization (together with reasonable financing charges) of the cost of capital investment equipment, and rent; 12. the costs and expenses incurred by Landlord in connection with the maintenance, operation and repair of any common facilities, including roadways, private driveways, plaza areas, walkways, utility lines, pipes, wires, cables and other utility facilities, retention facilities, storm and sanitary sewers, culverts, drains, headwalls, manholes and related equipment, parking facilities, grounds and landscaping, and shared hallways, lobbies, corridors, elevators, entrances and exits, restrooms and stairways, now or hereafter servicing the Project or the Development; 13. the pro rata share applicable to the Project of any other costs and expenses incurred by Landlord as "Owner" of the Project or as a part of the Development under and pursuant to any declaration of covenants and cross-easements, reciprocal easement agreements, ground leases (other than ground rent due thereunder), condominium association agreements or any other public or private arrangements or agreements, from time to time affecting the Project or the Development, including, without limitations, that certain Meadow Brook Corporate Park Declaration of Covenants, Conditions and Restrictions and Architectural Guidelines, as amended, recorded in the applicable records of Shelby County, Alabama; 14. the costs of taxes, insurance, repair, replacement, maintenance, cleaning and operation of any tenant amenities shared by all tenants of the Building, including but not limited to a health club or fitness facility located within the Project; and 15. all other costs incurred by Landlord in connection with all other services which Landlord may elect, but shall not be obligated, to perform with respect to the Project. (b) For purposes of this Lease, and notwithstanding anything in any other provision of this Lease to the contrary, "Operating Expenses" shall not include the following: 1. the cost of any special work or service performed for any tenant (including Tenant) at such tenant's cost; 2. except as otherwise provided herein, the cost of installing, operating and maintaining any specialty service, such as an observatory, broadcasting facility, luncheon club, restaurant, cafeteria, retail store, sundry shop, newsstand, or concession, but only to the extent such costs exceed those which would normally be expected to be incurred had such space been general office space; 3. the cost of correcting defects in construction; 4. compensation paid to officers and executives of Landlord (but it is understood that the office park manager, the on-site building manager and other on-site employees below the grade of building manager may carry a title such as vice president and the salaries and related benefits of these officers/employees of Landlord would be allowable Operating Expenses under Article 9[a][1] above); 5. the cost of any items for which Landlord is reimbursed by insurance, condemnation or otherwise, except for costs reimbursed pursuant to provisions similar to Articles 8 and 9 hereof; 8 12 6. the cost of any additions, changes, replacements and other items which are made in order to prepare for a new tenant's occupancy; 7. the cost of repairs incurred by reason of fire or other casualty reimbursed by insurance proceeds under policies maintained by Landlord; 8. insurance premiums to the extent Landlord may be directly reimbursed therefor, except for premiums reimbursed pursuant to provisions similar to Articles 8 and 9 hereof; 9. interest on debt or amortization payments on any mortgage (except to the extent specifically permitted by Article 9[a]) and rental under any ground lease or other underlying lease; 10. any real estate brokerage commissions or other costs incurred in procuring tenants or any fee in lieu of such commission; 11. any advertising expenses incurred in connection with the marketing of any rentable space; 12. rental payments for base building equipment such as HVAC equipment and elevators; 13. any expenses for repairs or maintenance which are covered by warranties and service contracts, to the extent such maintenance and repairs are made at no cost to Landlord; 14. legal expenses arising out of the construction of the improvements on the Land or the entering into or enforcement of the provisions of any lease of space within the Building, including without limitation this Lease; and 15. management fees (Tenant's obligation for a management fee contribution is set forth in Article 8(c) above); 10. Tenant Taxes; Rent Taxes. Tenant shall pay promptly when due all taxes directly or indirectly imposed or assessed upon Tenant's gross sales, business operations, machinery, equipment, trade fixtures and other personal property or assets, whether such taxes are assessed against Tenant, Landlord or the Building. In the event that such taxes are imposed or assessed against Landlord or the Building, Landlord shall furnish Tenant with all applicable tax bills, public charges and other assessments or impositions, and Tenant shall forthwith pay the same either directly to the taxing authority or, at Landlord's option, to Landlord. In addition, in the event there is imposed at any time a tax upon and/or measured by the rental payable by Tenant under this Lease, whether by way of a sales or use tax or otherwise, Tenant shall be responsible for the payment of such tax and shall pay the same on or prior to the due date thereof; provided, however, that the foregoing shall not include any inheritance, estate, succession, transfer, gift or income tax imposed on or payable by Landlord. 11. Payments. All payments of Rent and other payments to be made to Landlord shall be made on a timely basis, as provided in this Lease, and shall be payable to Landlord or as Landlord may otherwise designate. All such payments shall be mailed or delivered to Landlord's Address designated for the payment of Rent in Article l(b) above or at such other place as Landlord may designate from time to time in writing. If mailed, all payments shall be mailed in sufficient time and with adequate postage thereon to be received in Landlord's account by no later than the due date for such payment. Tenant agrees to pay to Landlord Fifty Dollars ($50.00) for each check presented to Landlord in payment of any 9 13 obligation of Tenant which is not paid by the bank on which it is drawn, together with interest from and after the due date for such payment at the rate of eighteen percent (18%) per annum on the amount due. 12. Late Charges. Any Rent or other amounts payable to Landlord under this Lease, if not paid by the fifth day of the month for which such Rent is due, as provided in this Lease, or by the due date specified in any invoices from Landlord for any other amounts payable hereunder, shall incur a late charge of Fifty Dollars ($50.00) for Landlord's administrative expense in processing such delinquent payment and in addition thereto shall bear interest at the rate of eighteen percent (18%) per annum from and after the due date for such payment. In no event shall the rate of interest payable on any late payment exceed the legal limits for such interest enforceable under applicable law. 13. Use/Rules. (a) Tenant shall use and occupy the Demised Premises solely for the Use set forth in Article 1(r), and no other purposes, and in accordance with all applicable laws, ordinances, rules and regulations of governmental authorities and the rules and regulations attached hereto as Exhibit "G" and made a part hereof (the "Rules and Regulations"). The occupancy rate of the Demised Premises shall in no event be more than one (1) person per 143 square feet of Rentable Floor Area of the Demised Premises; and (b) Tenant covenants and agrees to abide by the Rules and Regulations in all respects as now set forth and attached hereto as Exhibit "G" or as hereafter promulgated by Landlord. All Rules and Regulations for the Building shall be uniformly applied to all tenants in the Building, and Landlord will not be arbitrary in effecting changes in the Rules and Regulations. Landlord shall have the right at all times during the Lease Term, with notice to Tenant, to publish and promulgate and thereafter enforce such rules and regulations or changes in the existing Rules and Regulations as it may reasonably deem necessary in its sole discretion to protect the tenantability, safety, operation, and welfare of the Demised Premises, the Project and the Development; and (c) Notwithstanding anything to the contrary in this Lease, in no event shall Tenant, its employees, agents, contractors, visitors and invitees in the aggregate utilize more than 1 parking space for each 143 square feet of the Rentable Floor Area of the Demised Premises. 14. Alterations and Installations. Except for any initial improvement of the Demised Premises pursuant to Exhibit "C" which shall be governed by the provisions of said Exhibit "C", Tenant shall not make, suffer or permit to be made any alterations, additions or improvements to or of the Demised Premises or any part thereof, or attach any fixtures or equipment thereto, without first obtaining Landlord's written consent, which consent shall not be unreasonably withheld. Any such alterations, additions or improvements to the Demised Premises shall be made subject to Landlord's requirements and at Tenant's sole cost and expense. All such alterations, additions and improvements shall become Landlord's property at the expiration or earlier termination of the Lease Term and shall remain on the Demised Premises without compensation to Tenant unless Landlord elects by notice to Tenant to have Tenant remove such alterations, additions and improvements, in which event, notwithstanding any contrary provisions respecting such alterations, additions and improvements contained in Article 33 hereof, Tenant shall promptly restore, at its sole cost and expense, the Demised Premises to its condition prior to the installation of such alterations, additions and improvements, normal wear and tear excepted. 15. Repairs. (a) Landlord shall maintain in good order and repair, subject to normal wear and tear and subject to casualty and condemnation, the Building (excluding the Demised Premises and other portions 10 14 of the Building leased to other tenants), the Building parking facilities, the public areas and the landscaped areas. Notwithstanding the foregoing obligation, the cost of any repairs or maintenance to the foregoing necessitated by the intentional acts or negligence of Tenant or its agents, contractors, employees, invitees, licensees, tenants or assigns, shall be borne solely by Tenant and shall be deemed Rent hereunder and shall be reimbursed by Tenant to Landlord upon demand. Landlord shall not be required to make any repairs or improvements to the Demised Premises except structural repairs necessary for safety and tenantability. (b) Tenant covenants and agrees that it will take good care of the Demised Premises and all alterations, additions and improvements thereto and will keep and maintain the same in good condition and repair, except for normal wear and tear. Tenant shall at once report, in writing, to Landlord any defective or dangerous condition known to Tenant. To the fullest extent permitted by law, Tenant hereby waives all rights to make repairs at the expense of Landlord or in lieu thereof to vacate the Demised Premises as may be provided by any law, statute or ordinance now or hereafter in effect. Landlord has no obligation and has made no promise to alter, remodel, improve, repair, decorate or paint the Densed Premises or any part thereof, except as specifically and expressly herein set forth. 16. Landlord's Right of Entry. Landlord shall retain duplicate keys to all doors of the Demised Premises, and Landlord and its agents, employees and independent contractors shall have the right to enter the Demised Premises at reasonable hours to inspect and examine same, to make repairs, additions, alterations, and improvements, to exhibit the Demised Premises to mortgagees, prospective mortgagees, purchasers or tenants, and to inspect the Demised Premises to ascertain that Tenant is complying with all of its covenants and obligations hereunder, all without being liable to Tenant in any manner whatsoever for any damages arising therefrom; provided, however, that Landlord shall, except in case of emergency, afford Tenant such prior notification of an entry into the Demised Premises as shall be reasonably practicable under the circumstances. Landlord shall be allowed to take into and through the Demised Premises any and all materials that may be required to make such repairs, additions, alterations or improvements. During such time as such work is being carried on in or about the Demised Premises, the Rent provided herein shall not abate, and Tenant waives any claim or cause of action against Landlord for damages by reason of interruption of Tenant's business or loss of profits therefrom because of the prosecution of any such work or any part thereof. 17. Insurance. From and after the Rental Commencement Date, Tenant shall procure at its expense and maintain throughout the remainder of the Lease Term a policy or policies of special form/all-risk insurance insuring the full replacement cost of its furniture, fixtures, equipment, supplies, and other property owned, leased, held or possessed by it and contained in the Demised Premises, together with the excess value of the improvements to the Demised Premises over the Construction Allowance, and worker's compensation insurance as required by applicable law. From and after the Rental Commencement Date, Tenant shall also procure at its expense and maintain throughout the remainder of the Lease Term a policy or policies of commercial general liability insurance, insuring Tenant, Landlord and any other person designated by Landlord, against any and all liability for injury to or death of a person or persons and for damage to property occasioned by or arising out of any construction work being done on the Demised Premises, or arising out of the condition, use, or occupancy of the Demised Premises, or in any way occasioned by or arising out of the activities of Tenant, its agents, contractors, employees, guests, or licensees in the Demised Premises, or other portions of the Building or the Project or the Development, the limits of such policy or policies to be in combined single limits for both damage to property and personal injury and in amounts not less than Three Million Dollars ($3,000,000) for each occurrence, with deductibles acceptable to Landlord. Such insurance shall, in addition, extend to any liability of Tenant arising out of the indemnities provided for in this Lease. Tenant shall also carry such other types of insurance in form and amount which Landlord shall reasonably deem to be prudent for 11 15 Tenant to carry, should the circumstances or conditions so merit Tenant carrying such type of insurance, provided that such other insurance is then customarily carried by tenants in other comparable buildings in the metropolitan area in which the Project is located. All insurance policies procured and maintained by Tenant pursuant to this Article 17 shall name Landlord and any additional parties designated by Landlord as additional insureds, shall be carried with companies licensed to do business in the State having a rating from Best's Insurance Reports of not less than A-/X, and shall be non-cancelable and not subject to material change except after thirty (30) days' written notice to Landlord. Such policies or duly executed certificates of insurance with respect thereto, accompanied by proof of payment of the premium therefor, shall be delivered to Landlord prior to the date Tenant first enters upon the Demised Premises (for installation of Tenant's improvements and fixtures, or otherwise), and renewals of such policies shall be delivered to Landlord at least thirty (30) days prior to the expiration of each respective policy term. Landlord shall procure and maintain at its expense (but with the expense to be included in Operating Expenses) throughout the Lease Term a policy or policies of special form/all-risk (including rent loss coverage) real and personal property insurance covering the Project (including the leasehold improvements in the Demised Premises up to the amount of the Construction Allowance, but excluding Tenant's personal property and equipment), in an amount equal to the full insurable replacement cost thereof as such may increase from time to time (but such insurance may provide for a commercially reasonable deductible), and in an amount sufficient to comply with any co-insurance requirements in such policy, and a policy of workers' compensation insurance, if any, as required by applicable law. In addition, Landlord shall procure and maintain at its expense (but with the expense to be included in Operating Expenses) and shall thereafter maintain throughout the Lease Term, a commercial general liability insurance policy covering the Project with combined single limits for both damage to property and personal injury of not less than Three Million Dollars ($3,000,000) per occurrence, subject to annual aggregate limits of not less than Five Million Dollars ($5,000,000). Landlord may also carry such other types of insurance in form and amounts which Landlord shall determine to be appropriate from time to time, and the cost thereof shall be included in Operating Expenses. All such policies procured and maintained by Landlord pursuant to this Article 17 shall be carried with companies licensed to do business in the State. Any insurance required to be carried by Landlord hereunder may be carried under blanket policies covering other properties of Landlord and/or its partners and/or their respective related or affiliated corporations so long as such blanket policies provide insurance at all times for the Project as required by this Lease. 18. Waiver of Subrogation. Landlord and Tenant shall each have included in all policies of fire, extended coverage, business interruption and loss of rents insurance respectively obtained by them covering the Demised Premises, the Building and contents therein, a waiver by the insurer of all right of subrogation against the other in connection with any loss or damage thereby insured against. Any additional premium for such waiver shall be paid by the primary insured. To the full extent permitted by law, Landlord and Tenant each waives all right of recovery against the other for, and agrees to release the other from liability for, loss or damage to the extent such loss or damage is covered by valid and collectible insurance in effect at the time of such loss or damage or would be covered by the insurance required to be maintained under this Lease by the party seeking recovery. 19. Default. (a) The following acts, events or conditions shall be deemed to be events of default by Tenant under this Lease: (i) Tenant shall fail to pay any installment of Rent or any other charge or assessment against Tenant pursuant to the terms hereof within five (5) days after the due date thereof, 12 16 (ii) the failure by Tenant to cease any conduct prohibited by this Lease within three (3) days after receipt of written notice from Landlord requesting cessation thereof; or the failure of Tenant to cease any conduct or eliminate any condition which poses a danger to person or property within twelve (12) hours of receipt of written notice from Landlord requesting cessation of such conduct or elimination of such conditions; (iii) Tenant or any guarantor of this Lease shall make a general assignment for the benefit of creditors, or shall admit in writing its inability to pay its debts as they become due, or shall file a petition in bankruptcy, or shall be adjudicated as bankrupt or insolvent, or shall file a petition in any proceeding seeking any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any present or future statute, law or regulation, or shall file an answer admitting or fail timely to contest the material allegations of a petition filed against it in any such proceeding; (iv) a proceeding is commenced against Tenant or any guarantor of this Lease seeking any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any present or future statute, law or regulation, and such proceeding shall not have been dismissed within forty-five (45) days after the commencement thereof; (v) a receiver or trustee shall be appointed for the Demised Premises or for all or substantially all of the assets of Tenant or of any guarantor of this Lease; (vi) Tenant shall fail to take possession of the Demised Premises as provided in this Lease; (vii) Tenant shall do or permit to be done anything which creates a lien upon the Demised Premises or the Project and such lien is not removed or discharged within fifteen (15) days after the filing thereof; (viii) the Demised Premises are deserted, vacated or not used as regularly or consistently as would normally be expected for similar premises or not operated for general office use, for a period in excess of sixty (60) consecutive days or one hundred twenty (120) days in the aggregate in any twelve (12) month period, even though the Tenant continues to pay Rent hereunder; (ix) Tenant shall fail to return a properly executed instrument to Landlord in accordance with the provisions of Article 28 hereof within the time period provided for such return following Landlord's request for same as provided in Article 28; (x) Tenant shall fail to return a properly executed estoppel certificate to Landlord in accordance with the provisions of Article 29 hereof within the time period provided for such return following Landlord's request for same as provided in Article 29; or (xi) Tenant shall fail to comply with any other term, provision, covenant or warranty made under this Lease by Tenant, and shall not cure such failure within fifteen (15) days after notice thereof to Tenant. (b) Upon the occurrence of any of the aforesaid events of default, Landlord shall have the option to pursue any one or more of the following remedies without any notice or demand whatsoever in addition to, and not in limitation of any other remedy or right permitted it by law or in equity or by this Lease: 13 17 (i) terminate this Lease, in which event Tenant shall immediately surrender the Demised Premises to Landlord and if Tenant fails to do so, Landlord may without prejudice to any other remedy which it may have for possession or arrearage in Rent, enter upon and take possession of the Demised Premises and expel or remove Tenant and any other person who may be occupying said Demised Premises or any part thereof without being liable for prosecution or any claim of damages therefor; Tenant hereby agreeing to pay to Landlord on demand the amount of all loss and damage which Landlord may suffer by reason of such termination, whether through inability to relet the Demised Premises on satisfactory terms or otherwise; (ii) terminate Tenant's right of possession, without terminating this Lease, and enter upon and take possession of the Demised Premises and expel or remove Tenant and any other person who may be occupying said Demised Premises or any part thereof, by entry, dispossessory suit or otherwise, without thereby releasing Tenant from any liability hereunder, and without being liable for prosecution or any claim of damages therefor and, if Landlord so elects, make such alterations, decoration and repairs as, in Landlord's judgment, may be necessary to relet the Demised Premises, and Landlord may, but shall be under no obligation to do so (except as may be provided by State law), relet the Demised Premises or any portion thereof in Landlord's or Tenant's name, but for the account of Tenant, for such term or terms (which may be for a term extending beyond the Lease Term) and at such rental or rentals and upon such other terms as Landlord may deem advisable, with or without advertisement, and by private negotiations, and receive the rent therefor, Tenant hereby agreeing to pay to Landlord the deficiency, if any, between all Rent reserved hereunder and the total rental applicable to the Lease Term hereof obtained by Landlord re-letting, and Tenant shall be liable for Landlord's expenses in redecorating and restoring the Demised Premises and all costs incident to such re-letting, including broker's commissions and lease assumptions, and in no event shall Tenant be entitled to any rentals received by Landlord in excess of the amounts due by Tenant hereunder; and any such demand, reentry and taking possession of the Demised Premises by Landlord shall not of itself constitute an acceptance by Landlord of a surrender of this Lease or of the Demised Premises by Tenant and shall not of itself constitute a termination of this Lease by Landlord; or (iii) enter upon the Demised Premises without being liable for prosecution or any claim of damages therefor, and do whatever Tenant is obligated to do under the terms of this Lease; and Tenant agrees to reimburse Landlord on demand for any expenses including, without limitation, reasonable attorneys' fees which Landlord may incur in thus effecting compliance with Tenant's obligations under this Lease, and Tenant further agrees that Landlord shall not be liable for any damages resulting to Tenant from such action, whether caused by negligence of Landlord or otherwise; or (iv) without terminating this Lease, declare all Rent and other charges and assessments which in Landlord's reasonable determination would become due and payable during the remainder of the Lease Term (including, but not limited to, increases in Rent pursuant to Article 7 hereof) to be immediately due and payable; and thereupon all Rent and other charges due hereunder to the end of the initial term or any then in effect renewal term, shall be accelerated. (c) Pursuit of any of the foregoing remedies shall not preclude pursuit of any other remedy herein provided or any other remedy provided by law or at equity, nor shall pursuit of any remedy herein provided constitute an election of remedies thereby excluding the later election of an alternate remedy, or a forfeiture or waiver of any Rent or other charges and assessments payable by Tenant and due to Landlord hereunder or of any damages accruing to Landlord by reason of violation of any of the terms, covenants, warranties and provisions herein contained. No reentry or taking possession of the Demised Premises by Landlord or any other action taken by or on behalf of Landlord shall be construed to be an 14 18 acceptance of a surrender of this Lease or an election by Landlord to terminate this Lease unless written notice of such intention is given to Tenant. Forbearance by Landlord to enforce one or more of the remedies herein provided upon an event of default shall not be deemed or construed to constitute a waiver of such default. In determining the amount of loss or damage which Landlord may suffer by reason of termination of this Lease or the deficiency arising by reason of any reletting of the Demised Premises by Landlord as above provided, allowance shall be made for the expense of repossession. Tenant agrees to pay to Landlord all costs and expenses incurred by Landlord in the enforcement of this Lease, including, without limitation, the fees of Landlord's attorneys as provided in Article 26 hereof. 20. Waiver of Breach. No waiver of any breach of the covenants, warranties, agreements, provisions, or conditions contained in this Lease shall be construed as a waiver of said covenant, warranty, provision, agreement or condition or of any subsequent breach thereof, and if any breach shall occur and afterwards be compromised, settled or adjusted, this Lease shall continue in full force and effect as if no breach had occurred. 21. Assignment and Subletting. Tenant shall not, without the prior written consent of Landlord, assign this Lease or any interest herein or in the Demised Premises, or mortgage, pledge, encumber, hypothecate or otherwise transfer or sublet the Demised Premises or any part thereof or permit the use of the Demised Premises by any party other than Tenant. Consent to one or more such transfers or subleases shall not destroy or waive this provision, and all subsequent transfers and subleases shall likewise be made only upon obtaining the prior written consent of Landlord. Without limiting the foregoing prohibition, in no event shall Tenant assign this Lease or any interest herein, whether directly, indirectly or by operation of law, or sublet the Demised Premises or any part thereof or permit the use of the Demised Premises or any part thereof by any party (i) if the proposed assignee or subtenant is a party who would, or whose use would, detract from the character of the Building as a first class office building (such as, without limitation, a dental, medical or chiropractic office or a governmental office), or conflict with the uses, practices or requirements of this Lease, or the Building; (ii) if the proposed use of the Demised Premises shall involve an occupancy rate of more than one (1) person per 143 square feet of Rentable Floor Area of the Demised Premises, (iii) if the proposed assignment or subletting shall be to a governmental subdivision or agency or any person or entity who enjoys diplomatic or sovereign immunity, (iv) if such proposed assignee or subtenant is an existing tenant of the Building, or (v) if such proposed assignment, subletting or use would contravene any restrictive covenant (including any exclusive use) granted to any other tenant of the Building. Sublessees or transferees of the Demised Premises for the balance of the Lease Term shall become directly liable to Landlord for all obligations of Tenant hereunder, without relieving Tenant (or any guarantor of Tenant's obligations hereunder) of any liability therefor, and Tenant shall remain obligated for all liability to Landlord arising under this Lease during the entire remaining Lease Term including any extensions thereof, whether or not authorized herein. If Tenant is a partnership, a limited liability company or a limited liability partnership, a withdrawal or change, whether voluntary, involuntary or by operation of law, of partners or members owning a controlling interest in the Tenant shall be deemed a voluntary assignment of this Lease and subject to the foregoing provisions. If Tenant is a corporation, any dissolution, merger, consolidation or other reorganization of Tenant, or the sale or transfer of a controlling interest in the capital stock of Tenant, shall be deemed a voluntary assignment of this Lease and subject to the foregoing provisions. Landlord may, as a prior condition to considering any request for consent to an assignment or sublease, require Tenant to obtain and submit current financial statements of any proposed subtenant or assignee. In the event Landlord consents to an assignment or sublease, Tenant shall pay to Landlord a fee to cover Landlord's accounting costs plus any legal fees incurred by Landlord as a result of the assignment or sublease. Landlord may require an additional security deposit from the assignee or subtenant as a condition of its consent. Any consideration, in excess of the Rent and other charges and sums due and payable by Tenant under this Lease, paid to Tenant by any assignee of this Lease for its assignment, or 15 19 by any sublessee under or in connection with its sublease, or otherwise paid to Tenant by another party for use and occupancy of the Demised Premises or any portion thereof, shall be promptly remitted by Tenant to Landlord as additional rent hereunder and Tenant shall have no right or claim thereto as against Landlord. No assignment of this Lease consented to by Landlord shall be effective unless and until Landlord shall receive an original assignment and assumption agreement, in form and substance satisfactory to Landlord, signed by Tenant and Tenant's proposed assignee, whereby the assignee assumes due performance of this Lease to be done and performed for the balance of the then remaining Lease Term of this Lease. No subletting of the Demised Premises, or any part thereof, shall be effective unless and until there shall have been delivered to Landlord an agreement, in form and substance satisfactory to Landlord, signed by Tenant and the proposed sublessee, whereby the sublessee acknowledges the right of Landlord to continue or terminate any sublease, in Landlord's sole discretion, upon termination of this Lease, and such sublessee agrees to recognize and attorn to Landlord in the event that Landlord elects under such circumstances to continue such sublease. Notwithstanding anything contained in this Lease which may be to the contrary, in the event Tenant shall assign this Lease or sublet the Demised Premises in contravention of this Article 21, or if Tenant shall otherwise, by operation of law, cease to be the sole occupant of the Demised Premises, same shall be deemed a material default of Tenant, and, in addition to any other rights or remedies Landlord may have with respect to such failure, Landlord may also charge and collect from Tenant (and/or the occupant of the Demised Premises) as Base Rental, an amount equal to 150% of the Base Rental otherwise reserved and payable under this Lease until such time as Tenant shall have caused compliance with the terms of this Lease. Occupancy or possession of the Demised Premises shall cause said unapproved assignee, sublessee, or occupant to be liable directly to Landlord for all amounts chargeable under this Lease, without the granting thereto of a right of possession of the Demises Premises. Acceptance by Landlord of any Rent payable hereunder made by anyone other than Tenant as named herein shall under no circumstances in and of itself be deemed an approval by Landlord of any assignment or subletting without compliance with this Article 21. 22. Destruction. (a) If the Demised Premises are damaged by fire or other casualty, the same shall be repaired or rebuilt as speedily as practical under the circumstances at the expense of the Landlord (subject to subparagraph (c) below], unless this Lease is terminated as provided in this Article 22, and during the period required for restoration, a just and proportionate part of Base Rental shall be abated until the Demised Premises are repaired or rebuilt. (b) If the Demised Premises are (i) damaged to such an extent that repairs cannot, in Landlord's judgment, be completed within nine (9) months after the date of the casualty or (ii) damaged or destroyed as a result of a risk which is not insured under standard special form/all-risk insurance policies, or (iii) damaged or destroyed during the last eighteen (18) months of the Lease Term, or if the Building is damaged in whole or in part (whether or not the Demised Premises are damaged), to such an extent that the Building cannot, in Landlord's judgment, be operated economically as an integral unit, then and in any such event Landlord may at its option terminate this Lease by notice in writing to the Tenant within sixty (60) days after the date of such occurrence. Landlord shall give notice in writing to Tenant within one hundred twenty (120) days after the date of such occurrence whether or not in Landlord's judgment such repairs can be completed within nine (9) months after the date of the casualty. If the Demised Premises are damaged to such an extent that repairs cannot, in Landlord's judgment, be completed within nine (9) months after the date of the casualty or if the Demised Premises are substantially damaged during the last eighteen (18) months of the Lease Tenn, then in either such event Tenant may elect to terminate this Lease by notice in writing to Landlord within fifteen (15) days after 16 20 Tenant's receipt of such notice from Landlord. Unless Landlord or Tenant elects to terminate this Lease as hereinabove provided, this Lease will remain in full force and effect and Landlord shall repair such damage at its expense to the extent required in this Article as expeditiously as possible under the circumstances. (c) If Landlord should elect or be obligated pursuant to subparagraph (a) above to repair or rebuild because of any damage or destruction, Landlord's obligation shall be limited to the original Building and the leasehold improvements in the Demised Premises (to the extent such leasehold improvements can be restored for the amount of the Construction Allowance applicable thereto) and shall not extend to any fumiture, equipment, supplies or other personal property owned or leased by Tenant, its employees, contractors, invitees or licensees. If the cost of performing such repairs and restoration exceeds the actual proceeds of insurance paid or payable to Landlord on account of such casualty, or if Landlord's mortgagee or the lessor under a ground or underlying lease shall require that any insurance proceeds from a casualty loss be paid to it, Landlord may terminate this Lease unless Tenant, within fifteen (15) days after demand therefor, deposits with Landlord a sum of money sufficient to pay the difference between the cost of repair and the proceeds of the insurance available to Landlord for such purpose. (d) In no event shall Landlord be liable for any loss or damage sustained by Tenant by reason of casualties mentioned hereinabove or any other accidental casualty. 23. Landlord's Lien. Landlord shall at all times have a valid first lien upon all of the personal property of Tenant situated in the Demised Premises to secure payment of Rent and other sums and charges due hereunder from Tenant to Landlord and to secure the performance by Tenant of each and all of the covenants, warranties, agreements and conditions hereof; provided that Landlord will agree to subordinate such lien, upon terms and conditions reasonably satisfactory to Landlord, to any first lien securing Tenant's financing of such personal property or any part thereof. Said personal property shall not be removed from the Demised Premises without the consent of Landlord until all arrearages in Rent and other charges as well as any and all other sums of money due hereunder shall first have been paid and discharged and until this Lease and all of the covenants, conditions, agreements and provisions hereof have been fully performed by Tenant. Tenant shall from time to time execute any financing statements and other instruments necessary to perfect the security interest granted herein. The lien herein granted may be foreclosed in the manner and form provided by law for the foreclosure of security instruments or chattel mortgages, or in any other manner provided by law. This Lease is intended as and constitutes a security agreement within the meaning of the Uniform Commercial Code of the State. 24. Tenant's Waiver of Redemption and with Regard to Billings. Tenant hereby expressly waives any and all rights of redemption granted by or under any present or future laws in the event of Tenant being evicted or dispossessed for any cause, or in the event of Landlord obtaining possession of the Demised Premises by reason of the violation by Tenant of any of the covenants and conditions of this Lease or otherwise. The rights given to Landlord herein are in addition to any rights that may be given to Landlord by any statute or otherwise. Except as provided in Article 8(e), Tenant's failure to object to any statement, invoice or billing rendered by Landlord within a period of thirty (30) days after receipt thereof shall constitute Tenant's acquiescence with respect thereto and shall render such statement, invoice or billing an account stated between Landlord and Tenant. 25. Services by Landlord. Landlord shall provide the Building Standard Services described on Exhibit "E" attached hereto and by reference made a part hereof. Any services requested or required to be supplied to Tenant in excess of the Building Standard Services shall be at Tenant's sole cost and expense and shall be paid for by Tenant promptly upon invoice therefor, which invoice may include 17 21 Landlord's administrative costs and a fee of 10% for such provision. Nothing herein shall be deemed to require Landlord to provide to Tenant any services in excess of the Building Standard Services. 26. Attorneys' Fees and Homestead. If any Rent or other debt owing by Tenant to Landlord hereunder is collected by or through an attorney-at-law, Tenant agrees to pay an additional amount equal to fifteen percent (15%) of such sum as attorney's fees. If Landlord uses the services of any attorney in order to secure compliance with any other provisions of this Lease, to recover damages for any breach or default of any other provisions of this Lease, or to terminate this Lease or evict Tenant, Tenant shall reimburse Landlord upon demand for any and all attorney's fees and expenses so incurred by Landlord. Tenant waives all homestead rights and exemptions which it may have under any law as against any obligation owing under this Lease, and assigns to Landlord its homestead and exemptions to the extent necessary to secure payment and performance of its covenants and agreements hereunder. 27. Time. Time is of the essence of this Lease, and whenever a certain day is stated for payment or performance of any obligation of Tenant or Landlord, the same enters into and becomes a part of the consideration hereof. 28. Subordination and Attornment. (a) Subject to the provisions of this Article, Tenant agrees that this Lease and all rights of Tenant hereunder are and shall be subject and subordinate to any ground or underlying lease which may now or hereafter be in effect regarding the Project or any component thereof, to any mortgage now or hereafter encumbering the Demised Premises or the Project or any component thereof, to all advances made or hereafter to be made upon the security of such mortgage, to all amendments, modifications, renewals, consolidations, extensions, and restatements of such ground lease or mortgage, and to any replacements and substitutions for such ground lease or mortgage. The terms of this provision shall be self-operative and no further instrument of subordination shall be required. Upon request of any party in interest, Tenant shall execute promptly such instrument or certificates as may be reasonably required to carry out the intent hereof, whether said requirement is that of Landlord or any other party in interest, including, without limitation, any ground lessor or mortgagee. Landlord is hereby irrevocably vested with full power and authority as attorney-in-fact for Tenant and in Tenant's name, place and stead, to subordinate Tenant's interest under this Lease to the lien or security title of any ground lease or mortgage and to any future instrument amending, modifying, renewing, consolidating, extending, restating, replacing or substituting any such ground lease or mortgage. (b) If any mortgagee, or any lessor under a ground or underlying lease, elects to have this Lease superior to its mortgage or lease and signifies its election in the instrument creating its lien or lease or by separate recorded instrument, then this Lease shall be superior to such mortgage or lease, as the case may be. The term "mortgage", as used in this Lease, includes any deed to secure debt, deed of trust or security deed and any other instrument creating a lien or conveying real property or any interest therein, in connection with any other method of financing or refinancing. The term "mortgagee", as used in this Lease, refers to the holder(s) of the indebtedness secured by a mortgage. (c) In the event any proceedings are brought for the foreclosure of, or in the event of exercise of the power of sale under, any mortgage covering the Demised Premises or the Project, or in the event the interests of Landlord under this Lease shall be transferred by reason of deed in lieu of foreclosure or other legal proceedings, or in the event of termination of any lease under which Landlord may hold title, Tenant shall, at the option of the transferee or purchaser at foreclosure or under power of sale, or the lessor of the Landlord upon such lease termination, as the case may be (sometimes hereinafter called "such person"), attorn to such person and shall recognize and be bound and obligated hereunder to such 18 22 person as the Landlord under this Lease; provided, however, that no such person shall be (i) bound by any payment of Rent for more than one (1) month in advance, except prepayments in the nature of security for the performance by Tenant of its obligations under this Lease (and then only if such prepayments have been deposited with and are under the control of such person); (ii) bound by any amendment or modification of this Lease made without the express written consent of the mortgagee or lessor of the Landlord, as the case may be; (iii) obligated to cure any defaults under this Lease of any prior landlord (including Landlord); (iv) liable for any act or omission of any prior landlord (including Landlord); (v) subject to any offsets or defenses which Tenant might have against any prior landlord (including Landlord); or (vi) bound by any warranty or representation of any prior landlord (including Landlord) relating to work performed by any prior landlord (including Landlord) under this Lease. Tenant agrees to execute any attornment agreement not in conflict herewith requested by Landlord, the mortgagee or such person. Tenant's obligation to attorn to such person shall survive the exercise of any such power of sale, foreclosure or other proceeding. Tenant agrees that the institution of any suit, action or other proceeding by any mortgagee to realize on Landlord's interest in the Demised Premises or the Building pursuant to the powers granted to a mortgagee under its, mortgage, shall not, by Operation of law or otherwise, result in the cancellation or termination of the obligations of the Tenant hereunder. Landlord and Tenant agree that notwithstanding that this Lease is expressly subject and subordinate to any mortgages, any mortgagee, its successors and assigns, or other holder of a mortgage or of a note secured thereby, may sell the Demised Premises or the Building, in the manner provided in the mortgage and may, at the option of such mortgagee, its successors and assigns, or other holder of the mortgage or note secured thereby, make such sale of the Demised Premises or Building subject to this Lease. 29. Estoppel Certificates. Within ten (10) days after request therefor by Landlord, Tenant agrees to execute and deliver to Landlord in recordable form an estoppel certificate addressed to Landlord, any mortgagee or assignee of Landlord's interest in, or purchaser of, the Demised Premises or the Building or any part thereof, certifying (if such be the case) that this Lease is unmodified and is in full force and effect (and if there have been modifications, that the same is in full force and effect as modified and stating said modifications); certifying that there are no defenses or offsets against the enforcement thereof or stating those claimed by Tenant; stating the date to which Rent and other charges have been paid; certifying that there are no defaults, or events which, with the giving of notice or the passage of time would be an event of default, under this Lease; and certifying as to any other matters which may reasonably be requested. Such certificate shall also include such other information as may reasonably be required by such mortgagee, proposed mortgagee, assignee, purchaser or Landlord. Any such certificate may be relied upon by Landlord, any mortgagee, proposed mortgagee, assignee, purchaser and any other party to whom such certificate is addressed. 30. No Estate. This Lease shall create the relationship of landlord and tenant only between Landlord and Tenant and no estate shall pass out of Landlord. 31. Cumulative Rights. All rights, powers and privileges conferred hereunder upon the parties hereto shall be cumulative to, but not restrictive of, or in lieu of those conferred by law. 32. Holding Over. If Tenant remains in possession after expiration or termination of the Lease Term with or without Landlord's written consent, Tenant shall become a tenant-at-sufferance, and there shall be no renewal of this Lease by operation of law. During the period of any such holding over, all provisions of this Lease shall be and remain in effect except that the monthly rental for the first three (3) months of such holdover period shall be 125% of, and for all months thereafter shall be 150% of, the amount of Rent (including any adjustments as provided herein) payable for the last full calendar month of the Lease Term including renewals or extensions. The inclusion of the preceding sentence in this Lease shall not be construed as Landlord's consent for Tenant to hold over. 19 23 33. Surrender of Premises. Upon the expiration or other termination of this Lease, Tenant shall quit and surrender to Landlord the Demised Premises and every part thereof and all alterations, additions and improvements thereto, broom clean and in good condition and state of repair, reasonable wear and tear only excepted. If Tenant is not then in default, Tenant shall remove all personalty and equipment not attached to the Demised Premises which it has placed upon the Demised Premises, and Tenant shall restore the Demised Premises to the condition immediately preceding the time of placement thereof. If Tenant shall fail or refuse to remove all of Tenant's effects, personalty and equipment from the Demised Premises upon the expiration or termination of this Lease for any cause whatsoever or upon the Tenant being dispossessed by process of law or otherwise, such effects, personalty and equipment shall be deemed conclusively to be abandoned and may be appropriated, sold, stored, destroyed or otherwise disposed of by Landlord without written notice to Tenant or any other party and without obligation to account for same. Tenant shall pay Landlord on demand any and all expenses incurred by Landlord in the removal of such property, including, without limitation, the cost of repairing any damage to the Building or Project caused by the removal of such property and storage charges (if Landlord elects to store such property). The covenants and conditions of this Article 33 shall survive any expiration or termination of this Lease. 34. Notices. All notices required or permitted to be given hereunder shall be in writing and may be delivered in person to either party or may be sent by courier, recognized national overnight delivery service or by United States Mail, certified, return receipt requested, postage prepaid. Any such notice shall be deemed received by the party to whom it was sent (i) in the case of personal delivery, recognized national overnight delivery service or courier delivery, on the date of delivery to such party, (ii) in the case or certified mail, the date receipt is acknowledged on the return receipt for such notice, and (iii) if delivery is rejected or refused or the courier, overnight delivery service or U.S. Postal Service is unable to deliver same because of changed address of which no notice was given pursuant hereto, the first date of such rejection, refusal or inability to deliver. All such notices shall be addressed to Landlord or Tenant at their respective addresses set forth hereinabove or at such other address is either party shall have theretofore given to the other by notice as herein provided, and all such notices to Landlord shall be sent simultaneously to both addresses set forth for Landlord's Address for notices in Article 1(b) hereof. Tenant hereby designates and appoints as its agent to receive notice of all dispossessory or distraint proceedings and all other notices required under this Lease, the person in charge of the Demised Premises at the time said notice is given or occupying the Demised Premises at said time; and, if no person is in charge of or occupying the said Demised Premises, then such service or notice may be made by attaching the same, in lieu of mailing, on the main entrance to the Demised Premises. 35. Damage or Theft of Personal property. All personal property brought into Demised Premises by Tenant, or Tenant's employees, patients or invitees, shall be at the risk of Tenant only, and Landlord shall not be liable for theft thereof or any damage thereto occasioned by any act of co-tenants, occupants, invitees or other users of the Building or any other person. Landlord shall not at any time be liable for damage to any property in or upon the Demised Premises which results from power surges or other deviations from the constancy of electrical service or from gas, smoke, water, rain, ice or snow which issues or leaks from or forms upon any part of the Building or from the pipes or plumbing work of the same, or from any other place whatsoever. 36. Eminent Domain (a) If all or part of the Demised Premises shall be taken for any public or quasi-public use by virtue of the exercise of the power of eminent domain or by private purchase in lieu thereof, this Lease shall terminate as to the part of the Demised Premises so taken or rendered untenantable as a result of such taking, as of the date of taking, and, in the case of a partial taking, either Landlord or Tenant 20 24 shall have the right to terminate this Lease as to the balance of the Demised Premises by written notice to the other within thirty (30) days after such date; provided, however, that a condition to the exercise by Tenant of such right to terminate shall be that the portion of the Demised Premises taken shall be of such extent and nature as substantially to handicap, impede or impair Tenant's use of the balance of the Demised Premises. If title to so much of the Building or Project is taken that a reasonable amount of reconstruction thereof will not in Landlord's sole discretion result in the Building being a practical improvement and reasonably suitable for use for the purpose for which it is designed, then this Lease shall terminate on the date that the condemning authority actually takes possession of the part so condemned or purchased. (b) If this Lease is terminated under the provisions of this Article 36, Rent shall be apportioned and adjusted as of the date of termination. Tenant shall have no claim against Landlord or against the condemning authority for the value of any leasehold estate or for the value of the unexpired Lease Term provided that the foregoing shall not preclude any claim that Tenant may have against the condemning authority for the unamortized cost of leasehold improvements, to the extent the same were installed at Tenant's expense (and not with the proceeds of the Construction Allowance), or for loss of business, moving expenses or other consequential damages, in accordance with subparagraph (d) below. (c) If there is a partial taking of the Building or the Project and this Lease is not thereupon terminated under the provisions of this Article 36, then this Lease shall remain in full force and effect, and Landlord shall, within a reasonable time thereafter, repair or reconstruct the remaining portion of the Building or the Project to the extent necessary to make the same a complete architectural unit to which Tenant has access; provided that in complying with its obligations hereunder Landlord shall not be required to expend more than the net proceeds of the condemnation award which are paid to Landlord. (d) All compensation awarded or paid to Landlord upon a total or partial taking of the Demised Premises, the Building or the Project shall belong to and be the property of Landlord without any participation by Tenant. Nothing herein shall be construed to preclude Tenant from prosecuting any claim directly against the condemning authority for loss of business, for damage to, and cost of removal of, trade fixtures, furniture and other personal property belonging to Tenant, and for the unamortized cost of leasehold improvements to the extent same were installed at Tenant's expense (and not with the proceeds of the Construction Allowance), provided, however, that no such claim shall diminish or adversely affect Landlord's award. In no event shall Tenant have or assert a claim for the value of any unexpired term of this Lease. Subject to the foregoing provisions of this subparagraph (d), Tenant hereby assigns to Landlord any and all of its right, title and interest in or to any compensation awarded or paid as a result of any such taking. (e) Notwithstanding anything to the contrary contained in this Article 36, if, during the Lease Term, the use or occupancy of any part of the Building or the Demised Premises shall be taken or appropriated temporarily for any public or quasi-public use under any governmental law, ordinance, or regulations, or by right of eminent domain, this Lease shall be and remain unaffected by such taking or appropriation, and Tenant shall continue to pay in full all Rent payable hereunder by Tenant during the Lease Term. In the event of any such temporary appropriation or taking, Tenant shall be entitled to receive that portion of any award which represents compensation for the loss of use or occupancy of the Demised Premises during the Lease Term, and Landlord shall be entitled to receive that portion of any award which represents the cost of restoration and compensation for the loss of use or occupancy of the Demised Premises after the end of the Lease Term. 37. Parties. The term "Landlord", as used in this Lease, shall include Landlord and its assigns and successors. It is hereby covenanted and agreed by Tenant that should Landlord's interest in the Demised 21 25 Premises cease to exist for any reason during the Lease Term, then notwithstanding the happening of such event, this Lease nevertheless shall remain in full force and effect, and Tenant hereby agrees to attorn to the then owner of the Demised Premises. The term "Tenant" shall include Tenant and its heirs, legal representatives and successors, and shall also include Tenant's assignees and sublessees, if this Lease shall be validly assigned or the Demised Premises be validly sublet for the balance of the Lease Term or any renewals or extensions thereof. In addition, Landlord and Tenant covenant and agree that Landlord's right to transfer or assign Landlord's interest in and to the Demised Premises, or any part or parts thereof, shall be unrestricted, and that in the event of any such transfer or assignment by Landlord which includes the Demised Premises, Landlord's obligations to Tenant hereunder shall cease and terminate, and Tenant shall look only and solely to Landlord's assignee or transferee for performance thereof. "Landlord" and "Tenant" and the pronouns used with reference thereto, include male and female, singular and plural, corporation, partnership, company or individual, as may fit the particular parties. 38. Liability of Tenant. Tenant hereby indemnifies Landlord from and agrees to hold Landlord harmless against, any and all liability, loss, cost, damage or expense, including, without limitation court costs and reasonable attorney's fees actually incurred (without regard to statutory definitions or constraints upon the charge or collection thereof), through all appeals, imposed on Landlord by any person whomsoever, caused in whole or in part by any act or omission of Tenant, or any of its employees, contractors, servants, agents, subtenants, assignees, representatives or invitees, or otherwise occurring in connection with any default of Tenant hereunder. The provisions of this Article 38 shall survive any termination of this Lease. 39. Intentionally Omitted. 40. Force Majeure. In the event of strike, lockout, labor trouble, civil commotion, Act of God, or any other cause beyond a party's control (collectively "force majeure") resulting in the Landlord's inability to supply the services or to perform the other obligations required of Landlord hereunder, this Lease shall not terminate and Tenant's obligation to pay Rent and all other charges and submit due and payable by Tenant shall not be affected or excused. If, as a result of force majeure, Landlord or Tenant is delayed in performing any of its obligations under this Lease, other than Tenant's obligation to take possession of the Demised Premises on or before the Rental Commencement Date and to pay Rent and all other charges and sums payable by Tenant hereunder, Landlord's and Tenant's performance shall be excused for a period equal to such delay and Landlord and Tenant shall not during such period be considered to be in default under this Lease with respect to the obligation, performance of which has thus been delayed. 41. Landlord's Liability. Landlord shall have no personal liability with respect to any of the provisions of this Lease. If Landlord is in default with respect to its obligations under this Lease, Tenant shall look solely to the equity of Landlord in and to the Building and the Land described in EXHIBIT "A" hereto for satisfaction of Tenant's remedies, if any. It is expressly understood and agreed that Landlord's liability under the terms of this Lease shall in no event exceed the amount of its interest in and to said Land and Building. In no event shall any partner or member of Landlord nor any joint venturer in Landlord, nor any officer, director or shareholder of Landlord or any such partner, member or joint venturer of Landlord be personally liable with respect to any of the provisions of this Lease. 42. Landlord's Covenant of Quiet Enjoyment. Provided Tenant performs the terms, conditions and covenants of this Lease, and subject to the terms and provisions hereof, Landlord covenants and agrees to take all necessary steps to secure and to maintain for the benefit of Tenant the quiet and peaceful possession of the Demised Premises, for the Lease Term, without hindrance, claim or molestation by Landlord or any other person lawfully claiming under Landlord. 22 26 43. INTENTIONALLY OMITTED. 44. Hazardous Substances. Tenant hereby covenants and agrees that Tenant shall not cause or permit any "Hazardous Substances" (as hereinafter defined) to be generated, placed, held, stored, used, located or disposed of at the Project or any part thereof, except for Hazardous Substances as are commonly and legally used or stored as a consequence of using the Demised Premises for general office and administrative purposes, but only so long as the quantities thereof do not pose a threat to public health or to the environment or would necessitate a "response action", as that term is defined in CERCLA (as hereinafter defined), and so long as Tenant strictly complies or causes compliance with all applicable governmental rules and regulations concerning the use, storage, production, transportation and disposal of such Hazardous Substances. Promptly upon receipt of Landlord's request, Tenant shall submit to Landlord true and correct copies of any reports filed by Tenant with any governmental or quasi-governmental authority regarding the generation, placement, storage, use, treatment or disposal of Hazardous Substances on or about the Demised Premises. For purposes of this Article 44, "Hazardous Substance" and "release" shall have the meanings specified for said terms in CERCLA; provided however, that in the event CERCLA is amended to broaden the meaning of any term defined thereby, such broadened meaning shall apply subsequent to the effective date of such amendment; and provided further, that to the extent that the laws of the State of Alabama establish a meaning for "Hazardous Substance" or "release" which is broader than that specified in CERCLA, such broader meaning shall I apply; and provided further, that "Hazardous Substance" shall also be defined to include oil, petroleum products, extremely flammable substances, explosives; and radioactive materials, and all other elements or compounds which are contained in the list of Hazardous Substances adopted by the United States Environmental Protection Agency (EPA) or in any list of toxic pollutants designated by Congress or the EPA or which are defined as hazardous, toxic, pollutant, infectious or radioactive by any other federal, state or local statute, law, ordinance, code, rule, regulation, order or decree regulating, relating to or imposing liability (including, without limitation, strict liability) or standards of conduct concerning, any hazardous, toxic or dangerous waste, substance or material, as now or at any time hereinafter in effect (collectively "Environmental Laws"). Tenant hereby agrees to indemnify Landlord and hold Landlord harmless from and against any and all losses, liabilities, including strict liability, damages, injuries, expenses, including reasonable attorneys' fees, costs of settlement or judgment and claims of any and every kind whatsoever paid, incurred or suffered by, or asserted against, Landlord by any person, entity or governmental agency for, with respect to, or as a direct or indirect result of, the presence in, or the disposal, escape, leakage, spillage, discharge, emission or release from, the Demised Premises of any Hazardous Substances (including, without limitation, any losses, liabilities, including strict liability, damages, injuries, expenses, including reasonable attorneys' fees, costs of any settlement or judgment or claims asserted or arising under the Comprehensive Environmental Response, Compensation and Liability Act ["CERCLA"], any so-called federal, state or local "Superfund" or "Superlien" laws or any other Environmental Law); provided, however, that the foregoing indemnity is limited to matters arising solely from Tenant's violation of the covenant contained in this Article 44. The obligations of Tenant under this Article 44 shall survive any expiration or termination of this Lease. 45. Submission of Lease. The submission of this Lease for examination does not constitute an offer to lease and this Lease shall be effective only upon execution hereof by Landlord and Tenant and upon execution of any required Guaranty Agreement annexed hereto and incorporated herein as Exhibit "H". Notwithstanding anything contained in this Lease to the contrary, in the event during the Tenn of this Lease (i) Tenant becomes a separate publicly traded entity (the "Nichols TXEN Public Entity") with a net worth of at least $25 million, and (ii) Tenant has not defaulted in payment of Rent form the Rental Commencement Date through the period ending thirty-six (36) months after the initial public offering of 23 27 the Nichols TXEN Public Entity, and (iii) Tenant is not otherwise in default of this Lease, then the Guaranty shall be terminated and Guarantor shall have no further liability with respect to this Lease. 46. Severability. If any clause or provision of this Lease is illegal, invalid or unenforceable under present or future laws, the remainder of this Lease shall not be affected thereby, and in lieu of each clause or provision of this Lease which is illegal, invalid or unenforceable, there shall be added as a part of this Lease a clause or provision as nearly identical to the said clause or provision as may be legal, valid and enforceable. 47. Entire Agreement. This Lease contains the entire agreement of the parties and no representations, inducements, promises or agreements, oral or otherwise, between the parties not embodied herein shall be of any force or effect. No failure of Landlord to exercise any power given Landlord hereunder, or to insist upon strict compliance by Tenant with any obligation of Tenant hereunder, and no custom or practice of the parties at variance with the terms hereof, shall constitute a waiver of Landlord's right to demand exact compliance with the terms hereof. This Lease may not be altered, waived, amended or extended except by an instrument in writing signed by Landlord and Tenant. This Lease is not in recordable form, and Tenant agrees not to record or cause to be recorded this Lease or any short form or memorandum thereof. 48. Headings. The use of headings herein is solely for the convenience of indexing the various paragraphs hereof and shall in no event be considered in construing or interpreting any provision of this Lease. 49. Brokers. THE BROKER(S), AS DEFINED IN ARTICLE 1(O) ARE ENTITLED TO A LEASING COMMISSION BY VIRTUE OF THIS LEASE, WHICH LEASING COMMISSION SHALL BE PAID BY LANDLORD TO BROKER(S) IN ACCORDANCE WITH THE TERMS OF A SEPARATE AGREEMENT BETWEEN LANDLORD AND BROKER(S). Each party hereto (each "Party") represents and warrants to the other Party hereto (the "Indemnified Party") that (except with respect to any Broker[s] identified in Article 1(o) hereinabove) no broker, agent, commission salesperson, or other person has represented such Party in the negotiations for and procurement of this Lease and of the Demised Premises and that (except with respect to any Broker(s] identified in Article l(o) hereinabove) no commissions, fees, or compensation of any kind are due and payable in connection herewith to any broker, agent, commission salesperson, or other person as a result of any act or agreement of such Party. Each Party agrees to indemnify and hold the Indemnified Party harmless from all loss, liability, damage, claim, judgment, cost or expense (including reasonable attorneys' fees and court costs actually incurred, without regard to statutory definitions or constraints upon the charge or collection thereof, through all appeals) suffered or incurred by the Indemnified Party as a result of a breach of the representation and warranty contained in the immediately preceding sentence or as a result of the failure to pay commissions, fees, or compensation due to any broker who represented such Party, whether or not disclosed, or as a result of any claim for any fee, commission or similar compensation with respect to this Lease made by any broker, agent or finder (other than any Broker[s] identified in Article l(o) hereinabove) claiming to have dealt with such Party, whether or not such claim is meritorious. Tenant shall cause any agent or broker representing Tenant to execute a lien waiver to and for the benefit of Landlord, waiving any and all lien rights with respect to the Building and Land which such agent or broker has or might have under State law. 50. Governing Law. The laws of the State shall govern the validity, performance and enforcement of this Lease. 24 28 51. Guaranty. As a material inducement to Landlord, without which Landlord would not enter into this Lease, Tenant agrees to cause to be delivered to Landlord, together with Tenant's delivery of this Lease to Landlord, a fully executed Guaranty in the form of Exhibit "H" attached hereto and incorporated herein by reference. 52. Authority. If Tenant executes this Lease as a corporation, each of the persons executing this Lease on behalf of Tenant does hereby personally represent and warrant that Tenant is a duly incorporated or a duly qualified (if a foreign corporation) corporation and is fully authorized and qualified to do business in the State in which the Demised Premises are located, that the corporation has full right and authority to enter into this Lease, and that each person signing on behalf of the corporation is an officer of the corporation and is authorized to sign on behalf of the corporation. If Tenant signs as a partnership, joint venture, limited liability company, limited liability partnership, or sole proprietorship or other business entity (each being herein called "Entity"), each of the persons executing on behalf of Tenant does hereby covenant and warrant that Tenant is a duly authorized and existing Entity, that Tenant has full right and authority to enter into this Lease, that all persons executing this Lease on behalf of the Entity are authorized to do so on behalf of the Entity, and that such execution is fully binding upon the Entity and its partners, joint venturers, or principal, as the case may be. Upon the request of Landlord, Tenant shall deliver to Landlord documentation satisfactory to Landlord evidencing Tenant's compliance with this Article, and Tenant agrees to promptly execute all necessary and reasonable applications or documents as reasonably requested by Landlord, required by the jurisdiction in which the Demised Premises is located, to permit the issuance of necessary permits and certificates for Tenant's use and occupancy of the Demised Premises. 53. Financial Statements. Upon or before the Effective Date, and thereafter, upon Landlord's written request therefor, but not more often than once per year, Tenant shall promptly furnish to Landlord a financial statement with respect to Tenant (and any guarantor of this Lease) for its most recent fiscal year prepared in accordance with generally accepted accounting principles and certified to be true and correct by Tenant, and such other financial information as Landlord may reasonably request. Landlord agrees to keep confidential and not use such financial statements and information, except in connection with the administration or enforcement of this Lease, a proposed sale of the Building, or the consummation or administration of loan transactions. 54. Joint and Several Liability. If Tenant comprises more than one person, corporation, partnership or other entity, the liability hereunder of all such persons, corporations, partnerships or other entities shall be joint and several. 55. ERISA Compliance. Tenant represents to Landlord that Tenant is not an "employee benefit plan", a "plan" or a "governmental plan" as defined below or an entity whose assets constitute "plan assets" as defined below. The term "employee benefit plan" means an "employee benefit plan" as defined in Section 3(3) of the Employment Retirement Income Security Act of 1974, as amended ("ERISA"), which is subject to Title I of ERISA. The term "plan" means a "plan" as defined in Section 4975(e)(i) of the Internal Revenue Code of 1986, as amended. The term "governmental plan" means a "governmental plan" within the meaning of Section 3(32) of ERISA. The term "plan assets" means "plan assets" of one or more plans within the meaning of 2a C.F.R. 2510.3-101. 56. Delivery of Documents. If Tenant fails to execute, acknowledge or deliver any of the documents or instruments required under Article 28 or Article 29, same shall be deemed a material default of Tenant; however, Tenant does hereby make, constitute and irrevocably appoint Landlord as Tenant's attorney-in-fact and in its name, place and stead to execute, acknowledge and deliver such documents or instruments, and Landlord shall have the right to do so without waiving such material default of Tenant. 25 29 In addition to any other rights or remedies Landlord may have with respect to such failure, Landlord may also charge and collect from Tenant, as Additional Rental, an administrative fee of $50 per day with respect to each day the same remain delinquent. 57. Use of Name of Tenant. Tenant hereby authorizes Landlord to identify Tenant as a tenant of the Building and to state the amount of space leased by Tenant in advertisements and promotional materials relating to the Building. 58. Rule Against Perpetuities. In the event Landlord has not completed construction of the Building on or before three (3) years from the Effective Date, this Lease shall be null and void without any further action of the parties. IN WITNESS WHEREOF, the parties have hereunto set their hands and seals as of the day, month and year first above written. "LANDLORD": DANIEL MEADOW BROOK SOUTH, L.L.C. By: /s/ ----------------------------- Title: Senior Vice-President -------------------------- "TENANT": NICHOLS TXEN CORPORATION By: /s/ H. Greg Wood ----------------------------- Title: President -------------------------- Attest: /s/ Teresa Lynn Blackmon ------------------------- Title: Executive Assistant -------------------------- (CORPORATE SEAL) 26 30 EXHIBIT "A" LEGAL DESCRIPTION OF LAND That certain tract of land lying and being in the County of Shelby, State of Alabama, and being more particularly described as follows: Being all of Lots 11C and 11D, according to the survey of Lot 11, Meadow Brook Corporate Park South, Phase II, as recorded in map book 13, page 82 in the Office of the Judge of Probate of Shelby County, Alabama. 27 31 EXHIBIT "B" FIRST FLOOR PLAN 32 EXHIBIT "B" SECOND FLOOR PLAN 33 EXHIBIT "C" WORK LETTER 1. Tenant shall cause to be prepared by Tenant's architect and/or designer and/or Landlord's -engineers the following: (a) Complete, finished, detailed architectural drawings and specifications for Tenant's partition layout, reflected ceiling and other installations for the work to be done by Landlord under Paragraphs 2 and 3 hereof, which shall be prepared by Landlord's designer or architect. (b) Complete mechanical and electrical plans and specifications where necessary for installation of air conditioning system and ductwork, heating, electrical, plumbing and other mechanical plans for the work to be done by Landlord under Paragraphs 2 and 3 hereof, which shall be prepared by Landlord's engineers. Tenant shall pay all costs of preparation of said plans and specifications. All such plans and specifications are expressly subject to Landlord's approval and shall comply with all applicable laws, rules and regulations. Tenant covenants and agrees to cause said plans and specifications to be delivered to Landlord on or before October 1, 1998, and, upon approval by Landlord, Landlord will cause said plans to be filed at Tenant's sole cost and expense with the appropriate governmental agencies in such form (building notice, alteration or other form) as Landlord may direct. The Demised Premises shall be deemed ready for occupancy when Landlord's construction, as provided in Paragraphs 2 and 3 hereof, is substantially completed. In the event of any dispute as to when Landlord's construction has been substantially completed as aforesaid, the determination of Landlord's architect or designer shall be final and binding upon the parties. Landlord will give Tenant ten (10) days' advance written notice of the date on which Landlord expects the Demised Premises to be ready for occupancy. 2. Landlord agrees, at its sole expense and without charge to Tenant, to install the following in the Demised Premises (the following describes the scope of the "Building Standard" work which will be provided by Landlord at its expense in accordance with the specifications for the Building): (a) Air conditioning Air conditioning components, including diffusers, returns, flex duct and spin-ins to support an air-conditioning system capable of maintaining 76 degrees F when outside temperature is 94 degrees F (summer) and 70 degrees F when outside temperature is 21 degrees F (winter). Air conditioning design basis is 3.0 watts per usable square foot lighting and power load, based upon an occupancy rate of seven (7) persons per 1,000 rentable square feet (per ASHRAE Standard 62-1989) and venetian blinds drawn with slats tilted against the sun at not less than 45 degrees from horizontal. Landlord will provide the building standard number of thermostats, temporarily placed in the ceiling plenum which number varies depending on the location of the Demised Premises on the applicable floor of the Building. Landlord will provide up to six (6) HVAC supply air diffusers per 1,000 rentable square feet. 29 34 (b) Electrical (i) One (1) recessed (or surface mounted if required by building conditions) 3 tube fluorescent parabolic light fixture 2' x 4' (or 2' x 2' if required by building conditions) for each 80 square feet of usable area. All fixtures must conform in layout and spacing to the ceiling modules and shall run in the same direction. (ii) An electrical distribution system above the ceiling for power (120/208 volts) at a capacity of 2.0 watts per square foot of rentable space circuited at 8 outlets per 16 AMP circuit. (iii) An electrical distribution system above the ceiling for fluorescent lights (277/480 volts) at a capacity of 2.0 watts per square foot of rentable space. (c) Ceiling (i) Building standard acoustical ceiling tile installed in building standard ceiling grid. (ii) A mechanically suspended ceiling support system designed to utilize 2'x 2' lay-in acoustical tile throughout the office area. (d) Sprinkler system A complete building standard sprinkler system to meet local codes. (e) The inside of the Building's perimeter walls will have gypsum wallboard installed, taped and sanded only, and the core walls will have gypsum wallboard installed, taped and sanded only. (f) Venetian blinds on all exterior windows in accordance with Landlord's standard specificitions. 3. Landlord agrees, at Tenant's sole cost and expense and in conformance with working drawings and specifications, approved by Landlord, to provide and install the following work: (a) Air Conditioning (i) Any modifications to or deviations from the Building standard air conditioning system. (ii) Fire dampers as required by Tenant's layout design. (iii) Installation of building standard thermostats. (iv) Test and balance work. (b) Electrical and Telephone (i) All light switches. (ii) All electrical outlets. 30 35 (iii) All telephone rough in boxes and pullstrings (Tenant shall be responsible for the installation of its own phone and data cable). (iv) All nonstandard light fixtures and any increase to the number of building standard light fixtures and related circuitry, panel boards, etc. (v) Any provision for supplying power to the Demised Premises beyond the watts per rentable square foot specified in the Building Standard Services, or circuiting at less than 8 outlets per 16 AMP circuit, or circuited at more than one (1) pole of 20 volt, single phase circuit per 252 square feet of rentable area, including necessary metering to measure excess electrical usage. (vi) All exit light fixtures and exit signs. (c) Ceiling construction. Any modification to or deviation from the building standard ceiling construction. (d) Sprinkler system. Any modification to or deviation from the building standard sprinkler system including relocations of or additions to the number of sprinkler heads provided or the provision of a non-standard sprinkler head. (e) All plumbing work for facilities such as toilets and sinks in the Demised Premises. (f) All partitions including finish of the core walls or any demising partitions or corridor walls which are within the Demised Premises, including the finish thereof, and the finish to the inside of the Building's perimeter walls. (g) All doors and frames. (h) All hardware. (i) All floor finish including base. (j) Any special construction as shown on the drawings and specifications approved by Landlord. (k) Tenant's identification sign conforming to Landlord's standards, at entrances to Demised Premises. (1) All fire alarm devices, including speakers, required within the Demised Premises by applicable building code. 4. Prior to commencing any work, Landlord, for Landlord's contractor will submit to Tenant written estimates of the cost of the work described in Paragraph 3 hereof. If Tenant shall fail to approve any such estimate within one (1) week, the same shall be deemed disapproved in all respects by Tenant and Landlord shall not be authorized to proceed thereon. 5. Tenant agrees to pay Landlord promptly upon invoice therefor the cost of the work described in Paragraph 3 hereof, less the amount of the Construction Allowance, if any, stated in Article 1(m) of this lease. Tenant agrees that the same shall be collectible as additional rent and in default of payment thereof Landlord shall (in addition to all other remedies) have the same rights as in the event of default of 31 36 payment of Base Rental. Tenant further agrees to pay to the Tenant Development Manager designated by Landlord, a fee for program management in an amount equal to 5% of the cost of the work described in Paragraph 3 hereof. The failure to pay such fee promptly after being billed therefor shall constitute a default under this Lease. 6. If (a) Tenant shall fail to furnish approved plans and specifications in accordance with Paragraph I hereof, or (b) Landlord shall be delayed in substantially completing Landlord's construction as a result of: (1) Tenant's request for materials, finishes or installations other than Landlord's standard; or (2) Tenant's changes in said plans or specifications; or (3) The performance of work by a person, firm or corporation employed by Tenant and delays in the completion of said work by said person, firm or corporation; then Tenant agrees to pay to Landlord, in addition to, any sum due under Paragraph 5 above, a sum equal to any additional cost to Landlord in completing Landlord's construction resulting from any of the foregoing failures, acts or omissions of Tenant. Any such sums shall be in addition to any sums payable pursuant to Paragraph 3 hereof and may be collected by Landlord as additional rent from time to time, upon demand, and in default of payment thereof, Landlord shall (in addition to all other remedies) have the same rights as in the event of default of payment of Base Rental. 7. Tenant shall not make any alterations, additions or improvements in or to the Demised Premises without Landlord's prior written consent, which consent shall not be unreasonably withheld. Except for construction as provided in Paragraphs 2 and 3 hereof, the Demised Premises are delivered to Tenant "as is" without any warranty or representation whatsoever. Any alterations, additions or improvements requested by Tenant and approved by Landlord shall be performed (i) by Landlord's contractor or another contractor approved by Landlord, (ii) in a good and workmanlike manner, and (iii) in accordance with all applicable codes, laws, ordinances, rules and regulations of governmental authorities having jurisdiction over the Demised Premises. 8. Any approval by Landlord of or consent by Landlord to any plans, specifications or other items to be submitted to and/or reviewed by Landlord pursuant to this Lease shall be deemed to be strictly limited to an acknowledgment of approval or consent by Landlord thereto and, whether or not the work is performed by Landlord or by Tenant's contractor, such approval or consent shall not constitute the assumption by Landlord of any responsibility for the accuracy, sufficiency or feasibility of any plans, specifications or other such items and shall not imply any acknowledgment, representation or warranty by Landlord that the design is safe, feasible, structurally sound or will comply with any legal or goverrunental requirements, and Tenant shall be responsible for all of the same. 32 37 EXHIBIT "D" CONFIRMATION NOTICE RE: Lease Agreement ("Lease") dated as of________ ___, 199_, by and between___________, as Landlord, and _____________, as Tenant. Dear Sirs: Pursuant to Article 3 of the captioned Lease, please be advised as follows: 1. The Rental Commencement Date is the____day of ________, 199__, and the expiration date of the Lease Term is the___day of_____, ___, subject however to the terms and provisions of the Lease. 2. Terms denoted herein by initial capitalization shall have the meanings ascribed thereto in the Lease. "LANDLORD": DANIEL MEADOW BROOK SOUTH, L.L.C. By: ------------------------------------ Title: --------------------------------- (CORPORATE SEAL) 33 38 EXHIBIT "E" BUILDING STANDARD SERVICES Landlord shall furnish the following services to Tenant during the lease Term (the "Building Standard Services"): (a) Common-use restrooms (with cold and tempered domestic water) and toilets at locations provided for general use and as reasonably deemed by Landlord to be in keeping with the first-class standards of the Building, and soap, toilet tissue and paper towels or hand dryers for such common-use restrooms. (b) Subject to curtailment as required by governmental laws, rules or mandatory regulations, central heat and air conditioning in season, at such temperatures and in such amounts as are reasonably deemed by Landlord to be in keeping with the first-class standards of the Building and in contemplation of mean climate conditions. Such heating and air conditioning shall be furnished between 8:00 a.m. and 6:00 p.m. on weekdays (from Monday through Friday, inclusive) and between 8:00 a.m. and 1:00 p.m. on Saturdays, all exclusive of Holidays, as defined below (the "Building Operating Hours"). (c) Electric lighting service for all public areas and special service areas of the Building in the manner and to the extent reasonably deemed by Landlord to be in keeping with the first-class standards of the Building. (d) Janitor service shall be provided five (5) days per week (Monday through Friday), exclusive of Holidays (as hereinbelow defined), in a manner that Landlord reasonably deems to be consistent with the first-class standards of the Building. (e) Sufficient electrical capacity at the building core electrical panels to operate (i) incandescent lights, typewriters, calculating machines, photocopying machines, personal computers and other machines of the same low voltage electrical consumption (120/208 volts), provided that the total rated electrical design load for said lighting and machines of low electrical voltage shall not exceed 2.0 watts per square foot of rentable area; and (ii) lighting (277/480 volts), provided that the total rated electrical design load for said lighting shall not exceed 2.0 watts per square foot of rentable area (each such rated electrical design load to be hereinafter referred to as the "Building Standard Rated Electrical Design Load"). Should Tenant's total rated electrical design load exceed the Building Standard Rated Electrical Design Load for either low or high voltage electrical consumption, or if Tenant's electrical design requires low voltage or high voltage circuits in excess of Tenant's share of the Building Standard circuits, Landlord will (at Tenant's expense) install such additional circuits and associated high voltage panels and/or additional low voltage panels with associated transformers (which additional circuits, panels and transformers shall be hereinafter referred to as the "Additional Electrical Equipment"). If the Additional Electrical Equipment is installed because Tenant's low or high voltage rated electrical design load exceeds the applicable Building Standard Rated Electrical Design Load, then a meter shall also be added (at Tenant's expense) to measure the electricity used through the Additional Electrical Equipment. 34 39 The design and installation of any Additional Electrical Equipment (or any related meter) required by Tenant shall be subject to the prior approval of Landlord (which approval shall not be unreasonably withheld) and the terms and conditions of the Lease and the Rules and Regulations attached hereto. All expenses incurred by Landlord in connection with the review and approval of any Additional Electrical Equipment shall also be reimbursed to Landlord by Tenant. Tenant shall also pay on demand the actual metered cost of electricity consumed through the Additional Electrical Equipment (if applicable), plus any actual accounting expenses incurred by Landlord in connection with the metering thereof. Tenant agrees that if Tenant uses data processing or other electronic equipment which incorporates the use of switched mode power supplies or any other type device causing harmonic distortion on Landlord's power distribution system, Tenant shall install filters at Tenant's cost to eliminate the harmonic distortion. In addition, any damage to Landlord's equipment resulting from harmonic distortion caused by Tenant's electronic equipment shall be repaired at Tenant's expense. Total harmonic distortion shall not exceed thirteen percent (13%). If any of Tenant's electrical equipment requires conditioned air in excess of Building Standard air conditioning, the same shall be installed by Landlord (on Tenant's behalf), and Tenant shall pay all design, installation, metering and operating costs relating thereto. If Tenant requires that certain areas within Tenant's Demised Premises must operate in excess of the normal Building Operating Hours (as hereinabove defined), the electrical service to such areas may be separately circuited and metered (at Tenant's expense) such that Tenant shall be billed the costs associated with electricity consumed during hours other than Building Operating Hours. In the event separately metering is not practicable, such additional electrical service shall be reasonably estimated by Landlord and charged to Tenant as additional Rent. In the event of disagreement as to the reasonableness of such charge, the opinion of the appropriate local utility company or an independent professional engineering firm shall prevail. (f) All Building Standard fluorescent bulb and ballast replacement in all areas and all incandescent bulb replacement in public areas, toilet and restroom areas, and stairwells. Tenant shall be responsible for the cost and installation expense of any special lamps and ballasts in the Demised Premises which are not Building Standard. (g) Non-exclusive passenger elevator service to the floor(s) of the Demised Premises during Building Operating Hours (as hereinabove defined) and one (1) cab passenger service to the floor(s) on which the Demised Premises are located twenty-four (24) hours per day (all subject to temporary cessation for ordinary repair and maintenance and during times when life safety systems override normal building operating systems), with such elevator service available upon reasonable prior notice for purposes of receiving and taking out furniture, fixtures and equipment. (h) Security services for the Building comparable as to coverage, control and responsiveness (but not necessarily as to means for accomplishing same) to other similarly sized first-class, multi-tenant office buildings in the area in which the Building is located; provided, however, Landlord shall have no responsibility to prevent, and shall not be liable to Tenant for, any liability or loss to Tenant, its agents, employees and visitors arising out of losses due to theft, burglary, or damage or injury to persons or property caused by persons gaining access to the Building and/or the Demised Premises, and Tenant hereby releases Landlord from all liability for such losses, damages or injury. 35 40 To the extent the services described above require electricity and water supplied by public utilities, Landlord's covenants thereunder shall only impose on Landlord the obligation to use its reasonable efforts to cause the applicable public utilities to furnish same. Except for deliberate and willful acts of Landlord, failure by Landlord to furnish the services described herein, or any cessation thereof, shall not render Landlord liable for damages to either person or property, nor be construed as an eviction of Tenant, nor work an abatement of rent, nor relieve Tenant from fulfillment of any covenant or agreement hereof. In addition to the foregoing, should any of the equipment or machinery, for any cause, fail to operate, or function properly, Tenant shall have no claim for rebate of rent or damages on account of an interruption in service occasioned thereby or resulting therefrom; provided, however, Landlord agrees to use reasonable efforts to promptly repair said equipment or machinery and to restore said services during normal business hours. The following dates shall constitute "Holidays" as that term is used in this Lease: New Year's Day, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, Christmas, and any other holiday generally recognized as such by landlords of office space in the metropolitan area of the Building, as determined by Landlord in good faith. If in the case of any specific holiday mentioned in the preceding sentence, a different day shall be observed than the respective day mentioned, then that day which constitutes the day observed by national banks in the Birmingham, Alabama area on account of said holiday shall constitute the Holiday under this Lease. 36 41 EXHIBIT "F" RULES AND REGULATIONS 1. Except as to interior door signs, no sign, picture, advertisement or notice visible from the exterior of the Demised Premises shall be installed, affixed, inscribed, painted or otherwise displayed by Tenant on any part of the Demised Premises or the Building. Tenant's interior door sign shall be subject to Landlord's approval and shall be painted or installed for Tenant at Tenant's cost by Landlord or by a party approved by Landlord. No awnings, curtains, blinds, shades or screens shall be attached to or hung in, or used in connection with any window or door of the Demised Premises without the prior consent of the Landlord, including approval by the Landlord of the quality, type, design, color and manner of attachment. In the event of any breach of the foregoing, Landlord may remove the applicable item, and Tenant agrees to pay the cost and expense of such removal, and any repairs necessitated by such installation and removal. 2. Tenant agrees that its use of electrical current shall never exceed the capacity of existing feeders, risers or wiring installation. 3. The Demised Premises shall not be used for storage of merchandise held for sale to the general public. 4. Tenant shall not do or permit to be done in or about the Demised Premises or Building anything which shall increase the rate of insurance on said Building or obstruct or interfere with the rights of other tenants of Landlord or annoy them in any way, including, but not limited to, using any musical instrument, making loud or unseemly noises, or singing, etc. Tenant shall not do or permit to be done in the Demised Premises anything, or bring or keep anything therein, which would conflict with the laws relating to fires, or with the regulations of the applicable Fire Department, or conflict with any of the rules and ordinances of the applicable Board of Health. 5. The Demised Premises shall not be used for overnight sleeping or lodging. 6. No cooking or related activities shall be done or permitted by Tenant in the Demised Premises except with permission of Landlord. Tenant will be permitted to use for its own employees within the Demised Premises a small microwave oven and Underwriters' Laboratory approved equipment for brewing coffee, tea, hot chocolate and similar beverages, provided that such use is in accordance with all applicable federal, state, county and city laws, codes, ordinances, rules and regulations, and provided that such use shall not result in the emission of odors from the Demised Premises into the common area of the Building, and provided that Tenant keeps the areas used for such purposes in a clean, orderly and sanitary condition and free of insects, rodents, cats, and other vermin. No vending machines of any kind will be installed, permitted or used on any part of the Demised Premises without the prior consent of Landlord. 7. Tenant agrees to comply with all laws, ordinances, orders, regulations and requirements of all county, municipal, state, federal and other governmental authorities affecting the use and occupancy of the Demised Premises and the cleanliness, safety, or operation thereof. Tenant agrees to be the responsible entity for instituting a plan of compliance to ensure that the Demised Premises are in compliance with the Americans with Disabilities Act of 1990 (the "ADA") and Tenant shall make, at its 37 42 sole cost, any and all alterations which may be required to bring the Demised Premises into compliance with the ADA. No part of said Building or Demised Premises shall be used for gambling, immoral or other unlawful purposes. No intoxicating beverage shall be sold in said Building or Demised Premises. 8. No area outside of the Demised Premises shall be used for storage purposes at any time without the prior written consent of Landlord. 9. No birds, cats, or animals of any kind shall be brought into the Building (other than trained assist dogs required to be used by the visually impaired). No bicycles, motorcycles or other motorized vehicles (other than motorized wheelchairs) shall be brought into the Building. 10. The sidewalks, entrances, passages, corridors, halls, elevators, and stairways in the Building shall not be obstructed by Tenant or used for any purposes other than those for which same were intended as ingress and egress. No windows, floors or skylights within the common area that reflect or admit light into the Building shall be covered or obstructed by Tenant and no windows, floors or skylights within the Demised Premises that reflect or admit light into the Building shall be covered or obstructed by Tenant except with window coverings or treatments approved by Landlord, and no articles shall be placed on the window sills of the Building. 11. Toilets, wash basins and sinks shall not be used for any purpose other than those for which they were constructed, and no sweeping, rubbish, or other obstructing or improper substances shall be thrown therein. Any damage resulting to them, or to heating apparatus, from misuse by Tenant or its employees, shall be borne by Tenant. 12. Only one key for each office or locked area in the Demised Premises will be required to be furnished to Tenant without charge. Landlord may make a reasonable charge for any additional keys. No additional lock, latch or bolt of any kind shall be placed upon any door nor shall any changes be made in existing locks without written consent of Landlord, and Tenant shall in each such case furnish Landlord with a key for any such lock. At the termination of the Lease, Tenant shall return to Landlord all keys furnished to Tenant by Landlord, or otherwise procured by Tenant, and in the event of loss of any keys so furnished, Tenant shall pay to Landlord the cost thereof. 13. Landlord shall have the right to prescribe the weight, position and manner of installation of heavy articles such as safes, machines and other equipment brought into the Building. Tenant agrees to notify Landlord of Tenant's intent to install in or bring into the Demised Premises any heavy equipment. Landlord shall have the right to designate where such heavy equipment is to be placed within the Demised Premises and to disallow any equipment or fixtures which would exceed the load limit of the floor of the Demised Premises. Tenant shall not allow the building structure within the Demised Premises, nor shall Tenant cause the elevators of the Building, to be loaded beyond rated capacities. No safes, furniture, boxes, large parcels or other kind of freight shall be taken to or from the Demised Premises or allowed in any elevator, hall or corridor except at times allowed by Landlord. Tenant shall make prior arrangements with Landlord for use of elevators for the purpose of transporting such articles and such articles may be taken in or out of said Building only between or during such hours as may be arranged with and designated by Landlord. The persons employed to move the same must be approved by Landlord. Landlord reserves the right to inspect and, where deemed appropriate by Landlord, to open all freight coming into the Building and to exclude from entering the Building all freight which is in violation of any of these Rules and Regulations and all freight as to which inspection is not permitted. All hand trucks used by Tenant or its service providers for the delivery or receipt of any freight shall be equipped with rubber tires. 38 43 14. Tenant shall not cause or permit any gases, liquids or odors to be produced upon or permeate from the Demised Premises, and no flammable, combustible or explosive fluid, chemical or substance shall be brought into the Building. Smoking shall not be permitted in any portion of the Building or within the Project, other than in any area outside of the Building which, at Landlord's election, is designated by Landlord for permitted smoking. If Tenant shall assert that the air quality in the Demised Premises is unsatisfactory or if Tenant shall request any air quality testing within the Demised Premises, Landlord may elect to cause its consultant to test the air quality within the Demised Premises and to issue a report regarding same. If the report from such tests indicates that the air quality within the Demised Premises is comparable to the air quality of other first-class office buildings in the market area of the Building, or if the report from such tests indicates that the air quality does not meet such standard as a result of the activities caused or permitted by Tenant in the Demised Premises, Tenant shall reimburse Landlord for all costs of the applicable tests and report. Additionally, in the event Tenant shall cause or permit any activity which shall adversely affect the air quality in the Demised Premises, in the common area of the Building or in any other premises within the Building, Tenant shall be responsible for all costs of remedying same. 15. Every person, including Tenant, its employees and visitors, entering and leaving the Building may be questioned by a watchman as to that person's business therein and may be requried to sign such person's name on a form provided by Landlord for registering such person; provided that, expect for emergencies or other estraordinary circumstances, such procudures shall not be required between the hours of 7:00 a.m. and 7:00 p.m., on all days except Saturdays, Sundays and Holidays. Landlord may also implement a card access security system to control access to the Building during such other times. Landlord shall not be liable for excluding any person from the Building during such other times, or for admission of any person to the Building at any time, or for damages or loss for theft resulting therefrom to any person, including Tenant. 16. Unless agreed to in writing by Landlord, Tenant shall not employ any person other than Landlord's contractors for the purpose of cleaning and taking care of the Demised Premises. Cleaning service will not be furnished on nights when rooms are occupied after 6:30 p.m., unless, by agreement in writing, service is extended to a later hour for specifically designated rooms. Landlord shall not be responsible for any loss, theft, mysterious disappearance of or damage to, any property, however occurring. For security purposes, only persons authorized by the Landlord may furnish ice, drinking water or other beverages, towels, and other similar services within the Building and only at hours and under regulations fixed by Landlord. 17. No connection shall be made to the electric wires or gas or electric fixtures, without the consent in writing on each occasion of Landlord. All glass, locks and trimmings in or upon the doors and windows of the Demised Premises shall be kept whole and in good repair. Tenant shall not injure, overload or deface the Building, the woodwork or the walls of the Demised Premises, nor permit upon the Demised Premises any noisome, noxious, noisy or offensive business. 18. If Tenant requires wiring for a bell or buzzer system, such wiring shall be done by the electrician of the Landlord only, and no outside wiring personnel shall be allowed to do work of this kind unless by the written permission of Landlord or its representatives. If telegraph, telephonic or computer service is desired, the wiring or cabling for same shall be approved by Landlord, and no boring or cutting for wiring shall be done unless approved by Landlord or its representatives, as stated. The electric current shall not be used for power in excess of general office requirements or for heating, unless written permission to do so shall first have been obtained from Landlord or its representatives in writing, and at an agreed cost to Tenant. 39 44 19. No electrical or electronic or electromagnetic equipment, machines or devices now existing or hereafter invented shall be installed or used in the Demised Premises unless installed completely at Tenant's sole cost and expense, in accordance with all the terms and conditions of this Lease, and the rules, regulations and requirements of all governmental and quasi-governmental authorities having jurisdiction thereof, and not unless the same is properly electrically filtered and insulated so that there is no interference in the Building with telephonic, video, fiber optic, data processing, radio, television or other similar or dissimilar communication, transmission or reception, whether now existing or hereafter invented. Tenant hereby accepts the risks of and all responsibility for any injury or damage which may result from the operation or failure of operation of any such equipment and devices. 20. Tenant and its employees and invitees shall observe and obey all parking and traffic regulations as imposed by Landlord. All vehicles shall be parked only in areas designated therefor by Landlord. Notwithstanding anything to the contrary in this Lease, in no event shall Tenant, its employees, agents, contractors, visitors and invitees in the aggregate utilize more than 1 parking space for each 250 square feet of the Rentable Floor Area of the Demised Premises. 21. Canvassing, peddling, soliciting and distribution of handbills or any other written materials in the Building are prohibited, and Tenant shall cooperate to prevent the same. 22. Tenant agrees to participate in any waste recycling programs implemented by Landlord for the Building, including any programs and procedures for recycling writing paper, computer paper, shipping paper, boxes, newspapers and magazines and aluminum cans. If Landlord elects to provide collection receptacles for recyclable paper and/or recyclable aluminum cans in the Demised Premises, Tenant shall designate an appropriate place within the Demised Premises for placement thereof, and Tenant shall cause its employees to place their non-confidential recyclable papers and/or cans into the applicable such receptacles on a daily basis. 23. Any special work or services requested by Tenant to be provided by Landlord may be provided by Landlord, but only upon request received at the Project management office. Tenant shall not request or require building personnel to perform any work or provide any services outside of their regular duties unless special instructions have been issued from Landlord or its managing agent. 24. Landlord shall have the right to change the name of the Building and to change the street address of the Building, provided that in the case of a change in the street address, Landlord shall give Tenant not less than 180 days' prior notice of the change, unless the change is required by governmental authority. 25. The directory of the Building will be provided for the display of the name and location of the tenants. Any additional name which Tenant shall desire to place upon said directory must first be approved by Landlord, and if so approved, a reasonable charge may be made therefor. Additional access to the directory of the Building may be limited by the size and location thereof. 26. Landlord may waive any one or more of these Rules and Regulations for the benefit of any particular lessee, but no such waiver by Landlord shall be construed as a waiver of such Rules and Regulations in favor of any other lessee, nor prevent Landlord from thereafter enforcing any such Rules and Regulations against any or all of the other lessees of the Building. 27. These Rules and Regulations are supplemental to, and shall not be construed to in any way modify or amend, in whole or in part, the terms, covenants, agreements and conditions of any lease of any premises in the Building. 40 45 28. Landlord reserves the right to make such other and reasonable Rules and Regulations as in its judgment may from time to time be needed for the safety, care and cleanliness of the Building, the Land and the Project, and for the preservation of good order therein. 41 46 EXHIBIT "G" SPECIAL STIPULATIONS 1.01 Moving and Relocation Planning Allowance: Provided Tenant has not assigned or subleased all or any portion of the Demised Premises, and Tenant is not in default in the performance of or with respect to any of the terms, covenants and conditions of the Lease beyond any applicable cure period, Landlord shall provide Tenant a Moving Allowance equal to $1.50 per square foot of Rentable Floor Area of the Demised Premises occupied on the Rental Commencement Date. The Moving Allowance shall be paid to Tenant within 30 days of the Rental Commencement Date and upon receipt by Landlord of copies of the invoices for the costs associated with Tenant's move to the Building. 1.01 A. Additional Consideration Prior to the Rental Commencement Date: So long as Tenant is not in default under this Lease, Landlord shall pay Tenant's rental obligation at 10 Inverness Center in Birmingham, Alabama in the amounts set forth below (the "Payments") for the months of June, 1998 through March, 1999:
June 1998 $22,987 July 1998 $22,987 August 1998 $22,987 September 1998 $22,987 October 1998 $36,666 November 1998 $36,666 December 1998 $36,666 January 1999 $36,666 February 1999 $36,666 March 1999 $36,666
In consideration for Landlord making the Payments, beginning on the Rental Commencement Date, Tenant shall pay to Landlord as Additional Rental the sum of $4,291.37 per month for each month during the initial Rental Term of the Lease. If this Lease is terminated prior to the expiration of the initial Rental Term for any reason other than the default of Landlord, Tenant shall pay to Landlord within ten (10) days following demand an amount equal to the total amount which would have been payable by Tenant but for the termination of the Lease reduced to present value at a rate of ten percent (10%). 2.01 Refurbishment Allowance during the Rental Term: Provided Tenant has not assigned or subleased all or any portion of the Demised Premises, and Tenant is not in default in the performance of or with respect to any of the terms, covenants and conditions of the Lease beyond any applicable cure period, Landlord shall provide Tenant a Refurbishment Allowance equal to $1.00 per square foot of Rentable Floor Area of the Demised Premises on each of two occasions during the Rental Term. The calculation for the Refurbishment Allowance shall be based on the square footage of the Demised Premises occupied on the Rental Commencement Date, reduced by any portion of said Demised Premises taken by virtue of the provisions of Articles 22 or 36 of this Lease. The Refurbishment Allowance shall be made available at the end of the 42nd month of the initial Rental Term, at the end of the 84th month of the initial Rental Term. In each instance, the Refurbishment Allowance shall be equal to $1.00 multiplied by the number of square feet of Rentable Floor Area as set forth above in this Section 2.01 of this Exhibit "G". Tenant shall be eligible for the Refurbishment Allowance payment by submitting to Landlord invoices evidencing the completion of refurbishment work performed in the Demised Premises in an amount equal to or greater than the amount of the Refurbishment Allowance. 42 47 3.01 Option to Extend: Provided Tenant has not assigned or subleased all or any portion of the Demised Premises, and Tenant is not in default in the performance of or with respect to any of the terms, covenants and conditions of the Lease beyond any applicable cure period, Tenant shall have the right to extend this Lease (herein the "Extension Option") for one (1) additional term of five (5) years commencing immediately upon the expiration of the initial Rental Term (hereinafter referred to as the "Extension Term"). Said right to extend shall be subject to and in strict accordance with the terms and conditions hereinafter set forth. (a) In order to exercise the Extension Option, Tenant must provide Landlord with written notice at least eighteen months (18) prior to the expiration of the Term hereof of its intent to so extend the term. (b) All of the terms, covenants, and conditions of this Lease shall continue in full force and effect during the Extension Term of the Lease, as if the Extension Term were part of the original Lease Term, except that the Base Rental Rate for the Demised Premises during the Extension Term shall be the "then current market rate", as defined in subparagraph (c) below. (c) The "current market rate" shall mean the Landlord's determination of the amount per square foot of the Rentable Floor Area of the Demised Premises that a willing, non-equity, non-renewal, non-expansion new tenant would pay and a willing landlord would accept at arm's length for space in a comparable building or buildings with comparable tenant improvements, in a comparable location in the "Highway 280/I-459" submarket of Birmingham, Alabama, giving appropriate consideration to rental rates per rentable square foot, the presence or absence of rent escalation clauses such as operating expense and tax pass- throughs, length of lease term, size and location of premises being leased, if any, and other generally applicable terms and conditions of the tenancy for a similar building or buildings; provided, that the value of any improvements made to the Demised Premises by Tenant at Tenant's expense shall not be considered for the purpose of valuing the current market rate of the Premises. 4.01 Option to Expand: Provided Tenant has not assigned or subleased all or any portion of the Demised Premises, and Tenant is not in default in the performance of or with respect to any of the terms, covenants and conditions of the Lease beyond any applicable cure period, Tenant, at its election, shall have the right to expand the Demised Premises in accordance with either of the following alternatives, provided that Tenant shall deliver written notice of its election and its choice of option to Landlord on or before October 31, 1998. 5.01 Option to Convert to Net Lease: At such time during the Rental Term of this Lease as Tenant occupies the entire Building, Tenant may notify the Landlord that it proposes to convert the Lease from its current "gross" lease standard to a "net" or "modified net" standard. In such event Landlord and Tenant agree to negotiate in good faith to convert the Lease to such a "net" or "modified net" standard. Such conversion will include restating the Base Rental Rate to a "net" or "modified net" form and revising the operating expense reimbursement provisions of this Lease to specify those expenses (i) that Tenant will pay directly, (ii) that Tenant will reimburse Landlord for, and (iii) will be included in common area maintenance charges for the Meadow Brook South development or for Meadow Brook Corporate Park. Upon the mutual agreement of Landlord and Tenant on a "net" or "modified net" conversion, the Lease Agreement shall be amended to reflect such changes. 6.01 Exterior Tenant Signage: Tenant may be permitted to display signage graphics in one location on the exterior surface of the Building in a location designated by Landlord. The size and style of the sign shall be subject to approval by Landlord and the Architectural Review Committee of Meadow Brook Corporate Park. The fabrication and installation of the sign shall be at Tenant's sole expense. 43 48 Any signage placed on or adjacent to the Building in accordance with this Section 7.01 must comply with all codes and requirements imposed by governing authorities with jurisdiction over the Building. Tenant shall be responsible for the ongoing maintenance of the sign and shall be responsible for removing the sign upon vacating the Demised Premises in accordance with the provisions of this Lease. Additionally, if Tenant's Demised Premises shall be reduced, for any reason, below 50,000 square feet of Rentable Floor Area, Tenant shall be responsible for removing the signage on the Building at Tenant's sole cost. Tenant shall repair any damage to the Building or Land caused during the installation, maintenance or removal of the signage as set forth above. 1. Expansion Option 1 (Must Take Expansion): Tenant shall expand its Demised Premises into the remaining 24,638 square feet of rentable area in the Building no later than April 1, 2000 (hereinafter referred to as "Expansion Option 1"). Said Expansion Option 1 shall be subject to and in strict accordance with the terms and conditions hereinafter set forth. (a) After Tenant has notified Landlord of its intent to exercise Expansion Option 1, Landlord and Tenant shall promptly proceed to amend the Lease to reflect the addition of the "Expansion Space" (as hereinafter defined) to the Demised Premises upon Tenant's election to actually exercised its option to expand, as described below. (b) Expansion Option 1 shall apply to the entire remaining rentable area in the Building (the "Expansion Space") so that upon the Expansion Space Commencement Date, as defined below, Tenant shall occupy the entire Building. (c) Rent for the Expansion Space shall commence on the date ("Expansion Space Commencement Date") which is the earlier of (i) the date on which Tenant occupies the Expansion Space for conduct of business or (ii) April 1, 2000. (d) The term for the Expansion Space shall be co-terminus with the Rental Term of this Lease ("Expansion Term"). (e) Subject to the provisions of this Paragraph 4.01 of Exhibit "G" of the Lease, the provisions of Exhibit "C" of this Lease shall apply to Tenant's build-out of the Expansion Space. (f) All of the terms, covenants and conditions of this Lease shall continue in full force and effect, except that there shall be no Refurbishment Allowance for the Expansion Space and except that the Base Rental and Tenant's Additional Rental under the Lease shall be adjusted to reflect the addition to the Demised Premises of the Expansion Space as of the Expansion Space Commencement Date. (g) In connection with the Expansion Space, Landlord shall provide Tenant (i) the Construction Allowance set forth in Article 1 (m) above and (ii) the Additional Tenant Allowance set forth in paragraph 1.01 of this Exhibit "G", each of which shall be adjusted by multiplying by a fraction, the numerator of which shall be the number of months remaining in the Rental Term as of the Expansion Space Commencement Date and the denominator of which shall be 120. 2. Expansion Option 2 (Option to Expand): Provided Tenant has not assigned or subleased all or any portion of the Demised Premises, and Tenant is not in default in the performance of or with respect to any of the terms, covenants and conditions of the Lease beyond any applicable cure period, Tenant shall have the right during the first twelve (12) months following the Rental Commencement Date to exercise an option to expand its Demised Premises into the remaining 24,638 square feet of rentable area in the Building (hereinafter referred to as "Expansion Option 2"). Said Expansion Option 2 shall 44 49 be subject to and in strict accordance with the terms and conditions hereinafter set forth. (a) If Tenant has notified Landlord of its intent to exercise Expansion Option 2, Landlord and Tenant shall promptly proceed to amend the Lease to reflect the addition of the Expansion Space to the Demised Premises upon Tenant's election to actually exercise its option to expand, as described below. (b) Expansion Option 2 shall apply to the entire Expansion Space so that upon the Expansion Space Commencement Date, as defined below, Tenant shall occupy the entire rentable area of the Building. (c) Rent for the Expansion Space shall commence on the Expansion Space Commencement Date, as defined in 4.01-1 above. (d) The term for the Expansion Space shall be co-terminus with the Rental Term of this Lease ("Expansion Term"). (e) Subject to the provisions of this Paragraph 4.01 of Exhibit "G" of the Lease, the provisions of Exhibit "C" of this Lease shall apply to Tenant's build-out of the Expansion Space. (f) All of the terms, covenants and conditions of this Lease shall continue in full force and effect except that the Base Rental and Tenant's Additional Rental under the Lease shall be adjusted to reflect the addition to the Demised Premises of the Expansion Space as of the Expansion Space Commencement Date. (g) In connection with the Expansion Space, Landlord shall provide Tenant (i) the Construction Allowance set forth in Article 1(m), (ii) the Additional Tenant Allowance set forth in paragraph 1.01 of this Exhibit "G", and (iii) the Refurbishment Allowance as set forth in paragraph 2.01 of this Exhibit "G", each of which shall be adjusted by multiplying by a fraction, the numerator of which shall be the number of months remaining in the Rental Term as of the Expansion Space Commencement Date and the denominator of which shall be 120. (h) Notwithstanding anything contained in this Lease to the contrary, if Tenant elects Expansion Option 2, the Base Rental Rate set forth in Article 1(j) above shall be increased to $17.75 per square foot of Rentable Floor Area of the entire Demised Premises, including the Expansion Space, per year commencing on the Rental Commencement Date, subject to adjustment in accordance with Article 7 above, except that the following Base Rental Rates shall be substituted for those contained in Article 7(b):
Second Lease Year $18.13 per square foot of Rentable Floor Area Third Lease Year $18.51 per square foot of Rentable Floor Area Fourth Lease Year $18.91 per square foot of Rentable Floor Area Fifth Lease Year $19.32 per square foot of Rentable Floor Area Sixth Lease Year $19.74 per square foot of Rentable Floor Area Seventh Lease Year $20.18 per square foot of Rentable Floor Area Eighth Lease Year $20.62 per square foot of Rentable Floor Area Ninth Lease Year $21.08 per square foot of Rentable Floor Area Tenth Lease Year $21.56 per square foot of Rentable Floor Area
45 50 EXHIBIT "H" ABSOLUTE, UNCONDITIONAL AND CONTINUING GUARANTY OF PAYMENT OF LEASE OBLIGATIONS 1. FOR VALUE RECEIVED, and in consideration of and as an express inducement, to the execution, acknowledgement and delivery of that certain: Lease Agreement by and between Daniel Meadow Brook South, L.L.C. (herein referred to as "Lessor"), and Nichols TXEN Corporation (herein referred to as "Lessee"), dated as of May 8, 1998. (herein referred to as the "Lease Agreement") for the lease of that certain tract or parcel of real property, together with the improvements located thereon, situated and lying and being located at Meadow Brook, in the City of Hoover, County of Shelby, State of Alabama (herein referred to as the "Leased Premises"), the undersigned, Nichols Research Corporation, a Delaware corporation, as Guarantor (herein referred to as "Guarantor") hereby absolutely, unconditionally and continually guarantees to Daniel Meadow Brook South, L.L.C., Lessor, the due, full, prompt and punctual payment when due or at any time thereafter of: All rents, costs, expenses, late charges, penalties and other sums due and payable by Lessee under the Lease Agreement, including, without limitation, the repayment of the Relocation Planning Allowance, whether now or hereafter owed by Lessee pursuant to the Lease Agreement (herein referred to, separately and severally, and collectively, as the "Lease Obligations"), of every kind and character, direct or indirect, absolute or contingent, whether written, oral and/or otherwise, and whether the Lease Obligations are from time to time reduced and thereafter increased, or entirely extinguished and thereafter reincurred, or whether the Lease Obligations arise with or without notice to the Guarantor. 2. This Guaranty is, and is intended to be, an absolute, unconditional and continuing guaranty of payment which shall not be affected by any act or thing whatsoever except as herein provided, and which shall be independent of and in addition to any other guaranty, endorsement or collateral held by the Lessor with respect to the Leased Premises, the Lease Agreement and/or any or all of the Lease Obligations. 3. This Guaranty shall remain in full force and effect until the Lease Obligations have been fully paid irrespective of any cancellation, expiration or termination of this Lease Agreement and/or any change in the condition, nature, occupancy or state of the Leased Premises. 4. Lessor shall have the right from time to time and at any time, without in any way affecting, diminishing, impairing, releasing and/or terminating in any manner Lessor's rights against Guarantor's obligations hereunder and/or any of the conditions, provisions and terms of the Lease Agreement, and/or of Lessee's obligations thereunder, and without demand or notice, or consent of Guarantor: (a) To amend, change, and/or modify, whether by action or inaction, any one or more of the conditions, provisions and terms of the Lease Agreement including, but not limited to, the Lease 46 51 Obligations; (b) To allow, grant and/or permit, whether by action or inaction, any extensions, indulgences and/or waives to one or more of the conditions, provisions and terms of the Lease Agreement including, but not limited to, the Lease Obligations; (c) To allow, consent to and/or permit, whether by action or inaction, any assignment of the Lease Agreement and/or any sublease of the Leased Premises; (d) To assert against Lessee any one or more of the rights or remedies reserved to Lessor pursuant to or by virtue of the Lease Agreement or any amendment, change or modification thereto; (e) To release any obligor or other guarantor of the Lease Agreement and/or the Lease Obligations, or any part thereof, in whole or in part; (f) To amend, change, extend, increase, mature, modify, renew and/or otherwise change any one or more of the conditions, provisions and/or terms of the Lease Agreement and/or the terms and/or the time for payment of the Lease Obligations, with or without the use of amendments, documents, instruments, modifications or other writings; (g) To receive, exchange or release any collateral securing the Lease Agreement and/or the payment of any of the Lease Obligations, or any part of any of them; (h) To make any agreement extending, reducing or terminating the term of the Lease Agreement, or otherwise affecting or altering the payment of all or any part of the Lease Obligations, and to grant indulgences with respect to these matters; (i) To exercise or refrain from exercising or waiving any right Lessor might have pertaining to the Leased Premises and/or under the Lease Agreement; (j) To accept security of any kind from Lessee; (k) To consent to a changed or different use of the Leased Premises; (1) To terminate the Lease Agreement and relet the Leased Premises to a new tenant (i) upon breach or default by Lessee under the Lease Agreement and/or (ii) upon Lessee abandoning the Leased Premises, all as provided in the Lease Agreement and subject to such conditions set forth therein. Guarantor agrees that despite any of the foregoing, Guarantor is and shall remain at all times absolutely, fully and unconditionally liable to Lessor for payment of the Lease Obligations. 5. Guarantor waives notice of the acceptance of this Guaranty, presentment, protest, notice of protest and any and all demands for performance or any and all notice of non-performance which might otherwise be a condition precedent to the liability of Guarantor under this Guaranty. Guarantor agrees and covenants that Lessor may proceed directly against Guarantor, without first proceeding or making claim or exhausting any remedy against Lessee or pursuing any particular remedy or remedies available to Lessor. 6. Until such time as the Lease Obligations shall have been paid in full, Guarantor, as an insider of the Lessee, waives and agrees not to assert any claim Guaranty may now or later have against Lessee 47 52 for any payment or transfer of anything of value which Guarantor has made, or may be obligated to make, for any reason. Guarantor agrees that Guarantor will have no claim against Lessee and no right of recourse to or with respect to any assets or property of Lessee until Lessor shall have fully paid all of the Lease Obligations as and when due. Nothing herein, however, shall be deemed to preclude any Guarantor from (i) receiving or asserting the right to receive any payment due to Guarantor as the parent corporation of the Lessee provided such payment does not render the Lessee unable to make any payments then or thereafter due under the Lease Agreement, and (ii) receiving or asserting the right to receive from the Lessee any payment made by Guarantor pursuant to this Guaranty provided that Lessee has not been in default with respect to any obligation for payment under the Lease Agreement for a period of six (6) consecutive months and such payment will not render the Lessee unable to make payments then or thereafter due under the Lease Agreement. Guarantor agrees that this paragraph is intended to benefit Lessee and is relied upon by Lessor. (As used in this paragraph, the terms "insider" and "claim" are defined and shall have the same meaning as set forth in the United States Bankruptcy Code, 11 U.S.C, ss.101 et. seq.) 7. Subrogation rights or any other rights of any kind of Guarantor, in its capacity as Guarantor, against Lessee, if any, shall not become available to Guarantor until all of the Lease Obligations are fully paid. 8. Guarantor agrees that upon the occurrence of any one or more of the following events: (a) Lessee's default in payment of any of the Lease Obligations; (b) Lessee shall become insolvent or shall be adjudicated a bankrupt; (c) Lessee shall file a petition for reorganization, arrangement or similar relief under any present or future provision of the Bankruptcy Code; (d) A petition for reorganization, arrangement or similar relief under any present or future provision of the Bankruptcy Code filed by creditors of Lessee shall be approved by a court; (e) Lessee shall seek a judicial readjustment of the rights of Lessee's creditors under any present or future federal or state law; or (f) A receiver of all or any part of Lessee's property and asserts is appointed by any state or federal court, and in any such proceeding the Lease Agreement shall be terminated or rejected or the Lease Obligations of Lessee under the Lease Agreement shall be modified. then Guarantor will pay to Lessor: (i) Immediately upon the occurrence of one or more such events, an amount equal to all Lease Obligations accrued to the date of such event(s), plus (ii) Subsequent to the occurrence of one or more of such events, the Lease Obligations due under the Lease Agreement for the balance of the term thereof as and when such payments become due reduced by any payments received by Lessor as a result of the reletting of the Leased Premises. 9. Neither Guarantor's obligations to make payment in accordance with the terms of this Guaranty, nor any remedy for the enforcement of this Guaranty, shall be impaired, modified, changed, released or limited in any manner whatsoever by any impairment, modification, change, release or limitation of the 48 53 liability of Lessee or Lessee's estate in bankruptcy or of any remedy for the enforcement resulting from the operation of any present or future provision of the federal Bankruptcy Code or from the decision of any court. 10. Guarantor shall pay all reasonable costs and expenses of Lessor in attempting to collect and actually collecting the indebtedness due from Lessee, and in attempting to enforce and actually enforcing performance of the Obligations, and in enforcing the Lease Agreement and/or this Guaranty, including, but not limited to, reasonable attorney's fees and court costs. 11. This Guaranty may not be canceled by Guarantor, this Guaranty shall remain continually in full force and effect until the Lease Obligations have been fully paid irrespective of any cancellation, expiration or termination of the Lease Agreement and/or any change in the condition, nature, occupancy or state of the Leased Premises. 12. All notices and/or demands given or made pursuant to this Agreement shall be given or made either by (a) United States First Class Certified Mail, Return Receipt Requested, Postage Prepaid, or (b) by expedited courier service (such as Federal Express) and shall be deemed given when addressed to and received by (i) Lessor at the address specified in the Lease Agreement and (ii) Guarantor at the address set forth under its signature on this Agreement. 13. The word "Lessor" wherever used in this Guaranty and the Lease Agreement shall include successors and assigns of Lessor as if each time fully expressed. The word "Guarantor" wherever used in this Guaranty shall include the respective successors of the Guarantor as if each time fully expressed. 14. If, for any reason, any provision of this Guaranty should be declared null and void or unconstitutional or unenforceable by a final, non-appealable order of any court of competent jurisdiction, the remainder of this Guaranty shall not be impaired and shall remain in full force and effect. 15. As this Guaranty has been drafted jointly by Lessor and by Guarantor, after extensive consultation with their respective counsel, no presumption against the draftsman of this Guaranty shall be indulged in the construction and/or interpretation hereof. 16. This Guaranty is to be construed, controlled, enforced, governed, and interpreted by the laws of the State of Alabama. 17. Each and every provision of this Guaranty inures and shall inure to the benefit of Lessor's successors, assigns, grantees, and successors in interest. 18. Guarantor's successors and assigns shall be fully bound by this Guaranty and all provisions hereof, just as Guarantor is bound. 19. This Guaranty embodies the entire agreement and understanding of Lessor and Guarantor as to the matters set forth herein, and mergers herein all agreements, covenants, representations, statements and understandings heretofore made by and between Lessor and Guarantor as to such matters, whether written, oral or both. Any agreements, covenants, representations, statements or understandings as to such matters not incorporated herein, are, and shall be, null and void and of no force and effect. 20. Neither this Guaranty nor any condition, provision or term hereof, shall be amended, changed, or modified in any respect, nor may any estoppel, novation or waiver regarding the same be effectuated, without Lessor and Guarantor first executing a writing, in equal dignity to this Guaranty, embodying their 49 54 complete and full agreement and understanding as to such amendment, change, modification, estoppel, novation, or waiver. 21. Guarantor acknowledges, agrees, covenants, represents and warrants to Lessor that the Guarantor is the parent corporation of Lessee, and that it is of material advantage and benefit to Guarantor for Lessor and Lessee to enter into the Lease Agreement. 22. This Guaranty is executed, acknowledged and delivered by Guarantor prior to, or simultaneously with, the execution, acknowledgement and delivery of the Lease Agreement by Lessor and Lessee, and to expressly induce Lessor to execute, acknowledge and deliver the Lease Agreement, well knowing and understanding that Lessor would not do so without this Guaranty being in full force and effect. IN WITNESS WHEREOF, Guarantor has caused these presents to be executed as of the 8 day of May, 1998. CAUTION--IT IS IMPORTANT THAT YOU THOROUGHLY READ THE CONTRACT BEFORE YOU SIGN IT. GUARANTOR: NICHOLS RESEARCH CORPORATION, a Delaware corporation By: /s/ Michael J. Murray ------------------------- Its: CEO/President ------------------------- Guarantor's Address: 4040 Memorial parkway, Southwest Huntsville, Alabama 35802 Accepted and approved as of the 8 day of May, 1998. LESSOR: DANIEL MEADOW BROOK SOUTH, L.L.C. a Delaware corporation By: Charles ??????? ---------------------- Its: Senior Vice-President ---------------------- 50 55 STATE OF ALABAMA ) COUNTY OF MADISON ) I, Patty R. Baugher, a Notary Public in and for said County in said State, hereby certify that Michael J. Mnuz whose name as CEO/President of Nichols Research Corporation, a Delaware corporation, is signed to the foregoing, and who is known to me, acknowledged before me on this day that, being informed of the contents of the foregoing, he, as such officer and with full authority, executed the same voluntarily for and as the act of the said Nichols Research Corporation, a Delaware corporation, on the day the same bears date. GIVEN UNDER MY HAND and official seal on this the 28th day of April, A.D., 1998. /s/ PATTY R. BAUGHER ---------------------------------------- Patty R. Baugher Notary Public My Commission Expires: State of Alabama 8/2/98 County of Madison (SEAL) STATE OF ALABAMA ) COUNTY OF JEFFERSON ) I, Jennifer C. Palmer, a Notary Public in and for said County in said State, hereby certify that Charles T. Carlisle, Jr., whose name as Senior Vice President of Daniel Meadow Brook South, L.L.C., a Delaware corporation, is signed to the foregoing, and who is known to me, acknowledged before me on this day that, being informed of the contents of the foregoing, he, as such officer and with full authority, executed the same voluntarily for and as the act of the said Nichols Research Corporation, a Delaware corporation, on the day the same bears date. GIVEN UNDER MY HAND and official seal on this the 11th day of May, A.D., 1998. /s/ JENNIFER C. PALMER ---------------------------------------- Jennifer C. Palmer Notary Public My Commission Expires: State of Alabama 12/99 County of Jefferson (SEAL) 51 56 FIRST AMENDMENT TO LEASE AGREEMENT TENANT EXPANSION AGREEMENT THIS First Amendment to Lease ("First Amendment") made and entered into as of this 9th day of December, 1998, by and between Meadow Brook South 2500, L.L.C. ("Landlord"), and Nichols TXEN Corporation ("Tenant"). WITNESSETH WHEREAS, Landlord's predecessor in interest, Daniel Meadow Brook South, L.L.C., has heretofore entered into that certain lease (the "Lease") dated the 8th day of May, 1998 for premises (the "Demised Premises") initially containing approximately 73,915 square feet of Rentable Floor Area, in the building known as 2500 Corporate Drive (the "Building") the address of which is 2500 Corporate Drive. WHEREAS, Tenant has requested (a) that additional space in the Building consisting of approximately 23,908 square feet of Rentable Floor Area shown on Exhibit "B" attached hereto and incorporated herein (the "Expansion Space") be added to the Demised Premises, so that Tenant will occupy the entire Rentable Floor Area of the Building, and (b) that the location of the Demised Premises and Expansion Space as defined in the Lease be altered. NOW, THEREFORE, in consideration of the mutual covenants and agreements herein contained, and other good and valuable consideration, the parties do hereby agree as follows. Capitalized terms used herein not otherwise defined shall have the same meaning as set forth in the Lease. 1. RELOCATION OF DEMISED PREMISES AND EXPANSION SPACE. The Demised Premises shall be relocated as shown on Exhibit "A-1 " and "A-2" attached hereto. The Expansion Space shall be relocated as shown on Exhibit "B" attached hereto. 2. ADJUSTMENT OF RENTABLE FLOOR AREA. The parties hereto acknowledge and agree that the Rentable Floor Areas of the Building and the Demised Premises have changed. Accordingly, the Rentable Floor Area of the Demised Premises set forth in Article 1 (g) of the Lease shall be 74,308 square feet and the Rentable Floor Area of the Building set forth in Article 1 (h) of the Lease shall be 98,216 square feet. 3. EXPANSION. Commencing on the earlier of (a) April 1, 2000 or (b) the date on which the Tenant occupies the Expansion Space and operates therefrom (the "Expansion Space Commencement Date"), the Expansion Space shall be added to and become a part of the Demised Premises, subject to all of the terms and conditions of the Lease currently in effect, except as expressly modified herein. On the Expansion Space Commencement Date set forth above, the Demised Premises, including the Expansion Space, shall be increased to 98,216 square feet of Rentable Floor Area. The Expansion Space Commencement Date shall be subject to adjustment as described in Paragraph 5, below. 4. RENTALS AND OTHER CHARGES. Effective as of the Expansion Space Commencement Date, the Rent under the Lease, as defined in Article 5 (a) of the Lease, for the Demised Premises shall be adjusted to reflect the addition of the Expansion Space to the Demised Premises. The Rent respecting the Expansion Space is sometimes herein called the "Expansion Space Rent". 5. Possession. Tenant agrees to accept the Expansion Space without any agreements, representations, understanding or obligations on the part of Landlord to perform any alterations, repairs 57 or improvements except as expressly provided for in the Work Letter, attached to the Lease as Exhibit C. Tenant covenants and agrees to cause the plans and specifications (as set forth in paragraph 1 (b) of Exhibit C of the Lease) for the Expansion Space to be delivered to Landlord upon the earlier to occur of the date which is (a) 150 days prior to the anticipated Expansion Space Commencement Date, or (b) November 1, 1999. Any construction, alterations or improvements made to the Expansion Space by Tenant shall be subject to Landlord's prior written approval including without limitation, approval of the plans, specifications, contractors and subcontractors therefor, and all applicable terms and conditions of the Lease relating to construction, alterations or improvements of the Demised Premises, and such other reasonable requirements or conditions as Landlord may impose. During any period that Tenant shall be permitted to enter the Expansion Space prior to the Expansion Space Commencement Date other than to occupy the same in the normal conduct of business (e.g., to perform alterations or improvements), Tenant shall comply with all terms and provisions of the Lease, except those provisions requiring payment of Expansion Space Rent. If Tenant shall enter the Expansion Space prior to the Expansion Space Commencement Date for the purpose of occupying the same in the normal conduct of business, Expansion Space Rent shall commence on such date. The Expansion Space Commencement Date shall be delayed and Expansion Space Rent shall be abated to the extent that Landlord fails: (a) to substantially complete any improvements to the Expansion Space required to be performed by Landlord under Exhibit C of the Lease in connection herewith, or (b) to deliver possession of the Expansion Space for any other reason, except to the extent that Tenant, its contractors, agents, or employees in any way contribute to either such failures. Any such delay in the Expansion Space Commencement Date shall not subject Landlord to any liability for any loss or damage resulting therefrom, and Tenant's sole remedy with respect thereto shall be the abatement of Expansion Space Rent. 6. TENANT ALLOWANCES. Landlord shall provide Tenant a Construction Allowance for the Expansion Space equal to $15.00 per rentable square foot of the Expansion Space multiplied by a fraction, the numerator of which shall be the number of months remaining in the initial Rental Term as of the Expansion Space Commencement Date and the denominator of which shall be 120. Additionally, Landlord shall provide Tenant a Moving Allowance for the Expansion Space equal to $1.50 per rentable square foot of the Expansion Space multiplied by a fraction, the numerator of which shall be the number of months remaining in the initial Rental Term as of the Expansion Space Commencement Date and the denominator of which shall be 120. The Moving Allowance shall be paid to Tenant within thirty (30) days of the Expansion Space Commencement Date and upon receipt by Landlord of copies of the invoices for the costs associated with Tenant's move into the Expansion Space. 7. WHOLE AGREEMENT. This First Amendment, together with its attachments and Exhibits, sets forth the entire agreement between the parties with respect to the matters set forth herein. Other than the Lease, there have been no additional oral or written representations or agreements nor shall any agreement between the parties be valid unless it is set forth in writing and duly signed by each party. As amended herein, the Lease between the parties shall remain in full force and effect. In case of any inconsistency between the provisions of the Lease and this First Amendment, the provisions of this First Amendment shall govern and control. 8. GUARANTORS. This First Amendment shall be of no force or effect unless and until accepted by any guarantors of the Lease, who by signing below agree that their guarantee shall apply to the Lease as amended herein. 58 IN WITNESS WHEREOF, the Landlord and Tenant have duly executed this First Amendment as of the day and year first above written. LANDLORD: MEADOW BROOK SOUTH 2500, L.L.C. a Delaware limited liability company By:/s/ ------------------------------------- Its: Senior Vice President ------------------------------------ TENANT: NICHOLS TXEN CORPORATION a Delaware corporation By:/s/ -------------------------------------- Its: President ------------------------------------- GUARANTOR: NICHOLS RESEARCH CORPORATION a Delaware corporation By:/s/ -------------------------------------- Its: Chief Financial Officer ------------------------------------- 59 EXHIBIT "A-1" FIRST FLOOR PLAN 60 EXHIBIT "A-2" SECOND FLOOR PLAN 61 EXHIBIT "B" SECOND FLOOR PLAN 62 SECOND AMENDMENT TO LEASE AGREEMENT THIS Second Amendment to Lease (the "Second Amendment") made and entered into as of this ____ day of ____________ 19___, by and between Meadow Brook South 2500, L.L.C. ("Landlord"), and Nichols TXEN Corporation ("Tenant"). WITNESSETH WHEREAS, Landlord's predecessor in interest, Daniel Meadow Brook South, L.L.C., has heretofore entered into that certain lease (the "Lease") dated the 8th day of May, 1998, which was amended on December 9, 1998 (the "First Amendment"), for office space (the "Demised Premises") in the building known as 2500 Corporate Drive (the "Building") the address of which is 2500 Corporate Drive; WHEREAS, Tenant and Landlord have further agreed to Amend the Lease; NOW, THEREFORE, in consideration of the mutual covenants and agreements herein contained, and other good and valuable consideration, the parties do hereby agree as follows. Capitalized terms used herein not otherwise defined shall have the same meaning as set forth in the Lease. 1. Section 1.01 A of Exhibit G of the Lease shall be modified in accordance with the following: a) The title of Section 1.01 A of Exhibit G of the Lease shall be changed to "Rental Reimbursement for Tenant's lease obligation at Inverness Center. b) The last paragraph of Section 1.01 A of Exhibit G of the Lease which begins with "In consideration for" and ends with "of ten percent (10%)." shall be deleted. 2. Beginning on the April 1, 1999, Tenant shall pay to Landlord as Additional Rental the sum of $4,291.37 per month (the "Installments") for each month during the initial Rental Term of the Lease. If this Lease is terminated prior to the expiration of the initial Rental Term for any reason, Tenant shall pay to Landlord (in addition to all other amounts due Landlord at such time) on the date of such termination an amount equal to the present value of the otherwise remaining monthly amounts of the Installments set forth under this paragraph. The present value payment shall be computed using a discount rate equal to the monthly equivalent of 10% per annum. 3. WHOLE AGREEMENT. This Second Amendment sets forth the entire agreement between the parties with respect to the matters set forth herein. Other than the Lease and the First Amendment, there have been no additional oral or written representations or agreements nor shall any agreement between the parties be valid unless it is set forth in writing and duly signed by each party. As amended herein, the Lease between the parties shall remain in full force and effect. In case of any inconsistency between the provisions of the Lease and this Second Amendment, the provisions of this Second Amendment shall govern and control. 63 4. GUARANTORS. This Second Amendment shall be of no force or effect unless and until accepted by any guarantors of the Lease, who by signing below agree that their guarantee shall apply to the Lease as amended herein. IN WITNESS WHEREOF, the Landlord and Tenant have duly executed this Second Amendment as of the day and year first above written. LANDLORD: MEADOW BROOK SOUTH 2500, L.L.C. a Delaware limited liability company By: -------------------------------------- Its: ------------------------------------- TENANT: NICHOLS TXEN CORPORATION a Delaware corporation By:/s/ -------------------------------------- Its: President ------------------------------------- GUARANTOR: NICHOLS RESEARCH CORPORATION a Delaware corporation By: -------------------------------------- Its: ------------------------------------- EX-23.1 4 CONSENT OF ERNST & YOUNG LLP 1 EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and to the use of our report dated January 7, 1999, in Amendment No. 2 to the Registration Statement (Form S-1 No. 333-71031) and related Prospectus of Nichols TXEN Corporation for the registration of 2,625,000 shares of its common stock. /s/ Ernst & Young LLP Birmingham, Alabama June 18, 1999 EX-23.2 5 CONSENT OF ERNST & YOUNG LLP 1 EXHIBIT 23.2 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and to the use of our report dated August 1, 1997, with respect to the financial statements of TXEN, Inc. included in Amendment No. 2 to the Registration Statement (Form S-1 No. 333-71031) and related Prospectus of Nichols TXEN Corporation for the registration of 2,625,000 shares of its common stock. /s/ Ernst & Young LLP Birmingham, Alabama June 18, 1999 -----END PRIVACY-ENHANCED MESSAGE-----