-----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, K93d1NWarxOIGLNXA2go/i+WWReM07Iw1B8bvHKe7u9xwC+c9L7Z6LY4HDEfqJrk SqXIp9jW4kk5jgJeTrybGg== 0000026987-02-000010.txt : 20020926 0000026987-02-000010.hdr.sgml : 20020926 20020925191421 ACCESSION NUMBER: 0000026987-02-000010 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 11 CONFORMED PERIOD OF REPORT: 20020630 FILED AS OF DATE: 20020926 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SMTEK INTERNATIONAL INC CENTRAL INDEX KEY: 0000026987 STANDARD INDUSTRIAL CLASSIFICATION: PRINTED CIRCUIT BOARDS [3672] IRS NUMBER: 330213512 STATE OF INCORPORATION: DE FISCAL YEAR END: 0702 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-08101 FILM NUMBER: 02772518 BUSINESS ADDRESS: STREET 1: 2151 ANCHOR COURT CITY: THOUSAND OAKS STATE: CA ZIP: 91320 BUSINESS PHONE: 8053762595 MAIL ADDRESS: STREET 1: 2151 ANCHOR COURT CITY: HOUSAND OAKS STATE: CA ZIP: 91320 FORMER COMPANY: FORMER CONFORMED NAME: DATA DESIGN LABORATORIES DATE OF NAME CHANGE: 19880817 FORMER COMPANY: FORMER CONFORMED NAME: DATA DESIGN LABORATORIES INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: DDL ELECTRONICS INC DATE OF NAME CHANGE: 19940119 10-K 1 fourpart.txt FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended June 30, 2002 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ___________ ___________ Commission File Number 1-8101 ___________ Exact Name of Registrant as Specified in Its Charter: SMTEK INTERNATIONAL, INC. ______________________________ DELAWARE 33-0213512 _____________________________ _____________ State or Other Jurisdiction of I.R.S. Employer Incorporation or Organization No. Identification Address of Principal Executive Offices: 200 Science Drive Moorpark, CA 93021 _________________________ Registrant's Telephone Number: (805) 532-2800 _________________________ Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered _________________________ ___________________________________________ Common Stock, $.01 Par Value Pacific Exchange Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 Par Value Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of the voting stock held by non-affiliates of the registrant based on the closing price as reported by the Nasdaq Small Cap Market on September 20, 2002 was $2,170,100. The registrant had 2,284,343 shares of Common Stock outstanding as of September 20, 2002. DOCUMENTS INCORPORATED BY REFERENCE We are a reporting company and file annual, quarterly and special reports, proxy statements and other information with the Securities and Exchange Commission (the "SEC"). You may inspect and copy these materials at the Public Reference Room maintained by the SEC at Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for more information on the Public Reference Room. You may also find our SEC filings at the SEC website at www.sec.gov. You may also inspect reports and other information concerning us at the offices of the Nasdaq Stock Market at 1735 K Street, N.W., Washington, D.C. 20006. We intend to furnish our stockholders with annual reports containing audited financial statements and such other periodic reports as we may determine to be appropriate or as may be required by law. Specified parts of our Annual Report to Stockholders for our fiscal year ended June 30, 2002 are incorporated by reference into Parts I and II hereof. Specified parts of our Proxy Statement for our 2002 Annual Meeting of Stockholders, which Proxy Statement will be filed within 120 days after the end of our fiscal year, are incorporated by reference into Part III hereof. Certain documents listed above in Part IV, Item 14 of this Report, as exhibits to this Report are incorporated by reference from other documents previously filed with the SEC. THIS ANNUAL REPORT ON FORM 10-K, INCLUDING EXHIBITS HERETO, CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. THESE FORWARD-LOOKING STATEMENT ARE TYPICALLY IDENTIFIED BY THE WORDS "ANTICIPATES", "BELIEVES", "EXPECTS", "INTENDS", "FORECASTS", "PLANS", "FUTURE", "STRATEGY", OR WORDS OF SIMILAR MEANING. VARIOUS IMPORTANT FACTORS COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE EXPRESSED IN THE FORWARD-LOOKING STATEMENTS, INCLUDING THOSE DESCRIBED AS "RISK FACTORS" IN THIS REPORT AND IN OTHER DOCUMENTS THE COMPANY HAS FILED AND FILES, FROM TIME TO TIME, WITH THE SECURITIES AND EXCHANGE COMMISSION. PART I Item 1. BUSINESS GENERAL SMTEK International, Inc. (the "Company," "we," "us" or "our"), a Delaware corporation, is an electronics manufacturing services ("EMS") provider to original equipment manufacturers ("OEMs") primarily in the industrial and instrumentation, medical, telecommunications, security, financial services automation and aerospace and defense industries. We provide integrated solutions to OEMs across the entire product life cycle, from design to manufacturing to end-of-life services, for the worldwide low- to-medium volume, high complexity segment of the EMS industry. We have seven wholly owned subsidiaries: SMTEK, Inc. (aka SMTEK Moorpark), located in Moorpark, California; Technetics, Inc. (dba SMTEK San Diego), located in Poway, California; Jolt Technology, Inc. (aka SMTEK Fort Lauderdale), located in Fort Lauderdale, Florida; SMTEK Europe Limited, located in Craigavon, Northern Ireland; SMTEK New England, located in Marlborough, Massachusetts; SMTEK Santa Clara, located in Santa Clara, California; and SMTEK International Thailand Limited, located in Ayutthya, Thailand. On October 24, 2001, we completed a transaction to purchase certain assets, but not assume any liabilities, of Century Electronics Manufacturing, Inc. ("Century"), an EMS company that filed for bankruptcy. As part of this transaction, we also purchased substantially all of the common stock of Century's subsidiary in Thailand. The aggregate purchase price of this transaction was approximately $3.2 million. In July 2001, SMTEK San Diego moved its entire operations into a 45,000 square foot facility in Poway, California under a ten year lease. In March 2002, SMTEK Moorpark moved its entire operations into an 115,000 square foot facility in Moorpark, California under a ten year lease. We were incorporated in California in 1959 and were reincorporated in Delaware in 1986. We changed our name from Data-Design Laboratories, Inc. to DDL Electronics, Inc. in December 1993, and in October 1998 our name was changed to SMTEK International, Inc. Our executive office is currently located at 200 Science Drive, Moorpark, California 93021, telephone (805) 532-2800. INDUSTRY OVERVIEW EMS Industry The EMS industry can be classified into two general segments: high- volume/low complexity and low-to-medium volume/high complexity. We focus on the low-to-medium volume/high complexity segment. Manufacturers in this segment are highly fragmented and competitive. Customer bases tend to be highly concentrated, with two or three customers typically accounting for a significant portion of an EMS provider's total revenue. Two principal assembly techniques are employed in the EMS industry: surface mount technology ("SMT"), which accounts for the majority of manufacturing; and through-hole technology. We believe that the low-to- medium volume/high complexity EMS market is continuing to move toward SMT as the preferred manufacturing technique, due in part to the fact that semiconductors have continued to shrink in size, which tightens manufacturing tolerances and necessitates the use of automation for efficient production. Our production processes are predominantly SMT. Description of EMS Products and Services Production of electronic assemblies for a customer is only performed when a firm order is received and accepted. Electronic assemblies are produced based on one of two general methods, either "turnkey" (where we provide all materials, labor and equipment associated with producing the customers' product) or "consigned" (where we provide only labor and equipment for manufacturing electronic assemblies and the customer provides the materials). Our EMS operations provide both turnkey and consignment electronics manufacturing services using surface mount and through-hole interconnection technologies. We conduct our domestic business through our facilities in Moorpark, San Diego, Fort Lauderdale, Marlborough and Santa Clara and our foreign operations in our SMTEK Europe Limited subsidiary in Northern Ireland and our SMTEK International Thailand Limited subsidiary in Ayutthya, Thailand. Our EMS operations do not fabricate any of the components used in these processes. The materials procurement element of our turnkey services consists of the planning, purchasing, expediting, warehousing and financing of the components and materials required to assemble a board-level or system-level assembly. Customers have increasingly required us and other EMS providers to purchase some or all components directly from component manufacturers or distributors and to finance the components and materials. Customers usually incur costs in qualifying EMS providers and there is a learning curve for both the customer and the EMS provider in terms of producing the product, redesigns and refinements of products. Once a relationship is established, we believe that customers experience difficulty in expeditiously and effectively reassigning a turnkey project to a new assembler or in taking on the project themselves. As a consequence of the relative difficulty of a customer to change EMS providers, our company faces the obstacle of attracting new customers away from their existing EMS providers, or from the customers' in-house assembly operations. MARKETS AND CUSTOMERS Our sales and the percentage of our consolidated sales to the principal end-user markets we serve for the last three fiscal years are as follows (dollars in thousands):
Year ended June 30, ------------------------------------------------- Markets 2002 2001 2000 - ----------------------------- --------------- --------------- --------------- Medical $26,212 35.3% $25,093 27.5% $12,921 18.4% Industrial controls and instrumentation 22,514 30.3 38,626 42.4 19,108 27.2 Telecommunications 13,306 17.9 10,714 11.8 9,543 13.6 Aerospace and defense 7,124 9.6 5,693 6.2 15,718 22.4 Security 1,461 2.0 689 0.8 484 0.7 Financial services automation 283 0.4 8,904 9.8 10,803 15.4 Other 3,322 4.5 1,429 1.5 1,675 2.3 ------- ----- ------- ----- ------- ----- Total $74,222 100.0% $91,148 100.0% $70,252 100.0% ======= ===== ======= ===== ======= =====
See Note 11 to the consolidated financial statements for information on our revenues and long-lived assets by geographical area. We market our EMS services through both direct sales personnel and through independent representatives. Our marketing strategy is to develop close relationships with, and to increase sales to, certain existing and new major OEM customers. This includes becoming involved at an early stage in the design of these customers' new products. We believe this strategy is necessary to keep abreast of rapidly changing technological needs and to develop new EMS processes, so as to enhance our EMS capabilities and our position in the industry. As a result of this strategy, however, fluctuations experienced by one or more of our customers in demand for their products may have and have had adverse effects on our sales and profitability. (See "Risk Factors that May Affect Your Decision to Invest in Us"). BACKLOG At June 30, 2002, 2001 and 2000, our backlog was $45.4 million, $59.0 million and $53.4 million, respectively. Backlog is comprised of orders believed to be firm for products that have scheduled shipment dates within the next six to twelve months. We expect to ship a substantial portion of the backlog within 90 days, although the continuation of current economic conditions or other risk factors may alter those expectations. Some orders in the backlog may be cancelled under certain conditions. In addition, the timing of orders from major customers may result in significant fluctuations in our backlog and operating results from period to period. Accordingly, we believe that backlog may not be a reliable indicator of future operating results. RISK FACTORS THAT MAY AFFECT YOUR DECISION TO INVEST IN US There are a variety of risk factors noted below and elsewhere in this Report on Form 10-K (the "Report" or "Form 10-K") and our other filings with the SEC that may affect your investment with us. In evaluating our business, you should carefully review the risk factors cited below as well as all other statements, notes and figures in this Form 10-K. Our business presents a risk due to, among other considerations, the significant volatility of our stock, particularly on a quarterly basis. Our business is also part of a highly dynamic and competitive industry, which can also result in the volatility of our stock price. Our results of operations may be affected by the above, or with the risk factors described below: General Industry Conditions and Competition The markets in which the EMS industry operates are intensely competitive. Seasonality is not a significant factor in the EMS business. Competition is principally based primarily on price with secondary factors including product quality, technical capability and the ability to deliver products on schedule. Both the price of and the demand for EMS are sensitive to economic conditions, changing technologies and other factors. The technology used in EMS is widely available, and there are a large number of domestic and foreign competitors. Many of these firms are larger than we are and have significantly greater financial, marketing and other resources. Many of our competitors have also made substantial capital expenditures in recent years and operate technologically advanced EMS facilities. Further, some of our customers have substantial in-house EMS capabilities. There is a risk that, in periods when these customers are operating at less than full capacity, they will use their own facilities rather than contract with us. Despite this risk, we believe we have not currently experienced a significant loss of business to OEMs' captive assembly operations. However, there can be no assurance that future losses in this regard will not occur. Another factor that presents a continuing risk is the inability of EMS companies to have their customers take back unneeded inventory (See the risk factor below dealing with "Components And Materials May Be Expensive, Unavailable, Or Difficult To Timely Purchase; Components And Materials May Also Be Difficult To Sell"). This has also affected us and may occur more frequently if the current economic conditions do not appreciably improve. We can provide no assurance that we will not be forced to sell our customers' unneeded inventory that we hold. If we sell the excess inventory, we may have to sell any or all of the inventory for a loss. This situation, if it comes to pass, may adversely affect our business, operating results and financial condition. If the Market for Our Services Does Not Improve, or If General Economic Conditions Continue to Adversely Affect Our Business or Industry, We Expect To Continue To Suffer Losses. Since the end of our third quarter of fiscal 2001, and then more recently since the event of September 11, 2001, our existing customers scheduled out and/or canceled orders. As we begin our new fiscal year, we are uncertain whether the soft demand for goods and services, including those goods and services our customers provide, will improve. We believe this is a result of the general downturn in economic conditions and continued effects of the event of September 11, 2001. Further, we have opened new facilities and moved existing subsidiary businesses into larger facilities. This has caused us an increase in costs and excess capacity. When combined with the current economic conditions, this presents a significant risk to our operating results and financial condition. (See also Risk Factor below entitled: "Our New Facilities and Strategic Expansion Have Not Yielded the Benefits We Expected and Could Adversely Affect Our Financial Condition.") While we have taken cost reduction measures and attempted to improve efficiencies in our subsidiaries' facilities, we may continue to experience a material adverse effect on our operating results and in our financial condition if the current economic conditions continue for an extended period of time, or if we do not manage the facilities toward profitability. We may also be unable to assimilate the new facilities into our operations, or we may have to close one or more of our existing facilities which may further adversely affect our operating results and our financial condition. Our Domestic Line of Credit Agreement Contains Certain Financial Covenants That Must Be Met. Our Northern Ireland Line of Credit Agreement Renews in November 2002. At December 31, 2001, we violated certain covenants in our domestic line of credit agreement with our bank. In February 2002, the bank waived these covenant violations. At March 31, 2002, we violated certain covenants in our domestic line of credit agreement. In May 2002, the bank either removed or amended the related restricted covenants in an amendment to the credit agreement. At June 30, 2002, we were in compliance with the amended covenants to the credit agreement. In anticipation of future projected covenant violations, during September 2002, we amended the May 2002 covenants with the bank. This line of credit agreement renews in September 2003. In the event of default under our line of credit agreement, any and all outstanding borrowings could be immediately due and payable. This may create significant operating and financial restrictions on us, further causing an adverse effect to our financial condition and operating results. Our Northern Ireland line of credit agreement is also set to renew in November 2002. We can provide no assurance that the agreement will be renewed and on what terms any renewal could occur. However, at this time the bank has not indicated that it will not renew our line of credit agreement. Our New Facilities and Strategic Expansion Have Not Yielded the Benefits We Expected and Could Adversely Affect Our Financial Condition. We moved the operations of two of our subsidiaries, SMTEK, Inc. and Technetics, Inc., during fiscal year 2002 from Thousand Oaks, California and El Cajon, California, respectively, to larger facilities in Moorpark, California and Poway, California, respectively. The Poway and Moorpark leases each have a term of ten years While Technetics, Inc. was released from the El Cajon lease, SMTEK, Inc. is still liable for the Thousand Oaks facility lease and continues paying rent to the landlord without a subtenant on a lease which expires on May 31, 2004. While there are active measures being taken to sub-lease or re-lease the premises in Thousand Oaks, there is no assurance that a sub-tenant or new tenant will be found. The failure to secure a sub-tenant or new tenant may cause an adverse result in our operating or financial conditions. We also have entered into long-term leases for facilities related to our new operations in Marlborough, Massachusetts and Santa Clara, California. A majority of our facilities continue to have excess capacity. The increased costs, rent, excess capacity and expenses are likely to continue to adversely affect our business, operating results or financial conditions regardless of whether any of the other risk factors occur, particularly during fiscal year 2003. Our strategic direction in expanding during this economic climate has given and may continue to give rise to unforeseen costs. Our Industry is Often Described as Having Low Profit Margins. The Current Economic Downturn May Result in Even Lower Profit Margins For Our Company As Well as Our Industry. The EMS industry is often described as having low profit margins. Oftentimes, if not always, customers have sought and have continued to seek price reductions. Unless we successfully achieve further material cost reductions, efficiencies and productivity gains, we may experience a material adverse effect on our operating results and our financial condition. There can be no assurance, however, whether reductions in materials costs will be effective or adequate to compensate for such price reductions. If We Lose Any One Of Our Larger Customers, It May Adversely Affect Our Results And Financial Condition The loss of one or more of our larger customers, or a reduction in their level of orders, could have an adverse effect on our business, results of operations and financial condition. See Note 11 to the consolidated financial statements for information on our three largest customers. Our Operating Results Are Likely To Materially Fluctuate Our operating results are affected by a number of factors. These include: - the timing of orders from and shipments to major customers, - availability and cost of materials and components, - the volume of orders relative to our capacity, - timing of expenditures in anticipation of future sales, - the gain or loss of significant customers, - variations in the mix between consignment and turnkey arrangements with customers, - variations in the demand for products in the industries we serve, - quality issues and general economic conditions - the development and introduction of new products and technologies by our customers and our customers' competitors In addition to fluctuations from day to day operations, our operating results will also be affected by the following: - excess capacity at the various subsidiary plants, which may entail attempts to limit liabilities of leases, selling or subleasing equipment, and other measures of that nature, - our debt load is increasing and may rise to a point that over-extends our cash-flow capacity, - our domestic line of credit agreement contains certain financial covenants that must be attained and our Northern Ireland line of credit agreement with the bank renews during November 2002 (See Risk Factor entitled "Our Domestic Line of Credit Agreement Contains Certain Financial Covenants That Must Be Met. Our Northern Ireland Line of Credit Agreement Renews in November 2002.") - our fixed costs are significantly higher than the last fiscal year due to the Century asset purchase, excess capacity in existing plants, and the failure to sub-lease or re-lease the Thousand Oaks facility. A significant portion of our expenses is relatively fixed in nature and planned expenditures are based in part on anticipated orders. Our inability to adjust expenditures quickly enough to compensate for a decline in net sales may magnify the adverse impact of a decline in our results of operations. Our Stock Price Has Been And Continues To Be Volatile. Based Upon Any Number of Factors, We May Face Delisting Proceedings From Nasdaq. The market price for our common stock continues to be volatile due to various factors. These factors include, but are not limited to: - the stock float being relatively small and thinly traded - announcements by us or our competitors of new contracts, or technological innovations; - fluctuations in our quarterly and annual operating results; - acquisition-related announcements; and - general market conditions. In addition, our stock price, in recent years has experienced significant price fluctuations for a variety of reasons, both internal to us and due to external conditions. Currently, we are trading near $1.00. Under Nasdaq rules, if we trade below $1.00 for thirty consecutive days, or if any other events occur, including falling below $2.5 million in shareholders' equity, we could face delisting proceedings from Nasdaq and be listed on the over-the-counter market on the NASD Electronic Bulletin Board or in the "pink sheets" maintained by the National Quotation Bureau, Inc., which is generally considered to be a less efficient market than markets such as Nasdaq or other national exchanges, and which may cause difficulty in conducting trades and difficulty in obtaining future financing. Further, for companies whose securities are traded in the Over-The-Counter Market, it is more difficult: (i) to obtain accurate quotations, (ii) to obtain coverage for significant news events because major wire services, such as the Dow Jones News Service, generally do not publish press releases about such companies, and (iii) to obtain needed capital. Components And Materials May Be Expensive, Unavailable, Or Difficult To Timely Purchase; Components and Materials May Also Be Difficult To Sell For our surface mount assemblies and turnkey operations, we purchase components and material from approved suppliers. Any failure on the part of these suppliers to deliver required components to us or any failure of such components to meet performance requirements could impair our ability to meet scheduled shipment dates. This in turn could delay completing our sales and receipt of payment, which may adversely affect our business, financial condition and results of operations. From time to time, we have experienced, and may in the future experience, shortages of certain types of electronic components. These shortages may increase our costs and may also cause us to experience delays in deliveries to our customers. In addition, our customers may specify that we purchase parts or materials from particular manufacturers of components for use in the assembly process. Certain components used in a number of our customer programs are obtained from sole source suppliers. To the extent these components are not available on a timely basis or are in short supply because of allocations imposed by the component manufacturer, and the customer is unwilling to accept a substitute component, delays may occur. Such delays are experienced in the EMS business from time to time and have caused sales and inventory fluctuations in our business. To the extent our customers do not absorb the costs associated with parts or materials shortages or price increases, whether by agreement or to maintain a business relationship with a customer, this could have a material adverse effect on our business, financial condition and results of operations. In fiscal 2002, we entered into several inventory consignment programs with several of our vendors. These programs were designed to reduce the lead time on program parts, reduce the quotation process timetable, provide competitive pricing, provide protection during periods of shortages and reduce overhead costs. However, the programs do not necessarily avoid shortages or price fluctuations with regard to certain important parts or materials nor do the programs protect against all circumstances facing our customer, our supplier or us. If Our Customers' Vary Their Requirements, This May Affect Our Results And Our Financial Condition The level and timing of purchase orders placed by our customers are affected by a number of factors, including variation in demand for the customer's products, customer attempts to manage inventory and changes in the customer's manufacturing strategies. Many of these factors are outside of our control. Generally, customers may cancel, reduce or delay purchase orders and commitments without penalty, except for payment for services rendered, materials purchased or procured and, in certain circumstances, charges associated with such cancellation, reduction or delay. The current economic conditions, however, may affect our ability to recover such costs, penalties and charges. Significant or numerous cancellations, reductions or delays in orders by customers, or inability by customers to pay for services provided or to pay for components and materials purchased on such customer's behalf, have, in the past adversely affected our business, financial condition and results of operations. Such events or conditions could have a material adverse effect on our business, financial condition and results of operations in the future. Our Debt Profile May Change and May Affect Our Operations And Financial Condition At June 30, 2002, our debt-to-equity ratio was 2.92 to 1.00. Several factors, including but not limited to, a continued prolonged economic downturn, capital investment to increase production or acquisition of other EMS companies, may significantly change our debt profile. Such events or conditions could have a material adverse effect on our business, financial condition and results of operations in the future. Our Northern Ireland Subsidiary Has Economic Challenges and Faces Additional Risks Different From Our Domestic Subsidiaries Our subsidiary in Northern Ireland, SMTEK Europe, has largely, though not completely, avoided the turmoil in that area over the years of its operation. However, we are unable to provide any assurance that our subsidiary will not be affected by the continued political instability in that area. Further, we are a guarantor on our subsidiary's $3.8 million line of credit with Ulster Bank Markets. Also, SMTEK Europe is subject to a government loan, which is subject to covenants and conditions, including the number of employees that must be employed at the facility. This government loan, as well as the existence of a labor union at SMTEK Europe, may adversely affect the ability of SMTEK Europe to be flexible in cutting labor and other costs. There may be an adverse effect on our operating results and financial condition, as well as our business, if SMTEK Europe does not meet its economic challenges. Our Thailand Facility Has Economic Challenges and Faces Additional Risks Different from Our Domestic Subsidiaries We own 4,999,992 out of 5,000,000 shares of stock in the Thailand facility. Thailand is generally considered to have less economic stability than most mainland European nations or the United States of America. Further, the facility in Thailand has essentially one customer, a telecommunications company which, if it defers or cancels orders, will have a material effect on the Thailand facility performance. This in turn could adversely impact our operating results and financial condition. Our Foreign Facilities in Thailand and Northern Ireland Face Unique Challenges That Our Domestic Facilities Do Not Face Our foreign operations have risks that may affect our operating results and financial condition. These risks include: - the fluctuations of foreign currencies against the U.S. dollar in our reported results, - import and export duties, and value added taxes, - import and export regulation changes that could increase costs, increase losses or erode any profitability that may exist, - potential restrictions on the transfer of funds, - inflexible employee contracts in the event of business downturns, and - the burden and cost of interaction between foreign and U.S. laws. Our Services, To The Extent We Perform Sub-Contracts Relating To Government Work, Are Subject To Government Audit And Control Our sub-contracting electronic manufacturing services include aerospace and military work for customers who do business with the U.S. government. If a customer complains to the government reporting the services we or our customers perform for the government, the government may subject us or our customer to an investigation, audit or lawsuit. The government may enforce civil and criminal penalties if it finds that contracts are intentionally breached or if there is intentional misconduct. In the absence of intentional misconduct, we may have to pay contract or other applicable and statutory damages to the government or the military contracting customer. As every investigation, audit or lawsuit stands on its own merits, we can provide no assurance as to whether any investigation, audit or lawsuit, if one occurs, will not adversely affect our business, operating results or financial condition. Our Success Depends On Our Ability To Retain and Recruit Key Personnel Our success depends in large part on our ability to recruit and retain highly skilled technical, managerial, sales, and other administrative and staff personnel. In spite of the economic slowdown, competition for such personnel remains intense. In addition, our workforce reductions over fiscal year 2002 have increased our dependence on the remaining personnel, as we are relying on our current personnel to assume additional responsibilities. The loss of services of any of our key personnel or our failure to retain and attract qualified personnel in the future could make it difficult for us to meet our key objectives, such as timely manufacture and delivery of products, among other objectives. OUR ENVIRONMENTAL CLEAN-UP CONTINUES AT ANAHEIM, CALIFORNIA FACILITY See Note 10 to the consolidated financial statements for information regarding environmental matters. OUR TAX ISSUES WITH THE IRS CONTINUES See Note 6 to the consolidated financial statements for information relating to our tax liabilities. EMPLOYEES At August 23, 2002, we had approximately 650 employees. Given the growth of our business and the quick response time required by our customers, we seek to maintain labor flexibility to scale up or down our operations as necessary to maximize efficiency. We also use skilled temporary labor. In Europe, approximately 30 of our employees are members of a union. None of our employees in the United States and Thailand are covered by union agreements. We have no history of labor disputes at any of our facilities. We believe that our employee relationships are good. Item 2. PROPERTIES The following table lists our principal plants and properties:
Owned Square or Location Footage Leased Use - ------------------------------- ------- ------ ---------------------- Moorpark, California (A) 115,000 Leased Executive offices, Assembly plant Poway, California (A) 45,000 Leased Assembly plant/offices Fort Lauderdale, Florida 8,400 Leased Assembly plant/offices Craigavon, Northern Ireland (B) 67,000 Owned Assembly plant/offices Marlborough, Massachusetts (C) 69,400 Leased Assembly plant/offices Santa Clara, California (D) 44,700 Leased Assembly plant/offices Ayutthya, Thailand 12,000 Leased Assembly plant/offices Thousand Oaks, California (A) 45,000 Leased Vacant
(A) The operations and corporate headquarters moved from the Thousand Oaks facility into the Moorpark facility in March 2002. A tenant for the Thousand Oaks building is currently being sought. The San Diego facility moved from El Cajon to Poway, both in San Diego County. A new tenant began leasing the El Cajon facility in November 2001. (B) The Northern Ireland property is pledged as security for an installment loan payable to the Industrial Development Board ("IDB") for Northern Ireland, from which the property was purchased. This loan had an outstanding balance of approximately $697,000 as of June 30, 2002. (C) An eight-year lease was signed for the Marlborough facility during fiscal year 2002. It is attached as an exhibit to our December 31, 2001 Form 10-Q. (D) A new three-year lease was signed for the Santa Clara facility after fiscal year 2002, in July 2002. It is attached as an exhibit to this Form 10-K. For further discussion on our new facilities in Moorpark, San Diego, Marlborough and Santa Clara, see "Risk Factors that May Affect Your Decision to Invest in Us-Our New Facilities and Strategic Expansion Have Not Yielded the Benefits We Expected and Could Adversely Affect Our Financial Condition." Item 3. LEGAL PROCEEDINGS In the ordinary course of business, we experience various types of claims which sometimes result in litigation or other legal proceedings. We do not anticipate that any of these claims or proceedings that are currently pending will have a material adverse effect on us. Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS There were no matters submitted to a vote of the security holders during the three months ended June 30, 2002. PART II Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The information set forth under the caption "Market and Dividend Information" in the our 2002 Annual Report to Stockholders is incorporated herein by reference and made a part hereof. Item 6. SELECTED FINANCIAL DATA The information set forth under the caption "Five-Year Financial Summary" in our 2002 Annual Report to Stockholders is incorporated herein by reference and made a part hereof. Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The information set forth under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our 2002 Annual Report to Stockholders is incorporated herein by reference and made a part hereof. Item 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK This information is set forth under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations - Quantitative and Qualitative Disclosures About Market Risk" in our 2002 Annual Report to Stockholders is incorporated herein by reference and made a part hereof. Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Reference is made to the financial statements later in this Report under Item 14(a)(1). Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT This information is incorporated by reference to our proxy statement for our 2002 Annual Meeting of Stockholders, to be filed with the SEC, on or before 120 days following June 30, 2002, or if not filed by such date, as an amendment to this Report to be filed on or before such date. Item 11. EXECUTIVE COMPENSATION This information is incorporated by reference to our proxy statement for our 2002 Annual Meeting of Stockholders, to be filed with the SEC, on or before 120 days following June 30, 2002, or if not filed by such date, as an amendment to this Report to be filed on or before such date. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT This information is incorporated by reference to our proxy statement for our 2002 Annual Meeting of Stockholders, to be filed with the SEC, on or before 120 days following June 30, 2002, or if not filed by such date, as an amendment to this Report to be filed on or before such date. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS This information is incorporated by reference to our proxy statement for our 2002 Annual Meeting of Stockholders, to be filed with the SEC, on or before 120 days following June 30, 2002, or if not filed by such date, as an amendment to this Report to be filed on or before such date PART IV Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS OF FORM 8-K 2002 Annual Report to Stockholders ------------ (a)(1) List of Financial Statements List of data incorporated by reference: Report of KPMG LLP on consolidated financial statements 16 Consolidated balance sheets as of June 30, 2002 and 2001 17 Consolidated statements of operations for the years ended June 30, 2002, 2001 and 2000 18 Consolidated statements of cash flows for the years ended June 30, 2002, 2001 and 2000 19 Consolidated statements of stockholders' equity and comprehensive income for the years ended June 30, 2002, 2001, and 2000 20 Notes to consolidated financial statements 21 (a)(2) Financial Statement Schedules The financial statement schedules are omitted because they are either not applicable or the information is included in the notes to consolidated financial statements. Form 10-K --------- (a)(3) List of Exhibits: Exhibit Index 19 (b) Reports on Form 8-K: On May 15, 2002 we filed a Form 8-K announcing a change in management, including the announcement of Edward J. Smith becoming President and Chief Executive Officer of SMTEK International, Inc. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on September 3, 2002. SMTEK INTERNATIONAL, INC. /s/ Edward J. Smith ----------------------- Edward J. Smith Chief Executive Officer, and President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Signature Title Date /s/ Edward J. Smith Chief Executive Officer, September 3, 2002 - ----------------------- and President ------------------- Edward J. Smith /s/ Kirk A. Waldron Senior Vice President September 3, 2002 - ----------------------- and Chief Financial ------------------- Kirk A. Waldron Officer (principal financial officer) /s/ Clay M. Biddinger Director September 3, 2002 - ----------------------- ------------------- Clay M. Biddinger /s/ James P. Burgess Chairman of the Board September 3, 2002 - ----------------------- ------------------- James P. Burgess /s/ Oscar B. Marx Director September 3, 2002 - ----------------------- ------------------- Oscar B. Marx III EXHIBIT INDEX Exhibit Number Description - ------- ----------- 2.1 Agreement and Plan of Merger dated May 28, 1998 among the Company, Jolt Technology, Inc. and the shareholders of Jolt Technology, Inc. (incorporated by reference to Appendix A of the Company's Definitive Proxy Statement dated June 12, 1998) 2.2 Stock Purchase Agreement dated January 24, 1999 between SMTEK International, Inc. and the shareholders of Technetics, Inc. (incorporated by reference to Exhibit 99-1 of the Company's Current Report on Form 8-K filed on February 12, 1999). 2.3 Agreement dated November 12, 1999 between DDL Europe, Ltd. (a subsidiary of the Company) and Fast Track Circuits, Ltd. for the sale of the capital stock of Irlandus Circuits, Ltd. (incorporated by reference to Exhibit 10.1 of the Company's Current Report on Form 8-K filed on December 28, 1999.) 3.1 Amended and Restated Certificate of Incorporation of SMTEK International, Inc. (incorporated by reference to Exhibit 3.1 of the Company's 1999 Annual Report on Form 10-K). 3.2 Bylaws of the Company, amended and restated effective August 23, 2000 (incorporated by reference to Exhibit 3.2 of the Company's 2000 Annual Report on Form 10-K). 4.1 Indenture dated July 15, 1988, applicable to the Company's 8-1/2% Convertible Subordinated Debentures due August 1, 2008 (incorporated by reference to Exhibit 4-c of the Company's 1988 Annual Report on Form 10-K). 4.1.1 Supplemental Indenture relating to the Company's 8-1/2% Convertible Subordinated Debentures due August 1, 2008 (incorporated by reference to Exhibit 4-b of the Company's 1991 Annual Report on Form 10-K). 10.1 1993 Stock Incentive Plan (incorporated by reference to Exhibit 4.7 of the Company's Registration Statement on Form S-8, Commission file No. 33-74400). 10.2 Amended and Restated 1996 Stock Incentive Plan (incorporated by reference to Exhibit A of the Company's Proxy Statement for the fiscal 1999 Annual Stockholders Meeting). 10.3 Amended and Restated 1998 Non-Employee Directors Stock Plan (incorporated by reference to Exhibit B of the Company's Proxy Statement for the fiscal 2000 Annual Stockholders Meeting). 10.4 Standard Industrial Lease-Net dated August 1, 1984, among the Company, Aeroscientific Corp., and Bradmore Realty Investment Company, Ltd. (incorporated by reference to Exhibit 10-w of the Company's 1990 Annual Report on Form 10-K). 10.4.1 Second Amendment to Lease among Bradmore Realty Investment Company, Ltd., the Company and the Company's Aeroscientific Corp. subsidiary, dated July 2, 1993 (incorporated by reference to Exhibit 10-cd of Registration Statement No. 33-63618). 10.5 Grant Agreement dated August 29, 1989, between SMTEK Europe Limited (fka DDL Electronics Limited) and the IDB for Northern Ireland ("IDB") (incorporated by reference to Exhibit 10.29 of the Company's Registration Statement No. 33-39115). 10.5.1 Agreement dated May 2, 1996, between SMTEK Europe Limited and the IDB amending the Grant Agreement dated August 29, 1989 (incorporated by reference to Exhibit 10.11.1 filed with the Company's 1996 Annual Report on Form 10-K). 10.6 Employment Agreement dated September 12, 1996 between the Company and Richard K. Vitelle (incorporated by reference to Exhibit 10.15 filed with the Company's 1996 Annual Report on Form 10-K). 10.7 Employment Agreement dated January 1, 2001 between the Company and Gregory L. Horton (incorporated by reference to Exhibit 10.7 filed with the Company's 2001 Annual Report on Form 10-K). 10.8 Standard Industrial/Commercial Multi-Tenant Lease - Modified Net dated December 20, 2000 between Technetics, Inc. and Pomerado Leasing No. 8 L.P. (including Addendum) (incorporated by reference to Exhibit 10.8 filed with the Company's 2001 Annual Report on Form 10-K). 10.9 Standard Industrial/Commercial Tenant Lease - dated July 20, 2001 between SMTEK, Inc. and Moorpark Venture, L.P. (including Addendum, Sublease and Attornment/Non-Disturbance Agreement Among Parker-Hannifan, SWS Partners, MVLP and SMTEK, Inc.) (incorporated by reference to Exhibit 10.9 filed with the Company's 2001 Annual Report on Form 10-K). 10.9.1 Amendment No. 1 of Standard Industrial/Commercial Tenant-Lease, Dated May 6, 2002 between SMTEK, Inc. and Moorpark Venture, L.P. 10.10 Credit Agreement dated September 25, 2001, between the Company and Comerica Bank (incorporated by reference to Exhibit 10.10 filed with the Company's 2001 Annual Report on Form 10-K). 10.10.1 Amendment No. 2 to Credit Agreement, dated May 1, 2002, between the Company and Comerica Bank (incorporated by reference to Exhibit 10.1 filed with the Company's March 31, 2002 Quarterly Report on Form 10-Q). 10.10.2 Amendment No. 3 to Credit Agreement, dated September 24, 2002, between the Company and Comerica Bank. 10.11 Lease between SMTEK New England and Cedar Marlboro Realty Corporation dated November 1, 2002 (including Guaranty) (incorporated by reference to Exhibit 10.1 filed with the Company's December 31, 2001 Quarterly Report on Form 10-Q). 10.12 Single-Tenant Commercial Space Lease Between SMTEK Santa Clara and Deerfield Scott LLC dated June 10, 2002. 10.13 Employment Agreement between the Company and Edward J. Smith. 10.14 Employment Agreement between the Company and Kirk A. Waldron. 10.15 Employment Agreement between the Company and Mitchell J. Freedman. 11 Statement re Computation of Per Share Earnings (incorporated by reference to Note 8 to the consolidated financial statements of the 2002 Annual Report to Stockholders). 13 Annual Report to security holders. 21 Subsidiaries of the Registrant. 23 Consent of KPMG LLP. 99 Undertaking for Form S-8 Registration Statement. CERTIFICATION OF CHIEF EXECUTIVE OFFICER I, Edward J. Smith, Chief Executive Officer and President of SMTEK International, Inc., certify that: 1. I have reviewed this annual report on Form 10-K of SMTEK International, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; and 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report. Date: September 24, 2002 By: /s/ Edward J. Smith -------------------- Edward J. Smith Chief Executive Officer and President SMTEK International, Inc. CERTIFICATION OF CHIEF FINANCIAL OFFICER I, Kirk A. Waldron, Senior Vice President and Chief Financial Officer of SMTEK International, Inc., certify that: 1. I have reviewed this annual report on Form 10-K of SMTEK International, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; and 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report. Date: September 24, 2002 By: /s/ Kirk A. Waldron --------------------- Kirk A. Waldron Senior Vice President, Chief Financial Officer SMTEK International, Inc. 23 EX-13 3 annualreport.txt ANNUAL REPORT DESCRIPTION OF BUSINESS SMTEK International, Inc. (the "Company," "we," "us" or "our") is an electronics manufacturing services ("EMS") provider to original equipment manufacturers ("OEMs") primarily in the industrial and instrumentation, medical, telecommunications, security, financial services automation and aerospace and defense industries. We provide integrated solutions to OEMs across the entire product life cycle, from design to manufacturing to end-of- life services, for the worldwide low-to-medium volume, high complexity segment of the EMS industry. We have seven wholly owned subsidiaries: SMTEK, Inc. (dba SMTEK Moorpark), located in Moorpark, California; Technetics, Inc. (dba SMTEK San Diego), located in Poway, California; Jolt Technology, Inc. (aka SMTEK Fort Lauderdale), located in Fort Lauderdale, Florida; SMTEK Europe Limited, located in Craigavon, Northern Ireland; SMTEK New England, located in Marlborough, Massachusetts; SMTEK Santa Clara, located in Santa Clara, California; and SMTEK International Thailand Limited, located in Ayutthya, Thailand. LETTER TO STOCKHOLDERS Dear Shareholder: It has been a challenging year for SMTEK International, Inc. We completed an acquisition and have continued to weather a significant downturn in the EMS (electronic manufacturing services) industry. Concurrent with our increase in capacity, a slowdown in our customers' current demand has challenged both the top line and bottom line. I believe the SMTEK team is poised to overcome the adversity and turn SMTEK into a leader of our segment in the EMS industry. I am honored to lead such a talented team in addressing and tackling the challenges that are ahead of us. The timing of SMTEK's revenue decline occurred just as we were strategically committed to increasing our capacity, indicative with the following moves: 1) our San Diego facility more than doubled production capability by moving into a new 45,000 square foot facility and purchasing new equipment; 2) SMTEK purchased certain assets of Century Manufacturing, Inc. out of bankruptcy court and immediately opened three new facilities; and 3) our Thousand Oaks facility moved into a new 115,000 square foot facility in Moorpark, California, almost tripling its manufacturing footprint. Currently, SMTEK has seven facilities on three continents with over 360,000 square feet to service our customers. Although our expansion moves have contributed to a portion of our losses for the fiscal year, we are excited about the possibilities of such an attractive strategic footprint only found in much larger EMS companies. Additionally, our ability to meet any type of ramp up in revenue will come at a nominal price as it relates to infrastructure and capital expenditures. Our revenue for the year ended June 2002 was $74.2 million compared to $91.1 million in the prior year. Gross profit for the year was $5.5 million compared to $11.1 million in the prior year. SMTEK incurred a net loss of $6.0 million compared to net income of $1.8 million in the prior year. Backlog at the end of fiscal year 2002 was $45.4 million compared to backlog of $59.0 million in fiscal year 2001. SMTEK's balance sheet held up relatively well in a financially challenging year. Prudent management of the working capital resulted in the generation of approximately $6 million of cash driven mainly by approximately 25 percent reduction in inventory (even after the Century acquisition of over $1 million in inventory) and a dramatic improvement in the cash conversion cycle (accounts receivable days outstanding plus inventory days less accounts payable days). SMTEK's current ratio remains positive at 1.3 to 1. My immediate goal is to fill up our facilities with business and utilize the assets we have heavily invested in. Although I am encouraged by the short-term results in this objective, we have a long way to go to achieve consistent, profitable and strategically congruent business in each of our facilities. Regardless, we will not shy away from making a tough decision to consolidate a facility or close one if we do not believe we can achieve a satisfactory rate of return in a reasonable timeframe. In the past few months, we have seen an uptick in bookings, which we believe is due to our development of a target customer profile and aggressively pursuing that type of customer. SMTEK's customer profile tends to be relatively diversified with services rendered in the medical, industrial and instrumentation, telecommunications, security, financial services automation and aerospace/defense industries. SMTEK will continue to focus on low-to-medium volume with a slant towards more complex board production. A major change, however, is that we will exploit our relationships with current customers and take advantage of our multi-facility offering to achieve greater penetration in our preferred customer base. SMTEK will focus a tremendous amount of attention towards the mantra of "the power of one." The word "power" has many definitions but I prefer to use the following; the ability to perform effectively. The word "one" can be defined as being a single entity of the same kind of quality. These definitions provide the backdrop of what I truly believe will make SMTEK successful. Although we have many facilities and different capabilities in each of them, we will operate as one equivalent entity in the eyes of our customers. Recently we have been committed to ensure that all of our operating units effectively communicate and transfer data to each other to take advantage of what each of them have to offer to the other. To that end, we have also established national agreements with certain suppliers to improve pricing and delivery services based on larger volume orders. Our sales effort has also become more of a joint effort at selling SMTEK as one offering as opposed to seven separate entities. Additionally, we believe we have a lot more to offer a customer when we can include the expertise and talent of all of our employees instead of just one of our facility's capabilities. And I think our customers like it. Essentially, we are determined to cross pollinate any concept or process into all of our facilities to take advantage of what is good in SMTEK. In closing, I would like to thank you, the shareholders, for your support as the entire SMTEK team and I begin our journey into an exciting new year filled with challenges and opportunities. Yours very truly, /s/ Edward J. Smith Edward J. Smith President and CEO SMTEK International, Inc. SELECTED CONSOLIDATED FINANCIAL DATA The selected consolidated financial data for the years ended June 30, 1998 through 2002 set forth below are derived from our consolidated financial statements and notes thereto. The consolidated balance sheets as of June 30, 2002 and 2001 and the related consolidated statements of operations, stockholders' equity and comprehensive income (loss) and cash flows for each of the years in the three-year period ended June 30, 2002, appear elsewhere in this Report. The Selected Consolidated Financial Data are qualified in their entirety by reference to, and should be read in conjunction with, the consolidated financial statements and related notes and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere in this Report. SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES FIVE-YEAR FINANCIAL SUMMARY (In thousands except per share amounts)
Year ended June 30, ------------------------------------------- OPERATING DATA 2002 2001 2000 1999 1998 ------- ------- ------- ------- ------- Revenues $74,222 $91,148 $70,252 $51,175 $44,690 Cost of goods sold 68,762 80,060 62,260 44,605 37,392 ------- ------- ------- ------- ------- Gross profit 5,460 11,088 7,992 6,570 7,298 ------- ------- ------- ------- ------- Operating expenses: Administrative and selling 10,657 7,141 5,783 5,375 4,564 Goodwill amortization 37 670 1,304 1,284 1,268 Acquisition expenses 59 - - - 609 ------- ------- ------- ------- ------- Total operating expenses 10,753 7,811 7,087 6,659 6,441 ------- ------- ------- ------- ------- Operating income (loss) (5,293) 3,277 905 (89) 857 ------- ------- ------- ------- ------- Non-operating income (expense): Interest income 12 26 166 96 47 Interest expense (1,212) (1,463) (1,057) (1,700) (1,113) Other income (expense), net 284 (84) (148) 61 (76) ------- ------- ------- ------- ------- Total non-operating expense (916) (1,521) (1,039) (1,543) (1,142) ------- ------- ------- ------- ------- Income (loss) from continuing operations before income taxes (6,209) 1,756 (134) (1,632) (285) Income tax provision (benefit) (225) (42) 100 1,202 - ------- ------- ------- ------- ------- Income (loss) from continuing operations (5,984) 1,798 (234) (2,834) (285) Income from discontinued operations, net of tax - - 254 339 778 Loss on sale of discontinued operations, net of tax - - (661) - - ------- ------- ------- ------- ------- Net income (loss) $(5,984) $ 1,798 $ (641) $(2,495) $ 493 ======= ======= ======= ======= =======
SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES FIVE-YEAR FINANCIAL SUMMARY (In thousands except per share amounts) (Continued)
Year ended June 30, ------------------------------------------- OPERATING DATA 2002 2001 2000 1999 1998 (Continued) ------- ------- ------- ------- ------- Basic earnings (loss) per share: Income (loss) from continuing operations $ (2.62) $ 0.79 $ (0.10) $ (1.60) $ (0.20) Income from discontinued operations - - 0.11 0.19 0.54 Loss on sale of discontinued operations - - (0.29) - - ------- ------- ------- ------- ------- Basic earnings (loss) per share $ (2.62) $ 0.79 $ (0.28) $ (1.41) $ 0.34 ======= ======= ======= ======= ======= Diluted earnings (loss) per share: Income (loss) from continuing operations $ (2.62) $ 0.76 $ (0.10) $ (1.60) $ (0.20) Income from discontinued operations - - 0.11 0.19 0.54 Loss on sale of discontinued operations - - (0.29) - - ------- ------- ------- ------- ------- Diluted earnings (loss) per share $ (2.62) $ 0.76 $ (0.28) $ (1.41) $ 0.34 ======= ======= ======= ======= =======
Year ended June 30, ------------------------------------------- BALANCE SHEET DATA 2002 2001 2000 1999 1998 ------- ------- ------- ------- ------- Current assets $25,253 $27,672 $30,429 $27,854 $21,505 Current liabilities $19,338 $14,294 $24,056 $23,042 $17,060 Working capital $ 5,915 $13,378 $ 6,373 $ 4,812 $ 4,445 Current ratio 1.3 1.9 1.3 1.2 1.3 Total assets $34,834 $35,932 $38,528 $39,499 $31,802 Long-term debt $10,071 $10,418 $ 4,997 $ 7,153 $ 7,186 Stockholders' equity $ 5,425 $11,220 $ 9,475 $ 9,304 $ 7,556 Equity per share $ 2.38 $ 4.92 $ 4.17 $ 4.10 $ 4.43 Shares outstanding (000s) 2,284 2,282 2,272 2,267 1,704
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS BASIS OF PRESENTATION We utilize a 52-53 week fiscal year ending on the Friday closest to June 30 which, for fiscal years 2002, 2001 and 2000, fell on June 28, June 29, and June 30, respectively. In the accompanying consolidated financial statements, the fiscal year-end for all years is shown as June 30 for clarity of presentation. Fiscal years 2002, 2001 and 2000 each consisted of 52 weeks. As more fully described in the accompanying consolidated financial statements and notes thereto, on October 24, 2001, we completed a transaction to purchase certain assets, but not assume any liabilities, of Century Electronics Manufacturing, Inc. ("Century"), an EMS company that filed for bankruptcy. As part of this transaction, we also purchased substantially all of the common stock of Century's subsidiary in Thailand. The aggregate purchase price of this transaction was approximately $3.2 million. The following discussion and analysis should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this Report. CRITICAL ACCOUNTING POLICIES In response to SEC Release No. 33-8040, "Cautionary Advice Regarding Disclosure About Critical Accounting Policies," we have identified our most critical accounting policies that require significant management judgment or involve complex estimates upon which our financial status depends. The information that follows describes specific disclosures about our accounting policies regarding risks, estimates, subjective decisions, or assessments that materially different results of operations and financial condition could have been reported had different assumptions been used or different conditions existed. REVENUE AND COST RECOGNITION--We recognize revenues and cost of sales upon shipment of products except at our Moorpark subsidiary which has historically used the percentage of completion method to recognize revenues and cost of sales on certain of its long-term contracts with suppliers of electronic components and products. Percentage of completion is determined on the basis of costs incurred to total estimated costs. Contract costs include direct material and direct labor costs and those indirect costs related to the assembly process, such as indirect labor, supplies, tools, repairs and depreciation costs. Selling and administrative costs are charged to expense as incurred. In the period in which it is determined that a loss will result from the performance of a contract, the entire amount of the estimated loss is charged to cost of goods sold. Other changes in contract price and estimates of costs and profits at completion are recognized prospectively. A change in our estimate of costs to complete could result in lower earnings than currently recorded. A portion of the asset "costs and estimated earnings in excess of billings on uncompleted contracts" contains revenues recognized in excess of amounts billed. During fiscal 2002, our Moorpark facility entered into sales contracts consistent with our other locations, and as such, recognizes revenue on these new arrangements upon shipment of products rather than on a percentage of completion method. As a result, during fiscal 2002, the Moorpark facility was recognizing revenue upon shipment of products as well as under the percentage of completion method. At June 30, 2002 there were no existing sales contracts with customers under the percentage of completion method of accounting. ACCOUNTS RECEIVABLE--We perform ongoing credit evaluations of our customers and adjust credit limits based upon each customer's payment history and current credit worthiness, as determined by credit information available at that time. We continuously monitor collections and payments from our customers and we maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. INVENTORIES--Inventories are stated at the lower of cost or net realizable value, with cost determined principally by use of the first-in, first-out method. We write down inventory for slow-moving and obsolete inventory based on assessments of future demands, market conditions and customers who may be experiencing financial difficulties. If these factors are less favorable than those projected, additional inventory write downs may be required. LONG-LIVED ASSETS--Property, equipment and improvements are stated at cost. Depreciation and amortization are computed on the straight-line method. The principal estimated useful lives are: buildings - 20 years; improvements - 5 to 10 years; and plant, office and other equipment - 3 to 7 years. Property, equipment and improvements acquired by our Northern Ireland operating unit are recorded net of capital grants received from the Industrial Development Board ("IDB") for Northern Ireland. Goodwill represents the excess of acquisition cost over the fair value of net assets of a purchased business, and is being amortized over 5 to 15 years through June 30, 2002. Amortization of goodwill will cease on July 1, 2002 when we adopt Statement of Financial Accounting Standards ("SFAS") No. 142 (see section entitled "Recent Accounting Pronouncements"). The recoverability of long-lived assets is evaluated whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, and if future undiscounted cash flows expected to result from the use of such assets are believed insufficient to recover the carrying value of the asset, the carrying value is written down to fair value in the period the impairment is identified. Factors we consider important which could trigger an impairment review include, but are not limited to, the following: - the asset's ability to continue to generate income; - loss of legal ownership or title to the asset; - significant changes in our strategic business objectives and utilization of the asset; - the impact of significant negative industry or economic trends; or - significant decrease in the market value of the asset RESULTS OF OPERATIONS The following table sets forth our comparative revenues and other operating data as percentages of revenues: Year Ended June 30, ---------------------------- 2002 2001 2000 ------ ------ ------ Revenues 100.0% 100.0% 100.0% Cost of goods sold 92.6 87.8 88.6 ----- ----- ----- Gross profit 7.4 12.2 11.4 Administrative and selling expenses 14.5 7.8 8.2 Goodwill amortization - 0.8 1.9 ----- ----- ----- Operating income (loss) (7.1) 3.6 1.3 Net interest expense (1.6) (1.6) (1.3) Other income (expense), net 0.3 (0.1) (0.2) ----- ----- ----- Income (loss) from continuing operations before income taxes (8.4) 1.9 (0.2) Income tax provision (benefit) (0.3) (0.1) 0.1 ----- ----- ----- Income (loss) from continuing operations (8.1) 2.0 (0.3) Loss from discontinued operations - - (0.6) ----- ----- ----- Net income (loss) (8.1)% 2.0% (0.9)% ===== ===== ===== FISCAL 2002 VS. 2001 Consolidated revenues for fiscal 2002 were $74.2 million compared to $91.1 million for fiscal 2001, a decrease of 19%. The decrease in revenue was primarily due to reduced demand for our services, reflecting the current downward economic and EMS market trends in the United States. During fiscal 2002, our Moorpark facility entered into sales contracts consistent with our other locations, and as such, recognizes revenue on these new arrangements upon shipment of products rather than on the percentage of completion method. Starting in the third quarter of fiscal 2001, existing customers began to defer shipments, and some cancelled orders. Consolidated gross profit for fiscal 2002 was $5.5 million (7.4% of sales) compared to $11.1 million (12.2% of sales) for fiscal 2001. Gross profit for fiscal 2002 was positively impacted by the benefit received from inventory used that was purchased at a discount from the bankruptcy of Century. Excluding the positive impact from these reduced inventory costs, we estimate that the consolidated gross profit for fiscal 2002 would have been approximately $4.3 million (5.7% of sales). We do not anticipate any additional benefit to gross margin in the future from this inventory. The decrease in gross profit and gross profit margin, excluding the purchase benefit, was due to several factors. Revenues have been declining at a faster rate than the decline in cost of sales, as fixed costs have been spread over a smaller volume of production and we have recorded a $550,000 inventory write down for excess/slow moving materials during fiscal 2002. Administrative and selling expenses for fiscal 2002 were $10.7 million compared to $7.1 million for fiscal 2001. The increase was due to selling and administrative expenses incurred in our new facilities, the expansion of our managerial and administrative staff during fiscal 2001 caused by our growth during fiscal 2001, the recognition of a $342,000 bad debt provision, the recognition of $575,000 of severance expenses, the recognition of a $785,000 loss related to the lease at our former Thousand Oaks facility and relocation expenses relating to the transition to our new San Diego and Moorpark facilities. Goodwill amortization for fiscal 2002 was $37,000 compared to $670,000 for fiscal 2001. The reduction occurred because we had fully amortized, as of December 31, 2000, the goodwill of $6.3 million, which arose from our acquisition of SMTEK, Inc. in January 1996. Total non-operating expense for fiscal 2002 was $916,000 compared to $1.5 million for fiscal 2001. The primary reason for this decrease was due to a net gain on sale of assets of $196,000 during fiscal 2002 and the decrease in interest expense as a result of lower average interest rates and lower levels of debt outstanding during fiscal 2002 as compared to fiscal 2001. We had an income tax benefit of $225,000 for fiscal 2002 compared to an income tax benefit of $42,000 for fiscal 2001. Fiscal 2002 reflects a $164,000 income tax benefit resulting from passage of the 2002 Stimulus Package providing for the recovery of our alternative minimum taxes paid in fiscal years 2000 and 2001 and a refund of $78,000 from the state of California for fiscal 2001. Without these items, we would have reported an income tax expense of $17,000 for fiscal 2002. Fiscal 2001 reflects a $218,000 income tax benefit resulting from a reduction of a recorded liability for a federal tax assessment related to prior years as discussed in Note 6 to the accompanying consolidated financial statements. Without this item, we would have reported an income tax provision of $176,000 in fiscal 2001. Our tax rate is lower than the statutory income tax rates due to the utilization of federal and state net operating loss carryforwards. During fiscal year 2001, we had utilized a majority of our California state net operating loss carryforwards, however, this ceased during fiscal year 2002 as we have incurred operating losses. Based on the level of historical losses, management believes that it does not have the basis to conclude that it is more likely than not that the deferred tax assets will be realized, and therefore, has recorded a 100% valuation allowance to offset the net deferred assets. The net loss for fiscal 2002 was $6.0 million, or $2.62 loss per diluted share compared to net income of $1.8 million for fiscal 2001, or $0.76 per diluted share. This decrease was primarily due to lower revenues and higher administrative and selling expenses, slightly offset by lower cost of sales, goodwill amortization and non-operating expense. FISCAL 2001 VS. 2000 Consolidated revenues for fiscal 2001 were $91.1 million compared to $70.3 million for fiscal 2000, an increase of approximately 30%. The increase in revenues was primarily due to an increase in business with our key customers. Consolidated gross profit for fiscal 2001 was $11.1 million (12.2% of sales) compared to $8.0 million (11.4% of sales) for fiscal 2000. The gross profit and gross margin improvement was attributable primarily to the revenue growth in fiscal 2001 compared to fiscal 2000, which caused fixed costs absorption to be spread over a larger volume of production. In addition, certain production changes were made, and the decline in materials pricing, have reduced costs. These changes had a positive impact on our gross profit and gross margin. Administrative and selling expenses increased 23% to $7.1 million for fiscal 2001 compared to $5.8 million for fiscal 2000. The increase was due primarily to expansion of our managerial and administrative staff and an increase in the allowance for doubtful accounts. However as a percentage of sales, administrative and selling expenses decreased to 7.8% in fiscal 2001 from 8.2% in fiscal 2000, due mainly to our growth in revenues. Goodwill amortization decreased to $670,000 for fiscal 2001 from $1.3 million for fiscal 2000. The reduction occurred because we had fully amortized, as of December 31, 2000, the goodwill of $6.3 million, which arose from our acquisition of our Thousand Oaks subsidiary in January 1996. Total non-operating expense was $1.5 million for fiscal 2001 compared to $1.0 million for fiscal 2000. The primary reason for this increase was due to an increase in total interest expense. Total interest expense was $1.5 million for fiscal 2001 compared to $1.1 million for fiscal 2000. There are two reasons for the increased interest expense. First, we had higher line of credit borrowings due mainly to our growth, and an increased need for working capital, principally in higher inventory levels. Second, the average interest rates on our new equipment notes and leases entered into during the beginning of fiscal year 2001, ranged from 7.9% to 9.4%, were higher on average than fiscal 2000, with interest rates ranging from 6.5% to 8.4%. We had an income tax benefit of $42,000 in fiscal 2001 compared to income tax expense of $100,000 for fiscal 2000. As discussed above, the fiscal 2001 income tax benefit of $218,000 resulting from the reduction of the recorded liability for a federal tax assessment related to prior years. Without this, we would have reported an income tax provision of $176,000 compared to an income tax provision of $100,000 in fiscal 2000. The income tax expense for fiscal 2000 consists of Florida state income tax, as well as U.S. federal and California alternative minimum income taxes. The income tax provision amounts, after taking into account the nondeductibility of the goodwill amortization, are less than the statutory income tax rates due to the utilization of federal net operating loss carryforwards. Income from continuing operations was $1.8 million for fiscal 2001, or $0.76 per diluted share, compared to a loss from continuing operations in fiscal 2000 of $234,000, or $0.10 per diluted share. The improvement was due to increased gross profit which, was partially offset by increases in administrative and selling expenses and interest expense. RECENT ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 141, "Business Combinations." SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001, as well as for all purchase method business combinations completed after June 30, 2001. In addition, SFAS No. 141 specifies the criteria for intangible assets acquired in a purchase method business combination to be recognized and reported apart from goodwill. We have adopted SFAS No. 141. In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment, at least annually, in accordance with the provisions of SFAS No. 142. SFAS No. 142 will also require that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and SFAS No. 144 (see below) upon adoption. We will adopt SFAS No. 142 as of July 1, 2002. We are assessing the impact of SFAS No. 142. In October 2001 the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 replaces SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of." The primary objectives of SFAS No. 144 were to develop one accounting model, based on the framework established in SFAS No. 121, for long-lived assets to be disposed of by sale and to address other significant implementation issues. While SFAS No. 144 supersedes SFAS No. 121, it retains many of the fundamental provisions of SFAS No. 121. SFAS No. 144 is effective for financial statements issued for fiscal years beginning after December 15, 2001. We will adopt SFAS No. 144 as of July 1, 2002. We are assessing the impact of SFAS No. 144. In July 2002 the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 nullifies Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." SFAS No. 146 requires that a liability be recognized for those costs only when the liability is incurred, that is, when it meets the definition of a liability in the FASB's conceptual framework. SFAS No. 146 also establishes fair value as the objective for initial measurement of liabilities related to exit or disposal activities. SFAS No. 146 is effective for exit or disposal activities that are initiated after December 31, 2002, with earlier adoption encouraged. We do not expect the adoption of SFAS No. 146 will have a material impact on our financial position or results of operations. LIQUIDITY AND CAPITAL RESOURCES Our primary sources of liquidity are our cash and cash equivalents, which amounted to $816,000 at the end of fiscal 2002, and amounts available under our bank lines of credit, which provided approximately $4.1 million of availability in excess of current borrowings at June 30, 2002. During fiscal 2002, cash and cash equivalents increased by $592,000. This increase resulted from cash provided by operations of $2.8 million and net proceeds from financing of $1.5 million, offset by $3.9 million for capital expenditures, inclusive of the purchased Century assets. Net cash provided by operating activities of $2.8 million for fiscal 2002 was attributable to a decrease of $8.0 million in costs and estimated earnings in excess of billings on uncompleted contracts and an increase in accounts payable of $1.9 million, offset by an increase in inventories of $3.9 million and a net loss of $6.0 million. Net cash used in investing activities was $3.7 million for fiscal 2002 compared to net cash used in investing activities of $487,000 for fiscal 2001. We utilized cash of $3.9 million and $506,000 for capital expenditures for fiscal 2002 and 2001, respectively. Amounts financed by notes payable and capital leases were approximately $2.5 million and $2.6 million for fiscal 2002 and 2001, respectively, inclusive of $1.3 million for the purchase of Century assets in fiscal 2002. In addition, in fiscal 2002, we utilized cash of $129,000 to purchase the common stock of Century's subsidiary in Thailand. Our subsidiaries require continuing investment in plant and equipment to remain competitive as technology evolves and to increase production capacity to accommodate business growth and expansion. Net cash provided by financing activities was $1.5 million for fiscal 2002 compared to cash used in financing activities of $3.0 million for fiscal 2001. As discussed further in Note 5 to the notes to the consolidated financial statements, we have bank lines of credit to finance the working capital requirements of our domestic and foreign operations. At June 30, 2002, we had approximately $4.1 million available to borrow under our revolving bank lines of credit. At June 30, 2002, we have a credit facility for our domestic operating units, which consisted of an $11 million working capital line secured by accounts receivable, inventory and equipment. Borrowings under the credit agreement bear interest at either the bank's prime rate (4.75% at June 30, 2002) plus 0.50% or a Eurodollar-base rate (1.86% at June 30, 2002) plus 3.25%. At June 30, 2002, borrowings outstanding under this credit facility amounted to $4.0 million and the effective weighted average interest rate was 5.16%. The line of credit agreement contains certain financial covenants, with which we were in compliance at June 30, 2002 (see also discussion below). Our available borrowing capacity as of June 30, 2002 was approximately $4.1 million. This credit facility matures September 25, 2003. At December 31, 2001, we violated certain covenants in our domestic line of credit agreement with our bank. In February 2002, the bank waived these covenant violations. At March 31, 2002, we violated certain covenants in our domestic line of credit agreement. In May 2002, the bank either removed or amended the related restricted covenants in an amendment to the credit agreement. At June 30, 2002, we were in compliance with the amended covenants to the credit agreement. In anticipation of future projected covenant violations, during September 2002, we amended the May 2002 covenants with the bank. Under the terms of this new amendment, our interest rates have been amended to the bank's prime rate plus 0.75%, or a Eurodollar-base rate plus 3.50%. In addition, had the provisions of the September amendment been in effect at June 30, 2002, our availability would have been $3.5 million at June 30, 2002. In the event of default under our line of credit agreement, any and all outstanding borrowings would be immediately due and payable. In addition, during fiscal 2002 we have borrowed $1.6 million on our equipment line of credit to finance our capital expenditures. At June 30, 2002, the balance outstanding was $1.1 million. This advance has a maturity date of October 24, 2006. Interest is at either the bank's prime rate plus 0.50% or at a Eurodollar-base rate plus 3.25%. The effective weighted average interest rate was 5.12% at June 30, 2002. Additional advances under our equipment line of credit will not be available to us until a review by the bank at a future date. We anticipate that additional expenditures of as much as $1.0 million may be incurred during fiscal 2003, primarily to improve production efficiency at all our subsidiaries. A substantial portion of these capital expenditures are expected to be financed by our line of credit or other notes/leases payable. We also have a credit facility agreement with Ulster Bank Markets for our Northern Ireland operating company. This agreement consists of an accounts receivable revolver, with maximum borrowings equal to the lesser of 75% of eligible receivables or 2,500,000 British pounds sterling (approximately $3,825,000 at June 30, 2002), and bears interest at the bank's base rate (4.00% at June 30, 2002) plus 2.00%. At June 30, 2002, borrowings outstanding under this credit facility amounted to approximately $3.2 million and there was nominal available borrowing capacity. The credit facility agreement with Ulster Bank Markets expires November 30, 2002. At June 30, 2002, the aggregate amounts of minimum maturities of long- term debt, capital lease obligations and operating lease obligations are as follows (in thousands): Long-Term Debt Operating and Capital Leases Leases ------------------ --------- Fiscal 2003 $2,527 $ 2,569 Fiscal 2004 1,684 2,609 Fiscal 2005 1,399 2,443 Fiscal 2006 639 2,022 Fiscal 2007 204 2,034 Thereafter 2,140 8,476 ------ ------- $8,593 $20,153 ====== ======= In July 2002, we entered into a $900 per month vehicle lease which terminates in June 2006. Also in July 2002, our Thailand operation renewed their facility lease for a two year term, which terminates in August 2004. Monthly payments are approximately $8,000 a month. At June 30, 2002, the ratio of current assets to current liabilities was 1.3 to 1.0 compared to 1.9 to 1.0 at June 30, 2001. The decrease in the working capital ratio was due to decreases in our cost and estimated earnings in excess of billings balance offset by increases in our inventory, accounts payable and working capital line of credit balances. At June 30, 2002, we had $5.9 million of working capital. At June 30, 2002, we had long-term borrowings of $10.1 million compared to $10.4 million at June 30, 2001. SMTEK San Diego moved into a new leased facility in Poway, California, near the city of San Diego, on July 16, 2001. The new facility is approximately 45,000 square feet. The former facility was located in El Cajon, another city near San Diego. The former facility was approximately 20,000 square feet. On October 8, 2001, the landlord for the El Cajon facility released SMTEK San Diego from its lease for that facility. As a result of the acquisition of Century assets, we entered into an eight year lease of a 69,400 square foot facility in Marlborough, Massachusetts and we also entered into a seven month lease, subject to an option for a long-term extension, of a 44,700 square foot facility in Santa Clara, California. The current month base rents are approximately $33,000 and $32,000 for Marlborough and Santa Clara, respectively. SMTEK Moorpark has moved to a remodeled facility in Moorpark, California, from its former location in Thousand Oaks. The Thousand Oaks building is being marketed for a subtenant. This lease does not expire until May 31, 2004. We currently expect to sublease the Thousand Oaks building. If we are unable to find a subtenant, we will be responsible for cost and expenses associated with holding a vacant building in addition to amounts under the lease agreements. During fiscal 2002, we recognized approximately $785,000 in administrative and selling expenses related to the write off of leasehold improvements and holding expenses related to the maintenance of the now vacant building. Monthly rent for the Thousand Oaks building is approximately $35,000. As more fully described in Note 6 to the notes to our consolidated financial statements, we have a federal tax assessment liability of approximately $1.1 million and a related accrued interest liability of approximately $1.1 million, which reflect the results of a settlement with the IRS Appeals Division in December 2001. We are currently seeking an installment payment plan with the IRS. On October 24, 2001, we completed a transaction to purchase certain assets, but did not assume liabilities, of Century, an EMS company that filed for bankruptcy. As part of this transaction, we also purchased substantially all of the common stock of Century's subsidiary in Thailand. The aggregate purchase price was approximately $3.2 million in cash and was funded by our bank lines of credit. Approximately $1.5 million was funded by our domestic working capital line of credit and approximately $1.6 million was funded by our equipment line of credit. Specifically, we purchased from Century certain equipment and machinery for approximately $1.4 million and inventory for approximately $900,000. We have and will continue to use some of the purchased assets at our other locations. We negotiated new facility leases in Marlborough, Massachusetts and Santa Clara, California and began operations in Marlborough and Santa Clara in connection with the purchase of these assets. Also, as part of the Century agreement we purchased the common stock of the Century subsidiary in Thailand for approximately $900,000. There can be no assurance that the equipment, machinery and inventory purchased will be productive or useful to us. If we have to sell such equipment, machinery or inventory, we can give no assurance that there will be sufficient value received by us. There also can be no assurance that the common stock of the Thailand operation will have significant value if the foreign operation is not profitable in the future. We may not be able to successfully integrate the new facilities and operations into our overall business. We may not secure sufficient business in the facilities being opened in New England, Santa Clara and Thailand. Also, our debt-to-equity ratio may be adversely affected if the new facilities continue to not be profitable or cash flow positive. If any adverse event related to these additional risk factors arising out of the Century transaction, or the concurrent development of our facilities, occurs, either alone, in conjunction with each other or in conjunction with one or more of the risk factors identified in our other filings with the SEC, there could be an adverse result in our operations or financial condition. We may continue to experience an adverse effect on our operating results and in our financial condition if current economic conditions continue for an extended period of time, despite our cost reduction measures and efficiency improvements made at our operating subsidiaries. For further discussion, see section entitled "Risk Factors That May Affect Your Decision to Invest In Us" in our 2002 Form 10-K. Management believes that our cash resources, cash from operations and available borrowing capacity on our working capital lines of credit are sufficient to fund operations for at least the next 12 months. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our financial instruments include cash and cash equivalents, accounts receivable, and short-term and long-term debt. At June 30, 2002, the carrying amount of long-term debt (including the current portion thereof but excluding the bank lines of credit) was $8.6 million and the fair value was $8.1 million. The carrying values of our other financial instruments approximated their fair values. The fair value of our financial instruments is estimated based on quoted market prices for the same or similar issues. See Note 5 to the accompanying consolidated financial statements for maturities of long-term debt for the next five years. A change in interest rates of one percent would result in an annual impact on interest expense of approximately $100,000. It is our policy not to enter into derivative financial instruments for speculative purposes. We may, from time to time, enter into foreign currency forward exchange contracts in an effort to protect us from adverse currency rate fluctuations on foreign currency commitments entered into in the ordinary course of business. These commitments are generally for terms of less than one year. The foreign currency forward exchange contracts are executed with banks believed to be creditworthy and are denominated in currencies of major industrial countries. In accordance with SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," all derivative financial instruments are measured at fair value and are recognized as either assets or liabilities in the balance sheet. The accounting treatment of changes in fair value is dependent upon whether or not a derivative financial instrument is designated as a hedge and, if so, the type of hedge. Changes in fair value are recognized in current results of operations for fair value hedges and in other comprehensive income for cash flow hedges. Derivative financial instruments not qualifying for hedge accounting treatment under SFAS No. 133 are recognized as assets or liabilities with gains or losses recognized in current results of operations. At June 30, 2002 we had forward foreign currency contracts to sell $1.3 million for approximately 870,000 British pounds sterling between July 12, 2002 through December 24, 2002. The U.S. dollar to British pounds sterling exchange rate at June 30, 2002 was 1.53. These forward foreign currency contracts are designated as cash flow hedge instruments. In accordance with SFAS No. 133, we recognized a gain of $72,000 in other comprehensive income at June 30, 2002, related to these contracts. Our operations consists of investments in foreign operating units. Our foreign subsidiaries represent approximately 15% of our revenues and 26% of our total assets. As a result, our financial results have been and may continue to be affected by changes in foreign currency exchange rates. INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders SMTEK International, Inc.: We have audited the accompanying consolidated balance sheets of SMTEK International, Inc. and subsidiaries ("the Company") as of June 30, 2002 and 2001, and the related consolidated statements of operations, cash flows and stockholders' equity and comprehensive income (loss) for each of the years in the three-year period ended June 30, 2002. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of SMTEK International, Inc. and subsidiaries as of June 30, 2002 and 2001, and the results of their operations and their cash flows for each of the years in the three-year period ended June 30, 2002 in conformity with accounting principles generally accepted in the United States of America. /s/ KPMG LLP Los Angeles, California August 16, 2002, except for the third paragraph of note 5 to the consolidated financial statements, which is as of September 25, 2002 SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES Consolidated Balance Sheets (In thousands except share amounts)
June 30, ---------------------- 2002 2001 --------- --------- Assets Current assets: Cash and cash equivalents $ 816 $ 224 Accounts receivable, less allowance for doubtful accounts of $380 and $407 in 2002 and 2001, respectively 12,351 11,905 Costs and estimated earnings in excess of billings on uncompleted contracts - 7,965 Inventories, net 11,223 6,833 Prepaid expenses 863 745 -------- -------- Total current assets 25,253 27,672 -------- -------- Property, equipment and improvements, net of accumulated depreciation and amortization 8,809 7,319 Other assets 772 941 -------- -------- $ 34,834 $ 35,932 ======== ======== Liabilities and Stockholders' Equity Current liabilities: Current portion of bank lines of credit payable $ 3,223 $ 1,468 Current portion of long-term debt 2,527 2,109 Accounts payable 8,652 6,161 Income taxes payable 859 1,128 Other accrued liabilities 4,077 3,428 -------- -------- Total current liabilities 19,338 14,294 -------- -------- Long-term liabilities: Long-term bank lines of credit payable 4,005 4,638 Long-term debt 6,066 5,780 -------- -------- Total long-term liabilities 10,071 10,418 -------- -------- Commitments and contingencies Stockholders' equity: Preferred stock, $1 par value; 1,000,000 shares authorized; no shares issued or outstanding - - Common Stock, $.01 par value; 3,750,000 shares authorized; 2,284,343 and 2,282,339 shares issued and outstanding in 2002 and 2001, respectively 23 23 Additional paid-in capital 37,028 37,018 Accumulated deficit (31,616) (25,632) Accumulated other comprehensive loss (10) (189) -------- -------- Total stockholders' equity 5,425 11,220 -------- -------- $ 34,834 $ 35,932 ======== ========
See accompanying notes to consolidated financial statements. SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES Consolidated Statements of Operations (In thousands except per share amounts)
Year ended June 30, ------------------------------ 2002 2001 2000 -------- -------- -------- Revenues $74,222 $91,148 $70,252 Cost of goods sold 68,762 80,060 62,260 ------- ------- ------- Gross profit 5,460 11,088 7,992 ------- ------- ------- Operating expenses: Administrative and selling 10,716 7,141 5,783 Goodwill amortization 37 670 1,304 ------- ------- ------- Total operating expenses 10,753 7,811 7,087 ------- ------- ------- Operating income (loss) (5,293) 3,277 905 ------- ------- ------- Non-operating income (expense): Interest income 12 26 166 Interest expense (1,212) (1,463) (1,057) Other income (expense), net 284 (84) (148) ------- ------- ------- Total non-operating expense (916) (1,521) (1,039) ------- ------- ------- Income (loss) from continuing operations before income taxes (6,209) 1,756 (134) Income tax provision (benefit) (225) (42) 100 ------- ------- ------- Income (loss) from continuing operations (5,984) 1,798 (234) Income from discontinued operations, net of tax - - 254 Loss on sale of discontinued operations, net of tax - - (661) ------- ------- ------- Net income (loss) $(5,984) $ 1,798 $ (641) ======= ======= ======= Basic earnings (loss) per share: Income (loss) from continuing operations $ (2.62) $ 0.79 $ (0.10) Income from discontinued operations - - 0.11 Loss on sale of discontinued operations - - (0.29) ------- ------- ------- Net income (loss) $ (2.62) $ 0.79 $ (0.28) ======= ======= ======= Diluted earnings (loss) per share: Income (loss) from continuing operations $ (2.62) $ 0.76 $ (0.10) Income from discontinued operations - - 0.11 Loss on sale of discontinued operations - - (0.29) ------- ------- ------- Net income (loss) $ (2.62) $ 0.76 $ (0.28) ======= ======= ======= Shares used in computing basic and diluted earnings (loss) per share: Basic 2,284 2,277 2,270 ======= ======= ======= Diluted 2,284 2,379 2,270 ======= ======= =======
See accompanying notes to consolidated financial statements. SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows (In thousands)
Year ended June 30, ------------------------------ 2002 2001 2000 -------- -------- -------- Cash flows from operating activities: Net income (loss) $(5,984) $ 1,798 $ (641) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization 2,543 2,987 3,340 Loss on sale of discontinued operations - - 661 Gain on sale of assets (196) - - (Increase) decrease in accounts receivable 165 1,166 (5,104) (Increase) decrease in costs and estimated earnings in excess of billings on uncompleted contracts 7,965 2,291 (4,019) Increase in inventories (3,862) (918) (1,056) Increase (decrease) in accounts payable 1,947 (2,875) (927) Increase (decrease) in other accrued liabilities 246 (535) 6 Other, net (21) (703) 55 ------- ------- ------- Net cash provided by (used in) operating activities 2,803 3,211 (7,685) ------- ------- ------- Cash flows from investing activities: Capital expenditures (3,880) (506) (2,241) Net proceeds from sale of discontinued operations - - 2,689 Purchase of Century Thailand, net of cash received (129) - - Proceeds from sale of assets 325 19 155 ------- ------- ------- Net cash provided by (used in) investing activities (3,684) (487) 603 ------- ------- ------- Cash flows from financing activities: Proceeds from (repayments of) bank lines of credit 892 (1,309) 3,806 Proceeds of long-term debt 2,465 - - Repayments from long-term debt (1,907) (1,741) (1,498) Proceeds from the exercise of stock options 7 22 - Proceeds from foreign government grants - - 247 ------- ------- ------- Net cash provided by (used in) financing activities 1,457 (3,028) 2,555 ------- ------- ------- Effect of exchange rate changes on cash 16 (4) 62 ------- ------- ------- Increase (decrease) in cash and cash equivalents 592 (308) (4,465) Cash and cash equivalents at beginning of year 224 532 4,997 ------- ------- ------- Cash and cash equivalents at end of year $ 816 $ 224 $ 532 ======= ======= ======= Supplemental cash flow information: Interest paid $ 889 $ 1,179 $ 1,076 Income taxes paid $ 45 $ 194 $ 823 Non-cash investing activities: Capital expenditures financed by lease obligations and notes payable $ - $ 2,591 $ 1,110 Other $ 1 $ 25 $ 89
See accompanying notes to consolidated financial statements.
SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss) Years ended June 30, 2002, 2001 and 2000 (In thousands except share amounts) Common Stock Accumulated --------------- Additional other Total Par paid-in Accumulated comprehensive stockholders' Shares value capital deficit income (loss) equity --------- ----- ---------- ----------- ------------- ------------- Balance at June 30, 1999 2,267,455 $23 $36,948 $(26,789) $(878) $ 9,304 Comprehensive income: Net loss - - - (641) - (641) Foreign currency translation adjustments - - - - 32 32 Reclassification of foreign currency translation adjustments included in loss on sale of discontinued operations - - - - 756 756 --------- --- ------- -------- ----- ------- Total comprehensive income - - - (641) 788 147 Other 4,557 - 24 - - 24 --------- --- ------- -------- ----- ------- Balance at June 30, 2000 2,272,012 23 36,972 (27,430) (90) 9,475 Comprehensive income: Net income - - - 1,798 - 1,798 Foreign currency translation adjustments - - - - (99) (99) --------- --- ------- -------- ----- ------- Total comprehensive income - - - 1,798 (99) 1,699 Other 10,327 - 46 - - 46 --------- --- ------- -------- ----- ------- Balance at June 30, 2001 2,282,339 23 37,018 (25,632) (189) 11,220 Comprehensive loss: Net loss - - - (5,984) - (5,984) Foreign currency translation adjustments - - - - 107 107 Unrealized gain on forward contracts - - - - 72 72 --------- --- ------- -------- ----- ------- Total comprehensive loss - - - (5,984) 179 (5,805) Other 2,004 - 10 - - 10 --------- --- ------- -------- ----- ------- Balance at June 30, 2002 2,284,343 $23 $37,028 $(31,616) $ (10) $ 5,425 ========= === ======= ======== ===== =======
See accompanying notes to consolidated financial statements. SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Description of Business SMTEK International, Inc. (the "Company," "we," "us" or "our") is an electronics manufacturing services ("EMS") provider to original equipment manufacturers ("OEMs") primarily in the industrial and instrumentation, medical, telecommunications, security, financial services automation and aerospace and defense industries. We provide integrated solutions to OEMs across the entire product life cycle, from design to manufacturing to end-of- life services, for the worldwide low-to-medium volume, high complexity segment of the EMS industry. We have seven wholly owned subsidiaries: SMTEK, Inc. (dba SMTEK Moorpark), located in Moorpark, California; Technetics, Inc. (dba SMTEK San Diego), located in Poway, California; Jolt Technology, Inc. (aka SMTEK Fort Lauderdale), located in Fort Lauderdale, Florida; SMTEK Europe Limited, located in Craigavon, Northern Ireland; SMTEK New England, located in Marlborough, Massachusetts; SMTEK Santa Clara, located in Santa Clara, California; and SMTEK International Thailand Limited, located in Ayutthya, Thailand. As more fully described in Note 2, on October 24, 2001, we completed a transaction to purchase certain assets, but not assume any liabilities, of Century Electronics Manufacturing, Inc. ("Century"), an EMS company that filed for bankruptcy. As part of this transaction, we also purchased substantially all of the common stock of Century's subsidiary in Thailand. The aggregate purchase price of this transaction was approximately $3.2 million. On November 12, 1999, we sold our printed circuit board ("PCB") operation, Irlandus Circuits Ltd. ("Irlandus"). The results of operations of Irlandus, which represented a separate segment of our business, are shown as a discontinued operation for all periods presented in the accompanying consolidated financial statements. See Note 3 for additional details of this transaction. Certain reclassifications have been made to the fiscal year 2001 and 2000 financial statements to conform with the fiscal year 2002 financial statement presentation. Such reclassifications had no effect on our results of operations or stockholders' equity. Accounting Period We utilize a 52-53 week fiscal year ending on the Friday closest to June 30 which, for fiscal years 2002, 2001 and 2000, fell on June 28, June 29 and June 30, respectively. In these consolidated financial statements, the fiscal year-end for all years is shown as June 30 for clarity of presentation, except where the context dictates a more specific reference to the actual year-end date. Fiscal 2002, 2001 and 2000 consisted of 52 weeks. Cash Equivalents For financial reporting purposes, cash equivalents consist primarily of money market instruments and bank certificates of deposit that have original maturities of three months or less. Fair Value of Financial Instruments As of June 30, 2002, the carrying amount of our cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities and bank lines of credit approximate their fair value because of the short maturity of those instruments. At June 30, 2002 and 2001, the carrying amount of long-term debt (including the current portion thereof but excluding the bank lines of credit) was $8.6 million and $7.9 million, respectively, and the fair value was $8.1 million and $7.4 million, respectively. The fair value of our long-term debt is estimated based on the quoted market prices for the same or similar issues or on the current rates offered to us for debt of the same remaining maturities. All financial instruments are held for purposes other than trading. Concentrations of Credit Risk Financial instruments that potentially subject us to concentrations of credit risk consist principally of money market instruments and trade receivables. Cash is invested in money market instruments and certificates of deposit with high credit quality financial institutions and, by policy, we limit the amount of credit exposure to any one issuer. Concentrations of credit risk with respect to trade receivables exist because our EMS operations rely heavily on a relatively small number of customers. We perform ongoing credit evaluations of our customers and generally do not require collateral. We maintain reserves for potential credit losses and such losses, to date, have been within management's expectations. At June 30, 2002, we had one customer representing approximately 12% of our accounts receivables balance. Inventories Inventories are stated at the lower of cost or net realizable value, with cost determined principally by use of the first-in, first-out method. Inventories consist of the following (in thousands): June 30, ------------------- 2002 2001 ------- ------ Raw materials $ 7,553 $3,929 Work in process 3,174 2,700 Finished goods 496 204 ------- ------ Total inventories $11,223 $6,833 ======= ====== Long-Lived Assets Property, equipment and improvements are stated at cost. Depreciation and amortization are computed on the straight-line method. The principal estimated useful lives are: buildings - 20 years; improvements - 5 to 10 years; and plant, office and other equipment - 3 to 7 years. Property, equipment and improvements acquired by our Northern Ireland operating unit are recorded net of capital grants received from the Industrial Development Board ("IDB") for Northern Ireland. Fixed assets consist of the following (in thousands): June 30, -------------------- 2002 2001 -------- -------- Buildings and improvements $ 3,980 $ 2,827 Plant equipment 16,243 13,691 Office and other equipment 2,941 2,614 Less accumulated depreciation and amortization (14,355) (11,813) -------- -------- Total property, equipment and improvements $ 8,809 $ 7,319 ======== ======== Goodwill represents the excess of acquisition cost over the fair value of net assets of a purchased business, and is being amortized over 5 to 15 years through June 30, 2002. Goodwill of $420,000 and $457,000 is included in "Other assets" at June 30, 2002 and 2001, respectively. The recoverability of long-lived assets is evaluated whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, and if future undiscounted cash flows expected to result from the use of such assets are believed insufficient to recover the carrying value of the asset, the carrying value is written down to fair value in the period the impairment is identified. Revenue and Cost Recognition All of our subsidiaries, except for our Moorpark subsidiary, recognize revenues and cost of sales upon shipment of products. We ship products FOB shipping point and accordingly, title and risk of ownership pass to the customer upon shipment. The Moorpark facility has historically generated a significant portion of its revenue through long-term contracts with suppliers of electronic components and products. Consequently, this operating unit has historically used the percentage of completion method to recognize revenues and cost of sales. Percentage of completion is determined on the basis of costs incurred to total estimated costs. Contract costs include direct material and direct labor costs and those indirect costs related to the assembly process, such as indirect labor, supplies, tools, repairs and depreciation costs. Selling and administrative costs are charged to expense as incurred. In the period in which it is determined that a loss will result from the performance of a contract, the entire amount of the estimated loss is charged to cost of goods sold. Other changes in contract price and estimates of costs and profits at completion are recognized prospectively. The asset "costs and estimated earnings in excess of billings on uncompleted contracts" represents revenues recognized in excess of amounts billed. During fiscal 2002, our Moorpark facility entered into sales contracts consistent with our other locations, and as such, recognizes revenue on these new arrangements upon shipment of products rather than on a percentage of completion method. As a result, during fiscal 2002, the Moorpark facility was recognizing revenue upon shipment of product as well as under the percentage of completion method. At June 30, 2002 there were no existing sales contracts with customers under the percentage of completion method of accounting. In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements." The objective of SAB No. 101 is to provide further guidance on revenue recognition issues in the absence of authoritative literature addressing a specific arrangement or a specific industry. We adopted SAB No. 101 in the fourth quarter of fiscal year 2001. Income Taxes Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the expected future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. In estimating future tax consequences, all expected future events other than enactments of changes in tax law or statutorily imposed rates are considered. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recorded to reduce deferred tax assets to their estimated realizable amount. Earnings (Loss) Per Share Basic earnings (loss) per share is computed by dividing net income (loss) available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per share reflects the potential dilution that could occur if securities or other contracts to issue Common Stock were exercised or converted into Common Stock or resulted in the issuance of Common Stock that then shared in our earnings (losses). Foreign Currency Translation The financial statements of our foreign operating units have been translated into U.S. dollars from their functional currencies, British pounds sterling or the Thai Baht, in the accompanying consolidated financial statements. Balance sheet amounts have been translated at the exchange rate on the balance sheet date and income statement amounts have been translated at average exchange rates in effect during the period. The net translation adjustment is recorded as a separate component of stockholders' equity. It is our policy not to enter into derivative financial instruments for speculative purposes. We may, from time to time, enter into foreign currency forward exchange contracts in an effort to protect us from adverse currency rate fluctuations on foreign currency commitments entered into in the ordinary course of business. These commitments are generally for terms of less than one year. The foreign currency forward exchange contracts are executed with banks believed to be creditworthy and are denominated in currencies of major industrial countries. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities," all derivative financial instruments are measured at fair value and are recognized as either assets or liabilities in the balance sheet. The accounting treatment of changes in fair value is dependent upon whether or not a derivative financial instrument is designated as a hedge and, if so, the type of hedge. Changes in fair value are recognized in current results of operations for fair value hedges and in other comprehensive income for cash flow hedges. Derivative financial instruments not qualifying for hedge accounting treatment under SFAS No. 133 are recognized as assets or liabilities with gains or losses recognized in current results of operations. At June 30, 2002 we had forward foreign currency contracts to sell $1.3 million for approximately 870,000 British pounds sterling between July 12, 2002 through December 24, 2002. The U.S. dollar to British pounds sterling exchange rate at June 30, 2002 was 1.53. These forward foreign currency contracts are designated as cash flow hedge instruments. In accordance with SFAS No. 133, we recognized a gain of $72,000 in other comprehensive income at June 30, 2002, related to these contracts. Use Of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Stock Based Compensation SFAS No. 123, "Accounting for Stock-Based Compensation" allows entities to continue to apply the provisions of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and provide pro forma net income and pro forma earnings per share disclosures for stock-based awards as if the fair-value-based method defined in SFAS No. 123 had been applied. In accordance with APB Opinion No. 25 and related interpretations, compensation expense would generally be recorded for fixed option grants only if, on the date of grant, the current market price of the underlying stock exceeded the exercise price. We have elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS No. 123. Recent Accounting Pronouncements In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 141, "Business Combinations." SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001, as well as for all purchase method business combinations completed after June 30, 2001. In addition, SFAS No. 141 specifies the criteria for intangible assets acquired in a purchase method business combination to be recognized and reported apart from goodwill. We have adopted SFAS No. 141. In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment, at least annually, in accordance with the provisions of SFAS No. 142. SFAS No. 142 will also require that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and SFAS No. 144 (see below) upon adoption. We will adopt SFAS No. 142 as of July 1, 2002. We are assessing the impact of SFAS No. 142. In October 2001 the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 replaces SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of." The primary objectives of SFAS No. 144 were to develop one accounting model, based on the framework established in SFAS No. 121, for long-lived assets to be disposed of by sale and to address other significant implementation issues. While SFAS No. 144 supersedes SFAS No. 121, it retains many of the fundamental provisions of SFAS No. 121. SFAS No. 144 is effective for financial statements issued for fiscal years beginning after December 15, 2001. We will adopt SFAS No. 144 as of July 1, 2002. We are assessing the impact of SFAS No. 144. In July 2002 the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 nullifies Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." SFAS No. 146 requires that a liability be recognized for those costs only when the liability is incurred, that is, when it meets the definition of a liability in the FASB's conceptual framework. SFAS No. 146 also establishes fair value as the objective for initial measurement of liabilities related to exit or disposal activities. SFAS No. 146 is effective for exit or disposal activities that are initiated after December 31, 2002, with earlier adoption encouraged. We do not expect the adoption of SFAS No. 146 will have a material impact on our financial position or results of operations. NOTE 2 - ACQUISITION OF THE ASSETS OF CENTURY ELECTRONICS MANUFACTURING, INC. On October 24, 2001, we completed a transaction to purchase certain assets, but not assume any liabilities, of Century, an EMS company that filed for bankruptcy. As part of this transaction, we also purchased substantially all of the common stock of Century's subsidiary in Thailand. The aggregate purchase price of this transaction was approximately $3.2 million in cash and was funded by our existing long-term bank lines of credit. Specifically, we purchased from Century certain equipment and machinery for approximately $1.4 million and inventory for approximately $900,000. We have and will continue to utilize some of the purchased assets at our other locations. We negotiated new facility leases in Marlborough, Massachusetts and Santa Clara, California and began operations in Marlborough and Santa Clara in connection with the purchase of these assets. As part of the Century agreement we purchased the common stock of the Century subsidiary in Thailand ("Century Thailand") for approximately $900,000. The acquisition of the Thailand subsidiary provides us with a low cost manufacturing facility in Southeast Asia. The acquisition of Century Thailand was accounted for using the purchase method of accounting and, accordingly, the statements of condensed consolidated operations include the results of the Thailand subsidiary from the date of acquisition. The assets acquired and liabilities assumed were recorded at fair value as determined by us based on information currently available. A summary of the assets acquired and the liabilities assumed in the acquisition is as follows (in thousands): Estimated fair values: Assets acquired $1,392 Liabilities assumed 476 Purchase price $ 916 Less cash received 787 ------ Net cash paid $ 129 ====== Unaudited pro forma results of operations for the fiscal years ended June 30, 2002, 2001 and 2000, as if the acquisition of the Thailand subsidiary had occurred at the beginning of the period reported, follow (dollars in thousands). The unaudited pro forma results are not necessarily indicative of the results which would have occurred if the business combination had occurred on the date indicated: Years Ended June 30, ------------------------------- 2002 2001 2000 ------- ------- ------- (Unaudited) Revenue $75,542 $98,848 $73,521 ======= ======= ======= Net income (loss) $(5,921) $ 1,097 $(1,175) ======= ======= ======= Earnings (loss) per share: Basic $ (2.59) $ 0.48 $ (0.52) ======= ======= ======= Diluted $ (2.59) $ 0.46 $ (0.52) ======= ======= ======= NOTE 3 - DISCONTINUED OPERATIONS On November 12, 1999, we sold Irlandus, our PCB fabrication operation in Northern Ireland. The purchase price was negotiated on an arms length basis between us and the purchaser, a management buy-out team. The gross sales proceeds in the aggregate amount of 2.8 million British pounds sterling (approximately $4.5 million) consisted of a cash dividend of 500,000 British pounds sterling paid by Irlandus just prior to closing and cash of 2.3 million British pounds sterling paid by the purchaser at closing. After giving consideration to disposal costs and the cash of approximately $1.5 million which stayed with the divested operation, the net cash proceeds of this transaction amounted to approximately $2.7 million. Irlandus was the sole operating unit comprising our PCB segment. Accordingly, operating results for Irlandus have been presented in the accompanying consolidated statements of operations as a discontinued operation, and are summarized as follows (in thousands): Year Ended June 30, 2000 ------------------------ Net sales $3,383 Operating income $ 131 Income from discontinued operations, net of tax $ 254 Net assets of Irlandus consisted of the following (in thousands): November 12, 1999 (sale date) ----------------------------- Current assets $ 4,099 Property, equipment and improvements 3,447 Current liabilities (2,081) Long-term debt (1,314) ------- Net assets $ 4,151 ======= The loss on sale of Irlandus, shown in the accompanying consolidated statements of operations, stockholders' equity and comprehensive income (loss) and cash flows as "Loss on sale of discontinued operations", is comprised as follows (in thousands): Gross sales proceeds $ 4,523 Less disposal costs (277) ------- Net sales proceeds 4,246 Less net assets of Irlandus (4,151) ------- Gain on sale before elimination of foreign currency translation account balance 95 Elimination of Irlandus' foreign currency translation account balance (756) ------- Loss on sale of discontinued operations $ (661) ======= Prior to the sale, Irlandus had an accumulated foreign currency translation loss of $756,000, which was carried as a reduction of consolidated stockholders' equity. In accordance with SFAS No. 52, "Foreign Currency Translation," this amount has been included in the determination of the loss on sale of discontinued operations and in accordance with SFAS No. 130, "Reporting Comprehensive Income," an equal and offsetting amount is reported as other comprehensive income in the accompanying consolidated statements of operations and consolidated statements of stockholders' equity and comprehensive income (loss). NOTE 4 - COSTS AND ESTIMATED EARNINGS IN EXCESS OF BILLINGS ON UNCOMPLETED CONTRACTS Costs and estimated earnings in excess of billings on uncompleted contracts consists of revenue recognized under electronics assembly contracts, which amounts were not billable at the balance sheet date. All of the contracts were completed as of June 30, 2002. The components of costs and estimated earnings in excess of billings on uncompleted contracts are as follows (in thousands): June 30, ----------------------- 2002 2001 --------- --------- Costs incurred to date on uncompleted contracts $ 81,615 $ 82,929 Estimated earnings based on Percentage of completion 6,769 10,643 -------- -------- 88,384 93,572 Less: billings to date (88,384) (85,607) -------- -------- Total costs and estimated earnings in excess of billings on uncompleted contracts $ - $ 7,965 ======== ======== NOTE 5 - FINANCING ARRANGEMENTS Bank Credit Agreements At June 30, 2002, we have a credit facility for our domestic operating units, which consist of an $11 million working capital line secured by accounts receivable, inventory and equipment. Borrowings under the credit agreement bear interest at either the bank's prime rate (4.75% at June 30, 2002) plus 0.50% or a Eurodollar-base rate (1.86% at June 30, 2002) plus 3.25%. At June 30, 2002, borrowings outstanding under this credit facility amounted to $4.0 million and the effective weighted average interest rate was 5.16%. The line of credit agreement contains certain financial covenants, with which we were in compliance at June 30, 2002. Our available borrowing capacity as of June 30, 2002 was approximately $4.1 million. This credit facility matures September 25, 2003. In addition, during fiscal 2002 we have borrowed $1.6 million on our equipment line of credit to finance our capital expenditures. At June 30, 2002, the balance outstanding was $1.1 million. This advance has a maturity date of October 24, 2006. Interest is at either the bank's prime rate plus 0.50% or at a Eurodollar-base rate plus 3.25%. The effective weighted average interest rate was 5.12% at June 30, 2002. Additional advances under our equipment line of credit will not be available to us until a review by the bank at a future date. At December 31, 2001, we violated certain covenants in our domestic line of credit agreement with our bank. In February 2002, the bank waived these covenant violations. At March 31, 2002, we violated certain covenants in our domestic line of credit agreement. In May 2002, the bank either removed or amended the related restricted covenants in an amendment to the credit agreement. At June 30, 2002, we were in compliance with the amended covenants to the credit agreement. In anticipation of future projected covenant violations, during September 2002, we amended the May 2002 covenants with the bank. Under the terms of this new amendment, our interest rates have been amended to the bank's prime rate plus 0.75%, or a Eurodollar-base rate plus 3.50%. In addition, had the provisions of the September amendment been in effect at June 30, 2002, our availability would have been $3.5 million at June 30, 2002. In the event of default under our line of credit agreement, any and all outstanding borrowings would be immediately due and payable. We also have a credit facility agreement with Ulster Bank Markets for our Northern Ireland operating company. This agreement consists of an accounts receivable revolver, with maximum borrowings equal to the lesser of 75% of eligible receivables or 2,500,000 British pounds sterling (approximately $3,825,000 at June 30, 2002), and bears interest at the bank's base rate (4.00% at June 30, 2002) plus 2.00%. At June 30, 2002, borrowings outstanding under this credit facility amounted to approximately $3.2 million and there was nominal available borrowing capacity. The credit facility agreement with Ulster Bank Markets expires November 30, 2002. Long-Term Debt Long-term debt, other than the bank line of credit, consists of the following (in thousands):
June 30, ------------------- 2002 2001 ------- ------- Mortgage note secured by real property at the Northern Ireland operations, with interest at variable rates (5.50% and 6.88% at June 30, 2002 and 2001, respectively), payable in semiannual installments through 2009 $ 697 $ 637 Notes payable secured by equipment, interest at 3.90% to 9.60%, payable in monthly installments through June 2011 2,268 1,926 Equipment line of credit, secured by equipment, due October 2006, interest at 5.12% at June 30, 2002 1,105 - Capitalized lease obligations 1,584 2,283 8-1/2% Convertible Subordinated Debentures, due 2008, interest payable semi-annually and convertible at holders' option at a price of $212.50 per share at any time prior to maturity 1,580 1,580 Obligations to former officers, employees and directors under consulting and deferred fee agreements 1,016 989 Other 343 474 ------- ------- 8,593 7,889 Less current maturities 2,527 2,109 ------- ------- Total long-term debt $ 6,066 $ 5,780 ======= =======
The aggregate amounts of minimum maturities of other long-term debt for the indicated fiscal years (other than capitalized lease obligations) are as follows (in thousands): Fiscal 2003 $1,872 Fiscal 2004 1,115 Fiscal 2005 1,131 Fiscal 2006 547 Fiscal 2007 204 Thereafter 2,140 ------ $7,009 ====== In March 1996, we entered into a settlement agreement with certain of our former officers, key employees and directors (the "Participants") to restructure our outstanding obligations under several consulting programs and deferred fee arrangements, which had provided for payments to the Participants after their retirement from us or from our Board of Directors. Under terms of the settlement, the Participants agreed to relinquish all future payments due them under these consulting programs and deferred fee arrangements in return for an aggregate of 29,793 Common Stock purchase warrants, Series G. We are obligated to pay the Participants $50.00 for each warrant which remained unexercised on the June 1, 1998 warrant expiration date, payable in semiannual installments over two to ten years. We have recorded a liability for the present value of these future payments, which amounted to $1.0 million and $989,000 at June 30, 2002 and 2001, respectively. Lease Commitments Future minimum lease payments at June 30, 2002 were as follows (in thousands): Capital Operating leases leases ------- --------- Fiscal 2003 $ 733 $ 2,569 Fiscal 2004 619 2,609 Fiscal 2005 284 2,443 Fiscal 2006 94 2,022 Fiscal 2007 - 2,034 Thereafter - 8,476 ------ ------- Total 1,730 $20,153 ======= Less: interest expense (146) ------ Present value of minimum lease payments $1,584 ====== In July 2002, we entered into a $900 per month vehicle lease which terminates in June 2006. Also in July 2002, our Thailand operation renewed their facility lease for a two year term, which terminates in August 2004. Monthly payments are approximately $8,000 a month. The capitalized cost of the related assets (primarily plant equipment), which are pledged as security under the capital leases, was $3.4 million, and $3.9 million at June 30, 2002 and 2001, respectively. Accumulated amortization on assets under capital leases amounted to $1.6 million and $1.3 million at June 30, 2002 and 2001, respectively. Rental expense for operating leases amounted to $2.3 million, $717,000, and $756,000 for fiscal 2002, 2001 and 2000, respectively. NOTE 6 - INCOME TAXES In connection with the filing of our federal income tax return for fiscal year 1995, and acting on advice of our tax advisor, we filed for a refund to carry back losses described in Section 172(f) of the Internal Revenue Code of 1986, as amended (the "IRC"). Section 172(f) of the IRC provides for a ten year net operating loss ("NOL") carryback for specific losses attributable to (1) a product liability or (2) a liability arising under a federal or state law or out of any tort if the act giving rise to such liability occurs at least three years before the beginning of the taxable year. As a result of these refund filings, in September and October 1995 we received federal income tax refunds totaling $1.9 million, net of costs associated with applying for such refunds, and recognized an income tax benefit of $1.1 million in the quarter ended December 31, 1995. The balance of the net refunds received, $761,000, was recorded as income taxes payable, pending resolution by the Internal Revenue Service ("IRS") of the appropriateness and the amount of the 172(f) carryback. Beginning in May 1997, we came under IRS audit with respect to such refund claims. In September 1998, we received tax deficiency notices from the IRS in which the IRS advised us that it was disallowing substantially all of the tax refunds received by us in 1995 which had been recorded as an income tax benefit. In January 1999, the Company and its tax advisor filed a protest letter with the IRS to appeal the disallowance. Subsequent to filing the protest letter, the U.S. Tax Court upheld the disallowance of refund claims made by another taxpayer involving Section 172(f) issues similar to those on which we had based certain of its refund claims. Accordingly, in the fourth quarter of fiscal 1999 we recorded income tax expense, net of fee amounts refunded to us from our tax advisor, of $1.1 million plus accrued interest expense of $725,000. Additional interest expense at a rate of 11.0% has been accrued since June 30, 1999. In connection with the IRS audit, and the subsequent internal review by us, we determined that the net refund of $761,000 which had been received in 1995, and which was recorded as income taxes payable upon receipt, needed to be returned to the IRS. Accordingly, on July 30, 1999, we repaid this amount to the IRS plus accrued interest of $272,000. In December 2001, we reached a settlement with the Appeals Division of the IRS concerning the Section 172(f) issues. At June 30, 2002, we have a federal tax liability associated with this assessment of approximately $1.1 million and accrued interest thereon is approximately $1.1 million. We are currently seeking an installment payment plan with the IRS. Income tax provision (benefit), all current, consists of the following (in thousands): Year ended June 30, -------------------------- 2002 2001 2000 ----- ----- ------ Federal $(169) $(153) $ 38 State (56) 111 62 ----- ----- ---- $(225) $ (42) $100 ===== ===== ==== Temporary differences between financial statement carrying amounts and the tax bases of assets and liabilities that give rise to significant portions of the deferred tax assets and liabilities relate to the following (in thousands): June 30, --------------------- 2002 2001 --------- --------- Deferred tax assets: Accrued employee benefits $ 506 $ 593 Reserves and allowances 769 797 Domestic NOL carryforwards 14,366 12,876 Foreign NOL carryforwards 1,652 1,092 Alternative minimum tax credits - 164 Depreciation 162 - Other 308 106 -------- -------- Total deferred tax assets 17,763 15,628 Deferred tax liabilities: Depreciation - (98) -------- -------- Net deferred tax assets before allowance 17,763 15,530 Less valuation allowance (17,763) (15,530) -------- -------- Net deferred tax assets after allowance $ - $ - ======== ======== In assessing the realizability of net deferred tax assets, management considers whether it is more likely than not that some portion or all of the net deferred tax assets will be realized. The ultimate realization of net deferred tax assets is dependent upon the generation of future domestic and foreign taxable income of approximately $39.8 million and $4.9 million, respectively, prior to the expiration of the NOL carryforward. Based on the level of historical losses, management believes that it does not have the basis to conclude that it is more likely than not that the deferred tax assets will be realized, and therefore, has recorded a 100% valuation allowance to offset the net deferred tax assets. The valuation allowance was $17.8 million and $15.5 million as of June 30, 2002 and 2001, respectively. The net change in the total valuation allowance for the years ended June 30, 2002 and 2001 was an increase of $2.2 million and $1.3 million, respectively. The provision for income taxes for continuing operations differs from an amount computed using the statutory federal income tax rate as follows (in thousands): Year ended June 30, ---------------------------- 2002 2001 2000 ------- ------- ------ Federal tax provision/(benefit) computed at statutory rate $(2,111) $ 597 $ (46) State income tax, net of federal benefit (67) 33 59 Amortization of goodwill 13 228 443 Expiration of unutilized NOL carryforwards - - 472 Net change in valuation allowance 1,963 1,341 (835) Adjustment to the deferred tax assets (34) (191) - Reinstatement of NOLs utilized for subsequently disallowed Section 172(f) claims - (1,836) - IRS refunds - (218) - Other 11 4 7 ------- ------ ------ Income tax provision (benefit) from continuing operations $ (225) $ (42) $ 100 ======= ======= ====== The provision for income tax related to discontinued operations in fiscal 2000 was $72,000. The provision for income tax related to discontinued operations includes a reduction in the valuation allowance of $3.6 million for fiscal 2000. As of June 30, 2002, we had U.S. federal NOL carryforwards of approximately $39.8 million, expiring in 2005 through 2022, and state NOL carryforwards of $18.5 million, expiring in 2002 through 2012. At June 30, 2002, the NOL carryforward for federal alternative minimum tax purposes was approximately $32.5 million. Our ability to use our NOL carryforwards to offset future taxable income may be subject to annual limitations due to certain substantial stock ownership changes, which have occurred in the current and prior years. We maintain an ongoing analysis to determine if the future utilization of the NOLs will be limited due to these ownership changes. Pretax income (loss) from our U.S. continuing operations for fiscal 2002, 2001 and 2000 was ($5.4 million), $2.0 million and $493,000, respectively. Pretax loss from our U.K. foreign continuing operations for fiscal 2002, 2001 and 2000 was ($830,000), ($208,000) and ($627,000), respectively. Pretax income from our Thailand operation for fiscal 2002 was $14,000. Income of our Northern Ireland subsidiary is sheltered by operating loss carryforwards for United Kingdom income tax purposes (the "U.K. NOL"). The current income tax benefit from the U.K. NOL was $0 for all three fiscal years, and has been treated as a reduction in the provision for income taxes. At June 30, 2002 the U.K. NOL amounted to approximately $3.9 million. Substantially all of these NOLs from prior years of our Northern Ireland subsidiary can be carried forward for an indefinite period of time to reduce future taxable income. Our Thailand operations was granted an investment promotion from the Thailand government, which includes exemption from corporate income taxes for a seven year period from the date operating income is first derived. This exemption will expire in 2004. Prior to the purchase of our Thailand operation, Thailand had NOLs of approximately $900,000. As a result of the acquisition, we acquired deferred tax assets of $270,000 and a related valuation allowance of $270,000. These NOLs from prior years can be carried forward for at least five years after the expiration of the aforementioned investment promotion. NOTE 7 - STOCKHOLDERS' EQUITY Stock Option Plans We have in effect several stock-based plans under which non-qualified and incentive stock options and restricted stock awards have been granted to employees and directors. Subject to the discretion of the Board of Directors (the "Board"), employee stock options generally become exercisable over a period of two to three years as determined by the Board, and generally have a 10-year exercise term when granted. The exercise price of all incentive stock options must be equal to or greater than the market value of the shares on the date of grant. The exercise price of non-statutory stock options must be at least 85% of the market value of the Common Stock on the date of grant. Under our Amended and Restated 1998 Non-Employee Directors Stock Plan, each eligible director receives Company securities (Common Stock or stock options) valued at $1,000 for attendance at each Board meeting and $500 for attendance at each Board committee meeting. Additionally, annually each non- employee director will receive Company securities with a fair market value of $12,000 and each non-employee director will be granted 5,000 stock options upon initial election or re-election to the board of directors. In fiscal 2002 and 2001, options to purchase a total of 15,516 and 43,341 shares, respectively, were granted to our non-employee directors at exercise prices ranging from $2.40 to $7.75 in 2002 and $3.75 to $8.20 in 2001. Annually, each non-employee director makes an election to receive director compensation in the form of Common Stock or stock options. The fair value of Common Stock issued in connection with these director compensation plans is equal to the market value of Common Stock on the grant date. The fair value of stock options granted in connection with these director plans is determined using the Black-Scholes option pricing model (as discussed in more detail below) using data and assumptions as of the grant date. The exercise price of all stock options is equal to the market value at the date of grant. In fiscal 2002, 2001 and 2000, we recorded expense of $0, $20,000 and $18,000, respectively, and issued 254, 4,327 and 4,557 shares, respectively, related to the issuance of Common Stock for director compensation. Activity under the employee and non-employee director stock option plans for fiscal years 2002, 2001 and 2000 was as follows:
Weighted average exercise Shares price per share --------- ------------------------- Shares under option, June 30, 1999 133,191 $ 9.89 Granted 209,205 3.79 Expired or canceled (38,040) 9.00 -------- Shares under option, June 30, 2000 304,356 $ 5.81 Granted 292,741 4.96 Expired or canceled (17,340) 6.48 Exercised (6,000) 3.71 -------- Shares under option, June 30, 2001 573,757 $ 5.37 Granted 103,516 4.97 Expired or canceled (68,330) 5.68 Exercised (1,750) 4.25 -------- Shares under option, June 30, 2002 607,193 $ 5.28 ======== ======
The following table summarizes information about shares under option at June 30, 2002: Outstanding Exercisable --------------------------------- --------------------- Expiration Weighted Weighted Range of date average average exercise Options (fiscal exercise Options exercise prices outstanding year end) price exercisable price - -------------- ----------- ---------- -------- ----------- -------- $ 2.40 - 7.75 93,516 2012 $ 5.06 15,516 $ 5.60 $ 3.75 - 9.75 243,741 2011 $ 4.92 93,441 $ 4.90 $ 3.38 - 3.88 179,105 2010 $ 3.74 96,980 $ 3.74 $ 6.50 - 10.00 90,831 2009 $ 9.50 90,831 $ 9.50 ------- ------- Total 607,193 $ 5.28 296,768 $ 5.97 ======= ======= At June 30, 2002, under the employee and non-employee director stock option plans there were 148,542 and 108,857 shares, respectively, available for future grants. Stock Based Compensation We apply the provisions of APB Opinion No. 25 and related interpretations in accounting for our stock option plans. Accordingly, no compensation expense has been recognized for our employee stock option plans and awards of options to non-employee directors. Had compensation expense for stock-based awards been determined consistent with SFAS No. 123, our results of operations would have been reduced to the pro forma amounts indicated below (in thousands except per share amounts): Year ended June 30, -------------------------------- 2002 2001 2000 -------- -------- -------- Net income (loss): As reported $(5,984) $1,798 $ (641) Pro forma $(6,371) $1,515 $ (836) Basic earnings (loss) per share: As reported $ (2.62) $ 0.79 $(0.28) Pro forma $ (2.79) $ 0.67 $(0.37) Diluted earnings (loss) per share: As reported $ (2.62) $ 0.76 $(0.28) Pro forma $ (2.79) $ 0.64 $(0.37) For purposes of this pro forma disclosure, the "fair value" of each option and warrant is estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions used for grants in 2002, 2001 and 2000: dividend yield of 0.0% for all years; expected volatility of 90%, 75% and 75% for 2002, 2001 and 2000, respectively; risk-free interest rates ranging from 3.5% to 5.3% for 2002, 4.8% to 6.3% for 2001, and 5.9% to 6.7% for 2000; and expected lives of five years for all years. The weighted average fair value of options granted during the years ended June 30, 2002, 2001 and 2000 was $3.50, $4.35 and $2.53, respectively. NOTE 8 - EARNINGS (LOSS) PER SHARE Common stock equivalents used in the determination of diluted earnings per share include the effect, when such effect is dilutive, of our outstanding employee stock options, the 7% Convertible Subordinated Debentures (which were convertible into 8,075 shares of Common Stock at $40.00 per share of Common Stock), and the 8-1/2% Convertible Subordinated Debentures (which are convertible into 7,435 shares of Common Stock at $212.50 per share of Common Stock). The following is a summary of the calculation of basic and diluted earnings per share (dollars in thousands, except per share data):
Year ended, June 30, ---------------------------------------- 2002 2001 2000 --------- ---------- ---------- Net income (loss) $ (5,984) $ 1,798 $ (641) ========= ========= ========= Weighted average shares: Basic weighted average number of common shares outstanding 2,284,018 2,277,111 2,269,805 Diluted effect of outstanding options to purchase - 101,408 - --------- --------- --------- Diluted weighted average number of common shares outstanding 2,284,018 2,378,519 2,269,805 ========= ========= ========= Earnings (loss) per share: Basic $ (2.62) $ 0.79 $ (0.28) ========= ========= ========= Diluted $ (2.62) $ 0.76 $ (0.28) ========= ========= =========
Because we had a net loss for the year ended June 30, 2002, there were no common stock equivalents which had a dilutive effect on earnings per share. However, if we had reported net income rather than a loss for the year ended June 30, 2002, the additional diluted shares outstanding would have been 172. Further, options to purchase approximately 603,500 shares of Common Stock at prices ranging from $3.38 to $10.00 which were outstanding at June 30, 2002, would not have been included in the computation of diluted earnings per share for the year ended June 30, 2002, because the exercise price of these options were greater than the average market price of the Common Stock. Options to purchase approximately 108,000 shares of Common Stock at prices ranging from $7.47 to $21.25 were outstanding at June 30, 2001, but were not included in the computation of diluted earnings per share for fiscal 2001 because the exercise price of these options was greater than the average market price of the Common Stock. Because we had a net loss for the year ended June 30, 2000, there were no common stock equivalents which had a dilutive effect on earnings per share. However, if we had reported net income rather than a loss for the year ended June 30, 2000, the additional diluted shares outstanding would have been 2,866. Further, options and warrants to purchase approximately 336,600 shares of Common Stock at prices ranging from $3.75 to $70.00 which were outstanding at June 30, 2000, would not have been included in the computation of diluted earnings per share for the year ended June 30, 2000, because the exercise price of these options were greater than the average market price of the Common Stock. Convertible subordinated debentures aggregating $1,580,000, due in 2008 and convertible at a price of $212.60 per share at any time prior to maturity were outstanding during fiscal 2002, 2001 and 2000 but were excluded in the computation of diluted earnings per share because the effect would be antidilutive. Convertible subordinated debentures aggregating $323,000, due on May 15, 2001 and convertible at a price of $40.00 per share at any time prior to maturity, were no longer outstanding during fiscal 2002 and 2001 but were outstanding during fiscal year 2000 and were excluded in the computation of diluted earnings per share because the effect would be antidilutive. NOTE 9 - OTHER FINANCIAL INFORMATION Valuation and Qualifying Accounts and Reserves Following is our schedule of valuation and qualifying accounts and reserves for fiscal years 2002, 2001 and 2000 (in thousands): Allowance for Doubtful Accounts: - -------------------------------- June 30, -------------------- 2002 2001 2000 ---- ---- ---- Balance at beginning of period $407 $151 $156 Charged to costs and expenses 70 302 104 Deductions (97) (46) (82) Sale of subsidiary - - (27) ---- ---- ---- Balance at end of period $380 $407 $151 ==== ==== ==== NOTE 10- COMMITMENTS AND CONTINGENCIES Government Grants Pursuant to government grant agreements with the IDB for Northern Ireland, our Northern Ireland operating unit has been reimbursed for a portion of qualifying capital expenditures and for certain employment and interest costs. Approximately $401,000 of the government grants received by this operating unit are subject to repayment in the event that it ceases business, permanently discontinues production, or fails to pay to the IDB any amounts due under its mortgage note payable (Note 5). Management does not expect that we will be required to repay any grants under these provisions. Environmental Matters Since the early 1990s, we continue to be involved in certain remediation and investigative studies regarding soil and groundwater contamination at the site of a former printed circuit board manufacturing plant in Anaheim, California. One of our former subsidiaries, Aeroscientific Corp., leased the Anaheim facility. Under the terms of a cost sharing agreement entered into several years ago, the remaining remediation costs are currently being shared on a 50-50 basis with the landlord. There is no environmental insurance coverage for this remediation. At June 30, 2002, we had a reserve of $416,000 for future remediation costs. Management, based in part on consultations with outside environmental engineers and scientists, believes that this reserve is adequate to cover its share of future remediation costs at this site. However, the future actual remediation costs could differ significantly from the estimates. Further, our portion could potentially exceed the amount of our reserve. Our liability for remediation in excess of our reserve could have a material adverse impact on our business, financial condition and results of operations. NOTE 11 - BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION We now operate in a single business segment--the EMS industry. Our revenues and long-lived assets, net of accumulated depreciation, by geographic area are as follows (in thousands): Year ended June 30, --------------------------------- 2002 2001 2000 ------- ------- ------- Revenues: United States $63,146 $73,772 $50,107 Northern Ireland 9,664 17,376 20,145 Thailand 1,412 - - ------- ------- ------- Total $74,222 $91,148 $70,252 ======= ======= ======= Long-lived assets: United States $ 7,487 $ 5,997 Northern Ireland 1,549 1,779 Thailand 193 - ------- ------- Total $ 9,229 $ 7,776 ======= ======= We had sales to three customers which accounted for 16.5%, 14.1% and 9.1% of revenues in fiscal 2002, sales to three customers, which accounted for 14.6%, 14.2% and 11.3% of revenues in fiscal 2001, and sales to three customers, which accounted for 15.5%, 13.5% and 10.2% of revenues in fiscal 2000. NOTE 12 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following table sets forth certain unaudited financial data for each of the last eight quarters. This information, in management's opinion, reflects all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the information for the quarters presented. The operating results for any quarter are not necessarily indicative of results for any future period. Following is a summary of the quarterly results of operations (in thousands except per share amounts): Quarters ended ----------------------------------------------------- Sep 30 Dec 31 Mar 31 Jun 30 Total -------- -------- -------- -------- ------- Fiscal 2002 - ----------- Revenues $19,634 $19,594 $16,067 $18,927 $74,222 Net income (loss) $ 27 $ (762) $(2,925) $(2,324)(A) $(5,984) Basic and diluted earnings (loss) per share $ 0.01 $ (0.33) $ (1.28) $ (1.02) $ (2.62) Quarters ended ----------------------------------------------------- Sep 30 Dec 31 Mar 31 Jun 30 Total -------- -------- -------- -------- ------- Fiscal 2001 - ----------- Revenues $20,924 $24,148 $25,008 $21,068 $91,148 Net income $ 315 $ 419 $ 926 $ 138 $ 1,798 Basic earnings per share $ 0.14 $ 0.18 $ 0.41 $ 0.06 $ 0.79 Diluted earnings per share $ 0.14 $ 0.18 $ 0.38 $ 0.06 $ 0.76 (A) Included in the net loss for the three months ended June 30, 2002 were severance expenses of $575,000, expenses of $275,000 related to the lease at our former Thousand Oaks facility and an inventory write down of $150,000. SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES Market and Dividend Information Our Common Stock is traded on Nasdaq Small Cap Market (ticker symbol "SMTI") and the Pacific Stock Exchange (ticker symbol "SMK"). The high and low closing sales prices for the Common Stock, as reported by the Nasdaq Small Cap Market, for the last two fiscal years are set forth in the following table. Fiscal 2002 Fiscal 2001 --------------- -------------- High Low High Low ------ ----- ----- ----- 1st Quarter $ 9.79 $3.80 $4.88 $3.50 2nd Quarter 7.00 3.25 7.00 4.00 3rd Quarter 4.60 2.52 7.47 4.38 4th Quarter 3.10 2.00 10.11 5.01 On September 20, 2002, the closing market price of our Common Stock in the Nasdaq Small Cap Market was $0.95 per share. There were approximately 1,200 stockholders of record at September 13, 2002. This number does not give effect to the total number of stockholders who hold their shares in "street name" or brokerage accounts. Dividend payments are not anticipated in the foreseeable future. Form 10-K Annual Report A copy of the Annual Report on Form 10-K (without exhibits) may be obtained free of charge upon written request to SMTEK International, Inc., 200 Science Drive, Moorpark, California 93021 attention: Secretary. SMTEK INTERNATIONAL, INC. AND SUBSIDIARIES DIRECTORS, EXECUTIVE OFFICERS, OPERATING UNITS AND OTHER CORPORATE INFORMATION DIRECTORS EXECUTIVE OFFICERS ========= ================== Clay M. Biddinger Edward J. Smith Chief Executive Officer President and Chief Executive Officer Bay 4 Capital, LLC Tampa, Florida Kirk A. Waldron Senior Vice President and James P. Burgess Chief Financial Officer Chairman of the Board of SMTEK International, Inc. Mitchell J. Freedman Vice President, Legal and Administration Oscar B. Marx, III OPERATING UNITS Vice President =============== TMW Enterprises, Inc. SMTEK Moorpark Troy, Michigan Moorpark, California SMTEK San Diego INDEPENDENT AUDITORS Poway, California ==================== KPMG LLP Jolt Technology, Inc. Los Angeles, California Fort Lauderdale, Florida TRANSFER AGENT & REGISTRAR SMTEK New England ========================== Marlborough, Massachusetts American Stock Transfer & Trust Company SMTEK Santa Clara 59 Maiden Lane Santa Clara, California New York, New York 10038 SMTEK Europe, Ltd. Craigavon, Northern Ireland United Kingdom SMTEK International Thailand, Ltd. Ayutthya, Thailand 46 EX-10 4 mpamendment.txt MOORPARK LEASE AMENDEMENT EXHIBIT 10.9.1 FIRST AMENDMENT OF STANDARD INDUSTRIAL/COMMERCIAL SINGLE-TENANT LEASE - NET This First Amendment of Standard Industrial/Commercial Single-Tenant Lease-Net is made on May 6, 2002, between MOORPARK VENTURE L.P., a California limited partnership ("Landlord"), whose address is 475 West Bradley Avenue, El Cajon, CA 92020, and SMTEK, INC., a California corporation ("Tenant"), whose address is 200 Science Drive, Moorpark, CA 93021, who agree as follows: 1) Recitals. This amendment of lease is made with reference to the following facts and objectives: a) Lender and Tenant entered into a written lease dated July 20, 2001 ("the lease"), in which Tenant leased from Landlord s 115,538 sq. ft. building located at 200 Science Drive, Moorpark, CA 93021. b) he parties desire to amend the lease in several respects: 2) Commencement Pate. The Commencement Date of the Lease, as described in section 3.2 of the Addendum to Lease, is amended to March 13, 2002. 3) Expiration Date. As described in section 3.3 of the Addendum to Lease, the Expiration Date of the Lease, is amended to March 31, 2012. 4) Tenant Improvement Allowance Amortization. The monthly Allowance Amortization Charge described in section 1.3 of the Addendum to Lease is hereby increased from $4,133.00 to $7,613.21. 5) Effectiveness of lease. Except as set forth in this amendment of lease, all the provisions of the Lease shall remain unchanged in full force and effect. LANDLORD: TENANT: MOORPARK VENTURE L.P., SMTEK, INC. a California limited partnership a California corporation By Managing GP Inc, a California corporation, Its General Partner By: /s/ Jeffrey C. Hamann By: /s/ Mitchell Freedman ------------------------- ---------------------- Jeffrey C. Hamann, Mitchell Freedman, President Secretary EXHIBIT "A" BASE RENT SCHEDULE Year l $118,482.00 Year 2 $122,036.00 Year 3 $125,697.00 Year 4 $129,468.00 Year 5 $133,352.00 Year 6 $137,353.00 Year 7 $141,474.00 Year 8 $145,718.00 Year 9 $150,090.00 Year 10 $154,593.00 EX-10 5 creditagree.txt CREDIT AMENDMENT Exhibit 10.10.2 AMENDMENT NO. 3 TO CREDIT AGREEMENT This Amendment dated as of the 24th day of September, 2002 by and between Smtek International, Inc., a Delaware corporation ("Company") and Comerica Bank, a Michigan banking corporation, ("Bank"). WITNESSETH: WHEREAS, Company and Bank entered into a Credit Agreement dated September 25, 2001, as amended by an Amendment dated December 21, 2001 and an Amendment dated May 1, 2002 ("Agreement"). WHEREAS, Company and Bank desire to amend the Agreement as set forth herein. NOW, THEREFORE, the Company and the Bank agree as follows: 1. The following definitions set forth in Section 1 of the Agreement are amended to read in their entireties as follows: "'Applicable Eurodollar Margin' shall mean three and one half percent (3 1/2%). "'Borrowing Base' shall mean as of any date of determination, the sum of (a) eighty five percent (85%) of Eligible Accounts plus (b) the lesser of (i) thirty percent (30%) of Eligible Inventory and (ii) $4,000,000. "'Applicable Prime Margin' shall mean three quarters of one percent (3/4%)." 2. The following definition is added to Section 1 in alphabetical order: "'Daily Reporting Event' shall be deemed to have occurred if Availability is below $1,000,000 for five (5) days (whether or not consecutive) during any thirty (30) day period." 3. Section 8.1(c)(iv) of the Agreement is amended to read in its entirety as follows: "(iv) a borrowing base report, each in form acceptable to Bank; provided however, at all times after the occurrence of the Daily Reporting Event, updated borrowing base reports shall be due each Business Day;" 4. Section 8.11 of the Agreement is amended to read in its entirety as follows: "Maintain as of the end of each fiscal quarter an Adjusted Tangible Net Worth of not less than the following amounts during the periods specified below: September 30, 2002 through December 30, 2002 $5,150,000 December 31, 2002 through June 29, 2003 $4,500,000 June 30, 2003 and thereafter $6,000,000" 5. Section 8.12 of the Agreement is amended to read in its entirety as follows: "Maintain as of the end of each fiscal quarter a ratio of Total Debt to Adjusted Tangible Net Worth of not more than the following amounts during the periods specified below: September 30, 2002 through June 29, 2003 8.0 to 1.0 June 30, 2003 and thereafter 6.5 to 1.0" 6. Section 8.15 of the Agreement is amended to read in its entirety as follows: "Not permit during fiscal year 2003 a year to date loss of greater than $1,800,000 and not permit the year end loss for fiscal year 2003 to be greater than $400,000." 7. Following the occurrence of the Daily Reporting Event, the remittance basis provisions of Sections 3.2 and 3.3 of the Security Agreements from Company and the Guarantors in favor of the Bank shall apply and any failure by Company or any of the Guarantors to comply with such remittance basis provisions shall be an Event of Default under the Agreement. 8. Company hereby represents and warrants that, after giving effect to the amendments contained herein, (a) execution, delivery and performance of this Amendment and any other documents and instruments required under this Amendment or the Agreement are within Company's corporate powers, have been duly authorized, are not in contravention of law or the terms of Company's Certificate of Incorporation or Bylaws, and do not require the consent or approval of any governmental body, agency, or authority; and this Amendment and any other documents and instruments required under this Amendment or the Agreement, will be valid and binding in accordance with their terms; (b) the continuing representations and warranties of Company set forth in Sections 7.1 through 7.5 and 7.7 through 7.12 (after, in the case of Section 7.9, giving effect to the formation of Smtek Santa Clara, Inc. and Smtek New England, Inc.) of the Agreement are true and correct on and as of the date hereof with the same force and effect as made on and as of the date hereof; (c) the continuing representations and warranties of Company set forth in Section 7.6 of the Agreement are true and correct as of the date hereof with respect to the most recent financial statements furnished to the Bank by Company in accordance with Section 8.1 of the Agreement; and (d) no event of default, or condition or event which, with the giving of notice or the running of time, or both, would constitute an event of default under the Agreement, has occurred and is continuing as of the date hereof. 9. This Amendment shall be effective upon (i) execution of this Amendment by Company and Bank, (ii) execution of the attached Affirmation by the Guarantors, and (iii) payment by Company to Bank of a non-refundable amendment fee in the amount of $15,000. 10. Except as modified hereby, all of the terms and conditions of the Agreement shall remain in full force and effect. WITNESS the due execution hereof on the day and year first above written. COMERICA BANK SMTEK INTERNATIONAL, INC. /s/ Beth A. Brockmann /s/ Kirk A. Waldron By:_______________________________ By:_________________________________ Vice President CFO Its:_______________________________ Its:_________________________________ AFFIRMATION The undersigned Guarantors acknowledge the foregoing amendment and ratify and confirm their obligations under their Guaranties dated September 25, 2001 and October 18, 2001, which Guaranties remain in full force and effect in accordance with their respective terms. SMTEK, INC. /s/ Kirk A. Waldron By:_________________________________ Signature of Kirk A. Waldron Its: Treasurer JOLT TECHNOLOGY, INC. /s/ Kirk A. Waldron By:_________________________________ Signature of Kirk A. Waldron Its: Treasurer TECHNETICS, INC. /s/ Kirk A. Waldron By:_________________________________ Signature of Kirk A. Waldron Its: Treasurer SMTEK SANTA CLARA, INC. /s/ Kirk A. Waldron By:_________________________________ Signature of Kirk A. Waldron Its: Treasurer SMTEK NEW ENGLAND, INC. /s/ Kirk A. Waldron By:_________________________________ Signature of Kirk A. Waldron Its: Treasurer - - 1 - EX-10 6 sclease.txt SANTA CLARA LEASE Exhibit 10.12 SINGLE TENANT COMMERCIAL SPACE LEASE ("NNN") LANDLORD: DEERFIELD SCOTT LLC, A CALIFORNIA LIMITED LIABILITY COMPANY TENANT: SMTEK SANTA CLARA, INC., A CALIFORNIA CORPORATION COMMENCEMENT DATE: AUGUST 1, 2002 SUBJECT PROPERTY: 3240 - 3242 SCOTT BOULEVARD, SANTA CLARA, CALIFORNIA TABLE OF CONTENTS ARTICLE 1 - DEFINITIONS ..................................... 1 1.1 Commencement Date ................................. 1 1.2 Lease Term ........................................ 1 1.3 Property .......................................... 1 1.4 Leased Premises ................................... 1 1.5 Building .......................................... 1 1.6 Tenant's Allocated Share........................... 1 1.7 Prepaid Rent ...................................... 2 1.8 Security Deposit .................................. 2 1.9 Permitted Use ..................................... 2 1.10 Tenant's Minimum Liability Insurance Coverage..... 2 1.11 Additional Definitions ........................... 2 ARTICLE 1 - DEMISE AND ACCEPTANCE............................ 2 2.1 Demise of Premises ................................ 2 2.2 Term .............................................. 2 2.3 Tenant's Improvements and Acceptance of Premise.... 2 ARTICLE 3 - RENT ............................................ 3 3.1 Base Monthly Rent ................................. 3 3.2 Additional Rent ................................... 3 3.3 Payment of Rent ................................... 3 3.4 Late Charge and Interest on Rent in Default ....... 4 3.5 Security Deposit .................................. 4 3.6 No Accord and Satisfaction ........................ 5 3.7 Intentionally Omitted.............................. 5 3.8 Disputed Sums...................................... 5 ARTICLE 4 - USE OF LEASED PREMISES .......................... 5 4.1 Limitation on Type ................................ 5 4.2 Compliance with Laws and Private Restrictions ..... 6 4.3 Insurance Requirements ............................ 6 4.4 Signs ............................................. 6 4.5 Intentionally Omitted.............................. 6 4.6 Parking............................................ 6 ARTICLE 5 - TRADE FIXTURES AND LEASEHOLD IMPROVEMENTS ....... 7 5.1 Trade Fixtures .................................... 7 5.2 Leasehold Improvements ............................ 7 5.3 Alterations Required by Law........................ 7 5.4 Landlord's Improvements............................ 8 5.5 Liens ............................................. 8 i ARTICLE 6 - REPAIR AND MAINTENANCE .......................... 8 6.1 Tenant's Obligations to Maintain ................... 8 6.2 Landlord's Obligation to Maintain .................. 9 6.3 Tenant's Negligence ................................ 9 6.4 Capital Improvements............................... 10 ARTICLE 7 - WASTE DISPOSAL AND UTILITIES .................... 10 7.1 Waste Disposal ..................................... 10 7.2 Utilities .......................................... 10 7.3 Compliance with Rules, Regulations and Requirement.. 10 ARTICLE 8 - REAL PROPERTY TAXES ............................. 11 8.1 Real Property Taxes Defined ....................... 11 8.2 Tenant's Obligation to Reimburse .................. 12 8.3 Taxes on Tenant's Personal Property............ 12 8.4 Tenant's Improvements.......................... 12 ARTICLE 9 - INSURANCE .................................. 12 9.1 Tenant's Insurance ............................ 12 9.2 Release and Waiver of Subrogation ............. 13 9.3 Landlord's Real Property Insurance............. 14 ARTICLE 10 - LIMITATION ON LANDLORD'S LIABILITY AND INDEMNITY ................. 14 10.1 Limitation on Landlord's Liability............ 14 10.2 Limitation on Tenant's Recourse .............. 15 10.3 Indemnification of Landlord ................. 15 ARTICLE 11 - DAMAGE TO LEASED PREMISES.................. 15 11.1 Landlord's Duty to Restore.................... 15 11.2 Landlord's Right to Terminate ................ 16 11.3 Tenant's Right to Terminate .................. 17 11.4 Abatement of Rent ............................ 17 11.5 Tenant's Costs and Insurance Proceeds......... 17 ARTICLE 12 - CONDEMNATION .............................. 17 12.1 Taking of Leased Premises..................... 17 12.2 Restoration Following the Taking.............. 18 12.3 Abatement of Rent ............................ 18 12.4 Temporary Taking ............................. 18 12.5 Division of Condemnation Award................ 18 ARTICLE 13 - DEFAULT AND REMEDIES ...................... 19 13.1 Events of Tenant's Default.................... 19 13.2 Landlord's Remedies .......................... 20 13.3 Landlord's Default and Tenant's Remedies...... 22 13.4 Waiver ....................................... 22 ii ARTICLE 14 - ASSIGNMENT................................ 23 14.1 By Tenant ................................... 23 14.2 By Landlord ................................. 26 ARTICLE 15 - TERMINATION............................... 26 15.1 Surrender of the Leased Premises............. 26 15.2 Holding Over................................. 26 ARTICLE 16 - LANDLORD'S RIGHT TO ENTER ................ 27 16.1 Landlord's Right to Enter ................... 27 ARTICLE 17 - MORTGAGES & TRANSFER....................... 27 17.1 Subordination ................................ 27 17.2 Tenant's Attornment .......................... 28 17.3 Mortgagee Protection ......................... 28 17.4 Estoppel Certificates ........................ 28 17.5 Financial Statements.......................... 28 ARTICLE 18 - GENERAL PROVISIONS......................... 29 18.1 Force Majeure ................................ 29 18.2 Notices ...................................... 29 18.3 Fees and Expenses ............................ 29 18.4 Corporate Authority ........................... 30 18.5 Additional Definitions......................... 30 18.5.1 Agreed Interest Rate.................... 30 18.5.2 CPI..................................... 30 18.5.3 Effective Date.......................... 31 18.5.4 Law..................................... 31 18.5.5 Leasehold Improvements.................. 31 18.5.6 Lender ................................. 31 18.5.7 Private Restrictions ................... 31 18.5.8 Trade Fixtures ......................... 31 18.6 Construction of Meaning and Other Miscellaneous Provisions .................................... 31 18.7 Quiet Enjoyment................................ 32 18.8 Landlord Representations....................... 32 18.9 Brokerage Commissions ......................... 32 18.10 Entire Agreement ............................. 33 18.11 Security Measures ............................ 33 18.12 Signatures Required/Non-Binding Offer ........ 33 ARTICLE 19 - ENVIRONMENTAL MATTER........................ 33 19.1 Tenant's Covenants Regarding Hazardous Materials. 33 19.2 Indemnification of Landlord.................... 35 19.3 Tenant Indemnification......................... 35 ARTICLE 20 - OPTION TO EXTEND LEASE...................... 36 20.1 Option to Extend Lease Term.................... 36 iii Signature Page....................................... 38 EXHIBITS: EXHIBIT A - LEGAL DESCRIPTION............................. 39 EXHIBIT B - FLOOR PLAN.................................... 40 (Deerfield Scott (Smtek) TOC 6/10/02) iv SINGLE-TENANT COMMERCIAL SPACE LEASE ("LEASE") THIS LEASE, dated as of June 10, 2002 (the "Reference Date"), is made by and between DEERFIELD SCOTT LLC, a California limited liability company ("Landlord") and SMTEK SANTA CLARA, INC., a California corporation ("Tenant"), with reference to those matters set forth hereinafter. RECITALS: WHEREAS, Landlord and Tenant wish to enter into a new lease for a term of three (3) years on the conditions and provisions set forth hereinafter. ARTICLE 1 DEFINITIONS 1.1. Commencement Date: The term "Commencement Date" shall mean August 1, 2002. 1.2. Lease Term: The term "Lease Term" shall mean the term of this Lease, which shall be for a period of thirty-six (36) full calendar months (plus the partial month, if any, immediately following the Commencement Date), commencing on the Commencement Date and ending at midnight on the last day of the thirty-sixth (36th) full calendar month thereafter, unless this Lease is sooner terminated according to its terms or by mutual agreement. 1.3. Property: The term "Property" shall mean that real property commonly described as 3240 - 3242 Scott Boulevard, Santa Clara, California with all improvements now or hereafter located thereon described by the Legal Description attached hereto as Exhibit "A". 1.4. Leased Premises: The term "Leased Premises" and/or "Premises" shall mean those certain premises located at the Property attached hereto as Exhibit "A" and as shown by the Floor Plan attached hereto as Exhibit "B" containing approximately 44,685 square feet of gross leasable area ("Tenant's Gross Leasable Area"). 1.5. Building: The term "Building" shall mean the structure situated on the Property in which the Leased Premises are located containing approximately 44,685 square feet of gross leasable area (the "Building Gross Leasable Area"). 1.6. Tenant's Allocated Share: The term "Tenant's Allocated Share" shall mean the percentage obtained by dividing Tenant's Gross Leasable Area by the Building Gross Leasable Area, which as of the Effective Date hereof is agreed to be 100%. 1.7. Prepaid Rent: The term "Prepaid Rent" shall mean the sum of N/A . 1.8. Security Deposit: The term "Security Deposit" shall mean the sum of $43,453.59 which Security Deposit is already being held by Landlord. The parties agree that Landlord may immediately expend up to $20,000.00 of such Security Deposit to cure certain safety infractions and/or requirements of the City of Santa Clara Fire Department at the Premises with Tenant to replenish that portion of the Security Deposit utilized by Landlord within thirty (30) days of presentation of invoice to Tenant in the amount actually expended by Landlord for such purpose in an amount not to exceed $20,000.00. 1.9. Permitted Use: The term "Permitted Use" shall mean general office, R&D, light manufacturing and assembly, storage/warehouse and related uses. 1.10. Tenant's Minimum Liability Insurance Coverage: The term "Tenant's Minimum Liability Insurance Coverage" shall mean single limit coverage in an amount not less than $1,000,000.00 per occurrence with an amount aggregate of not less than $2,000,000.00. 1.11. Additional Definitions: As used in this Lease or any addendum or amendment thereto, the following terms shall have the meanings set forth in Section 18.5: "Agreed Interest Rate," "Effective Date," "Private Restrictions," "Lender," "Law," "Leasehold Improvements," and "Trade Fixtures." ARTICLE 2 DEMISE AND ACCEPTANCE 2.1. Demise of Premises: Landlord hereby leases to Tenant, and Tenant leases from the Landlord, for the Lease Term upon the terms and conditions of this Lease, the Leased Premises. Tenant's lease of the Leased Premises shall be subject to all Laws, all Private Restrictions, easements, and other matters of public record. 2.2. Term: The term of this Lease shall be the Lease Term and shall commence upon the Commencement Date and continue for the period set forth in Section 1.2. 2.3. Tenant Improvements and Acceptance of Premises: Landlord, at its sole expense and cost, shall pay for and be responsible for the re-carpeting and repainting of certain agreed upon interior parts of the Premises and other Leasehold Improvements approved by Landlord in an amount not to exceed $40,000.00. Other than the above carpet and painting work and other conditions known to Landlord and Tenant, Tenant agrees to accept the Premises in its "AS IS" physical condition, without further improvements, repairs or alterations by Landlord. ARTICLE 3 RENT 3.1. Base Monthly Rent: Commencing on the Commencement Date and continuing throughout the Lease Term, Tenant shall pay to Landlord the Base Monthly Rent determined as follows: 3.1.1. Base Monthly Rent for the first twelve (12) months of this Lease Agreement shall be $26,811.00. 3.1.2. Base Monthly Rent for months 13 thru 24 of the Lease Agreement shall be $35,748.00. 3.1.3. Base Monthly Rent for months 25 thru 36 of the Lease Agreement shall be $44,685.00. 3.2. Additional Rent: Within ten (10) days after receipt of invoices(s) therefore, Tenant shall pay to Landlord or to Landlord's designated agent or entity as Additional Rent, the following: (1) All Real Property Taxes relating to the Premises as set forth in Article 8, and (2) All Landlord's Real Property Insurance relating to the Premises, as set forth in Section 9.3, and (3) An additional amount equal to two and one-half (2-1/2%) percent of the Base Monthly Rent as compensation to Landlord for its accounting, administration, and management services rendered by Landlord, and (4) Landlord's share of the net consideration received by Tenant upon certain assignments and sublettings as required by Section 14.1.6, and (5) All charges, costs, expenses and other amounts which Tenant is required to pay hereunder, together with all interest, late charges, penalties, costs and expenses including without limitation reasonable attorneys' fees, legal and accounting expenses, collection costs, and court costs, that may accrue thereto or be incurred in the event of Tenant's default, refusal or failure to pay such amounts, and all damages, reasonable costs and expenses which Landlord may incur by reason of any default by Tenant or failure on Tenant's part to comply with the terms of this Lease. In the event of failure by Tenant to pay such Additional Rent in accordance with the terms hereof, Landlord shall have all the rights and remedies with respect thereto as Landlord has for nonpayment of Basic Rent. The term "rent" shall include without limitation "Rent" and "Additional Rent." 3.3. Payment of Rent: All rent required to be paid in monthly installments shall be paid in advance on the first day of each calendar month during the Lease Term. All rent shall be paid in lawful money of the United States, without any abatement, deduction or offset whatsoever, and without any prior demand therefor, to Landlord at its address set forth above or at such other place as Landlord may designate from time-to-time. Tenant's obligation to pay rent shall be prorated at the commencement and expiration of the Lease Term. 3.4. Late Charge and Interest on Rent in Default: Tenant acknowledges that the late payment by Tenant of any monthly installment of Base Monthly Rent or any Additional Rent will cause Landlord to incur certain costs and expenses not contemplated under this Lease, the exact amount of which are extremely difficult or impractical to fix. Such costs and expenses will include, without limitation, administration and collection costs and processing and accounting expenses. Therefore, if any such rent is not received by Landlord from Tenant within ten (10) days after the same becomes due, Tenant shall immediately pay to Landlord a late charge equal to five percent (5%) of such delinquent rent. Landlord and Tenant agree that this late charge represents a reasonable estimate of such costs and expenses and is fair compensation to Landlord for its loss suffered by Tenant's failure to make timely payment. In no event shall this provision for a late a charge be deemed to grant to Tenant a grace period or extension of time within which to pay any rental installment or prevent Landlord from exercising any right or remedy available to Landlord upon Tenant's failure to pay each rental installment due under this Lease in a timely fashion. If any rental installment should become delinquent for a period in excess of thirty (30) days then, in addition to such late charge Tenant shall pay to Landlord interest on any rent that is not paid when due at the Agreed Interest Rate from the thirtieth (30th) day following the date such amount became due until paid. 3.5. Security Deposit: Tenant has deposited with Landlord the amount set forth in Section 1.8 concurrently with its execution of the Lease (the "Security Deposit") as security for the performance by Tenant of the terms of this Lease to be performed by Tenant, and not as prepayment of rent. Landlord may apply such portion or portions of the Security Deposit as are reasonably necessary for the following purposes: (i) to remedy Tenant's default (as defined in Article 13 below) in the payment of any Rent; (b) to repair damage to the Leased Premises caused by Tenant; (iii) to clean the Leased Premises upon termination of this Lease; (iv) to reimburse Landlord for the payment of any amount which Landlord may reasonably spend or be required to spend by reason of Tenant's Default; or (v) to compensate Landlord for any other loss or damage which Landlord may suffer by reason of Tenant's Default, including without limitation, those damages provided for in California Civil Code, Section 1951.2, and any successor statutes providing for damages in the event of the termination of a lease due to a default by the tenant thereunder, and those damages provided by other provisions of applicable law now or hereafter in force or provided for in equity. In the event the Security Deposit or any portion thereof is so used, Tenant agrees to pay to Landlord promptly upon demand an amount in cash sufficient to restore the Security Deposit to the full original sum. Landlord shall not be deemed a trustee of the Security Deposit. Landlord may use the Security Deposit in Landlord's ordinary business and shall not be required to segregate it from its general accounts. Tenant shall not be entitled to any interest on the Security Deposit. If Landlord transfers the Leased Premises during the Lease Term, Landlord may pay the Security Deposit to any subsequent owner in conformity with the provisions of Section 1950.7 of the California Civil Code and/or any successor statute, in which event the transferring Landlord will be released from all liability for the return of the Security Deposit. As a material part of the consideration given by Tenant to Landlord to induce Landlord to enter into this Lease, Tenant waives the provisions of California Civil Code, Section 1950.7, and all other provisions of law now in force or that become in force after the date of the execution of this Lease, that provide that Landlord may claim from a security deposit only those sums reasonably necessary to remedy defaults in the payment of rent, to repair damage caused by Tenant, or to clean the Premises. Landlord and Tenant agree that Landlord may, in addition, claim those sums reasonably necessary to compensate Landlord for any other foreseeable or unforeseeable loss or damage caused by the acts or omissions of Tenant or Tenant's officers, agents, employees, independent contractors or invitees. Should Tenant faithfully and fully comply with all of the terms, covenants, and conditions of this Lease, within thirty (30) days following the expiration of the Term, the Security Deposit shall be returned to Tenant or, at the option of Landlord, to the last assignee of Tenant's interest in this Lease. 3.6. No Accord and Satisfaction: No payment by Tenant or receipt by Landlord of a lesser amount than the rent herein provided shall be deemed to be other than on account of the earliest rent due and payable hereunder, nor shall any endorsement or statement on any check or any letter accompanying any check or payment as rent be deemed an accord and satisfaction, and Landlord may accept any such check or payment without prejudice to Landlord's right to recover the balance of such rent or pursue any other remedy provided in this Lease. 3.7. Prepayment of Rent: Intentionally Omitted. 3.8. Disputed Sums: Under the terms of this Lease, numerous charges are and may be due from Tenant to Landlord including Base Monthly Rent, Additional Rent and advances made by Landlord in respect of Tenant's default at Landlord's option. In event that at any time during the term of this Lease there is a bonafide dispute between the parties as to the amount due for any of such charges claimed Landlord to be due, the amount demanded by Landlord shall be paid by Tenant until the resolution of the dispute between the parties or by litigation. Failure by Tenant to pay the disputed sums until resolution shall constitute a default under the terms of this Lease. ARTICLE 4 USE OF LEASED PREMISES 4.1. Limitation on Type: Tenant shall use the Leased Premises solely for the Permitted Use (as described in Section 1.9) and for no other use unless Tenant shall have first obtained Landlord's prior written consent. Tenant shall not do or permit anything to be done in or about the Leased Premises which might interfere with the rights of other tenants of Landlord to use the Property or cause structural injury to the Leased Premises or the Building. Tenant shall not commit nor permit to be committed any waste in or about the Leased Premises, and Tenant shall keep the Leased Premises in a clean, attractive and wholesome condition, free of any objectionable noises, odors, dust or nuisances. 4.2. Compliance with Laws and Private Restrictions: Tenant shall not use or permit any person to use the Leased Premises in any manner which violates any Laws or Private Restrictions. Tenant shall abide by and promptly observe and comply with all Laws and Private Restrictions and shall indemnify and hold Landlord harmless from any liability resulting from Tenant's failure to do so. 4.3. Insurance Requirements: Tenant shall not use or permit any person to use the Leased Premises in any manner which will cause the existing rate of insurance upon the Building or any of its contents to be increased or cause a cancellation of any insurance policy covering the Building. Tenant shall not sell, or permit to be kept, used, or sold in or about the Leased Premises any article which may be prohibited by the standard form of fire insurance policy. Tenant shall comply with all requirements of any insurance company, insurance underwriter, or Board of Fire Underwriters which are necessary to maintain, at standard rates, the insurance coverage carried by either Landlord or Tenant pursuant to this Lease. 4.4. Signs: Tenant shall not place on any portion of the Leased Premises, the Building or the Property any sign, placard, lettering in or on windows, banner, displays or other advertising or communicative material which is visible from the exterior of the Building without the prior written approval of Landlord, which approval shall not unreasonably be withheld. All such approved signs shall strictly conform to all Laws, Private Restrictions and Landlord's sign criteria, if any, and shall be installed at the expense of Tenant. If Landlord so elects, Tenant shall, at the expiration or sooner termination of this Lease, remove all signs installed by it and repair any damage caused by such removal. Tenant shall at all times maintain such signs in good condition and repair. 4.5. Rules and Regulations: Intentionally Omitted. 4.6. Parking: Tenant is allocated and shall have the exclusive right to use the parking spaces contained within the Property described in paragraph 2.1 for its use and the use of its employees and invitees, the location of which may be designated from time-to-time by Landlord. All trucks and delivery vehicles shall be (i) parked at the rear of the Building, (ii) loaded and unloaded in a manner which does not interfere with the businesses of other occupants of the Property, and (iii) permitted to remain on the Property only so long as is reasonably necessary to complete loading and unloading. ARTICLE 5 TRADE FIXTURES AND LEASEHOLD IMPROVEMENTS 5.1. Trade Fixtures: Throughout the Lease Term, Tenant shall provide, install, and maintain in good condition all Trade Fixtures required in the conduct of its business in the Leased Premises. All Trade Fixtures shall remain Tenant's property. 5.2. Leasehold Improvements: Tenant shall not construct any Leasehold Improvements or otherwise alter the Leased Premises without Landlord's prior approval, if the cost thereof exceeds Ten Thousand Dollars ($10,000.00), and not until Landlord shall have first approved the plans and specifications therefor, which approvals shall not be unreasonably withheld. In no event shall Tenant make any alterations to the Leased Premises which could affect the structural integrity or the design of the Building. All Leasehold Improvements constructed by Tenant shall be constructed by Tenant at Tenant's expense using a licensed contractor first approved by Landlord in substantial compliance with the approved plans and specifications therefor. All construction done by Tenant shall be done in accordance with all Laws and in a good and workmanlike manner using new materials of good quality. Tenant shall not commence construction of any Leasehold Improvements until (i) all required governmental approvals and permits shall have been obtained, (ii) all requirements regarding insurance imposed by this Lease have been satisfied, (iii) Tenant shall have given Landlord at least five (5) days prior written notice of its intention to commence such construction, (iv) Tenant shall have notified Landlord by telephone of the commencement of construction on the day it commences, and (v) if requested by Landlord, Tenant shall have obtained contingent liability and broad form builders risk insurance in an amount satisfactory to Landlord if there are any perils relating to the proposed construction not covered by insurance carried pursuant to Article 9. All Leasehold Improvements shall remain the property of Tenant during the Lease Term but shall not be damaged, altered, or removed from the Leased Premises. At the expiration or sooner termination of the Lease Term, all Leasehold Improvements shall be surrendered to Landlord as a part of the realty and shall then become Landlord's property, and Landlord shall have no obligation to reimburse Tenant for all or any portion of the value or cost thereof; provided, however, that if Landlord shall require Tenant to remove any Leasehold Improvements in accordance with the provisions of Section 15.1, then Tenant shall so remove such Leasehold Improvements prior to the expiration of the Lease Term. 5.3. Alterations Required by Law: Tenant shall make any alteration, addition or change of any sort, whether structural or otherwise, to the Leased Premises that is required by any Law because of (i) Tenant's use or change of use of the Leased Premises, (ii) Tenant's application for any permit or governmental approval, or (iii) Tenant's construction or installation of any Leasehold Improvements or Trade Fixtures. 5.4. Landlord's Improvements: All fixtures, improvements or equip- ment which are installed, constructed on or attached to the Property by Landlord at its expense shall become a part of the realty and belong to Landlord. 5.5. Liens: Tenant shall keep the Leased Premises and the Property free from any liens and shall pay when due all bills arising out of any work performed, materials furnished, or obligations incurred by Tenant, its agents, employees or contractors relating to the Leased Premises. If any claim of lien is recorded, Tenant shall bond against or discharge the same within ten (10) days after the same has been recorded against the Leased Premises and/or the Property. ARTICLE 6 REPAIR AND MAINTENANCE 6.1. Tenant's Obligations to Maintain: Except as otherwise provided in Article 11 regarding the restoration of damage caused by fire and other perils, Tenant shall, at all times during the Lease Term, clean, keep, and maintain in good order, condition, and repair the Leased Premises and every part thereof, through regular inspections and servicing, including but not limited to (i) all plumbing and sewage facilities (including all sinks, toilets, faucets and drains), and all ducts, pipes, vents, or other parts of the HVAC or plumbing system, (ii) all fixtures, interior walls, floors, carpets and ceilings, (iii) all windows, doors, entrances, plate glass, showcases, including cleaning both interior and exterior surfaces, (iv) all electrical facilities and all equipment including all lighting fixtures, lamps, bulbs and tubes, fans, vents, exhaust equipment and systems, (v) any automatic fire extinguisher equipment in the Leased Premises, (vi) ceilings, roofs, skylights, roof gutters and drains, and (vii) landscaping, driveways, parking lots, signs, sidewalks, and parkways located in, on, about or adjacent to the Premises. Tenant, in keeping the Premises in good order, condition and repair, shall exercise and perform good maintenance practices. Tenant's obligations shall include restorations, replacements or renewals when necessary to keep the Premises and all improvements thereon or a part thereof in good order, condition and state of repair. If Tenant occupies the Premises for seven (7) years or more, Landlord may require Tenant to repaint the exterior of the buildings on the Premises as reasonably required, but not more frequently than once every seven (7) years. Tenant shall replace any damaged or broken glass in the Leased Premises (including all interior and exterior doors, windows, and showcases) with glass of the same kind, size and quality. Tenant shall repair any damage to the Leased Premises (including exterior doors and windows) caused by vandalism or any unauthorized entry. Tenant shall (i) maintain, repair, and replace when necessary all HVAC equipment, roof covering, landscaping and parking lot surface areas which serves the Leased Premises and shall keep the same in good condition through regular inspection and servicing, and (ii) maintain continuously throughout the Lease Term a service contract for the maintenance of all such HVAC equipment with a licensed HVAC repair and maintenance contractor approved by Landlord which provides for the periodic inspection and servicing of the HVAC equipment at least once every sixty (60) days during the Lease Term. Landlord may elect at any time to assume responsibility for the maintenance, repair and replacement of such HVAC equipment, roof covering, landscaping, and parking lot surface which serves the Leased Premises, and if it does so, all third party costs incurred by it in performing such maintenance, repair and replacement shall be paid for by Tenant on a periodic basis as Additional Rent within ten (10) days after receipt of a statement therefor from Landlord. Tenant shall also maintain continuously throughout the Lease Term a service contract for the washing of all windows in the Leased Premises (both interior and exterior surfaces) with a contractor approved by Landlord which provides for the periodic washing of all such windows at least once every ninety (90) days during the Lease Term. Tenant shall furnish Landlord with copies of all such service contracts, which shall provide that they may not be canceled or changed without at least thirty (30) days prior written notice to Landlord. All repairs and replacements required of Tenant shall be promptly made with new materials of like kind and quality. If the work affects the structural parts of the Building or if the estimated cost of any item of repair or replacement is in excess of Ten Thousand Dollars ($10,000.00), then Tenant shall first obtain Landlord's written approval of the scope of work, plans therefor, materials to be used, and the contractor. 6.2. Landlord's Obligation to Maintain: Landlord shall maintain and repair (i) the structural portions of the roof; (ii) the foundation (but not the floor or floor covering) of the Building; (iii) the exterior walls of the Building (subject to Section 6.1., above) so that the same is kept in good order and repair, reasonable wear and tear excepted; and (iv) any damages to the Premises caused by the negligence or willful misconduct of Landlord. Landlord shall not be responsible for repairs required by any accident, fire or other peril except as otherwise required by Article 11, or for damage caused to any part of the Property by any act, negligence or omission of Tenant or its agents, contractors, or employees or invitees. Landlord may engage contractors of its choice to perform the obligations required of it by this Article, and the necessity of any expenditure to perform such obligations shall be at the reasonable discretion of Landlord. It is an express condition precedent to all obligations of Landlord to repair and maintain that Tenant shall have notified Landlord in writing of the need for such repairs and maintenance, after which Landlord shall be given a reasonable opportunity to repair same. 6.3. Tenant's Negligence: Anything in this Article to the contrary notwithstanding, Tenant shall pay for all damage to the Leased Premises or the Property caused by the negligent act or omission of Tenant, its employees, contractors, or invitees or by the failure of Tenant to promptly discharge its obligations under this Lease or comply with the terms of this Lease, but only to the extent such damage is not covered by insurance proceeds actually recovered by Landlord. Tenant shall make payment therefore on damages incurred by Landlord. 6.4. Capital Improvements: If any repair or replacement is required to be made to the Leased Premises which would constitute a capital expenditure under generally accepted accounting principles ("GAAP"), then Landlord shall be required to make such repair or replacement, and Tenant shall be required to pay the costs therefor as Additional Rent to the extent such costs are amortized over the useful life of such capital items. The cost of such repair or replacement shall be amortized over the useful life of the improvement with interest on the unamortized balance at the then prevailing market rate Landlord would pay if it borrowed funds to construct such improvements from an institutional lender, and Landlord shall inform Tenant of the monthly amortization payment required to so amortize such costs, and shall also provide Tenant with the information upon which such determination is made. ARTICLE 7 WASTE DISPOSAL AND UTILITIES 7.1. Waste Disposal: Tenant shall store its waste either inside the Leased Premises or within outside trash enclosures that are (i) fully fenced and screened in compliance with all Private Restrictions designed for such purpose to be used either exclusively by Tenant or in common with other occupants of the Property, as designated by Landlord, and (ii) first approved by Landlord. All entrances to such outside trash enclosures shall be kept closed, and waste shall be stored in such manner as not to be visible from the exterior of such outside enclosures. Tenant shall cause all of its waste to be regularly removed from the Property at Tenant's sole cost. Tenant shall keep all fire corridors and mechanical equipment rooms in the Leased Premises free and clear of all obstructions at all times. 7.2. Utilities: Tenant shall promptly pay, as the same become due, all charges for water, gas, electricity, telephone, sewer service, waste pick- up, and any other utilities, materials or services furnished directly to or used by Tenant on or about the Leased Premises during the Lease Term, including, without limitation, all hookup and installation costs, fees and expenses of any such utilities. In addition to the above, Tenant shall be solely responsible for the cost of installation of heating, ventilation, and air-conditioning to its "server room" in the event that Tenant utilizes a "server room" requiring cooling beyond normal working hours (defined herein to be up to a maximum of ten (10) hours a day). 7.3. Compliance with Rules, Regulations and Requirements: Landlord shall comply with all rules, regulations and requirements promulgated by national, state or local governmental agencies or utility suppliers concerning the use of utility services, including any rationing, limitation or other control. Tenant shall not be entitled to terminate this Lease nor to any abatement in rent by reason of such compliance. Furthermore, Landlord shall be entitled to cooperate voluntarily in a reasonable manner with the efforts of all governmental agencies or utility suppliers in reducing energy or other resources consumption. Tenant agrees at all times to cooperate fully with Landlord and to abide by all rules and regulations-and requirements which Landlord may prescribe in order to maximize the efficient operation of the HVAC system and all other utility systems. ARTICLE 8 REAL PROPERTY TAXES 8.1. Real Property Taxes Defined: The term "Real Property Taxes" as used herein shall mean (i) all taxes, assessments, levies, and other charges of any kind or nature whatsoever, general and special, foreseen and unforeseen (including all installments or principal and interest required to pay any general or special assessments for public improvements and any increases resulting from reassessments caused by any change in ownership) or hereafter imposed by any governmental or quasi-governmental authority or special district having the direct or indirect power to tax or levy assessments, which are levied or assessed against, or with respect to the value, occupancy or use of, all or any portion of the Property (as now constructed or as may at any time hereafter be constructed, altered, or otherwise changed) or Landlord's interest therein; the fixtures, equipment and other property of Landlord, real or personal, that are an integral part of and located on the Property; and the gross receipts, income, or rentals from the Property; or the use of parking areas, public utilities, or energy within the Property; (ii) all charges, levies or fees imposed by reason of governmental control of the Property, and (iii) all third party costs and fees (including attorneys' fees) incurred by Landlord in contesting any Real Property Tax and in negotiating with public authorities as to any Real Property Tax. If at any time during the Lease Term the taxation or assessment of the Property prevailing as of the Effective Date shall be altered so that in lieu of or in addition to any Real Property Tax described above there shall be levied, assessed or imposed (whether by reason of a change in the method of taxation or assessment, creation of a new tax or charge, or any other cause) an alternate or additional tax or charge (i) on the value, use or occupancy of the Property of Landlord's interest therein or (ii) on or measured by the gross receipts, income, or rentals from the Property, on Landlord's business of leasing the Property, or computing in any manner with respect to the operation of the Property, then any such tax or charge, however designated, shall be included within the meaning of the term "Real Property Taxes" for purposes of this Lease. If any Real Property Tax is based upon property or rents unrelated to the Property, then only that part of such Real Property Tax that is fairly allocable to the Property shall be included within the meaning of the term "Real Property Taxes". Notwithstanding the foregoing, the term "Real Property Taxes" shall not include estate, inheritance, transfer, gift or franchise taxes of Landlord or the federal or state net income tax imposed on Landlord's income from all sources. 8.2. Tenant's Obligation to Reimburse: As Additional Rent, Tenant shall pay Tenant's Allocable Share of all Real Property Taxes (i) within twenty (20) days after being billed for the same by Landlord, or (ii) no later than ten (10) days before such Real Property Tax becomes delinquent, whichever last occurs. If requested by Tenant in writing within thirty (30) days of receipt of a bill for Tenant's Allocated Share of Real Property Taxes, Landlord shall furnish Tenant with such evidence as is reasonably available to Landlord with respect to the amount of any Real Property Tax which is part of such bill. Tenant may not withhold payment of such bill pending receipt and/or review of such evidence. If any Lender requires Landlord to impound Real Property Taxes on a periodic basis during the Lease Term, then Tenant, on notice from Landlord indicating this requirement, shall pay a sum of money toward its liability under this Article to Landlord on the same periodic basis in accordance with the lender's requirements. Landlord shall impound the Real Property Tax payments received from Tenant in accordance with requirements of the Lender. 8.3. Taxes on Tenant's Personal Property: Tenant shall pay before delinquency any and all taxes, assessments, license fees, and public charges levied, assessed, or imposed against Tenant or Tenant's estate in this Lease or the property of Tenant situated within the Leased Premises which become due during the Lease Term. On demand by Landlord, Tenant shall furnish Landlord with satisfactory evidence of these payments. 8.4. Tenant's Improvements: If any of the Alterations and/or Tenant Improvements constructed and/or installed in the Leased Premises, whether installed and/or paid for by Landlord or Tenant, and whether or not the same affect the Real Property so as to become part thereof, are assessed for Real Property Tax purposes at a valuation higher than the valuation at which the Building standard improvements are assessed, then the Real Property Taxes and assessments levied against the Building by reason of such excess assessed valuation shall be governed by the provisions of Section 8.2 hereof. If the records of the County Assessor are available and sufficiently detailed to serve as a basis for determining whether the Alterations and/or Tenant Improvements are assessed at a higher valuation than the Building standard improvements, such records shall be binding on both the Landlord and Tenant. If the records of the County Assessor are not available or sufficiently detailed to serve as a basis for making such determination, the actual costs of construction shall be used. ARTICLE 9 INSURANCE 9.1. Tenant's Insurance: Tenant shall maintain in full force and effect during the Lease Term the following insurance: 9.1.1. Tenant shall maintain a policy or policies of commercial general liability insurance, including property damage, against liability for personal injury, bodily injury, death, and damage to property occurring in or about, or resulting from an occurrence in or about, the Leased Premises with combined single limit coverage of not less than the amount of Tenant's Minimum Liability Insurance set forth in Section 1.10. Such comprehensive general liability insurance shall contain fire damage coverage and a "contractual liability" endorsement insuring Tenant's performance of Tenant's obligation to indemnify Landlord contained in Section 10.3. If Landlord's Lender, insurance advisor or counsel reasonably determines at any time that the amount of such coverage is not adequate, Tenant shall increase such coverage to such amount as Landlord's Lender, insurance advisor or counsel reasonably deem adequate, not to exceed the level of coverage then commonly carried by comparable businesses similarly situated. 9.1.2. Tenant shall maintain a policy or policies of fire and property damage insurance in "all risk" form with a sprinkler leakage endorsement (if the Building contains fire sprinklers) insuring the personal property, inventory, Trade Fixtures, and Leasehold Improvements within the Leased Premises for the full replacement value thereof. The proceeds from any of such policies shall be used for the repair or replacement of such items so insured. 9.1.3. Tenant shall maintain a policy or policies of worker's compensation insurance and any other employee benefit insurance sufficient to comply with all Laws. 9.1.4. Landlord and such others it designates shall be named as additional insureds on the policies of insurance described in Sections 9.1.1 and 9.1.2 above. All insurance required by this paragraph (i) shall be primary insurance which provides that the insurer shall be liable for the full amount of the loss up to and including the total amount of liability set forth in the declarations without the right of contribution from any other insurance coverage of Landlord, (ii) shall be in a form satisfactory to Landlord, (iii) shall be carried with companies reasonably acceptable to Landlord, (iv) shall provide that such policies shall not be subject to cancellation or change except after at least thirty (30) days prior written notice to Landlord, and (v) shall not have a "deductible" in excess of One thousand Dollars ($1,000.00) per occurrence. Copies of such policy or policies, or duly executed certificates for them, together with satisfactory evidence of the payment of the premium thereon shall be deposited with Landlord prior to the time Tenant enters into possession of the Leased Premises and upon renewal of such policies, but not less than thirty (30) days prior to the expiration of the term of such coverage. 9.2. Release and Waiver of Subrogation: The parties hereto release each other, and their respective agents, employees, and contractors, from any claims for injury or damage to property that are caused by or result from risks insured against under any insurance policies carried by the parties and in force at the time of such damage, but only to the extent such claims are covered by such insurance. This release shall be in effect only so long as the applicable insurance policies contain a clause to the effect that this release shall not affect the right of the insured to recover under such policies. Each party shall cause each insurance policy obtained by it to provide that the insurance company waives all rights of recovery by way of subrogation against either party in connection with any damage covered by such policy so long as such waiver is available without unreasonable additional cost. 9.3. Landlord's Real Property Insurance: Landlord shall purchase and keep in force policy(ies) of insurance covering loss or damage to the Premises by reason of fire (extended coverage), flood and/or earthquake (if available and available at commercially reasonable costs in Landlord's sole discretion, or if required by a lender) and those perils included within the classification of "all risks" insurance (with sprinkler damage and other appropriate endorsements), which insurance shall be in the amount of the full replacement value of the Premises as determined by insurance company appraisers or Landlord's insurance broker; plus Landlord's liability insurance; plus rental income insurance in the amount of one hundred (100%) percent of up to twelve (12) months Basic Rent (plus sums paid during such period as Additional Rent). Such coverage shall exclude routine maintenance and repairs and incidental damage caused by accidents or vandalism for which Tenant is responsible under Section 9. Tenant agrees to pay to Landlord as Additional Rent in accordance with Section 3.2(2) of this Lease the costs of such insurance coverage, including the premiums and deductibles for any such coverage obtained by Landlord. If such insurance cost is increased due to Tenant's particular use of the Premises, Tenant agrees to pay to Landlord the full costs of such increase. Tenant shall have no interest in nor any right to the proceeds of any insurance procured by Landlord for or with respect to the Premises. ARTICLE 10 LIMITATION ON LANDLORD'S LIABILITY AND INDEMNITY 10.1. Limitation on Landlord's Liability: Landlord shall not be liable to Tenant, nor shall Tenant be entitled to any abatement of rent, for any injury to Tenant, its agents, employees, contractors, or invitees; damage to Tenant's property; or loss to Tenant's business resulting from any cause, including without limitation any (i) failure, interruption or installation of any heating, ventilating and/or air-conditioning system or other utility system or service; (ii) failure to furnish or delay in furnishing any utilities or services when such failure or delay is caused by acts of God or the elements, labor disturbances of any character, any other accidents or other conditions beyond the reasonable control of Landlord, or by the making of repairs or improvements to the Leased Premises or Building; (iii) the limitation, curtailment, rationing or restriction on the use of water or electricity, gas or any other form of energy or any services or utility whatsoever serving the Leased Premises or Building; (iv) vandalism or forcible entry by unauthorized person; or (iv) penetration of water into or onto any portion of the Leased Premises through roof leaks or otherwise. Notwithstanding the foregoing, Landlord shall be liable for such injury, damage or loss which is proximately caused by Landlord's negligence or willful misconduct, but only to the extent such injury, damage or loss is not covered by insurance actually carried or required to be carried pursuant to this Lease. 10.2. Limitation on Tenant's Recourse: Other than for acts of fraud by Landlord, Tenant expressly agrees that so long as the Landlord under this Lease shall be and remains a corporation, a trust, a partnership, a joint venture, an unincorporated association, or other form of business entity, (i) the obligations of the Landlord under this Lease shall not constitute personal obligations of the officers, directors, trustees, partners, joint venturers, members, owners, stockholders, or other principals or representatives of such business entity, and (ii) Tenant shall have recourse only to the assets of such business entity for the satisfaction of such obligations and not against the assets of such officers, directors, trustees, partners, joint venturers, members, owners, stockholders, principals, or representatives, other than to the extent of their interest in the assets owned by such business entity. 10.3. Indemnification of Landlord: Tenant shall hold harmless, indemnify and defend Landlord, and its employees, agents, and contractors, with competent counsel reasonably satisfactory to Landlord, from all liability, penalties, losses, damages, costs, expenses, causes of action, claims and/or judgments arising by reason of any death, bodily injury, personal injury or property damage (i) resulting from any cause or causes whatsoever (other than the negligence or willful misconduct of Landlord) occurring in or about or resulting from any occurrence in or about the Leased Premises during the Lease Term, or (ii) resulting from the negligence or willful misconduct of Tenant, its agents, employees and contractors, wherever the same may occur. The provisions of this paragraph shall survive the expiration or termination of this Lease with respect to any claims or liability occurring prior to such expiration or sooner termination. ARTICLE 11 DAMAGE TO LEASED PREMISES 11.1. Landlord's Duty to Restore: If the Leased Premises are damaged by any Covered Peril (as hereinafter defined in Section 11.2.1) after the Effective Date of this Lease, Landlord shall restore the Leased Premises unless the Lease is terminated by Landlord pursuant to Section 11.2 or by Tenant pursuant to Section 11.3. All insurance proceeds available from the fire and property damage insurance carried by Landlord pursuant to Section 9.3 shall be paid to and become the property of Landlord. All insurance proceeds available from insurance carried by Tenant which covers loss to property (that is the loss that is covered by insurance) and the issuance of all necessary governmental permits, Landlord shall commence and diligently prosecute to completion the restoration of the Leased Premises, to the extent then allowed by Law, to substantially the same condition in which the Leased Premises were immediately prior to such damage. Landlord's obligation to restore shall be limited to the Leased Premises and interior improvements constructed by Landlord as they existed as of the Commencement Date, excluding any Leasehold Improvements, Trade Fixtures and/or personal property constructed or installed by Tenant in the Leased Premises. Tenant shall forthwith replace or fully repair all Leasehold Improvements and Trade Fixtures installed by Tenant and existing at the time of such damage or destruction. 11.2. Landlord's Right to Terminate: Landlord shall have the option to terminate this Lease in the event any of the following occurs, which option may be exercised only by delivery to Tenant of a written notice of election to terminate within thirty (30) days after the date of such damage. 11.2.1. The Building is damaged by any peril covered by valid and collectible insurance actually carried by Landlord and in force at the time of such damage or destruction ("Covered Peril"), to such an extent that the estimated cost to restore the Building equals or exceeds thirty three and one-third (33-1/3%) percent of the then replacement value thereof; 11.2.2. The Building is damaged by any peril not covered by valid and collectible insurance actually carried by Landlord and in force at the time of such damage or destruction, to such an extent that the estimated cost to restore the Building equals or exceeds twenty-five percent (25%) of the then replacement value thereof; 11.2.3. The Leased Premises are damaged by any Covered Peril within six (6) months of the last day of the Lease Term to such an extent that the estimated cost to restore equals or exceeds an amount equal to six (6) times the Base Monthly Rent then due; provided, however, that Landlord may not terminate this Lease pursuant to this subsection 11.2.3 if Tenant, at the time of such damage, has an express written option to further extend the term of this Lease and Tenant exercises such option to so further extend the Lease Term within fifteen (15) days following the date of such damage; or 11.2.4. The Building is damaged by any Covered Peril and, because of the Laws then in force, (i) may not be restored at reasonable cost to substantially the same condition in which it was prior to such damage, or (ii) may not be used for the same use being made thereof before such damage whether or not restored as required by this Article. 11.3. Tenant's Right to Terminate: If the Leased Premises are damaged by any peril and Landlord does not elect to terminate this Lease or is not entitled to terminate this Lease pursuant to Section 11.2, then as soon as reasonably practicable, Landlord shall furnish Tenant with the written opinion of Landlord's architect or construction consultant as to when the restoration work required of Landlord may be completed. Tenant shall have the option to terminate this Lease in the event any of the following occurs, which option may be exercised only by delivery to Landlord of a written notice of election to terminate within seven (7) days after Tenant receives from Landlord the estimate of the time needed to complete such restoration: 11.3.1. The Leased Premises are damaged by any peril and, in the reasonable opinion of Landlord's architect or construction consultant, the restoration of the Leased Premises cannot be substantially completed within one hundred eighty (180) days after the date of such damage; or 11.3.2. The Leased Premises are damaged by any peril within twelve (12) months of the last day of the Lease Term and in the reasonable opinion of Landlord's architect or construction consultant the restoration of the Leased Premises cannot be substantially completed within ninety (90) days after the date of such damage. 11.4. Abatement of Rent: In the event of damage to the Leased Premises which does not result in the termination of this Lease, the Base Monthly Rent shall be temporarily abated during the period of restoration in proportion to the degree to which Tenant's use of the Leased Premises is impaired by such damage. Tenant shall not be entitled to any compensation or damages from Landlord for loss of Tenant's property or any inconvenience or annoyance caused by such damage or restoration. Tenant hereby waives the provisions of Section 1932, subdivision 2, and Section 1933, Subdivision 4, of the California Civil Code, and the provisions of any similar law hereinafter enacted. 11.5. Tenant's Costs and Insurance Proceeds: Upon damage or destruction of all or any part of the Premises by a Covered Peril, Tenant shall immediately deliver to Landlord all property insurance proceeds received by Tenant with respect to the Tenant Improvements and any Alterations, but excluding proceeds for Tenant's furniture, fixtures, equipment and other personal property, whether or not this Lease is terminated as permitted in this Article 11, and Tenant hereby assigns to Landlord all rights to receive such insurance proceeds. ARTICLE 12 CONDEMNATION 12.1. Taking of Leased Premises: If all or any part of the (i) any taking by the Leased Premises are taken by means of: (i) any taking by the exercise of the power of eminent domain, whether by legal proceedings or otherwise, (ii) a voluntary sale or transfer by Landlord to any condemnor under threat of condemnation or while legal proceedings for condemnation are pending, or (iii) any taking by inverse condemnation (a "Condemnation"), then Landlord shall have the option to terminate this Lease. If all or any part of the Leased Premises are taken by Condemnation and the Leased Premises cannot be reconstructed within a reasonable period of time and thereby made reasonably suitable for Tenant's continued occupancy for the Permitted Use, then Tenant shall have the option to terminate this Lease. Any such option to terminate by either Landlord or Tenant must be exercised within a reasonable period of time, to be effective as of the date that possession of the Leased Premises is taken by the condemnor. 12.2. Restoration Following the Taking: If any part of the Leased Premises is taken by Condemnation and this Lease is not terminated, then Landlord shall make all repairs and alterations that are reasonably necessary to make that which is not taken a complete architectural unit, but such work shall not exceed the scope of the work done by Landlord in originally constructing the Property. 12.3. Abatement of Rent: Except in the case of a temporary taking, if any portion of the Leased Premises is taken by Condemnation and this Lease is not terminated, then as of the date possession is taken, the Base Monthly Rent and Additional Rent shall be reduced in the same proportion that the floor area of that part of the Leased Premises so taken (less any addition thereto by reason of any reconstruction) bears to the original floor area of the Leased Premises. 12.4. Temporary Taking: If any portion of the Leased Premises is temporarily taken by Condemnation for a period which either exceeds one (1) year or which extends beyond the natural expiration of the Lease Term, then Landlord and Tenant shall each independently have the option to terminate this Lease, effective on the date possession is taken by the condemnor. 12.5. Division of Condemnation Award: Any award made as a result of any Condemnation of the Leased Premises shall belong to and be paid to Landlord, and Tenant hereby assigns to Landlord all of its right, title and interest in any such award; provided, however, that Tenant shall be entitled to receive any Condemnation award that is made directly to Tenant (i) for the taking of personal property or Trade Fixtures belonging to Tenant, (ii) for the interruption of Tenant's business or its moving costs, (iii) for loss of Tenant's goodwill, or (iv) for any temporary taking where this Lease is not terminated as a result of such taking. The rights of Landlord and Tenant regarding any Condemnation shall be determined as provided in this Article, and each party hereby waives the provisions of Section 1265.130 of the California Code of Civil Procedure and the provisions of any similar law hereinafter enacted allowing either party to petition the Superior Court to terminate this Lease in the event of a partial taking of the Leased Premises. ARTICLE 13 DEFAULT AND REMEDIES 13.1. Events of Tenant's Default: Tenant shall be in default of its obligations under this Lease if any of the following events shall occur: 13.1.1. Intentionally Omitted. 13.1.2. Failure to pay any installment of Rent or any other monies due and payable hereunder, said failure continuing for a period of three (3) days after the same is due; 13.1.3. A general assignment by Tenant for the benefit of creditors; 13.1.4. The filing of a voluntary petition in bankruptcy by Tenant, the filing of a voluntary petition for an arrangement, the filing of a petition, voluntary or involuntary, for reorganization, or the filing of an involuntary petition by Tenant's creditors, said involuntary petition remaining undischarged for a period of sixty (60) days; 13.1.5. Receivership, attachment, or other judicial seizure of substantially all of Tenant's assets on the Leased Premises, such attachment or other seizure remaining undismissed or undischarged for a period of sixty (60) days after the levy thereof; 13.1.6. Failure of Tenant to execute and deliver to Landlord any estoppel certificate, subordination agreement, or financial statement within the time periods and in the manner required by Article 17; 13.1.7. An assignment or sublease, or attempted assign-ment or sublease, of this Lease or the Leased Premises by Tenant contrary to the provision of Article 14, unless such assignment or sublease is expressly conditioned upon Tenant having received Landlord's consent thereto; 13.1.8. Failure of Tenant to restore the Security Deposit to the amount and within the time period provided in Subsection 3.6.; 13.1.9. Failure in the performance of any of Tenant's covenants, agreements or obligations hereunder (except those failures specified as events of Default in other Sections of this Article 13, which shall be governed by such other Sections), which failure continues for thirty (30) days after written notice thereof from Landlord to Tenant provided that, if Tenant has exercised reasonable diligence to cure such failure and such failure cannot be cured within such thirty (30) day period despite reasonable diligence, Tenant shall not be in default under this subparagraph unless Tenant fails thereafter diligently and continuously to prosecute the cure to completion; and 13.1.10. Chronic delinquency by Tenant in the payment of Rent, or any other periodic payments required to be paid by Tenant under this Lease. "Chronic Delinquency" shall mean failure by Tenant to pay Rent, or any other payments required to be paid by Tenant under this Lease, within ten (10) days after the same is due for any three (3) months (consecutive or non- consecutive) during any twelve (12) month period. In the event of a Chronic Delinquency, in addition to Landlord's other remedies for Default provided in this Lease, at Landlord's option, Landlord shall have the right to require that Rent be paid by Tenant quarterly, in advance. 13.2. Landlord's Remedies: In the event of any default by Tenant, Landlord shall have the following remedies, in addition to all other rights and remedies provided by any Law or otherwise provided in this Lease, to which Landlord may resort cumulatively, or in the alternative: 13.2.1. Landlord may, at Landlord's election, keep this Lease in effect and enforce by an action at law or in equity all of its rights and remedies under the Lease, including (i) the right to recover the rent and other sums as they become due by appropriate legal action, (ii) the right to make payments required of Tenant or perform Tenant's obligations and be reimbursed by Tenant for the cost thereof with interest at the Agreed Interest Rate from the date the sum is paid by Landlord until Landlord is reimbursed by Tenant, and (iii) the remedies of injunctive relief and specific enforcement to compel Tenant to perform its obligations under this Lease. 13.2.2. Landlord may, at Landlord's election, terminate this Lease by giving Tenant written notice of termination, in which event this Lease shall terminate on the date set forth for termination in such notice. Any termination under this subparagraph shall not relieve Tenant from its obligation to pay any sums then due Landlord or from any claim against Tenant for damages or rent previously accrued or then accruing. In no event shall any one or more of the following actions by Landlord, in the absence of a written election by Landlord to terminate this Lease, constitute a termination of this Lease: A. Appointment of a receiver or keeper in order to protect Landlord's interest hereunder; B. Consent to any subletting of the Leased Premises or assignment of this Lease by Tenant, whether pursuant to the provisions hereof or otherwise; or C. Any other action by Landlord or Landlord's agents intended to mitigate the adverse effects of any breach of this Lease by Tenant, including without limitation any action taken to maintain and preserve the Leased Premises or any action taken to relet the Leased Premises or any portions thereof, for the account of Tenant and in the name of Tenant. 13.2.3. In the event Tenant breaches this Lease and abandons the Leased Premises, this Lease shall not terminate unless Landlord gives Tenant written notice of its election to so terminate this Lease. No act by or on behalf of Landlord intended to mitigate the adverse effect of such breach, including those described by Sections 13.2.2 A, B and C immediately preceding, shall constitute a termination of Tenant's right to possession unless Landlord gives Tenant written notice of termination. Should Landlord not terminate this Lease by giving Tenant written notice, Landlord may enforce all its rights and remedies under this Lease, including the right to recover the rent as it becomes due under the Lease as provided in California Civil Code Section 1951.4, as in effect on the Effective Date of this Lease. 13.2.4. In the event Landlord terminates this Lease, Landlord shall be entitled, at Landlord's election, to damages in an amount as set forth in California Civil Code Section 1951.2 as in effect on the Effective Date of this Lease. For purposes of computing damages pursuant to Section 1951.2, (i) the Agreed Interest Rate shall be used where permitted, and (ii) rent due under this Lease shall include Base Monthly Rent and all other rent hereunder, prorated on a monthly basis where necessary to compute such damages. Such damages shall include without limitation: A. The worth at the time of award of the amount by which the unpaid rent for the balance of the term after the time of award exceeds the amount of such rental loss that Tenant proves could be reasonably avoided, computed by discounting such amount at the discount rate of the Federal Reserve Bank of San Francisco at the time of award plus one percent (1%); and B. Any other amount necessary to compensate Landlord for all detriment proximately caused by Tenant's failure to perform Tenant's obligations under this Lease, or which in the ordinary course of things would be likely to result therefrom, including, without limitation, the following: (i) expenses for cleaning, repairing or restoring the Leased Premises; (ii) expenses for altering, remodeling or otherwise improving the Leased Premises for the purpose of reletting, including installation of leasehold improvements (whether such installation be funded by a reduction of rent, direct payment or allowance to a new tenant, or otherwise); (iii) broker's fees, advertising costs and other expenses of reletting the Leased Premises; (iv) costs of carrying the Leased Premises, such as taxes, insurance premiums, utilities, and security precautions; (v) expenses in retaking possession of the Leased Premises; and (vi) attorneys, fees and court costs incurred by Landlord in retaking possession of the Leased Premises and in re-leasing the Leased Premises or otherwise incurred as a result of Tenant's default. C. For purposes of this Article, the rent due for any calendar month after which Tenant has terminated the operation of its business as herein specified or has abandoned the Leased Premises shall be deemed to be the average monthly rent, including the Base Monthly Rent and all additional rent hereunder, which were due for the twelve (12) month period immediately prior to such termination or for such shorter period of time as this Lease shall have been in effect. 13.2.5. Nothing in this Section shall limit Landlord's right to indemnification from Tenant as provided in Section 10.2. 13.3. Landlord's Default and Tenant's Remedies: In the event Landlord fails to perform any of its obligations under this Lease and fails to cure such default within thirty (30) days after written notice from Tenant specifying the nature of such default where such default could reasonably be cured within said thirty (30) day period, or fails to commence such cure within said thirty (30) day period and thereafter continuously with due diligence prosecute such cure to completion where such default could not reasonably be cured within said thirty (30) day period, then Tenant shall have the following remedies only: 13.3.1. Tenant may proceed in equity or at law to compel Landlord to perform its obligations and/or to recover damages proximately caused by such failure to perform (except to the extent Tenant has waived its right to damages resulting from injury to person or damage to property as provided herein). 13.3.2. Tenant, at its option, may cure any default of Landlord at Landlord's cost. If Tenant at any time by reason of Landlord's default reasonably pays any sum or does any act that requires the payment of any sum, the sum paid by Tenant shall be immediately due from Landlord to Tenant at the time the sum is paid, and shall bear interest at the Agreed Interest Rate from the date the sum is paid by Tenant until Tenant is reimbursed by Landlord. 13.3.3. Tenant waives the provisions of Sections 1932, 1933(4), 1941, and 1942 of the California Civil Code and/or any similar or successor law regarding Tenant's right to terminate this Lease or to make repairs and deduct the expenses of such repairs from the rent due under the Lease. Tenant hereby waives any right of redemption or relief from forfeiture under the laws of the State of California, or under any other present or future law, in the event Tenant is evicted or Landlord takes possession of the Leased Premises by reason of any default by Tenant. 13.4. Waiver: One party's consent to or approval of any act by the other party requiring the first party's consent or approval shall not be deemed to waive or render unnecessary the first party's consent to or approval of any subsequent similar act by the other party. The receipt by Landlord of any rent or payment with or without knowledge of the breach of any other provision hereof shall not be deemed a waiver of any such breach unless such waiver is in writing and signed by Landlord. No delay or omission in the exercise of any right or remedy accruing to either party upon any breach by the other party under this Lease shall impair such right or remedy or be construed as a waiver of any such breach theretofore or hereafter occurring. The waiver by either party of any breach of any provision of this Lease shall not be deemed to be a waiver of any subsequent breach of the same or any other provisions herein contained. Moreover, if Landlord accepts a partial payment of rent after filing an unlawful detainer complaint pursuant to California Code of Civil Procedure, Section 1166, the Landlord's acceptance of partial payment is only evidence of that payment, without waiver of any rights, including any right Landlord may have to recover possession of the Leased Premises. ARTICLE 14 ASSIGNMENT 14.1. By Tenant: Tenant shall not voluntarily or by operation of law, (1) mortgage, pledge, hypothecate or encumber this Lease or any interest herein, (2) assign or transfer this Lease or any interest herein, sublet the Leased Premises or any part thereof, or any right or privilege appurtenant thereto, or allow any other person (the employees, agents, and invitees of Tenant excepted) to occupy or use the Leased Premises, or any portion thereof, without first obtaining the written consent of Landlord, which consent shall not be withheld unreasonably. When Tenant requests Landlord's consent to such assignment or subletting, Landlord shall have the option, to be exercised within thirty (30) days of receipt of the foregoing, to (1) cancel this Lease as of the Commencement Date stated in the proposed sublease or assignment, (2) acquire from Tenant the interest, or any portion thereof, in this Lease and/or the Leased Premises that Tenant proposes to assign or sublease, on the same terms and conditions as stated in the proposed sublet or assignment agreement, (3) consent to the proposed assignment or sublease, or (4) refuse its consent to the proposed assignment or sublease, providing that such consent shall not be unreasonably withheld. In this regard: 14.1.1. Any attempted subletting, assignment, or encumbrance without Landlord's prior consent shall be voidable and, at Landlord's election, shall constitute a default. 14.1.2. Tenant agrees to reimburse Landlord all reasonable costs and attorneys fees actually incurred by Landlord in conjunction with the processing and documentation of any such requested subletting, assignment or encumbrance, none of which shall be effective until Tenant shall have paid such costs and fees which shall not exceed $2,500.00. 14.1.3. Consent by Landlord to one or more assignments or encumbrances of this Lease or to one or more sublettings of the Leased Premises shall not be deemed to be a consent to any subsequent assignment, encumbrances, or subletting. 14.1.4. No subletting or assignment, even with consent of Landlord, shall relieve Tenant of its personal and primary obligation to pay the rent and to perform all of the other obligations to be performed by Tenant hereunder. The acceptance of rent by Landlord from any person shall not be deemed to be a waiver by Landlord of any, provision of this Lease or to be a consent to any assignment or subletting. 14.1.5. If Tenant is a corporation, any dissolution, merger, consolidation, or other reorganization of Tenant, or the sale or other transfer in the aggregate over the Lease Term of a controlling percentage of the capital stock of Tenant, shall be deemed a voluntary assignment of Tenant's interest in this Lease. The phrase "controlling percentage" means the ownership of and the right to vote stock possessing more than fifty percent (50%) of the total combined voting power of all classes of Tenant's capital stock issued, outstanding and entitled to vote for the election of directors. If Tenant is a partnership or limited liability company, a withdrawal or change, voluntary, involuntary or by operation of law, of any general partner or member(s), or the dissolution of the partnership or limited liability company, shall be deemed a voluntary assignment. 14.1.6. If Tenant assigns or sublets its interest (or any portion thereof) in this Lease in accordance with this Article, then Tenant shall pay to Landlord fifty percent (50%) of all net consideration received by Tenant in excess of the rent under the Lease as a result of such assignment as and when received by Tenant as allowed by Civil Code Section 1995.240, after deducting any cost incurred for advertising and other marketing expenses, leasing commission, attorney fees and tenant improvements ("Allowed Transfer Costs"). If Tenant sublets all or part of the Leased Premises in accordance with this Article, then Tenant shall pay to Landlord fifty percent (50%) of the positive difference, if any, between (i) all rent and other consideration paid by the subtenant to Tenant less (ii) Allowed Transfer Costs incurred by Tenant incident to the sublease agreement (including an amount equal to the resulting product of the rent payable hereunder to Landlord by Tenant during the time period covered by such payments by the subtenant times a fraction whose numerator is the leasable area of that portion of the Leased Premises so sublet and whose denominator is Tenant's Gross Leasable Area). Said consideration shall be payable to Landlord on the same basis, whether periodic or in lump sum, that such consideration is paid to Tenant by its subtenant after all Allowed Transfer Costs theretofore paid by Tenant have been recouped. Immediately following its execution, Tenant shall deliver to Landlord a true copy of any permitted assignment or sublease. At the time Tenant makes any payment to Landlord required by this Section 14.1.6, Tenant shall deliver an itemized statement of the method by which the amount due Landlord was calculated, certified by Tenant as true and correct. Landlord shall have the right to inspect Tenant's books and records relating to the payments due pursuant to this Section. 14.1.7. Tenant shall give Landlord at least twenty (20) days prior written notice of any desired Transfer and of the proposed terms of such Transfer, including, but not limited to (i) the name and legal composition of the proposed Transferee; (ii) an audited financial statement, if available, or any unaudited financial statement if an audited statement is not available, of the Transferee prepared in accordance with generally accepted accounting principles for a period ending not more than one (1) year prior to the proposed effective date of the Transfer; (iii) the nature of the proposed Transferee's business to be carried on in the Leased Premises; (iv) all consideration to be given on account of the Transfer; (v) a current financial statement of Tenant; and (vi) such other information as may, be requested by Landlord. Tenant's notice shall not be deemed to have been served or given until such time as Tenant has provided Landlord with all information required by this Section 14.1.7. Without otherwise limiting the criteria upon which Landlord may withhold its consent to any proposed Transfer, if Landlord withholds its consent where the proposed Transferee's net worth (according to generally accepted accounting principles) is less than the greater of (i) the net worth of Tenant immediately prior to the Transfer, or (ii) the net worth of Tenant as of the Commencement Date, such withholding of consent shall be presumptively reasonable. The following rights are in addition to Landlord's right to withhold its consent to any Transfer and may be exercised by Landlord in its sole discretion without limiting Landlord in the exercise of any other right or remedy which Landlord may have. 14.1.8. Notwithstanding the provisions of Sections 14.1 through 14.1.7. to the contrary, Tenant may, without Landlord's consent, sublet all or any portion of the Premises or assign the Lease to: (i) a subsidiary, parent, affiliate, division or corporation controlled by or under common control with Tenant; or (ii) a successor corporation related to Tenant by merger, consolidation, reorganization, acquisition of capital stock, or government action. However, no such subletting or assignment, even without the consent of Landlord, shall relieve Tenant of its primary obligation to pay rent and perform all of the other obligations to be performed by Tenant hereunder for which it will remain liable. Any of the above transfers shall be considered a "Voluntary Permitted Transfer" of Tenant's interest in this Lease. Under any such Voluntary Permitted Transfer, Tenant and any assignee(s) or transferee(s) shall be, and agree to be, fully liable for all of the obligations of Tenant due under the Lease. Moreover, Tenant and such assignee(s) or transferee(s) must notify Landlord in writing of such subletting or assignment described in this Section 14.1.8 within fifteen (15) days of the transfer and the assignee(s_ or transferee(s) must expressly agree in a written document satisfactory to Landlord to assume all of Tenant's obligations under the Lease and a failure to do so shall not relieve such assignee(s) or transferee(s) from liability for all obligations of Tenant due under the Lease. 14.1.9. Tenant acknowledges and agrees that the restrictions, conditions and limitations imposed by this Article 14 on Tenant's ability to assign or transfer this Lease or any interest herein, to sublet the Leased Premises or any part thereof, to transfer or assign any right or privilege appurtenant to the Leased Premises, or to allow any other person to occupy or use the Leased Premises or any portion thereof, are, for the purposes of California Civil Code Section 1951.4, as amended from time-to- time, and for all other purposes, reasonable at the time that the Lease was entered into, and shall be deemed to be reasonable at the time that Tenant seeks to assign or transfer this Lease or any interest herein, to sublet the Leased Premises or any part thereof, to transfer or assign any right or privilege appurtenant to the Leased Premises, or to allow any other person to occupy or use the Leased Premises or any portion thereof. 14.1.10. Notwithstanding the above to the contrary, Landlord agrees that Tenant may sublease up to 20,000 square feet of space at the Premises with Landlord's consent (which consent may not be unreasonably withheld) and that Tenant may retain one hundred (100%) percent of the proceeds from any such subleasing. 14.2. By Landlord: Landlord and its successors in interest shall have the right to transfer their interest in the Leased Premises and the Property at any time and to any person or entity. In event of any such transfer the Landlord originally named herein (and in the case of any subsequent transfer, the transferor) from the date of such transfer, (i) shall be automatically relieved, without any further act by any person or entity, of all liability for the performance of the obligations of the Landlord hereunder which may accrue after the date of such transfer, and (ii) shall be relieved of all liability for the performance of the obligations of the Landlord hereunder which have accrued before the date of transfer only if its transferee agrees to assume and be bound by the terms of this Lease and to perform all obligations of the Landlord hereunder. ARTICLE 15 TERMINATION 15.1. Surrender of the Leased Premises: Immediately prior to the expiration or upon the sooner termination of this Lease, Tenant shall remove all Tenant's Trade Fixtures and other personal property and vacate and surrender the Leased Premises to Landlord in the same condition as existed at- the Commencement Date, reasonable wear and tear excepted, with all interior walls cleaned, all carpets shampooed and cleaned, all HVAC equipment within the Leased Premises in operating order and in good repair, and all floors cleaned, all to the reasonable satisfaction of Landlord. Landlord may, at Tenant's expense, hire independent contractors to inspect any HVAC system serving the Leased Premises or electrical system within the Leased Premises for the purpose of determining whether they have been properly maintained by Tenant, and Tenant shall pay the cost thereof within ten (10) days after receipt of a statement therefore from Landlord. If Landlord so requests, Tenant shall, prior to the expiration or sooner termination of this Lease, remove any Leasehold Improvements designated by Landlord and repair all damage caused by such removal. If the Leased Premises are not so surrendered at the termination of this Lease, Tenant shall be liable to Landlord for all costs incurred by Landlord in returning the Leased Premises to the required condition, plus interest on all costs incurred at the Agreed Interest Rate. Tenant shall indemnify Landlord against loss or liability resulting from delay by Tenant in so surrendering the Leased Premises, including, without limitation, any claims made by any succeeding tenant or losses to Landlord due to lost opportunities to lease to succeeding tenants. 15.2. Holding Over: This Lease shall terminate without further notice at the expiration of the Lease Term. Any holding over by Tenant after expiration of the Lease Term shall not constitute a renewal or extension of the Lease or give Tenant any rights in or to the Leased Premises except as expressly provided in this Lease. Any holding over after such expiration with the consent of Landlord shall be construed to be a tenancy from month-to-month on the same terms and conditions herein specified insofar as applicable except that Base Monthly Rent shall be increased to an amount equal to one hundred fifty percent (150%) of the Base Monthly Rent required during the last month of the Lease Term. ARTICLE 16 LANDLORD'S RIGHT TO ENTER 16.1. Landlord's Right to Enter: Tenant shall permit Landlord and its agents to enter the Leased Premises at all reasonable times for the purpose of (i) inspecting the same; (ii) posting notices of non-responsibility; (iii) supplying any service to be provided by Landlord to Tenant; (iv) showing the Leased Premises to prospective purchasers, mortgagees or tenants; (v) making necessary alterations, additions, or repairs; (vi) performing Tenant's obligation when Tenant has failed to do so after written notice from Landlord; and (vii) placing upon the Leased Premises ordinary "for lease" or "for sale" signs or in the case of an emergency. For each of the aforesaid purposes, Landlord may enter the Leased Premises by means of a master key, and Landlord shall have the right to use any and all means Landlord may deem necessary and proper to open the doors of the Leased Premises in an emergency. Any entry to the Leased Premises or portions thereof obtained by Landlord by any of said means, or otherwise, shall not under any circumstances be construed or deemed to be a forcible or unlawful entry into, or a detainer of, the Leased Premises, or an eviction, actual or constructive, of Tenant from the Leased Premises or any portion thereof. ARTICLE 17 MORTGAGES & TRANSFER 17.1. Subordination: This Lease is subject and subordinate to all underlying ground leases, mortgages and deeds of trust which affect the Property and are of public record as of the Effective Date of this Lease, and to all renewals, modifications, consolidations, replacements and extensions thereof. However, if the lessor under any such lease or any Lender holding such mortgage or deed of trust shall advise Landlord that it desires or requires this Lease to be prior and superior thereto, then, upon written request of Landlord to Tenant, Tenant shall promptly execute, acknowledge and deliver any and all documents or instruments which Landlord or such lessor or Lender deems necessary or desirable to make this Lease prior thereto. At Landlord's election, this Lease shall become and thereafter remain subject and subordinate to any and all future ground leases, mortgages or deeds of trust affecting the Property which may hereafter be executed and placed of public record after the Effective Date of this Lease, or any renewals, modifications, consolidations, replacements or extensions thereof, for the full amount of all advances made or to be made thereunder and without regard to the time or character of such advances, so long as the lessor of such ground lease or the Lender holding the mortgage or deed of trust to which this Lease is to be subordinated agrees that it will recognize Tenant's rights under this Lease and not disturb its quiet possession of the Leased Premises so long as Tenant is not in default hereunder. Tenant agrees, within ten (10) days after Landlord's written request therefor to execute, acknowledge and deliver upon request of Landlord any and all documents or instruments requested by Landlord or such lessor or mortgage holder(s) as may be necessary or proper to assure the subordination of this Lease to any such ground lease, mortgage or deed of trust. 17.2. Tenant's Attornment: Tenant shall attorn (i) to any purchaser of the Building or Property at any foreclosure sale or private sale conducted pursuant to any security instrument encumbering the Building and/or the Property, (ii) to any grantee or transferee designated in any deed given in lieu of foreclosure, or (iii) to the lessor under any underlying ground lease should such ground lease be terminated. 17.3. Mortgagee Protection: In the event of any default on the part of Landlord, Tenant will give notice by registered mail to any Lender or lessor under any underlying ground lease whose name has been provided to Tenant and shall offer such Lender or lessor a reasonable opportunity to cure the default, including time to obtain possession of the Leased Premises by power of sale or judicial foreclosure or other appropriate legal proceedings, if such should prove necessary to effect a cure. 17.4. Estoppel Certificates: At all times during the Lease Term, Tenant agrees, following any request by Landlord, to promptly execute and deliver to Landlord an estoppel certificate, except as otherwise set forth in such request, (i) certifying that this Lease is unmodified and in full force and effect, or, if modified, stating the nature of such modification and certifying that this Lease, as so modified, is in full force and effect, (ii) stating the date to which the rent and other charges are paid in advance, if any, (iii) acknowledging that there is not, to Tenant's knowledge, any uncured defaults on the part of Landlord hereunder, and if there are uncured defaults on the part of Landlord, stating the nature of such uncured defaults, and (iv) certifying such other information about the Lease as may be reasonably required by Landlord. Tenant's failure to deliver an estoppel certificate within ten (10) days after delivery of Landlord's request therefore shall be a conclusive admission by Tenant that, as of the date of the request for such statement, (i) this Lease is unmodified except as may be represented by Landlord in said request and is in full force and effect, (ii) there are no uncured defaults in Landlord's performance, and (iii) no rent has been paid in advance. 17.5. Financial Statements: At any time during the Lease Term, Tenant shall, upon fifteen (15) days' prior written notice from Landlord, provide Tenant's most recent financial statement and financial statements covering the twenty-four (24) month period prior to the date of such most recent financial statements to Landlord and to any existing Lender, potential Lender or buyer or potential buyer of the Premises. Such statements shall be prepared in accordance with generally accepted accounting principles and, if such is the normal practice of Tenant, shall be audited by an independent certified public accountant. ARTICLE 18 GENERAL PROVISIONS 18.1. Force Majeure: Any prevention, delay, or stoppage due to strikes, lockouts, labor disputes, or labor shortages; inability to obtain materials, supplies or reasonable substitutes therefor; governmental restrictions, regulations, controls, action or inaction by local governmental agencies, embargoes, civil commotion, terrorist act, riot, or war; earthquake, flood, fire, power failure or shortage, or other acts of God; fault or neglect by the other party to this Lease or its agents, employees or contractors; or other causes beyond the reasonable control of the party obligated to perform (except financial inability) shall excuse the performance for a period equal to the period of any said prevention, delay or stoppage, of any obligation hereunder, except the obligation of Tenant to pay rent or any other sums due hereunder in the event such prevention, delay or stoppage has been caused by the fault or neglect of Tenant. In the event the time for performance shall be extended one hundred eighty (180) beyond the original date for performance, the party to whom the obligation is owed may terminate this Lease by giving notice to the other party, unless said party giving notice has been the cause of such delay. 18.2. Notices: Any notice required or desired to be given regarding this Lease shall be in writing and shall be personally served, or in lieu of personal service may be given by certified mail. If served by mail, such notice shall be deemed to have been given (i) on the third business day after mailing if such notice was deposited in the United States Mail, certified mail and postage prepaid, addressed to the party to be served at its address first above set forth and (ii) in all other cases when actually received. Either party may change its address by giving notice of same in accordance with this Section 18.2. 18.3. Fees and Expenses: All sums reasonably incurred by Landlord in connection with any event of Tenant Default, enforcing or implementing the terms of this Lease, or holding over of possession by Tenant after the expiration or earlier termination of this Lease, including, without limitation, all costs, expenses and actual accountants, appraisers, attorneys and other professional fees, and any collection agency or other collection charges, shall be due and payable by Tenant to Landlord on demand, and shall bear interest thereon at the Interest Rate regardless of whether legal proceedings are or have been commenced to enforce the Lease, including attorneys' fees and expenses arising in or related to a case brought by Tenant, its successors, assignees or subtenant(s), under Title 11, U.S.C., Bankruptcy Code provisions. If either Landlord or Tenant commences or engages in, or threatens to commence or engage in an action by or against the other party arising out of or in connection with the interpretation of or enforcement of the terms, conditions and obligations of this Lease, including, but not limited to, any action for recovery of Rent due and unpaid, to recover possession or for damages for breach of this Lease, the prevailing party shall be entitled to have and recover from the losing party reasonable attorneys' fees, expert's fees and costs, arbitrator's fees and costs, discovery costs and expenses and other costs incurred in connection with the action, preparation for such action, any appeals relating thereto and enforcing any judgments rendered in connection therewith. 18.4. Corporate Authority: If Tenant is a corporation (or a partnership), each individual executing this Lease on behalf of said corporation (or partnership) represents and warrants that he is duly authorized to execute and deliver this Lease on behalf of said corporation in accordance with the by-laws of said corporation (or partnership in accordance with the partnership agreement of said partnership) and that this Lease is binding upon said corporation (or partnership) in accordance with its terms. If Tenant is a corporation, each of the persons executing this Lease on behalf of Tenant does hereby covenant and warrant that Tenant is a duly authorized and existing corporation, that Tenant has and is qualified to do business in California and that the corporation has full right and authority to enter into this Lease. If Tenant is a corporation Tenant shall, within thirty (30) days after execution of this Lease, deliver to Landlord a certified copy of the resolution of the board of directors of said corporation authorizing or ratifying the execution of this Lease. 18.5. Additional Definitions: Any term that is given a special meaning by any provision in this Lease shall have such meaning when used in this Lease or any addendum or amendment hereto. As used herein, the following terms shall have the following meanings: 18.5.1. Agreed Interest Rate: The term "Agreed Interest Rate" shall mean an interest rate of either twelve percent (12%) per annum or the maximum applicable rate permitted by law, whichever is less. 18.5.2. CPI: The term "CPI" shall mean the Consumer Price Index for All Items, for All Urban Consumers (base year 1982-1984 = 100) for San Francisco-Oakland-San Jose, California published by the United States Department of Labor, Bureau of Labor Statistics. If the CPI is changed so that the base year differs from that used as of the Commencement Date, the CPI shall be converted in accordance with the conversion factor published by the U.S. Department of Labor, Bureau of Labor Statistics. If the CPI is discontinued or revised during the term, such other government index or computation with which it is replaced shall be used in order to obtain substantially the same result as would be obtained if the CPI had not been discontinued or revised. 18.5.3. Effective Date: The term "Effective Date" shall mean the date the last signatory to this Lease whose execution is required to make it binding on the parties hereto shall have executed this Lease. 18.5.4. Law: The term "Law" shall mean any judicial decision, statute, constitution, ordinance, resolution, regulation, rule, administrative order, or other requirement of any municipal, county, state, federal or other government agency or authority having jurisdiction over the parties to this Lease or the Leased Premises or both, in effect either at the Effective Date of this Lease or any time during the Lease Term, including, without limitation, any regulation, order, or policy of any quasi-governmental entity or body (e.g., board of fire examiners, public utilities or special district). 18.5.5. Leasehold Improvements: The term "Leasehold Improvements" shall mean all improvements, additions, alterations, and fixtures installed in the Leased Premises by Tenant at its expense which are not Trade Fixtures. 18.5.6. Lender: The term "Lender" shall mean any beneficiary, mortgagee, secured party, or other holder of any deed of trust, mortgage or other written security device or agreement affecting the Property, and the note or other obligations secured by it. 18.5.7. Private Restrictions: The term "Private Restrictions" shall mean all recorded covenants, conditions and restrictions, private agreements, reciprocal easement agreements, and any other recorded instruments affecting the use of the Leased Premises as they may exist from time-to-time. 18.5.8. Trade Fixtures: The term "Trade Fixture" shall mean anything affixed to the Leased Premises by Tenant at its expense for the purposes of trade, manufacture, ornament, or domestic use (except replacement of similar work or material originally installed by Landlord) which can be removed without injury to the Leased Premises unless such thing has, by the manner in which it is affixed, become an integral part of the Leased Premises; provided, however, that all of Tenant's signs shall be Trade Fixtures regardless of how affixed to the Leased Premises. 18.6. Construction of Meaning and Other Miscellaneous Provisions: (1) Should any provision of this Lease prove to be invalid or illegal, such invalidity or illegality shall in no way affect, impair or invalidate any other provision hereof, and such remaining provisions shall remain in full force and effect. (2) Time is of the essence with respect to the performance of every provision of this Lease in which time of performance is a factor. (3) The captions used in this Lease are for convenience only and shall not be considered in the construction or interpretation of any provision hereof. (4) Any executed copy of this Lease shall be deemed an original for all purposes. (5) This Lease shall, subject to the provisions regarding assignment, apply to and bind the respective heirs, successors, executors, administrators, and assigns of Landlord and Tenant. (6) "Party" shall mean Landlord or Tenant, as the context implies. (7) If Tenant consists of more than one person or entity, then all members of Tenant shall be jointly and severally liable hereunder. (8) This Lease shall be construed and enforced in accordance with the laws of the State of California. (9) The language in all parts of this Lease shall in all cases be construed as a whole according to its fair meaning, and not strictly for or against either Landlord or Tenant. (10) When the context of this Lease requires, the neuter gender includes the masculine, the feminine, a partnership or corporation or joint venture, and the singular includes the plural. (11) The terms "shall", "will", and "agree" are mandatory. The term "may" is permissive. (12) When a party is required to do something by this Lease, it shall do so at its sole cost and expense without right of reimbursement from the other party unless specific provision is made therefor. (13) All measurements of gross leasable area shall be made from the outside faces of exterior walls and the centerline of joint partitions. (14) Landlord makes no covenant nor warranty as to the exact square footage of any area. (15) Where Tenant is obligated not to perform any act, Tenant is also obligated to restrain any others within its control from performing said act, including agents, invitees, contractors, subcontractors and employees. (16) Landlord shall not become or be deemed a partner nor a joint venturer with Tenant by reason of the provisions of this Lease. 18.7. Quiet Enjoyment: Upon the observance and performance of all the covenants, terms, and conditions on Tenant's part to be observed and performed, and subject to the other provisions of this Lease, Tenant shall peaceably and quietly hold and enjoy the Premises for the Term without hindrance or interruption by Landlord or any other person claiming by or through Landlord. Landlord agrees to make reasonable efforts to protect Tenant from interference or disturbance by other tenants or third parties; however, Landlord shall not be liable for any interference or disturbance, nor shall Tenant be released from any of the obligations of this Lease because of such interference or disturbance. 18.8. Landlord Representations: Landlord represents to Tenant that it is the owner of the Property with full power and authority to enter into this Lease. 18.9. Brokerage Commissions: Tenant warrants that it has not had any dealings with any real estate brokers, leasing agents, salesmen, or incurred any obligations for the payment of real estate brokerage commissions or finder's fees which would be earned or due and payable by reason of the execution of this Lease. Landlord warrants that it has not had any dealings with any real estate brokers, leasing agents, salesmen, or incurred any obligations for the payment of real estate brokerage commissions or finder's fees which would be earned or due and payable by reason of the execution of this Lease other than Deerfield Realty Corporation for the benefit of Leon G. Campbell ("Broker"). Landlord shall be solely responsible for the payment of Brokerage Commissions to the above identified real estate brokerage entities pursuant to a separate agreement. Landlord shall pay the Brokerage Commissions one-half (1/2) upon Lease execution and the remaining one-half (1/2) upon the Commencement Date of the Lease. Tenant hereby agrees to and shall indemnify, defend, and hold harmless Landlord from and against any and all claims, liabilities, causes of action, damages, including attorneys' fees and costs, arising out of any claims or causes of action that may be asserted against Landlord by any other broker, finder or other real estate agent with whom Tenant has purportedly dealt with in connection with het subject matter of this Lease. 18.10. Entire Agreement: The Lease, Exhibits "A" (Site Plan) and "B" (Floor Plan), which are attached hereto (and by this reference incorporated herein), constitute the entire agreement between the parties, and there are no binding agreements or representations between the parties except as expressed herein. Tenant acknowledges that neither Landlord nor Landlord's agent(s) has made any representation or warranty as to (i) whether the Leased Premises may be used for Tenant's intended use under existing law or (ii) the suitability of the Leased Premises or the Property for the conduct of Tenant's business or the condition of any improvements located thereon. Tenant expressly waives all claims for damage by reason of any statement, representation, warranty, promise or other agreement of Landlord or Landlord's agent(s), if any, not contained in this Lease or in any addendum or amendment hereto. No subsequent change or addition to this Lease shall be binding unless in writing and signed by the parties hereto. 18.11. Security Measures: Tenant hereby acknowledges that the Rent payable to Landlord hereunder does not include the costs of guard service or other security measures, and that Landlord shall have no obligation whatsoever to provide same. Tenant assumes all responsibility for the protection of Tenant, Tenant's invitees and their property from acts of third parties. 18.12. Signatures Required/Non-Binding Offer: Submission of this Lease for examination or signature by Tenant does not constitute an offer or option for lease, and it is not effective as a lease or otherwise until executed and delivered by both Landlord and Tenant. ARTICLE 19 ENVIRONMENTAL MATTERS 19.1. Tenant's Covenants Regarding Hazardous Materials: 19.1.1. Tenant shall at all times and in all respects comply with all federal, state and local laws, ordinances, and regulations ("Hazardous Materials Laws") relating to industrial hygiene, environmental protection, or the use, analysis, generation, manufacturer, storage, disposal or transportation of any oil, flammable explosives, asbestos, urea formaldehyde, radioactive materials or waste, or other hazardous, toxic, contaminated or polluting materials, substances or wastes, including, without limitation, any "hazardous substances," "Hazardous Materials"). 19.1.2. Tenant shall at its own expense procure, maintain in effect and comply with all conditions of any and all permits, licenses and other governmental and regulatory approvals required for Tenant's use of the Leased Premises, including, without limitation, discharge of (appropriately treated) materials or waste into or through any sanitary sewer serving the Leased Premises. Except as discharged into the sanitary sewer in strict accordance and conformity with all applicable Hazardous Materials, Tenant shall cause any and all Hazardous Materials removed from the Leased Premises to be removed and transported solely by duly licensed haulers to duly licensed facilities for final disposal of such materials and waste. Tenant shall in all respects handle, treat, deal with and manage any and all Hazardous Materials in, or under or about the Leased Premises in total conformity with all applicable Hazardous Materials Laws and prudent industry practices regarding management of such Hazardous Materials. Upon expiration or earlier termination of the term of the Lease, Tenant shall cause all Hazardous Materials to be removed from the Leased Premises and transported for use, storage or disposal in accordance and in compliance with all applicable Hazardous Materials Laws. Tenant shall not take any remedial action in response to the presence of any Hazardous Materials in or about the Leased Premises or any building, nor enter into any settlement agreement, consent decree or other compromise in respect to any claims relating to any Hazardous Materials in any way connected with the Leased Premises, without first notifying Landlord of Tenant's intention to do so and affording Landlord ample opportunity to appear, intervene or otherwise appropriately assert and protect Landlord's interest with respect thereto. 19.1.3. Tenant shall immediately notify Landlord in writing of: A. Any enforcement, cleanup, removal or other governmental or regulatory action instituted, completed or threatened pursuant to any Hazardous Materials Laws; B. Any claim made or threatened by any person against Tenant or the Leased Premises relating to damage, contribution, cost recovery compensation, loss or injury resulting from or claimed to result from any Hazardous Materials; and C. Any reports made to any environmental agency arising out of or in connection with any Hazardous Materials in or removed from the Leased Premises, including any complaints, notices, warnings or asserted violations in connection therewith. Tenant shall also supply to Landlord as promptly as possible, and in any event within five (5) business days after Tenant first receives or sends the same, with copies of all claims, reports, complaints, notices, warnings or asserted violations related in any way to the existence of Hazardous Materials at, in, under or about the Premises or Tenant's use thereof. Tenant shall promptly deliver to Landlord copies of Hazardous waste manifest reflecting the legal and proper disposal of all Hazardous Materials removed from the Leased Premises. 19.2. Indemnification of Landlord: To the fullest extent permitted by law, Tenant shall indemnify, defend by counsel reasonably acceptable to Landlord, protect, and hold Landlord and each of Landlord's partners, employees, agents, attorneys, successors, and assigns, free and harmless from and against any and all claims, liabilities, penalties, forfeitures, damages, losses or expenses (including reasonable attorney's fees) or death of or injury to any person or damage to any property whatsoever arising from or caused in whole or in part, directly or indirectly by (A) the presence in, or under or about the Leased Premises or discharge by Tenant in or from the Leased Premises caused by Tenant of any Hazardous Materials or Tenant's use, analysis, storage, transportation, disposal, release, threatened release, discharge or generation of Hazardous Materials to, in, on, under, about or from the Leased Premises, or (B) Tenant's failure to comply with any Hazardous Materials Law. Tenant's obligations hereunder shall include, without limitation, whether foreseeable or unforeseeable, all costs, of any required or necessary repair, cleanup or detoxification or decontamination of the Leased Premises, and the preparation and implementation of any closure, remedial action or other required plans in connection therewith, and shall survive the expiration or earlier termination of the term of this Lease. For purposes of the release and indemnity provision hereof, any actions or omissions of Tenant or by employees, agents, assignees, contractors or subcontractors of Tenant or others acting for or on behalf of Tenant (whether or not they are negligent, intentional, willful or unlawful) shall be strictly attributable to Tenant. Notwithstanding the above to the contrary, the indemnification of Landlord by Tenant shall not apply to events which occurred prior to October 13, 2001. 19.3. Tenant Indemnification: Landlord shall defend, indemnify, protect, and hold Tenant and each of Tenant's partners, employees, agents, attorneys, successors, and assigns, free and harmless from and against any and all claims, liabilities, penalties, forfeitures, losses or expenses (including reasonable attorney's fees) or death of or injury to any person or damage to any property to the extent not arising from or caused directly or indirectly by Tenant's use, analysis, storage, transportation, disposal, release, threatened release, discharge or generation of Hazardous Materials to, in, on, under , about or from the Leased Premises. Notwithstanding the above to the contrary, the indemnification of Tenant by Landlord shall only apply to events occurring after October 12, 2001. ARTICLE 20 OPTION TO EXTEND LEASE 20.1 Option to Extend Lease Term: Landlord hereby grants to Tenant an option to extend the Lease Term for a three (3) year term ("Option Period") on the following term and conditions: A. Tenant must give Landlord notice in writing of its exercise of the option in question no earlier than 250 days and no later than 120 days before the date the Lease Term would end but for said exercise. B. Tenant may not extend the Lease Term pursuant to any option granted by this paragraph if Tenant is materially in default beyond any applicable cure period as of the date of exercise of the option in question or as of the date this Lease would have been terminated but for said exercise. C. All terms, covenants and conditions of this Lease shall apply during the option period, except that the Base Monthly Rent for the Option Period shall be determined as provided in Paragraph D. D. The Base Monthly Rent for the first twelve (12) months of the Option Period shall be the greater of (i) the monthly Basic Rent payable for the last month of the Premises Lease Term, or (ii) the then fair market monthly rent determined as of the commencement of the Option Period, based upon a NNN lease for like premises and buildings with like improvements in the Santa Clara area. If the parties are unable to agree upon the fair market monthly rent for the Premises for the Option Period in question within thirty (30) days from Tenant's delivery of notice of exercise of the option, then the fair market monthly rent shall be determined by appraisal conducted pursuant to subparagraph E. E. In the event it becomes necessary to determine by appraisal the fair market rent of the Premises for the purpose of establishing the Base Monthly Rent during the Option Period, then such fair market monthly rent shall be determined by three (3) real estate appraisers, all of whom shall be members of the American Institute of Real Estate Appraisers with not less than five (5) years experience appraising real property (other than residential or agricultural property) located in Santa Clara County, California, in accordance with the following procedures: (1) The party demanding an appraisal (the "Notifying Party") shall notify the other party (the "Non-Notifying Party") thereof by delivering a written demand for appraisal, which demand, to be effective, must give the name, address, and qualifications of an appraiser selected by the Notifying Party. Within ten (10) days of receipt of said demand, the Non-Notifying Party shall select its appraiser and notify the Notifying Party, in writing, of the name, address, and qualifications of an appraiser selected by it. Failure by the Non-Notifying Party to select a qualified appraiser within said ten (10) day period shall be deemed a waiver of its right to select a second appraiser on its own behalf and the Notifying Party shall select a second appraiser on behalf of the Non-Notifying Party within five (5) days after the expiration of said ten (10) day period. Within ten (10) days from the date the second appraiser shall have been appointed, the two (2) appraisers so selected shall appoint a third appraiser. If the two appraisers fail to select a third qualified appraiser, the third appraiser shall be selected by the American Arbitration Association or if it shall refuse to perform this function, then at the request of either Landlord or Tenant, such third appraiser shall be promptly appointed by the then Presiding Judge of the Superior Court of the State of California for the County of Santa Clara. (2) The three (3) appraisers so selected shall meet in Santa Clara, California, not later than twenty (20) days following the selection of the third appraiser. At said meeting the appraisers so selected shall attempt to determine the fair market monthly rent of the Premises for the Option Period (including the timing and amount of periodic increases). (3) If the appraisers so selected are unable to complete their determinations in one meeting, they may continue to consult at such times as they deem necessary for a fifteen (15) day period from the date of the first meeting, in an attempt to have at least two (2) of them agree. If, at the initial meeting or at any time during said fifteen (15) day period, two (2) or more of the appraisers so selected agree on the fair market rent of the Leased Premises, such agreement shall be determinative and binding on the parties hereto, and the agreeing appraisers shall, in simple letter form executed by the agreeing appraisers, forthwith notify both Landlord and Tenant of the amount set by such agreement. (4) If two (2) or more appraisers do not so agree within said fifteen (15) day period, then each appraiser shall, within five (5) days after the expiration of said fifteen (15) day period, submit his independent appraisal in simple letter form to Landlord and Tenant stating his determination of the fair market rent of the Premises for the Option Period in question. The parties shall then determine the fair market rent for the Premises by determining the average of the fair market rent set by each of the appraisers. However, if the lowest appraisal is less than eighty-five percent (85%) of the middle appraisal then such lowest appraisal shall be disregarded and/or if the highest appraisal is greater than one hundred fifteen percent (115%) of the middle appraisal then such highest appraisal shall be disregarded. If the fair market rent set by any appraisal is so disregarded, then the average shall be determined by computing the average set by the other appraisals that have not been disregarded. (5) Nothing contained herein shall prevent Landlord and Tenant from jointly selecting a single appraiser to determine the fair market rent of the Premises, in which event the determination of such appraisal shall be conclusively deemed the fair market rent of the Premises. (6) Each party shall bear the fees and expenses of the appraiser selected by or for it, and the fees and expenses of the third appraiser (or the joint appraiser if one joint appraiser if one joint appraiser is used) shall be borne fifty percent (50%) by Landlord and fifty percent (50%) by Tenant. F. The option rights of Tenant under this Article 20, and the extended term thereunder, are granted solely and exclusively for Tenant's personal benefit and may not be assigned or transferred by Tenant. G. The Base Monthly Rent for the remainder of the Option Period shall be increased by annual CPI increases. H. Subparagraph 14.1.10 shall not apply during the Option Period. WITNESS WHEREOF, Landlord and Tenant have executed this Lease with the intent to be legally bound thereby, to be effective as of the Effective Date of this Lease. AS LANDLORD: AS TENANT: DEERFIELD SCOTT, LLC, a SMTEK SANTA CLARA, INC., a California limited liability California corporation company By: By: Its: Its: Date: Date: Deerfield Scott (Smtek) Single Ten. Com. Sp. Lease 6/10/02 EXHIBIT "A" (LEGAL DESCRIPTION OF LEASED PREMISES) ALL OF PARCEL 1, as shown on that certain map entitled "Parcel Map Lands of Envirotech Systems, Inc., being all of Pcl V as shown on Parcel Map Bk 331 of Maps, page 120, Santa Clara County, California" which map was filed for record in the Office of the Recorder of the County of Santa Clara, State of California on May 22, 1980 in Book 463 of Maps, page 42. 216-29-111 EXHIBIT "B" (SEE ATTACHED FLOOR PLAN) - -7- EX-10 7 smithemploy.txt E. SMITH EMPLOYMENT AGREEMENT Exhibit 10.13 EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (this "Agreement") is made and entered into as of the effective date of May 14, 2002, by and between SMTEK INTERNATIONAL, INC., a Delaware corporation (the "Company"), and Edward J. Smith ("Employee"). WHEREAS, the Company desires to continue employment of Employee in the position of Chief Executive Officer and President, which began on May 14, 2002, and WHEREAS, Employee agrees to be employed by the Company in such position pursuant to the terms and conditions of this Agreement. NOW, THEREFORE, in consideration of the foregoing, and for other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: 1. EMPLOYMENT POSITION. The Company hereby continues to engage and employ Employee in the capacity of Chief Executive Officer and President. Employee shall report directly to the Board of Directors. Employee shall perform his or her duties and functions commensurate with such position, subject only to such reasonable limitations of authority set forth from time to time by his or her direct report and applicable law. 2. COMPENSATION AND BENEFITS 2.1 BASE SALARY. Employee's base salary for his position shall be Two Hundred Thousand Dollars ($200,000) per year beginning on the effective date. This base salary will be reviewed at least annually for merit and cost of living increases, at the end of each fiscal year, by the Board and/or the Compensation Committee of the Board (the "Compensation Committee"), but shall not be adjusted down without Employee's prior written consent. 2.2 BONUS. Employee shall be eligible to receive annual bonus compensation of up to One Hundred Thousand Dollars ($100,000), based in part, or in whole, upon reasonable increases in the Company's revenues and profits and upon such other reasonable criteria and the achievement of such reasonable objectives as the Company's Board may from time to time establish. Such bonus compensation may be payable at such times during the year and in such amounts as the same solely determined by the Board of Directors. 2.3 OTHER BENEFITS. Employee shall be entitled to the following benefits above and beyond the usual and customary employee benefits with the Company: a car allowance of $850 per month; a cell phone with monthly charges reasonably limited by the Employee's direct report; and a corporate credit card with charges reasonably limited by the Employee's direct report. Employee shall also receive 45,000 stock options from the Company's Amended and Restated 1996 Stock Incentive Plan subject to Board approval no later than July 31, 2002. The options shall have a three (3) year vesting schedule with the employee required to be continuing to work at the Company on a full time basis: 25% of the options vested after the first anniversary, 25% vested after the second anniversary and the remaining 50% after the third anniversary. The Employee may also receive further stock options from time to time as the Board may approve. 2.4 EXPENSE REIMBURSEMENT. Employee shall be reimbursed for reasonable out-of-pocket expenses in accordance with the Company's established policies applicable to all officers, including but not limited to full indemnity rights under the By-laws and the Company's Directors and Officers Liability policies. 3. TERMINATION 3.1 AT WILL. Employee and the Company acknowledge and agree that Employee's employment with the Company is expressly "at will" both during and after the term of this Agreement. This means that either party may terminate Employee's employment with or without cause upon thirty (30) days' advance written notice. Any termination of Employee's employment is, however, subject to the terms and provisions of this Agreement as to severance pay and other obligations. 3.2 VOLUNTARY RESIGNATION. (a) NO SEVERANCE FOR VOLUNTARY RESIGNATION. In the event that Employee's employment with the Company terminates as a result of his voluntary resignation, Employee shall be entitled to no severance pay. (b) RELOCATION OF HEADQUARTERS/DIRECTED RESIGNATION NOT VOLUNTARY RESIGNATION. For purposes of this Agreement, the term "voluntary resignation" shall not include any situation where: (a) the Employee terminates his employment as a result of the Company effectively (i) relocating the Corporate headquarters more than 20 miles from Moorpark, CA, or (ii) requiring the Employee to physically report for his employment duties more than 20 miles from Moorpark, California; or (b) the Employee resigns pursuant to a direct request of the Board of Directors. A termination or resignation under such circumstances shall be treated as an involuntary termination without cause, and Employee's entitlement to severance pay and additional benefits in accordance with the provisions of Sections 3.3(a), 3.3(b) and 3.3(c) below shall apply unless, and only if, such request was based on Cause (as defined in Section 3.3(d) below). 3.3 INVOLUNTARY TERMINATION. (a) INVOLUNTARY TERMINATION. The Company shall be deemed to have terminated the employment of the Employee involuntarily and without cause if (1) the Employee's full-time employment is reduced or terminated; or (2) the Company changes materially the Employee's functions, duties or responsibilities or reporting relationships or otherwise demotes the Employee ("demotion" or "demote"). (b) SEVERANCE PAY. In the event the Employee's employment is involuntarily terminated without cause as stated in 3.2(b) or 3.3(a) above, Employee shall be entitled to severance pay equal to one (1) year of salary continuance at his highest monthly base salary with the Company, payable in a lump sum no later than thirty (30) days after the termination date. (c) ADDITIONAL BENEFITS. In the event of termination because of any of the events described in section 3.2(b), the Employee's benefits as outlined in section 2.3 shall continue for a period of one (1) year following the occurrence of either of those events. In the event of termination of the Employee's employment pursuant to either section 3.2(a) or 3.3(a), the Employee's benefits as outlined in section 2.3 shall continue thirty (30) days from the date of termination of employment with the Company. Otherwise, the Employee's benefits terminate upon the date of the Employee's termination from the Company. (d) CAUSE. For purposes of this Agreement, "Cause" shall mean (i) the willful and deliberate refusal of Employee to comply with a lawful, written instruction of the Employee's direct report, which refusal is not remedied by Employee within a reasonable period of time after his receipt of written notice from the Company identifying the refusal; (ii) an act or acts of personal dishonesty by Employee that were intended to result in substantial personal enrichment of Employee at the expense of the Company; (iii) Employee's conviction of any felony involving an act of moral turpitude; or (iv) Employee's material breach of any representation or covenant contained in Section 5, 6 or 7 of this Agreement. 3.4 DEATH. In the event of Employee's death, this Agreement shall automatically terminate and shall be of no further force and effect. Termination of Employee's employment as a result of his death shall not result in any obligation by the Company to pay severance pay (unless the obligation to pay severance exists as of the date of Employee's death) or other benefits to Employee's estate or heirs. 3.5 DISABILITY. In the event of Employee's Disability (as defined below) during the term of this Agreement for any period of at least six (6) consecutive months, the Company shall have the right, which may be exercised in its sole discretion, to terminate this Agreement. In the event the Company does elect to terminate this Agreement, Employee shall not be entitled to any severance pay at any time but shall be entitled to normal disability benefits in accordance with the policies established from time to time by the Company. For purposes of this Agreement, "Disability" shall mean the inability of Employee to perform his employment services hereunder by reason of physical or mental illness or incapacity as determined by a physician chosen by the Company and reasonably satisfactory to Employee or his legal representative. 4. TERM The term of this Agreement shall commence on May 14, 2002, and shall be in effect for two years to the date of commencement, unless terminated earlier or extended in accordance with the terms and conditions specified herein. In the event, however, this Agreement is not renewed or superseded by written mutual consent by the end of its term, this Agreement shall automatically be extended month-for-month until such time as it is renewed, superseded by written mutual consent or terminated on thirty days notice. Such automatic extension specifically includes, but is not limited to, the full applicability of sections 3.2 and 3.3 on behalf of the Employee. 5. NONDISCLOSURE OF INFORMATION AND NON-SOLICITATION OF EMPLOYEES 5.1 NONDISCLOSURE OF CONFIDENTIAL INFORMATION. Except in the performance of his duties hereunder, Employee shall not disclose to any person or entity or use for his own direct or indirect benefit any Confidential Information (as defined below) pertaining to the Company obtained by Employee in the course of his employment with the Company. For purposes of this Agreement, "Confidential Information" shall include the Company's products, services, processes, suppliers, customers, customers' account executives, financial, sales and distribution information, price lists, identity and list of actual and potential customers, trade secrets, technical information, business plans and strategies to the extent that such information has not been publicly disseminated by the Company, other than through a breach hereof. The Company shall have available to it all remedies, including, but not limited to suits for injunctive relief and/or damages, as a result of Employee's breach of confidentiality. This provision shall survive the termination of the employment relationship between the Company and the Employee. 5.2 NON-SOLICITATION. Employee agrees that, so long as he or she is employed by the Company and for a period of one year after termination of his employment, he or she shall not (a) directly or indirectly solicit, induce or attempt to solicit or induce any company employee to discontinue his or her employment with the Company, (b) usurp any opportunity of the Company that Employee became aware of during his tenure at the Company, or (c) directly or indirectly solicit or induce or attempt to influence any person or business that is an account, customer or client of the Company to restrict or cancel the business of any such account, customer or client with the Company. 6. NON-COMPETITION So long as Employee is employed by the Company, and for a period of one (1) year after the Employee's termination, the Employee shall not, without the prior written consent of the Company's Board of Directors, either directly or indirectly engage in any business engaged in by the Company in the State of California. This section shall only apply in the limited situation of the Employee receiving his full and complete severance as stated in section 3.3(b) above. The term "directly" means the Employee is acting on his own or is acting as a consultant, employee, director, agent, representative or associate with or for any other person or entity. The term "indirectly" means the Employee is acting through any partnership, joint venture, corporation or other entity or person. 7. REPRESENTATIONS AND COVENANTS OF EMPLOYEE & COMPANY 7.1 BEST EFFORTS. In consideration of the payments to be made hereunder, Employee agrees to devote substantially his entire business time and attention to the performance of his duties hereunder, and to serve the Company diligently and to the best of his abilities. Notwithstanding the foregoing, Employee shall have the continuing right to (a) make passive investments in the securities of any publicly-owned corporation, (b) make any other passive investments with respect to which he is not obligated or required to, and does not in fact, devote any substantial managerial efforts that interfere with his fulfillment of his duties, and (c) serve as a director or consultant for other companies or entities. 7.2 NO RESTRICTIONS. Employee represents that he is under no actual or alleged restriction, limitation or other prohibition (whether as a result of his prior employment or otherwise) to perform his duties as described herein. 7.3 AUTHORITY. The individual signing this Agreement on behalf of the Company hereby represents and warrants that he has full authority to do so on behalf of the Company. 8. MISCELLANEOUS 8.1 NO WAIVER. The waiver by either party of a breach of any provision of this Agreement shall not operate as or be construed as a waiver of any subsequent breach thereof. 8.2 NOTICES. Any and all notices referred to herein shall be sufficiently furnished if in writing, and sent by registered or certified mail, postage prepaid, to the respective parties at the following addresses or such other address as either party may from time to time designate in writing: To the Company: SMTEK International, Inc. 200 Science Drive Moorpark, CA 93021-2003 Attention: Secretary To Employee: EDWARD J. SMITH 668 Larchmont Street Simi Valley, CA 93065 8.3 ENTIRE AGREEMENT AND INTERPRETATION. This Agreement supersedes any and all prior written or oral agreements between Employee and the Company, and contains the entire understanding of the parties hereto with respect to the terms and conditions of Employee's employment with the Company. No provision of this document is to be interpreted for or against any party because the party or party's legal representative drafted it. 8.4 GOVERNING LAW. This Agreement shall be construed and enforced in accordance with the laws and decisions of the State of California. 8.5 COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which shall be deemed to constitute an original, but all of which shall constitute one and the same instrument. 8.6 AMENDMENT. This Agreement may not be modified, amended, altered or supplemented except by written agreement between Employee and the Company. 8.7 ASSIGNMENT AND PARTIES IN INTEREST. This Agreement shall inure to the benefit of and be binding upon the parties named herein and their respective successors and assigns; provided, however, Employee may not assign any of his rights or obligations hereunder. Further, the Company will not consolidate or merge into or with another corporation, or transfer all or substantially all of its assets to another corporation or entity or person, unless such shall assume and be able to satisfy all the duties and obligations of the Company under this Agreement. 8.8 ATTORNEY'S FEES & COSTS. In the event an action in law or in equity is required to enforce or interpret the terms and conditions of this Agreement, the prevailing party shall be entitled to reasonable attorneys fees and costs in addition to any other relief to which that party may be entitled. 8.9 INTERPRETATION. No provision of this document is to be interpreted for or against any party because that party or party's legal representative drafted it. 8.10 SEVERABILITY. In the event that any covenant, condition or other provision herein contained is held to be invalid, void or illegal by any court of competent jurisdiction, the same shall be deemed severable from the remainder of this Agreement and shall in no way affect, impair or invalidate any other covenant, condition or other provision herein contained. If such condition, covenant or other provision shall be deemed invalid due to its scope or breadth, such covenant, condition or other provision shall be deemed valid to the extent of the scope or breadth permitted by law. 8.11. CAPTIONS/HEADINGS. The captions or headings in each section or sub-section are only for convenience purposes. Such captions or headings shall not be used to interpret the sections or sub-sections of this Agreement. IN WITNESS HEREOF, THE PARTIES TO THIS AGREEMENT AGREE TO THE ABOVE AND BIND THEMSELVES ACCORDINGLY. The "Company": SMTEK International, Inc., a Delaware Corporation /s/ Oscar B. Marx - ------------------------------------ By: Oscar B. Marx III Its: Director /s/ Edward J. Smith - ------------------------------------ "Employee": EDWARD J. SMITH 1 EX-10 8 waldronemploy.txt K. WALDRON EMPLOYMENT AGREEMENT Exhibit 10.14 EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (this "Agreement") is made and entered into as of the effective date of May 14, 2002, by and between SMTEK INTERNATIONAL, INC., a Delaware corporation (the "Company"), and Kirk A. Waldron("Employee"). WHEREAS, the Company desires to continue the employment of Employee in the position of Senior Vice President, Chief Financial Officer and Treasurer, and WHEREAS, Employee agrees to be employed by the Company in such position pursuant to the terms and conditions of this Agreement. NOW, THEREFORE, in consideration of the foregoing, and for other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: 1. EMPLOYMENT POSITION. The Company hereby continues to engage and employ Employee in the capacity of Senior Vice President, Chief Financial Officer and Treasurer. Employee shall report directly to the person holding the position of Chief Executive Officer and/or President. Employee shall perform his or her duties and functions commensurate with such position, subject only to such reasonable limitations of authority set forth from time to time by his or her direct report and applicable law. 2. COMPENSATION AND BENEFITS 2.1 BASE SALARY. Employee's current base salary is One Hundred & Sixty Thousand Dollars ($160,000) per year. This base salary will be reviewed at least annually for merit and cost of living increases, at the end of each fiscal year, by the Compensation Committee of the Board (the "Compensation Committee"), but shall not be adjusted down without Employee's prior written consent. 2.2 BONUS. Employee shall be eligible to receive annual bonus compensation based of up to Seventy Five Thousand Dollars ($75,000), based in part, or in whole, upon reasonable increases in the Company's revenues and profits and upon such other reasonable criteria and the achievement of such reasonable objectives as the Company's Board may from time to time establish. Such bonus compensation may be payable at such times during the year and in such amounts as the same may be determined by the President/CEO and approved by the Compensation Committee or the Board of Directors. 2.3 OTHER BENEFITS. Employee shall be entitled to the following benefits above and beyond the usual and customary employee benefits with the Company: a car allowance of $600 per month; a cell phone with monthly charges reasonably limited by the Employee's direct report; and a corporate credit card with charges reasonably limited by the Employee's direct report, and life insurance coverage for up to $1,000,000. The Company shall also pay for reasonable dues, fees and costs the Employee incurs to maintain membership in appropriate professional organizations. 2.4 EXPENSE REIMBURSEMENT. Employee shall be reimbursed for reasonable out-of-pocket expenses in accordance with the Company's established policies applicable to all officers, including but not limited to full indemnity rights under the By-laws and the Company's Directors and Officers Liability policies. 3. TERMINATION 3.1 AT WILL. Employee and the Company acknowledge and agree that Employee's employment with the Company is expressly "at will" both during and after the term of this Agreement. This means that either party may terminate Employee's employment with or without cause upon thirty (30) days' advance written notice. Any termination of Employee's employment is, however, subject to the terms and provisions of this Agreement as to severance pay and other obligations. 3.2 VOLUNTARY RESIGNATION. (a) NO SEVERANCE FOR VOLUNTARY RESIGNATION. In the event that Employee's employment with the Company terminates as a result of his voluntary resignation, Employee shall be entitled to no severance pay. (b) RELOCATION OF HEADQUARTERS/DIRECTED RESIGNATION NOT VOLUNTARY RESIGNATION. For purposes of this Agreement, the term "voluntary resignation" shall not include any situation where: (a) the Employee terminates his employment as a result of the Company effectively (i) relocating the Corporate headquarters more than 20 miles from Moorpark, CA, or (ii) requiring the Employee to physically report for his employment duties more than 20 miles from Moorpark, California; or (b) the Employee resigns pursuant to a direct request of the Employee's direct report, the Chief Executive Officer or the Board of Directors. A termination or resignation under such circumstances shall be treated as an involuntary termination without cause, and Employee's entitlement to severance pay and additional benefits in accordance with the provisions of Sections 3.3(a), 3.3(b) and 3.3(c) below shall apply unless, and only if, such request was based on Cause (as defined in Section 3.3(d) below). 3.3 INVOLUNTARY TERMINATION. (a) INVOLUNTARY TERMINATION. The Company shall be deemed to have terminated the employment of the Employee involuntarily and without cause if (1) the Employee's full-time employment is terminated; or (2) the Company changes materially the Employee's functions, duties or responsibilities or reporting relationships or otherwise demotes the Employee ("demotion" or "demote"). The parties agree however that if global parts/materials duties are taken from the Employee, that alone will not trigger this subsection 2's applicability. (b) SEVERANCE PAY. In the event the Employee's employment is involuntarily terminated without cause as stated in 3.2(b) or 3.3(a) above, Employee shall be entitled to severance pay equal to one (1) year of salary continuance at his highest monthly base salary with the Company, payable in a lump sum no later than thirty (30) days after the termination date. (c) ADDITIONAL BENEFITS. In the event of termination because of any of the events described in section 3.2(b), the Employee's benefits as outlined in section 2.3 shall continue for a period of one (1) year following the occurrence of either of those events. In the event of termination of the Employee's employment pursuant to either section 3.2(a) or 3.3(a), the Employee's benefits as outlined in section 2.3 shall continue thirty (30) days from the date of termination of employment with the Company. Otherwise, the Employee's benefits terminate upon the date of the Employee's termination from the Company. (d) CAUSE. For purposes of this Agreement, "Cause" shall mean (i) the willful and deliberate refusal of Employee to comply with a lawful, written instruction of the Employee's direct report, which refusal is not remedied by Employee within a reasonable period of time after his receipt of written notice from the Company identifying the refusal; (ii) an act or acts of personal dishonesty by Employee that were intended to result in substantial personal enrichment of Employee at the expense of the Company; (iii) Employee's conviction of any felony involving an act of moral turpitude; or (iv) Employee's material breach of any representation or covenant contained in Section 5, 6 or 7 of this Agreement. 3.4 DEATH. In the event of Employee's death, this Agreement shall automatically terminate and shall be of no further force and effect. Termination of Employee's employment as a result of his death shall not result in any obligation by the Company to pay severance pay (unless the obligation to pay severance exists as of the date of Employee's death) or other benefits to Employee's estate or heirs. 3.5 DISABILITY. In the event of Employee's Disability (as defined below) during the term of this Agreement for any period of at least six (6) consecutive months, the Company shall have the right, which may be exercised in its sole discretion, to terminate this Agreement. In the event the Company does elect to terminate this Agreement, Employee shall not be entitled to any severance pay at any time but shall be entitled to normal disability benefits in accordance with the policies established from time to time by the Company. For purposes of this Agreement, "Disability" shall mean the inability of Employee to perform his employment services hereunder by reason of physical or mental illness or incapacity as determined by a physician chosen by the Company and reasonably satisfactory to Employee or his legal representative. 4. TERM The term of this Agreement shall commence on the date identified in the first paragraph of this Agreement, and shall be in effect for two years to the date of commencement, unless terminated earlier or extended in accordance with the terms and conditions specified herein. In the event, however, this Agreement is not renewed or superseded by written mutual consent by the end of its term, this Agreement shall automatically be extended month-for-month until such time as it is renewed, superseded by written mutual consent or terminated on thirty days notice. Such automatic extension specifically includes, but is not limited to, the full applicability of sections 3.2 and 3.3 on behalf of the Employee. 5. NONDISCLOSURE OF INFORMATION AND NON-SOLICITATION OF EMPLOYEES 5.1 NONDISCLOSURE OF CONFIDENTIAL INFORMATION. Except in the performance of his duties hereunder, Employee shall not disclose to any person or entity or use for his own direct or indirect benefit any Confidential Information (as defined below) pertaining to the Company obtained by Employee in the course of his employment with the Company. For purposes of this Agreement, "Confidential Information" shall include the Company's products, services, processes, suppliers, customers, customers' account executives, financial, sales and distribution information, price lists, identity and list of actual and potential customers, trade secrets, technical information, business plans and strategies to the extent that such information has not been publicly disseminated by the Company, other than through a breach hereof. The Company shall have available to it all remedies, including, but not limited to suits for injunctive relief and/or damages, as a result of Employee's breach of confidentiality. This provision shall survive the termination of the employment relationship between the Company and the Employee. 5.2 NON-SOLICITATION. Employee agrees that, so long as he or she is employed by the Company and for a period of one year after termination of his employment for any reason except involuntary termination without Cause, he or she shall not (a) directly or indirectly solicit, induce or attempt to solicit or induce any company employee to discontinue his or her employment with the Company, (b) usurp any opportunity of the Company that Employee became aware of during his tenure at the Company, or (c) directly or indirectly solicit or induce or attempt to influence any person or business that is an account, customer or client of the Company to restrict or cancel the business of any such account, customer or client with the Company. 6. NON-COMPETITION So long as Employee is employed by the Company, and for a period of one (1) year after the Employee's termination, the Employee shall not, without the prior written consent of the Company's Board of Directors, either directly or indirectly engage in any business engaged in by the Company in the State of California. This section shall only apply in the limited situation of the Employee receiving his full and complete severance as stated in section 3.3(b) above. The term "directly" means the Employee is acting on his own or is acting as a consultant, employee, director, agent, representative or associate with or for any other person or entity. The term "indirectly" means the Employee is acting through any partnership, joint venture, corporation or other entity or person. 7. REPRESENTATIONS AND COVENANTS OF EMPLOYEE & COMPANY 7.1 BEST EFFORTS. In consideration of the payments to be made hereunder, Employee agrees to devote substantially his entire business time and attention to the performance of his duties hereunder, and to serve the Company diligently and to the best of his abilities. Notwithstanding the foregoing, Employee shall have the continuing right to (a) make passive investments in the securities of any publicly-owned corporation, (b) make any other passive investments with respect to which he is not obligated or required to, and does not in fact, devote any substantial managerial efforts that interfere with his fulfillment of his duties, and (c) serve as a director or consultant for other companies or entities. 7.2 NO RESTRICTIONS. Employee represents that he is under no actual or alleged restriction, limitation or other prohibition (whether as a result of his prior employment or otherwise) to perform his duties as described herein. 7.3 AUTHORITY. The individual signing this Agreement on behalf of the Company hereby represents and warrants that he has full authority to do so on behalf of the Company. 8. MISCELLANEOUS 8.1 NO WAIVER. The waiver by either party of a breach of any provision of this Agreement shall not operate as or be construed as a waiver of any subsequent breach thereof. 8.2 NOTICES. Any and all notices referred to herein shall be sufficiently furnished if in writing, and sent by registered or certified mail, postage prepaid, to the respective parties at the following addresses or such other address as either party may from time to time designate in writing: To the Company: SMTEK International, Inc. 200 Science Drive Moorpark, CA 93021-2003 Attention: Secretary To Employee: KIRK A. WALDRON 2066 Creekwood Street Westlake Village, CA 91361 8.3 ENTIRE AGREEMENT AND INTERPRETATION. This Agreement supersedes any and all prior written or oral agreements between Employee and the Company, and contains the entire understanding of the parties hereto with respect to the terms and conditions of Employee's employment with the Company. No provision of this document is to be interpreted for or against any party because that party or party's legal representative drafted it. 8.4 GOVERNING LAW. This Agreement shall be construed and enforced in accordance with the laws and decisions of the State of California. 8.5 COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which shall be deemed to constitute an original, but all of which shall constitute one and the same instrument. 8.6 AMENDMENT. This Agreement may not be modified, amended, altered or supplemented except by written agreement between Employee and the Company. 8.7 ASSIGNMENT AND PARTIES IN INTEREST. This Agreement shall inure to the benefit of and be binding upon the parties named herein and their respective successors and assigns; provided, however, Employee may not assign any of his rights or obligations hereunder. Further, the Company will not consolidate or merge into or with another corporation, or transfer all or substantially all of its assets to another corporation or entity or person, unless such shall assume and be able to satisfy all the duties and obligations of the Company under this Agreement. 8.8 ATTORNEY'S FEES & COSTS. In the event an action in law or in equity is required to enforce or interpret the terms and conditions of this Agreement, the prevailing party shall be entitled to reasonable attorneys fees and costs in addition to any other relief to which that party may be entitled. 8.9 INTERPRETATION. No provision of this document is to be interpreted for or against any party because that party or party's legal representative drafted it. 8.10 SEVERABILITY. In the event that any covenant, condition or other provision herein contained is held to be invalid, void or illegal by any court of competent jurisdiction, the same shall be deemed severable from the remainder of this Agreement and shall in no way affect, impair or invalidate any other covenant, condition or other provision herein contained. If such condition, covenant or other provision shall be deemed invalid due to its scope or breadth, such covenant, condition or other provision shall be deemed valid to the extent of the scope or breadth permitted by law. 8.11. CAPTIONS/HEADINGS. The captions or headings in each section or sub-section are only for convenience purposes. Such captions or headings shall not be used to interpret the sections or sub-sections of this Agreement. IN WITNESS HEREOF, THE PARTIES TO THIS AGREEMENT AGREE TO THE ABOVE AND BIND THEMSELVES ACCORDINGLY. The "Company": SMTEK International, Inc., a Delaware Corporation /s/ Oscar B. Marx - ------------------------------------ By: Oscar B. Marx III Its: Director /s/ Kirk A. Waldron - ------------------------------------ "Employee": KIRK A. WALDRON EX-10 9 freedmanemploy.txt M. FREEDMAN EMPLOYMENT AGREEMENT Exhibit 10.15 EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (this "Agreement") is made and entered into as of the effective date of May 14, 2002, by and between SMTEK INTERNATIONAL, INC., a Delaware corporation (the "Company"), and Mitchell J. Freedman("Employee"). WHEREAS, the Company desires to continue employment of Employee in the position of Vice President, Legal & Administration, which began on May 14, 2002, and WHEREAS, Employee agrees to be employed by the Company in such position pursuant to the terms and conditions of this Agreement. NOW, THEREFORE, in consideration of the foregoing, and for other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: 1. EMPLOYMENT POSITION. The Company hereby continues to engage and employ Employee in the capacity of Vice President, Legal & Administration, and Corporate Secretary. Employee shall report directly to the person holding the position of Chief Executive Officer and/or President. Employee shall perform his or her duties and functions commensurate with such position, subject only to such reasonable limitations of authority set forth from time to time by his or her direct report and applicable law. 2. COMPENSATION AND BENEFITS 2.1 BASE SALARY. Employee's current base salary is One Hundred & Thirty Thousand, Five Hundred Dollars ($130,500) per year. This base salary will be reviewed at least annually for merit and cost of living increases, at the end of each fiscal year, by the Compensation Committee of the Board (the "Compensation Committee"), but shall not be adjusted down without Employee's prior written consent. 2.2 BONUS. Employee shall be eligible to receive annual bonus compensation of up to Thirty Five Thousand Dollars ($35,000), based in part, or in whole, upon reasonable increases in the Company's revenues and profits and upon such other reasonable criteria and the achievement of such reasonable objectives as the Company's Board may from time to time establish. Such bonus compensation may be payable at such times during the year and in such amounts as the same may be determined by the President/CEO and approved by the Compensation Committee or the Board of Directors. 2.3 OTHER BENEFITS. Employee shall be entitled to the following benefits above and beyond the usual and customary employee benefits with the Company: a car allowance of $600 per month; a cell phone with monthly charges reasonably limited by the Employee's direct report; and a corporate credit card with charges reasonably limited by the Employee's direct report. The Company shall also pay for reasonable dues, fees and costs the Employee incurs to maintain membership in appropriate professional organizations. 2.4 EXPENSE REIMBURSEMENT. Employee shall be reimbursed for reasonable out-of-pocket expenses in accordance with the Company's established policies applicable to all officers, including but not limited to full indemnity rights under the By-laws and the Company's Directors and Officers Liability policies. 3. TERMINATION 3.1 AT WILL. Employee and the Company acknowledge and agree that Employee's employment with the Company is expressly "at will" both during and after the term of this Agreement. This means that either party may terminate Employee's employment with or without cause upon thirty (30) days' advance written notice. Any termination of Employee's employment is, however, subject to the terms and provisions of this Agreement as to severance pay and other obligations. 3.2 VOLUNTARY RESIGNATION. (a) NO SEVERANCE FOR VOLUNTARY RESIGNATION. In the event that Employee's employment with the Company terminates as a result of his voluntary resignation, Employee shall be entitled to no severance pay. (b) RELOCATION OF HEADQUARTERS/DIRECTED RESIGNATION NOT VOLUNTARY RESIGNATION. For purposes of this Agreement, the term "voluntary resignation" shall not include any situation where: (a) the Employee terminates his employment as a result of the Company effectively (i) relocating the Corporate headquarters more than 20 miles from Moorpark, CA, or (ii) requiring the Employee to physically report for his employment duties more than 20 miles from Moorpark, California; or (b) the Employee resigns pursuant to a direct request of the Employee's direct report, the Chief Executive Officer or the Board of Directors. A termination or resignation under such circumstances shall be treated as an involuntary termination without cause, and Employee's entitlement to severance pay and additional benefits in accordance with the provisions of Sections 3.3(a), 3.3(b) and 3.3(c) below shall apply unless, and only if, such request was based on Cause (as defined in Section 3.3(d) below). 3.3 INVOLUNTARY TERMINATION. (a) INVOLUNTARY TERMINATION. The Company shall be deemed to have terminated the employment of the Employee involuntarily and without cause if (1) the Employee's full-time employment is terminated; or (2) the Company changes materially the Employee's functions, duties or responsibilities or reporting relationships or otherwise demotes the Employee ("demotion" or "demote"). The parties agree however that if personnel duties are taken from the Employee, that alone will not trigger this subsection 2's applicability. (b) SEVERANCE PAY. In the event the Employee's employment is involuntarily terminated without cause as stated in 3.2(b) or 3.3(a) above, Employee shall be entitled to severance pay equal to one (1) year of salary continuance at his highest monthly base salary with the Company, payable in a lump sum no later than thirty (30) days after the termination date. (c) ADDITIONAL BENEFITS. In the event of termination because of any of the events described in section 3.2(b), the Employee's benefits as outlined in section 2.3 shall continue for a period of one (1) year following the occurrence of either of those events. In the event of termination of the Employee's employment pursuant to either section 3.2(a) or 3.3(a), the Employee's benefits as outlined in section 2.3 shall continue thirty (30) days from the date of termination of employment with the Company. Otherwise, the Employee's benefits terminate upon the date of the Employee's termination from the Company. (d) CAUSE. For purposes of this Agreement, "Cause" shall mean (i) the willful and deliberate refusal of Employee to comply with a lawful, written instruction of the Employee's direct report, which refusal is not remedied by Employee within a reasonable period of time after his receipt of written notice from the Company identifying the refusal; (ii) an act or acts of personal dishonesty by Employee that were intended to result in substantial personal enrichment of Employee at the expense of the Company; (iii) Employee's conviction of any felony involving an act of moral turpitude; or (iv) Employee's material breach of any representation or covenant contained in Section 5, 6 or 7 of this Agreement. 3.4 DEATH. In the event of Employee's death, this Agreement shall automatically terminate and shall be of no further force and effect. Termination of Employee's employment as a result of his death shall not result in any obligation by the Company to pay severance pay (unless the obligation to pay severance exists as of the date of Employee's death) or other benefits to Employee's estate or heirs. 3.5 DISABILITY. In the event of Employee's Disability (as defined below) during the term of this Agreement for any period of at least six (6) consecutive months, the Company shall have the right, which may be exercised in its sole discretion, to terminate this Agreement. In the event the Company does elect to terminate this Agreement, Employee shall not be entitled to any severance pay at any time but shall be entitled to normal disability benefits in accordance with the policies established from time to time by the Company. For purposes of this Agreement, "Disability" shall mean the inability of Employee to perform his employment services hereunder by reason of physical or mental illness or incapacity as determined by a physician chosen by the Company and reasonably satisfactory to Employee or his legal representative. 4. TERM The term of this Agreement shall commence on the date identified in the first paragraph of this Agreement, and shall be in effect for two years to the date of commencement, unless terminated earlier or extended in accordance with the terms and conditions specified herein. In the event, however, this Agreement is not renewed or superseded by written mutual consent by the end of its term, this Agreement shall automatically be extended month-for-month until such time as it is renewed, superseded by written mutual consent or terminated on thirty days notice. Such automatic extension specifically includes, but is not limited to, the full applicability of sections 3.2 and 3.3 on behalf of the Employee. 5. NONDISCLOSURE OF INFORMATION AND NON-SOLICITATION OF EMPLOYEES 5.1 NONDISCLOSURE OF CONFIDENTIAL INFORMATION. Except in the performance of his duties hereunder, Employee shall not disclose to any person or entity or use for his own direct or indirect benefit any Confidential Information (as defined below) pertaining to the Company obtained by Employee in the course of his employment with the Company. For purposes of this Agreement, "Confidential Information" shall include the Company's products, services, processes, suppliers, customers, customers' account executives, financial, sales and distribution information, price lists, identity and list of actual and potential customers, trade secrets, technical information, business plans and strategies to the extent that such information has not been publicly disseminated by the Company, other than through a breach hereof. The Company shall have available to it all remedies, including, but not limited to suits for injunctive relief and/or damages, as a result of Employee's breach of confidentiality. This provision shall survive the termination of the employment relationship between the Company and the Employee. 5.2 NON-SOLICITATION. Employee agrees that, so long as he or she is employed by the Company and for a period of one year after termination of his employment for any reason except involuntary termination without Cause, he or she shall not (a) directly or indirectly solicit, induce or attempt to solicit or induce any company employee to discontinue his or her employment with the Company, (b) usurp any opportunity of the Company that Employee became aware of during his tenure at the Company, or (c) directly or indirectly solicit or induce or attempt to influence any person or business that is an account, customer or client of the Company to restrict or cancel the business of any such account, customer or client with the Company. 6. NON-COMPETITION So long as Employee is employed by the Company, and for a period of one (1) year after the Employee's termination, the Employee shall not, without the prior written consent of the Company's Board of Directors, either directly or indirectly engage in any business engaged in by the Company in the State of California. This section shall only apply in the limited situation of the Employee receiving his full and complete severance as stated in section 3.3(b) above. The term "directly" means the Employee is acting on his own or is acting as a consultant, employee, director, agent, representative or associate with or for any other person or entity. The term "indirectly" means the Employee is acting through any partnership, joint venture, corporation or other entity or person. 7. REPRESENTATIONS AND COVENANTS OF EMPLOYEE & COMPANY 7.1 BEST EFFORTS. In consideration of the payments to be made hereunder, Employee agrees to devote substantially his entire business time and attention to the performance of his duties hereunder, and to serve the Company diligently and to the best of his abilities. Notwithstanding the foregoing, Employee shall have the continuing right to (a) make passive investments in the securities of any publicly-owned corporation, (b) make any other passive investments with respect to which he is not obligated or required to, and does not in fact, devote any substantial managerial efforts that interfere with his fulfillment of his duties, and (c) serve as a director or consultant for other companies or entities. 7.2 NO RESTRICTIONS. Employee represents that he is under no actual or alleged restriction, limitation or other prohibition (whether as a result of his prior employment or otherwise) to perform his duties as described herein. 7.3 AUTHORITY. The individual signing this Agreement on behalf of the Company hereby represents and warrants that he has full authority to do so on behalf of the Company. 8. MISCELLANEOUS 8.1 NO WAIVER. The waiver by either party of a breach of any provision of this Agreement shall not operate as or be construed as a waiver of any subsequent breach thereof. 8.2 NOTICES. Any and all notices referred to herein shall be sufficiently furnished if in writing, and sent by registered or certified mail, postage prepaid, to the respective parties at the following addresses or such other address as either party may from time to time designate in writing: To the Company: SMTEK International, Inc. 200 Science Drive Moorpark, CA 93021-2003 Attention: Secretary To Employee: MITCHELL J. FREEDMAN 338 Fairhaven Court Newbury Park, CA 91320 8.3 ENTIRE AGREEMENT AND INTERPRETATION. This Agreement supersedes any and all prior written or oral agreements between Employee and the Company, and contains the entire understanding of the parties hereto with respect to the terms and conditions of Employee's employment with the Company. No provision of this document is to be interpreted for or against any party because that party or party's legal representative drafted it. 8.4 GOVERNING LAW. This Agreement shall be construed and enforced in accordance with the laws and decisions of the State of California. 8.5 COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which shall be deemed to constitute an original, but all of which shall constitute one and the same instrument. 8.6 AMENDMENT. This Agreement may not be modified, amended, altered or supplemented except by written agreement between Employee and the Company. 8.7 ASSIGNMENT AND PARTIES IN INTEREST. This Agreement shall inure to the benefit of and be binding upon the parties named herein and their respective successors and assigns; provided, however, Employee may not assign any of his rights or obligations hereunder. Further, the Company will not consolidate or merge into or with another corporation, or transfer all or substantially all of its assets to another corporation or entity or person, unless such shall assume and be able to satisfy all the duties and obligations of the Company under this Agreement. 8.8 ATTORNEY'S FEES & COSTS. In the event an action in law or in equity is required to enforce or interpret the terms and conditions of this Agreement, the prevailing party shall be entitled to reasonable attorneys fees and costs in addition to any other relief to which that party may be entitled. 8.9 INTERPRETATION. No provision of this document is to be interpreted for or against any party because that party or party's legal representative drafted it. 8.10 SEVERABILITY. In the event that any covenant, condition or other provision herein contained is held to be invalid, void or illegal by any court of competent jurisdiction, the same shall be deemed severable from the remainder of this Agreement and shall in no way affect, impair or invalidate any other covenant, condition or other provision herein contained. If such condition, covenant or other provision shall be deemed invalid due to its scope or breadth, such covenant, condition or other provision shall be deemed valid to the extent of the scope or breadth permitted by law. 8.11. CAPTIONS/HEADINGS. The captions or headings in each section or sub-section are only for convenience purposes. Such captions or headings shall not be used to interpret the sections or sub-sections of this Agreement. IN WITNESS HEREOF, THE PARTIES TO THIS AGREEMENT AGREE TO THE ABOVE AND BIND THEMSELVES ACCORDINGLY. The "Company": SMTEK International, Inc., a Delaware Corporation /s/ Oscar B. Marx - ------------------------------------ By: Oscar B. Marx III Its: Director /s/ Mitchell J. Freedman - ------------------------------------ "Employee": MITCHELL J. FREEDMAN EX-21 10 subsidiaries.txt SUBSIDIARIES EXHIBIT 21 SMTEK INTERNATIONAL, INC. SUBSIDIARIES OF THE REGISTRANT All subsidiaries are 100% owned by SMTEK International, Inc., except as otherwise indicated, and are included in the consolidated financial statements. Each subsidiary was organized in the jurisdiction specified under its name in the following list. DDL Europe Limited (holding company only) Northern Ireland SMTEK Europe Limited (100%-owned by DDL Europe Limited) Northern Ireland Jolt Techology, Inc. Delaware SMTEK, Inc., dba SMTEK Thousand Oaks California Technetics, Inc., dba SMTEK San Diego California SMTEK New England, Inc. Massachusetts SMTEK Santa Clara, Inc. California SMTEK International (Thailand) Limited Thailand EX-23 11 consent.txt AUDITOR CONSENT Exhibit 23 Independent Auditors' Consent The Board of Directors SMTEK International, Inc.: We consent to the incorporation by reference in the registration statements (Nos. 333-02969 and 333-31349) on Form S-3 of SMTEK International, Inc. and the registration statements (Nos. 333-74400, 333-08689, 333-72139, 333-44612, 333-49954 and 333-49956) on Form S-8 of our report dated August 16, 2002, except for the third paragraph of note 5 to the consolidated financial statements which is as of September 25, 2002, with respect to the consolidated balance sheets of SMTEK International, Inc. and subsidiaries as of June 30, 2002 and 2001, and the related consolidated statements of operations, cash flows and stockholders' equity and comprehensive income (loss) for each of the years in the three-year period ended June 30, 2002, which report appears in the June 30, 2002 annual report on Form 10-K of SMTEK International, Inc. Los Angeles, California September 25, 2002 Page EX-99 12 undertaking.txt UNDERTAKING EXHIBIT 99 UNDERTAKING FOR FORM S-8 REGISTRATION STATEMENT With respect to the Registration Statements previously filed by the Company on Form S-8, the Company hereby undertakes as follows: Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Company pursuant to the foregoing provisions, or otherwise, the Company has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Company of expenses incurred or paid by a director, officer or controlling person of the Company in the successful defense of any action, suit or proceeding), is asserted by such director, officer or controlling person in connection with the securities being registered, the Company will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. -----END PRIVACY-ENHANCED MESSAGE-----