SC 13D

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

SCHEDULE 13D

Under the Securities Exchange Act of 1934
(Amendment No. )*

Datakey, Inc.

(Name of Issuer)

Common Stock, $0.05 par value

(Title of Class of Securities)

237909 10 6

(CUSIP Number)

Anthony A. Caputo
Chairman and Chief Executive Officer
SafeNet, Inc.
4690 Millennium Drive
Belcamp, Maryland 21017
(443) 327-1200

Copies to:

Elizabeth R. Hughes
Venable LLP
Suite 1800
2 Hopkins Plaza
Baltimore, Maryland 21201
(410) 244-7400

(Name, Address and Telephone Number of Person
Authorized to Receive Notices and Communications)

September 9, 2004

(Date of Event which Requires Filing of this Statement)

If the filing person has previously filed a statement on Schedule 13G to report the acquisition that is the subject of this Schedule 13D, and is filing this schedule because of Rule 13d-1(e), 13d-1(f) or 13d-1(g), check the following box. o

Note: Schedules filed in paper format shall include a signed original and five copies of the schedule, including all exhibits. See Rule 13d-7 for other parties to whom copies are to be sent.

^* The remainder of this cover page shall be filled out for a reporting person’s initial filing on this form with respect to the subject class of securities, and for any subsequent amendment containing information which would alter disclosures provided in a prior cover page.

The information required on the remainder of this cover page shall not be deemed to be “filed” for the purpose of Section 18 of the Securities Exchange Act of 1934 (“Act”) or otherwise subject to the liabilities of that section of the Act but shall be subject to all other provisions of the Act (however, see the Notes).

CUSIP No. 7237909 10 6					Page 2
	1.	Name of Reporting Person: SafeNet, Inc.			I.R.S. Identification Nos. of above persons (entities only): 52-1287752
	2.	Check the Appropriate Box if a Member of a Group (See Instructions):
		(a)	o
		(b)	o
	3.	SEC Use Only:
	4.	Source of Funds (See Instructions): OO, WC
	5.	Check if Disclosure of Legal Proceedings Is Required Pursuant to Items 2(d) or 2(e): o
	6.	Citizenship or Place of Organization: Delaware
Number of Shares Beneficially Owned by Each Reporting Person With
			7.	Sole Voting Power: Not applicable
			8.	Shared Voting Power: 3,016,871 shares of common stock(1)
			9.	Sole Dispositive Power: Not applicable
			10.	Shared Dispositive Power: 3,016,871(1)
	11.	Aggregate Amount Beneficially Owned by Each Reporting Person: 3,016,871 shares of common stock(1)
	12.	Check if the Aggregate Amount in Row (11) Excludes Certain Shares (See Instructions): x
	13.	Percent of Class Represented by Amount in Row (11): 25%(2)
	14.	Type of Reporting Person (See Instructions): CO

CUSIP No. 7237909 10 6					Page 3
	1.	Name of Reporting Person: Snowflake Acquisition Corp.			I.R.S. Identification Nos. of above persons (entities only):
	2.	Check the Appropriate Box if a Member of a Group (See Instructions):
		(a)	o
		(b)	o
	3.	SEC Use Only:
	4.	Source of Funds (See Instructions): OO
	5.	Check if Disclosure of Legal Proceedings Is Required Pursuant to Items 2(d) or 2(e): o
	6.	Citizenship or Place of Organization: Minnesota
Number of Shares Beneficially Owned by Each Reporting Person With
			7.	Sole Voting Power: Not applicable
			8.	Shared Voting Power: 3,016,871 shares of common stock(1)
			9.	Sole Dispositive Power: Not applicable
			10.	Shared Dispositive Power: 3,016,871 shares of common stock(1)
	11.	Aggregate Amount Beneficially Owned by Each Reporting Person: 3,016,871 shares of common stock(1)
	12.	Check if the Aggregate Amount in Row (11) Excludes Certain Shares (See Instructions): x
	13.	Percent of Class Represented by Amount in Row (11): 25%(2)
	14.	Type of Reporting Person (See Instructions): CO

CUSIP No. 7237909 10 6 Page 4

(1)

Beneficial ownership of the common stock referred to herein is being reported hereunder solely because the reporting person may be deemed to have beneficial ownership of such shares as a result of the Stockholders’ Agreement described in Items 4 and 5 hereof. Neither the filing of this Schedule 13D nor any of its contents shall be deemed to constitute and admission by SafeNet, Inc. or Snowflake Acquisition Corp. that it is the beneficial owner of any of the common stock referred to herein for purposes of Section 13(d) of the Securities Exchange Act of 1934, as amended, or for any other purpose, and such beneficial ownership is expressly disclaimed.

(2)

The calculation of the foregoing percentage is based on the number of shares of Datakey, Inc. common stock outstanding as of September 9, 2004 as set forth in the Merger Agreement (as defined below) and assumes the conversion of 150,000 shares of Convertible Preferred Stock (as defined below) for 273,723 shares of common stock.

Item 1. Security and Issuer.

This statement (this “statement”) relates to the common stock, par value $0.05 per share (“Common Stock”), of Datakey, Inc., a Minnesota corporation (“Datakey” or the “Issuer”). The principal executive offices of the Issuer are located at 407 West Travelers Trail, Burnsville, Minnesota, 55337.

Item 2. Identity and Background.

(a)	This statement is being filed by SafeNet, Inc., a Delaware corporation (“SafeNet”), for and on behalf of itself and Snowflake Acquisition Corp., a Minnesota corporation and wholly-owned subsidiary of SafeNet (“Merger Sub”).
(b)	SafeNet’s and Merger Sub’s principal executive office is located at 4690 Millennium Drive, Belcamp, Maryland 21017.
(c)	SafeNet develops, markets, sells and supports a portfolio of hardware and software network security products and services that enable secure communications and data services. Merger Sub was incorporated on September 8, 2004 for the purpose of making a tender offer for all of the Common Stock and all of the shares of the issued and outstanding shares of Convertible Preferred Stock, liquidation value $2.50 per share, of Datakey (the “Convertible Preferred” and together with the Common Stock, the “Shares”), and to merge with and into Datakey, in each case in accordance with the terms and conditions of the Merger Agreement. Merger Sub has not engaged, and does not expect to engage, in any business other than in connection with the Merger and Offer (as defined below).
(d)	Neither SafeNet nor, to SafeNet’s knowledge, any person named on Schedule A attached hereto during the last five years has been convicted in a criminal proceeding (excluding traffic violations or similar misdemeanors).
(e)	Neither SafeNet nor, to SafeNet’s knowledge, any person named on Schedule A attached hereto during the last five years was a party to a civil proceeding of a judicial or administrative body of competent jurisdiction resulting in a judgment,

CUSIP No. 7237909 10 6 Page 5

	decree or final order enjoining future violations of, or prohibiting or mandating activities subject to, Federal or state securities laws or finding any violation with respect to such laws.
(f)	To SafeNet’s knowledge, each of the individuals identified on Schedule A attached hereto is a citizen of the United States.
	Set forth on Schedule A is the name, business address and principal occupation or employment, and the name of any corporation or other organization in which such employment is conducted, of each of the directors and executive officers of SafeNet and Merger Sub, respectively, as of the date hereof.

Item 3. Source and Amount of Funds or Other Consideration.

     The Offer (as defined below) is not conditioned upon SafeNet’s or Merger Sub’s ability to finance the purchase of Shares pursuant to the Offer.

     SafeNet and Merger Sub estimate that the total amount of funds required to purchase all of the outstanding Shares pursuant to the Offer and the Merger will be approximately $8 million, not including related fees and expenses. SafeNet has available to it sufficient funds to close the Offer and the Merger, and will cause Merger Sub to have sufficient funds available to close the Offer and the Merger.

Item 4. Purpose of Transaction.

(a)-(b)	On September 9, 2004, SafeNet, Merger Sub and Datakey entered into an Agreement and Plan of Merger (the “Merger Agreement”). The Merger Agreement provides for the commencement of a cash tender offer (as it may be amended from time to time as permitted by the Merger Agreement, the “Offer”) by Merger Sub to purchase all of the Shares, at a price of $0.65 per share of Common Stock and $2.50 per share of Convertible Preferred (such prices, or any such higher prices per share of Common Stock or Convertible Preferred as may be paid in the Offer, the “Offer Prices”).
	The Merger Agreement provides, among other things, that, after the consummation of the Offer and subject to certain conditions, Merger sub will be merged with and into Datakey (the “Merger”), with Datakey continuing as the surviving corporation (the “Surviving Corporation”), wholly owned by SafeNet. Pursuant to the Merger Agreement, at the effective time of the Merger (the “Effective Time”), each Share issued and outstanding immediately prior to the Effective Time (other than Shares held by Datakey as treasury stock, or owned by SafeNet, Merger Sub or any of SafeNet’s other wholly-owned subsidiaries, all of which Shares will be cancelled and retired and shall cease to exist, and other than Shares that are held by shareholders of Datakey, if any, who properly exercise their dissenters’ rights under the Minnesota Business Corporation Act (the “MBCA”) and perfect such rights), will be converted into the right to receive $0.65 in cash, without interest.
	The Offer is conditioned upon, among other things, there being validly tendered and not withdrawn prior to the expiration of the Offer (i) that number of shares of Common Stock

CUSIP No. 7237909 10 6 Page 6

	that represent at least 90% of the then issued and outstanding shares of Common Stock and (ii) all of the then issued and outstanding shares of Convertible Preferred.
	In connection with the execution of the Merger Agreement, SafeNet and Merger Sub entered into a Stockholders’ Agreement, dated September 9, 2004 (the “Stockholders’ Agreement”) with each of the directors of Datakey, Norwest Equity Partners V, LP, Perkins Capital Management, Inc., Christopher A. Schwartzbauer and David A. Feste (each a “Stockholder”). Assuming the conversion of the Convertible Preferred held by the Stockholders, approximately 25% of the issued and outstanding shares of Common Stock are subject to the Stockholders’ Agreement, excluding warrants and options that Stockholders may exercise, which (following, and to the extent of, any such exercise) would be subject to transfer and voting restrictions pursuant to the Stockholders’ Agreement.
	Pursuant to the Stockholders’ Agreement, each Stockholder has agreed to tender all of his or its Shares, including any Shares acquired after the date of the Stockholders’ Agreement, whether upon the exercise of warrants or options to acquire Shares or otherwise, into the Offer and to vote such Shares (i) in favor of approval and adoption of the Merger Agreement and any action required in furtherance thereof, (ii) against any agreement or transaction to an acquisition proposal other than as proposed by SafeNet or Merger Sub and (iii) against any action or agreement that would impede, delay, interfere with or prevent the consummation of the Offer or Merger. Notwithstanding the foregoing, SafeNet does not plan to compel the tender or restrict the vote of more than 19.9% of the outstanding capital stock of Datakey. Neither SafeNet nor Merger Sub has the power to cause any Stockholder to elect to exercise any warrant or option to acquire any class of Datakey’s securities and no such warrant or option, nor any Share underlying any such warrant or option, is included in either of SafeNet’s or Merger Sub’s calculation of its beneficial ownership of Common Stock. However, the Stockholders’ Agreement restricts the transfer of such warrants and options by the Stockholders.
	Also in connection with the Merger Agreement, Datakey, Merger Sub and SafeNet have entered into a Stock Option Agreement (the “Stock Option Agreement”), dated September 9, 2004, pursuant to which Datakey granted Merger Sub an irrevocable option (the “Stock Option”) to purchase for the Offer Prices, shares of Common Stock and/or Convertible Preferred, in such relative amounts as shall be determined by Merger Sub in its discretion up to such number of shares which, upon exercise, would result in Merger Sub owning in excess of 90% of the then outstanding shares of Common Stock and Convertible Preferred on an as-converted basis (collectively, the “Optioned Shares”); provided, that Merger Sub’s exercise of the Stock Option is conditioned upon Merger Sub and SafeNet owning in the aggregate, immediately following such exercise, at least 90% of the Common Stock (in the event the Stock Option is exercised with respect to Common Stock) or at least 90% of Convertible Preferred (in the event the Stock Option is exercised with respect to Convertible Preferred); and provided further that the number of shares of Convertible Preferred issuable under the Stock Option may not exceed the number of authorized shares of Convertible Preferred available for issuance.
	The purpose of the Offer is to acquire control of, and the entire equity interest in, Datakey. The purpose of the Merger is to acquire all outstanding Shares not tendered and purchased pursuant to the Offer. If the Offer is successful, SafeNet and Merger Sub intend to consummate the Merger as promptly as practicable.
(c)	Not applicable.

CUSIP No. 7237909 10 6 Page 7

(d)	Pursuant to the terms of the Merger Agreement, effective upon the purchase of and payment for any Shares by SafeNet or Merger Sub or any of their affiliates pursuant to the Offer (the “Appointment Time”), SafeNet shall be entitled to elect or designate such number of directors, rounded up to the next whole number, on Datakey’s board of directors (the “Datakey Board of Directors”) as is equal to the product of the total number of directors on the Datakey Board of Directors (giving effect to the directors elected or designated by SafeNet pursuant to this sentence) multiplied by the percentage that the aggregate number of Shares beneficially owned (within the meaning of Rule 13d-3 under the Exchange Act) by SafeNet, Merger Sub and any of their affiliates bears to the total number of Shares then outstanding. Datakey shall, upon SafeNet’s request, use all reasonable efforts to promptly increase the size of the Datakey Board of Directors, including by amending the bylaws of Datakey if necessary so as to increase the size of the Datakey Board of Directors, or use all reasonable efforts to promptly secure the written resignations of such number of its incumbent directors, or both, as is necessary to enable SafeNet’s designees to be so elected or designated to the Datakey Board of Directors, and shall use all reasonable efforts to cause SafeNet’s designees to be so elected or designated at the Appointment Time. At the Appointment Time, Datakey shall, upon SafeNet’s request, also use all reasonable efforts to cause persons elected or designated by SafeNet to constitute the same percentage (rounded up to the next whole number) as is on the Datakey Board of Directors of each committee of the Datakey Board of Directors. The Merger Agreement requires that until the Effective Time the Datakey Board of Directors shall include at least two directors who were directors as of the date of the Merger Agreement, are not employees of Datakey and are “disinterested” as defined under Section 302A.673 of the MBCA.
	The directors of Merger Sub immediately prior to the Effective Time shall, from and after the Effective Time, be the directors of the Surviving Corporation and the officers of Merger Sub immediately prior to the Effective Time shall, from and after the Effective Time, be officers of the Surviving Corporation, in each case until their respective successors shall have been duly elected, designated or qualified, or until their earlier death, resignation or removal in accordance with the Surviving Corporation’s certificate of incorporation and bylaws.
(e)	Other than as a result of the Offer and the Merger described in this Item 4, not applicable.
(f)	Not applicable.
(g)	Upon consummation of the Merger, the Articles of Incorporation and Bylaws of Merger Sub shall be the Articles of Incorporation and Bylaws of the Surviving Corporation.
(h)-(i)	If the Offer and the Merger are consummated as planned, the Datakey Common Stock will become eligible for termination of registration pursuant to Section 12(g)(4) of the Securities Exchange Act of 1934, as amended.
(j)	Other than as described above, SafeNet and Merger Sub currently have no other plans or proposals that relate to, or may result in, any of the matters listed in Items 4(a)-(j) of this Schedule 13D (although SafeNet and Merger Sub reserve the right to develop such plans or proposals).

CUSIP No. 7237909 10 6 Page 8

References to, and descriptions of, the Offer, the Merger and the Merger Agreement as set forth in this Item 4 are qualified in their entirety by reference to the Merger Agreement, which is filed as an exhibit to this Schedule 13D and incorporated by reference in this Item 4. References to, and descriptions of, the Stockholders’ Agreement and the Stock Option Agreement as set forth in this Item 4 are qualified in their entirety by reference to the Stockholders’ Agreement and the Stock Option Agreement, respectively, each of which is filed as an exhibit to this Schedule 13D and incorporated by reference in this Item 4.

Item 5. Interest in Securities of the Issuer.

(a)-(b)	For the purpose of Rule 13d-3 promulgated under the Exchange Act, Merger Sub and SafeNet (i) by reason of the execution and delivery of the Stockholders’ Agreement, may be deemed to have shared voting power and shared dispositive power with respect to (and therefore beneficially own) 3,016,871 shares of Common Stock (assuming the conversion of the outstanding shares of Convertible Preferred Stock into Common Stock), representing approximately 25% of the outstanding Shares (assuming the Stock Option was not previously exercised), (ii) by reason of the execution and delivery of the Stock Option Agreement, may be deemed to have sole voting power and sole dispositive power with respect to such number of shares of Common Stock or Convertible Preferred as may be issued to Merger Sub upon exercise of the Stock Option (as described in Item 4). The foregoing excludes warrants and options that Stockholders may exercise for shares of Common Stock. Following, and to the extent of, any such exercise as is contemplated by the previous sentence (each, a “Shareholder Exercise”), Merger Sub and SafeNet may be deemed to have shared voting power and shared dispositive power with respect to the shares of Common Stock underlying such Shareholder Exercise. However, the Stockholders’ Agreement restricts the transfer of such warrants and options by the Stockholders. Except as set forth in this Item 5, none of SafeNet, Merger Sub or, to their knowledge, any person listed in Schedule A hereto, owns beneficially any Shares.
	With respect to the voting of the Shares subject to the Stockholders’ Agreement, SafeNet and Merger Sub have the power to vote or cause the vote of the Shares in accordance with the terms of the Stockholders’ Agreement. Neither the filing of this Schedule 13D nor any of its contents shall be deemed to constitute an admission that SafeNet or Merger Sub is the beneficial owner of the Shares referred to in this Item 5 for purposes of Section 13(d) of the Exchange Act or for any other purpose, and such beneficial ownership is expressly disclaimed.
(c)	Except for the execution and delivery of the Stockholders’ Agreement, the Stock Option Agreement and the Merger Agreement, no transactions in the Shares were effected by Merger Sub, SafeNet or, to their knowledge, any person listed in Schedule A hereto, during the 60 days prior to the date hereof.
(d)	Not applicable.
(e)	Not applicable.

References to, and descriptions of, the Merger Agreement as set forth in this Item 5 are qualified in their entirety by reference to the Merger Agreement, which is filed as an exhibit to this Schedule 13D and incorporated by reference in this Item 5. References to, and descriptions of, the Stockholders’ Agreement and the Stock Option Agreement as set forth in this Item 5 are

CUSIP No. 7237909 10 6 Page 9

qualified in their entirety by reference to the Stockholders’ Agreement and the Stock Option Agreement, respectively, each of which is filed as an exhibit to this Schedule 13D and incorporated by reference in this Item 5.

Item 6.  Contracts, Arrangements, Understandings or Relationships With Respect to Securities of the Issuer.

     The information set forth and incorporated by reference in Items 3, 4 and 5 is incorporated by reference in this Item 6.

     On September 9, 2004, SafeNet and Datakey entered into a Secured Loan Agreement (the “Loan Agreement”) pursuant to which SafeNet agreed to loan approximately $2.2 million to Datakey to pay off the principal and interest due on outstanding convertible promissory notes of Datakey. In connection with the loan, Datakey issued a promissory note to SafeNet bearing interest at a rate of 10% per annum (the “Note”). The entire outstanding principal balance of the Note and all accrued and unpaid interest thereon is due and payable on September 9, 2005. The Note cannot be prepaid prior to December 31, 2004 and Datakey’s obligations under the Note are secured by all of the assets of Datakey pursuant to a general Security Agreement by and between Datakey and SafeNet (the “Security Agreement”) and a Grant of Security Interest in Intellectual Property by and between Datakey and SafeNet (the “IP Security Agreement”). If under certain circumstance Datakey enters into certain acquisition transactions with a party or parties other than SafeNet or its affiliates prior to the Note being paid in full, then SafeNet is entitled to receive an additional $500,000 payment in addition to the principal and interest due under the Note. References to, and descriptions of, the Loan Agreement, the Note, the Security Agreement and the IP Security Agreement as set forth in this Item 6 are qualified in their entirety by reference to the Loan Agreement, the Note, the Security Agreement and the IP Security Agreement, respectively, each of which is filed as an exhibit to this Schedule 13D and incorporated by reference in this Item 6.

     To SafeNet’s and Merger Sub’s knowledge, except as otherwise described in this Schedule 13D, there are no contracts, arrangements, understandings or relationships among the persons named in Item 2 above or listed in Schedule A hereto, and between any such persons and any other person, with respect to any securities of Datakey, including but not limited to, transfer or voting of any of the securities of Datakey, finder’s fees, joint ventures, loan or option arrangements, puts or calls, guarantees or profits, division of profits or loss, or the giving or withholding of proxies, or a pledge or contingency the occurrence of which would give another person voting power over the securities of Datakey.

Item 7. Material to be Filed as Exhibits.

The following documents are filed as exhibits:

1.	Agreement and Plan of Merger, dated as of September 9, 2004, by and among SafeNet, Inc., Snowflake Acquisition Corp. and Datakey, Inc.
2.	Stockholders’ Agreement, dated as of September 9, 2004, by and among SafeNet, Inc., Snowflake Acquisition Corp. and certain stockholders of Datakey, Inc.

CUSIP No. 7237909 10 6 Page 10

3.	Stock Option Agreement, dated as of September 9, 2004, by and among SafeNet, Inc., Snowflake Acquisition Corp. and Datakey, Inc.
4.	Loan Agreement, dated as of September 9, 2004, by and between SafeNet, Inc. and Datakey, Inc.
5.	Form of Secured Promissory Note of Datakey, Inc., dated as of September 9, 2004.
6.	Security Agreement, dated as of September 9, 2004, by and between Datakey, Inc. and SafeNet, Inc.
7.	Grant of Security Interest in Intellectual Property, dated as of September 9, 2004, by and between Datakey, Inc. and SafeNet, Inc.
8.	Joint Filing Agreement, dated as of September 20, 2004, by and between SafeNet, Inc. and Snowflake Acquisition Corp.

CUSIP No. 7237909 10 6 Page 11

SIGNATURE

     After reasonable inquiry and to the best of my knowledge and belief, I certify that the information set forth in this statement is true, complete and correct.

Dated: September 20, 2004	SAFENET, INC.
	/s/ Anthony A. Caputo
	Anthony A. Caputo
	Chief Executive Officer
Dated: September 20, 2004	SNOWFLAKE ACQUISITION CORP.
	/s/ Anthony A. Caputo
	Anthony A. Caputo
	Chief Executive Officer

CUSIP No. 7237909 10 6 Page 12

Schedule A

DIRECTORS AND EXECUTIVE OFFICERS OF
SAFENET, INC.

     The following table sets forth the name, business address and present principal occupation or employment of each director and executive officer of SafeNet. Except as indicated below, the address of each such person is c/o SafeNet, Inc., 4690 Millennium Drive, Belcamp, Maryland 21017. To SafeNet’s knowledge, each of the individuals identified below is a citizen of the United States.

Name and Address (as applicable)	Title/Occupation
Directors of SafeNet:
Anthony Caputo	Chairman and Chief Executive Officer,
	SafeNet, Inc.
Thomas A. Brooks	Rear Admiral, U.S. Navy, Retired
Andrew E. Clark	Chairman and President
	Wheatfield Ventures, LLC
	10419 Queensway Drive
	Ellicott City, Maryland 21042
Shelley A. Harrison	Executive Consultant and Venture Capitalist
Ira A. Hunt, Jr.	Chairman, Biometric Associates, Inc.
Bruce R. Thaw	Director, President and Chief Executive Officer
	Bulbtronics, Inc.
	45 Banfi Plaza
	Farmingdale, NY 11735
Walter Straub	Retired
Arthur L. Money	President
	ALM Consulting
	3803 Riverwood Road
	Alexandria, VA 22309
Executive Officers of SafeNet
(who do not also serve as Directors of SafeNet):
Carole D. Argo	President and Chief Operating Officer
Ken Mueller	Chief Financial Officer and Treasurer

CUSIP No. 7237909 10 6 Page 13

Name and Address (as applicable)	Title/Occupation
Chris S. Fedde	Senior Vice President and General Manager, Enterprise Security Division
David Potts	Senior Vice President and General Manager, Embedded Security Division

DIRECTORS AND EXECUTIVE OFFICERS OF
SNOWFLAKE ACQUISITION CORP.

     The following table sets forth the name, business address and present principal occupation or employment of each director and executive officer of Snowflake Acquisition Corp. Except as indicated below, the address of each such person is c/o Snowflake Acquisition Corp., 4690 Millennium Drive, Belcamp, Maryland 21017. To Snowflake Acquisition Corp.’s knowledge, each of the individuals identified below is a citizen of the United States.

Name and Address (as applicable)	Title/Occupation
Directors of Snowflake Acquisition Corp.:
Anthony Caputo	Chairman and Chief Executive Officer, SafeNet, Inc.; Chairman and Chief Executive Officer, Snowflake Acquisition Corp.
Carole D. Argo	President and Chief Operating Officer, SafeNet, Inc.; President, Snowflake Acquisition Corp.
Executive Officers of Snowflake Acquisition Corp.
(who do not also serve as Directors of Snowflake Acquisition Corp.):
Ken Mueller	Chief Financial Officer and Treasurer, SafeNet, Inc.; Chief Financial Officer and Treasurer, Snowflake Acquisition Corp.
Kevin Hicks	Director of Legal Affairs and Secretary, SafeNet, Inc.; Secretary, Snowflake Acquisition Corp.

EX-99.1

EXECUTION COPY

AGREEMENT AND PLAN OF MERGER

By

and

Among

DATAKEY, INC.,

SNOWFLAKE ACQUISITION CORP.

and

SAFENET, INC.

Dated as of September 9, 2004

TABLE OF CONTENTS

		Page
	ARTICLE I TERMS OF THE MERGER
1.1	The Offer		2
1.2	Company Action		4
1.3	Directors of the Company		5
1.4	The Merger		6
1.5	The Closing; Effective Team		7
1.6	Conversion of Securities		7
1.7	Exchange of Certificates		8
1.8	Options		9
1.9	Warrants		11
1.10	Dissenting Shares		12
1.11	Articles of Incorporation and Bylaws		12
1.12	Directors and Officers		13
1.13	Others Effects of Merger		13
1.14	Additional Actions		13
1.15	Section 16		13
	ARTICLE II REPRESENTATIONS AND WARRANTIES
2.1	Due Incorporation and Good Standing		14
2.2	Capitalization		14
2.3	Subsidiaries		16
2.4	Authorization; Binding Agreement		16
2.5	Governmental Approvals		17
2.6	No Violations		17
2.7	SEC Filings; Company Financial Statements		18
2.8	Absence of Certain Changes		19
2.9	Absence of Undisclosed Liabilities		21
2.10	Compliance with Laws		21
2.11	Permits		21
2.12	Litigation		22
2.13	Restrictions on Business Activities		22
2.14	Contracts		22
2.15	Government Contracts		23
2.16	Technology and Intellectual Property		24
2.17	Employee Benefit Plans		27
2.18	Taxes and Returns		29
2.19	Finders and Investment Bankers		30
2.20	Fairness Opinion		31
2.21	Insurance		31

i

		Page
2.22	Vote Required; Ownership of Purchaser Capital Stock; State Takeover Statutes		31
2.23	Title to Properties		32
2.24	Employee Matters		32
2.25	Customers and Suppliers		34
2.26	Orders, Commitments and Returns		34
2.27	Inventory		34
2.28	Accounts Receivable		35
2.29	Environmental Matters		35
2.30	Rights Plan		36
2.31	Schedule 14D-9; offer Documents; and Proxy Statement		36
2.32	Absence of Questionable Payments		36
2.33	Representations Complete		37
	ARTICLE III REPRESENTATIONS AND WARRANTIES OF PURCHASER
3.1	Due Incorporation and Good Standing		37
3.2	Authorization; Binding Agreement		38
3.3	Governmental Approvals		38
3.4	No Violations		38
3.5	Finders and Investment Bankers		39
3.6	Schedule TO; Offer Documents; Proxy Statement; Schedule 14D-9		39
3.7	Financing		39
3.8	Representations Complete		39
	ARTICLE IV ADDITIONAL COVENANTS OF THE COMPANY
4.1	Conduct of Business of the Company		40
4.2	Notification of Certain Matters		43
4.3	Access and Information		43
4.4	Special Meeting; Proxy Statement		45
4.5	Reasonable Best Efforts		46
4.6	Public Announcements		46
4.7	Compliance		47
4.8	No Solicitation		47
4.9	SEC and Shareholder Filings		50
4.10	State Takeover Laws		50
4.11	Actions Regarding the Rights		50
	ARTICLE V ADDITIONAL COVENANTS PURCHASER
5.1	Notification of Certain Matters		50

ii

		Page
5.2	Reasonable Best Efforts		51
5.3	Compliance		51
5.4	SEC and Shareholder Filings		51
5.5	Indemnification		51
5.6	Benefit Plans and Employee Matters		53
	ARTICLE VI CONDITIONS
6.1	Conditions of Each Party’s Obligations		53
6.2	Conditions to Obligations of Purchaser		54
6.3	Frustration of Conditions		55
	ARTICLE VII TERMINATION AND ABANDONMENT
7.1	Termination		55
7.2	Effect of Termination and Abandonment		56
	ARTICLE VIII MISCELLANEOUS
8.1	Confidentiality		58
8.2	Amendment and Modification		59
8.3	Waiver of Compliance; Consents		59
8.4	Survival		59
8.5	Notices		60
8.6	Binding Effect; Assignment		61
8.7	Expenses		61
8.8	Governing Law		61
8.9	Counterparts		61
8.10	Interpretation		61
8.11	Entire Agreement		62
8.12	Severability		62
8.13	Specific Performance		62
8.14	Third Parties		63
8.15	Disclosure Schedules		63
8.16	Obligation of Purchaser		63

iii

AGREEMENT AND PLAN OF MERGER

     This Agreement and Plan of Merger (this “Agreement”) is made and entered into as of September 9, 2004, by and among DataKey, Inc., a Minnesota corporation (the “Company”), SafeNet, Inc., a Delaware corporation (“Purchaser”), and Snowflake Acquisition Corp., a Minnesota corporation and wholly owned subsidiary of Purchaser (“Merger Sub”).

WITNESSETH:

     A. The respective Boards of Directors of Merger Sub, Purchaser and the Company deem it advisable and in the best interests of their respective shareholders that Purchaser acquire the Company upon the terms and subject to the conditions provided for in this Agreement.

     B. In furtherance thereof it is proposed that the acquisition be accomplished by Merger Sub commencing a cash tender offer (as it may be amended from time to time as permitted by this Agreement, the “Offer”) to purchase and acquire (i) all shares of the issued and outstanding common stock, par value $0.05 per share (the “Common Stock”), of the Company (together with any associated preferred stock or other rights (the “Rights”) issued pursuant to the Rights Agreement, dated as of October 26, 2001, between the Company and Wells Fargo Bank Minnesota, N.A. (as the same has been amended through the date hereof, the “Rights Agreement”)) for $0.65 per share of Common Stock (such amount or any greater amount per share of Common Stock paid pursuant to the Offer being hereinafter referred to as the “Common Stock Offer Price”) and (ii) all shares of the issued and outstanding convertible preferred stock, liquidation value $2.50 per share (the “Convertible Preferred Stock” and, together with the Common Stock and the associated Rights, the “Shares”), for $2.50 per share of Convertible Preferred Stock (such amount or any greater amount per share of Convertible Preferred Stock paid pursuant to the Offer being hereinafter referred to as the “Convertible Preferred Offer Price” and together with the Common Stock Offer Price, the “Offer Prices”), subject to any applicable withholding Taxes (as such term is defined in Section 2.18(g)), net to the seller in cash, upon the terms and subject to the conditions set forth in this Agreement.

     C. The Board of Directors of the Company has unanimously approved the Offer and the Merger, this Agreement and the transactions contemplated by this Agreement, the Stockholders Agreement and the Stock Option Agreement, and has determined that Offer and the Merger, this Agreement and the transactions contemplated by this Agreements, the Stockholders Agreement and the Stock Option Agreement are fair to and in the best interests of the Company and its shareholders, and has resolved to recommend that holders of Shares accept the Offer, tender their Shares to Merger Sub pursuant to the Offer and approve and adopt this Agreement and the Merger.

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     D. The Board of Directors of each of Purchaser (on its own behalf and as the sole shareholder of Merger Sub), Merger Sub and the Company have each approved this Agreement and the merger of the Merger Sub with and into the Company (the “Merger”) with the Company continuing as the surviving corporation in the Merger, in the case of Purchaser, in accordance with the General Corporation Law of the State of Delaware (the “DGCL”) and, in the case of the Company and Merger Sub, in accordance with the Minnesota Business Corporation Act (“MBCA”) and, in each such case, upon the terms and conditions set forth in this Agreement.

     E. The Board of Directors of the Company and a special committee of the Company’s Board of Directors formed in accordance with Section 302A.673 of the MBCA have unanimously approved the Offer and the Merger, this Agreement and the transactions contemplated by this Agreement, and such approvals are sufficient to render Sections 302A.671, 302A.673 and 302A.675 of the MBCA inapplicable to the Offer and the Merger, this Agreement and the transactions contemplated by this Agreement.

     F. Contemporaneously with the execution and delivery of this Agreement, and as a condition and inducement to Purchaser’s and Merger Sub’s willingness to enter into this Agreement, certain shareholders of the Company (each, a “Shareholder”) are entering into a Stockholders Agreement (the “Stockholders Agreement”) in the form attached hereto as Exhibit A, pursuant to which each such Shareholder has agreed, among other things, to tender his, her or its Shares in the Offer and to grant Purchaser a proxy with respect to the voting of such Shares in favor of the Merger upon the terms and subject to the conditions set forth therein.

     G. As a condition and further inducement to Purchaser and Merger Sub to enter into this Agreement and incur the obligations set forth herein, concurrently with the execution and delivery of this Agreement, Merger Sub and the Company are entering into a Stock Option Agreement in the form of Exhibit B hereto (the “Stock Option Agreement”), pursuant to which, among other things, the Company has granted Merger Sub an option to purchase certain newly-issued shares of Common Stock, subject to certain conditions.

     NOW, THEREFORE, in consideration of the representations, warranties, covenants and agreements contained in this Agreement and intending to be legally bound hereby, the parties hereto agree as follows:

ARTICLE I
TERMS OF THE MERGER

1.1. The Offer.

     (a) Provided that this Agreement shall not have been terminated in accordance with Section 7.1 and none of the events set forth in Annex A hereto shall have occurred and

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be continuing (and shall not have been waived by Purchaser or Merger Sub), Merger Sub shall commence (within the meaning of Rule 14d-2 under the Securities Exchange Act of 1934, as amended (together with the rules and regulations promulgated thereunder, the “Exchange Act”)) the Offer as promptly as reasonably practicable after the date hereof, but in no event later than five (5) business days from the date of this Agreement, and the Offer shall remain open at least twenty (20) business days (as defined in Rule 14d-1(g)(3) of the Exchange Act) from commencement of the Offer (the “Initial Expiration Date”). The obligation of Merger Sub to accept for payment and to pay for any Shares validly tendered and not withdrawn prior to the expiration of the Offer (as it may be extended in accordance with requirements of this Section 1.1(a)) shall be subject only to the satisfaction or the waiver by Purchaser or Merger Sub of the following conditions: (i) there being validly tendered and not withdrawn prior to the expiration of the Offer (x) that number of shares of Common Stock which, together with any shares of Common Stock then owned by Purchaser or Merger Sub (without giving effect to shares subject to purchase under the Stock Option Agreement or the Stockholders Agreement), represents greater than 90% of the shares of Common Stock outstanding and (y) there being validly tendered and not withdrawn prior to the expiration of the Offer that number of shares of Convertible Preferred Stock which, together with any shares of Convertible Preferred Stock then owned by Purchaser or Merger Sub (without giving effect to shares subject to purchase under the Stock Option Agreement the Stockholders Agreement), represents 100% of the Convertible Preferred Stock outstanding (clauses (x) and (y) together, the “Minimum Condition”); and (ii) the other conditions set forth in Annex A hereto. Subject to the prior satisfaction or waiver by Purchaser or Merger Sub of the Minimum Condition and the other conditions of the Offer set forth in Annex A hereto, Merger Sub shall consummate the Offer in accordance with its terms and accept for payment and pay for all Shares tendered and not withdrawn promptly following the acceptance of Shares for payment pursuant to the Offer. The Offer shall be made by means of an offer to purchase (the “Offer to Purchase”) that contains the terms set forth in this Agreement, the Minimum Condition and the other conditions set forth in Annex A hereto. Purchaser expressly reserves the right to waive any of such conditions, to increase either or both of the Offer Prices and to make any other changes in the terms of the Offer; provided, however, that Merger Sub shall not, and Purchaser shall cause Merger Sub not to, decrease either of the Offer Prices, change the form of consideration payable in the Offer, decrease the number of Shares sought in the offer, impose additional conditions to the Offer, extend the Offer beyond the Initial Expiration Date except as set forth below, or amend any other condition of the Offer in any manner adverse to the holders of the Shares, in each case without the prior written consent of the Company (such consent to be authorized by the Company Board of Directors or a duly authorized committee thereof). Notwithstanding the foregoing, Merger Sub may, without the consent of the Company, (i) if, at any scheduled expiration of the Offer any of the conditions to Merger Sub’s obligation to accept Shares for payment shall not be satisfied or waived, extend the Offer beyond the Initial Expiration Date for a time period reasonably necessary to permit such condition to be satisfied, or (ii) extend the Offer for any period required by any rule, regulation or interpretation of the United States Securities and Exchange Commission (“SEC”), or the staff thereof, applicable to the Offer. Merger

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Sub may, without the consent of the Company, extend the Offer in accordance with Rule 14d-11 under the Exchange Act. In addition, either or both of the Offer Prices may be increased and the Offer may be extended to the extent required by law in connection with such increase, in each case without the consent of the Company.

     (b) As promptly as practicable on the date of commencement of the Offer, Merger Sub shall file with the SEC a Tender Offer Statement on Schedule TO (together with all amendments and supplements thereto, the “Schedule TO”) with respect to the Offer. The Schedule TO shall contain or incorporate by reference an offer to purchase (the “Offer to Purchase”) and forms of the related letter of transmittal and all other ancillary Offer documents (collectively, together with all amendments and supplements thereto, the “Offer Documents”). Purchaser and Merger Sub shall cause the Offer Documents to be disseminated to the holders of the Shares as and to the extent required by applicable federal securities laws. Purchaser and Merger Sub, on the one hand, and the Company, on the other hand, will promptly correct any information provided by it for use in the Offer Documents if and to the extent that it shall have become false or misleading in any material respect, and Merger Sub will cause the Offer Documents as so corrected to be filed with the SEC and to be disseminated to holders of the Shares, in each case as and to the extent required by applicable federal securities laws. The Company and its counsel shall be given a reasonable opportunity to review and comment upon the Schedule TO before it is filed with the SEC. In addition, Purchaser and Merger Sub agree to provide the Company and its counsel with any comments, whether written or oral, that Purchaser or Merger Sub or their counsel may receive from time to time from the SEC or its staff with respect to the Offer Documents promptly after the receipt of such comments and to consult with the Company and its counsel prior to responding to any such comments.

     (c) Purchaser and Merger Sub will file with the Commissioner of Commerce of the State of Minnesota and disseminate to the shareholders of the Company any registration statement relating to the Offer required to be filed pursuant to Chapter 80B of the Minnesota Statutes.

1.2. Company Actions.

     (a) The Company hereby approves of and consents to the Offer and represents and warrants that the Company’s Board of Directors and a special committee of the Company’s Board of Directors formed in accordance with Section 302A.673 of the MBCA (the “Special Committee”), each at a meeting duly called and held, have (i) determined that the terms of the Offer and the Merger are fair to and in the best interests of the shareholders of the Company, (ii) approved this Agreement and the transactions contemplated hereby, including the Offer and the Merger, the Stockholders Agreement and the Stock Option Agreement, and such approvals are sufficient to comply with Sections 302A.671, 302A.673 and 302A.675 of the MBCA as they apply to this Agreement and the transactions contemplated by this Agreement and (iii) resolved to recommend that the

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shareholders of the Company accept the Offer, tender their Shares to Merger Sub thereunder and approve and adopt this Agreement and the Merger. The Company hereby consents to the inclusion in the Offer Documents of the recommendation of the Board and the approval of the Special Committee described in the immediately preceding sentence, and the Company shall not permit the recommendation of the Company’s Board or the disclosure regarding the approval of the Special Committee or any component thereof to be modified in any manner adverse to Purchaser or Merger Sub or to be withdrawn by the Company’s Board or the Special Committee, except as provided in Section 4.8(b) hereof.

     (b) As promptly as practicable on the date of commencement of the Offer, the Company shall file with the SEC a Solicitation/Recommendation Statement on Schedule 14D-9 (together with all amendments and supplements thereto, the “Schedule 14D-9”) which shall contain the recommendation referred to in clause (iii) of Section 1.2(a) hereof. The Company further agrees to take all steps necessary to cause the Schedule 14D-9 to be disseminated to holders of the Shares as and to the extent required by applicable federal securities laws. The Company, on the one hand, and each of Purchaser and Merger Sub, on the other hand, will promptly correct any information provided by it for use in the Schedule 14D-9 if and to the extent that it shall have become false or misleading in any material respect, and the Company will cause the Schedule 14D-9 as so corrected to be filed with the SEC and to be disseminated to holders of the Shares, in each case as and to the extent required by applicable federal securities laws. Purchaser and its counsel shall be given a reasonable opportunity to review and comment upon the Schedule 14D-9 before it is filed with the SEC. In addition, the Company agrees to provide Purchaser, Merger Sub and their counsel with any comments, whether written or oral, that the Company or its counsel may receive from time to time from the SEC or its staff with respect to the Schedule 14D-9 promptly after the receipt of such comments and to consult with Purchaser, Merger Sub and their counsel prior to responding to any such comments.

     (c) The Company shall promptly furnish Merger Sub with mailing labels containing the names and addresses of all record holders of Shares and with security position listings of Shares held in stock depositories, each as of a recent date, together with all other available listings and computer files containing names, addresses and security position listings of record holders and non-objecting beneficial owners of Shares. The Company shall furnish Merger Sub with such additional information, including, without limitation, updated listings and computer files of holders of Shares, mailing labels and security position listings, and such other assistance as Purchaser, Merger Sub or their agents may reasonably require in communicating the Offer to the record and beneficial holders of Shares.

1.3. Directors of the Company.

     (a) Immediately upon the purchase of and payment for Shares by Merger Sub or any of its affiliates pursuant to the Offer, Purchaser shall be entitled to designate such number of directors, rounded up to the next whole number, on the Board of Directors of the

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Company as is equal to the product obtained by multiplying the total number of directors on such Board by the percentage that the number of Shares so purchased and paid for bears to the total number of Shares then outstanding. In furtherance thereof, the Company and its Board of Directors shall, after the purchase of and payment for Shares by Merger Sub or any of its affiliates pursuant to the Offer, upon request of Merger Sub, immediately increase the size of its Board of Directors, secure the resignations of such number of directors or remove such number of directors, or any combination of the foregoing, as is necessary to enable Purchaser’s designees to be so elected to the Company’s Board and shall cause Purchaser’s designees to be so elected and shall comply with Section 14(f) of the Exchange Act and Rule 14f-1 promulgated thereunder in connection therewith. In the event that Merger Sub requests the resignation of directors of the Company pursuant to the immediately preceding sentence, the Company shall cause such directors of the Company to resign as may be designated by Merger Sub in a writing delivered to the Company. Immediately upon the first purchase of and payment for Shares by Merger Sub or any of its affiliates pursuant to the Offer, the Company shall, if requested by Purchaser, also cause directors designated by Purchaser to constitute at least the same percentage (rounded up to the next whole number) of each committee of the Company’s Board of Directors as is on the Company’s Board of Directors. Notwithstanding the foregoing, if Shares are purchased pursuant to the Offer, there shall be until the Effective Time at least two members of the Company’s Board of Directors who are directors on the date hereof and are not employees of the Company; each such director shall both be “disinterested” as defined in Section 302A.673, Subd. 1(d), of the MBCA. The Company and its Board of Directors shall promptly take all actions as may be necessary to comply with their obligations under this Section 1.3(a), including all actions as may be permitted under the MBCA and the Company’s Bylaws.

     (b) The Company shall immediately take all actions required pursuant to Section 14(f) of the Exchange Act and Rule 14f-1 promulgated thereunder in order to fulfill its obligations under Section 1.3(a), including mailing to shareholders together with the Schedule 14D-9 the information required by such Section 14(f) and Rule 14f-1 as is necessary to enable Purchaser’s designees to be elected to the Company’s Board of Directors. Purchaser and Merger Sub will supply the Company and be solely responsible for any information with respect to them and their nominees, officers, directors and affiliates required by such Section 14(f) and Rule 14f-1.

     (c) Following the election of Purchaser’s designees to the Company’s Board of Directors pursuant to this Section 1.3 and prior to the Effective Time, (i) any amendment or termination of this Agreement by the Company, (ii) any extension or waiver by the Company of the time for the performance of any of the obligations or other acts of Purchaser or Merger Sub under this Agreement, or (iii) any waiver of any of the Company’s rights hereunder shall, in any such case, require the concurrence of a majority of the directors of the Company then in office who neither were designated by Purchaser nor are employees of the Company (the “Independent Director Approval”).

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1.4. The Merger.

     Upon the terms and subject to the conditions of this Agreement, the Merger shall be consummated in accordance with the MBCA. At the Effective Time (as defined below), upon the terms and subject to the conditions of this Agreement, Merger Sub shall be merged with and into the Company in accordance with the MBCA and the separate existence of Merger Sub shall thereupon cease, and the Company, as the surviving corporation in the Merger (the “Surviving Corporation”), shall continue its corporate existence under the laws of the State of Minnesota as a wholly owned subsidiary of Purchaser.

1.5. The Closing; Effective Time.

     (a) The closing of the Merger (the “Closing”) shall take place at the offices of Venable LLP, 8010 Towers Crescent Drive, Suite 300, Vienna, Virginia 22182, at 10:00 a.m. local time on a date to be specified by the parties which shall be no later than the third business day after the date that all of the closing conditions set forth in Article VI have been satisfied or waived (if waivable) unless another time, date or place is agreed upon in writing by the parties hereto.

     (b) Effective Time. Subject to the provisions of this Agreement, on the Closing Date the parties shall file with the Secretary of State of the State of Minnesota articles of merger in accordance with Section 302A.615 or 302A.621 of the MBCA as applicable (as the case may be, the “Articles of Merger”) executed in accordance with the relevant provisions of the MBCA and shall make all other filings or recordings required under the MBCA in order to effect the Merger. The Merger shall become effective upon the filing of the Articles of Merger or at such other time as is agreed by the parties hereto and specified in the Articles of Merger. The time when the Merger shall become effective is herein referred to as the “Effective Time” and the date on which the Effective Time occurs is herein referred to as the “Closing Date.”

1.6. Conversion of Securities.

     At the Effective Time, by virtue of the Merger and without any action on the part of the holders of any securities of Merger Sub or the Company:

     (a) Each Share that is owned by Purchaser, the Company or any of their respective subsidiaries shall automatically be cancelled and retired and shall cease to exist, and no consideration shall be delivered in exchange therefor.

     (b) Each issued and outstanding Share (other than Shares to be cancelled in accordance with Section 1.6(a) hereof and Dissenting Shares) shall automatically be converted into the right to receive the Common Stock Offer Price in cash (the “Merger Consideration”), payable, without interest, to the holder of such Share upon surrender, in

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the manner provided in Section 1.7 hereof, of the certificate that formerly evidenced such Share. All such Shares, when so converted, shall no longer be outstanding and shall automatically be cancelled and retired and shall cease to exist, and each holder of a certificate representing any such Shares shall cease to have any rights with respect thereto, except the right to receive the Merger Consideration therefor upon the surrender of such certificate in accordance with Section 1.7 hereof.

     (c) Each issued and outstanding share of common stock of Merger Sub shall be converted into one validly issued, fully paid and nonassessable share of common stock of the Surviving Corporation.

1.7. Exchange of Certificates.

     (a) Exchange Agent. Prior to the Effective Time, Purchaser shall designate a bank or trust company reasonably acceptable to the Company to act as agent for the holders of the Shares (other than Shares held by Purchaser, the Company and any of their respective subsidiaries and Dissenting Shares) in connection with the Merger (the “Exchange Agent”) to receive in trust, the aggregate Merger Consideration to which holders of Shares shall become entitled pursuant to Section 1.6(b) hereof. Purchaser shall deposit such aggregate Merger Consideration with the Exchange Agent promptly following the Effective Time. Such aggregate Merger Consideration shall be invested by the Exchange Agent as directed by Purchaser.

     (b) Exchange Procedures. Promptly after the Effective Time, Purchaser and the Surviving Corporation shall cause to be mailed to each holder of record, as of the Effective Time, of a certificate or certificates, which immediately prior to the Effective Time represented outstanding Shares (the “Certificates”), whose Shares were converted pursuant to Section 1.6(b) hereof into the right to receive the Merger Consideration, a letter of transmittal (which shall specify that delivery shall be effected, and risk of loss and title to the Certificates shall pass, only upon proper delivery of the Certificates to the Exchange Agent and shall be in such form and have such other provisions as Purchaser may reasonably specify) and instructions for use in effecting the surrender of the Certificates in exchange for the Merger Consideration. Upon surrender of a Certificate for cancellation to the Exchange Agent or to such other agent or agents as may be appointed by Purchaser, together with such letter of transmittal, properly completed and duly executed in accordance with the instructions thereto, the holder of such Certificate shall be entitled to receive in exchange therefor the Merger Consideration for each Share formerly represented by such Certificate, and the Certificate so surrendered shall forthwith be cancelled. No interest will be paid or accrued on the cash payable upon the surrender of the Certificates. If payment of the Merger Consideration is to be made to a person other than the person in whose name the surrendered Certificate is registered, it shall be a condition of payment that the Certificate so surrendered shall be properly endorsed or shall be otherwise in proper form for transfer and that the person requesting such payment shall have paid all transfer and other Taxes required by reason of the issuance to a person other than the registered

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holder of the Certificate surrendered or shall have established to the satisfaction of the Surviving Corporation that such Tax either has been paid or is not applicable. Until surrendered as contemplated by this Section 1.7, each Certificate shall be deemed at any time after the Effective Time to represent only the right to receive the Merger Consideration for each Share in cash as contemplated by Section 1.6(b) hereof.

     (c) Transfer Books; No Further Ownership Rights in the Shares. At the Effective Time, the stock transfer books of the Company shall be closed, and thereafter there shall be no further registration of transfers of the Shares on the records of the Company. From and after the Effective Time, the holders of Certificates evidencing ownership of the Shares outstanding immediately prior to the Effective Time shall cease to have any rights with respect to such Shares, except as otherwise provided for herein or by applicable law. If, after the Effective Time, Certificates are presented to the Surviving Corporation for any reason, they shall be cancelled and exchanged as provided in this Article I.

     (d) Termination of Fund; No Liability. At any time following the six-month anniversary of the Effective Time, the Surviving Corporation shall be entitled to require the Exchange Agent to deliver to it any funds (including any interest received with respect thereto) which had been made available to the Exchange Agent, and holders shall be entitled to look to the Surviving Corporation (subject to abandoned property, escheat or other similar laws) only as general creditors thereof with respect to the Merger Consideration payable upon due surrender of their Certificates without any interest thereon. Notwithstanding the foregoing, neither the Surviving Corporation nor the Exchange Agent nor any party hereto shall be liable to any holder of a Certificate for Merger Consideration delivered to a public official pursuant to any applicable abandoned property, escheat or similar law.

     (e) Lost, Stolen or Destroyed Certificates. In the event any Certificates shall have been lost, stolen or destroyed, upon the making of an affidavit of that fact by the person claiming such Certificate(s) to be lost, stolen or destroyed and, if required by Purchaser, the posting by such person of a bond in such sum as Purchaser may reasonably direct as indemnity against any claim that may be made against any party hereto or the Surviving Corporation with respect to such Certificate(s), the Exchange Agent will issue the Merger Consideration pursuant to Section 1.6(b) deliverable in respect of the Shares represented by such lost, stolen or destroyed Certificates.

     (f) Withholding Taxes. Purchaser and Merger Sub shall be entitled to deduct and withhold, or cause the Exchange Agent to deduct and withhold, from the Offer Prices or the Merger Consideration payable to a holder of Shares pursuant to the Offer or the Merger any such amounts as are required under the Internal Revenue Code of 1986, as amended (the “Code”), or any applicable provision of state, local or foreign Tax law. To the extent that amounts are so withheld by Purchaser or Merger Sub, such withheld amounts shall be treated for all purposes of this Agreement as having been paid to the

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holder of the Shares in respect of which such deduction and withholding was made by Purchaser or Merger Sub.

1.8 Options.

     (a) Except as provided in paragraphs (b), (c) and (d) below with respect to the Company’s 1998 Employee Stock Purchase Plan, as amended (the “Company ESPP”), the Cash-Out Options (as defined in Section 1.8(d)) and certain options to purchase Common Stock at an exercise price greater than $0.82 per share, at the Effective Time, with respect to each then outstanding and unexercised option for Shares (the “Company Options”) granted under the Company’s 1987 Stock Option Plan, 1997 Stock Option Plan and 1994 Consultant Plan (collectively, the “Company Option Plans”) or otherwise, Purchaser shall cause each holder of a Company Option to receive, by virtue of the Merger and without any action on the part of the holder thereof, options (“Purchaser Replacement Options”) exercisable for shares of common stock, par value $.01 per share, of Purchaser (“Purchaser Stock”) having the same terms and conditions as the Company Options (including such terms and conditions as may be incorporated by reference into the agreements evidencing the Company Options pursuant to the plans or arrangements pursuant to which such Company Options were granted) except that the exercise price and the number of shares issuable upon exercise shall be divided and multiplied, respectively, by the Conversion Fraction, and rounded to the nearest whole cent or number, respectively. Purchaser shall use all reasonable efforts to ensure that any Company Options that qualified as incentive stock options under Section 422 of the Code prior to the Effective Time continue to so qualify after the Effective Time. Purchaser shall take all corporate action necessary to reserve for issuance a sufficient number of shares of Purchaser Stock for delivery upon the exercise of Purchaser Replacement Options after the Effective Time. Promptly after the Effective Time, Purchaser shall file or cause to be filed all registration statements on Form S-8 or other appropriate form as may be necessary in connection with the purchase and sale of Purchaser Stock contemplated by such Purchaser Replacement Options subsequent to the Effective Time, and shall maintain the effectiveness of such registration statements (and maintain the current status of the prospectus or prospectuses contained therein) for so long as any of the Purchaser Replacement Options registered thereunder remain outstanding. As soon as practicable after the Effective Time, Purchaser shall qualify under applicable state securities laws the issuance of such shares of Purchaser Stock issuable upon exercise of Purchaser Replacement Options. Purchaser’s Board of Directors shall take all actions necessary on the part of Purchaser to enable the acquisition of Purchaser Stock, Purchaser Replacement Options and subsequent transactions in Purchaser Stock after the Effective Time pursuant to Purchaser Replacement Options by persons subject to the reporting requirements of Section 16(a) of the Exchange Act to be exempt from the application of Section 16(b) of the Exchange Act, to the extent permitted thereunder. For purposes of this Agreement, the term “Conversion Fraction” shall mean the quotient determined by dividing (x) the Common Stock Offer Price by (y) the average closing prices of one (1) shares of the Purchaser Stock on The Nasdaq National Market (as reported in the Wall Street Journal or, if

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not reported therein, any other authoritative source) for the five (5) trading days ending two (2) days prior to the Effective Time.

     (b) The offerings under the Company ESPP shall be terminated as of the date hereof, and Shares shall not be issued to participants thereunder after the date hereof. As of the Effective Time, each participant under the Company ESPP shall receive a cash payment equal to the balance, if any, of any accumulated payroll deductions for which they did not receive Shares.

     (c) Each Company Option with an exercise price greater than $0.82 per share of Common Stock that is outstanding and unexercised at the Effective Time shall terminate at the Effective Time and shall not be assumed or replaced by Purchaser.

     (d) At the Effective Time, in exchange for the surrender and cancellation of the Company Options identified on Schedule 1.8(d) to this Agreement (the “Cash-Out Options”), Purchaser shall pay to the persons identified on Schedule 1.8(d) as the holders of such Cash-Out Options cash in the amount equal to, with respect to each Cash-Out Option, the product of (i) the number of shares of Common Stock to be acquired upon the exercise of such Cash-Out Option, multiplied by (ii) the amount equal to the difference between (A) the Merger Consideration, minus (B) the exercise price of such Cash-Out Option.

     (e) From and after the date hereof until the Effective Time, the Company shall, upon the request of Purchaser, grant to employees of the Company designated by Purchaser options to purchase Common Stock available for issuance under the Company’s 1997 Stock Option Plan in such amounts and at such exercise price(s) as the Company and Purchaser agree and upon such issuance, such options shall be treated as Company Options for purposes of this Agreement.

     (f) As of the Effective Time, except as provided in this Section 1.8, all rights under any provision of the Company Option Plans and any other plan, program or arrangement providing for the issuance or grant of any other interest in respect of the capital stock of the Company shall be cancelled. The Company shall take all action necessary to ensure that, as of and after the Effective Time, except as provided in this Section 1.8, no person shall have any right under the Company Option Plans or any other plan, program or arrangement with respect to equity securities of the Company, the Surviving Corporation or any subsidiary thereof.

     (g) At or before the Effective Time, the Company shall cause to be effected any necessary amendments to the Company Option Plans and any other resolutions, consents or notices, in such form reasonably acceptable to Purchaser, required under the Company Option Plans or any Company Options to give effect to the foregoing provisions of this Section 1.8.

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1.9 Warrants.

     If permitted under the terms of the applicable governing instruments, the Company shall take all necessary action such that, at the Effective Time, each holder of an outstanding warrant to purchase shares of Common Stock (collectively, the “Company Warrants”) shall have the right to receive, in lieu of the shares of Common Stock theretofore issuable upon exercise of such Company Warrant, an amount per share equal to the excess of the Merger Consideration over the exercise price per share of such Company Warrant; provided, however, that to the extent the foregoing is not permissible under the terms of any such Company Warrant, each such Company Warrant shall, at the Effective Time, be deemed to constitute a warrant to acquire, upon payment of the aggregate exercise price of such Company Warrant, and otherwise on the same terms and conditions as were applicable under such Company Warrant prior to the Effective Time, the aggregate Merger Consideration that the holder of such Company Warrant would have been entitled to receive pursuant to Article I of this Agreement had such holder exercised such Company Warrant in full immediately prior to the Effective Time. The Company shall deliver to each holder of a Company Warrant timely notice of the Merger in accordance with the provisions thereof. The Company shall take all necessary actions to provide that as of the Effective Time no holder of a Company Warrant will have the right to receive shares of common stock of the Surviving Corporation upon the exercise of any Company Warrant.

1.10 Dissenting Shares.

     Notwithstanding any provision of this Agreement to the contrary, each outstanding Share, the holder of which has demanded and perfected such holder’s right to dissent from the Merger and to be paid the fair value of such Shares in accordance with Sections 302A.471 and 302A.473 of the MBCA and, as of the Effective Time, has not effectively withdrawn or lost such dissenters’ rights (“Dissenting Shares”), shall not be converted into or represent a right to receive the Merger Consideration into which Shares are converted pursuant to Section 1.6(b) hereof, but the holder thereof shall be entitled only to such rights as are granted by the MBCA. Notwithstanding the immediately preceding sentence, if any holder of Shares who demands dissenters’ rights with respect to its Shares under the MBCA effectively withdraws or loses (through failure to perfect or otherwise) its dissenters’ rights, then as of the Effective Time or the occurrence of such event, whichever later occurs, such holder’s Shares will automatically be converted into and represent only the right to receive the Merger Consideration as provided in Section 1.6(b) hereof, without interest thereon, upon surrender of the certificate or certificates formerly representing such Shares. After the Effective Time, Purchaser shall cause the Company to make all payments to holders of Shares with respect to such demands in accordance with the MBCA. The Company shall give Purchaser (i) prompt written notice of any notice of intent to demand fair value for any Shares, withdrawals of such notices, and any other instruments served pursuant to the MBCA and received by the Company, and (ii) the opportunity to direct all negotiations and proceedings with respect to demands for fair value for Shares under the MBCA. The Company shall not, except with the prior written consent of Purchaser, voluntarily make

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any payment with respect to any demands for fair value for Shares or offer to settle or settle any such demands.

1.11 Articles of Incorporation and Bylaws.

     Subject to Section 5.5 hereof, at and after the Effective Time until the same have been duly amended, (i) the Articles of Incorporation of the Surviving Corporation shall be identical to the Articles of Incorporation of Merger Sub in effect at the Effective Time and (ii) and the Bylaws of the Surviving Corporation shall be identical to the Bylaws of Merger Sub in effect at the Effective Time.

1.12 Directors and Officers.

     At and after the Effective Time, the directors of Merger Sub immediately prior to the Effective Time shall be the directors of the Surviving Corporation, and the officers of Merger Sub immediately prior to the Effective Time shall be the officers of the Surviving Corporation, in each case until their successors are elected or appointed and qualified. If, at the Effective Time, a vacancy shall exist on the Board of Directors or in any office of the Surviving Corporation, such vacancy may thereafter be filled in the manner provided by law.

1.13 Other Effects of Merger.

     The Merger shall have all further effects as specified in the applicable provisions of the MBCA.

1.14 Additional Actions.

     If, at any time after the Effective Time, the Surviving Corporation shall consider or be advised that any deeds, bills of sale, assignments, assurances or any other actions or things are necessary or desirable to vest, perfect or confirm of record or otherwise in the Surviving Corporation its right, title or interest in, to or under any of the rights, properties or assets of Merger Sub or the Company or otherwise carry out this Agreement, the officers and directors of the Surviving Corporation shall be authorized to execute and deliver, in the name and on behalf of Merger Sub or the Company, all such deeds, bills of sale, assignments and assurances and to take and do, in the name and on behalf of Merger Sub or the Company, all such other actions and things as may be necessary or desirable to vest, perfect or confirm any and all right, title and interest in, to and under such rights, properties or assets in the Surviving Corporation or otherwise to carry out this Agreement.

1.15 Section 16.

     Purchaser, the Surviving Corporation and the Company shall each take all such steps as may be required to provide that, with respect to each Section 16 Affiliate (as

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defined below), (a) the transactions contemplated by this section, and (b) any other dispositions of Company equity securities (including derivative securities) or other acquisitions of Purchaser equity securities (including derivative securities) in connection with this Agreement, shall be exempt under Rule 16b-3 promulgated under the Exchange Act, in accordance with the terms and conditions set forth in that certain No-Action Letter, dated January 12, 1999, issued by the SEC to Skadden, Arps, Slate, Meagher & Flom LLP. For purposes of this Agreement, “Section 16 Affiliate” shall mean each individual who (a) immediately prior to the Effective Time is a director or officer of the Company or (b) at the Effective Time will become a director or officer of Purchaser or the Surviving Corporation.

ARTICLE II
REPRESENTATIONS AND WARRANTIES OF THE COMPANY

     Except as set forth in the disclosure schedule to be delivered by the Company to Purchaser upon the execution of this Agreement, which sets forth certain disclosures concerning the Company and its business (the “Company Disclosure Schedule”), each section of which only qualifies the correspondingly numbered representation or warranty in this Article II, the Company hereby represents and warrants to Purchaser and Merger Sub as follows:

2.1. Due Incorporation and Good Standing.

     The Company is a corporation duly incorporated, validly existing and in good standing under the laws of the jurisdiction of its incorporation and has all requisite corporate power and authority to own, lease and operate its properties and to carry on its business as now being conducted. The Company is duly qualified or licensed and in good standing to do business in each jurisdiction in which the character of the property owned, leased or operated by it or the nature of the business conducted by it makes such qualification or licensing necessary, except where the failure to be so duly qualified or licensed and in good standing would not be reasonably likely to have a Company Material Adverse Effect. For purposes of this Agreement, the term “Company Material Adverse Effect” shall mean a material adverse effect on the business, assets, condition (financial or otherwise), liabilities or the results of operations of the Company, except in each case for any such effects resulting from, arising out of, or relating to (i) general business or economic conditions, (ii) conditions generally affecting the industry in which the Company competes, or (iii) the taking of any action contemplated by this Agreement. The Company has heretofore made available to Purchaser accurate and complete copies of the Restated Articles of Incorporation, as amended, and Bylaws, as currently in effect, of the Company.

2.2 Capitalization.

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     (a) The authorized capital stock of the Company consists of (i) 22,000,000 shares of Common Stock, (ii) 400,000 shares of Convertible Preferred Stock, (iii) 120,000 shares of preferred stock, par value $0.05 per share, designated as Series B Preferred Stock (the “Series B Preferred Stock”) and reserved for issuance in connection with the Rights Agreement, and (iv) 7,480,000 shares that are not designated (the “Undesignated Capital Stock” and together with the Common Stock, the Convertible Preferred Stock and the Series B Preferred Stock, the “Company Capital Stock”). As of the close of business on September 9, 2004, (i) 11,767,254 shares of Common Stock were issued and outstanding, (ii) 150,000 shares of Convertible Preferred Stock were issued and outstanding, (iii) no shares of Series B Preferred Stock were issued and outstanding, (iv) no shares of Undesignated Capital Stock were issued and outstanding, (v) 1,789,728 shares of Common Stock were reserved for issuance pursuant to outstanding Company Options, (vi) 6,593,823 shares of Common Stock were subject to issuance under Company Warrants and (vii) 83,876 shares of Common Stock were available for issuance in the purchase period ending December 31, 2004 under the Company ESPP. All of the outstanding shares of Company Capital Stock are, and all shares of Company Capital Stock which may be issued pursuant to the exercise of outstanding Company Options and Company Warrants will be, when issued in accordance with the respective terms thereof, duly authorized, validly issued, fully paid and non-assessable. The rights, preferences and privileges of the Convertible Preferred Stock and the Series B Preferred Stock are as set forth in the Restated Articles of Incorporation, as amended. None of the outstanding securities of the Company has been issued in violation of any federal or state securities laws.

     (b) Except as set forth above or as set forth in Section 2.2(b) of the Company Disclosure Schedule, as of the date hereof, (i) there are no shares of capital stock of the Company authorized, issued or outstanding, (ii) there are no existing options, warrants, calls, preemptive or similar rights, bonds, debentures, notes or other indebtedness having general voting rights or debt convertible into securities having such rights (“Voting Debt”) or subscriptions or other rights, agreements, arrangements or commitments of any character, relating to the issued or unissued capital stock of the Company obligating the Company to issue, transfer or sell or cause to be issued, transferred, sold or repurchased any options or shares of capital stock or Voting Debt of, or other equity interest in, the Company or securities convertible into or exchangeable for such shares or equity interests, or obligating the Company to grant, extend or enter into any such option, warrant, call, subscription or other right, agreement, arrangement or commitment and (iii) there are no outstanding contractual obligations of the Company to repurchase, redeem or otherwise acquire any Company Capital Stock, or other capital stock of the Company or to provide funds to make any investment (in the form of a loan, capital contribution or otherwise) in any other entity. Except for the Company’s obligations under the Rights Agreement (including the Rights) and except as otherwise expressly contemplated by this Agreement, as of the date hereof there are no outstanding rights, subscriptions, warrants, puts, calls, unsatisfied preemptive rights, options or other agreements of any kind relating to any of the issued, outstanding, authorized but unissued, or unauthorized shares of capital stock or any other security of the Company, and there is no authorized or issued security of any kind

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convertible into or exchangeable, for any such capital stock or other security. A true, correct and complete copy of the Rights Agreement has been delivered to Purchaser by the Company prior to the date hereof.

     (c) There are no voting trusts or other agreements or understandings to which the Company is a party with respect to the voting of the Company Capital Stock.

     (d) Following the Effective Time, no holder of Company Options or Company Warrants will have any right to receive shares of common stock of the Surviving Corporation upon exercise of Company Options or Company Warrants.

     (e) Except as disclosed in Section 2.2(e) of the Company Disclosure Schedule, no Indebtedness of the Company contains any restriction upon (i) the prepayment of any of such Indebtedness, (ii) the incurrence of Indebtedness by the Company, or (iii) the ability of the Company to grant any lien on its properties or assets. As used in this Agreement, “Indebtedness” means (A) all indebtedness for borrowed money or for the deferred purchase price of property or services (other than current trade liabilities incurred in the ordinary course of business and payable in accordance with customary practices), (B) any other indebtedness that is evidenced by a note, bond, debenture or similar instrument, (C) all obligations under financing leases, (D) all obligations in respect of acceptances issued or created, (E) all liabilities secured by any lien on any property and (F) all guarantee obligations.

     (f) Section 2.2(f) of the Company Disclosure Schedule lists all Company Options outstanding as of the date hereof, the name of the holder of each Company Option, the date of grant and the exercise price of such Company option, the number of shares of Common Stock as to which such Company Option has vested, the vesting schedule for such Company Option, a summary of any acceleration provisions or milestones, and whether the exercisability of such Company Option will be accelerated in any way by the transactions contemplated under this Agreement, and indicates the extent of acceleration, if any. Since July 30, 2004, the Company has not granted any Company Options to officers or directors of the Company.

     (g) No agreement or understanding requires consent or approval from the holder of any Company Option or Company Warrant to effectuate the terms of this Agreement. The Company has previously provided true and complete copies of each Company Warrant to Purchaser.

2.3 No Subsidiaries

     The Company has no subsidiaries and does not otherwise hold any equity, membership, partnership, joint venture or other ownership interest in any person.

2.4 Authorization; Binding Agreement.

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     The Company has all requisite corporate power and authority to execute and deliver this Agreement and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement and the consummation of the transactions contemplated hereby, including, but not limited to, the Offer and the Merger, the Stockholders Agreement and the Stock Option Agreement have been duly and validly authorized by the Company’s Board of Directors, and no other corporate proceedings on the part of the Company are necessary to authorize the execution and delivery of this Agreement or to consummate the transactions contemplated hereby (other than the requisite approval of the Merger by the shareholders of the Company in accordance with the MBCA). This Agreement has been duly and validly executed and delivered by the Company and constitutes the legal, valid and binding agreement of the Company, enforceable against the Company in accordance with its terms, except to the extent that enforceability thereof may be limited by applicable bankruptcy, insolvency, reorganization or other similar laws affecting the enforcement of creditors’ rights generally and by principles of equity regarding the availability of remedies (“Enforceability Exceptions”). The Special Committee and the Company’s Board of Directors have approved the Offer, the Merger, this Agreement, the Stockholders Agreement and the Stock Option Agreement and the transactions contemplated hereby and thereby and such approvals are sufficient so that Sections 302A.671, 302A.673 and 302A.675 of the MBCA will not impede the Offer, the Merger, this Agreement and the other transactions contemplated by this Agreement.

2.5 Governmental Approvals.

     No consent, approval, waiver or authorization of, notice to or declaration or filing with (“Consent”), any nation or government, any state or other political subdivision thereof, any entity, authority or body exercising executive, legislative, judicial, regulatory or administrative functions of or pertaining to government, including, without limitation, any governmental or regulatory authority, agency, department, board, commission, administration or instrumentality, any court, tribunal or arbitrator or any self regulatory organization (“Governmental Authority”) on the part of the Company is required in connection with the execution or delivery by the Company of this Agreement, the Offer, the Merger or the consummation by the Company of the other transactions contemplated hereby other than (i) the filing of the Articles of Merger with the Secretary of State of the State of Minnesota in accordance with the MBCA, (ii) filings with the SEC and state securities laws administrators (including the Commissioner of Commerce of the State of Minnesota), (iii) such filings as may be required in any jurisdiction where the Company is qualified or authorized to do business as a foreign corporation in order to maintain such qualification or authorization and (iv) those Consents that, if they were not obtained or made, would not be reasonably likely to have a Company Material Adverse Effect.

2.6 No Violations.

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     The execution and delivery of this Agreement, the Offer, the Merger, the consummation of the other transactions contemplated hereby and compliance by the Company with any of the provisions hereof will not (i) conflict with or result in any breach of any provision of the Articles of Incorporation or Bylaws or other governing instruments of the Company, (ii) except as set forth on Section 2.6 of the Company Disclosure Schedule, require any Consent under or result in a violation or breach of, or constitute (with or without due notice or lapse of time or both) a default (or give rise to any right of termination, cancellation or acceleration) under any of the terms, conditions or provisions of any agreement or other instrument to which the Company is a party or by which its assets are bound, (iii) result in the creation or imposition of any liens, charges, security interests, options, claims, mortgages, pledges, assessments, charges, adverse claims, rights of others or restrictions (whether on voting, sale, transfer, disposition or otherwise) or other encumbrances or restrictions of any nature whatsoever whether imposed by agreement, understanding, law or equity, or any conditional sale contract, title retention contract or other contract to give or refrain from giving any of the foregoing (“Encumbrances”) of any kind upon any of the assets of the Company or (iv) subject to obtaining the Consents from Governmental Authorities referred to in Section 2.5 hereof, contravene any applicable provision of any statute, law, rule or regulation or any order, decision, injunction, judgment, award or decree (“Law”) to which the Company or any of its assets or properties is subject.

2.7 SEC Filings; Company Financial Statements.

     (a) The Company has filed all forms, reports, schedules, statements and other documents required to be filed by the Company with the SEC since October 1, 1999 under the Exchange Act or the Securities Act of 1933, as amended (the “Securities Act”) and has made available to Purchaser such forms, reports and documents in the form filed with the SEC. All such required forms, reports and documents (including those that the Company may file subsequent to the date hereof) are referred to herein as the “Company SEC Reports.” As of their respective dates, the Company SEC Reports (i) complied in all material respects with the requirements of the Securities Act or the Exchange Act, as the case may be, the Sarbanes-Oxley Act of 2002 and the rules and regulations of the SEC thereunder applicable to such Company SEC Reports and (ii) did not at the time they were filed (or if amended or superseded by a filing prior to the date of this Agreement, then on the date of such filing) contain any untrue statement of a material fact or omit to state a material fact or disclose any matter or proceeding required to be stated therein or necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading. Between the date of this Agreement and the Closing Date, the Company will timely file with the SEC all documents required to be filed by it under the Exchange Act.

     (b) Each of the consolidated financial statements (including, in each case, any related notes thereto) contained in the Company SEC Reports (the “Company Financials”),

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including each Company SEC Report filed after the date hereof until the Closing, (i) was prepared from, are in accordance with and accurately reflect in all material respects, the Company’s books and records as of the times and for the periods referred to therein, (ii) complied in all material respects with the published rules and regulations of the SEC with respect thereto, (iii) was prepared in accordance with United States generally accepted accounting principles (“GAAP”) applied on a consistent basis throughout the periods involved (except as may be indicated in the notes thereto or, in the case of unaudited interim financial statements, as may be permitted by the SEC on Form 10-Q under the Exchange Act), (iv) fairly presented the consolidated financial position of the Company as at the respective dates thereof and the consolidated results of the Company’s operations and cash flows for the periods indicated, except that the unaudited interim financial statements may not contain footnotes and were or are subject to normal and recurring year-end adjustments and (v) was prepared from and in accordance with the Company’s books and records. The balance sheet of the Company contained in the Company SEC Reports as of June 30, 2004 (the “Balance Sheet Date”) as filed with the SEC before the date hereof is hereinafter referred to as the “Company Balance Sheet.”

     (c) The Company has heretofore furnished to Purchaser a complete and correct copy of any amendments or modifications, which have not yet been filed with the SEC but which are required to be filed, to agreements, documents or other instruments which previously had been filed by the Company with the SEC pursuant to the Securities Act or the Exchange Act. All public announcements in a news release issued by the Dow Jones news service, PR Newswire or any equivalent service made by the Company since the Balance Sheet Date did not and will not contain any untrue statement of a material fact or omit to state a material fact or disclose any matter or proceeding required to be stated therein or necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading.

     (d) Section 2.7(d) of the Company Disclosure Schedule sets forth a complete list of all effective registration statements filed on Form S-3 or Form S-8 or otherwise relying on Rule 415 under the Securities Act.

     (e) The Company has established and maintains disclosure controls and procedures (as defined in Rules 13a-14 and 15d-14 promulgated under the Exchange Act) designed to ensure that material information relating to the Company is made known to the Chief Executive Officer and Chief Financial Officer. To the Company’s knowledge, there are no significant deficiencies or material weaknesses in the design or operation of Company’s internal controls which could adversely affect Company’s ability to record, process, summarize and report financial data. To the Company’s knowledge, there is no fraud, whether or not material, that involves management or other employees who have a significant role in the Company’s internal controls.

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2.8 Absence of Certain Changes.

     Except as disclosed in Section 2.8 of the Company Disclosure Schedule, from the Balance Sheet Date to the date hereof, the Company has not:

     (a) suffered any Company Material Adverse Effect or any event or change which is reasonably expected to have or constitute a Company Material Adverse Effect;

     (b) incurred any liabilities or obligations (absolute, accrued, contingent or otherwise), except items incurred in the ordinary course of business and consistent with past practice, which exceed $50,000 in the aggregate;

     (c) paid, discharged or satisfied any claims, liabilities or obligations (absolute, accrued, contingent or otherwise) other than the payment, discharge or satisfaction in the ordinary course of business and consistent with past practice of liabilities and obligations reflected or reserved against in the Company Balance Sheet or incurred in the ordinary course of business and consistent with past practice since the Balance Sheet Date;

     (d) permitted or allowed any of their properties or assets (real, personal or mixed, tangible or intangible) to be subjected to any Encumbrances, except for liens for current taxes not yet due or liens the incurrence of which would not be reasonably expected to have a Company Material Adverse Effect;

     (e) cancelled any debts or waived any claims or rights of material value;

     (f) sold, transferred, or otherwise disposed of any of their material properties or assets (real, personal or mixed, tangible or intangible), except in the ordinary course of business, consistent with past practice;

     (g) granted any increase in the compensation or benefits of any director, officer, employee or consultant of the Company (including any such increase pursuant to any bonus, pension, profit sharing or other plan or commitment) or any increase in the compensation or benefits payable or to become payable to any director, officer, employee or consultant of the Company, except in the case of employees other than officers of the Company for such increases in compensation or benefits made in the ordinary course of business, consistent with past practice;

     (h) made any change in severance policy or practices;

     (i) made any capital expenditure or acquired any property, plant and equipment for a cost in excess of $50,000 in the aggregate;

     (j) declared, paid or set aside for payment any dividend or other distribution (whether in cash, stock or property) in respect of their respective capital stock or redeemed,

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purchased or otherwise acquired, directly or indirectly, any shares of capital stock or other securities of the Company;

     (k) (i) made any changes in any of the accounting methods used by it materially affecting its assets, liabilities or business, except for such changes required by GAAP; or (ii) made or changed any election relating to Taxes, adopted or changed any accounting method relating to Taxes, entered into any closing agreement relating to Taxes, filed any amended Tax Return, settled or consented to any claim or assessment relating to Taxes, incurred any obligation to make any payment of, or in respect of, any Taxes, except in the ordinary course of business, or agreed to extend or waive the statutory period of limitations for the assessment or collection of Taxes;

     (l) paid, loaned, modified or advanced any amount to, or sold, transferred or leased any material properties or assets (real, personal or mixed, tangible or intangible) to, or entered into any agreement or arrangement with, any of their respective officers, directors or shareholders or any affiliate or associate of any of their officers, directors or shareholders except for directors’ fees, expense reimbursements in the ordinary course and compensation to officers at rates not inconsistent with the Company’s past practice;

     (m) written-down the value of any inventory (including write-downs by reason of shrinkage or mark-down) or written off as uncollectible any notes or accounts receivable, except for write-downs and write-offs in the ordinary course of business consistent with past practice nor is any such write-down required;

     (n) suffered any impairment of any material Company Intellectual Property Rights (as defined in Section 2.16(a)) or any material adverse change in any material Intellectual Property Rights licensed from a third party, in each case, other than in the ordinary course of business consistent with past practice, or disposed of or disclosed (except as necessary in the conduct of its business) to a third party any Trade Secrets owned by the Company;

     (o) granted, issued, accelerated, paid, accrued or agreed to pay or make any accrual or arrangement for payments or benefits pursuant to, or adopted or amended, any Company Employee Plans except those made in the ordinary course of business consistent with past practice; or

     (p) agreed, whether in writing or otherwise, to take any action described in this Section 2.8.

2.9 Absence of Undisclosed Liabilities.

     Except (a) as disclosed in the Company Balance Sheet and (b) for liabilities and obligations incurred in the ordinary course of business consistent with past practice since the Balance Sheet Date, the Company has not incurred any material liabilities or

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obligations of any nature, whether or not accrued, contingent or otherwise required by GAAP to be recognized or disclosed on a consolidated balance sheet of the Company or in the notes thereto

2.10 Compliance with Laws.

     The business of the Company has been operated in compliance with all Laws applicable thereto, except for any instances of non-compliance which would not be reasonably likely to have a Company Material Adverse Effect.

2.11 Permits.

     (a) The Company has all permits (including signage permits), certificates, licenses, approvals and other authorizations required in connection with the operation of its business (collectively, “Company Permits”), (b) the Company is not in violation of any Company Permit and (c) no proceedings are pending or, to the knowledge of the Company, threatened, to revoke or limit any Company Permit, except, in each case, those the absence or violation of which would not be reasonably likely to have a Company Material Adverse Effect.

2.12 Litigation.

     Except as disclosed in the Company SEC Reports filed prior to the date hereof, there is no private or governmental action, suit, proceeding, claim, arbitration or investigation (“Litigation”) pending before any agency, court or tribunal, foreign or domestic or, to the knowledge of the Company, threatened against the Company or any of its properties or any of its officers or directors (in their capacities as such). There is no judgment, decree or order against the Company or, to the knowledge of the Company, any of its directors or officers (in their capacities as such), that could prevent, enjoin, or materially alter or delay any of the transactions contemplated by this Agreement, or that would reasonably be expected to have a Company Material Adverse Effect. Except as disclosed in the Company SEC Reports filed prior to the date hereof, there is no litigation that the Company has pending against other parties. The descriptions of all litigation in the Company SEC Reports are accurate in all material respects

2.13 Restrictions on Business Activities.

     Except as set forth in Section 2.13 of the Company Disclosure Schedule, there is no agreement, judgment, injunction, order or decree binding upon the Company which has or could reasonably be expected to have the effect of prohibiting or impairing any current business practice of the Company, any acquisition of property by the Company or the conduct of business by the Company as currently conducted.

2.14 Contracts.

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     (a) The Company is not a party and is not subject to any management, royalty, license, lease or joint venture agreement or any material note, bond, mortgage, indenture, contract, lease, license, agreement or instrument (“Company Material Contract”) that is not so listed in Section 2.14(a) of the Company Disclosure Schedule. All such Company Material Contracts are valid and binding and are in full force and effect and enforceable by the Company in accordance with their respective terms, subject to the Enforceability Exceptions. Neither the Company nor, to the knowledge of the Company, any other party thereto is in violation or breach of or default under any such Company Material Contract where such violation or breach would be reasonably likely to have a Company Material Adverse Effect.

     (b) Except as is listed in Section 2.14(b) of the Company Disclosure Schedule, the Company is not a party to, and none of its assets or properties is subject to, any agreement, arrangement or understanding (written or oral) with any other person (including an affiliate of the Company), which (i) provides capital, surplus, balance sheet or any other form of economic or financial support to such other person, (ii) guarantees the obligations of, or performance of any acts, by such other person, or (iii) imposes legal liability on the Company for any payments (contingent or otherwise) under any note, guarantee, debt, bond, mortgage, indenture, contract, lease, license, agreement or instrument.

2.15 Government Contracts.

     (a) Customers and Suppliers. The Company is not currently in, and the execution and delivery of this Agreement by the Company and the consummation by the Company of the transactions contemplated hereby will not result in, any material violation, breach or default of any term or provision or trigger automatic or optional termination of (i) any contract with any Governmental Authority, (ii) any subcontract issued at any tier under a prime contract with any Governmental Authority, or (iii) any bid, proposal, offer or quotation relating to a contract with any Governmental Authority or a subcontract issued under a contract with any Governmental Authority, except, in the case of each of (i), (ii) and (iii) above, that with respect to the execution and delivery of this Agreement by the Company and the consummation by the Company of the transactions contemplated hereby, for any violation, breach, default or automatic or optional termination right that arises as a result of Purchaser’s failure to comply with the terms of such contract, subcontract, bid, proposal, offer or quotation. The Company is not in any material violation, breach or default of any provision of any federal order, statute, rule or regulation (including the Federal Acquisition Regulation (“FAR”), agency supplements to the FAR, the Arms Export Control Act (22 U.S.C. 277 et seq.), and agency export regulations) or any similar state or local Law or regulation governing any contract, subcontract, bid, or proposal with any Governmental Authority, as applicable. The Company has not received a cure notice, a show cause notice or a stop work notice, nor has the Company been threatened with termination for default under any contract or subcontract with any Governmental Authority. To the Company’s knowledge, no request for equitable adjustment by any of its vendors, suppliers or subcontractors against it relating to contracts or subcontracts involving any Governmental Authority exists.

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     (b) Government Claims. No state of facts exists that would constitute valid grounds for the assertion of a material claim by a Governmental Authority against the Company for any of the following: (i) defective pricing, (ii) FAR and/or CAS noncompliance, (iii) fraud or (iv) false claims or false statements. To the Company’s knowledge, no state of facts exists that would constitute valid grounds for the assertion of a claim by a Governmental Authority against it for either (y) unallowable costs as defined in the FAR at Part 31, including those that may be included in indirect cost claims for prior years that have not yet been finally agreed to by the Governmental Authority; or (z) any other monetary claims relating to the performance or administration by the Company of contracts or subcontracts for any Governmental Authority.

     (c) Suspension or Debarment. The Company has not been suspended or debarred from bidding on contracts or subcontracts with any Governmental Authority in connection with the conduct of its business; no such suspension or debarment has been initiated or, to the Company’s knowledge, threatened. There is no ongoing investigation, audit, prosecution, civil or administrative proceeding or settlement negotiation, or internal investigation, relating to the contracts or subcontracts of the Company with any Governmental Authority or the violation of any federal, state or local order, statute, rule, or regulation relating to government contracts, subcontracts, or export controls.

2.16 Technology and Intellectual Property.

     (a) Definitions. The following terms shall have the meanings set forth below:

          “Company Intellectual Property Rights” means all Intellectual Property Rights in the Registered Company IP and all other Intellectual Property Rights in the Company Technology and Company Trademarks other than third party Intellectual Property Rights.

          “Company Technology” means all Technology used, or held for use, in the business of the Company, as currently conducted or contemplated to be conducted.

          “Company Trademarks” means all Trademarks used, or held for use, in the business of the Company, as currently conducted or contemplated to be conducted.

          “Computer Software” means all computer programs (whether in source code or object code form), databases, compilations and documentation (including, without limitation, user, operator and training manuals) related to the foregoing.

          “Copyrights” means U.S. and foreign copyrights (whether registered or unregistered).

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          “Intellectual Property Rights” means all rights in or under Copyrights, Patents, Trade Secrets, and Trademarks.

          “License Agreements” means all agreements to which the Company is a party or otherwise bound, under which the Company is granting or is granted any Intellectual Property Right.

          “Patents” means all U.S. and foreign patents and patent applications.

          “Registered Company IP” means all (i) Patents, (ii) registered Copyrights and Copyright registration applications, and (iii) registered Trademarks and Trademark registration applications, in which the Company has an ownership interest.

          “Technology” means all processes, formulae, algorithms, data, models, plans, methodologies, theories, ideas, techniques, discoveries, disclosures, inventions, Computer Software, information or know-how.

          “Trademarks” means all U.S. and foreign trademarks, service marks, trade names, designs, logos, and slogans that are used in commerce and have source-designating significance to the relevant consumers.

          “Trade Secrets” means trade secrets as defined in applicable state Laws regarding trade secrets.

     (b) Section 2.16(b) of the Company Disclosure Schedule sets forth a true and complete list of all Registered Company IP and Internet domain names registered in the name of the Company.

     (c) The Company is listed in the records of the appropriate U.S., state or foreign agency as the sole owner of record for each item of Registered Company IP. Subject to the rights and interests granted to third parties in the License Agreements and except as set forth in Section 2.16(c) of the Company Disclosure Schedule, the Company owns all right, title and interest in and to the Registered Company IP, and owns all other Company Intellectual Property Rights, free and clear of all Encumbrances. Except as set forth in Section 2.16(c) of the Company Disclosure Schedule, the Registered Company IP is subsisting in full force and effect and, to the knowledge of the Company, has not been cancelled, expired or abandoned, and, to the knowledge of the Company, the Company Intellectual Property Rights are valid and enforceable.

     (d) With respect to any Patents that are included in the Registered Company IP: (i) to the knowledge of the Company, each has been prosecuted in material compliance with all applicable rules, policies and procedures of the U.S. Patent and Trademark Office or applicable foreign agency; and (ii) except as set forth in Section 2.16(d) of the Company Disclosure Schedule or as disclosed in an Information Disclosure Statement filed with the

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U.S. Patent and Trademark Office, the Company is not aware of any prior art or other facts that could render any of the issued claims in the Patents invalid or unenforceable.

     (e) Section 2.16(e) of the Company Disclosure Schedule sets forth a true and complete list of all material License Agreements, except for software licensed under a clickthrough or shrinkwrap license or through any other written agreement for ready made software. Each License Agreement is valid and binding on the Company and, to the knowledge of the Company, each other party thereto and enforceable in accordance with its terms. Except as stated in Section 2.16(e) of the Company Disclosure Schedule, none of the License Agreements grants any third party exclusive rights to or under any Company Intellectual Property Rights or the right to sublicense any Company Intellectual Property Rights. The Company is in compliance with, and has not breached any material term of any of such License Agreements and, to the knowledge of the Company, all other parties to such License Agreements are in compliance with, and have not breached any material term of, such License Agreements.

     (f) Except as disclosed in Section 2.16(f) of the Company Disclosure Schedule, the Company has not received any written notice of infringement of any Intellectual Property Rights of a third party, received any offers for a license to a third party patent in connection with a claim of infringement, or obtained a written opinion of counsel relating to a third party patent. To the knowledge of the Company, there is no reasonable basis to allege that the Company has infringed upon, violated, misappropriated or is infringing upon, violating or misappropriating an Intellectual Property Right of a third party.

     (g) Except as disclosed in Section 2.16(g) of the Company Disclosure Schedule, the Company has not provided to a third party any notice of infringement of or conflict with any Company Intellectual Property Rights. Except as disclosed in Section 2.16(g) of the Company Disclosure Schedule, to the knowledge of the Company, no person has infringed upon, violated, misappropriated or is infringing upon, violating or misappropriating any of the Company Intellectual Property Rights.

     (h) Except as disclosed in the Company SEC Reports filed prior to the date hereof, to the knowledge of the Company, there is no pending or threatened claim, suit, arbitration or, except for pending patent applications before the U.S. Patent and Trademark Office, other adversarial proceeding before any court, agency, arbitral tribunal, or registration authority in any jurisdiction: (i) involving the Company Intellectual Property Rights; (ii) alleging that the Company is or may be infringing upon, violating or misappropriating an Intellectual Property Right of a third party; or (iii) challenging the ownership, use, validity, enforceability or registrability of any Company Intellectual Property Rights.

     (i) To the knowledge of the Company, no material Trade Secret of the Company has been disclosed to any third party in violation of confidentiality obligations to the Company, and, to the knowledge of the Company, no party to a nondisclosure agreement

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with the Company is in breach or default thereof. The Company has taken reasonable measures, consistent with customary industry practice, to protect, preserve and maintain the secrecy of its Trade Secrets.

     (j) Except as disclosed in Section 2.16(j) of the Company Disclosure Schedule, there are no settlements, forbearances to sue, consents, judgments, injunctions, releases, waivers, orders or similar obligations, other than the License Agreements, that: (i) restrict any Company Intellectual Property Rights or; (ii) restrict the conduct of the business of the Company in order to accommodate Intellectual Property Rights of a third party; or (iii) grant third parties any rights under Company Intellectual Property Rights.

     (k) Except as set forth in Section 2.16(k) of the Company Disclosure Schedule, all current employees of the Company and all former employees, contractors and consultants of the Company who have developed software created within the three (3) years preceding the date of this Agreement have executed an agreement that assigns to the Company their Intellectual Property Rights in the work product developed pursuant to their employment or relationship with the Company. No current or former director, officer or employee of the Company will, after giving effect to the transactions contemplated by this Agreement, own any of the Company Intellectual Property Rights.

     (1) The execution of, the delivery of, the consummation of the transactions contemplated by, and the performance of the Company’s obligations under, this Agreement will not result in any material loss or impairment of the Company Intellectual Property Rights or any Intellectual Property Rights licensed to the Company.

     (m) The Company has not used or will not use before the purchase of the Shares pursuant to the Offer any of the prior inventions disclosed in the proprietary information and inventions agreements of its employees, and, to the Company’s knowledge, no employees of the Company or have improperly brought to the Company or used at the Company any confidential information from their prior employers.

2.17 Employee Benefit Plans.

     (a) Section 2.17 of the Company Disclosure Schedule lists, with respect to the Company and any trade or business (whether or not incorporated) which is treated as a single employer with the Company within the meaning of Section 414(b), (c), (m) or (o) of the Code (an “ERISA Affiliate”), (i) all employee benefit plans (as defined in Section 3(3) of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), (ii) each loan to a non-officer employee in excess of $10,000, loans to officers and directors and any stock option, stock purchase, phantom stock, stock appreciation right, supplemental retirement, severance, sabbatical, medical, dental, vision care, disability, employee relocation, cafeteria benefit (Code Section 125) or dependent care (Code Section 129), life insurance or accident insurance plans, programs, agreements or arrangements, (iii) all bonus, pension, profit sharing, savings, deferred compensation or

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incentive plans, programs, agreements or arrangements, (iv) other fringe or employee benefit plans, programs, agreements or arrangements of the Company and (v) any current or former employment, change of control, retention or executive compensation or severance agreements, written or otherwise, as to which unsatisfied obligations of the Company of greater than $10,000 remain for the benefit of, or relating to, any present or former employee, consultant or director of the Company (together, the “Company Employee Plans” ).

     (b) The Company has delivered to Purchaser a copy of each of the Company Employee Plans and related material plan documents (including trust documents, insurance policies or contracts, employee booklets, summary plan descriptions and other authorizing documents, and any material employee communications relating thereto) and has, with respect to each Company Employee Plan which is subject to ERISA reporting requirements, provided copies of the Form 5500 reports filed for 2003. Any Company Employee Plan intended to be qualified under Section 401(a) of the Code has either obtained from the Internal Revenue Service (“IRS”) a favorable determination letter as to its qualified status under the Code, including all amendments to the Code effected by the Tax Reform Act of 1986, or has applied to the IRS for such a determination letter prior to the expiration of the requisite period under applicable Treasury Regulations or IRS pronouncements in which to apply for such determination letter and to make any amendments necessary to obtain a favorable determination or has been established under a standardized prototype plan for which an IRS opinion letter has been obtained by the plan sponsor and is valid as to the adopting employer. The Company has also delivered to Purchaser the most recent IRS determination, notification, advisory, or opinion letter issued with respect to each such Company Employee Plan, and, to the Company’s knowledge, nothing has occurred since the issuance of each such letter which could reasonably be expected to cause the loss of the tax-qualified status of any Company Employee Plan subject to Code Section 401(a).

     (c) There has been no “prohibited transaction,” as such term is defined in Section 406 of ERISA and Section 4975 of the Code, with respect to any Company Employee Plan. Each Company Employee Plan has been administered in accordance with its terms and in compliance with the requirements prescribed by any and all applicable Laws (including ERISA and the Code), except as would not be reasonably expected to have, in the aggregate, a Company Material Adverse Effect, and the Company and each ERISA Affiliates have performed all obligations required to be performed by them under, are not in any material respect in default under or violation of, and have no knowledge of any material default or violation by any other party to, any of the Company Employee Plans. Neither the Company nor any ERISA Affiliates is subject to any liability or penalty under Sections 4976 through 4980 of the Code or ERISA with respect to any of the Company Employee Plans. All contributions and premiums required to be made by the Company or any ERISA Affiliates to any Company Employee Plan have been made on or before their due dates. Each Company Employee Plan can be amended, terminated or otherwise discontinued in accordance with its terms. With respect to each Company

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Employee Plan subject to ERISA as either an employee pension benefit plan within the meaning of Section 3(2) of ERISA or an employee welfare benefit plan within the meaning of Section 3(1) of ERISA, the Company has prepared in good faith and timely filed all requisite material governmental reports (which, to the Company’s knowledge, were true and correct as of the date filed) and has properly and timely filed and distributed or posted all material notices and reports to employees required to be filed, distributed or posted with respect to each such Company Employee Plan. No suit, administrative proceeding, action or other litigation has been brought, or to the best knowledge of the Company is threatened, against or with respect to any such Company Employee Plan, including any audit or inquiry by the IRS or United States Department of Labor other than routine claims for benefits.

     (d) With respect to each Company Employee Plan, the Company and its ERISA Affiliates have complied with (i) the applicable health care continuation and notice provisions of the Consolidated Omnibus Budget Reconciliation Act of 1985 (“COBRA”) and the regulations (including proposed regulations) thereunder, (ii) the applicable requirements of the Family Medical and Leave Act of 1993 and the regulations thereunder, and (iii) the applicable requirements of the Health Insurance Portability and Accountability Act of 1996 and the regulations (including proposed regulations) thereunder, except where the failure to comply with the applicable requirements of such laws and regulations would not be reasonably expected to have a Company Material Adverse Effect.

     (e) Except as disclosed in Section 2.17(e) of the Company Disclosure Schedule, the consummation of the transactions contemplated by this Agreement will not (i) entitle any current or former employee, director or consultant of the Company or any ERISA Affiliates to severance benefits or any other payment, or (ii) accelerate the time of payment or vesting of Company Options, or increase the amount of compensation due any such employee, director or consultant.

     (f) No amounts payable under any of the Company Employee Plans or any other contract, agreement or arrangement with respect to which the Company may have any liability could fail to be deductible for federal income tax purposes by virtue of Section 162(m) or Section 280G of the Code. None of the Company Employee Plans contains any provision requiring a gross-up pursuant to Section 280G of the Code or similar tax provisions.

     (g) No Company Employee Plan provides benefits, including without limitation death or medical benefits (whether or not insured), with respect to current or former employees of the Company or any ERISA Affiliate after retirement or other termination of service (other than (i) coverage mandated by applicable Laws, (ii) death benefits or retirement benefits under any “employee pension benefit plan,” as that term is defined in Section 3(2) of ERISA, or (iii) benefits, the full direct cost of which is borne by the current or former employee (or beneficiary thereof)).

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     (h) There has been no amendment to, written interpretation or announcement (whether or not written) by the Company or any ERISA Affiliates relating to, or change in participation or coverage under, any Company Employee Plan which would increase the expense of maintaining such Plan above the level of expense incurred with respect to that Plan for the most recent fiscal quarter included in the Company Financials.

     (i) Neither the Company nor any ERISA Affiliate currently maintains, sponsors, participates in or contributes to, nor have they ever maintained, established, sponsored, participated in, or contributed to, any employee pension benefit plan (within the meaning of Section 3(2) of ERISA) which is subject to Part 3 of Subtitle B of Title I of ERISA, Title IV of ERISA or Section 412 of the Code.

     (j) Neither the Company nor any ERISA Affiliate is a party to, or has ever made any contribution to or otherwise incurred any obligation to contribute to, any “multiemployer plan” as defined in Section 3(37) of ERISA.

     (k) Section 2.17(k) of the Company Disclosure Schedule sets forth for each Company Option, where applicable, the performance targets, design wins, thresholds or other measurement pursuant to which vesting or exercise of such option is contingent.

2.18 Taxes and Returns.

     (a) The Company has timely filed, or caused to be timely filed, all Tax Returns (as defined below) required to be filed by it, and has paid, collected or withheld, or caused to be paid, collected or withheld, all Taxes (as defined below) required to be paid, collected or withheld, other than such Taxes for which adequate reserves in the Company Financials have been established. There are no claims or assessments pending against the Company for any alleged deficiency in any Tax, and the Company has not been notified in writing of any proposed Tax claims or assessments against the Company (other than, in each case, claims or assessments for which adequate reserves in the Company Financials have been established or which are being contested in good faith or are immaterial in amount). The Company does not have any outstanding waivers or extensions of any applicable statute of limitations to assess any material amount of Taxes. There are no outstanding requests by the Company for any extension of time within which to file any Tax Return or within which to pay any Taxes shown to be due on any return. There are no liens for material amounts of Taxes on the assets of the Company except for statutory liens for current Taxes not yet due and payable.

     (b) The Company has not taken or agreed to take any action that would prevent the Merger from constituting a reorganization qualifying under the provisions of Section 368(a) of the Code.

     (c) Except as set forth in Section 2.18(c) of the Company Disclosure Schedule, the execution and delivery of this Agreement and the consummation of the transactions

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contemplated hereby (either alone or in combination with another event) will not result in any payment (whether of severance pay, unemployment compensation, golden parachute, bonus or otherwise), acceleration, forgiveness of indebtedness, vesting, distribution, increase in benefits or obligation to fund benefits with respect to any employee or director of the Company.

     (d) The Company is not and has not been a member of any consolidated, combined, unitary or affiliated group of corporations for any Tax purposes other than a group of which the Company is or was the common parent corporation.

     (e) The Company has not made any change in accounting method or received a ruling from, or signed an agreement with, any taxing authority that could reasonably be expected to have a Company Material Adverse Effect following the Closing.

     (f) The Company is not currently being audited by any taxing authority and has not been notified by any tax authority that any such audit is contemplated or pending.

     (g) For purposes of this Agreement, the term “Tax” shall mean any tax, custom, duty, governmental fee or other like assessment or charge of any kind whatsoever, imposed by any Governmental Authority (including, but not limited to, any federal, state, local, foreign or provincial income, gross receipts, property, sales, use, license, excise, franchise, employment, payroll, alternative or added minimum, ad valorem, transfer or excise tax) together with any interest, addition or penalty imposed thereon. The term “Tax Return” shall mean a report, return or other information (including any attached schedules or any amendments to such report, return or other information) required to be supplied to or filed with a Governmental Authority with respect to any Tax, including an information return, claim for refund, amended return or declaration or estimated Tax.

2.19 Finders and Investment Bankers.

     Except as set forth in Section 2.19 of the Company Disclosure Schedule, neither the Company nor any of its officers or directors has employed any broker or finder or otherwise incurred any liability for any brokerage fees, commissions or finders’ fees in connection with the transactions contemplated hereby.

2.20 Fairness Opinion.

     The Company has received from Manchester Companies Inc., its financial advisor, a written opinion addressed to it for inclusion in the Schedule 14D-9 and the Proxy Statement to the effect that the consideration to be received in the Offer and the Merger by the Company’s shareholders is fair to the Company’s shareholders from a financial point of view.

2.21 Insurance.

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     Section 2.21 of the Company Disclosure Schedule sets forth a true and complete list of all insurance policies carried by, or covering, (i) the Company with respect to their to its business, assets and properties and with respect to which records are maintained at the Company’s principal executive offices, and (ii) the directors and officers of the Company, together with, in respect of each such policy, the amount of coverage and the deductible. The Company maintains insurance policies against all risk of a character, including without limitation, business interruption insurance, and in such amounts as are usually insured against by similarly situated companies in the same or similar businesses. Each insurance policy set forth on Section 2.21 of the Company Disclosure Schedule is in full force and effect and all premiums due thereon have been paid in full.

2.22 Vote Required; Ownership of Purchaser Capital Stock; State Takeover Statutes.

     (a) The affirmative vote of the holders (including Merger Sub following its acceptance of Shares for payment under the Offer) of a majority of the outstanding shares of Common Stock and of at least 90% of the outstanding shares of Convertible Preferred Stock (the “Company Shareholder Approval”) are the only votes of the holders of any class or series of the Company’s capital stock necessary to approve the Merger and the transactions contemplated hereunder (other than the Offer, in respect of which no approval is required from the holders of capital stock of the Company).

     (b) The Company does not beneficially own, either directly or indirectly, any shares of Purchaser capital stock.

     (c) The Company has taken all actions necessary under the MBCA to approve the Offer, the Merger and the other transactions contemplated by this Agreement and the transactions contemplated by each of the Stockholders Agreement and the Stock Option Agreement. The Company’s Board of Directors and the Special Committee, each at a meeting duly called and held, have approved the Offer, the Merger, this Agreement and the transactions contemplated by this Agreement, and each of the Stockholders Agreement and the Stock Option Agreement and the transactions contemplated thereby, and such approvals are sufficient so that Sections 302A.671, 302A.673 and 302A.675 of the MBCA will not impede the Offer, the Merger, this Agreement and the other transactions contemplated by this Agreement. No other “fair price,” “merger moratorium,” “control share acquisition” or other similar anti-takeover statute or regulation or charter provision applies or purports to apply to this Agreement, the Offer or the Merger or the other transactions contemplated by this Agreement (other than Chapter 80B of the Minnesota Statutes).

2.23 Title to Properties.

     Section 2.23 of the Company Disclosure Schedule sets forth a complete list of all material real property owned in fee by Company and sets forth all material real property

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leased by Company as lessee as of the date hereof (such owned and leased material real property, including all improvements thereon, referred to collectively as the “Company Real Property”). The Company Real Property set forth in Section 2.23 of the Company Disclosure Schedule comprises all of the material real property necessary and/or currently used in the operations of the business of the Company. The Company has good and valid title to, or, as to Company Real Property designated as leased, a valid leasehold interest in, all of the Company Real Property. The Company Real Property is free of Encumbrances, except for: (a) liens with respect to Taxes either not delinquent or being diligently contested in appropriate proceedings; (b) mechanics’, material men’s or similar statutory liens for amounts not yet due or being diligently contested in appropriate proceedings; and (c) other exceptions with respect to title to Company Real Property (including easements of public record) that do not and would not materially interfere with the current and intended use of such Company Real Property (clauses, (a), (b), and (c) being referred to herein as “Permitted Encumbrances”); and the consummation of the transactions contemplated hereby will not create any Encumbrance (other than Permitted Encumbrances) on any of the Company Real Property. The Company enjoys peaceful and undisturbed possession under all leases of Company Real Property, except for such breaches of the right to peaceful and undisturbed possession that do not materially interfere with the ability of the Company to conduct its business on such property.

2.24 Employee Matters.

     (a) There are no actions, suits, claims, charges, labor disputes, grievances or controversies pending, or to the Company’s knowledge, threatened involving the Company and any of its employees or former employees. To the Company’s knowledge, no Governmental Authority responsible for the enforcement of labor or employment laws intends to conduct an investigation with respect to or relating to the Company and no such investigation is in progress. To the Company’s knowledge, no employee of the Company has violated any employment contract, nondisclosure agreement or noncompetition agreement by which such employee is bound due to such employee being employed by the Company and disclosing to the Company or using Trade Secrets of any other person. There has been: (i) no labor union organizing or attempting to organize any employees of the Company into one or more collective bargaining units; and (ii) no labor dispute, strike, work slowdown, work stoppage or lock out or other collective labor action by or with respect to any employees of the Company pending, or, to the Company’s knowledge, threatened against or affecting the Company. The Company is not a party to, or bound by, any collective bargaining agreements or other agreement with any labor organization applicable to the employees of the Company and no such agreement is currently being negotiated.

     (b) The Company (i) is in compliance in all material respects with all applicable Laws respecting employment and employment practices, terms and conditions of employment, health and safety and wages and hours, and is not engaged in any unfair labor practice, (ii) has withheld all amounts required by Law or by agreement to be withheld

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from the wages, salaries and other payments to employees, (iii) is not liable in any material respect for any arrears of wages or any Taxes or any penalty for failure to comply with any of the foregoing and (iv) is not liable for any material payment to any trust or other fund or to any governmental or administrative authority, with respect to unemployment compensation benefits, social security or other benefits or obligations for employees (other than routine payments to be made in the ordinary course of business and consistent with past practice).

     (c) To the Company’s knowledge, no employee of the Company has provided or is providing information to any law enforcement agency regarding the commission or possible commission of any crime or the violation or possible violation of any applicable Law involving the Company. Neither the Company nor any officer, employee, contractor, subcontractor or agent of the Company has discharged, demoted, suspended, threatened, harassed or in any other manner discriminated against an employee of the Company in the terms and conditions of employment because of any act of such employee described in 18 U.S.C. Section 1514A(a).

     (d) Since June 30, 2004, the Company has not effectuated (i) a “plant closing” as defined in the Worker Adjustment and Retraining Notification Act (“WARN Act”), affecting any site of employment or one or more facilities or operating units within any site of employment or facility of the Company or (ii) a “mass layoff” (as defined in the WARN Act) affecting any site of employment or facility of the Company; nor has the Company been affected by any transaction or engaged in layoffs or employment terminations sufficient in number to trigger application of any state, local or foreign law or regulation similar to the WARN Act. To the Company’s knowledge, none of the Company’s employees has suffered an “employment loss” (as defined in the WARN Act) in the ninety (90) days prior to the date of this Agreement.

     (e) Section 2.24 of the Company Disclosure Schedule contains a true and complete list of (i) the names of all directors and elected and appointed officers of the Company, together with such person’s position or function, annual base salary and incentives or bonus arrangement, and (ii) the number of shares of Common Stock owned beneficially or of record, or both, by each such person and the family relationships, if any, among such persons. As of the date hereof, no key employee, director or officer of the Company has given notice to the Company, nor, is the Company otherwise aware of any information that would lead it to reasonably believe, that any such person will or may cease to be engaged by the Company for any reason prior to the Effective Time.

2.25 Customers and Suppliers.

     No single customer which individually accounted for more than 5% of the Company’s gross revenues during the 12-month period preceding the date hereof, and no single supplier of the Company, has canceled or otherwise terminated, or has advised the Company that it intends to cancel or otherwise terminate, its relationship with the

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Company. Except as disclosed in Section 2.25 of the Company Disclosure Schedule, no single customer which individually accounted for more than 5% of the Company’s gross revenues during the 12-month period preceding the date hereof decreased materially its use of the services or products of the Company or advised the Company that it intends to decrease materially its use of the services or products of the Company. No single supplier of the Company has, during the 12-month period preceding the date hereof, decreased materially its services or supplies to the Company or has advised the Company that it intends to decrease materially its services or supplies to the Company. The Company has not breached, so as to provide a benefit to the Company that was not intended by the parties, any agreement with, or engaged in any fraudulent conduct with respect to, any customer or supplier of the Company.

2.26 Orders, Commitments and Returns.

     As of the date of this Agreement, there are no claims against the Company to return in excess of an aggregate of $100,000 of merchandise by reason of alleged overshipments, defective merchandise or otherwise, or of merchandise in the hands of customers under an understanding that such merchandise would be returnable.

2.27 Inventory.

     The inventories shown on the Company Financials or thereafter acquired by the Company, consisted of items of a quantity and quality usable or salable in the ordinary course of business (other than slow-moving, obsolete or unusable items which are adequately reserved for in the Company Financials to reflect realizable value). Since the Balance Sheet Date, the Company has continued to replenish inventories in a normal and customary manner consistent with past practices. The Company has not received written or oral notice that it will experience in the foreseeable future any material difficulty in obtaining, in the desired quantity and quality and at a reasonable price and upon reasonable terms and conditions, the raw materials, supplies or component products required for the manufacture, assembly or production of its products. The values at which inventories are carried reflect the inventory valuation policy of the Company, which is consistent with its past practice and in accordance with generally accepted accounting principles applied on a consistent basis. Since the Balance Sheet Date, due provision was made on the books of the Company in the ordinary course of business consistent with past practices, to provide for all slow-moving, obsolete, or unusable inventories to their estimated useful or scrap values and such inventory reserves are adequate to provide for such slow-moving, obsolete or unusable inventory and inventory shrinkage.

2.28 Accounts Receivable.

     Subject to any reserves set forth in the Company Financials, the accounts receivable shown in the Company Financials represent bona fide claims against debtors for sales and other charges, and are not subject to discount except for normal cash and immaterial trade

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discounts. The amount carried for doubtful accounts and allowances disclosed in the Company Financials is reasonably adequate and consistent with the Company’s past practice.

2.29 Environmental Matters.

     The Company has not, and no third party has, generated, treated, stored, released or disposed of, or otherwise placed, deposited in or located on the Company Real Property, any toxic or hazardous substances or wastes, pollutants or contaminants (including, without limitation, asbestos, urea formaldehyde, the group of organic compounds known as polychlorinated biphenyls, petroleum products including gasoline, fuel oil, crude oil and various constituents of such products, and any hazardous substance as defined in the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (“CERCLA”), 42 U.S.C. (S) 9601-9657, as amended) (collectively, “Hazardous Substances”) except in material compliance with all applicable Laws, and no Hazardous Substances have been generated, treated, stored, released or disposed of, or otherwise placed, deposited in or located on the Company Real Property except in material compliance with all applicable Laws, nor has any activity been undertaken on the Company Real Property that would cause or contribute to (a) the Company Real Property becoming a treatment, storage or disposal facility in material violation of, the Resource Conservation and Recovery Act of 1976 (“RCRA”), 42 U.S.C. (S) 6901 et seq., or any similar state law or local ordinance, (b) a release or threatened release of toxic or hazardous wastes or substances, pollutants or contaminants from the Company Real Property in material violation of CERCLA or any similar state law or local ordinance, or (c) the discharge of pollutants or effluents into any water source or system, the dredging or filling of any waters or the discharge into the air of any emissions, for which the Company does not have all material required permits under the Federal Water Act, 33 U.S.C. (S) 1251 et seq., or the Clean Air Act, 42 U.S.C. (S) 7401 et seq., or any similar state law or local ordinance, in each case except for any such noncompliance, violations, or failures as would not be reasonably likely to have a Company Material Adverse Effect. There are no substances or conditions in or on the Company Real Property that may support a claim or cause of action under RCRA, CERCLA or any other federal, state or local environmental statutes, regulations, ordinances or other environmental regulatory requirements, except for any such claims or causes of action as would not be reasonably likely to have a Company Material Adverse Effect. There are no above ground or underground tanks that have been located under, in or about the Company Real Property which have been subsequently removed or filled. To the extent storage tanks exist on or under the Company Real Property, such storage tanks have been duly registered with all appropriate regulatory and governmental bodies and are otherwise in compliance with applicable federal, state and local statutes, regulations, ordinances and other regulatory requirements.

2.30 Rights Plan.

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     The Board of Directors of the Company has amended the Rights Agreement to provide that (i) so long as this Agreement has not been terminated pursuant to Section 7.1 hereof, a Distribution Date (as such term is defined in the Rights Agreement) shall not occur or be deemed to occur, and neither Purchaser nor Merger Sub shall become an Acquiring Person (as such term is defined in the Rights Agreement) as a result of the execution, delivery or performance of this Agreement, the announcement, making or consummation of the Offer, the acquisition of Shares pursuant to the Offer, or the consummation of the Merger and the other transactions contemplated by this Agreement and (ii) the Rights shall terminate and expire immediately preceding the time of Merger Sub’s acceptance of Shares for payment under the Offer. Such amendment to the Rights Agreement is valid and binding, has not been modified or waived in any respect and remains in full force and effect.

2.31 Schedule 14D-9; Offer Documents; and Proxy Statement.

     Neither the Schedule 14D-9 nor any information supplied by the Company for inclusion in the Offer Documents will, at the respective times the Schedule 14D-9, the Offer Documents or any amendments or supplements thereto are filed with the SEC or are first published, sent or given to shareholders of the Company, as the case may be, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements made therein, in the light of the circumstances under which they are made, not misleading. The Proxy Statement, if filed, will not, on the date the Proxy Statement (or any amendment or supplement thereto) is first mailed to shareholders of the Company, contain any untrue statement of a material fact, or omit to state any material fact required to be stated therein or necessary in order to make the statements made therein, in the light of the circumstances under which they are made, not misleading or will, at the time of the Special Meeting, omit to state any material fact necessary to correct any statement in any earlier communication with respect to the solicitation of proxies for the Special Meeting which shall have become false or misleading in any material respect. The Schedule 14D-9 and the Proxy Statement will, when filed by the Company with the SEC, comply as to form in all material respects with the applicable provisions of the Exchange Act and the rules and regulations thereunder. Notwithstanding the foregoing, the Company makes no representation or warranty with respect to information supplied by or on behalf of the Purchaser or Merger Sub which is contained in any of the foregoing documents.

2.32 Absence of Questionable Payments.

     Neither the Company nor any director, officer, agent, employee or other person acting on behalf of the Company, has used any corporate or other funds for unlawful contributions, payments, gifts, or entertainment, or made any unlawful expenditures relating to political activity to government officials or others or established or maintained any unlawful or unrecorded funds in violation of Section 30A of the Exchange Act. Neither the Company nor to the Company’s knowledge, any current director, officer, agent,

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employee or other person acting on behalf of the Company, has accepted or received any unlawful contributions, payments, gifts, or expenditures. The Company is in compliance with the provisions of Section 13(b) of the Exchange Act.

2.33 Representations Complete.

     None of the representations or warranties made by the Company herein or in any Schedule hereto, including the Company Disclosure Schedule, or in any certificate furnished by the Company pursuant to this Agreement, when all such documents are read together in their entirety, contains or will contain upon the consummation of the Offer any untrue statement of a material fact, or omits or will omit upon the consummation of the Offer to state any material fact necessary in order to make the statements contained herein or therein, in the light of the circumstances under which made, not misleading.

ARTICLE III
REPRESENTATIONS AND WARRANTIES OF PURCHASER

     Purchaser hereby represents and warrants to the Company as follows:

3.1. Due Incorporation and Good Standing.

     Each of Purchaser and Merger Sub is a corporation duly incorporated, validly existing and in good standing under the laws of the jurisdiction of its incorporation and has all requisite corporate power and authority to own, lease and operate its properties and to carry on its business as now being conducted. Purchaser is duly qualified or licensed and in good standing to do business in each jurisdiction in which the character of the property owned, leased or operated by it or the nature of the business conducted by it makes such qualification or licensing necessary, except where the failure to be so duly qualified or licensed and in good standing would not be reasonably likely to have a material adverse effect on the business, assets, condition (financial or otherwise), liabilities or the results of operations of Purchaser and its subsidiaries taken as a whole, and except in each case for any such effects resulting from, arising out of, or relating to (i) general business or economic conditions, (ii) conditions generally affecting the industry in which Purchaser competes, or (iii) the taking of any action contemplated by this Agreement (“Purchaser Material Adverse Effect”). Purchaser has heretofore made available to the Company accurate and complete copies of the Certificate of Incorporation and Bylaws, as currently in effect, of Purchaser.

3.2. Authorization; Binding Agreement.

     Purchaser and Merger Sub have all requisite corporate power and authority to execute and deliver this Agreement and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement and the consummation of the transactions

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contemplated hereby, including, but not limited to, the offer and the Merger, have been duly and validly authorized by the respective Boards of Directors of Purchaser and Merger Sub, as appropriate, and no other corporate proceedings on the part of Purchaser or Merger Sub are necessary to authorize the execution and delivery of this Agreement or to consummate the transactions contemplated hereby (other than the requisite approval by the sole shareholder of Merger Sub of this Agreement and the Merger). This Agreement has been duly and validly executed and delivered by each of Purchaser and Merger Sub and constitutes the legal, valid and binding agreement of Purchaser and Merger Sub, enforceable against each of Purchaser and Merger Sub in accordance with its terms, subject to the Enforceability Exceptions.

3.3. Governmental Approvals.

     No Consent from or with any Governmental Authority on the part of Purchaser or Merger Sub is required in connection with the execution or delivery by Purchaser of this Agreement or the consummation by Purchaser of the transactions contemplated hereby other than (i) the filing of the Articles of Merger with the Secretary of State of the State of Minnesota in accordance with the MBCA, (ii) filings with the SEC, state securities laws administrators (including the Commissioner of Commerce of the State of Minnesota) and the National Association of Securities Dealers, Inc. (the “NASD”), (iii) such filings as may be required in any jurisdiction where Purchaser is qualified or authorized to do business as a foreign corporation in order to maintain such qualification or authorization, and (iv) those Consents that, if they were not obtained or made, would not be reasonably likely to have a Purchaser Material Adverse Effect.

3.4. No Violations.

     The execution and delivery of this Agreement, the Offer, the Merger, the consummation of the other transactions contemplated hereby and compliance by Purchaser and Merger Sub with any of the provisions hereof will not (i) conflict with or result in any breach of any provision of the Certificate of Incorporation or Bylaws or other governing instruments of Purchaser or Merger Sub, (ii) require any Consent under or result in a violation or breach of, or constitute (with or without due notice or lapse of time or both) a default (or give rise to any right of termination, cancellation or acceleration) under any of the terms, conditions or provisions of any agreement or other instrument to which Purchaser is a party or by which its assets are bound, (iii) result in the creation or imposition of any Encumbrance of any kind upon any of the assets of Purchaser or Merger Sub or (iv) subject to obtaining the Consents from Governmental Authorities referred to in Section 3.3 hereof, contravene any Law to which Purchaser or Merger Sub or its or any of their respective assets or properties are subject, except, in the case of clauses (ii), (iii) and (iv) above, for any deviations from the foregoing which would not be reasonably likely to have a Purchaser Material Adverse Effect.

3.5. Finders and Investment Bankers.

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     Neither Purchaser nor any of its officers or directors has employed any broker or finder or otherwise incurred any liability for any brokerage fees, commissions or finders, fees in connection with the transactions contemplated hereby.

3.6. Schedule TO; Offer Documents; Proxy Statement; Schedule 14D-9.

     Neither the Schedule TO nor any information supplied by Purchaser or Merger Sub for inclusion in the Schedule 14D-9 will, at the respective times the Schedule TO, the Schedule 14D-9, or any amendments or supplements thereto, are filed with the SEC or are first published, sent or given to shareholders of the Company, as the case may be, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements made therein, in the light of the circumstances under which they are made, not misleading. The information supplied by Purchaser for inclusion in the Proxy Statement will not, on the date the Proxy Statement (or any amendment or supplement thereto) is first mailed to shareholders of the Company, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements therein, in the light of the circumstances under which they are made, not misleading or will, at the time of the Special Meeting, omit to state any material fact necessary to correct any statement in any earlier communication with respect to the solicitation of proxies for the Special Meeting which shall have become false or misleading in any material respect. The Schedule TO will, when filed by Merger Sub with the SEC, comply as to form in all material respects with the requirements of the Exchange Act and the rules and regulations thereunder. Notwithstanding the foregoing, Purchaser and the Merger Sub make no representation or warranty with respect to any information supplied by or on behalf of the Company which is contained in any of the Offer Documents, the Proxy Statement or any amendment or supplement thereto.

3.7. Financing.

     At or prior to the dates that Merger Sub becomes obligated to accept for payment and pay for Shares pursuant to the Offer, and at the Effective Time, Purchaser and Merger Sub will have sufficient cash resources available to pay for the Shares that the Merger Sub becomes so obligated to accept for payment and pay for pursuant to the Offer and to pay the aggregate Merger Consideration pursuant to the Merger.

3.8 Representations Complete.

     None of the representations or warranties made by Purchaser herein or in any Schedule hereto, or in any certificate furnished by Purchaser pursuant to this Agreement, when all such documents are read together in their entirety, contains or will contain upon the consummation of the Offer any untrue statement of a material fact, or omits or will

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omit upon the consummation of the Offer to state any material fact necessary in order to make the statements contained herein or therein, in the light of the circumstances under which made, not misleading.

ARTICLE IV
ADDITIONAL COVENANTS OF THE COMPANY

4.1. Conduct of Business of the Company.

     (a) Unless Purchaser shall otherwise agree in writing and except as expressly contemplated by this Agreement or as set forth on Section 4.1 of the Company Disclosure Schedule (the inclusion of any item having been consented to by Purchaser), during the period from the date of this Agreement to the Effective Time, (i) the Company shall conduct its business in the ordinary course and consistent with past practice, and (ii) the Company shall use its reasonable best efforts to preserve intact its business organization, to keep available the services of its officers and employees, to maintain satisfactory relationships with all persons with whom it does business, and to preserve the possession, control and condition of all of its assets.

     (b) Without limiting the generality of the foregoing clause (a), the Company will not, without the prior written consent of Purchaser:

          (A) amend or propose to amend its Articles of Incorporation or Bylaws (or comparable governing instruments);

          (B) authorize for issuance, issue, grant, sell, pledge, dispose of or propose to issue, grant, sell, pledge or dispose of any shares of, or any options, warrants, commitments, subscriptions or rights of any kind to acquire or sell any shares of, the capital stock or other securities of or any Voting Debt of the Company including, but not limited to, any securities convertible into or exchangeable for shares of stock of any class of the Company, except for the issuance of Shares pursuant to the exercise of stock options outstanding on the date of this Agreement in accordance with their present terms. For purposes of this Agreement, the term “Voting Debt” shall mean indebtedness having general voting rights and debt convertible into securities having such rights;

          (C) split, combine or reclassify any shares of its capital stock or declare, pay or set aside any dividend or other distribution (whether in cash, stock or property or any combination thereof) in respect of its capital stock, or directly or indirectly redeem, purchase or otherwise acquire or offer to acquire any shares of its capital stock or other securities and other than pursuant to commitments outstanding on the date of this Agreement in accordance with their present terms as set forth on Schedule 4.1(b)(C) of the Company Disclosure Schedule;

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          (D) (a) create, incur, assume, forgive or make any changes to the terms or collateral of any debt, receivables or employee or officer loans or advances, except incurrences that constitute refinancing of existing obligations on terms that are no less favorable to the Company than the existing terms; (b) assume, guarantee, endorse or otherwise become liable or responsible (whether directly, indirectly, contingently or otherwise) for the obligations of any person; (c) make any capital expenditures or incur any preopening expenses, other than as set forth in Section 4.1(a)(D) of the Company Disclosure Schedule; (d) make any loans, advances or capital contributions to, or investments in, any other person (other than customary travel, relocation or business advances to employees); (e) acquire the stock or assets of, or merge or consolidate with, any other person; (f) voluntarily incur any material liability or obligation (absolute, accrued, contingent or otherwise) other than in the ordinary course of business consistent with past practice; or (g) sell, transfer, mortgage, pledge, or otherwise dispose of, or encumber, or agree to sell, transfer, mortgage, pledge or otherwise dispose of or encumber, any assets or properties (real, personal or mixed) material to the Company other than to secure debt permitted under subclause (a) of this clause (D) or other than in the ordinary course of business consistent with past practice;

          (E) except as set forth in Section 4.1(b)(E) of the Company Disclosure Schedule, increase in any manner the wages, salaries, bonus, compensation or other benefits of any of its officers or employees or enter into, establish, amend or terminate any employment, consulting, retention, change in control, collective bargaining, bonus or other incentive compensation, profit sharing, health or other welfare, stock option or other equity, pension, retirement, vacation, severance, termination, deferred compensation or other compensation or benefit plan, policy, agreement, trust, fund or arrangement with, for or in respect of, any share holder, officer, director, other employee, agent, consultant or affiliate other than as required pursuant to the terms of agreements in effect on the date of this Agreement, or enter into or engage in any agreement, arrangement or transaction with any of its directors, officers, employees or affiliates except current compensation and benefits in the ordinary course of business, consistent with past practice;

          (F) (i) commence or settle any litigation or other proceedings with any Governmental Authority or other person, or (ii) make or rescind any election relating to Taxes, settle any claim, action, suit, litigation, proceeding, arbitration, investigation, audit or controversy relating to Taxes, file any amended Tax Return or claim for refund, change any method of accounting or make any other material change in its accounting or Tax policies or procedures.

          (G) adopt or amend any resolution or agreement concerning indemnification of its directors, officers, employees or agents;

          (H) transfer or license to any person or entity or otherwise extend, amend, modify, permit to lapse or fail to preserve any of the Company Intellectual Property Rights material to the Company’s business as presently conducted or proposed to be conducted,

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other than nonexclusive licenses in the ordinary course of business consistent with past practice, or disclose to any person who has not entered into a confidentiality agreement any Trade Secrets;

          (I) modify, amend or terminate any Company Material Contract, or waive, release or assign any material rights or claims thereunder, other than any such modification, amendment or termination of any such Company Material Contract or any such waiver, release or arrangement thereunder in the ordinary course of business consistent with past practice;

          (J) modify, amend or terminate, or waive, release or assign any material rights or claims with respect to any confidentiality agreement or non-competition agreement to which the Company is a party;

          (K) commit or omit to do any act which act or omission would cause a breach of any covenant contained in this Agreement or would cause any representation or warranty contained in this Agreement to become untrue, as if each such representation and warranty were continuously made from and after the date hereof;

          (L) fail to maintain its books, accounts and records in the usual manner on a basis consistent with that heretofore employed;

          (M) establish any subsidiary or enter into any new line of business;

          (N) enter into any lease, contract or agreement pursuant to which the Company is obligated to pay or incur obligations of more than $25,000 per year, other than the purchase of inventory in the ordinary course of business consistent with past practice;

          (O) make any changes to its current investment strategy, policy or practices;

          (P) permit any insurance policy naming the Company as a beneficiary or a loss payee to be cancelled or terminated without notice to and consent by Purchaser;

          (Q) revalue any of its assets or make any change in accounting methods, principles or practices, except as required by GAAP after notice to Purchaser;

          (R) fail to make in a timely manner any filings with the SEC required under the Securities Act or the Exchange Act or the rules and regulations promulgated thereunder;

          (S) discharge any obligations (including accounts payable) other than on a timely basis in the ordinary course of business consistent with past practice, or delay the

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making of any capital expenditures from the Company’s current capital expenditure schedule; or

          (T) authorize any of, or agree to commit to do any of, the foregoing actions.

     (c) The Company shall use its reasonable best efforts to comply in all material respects with all Laws applicable to it or any of its properties, assets or business and maintain in full force and effect all the Company Permits necessary for, or otherwise material to, such business.

4.2. Notification of Certain Matters.

     The Company shall give prompt notice to Purchaser if any of the following occur after the date of this Agreement: (i) any representation or warranty made by the Company in this Agreement is untrue or inaccurate in any material respect at any time from the date hereof to the Effective Time; (ii) there has been a material failure of the Company or any of its representatives to comply with or satisfy any covenant, condition or agreement to be complied with or satisfied by it or them hereunder; (iii) receipt of any notice or other communication in writing from any third party alleging that the Consent of such third party is or may be required in connection with the transactions contemplated by this Agreement, provided that such Consent would have been required to have been disclosed in this Agreement; (iv) receipt of any material notice or other communication from any Governmental Authority (including, but not limited to, the NASD or any securities exchange) in connection with the transactions contemplated by this Agreement; (v) the occurrence of an event which would be reasonably likely to have a Company Material Adverse Effect; or (vi) the commencement or threat of any Litigation involving or affecting the Company, or any of their respective properties or assets, or, to its knowledge, any employee, agent, director or officer, in his or her capacity as such, of the Company which, if pending on the date hereof, would have been required to have been disclosed in this Agreement or which relates to the consummation of the Offer or the Merger. No such notice to Purchaser shall have any effect on the determination of whether or not any of the conditions to Closing or to the consummation of the offer have been satisfied or in determining whether or not any of the representations, warranties or covenants contained in this Agreement have been breached.

4.3. Access and Information.

     (a) Between the date of this Agreement and the Effective Time, the Company will give, and shall direct its accountants and legal counsel to give, Purchaser and its respective authorized representatives (including, without limitation, its financial advisors, accountants and legal counsel), at all reasonable times, access as reasonably requested to all offices and other facilities and to all contracts, agreements, commitments, books and records of or pertaining to the Company, will permit the foregoing to make such reasonable

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inspections as they may require and will cause its officers promptly to furnish Purchaser with (i) such financial and operating data and other information with respect to the business and properties of the Company as Purchaser may from time to time reasonably request, and (ii) a copy of each material report, schedule and other document filed or received by the Company pursuant to the requirements of applicable securities laws or the NASD; provided, however, that, between the date hereof and the time of first acceptance of Shares for payment under the Offer, (i) Purchaser may, with prior notice to the Company’s Chief Executive Officer, Chief Financial Officer or General Counsel, contact any employee of the Company directly, provided that such contact is for informational purposes only and does not unreasonably interfere with such employee’s ongoing responsibilities to the Company, and (ii) access to the Company’s offices and facilities shall only be with the sole and absolute, prior written consent of the Company’s Chief Executive Officer, Chief Financial Officer or General Counsel (provided that this Agreement shall not constitute prior written consent); and, following the time of first acceptance of Shares for payment under the Offer, Purchaser shall not be restricted in any manner in contacting employees of the Company or in accessing the Company’s offices and facilities. No such access, inspections or furnishment of information shall have any adverse effect on Purchaser or Merger Sub’s ability to assert that conditions to Closing or to the consummation of the Offer have not been satisfied.

     (b) The Chief Financial Officer of the Company shall deliver to the Purchaser immediately before the close of business on the day which is six (6) business days prior to the then-scheduled expiration date of the Offer and immediately before the close of business on the then-scheduled expiration date of the Offer, a certificate executed by such officer which sets forth the number of issued and outstanding Shares as of the date of the expiration of the Offer.

     (c) Without limiting any other provision of this Agreement, from time to time during the Offer upon the request of the Purchaser, immediately before the close of business on the day which is six (6) business days prior to the then scheduled expiration date of the Offer and immediately before the close of business on the expiration date of the Offer, the Company shall inform Purchaser orally and in writing as to the then-current status of satisfaction of the conditions to the Offer described in paragraphs (c), (e), (f), (g), (h), (i) and (1) on Annex A hereto. The President of the Company shall deliver to the Purchaser promptly following the close of business on the then-scheduled expiration date of the Offer a certificate executed by such officer to the effect that the conditions to the Offer specified in the immediately preceding sentence have been satisfied.

     (d) Prior to the execution and delivery of this Agreement, the Company shall have delivered to the Purchaser a copy of duly adopted resolutions of the Company’s Board of Directors approving the execution, delivery and performance of this Agreement and the other agreements contemplated hereby (including the Stockholders Agreement and the Stock Option Agreement) and, in each case, the transactions contemplated thereby, certified by the Secretary of the Company.

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4.4. Special Meeting; Proxy Statement.

     (a) As promptly as practicable following the purchase of Shares pursuant to the Offer, if required by applicable law in order to consummate the Merger, the Company, acting through its Board of Directors, shall, in accordance with applicable Law:

          (i) (A) duly call, give notice of, convene and hold a special meeting of its shareholders (the “Special Meeting”) for the purposes of considering and taking action upon the approval and adoption of the Merger and this Agreement;

               (B) subject to Section 4.8(b), the Company shall, through the Company’s Board of Directors, declare advisable and recommend to its shareholders that they approve the Merger and adopt this Agreement, and shall include disclosure regarding the approvals of the Company’s Board and the Special Committee referred to in Section 2.22(c) in the Proxy Statement;

               (C) without limiting the generality of the foregoing, the Company agrees that its obligations under clause (A) of this Section 4.4(a)(i) shall not be affected by the commencement, public proposal, public disclosure or communication to the Company or any other person of any Company Takeover Proposal (as such term is defined in Section 4.8(a)) or the withdrawal or modification by the Board of Directors or any committee thereof of such Board’s or committee’s approval or recommendation of the Offer, the Merger or this Agreement; and

          (ii) prepare and file with the SEC a preliminary proxy or information statement relating to the Merger and this Agreement and obtain and furnish the information required to be included by the SEC in the Proxy Statement and, after consultation with Purchaser, respond promptly to any comments made by the SEC with respect to the preliminary proxy or information statement and cause a definitive proxy or information statement, including any amendments or supplements thereto (the “Proxy Statement”) to be mailed to its shareholders at the earliest practicable date, provided that no amendments or supplements to the Proxy Statement will be made by the Company without consultation with Purchaser and its counsel.

     (b) Purchaser shall vote, or cause to be voted, all of the Shares acquired in the Offer or otherwise then owned by it, Merger Sub or any of Purchaser’s other subsidiaries in favor of the approval and adoption of the Merger and this Agreement.

     (c) Notwithstanding the provisions of paragraphs (a) and (b) above, in the event that Purchaser, Merger Sub and any other subsidiaries of Purchaser shall acquire in the aggregate at least 90% of the outstanding shares of each class of capital stock of the Company pursuant to the Offer or otherwise, the parties hereto shall, subject to Article VI

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hereof, take all necessary and appropriate action to cause the Merger to become effective as soon as practicable after such acquisition, without a meeting of shareholders of the Company, in accordance with Section 302A.621 of the MBCA.

4.5. Reasonable Best Efforts.

     (a) Subject to the terms and conditions herein provided, the Company agrees to use its reasonable best efforts to take, or cause to be taken, all actions and to do, or cause to be done, all things necessary, proper or advisable to consummate and make effective as promptly as practicable the Offer and the Merger and the other transactions contemplated by this Agreement, including, but not limited to, (i) obtaining all Consents from Governmental Authorities and other third parties required for the consummation of the Offer and the Merger and the other transactions contemplated hereby (provided that the Company shall not make any payment or amend the terms of any agreement in connection with obtaining any such Consent without the prior written approval of Purchaser) and (ii) consulting and cooperating with and providing assistance to Purchaser and Merger Sub in the preparation and filing with the SEC of the Offer Documents and all necessary amendments and supplements thereto. Upon the terms and subject to the conditions hereof, the Company agrees to use reasonable best efforts to take, or cause to be taken, all actions and to do, or cause to be done, all things necessary to satisfy the conditions to the consummation of the Offer and the Closing set forth herein.

     (b) The Company agrees to inform Purchaser regularly, and to respond to requests of Purchaser, as to the status of whether or not each material Consent required from third parties (other than Governmental Authorities) in connection with this Agreement and the transactions contemplated hereby have been obtained. The Company shall promptly deliver to Purchaser in writing a reasonably detailed notice (the “Consent Notice”) as to the status of all such material Consents (i) immediately before the close of business on the thirteenth business day (such date, the “Consent Notice Date”) following the commencement of the Offer and (ii) immediately before the close of business on the day which is six (6) business days prior to the then-scheduled expiration date of the Offer. In the event that the Company has not obtained any one or more of such material Consents by the Consent Notice Date, then Purchaser shall have up to and including the date (the “Decision Date”) which is the actual expiration date of the Offer to (i) terminate this Agreement in accordance with Section 7.1(f) hereof or (ii) waive any such one or more material Consents by delivery of a reasonably detailed written notice to the Company (any such material Consents so waived in writing by Purchaser, collectively, the “Waived Consents”); provided, however, that in the event that Purchaser has not by or on the Decision Date either (i) terminated this Agreement in accordance with Section 7.1(f) hereof or (ii) waived all such material Consents, then this Agreement shall terminate without any action by any party hereto in accordance with Section 7.1(g) hereof. Notwithstanding any such waiver of material Consents, if Purchaser has not so terminated this Agreement, the Company shall continue to use its reasonable best efforts to actually obtain the Waived Consents pursuant to Section 4.5(a) hereof up to the Closing Date.

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4.6. Public Announcements.

     So long as this Agreement is in effect, the Company shall not, and shall cause its affiliates not to, (a) issue or cause the publication of any press release or any other announcement or communication with respect to the Offer or the Merger or the other transactions contemplated hereby without the written consent of Purchaser, or (b) discuss with the press or the media this Agreement, the Offer, the Merger or the other transactions contemplated hereby (and will refer any and all questions and inquiries to Purchaser), except in any case under (a) or (b) where such release or announcement is required by applicable Law or pursuant to any applicable listing agreement with, or rules or regulations of, the NASD, in which case the Company, prior to making such announcement, will consult with Purchaser regarding the same.

4.7. Compliance.

     In consummating the Offer, the Merger and the other transactions contemplated hereby, the Company shall comply in all material respects with the provisions of the Exchange Act and the Securities Act and shall comply in all material respects with all other applicable Laws.

4.8. No Solicitation.

     (a) For purposes of this Agreement, “Company Takeover Proposal” means any inquiry, proposal or offer from any person relating to (1) any direct or indirect acquisition or purchase of assets representing 10% or more of the assets of the Company, (2) any issuance, sale, or other disposition of (including by way of merger, consolidation, business combination, share exchange, joint venture, or any similar transaction) securities (or options, rights or warrants to purchase, or securities convertible into or exchangeable for, such securities) representing 10% or more of the voting power of the Company, (3) any tender offer, exchange offer or other transaction in which, if consummated, any person shall acquire beneficial ownership (as such term is defined in Rule 13d-3 under the Exchange Act), or the right to acquire beneficial ownership, or any “group” (as such term is defined under the Exchange Act) shall have been formed which beneficially owns or has the right to acquire beneficial ownership, of 10% or more of the outstanding voting capital stock of the Company, or (4) any merger, consolidation, share exchange, business combination, recapitalization, liquidation, dissolution or similar transaction involving the Company, other than the transactions contemplated by this Agreement. For purposes of this Agreement, a “Company Superior Offer” means a Company Takeover Proposal on terms that the Board of Directors of the Company determines, in good faith, based upon consultations with its outside legal counsel and its financial advisor, that if consummated, is more favorable to the Company’s shareholders from a financial point of view than the Offer, this Agreement or the Merger and is reasonably likely to be consummated, taking into account all legal, financial and regulatory aspects of the offer and the person making the offer and would, if consummated, be

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in the best interests of the shareholders of the Company; provided, however, that any such Company Takeover Proposal shall not be deemed to be a Company Superior Offer if any financing required to consummate the transaction contemplated by such offer is not committed.

     (b) Except as set forth in this Section 4.8, the Company shall not, directly or indirectly, and shall not, directly or indirectly, authorize or permit any officer or director of the Company, or authorize or knowingly permit any other employee, agent or consultant of the Company to (i) solicit, encourage, initiate or seek the making, submission or announcement of any Company Takeover Proposal, (ii) furnish any non-public information regarding the Company to any person (other than Purchaser or Merger Sub or their representatives) in connection with or in response to a Company Takeover Proposal or an inquiry that the Company believes in good faith could be expected to lead to a Company Takeover Proposal, (iii) engage in discussions or negotiations with any person with respect to any Company Takeover Proposal, except as to the existence of these provisions (iv) withdraw or modify, or propose publicly to withdraw or modify, in a manner adverse to Purchaser, the approval or recommendation by the Company’s Board of Directors of the Offer, this Agreement or the Merger, (v) approve or recommend, or propose publicly to approve or recommend, any Company Takeover Proposal or (vi) cause the Company to enter into any letter of intent, agreement in principle, acquisition agreement or other similar agreement (each, a “Company Acquisition Agreement”) related to any Company Takeover Proposal. Notwithstanding the foregoing, this Section 4.8(b) shall not prohibit (A) the Company, or the Board of Directors of the Company, prior to the time of the first acceptance of Shares for payment pursuant to the Offer, from furnishing nonpublic information regarding the Company to, or entering into discussions or negotiations with, any person in response to an unsolicited, bona fide written Company Takeover Proposal that the Board of Directors of the Company concludes in good faith could reasonably be expected to result in a Company Superior Offer that is submitted to the Company by such person (and not withdrawn) if (1) neither the Company nor any officer, director, employee, agent or consultant of the Company shall have violated any of the restrictions set forth in this Section 4.8(b) in connection with the receipt of such Company Takeover Proposal, (2) the Board of Directors of the Company concludes in good faith, after consultation with its outside legal counsel, that such action with respect to such Company Takeover Proposal is required to comply with the fiduciary duties of the Board of Directors of the Company to the Company shareholders under applicable Law, (3) the Company gives Purchaser prompt written notice of the Company’s intention to furnish nonpublic information to, or enter into discussions with, such person, and the Company receives from such person an executed confidentiality agreement with provisions no less favorable to the Company than those contain in the Mutual Non-Disclosure Agreement dated August 3, 2004 by and between the Company and Purchaser; and (4) the Company furnishes such nonpublic information to such person and to Purchaser at substantially the same time (to the extent such nonpublic information has not been previously furnished by the Company to Purchaser); or (B) the Company from complying with Rules 14d-9 and 14e-2 promulgated under the Exchange Act with regard to any Company Takeover Proposal.

     (c) The Company shall promptly (and in no event later than twenty-four (24) hours after the Company gains knowledge of its receipt of any Company Takeover Proposal), or any

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request for nonpublic information relating to it in connection with a response to a Company Takeover Proposal, advise Purchaser orally and in writing of such Company Takeover Proposal or request (including providing the identity of the person making or submitting such Company Takeover Proposal or request, and a summary of the material terms thereof, if the Company Takeover Proposal is not in writing, or a copy of the Company Takeover Proposal and any related draft agreements if it is in writing) that is made or submitted by any person during the time prior to the first acceptance of Shares for payment pursuant to the Offer. The Company shall keep Purchaser informed in all material respects on a prompt basis with respect to the status of any such Company Takeover Proposal or request and any material modification or proposed material modification thereto.

     (d) Upon the execution of this Agreement, the Company shall immediately cease and cause to be terminated any discussions existing as of the date of this Agreement with any person (other than Purchaser) that relate to any Company Takeover Proposal.

     (e) The Company agrees not to release any person (other than Purchaser) from or waive any provision of any confidentiality, “standstill” or similar agreement to which the Company is a party and which relates to a Company Takeover Proposal, and will use its commercially reasonable efforts to enforce each such agreement at the request of Purchaser.

     (f) Notwithstanding anything in this Agreement to the contrary, the Board of Directors of the Company may at any time prior to the first acceptance of Shares for payment pursuant to the Offer (subject to Company’s compliance with the provisions of this Section 4.8), (i) withdraw or modify its approval or recommendation of the Offer, this Agreement or the Merger or (y) approve or recommend a Company Superior Offer if: (A) an unsolicited, bona fide written offer is made to the Company by a third party for a Company Takeover Proposal, and such offer is not withdrawn; (B) the Company’s Board of Directors determines in good faith, after consultation with its financial advisor, that such offer constitutes a Company Superior Offer; (C) following consultation with outside legal counsel, the Company’s Board of Directors determines that the withdrawal or modification of its approval or recommendation of the Offer, this Agreement or the Merger is required to comply with the fiduciary duties of the Board of Directors of Company to the shareholders of the Company under applicable Law; (D) such approval or recommendation is not withdrawn or modified in a manner adverse to Purchaser at any time prior to three (3) business days after Purchaser receives written notice from the Company confirming that the Company’s Board of Directors has determined that such offer is a Company Superior Offer, and (E) at the end of such three (3) business day period, after taking into account any adjustment or modification of the terms of this Agreement proposed by Purchaser (and any adjustment or modification of the terms of such Company Takeover Proposal), the Board of Directors of the Company again makes the determination in good faith that the withdrawal or modification of such approval or recommendation of the Offer, this Agreement or the Merger is required to comply with the fiduciary duties of the Board of Directors of the Company to the shareholders of the Company under applicable Law.

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     (g) Notwithstanding anything to the contrary contained herein, this Agreement and the Merger shall be submitted to the shareholders of the Company, in accordance with Section 4.4(a), at the meeting of such shareholders for the purpose of approving this Agreement and the Merger, and, subject to termination of this Agreement in accordance with the terms of Article VII hereof, nothing in this Agreement to the contrary shall be deemed to relieve the Company of such obligation.

4.9. SEC and Shareholder Filings.

     The Company shall send to Purchaser a copy of all public reports and materials as and when it sends the same to its shareholders, the SEC or any state or foreign securities commission.

4.10 State Takeover Laws.

     Notwithstanding any other provision in this Agreement, unless this Agreement is terminated in accordance with the terms of Article VII hereof, in no event shall the Minnesota Anti-Takeover Approval be withdrawn, revoked or modified by the Board of Directors of the Company or the Special Committee. If any state takeover statute of the MBCA not rendered inapplicable or complied with by the Minnesota Anti-Takeover Approval becomes or is deemed to become applicable to this Agreement, the Offer, the acquisition of Shares pursuant to the Offer or the Merger or the other transactions contemplated by this Agreement, the Company shall take all reasonable action necessary to render such statute inapplicable to or comply with all of the foregoing. For purposes of this Agreement, the “Minnesota Anti-Takeover Approval” shall mean the actions taken by the Company’s Board of Directors and the Special Committee referred to in Section 2.22(c) hereof causing Sections 302A.671, 302A.673 and 302A.675 of the MBCA not to impede this Agreement, the Offer, the acquisition of Shares pursuant to the Offer or the Merger or the other transactions contemplated by this Agreement.

4.11 Actions Regarding the Rights.

     The Company shall not modify or waive, except as expressly provided herein, the terms of its Rights Agreement as amended as of the date hereof, or take any action to redeem the Rights, except in connection with its entering into a Company Superior Offer pursuant to and in accordance with Section 4.8 hereof.

ARTICLE V
ADDITIONAL COVENANTS OF PURCHASER

5.1. Notification of Certain Matters.

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     Purchaser shall give prompt notice to the Company if any of the following occur after the date of this Agreement: (i) any representation or warranty made by Purchaser in this Agreement is untrue or inaccurate in any material respect at any time from the date hereof to the Effective Time; (ii) there has been a material failure of Purchaser, Merger Sub or any of their representatives to comply with or satisfy any covenant, condition or agreement to be complied with or satisfied by it or them hereunder; (iii) receipt of any notice or other communication in writing from any third party alleging that the Consent of such third party is or may be required in connection with the transactions contemplated by this Agreement, provided that such Consent would have been required to have been disclosed in this Agreement; (iv) receipt of any material notice or other communication from any Governmental Authority (including, but not limited to, the NASD) in connection with the transactions contemplated by this Agreement; (v) the occurrence of an event which would be reasonably likely to have a Purchaser Material Adverse Effect; or (vi) the commencement or threat of any Litigation involving or affecting Purchaser or any of its subsidiaries, or any of their respective properties or assets, or, to its knowledge, any employee, agent, director or officer, in his or her capacity as such, of Purchaser or any of its subsidiaries which, if pending on the date hereof, would have been required to have been disclosed in this Agreement or which relates to the consummation of the Offer or the Merger.

5.2. Reasonable Best Efforts.

     Subject to the terms and conditions herein provided, Purchaser agrees to use its reasonable best efforts to take, or cause to be taken, all actions and to do, or cause to be done, all things necessary, proper or advisable to consummate and make effective as promptly as practicable the Offer and the Merger and the other transactions contemplated by this Agreement, including, but not limited to, (i) obtaining all Consents from Governmental Authorities and other third parties required for the consummation of the offer and the Merger and the other transactions contemplated hereby and (ii) consulting and cooperating with and providing assistance to the Company in the preparation and filing with the SEC of the Schedule 14D-9 and the Proxy Statement and all necessary amendments and supplements thereto. Upon the terms and subject to the conditions hereof, Purchaser agrees to use reasonable best efforts to take, or cause to be taken, all actions and to do, or cause to be done, all things necessary to satisfy the conditions to the consummation of the offer and the Closing set forth herein.

5.3. Compliance.

     In consummating the Offer, the Merger and the other transactions contemplated hereby, Purchaser shall comply in all material respects with the provisions of the Exchange Act and the Securities Act and shall comply, and/or cause its subsidiaries to comply or to be in compliance, in all material respects, with all other applicable Laws.

5.4. SEC and Shareholder Filings.

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     Purchaser shall send to the Company a copy of all public reports and materials as and when it sends the same to its shareholders, the SEC or any state or foreign securities commission.

5.5. Indemnification.

     (a) As of the Effective Time, the indemnification and exculpation provisions contained in the Bylaws and the Articles of Incorporation of the Surviving Corporation shall be at least as favorable to individuals who immediately prior to the Closing Date were directors, officers, agents or employees of the Company or otherwise entitled to indemnification under the Company’s Bylaws or Articles of Incorporation (an “Indemnified Party”) as those contained in the Bylaws and the Articles of Incorporation of the Company, respectively, and shall not be amended, repealed or otherwise modified for a period of six (6) years after the Closing Date in any manner that would adversely affect the rights thereunder of any Indemnified Party; provided, however, that nothing contained herein shall limit Purchaser’s ability to merge the Company or the Surviving Corporation into Purchaser or any of its subsidiaries or any other person or otherwise eliminate the Company’s or the Surviving Corporation’s corporate existence. The Company hereby covenants that it shall, to the fullest extent permitted under Minnesota law and regardless of whether the Merger becomes effective, indemnify, defend and hold harmless, and after the Effective Time, the Surviving Corporation shall, to the fullest extent permitted under Minnesota law, indemnify, defend and hold harmless, each Indemnified Party against any costs or expenses (including reasonable attorneys’ fees), judgments, fines, losses, claims, damages, liabilities and amounts paid in settlement in connection with any claim, action, suit, proceeding or investigation, including, without limitation, liabilities arising out of this Agreement or under the Exchange Act, occurring through the Closing Date, and in the event of any such claim, action, suit, proceeding or investigation (whether arising before or after the Effective Time), (i) the Company or the Surviving Corporation shall pay the reasonable fees and expenses of counsel selected by the Indemnified Parties, which counsel shall be reasonably satisfactory to the Company or the Surviving Corporation, promptly as statements therefor are received, and (ii) the Company and the Surviving Corporation will cooperate in the defense of any such matter; provided, however, that neither the Company nor the Surviving Corporation shall be liable for any settlement effected without its written consent (which consent shall not be unreasonably withheld); and provided, further, that neither the Company nor the Surviving Corporation shall be obliged pursuant to this Section 5.5 to pay the fees and disbursements of more than one counsel for all Indemnified Parties in any single action except to the extent that, in the opinion of counsel for the Indemnified Parties, two or more of such Indemnified Parties have conflicting interests in the outcome of such action. Notwithstanding anything to the contrary in this Section 5.5 or in the Bylaws or Articles of Incorporation of the Surviving Corporation, the foregoing indemnification shall not be available to an Indemnified Party to the extent that a claim arises in connection with facts or circumstances which, if known by Purchaser prior to the Effective Time, would have constituted a breach of the Company’s representations,

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warranties, covenants or agreements made in this Agreement; the Article of Incorporation and Bylaws shall be amended as necessary to reflect this restriction on indemnification. The Surviving Corporation shall reimburse all expenses, including reason able attorney’s fees and expenses, incurred by any person to enforce the obligations of the Surviving Corporation under this Section 5.5. To the fullest extent permitted by law, the Surviving Corporation shall advance expenses in connection with the foregoing indemnification.

     (b) If the Surviving Corporation or any of its successors or assigns (i) consolidates with or merges into any other person and shall not be the continuing or surviving corporation or entity of such consolidation or merger or (ii) transfers all or substantially all of its properties and assets to any person, then and in each such case, proper provision shall be made so that the successors and assigns of the Surviving Corporation assume the obligations set forth in this Section 5.5.

5.6. Benefit Plans and Employee Matters.

     (a) Purchaser shall to the extent practicable either maintain and provide to the Company’s employees the employee benefits and programs of the Company as substantially in effect as of the date hereof or cause the Surviving Corporation to provide employee benefits and programs to the Company’s employees that, in the aggregate, are substantially comparable to those of Purchaser. The Company shall provide Purchaser with such information as Purchaser may reasonably request regarding the Company’s employee benefits and programs in order to assist Purchaser in complying with its obligations under this Section 5.6(a). Nothing in this Section 5.6(a) shall be construed to prohibit or restrict Purchaser or the Surviving Corporation from amending, suspending or terminating any of its employee benefit plans or programs at any time.

     (b) From and after the Effective Time, the Surviving Corporation shall honor, in accordance with their terms, all employment and severance agreements in effect immediately prior to the Closing Date that are applicable to any current or former employees or directors of the Company.

ARTICLE VI
CONDITIONS

6.1. Conditions to Each Party’s Obligations.

     The respective obligations of each party to effect the Merger shall be subject to the fulfillment or waiver at or prior to the Effective Time of the following conditions:

     (a) Shareholder Approval. If required under the MBCA, the Company Shareholder Approval shall have been obtained.

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     (b) No Injunction or Action. No order, statute, rule, regulation, executive order, stay, decree, judgment or injunction shall have been enacted, entered, promulgated or enforced by any court or other Governmental Authority since the date of this Agreement which prohibits or prevents the consummation of the Merger which has not been vacated, dismissed or withdrawn prior to the Effective Time. The Company and Purchaser shall use their reasonable best efforts to have any of the foregoing vacated, dismissed or withdrawn by the Effective Time.

     (c) Purchase of Shares. Purchaser or Merger Sub or any affiliate of either of them shall have purchased Shares pursuant to the Offer.

6.2. Conditions to Obligations of Purchaser.

     The obligations of Purchaser to effect the Merger shall be subject to the fulfillment at or prior to the Effective Time of the following additional conditions, any one or more of which may be waived by Purchaser:

     (a) Company Representation and Warranties. The representations and warranties of the Company set forth in this Agreement shall be true and correct in all material respects (except that where any statement in a representation or warranty expressly includes a “material adverse effect”, “material” or other materiality qualifier, such representation or warranty shall be true and correct in all respects) as of the date hereof and as of the Closing Date as if made on and as of the Closing Date, except those representations and warranties that speak of an earlier date, which shall be true and correct as of such earlier date (it being understood that, for purposes of determining the accuracy of such representations and warranties, any update of or modification to the Company Disclosure Schedule made or purported to have been made after the date of this Agreement shall be disregarded).

     (b) Performance by the Company. The Company shall have performed and complied with all the covenants and agreements in all material respects and satisfied in all material respects all the conditions required by this Agreement to be performed or complied with or satisfied by the Company at or prior to the Effective Time.

     (c) No Material Adverse Change. There shall have been no changes, conditions, events, or developments (including but not limited to with respect to any matters described in this Agreement or in the Company SEC Reports or on the Company Disclosure Schedule) that have or would reasonably be expected to have a Company Material Adverse Effect since the date of this Agreement; provided, however, that for purposes of determining whether there shall have been any such Company Material Adverse Effect, (i) any adverse change resulting from or relating to general business or economic conditions shall be disregarded, (ii) any adverse change resulting from or relating to conditions generally affecting the industry in which the Company competes shall be disregarded, and

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(iii) any adverse change resulting from or relating to the taking of any action contemplated by this Agreement shall be disregarded.

     (d) Governmental Approval. All Consents of any Governmental Authority required for the consummation of the Merger and the transactions contemplated by this Agreement shall have been obtained, except as may be waived by Purchaser or those Consents the failure or which to obtain will not have a Company Material Adverse Effect or a Purchaser Material Adverse Effect.

     (e) Material Consents. Except with respect to any Waived Consents, any material Consents of any person to the Merger or the other transactions contemplated hereby shall have been obtained and be in full force and effect.

     (f) Employee Termination, Consulting and Non-Competition Agreements. Each Noncompetition Agreement shall be in full force and effect.

6.3. Frustration of Conditions.

     Neither Purchaser nor the Company may rely on the failure of any condition set forth in this Article VI to be satisfied if such failure was caused by such party’s failure to comply with or perform any of its covenants or obligations set forth in this Agreement.

ARTICLE VII
TERMINATION AND ABANDONMENT

7.1 Termination.

     This Agreement may be terminated at any time prior to the Effective Time, whether before or after approval of the shareholders of the Company described herein:

     (a) by mutual written consent of Purchaser and the Company;

     (b) by either Purchaser or the Company, if:

          (i) the Merger shall not have been consummated on or prior to December 31, 2004 (the “Drop Dead Date”), provided, however, that the right to terminate this Agreement pursuant to this Section 7.1(b)(i) shall not be available to any party whose failure to perform any of its obligations under this Agreement results in the failure of the Merger to be consummated by such time;

          (ii) if required under the MBCA, the vote of the Company’s shareholders shall have been taken at a meeting duly convened therefor or at any adjournment or postponement thereof and shall be insufficient to approve the Merger and this Agreement; or

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          (iii) any Governmental Authority shall have issued an order, decree or ruling or taken any other action permanently enjoining, restraining or otherwise prohibiting the consummation of the Offer or the Merger and such order, decree or ruling or other action shall have become final and nonappealable;

     (c) by Purchaser, if the Company shall have breached in any material respect any of its representations, warranties, covenants or other agreements contained in this Agreement, which breach or failure to perform is incapable of being cured or has not been cured within 20 business days after the giving of written notice to the Company;

     (d) by Purchaser, if (1) the Company shall have breached in any material respect its obligations set forth in Section 4.8 hereof, (2) the Board of Directors of the Company or the Special Committee, as the case may be, shall have withdrawn or modified in a manner adverse to Purchaser its approval or recommendation of the Offer, the Merger or this Agreement, or failed to reconfirm its recommendation within five (5) business days after a written request to do so, or approved or recommended any Company Superior Offer or (3) the Board of Directors of the Company or the Special Committee, as the case may be, shall have resolved to take any of the foregoing actions;

     (e) by the Company, if Purchaser shall have breached in any material respect any of its representations, warranties, covenants or other agreements contained in this Agreement, which breach or failure to perform is incapable of being cured or has not been cured within 20 business days after the giving of written notice to Purchaser;

     (f) by Purchaser on or before the Decision Date, if any one or more material Consents required from third parties (other than Governmental Authorities) in connection with this Agreement and the transactions contemplated hereby have not been obtained;

     (g) without any action on the part of any party hereto on the day immediately following the Decision Date in the event that all material Consents required from third parties (other than Governmental Authorities) in connection with this Agreement and the transactions contemplated hereby have not been obtained by the Company by or on the Decision Date and Purchaser (i) has not terminated this Agreement by or on the Decision Date pursuant to Section 7.1(f) or (ii) has not waived all such material Consents which have not been obtained by the Company by or on the Decision Date;

     (h) by the Purchaser, other than as a result of a breach by the Purchaser or Merger Sub of its obligations hereunder, if as a result of any condition set forth in Annex A hereto failing to be satisfied, the Purchaser shall have (i) failed to commence the Offer within 30 days following the date of this Agreement, or (ii) terminated the Offer without having accepted any Shares for payment thereunder; and

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     (i) by the Company, upon approval of its Board of Directors, if the Purchaser shall have terminated the Offer without having accepted any Shares for payment thereunder, other than as a result of a breach by the Company of its obligations hereunder.

     The party desiring to terminate this Agreement pursuant to the preceding paragraphs shall give written notice of such termination to the other party in accordance with Section 8.6 hereof.

7.2. Effect of Termination and Abandonment.

     (a) In the event of termination of this Agreement and the abandonment of the Merger pursuant to this Article VII, this Agreement (other than Sections 7.2, 8.1, 8.2, 8.3, 8.4, 8.5, 8.6, 8.7, 8.8, 8.9, 8.10, 8.11, 8.12, 8.13, 8.14, 8.15 and 8.16) shall become void and of no further force or effect with no liability on the part of any party hereto (or of any of its directors, officers, employees, agents, legal or financial advisors or other representatives); provided, however, that no such termination shall relieve any party hereto from any liability for any breach of this Agreement prior to termination. If this Agreement is terminated as provided herein, each party shall use its reasonable best efforts to redeliver all documents, work papers and other material (including any copies thereof) of any other party relating to the transactions contemplated hereby, whether obtained before or after the execution hereof, to the party furnishing the same.

     (b) In the event that prior to termination of this Agreement a bona fide Company Takeover Proposal shall have been made known to the Company or has been made directly to its shareholders generally or any person shall have publicly announced an intention (whether or not conditional) to make a bona fide Company Takeover Proposal (a “Competing Company Takeover Proposal”), and thereafter this Agreement is (x) terminated pursuant to Section 7.1(b)(i) or 7.1(b)(ii), or (y) terminated by Purchaser pursuant to Section 7.1(c), 7.1(d), 7.1(f) or 7.1(h) (provided the reason for termination under Section 7.1(h) relates to one or more of the conditions described in (e), (f), (g), (h) or (k) of Annex A), then the Company shall promptly, but in no event later than, in the case of termination by Purchaser, two days after, or in the case of termination by the Company, immediately prior to, termination of this Agreement giving rise to the Company’s payment obligation, pay Purchaser One Million Dollars ($1,000,000) (the “Company Termination Fee”), plus the reimbursement of any and all Purchaser Expenses (as defined below) incurred by Purchaser and Merger Sub up to Three Hundred Thousand Dollars ($300,000), payable by wire transfer of same day funds to an account designated by Purchaser (provided, however, that the Company Termination Fee shall not be payable if Purchaser terminates this Agreement pursuant to Section 7.1(h) and at the time of such termination more than 75% of the Shares (including all of the Convertible Preferred Stock) shall have been validly tendered and not withdrawn pursuant to the Offer). The Purchaser shall submit an accounting of the Purchaser Expenses to the Company. For purposes of this Agreement, the term “Purchaser Expenses” shall mean any and all costs, fees and expenses incurred by Purchaser and Merger Sub in connection with the preparation, negotiation, execution,

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performance and consummation of this Agreement, the Stockholders Agreement, the Stock Option Agreement and any other agreements executed in connection herewith or therewith or in connection with any of the transactions contemplated by any such agreements and documents (including, without limitation, attorneys’, information agent’s and accountants’ fees and expenses, Purchaser’s internal time allocation relating to its employees, Purchaser’s internal costs and expenses, governmental filing fees, and printing and mailing costs). The Company acknowledges that the agreements contained in this Section 7.2(b) are an integral part of the transactions contemplated by this Agreement and that, without these agreements, Purchaser would not have entered into this Agreement. Notwithstanding the foregoing, no fee or expense reimbursement shall be paid pursuant to this Section 7.2(b) if Purchaser shall be in material breach of its obligations hereunder.

     (c) In the event that (i) Purchaser terminates this Agreement solely pursuant to Section 7.1(h), (ii) at the time of such termination, Purchaser does not deliver to the Company a written certification signed by the Chief Executive Officer stating that such termination is based, in whole or in part, on the material unsatisfactory results, in Purchaser’s sole discretion, of Purchaser’s due diligence review of the Company, and (iii) at the time of such termination, more than 75% of the Shares (including all of the Convertible Preferred Stock) shall have been validly tendered and not withdrawn pursuant to the Offer, then Purchaser shall immediately prior to its termination of this Agreement pursuant to Section 7.1(h) pay the Company One Million Dollars ($1,000,000) (the “Purchaser Termination Fee”), plus the reimbursement of any and all Company Expenses (as defined below) incurred by the Company up to Three Hundred Thousand Dollars ($300,000), payable by wire transfer of same day funds to an account designated by the Company. The Company shall submit an accounting of the Company Expenses to Purchaser. For purposes of this Agreement, the term “Company Expenses” shall mean any and all costs, fees and expenses incurred by the Company in connection with the preparation, negotiation, execution, performance and consummation of this Agreement, the Stockholders Agreement, the Stock Option Agreement and any other agreements executed in connection herewith or therewith or in connection with any of the transactions contemplated by any such agreements and documents (including, without limitation, attorneys’, information agent’s and accountants’ fees and expenses, the Company’s internal time allocation relating to its employees, the Company ‘s internal costs and expenses, governmental filing fees, and printing and mailing costs). Purchaser acknowledges that the agreements contained in this Section 7.2(c) are an integral part of the transactions contemplated by this Agreement and that, without these agreements, the Company would not have entered into this Agreement. Notwithstanding the foregoing, no fee or expense reimbursement shall be paid pursuant to this Section 7.2(c) if the Company shall be in material breach of its obligations hereunder.

     (d) Purchaser acknowledges that payments made under Section 7.2(b) hereof shall constitute its exclusive remedy with respect to any termination of this Agreement that gives rise to such payment obligation. The Company acknowledges that payments made

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under Section 7.2(c) hereof shall constitute its exclusive remedy with respect to any termination of this Agreement that gives rise to such payment obligation.

ARTICLE VIII
MISCELLANEOUS

8.1. Confidentiality.

     Unless (i) otherwise expressly provided in this Agreement, (ii) required by applicable Law or any listing agreement with, or the rules and regulations of, any applicable securities exchange or the NASD, (iii) necessary to secure any required Consents as to which the other party has been advised or (iv) consented to in writing by Purchaser and the Company, any information or documents furnished in connection herewith shall be kept strictly confidential by the Company, Purchaser and their respective officers, directors, employees and agents. Prior to any disclosure pursuant to the preceding sentence, the party intending to make such disclosure shall consult with the other party regarding the nature and extent of the disclosure. Nothing contained herein shall preclude disclosures to the extent necessary to comply with accounting, SEC and other disclosure obligations imposed by applicable Law. To the extent required by such disclosure obligations, Purchaser or the Company, after consultation with the other party, may file with the SEC a Report on Form 8-K pursuant to the Exchange Act with respect to the Offer and the Merger, which report may include, among other things, financial statements and pro forma financial information with respect to the other party. Purchaser and the Company shall cooperate with the other and provide such information and documents as may be required in connection with any filings with the SEC. In the event the Merger is not consummated, each party shall return to the other any documents furnished by the other and all copies thereof any of them may have made and will hold in absolute confidence any information obtained from the other party except to the extent (i) such party is required to disclose such information by Law or such disclosure is necessary or desirable in connection with the pursuit or defense of a claim, (ii) such information was known by such party prior to such disclosure or was thereafter developed or obtained by such party independent of such disclosure or (iii) such information becomes generally available to the public other than by breach of this Section 8.1. Prior to any disclosure of information pursuant to the exception in clause (i) of the preceding sentence, the party intending to disclose the same shall so notify the party which provided the name in order that such party may seek a protective order or other appropriate remedy should it choose to do so.

8.2. Amendment and Modification.

     This Agreement may be amended, modified or supplemented only by a written agreement among the Company, Purchaser and Merger Sub.

8.3. Waiver of Compliance; Consents.

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     Any failure of the Company on the one hand, or Purchaser on the other hand, to comply with any obligation, covenant, agreement or condition herein may be waived by Purchaser on the one hand, or the Company on the other hand, only by a written instrument signed by the party granting such waiver, but such waiver or failure to insist upon strict compliance with such obligation, covenant, agreement or condition shall not operate as a waiver of, or estoppel with respect to, any subsequent or other failure. Whenever this Agreement requires or permits consent by or on behalf of any party hereto, such consent shall be given in writing in a manner consistent with the requirements for a waiver of compliance as set forth in this Section 8.3.

8.4. Survival.

     The respective representations, warranties, covenants and agreements of the Company and Purchaser contained herein or in any certificates or other documents delivered prior to or at the Closing shall survive the execution and delivery of this Agreement, notwithstanding any investigation made or information obtained by the other party, but shall terminate at the Effective Time, except for those covenants contained in Sections 1.6(b), 1.7, 1.8, 1.9, 1.12, 1.13, 5.5, 8.1 and 8.14 hereof, which shall survive beyond the Effective Time in accordance with their terms.

8.5. Notices.

     All notices and other communications hereunder shall be in writing and shall be deemed to have been duly given when delivered in person, by facsimile, receipt confirmed, or on the next business day when sent by overnight courier or on the second succeeding business day when sent by registered or certified mail (postage prepaid, return receipt requested) to the respective parties at the following addresses (or at such other address for a party as shall be specified by like notice):

if to the Company, to:

DataKey, Inc.
407 West Travelers Trail
Minneapolis, Minnesota 55337
Attention: David A. Feste
Facsimile: (952) 890-6850

with a copy to (but which shall not constitute notice to the Company):

Fredrikson & Byron, P.A.
200 South 6^th Street, #400
Minneapolis, Minnesota 55402-1425
Attention: Thomas R. King, Esq.

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Facsimile: 612-492-7077

(ii)	if to Purchaser or Merger Sub, to:
	SafeNet, Inc. 4690 Millennium Drive Belcamp, Maryland 21017 Attention: Chief Executive Officer Facsimile: (443) 327-1207

with a copy to (but which shall not constitute notice to Purchaser)

Venable LLP
8010 Towers Crescent Drive
Suite 300
Vienna, Virginia 22182
Attention: Elizabeth R. Hughes, Esq.
Facsimile: 703-821-8949

8.6. Binding Effect; Assignment.

     This Agreement and all of the provisions hereof shall be binding upon and inure to the benefit of the parties hereto and their respective successors and permitted assigns. Neither this Agreement nor any of the rights, interests or obligations hereunder shall be assigned by any of the parties hereto prior to the Effective Time without the prior written consent of the other parties hereto.

8.7. Expenses.

     All costs and expenses incurred in connection with this Agreement and the transactions contemplated hereby shall be paid by the party incurring such costs or expenses; provided; however, that the parties hereto agree that the costs of printing the Offer to Purchase (and related documents) and the Schedule 14D-9 (and related documents), the costs of mailing all such documents to shareholders of the Company, and the fees and expenses of Innisfree M&A Incorporated shall be split equally between Purchaser, on the one hand, and the Company, on the other hand.

8.8. Governing Law.

     This Agreement shall be deemed to be made in, and in all respects shall be interpreted, construed and governed by and in accordance with the internal laws of, the State of Delaware (except to the extent that a particular matter is the proper subject of the MBCA, in which event the MBCA shall govern). Each of the Company, Purchaser and Merger Sub hereby irrevocably and unconditionally consents to submit to the jurisdiction

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of the federal and state courts located in Delaware for any litigation arising out of or relating to this Agreement and the transactions contemplated hereby (and agrees not to commence any litigation relating thereto except in such courts), waives any objection to the laying of venue of any such litigation in such courts and agrees not to plead or claim in any such court that such litigation brought therein has been brought in an inconvenient forum.

8.9. Counterparts.

     This Agreement may be executed in one or more counterparts, each of which together be deemed an original, but all of which together shall constitute one and the same instrument.

8.10. Interpretation.

     The article and section headings contained in this Agreement are solely for the purpose of reference, are not part of the agreement of the parties and shall not in any way affect the meaning or interpretation of this Agreement. As used in this Agreement, (i) the term “person” shall mean and include an individual, a partnership, a joint venture, a corporation, a limited liability company, a trust, an association, an unincorporated organization, a Governmental Authority and any other entity, (ii) unless otherwise specified herein, the term “affiliate,” with respect to any person, shall mean and include any person controlling, controlled by or under common control with such person, (iii) the term “subsidiary” of any specified person shall mean any corporation any of the outstanding voting power of which, or any partnership, joint venture, limited liability company or other entity any of the total equity interest of which, is directly or indirectly owned by such specified person, other than in any such case any entity which may be deemed to be a “subsidiary” of such specified person solely by reason of the ownership of equity securities of such entity which are registered under the Exchange Act and held by such specified person for investment purposes only, (iv) the term “knowledge,” when used with respect to the Company, shall mean the knowledge of the directors and executive officers of the Company and, when used with respect to Purchaser, shall mean the knowledge of the directors and executive officers of Purchaser, and (v) the term “including” shall mean “including, without limitation.” The parties have participated jointly in the negotiation and drafting of this Agreement. Consequently, in the event an ambiguity or question of intent or interpretation arises, this Agreement shall be construed as if drafted jointly by the parties hereto, and no presumption or burden of proof shall arise favoring or disfavoring any party by virtue of the authorship of any provision of this Agreement.

8.11. Entire Agreement.

     This Agreement and the documents or instruments referred to herein, including, but not limited to, the Exhibit(s) attached hereto and the Disclosure Schedules referred to herein, which Exhibit(s) and Disclosure Schedules are incorporated herein by reference,

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and any other written agreement entered into contemporaneously herewith embody the entire agreement and under standing of the parties hereto in respect of the subject matter contained therein. There are no restrictions, promises, representations, warranties, covenants, or undertakings, other than those expressly set forth or referred to therein. This Agreement and such other agreements supersede all prior agreements and the understandings between the parties with respect to such subject matter.

8.12. Severability.

     In case any provision in this Agreement shall be held invalid, illegal or unenforceable in a jurisdiction, such provision shall be modified or deleted, as to the jurisdiction involved, only to the extent necessary to render the same valid, legal and enforceable, and the validity, legality and enforceability of the remaining provisions hereof shall not in any way be affected or impaired thereby nor shall the validity, legality or enforceability of such provision be affected thereby in any other jurisdiction.

8.13. Specific Performance.

     The parties hereto agree that irreparable damage would occur in the event that any of the provisions of this Agreement were not performed in accordance with their specific terms or were otherwise breached. Accordingly, the parties further agree that each party shall be entitled to an injunction or restraining order to prevent breaches of this Agreement and to enforce specifically the terms and provisions hereof in any court of the United States or any state having jurisdiction, this being in addition to any other right or remedy to which such party may be entitled under this Agreement, at law or in equity.

8.14. Third Parties.

     Nothing contained in this Agreement or in any instrument or document executed by any party in connection with the transactions contemplated hereby shall create any rights in, or be deemed to have been executed for the benefit of, any person or entity that is not a party hereto or thereto or a successor or permitted assign of such a party; provided however, that the parties hereto specifically acknowledge that the provisions of Sections 5.5 and 5.6(b) hereof are intended to be for the benefit of, and shall be enforceable by, the current or former employees, officers and directors of the Company affected thereby and their heirs and representatives.

8.15. Disclosure Schedules.

     The Company and Purchaser acknowledge that the Company Disclosure Schedule (i) relates to certain matters concerning the disclosures required and transactions contemplated by this Agreement, (ii) is qualified in their entirety by reference to specific provisions of this Agreement and (iii) is not intended to constitute and shall not be construed as indicating that such matter is required to be disclosed, nor shall such

64

disclosure be construed as an admission that such information is material with respect to the Company, except to the extent required by this Agreement.

8.16. Obligation of Purchaser.

     Whenever this Agreement requires Merger Sub to take any action, such requirement shall be deemed to include an undertaking on the part of Purchaser to cause Merger Sub to take such action.

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     IN WITNESS WHEREOF, each of the parties hereto have caused this Agreement and Plan of Merger to be signed and delivered by their respective duly authorized officers as of the date first above written.

SAFENET, INC.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

DATAKEY, INC.
By:	/s/ Timothy L. Russell
	Name:	Timothy L. Russell
	Title:	President and Chief Executive Officer

SNOWFLAKE ACQUISITION CORP.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

[SIGNATURE PAGE TO AGREEMENT AND PLAN OF MERGER]

ANNEX A
Conditions to the Offer

     The capitalized terms used but not defined in this Annex A and which are defined in the attached Agreement and Plan of Merger shall have the meanings ascribed to such terms in such attached agreement. Notwithstanding any other provision of the Offer, Merger Sub shall not be required to accept for payment or, subject to any applicable rules and regulations of the SEC, including Rule 14e-1(c) promulgated under the Exchange Act (relating to Merger Sub’s obligation to pay for or return tendered Shares promptly after termination or withdrawal of the offer), pay for, and may postpone the acceptance for payment of and payment for Shares tendered, and, except as set forth in the Agreement, terminate the Offer as to any Shares not then paid for if (i) the Minimum Condition shall not have been satisfied at the scheduled expiration date of the offer or (ii) immediately prior to the expiration of the Offer, any of the following conditions shall exist:

     (a) there shall have been entered, enforced, instituted, pending, threatened, or issued by any Governmental Authority, any judgment, order, injunction, ruling, proceeding, action, suit, charge or decree: (i) which could reasonably be expected to make illegal, restrain or prohibit or make materially more costly the making of the offer, the acceptance for payment of, or payment for, any Shares by Purchaser, the Merger Sub or any other affiliate of Purchaser, or the consummation of the Merger; (ii) which could reasonably be expected to prohibit or limit the ownership or operation by the Company, Purchaser or any of their subsidiaries of all or any material portion of the business or assets of the Company, Purchaser or any of their subsidiaries, or which could reasonably be expected to compel the Company, Purchaser or any of their subsidiaries to dispose of or hold separate all or any portion of the business or assets of the Company, Purchaser or any of their subsidiaries; (iii) which could reasonably be expected to impose or confirm limitations on the ability of Purchaser, the Merger Sub or any other affiliate of Purchaser to exercise full rights of ownership of any Shares, including, without limitation, the right to vote any Shares acquired by the Purchaser pursuant to the Offer or otherwise on all matters presented to the Company’s shareholders, including, without limitation, the approval and adoption of the Agreement and the Merger; (iv) which could reasonably be expected to require divestiture by Purchaser, Merger Sub or any other affiliate of Purchaser of any Shares; or (v) which otherwise could reasonably be expected to have a Company Material Adverse Effect or a Purchaser Material Adverse Effect;

     (b) there shall have been any statute, rule, regulation, judgment, order, legislation or interpretation of any nature pending, proposed, enacted, enforced, promulgated, amended or issued by any Governmental Authority or deemed by any Governmental Authority applicable to (i) Purchaser, the Company or any subsidiary or affiliate of Purchaser or the Company or (ii) any transaction contemplated by the Agreement, which is reasonably likely to result, directly or indirectly, in any of the consequences referred to in clauses (i) through (v) of paragraph (a) above;

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     (c) there shall have occurred any changes, conditions, events or developments that would have, or be reasonably likely to have, individually or in the aggregate, a Company Material Adverse Effect;

     (d) there shall have occurred (i) any general suspension of, or limitation on prices for, trading in securities on the New York Stock Exchange or NASDAQ other than a shortening of trading hours or any coordinated trading halt triggered solely as a result of a specified increase or decrease in a market index, (ii) a declaration of a banking moratorium or any suspension of payments in respect of banks in the United States, (iii) any limitation (whether or not mandatory) on the extension of credit by banks or other lending institutions in the United States, (iv) the commencement of a war, armed hostilities or any other international or national calamity involving the United States or (v) in the case of any of the foregoing existing at the time of the commencement of the offer, a material acceleration or worsening thereof;

     (e) (i) it shall have been publicly disclosed or the Purchaser shall have otherwise learned that any person, other than Purchaser or Merger Sub, shall have acquired or entered into a definitive agreement or agreement in principle to acquire beneficial ownership (determined for the purposes of this paragraph as set forth in Rule 13d-3 promulgated under the Exchange Act) of 50% or more of the then outstanding Shares, or shall have been granted any option, right or warrant, conditional or otherwise, to acquire beneficial ownership 50% or more of any of the then outstanding Shares, or (ii) the Board of Directors of the Company, the Special Committee or any other committee thereof shall have (A) withdrawn, modified or changed, in a manner adverse to Purchaser or Merger Sub, the recommendation by such Board of Directors or approval by such committee of the Offer, the Merger or this Agreement, including, without limitation, the Minnesota Anti-Takeover Approval of the Special Committee, (B) approved or recommended, or proposed publicly to approve or recommend, a Company Takeover Proposal, (C) caused the Company to enter into any agreement relating to any Company Takeover Proposal, or (D) resolved to do any of the foregoing;

     (f) the representations and warranties of the Company set forth in the Agreement shall not be true and correct in all material respects (except that where any statement in a representation or warranty expressly includes a “material adverse effect”, “material” or other materiality qualifier, such representation or warranty shall not be true and correct in all respects) as of the date of the Agreement and as of such time on or after the date of the Agreement, except those representations and warranties that speak of an earlier date, which shall not be true and correct as of such earlier date (it being understood that, for purposes of determining the accuracy of such representations and warranties, any update of or modification to the Company Disclosure Schedule made or purported to have been made after the date of the Agreement shall be disregarded);

     (g) the Company shall have failed to perform in any material respect any obligation or to comply in any material respect with any agreement or covenant of the Company to be performed or complied with by it under the Agreement;

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     (h) all material Consents required from third parties (other than Governmental Authorities) in connection with the Agreement and the transactions contemplated thereby have not been obtained by the Company by or on the Decision Date and Purchaser has not waived all such unobtained material Consents;

     (i) the Agreement shall have been terminated in accordance with its terms;

     (j) Merger Sub and the Company shall have agreed that Merger Sub shall terminate the Offer or postpone the acceptance for payment of or payment for Shares thereunder; or

     (k) any one or more of the representations and warranties contained in any one or both of Sections 2.22(a), 2.22(c) or 2.30 of the Agreement shall have been breached in any respect or are inaccurate in any respect; which, in the good faith judgment of the Merger Sub in any such case, and regardless of the circumstances (including any action or inaction by Purchaser or any of its affiliates) giving rise to any such condition, makes it inadvisable to proceed with such acceptance for payment or payment; or

     (l) any non-competition or similar obligations of the Company could reasonably be expected to prohibit or restrict Purchaser or any of Purchaser’s subsidiaries from developing, manufacturing, marketing or selling any of the current products of Purchaser or its subsidiaries or any products of Purchaser or its subsidiaries currently in design or development.

     The foregoing conditions are for the benefit of Purchaser and Merger Sub and may be asserted by Purchaser or Merger Sub regardless of the circumstances giving rise to any such condition or may be waived by Purchaser or Merger Sub in whole or in part at any time and from time to time in their reasonable discretion. The failure by Purchaser or Merger Sub at any time to exercise any of the foregoing rights shall not be deemed a waiver of any such right; the waiver of any such right with respect to particular facts and other circumstances shall not be deemed a waiver with respect to any other facts and circumstances; and each such right shall be deemed an ongoing right that may be asserted at any time and from time to time.

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EX-99.2

STOCKHOLDERS’ AGREEMENT

     This Stockholders’ Agreement (this “Agreement”), is entered into as of September 9, 2004, and between SafeNet, Inc., a Delaware corporation (“Parent”), and Snowflake Acquisition Corp., a Minnesota corporation and wholly-owned subsidiary of Parent (“Purchaser”), on the one hand, and each of the stockholders of DataKey, Inc., a Minnesota corporation (the “Company”) set forth on Schedule 1 hereto (each a “Stockholder” and collectively, the “Stockholders”), on the other hand. Capitalized terms used herein without definition shall have the respective meanings ascribed to them in the Merger Agreement (as defined below).

R E C I T A L S

     WHEREAS, each Stockholder is, as of the date hereof, the record and beneficial owner (as defined in Rule 13d-3 under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) of (i) the number of shares of common stock, par value $0.05 per share, of the Company (together with any associated preferred stock or other rights issued pursuant to the Rights Agreement, dated as of October 26, 2001, between the Company and Wells Fargo Bank Minnesota N.A. as the same has been amended through the date hereof), (the “Common Stock”); (ii) the number of shares of convertible preferred stock, liquidation value $2.50 per share, of the Company (the “Convertible Preferred Stock”); (iii) the number of options to acquire Common Stock or Convertible Preferred Stock (the “Company Options”); and (iv) the number of warrants to acquire Common Stock or Convertible Preferred Stock (the “Company Warrants”) set forth opposite the name of such Stockholder on Schedule 1 hereto; and

     WHEREAS, Parent, Purchaser and the Company have entered into an Agreement and Plan of Merger, dated as of the date hereof (the “Merger Agreement”), which provides, among other things, for (a) Purchaser to commence a tender offer for all of the issued and outstanding shares of Common Stock and Convertible Preferred Stock (the “Offer”) and (b) the merger of Purchaser with and into the Company with the Company continuing as the surviving corporation (the “Merger”), in each case upon the terms and subject to the conditions set forth in the Merger Agreement; and

     WHEREAS, as a condition to the willingness of Parent and Purchaser to enter into the Merger Agreement and as an inducement and in consideration therefor, the Stockholders have agreed to enter into this Agreement.

     NOW, THEREFORE, in consideration of the foregoing and the mutual covenants and agreements set forth herein and in the Merger Agreement, and intending to be legally bound hereby, the parties hereto agree as follows:

     Section 1. Representations and Warranties of the Stockholders. Each Stockholder hereby represents and warrants to Parent, severally and not jointly, as set forth below:

     (a) Such Stockholder is the record and beneficial owner (as defined in Rule 13d-3 under the Exchange Act) of the shares of Common Stock and/or Convertible Preferred Stock set forth opposite his or its name on Schedule 1 to this Agreement (such shares of Common Stock and/or Convertible Preferred Stock, together with any Common Stock and Convertible Preferred

Stock acquired by the Stockholder after the date of this Agreement, whether Shares acquired by way of exercise of Company Options, Company Warrants or other rights to purchase Common Stock or Convertible Preferred Stock or by way of dividend, distribution, exchange, merger, consolidation, grant of proxy or otherwise, but excluding shares owned by other Stockholders, all as may be adjusted from time to time pursuant to Section 6 hereof, the “Shares”). Schedule 1 to this Agreement lists separately all Company Options and Company Warrants issued to such Stockholder. Such Stockholder is the record and beneficial owner of the Company Options and Company Warrants set forth opposite such Stockholder’s name on Schedule 1 to this Agreement.

     (b) Such Stockholder has voting power, power of disposition, power of conversion (in respect of the Convertible Preferred Stock) and power to agree to all of the matters regarding such Stockholder set forth in this Agreement, in each case with respect to all of the Shares, with no limitations, qualifications or restrictions on such right. Such Stockholder is not the record or beneficial owner of any securities of the Company on the date hereof other than the Shares and the Company Options and Company Warrants set forth on Schedule 1.

     (c) Such Stockholder has the legal capacity to execute and deliver this Agreement and to consummate the transactions contemplated hereby regarding such Stockholder.

     (d) This Agreement has been validly executed and delivered by such Stockholder and, assuming due and valid authorization, execution and delivery thereof by Parent and Purchaser, constitutes the legal, valid and binding obligation of such Stockholder, enforceable against such Stockholder in accordance with its terms, except (i) as limited by applicable bankruptcy, insolvency, reorganization, moratorium and other laws of general application affecting enforcement of creditors’ rights generally, and (ii) the availability of the remedy of specific performance or injunctive or other forms of equitable relief may be subject to equitable defenses and would be subject to the discretion of the court before which any proceeding therefor may be brought.

     (e) Neither the execution and delivery of this Agreement nor the consummation of the transactions contemplated hereby will result in a violation of, or constitute (with or without due notice or lapse of time or both) a default under, or conflict with, or give rise to any right of termination, cancellation or acceleration under any contract, trust, note, bond, mortgage, indenture, license, agreement, or material contractual restriction or obligation of any kind to which such Stockholder is a party or by which such Stockholder or his or its Shares are bound, which singularly or in the aggregate, would prevent or adversely affect the ability of such Stockholder to perform his or its obligations under this Agreement. The consummation of the transactions contemplated hereby will not violate, or require any consent, approval or notice (except those required under applicable securities laws) under, any provision of any judgment, order, injunction, decree, statute, law, rule or regulation applicable to such Stockholder which, singularly or in the aggregate, would prevent or adversely affect the ability of such Stockholder to perform his or its obligations under this Agreement.

     (f) In the case of any Stockholder that is a corporation, limited partnership or limited liability company, such Stockholder is an entity duly organized and validly existing under the laws of the jurisdiction in which it is incorporated or constituted, and each such Stockholder has

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all requisite power and authority to execute and deliver this Agreement and to consummate the transactions contemplated hereby regarding such Stockholder, and has taken all necessary corporate action to authorize the execution, delivery and performance of this Agreement.

     (g) The Shares owned by such Stockholder are now, and at all times during the term hereof will be, held by such Stockholder or by a nominee or custodian for the benefit of such Stockholder, free and clear of all liens, claims, security interests, proxies, voting trusts, agreements, options, rights, understandings or arrangements or any other encumbrances whatsoever on title, transfer or exercise of any rights of a Stockholder in respect of such Shares (collectively, “Encumbrances”), except for any such Encumbrances arising hereunder, and the transfer of the Shares held by such Stockholders hereunder will effectively vest in Purchaser valid and marketable title to such Shares, free and clear of any Encumbrances.

     (h) Each Stockholder whose Shares are subject to community property interests under the laws of any jurisdiction has agreed to have executed and delivered to Parent such consents, waivers and approvals as are necessary for the execution of this Agreement and the approval and consummation of the transactions contemplated hereby regarding such Stockholder.

     (i) Such Stockholder understands and acknowledges that Parent and Purchaser are entering into the Merger Agreement in reliance upon such Stockholder’s execution and delivery of this Agreement.

     Section 2. Representations and Warranties of Parent and Purchaser. Each of Parent and Purchaser hereby represents and warrants to the Stockholders, jointly and severally, as follows:

     (a) Each of Parent and Purchaser is a corporation duly organized and validly existing under the laws of the State of Delaware and the State of Minnesota, respectively, has all requisite corporate power and authority to execute and deliver this Agreement and to consummate the transactions contemplated hereby and has taken all necessary corporate action to authorize the execution, delivery and performance of this Agreement.

     (b) This Agreement has been duly authorized, executed and delivered by each of Parent and Purchaser and, assuming due and valid authorization, execution and delivery thereof by a Stockholder, constitutes the legal, valid and binding obligation of each of Parent and Purchaser, enforceable by such Stockholder against each of them in accordance with its terms, except (i) as limited by applicable bankruptcy, insolvency, reorganization, moratorium and other laws of general application affecting enforcement of creditors’ rights generally and (ii) the availability of the remedy of specific performance or injunctive or other forms of equitable relief may be subject to equitable defenses and would be subject to the discretion of the court before which any proceeding therefor may be brought.

     (c) Neither the execution and delivery of this Agreement nor the consummation of the transactions contemplated hereby will result in a violation of, or constitute (with or without due notice or lapse of time or both) a default under, or conflict with, or give rise to any right of termination, cancellation or acceleration under any material contract, trust, note, bond, mortgage,

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indenture, license, agreement or contractual restriction or obligation of any kind to which Parent and Purchaser is a party which, singularly or in the aggregate, would prevent or adversely affect the ability of Parent and Purchaser to perform its obligations under this Agreement. The consummation of the transactions contemplated hereby will not violate, or require any consent, approval or notice (except those required under applicable securities laws) under, any provision of any judgment, order, injunction, decree, statute, law, rule or regulation applicable to Parent and Purchaser which, singularly or in the aggregate, would prevent or materially adversely affect the ability of Parent and Purchaser to perform its obligations under this Agreement.

     Section 3. Tender of the Shares.

     (a) Each Stockholder hereby agrees that, subject to the terms and conditions of Section 8 hereof, (a) such Stockholder shall validly tender, or cause to be validly tendered, pursuant to and in accordance with the terms of the Offer, his or its Shares into the Offer as promptly as practicable, and in any event no later than the fifth business day following the commencement of the Offer pursuant to Section 1.1 of the Merger Agreement (except for those Shares issued upon the exercise of Company Options, Company Warrants or other rights to acquire shares of Common Stock or Convertible Preferred Stock after such date, which shall be validly tendered, or caused to be validly tendered, as promptly as practicable following such exercise, which exercise shall be effected by the holder within five business days following commencement of the Offer) and receipt of the applicable tender offer documentation and (b) such Stockholder shall not withdraw any Shares so tendered unless this Agreement is terminated or the Offer is terminated or has expired without Purchaser purchasing all Shares validly tendered in the Offer and not withdrawn. Notwithstanding the foregoing, each Stockholder may decline to tender, or may withdraw, any and all of such Stockholders’ Shares if, without the consent of such Stockholder, Purchaser amends the Offer to (i) reduce the Offer Price, (ii) reduce the number of Shares subject to the Offer, (iii) change the form of consideration payable in the Offer or (iv) amend or modify any term or condition of the Offer in a manner adverse to the stockholders of the Company (other than insignificant changes or amendments or other than to waive any condition other than the Minimum Condition). Each Stockholder shall give Purchaser at least two (2) business days’ prior notice of any withdrawal of its Shares pursuant to the immediately preceding proviso. Notwithstanding anything herein to the contrary, the holders of the Convertible Preferred Stock shall retain the option and right to instruct the tender agent to take all steps necessary to convert their shares into Common Stock at any time prior to the Purchase of such shares in the Offer.

     (b) Notwithstanding the foregoing, at no time and in no event shall the total number of shares restricted pursuant to Section 3(a) hereof exceed nineteen and nine-tenths percent (19.9%) of the outstanding capital stock of the Company, including but not limited to the Shares (the “Maximum Restricted Amount”). In the event that the total number of shares exceeds the Maximum Restricted Amount, Purchaser may, in its sole and absolute discretion determine which Shares shall be restricted pursuant to Section 3(a). Prior to any proposed transfer restricted by Section 3(a) hereof, each Stockholder shall provide written notice to Purchaser at least forty-eight (48) hours prior to the proposed transfer. Such notice shall include the number and class of Shares (including Company Options and Company Warrants) to be transferred, the price per share, and the proposed transferee. If the Shares so restricted have not yet exceeded the

4

Maximum Restricted Amount, then Purchaser may restrict such proposed transfer as provided herein. If Shares upon which such restrictions have already been imposed equal or exceed the Maximum Restricted Amount, then Purchaser may not enforce the restrictions on transfer or voting imposed by this Agreement. Purchaser, in its reasonable discretion, shall make the determination of whether Shares subject to restriction pursuant to this Section 3 have equaled or exceeded the Maximum Restricted Amount. Regardless of whether the Maximum Restricted Amount has been reached, the notice provision of this Section 3(b) shall apply until termination of this Agreement.

     Section 4. Transfer of the Shares.

     (a) Prior to the termination of this Agreement and except as otherwise provided herein, each of the Stockholders agrees that it shall not: (i) transfer, assign, sell, gift-over, pledge, hypothecate, encumber or otherwise dispose of, or consent to any of the foregoing (“Transfer”), any or all of the Shares, Company Options, Company Warrants or other rights to acquire Common Stock or Convertible Preferred Stock or any right or interest therein; (ii) enter into any contract, option or other agreement, arrangement or understanding with respect to any Transfer; (iii) grant any proxy, power-of-attorney or other authorization or consent with respect to any of the Shares; (iv) deposit any of the Shares into a voting trust, or enter into a voting agreement or arrangement with respect to any of the Shares or (v) take any other action that would in any way restrict, limit or interfere with the performance of such Stockholder’s obligations hereunder or the transactions contemplated hereby or make any representation or warranty of such Stockholder untrue or incorrect.

     (b) Each Stockholder agrees, promptly following request of Parent, to surrender to the Company, or to the transfer agent for the Company, certificates evidencing the Shares, and shall cause the Company or the transfer agent for the Company to place the following legend on any and all certificates evidencing the Shares:

THE SHARES OF DATAKEY, INC. [COMMON STOCK][CONVERTIBLE PREFERRED STOCK] REPRESENTED BY THIS CERTIFICATE ARE SUBJECT TO CERTAIN RESTRICTIONS ON TRANSFER PURSUANT TO THAT CERTAIN STOCKHOLDERS’ AGREEMENT, DATED AS OF SEPTEMBER 9, 2004, BY AND AMONG SAFENET, INC., SNOWFLAKE ACQUISITION CORP. AND CERTAIN STOCKHOLDERS OF DATAKEY, INC. ANY TRANSFER OF SUCH SHARES OF DATAKEY, INC. [COMMON STOCK] [CONVERTIBLE PREFERRED STOCK] IN VIOLATION OF THE TERMS AND PROVISIONS OF SUCH AGREEMENT SHALL BE NULL AND VOID AND OF NO EFFECT WHATSOEVER.

     Section 5. Voting Arrangements; Irrevocable Proxy.

     (a) Each Stockholder hereby agrees that, during the time this Agreement is in effect, at any meeting of the stockholders of the Company (a “Company Stockholders’ Meeting”), however called, and at every adjournment or postponement thereof, he, she or it shall (i) appear at the meeting or otherwise cause his or its Shares to be counted as present thereat for purposes of establishing a quorum; (ii) vote, or execute consents in respect of, his or its Shares, or cause

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his or its Shares to be voted, or consents to be executed in respect thereof, in favor of the approval and adoption of the Merger Agreement (including any revised or amended Merger Agreement that has been agreed to by the Company) and the Merger, and any action required in furtherance thereof and (iii) vote, or execute consents in respect of, his or its Shares, or cause his or its Shares to be voted, or consents to be executed in respect thereof, against (A) any agreement or transaction relating to any Acquisition Proposal (other than as proposed by Parent or Purchaser) or (B) any amendment of the Company’s Articles of Incorporation or Bylaws or other proposal, action or transaction involving the Company or any of its subsidiaries or any of its stockholders, which amendment or other proposal, action or transaction could reasonably be expected to prevent or materially impede or delay the consummation of the Offer or Merger or the other Transactions or the consummation of the transactions contemplated by this Agreement or to deprive Parent of any material portion of the benefits anticipated by Parent to be received from the consummation of the Merger or the other transactions contemplated by this Agreement or change in any manner the rights of the Common Stock or Convertible Preferred Stock (collectively, “Frustrating Transactions”) presented to the stockholders of the Company (regardless of any recommendation of the Board of Directors of the Company) or in respect of which vote or consent of the Stockholder is requested or sought, unless such transaction has been approved in advance by Parent or Purchaser. Notwithstanding the foregoing, at no time and in no event shall the Shares restricted pursuant to this Section 5 exceed 19.9% of the outstanding capital stock of the Company (the “Maximum Restricted Vote Amount”).

     (b) Subject to the provisions set forth in Section 8 hereof and as security for the Stockholders’ obligations under Section 5(a), each of the Stockholders hereby irrevocably constitutes and appoints Parent, Kevin Hicks and its or his designees as his or its attorney and proxy in accordance with the Minnesota Business Corporation Act (the “MBCA”), with full power of substitution and resubstitution, to cause the Stockholder’s shares to be counted as present at any Company Stockholders’ Meetings, to vote his or its Shares at any Company Stockholders’ Meeting, however called, and to execute consents in respect of his or its Shares as and to the extent provided in Section 5(a). SUBJECT TO THE PROVISIONS SET FORTH IN SECTION 8 HEREOF THIS PROXY AND POWER OF ATTORNEY IS IRREVOCABLE AND COUPLED WITH AN INTEREST. Each Stockholder hereby agrees not to grant any subsequent proxy or power of attorney with respect to such Stockholder’s Shares. In the event that the aforementioned attorney and proxy determines that the number of shares subject to this subparagraph exceeds the Maximum Restricted Vote Amount, then such attorney and proxy shall release the excess shares from the restrictions of this Section 5. The attorney and proxy shall determine, in his sole and absolute discretion, which shares shall be released and, upon its or his determination shall notify holders of released shares. Upon such release, such stockholders shall be entitled to vote such shares or to direct the attorney and proxy to vote such shares at their direction. Purchaser, in its reasonable discretion, shall make the determination of whether Shares subject to restriction pursuant to this Section 5 have equaled or exceeded the Maximum Restricted Vote Amount.

     (c) Each Stockholder represents that any proxies heretofore given in respect of the Shares, if any, are revocable, and have been revoked.

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     (d) Each Stockholder hereby affirms that the proxy set forth in this Section 5 is given in connection with the execution of the Merger Agreement, and that such proxy is given to secure the performance of the duties of such Stockholder under this Agreement. Such Stockholder hereby further affirms that the proxy is coupled with an interest and, except as set forth in this Section or in Section 8, is intended to be irrevocable in accordance with the provisions of Section 302A.449 of the MBCA. Each Stockholder hereby agrees that, if for any reason the proxy granted herein is not irrevocable (subject to the terms of this Agreement), then such Stockholder agrees to vote his or its Shares in accordance with Section 5(a) above as instructed by Parent in writing. The parties agree that the foregoing is a voting agreement created under Section 302A.455 of the MBCA.

     Section 6. Voting Provisions. To the extent that a stockholder has dispositive power, but not voting power, over any of its shares of Common Stock or Convertible Preferred Stock, Section 5 of this Agreement shall only apply to the shares of Common Stock or Convertible Preferred Stock held by such stockholder over which such stockholder retains voting power.

     Section 7. Certain Events. In the event of any change in the Common Stock, Convertible Preferred Stock by reason of a stock dividend, stock split, split-up, recapitalization, reorganization, business combination, consolidation, exchange of shares, or any similar transaction or other change in the capital structure of the Company affecting the Common Stock or Convertible Preferred Stock or the acquisition of additional shares of Common Stock, Convertible Preferred Stock or other securities or rights of the Company by any Stockholder, this Agreement and the obligations hereunder shall attach to any additional shares of Common Stock, Convertible Preferred Stock or other securities or rights of the Company issued to or acquired by each of the Stockholders.

     Section 8. Further Assurances. Each Stockholder shall, upon request of Parent or Purchaser, execute and deliver any additional documents and take such further actions as may reasonably be deemed by Parent or Purchaser to be necessary or desirable to carry out the provisions hereof and to vest in Parent the power to vote the Shares as contemplated by Section 5.

     Section 9. Termination. This Agreement, and all rights and obligations of the parties hereunder, shall terminate immediately upon the termination of the Merger Agreement by Parent or otherwise upon the earlier to occur of (a) termination of the Merger Agreement by the Company and (b) December 31, 2004; and provided, however, that Section 9 hereof shall survive any termination of this Agreement.

     Section 10. Expenses. All fees, costs and expenses incurred in connection with this Agreement and the transactions contemplated hereby shall be paid by the party incurring such fees, costs and expenses.

     Section 11. Public Announcements. Each of the Stockholders agrees that it will not issue any press release or otherwise make any public statement with respect to this Agreement or the transactions contemplated hereby or by the Merger Agreement without the prior consent of Parent; provided, however, that such disclosure may be made without obtaining such prior

7

consent if (i) the disclosure is required by law or is required by any regulatory authority, including but not limited to any Governmental Entity, or the Nasdaq National Market and any national securities exchange, trading market or inter-dealer quotation system on which the Shares trade and (ii) the Stockholder making such disclosure has first used all reasonable efforts to consult with Parent about the form and substance of such disclosure.

Section 12. Miscellaneous.

     (a) Notices. All notices and other communications hereunder shall be in writing and shall be deemed given if delivered personally, telecopied (which is confirmed) or sent by a nationally recognized overnight courier service, such as Federal Express (providing proof of delivery), to the parties at the following addresses (or at such other address for a party as shall be specified by like notice):

           If to any of the Stockholders, at the address set forth opposite the name of such Stockholder on Schedule 1 hereto:

With a copy (which shall not constitute notice) to:

If to Parent or Purchaser, to:

SafeNet, Inc.
4690 Millennium Drive
Belcamp, Maryland 21017
Attention: Kevin Hicks
Director of Legal Affairs
Telephone: (443) 327-1262
Facsimile: (443) 327-1223

With a copy (which shall not constitute notice) to:

Venable LLP
8010 Towers Crescent Drive, Suite 300
Vienna, VA 22182
Attention: Elizabeth R. Hughes
Telephone: (703) 760-1649
Facsimile: (703) 821-8949

     (b) Headings. The headings contained in this Agreement are for reference purposes only and shall not affect in any way the meaning or interpretation of this Agreement.

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     (c) Counterparts. This Agreement may be executed manually or by facsimile by the parties hereto in any number of counterparts, each of which shall be considered one and the same agreement.

     (d) Entire Agreement. This Agreement (together with the Merger Agreement and any other exhibits, annexes, schedules, documents and instruments referred to herein and therein or contemplated thereby or therein) constitutes the entire agreement among the parties with respect to the subject matter hereof and thereof and supersedes all other prior agreements and understandings, both written and oral, among the parties or any of them with respect to the subject matter hereof and thereof.

     (e) Governing Law; Venue. This Agreement shall be governed by and construed in accordance with the laws of the State of Delaware, without giving effect to the principles of conflicts of law thereof. Each of the parties hereto (i) consents to submit itself to the personal jurisdiction of any federal court located in the State of Delaware or any Delaware state court in the event any dispute arises out of this Agreement or any of the Transactions, (ii) agrees that it shall not attempt to deny or defeat such personal jurisdiction by motion or other request for leave from any such court and (iii) agrees that it shall not bring any action relating to this Agreement or any of the Transactions in any court other than a federal or state court sitting in the State of Delaware.

     (f) Assignment. Neither this Agreement nor any of the rights, interests or obligations hereunder shall be assigned by any of the parties hereto (whether by operation of law or otherwise) without the prior written consent of the other parties except that Parent or Purchaser may assign, in its sole discretion and without the consent of any other party, any or all of their rights, interests and obligations hereunder to each other or to one or more direct or indirect wholly owned subsidiaries of Parent (each, an “ASSIGNEE”). Any such Assignee may thereafter assign, in its sole discretion and without the consent of any other party, any or all of its rights, interests and obligations hereunder to one or more additional Assignees. Subject to the preceding sentence, this Agreement will be binding upon, inure to the benefit of and be enforceable by, the parties and their respective successors and assigns, and the provisions of this Agreement are not intended to confer upon any person other than the parties hereto any rights or remedies hereunder.

     (g) Severability of Provisions. If any term or provision of this Agreement is invalid, illegal or incapable of being enforced by rule of law or public policy, all other conditions and provisions of this Agreement shall nevertheless remain in full force and effect so long as the economic or legal substance of the transactions contemplated by this Agreement is not affected in any manner adverse to any party. Upon such determination that any term or other provision is invalid, illegal or incapable of being enforced, the parties hereto shall negotiate in good faith to modify this Agreement so as to effect the original intent of the parties as closely as possible in an acceptable manner to the end that the transactions are fulfilled to the extent possible.

     (h) Specific Performance. The parties hereto acknowledge that money damages would be an inadequate remedy for any breach of this Agreement by any party hereto, and that

9

the obligations of the parties hereto shall be enforceable by any party hereto through injunctive or other equitable relief.

     (i) Amendment. No amendment, modification or waiver in respect of this Agreement shall be effective against any party unless it shall be in writing and signed by such party.

     (j) Binding Nature. This Agreement is binding upon and is solely for the benefit of the parties hereto and their respective successors, legal representatives and assigns.

[SIGNATURE PAGE FOLLOWS]

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\

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

PARENT: SAFENET, INC.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

PURCHASER: SNOWFLAKE ACQUISITION CORP.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER: NORWEST EQUITY PARTNERS V By: Itasca Partners I, LLP
By:	/s/ John Whaley
	Name:	John Whaley
	Title:	Partner

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER: PERKINS CAPITAL MANAGEMENT, INC.
By:	/s/ Richard C. Perkins
	Name:  Richard C. Perkins
	Title:    Vice President

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER:
 

/s/ Timothy L. Russell  

Timothy L. Russell 

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER:
 

/s/ Terrence W. Glarner  

Terrence W. Glarner 

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER:
 

/s/ Thomas R. King  

Thomas R. King 

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER:
 

/s/ Eugene W. Courtney  

Eugene W. Courtney 

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER:
 

/s/ Christopher A. Schwartzbauer  

Christopher A. Schwartzbauer 

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

     IN WITNESS WHEREOF, Parent, Purchaser and the Stockholders have caused this Agreement to be duly executed and delivered as of the date first written above.

STOCKHOLDER:
 

/s/ David A. Feste  

David A. Feste 

[SIGNATURE PAGE TO STOCKHOLDERS’ AGREEMENT]

EX-99.3

STOCK OPTION AGREEMENT

     This Stock Option Agreement, is dated as of September 9, 2004, and entered into by and among SafeNet, Inc. a Delaware corporation (“Parent”), Snowflake Acquisition Corporation, a Minnesota corporation and a wholly-owned subsidiary of Parent (the “Purchaser”), and DataKey, Inc., a Minnesota corporation (the “Company”).

     WHEREAS, the Company, Parent and the Purchaser are entering into an Agreement and Plan of Merger (the “Merger Agreement”) of even date herewith providing for (a) a cash tender offer to purchase any and all outstanding shares of (i) common stock, par value $0.05 per share of the Company (the “Common Stock”), and (ii) Convertible Preferred stock, liquidation value $2.50 per share, of the Company (the “Convertible Preferred Stock” and, together with the Common Stock, the “Shares”) at a price of $0.65 per Share for the Common Stock and $2.50 per Share for the Convertible Preferred Stock, net to the seller in cash without interest thereon, upon the terms and subject to the conditions set forth in the Merger Agreement (the “Offer”); and (b) the merger (the “Merger”) of the Purchaser with and into the Company; and

     WHEREAS, as a condition to the willingness of Parent and the Purchaser to enter into the Merger Agreement and commence the Offer, Parent and Purchaser have requested, and the Company has agreed to grant the Purchaser, the option to purchase, as described herein, authorized but unissued shares of Common Stock and/or Convertible Preferred Stock.

     NOW THEREFORE, in consideration of the foregoing and the mutual covenants and agreements set forth herein, and for other good and valuable consideration the sufficiency of which is hereby acknowledged, the parties agree as follows:

     1. Grant of Option. On the terms and subject to the conditions of this Agreement, the Company hereby grants to the Purchaser an irrevocable option (the “Option”) to purchase for the Offer Price, as defined in the Merger Agreement (the “Purchase Price”), shares of Common Stock and/or Convertible Preferred Stock, in such relative amounts as shall be determined by Purchaser in its discretion, up to such number of shares which, upon exercise, would result in Purchaser owning in excess of ninety percent (90%) of the then-outstanding shares of Common Stock and Convertible Preferred Stock on as-converted, fully-diluted basis (collectively, the “Optioned Shares”); provided, that the number of shares of Convertible Preferred Stock issuable under the Option may not exceed the number of authorized shares of Convertible Preferred Stock available for issuance.

     2. Exercise of Option. Subject to the immediately succeeding sentence, the Option may be exercised by the Purchaser, in whole or in part, at any time or from time to time after Purchaser has purchased Shares pursuant to the Offer and until the earlier of (a) immediately following the Closing Date (as defined in the Merger Agreement) and (b) the termination of the Merger Agreement in accordance with its terms. The exercise of the Option for Common Stock is conditioned upon the Purchaser and the Parent owning in the aggregate, immediately following such exercise, at least ninety percent (90%) of the outstanding shares of Common Stock, and the exercise of the Option for Convertible Preferred Stock is conditioned upon the

Purchaser and Parent owning in the aggregate, immediately following such exercise, at least ninety percent (90%) of the outstanding shares of Convertible Preferred Stock. In the event the Purchaser wishes to exercise the Option, the Purchaser shall give a written notice (the “Notice”) to the Company of its intention to exercise the Option, specifying the number of Optioned Shares to be purchased. Such notice shall be delivered to the Company in accordance with the requirements of Section 7(d), and shall specify a date (which may be the date of such notice) not more than ten (10) business days from the date such Notice is given for the purchase of the Optioned Shares. The closing (the “Closing”) of the purchase of the Optioned Shares shall take place at the offices of Venable LLP, 8010 Towers Crescent Drive, Suite 300, Vienna, Virginia 22182, or at such other location as the Purchaser shall elect. If any decree, injunction, order, law or regulation shall not permit the purchase of the Optioned Shares to be consummated on the date specified in such Notice, the date for the Closing shall be as soon as practicable following the cessation of such restriction on consummation, but in any event within two (2) business days thereof.

     3. Payment and Delivery of Certificate(s). At any Closing hereunder, (a) the Purchaser shall make payment to the Company of the aggregate price for the par value (or for preferred stock the liquidation value) of the Optioned Shares so purchased in official bank check or by wire transfer to a bank designated in writing by the Company; (b) the Purchaser shall deliver to the Company a Promissory Note substantially in the form attached hereto as Exhibit A (the “Note”) for the aggregate price for the Optioned Shares so purchased less the amount paid in accordance with clause 3(a); and (c) the Company shall deliver to the Purchaser a certificate or certificates representing the number of Optioned Shares so purchased registered in the name of the Purchaser. Certificates for Optioned Shares delivered at the Closing may be endorsed with a restrictive legend that shall read substantially as follows:

“THE SECURITIES OFFERED HEREBY ARE SUBJECT TO RESTRICTIONS ON TRANSFERABILITY AND RESALE AND MAY NOT BE TRANSFERRED OR RESOLD EXCEPT AS PERMITTED UNDER THE SECURITIES ACT OF 1933 AND APPLICABLE STATE SECURITIES LAWS, PURSUANT TO REGISTRATION OR EXEMPTION THEREFROM.”

     It is understood and agreed that the reference to the resale restrictions of the Securities Act of 1933, as amended (the “Act”), in the above legend shall be removed by delivery of substitute certificate(s) without such reference if Parent shall have delivered to the Company a copy of a letter from the staff of the Securities and Exchange Commission, or an opinion of counsel or other evidence reasonably satisfactory to the Company, to the effect that registration of the future resale of the Optioned Shares is not required and that such legend is not required for purposes of the Act.

     4. Representations and Warranties of the Company. The Company hereby represents and warrants (such representations and warranties being deemed repeated at and as of any Closing hereunder) to Parent and the Purchaser as follows:

2

          (a) Due Incorporation. The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Minnesota and has the requisite corporate power and authority to enter into and perform this Agreement.

          (b) Due Authorization, etc. This Agreement and the consummation of the transactions contemplated hereby have been duly authorized by all necessary corporate action on the part of the Company. This Agreement has been duly executed and delivered by a duly authorized officer of the Company and constitutes the valid and binding obligation of the Company, enforceable against the Company in accordance with its terms.

          (c) Company’s Capital Stock. The Company has taken all necessary corporate action to authorize and reserve for issuance upon exercise of the Option the Optioned Shares, and at all times from the date hereof through the date of termination of this Agreement will keep reserved for issuance upon exercise of the Option that number of shares of Common Stock that the Purchaser is then entitled to purchase pursuant to the Option. The shares of Common Stock and/or Convertible Preferred Stock to be issued upon due exercise, in whole or in part, of the Option shall, when issued, be validly issued, fully-paid and non-assessable, and shall be delivered free and clear of all claims, liens, encumbrances and security interests, including any preemptive right of any of the stockholders of the Company.

     5. Representations and Warranties of the Purchaser and Parent. Parent and the Purchaser hereby jointly and severally represent and warrant (such representations and warranties being deemed repeated at and as of any Closing hereunder) to the Company as follows:

          (a) Due Incorporation. Each of Parent and the Purchaser is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware and the State of Minnesota, respectively, and has the requisite corporate power and authority to enter into and perform this Agreement.

          (b) Due Authorization, etc. This Agreement and the consummation of the transactions contemplated hereby have been duly authorized by all necessary corporate action on the part of the Purchaser and Parent. This Agreement has been duly executed and delivered by a duly authorized officer of the Purchaser and of Parent, and constitutes the valid and binding obligation of the Purchaser and of Parent, enforceable against each in accordance with its terms.

          (c) Distribution. The Purchaser acknowledges and agrees that the Optioned Shares have not been registered, and that the Company is under no obligation to register, the Optioned Shares under the Act or any state securities laws. The Purchaser is acquiring the Option and will acquire the Optioned Shares to be purchased upon exercise of the Option for its own account and not with a view to the distribution thereof within the meaning of the Act. The foregoing representation and warranty shall be made by any assignee under Section 7(a) and shall be binding upon such assignee.

     6. Adjustment Upon Changes in Capitalization. In the event of any change in the shares of the Company’s capital stock by reason of any stock dividend, stock split, merger,

3

recapitalization, combination, conversion, exchange of shares, issuance of shares (or agreements or commitments to issue shares) or the like, the number of Optioned Shares subject to the Option and the purchase price per Optioned Share shall be appropriately and equitably adjusted.

     7. Miscellaneous.

          (a) Assignment; Guarantee of the Purchaser’s Obligations. This Agreement shall not be assigned by the Purchaser, except to Parent or a wholly-owned subsidiary of Parent, without the prior written consent of the Company. Parent hereby unconditionally guarantees the full and punctual performance by Purchaser of all of the obligations of Purchaser or any of its assignees hereunder and under the Note. In connection with the obligations of Parent under the immediately preceding sentence, Parent hereby waives any and all rights, notices and defenses to which it otherwise would be entitled solely in its capacity as a guarantor under this Agreement or the Note.

          (b) Amendments. This Agreement may not be modified, amended, altered or supplemented except upon the execution and delivery of a written agreement executed by the parties hereto.

          (c) Survival of Representations, etc. All representations, warranties and agreements in this Agreement shall survive the Closing.

          (d) Notices. All notices, requests, claims, demands and other communications hereunder shall be in writing and shall be given (and shall be deemed to have been duly received if so given) by delivery, by cable, telegram or telex, or by mail (registered or certified mail, postage prepaid, return receipt requested) to the respective parties as follows:

If to the Company:

DataKey, Inc.
407 West Travelers Trail
Minneapolis, Minnesota 55337
Attention: David A. Feste
Facsimile: (952) 890-6850

With a copy (which shall not constitute notice) to:

Fredrikson & Byron, P.A.
200 South 6^th Street, #400
Minneapolis, Minnesota 55402-1425
Attention: Tom King, Esq.
Facsimile: 612-492-7077

If to Parent or Purchaser, to:

SafeNet, Inc.

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4690 Millennium Drive
Belcamp, Maryland 21017
Attention: Kevin Hicks
Director of Legal Affairs
Telephone: (443) 327-1262
Facsimile: (443) 327-1223

With a copy (which shall not constitute notice) to:

Venable LLP
8010 Towers Crescent Drive, Suite 300
Vienna, VA 22182
Attention: Elizabeth R. Hughes
Telephone: (703) 760-1649
Facsimile: (703) 821-8949

or to such other address as either party may have furnished to the other in writing in accordance herewith, except that notices of change of address shall be effective only upon receipt.

          (e) Governing Law. This Agreement shall be governed by and construed in accordance with the substantive law of the State of Delaware without giving effect to the principles of conflict of laws thereof. Each of the parties hereto (i) consents to submit itself to the personal jurisdiction of any federal court located in the State of Delaware or any Delaware state court in the event any dispute arises out of this Agreement or any of the transactions related hereto, (ii) agrees that it shall not attempt to deny or defeat such personal jurisdiction by motion or other request for leave from any such court and (iii) agrees that it shall not bring any action relating to this Agreement or any of the transactions related hereto in any court other than a federal or state court sitting in the State of Delaware.

          (f) Counterparts. This Agreement may be executed in several counterparts, each of which shall be an original, but all of which together shall constitute one and the same agreement.

          (g) Effect on Headings. The Section headings herein are for convenience only and shall not effect the construction hereof.

          (h) Entire Agreement. This Agreement constitutes the entire agreement among the parties with respect to the matters referred to herein and supersedes all prior agreements or understandings, both written or oral, among the parties, or any of them, with respect to the subject matter hereof.

          (i) Specific Performance. Purchaser, Parent and the Company each acknowledge and agree that the other would be irreparably damaged in the event any of the provisions of this Agreement were not performed by it in accordance with the specific terms or

5

were otherwise breached. The Company agrees that if for any reason the Company shall have failed to issue Optioned Shares or to perform any of its other obligations under the Agreement, then the Purchaser and Parent shall be entitled to specific performance and injunctive and other equitable relief and the Company agrees to waive any requirement for the securing or posting of a bond in connection with the obtaining of any such injunctive or other equitable relief. This provision is without prejudice to any other rights the Purchaser and Parent may have against the Company for any failure to perform its obligations under this Agreement.

6

          IN WITNESS WHEREOF, Parent, the Purchaser and the Company have caused this Purchaser Option Agreement to be duly executed on the day and year first above written.

SAFENET, INC.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

SNOWFLAKE ACQUISITION CORP.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

DATAKEY, INC.
By:	/s/ Timothy L. Russell
	Name:	Timothy L. Russell
	Title:	President and Chief Executive Officer

[SIGNATURE PAGE TO STOCK OPTION AGREEMENT]

EXHIBIT A
NON-TRANSFERABLE PROMISSORY NOTE

     FOR VALUE RECEIVED, Snowflake Acquisition Corporation, a Minnesota corporation (“the Maker”), hereby promises to pay to DataKey, Inc., a Minnesota corporation, the principal amount of [   ] ($                   )], with no interest, on [six months after the date of exercise] by wire transfer of immediately available funds to an account designated by the payee. The amount due hereunder shall be payable in money of the United States of America lawful at such time for the payment of public and private debts.

     The Maker hereby waives presentment, diligence, protest and demand, notice of protest, demand, dishonor and nonpayment of this Note, and all other notices of any kind in connection with the delivery, acceptance, performance, default or enforcement of this Note.

     This Note shall be governed by and construed in accordance with the laws of the State of Delaware without giving effect to the principles of conflicts of laws thereof.

     IN WITNESS WHEREOF, the Maker has caused this Note to be executed as of the     day of                    , 2004.

SNOWFLAKE ACQUISITION CORPORATION
 

By:  

Name:

Title:

EX-99.4

Exhibit 4
EXECUTION COPY

SECURED LOAN AGREEMENT

     This SECURED LOAN AGREEMENT (this “Agreement”) is made as of this 9th day of September, 2004 by and between DataKey, Inc., a Minnesota corporation (the “Company”) and SafeNet, Inc., a Delaware corporation (the “Purchaser”).

          A.       On October 17, 2003, the Company issued and delivered to several investors Secured Convertible Promissory Notes in a bridge financing with aggregate proceeds of $2,000,000 (hereinafter collectively referred to as the “Original Notes” and individually as an “Original Note”).

          B.       Purchaser is willing to lend the Company an aggregate of $2,181,917.81 to be used solely for the purpose of paying and satisfying in full each of the Original Notes.

     NOW, THEREFORE, in consideration of the mutual promises set forth herein, and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereby agree as follows:

1.       Issuance of Note; Loan.

          1.1       Authorization of Note; Loan.

                    (a)       The Company shall authorize the issuance to Purchaser of a Secured Promissory Note in the form attached hereto as Exhibit A in the principal amount of $2,181,917.81 (hereinafter referred to as the “Note”).

                    (b)       Subject to the terms and conditions of this Agreement, the Company and Purchaser agree that Purchaser shall loan to the Company at Closing aggregate proceeds of $2,181,917.81 by paying the holders of the Original Notes (the “Original Note Holders”) the amounts set forth opposite the name of each of the Original Note Holders in Exhibit B attached hereto in accordance with the instructions set forth in Exhibit B. In consideration of such payments, the Company agrees to issue to Purchaser the Note.

          1.2       Closing. The loan and the issuance of the Note shall take place in a closing (the “Closing”) at the offices of Purchaser’s counsel, Venable LLP, at 8010 Towers Crescent Drive, Suite 300, Vienna, Virginia 22182, or at such other place as the parties shall mutually agree. The Closing shall take place at 10:00 a.m. Eastern time on the date hereof (the “Closing Date”). On the Closing Date, the Company will deliver to the Purchaser the Note at the Closing, registered in the Purchaser’s name as stated above, against payment of the loan proceeds in lawful money of the United States of America in accordance with Section 1.1 and Exhibit B hereto. If at the Closing any of the conditions

specified in Section 5 of this Agreement shall not have been fulfilled, Purchaser shall, at its election, be relieved of all of its obligations under this Agreement without thereby waiving any other right Purchaser may have by reason of such failure or such non-fulfillment.

2.       Representations and Warranties of the Company. As a material inducement to Purchaser to enter into this Agreement, the Company hereby represents and warrants to Purchaser, except as disclosed in the Disclosure Schedules attached hereto, that:

          2.1       Organization, Good Standing and Qualification. The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Minnesota. The Company is duly qualified to transact business and is in good standing in each jurisdiction in which the failure so to qualify would have a material adverse effect on its business or properties. The Company has all required power and authority necessary to own and operate its property, to carry on its business as now conducted and presently proposed to be conducted and to carry out the transactions contemplated by this Agreement.

          2.2       Capitalization and Voting Rights.

                    (a)       The authorized capital of the Company consists, or will consist immediately prior to the Closing, of:

                              (i)       Four Hundred Thousand (400,000) shares of Convertible Preferred Stock, liquidation value $2.50 per share (the “Preferred Stock”), One Hundred Fifty Thousand (150,000) of which shares are issued and outstanding, and One Hundred Twenty Thousand (120,000) shares of Series B Preferred Stock, par value $0.05 per share (the “Series B Preferred”), none of which shares are issued and outstanding. The rights, restrictions, privileges and preferences of the Preferred Stock and the Series B Preferred are as stated in the Company’s Restated Articles of Incorporation, as amended;

                              (i) Twenty Two Million (22,000,000) shares of common stock, par value $0.05 (“Common Stock”), of which Eleven Million Seven Hundred Sixty Seven Thousand Two Hundred Fifty-Four (11,767,254) shares are issued and outstanding; and

                              (iii) Seven Million Four Hundred Eighty Thousand (7,480,000) shares that are not designated, none of which are issued and outstanding.

                    (b)       The outstanding shares of Preferred Stock and Common Stock are all duly and validly authorized and issued, fully paid and nonassessable and were issued in compliance with all applicable state and federal laws concerning the issuance of securities.

                    (c)       Except for (i) the conversion privileges of the Preferred Stock, (ii) the conversion privileges of the Original Notes, and (iii) additional rights to acquire Common Stock of the Company set forth on Schedule 2.2(c) to this Agreement, which is attached hereto and incorporated herein by reference, there are not outstanding any options, warrants, rights (including conversion or preemptive rights) or agreements for the purchase or acquisition from the Company of any shares of its capital stock.

                    (d)       The Company is not a party or subject to any agreement or understanding, and, to the Company’s knowledge, there is no agreement or

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understanding, between any persons or entities that affects or relates to the voting or giving of written consents with respect to any security or by a director of the Company.

          2.3       Subsidiaries. The Company does not presently own or control, directly or indirectly, or hold any rights to acquire, any interest in any other corporation, association or other business entity. The Company is not a participant in any joint venture, partnership or similar arrangement.

          2.4       Authorization. All corporate action necessary on the part of the Company, its officers, directors and shareholders for the authorization, execution and delivery of this Agreement, the Note, the Security Agreement in the form attached hereto as Exhibit C (the “Security Agreement”) and the Grant of Security Interest in Intellectual Property attached hereto as Exhibit D (the “IP Security Agreement” and together with the Security Agreement, the “Security Documents”) and all other agreements contemplated hereby or thereby (this Agreement, the Note, the Security Documents and all such other agreements collectively, the “Transaction Agreements”) to which the Company is a party, and the performance of all obligations of the Company hereunder and thereunder has been taken or will be taken prior to the Closing. The Transaction Agreements and other agreements contemplated thereby to which the Company is a party constitute valid and legally binding obligations of the Company, enforceable in accordance with their respective terms, except (a) as limited by applicable bankruptcy, insolvency, reorganization, moratorium and other laws affecting enforcement of creditors’ rights generally, and (b) as limited by laws relating to the availability of specific performance, injunctive relief or other equitable remedies.

          2.5       Governmental Consents. No consent, approval, order or authorization of, or registration, qualification, designation, declaration or filing with, any federal, state or local governmental authority on the part of the Company is required in connection with the consummation of the transactions contemplated by this Agreement.

          2.6       Litigation. There is no action, suit, proceeding or investigation pending or, to the Company’s knowledge, currently threatened against the Company that questions the validity of the Transaction Agreements or the right of the Company to enter into such agreements or to consummate the transactions contemplated thereby, or that might result, either individually or in the aggregate, in any material adverse changes in the business, assets or condition of the Company, financially or otherwise, or any change in the current equity ownership of the Company. The foregoing includes, without limitation, actions, suits, proceedings or investigations pending or, to the Company’s knowledge, threatened involving the prior employment of any of the Company’s employees or their obligations under any agreements with prior employers. The Company is not aware that it is a party or subject to the provisions of any order, writ, injunction, judgment or decree of any court or government agency or instrumentality. There is no action, suit, proceeding or investigation by the Company currently pending or that the Company intends to initiate.

          2.7       Patents and Trademarks.

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                    (a)       Schedule 2.7(a) to this Agreement contains a complete and accurate list of all (i) patented or registered Intellectual Property Rights (as defined below) owned or used by the Company, (ii) pending patent applications and applications for registrations of other Intellectual Property Rights filed by the Company, (iii) registered trade names and corporate names owned or used by the Company, and (iv) all licenses and other rights granted by the Company to any third party with respect to any Intellectual Property Rights. The Company owns all right, title and interest in and to all of the Intellectual Property Rights listed on Schedule 2.7(a), free and clear of all liens, encumbrances or claims of others except for licenses made in the ordinary course of business to resellers, original equipment manufacturers and end users. To the Company’s knowledge, the Company owns sufficient right, title and interest to, or has the right to use pursuant to a valid license, all Intellectual Property Rights necessary for the operation of the business of the Company as presently conducted and as presently proposed to be conducted, free and clear of all liens, encumbrances or claims of others. The Company has taken all necessary actions to maintain and protect the Intellectual Property Rights that it owns. The Company has not received notice of, and is not otherwise aware of, any claims made against the Company asserting the invalidity, misuse or unenforceability of any of such Intellectual Property Rights and, to the Company’s knowledge, there are no valid grounds for the same. The Company has not received any notices of, and is not aware of any facts which indicate a likelihood of, any infringement or misappropriation by, or conflict with, any third party with respect to such Intellectual Property Rights (including, without limitation, any demand or request that the Company license any rights from a third party). To the Company’s knowledge, none of its employees is obligated under any contract (including licenses, covenants or commitments of any nature) or other agreement, or subject to any judgment, decree or order of any court or administrative agency, that would interfere with the use of his or her best efforts to promote the interests of the Company or that would conflict with the Company’s business as presently conducted and as presently proposed to be conducted. The Company does not believe it is or will be necessary to utilize any inventions of any of its employees (or people it currently intends to hire) made prior to their employment by the Company, except for inventions that have been assigned or licensed to the Company as of the date hereof.

                    (b)       For purposes of this Agreement, “Intellectual Property Rights” means all (i) patents, patent applications, patent disclosures and inventions, (ii) trademarks, service marks, trade dress, trade names, logos and corporate names and registrations and applications for registration thereof together with all of the goodwill associated therewith, (iii) copyrights (registered and unregistered) and copyrightable works and registrations and applications for registration thereof, (iv) mask works and registrations and applications for registration thereof, (v) computer software, data, data bases and documentation thereof, (vi) trade secrets and other confidential information (including, without limitation, ideas, formulas, compositions, inventions (whether patentable or unpatentable and whether or not reduced to practice), know-how, manufacturing and production processes and techniques, research and development information, drawings, specifications, designs, plans, proposals, technical data, financial and marketing plans and customer and supplier lists and information), (vii) other

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intellectual property rights and (viii) copies and tangible embodiments thereof (in whatever form or medium).

          2.8       Compliance with Other Instruments. The Company is not in violation of or default under any provision of its Restated Articles of Incorporation, as amended, or bylaws or in any material respect of any instrument, judgment, order, writ, decree or contract to which it is a party or by which it or any of its assets or properties is bound, including without limitation, any agreements with suppliers or any licensing agreements or, to its knowledge, of any provision of any federal or state statute, rule or regulation applicable to the Company. The execution, delivery and performance of the Transaction Agreements and the consummation of the transactions contemplated thereby will not result in any such violation, or be in material conflict with or constitute, with or without the passage of time and giving of notice, either a material default under any such provision, instrument, judgment, order, writ, decree or contract or an event that results in the creation of any lien, charge or encumbrance upon any assets of the Company or the suspension, revocation, impairment, forfeiture or nonrenewal of any permit, license, authorization or approval applicable to the Company, its business or operations or any of its assets or properties. The execution, delivery and performance of the Transaction Agreements and the consummation of the transactions contemplated thereby will not cause any “change of control” under any agreements to which the Company is a party, including but not limited to (a) any employment agreements to which the Company is a party; (b) any incentive or bonus plans, including but not limited to the Company’s 2003 Executive Incentive Plan; (c) the Company’s 1987 Stock Option Plan, the Company’s 1994 Consultant Stock Option Plan, the Company’s 1997 Stock Option Plan or the Company’s 1998 Employee Stock Purchase Plan; or (d) the Company’s Shareholder Rights Plan.

          2.9       Agreements; Action.

                    (a)       Except as disclosed in statements, reports, schedules, forms, exhibits and other documents filed by the Company with the Securities and Exchange Commission (the “SEC”) on or before the date hereof, including periodic reports on Form 10-KSB, Form 10-QSB, on Form 8-K and proxy statements and registration statements (“SEC Filings”), there are no agreements, understandings or proposed transactions between the Company and any of its officers, directors, affiliates or any affiliate thereof.

                    (b)       There are no agreements, understandings, instruments, contracts, proposed transactions, judgments, orders, writs or decrees to which the Company is a party or by which it or any of its assets or properties is bound that may involve indemnification by the Company with respect to infringements of proprietary rights, other than indemnification obligations arising from purchase or sale agreements or license agreements entered into in the ordinary course of business.

                    (c)       Except as disclosed in SEC Filings, the Company has not (i) declared or paid any dividends or authorized or made any distribution upon or with respect to any class or series of its capital stock, (ii) incurred any indebtedness for money

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borrowed or any other material liabilities, (iii) made any loans or advances to any person, other than in the ordinary course of business, or (iv) sold, exchanged or otherwise disposed of any of its assets or rights, other than the sale of its inventory in the ordinary course of business.

          2.10       Related-Party Transactions. Except as disclosed in SEC Filings, no employee, shareholder, officer or director of the Company or member of his or her immediate family is indebted to the Company, nor is the Company indebted (or committed to make loans or extend or guarantee credit) to any of them. To the Company’s knowledge and except as disclosed in SEC Filings, none of such persons has any direct or indirect ownership interest in any firm or corporation with which the Company is affiliated or with which the Company has a business relationship, or any firm or corporation that competes with the Company, except that employees, shareholders, officers or directors of the Company and members of their immediate families may own stock in publicly traded companies that may compete with the Company.

          2.11       Financial Statements. The Company has delivered or made available to Purchaser its audited financial statements as contained in its annual report on Form 10-KSB for the period ending December 31, 2003 and the unaudited financial statements as contained in its quarterly report on Form 10-QSB for the period ending June 30, 2004 (the “Financial Statements”). The foregoing Financial Statements are accurate and complete in all material respects, are consistent with the books and records of the Company (which, in turn, are accurate and complete in all material respects) and have been prepared in accordance with generally accepted accounting principles applied on a consistent basis throughout the periods indicated and with each other, except that the unaudited Financial Statements may not contain all footnotes required by generally accepted accounting principles. The Company does not have any liabilities (whether accrued, absolute, unliquidated, contingent or otherwise, whether or not known to the Company, whether due or to become due and regardless of when asserted) arising out of transactions entered into at or prior to June 30, 2004, or any action or inaction at or prior to June 30, 2004 or any state of facts existing at or prior to June 30, 2004 other than (a) liabilities and obligations incurred in the ordinary course of business after June 30, 2004 (none of which is a liability resulting from breach of contract, breach of warranty, tort, infringement, claim or lawsuit), and (b) other liabilities and obligations expressly disclosed in the Financial Statements. The Company is not a guarantor or indemnitor of any indebtedness of any other person, firm or corporation.

          2.12       Changes. Except as disclosed in SEC Filings, since June 30, 2004, there has not been:

                    (a)       any material adverse change in the assets, liabilities, financial condition or operating results of the Company;

                    (b)       any damage, destruction or loss, whether or not covered by insurance, materially and adversely affecting the assets, properties, financial condition, operating results or business of the Company;

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                    (c)       any waiver by the Company of a valuable right or of a debt owed to it;

                    (d)       any satisfaction or discharge of any lien, claim or encumbrance or payment of any obligation by the Company, except in the ordinary course of business and that is not material to the assets, properties, financial condition, operating results or business of the Company;

                    (e)       any change or amendment to a material contract or arrangement by which the Company or any of its assets or properties is bound or subject;

                    (f)       any change in any compensation arrangement or agreement with any key employee;

                    (g)       any sale, assignment or transfer of any Intellectual Property Rights or other intangible assets of the Company, or the disclosure of any proprietary confidential information to any person not under a duty to keep such information confidential;

                    (h)       any resignation or termination of employment of any key officer of the Company; and the Company is not aware of the impending resignation or termination of employment of any such officer; or

                    (i)       any agreement or commitment by the Company to do any of the things described in this Section 2.12.

          2.13       Taxes. The Company has timely filed all tax returns (federal, state and local) required to be filed by it and all Taxes (as defined below), assessments and other government charges imposed upon the Company, or upon any of the assets, income or franchises of the Company, have been timely paid or, if not yet payable, are adequately accrued on the Company’s books and records. There are no actual or proposed Tax deficiencies, assessments or adjustments with respect to the Company or any assets or operations of the Company, and there are no ongoing or pending Tax audits by any taxing authority against the Company. “Tax” or “Taxes” means any federal, state, local or foreign income, gross receipts, license, payroll, employment, excise, severance, stamp, occupation, premium, property, windfall, profits, environmental, customs, capital stock, franchise, employees’ income withholding, foreign or domestic withholding, social security, unemployment, disability, real property, personal property, sales, use, transfer, value added, alternative or add-on minimum or other similar tax, governmental fee, governmental assessment or governmental charge of any kind whatsoever, including any interest, penalties or additions to Tax or additional amounts with respect to the foregoing.

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          2.14       Permits. To the Company’s knowledge, the Company has all franchises, permits, licenses and any similar authority necessary for the conduct of its business, and the Company believes it can obtain, without undue burden or expense, any similar authority for the conduct of its business as planned to be conducted. The Company is not in default in any material respect under any of such franchises, permits, licenses or other similar authority.

          2.15       Environmental and Safety Laws. To the Company’s knowledge, the Company, the operation of its business and any real property that the Company owns or has owned, leases or has leased or otherwise occupies or uses or has occupied or used (the “Premises”) are in compliance with all applicable Environmental Laws (as defined below) and orders or directives of any governmental authorities having jurisdiction under such Environmental Laws. The Company has not received any citation, directive, letter or other communication, written or oral, or any notice of any proceeding, claim or lawsuit, from any person arising out of the Company’s ownership or occupation of the Premises, or the conduct of its operations. For purposes of this Agreement, the term “Environmental Laws” shall mean any federal, state, local or foreign law, ordinance, rule, regulation, permit and authorization pertaining to the protection of human health or the environment.

          2.16       Disclosure. In addition to SEC Filings publicly available, the Company has provided Purchaser with all the information available to the Company that Purchaser has requested for deciding whether to purchase the Note and all information that the Company believes is reasonably necessary to enable Purchaser to make such decision. To the Company’s knowledge, neither this Agreement (including all the exhibits attached hereto) nor any certificates delivered in connection herewith contains any untrue statement of a material fact or omits to state a material fact necessary to make the statements herein or therein not misleading in light of the circumstances under which they were made.

          2.17       Corporate Documents; Minute Books. The Company has made the Restated Articles of Incorporation and bylaws of the Company available to Purchaser. In addition, the minute books of the Company available for review by Purchaser contain a complete summary of all meetings of directors and shareholders since the time of incorporation and reflect all transactions referred to in such minutes accurately in all material respects.

          2.18       Title to Property and Assets. The property and assets the Company owns are owned by the Company free and clear of all mortgages, liens, loans and encumbrances, except (a) as reflected in the Financial Statements, (b) for statutory liens for the payment of current taxes that are not yet delinquent, and (c) minor defects in title, none of which, individually or in the aggregate, materially impair the Company’s ownership or use of such property or assets. With respect to the property and assets it leases, the Company is in compliance with such leases in all material respects and, to the Company’s knowledge, holds a valid leasehold interest free of any liens, claims or encumbrances, subject to clauses (a), (b) and (c) above.

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          2.19       Labor Agreements and Actions. The Company is not aware that any officer or key employee, or that any group of employees of the Company, intends to terminate their employment with the Company, nor does the Company have a present intention to terminate the employment of any of the foregoing. The employment of each officer and employee of the Company is terminable at the will of the Company. Except as disclosed in SEC Filings or as disclosed to the Investors, the Company is not a party to or bound by any currently effective employment contract, deferred compensation agreement, bonus plan, incentive plan, profit sharing plan, retirement agreement or other employee compensation agreement. The Company has complied in all material respects with all applicable state and federal equal employment opportunity and other laws related to employment (including without limitation, provisions thereof relating to wages, hours, equal opportunity, collective bargaining and the payment of social security and other taxes), and the Company is not aware that it has any labor relations problems (including without limitation, any union organization activities, threatened or actual strikes or work stoppages or material grievances). The Company is not bound by or subject to (and none of its assets or properties is bound by or subject to) any written or oral, express or implied, contract, commitment or arrangement with any labor union.

3.       Representations and Warranties of Purchaser. Purchaser hereby represents, warrants and covenants to the Company that:

          3.1       Organization. Purchaser is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware.

          3.2       Authorization. All corporate action necessary on the part of Purchaser, its officers, directors and shareholders for the authorization, execution and delivery of the Transaction Agreements to which it is a party, and the performance of all obligations of Purchaser hereunder and thereunder has been taken or will be taken prior to the Closing. The Transaction Agreements and other agreements contemplated thereby to which Purchaser is a party constitute valid and legally binding obligations of Purchaser, enforceable in accordance with their respective terms, except (a) as limited by applicable bankruptcy, insolvency, reorganization, moratorium and other laws affecting enforcement of creditors’ rights generally, and (b) as limited by laws relating to the availability of specific performance, injunctive relief or other equitable remedies.

          3.3       Disclosure of Information. Purchaser represents that it has had an opportunity to ask questions and receive answers from the Company regarding the terms and conditions of this Agreement and the transactions contemplated hereby and the business, properties, prospects and financial condition of the Company. The foregoing, however, does not limit or modify the representations and warranties of the Company in Section 2 of this Agreement or the right of Purchaser to rely thereon.

4.       Covenants of the Company.

          4.1       Affirmative Covenants. The Company covenants and agrees that it will:

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                    (a)       Preservation of Existence. Preserve and maintain its corporate existence, rights, franchises, licenses and privileges in the jurisdiction of its incorporation.

                    (b)       Payment of Taxes. Pay and discharge all taxes, assessments and governmental charges or levies imposed upon it or upon its income or profits or upon any properties owned by it prior to the date on which penalties attach thereto; provided, however, that the Company shall not be required to pay any such tax, assessment, charge, levy or claim which is being contested in good faith and by proper proceedings diligently conducted.

                    (c)       Maintenance of Insurance. Maintain insurance on its properties with responsible and reputable insurance companies or associations in such amounts and covering such risks as is usually carried by companies engaged in similar businesses and owning similar properties in the same general areas in which the Company operates, including, without limitation, business interruption insurance and extended fire and casualty insurance.

                    (d)       Maintenance of Properties. Use commercially reasonable efforts to maintain and preserve all of the its properties (tangible and intangible) which are necessary or useful in the proper conduct of its business in good working order and condition, ordinary wear and tear excepted; provided, however, that the Company may dispose of such assets as it determines are no longer needed.

                    (e)       Compliance With Laws. Comply in all material respects with all applicable laws, rules, regulations, and orders.

                    (f)       SEC Filings; Financial Statements. Timely file all statements, reports, schedules, forms, exhibits and other documents required to have been filed by the Company with the SEC after the date hereof (the “Future SEC Filings”) under the Securities Act of 1933, as amended (the “Securities Act”), the Securities Exchange Act of 1934, as amended (the “Exchange Act”) and/or the rules and regulations promulgated thereunder and each of the Company’s Future SEC Filings shall comply in all material respects with the applicable requirements of the Securities Act or the Exchange Act (as the case may be). The financial statements (including related notes, if any) contained in the Company’s Future SEC Documents (i) shall comply as to form in all material respects with the published rules and regulations of the SEC applicable thereto; (ii) shall be prepared in accordance with generally accepted accounting principles applied on a consistent basis throughout the periods covered (except as may be indicated in the notes to such financial statements or, in the case of unaudited statements, as permitted by Form 10-QSB of the SEC, and except that the unaudited financial statements may not have contained footnotes and were subject to normal and recurring year-end adjustments which were not, or are not reasonably expected to be, individually or in the aggregate, material in amount); and (iii) shall fairly present in all material respects the consolidated financial position of the Company and its consolidated subsidiaries as of the respective dates thereof and the consolidated results of operations and cash flows of the Company and its consolidated subsidiaries for the periods covered thereby.

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                    (g)       Notice of Filings. Provide Purchaser, within twenty (20) days of filing, with copies of all returns and material documents filed by the Company with any federal, state, local or foreign governmental authority.

                    (h)       Certification of Non-Default. Provide to Purchaser upon request an officer’s certificate, signed by the President, certifying that no Event of Default (as such term is defined in the Note) has occurred under the Note, or if any such Event of Default exists, stating the nature of such Event of Default.

                    (i)       Notice of Litigation etc. Notify Purchaser of any suits, actions, claims, or legal, administrative, arbitration or mediation proceedings filed against the Company and provide Purchaser with a copy of the complaint or other such pleadings or filings served on or by the Company within five (5) days of receipt thereof.

                    (j)       Notice of Defaults or Judgments. Give Purchaser notice of any default declared with respect to any material obligation of the Company, or any judgment entered against the Company within five (5) days of receipt thereof by the Company.

                    (k)       Other Debts; Taxes. Promptly make all payments of principal and interest as and when due under any debt obligations of the Company; provided, however, that this covenant shall not be construed as permitting the making of any payments on account of any other debt obligations of the Company that are not otherwise permitted by the terms and conditions of this Agreement. The Company will pay and discharge, all material taxes, assessments and governmental charges or levies imposed upon it or upon its income or profits, or upon any properties belonging to it, prior to the date on which material penalties attach thereto, and all lawful claims which, if unpaid, might become a lien or charge upon any properties of the Company, or cause a failure or forfeiture of title thereto.

                    (l)       Termination of Security Interests Under Original Notes. Simultaneously with the payment of the loan proceeds by Purchaser in accordance with Section 1.1(b), the Company shall deliver the Termination Instructions and Statements (as defined in Section 5.7) to the Original Note Agents (as defined in Section 5.7). The Company shall take any and all actions reasonably necessary, including any actions reasonably requested by Purchaser, to enforce its rights and the obligations of the Original Note Agents under Section 8.9 (titled “Termination”) of that certain Security Agreement dated October 17, 2003 by and among the Company and the Original Note Agents and Section 14 (titled “Termination”) of that certain Grant of Security Interest in Patents, Trademarks and Licenses dated October 17, 2003 by and among the Company and the Original Note Agents. Notwithstanding anything in the Transaction Documents, the failure of the Original Note Agents to release their security interests, or their demand for additional amounts in connection with Section 8 of the Original Notes, shall not constitute a breach by the Company of any of its obligations under the Transaction Agreements or an Event of Default under the Note.

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          4.2       Negative Covenants. Until the Note is paid in full and all other obligations under the Transaction Agreement have been satisfied in full and discharged, the Company covenants and agrees with Purchaser not to do any of the following without the prior written consent of Purchaser:

                    (a)       Additional Debts and Liabilities. Incur any additional indebtedness for borrowed money, or purchase any additional life insurance from business income or assets, or guarantee the indebtedness or other obligations of any other person other than: (i) trade payables or other short-term working capital debt incurred in the normal and ordinary course of the Company’s business; (ii) lease and purchase money obligations entered into in the ordinary course of the Company’s business; and (iii) after December 31, 2004 any other indebtedness not covered by clauses (i) or (ii) above, provided that the proceeds from any such indebtedness permitted by this clause (iii) are first used to pay the entire outstanding principal balance of the Note, together with all accrued and unpaid interest thereon and any other amounts owed thereunder.

                    (b)       No Encumbrances. Permit to exist against any of its material assets (if any) any lien, mortgage, pledge, security interest, title retention device, or other encumbrance junior or senior to the liens and security interests of Purchaser under the Security Documents.

                    (c)       Dissipation of Assets. In any manner convey or dispose of any equitable, beneficial or legal interest in any of the Company’s material assets (if any), except for inventory sold and equipment disposed of in the ordinary course of business.

                    (d)       Distributions. Make or cause to be made any distribution of cash, capital stock held by the Company or other property of the Company to any of its stockholders, whether such distribution would be characterized as a dividend or otherwise.

                    (e)       No Change of Business; No Change of Company Name. (i) change the nature of its business operations or expend or invest any funds in any manner not strictly related to the Company’s existing business operations; or (ii) change its name, as set forth in the signature line hereto.

                    (f)       Constituent Documents. Amend or rescind the Company’s Restated Articles of Incorporation, Bylaws or other constituent documents of the Company and all amendments and supplements to any of the foregoing (collectively the “Constituent Documents”) as in effect as of the date hereof.

                    (g)       Prepayments. Prepay any indebtedness for borrowed money, other than the payment and satisfaction in full of the Original Notes and any prepayment of the Note in accordance with the terms and conditions thereof.

                    (h)       Inside Transactions. Purchase or sell any property or services, nor borrow or lend money or property from or to, or co-invest in, any transaction with any officer, director, shareholder, employee or affiliate of the Company, except for reasonable and customary employment compensation arrangements.

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                    (i)       Judgments. Permit any judgment, or any series of judgments obtained against the Company in excess of the fifty thousand dollars ($50,000) to remain unpaid for over thirty (30) days without obtaining a stay of execution or appropriate surety bond.

                    (j)       No Adverse Actions. Avoid or seek to avoid the observance or performance of any of the terms, covenants and conditions of this Agreement or any of the other Transaction Agreements whether by amendment to the Constituent Documents or through any reorganization, reclassification, consolidation, merger, sale of assets, dissolution, issuance or transfer of securities or any other action.

5.       Conditions of Purchaser’s Obligations at Closing. The obligations of Purchaser under Section 1.1(b) of this Agreement are subject to the fulfillment on or before the Closing of each of the following conditions or Purchaser’s written waiver thereof:

          5.1       Due Diligence. Purchaser shall have completed, to its own full and complete satisfaction, its due diligence of the Company, including a detailed review of past and projected financial performance.

          5.2       No Material Adverse Developments. There will have been no material adverse developments in the Company’s business or prospects and absence of default in any material obligation of the Company.

          5.3       Representations and Warranties. The representations and warranties of the Company contained in Section 2 shall be true on and as of the Closing with the same effect as though such representations and warranties had been made on and as of the date of such Closing.

          5.4       Performance. The Company shall have performed and complied with all agreements, obligations and conditions contained in this Agreement that are required to be performed or complied with by it on or before the Closing.

          5.5       Closing Documents. The Company shall have delivered to Purchaser all of the following documents:

                    (a)       An Officer’s Certificate, dated the date of the Closing, stating that the conditions specified in Section 5.2, 5.3 and 5.4 of this Agreement have been fulfilled.

                    (b)       A Secretary’s Certificate, certifying copies of the resolutions duly adopted by the Company’s board of directors authorizing the execution, delivery and performance of the Transaction Agreements and each of the other agreements contemplated hereby, and the issuance of the Note and the consummation of all other transactions contemplated by this Agreement; and

                    (c)       Certificates of good standing issued by the secretary of state for each state where the Company is authorized to do business.

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          5.6       Proceedings and Documents. All corporate and other proceedings in connection with the transactions contemplated at the Closing and all documents incident thereto shall be reasonably satisfactory in form and substance to Purchaser’s counsel, and they shall have received all such counterpart original and certified or other copies of such documents as they may reasonably request.

          5.7       Termination Instructions and Statements. The Company shall have executed the instructions to the agent for the Original Note Holders (the “Original Note Agents”) and termination statements covering the security interest held by the Original Note Agents, each in the form attached hereto as Exhibit E (collectively, the “Termination Instructions and Statements”), and simultaneously with the payment of the loan proceeds by Purchaser in accordance with Section 1.1(b) shall deliver the Termination Instructions and Statements to the Original Note Agents.

6.       Conditions of the Company’s Obligations at Closing. The obligations of the Company to Purchaser under this Agreement are subject to the fulfillment on or before the Closing of each of the following conditions or the Company’s written waiver thereof:

          6.1       Representations and Warranties. The representations and warranties of Purchaser contained in Section 3 shall be true on and as of the Closing with the same effect as though such representations and warranties had been made on and as of the Closing.

          6.2       Payment of Purchase Price. Purchaser shall have delivered the purchase price specified in Section 1.1(b).

7.       Indemnification. The Company agrees to indemnify and hold harmless Purchaser and its successors and assigns, together with any of their officers, directors, or shareholders (such persons, the “Indemnified Parties”), from and against any and all losses, damages, liabilities, obligations, costs or expenses (any one such item being herein called a “Loss” and all such items being herein collectively called “Losses”) which are caused by or arise out of, or (in the case of claims asserted against any Indemnified Parties by a third party) alleged to result from, arise out of or have been incurred with respect to, (a) any breach or default in the performance by the Company of any covenant or agreement of the Company contained in this Agreement, (b) any breach of warranty or inaccurate or erroneous representation made by the Company herein or in any certificate or other instrument delivered by or on behalf of the Company pursuant hereto, and (c) any and all actions, suits, proceedings, claims, demands, judgments, costs and expenses (including costs and attorneys’ fees) arising out of the foregoing except when such actions, suits, proceedings, claims, demands, judgments, costs and expenses arise as a result of the grossly negligent or intentional actions or omissions of Purchaser. Furthermore, except for Losses caused by or arising out of the gross negligence or willful misconduct of the Company, any Losses resulting from subsection (b) above shall be limited to the actual amount invested pursuant to this Agreement.

8.       Miscellaneous.

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          8.1       Survival. The warranties, representations and covenants of the Company and Purchaser and the indemnification obligations of the parties contained in or made pursuant to this Agreement shall survive the execution and delivery of this Agreement and the Closing and shall in no way be affected by any investigation of the subject matter thereof made by or on behalf of Purchaser or the Company.

          8.2       Successors and Assigns. Except as otherwise provided herein, the terms and conditions of this Agreement shall inure to the benefit of and be binding upon the respective successors and assigns of the parties. Nothing in this Agreement, express or implied, is intended to confer upon any party, other than the parties hereto or their respective successors and assigns, any rights, remedies, obligations or liabilities under or by reason of this Agreement, except as expressly provided in this Agreement.

          8.3       Governing Law. This Agreement shall be governed by and construed under the substantive laws of the State of Maryland, without regard to the conflicts of law provisions thereof, as applied to agreements among Maryland residents entered into and to be performed entirely within Maryland.

          8.4       Titles and Subtitles. The titles and subtitles used in this Agreement are used for convenience only and are not to be considered in construing or interpreting this Agreement.

          8.5       Notices. All notices required or permitted hereunder shall be in writing and shall be deemed effectively given: (a) upon personal delivery to the party to be notified, (b) when sent by confirmed telex, electronic mail or facsimile if sent during normal business hours of the recipient, if not, then on the next business day; (c) five (5) days after having been sent by registered or certified mail, return receipt requested, postage prepaid; or (d) one (1) day after deposit with a nationally recognized overnight courier, specifying next day delivery, with written verification of receipt. All communications to a party shall be sent to the respective parties at the following addresses:

if to the Company, to:

DataKey, Inc.
407 West Travelers Trail
Minneapolis, Minnesota 55337
Attention: David A. Feste
Facsimile: (952) 890-6850

with a copy to (but which shall not constitute notice to the Company):

Fredrikson & Byron, P.A.
200 South 6th Street, #400
Minneapolis, Minnesota 55402-1425

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Attention: Thomas R. King, Esq.
Facsimile: 612-492-7077

if to the Purchaser, to:

SafeNet, Inc.
4690 Millennium Drive
Belcamp, Maryland 21017
Attention: Chief Executive Officer
Facsimile: (443) 327-1207

with a copy to (but which shall not constitute notice to the Purchaser)

Venable LLP
8010 Towers Crescent Drive
Suite 300
Vienna, Virginia 22182
Attention: Elizabeth R. Hughes, Esq.
Facsimile: 703-821-8949

or at such other address as such party may designate by ten (10) days’ advance written notice to the other parties hereto.

          8.6       Finder’s Fee. Each party represents that it neither is nor will be obligated for any finder’s fee or commission in connection with this transaction. The Company hereby agrees to indemnify and hold harmless Purchaser from any liability for any commission or compensation in the nature of a finder’s fee (and the costs and expenses of defending against such liability or asserted liability) for which the Company or any of its officers, employees or representatives is responsible. Purchaser agrees to indemnify and to hold harmless the Company from any liability for any commission or compensation finder’s fee (and the costs and expenses of defending asserted liability) for which Purchaser or any of its officers, employees or representatives is responsible.

          8.7       Fees and Expenses. Irrespective of whether the Closing is effected, each party shall pay all costs and expenses that it incurs with respect to the negotiation, execution, delivery and performance of this Agreement. If any action at law or in equity is necessary to enforce or interpret the terms of the Transaction Agreements, the prevailing party shall be entitled to reasonable attorneys’ fees, costs and necessary disbursements in addition to any other relief to which such party may be entitled.

          8.8       Amendments and Waivers. Any term of this Agreement may be amended and the observance of any term of this Agreement may be waived (either generally or in a particular instance and either retroactively or prospectively), only with the written consent of the Company and Purchaser.

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          8.9       Severability. If one or more provisions of this Agreement are held to be unenforceable under applicable law, such provision shall be excluded from this Agreement and the balance of the Agreement shall be interpreted as if such provision were so excluded and shall be enforceable in accordance with its terms.

          8.10       Entire Agreement. This Agreement and the documents referred to herein constitute the entire agreement among the parties with respect to the subject matter hereof and thereof. All exhibits and schedules appended to this Agreement are herein incorporated by reference and made a part hereof.

          8.11       Counterparts. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument.

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IN WITNESS WHEREOF, the parties hereto have executed this Secured Loan Agreement as of the date first above written.

THE COMPANY: DATAKEY, INC.
By:	/s/ Timothy L. Russell
	Name:	Timothy L. Russell
	Title:	President and Chief Executive Officer
PURCHASER: SAFENET, INC.
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

[SIGNATURE PAGE TO SECURED LOAN AGREEMENT]

EX-99.5

Exhibit 5

SECURED PROMISSORY NOTE

$2,181,917.81 September 9, 2004

     FOR VALUE RECEIVED, the undersigned, DataKey, Inc., a Minnesota corporation (the “Company”) promises to pay to the order of SafeNet, Inc., a Delaware corporation (“SafeNet”), or its successors and assigns (SafeNet and any such successor or assign, the “Holder”), at 4960 Millennium Drive, Belcamp, Maryland 21017, or at such other place as the Holder may from time to time designate in writing, the principal sum of Two Million One Hundred Eighty-One Thousand Nine Hundred Seventeen Dollars and Eighty-One Cents ($2,181,917.81), or so much thereof as may be outstanding from time to time, together with interest thereon as set forth herein (this “Note”). This Note is being issued by the Company pursuant to that certain Secured Loan Agreement dated the date hereof by and between the Company and SafeNet (the “Loan Agreement”).

     1. Maturity. Except as set forth in Sections 5 or 7 hereof, the entire outstanding principal balance of this Note, together with all accrued and unpaid interest thereon, shall be due and payable on September 9, 2005.

     2. Interest. This Note shall bear interest on the outstanding principal amount at a rate of ten percent (10%) per annum from the date hereof until this Note is paid in full.

     3. Prepayment. The Company shall not be permitted to prepay this Note at any time in whole or in part, prior to December 31, 2004 (the “Prepayment Date”) without the prior written consent of the Holder. At any time after the Prepayment Date, the Company may prepay the entire outstanding principal balance of this Note, together with all accrued and unpaid interest thereon.

     4. Security. This Note and the Company’s obligations hereunder are secured by all the assets of the Company pursuant to the terms of that certain Security Agreement dated the date hereof by and between the Company and SafeNet (the “Security Agreement”) and that certain Grant of Security Interest in Intellectual Property dated the date hereof by and between the Company and SafeNet (the “IP Security Agreement” and collectively with the Loan Agreement and the Security Agreement, the “Note Documents”).

     5. Payment Upon a Termination of the Merger Agreement or Acquisition Transaction. The Company, SafeNet and Snowflake Acquisition Corp., a Minnesota corporation and wholly-owned subsidiary of SafeNet (“Merger Sub”), intend to enter into that certain Agreement and Plan of Merger on or immediately after the date hereof (the “Merger Agreement”). If (a) prior to the termination of the Merger Agreement a bona fide Company Takeover Proposal (as such term is defined in the Merger Agreement) shall have been made known to the Company or has been made directly to its shareholders generally or any person shall have publicly announced an intention (whether or not conditional) to make a bona fide Company Takeover Proposal and thereafter the Merger Agreement is terminated in accordance with Section 7.1(d)(2) thereof, or (b) the Company enters into an “Acquisition Transaction” (as defined below) prior to the payment or other satisfaction

in full by the Company of this Note, then within three (3) days of such termination or consummation of such Acquisition Transaction, the Company shall pay the Holder hereof, in complete satisfaction of this Note, an amount equal to the then outstanding principal balance of this Note and the accrued and unpaid interest on the then outstanding principal balance plus a premium payment of Five Hundred Thousand Dollars ($500,000). The term “Acquisition Transaction” shall mean the occurrence of any one of the following: (i) the Company has entered into an agreement which provides for the any consolidation or merger to which the Company is a party other than a merger or consolidation in which the Company is the continuing corporation or a merger or consolidation in which SafeNet or Merger Sub or any of their affiliates is a party; (ii) the Company has entered into an agreement which provides for any sale, lease, exclusive license, transfer or conveyance to another entity or person (other than SafeNet or Merger Sub or any of their affiliates) of all or substantially all of the assets of the Company or a liquidation of the Company; (iii) the Company has entered into an agreement which provides for any statutory exchange of securities with another entity (other than SafeNet or Merger Sub or any of their affiliates or except where the Company is the acquiring entity); and (iv) the acquisition of ownership by any person or group of more than 50% of the Company’s voting stock (whether or not approved by the Company’s Board of Directors) after the date hereof (whether or not such acquisition is from the Company or existing shareholders).

     6. Events of Default. The occurrence of any of the events set forth below at any time shall constitute an “Event of Default”:

          (a) The Company shall fail to pay any principal or interest provided for under this Note when due (in all cases, whether at maturity, by reason of acceleration or otherwise);

          (b) any representation, statement or warranty made or deemed made by the Company in any (i) Note Document, (ii) in any other certificate, document, report or opinion delivered in conjunction with any Note Document to which it is a party, or (iii) in the Merger Agreement, shall not be true and correct in all material respects or shall have been false or misleading in any material respect on the date when made or deemed to have been made (except to the extent already qualified by materiality, in which case it shall be true and correct in all respects and shall not be false or misleading in any respect) except those made as of a specific date;

          (c) the Company shall be in violation, breach or default of, or shall fail to perform, observe or comply with any covenant, obligation or agreement set forth in, or any event of default occurs under, any Note Document or the Merger Agreement and such violation, breach, default, event of default or failure shall not be cured within the applicable period, if any, set forth in the applicable Note Document or the Merger Agreement;

          (d) (i) any of the Note Documents ceases to be in full force and effect, or (ii) any lien created thereunder ceases to constitute a valid perfected (if and to the extent such security interest may be perfected under applicable law) lien on the “Collateral” (as such term is defined in the Security Agreement) or the “Intellectual Property Collateral” (as such term is defined in the IP Security Agreement) in accordance with the terms thereof, or the Holder ceases to have a valid perfected (if and to the extent such security interest may be perfected under applicable law) security

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interest in any of the Collateral or the Intellectual Property Collateral pursuant to the Note Documents;

          (e) one or more judgments or decrees is rendered against the Company in an amount in excess of $25,000 individually or $50,000 in the aggregate (excluding judgments to the extent fully covered on an undisputed and non-reserved basis by insurance of such person), which is/are not satisfied, stayed, fully bonded, vacated or discharged of record within twenty (20) days of being rendered;

          (f) the Company fails to cure default in the payment of any indebtedness for borrowed money in excess of $25,000 owing to any person or entity within the cure period, if any, applicable to such default or the default shall not have been waived in writing;

          (g) the Company shall (i) be unable to pay its debts generally as they become due, (ii) file a petition under any insolvency statute, (iii) make a general assignment for the benefit of its creditors, (iv) commence a proceeding for the appointment of a receiver, trustee, liquidator or conservator of itself or of the whole or any material part of its property, or (v) file a petition seeking reorganization or liquidation or similar relief under any bankruptcy or insolvency law or any other applicable law or statute;

          (h) (i) a court of competent jurisdiction shall (A) enter an order, judgment or any decree appointing a custodian, receiver, trustee, liquidator or conservator of the Company or the whole or any substantial part of any such person’s properties, which shall continue unstayed and in effect for a period of sixty (60) calendar days, (B) shall approve a petition filed against the Company seeking reorganization, liquidation or similar relief under the any bankruptcy or insolvency law or any other applicable law or statute, which is not dismissed within sixty (60) calendar days or, (C) under any applicable law or statute, assume custody or control of the Company or of the whole or material part of any such person’s properties, which is not irrevocably relinquished within sixty (60) calendar days; or (ii) there is commenced against the Company any proceeding or petition seeking reorganization, liquidation or similar relief under any bankruptcy or insolvency law or any other applicable law or statute, which (A) is not unconditionally dismissed within sixty (60) calendar days after the date of commencement, or (B) is with respect to which the Company takes any action to indicate its approval of or consent or (iii) an order for relief is entered in any involuntary case under clause (ii) above; or

          (i) SafeNet or Merger Sub terminates the Merger Agreement in accordance with Section 7.1(d)(1) thereof.

     7. Consequences of an Event of Default.

          (a) If an Event of Default of the type described in Section 6(g) or Section 6(h) has occurred, the entire outstanding principal amount of this Note, plus all accrued and unpaid interest thereon, will automatically become immediately due and payable, without any demand or other action on the part of the Holder.

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          (b) If any Event of Default (other than of the type described in Section 6(g) or Section 6(h)) has occurred, the Holder may, in its sole discretion and without further notice or demand, then or at any time thereafter declare all or any portion of the outstanding principal amount of this Note, plus all accrued and unpaid interest thereon, immediately due and payable.

          (b) In addition, upon the occurrence of an Event of Default, the Holder will have such other rights as are available to the Holder under any of the Note Documents and any other rights, remedies and options which the Holder may have at law or in equity to enforce its rights and claims. All rights and remedies of the Holder shall be cumulative and not alternative.

     8. Expenses of Collection. Upon an Event of Default, this Note may be referred to an attorney for collection. If this Note is referred to an attorney for collection, the Company shall pay all of the Holder’s costs, fees and expenses resulting from such referral, including reasonable attorneys’ fees, even though judgment has not been confessed or suit has not been filed.

     9. Waiver of Defenses. In the event the Holder of this Note transfers this Note to an unrelated third party for value, the Company agrees that all subsequent Holders of this Note shall not be subject to any claims or defenses which the Company may have against a prior Holder, all of which are waived as to the subsequent Holder, and that all subsequent Holders shall have all of the rights of a holder in due course with respect to the Company even though the subsequent Holder may not qualify, under applicable law, absent this paragraph, as a holder in due course.

     10. Waiver of Protest. The Company, and all parties to this Note, whether maker, endorser or guarantor, waive presentment, notice of dishonor and protest.

     11. Extensions of Maturity. All parties to this Note, whether maker, endorser or guarantor, agree that if the maturity of this Note, or any payment due hereunder, is extended at any time or from time to time by the Holder, in its sole discretion, it shall not release, discharge or affect the liability of such party.

     12. Commercial Loan. The Company warrants that this Note is the result of a commercial loan transaction within the meaning of Section 12-101(c) and 12-103(e), Commercial Law Article, Annotated Code of Maryland.

     13. Choice of Law and Consent to Venue and Jurisdiction. This Note shall be governed, construed and enforced in accordance with the laws of the State of Maryland, without regard to conflict of laws provisions. The Company consents to the jurisdiction and venue of the courts of the State of Maryland and to the jurisdiction and venue of the United States District Court for the District of Maryland.

     14. Notices. Any notice or demand required or permitted by this Note (but without implying any obligation to give any notice or demand) shall be made in accordance with the provisions of Section 8.5 of the Loan Agreement.

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     15. Invalidity of Any Part. If any provision or part of any provision of this Note shall for any reason be held invalid, illegal or unenforceable in any respect, such invalidity or unenforceability shall not affect any other provision of this Note and this Note shall be construed as if such invalid, illegal or unenforceable provision or part thereof had never been contained herein, but only to the extent of its invalidity, illegality or unenforceability.

     16. Assignability. This Note may be assigned by the Holder at any time and from time to time.

     18. No Waiver. The failure of the Holder to exercise the option for acceleration following any Event of Default or to exercise any other rights, powers or privileges granted to the Holder hereunder or under any of the Note Documents in any one or more instances or the acceptance by the Holder of partial payments hereunder, shall not constitute a waiver of any such Event of Default, but such rights shall remain continuously in force. Acceleration of maturity, once claimed hereunder by the Holder, may at the option of the Holder, be rescinded by written acknowledgement to that effect by the Holder, but the tender and acceptance of partial payments alone shall not in anyway affect or rescind such acceleration of maturity. No single or partial exercise of any right, power or privilege hereunder by the Holder shall preclude any other further exercise thereof the exercise of any other right, power or privilege.

     19. Binding Nature. This Note shall inure to the benefit of and be enforceable by the Holder and shall be binding and enforceable against the Company and the Company’s successors and assigns.

     20. Waiver of Jury Trial. THE COMPANY HEREBY WAIVES TRIAL BY JURY IN ANY ACTION OR PROCEEDING TO WHICH THE COMPANY AND THE HOLDER MAY BE PARTIES, ARISING OUT OF OR IN ANY WAY PERTAINING TO (A) THIS NOTE, OR (B) ANY OTHER NOTE DOCUMENTS. IT IS AGREED AND UNDERSTOOD THAT THIS WAIVER CONSTITUTES A WAIVER OF TRIAL BY JURY OF ALL CLAIMS AGAINST ALL PARTIES TO SUCH ACTIONS OR PROCEEDINGS, INCLUDING CLAIMS AGAINST PARTIES WHO ARE NOT PARTIES TO THIS NOTE. THE COMPANY FURTHER ACKNOWLEDGES THAT IT HAS BEEN REPRESENTED (OR HAS HAD THE OPPORTUNITY TO BE REPRESENTED) IN THE EXECUTION OF THIS NOTE AND IN MAKING THIS WAIVER BY INDEPENDENT LEGAL COUNSEL.

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     IN WITNESS WHEREOF, this Secured Promissory Note has been executed by the Company under seal as of the day and year first above written.

WITNESS:	DATAKEY, INC.
	By:                                                            (SEAL)
	Name:
	Title:

6

EX-99.6

Exhibit 6

EXECUTION COPY

SECURITY AGREEMENT

          THIS SECURITY AGREEMENT (the “Agreement”), dated and effective as of this 9th day of September, 2004, is made by DATAKEY, INC., a Minnesota corporation, with its chief executive office at 407 West Travelers Trail, Minneapolis, Minnesota 55337 (hereinafter referred to as the “Debtor”), in favor of SAFENET, INC., a Delaware corporation (together with its successors and assigns, the “Lender”). The Lender acquired that certain Secured Promissory Note issued by the Debtor dated of even date herewith (the “Secured Note”) pursuant to that certain Secured Loan Agreement, dated as of the date hereof, by and between the Debtor and the Lender (the “Loan Agreement”).

          A.     The Debtor intends to issue to the Lender the Secured Note from the Debtor pursuant to the Loan Agreement, dated as of the date hereof, in the aggregate principal amount of $2,181,917.81.

          B.     The Loan Agreement and the Secured Note provide for the Lender to make certain loans for the account of the Debtor and require the Debtor to grant the Lender a security interest in all of the Debtor’s assets pursuant to the terms of this Agreement and that certain Grant of Security Interest in Intellectual Property, dated even herewith, by and among the Debtor and the Lender (the “Intellectual Property Security Agreement”).

          NOW THEREFORE, in consideration of the premises set forth herein and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, it is hereby agreed as follows:

ARTICLE I DEFINITIONS

          As used herein, the following terms shall have the meanings set forth in this Section. Other terms defined herein shall have the meanings ascribed to them herein.

          “Accounts” shall have the meaning provided in Article 9.

          “Article 9” shall mean Article 9 of the UCC.

          “Chattel Paper” shall have the meaning provided in Article 9 and shall include, without limitation, all Electronic Chattel Paper and Tangible Chattel Paper.

          “Collateral” shall mean all property in which a security interest is granted hereunder.

          “Commercial Tort Claim” shall have the meaning provided in Article 9.

          “Controlled Property” shall mean property of every kind and description in which Debtor has or may acquire any interest, now or hereafter at any time in the possession or control of the Lender for any reason and all dividends and distributions on or other rights in connection with such property.

          “Data Processing Records and Systems” shall mean all of the Debtor’s now existing or hereafter acquired electronic data processing and computer records, software (including, without limitation, all “Software” as defined in Article 9), systems, manuals, procedures, disks, tapes and all other storage media and memory.

          “Debtor” shall have the meaning set forth in the preamble hereto.

          “Default” shall mean any event which if it continued uncured would, with notice or lapse of time or both constitute an Event of Default.

          “Document” shall have the meaning provided in Article 9.

          “Electronic Chattel Paper” shall have the meaning provided in Article 9.

          “Equipment” shall have the meaning provided in Article 9.

          “Event of Default” shall have the meaning specified in Section 6 of the Secured Note.

          “Fixtures” shall have the meaning provided in Article 9.

          “General Intangibles” shall have the meaning provided in Article 9 and shall include, without limitation, all Payment Intangibles.

          “Instruments” shall have the meaning provided in Article 9.

          “Insurance Proceeds” shall mean all proceeds of any and all insurance policies payable to the Debtor with respect to any Collateral, or on behalf of any Collateral, whether or not such policies are issued to or owned by the Debtor.

          “Inventory” shall have the meaning provided in Article 9.

          “Investment Property” shall have the meaning provided in the UCC.

          “Letter of Credit Rights” shall have the meaning provided in Article 9.

          “Payment Intangibles” shall have the meaning provided in Article 9.

          “Proceeds” shall have the meaning provided in Article 9.

          “Products” shall mean any goods now or hereafter manufactured, processed or assembled with any of the Collateral.

          “Supporting Obligations” shall have the meaning provided in Article 9.

          “Tangible Chattel Paper” shall have the meaning provided in Article 9.

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          “UCC” shall mean the Uniform Commercial Code as enacted in the State of Minnesota, as amended from time to time.

ARTICLE II SECURITY INTERESTS

          As security for the payment of each and every debt, liability, and obligation of every type and description which the Debtor may now or at any time owe to the Lender pursuant to the terms of the Secured Note (the “Obligations”), the Debtor hereby grants to the Lender a first priority security interest in all of the Debtor’s now owned or hereafter acquired or arising:

Accounts;

Chattel Paper;

Commercial Tort Claims, if any, described on Exhibit A attached hereto and incorporated herein by reference;

Controlled Property;

Documents;

Equipment and Fixtures;

General Intangibles;

Instruments;

Inventory;

Investment Property;

Letter of Credit Rights;

Proceeds (whether cash or non-cash Proceeds, including

Insurance Proceeds and non-cash Proceeds of all types);

Products of all the foregoing; and

Supporting Obligations.

ARTICLE III
REPRESENTATIONS AND COVENANTS OF DEBTOR

          The Debtor represents, warrants and covenants that:

          3.1     Authorization. The execution and performance of this Agreement have been duly authorized by all necessary action and do not and will not: (a) require any consent or approval of the shareholders of any entity, or the consent of any governmental entity; or (b) violate any provision of any indenture, contract, agreement or instrument to which it is a party or by which it is bound.

          3.2     Title to Collateral. The Debtor has good and marketable title to all of the Collateral and none of the Collateral is subject to any security interest except for the security interest created pursuant to this Agreement, the Intellectual Property Security Agreement, or other security interests listed on Exhibit A (such other security interests being “Permitted Liens”).

          3.3     Liens. The security interest granted hereunder is granted to the Lender free and clear of all liens, encumbrances and security interests other than Permitted Liens.

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          3.4     Disposition or Encumbrance of Collateral. The Debtor will not encumber, sell or otherwise transfer or dispose of the Collateral without the prior written consent of the Lender except as provided in this paragraph. Until a Default or Event of Default has occurred and is continuing, the Debtor may sell Collateral consisting of. (a) Inventory in the ordinary course of business provided that the Debtor receives as consideration for such sale an amount not less than the fair market value of the Inventory at the time of such sale; and (b) Equipment and Fixtures which in the judgment of the Debtor have become obsolete or unusable in the ordinary course of business, provided that all net Proceeds greater than $20,000 of such sales of Equipment and Fixtures are delivered directly to the Lender for application to the Obligations in an amount in proportion to the outstanding principal balance of the Secured Note.

          3.5     Maintenance of Tangible Collateral. The Debtor will maintain the tangible Collateral in good condition and repair. At the time of attachment and perfection of the security interest granted pursuant hereto and thereafter, all tangible Collateral will be located and will be maintained only at the locations set forth on Exhibit B hereto. Except as otherwise permitted by Section 3.4, the Debtor will not remove such Collateral from such locations unless, prior to any such removal, the Debtor has given written notice to the Lender of the location or locations to which the Debtor desires to remove the Collateral, the Lender has given its written consent to such removal, and the Debtor has delivered to the Lender acknowledgment copies of financing statements filed where appropriate to continue the perfection of the security interest granted hereunder as a first priority security interest therein. The Lender’s security interest attaches to all of the Collateral wherever located and the Debtor’s failure to inform the Lender of the location of any item or items of Collateral shall not impair the Lender’s security interest therein. The Debtor hereby authorizes the Lender to file the financing statement in the form set forth in Exhibit C.

          3.6     Notation on Chattel Paper. For purposes of the security interest granted pursuant to this Agreement, the Lender has been granted a direct security interest in all Chattel Paper constituting part of the Collateral and such Chattel Paper is not claimed merely as Proceeds of Inventory. Upon the Lender’s request, the Debtor will deliver to the Lender the original of all Chattel Paper. The Debtor will not execute any copies of such Chattel Paper constituting part of the Collateral other than those which are clearly marked as a copy. The Lender may stamp any such Chattel Paper with a legend reflecting the Lender’s security interest therein.

          3.7     Protection of Collateral. All expenses of protecting, storing, warehousing, insuring, handling and shipping of the Collateral, all costs of keeping the Collateral free of any liens, encumbrances and security interests prohibited by this Agreement and of removing the same if they should arise, and any and all excise, property, sales and use taxes imposed by any state, federal or local authority on any of the Collateral or in respect of the sale thereof, shall be borne and paid by the Debtor and if the Debtor fails to promptly pay any expenses or taxes when due, the Lender may, at its option, but shall not be required to pay

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the same whereupon the same shall constitute Obligations and shall be secured by the security interest granted hereunder.

          3.8     Insurance. The Debtor will procure and maintain, or cause to be procured and maintained, insurance issued by responsible insurance companies insuring the Collateral against damage and loss by theft, fire, collision (in the case of motor vehicles), and such other risks as are usually carried by owners of similar properties.

          3.9     Compliance with Law. The Debtor will not use the Collateral, or knowingly permit the Collateral to be used, for any unlawful purpose or in violation of any federal, state or municipal law.

          3.10     Additional Documentation. During the period of time when the Secured Note is outstanding, the Debtor will execute, from time to time, such financing statements, assignments, and other documents covering the Collateral, including Proceeds, as the Lender may reasonably request in order to create, evidence, perfect, maintain or continue the security interest in the Collateral (including additional Collateral acquired by the Debtor after the date hereof), and the Debtor will pay the cost of filing the same in all public offices in which the Lender may deem filing to be appropriate and will notify the Lender promptly upon acquiring any additional Collateral that may require an additional filing. Upon request, the Debtor will deliver to the Lender all the Debtor’s Documents, Chattel Paper and Instruments constituting part of the Collateral.

          3.11     Chief Executive Office; State of Incorporation. The location of the chief executive office of the Debtor is located in Minnesota and will not be changed from such state without 30 days’ prior written notice to the Lender. The Debtor warrants that its books and records concerning Accounts and Chattel Paper constituting part of the Collateral are located at its chief executive office. The Debtor’s state of incorporation is Minnesota and Minnesota has been its state of incorporation since the date of the Debtor’s incorporation. The Debtor will not change its state of incorporation from Minnesota without 30 days’ prior written notice to the Lender, the Lender has given its written consent to such change, and the Debtor has delivered to the Lender acknowledgment copies of financing statements filed where appropriate to continue the perfection of the Lender’s security interest as a first priority security interest therein.

          3.12     Name of the Debtor. The Debtor’s exact legal name and type of legal entity is as set forth in the preamble hereto. The Debtor has not used any other name within the past five years except those described on Exhibit A attached hereto. Neither the Debtor nor, to the Debtor’s knowledge, any predecessor in title to any of the Collateral has executed any financing statements or security agreements presently effective as to the Collateral except those described on Exhibit A attached hereto.

          3.13     Power of Attorney. The Debtor appoints the Lender, or any other person whom the Lender may from time to time designate, as the Debtor’s attorney with power, to: (a) endorse the Debtor’s name on any checks, notes, acceptances, drafts or other forms of payment or security evidencing or relating to any Collateral that may come into the Lender’s possession; (b) sign the Debtor’s name on any invoice or bill of lading relating to any Collateral, on drafts

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against customers, on schedules and confirmatory assignments of Accounts, Chattel Paper, Documents or other Collateral, on notices of assignment, financing statements under the UCC and other public records, on verifications of accounts and on notices to customers; (c) notify the post office authorities to change the address for delivery of the Debtor’s mail to an address designated by the Agents; (d) receive and open all mail addressed to the Debtor; (e) send requests for verification of Accounts, Chattel Paper, Instruments or other Collateral to customers; and (f) do all things necessary to carry out this Agreement; provided, however, that so long as no Event of Default has occurred and is continuing, the Lender shall not exercise the powers granted pursuant to this Section 3.13(c) or (d). The Debtor ratifies and approves all acts of the attorney taken within the scope of the authority granted. Neither the Lender nor its attorneys will be liable for any acts of commission or omission nor for any error in judgment or mistake of fact or law, except for its willful misconduct or gross negligence. This power, being coupled with an interest, is irrevocable so long as any Obligation remains unpaid. The Debtor waives presentment and protest of all instruments and notice thereof, notice of default and dishonor and all other notices to which the Debtor may otherwise be entitled.

ARTICLE IV
COLLECTIONS

          Except as otherwise provided in this Article IV, the Debtor shall continue to collect, at its own expense, all amounts due or to become due to the Debtor under the Accounts constituting part of the Collateral and all other Collateral. In connection with such collections, the Debtor may take (and, at the Lender’s request shall take) such action as the Debtor or the Lender may deem necessary or advisable to enforce collection of the Accounts and such other Collateral; provided, however, that the Lender shall have the right at any time after the occurrence and during the continuance of an Event of Default, without giving written notice to the Debtor of the Lender’s intention to do so, to notify the account debtors under any Accounts or obligors with respect to such other Collateral of the assignment of such Accounts and such other Collateral to the Lender and to direct such account debtors or obligors to make payment of all amounts due or to become due to the Debtor thereunder directly to the Lender and, upon such notification and at the expense of the Debtor, to enforce collection of any such Accounts or other Collateral, and to adjust, settle or compromise the amount or payment thereof in the same manner and to the same extent as the Debtor might have done, but unless and until the Lender does so or gives the Debtor other instructions, the Debtor shall make all collections for the Lender.

ARTICLE V
ASSIGNMENT OF INSURANCE

          The Debtor hereby assigns to the Lender, as additional security for payment of the Obligations, any and all monies due or to become due under, and any and all other rights of the Debtor with respect to, any and all policies of insurance covering the Collateral. So long as no Default or Event of Default has occurred and is continuing, the Debtor may itself adjust and collect for any losses for all occurrences during any of the Debtor’s fiscal years and the Debtor may use the resulting Insurance Proceeds for the replacement, restoration or repair of the Collateral. After the occurrence and during the continuance of a Default or an Event of Default, the Lender may (but need not) in its own name or in the Debtor’s name execute and deliver

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proofs of claim, receive such monies, and settle or litigate any claim against the issuer of any such policy and the Debtor directs the issuer to pay any such monies directly to the Lender and the Lender, at its sole discretion and regardless of whether the Lender exercises its right to collect Insurance Proceeds under this sentence, may apply any Insurance Proceeds to the payment of the Obligations, whether due or not, in such order and manner as the Lender may elect or may permit the Debtor to use such Insurance Proceeds for the replacement, restoration or repair of the Collateral.

ARTICLE VI
EVENTS OF DEFAULT

          The Debtor shall be in default under this Agreement upon the occurrence of an Event of Default.

ARTICLE VII
RIGHTS AND REMEDIES ON DEFAULT

          7.1     Generally. In addition to all other rights and remedies granted to it under this Agreement, the Secured Note, the Loan Agreement, the Intellectual Property Security Agreement and under any other instrument or agreement securing, evidencing or relating to any of the Obligations, if any Event of Default shall have occurred and be continuing, the Lender may exercise all rights and remedies of a secured party under the UCC. Without limiting the generality of the foregoing, the Debtor expressly agrees that in any such event the Lender, without demand of performance or other demand, advertisement or notice of any kind (except the notice specified below of time and place of public or private sale) to or upon the Debtor or any other person (all and each of which demands, advertisements and notices are hereby expressly waived to the maximum extent permitted by the UCC and other applicable law), may forthwith enter upon the premises of the Debtor where any Collateral is located through self-help, without judicial process, without first obtaining a final judgment or giving the Debtor or any other person notice and opportunity for a hearing on the Lender’s claim or action and may collect, receive, assemble, process, appropriate and realize upon the Collateral, or any part thereof, and may forthwith sell, lease, license, assign, give an option or options to purchase, or sell or otherwise dispose of and deliver said Collateral (or contract to do so), or any part thereof, in one or more parcels at a public or private sale or sales, at any exchange at such prices as it may deem acceptable, for cash or on credit or for future delivery without assumption of any credit risk. The Lender shall have the right upon any such public sale or sales and, to the extent permitted by law, upon any such private sale or sales, to purchase for the benefit of the Lender, the whole or any part of said Collateral so sold, free of any right or equity of redemption, which equity of redemption the Debtor hereby releases. Such sales may be adjourned and continued from time to time with or without notice. The Lender shall have the right to conduct such sales on the Debtor’s premises or elsewhere and shall have the right to use the Debtor’s premises without charge for such time or times as the Lender deems necessary or advisable.

               If any Event of Default shall have occurred and be continued, the Debtor further agrees, at the Lender’s request, to assemble the Collateral and make it available to the Lender at a

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place or places designated by the Lender which are reasonably convenient to the Lender and the Debtor, whether at the Debtor’s premises or elsewhere. Until the Lender is able to effect a sale, lease, or other disposition of Collateral, the Lender shall have the right to hold or use Collateral, or any part thereof, to the extent that it deems appropriate for the purpose of preserving Collateral or its value or for any other purpose deemed appropriate by the Lender. The Lender shall have no obligation to the Debtor to maintain or preserve the rights of the Debtor as against third parties with respect to Collateral while Collateral is in the possession of the Lender. The Lender may, if it so elects, seek the appointment of a receiver or keeper to take possession of Collateral and to enforce any of the Lender’s remedies, with respect to such appointment without prior notice or hearing as to such appointment. The Lender shall apply the net proceeds of any such collection, recovery, receipt, appropriation, realization or sale to the Obligations, and only after so paying over such net proceeds, and after the payment by the Lender of any other amount required by any provision of law, need the Lender account for the surplus, if any, to the Debtor. To the maximum extent permitted by applicable law, the Debtor waives all claims, damages, and demands against the Lender arising out of the repossession, retention or sale of the Collateral except such as arise solely out of the gross negligence or willful misconduct of the Lender as finally determined by a court of competent jurisdiction. The Debtor agrees that 10-days prior notice by the Lender of the time and place of any public sale or of the time after which a private sale may take place is reasonable notification of such matters. The Debtor shall remain liable for any deficiency if the proceeds of any sale or disposition of the Collateral are insufficient to pay all Obligations, including any attorneys’ fees and other expenses incurred by the Lender to collect such deficiency.

          7.2     Waiver. Except as otherwise specifically provided herein, the Debtor hereby waives presentment, demand, protest or any notice (to the maximum extent permitted by applicable law) of any kind in connection with this Agreement or any Collateral.

          7.3     Not Commercially Unreasonable. To the extent that applicable law imposes duties on the Lender to exercise remedies in a commercially reasonable manner, the Debtor acknowledges and agrees that it is not commercially unreasonable for the Lender (a) to fail to incur expenses reasonably deemed significant by the Lender to prepare Collateral for disposition or otherwise to complete raw material or work in process into finished goods or other finished products for disposition, (b) to fail to obtain third party consents for access to Collateral to be disposed of, or to obtain or, if not required by other law, to fail to obtain governmental or third party consents for the collection or disposition of Collateral to be collected or disposed of, (c) to fail to exercise collection remedies against account debtors or other persons obligated on Collateral or to remove liens on or any adverse claims against Collateral, (d) to exercise collection remedies against account debtors and other persons obligated on Collateral directly or through the use of collection agencies and other collection specialists, (e) to advertise dispositions of Collateral through publications or media of general circulation, whether or not the Collateral is of a specialized nature, (f) to contact other persons, whether or not in the same business as the Debtor, for expressions of interest in acquiring all or any portion of such Collateral, (g) to hire one or more professional auctioneers to assist in the disposition of Collateral, whether or not the Collateral is of a specialized nature, (h) to dispose of Collateral by utilizing internet sites that provide for the auction of assets of the types included in the Collateral or that have the reasonable capacity of doing so, or that match buyers and sellers of assets, (i) to dispose of assets in wholesale rather than retail markets, (j) to disclaim disposition warranties,

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such as title, possession or quiet enjoyment, (k) to purchase insurance or credit enhancements to insure the Lender against risks of loss, collection or disposition of Collateral or to provide to the Lender a guaranteed return from the collection or disposition of Collateral, or (l) to the extent deemed appropriate by the Lender, to obtain the services of other brokers, investment bankers, consultants and other professionals to assist the Lender in the collection or disposition of any of the Collateral. The Debtor acknowledges that the purpose of this Section 7.3 is to provide non-exhaustive indications of what actions or omissions by the Lender would not be commercially unreasonable in the Lender’s exercise of remedies against the Collateral and that other actions or omissions by the Lender shall not be deemed commercially unreasonable solely on account of not being indicated in this Section 7.3. Without limitation upon the foregoing, nothing contained in this Section 7.3 shall be construed to grant any rights to the Debtor or to impose any duties on the Lender that would not have been granted or imposed by this Agreement or by applicable law in the absence of this Section 7.3.

          7.4     Other. The Lender shall not be required to make any demand upon, or pursue or exhaust any of its rights or remedies against, the Debtor, any other obligor, guarantor, pledgor or any other person with respect to the payment of the Obligations or to pursue or exhaust any of its rights or remedies with respect to any Collateral therefore or any direct or indirect guarantee thereof. The Lender shall not be required to marshal the Collateral or any guarantee of the Obligations or to resort to the Collateral or any such guarantee in any particular order, and all of its rights hereunder or under any other agreement shall be cumulative. To the extent it may lawfully do so, the Debtor absolutely and irrevocably waives and relinquishes the benefit and advantage of, and covenants not to assert against the Lender, any valuation, stay, appraisement, extension, redemption or similar laws and any and all rights or defenses it may have as a surety now or hereafter existing which, but for this provision, might be applicable to the sale of any Collateral made under the judgment, order or decree of any court, or privately under the power of sale conferred by this Agreement, or otherwise.

ARTICLE VIII
MISCELLANEOUS

          8.1     No Liability on Collateral. It is understood that the Lender does not in any way assume any of the Debtor’s obligations under any of the Collateral. The Debtor hereby agrees to indemnify the Lender against all liability arising in connection with or on account of any of the Collateral, except for any such liabilities arising on account of the Lender’s gross negligence or willful misconduct.

          8.2     No Waiver. The Lender shall not be deemed to have waived any of its rights hereunder or under any other agreement, instrument or paper signed by the Debtor unless such waiver be in writing and signed by the Lender. No delay or omission on the part of the Lender in exercising any right shall operate as a waiver of such right or any other right. A waiver on any one occasion shall not be construed as a bar to or waiver of any right or remedy on any future occasion.

          8.3     Remedies Cumulative. All rights and remedies of the Lender shall be cumulative and may be exercised singularly or concurrently, at its option, and the exercise or enforcement of

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any one such right or remedy shall not bar or be a condition to the exercise or enforcement of any other.

          8.4     Governing Law. The validity, construction and enforceability of this agreement shall be governed by the internal laws of the State of Minnesota, without giving effect to conflict of laws principles thereof, except to the extent that the perfection of the security interest hereunder, or the enforcement of any remedies hereunder, with respect to any particular Collateral shall be governed by the laws of a jurisdiction other than the State of Minnesota.

          8.5     Expenses. The Debtor agrees to pay the reasonable attorneys’ fees and legal expenses incurred by the Lender in the exercise of any right or remedy available to it under this Agreement, whether or not suit is commenced, including, without limitation, attorneys’ fees and legal expenses incurred in connection with any appeal of a lower court’s order or judgment.

          8.6      Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of the successors and assigns of the Debtor and the Lender.

          8.7     Severability. Wherever possible, each provision of this Agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement shall be prohibited by or invalid under such law, such provision shall be ineffective to the extent of such prohibition or invalidity, without invalidating the remainder of such provision or the remaining provisions of this Agreement.

          8.8     No Obligation to Pursue Others. The Lender has no obligation to attempt to satisfy the Obligations by collecting them from any other person liable for them and the Lender may release, modify or waive any Collateral provided by any other person to secure any of the Obligations, all without affecting the Lender’s rights against the Debtor. The Debtor waives any right it may have to require the Lender to pursue any third person for any of the Obligations.

          8.9     Termination. This Agreement shall terminate upon the payment in full or other satisfaction of the Secured Note by the Debtor. Upon the Debtor’s request, the Lender shall promptly after termination of this Agreement execute and deliver to the Debtor (at the Debtor’s expense) such documents and instruments as are necessary to evidence such termination and release of the security interest granted herein on any applicable public record.

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          IN WITNESS WHEREOF, the undersigned has executed this Agreement as of the date and year first above written.

DATAKEY, INC., a Minnesota corporation
By:	/s/ Timothy L. Russell
	Name:	Timothy L. Russell
	Title:	President and Chief Executive Officer
Accepted and Agreed to by the LENDER: SAFENET, INC., a Delaware corporation
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

[SIGNATURE PAGE TO SECURITY AGREEMENT]

EX-99.7

Exhibit 7
EXECUTION COPY

GRANT OF SECURITY INTEREST IN
INTELLECTUAL PROPERTY

          THIS GRANT OF SECURITY INTEREST IN INTELLECTUAL PROPERTY (this “Agreement”) dated and effective as of this 9th day of September, 2004, is made by DATAKEY, INC., a Minnesota corporation, with its chief executive office at 407 West Travelers Trail, Minneapolis, Minnesota 55337 (hereinafter referred to as the “Company”), in favor of SAFENET, INC., a Delaware corporation, with its chief executive office at 4690 Millennium Drive, Belcamp, Maryland 21027 (the “Lender”), which acquired that certain Secured Promissory Note issued by the Company dated of even date herewith (the “Secured Note”) pursuant to that certain Secured Loan Agreement, dated as of the date hereof, by and between the Company and the Lender (the “Loan Agreement”).

          A.     The Company intends to issue to the Lender the Secured Note from the Company, pursuant to the Loan Agreement, for the aggregate principal amount of $2,181,917.81.

          B. The Loan Agreement and the Secured Note provide for the Lender to make certain loans for the account of the Company and require the Company to grant the Lender a security interest in all of the Company’s assets pursuant to the terms of this Agreement and that certain Security Agreement, dated even herewith, by and among the Company and the Lender (the “General Security Agreement”).

          NOW THEREFORE, in consideration of the premises set forth herein and for other good and valuable consideration, receipt and sufficiency of which is hereby acknowledged, the Company agrees as follows:

          1.     Grant of Security Interest. As security for the payment of each and every debt, liability, and obligation of every type and description which the Company may now or at any time owe to the Lender pursuant to the terms of the Secured Note (the “Obligations”), the Company hereby grants to the Lender a security interest, effective immediately, in all of the Company’s right, title and interest in and to all of the following described property, whether now owned or hereafter acquired (collectively herein, the “Intellectual Property Collateral”):

                    (a)     Any and all copyright rights, copyright applications, copyright registrations and like protections in each work or authorship and derivative work thereof, whether published or unpublished and whether or not the same also constitutes a trade secret, now or hereafter existing, created, acquired or held, including without limitation those set forth on Exhibit A attached hereto (collectively, the “Copyrights”);

                    (b)     Any and all trade secrets, and any and all intellectual property rights in computer software and computer software products now or hereafter existing, created, acquired or held;

                    (c)     Any and all design rights which may be available to the Company now or hereafter existing, created, acquired or held;

                    (d)     All patents, patent applications and like protections including, without limitation, improvements, divisions, continuations, renewals, reissues, extensions and continuations-in-part of the same, including without limitation the patents and patent applications set forth on Exhibit B attached hereto (collectively, the “Patents”);

                    (e)     Any trademark and servicemark rights, whether registered or not, applications to register and registrations of the same and like protections, and the entire goodwill of the business of the Company connected with and symbolized by such trademarks, including without limitation those set forth on Exhibit C attached hereto (collectively, the “Trademarks”)

                    (f)     All mask works or similar rights available for the protection of semiconductor chips, now owned or hereafter acquired, including, without limitation those set forth on Exhibit D attached hereto (collectively, the “Mask Works”);

                    (g)     Any and all claims for damages by way of past, present and future infringements of any of the rights included above, with the right, but not the obligation, to sue for and collect such damages for said use or infringement of the intellectual property rights identified above;

                    (h)     All licenses or other rights to use any of the Copyrights, Patents, Trademarks, or Mask Works and all license fees and royalties arising from such use to the extent permitted by such license or rights; and

                    (i)     All amendments, extensions, renewals and extensions of any of the Copyrights, Trademarks, Patents, or Mask Works; and

                    (j)     All proceeds and products of the foregoing, including without limitation all payments under insurance or any indemnity or warranty payable in respect of any of the foregoing.

          2.     Authorization and Request. The Company authorizes and requests that the Register of Copyrights and the Commissioner of Patents and Trademarks record this Intellectual Property Security Agreement.

          3.     The Lender’s Rights. Upon the occurrence of any Event of Default hereunder, the Lender may exercise any one or more of the rights and remedies stated in this Agreement. The Lender shall have all the rights and remedies of a secured party under the Uniform Commercial Code and any other applicable state or federal laws. The Lender shall have a nonexclusive, royalty free license to use the Copyrights, Patents, Trademarks, and Mask Works to the extent reasonably necessary to permit the Lender to exercise its rights and remedies upon the occurrence of an Event of Default under Section 6(i) of the Secured Note. The Lender will give the Company reasonable notice of the time and place of any public sale of the Intellectual Property Collateral or the time after which any private sale of the Intellectual Property Collateral or any other intended disposition thereof is to be made. Unless otherwise provided by law, the requirement of reasonable notice shall be met if such notice is mailed, postage prepaid to the address of the Company set forth above (or such other address as the Company has given the Lender) at least ten (10) days before the date of such sale or disposition. In addition to the foregoing and all other

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rights and remedies of the Lender upon the occurrence of any Event of Default hereunder, the Lender shall thereupon have the immediate right to transfer to itself, to sell, assign and transfer to any other person or persons all right, title and interest in and to all or any part of the Intellectual Property Collateral. The Company agrees that, in the event that the Lender exercises its rights hereunder after written notification of such exercise from the Lender to the Company, the Company shall never thereafter, without the prior written authorization of the owner or owners of such Intellectual Property Collateral, use any of such Intellectual Property Collateral. The condition of the foregoing provision is such that unless and until there occurs an Event of Default under this Agreement, the Company shall continue to own and use the Intellectual Property Collateral in the normal course of its business and to enjoy the benefits, royalties and profits therefrom provided, however, that from and after the occurrence of an Event of Default such right will, upon the exercise by the Lender of the rights provided by this Agreement, be revoked and the right of the Company to enjoy the uses, benefits, royalties and profits of said Intellectual Property Collateral will wholly cease, whereupon the Lender or its transferee(s) shall be entitled to all of the Company’s right, title and interest in and to the Intellectual Property Collateral hereby so assigned. This Agreement will not operate to place upon the Lender any duty or responsibility to maintain the Intellectual Property Collateral.

          4.     Fees. The Company will pay all filing fees with respect to the security interest created hereby which the Lender may deem necessary or advisable in order to perfect and maintain the perfection of its security interest in the Intellectual Property Collateral.

          5.     Representations and Warranties; Covenants. The Company represents and warrants that (a) the Company lawfully possesses and owns the Intellectual Property Collateral and that except for the security interest granted hereby, the Intellectual Property Collateral will be kept free from all liens, security interests, claims and encumbrances whatsoever excluding licenses to resellers and end-users made in the normal course of business; (b) except for licenses to resellers and end-users made in the normal course of business and except as provided for in this Agreement, the Company has not made or given any prior assignment, transfer or security interest in the Intellectual Property Collateral or any of the proceeds thereof; (c) none of the Intellectual Property Collateral has been adjudged in court to be invalid or unenforceable in whole or in part; and (d) to the knowledge of the Company, there are no infringements of the Intellectual Property Collateral. The Company covenants that it will, at its own expense, maintain the Intellectual Property Collateral to the extent practicable in its business including, but not limited to, filing all affidavits, paying all maintenance fees, annuities and renewals possible with respect to patents, trademark registrations and applications therefore. The Company further covenants that during the term of this Intellectual Property Security Agreement, it (i) will not transfer or otherwise encumber any interest in the Intellectual Property Collateral, except for non-exclusive licenses granted by the Company in the ordinary course of business or as set forth in this Intellectual Property Security Agreement; (ii) shall promptly advise the Lender of any material adverse change in the composition of the Intellectual Property Collateral, including but not limited to any subsequent ownership right of the Company in or to any Trademark, Patent, Copyright, or Mask Work specified in this Intellectual Property Security Agreement; (iii) shall (A) protect, defend and maintain the validity and enforceability of the Trademarks, Patents, Copyrights, and Mask Works, (B) use its best efforts to detect infringements of the Trademarks, Patents, Copyrights, and Mask Works and promptly

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advise the Lender in writing of material infringements detected and (C) not allow any Trademarks, Patents, Copyrights, or Mask Works to be abandoned, forfeited or dedicated to the public without the written consent of the Lender, unless the Company determines that reasonable business practices suggest that abandonment is appropriate.

          6.     Application of Proceeds. The proceeds of any sale, transfer or disposition of the Intellectual Property Collateral shall be applied first to all costs and expenses, including, but not limited to, reasonable attorneys’ fees and expenses and court costs, incurred by the Lender in connection with such sale and the exercise of the Lender’s rights and remedies hereunder, under the Secured Note, and under the General Security Agreement; next, such proceeds shall be applied to the payment, in whole or in part, of the Obligations due the Lender; and the balance, if any, shall be paid to the Company or as a court of competent jurisdiction may direct.

          7.     Defense of Claims. The Company will defend at its own cost and expense any action, claim or proceeding affecting the Intellectual Property Collateral or the interest of the Lender therein. The Company agrees to reimburse the Lender for all costs and expenses incurred by the Lender in defending any such action, claim or proceeding.

          8.     Rights Cumulative. This Agreement shall be in addition to the General Security Agreement and shall not be deemed to affect, modify or limit the General Security Agreement or the Secured Note nor any rights that the Lender has under the General Security Agreement. The Company agrees to execute and deliver to the Lender (at the Company’s expense) any further documentation or papers necessary to carry out the intent or purpose of this Agreement including, but not limited to, financing statements under the Uniform Commercial Code, and amendments to this Agreement to evidence the grant of the security interest in Intellectual Property Collateral hereafter obtained by the Company.

          9.     Construction and Invalidity. Any provisions hereof contrary to, prohibited by or invalid under any laws or regulations shall be inapplicable and deemed omitted herefrom, but shall not invalidate the remaining provisions hereof.

          10.     CHOICE OF LAW. THE COMPANY AGREES THAT THE VALIDITY, INTERPRETATION AND ENFORCEMENT OF THIS AGREEMENT AND ALL RIGHTS HEREUNDER SHALL BE GOVERNED BY THE INTERNAL LAWS OF THE STATE OF MARYLAND. THIS AGREEMENT TOGETHER WITH THE LOAN AGREEMENT, THE GENERAL SECURITY AGREEMENT AND THE SECURED NOTE CONSTITUTE THE ENTIRE AGREEMENT OF THE COMPANY AND THE LENDER WITH RESPECT TO THE INTELLECTUAL PROPERTY COLLATERAL, CAN ONLY BE CHANGED OR MODIFIED IN WRITING AND SHALL BIND AND BENEFIT THE COMPANY, THE LENDER AND THEIR RESPECTIVE SUCCESSORS AND ASSIGNS. THE COMPANY AND THE LENDER EACH HEREBY EXPRESSLY WAIVES ANY RIGHT OF TRIAL BY JURY ON ANY CLAIM, DEMAND, ACTION OR CAUSE OF ACTION ARISING HEREUNDER.

          11.     Events of Default. The occurrence of any “Event of Default” under the Secured Note shall constitute an Event of Default under this Agreement.

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          12.     Notices. The Company covenants and agrees that, with respect to the Intellectual Property Collateral, it will give the Lender written notice of:

                    (a)     any written claim by a third party that the Company has infringed on the rights of a third party;

                    (b)     any infringement by a third party on the rights of the Company of which the Company has knowledge, excluding use by licensed end-users in excess of use permitted by their end use license agreement; or

                    (c)     any Intellectual Property Collateral created, arising or acquired by the Company after the date hereof.

          13.     Further Assurances; Attorney-in-Fact.

                    (a)     On a continuing basis, the Company will, subject to any prior licenses, encumbrances and restrictions and prospective licenses, make, execute, acknowledge and deliver, and file and record in the proper filing and recording places in the United States, all such instruments, including appropriate financing and continuation statements and collateral agreements and filings with the United States Patent and Trademarks Office and the Register of Copyrights, and take all such action as may reasonably be deemed necessary or advisable, or as requested by the Lender, to perfect the Lender’s security interest in all Copyrights, Patents, Trademarks, and Mask Works and otherwise to carry out the intent and purposes of this Intellectual Property Security Agreement, or for assuring and confirming to the Lender the grant or perfection of a security interest in all Intellectual Property Collateral.

                    (b)     The Company hereby irrevocably appoints the Lender as the Company’s attorney-in-fact, with full authority in the place and stead of the Company and in the name of the Company, the Lender or otherwise, from time to time in the Lender’s discretion, upon the Company’s failure or inability to do so, to take any action and to execute any instrument which the Lender may deem necessary or advisable to accomplish the purposes of this Intellectual Property Security Agreement, including:

                              (i)     To modify, in its sole discretion, this Intellectual Property Security Agreement without first obtaining the Company’s approval of or signature to such modification by amending Exhibit A, Exhibit B, Exhibit C, and Exhibit D hereof, as appropriate, to include reference to any right, title or interest in any Copyrights, Patents, Trademarks or Mask Works acquired by the Company after the execution hereof or to delete any reference to any right, title or interest in any Copyrights, Patents, Trademarks, or Mask Works in which the Company no longer has or claims any right, title or interest; and

                              (ii)     To file, in its sole discretion, one or more financing or continuation statements and amendments thereto, relative to any of the Intellectual Property Collateral without the signature of the Company where permitted by law.

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          14.     Termination. This Agreement shall terminate upon the payment in full or other satisfaction of the Secured Note by the Company. Upon the Company’s request, the Lender shall promptly after any such termination execute and deliver to the Company (at the Company’s expense) such documents and instruments as are necessary to evidence such termination and release of the security interest granted herein on any applicable public record.

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          IN WITNESS WHEREOF, the parties hereto have duly executed this Grant of Security Interest in Intellectual Property as of the date first set forth above.

DATAKEY, INC., a Minnesota corporation
By:	/s/ Timothy L. Russell
	Name:	Timothy L. Russell
	Title:	President and Chief Executive Officer
Acknowledged and Accepted by the LENDER: SAFENET, INC., a Delaware corporation
By:	/s/ Ken Mueller
	Name:	Ken Mueller
	Title:	Chief Financial Officer

[SIGNATURE PAGE TO GRANT OF SECURITY INTEREST IN
INTELLECTUAL PROPERTY]

EX-99.8

Exhibit 8

JOINT FILING AGREEMENT

          This will confirm the agreement by and between the undersigned that the Statement on Schedule 13D (the “Statement”) filed on or about this date relating to the offer by Snowflake Acquisition Corp., a Minnesota corporation and a wholly owned subsidiary of SafeNet, Inc., a Delaware Corporation, to purchase all the outstanding shares of common stock, par value $0.05 per share, and all of the outstanding shares of convertible preferred stock, liquidation value $2.50 per share, of Datakey, Inc., a Minnesota corporation is being filed on behalf of the undersigned.

          Each of the undersigned hereby acknowledges that pursuant to Rule 13d-1(k) promulgated under the Securities Exchange Act of 1934, as amended, that each person on whose behalf the Statement is filed is responsible for the timely filing of such statement and any amendments thereto, and for the completeness and accuracy of the information concerning such person contained therein; and that such person is not responsible for the completeness or accuracy of the information concerning the other persons making the filing, unless such person knows or has reason to believe that such information is inaccurate.

          This Agreement may be executed in one or more counterparts by each of the undersigned, and each of which, taken together, shall constitute one and the same instrument.

Dated: September 20, 2004	SAFENET, INC.
	/s/ Anthony A. Caputo
	Anthony A. Caputo
	Chief Executive Officer
Dated: September 20, 2004	SNOWFLAKE ACQUISITION CORP.
	/s/ Anthony A. Caputo
	Anthony A. Caputo
	Chief Executive Officer