-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, UF8nm0UB4dmHpNrDlzEhNPXjuSXGpBkG7pn2FrDWwQDrBaEhbShqCG4HJoNuKJAF yiloM8PHcIr4D6PxwS9N0w== 0000891618-99-000396.txt : 19990210 0000891618-99-000396.hdr.sgml : 19990210 ACCESSION NUMBER: 0000891618-99-000396 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19981227 FILED AS OF DATE: 19990209 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SUN MICROSYSTEMS INC CENTRAL INDEX KEY: 0000709519 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRONIC COMPUTERS [3571] IRS NUMBER: 942805249 STATE OF INCORPORATION: DE FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-15086 FILM NUMBER: 99526522 BUSINESS ADDRESS: STREET 1: 901 SAN ANTONIO RD CITY: PALO ALTO STATE: CA ZIP: 94303 BUSINESS PHONE: 6509601300 MAIL ADDRESS: STREET 1: 901 SAN ANTONIO ROAD CITY: PALO ALTO STATE: CA ZIP: 94303 10-Q 1 FORM 10-Q 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended December 27, 1998 or [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from ______ to _______ Commission file number:0-15086 SUN MICROSYSTEMS, INC. (Exact Name of registrant as specified in its charter) DELAWARE 94-2805249 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization)
901 SAN ANTONIO ROAD PALO ALTO, CA 94303 (Address of principal executive offices with zip code) Registrant's telephone number, including area code: (650) 960-1300 N/A (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ] APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS: Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. YES [X] NO [ ] APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date. CLASS OUTSTANDING AT DECEMBER 27, 1998 Common Stock - $0.00067 par value 385,264,651
2 INDEX
PAGE ---- COVER PAGE 1 INDEX 2 PART I - FINANCIAL INFORMATION Item 1 - Financial Statements Condensed Consolidated Balance Sheets 3 Condensed Consolidated Statements of Income 4 Condensed Consolidated Statements of Cash Flows 5 Notes to Condensed Consolidated Financial Statements 7 Item 2 - Management's Discussion and Analysis of Results of Operations and Financial Condition 11 PART II - OTHER INFORMATION Item 1 - Legal Proceedings 24 Item 4 - Submission of Matters to a Vote of Security Holders 24 Item 5 - Other Information 25 Item 6 - Exhibits and Reports on Form 8 - K 25 Item 7A - Quantitative and Qualitative Disclosures about Market Risk 25 SIGNATURES 26
2 3 PART I - FINANCIAL INFORMATION ITEM 1 - FINANCIAL STATEMENTS SUN MICROSYSTEMS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)
December 27, June 30, 1998 1998 ----------- ----------- (unaudited) ASSETS Current assets: Cash and cash equivalents $ 669,862 $ 822,267 Short-term investments 902,929 476,185 Accounts receivable, net 2,108,237 1,845,765 Inventories 363,664 346,446 Deferred tax assets 373,541 371,841 Other current assets 327,461 285,021 ----------- ----------- Total current assets 4,745,694 4,147,525 Property, plant and equipment, at cost 2,593,985 2,257,228 Accumulated depreciation and amortization (1,141,377) (956,616) ----------- ----------- 1,452,608 1,300,612 Other assets, net 363,218 262,925 ----------- ----------- $ 6,561,520 $ 5,711,062 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Short-term borrowings $ 12,351 $ 7,169 Accounts payable 611,412 495,603 Accrued liabilities 1,230,718 1,166,491 Income taxes payable 205,340 188,641 Other current liabilities 288,169 264,967 ----------- Total current liabilities 2,347,990 2,122,871 Deferred income taxes and other obligations 112,527 74,563 Total stockholders' equity 4,101,003 3,513,628 ----------- $ 6,561,520 $ 5,711,062 =========== ===========
See accompanying notes 3 4 SUN MICROSYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (unaudited) (in thousands, except per share amounts)
Three Months Ended Six Months Ended ------------------------ ------------------------ December 27, December 28, December 27, December 28, 1998 1997 1998 1997 ---------- ---------- ---------- ---------- Net revenues: Products $2,384,740 $2,161,992 $4,540,858 $4,009,880 Services 399,700 288,251 734,766 538,967 ---------- ---------- ---------- ---------- Total net revenues 2,784,440 2,450,243 5,275,624 4,548,847 ---------- ---------- ---------- ---------- Cost and expenses: Cost of sales-products 1,121,500 997,301 2,109,737 1,858,628 Cost of sales-services 225,710 174,329 453,810 340,436 Research and development 303,482 259,228 586,762 481,846 Selling, general and administrative 747,603 696,450 1,459,191 1,311,943 Purchased in-process research and development 12,000 110,100 92,000 162,284 ---------- ---------- ---------- ---------- Total costs and expenses 2,410,295 2,237,408 4,701,500 4,155,137 Operating income 374,145 212,835 574,124 393,710 Interest income, net 20,306 10,197 35,661 20,768 ---------- ---------- ---------- ---------- Income before income taxes 394,451 223,032 609,785 414,478 Provision for income taxes 133,364 73,600 234,824 156,613 ---------- ---------- ---------- ---------- Net income $ 261,087 $ 149,432 $ 374,961 $ 257,865 ========== ========== ========== ========== Net income per common share - basic $ 0.68 $ 0.40 $ 0.99 $ 0.69 ========== ========== ========== ========== Net income per common share - diluted $ 0.64 $ 0.38 $ 0.93 $ 0.65 ========== ========== ========== ========== Shares used in the calculation of net income per share - basic 382,547 373,875 379,883 372,968 ========== ========== ========== ========== Shares used in the calculation of net income per share - diluted 405,288 393,231 401,445 394,165 ========== ========== ========== ==========
See accompanying notes. 4 5 SUN MICROSYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) (in thousands)
Six Months Ended --------------------------- December 27, December 28, 1998 1997 --------- --------- Cash flows from operating activities: Net income $ 374,961 $ 257,865 Adjustments to reconcile net income to operating cash flows: Depreciation and amortization 313,370 183,472 Tax benefit of options exercised 96,740 74,466 Purchased in-process research and development 92,000 162,284 Net (increase) decrease in accounts receivable (258,651) 16,004 Net increase in inventories (17,218) (15,765) Net increase in accounts payable 114,749 14,414 Net increase in other current and non-current assets (87,687) (97,594) Net increase in other current and non-current liabilities 143,529 19,301 --------- --------- Net cash provided from operating activities 771,793 614,447 --------- --------- Cash flows from investing activities: Acquisition of property, plant and equipment (360,322) (410,453) Acquisition of spare parts and other assets (68,481) (49,080) Payments for acquisitions, net of cash acquired (31,269) (227,655) Acquisition of short-term investments (935,266) (305,738) Sale of short-term investments 235,617 224,309 Maturities of short-term investments 252,268 214,122 --------- --------- Net cash used by investing activities (907,453) (554,495) --------- --------- Cash flows from financing activities: Issuance of common stock, net 92,228 37,189 Acquisition of treasury stock (164,286) (140,537) Proceeds from employee stock purchase plans 58,529 50,649 Net reduction of short-term borrowings and other obligations (3,216) (94,155) --------- --------- Net cash used by financing activities (16,745) (146,854) --------- --------- Net decrease in cash and cash equivalents (152,405) (86,902) --------- --------- Cash and cash equivalents, beginning of period 822,267 660,170 --------- --------- Cash and cash equivalents, end of period $ 669,862 $ 573,268 ========= =========
5 6 SUN MICROSYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued) (unaudited) (in thousands)
Six Months Ended --------------------------- December 27, December 28, 1998 1997 --------- --------- Supplemental disclosures of cash flow information: Cash paid during the period for: Interest $ 745 $ 388 Income taxes $ 58,448 $ 55,503 Supplemental schedule of non-cash investing activities: Stock issued in conjunction with an acquisition $142,028 -- Fair value of assets acquired $198,629 $ 284,294 Cash paid for assets $ 35,684 $ 233,111 Liabilities assumed $ 20,737 $ 51,183 --------- ---------
See accompanying notes. 6 7 SUN MICROSYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) BASIS OF PRESENTATION The consolidated financial statements include the accounts of Sun Microsystems, Inc. ("Sun" or the "Company") and its wholly-owned subsidiaries. Intercompany accounts and transactions have been eliminated. Certain amounts from prior years have been reclassified to conform to current year presentation. While the interim financial information is unaudited, the financial statements included in this report reflect all adjustments (consisting of normal recurring accruals) that the Company considers necessary for a fair presentation of the results of operations for the interim periods covered and of the financial condition of the Company at the date of the interim balance sheet. The results for the interim periods are not necessarily indicative of the results for the entire year. The information included in this report should be read in conjunction with the 1998 Annual Report to Stockholders which is incorporated by reference in the Company's 1998 Form 10-K . INVENTORIES (IN THOUSANDS)
December 27, 1998 June 30, 1998 ----------------- ------------- Raw materials $127,115 $ 92,197 Work in process 40,577 58,765 Finished goods 195,972 195,484 -------- -------- $363,664 $346,446 ======== ========
INCOME TAXES The Company accounts for income taxes under the liability method of Statement of Financial Accounting Standards No. 109. The provision for income taxes during the interim periods considers anticipated annual income before taxes, earnings of foreign subsidiaries permanently invested in foreign operations, and other differences. RECENT PRONOUNCEMENTS The Company adopted SOP 98-1 "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" effective July 1, 1998. The adoption of SOP 98-1 did not have a material effect on the Company's consolidated financial position or operating results. In June 1998, Financial Accounting Standard No. 133 ("FAS 133"), "Accounting for Derivative Instruments and Hedging Activities" was issued and is effective for all fiscal years beginning after June 15, 1999. FAS 133 requires the Company to recognize all derivatives as either assets or liabilities and measure those instruments at 7 8 fair value. It further provides criteria for derivative instruments to be designated as fair value, cash flow and foreign currency hedges and establishes respective accounting standards for reporting changes in the fair value of the derivative instruments. Upon adoption, the Company will be required to adjust hedging instruments to fair value in the balance sheet and recognize the offsetting gains or losses as adjustments to be reported in net income or other comprehensive income, as appropriate. The Company is evaluating its expected adoption date and currently expects to comply with the requirements of FAS 133 in fiscal year 2000. The Company does not expect the adoption will be material to the Company's financial position or results of operations. COMPREHENSIVE NET INCOME As of July 1, 1998, the Company adopted Financial Accounting Standards No. 130 ("FAS 130") , "Reporting Comprehensive Income." FAS 130 establishes new rules for the reporting and display of comprehensive net income and its components, however, it has no impact on the Company's net income or stockholders' equity. FAS 130 requires foreign currency translation adjustments and changes in fair value for available for sale securities, which prior to adoption were reported in stockholders' equity, to be included in comprehensive income. The components of comprehensive net income, net of tax, are as follows:
Three Months Ended Six Months Ended ------------------------ ------------------------ December 27, December 28, December 27, December 28, 1998 1997 1998 1997 ---------- ---------- ---------- ---------- Net income $ 261,087 $ 149,432 $ 374,961 $ 257,865 Unrealized gain (loss) on securities (6,513) 9,406 (20,637) 9,592 Change in cumulative translation adjustment 242 7,515 2,201 (1,622) --------- --------- --------- --------- Comprehensive net income $ 254,816 $ 166,353 $ 356,525 $ 265,835 ========= ========= ========= =========
ACQUISITIONS On August 28, 1998 the Company acquired all of the outstanding capital stock of NetDynamics, Inc. ("NetDynamics") by means of a merger transaction pursuant to which all the shares of NetDynamics capital stock were converted into the right to receive Sun common stock based upon an agreed-upon exchange ratio which was calculated using an agreed-upon average market price for Sun common stock. The Company issued 2,746,785 shares of Sun common stock (with a fair market value of $48.26875 per share) as the consideration for the acquisition. The transaction was accounted for as a purchase and the excess purchase price over the estimated fair value of net tangible assets has been allocated to various intangible assets, primarily consisting of developed technology ($20 million) and goodwill ($36.2 million), customer base ($10 million) and assembled workforce ($2 million). In addition to the intangible assets acquired, the Company recorded an $80 million charge, representing the write-off of in-process research and development ("IPRD"). On September 28, 1998 the Company acquired all of the outstanding capital stock of i-Planet, Inc. ("i-Planet") by means of a merger transaction pursuant to which all the shares of i-Planet capital stock were converted into the right to receive cash. The transaction was accounted for as a purchase and the excess purchase price over the estimated fair value of net tangible assets has been allocated to various intangible assets, primarily consisting of developed technology ($3.3 million) and goodwill type assets ($18.3 million). In addition to the intangible assets acquired, the Company recorded an $8.4 million charge, representing the write-off of IPRD. 8 9 On October 16, 1998, the Company acquired all of the outstanding capital stock of Beduin Communications Incorporated ("Beduin") by means of a share purchase transaction pursuant to which all the shares of Beduin capital stock were converted into the right to receive cash. The transaction was accounted for as a purchase and the excess purchase price over the estimated fair value of net tangible assets has been allocated to various intangible assets, primarily consisting of developed technology ($3.1 million) and goodwill type assets ($1.4 million). In addition to the intangible assets acquired, the Company recorded an $3.6 million charge, representing the write-off of IPRD. For financial reporting purposes, the Company is required for each acquisition to determine the fair value of all identified intangible assets acquired and expense the fair value associated with IPRD for which there is no alternative future use. The allocation of $80 million, $8.4 million, and $3.6 million of the purchase price to IPRD in the case of the NetDynamics, i-Planet and Bediun acquisitions, respectively, represents the estimated fair value based on risk adjusted cash flows related to each incomplete project. The Company believes that such fair values do not exceed the amount a third party would pay for each such in-process technology. At the date of each of the acquisitions, the projects associated with the IPRD efforts had not yet reached technological feasibility and the in-progress technology had no alternative future use. Accordingly, these costs were expensed. In making its purchase price allocations for the NetDynamics, i-Planet, and Bediun acquisitions, the Company considered present value calculations of income, an analysis of project accomplishments and completion costs, an assessment of overall contribution, as well as project risks. The values assigned to IPRD related to each acquisition were determined by estimating the costs to develop the purchased in-process technology into commercially viable products, estimating the resulting net cash flows from each project, excluding the cash flows related to the portion of each project that was incomplete at the acquisition date, and discounting the resulting net cash flows to their present value. Each of these forecasts were based upon future discounted cash flows, taking into account the state of development of each in-process project, the cost to complete that project, the expected income stream, the life cycle of the product ultimately developed, and the associated risks. Projected future net cash flows attributable to the in-process technology, assuming successful development of such technologies, were discounted to their present value using a discount rate which was derived based on the Company's estimated weighted average cost of capital plus a risk premium to account for the inherent uncertainty surrounding the successful completion of each project and the associated estimated cash flows. The values assigned to developed technologies related to each acquisition were based upon future discounted cash flows related to each of the existing products' projected income stream. The values of the customer bases were determined based upon the value of existing relationships and the expected revenue stream. The value of the assembled workforces were based upon the cost to replace that workforce. Intangible assets, including goodwill, are being amortized over their estimated useful lives, generally two to five years. 9 10 SUN MICROSYSTEMS, INC. AND AMERICA ONLINE, INC. STRATEGIC DEVELOPMENT AND MARKETING AGREEMENT On November 23, 1998, Sun and America Online, Inc. ("AOL") entered into a Strategic Alliance consisting of several agreements between the parties, including the Strategic Development and Marketing Agreement ("SDMA"). A copy of the SDMA has been filed as exhibit 10.93 to this Form 10-Q and is incorporated herein by reference. Under terms of the SDMA, AOL and Sun committed to collaboratively develop, market and sell client and server software and collaboratively develop an AOL specific Java environment that will enable AOL services to be accessed through a variety of hardware devices. The SDMA provides that over a three year period, AOL will develop and market, together with Sun, client software and network application and server software based in part on the Netscape Communications, Inc. ("Netscape") code base, on Sun code and technology, and on certain AOL services features to business enterprises. In addition, AOL and Sun have agreed to coordinate their sales efforts and share revenues with respect to designated collaboratively developed client software and network application and server software and associated services. Under the terms of the SDMA, Sun has committed that the total revenue earned by AOL from certain existing Netscape contracts, the sale or license of certain AOL and Netscape software and services, the sale or license of certain collaboratively developed software products and services and the license to Sun to distribute commercially existing Netscape software will not be less than $312 million, $330 million and $333 million in the first, second and third years of the SDMA's three year term, respectively; for these purposes a portion of the total revenue is determined as a percentage of the gross margin or net of sales commissions earned by Sun. In addition, Sun will pay to AOL approximately $275 million in licensing and other fees in connection with licenses granted to Sun by AOL. In a separate transaction, AOL signed a definitive agreement to acquire Netscape (the "Merger"). The SDMA provides that in the event the Merger is not consummated by June 30, 1999, AOL and Sun will negotiate in good faith for a period of 30 days thereafter in an effort to agree to alternative terms, and either party may terminate the SDMA if the parties fail to agree on alternative terms during that period. SUBSEQUENT EVENTS On January 21, 1999 the Company announced a two-for-one stock split (to be effected in the form of a stock dividend) to stockholders of record as of the close of business on March 18, 1999. This dividend is subject to stockholder approval of an increase in the number of authorized shares of the Company's Common Stock to 1.8 billion shares which will be sought at the Company's Special Meeting of Stockholders on March 17, 1999. On January 22, 1999, the Company acquired all of the outstanding capital stock of Maxstrat Corporation ("Maxstrat"), by means of a merger transaction pursuant to which all of the shares of Maxstrat capital stock were converted into the right to receive cash. The transaction will be accounted for as a purchase, and the purchase price will be allocated to tangible and intangible assets and IPRD. 10 11 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION The following table sets forth items from the Condensed Consolidated Statements of Income as a percentage of total net revenues:
Three Months Ended Six Months Ended -------------------------- -------------------------- December 27, December 28, December 27, December 28, 1998 1997 1998 1997 ----- ----- ----- ----- Net revenues: Products 85.6% 86.5% 86.1% 88.2% Services 14.4 13.5 13.9 11.8 ----- ----- ----- ----- Total net revenues 100.0 100.0 100.0 100.0 ----- ----- ----- ----- Cost of sales: Products 40.3 40.7 40.0 40.8 Services 8.1 7.1 8.6 7.5 ----- ----- ----- ----- Total cost of sales 48.4 47.8 48.6 48.3 ----- ----- ----- ----- Gross margin 51.6 52.2 51.4 51.7 Research and development 10.9 10.6 11.1 10.6 Selling, general and administrative 26.8 28.4 27.7 28.85 Purchased in-process research and development 0.4 4.5 1.7 3.6 ----- ----- ----- ----- Operating income 13.4 8.7 10.9 8.7 Interest income, net 0.8 0.4 0.7 0.4 ----- ----- ----- ----- Income before income taxes 14.2 9.1 11.6 9.1 Provision for income taxes 4.8 3.0 4.5 3.4 ----- ----- ----- ----- Net income 9.4% 6.1% 7.1% 5.7% ===== ===== ===== =====
The following sections contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements involve risks and uncertainties, and the cautionary statements set forth below, specifically those contained in "Future Operating Results" identify important factors that could cause actual results over the next few quarters to differ materially from those predicted in any such forward-looking statements. Such factors include, but are not limited to, adverse changes in general economic conditions, including adverse changes in the specific markets for the Company's products, adverse business conditions, decreased or lack of growth in the computing industry, adverse changes in customer order patterns, increased competition, lack of acceptance of new products, pricing pressures, lack of success in technological advancements, risks associated with foreign operations (including the downturn of economic trends and unfavorable currency movements in the Asia Pacific and Latin American marketplace), 11 12 risks associated with the Company's efforts to comply with Year 2000 requirements, risks associated with the Company's new business practices, processes and information systems, and other factors, including those listed below. Other facts that may affect such results and financial condition are set forth in the Company's 1998 Annual Report to Stockholders which is incorporated by reference in the Company's Form 10-K. RESULTS OF OPERATIONS NET REVENUES Net revenues were $2,784.4 million for the second quarter of fiscal 1999 and $5,275.6 million for the first six months of fiscal 1999, representing increases of 13.6% and 16.0%, respectively, over the corresponding periods of fiscal 1998. Sun's products net revenues were $2,384.7 million for the second quarter of fiscal 1999, an increase of $222.7 million or 10.3% over the second quarter of fiscal 1998. Net product revenues were $4,540.9 million for the six months ended December 27, 1998, an increase of $531.0 million or 13.2% over the corresponding period of fiscal 1998. More than 50% of the growth in products revenues for the quarter ended December 27, 1998 resulted from strong demand for low-end desktop products and workgroup servers, and to a lesser extent from increased revenues generated by richly configured enterprise servers. More than 50% of the growth in products revenues for the six month period ended December 27, 1998 resulted from strong demand for low-end desktop products and workgroup servers and to a lesser extent, the Company's storage products. The growth in product revenues in both the quarter and year to date periods was partially offset by a decline in high-end desktop product volumes as the result of a shift in customer purchasing patterns towards low-end desktop products and workgroup servers. Sun's services net revenues were $399.7 million for the second quarter of fiscal 1999, an increase of $111.4 million or 38.6% over the second quarter of fiscal 1998. Net revenues from services were $734.8 million for the six months ended December 27, 1998, an increase of $195.8 million or 36.3% over the corresponding period of fiscal 1998. The increases in services revenues are primarily the result of a larger installed product base due to increased product unit sales, as well as increased revenues associated with Sun's professional and educational services. Domestic net revenues increased by 10.1% and 14.9 % in the second quarter and first six months of fiscal 1999, respectively. International net revenues (including United States exports) grew 17.2% and 17.1% in the second quarter and first six months of fiscal 1999, respectively, compared with the corresponding periods of fiscal 1998. In US dollars, European net revenues increased 22.7% and 28.7%, Rest of World (ROW) net revenues increased 7.1% and 10.8%, and Japanese net revenues increased 13.8% and decreased 3.3%, in the second quarter and first six months of fiscal 1999, respectively, when compared with the corresponding periods of fiscal 1998. The increases in Europe and the ROW are due to continued market acceptance of Sun's network computing products and services primarily in the United Kingdom and Germany. The Company attributes the increase in Japanese revenues in the second quarter to increased demand within the region for Sun's products, rather than a sign of strengthening in the Asian economies. Sun remains cautious with regard to the Japanese market and does not expect the current Japanese Macroeconomic trends to change significantly or materially in the near term. The foregoing is a forward-looking statement that is subject to risks and uncertainties, and actual results may differ materially from those set forth in such statement as the result of a number of factors. In particular, if the economic trends in Japan significantly worsen in a quarter or decline over an extended period of time, the Company's results from operations and cash flows would be adversely affected. A portion of the Company's operations consists of manufacturing and sales activities in foreign jurisdictions. As a result, the Company's results could be significantly adversely affected by factors such as changes in foreign currency exchange rates or economic conditions in the foreign markets in which the Company distributes its 12 13 products. The Company is primarily exposed to changes in exchange rates on the Japanese yen, British pound sterling, French franc and German mark. When the U.S. dollar strengthens against these currencies, the U.S. dollar value of non-U.S. dollar-based sales decreases. When the U.S. dollar weakens against these currencies, the U.S. dollar value of non-U.S. dollar-based sales increases. Correspondingly, the U.S. dollar value of non-U.S. dollar-based costs increases when the U.S. dollar weakens and decreases when the U.S. dollar strengthens. Overall the Company is a net receiver of currencies other than the U.S. dollar and, as such, benefits from a weaker dollar, and is adversely affected by a stronger dollar relative to major currencies worldwide. Accordingly, changes in exchange rates, and in particular a strengthening of the U.S. dollar, may adversely affect the Company's consolidated sales and gross margins as expressed in U.S. dollars. To mitigate the short-term effect of changes in currency exchange rates on the Company's non-US dollar-based sales, product procurement, and operating expenses, the Company regularly hedges its net non-U.S. dollar-based exposures by entering into foreign exchange forward and option contracts to hedge transactions. Currently, hedge contracts do not extend beyond three months. Given the short-term nature of the Company's foreign exchange forward and options contracts, the Company's exposure to risk associated with currency market movement on these instruments is not material. GROSS MARGIN Total gross margin was 51.6% for the second quarter of fiscal 1999 and 51.4% for the first six months of fiscal 1999, compared with 52.2% and 51.7%, respectively, for the corresponding periods of fiscal 1998. Products gross margin was 53.0% in the second quarter of fiscal 1999 and 53.5% for the first six months of fiscal 1999, compared with 53.9% and 53.6%, respectively, for the corresponding periods of fiscal 1998. The decrease in the products gross margin for the second quarter of fiscal 1999 reflects the effects of increased volumes of lower margin low-end desktop products, partially offset by higher margin servers and reduced component costs across product lines. There could be a further impact upon products gross profit margins as the result of any continued shift in customer purchasing patterns towards low-end desktop products and workgroup servers. The foregoing is a forward-looking statement that is subject to risks and uncertainties, and actual results may differ materially from those set forth in such statement as the result of a number of factors. Services gross margin was 43.5% for the second quarter of fiscal 1999 and 38.2% for the first six months of fiscal 1999, compared with 39.5% and 36.8%, respectively, for the corresponding periods of fiscal 1998. The increases in services gross margin reflect increased market penetration in Enterprise datacenter accounts, increased enrollment in datacenter training courses and other offerings, and continued growth in professional services offerings. These increases have been partially offset by increased investment by the Company in its services business. The Company continuously evaluates the competitiveness of its product offerings. These evaluations could result in repricing actions in the near term. Sun's future operating results would be adversely affected if such repricing actions were to occur and the Company were unable to mitigate the resulting margin pressure by maintaining a favorable mix of systems, software, service, and other products and by achieving component cost reductions, operating efficiencies and increasing volumes. RESEARCH AND DEVELOPMENT Research and development (R&D) expenses increased to $303.5 million in the second quarter of fiscal 1999, compared with $259.2 million for the second quarter of fiscal 1998. R&D expenses were $586.8 million for the first six months of fiscal 1999, compared with $481.8 million for the corresponding period of fiscal 1998. As a percentage of total net revenues, R&D expenses increased to 10.9% and 11.1% for the second quarter and first six months of fiscal 1999, respectively, compared with 10.6% in each of the corresponding periods of fiscal 1998. Both the dollar and percentage increase in R&D expenses in the second quarter and first half of fiscal 1999 over the corresponding periods in fiscal 1998 primarily reflect increased expenditures focused on the development of hardware and software products which utilize the Java (TM) platform and new server and storage products. The remaining increase in R&D expenses is due to 13 14 further development of products acquired through acquisitions and increased compensation due primarily to higher levels of R&D staffing. The increase in R&D expenses reflects the Company's belief that to maintain its competitive position in a market characterized by rapid rates of technological advancement, the Company must continue to invest significant resources in new systems, software products and microprocessor development, as well as enhancements to existing products. The Company continues to expect the level of R&D expenses to be in the range of 10 to 11% of revenue for fiscal 1999. SELLING, GENERAL AND ADMINISTRATIVE Selling, general and administrative (SG&A) expenses increased to $747.6 million in the second quarter of fiscal 1999, compared with $696.5 million for the second quarter of fiscal 1998. SG&A expenses were $1,459.2 million for the first six months of fiscal 1999, compared with $1,311.9 million for the corresponding period of fiscal 1998. As a percentage of total net revenues, SG&A expenses decreased to 26.8% and 27.7% in the second quarter and first six months of fiscal 1999, respectively, from 28.4% and 28.8%, respectively, in the corresponding periods of fiscal 1998. Overall SG&A spending increased by approximately $51.1 million or 7.3% in the second quarter of fiscal 1999 in comparison with the same period of fiscal 1998. For the six month period ended December 27, 1998, overall SG&A spending increased by approximately $147.2 million or 11.2% in comparison to the corresponding period of fiscal 1998. The dollar increases in fiscal 1999 are primarily attributable to increased compensation resulting from higher levels of headcount, principally in the sales organization, annual salary adjustments and to a lesser extent marketing costs related to promotional programs. The dollar increase also reflects investments aimed at improving Sun's own business processes. The Company expects to continue to hire personnel, although at a lower rate than in fiscal 1998 and early 1999, to further expand its demand creation programs and support organizations. PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT NETDYNAMICS, INC. On August 28, 1998, the Company acquired all of the outstanding capital stock of NetDynamics by means of a merger transaction pursuant to which all the shares of NetDynamics capital stock were converted into the right to receive shares of Sun common stock based upon an agreed-upon exchange ratio which was calculated using an agreed-upon average market price for Sun common stock. The Company issued 2,746,785 shares of Sun common stock (with a fair market value of $48.26875 per share) as the consideration for the acquisition. The transaction was accounted for as a purchase and the excess purchase price over the estimated fair value of net tangible assets has been allocated to various intangible assets, primarily consisting of developed technology ($20 million), goodwill ($36.2 million), customer base ($10 million) and assembled workforce ($2 million). In addition to the intangible assets acquired, the Company recorded an $80 million charge, representing the write-off of IPRD. At the acquisition date, NetDynamics was conducting development, engineering, and testing activities associated with the completion of a new enterprise application platform product scheduled to be released in mid calendar 1999. It is anticipated that this new product offering ("NetDynamics New Product Offering") will employ a new server-side component model, based on the Enterprise JavaBeans (TM) ("EJB") architecture, which will allow business logic to reside in the middle tier of the enterprise computing model independent of the client presentation layer and independent of legacy and database systems. This architecture is significantly different than the business logic architecture in NetDynamics' existing product offering in which the server components are tightly integrated with the presentation interface. The EJB architecture will allow for the development of more robust applications with improved reusability, better connectivity to a wide variety of data sources, and a more-industry standard interface through the use of Java enterprise application 14 15 programming interfaces. Other new features include significant security enhancements and performance and scalability improvements and the addition of new platform adaptor components for legacy systems integration. At the acquisition date, NetDynamics was in mid-stages of development and substantial progress had been made in the areas of specifications, design, and implementation. Remaining efforts necessary to complete the NetDynamics New Product Offering relate primarily to coding, testing, and addressing additional implementation issues. The Company anticipates that the NetDynamics New Product Offering will be complete by the end of the Company's fiscal year ending June 30, 1999, after which the Company expects to begin generating economic benefits from the value of the completed development associated with the IPRD. The Company continues to expect expenditures to complete the NetDynamics New Product Offering to total approximately $5.7 million in fiscal 1999 of which $2.4 million has been incurred. The preceding two sentences are forward-looking statements that are subject to risks and uncertainties and actual results may differ materially from those set forth in such sentences as a result of a number of factors. In particular, there can be no assurance that the NetDynamics New Product Offering will be completed by the end of the Company's fiscal year ending June 30, 1999, that it will meet either technological or commercial success or that the Company will receive any economic benefit from the NetDynamics New Product Offering. In addition, the expenditures related to completing the NetDynamics New Product Offering may exceed the Company's current estimates as a result of delays in the development of the technology, the complexity of the technology, changes in customer needs, or for other reasons. I-PLANET, INC. On September 28, 1998 the Company acquired all of the outstanding capital stock of i-Planet by means of a merger transaction pursuant to which all the shares of i-Planet capital stock were converted into the right to receive cash. The transaction was accounted for as a purchase and the excess purchase price over the estimated fair value of net tangible assets has been allocated to various intangible assets, primarily consisting of developed technology ($3.3 million) and goodwill type assets ($18.3 million). In addition to the intangible assets acquired, the Company recorded an $8.4 million charge, representing the write-off of IPRD. At the acquisition date, i-Planet was conducting development, engineering, and testing activities associated with the completion of a new Java technology-based remote Internet access product scheduled to be released in early calendar 1999. It is anticipated that this new product offering ("i-Planet New Product Offering") when combined with a new Sun software product will be designed to allow cost-effective, secure, and ubiquitous internet access for applications such as remote access to corporate intranets, supply chain management and commerce applications. At the acquisition date, i-Planet was in mid-stages of development and substantial progress had been made in the areas of specifications, design, and implementation. Remaining efforts necessary to complete the i-Planet New Product Offering relate primarily to coding, testing, and addressing additional implementation issues. The Company anticipates that the i-Planet New Product Offering will be complete by the end of the Company's third quarter of fiscal 1999, after which the Company expects to begin generating economic benefits from the value of the completed development associated with the IPRD. Expenditures to complete the i-Planet New Product Offering are expected to total approximately $6 million in fiscal 1999. The preceding two sentences are forward-looking statements that are subject to risks and uncertainties and actual results may differ materially from those set forth in such sentences as a result of a number of factors. In particular, there can be no assurance that the i-Planet New Product Offering will be completed by the end of the Company's fiscal year ending June 30, 1999, that it will meet either technological or commercial success or that the Company will receive any economic benefit from the i-Planet New Product Offering. In addition, the expenditures related to completing the i-Planet New Product Offering may exceed the Company's current estimates as a result of delays in the development of the technology, the complexity of the technology, changes in customer needs, or for other reasons. BEDIUN COMMUNICATIONS INCORPORATED On October 16, 1998, the Company acquired all of the outstanding capital stock of Beduin by means of a share purchase transaction pursuant to which all the shares of Beduin capital stock were converted into the right to receive cash. The transaction was accounted for as a purchase and the excess purchase price over the estimated fair value of net tangible assets has been allocated to various intangible assets, primarily consisting of developed technology ($3.1 million) and goodwill type assets ($1.4 million). In addition to the intangible assets acquired, the Company recorded an $3.6 million charge, representing the write-off of IPRD. At the acquisition date, Bediun was conducting development, engineering, and testing activities associated with the completion of a suite of products ("Bediun New Product Offerings") which included: Lifestyle Manager Personal Information Manager ("PIM") (a next generation PIM targeted at smart devices incorporating Java technology), and email Client (a next generation email client specialized to take advantage of the benefits of 15 16 these smart devices). The Lifestyle PIM and the email client were scheduled to be released in the second quarter of calendar year 1999. It is anticipated that these Bediun New Product Offerings will provide the core functionality for smart devices incorporating Java technology and enable more efficient communication, regardless of time, location or type of device. These Bediun New Product Offerings are designed to integrate and synchronize communications and data processing systems to enable communications across time and space. At the acquisition date, Bediun was in mid-stages of development and substantial progress had been made in the areas of specifications, design, and implementation. Remaining efforts necessary to complete the Bediun New Product Offerings relate primarily to coding, testing, and addressing additional implementation issues. The Company anticipates that the Bediun New Product Offerings will be complete during the fourth quarter of the Company's fiscal year ending June 30, 1999, after which the Company expects to begin generating economic benefits from the value of the completed development associated with the IPRD. Expenditures to complete the Bediun New Product Offerings are expected to total approximately $1 million in fiscal 1999. The preceding two sentences are forward-looking statements that are subject to risks and uncertainties and actual results may differ materially from those set forth in such sentences as a result of a number of factors. In particular, there can be no assurance that the Bediun New Product Offerings will be completed by the end of the Company's fiscal year ending June 30, 1999, that it will meet either technological or commercial success or that the Company will receive any economic benefit from the Bediun New Product Offerings. In addition, the expenditures related to completing the Bediun New Product Offerings may exceed the Company's current estimates as a result of delays in the development of the technology, the complexity of the technology, changes in customer needs, or for other reasons. VALUATIONS OF IPRD For financial reporting purposes, the Company is required to determine the fair value of all identified intangible assets and expense the fair value associated with IPRD for which there is no alternative future use for each of its acquisitions. The allocation of $80 million, $8.4 million, and $3.6 million of the purchase price to IPRD in the case of the NetDynamics, i-Planet and Bediun acquisitions, respectively, represents the estimated fair values based on risk adjusted cash flows related to each incomplete project. The Company believes that such fair values do not exceed the amount a third party would pay for each such in-process technology. At the date of each of the acquisitions, the projects associated with the IPRD efforts had not yet reached technological feasibility and the R&D in progress had no alternative future uses. Accordingly, these costs were expensed. Forecasts of future results that management believes are likely to occur were the basis for assigning value to IPRD. For the NetDynamics, i-Planet, and Bediun acquisitions, the values assigned to IPRD were determined by estimating the costs to develop the purchased in-process technology into commercially viable products, estimating the resulting net cash flows from each project, excluding the cash flows related to the portion of each project that was incomplete at the acquisition date, and discounting the resulting net cash flows to their present value. Each of these forecasts were based upon future discounted cash flows, taking into account the state of development of each in-process project, the cost to complete that project, the expected income stream, the life cycle of the product ultimately developed, and the risks associated with successful development and commercialization of each project. Projected future net cash flows attributable to the in-process technology, assuming successful development of such technologies, were discounted to their present value using a discount rate which was derived based on the Company's estimated weighted average cost of capital ("WACC") plus a risk premium to account for the inherent uncertainty surrounding the successful completion of each project and the associated estimated cash flows. The discount rates used in valuing the net cash flows from each purchased in-process technology were 20% for the NetDynamics acquisition, 25% for the i-Planet acquisition, and 40% for the Bediun acquisition. These discount rates are higher than the WACC due to the inherent uncertainties in the estimates described above, including the uncertainty surrounding the successful development of the purchased in-process technologies, the useful life of such technologies, the profitability levels of such technology and the uncertainty of technological advances that are unknown at this time. The estimates utilized in the valuation of the IPRD charges are subject to change, given the uncertainties of the development process, and no assurance can be given that deviations from these estimates will not occur. Management expects to continue its development each project and believes that there is a reasonable chance of successfully completing such development. However, there is risk associated with the completion of the in-process projects and there can be no assurance that any project will meet with either technological or commercial success. Failure to successfully develop and commercialize these in-process projects would result 16 17 in the loss of the expected economic return inherent in the fair value allocation. Additionally, the value of other intangible assets acquired may become impaired. The foregoing statements in this paragraph are forward-looking statements that are subject to risks and uncertainties, and actual results may differ materially from those set forth in such statements as the result of a number of factors, including those stated in this paragraph. Purchased IPRD of $110.1 million and $162.3 million in the second quarter and first six months of fiscal 1998, respectively, represent the write-off of purchased IPRD associated with the Company's acquisitions of Chorus Systems S.A., and the storage products business of Encore Computer Corporation in the second quarter of fiscal 1998 and Diba, Inc. and Integrity Arts, Inc. in the first quarter of fiscal 1998. INTEREST INCOME, NET Net interest income was $20.3 million for the second quarter and $35.7 million for the first six months of fiscal 1999, compared with $10.2 million and $20.8 million, respectively for the corresponding periods in fiscal 1998. The increases in 1999 are primarily the result of higher interest earnings due to a larger average portfolio of cash and short-term investments. INCOME TAXES The Company's effective income tax rate was 33% for the second quarter and first six months of fiscal 1999, before non-recurring tax charges of $3.2 million resulting from a write-off of IPRD associated with the acquisition of i-Planet in the second quarter of fiscal 1999 and $30.4 million resulting from a write-off of IPRD associated with the acquisition of NetDynamics in the first quarter of fiscal 1999. The effective tax rate including such charges for the second quarter and six months ended December 27, 1998 was 33.8% and 38.5%, respectively. The Company's effective income tax rate for the second quarter and six months ended December 28, 1997 was 33% before a tax charge of $19.8 million resulting from a write-off of IPRD associated with the acquisitions of Diba Inc. and Integrity Arts, Inc. in the first quarter of fiscal 1998. The Company currently expects its effective tax rate to remain at 33% for the balance of fiscal 1999, exclusive of any acquisition- related charges. FUTURE OPERATING RESULTS COMPETITION The markets for Sun's hardware and software products and services are intensely competitive and subject to continuous, rapid technological change, short product life cycles and frequent product performance improvements and price reductions. Due to the breadth of the Company's product lines and the scalability of its products and network computing model, Sun competes principally with Hewlett-Packard Company, International Business Machines Corporation, Compaq Computer Corporation, Silicon Graphics, Inc. and EMC Corporation, in many segments of the network computing market across a broad spectrum of customers. The Company expects the markets for its products, technologies, and services, as well as its competitors within such markets, will continue to change as the rightsizing trend shifts customer buying patterns to network-based systems which often employ solutions from multiple vendors. Competition in these markets will also continue to intensify as Sun and many of its competitors, aggressively position themselves to benefit from this shifting of customer buying patterns and demand. The Company is also facing competition from certain systems manufacturers, including Dell Computer Corporation and certain of its competitors listed above, whose products are based on microprocessors from Intel Corporation coupled with Windows NT operating system software from Microsoft Corporation. These products demonstrate the viability of certain networked personal computer solutions and have increased the competitive pressure, particularly in the Company's workstation and 17 18 lower-end server product lines. Finally, the timing of introductions of new products and services by Sun's competitors may negatively impact the future operating results of the Company, particularly when such introductions occur in periods leading up to the Company's introduction of its own new enhanced products. The Company expects this pressure to continue and intensify throughout fiscal 1999. While many other technical, service and support capabilities affect a customer's buying decision, the Company's future operating results will depend, in part, on its ability to compete with these technologies. PRODUCT DEVELOPMENT The Company's future operating results will depend to a considerable extent on its ability to rapidly and continuously develop, introduce, and deliver in quantity new systems, software, and service products, as well as new microprocessor technologies, that offer its customers enhanced performance at competitive prices. The development of new high-performance computer products, such as the Company's recent development of the UltraSPARC microprocessor is a complex and uncertain process requiring high levels of innovation from the Company's designers and suppliers, as well as accurate anticipation of customer requirements and technological trends. Once a hardware product is developed, the Company must rapidly bring such products to volume manufacturing, a process that requires accurate forecasting of volumes, mix of products and configurations, among other things, in order to achieve acceptable yields and costs. Future operating results will depend to a considerable extent on the Company's ability to closely manage product introductions in order to minimize unfavorable patterns of customer orders, to reduce levels of older inventory and to ensure that adequate supplies of new products can be delivered to meet customer demand. The ability of the Company to match supply and demand is further complicated by the Company's need to adjust prices to reflect changing competitive market conditions as well as the variability and timing of customer orders with respect to the Company's older products. As a result, the Company's operating results could be materially adversely affected if the Company is not able to correctly anticipate the level of demand for the mix of products. Because the Company is continuously engaged in this product development, introduction, and transition process, its operating results may be subject to considerable fluctuation, particularly when measured on a quarterly basis. MANUFACTURING AND SUPPLY Sun uses many standard parts and components in its products and believes there are a number of competent vendors for most parts and components. However, a number of important components are developed by and purchased from single sources due to price, quality, technology or other considerations. In some cases, those components are available only from single sources. In particular, Sun is dependent on Sony Corporation for various monitors and on Texas Instruments Incorporated for different implementations of SPARC(TM) microprocessors. Certain custom silicon parts are designed by and produced on a contractual basis for Sun. The process of substituting a new producer of such parts could materially adversely affect Sun's operating results. Some suppliers of certain components, including color monitors and custom silicon parts, require long lead times such that it can be difficult for the Company to plan inventory levels of components to consistently meet demand for Sun's products. Certain other components, especially memory integrated circuits such as DRAMs, SRAMs, and VRAMs, have from time to time been subject to industry wide shortages. Future shortages of components could negatively affect the Company's ability to match supply and demand, and therefore could materially adversely impact the Company's future operating results. The Company is increasingly dependent on the ability of its suppliers to design, manufacture, and deliver advanced components required for the timely introduction of new products. The failure of any of these suppliers to deliver components on time or in sufficient quantities, or the failure of any of the Company's own designers to develop advanced innovative products on a timely basis, could result in a material adverse impact on the Company's operating results. The inability to secure enough components to build products, including new products, in the quantities and configurations required, or to produce, test and deliver sufficient products to meet demand in a timely manner, would materially adversely affect the Company's net revenues and operating 18 19 results. To secure components for development, production, and introduction of new products, the Company frequently makes advanced payments to certain suppliers and often enters into noncancelable purchase commitments with vendors early in the design process. Due to the variability of material requirement specifications during the design process, the Company must closely manage material purchase commitments and respective delivery schedules. In the event of a delay or flaw in the design process, the Company's operating results could be materially adversely affected due to the Company's obligations to fulfill such noncancelable purchase commitments. SALES, DISTRIBUTION AND MARKETING Generally, the computer systems sold by Sun, such as products based on UltraSPARC (TM) processors, are the result of hardware and software development, such that delays in the software development can delay the ability of the Company to ship new hardware products. In addition, adoption of a new release of an operating system may require effort on the part of the customer and porting by software vendors providing applications. As a result, the timing of conversion to a new release is inherently unpredictable. Moreover, delays by customers in adopting a new release of an operating system can limit the acceptability of hardware products tied to that release. Such delays could materially adversely affect the future operating results of the Company. A significant portion of the Company's revenues is derived from international sales and is therefore subject to inherent risks related thereto, including the general economic and political conditions in each country, currency exchange rate fluctuations, the effect of the tax structures of various jurisdictions, changes to and compliance with a variety of foreign laws and regulations, trade protection measures and import and export licensing requirements. There can be no assurance that the economic crisis and currency issues currently being experienced in certain parts of Asia will not have an adverse effect on the Company's revenue or revenue growth rates in the future. The impact of any of the foregoing factors could have a material adverse effect on the Company's future financial condition and operating results. Seasonality also affects the Company's operating results, particularly in the first and third quarter of each fiscal year. In addition, the Company's operating expenses are increasing as the Company continues to expand its operations, and future operating results will be adversely affected if revenues do not increase accordingly. Additionally, the Company plans to continue to evaluate and, when appropriate, make acquisitions of complementary technologies, products or businesses. As part of this process, the Company will continue to evaluate the changing value of its assets, and when necessary, make adjustments thereto. Acquisitions may involve amortization of acquired intangible assets in periods following such acquisitions. In addition, acquisition transactions are accompanied by a number of risks, including, among other things, those associated with integrating operations, personnel, and technologies acquired, and the potential for unknown liabilities of the acquired business. One customer accounted for more than 10% of revenues in fiscal 1998. Any termination by a significant customer of its relationship with the Company or material reduction in the amount of business such a customer does with the Company could materially adversely effect the Company's business, financial condition or operating results. BUSINESS PRACTICES, PROCESSES AND INFORMATION SYSTEMS In order to remain competitive in a rapidly changing industry, the Company is continually improving and changing its business practices, processes, and information systems. In this regard, during fiscal 1999 the Company implemented a number of new business practices and a series of related information systems across the enterprise that affect numerous operational and financial systems and processes. Although the systems were fully operational by the end of the second quarter of fiscal 1999, these systems will be further tested in the second half of the Company's fiscal year, and in particular, the fourth quarter to the extent that the Company 19 20 experiences higher volumes of orders and shipments as it has typically experienced during these periods. In addition, during the balance of fiscal 1999, the Company expects to continue its efforts to optimize usage of systems capabilities, enhance user skills surrounding system features, and reduce runtime errors. However, there can be no assurance that the system will be able to support the increased volume of activities expected at the Company's fiscal year end. The time period in which the new business practices and related information systems will be fully tested and leveraged are forward-looking statements subject to risks and uncertainties, and actual results may differ materially from those set forth above as a result of a number of risk factors. In particular, the ability to fully leverage systems capabilities are subject to a number of risks, including the complexity of the new systems themselves and the need for substantial and comprehensive employee training in connection with the adoption of such new business practices and information systems. While the Company has tested these new systems and processes in advance of their implementation and continues to monitor the systems and processes ability to support increased volumes of transactions, there are inherent limitations in the Company's ability to simulate a full-scale operating environment in advance of actual transaction volumes. Any increase in the volume of orders and shipments of products during the last half of the fiscal year may have a material adverse effect on the Company's business and operating results, if the systems and processes are unable to support the increased volume of activity. In addition, to the extent that the Company encounters problems with these new systems and practices that prevent or limit their full utilization, there could be a material adverse impact on the Company's operating results. YEAR 2000 COMPLIANCE Many currently installed computer systems and software products are coded to accept only two digit entries in the date code field. As the Year 2000 approaches, these code fields will need to be able to distinguish years beginning with "19" from those beginning with "20." As a result, in less than a year, computer systems and/or software products used by many companies may need to be upgraded to comply with such Year 2000 requirements. The Company is currently expending resources to review its products and services, as well as its internal use software in order to identify and modify those products, services and systems that are not Year 2000 compliant. The Company believes that the vast majority of these costs are not incremental to the Company but represent a reallocation of existing resources and include regularly scheduled system upgrades and maintenance. In addition, the Company is working to make custom coding enhancements to its internal systems (described in the above paragraphs) so that such systems will be Year 2000 compliant by the end of fiscal year 1999. Although the Company believes that the costs associated with the aforementioned Year 2000 efforts are not material, the Company currently estimates that such costs will be approximately $35 million, of which approximately $5 million has been spent to date. The aforementioned costs are estimates due in large part to the fact that the Company does not separately track the internal labor costs associated with Year 2000 compliance, unless such costs are incurred by individuals devoted primarily to Year 2000 compliance efforts. These cost estimates do not include any potential costs related to any customer or other claim. In addition, these cost estimates are based on the current assessment of the ongoing activities described above, and are subject to change as the Company continuously monitors these activities. The Company believes any modifications deemed necessary will be made on a timely basis and does not believe that the cost of such modifications will have a material adverse effect on the Company's operating results. The Company currently expects the aforementioned evaluation of its products, services, and systems and any remediation necessary will be completed by the end of fiscal year 1999. The Company's expectations as to the extent and timeliness of any modifications required in order to achieve Year 2000 compliance and the costs related thereto are forward-looking statements subject to risks and uncertainties. Actual results may vary materially as a result of a number of factors, including, among others, those described in this section. There can be no assurance however, that the Company will be able to successfully 20 21 modify on a timely basis such products, services and systems to comply with Year 2000 requirements, which failure could have a material adverse effect on the Company's operating results. The Company has established a program to assess whether certain of its products are Year 2000 compliant. Under the program, the Company is in the process of performing tests on its products listed on the Company's price lists. To monitor this program and to help customers evaluate their Year 2000 issues the Company has created a web site at http://sun.com/y2000/cpl.html which identifies the following categories: products that were released Year 2000 compliant; products that require modifications to be Year 2000 compliant; products under review; products that are not Year 2000 compliant and need to be replaced with a Year 2000 compliant product; source code products that could be modified and implemented without Sun's review; and products that do not process or manipulate date data or have no date-related technology. This list is periodically updated as analysis of additional products is completed. Based on the Company's assessment to date, most newly introduced products and services of the Company are Year 2000 compliant, however, there can be no assurance that the Company's current products do not contain undetected errors or defects associated with Year 2000 functions that may result in material costs to the Company. In addition, some of the Company's customers are running products that are not Year 2000 compliant and will require an upgrade or other remediation to become Year 2000 compliant. The Company provides limited warranties as to Year 2000 compliance on certain of its products and services. Except as specifically provided for in the limited warranties, the Company does not believe it is legally responsible for costs incurred by customers to achieve Year 2000 compliance. The Company has been taking steps to identify affected customers, raise customer awareness related to noncompliance of the Company's older products and encourage such customers to migrate to current products or product versions. It is possible that the Company may experience increased expenses in addressing migration issues for such customers or customer dissatisfaction as a result of Year 2000 issues, which may have a material adverse effect on the Company's operating results. The Company also faces risks to the extent that suppliers of products, services and systems purchased by the Company and others with whom the Company transacts business on a worldwide basis do not have business systems or products that comply with Year 2000 requirements. To the extent that Sun is not able to test technology provided by third party hardware or software vendors, Sun is in the process of obtaining Year 2000 compliance certifications from each of its major vendors that their products and internal systems, as applicable, are Year 2000 compliant. In the event any such third parties cannot timely provide the Company with products, services or systems that meet the Year 2000 requirements, the Company's operating results could be materially adversely affected. Furthermore, a reasonably likely worst case scenario would be if one of the Company's major vendors experienced a material disruption in business, which caused the Company to experience a material disruption in business, such a disruption would have a material adverse effect on the Company's business, financial condition and operating results. Should either the Company's internal systems or the internal systems, products or services of one or more of the Company's major vendors fail to achieve Year 2000 compliance, the Company's business, financial position or results of operations could be materially adversely affected. The Company is currently developing contingency plans to deal with potential Year 2000 problems related to its internal systems and products and services provided by outside vendors and expects these plans to be complete by the end of fiscal year 1999. Although the Company believes that the cost of Year 2000 modifications for both internal use software and systems, as well as the Company's products are not material, there can be no assurance that various factors relating to the Year 2000 compliance issues will not have a material adverse effect on the Company's business, operating results or financial position. For example, a significant amount of litigation may arise out of Year 2000 compliance issues and there can be no assurance as to the extent the Company may be affected by any such litigation. Even though the Company does not believe that it is legally responsible for its customer's Year 2000 compliance obligations, it is unclear whether different governments or governmental agencies may decide 21 22 to allocate liability relating to Year 2000 compliance to the Company without regard to specific warranties or warranty disclaimers. Such allocation of liability could have a materially adverse effect on the Company's financial condition and results of operations in any given quarter. Furthermore, it is unknown how customer spending patterns may be impacted by Year 2000 issues. As customers focus on preparing their businesses for the Year 2000, capital budgets may be spent on remediation efforts, potentially delaying the purchase and implementation of new systems, thereby creating less demand for the Company's products and services. These as well as other factors could have a material adverse effect on the Company's revenues or operating results. EURO COMPLIANCE Eleven of the fifteen member countries of the European Union established fixed conversion rates between their existing sovereign currencies and the Euro and adopted the Euro as their common legal currency effective for the initial implementation date of January 1, 1999. The Euro trades on currency exchanges and is available for non-cash transactions, while the legacy currencies will remain legal tender in the participating countries for a transition period between January 1, 1999 and January 1, 2002. During the transition period, cash-less payments can be made in the Euro and parties can elect to pay for goods and services and transact business using either the Euro or the legacy currency. Between January 1, 2002 and July 1, 2002, the participating countries will introduce Euro notes and coins and withdraw all legacy currencies. The Company has expended and continues to expend resources to review and modify its products to support the Euro's requirements, determine pricing strategies in the new economic environment, analyze the legal and contractual implications for contracts, evaluate system capabilities, and ensure banking vendors can support the Company's operations with respect to Euro transactions for the initial implementation as of January 1, 1999 and during the transition period through to January 1, 2002 and thereafter. The Company does not expect that the introduction and use of the Euro will materially affect the Company's foreign exchange and hedging activities, expects that modifications will be made to its business operations and systems, as necessary, on a timely basis and does not believe that the cost of such modifications will have a material adverse impact on the Company's operating results. The Company's expectations as to the extent and timeliness of modifications required to accommodate the conversion to Euro transactions is a forward-looking statement subject to risks and uncertainties. Actual results may vary materially, as a result of a number of factors, including among others, those described in this paragraph. There can be no assurance that the Company will be able to complete such modifications to comply with Euro requirements, which could have a material adverse effect on the Company's operating results. In addition, the Company faces risks to the extent that vendors upon whom the Company relies and their suppliers are unable to make appropriate modifications to support Euro transactions. The Company has not yet completed its evaluation of the impact of the Euro upon its functional currency designations. While the Company cannot predict what effect these various factors may have on its financial results, the aggregate effect of these and other factors could result in significant volatility in the Company's future performance and stock price. LIQUIDITY AND CAPITAL RESOURCES The Company's financial condition strengthened as of December 27, 1998 when compared with June 30, 1998. During the first six months of fiscal 1999, cash flows from operating activities generated $771.8 million in cash and cash equivalents. Non-cash expenses affecting cash provided by operating activities in the first six months of fiscal 1999 included depreciation and amortization expense of $313.4 million, tax benefits of options exercised of $96.8 million and charges for IPRD of $92 million in connection with the acquisitions of 22 23 NetDynamics, i-Planet and Bediun. Favorably impacting cash provided by operations were increases in accounts payable and other liabilities of $114.7 million and $144.5 million, respectively, which reflect the timing of payments for inventory and other items. Offsetting these items, accounts receivable increased $258.7 million which reflects an increase in days sales outstanding. Additionally, other current assets increased due to the timing of payments for insurance and other taxes. Other long-term assets increased primarily due to an increase in intangible assets in connection with the acquisition of NetDynamics. The Company's investing activities used $907.5 million of cash in the first six months of fiscal 1999, an increase of $353 million from the prior year's comparable period. The increase resulted primary from increased acquisitions of short-term investments during the first six months of fiscal 1999, as compared with the prior year's comparable period. Also included in investing activities is capital spending for real estate development, as well as capital additions to support increased headcount, primarily in the Company's engineering, services and marketing organizations. At December 27, 1998, the Company's primary sources of liquidity consisted of cash, cash equivalents and short-term investments of $1,572.8 million and a revolving credit facility with banks aggregating $500 million, which was available subject to compliance with certain covenants. Additionally, on October 16, 1997, the Company filed a Registration Statement with the Securities and Exchange Commission relating to the registration for public offering of senior and subordinated debt securities and common stock with an aggregate initial public offering price of up to $1 billion. On October 24, 1997, the Registration Statement became effective, so that the Company may now choose to offer, from time to time, the securities pursuant to Rule 415 in one or more separate series, in amounts, at prices and on terms to be set forth in the prospectus contained in the Registration Statement and in one or more supplements to the prospectus. The Company believes that the liquidity provided by existing cash and short-term investment balances and the borrowing arrangements described above will be sufficient to meet the Company's capital requirements through fiscal 1999. However, the Company believes the level of financial resources is a significant competitive factor in its industry and may choose at any time to raise additional capital through debt or equity financing to strengthen its financial position, facilitate growth and provide the Company with additional flexibility to take advantage of business opportunities that may arise. 23 24 PART II - OTHER INFORMATION ITEM 1 - LEGAL PROCEEDINGS On October 7, 1997, the Company filed suit against Microsoft Corporation in the United States District Court for the Northern District of California alleging breach of contract, trademark infringement, false advertising, unfair competition, interference with prospective economic advantage and inducing breach of contract. The Company filed an amended complaint on October 14, 1997. Microsoft Corporation filed its answer, affirmative defenses and counterclaims to the amended complaint. The counterclaims include breach of contract, breach of the covenant of good faith and fair dealing, violation of the California Business & Professions Code and declaratory judgment. The Company believes that the counterclaims are without merit and/or that the Company has affirmative defenses and intends vigorously to defend itself with respect thereto. On March 24, 1998 the United States District Court judge ruled in favor of the Company granting a preliminary injunction directing Microsoft Corporation to cease using the Company's Java Compatible Logo(TM) on Microsoft products that failed to pass the applicable test suites from Sun. In addition, on May 12, 1998, the Company filed a second amended complaint alleging copyright infringement by Microsoft and motions requesting further preliminary injunctive relief directed against the planned release by Microsoft of additional products that failed to pass the applicable test suites from Sun. The Court held hearings and arguments on such motions on September 8, 9, and 10, 1998. On November 17, 1998, the District Court issued an Order granting, in substantial part, Sun's request for preliminary injunctions. On December 15, 1998 Microsoft filed notice of its intent to appeal the District Court's Order and on December 18, 1998 Microsoft filed Motions with the District Court to extend the time for compliance with the Order and to clarify or modify the Order. On December 29, 1998 the District Court issued a further Order directing the parties to schedule a settlement conference with respect to certain issues before a designated Magistrate or mutually selected individual. On January 13, 1999, Microsoft filed an appeal to the District Court's Order issued on November 17, 1998. The Company believes that the outcome of this matter will not have a material adverse impact on Sun's financial condition, results of operations or cash flows in any given fiscal year. ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS On November 11, 1998 the Annual Meeting of Stockholders of the Company was held in Menlo Park, California. The results of voting of the 313,381,495 shares of Common Stock represented at the meeting or by proxy are described below. An election of directors was held with the following individuals being elected to the Board of Directors of the Company:
Name Shares Voted For Votes Withheld - ---- ---------------- -------------- Scott G. McNealy 314,513,658 1,581,681 L. John Doerr 305,306,845 10,788,494 Judith L. Estrin 314,554,906 1,540,433 Robert J. Fisher 314,551,674 1,543,665 Robert L. Long 314,544,221 1,551,118 M. Kenneth Oshman 314,556,052 1,539,287 A. Michael Spence 314,511,203 1,584,136
24 25 The seven nominees who received the highest number of votes (all of the above individuals) were elected to the Board of Directors. The stockholders approved an amendment to the Company's 1990 Long-Term Equity Incentive Plan in order to increase the number of shares of Common Stock authorized for issuance thereunder by 18,000,000 shares of Common Stock to an aggregate of 119,400,000 shares. There were 193,531,834 votes cast for the amendment, 121,004,835 votes cast against the amendment and 1,558,670 abstentions. The stockholders approved an amendment to the Company's 1988 Directors' Stock Option Plan in order to decrease the number of shares of Common Stock subject to the one-time automatic nonemployee director grant (granted on the date of the initial appointment of a director who is not affiliated with an entity having an equity investment in the Company) from 80,000 shares to 30,000 shares. There were 259,580,690 votes cast for the amendment, 54,345,777 votes cast against the amendment and 2,168,872 abstentions. ITEM 5 - OTHER INFORMATION a) SCHEDULE OF SALES BY EXECUTIVE OFFICERS DURING THE QUARTER None b) NON-RULE 14a-8 STOCKHOLDER PROPOSALS Proposals of the Company's stockholders that such stockholders intend to present at the Company's 1999 Annual Meeting of Stockholders (the "Annual Meeting"), but not included in the Company's Proxy Statement and form of Proxy related to the Annual Meeting (a "Non-Rule 14a-8 Proposal"), must be received by the Company's Secretary at the Company's offices at 901 San Antonio Road, Palo Alto, California 94303 no later than September 13, 1999 and no earlier than August 12, 1999. In the event that the Company does not receive timely notice with respect to a Non-Rule 14a-8 Proposal, management of the Company would use its discretionary authority to vote the shares it represents as the Board of Directors may recommend. ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K a) EXHIBITS 10.64 Registrant's 1998 Directors' Stock Option Plan as amended on August 12, 1998. 10.66(1) Registrant's 1990 Long-Term Equity Incentive Plan, as amended on August 12, 1998. 10.93+ Strategic Development and Marketing Agreement dated November 23, 1998 by and between America Online, Inc. and the Registrant. 27.0 Financial Data Schedule for the period ended December 27, 1998.
+ Confidentiality Treatment Requested. (1) Incorporated by reference to Exhibit 4.2 filed as an exhibit to Registrant's Amendment No. 1 to Registration Statement Form S-8/A file number 333-67183 filed with the Securities and Exchange Commission on January 26, 1999. b) REPORTS ON FORM 8-K No reports on Form 8-K were filed during the quarter ended December 27, 1998. ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's market risk disclosures set forth in the 1998 Form 10-K have not changed significantly through the quarter ended December 27, 1998. 25 26 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SUN MICROSYSTEMS, INC. BY /s/ Michael E. Lehman ---------------------------------------- Michael E. Lehman Vice President, Corporate Resources and Chief Financial Officer /s/ George Reyes ---------------------------------------- George Reyes Vice President and Corporate Controller, Chief Accounting Officer Dated: February 8, 1999 26 27 INDEX TO EXHIBITS
EXHIBIT NUMBER PAGE - ------- ---- 10.64 Registrant's 1998 Directors' Stock Option Plan as amended on August 12, 1998. 10.66(1) Registrant's 1990 Long-Term Equity Incentive Plan, as amended on August 12, 1998. 10.93+ Strategic Development and Marketing Agreement dated November 23, 1998 by and between America Online, Inc. and the Registrant. 27.0 Financial Data Schedule for the period ended December 27, 1998.
+ Confidentiality Treatment Requested. (1) Incorporated by reference to Exhibit 4.2 filed as an exhibit to Registrant's Amendment No. 1 to Registration Statement Form S-8/A file number 333-67183 filed with the Securities and Exchange Commission on January 26, 1999. 27 EX-10.64 2 1998 DIRECTORS' STOCK OPTION PLAN AS AMENDED 1 Exhibit 10.64 SUN MICROSYSTEMS, INC. 1988 DIRECTORS' STOCK OPTION PLAN (AMENDED AS OF NOVEMBER 11, 1998) 1. Purposes of the Plan. The purposes of this Directors' Stock Option Plan are to attract and retain the best available personnel for services as Directors of the Company, to provide additional incentive to the Outside Directors of the Company to serve as Directors, and to encourage their continued service on the Board. 2. Definitions. As used herein, the following definitions shall apply: (a) "Board" shall mean the Board of Directors of the Company. (b) "Common Stock" shall mean the Common Stock of the Company. (c) "Company" shall mean Sun Microsystems, Inc., a Delaware corporation. (d) "Continuous Status as a Director" shall mean the absence of any interruption or termination of service as a Director. (e) "Director" shall mean a member of the Board. (f) "Employee" shall mean any person, including officers and Directors, employed by the Company or any Parent or Subsidiary of the Company. The payment of a Director's fee by the Company shall not be sufficient in and of itself to constitute "employment" by the Company. (g) "Exchange Act" shall mean the Securities Exchange Act of 1934, as amended. (h) "Option" shall mean a stock option granted pursuant to the Plan. (i) "Optioned Stock" shall mean the Common Stock subject to an Option. (j) "Optionee" shall mean an Outside Director who receives an Option. (k) "Outside Director" shall mean a Director who is not an Employee. (l) "Parent" shall mean a "parent corporation", whether now or hereafter existing, as defined in Section 425(e) of the Internal Revenue Code of 1986. (m) "Plan" shall mean this 1988 Directors' Stock Option Plan. (n) "Share" shall mean a share of the Common Stock, as adjusted in accordance with Section 11 of the Plan. (o) "Subsidiary" shall mean a "subsidiary corporation", whether now or hereafter existing, as defined in Section 425(f) of the Internal Revenue Code of 1986. 3. Stock Subject to the Plan. Subject to the provisions of Section 11 of the Plan, the 2 maximum aggregate number of Shares which may be optioned and sold under the Plan is 2,200,000 Shares (the "Pool") of Common Stock. The Shares may be authorized, but unissued, or required Common Stock. If an Option should expire or become unexercisable for any reason without having been exercised in full, the unpurchased Shares which were subject thereto shall, unless the Plan shall have been terminated, shall become available for future grant under the Plan. If Shares which were acquired upon exercise of an Option are subsequently repurchased by the Company, such Shares shall not in any event be returned to the Plan and shall not become available for future grant under the Plan. 4. Administration of and Grants of Options under the Plan. (a) Administrator. Except as otherwise required herein, the Plan shall be administered by the Board. (b) Procedure for Grants. All grants of Options hereunder shall be automatic and non-discretionary and shall be made strictly in accordance with the following provisions: (i) No person shall have any discretion to select which Outside Directors shall be granted Options or to determine the number of Shares to be covered by Options granted to Outside Directors. (ii) Each Outside Director who is a partner, officer or director of an entity having an equity investment in the Company (or who was so affiliated with such an entity at the time of his or her initial appointment or election to the Board) shall be automatically granted an Option to purchase 20,000 Shares (the "First Option") upon the effective date of the Plan, as determined in accordance with Section 6 hereof, or the date on which such person first becomes a Director, whether through election by the shareholders of the Company or appointment by the Board of Directors to fill a vacancy; provided, however, that no Option shall be issued under the Plan or become exercisable until shareholder approval of the Plan has been obtained. Each Outside Director who is not, on the date of his or her initial appointment or election to the Board, affiliated with an investment entity as described above, shall automatically be granted a First Option of 30,000 Shares, subject to the above provision. (iii) After the First Option has been granted to an Outside Director, such Outside Director shall thereafter be automatically granted an Option to purchase 20,000 Shares (a "Subsequent Option") on the date of and immediately following each Annual Meeting of Shareholders of the Company at which such non-employee director is re-elected, if on such date, 2 3 he shall have served on the Board for at least six (6) months. (iv) Notwithstanding the provisions of subsections (ii) and (iii) hereof, in the event that a grant would cause the number of Shares subject to outstanding Options plus the number of Shares previously purchased upon exercise of Options to exceed the Pool, then each such automatic grant shall be for that number of Shares determined by dividing the total number of Shares remaining available for grant by the number of Directors on the automatic grant date. Any further grants shall then be deferred until such time, if any, as additional Shares become available for grant under the Plan of Shares which may be issued under the Plan or through cancellation or expiration of Options previously granted hereunder. (v) The terms of an Option granted hereunder shall be as follows: (A) The term of the Option shall be five (5) years. (B) The Option shall be exercisable only while the Outside Director remains a Director of the Company, except as set forth in Section 9 hereof. (C) The exercise price per Share shall be 100% of the fair market value per Share on the date of grant of the Option. (D) The Option shall become exercisable in installments cumulatively as to twenty-five percent (25%) of the Shares subject to the Option on each of the first, second, third and fourth anniversaries of the date of grant of the Option. (c) Powers of the Board. Subject to the provisions and restrictions of the Plan, the Board shall have the authority, in its discretion: (i) to determine, upon review of relevant information and in accordance with Section 8(b) of the Plan, the fair market value of the Common Stock; (ii) to determine the exercise price per share of Options to be granted, which exercise price shall be determined in accordance with Section 8(a) of the Plan; (iii) to interpret the Plan; (iv) to prescribe, amend and rescind rules and regulations relating to the Plan; (v) to authorize any person to exercise on behalf of the Company any instrument required to effectuate the grant of an Option previously granted hereunder; and (vi) to make all other determinations deemed necessary or advisable for the administration of the Plan. (d) Effect of the Board's Decision. All decisions, determinations and interpretations of the Board shall be final and binding on all Optionees and any other holders of any Options granted under the Plan. (e) Suspension or Termination of Option. If the Chief Executive Officer or his designee reasonably believes that an Optionee has committed an act of misconduct, the Chief 3 4 Executive Officer may suspend the Optionee's right to exercise any option pending a determination by the Board of Directors (excluding the Outside Director accused of such misconduct). If the Board of Directors (excluding the Outside Director accused of such misconduct) determines an Optionee has committed an act of embezzlement, fraud, dishonesty, nonpayment of an obligation owed to the Company, breach of fiduciary duty or deliberate disregard of the Company rules resulting in loss, damage or injury to the Company, or if an Optionee makes an unauthorized disclosure of any Company trade secret or confidential information, engages in any conduct constituting unfair competition, induces any Company customer to breach a contract with the Company or induces any principal for whom the Company acts as agent to terminate such agency relationship, neither the Optionee nor his estate shall be entitled to exercise any option whatsoever. In making such determination, the Board of Directors (excluding the Outside Director accused of such misconduct) shall act fairly and shall give the Optionee an opportunity to appear and present evidence on Optionee's behalf at a hearing before the Board or committee of the Board. 5. Eligibility. Options may be granted only to Outside Directors. All Options shall be automatically granted in accordance with the terms set forth in Section 4(b) hereof. An Outside Director who has been granted an Option may, if he is otherwise eligible, be granted an additional Option or Options in accordance with such provisions. The Plan shall not confer upon any Optionee any right with respect to continuation of service as a Director or nomination to serve as a Director, nor shall it interfere in any way with any rights which the Director or the Company may have to terminate his directorship at any time. 6. Term of Plan. The Plan shall become effective upon the earlier to occur of its adoption by the Board of Directors or its approval by the shareholders of the Company. It shall continue in effect until December 31, 2008 unless sooner terminated under Section 13 of the Plan. 7. Term of Option. The term of each Option shall be five (5) years from the date of grant thereof. 8. Exercise Price and Consideration. (a) Exercise Price. The per Share exercise price for the Shares to be issued pursuant to exercise of an Option shall be 100% of the fair market value per Share on the date of grant of the Option. In the case of an Option granted to an Optionee who, immediately before the grant of such Option, owns stock representing more than ten percent (10%) of the voting power or 4 5 value of all classes of stock of the Company or its parents or subsidiaries, the per Share exercise price for the Shares to be issued pursuant to exercise of such Option shall be at least 110% of the fair market value per Share on the date of grant of the Option. (b) Fair Market Value. The fair market value shall be the closing price of the Common Stock on the date of grant, as reported on the National Association of Securities Dealers Automated Quotation ("NASDAQ") System or, in the event the Common Stock is traded on a stock exchange, the fair market value per Share shall be the closing price on such exchange on the date of grant of the Option. (c) Form of Consideration. The consideration to be paid for the Shares to be issued upon exercise of an Option shall consist entirely of cash, check, other Shares of Common Stock having a fair market value on the date of surrender equal to the aggregate exercise price of the Shares as to which said Option shall be exercised, or any combination of such methods of payment. 9. Exercise of Option. (a) Procedure for Exercise; Rights as a Shareholder. Any Option granted hereunder shall be exercisable at such times as are set forth in Section 4(b) hereof; provided, however, that no Options shall be exercisable until shareholder approval of the Plan in accordance with Section 17 hereof has been obtained. An Option may not be exercised for a fraction of a Share. An Option shall be deemed to be exercised when written notice of such exercise has been given to the Company in accordance with the terms of the Option by the person entitled to exercise the Option and full payment for the Shares with respect to which the Option is exercised has been received by the Company. Full payment may consist of any consideration and method of payment allowable under Section 8(c) of the Plan. Until the issuance (as evidenced by the appropriate entry on the books of the Company or of a duly authorized transfer agent of the Company) of the stock certificate evidencing such Shares, no right to vote or receive dividends or any other rights as a shareholder shall exist with respect to the Optioned Stock, notwithstanding the exercise of the Option. A share certificate for the number of Shares so acquired shall be issued to the Optionee as soon as practicable after exercise of the Option. No adjustment will be made for a dividend or other right for which the record date is prior to the date the stock certificate is issued, except as provided in Section 11 of the Plan. (b) Termination of Status as a Director. If an Outside Director ceases to serve as 5 6 a Director, he may, but only within ninety (90) days after the date he ceases to be a Director of the Company, exercise his Option to the extent that he was entitled to exercise it at the date of such termination. Notwithstanding the foregoing, in no event may the Option be exercised after its five (5) year term has expired. To the extent that he was not entitled to exercise an Option at the date of such termination, or if he does not exercise such Option (which he was entitled to exercise) within the time specified herein, the Option shall terminate. (c) Disability of Optionee. Notwithstanding the provisions of Section 9(b) above, in the event a Director is unable to continue his service as a Director with the Company as a result of his total and permanent disability (as defined in Section 22(e)(3) of the Internal Revenue Code), he may, but only within six (6) months from the date of termination, exercise his Option to the extent he was entitled to exercise it at the date of such termination. Notwithstanding the foregoing, in no event may the Option be exercised after its five (5) year term has expired. To the extend that he was not entitled to exercise the Option at the date of termination, or if he does not exercise such Option (which he was entitled to exercise) within the time specified herein, the Option shall terminate. (d) Death of Optionee. In the event of the death of an Optionee: (i) During the term of the Option, Optionee who is, at the time of his death, a Director of the Company and who shall have been in Continuous Status as a Director since the date of grant of the Option, the Option may be exercised, at any time within six (6) months following the date of death, by the Optionee's estate or by a person who acquired the right to exercise the Option by bequest or inheritance, but only to the extent of the right to exercise that would have accrued had the Optionee continued living and remained in Continuous Status as Director for six (6) months after the date of death. Notwithstanding the foregoing, in no event may the Option be exercised after its five (5) year term has expired. (ii) Within one (l) month after the termination of Continuous Status as a Director, the Option may be exercised, at any time within six (6) months following the date of death, by the Optionee's estate or by a person who acquired the right to exercise the Option by bequest or inheritance, but only to the extent of the right to exercise that had accrued at the date of termination. Notwithstanding the foregoing, in no event may the option be exercised after its five (5) year term has expired. 10. Non-Transferability of Options. Options may not be sold, pledged, assigned, hypothecated, transferred or disposed of in any manner other than by will or by the laws of 6 7 descent and distribution or pursuant to a qualified domestic relations order as defined by the Code or Title l of the Employee Retirement Income Security Act, or the rules thereunder. The designation of a beneficiary by an Optionee does not constitute a transfer. An Option may be exercised, during the lifetime of the Optionee, only by the Optionee or a transferee permitted by this Section 10. 11. Adjustments Upon Changes in Capitalization or Merger. Subject to any required action by the shareholders of the Company, the number of shares of Common Stock covered by each outstanding Option, and the number of shares of Common Stock which have been authorized for issuance under the Plan but as to which no Options have yet been granted or which have been returned to the Plan upon cancellation or expiration of an Option, as well as the price per share of Common Stock covered by each such outstanding Option, shall be proportionately adjusted for any increase or decrease in the number of issued shares of Common Stock resulting from a stock split, reverse stock split, stock dividend, combination or reclassification of the Common Stock, or any other increase or decrease in the number of issued shares of Common Stock effected without receipt of consideration by the Company; provided, however, that conversion of any convertible securities of the Company shall not be deemed to have been "effected without receipt of consideration". Such adjustment shall be made by the Board, whose determination in that respect shall be final, binding and conclusive. Except as expressly provided herein, no issuance by the Company of shares of stock of any class, shall affect, and no adjustment by reason thereof shall be made with respect to, the number or price of shares of Common Stock subject to an Option. In the event of the proposed dissolution or liquidation of the Company, the Option will terminate immediately prior to the consummation of such proposed action. In the event of a proposed sale of all or substantially all of the assets of the Company or the merger of the Company with or into another corporation, the Option shall be assumed or an equivalent option shall be substituted by such successor corporation or a parent or subsidiary of such successor corporation. In the event that such successor corporation refuses to assume the Option or to substitute an equivalent option, the Board shall, in lieu of such assumption or substitution, provide for the Optionee to have the right to exercise the Option as to all of the Optioned Stock, including Shares as to which the Option would not otherwise be exercisable, in which case, the Board shall notify the Optionee that the Option shall be fully exercisable for a period of thirty (30) days from the date of such notice, and the Option will terminate upon the expiration of such period. 7 8 12. Time of Granting Options. The date of grant of an Option shall, for all purposes, be the date determined in accordance with Section 4(b) hereof. Notice of the termination shall be given to each Outside Director to whom an Option is so granted within a reasonable time after the date of such grant. 13. Amendment and Termination of the Plan. (a) Amendment and Termination. The Board may amend or terminate the Plan from time to time in such respects as the Board may deem advisable; provided that, to the extent necessary and desirable to comply with Rule l6b-3 under the Exchange Act (or any other applicable law or regulation), the Company shall obtain approval of the shareholders of the Company of Plan amendments to the extent and in the manner required by such law or regulation. Notwithstanding the foregoing, the provisions set forth in Sections 2(k), 4(b), 5, 7 and 8(a) of this Plan (and any other Sections of this Plan that affect the formula award terms required to be specified in this Plan by Rule l6b-3) shall not be amended more than once every six months, other than to comport with changes in the Internal Revenue Code, the Employee Retirement Income Security Act, or the rules thereunder. (i) any increase in the number of Shares subject to the Plan, other than in connection with an adjustment under Section 11 of the Plan; or (ii) any change in the designation of the class of persons eligible to be granted Options; or (iii) any material increase in the benefits accruing to participants under the Plan; or (iv) any change in the number of shares subject to Options to be granted hereunder or in the terms thereof as set forth in Section 4(b) hereof. (b) Effect of Amendment or Termination. Any such amendment or termination of the Plan shall not affect Options already granted and such Options shall remain in full force and effect as if this Plan had not been amended or terminated, unless mutually agreed otherwise between the Optionee and the Board, which agreement must be in writing and signed by the Optionee and the Company. 14. Conditions Upon Issuance of Shares. Shares shall not be issued pursuant to the exercise of an Option unless the exercise of such Option and the issuance and delivery of such 8 9 Shares pursuant thereto shall comply with all relevant provisions of law, including, without limitation, the Securities Act of 1933, as amended the Exchange Act, the rules and regulations promulgated thereunder, state securities laws, and the requirements of any stock exchange upon which the Shares may then be listed, and shall be further subject to the approval of counsel for the Company with respect to such compliance. As a condition to the exercise of an Option, the Company may require the person exercising such Option to represent and warrant at the time of any such exercise that the Shares are being purchased only for investment and without any present intention to sell or distribute such Shares, if, in the opinion of counsel for the Company, such a representation is required by any of the aforementioned relevant provisions of law. Inability of the Company to obtain authority from any regulatory body having jurisdiction, which authority is deemed by the Company's counsel to be necessary to the lawful issuance and sale of any Shares hereunder, shall relieve the Company of any liability in respect of the failure to issue or sell such Shares as to which such requisite authority shall not have been obtained. 15. Reservation of Shares. The Company, during the term of this Plan, will at all times reserve and keep available such number of Shares as shall be sufficient to satisfy the requirements of the Plan. 16. Option Agreement. Options shall be evidenced by written option agreements in such form as the Board shall approve. 17. Information to Optionees. The Company shall provide to each Optionee, during the period for which such Optionee has one or more Options outstanding, copies of all annual reports to shareholders, proxy statements and other information provided to all shareholders of the Company. 9 EX-10.93 3 STRATEGIC DEVELOPMENT AND MARKETING AGREEMENT 1 Exhibit 10.93 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT ASTERISKS (*) DENOTE SUCH OMISSIONS STRATEGIC DEVELOPMENT AND MARKETING AGREEMENT This Strategic Development and Marketing Agreement (this "Agreement") is made and entered into this 23rd day of November, 1998, by and between America Online, Inc. ("AOL") and Sun Microsystems, Inc. ("Sun"). Certain terms used in this Agreement are defined in Section 24 hereof. This agreement is confidential between the parties, provided that either party may disclose the terms of this Agreement, and any associated collateral documents, in order to comply with applicable laws and regulations, including securities laws and regulations, and further provided that either party may disclose information regarding portions of the financial provisions of this Agreement after consulting with and obtaining the approval of the other party's Executive Representative, which consent will not be unreasonably withheld or delayed. AOL and Sun hereby agree as follows: 1.0 OBJECTIVES. AOL and Sun intend to cooperate in the development and marketing of software and services in the area of electronic commerce and extended communities and connectivity ("EC(2)") to businesses worldwide. The parties intend to offer together an integrated, end-to-end solution including consumer traffic, dial-up connectivity, network services, client software, server software, computer systems, computer hardware, professional services, help desk and service and support, but, subject to the terms and conditions herein, each party would be free to offer its components in conjunction with competitive components from third-parties. As described in this Agreement, some components of such solution will be collaboratively developed, and some will be developed principally or entirely by AOL or Sun. The solution offered by the parties is expected to include traffic from AOL's multiple brands and related directory services, configurable Netcenter or AOL.Com services and information, AOL network access services, AOL instant messaging functionality, Sun support services, Sun or AOL consulting services and Netscape or AOL outsourcing services. As described in this Agreement, some components of such solution will be marketed and sold by both parties pursuant to collaborative marketing and sales plans, and some components would be marketed and sold by AOL or Sun only. The business objectives of the parties include the following: 1.1 Establish a cooperative relationship between AOL, the world's leading internet content provider, and Sun, the world's leading network computing platform supplier, to create and deliver the best, integrated, end-to-end enterprise commerce solutions using, where appropriate, the Java and Jini technology from Sun. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 2 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. 1.2 Sustain and grow leadership in the browser marketplace for both consumers and the enterprise to deeply penetrate the enterprise desktop environment. 1.3 Accelerate revenues from merchants and build deep relationships with top merchants by speeding their adoption of electronic commerce. 1.4 Create more value from relationships with electronic commerce merchants and customers by *** creating new services revenues. 1.5 Sustain and grow a strong electronic commerce and enterprise middleware software and services business, including developing a leading commerce software and service platform that enables powerful turnkey and customized solutions. 1.6 Sustain and grow the Sun Solaris, SPARC, Java and Jini business technologies, as the choice for enterprises and service providers worldwide. 1.7 *** APPROXIMATELY 3 LINES OMITTED *** 1.8 Establish and operate productive research and development, marketing, sales and services to support this strategy. 2.0 SOFTWARE TO BE DEVELOPED. The parties intend to develop the following products: 2.1 AOL DISTRIBUTED COMMUNICATOR CLIENT. The "AOL Distributed Communicator Client" will be a client application that will include the fullest and most robust set of features and functions of any of the client applications to be developed pursuant to this Section 2,*** APPROXIMATELY 2 LINES OMITTED ***. The AOL Distributed Communicator Client *** will include the initial Release of the AOL Distributed Communicator Client and all subsequent Releases of such application. *** APPROXIMATELY 9 LINES OMITTED *** 2.2 THIRD PARTY COMMUNICATOR CLIENT. The "Third Party Communicator Client" will be a client application.*** APPROXIMATELY 6 LINES OMITTED *** The specification of the features and functions included in the Third Party Communicator Client may be modified from time to time by AOL, after consultation with Sun. The Third Party Communicator Client *** will include the initial Release of the Third Party Communicator Client and all subsequent Releases of such application that are commercially released during the term of this Agreement. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 2 3 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. 2.3 OEM COMMUNICATOR CLIENT. The "OEM Communicator Client" will be a client application incorporating a browser component, with features and functions as set forth in the Collaborative Work Plans. The OEM Communicator Client will include the initial Release of such application and all subsequent Releases of such application that are commercially released during the term of this Agreement. 2.4 NEW BROWSER. The "New Browser" will consist of a basic browser with functions for browsing, rendering display of and accessing the Internet, including enabling access to a portal, *** APPROXIMATELY 4 LINES OMITTED ***. The functions and features to be included in the New Browser will be described in more detail in the Collaborative Work Plans. The New Browser will include the initial Release of such application and all subsequent Releases of such application that are commercially released during the term of this Agreement. *** APPROXIMATELY 3 LINES OMITTED *** 2.5 NETWORK APPLICATION AND SERVER SOFTWARE. The "Network Application and Server Software" will consist of network applications and server software as specified in the Collaborative Development Work Plans, and will include, without limitation, an application server, email server, commerce server and directory software, as well as other software specified in the Collaborative Development Work Plans. 2.6 COMMENCEMENT OF DEVELOPMENT. No collaborative development work shall commence pursuant to this Agreement, and Sun shall not be provided with access to any Netscape or AOL code, prior to the Closing Date. 3.0 DEVELOPMENT RESPONSIBILITIES. 3.1 AOL DISTRIBUTED COMMUNICATOR CLIENT. AOL will develop the AOL Distributed Communicator Client, *** APPROXIMATELY 4 LINES OMITTED *** 3.2 THIRD PARTY COMMUNICATOR CLIENT. AOL will, with assistance from Sun, develop the Third Party Communicator Client, *** APPROXIMATELY 6 LINES OMITTED *** 3.3 OEM COMMUNICATOR CLIENT. AOL will, with assistance from Sun, develop the OEM Communicator Client,*** APPROXIMATELY 6 LINES OMITTED *** 3.4 NEW BROWSER. AOL will, with assistance from Sun, develop the New Browser, *** APPROXIMATELY 8 LINES OMITTED *** AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 3 4 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. 3.5 NETWORK APPLICATION AND SERVER SOFTWARE. AOL and Sun will collaboratively develop the Network Application and Server Software, *** APPROXIMATELY 3 LINES OMITTED ***. AOL and Sun shall cooperate and coordinate their development efforts so that, to the extent commercially reasonable, the Client Software shall be compatible with and support the interfaces, protocols and APIs of the Network Application and Server Software in the Product Suites and vice versa. 3.6 JAVA TECHNOLOGY. The parties agree to use reasonable efforts to modify the existing Netscape browser to develop the New Browser to incorporate, for each System Platform, the most current release available of the complete Java Runtime Environment (JRE) on all System Platforms for which Sun has a JRE available. The parties agree to use all reasonable efforts to ensure that Java code executing on the JRE so invoked has the same access privileges and capabilities as Java code running native on the operating system and can display user interfaces within the browser window consistent with the user experience of running Java applets today, provided that Sun provides such JRE to AOL, *** in binary form in a fully operational and commercially viable form. Without limiting the foregoing, AOL shall have no obligation to incorporate into any browser any JRE provided by Sun that fails to operate properly on the applicable System Platform for such version of such browser due to the fault of Sun or any party other than AOL, or *** or which would cause a material degradation in the performance characteristics of such browser relative to competitive browsers in the marketplace, or which cannot ***APPROXIMATELY 8 LINES OMITTED*** Without limiting the foregoing, with respect to the *** AOL shall have no obligation to ***APPROXIMATELY 3 LINES OMITTED*** Sun agrees to provide error corrections and bug fixes for the JREs on all supported System Platforms pursuant to its standard terms of support (but without fee to AOL). In the event Sun fails to provide such error corrections and bug fixes in a timely commercially reasonable manner, Sun shall, pursuant to the TLDA entered into between AOL and Sun, provide AOL with the source code, test suites and related development tools for such JREs and the right to use such source code, test suites and related development tools for the purpose of supporting and maintaining such JREs in accordance with the TLDA. Sun agrees to use reasonable efforts to *** In order to permit the binary JRE to be integrated into such browsers, AOL agrees to use reasonable efforts to incorporate and support the Open Java Interface in such browsers. AOL and Sun agree to collaborate and consult with one another and to cooperate with one another in good faith in an effort to define and integrate this interface into such browsers for use by the JREs in such browsers. AOL further agrees that if such incorporation of the JRE is successfully implemented in a version of such browser for any applicable System Platform, AOL will incorporate such version of such browser in the versions of the OEM Communicator Client, Third Party AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 4 5 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. Client and AOL Distributed Communicator Client for such System Platform *** If the JRE is so incorporated in the OEM Communicator Client, Third Party Client or AOL Distributed Communicator Client, and AOL elects to distribute any version of such product via download, such version shall either be the JRE enabled version of such product, or AOL will make the JRE enabled version of such product available for download in addition to any non-JRE enabled version of such product made available for download. If the JRE is so incorporated in the OEM Communicator Client, Third Party Client or AOL Distributed Communicator Client, and AOL elects to distribute any version of such product via CD-ROM, the version of the product distributed by AOL via CD-ROM will be such JRE-enabled version, to the extent contractually permissible and subject to size limitations, and provided that AOL shall have no obligation to require that its OEMs include the JRE-enabled version. AOL shall have the right to distribute via download a smaller version of the New Browser without the JRE, provided such version has hooks that permit the user optionally to download and install the JRE. AOL will consider as part of the Collaborative Development Work Plans whether to expose to the JRE all public and private developer interfaces within the browser (including, without limitation those in NSHTML.DLL), but shall have no obligation to do so. AOL's obligations pursuant to this Section 3.6 are conditioned upon Sun's granting to AOL *** any rights to Java technology necessary to comply with this Section 3.6. In the event of any inconsistency or conflict between this Section 3.6 or Section 9.8.1 of this Agreement and the TLDA entered into between Sun and AOL, the terms of this Section 3.6 and the terms of Section 9.8.1 shall control. 3.7 INTENT TO DEVELOP LEADING PRODUCTS. The parties agree to use their reasonable efforts to maintain the existing Netscape browser and the New Browser as competitive alternatives to the browser component of Internet Explorer from Microsoft, and agree that it is their intention to make all products developed and distributed pursuant to this Agreement leading and competitive products in their respective product categories. 3.8 JRE BUNDLING ON CD-ROMS. On any CD-ROMs on which AOL ships the AOL classic client and on which AOL provides installation options permitting third party software other than AOL classic client software to be a separate installable item, ***APPROXIMATELY 3 LINES OMITTED*** AOL agrees, subject to any third party contractual limitations, to use reasonable efforts to co-package the latest version of the JRE with such client and to offer to users an installation option to install such JRE, provided that the JRE meets commercially reasonable standards making it suitable for inclusion and installation, including without limitation reasonable quality assurance and size limitations. AOL shall have no obligation to display such installation option until after AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 5 6 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. the user has gone through any included registration process for any AOL Service Offering. AOL will also consider including*** APPROXIMATELY 6 LINES OMITTED *** 3.9 DESIGN OF CLIENTS. *** APPROXIMATELY 7 LINES OMITTED ***. 3.10 THIRD PARTY COMPONENTS AND PROTOCOLS; DIVERGENCE OF DEVELOPMENT. In the event AOL (i) elects to use third party software or technology for core functionality and features of the browser component of any of the Client Software, (ii) adopts and maintains protocols or interfaces that are inconsistent with Sun's reasonable server-dictated requirements; or (iii) fails to support protocols or interfaces that are reasonably required by Sun's server-dictated requirements, Sun shall have the right, but not the obligation, to have AOL provide to Sun the source code, test suites, and related development tools reasonably required for Sun to pursue independent development of a browser based on the Existing Netscape Software and/or Collaborative Software and to create client applications incorporating such independently developed Sun browser. Any resulting products developed by Sun shall be deemed to constitute Designated Collaborative Software for purposes of this Agreement. 4.0 SALES AND MARKETING. 4.1 CUSTOMERS. 4.1.1 GENERAL. In accordance with the Marketing and Sales Plan, the parties will work together to actively market Product Suites, as well as other related products, including Sun, Netscape, and AOL products and services, to customers. 4.1.2 AOL COMMITTED SALES FORCE. Sun acknowledges that AOL intends to commit an AOL sales force to target sales by AOL to AOL EC Service Opportunities. Such sales force may consist of (i) AOL interactive marketing sales personnel and (ii) the current Netscape Netcenter sales personnel. AOL shall bear all costs of such committed sales force. Sun shall provide reasonable assistance to AOL, as reasonably requested by AOL from time to time, in connection with this AOL committed sales effort. Sun shall provide such assistance through the sales and marketing resources that Sun is required to provide pursuant to the provisions of Section 4.1.3 and the Marketing and Sales Plan, which may include access to and participation of Sun employees who are not part of the collaborative AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 6 7 sales team, such as Sun technical personnel. Sun also acknowledges that AOL intends to maintain a professional services group to support AOL EC Services Opportunities independent of any persons providing collaborative services pursuant to this Agreement. 4.1.3 COLLABORATIVE SALES. AOL and Sun shall each form their own respective sales forces targeting sales of the Product Suites to non AOL EC Service Opportunities. The AOL collaborative sales force shall consist of AOL and Netscape enterprise sales and marketing, professional services and technical support personnel selected by AOL. The Sun collaborative sales force shall consist of Sun sales personnel selected by Sun. The AOL and the Sun collaborative sales forces shall both sell only off a common pricelist and on standard terms and conditions, with such pricelist and terms and conditions to be designated by the Lead Executive for marketing and sales. Each of AOL and Sun will, as specified in the Marketing and Sales Plan, commit specified target levels of sales and marketing resources (personnel and a portion of marketing budget) to the staffing and support of their respective collaborative sales forces and coordinate the efforts of their respective collaborative sales forces. In addition, Sun will support the collaborative sales activities of the AOL collaborative sales force with respect to any Sun products and services, which may include access to and participation of Sun employees who are not part of the collaborative team, such as Sun technical personnel, and AOL will support the collaborative sales activities of the Sun collaborative sales force with respect to AOL Services Offerings, which may include access to and participation of AOL employees who are not part of the collaborative team, such as AOL technical personnel. 4.1.4 SHARING OF REVENUES COLLECTED FROM CUSTOMERS. Subject to the provisions of Section 4.2, revenues from the sale or license of products or services shall be shared as set forth below. Each party acknowledges that these provisions are intended to reflect how revenues are allocated and are not controlling as to which revenues are recognized by which parties, which recognition shall be at the sole discretion of each party in accordance with Generally Accepted Accounting Principles. 4.1.4.1 AOL AND NETSCAPE SOFTWARE AND ASSOCIATED SERVICES. AOL will receive 100% of the revenues (and pay all of the associated cost of goods) collected from any sale or license of AOL and Netscape products and Associated Services, including without limitation from sales or licenses of the AOL Distributed Communicator Client and Associated Services (but excluding AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 7 8 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. Existing Netscape Software and Existing Netscape Software Upgrades and Associated Services), less a sales commission equal to *** of such revenues which shall be payable to Sun if a Sun salesperson was primarily responsible for making the sale of the AOL products or Associated Services. 4.1.4.2 THIRD PARTY COMMUNICATOR AND EXISTING NETSCAPE SOFTWARE AND ASSOCIATED SERVICES. AOL will receive 100% of the revenues (and pay all of the associated cost of goods) collected from any sale or license of the Third Party Communicator and Associated Services and Existing Netscape Software and Existing Netscape Software Upgrades and Associated Services, less a sales commission equal to *** of such revenues, which shall be payable to Sun if a Sun salesperson not on the collaborative marketing and sales force was primarily responsible for making the sale of the AOL products or Associated Services. 4.1.4.3 SUN SOFTWARE AND SERVICES. Sun will receive 100% of the revenues collected (and pay all of the costs of goods) from any sale or license of Sun software and professional services, less a sales commission equal to *** of such revenues, which shall be payable to AOL if an AOL salesperson was primarily responsible for making the sale of the Sun products or Associated Services. This Section 4.1.4.3 shall not apply to "Sun Products" as defined in the Service Provider Agreement between the parties of even date herewith. 4.1.4.4 DESIGNATED COLLABORATIVE SOFTWARE AND SERVICES. AOL will receive *** of the Gross Margin collected from any sale or license of Designated Collaborative Software products and Associated Services and Sun will receive *** of the Gross Margin collected from such sales or licenses. Whichever party to this Agreement enters into the sales contract with the customer will receive the revenues from such contract and remit *** of the Gross Margin to the other party as provided in this Section. 4.1.4.5 SALES BONUS. To the extent the amounts payable to AOL in any quarter that are applied to the Minimum Commitment exceed one AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 8 9 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. hundred twenty-five percent (125%) of the applicable Minimum Commitment for such quarter as set forth in Section 4.5, Sun shall, in addition to any other amounts payable by Sun to AOL, pay to AOL a bonus equal to*** of the amount by which such amounts payable to AOL exceed one hundred twenty-five percent (125%) of the applicable Minimum Commitment for such quarter. 4.1.5 MARKETING CO-OP FEE. During the term of this Agreement, as consideration for the marketing and selling of Sun products and services and the products and services developed under the Collaborative Activity, Sun will pay AOL a marketing co-op fee, which shall be applied as determined by AOL. The marketing co-op fee shall be Ten Million Dollars ($10,000,000) for the first year following the Closing Date, Ten Million ($10,000,000) for the second year following the Closing Date, and Ten Million Dollars ($10,000,000) for the third year following the Closing Date, payable each year in quarterly payments as provided in Section 8.l. 4.2 ADDITIONAL REVENUE DETERMINATION AND ALLOCATION PROVISIONS 4.2.1 REVENUE CALCULATION. For purposes of determining the appropriate revenue or Gross Margin allocation under Section 4.1.4, in cases where a single product or service is sold, the revenues received shall be deemed to equal the gross revenues (before sales commission) collected from the end user or the OEM customer and the Gross Margin shall be calculated in accordance with Section 21.20. In cases where multiple products or services are sold in a bundled sale, the revenues per product or service will be calculated by computing the overall discount (or ***, whichever is lower) from list price for the bundled sale (or the aggregate sum of the list prices for each individual component in the bundled sale, if there is no list price for the bundled sale) and applying that discount to the list price for the product. *** APPROXIMATELY 10 LINES OMITTED ***. 4.2.2 SPECIAL REVENUE ALLOCATIONS. Notwithstanding anything to the contrary herein, including without limitation the provisions of Section 4.1.4, AOL shall retain all collected revenues from existing Netscape OEM and customer contracts (including without limitation revenues collected in connection with any existing service, development, support, maintenance, reseller, VAR, OEM and other contracts) and existing contracts for the AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 9 10 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. sale and distribution of Existing Netscape Software and any updates, enhancements and/or new releases thereof. As used in this Section 4.2.2, the term "existing contracts" shall mean any contracts entered into on or before the Closing Date for the duration of the remaining term of such contracts as well as any extensions or renewals of the term of such contracts to the extent the customer or OEM elects to exercise any unilateral right of extension or renewal contained in such existing contracts. AOL and Sun each shall retain their existing customer contracts for the Netscape client software, with all service, maintenance and support provided by AOL, to the extent Netscape is obligated to provide such service, maintenance and support under existing service, maintenance and support agreements, and all service, maintenance and support provided by Sun, to the extent Sun is obligated to provide such service, maintenance and support under existing service, support and maintenance agreements. AOL and Sun will each have the right to fulfill its respective obligations under existing contracts, notwithstanding anything to the contrary contained in this Agreement 4.3 PRIORITY OF MARKETING BY SUN. In conducting its marketing activities, Sun shall prioritize the marketing of the following client products, where they exist for the customer platform, in the following manner: (a) As part of the standard Product Suites offering and any other time Sun is marketing, distributing or selling a browser component, Sun will give first priority to the marketing and sale of ***. (b) If a customer indicates that it does not want ***,Sun will next attempt to market and sell ***. (c) If a customer indicates that it does not want ***, Sun will next attempt to market and sell ***. *** APPROXIMATELY 7 LINES OMITTED *** 4.4 AOL SERVICE COMPONENTS AND SERVICE OFFERINGS. AOL and Sun each agrees actively to market, promote and support the Product Suites. Without limiting the foregoing, Sun will actively market, promote and support the AOL Service Components and AOL Service Offerings that are incorporated into products comprising the Product AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 10 11 Suites in connection with its marketing, promotion and sales of the Product Suites, provided that Sun customers will not be required to use or maintain any AOL Service Components included in the Product Suites. Notwithstanding anything to the contrary herein, including without limitation the provisions of Section 4.1.4, AOL shall retain all collected revenues related to or derived from sales or licenses of AOL Service Components and AOL Service Offerings. Neither Sun nor the collaborative sales team shall have any right to sell any AOL Service Offerings without AOL's prior written consent, and AOL shall have no obligation to provide such consent. 4.5 MINIMUM REVENUE COMMITMENTS BY SUN. Sun will commit that, during the term of this Agreement, the total of the net amounts paid per year to AOL under Sections, 4.1.4.2, 4.1.4.4, 9.6.2 (including, without limitation, net of commissions payable to Sun sales personnel) and under 4.2.2 (which includes revenues derived by AOL from the sale of Existing Netscape Software and Existing Netscape Software Upgrades and Associated Services), will be not less than Three Hundred Twelve Million Dollars ($312,000,000) for the first year following the Closing Date, Three Hundred Thirty Million Dollars ($330,000,000) for the second year following the Closing Date, and Three Hundred Thirty Three Million Two Hundred Fifty Thousand Dollars ($333,250,000) for the third year following the Closing Date, payable in quarterly minimum payments the ("Minimum Commitment") as set forth in Section 8.1. 4.6 PENETRATION RATE FOR BUSINESS DESKTOP. So long as certain specified milestone deliverable dates are satisfied as set forth in the Collaborative Development Work Plans, Sun shall use all reasonable efforts to achieve penetration of enterprise desktops by the Third Party Communicator Client and AOL Distributed Communicator Client as set forth in the Marketing and Sales Plan as mutually-agreed in writing prior to the Closing Date, including without limitation bundling the Third Party Communicator with Sun's Solaris operating system, actively promoting the Third Party Communicator on Sun's website, and such other actions as Sun normally takes to promote and market its products, provided that Sun shall be relieved of such obligations to achieve such penetration if Sun embarks on a divergent development path with respect to the Third Party Communicator Client pursuant to Section 3.10. If the agreed level of penetration is not achieved, Sun will take reasonable steps (e.g., increased marketing, promotion and salesforce incentives) to increase the penetration rate to the required level within six months; provided that, if Sun believes that the failure to achieve the requisite level of penetration was due to factors beyond its reasonable control and/or that the penetration rate shortfall cannot reasonably be remedied through increased marketing and promotion unless additional remedial action is also taken during such six month period, Sun will so inform AOL and the parties shall discuss Sun's concerns and attempt to agree through good faith negotiation on an appropriate plan to increase the penetration rate within such six month period. Such plan may include actions by Sun and/or AOL, depending on the circumstances. The Executive Representatives shall facilitate such negotiation. If either AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 11 12 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. Executive Representative believes that negotiation will not succeed in a timely fashion, he or she may refer such dispute to the two chief executive officers to resolve. The Incentive Plan referred to in Section 13.1 will set forth the method by which Sun will provide incentives to its sales force to achieve the requisite penetration rate. The escalation procedures set forth in this Section 4.6 shall constitute AOL's sole and exclusive remedy for any failure to achieve the specified target penetration rate. 4.7 MARKETING AND SALES PLAN. The Marketing and Sales Plan will set forth a detailed description of how the two sales and marketing teams (i.e., the sale forces described in Sections 4.1.2 and 4.1.3, respectively) will collaborate, including the initial sales force compensation and incentive plans (as further described in Section 13.1) to be implemented independently by the parties, the goal of which will be to provide appropriate incentives for the sales forces to meet and exceed the Minimum Commitments. 4.8 WARRANTIES, INDEMNIFICATION AND SUPPORT. Sun shall have the exclusive right to provide and will provide all warranty and support services in connection with sales and licenses (other than pursuant to existing contracts as set forth in Section 4.2.2) by the collaborative sales force and by the dedicated AOL sales force of the Product Suites, including warranty and support services for supported Systems Platforms other than the Sun Systems Platform, which may include Systems Platforms such as Windows NT, HP-UX, Linux and IBM AIX. Sun will fulfill warranty and support obligations in connection with all sales and licenses by AOL arising from sales by the collaborative sales force and by the dedicated AOL sales force of the Product Suites (other than pursuant to existing contracts as set forth in Section 4.2.2). In consideration of Sun's providing such support services, AOL will pay to Sun the sum of One Million Dollars ($1,000,000) per month during the term of this Agreement. In addition, Sun will, at the request of AOL, fulfill warranty and support obligations for existing contracts as set forth in Section 4.2.2 ***. Such support services shall include frontline technical support, including call receipt, call screening, installation assistance, problem identification and diagnosis, and other standard support services customarily provided by Sun's twenty-four hour per day, seven day per week support center. Backline escalation support shall be provided by the collaborative development team. Sun shall defend, indemnify and hold AOL harmless from all third party claims and allegations relating to alleged breach or failure to provide support services or breach of support service obligations under Sun's standard maintenance contracts under which it is obligated to support the Product Suites. AOL will promptly notify Sun in writing of any such claim or allegation giving Sun the sole right of defense and settlement, and will assist Sun, at Sun's expense (except for the value AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 12 13 of time of AOL employees), to defend or settle such claim or allegation. AOL shall have the right to employ separate counsel and to participate in the defense of such claim at its own cost. Sun shall not be liable for litigation expenses of or settlements by any third parties unless Sun agrees in writing. 5.0 MANAGEMENT PROCESS FOR DEVELOPMENT AND SALES AND MARKETING. 5.1 EXECUTIVE REPRESENTATIVES. Each party shall designate a senior executive reporting to its chief executive officer, president or chief operating officer as its Executive Representative to the other for the purpose of this Agreement. AOL's initial Executive Representative shall be David Colburn, and Sun's initial Executive Representative shall be William J. Raduchel. The Executive Representatives shall collaboratively report quarterly in writing (which may be electronic) to both chief executive officers on the progress of development under this Agreement and shall work to facilitate cooperation between the parties to achieve the development goals of this Agreement. The chief executive officers shall consult prior to changing the Executive Representatives. 5.2 EXECUTIVE MEETING. In January and July of each year, the chief executive officers and the relevant members of their management teams including the Executive Representatives shall meet to review the development progress and sales and marketing progress under this Agreement. The January meetings shall be in California hosted by Sun and the July meetings in Virginia, hosted by AOL. The host Executive Representative shall be responsible, in consultation with the participants and the other Executive Representative, for organizing such meeting and establishing its agenda. 5.3 MANAGEMENT PROCESS FOR CLIENT SOFTWARE DEVELOPMENT AND NETWORK APPLICATION AND SERVER SOFTWARE DEVELOPMENT. 5.3.1 LEAD EXECUTIVES. The initial Lead Executives and Deputy Lead Executives for each major component ("MC") of the collaborative development activity are set forth in Sections 5.3.3 and 5.3.4. Future Lead Executives will be designated by AOL after consultation with Sun. AOL shall have the right, after consultation with Sun, to replace the Lead Executive for either MC at any time if in its good faith judgement such action is in the best interests of the parties. The Lead Executive and Deputy Lead Executive must be replaced by a person of similar rank and stature unless the parties otherwise agree. The Lead Executives and Deputy Lead Executives shall not be changed prior to the Closing Date. 5.3.2 POWERS OF DEVELOPMENT LEAD EXECUTIVES; DEPUTY LEAD EXECUTIVES. The Lead Executive shall maintain and revise the corresponding AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 13 14 Collaborative Development Work Plan for each MC in accordance with its terms and will have the right, after consultation with the Deputy Lead Executive, to designate the project leader for each major project and to establish teams and team leaders for various development projects. For each Lead Executive there shall be a Deputy Lead Executive. The Deputy Lead Executive shall be assigned by the party other than the party employing the Lead Executive, after consultation with the Lead Executive. Each party shall structure all employees and resources for each MC under the Lead Executive or Deputy Lead Executive for that MC, and the Lead and Deputy Lead Executives and project leaders shall direct such resources in accordance with and to achieve the objectives of the Collaborative Development Work Plan. 5.3.3 CLIENT SOFTWARE. The initial Lead Executive for the Client Software MC shall be Barry Schuler. The Lead Executive for the Client Software MC shall have the right, after consultation with the Deputy Lead Executive, to make all decisions with respect to the design and development of the Client Software and the New Browser, including without limitation the features and functions to be included in each such product design and all decisions regarding development priorities and resource allocation. 5.3.4 NETWORK APPLICATION AND SERVER SOFTWARE. The initial Lead Executive for the Network Application and Server Software MC shall be Ed Zander. As part of the Collaborative Development Work Plans, with the consent of each party through its Lead Executive or Deputy Lead Executive, which consent shall not be unreasonably withheld or delayed, the Lead Executive will establish mutually agreeable targets for development of the Network Application and Server Software. It is AOL's present intention not to replace the initial Lead Executive for Network Application and Server Software unless such development targets are missed in a material fashion, but AOL shall have the right, after consultation with Sun, to replace the Lead Executive for the Network Application and Server Software MC at any time after the Closing Date. The Lead Executive for the Network Application and Server Software may be an employee of either party. In selecting the project leader and team leaders for various development projects to be undertaken in the development of the Network Application and Server Software, the Lead Executive for the Network Application and Server Software shall appoint a significant number of AOL employees as project and/or team leaders. 5.3.5 COLLABORATIVE DEVELOPMENT WORK PLANS. Prior to the Closing Date, the Lead Executive and Deputy Lead Executives shall establish and attach AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 14 15 hereto as Schedule 5.3 the initial Collaborative Development Work Plans for the two MCs of the initial Collaborative Development Activity (consisting of an MC for Client Software development and an MC for Network Application and Server Software development), setting forth the objectives, principal deliverables of each such MC and providing for priorities in going forward. Changes to the principal deliverables or priorities sections of the Collaborative Development Work Plan for Network Application and Server Software shall require the consent of both parties not to be unreasonably withheld or delayed, but all other changes to such Collaborative Development Work Plans may be made by the Lead Executive for the applicable MC after consultation with the Deputy Lead Executive for such MC. In making such changes, the Lead Executive must act solely in accordance with the terms and objectives of this Agreement. 5.3.6 CROSS PLATFORM DEVELOPMENT. Understanding that it is the parties' intention to offer cross platform solutions, the parties shall, to the extent commercially reasonable, develop the Client Software and the Network Applications and System Software to operate on a variety of System Platforms, including the Sun System Platform as well as other Systems Platforms including Windows NT, IBM AIX, Linux, HP-UX and other Systems Platforms. Any decision to support a platform other than Solaris or Windows NT shall require a financial analysis showing a reasonably appropriate return on investment, and in all cases all Collaboratively Developed Software at the date of first customer shipment must ship on Solaris. 5.3.7 NON-DISCLOSURE; LIMITATIONS ON WORK ON OTHER DEVELOPMENT. All individuals engaged in Collaborative Development Activities will be prohibited from using or disclosing any confidential information or trade secrets learned or developed in the course of such Collaborative Development Activities other than in the course of their work on the Collaborative Development Activities or their work for AOL or Sun, respectively. AOL and Sun each acknowledges that the parties may have to establish procedures and/or enter into supplemental confidentiality agreements to address issues that may arise in connection with Collaborative Development Activities, such as, by way of example, the use of confidential information of third parties which one party may not have the right to disclose to the other party. In addition, AOL and Sun each agrees that after it has assigned developers to the Collaborative Development Activities, it shall use reasonable efforts to keep such individuals assigned to the Collaborative Development Activities, and AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 15 16 AOL and Sun each agrees that it will not reassign multiple employees engaged in the Collaborative Development Activities to work on similar or competitive development activities for other customers, clients, or strategic partners. If AOL or Sun reassigns an individual employee to work on similar or competitive development activities for a customer, client, strategic partner or other third party, such party to this agreement shall advise the customer, client, strategic partner or other third party that such employee was involved in similar or competitive development activities pursuant to this Agreement and that such individual is subject to a confidentiality and non-disclosure agreement prohibiting such individual from using or disclosing any confidential information or trade secrets learned or developed in the course of such Collaborative Development Activities. 5.3.8 PROTECTION OF SOFTWARE. AOL and Sun will agree on procedures so that development is conducted in a such a manner that AOL Service Components, other AOL and Netscape proprietary software, Sun software, and the Collaborative Software are not inadvertently placed in the public domain or required to be publicly disclosed pursuant to the Mozilla Public License or Netscape Public License. Both parties shall comply with such procedures, and notwithstanding anything to the contrary contained in this Agreement, in no event may a Lead Executive make any decision to implement development in a manner inconsistent with such procedures without the written consent of both AOL and Sun, which either party may withhold in its sole discretion. 5.4 MANAGEMENT PROCESS FOR SALES AND MARKETING. 5.4.1 MARKETING AND SALES PLANS. An initial draft of the Marketing and Sales Plan for the Collaborative Marketing and Sales Activity will be mutually agreed upon prior to the Closing Date by the Lead Executive and Deputy Lead Executive for marketing and sales, setting forth the objectives and targets, and principal methods for marketing and sales of the Product Suites and components thereof. Major substantive changes to such initial Marketing and Sales Plan shall require the consent of both parties, such consent not to be unreasonably withheld, but any minor changes may be made by the corresponding Lead Executive after consultation with the Deputy Lead Executive. In making such changes, the Lead Executive must act solely in accordance with the terms and objectives of this Agreement. The Lead Executive and Deputy Lead Executive shall not be changed prior to the Closing Date. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 16 17 5.4.2 POWERS OF MARKETING AND SALES LEAD EXECUTIVE. The Lead Executive for Marketing and Sales shall maintain and revise the Marketing and Sales Plan in accordance with its terms. For each Lead Executive there shall be a Deputy Lead Executive. The Deputy Lead Executive shall be assigned by the party other than the party employing the Lead Executive. The Lead Executive for Marketing and Sales, after consultation with the Deputy Lead Executive for Marketing and Sales, shall have the right to establish projects and teams and project and team leaders for various major sales efforts ("SE's") of the Marketing and Sales Plan. Each party shall structure all employees and resources of such party's respective collaborative sales team under the Lead Executive or Deputy Lead Executive, and the Lead Executive and Deputy Lead Executives and their subordinates shall direct such resources in accordance with and to achieve the objectives of the applicable Marketing and Sales Plan. 5.4.3 LEAD EXECUTIVES. The initial Lead Executive for Marketing and Sales shall be Ed Zander. The initial Deputy Lead Executive for Marketing and Sales shall be Barry Schuler. As part of the Marketing and Sales Plans, AOL and Sun will establish mutually agreeable targets for marketing and sales of the Product Suites. It is AOL's present intention not to replace the initial Lead Executive for Marketing and Sales unless such targets are not met, but AOL shall have the right, after consultation with Sun, to replace the Lead Executive for Marketing and Sales at any time after the Closing Date. In the event replaced, the Lead Executive and Deputy Lead Executive may only be replaced by a person of similar rank and stature unless the parties otherwise agree. The Lead Executive for Marketing and Sales must be an employee of either AOL or Sun. 5.4.4 COORDINATION. The AOL collaborative sales force and the Sun collaborative sales force shall coordinate their sales efforts and endeavor to cooperate with one another to achieve maximum sales of the Product Suites in accordance with the Marketing and Sales Plan. 5.4.5 CROSS PLATFORM MARKETING AND SALES. The collaborative sales forces of AOL and Sun will be trained and knowledgeable about and shall, to the extent commercially reasonable, actively market and promote the sale or license of the Product Suites on the Sun Systems Platform, Windows NT and on a variety of other System Platforms to which the Product Suites have been ported, which may include IBM AIX, Linux, HP-UX and other Systems Platforms, which marketing and promotion shall include efforts to license the Product Suites on an OEM basis. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 17 18 6.0 OTHER DEVELOPMENT AND MARKETING RIGHTS AND LIMITATIONS. 6.1 AOL. During the term of this Agreement, AOL will market Network Application and Server Software only to AOL EC Service Opportunities and only to enable such opportunities. In sales to AOL EC Service Opportunities made by AOL personnel, AOL may elect to have the sales and licensing agreements for the goods and services sold be between the customer and AOL or may elect to have such agreements be between Sun and the customer. AOL shall have the unrestricted right to market and distribute the Client Software and New Browser during and after the term of this Agreement in any manner whatsoever, including without limitation through OEM licensing arrangements. 6.2 SUN. During the term of this Agreement, Sun will have the right to market, including through reseller and OEM arrangements, the Collaborative Software through the Collaborative Marketing and Sales Activities as well as its independent sales force, subject to the provisions of Section 4.1.4. 6.3 SUN DEVELOPMENT. Subject to the provisions of Sections 6.6 and 6.7, Sun is free to develop at its own expense additional client, server and application software, functionality and features for EC(2). Any such software developed by Sun independently which is not a derivative work of the Existing Netscape Software or the Collaborative Software and was not developed pursuant to any Collaborative Development Work Plan shall not constitute Collaborative Software or Designated Collaborative Software, and Sun shall own such independent developments and all proprietary rights therein. 6.4 AOL DEVELOPMENT. AOL is free to develop at its own expense and to collaborate with one or more third parties in developing additional client, server and application software, and functionality and features for electronic commerce and extended communities and connectivity, including without limitation software based on and derived from the Existing Netscape Software. Any such software developed by AOL independent of any Collaborative Development Work Plan shall not constitute Collaborative Software or Designated Collaborative Software, and AOL shall own such independent developments and all proprietary rights therein. 6.5 REPLACEMENT OF IE BROWSER. To the extent contractually permissible, AOL will periodically evaluate replacing the browser component of Microsoft Internet Explorer browser with the New Browser in the AOL classic online service offering and to use the New Browser in clients for other brands such as ICQ and CompuServe, provided that the parties acknowledge that AOL has no present intention to make any such replacement or use and shall have no obligation to make any such replacement or use, and that it is AOL's present expectation that it will not seek to terminate or limit its present agreement AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 18 19 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. and may seek to renew and/or extend and expand its present agreement with Microsoft Corporation to continue to distribute Microsoft Internet Explorer. It is acknowledged that among the critical issues for AOL in evaluating the merits of any such possible replacement would be *** APPROXIMATELY 8 LINES OMITTED *** 6.6 NO DEVELOPMENT OR MARKETING OF COMPETITIVE CLIENTS. Except as provided in Section 3.10, for any System Platform for which AOL implements, in the OEM Communicator Client and Third Party Communicator Client, the most recent version of Sun's JRE pursuant to Section 3.6, Sun shall not during the term of this Agreement, directly or indirectly through any third party, develop, market, advertise, or distribute any software product or assist in advertising, marketing, or distributing any software product on such System Platform (including without limitation any other browser component) including or bundled with features and functions which make it competitive with a desktop client such as the client for the AOL classic online service, AOL Distributed Communicator Client, the Third Party Communicator Client, the OEM Communicator Client or Microsoft Internet Explorer (as it continues to evolve away from a browser to a fully featured online desktop client),*** APPROXIMATELY 11 LINES OMITTED *** This Section 6.6 shall not be deemed to limit or prohibit Sun from continuing to develop, market, advertise, promote and distribute browsers that are 100% Pure Java or are for platforms other than personal computers or workstations, subject to the provisions of Section 4.3, nor from continuing to develop, market and promote client software other than browsers except as provided in this Section. 6.7 SUPPORT FOR PRODUCT SUITES STANDARDS. It is the intention of the parties that all client software will support industry-standard protocols and the standards, protocols and defaults in the Product Suites, including without limitation the standards, protocols and defaults of the AOL Services Components in the Product Suites, and except as provided in Section 3.10, Sun agrees not to implement, in the Sun Systems Platform or in other software competitive with or offering similar functionality to the Product Suites, inconsistent or conflicting standards, protocols or defaults, including without limitation inconsistent or conflicting with the components, features, functionality, interfaces, protocols and APIs of the New Browser. 6.8 IMPACT OF LICENSE TO COMPETING OEM. If, during the term of this Agreement, AOL grants an OEM license to any of the network application and server software comprising the Existing Netscape Software or any derivative works thereof developed by AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 19 20 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. AOL to any other Systems Platform suppliers, each such transaction must be structured so that the revenues to AOL reflect *** and in such event the Minimum Commitment as set forth in Section 4.5 for each quarter subsequent to AOL granting such a license shall be reduced by *** of the consideration received by AOL during the preceding quarter pursuant to such license agreement for the rights granted to such OEM with respect to any such software, provided that in the event AOL receives an upfront large sum or advance pursuant to such an agreement, the reduction arising from such amount shall be applied pro rata across all then remaining quarterly Minimum Commitments. 6.9 LICENSES BY SUN. During the term of this Agreement, Sun shall structure its license transactions for the Existing Netscape Software and Designated Collaborative Software so that the revenues to Sun *** and Sun shall not enter into licenses for such software intending to (a) have a material adverse impact on the penetration rate for the business desktop as set forth in Section 4.6 or (b) materially reduce the amounts payable to AOL hereunder. 6.10 RESOURCES. AOL and Sun shall each provide a minimum level of staffing through their respective collaborative sales forces, as set forth in the Marketing and Sales Plan, to achieve the objectives of the SE's, and AOL and Sun shall each provide a minimum level of development staffing, as set forth in the initial Collaborative Development Work Plans, to achieve the objectives of the Network Application and Server Software development MC. Sun shall be responsible for using all reasonable efforts at its expense to provide whatever remaining resources are needed to achieve the goals of each SE as set forth in the Marketing and Sales Plan and to achieve the goals set forth in the Collaborative Development Work Plan for Network Application and Server Software, but in no event will Sun be required to provide more than the maximum levels of Sun staffing set forth in the Marketing and Sales Plan and the Collaborative Development Work Plan for Network Application and Server Software. Sun will provide a level of staffing for Sun's collaborative sales force at least as large as that of AOL's collaborative sales force, and Sun shall provide a level of staffing for the Collaborative Development Activities at least as great as the staffing AOL provides for the Collaborative Development Activities. Either party may reduce its level of staffing if such party concludes that then current and reasonably anticipated business conditions no longer justify then current staffing levels. In the event the aggregate level of staffing provided by AOL in any quarter for Collaborative Development Activities and Collaborative Marketing and Sales Activities is less than ***, the otherwise applicable Minimum Sales Commitment for the next quarter shall be reduced by *** per person for such shortfall (i.e., for each person by which such staffing by AOL is below ***), provided that in the event the composition of AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 20 21 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. such AOL staffing with respect to mix of salary levels changes materially, Sun and AOL will negotiate in good faith adjustments to such *** per person shortfall reduction. 7.0 ESCALATION AND DISPUTE RESOLUTION FOR COLLABORATIVE DEVELOPMENT AND MARKETING AND SALES. 7.1 GENERAL. The parties shall attempt to promptly resolve through good faith negotiation any dispute or disagreement between them directly relating to design and development priorities and decisions and resource allocation under the Collaborative Development Work Plan for Network Application and Server Software and marketing and sales priorities and decisions under the Marketing and Sales Plans. ***APPROXIMATELY 10 LINES OMITTED*** 7.2 DEADLOCK ON MAJOR DISPUTES. ***APPROXIMATELY 48 LINES OMITTED*** 8.0 PAYMENT TIMING PROVISIONS. 8.1 TIMING. Fees payable pursuant to Section 4.1.5, 4.5 and 9.8.2 shall be paid quarterly in advance not later than the fifth business day of the quarter for which due, except that amounts payable pursuant to such Sections for the first quarter shall be paid on the Closing Date, and, in the event to first quarter is not a complete quarter, amounts payable pursuant to such Sections for the first partial quarter and the first full quarter shall be payable on the Closing Date. Unless otherwise specified, other fees shall be paid no later than 45 calendar days after the end of the quarter for which due (including fees in excess of the minimum amounts due with respect to any quarter). No fees are payable until the quarter in which the Closing Date occurs, and any fees for that quarter, including minimum quarterly fees specified in this Agreement, including in Sections 4.1.5, 4.5 and 9.8.2, shall be a pro rata amount based on the number of days remaining in such quarter. In the event the first quarter is not a complete quarter (i.e., the Closing Date occurs other than at the beginning of the quarter), any reductions in minimum revenues or other fees specified in this Agreement, including in Sections 4.1.5, 4.5 and 9.8.2, shall not apply until the second full quarter. For partial quarters at the beginning and the end of each year of the term of this Agreement, the quarterly amount payable shall be a prorated portion of the full quarterly amount specified for such year, based on the number of days in such partial quarter period. (For example, if the first anniversary of the Closing Date is March 20, 2000, the prorated Minimum Commitment payable pursuant to Section 4.5 for the partial period running from January 1, 2000 through March 20, 2000 shall be the applicable prorated portion of $78,000,000, which amount shall be due and payable on January 1, 2000, and the prorated Minimum Commitment for the partial period running AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 21 22 from March 21, 2000 through March 30, 2000 shall be the applicable prorated portion of $82,500,000, which amount shall also be due and payable on January 1, 2000. 8.2 NO RIGHT TO WITHHOLD OR OFFSET. Sun will have no right whatsoever to withhold payment of any minimum fees or revenues provided for in Sections 4.1.5, 4.5 or 9.8.1 on the basis of any alleged right of offset or any alleged breach by AOL of any of its obligations pursuant to this Agreement or for any other reasons except to the extent permitted pursuant to a final, non-appealable judgment obtained from a court of competent jurisdiction in litigation between AOL and Sun. Notwithstanding anything to the contrary set forth in this Agreement, in the event Sun believes that AOL has breached any obligations under this Agreement, Sun shall have no right to cease paying any such minimum fees and revenues, even if Sun has terminated or purported to terminate this Agreement, and Sun's sole and exclusive remedy shall be to litigate the dispute and to continue making such payments during the pendency of the litigation. AOL shall be entitled to injunctive relief to compel Sun to continue making such payments during the pendency of such litigation. 8.3 LATE CHARGES. In the event that either party does not receive any amounts from the other party hereunder on or before the day upon which such amounts are due and payable, and fails to cure such breach within ten (10) business days following written notice from the other party, such outstanding amounts shall thereupon be subject to payment of a late charge which shall accrue until payment at the rate of one percent (1%) per month. Amounts received by shall first be credited against any unpaid late charges accrued pursuant to this Section, and accrual of such late charges shall be in addition to and without limitation of any and all additional rights or remedies under this Agreement or at law or in equity. 9.0 INTELLECTUAL PROPERTY RIGHTS. 9.1 OWNERSHIP. Each party shall own all preexisting software and/or technology which it makes available to the Collaborative Development Activity or which it developed or develops with its own resources without use of any intellectual property of the other party and not as part of the Collaborative Development Activities and all proprietary rights therein. To the extent such software and/or technology is incorporated into the Designated Collaborative Software, it shall, to the extent so incorporated, be subject to the provisions of Sections 9.2, 9.3 and 9.4. 9.2 DESIGNATED COLLABORATIVE SOFTWARE. AOL shall own all improvements and modifications to any preexisting software or technology of either party, any new software and technology created through Collaborative Development Activity to create the Client Software and/or New Browser, and all newly-created intellectual property rights therein, whether completed or work in progress. Sun shall own all improvements and modifications to any preexisting software of either party and any new software and AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 22 23 technology created through Collaborative Development Activity to create the Network Application and Server Software and all newly-created intellectual property rights therein. 9.3 AOL LICENSE TO SUN. AOL hereby grants to Sun and its subsidiary, Sun Microsystems International, B.V. ("Sun International B.V.") a Software License to all Designated Collaborative Software owned by AOL pursuant to Sections 9.1 and/or 9.2, subject only to the payment by Sun of the amounts provided in this Agreement. Such license shall be unrestricted as to field of use, except for those limitations set forth in Section 6.6 and 6.7. AOL also hereby grants to Sun a non-exclusive, perpetual, non-terminable, fully sublicensable right under any patents issued anywhere in the world for which AOL is or becomes the beneficial or legal owner which were reduced to practice in the course of the Collaborative Development Activity to make, have made, practice, have practiced, use, lease, sell and otherwise transfer any and all inventions, methods or processes which are the subject of any claim of any such patent. 9.4 SUN LICENSE TO AOL. Sun shall grant to AOL a Software License to all Designated Collaborative Software owned by Sun pursuant to Sections 9.1 and/or 9.2, whether written in Java or any other programming language. Such license shall be unrestricted as to field of use. Notwithstanding the foregoing grant to AOL, AOL's rights to the Java Platform shall be governed solely by the TLDA executed concurrently herewith by the parties. Sun also hereby grants to AOL a non-exclusive, perpetual, non-terminable, fully sublicensable right under any patents issued anywhere in the world for which Sun is or becomes the beneficial or legal owner which were reduced to practice in the course of the Collaborative Development Activity to make, have made, practice, have practiced, use, lease, sell and otherwise transfer any and all inventions, methods or processes which are the subject of any claim of any such patent. 9.5 PROCEDURES FOR LITIGATING PROPRIETARY RIGHTS CLAIMS AGAINST THIRD PARTIES. AOL and Sun agree to cooperate with one another and to negotiate in good faith procedures and terms and conditions permitting each party to pursue infringement claims against third parties with respect to the Designated Collaborative Software and other rights licensed to one another pursuant to this Agreement. The parties will consider and discuss whatever arrangements might most efficiently and fairly permit such actions to be pursued, which might include, by way of example, an assignment of an undivided joint interest in the software at issue in order to confer standing to sue on the party seeking to bring such action, an agreement by which the other party is joined as a party plaintiff in the action with provisions allocating the responsibilities and costs of litigating such claims, or some other mechanism. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 23 24 9.6 LICENSE TO EXISTING NETSCAPE SOFTWARE. 9.6.1 LICENSE FOR DEVELOPMENT. As of the Closing Date, as between AOL and Sun, AOL shall own all rights in and shall grant to Sun a Software License to the Existing Netscape Software. AOL may also elect to grant to Sun a Software License to any Existing Netscape Software Upgrades that AOL makes available for Collaborative Development Activities pursuant to this Agreement. Such license shall be subject to the limitations set forth in this Agreement on Sun's marketing and licensing thereof during the term of this Agreement, which shall include those limitations set forth in Sections 6.3, 6.6 and 6.7 of this Agreement as well as limitations during and after the term of this Agreement permitting Sun and Sun International B.V. to use the Existing Netscape Software (and any Existing Netscape Software Upgrades, if any, licensed to Sun) solely for purpose of developing the New Browser, the OEM Communicator Client, and the Designated Collaborative Software as part of the Collaborative Development Activity. Such licenses shall also be subject to any contractual restrictions with third parties for the duration of such contractual restrictions. AOL represents that concurrently with the execution of this Agreement, AOL is obtaining from Netscape contractual commitments requiring that Netscape cooperate with AOL between the date of this Agreement and the Closing Date to identify any "Encumbrances" (as defined in this Section) that may adversely affect AOL's rights to Netscape Existing Software and/or any components thereof as set forth below, including without limitation AOL's rights to grant others access to source code and sublicense such rights. Such cooperation shall include granting AOL full access to Netscape technology licenses, agreements by which technology rights were acquired by Netscape and information regarding intellectual property infringement or misappropriation claims, if any, relating to the Netscape Existing Software and all components thereof. As used in this Section, "Encumbrances" means any restriction or limit that would prevent or materially limit or restrict AOL from granting pursuant to this Agreement the applicable source and binary access, use and distribution rights under Sections 9.6.1, 9.6.2 and 14.7 of the Agreement with respect to the Netscape Existing Software or any component thereof ("Sun License Rights"), including, without limitation, limitations and restrictions on source access and sublicensing fights, as well as prohibitions or requirements to obtain consents to assignment of rights from Netscape to AOL upon the Closing Date where to failure to obtain such consent would materially limit or restrict AOL's rights, including sublicensing rights. AOL further represents that it is obtaining from Netscape concurrently with the execution of this Agreement contractual commitments obligating Netscape to use reasonable efforts to remove, limit or diminish such AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 24 25 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. Encumbrances, in a priority order to be specified by AOL. After the Closing Date, AOL shall continue such efforts. *** APPROXIMATELY 4 LINES OMITTED *** Sun and AOL will consider the scope and impact of any such Encumbrances in determining what work to undertake pursuant to the Collaborative Development Plans and the products to be included in the Product Suites. 9.6.2 RESELLER RIGHTS. AOL shall grant to Sun, effective as of the Closing Date and continuing for the term of this Agreement, (a) the right to distribute the Existing Netscape Software in binary form only except as set forth below; (b) the right to use the source code for the Existing Netscape Software solely for purposes of supporting and maintaining the binary copies distributed to Sun customers; and (c) the right to license the source code for the Existing Netscape Software to OEM licensees solely for the purpose of permitting such OEM licensees to support and maintain the binary copies distributed by such OEMs, provided that Sun may provide such source code to OEM licensees only pursuant to the terms of a written agreement substantially in conformance with a form approved by AOL, which approval shall not be unreasonably withheld or delayed, containing customary terms and conditions to preserve the confidentiality of such source code and containing customary limitations and disclaimers of warranties and exclusions and limitations of liability. The rights granted to Sun pursuant to this Section 9.6.2 with respect to the Existing Netscape Software shall terminate upon expiration or termination of this Agreement, except that Sun shall retain thereafter a limited source code license to retain and use such software solely for the support of existing customers as of such expiration or termination. 9.6.3 DELIVERY. Promptly following the Closing Date, AOL will deliver to Sun a copy of all Existing Netscape Software that is subject to the license granted pursuant to Section 9.6.1 and 9.6.2. 9.7 POST TERMINATION RIGHTS. The license rights of the parties following expiration or termination of this Agreement are set forth in Sections 14.5 and 14.7. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 25 26 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. 9.8 LICENSE FEES. 9.8.1 PAYMENTS FROM AOL TO SUN. AOL shall pay to Sun quarterly license fees of $5 million per quarter during the term of this Agreement for the Sun-owned components licensed to AOL by Sun pursuant to Section 9.4. No license fee shall be required after expiration or termination of this Agreement for any such license rights that survive termination. AOL may allocate up to *** of the fees under this section to any payments required under any TLDA between Sun and AOL, and any unused balance of such amounts not applied to TLDA fees may be carried forward and applied to future fees under any TLDA. 9.8.2 PAYMENTS FROM SUN TO AOL. Sun shall pay to AOL quarterly license fees during the term of this Agreement for the software and trademark rights granted to Sun by AOL pursuant to Sections 9.3, 9.6 and 12, which shall be Eighty-Six Million Dollars ($86,000,000) for the first year following the Closing Date, Ninety-Five Million Five Hundred Thousand Dollars ($95,500,000) for the second year following the Closing Date, and Ninety-Seven Million Dollars ($97,000,000) for the third year following the Closing Date, payable in quarterly payments as provided in Section 8.1. No license fee shall be required after expiration or termination of the definitive agreement for any such license rights that survive termination. 10.0 NETCENTER. 10.1 OBJECTIVES. AOL shall develop the Netcenter to be a portal for a variety of customers with a focus on business customers in terms of the services, information and customization options offered. 10.2 OWNERSHIP. AOL owns and controls the Netcenter without restriction and shall be responsible for all of its associated costs. 10.3 PORTAL REVENUES. Notwithstanding anything to the contrary herein, AOL shall retain all revenue, and bear all costs, related to or derived from the Netcenter. 10.4 PROMOTION. Sun agrees to cooperate with AOL to make the Netcenter the Sun default network portal for the Product Suites and to help gain additional traffic for the Netcenter. Without limiting the foregoing, the Netcenter will be the default home page in the New Browser, Third Party Communicator Client and OEM Communicator Client, any client applications developed by Sun pursuant to Section 3.10, the HotJava browser AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 26 27 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. and, to the extent practicable and commercially reasonable, the Bedouin browser or any other thin client browser used on platforms other than personal computers and workstations, although Sun customers shall not be required to maintain such home page against their will. *** APPROXIMATELY 5 LINES OMITTED *** Sun shall always position the Netcenter in its meetings, promotions and advertising no less favorably than any other portal addressed in such meetings, promotions and advertising, if any, but the parties recognize and agree that the objectives of this Agreement require that Sun market and distribute the Product Suites and System Platform to other connectivity and portal vendors without restriction, and in such cases such other connectivity and portal vendors shall have the right to use and promote their own home pages and/or portals in connection with the Products Suites and System Platform. 11.0 SYSTEMS PLATFORM. 11.1 OWNERSHIP. Sun owns and controls the Sun System Platform without restriction and shall be responsible for all of its associated costs. Sun shall develop the Sun System Platform to be the premiere foundation for Product Suites customers in terms of its performance, scalability, reliability and cost-effectiveness. 11.2 PROMOTION. AOL agrees to cooperate with Sun to make the Sun System Platform the AOL preferred System Platform for Products Suites for both AOL and AOL EC Service Opportunities. AOL shall always position the Sun System Platform in its meetings, promotions and advertising no less favorably than any other Systems Platform addressed in such meetings, promotions and advertising, if any, but the parties recognize and agree that the objectives of this Agreement may require that AOL market and distribute the Product Suites on other System Platforms to meet customer requirements. 12.0 BRANDING. 12.1 OWNERSHIP. Each party shall retain all rights, title and other interest to its brand names, service marks, trademarks and other proprietary markings except as expressly provided otherwise in this Agreement. 12.2 BRAND NAMES AND TRADEMARKS. Subsequent to the execution of this Agreement and prior to the Closing Date, AOL and Sun shall negotiate in good faith and enter into a written trademark license, which shall include reasonable and customary terms, including appropriate quality control provisions, pursuant to which AOL shall license to Sun on a royalty-free, non-sublicensable basis effective as of the Closing Date: (a) the right to use the Netscape Communicator trademark in connection with the Third-Party Communicator AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 27 28 Client and related sales and marketing materials, and shall license to Sun the right to use successors or replacements of the Netscape Communicator trademark in connection with the Third-Party Communicator Client and related sales and marketing materials, provided the Third-Party Communicator Client meets the requirements for branding with such mark(s); (b) the right to use the Netscape trademarks that Netscape currently uses as the titles for the Existing Netscape Software in connection with the collaborative marketing and sales of the Existing Netscape Clients pursuant to this Agreement; and (c) such other trademarks, if any, as AOL and Sun may mutually agree. Such trademarks shall be licensed to Sun following expiration or termination of this Agreement subject to reasonable quality control requirements and a reasonable transition period (not to exceed fifteen (15) months) and plan which shall be set forth in the definitive trademark license. Such trademark license shall also provide for a trademark license from AOL to Sun to use the Netscape Communicator trademark, and such other trademarks, if any, as AOL and Sun may mutually agree, for any software developed by Sun pursuant to Section 3.10, subject to such software meeting AOL's reasonable quality control and other transition requirements for such branding and subject to a phase-out of Sun's use of such trademarks in connection with such products after a reasonable transition period (not to exceed fifteen (15) months). 12.3 BRANDING OF COLLABORATIVE SOFTWARE. The branding for the Collaborative Software shall be determined by mutual agreement of the Lead Executive and Deputy Lead Executive for marketing and sales, and each party shall have the right to use such marks in connection with the Product Suites and related sales and marketing materials during the term of this Agreement. Following any expiration or termination of this Agreement, Sun shall retain ownership of any trademark by which the entire Product Suites are identified, subject to transition or phase-out terms permitting continued use by AOL for a reasonable transition period (not to exceed fifteen (15) months), which terms and conditions shall be negotiated in good faith and embodied in a written trademark license agreement. Following any expiration or termination of the Agreement, Sun and AOL shall each have the non-exclusive right to use any titles by which the individual Network Application and Server Products in the Product Suites were identified during the term of this Agreement, provided that AOL and Sun shall differentiate their uses of such marks following any expiration or termination of this Agreement by always using any such mark in connection with a name or trademark prominently identifying AOL or Sun as the source of such goods or services (for example, AOL Commerce Server and Sun Commerce Server). 13.0 EMPLOYEE INCENTIVES. 13.1 INCENTIVE PLAN. The parties recognize and agree that proper motivation and economic incentives for their respective employees engaged in the Collaborative Development Activity and collaborative marketing and sales is essential to its success and shall create and operate an Incentive Plan ("Incentive Plan") for all employees AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 28 29 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. engaged full-time in the Collaborative Development Activity or in collaborative marketing and sales. Each party shall bear its own expenses in connection with its respective Incentive Plans. Compensation for the collaborative marketing and sales force will consist of base salary with an additional commission/incentive opportunity, and the commission incentive plan will (i) represent a significant part of each individual's total annual compensation (base salary plus commission/incentive plan) and (ii) support the metrics included in the Marketing and Sales Plan. The parties commit to cooperate with one another to complete the Incentive Plan as soon as practicable and commercially reasonable and prior to the Closing. 13.2 SENIOR MANAGERS. All senior managers and above shall receive a significant portion of their compensation through an annual bonus program, tied to performance under the Collaborative Development Work Plans and/or Marketing and Sales Plans, and paid annually to those employees still employed by either party as of the date of payment of the bonus. 13.3 SALES REPRESENTATIVES. All sales representatives shall receive a significant portion of their compensation through an incentive bonus program tied to meeting objectives under the Marketing and Sales Plans. 13.4 POOL FOR ALL PERSONNEL. The Lead Executives and Deputy Lead Executive from each party, respectively, may make periodic project and spot bonus payments tied to performance under the Collaborative Development Work Plans and/or Marketing and Sales Plans, to employees of such party from a pool of funds of up to*** of total salaried compensation for all personnel employed by such party in such activities. 13.5 LEAD EXECUTIVES AND DEPUTY LEAD EXECUTIVES. At least one-half of the total incentive compensation by MC for any Lead Executives or Deputy Lead Executives (other than an Executive Officer of Sun or AOL, if a Lead Executive or Deputy Lead Executive is an Executive Officer) must be provided under the IP. 14.0 TERMINATION. 14.1 TERM. This Agreement shall terminate at midnight Pacific Daylight Time on the date three (3) years following the Closing Date. 14.2 EARLY TERMINATION. This Agreement assumes the intended merger of Netscape and AOL. If the Closing Date does not occur on or before June 30, 1999, the parties agree to negotiate in good faith for a period of thirty (30) days thereafter in an effort to AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 29 30 agree on alternative terms to achieve as much as possible the same effect as this Agreement using solely Sun technology, provided that if the parties fail to agree on such alternative terms within such thirty (30) day period, either party may elect to terminate this Agreement by giving written notice to the other party. 14.3 TERMINATION FOR BREACH. Subject to Section 7.2 of this Agreement, either party may terminate this Agreement for a material breach of its terms by the other party by giving the other party written notice at least ninety (90) days in advance of such termination date, and the Agreement shall terminate on that date unless the breaching party has cured or corrected such breach prior to that time, provided that such ninety (90) day period shall be shortened to a ten (10) business day cure period following written notice in the event of a failure to pay amounts due pursuant to this Agreement. Without limiting the foregoing, in the event Sun fails to pay any amounts due to AOL pursuant to this Agreement, including without limitation minimum fees or revenues provided for in Sections 4.1.5, 4.5 and 9.8.2, and fails to cure such breach within the ten (10) business day cure period provided for in this Section, AOL shall have the right, exercisable upon written notice to Sun, without limiting any of AOL's other rights or remedies, to terminate this Agreement and all licenses granted to Sun by AOL, including all licenses granted to Sun by AOL pursuant to Sections 9.3, 9.6 and 12 (in which event Sun will have no license rights pursuant to Section 14.7.1 or 14.7.2). In the event of a termination of this Agreement and all licenses granted to Sun by AOL as a result of Sun's failure to pay any minimum fees and revenues in a timely manner, Sun's obligation to pay all minimum fees and revenues provided for in Sections 4.1.5, 4.5 and 9.8.2 shall be accelerated so as to make all such fees and revenues be due and payable immediately. Notwithstanding anything to the contrary set forth in this Agreement, AOL shall have no right to terminate the licenses granted to Sun by AOL pursuant to Sections 9.3, 9.6 and 12, except for a failure by Sun to pay any fees and revenues due pursuant to this Agreement and a failure to cure such breach in a timely manner as provided in this Section 14.3. 14.4 LIMITATION ON AOL RIGHT TO TERMINATE LICENSES. Except in the event Sun fails to pay the fees payable under Sections 4.1.5, 4.5 and 9.8.2 as required in Section 8 (the "Specified Payment Obligations"), AOL shall have no right whatsoever to terminate or reduce Sun's license rights set forth in Sections 9.4, 9.6.1, 9.6.2, 12.2, 12.3, 14.7.1 or 14.7.2 (the "Licenses") on the basis of any alleged breach by Sun of any of its obligations pursuant to this Agreement or for any other reasons, except to the extent permitted pursuant to a final, non-appealable judgment obtained from a court of competent jurisdiction in litigation between AOL and Sun. Notwithstanding anything to the contrary set forth in this Agreement, in the event AOL believes that Sun has breached any obligations under this Agreement, other than the Specified Payment Obligations, AOL shall have no right to terminate or reduce such licenses, even if AOL has terminated or purported to terminate this Agreement, and AOL's sole and exclusive remedy shall be to litigate the dispute, provided that nothing contained herein shall be deemed to limit AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 30 31 AOL's right to enforce the limitations set forth in this Agreement on the scope or duration of such licenses. Sun shall be entitled to injunctive relief to prevent AOL from terminating or limiting such licenses in any way other than as expressly allowed in this Section. 14.5 TERMINATION ON A CHANGE IN CONTROL. During the term of this Agreement, if either party is acquired or if any third-party acquires effective voting control of either party, such party shall promptly notify the other party in writing, and the other party may terminate this Agreement effective six (6) months after receipt of such notice; provided that if Sun terminates this Agreement pursuant to this Section 14.4, it shall be obligated to continue to pay all then remaining minimum payments and fees that would have been due if this Agreement had expired on the date set forth in Section 14.1, when and as such minimum payments and fees would otherwise be payable pursuant to this Agreement. 14.6 AOL POST TERMINATION LICENSE RIGHTS. Following any expiration or termination of this Agreement, AOL shall be free to further develop and enhance the Designated Collaborative Software for its own account in all respects, shall be entitled to full ownership of any AOL separately developed code based on or derived from the Designated Collaborative Software, including without limitation any AOL separately developed modifications and enhancements to the Designated Collaborative Software (such as, by way of example, the Third Party Communicator Client and AOL Distributed Communicator Client), shall have no duty to account to or pay Sun with respect to any use or exploitation of the Designated Collaborative Software, and shall not be subject to any limitations on field of use with respect to the Designated Collaborative Software. Following any expiration or termination of this Agreement, AOL shall have no rights of any kind to any software developed by Sun, which does not constitute Collaborative Software or Designated Collaborative Software. 14.7 SUN POST TERMINATION LICENSE RIGHTS. 14.7.1 DESIGNATED PRODUCTS. As used in this Agreement, "Designated Products" means (a) any network applications and server software included in the Product Suites or marketed and sold through Collaborative Marketing and Sales Activities pursuant to the Marketing and Sales Plan at any time during the term of this Agreement, and (b) the Designated Collaborative Software. Except as provided in Section 14.3, Sun and Sun International B.V. shall be granted effective upon expiration or termination of this Agreement a Software License to the Designated Products and shall be free following any expiration or termination of this Agreement to further develop and enhance any Designated Products for their own respective accounts in all respects, shall be entitled to full ownership of any Sun and Sun International B.V. separately developed code based on or derived from the Designated Products, including without limitation any Sun AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 31 32 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. separately developed modifications and enhancements to the Designated Products, shall have no duty to account to or pay AOL with respect to any use or exploitation of the Designated Products, and shall not be subject to any limitations on field of use with respect to the Designated Products (including without limitation those limitations set forth in Sections 6.3, 6.6 and 6.7 of this Agreement), provided that (a) AOL may elect to require that, within one hundred eighty (180) days following any expiration or termination of this Agreement, Sun cease to distribute and remove from any Designated Products and derivative works thereafter marketed or distributed by Sun and Sun International B.V. any or all AOL Service Components, as specified by AOL, and (b) such license shall be subject to any contractual restrictions with third-parties for the duration of such contractual restrictions. 14.7.2 THIRD PARTY COMMUNICATOR CLIENT AND AOL DISTRIBUTED COMMUNICATOR CLIENT. Following any expiration or termination of this Agreement, Sun shall have no rights of any kind to the Third Party Communicator Client or the AOL Distributed Communicator Client or any software developed by AOL which does not constitute Designated Software, other than a limited source code license to retain and use such software solely for the support of existing customers as of such expiration or termination. 14.7.3 DELIVERY. Promptly following expiration or termination of this Agreement, AOL shall deliver to Sun a copy of all source code and binary code comprising the Designated Products to the extent Sun does not already have such code in its possession. 14.8 PURCHASE OF SUN PRODUCTS AND SERVICES POST-TERMINATION. 14.8.1 EC(2) PRODUCTS AND SERVICES. For seven years after the expiration or termination of this Agreement for any reason other than (a) a termination by Sun arising from a material breach by AOL or (b) a termination pursuant to Section 14.2 resulting from a failure of the Closing Date to occur, AOL will be entitled to purchase Sun *** 14.8.2 OTHER PRODUCTS AND SERVICES. For seven years after the expiration or termination of this Agreement for any reason other than (a) a termination by Sun arising from a material breach by AOL or (b) a termination AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 32 33 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. pursuant to Section 14.2 resulting from a failure of the Closing Date to occur, AOL will be entitled to purchase *** 14.9 POST TERMINATION LIMITATIONS. For a period of eighteen (18) months following any termination or expiration of this Agreement (other than a termination arising from a material breach by the other party), each party agrees to continue to market and distribute the Network Applications and Server Software in a manner generally consistent with the manner in which such Network Applications and Server Software were marketed and distributed by such party during the term of this Agreement, and each party agrees not to sell or dispose of all or substantially all of its respective rights in such software during such eighteen (18) month period, provided that this Section shall not be deemed to limit or prohibit either party from selling or disposing of such rights in connection with a merger or sale of assets in which a third party acquires or succeeds to all or substantially all of such party's assets, including such rights. 15.0 GENERAL REPRESENTATIONS AND WARRANTIES. 15.1 AOL REPRESENTATIONS AND WARRANTIES. AOL warrants, covenants and represents to Sun that: 15.1.1 AOL has the full corporate right, power and authority to enter into this Agreement and to perform the acts required of it pursuant to this Agreement; 15.1.2 the execution of this Agreement and the performance by AOL of its obligations and duties under this Agreement shall not violate any agreement to which AOL is a party or the rights of any other party; and 15.1.3 AOL is not relying on nor does Sun make any representations, warranties or agreements not expressly provided for in this Agreement. 15.2 SUN REPRESENTATIONS AND WARRANTIES. Sun warrants, covenants and represents to AOL that: 15.2.1 Sun has the full corporate right, power and authority to enter into this Agreement, to perform the acts required of it; AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 33 34 15.2.2 the execution of this Agreement and the performance by Sun of its obligations and duties under this Agreement shall not violate any agreement to which Sun is a party or the rights of any other party; and 15.2.3 Sun is not relying on nor does AOL make any representations, warranties or agreements not expressly provided for in this Agreement; and 16.0 NO PROPRIETARY RIGHTS INDEMNITY. Neither AOL nor Sun makes any warranties with respect to noninfringement and expressly disclaim all implied warranties of title and against infringement. Neither AOL nor Sun shall have any obligation to defend or indemnify the other against any third party claims of infringement or misappropriation of any proprietary rights in any materials or technology provided by either party to the other or developed pursuant to this Agreement. 17.0 OTHER REMEDIES CUMULATIVE. Except where otherwise specified, the rights and remedies granted to a party under this Agreement are cumulative and in addition to, and not in lieu of, any other rights or remedies which the party may possess at law or in equity, including, without limitation, rights or remedies under applicable patent, copyright, trade secret or proprietary rights laws, rules or regulations. 18.0 AUDIT RIGHTS. AOL and Sun agree to allow mutually acceptable independent CPA auditors, which auditors shall not be compensated on a contingency basis and shall be bound to keep all information confidential except as necessary to disclose discrepancies to the other party, to audit and analyze relevant accounting records of each other to ensure compliance with all terms of this Agreement. Any such audit shall be permitted within thirty (30) days of one party's receipt from the other of a written request to audit, during normal business hours, at a time mutually agreed upon. The cost of such an audit shall be borne by the requesting party unless a material discrepancy is found, in which case the cost of the audit shall be borne by the other party. A discrepancy shall be deemed material if it involves a payment or adjustment of more than five percent (5%) of the amount actually due from the paying party in any given quarter. Audits shall occur no more frequently than once per calendar year and shall not interfere unreasonably with the audited party's business activities and shall be conducted in the audited party's facilities during normal business hours on reasonable notice. An audit may cover any period; provided that: (i) the period has not been previously audited; and (ii) the period under audit is within a three year period immediately preceding the commencement of the audit. A party shall promptly reimburse the other for the amount of any discrepancy arising out of such audit which indicates that such party is owed amounts hereunder as well as the costs of the audit, if applicable, as provided above. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 34 35 19.0 LIMITATION OF LIABILITY; EXCLUSION OF DAMAGES; DISCLAIMER OF WARRANTIES. 19.1 EXCLUSION OF DAMAGES. NEITHER PARTY HERETO SHALL, UNDER ANY CIRCUMSTANCES, BE LIABLE TO THE OTHER FOR CONSEQUENTIAL, INCIDENTAL, SPECIAL OR EXEMPLARY DAMAGES, EVEN IF APPRISED OF THE LIKELIHOOD OF SUCH DAMAGES OCCURRING. 19.2 LIMITATION OF LIABILITY. UNDER NO CIRCUMSTANCES SHALL EITHER PARTY'S TOTAL LIABILITY OF ALL KINDS ARISING OUT OF OR RELATED TO THIS AGREEMENT REGARDLESS OF THE FORUM AND REGARDLESS OF WHETHER ANY ACTION OR CLAIM IS BASED IN CONTRACT, TORT NEGLIGENCE OR OTHERWISE, EXCEED THE SUM OF (a) FIFTY MILLION DOLLARS; PLUS (b) ALL AGGREGATE AMOUNTS PAID BY SUCH PARTY TO THE OTHER FOLLOWING NOTIFICATION TO THE OTHER PARTY OF AN ALLEGED MATERIAL BREACH GIVING RISE TO AN ALLEGED RIGHT OF TERMINATION. 19.3 EXCEPTIONS. THE EXCLUSIONS OF DAMAGES AND LIMITATIONS OF LIABILITY SET FORTH IN SECTIONS 19.1 AND 19.2 SHALL NOT OPERATE TO LIMIT (a) AMOUNTS ACTUALLY DUE AND PAYABLE PURSUANT TO THE EXPRESS TERMS OF THIS AGREEMENT, OR (b) AMOUNTS OTHERWISE RECOVERABLE BY ONE PARTY FROM THE OTHER IN AN ACTION AT LAW OR IN EQUITY ARISING FROM THE OTHER PARTY'S INFRINGEMENT OR MISAPPROPRIATION OF ANY PATENTS, COPYRIGHTS, TRADE SECRETS OR OTHER PROPRIETARY RIGHTS DURING OR AFTER THE TERM OF THIS AGREEMENT, INCLUDING WITHOUT LIMITATION INFRINGEMENT OR MISAPPROPRIATION CLAIMS ARISING FROM THE OTHER PARTY'S BREACH OF THIS AGREEMENT. 19.4 DISCLAIMER OF WARRANTIES. NEITHER SUN NOR AOL MAKES ANY WARRANTIES TO THE OTHER WITH RESPECT TO THE OPERATION OR PERFORMANCE OF ANY OF THE SOFTWARE DEVELOPED OR LICENSED BY EITHER PARTY TO THE OTHER PURSUANT TO THIS AGREEMENT, AND SUN AND AOL EACH HEREBY DISCLAIMS ALL SUCH WARRANTIES, EXPRESS OR IMPLIED, INCLUDING WITHOUT LIMITATION THE IMPLIED WARRANTIES OF MERCHANTABILITY AND FITNESS FOR A PARTICULAR PURPOSE. 20.0 MISCELLANEOUS PROVISIONS 20.1 NOTICES. Any notice, consent, approval, request, authorization, direction or other communication under this Agreement ("Notice") that is required to be given in writing will be deemed to have been delivered and given for all purposes (i) on the delivery date if delivered by confirmed facsimile; (ii) on the delivery date if delivered personally to the AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 35 36 party to whom the same is directed; (iii) one business day after deposit with a commercial overnight carrier, with written verification of receipt; or (iv) five business days after the mailing date, whether or not actually received, if sent by U.S. mail, return receipt requested, postage and charges prepaid, or any other means of rapid mail delivery for which a receipt is available. In the case of AOL, such notice will also be deemed to have been delivered and given for all purposes on the delivery date if delivered by electronic mail from an AOL.com email address via the U.S. America Online brand service to screenname "AOLNotice@AOL.com." Notices shall be addressed as follows: To Sun: In the case of Sun, such notice will be provided to both: Chief Strategy Officer Sun Microsystems, Inc. 901 San Antonio Road MS CUP-01 Palo Alto, California 94033 Fax no. And Vice President and General Counsel Sun Software and Technology 901 San Antonio Road MS CUP-01 Palo Alto, California 94033 Fax No. (408) 517-1757 To AOL: In the case of AOL, such notice will be provided to both: Senior Vice President for Business Affairs America Online, Inc. 22000 AOL Way Dulles, Virginia 20166 Fax no. 703-265-1206 AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 36 37 And Deputy General Counsel American Online, Inc. 22000 AOL Way Dulles, Virginia 20166 Fax no. 703-265-1105 20.2 SECTION 365(n) OF BANKRUPTCY CODE. All rights and licenses granted under or pursuant to this Agreement by Sun to AOL or by AOL to Sun are, and shall otherwise be deemed to be, for purposes of Section 365(n) of the United States Bankruptcy Code, 11 U.S.C. Section 101, et seq. (the "Bankruptcy Code"), licenses of rights to "intellectual property" as defined under Section 101(56) of the Bankruptcy Code. The parties agree that AOL and Sun, as licensees of such rights and licenses, shall retain and may fully exercise all of their respective rights and elections under the Bankruptcy Code; provided such licensee party abides by the terms of this Agreement. 20.3 DUE DILIGENCE. In connection with the intended merger of AOL and Netscape, AOL and Sun has each conducted certain due diligence with respect to Netscape and its products, services, business and technology. At Sun's request, AOL has made available to Sun certain information and analysis learned or developed by AOL in the course of its due diligence. Neither Sun nor AOL makes any representations or warranties to the other regarding Netscape or any aspect of its business, products, services or technology, and Sun and AOL each understands, acknowledges and agrees that it is responsible for conducting whatever due diligence it may desire to conduct. Neither AOL nor Sun makes any representations or warranties to the other regarding the accuracy of any materials provided to either party by Netscape or the accuracy of any analysis or conclusions which either party may have made based on any such information provided by Netscape or the accuracy of any such information, materials, analysis or conclusions which AOL and Sun may have provided to the other party. 20.4 EMPLOYEES. Each party shall be responsible for paying all salaries, wages, employee benefits and associated expenses for which its own employees are eligible under such party's employment policies, any legally required benefits or insurance, any taxes or governmental charges payable or subject to withholding in connection with the employment of such party, and any expenses associated with such employees activities under this Agreement. Each party shall have exclusive supervision and control with respect to its own respective employees and shall have no right to supervise, control, discipline, terminate or reassign any employees of the other party. In the event that either party makes a reasonable and good faith determination that an employee of the other party working on Collaborative Development Activities or Collaborative Marketing and Sales Activities lacks requisite skills or experience, does not work well with other project team members, or is otherwise unsatisfactory, the parties will consult with one another in AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 37 38 good faith regarding whether such employee should be replaced, provided that the final determination as to whether to retain, reassign or terminate any employee shall be made solely by the party employing such individual. 20.5 NON-EXCLUSIVITY. Sun and AOL agree except for any express obligations of AOL and Sun as set forth in this Agreement, nothing in this Agreement is intended or shall be construed to prohibit or restrict either AOL or Sun from developing or acquiring products or services similar to or competitive with products or services of the other party. 20.6 WAIVER. The waiver by either party of a breach of or a default under any provision of this Agreement, shall not be construed as a waiver of any subsequent breach of the same or any other provision of the Agreement, nor shall any delay or omission on the part of either party to exercise or avail itself of any right or remedy that it has or may have hereunder operate as a waiver of any right or remedy. Except as expressly provided herein to the contrary, no amendment or modification of any provision of this Agreement shall be effective unless in writing and signed by a duly authorized signatory of Sun and AOL. 20.7 COSTS AND EXPENSES. Except as expressly provided herein to the contrary, each party shall be responsible for its costs and expenses incurred in connection with the negotiation and execution of this Agreement and its performance hereunder. 20.8 NO PARTNERSHIP. No agency, partnership, joint venture, or employment is created as a result of this Agreement and neither AOL nor AOL's agents shall have any authority of any kind to bind Sun in any respect whatsoever, nor shall Sun or Sun's agents have any authority of any kind to bind AOL. 20.9 HEADINGS. The captions and section and paragraph headings used in this Agreement are inserted for convenience only and shall not affect the meaning or interpretation of this Agreement. 20.10 ATTORNEYS' FEES. If any party to this Agreement brings an action against the other party to enforce its rights under this Agreement, the prevailing party shall be entitled to recover its costs and expenses, including without limitation, attorneys' fees and costs incurred in connection with such action, including any appeal of such action. 20.11 SEVERABILITY. If the application of any provision or provisions of this Agreement to any particular facts of circumstances shall be held to be invalid or unenforceable by any court of competent jurisdiction, then: (i) the validity and enforceability of such provision or provisions as applied to any other particular facts or circumstances and the validity of other provisions of this Agreement shall not in any way be affected or impaired thereby, and (ii) such provision or provisions shall be reformed without further AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 38 39 action by the parties hereto and only to the extent necessary to make such provision or provisions valid and enforceable when applied to such particular facts and circumstances. 20.12 ENTIRE AGREEMENT. This Agreement, including the attachments hereto, constitute the entire agreement between the parties concerning the subject matter hereof and supersedes all proposals or prior agreements whether oral or written, and all communications between the parties relating to the subject matter of this Agreement and all past courses of dealing or industry custom. 20.13 NO PRESUMPTIONS. No presumption shall arise in interpreting the provisions of this Agreement by virtue of the role a party or its counsel played in drafting this Agreement or any provision hereof. 20.14 ASSIGNMENT AND SUBLICENSES. This Agreement may not be assigned by either party without the prior written consent of the other party, except that subject to the provisions of Section 14.4 of this Agreement permitting termination of this Agreement by either party in the event of an acquisition or change of control of the other party during the term of this Agreement: (a) either party shall have the right, without the other party's consent, to assign this Agreement and its rights and obligations thereunder to any successor of such party by way of merger or consolidation or the acquisition of substantially all or a material portion of the business and assets of the assigning party relating to this Agreement or the licenses granted pursuant to the definitive Agreement (a "Successor"); and (b) either party shall have the right, without the other party's consent, and without limiting any of its other rights under the licenses, to sublicense any and all licenses granted pursuant to this Agreement to any Successor. These rights shall be retained provided that such Successor or sublicensee shall expressly assume all of the obligations and liabilities of the assigning or sublicensing party to the other party relating to such definitive agreement or licenses. 20.15 APPLICABLE LAW. This Agreement shall be governed by the laws of the State of California. 21.0 DEFINITIONS. As used in this Agreement, the following terms have the indicated meanings: 21.1 AOL EC SERVICE OPPORTUNITIES are sales opportunities to sell to a specific business opportunity within a commercial customer, including both new commerce startup companies and major established companies, looking to establish EC(2) relationships with AOL, where the essence of the sale and relationship with AOL is the provision of EC2 services (including, for example, providing Netcenter services, Netcenter offerings and/or consumer traffic) and the sale of the Product Suites is secondary to the transaction. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 39 40 CONFIDENTIAL INFORMATION OMITTED AND FILED SEPARATELY WITH THE SECURITIES AND EXCHANGE COMMISSION. ASTERISKS (*) DENOTE SUCH OMISSIONS. 21.2 AOL DISTRIBUTED COMMUNICATOR CLIENT or AOL DISTRIBUTED COMMUNICATOR CLIENT shall have the meaning specified in Section 2.1. 21.3 AOL SERVICE COMPONENTS are software, services or linkages to AOL Service Offerings, such as, without limitation,***, built-in software links to AOL default home page, etc. 21.4 AOL SERVICE OFFERINGS means AOL service offerings providing customers with content, electronic commerce, communication and other services, such as, without limitation, service portions of AOL services such***, default home page,***, remote dial-up access, AOL calendar, etc. 21.5 ASSOCIATED SERVICES means with respect to any software or hardware, any support, maintenance, training, installation, and other professional services associated with the applicable software or hardware and any development and customization services associated with the applicable software. 21.6 CLIENT SOFTWARE means the New Browser, the OEM Communicator Client, the Third Party Communicator Client and the AOL Distributed Communicator Client. 21.7 CLOSING DATE means the date on which the intended merger of AOL and Odyssey closes in accordance with the Agreement and Plan of Merger between AOL and Odyssey. 21.8 COLLABORATIVE DEVELOPMENT ACTIVITY means all activities contemplated under this Agreement to be conducted under Collaborative Development Work Plans relating to the development of certain software packages comprising those components of the Product Suites that are to be developed collaboratively by the parties. 21.9 COLLABORATIVE DEVELOPMENT WORK PLANS shall have the meaning specified in Section 5.3.5. 21.10 COLLABORATIVE MARKETING AND SALES ACTIVITY means all activities contemplated under this Agreement related to collaborative marketing and sales of the Product Suites, including all activities under the Marketing and Sales Plans 21.11 COLLABORATIVE SOFTWARE means all software developed through Collaborative Development Activity, including without limitation the OEM Communicator Client, the Third Party Communicator Client, the New Browser and the Network Application and Server Software. Collaborative Software does not include the Netcenter, the AOL AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 40 41 Distributed Communicator Client, the AOL Service Components, the AOL Service Offerings, or the Sun Systems Platform. Collaborative Software does not include the Existing Netscape Software except to the extent that such Existing Netscape Software is modified or enhanced through Collaborative Development Activity to create a derivative work based on such Existing Netscape Software. 21.12 DESIGNATED COLLABORATIVE SOFTWARE means the Collaborative Software other than the Third Party Communicator Client. 21.13 DESIGNATED PRODUCTS shall have the meaning specified in Section 14.7.1. 21.14 DEPUTY LEAD EXECUTIVES for collaborative development activity shall have the meaning specified in Section 5.3. 21.15 DEPUTY LEAD EXECUTIVE for collaborative marketing and sales activity shall have the meaning specified in Section 5.4. 21.16 EC(2) shall have the meaning specified in Section 1.0. 21.17 EXECUTIVE REPRESENTATIVE shall have the meaning specified in Section 5.1. 21.18 EXISTING NETSCAPE SOFTWARE means all Netscape client and server software (including without limitation development tools, tests and other development components) in existence as of the Closing Date, and any maintenance upgrades and new releases of such software, if any, which were already in progress at Netscape, provided such upgrades or releases are completed and either scheduled to be commercially released by AOL or actually released by AOL within a period of three (3) months following the Closing Date. Existing Netscape Software does not include any software developed pursuant to Collaborative Development Activity contemplated under this Agreement and does not include the Third Party Communicator Client or AOL Distributed Communicator Client. 21.19 EXISTING NETSCAPE SOFTWARE UPGRADES means all updates, modifications, enhancements and new releases of the Existing Netscape Software, if any, which AOL elects to develop based on the Existing Netscape Software, which AOL develops outside of Collaborative Development Activities and that therefore do not constitute Collaborative Software pursuant to this Agreement. 21.20 GROSS MARGIN means gross revenues booked by a party in connection with the sale and or licensing of software and/or Associated Services less (a) such party's Cost of Goods associated with such software and/or Associated Services and (b) sales commissions paid by such party in connection with the sale or licensing of such software and/or Associated Services. For purposes of this definition, "Cost of Goods" means, with AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 41 42 respect to software, costs of goods calculated in accordance with Generally Accepted Accounting Principles. For purposes of this definition, "Cost of Goods" means, with respect to Associated Services, all personnel and associated costs of providing such services, calculated in accordance with generally accepted accounting principles. 21.21 JAVA PLATFORM means the Java Virtual Machine and, with respect to any particular level or implementation of Java technology, such as, by way of example, the Java Development Kit or Personal Java, those Java classes required in the Sun specification for such level or implementation of the Java Platform technology. 21.22 JRE shall have the meaning specified in Section 3.6. 21.23 LEAD EXECUTIVES for collaborative development shall have the meaning specified in Section 5.3. 21.24 LEAD EXECUTIVE for collaborative marketing and sales shall have the meaning specified in Section 5.4. 21.25 MARKETING AND SALES PLAN shall have the meaning specified in Section 5.4.1. 21.26 MC shall have the meaning specified in Section 5.3.1. 21.27 MINIMUM COMMITMENT shall have the meaning specified in Section 4.5. 21.28 NEW BROWSER shall have the meaning specified in Section 2.4. 21.29 NETCENTER means the web site(s) operated and branded by Netscape as it may change from time to time, but which currently includes web site hosting, search engine capabilities, free email, and a variety of content channels covering sports, finance, entertainment and other topics and service offerings. 21.30 OEM COMMUNICATOR CLIENT shall have the meaning specified in Section 2.3. 21.31 PRODUCT SUITES means suites of products and services assembled and marketed pursuant to the Marketing and Sales Plan, which may include the Third Party Communicator Client, the OEM Communicator Client, the New Browser, the Network Application and Server Software, and any other software assembled and marketed pursuant to the Marketing and Sales Plan, as well as communication services, directory services, commerce servers, application servers, electronic mail, electronic collaboration software, web servers, proxy servers and other related software. 21.32 RELEASE means, with respect to any software product, the first commercially released version of such product and any subsequent commercially released versions of AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 42 43 such product incorporating modifications, updates, enhancements, corrections, patches and/or improvements. 21.33 SDK shall have the meaning specified in Section 2.4. 21.34 SE shall have the meaning specified in Section 5.4.2. 21.35 SOFTWARE LICENSE means a non-exclusive, irrevocable, perpetual, worldwide, royalty-free license, which (except as otherwise specified in this Agreement) survives termination of this Agreement, to use, modify, publish, reproduce, distribute, transmit, display and perform, through any and all methods and technologies now known or hereafter invented, in source or binary form, in whole or in part, alone or with other software or technology including the right to sublicense such rights through multiple tiers of distribution and being subject only to the provisions specifically contained in this Agreement on license fees during the term of this Agreement and permitted fields of use during and after the term of this Agreement, as applicable. 21.36 SYSTEMS PLATFORM means those platforms comprising software and hardware on which the Product Suites operate, whether Sun's or a third party's and shall include, as applicable, Microsoft Windows NT, HP-UX, IBM AIX and Linux in addition to Sun's software and hardware. 21.37 THIRD PARTY COMMUNICATOR CLIENT shall have the meaning specified in Section 2.2. 21.38 TLDA means the Technology License and Distribution Agreement entered into between Sun and AOL concurrently herewith. 21.39 SUN SYSTEMS PLATFORM means the Sun software and Sun hardware on which the Product Suites operate. AOL CONFIDENTIAL AND PROPRIETARY Final SUN CONFIDENTIAL AND PROPRIETARY 43 44 IN WITNESS WHEREOF, the parties have executed this Strategic Development and Marketing Agreement this 23rd day of November, 1998. AMERICA ONLINE, INC. SUN MICROSYSTEMS, INC. By: /s/ DAVID M. COLBURN By: /s/ WILLIAM J. RADUCHEL -------------------------------- -------------------------------------- David M. Colburn William J. Raduchel Senior Vice President, Chief Strategy Officer Business Affairs 44 EX-27.0 4 FINANCIAL DATA SCHEDULE
5 1,000 6-MOS JUN-30-1999 JUL-01-1998 DEC-27-1998 669,862 902,929 2,108,237 0 363,664 4,745,694 2,593,985 1,141,377 6,561,520 2,347,990 0 0 0 0 4,101,003 6,561,520 4,540,858 5,275,624 2,109,737 2,563,547 2,137,953 0 0 609,785 234,824 374,961 0 0 0 374,961 0.99 0.93
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