-----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, DqabHBCcl6KJU5KxchLgeoBarY7KyxemhOThVQVlRAidvJzbF/rCNWwibNotqmxx 67vfxObIO1YraMhDzs9nOQ== 0001047469-99-015909.txt : 19990426 0001047469-99-015909.hdr.sgml : 19990426 ACCESSION NUMBER: 0001047469-99-015909 CONFORMED SUBMISSION TYPE: S-3 PUBLIC DOCUMENT COUNT: 7 FILED AS OF DATE: 19990422 FILER: COMPANY DATA: COMPANY CONFORMED NAME: OPTICAL COATING LABORATORY INC CENTRAL INDEX KEY: 0000074697 STANDARD INDUSTRIAL CLASSIFICATION: OPTICAL INSTRUMENTS & LENSES [3827] IRS NUMBER: 680164244 STATE OF INCORPORATION: DE FISCAL YEAR END: 1031 FILING VALUES: FORM TYPE: S-3 SEC ACT: SEC FILE NUMBER: 333-76853 FILM NUMBER: 99599288 BUSINESS ADDRESS: STREET 1: 2789 NORTHPOINT PKWY CITY: SANTA ROSA STATE: CA ZIP: 95407 BUSINESS PHONE: 7075456440 MAIL ADDRESS: STREET 1: 2789 NORTHPOINT PARKWAY CITY: SANTA ROSA STATE: CA ZIP: 95407-7397 S-3 1 S-3 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON APRIL 22, 1999 REGISTRATION NO. 333- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 -------------------------- FORM S-3 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 -------------------------- OPTICAL COATING LABORATORY, INC. (Exact name of registrant as specified in its charter) DELAWARE 68-0164244 (State or Other Jurisdiction of Incorporation or (I.R.S. Employer Identification Organization) No.)
2789 NORTHPOINT PARKWAY, SANTA ROSA, CALIFORNIA 95407 (707) 545-6440 (Address, Including Zip Code, and Telephone Number, Including Area Code, of Registrant's Principal Executive Offices) CHARLES J. ABBE PRESIDENT AND CHIEF EXECUTIVE OFFICER OPTICAL COATING LABORATORY, INC. 2789 NORTHPOINT PARKWAY SANTA ROSA, CALIFORNIA 95407 (707) 545-6440 (Name, Address, Including Zip Code, and Telephone Number, Including Area Code, of Agent For Service) -------------------------- COPIES TO: JOHN V. ERICKSON, Esq. JAMIE E. CHUNG, Esq. JOHN J. O'NEILL, Esq. PETER M. O. WONG, Esq. ANDREW H. PONTIOUS, Esq. HEATHER L. McCORMICK, Esq. Collette & Erickson LLP Cooley Godward LLP 555 California Street, Suite 4350 One Maritime Plaza, 20th Floor San Francisco, California 94104 San Francisco, California 94111 (415) 788-4646 (415) 693-2000 -------------------------- APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: AS SOON AS PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE. -------------------------- If the only securities being registered on this form are being offered pursuant to dividend or interest reinvestment plans, please check the following box. / / If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, other than securities offered only in connection with dividend or interest reinvestment plans, check the following box. / / If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. / / If this form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. / / If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. / / -------------------------- CALCULATION OF REGISTRATION FEE
PROPOSED AMOUNT MAXIMUM OFFERING PROPOSED MAXIMUM TITLE OF SHARES TO BE PRICE AGGREGATE OFFERING AMOUNT OF TO BE REGISTERED REGISTERED(1) PER SHARE(2) PRICE REGISTRATION FEE Common Stock, $.01 par value per share............................... 1,782,500 $48.375 $86,228,437.50 $23,972
(1) Includes 232,500 shares of Common Stock which may be purchased by the Underwriters to cover over-allotments, if any. (2) Estimated pursuant to Rule 457(c) solely for the purpose of calculating the registration fee based upon the average of the high and low prices of the Registrant's Common Stock on the Nasdaq National Market on April 19, 1999. -------------------------- THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SUBJECT TO COMPLETION, DATED APRIL 22, 1999 THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. UNDERWRITERS MAY NOT CONFIRM SALES OF THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION BECOMES EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS NOT SOLICITING OFFERS TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. PROSPECTUS 1,550,000 SHARES [LOGO] OPTICAL COATING LABORATORY, INC. COMMON STOCK OCLI is selling 1,300,000 shares in this offering and the selling stockholders identified in this prospectus are selling 250,000 shares. OCLI will not receive any of the proceeds from the sale of shares by the selling stockholders. OCLI's common stock is traded on the Nasdaq National Market under the symbol "OCLI." On April 21, 1999, the last reported sale price for the common stock on the Nasdaq National Market was $49.25 per share. See "Price Range of Common Stock." --------------
PER SHARE TOTAL ----------------- ---------- Public offering price....................................... $ $ Underwriting discount and commissions....................... $ $ Proceeds to OCLI before expenses............................ $ $ Proceeds to selling stockholders............................ $ $
OCLI has granted the underwriters an option for a period of 30 days to purchase up to 232,500 additional shares of common stock. The underwriters are severally underwriting the shares being offered. The underwriters expect to deliver the shares against payment on , 1999. -------------- INVESTING IN THE COMMON STOCK INVOLVES A HIGH DEGREE OF RISK. SEE "RISK FACTORS" BEGINNING ON PAGE 7. ------------- THE SECURITIES AND EXCHANGE COMMISSION AND STATE SECURITIES REGULATORS HAVE NOT APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. HAMBRECHT & QUIST NATIONSBANC MONTGOMERY SECURITIES LLC SOUNDVIEW TECHNOLOGY GROUP , 1999 [Gatefold page] [OCLI: MAKING LIGHT WORK] [A diagram depicting light separation through a prism and a diagram showing light reflection, absorption and transmission through an optically thin film coated substrate] [Inside Front Cover] [TELECOMMUNICATIONS [The graphic depicts a schematic of a wavelength division multiplexing system containing an Erbium Doped Fiber Amplifier. The components manufactured or packaged by OCLI are labeled.] pictures of: - MicroNode Wavelength Selective Switch - Wavelength Division Multiplexer - Gain Flattening Filter CONNECT LIGHT INTERFERENCE PIGMENTS pictures of: - cell phone - automobile - U.S. $100 bill SECURE] TABLE OF CONTENTS
PAGE ----- Prospectus Summary........................................... 4 Risk Factors................................................. 7 Forward-Looking Statements................................... 19 Use of Proceeds.............................................. 20 Price Range of Common Stock.................................. 20 Dividend Policy.............................................. 21 Corporate Information........................................ 21 Capitalization............................................... 22 Selected Consolidated Financial Information.................. 23 Management's Discussion and Analysis of Financial Condition and Results of Operations.................................. 25 Business..................................................... 38 Management................................................... 51 Certain Transactions......................................... 53 Principal and Selling Stockholders........................... 54 Description of Capital Stock................................. 55 Underwriting................................................. 57 Legal Matters................................................ 58 Experts...................................................... 59 How to Get Information about OCLI............................ 59 Information Incorporated by Reference........................ 60 Index to Consolidated Financial Statements................... F-1
-------------- OCLI-Registered Trademark-, Glare/Guard-Registered Trademark-, MicroNode-TM-, OVP-TM-, ChromaFlair-Registered Trademark-, Color-By-Physics-TM-, MetaMode-Registered Trademark- and the OCLI logo are our trademarks and service marks. This prospectus also contains trademarks and service marks of other companies. 3 PROSPECTUS SUMMARY THIS SUMMARY HIGHLIGHTS SELECTED INFORMATION CONTAINED ELSEWHERE IN THIS PROSPECTUS. THIS SUMMARY MAY NOT CONTAIN ALL OF THE INFORMATION THAT YOU SHOULD CONSIDER BEFORE INVESTING IN OUR COMMON STOCK. YOU SHOULD READ THE ENTIRE PROSPECTUS CAREFULLY, INCLUDING "RISK FACTORS," AND THE FINANCIAL STATEMENTS APPEARING ELSEWHERE IN THIS PROSPECTUS, BEFORE MAKING AN INVESTMENT DECISION. OPTICAL COATING LABORATORY, INC. Optical Coating Laboratory, Inc. (OCLI) is a worldwide leader in optical thin film coating technologies. We have leveraged our technical and manufacturing expertise, gained from over 50 years of experience developing thin film coating processes for government and industry, to build a portfolio of products that incorporate high performance optical thin films used to manage light. Our products control, enhance and modify the behavior of light by utilizing its reflection, absorption and transmission properties to achieve commercially important effects such as high reflectivity, anti-glare and spectral filtering. By integrating superior process capabilities with advanced product design, we provide complete optical solutions that address a range of end-market applications in growing markets. The ability to control the behavior of light using thin film technology plays a critical role in many industries and products. We currently apply our expertise to the following markets and products: TELECOMMUNICATIONS. We manufacture and sell optical components for fiber optic communications systems including wavelength division multiplexing (WDM) products. We also sell optical components used on satellites for solar power generation, thermal control and other functions. LIGHT INTERFERENCE PIGMENTS. Through our Flex subsidiary, we manufacture and sell optically variable pigments used to prevent counterfeiting of the world's currencies and other value documents and for use in paints for automobiles and other consumer products. DISPLAY. We manufacture and sell optical components used in cathode ray tube (CRT) displays, flat panel displays, large-screen projection televisions and projection systems for business applications. We are also developing optical components for next generation computer monitors. AEROSPACE AND INSTRUMENTATION. We manufacture and sell optical components, including precision polymer optics, used in defense and aerospace products, automated data collection products and medical, scientific and analytical instruments. OFFICE AUTOMATION. We manufacture and sell optical components, including precision polymer optics, for copiers, scanners, printers and other office products. In the telecommunications market, we have a strategic alliance with JDS FITEL Inc., a leading fiber optic component company, involving supply and distribution contracts under which we contribute our expertise to provide optical filters for specified WDM products and JDS contributes its expertise in the design, manufacture and marketing of those WDM products. We also have a strategic alliance with SICPA Holding S.A., a leading supplier of inks used in the printing of high security documents, most notably currency, that allows us to maintain a leading position in the security pigment market. SICPA uses our pigments to make optically variable ink, which is used on the currencies of over 50 countries around the world. Through SICPA's relationships with government currency printing agencies and national central banks, our proprietary light interference pigments have been introduced as one of the most effective means of preventing counterfeiting. Our target markets present significant growth opportunities, particularly in telecommunications, light interference pigments and projection display. Growth in the telecommunications market is being driven by increasing amounts of data, voice and video traffic, creating capacity constraints which require solutions that offer increased bandwidth. Increased demand for light interference pigments is being driven 4 by the heightened need to protect currency and value documents from counterfeiting. Additionally, the demand for large screen displays has fueled the development of new products and technologies for the projection display market. As a pioneer in light management, we are well positioned to take advantage of the increasing need for optical products and solutions in growth markets. The key to our success is superior thin film deposition and product design technologies and the ability to apply these technologies to our customers' needs. We focus on high-performance processes that rely on internally designed machinery and process monitoring equipment. We devote significant resources to research and development of new processes and new products that incorporate our optical thin film capabilities. Our reputation and commitment to superior optical technology allows us to attract and retain both a strong customer base, and the most qualified personnel in the industry. Our goal is to be the leading supplier of high performance optical products. Key elements of our strategy include: - capitalizing on our optical expertise to design and develop products; - focusing on selected large and growing commercial markets; - leveraging strategic alliances; - enhancing manufacturing efficiency; - expanding international presence; and - selectively pursuing strategic acquisitions. Our corporate headquarters and principal manufacturing and research facilities are located in Santa Rosa, California. We maintain additional operations in Hillend, Scotland as well as sales and administrative offices in Europe and Japan. As of January 31, 1999, we had 1,411 employees, including 122 in research and development, 1,098 in manufacturing, 65 in sales and marketing and 126 in finance and administration. THE OFFERING The following information assumes that the underwriters do not exercise the option granted to them by OCLI to purchase additional shares in the offering. See "Underwriting." Common stock offered by OCLI....................... 1,300,000 shares Common stock offered by the selling stockholders... 250,000 shares Common stock to be outstanding after the offering........................................... 13,904,346 shares(1) Use of proceeds.................................... For working capital and other general corporate purposes. Nasdaq National Market symbol...................... OCLI
- ------------------------ (1) This information is based on the number of shares outstanding at March 31, 1999. It includes the shares being offered by certain of the selling stockholders pursuant to the exercise of fully vested stock options. The information excludes the remaining 3,044,723 shares of common stock reserved for issuance under our stock option and stock purchase plans, of which 2,211,805 shares were subject to outstanding options as of March 31, 1999 at a weighted average exercise price of $14.78 per share, and excludes 400,000 shares reserved under our stock purchase plan, which was approved on April 1, 1999. See "Capitalization" and Note 9 of Notes to Consolidated Financial Statements. 5 SUMMARY CONSOLIDATED FINANCIAL INFORMATION (IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED FISCAL YEAR ENDED OCTOBER 31, JANUARY 31, ---------------------------------------------------------- ------------------------ 1994 1995 1996 1997 1998 1998 1999 ---------- ---------- ---------- ---------- ---------- ----------- ----------- (UNAUDITED) CONSOLIDATED STATEMENTS OF INCOME DATA: Revenues.................................... $ 131,780 $ 169,417 $ 189,195 $ 217,829 $ 255,624 $ 53,373 $ 69,851 Gross profit................................ 47,779 63,408 62,426 74,622 85,954 17,138 21,219 Income from operations...................... 10,561 16,570 12,402 15,947 14,872 3,629 6,219 Net income.................................. $ 4,604 $ 7,391 $ 5,196 $ 7,125 $ 7,339 $ 1,596 $ 2,033 Net income per common share, diluted........ $ 0.51 $ 0.73 $ 0.41 $ 0.60 $ 0.59 $ 0.13 $ 0.16 Weighted average common shares, diluted..... 9,023 9,510 10,301 10,673 11,999 11,396 12,868
JANUARY 31, 1999 ------------------------- AS ACTUAL ADJUSTED(1) ---------- ------------- (UNAUDITED) CONSOLIDATED BALANCE SHEET DATA: Cash and cash equivalents............................................................... $ 14,324 $ Working capital......................................................................... 53,009 Total assets............................................................................ 204,806 Long term debt.......................................................................... 51,870 Total stockholders' equity.............................................................. 105,531
- ------------------------ (1) The pro forma "as adjusted" column reflects the application of the proceeds from the sale of 1,300,000 shares of common stock offered by OCLI in this prospectus at an assumed public offering price of $49.25 per share after deducting estimated underwriting discounts and commissions and estimated offering expenses. EXCEPT AS OTHERWISE NOTED, ALL INFORMATION CONTAINED IN THIS PROSPECTUS ASSUMES NO EXERCISE OF THE UNDERWRITERS' OVER-ALLOTMENT OPTION. SEE "UNDERWRITING." WE PREPARE OUR FINANCIAL STATEMENTS ON THE BASIS OF A 52/53-WEEK FISCAL YEAR ENDING ON THE SUNDAY NEAREST OCTOBER 31. HOWEVER, FOR PURPOSES OF PRESENTATION, FISCAL PERIODS ARE INDICATED AS ENDING AT CALENDAR MONTH-ENDS. FISCAL 1996 WAS A 53-WEEK YEAR AND FISCAL 1994, 1995, 1997 AND 1998 WERE 52-WEEK YEARS. 6 RISK FACTORS YOU SHOULD CAREFULLY CONSIDER THE RISKS AND UNCERTAINTIES DESCRIBED BELOW BEFORE MAKING AN INVESTMENT DECISION. IF ANY OF THE FOLLOWING RISKS ACTUALLY OCCUR, OUR BUSINESS, FINANCIAL CONDITION OR OPERATING RESULTS COULD BE MATERIALLY HARMED. THIS COULD CAUSE THE TRADING PRICE OF OUR COMMON STOCK TO DECLINE, AND YOU MAY LOSE ALL OR PART OF YOUR INVESTMENT. THIS PROSPECTUS CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE KNOWN AND UNKNOWN RISKS AND UNCERTAINTIES. THESE STATEMENTS RELATE TO OUR PLANS, OBJECTIVES, EXPECTATIONS AND INTENTIONS. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE DISCUSSED IN THESE STATEMENTS. FACTORS THAT COULD CONTRIBUTE TO THESE DIFFERENCES INCLUDE THOSE DISCUSSED BELOW AND ELSEWHERE IN THIS PROSPECTUS. WE RELY HEAVILY ON JDS FOR THE DESIGN, PACKAGING, ASSEMBLY, TESTING, DISTRIBUTION, SALES AND MARKETING OF CERTAIN OF OUR TELECOMMUNICATIONS PRODUCTS. - WE RELY ON JDS TO DESIGN, PACKAGE, ASSEMBLE, DISTRIBUTE, SELL AND MARKET OUR PRODUCTS. Under the terms of our agreements, JDS has primary responsibility for the design, packaging and assembly of WDM products covered by these agreements. JDS also has exclusive sales, marketing and distribution responsibilities for such products. If JDS is unable to successfully distribute, market and sell our products, we may be unable to find a substitute distribution, marketing or sales partner or develop these capabilities ourselves. We also rely on JDS for significant financial and technical contributions to these programs. - WE LACK CONTROL OVER MANAGEMENT DECISIONS. We share with JDS the responsibility for making certain management decisions as they relate to the WDM products covered by the agreements. Certain decisions are made by a management committee that has equal representation from JDS and ourselves. Our interests may not always be aligned. If we disagree with JDS on specific matters or general program direction, a neutral party will make the decision. Such a decision may not be in our best interests. - OUR SHARE OF PROFITS COULD BE REDUCED. Under our agreements with JDS, if the majority of the WDM products covered by the agreements incorporate wavelength discrimination components not originating from us, our share of the profits under the agreements will be significantly reduced. In addition, we share any losses incurred under the agreements. - JDS CAN TERMINATE OUR AGREEMENTS OR FAIL TO PERFORM. JDS can terminate the agreements without cause beginning in 2015. If JDS terminates the agreements or fails to provide adequate resources to the program, we cannot be certain that we could obtain substitute resources or a substitute partner to commercialize our products. - JDS INTENDS TO MERGE WITH UNIPHASE. JDS recently announced an intended merger with Uniphase Corporation. We cannot be certain what effect, if any, this merger will have on us. WE RELY HEAVILY ON SICPA TO MARKET AND SELL OUR LIGHT INTERFERENCE PIGMENTS IN THE SECURITY MARKET. We have a strategic alliance with SICPA for the marketing and sale of our light interference pigments used in connection with currency, stamps, credit cards, passports and other specified value documents. Under a license and supply agreement, we rely exclusively on SICPA to market and sell these products worldwide. We currently do not plan to develop our own marketing and sales organization for our light interference pigments for use in connection with such value documents. SICPA has the right to terminate the agreement if we breach it. If SICPA terminates our agreement or if it is unable to successfully market and sell our light interference pigments for the applications covered by the agreement, our business may be harmed and we may be unable to find a substitute marketing and sales partner or 7 develop these capabilities ourselves. Also, if SICPA fails to meet its minimum purchase requirements under the agreement for any reason, our operating results would be adversely affected. SICPA was the previous owner of a 40.0% interest in Flex. In July 1996, SICPA filed a lawsuit naming us as a defendant in order to prevent a proposed financing of Flex. This litigation was settled in November 1998 and we subsequently purchased SICPA's 40.0% interest in Flex. See "Business--Legal Proceedings." WE MUST KEEP PACE WITH CHANGING TECHNOLOGICAL AND CUSTOMER REQUIREMENTS TO REMAIN COMPETITIVE. The market for our products, particularly in the telecommunications and display markets, is characterized by the existence of many competing technologies, rapid technological change, frequent new product introductions and enhancements, changes in customer demands and evolving industry standards. Our existing products could be rendered obsolete if we fail to remain competitive in any of these ways. We have also found that the life cycles of our products are difficult to estimate, primarily because they may vary according to the particular application or vertical market segment. We believe that our future success will depend upon our ability to continue to enhance our current product line while we develop and introduce new products that keep pace with competitive and technological developments. We also must introduce these products in a timely manner to meet our customers' changing needs. These developments require us to continue to make substantial product development investments. Because of these and other market conditions, we can not be certain that we will be able to make the technological improvements or the research investments necessary to offer our products in a timely or effective manner. We expect that new technologies will emerge as competition in the telecommunications equipment industry increases and the need for higher and more cost-effective bandwidth transmission expands. If alternatives to our thin film filter-based products, such as products based on planar waveguide, fiber grating or other technologies, are adopted by our customers, our telecommunications business would suffer. The light interference pigments market is also susceptible to changing technology and customer requirements. Growth in the demand for our ChromaFlair-Registered Trademark- product within the consumer markets will depend upon our ability to develop a more cost-effective process to manufacture our light interference pigment products. Also, the trend toward electronic currency, such as pre-paid or "smart cards," may decrease the market for our light interference pigments used on paper currency. WE DEPEND ON THE TELECOMMUNICATIONS INDUSTRY FOR GROWTH IN THE SALES OF OUR WDM AND SATELLITE PRODUCTS. Our ability to grow our WDM and satellite products businesses depends in part on the continued growth and success of the telecommunications industry. Recently, telecommunications markets around the world have been deregulating and opening to global competition. This deregulation generally has resulted in increased competition and demand for telecommunications products and services. Additionally, the growing volume of data, voice and video traffic has increased bandwidth demand. These trends have driven increased demand for our WDM and satellite products. However, such trends may not continue in a manner that is favorable to us. The rate at which long distance carriers and other fiber optic network operators have built new fiber optic networks or installed new systems in their existing fiber optic networks has fluctuated in the past and may continue to fluctuate in the future. These fluctuations may result in reduced demand for new or upgraded fiber optic systems that utilize our products. We can not be certain that technological or other developments in the telecommunications industry will favor growth in the markets served by our products. Moreover, as the telecommunications industry consolidates and realigns to accommodate technological and other developments, there is a risk that certain of our customers and telecommunication service providers may consolidate or align themselves together in a manner adverse to our business interests. 8 Growth of our satellite component business depends on growth in the number of satellite launches. In 1999, 2000, 2003 and 2004, the number of launches per year are expected to decrease. Continuation of this trend would have an adverse effect on our satellite business. WE DEPEND ON THE PROJECTION DISPLAY AND FLAT PANEL DISPLAY MARKETS FOR GROWTH IN THE SALES OF OUR DISPLAY PRODUCTS. Our ability to grow our display products business depends significantly on the continued growth and success of the projection and flat panel display markets. Advances in the technology used in computer monitors, televisions, conference room projectors and other display devices have led to increased demand for flat panel displays and projection displays. We cannot be certain that growth in these markets will continue or that technological or other changes in this industry will result in continued growth. In addition, the display market is subject to pricing pressure, consolidation and realignment as industry participants try to position themselves to take advantage of the changing competitive landscape. There is a risk that any consolidations and realignments may adversely affect our business, and pricing pressure will adversely affect our operating results. WE DEPEND ON OUR OEM CUSTOMERS FOR THE SALE OF OUR PRODUCTS AND FOR INFORMATION RELATING TO THE DEVELOPMENT OF NEW PRODUCTS. We sell a substantial portion of our products to a relatively small number of original equipment manufacturers (OEMs). The timing and amount of sales to these customers ultimately depend on sales levels and shipping schedules for the OEM products into which our products are incorporated. We have no control over the shipping dates or volume of products shipped by our OEM customers, and we cannot be certain that our OEM customers will continue to ship products that incorporate our products at current levels or at all. Failure of these OEMs to achieve significant sales of products incorporating our products and fluctuations in the timing and volume of such sales could be harmful to our business. In addition, failure of our OEM customers to inform us of changes in their production needs in a timely manner can hinder our ability to effectively manage our business. In addition, we rely on our OEM customers to inform us of opportunities to develop new products that serve end user demands. If our OEM customers do not present us with market opportunities early enough for us to develop products to meet end user needs in a timely fashion or if the OEMs fail to anticipate end user needs at all, we may fail to develop new products or modify our existing products for our end user markets. In addition, if our OEM customers fail to accurately anticipate end user demands, we may spend resources on products that are not commercially successful. ACQUIRING COMPLEMENTARY COMPANIES WILL EXPOSE US TO ADDITIONAL RISKS. From time to time, we intend to acquire companies with products and services complementary to our own that we believe can help us commercialize our products quickly and efficiently. We increased our 60.0% ownership of Flex to 100% in December 1998 and we acquired OPKOR Inc. in February 1999. These acquisitions and any future acquisitions will expose us to increased risks and costs, including the following: - failure to retain customers; - integrating new operations and technologies; - assimilating and retaining new personnel; and - diverting financial and management resources from existing operations. We may not be able to generate sufficient profits from any of these acquisitions to offset the associated acquisition costs. We will also be required to maintain uniform standards of quality and service, 9 controls, procedures and policies. We may have difficulty assimilating and maintaining uniformity over OPKOR's operations because it is located in Rochester, New York, which is far from our California headquarters. Our failure to maintain any of these standards may hurt relationships with customers, employees, and new management personnel. In addition, our future acquisitions may result in additional stock issuances that could be dilutive to our stockholders. WE MAY NOT BE ABLE TO ENTER INTO STRATEGIC ALLIANCES TO EFFECTIVELY COMMERCIALIZE OUR PRODUCTS. As we develop optical products, we often rely on strategic alliances with other companies in a particular market to commercialize our products in a timely or effective manner. Our current strategic alliance partners provide us with assistance in the marketing, sales and distribution of our diverse line of products. We may be unable to find appropriate strategic alliances in markets in which we have little experience, which could prevent us from bringing our products to market in a timely manner, or at all. In our decorative pigments business, we may form alliances that would help us penetrate the automotive and other industries. If we do not enter into effective alliances, our ChromaFlair-Registered Trademark- products may not achieve satisfactory market penetration. OUR FAILURE TO MANAGE GROWTH COULD ADVERSELY AFFECT US. The recent accelerated growth of our business has placed, and is expected to continue to place, a strain on our limited personnel, management and other resources. In particular, the growth of our telecommunications business related to fiber optic networks and our light interference pigments business related to security and value documents has required us to allocate significantly increased amounts of manufacturing capabilities, personnel and other resources to those markets. In addition, our ability to manage and allocate resources is complicated by the number, diversity and complexity of our product lines. Our management, personnel, systems, procedures and controls may be inadequate to support our existing and future operations. If required to manage future growth, the implementation of management systems can be time consuming and costly. In order to manage future growth effectively, we will need to attract, train, integrate, motivate, manage and retain employees successfully to continue to improve our operational, financial and management systems. WE MUST MANAGE OUR MANUFACTURING OPERATIONS AND FACILITIES EFFECTIVELY TO MEET CHANGING CAPACITY REQUIREMENTS. We currently manufacture all of our products at our facilities in Santa Rosa, California, Hillend, Scotland and Atsugi, Japan. We are currently experiencing manufacturing capacity constraints and we are in the process of expanding our manufacturing capacity at these facilities. In addition, many of our customers have requested that we build manufacturing capabilities that are near or on their facilities to provide just-in-time production capabilities. If our plans to expand our manufacturing capacity are not implemented on a timely basis, we could face production shortfalls. In addition, we may be required to make additional capital investments in new or existing manufacturing facilities. Rapid increases in production levels to meet unanticipated demand could result in higher costs for components and subassemblies and higher overtime costs and other expenses. These higher expenditures could lower our profit margins. Further, if production is increased rapidly, there may be decreased manufacturing yields, which may also lower our margins. In order to meet forecasted demand, we will need to increase our manufacturing capability for light interference pigments. We currently intend to begin operating our third light interference pigment production machine in the middle of 2000. In the past, we have experienced significant problems during the initial phases of operating a new machine, which required us to take substantial write-offs of inventory and incur substantial expenses to solve these problems. If we encounter similar problems with this new machine, our production capability and our operating results will suffer. 10 Many of our machines are the only manufacturing sources for particular products and are running at or near capacity. We do not have plans to develop redundancy for much of our production capability. Therefore, a breakdown or catastrophic damage to certain machines would severely and adversely affect our business. In addition, it can take up to two years to replace certain production machines. We are expanding our manufacturing capabilities and expending capital in anticipation of a level of customer orders that may not be achieved. If demand falls below our forecast, we could have excess production or excess capacity. Excess production could result in higher inventories of our products. If we were unable to sell these inventories, we would be forced to write off such inventories as obsolete products. Excess manufacturing capacity could lead to higher production costs and lower margins. We have in the past and may in the future experience difficulties in the management of our manufacturing facilities located overseas because of the distance from our headquarters and difference in time zone. To the extent that we expand our overseas manufacturing capabilities, these issues will be increased. OUR OPERATING RESULTS MAY FLUCTUATE. Our quarterly revenues and bookings are likely to fluctuate significantly in the future due to a number of factors, many of which are outside our control. Factors that could affect our revenues and bookings include the following: - variations in the size or timing of orders and shipments of our products; - new product introductions by competitors; - delays in introducing new products or components; - delays of orders forecasted by our customers; - delays in planned manufacturing capacity upgrades; - delays by our customers in the completion of upgrades of telecommunications infrastructure; - variations in capital spending budgets of telecommunications service providers; and - delays in obtaining regulatory approval for commercial deployment of certain telecommunications and other products. A significant portion of our operating expenses are relatively fixed in nature. Changes in revenue may cause significant fluctuations in our operating results from quarter to quarter. To achieve our revenue objectives, we depend on obtaining orders for shipment in the same quarter. Furthermore, our agreements with our customers generally do not contain binding purchase commitments and provide that our customers may change delivery schedules and cancel orders within specified timeframes without significant penalty. We generally recognize revenue upon shipment of products to the customer except in the case of JDS, where we recognize revenue upon shipment by JDS to their customers. Refusal of customers or end users to accept shipped products, returns of shipped products or delays or difficulties in collecting accounts receivable could result in significant charges against income. We may be unable to obtain sufficient orders in any quarter, or anticipate the cancellation or deferral of such orders in a quarter. We have experienced and expect to continue to experience seasonality in our business. Our sales have been affected by a seasonal decrease in demand in the last quarter of each calendar year, which coincides with the first quarter of our fiscal year, due to year-end fluctuations in orders and operations of our customers, a fewer number of workdays during the winter holiday season, and the significant seasonality of consumer electronics products for which we provide components. We expect this trend to 11 continue, although other trends may emerge. These trends, or other fluctuations in the timing of customer orders, may cause quarterly or annual fluctuations. WE ARE DEPENDENT ON A SMALL NUMBER OF CUSTOMERS IN CERTAIN INDUSTRIES. Of our total revenues in fiscal 1998, JDS accounted for approximately 21.0% and SICPA accounted for approximately 13.9%. Of our total revenues in the first quarter of fiscal 1999, JDS accounted for approximately 31.1% and SICPA accounted for approximately 18.3%. We believe that a substantial majority of our revenues will continue to be derived from sales to a relatively small number of customers for the foreseeable future. In addition, we believe that sales to these customers will be focused on a small number of applications. The loss of a significant customer for any reason or reduced production by a customer, could result in a significant loss of revenue. In addition, some of our products are sold to customers in industries, such as consumer products, that experience significant fluctuations in demand based on economic conditions, consumer demand and other factors that are beyond our control. There can be no assurance that we will be able to increase or maintain our levels of sales in periods of economic stagnation or downturn. In the past, OEMs have reduced the amount of purchases of our products in an effort to reduce their costs in response to economic crises. WE ARE DEPENDENT ON KEY SUPPLIERS OF RAW MATERIALS. We manufacture all of our products using materials procured from third-party suppliers. Certain of these materials are obtained from a single source and others are available from limited sources. In addition, some of the components are custom parts produced to our specifications. For example, we currently rely on Corning Incorporated to supply a special grade microsheet flat glass that is used in some of our products. Other materials are procured from single-source suppliers even though other suppliers are available. Any interruption in the operations of vendors of single-sourced materials could adversely affect our ability to meet our scheduled product deliveries to customers. Delays in key component or product deliveries may occur due to shortages resulting from a limited number of suppliers, the financial or other difficulties of such supplier or a limitation in component product availability. If we are unable to obtain a sufficient supply of materials from our current sources, we could experience difficulties in obtaining alternative sources quickly or in altering product designs to use alternative materials. Resulting delays or reductions in product shipments could damage customer relationships. Further, a significant increase in the price of one or more of these materials could have a material adverse effect on our operating results. In addition, we are an extremely large consumer of electricity. Unforeseen increases in the cost of electricity or interruptions or reductions in our current supply of electricity could materially affect our ability to manufacture our products in a cost-effective or timely manner. THE SALES CYCLE FOR OUR PRODUCTS IS LENGTHY AND SUBJECT TO DELAYS BEYOND OUR CONTROL, WHICH MAY ADVERSELY IMPACT OUR RESULTS OF OPERATIONS. The sales cycle associated with our products typically is lengthy, often lasting three to fifteen months. Our customers usually conduct significant technical evaluations of our products prior to the commitment of capital and other resources. In addition, purchasing decisions may be delayed because of our customers' internal budget approval procedures. Furthermore, end users of our products may have lengthy testing and approval processes that will delay purchases of our products by our customers. For example, countries adopting security measures for their currency often will consider and test alternatives to our light interference pigments prior to making a purchasing decision. Because of the lengthy sales cycle and the large size of customers' orders, if orders forecasted for a specific customer for a particular quarter do not occur in that quarter, our operating results for that quarter could be materially adversely affected. 12 WE ARE DEPENDENT ON KEY PERSONNEL WITH EXPERTISE IN THE MANAGEMENT OF LIGHT. Due to the specialized nature of our business, we are highly dependent on the continued service of, and on the ability to attract and retain, qualified engineering, sales, marketing and senior management personnel in the area of light management. The competition for such personnel is intense. The loss of any key employees or management could have a material adverse effect on our business and operating results. In addition, if we are unable to hire additional qualified personnel as needed, we may not be able to adequately manage and complete our existing sales commitments and to bid for and execute additional sales. We may not be able to continue to attract and retain the qualified personnel necessary for the development of our business. We must provide significant training for our growing employee base due to the highly specialized nature of our technological expertise in the area of light management and thin film optical coating. Our current engineering personnel may be inadequate, and we may fail to assimilate and train new employees successfully. Highly skilled employees with the education and training that we require, especially employees with significant experience and expertise in thin film optical coating and fiber optics, are in high demand. Once trained, our employees may be hired by our competitors. We do not have "key person" insurance coverage for the loss of any of our employees. Any officer or employee of our company can terminate his or her relationship with us at any time. None of our employees are bound by any noncompetition agreements with us. OUR PRODUCTS ARE SUBJECT TO GOVERNMENTAL AND INDUSTRY REGULATIONS, CERTIFICATIONS AND APPROVALS. The commercialization of our products may be delayed or made more costly due to required government and industry approval processes. In the past, the United States federal government has attempted to restrict the export of our satellite-related products to certain foreign countries for reasons of national security. Development of applications for our ChromaFlair-Registered Trademark- products may require significant testing that could delay our sales. For example, certain uses in cosmetics may be regulated by the Food and Drug Administration, which has extensive and lengthy approval processes. Durability testing by the automobile industry of our pigments used with automotive paints can take up to three years. If we change a product for any reason including technological changes or changes in the manufacturing process, prior approvals or certifications may be invalid and we may need to go through the approval process again. Additionally, some of our telecommunications products may need to obtain Bellcore certification. This certification process can last six months or longer. If we are unable to obtain these or other government or industry certifications in a timely manner, or at all, our results could be adversely affected. THERE ARE MANY RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. Sales to customers outside of the United States accounted for approximately 58.8% of our revenues in fiscal 1998 and approximately 68.1% of our revenues in the first quarter of our 1999 fiscal year. We expect sales to customers outside of the United States to continue to represent a significant percentage of our revenues for the foreseeable future. International sales are subject to a number of risks, including the following: - changes in foreign government regulations and standards; - export license requirements, tariffs, taxes and other trade barriers; - requirements or preferences of foreign nations for domestic products; - fluctuations in currency exchange rates relative to the U.S. dollar; - difficulty in collecting accounts receivable; - difficulty in managing foreign operations; and - political and economic instability. 13 If our customers or end users of our products are impacted by currency devaluations or general economic crises, such as the economic crisis currently affecting many Asian and Latin American economies, their ability to purchase our products could be materially adversely affected. Payment cycles for international customers typically are longer than those for customers in the United States. Foreign markets for our products may develop more slowly than currently anticipated for a variety of reasons. These reasons include environmental issues, economic downturns, the availability of favorable pricing for other communications services or the availability and cost of related equipment. WE HAVE SIGNIFICANT EXPOSURE TO FOREIGN INVESTMENTS. We have significant capital investments in Scotland and Japan. We record changes in the value of those countries' currencies relative to the U.S. dollar as direct charges or credits to equity. In addition to our manufacturing operations in Scotland and Japan, we also have a sales presence in other European and Asian countries. A significant weakening of the currencies in Europe or Asia in relation to the U.S. dollar could reduce the reported results of those operations. In addition, our export sales could be subject to competitive price pressures if the U.S. dollar were to strengthen compared to the currency of foreign competitors. WE MAY NOT BE ABLE TO ADEQUATELY PROTECT OR ENFORCE OUR INTELLECTUAL PROPERTY RIGHTS. Our success and ability to compete are significantly dependent on our proprietary technology. We rely on a combination of patent, trade secret, copyright and trademark laws and contractual restrictions to establish and protect proprietary rights in our products. Our pending patent applications may not be granted. Even if they are granted, the claims covered by the patents may be reduced from those included in our applications. Any patent might be subject to challenge in court and, whether or not challenged, might not be broad enough to prevent third parties from developing equivalent technologies or products. We have entered into confidentiality and invention assignment agreements with our employees, and we enter into non-disclosure agreements with some of our suppliers, distributors and customers so as to limit access to and disclosure of our proprietary information. These statutory and contractual arrangements may not prove sufficient to prevent misappropriation of our technology or to deter independent third-party development of similar technologies. In addition, the laws of some foreign countries might not protect our products or intellectual property rights to the same extent as do the laws of the United States. Protection of our intellectual property might not be available in every country in which our products might be manufactured, marketed or sold. WE MAY BE SUBJECT TO FUTURE CLAIMS OF INFRINGEMENT OF INTELLECTUAL PROPERTY RIGHTS OF THIRD PARTIES. We may in the future receive notices of claims of infringement of other parties' patent, trademark, copyright and other intellectual property rights. Any such claims, even those without merit, could be time consuming to defend, result in costly litigation, divert management's attention and resources or cause us to enter into unfavorable royalty or licensing agreements. The assertion of such claims could have a material adverse effect on our business. OUR INDUSTRIES ARE HIGHLY COMPETITIVE WITH MANY ESTABLISHED COMPETITORS, WHO MAY INCLUDE OUR CUSTOMERS, STRATEGIC ALLIANCE PARTNERS AND SUPPLIERS. The markets for our products are intensely competitive and characterized by rapidly changing technology. We currently experience competition from numerous companies in each of the markets in which we participate. In the fiber optic communications market, we face competition from E-Tek Dynamics, Inc. and DiCon Fiberoptics, Inc., as well as other WDM component vendors for the sale of WDM products. In the optical switch markets, we will compete with these same companies, and potentially with JDS, our strategic partner for our WDM business. In the satellites market, we compete with Pilkington Aerospace, a division of Pilkington plc. 14 We face competition with our light interference pigments in the security and value documents market from alternative technologies such as holograms, embedded threads and watermarks. In the decorative applications market for our light interference pigments, we compete with providers of lower cost, lower performance special effects pigments such as BASF AG and Merck KGaA. These companies are also important customers for decorative pigments. In the display market, we have a large number of domestic and foreign competitors for our Glare/Guard-Registered Trademark- anti-glare optical filters. Companies that purchase coated glass and assemble and sell filters in competition with us include Fellowes Manufacturing Company, Polaroid Corporation, ACCO Brands, Inc. and Minnesota Mining and Manufacturing Company (3M). Certain of these companies purchase private label products from us for resale in competition with our Glare/Guard-Registered Trademark- product line. In the flat panel display market, we face competition from Japanese coating companies such as Nidek Co., Ltd., Toppan Printing Co., Ltd. and Tore. In projection display components, our competition includes Viratec Thin Films, Inc., Balzers and Leybold Group, Nitto Optical Co., Ltd., Nikon Corporation and Fuji Photo-Optical. Competitors in any portion of our business are also capable of rapidly becoming competitors in other portions of our business. Many of our current and potential competitors have significantly greater financial, technical, marketing, purchasing and other resources than we do. We may not be able to respond as quickly as our competitors to new or emerging technologies, standards or changes in customer requirements, to devote greater resources to the development, promotion and sale of products, or to deliver competitive products at a lower prices. We also face competition from numerous smaller companies. Our existing and potential customers are often our current and potential competitors. These companies may develop or acquire additional competitive products or technologies in the future and thereby reduce or cease their purchases from us. Additionally, we compete with large, diversified companies such as BASF and Merck KGaA that are also our suppliers. We may also face competition in the future from these and other parties that develop fiber optic components based upon the technologies similar to or different from the technologies employed by us. We expect competition in general to intensify substantially, particularly in the expanding telecommunications and special effects pigments markets. We further expect competition to be broadly based on varying combinations of manufacturing capacity, ability to deliver products on time, and technical features, each of which may render our existing products uncompetitive, obsolete or unmarketable. The development of new high-precision products is a complex and uncertain process requiring high levels of innovation and highly skilled assembly and manufacturing processes, as well as the accurate anticipation of technological and market trends. Many of our competitors have substantially greater financial, technical, manufacturing and marketing resources with which to develop new technologies and to promote their products. We may be unable to identify, develop, manufacture, market or support new or enhanced products successfully or on a timely basis. We also may be unable to respond effectively to product announcements by competitors, technological changes or emerging industry standards. OUR STOCK PRICE IS AT OR NEAR ITS HISTORICAL HIGH AND MAY FLUCTUATE SIGNIFICANTLY. The trading price of our common stock has been and is likely to be highly volatile. Our stock price could be subject to wide fluctuations in response to a variety of factors, including the following: - failure to meet securities analysts' estimates; - changes in financial estimates by securities analysts; - conditions, trends or announcements in the telecommunications, display, light interference pigment products, office automation or aerospace and instrumentation industry; - announcements of technological innovations by us or our competitors; - new products or services offered by us or our competitors; 15 - announcements of significant acquisitions, strategic alliances, joint ventures or capital commitments by us or our competitors; - additions or departures of key personnel; - sales of common stock; - accounting pronouncements or changes in accounting rules that affect our financial statements; and - other events or factors that may be beyond our control. In addition, the stock markets in general, and the Nasdaq National Market in particular, have experienced extreme price and volume fluctuations recently. These fluctuations often have been unrelated or disproportionate to the operating performance of these companies. Our stock is particularly susceptible to market fluctuations because of the small number of shares of our stock available on the public market. Furthermore, the trading price of our common stock is at or near historical highs and our price-to-earnings multiple is substantially above historical levels. Our trading price and multiple may not be sustained. These broad market and industry factors may materially adversely affect the market price of our common stock, regardless of our actual operating performance. In the past, following periods of volatility in the market price of a company's securities, securities class action litigation often has been instituted against that company. Litigation like this, if instituted, could result in substantial costs and a diversion of management's attention and resources. WE FACE RISKS RELATING TO THE YEAR 2000 ISSUE. The "Year 2000" issue is the result of computer programs that were written using two digits rather than four digits to define the applicable year. If our computer programs with date-sensitive functions are not Year 2000 compliant, they may recognize a date using "00" as the Year 1900 rather than the Year 2000. This could result in system failures or miscalculations causing disruption of operations, including, among other things, a temporary inability to process transactions, send invoices or engage in similar normal business activities. We have identified our Year 2000 risk in three components: internal business software; internal non-financial software and imbedded chip technology; and external noncompliance by customers and suppliers. We are in the process of installing an enterprise resource planning system and we currently expect to be in full compliance with our internal financial systems before the Year 2000. However, if, due to unforseen circumstances, the implementation is not completed on a timely basis, the Year 2000 could have a material impact on our operations. If we are unable to achieve Year 2000 compliance for our major non-financial systems, the Year 2000 could have a material impact on our operations. Any failure of third-party networks, systems or services upon which our business depends could have a material adverse impact on our business. We also rely on other systems and services that third parties provide to our customers. As a result, the success of our plan to address Year 2000 issues depends in part on parallel efforts being undertaken by other third parties. We have begun to identify and initiate communications with third parties whose networks, systems or services are critical to our business to determine the status of their Year 2000 compliance. We cannot assure you that all such parties will provide accurate and complete information, or that all their networks, systems or services will achieve full Year 2000 compliance in a timely fashion. In the event that any of our significant customers and suppliers do not successfully and timely achieve Year 2000 compliance, and we are unable to replace them with new customers or alternate suppliers, our business or operations could be adversely affected. 16 Although we believe that all of our current products are Year 2000 compliant, we cannot be certain that there will not be claims against us, particularly since we have been in business for over 50 years. The outcome and the costs involved in defending such claims could have an adverse effect on our business. In addition, responding to customer inquiries regarding Year 2000 issues has created a burden on our internal resources. OUR MANUFACTURING FACILITIES ARE CONCENTRATED IN AN AREA SUSCEPTIBLE TO EARTHQUAKES. Our headquarters and most of our manufacturing facilities are concentrated in an area where there is a risk of significant earthquake activity. Substantially all of the production equipment that currently accounts for our revenues, as well as planned additional production equipment, is or will be located in a known earthquake zone. In addition, much of our plant and equipment was built a number of years ago and are not in compliance with current seismic codes. We cannot predict the extent of the damage that our facilities and equipment would suffer in the event of an earthquake or how such damage would affect our business. We currently maintain earthquake insurance in the amount of $20.9 million with a deductible of five percent of insured value. However, we cannot be certain if this type of insurance will be available in the future at reasonable rates, or at all, or if this insurance will be sufficient to cover all damages that we may suffer as a result of an earthquake. OUR BUSINESS IS SUBJECT TO THE RISKS OF PRODUCT RETURNS, PRODUCT LIABILITY AND PRODUCT DEFECTS. Products as complex and precise as ours frequently contain undetected errors or flaws, especially when first introduced or when new versions are released. The occurrence of errors could result in product returns and other losses to us or to our customers. Some of our products are used in applications that have severe consequences if our products or the products in which our products are incorporated should fail. Such failure also could result in the loss of or delay in market acceptance of our products. Due to the recent introduction of some of our products, we have limited experience with the problems that could arise with these products. Our purchase agreements with our customers typically contain provisions designed to limit our exposure to potential product liability claims. However, the limitation of liability provision contained in our purchase agreements may not be effective as a result of federal, state or local laws or ordinances or unfavorable judicial decisions in the United States or other countries. We have not experienced any product liability claims to date, but the sale and support of our products entails the risk of such claims. In addition, any failure by our products to properly perform could result in claims against us by our customers. We maintain insurance to protect against certain claims associated with the use of our products, but our insurance coverage may not adequately cover any claim asserted against us. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and loss of management time and resources. OUR MANUFACTURING PROCESSES MAY EXPOSE US TO ENVIRONMENTAL LIABILITIES. We are subject to various federal, state, local and foreign environmental laws and regulations, including those governing the use, discharge and disposal of hazardous substances in the ordinary course of our manufacturing process. In the past, we have found ground water contamination at our facilities and have had to spend substantial amounts of money to contain and monitor the contamination. Although we believe that our current manufacturing operations comply in all material respects with applicable environmental laws and regulations, environmental legislation has been enacted and may in the future be enacted or interpreted to create environmental liability with respect to our facilities or operations. We cannot be certain that environmental claims will not be asserted against us in the future. 17 MANAGEMENT WILL HAVE BROAD DISCRETION OVER THE USE OF PROCEEDS OF THE OFFERING. We currently have no specific plans for a significant portion of our net proceeds from this offering. Consequently, our management will have the discretion to allocate the net proceeds to uses that stockholders may not deem desirable. We may not be able to generate a significant return on any investment of the proceeds. SOME ANTI-TAKEOVER PROVISIONS MAY AFFECT THE PRICE OF OUR COMMON STOCK. The Board of Directors has the authority to issue up to 83,350 shares of preferred stock and to determine the preferences, rights and privileges of those shares without any further vote or action by the stockholders. In addition, 10,000 shares of preferred stock have been designated Series A Preferred Stock in connection with our stockholders' rights plan described below, and 15,000 shares were designated Series B Cumulative Convertible Redeemable Preferred Stock, of which 6,650 shares remain available for future issuance. The rights of the holders of common stock may be adversely affected by the rights of the holders of any preferred stock that may be issued in the future. Some provisions of our certificate of incorporation and bylaws could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting common stock. These include provisions that limit the ability of stockholders to take action by written consent, call special meetings, remove a director for cause, amend the by-laws or approve a merger with another company. We are subject to the provisions of Section 203 of the Delaware General Corporation Law, an anti-takeover law. In general, the statute prohibits a publicly-held Delaware corporation from engaging in a "business combination" with an "interested stockholder" for a period of three years after the date of the transaction in which the person became an interested stockholder, unless the business combination is approved in a prescribed manner. For purposes of Section 203, a "business combination" includes a merger, asset sale or other transaction resulting in a financial benefit to the interested stockholder, and an "interested stockholder" is a person who, together with affiliates and associates, owns (or within three years prior, did own) 15.0% or more of the corporation's voting stock. We have a stockholders' rights plan, commonly referred to a "poison pill," that makes it difficult, if not impossible, for a person to acquire control of us without the consent of our Board of Directors. 18 FORWARD-LOOKING STATEMENTS Certain statements under the captions "Prospectus Summary," "Risk Factors," "Use of Proceeds," "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business," and elsewhere in this prospectus, are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). These forward-looking statements include, but are not limited to, statements about our plans, objectives, expectations and intentions and other statements contained in this prospectus that are not historical facts. When used in this prospectus, the words "expect," "anticipate," "intend," "plan," "believe," "seek," "estimate" and similar expressions are generally intended to identify forward-looking statements. Because these forward-looking statements involve risks and uncertainties, there are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements, including our plans, objectives, expectations and intentions and other factors discussed under "Risk Factors" and in other information contained in our publicly available filings with the Securities and Exchange Commission. We assume no obligation to update such forward-looking statements or to update the reasons actual results could differ materially from those anticipated in such forward-looking statements. 19 USE OF PROCEEDS OCLI will receive an estimated $ million in net proceeds from the sale of 1,300,000 shares of common stock offered by us ($ million if the underwriters' over-allotment option is exercised in full) at an assumed public offering price of $49.25 per share, after deducting underwriting commissions and discounts and estimated expenses. We will not receive any proceeds from the sale of common stock by the selling stockholders. We intend to use the net proceeds from this offering for working capital and other general corporate purposes. We also intend to use a portion of our net proceeds to fund the growth of Flex and our to support our growth in the telecommunications market. In addition, we may use a portion of the our proceeds to acquire complementary businesses, products, services or technologies; however, we currently have no commitments or agreements and are not involved in any negotiations with respect to any such transactions. Pending such use of our net proceeds, we intend to invest our net proceeds in short term interest-bearing, investment-grade securities. PRICE RANGE OF COMMON STOCK Our common stock is traded on the Nasdaq National Market under the symbol "OCLI." The following table sets forth, for the periods indicated, the high and low sale prices per share of our common stock as reported on the Nasdaq National Market.
HIGH LOW --------- --------- FY 1996 - ------------------------------------------------------------ First Quarter (commencing November 1, 1995)............... $ 15.38 $ 9.25 Second Quarter............................................ 14.50 9.63 Third Quarter............................................. 19.75 12.00 Fourth Quarter............................................ 15.25 9.88 FY 1997 - ------------------------------------------------------------ First Quarter (commencing November 1, 1996)............... $ 11.75 $ 9.50 Second Quarter............................................ 11.75 9.13 Third Quarter............................................. 14.25 9.31 Fourth Quarter............................................ 13.38 12.00 FY 1998 - ------------------------------------------------------------ First Quarter (commencing November 1, 1997)............... $ 16.13 $ 12.38 Second Quarter............................................ 15.69 12.00 Third Quarter............................................. 19.75 14.38 Fourth Quarter............................................ 18.75 14.38 FY 1999 - ------------------------------------------------------------ First Quarter (commencing November 1, 1998)............... $ 32.50 $ 16.69 Period from February 1, 1999 to April 21, 1999............ 55.75 23.75
On April 21, 1999, the last reported sale price of our common stock on the Nasdaq National Market was $49.25 per share. As of March 31, 1999, there were approximately 858 stockholders of record of the common stock. 20 DIVIDEND POLICY Since June 1991, we have paid a semi-annual dividend of $0.06 per share on our common stock. While we currently intend to pay a dividend on our common stock, we can provide no assurances for how long this policy will continue or the amount of future dividends, if any. Our dividend policy is reviewed regularly by our Board of Directors. CORPORATE INFORMATION Optical Coating Laboratory, Inc. was incorporated in Delaware in 1948. We incorporated in California in 1963 and reincorporated in Delaware in 1987. References in this prospectus to "OCLI," "we," "our," and "us" refer to Optical Coating Laboratory, Inc. and our wholly owned subsidiaries, Flex Products, Inc., OCLI Optical Coating Laboratory, Ltd. and OCLI Asia K.K. Our principal executive offices are located at 2789 Northpoint Parkway, Santa Rosa, California 95407-7397 and our telephone number is (707) 545-6440. Information contained on our Web site, www.ocli.com, does not constitute part of this prospectus. 21 CAPITALIZATION The following table sets forth the capitalization as of January 31, 1999 on an actual basis and as adjusted to give effect to our receipt of the estimated net proceeds from the sale of 1,300,000 shares of our common stock at an assumed public offering price of $49.25 per share and the application of these net proceeds as set forth in "Use of Proceeds." The capitalization information set forth in the table below should be read in conjunction with our consolidated financial statements and the notes thereto included elsewhere in this prospectus.
JANUARY 31, 1999 ----------------------- ACTUAL AS ADJUSTED ---------- ----------- (IN THOUSANDS) Long term debt........................................................................... $ 51,870 $ 51,870 ---------- ----------- Stockholders' equity: Preferred Stock, $0.01 par value per share: 100,000 shares authorized, 10,000 of which are designated Series A Preferred Stock, 6,650 of which are designated Series B Cumulative Convertible Preferred Stock no shares issued and outstanding, actual and as adjusted................................ -- -- Common Stock, $0.01 par value per share: 30,000,000 shares authorized, 12,215,000 shares issued and outstanding, actual; 13,515,000 shares issued and outstanding, as adjusted(1)............................. 122 135 Additional paid-in capital............................................................. 72,120 Retained earnings...................................................................... 33,258 33,258 Accumulated other comprehensive income................................................. 31 31 ---------- ----------- Total stockholders' equity........................................................... 105,531 ---------- ----------- Total capitalization............................................................. $ 157,401 $ ---------- ----------- ---------- -----------
- ------------------------ (1) This "as adjusted" number includes the shares being offered by the selling stockholders pursuant to the exercise of fully vested stock options, but excludes the remaining 2,842,807 shares of common stock reserved for issuance under our stock option and stock purchase plans, of which 2,006,219 shares were subject to outstanding options as of January 31, 1999. See Notes 2 and 9 of Notes to Consolidated Financial Statements. 22 SELECTED CONSOLIDATED FINANCIAL INFORMATION The selected consolidated financial data set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and our Consolidated Financial Statements and the Notes thereto included elsewhere in this prospectus. The consolidated statement of income data set forth below for fiscal years 1996, 1997 and 1998 and the balance sheet data as of October 31, 1997 and 1998 have been derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statement of income data set forth below for fiscal years 1994 and 1995 and the balance sheet data as of October 31, 1994, 1995 and 1996 have been derived from audited consolidated financial statements not included in this prospectus. The consolidated statement of income data for the three-month periods ended January 31, 1999 and 1998 and the balance sheet data as of January 31, 1999 are derived from unaudited financial statements included in this prospectus, which, in the opinion of our management, reflect all adjustments, consisting only of normal recurring adjustments, necessary to present fairly the financial data for such periods. The historical results are not necessarily indicative of results to be expected for any future periods. We use a 52/53-week fiscal year ending on the Sunday nearest October 31. However, for purposes of presentation, fiscal periods are indicated as ending at calendar month-ends. Fiscal year 1996 was a 53-week year and fiscal years 1994, 1995, 1997 and 1998 were 52-week years.
THREE MONTHS FISCAL YEARS ENDED OCTOBER 31, ENDED JANUARY 31, ----------------------------------------------------- -------------------- 1994 1995 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE DATA) CONSOLIDATED STATEMENT OF INCOME DATA: Revenues................................... $ 131,780 $ 169,417 $ 189,195 $ 217,829 $ 255,624 $ 53,373 $ 69,851 Cost of sales.............................. 84,001 106,009 126,769 143,207 169,670 36,235 48,632 --------- --------- --------- --------- --------- --------- --------- Gross profit............................. 47,779 63,408 62,426 74,622 85,954 17,138 21,219 Operating expenses: Research and development................. 5,229 8,401 11,733 14,903 17,137 3,821 4,644 Selling and administrative............... 31,341 37,462 37,145 42,836 43,926 9,488 10,193 Impairment loss(1)....................... -- -- -- -- 8,628 -- -- Restructuring expenses(2)................ -- -- -- -- 586 -- -- Legal settlement, net(3)................. -- -- -- -- -- -- (2,960) In process research and development charges(4)............................. -- -- -- -- -- -- 2,906 Amortization of intangibles.............. 648 975 1,146 936 805 200 217 --------- --------- --------- --------- --------- --------- --------- Total operating expenses............... 37,218 46,838 50,024 58,675 71,082 13,509 15,000 --------- --------- --------- --------- --------- --------- --------- Income from operations................. 10,561 16,570 12,402 15,947 14,872 3,629 6,219 Nonoperating income (expense): Interest income.......................... 338 667 379 461 769 84 318 Interest expense, net.................... (3,215) (3,547) (3,524) (4,030) (3,615) (808) (959) --------- --------- --------- --------- --------- --------- --------- Income before provision for income taxes and minority interest.......... 7,684 13,690 9,257 12,378 12,026 2,905 5,578 Provision for income taxes................. 3,080 5,483 3,425 4,622 3,336 1,162 3,054 Minority interest.......................... -- 816 636 631 1,351 147 491 --------- --------- --------- --------- --------- --------- --------- Net income............................. 4,604 7,391 5,196 7,125 7,339 1,596 2,033 Dividend on convertible redeemable preferred stock.......................... -- 462 960 693 250 125 -- --------- --------- --------- --------- --------- --------- --------- Net income applicable to common stock................................ $ 4,604 $ 6,929 $ 4,236 $ 6,432 $ 7,089 $ 1,471 $ 2,033 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net income per share, basic................ $ 0.51 $ 0.76 $ 0.44 $ 0.63 $ 0.62 $ 0.14 $ 0.17 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net income per share, diluted.............. $ 0.51 $ 0.73 $ 0.41 $ 0.60 $ 0.59 $ 0.13 $ 0.16 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Cash dividend paid on common stock......... $ 0.12 $ 0.12 $ 0.12 $ 0.12 $ 0.12 $ 0.06 $ 0.06 Weighted average number of common shares used to compute basic earnings per share.................................... 8,975 9,144 9,629 10,191 11,388 10,625 12,142 Weighted average number of common shares used to compute diluted earnings per share.................................... 9,023 9,510 10,301 10,673 11,999 11,396 12,868
23
OCTOBER 31, ----------------------------------------------------- JANUARY 31, 1994 1995 1996 1997 1998 1999 --------- --------- --------- --------- --------- ----------- (IN THOUSANDS) CONSOLIDATED BALANCE SHEET DATA: Cash and cash equivalents........................ $ 19,663 $ 6,602 $ 16,027 $ 15,217 $ 40,880 $ 14,324 Working capital.................................. 28,692 28,015 38,087 42,618 75,130 53,009 Total assets..................................... 118,879 169,834 172,771 183,493 213,586 204,806 Long term debt................................... 35,441 47,267 45,788 40,975 52,373 51,870 Total stockholders' equity....................... 52,037 73,894 79,559 86,963 102,223 105,531
- ------------------------------ (1) In the fourth quarter of fiscal 1998, we recorded an impairment loss of $8.6 million in connection with the sale of the operating assets of MMG. See Note 3 of Notes to Consolidated Financial Statements included in this prospectus. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 15 of Notes to Consolidated Financial Statements included in this prospectus. (2) In the fourth quarter of fiscal 1998, we recorded restructuring charges of $586,000 pursuant to a plan of restructuring approved in the fourth quarter of fiscal 1998. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 4 of Notes to Consolidated Financial Statements included in this prospectus. (3) On January 15, 1999, we settled a lawsuit with Optical Corporation of America and certain of its stockholders regarding a failed merger in fiscal 1996. In connection with the settlement, we received cash, net of related legal expenses, $3.0 million of which was recorded as a benefit in the first quarter of fiscal 1999. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 15 of Notes to Consolidated Financial Statements included in this prospectus. (4) In December 1998, we acquired the 40.0% minority interest in Flex held by SICPA for $30.0 million bringing our ownership in Flex to 100%. We recorded the transaction as a purchase in the first quarter of fiscal 1999. As a result of this transaction, we recorded a charge for in-process research and development of $2.9 million. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 5 and Note 15 of Notes to Consolidated Financial Statements included in this prospectus. 24 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Optical Coating Laboratory, Inc. is a worldwide leader in optical thin film coating technologies. We have leveraged our technical and manufacturing expertise, gained from over 50 years of experience developing thin film coating processes for government and industry to build a portfolio of products that incorporate high performance optical thin films used to manage light. Our products control, enhance and modify the behavior of light by utilizing its reflection, absorption, and transmission properties to achieve commercially important effects such as high reflectivity, anti-glare and spectral filtering. Our products address a range of markets and applications. TELECOMMUNICATIONS. We manufacture and sell optical components for fiber optic communications systems including WDM products. We also sell optical components used on satellites for solar power generation, thermal control and other functions. This market accounted for $73.6 million of our revenues in fiscal 1998 and $25.1 million of our revenues in the first quarter of fiscal 1999. LIGHT INTERFERENCE PIGMENTS. Through our Flex subsidiary, we manufacture and sell optically variable pigments used to prevent counterfeiting of the world's currencies and other value documents and for use in paints for automobiles and other consumer products. This market accounted for $43.4 million of our revenues in fiscal 1998 and $14.6 million of our revenues in the first quarter of fiscal 1999. DISPLAY. We manufacture and sell optical components used in CRT displays, flat panel displays and projection display products such as large-screen projection televisions and business projection systems. We are also developing optical components for next generation computer monitors. This market accounted for $60.1 million of our revenues in fiscal 1998 and $14.3 million of our revenues in the first quarter of fiscal 1999. AEROSPACE AND INSTRUMENTATION. We manufacture and sell optical components, including precision polymer optics, used in defense and aerospace products, automated data collection products, and medical, scientific and analytical instruments. This market accounted for $44.7 million of our revenues in fiscal 1998 and $11.2 million of our revenues in the first quarter of fiscal 1999. OFFICE AUTOMATION. We manufacture and sell optical components, including precision polymer optics, for copiers, scanners, printers and other office products. This market accounted for $33.7 million of our revenues in fiscal 1998 and $4.6 million of our revenues in the first quarter of fiscal 1999. The following table indicates trends in revenues by market:
THREE MONTHS ENDED FISCAL YEARS ENDED OCTOBER 31, JANUARY 31, ------------------------------- -------------------- 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- PERCENTAGE OF REVENUES BY MARKET: Telecommunications.............................. 5.3% 16.1% 28.8% 22.9% 36.0% Light interference pigments..................... 16.2 18.3 17.0 17.1 20.9 Display......................................... 34.0 27.5 23.5 28.7 20.5 Aerospace and instrumentation................... 26.8 20.0 17.5 19.6 16.0 Office automation............................... 17.7 18.1 13.2 11.7 6.6% --------- --------- --------- --------- --------- Total......................................... 100.0% 100.0% 100.0% 100.0% 100.0% --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
25 The sales approach to each market is based on a combination of direct and indirect sales primarily to OEMs resulting in a high variance of gross margins. Generally, our telecommunications products yield lower gross margins and our light interference pigment products yield higher gross margins when compared to our overall gross margin percentage. Therefore, the overall gross margins will be affected by the relative contributions of our markets. In general, all our markets are very competitive and subject to margin pressure. Revenues generated by sales to Canada have increased from 9.0% in fiscal 1997 to 21.3% in fiscal 1998 and 32.5% in the first quarter of fiscal 1999 reflecting the growth in telecommunications sales from our alliance with JDS. Revenues generated by sales within the U.S. represented 43.8% of our total revenues in fiscal 1997, 41.3% in fiscal 1998 and 31.9% in the first quarter of fiscal 1999, the decline again reflecting the faster growth in sales of telecommunications products to Canada. Revenues from sales to Europe and Asia also declined as a percentage of our total revenues from 47.2% in fiscal 1997 to 37.4% in fiscal 1998 and 35.6% in the first quarter of fiscal 1999 due to increased sales of telecommunications products to Canada. SALE OF MMG. In the fourth quarter of fiscal 1998, we decided to dispose of substantially all of the assets of our manufacturing subsidiary in Germany, which was doing business under the name "MMG," in order to focus our resources in other markets. In conjunction with the negotiation of the sale, independent appraisals were made of the assets and liabilities of MMG, and we recorded an impairment loss of $8.6 million in the fourth quarter of fiscal 1998 to reduce the carrying amount of the impaired assets to fair value, net of disposal costs on a liquidation basis. In the first quarter of fiscal 1999, Glas-Trosch GmbH, a privately held company in Switzerland, purchased the business and the operating assets and other related intangibles of MMG for $4.3 million. We retained ownership of an office building with an appraised value of $600,000 and accounts receivable and cash totaling $3.4 million. Third party liabilities of MMG were $4.5 million, which were paid from the asset sale proceeds, cash on hand and collection of accounts receivable. Since the assets were sold for the recorded value, adjusted for the impairment loss recorded in fiscal 1998, no gain or loss was recognized in connection with the sale. INVESTMENT IN FLEX. Flex was founded as one of our divisions in the early 1980's and was subsequently established as a joint venture in which ICI Americas Inc., an affiliate of Imperial Chemical Industries plc, owned 60.0% and we owned 40.0%. In 1995, we acquired controlling ownership of Flex with the purchase of an additional 20.0% interest. In conjunction with our ownership increase, the remaining 40.0% interest in Flex was acquired by SICPA Holding S.A., a privately held corporation headquartered in Lausanne, Switzerland. SICPA is one of the world's leading manufacturers of printing inks and the primary customer of Flex. In December 1998, we purchased SICPA's 40.0% interest in Flex for $30.0 million in cash, increasing our ownership to 100% and purchased SICPA's $2.4 million working capital loan. This transaction was recorded as a purchase in the first quarter of fiscal 1999. As a result, we recorded a charge for in process research and development of $2.9 million, goodwill of $9.7 million that will be amortized over 15 years, and identifiable intangibles (included in other assets) of $10.1 million that will be amortized over useful lives ranging from 11 to 15 years. The license and supply agreement between Flex and SICPA that runs through October 31, 2009 was modified to increase SICPA's minimum purchase requirements in association with Flex's commitment to put in place additional capacity to manufacture light interference pigments. SETTLEMENT OF LITIGATION. In the first quarter of fiscal 1999, we settled a lawsuit with Optical Corporation of America (OCA) and certain of its stockholders regarding a failed merger. A benefit of $3.0 million was recorded in the first quarter of fiscal 1999 for the cash proceeds from the settlement, net of applicable legal expenses. 26 PURCHASE OF OPKOR INC. In March 1999, we closed the acquisition of OPKOR Inc., an optical design and manufacturing company specializing in precision polymer optic components and assemblies, for $9.0 million plus annual contingent payments based on profits of the acquired entity. Consideration consisted of $1.8 million in cash and 267,285 shares of our common stock. The acquisition will be recorded as a purchase in the second quarter of fiscal 1999. Under the terms of the acquisition, we agreed to register 81,670 shares within 30 days of the closing of that transaction and the remaining 185,615 shares within one year of the closing. Furthermore, the OPKOR shareholders can earn an additional amount of shares of common stock based upon the earnings of OPKOR during fiscal 1999, fiscal 2000 and fiscal 2001. The maximum amount of such additional shares is the lesser of 267,285 shares or the number of shares equal in value to $18.0 million. We have granted registration rights for these additional shares, if any. RESULTS OF OPERATIONS The following table sets forth items, for the periods indicated, from our Consolidated Statements of Income as a percentage of revenues:
THREE MONTHS ENDED FISCAL YEARS ENDED OCTOBER 31, JANUARY 31, ----------------------------------------------------- -------------------- 1994 1995 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- --------- --------- Revenues.................................. 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of sales............................. 63.7 62.6 67.0 65.7 66.4 67.9 69.6 --------- --------- --------- --------- --------- --------- --------- Gross profit............................ 36.3 37.4 33.0 34.3 33.6 32.1 30.4 Operating expenses: Research and development................ 4.0 5.0 6.2 6.8 6.7 7.2 6.6 Selling and administrative.............. 23.8 22.1 19.6 19.7 17.2 17.8 14.6 Impairment loss......................... -- -- -- -- 3.4 -- -- Restructuring expenses.................. -- -- -- -- 0.2 -- -- Legal settlement, net................... -- -- -- -- -- -- (4.2) In process research and development charges............................... -- -- -- -- -- -- 4.2 Amortization of intangibles............. 0.5 0.6 0.6 0.4 0.3 0.4 0.3 --------- --------- --------- --------- --------- --------- --------- Total operating expenses.................. 28.3 27.7 26.4 26.9 27.8 25.4 21.5 --------- --------- --------- --------- --------- --------- --------- Income from operations.................... 8.0 9.7 6.6 7.4 5.8 6.7 8.9 Nonoperating income (expense): Interest income......................... 0.3 0.4 0.2 0.2 0.3 0.2 0.5 Interest expense, net................... (2.4) (2.1) (1.9) (1.9) (1.4) (1.5) (1.4) --------- --------- --------- --------- --------- --------- --------- Income before provision for income taxes and minority interest........... 5.9 8.0 4.9 5.7 4.7 5.4 8.0 Provision for income taxes................ 2.3 3.2 1.8 2.1 1.3 2.2 4.4 Minority interest......................... -- 0.5 0.3 0.3 0.5 0.3 0.7 --------- --------- --------- --------- --------- --------- --------- Net income.............................. 3.6 4.3 2.8 3.3 2.9 2.9 2.9 Dividend on convertible redeemable preferred stock......................... -- 0.3 0.5 0.3 0.1 0.2 -- --------- --------- --------- --------- --------- --------- --------- Net income applicable to common stock..... 3.6% 4.0% 2.3% 3.0% 2.8% 2.7% 2.9% --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
27 THREE MONTHS ENDED JANUARY 31, 1999 AND 1998 REVENUES. Revenues for the first quarter of fiscal 1999 were $69.9 million, an increase of $16.5 million or 30.9% over revenues of $53.4 million in the first quarter of fiscal 1998. Adjusted for the effect of the sale of MMG in November 1998 revenues for the first quarter of fiscal 1999 would have increased $19.4 million or 38.5% over revenues of $50.4 million in the first quarter of fiscal 1998. The revenue increase resulted primarily from increased revenues in our telecommunications, light interference pigments and office automation markets, as adjusted for the effect of the sale of MMG. These increases were partially offset by a decrease of $1.0 million in revenues in our display markets. All of the revenue increases and decreases were primarily due to changes in volume. GROSS PROFIT. Gross profit for the first quarter of fiscal 1999 was $21.2 million, or 30.4%, of revenues compared to $17.1 million, or 32.1%, of revenues for the first quarter of fiscal 1998. Adjusted for the effect of the sale of MMG, gross profit for the first quarter of fiscal 1998 would have been $16.5 million, or 32.8% of revenues. The fiscal 1999 gross profit decrease as a percent of revenues is primarily due to the increase in sales in our telecommunications business which have gross margins lower than our average. RESEARCH AND DEVELOPMENT. Research and development expenditures in the first quarter of fiscal 1999 were $4.6 million compared to $3.8 million in the first quarter of fiscal 1998. The increase is primarily due to new product development and product improvement initiatives for telecommunications products. SELLING AND ADMINISTRATIVE EXPENSES. Selling and administrative expenses in the first quarter of fiscal 1999 were $10.2 million, an increase of $705,000, or 7.4% from selling and administrative expenses of $9.5 million for the first quarter of fiscal 1998. Adjusted for the effect of the sale of MMG, selling and administrative expenses would have increased $1.5 million in the first quarter of fiscal 1999 over selling and administrative expenses of $8.7 million for the first quarter of fiscal 1998. The fiscal 1999 increase was primarily due to a $600,000 increase in selling expenses primarily for the promotion of ChromaFlair-Registered Trademark- light interference pigment for consumer applications, and profit-based incentive accruals. LEGAL SETTLEMENT. In the first quarter of fiscal 1999, we settled a lawsuit with OCA and certain of its stockholders regarding a failed merger. A benefit of $3.0 million was recorded in the first quarter of fiscal 1999 for the cash proceeds from the settlement, net of applicable legal expenses. IN PROCESS RESEARCH AND DEVELOPMENT CHARGES. In the first quarter of fiscal 1999, we purchased the 40.0% interest in Flex held by SICPA for $30.0 million. The transaction was recorded as a purchase in the first quarter of fiscal 1999. In connection with the transaction, we recorded a charge for in process research and development of $2.9 million. AMORTIZATION OF INTANGIBLES. We recorded amortization of intangibles of $217,000 in the first quarter of fiscal 1999 compared to $200,000 in the first quarter of fiscal 1998. Adjusted for the effect of the sale of MMG, amortization of intangibles for the first quarter of fiscal 1998 would have been $104,000. The fiscal 1999 increase, adjusted for the effect of the sale of MMG, is due to amortization of goodwill and identifiable intangibles in connection with the purchase of SICPA's interest in Flex. INCOME FROM OPERATIONS. As a result of the foregoing changes in revenues, gross profit and operating expenses, our income from operations was $6.2 million for the first quarter of fiscal 1999 compared to $3.6 million for the first quarter of fiscal 1998. INTEREST INCOME AND EXPENSE. Interest income for the first quarter of fiscal 1999 was $318,000 compared to interest income of $84,000 for the first quarter of fiscal 1998. The increase in interest income is due to higher average cash balances in fiscal 1999. Interest expense, net of capitalized interest, for the first quarter of fiscal 1999 was $959,000 compared to $808,000 for the first quarter of fiscal 1998. 28 Capitalized interest for the first quarter of fiscal 1998 was $160,000 compared to $84,000 for the first quarter of fiscal 1998. The capitalized interest increase in fiscal 1999 is primarily due to the construction of capital equipment for telecommunications manufacturing. The increase in gross interest expense is due to increased borrowings outstanding in fiscal 1999. PROVISION FOR INCOME TAXES AND MINORITY INTEREST. Our effective income tax rate was 54.8% for the first quarter of fiscal 1999 compared to 40.0% for the first quarter of fiscal 1998. Adjusted for the effect of the in process research and development charge, for which no tax benefit was recorded, our effective income tax rate for the first quarter of fiscal 1999 is 36.0%. The fiscal 1999 effective tax rate decrease is primarily due to the recognition of benefit from foreign sales corporations and business tax credits. Minority interest was $491,000 in the first quarter of fiscal 1999 compared to $147,000 for the first quarter of fiscal 1998. In the first quarter of fiscal 1999, minority interest was recorded up to the date of purchase of the remaining interest in Flex. In the first quarter of fiscal 1998, minority interest included the share of net income of Flex accruing to our 40.0% shareholder and the portion of the operating results of OCLI Asia attributable to our Japanese partner. We purchased the minority interest in OCLI Asia in the fourth quarter of fiscal 1998. The fiscal 1999 minority interest increase is primarily due to increased profits at Flex. NET INCOME APPLICABLE TO COMMON STOCK. We had net income applicable to common stock of $2.0 million, or $0.16 per share on a diluted basis, for the first quarter of fiscal 1999 compared to $1.5 million, or $0.13 per share on a diluted basis, for the first quarter of fiscal 1998. FISCAL 1998 COMPARED TO FISCAL 1997 REVENUES. Revenues for fiscal 1998 were $255.6 million, an increase of $37.8 million or 17.4% over revenues of $217.8 million for fiscal 1997. The fiscal 1998 revenue increase was primarily due to increased revenues in our telecommunications, light interference pigments and aerospace and instrumentation markets. These revenue increases were partially offset by a $5.9 million decrease in revenues in our office automation markets. During fiscal 1998, office automation sales constituted 13.2% of our total sales. Much of the decrease in our sales in office automation markets was due to our decision to focus our investments in other markets. The revenue increase in telecommunications markets is primarily due to increased sales of WDM products to JDS. The increase in light interference pigment products is primarily due to increased sales of security pigment to SICPA. GROSS PROFIT. Gross profit, as a percent of revenues, was 33.6% in fiscal 1998 compared to 34.3% in fiscal 1997. The gross margin decrease in fiscal 1998 was primarily due to the increase in sales in our telecommunications business, which have gross margins lower than our average. RESEARCH AND DEVELOPMENT. Research and development expenditures for fiscal 1998 were $17.1 million, an increase of $2.2 million, or 15.0% over research and development expenditures of $14.9 million for fiscal 1997. The fiscal 1998 increase was primarily due to product and process development for telecommunications products and for new products in the display market. SELLING AND ADMINISTRATIVE. Selling and administrative expenses for fiscal 1998 were $43.9 million, an increase of $1.1 million or 2.5% over fiscal 1997 selling and administrative expenses of $42.8 million. This increase was due to increases in legal expenses in fiscal 1998 primarily associated with a lawsuit with OCA, which was settled in the first quarter of fiscal 1999 and a patent infringement suit brought by Flex against BASF, which was settled in the fourth quarter of fiscal 1998. IMPAIRMENT LOSS. In the fourth quarter of fiscal 1998, we made the decision to dispose of MMG in order to focus more resources in other markets. Independent appraisals were made of the assets and liabilities of MMG and an impairment loss of $8.6 million was recorded to reduce the carrying amount of 29 MMG's assets to fair value, net of disposal costs on a liquidation basis. In the first quarter of fiscal 1999, we sold the operating assets of MMG at our recorded cost. RESTRUCTURING EXPENSES. During fiscal 1998, we finalized and announced to affected individuals, a plan of restructuring for our administrative and sales offices in Europe. In fiscal 1998, we recorded $586,000 of severance and exit costs associated with this plan of restructuring. AMORTIZATION OF INTANGIBLES. We recorded amortization of intangibles of $805,000 in fiscal 1998 and $936,000 in fiscal 1997, primarily resulting from amortization of goodwill for MMG. INCOME FROM OPERATIONS. As a result of the foregoing changes in revenues, gross profit and operating expenses, our income from operations in fiscal 1998 was $14.9 million compared to $15.9 million in fiscal 1997. INTEREST INCOME AND EXPENSES. Interest income was $769,000 in fiscal 1998 compared to $461,000 in fiscal 1997. Net interest expense in fiscal 1998 was $3.6 million compared to $4.0 million in fiscal 1997. Fiscal 1998 net interest expense is the result of interest incurred of $4.3 million net of interest capitalized of $697,000, compared to fiscal 1997 interest incurred of $4.2 million net of interest capitalized of $219,000. The higher amount of interest capitalized in fiscal 1998 was due to higher capital expenditures in fiscal 1998. PROVISION FOR INCOME TAXES. Our effective income tax rate was 27.7% in fiscal 1998 compared to 37.3% in fiscal 1997. The lower combined federal and state statutory tax rate in fiscal 1998 was primarily due to the recognition of for prior year losses in Germany that previously had not been recognized. In both fiscal 1998 and 1997, we recognized the benefit of state tax credits arising from the purchase of new manufacturing equipment and federal and state research credits resulting in a lower tax rate. MINORITY INTEREST. In fiscal 1998, we recorded minority interest of $1.4 million compared to minority interest of $631,000 in fiscal 1997. Minority interest represents the share of net income of Flex accruing to SICPA and the portion of the operating results of OCLI Asia attributable to our Japanese partner. During fiscal 1998, we purchased the share of the OCLI Asia owned by our Japanese partner and in fiscal 1999, we purchased SICPA's 40.0% interest in Flex. NET INCOME. We had net income of $7.3 million in fiscal 1998 compared to $7.1 million in fiscal 1997. Dividends of $250,000 in 1998 and $693,000 in fiscal 1997 were accrued on outstanding convertible redeemable preferred stock. The fiscal 1998 preferred dividend decrease was due to the conversion of the remaining shares of convertible redeemable preferred stock into 599,000 shares of our common stock during fiscal 1998. FISCAL 1997 COMPARED TO FISCAL 1996 REVENUES. Revenues for fiscal 1997 was $217.8 million, an increase of $28.6 million or 15.1% over revenues of $189.2 million for fiscal 1996. The fiscal 1997 revenue increase was primarily due to increased revenues in our telecommunications, light interference pigments and office automation markets. These revenue increases were partially offset by decreased revenues in our display and aerospace and instrumentation markets. Much of the decrease in our sales in display markets was due to our decision not to pursue a next generation product in order to focus resources into other markets. The revenue increase in our telecommunications business was primarily due to sales of WDM products to JDS. The revenue increase in our office automation markets is primarily due to better capacity utilization of our continuous coating platforms resulting in yield improvements that allow us to better compete in this market. The increase in revenues in our light interference pigment market is due to increased sales of security pigment to SICPA as 15 additional countries adopted the security ink as an anti-counterfeiting device. 30 GROSS PROFIT. Gross profit, as a percent of revenues, was 34.3% in fiscal 1997 compared to 33.0% in fiscal 1996. The gross margin improvement in fiscal 1997 was primarily due to yield improvements in our new continuous coating machines offset by higher than average material cost in the manufacture of WDM products. RESEARCH AND DEVELOPMENT. Research and development expenditures for fiscal 1997 were $14.9 million, an increase of $3.2 million, or 27.0% over research and development expenditures of $11.7 million for fiscal 1996. The fiscal 1997 increase is primarily due to increased spending of $2.2 million by Flex for the development of new products. Approximately $800,000 of the remaining increase was for product and process development for products in our telecommunications markets. SELLING AND ADMINISTRATIVE. Selling and administrative expenses for fiscal 1997 were $42.8 million, an increase of $5.7 million, or 15.3% over fiscal 1996 selling and administrative expenses of $37.1 million. This increase is primarily due to $1.4 million of increased selling and administrative expenses resulting from the establishment of OCLI Asia, $1.5 million of increased selling expenses for the introduction of new products by Flex, and a $1.1 million increase in legal expenses. The legal expense increase was primarily associated with a lawsuit with SICPA and a patent infringement suit in which we were the plaintiff. Both lawsuits were settled in November 1997. AMORTIZATION OF INTANGIBLES. We recorded amortization of intangibles of $936,000 in fiscal 1997 and $1.1 million in fiscal 1996, primarily resulting from amortization of goodwill relating to the acquisition of MMG. INCOME FROM OPERATIONS. As a result of the foregoing changes in revenues, gross profit and operating expenses, our income from operations in fiscal 1997 was $15.9 million compared to $12.4 million in fiscal 1996. INTEREST INCOME AND EXPENSE. Interest income was $461,000 in fiscal 1997 compared to $379,000 in fiscal 1996. Net interest expense in fiscal 1997 was $4.0 million compared to $3.5 million in fiscal 1996. Fiscal 1997 net interest expense is the result of interest incurred of $4.2 million net of interest capitalized of $219,000, compared to fiscal 1996 interest incurred of $4.7 million net of interest capitalized of $1.2 million. The higher amount of interest capitalized in fiscal 1996 was due to the construction of two new buildings and the installation of two new continuous coating machines. PROVISION FOR INCOME TAXES. Our effective income tax rate was 37.3% in fiscal 1997 compared to 37.0% in fiscal 1996. In both years, the lower than combined federal and state statutory effective rate was primarily due to the recognition of state tax credits arising from the purchase of new manufacturing equipment. MINORITY INTEREST. In fiscal 1997, we recorded minority interest of $631,000 compared to minority interest of $636,000 in fiscal 1996. Fiscal 1997 minority interest represents the share of net income of Flex accruing to SICPA, the 40.0% stockholder and the portion of the operating results of the OCLI Asia attributable to our Japanese partner. Fiscal 1996 minority interest represents the share of net income of Flex accruing to SICPA. NET INCOME. We had net income of $7.1 million in fiscal 1997 compared to $5.2 million in fiscal 1996. Dividends of $693,000 in fiscal 1997 and $960,000 in fiscal 1996 were accrued on outstanding convertible redeemable preferred stock. The fiscal 1997 preferred dividend decrease was due to the conversion of 5,750 shares of convertible redeemable preferred stock into 555,000 shares of our common stock during fiscal 1997. 31 QUARTERLY RESULTS OF OPERATIONS The following tables present unaudited quarterly financial information for each of the nine quarters ended January 31, 1999 and such data expressed as a percentage of revenues for the periods indicated. The information is presented on a basis consistent with the Consolidated Financial Statements included elsewhere in this prospectus and, in the opinion of management, include all adjustments consisting of normal recurring accruals, necessary for a fair presentation of the unaudited quarterly results when read in conjunction with the Consolidated Financial Statements and Notes thereto. These operating results are not necessarily indicative of results that may be expected for any subsequent periods.
THREE MONTHS ENDED ------------------------------------------------------------------------------------------------------ JANUARY 31, APRIL 30, JULY 31, OCTOBER 31, JANUARY 31, APRIL 30, JULY 31, OCTOBER 31, 1997 1997 1997 1997 1998 1998 1998 1998 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Revenues................... $ 45,720 $ 53,516 $ 59,997 $ 58,596 $ 53,373 $ 64,345 $ 67,393 $ 70,513 Cost of sales.............. 30,199 34,842 40,207 37,959 36,235 42,484 44,462 46,489 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Gross profit............. 15,521 18,674 19,790 20,637 17,138 21,861 22,931 24,024 Operating expenses: Research and development............ 2,562 3,951 3,943 4,447 3,821 4,026 4,222 5,068 Selling and administrative......... 10,266 10,782 10,774 11,014 9,488 11,171 12,131 11,136 Impairment loss.......... -- -- -- -- -- -- -- 8,628 Restructuring expenses... -- -- -- -- -- -- -- 586 Legal settlement, net.... -- -- -- -- -- -- -- -- In process research and development charges.... -- -- -- -- -- -- -- -- Amortization of intangibles............ 243 237 232 224 200 198 200 207 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Total operating expenses............... 13,071 14,970 14,949 15,685 13,509 15,395 16,553 25,625 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Income (loss) from Operations............. 2,450 3,704 4,841 4,952 3,629 6,466 6,378 (1,601) Nonoperating income (expense): Interest income.......... 175 82 78 126 84 81 117 487 Interest expense, net.... (1,052) (1,027) (1,007) (944) (808) (927) (796) (1,084) ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Income (loss) before provision for income taxes and minority interest............. 1,573 2,759 3,912 4,134 2,905 5,620 5,699 (2,198) Provision for income taxes.................... 630 1,103 1,568 1,321 1,162 2,163 2,246 (2,235) Minority interest.......... 36 143 350 102 147 408 32 764 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Net income (loss)........ 907 1,513 1,994 2,711 1,596 3,049 3,421 (727) Dividend on convertible redeemable preferred stock.................. 240 187 141 125 125 125 -- -- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Net income (loss) applicable to common stock.................... $ 667 $ 1,326 $ 1,853 $ 2,586 $ 1,471 $ 2,924 $ 3,421 $ (727) ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Net income per share, basic.................... $ 0.07 $ 0.13 $ 0.18 $ 0.25 $ 0.14 $ 0.27 $ 0.28 $ (0.06) ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Net income per share, diluted.................. $ 0.07 $ 0.13 $ 0.17 $ 0.23 $ 0.13 $ 0.25 $ 0.27 $ (0.06) ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Weighted average number of common shares used to compute basic earnings per share................ 9,777 10,069 10,372 10,541 10,625 10,903 12,009 12,061 Weighted average number of common shares used to compute diluted earnings per share................ 10,165 10,410 11,135 11,148 11,396 11,553 12,546 12,546 JANUARY 31, 1999 ----------- Revenues................... $ 69,851 Cost of sales.............. 48,632 ----------- Gross profit............. 21,219 Operating expenses: Research and development............ 4,644 Selling and administrative......... 10,193 Impairment loss.......... -- Restructuring expenses... -- Legal settlement, net.... (2,960) In process research and development charges.... 2,906 Amortization of intangibles............ 217 ----------- Total operating expenses............... 15,000 ----------- Income (loss) from Operations............. 6,219 Nonoperating income (expense): Interest income.......... 318 Interest expense, net.... (959) ----------- Income (loss) before provision for income taxes and minority interest............. 5,578 Provision for income taxes.................... 3,054 Minority interest.......... 491 ----------- Net income (loss)........ 2,033 Dividend on convertible redeemable preferred stock.................. -- ----------- Net income (loss) applicable to common stock.................... $ 2,033 ----------- ----------- Net income per share, basic.................... $ 0.17 ----------- ----------- Net income per share, diluted.................. $ 0.16 ----------- ----------- Weighted average number of common shares used to compute basic earnings per share................ 12,142 Weighted average number of common shares used to compute diluted earnings per share................ 12,868
32
THREE MONTHS ENDED ------------------------------------------------------------------------------------------------------ JANUARY 31, APRIL 30, JULY 31, OCTOBER 31, JANUARY 31, APRIL 30, JULY 31, OCTOBER 31, 1997 1997 1997 1997 1998 1998 1998 1998 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- AS A PERCENTAGE OF REVENUES: Revenues................... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of sales.............. 66.1 65.1 67.0 64.8 67.9 66.0 66.0 65.9 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Gross profit............. 33.9 34.9 33.0 35.2 32.1 34.0 34.0 34.1 Operating expenses: Research and development............ 5.6 7.4 6.6 7.6 7.2 6.3 6.3 7.2 Selling and administrative......... 22.5 20.1 18.0 18.8 17.8 17.4 18.0 15.8 Impairment loss.......... -- -- -- -- -- -- -- 12.2 Restructuring expenses... -- -- -- -- -- -- -- 0.8 Legal settlement, net.... -- -- -- -- -- -- -- -- In process research and development charges.... -- -- -- -- -- -- -- -- Amortization of intangibles............ 0.5 0.4 0.4 0.4 0.4 0.3 0.3 0.3 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Total operating expenses............. 28.6 27.9 25.0 26.8 25.4 24.0 24.6 36.3 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Income (loss) from operations............... 5.3 7.0 8.0 8.4 6.7 10.0 9.4 (2.2) Nonoperating income (expense): Interest income.......... 0.4 0.2 0.1 0.2 0.2 0.1 0.2 0.7 Interest expense, net.... (2.3) (1.9) (1.7) (1.6) (1.5) (1.4) (1.2) (1.5) ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Income before provision for income taxes and minority interest...... 3.4 5.3 6.4 7.0 5.4 8.7 8.4 (3.0) Provision for income taxes.................... 1.4 2.1 2.6 2.3 2.2 3.4 3.3 (3.2) Minority interest.......... 0.1 0.3 0.6 0.2 0.3 0.6 0.0 1.1 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Net income (loss)........ 1.9 2.9 3.2 4.5 2.9 4.7 5.1 (0.9) Dividend on convertible redeemable preferred stock.................... 0.5 0.4 0.3 0.3 0.3 0.3 -- -- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Net income (loss) applicable to common stock.................. 1.4% 2.5% 2.9% 4.2% 2.6% 4.4% 5.1% (0.9%) ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- JANUARY 31, 1999 ----------- AS A PERCENTAGE OF REVENUES: Revenues................... 100.0% Cost of sales.............. 69.6 ----------- Gross profit............. 30.4 Operating expenses: Research and development............ 6.6 Selling and administrative......... 14.6 Impairment loss.......... -- Restructuring expenses... -- Legal settlement, net.... (4.2) In process research and development charges.... 4.2 Amortization of intangibles............ 0.3 ----------- Total operating expenses............. 21.5 ----------- Income (loss) from operations............... 8.9 Nonoperating income (expense): Interest income.......... 0.5 Interest expense, net.... (1.4) ----------- Income before provision for income taxes and minority interest...... 8.0 Provision for income taxes.................... 4.4 Minority interest.......... 0.7 ----------- Net income (loss)........ 2.9 Dividend on convertible redeemable preferred stock.................... -- ----------- Net income (loss) applicable to common stock.................. 2.9% ----------- -----------
FINANCIAL CONDITION AND LIQUIDITY As of January 31, 1999 we had cash and cash equivalents totaling $14.3 million, a decrease of $26.6 million from $40.9 as of October 31, 1998. We used $30.0 million to purchase the minority interest in Flex, invested $5.1 million in plant and equipment, used $1.4 million to pay down debt, $700,000 to pay dividends and $2.4 million to purchase a portion of Flex's working capital loan from SICPA. These expenditures were offset by $12.2 million of cash generated by operations and stockholder investments of $849,000. In the first quarter of fiscal 1999, our working capital, excluding cash and short term investments, increased $4.4 million from $34.3 million to $38.7 million. This increase was primarily due to decreases to accounts payable, accrued expenses and accrued compensation expenses of $7.3 million, increases to other current assets of $4.1 million and increases to accounts receivable of $800,000 offset by increases to deferred revenue of $3.7 million and decreases to inventories of $4.0 million. The decreases to accounts payable, accrued expenses and accrued compensation expenses are primarily due to payment of year end compensation accruals, funding of our 401(k)/ESOP plan and payment of restructuring accruals. The increase in other current assets is primarily due to amounts receivable for the sale of operating assets of MMG. The accounts receivable increase is consistent with increased sales. The deferred revenue increase is primarily due to invoicing provisions for light interference pigment. Approximately half of the inventory decrease results from the sale of the MMG assets while the remainder results from higher sales in the first quarter of fiscal 1999. 33 As of October 31, 1998 we had $52.4 million in long term debt in addition to $6.0 million in current maturities of long term debt. This debt is comprised of $44.4 million in unsecured senior notes at a weighted average rate of 7.2%, $5.0 million in mortgage debt collateralized by two buildings in Santa Rosa, $3.7 million of unsecured debt financed in Germany by ABN Amro, $3.1 million related to MMG partially collateralized by land and buildings, and $2.3 million in long term capital leases. Our primary banking arrangement is with a syndicate consisting of Bank of America and ABN Amro. Through these banks as of October 31, 1998 we had executed a $20.0 million line of credit that was not utilized. In January 1999, we executed amendments to our credit agreement increasing the amount available under our revolving line of credit from $20.0 million to $40.0 million and removing the impairment loss and restructuring charges recorded in fiscal 1998 from our financial covenants. In March 1999, we replaced the credit facilities of our subsidiary in Japan with two facilities totaling approximately $10.0 million with an average interest rate of 1.5% per year. In the first quarter of fiscal 1999, demand for light interference pigment exceeded capacity, resulting in an inventory decrease of $1.0 million to satisfy excess demand. Existing backlog and projected orders at Flex are expected to fill available capacity for light interference products for the remainder of fiscal 1999. We have initiated a capacity expansion at Flex that is expected to begin production in the second half of fiscal 2000. The estimated cost of this expansion is approximately $14.0 million for which we have firm purchase commitments outstanding of approximately $5.4 million. Including commitments for the above expansion, our total capital commitments are approximately $7.4 million. We believe that the cash on hand at January 31, 1999, cash anticipated to be generated from future operations, available funds from revolving credit arrangements and our proceeds from this offering will be sufficient for us to meet our working capital, capital expenditure, acquisition and debt service requirements and dividend payments as declared for at least the next twelve months. IMPACT OF YEAR 2000 The "Year 2000" issue is the result of computer programs that were written using two digits rather than four digits to define the applicable year. If our computer programs with date-sensitive functions are not Year 2000 compliant, they may recognize a date using "00" as the Year 1900 rather than the Year 2000. This could result in system failures or miscalculations causing disruption of operations, including, among other things, a temporary inability to process transactions, send invoices or engage in similar normal business activities. We have identified our Year 2000 risk in three components: internal business software; internal non-financial software and imbedded chip technology; and external noncompliance by customers and suppliers. INTERNAL BUSINESS SOFTWARE. During fiscal 1997, as part of a business modernization program intended to reduce cycle time and improve profitability, we purchased an Enterprise Resource Planning System (ERP System) that the software vendor has indicated is Year 2000 compliant. The total estimated hardware, software and installation cost of the ERP System is $4.3 million of which $3.9 million has been spent through January 31, 1999. We are in the implementation phase for this system and other ancillary financial systems with full implementation scheduled for September 30, 1999. Based on this schedule, we expect to be in full compliance with our internal financial systems before the Year 2000. However if, due to unforeseen circumstances, the implementation is not completed on a timely basis, the Year 2000 could have a material impact on our operations. Contingency plans have been established in a few areas where we feel there is some risk that the system will not be implemented before the Year 2000. Those plans 34 include adapting some of our currently existing systems to be Year 2000 compliant. The cost of making those adaptations are not expected to be material and will be expensed in the period incurred. INTERNAL NON-FINANCIAL SOFTWARE AND IMBEDDED CHIP TECHNOLOGY. We have taken an inventory of all of our non-financial software and equipment that may be affected by the Year 2000, have identified the non-financial software and equipment that is critical to our operations and are in the process of testing the items that are critical to our operations. At this time, we estimate the cost of Year 2000 testing and remediation of our non-financial software and equipment to be approximately $350,000. If we are unable to achieve Year 2000 compliance for our major non-financial systems, the Year 2000 could have a material impact on our operations. We are currently working on contingency plans to address unforeseen issues that may arise with internal non-financial software and imbedded chip technology. Full Year 2000 compliance for our internal non-financial software and imbedded chip technology is scheduled for September 30, 1999. EXTERNAL NON-COMPLIANCE BY CUSTOMERS AND SUPPLIERS. We have identified and contacted our critical suppliers, service providers and contractors to determine the extent to which our interface systems are vulnerable to those third parties' failure to remediate their own Year 2000 issues. Over 80% of our key suppliers and third party service providers and over 50% of our key customers have indicated that they are or are expecting to achieve Year 2000 compliance by December 31, 1999. We are continuing to monitor the progress of third parties that are critical to our business, however, we cannot be assured that customers' and suppliers' representations are accurate or that they will reach Year 2000 compliance in a timely manner. If we determine that the progress of specific suppliers, service providers or contractors toward Year 2000 compliance is insufficient, we intend to change to other providers that have demonstrated Year 2000 readiness, however, we cannot be assured that we will be successful in finding such alternative suppliers, service providers and contractors. In the event that any of our significant customers and suppliers do not achieve Year 2000 compliance successfully and in a timely manner, and we are unable to replace them with new customers or alternate suppliers, our business or operations could be adversely affected. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATE RISK. Our exposure to market risk for changes in interest rates relates primarily to our cash equivalents and long term debt obligations. Cash equivalents are readily convertible to cash and have maturity dates of three months or less. Due to the short maturities of cash equivalents, carrying amounts approximate fair value. By policy, cash investments are limited to obligations of the U.S., U.K., German and Japanese governments, prime commercial paper, bank repurchase agreements collateralized by direct obligations of the U.S., U.K., German or Japanese governments and savings accounts with commercial banks. Amounts deposited with commercial banks are also limited in amount by financial institutions. We do not use derivatives or equity investments for cash investment purposes. As our long term debt obligations are at fixed rates, we do not have cash flow exposure due to rate changes on our long term debt. The fair value of our long term debt is estimated based on current interest rates offered to us for similar instruments. From time to time, we enter into interest rate swaps primarily to reduce our interest rate exposure from floating to fixed rate. In fiscal 1998, we entered into an interest rate swap for anticipated debt refinancing in the amount of $30.0 million. The purpose of the swap was to fix the reference rate for the debt at 5.7% to eliminate our exposure to interest rate fluctuations until the loan refinance was completed. The swap was designated as a hedge of an anticipated transaction. After completion of the loan refinance, $310,000 was paid under the swap that was recorded as an increase to interest expense over the term of the notes. There were no interest rate swaps outstanding on either October 31, 1998 or January 31, 1999. 35 The table below presents principal (or notional) amounts and related weighted-average interest rates by year of maturity for our cash equivalents and debt obligations as of October 31, 1998.
FAIR 1999 2000 2001 2002 2003 THEREAFTER TOTAL VALUE --------- --------- --------- --------- --------- ------------ --------- --------- (IN THOUSANDS, EXCEPT RATES) Cash equivalents Fixed rate........................ $ 38,300 -- -- -- -- -- $ 38,300 $ 38,300 Average rate...................... 4.8% -- -- -- -- -- 4.8% Long term debt Fixed rate........................ $ 6,026 $ 3,663 $ 3,533 $ 8,616 $ 6,126 $ 30,435 $ 58,399 $ 59,843 Average rate...................... 7.4% 8.0% 8.0% 7.2% 6.9% 7.0% 7.2%
FOREIGN EXCHANGE RISK. We have significant investments in Scotland and Japan. Changes in the value of those countries' currencies relative to the U.S. dollar are recorded as direct charges or credits to equity. We also have manufacturing operations in Scotland and Japan and sales presence in other European and Asian countries. A significant weakening of the currencies in Europe or Asia in relation to the U.S. dollar could reduce the reported results of those operations. In addition, a significant amount of our sales are export sales which could be subject to competitive price pressures if the U.S. dollar were to strengthen compared to the currency of foreign competitors. We do, from time to time, enter into purchase, sales or debt arrangements denominated in currencies other than our functional currency which exposes us to currency risk on open receivable and payable balances. We are also exposed to exchange risk on open intercompany balances that some of the foreign subsidiaries have with us and each other. We will, from time to time, enter into contracts to hedge those risks that we consider material. In addition to derivative contracts to hedge foreign currency risk on existing commitments, open receivables, payables and debt instruments, we may enter into interest rate swaps or similar instruments in order to reduce interest rate risk on our debt instruments. We do not enter into derivatives for trading purposes. In fiscal 1998, we entered into foreign currency forward contracts for the principal and interest payments under a $3.1 million loan that is denominated in Deutsche marks. The transaction is designated as a hedge of a foreign currency commitment. Gains and losses on the contract are recorded as a net reduction or increase to interest expense over the life of the loan. We also entered into foreign currency forward contracts for the principal and interest payments under an intercompany note receivable denominated in Pounds sterling. Gains and losses on those contracts are offset in consolidation. The following table provides information about our foreign exchange forward contracts by maturity date at October 31, 1998.
1999 2000 2001 2002 2003 THEREAFTER TOTAL --------- --------- --------- --------- --------- ----------- --------- (IN THOUSANDS, EXCEPT CONTRACT RATES) Deutsche marks: Notional amount.................................. $ 1,026 $ 995 $ 959 $ 921 $ 224 -- $ 4,124 Average contract rate (foreign currency/ USD).... 1.78 1.75 1.73 1.71 1.70 -- 1.74 Pounds sterling: Notional amount.................................. $ 374 $ 370 $ 368 $ 366 $ 365 $ 1,106 $ 2,948 Average contract rate (foreign currency/ USD).... 0.63 0.64 0.64 0.65 0.65 0.64 0.64 FAIR VALUE --------- Deutsche marks: Notional amount.................................. $ 345 Average contract rate (foreign currency/ USD).... Pounds sterling: Notional amount.................................. $ 92 Average contract rate (foreign currency/ USD)....
There have been no significant changes in market risk since October 31, 1998. 36 In June 1998, the Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which establishes accounting and reporting standards for derivative instruments and hedging activities. The statement requires balance sheet and income statement recognition of derivative transactions and provides limitations and accounting requirements for hedging instruments. The statement is effective for the first quarter of our fiscal 2000 with earlier application encouraged. As our existing derivative contracts and policies regarding the use of derivatives require that cash flows under financial derivatives match cash flows under existing firm commitments, we do not expect adoption of SFAS 133 to affect our results of operations or cash flows but, as the statement requires separate presentation of the fair value of derivative instruments, our Statement of Financial Position will be affected by adoption of the statement. 37 BUSINESS OVERVIEW Optical Coating Laboratory, Inc. (OCLI) is a worldwide leader in optical thin film coating technologies. We have leveraged our technical and manufacturing expertise, gained from over 50 years of experience developing thin film coating processes for government and industry to build a portfolio of products that incorporate high performance optical thin films used to manage light. Our products control, enhance and modify the behavior of light by utilizing its reflection, absorption, and transmission properties to achieve commercially important effects such as high reflectivity, anti-glare and spectral filtering. By integrating superior process capabilities with advanced product design we provide complete optical solutions that address a range of end-market applications in growing markets. TELECOMMUNICATIONS. We manufacture and sell optical components for fiber optic communications systems including wavelength division multiplexing (WDM) products. We also sell optical components used on satellites for solar power generation, thermal control and other functions. This market accounted for 28.8% of our revenues in fiscal 1998 and 36.0% of our revenues in the first quarter of fiscal 1999. LIGHT INTERFERENCE PIGMENTS. Through Flex, we manufacture and sell optically variable pigments used to prevent counterfeiting of the world's currencies and other value documents and for use in paints for automobiles and other consumer products. This market accounted for 17.0% of our revenues in fiscal 1998 and 20.9% of our revenues in the first quarter of fiscal 1999. DISPLAY. We manufacture and sell optical components used in cathode ray tube (CRT) displays, flat panel displays and projection display products such as large-screen projection televisions and business projection systems. We are also developing optical components for next generation computer monitors. This market accounted for 23.5% of our revenues in fiscal 1998 and 20.5% of our revenues in the first quarter of fiscal 1999. AEROSPACE AND INSTRUMENTATION. We manufacture and sell optical components, including precision polymer optics, used in defense and aerospace products, automated data collection products, and medical, scientific and analytical instruments. This market accounted for 17.5% of our revenues in fiscal 1998 and 16.0% of our revenues in the first quarter of fiscal 1999. OFFICE AUTOMATION. We manufacture and sell optical components, including precision polymer optics, for copiers, scanners, printers and other office products. This market accounted for 13.2% of our revenues in fiscal 1998 and 6.6% of our revenues in the first quarter of fiscal 1999. INDUSTRY BACKGROUND Optical thin film coatings are microscopic layers of materials, such as silicon and magnesium flouride, applied to the surface of a substrate, such as glass or plastic, to alter its optical properties. Thin film coatings control the reflection, refraction, transmission and absorption of light to achieve specific optical effects. Thin film coatings can also create electrical conductivity and enhance the durability of the surface of a substrate while maintaining the desired optical effects. These effects are achieved as a result of the optical properties, sequence, number and thickness of the thin film layers in relation to the wavelengths of light. The ability to control the behavior of light using thin films plays a critical role in many industries and products. Such control allows one to: - Combine many communications signals on a single fiber optic cable; - Provide protection for solar cells on satellites; - Create color-shifting ink pigments for currency security; - Increase the brightness and contrast of computer displays; - Create the color for projection displays; and 38 - Control high energy laser beams. [A diagram depicting light separation through a prism and a diagram showing light reflection, absorption and transmission through an optical thin film coated substrate] TELECOMMUNICATIONS The volume of data, voice and video traffic carried by telecommunication service providers has dramatically grown over the last several years. Data traffic has increased due to the escalating use of the Internet, the proliferation of bandwidth intensive applications such as distributed computing, email, electronic commerce and local and wide area networking, and the development of high bandwidth access technologies such as digital subscriber lines, known as "DSLs," and cable modems. Voice traffic has increased with the proliferation of cellular telephones. These demands have created capacity constraints on existing networks, forcing providers to seek alternatives in order to increase bandwidth and decrease cost, including expanding and enhancing both fiber optic and satellite communications systems in which optical products and processes are critical. Fiber Optics. One of the means for expanding the capacity, or bandwidth, of fiber optic cable networks is WDM. WDM increases the number of information-carrying channels an optical fiber can simultaneously transmit by combining light sources of different wavelengths, or colors, onto the same fiber optic cable. Dense WDM technology refers to the ability to transmit four or more channels on a single fiber optic cable. ElectroniCast Corporation, a research firm specializing in this market, has projected that the demand for dense WDM products will grow at a compound annual rate of 28.7% from $1.6 billion in 1998 to $12.2 billion in 2006. A dense WDM fiber optic system requires multiplexers that combine light sources at the transmission end and separate light sources at the receiving end of the system using some form of wavelength discrimination technology. ElectroniCast projects that the market for all forms of wavelength discrimination technologies used in dense WDM products will grow at a compound annual rate of 26.7% from $146.6 million in 1998 to $971.9 million in 2006. A dense WDM system also requires an erbium doped fiber amplifier (EDFA) every 60 to 100 kilometers to boost the light energy on the fiber without having to convert the light energy to an electronic signal. ElectroniCast projects that the market for EDFAs will grow at a compound annual rate of 21.3% from $714.3 million in 1998 to $3.3 billion in 2006. To date, WDM technology has been used primarily in point-to-point backbone systems by interexchange carriers. Emerging network architectures, however, are developing around the capability to switch selected wavelengths of light within and between networks in order to direct network traffic without expensive opto-electronic equipment. Expansion of optical networks into metropolitan networks is creating strong demand for a new class of products known as selectable wavelength optical add/drop multiplexers. ElectroniCast projects that this market will grow at a compound annual rate of 69.9% from $15.5 million in 1998 to $1.1 billion in 2006. Satellites. Satellite launches have increased in recent years and are expected to continue to increase, particularly as low earth orbit satellite systems are deployed to support the demand for increased communications. Satellites are powered by solar cell systems and are usually protected from harmful radiation by solar cell covers coated with optical thin films. According to Frost & Sullivan, a market research firm, satellite launches are anticipated to decline from 175 in 1999 to 157 in 2000 and are expected to increase to 283 in 2001 and 267 in 2002. In the subsequent years, satellite launches are expected to decline. LIGHT INTERFERENCE PIGMENTS Light interference pigments create unique effects such as a shift in color based on viewing angle. Currently, two major markets utilize these pigments. SECURITY. Counterfeiting constitutes a present and growing threat to the security of the world's currencies. Recently, the proliferation of high resolution color copiers, scanners and computer software has 39 made it possible for the novice to produce counterfeit bills that will pass as authentic in many environments. Additionally, political and economic uncertainty has led to the loss of confidence in local currencies in many areas and created an environment for highly sophisticated counterfeiting of high denomination substitute currencies, such as the U.S. $100 bill. In response to these threats, many governments, including the United States, have been incorporating a number of anti-counterfeiting mechanisms including color shifting ink utilizing light interference pigments. Other security applications where light interference pigments can be utilized include passports, credit cards, tax stamps, securities and brand protection. DECORATIVE. Decorative applications in the automotive paint, cosmetics, electronics and sports apparel markets all provide market opportunities for special effect pigments, such as light interference pigments, as color becomes an important distinguishing feature for brand identification. Light interference pigments can be a supplement to other paint pigments to provide special effects or a substitute for high performance organic pigments used to create color. According to IAL Consultants, a market research firm specializing in the chemical, plastics and allied process industries, the special effect or high performance pigment market, consisting of pearlescent, iridescent and metallic effects, was estimated to be approximately $544 million in 1998, and the market for high performance organic pigments was estimated to be approximately $978 million in 1998. DISPLAY Today's mainstream technologies in the display market include CRT, flat panel, and projection displays. CRT displays are currently used for most televisions and computer monitors. Factors driving demand for display technologies include: - increased demand for portable products such as laptop computers, cell phones and personal digital assistants, commonly known as "PDAs": - the need to project and display digitally formatted data; and - larger display dimensions coupled with smaller size and weight requirements. The performance of display products is highly dependent upon components utilizing optical thin film technology. CRT DISPLAYS make up the largest segment of the display market. This market is characterized by slow, but positive, unit growth and downward pricing pressure. The advantages of CRT displays traditionally have been low cost and reliability. The disadvantages of CRT display technology, which include large size, weight and power consumption, have led to the introduction of competing display technologies. FLAT PANEL DISPLAYS are used in laptop computers, global positioning systems (GPS) displays, camcorders and touch panels. This market is expected to grow with demand for these products. Growth is also expected as large flat panel displays supplant computer CRT displays for use in many applications. Flat panel displays offer the advantage of reduced size and weight for the same viewing area, but are more expensive than CRT displays. PROJECTION DISPLAYS consist of two major market segments--large screen consumer projection television sets and projection systems for business applications. The demand for projection displays is increasing due to large screen size capability with favorable overall size and weight characteristics as compared to CRTs. The cost of these systems is quite high, however, relative to the cost of CRT-based display systems. As projection display systems decrease in cost, the market for these products is anticipated to grow more rapidly. The total market for projection displays is estimated to grow at a compound annual rate of 8.4% from $7.2 billion in 1998 to $11.7 billion in 2004 according to Stanford Resources, Inc., a market research firm. Of this market, the segment for rear projection displays utilizing reflective liquid crystal displays (LCDs) is projected by Stanford Resources to have a compound annual growth rate of 46.0% from $90.4 million in 1998 to $876.2 million in 2004. We believe that these figures do not include the potential application of large size monitors for use as desktop displays. 40 AEROSPACE AND INSTRUMENTATION The aerospace and instrumentation markets require sophisticated, high-precision coated products and optical components that selectively absorb, transmit or reflect light in order to meet the specific performance requirements of advanced scientific systems. These high-precision coated products and optical components are used in aerospace systems, and medical, scientific and analytical instruments, manufacturing process control instruments, and bar code scanners. OFFICE AUTOMATION The office automation market includes photoreceptors and front surface mirrors for photocopiers, document scanners, overhead projectors, facsimile machines, printers, and precision molded plastic optical components used in scanners and printers. OUR ADVANTAGE As a pioneer in light management, we are well positioned to take advantage of the increasing need for optical products and solutions in growth markets. The key to our success is superior thin film deposition and product design technologies and the ability to apply these technologies to our customers' needs. We have 50 years experience in innovating and developing thin film designs and process technologies used to create optical solutions. We focus on high performance processes that rely on internally designed machinery and process monitoring equipment. We devote significant resources to research and development of new processes and new products that incorporate our optical thin film capabilities. Our reputation and commitment to superior optical technology allows us to attract and retain both a strong customer base and the most qualified personnel in the industry. OUR STRATEGY Our goal is to be the leading supplier of high performance optical products. Key elements of our strategy are: CAPITALIZE ON OPTICAL EXPERTISE TO DESIGN AND DEVELOP PRODUCTS. We capitalize on our expertise in thin film technology and process design in order to develop high quality optical products. We accomplish this by continuing to focus our research and development efforts on both product development as well as our core thin film and process technology. In addition, we will continue to integrate the optical design and thin film design of a product with a focus on low cost manufacturing. This approach allows us to design and build products that have the ability to gain wide market acceptance. FOCUS ON SELECTED LARGE AND GROWING COMMERCIAL MARKETS. Light management technology is applicable across a wide range of potential market applications. We currently focus on the telecommunications, light interference pigments and projection display markets because they all require sophisticated optical components and offer the opportunity for high growth. We will continue to focus on selected commercial markets that represent our best opportunity for growth. LEVERAGE STRATEGIC ALLIANCES. One of our key success factors is the capability to rapidly and efficiently develop, manufacture and distribute products. We currently have developed strategic alliances with JDS in the fiber optic telecommunications market and SICPA in the security ink market. We will continue to evaluate potential strategic alliances to minimize time to market for our products. ENHANCE MANUFACTURING EFFICIENCY. We will continue to invest in the development of high volume, low cost manufacturing capability. Because assembly operations are subject to high labor costs, we will focus on the design and development of products adaptable to manufacturing automation. Also, we will continue to have a strong focus on operational excellence through our Factory Overall Efficiency programs, which measure overall costs and target continuous improvements. EXPAND INTERNATIONAL PRESENCE. We will continue to expand our presence in Asia and Europe by focusing more sales, product development resources and manufacturing capabilities in these areas. By 41 locating these resources closer to our customers in Asia and Europe, we expect to improve our penetration in those markets. PURSUE STRATEGIC ACQUISITIONS. In February 1999, we acquired OPKOR, a complementary precision polymer optics company that provides improved optical design capability, capacity expansion and technology as well as products in new markets such as biometrics and projection lenses. We intend to selectively pursue acquisitions that enhance our position as a leading high performance optical products company. We expect these acquisitions to provide enabling technology or directly expand our product portfolio. STRATEGIC ALLIANCES JDS. In February 1997, we entered into an alliance with JDS, a leading fiber optic component company, in order to capitalize on the rapidly growing market for WDM products. The alliance involves long term supply and distribution contracts under which we contribute our expertise to provide wavelength discrimination technologies for specified WDM products and JDS contributes its expertise in the design, packaging and marketing of those products. The JDS alliance includes one agreement, where we contract with JDS for the design, packaging and assembly of certain WDM products, and a second agreement, where we sell the WDM products to JDS for marketing and distribution. Both agreements are exclusive except under certain circumstances where wavelength discrimination devices or assembly services are not available within our alliance at industry competitive prices. We share in the profits and losses generated by the alliance. SICPA. In 1986, we began supplying light interference pigments to SICPA, a leading supplier of inks used in the printing of value documents, most notably currency, in order to capitalize on the use of our pigments as an anti-counterfeiting measure. SICPA uses our pigments to make optically variable ink. Through SICPA's relationships with government currency printing agencies and central banks, our proprietary light interference pigments have been introduced as one of the most effective means of preventing counterfeiting. We currently have a long term exclusive license and product supply contract with SICPA extending through 2009 for specified applications of our light interference pigment in the security market. The contract has minimum and maximum "take or pay" purchase requirements as well as firm pricing. TECHNOLOGY AND PRODUCTS TELECOMMUNICATIONS The representation below depicts the major components of a WDM network. Products manufactured by us are indicated. [The graphic depicts a schematic of a wavelength division multiplexing system containing an Erbium Doped Fiber Amplifier. The components manufactured or packaged by OCLI are labeled.] Fiber Optics - DENSE WAVELENGTH DIVISION MULTIPLEXING COMPONENTS. In our alliance with JDS, we combine our resources to provide dense WDM components for the fiber optic communications market. These products allow the simultaneous transmission of multiple channels of information through a single fiber. Our dense WDM components enable the integration and segregation of discrete wavelengths of light, each of which carries separate channels of information. - ERBIUM DOPED FIBER AMPLIFIER (EDFA) WDM COMPONENTS. EDFAs are typically located every 60 to 100 kilometers in a fiber optic network and can contain a number of WDM components, including band splitters that we provide as part of our JDS alliance. - GAIN FLATTENING COMPONENTS. The amplification of signals in an EDFA is not inherently uniform across the amplifier bandwidth. Fiber optic components typically utilizing gain flattening thin film technology are used to equalize WDM amplifier gain. Typically, EDFAs 42 contain pairs of gain flattening filters designed to provide this uniformity, which is critical for optimum network performance. Utilizing our superior thin film processes, we have recently introduced a single element gain flattening filter which performs the same function as the paired filters and simplifies EDFA assembly. We are now offering these components as part of our JDS alliance. - WAVELENGTH LOCKING FILTERS. Wavelength locking filters are utilized to stabilize the transmitting laser at the desired wavelength. These filters ensure that the wavelength desired for that particular channel of information is distinct from other wavelengths. The accuracy of such components ultimately determines how dense the spacing can be between channels and therefore the total capacity of the WDM system. - RECONFIGURABLE ADD/DROP MULTIPLEXER. As "point-to-point" dense WDM systems develop into more complete fiber optic networks, it becomes advantageous to enable the adding or dropping of certain wavelengths onto other network nodes to selectively direct traffic without expensive electronic equipment. Our recently introduced MicroNode-TM- Wavelength Selective Switch, a three port optical switch utilizing thin film technology and a proprietary micro-mechanical high speed switch, will enable this capability when fully commercialized. Satellites - SOLAR CELL COVERS. We produce solar cell covers by coating ultra-thin glass that protect and enhance photovoltaic cells used for satellite power. The thin film coatings protect against undesirable effects of the sun. The covers are durable enough to withstand the effects of space debris. - THERMAL CONTROL MIRRORS. We manufacture thermal control mirrors that are mounted on satellites to minimize solar heating of the satellite instrumentation. LIGHT INTERFERENCE PIGMENTS Security Our OVP-TM- product is a light interference pigment which allows ink to exhibit different colors from different viewing angles. This pigment is produced on machinery and processes designed by Flex. Flex is the only supplier of this product and enjoys a long-term supply and distribution contract with SICPA. Our OVP-TM- product is being used on the currencies of more than 50 countries, and is on the U.S. $100, $50 and $20 denominations. [The graphic depicts a cross-section of a light interference pigment flake] Decorative Our Chromaflair-Registered Trademark- product utilizes the same manufacturing processes as our OVP-TM- security product, but is designed to have certain color characteristics that make it attractive for applications in paints, cosmetics and plastics. Our pigments create a durable color shifting finish when used in these applications. Our Chromaflair-Registered Trademark- product has been most recently featured as a paint option on selected Nissan automobiles in Europe. Chromaflair-Registered Trademark- product is also available through most paint companies in the automobile refinish market. While its primary design application currently is for the automotive paint market, Chromaflair-Registered Trademark- product has also been used on consumer products such as Nokia cell phones, Sony portable CD players, Motorola pagers and Nike shoes. DISPLAY CRT Display We produce a broad line of high performance optical glass filters for display applications. These filters are sold under the brand name Glare/Guard-Registered Trademark- and are delivered as custom manufactured products on a private label basis to other brands such as Kensington and ACCO. 43 Flat Panel Display We have developed a product line for LCD flat panel displays, which manages the reflectance of the screen and enhances color contrast and brightness. This product is utilized on high quality flat panel display products for the desktop as well as products that are used outdoors and require an anti-glare treatment such as GPS and video camcorders. Projection Display We manufacture the following components that can be used as part of the optical engine for projection display systems: - PHILIPS PRISMS manage the color creation in systems utilizing multi-reflective LCD technology; - POLARIZING BEAM SPLITTERS manage the light beam for reflective LCD systems; - DICHROICS AND COLOR WHEELS are used to create the color in systems that utilize a single imager; - PROJECTION LENSES combine precision polymer optics and traditional glass elements to project a high quality image; - OPTICAL WINDOWS, which we coat and assemble for Texas Instruments' DMD chip, to enhance the projected image; and - HIGHLY REFLECTIVE MIRROR PRODUCTS reflect the optical image in a manner that optimizes brightness and image quality. AEROSPACE AND INSTRUMENTATION We make a broad array of products to support the aerospace and instrumentation markets. These include wavelength infrared components, beam splitters and optical sensors for aerospace applications, optical engine components for bar-code scanners, optical filters for medical instruments and dichroic filters for stage lighting. OFFICE AUTOMATION We produce numerous products for the office automation market including mirrors for copiers and multi-function devices, sensors for printers, biometric fingerprint optics for device security, and camera lenses for video conferencing applications. CUSTOMERS We provide a wide range of products to a broad range of customers. Our top ten customers accounted for 54.8% of our revenues in fiscal 1998, with JDS accounting for 21.1% of our revenues and SICPA accounting for 13.9%. Of our total revenues in the first quarter of fiscal 1999, JDS accounted for approximately 31.1% and SICPA accounted for approximately 18.3%. SICPA was our largest customer in fiscal 1997 and 1996, accounting for 14.0% of our revenues in fiscal 1997 and 12.7% of our revenues in fiscal 1996. No other customer accounted for more than 10.0% of our revenues in fiscal 1996, 1997 or 1998 44 or the first quarter of fiscal 1999. Below is a list of our two largest customers by revenue for each market in fiscal 1998. FIBER OPTICS DISPLAY JDS FITEL, Inc. Texas Instruments Incorporated Uniphase Corporation Toshiba America, Inc. SATELLITES AEROSPACE AND INSTRUMENTATION Hughes Space and Communication Hewlett-Packard Company Company Solectron Corporation Lockheed Martin Corporation LIGHT INTERFERENCE PIGMENTS OFFICE AUTOMATION SICPA Holding S.A. Hewlett-Packard Company E. I. DuPont de Nemours and Xerox Corporation Company, Inc.
SALES AND MARKETING We sell our products directly to OEMs, distributors and our strategic partners. Our sales organizations communicate directly with customers' engineering, manufacturing and purchasing personnel in determining the design, performance and cost specifications for customer product requirements. Our sales force is divided into three distinct groups. We utilize specialized, highly technical sales forces to sell our fiber optics and light interference pigment products. Our satellite, display, aerospace and instrumentation and office automation products are sold through our corporate sales organization. We market and sell these products directly to OEMs, with the exception of our Glare/Guard-Registered Trademark- product line, which is marketed through distributors and dealers directly to end-users. We have regional sales offices in several major cities throughout the United States and in Germany, France and the United Kingdom. In Japan and other Asian countries, we have established sales representative offices to provide more integrated marketing and sales support in these regions. We sell specified WDM components to JDS as part of our strategic alliance. We sell our other fiber optic products such as our MicroNode-TM- switch through our specialized fiber optics sales force. Light interference pigments for the security market are sold exclusively to SICPA pursuant to a long term supply agreement. ChromaFlair-Registered Trademark- light interference pigments are sold through our technical sales organization within Flex. COMPETITION We believe our ability to compete successfully in our markets depends on a number of factors, both within and outside of our control, including: - the price, quality and performance of our products; - the emergence of new optical standards; - the ability to maintain adequate coating capacity and sources of raw materials; - the efficiency of our manufacturing and production; - the rate at which customers design our products into their products; - the number and nature of our competitors in a given market; - the assertion of intellectual property rights; and 45 - general market and economic conditions. We attempt to position ourself as either the exclusive or principal supplier to most of our key customers. To the extent competitors offer similar products to our customers, pricing pressure may result. When we are unable to differentiate our product offerings, competition and related pressure on profit margins can be intense. In most of the markets in which we compete, many competitors have significantly greater financial, technical, marketing and other resources, greater name recognition and a larger installed base of customers. In the fiber optic telecommunications market, we face competition from E-Tek Dynamics and DiCon Fiberoptics, as well as other WDM component vendors. In the optical switch market, we compete with these same companies and potentially with JDS, our strategic partner for our WDM business. In the satellite products market, we face competition from Pilkington Aerospace. In the security market, we face competition from alternative anti-counterfeiting devices such as holograms, embedded threads and watermarks. In the decorative market, we face competition from providers of lower cost, lower performance special effect pigments such as BASF and Merck KGaA. These companies are also some of our most important customers for our ChromaFlair-Registered Trademark- product. We have a large number of domestic and foreign competitors for our Glare/Guard-Registered Trademark- anti-glare optical filters. Companies that purchase coated glass and assemble and sell filters in competition with us include Fellowes, Polaroid, ACCO and 3M. Certain of these companies purchase private label products from us for resale in competition with our Glare/Guard-Registered Trademark- product line. In the flat panel display market, we face competition from Japanese coating companies such as Nidek, Toppan and Tore. In projection display components, our competition includes Viratec, Balzers, Nitto Optical, Nikon and Fuji Photo-Optical. MANUFACTURING We have developed many proprietary thin film coating processes and have designed, fabricated or significantly customized most of the coating equipment we use in production. This includes our continuous coaters, batch coaters and high speed roll-to-roll coaters. We believe our ability to design and build this specialized equipment and our ability to develop proprietary process technologies have been important factors in enabling us to compete successfully. Consequently, we maintain an extensive array of thin film coating, glass fabrication and metrology equipment to meet customer requirements for coated products and fabricated glass components. We employ batch coating by evaporation and batch coating by reactive metal mode sputtering as proprietary processes. We employ similar evaporation and sputtering processes in our continuous, in-line coating systems. Flex also employs proprietary evaporation and sputtering processes in our high-speed, roll-to-roll coating systems. We have extensive auxiliary material preparation and glass fabrication equipment in place which allow us to produce a broad array of glass and plastic products for a wide variety of applications. We currently face capacity constraints that have slowed our ability to further penetrate the light interference pigment market. We are building another production line which will increase our capacity to manufacture pigment by approximately 50%. This production line is expected to begin operation in the middle of 2000. Flex also has a roll-to-roll coating machine that is devoted to the manufacture of window film exclusively for 3M under a long-term "take-or-pay" contract. We are continuing to increase capacity by focusing on manufacturing improvement programs such as our Factory Overall Efficiency program and are actively building capital equipment for WDM products and projection display components. We have developed and procured extensive state-of-the-art metrology and test equipment to allow testing and verification of technological and performance characteristics of our products. This capability, including the expertise of our scientific and technical staff to develop and design specific thin 46 film coatings to meet a customer's application requirements, is frequently a critical factor used by customers in selecting us as a supplier. SUPPLIERS The primary raw materials used in our coating and manufacturing operations are various forms of glass, fused silica, inorganic coating materials such as magnesium fluoride, silicon dioxide, aluminum or germanium, and several types of polymers. Although we have more than one supplier for each of our raw materials, we occasionally enter into single source supply arrangements in order to obtain favorable pricing and service concessions. For example, we purchase special grade flat glass under long-term arrangements from one major U.S. glass supplier. We have not experienced any significant interruptions in production due to a shortage of raw material. Substrate materials are purchased by us or supplied by customers. Coating materials and their composition are generally supplied by us as they are often considered a proprietary element of the manufacturing process. RESEARCH AND DEVELOPMENT We devote substantial resources to research and development in order to develop new, and improve existing, thin film products, processes and manufacturing equipment. As a result, we have developed a technological leadership position in the thin film coatings industry, and customers rely on our thin film integration services expertise and our products. The majority of our current research and development activities are devoted to telecommunications products and light interference pigments. We are developing new WDM products and processes to expand the information carrying capability of fiber optic communication networks. We continue to advance the standard in manufacturing extremely high precision interference coating deposition technology. We also devote significant effort to the continued development of our reconfigurable add/drop switch products as well as other components targeted toward the telecommunications market. Flex focuses much of its research and development efforts on developing more economical and commercially suitable light interference pigments. We have worked with several major pigment manufacturing companies in programs designed to develop lower cost light interference pigments that would allow us to more rapidly penetrate the large special effect pigment market. Currently, we are focusing our development efforts with one such company where we are engaged in a joint research and development program designed to create a new, lower cost light interference pigment. This relationship could evolve into an alliance designed to rapidly commercialize the resulting technology. Our research and development efforts also include: - Color separation filters and various components for optical systems; - Optical systems and thin film design capabilities for the telecommunications, display and instrumentation markets; - Coating processes for optical components to meet high component volume requirements; - High yield processes for complex coatings and high volume assembly capabilities; and - Reduction of coating and cleaning materials that may be hazardous to the environment. As of January 31, 1999, we had 158 technical employees, including 87 engineers with advanced degrees, 53 of whom have a Ph.D. These technical employees have expertise in high performance optical products, especially for those products and applications that rely on high precision thin-film optical interference filters. Our research and development expenditures totaled $11.7 million or 6.2% of revenues in fiscal 1996, $14.9 million or 6.8% of revenues in fiscal 1997, $17.1 million or 6.7% of revenues in fiscal 1998, 47 $3.8 million or 7.2% of revenues in the first quarter of fiscal 1998 and $4.6 million or 6.6% of revenues in the first quarter of fiscal 1999. PATENTS AND LICENSES Our success and ability to compete are significantly dependent on our proprietary technology. We rely on a combination of patent, trade secret, copyright and trademark laws and contractual restrictions to establish and protect proprietary rights in our products. We have entered into confidentiality and invention assignment agreements with our employees and we enter into non-disclosure agreements with some of our suppliers, distributors and customers so as to limit access to and disclosure of our proprietary information. We believe our proprietary technology, our trade secrets and our patents are of considerable value to our business. We believe that our patents demonstrate and support our technological leadership position, safeguard our competitive position and support existing and potential sales volume. As of April 15, 1999, OCLI and Flex together had 105 patents and 48 patent applications pending in the United States that cover processes, products and production equipment. We also have patents and patent applications pending in various foreign countries covering the same technology. Expiration dates for our various patents range from 1999 to 2017. We believe that our patented MetaMode-Registered Trademark- reactive sputtering technology provides us with an important competitive advantage in manufacturing many of our products. Patents expiring in fiscal years 1999 through 2001 do not encompass technologies in which we enjoy a competitive advantage. We therefore do not expect expiration of those patents to materially affect our results of operations or financial condition. We selectively license our coating technology to other companies, primarily for integrated, mass production applications that we would not otherwise be able to provide as a manufacturer in the ordinary course of our business. During each of the past five years, these licenses, together with sales of equipment built for licensees in support of the licenses, have not constituted greater than 10.0% of our consolidated revenues. BACKLOG Backlog consists of new orders on which shipments have not yet started or unfilled portions of orders that are only partly completed. Some of these orders are completed within several days of receipt, while others are not completed for a number of months. Substantially all orders included in backlog are subject to cancellation without penalty; however, we generally have not experienced significant order cancellations. Contractually specified delivery dates on orders sometimes are adjusted at the request of either the customer or us. Our backlog of orders was $78.7 million as of January 31, 1999 and $64.9 million as of January 31, 1998. Substantially all orders in backlog at January 31, 1999 are scheduled for shipment during fiscal 1999. The amount of backlog at January 31, 1999 represents only a portion of anticipated sales in 1999, with new orders historically comprising the major portion of sales in a fiscal year. Flex has multi-year supply contracts with two customers that include annual buy requirements with "take or pay" provisions. It is the practice of Flex to only include specifically scheduled shipment releases under these contracts in reported backlog. INTERNATIONAL AND DOMESTIC SALES Revenues generated by sales to Canada have increased from 9.0% in fiscal 1997 to 21.3% in fiscal 1998 and 32.5% in the first quarter of fiscal 1999 reflecting the growth in telecommunications sales from our alliance with JDS. Revenues generated by sales within the U.S. represented 43.8% of our total revenues in fiscal 1997, 41.3% in fiscal 1998 and 31.9% in the first quarter of fiscal 1999, the decline again reflecting the faster growth in sales of telecommunications products to Canada. Revenues from sales to Europe and Asia also declined as a percentage of our total revenues from 47.2% in fiscal 1997 to 37.4% in fiscal 1998 and 35.6% in the first quarter of fiscal 1999 due to growing sales of telecommunications products to Canada. See Note 14 of Notes to Consolidated Financial Statements. 48 PROPERTIES Our corporate headquarters and principal manufacturing and research and development facilities are located on a Company-owned campus in Santa Rosa, California. The site consists of approximately 75 acres of land of which approximately 53 acres are occupied by existing operations, with the remaining 22 acres currently held available for development or sale. The site is within an industrial park area and is served by well-developed road access and utilities. In addition, we lease offices for our sales personnel located in various cities in the U.S., Europe and Asia. The following table sets forth certain information concerning our principal facilities.
NO. OF LEASED/ TOTAL SQ. SITE LOCATION BUILDINGS OWNED FT. (ACRES) USE - ------------- --------------- ----------- --------- ----------- --------------------------------- Santa Rosa, 13 Owned 490,000 75 Optical Coating Laboratory, Inc. CA and Flex Products, Inc. corporate offices, manufacturing, engineering and research and development facilities Santa Rosa, 1 Leased 23,000 -- Precision polymer optics CA administrative offices and manufacturing facilities Santa Rosa, 7 Leased 70,000 -- Warehousing, research and CA development, and miscellaneous facilities Hillend, 1 Owned 56,000 16 OCLI Optical Coating Laboratory, Scotland Ltd. administrative offices, manufacturing and research and development facilities Hillend, 1 Leased 9,000 -- OCLI Optical Coating Laboratory, Scotland Ltd. warehousing Atsugi, Japan 1 Leased 18,000 -- OCLI Asia K.K. manufacturing facilities Tokyo, Japan 1 Leased 3,000 -- OCLI Asia K.K. administrative offices Rochester, NY 1 Leased 33,000 -- OPKOR Inc. administrative and manufacturing facilities
Until November 1998, MMG occupied two manufacturing buildings and two office buildings in Goslar, Germany. In November 1998, the manufacturing buildings and one of the office buildings were sold and the other office building is being held for sale. Management believes that our facilities are adequate for our current level of business and our near-term growth requirements. EMPLOYEES As of January 31, 1999, we had 1,411 employees of whom 1,263 were employed domestically; 114 were employed by our operations in Hillend, Scotland; 12 were employed in our sales and administrative offices in Europe and 22 were employed by OCLI Asia in Japan. As of January 31, 1999, there were 122 employees assigned to research and development projects, 1,098 assigned to manufacturing, 65 employees in sales and marketing and 126 employees in finance and administration. We have not experienced a work stoppage due to labor difficulties. We believe our employee relations are good. None of our employees are subject to collective bargaining agreements. 49 LEGAL PROCEEDINGS Over the past several years, we have been engaged in litigation in the United Kingdom involving infringement of our patent by Pilkington PE Limited and Pilkington plc. We won our action at the Patents County Courts level but lost on appeal to the U.K. House of Lords. In October 1998, we settled the claim for approximately $850,000, most of which had been accrued in previous periods. In March 1997, OCA and certain of its directors and officers commenced suit against us in the Superior Court of Middlesex County, Commonwealth of Massachusetts. The complaint arose out of a letter of intent executed by us and OCA in March 1996 and an ensuing merger agreement executed by us and OCA in June 1996. Under the merger agreement, we would have acquired OCA. The complaint sought damages for costs and expenses incurred by OCA in pursuing the merger transaction with us. OCA alleged that we made negligent misrepresentations to OCA and certain of OCA's affiliates, and that we breached our letter of intent. We filed counterclaims against OCA and certain of OCA's affiliates based on OCA's breach of the merger agreement and sought damages based on the difference between the value of OCA's business to us and the agreed upon purchase price under the merger agreement. In January 1999, we, OCA and certain of its affiliates settled the litigation. Settlement proceeds to OCLI, net of applicable legal expenses, approximated $3.0 million, which was recorded as a reduction to operating expenses in the first quarter of fiscal 1999. In addition to the cash proceeds, the settlement allowed for us to receive $1.0 million in business transaction value through product purchase discounts, purchase of our products over a period not to exceed three years or some other mutually determined method. Future business opportunities, not expected to affect our results over the next twelve months, were also included in the agreement. In July 1996, SICPA filed a lawsuit in Delaware Chancery Court in order to block a proposed financing by Flex arguing that such a transaction without SICPA's consent was prohibited by Flex's certificate of incorporation, as well as by certain contractual provisions between us and SICPA. In fiscal 1998, we announced that we had completed final negotiations for the settlement of the litigation with SICPA. Under the terms of the settlement, we and SICPA agreed to modify our co-ownership agreement to enable us to more effectively manage the day-to-day operations of Flex, to allow for public financing of Flex's operations and to modify the license and supply agreement between Flex and SICPA. The modification to the license and supply agreement provided for more attractive scheduled pricing discounts on higher volume purchases and changed the scheduled order patterns to be consistent with our fiscal quarters. In addition, we purchased $2.6 million of Flex's working capital loans from SICPA. In December 1998 we purchased SICPA's 40.0% interest in Flex and remaining working capital loans. In 1997, Flex filed a suit in United States District Court for the Eastern District of Michigan alleging that BASF Corporation and BASF AG infringed Flex's patents covering optically variable thin film flakes which, when mixed with paints and inks, produce color shifting visual properties. The complaint requested that the court enjoin BASF from importing, making, using, selling or offering to sell the infringing pigment in the United States. The complaint also sought damages for the infringement, including treble damages if the infringement was intentional. In October 1998, a settlement agreement was reached between Flex and BASF under which Flex has agreed to allow BASF to make, use and sell two specific forms of a special effects pigment for use within limited application fields in exchange for a series of payments to be based upon BASF's revenues on the sale of those pigments. 50 MANAGEMENT The following table sets forth certain information of the directors and executive officers of OCLI as of April 15, 1999:
NAME AGE POSITION - ------------------------------- --- ------------------------------------------------------ Charles J. Abbe................ 58 President, Chief Executive Officer and Director Craig B. Collins............... 44 Vice President, Finance and Chief Financial Officer Michael J. Cumbo............... 39 Vice President and Chief Technical Officer Michael A. Kasper.............. 48 Vice President and General Manager, Aerospace & Instrumentation Division Stephen E. Myers............... 51 Vice President and General Manager, Information Industries Division Kenneth D. Pietrelli........... 50 Vice President, Corporate Services James W. Seeser, Ph.D.......... 55 Vice President Glenn K. Yamamoto.............. 47 Vice President and General Manager, Telecommunications Division Vice President, Legal Counsel and Corporate Secretary Joseph Zils.................... 44 of OCLI, and President and Chief Financial Officer of Flex Herbert M. Dwight, Jr.......... 68 Chairman of the Board of Directors Douglas C. Chance(1)........... 56 Director Shoei Kataoka, D.Sc., Dr. Eng.......................... 69 Director John McCullough................ 65 Director Julian Schroeder(1)............ 51 Director Renn Zaphiropoulos(1).......... 72 Director
- ------------------------ (1) Member of the Audit Committee and Compensation and Stock Option Committee. CHARLES J. ABBE has served as our Chief Executive Officer since April 1998 and as our President and Director since November 1997. From April 1996 to November 1997, Mr. Abbe served as Vice President and General Manager of our Santa Rosa division. From 1989 to 1996, Mr. Abbe was employed by the Raychem Corporation, a diversified electronics manufacturing company, in various senior management positions. CRAIG B. COLLINS has served as our Vice President, Finance and Chief Financial Officer, since September 1997. Prior to joining us, Mr. Collins served as Senior Vice President, Finance and Chief Financial Officer from 1993 to 1996 and in various senior management positions with Nestle Beverage Company, a consumer products company, since 1984. MICHAEL J. CUMBO, PH.D., has served as our Vice President and Chief Technical Officer since April 1999. Dr. Cumbo joined us as a Senior Research Engineer in March 1995 and managed our corporate research department from April 1996 to February 1997. Prior to joining OCLI, Dr. Cumbo spent seven years as a principal optical engineer at Bausch & Lomb Incorporated, an optical products company. MICHAEL A. KASPER has served as our Vice President and General Manager of our aerospace and instrumentation division since December 1997. Prior to that, he served as our Director of Operations from February 1996 to November 1997. Prior to joining us, Mr. Kasper served in various manufacturing engineering and materials management positions with Proctor & Gamble, a consumer products company, from 1972 to 1996. STEPHEN E. MYERS has served as our Director of Information Industries Business Unit since July 1996. In December 1997, Mr. Myers became Vice President and General Manager of our information 51 industries division. Prior to joining us, Mr. Myers served in various operations and finance management positions with Raychem Corporation from 1978. KENNETH D. PIETRELLI has served as our Vice President of Corporate Services since June 1993. Prior to that, he served as our Corporate Materials Manager from 1980. JAMES W. SEESER, PH.D., joined us in 1983 and has served as our Vice President since 1989. From November 1993 to March 1999, Dr. Seeser served as Chief Technical Officer. GLENN K. YAMAMOTO has served as our Vice President and General Manager of our telecommunications division since December 1997. Mr. Yamamoto joined us in 1973 and has held various product lines sales and manufacturing management positions. JOSEPH ZILS has served as the President and Chief Financial Officer of Flex and our Legal Counsel since November 1997. Mr. Zils also served as Vice President, General Counsel and Corporate Secretary for OCLI since 1993. Mr. Zils joined OCLI in 1989 as Corporate Counsel and Director of Contracts. HERBERT M. DWIGHT, JR. has served as Chairman of the Board of OCLI since August 1991. He served as our President from August 1991 to November 1997 and as Chief Executive Officer from August 1991 to April 1998. From December 1993 to April 1995, Mr. Dwight also served as Chief Financial Officer. Mr. Dwight was Chairman, President and Chief Executive Officer of Superconductor Technologies, Inc., a telecommunications technology company, from 1988 through August 1991 and continued to serve as Chairman from 1991 until May 1994. Mr. Dwight is also a director of Applied Materials, Inc., Applied Magnetics Corporation and Advanced Fiber Communications, Inc. DOUGLAS C. CHANCE has served as a director of OCLI since April 1973. He has served as President and Chief Executive Officer of Wyse Technology since November 1994. Mr. Chance served as President, Chief Executive Officer and director of Octel Communications Corporation, a telecommunications products company, from October 1990 to November 1993 and as a consultant and director of Octel from November 1993 until November 1994. Mr. Chance is also a director of Centigram Communications Corporation. SHOEI KATAOKA, D.SC., DR.ENG., has served as a director of OCLI since April 1998. He has served as an outside consultant for Sharp Electronics Corporation, a consumer electronics products company, in Japan since October 1998 Dr. Kataoka joined Sharp in 1985 and held various senior level management and technical positions most recently as corporate consultant and Executive Director and Division Manager of the Tokyo Branch. He is also Chairman of the TC100 (multi-media) of the Electronics Industries Association of Japan. JOHN MCCULLOUGH has served as a director of OCLI initially from 1959 to 1967 and subsequently since April 1985. He has been associated with OCLI in various capacities since 1958. He retired in April 1998 as a Vice President of OCLI, a position he held since February 1992. JULIAN SCHROEDER has served as a director of OCLI since April 1989. Since March 1997, he has served as a Managing Director of the high yield department, international research, for Schroder & Co., Inc., an investment banking company. Mr. Schroeder was President, Chief Executive Officer and director of research of BDS Securities Corporation, a financial consulting company, from 1995 to 1997. He served as Vice President, Corporate Finance of BDS Securities from March 1989 to May 1995. Mr. Schroeder is also a director of Versus Technology. RENN ZAPHIROPOULOS has served as a director of OCLI since April 1988. Mr. Zaphiropoulos is also a retired corporate vice president of Xerox Corporation, an office products and services company, where he served from 1984 to 1988. Mr. Zaphiropoulos currently serves on the board of directors of Osicom Technologies, Inc. and CalComp Technology, Inc. He also is a director of numerous private companies. 52 CERTAIN TRANSACTIONS Our subsidiary in Germany, OCLI Optical Coating Laboratory GmbH, is located in an office suite in Reinheim, Germany, that is leased by Mr. Klaus F. Derge, our former Vice President, Europe, for Mr. Derge's personal business use. We utilize the office space and pay Mr. Derge for its occupancy and for office services. Under this arrangement, we paid Mr. Derge approximately $99,000 in fiscal 1998. It is our opinion that the terms of this arrangement are as fair as could have been obtained from unaffiliated persons. During fiscal 1998, Herbert M. Dwight, Jr., our Chairman of the Board and former Chief Executive Officer exercised options totaling 770,666 shares of our common stock and turned in 117,296 shares for payment of withholding taxes. The $5.8 million exercise price of the options was paid with a full recourse promissory note to us that was repaid, with interest at 7.5%, in fiscal 1998. We have entered into indemnification agreements with each of our directors and officers. The agreements require us to indemnify the directors and officers to the full extent permitted by Delaware law if certain claims are brought against them in their capacities with us. Effective November 20, 1997, we entered into change in control agreements with our executive officers. Similar agreements have been in effect since fiscal 1987. The agreements have a two-year term from November 20, 1997 to November 20, 1999. All of our executive officers, with the exception of Mr. McCullough, are currently covered by these agreements. The agreements, among other things, provide that the executive officer has the right to terminate his employment at any time during the period beginning three months after the occurrence of a "Change in Control" or a "Hostile Change in Control," as defined in the agreement, and ending 12 months after the occurrence of a Change in Control and upon such termination shall be paid an amount equal to 18 months of his maximum salary in effect within 12 months of the termination. Except in the case of a termination by us for cause or a voluntary termination, if at any time within two years after the occurrence of a Change in Control either (i) we terminate the employment of an executive officer who is party to an agreement or (ii) such executive officer terminates his employment following a "Constructive Dismissal" by us, then that executive officer shall be paid an amount equal to thirty-six months of the executive officer's maximum salary in effect within 12 months of termination. The agreements provide that no amount shall be paid which would be classified as an "excess parachute payment" within the meaning of Section 280G(b)(1) of the Internal Revenue Code. The agreements also provide that in the event of a Change in Control, all unvested options held by the executive officer will immediately vest. Effective May 1, 1998, John McCullough, retired Vice President of OCLI, entered into an arrangement with us under which he agreed to continue to serve as a director of OCLI and of Flex, as a member of the Flex Strategic Technical Advisory Committee ("STAC Committee") and be retained as a consultant to work on special projects for OCLI and Flex. Under the arrangement, Mr. McCullough will receive the standard retainer fees, annual stock award and meeting fees that are paid to OCLI's outside directors. In addition, he will be paid a retainer fee of $1,000 per month from OCLI for his services as a director of Flex and member of the STAC Committee. From this amount, premiums for medical, dental and vision insurance will be deducted. The arrangement also provides for compensation at the rate of $160 hour, or $1,600 per day, whichever is less, for any variable tasks that we retain Mr. McCullough to perform. Mr. McCullough will also receive a $250,000 benefit under OCLI's Business Travel Accident Insurance policy. 53 PRINCIPAL AND SELLING STOCKHOLDERS The following table sets forth certain information regarding beneficial ownership of the our common stock as of March 31, 1999, and as adjusted to reflect the sale of our common stock offered in this prospectus for (1) each person who is known by us to own beneficially more than 5% of our common stock, (2) each of our directors, (3) our Chief Executive Officer and our four next most highly compensated executive officers for the fiscal year ended October 31, 1998, (4) all of our directors and executive officers as a group and (5) each selling stockholder.
SHARES BENEFICIALLY SHARES BENEFICIALLY OWNED PRIOR OWNED AFTER TO OFFERING(1) NUMBER OF OFFERING(1) ---------------- SHARES ------------------------ NUMBER PERCENT OFFERED NUMBER PERCENT ---- ---------- --------- --------- ------------ OCLI 401(k) Plan c/o Optical Coating Laboratory, Inc. 2789 Northpoint Parkway Santa Rosa, California 95407-7397..................... 1,503,654 11.9% -- 1,503,654 10.8% T. Rowe Price Associates, Inc. 100 East Pratt Street Baltimore, Maryland 21202...... 968,900 7.17% -- 968,900 7.0% Hakuto Co., Ltd. 1-13 Shinjuku 1-Chome Shinjuku-ku, Tokyo 150, Japan.......................... 657,440 5.2% -- 657,440 4.7%
Herbert M. Dwight, Jr.(2)........ 697,027 5.5% -- 697,027 5.0% Charles J. Abbe(3)............... 217,784 1.7% -- 217,784 1.5% Kenneth D. Pietrelli(4).......... 69,349 * -- 69,349 * Stephen E. Myers(5).............. 41,910 * -- 41,910 * Joseph Zils(6)................... 34,098 * -- 34,098 * Julian Schroeder................. 29,000 * -- 29,000 * John McCullough(7)............... 25,106 * -- 25,106 * Douglas C. Chance................ 21,200 * -- 21,200 * Klaus F. Derge(8)................ 19,028 * -- 19,028 * Renn Zaphiropoulos............... 10,000 * -- 10,000 * Shoei Kataoka.................... 2,000 * -- 2,000 * All directors and executive officers as a group (15 persons)(9)..... 1,337,690 14.5% -- 1,337,690 9.3% Selling stockholders............. 250,000 ---- ---------- --------- --------- -----
- ------------------------ * Less than 1% (1) Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission and generally includes voting or investment power with respect to securities. Shares of common stock subject to options currently exercisable, or exercisable within 60 days of March 31, 1999, are deemed outstanding for computing the percentage of the person holding such options but are not deemed outstanding for computing the percentage of any other person. Except as indicated by footnote and subject to community property laws where applicable, the persons named in the table have sole voting and investment power with respect to all shares of common stock shown as beneficially owned by them. 54 (2) Includes 10,064 shares held for the benefit of Mr. Dwight by the OCLI 401(k) Plan and 29,334 shares subject to options exercisable within 60 days of March 31, 1999. (3) Includes 207,784 shares subject to options exercisable within 60 days of March 31, 1999. (4) Includes 10,626 shares held for the benefit of Mr. Pietrelli by the 401(k) Plan and 41,778 shares subject to options exercisable within 60 days of March 31, 1999. (5) Includes 166 shares held for the benefit of Mr. Myers by the OCLI 401(k) Plan and 41,774 shares subject to options exercisable within 60 days of March 31, 1999. (6) Includes 2,494 shares held for the benefit of Mr. Zils by the 401(k) Plan and 29,104 shares subject to options exercisable within 60 days of March 31, 1999. (7) Includes 5,106 shares held for the benefit of Mr. McCullough by the OCLI 401(k) Plan. (8) Includes 10,000 shares subject to options exercisable within 60 days of March 31, 1999. Mr. Derge resigned his position as an officer of OCLI in December 1998 following the sale of MMG and is included in this table because he was one of our four most highly compensated executive officers in fiscal 1998, not including our Chief Executive Officer. (9) Includes 44,659 shares held for the benefit of all directors and executive officers as a group by the OCLI 401(k) Plan and 533,862 shares subject to options exercisable within 60 days of March 31, 1999. Does not include any shares owned beneficially by Mr. Derge. DESCRIPTION OF CAPITAL STOCK GENERAL We have authorized capital stock of 30,000,000 shares of common stock, $0.01 par value, and 100,000 shares of preferred stock, $0.01 par value. As of March 31, 1999, 12,604,346 shares of common stock were outstanding, held by 858 stockholders of record. COMMON STOCK The holders of common stock are entitled to one vote for each share held of record on all matters submitted to a vote of stockholders. The holders of common stock are entitled to receive ratably such dividends, if any, as may be declared from time to time by the board out of funds legally available therefor. See "Dividend Policy." In the event of a liquidation, dissolution or winding up of OCLI, the holders of common stock are entitled to share ratably in all assets remaining after payment of liabilities. Holders of common stock have no preemptive rights or rights to convert their common stock into any other securities. There are no redemption or sinking fund provisions applicable to the common stock. All shares of common stock are, and the shares of common stock to be outstanding upon completion of this offering will be, fully paid and non-assessable. PREFERRED STOCK The board is authorized, without further stockholder action, to issue up to 83,350 undesignated shares of preferred stock in one or more series and to fix the voting rights, liquidation preferences, dividend rights, repurchase rights, conversion rights, preemption rights, redemption rights and terms, including sinking fund provisions, and certain other rights and preferences of such shares of the preferred stock. In addition, the board has previously designated 10,000 shares of preferred stock as Series A Preferred Stock in connection with our stockholders' rights plan described below, none of which have been issued, and 15,000 shares as Series B Cumulative Convertible Preferred Stock, of which 6,650 remain available for future issuance. The issuance of any series of preferred stock could adversely affect the rights of the holders of common stock by restricting dividends on, diluting the power of, or impairing the liquidation rights of common stock, or delaying, deferring or preventing a change in control of OCLI. We have no present plans to issue any preferred stock. 55 TRANSFER AGENT Our transfer agent and registrar for our common stock is ChaseMellon Shareholder Services. ANTI-TAKEOVER PROVISIONS IN CHARTER DOCUMENTS We have adopted provisions in our Amended and Restated Certificate of Incorporation that do the following: - eliminate the right of stockholders to call a special meeting of stockholders; - require stockholders to give us advance notice of intent to nominate directors or bring matters before a meeting of stockholders; and - limit the ability of stockholders to take action by written consent or remove a director without cause. We also have a stockholders' rights plan, commonly referred to as a "poison pill," that makes it difficult, if not impossible, for a person to acquire control of us without the consent of our Board of Directors. These provisions could adversely affect the rights of the holders of common stock by delaying, deferring or preventing a change in control of OCLI. EFFECT OF DELAWARE ANTI-TAKEOVER STATUTE We are subject to Section 203 of the Delaware General Corporation Law, which, subject to certain exceptions, prohibits a publicly held Delaware corporation from engaging in any "business combination" with any "interested stockholder" for a period of three years following the date that such stockholder became an interested stockholder, unless: - prior to such date, the board of directors of the corporation approved either the business combination or the transaction that resulted in the stockholder becoming an interested stockholder; - upon consummation of the transaction that resulted in the stockholder becoming an interested stockholder, the interested stockholder owned at least 85% of the voting stock of the corporation outstanding at the time the transaction commenced; and - on or subsequent to such date, the business combination is approved by the board of directors and authorized at an annual or special meeting of stockholders, and not by written consent, by the affirmative vote of at least 66 2/3% of the outstanding voting stock that is not owned by the interested stockholder. Section 203 defines "business combination" to include: - any merger or consolidation involving the corporation and the interested stockholder; - any sale, transfer, pledge or other disposition of 10% or more of the assets of the corporation involving the interested stockholder; - subject to certain exceptions, any transaction that results in the issuance or transfer by the corporation of any stock of the corporation to the interested stockholder; - any transaction involving the corporation that has the effect of increasing the proportionate share of the stock of any class or series of the corporation beneficially owned by the interested stockholder; and - the receipt by the "interested stockholder" of the benefit of any loans, advances, guarantees, pledges or other financial benefits provided by or through the corporation. In general, Section 203 defines an interested stockholder as an entity or person beneficially owning 15% or more of the outstanding voting stock of the corporation and any entity or person affiliated with or controlling or controlled by such entity or person. 56 UNDERWRITING Subject to the terms and conditions of the underwriting agreement, the underwriters named below, Hambrecht & Quist LLC, NationsBanc Montgomery Securities LLC and SoundView Technology Group, Inc., have severally agreed to purchase from OCLI and the selling stockholders the following respective number of shares of our common stock:
NUMBER NAME OF SHARES - ------------------------------------------------------------------------------------------------------- ----------- Hambrecht & Quist LLC.................................................................................. NationsBanc Montgomery Securities LLC.................................................................. SoundView Technology Group, Inc........................................................................ ----------- Total................................................................................................ ----------- -----------
The underwriting agreement provides that the obligations of the underwriters are subject to certain conditions precedent, including the absence of any material adverse change in our business and the receipt of certain certificates, opinions and letters from us, our counsel and independent auditors. The nature of the underwriters' obligation is such that they are committed to purchase all shares of common stock offered in this offering if any of such shares are purchased. The underwriters propose to offer the shares of common stock directly to the public at the public offering price set forth on the cover page of this prospectus and to certain dealers at such price less a concession not in excess of $ per share. The underwriters may allow and such dealers may reallow a concession not in excess of $ per share to certain other dealers. After the public offering of the shares, the offering price and other selling terms may be changed by the underwriters. We have granted to the underwriters an option, exercisable no later than 30 days after the date of this prospectus, to purchase up to additional shares of common stock at the public offering price, less the underwriting discount, set forth on the cover page of this prospectus. To the extent that the underwriters exercise this option, each underwriter will have a firm commitment to purchase approximately the same percentage thereof which the number of shares of common stock to be purchased by it shown in the above table bears to the total number of shares of common stock offered in this offering. We will be obligated, pursuant to the option, to sell shares to the underwriters to the extent the option is exercised. The underwriters may exercise such option only to cover over-allotments made in connection with the sale of common stock offered in this prospectus. The following table summarizes the compensation that the selling stockholders and we will pay to the underwriters in connection with this offering:
TOTAL ---------------------------- WITHOUT OVER- WITH OVER- PER SHARE ALLOTMENT ALLOTMENT ----- ------------- ------------- Underwriting discounts and commissions paid by us................................... Underwriting discounts and commissions paid by selling stockholders.................
57 The offering of the shares is made for delivery when, as and if accepted by the underwriters and subject to prior sale and to withdrawal, cancellation or modification of the offering without notice. The underwriters reserve the right to reject an order for the purchase of shares in whole or in part. The selling stockholders and we have agreed to indemnify the underwriters against certain liabilities; including liabilities under the Securities Act, and to contribute to payments the underwriters may be required to make in respect thereof. Certain of our stockholders, including all executive officers and directors and the selling stockholders, who own in the aggregate shares of common stock have agreed that they will not, without the prior written consent of Hambrecht & Quist LLC, offer, sell, or otherwise dispose of any shares of common stock, options or warrants to acquire shares of common stock or securities exchangeable for or convertible into shares of common stock owned by them until 91 days following the date of this prospectus. We have agreed that we will not, without the prior written consent of Hambrecht & Quist LLC, offer, sell or otherwise dispose of any shares of common stock, options or warrants to acquire shares of common stock or securities exchangeable for or convertible into shares of common stock until the date 91 days following the date of this prospectus, except that we may issue shares upon the exercise of options granted prior to the date hereof, and may grant additional options under our stock option plans, provided that, without the prior written consent of Hambrecht & Quist LLC, such additional options shall not be exercisable during such period. Certain persons participating in this offering may over-allot or effect transactions which stabilize, maintain or otherwise affect the market price of the common stock at levels above those which might otherwise prevail in the open market, including by entering stabilizing bids, effecting syndicate covering transactions or imposing penalty bids. A stabilizing bid means the placing of any bid or effecting of any purchase for the purpose of pegging, fixing or maintaining the price of the common stock. A syndicate covering transaction means the placing of any bid on behalf of the underwriting syndicate or the effecting of any purchase to reduce a short position created in connection with this offering. A penalty bid means an arrangement permitting the underwriters to reclaim the selling concession otherwise accruing to an underwriter or syndicate member if the stock originally sold by the underwriter or syndicate member is purchased by the underwriters in a syndicate covering transaction. Such transactions may be effected on the Nasdaq National Market, in the over-the-counter market, or otherwise. Such stabilizing, if commenced, may be discontinued at any time. In connection with this offering, certain underwriters and selling group members (if any) who are qualified market makers on the Nasdaq National Market may engage in passive market making transactions in our common stock on the Nasdaq National Market in accordance with Rule 103 of Regulation M under the Exchange Act. During the business day prior to the pricing of the offering before, the commencement of offers or sales of our common stock, passive market makers must comply with applicable volume and price limitations and, must be identified as such. In general, a passive market maker must display its bid at a price not in excess of the highest independent bid of such security; if all independent bids are lowered below the passive market maker's bid, however, such bid must then be lowered when certain purchase limits are exceeded. We estimate that the total expenses of this offering, excluding underwriting discounts and commissions, will be approximately $450,000. In June 1998, Hambrecht & Quist LLC entered into a letter agreement to provide various financial advisory services to OCLI, for which Hambrecht & Quist was paid a fee of $75,000. LEGAL MATTERS The validity of the common stock offered hereby will be passed upon for OCLI by Collette & Erickson LLP, San Francisco, California. A partner of Collette & Erickson owns 18,883 shares of common 58 stock. Certain legal matters in connection with this offering will be passed upon for the Underwriters by Cooley Godward LLP, San Francisco, California. EXPERTS The financial statements of the Company and its consolidated subsidiaries and related financial statement schedule as of October 31, 1998 and 1997 and for each of the three years in the period ended October 31, 1998, except for Flex Products, Inc., a consolidated subsidiary, as of October 31, 1997 and for each of the two years in the period ended October 31, 1997, included and incorporated by reference in this prospectus have been audited by Deloitte & Touche LLP, as stated in their reports, which are included and incorporated by reference herein. The financial statements of Flex Products, Inc., not included herein, as of November 2, 1997 and for each of the two years in the period ended November 2, 1997 have been audited by KPMG LLP, as stated in their report, such report being included and incorporated by reference herein. The financial statements of the Company and its consolidated subsidiaries have been included in reliance upon the reports of Deloitte & Touche LLP and KPMG LLP given upon their authority as experts in accounting and auditing. Both of the foregoing firms are independent auditors. With respect to the unaudited interim financial information for the three-month periods ended January 31, 1999 and 1998 which is included and incorporated by reference, Deloitte & Touche LLP have applied limited procedures in accordance with professional standards for a review of such information. However, as stated in their report included in the Company's Quarterly Report on Form 10-Q for the quarter ended January 31, 1999 and incorporated by reference herein, they did not audit and they do not express an opinion on that interim financial information. Accordingly, the degree of reliance on their reports on such information should be restricted in light of the limited nature of the review procedures applied. Deloitte & Touche LLP is not subject to the liability provisions of Section 11 of the Securities Act for their report on the unaudited interim financial information because such report is not a "report" or a "part" of the registration statement prepared or certified by an accountant within the meaning of Sections 7 and 11 of the Securities Act. HOW TO GET INFORMATION ABOUT OCLI OCLI is subject to the informational requirements of the Exchange Act and therefore files reports, proxy and information statements and other information with the SEC. You can inspect many of such reports, proxy and information statements and other information on the SEC's internet website at http://www.sec.gov. You can also inspect and copy such reports, proxy and information statements and other information at the SEC's Public Reference Room, 450 Fifth Street, N.W., Washington, D.C. 20549. You can obtain information on the operation of the Public Reference Room by calling the SEC at Tel: 1-800-SEC-0330. You can also inspect and copy such reports, proxy and information statements and other information may also be inspected and copied at the following Regional Offices of the SEC: New York Regional Office, Seven World Trade Center, Suite 1300, New York, New York 10048; and Chicago Regional Office, Northwest Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. OCLI's common stock is listed on the Nasdaq National Market System, and you can inspect such reports, proxy and information statements and other information at the offices of the NYSE, 20 Broad Street, New York, New York 10005. This prospectus constitutes part of a registration statement on Form S-3 filed by OCLI with the SEC under the Securities Act. This prospectus does not contain all of the information set forth in the registration statement. For further information with respect to OCLI and the shares, you should refer to the registration statement either at the SEC's website or at the address set forth in the preceding paragraph. Statements in this prospectus concerning any document filed as an exhibit to this prospectus 59 are not necessarily complete, and, in each instance, you should refer to the copy of such document which has been filed as an exhibit to the registration statement. Each such statement is qualified in its entirety by such reference. INFORMATION INCORPORATED BY REFERENCE The following documents, which we have filed with the Commission, are incorporated by reference into this prospectus: - Our annual report on Form 10-K for the fiscal year ended October 31, 1998; - Our quarterly report on Form 10-Q for the quarter ended January 31, 1999; and - Our current reports on Form 8-K dated November 18, 1998 and December 22, 1998. All documents that we file with the Commission pursuant to Section 13(a), 13(c), 14 or 15(d) of the Exchange Act after the date of this prospectus and before the termination of the offering of the common stock offered in this prospectus shall be deemed incorporated by reference into this prospectus and to be a part of this prospectus from the respective dates of filing such documents. We will provide without charge to each person to whom a copy of this prospectus is delivered, upon such person's written or oral request, a copy of any or all of the information incorporated by reference in this prospectus (other than exhibits to such documents, unless such exhibits are specifically incorporated by reference into the information that this prospectus incorporates). Requests should be directed to Optical Coating Laboratory, Inc., 2789 Northpoint Parkway, Santa Rosa, California 95407-7397, Attention: Agie Navarro, telephone number (707) 525-7072. Any statement contained in a document incorporated or deemed to be incorporated by reference in this prospectus shall be deemed modified, superseded or replaced for purposes of this prospectus to the extent that a statement contained in this prospectus or in any subsequently filed document that also is or is deemed to be incorporated by reference in this prospectus modifies, supersedes or replaces such statement. Any statement so modified, superseded or replaced shall not be deemed, except as so modified, superseded or replaced, to constitute a part of this prospectus. 60 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE(S) ----------- Report of Independent Auditors of Optical Coating Laboratory, Inc.................. F-2 Report of Independent Auditors of Flex Products, Inc............................... F-3 Consolidated Balance Sheets as of October 31, 1997 and 1998 and January 31, 1999 (unaudited)...................................................................... F-4 Consolidated Statements of Income for the years ended October 31, 1996, 1997 and 1998 and the three months ended January 31, 1998 (unaudited) and 1999 (unaudited)...................................................................... F-5 Consolidated Statements of Cash Flows for the years ended October 31, 1996, 1997 and 1998 and the three months ended January 31, 1998 (unaudited) and 1999 (unaudited)...................................................................... F-6 Consolidated Statements of Stockholders' Equity and Comprehensive Income for the years ended October 31, 1996, 1997 and 1998 and the three months ended January 31, 1999 (unaudited)............................................................. F-8 Notes to Consolidated Financial Statements......................................... F-9
F-1 INDEPENDENT AUDITORS' REPORT Board of Directors Optical Coating Laboratory, Inc. Santa Rosa, California We have audited the accompanying consolidated balance sheets of Optical Coating Laboratory, Inc. and subsidiaries (the "Company") as of October 31, 1998 and 1997, and the related consolidated statements of income, stockholders' equity and comprehensive income and cash flows for each of the three years in the period ended October 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We did not audit the financial statements of Flex Products, Inc., a consolidated subsidiary for the years ended October 31, 1997 and 1996, whose assets represent 12% of consolidated total assets at October 31, 1997, and whose total revenues for the years ended October 31, 1997 and 1996 represent 18% and 15% respectively, of consolidated total revenues. The financial statements of Flex Products, Inc. for the years ended October 31, 1997 and 1996, were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for Flex Products, Inc., is based solely on the report of such other auditors. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits and the report of the other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of the other auditors, such consolidated financial statements present fairly, in all material respects, the financial position of Optical Coating Laboratory, Inc. and its subsidiaries at October 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended October 31, 1998 in conformity with generally accepted accounting principles. /s/ DELOITTE & TOUCHE LLP San Jose, California December 22, 1998 (January 8, 1999 as to paragraph 8 of Note 6 and February 22, 1999 as to Note 15) F-2 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders Flex Products, Inc. Santa Rosa, California We have audited the balance sheets of Flex Products, Inc. (the "Company"), a joint venture of Optical Coating Laboratory, Inc. and SICPA Holding S.A., as of November 2, 1997 and November 3, 1996 and the related statements of operations, stockholders' equity and cash flows for the years ended November 2, 1997 and November 3, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. These financial statements have been prepared on a historical basis of accounting and do not reflect any purchase accounting adjustments recorded by Optical Coating Laboratory, Inc. as a result of their acquisition of a majority interest in Flex Products, Inc. as of May 8, 1995. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Flex Products, Inc. as of November 2, 1997 and November 3, 1996, and the results of its operations and its cash flows for the years then ended in conformity with generally accepted accounting principles. /s/ KPMG LLP San Francisco, California November 26, 1997 F-3 OPTICAL COATING LABORATORY, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
OCTOBER 31, -------------------- 1997 1998 --------- --------- JANUARY 31, 1999 ------------ (UNAUDITED) ASSETS Current Assets Cash and cash equivalents................................................................. $ 15,217 $ 40,880 $ 14,324 Accounts receivable, net of allowance for doubtful accounts of $1,884, $1,831 and $1,797.................................................................................. 34,923 38,585 39,392 Inventories............................................................................... 22,829 25,233 21,268 Income taxes receivable................................................................... 504 2,511 Deferred income tax assets................................................................ 6,853 9,311 5,186 Other current assets...................................................................... 1,707 1,822 6,015 --------- --------- ------------ Total Current Assets.................................................................... 82,033 115,831 88,696 Other Assets Goodwill.................................................................................. 716 10,565 Deferred income taxes..................................................................... 8,243 4,151 536 Property, plant and equipment held for sale............................................... 3,183 531 Other assets.............................................................................. 13,236 Property, Plant and Equipment Land and improvements..................................................................... 9,225 9,116 9,116 Buildings and improvements................................................................ 41,944 36,171 36,563 Machinery and equipment................................................................... 121,717 123,261 125,376 Construction-in-progress.................................................................. 9,525 12,722 14,269 --------- --------- ------------ 182,411 181,270 185,324 Less accumulated depreciation............................................................. (89,194) (91,565) (94,082) --------- --------- ------------ Property, plant and equipment--net........................................................ 93,217 89,705 91,242 --------- --------- ------------ Total Assets............................................................................ $ 183,493 $ 213,586 $ 204,806 --------- --------- ------------ --------- --------- ------------ LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable.......................................................................... $ 14,301 $ 8,423 $ 6,667 Accrued expenses.......................................................................... 6,854 9,935 7,883 Accrued compensation expenses............................................................. 8,752 10,365 6,866 Income taxes payable...................................................................... 339 708 252 Current maturities on long term debt...................................................... 7,888 6,026 5,903 Notes payable............................................................................. 381 4,483 3,612 Deferred revenue.......................................................................... 900 761 4,504 --------- --------- ------------ Total Current Liabilities............................................................... 39,415 40,701 35,687 Noncurrent Liabilities Accrued postretirement health benefits and pension liabilities............................ 2,040 2,241 2,269 Deferred revenue.......................................................................... 1,050 Deferred income tax liabilities........................................................... 785 3,528 8,399 Long term debt............................................................................ 40,975 52,373 51,870 Minority interest......................................................................... 13,315 12,520 Commitments and contingencies (Note 13) Stockholders' Equity Preferred stock--Series C; 8% cumulative, convertible redeemable; issued and outstanding 6,250 shares at October 31, 1997........................................................ 5,559 Common stock, $0.01 par value; authorized 30,000,000 shares; issued and outstanding 10,599,000, 12,087,000 and 12,215,000 shares............................................ 106 121 122 Paid-in capital........................................................................... 55,723 69,993 72,120 Retained earnings......................................................................... 26,217 31,951 33,258 Accumulated other comprehensive income.................................................... (642) 158 31 --------- --------- ------------ Stockholders' Equity...................................................................... 86,963 102,223 105,531 --------- --------- ------------ Total Liabilities and Stockholders' Equity.............................................. $ 183,493 $ 213,586 $ 204,806 --------- --------- ------------ --------- --------- ------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS. F-4 OPTICAL COATING LABORATORY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED FISCAL YEARS ENDED OCTOBER 31, JANUARY 31, ------------------------------- -------------------- 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- (UNAUDITED) Revenues Revenues.................................................. $ 189,195 $ 217,829 $ 255,624 $ 53,373 $ 69,851 Cost of Sales............................................. 126,769 143,207 169,670 36,235 48,632 --------- --------- --------- --------- --------- Gross Profit.......................................... 62,426 74,622 85,954 17,138 21,219 Costs and Expenses Operating Expenses: Research and development................................ 11,733 14,903 17,137 3,821 4,644 Selling and administrative.............................. 37,145 42,836 43,926 9,488 10,193 Impairment loss......................................... 8,628 Restructuring expenses.................................. 586 Legal settlement, net................................... (2,960) In process research and development charges............. 2,906 Amortization of intangibles............................. 1,146 936 805 200 217 --------- --------- --------- --------- --------- Total Operating Expenses.............................. 50,024 58,675 71,082 13,509 15,000 --------- --------- --------- --------- --------- Income from Operations.............................. 12,402 15,947 14,872 3,629 6,219 Nonoperating Income (Expense): Interest income......................................... 379 461 769 84 318 Interest expense, net................................... (3,524) (4,030) (3,615) (808) (959) --------- --------- --------- --------- --------- Earnings Income Before Provision for Income Taxes and Minority Interest............................................ 9,257 12,378 12,026 2,905 5,578 Provision for income taxes.............................. 3,425 4,622 3,336 1,162 3,054 Minority interest....................................... 636 631 1,351 147 491 --------- --------- --------- --------- --------- Net Income............................................ 5,196 7,125 7,339 1,596 2,033 Dividend on convertible redeemable preferred stock...... 960 693 250 125 -- --------- --------- --------- --------- --------- Net Income Applicable to Common Stock................. $ 4,236 $ 6,432 $ 7,089 $ 1,471 $ 2,033 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net Income Per Share, Basic............................... $ 0.44 $ 0.63 $ 0.62 $ 0.14 $ 0.17 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net Income Per Share, Diluted............................. $ 0.41 $ 0.60 $ 0.59 $ 0.13 $ 0.16 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Weighted average number of common shares used to compute basic earnings per share................................ 9,629 10,191 11,388 10,625 12,142 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Weighted average number of common shares used to compute diluted earnings per share.............................. 10,301 10,673 11,999 11,396 12,868 --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS. F-5 OPTICAL COATING LABORATORY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN THOUSANDS)
THREE MONTHS ENDED FISCAL YEARS ENDED OCTOBER 31, JANUARY 31, ------------------------------- -------------------- 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- (UNAUDITED) OPERATIONS Cash Flows From Operations: Cash received from customers............ $ 191,665 $ 194,375 $ 213,634 $ 42,062 $ 53,208 Interest received....................... 258 455 684 51 371 Cash paid to suppliers and employees.... (165,565) (165,033) (185,268) (46,876) (40,018) Interest paid........................... (5,196) (5,345) (3,112) (808) (523) Income taxes paid, net of refunds....... (954) (4,316) (572) (28) (836) --------- --------- --------- --------- --------- Net Cash Provided By (Used For) Operations.......................... 20,208 20,136 25,366 (5,599) 12,202 INVESTMENTS Cash Flows From Investments: Purchase of plant and equipment......... (30,530) (17,231) (16,341) (4,261) (5,055) Purchase of minority shareholder's interest in OCLI-Asia................. (738) Proceeds from sale-leaseback of new equipment............................. 18,940 Purchase of remaining interest in Flex.................................. (30,035) --------- --------- --------- --------- --------- Net Cash Used For Investments......... (11,590) (17,231) (17,079) (4,261) (35,090) FINANCING Cash Flows From Financing: Proceeds from long term debt............ 8,596 5,416 42,276 6,774 47 Repayment of long term debt............. (7,019) (8,311) (32,913) (6,564) (1,401) Proceeds from notes payable............. 8 6 3,978 183 Repayment of notes payable.............. (2,400) Proceeds from exercise of stock options............................... 1,713 2,247 7,321 335 849 Investment by minority interest holder................................ 1,440 Proceeds from note to minority interest holder................................ 800 Repayment of note to minority interest holder................................ (413) (76) (1,801) Purchase of note from minority interest holder................................ (2,600) (2,400) Payment of dividend on preferred stock................................. (960) (693) (208) (125) Payment of dividend on common stock..... (1,153) (1,199) (1,355) (636) (726) --------- --------- --------- --------- --------- Net Cash Provided By (Used For) Financing........................... 772 (3,570) 17,298 (1,833) (3,631) Effect of exchange rate changes on cash... 35 (145) 78 (105) (37) --------- --------- --------- --------- --------- Increase (decrease) in cash and cash equivalents............................. 9,425 (810) 25,663 (11,798) (26,556) Cash and cash equivalents at beginning of period.................................. 6,602 16,027 15,217 15,217 40,880 --------- --------- --------- --------- --------- Cash and cash equivalents at end of period.................................. $ 16,027 $ 15,217 $ 40,880 $ 3,419 $ 14,324 --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
F-6 OPTICAL COATING LABORATORY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) (DOLLARS IN THOUSANDS)
THREE MONTHS ENDED FISCAL YEARS ENDED OCTOBER 31, JANUARY 31, ------------------------------- -------------------- 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- (UNAUDITED) ADJUSTMENTS Reconciliation of Net Income To Cash Flows From Operations: Net income............................................. $ 5,196 $ 7,125 $ 7,339 $ 1,596 $ 2,033 Adjustments to reconcile net income to net cash provided by operations: Depreciation and amortization........................ 13,669 12,784 13,129 2,985 2,985 Impairment loss...................................... 8,628 Restructuring expenses............................... 586 Minority interest in earnings of subsidiaries........ 636 631 1,351 147 491 Loss on disposal of equipment........................ 1,356 1,412 1,467 210 557 Accrued postretirement health benefits............... 184 (226) 200 40 28 Net book value of coating machine sold............... 880 Other non-cash adjustments to net income............. (681) (97) (11) 471 765 Change in: Accounts receivable................................ 1,378 (8,012) (3,363) (3,364) (905) Inventories........................................ (3,030) (4,623) (2,299) (2,004) 2,207 Income taxes receivable and income taxes payable... 1,357 (328) 3,110 235 (2,454) Deferred income taxes.............................. 1,177 1,701 (409) 601 9,158 Other current assets and other assets and investments...................................... 716 136 (911) (1,074) (292) Accounts payable, accrued expenses and accrued compensation expenses............................ (3,094) 9,979 (3,312) (6,508) (7,164) Deferred revenue................................... 464 (346) (139) 1,066 4,793 --------- --------- --------- --------- --------- Total adjustments................................ 15,012 13,011 18,027 (7,195) 10,169 --------- --------- --------- --------- --------- Net Cash Provided By (Used For) Operations......... $ 20,208 $ 20,136 $ 25,366 $ (5,599) $ 12,202 --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: The Company recorded capital leases of $2.0 million and $1.2 million in fiscal 1997 and fiscal 1998 to finance the hardware, software and some of the integration costs of an Enterprise Resource Planning System for which implementation began in 1998. Lease terms run through 2004 with payments totaling approximately $67,000 per month. In fiscal 1996, 1997 and 1998, common stock, with an aggregate fair market value of $52,000, $51,000 and $86,000 was awarded to the Company's outside directors as remuneration. In fiscal 1997, 5,750 shares of 8% Series C Convertible Redeemable Preferred Stock, plus accrued dividends of $74,000 were converted into 555,000 shares of Company common stock. In fiscal 1998, pursuant to a call for redemption by the Company, the remaining 6,250 shares of 8% Series C Convertible Redeemable Preferred Stock outstanding plus accrued dividends of $42,000 were converted into 599,000 shares of Company common stock. In the first quarter of fiscal 1999, the Company sold the operating assets of the Company's manufacturing subsidiary in Germany (MMG) for $4.3 million. The cash proceeds from the sale were received in February 1999, after the balance sheet date. The amount receivable from the sale is included in other current assets at January 31, 1999. During fiscal years 1996, 1997 and 1998 and during the three months ended January 31, 1999, the Company issued 39,880, 14,601, 39,292 and 39,914 shares of common stock to the OCLI 401(k) Employee Stock Ownership Plan at fair market value to satisfy a portion of its Company contribution. THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS. F-7 OPTICAL COATING LABORATORY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME YEARS ENDED OCTOBER 31, 1996, 1997 AND 1998 AND THE THREE MONTHS ENDED JANUARY 31, 1999 (UNAUDITED) (AMOUNTS IN THOUSANDS)
PREFERRED STOCK COMMON STOCK ------------------------ ------------------------ PAID-IN RETAINED SHARES AMOUNT SHARES AMOUNT CAPITAL EARNINGS ----------- ----------- ----------- ----------- --------- ----------- BALANCE AT OCTOBER 31, 1995............. 12 $ 11,357 9,489 $ 95 $ 44,461 $ 17,901 Shares issued to Employee Stock Ownership Plan........................ 39 1 439 Exercise of stock options, including tax benefit and shares issued to directors............................. 233 2 2,319 Series C preferred stock issuance expenses.............................. (48) Dividend on preferred stock............. (960) Dividend on common stock................ (1,153) Net income for the year................. 5,196 Other comprehensive income, net of taxes: Foreign currency translation adjustment.......................... -- ----------- ----------- --- --------- ----------- BALANCE AT OCTOBER 31, 1996............. 12 11,309 9,761 98 47,219 20,984 Shares issued to Employee Stock Ownership Plan........................ 15 159 Exercise of stock options, including tax benefit and shares issued to directors............................. 268 3 2,524 Conversion of Series C preferred stock to common stock....................... (6) (5,750) 555 5 5,821 Dividend on preferred stock............. (693) Dividend on common stock................ (1,199) Net income for the year................. 7,125 Other comprehensive income, net of taxes: Foreign currency translation adjustment.......................... -- ----------- ----------- --- --------- ----------- BALANCE AT OCTOBER 31, 1997............. 6 5,559 10,599 106 55,723 26,217 Shares issued to Employee Stock Ownership Plan........................ 39 555 Exercise of stock options, including tax benefit and shares issued to directors............................. 967 10 9,659 Shares surrendered for payment of withholding taxes..................... (117) (1) (1,539) Conversion of Series C preferred stock to common stock....................... (6) (5,559) 599 6 5,595 Dividend on preferred stock............. (250) Dividend on common stock................ (1,355) Net income for the year................. 7,339 Other comprehensive income, net of taxes: Foreign currency translation adjustment.......................... -- ----------- ----------- --- --------- ----------- BALANCE AT OCTOBER 31, 1998............. -- -- 12,087 121 69,993 31,951 Shares issued to Employee Stock Ownership Plan*....................... 40 933 Exercise of stock options, including tax benefit and shares issued to directors*............................ 88 1 1,194 Dividend on common stock*............... (726) Net income for the quarter*............. 2,033 Other comprehensive income, net of taxes: Foreign currency translation adjustment*......................... -- ----------- ----------- --- --------- ----------- BALANCE AT JANUARY 31, 1999*............ -- -- 12,215 $ 122 $ 72,120 $ 33,258 -- -- ----------- ----------- --- --------- ----------- ----------- ----------- --- --------- ----------- ACCUMULATED OTHER COMPREHENSIVE COMPREHENSIVE INCOME INCOME ----------------- --------------- BALANCE AT OCTOBER 31, 1995............. $ 80 Shares issued to Employee Stock Ownership Plan........................ Exercise of stock options, including tax benefit and shares issued to directors............................. Series C preferred stock issuance expenses.............................. Dividend on preferred stock............. Dividend on common stock................ Net income for the year................. 5,196 Other comprehensive income, net of taxes: Foreign currency translation adjustment.......................... (131) (131) ----- ------- BALANCE AT OCTOBER 31, 1996............. (51) $ 5,065 ------- ------- Shares issued to Employee Stock Ownership Plan........................ Exercise of stock options, including tax benefit and shares issued to directors............................. Conversion of Series C preferred stock to common stock....................... Dividend on preferred stock............. Dividend on common stock................ Net income for the year................. 7,125 Other comprehensive income, net of taxes: Foreign currency translation adjustment.......................... (591) (591) ----- ------- BALANCE AT OCTOBER 31, 1997............. (642) $ 6,534 ------- ------- Shares issued to Employee Stock Ownership Plan........................ Exercise of stock options, including tax benefit and shares issued to directors............................. Shares surrendered for payment of withholding taxes..................... Conversion of Series C preferred stock to common stock....................... Dividend on preferred stock............. Dividend on common stock................ Net income for the year................. 7,339 Other comprehensive income, net of taxes: Foreign currency translation adjustment.......................... 800 800 ----- ------- BALANCE AT OCTOBER 31, 1998............. 158 $ 8,139 ------- ------- Shares issued to Employee Stock Ownership Plan*....................... Exercise of stock options, including tax benefit and shares issued to directors*............................ Dividend on common stock*............... Net income for the quarter*............. 2,033 Other comprehensive income, net of taxes: Foreign currency translation adjustment*......................... (127) (127) ----- ------- BALANCE AT JANUARY 31, 1999*............ $ 31 $ 1,906 ----- ------- ----- -------
- ------------------------------ * Amounts are unaudited. THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS. F-8 OPTICAL COATING LABORATORY, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED OCTOBER 31, 1996, 1997 AND 1998 AND THE THREE MONTHS ENDED JANUARY 31, 1998 (UNAUDITED) AND 1997 (UNAUDITED). 1. GENERAL NATURE OF OPERATIONS. OCLI designs, develops and manufactures multi-layer thin film coatings which control and enhance light by altering the transmission, reflection and absorption of its various wavelengths to achieve a desired effect such as anti-reflection, anti-glare, electromagnetic shielding, electrical conductivity and abrasion resistance. OCLI markets and distributes components to original equipment manufacturers (OEMs) of optical and electro-optical systems and sells its Glare/Guard-Registered Trademark- brand ergonomic computer display products through resellers and office retailers. OCLI's products are found in many applications including computer monitors, flat panel displays, telecommunication systems, photocopiers, fax machines, medical/analytical equipment and instruments, projection imaging systems, satellite power systems and aerospace and defense systems. The Company also manufactures precision injection molded plastic optical components that are used in a variety of applications such as inkjet printers, point-of-sale scanners and sunglasses. Through its wholly owned subsidiary, Flex Products, Inc. (Flex), the Company designs and manufactures thin film coatings on flexible substrates using high vacuum roll-to-roll processes. Flex supplies critical pigments for use in anti-counterfeiting applications, energy conserving window film for residential, commercial and automotive applications and ChromaFlair-Registered Trademark- light interference pigments for commercial paints. USE OF ESTIMATES. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates. INTERIM FINANCIAL INFORMATION. The accompanying Consolidated Balance Sheet as of January 31, 1999, the Consolidated Statements of Income for the three month periods ended January 31, 1998 and 1999, the Consolidated Statement of Stockholders' Equity and Comprehensive Income for the three month period ended January 31, 1999 and the Consolidated Statements of Cash Flows for the three month periods ended January 31, 1998 and 1999, have been prepared by the Company without audit. In the opinion of management, all adjustments consisting of normal recurring accruals, necessary to present fairly the financial position, results of operations and cash flows at January 31, 1999 and for all periods presented have been made. The data disclosed in the Notes to Consolidated Financial Statements as of such dates and for such periods are unaudited. The results of operations for the period ended January 31, 1999 are not necessarily indicative of the operating results anticipated for the full year. 2. SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION. The consolidated financial statements include the accounts of the Company and its wholly and majority owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. The Company's fiscal year ends on the Sunday closest to the last day in October. For convenience purposes, the Company has designated October 31 as its fiscal year end. Fiscal year 1996 was a 53-week year and fiscal years 1997 and 1998 were 52-week years. INVESTMENTS. Cash and cash equivalents are comprised of cash, bank repurchase agreements and short-term commercial paper readily convertible to cash. Cash equivalents are carried at cost which F-9 approximates market value. For purposes of the Statements of Cash Flows, all highly liquid cash equivalents with an original maturity of three months or less are considered cash equivalents. REVENUE RECOGNITION. Revenue from sales of manufactured products (under standard product sale and fixed price supply contracts) is recognized when the products are shipped to the customer. Revenue for service contracts (whether fixed price or cost reimbursement) is recognized as services are performed. The Company occasionally enters into long-term contracts under which revenue is recognized on a percentage of completion basis. INVENTORIES. Inventories are stated at the lower of cost, on a first-in, first-out basis, or market. Work-in-process inventories related to fixed-price contracts are stated at the accumulated cost of material, labor and manufacturing overhead, less the estimated cost of units delivered. To the extent total costs under fixed-price contracts are estimated to exceed the total sales price, charges are made to current operations to reduce inventoried costs to net realizable value. In addition, if future costs are estimated to exceed future revenues, an allowance for losses equal to the excess is provided by a charge to current operations. The Company did not have any material estimated loss contracts in the periods presented. PROPERTY, PLANT AND EQUIPMENT. Property, plant and equipment are stated at cost. Estimated service lives range from 5 to 45 years for buildings and improvements and from 3 to 10 years for all other property, plant and equipment. Buildings and improvements and substantially all equipment are depreciated using accelerated methods. Assets under capital lease constitute computer equipment and enterprise resource planning software for leases commencing in fiscal 1997 and 1998, which are being amortized on a straight-line basis from the date of service. Amortization lives are four years for the equipment and six years for the software. The gross cost of assets under capital lease is included in machinery and equipment and was $2,037,000 and $3,638,000 at October 31, 1997 and 1998. Amortization began in fiscal 1998 when assets were placed in service. Accumulated amortization for assets under capital lease is included in accumulated depreciation and was $205,000 at October 31,1998. RESEARCH AND DEVELOPMENT. Research and development costs are charged to operations in the period incurred. The cost of equipment used in research and development activities that has alternative uses is capitalized as equipment and not treated as an expense of the period. Such equipment is depreciated over estimated lives of 5 years. FOREIGN OPERATIONS. The financial position and operating results of foreign operations are consolidated using the local currency as the functional currency. Local currency assets and liabilities are translated at the rate of exchange to the U.S. dollar on the balance sheet date, and the local currency revenues and expenses are translated at average rates of exchange to the U.S. dollar during the period. Resulting translation gains or losses are included in stockholders' equity as cumulative foreign currency translation adjustment. Foreign currency transaction gains and losses, which have not been material, are reflected in operating results. INCOME TAXES. Income taxes include provisions for temporary differences between earnings for financial reporting purposes and earnings for income tax purposes under the guidelines of SFAS No. 109, "Accounting for Income Taxes". Tax credits are taken as a reduction of current income tax provisions when available. EARNINGS PER SHARE. In 1998, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings Per Share," which required the Company to replace its presentation of primary earnings per share with a presentation of basic earnings per share and requires dual presentation of basic and diluted earnings per share on the face of the income statement. Basic earnings per share is computed by dividing net income applicable to common stock by the weighted average number of common shares outstanding. Diluted earnings per share is computed by dividing net income F-10 applicable to common stock by the weighted average number of common shares and the potential dilution of convertible securities, stock options and warrants. The earnings per share presentation for fiscal years 1996 and 1997 were restated to conform to the new statement. The following is a reconciliation of the numerators and denominators of the basic and diluted earnings per share computations for the periods presented below:
THREE MONTHS ENDED FISCAL YEARS ENDED OCTOBER 31, JANUARY 31, ------------------------------- -------------------- 1996 1997 1998 1998 1999 --------- --------- --------- --------- --------- (UNAUDITED) (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) BASIC SHARES: Average common shares outstanding....... 9,629 10,191 11,388 10,625 12,142 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net income.............................. $ 5,196 $ 7,125 $ 7,339 $ 1,596 $ 2,033 Less dividend on convertible redeemable preferred stock....................... 960 693 250 125 -- --------- --------- --------- --------- --------- Net income applicable to common stock... $ 4,236 $ 6,432 $ 7,089 $ 1,471 $ 2,033 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net income per common share, basic...... $ 0.44 $ 0.63 $ 0.62 $ 0.14 $ 0.17 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- DILUTED SHARES: Average common shares outstanding....... 9,629 10,191 11,388 10,625 12,142 Dilutive effect of employee stock options............................... 672 482 611 771 726 --------- --------- --------- --------- --------- Average shares outstanding, diluted..... 10,301 10,673 11,999 11,396 12,868 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net income applicable to common stock... $ 4,236 $ 6,432 $ 7,089 $ 1,471 $ 2,033 --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Net income per share, diluted........... $ 0.41 $ 0.60 $ 0.59 $ 0.13 $ 0.16 --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
Preferred stock convertible into 1,143,000, 595,000, and 303,000 shares of common stock in fiscal 1996, 1997 and 1998 and 595,000 shares of common stock in the first three months of fiscal 1998 was not included in the calculation of diluted earnings per share as the effect of increasing the denominator by those amounts and adding back the preferred dividends would have increased diluted earnings per share. Options to purchase 12,000 shares of common stock at a weighted average price of $17.38 that were outstanding in 1996, options to purchase 65,500 shares of common stock at a weighted average price of $12.96 that were outstanding during 1997, options to purchase 67,500 shares of common stock at a weighted average price of $17.35 that were outstanding during 1998 and options to purchase 45,000 shares of common stock at a weighted average price of $25.89 that were outstanding during the first quarter of fiscal 1999 were not included in the computation of diluted earnings per share because the exercise price was greater than the average market price of the common shares. F-11 RECLASSIFICATIONS. Certain reclassifications have been made to prior period data to conform to the current period presentation. FAIR VALUE OF FINANCIAL INSTRUMENTS. For certain of the Company's financial instruments, including cash and cash equivalents, accounts receivable, accounts payable, accrued expenses, accrued compensation expenses and notes payable, the carrying amounts approximate fair value due to their short maturities. The Company's long-term debt is carried at book value. If revalued based on borrowing rates currently available to the Company for bank loans of similar terms and maturities, the fair value of the Company's long-term debt would exceed carrying value by approximately $1.4 million at October 31, 1998. COMPREHENSIVE INCOME. In the first quarter of 1999, the Company adopted the provisions of SFAS No. 130 "Reporting Comprehensive Income," which required the Company to report, by major component and in total, all changes to equity from non owner sources. The Company's Consolidated Statements of Stockholders' Equity have been changed to Consolidated Statements of Stockholders' Equity and Comprehensive Income. Comprehensive income consists of foreign currency translation adjustments which are reported as a separate component of equity. Comparative presentations for fiscal years ended October 31, 1996, 1997 and 1998 have been reclassified to conform to the new statement. NEW ACCOUNTING PRINCIPLES. In 1997, the Financial Accounting Standards Board issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," which establishes annual and interim reporting standards for a public company's operating segments and related disclosures about its products, services, geographic areas and major customers. The statement is effective for the Company's fiscal 1999 annual report and will require 1999 comparative disclosures for interim reports in the following fiscal year. Adoption of the statement affects the Company's disclosures and will not impact the Company's results of operations, cash flow or financial position. In 1998, the Financial Accounting Standards Board issued SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits," which revises employers' disclosures about pension and other postretirement benefit plans to standardize disclosure requirements for pensions and other postretirement benefits to the extent practicable, requires additional information on changes in the benefit obligations and fair values of plan assets and eliminates certain disclosures. The statement is effective for the Company's fiscal 1999 annual report with restatement of prior year disclosures required if the information is readily available. Adoption of the statement affects the Company's disclosures and will not impact the Company's results of operations, cash flow or financial position. In 1998, the Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which establishes accounting and reporting standards for derivative instruments and hedging activities. The statement requires balance sheet and income statement recognition of derivative transactions and provides limitations and accounting requirements for hedging instruments. The statement is effective for the first quarter of the Company's fiscal year 2000 with earlier application encouraged. As the Company's existing derivative contracts and policies regarding the use of derivatives require that cash flows under financial derivatives match cash flows under existing firm commitments, the Company does not expect adoption of SFAS 133 to affect its results of operations or cash flows but, as the statement requires separate presentation of the fair value of derivative instruments, the Company's Statement of Financial Position will be affected by adoption of the statement. 3. IMPAIRMENT LOSS In fiscal 1997, the Company adopted SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of." The statement addresses the accounting for the impairment of long-lived assets and long-lived assets to be disposed of, certain identifiable intangibles and goodwill related to those assets and establishes guidance for recognizing and measuring impairment losses and requires that the carrying amount of impaired assets be reduced to fair value. F-12 In the fourth quarter of fiscal 1998, the Company made the decision to dispose of its manufacturing subsidiary in Germany (MMG). In conjunction with negotiation of the sale, independent appraisals were made of the assets and liabilities of MMG, and an impairment loss of $8.6 million was recorded in the fourth quarter of 1998 to reduce the carrying amount of MMG's assets to fair value, net of disposal costs on a liquidation basis. Assets written down include Property, Plant and Equipment of $3.8 million and Goodwill (included in Other Assets) of $4.4 million. Transaction and disposal costs of approximately $400,000 were accrued. At October 31, 1998, the remaining carrying amount of assets to be disposed of (inventory, equipment, furniture and three buildings in Germany) was $4.9 million. MMG's net sales were $19.8 million, $18.1 million and $16.5 million and MMG's net income (loss), excluding the impairment loss in 1998, was ($1.4) million, ($163,000) and $1.2 million in fiscal years 1996, 1997 and 1998. 4. RESTRUCTURING CHARGES During the fourth quarter of fiscal 1998, the Company finalized and announced to affected individuals a plan of restructuring for its administrative and sales offices in Europe. The Company recorded $328,000 of severance and termination benefits and $258,000 of exit costs associated with this plan of restructuring. The restructuring will eliminate five administrative and sales positions in Europe. Exit costs include costs of closing down administrative and sales offices in Europe and lease termination costs. The restructuring plan is scheduled for completion by April 1, 1999. In the first quarter of 1999, $306,000 of severance and termination benefits and $250,000 of exit costs were paid under the restructuring plan. Remaining accrued restructuring expenses under the plan at January 31, 1999 are $30,000. 5. INVESTMENTS FLEX PRODUCTS, INC. Flex was founded as a division of the Company in the early 1980's and was subsequently established as a joint venture in which ICI Americas Inc. (ICIA), an affiliate of Imperial Chemical Industries PLC owned 60% and the Company owned 40%. In 1995, the Company acquired controlling ownership of Flex with the purchase of an additional 20% interest in Flex from ICIA. In conjunction with the Company's increase in ownership, the remaining 40% interest in Flex was acquired by SICPA Holding S.A. (SICPA), a privately held Swiss Corporation headquartered in Lausanne, Switzerland. SICPA is one of the world's leading manufacturers of printing inks and a major customer of Flex. In 1996, SICPA filed a lawsuit in Delaware Chancery Court in order to block an attempted initial public offering by Flex arguing that such an offering without SICPA's consent was prohibited by Flex's articles of incorporation, as well as by certain contractual provisions between the Company and SICPA. In fiscal 1998, the Company announced that it had completed final negotiations for the settlement of the litigation with SICPA. Under the terms of the settlement, the Company and SICPA agreed to modify their co-ownership agreement to enable OCLI to more effectively manage the day-to-day operations of Flex, to allow for public financing of Flex's operations and to modify the License and Supply Agreement between Flex and SICPA. The modification to the License and Supply Agreement provided for more attractive scheduled pricing discounts on higher volume purchases and changed the scheduled order patterns to be consistent with the Company's fiscal quarters. In addition, the Company purchased $2.6 million of Flex's working capital loans from SICPA. OCLI ASIA. In the second quarter of 1997, the Company began operating a joint venture with Hakuto Co., Ltd. (Hakuto) in Japan. The joint venture was established to address the rapidly changing market for OCLI's multi-layer thin film coatings that require an expanded presence and more integrated support within Asia. Each partner contributed cash of $800,000 for working capital. OCLI Asia was consolidated into the Company's results of operations and financial position as the Company has operating F-13 control. During 1998, the Company purchased Hakuto's interest in the joint venture for $740,000 in cash. The wholly owned subsidiary, OCLI Asia K.K., continues to do business as OCLI Asia and remains headquartered in Tokyo, with manufacturing facilities in Atsugi, Japan. At October 31, 1998, other assets and investments include $600,000 of goodwill for OCLI Asia that is being amortized over fifteen years. F-14 6. LONG TERM DEBT Long-term debt, including current maturities, at October 31, 1997 and 1998 consisted of the following:
1997 1998 --------- --------- (AMOUNTS IN THOUSANDS) Unsecured senior notes. Interest at 6.7% payable semiannually. Principal payable in annual installments of $4.3 million commencing July 31, 2002 through 2008............................................................ $ 30,000 Unsecured senior notes. Interest at 7.8% payable semiannually. Principal payable in annual installments of $1.1 million commencing July 31, 2002 through 2008............................................................ 8,000 Unsecured senior notes. Interest at 8.7% payable semiannually. Principal payable in annual installments of $1.6 million commencing June 1, 1999 through 2002............................................................ 6,400 Mortgage payable. Interest at 8.0%. Collateralized by a 72,000 sq. ft. building and related land. Principal and interest payments of $25,000 per month through 2011.................................................. $ 2,422 2,314 Mortgage payable. Interest at 7.5%. Collateralized by a 65,000 sq. ft. building and related land leased to Flex. Principal and interest payments of $28,000 per month through 2011.............................. 2,821 2,647 Unsecured bank note. Interest at 5.6%. Quarterly principal and interest payments of approximately $300,000 through December 2002................ 4,568 3,661 Bank loans of OCLI/MMG Division with interest rates ranging from 4.5% to 7.5%. Payable in semiannual and annual installments through 2020. Partly collateralized by mortgages on OCLI/MMG Division land and buildings and liens on equipment. $2.7 million is payable from the proceeds of assets sold in November 1998, and $371,000 is payable when the office building is sold................................................................. 3,618 3,120 Unsecured senior notes. Interest at 8.7% payable semiannually. Principal payable in annual installments of $3.6 million from 1998 through 2002. Refinanced in July 1998................................................. 14,400 Unsecured bank term loan. Variable interest rates averaging 6.8% at October 31, 1997, payable quarterly, with semiannual principal payments of $2 million. Refinanced in July 1998.................................. 10,000 Unsecured borrowings under bank line of credit. Variable interest rate averaging 6.7% at October 31, 1997, payable quarterly or specified duration period. Principal due upon expiration on April 28, 2000........ 5,000 Scottish Development Agency building loan, with a conditional interest moratorium from February 1, 1995 through January 31, 1998 with interest at 9.5% thereafter. Semiannual principal payments of approximately $100,000 are payable through January 1998 with subsequent payments of $331,000, comprising principal and interest, through 2006. Collateralized by the land and building of the Company's Scottish subsidiary.............................................................. 3,877 Land improvement assessment. Interest at an average rate of 7.2%. Principal and interest payable in semiannual installments of $77,000 through 1998............................................................ 150 Present value of obligations under capital leases at imputed interest rates from 8.0% to 9.5% payable in monthly installments through 2004.... 2,007 2,257 --------- --------- 48,863 58,399 Less current maturities................................................... (7,888) (6,026) --------- --------- Total long term debt, net of current maturities..................... $ 40,975 $ 52,373 --------- --------- --------- ---------
F-15 Annual debt maturities and capital lease payments for the ensuing five years are as follows:
YEAR PAYMENT - --------------------------- ----------------------- (AMOUNTS IN THOUSANDS) 1999....................... $ 6,026 2000....................... 3,663 2001....................... 3,533 2002....................... 8,616 2003....................... 6,126 Thereafter................. 30,435 ------- $ 58,399 ------- -------
The Company has a $20 million revolving line of credit. The revolving line of credit carries a commitment fee of .2% to .3% per year on the unused portion of the facility depending on the Company's leverage ratio and expires on July 31, 2003. The Company has a surety bond for $903,000 to satisfy the Company's workers' compensation self-insurance requirements. The surety bond carries a fee of 1% per year. During fiscal 1997, the Company replaced its 8.0%, $5 million note payable to private parties with a 5.6% bank note. Payments of principal and interest under the new note are denominated in German marks and are approximately $300,000 per quarter through December 2002. During fiscal 1997 and 1998, the Company recorded capital leases totaling $2,037,000 and $1,601,000 to finance the hardware, software and integration costs of a new computer system that is to be fully implemented in fiscal 1999. Lease terms run through February 2002 with payments totaling approximately $67,000 per month. The Company's subsidiary in Scotland has a credit arrangement of up to approximately $490,000 at market interest rates and has outstanding letters of credit of approximately $330,000 to guarantee import duties. There were no borrowings under the credit arrangement in fiscal 1997 or 1998. The Company's subsidiary in Japan has various credit facilities with a local bank with interest at 1.24% to 1.63% per year. Borrowing under these facilities totaled $4.5 million at October 31, 1998. These credit facilities are used for working capital requirements in Asia and will expire in May 1999. The Company has certain financial covenants and restrictions under its bank credit arrangements and the unsecured senior notes. At October 31, 1998, as a result of the impairment loss and restructuring charges recorded in fiscal 1998, the Company was in violation of one of the covenants under its bank credit arrangement. On January 8, 1999, the Company and the bank executed a waiver and amendment to the Company's credit agreement under which a waiver was obtained for the period ended October 31, 1998. The amendment removes the effect of the impairment loss and restructuring charges from the financial covenants so they will not affect covenant compliance in future periods. 7. FINANCIAL DERIVATIVES AND HEDGING The Company, from time to time, enters into derivative transactions in order to hedge foreign currency risk on existing commitments, open receivables, payables and debt instruments when the currency risk is considered significant to the Company. In addition, the Company may enter into interest rate swaps or similar instruments in order to reduce interest rate risk on its debt instruments. The Company does not enter into derivatives for trading purposes. In fiscal 1998, the Company entered into foreign currency forward contracts for the principal and interest payments under a $3.7 million loan that is denominated in German Marks. The transaction is designated as a hedge of a foreign currency commitment. Gains and losses on the contract are recorded as F-16 a net reduction or increase to interest expense over the life of the loan. The Company also entered into foreign currency forward contracts for the principal and interest payments under an intercompany note receivable denominated in British Pounds. Gains and losses on those contracts are offset in consolidation. In fiscal 1998, the Company entered into an interest rate swap for anticipated debt refinancing in the amount of $30 million. The purpose of the swap was to fix the reference rate for the debt at 5.7% to eliminate the Company's exposure to interest rate fluctuations until the loan refinance was completed. The Company had designated the swap as a hedge of an anticipated transaction. After completion of the loan refinance, $310,000 was paid under the swap that is being recorded as an increase to interest expense over the term of the notes. The notional amounts, carrying amounts and fair values of the Company's derivatives position at October 31, 1998 are included in the table below:
ESTIMATED FAIR VALUE OF FOREIGN NOTIONAL CARRYING EXCHANGE AMOUNT AMOUNT CONTRACT ----------- ------------- ------------- (AMOUNTS IN THOUSANDS) Foreign currency forward exchange contracts: Deutsche Marks.............................. $ 4,124 -- $ 345 British Pounds.............................. $ 2,948 -- $ 92
The notional amounts, carrying amounts and fair values of the Company's derivatives position at January 31, 1999 are included in the table below:
ESTIMATED FAIR VALUE OF FOREIGN NOTIONAL CARRYING EXCHANGE AMOUNT AMOUNT CONTRACT ----------- ------------- ------------- (AMOUNTS IN THOUSANDS) Foreign currency forward exchange contracts: Deutsche Marks.............................. $ 3,865 -- $ 196 British Pounds.............................. $ 2,948 -- $ 163
8. STOCKHOLDERS' EQUITY STOCKHOLDER RIGHTS PLAN. On December 16, 1997, the Company's Board of Directors approved a new Stockholder Rights Plan (the "Plan") to succeed the Stockholder Rights Plan first adopted on November 25, 1987. Under the terms of the Plan, which expires in November 1999, the Company declared a dividend of preferred stock purchase rights which only become exercisable, if not redeemed, ten days after a person or group has acquired 20% or more of the Company's common stock or the announcement of a tender offer which would result in a person or group acquiring 30% or more of the Company's common stock. Under certain circumstances, the plan allows stockholders, other than the acquiring person or group, to purchase the Company's common stock or the common stock of the acquirer at an exercise price of half the market price. On December 15, 1998, the Board of Directors approved an amendment to the Plan which deletes or modifies references to "Continuing Directors" in order to comply with recent changes in Delaware law. F-17 PREFERRED STOCK. The Company has authorized 100,000 shares of preferred stock at $.01 par value of which 10,000 shares were designated Series A Preferred Stock in connection with the Company's Stockholder Rights Plan. None of the Series A Preferred Stock is issued. Additionally, 15,000 shares were designated Series B Preferred Stock, of which 8,350 shares were issued and subsequently converted to common stock on call for redemption. None of the Series B Preferred Stock is currently issued and outstanding. In 1995, as part of the financing of the acquisition of a controlling interest in Flex, the Company issued 12,000 shares of 8.0% Series C Convertible Redeemable Preferred Stock (the "Series C Preferred Stock") in consideration for $1,000 per share. The Series C Preferred Stock was convertible into common stock at any time by the holders at a conversion price of $10.50 per common share (subject to adjustment in certain circumstances). The Series C Preferred Stock was redeemable at the option of the Company commencing two years from the date of issuance (if the Company's common stock is trading at $17 per share or more for any 20 consecutive day period) and, after three years, unconditionally, at 108% of the purchase price per share, declining to 100% over four years. The holders of the Series C Preferred Stock were entitled to receive a cumulative annual dividend of $80 per share, which was payable quarterly and had preference to any other dividends paid by the Company. In fiscal 1997, 5,750 shares of the Company's 8.0% Series C Convertible Redeemable Preferred Stock, plus accrued dividends, were converted into approximately 555,000 shares of common stock. In fiscal 1998, the Company called for redemption the remaining shares of 8.0% Series C Convertible Redeemable Preferred Stock. The remaining 6,250 shares plus accrued dividends, were subsequently converted by the holders into approximately 599,000 shares of common stock. 9. EMPLOYEE STOCK OPTION PLANS Pursuant to the terms of the Company's employee stock option plans, at October 31, 1998, an aggregate of 2,330,441 shares of Company common stock has been issued or reserved for issuance upon the exercise of options granted to qualified employees. Options are granted with exercise prices equal to the market price of the Company's common stock at the date of grant. Information with respect to stock options outstanding and options exercisable at October 31, 1998 is as follows:
OPTIONS OUTSTANDING ---------------------------- OPTIONS EXERCISABLE WEIGHTED ------------------------ AVERAGE WEIGHTED WEIGHTED RANGE OF REMAINING AVERAGE AVERAGE EXERCISE OUTSTANDING CONTRACTUAL EXERCISE EXERCISABLE EXERCISE PRICES AT 10/31/98 LIFE PRICE AT 10/31/98 PRICE - -------------- ----------- --------------- ----------- ----------- ----------- $6.125-$8.375 127,250 1.15 $ 6.68 127,250 $ 6.68 $9.625-$10.75 773,311 2.98 $ 10.25 504,089 $ 10.34 $12.125-$14.325 504,820 4.05 $ 13.92 44,852 $ 12.60 $15.00-$19.00 100,500 4.66 $ 17.10 -- ----------- ----------- 1,505,881 676,191 ----------- ----------- ----------- -----------
In May 1997, the Board of Directors approved a stock option repricing program under which stock options with exercise prices above $14.00 per share were repriced to the then current market value of the Company's common stock of $9.63. A total of 162,000 shares, with exercise prices ranging from $14.13 per share to $17.38 per share, were exchanged under this program. The exchange of such options is presented in the following table as cancellations and subsequent grants. F-18 In the second quarter of fiscal 1998, the Company's Chairman of the Board and former Chief Executive Officer exercised options for 770,666 shares of common stock of the Company and turned in 117,296 shares for payment of withholding taxes. The $5.8 million exercise price of the options was paid with a full recourse promissory note that was repaid with interest at 7.5% in the third quarter of fiscal 1998. Stock option activity for the three years ended October 31, 1998 and the three months ended January 31, 1999 was:
WEIGHTED NUMBER OF AVERAGE SHARES EXERCISE PRICE ----------- --------------- BALANCE AT NOVEMBER 1, 1995...................... 1,531,800 $ 7.47 Granted.......................................... 546,450 11.81 Exercised........................................ (229,800) 7.45 Canceled......................................... (13,200) 9.16 ----------- ------ BALANCE AT OCTOBER 31, 1996...................... 1,835,250 8.75 Granted.......................................... 708,800 10.48 Exercised........................................ (268,849) 8.52 Canceled......................................... (272,792) 12.53 ----------- ------ BALANCE AT OCTOBER 31, 1997...................... 2,002,409 8.88 Granted.......................................... 509,000 14.86 Exercised........................................ (964,424) 7.61 Canceled......................................... (41,104) 12.56 ----------- ------ BALANCE AT OCTOBER 31, 1998...................... 1,505,881 11.64 Granted (unaudited).............................. 607,780 20.83 Exercised (unaudited)............................ (87,634) 9.73 Cancelled (unaudited)............................ (19,808) 13.41 ----------- ------ BALANCE AT JANUARY 31, 1999 (UNAUDITED).......... 2,006,219 $ 14.48 ----------- ------ ----------- ------ EXERCISABLE AT OCTOBER 31, 1998.................. 676,191 $ 9.80 ----------- ------ ----------- ------ EXERCISABLE AT JANUARY 31, 1999 (UNAUDITED)...... 803,141 $ 10.66 ----------- ------ ----------- ------
The Company's subsidiary, Flex, a non-public company, has a non-qualified stock option plan. After taking into account a one hundred to one stock split in fiscal 1998, at October 31, 1998 the plan had 1,000,000 shares of common stock authorized for issuance against 10,000,000 shares outstanding of Flex to key members of Flex's management. The options have vesting periods from two to four years with five-year terms. At October 31, 1998, Flex's outstanding options were exercisable at prices ranging from $4.39 to $4.89, with weighted average remaining lives of 3.29 years. F-19 Flex's stock option activity for the three years ended October 31, was:
WEIGHTED NUMBER OF AVERAGE SHARES EXERCISE PRICE ----------- ----------------- BALANCE AT NOVEMBER 1, 1995...................... Granted.......................................... 1,027,100 $ 4.44 Exercised........................................ Canceled......................................... ----------- ----- BALANCE AT OCTOBER 31, 1996...................... 1,027,100 4.44 Granted.......................................... 20,000 4.89 Exercised........................................ Canceled......................................... (44,600) 4.43 ----------- ----- BALANCE AT OCTOBER 31, 1997...................... 1,002,500 4.47 Granted.......................................... 370,000 4.67 Exercised........................................ Canceled......................................... (444,300) 4.48 ----------- ----- BALANCE AT OCTOBER 31, 1998...................... 928,200 $ 4.55 ----------- ----- ----------- ----- EXERCISABLE AT OCTOBER 31, 1998.................. 341,710 $ 4.44 ----------- ----- ----------- -----
In fiscal 1997, the Company adopted the disclosure requirements of SFAS 123 that provide for the disclosure of pro forma net earnings and net earnings per share as if the fair value method of accounting had been adopted at the beginning of fiscal 1996. If compensation expense had been determined for stock options granted in fiscal 1996, 1997 and 1998 using the fair value method at the date of grant, consistent with the provisions of SFAS 123, the Company's pro forma net earnings and earnings per share would have been as follows:
1996 1997 1998 --------- --------- --------- (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Net income as reported........................... $ 5,196 $ 7,125 $ 7,339 Pro forma compensation adjustment................ (997) (1,597) (1,669) --------- --------- --------- Pro forma net income....................... $ 4,199 $ 5,528 $ 5,670 --------- --------- --------- --------- --------- --------- Basic earnings per share: Net income per share, as reported.............. $ 0.44 $ 0.63 $ 0.62 Pro forma compensation adjustment.............. (0.10) (0.16) (0.15) --------- --------- --------- Pro forma net income per share............. $ 0.34 $ 0.47 $ 0.47 --------- --------- --------- --------- --------- --------- Diluted earnings per share: Net income per share, as reported.............. $ 0.41 $ 0.60 $ 0.59 Pro forma compensation adjustment.............. (0.10) (0.15) (0.14) --------- --------- --------- Pro forma net income per share............. $ 0.31 $ 0.45 $ 0.45 --------- --------- --------- --------- --------- ---------
F-20 The weighted average fair value of options granted during fiscal 1996, 1997 and 1998 was $6.25, $5.60 and $5.75, respectively. The weighted average fair value of Flex's options granted during fiscal 1996, 1997 and 1998 was, $0.83, $1.39 and $1.06. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions used for grants in fiscal 1996, 1997 and 1998:
1996 1997 1998 --- --- --- COMPANY OPTIONS: Expected dividend yield.................................. 0.7% 0.7% 0.8% Expected volatility...................................... 59.0% 59.0% 43.0% Risk-free interest rate.................................. 5.6% 5.5% 5.7% Expected term (years).................................... 5 5 4 FLEX OPTIONS: Expected dividend yield (not applicable)................. Expected volatility (not applicable)..................... Risk-free interest rate.................................. 6.1% 6.2% 5.5% Expected term (years).................................... 4 6 5
10. INCOME TAXES The provision for income taxes consisted of:
1996 1997 1998 --------- --------- --------- (AMOUNTS IN THOUSANDS) CURRENT: Federal........................................... $ 2,120 $ 2,537 $ 2,722 State............................................. 309 225 916 Foreign........................................... (149) 116 129 --------- --------- --------- 2,280 2,878 3,767 --------- --------- --------- DEFERRED: Federal........................................... 1,535 1,061 (258) State............................................. (369) 598 (612) Foreign........................................... (21) 85 439 --------- --------- --------- 1,145 1,744 (431) --------- --------- --------- $ 3,425 $ 4,622 $ 3,336 --------- --------- --------- --------- --------- ---------
The reconciliation of the effective income tax rate to the federal statutory rate was as follows:
1996 1997 1998 --------- --- --- Statutory federal income tax rate.................................. 34.0% 34.0% 34.0% State taxes, net of federal tax benefit............................ 7.1 5.7 4.0 Foreign losses not previously benefited............................ (8.8) Foreign income taxes at rates different than U.S. statutory rates............................................................ 4.8 (0.5) .8 Business tax credits (state tax credits net of federal tax effect).......................................................... (10.3) (2.9) (2.3) Tax benefit from foreign sales corporation......................... (1.7) (2.7) (3.8) Non-deductible expenses, primarily foreign losses.................. 3.3 4.2 2.5 Other.............................................................. (0.2) (0.5) 1.3 --------- --- --- Effective tax rate............................................... 37.0% 37.3% 27.7% --------- --- --- --------- --- ---
F-21 DEFERRED TAX ASSETS (LIABILITIES). The Company's deferred tax assets and liabilities at October 31, 1997 and 1998 under SFAS 109 arise from the following temporary differences in accounting for financial versus tax reporting purposes:
1997 1998 --------- --------- (AMOUNTS IN THOUSANDS) CURRENT: Valuation reserves and accruals not deductible for tax purposes until paid or utilized.............................................................. $ 5,527 $ 4,060 Intercompany profit eliminated for financial reporting purposes which is taxable currently........................................................ 266 263 Domestic net operating losses available for carryforward................... 983 4,599 Asset valuation difference between financial and tax reporting basis due to purchase accounting...................................................... 131 73 Other...................................................................... (54) 316 --------- --------- Total deferred tax assets.............................................. 6,853 9,311 --------- --------- NONCURRENT: Domestic net operating losses available for carryforward................... 2,678 1,627 Foreign net operating losses available for carryforward.................... 2,686 751 Tax depreciation greater than financial reporting depreciation............. (3,920) (5,500) Intangible assets, difference between financial and tax reporting basis and periods.................................................................. (816) (459) Burden and interest on self-constructed assets expensed for tax purposes and depreciated for financial reporting purposes......................... (555) (816) Costs required to be capitalized under the uniform capitalization tax rules which are deducted for financial reporting purposes...................... 169 309 Liability for postretirement health benefits not deductible for tax purposes until paid...................................................... 747 967 State tax credits eligible for carryforward................................ 614 1,353 Other...................................................................... 296 (293) --------- --------- 1,899 (2,061) Less valuation allowance................................................... (2,684) (751) --------- --------- (785) (2,812) --------- --------- Total deferred tax balances................................................ $ 6,068 $ 6,499 --------- --------- --------- ---------
As a result of the sale of the assets of its MMG division and the resulting impairment loss in fiscal 1998, the Company recognized tax benefits relating to certain foreign operating losses that had not been tax benefited in prior periods. The Company has provided a valuation allowance related to the deferred tax asset resulting from the remaining operating loss carryforwards of certain of its other foreign subsidiaries until the realization of tax benefits resulting from those losses is determined to be more likely than not. The fiscal 1998 valuation allowance decrease is attributable to the change in the deferred tax asset resulting from foreign operating loss carryforwards. At October 31, 1998, the Company has domestic net operating loss carryforwards of $17.2 million. If not used, $4.0 million will expire in 2006, $3.6 million will expire in 2007, and $9.6 million will expire in 2018. The Company has California Manufacturers' Investment Credit carryforwards of $867,000 and California Research Credit carryforwards of $485,000. If not used, a portion of those credit carryforwards will expire between 2006 and 2008. Income taxes have not been provided on approximately $6.8 million of unremitted earnings of the Company's subsidiary in Scotland as of October 31, 1998. The Company intends to continue to reinvest F-22 these amounts in the subsidiary's operations. Should any of these amounts be distributed to the Company, any taxes on these distributions would be substantially offset by foreign tax credits. 11. EMPLOYEE BENEFIT PLANS U.S. OPERATIONS. The Company has a 401(k)/Employee Stock Ownership Plan (ESOP) defined contribution retirement plan for its non-Flex employees and a 401(k) plan with a Company match for the employees of Flex. Company contributions for non-Flex employees are a combination of a 401(k) matching contribution of 25% of the first 6% of employee contributions plus a contribution to the ESOP plan based on the Company's proportional share of pre-tax profits. Prior to fiscal 1997, all Company contributions to non-Flex employees were to the ESOP and were determined under a profit sharing formula. Company contributions for Flex employees are 75% of the first 6% of employee contributions. Company matching contributions to the 401(k) plans are funded in cash. Company contributions to the ESOP are contributed in cash for the purchase of Company common stock or are contributed in the form of original issued shares of Company common stock. In fiscal 1996, 1997 and 1998, the Company contributed and charged to operations $787,000, $1,211,000 and $1,740,000 as contributions to its U.S. retirement plans. SCOTTISH OPERATIONS. The Company's Scottish subsidiary maintains a contributory defined benefit pension program covering most of its employees. Benefits are primarily based on years of service and compensation. The program is funded in conformity with the requirements of applicable U.K. government regulations. Plan assets are invested in fixed interest and balanced fund units that are primarily comprised of corporate equity securities. The funded status of the plan at October 31, 1997 and 1998 is as follows:
1997 1998 --------- --------- (AMOUNTS IN THOUSANDS) Plan assets at fair value................................................. $ 7,617 $ 8,504 Projected benefit obligation.............................................. (8,856) (10,387) --------- --------- Plan assets less than projected benefit obligation........................ (1,239) (1,883) Unrecognized net loss..................................................... 1,842 2,204 Unrecognized transition asset being amortized over 19 years............... (423) (381) --------- --------- Prepaid (accrued) pension cost included in other assets (accrued expenses)......................................................... $ 180 $ (60) --------- --------- --------- ---------
At October 31, 1996, 1997 and 1998, the projected benefit obligations include accumulated benefit obligations of $5,658,000, $8,043,000 and $9,236,000 of which $5,643,000, $8,006,000, and $9,232,000 are vested. A discount rate of 7.0% was used in determining the present value of the projected benefit obligation. The expected long-term rate of return on assets was 9.0% and the assumed rate of increase in future compensation levels was 5.0%. F-23 The net pension expense for the Company's Scottish subsidiary recorded in fiscal 1996, 1997 and 1998 included the following components:
1996 1997 1998 --------- --------- --------- (AMOUNTS IN THOUSANDS) Service-cost benefits earned during the period......................... $ 364 $ 415 $ 565 Interest cost on projected benefit obligation.......................... 474 506 636 Actual return on plan assets........................................... (674) (616) (766) Net amortization and deferral.......................................... 163 (13) 46 --------- --------- --------- Net pension expense.............................................. $ 327 $ 292 $ 481 --------- --------- --------- --------- --------- ---------
12. POSTRETIREMENT BENEFITS OTHER THAN PENSIONS The Company sponsors a contributory defined benefit postretirement plan for its U.S. operations which provides medical, dental and life insurance benefits to employees who meet age and years of service requirements prior to retirement and who agree to contribute a portion of the cost. The Company has the right to modify or terminate these benefits at any time. The Company's contribution is a set amount per retiree depending on the retiree's years of service and dependent status at the date of retirement and the age of the retiree and dependents when benefits are provided. The retiree pays cost increases. The postretirement plan's benefit obligation was as follows for the years ended October 31, 1997 and 1998:
1997 1998 --------- --------- (AMOUNTS IN THOUSANDS) Accumulated postretirement benefit obligation: Retirees.................................................................... $ 1,017 $ 1,134 Fully eligible plan participants............................................ 341 170 Other active plan participants.............................................. 810 947 --------- --------- Total accumulated postretirement benefit obligation unfunded.......... 2,168 2,251 Unrecognized loss........................................................... (168) (111) --------- --------- Accrued postretirement benefit obligation............................. $ 2,000 $ 2,140 --------- --------- --------- ---------
The following components were included in net periodic postretirement benefit cost for the years ended October 31, 1996, 1997, and 1998:
1996 1997 1998 --- --- --- (AMOUNTS IN THOUSANDS) Service-cost benefits earned during the period........................... $ 79 $ 71 $ 69 Interest cost on accumulated post retirement benefit obligation.......... 166 165 141 Net amortization and deferral............................................ (7) 10 55 --- --- --- Net postretirement benefit cost.................................... $ 238 $ 246 $ 265 --- --- --- --- --- ---
Because the Company has established a maximum amount it will pay per retiree under the plan, health care cost trends do not affect the calculation of the accumulated benefit obligation or the net F-24 postretirement benefit cost. The weighted average discount rate used in determining the accumulated benefit obligation was 8.0% in fiscal 1996 and 1997 and 6.8% in fiscal 1998. 13. CONTINGENCIES AND COMMITMENTS LITIGATION. Over the past several years, the Company has been engaged in litigation in the United Kingdom (U.K.) involving infringement of a Company patent by the U.K. companies, Pilkington PE Limited and Pilkington PLC. The Company won its action at the Patents County Courts level but lost on appeal to the U.K. House of Lords. In October 1998, the Company settled the claim for approximately $850,000, most of which had been accrued in previous periods. On March 17, 1997, Optical Corporation of America (OCA) and certain of its directors and officers (Affiliates) commenced suit against the Company in the Superior Court, Middlesex County, Commonwealth of Massachusetts. The complaint arose out of a letter of intent executed by the Company and OCA in March 1996 and an ensuing merger agreement executed by the Company and OCA in June 1996. Under the merger agreement, the Company would have acquired OCA. The complaint sought damages for costs and expenses incurred by OCA in pursuing the merger transaction with the Company due to the Company's alleged negligent misrepresentations to OCA and Affiliates and the Company's alleged breach of its letter of intent with OCA. The Company filed counterclaims against OCA and the Affiliates based on OCA's breach of the merger agreement and sought damages based on the difference between the value of OCA's business to the Company and the agreed upon purchase price under the merger agreement. See Note 15 for additional discussion of OCA suit. In July 1996, SICPA filed a lawsuit in Delaware Chancery Court in order to block an attempted initial public offering by Flex arguing that such an offering without SICPA's consent was prohibited by Flex's articles of incorporation, as well as by certain contractual provisions between the Company and SICPA. In fiscal 1998, the Company announced that it had completed final negotiations for the settlement of the litigation with SICPA. Under the terms of the settlement, the Company and SICPA agreed to modify their co-ownership agreement to enable OCLI to more effectively manage the day-to-day operations of Flex, to allow for public financing of Flex's operations and to modify the License and Supply Agreement between Flex and SICPA. The modification to the License and Supply Agreement provided for more attractive scheduled pricing discounts on higher volume purchases and changed the scheduled order patterns to be consistent with the Company's fiscal quarters. In addition, the Company purchased $2.6 million of Flex's working capital loans from SICPA. On December 22, 1998 the Company purchased SICPA's 40% interest in Flex. In 1997, Flex filed a suit in United States District Court for the Eastern District of Michigan alleging that BASF Corporation (BASF) and BASF AG infringed Flex's patents covering optically variable thin film flakes which, when mixed with paints and inks, produce color shifting visual properties. The complaint requested that the Court enjoin BASF from importing, making, using, selling or offering to sell the infringing pigment in the United States. The complaint also sought damages for the infringement, including treble damages if the infringement was intentional. In October 1998, a settlement agreement was reached between Flex and both BASF companies under which Flex has agreed to allow BASF to make, use and sell two specific forms of a special effects pigment for use within limited application fields in exchange for a series of payments to be based upon BASF's revenues on the sale of those pigments. CONCENTRATIONS OF CREDIT RISK. The Company grants credit to customers, subject to credit approval, for most of its sales. At October 31, 1998, accounts receivable from customers in foreign countries was $21 million, or 53.7%, of accounts receivable with approximately $8 million receivable from customers in Asia and approximately $13 million receivable from customers in Europe and other countries. OPERATING LEASE AGREEMENTS. The Company and its subsidiaries lease computer equipment, manufacturing space and warehouse space. The operating lease payments are recorded as rental expense and totaled $4,881,000, $6,351,000 and $7,104,000 for fiscal 1996, 1997 and 1998. Future minimum F-25 operating lease payments amount to $24.9 million, and for the years 1999 through 2003 are $6,665,000 $5,845,000, $5,178,000, $3,020,000 and $777,000 under operating lease agreements in effect at October 31, 1998. EMPLOYMENT AGREEMENTS. The Company has approved employment agreements for officers and employment assurance agreements for certain management and technical employees, as well as increases in severance benefits for full-time employees, to be effective in the event of certain changes in control of the Company. These agreements are currently effective through fiscal 1999. 14. INFORMATION ON OPERATIONS INVENTORIES. Inventories as of October 31, 1997 and 1998 and January 31, 1999 consisted of:
OCTOBER 31, 1997 1998 --------- --------- JANUARY 31, 1999 ----------- (UNAUDITED) (AMOUNTS IN THOUSANDS) Raw materials and supplies............... $ 7,541 $ 7,138 $ 6,289 Work-in-process.......................... 12,308 13,148 9,896 Finished goods........................... 2,980 4,947 5,083 --------- --------- ----------- Total inventories.................... $ 22,829 $ 25,233 $ 21,268 --------- --------- ----------- --------- --------- -----------
INTEREST. Interest expense and amounts capitalized were as follows for the years ended October 31, 1996, 1997 and 1998:
1996 1997 1998 --------- --------- --------- (AMOUNTS IN THOUSANDS) Interest costs incurred............................. $ 4,696 $ 4,249 $ 4,312 Less amounts capitalized............................ 1,172 219 697 --------- --------- --------- Net interest expense.......................... $ 3,524 $ 4,030 $ 3,615 --------- --------- --------- --------- --------- ---------
SALES INFORMATION. Significant customers and sales to the federal government were as follows: The Company's largest customer in fiscal 1996 and 1997 accounted for 12.7% and 14.0% of consolidated revenues. The Company's largest customer in fiscal 1998 accounted for 21.1% of consolidated revenues. Sales of products and services to the federal government, primarily under subcontracts, were 8.8%, 5.9% and 4.0% of net revenues in fiscal 1996, 1997 and 1998. Certain of these contracts are subject to cost review by various governmental agencies. Management believes that adjustments, if any, will not be material to the operating results of the Company. F-26 FOREIGN OPERATIONS. Certain information regarding the Company's domestic and foreign revenues is as follows:
CANADA EUROPE ASIA UNITED AND AND AND STATES OTHER(1) OTHER(1) OTHER(1) ELIMINATIONS TOTAL --------- ----------- ----------- --------- ----------- --------- (AMOUNTS IN THOUSANDS) FISCAL YEAR ENDED OCTOBER 31, 1996: Domestic revenues and revenues of foreign operations............. $ 99,543 $ 38,795 $ (815) $ 137,523 Export sales from the U.S........ $ 1,640 34,106 $ 25,296 (9,370) 51,672 Transfers between regions........ (815) (9,370) 10,185 --------- ----------- ----------- --------- ----------- --------- Revenues from customers........ $ 98,728 $ 1,640 $ 63,531 $ 25,296 $ -- $ 189,195 --------- ----------- ----------- --------- ----------- --------- --------- ----------- ----------- --------- ----------- --------- FISCAL YEAR ENDED OCTOBER 31, 1997: Domestic revenues and revenues of foreign operations............. $ 98,025 $ 31,411 $ 8,295 $ (2,709) $ 135,022 Export sales from the U.S........ $ 19,571 45,855 30,023 (12,642) 82,807 Transfers between regions........ (2,709) (6,669) (5,973) 15,351 --------- ----------- ----------- --------- ----------- --------- Revenues from customers........ $ 95,316 $ 19,571 $ 70,597 $ 32,345 $ -- $ 217,829 --------- ----------- ----------- --------- ----------- --------- --------- ----------- ----------- --------- ----------- --------- FISCAL YEAR ENDED OCTOBER 31, 1998: Domestic revenues and revenue of foreign operations............. $ 106,019 $ 29,664 $ 14,924 $ (1,056) $ 149,551 Export sales from the U.S........ $ 54,528 40,224 27,890 (16,569) 106,073 Transfers between regions........ (598) (5,930) (11,097) 17,625 --------- ----------- ----------- --------- ----------- --------- Revenues from customers........ $ 105,421 $ 54,528 $ 63,958 $ 31,717 $ -- $ 255,624 --------- ----------- ----------- --------- ----------- --------- --------- ----------- ----------- --------- ----------- ---------
- ------------------------ Transfers between regions represent intercompany sales of products and intercompany compensation for services. (1) Other sales, which constitute less than 10% of consolidated sales, are aggregated by region based on geographic proximity. Certain information regarding the Company's operations by region is as follows:
UNITED STATES EUROPE JAPAN ELIMINATIONS TOTAL --------- --------- --------- ----------- --------- (AMOUNTS IN THOUSANDS) FISCAL YEAR ENDED OCTOBER 31, 1996: Income (Loss) from operations................. $ 12,812 $ (410) $ -- $ -- $ 12,402 --------- --------- --------- ----------- --------- --------- --------- --------- ----------- --------- Identifiable assets........................... $ 146,869 $ 59,715 $ -- $ (33,813) $ 172,771 --------- --------- --------- ----------- --------- --------- --------- --------- ----------- --------- FISCAL YEAR ENDED OCTOBER 31, 1997: Income (Loss) from operations................. $ 16,206 $ 385 $ (316) $ (328) $ 15,947 --------- --------- --------- ----------- --------- --------- --------- --------- ----------- --------- Identifiable assets........................... $ 170,443 $ 32,646 $ 5,570 $ (25,166) $ 183,493 --------- --------- --------- ----------- --------- --------- --------- --------- ----------- --------- FISCAL YEAR ENDED OCTOBER 31, 1998: Income (Loss) from operations................. $ 22,972 $ (7,083) $ (689) $ (328) $ 14,872 --------- --------- --------- ----------- --------- --------- --------- --------- ----------- --------- Identifiable assets........................... $ 208,733 $ 21,773 $ 9,077 $ (25,997) $ 213,586 --------- --------- --------- ----------- --------- --------- --------- --------- ----------- ---------
F-27 COMPONENTS OF EARNINGS. Components of earnings (loss) before provision for income taxes and minority interest were as follows:
1996 1997 1998 --------- --------- --------- (AMOUNTS IN THOUSANDS) Domestic......................................................... $ 10,796 $ 12,587 $ 20,436 Foreign.......................................................... (1,539) (209) (8,410)(1) --------- --------- --------- $ 9,257 $ 12,378 $ 12,026 --------- --------- --------- --------- --------- ---------
- ------------------------ (1) In the fourth quarter of 1998, the Company recorded an impairment loss of $8.6 million in connection with the sale of the operating assets of its MMG division and recorded restructuring charges of $586,000 pursuant to a plan of restructuring approved in the fourth quarter of 1998. See Notes 3 and 4 of Notes to Consolidated Financial Statements. 15. SIGNIFICANT TRANSACTIONS SUBSEQUENT TO OCTOBER 31, 1998 In the first quarter of fiscal 1999, Glas-Trosch GmbH, a privately held glass company in Switzerland, purchased the business and operating assets (inventory, equipment, furniture, two buildings, workforce, customer lists and other related intangibles) of MMG for $4.3 million. As the Company had previously recorded an impairment loss to reduce MMG's assets to fair value on a liquidation basis, no gain or loss was recognized on the sale. The cash proceeds from the sale were received in February 1999 and, as a result, the amount receivable from the sale is included in other current assets at January 31, 1999. An office building in Germany, with a carrying value of $531,000 which was not part of the sale, is being held for sale. In connection with the sale of MMG, the Company also received $1.2 million for a three-year covenant not to compete and $600,000 for a three-year license and supply agreement that incorporates the use of the OCLI name. The $1.8 million received for those contracts is being recognized as revenue over the three-year terms of the agreements. In December 1998, the Company acquired the 40% minority interest in Flex held by SICPA for $30 million bringing the Company's ownership in Flex to 100%. The transaction was recorded as a purchase in the first quarter of fiscal year 1999 based on data provided in an independent valuation. Pursuant to this transaction, the Company recorded a charge for in-process research and development of $2.9 million, goodwill of $10.1 million which will be amortized over 15 years, and identifiable intangibles of $10.1 million which will be amortized over useful lives ranging from 11 to 15 years. Goodwill and identifiable intangibles are included in other assets. In addition, the Company purchased SICPA's $2.4 million dollar working capital loan and the License and Supply Agreement between Flex and SICPA that runs through October 31, 2015, was modified to increase SICPA's minimum purchase requirements in association with Flex's commitment to put in place additional capacity to manufacture optically variable pigment. On January 15, 1999, the Company announced that it had settled a lawsuit with Optical Corporation of America and certain of its shareholders regarding a failed merger in fiscal 1996. The Company received cash, net of related legal expenses, of $3.0 million which was recorded as a benefit in the first quarter of 1999. On January 31, 1999 the Company and the bank executed an amendment to the Company's credit agreement increasing the amount available under its revolving line of credit from $20 million to $40 million. F-28 On February 16, 1999, the Company restructured the equity of Flex. As a result of this restructuring, in order to make the option holders whole under the provisions of Flex's option plan, the Company exchanged options for the exercise of 928,200 shares of Flex at a weighted average exercise price of $4.54 per share for options to exercise 324,157 shares of Company common stock at a weighted average exercise price of $12.99 per share. The exchange was based on the ratio of the market value per share of Flex (based on an independent valuation) to the market value of Company common stock on the date of the equity restructuring. The per share exercise price for each converted Flex option was based on the ratio of the Flex exercise price over the market value per share of Flex multiplied by the market value per share of Company common stock on the date of the equity restructuring. Effective February 22, 1999, the Company acquired OPKOR, Inc., an optical design and manufacturing company specializing in precision polymer optic components and assemblies, for $9.0 million plus annual contingent payments based on profits of the acquired entity. Consideration consisted of $1.8 million cash and 267,285 shares of Company common stock. The acquisition will be recorded as a purchase in the second quarter of 1999. The purchase price allocation may include a component consisting of in-process research and development which would result in a charge to expense in the second quarter of 1999. F-29 [artwork inside back cover] [DISPLAY PRODUCTS pictures of: - business presentation projector - videocam - color wheel - large screen television - highly reflective mirror - computer monitor with Glare/Guard filter DISPLAY] - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SHARES COMMON STOCK --------------- PROSPECTUS --------------- HAMBRECHT & QUIST NATIONSBANC MONTGOMERY SECURITIES LLC SOUNDVIEW TECHNOLOGY GROUP --------- , 1999 -------------- YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. WE HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH INFORMATION DIFFERENT FROM THAT CONTAINED IN THIS PROSPECTUS. WE ARE OFFERING TO SELL, AND SEEKING OFFERS TO BUY, SHARES OF COMMON STOCK ONLY IN JURISDICTIONS WHERE OFFERS AND SALES ARE PERMITTED. THE INFORMATION CONTAINED IN THIS PROSPECTUS IS ACCURATE ONLY AS OF THE DATE OF THIS PROSPECTUS, REGARDLESS OF THE TIME OF DELIVERY OF THIS PROSPECTUS OR OF ANY SALE OF OUR COMMON STOCK. NO ACTION IS BEING TAKEN IN ANY JURISDICTION OUTSIDE THE UNITED STATES TO PERMIT A PUBLIC OFFERING OF THE COMMON STOCK OR POSSESSION OR DISTRIBUTION OF THIS PROSPECTUS IN THAT JURISDICTION. PERSONS WHO COME INTO POSSESSION OF THIS PROSPECTUS IN JURISDICTIONS OUTSIDE THE UNITED STATES ARE REQUIRED TO INFORM THEMSELVES ABOUT AND TO OBSERVE ANY RESTRICTIONS AS TO THIS OFFERING AND THE DISTRIBUTION OF THIS PROSPECTUS APPLICABLE TO THAT JURISDICTION. UNTIL , 1999, ALL DEALERS THAT BUY, SELL OR TRADE IN OUR COMMON STOCK, WHETHER OR NOT PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO THE DEALERS' OBLIGATION TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION. The following table sets forth the costs and expenses, other than the underwriting discounts and commissions, payable by the registrant in connection with the sale of our common stock being registered hereby. All amounts shown are estimates, except the Securities and Exchange Commission registration fee, the NASD filing fee and the Nasdaq National Market listing fee. Securities and Exchange Commission registration fee............... $ 23,972 NASD filing fee................................................... $ 9,123 Nasdaq National Market listing fee................................ $ 17,500 Blue Sky fees and expenses........................................ $ 5,000 Printing and engraving expenses................................... $ 90,000 Legal fees and expenses........................................... $ 150,000 Accounting fees and expenses...................................... $ 75,000 Transfer Agent and Registrar fees................................. $ 5,000 Miscellaneous expenses............................................ $ 74,405 --------- Total........................................................... $ 450,000 --------- ---------
ITEM 15. INDEMNIFICATION OF OFFICERS AND DIRECTORS. The indemnification and liability of the Company's directors and officers are governed by Delaware law. Under Section 145 of the General Corporation Law of the State of Delaware, corporations have broad powers to indemnify their directors and officers against liabilities that may incur in such capacities, including liabilities under the Securities Act of 1933, as amended (the "Securities Act"). Delaware law also permits corporations to eliminate the personal liability of directors to corporations and their stockholders for monetary damages for breach or alleged breach of directors' fiduciary "duty of care." While Delaware law does not eliminate the directors' duty of care, it enables corporations to limit available relief to equitable remedies such as injunction or rescission. These provisions have no effect on director's liability for (1) breach of the director's duty of loyalty, (2) acts or omissions not in good faith or involving intentional misconduct or knowing violations of law, (3) a corporation's illegal payment of dividends, (4) approval of any transaction from which the director derives an improper personal benefit, or (5) on claims arising under other laws, such as the federal securities laws. In connection with the Company's reincorporation in Delaware in November 1987, it included in its Certificate of Incorporation a provision limiting directors' liability to the greatest extent permitted by Delaware corporate law. In addition, the Certificate of Incorporation and the Company's Bylaws provide that it will indemnify its directors and officers to the fullest extent permitted under Delaware law, including circumstances in which indemnification is otherwise discretionary. The Company submitted these charter and Bylaw provisions to its stockholders, who approved them in March 1987. In addition, the Company has entered into separate Indemnification Agreements with its directors and officers to the full extent permitted by applicable law and our Certificate of Incorporation. The general effect of the indemnification provisions of the Bylaws and the Indemnification Agreements is to require the Company, among other things, to indemnify its directors and officers against certain liabilities that may arise by reason of their status or service as directors or officers (provided the officer or director acted in good faith and in a manner he or she believed to be in or not opposed to the Company's best interests and, with respect to a criminal proceeding, provided he or she had no reasonable cause to II-1 believe that the conduct was unlawful), and to advance their expenses (including attorneys' fees) incurred as a result of any proceeding against them as to which they could be indemnified. The Company believes that its charter and Bylaw provisions and the separate Indemnification Agreements are necessary to attract and retain qualified persons as directors and officers. At present, the Company is not aware of any threatened litigation or proceeding which could result in a claim for indemnification by any director or officer. ITEM 16. EXHIBITS. (a) Exhibits
EXHIBIT NUMBER EXHIBIT - --------- ---------------------------------------------------------------------------------- 1.1+ Form of Underwriting Agreement. 3.1 Restated Certificate of Incorporation. Incorporated by reference to Exhibit (4)(a) of the Registrant's Form 10-Q for the quarter ended July 31, 1988. 3.2 By-Laws. Incorporated by reference to Exhibit (3)(b) of the Registrant's Form 8-K under Item 5 dated November 20, 1987. 4.1 Stockholder Rights Agreement between the Registrant and ChaseMellon Shareholder Services L.L.C. dated December 16, 1997. Incorporated by reference to Exhibit 4.1 of the Registrant's Form 10-K for the year ended October 31, 1997. 4.2* First Amendment to Stockholder Rights Agreement between the Registrant and ChaseMellon Shareholder Services L.L.C. dated December 15, 1998. 4.3 Form of Note Purchase Agreement dated as of July 30, 1998 for the private placement of $30 million of 6.69% Senior Notes due July 31, 2008 with Modern Woodman of America, American Life and Casualty Insurance Company, Massachusetts Mutual Life Insurance Company, Baystate Health Systems, Inc. and Principal Life Insurance Company. Incorporated by reference to Exhibit 4.1 of the Registrant's Form 10-Q for the quarter ended July 31, 1998. 4.4 Credit Agreement dated as of July 31, 1998 among the Registrant, Bank of America National Trust and Savings Association, as Agent, Letter of Credit Issuing Bank and the Other Financial Institutions Party Thereto. Incorporated by reference to Exhibit 4.0 of the Registrant's Form 10-Q for the quarter ended July 31, 1998. 4.5 Waiver and First Amendment, dated as of January 8, 1999 and effective as of October 31, 1998, to Credit Agreement dated as of July 31, 1998 among the Registrant, Bank of America National Trust and Savings Association, as Agent, Letter of Credit Issuing Bank and The Other Financial Institutions Party Thereto. 4.6 Secured Promissory Note between Optical Coating Laboratory, Inc. and Aid Association for Lutherans dated November 8, 1995. Incorporated by reference to Exhibit 4.8 of the Registrant's Form 10-K for the year ended October 31, 1995. 4.7 Capital Equipment Lease Agreement dated as of February 20, 1996 between Optical Coating Laboratory, Inc. and Fleet Credit Corporation. Incorporated by reference to Exhibit 4.10 of the Registrant's Form 10-K for the year ended October 31, 1996. 4.8 Capital Equipment Lease Agreement dated as of June 19, 1996 between Flex Products, Inc. and Fleet Credit Corporation. Incorporated by reference to Exhibit 4.11 of the registrant's Form 10-K for the year ended October 31,1996.
II-2
EXHIBIT NUMBER EXHIBIT - --------- ---------------------------------------------------------------------------------- 4.9 Credit Agreement dated as of May 20, 1997 between Optical Coating Laboratory, Inc. as Borrower and ABN AMRO Bank N.V. as Bank. Incorporated by reference to Exhibit 4.2 of the Registrant's form 10-Q for the quarter ended April 30, 1997. 5.1+ Opinion and consent of Collette & Erickson LLP. 10.1* License and Supply Agreement between Flex Products, Inc. and SICPA Holding, S.A. dated as of December 2, 1994. 10.2* Amended and Restated Agreement between JDS Fitel, Inc. and Optical Coating Laboratory, Inc. dated as of April 15, 1999. 15.* Letter regarding Unaudited Interim Financial Information. 23.1* Consent of Deloitte & Touche LLP. 23.2* Consent of KPMG LLP. 23.2+ Consent of Counsel (See Exhibit 5.1, above). 24.1* Power of Attorney (See page II-5).
- ------------------------ * Not previously filed. + To be filed by amendment. ITEM 17. UNDERTAKINGS. (a) The undersigned registrant hereby undertakes: (1) To file, during any period in which offers or sales are being made, a post-effective amendment to this Registration Statement: (i) To include any prospectus required by section 10(a)(3) of the Securities Act; (ii) To reflect in the prospectus any facts or events arising after the effective date of this Registration Statement (or the most recent post-effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set forth in this registration statement. Notwithstanding the foregoing, any increase or decrease in volume of securities offered (if the total dollar value of securities offered would not exceed that which was registered) and any deviation from the low or high end of the estimated maximum offering range may be reflected in the form of prospectus filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the changes in volume and price represent no more than a 20% change in the maximum aggregate offering price set forth in the "Calculation of Registration Fee" table in the effective Registration Statement; (iii) To include any material information with respect to the plan of distribution not previously disclosed in this Registration Statement or any material change to such information in this Registration Statement; provided, however, that paragraphs (1)(i) and (1)(ii) do not apply if the information required to be included in a post-effective amendment by those paragraphs is contained in periodic reports filed by the Company pursuant to Section 13 or Section 15(d) of the Exchange Act that are incorporated by reference in this Registration Statement. (2) That, for the purpose of determining any liability under the Securities Act, each such post-effective amendment shall be deemed to be a new registration statement relating to the securities offered II-3 therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (3) To remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold at the termination of the offering. (b) The undersigned registrant hereby further undertakes that, for purposes of determining any liability under the Securities Act, each filing of the registrant's annual report pursuant to Section 13(a) or Section 15(d) of the Exchange Act (and, where applicable, each filing of an employee benefit plan's annual report pursuant to Section 15(d) of the Exchange Act) that is incorporated by reference in the Registration Statement shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (h) Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the registrant pursuant to the foregoing provisions, or otherwise, the registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. (i) The undersigned Registrant hereby further undertakes that: (1) For purposes of determining any liability under the Securities Act of 1933, the information omitted from the form of prospectus filed as part of this registration statement in reliance under Rule 430A and contained in a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4), or 497(h) under the Securities Act of 1933 shall be deemed to be part of this registration statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. II-4 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the registrant certifies that it has reasonable grounds to believe that it meets all of the requirements for filing on Form S-3 and has duly caused this registration statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Santa Rosa, State of California, on the 22nd day of April 1999. OPTICAL COATING LABORATORY, INC. By: /s/ CRAIG B. COLLINS ----------------------------------------- Craig B. Collins VICE PRESIDENT, FINANCE AND CHIEF FINANCIAL OFFICER
POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears above or below hereby appoints Charles J. Abbe, Craig B. Collins and Joseph Zils or any of them, his true and lawful attorney-in-fact and agent, with full power of substitution and resubstitution, for him in his name, place and stead, in any and all capacities, to sign and file any and all amendments to this Registration Statement under the Securities Act of 1933, and all exhibits and other documents in connection therewith, with the Securities and Exchange Commission, granting unto each said attorney-in- fact and agent full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as full to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that each said attorney-in-fact and agent, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Act of 1933, this Registration Statement has been signed by the following persons in the capacities and on the dates indicated.
NAME TITLE DATE - ------------------------------ -------------------------- ------------------- President, Chief Executive /s/ CHARLES J. ABBE Officer - ------------------------------ and Director April 22, 1999 Charles J. Abbe (Principal Executive Officer) Vice President, Finance /s/ CRAIG B. COLLINS and Chief Financial - ------------------------------ Officer April 22, 1999 Craig B. Collins (Principal Financial Officer) /s/ HOLLY D. NEAL Corporate Controller - ------------------------------ (Principal Accounting April 22, 1999 Holly D. Neal Officer)
II-5
NAME TITLE DATE - ------------------------------ -------------------------- ------------------- /s/ HERBERT M. DWIGHT, JR. - ------------------------------ Chairman of the Board April 22, 1999 Herbert M. Dwight, Jr. /s/ JOHN MCCULLOUGH - ------------------------------ Director April 22, 1999 John McCullough /s/ DOUGLAS C. CHANCE - ------------------------------ Director April 22, 1999 Douglas C. Chance - ------------------------------ Director April 22, 1999 Shoei Kataoka /s/ JULIAN SCHROEDER - ------------------------------ Director April 22, 1999 Julian Schroeder /s/ RENN ZAPHIROPOULOS - ------------------------------ Director April 22, 1999 Renn Zaphiropoulos
II-6 INDEX TO EXHIBITS
EXHIBIT NUMBER EXHIBIT - --------- ---------------------------------------------------------------------------------- 1.1+ Form of Underwriting Agreement. 3.1 Restated Certificate of Incorporation. Incorporated by reference to Exhibit (4)(a) of the Registrant's Form 10-Q for the quarter ended July 31, 1988. 3.2 By-Laws. Incorporated by reference to Exhibit (3)(b) of the Registrant's Form 8-K under Item 5 dated November 20, 1987. 4.1 Stockholder Rights Agreement between the Registrant and ChaseMellon Shareholder Services L.L.C. dated December 16, 1997. Incorporated by reference to Exhibit 4.1 of the Registrant's Form 10-K for the year ended October 31, 1997. 4.2* First Amendment to Stockholder Rights Agreement between the Registrant and ChaseMellon Shareholder Services L.L.C. dated December 15, 1998. 4.3 Form of Note Purchase Agreement dated as of July 30, 1998 for the private placement of $30 million of 6.69% Senior Notes due July 31, 2008 with Modern Woodman of America, American Life and Casualty Insurance Company, Massachusetts Mutual Life Insurance Company, Baystate Health Systems, Inc. and Principal Life Insurance Company. Incorporated by reference to Exhibit 4.1 of the Registrant's Form 10-Q for the quarter ended July 31, 1998. 4.4 Credit Agreement dated as of July 31, 1998 among the Registrant, Bank of America National Trust and Savings Association, as Agent, Letter of Credit Issuing Bank and the Other Financial Institutions Party Thereto. Incorporated by reference to Exhibit 4.0 of the Registrant's Form 10-Q for the quarter ended July 31, 1998. 4.5 Waiver and First Amendment, dated as of January 8, 1999 and effective as of October 31, 1998, to Credit Agreement dated as of July 31, 1998 among the Registrant, Bank of America National Trust and Savings Association, as Agent, Letter of Credit Issuing Bank and The Other Financial Institutions Party Thereto. 4.6 Secured Promissory Note between Optical Coating Laboratory, Inc. and Aid Association for Lutherans dated November 8, 1995. Incorporated by reference to Exhibit 4.8 of the Registrant's Form 10-K for the year ended October 31, 1995. 4.7 Capital Equipment Lease Agreement dated as of February 20, 1996 between Optical Coating Laboratory, Inc. and Fleet Credit Corporation. Incorporated by reference to Exhibit 4.10 of the Registrant's Form 10-K for the year ended October 31, 1996. 4.8 Capital Equipment Lease Agreement dated as of June 19, 1996 between Flex Products, Inc. and Fleet Credit Corporation. Incorporated by reference to Exhibit 4.11 of the registrant's Form 10-K for the year ended October 31, 1996. 4.9 Credit Agreement dated as of May 20, 1997 between Optical Coating Laboratory, Inc. as Borrower and ABN AMRO Bank N.V. as Bank. Incorporated by reference to Exhibit 4.2 of the Registrant's form 10-Q for the quarter ended April 30, 1997. 5.1+ Opinion and consent of Collette & Erickson LLP. 10.1* License and Supply Agreement between Flex Products, Inc. and SICPA Holding, S.A. dated as of December 2, 1994. 10.2* Amended and Restated Agreement between JDS Fitel, Inc. and Optical Coating Laboratory, Inc. dated as of April 15, 1999. 15.* Letter regarding Unaudited Interim Financial Information. 23.1* Consent of Deloitte & Touche LLP. 23.2* Consent of KPMG LLP. 23.2+ Consent of Counsel (See Exhibit 5.1, above). 24.1* Power of Attorney (See page II-5).
- ------------------------ * Not previously filed. + To be filed by amendment. EX-4.2 2 EXHIBIT 4.2 First Amendment to the Optical Coating Laboratory, Inc. Rights Agreement, dated as of December 16, 1997 Pursuant to Section 26 of the Rights Agreement (the "Agreement") dated as of December 16, 1997 between Optical Coating Laboratory, Inc., a Delaware corporation (the "Company"), and ChaseMellon Shareholder Services L.L.C. (the "Rights Agent"), the Company and the Rights Agent hereby amend the Agreement as of December 15, 1998, as provided below. 1. Certain Definitions. Section 1(g) of the Agreement shall be amended by replacing Section 1(g) in its entirety with the phrase "[This section intentionally left blank]." 2. Adjustment of Purchase Price; Number and Kind of Shares or Number of Rights. Section 11(a)(ii)(A) shall be amended by replacing the phrase "a majority of the Continuing Directors then in office" with the phrase "a majority of the Directors then in office." 3. Redemption and Termination. Section 23(a) shall be amended by deleting the phrase "if the Board of Directors of the Company authorizes redemption of the Rights and such authorization occurs on or after the time a Person becomes an Acquiring Person then there must be Continuing Directors then in office and such authorization shall require the concurrence of a majority of such Continuing Directors; provided, further, however . . .". 4. Supplements and Amendments. Section 26 shall be amended by deleting the phrase "(which lengthening or shortening shall be effective only if there are Continuing Directors in office and shall require the concurrence of a majority of such Continuing Directors)" in clause (iii). 5. Determinations and Actions by the Board of Directors, etc. Section 28 shall be amended as follows: (a) The phrase "(with, where specifically provided for herein, the concurrence of the Continuing Directors)" which appears three times, shall be deleted. (b) The phrase "or the Continuing Directors" in clause (y) shall be deleted. 6. Exhibit B - Rights Certificate. Paragraph 7 of the Rights Certificate shall be amended by deleting the second sentence thereof which states "Under certain circumstances set forth in the Rights Agreement, the decision to redeem shall require the concurrence of a majority of the Continuing Directors." 7. Exhibit C - Summary of Rights to Purchase Preferred Stock. Exhibit C - Summary of Rights to Purchase Preferred Stock shall be amended as follows: (a) Paragraph 4 of the Summary of Rights to Purchase Preferred Stock shall be amended by replacing the phrase "the independent Continuing Directors" with the phrase "the independent Directors" in clause (i). (b) In Paragraph 9, the third sentence thereof which states "Under certain circumstances set forth in the Rights Agreement, the decision to redeem shall require the concurrence of a majority of the Continuing Directors." shall be deleted. (c) In Paragraph 9, the phrase "with, where required, the concurrence of the Continuing Directors" in the fifth sentence shall be deleted. (d) Paragraph 10, which begins with "The term 'Continuing Directors' means any member" and ends with "any representative of the foregoing entities." shall be deleted in its entirety. (e) In Paragraph 13, the phrase "(in certain circumstances, with the concurrence of the Continuing Directors)" shall be deleted. (f) In Paragraph 13, the phrase "or, in certain circumstances, without the concurrence of the Continuing Directors" shall be deleted. The undersigned officer of the Company, being an appropriate officer of the Company and authorized to do so by resolution of the Board of Directors of the Company dated as of December 15, 1998, hereby certifies to the Rights Agent that these amendments are in compliance with the terms of Section 26 of the Agreement. OPTICAL COATING LABORATORY, INC. (A Delaware Corporation ) By: ---------------------------------------- Name: Charles J. Abbe -------------------------------------- Title: President and Chief Executive Officer ------------------------------------- Acknowledged and Agreed: ChaseMellon Shareholder Services L.L.C., as Rights Agent By: ---------------------------------------- Name: -------------------------------------- Title: ------------------------------------- EX-10.1 3 EXHIBIT 10.1 --------------------------------- LICENSE AND SUPPLY AGREEMENT by and among FLEX PRODUCTS, INC. and SICPA HOLDING S.A. --------------------------------- December 2, 1994 LICENSE AND SUPPLY AGREEMENT AGREEMENT dated December 2, 1994, by and among Flex Products, Inc., a Delaware corporation ("Flex") and SICPA HOLDING S.A., a Swiss corporation ("SICPA"). W I T N E S S E T H: WHEREAS, Flex and SICPA are currently parties to an agreement dated as of July l, 1993, providing for the purchase and sale of optically variable pigment ("OVP") (the "1993 Agreement"), and the 1993 Agreement will expire on June 30, 1998; WHEREAS, Flex and SICPA wish to replace the 1993 Agreement with this Agreement and to continue to work together for their mutual benefit by further developing the business of supplying optically variable ink ("OVI") utilizing OVP as an anti-counterfeiting component of the world's currency and other value-documents; WHEREAS, the parties have entered into a Joint Venture Agreement dated July 1, 1993 and a Memorandum of Alliance dated March 9, 1993 for the purpose of coordinating their respective efforts to improve and enhance the existing technologies for the utilization of OVP and OVI; WHEREAS, pursuant to said agreements, Flex has developed valuable proprietary information and technical know-how as generally described on Exhibit G (the "Know-how") which have value in the manufacture, use and sale of OVP and OVI, which are not generally known to others, and have been maintained as trade secrets by Flex; WHEREAS, the parties wish to continue their joint development efforts pursuant to said agreements; WHEREAS, the OVP and OVI are covered by one or more of the patents listed on Exhibit H (the "Patents"); WHEREAS, the parties wish to enter into an exclusive license agreement, to provide for the supply by Flex to SICPA of OVP and continue their joint development efforts all of which is considered to be necessary for a technically satisfactory exploitation of the Patents with respect to the making, using and selling of OVI. NOW, THEREFORE, in consideration of the mutual agreements hereinafter set forth, the parties hereby agree as follows: 1. Patent and Know-how License. 1.1 Patent License. 1.1.1 Patent License. 1.1.1(a) Grant of Exclusive Patent License. Flex hereby grants to SICPA, for the Term (as such term is defined in Section 13 below), an exclusive worldwide and nontransferable right and license under the Patents to use the products set forth in Exhibit A (the "Exclusive Products") to make, use and sell OVI and to use OVP to make, use and sell OVI in the fields of use set forth in Exhibit D (the "Fields"). The term "Patents" as used in this Agreement shall consist of those Flex patents which are specifically listed in Exhibit H, and any foreign counterparts thereof, and any additions, extensions or reissues thereof. The term "Patents" as used in this Agreement shall include improvements that (a) cover the Fields or (b) relate to the Exclusive Products. The term "Patents" as used in this Agreement shall also include patents on continuations, continuations-in-part, and divisionals of the Patents listed in Exhibit H that (a) cover the Fields or (b) relate to the Exclusive Products. The term "Patents" as used in this Agreement shall also include any patents which may issue in the future that (a) cover the Fields or (b) relate to the Exclusive Products. It is expressly understood and agreed that patent rights regarding the manufacture of OVP are excluded from this License and Supply Agreement. 1.1.1(b) Memorandum of Alliance and Joint Venture Agreement. The parties agree to establish a committee (the "Committee") which shall meet at least twice yearly to implement all of the provisions of the Memorandum of Alliance and Joint Venture Agreement, copies of which are attached hereto and made a part hereof as Exhibits I and J, respectively. The agenda for such meetings shall include, but not be limited to, a review of intellectual property positions and strategies and long-term supply and demand issues. The parties agree that, notwithstanding the existing terms of the Memorandum of Alliance and the Joint Venture Agreement to the contrary, the Memorandum of Alliance and the Joint Venture Agreement shall remain in effect during the Term of this Agreement, and the parties shall execute such amendments thereto which may be proper to extend the length of the respective terms of the Memorandum of Alliance and the Joint Venture Agreement to conform to length of the Term (as such term is defined in Section 13 below). 1.1.2 Grant of Nonexclusive Patent License. Flex hereby grants to SICPA, for the Term (as such term is defined in Section 13 below), a nonexclusive worldwide and nontransferable right and license under the Patents to use OVP to make, use and sell OVI in all fields of use other than those listed on Exhibit D. 1.2.1 Grant of Exclusive Knowhow License. Flex hereby grants to SICPA, for the Term (as such term is defined in Section 13 below), an exclusive worldwide and nontransferable right and license to use the Knowhow to use the Exclusive Products to make, use and sell OVI and to use OVP to make, use and sell OVI in the Fields. It is expressly understood and agreed that knowhow relating to the manufacture of OVP is excluded from the Knowhow and from this License and Supply Agreement. 1.2.2 Grant of Nonexclusive Knowhow License. Flex hereby grants to SICPA, for the Term (as such term is defined in Section 13 below), a nonexclusive worldwide and nontransferable right and license to use the Knowhow to use OVP to make, use and sell OVI in all fields other than those listed on Exhibit D. 1.3 Consideration. No royalties shall be payable by SICPA to Flex for the licenses granted hereunder. The sole consideration for the grant of licenses shall be the obligation of SICPA to purchase OVP exclusively from Flex as set forth in this Agreement and the performance of the other obligations of SICPA contained herein. 1.4. Claims of Infringement. If at any time after the date hereof SICPA or Flex shall become aware of any suspected or actual infringement by a third party of any of the Patents, or of any alleged infringement or misappropriation of the intellectual property rights of others by SICPA's or Flex's use of the Patents, SICPA or Flex, as the case may be, shall promptly notify the other thereof. 1.5. Defense. 1.5(a) In the event that a third party is infringing any of the Patents, or is alleging infringement or misappropriation of its intellectual property rights by SICPA's or Flex's use of any of the Patents, and the position taken by such third party materially and adversely affects the rights and obligations of both parties under this Agreement, then Flex shall initiate and prosecute legal proceedings against, or take other appropriate action with respect to, such third party for the purpose of terminating such infringement or establishing that no such infringement or misappropriation exists. The costs and expenses of such legal proceedings or other appropriate action shall be paid by Flex. 1.5(b) For the purposes of this Section, each party shall give the other, via the Committee as established pursuant to Section 1.1.1(b) above, at least twenty-four hours advance notice of any proposed correspondence intended to be delivered to a third party in relation to any claim or suspected claim (the "Claim") relating to (i) the infringement, misappropriation, or invalidity, either real or alleged, of one or more of the Patents or the Knowhow as they relate to the OVP and OVI in the Exclusive Products and Fields, (ii) the use or suspected use of OVP by a third party in violation of SICPA's rights under this Agreement, or (iii) the alleged use of OVP by SICPA and/or Flex in violation of the rights of a third party. Each party shall give the other forty-eight hours advance notice of any proposed legal action intended to be taken by such party in relation to a Claim. In addition, each party shall, within twenty-four hours of receipt thereof, give the other party copies of any correspondence received from any third party in relation to a Claim. The term "correspondence" as used in this Section shall include communications, letters, reports, memoranda, statements, notes, facsimiles, telegrams, lawsuits, notices, and all other written documents. 1.6 Limitation of Licenses. Except as expressly set forth herein, no license is granted, and no act or acts hereunder shall be construed to create any licenses, expressly or by implication, estoppel or otherwise, except the licenses herein expressly granted. 2. Obligation of Purchase and Sale. As a condition to and as consideration for the licenses granted herein, during the Term (as such term is defined in Section 13 below), subject to the terms and conditions set forth below, (a) SICPA shall purchase exclusively from Flex all OVP required by SICPA for use in the production of any and all OVI to be marketed by SICPA and any of the SICPA Companies (as such term is defined below) anywhere in the world, and (b) Flex shall sell (i) exclusively to SICPA the Exclusive Products; (ii) exclusively to SICPA OVP to use in the manufacture of OVI for use in the Fields; and (iii) nonexclusively to SICPA OVP other than the Exclusive Products that may be used to make OVI for use other than in the Fields. If Flex desires to sell any ink product that does not use an Exclusive Product, under its own name or otherwise, it shall contract with SICPA for the production of such ink product unless the terms which SICPA is willing to provide are materially inferior to those which Flex is able to obtain from another ink manufacturer. Flex shall be free to supply OVP other than the Exclusive Products to third parties for all uses outside of the Fields. In order to protect the OVI manufactured and sold by SICPA as an anticounterfeiting device, in no event shall Flex sell OVP which meets the specifications of the Exclusive Products to any person other than SICPA for any purpose. In addition, Flex agrees to cooperate with SICPA and SICPA's customers, and to use its reasonable best efforts, to investigate any instances which come to its attention where it is reasonably believed that OVP or OVI from any source other than SICPA has or will threaten the ability of SICPA's OVI to act as an effective anticounterfeiting device, and to take such reasonable actions to minimize or eliminate the threat consistent with Flex's rights and obligations under this Agreement and Flex's contractual obligations to others. Flex will include in its contracts with others for the sale of OVP provisions that (i) restrict such customers from making, using and selling OVI in the Fields to the extent allowed by applicable law, and (ii) grant Flex or its designee the right to audit such customers in the event of a suspected or actual leakage of OVP or the suspected or actual use of OVP in a manner that violates the rights granted to SICPA herein. (For purposes of this Agreement, the term "SICPA Companies" shall mean any person or entity controlled by, controlling, or under common control with SICPA. The term "control" of any person or entity means possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such person or entity, whether through the ownership of voting securities or by contract or otherwise.) 3. Changes to Price and Quantity. During the period from March 1, 1999 through June 30, 1999 and the period March 1, 2004 through June 30, 2004, the parties shall discuss what the price and quantity terms of this Agreement shall be for the period 2000 through 2004 and 2005 through 2009 respectively. In the event that the parties cannot agree to any other provisions, the price for OVP shall be the price set forth in Section 4, as adjusted by Section 5.6, the minimum and maximum quantities for the period 2000 through 2004 shall be the same as for the year 1999, and the minimum and maximum quantities for the period 2005 through 2009 shall be the same as for the year 2004. 4. Price. 4.1 Base Price. SICPA shall pay a Base Price of US$4,850 per kilogram for all OVP purchased pursuant to this Agreement, subject to Sections 4.2 and 5.6 below. 4.2 Base Price Adjustments. The price specified in Section 4.1 above is a base price which shall be subject to an annual adjustment, starting in 1995, as set forth in this Section 4.2. The adjustment shall be calculated in accordance with the percentage increase in "Average Hourly Earnings" shown in the Establishment Data Index entitled, "Average Hours and Earnings of Production Workers on Manufacturing Payroll in States and Selected Areas," (currently designated Index C-8) for the area specified as Santa Rosa-Petaluma, California (not seasonally adjusted), as it appears in the periodical Employment and Earnings, published by the U.S. Department of Labor, Bureau of Labor Statistics (the "Index"), using December 1993 as the base period (the "Base Period") for computing any required price adjustments. The base price shall be adjusted as of December 31 of each year based on the percentage increase in the Index calculated by comparing the Index for December 1993 and the latest version of the Index published as of December 31 of each such adjustment year. If the Index is not published in any of the three months preceding a December 31 adjustment, then the parties shall agree on a substitute index that best approximates the Index. (For reference purposes only, a copy of the current version of the Index is attached hereto as Exhibit B.) No such annual adjustment shall be made unless and until the Index increase over the Base Period or any subsequent annual adjustment exceeds on a cumulative basis 3%, at which time all increases over the Base period or any subsequent annual adjustment shall be included. (E.g., assuming an Index increase of 2.8% as of December 1994, increasing to 5% as of December 1995 on a cumulative basis, the annual adjustment starting in 1996 would be 5%; no further adjustment would be made until the Index increase over the December 1995 Index exceeded 3%.) In addition, in the event that the cost of any materials used by Flex for the manufacture of OVP increases during the term of this Agreement by more than 20% over the current price for such material (i.e., the price at the date of this Agreement) adjusted for changes by the reduction of any increase in the Index over the Base Period Index, Flex shall thereafter be allowed to pass through to SICPA the entire amount of such adjusted increase as it may change from time to time (not just the amount in excess of 20%) subject to SICPA's right to retain the services of an independent auditor who shall have the right to audit Flex's books of account for the sole purpose of verifying the accuracy of the increase. In addition, any materials used by Flex which result in the increase shall be purchased at or below fair market value. 4.3 Price Adjustment. The base price per kilogram set forth in Section 4.1 as adjusted pursuant to Sections 4.2 and 5.6 shall be reduced by 5% for each 500 kilograms purchased per year over 2,500 kilograms as set forth below: Purchases per Year Base Price/Kg (before increases pursuant to Sections 4.2 and 5.6) First - 2,500 kg US$4,850 2,501 - 3,000 kg US$4,608 3,001 - 3,500 kg US$4,377 3,501 - 4,000 kg US$4,158 4,001+ kg US$3,950 5. Minimum Purchase Requirements. 5.1 Minimum Annual Purchases. 5.1(a) Minimum Purchases Necessary to Maintain Exclusive License. The parties agree that SICPA shall purchase from Flex minimum annual amounts of OVP set forth below: Year Minimum Maximum 1995 4,000 kg 5,000 kg 1996 5,500 kg 6,000 kg 1997 6,000 kg 7,500 kg 1998 7,000 kg 8,000 kg 1999 7,500 kg 8,500 kg Flex may, but shall not be obligated to, supply OVP in annual quantities above the annual maximum quantities set forth above. The annual maximum quantities set forth above shall not constitute a limitation on SICPA's obligation to purchase OVP from Flex. For each year after 1999, the minimum and maximum quantities shall be determined pursuant to Section 3. (For purposes of this Agreement, each 12-month period from January 1 through December 31 during the Term shall be designated as a "Purchase Period.") If SICPA fails to make the minimum purchase of OVP required in any Purchase Period, Flex shall have the following options exercisable after 30 days written notice: (i) Flex may waive the breach; (ii) Flex may terminate the exclusive license granted in Section 1.1; (iii) Flex may hold SICPA liable to Flex for any damages arising from such breach (subject to the provisions of Section 8 below); (iv) Flex may be relieved of the obligation under Section 2 above to supply OVP to SICPA for use with respect to the Exclusive Products on an exclusive basis in which case it shall continue to satisfy all of SICPA's requirements for OVP on a nonexclusive basis during the Term, and SICPA shall continue to purchase all of its requirements of OVP from Flex for the Term; or (v) Flex may exercise its right of cancellation as provided in paragraph 15.1 below. For purposes of this Section 5 and Sections 3 and 14, a "purchase" shall be deemed to have occurred during the Purchase Period or portion thereof during which OVP that is ordered is to be delivered after SICPA delivers to Flex an irrevocable order for OVP for delivery, provided that SICPA thereafter makes timely payment therefor in accordance with Section 6 below. 5.1(b) SICPA Call on Flex Excess Capacity. The parties agree to meet no later than December 1st in each year during the Term, and at such meeting: (i) Flex shall advise SICPA of Flex's excess capacity for the production of OVP, including the maintenance of any inventory reserve required by Section 11, for the calendar year immediately following the then-current year which Flex has not committed to other uses; and (ii) SICPA shall have the right, exercisable no later than December 15, to increase the minimum and maximum quantities set out in Section 5.1(a) above by an amount not to exceed the amount of such excess capacity available in Section 5.1(b)(i) above. 5.2 Minimum Quarterly Purchases. SICPA shall purchase at least 25% of the minimum annual purchase requirement of OVP per calendar quarter. 5.3 Production Releases. SICPA shall provide Flex with written releases for production of the amount of OVP on or before the first-day of each quarter to cover the quarter following the current quarter. For example, the release for the third quarter of 1995 shall be given on or before April 1, 1995. Each such release shall serve as authorization for commencement of production of the released product and shall be an irrevocable order for the OVP specified in the release. Color specifications and requested delivery dates shall be provided throughout the quarter. A minimum of 5 kilograms shall be required for each color included in the release. 5.4 Forecasts. Also on or before the first day of each quarter, SICPA shall supply Flex with its forecast for the two quarters following the quarter for which the release is being provided. For example, on or before April 1, 1995, SICPA shall provide the release for the quarter ending September 30, 1995, and its forecast for the quarters ending December 31, 1995, and March 31, 1996. The forecasts shall constitute SICPA's good faith best estimate of its requirements under this Agreement in order to assist Flex in planning. The forecasts shall not be binding on the parties and Flex is not authorized to commence production based on forecasts. 5.5 Shipments. Flex shall not be obligated to produce and/or ship in excess of 25% of the maximum annual purchase amount in any calendar quarter without its prior written consent Flex will attempt, consistent with other commitments and available resources, to supply greater amounts requested by SICPA to support the market. 5.6 Product Specification. The product specifications regarding brightness, durability, color and particle size for all OVP purchased pursuant to this Agreement shall be as set forth in Exhibit A to this Agreement. The prices specified in this Agreement apply to Flex's current product design, materials and colors, as set forth in Exhibit A attached hereto. The parties acknowledge that any change in the product specification, quantities and/or delivery schedule shall be the subject of renegotiation, and shall require the mutual agreement of the parties with respect to any change in terms and price. 6. Terms and Conditions of Orders. Sections 1, 2, 3, 4, 5, 6, 7, 8a, 11 (except the last sentence), 13 and 14 of Flex's Standard Terms and Conditions of Sale, a copy of which is attached hereto as Exhibit C, shall apply to this Agreement. Payment terms shall be net 30 days from the date of Flex's invoice. Acceptance of OVP supplied under this Agreement for conformity with the shipping documents shall occur within 30 days after delivery to SICPA. In the event that SICPA fails to make payment within such 30-day period or as long as such payment remains unpaid, Flex may in addition to any other remedies available to it, at its option, (i) make immediately due and payable any subsequent invoices delivered by it to SICPA; (ii) suspend all deliveries; or (iii) require that SICPA pay Flex's finance charge at the maximum rate permissible by law not to exceed 1% per month on the unpaid balance of SICPA's account from date of Flex's invoice. 7. Warranty. Flex warrants for a period of 180 days from the date of shipment that all OVP supplied by it shall be free from defects in material and workmanship and shall conform to all specifications and other applicable provisions of this Agreement or such other specifications and provisions as are otherwise requested by SICPA and agreed to in writing by Flex. Should any failure to conform to this warranty appear within 180 days of shipment of OVP, then upon notification thereof and confirmation that the OVP has been shipped, stored and maintained in accordance with the guidelines annexed hereto as Exhibit A, and upon return of such OVP, Flex will, at Flex's option, either (i) replace the nonconforming OVP within 15 days after return thereof, or (ii) in lieu of such replacement refund any payment made by SICPA for the nonconforming OVP and reimburse SICPA for any delivery costs directly incurred by SICPA with respect to such OVP. THIS WARRANTY DOES NOT COVER DAMAGE OR DEFECTS CAUSED BY SICPA'S PRODUCTION CYCLE. THIS WARRANTY IS EXCLUSIVE AND IS IN LIEU OF ANY IMPLIED WARRANTY OF MERCHANTABILITY, FITNESS FOR A PARTICULAR PURPOSE OR OTHER WARRANTY OF QUALITY, WHETHER EXPRESSED OR IMPLIED, EXCEPT FOR WARRANTY OF TITLE AND WARRANTY AGAINST PATENT INFRINGEMENT. 8. LIMITATION OF LIABILITY. SUBJECT TO LIQUIDATED DAMAGES PROVISIONS OF SECTION 14, AND EXCEPT FOR DAMAGES PAYABLE UNDER THE INDEMNITY PROVISIONS OF SECTION 16 AND THE CONFIDENTIALITY PROVISIONS OF SECTION 12, NEITHER FLEX ON THE ONE HAND NOR SICPA ON THE OTHER HAND SHALL BE LIABLE TO THE OTHER, UNDER ANY CIRCUMSTANCES, FOR SPECIAL OR CONSEQUENTIAL DAMAGES SUCH AS, BUT NOT LIMITED TO, DAMAGE OR LOSS OF OTHER PROPERTY OR EQUIPMENT, LOSS OF PROFITS OR REVENUE, COST OF CAPITAL, OR COST OF PURCHASED OR REPLACEMENT GOODS. THE REMEDIES OF THE PARTIES SET FORTH HEREIN ARE EXCLUSIVE, AND THE LIABILITY OF EACH PARTY WITH RESPECT TO ANY CONTRACT, OR ANYTHING DONE IN CONNECTION THEREWITH SUCH AS THE PERFORMANCE OR BREACH THEREOF, OR FROM THE MANUFACTURE, SALE, DELIVERY, RESALE OR USE OF ANY OVP FURNISHED UNDER THIS AGREEMENT, WHETHER ARISING OUT OF CONTRACT, NEGLI GENCE, STRICT TORT OR ANY WARRANTY OR OTHERWISE, SHALL NOT, EXCEPT AS EXPRESSLY PROVIDED HEREIN, EXCEED THE PRICE OF THE OVP UPON WHICH SUCH LIABILITY IS BASED IN THE CASE OF FLEX OR THE DAMAGES DETERMINED UNDER AND PURSUANT TO SECTION 14 IN THE CASE OF SICPA. ANY LIMITATION ON LIABILITY HEREUNDER SHALL NOT LIMIT THE LIABILITY OF EITHER PARTY FOR BREACH OF SECTION 2 OR 12, NOR SHALL IT LIMIT THE LIABILITY OF SICPA UNDER SECTION 16. 9. Cure. Flex and SICPA each shall have the right to cure any default or nonconformity under the Agreement within 15 days of receipt of written notice from the other party specifying the default or nonconformity. In the case of failure of delivery of OVP by Flex, or the delivery by Flex of nonconforming OVP, Flex shall not be deemed to have cured the non-delivery, or the nonconformity, until it shall have delivered the conforming goods to SICPA's facilities. 10. Force Majeure. No party shall be held responsible for any delay or failure in performance under this Agreement to the extent such delay or failure is caused by federal, state or municipal action including a change in any statute, ordinance or regulation; unavailability of any material required or currently utilized by Flex for the production of OVP; environmental controls or restrictions placed on the use or disposal of any such materials that makes the use of such materials impracticable; strike against Flex or a third party; fire damage, flood, explosion, war or any other cause, act of God, contingency or circumstance within or outside the United States not subject to its control ("Force Majeure Conditions"). If any Force Majeure Condition occurs, the party delayed or unable to perform shall as soon as reasonably practicable give notice to the other party and any obligations that the other party has to perform shall be suspended for the duration of such Force Majeure Condition. If any Force Majeure Condition causes a delay in delivery by Flex of over 60 days, for as long thereafter as such Force Majeure Condition shall continue SICPA shall have the right to terminate this Agreement prospectively by giving written notice to Flex effective immediately when such notice is given. Such a termination shall in no way alter any obligation which SICPA may have under this Agreement to pay for OVP delivered prior to the effective date of termination. 11. Assurances Re Supply of OVP. The parties acknowledge that an assured supply of OVP is a matter of concern to customers utilizing OVI. The parties agree that they will endeavor to work out a mutually acceptable plan for creating and maintaining an inventory reserve for the purpose of providing reasonable assurances that sufficient quantities of OVP will be available to satisfy SICPA's requirements to protect against contingencies, such as equipment breakdowns or other casualty losses. 12. Confidentiality and Nondisclosure. All technical data, including the Knowhow, and all information which concerns the business operations of either Flex on the one hand or SICPA on the other hand disclosed in the course of performing this Agreement, which data or information, at the time of its communication to the other party, was not rightfully in the other party's possession or in the public domain ("Confidential Matter"), shall be treated as confidential and shall not be disclosed by the recipient to any third party. The recipient shall use the same care to protect Confidential Matter as it uses to preserve and protect its own information having the highest degree of competitive significance and shall take appropriate measures to ensure that its employees are bound to the same degree that it is bound under this Agreement, and the recipient shall not use any Confidential Matter in its own business operations except to the extent necessary to implement this Agreement without the written consent of the other party. This obligation does not apply to any Confidential Matter which (i) was in the recipient's possession prior to its disclosure, (ii) was in the public domain prior to its disclosure or thereafter entered the public domain through no fault of the recipient or the recipient's employees, or (iii) is lawfully obtained by the recipient on a non-confidential basis from a third party having an unrestricted legal right to disclose the information to others. Notwithstanding the foregoing, a recipient may disclose Confidential Matter if and to the extent that a judicial or governmental authority having jurisdiction over the recipient orders or requires disclosure, provided that the recipient, before making any such disclosure, advises the other party (the "Disclosing Party") of the disclosure required and cooperates with the Disclosing Party in all legitimate efforts to avoid or limit disclosure at the Disclosing Party's expense. SICPA agrees that its obligations under this Section 12 shall extend to the SICPA Companies as well as to SICPA, and any breach or violation of this Section by any SICPA Company shall be deemed to be a breach by SICPA. 13. Term of Agreement. 13.1 Term. The term of this Agreement (the "Term") shall commence on the date of the execution hereof and shall terminate on December 31, 2009, unless terminated earlier pursuant to the terms of this Agreement. 13.2 Invalidity of European Patent. Upon the expiration or final judicial determination of invalidity of European Patent No. 0 227 423 B1 (but in no event before December 31, 1999) the provisions of Sections 2(a), 2(b)(i) and 2(b)(ii) of this Agreement shall terminate with respect to exclusive purchases and sale of OVP for use in OVI for sale by SICPA in the European Economic Area (the "EEA"); provided, however, that in such an event SICPA shall continue to purchase OVP from Flex, and Flex shall continue to sell OVP to SICPA pursuant to this Agreement, on a nonexclusive basis for use and sale by SICPA in the EEA, and all the terms of this Agreement, including the annual minimum purchase obligation of Section 5.1, shall remain in effect throughout the rest of the world. 13.3 Substitute OVP. Notwithstanding anything herein to the contrary, in the event that during the Term of this Agreement (but in no event before December 31, 1999) an OVI product becomes commercially and legally available on the market from a third party, due to either a final judicial determination of invalidity or non-infringement of any of the claims of the Patents, or due to a non-infringement for which there has been no legal action taken challenging the OVI product under the Patents, and such product containing substitute OVP is (i) substantially identical in performance to that resulting from the use of one or more of the Exclusive Products, and (ii) sold at a price less than the price of a corresponding amount of OVP as set forth herein, then Flex shall promptly elect to (a) reduce the price and performance of OVP sold to SICPA hereunder to a price and performance that is equivalent to the corresponding price and performance of substitute OVP available in the market; (b) modify the provisions of Sections 2(a), 2(b)(i) and 2(b)(ii) of this Agreement by deleting the word "exclusively" and replacing it with "non-exclusively" in such sections; or (c) terminate this Agreement. 14. Liquidated Damages for Cancellation or Breach. SICPA acknowledges: (i) that the price specified for the sale of OVP in Section 3 above is based on the commitment of SICPA to purchase the entire minimum quantity specified hereunder; (ii) that Flex has advised SICPA that the price specified is substantially below the price that Flex would normally charge for the OVP and is being specially allowed by Flex as a concession to help SICPA develop the market for its inks using OVP; and (iii) that Flex has further advised SICPA that Flex's binding itself to SICPA on an exclusive basis for the Exclusive Products and the Fields during the Term will cause Flex to forego the opportunity to pursue other business opportunities for the commercial exploitation of OVP manufactured by it. The parties agree that if SICPA were to breach its covenant to purchase the minimum quantity of OVP during the Term the resulting damages would be impracticable or extremely difficult to determine, because of Flex's inability to establish with certainty the magnitude and extent of the opportunities lost due to its exclusive commitment to the SICPA Parties hereunder. Because of this difficulty the parties agree that, in the event of the termination of this Agreement because of such breach or in the event SICPA cancels this Agreement before the Term expires or fails to purchase the minimum amount of OVP required to be purchased during any of the five year periods running from 1995 through 1999, 2000 through 2004 or 2005 through 2009, SICPA shall pay damages to Flex as follows: The "OVP Shortfall" for the five-year period shall be calculated by subtracting the amount of OVP purchased during the five-year period from the sum of the minimum purchase requirements for each of the five years during the five-year period. The damages shall then be calculated from the following table: OVP Shortfall Damages Up to 2000 kg US$100/kg x OVP Shortfall 2001 kg to 4000 kg US$200,000 + US$200/kg x (OVP Shortfall - 2000 kg) 4001 kg to 6000 kg US$600,000 + US$500/kg x (OVP Shortfall - 4000 kg) More than 6000 kg US$1,600,000 + US$1000/kg x (OVP Shortfall - 6000 kg) For example, if this Agreement is terminated during the second five-year period 2000-2004 and total purchases over the second five-year period were 3,500 kg less than the minimum (so the OVP Shortfall is 3,500 kg), the amount of liquidated damages for the second five-year period would be US$200,000 plus US$200 x (3,500-2,000) or US$500,000 plus liquidated damages for the third five-year period based upon the OVP Shortfall for that five-year period. The OVP Shortfall for the third five-year period 2005-2009 will be based upon the minimum quantities and prices in effect for the last year of the second five-year period. Unless the parties otherwise agree pursuant to Section 3, the minimum quantities would be 7,500 kg per year and the OVP Shortfall for the period would be 37,500 kg. 15. Termination. 15.1 Grounds for Termination. Flex may terminate this Agreement prior to the stated expiration date if during the immediately preceding Purchase Period SICPA fails to make the minimum purchases required for that Purchase Period. Either Flex or SICPA may terminate this Agreement prior to the stated expiration date upon (i) material breach by the other party of any of the covenants or conditions to be performed by such party hereunder or material inaccuracy of any of the representations and warranties of the other party set forth herein, or (ii) the filing by or against the other party of a petition in bankruptcy or seeking reorganization or arrangement or for the appointment of a trustee, liquidator or receiver, or (iii) the making by the other party of an assignment for the benefit of creditors, the consenting by it to the appointment of a trustee, liquidator or receiver, or the filing by it of a petition taking advantage of any insolvency law. In each case notice of termination shall be given in writing to the breaching party of such breach and of the intention to terminate. Such notice of termination shall be effective 30 days following the date such notice is given, or on such later date as may be set forth in such notice, unless the breach shall be remedied during such 30-day period; provided, however, that any notice of termination based on the occurrence of any event described in clauses (ii) or (iii) of this Section 15.1 shall be effective immediately when such notice is given. Any such termination shall be in addition to and not in lieu of other rights and remedies at law or in equity. 15.2 Rights After Termination. Upon termination of this Agreement for any reason, nothing herein contained shall be construed to release any party to this Agreement from any obligation matured prior to the effective date of such termination. All other rights and obligation provided for in this Agreement shall terminate forthwith except the obligation of confidentiality set forth in Section 12 and the indemnity obligation set forth in Section 16. 16. Indemnity. SICPA shall indemnify and hold harmless Flex, and Flex's officers, directors, employees, shareholders, agents, and assigns, ("Indemnitees") from and against, on an after-tax basis, any and all liabilities (including but not limited to liabilities arising out of the doctrine of strict liability), losses, damages, suits, judgments and costs (including, without limitation, legal fees and expenses and costs of investigation) arising out of or relating to any claims by third parties relating to or arising directly or indirectly as a result of SICPA's use of OVP or manufacture, use and sale of OVI. This indemnity shall not apply to any claim against an Indemnitee arising from the gross negligence or willfulness misconduct of such Indemnitee. 17. Notices. All notices hereunder shall be in writing and shall be deemed to have been given either (i) when received, if delivered in person or transmitted by tested telex or facsimile, or (ii) three business days after having been mailed by registered or certified mail addressed as follows: To Flex: Flex Products, Inc. 2793 Northpoint Parkway Santa Rosa, California 95407-7350 Attn: Michael Sullivan FAX: (707) 525-7725 To SICPA: SICPA HOLDING S.A. 2 rue de la Paix P.O. Box 3930 CH - 1002 Lausanne, Suisse Attn: Maurice A. Amon FAX: 41-21-312-6895 or to such changed address as such party may have fixed by notice provided that any notice of change of address shall be deemed to have been given when received. 18. Relationship of the Parties. This Agreement shall not be construed to create between Flex and SICPA, or their respective successors or assigns, the relationship of principal and agent, joint venturers, co-partners, employer and employee, master and servant or any other similar relationship, the existence of all of which are expressly denied by the parties. 19. Binding Nature. This Agreement shall be binding on and shall inure to the benefit of the parties hereto and their respective successors and assigns. Neither party may assign its rights under this Agreement without the prior written consent of the other party. 20. No Waiver. Failure on the part of either Flex on the one hand or SICPA on the other hand to insist on strict compliance by the other with any of the provisions of this Agreement shall not be deemed a waiver of such provision. 21. Integration Clause. This instrument is the entire agreement among the parties and exclusively determines their rights and obligations, any prior course of dealing, custom or usage of trade, or course of performance notwithstanding, and may not be amended or terminated except by another agreement in writing executed by the parties. 22. Governing Law. This contract shall be governed by and interpreted according to California law as it applies to contracts made and performed entirely within California by California residents. The United Nations convention on contracts for international sale of goods shall not apply to this Agreement. 23. Invalidation. If any of the provisions of this Agreement shall contravene the laws of any country or other jurisdiction, it is agreed that such invalidity or illegality shall not invalidate the whole Agreement, but this Agreement shall be construed as if it did not contain the invalid or illegal provision or provisions insofar as such construction does not materially affect the substance of this Agreement, and the rights and obligations of the parties hereto shall be construed and enforced accordingly. In the event, however, that such invalidity or illegality shall result in a substantial alteration of the relationship between the parties hereto having a material adverse effect on the interest of either party, then the parties hereto shall negotiate mutually acceptable alternative provisions as consistent as possible with the terms of this Agreement and not conflicting with such laws. 24. Enforcement of Agreement. 24.1 United States District Court. In the event of the commencement of any action, proceeding or litigation to enforce any provision of this Agreement or for damages or other remedies for an alleged breach of any provision of this Agreement ("Action"), the parties agree that such Action shall be conducted in the United States District Court for the Northern District of California ("District Court"). The parties agree that the District Court shall have personal jurisdiction over the parties and, except as provided below, shall be the exclusive forum for any Action. The parties hereby waive their right to a trial by jury and any right they may have to assert the doctrine of forum non conveniens or to object to venue to the extent that any such Action is conducted in accordance with this provision. The parties agree that they each may be served with service of process in connection with any Action, by mailing such service of process by registered or certified mail addressed to the parties at the addresses for notices under this Agreement, as set forth in Section 17 hereof with a copy to each party's counsel. The parties agree that they will not object to the method of service pursuant to this Section, notwithstanding any provisions of United States or Swiss law or any treaty to which the United States or Switzerland is a signatory. For purpose of this section, until changed by notice given in the manner set forth herein, the name and address of the parties' counsel shall be: For Flex: Pillsbury Madison & Sutro P.O. Box 7880 San Francisco, CA 94120 Attention: George P. Haley For SICPA: Leonard, Ralston, Stanton & Danks 1000 Thomas Jefferson St. NW, Suite 609 Washington, DC 20007 Attention: Jerris Leonard 24.2 Reference Proceeding if District Court Lacks Subject Matter Jurisdiction. In the event that the District Court lacks subject matter jurisdiction for any Action, then said Action shall be conducted in the Superior Court of the State of California for the City and County of San Francisco ("Superior Court") by a reference pursuant to the provisions of California Code of Civil Procedure Sections 638 and 641 through 645.1, inclusive, according to the following procedures: 24.2.1 The parties shall agree upon a single referee ("Referee") who shall then try all issues, whether of fact or law, and report a statement of decision thereon to the Superior Court. If the parties are unable to agree upon the Referee within 10 days of a written request to do so by either party, then either party may thereafter seek to have the Referee appointed pursuant to California Code of Civil Procedure Section 638; 24.2.2 The parties shall promptly and diligently cooperate with one another and the Referee, and shall perform such acts as may be necessary to obtain a prompt and expeditious resolution of the dispute or controversy in accordance with the terms hereof; 24.2.3 The cost of such proceeding shall initially be borne equally by the parties. However, the prevailing party in such proceeding shall be entitled, in addition to all other costs, to recover its contribution for the costs of the reference. 24.2.3 The provisions of Section 21.1 hereof, concerning personal jurisdiction, venue and service of process are applicable to any Action which is conducted under this Section 21.2. 24.3 SICPA Consents to and Waives Objections to Enforcement of Judgment in Switzerland. SICPA consents to, and waives all objections to, the enforcement in Switzerland of any judgment in any Action entered in favor of Flex. 25. Headings. The headings of the various Sections and Paragraphs of this Agreement are for convenience of reference only and shall not modify, define or limit any of the terms or provisions hereof. IN WITNESS WHEREOF, each of the parties hereto has caused this Agreement to be duly executed, and intends this Agreement to be effective, as of the date first set forth above. FLEX PRODUCTS, INC., a Delaware corporation By__________________________________________ SICPA HOLDING S.A., a Swiss corporation By__________________________________________ Exhibit A - License and Supply Agreement OVP SPECIFICATIONS AND EXCLUSIVE PRODUCTS Exhibit B - License and Supply Agreement EMPLOYMENT AND EARNINGS INDEX Exhibit C - License and Supply Agreement FLEX PRODUCTS, INC. TERMS AND CONDITIONS OF SALE Exhibit D - License and Supply Agreement FIELDS a. Currency, postage stamps, government stamps, excise stamps, banderoles, travelers' checks and other special checks (such as cashier's checks and specified value checks), banknotes, currency, passports, visas, lottery tickets, credit cards, identification cards, and stocks and bonds. b. Intaglio inks. c. Inks, including silkscreen inks, exhibiting a color shift set forth in specifications of Exhibit A to this Agreement. Exhibit E - License and Supply Agreement ASSURANCES RE SUPPLY OF OVP 1. New Production Machine. The parties acknowledge that an assured supply of OVP is a matter of concern to customers utilizing OVIO. In order to increase its capability for the production of OVP, and to provide a greater assurance of uninterrupted supply, Flex intends to purchase and install a new production machine after Flex receives all necessary approvals from its affiliate, ICI plc, and Flex's Board of Directors ("New Production Machine"). The parties agree that they will endeavor to work out a mutually acceptable plan for creating and maintaining an inventory reserve for the purpose of providing reasonable assurances that sufficient quantities of OVP will be available to satisfy SICPA's requirements to protect against contingencies, such as equipment breakdowns or other casualty losses. 2. OVP License. 2.1 OVP License - OCLI. In the event that during the term hereof, Flex decides to (a) cease to do business; (b) cease its own production of OVP, other than for Force Majeure Conditions; or (c) sell or transfer one or more of the Patents, then it shall so notify SICPA (the "OVP License Notification Date"), and Flex shall promptly thereafter offer to grant to Optical Coating Laboratory, Inc., a Delaware corporation ("OCLI") (1) an exclusive license to use Flex's patents and related technology required for the manufacture and sale of OVP to SICPA (the "OVP License"), and (ii) an assignment of Flex's rights and obligations under this Agreement (the "OVP License Assignment"). OCLI shall have 30 days from the date such offer is made to decide whether to accept or reject the offer of the OVP License and the OVP License Assignment. If OCLI shall decide to accept such offer, then it shall (x) so notify both Flex and SICPA in writing within said 30-day period, and (y) assume all of Flex's obligations under this Agreement accruing thereafter, subject, however, to the following conditions: (xx) OCLI shall have no liability or obligation with respect to this Agreement for matters, transactions or claims arising out of or accruing from any act, omission, event or transaction which occurred before the date of said assumption (including without limitation any warranty claims relating to OVP manufactured or delivered by Flex); and (yy) OCLI shall use its best effort attempts to commence production of OVP within 90 days after accepting the offer of the OVP License and the OVP License Assignment so as to minimize any delay or interruption to the production and delivery of OVP. Flex shall grant OCLI the necessary easements and other property rights to use any manufacturing equipment and other technology necessary for the production of OVP and OCLI shall pay Flex reasonable fees for the use of the equipment and technology and for any easement or other property rights. SICPA hereby consents to the assignment and assumption of Flex's obligations under this Agreement on the basis described above, and agrees that OCLI shall be allowed the time necessary to accomplish the activities described in Clause (yy) above without liability for ensuing delays in production or delivery of OVP attributable thereto. 2.2 OVP License -- SICPA or its Third Party, Designee. If OCLI shall fail to accept Flex's offer and to assume Flex's obligations hereunder, as described and subject to the conditions set forth in Section 2.1 of this Exhibit E, then SICPA shall have the right to require that the OVP License be offered to SICPA or to a third party designated by SICPA. 2.3 Terms of OVP License. The OVP License (whether granted to OCLI, SICPA or SICPA's third party designee) shall be granted on the terms and conditions set forth in Exhibit F attached hereto. 2.4 Equipment and Technology Transfer. In connection with the grant of the OVP License to SICPA or its third party designee, Flex shall also: (i) offer to sell to the designated licensee any equipment then being utilized by Flex for the production of OVP hereunder at its then current fair market value as determined by its replacement cost and offer an easement or other interest at fair market value for use of such equipment at Flex's premises (in each case, such value or cost to be determined by an independent appraisal if the parties shall be unable to agree thereon); and (ii) offer to provide to the designated licensee at Flex's facilities such engineering and other technical assistance as may be reasonably necessary to enable such licensee to resume the production of OVP (but not to exceed one hundred (100) man/woman hours), at rates equal to those charged for comparable professional expertise within the industry and with all other out-of-pocket costs associated therewith to be borne by such licensee. 2.5 Release of Flex. Following the grant of the OVP License (whether to OCLI, SICPA or SICPA's third party designee), Flex shall be deemed released from any further obligations under this Agreement which arise out of or accrue from any act, omission, event or transaction which occurred after the OVP License Notification Date. 2.6 Force Majeure Conditions. Nothing in this Exhibit E is intended to obligate Flex either to offer or to grant the OVP License where its inability to produce OVP is caused by Force Majeure Conditions. Exhibit F - License and Supply Agreement TERMS AND CONDITIONS OF OVP MANUFACTURING LICENSE GRANTED UNDER EXHIBIT E The OVP License to be granted pursuant to the foregoing Agreement shall contain the following terms and conditions: 1. Quarterly payments of earned royalties of 5% based on all sales or uses of OVP by the licensee (or, in the event SICPA or an affiliate is the licensee, then the presumed fair value of the OVP if SICPA were to purchase it from a third party in an arms-length transaction); 2. Full audit rights of the licensee by Flex (limited, however, to sales of OVP by licensee, its sublicensee and assignees); 3. No sublicenses or assignments except to "SICPA Companies" as defined in Section 1 of the Agreement; 4. Full protection of Flex's confidential and/or proprietary information; 5. License term not to exceed 15 years; 6. Limitations on the scope of the license exclusively to those applications described in clauses 1. through 3. in the definition of the Fields. 7. Royalties denominated and payable in U.S. currency; 8. No warranty of infringement; 9. Licensee to provide detailed quarterly financial reports covering OVP sales and royalty obligations; 10. Licensee obligation to grant back innovations of licensed technology to Flex; and 11. No territorial restrictions. Exhibit G - License and Supply Agreement KNOWHOW General areas of Knowhow transferred as of the date of this Agreement: Confidential information generated and communicated pursuant to the Joint Venture Agreement dated July 1, 1993, as documented in the minutes of the Flex Products Inc./SICPA Operations/ Management Committee Meetings. Exhibit H - License and Supply Agreement PATENTS Incorporated by reference to Registrant's Form 8-K Current Report dated May 23, 1995 Exhibit I - License and Supply Agreement MEMORANDUM OF ALLIANCE MEMORANDUM OF ALLIANCE BETWEEN SICPA S.A. AND FLEX PRODUCTS, INC. 1.0 PURPOSE This memorandum confirms the intention of the parties to work together for their mutual benefit by continuing to develop the business for optically variable ink used as a primary anti-counterfeiting component in the world's currencies and other value documents. This memorandum defines the respective roles and describes the organization and working relationship of the parties. The objective of the alliance is to create an effective, coordinated approach to satisfying the market. Flex acknowledges the need to coordinate with SICPA its marketing and sales activities for products outside the exclusivity field in order to protect the usefulness and value of OVI(tm) for anti-counterfeiting applications. SICPA and Flex recognize that their success will depend upon building a close, cooperative, and cordial relationship. 2.0 ROLES SICPA and Flex have primary contributions to make in the joint development of the business for optically variable ink. However, each is dependent on the other for the success of the business. Both parties must be willing to freely exchange information and openly discuss needs in order to fulfill their primary responsibilities. 2.1 FLEX PRODUCTS The role of Flex is to develop and product pigment, develop new pigment products (OVP) that will provide competitive advantages, identify and assess competitive technologies and their competitive threat, and maintain a high quality of product and on-time delivery so that SICPA can best serve its customers. Flex will provide information and prepare SICPA to reassure its customers regarding the reliability of the OVP supply. 2.2 SICPA The role of SICPA will be to develop, produce and sell optically variable ink OVI(tm) systems, be aware and responsive to market needs and keep both parties aware of competitive threats. SICPA will continue to develop printing processes compatible with the use of OVI(tm), maintain good customer relations and price the product to provide profit opportunities for both SICPA and Flex. 3.0 ORGANIZATION The parties will manage their activities through an organizational structure intended to provide coordinated planning and implementation of their activities. Joint and coordinated programs presume sharing of information necessary for the success of the joint endeavor. The organization will be comprised of two committees each with specific areas of responsibility. These committees will operate within an overall strategic plan approved by the respective companies and their Board of Directors. Each committee will publish an agenda preceding each meeting and will publish minutes as soon as possible following each meeting. 3.1 STRATEGIC COMMITTEE The Strategic Committee shall be made up of the following members: SICPA Maurice A. Amon, Managing Director, SICPA HOLDING S.A. Philippe Amon, Managing Director, SICPA HOLDING S.A. Haim Bretler, Managing Director, SICPA HOLDING S.A. Jacques Van Droogenbroeck, Managing Director SICPA S.A., Security Ink Division FLEX PRODUCTS Danforth Joslyn, President, FLEX PRODUCTS, INC. John McCullough, Director, FLEX PRODUCTS, INC. Jim Alles, Chairman of the Board, FLEX PRODUCTS, INC. The Strategic Committee will develop the long range strategic plan for the alliance. It will be responsible to ensure that the alliance succeeds by providing necessary policies to support the alliance at all levels with the respective companies. It will define the mission and responsibilities of the Management Committee. The Strategic Committee will meet twice a year unless otherwise decided by the members. When meetings in person are not possible, teleconferences will be held. 3.2 MANAGEMENT/OPERATIONS COMMITTEE The Management/Operations Committee will be composed of the following members from each company: SICPA Jacques Van Droogenbroeck, Managing Director, Security Ink Division Representative from R&D Representative from Manufacturing Account Executive* FLEX PRODUCTS Danforth Joslyn, President Marketing Director Production Manager R&D Director Account Executive* * An Account Executive will be designated by each company. The responsibility of that person will be to coordinate meetings as needed, assure complete and prompt response to communications, promote understanding and communicate status of the business to his team. The Management/Operations Committee will carry out the long range plan established by the Strategic Committee. The Committee will develop the operations plans for the alliance. It will set priorities and allocate scarce resources to assure compliance with the plan and ensure success of the alliance. It will be responsible for organizing ad hoc teams that will be responsible for specific projects, such as new product development. It will ensure that production schedules are met, new product development is undertaken, new products are introduced on a timely basis, and that cost reduction programs are implemented and meet their objectives. The Committee is also responsible to review market needs, identify new product requirements, assess competitive threats, develop guidelines for ownership of jointly developed technology and analyze the economics of the business. This Committee is a working committee and has overall responsibility for the day-to-day execution of the plans. The Committee will meet twice each quarter, one in person and once telephonically. The Committee will submit to the Strategic Committee quarterly reports within twenty-one days after the quarter ends. 4.0 PROTECTION OF PROPRIETARY INFORMATION The parties acknowledge that the protection of proprietary information is essential. Appropriate confidentiality agreements will be entered into with respect to any proprietary information which either party elects to disclose to the other. 5.0 NATURE OF THE ALLIANCE This memorandum is intended to describe the working relationship between SICPA and Flex for matters outside the scope of the five year supply agreement to be executed by the parties in April 1993. The memorandum is not intended to be a legally enforceable agreement. Lausanne, March 9, 1993 FLEX PRODUCTS, INC. By /s/ DANFORTH JOSLYN SICPA S.A. By /s/ J. VAN DROOGENBROECK Exhibit J - License and Supply Agreement -------------------------------- JOINT VENTURE AGREEMENT BETWEEN FLEX PRODUCTS, INC. and SICPA INDUSTRIES OF AMERICA, INC. FOR RESEARCH AND DEVELOPMENT VENTURE --------------------------------- July 1, 1993 JOINT VENTURE AGREEMENT THIS JOINT VENTURE AGREEMENT, dated as of July 1, 1993, by and between Flex Products, Inc., a Delaware corporation ("Flex") and SICPA Industries of America, Inc., a New Jersey corporation ("SIPCA Industries"), (collectively, the "Venturers"). W I T N E S S E T H: WHEREAS, Flex possesses substantial technical and proprietary technology relating to the design and manufacture of optically variable pigment ("OVP"); and WHEREAS, SICPA Industries (which is a subsidiary of SICPA S.A.) and its affiliates possess substantial technical and proprietary technology relating to the design and manufacture of optically variable ink ("OVI"); WHEREAS, Flex and SICPA Industries' parent, SICPA S.A., executed that certain non-binding Memorandum of Alliance dated March 9, 1993 (the "MOA"), which set forth the basis on which the parties thereto intend to work together for the further development and marketing of OVP and OVI; and WHEREAS, Flex and SICPA Industries now wish to form a Joint Venture for the purpose of coordinating their respective efforts for further research and development related to the improvement of their respective OVP and OVI technologies with the intent of increasing the commercialization of such products; NOW, THEREFORE, the parties hereby establish a joint venture to accomplish the foregoing on the following terms and conditions: ARTICLE I FORMATION OF JOINT VENTURE 1.1 FORMATION AND NAME. Flex and SICPA Industries hereby form a joint venture pursuant to the provisions of the California Uniform Partnership Act and upon the terms and conditions set forth in this Agreement (the "Joint Venture"). The Joint Venture shall conduct its business affairs under the name of "OVI Technology Company." 1.2 TERM. The Joint Venture's term shall continue until terminated in accordance with Article VII. 1.3 PURPOSES AND POWERS. The purposes of the Joint Venture shall be to coordinate the efforts of the Venturers to develop further innovations and improvements of OVP and OVI for use on value-documents and to perform other activities and to take other action incident thereto. The Joint Venture shall not engage in any business or activity outside the scope of its purposes without the consent of each Venturer. 1.4 PRINCIPAL OFFICE. The principal places of business of the Joint Venture shall be 2793 Northpoint Parkway, Santa Rosa, California 95407-7350, and 8000 Research Way, Springfield, Virginia 22153. 1.5 FILINGS. Contemporaneously with the execution and delivery of this Agreement, the Venturers shall execute and acknowledge such instruments as may be necessary under the laws of the State of California in connection with the formation of the Joint Venture and the commencement of its business. 1.6 REPRESENTATIONS AND WARRANTIES OF FLEX. Flex represents and warrants to SICPA Industries that: (a) Flex is a corporation duly organized and in good standing under the laws of the State of Delaware, and has the corporate power and authority to enter into and perform its obligations under this Agreement. (b) This Agreement has been duly authorized by all requisite corporate action on the part of Flex. 1.7 REPRESENTATIONS AND WARRANTIES OF SICPA INDUSTRIES. SICPA Industries represents and warrants to Flex that: (a) SICPA Industries is a corporation duly organized and in good standing under the laws of New Jersey, and has the corporate power and authority to enter into and perform its obligations under this Agreement. (b) This Agreement has been authorized by all requisite action on the part of SICPA Industries. ARTICLE II JOINT DEVELOPMENT EFFORTS 2.1 AREAS OF COOPERATION. SICPA Industries and Flex agree to work together on a mutually exclusive basis for the term of this Agreement for the purpose of coordinating their respective efforts to improve and enhance the existing technologies for the utilization of Flex's OVP and SICPA Industries' OVI for anti-counterfeiting applications on value-documents. SICPA Industries and Flex also agree to cooperate in good faith for the purpose of (i) coordinating the development of new products to be used for anti-counterfeiting purposes for value-documents, (ii) evaluating competitive technologies and products, and (iii) evaluating market trends. To facilitate this working arrangement, SICPA Industries and Flex shall form a team to be known as the Management/Operations Committee (the "Committee"). The initial meeting of the Committee will occur at a mutually convenient time within no less than 90 days after the execution of this Agreement by the parties. Thereafter, the Committee shall meet twice each quarter, once in person and once telephonically. 2.2 DESIGNATION OF PROJECTS. Specific tasks to be undertaken by SICPA Industries and Flex shall be determined by the unanimous vote of the Committee. Neither SICPA Industries on the one hand nor Flex on the other hand shall have any obligation to perform any tasks or projects except as authorized and directed by a unanimous vote of the Committee. 2.3 DESIGNATION OF COMMITTEE MEMBERS. The Committee will be composed of the following members from each party: SICPA Industries: Jacques Van Droogenbroeck, Managing Director,Security Ink Division Representative from R&D Representative from Manufacturing Account Executive* FLEX: Danforth Joslyn, President Marketing Director Production Manager R&D Director Account Executive* * An Account Executive will be designated by each company. The responsibility of that person will be to coordinate meetings as needed, assure complete and prompt response to communications, promote understanding, and communicate status of the business to his/her team. Either Venturer shall have the right to object to any individual designated by the other Venturer, in which event the Venturers shall meet and confer for the purpose of agreeing on an individual acceptable to both Venturers. 2.4 EXPENSES. Unless otherwise agreed in writing, each of the Venturers shall bear its own expenses relating to its participation on the Committee and the performance of any tasks or projects carried out by such Venturer pursuant to the direction of the Committee. 2.5 EXCHANGE OF INFORMATION. Each Venturer shall disclose to the other the results of tasks or projects undertaken pursuant to the unanimous direction of the Committee and the Venturers will meet and confer, or otherwise communicate, for the purpose of exchanging information concerning the status of their respective undertakings. Each Venturer will maintain all technical information received from the other, which such Venturer has designated in writing as confidential information, in strict confidence and subject to the obligations of confidentiality and nondisclosure as set out in Article III below, and subject to the further restriction that the recipient of such information shall not use the information or disclose it to any person or organization other than the employees of the recipient whose job performance reasonably require a knowledge of such information. 2.6. OWNERSHIP OF DISCOVERIES. Each Venturer shall retain the ownership of any inventions, trade secrets and/or proprietary know-how developed by it during the term hereof, and any patents based on such inventions, trade secrets or know-how, whether or not pursuant to a task or project undertaken at the direction of the Committee, and the other Venturer shall not have any license or right to use any such discoveries except as may be expressly granted pursuant to a written agreement duly signed by both Venturers. Only such technologies as the Venturers agree in writing to develop jointly shall be excluded from the above provision, and all other technology developed during the joint undertaking contemplated by this Agreement shall be conclusively presumed to be the property of the Venturer who developed the technology. To the extent that specific technology is, by such written agreement, jointly developed, any resulting inventions, trade secrets and/or proprietary know-how shall be owned by the Joint Venture, and each of the Venturers shall be entitled to use any such inventions, trade secrets and/or proprietary know-how on a royalty-free basis, providing, however, that neither of the Venturers nor the Joint Venture itself shall be entitled to grant licenses to third Venturers to use such inventions, trade secrets and/or proprietary know-how without the prior written consent of both Venturers. Any patentable technology developed jointly pursuant to a prior written agreement between the Venturers, as aforesaid, shall be owned by the Joint Venture, and any decisions to file patent applications or to grant licenses thereunder shall require the unanimous consent of the members of the Committee. 2.7 NO DISCLOSURE OF BACKGROUND TECHNOLOGY REQUIRED. Nothing in this Agreement shall be construed to create any obligation on the part of either Venturer to disclose to the other Venturer any background technology or other technology owned by either Venturer prior to the formation of this Joint Venture, nor shall this Agreement be construed to require either Venturer to disclose to the other Venturer any technology developed by such Venturer, whether or not pursuant to a task or project undertaken at the direction of the Committee. It is the contemplation and intention of the Venturers that each of them will remain free to continue to conduct research and development work on OVP and OVI independent of their activities and involvement under the Joint Venture contemplated pursuant to this Agreement. 2.8 NO PRODUCTION CONTEMPLATED. The Venturers contemplate that the Joint Venture will engage exclusively in research and development activities, and will not undertake any production of OVP or OVI. ARTICLE III CONFIDENTIALITY AND NONDISCLOSURE All technical data and all information which concerns the business operation of either Flex on the one hand or SICPA Industries on the other hand disclosed in the course of the activities of the Joint Venture, which data or information, at the time of its communication to the other Venturer, was not rightfully in the other Venturer's possession or in the public domain ("Confidential Matter"), shall be treated as confidential and shall not be disclosed by the recipient to any third party. The recipient shall use the same care to keep Confidential Matter confidential as it uses to preserve the confidentiality of its own confidential information having a high degree of competitive significance and shall take appropriate measures to insure that its employees are bound to the same degree that it is bound under this agreement. This obligation of confidentiality does not apply to any Confidential Matter which (i) was in the recipient's possession prior to the effective date of its disclosure, (ii) was in the public domain prior to the effective date of its disclosure or thereafter entered the public domain through no fault of the recipient or the recipient's employees, or (iii) is lawfully obtained by the recipient on a non-confidential basis from a third party having an unrestricted legal right to disclose the information to others. Notwithstanding the foregoing, a recipient may disclose Confidential Matter if and to the extent that a judicial or governmental authority having jurisdiction over the recipient orders or requires disclosure, provided that the recipient, before making any such disclosure, advises the disclosing party of the disclosure required and cooperates with the disclosing party in all legitimate efforts to avoid or limit disclosure at the disclosing party's expense. SICPA Industries agrees that its obligations under this Article III shall extend to the SICPA Companies as well as to SICPA Industries, and any breach or violation of this Section by any SICPA Company shall be deemed to be a breach by SICPA Industries. (For purposes of this Agreement, the term "SICPA Companies" shall mean any person or entity controlled by, controlling, or under common control with SICPA Industries. The term "control" of any person or entity means possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such person or entity, whether through the ownership of voting securities or by contract or otherwise.) ARTICLE IV CONTRIBUTIONS TO CAPITAL Neither of the Venturers shall be obligated to make any contributions of capital to the Joint Venture, it being contemplated that each Venturer shall bear its own expenses relating to its participation on the Committee, and the performance of any tasks or projects carried out by such Venturer pursuant to the direction of the Committee. ARTICLE V MANAGEMENT AND OPERATION The Committee shall manage all affairs and business of the Joint Venture to the best advantage of the Joint Venture. The Committee shall have all of the powers, rights and authority necessary to conduct such business and affairs, subject, however, to the requirement that any decision of the Committee shall require the unanimous consent of all members of the Committee. ARTICLE VI TRANSFERS OF INTERESTS IN THE JOINT VENTURE Neither of the Venturers shall transfer its interest (or any portion thereof) in the Joint Venture without the consent of the other Venturer, and any transfer in violation of this Article will automatically cause the dissolution of the Joint Venture. ARTICLE VII TERMINATION OF THE JOINT VENTURE The Joint Venture shall dissolve and its affairs shall be wound up upon the first to occur of the following: (a) The sale or other disposition of all or substantially all of the assets of the Joint Venture; or (b) The delivery to the other Venturer of a written demand from either Venturer that the Joint Venture be dissolved, in either of which events the Joint Venture's affairs shall be wound-up and the Joint Venture terminated as soon as practicable thereafter in accordance with applicable California law. ARTICLE VIII MISCELLANEOUS 8.1 RESTRICTION ON HIRING EMPLOYEES. For a period of two years following the termination of employment of an employee of either Venturer, the other Venturer shall be prohibited from employing such employee without the prior written consent of the other Venturer; provided, however, that this restriction shall terminate two years after the termination of the Joint Venture. 8.2 INDEMNIFICATION. Each Venturer hereby indemnifies and agrees to hold harmless the other Venturer from and against all costs, expenses, liabilities, damages, claims, demands, actions, suits and proceedings which shall arise by virtue of any representation or warranty of the indemnifying Venturer in this Agreement which was incorrect in any material respect as of the date made, or which shall arise by virtue of any act of a Venturer which was not authorized by the Committee. 8.3 GOVERNING LAW. This Agreement shall be construed in accordance with and governed by the laws of the State of California. 8.4 ARBITRATION. If the Venturers hereto are unable to resolve by mutual agreement any dispute or controversy between them concerning this Agreement, the Venturers agree that the dispute or controversy shall be finally settled by mandatory, binding arbitration, in accordance with the rules and procedures of the American Arbitration Association applicable to commercial transactions. Costs of arbitration shall be borne by the Venturers in accordance with the decision of the arbitrators. Judgment upon the award rendered shall be entered into any court having competent jurisdiction thereof, or application may be made to such court for a judicial acceptance of the award and an order of enforcement as the case may be. The arbitration proceedings shall be conducted at a reasonable location selected by the Venturer that is the defendant in such action. 8.5 ATTORNEYS FEES. In case suit is brought or arbitration proceedings commenced by a Venturer because of the breach of any term, covenant or condition contained in this Agreement, the prevailing Venturer shall be entitled to recover against the other Venturer the full amount of its costs, including expert witness fees and reasonable attorneys fees. If neither Venturer prevails entirely, such fees and expenses shall be prorated based upon the relative success of each Venturer to the relief being sought. 8.6 NOTICES. All notices, approvals and other communications under this Agreement shall be in writing and shall be given to such Venturer, addressed to it, at its address or telecopy number set forth below or such other address or telecopy number as such Venturer may in the future specify for such purpose by notice to the other Venturer. If To Flex: Flex Products, Inc. 2793 Northpoint Parkway Santa Rosa, California 95407-7350 Attn: Danforth Joslyn, Chief Executive Officer Fax: 707/525-7725 With A Copy To: Collette & Erickson 555 California Street, Suite 4350 San Francisco, California 94104-1791 Attn: John M. Collette, Esq. Fax: 415/788-6929 If To SICPA Industries: SICPA Industries of America, Inc. 111 East 61st Street New York, New York 10021 Attn: Maurice Amon Fax: 212/308-9167 With A Copy To: David T. Ralston, Esq. SICPA Industries of America, Inc. 1000 Thomas Jefferson Street, N.W. Suite 609, Georgetown Washington, D.C. 20007 Fax: 202/298-7810 Either Venturer may from time to time specify as its address or telecopy number for purposes of this Agreement any other address or telecopy number upon the giving of ten (10) days notice thereof to the other Venturer. 8.7 COUNTERPARTS. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original. 8.8 INTERPRETATION. The headings to the various subdivisions of this Agreement are for convenience of reference only and shall not define or limit any of the terms or provisions hereof. The language in all parts of this Agreement will in all cases be construed as a whole and in accordance with its fair meaning and not restricted for or against either party. 8.9 SUCCESSORS AND ASSIGNS. This Agreement shall inure to the benefit of and be binding upon the Venturers and their respective permitted successors and assigns. 8.10 BOARD APPROVAL REQUIRED. Anything herein to the contrary notwithstanding, this Agreement shall not become effective unless and until it is approved by the Boards of Directors of both Flex and SICPA Industries, and each party has notified the other in writing of such approval. IN WITNESS WHEREOF, the Venturers have executed this Agreement to be effective as of the date first above written. FLEX PRODUCTS, INC. By ___________________________ SICPA INDUSTRIES OF AMERICA, INC. By ___________________________ EXHIBIT G - FACILITIES LEASE AGREEMENT Incorporated by reference to Exhibit (10)(p) of Registrant's Form 10-K for the fiscal year ended October 31, 1988. EXHIBIT H - ASSIGNMENT OF INTELLECTUAL PROPERTY RIGHTS Incorporated by reference to Exhibit (10)(p) of Registrant's Form 10-K for the fiscal year ended October 31, 1988. EXHIBIT I - EXCLUSIVE LICENSE AGREEMENT Incorporated by reference to Exhibit (10)(p) of Registrant's Form 10-K for the fiscal year ended October 31, 1988. EXHIBIT J - RESEARCH, DEVELOPMENT AND ENGINEERING AGREEMENT Incorporated by reference to Exhibit (10)(p) of Registrant's Form 10-K for the fiscal year ended October 31, 1988. EXHIBIT K - SUPPORT AND ADMINISTRATIVE SERVICES AGREEMENT Incorporated by reference to Exhibit (10)(p) of Registrant's Form 10-K for the fiscal year ended October 31, 1988. EXHIBIT L - ASSIGNMENT AND ASSUMPTION AGREEMENT Incorporated by reference to Exhibit (10)(p) of Registrant's Form 10-K for the fiscal year ended October 31, 1988. ADDENDUM NO. 1 TO JOINT ACQUISITION AGREEMENT DATED MAY 1, 1995 BY AND BETWEEN OCLI AND SICPA ADDENDUM NO. 1 TO OCLI/SICPA AGREEMENT THIS ADDENDUM NO. 1 ("Addendum"), is made and entered into as of May 1, 1995, by and between OPTICAL COATING LABORATORY, INC., a Delaware corporation ("OCLI"), and SICPA HOLDING S.A., a Swiss corporation ("SICPA"). R E C I T A L S A. The parties entered into an Agreement, dated December 13, 1994 (the "Agreement"), wherein they set forth and memorialized certain terms to govern a joint undertaking by them to purchase the shares of capital stock of FLEX PRODUCTS, INC., a Delaware corporation ("FLEX") owned by ICI AMERICAS INC. ("ICIA") and a promissory note issued by FLEX to and owned by ICI AMERICAN HOLDINGS INC. ("ICIAH"). B. Concurrently with the execution of this Addendum, the parties are executing a Stock and Note Purchase Agreement (the "Purchase Agreement") together with FLEX ICIA AND ICIAH. C. The parties wish to memorialize in this Addendum certain additional covenants and undertakings of one or the other, or both, of the parties, as a supplement and amendment to the Agreement, with the intent that the terms of this Addendum shall be integrated with and complement the Agreement, as and to the extent set forth herein. A D D E N D U M NOW, THEREFORE, in consideration of the premises and the respective covenants and undertakings of the parties contained herein, the parties hereby agree as follows: 1. Definitions; References to Certain Agreement Terms. a. Definitions. All capitalized terms used herein shall have the same meanings as attributed to them in the Purchase Agreement and the Agreement, unless expressly defined herein. In case of any conflict, the definitions in the Purchase Agreement shall control. In addition, a "Paragraph 4(o) Indemnifiable Event" shall mean an event set forth in paragraph 4(o) of the Disclosure Schedule to the extent such event occurred prior to Closing and arose from actions or omissions in violation of Applicable Law taken by FLEX. The foregoing sentence notwithstanding, a Paragraph 4(o) Indemnifiable Event shall not include (A) any event resulting directly or indirectly from action taken by ICIA or ICIAH prior to Closing or by FLEX or SICPA after Closing or (B) any event the existence or occurrence of which would constitute a breach of a representation or warranty under the Purchase Agreement. b. Extension of Deadline for Closing. The parties agree that references to March 31, 1995 in Sections 2.a.vi and 11 of the Agreement shall be amended to refer instead to May 31, 1995. 2. Governance of FLEX after Closing. Following the Closing, OCLI and SICPA agree that the following additional terms shall apply to the governance of FLEX: a. Reconstitution of FLEX Board. The Board of Directors of FLEX shall be reconstituted, effective upon the Closing, such that those then in office shall be replaced by the persons listed below: 3. Governance of Flex after Closing. Following the Closing, OCLI and SICPA agree that the following shall apply to the governance of FLEX: a. Reconstitution of FLEX Board. The Board of Directors of FLEX shall be reconstituted, effective upon the Closing, such that those then in office shall be replaced by the persons listed on Exhibit C, three of whom have been designated by OCLI and two of whom have been designated by SICPA and the Certificate of Incorporation or Certificate of Designations of FLEX shall be amended if necessary to provide that the stockholders of FLEX shall be entitled to cumulative voting in connection with the election or removal of the Directors. As representatives of OCLI: HERBERT M. DWIGHT JOHN McCULLOUGH JAMES W. SEESER As representatives of SICPA: MAURICE A. AMON EDUARDO BERUFF b. Joint Technical Committee. The Joint Technical Committee to be formed shall consist of the following representatives from FLEX, OCLI and SICPA. As representatives of OCLI: JAMES W. SEESER BRYANT P. HICHWA LEONARD P. MOTT As representatives of SICPA: ANTON BLEIKOLM ARTHUR M. LIEBERMAN As representatives of FLEX: MICHAEL SULLIVAN PATRICK HIGGINS ROGER PHILLIPS c. Approval of Minutes. All proposed minutes of deliberations of, and resolutions adopted and actions taken by, the Board of Directors and/or by the stockholders of FLEX (collectively, the "Minutes") shall be deemed approved so as to serve as an official record of such deliberations and memorialization and expression of such resolutions and actions only after draft copies of the Minutes have been delivered to all of the Directors and the Directors have been given the opportunity to provide comments on them. d. Legal Representation. Except when the Board of Directors of FLEX, by a majority of at least four Board members, otherwise directs, FLEX shall be represented for the purpose of legal advice and representation in connection with any of the following matters solely by co-counsel consisting of one or more attorneys of a firm selected by OCLI and one or more attorneys of a firm selected by SICPA, with each of OCLI and SICPA to bear the entire costs of the firm selected by it: i. Any merger, consolidation or other corporate reorganization of FLEX. ii. The sale of all or substantially all of the assets or business of FLEX or any of its operating divisions. iii. The employment agreement and any incentive stock option or bonus arrangements (other than under group plans adopted by the Board of Directors) for any executive officer of FLEX, and the engagement agreement and any such stock option or bonus arrangement for any consultant of FLEX whose annual compensation from it is reasonably expected to exceed $100,000. iv. The licensing or sale of any of FLEX's technology, other than to OCLI or SICPA, or the licensing or purchase of any technology of any third-parties, other than from OCLI or SICPA, where the projected consideration payable by the licensee or acquirer during the first 36 months is expected to exceed $500,000. v. Any joint ventures or shared R&D Projects where the projected budget for the first 36 months of the joint venture or project is expected to exceed $500,000. vi. The negotiation and execution of any sale of securities of FLEX to any third party purchaser or purchaser, where the aggregate consideration payable for such securities in any offering shall exceed $500,000 or where the securities to be sold (or any securities into which such securities may be converted) represent in excess of 20% of the issued and outstanding shares of voting stock of FLEX, calculated on a fully-diluted, fully-converted basis. 3. Covenant Not To Compete. a. Covenant. OCLI and SICPA each agrees that following the disposition of its shares of the capital stock of FLEX, it shall not compete with FLEX in the manufacture or sale of products made by depositing one or more layers of materials onto flexible substrates by Roll-to-Roll Coating or to manufacture or sell any product being manufactured by FLEX by Roll-to-Roll Coating at the time of the party's sale of its capital stock of FLEX. b. Geographical Application of Covenant. The covenant not to compete set forth above shall be applicable worldwide, reflective of the worldwide market for the products manufactured and sold by FLEX. c. Duration. The covenant not to compete set forth above shall apply only if, at the time when the party disposes of its shares of the capital stock of FLEX, the other party remains as a holder of no less than 50% of the issued and outstanding shares of FLEX voting capital stock. If the foregoing condition is satisfied, the covenant not to compete shall thereafter remain in effect for a period of three years. d. Definition. As used herein, "Roll-to-Roll Coating" shall mean the serial steps of (i) the unwinding of a flexible substrate from a first roll, (ii) the deposition of one or more layers of materials onto the flexible substrate and (iii) the winding of the substrate onto a second roll, provided that "Roll-to-Roll Coating" shall not include the deposition of more than one layer of material to an area of the substrate during any period that the substrate is motionless. e. Breadth of Restraint. The foregoing covenant is intended to require that the applicable party refrain from, and each party subject to the covenant not to compete hereby agrees to refrain from, any activity described in Paragraph 3.a above individually, or in conjunction with others, directly or indirectly, whether as principal, partner, joint venturer, stockholder of an affiliate or otherwise. f. Severability. The parties intend that the covenants and undertakings contained in this Paragraph 3 shall be construed as distinct covenants and agreements covering competition in each of the separate jurisdictions in which the party subject to the covenant not to compete operates or may operate in the future. To the extent that this covenant as set forth in this Paragraph 3 shall be deemed illegal or unenforceable in any one or more such jurisdictions, it shall nevertheless not be affected with respect to each other such jurisdiction. g. Enforceability. Each party acknowledges and agrees that any remedy at law which may be available to the other party for any breach of this covenant by the party subject to the covenant not to compete will be inadequate to protect the other party's interest hereunder and that the other party (and FLEX, as a third-party beneficiary) shall be entitled to injunctive relief in the event of such breach, in addition to any other appropriate relief and remedy. h. Reasonableness of Restrictions. Each party acknowledges and agrees that the restrictions set forth in this Paragraph 3, including without limitation the restrictions relating to duration, geographic area and breadth of application, are reasonable in scope. 4. Amended Certificate of Incorporation. OCLI and SICPA agree that promptly following the Closing, they shall vote their shares, and direct their respective representatives on the FLEX Board of Directors to vote, so as to amend the Certificate of Incorporation of FLEX in its entirety and replace it with the Amended and Restated Certificate of Incorporation attached as Exhibit A to this Addendum. 5. Representations, Warranties and Undertakings by OCLI. a. Representations and Warranties. To induce SICPA to enter into the Stock and Note Purchase Agreement with ICIA and ICIAH (the "SPA"), and to purchase a portion of the ICIA Shares and a portion of the FLEX Note as called for under the SPA, OCLI represents and warrants to SICPA that as of the date of this Addendum, FLEX is in default in the payment when and as due of certain research and development payments from it to OCLI, which breach OCLI shall waive at the Closing in favor of an obligation on the part of FLEX to make payment of its research and development payments to OCLI on an as-expended basis. As of the date of this Addendum, and as of the Closing under the SPA, FLEX and OCLI are each in full compliance with each of the agreements referenced in Paragraph 7.a.v of the Agreement, and all other agreements and contracts between them, and all such agreements and contracts are valid and binding, and OCLI knows of no act or failure to act on the part of FLEX or any third parties which constitutes, or would with the passage of time or the giving of notice or both constitute, an act of breach or default by FLEX thereunder. b. Patent Assignments. OCLI agrees, prior to or promptly following the Closing under the Purchase Agreement and at OCLI's expense, to execute and cause to be filed with the appropriate government patent offices (including the U.S. Patent Office and corresponding foreign offices) all assignments and other forms which are necessary to record the assignment from it to FLEX of all patents which it has heretofore conveyed to FLEX and corrective filings where needed to correct clerical errors and mistaken references in previously recorded assignments. 6. Environmental Indemnification. a. Definitions. i. "Indemnified Parties" shall mean any or all of the following: (1) SICPA; (2) FLEX; and/or (3) the subsidiaries, affiliates, officers, Directors, stockholders, agents, attorneys, employees, heirs, successors and assigns of SICPA and/or FLEX. ii. "Environmental Laws" shall mean all local, state and federal environmental laws or regulations relating to operations or businesses or properties or assets of OCLI (including the assets and operations of FLEX during the time while FLEX was a division of OCLI), including all environmental requirements imposed by any law, rule, regulation or order of any federal, state or local judicial, regulatory or administrative agency, board or authority (including laws relating thereto which may be asserted in common law or under statute and regardless of form including strict liability and negligence), existing at the date of this Addendum or hereafter enacted or created, which relate to (1) noise; (2) pollution or protection of the air, surface water, ground water or land; (3) solid, gaseous or liquid waste generation, handling, treatment, storage, disposal or transportation; or (4) manufacturing, processing, distribution, use, storage, handling or exposure to hazardous or toxic substances or materials. The Environmental Laws shall include, but shall not be limited to, the Comprehensive Environmental Response, Compensation, and Liability Act of 1980, as amended; the Hazardous Materials Transportation Act, as amended; the Resource Conservation and Recovery Act, as amended; the California Health and Safety Code, as amended; the California Water Code, as amended; California Code of Regulations Titles 22, 23, and 26; the Toxic Substances Control Act, 15 U.S.C. Sec. 2601 et seq.; and all other federal, state and local laws regulating hazardous or toxic wastes and materials (collectively, "Hazardous Materials"), underground tanks and safety in connection therewith, water quality, air quality or other environmental matters. b. OCLI's Liability and Indemnity. i. OCLI shall retain liability for, and shall indemnify the Indemnified Parties from and against, all fines, penalties, costs, liabilities, expenses, damages and losses of any nature whatsoever, including, but not limited to, remedial, removal, response, abatement, clean-up, investigative and monitoring costs and any other related costs and expenses, including reasonable attorneys' and experts' fees (collectively, the "Environmental Liabilities") arising from or relating to (1) OCLI's violation of any environmental Law; or (2) the release by OCLI or OCLI's predecessors-in-interest of any Hazardous Materials into the environment, including, without limitation, a release of Hazardous Materials, at, under or adjacent to any real property owned or occupied by OCLI or FLEX. ii. Without limiting the foregoing, OCLI shall retain liabilities for, and shall indemnify the Indemnified Parties from and against, all Environmental Liabilities arising from or relating to the contamination caused by OCLI or OCLI's predecessors-in-interest of surface water, ground water or land which is currently the subject of investigation and inquiry by OCLI pursuant to any clean-up and abatement or similar order issued by the California Regional Water Quality Control Board or any government agency with relevant jurisdiction. iii. Notwithstanding the foregoing, and except as and to the extent set forth in the following Paragraph 6.b.iv, OCLI shall not be so liable to the extent that such violation, act, omission, occurrence or failure is attributable to FLEX's violation of any Environmental Law or FLEX's release of Hazardous Materials into the environment. iv. Notwithstanding anything to the contrary in Paragraph 6.b.iii, OCLI shall indemnify SICPA for response costs, less response costs for which SICPA is entitled to indemnification pursuant to the Indemnification Agreement between SICPA and ICIA dated May 1, 1995, arising out of a Paragraph 4(o) Indemnifiable Event, if and to the extent that FLEX is unable to pay or otherwise respond to the Paragraph 4(o) Indemnifiable Event; provided, however, that OCLI's obligations under this subparagraph 6.b.iv shall be limited to 40% of the total of the response costs in respect of the Paragraph 4(o) Indemnifiable Event. "Response" and "respond" shall have the meanings given to those terms as set forth in 42 U.S.C. Section 9601(25). c. Notice and Opportunity to Defend. i. Upon receiving notice or obtaining information of an occurrence or event that may give rise to an Environmental Liability, OCLI or the Indemnified Parties, as the case may be, to the extent permitted by law and confidentiality agreements, shall promptly provide written notice thereof to all of the other parties. ii. If such event involves a legal action or administrative proceeding, OCLI shall thereafter assume in writing liability under this indemnity and shall control the defense of such action or proceeding, at its own expense and with its own environmental and other experts and its own counsel, who shall be reasonably satisfactory to the Indemnified Parties. Prior to OCLI's assuming and controlling such action or proceeding, the Indemnified Parties shall not take any action in respect of such action or proceeding unless the Indemnified Parties determine in good faith that such action is required by emergency conditions. iii. Where OCLI assumes and controls such action or proceeding, (1) the Indemnified Parties at their own cost and expense may participate in the conduct of such action or proceeding, and (2) OCLI shall promptly inform the Indemnified Parties of all material developments and events relating to such action or proceeding. iv. OCLI shall conduct all activities pursuant to this Paragraph 6.c in a fashion so as to minimize the interruption of, or interference with, the conduct of the business of FLEX. v. Prior to commencing or implementing any action to remedy or mitigate a condition giving rise to any action that may result in an Environmental Liability for which OCLI may be liable pursuant to this Paragraph 6., OCLI shall provide written notice to the Indemnified Parties of the nature and extent of the action proposed. Within 20 business days after receipt of such notice, the Indemnified Parties shall notify OCLI of any objection they may have to the reasonableness of the proposed action to remedy or mitigate the condition, and the reasons therefor. In the event OCLI is notified of such an objection, the parties hereto shall negotiate in good faith to resolve the objection and to develop a mutually agreeable plan for action. vi. Notwithstanding any of the foregoing, in the event that the Indemnified Parties or either of them at any time determines, in their reasonable business judgment, that such action or proceeding reasonably may be anticipated to adversely impact the business or operations of FLEX or an Indemnified Party and retain environmental and other experts and counsel who shall be reasonably satisfactory to the other Indemnified Parties and to OCLI, at OCLI's sole expense. d. Cooperation. With respect to any potential OCLI liability to third parties or government agencies arising from an action or proceeding or Environmental Law pursuant to this Paragraph 6, the Indemnified Parties will cooperate with OCLI in any reasonable manner to satisfy such liability provided that OCLI honors its indemnification obligations hereunder. Such cooperation shall be at OCLI's sole expense. e. Reasonable Access. The parties shall allow necessary, reasonable and uncompensated access to each other's files, data, information, property and personnel in order that each party may fully protect and satisfy its legal interest in connection with any pending or future action or proceeding or Environmental Law. OCLI shall deliver to the Indemnified Parties copies of all information, including without limitation, analytical results, consultants' data and evaluations and correspondence relating to any Environmental Liabilities for which OCLI may be liable pursuant to this Paragraph 6. f. Confidentiality of Information Concerning Environmental Liabilities. Notwithstanding anything herein to the contrary, each party to this Addendum will hold and will cause its employees, consultants and advisors to hold in strict confidence, unless compelled to disclose such documents or information by judicial or administrative process or, in the opinion of its counsel, by other requirements of law, all documents and information concerning the other parties to this Addendum furnished to it pursuant to the provisions of this Paragraph 4, and in any such instance where disclosure appears to be compelled by law, will notify all other parties so that such other parties may avail themselves of such measures as may be available for protecting the confidentiality of such information. 7. Counterparts. This Addendum may be executed in any number of counterparts, each of which may be executed by one or both of the parties, each of which shall be enforceable against the party or parties actually executing such counterparts, and all of which together shall constitute one instrument. 8. Integration. This Addendum is intended to and shall be integrated with and into the Agreement, and shall be entitled to the benefit of all provisions thereof. In the event of any conflict between the provisions of this Addendum and the Agreement, the provisions of this Addendum shall prevail. Subject to the terms hereof, the Agreement is hereby ratified and continued in full force and effect by the parties hereto. IN WITNESS WHEREOF, the parties have executed this Addendum as of the date first set forth above. SICPA HOLDING S.A. OPTICAL COATING LABORATORY, INC. By /s/Eduardo Beruff By /s/Herbert M. Dwight, Jr. EDUARDO BERUFF, HERBERT M. DWIGHT, JR. Authorized Signatory President By /s/William E. Horwich WILLIAM E. HORWICH, Authorized Signatory EX-10.2 4 EXHIBIT 10.2 AMENDED AND RESTATED AGREEMENT by and between JDS FITEL INC. and OPTICAL COATING LABORATORY, INC. TABLE OF CONTENTS < < Table of Contents will generate here > > i AMENDED AND RESTATED AGREEMENT THIS AMENDED AND RESTATED AGREEMENT, made as of this 15th day of April, 1999, by and between JDS FITEL Inc., a Canadian corporation, having its principal place of business at 570 West Hunt Club Road, Nepean, Ontario K2G 5W8 Canada ("JDS" and "Distributor") and OPTICAL COATING LABORATORY, INC., a Delaware corporation, having its principal place of business at 2789 Northpoint Parkway, Santa Rosa, California 95407-7397 ("OCLI"). W I T N E S S E T H : WHEREAS, JDS and OCLI entered into an agreement dated February 1, 1997 to combine their respective areas of expertise and capabilities in a joint effort for WDM Product Business as defined therein; WHEREAS, the parties agree that the WDM Business shall be managed with the intent to make profits; and WHEREAS, JDS and OCLI wish to expand their joint efforts in the WDM Business by amending and restating their agreement as set forth herein. NOW, THEREFORE, in consideration of the mutual promises contained herein, the parties hereto agree to the following: ARTICLE I DEFINITIONS 1.1 Definitions. For purposes of this Agreement, the following definitions shall apply: "Company" shall have the meaning as set out in Section 7.1. "Company Profit" with respect to the Company shall mean the Company=s revenues, including from transactions with the Distributor or with any party to this Agreement, from the WDM Products Business, including related activities such as licensing of WDM Product or WDM Optical Filter technology, pursuant to this Agreement less Company related Costs. "Company Profit" can be either a profit or a loss. 1 "Confidential Information" shall have the meaning as set out in Section 14.1. "Cost" shall be defined as set forth in Exhibit A attached hereto. "Fiscal Year" shall mean a 12 month period of time ended October 31. "Fiscal Quarter" shall mean the quarters ended January 31, April 30, July 31 and October 31. "Management Committee" shall have the meaning as set out in Section 10.1. "Non-assignable" shall mean personal, non-transferable, indivisible and non-assignable. OCLI Customer shall mean a single customer as determined by the Management Committee. "Passive" shall mean not electrically powered or electrically controllable or adjustable. "Planar Waveguides" shall mean planar waveguides performing a wavelength discrimination function. "Profit" shall mean the sum of the Transaction Profit of each party plus Company Profit. "Profit" can be either a profit or a loss. "Transaction Profit" with respect to any party shall mean that party's revenues, including from transactions with the Company or with other parties to this Agreement from the WDM Products Business, including related activities such as licensing of WDM Product or WDM Optical Filter technology, pursuant to this Agreement less such party's related Costs. "Transaction Profit" can be either a profit or a loss. For greater certainty, Transaction Profit shall not include any revenue, Costs or Company Profit recognized by either party as a result of either consolidating, equity accounting or cost accounting for a party's ownership interest share in the Company. "WDM Optical Filters" shall mean WDM Optical Filters A, WDM Optical Filters B, WDM Optical Filters C and WDM Optical Filters D. 2 "WDM Optical Filters A" shall mean any and all dielectric (thin film) optical filters that are intended to be used in WDM Products A. "WDM Optical Filters B" shall mean any and all dielectric (thin film) optical filters that are intended to be used in WDM Products B. "WDM Optical Filters C" shall mean any and all dielectric (thin film) optical filters that are intended to be used in WDM Products C. "WDM Optical Filters D" shall mean any and all dielectric (thin film) optical filters that are intended to be used in WDM Products D. "WDM Products" shall mean (a) WDM Products A and WDM Products B, having three (3) or more fiber-coupled ports, (b) WDM Products C and WDM Products D having only two (2) fiber-coupled ports. For greater certainty where a WDM Product is combined with or integrated into another device which provides additional features or functions not essential to the operation of the WDM Product, including without limitation amplification, switching or adjustable attenuation, the value of the WDM Product shall be considered to be the fair market value of the WDM Product by itself without including any of the value of the remainder of the device. "WDM Products A" shall mean Passive wavelength division multiplexing or de-multiplexing components of four or more channel capability using optical filters or some other form of wavelength discrimination. "WDM Products B" shall mean Passive wavelength division multiplexing or de-multiplexing components using optical filters or some other form of wavelength discrimination with all operating channels within the wavelength range of 1500 to 1580 nanometers and with eighty percent (80%) transmission bandwidth greater than fourteen (14) nanometers. "WDM Products C" shall mean Passive wavelength division de-multiplexing components using optical filters or some other form of wavelength discrimination with one fixed, non-adjustable passband, within the wavelength range of 1500 to 3 1580 nanometers, having an eighty percent (80%) transmission bandwidth which is within a one percent (1%) transmission bandwidth of less than or equal to four (4) nanometers. "WDM Products D" shall mean Passive gain equalization components using optical filters or some other form of wavelength discrimination designed to match the spectral characteristics to an ideal optical spectrum for optical amplifier gain flattening applications over a specified optical bandwidth of at least six nanometers. "WDM Product Business" shall mean the business of design, development, manufacture, supply of WDM Optical Filters or WDM Products, sales to Distributor and technical product marketing support to assist Distributor in sales and marketing of WDM Products, all related to WDM Optical Filters or WDM Products. ARTICLE II SCOPE OF RELATIONSHIP 2.1 The relationship created between JDS and OCLI as described in more detail herein encompasses a joint venture activity relating to the design and manufacture of WDM Optical Filters; the design and manufacture of WDM Products; and the marketing and sale of WDM Products. From this joint venture activity JDS will realize two-thirds of all Profits for WDM Products A, B and C and OCLI will realize one-third of all such Profits, and JDS will realize one-half of all Profits for WDM Products D and OCLI will realize one-half of all such Profits, all subject to adjustment and the provisions as set forth herein. The activities for the design, test and manufacture of WDM Optical Filters are to be provided by OCLI and the design, assembly, test and manufacture and test of WDM Products are to be provided by JDS and upon the occurrence of certain circumstances as set out herein, these activities may be transferred to a separate legal entity. Furthermore, each party will cross-license intellectual property to the other party as set forth herein. JDS shall be the exclusive entity through which WDM Products from this joint venture activity are sold and JDS will perform all marketing and sales activities for WDM Products, with technical assistance from OCLI as set out herein. OCLI may perform marketing and sales activities for WDM Products D solely to the OCLI Customer. 4 OCLI represents that it has expertise in optical coating technology and optical design capabilities for making optical filters and is currently developing technology to address current and future market demands for telecommunications applications. JDS represents that it has know-how and expertise in fiber optic component technology including packaging and development, design and test, and manufacturing capabilities for fiber optic components, including WDM Products, for telecommunications applications, and is currently developing technology to address current and future market demands for telecommunications applications, and also has marketing and sales expertise relating to such optical components. At least until the establishment of the Company, it is intended that OCLI will use its expertise and facilities for manufacturing WDM Optical Filters for the joint venture, and JDS will use its expertise and facilities for manufacturing WDM Products for the joint venture. ARTICLE III MANUFACTURE OF WDM PRODUCTS 3.1 Manufacture of WDM Optical Filters by OCLI. Subject to Section 7.5, OCLI agrees to commit all resources necessary and appropriate to provide manufacturing services to manufacture and supply WDM Optical Filters for use by JDS or the Company in WDM Products which are based on Distributor=s customer requirements which have been translated into product, proof of concept product or prototype product specifications by Distributor where the required WDM Optical Filters specifications have been determined in consultation with OCLI with respect to WDM Optical Filters provided by OCLI. For greater certainty, JDS may also make and supply WDM Optical Filters for use in WDM Products, subject to Management Committee review based on the cost, available technology or capacity relating to WDM Optical Filters. 3.2 Supply of WDM Products by JDS. Subject to Section 7.5, JDS agrees to commit all resources necessary and appropriate to provide services to design, assemble, test and supply to OCLI as required by OCLI or the Company WDM Products which are based on Distributor=s customer requirements which have been translated into product, proof of concept product or prototype product specifications by 5 Distributor in consultation with JDS with respect to WDM Products provided by JDS. 3.3 Supply of WDM Optical Filters. Prior to formation of the Company, OCLI shall provide WDM Optical Filters to JDS as customer furnished material for use in the manufacture of the WDM Products unless JDS has manufactured filters for use in WDM Products D under license from OCLI pursuant to Section 3.6. 3.4 Price for JDS's Services. Prior to formation of the Company, and subject to Section 6.1 JDS shall charge OCLI for the design, assembly and testing of the WDM Products at JDS's Cost to design, assemble and test the WDM Products plus a percentage mark up fee of such Cost as agreed by the Management Committee. JDS shall invoice OCLI for WDM Products for which testing has been completed and are ready for shipment to Distributor or Distributor's customers. 3.5 Terms and Conditions. Payment terms for the sale of WDM Products and services by JDS to OCLI shall be net 45 days from the date of invoice. All payments not received when due shall be subject to an additional charge of 1.5% per month of the unpaid amount until the date of payment. 3.6 Licensing of Technology. Subject to Section 11, Section 13 and subsection (d) below and a Business Plan approved by the Management Committee, where a particular WDM Optical Filters D or WDM Product D, is commercially manufacturable as determined by the Management Committee, and where the Management Committee has determined that it is in the best interests of the joint venture that OCLI may also manufacture such WDM Product D ("Approved WDM Product D") or that JDS may also manufacture such WDM Optical Filters D ("Approved WDM Optical Filters D"), then: (a) License: OCLI and JDS shall each license the other on a royalty free, nonexclusive, Non-assignable basis all intellectual property rights, excluding trademarks, service marks and tradenames, owned by the other party and utilized by such party in the manufacture, (including the design of the Approved WDM Optical Filters D or Approved WDM Products D to be manufactured) of Approved WDM Optical Filters D in the case of 6 OCLI, and of Approved WDM Products D in the case of JDS ("Licensed IP"). Except as set forth in subsection (e) below, the parties agree that Licensed IP can only be used for the manufacture of Approved WDM Optical Filters D in the case of JDS, and Approved WDM Products D in the case of OCLI, and for no other purpose. (b) Technical Assistance: OCLI and JDS shall at such party's Cost provide technical assistance to the other party that the furnishing party considers reasonably necessary relating to Licensed IP and at mutually agreeable times so as not to adversely affect either party's own operations and to help such other party to manufacture Approved WDM Optical Filters D in the case of JDS, and Approved WDM Products D in the case of OCLI ("Technical Assistance"). The Cost of providing Technical Assistance shall be included in the Costs of the joint venture. (c) Subsidiary Intellectual Property: At the date when a particular WDM Optical Filters D or WDM Products D becomes Approved WDM Optical Filters D or Approved WDM Products D, intellectual property rights owned by either party's subsidiaries in which the party has majority ownership and where the party has control to cause said subsidiaries to grant an intellectual property rights license relating to the Approved WDM Optical Filters D or Approved WDM Products D which is necessary to enable the joint venture to conduct WDM Product Business, shall be offered to the other party on a nonexclusive, Non-assignable royalty free basis if possible, or failing which on a commercially reasonable basis. Where either party subsequently attains a majority ownership and where the party has control to cause said subsidiaries to grant an intellectual property rights license relating to the Approved WDM Optical Filters D or Approved WDM Products D which is necessary to enable the joint venture to conduct WDM Product Business, the party shall offer to the other party on a nonexclusive, Non-assignable royalty free basis if possible, or failing which on a commercially reasonable basis, 7 such subsidiaries' intellectual property at the date such party attains such position. (d) Improvements: Each party agrees to license back all improvements made to Licensed IP to the other party on a royalty free, nonexclusive, assignable basis. (e) Notwithstanding the foregoing, OCLI shall be allowed to design, develop, manufacture and sell WDM Product D only to the OCLI Customer using only a JDS designed commercially manufacturable WDM Product D where the license granted under Section 3.6(a), the technical assistance required under Section 3.6(b) and the rights granted under Sections 3.6(c) and (d) shall cover such activity by OCLI related solely to the manufacture of the JDS designed commercially manufacturable WDM Product D, whether or not such WDM Products D sold to the OCLI Customer are Approved WDM Products D. 3.7 Marking of WDM Products. All WDM Products D manufactured and sold pursuant to this Agreement, and all technical and marketing literature, shall be marked with the names and trademarks of both JDS and OCLI as determined by the Management Committee. WDM Products A, B and C shall also be marked as required by the Distribution Agreement. ARTICLE IV DISTRIBUTION AGREEMENT 4.1 Contemporaneously with the execution of this Agreement, OCLI and Distributor shall enter into that certain Distribution Agreement attached hereto as Exhibit B pursuant to which OCLI shall sell WDM Products only to Distributor as the sole and exclusive distributor of WDM Products at a price equal to OCLI's Cost of WDM Products plus a percentage mark up fee of such Cost as agreed by the Management Committee; notwithstanding the foregoing, OCLI may sell WDM Products D only to the OCLI Customer directly. ARTICLE V USE OF THIRD PARTY WDM OPTICAL FILTER AND ASSEMBLY SERVICES SUPPLIERS 5.1 Price Competition. The Management Committee may decide whether JDS, in the case of purchase WDM Optical 8 Filters, or OCLI, in the case of WDM Products assembly Services, or the Company for both, may purchase WDM Optical Filters or WDM Products assembly Services from third parties (where third parties in this Agreement shall include non-wholly owned subsidiaries of either party) if it determines that the Profits would be greater. 5.2 Competition Other Than Price. In the event that OCLI, in the case of WDM Optical Filters, JDS, in the case of WDM Products assembly Services or the Company for both, is unable to provide WDM Optical Filters or WDM Products assembly Services, as required by Distributor=s customers, based on lack of technology, including but not limited to capacity, yield or delivery timeframes, the Management Committee may authorize JDS, in the case of WDM Optical Filters, OCLI, in the case of WDM Products assembly Services, or the Company for both to purchase WDM Optical Filters or WDM Products assembly Services from third parties. 5.3 Price of Third Party Filters or Services Included in Costs. In the event WDM Optical Filters or WDM Product assembly services are purchased from third parties pursuant to Section 5.1 or 5.2, the price paid for such filters or such services are to be included in Costs for the purpose of determining profit sharing under Article VI. 9 ARTICLE VI PROFIT SHARING 6.1 Quarterly Profit Sharing Adjustments. Within 30 days from the end of each Fiscal Quarter thereafter, OCLI, JDS, Distributor and the Company when formed will exchange accounting information regarding each party's respective Costs incurred and Profits realized from the WDM Products Business. The sale price of WDM Products from OCLI or the Company to Distributor under the Distribution Agreement or alternately prior to formation of the Company the mark-up fee under Section 3.4, shall be adjusted such that the portion of Profits realized by OCLI are equal to one-third for WDM Products A, B and C and one-half for WDM Products D and the portion of Profits realized by JDS and Distributor combined are equal to two-thirds for WDM Products A, B and C and one-half for WDM Products D, of the Profits realized pursuant to the terms of this Agreement, subject to adjustment under Sections 6.2 and 6.3, and the provisions of Section 6.4. The profit sharing adjustment of each party=s portion of Profits shall be made retroactively for the Fiscal Quarter just ended in the form of a credit from one party to the other and prospectively such that the profit sharing expected for the current Fiscal Quarter will conform to the requirements of this section. 6.2 Profit Sharing for Non-Optical Filter WDM Product A, B and C. In the event the amount of sales of WDM Products A, B and C by Distributor that incorporate means of wavelength selection other than WDM Optical Filters or other elements providing means of wavelength discrimination which all have originated from OCLI during any Fiscal Quarter constitute more than 50% of the amount of all sales of WDM Products A, B and C by Distributor, then the adjustment called for by Section 6.1 shall be such that the portion of Profits realized by OCLI are equal to one-quarter and the portion of Profits realized by JDS and Distributor combined are equal to three-quarters of the Profits realized pursuant to the terms of this Agreement. In the case of WDM Products A, B and C containing both WDM Optical Filters and other means of wavelength selection, sales by Distributor shall be allocated to WDM Products A, B and C sales in accordance with the relative value of the WDM Optical Filter elements or other elements providing means of wavelength discrimination which all have originated from OCLI to the total value of all 10 wavelength selection elements employed in the WDM Products A, B and C, as determined by the Management Committee. Notwithstanding the foregoing, the said other elements providing means of wavelength discrimination in WDM Products A, B and C which all have originated from OCLI, shall only be used in the calculation in this subsection if such elements were not available from JDS at the time introduced by OCLI. 6.3 Profit Sharing for Non-Optical Filter WDM Product D. In the event the amount of sales of WDM Products D by Distributor that incorporate means of wavelength selection other than WDM Optical Filters or other elements providing means of wavelength discrimination which all have originated from OCLI during any Fiscal Quarter constitute more than 50% of the amount of all sales of WDM Products by Distributor, then the adjustment called for by Section 6.1 shall be such that the portion of Profits realized by OCLI are equal to 38%. In the case of WDM Products containing both WDM Optical Filters and other means of wavelength selection, sales by Distributor shall be allocated to WDM Products sales in accordance with the relative value of the WDM Optical Filter elements or other elements providing means of wavelength discrimination which all have originated from OCLI to the total value of all wavelength selection elements employed in the WDM Products, as determined by the Management Committee. Notwithstanding the foregoing, the said other elements providing means of wavelength discrimination in WDM Products which all have originated from OCLI, shall only be used in the calculation in this subsection if such elements were not available from JDS at the time introduced by OCLI. 6.4 Profit Sharing for WDM Product D for JDS Fiber Amps. Notwithstanding any term to the contrary, for sales of WDM Product D to JDS as customer for its use in fiber amplifiers (Fiber Amps ), OCLI's share of Profits shall be as follows: 5% during Fiscal Year 1999; 7.5% during Fiscal Year 2000; 10% during Fiscal Year 2001; 12.5% during Fiscal Year 2002; and 15% thereafter. For such sales of WDM Product D to JDS as customer, the sales price shall be a `best customer' price based on the sales price for equivalent WDM Product D products on substantially similar terms to third parties, all as determined by the Management Committee. For greater certainty JDS as customer may 11 purchase any or all of its WDM Product D requirements for Fiber Amps from third parties and all such activities shall be deemed to be completely outside the scope of this Agreement. 6.5 Right to Inspect and Audit Records. Each party hereto shall have the right, upon reasonable notice and during normal business hours, to inspect and conduct an audit of any other party's or the Company=s accounting records for the purpose of verifying such party's Costs and Profits. 6.6 Audit Costs Necessitated by Agreement. Except for Section 6.5, in the event a financial audit other than a party=s normal annual or quarterly audit required for its own business, is required at any time to determine any matter or calculation hereunder, the costs of such audit shall be included in Costs. ARTICLE VII FORMATION OF JOINT VENTURE COMPANY 7.1 Option to Form Joint Venture Company. Subject to Section 7.2 and only where the sales of WDM Products by Distributor exceeds forty million dollars ($US40,000,000) for any four consecutive Fiscal Quarters, either party hereto may exercise an option to cause to be formed a joint venture company (the ACompany"). Such option shall be exercisable by either party by giving sixty (60) days written notice thereof to the other party. 7.2 Formation of Joint Venture Company. Prior to either party exercising the option under Section 7.1, OCLI and JDS shall upon written notice negotiate in good faith for a period of sixty (60) days following such notice and agree upon all the terms and conditions relating to the formation and operation of the Company, including but not limited to the terms set forth below. Where the parties are not able to agree on all such terms or conditions, the terms and conditions the parties have not agreed upon shall be addressed in accordance with Section 7.6 below. (a) Form. The Company will be formed as a general partnership, limited liability company or other "flow-through" entity in order to minimize or eliminate taxes at the Company level. 12 (b) Location. The Company will be located in a location agreed upon by OCLI and JDS which provides a favorable tax treatment for all parties, location to competent labor force, access to markets and convenience to the management of OCLI and JDS. (c) Capital. OCLI and JDS will provide capital in the form of equity or working capital loans on commercially reasonable terms as needed. (d) Licensing of Technology. Subject to Sections 11 and 13.1, OCLI and JDS shall license the Company on a royalty free, nonexclusive, Non-assignable basis all intellectual property rights, excluding trademarks, service marks and tradenames, owned by either party for WDM Products Business. OCLI and JDS shall at no charge provide technical assistance to the Company to help the Company to implement, and utilize in the Company=s WDM Product Business, such licensed intellectual property rights. Intellectual property rights owned by either party's subsidiaries in which the party has majority ownership and where the party has control to cause said subsidiaries to grant an intellectual property rights license relating to the WDM Products Business which is necessary to enable the Company to conduct WDM Product Business, shall be offered to the Company on a nonexclusive, Non-assignable basis for a commercially reasonable royalty. (e) Governance. The governance and control of the Company will be negotiated by the parties acting in good faith prior to the exercise of the option under Section 7.1, by taking into consideration, in addition to all other factors: (i) OCLI=s desire to structure the Company to enable OCLI to consolidate the Company into its financial statements and (ii) JDS=s desire to adequately address JDS= need to feel comfortable with the fairness and degree of control it has over the Company by taking into consideration, in addition to all other factors, JDS's participation in Profits under this Agreement including its status as exclusive distributor under the Distribution Agreement. (f) Profit Sharing. The parties= respective percentage interest in the earnings and profits of the Company shall be such as to reflect the sharing of Profits provided for in Article VI of this Agreement. 13 7.3 Assignment of Distribution Agreement. Upon formation of the Company, the Distribution Agreement shall be assigned by OCLI to the Company. 7.4 Assignment of Terms of the Agreement. The Company, shall also agree to be bound by the same obligations that JDS and OCLI have to each other before the formation of the Company that relate to protecting each party=s interests, including but not limited to, Sections 3.1 and 3.2, Article IV Distribution; Article VI Profit Sharing; Article VIII Exclusivity; Article IX Termination; Article XI Research and Development; Article XIII Acquisitions; Article XIV Confidential Information and Article XV Miscellaneous. 7.5 Activities of the Company. After the formation of the Company, the parties shall determine what activities as set out in Article III shall be assumed by the Company or shall continue to be provided by one or both of the parties. 7.6 Failure to Agree on Terms of the Company. In the event the parties do not reach agreement on all the terms and conditions relating to the formation and operation of the Company within the 60-day notice period or any extensions of time mutually agreed to by the parties, the parties agree to immediately submit any such terms and conditions that the parties have failed to agree on to arbitration pursuant to Section 15.7 except that such arbitration shall not be binding on the parties save as expressly set out in this Article VII. The factors set forth in Section 7.2(e)(i) and (ii) shall not in any manner be disclosed to the arbitrators. The arbitrators shall determine such terms and conditions taking into account: (a) all of the factors listed in Section 7.2 but without any reference to the factors set forth in Section 7.2(e)(i) and (ii), (b) other provisions of this Agreement and (c) the conduct of the parties under this Agreement. The arbitration proceeding shall be completed within 90 days following the conclusion of good faith negotiations. After conclusion of the arbitration of all such terms and conditions that the parties had failed to agree on, and where OCLI is not satisfied with the arbitrators= decision OCLI shall have the option, exercisable by notice, given within 30 days of the date of the arbitrators' decision, to (i) terminate this Agreement on six months notice provided 14 notice is given after January 31, 1999, (ii) agree to form the Company upon the terms decided by the arbitrators if, and only if, JDS also, in its sole and unfettered discretion, whether or not acting reasonably, agrees to form the Company upon such terms or (iii) continue this Agreement without the formation of the Company. In the event the parties continue this Agreement without the formation of the Company, either of the parties may elect, on one subsequent occasion only, to initiate the process to form the Company pursuant to this Article VII any time after a date that is 24 months after the date of the arbitrators= decision. In no event shall either party have any rights or obligations under this Article VII upon the conclusion of the second arbitration and this Article VII shall thereafter be null and void. ARTICLE VIII EXCLUSIVITY 8.1 Scope of Exclusive Rights. Unless otherwise agreed in writing by the parties, neither OCLI nor JDS may make for or sell to third parties WDM Optical Filters, Fiber Bragg gratings, Planar Waveguides or any other form of wavelength discrimination device or technology for WDM Products or may provide WDM Products assembly services for any technology for third parties. ARTICLE IX TERMINATION 9.1 Termination for Convenience by Either Party. On January 31, 2015 and at the end of every five-year period thereafter, upon 3 years prior written notice given within 6 months prior to such dates, either party may terminate this Agreement for convenience. 9.2 Effect of Termination. Subject to Section 14.4, in the event that either this Agreement or the Distributor Agreement, Exhibit B, is terminated pursuant to any provision hereunder or for breach, both this Agreement, including all licensed rights granted hereunder, and said Distributor Agreement shall terminate and all intellectual property rights owned by each party shall be retained by such party and all intellectual property rights jointly owned shall continue to be jointly owned provided however that either party may thereafter exploit such joint 15 intellectual property rights without the consent or accounting to the other party. In addition, in the event the Company has been formed, the parties shall use their best efforts to effect an orderly dissolution and wind-up of the Company by discharging all debts and obligations of the Company with the remaining equity to be distributed to the parties in accordance with their respective interests in Profits; provided that all assets of the Company are dealt with as follows. All assets of the Company shall be transferred to the parties as mutually agreed. No Company asset shall be conveyed, sold, leased or otherwise disposed of to a third party unless both parties agree in writing to such disposal in their respective sole discretion. Should the Company not have sufficient monetary assets to discharge all debts and all obligations of the Company, each of the parties shall share in the discharge of such debts and obligations in accordance with their respective interests in Company. ARTICLE X MANAGEMENT COMMITTEE 10.1 Management Committee. OCLI and JDS shall each appoint two persons to serve as a Management Committee. The Management Committee shall have the authority, acting reasonably, to manage the design, development, manufacture and technical product marketing support of the WDM Products Business pursuant to this Agreement and until the formation of the Company. Meetings of the Management Committee may be called by any member thereof upon one business day notice to the other Management Committee members and attendance may be by telephone, video conference or other means agreed to by such members. Three members, or their designated representatives, must be present for a quorum and no business shall be conducted by the Management Committee except at such meetings where a quorum is present. The affirmative vote of three members is required to authorize all actions of the Management Committee. In the event the Management Committee reaches a deadlock, including consistent failure or refusal of one or more party's members to attend meetings, the chief executive officers then in office of JDS and OCLI shall jointly appoint one non-affiliated business person to serve as the fifth member of the Management Committee to break such deadlock. If the chief executive officers of OCLI and JDS are unable to agree on who should serve as the fifth member of the Management 16 Committee, each shall select one non-affiliated business person, and the two non-affiliated business persons so selected shall select a third non-affiliated business person who alone will then join the Management Committee as the fifth member to break such deadlock. 10.2 Chairperson of the Management Committee. A member of the Management Committee initially selected by OCLI shall serve as chairperson for a nine-month term. Thereafter, JDS shall choose the chairperson to serve for a nine-month term, and thereafter the parties shall continue to rotate in the selection of the chairperson for succeeding nine-month terms. The duties of the chairperson shall be to organize and preside at meetings of the Management Committee and to perform such other duties as from time to time may be determined by the Management Committee. The parties may adjust the term of the chairperson by mutual agreement. 10.3 Delegation. The Management Committee may delegate duties to one or more persons who need not be members of the Management Committee. 10.4 Business Plan. The Management Committee shall prepare the joint venture's annual Business Plan which shall include each parties obligations and responsibilities all in accordance with this Agreement. The Business Plan shall be completed not later than the beginning of each Fiscal Year. ARTICLE XI RESEARCH AND DEVELOPMENT 11.1 Funding of R&D. The parties may propose any R&D projects that relate to WDM Products Business to the Management Committee or the Company. Notwithstanding the voting provisions contained in Section 10.1, if the Company or the Management Committee, acting through members or representatives that are unaffiliated with the offering party, elects to conduct the R&D project, the Company, or OCLI or JDS as determined by the Management Committee, shall fund the R&D project which funding shall constitute Costs and the results shall be owned by the Company or equally by OCLI and JDS. Where the Company or said members of the Management Committee decline to undertake the R&D project, either party may conduct the R&D project provided that the Company or said members of the Management Committee shall have the right for a period of 60 days after declining to 17 conduct the R&D project to accept the R&D project in which case the total cost of the R&D project shall be funded by the Company, or OCLI or JDS as determined by the Management Committee, which funding shall constitute Costs. In the event the Company or said members of the Management Committee elect not to conduct the R&D project, or exercise the 60 day option described above, either party is free to conduct the R&D project with the results being owned by such party with no obligation to license or otherwise share the results with the Company or the other party and any products based on the R&D project shall be deemed to fall outside of the definition of WDM Products. In the event a party elects not to present an R&D project to the Management Committee or the Company, and the results of the R&D project has application in the WDM Products Business, at the end of the R&D project such party will offer the Company a nonexclusive, Non-assignable license limited to use the results of such R&D project solely for the WDM Product Business, based on commercially reasonable terms including lump sum and royalty terms, which amounts shall be included in Costs but not be included in the licensing party's revenues for the purpose of determining such party's Transaction Profits. The Company shall have a period of thirty (30) days from the date of such offer to accept such license. In the event the Company does not take a license within said time period, any products based on such R&D project shall be deemed to fall outside of the definition of WDM Products and the party owning such results shall have no obligation to license or otherwise share the results with the Company or the other party. ARTICLE XII THIRD PARTY LICENSING 12.1 Where the parties agree that a third party license of intellectual property rights is needed to carry out the activities hereunder, the costs of such license shall be included in Costs for the purpose of sharing Profits under Article VI. ARTICLE XIII ACQUISITIONS 13.1 Where either party makes an acquisition in which it has majority ownership and the acquiring party has control to cause the acquisition to offer an intellectual 18 property license relating to WDM Products Business to the Company, immediately after the completion of the acquisition the Company will be offered a nonexclusive, Non-assignable license limited to use for the WDM Product Business based on commercially reasonable terms including lump sum and royalty terms. The Company shall have a period of thirty (30) days from the date of such offer to accept such license. Neither party is otherwise obligated to license or otherwise share such intellectual property with the Company or the other party. 13.2 Notwithstanding the voting provision contained in Section 10.1, where either OCLI or JDS makes an acquisition in which it has majority ownership (the "Acquiring Party") and the acquisition's existing business includes WDM Products Business, the Acquiring Party shall offer to the joint venture, immediately after the completion of the acquisition, acting through the members of the Management Committee or the governing body of the Company who are unaffiliated with the Acquiring Party, the right to have the Acquiring Party=s share of Transaction Profits of the acquisition's WDM Products Business included in the calculation of Profit sharing between the parties pursuant to Article VI of this Agreement. If the joint venture so elects within thirty (30) days from the date of such offer to so participate, as consideration for the right to so share in such Transaction Profits, the Acquiring Party shall be compensated by the non-acquiring party (the "Other Party"), in cash or other consideration acceptable to the Acquiring Party, an amount that shall be equal to the portion of the acquisition costs, including expenses (including costs associated with determining the portion of the acquired company's business allocable to the WDM Products Business), that is attributed to the WDM Business of the acquired company (reflecting the fact that the non-acquiring party will be acquiring a Profit interest without any equity ownership, and taking into account the remaining term of the Agreement under Section 9.2, and subject to additional payments by the Other Party at the beginning of each renewal term of the Agreement) times one-third where OCLI is the Other Party and two-thirds where JDS is the Other Party. Alternatively, the Acquiring Party may at its sole option agree with the Other Party to adjust the Profit sharing pursuant to Article VI to replace a portion or all of the said cash amount. If the joint venture does not so elect within the specified time period, the acquired 19 company's business shall be completely outside the scope of this Agreement and not be included in the calculation of Profit. For greater certainty, where the Acquiring Party is OCLI, the Other Party is JDS and vice-versa. ARTICLE XIV CONFIDENTIAL INFORMATION 14.1 "Confidential Information" shall mean any business, marketing, technical, scientific, financial or other information, specifications, designs, plans, drawings, software, prototypes or process techniques, of a party, which at the time of disclosure, is designated as confidential (or like designation), is disclosed in circumstances of confidence, or would be understood by the parties, exercising reasonable business judgement, to be confidential, but excludes any information which: (a) is independently developed by or for the receiving party without reference to or use of Confidential Information; (b) is lawfully received free of restriction from another source having the right to so furnish such confidential information; (c) is or becomes lawfully in the public domain other than through a breach of this Agreement; (d) was known by the receiving party prior to disclosure, as evidenced by its business records; (e) disclosing party agrees in writing is free of such restrictions; (f) is disclosed by the disclosing party to a third party without a duty of confidentiality on such third party; or (g) is required or compelled by law to be disclosed, provided that the receiving party give all reasonable prior notice to the disclosing party to allow it to seek protective or other court orders. 14.2 Except as otherwise allowed under this Agreement, Receiving party shall keep Confidential Information of the 20 disclosing party in confidence; disclose it only to individuals in the receiving party with a need to know and who are under confidentiality restrictions; and use or reproduce it only to the extent necessary for the activities contemplated hereunder. Each party shall protect Confidential Information of disclosing party with at least the same degree of care as it normally exercises to protect its own Confidential Information of a similar nature, but no less than a reasonable degree of care. 14.3 Receiving party agrees that any violation or threat of violation of this section will result in irreparable harm to disclosing party for which damages would be an inadequate remedy and, therefore, in addition to its rights and remedies otherwise available at law, including without limitation the recovery of damages and expenses, including attorney=s fees for breach of this Agreement, disclosing party shall be entitled to unilaterally seek equitable relief, including both temporary and permanent injunctions, to prevent any unauthorized use or disclosure, and to such other and further equitable relief as the court may deem proper under the circumstances. 14.4 Notwithstanding anything contained herein to the contrary, upon termination of the Agreement pursuant only to Subsection 9.2, each party covenants and agrees that it will not bring, commence or institute, or aid or abet any suit, action at law, proceeding in equity, arbitration or other proceeding or action based on, or related to, any claim or right under Article XIV, Confidential Information, to the extent such claim or right is based upon (i) in the case of claims or rights asserted by JDS against OCLI, the use by OCLI of WDM Product Packaging Technology in the field of use related to WDM Products A, B or C containing one or more WDM Optical Filter A, B or C elements performing a necessary wavelength discrimination function or (ii) in the case of claims or rights asserted by OCLI against JDS, the use by JDS of WDM Optical Filter Technology in the field of use related to WDM Optical Filters A, B or C. For the purpose of this Section 14.4, (A) "WDM Product Packaging Technology" shall mean all intellectual property rights relating to the design, manufacture, assembly, testing and marketing of WDM Products A, B or C which contain WDM Optical Filters A, B or C as at least one wavelength discrimination element, including, but not limited to, patents, trademarks and tradenames (but limited to trademarks and tradenames which 21 were specifically created to be used pursuant to this Agreement and excluding any trademarks and tradenames which contain as an element a any trademark or tradename of either party), proprietary technical know-how and business information, owned by JDS but limited to that used in the WDM Product A, B or C Business, and (B) "WDM Optical Filters Technology" shall mean all intellectual property rights relating to the design, manufacture and testing of WDM Optical Filters A, B or C used as wavelength discrimination elements in WDM Products A, B or C, including, but not limited to, patents, trademarks and tradenames (but limited to trademarks and tradenames which were specifically created to be used pursuant to this Agreement and excluding any trademarks and tradenames which contain as an element a any trademark or tradename of either party), proprietary technical know-how and business information, owned by OCLI but limited to that used in the WDM Products A, B or C Business. In no event shall either party be under any obligation whatsoever to provide any technical information or services to the other party related to the use of WDM Optical Filters Technology or WDM Products Packaging Technology. In no event shall this Section 14.4 provide a right to either party to disclose or grant any right in WDM Optical Filter Technology or WDM Product Packaging Technology to any third party. In addition to the forgoing, where WDM Optical Filters D or WDM Optical Products D have been licensed pursuant to Section 3.6, then, only in the case where termination was made pursuant to Section 9.1, such licenses shall continue on nonexclusive, Non-assignable, commercially reasonable terms that would be applicable if licensed in an arm's length transaction at the date of such termination. ARTICLE XV MISCELLANEOUS 15.1 Outside the scope of this agreement, OCLI agrees to use its best efforts, subject to available capacity and prior commitments, to supply optical filters for use in telecommunication optical fiber products to JDS as requested on normal Best Customer commercial terms. For the purposes 22 of this Section "Best Customer" shall mean that the prices charged and delivery times for products purchased from OCLI by JDS are, and will at all times be, no greater than the lowest prices charged by OCLI to any third party for substantially the same quantity of all such optical filters, on the same or similar delivery times as those provided to any third party for such optical filters. 15.2 Order Backlog. All orders from WDM Products D received on or after April 15, 1999 shall be included in the calculation of Profits under Article VI. All orders in JDS's backlog for WDM Products D as of April 14, 1999 and shipped on or after October 15, 1999 shall be included in the calculation of Profits. 15.3 Constraints on Employee Transfers. For a period of two years following the termination of employment of an employee of either party, the other party shall be prohibited from employing such employee without prior written consent of the other party; provided, however, that this restriction shall terminate two years after the termination of this Agreement. 15.4 Governing Law. This Agreement shall be construed in accordance with and governed by the laws of the State of Delaware without regard to the conflict of law principles or without regard to the United Nations Convention on the Contracts for the International Sale of Goods. 15.5 Disputes. Except for breach of Article XIV Confidential Information, and subject to Sections 7.6 and 10.1, except where the parties fail to take any required actions to resolve their differences or there is no resolution under Section 10.1, if a dispute, breach or failure to agree shall occur between the parties concerning this Agreement, both parties may require the other party promptly to submit the reasons for its position, in writing to the requesting party, and then to enter into good faith negotiations, including the involvement, if appropriate, of senior management of each of the Parties to attempt to resolve the disagreement. If such dispute, breach or failure to agree cannot be settled by good faith negotiation between the parties within 30 days, the matter shall be finally settled by mandatory, binding arbitration, in accordance with the rules and procedures of the American Arbitration Association applicable to commercial 23 transactions then in force, provided that arbitration proceedings may not be instituted until sixty (60) days after delivery of any such notice of arbitration and where the other party has not remedied the matter within said time period. The arbitration panel shall consist of three (3) arbitrators one of which shall be appointed by each party and the third selected by the two so appointed. Costs of arbitration shall be borne by the parties in accordance with the decision of the arbitrators. Judgment upon the award rendered may be entered in any court having competent jurisdiction thereof, or application may be made to such court for a judicial acceptance of the award and an order of enforcement as the case may be. The arbitration proceedings shall be conducted at a reasonable location selected by the parties or by the arbitrators. The factors set forth in Section 7.2(e)(i) shall not in any manner be disclosed to the arbitrators. Notwithstanding the foregoing, the parties may apply to any court of competent jurisdiction to compel arbitration in accordance with this paragraph, without breach of this arbitration provision. 15.6 Attorneys' Fees. In case suit is brought or arbitration proceedings commenced by either party because of the breach of any term, covenant or condition contained in this Agreement, the prevailing party shall be entitled to recover against the other party the full amount of its costs, including expert witness fees and reasonable attorneys' fees. If neither party prevails entirely, such fees and expenses shall be prorated based upon the relative success of each party to the relief being sought. 15.7 Notices. All notices, offers, acceptances, approvals and other communications under this Agreement shall be in writing and shall be given to such party, addressed to it, at its address or telecopy number set forth below or such other address or telecopy number as such party may in the future specify for such purpose by notice to the other party. Each such notice, information, request or communication shall be effective upon actual receipt by the party at the address specified below: 24 If to OCLI: Optical Coating Laboratory, Inc. 2789 Northpoint Parkway Santa Rosa, California 95407-7397 Telephone: 707-525-7030 Telecopier: 707-525-6840 Attention: General Counsel (Joseph C. Zils, Esq.) With a copy to (which is not required to constitute notice to OCLI): Collette & Erickson 555 California Street, Suite 4350 San Francisco, California 94104 Telephone: 415-788-4646 Telecopier: 415-788-6929 Attention: John V. Erickson, Esq. If to JDS or Distributor: JDS FITEL, Inc. 570 West Hunt Club Road Nepean, ON K2G 5W8 Canada Telephone: 613-727-1303 Telecopier: 613-727-1852 Attention: President (Jozef Straus, Ph.D.) With a copy to (which is not required to constitute notice to JDS): JDS FITEL, Inc. 570 West Hunt Club Road Nepean, ON K2G 5W8 Canada Telephone: 613-727-1303 Telecopier: 613-727-8889 Attention: General Counsel (Gordon Buchan, Esq.) Any party may from time to time specify as its address or telecopy number for purposes of this Agreement any other address or telecopy number upon the given of 10 days notice thereof to the other party. 15.8 Public Announcements. The parties shall not issue a press release or other publicly available document containing any 25 information regarding the other party or the operating or financial results of the joint venture or the Company without the prior written approval of the other party unless such information has previously been lawfully and publicly disclosed in writing or is lawfully and publicly available in writing. Furthermore, such press releases are to be limited to what is publicly available. At least 24 hours prior to the issuance of such information, the issuing party shall provide the other party with notice of its intention to disclose such information as well as the draft wording of the information to be released. Where a party refuses to approve the wording of the information to be released, the party shall provide the reasons for such refusal and both parties agree to use their best efforts to negotiate the appropriate wording of the information to be released. However, nothing contained herein shall prevent a party from disclosing any information that is required to be disclosed pursuant to Securities Law and the rules or regulations promulgated thereunder. Accordingly, each party therefore consents to the filing by the other party with the SEC of a complete version of this Agreement. Where a party issues a press release containing any information regarding the other party, this Agreement, the transactions contemplated herein or the operating or financial results of the Company, a copy of such release shall be provided to the other party forthwith. 15.9 Counterparts. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original. A photocopy or facsimile copy of the signatures of the parties to this Agreement shall be considered authenticated signatures admissible into evidence where the authenticity of the signatures are placed into question. 15.10 Interpretation. The table of contents and the headings to the various subdivisions of this Agreement are for convenience of reference only and shall not define or limit any of the terms or provisions hereof. All pronouns shall be deemed to refer to the masculine, feminine, neuter, singular or plural as the identity of the Person or Persons referred to may require. The language in all parts of this Agreement will in all cases be construed as a whole and in accordance with its fair meaning and not restricted for or against either party. 15.11 Successors and Assigns. This Agreement and any rights or licenses granted herein are personal to each party and shall be binding upon and inure to the benefit of the parties hereto and their respective successors and permitted assigns, 26 provided, however, neither party shall assign any of its rights, privileges or obligations hereunder without the prior written consent of the other party provided, however, that JDS may assign this Agreement to JDS Uniphase Corporation. Should either party attempt an assignment in derogation of the foregoing, the other party shall have the right to immediately terminate this Agreement by written notice to the other party. 15.12 Waiver. The failure of either party to give notice to the other party of the breach or non-fulfillment of any term, clause, provision or condition of this Agreement shall not constitute a waiver thereof, nor shall the waiver of any breach or non-fulfillment of any term, clause, provision or condition of this Agreement constitute a waiver of any other breach or non-fulfillment of that or any other term, clause, provision or condition of this Agreement. 15.13 Purchase By Competitor. In the event any third party which is a direct competitor of the other party acquires a 20% or greater equity participation in a party hereto, without first having obtained the written consent of the other party, such other party may without any delay, by written notice, terminate this Agreement by written notice to the other party. 15.14 Entire Agreement. This Agreement sets forth the entire agreement and understanding between the parties with respect to the subject matter hereof and supersedes and cancels all previous negotiations, agreements, commitments, and writings in respect to the subject matter hereof, and neither party shall be bound by any term, clause, provision or condition save as expressly provided in this Agreement or as duly set forth on or subsequent to the date of execution hereof in writing, signed by duly authorized officers of the parties. 15.15 Agency. Subject to Article VII, each party acknowledges that it does not intend to create or imply a legal partnership with the other parties by virtue of this Agreement and the parties agree that nothing in this Agreement shall be construed as establishing or implying any legal partnership between the parties hereto, and nothing in this Agreement shall be deemed to constitute either of the parties hereto as the Agent of the other party or authorize either party to incur any expenses on behalf of the other party or to commit the other party in any way whatsoever, without obtaining the other party's prior written consent. The parties further agree that when any party hereto deals with a third party as a result of this 27 Agreement that such third party will be notified that every party hereto is acting on its own behalf. 15.16 Survival. The provisions of Sections 9.3, 14, 15.3, 15.4, 15.5, 15.6, 15.7, 15.10, 15.11, 15.12, 15.16, 15.17 and 15.18, and for Exhibit B, Article V and Article IX, shall survive termination of this Agreement. The provisions of Section 6.5 shall survive for a period of 18 months following termination of this Agreement. Notwithstanding any term to the contrary: (a) where at the date of termination of this Agreement, (i) the Profit is negative or (ii) Costs exist but there is no Profit; or (b) where after the date of termination of this Agreement (i) if any obligations, including but not limited to customs and duties, arise with respect to any Cost that would have been included in Costs if the obligation was identified during the period that the Agreement was in effect, (ii) if any liability arose during the period that the Agreement was in effect, including but not limited to any liability under Section 15.18 or Exhibit B Article V, but which was not identitifed or determined until after the date of termination of this Agreement, or (iii) bona fides bad debts arise for which revenues have been used in the calculation of Profits; then in all cases the parties agree to share the Costs such that OCLI shall be responsible for paying one-third and JDS and Distributor combined shall be responsible for paying two-thirds of all such Costs, regardless of which party actually paid such Costs. The parties shall promptly make payment to the other party as appropriate to ensure that each party has fulfilled its obligation under this Section 15.19 with regard to such Costs. 15.17 Further Assurances and Approvals. The parties agree to make, do, execute, endorse, acknowledge and deliver or cause and procure to be made, done, executed, endorsed, acknowledged, filed, registered and delivered any and all further acts and assurances including any conveyance, deed, transfer, assignment, share certificate or other instrument in writing as may be necessary to give effect to the terms and conditions provided for and contemplated by this Agreement. The parties further agree that where any term, warranty, representation, option or condition provided for or contemplated by this Agreement requires prior regulatory or shareholder approval to give effect to such term, warranty, representation, option or condition, the parties shall not enforce such term, warranty, representation, option or condition unless and until such approval is obtained. 28 15.18 Intellectual Property Indemnity Liability. Where any threaten or actual proceeding or claim against any party alleging that any WDM Product or WDM Optical Filter furnished hereunder during the term of this Agreement infringes any third party intellectual property rights, including without limitation any patents, trademarks and copyright, the parties agree to jointly (i) defend or settle any such matter, (ii) equally share any costs, including without limitation all legal or expert fees and disbursements which were incurred as a result of such defense or settlement, and (iii) equally share in the payment of all damages and costs assessed by final judgment against any party and attributable to such matter. 15.19 Approvals. The signatures provided below shall not be deemed effective unless and until all required or counseled government or regulatory filings are made and all approvals or consents are obtained. 15.20 Representations and Warranties. Each party represents and warrants that: (a) it has full right and title to all of the Confidential Information it discloses to the other party under this Agreement; (b) to the best of its knowledge, there are no material liens, encumbrances of any kind against its intellectual property which relates to the WDM Product Business and that it is not subject to any outstanding agreements, assignments or encumbrances that are inconsistent with the provisions of this Agreement; (c) to the best of its knowledge, there are no material actual or threatened suits, actions at law, proceedings in equity, arbitrations or other proceedings or actions against the party; and (d) the execution, delivery and performanace of this Agreement by each party are within each party=s corporate powers. 15.21 Force Majuere. Neither party be responsible or liable for any delay or failure to deliver goods or perform services under this Agreement due to any unforeseen circumstances or causes beyond that party's control, including but not limited to, acts of God, fire, flood, explosion, earthquake, war, insurrection, embargo, acts of civil or military authorities, delay in delivery by suppliers, accident, strike or other labour 29 dispute, inability to secure labour, material, facilities, energy or transportation. In the event of a force majeure condition, the time for delivery or other performance will be extended for a period of time equal to the duration of such force majeure condition. IN WITNESS WHEREOF, the parties have executed this Agreement to be effective as of the date first above written. OPTICAL COATING LABORATORY, INC. By ------------------------------ Name ---------------------------- Its ----------------------------- JDS FITEL Inc. By ------------------------------ Name ---------------------------- Its ----------------------------- 30 EX-15 5 EXHIBIT 15 EXHIBIT 15 LETTER REGARDING UNAUDITED INTERIM FINANCIAL INFORMATION Board of Directors and Stockholders of Optical Coating Laboratory, Inc. Santa Rosa, California We have made a review, in accordance with standards established by the American Institute of Certified Public Accountants, of the unaudited interim financial information of Optical Coating Laboratory, Inc. and subsidiaries for the period ended January 31, 1999, as indicated in our report dated February 18, 1999; because we did not perform an audit, we expressed no opinion on that information. We are aware that our report referred to above, which was included in your Quarterly Report on Form 10-Q for the quarter ended January 31, 1999, is being incorporated by reference in the Prospectus which is a part of this Registration Statement on Form S-3. We also are aware that the aforementioned report, pursuant to Rule 436(c) under the Securities Act of 1933, is not considered a part of the Registration Statement prepared or certified by an accountant or a report prepared or certified by an accountant within the meaning of Sections 7 and 11 of that Act. /s/ DELOITTE & TOUCHE LLP San Jose, California April 22, 1999 EX-23.1 6 EXHIBIT 23.1 EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in this Registration Statement of Optical Coating Laboratory, Inc. on Form S-3 of our reports dated December 22, 1998 (January 8, 1999 as to Note 5), included and incorporated by reference in the Annual Report on Form 10-K of Optical Coating Laboratory, Inc. for the year ended October 31, 1998, and to the use of our report dated December 22, 1998 (January 8, 1999 as to paragraph 8 of Note 6 and February 22, 1999 as to Note 15), appearing in the Prospectus, which is part of this Registration Statement. We also consent to the reference to us under the heading "Experts" in such Prospectus. /s/ DELOITTE & TOUCHE LLP San Jose, California April 22, 1999 EX-23.2 7 EXHIBIT 23.2 EXHIBIT 23.2 To the Board of Directors and Stockholders Optical Coating Laboratory, Inc.: We consent to the incorporation by reference in the Registration Statement on Form S-3 of Optical Coating Laboratory, Inc. of our report dated November 26, 1997, relating to the balance sheets of Flex Products, Inc. as of November 2, 1997, and November 3, 1996, and the related statements of operations, stockholders' equity and cash flows for the years then ended, which report appears in the October 31, 1998, annual report on Form 10-K of Optical Coating Laboratory, Inc., and to the use of such report appearing herein. We also consent to the reference to us under the heading "Experts" in such Registration Statement. /s/ KPMG LLP San Francisco, California April 22, 1999 -----END PRIVACY-ENHANCED MESSAGE-----