10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

            For the quarterly period ended September 30, 2003

OR

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

            For the transition period from                      to                     

Commission File No. 0-24784

PINNACLE SYSTEMS, INC.

(Exact name of registrant as specified in its charter)

California (State or other jurisdiction of incorporation or organization)	94-3003809 (I.R.S. Employer Identification No.)
280 N. Bernardo Ave. Mountain View, CA (Address of principal executive offices)	94043 (Zip Code)

(650) 526-1600

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x  No  ¨

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).  Yes  x  No  ¨

The number of shares of the registrant’s common stock outstanding as of November 4, 2003 was approximately 66,361,405.

INDEX

PART I—FINANCIAL INFORMATION	Page
ITEM 1—Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets—September 30, 2003 and June 30, 2003	3
Condensed Consolidated Statements of Operations—Three Months Ended September 30, 2003 and 2002	4
Condensed Consolidated Statements of Cash Flows—Three Months Ended September 30, 2003 and 2002	5
Notes to Condensed Consolidated Financial Statements	6
ITEM 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
ITEM 3—Quantitative and Qualitative Disclosures About Market Risk	39
ITEM 4—Controls and Procedures	40
PART II—OTHER INFORMATION
ITEM 1—Legal Proceedings	41
ITEM 6—Exhibits and Reports on Form 8-K	42
Signatures	43
Exhibit Index	44

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PART 1—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

PINNACLE SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands; unaudited)

	September 30, 2003			June 30, 2003
ASSETS
Current assets:
Cash and cash equivalents	$	62,186		$	62,617
Marketable securities		17,720			18,804
Accounts receivable, less allowances for doubtful accounts and returns of $4,751 and $7,146 as of September 30, 2003, and $5,204 and $6,602 as of June 30, 2003, respectively		50,996			55,958
Inventories		43,481			37,280
Prepaid expenses and other current assets		7,146			9,197
Total current assets		181,529			183,856
Restricted cash		16,850			16,890
Property and equipment, net		15,262			14,846
Goodwill		75,668			60,632
Other intangible assets, net		36,147			29,341
Other assets		5,630			5,311
	$	331,086		$	310,876
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	17,688		$	17,146
Accrued and other liabilities		52,175			49,489
Deferred revenue		13,906			10,100
Total current liabilities		83,769			76,735
Deferred income taxes		8,320			7,826
Long-term liabilities		803			158
Total liabilities		92,892			84,719
Shareholders’ equity:
Preferred stock, no par value; authorized 5,000 shares; none issued and outstanding		—			—
Common stock, no par value; authorized 120,000 shares; 65,685 and 63,388 issued and outstanding as of September 30, 2003 and June 30, 2003, respectively		360,771			337,593
Accumulated deficit		(128,274	)		(115,294	)
Accumulated other comprehensive income		5,697			3,858
Total shareholders’ equity		238,194			226,157
	$	331,086		$	310,876

See accompanying notes to unaudited condensed consolidated financial statements.

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PINNACLE SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data; unaudited)

	Three Months Ended September 30,
	2003			2002
Net sales	$	70,927		$	68,574
Costs and expenses:
Cost of sales		37,023			30,981
Engineering and product development		10,550			8,263
Sales, marketing and service		25,265			19,668
General and administrative		5,979			4,810
Amortization of other intangible assets		2,820			3,371
In-process research and development		2,193			—
Total costs and expenses		83,830			67,093
Operating income (loss)		(12,903	)		1,481
Interest and other income, net		326			390
Income (loss) before income taxes and cumulative effect of change in accounting principle		(12,577	)		1,871
Income tax expense		403			450
Income (loss) before cumulative effect of change in accounting principle		(12,980	)		1,421
Cumulative effect of change in accounting principle		—			(19,291	)
Net loss	$	(12,980	)	$	(17,870	)
Net income (loss) per share before cumulative effect of change in accounting principle:
Basic and diluted	$	(0.20	)	$	0.02
Cumulative effect per share of change in accounting principle:
Basic	$	—		$	(0.32	)
Diluted	$	—		$	(0.31	)
Net loss per share:
Basic	$	(0.20	)	$	(0.30	)
Diluted	$	(0.20	)	$	(0.29	)
Shares used to compute net loss per share:
Basic		65,086			59,128
Diluted		65,086			62,018

See accompanying notes to unaudited condensed consolidated financial statements.

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PINNACLE SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands; unaudited)

	Three Months Ended September 30,
	2003			2002
Cash flows from operating activities:
Net loss	$	(12,980	)	$	(17,870	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization		5,007			5,036
Provision for doubtful accounts		121			386
Deferred taxes		(696	)		—
Cumulative effect of change in accounting principle		—			19,291
In-process research and development		2,193			—
Loss on disposal of property and equipment		177			—
Changes in operating assets and liabilities:
Accounts receivable		6,429			(873	)
Inventories		(1,556	)		(2,648	)
Prepaid expenses and other assets		3,254			16
Accounts payable		(1,187	)		3,367
Accrued and other liabilities		(1,787	)		1,938
Deferred revenue		3,639			3,502
Long-term liabilities		(133	)		—
Net cash provided by operating activities		2,481			12,145
Cash flows from investing activities:
Purchases of property and equipment		(2,638	)		(1,019	)
Acquisitions, net of cash acquired		(3,525	)		—
Proceeds from maturity of marketable securities, net		1,084			—
Net cash used in investing activities		(5,079	)		(1,019	)
Cash flows from financing activities:
Proceeds from issuance of common stock		2,244			585
Net cash provided by financing activities		2,244			585
Effects of exchange rate changes on cash and cash equivalents		(77	)		(171	)
Net increase (decrease) in cash and cash equivalents		(431	)		11,540
Cash and cash equivalents at beginning of period		62,617			80,575
Cash and cash equivalents at end of period	$	62,186		$	92,115
Supplemental disclosures of cash paid during the period for:
Income taxes	$	3,528		$	559
Non-cash transactions:
Common stock issued for acquisitions	$	20,934		$	—

See accompanying notes to unaudited condensed consolidated financial statements.

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PINNACLE SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include the accounts of Pinnacle Systems, Inc. and its wholly owned subsidiaries (“Pinnacle” or the “Company”). Intercompany transactions and related balances have been eliminated in consolidation. These financial statements have been prepared in conformity with generally accepted accounting principles for interim financial information and in accordance with the instructions of Form 10-Q and Rule 10 of Regulation S-X. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reported periods. The most significant estimates included in these financial statements include revenue recognition, allowances for doubtful accounts and sales returns, inventory valuation, the valuation of goodwill and intangibles, and the deferred tax asset valuation allowance. Actual results could differ from those estimates. These condensed consolidated financial statements reflect all adjustments that, in the opinion of management, are necessary for a fair statement of the consolidated financial position, results of operations and cash flows as of and for the interim periods. Such adjustments consist of items of a normal recurring nature. Certain information or footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”).

The condensed consolidated financial statements included herein should be read in conjunction with the financial statements and notes thereto, which include information as to significant accounting policies, for the fiscal year ended June 30, 2003 included in the Company’s Annual Report on Form 10-K as filed with the SEC on September 18, 2003. Results of operations for interim periods are not necessarily indicative of results for a full fiscal year.

Reclassifications

Certain prior period balances have been reclassified to conform to the current period’s presentation.

Revenue Recognition

Revenue from product sales is recognized upon shipment, net of estimated returns, provided title and risk of loss has passed to the customer, there is evidence of an arrangement, fees are fixed or determinable and collectibility is reasonably assured. Installation and training revenue is deferred and recognized as these services are performed. Certain products include technical support and maintenance services for a period of one year. For shrink-wrapped products with telephone support and bug fixes bundled in as part of the original sale, revenue is recognized at the time of product shipment and the costs to provide telephone support and bug fixes are accrued, as these costs are deemed insignificant. Shipping and handling costs associated with amounts billed to customers are included in revenue.

Revenue from certain channel partners is subject to arrangements allowing limited rights of return, stock rotation, rebates and price protection. Accordingly, the Company reduces revenue recognized for estimated future returns, estimated funds for marketing development activities, price protection and rebates, at the time the related revenue is recorded. In order to estimate future product returns and reserves for rebates and price protection, the Company analyzes historical returns and credits, current economic trends, changes in customer demand, inventory levels in the distribution channel and general marketplace acceptance of the Company’s products. To the extent that the Company has contracts for sales to channel partners who have unlimited return rights, revenue is recognized when the product is sold through to a customer.

The Company records original equipment manufacturer (“OEM”) licensing revenue, primarily royalties, when OEM partners ship products incorporating Pinnacle software, provided collection of such revenue is deemed probable.

The Company’s systems sales frequently involve multiple element arrangements in which a customer purchases a combination of hardware product, post-contract customer support (“PCS”), and/or professional services. For multiple element arrangements, revenue is allocated to each element of the arrangement based on the relative fair values of each of the elements. When evidence of fair value exists for each of the undelivered elements but not for the delivered elements, the

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Company uses the residual method to recognize revenue for the delivered elements. Under this method, the fair value of the undelivered elements is deferred until delivered and the remaining portion of the revenue is recognized. If evidence of the fair value of one or more of the undelivered elements does not exist, then revenue is only recognized when delivery of those elements has occurred or fair value has been established. Fair value is based on the prices charged when the same element is sold separately to customers.

Deferred revenue includes customer advances, PCS (maintenance) revenue, and invoiced fees from arrangements where revenue recognition criteria are not yet met.

The Company recognizes revenue from sales of software in accordance with AICPA Statement of Position (SOP) 97-2, “Software Revenue Recognition,” as modified by SOP 98-9. Revenue from non-software sales is recognized in accordance with the SEC Staff Accounting Bulletin (SAB) 101, “Revenue Recognition In Financial Statements.” For systems sales that require significant customization and modification during installation to meet customer specifications, the Company applies the provisions of SOP 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.”

Stock-Based Compensation

The Company accounts for its employee stock-based compensation plans using the intrinsic value method in accordance with APB Opinion No. 25, “Accounting for Stock Issued to Employees.” The following table illustrates the effect on net loss and net loss per share as if the Company had applied the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation,” and SFAS No. 148, “Accounting for Stock-Based Compensation Transition and Disclosure,” to stock-based employee compensation.

The pro forma effects of stock-based compensation on net loss and net loss per common share have been estimated at the date of grant using the Black-Scholes option-pricing model. For purposes of pro forma disclosures, the estimated fair value of the options is assumed to be amortized to compensation expense over the options’ vesting periods. The pro forma effects of recognizing compensation expense under the fair value method on net loss and net loss per common share were as follows:

	Three Months Ended September 30,
	2003			2002
	(In thousands, except per share data)
Net loss:
As reported	$	(12,980	)	$	(17,870	)
Add: stock-based employee compensation expense included in reported net income, net of tax		—			—
Deduct: stock-based employee compensation expense determined under the fair value method, net of tax		(4,719	)		(4,812	)
Pro forma	$	(17,699	)	$	(22,682	)
Net loss per share:
Basic—As reported	$	(0.20	)	$	(0.30	)
Diluted—As reported	$	(0.20	)	$	(0.29	)
Basic—Pro forma	$	(0.27	)	$	(0.38	)
Diluted—Pro forma	$	(0.27	)	$	(0.37	)
Shares used to compute net loss per share:
Basic		65,086			59,128
Diluted		65,086			62,018

The fair value of stock options granted using the Black-Scholes option-pricing model was estimated using the following assumptions for the three months ended September 30, 2003: volatility of 141%, no expected dividends, an average risk-free interest rate of 2.90% and an average expected option term of 3.2 years. The fair value of stock options granted using the Black-Scholes option-pricing model were estimated using the following assumptions for the three months ended September 30, 2002: volatility of 86%, no expected dividends, an average risk-free interest rate of 3.19% and an average expected option term of 3.4 years. The weighted average fair value of options granted for the three months ended September 30, 2003 and 2002 was $5.43 and $5.83, respectively.

The fair value of employees’ stock purchase rights under the 1994 employee stock purchase plan using the Black-Scholes option-pricing model was estimated using the following assumptions for the three months ended September 30, 2003: volatility of 141%, no expected dividends, an average risk-free interest rate of 1.45% and an average expected option term of 0.5 years. The fair value of employees’ stock purchase rights under the employee purchase plan using the Black-Scholes option-pricing model was estimated using the following assumptions for the three months ended September 30, 2002: volatility of 86%, no expected dividends, an average risk-free interest rate of 2.0% and an average expected option term of 0.5 years.

Recent Accounting Pronouncements

In November 2002, the EITF reached a consensus on Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables.” EITF Issue No. 00-21 provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF Issue No. 00-21 apply to

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revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF 00-21 had no impact on the Company’s consolidated financial position, results of operations or cash flows.

In April 2003, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies the accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” SFAS No. 149 is generally effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. The adoption of SFAS No. 149 did not have a material impact on the Company’s consolidated financial position, results of operations or cash flows.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 requires that certain financial instruments, which under previous guidance were accounted for as equity, must now be accounted for as liabilities. The financial instruments affected include mandatory redeemable stock, certain financial instruments that require or may require the issuer to buy back some of its shares in exchange for cash or other assets and certain obligations that can be settled with shares of stock. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 did not have a material impact on the Company’s consolidated financial position, results of operations or cash flows.

2. Net Loss Per Share

Basic net loss per share is computed using the weighted-average number of common shares outstanding. Diluted net loss per share is computed using the weighted-average number of common shares outstanding and potential dilutive common shares from the assumed exercise of options outstanding during the period, if any, using the treasury stock method.

The following table sets forth the computation of basic and diluted net loss per common share:

	Three Months Ended September 30,
	2003			2002
	(In thousands, except per share data)
Numerator:
Net loss	$	(12,980	)	$	(17,870	)
Denominator:
Denominator for basic net loss per share—weighted-average shares outstanding		65,086			59,128
Employee stock options		—			2,890
Denominator for diluted net loss per share		65,086			62,018
Net loss per share:
Basic	$	(0.20	)	$	(0.30	)
Diluted	$	(0.20	)	$	(0.29	)

The following table sets forth the common shares that were excluded from the diluted loss per share computations because either the exercise price of the securities exceeded the average fair value of the Company’s common stock or the Company had net losses before cumulative effect of change in accounting principle, and therefore, these securities were anti-dilutive:

	Three Months Ended September 30,
	2003	2002
Potentially dilutive securities:
Employee stock options	9,107,933	5,722,794

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The Company was previously contingently liable to issue up to 399,363 shares of its common stock in connection with the acquisition of the Montage Group, Ltd. in April 2000, and the subsequent related buyout decision in April 2001 of the earnout payments under that acquisition agreement. However, as a result of a settlement agreement between the Company and a former Shareholder of DES and Montage, the Company is now liable to issue 24,960 shares and is contingently liable to issue up to 324,482 shares of its common stock. The Company’s obligation to issue these shares is contingent upon the final legal damages and costs assessed against the Company in the Athle-Tech litigation and the outcome of the Company’s claim for indemnification against certain of the former shareholders of Montage for the Athle-Tech damages and costs (see Note 9). If and when such shares are issued, they would increase the number of basic and diluted weighted-average shares outstanding.

3. Comprehensive Loss

The Company’s comprehensive loss includes net loss, unrealized loss on available-for-sale securities, and foreign currency translation adjustments, which are reflected as a component of shareholders’ equity. The components of comprehensive loss, net of tax, were as follows:

	Three Months Ended September 30,
	2003			2002
	(In thousands)
Net loss	$	(12,980	)	$	(17,870	)
Unrealized loss on available-for-sale investments		(39	)		—
Foreign currency translation adjustment		1,878			(249	)
Comprehensive loss	$	(11,141	)	$	(18,119	)

4. Inventories

As of September 30, 2003 and June 30, 2003, inventories were comprised of the following:

	As of September 30, 2003		As of June 30, 2003
	(In thousands)
Raw materials	$	9,166	$	9,594
Work in process		14,367		12,599
Finished goods		19,948		15,087
Total inventories	$	43,481	$	37,280

5. Acquisitions

(a) SCM Microsystems, Inc. and Dazzle Multimedia, Inc.

In July 2003, the Company acquired certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc., a company that specializes in digital media and video solutions. The Company integrated Dazzle’s digital video business into its existing home video editing business in the Business and Consumer division during the three months ended September 30, 2003.

The purchase price was approximately $22.5 million, of which approximately $2.0 million was subsequently paid in cash on November 7, 2003 and approximately $20.1 million represents the value of the 1,866,851 shares of the Company’s

9

common stock that were issued. The value of the common stock issued was determined based on the average market price of the Company’s common stock over a period of two days prior to and two days after the date the terms were agreed to and announced. The amount of shares issued was calculated based on the average closing price of the shares on NASDAQ for thirty consecutive days ending on the date three business days prior to the July 25, 2003 closing date. The $2.0 million cash payment related to purchase price adjustments for inventory and backlog. The Company also incurred approximately $0.4 million in transaction costs. The synergies that the Company plans to generate by using this technology in other products was the justification for a purchase price of approximately $11.0 million higher than the fair value of the identifiable acquired assets. The Company recorded this $11.0 million amount as goodwill at the acquisition date.

According to the terms of the Asset Purchase Agreement, in the event that the proceeds from the sale of shares of the Company’s common stock by SCM Microsystems exceed $21,550,000, SCM Microsystems would be required to pay the Company an amount equal to any proceeds in excess of such amount. However, in the event that the proceeds from the sale of shares of the Company’s common stock by SCM Microsystems amount to less than $21,550,000, the Company agreed to pay SCM Microsystems the difference between $21,550,000 and the proceeds received by SCM Microsystems in cash. Given the decline in the market price of the Company’s common stock since July 25, 2003, the closing date of the acquisition, the Company will most likely be obligated to make such a payment during the three months ending December 31, 2003. If the Company makes this additional payment, it will be accounted for as a decrease in common stock.

The following table summarizes the estimated fair value of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Current assets	$	2,700
Identifiable intangible assets		7,466
In-process research and development		2,193
Goodwill		10,993
Total assets acquired		23,352
Current liabilities assumed		(823	)
Net assets acquired	$	22,529

The identifiable intangible assets include developed core technology of $5.6 million, trademarks and trade names of $1.7 million, and customer-related intangibles of $0.2 million, all of which are being amortized over a five-year period. The Company also acquired in-process research and development of $2.2 million, which was subsequently expensed during the three months ended September 30, 2003. The $11.0 million of goodwill was assigned to the Business and Consumer division and has not been amortized, in accordance with the requirements of SFAS No. 142.

(b) Jungle KK

In July 2003, the Company acquired a 95% interest in Jungle KK, a privately held distribution company based in Tokyo, Japan that specializes in marketing and distributing retail software products in Japan. The Company plans to continue to sell Jungle’s products and to utilize Jungle’s marketing and distribution channels to sell and distribute the Company’s consumer products into the Japanese market.

The purchase price was approximately $5.0 million, of which approximately $3.6 million was paid in cash and approximately $0.8 million represents the value of the 72,122 shares of the Company’s common stock that were issued. The value of the common stock issued was determined based on the average market price of the Company’s common stock over a period of two days prior to and two days after the date the terms were agreed to and announced. The Company also incurred approximately $0.6 million in transaction costs. The synergies that the Company plans to generate by using Jungle’s marketing and distribution channels was the justification for a purchase price of approximately $3.3 million higher than the fair value of the identifiable acquired assets. The Company recorded this $3.3 million amount as goodwill at the acquisition date.

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The following table summarizes the estimated fair value of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Current assets	$	3,533
Property and equipment		65
Other long-term assets		164
Identifiable intangible assets		1,623
Goodwill		3,259
Total assets acquired		8,644
Current liabilities assumed		(2,945	)
Long-term liabilities assumed		(769	)
Net assets acquired	$	4,930

The identifiable intangible assets include trademarks and trade names of $0.8 million and customer-related intangibles of $0.8 million, and are being amortized over a five-year period. The $3.3 million of goodwill was assigned to the Business and Consumer division and has not been amortized, in accordance with the requirements of SFAS No. 142.

(c) Pro Forma Financial Information for Acquisitions (unaudited)

The following unaudited pro forma financial information presents the results of operations for the three months ended September 30, 2003 and 2002, as if the acquisition of Steinberg in January 2003 and the acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in July 2003 occurred at the beginning of fiscal 2003 and 2002. The pro forma financial information excludes charges for acquired in-process research and development. The pro forma financial information has been prepared for comparative purposes only and is not indicative of what operating results would have been if the acquisitions had taken place at the beginning of fiscal 2003 and 2002 or of future operating results.

	Three Months Ended September 30,
	2003			2002
	(In thousands, except per share data)
Net sales	$	72,454		$	78,372
Net loss	$	(12,716	)	$	(17,757	)
Net loss per share:
Basic	$	(0.20	)	$	(0.30	)
Diluted	$	(0.20	)	$	(0.29	)
Shares used to compute net loss per share:
Basic		65,086			59,128
Diluted		65,086			62,018

Pro forma results of operations related to the acquisition of a 95% interest in Jungle KK in July 2003 have not been presented, as they would not be materially different from the consolidated financial statements.

(d) In-Process Research and Development

During the three months ended September 30, 2003, the Company recorded in-process research and development costs of approximately $2.2 million, all of which related to the acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in July 2003. The value assigned to purchased in-process research and development was determined by estimating the cost to develop the purchased in-process research and development into commercially viable products, estimating the resulting net cash flows from such projects, and discounting the net cash flows back to the time of acquisition using a risk-adjusted discount rate.

6. Goodwill and Other Intangible Assets

In July 2001, the FASB issued SFAS No. 142, which the Company adopted on July 1, 2002. As a result of the adoption of SFAS No. 142, the Company no longer amortizes goodwill and identifiable intangible assets with indefinite lives. Intangible assets with definite lives continue to be amortized.

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The Company performed the annual goodwill impairment analysis required by SFAS No. 142 as of July 1, 2003 and concluded that goodwill was not impaired. As of June 30, 2003, the Company had approximately $60.6 million of goodwill and $29.3 million of other intangible assets. As of September 30, 2003, the Company had approximately $75.7 million of goodwill and $36.1 million of other intangible assets.

The Company performed the transitional goodwill impairment analysis required by SFAS No. 142 as of July 1, 2002 and concluded that goodwill was impaired, as the carrying value of two of the Company’s reporting units in the Broadcast and Professional division exceeded their fair value. As a result, the Company recorded a charge of $19.3 million during the three months ended September 30, 2002 to reduce the carrying amount of its goodwill. This charge is a non-operating and non-cash charge. This charge is reflected as a cumulative effect of change in accounting principle in the accompanying consolidated statements of operations.

Upon adoption, the Company has evaluated the remaining useful lives of its other intangible assets to determine if any adjustments to the useful lives were necessary or if any of these assets had indefinite lives and were, therefore, not subject to amortization. The Company determined that no adjustments to the useful lives of its other intangible assets were necessary.

The goodwill impairment test consisted of the two-step process as follows:

In both Step 1 and Step 2, below, the fair value of each reporting unit was determined by estimating the present value of future cash flows for each reporting unit.

Step 1. The Company compared the fair value of its reporting units to its carrying amount, including the existing goodwill and other intangible assets. As of July 1, 2002, since the carrying amount of two of the Company’s reporting units in the Broadcast and Professional division exceeded their fair value, the comparison indicated that the reporting units’ goodwill was impaired (see Step 2 below). As of July 1, 2003, there was no indication of goodwill impairment as the fair value of the Company’s reporting units was greater than the carrying amount.

Step 2. For purposes of performing the second step, the Company used a purchase price allocation methodology to assign the fair value of the reporting unit to all of the assets, including intangibles, and liabilities of each of these reporting units, respectively. The residual fair value after the purchase price allocation is the implied fair value of the reporting unit goodwill. At the adoption date, July 1, 2002, the implied fair value of the reporting unit goodwill was less than the carrying amount of goodwill, resulting in a transitional impairment loss of $19.3 million recorded during the three months ended September 30, 2002.

In accordance with SFAS No. 142, the Company will evaluate, on an annual basis or whenever significant events or changes occur in its business, whether its goodwill has been impaired. If the Company determines that its goodwill has been impaired, it will recognize an impairment charge. The Company has chosen the first quarter of each fiscal year, which ends on September 30, as the period of the annual impairment test. In October 2003, the Company commenced a re-assessment of its business plan. As part of this process, the Company expects to reallocate its resources among the various reporting units. Once this process is complete, the Company will determine the impact to the operating cash flows of the reporting units, which may trigger an interim impairment analysis of goodwill and other intangible assets in the quarter ending December 31, 2003. Also, a goodwill impairment charge may be required if the Company receives a negative ruling from the DES earnout arbitration (see Note 9).

A summary of changes in the Company’s goodwill during the three months ended September 30, 2003 by business segment is as follows (in thousands):

Goodwill	Professional and Broadcast Division		Business and Consumer Division		Total
Net carrying amount as of June 30, 2003	$	29,482	$	31,150	$	60,632
Goodwill acquired from SCM Microsystems, Inc. and Dazzle Multimedia, Inc.		—		10,993		10,993
Goodwill acquired from Jungle KK		—		3,259		3,259
Foreign currency translation		—		784		784
Net carrying amount as of September 30, 2003	$	29,482		46,186		75,668

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The following tables set forth the carrying amount of other intangible assets that will continue to be amortized (in thousands):

	As of September 30, 2003
Other Intangible Assets	Gross Carrying Amount		Accumulated Amortization			Net Carrying Amount
Core/developed technology	$	60,713	$	(39,352	)	$	21,361
Trademarks and trade names		12,873		(8,496	)		4,377
Customer-related intangibles		19,985		(9,609	)		10,376
Other identifiable intangibles		3,857		(3,824	)		33
Total	$	97,428	$	(61,281	)	$	36,147

	As of June 30, 2003
Other Intangible Assets	Gross Carrying Amount		Accumulated Amortization			Net Carrying Amount
Core/developed technology	$	54,798	$	(37,719	)	$	17,079
Trademarks and trade names		10,219		(7,977	)		2,242
Customer-related intangibles		18,756		(8,791	)		9,965
Assembled workforce		2,750		(2,741	)		9
Other identifiable intangibles		3,857		(3,811	)		46
Total	$	90,380	$	(61,039	)	$	29,341

The total amortization expense related to goodwill and other intangible assets is set forth in the table below (in thousands):

	Three Months Ended September 30,
Amortization of Other Intangible Assets	2003		2002
Core/developed technology		1,546		2,380
Trademarks and trade names		507		252
Customer-related intangibles		746		511
Other identifiable intangibles		21		228
Total amortization	$	2,820	$	3,371

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The total estimated future annual amortization related to other intangible assets is set forth in the table below (in thousands):

	Future Amortization Expense
For the Nine-Month Period October 1, 2003 through June 30, 2004	$	7,433
For the Fiscal Years Ending June 30:
2005		9,011
2006		7,745
2007		7,323
2008		4,512
Thereafter		123
Total estimated future amortization expense for other intangible assets	$	36,147

The following table summarizes the effect on net loss that would have resulted if the provisions of SFAS No. 142 had been in effect for all periods presented:

	Three Months Ended September 30,
	2003			2002
	(In thousands, except per share data)
Net loss:
Net loss, as reported	$	(12,980	)	$	(17,870	)
Add back: cumulative effect of change in accounting principle		—			19,291
Adjusted net income (loss)	$	(12,980	)		1,421
Basic net loss per share:
Basic, as reported	$	(0.20	)	$	(0.30	)
Add back: cumulative effect of change in accounting principle		—			0.32
Adjusted basic net income (loss) per share	$	(0.20	)	$	0.02
Diluted net loss per share:
Diluted, as reported	$	(0.20	)	$	(0.29	)
Add back: cumulative effect of change in accounting principle		—			0.31
Adjusted diluted net income (loss) per share	$	(0.20	)	$	0.02
Shares used to compute net income (loss) per share:
Basic		65,086			59,128
Diluted		65,086			62,018

7. Long-Term Liabilities

In January 2003, we acquired Steinberg, a company based in Hamburg, Germany. As a result of this acquisition, we assumed long-term capital lease obligations for office equipment including copy machines and telephone systems. As of September 30, 2003, our total capital lease obligations were $0.1 million, which were long-term in nature and expire in February 2008.

In July 2003, we acquired a 95% interest in Jungle KK, a privately held distribution company based in Tokyo, Japan. As a result of this acquisition, we assumed long-term debt obligations that were comprised of long-term notes from financial institutions in Japan with interest rates ranging from 1.7% to 2.9% and payment expiration terms ranging from November 2005 through July 2008. As of September 30, 2003, the total amount outstanding for these long-term obligations was approximately $0.7 million.

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8. Segment and Geographic Information

The Company is organized into two customer-focused lines of business: (1) Broadcast and Professional, and (2) Business and Consumer. On July 1, 2002, the Company renamed the Business and Consumer division from its prior name, the Personal Web Video division, but did not change the structure or operations of this division.

The Company organizes its divisions, which equate to reportable segments, by evaluating criteria such as economic characteristics, the nature of products and services, the nature of the production process, and the type of customers. The Company currently operates its business as two reportable segments: (1) Broadcast and Professional, and (2) Business and Consumer, formerly Personal Web Video.

The Company’s chief operating decision maker evaluates the performance of these divisions based on revenues, gross profit, and operating income (loss) before income taxes, interest and other income, net, excluding the effects of nonrecurring charges including amortization of goodwill and other intangibles related to the Company’s acquisitions and the acquisition settlement. Operating results also include allocations of certain corporate expenses.

The following is a summary of the Company’s operations by operating segment for the three months ended September 30, 2003 and 2002:

	Three Months Ended September 30,
	2003			2002
	(In thousands)
Broadcast and Professional:
Net sales	$	34,283		$	35,007
Costs and expenses:
Cost of sales		14,257			14,821
Engineering and product development		5,935			5,723
Sales, marketing and service		11,642			9,845
General and administrative		3,564			2,767
Amortization of other intangible assets		444			2,856
In-process research and development		—			—
Total costs and expenses		35,842			36,012
Operating loss	$	(1,559	)	$	(1,005	)
Business and Consumer:
Net sales	$	36,644		$	33,567
Costs and expenses:
Cost of sales		22,766			16,160
Engineering and product development		4,615			2,540
Sales, marketing and service		13,623			9,823
General and administrative		2,415			2,043
Amortization of other intangible assets		2,376			515
In-process research and development		2,193			—
Total costs and expenses		47,988			31,081
Operating income (loss)	$	(11,344	)	$	2,486
Combined:
Net sales	$	70,927		$	68,574
Costs and expenses:
Cost of sales		37,023			30,981
Engineering and product development		10,550			8,263
Sales, marketing and service		25,265			19,668
General and administrative		5,979			4,810
Amortization of other intangible assets		2,820			3,371
In-process research and development		2,193			—
Total costs and expenses		83,830			67,093
Operating income (loss)	$	(12,903	)	$	1,481

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The Company markets its products globally through its network of sales personnel, dealers, distributors, retailers and subsidiaries. Export sales account for a significant portion of the Company’s net sales. Foreign sales are reported based on the sale destination. The following table presents a summary of net sales by geographic region for the three months ended September 30, 2003 and 2002:

	Three Months Ended September 30,
Net Sales by Geographic Region	2003		2002
	(In thousands)
United States	$	27,554	$	34,216
United Kingdom, Ireland		3,723		3,686
Germany		6,864		7,065
France		4,432		3,466
Spain, Italy, Benelux		5,076		4,495
Japan, China, Hong Kong, Singapore, Korea, Australia		10,313		6,493
Other foreign countries		12,965		9,153
Total	$	70,927	$	68,574

9. Commitments and Contingencies

Lease Obligations

The Company leases facilities and vehicles under non-cancelable operating leases. Future minimum lease payments are as follows (in thousands):

For the Nine-Month Period:
October 1, 2003 through June 30, 2004	$	4,255
For the Fiscal Years Ending June 30,
2005		4,941
2006		3,279
2007		2,576
2008		1,844
Thereafter		929
Total operating lease obligations	$	17,824

The lease obligation remaining for the current fiscal year 2004 represents only a nine-month period from October 1, 2003 through June 30, 2004. The lease obligation disclosure above represents a four-year and nine-month period from October 1, 2003 through June 30, 2008 and any lease obligations thereafter.

Customer Indemnification

From time to time, the Company agrees to indemnify its customers against liability if its products infringe a third party’s intellectual property rights. As of September 30, 2003, the Company was not subject to any pending litigation alleging that its products infringe the intellectual property rights of any third parties.

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Royalties

The Company has certain royalty commitments associated with the shipment and licensing of certain products. Royalty expense is generally based on a dollar amount per unit shipped or a percentage of the underlying revenue.

Other Contractual Obligations

The Company’s contractual obligations, other than operating leases, include purchase orders related to the procurement of materials that are required to produce its products for sale. Currently, the Company does not have any other long-term obligations or contractual cash obligations.

The most significant contractual financial obligations the Company has, other than specific balance sheet liabilities and facility leases, are the purchase order (“PO”) commitments the Company places with vendors and subcontractors to procure and guarantee a supply of the electronic components required to manufacture its products for sale. The Company places POs with its vendors on an ongoing basis based on its internal sales forecasts. The amount of outstanding POs can range from the value of material required to supply one half of the sales in a quarter to as much as the full amount needed for a quarter. As of September 30, 2003, the amount of outstanding POs was approximately $20.9 million. The total amount of these commitments can vary from quarter to quarter based on a variety of factors, including but not limited to, the total amount of expected future sales, lead times in the electronic components markets, the mix of projected sales and the mix of components required for those sales. Most of these POs are firm commitments that cannot be canceled, though some POs can be rescheduled without penalty and some can be completely canceled with little or no penalty.

Foreign Exchange Contracts

As of September 30, 2003, the Company had forward contracts to sell $15 million Euro at an average rate of 1.149. All forward contracts have durations of less than 15 months.

Legal Actions

In September 2003, the Company was served with a complaint in YouCre8, a/k/a/ DVDCre8 v. Pinnacle Systems, Inc., Dazzle Multimedia, Inc., and SCM Microsystems, Inc. (Superior Court of California, Alameda County Case No. RG03114448). The complaint was filed by a software company whose software was distributed by Dazzle Multimedia (“Dazzle”). The complaint alleges that in connection with the Company’s acquisition of certain assets of Dazzle, the Company tortiously interfered with DVDCre8’s relationship with Dazzle and others, engaged in acts to restrain competition in the DVD software market, distributed false and misleading statements which caused harm to DVDCre8, misappropriated DVDCre8’s trade secrets, and engaged in unfair competition. The complaint seeks unspecified damages and injunctive relief. Pursuant to the SCM/Dazzle Asset Purchase Agreement, the Company is seeking indemnification from SCM and Dazzle for all or part of the damages and the expenses incurred to defend such claims. Although the Company believes that the claims by DVDCre8 are without merit and that it is entitled to indemnification in whole or in part for any damages and costs of defense, there can be no assurance that the Company will recover all or a portion of the damages assessed or expenses incurred.

In October 2002, the Company filed a claim against XOS Technologies, its principals, and certain former employees of the Company and Avid Sports, Inc. in U.S. District Court for the Northern District of California (Case No. C—02-03804 RMW) arising out of XOS’s activities in the development, sale, and support of digital video systems. The complaint alleged misappropriation of the Company’s trade secrets, false advertising, and unfair business practices. On February 24, 2003, XOS filed counterclaims against the Company, alleging antitrust violations, slander, false advertising, and intentional interference with economic advantage. The Company moved to dismiss the counterclaims, and the court dismissed the false advertising and intentional interference with economic advantage claims, with leave to amend. On June 6, 2003, XOS filed an amended countercomplaint alleging the same causes of action. The Company again moved to dismiss and, on August 25, 2003, the court entered a ruling dismissing the economic advantage claim and one of the antitrust claims but not the false advertising claim. The Company’s claims are expected to go to trial in early December 2003, and XOS’s claims are currently scheduled for trial in early 2004.

In August 2000, a lawsuit entitled Athle-Tech Computer Systems, Incorporated v. Montage Group, Ltd. (Montage) and Digital Editing Services, Inc. (DES), wholly owned subsidiaries of Pinnacle Systems, No. 00-005956-C1-021 was filed in the Sixth Judicial Circuit Court for Pinellas County, Florida (referred to as the “Athle-Tech Claim”). The Athle-Tech

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Claim alleges that Montage breached a software development agreement between Athle-Tech Computer Systems, Incorporated (Athle-Tech) and Montage. The Athle-Tech Claim also alleges that DES intentionally interfered with Athle-Tech’s claimed rights with respect to the Athle-Tech Agreement and was unjustly enriched as a result. Finally, Athle-Tech seeks a declaratory judgment against DES and Montage. During a trial in early February 2003, the court found that Montage and DES were liable to Athle-Tech on the Athle-Tech Claim. The jury rendered a verdict on several counts on February 13, 2003, and on April 4, 2003, the court entered a final judgment of $14.2 million (inclusive of prejudgment interest). As a result of this verdict, the Company accrued $14.2 million plus $1.0 million in related legal costs, for a total legal judgment accrual of $15.2 million as of March 31, 2003. The Company accrued $11.3 million during the three months ended December 31, 2002 and $3.9 million during the quarter ended March 31, 2003. On April 17, 2003, the Company posted a $16.0 million bond staying execution of the judgment pending appeal. In order to secure the $16.0 million bond, the Company obtained a Letter of Credit through a financial institution on April 11, 2003, which expires on April 11, 2004, for $16.9 million. The Company filed a notice of appeal in the case on May 1, 2003 and expects the appeals process to take approximately 18 months. The Company believes it is entitled, pursuant to the Montage and DES acquisition agreements, to indemnification from certain of the former shareholders of each of Montage and DES for all or at least a portion of the damages assessed against the Company in the Athle-Tech Claim. The Company intends to seek indemnification from certain of the former shareholders of Montage and has entered into a settlement agreement with a former shareholder of DES and Montage regarding such shareholder’s indemnification obligations. Although the Company believes it is entitled to indemnification for all or at least a portion of the damages assessed against the Company in the Athle-Tech Claim, there can be no assurance that the Company will recover all or a portion of these damages. The arbitration that may be required to adjudicate the Company’s claim for indemnification will likely be a time consuming and protracted process.

In March 2000, the Company acquired DES. Pursuant to the Agreement and Plan of Merger dated as of March 29, 2000 between DES, 1117 Acquisition Corporation, the former DES shareholders and the Company, the former DES shareholders were entitled to an earnout payable in shares of the Company’s common stock if the DES operating profits exceeded at least 10% of the DES revenues during the period from March 30, 2000 until March 30, 2001. In October 2000, the Company entered into an amendment to the DES Agreement and Plan of Merger with the former DES shareholders to provide for an earnout based on the combined revenues, expenses and operating profits of DES and Avid Sports, Inc. due to the combination of the DES and Avid Sports, Inc. divisions in July 2000. In April 2001, the Company determined that no earnout payment was payable. In May 2001, the former DES shareholders asserted that an earnout payment was payable. In accordance with the DES Agreement and Plan of Merger, in October 2001 the parties submitted this matter to an independent arbitrator. Currently, the DES earnout arbitration is ongoing. The parties have submitted their positions to the arbitrator and are awaiting a decision. Although the Company does not know exactly when the ruling will be made, it could be made during the second quarter of fiscal 2004. In November 2003, the Company and a former DES shareholder entered into a settlement agreement, which may affect the earnout payment. The Company has not accrued any liability related to this contingency since a liability cannot be reasonably estimated.

From time to time, in addition to those identified above, the Company is subject to legal proceedings, claims, investigations and proceedings in the ordinary course of business, including claims of alleged infringement of third-party patents and other intellectual property rights, commercial, employment and other matters. In accordance with SFAS No. 5, “Accounting for Contingencies,” the Company makes a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impacts of negotiations, settlements, rulings, advice of legal counsel, and other information and events pertaining to a particular case. Litigation is inherently unpredictable. However, the Company believes that it has adequate legal defenses with respect to the legal matters pending against it. It is possible, nevertheless, that cash flows or results of operations could be affected in any particular period by the resolution of one or more of these contingencies.

10. Subsequent Events

The Company is in the process of restructuring its business operations. As a result of this restructuring plan, the Company expects to incur restructuring charges during the three months ending December 31, 2003. In October 2003, the Company began implementing a reduction in its workforce and plans to complete its workforce reduction plan by December 31, 2003. The Company expects to incur lease termination fees, resulting from exiting certain lease facilities, and a goodwill and intangible asset impairment charge. In addition, the Company is currently negotiating several royalty agreements, which could result in one-time payments, as well as ongoing royalty obligations.

On October 31, 2003, J. Kim Fennell resigned from his positions as President and Chief Executive Officer and a member of the Company’s Board of Directors. As a result of Mr. Fennell’s resignation, the Company will incur a severance charge of approximately $1.3 million during the quarter ended December 31, 2003. Approximately $0.6 million of this $1.3 million charge will be a non-cash charge and will be due to the acceleration and immediate vesting of 50% of Mr. Fennell’s unvested stock options as of October 31, 2003.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Certain Forward-Looking Information

Certain statements in this Quarterly Report on Form 10-Q 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 statements relate to future events or our future financial performance and involve known and unknown risks, uncertainties and other factors that may cause our or our industry’s actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by the forward-looking statements. These risks and other factors include those listed under “Factors That Could Affect Future Results” and elsewhere in this Quarterly Report on Form 10-Q. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” “continue” or the negative of these terms or other comparable terminology. Forward-looking statements include, but are not limited to, those statements regarding the following: our organizational structure; the portion of our total net sales represented by our international sales; the fluctuation of cost of sales for our Business and Consumer division; our expectations regarding future legal fees; the sufficiency of our existing cash and cash equivalent balances and anticipated cash flow from operations; the reasonableness of the estimates, judgments and assumptions we make with respect to our critical accounting policies; our evaluation of whether our goodwill and other intangible assets have been impaired and any resulting impairment charges, particularly for the DES earnout arbitration; the amortization of intangible assets with definite lives; our assessment of the need to use financial instruments to hedge foreign currency exposure; our investment portfolio; our potential exposure to market and credit risk; our intention to seek indemnification from certain of the former shareholders of each of Montage and DES; our entitlement to indemnification for all or at least a portion of the damages assessed in the Athle-Tech Claim; and the adequacy of our legal defenses with respect to certain legal actions arising in the ordinary course of business.

Overview

We are a supplier of digital video products that provide customers, ranging from individuals with little video experience to broadcasters, with simple or advanced products depending on their needs. Our digital video products include capture, editing, storage, play-out, graphics, compact disc (CD) and digital versatile disc (DVD) burning, audio editing and television viewing features for customers, whether they are at home, at work or on the air. Our products are used to create, store, and distribute video content for television programs, television commercials, pay-per-view, sports videos, corporate communications and personal home movies. The dramatic increase in distribution channels including cable television, direct satellite broadcast, video-on-demand, DVDs, and the Internet have led to a rapid increase in demand for video content. This is driving a market need for affordable, easy-to-use video creation, storage, distribution and streaming tools.

Our products use standard computer platforms and networks and combine our technologies to provide digital video solutions to users around the world. In order to address the broadcast market, we offer networked systems solutions based on information technology in four areas: on-air graphics, news and sports, play-out of programs and commercials, and program editing and post-production. Our sports applications include solutions used by sports teams to enhance player training. In order to address the consumer market, we offer low cost, easy-to-use video editing and viewing solutions that allow consumers to view television on their computers and to edit their home videos using a personal computer, camcorder and video cassette recorder (VCR), and to output their productions to tape, CD, DVD or the Internet. We offer editing applications for both consumers and business users. These editing applications include intuitive interfaces and streamlined workflows and enable the addition of special effects, graphics and titles. We also offer applications that address CD/DVD burning for audio, video and data and special purpose audio editing applications for consumers and music enthusiasts.

We are organized into two divisions: (1) Broadcast and Professional and (2) Business and Consumer. We believe this organizational structure enables us to effectively address varying product requirements, rapidly implement our core technologies, efficiently manage different distribution channels and anticipate and respond to changes in each of these markets. See Note 8 of Notes to Condensed Consolidated Financial Statements for additional information related to our operating segments.

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RESULTS OF OPERATIONS

Net Sales

Overall net sales increased 3.4% to $70.9 million in the three months ended September 30, 2003 from $68.6 million in the three months ended September 30, 2002. In the three months ended September 30, 2003, compared to the three months ended September 30, 2002, net sales increased 9.2% in the Business and Consumer division, while net sales decreased 2.1% in the Broadcast and Professional division.

The following is a summary of net sales by division (in thousands):

	Three Months Ended September 30:
Net Sales by Division	2003		% of Net Sales		2002		% of Net Sales		% Change
Broadcast and Professional	$	34,283	48.3	%	$	35,007	51.0	%	(2.1	)%
Business and Consumer		36,644	51.7	%		33,567	49.0	%	9.2	%
Total	$	70,927	100.0	%	$	68,574	100.0	%	3.4	%

In the three months ended September 30, 2003, the Broadcast and Professional division represented 48.3% of our total sales, while the Business and Consumer division represented 51.7% of our total sales in the same period. In the three months ended September 30, 2002, the Broadcast and Professional division represented 51.0% of our total sales, while the Business and Consumer division represented 49.0% of our total sales in the same period.

Broadcast and Professional sales decreased 2.1% to $34.3 million in the three months ended September 30, 2003 from $35.0 million in the three months ended September 30, 2002. The Broadcast and Professional sales decrease was primarily due to the discontinuation of our distributed broadcast products and decreased sales of our OEM and sports businesses, which were mostly offset by increased sales of our content delivery products, increased service revenue and increased sales of our live-to-air production products.

Business and Consumer sales increased 9.2% to $36.6 million in the three months ended September 30, 2003 from $33.6 million in the three months ended September 30, 2002. The Business and Consumer sales increase was primarily due to the addition of product lines acquired from SCM Microsystems Inc. and Dazzle Multimedia Inc. in July 2003, Steinberg Media Technologies AG in January 2003 and VOB Computersysteme GmbH in October 2002. Also contributing to this increase was the introduction of our MovieBox product, which we released in March 2003. These sales increases were partially offset by decreased sales of our Studio and Edition products.

Deferred revenue increased 37.7% to $13.9 million as of September 30, 2003 from $10.1 million as of June 30, 2003. This increase in deferred revenue was primarily due to increased service revenue from our team sports systems that were billed during the three months ended September 30, 2003 but will be recognized ratably over the support period, generally one year.

The following is a summary of net sales by region (in thousands):

	Three Months Ended September 30:
Net Sales by Region	2003		% of Net Sales		2002		% of Net Sales		% Change
North America	$	29,759	42.0	%	$	35,081	51.2	%	(15.2	)%
International		41,168	58.0	%		33,493	48.8	%	22.9	%
Total	$	70,927	100.0	%	$	68,574	100.0	%	3.4	%

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For the three months ended September 30, 2003 and September 30, 2002, North America sales represented 42.0% and 51.2% of our net sales, respectively, while international sales (sales outside of North America) represented 58.0% and 48.8% of our net sales, respectively. We expect that international sales will continue to represent a significant portion of our total net sales.

North American sales decreased 15.2% to $29.7 million in the three months ended September 30, 2003 from $35.1 million in the three months ended September 30, 2002. North American sales decreased primarily due to the discontinuation of our distributed broadcast products and decreased sales of our OEM business in our Broadcast and Professional division.

International sales increased 22.9% to $41.2 million in the three months ended September 30, 2003 from $33.5 million in the three months ended September 30, 2002. International sales increased primarily due to increased sales in our Business and Consumer division, resulting primarily from our acquisitions of Steinberg Media Technologies AG in January 2003 and VOB Computersysteme GmbH in October 2002.

Our sales were relatively linear throughout the first, second and third quarters of fiscal 2003. However, during the fourth quarter of fiscal 2003 and the first quarter of fiscal 2004, we recognized a substantial portion of our revenues in the last month or weeks of the quarter, and our revenues depended substantially on orders booked during the last month or weeks of the quarter. In addition, economic uncertainty, seasonality, or the introduction of new products at the end of a given quarter could require us to recognize a substantial portion of our revenues in the last month or weeks of a given quarter. This makes it difficult for us to accurately predict total sales for the quarter until late in the quarter.

Cost of Sales

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Cost of sales	$	37,023		$	30,981		19.5	%
As a percentage of net sales		52.2	%		45.2	%

We distribute and sell our products to users through the combination of independent distributors, dealers and VARs, OEMs, retail chains, and, to a lesser extent, a direct sales force. Sales to independent distributors, dealers and VARs, OEMs, and retail chains, are generally at a discount to the published list prices. The amount of discount, and consequently, our net sales less cost of sales, as a percentage of net sales, vary depending on the product, the channel of distribution, the volume of product purchased, and other factors.

Cost of sales consists primarily of costs related to the procurement of components and subassemblies, labor and overhead associated with procurement, assembly and testing of finished products, inventory management, warehousing, shipping, warranty costs, royalties, and provisions for obsolescence and shrinkage.

Our total cost of sales increased 19.5% to $37.0 million in the three months ended September 30, 2003 from $31.0 million in the three months ended September 30, 2002. As a percentage of total net sales, total cost of sales increased to 52.2% in the three months ended September 30, 2003 from 45.2% in the three months ended September 30, 2002. The overall increase in our total cost of sales, as a percentage of total net sales, for the three months ended September 30, 2003 compared to the three months ended September 30, 2002, was due to increased cost of sales, as a percentage of net sales, in the Business and Consumer division, which was partially offset by decreased cost of sales, as a percentage of net sales, in the Broadcast and Professional division.

Broadcast and Professional cost of sales decreased 3.8% to $14.3 million in the three months ended September 30, 2003 from $14.8 million in the three months ended September 30, 2002. As a percentage of Broadcast and Professional net sales, our Broadcast and Professional cost of sales decreased to 41.6% in the three months ended September 30, 2003 from 42.3% in the three months ended September 30, 2002. The decrease in Broadcast and Professional cost of sales was primarily due to lower material costs, as well as higher service revenue with low associated costs.

Business and Consumer cost of sales increased 40.9% to $22.8 million in the three months ended September 30,

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2003 from $16.2 million in the three months ended September 30, 2002. As a percentage of Business and Consumer net sales, our Business and Consumer cost of sales increased to 62.1% in the three months ended September 30, 2003 from 48.1% in the three months ended September 30, 2002. The increase in Business and Consumer cost of sales was primarily due to increased sales for the three months ended September 30, 2003 compared to September 30, 2002, and a change in product mix consisting of a higher portion of hardware products, which generally have higher costs than our software products. Our Business and Consumer cost of sales may fluctuate in the future based on the mix of hardware and software products sold.

Engineering and Product Development

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Engineering and product development expenses	$	10,550		$	8,263		27.7	%
As a percentage of net sales		14.9	%		12.0	%

Engineering and product development expenses include costs associated with the development of new products and enhancements of existing products, and consist primarily of employee salaries and benefits, prototype and development expenses, depreciation and facility costs.

Engineering and product development expenses increased 27.7% to $10.6 million in the three months ended September 30, 2003 from $8.3 million in the three months ended September 30, 2002. As a percentage of net sales, engineering and product development expenses increased to 14.9% in the three months ended September 30, 2003 from 12.0% in the three months ended September 30, 2002. This increase in engineering and product development expenses was primarily due to increased headcount related to our acquisitions of Steinberg Media Technologies AG in January 2003 and VOB Computersysteme GmbH in October 2002.

Sales, Marketing and Service

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Sales, marketing and service expenses	$	25,265		$	19,668		28.5	%
As a percentage of net sales		35.6	%		28.7	%

Sales, marketing and service expenses include compensation and benefits for sales, marketing and customer service personnel, commissions, travel, advertising and promotional expenses including trade shows and professional fees for marketing services.

Sales, marketing and service expenses increased 28.5% to $25.3 million in the three months ended September 30, 2003 from $19.7 million in the three months ended September 30, 2002. As a percentage of net sales, sales, marketing and service expenses increased to 35.6% in the three months ended September 30, 2003 from 28.7% in the three months ended September 30, 2002. The increase in sales, marketing and service expenses was primarily due to increased headcount related to our acquisitions of Jungle KK in July 2003, Steinberg Media Technologies AG in January 2003 and VOB Computersysteme GmbH in October 2002, as well as higher marketing costs associated with the launch of our new products.

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General and Administrative

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
General and administrative expenses	$	5,979		$	4,810		24.3	%
As a percentage of net sales		8.4	%		7.0	%

General and administrative expenses consist primarily of salaries and benefits for administrative, executive, finance and management information systems personnel, legal and accounting fees, information technology infrastructure costs, facility costs, and other corporate administrative expenses.

General and administrative expenses increased 24.3% to $6.0 million in the three months ended September 30, 2003 from $4.8 million in the three months ended September 30, 2002. As a percentage of net sales, general and administrative expenses increased to 8.4% in the three months ended September 30, 2003 from 7.0% in the three months ended September 30, 2002. This increase in general and administrative expenses was primarily due to higher legal fees related to the DES earnout arbitration and the XOS Technologies claim, as well as additional general and administrative expenses that resulted from the acquisition of Steinberg Media Technologies AG in January 2003. We expect to continue to incur significant legal fees, since we currently have several pending legal matters. (See Note 9 of Notes to Condensed Consolidated Financial Statements).

Amortization of Other Intangible Assets

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Amortization of other intangible assets	$	2,820		$	3,371		(16.3	)%
As a percentage of net sales		4.0	%		4.9	%

Acquisition-related intangible assets result from our acquisition of businesses accounted for under the purchase method of accounting and consist of the values of identifiable intangible assets, including core/developed technology, customer-related intangibles, trademarks and trade names, and other identifiable intangibles. Acquisition-related intangibles are being amortized using the straight-line method over periods ranging from three to six years.

The amortization of our intangible assets decreased 16.3% to $2.8 million in the three months ended September 30, 2003 from $3.4 million in the three months ended September 30, 2002. As a percentage of net sales, the amortization of our intangible assets decreased to 4.0% in the three months ended September 30, 2003 from 4.9% in the three months ended September 30, 2002. This decrease in amortization was due to several intangible assets that became fully amortized during the fiscal year ended June 30, 2003, which was partially offset by an increase in amortization resulting from the acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in July 2003 and the acquisition of a 95% interest in Jungle KK in July 2003.

In-Process Research and Development

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
In-process research and development costs	$	2,193		$	—		100	%
As a percentage of net sales		3.1	%		—	%

During the three months ended September 30, 2003, we recorded in-process research and development costs of approximately $2.2 million, related to the acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in July 2003. We recorded no such costs during the three months ended September 30, 2002. The value assigned to purchased in-process

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research and development into commercially viable products, estimating the resulting net cash flows from such projects, and discounting the net cash flows back to the time of acquisition using a risk-adjusted discount rate.

Interest and Other Income, net

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Interest and other income, net	$	326		$	390		(16.4	)%
As a percentage of net sales		0.5	%		0.6	%

Interest and other income, net, consists primarily of interest income generated from our investments in money market funds, government securities and high-grade commercial paper, and foreign currency remeasurement or transaction gains or losses. Interest income decreased approximately 16.4% to $0.3 million in the three months ended September 30, 2003 from $0.4 million in the three months ended September 30, 2002. This decrease in interest and other income, net, reflects a decrease in our average cash balance for the three months ended September 30, 2003 compared to three months ended September 30, 2002, as well as lower interest rate yields.

Income Tax Expense

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Income tax expense	$	403		$	450		(10.4	)%
As a percentage of net sales		0.6	%		0.7	%

Income taxes are comprised of federal, state and foreign income taxes. We recorded a provision for income taxes of $0.4 million and $0.5 million for the three months ended September 30, 2003 and 2002, respectively, primarily relating to income from our international subsidiaries. As of June 30, 2003, and September 30, 2003, we have provided a valuation allowance for our net U.S. deferred tax assets, as we are presently unable to conclude that all of the deferred tax assets are more likely than not to be realized.

Cumulative Effect of Change in Accounting Principle

	Three Months Ended September 30,
(In thousands)	2003			2002			% Change
Cumulative effect of change in accounting principle	$	—		$	19,291		(100	)%
As a percentage of net sales		—	%		28.1	%

As a result of our adoption of SFAS No. 142 on July 1, 2002, we no longer amortize goodwill and identifiable intangible assets with indefinite lives. Intangible assets with definite lives will continue to be amortized.

We performed the transitional goodwill impairment analysis required by SFAS No. 142 as of July 1, 2002 and concluded that goodwill was impaired, as the carrying value of two of our reporting units in the Broadcast and Professional division exceeded their fair value. As a result, we recorded a charge of $19.3 million during the three months ended September 30, 2002 to reduce the carrying amount of goodwill. This charge is a non-operating and non-cash charge. This charge is reflected as a cumulative effect of change in accounting principle in the accompanying consolidated statements of operations. (See Note 6 of Notes to Condensed Consolidated Financial Statements). We recorded no such charge during the three months ended September 30, 2003.

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LIQUIDITY AND CAPITAL RESOURCES

Our cash and cash equivalents, restricted cash and short-term marketable securities balances as of September 30, 2003, and June 30, 2003 are summarized as follows (in thousands):

	As of September 30, 2003		As of June 30, 2003
Cash and cash equivalents	$	62,186	$	62,617
Restricted cash		16,850		16,890
Short-term marketable securities		17,720		18,804
Total cash and cash equivalents, restricted cash and short-term marketable securities	$	96,756	$	98,311

Cash and cash equivalents were $62.2 million as of September 30, 2003, compared to $62.6 million as of June 30, 2003. Cash and cash equivalents as of September 30, 2003 and June 30, 2003 do not include $16.9 million of cash that was classified as restricted cash, since the funds are restricted for the Athle-Tech Claim (see Note 9 of Notes to Condensed Consolidated Financial Statements).

Our operating, investing and financing activities for the three months ended September 30, 2003 and 2002 are summarized as follows (in thousands):

	Three Months Ended September 30,
	2003			2002
Cash provided by operating activities	$	2,481		$	12,145
Cash used in investing activities		(5,079	)		(1,019	)
Cash provided by financing activities		2,244			585

Cash and cash equivalents decreased $0.4 million during the three months ended September 30, 2003, compared to an increase of $11.5 million during the three months ended September 30, 2002. We have funded our operations to date through sales of equity securities as well as through cash flows from operations. We believe that existing cash and cash equivalent balances as well as anticipated cash flow from operations will be sufficient to support our operating and capital requirements for at least the next twelve months.

Operating Activities

Our operating activities generated cash of $2.5 million during the three months ended September 30, 2003, compared to generating cash of $12.1 million during the three months ended September 30, 2002.

Cash generated from operations of $2.5 million during the three months ended September 30, 2003 was primarily attributable to decreases in accounts receivable and prepaid and other assets, as well as an increase in deferred revenues, which were partially offset by decreases in accrued and other liabilities and accounts payable and an increase in inventories. As a result, we maintained positive cash flows from operations, despite incurring a net loss of $13.0 million for the three months ended September 30, 2003 and after adjusting for non-cash items such as depreciation, amortization, provision for doubtful accounts, deferred taxes, in-process research and development, and the loss on disposal of property and equipment. As discussed in the section entitled “In-Process Research and Development” above, we recorded in-process research and development costs of $2.2 million during the three months ended September 30, 2003, related to the acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in July 2003.

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Cash generated from operations of $12.1 million during the three months ended September 30, 2002 was attributable to increases in deferred revenues, accounts payable and accrued and other liabilities, which were partially offset by increases in inventories and accounts receivable. As a result, we maintained positive cash flows from operations, despite incurring a net loss of $17.9 million for the three months ended September 30, 2002 and after adjusting for depreciation, amortization, provision for doubtful accounts and the cumulative effect of change in accounting principle related to the goodwill impairment that resulted from our adoption of SFAS 142 on July 1, 2002. The increase in our deferred revenues was the result of receiving some advance payments on several large system sales, which we recorded as deferred revenue.

Investing Activities

Our investing activities consumed cash of $5.1 million during the three months ended September 30, 2003 compared to consuming cash of $1.0 million during the three months ended September 30, 2002. Cash consumed by investing activities of $5.1 million during the three months ended September 30, 2003 was due to the cash payment for the acquisition of a 95% interest in Jungle KK in July 2003. In addition, cash was consumed for the purchase of property and equipment, which was partially offset by the proceeds received from the maturity of marketable securities during the three months ended September 30, 2003. Cash consumed by investing activities of $1.0 million during the three months ended September 30, 2002 was due to the purchase of property and equipment.

Financing Activities

Our financing activities generated cash of $2.2 million during the three months ended September 30, 2003 compared to generating cash of $0.6 million during the three months ended September 30, 2002. Cash generated from financing activities of $2.2 million during the three months ended September 30, 2003 and $0.6 million during the three months ended September 30, 2002 were due to the proceeds received from the exercise of employee stock options.

Lease Obligations

We lease facilities and vehicles under non-cancelable operating leases. Future minimum lease payments are as follows (in thousands):

For the Nine-Month Period:
October 1, 2003 through June 30, 2004	$	4,255
For the Fiscal Years Ending June 30,
2005		4,941
2006		3,279
2007		2,576
2008		1,844
Thereafter		929
Total operating lease obligations	$	17,824

The lease obligation remaining for the current fiscal year 2004 represents only a nine-month period from October 1, 2003 through June 30, 2004. The lease obligation disclosure above represents a four-year and nine-month period from October 1, 2003 through June 30, 2008 and any lease obligations thereafter.

Customer Indemnification

From time to time, we agree to indemnify our customers against liability if our products infringe a third party’s intellectual property rights. As of September 30, 2003, we were not subject to any pending litigation alleging that our products infringe the intellectual property rights of any third parties.

Royalties

We have certain royalty commitments associated with the shipment and licensing of certain products. Royalty expense is generally based on a dollar amount per unit shipped or a percentage of the underlying revenue.

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Other Contractual Obligations

Our contractual obligations, other than operating leases, include purchase orders related to the procurement of materials that are required to produce our products for sale. Currently, we do not have any other long-term obligations or contractual cash obligations.

The most significant contractual financial obligations we have, other than specific balance sheet liabilities and facility leases, are the purchase order (“PO”) commitments we place with vendors and subcontractors to procure and guarantee a supply of the electronic components required to manufacture our products for sale. We place POs with our vendors on an ongoing basis based on our internal sales forecasts. The amount of outstanding POs can range from the value of material required to supply one half of the sales in a quarter to as much as the full amount needed for a quarter. As of September 30, 2003, the amount of outstanding POs was approximately $20.9 million. The total amount of these commitments can vary from quarter to quarter based on a variety of factors, including but not limited to, the total amount of expected future sales, lead times in the electronic components markets, the mix of projected sales and the mix of components required for those sales. Most of these POs are firm commitments that cannot be canceled, though some POs can be rescheduled without penalty and some can be completely canceled with little or no penalty.

Foreign Exchange Contracts

As of September 30, 2003, we had forward contracts to sell $15 million Euro at an average rate of 1.149. All forward contracts have durations of less than 15 months.

CRITICAL ACCOUNTING POLICIES

Management’s discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. We review the accounting policies we use in reporting our financial results on a regular basis. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on the results we report in our financial statements. Some of our accounting policies require us to make difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. On an ongoing basis, we evaluate our estimates, including but not limited to those related to revenue recognition, product returns, accounts receivable and bad debts, inventories, investments, intangible assets, income taxes, warranty obligations, restructuring, contingencies and litigation. We base our estimates on historical experience and on various other assumptions we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. The financial impact of these estimates and judgments is reviewed by management on an ongoing basis at the end of each quarter prior to public release of our financial results. Management believes that these estimates are reasonable; however, actual results could differ from these estimates.

We have identified the accounting policies below as the policies most critical to our business operations and the understanding of our results of operations. The impact and any associated risks related to these policies on our business operations are discussed throughout Management’s Discussion and Analysis of Financial Condition and Results of Operations where such policies affect our reported and expected financial results. For a detailed discussion on the application of these and other accounting policies, see Note 1 of Notes to Condensed Consolidated Financial Statements. Our critical accounting policies are as follows:

• Revenue recognition

• Allowance for doubtful accounts

• Valuation of goodwill and other intangible assets

• Valuation of inventory

• Deferred tax asset valuation allowance

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Revenue Recognition

We derive our revenue primarily from the sale of products, including both hardware and perpetual software licenses and, to a lesser extent, from product support and services including product support contracts, installation and training services.

We generally recognize revenues from sales of products upon shipment, net of estimated returns, provided title and risk of loss has passed to the customer, there is evidence of an arrangement, fees are fixed or determinable and collectibility is reasonably assured. If applicable to the sales transaction, revenue is only recorded if the revenue recognition criteria of Statement of Position 97-2, “Software Revenue Recognition,” as amended, are met.

Revenue from post-contract customer support (“PCS”) is recognized ratably over the contractual term (typically one year). Installation and training revenue is deferred and recognized as these services are performed. For systems with complex installation processes where installation is considered essential to the functionality of the product (for example, when the services can only be performed by us), product and installation revenue is deferred until completion of the installation. For shrink-wrapped products with telephone support and bug fixes bundled in as part of the original sale, revenue is recognized at the time of product shipment and the costs to provide this telephone support and bug fixes are accrued, as these costs are deemed insignificant. Shipping and handling costs associated with amounts billed to customers are included in revenue.

Revenue from certain channel partners is subject to arrangements allowing limited rights of return, stock rotation, rebates and price protection. Accordingly, we reduce revenue recognized for estimated future returns, estimated funds for marketing development activities, price protection and rebates, at the time the related revenue is recorded. To estimate future product returns and reserves for rebates and price protection, we analyze historical returns and credits, current economic trends, changes in customer demand, inventory levels in the distribution channel and general marketplace acceptance of our products. To the extent that we have contracts for sales to channel partners who have unlimited return rights, revenue is recognized when the product is sold through to a customer.

We record OEM licensing revenue, primarily royalties, when OEM partners ship products incorporating Pinnacle software, provided collection of such revenue is deemed probable.

Our systems sales frequently involve multiple element arrangements in which a customer purchases a combination of hardware product, PCS, and/or professional services. For multiple element arrangements revenue is allocated to each element of the arrangement based on the relative fair value of each of the elements. When evidence of fair value exists for each of the undelivered elements but not for the delivered elements, we use the residual method to recognize revenue for the delivered elements. Under this method, the fair value of the undelivered elements is deferred until delivered and the remaining portion of the revenue is recognized. If evidence of the fair value of one or more of the undelivered elements does not exist, then revenue is only recognized when delivery of those elements has occurred or fair value has been established. Fair value is based on the prices charged when the same element is sold separately to customers.

Except for large systems sales, our arrangements do not generally include acceptance clauses. However, if an arrangement includes an acceptance provision, revenue is recognized upon the earlier of receipt of written customer acceptance or a certain event, such as achievement of system “on-air” status, which contractually constitutes acceptance.

Deferred revenue includes customer advances, PCS (maintenance) revenue, and invoiced fees from arrangements where revenue recognition criteria are not yet met.

Management is required to make and apply significant judgments and estimates in connection with the recognition of revenue. Material differences may result in the amount and timing of our revenue for any period if our management were to make different judgments or apply different estimates.

Allowance for Doubtful Accounts

We maintain an allowance for doubtful accounts at an amount we estimate to be sufficient to provide adequate protection against losses resulting from collecting less than full payment on our receivables. We record an allowance for receivables based on a percentage of accounts receivable. Additionally, individual overdue accounts are reviewed, and an additional allowance is recorded when determined necessary to state receivables at realizable value. In estimating the adequacy of the allowance for doubtful accounts, we consider multiple factors including historical bad debt experience, the general economic environment, and the aging of our receivables.

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We must make significant judgments and estimates in connection with establishing the uncollectibility of our accounts receivables. We assess the realization of receivables, including assessing the probability of collection and the current creditworthiness of each customer. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, an additional provision for doubtful accounts may be required. Material differences may result in the amount and timing of our bad debt expense for any period if we were to make different judgments or apply different estimates.

Valuation of Goodwill and Other Intangible Assets

We review our long-lived assets, including goodwill and identifiable intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. In addition, we review goodwill annually for impairment. Factors we consider important and which could trigger an impairment review include the following:

• significant underperformance relative to expected historical or projected future operating results

• significant changes in the manner of our use of the acquired assets or the strategy for our overall business

• significant negative industry or economic trends

• significant decline in our stock price for a sustained period

• our market capitalization relative to net book value

As a result of our adoption of SFAS No. 142 in July 2002, we no longer amortize goodwill and identifiable intangible assets with indefinite lives. Intangible assets with definite lives continue to be amortized.

We performed the annual goodwill impairment analysis required by SFAS No. 142 as of July 1, 2003 and concluded that goodwill was not impaired. As of June 30, 2003, we had approximately $60.6 million of goodwill and $29.3 million of other intangible assets. As of September 30, 2003, we had approximately $75.7 million of goodwill and $36.1 million of other intangible assets.

We performed the transitional goodwill impairment analysis required by SFAS No. 142 as of July 1, 2002 and concluded that goodwill was impaired, as the carrying value of two of our reporting units in the Broadcast and Professional division exceeded their fair value. As a result, we recorded a charge of $19.3 million during the three months ended September 30, 2002 to reduce the carrying amount of our goodwill. This charge is a non-operating and non-cash charge. This charge is reflected as a cumulative effect of change in accounting principle in the accompanying consolidated statements of operations.

Upon adoption, we have evaluated the remaining useful lives of our other intangible assets to determine if any adjustments to the useful lives were necessary or if any of these assets had indefinite lives and were, therefore, not subject to amortization. We determined that no adjustments to the useful lives of our other intangible assets were necessary.

The goodwill impairment test consisted of the two-step process as follows:

In both Step 1 and Step 2, below, the fair value of each reporting unit was determined by estimating the present value of future cash flows for each reporting unit.

Step 1. We compared the fair value of our reporting units to their carrying amount, including the existing goodwill and other intangible assets. As of July 1, 2002, since the carrying amount of two of our reporting units in the Broadcast and Professional division exceeded their fair value, the comparison indicated that our reporting units’ goodwill was impaired (see Step 2 below). As of July 1, 2003, there was no indication of goodwill impairment as the fair value of our reporting units was greater than the carrying amount.

Step 2. For purposes of performing the second step, we used a purchase price allocation methodology to assign the fair value of the reporting unit to all of the assets, including intangibles, and liabilities of each of these reporting units, respectively. The residual fair value after the purchase price allocation is the implied fair value of the reporting unit goodwill. At the adoption date, July 1, 2002, the implied fair value of the reporting unit goodwill was less than the carrying amount of goodwill, resulting in a transitional impairment loss of $19.3 million recorded during the three months ended September 30, 2002.

In accordance with SFAS No. 142, we will evaluate, on an annual basis or whenever significant events or changes occur in our business, whether our goodwill has been impaired. If we determine that our goodwill has been impaired, we will recognize an impairment charge. We have chosen the first quarter of each fiscal year, which ends on September 30, as the

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period of the annual impairment test. In October 2003, we commenced a re-assessment of our business plan. As part of this process, we expect to reallocate our resources among the various reporting units. Once this process is complete, we will determine the impact to the operating cash flows of the reporting units, which may trigger an interim impairment analysis of goodwill and other intangible assets in the quarter ending December 31, 2003. Also, a goodwill impairment charge may be required if we receive a negative ruling from the DES earnout arbitration. (See Note 9 of Notes to Condensed Consolidated Financial Statements).

We must make significant judgments and estimates in connection with the valuation of our goodwill and other intangible assets. Material differences may result in the amount and timing of an impairment charge or amortization expense for any period if we were to make different judgments or apply different estimates.

Valuation of Inventory

Inventory is valued at the lower of cost or market value. Inventory is purchased as a result of the monthly internal demand forecast that we produce, which drives the issuance of purchase orders with our suppliers. We capitalize all labor and overhead costs associated with the manufacture of our products.

Inventory is reviewed quarterly and written down to adjust for excess or obsolete material. We identify excess material by comparing the internal demand forecasts, based on product sales forecasts, to current inventory levels. Inventory that is deemed to be excess is written down to its estimated resale value in the secondary material resale market or to zero if there is no resale value. Inventory is identified as obsolete if we discontinue the use of a specific inventory item. Inventory that is deemed to be obsolete is written down to its estimated resale value or to zero if it has no resale value. Active inventory is written down to its net realizable value if the sales price falls below our carrying value.

We must make significant judgments and estimates in connection with the valuation of our inventory. Material differences may result in the amount of our cost of sales for any period if we were to make different judgments or apply different estimates.

Deferred Tax Asset Valuation Allowance

We record deferred tax assets and liabilities based on the net tax effects of tax credits, operating loss carryforwards and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. We then assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, we establish a valuation allowance. The valuation allowance is based on our estimates of taxable income in each jurisdiction in which we operate and the period over which our deferred tax assets will be recoverable. Through June 30, 2003, we believe it is more likely than not that substantially all of our deferred tax assets will not be realized and, accordingly, we have recorded a valuation allowance against substantially all of our deferred tax assets. If results of operations in the future indicate that some or all of the deferred tax assets will be recovered, the reduction of the valuation allowance will be recorded as a tax benefit during one period or over many periods if the recovered deferred tax assets related to continued operations. A credit to shareholders’ equity would result if the reduction of the valuation allowance were related to tax benefits arising from the exercise of stock options. If the reduction of the valuation allowance were related to any acquired companies, the credit would be to goodwill.

Recent Accounting Pronouncements

In November 2002, the EITF reached a consensus on Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables.” EITF Issue No. 00-21 provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF Issue No. 00-21 will apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF 00-21 had no impact on our consolidated financial position, results of operations or cash flows.

In April 2003, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies the accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” SFAS No. 149 is generally effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. The adoption of SFAS No. 149 did not have a material impact on our consolidated financial position, results of operations or cash flows.

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In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 requires that certain financial instruments, which under previous guidance were accounted for as equity, must now be accounted for as liabilities. The financial instruments affected include mandatorily redeemable stock, certain financial instruments that require or may require the issuer to buy back some of its shares in exchange for cash or other assets and certain obligations that can be settled with shares of stock. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 did not have a material impact on our consolidated financial position, results of operations or cash flows.

FACTORS THAT COULD AFFECT FUTURE RESULTS

There are various factors that may cause our future net revenues and operating results to fluctuate. As a result, quarter-to-quarter variations could result in a substantial decrease in our stock price if our net revenues and operating results are below analysts’ expectations.

Our net revenues and operating results have varied significantly in the past and may continue to fluctuate because of a number of factors, many of which are outside our control. These factors include:

• adverse changes in general economic conditions in any of the countries in which we do business, including the recent slow-down affecting North America, Europe, Asia Pacific and potentially other geographic areas;

• increased competition and pricing pressure;

• the timing of significant orders from and shipments to major customers, including OEMs and our large broadcast accounts;

• the timing and market acceptance of new products and upgrades;

• the timing of customer acceptance on large system sales;

• our success in developing, marketing and shipping new products;

• our dependence on the distribution channels through which our products are sold;

• the accuracy of our and our resellers’ forecasts of end-user demand;

• the accuracy of inventory forecasts;

• our ability to obtain sufficient supplies from our subcontractors on a timely basis;

• our ability to retain, recruit and hire key executives, technical personnel and other employees in the positions and numbers, with the experience and capabilities and at the compensation levels that we need to implement our business and product plans;

• the timing and level of consumer product returns;

• foreign currency fluctuations;

• delays and costs associated with the integration of acquired operations;

• the introduction of new products by major competitors; and

• intellectual property infringement claims (by or against us).

We also experience significant fluctuations in orders and sales due to seasonal fluctuations, the timing of major trade shows and the sale of consumer products in anticipation of the holiday season. Sales usually slow down during the summer months of July and August, especially in our Business and Consumer division in Europe. Also, we attend a number of annual trade shows, which can influence the order pattern of products, including CEBIT in March, the NAB convention in April and the IBC convention in September.

Our operating expense levels are based, in part, on our expectations of future revenue. Such future revenue levels are difficult to forecast. Any shortfall in our quarterly net sales would have a disproportionate, negative impact on our quarterly net income. The resulting quarter-to-quarter variations in our revenues and operating results could create uncertainty about the direction or progress of our business, which could cause our stock price to decline.

Due to these factors, our future net revenues and operating results are not predictable with any significant degree of accuracy. As a result, we believe that quarter-to-quarter comparisons of our results of operations are not necessarily meaningful and should not be relied upon as indicators of future performance.

Deteriorating market conditions and continued economic uncertainty could materially adversely impact our revenues and growth rate.

Although our sales increased in the first, second, third and fourth quarters of fiscal 2003 from the first, second, third

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and fourth quarters of fiscal 2002, our revenue growth and profitability depend primarily on the overall demand for our products. If demand for these products decreases due to ongoing economic uncertainty, this may result in decreased revenues, earnings levels or growth rates. If United States or international economic conditions worsen, demand for our products may weaken, and our business, operating results, financial condition and stock price may be materially adversely affected as a result.

We recognize a substantial portion of our revenues in the last month or weeks of a given quarter.

Our sales were relatively linear throughout the quarters in fiscal 2002 and the first, second and third quarters of fiscal 2003. However, during the fourth quarter of fiscal 2003 and the first quarter of fiscal 2004, we recognized a substantial portion of our revenues in the last month or weeks of the quarter, and our revenues depended substantially on orders booked during the last month or weeks of the quarter. We also expect to recognize a substantial portion of our revenues in the last month or weeks of the second quarter of fiscal 2004. This makes it difficult for us to accurately predict total sales for the quarter until late in the quarter. If certain sales cannot be closed during those last weeks, sales may be recognized in subsequent quarters. This may cause our quarterly revenues to fall below analysts’ expectations.

Our revenues, particularly in the Broadcast and Professional Division, are becoming increasingly dependent on large broadcast system sales to a few significant customers. Our business and financial condition may be materially adversely affected if sales are delayed or not completed within a given quarter or if any of our significant broadcast customers terminate their relationship or contracts with us, modify their requirements, which may delay installation and revenue recognition, or significantly reduce the amount of business they do with us.

We expect sales of large broadcast systems to a few significant customers to continue to constitute a material portion of our net revenues, particularly as broadcasters transition from tape-based systems to information technology-based systems. Our quarterly and annual revenues could fluctuate significantly if:

• sales to one or more of our significant customers are delayed or are not completed within a given quarter;

• the contract terms preclude us from recognizing revenue during that quarter;

• we are unable to provide any of our major customers with products in a timely manner and on competitive pricing terms;

• any of our major customers experience competitive, operational or financial difficulties;

• if the transition from tape-based systems to information technology-based systems slows;

• any of our major customers terminate their relationship with us or significantly reduce the amount of business they do with us; and

• any of our major customers reduce their capital investments in our products in response to slowing economic growth.

If we are unable to complete anticipated transactions within a given quarter, our revenues may fall below the expectations of market analysts and our stock price could decline.

We incurred losses in fiscal 2003 and we may generate losses in fiscal 2004.

In fiscal 2003, we recorded net losses of approximately $21.9 million, which included acquisition-related amortization charges, the cumulative effect of a change in accounting principle related to goodwill, the legal judgment related to the Athle-Tech Claim, and in-process research and development costs related to the acquisition of Steinberg Media Technologies AG.

In the first quarter of fiscal 2004, we incurred a net loss of $13.0 million, which included acquisition-related amortization charges and in-process research and development costs related to the acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in July 2003

We expect to incur a net loss in the second quarter of fiscal 2004. We are in the process of restructuring our business operations. As a result of this restructuring plan, we expect to incur restructuring charges during the three months ending December 31, 2003. In October 2003, we began implementing a reduction in our workforce and plan to complete our workforce reduction plan by December 31, 2003. We expect to incur lease termination fees, resulting from exiting certain lease facilities, and a goodwill and intangible asset impairment charge. In addition, we are currently negotiating several royalty agreements, which could result in one-time payments, as well as ongoing royalty obligations.

If current economic conditions remain unfavorable or decline further, if our revenues grow at a slower rate than in the past or decline, or if our expenses increase without a commensurate increase in our revenues, we may, and will likely, incur net losses during the remaining quarters of fiscal 2004, and our results of operations and the price of our common stock may decline as a result.

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Our goodwill and other intangible assets may become impaired, rendering their carrying amounts unrecoverable, and, as a result, we may be required to record a substantial impairment charge that would adversely affect our financial position.

We performed the annual goodwill impairment analysis required by SFAS No. 142 as of July 1, 2003 and concluded that goodwill was not impaired. In connection with our adoption of SFAS No. 142 on July 1, 2002, we recorded a goodwill impairment charge of $19.3 million during the three months ended September 30, 2002. As of June 30, 2003, we had approximately $60.6 million of goodwill and $29.3 million of other intangible assets. As of September 30, 2003, we had approximately $75.7 million of goodwill and $36.1 million of other intangible assets.

In accordance with SFAS No. 142, we will evaluate, on an annual basis or whenever significant events or changes occur in our business, whether our goodwill has been impaired. The recent general economic slowdown has adversely affected demand for our products, increasing the likelihood that our goodwill and other intangible assets will become impaired. If we determine that our goodwill has been impaired, we will recognize an impairment charge that could be significant and could have a material adverse effect on our financial position and results of operations. We have chosen the first quarter of each fiscal year, which ends on September 30, as the period of the annual impairment test. In October 2003, we commenced a re-assessment of our business plan. As part of this process, we expect to reallocate our resources among the various reporting units. Once this process is complete, we will determine the impact to the operating cash flows of the reporting units, which may trigger an interim impairment analysis of goodwill and other intangible assets in the quarter ending December 31, 2003. Also, a goodwill impairment charge may be required if we receive a negative ruling from the DES earnout arbitration. (See Note 9 of Notes to Condensed Consolidated Financial Statements).

Our stock price may be volatile.

The trading price of our common stock has in the past, and could in the future, fluctuate significantly. These fluctuations have been, or could be, in response to numerous factors, including:

• quarterly variations in our results of operations;

• announcements of technological innovations or new products by us, our customers or our competitors;

• changes in securities analysts’ recommendations;

• announcements of acquisitions;

• changes in earnings estimates made by independent analysts; and

• general stock market fluctuations.

Our revenues and results of operations for any given quarter or year may be below the expectations of public market securities analysts or investors. This could result in a sharp decline in the market price of our common stock. In July 2003, we announced that financial results for the fourth quarter of fiscal 2003, which ended June 30, 2003, and provided guidance for the first quarter of fiscal 2004 that was below the then current analyst consensus estimates for the first quarter of fiscal 2004. In the day following this announcement, our share price lost more than 37% of its value. Our shares continue to trade in a price range lower than the range held by our shares just prior to this announcement.

With the advent of the Internet, new avenues have been created for the dissemination of information. We do not have control over the information that is distributed and discussed on electronic bulletin boards and investment chat rooms. The motives of the people or organizations that distribute such information may not be in our best interest or in the interest of our shareholders. This, in addition to other forms of investment information, including newsletters and research publications, could result in a sharp decline in the market price of our common stock.

In addition, stock markets have from time to time experienced extreme price and volume fluctuations. The market prices for high technology companies have been particularly affected by these market fluctuations and such effects have often been unrelated to the operating performance of such companies. These broad market fluctuations may cause a decline in the market price of our common stock.

In the past, following periods of volatility in the market price of a company’s stock, securities class action litigation has been brought against the issuing company. This type of litigation has been brought against us in the past and could be brought against us in the future. Any such litigation could result in substantial costs and would likely divert management’s attention and resources from the day-to-day operations of our business. Any adverse determination in such litigation could also subject us to significant liabilities.

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We may be obligated to pay a purchase price adjustment in connection with our acquisition of certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc.

Pursuant to the Asset Purchase Agreement dated June 29, 2003 among us, SCM Microsystems, Inc. and Dazzle Multimedia, Inc., we acquired certain assets of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. in exchange for 1,866,851 shares of our common stock and agreed to register these shares for resale by SCM Microsystems. According to the terms of the Asset Purchase Agreement, in the event that the proceeds from the sale of shares of our common stock by SCM Microsystems exceed $21,550,000, SCM Microsystems would be required to pay us an amount equal to any proceeds in excess of such amount. However, in the event that the proceeds from the sale of shares of our common stock by SCM Microsystems amount to less than $21,550,000, we agreed to pay SCM Microsystems the difference between $21,550,000 and the proceeds received by SCM Microsystems in cash. Given the decline in the market price of our common stock since July 25, 2003, the closing date of the acquisition, we will most likely be obligated to make such a payment during the three months ending December 31, 2003. If we make this additional payment, it will be accounted for as a decrease in common stock.

If we do not compete effectively against other companies in our target markets, our business and results of operations will be harmed.

We compete in the broadcast, professional, business and consumer video production markets. Each of these markets is highly competitive and diverse, and the technologies for our products can change rapidly. The competitive nature of these markets results in pricing pressure and drives the need to incorporate product upgrades and accelerate the release of new products. New products are introduced frequently and existing products are continually enhanced. We anticipate increased competition in each of the broadcast, professional, business and consumer video production markets, particularly since the industry continues to undergo a period of rapid technological change and consolidation. Competition for our broadcast, professional, business and consumer video products is generally based on:

• product performance;

• breadth of product line;

• quality of service and support;

• market presence and brand awareness;

• price; and

• ability of competitors to develop new, higher performance, lower cost consumer video products.

Certain competitors in the broadcast, professional, business and consumer video markets have larger financial, technical, marketing, sales and customer support resources, greater name recognition and larger installed customer bases than we do. In addition, some competitors have established relationships with current and potential customers of ours, and offer a wide variety of video equipment that can be bundled in certain large system sales.

Our principal competitors in the broadcast and professional markets include:

Accom, Inc.

Avid Technology, Inc.

Chyron Corporation

Leitch Technology Corporation

Matsushita Electric Industrial Co. Ltd.

Media 100, Inc.

Quantel Ltd.

SeaChange Corporation

Sony Corporation

Thomson Multimedia

Our principal competitors in the business and consumer markets are:

Adobe Systems, Inc.

Apple Computer

Avid Technology, Inc.

Hauppauge Digital, Inc.

Matrox Electronics Systems, Ltd.

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Microsoft Corporation

Roxio, Inc.

Sony Corporation

These lists are not all-inclusive.

Increased competition in the broadcast, professional, business or consumer markets could result in price reductions, reduced margins and loss of market share. If we cannot compete effectively in these markets by offering products that are comparable in functionality, ease of use and price to those of our competitors, our revenues will decrease and our operating results will be adversely affected.

Because we sell products internationally, we are subject to additional risks.

Sales of our products outside of North America represented approximately 58.0% in the three months ended September 30, 2003 and 57.2% of net sales in the fiscal year ended June 30, 2003. We expect that international sales will continue to represent a significant portion of our net sales. We make foreign currency denominated sales in many, primarily European, countries. This exposes us to risks associated with currency exchange fluctuations. We expect that in fiscal 2004 and beyond, a majority of our European sales will continue to be denominated in local currencies, primarily the Euro. We have developed natural hedges for some of this risk since most of the European operating expenses are also denominated in local currency. As these local currencies, and especially the Euro, fluctuate in value against the U.S. dollar, our sales, cost of sales, expenses and income may fluctuate when translated back into U.S. dollars.

We attempt to minimize these foreign exchange exposures by taking advantage of natural hedge opportunities. In addition, we continually assess the need to use foreign currency forward exchange contracts to offset the risk associated with the effects of certain foreign currency exposures. In the year ended June 30, 2003, a change in value of one of our intercompany accounts resulted in a foreign currency remeasurement or transaction gain of $1.2 million, which we recorded as other income in our consolidated financial statements. We entered into forward contracts in June 2003 to mitigate the change in value of this intercompany account in the future and marked the forward exchange contracts to market through income in accordance with SFAS No. 133. In future periods, gains and losses on the contracts will materially offset the transaction gains and losses on remeasurement of this intercompany account. As of September 30, 2003, we had forward contracts to sell $15 million Euro at an average rate of 1.149. All forward contracts have durations of less than 15 months.

As of September 30, 2003, our cash and cash equivalents, restricted cash and short-term marketable securities balance totaled approximately $96.8 million, with approximately $70.3 million located in the U.S. and approximately $26.5 million located at international locations. Our cash balance from international operations included various foreign currencies, primarily the Euro, but also included the British Pound and Japanese Yen. Our operational structure is such that fluctuations in foreign exchange rates can impact and cause fluctuations in our cash balances.

In addition to foreign currency risks, our international sales and operations may also be subject to the following risks:

• unexpected changes in regulatory requirements;

• export license requirements;

• restrictions on the export of critical technology;

• political instability;

• trade restrictions;

• changes in tariffs;

• difficulties in staffing and managing international operations; and

• potential insolvency of international dealers and difficulty in collecting accounts.

We are also subject to the risks of changing economic conditions in other countries around the world. These risks may harm our future international sales and, consequently, our business.

If our products do not keep pace with the technological developments in the rapidly changing video production industry, our business may be materially adversely affected.

The video production industry is characterized by rapidly changing technology, evolving industry standards and frequent new product introductions. The introduction of products embodying new technologies or the emergence of new industry standards can render existing products obsolete or unmarketable. For example, the broadcast market is currently

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undergoing a transition from tape-based systems to information technology-based systems. Demand for our products may decrease if this transition slows or if we are unable to adapt to the next generation of industry standards. In addition, our future growth will depend, in part, upon our ability to introduce new features and increased functionality for our existing products, improve the performance of existing products, respond to our competitors’ new product offerings and adapt to new industry standards and requirements. Delays in the introduction or shipment of new or enhanced products, our inability to timely develop and introduce such new products, the failure of such products to gain significant market acceptance or problems associated with new product transitions could materially harm our business, particularly on a quarterly basis.

We are critically dependent on the successful introduction, market acceptance, manufacture and sale of new products that offer our customers additional features and enhanced performance at competitive prices. Once a new product is developed, we must rapidly commence volume production. This process requires accurate forecasting of customer requirements and attainment of acceptable manufacturing costs. The introduction of new or enhanced products also requires us to manage the transition from older, displaced products to minimize disruption in customer ordering patterns, avoid excessive levels of older product inventories and ensure that adequate supplies of new products can be delivered to meet customer demand. In addition, as is typical with any new product introduction, quality and reliability problems may arise. Any such problems could result in reduced bookings, manufacturing rework costs, delays in collecting accounts receivable, additional service warranty costs and limited market acceptance of the product.

We are dependent on contract manufacturers and single or limited source suppliers for our components. If these manufacturers and suppliers do not meet our demand, either in volume or quality, our business and financial condition could be materially harmed.

We rely on subcontractors to manufacture our professional and consumer products and the major subassemblies of our broadcast products. We and our manufacturing subcontractors are dependent upon single or limited source suppliers for a number of components and parts used in our products, including certain key integrated circuits. Our strategy to rely on subcontractors and single or limited source suppliers involves a number of significant risks, including:

• loss of control over the manufacturing process;

• potential absence of adequate manufacturing capacity;

• potential delays in lead times;

• unavailability of certain process technologies;

• reduced control over delivery schedules, manufacturing yields, quality and cost; and

• unexpected increases in component costs.

As a result of these risks, the financial stability of, and our continuing relationships with, our subcontractors and single or limited source suppliers are important to our success. If any significant subcontractor or single or limited source supplier becomes unable or unwilling to continue to manufacture these subassemblies or provide critical components in required volumes, we will have to identify and qualify acceptable replacements or redesign our products with different components. Additional sources may not be available and product redesign may not be feasible on a timely basis. This could materially harm our business. Any extended interruption in the supply of or increase in the cost of the products, subassemblies or components manufactured by third party subcontractors or suppliers could materially harm our business.

We may be unable to attract, retain and motivate key senior management and technical personnel, which could seriously harm our business.

If certain of our key senior management and technical personnel leave or are no longer able to perform services for us, this could materially and adversely affect our business. We believe that the efforts and abilities of our senior management and key technical personnel are very important to our continued success. As a result, our success is dependent upon our ability to attract and retain qualified technical and managerial personnel. We may not be able to retain our key technical and managerial employees or attract, assimilate and retain such other highly qualified technical and managerial personnel as are required in the future. For example, as of June 30, 2003, we had fewer than 2,000 shares available for option grants to our officers, as the proposal to increase the number of shares reserved under our 1996 Stock Option Plan was not approved by our shareholders at our 2002 Annual Meeting of Shareholders. Also, employees may leave our employ and subsequently compete against us, or contractors may perform services for competitors of ours. In addition, we paid no bonuses to executive officers during the second half of fiscal 2003 and do not expect to pay bonuses to any current executive officers for at least the first half of fiscal 2004. Although we believe this action is appropriate, given our recent financial performance, it puts us at a competitive disadvantage in relation to other companies that may be paying bonuses during this period of time. If we are unable to retain key personnel, our business could be materially harmed.

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In addition, on October 31, 2003, J. Kim Fennell resigned from his positions as President and Chief Executive Officer and a member of our Board of Directors. Charles J. Vaughan, a current member of our Board of Directors, has assumed the responsibilities of interim President and Chief Executive Officer. We are conducting a search for a successor President and Chief Executive Officer. If we are unable to attract a suitable successor to Mr. Vaughan or if we lose the services of Mr. Vaughan prior to hiring his successor, our business could be seriously harmed. We anticipate that the recruitment of a successor President and Chief Executive Officer will continue to require substantial attention and effort and place a significant burden on our Board of Directors and management personnel.

Any failure to successfully integrate the businesses we have acquired or which we acquire in the future could have an adverse effect on our business or results of operations.

Over the past three years, we have acquired a number of businesses and technologies and expect to continue to make acquisitions as part of our growth strategy. In July 2003, we acquired a 95% interest in Jungle KK, a privately held distribution company in Tokyo, Japan. In July 2003, we acquired certain assets and assumed certain liabilities of SCM Microsystems, Inc. and Dazzle Multimedia, Inc. In January 2003, we acquired all of the outstanding stock of Steinberg Media Technologies AG, based in Hamburg, Germany. In October 2002, we acquired all of the outstanding stock of VOB Computersysteme GmbH, based in Dortmund, Germany. In October 2001, we acquired the business and substantially all of the assets, and assumed certain liabilities, of FAST Multimedia Holdings Inc. and FAST Multimedia AG, based in Munich, Germany. In December 2000, we acquired DVD authoring technology from Minerva. In June 2000, we acquired Avid Sports, Inc. and Propel. In April 2000, we acquired Montage. In March 2000, we acquired DES and Puffin. In August 1999, we acquired the Video Communications Division of HP. We may in the near or long-term pursue additional acquisitions of complementary businesses, products or technologies. Integrating acquired operations is a complex, time-consuming and potentially expensive process. All acquisitions involve risks that could materially and adversely affect our business and operating results. These risks include:

• distracting management from the day-to-day operations of our business;

• costs, delays and inefficiencies associated with integrating acquired operations, products and personnel;

• difficulty in realizing the potential financial or strategic benefits of the transaction;

• difficulty in maintaining uniform standards, controls, procedures and policies;

• possible impairment of relationships with employees and customers as a result of the integration of new businesses and management personnel;

• potentially dilutive issuances of our equity securities; and

• incurring debt and amortization expenses related to goodwill and other intangible assets.

We may be adversely affected if we are subject to intellectual property disputes or litigation.

There has been substantial litigation regarding patent, trademark and other intellectual property rights involving technology companies. Companies are more frequently seeking to patent software and business methods because of developments in the law that may extend the ability to obtain such patents, which may result in an increase in the number of patent infringement claims. We are also exposed to litigation arising from disputes in the ordinary course of business. This litigation, regardless of its validity, may:

• be time-consuming and costly to defend;

• divert management’s attention away from the operation of our business;

• Subject us to significant liabilities;

• require us to enter into royalty and licensing agreements that we would not normally find acceptable; and

• require us to stop manufacturing or selling or to redesign our products.

Any of these results could materially harm our business.

In the course of business, we have received communications asserting that our products infringe patents or other intellectual property rights of third parties. We are currently investigating the factual basis of any such communications and will respond accordingly. It is likely that, in the course of our business, we will receive similar communications in the future. While it may be necessary or desirable in the future to obtain licenses relating to one or more of our products, or relating to current or future technologies, we may not be able to do so on commercially reasonable terms, or at all. These disputes may not be settled on commercially reasonable terms and may result in long and costly litigation. In the event there is a successful claim of patent infringement against us requiring us to pay royalties to a third party and we fail to develop or license a substitute technology, our business, results of operations or financial condition could be materially adversely affected. In cases where we may choose to avoid litigation and agree to certain royalty terms, the payment of those royalties could have a

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material impact on our financial results. The magnitude of such royalties would be even higher if they pertained to intellectual property contained within our consumer products since the volume and numbers of consumer products sold by the company have increased significantly during the last few years.

We may be adversely affected if we initiate intellectual property litigation.

It may be necessary for us to initiate litigation against other companies in order to protect the patents, copyrights, trade secrets, trademarks and other intellectual property rights owned by us. Such litigation can be costly and there can be no assurance that companies involved in such litigation would be prevented from using our intellectual property. In addition, such actions could:

• divert management’s attention away from the operation of our business;

• result in costly litigation that could materially affect our financial results; and

• result in the loss of our proprietary rights.

We may be unable to protect our proprietary information and procedures effectively.

We must protect our proprietary technology and operate without infringing the intellectual property rights of others. We rely on a combination of patent, copyright, trademark and trade secret laws and other intellectual property protection methods to protect our proprietary technology. In addition, we generally enter into confidentiality and nondisclosure agreements with our employees and OEM customers and limit access to, and distribution of, our proprietary technology. These steps may not adequately protect our proprietary information nor give us any competitive advantage. Others may independently develop substantially equivalent intellectual property (or otherwise gain access to our trade secrets or intellectual property), or disclose such intellectual property or trade secrets. Additionally, policing the unauthorized use of our proprietary technology is costly and time-consuming, and software piracy can be expected to be a persistent problem. If we are unable to protect our intellectual property, our business could be materially harmed.

We rely on independent distributors, dealers, VARs, OEMs, and retail chains to market, sell and distribute many of our products. In turn, we depend heavily on the success of these resellers. If these resellers are not successful in selling our products or if we are not successful in opening up new distribution channels, our financial performance will be negatively affected.

A significant portion of our sales are sourced, developed and closed through independent distributors, dealers, VARs, OEMs, and retail chains. We believe that these resellers have a substantial influence on customer purchase decisions, especially purchase decisions by large enterprise customers. These resellers may not effectively promote or market our products or may experience financial difficulties or even close operations. In addition, our dealers and retailers are not contractually obligated to sell our products. Therefore, they may, at any time, refuse to promote or distribute our products. Also, since many of our distribution arrangements are non-exclusive, our resellers may carry our competitors’ products and could discontinue our products in favor of our competitors’ products.

Also, since these distribution channels exist between us and the actual market, we may not be able to accurately gauge current demand for products and anticipate demand for newly introduced products. For example, dealers may place large initial orders for a new product based on their forecasted demand, which may or may not materialize.

With respect to consumer product offerings, we have expanded our distribution network to include several consumer channels, including large distributors of products to computer software and hardware retailers, which in turn sell products to end users. We also sell our consumer products directly to certain retailers. Our consumer product distribution network exposes us to the following risks, some of which are out of our control:

• we are obligated to provide price protection to our retailers and distributors and, while the agreements limit the conditions under which product can be returned to us, we may be faced with product returns or price protection obligations;

• these distributors or retailers may not continue to stock and sell our consumer products; and

• retailers and distributors often carry competing products.

As a result of these risks, we could experience unforeseen variability in our revenues and operating results.

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Excess or obsolete inventory, and overdue or uncollectible accounts receivables, could weaken our cash flow, harm our financial condition and results of operations and cause our stock price to fall.

The downturn in the global economy contributed to a reduced demand for some of our products in fiscal 2003. Although our sales increased in fiscal 2003 as compared to fiscal 2002, if the economy experiences a “double dip” recession or if our industry experiences a decline during fiscal 2004 or beyond, we may experience increased exposure to excess and obsolete inventories and higher overdue and uncollectible accounts receivables. If we fail to properly manage these inventory and accounts receivables risks, our cash flow may be weakened, and our financial position and results of operations could be harmed as a result. This, in turn, may cause our stock price to fall.

Recently enacted and proposed changes in securities laws and regulations are likely to increase our costs.

The Sarbanes-Oxley Act of 2002 along with other recent and proposed rules from the SEC and Nasdaq require changes in our corporate governance, public disclosure and compliance practices. Many of these new requirements will increase our legal and financial compliance costs, and make some corporate actions more difficult, such as proposing new or amendments to stock option plans, which now requires shareholder approval. These developments could make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These developments also could make it more difficult for us to attract and retain qualified executive officers and qualified members of our board of directors, particularly to serve on our audit committee.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Fixed Income Investments

Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio of marketable securities. We generally do not use derivative financial instruments for speculative or trading purposes. We invest primarily in United States Treasury Notes and high-grade commercial paper and generally hold them to maturity. Consequently, we do not expect any material loss with respect to our investment portfolio.

We do not use derivative financial instruments in our investment portfolio to manage interest rate risk. We do, however, limit our exposure to interest rate and credit risk by establishing and strictly monitoring clear policies and guidelines for our fixed income portfolios. At the present time, the maximum duration of all portfolios is two years. Our guidelines also establish credit quality standards, limits on exposure to any one issue as well as the type of instruments. Due to the limited duration and credit risk criteria established in our guidelines, we do not expect that our exposure to market and credit risk will be material.

Foreign Currency Hedging

Our exposure to foreign exchange rate fluctuations arises in part from intercompany accounts between the parent company in the United States and its foreign subsidiaries. These intercompany accounts are typically denominated in the functional currency of the foreign subsidiary in order to centralize foreign exchange risk with the parent company in the United States. We are also exposed to foreign exchange rate fluctuations as the financial results of foreign subsidiaries are translated into United States dollars for consolidation purposes. As exchange rates vary, these results, when translated, may vary from expectations and may adversely impact our overall financial results.

We attempt to minimize these foreign exchange exposures by taking advantage of natural hedge opportunities. In addition, we continually assess the need to use foreign currency forward exchange contracts to offset the risk associated with the effects of certain foreign currency exposures. In the year ended June 30, 2003, a change in value of one of our intercompany accounts resulted in a foreign currency remeasurement or transaction gain of $1.2 million, which we recorded as other income in our consolidated financial statements. We entered into forward exchange contracts in June 2003 to mitigate the change in value of this intercompany account in the future and marked the forward exchange contracts to market through income in accordance with SFAS No. 133. In future periods, gains and losses on the contracts will materially offset the transaction gains and losses on remeasurement of this intercompany account. As of September 30, 2003, we had forward contracts to sell $15 million Euro at an average rate of 1.149. All forward contracts have durations of less than 15 months.

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ITEM 4. CONTROLS AND PROCEDURES

(a) Evaluation of disclosure controls and procedures.

Our management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

(b) Changes in internal controls over financial reporting.

There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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PART II—OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

In September 2003, we were served with a complaint in YouCre8, a/k/a/ DVDCre8 v. Pinnacle Systems, Inc., Dazzle Multimedia, Inc., and SCM Microsystems, Inc. (Superior Court of California, Alameda County Case No. RG03114448). The complaint was filed by a software company whose software was distributed by Dazzle Multimedia (“Dazzle”). The complaint alleges that in connection with our acquisition of certain assets of Dazzle, we tortiously interfered with DVDCre8’s relationship with Dazzle and others, engaged in acts to restrain competition in the DVD software market, distributed false and misleading statements which caused harm to DVDCre8, misappropriated DVDCre8’s trade secrets, and engaged in unfair competition. The complaint seeks unspecified damages and injunctive relief. Pursuant to the SCM/Dazzle Asset Purchase Agreement, we are seeking indemnification from SCM and Dazzle for all or part of the damages and the expenses incurred to defend such claims. Although we believe that the claims by DVDCre8 are without merit and that we are entitled to indemnification in whole or in part for any damages and costs of defense, there can be no assurance that we will recover all or a portion of the damages assessed or expenses incurred.

In October 2002, we filed a claim against XOS Technologies, its principals, and certain former employees of ours and Avid Sports, Inc. in U.S. District Court for the Northern District of California (Case No. C—02-03804 RMW) arising out of XOS’s activities in the development, sale, and support of digital video systems. The complaint alleged misappropriation of our trade secrets, false advertising, and unfair business practices. On February 24, 2003, XOS filed counterclaims against us, alleging antitrust violations, slander, false advertising, and intentional interference with economic advantage. We moved to dismiss the counterclaims, and the court dismissed the false advertising and intentional interference with economic advantage claims, with leave to amend. On June 6, 2003, XOS filed an amended countercomplaint alleging the same causes of action. We again moved to dismiss and, on August 25, 2003, the court entered a ruling dismissing the economic advantage claim and one of the antitrust claims but not the false advertising claim. Our claims are expected to go to trial in early December 2003, and XOS’s claims are currently scheduled for trial in early 2004.

In August 2000, a lawsuit entitled Athle-Tech Computer Systems, Incorporated v. Montage Group, Ltd. (Montage) and Digital Editing Services, Inc. (DES), wholly owned subsidiaries of Pinnacle Systems, No. 00-005956-C1-021 was filed in the Sixth Judicial Circuit Court for Pinellas County, Florida (referred to as the “Athle-Tech Claim”). The Athle-Tech Claim alleges that Montage breached a software development agreement between Athle-Tech Computer Systems, Incorporated (Athle-Tech) and Montage. The Athle-Tech Claim also alleges that DES intentionally interfered with Athle-Tech’s claimed rights with respect to the Athle-Tech Agreement and was unjustly enriched as a result. Finally, Athle-Tech seeks a declaratory judgment against DES and Montage. During a trial in early February 2003, the court found that Montage and DES were liable to Athle-Tech on the Athle-Tech Claim. The jury rendered a verdict on several counts on February 13, 2003, and on April 4, 2003, the court entered a final judgment of $14.2 million (inclusive of prejudgment interest). On April 17, 2003, we posted a $16.0 million bond staying execution of the judgment pending appeal. We filed a notice of appeal in the case on May 1, 2003 and expect the appeals process to take approximately 18 months. We believe we are entitled, pursuant to the Montage and DES acquisition agreements, to indemnification from certain of the former shareholders of each of Montage and DES for all or at least a portion of the damages assessed against us in the Athle-Tech Claim. We intend to seek indemnification from certain of the former shareholders of Montage and have entered into a settlement agreement with a former shareholder of DES and Montage regarding such shareholder’s indemnification obligations. Although we believe we are entitled to indemnification for all or at least a portion of the damages assessed against us in the Athle-Tech Claim, there can be no assurance that we will recover all or a portion of these damages. The arbitration that may be required to adjudicate our claim for indemnification will likely be a time consuming and protracted process.

In March 2000, we acquired DES. Pursuant to the Agreement and Plan of Merger dated as of March 29, 2000 between DES, 1117 Acquisition Corporation, the former DES shareholders and the Company, the former DES shareholders were entitled to an earnout payable in shares of our common stock if the DES operating profits exceeded at least 10% of the DES revenues during the period from March 30, 2000 until March 30, 2001. In October 2000, we entered into an amendment to the DES Agreement and Plan of Merger with the former DES shareholders to provide for an earnout based on the combined revenues, expenses and operating profits of DES and Avid Sports, Inc. due to the combination of the DES and Avid Sports, Inc. divisions in July 2000. In April 2001, we determined that no earnout payment was payable. In May 2001, the former DES shareholders asserted that an earnout payment was payable. In accordance with the DES Agreement and Plan of Merger, in October 2001 the parties submitted this matter to an independent arbitrator. Currently, the DES earnout arbitration is ongoing. The parties have submitted their positions to the arbitrator and are awaiting a decision. Although we do not know exactly when the ruling will be made, it could be made during the second quarter of fiscal 2004. In November

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2003, we and a former DES shareholder entered into a settlement agreement, which may affect the earnout payment. We have not accrued any liability related to this contingency since a liability cannot be reasonably estimated.

From time to time, in addition to those identified above, we are subject to legal proceedings, claims, investigations and proceedings in the ordinary course of business, including claims of alleged infringement of third-party patents and other intellectual property rights, commercial, employment and other matters. In accordance with SFAS No. 5, “Accounting for Contingencies,” we make a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impacts of negotiations, settlements, rulings, advice of legal counsel, and other information and events pertaining to a particular case. Litigation is inherently unpredictable. However, we believe that we have adequate legal defenses with respect to the legal matters pending against it. It is possible, nevertheless, that cash flows or results of operations could be affected in any particular period by the resolution of one or more of these contingencies.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits

Number	Description
10.69	2004 Employee Stock Purchase Plan and form of agreement thereto
10.70	Transition Employment Agreement dated as of November 1, 2003 between J. Kim Fennell and Pinnacle Systems, Inc.
31.1	Certifications of Chief Executive Officer under Rule 13a–14(a)
31.2	Certifications of Chief Financial Officer under Rule 13a–14(a)
32.1	Certifications of Chief Executive Officer and Chief Financial Officer under Rule 13a–14(b)

(b) Reports on Form 8-K

On July 29, 2003, we furnished a Current Report on Form 8-K reporting under Item 12 of Form 8-K that on July 29, 2003, we were issuing a press release and holding a conference call regarding our financial results for the three months ended June 30, 2003.

On August 8, 2003, we filed a Current Report on Form 8-K reporting under Item 5 of Form 8-K that on July 25, 2003, pursuant to that certain Asset Purchase Agreement, dated as of June 29, 2003 by and among SCM Microsystems, Inc., a Delaware corporation (“SCM”), and Dazzle Multimedia, Inc., a Delaware corporation sometimes doing business as “Dazzle, Inc.” and wholly owned subsidiary of SCM, on the one hand, and us, on the other hand, we completed our acquisition of the digital video business of SCM.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

PINNACLE SYSTEMS, INC.

Date: November 12, 2003

By:	/s/    CHARLES J. VAUGHAN
	Charles J. Vaughan President and Chief Executive Officer

Date: November 12, 2003

By:	/s/    ARTHUR D. CHADWICK
	Arthur D. Chadwick Vice President, Finance and Administration and Chief Financial Officer

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INDEX TO EXHIBITS

Number	Description
10.69	2004 Employee Stock Purchase Plan and form of agreement thereto
10.70	Transition Employment Agreement dated as of November 1, 2003 between J. Kim Fennell and Pinnacle Systems, Inc.
31.1	Certifications of Chief Executive Officer under Rule 13a–14(a)
31.2	Certifications of Chief Financial Officer under Rule 13a–14(a)
32.1	Certifications of Chief Executive Officer and Chief Financial Officer under Rule 13a–14(b)

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EX-10.69

EXHIBIT 10.69

PINNACLE SYSTEMS, INC.

2004 EMPLOYEE STOCK PURCHASE PLAN

The following constitute the provisions of the Employee Stock Purchase Plan of Pinnacle Systems, Inc.

1. Purpose. The purpose of the Plan is to provide employees of the Company and its Designated Subsidiaries with an opportunity to purchase Common Stock of the Company through accumulated payroll deductions. It is the intention of the Company to have the Plan qualify as an “Employee Stock Purchase Plan” under Section 423 of the Code. The provisions of the Plan, accordingly, shall be construed so as to extend and limit participation in a uniform and nondiscriminatory basis consistent with the requirements of Section 423.

2. Definitions.

(a) “Administrator” shall mean the Board or any Committee designated by the Board to administer the Plan pursuant to Section 14.

(b) “Board” shall mean the Board of Directors of the Company.

(c) “Change of Control” shall mean the occurrence of any of the following events:

(i) Any “person” (as such term is used in Sections 13(d) and 14(d) of the Exchange Act) becomes the “beneficial owner” (as defined in Rule 13d-3 of the Exchange Act), directly or indirectly, of securities of the Company representing fifty percent (50%) or more of the total voting power represented by the Company’s then outstanding voting securities; or

(ii) The consummation of the sale or disposition by the Company of all or substantially all of the Company’s assets; or

(iii) The consummation of a merger or consolidation of the Company, with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity or its parent) at least fifty percent (50%) of the total voting power represented by the voting securities of the Company, or such surviving entity or its parent outstanding immediately after such merger or consolidation.

(iv) A change in the composition of the Board, as a result of which fewer than a majority of the Directors are Incumbent Directors. “Incumbent Directors” shall mean Directors who either (A) are Directors of the Company, as applicable, as of the date hereof, or (B) are elected, or nominated for election, to the Board with the affirmative votes of at least a majority of those Directors whose election or nomination was not in connection with any transaction described in subsections (i), (ii) or (iii) or in connection with an actual or threatened proxy contest relating to the election of Directors of the Company.

(d) “Code” shall mean the Internal Revenue Code of 1986, as amended.

(e) “Committee” means a committee of the Board appointed by the Board in accordance with Section 14 hereof.

(f) “Common Stock” shall mean the common stock of the Company.

(g) “Company” shall mean Pinnacle Systems, Inc.

(h) “Compensation” shall mean all base straight time gross earnings, excluding commissions, payments for overtime, shift premium, variable compensation, incentive payments, bonuses, and other cash compensation.

(i) “Designated Subsidiary” shall mean any Subsidiary selected by the Administrator as eligible to participate in the Plan.

(j) “Director” shall mean a member of the Board.

(k) “Eligible Employee” shall mean any individual who is a common law employee of the Company or any Designated Subsidiary and whose customary employment with the Company or Designated Subsidiary is at least twenty (20) hours per week and more than five (5) months in any calendar year. For purposes of the Plan, the employment relationship shall be treated as continuing intact while the individual is on sick leave or other leave of absence approved by the Company. Where the period of leave exceeds 90 days and the individual’s right to reemployment is not guaranteed either by statute or by contract, the employment relationship shall be deemed to have terminated on the 91st day of such leave.

(l) “Exchange Act” shall mean the Securities Exchange Act of 1934, as amended.

(m) “Exercise Date” shall mean the first Trading Day on or after May 1 and November 1 of each year. The first Exercise Date under the Plan shall be May 1, 2005.

(n) “Fair Market Value” shall mean, as of any date, the value of Common Stock determined as follows:

(i) If the Common Stock is listed on any established stock exchange or a national market system, including without limitation the Nasdaq National Market or The Nasdaq SmallCap Market of The Nasdaq Stock Market, its Fair Market Value shall be the closing sales price for such stock (or the closing bid, if no sales were reported) as quoted on such exchange or system on the date of determination, as reported in The Wall Street Journal or such other source as the Board deems reliable;

(ii) If the Common Stock is regularly quoted by a recognized securities dealer but selling prices are not reported, its Fair Market Value shall be the mean of the closing bid and asked prices for the Common Stock on the date of determination, as reported in The Wall Street Journal or such other source as the Board deems reliable; or

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(iii) In the absence of an established market for the Common Stock, the Fair Market Value thereof shall be determined in good faith by the Board.

(o) “Offering Date” shall mean the first Trading Day of each Offering Period.

(p) “Offering Periods” shall mean the periods of approximately twenty-four (24) months during which an option granted pursuant to the Plan may be exercised, commencing on the first Trading Day on or after May 1 and November 1 of each year and terminating on the May 1 and November 1 Offering Period commencement date approximately twenty-four months later; provided, however, that the first Offering Period under the Plan shall commence on the first Trading Day on or after August 24, 2004 and end on the first Trading Day on or after November 1, 2006, and the second Offering Period under the Plan shall commence on the first Trading Day on or after May 1, 2005 and end on the first Trading Day on or after May 1, 2007. The duration and timing of Offering Periods may be changed pursuant to Section 4 of this Plan.

(q) “Plan” shall mean this Employee Stock Purchase Plan.

(r) “Purchase Period” shall mean the approximately six (6) month period commencing on one Exercise Date and ending with the next Exercise Date, except that the first Purchase Period of any Offering Period shall commence on the Offering Date and end with the next Exercise Date.

(s) “Purchase Price” shall mean 85% of the Fair Market Value of a share of Common Stock on the Offering Date or on the Exercise Date, whichever is lower; provided however, that the Purchase Price may be adjusted by the Administrator pursuant to Section 20.

(t) “Subsidiary” shall mean a “subsidiary corporation,” whether now or hereafter existing, as defined in Section 424(f) of the Code.

(u) “Trading Day” shall mean a day on which national stock exchanges and the Nasdaq System are open for trading.

3. Eligibility.

(a) First Offering Period. Any individual who is enrolled in the Company’s 1994 Employee Stock Purchase Plan shall be automatically enrolled in the first Offering Period with payroll deductions commencing at the same rate as specified in such individual’s most recent subscription agreement submitted to the Company.

(b) Subsequent Offering Periods. Any Eligible Employee on a given Offering Date shall be eligible to participate in the Plan.

(c) Limitations. Any provisions of the Plan to the contrary notwithstanding, no Eligible Employee shall be granted an option under the Plan (i) to the extent that, immediately after the grant, such Eligible Employee (or any other person whose stock would be attributed to such

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Eligible Employee pursuant to Section 424(d) of the Code) would own capital stock of the Company and/or hold outstanding options to purchase such stock possessing five percent (5%) or more of the total combined voting power or value of all classes of the capital stock of the Company or of any Subsidiary, or (ii) to the extent that his or her rights to purchase stock under all employee stock purchase plans of the Company and its subsidiaries accrues at a rate which exceeds Twenty-Five Thousand Dollars ($25,000) worth of stock (determined at the fair market value of the shares at the time such option is granted) for each calendar year in which such option is outstanding at any time.

4. Offering Periods. The Plan shall be implemented by consecutive, overlapping Offering Periods with a new Offering Period commencing on the first Trading Day on or after May 1 and November 1 each year, or on such other date as the Board shall determine, and continuing thereafter until terminated in accordance with Section 20 hereof. The Board shall have the power to change the duration of Offering Periods (including the commencement dates thereof) with respect to future offerings without shareholder approval if such change is announced prior to the scheduled beginning of the first Offering Period to be affected thereafter.

5. Participation. An Eligible Employee may become a participant in the Plan by completing a subscription agreement authorizing payroll deductions in the form of Exhibit A to this Plan and filing it with the Company’s payroll office prior to the applicable Offering Date.

6. Payroll Deductions.

(a) At the time a participant files his or her subscription agreement, he or she shall elect to have payroll deductions made on each pay day during the Offering Period in an amount not exceeding 15% of the Compensation which he or she receives on each pay day during the Offering Period; provided, however, that should a pay day occur on an Exercise Date, a participant shall have the payroll deductions made on such day applied to his or her account under the new Offering Period or Purchase Period, as the case may be. A participant’s subscription agreement shall remain in effect for successive Offering Periods unless terminated as provided in Section 10 hereof.

(b) Payroll deductions for a participant shall commence on the first payday following the Offering Date and shall end on the last payday in the Offering Period to which such authorization is applicable, unless sooner terminated by the participant as provided in Section 10 hereof.

(c) All payroll deductions made for a participant shall be credited to his or her account under the Plan and shall be withheld in whole percentages only. A participant may not make any additional payments into such account.

(d) A participant may discontinue his or her participation in the Plan as provided in Section 10 hereof, or may increase or decrease the rate of his or her payroll deductions during the Offering Period by completing or filing with the Company a new subscription agreement authorizing a change in payroll deduction rate. The Administrator may, in its discretion, limit the nature and/or number of participation rate changes during any Offering Period. The change in rate shall be effective with the first full payroll period following five (5) business days after the Company’s receipt of the new subscription agreement unless the Company elects to process a given change in participation more quickly.

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(e) Notwithstanding the foregoing, to the extent necessary to comply with Section 423(b)(8) of the Code and Section 3(c) hereof, a participant’s payroll deductions may be decreased to zero percent (0%) at any time during a Purchase Period. Payroll deductions shall recommence at the rate provided in such participant’s subscription agreement at the beginning of the first Purchase Period which is scheduled to end in the following calendar year, unless terminated by the participant as provided in Section 10 hereof.

(f) At the time the option is exercised, in whole or in part, or at the time some or all of the Company’s Common Stock issued under the Plan is disposed of, the participant must make adequate provision for the Company’s federal, state, or other tax withholding obligations, if any, which arise upon the exercise of the option or the disposition of the Common Stock. At any time, the Company may, but shall not be obligated to, withhold from the participant’s compensation the amount necessary for the Company to meet applicable withholding obligations, including any withholding required to make available to the Company any tax deductions or benefits attributable to sale or early disposition of Common Stock by the Eligible Employee.

7. Grant of Option. On the Offering Date of each Offering Period, each Eligible Employee participating in such Offering Period shall be granted an option to purchase on each Exercise Date during such Offering Period (at the applicable Purchase Price) up to a number of shares of the Company’s Common Stock determined by dividing such Eligible Employee’s payroll deductions accumulated prior to such Exercise Date and retained in the Participant’s account as of the Exercise Date by the applicable Purchase Price; provided that in no event shall an Eligible Employee be permitted to purchase during each Purchase Period more than 5,000 shares of the Company’s Common Stock (subject to any adjustment pursuant to Section 19), and provided further that such purchase shall be subject to the limitations set forth in Sections 3(c) and 12 hereof. The Eligible Employee may accept the grant of such option by turning in a completed Subscription Agreement (attached hereto as Exhibit A) to the Company on or prior to an Offering Date. The Administrator may, for future Offering Periods, increase or decrease, in its absolute discretion, the maximum number of shares of the Company’s Common Stock an Eligible Employee may purchase during each Purchase Period of such Offering Period. Exercise of the option shall occur as provided in Section 8 hereof, unless the participant has withdrawn pursuant to Section 10 hereof. The option shall expire on the last day of the Offering Period.

8. Exercise of Option.

(a) Unless a participant withdraws from the Plan as provided in Section 10 hereof, his or her option for the purchase of shares shall be exercised automatically on the Exercise Date, and the maximum number of full shares subject to option shall be purchased for such participant at the applicable Purchase Price with the accumulated payroll deductions in his or her account. No fractional shares shall be purchased; any payroll deductions accumulated in a participant’s account which are not sufficient to purchase a full share shall be retained in the participant’s account for the subsequent Purchase Period or Offering Period, subject to earlier withdrawal by the participant as provided in Section 10 hereof. Any other funds left over in a participant’s account after the Exercise Date shall be returned to the participant. During a participant’s lifetime, a participant’s option to purchase shares hereunder is exercisable only by him or her.

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(b) If the Administrator determines that, on a given Exercise Date, the number of shares with respect to which options are to be exercised may exceed (i) the number of shares of Common Stock that were available for sale under the Plan on the Offering Date of the applicable Offering Period, or (ii) the number of shares available for sale under the Plan on such Exercise Date, the Administrator may in its sole discretion (x) provide that the Company shall make a pro rata allocation of the shares of Common Stock available for purchase on such Offering Date or Exercise Date, as applicable, in as uniform a manner as shall be practicable and as it shall determine in its sole discretion to be equitable among all participants exercising options to purchase Common Stock on such Exercise Date, and continue all Offering Periods then in effect, or (y) provide that the Company shall make a pro rata allocation of the shares available for purchase on such Offering Date or Exercise Date, as applicable, in as uniform a manner as shall be practicable and as it shall determine in its sole discretion to be equitable among all participants exercising options to purchase Common Stock on such Exercise Date, and terminate any or all Offering Periods then in effect pursuant to Section 20 hereof. The Company may make pro rata allocation of the shares available on the Offering Date of any applicable Offering Period pursuant to the preceding sentence, notwithstanding any authorization of additional shares for issuance under the Plan by the Company’s shareholders subsequent to such Offering Date.

9. Delivery. As soon as reasonably practicable after each Exercise Date on which a purchase of shares occurs, the Company shall arrange the delivery to each participant of the shares purchased upon exercise of his or her option in a form determined by the Administrator.

10. Withdrawal.

(a) A participant may withdraw all but not less than all the payroll deductions credited to his or her account and not yet used to exercise his or her option under the Plan at any time by giving written notice to the Company in the form of Exhibit B to this Plan. All of the participant’s payroll deductions credited to his or her account shall be paid to such participant promptly after receipt of notice of withdrawal and such participant’s option for the Offering Period shall be automatically terminated, and no further payroll deductions for the purchase of shares shall be made for such Offering Period. If a participant withdraws from an Offering Period, payroll deductions shall not resume at the beginning of the succeeding Offering Period unless the participant delivers to the Company a new subscription agreement.

(b) A participant’s withdrawal from an Offering Period shall not have any effect upon his or her eligibility to participate in any similar plan which may hereafter be adopted by the Company or in succeeding Offering Periods which commence after the termination of the Offering Period from which the participant withdraws.

11. Termination of Employment. In the event a participant ceases to be an Eligible Employee of the Company or any Designated Subsidiary, as applicable, his or her option automatically shall terminate on the date of such Eligible Employee’s termination. Any payroll deductions credited to such participant’s account during the Offering Period but not yet used to purchase shares under the Plan shall be returned to such participant or, in the case of his or her death, to the person or persons entitled thereto under Section 15 hereof, and such participant’s option shall be automatically terminated.

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12. Interest. No interest shall accrue on the payroll deductions of a participant in the Plan.

13. Stock.

(a) Subject to adjustment upon changes in capitalization of the Company as provided in Section 19 hereof, the maximum number of shares of the Company’s Common Stock that shall be made available for sale under the Plan shall be the number of shares that would have been authorized but unissued under the Company’s 1994 Employee Stock Purchase Plan (the “1994 Plan”) as of August 24, 2004 had the 1994 Plan not terminated.

(b) Until the shares are issued (as evidenced by the appropriate entry on the books of the Company or of a duly authorized transfer agent of the Company), a participant shall only have the rights of an unsecured creditor with respect to such shares, and no right to vote or receive dividends or any other rights as a stockholder shall exist with respect to such shares.

(c) Shares to be delivered to a participant under the Plan shall be registered in the name of the participant or in the name of the participant and his or her spouse.

14. Administration. The Administrator shall administer the Plan and shall have full and exclusive discretionary authority to construe, interpret and apply the terms of the Plan, to determine eligibility and to adjudicate all disputed claims filed under the Plan. Every finding, decision and determination made by the Administrator shall, to the full extent permitted by law, be final and binding upon all parties.

15. Designation of Beneficiary.

(a) A participant may file a written designation of a beneficiary who is to receive any shares and cash, if any, from the participant’s account under the Plan in the event of such participant’s death subsequent to an Exercise Date on which the option is exercised but prior to delivery to such participant of such shares and cash. In addition, a participant may file a written designation of a beneficiary who is to receive any cash from the participant’s account under the Plan in the event of such participant’s death prior to exercise of the option. If a participant is married and the designated beneficiary is not the spouse, spousal consent shall be required for such designation to be effective.

(b) Such designation of beneficiary may be changed by the participant at any time by written notice. In the event of the death of a participant and in the absence of a beneficiary validly designated under the Plan who is living at the time of such participant’s death, the Company shall deliver such shares and/or cash to the executor or administrator of the estate of the participant, or if no such executor or administrator has been appointed (to the knowledge of the Company), the Company, in its discretion, may deliver such shares and/or cash to the spouse or to any one or more dependents or relatives of the participant, or if no spouse, dependent or relative is known to the Company, then to such other person as the Company may designate.

(c) All beneficiary designations shall be in such form and manner as the Administrator may designate from time to time.

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16. Transferability. Neither payroll deductions credited to a participant’s account nor any rights with regard to the exercise of an option or to receive shares under the Plan may be assigned, transferred, pledged or otherwise disposed of in any way (other than by will, the laws of descent and distribution or as provided in Section 15 hereof) by the participant. Any such attempt at assignment, transfer, pledge or other disposition shall be without effect, except that the Company may treat such act as an election to withdraw funds from an Offering Period in accordance with Section 10 hereof.

17. Use of Funds. All payroll deductions received or held by the Company under the Plan may be used by the Company for any corporate purpose, and the Company shall not be obligated to segregate such payroll deductions. Until shares are issued, participants shall only have the rights of an unsecured creditor.

18. Reports. Individual accounts shall be maintained for each participant in the Plan. Statements of account shall be given to participating Eligible Employees at least annually, which statements shall set forth the amounts of payroll deductions, the Purchase Price, the number of shares purchased and the remaining cash balance, if any.

19. Adjustments Upon Changes in Capitalization, Dissolution, Liquidation, Merger or Change of Control.

(a) Changes in Capitalization. Subject to any required action by the shareholders of the Company, the maximum number of shares of the Company’s Common Stock which shall be made available for sale under the Plan, the maximum number of shares each participant may purchase each Purchase Period (pursuant to Section 7), the number of shares that may be added annually to the shares reserved under the Plan (pursuant to Section 13(a)(i)), as well as the price per share and the number of shares of Common Stock covered by each option under the Plan which has not yet been exercised shall be proportionately adjusted for any increase or decrease in the number of issued shares of Common Stock resulting from a stock split, reverse stock split, stock dividend, combination or reclassification of the Common Stock, or any other change in the number of shares of Common Stock effected without receipt of consideration by the Company; provided, however, that conversion of any convertible securities of the Company shall not be deemed to have been “effected without receipt of consideration.” Such adjustment shall be made by the Administrator, whose determination in that respect shall be final, binding and conclusive. Except as expressly provided herein, no issuance by the Company of shares of stock of any class, or securities convertible into shares of stock of any class, shall affect, and no adjustment by reason thereof shall be made with respect to, the number or price of shares of Common Stock subject to an option.

(b) Dissolution or Liquidation. In the event of the proposed dissolution or liquidation of the Company, the Offering Period then in progress shall be shortened by setting a new Exercise Date (the “New Exercise Date”), and shall terminate immediately prior to the consummation of such proposed dissolution or liquidation, unless provided otherwise by the Administrator. The New Exercise Date shall be before the date of the Company’s proposed dissolution or liquidation. The Administrator shall notify each participant in writing, at least ten (10) business days prior to the New Exercise Date, that the Exercise Date for the participant’s option has been changed to the New Exercise Date and that the participant’s option shall be exercised automatically on the New Exercise Date, unless prior to such date the participant has withdrawn from the Offering Period as provided in Section 10 hereof.

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(c) Merger or Change of Control. In the event of a merger or Change of Control, each outstanding option shall be assumed or an equivalent option substituted by the successor corporation or a Parent or Subsidiary of the successor corporation. In the event that the successor corporation refuses to assume or substitute for the option, any Purchase Periods then in progress shall be shortened by setting a New Exercise Date and any Offering Periods then in progress shall end on the New Exercise Date. The New Exercise Date shall be before the date of the Company’s proposed merger or Change of Control. The Administrator shall notify each participant in writing, at least ten (10) business days prior to the New Exercise Date, that the Exercise Date for the participant’s option has been changed to the New Exercise Date and that the participant’s option shall be exercised automatically on the New Exercise Date, unless prior to such date the participant has withdrawn from the Offering Period as provided in Section 10 hereof.

20. Amendment or Termination.

(a) The Administrator may at any time and for any reason terminate or amend the Plan. Except as otherwise provided in the Plan, no such termination can affect options previously granted, provided that an Offering Period may be terminated by the Administrator on any Exercise Date if the Administrator determines that the termination of the Offering Period or the Plan is in the best interests of the Company and its shareholders. Except as provided in Section 19 and this Section 20 hereof, no amendment may make any change in any option theretofore granted which adversely affects the rights of any participant. To the extent necessary to comply with Section 423 of the Code (or any successor rule or provision or any other applicable law, regulation or stock exchange rule), the Company shall obtain shareholder approval in such a manner and to such a degree as required.

(b) Without shareholder consent and without regard to whether any participant rights may be considered to have been “adversely affected,” the Administrator shall be entitled to change the Offering Periods, limit the frequency and/or number of changes in the amount withheld during an Offering Period, establish the exchange ratio applicable to amounts withheld in a currency other than U.S. dollars, permit payroll withholding in excess of the amount designated by a participant in order to adjust for delays or mistakes in the Company’s processing of properly completed withholding elections, establish reasonable waiting and adjustment periods and/or accounting and crediting procedures to ensure that amounts applied toward the purchase of Common Stock for each participant properly correspond with amounts withheld from the participant’s Compensation, and establish such other limitations or procedures as the Administrator determines in its sole discretion advisable which are consistent with the Plan.

(c) In the event the Administrator determines that the ongoing operation of the Plan may result in unfavorable financial accounting consequences, the Board may, in its discretion and, to the extent necessary or desirable, modify or amend the Plan to reduce or eliminate such accounting consequence including, but not limited to:

(i) increasing the Purchase Price for any Offering Period including an Offering Period underway at the time of the change in Purchase Price;

(ii) shortening any Offering Period so that Offering Period ends on a new Exercise Date, including an Offering Period underway at the time of the Board action; and

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(iii) allocating shares.

Such modifications or amendments shall not require stockholder approval or the consent of any Plan participants.

21. Notices. All notices or other communications by a participant to the Company under or in connection with the Plan shall be deemed to have been duly given when received in the form and manner specified by the Company at the location, or by the person, designated by the Company for the receipt thereof.

22. Conditions Upon Issuance of Shares. Shares shall not be issued with respect to an option unless the exercise of such option and the issuance and delivery of such shares pursuant thereto shall comply with all applicable provisions of law, domestic or foreign, including, without limitation, the Securities Act of 1933, as amended, the Exchange Act, the rules and regulations promulgated thereunder, and the requirements of any stock exchange upon which the shares may then be listed, and shall be further subject to the approval of counsel for the Company with respect to such compliance.

As a condition to the exercise of an option, the Company may require the person exercising such option to represent and warrant at the time of any such exercise that the shares are being purchased only for investment and without any present intention to sell or distribute such shares if, in the opinion of counsel for the Company, such a representation is required by any of the aforementioned applicable provisions of law.

23. Term of Plan. The Plan shall become effective upon the earlier to occur of its adoption by the Board of Directors or its approval by the shareholders of the Company. It shall continue in effect until terminated under Section 20 hereof.

24. Automatic Transfer to Low Price Offering Period. To the extent permitted by any applicable laws, regulations, or stock exchange rules if the Fair Market Value of the Common Stock on any Exercise Date in an Offering Period is lower than the Fair Market Value of the Common Stock on the Offering Date of such Offering Period, then all participants in such Offering Period shall be automatically withdrawn from such Offering Period immediately after the exercise of their option on such Exercise Date and automatically re-enrolled in the immediately following Offering Period.

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EXHIBIT A

PINNACLE SYSTEMS, INC.

2004 EMPLOYEE STOCK PURCHASE PLAN

SUBSCRIPTION AGREEMENT

Original Application	Offering Date:
Change in Payroll Deduction Rate
Change of Beneficiary(ies)

1.                                           hereby elects to participate in the Pinnacle Systems, Inc. 2004 Employee Stock Purchase Plan (the “Employee Stock Purchase Plan”) and subscribes to purchase shares of the Company’s Common Stock in accordance with this Subscription Agreement and the Employee Stock Purchase Plan.

2. I hereby authorize payroll deductions from each paycheck in the amount of         % of my Compensation on each payday (from 0 to 15%) during the Offering Period in accordance with the Employee Stock Purchase Plan. (Please note that no fractional percentages are permitted.)

3. I understand that said payroll deductions shall be accumulated for the purchase of shares of Common Stock at the applicable Purchase Price determined in accordance with the Employee Stock Purchase Plan. I understand that if I do not withdraw from an Offering Period, any accumulated payroll deductions will be used to automatically exercise my option.

4. I have received a copy of the complete Employee Stock Purchase Plan. I understand that my participation in the Employee Stock Purchase Plan is in all respects subject to the terms of the Plan. I understand that my ability to exercise the option under this Subscription Agreement is subject to shareholder approval of the Employee Stock Purchase Plan.

5. Shares purchased for me under the Employee Stock Purchase Plan should be issued in the name(s) of (Eligible Employee or Eligible Employee and Spouse only).

6. I understand that if I dispose of any shares received by me pursuant to the Plan within 2 years after the Offering Date (the first day of the Offering Period during which I purchased such shares) or one year after the Exercise Date, I will be treated for federal income tax purposes as having received ordinary income at the time of such disposition in an amount equal to the excess of the fair market value of the shares at the time such shares were purchased by me over the price which I paid for the shares. I hereby agree to notify the Company in writing within 30 days after the date of any disposition of my shares and I will make adequate provision for Federal, state or other tax withholding obligations, if any, which arise upon the

disposition of the Common Stock. The Company may, but will not be obligated to, withhold from my compensation the amount necessary to meet any applicable withholding obligation including any withholding necessary to make available to the Company any tax deductions or benefits attributable to sale or early disposition of Common Stock by me. If I dispose of such shares at any time after the expiration of the 2-year and 1-year holding periods, I understand that I will be treated for federal income tax purposes as having received income only at the time of such disposition, and that such income will be taxed as ordinary income only to the extent of an amount equal to the lesser of (1) the excess of the fair market value of the shares at the time of such disposition over the purchase price which I paid for the shares, or (2) 15% of the fair market value of the shares on the first day of the Offering Period. The remainder of the gain, if any, recognized on such disposition will be taxed as capital gain.

7. I hereby agree to be bound by the terms of the Employee Stock Purchase Plan. The effectiveness of this Subscription Agreement is dependent upon my eligibility to participate in the Employee Stock Purchase Plan.

8. In the event of my death, I hereby designate the following as my beneficiary(ies) to receive all payments and shares due me under the Employee Stock Purchase Plan:

NAME: (Please print)
	(First)	(Middle)	(Last)
Relationship
Percentage Benefit		(Address)
NAME: (please print)
	(First)	(Middle)	(Last)
Relationship
Percentage of Benefit		(Address)

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Employee’s Social

Security Number:

Employee’s Address:

I UNDERSTAND THAT THIS SUBSCRIPTION AGREEMENT SHALL REMAIN IN EFFECT THROUGHOUT SUCCESSIVE OFFERING PERIODS UNLESS TERMINATED BY ME.

Dated:
	Signature of Employee
	Spouse’s Signature (If beneficiary other than spouse)

EXHIBIT B

PINNACLE SYSTEMS, INC.

2004 EMPLOYEE STOCK PURCHASE PLAN

NOTICE OF WITHDRAWAL

The undersigned participant in the Offering Period of the Pinnacle Systems, Inc. 2004 Employee Stock Purchase Plan which began on                     ,              (the “Offering Date”) hereby notifies the Company that he or she hereby withdraws from the Offering Period. He or she hereby directs the Company to pay to the undersigned as promptly as practicable all the payroll deductions credited to his or her account with respect to such Offering Period. The undersigned understands and agrees that his or her option for such Offering Period will be automatically terminated. The undersigned understands further that no further payroll deductions will be made for the purchase of shares in the current Offering Period and the undersigned shall be eligible to participate in succeeding Offering Periods only by delivering to the Company a new Subscription Agreement.

Name and Address of Participant:

Signature:

Date:

EX-10.70

EXHIBIT 10.70

PINNACLE SYSTEMS, INC.

TRANSITION EMPLOYMENT AGREEMENT

This Agreement (the “Agreement”) is made and entered into effective as of November 1, 2003 (the “Start Date”), by and between Pinnacle Systems, Inc., a California corporation (the ”Company”), and J. Kim Fennell (the “Employee”).

WHEREAS, the Company and the Employee entered into an Offer Letter and Employment Contract dated as of June 18, 2002 (the “Offer Letter”);

WHEREAS, the Employee was employed by the Company as its President and Chief Executive Officer and served as a member of the Company’s Board of Directors;

WHEREAS, the Employee has resigned from his position as the President and Chief Executive Officer and his director position with the Company effective October 31, 2003;

WHEREAS, the Company and the Employee entered into a Change of Control Severance Agreement dated as of January 30, 2003 (the “Severance Agreement”);

WHEREAS, the Company and the Employee have entered into certain written stock option agreements to purchase common stock of the Company pursuant to the Company’s 1996 Stock Option Plan and 1996 Supplemental Stock Option Plan (the “Stock Agreements”);

WHEREAS, the Company and the Employee entered into an Employment, Confidential Information and Invention Assignment Agreement (the “Confidentiality Agreement”);

WHEREAS, the Company and the Employee desire to enter into this Agreement which supersedes and replaces the Offer Letter and the Severance Agreement;

NOW THEREFORE, in consideration of the mutual promises made herein, the Company and the Employee (collectively referred to as the “Parties”) hereby agree as follows:

1. Resignation. The Employee hereby resigns from his position as the President and Chief Executive Officer of the Company, which resignation shall be effective October 31, 2003.

2. Employment.

(a) Employment Period; Position and Duties. The employment period shall begin upon the Start Date and shall continue for one (1) year thereafter (the “Employment Period”), unless sooner terminated pursuant to the provisions of this Agreement. As of the Start Date, the Employee shall be employed by the Company, reporting to the Company’s Board of Directors (the “Board”), and shall assume and discharge such responsibilities as may be requested and deemed necessary and appropriate by such officers. The Employee shall perform his duties faithfully and to the best of his ability. The Employee may serve on the boards of directors of other entities and engage in other

business activities outside of his employment with the Company, so long as such activities do not materially interfere with his duties to the Company.

(b) At-Will Employment. The Parties agree that the Employee’s employment with the Company will be “at-will” employment and may be terminated at any time with or without Cause (as defined below) or notice. No provision of this Agreement shall be construed as conferring upon the Employee a right to continue as an employee of the Company.

(c) Early Termination. The Company may terminate the Employee’s employment prior to the end of the Employment Period. If the Company terminates the Employee’s employment prior to the end of the Employment Period for any reason other than for Cause, as defined below, the provisions of paragraph 10 shall apply. The Employee may terminate his employment prior to the end of the Employment Period by giving the Company five (5) days’ advance written notice. If the Employee terminates his employment prior to the end of the Employment Period, the provisions of paragraph 10 shall apply.

(d) Cause. The Company may terminate the Employee’s employment at any time for “Cause.” For all purposes under this Agreement, “Cause” shall mean (i) any act of personal dishonesty taken by the Employee in connection with his responsibilities as an employee which is intended to result in substantial personal enrichment of the Employee, (ii) the Employee’s conviction, or plea of nolo contendere, of a felony, (iii) an act by the Employee which constitutes misconduct and is materially injurious to the Company, or (iv) continued violations by the Employee of the Employee’s obligations to the Company after there has been delivered to the Employee a written demand for action from the Company which describes the basis for the Company’s belief that the Employee has not substantially performed his duties.

3. Compensation.

(a) Base Salary. For all services to be rendered by the Employee pursuant to this Agreement, the Company agrees to pay the Employee during the Employment Period a base salary at an annual rate of $395,000, less all applicable withholding taxes (the “Base Salary”). The Base Salary shall be paid in periodic installments in accordance with the Company’s regular payroll practices.

(b) Performance Bonus. Within ten (10) days following the Effective Date of this Agreement, the Company agrees to pay the Employee the lump sum amount of $316,000, less all applicable withholding taxes, which represents one hundred percent (100%) of the Employee’s fiscal 2004 target performance bonus (the “Bonus”). The Bonus shall be paid in accordance with the Company’s regular payroll practices.

(c) Stock. Fifty percent (50%) of the unvested shares subject to all outstanding Company options held by the Employee as of October 31, 2003 (the “Options”) shall accelerate and become vested and exercisable on the Effective Date of this Agreement. Such accelerated Options shall remain exercisable until three (3) months after October 31, 2003. After October 31, 2003, none of the remaining unvested shares subject to the Options shall vest. Except as otherwise provided in this Agreement, the Options shall continue to be subject to the terms and conditions of the Company’s applicable stock option plans and the Stock Agreements.

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4. Employee Benefits. During the Employment Period, the Employee shall be entitled to participate in employee benefit plans or programs of the Company, subject to the rules and regulations applicable thereto. The Company reserves the right to cancel or change the benefit plans and programs it offers to its employees at any time.

5. Expenses. The Company shall reimburse the Employee for reasonable and necessary travel, business or other expenses incurred by the Employee in the furtherance of or in connection with the performance of the Employee’s duties hereunder, in accordance with the Company’s expense reimbursement policy as in effect from time to time.

6. Payment of Salary. The Employee acknowledges and represents that except as provided in Section 2 and 3 of this Agreement, the Company has paid all salary, wages, bonuses, accrued vacation, commissions and any and all other salary and benefits due to the Employee.

7. Release of Claims. The Employee agrees that the foregoing consideration represents settlement in full of all outstanding obligations owed to the Employee by the Company. The Employee, on his own behalf and his respective heirs, family members, executors and assigns, hereby fully and forever releases the Company and its past, present and future officers, agents, directors, employees, investors, shareholders, administrators, affiliates, divisions, subsidiaries, parents, predecessor and successor corporations, and assigns, from, and agrees not to sue or otherwise institute or cause to be instituted any legal or administrative proceedings concerning any claim, duty, obligation or cause of action relating to any matters of any kind, whether presently known or unknown, suspected or unsuspected, that he may possess arising from any omissions, acts or facts that have occurred up until and including the Effective Date of this Agreement including, without limitation:

(a) any and all claims relating to or arising from the Employee’s employment relationship with the Company and the termination of that relationship;

(b) any and all claims relating to, or arising from, the Employee’s right to purchase, or actual purchase of shares of stock of the Company, including, without limitation, any claims for fraud, misrepresentation, breach of fiduciary duty, breach of duty under applicable state corporate law and securities fraud under any state or federal law;

(c) any and all claims for wrongful discharge of employment, termination in violation of public policy, discrimination, breach of contract (both express and implied), breach of a covenant of good faith and fair dealing (both express and implied), promissory estoppel, negligent or intentional infliction of emotional distress, negligent or intentional misrepresentation, negligent or intentional interference with contract or prospective economic advantage, unfair business practices, defamation, libel, slander, negligence, personal injury, assault, battery, invasion of privacy, false imprisonment and conversion;

(d) any and all claims for violation of any federal, state or municipal statute, including, but not limited to, Title VII of the Civil Rights Act of 1964, the Civil Rights Act of 1991, the Age Discrimination in Employment Act of 1967, the Americans with Disabilities Act of 1990, the Fair Labor Standards Act, the Employee Retirement Income Security Act of 1974, The Worker Adjustment and Retraining Notification Act, the California Fair Employment and Housing Act, and

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Labor Code Section 201, et seq. and Section 970, et seq. and all amendments to each such Act as well as the regulations issued thereunder;

(e) any and all claims for violation of the federal or any state constitution;

(f) any and all claims arising out of any other laws and regulations relating to employment or employment discrimination; and

(g) any and all claims for attorneys’ fees and costs.

The Employee agrees that the release set forth in this section shall be and remain in effect in all respects as a complete general release as to the matters released. This release does not extend to any obligations incurred under this Agreement.

8. Acknowledgement of Waiver of Claims under ADEA. The Employee acknowledges that he is waiving and releasing any rights he may have under the Age Discrimination in Employment Act of 1967 (“ADEA”) and that this waiver and release is knowing and voluntary. The Employee and the Company agree that this waiver and release does not apply to any rights or claims that may arise under the ADEA after the Effective Date of this Agreement. The Employee acknowledges that the consideration given for this waiver and release Agreement is in addition to anything of value to which the Employee was already entitled. The Employee further acknowledges that he has been advised by this writing that:

(a) he should consult with an attorney prior to executing this Agreement;

(b) he has up to twenty-one (21) days within which to consider this Agreement; 

(c) he has seven (7) days following his execution of this Agreement to revoke this Agreement;

(d) this Agreement shall not be effective until the revocation period has expired; and,

(e) nothing in this Agreement prevents or precludes the Employee from challenging or seeking a determination in good faith of the validity of this waiver under the ADEA, nor does it impose any condition precedent, penalties or costs for doing so, unless specifically authorized by federal law.

9. Civil Code Section 1542. The Employee represents that he is not aware of any claims against the Company other than the claims that are released by this Agreement. The Employee acknowledges that he has been advised by legal counsel and is familiar with the provisions of California Civil Code Section 1542, which provides as follows:

A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR.

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The Employee, being aware of said code section, agrees to expressly waive any rights he may have thereunder, as well as under any other statute or common law principles of similar effect.

10. Severance Payment. In the event the Employee’s employment terminates prior to the end of the Employment Period other than for Cause (the “Termination Date”), and subject to the Employee executing a release of claims agreement substantially in the form attached hereto as Exhibit A (the “Release of Claims”), the Employee shall be entitled to receive severance and other benefits as follows:

(a) Cash. The Employee shall be entitled to a lump sum payment equal to the Base Salary, less all applicable withholding taxes, that would otherwise be payable from the Termination Date until the end of the Employment Period (the “Severance Payment”). The Severance Payment, if applicable, shall be paid no later than fifteen (15) days after the date on which the Release of Claims is signed by the Parties.

(b) Benefits. The Employee’s health insurance benefits shall cease on the Termination Date, subject to the Employee’s right to continue his health insurance under COBRA. If the Employee timely elects COBRA, and provided that the Employee constitutes a qualified beneficiary, as defined in Section 4980B(g)(1) of the Internal Revenue Code of 1986, as amended, the Company shall reimburse the Employee for health care coverage for the Employee and the Employee’s dependents until November 1, 2004, or until the Employee has secured other employment, whichever occurs first. The Employee’s participation in all other benefits and incidents of employment shall cease on the Termination Date. The Employee shall cease accruing employee benefits, including, but not limited to, vacation time and paid time off, as of the Termination Date.

11. Successors.

(a) Company’s Successors. The Company shall require any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of the Company to expressly assume and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place. In the event the Company obtains such assumption agreement prior to the effectiveness of any such succession, the Employee may elect to receive the remainder of the Base Salary to which he is entitled pursuant to Section 3(a) hereof as a lump sum payment. Such payment, if applicable, shall be paid no later than fifteen (15) days after the effective date of such succession. Failure of the Company to obtain such assumption agreement prior to the effectiveness of any such succession shall entitle the Employee to the benefits described in paragraph 10 of this Agreement, subject to the terms and conditions therein.

(b) Employee’s Successors. Without the written consent of the Company, the Employee shall not assign or transfer this Agreement or any right or obligation under this Agreement to any other person or entity. Notwithstanding the foregoing, the terms of this Agreement and all rights of the Employee hereunder shall inure to the benefit of, and be enforceable by, the Employee’s personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees and legatees.

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12. Waiver. Failure or delay on the part of either party hereto to enforce any right, power, or privilege hereunder shall not be deemed to constitute a waiver thereof. Additionally, a waiver by either party or a breach of any promise hereof by the other party shall not operate as or be construed to constitute a waiver of any subsequent waiver by such other party.

13. Severability. Whenever possible, each provision of this Agreement will be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement is held to be invalid, illegal or unenforceable in any respect under any applicable law or rule in any jurisdiction, such invalidity, illegality or unenforceability will not affect any other provision or any other jurisdiction, but this Agreement will be reformed, construed and enforced in such jurisdiction as if such invalid, illegal or unenforceable provision had never been contained herein.

14. Arbitration.

(a) Arbitration. In consideration of the Employee’s employment with the “Company”, its promise to arbitrate all employment-related disputes and the Employee’s receipt of the compensation, pay raises and other benefits paid to the Employee by the Company, at present and in the future. The Employee agrees that any and all controversies, claims, or disputes with anyone (including the Company and any employee, officer, director, shareholder or benefit plan of the Company in their capacity as such or otherwise) arising out of, relating to, or resulting from the Employee’s employment with the Company or the termination of the Employee’s employment with the Company, including any breach of this Agreement, shall be subject to binding arbitration under the arbitration rules set forth in California Code of Civil Procedure Section 1280 through 1294.2, including Section 1283.05 (the “Rules”) and pursuant to California law. Disputes which the Employee agrees to arbitrate, and thereby agrees to waive any right to a trial by jury, include any statutory claims under State or Federal law, including, but not limited to, claims under Title VII of the Civil Rights Act of 1964, the Americans with Disabilities Act of 1990, the Age Discrimination in Employment Act of 1967, the Older Workers Benefit Protection Act, the California Fair Employment and Housing Act, the California Labor Code, claims of harassment, discrimination or wrongful termination and any statutory claims. The Employee further understands that this Agreement to arbitrate also applies to any disputes that the Company may have with employee.

(b) Procedure. The Employee agrees that any arbitration will be administered by the American Arbitration Association (“AAA”) and that a neutral arbitrator will be selected in a manner consistent with its national rules for the resolution of employment disputes. The arbitration proceedings will allow for discovery according to the rules set forth in the National Rules for the Resolution of Employment Disputes. The Employee agrees that the arbitrator shall have the power to decide any motions brought by any party to the arbitration, including motions for summary judgment and/or adjudication and motions to dismiss and demurrers, prior to any arbitration hearing. The Employee agrees that the arbitrator shall issue a written decision on the merits. The Employee also agrees that the arbitrator shall have the power to award any remedies, including attorneys’ fees and costs, available under applicable law. The Employee understands the Company will pay for any administrative or hearing fees charged by the arbitrator or AAA except that the Employee shall pay the first $200.00 of any filing fees associated with any arbitration the Employee initiates. The Employee agrees that the arbitrator shall administer and conduct any arbitration in a manner consistent with the rules and that to the extent that the AAA’s National Rules for the Resolution of Employment Disputes conflict with the rules, the rules shall take precedence.

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(c) Remedy. Except as provided by the rules, arbitration shall be the sole, exclusive and final remedy for any dispute between the Employee and the Company. Accordingly, except as provided for by the rules, neither the Employee nor the Company will be permitted to pursue court action regarding claims that are subject to arbitration. Notwithstanding, the arbitrator will not have the authority to disregard or refuse to enforce any lawful Company policy, and the arbitrator shall not order or require the Company to adopt a policy not otherwise required by law which the Company has not adopted.

(d) Availability of injunctive relief. In accordance with Rule 1281.8 of the California Code of Civil Procedure, the Employee agrees that any party may also petition the court for injunctive relief where either party alleges or claims a violation of the employment, confidential information, invention assignment agreement between the Employee and the Company or any other agreement regarding trade secrets, confidential information, nonsolicitation or Labor Code §2870. In the event either party seeks injunctive relief, the prevailing party shall be entitled to recover reasonable costs and attorneys’ fees.

(e) Administrative relief. The Employee understands that this Agreement does not prohibit the Employee from pursuing an administrative claim with a local, state or federal administrative body such as the department of fair employment and housing, the equal employment opportunity commission or the workers’ compensation board. This Agreement does, however, preclude the Employee from pursuing court action regarding any such claim.

15. Execution of Release Agreement upon Termination. As a condition of entering into this Agreement and of receiving benefits hereunder, the Employee agrees to execute the Release of Claims attached hereto as Exhibit A upon the earlier of (i) the termination of his employment with the Company or (ii) the end of the Employment Period.

16. Voluntary Execution of Agreement. This Agreement is executed voluntarily and without any duress or undue influence on the part or behalf of the Parties hereto, with the full intent of releasing all claims. The Parties acknowledge that:

(a) they have read this Agreement;

(b) they have been represented in the preparation, negotiation and execution of this Agreement by legal counsel of their own choice or that they have voluntarily declined to seek such counsel;

(c) they understand the terms and consequences of this Agreement and of the releases it contains; and

(d) they are fully aware of the legal and binding effect of this Agreement.

17. Integration. This Agreement, the Stock Agreements, and the Confidentiality Agreement represent the entire agreement and understanding between the Parties as to the subject matter herein and supersede and replace all prior or contemporaneous agreements whether written or oral, including the Offer Letter and the Severance Agreement. No waiver, alteration, or modification of any of the provisions of this Agreement will be binding unless in writing and signed by the Chairman of the Board.

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18. Applicable Law. This Agreement shall be governed by and construed in accordance with the internal substantive laws, and not the choice of law rules, of the State of California.

19. Effective Date. This Agreement is effective after it has been signed by both parties and after eight (8) days have passed since the Employee has signed the Agreement (the “Effective Date”).

20. Counterparts. This Agreement may be executed in one or more counterparts, none of which need contain the signature of more than one party hereto, and each of which shall be deemed to be an original, and all of which together shall constitute a single agreement.

21. Acknowledgment. The Employee acknowledges that he has had the opportunity to discuss this matter with and obtain advice from his private attorney, has had sufficient time to, and has carefully read and fully understands all the provisions of this Agreement, and is knowingly and voluntarily entering into this Agreement.

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IN WITNESS WHEREOF, each of the parties has executed this Agreement, in the case of the Company by their duly authorized officers, as of the day and year first above written.

PINNACLE SYSTEMS, INC.
By:	/s/    Arthur D. Chadwick
	Arthur D. Chadwick
	Vice President, Finance and
	Administration and Chief Financial Officer
EMPLOYEE
By:	/s/    J. Kim Fennell
	J. Kim Fennell

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EXHIBIT A

FORM OF RELEASE OF CLAIMS AGREEMENT

This Release of Claims Agreement (this “Agreement”) is made as of             , 200_ by and between Pinnacle Systems, Inc. (the “Company”) and J. Kim Fennell (the “Employee”).

RECITALS

WHEREAS, the Employee was employed by the Company pursuant to that certain Transitional Employment Agreement effective as of November 1, 2003 (the “Employment Agreement”);

WHEREAS, the Employee’s employment with the Company terminated on             , 200_ (the “Termination Date”);

WHEREAS, the Company and the Employee entered into an Employment, Confidential Information and Invention Assignment Agreement (the “Confidentiality Agreement”);

WHEREAS, the Company and the Employee have entered into certain written stock option agreements to purchase common stock of the Company pursuant to the Company’s 1996 Stock Option Plan and 1996 Supplemental Stock Option Plan (the “Stock Agreements”);

WHEREAS, the Company and the Employee, and each of them, wish to resolve any and all disputes, claims, complaints, grievances, charges, actions, petitions and demands that the Employee may have against the Company as defined herein, including, but not limited to, any and all claims arising or in any way related to the Employee’s employment with, or separation from, the Company;

NOW THEREFORE, in consideration of the mutual promises made herein and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the Company and the Employee (collectively referred to as the “Parties”) desiring to be legally bound do hereby agree as follows:

COVENANTS

1. Consideration. Subject to and in consideration of the Employee’s release of claims as provided herein and such other consideration provided in the Employment Agreement, the Company has agreed to pay the Employee certain benefits and the Employee has agreed to provide certain benefits to the Company, both as set forth in the Employment Agreement.

2. Payment of Salary. The Employee acknowledges and represents that the Company has paid all salary, wages, bonuses, accrued vacation, commissions and any and all other salary and benefits due to the Employee.

3. Release of Claims. The Employee agrees that the foregoing consideration represents settlement in full of all outstanding obligations owed to the Employee by the Company. The

Employee, on his own behalf and his respective heirs, family members, executors and assigns, hereby fully and forever releases the Company and its past, present and future officers, agents, directors, employees, investors, shareholders, administrators, affiliates, divisions, subsidiaries, parents, predecessor and successor corporations, and assigns, from, and agrees not to sue or otherwise institute or cause to be instituted any legal or administrative proceedings concerning any claim, duty, obligation or cause of action relating to any matters of any kind, whether presently known or unknown, suspected or unsuspected, that he may possess arising from any omissions, acts or facts that have occurred up until and including the Effective Date of this Agreement including, without limitation:

(a) any and all claims relating to or arising from the Employee’s employment relationship with the Company and the termination of that relationship;

(b) any and all claims relating to, or arising from, the Employee’s right to purchase, or actual purchase of shares of stock of the Company, including, without limitation, any claims for fraud, misrepresentation, breach of fiduciary duty, breach of duty under applicable state corporate law and securities fraud under any state or federal law;

(c) any and all claims for wrongful discharge of employment, termination in violation of public policy, discrimination, breach of contract (both express and implied), breach of a covenant of good faith and fair dealing (both express and implied), promissory estoppel, negligent or intentional infliction of emotional distress, negligent or intentional misrepresentation, negligent or intentional interference with contract or prospective economic advantage, unfair business practices, defamation, libel, slander, negligence, personal injury, assault, battery, invasion of privacy, false imprisonment and conversion;

(d) any and all claims for violation of any federal, state or municipal statute, including, but not limited to, Title VII of the Civil Rights Act of 1964, the Civil Rights Act of 1991, the Age Discrimination in Employment Act of 1967, the Americans with Disabilities Act of 1990, the Fair Labor Standards Act, the Employee Retirement Income Security Act of 1974, The Worker Adjustment and Retraining Notification Act, the California Fair Employment and Housing Act, and Labor Code Section 201, et seq. and Section 970, et seq. and all amendments to each such Act as well as the regulations issued thereunder;

(e) any and all claims for violation of the federal or any state constitution;

(f) any and all claims arising out of any other laws and regulations relating to employment or employment discrimination; and

(g) any and all claims for attorneys’ fees and costs.

The Employee agrees that the release set forth in this Section 3 shall be and remain in effect in all respects as a complete general release as to the matters released. This release does not extend to any obligations incurred under this Agreement.

4. Acknowledgement of Waiver of Claims under ADEA. The Employee acknowledges that he is waiving and releasing any rights he may have under the Age Discrimination in Employment Act of 1967 (“ADEA”) and that this waiver and release is knowing and voluntary. The

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Employee and the Company agree that this waiver and release does not apply to any rights or claims that may arise under the ADEA after the Effective Date of this Agreement. The Employee acknowledges that the consideration given for this waiver and release Agreement is in addition to anything of value to which the Employee was already entitled. The Employee further acknowledges that he has been advised by this writing that:

(a) he should consult with an attorney prior to executing this Agreement;

(b) he has up to twenty-one (21) days within which to consider this Agreement;

(c) he has seven (7) days following his execution of this Agreement to revoke this Agreement;

(d) this Agreement shall not be effective until the revocation period has expired; and,

(e) nothing in this Agreement prevents or precludes the Employee from challenging or seeking a determination in good faith of the validity of this waiver under the ADEA, nor does it impose any condition precedent, penalties or costs for doing so, unless specifically authorized by federal law.

5. Civil Code Section 1542. The Employee represents that he is not aware of any claims against the Company other than the claims that are released by this Agreement. The Employee acknowledges that he has been advised by legal counsel and is familiar with the provisions of California Civil Code Section 1542, which provides as follows:

A GENERAL RELEASE DOES NOT EXTEND TO CLAIMS WHICH THE CREDITOR DOES NOT KNOW OR SUSPECT TO EXIST IN HIS FAVOR AT THE TIME OF EXECUTING THE RELEASE, WHICH IF KNOWN BY HIM MUST HAVE MATERIALLY AFFECTED HIS SETTLEMENT WITH THE DEBTOR.

The Employee, being aware of said code section, agrees to expressly waive any rights he may have thereunder, as well as under any other statute or common law principles of similar effect.

6. Confidential Information. The Employee shall continue to maintain the confidentiality of all confidential and proprietary information of the Company and shall continue to comply with the terms and conditions of the Confidentiality Agreement between the Employee and the Company. The Employee shall return all of the Company’s property and confidential and proprietary information in his possession to the Company on the Effective Date of this Agreement.

7. No Pending or Future Lawsuits. The Employee represents that he has no lawsuits, claims or actions pending in his name, or on behalf of any other person or entity, against the Company or any other person or entity referred to herein. The Employee also represents that he does not intend to bring any claims on his own behalf or on behalf of any other person or entity against the Company or any other person or entity referred to herein.

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8. Confidentiality. The Employee agrees to use his best efforts to maintain in confidence the existence of this Agreement, the contents and terms of this Agreement, and the consideration for this Agreement (hereinafter collectively referred to as “Release Information”). The Employee agrees to take every reasonable precaution to prevent disclosure of any Release Information to third parties and agrees that there will be no publicity, directly or indirectly, concerning any Release Information. The Employee agrees to take every precaution to disclose Release Information only to those attorneys, accountants, governmental entities and family members who have a reasonable need to know of such Release Information.

9. No Cooperation. The Employee agrees he will not act in any manner that might damage the business of the Company. The Employee agrees that he will not counsel or assist any attorneys or their clients in the presentation or prosecution of any disputes, differences, grievances, claims, charges, or complaints by any third party against the Company and/or any officer, director, employee, agent, representative, shareholder or attorney of the Company, unless under a subpoena or other court order to do so.

10. Costs. The Parties shall each bear their own costs, expert fees, attorneys’ fees and other fees incurred in connection with this Agreement.

11. Arbitration. The Parties agree that any and all disputes arising out of, or relating to, the terms of this Agreement, their interpretation, and any of the matters herein released, shall be subject to binding arbitration in Santa Clara County before the American Arbitration Association under its National Rules for the Resolution of Employment Disputes. The Parties agree that the prevailing party in any arbitration shall be entitled to injunctive relief in any court of competent jurisdiction to enforce the arbitration award. The Parties agree that the prevailing party in any arbitration shall be awarded its reasonable attorneys’ fees and costs. The Parties hereby agree to waive their right to have any dispute between them resolved in a court of law by a judge or jury. This section will not prevent either party from seeking injunctive relief (or any other provisional remedy) from any court having jurisdiction over the Parties and the subject matter of their dispute relating to Employee’s obligations under this Agreement and the agreements incorporated herein by reference.

12. Authority. The Company represents and warrants that the undersigned has the authority to act on behalf of the Company and to bind the Company and all who may claim through it to the terms and conditions of this Agreement. The Employee represents and warrants that he has the capacity to act on his own behalf and on behalf of all who might claim through him to bind them to the terms and conditions of this Agreement.

13. No Representations. The Employee represents that he has had the opportunity to consult with an attorney, and has carefully read and understands the scope and effect of the provisions of this Agreement. Neither party has relied upon any representations or statements made by the other party hereto which are not specifically set forth in this Agreement.

14. Severability. In the event that any provision hereof becomes or is declared by a court of competent jurisdiction to be illegal, unenforceable or void, this Agreement shall continue in full force and effect without said provision.

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15. Entire Agreement. This Agreement, the Confidentiality Agreement, and the Stock Agreements represent the entire agreement and understanding between the Company and the Employee concerning the Employee’s separation from the Company, and supersede and replace any and all prior agreements and understandings concerning the Employee’s relationship with the Company and his compensation by the Company.

16. No Oral Modification. Any modification or amendment of this Agreement, or additional obligation assumed by either party in connection with this Agreement, shall be effective only if placed in writing and signed by the Employee and an executive officer of the Company.

17. Governing Law. This Agreement shall be deemed to have been executed and delivered within the State of California, and it shall be construed, interpreted, governed, and enforced in accordance with the laws of the State of California, without regard to conflict of law principles.

18. Effective Date. This Agreement is effective after it has been signed by both parties and after eight (8) days have passed since the Employee has signed the Agreement (the “Effective Date”).

19. Counterparts. This Agreement may be executed in counterparts, and each counterpart shall have the same force and effect as an original and shall constitute an effective, binding agreement on the part of each of the undersigned.

20. Voluntary Execution of Agreement. This Agreement is executed voluntarily and without any duress or undue influence on the part or behalf of the Parties hereto, with the full intent of releasing all claims. The Parties acknowledge that:

(a) they have read this Agreement;

(b) they have been represented in the preparation, negotiation and execution of this Agreement by legal counsel of their own choice or that they have voluntarily declined to seek such counsel;

(c) they understand the terms and consequences of this Agreement and of the releases it contains; and

(d) they are fully aware of the legal and binding effect of this Agreement.

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

PINNACLE SYSTEMS, INC.
By:
	Mark L. Sanders Chairman of the Board of Directors
EMPLOYEE
By:
	J. Kim Fennell

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EX-31.1

Exhibit 31.1

CERTIFICATION

I, Charles J. Vaughan, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Pinnacle Systems, Inc.;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: November 12, 2003	By:	/s/    CHARLES J. VAUGHAN
		Charles J. Vaughan
		President and Chief Executive Officer

EX-31.2

Exhibit 31.2

CERTIFICATION

I, Arthur D. Chadwick, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Pinnacle Systems, Inc.;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(c) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: November 12, 2003	/s/    ARTHUR D. CHADWICK
	Arthur D. Chadwick
	Vice President, Finance and Administration,
	Chief Financial Officer and Secretary

EX-32.1

Exhibit 32.1

CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER

PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

I, Charles J. Vaughan, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Annual Report of Pinnacle Systems, Inc. on Form 10-Q for the quarter ended September 30, 2003 fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that information contained in this Form 10-Q fairly presents in all material respects the financial condition and results of operations of Pinnacle Systems, Inc.

	By:	/s/    CHARLES J. VAUGHAN
Date: November 12, 2003	Name:	Charles J. Vaughan
	Title:	President and Chief Executive Officer

I, Arthur D. Chadwick, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Annual Report of Pinnacle Systems, Inc. on Form 10-Q for the quarter ended September 30, 2003 fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that information contained in this Form 10-Q fairly presents in all material respects the financial condition and results of operations of Pinnacle Systems, Inc.

	By:	/s/    ARTHUR D. CHADWICK
Date: November 12, 2003	Name:	Arthur D. Chadwick
	Title:	Vice President, Finance and Administration, Chief Financial Officer and Secretary