-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, V7YsqMC8hqXViU+8O5s6OmBCZAmn4yYDXOQoaz/G/DOwz3PX+qsPOx+sC6p3LuO6 ozFF91Y0Digr0jRde2zvgQ== 0000891618-96-000208.txt : 19960416 0000891618-96-000208.hdr.sgml : 19960416 ACCESSION NUMBER: 0000891618-96-000208 CONFORMED SUBMISSION TYPE: S-3 PUBLIC DOCUMENT COUNT: 4 FILED AS OF DATE: 19960412 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTEGRATED SYSTEMS INC CENTRAL INDEX KEY: 0000775163 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 942658153 STATE OF INCORPORATION: CA FISCAL YEAR END: 0228 FILING VALUES: FORM TYPE: S-3 SEC ACT: 1933 Act SEC FILE NUMBER: 333-02449 FILM NUMBER: 96546380 BUSINESS ADDRESS: STREET 1: 3260 JAY ST CITY: SANTA CLARA STATE: CA ZIP: 95054-3309 BUSINESS PHONE: 4089801500 MAIL ADDRESS: STREET 1: 3260 JAY STREET CITY: SANTA CLARA STATE: CA ZIP: 95054-3309 S-3 1 FORM S-3 DATED APRIL 11, 1996 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON APRIL 12, 1996 REGISTRATION NO. 333- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM S-3 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ------------------------ INTEGRATED SYSTEMS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) CALIFORNIA 94-2658153 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
------------------------ 3260 JAY STREET SANTA CLARA, CALIFORNIA 95054-3309 (408) 980-1500 (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) ------------------------ NARENDRA K. GUPTA CHAIRMAN OF THE BOARD INTEGRATED SYSTEMS, INC. 3260 JAY STREET SANTA CLARA, CALIFORNIA 95054-3309 (408) 980-1500 (NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE) ------------------------ COPIES TO: LAIRD H. SIMONS III, ESQ. WILLIAM D. SHERMAN, ESQ. FRED M. GREGURAS, ESQ. JOHN W. CAMPBELL III, ESQ. KATHERINE T. TALLMAN, ESQ. CORI M. ALLEN, ESQ. MONA CHANDRA, ESQ. MORRISON & FOERSTER LLP FENWICK & WEST LLP 755 PAGE MILL ROAD TWO PALO ALTO SQUARE PALO ALTO, CALIFORNIA 94304 PALO ALTO, CALIFORNIA 94306 (415) 813-5600 (415) 494-0600
------------------------ APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this Registration Statement. If the only securities being registered on this Form are being offered pursuant to dividend or interest reinvestment plans, please check the following box. / / If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, other than securities offered only in connection with dividend or interest reinvestment plans, check the following box. / / If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. / / If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. / / If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. / / ------------------------ CALCULATION OF REGISTRATION FEE - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- PROPOSED MAXIMUM PROPOSED MAXIMUM TITLE OF EACH CLASS OF SECURITIES AMOUNT TO BE OFFERING PRICE PER AGGREGATE OFFERING AMOUNT OF TO BE REGISTERED REGISTERED(1) SHARE(2) PRICE(2) REGISTRATION FEE - ---------------------------------------------------------------------------------------------------------------------- Common Stock, no par value.......... 2,070,000 shs. $24.375 $50,456,250 $17,398.71
- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- (1) Includes 270,000 shares that the Underwriters have the option to purchase to cover over-allotments, if any. (2) Estimated solely for the purpose of calculating the amount of the registration fee pursuant to Rule 457(c) based on the average of the high and low prices of the Common Stock on the Nasdaq National Market on April 9, 1996. ------------------------ THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. SUBJECT TO COMPLETION, DATED APRIL 12, 1996 PROSPECTUS - ---------------- 1,800,000 SHARES LOGO COMMON STOCK Of the 1,800,000 shares of Common Stock offered hereby, 500,000 shares are being sold by the Company and 1,300,000 shares are being sold by the Selling Shareholders. The Company will not receive any of the proceeds from the sale of shares by the Selling Shareholders. See "Selling Shareholders." The Company's Common Stock is quoted on the Nasdaq National Market under the symbol INTS. On April 10, 1996, the last reported sale price for the Common Stock was $24.00 per share. See "Price Range of Common Stock." ------------------ THE SHARES OFFERED HEREBY INVOLVE A HIGH DEGREE OF RISK. SEE "RISK FACTORS" ON PAGE 4. ------------------ THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------------------------- PROCEEDS TO PRICE TO UNDERWRITING PROCEEDS TO SELLING PUBLIC DISCOUNT(1) COMPANY(2) SHAREHOLDERS - -------------------------------------------------------------------------------------------------- Per Share......................... $ $ $ $ - -------------------------------------------------------------------------------------------------- Total(3).......................... $ $ $ $ - -------------------------------------------------------------------------------------------------- - --------------------------------------------------------------------------------------------------
(1) See "Underwriting" for indemnification arrangements with the Underwriters. (2) Before deducting expenses payable by the Company estimated at $350,000. (3) One Selling Shareholder has granted to the Underwriters a 30-day option to purchase up to 270,000 additional shares of Common Stock solely to cover over-allotments, if any. If all such shares are purchased, the total Price to Public, Underwriting Discount and Proceeds to Selling Shareholders will be $ , $ and $ , respectively. See "Underwriting." ------------------ The shares of Common Stock are offered by the Underwriters subject to prior sale, receipt and acceptance by them and subject to the right of the Underwriters to reject any order in whole or in part and certain other conditions. It is expected that certificates for such shares will be available for delivery on or about May , 1996, at the office of the agent of Hambrecht & Quist LLC in New York, New York. HAMBRECHT & QUIST WESSELS, ARNOLD & HENDERSON May , 1996 3 INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE The following documents filed with the Securities and Exchange Commission (the "Commission") by the Company are hereby incorporated by reference into this Prospectus except as superseded or modified herein: (1) the Company's Annual Report on Form 10-K for the fiscal year ended February 28, 1996 and (2) the description of the Company's Common Stock set forth in the Company's Registration Statement on Form 8-A filed with the Commission on January 29, 1990. All documents filed by the Company with the Commission pursuant to Section 13(a), 13(c), 14 or 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), after the date of this Prospectus and prior to the termination of the offering of the shares offered hereby shall be deemed to be incorporated by reference into this Prospectus and to be a part hereof from the date of filing of such documents. Any statement contained in any document incorporated or deemed to be incorporated by reference herein shall be deemed to be modified or superseded for purposes of this Prospectus to the extent that a statement contained herein modifies or supersedes such statement. Any such statement so modified or superseded shall not be deemed, except as modified or superseded, to constitute a part of this Prospectus. The Company will provide without charge to each person, including any beneficial owner, to whom this Prospectus is delivered, upon written or oral request of such person, a copy of any and all of the documents that have been or may be incorporated by reference herein (other than exhibits to such documents which are not specifically incorporated by reference into such documents). Such requests should be directed to Investor Relations, Integrated Systems, Inc., 3260 Jay Street, Santa Clara, California 95054-3309. The Company's telephone number at that location is (408) 980-1500. IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS AND SELLING GROUP MEMBERS (IF ANY) OR THEIR RESPECTIVE AFFILIATES MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON THE NASDAQ NATIONAL MARKET IN ACCORDANCE WITH RULE 10B-6A UNDER THE SECURITIES EXCHANGE ACT OF 1934. SEE "UNDERWRITING." IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NASDAQ NATIONAL MARKET, IN THE OVER-THE-COUNTER MARKET OR OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME. AutoCode(R), MATRIXx(R), pSOS(R) and Xmath(R) are registered trademarks of the Company. DocumentIt, ESp, FlexOS, pSOSystem, RealSim, SNiFF+, SystemBuild and Embedded Internet are trademarks of the Company. This Prospectus also includes trademarks of other companies. Integrated Systems, Inc. was incorporated in California in February 1980. As used in this Prospectus, the "Company" and "Integrated Systems" refer to Integrated Systems, Inc. and its subsidiaries. The Company's principal executive offices are located at 3260 Jay Street, Santa Clara, California 95054-3309. Its telephone number is (408) 980-1500. 2 4 PROSPECTUS SUMMARY The following summary is qualified in its entirety by the more detailed information, including "Risk Factors" and the consolidated financial statements and notes thereto, appearing elsewhere in this Prospectus or incorporated by reference in this Prospectus. THE COMPANY Integrated Systems designs, develops, markets and supports software products for embedded microprocessor-based applications and also provides related engineering services. Embedded microprocessors are used to add functionality and intelligence to a variety of products and to operate as an integral part of these products, generally without any direct human intervention. The Company offers software that consists of a real-time operating system and a series of modules and design tools that aid the development of embedded applications. The Company's products are designed to enable users to accelerate the design, development, debugging, implementation and maintenance of embedded software. The Company's products and services reduce the expense associated with embedded software and system development and enable customers to develop systems that have greater functionality, enhanced performance, improved reliability and ease of use. Integrated Systems markets and supports its products and provides services on a worldwide basis to a variety of users in a broad range of industries, including telecommunications and data communications, automotive, multimedia and consumer and office and industrial automation. Recently, the Company has introduced embedded operating software and design tools for Internet applications. The Company markets its products primarily through a direct sales force augmented by a telemarketing organization, distributors and sales representatives. Integrated Systems' customers include Alcatel, Daimler-Benz, General Motors, Hewlett-Packard, Honda, Motorola, Philips, Sharp and Sony. Networks. THE OFFERING Common Stock offered by the Company.................. 500,000 shares Common Stock offered by the Selling Shareholders..... 1,300,000 shares Common Stock to be outstanding after the offering.... 21,865,650 shares(1) Use of proceeds...................................... For general corporate purposes, including working capital and possible acquisitions. Nasdaq National Market symbol........................ INTS
SUMMARY CONSOLIDATED FINANCIAL INFORMATION(2) (IN THOUSANDS, EXCEPT PER SHARE DATA)
FISCAL YEAR ENDED FEBRUARY 28, ------------------------------------------------------- 1992 1993 1994 1995 1996 ------- ------- ------- ------- ------- CONSOLIDATED STATEMENT OF OPERATIONS DATA: Total revenue......................................................... $24,612 $32,388 $45,783 $58,054 $84,442 Income (loss) from operations......................................... (7,499) 3,633 4,763 7,999 6,464 Net income (loss)..................................................... (7,890) 3,437 4,086 6,490 5,283 Earnings (loss) per share(3).......................................... $ (0.45) $ 0.18 $ 0.21 $ 0.33 $ 0.24 Earnings per share before acquisition and other costs(4).............. $ 0.23 $ 0.18 $ 0.21 $ 0.33 $ 0.50 Shares used in per share calculations(3).............................. 17,478 18,636 19,122 19,964 22,088
FEBRUARY 28, 1996 -------------------------- ACTUAL AS ADJUSTED(5) ------- -------------- CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents and marketable securities.................................................. $49,476 $ 60,496 Working capital................................................................................... 31,431 42,451 Total assets...................................................................................... 85,264 96,284 Total shareholders' equity........................................................................ 58,276 69,296
- ------------------------------ (1) Based on the number of shares outstanding at February 28, 1996. Excludes (i) 2,525,920 shares of Common Stock issuable upon exercise of stock options outstanding at February 28, 1996, with a weighted average exercise price of $7.40, and (ii) 2,647,210 shares of Common Stock are available for future issuance under the Company's stock option plans and stock purchase plan. See Note 7 of Notes to Consolidated Financial Statements. (2) In October 1995, the Company acquired TakeFive Software GmbH and, in January 1996, the Company acquired Doctor Design, Inc. These acquisitions were accounted for on a pooling of interests basis. The annual financial information has been restated to combine the results of the Company and Doctor Design, Inc. in fiscal 1994 and fiscal 1995. Fiscal 1996 includes the results of Doctor Design, Inc. and TakeFive Software GmbH. The annual financial information has not been restated for earlier years because such financial information was not material to the Company. See Note 2 of Notes to Consolidated Financial Statements. (3) See Note 1 of Notes to Consolidated Financial Statements for an explanation of the determination of the number of shares used in per share calculations. (4) Fiscal 1992 and 1996 earnings per share before acquisition and other costs reflect earnings per share as if the Company had not incurred such acquisition and other costs, net of any tax effects. (5) Adjusted to give effect to the sale of the 500,000 shares of Common Stock offered by the Company hereby, at an assumed public offering price of $24.00 per share and after deducting the estimated underwriting discount and expenses of this offering, and the application of the net proceeds therefrom. Does not include proceeds to the Company from option exercises by any Selling Shareholders in connection with shares sold in this offering. See "Use of Proceeds." ------------------------ Except as otherwise noted, all information in this Prospectus (i) assumes no exercise of the Underwriters' over-allotment option; (ii) reflects the two-for-one split of the Company's Common Stock effected on April 5, 1996; and (iii) assumes that all fiscal years end on February 28. 3 5 RISK FACTORS The statements contained in this Prospectus that are not purely historical are forward looking statements, including statements regarding the Company's expectations, hopes or intentions regarding the future. Actual results could differ materially from those discussed in the forward-looking statements. Among the factors that could cause actual results to differ materially are those discussed below. In addition to the other information in this Prospectus, the following risk factors should be considered carefully in evaluating the Company and its business before purchasing the Common Stock offered hereby. Fluctuations in Quarterly Results. The Company's quarterly operating results vary significantly depending on a number of factors, including the volume and timing of orders received during the quarter, the mix of and changes in distribution channels through which the Company's products are sold, the timing and acceptance of new products and product enhancements by the Company or its competitors, changes in pricing, buyouts of run-time licenses, product life cycles, the level of the Company's sales of third party products, purchasing patterns of distributors and customers, competitive conditions in the industry, business cycles effecting the markets in which the Company's products are sold, extraordinary events, such as litigation or acquisitions, including related charges, and economic conditions generally or in various geographic areas. All of the foregoing factors are difficult to forecast. The future operating results of the Company may fluctuate as a result of these and other factors, including the Company's ability to continue to develop innovative and competitive products. The Company historically has operated with insignificant product backlog because its products are generally shipped as orders are received. As a result, product revenue in any quarter depends on the volume and timing of orders received in that quarter. In addition, the Company has at times recognized a substantial portion of its total revenue from sales booked and shipped in the last two weeks of the quarter such that the magnitude of quarterly fluctuations may not become evident until very late in, or after the end of, a particular quarter. Because the Company's staffing and operating expenses are based on anticipated total revenue levels, and a high percentage of the Company's costs are fixed in the short term, small variations between anticipated orders and actual orders, as well as non-recurring or large orders, can cause disproportionate variations in the Company's operating results from quarter to quarter. The procurement process of the Company's customers typically ranges from a few weeks to several months or longer from initial inquiry to order, making the timing of sales and license fees difficult to predict. Moreover, as licensing of the Company's products increasingly becomes a more strategic decision made at higher management levels, there can be no assurance that sales cycles for the Company's products will not lengthen. The Company's results of operations may also be affected by seasonal trends. The Company's total revenue and net income during the first fiscal quarter have been lower than the previous fourth fiscal quarter for a variety of reasons, including customer purchase cycles related to expiration of budgetary authorizations, and the Company expects that total revenue and net income in the first quarter of fiscal 1997 will be lower than the fourth quarter of fiscal 1996. In addition, in the first quarter of fiscal 1997, the Company shifted from third party distributors to direct sales and support in Japan and Italy. In the past, the Company's sales declined in the short term during such transitions. There can be no assurance that declines will not occur during the current transitions or similar transitions in the future. Also, the Company's recent acquisitions in fiscal 1996, as well as any future acquisitions, involve numerous risks and could have a material adverse effect on the Company's business, financial condition and results of operations. The Company expects to move its Santa Clara, California operations to Sunnyvale, California by the end of the first quarter of fiscal 1997. There can be no assurance that the move will not disrupt the Company's operations or affect the Company's operating results. Due to all of the foregoing factors, the Company believes that period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as an indication of future performance. It is likely that, in some future quarters, the Company's operating results will be below the expectations of stock market analysts and investors. In such event, the price of the Company's Common Stock would likely be materially adversely affected. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." 4 6 Rapid Technological Change; Dependence on New Products. The market for embedded applications is fragmented and is characterized by ongoing technological developments, evolving industry standards and rapid changes in customer requirements. The Company's success depends upon its ability to continue to develop and introduce in a timely manner new products that take advantage of technological advances, to continue to enhance its existing product lines, to offer its products across a spectrum of microprocessor families used in the embedded systems market and to respond promptly to customers' requirements. The Company must continuously update its existing products to keep them current with changing technology and must develop new products to take advantage of new technologies that could render the Company's existing products obsolete. The Company has in the past experienced delays in the development of new products and the enhancement of existing products. Such delays are commonplace in the software industry and are likely to be experienced by the Company in the future. The Company's future prospects depend upon the Company's ability to increase the functionality of existing products in a timely manner and to develop new products that address new technologies and achieve market acceptance. New products and enhancements must keep pace with competitive offerings, adapt to evolving industry standards and provide additional functionality. There can be no assurance that the Company will be successful in developing and marketing, on a timely basis or at all, competitive products, product enhancements and new products that respond to technological change, changes in customer requirements and emerging industry standards, or that the Company's enhanced or new products will adequately address the changing needs of the marketplace. The inability of the Company, due to resource constraints or technological or other reasons, to develop and introduce new products or product enhancements in a timely manner could have a material adverse effect on the Company's business, financial condition or results of operations. From time to time, the Company or its competitors may announce new products, capabilities or technologies that have the potential to replace or shorten the life cycles of the Company's existing products. There can be no assurance that announcements of currently planned or other new products will not cause customers to defer purchasing existing Company products. Any failure by the Company to anticipate or respond adequately to changing market conditions, or any significant delays in product development or introduction, would have a material adverse effect on the Company's business, financial condition and results of operations. See "Business--Product Development." Risks Associated with New or Emerging Markets. From time to time, the Company embarks on product development for new or emerging markets. Currently, the Company is expending substantial time and financial resources to develop a product line for applications that use Internet technology with embedded microprocessors. The Company has introduced both embedded operating software and development tools for Internet applications. The commercial Internet market has only recently begun to develop, is rapidly changing and is characterized by an increasing number of new entrants with competitive products. It is difficult to predict with any assurance whether the Internet will prove to be a viable commercial marketplace, or whether demand for Internet related products and services will emerge or increase in the future. If the Internet market, or any other new market targeted by the Company in the future, fails to develop, develops more slowly than anticipated or becomes saturated with competitors, or if the Company's products and services do not achieve or sustain market acceptance, the Company's business, financial condition and results of operations would be materially adversely affected. See "Business--Product Development." Competition. The market for commercially available software tools and embedded operating systems is fragmented and highly competitive and is characterized by pressures to incorporate new features and accelerate the release of new product versions. The Company's products compete with software developed internally by embedded systems manufacturers and software offered by other third parties. Many organizations that internally develop and maintain real-time operating systems have substantial programming resources and can develop specific products for their needs. Many of these companies have significant investments in their existing software and there can be no assurance that the Company will be able to persuade existing and potential customers to replace or augment their internally developed real-time operating systems with the Company's products. The Company's principal competitors for third-party embedded software development and related tools (pSOSystem) 5 7 are Mentor Graphics (through its acquisition of Microtec Research Inc.), Microware Systems Corporation and Wind River Systems, Inc. The MATRIXx product family competes with products offered by Mathworks Incorporated and a number of other companies that provide design and analysis, modeling and simulation, and code generation products. The Company also competes with a number of other vendors that address one or more segments of the system design process, including vendors that have modified general purpose software engineering products for real-time and control design applications. As the industry continues to develop, the Company expects competition to increase in the future from existing competitors and from other companies that may enter the Company's existing or future markets with similar or substitute solutions that may be less costly or provide better performance or functionality than the Company's products. Some of the Company's existing and many of its potential competitors have substantially greater financial, technical, marketing and sales resources than the Company and there can be no assurance that the Company will be able to compete successfully against these companies. In the event that price competition increases significantly, competitive pressures could cause the Company to reduce the prices of its products, which would result in reduced profit margins. Prolonged price competition would have a material adverse effect on the Company's business, financial condition and results of operations. Also, run-time licenses, which provide for per-unit royalty payments for each embedded system that incorporates the Company's real-time operating systems, may be subject to significant pricing pressures. A variety of other potential actions by the Company's competitors, including increased promotion and accelerated introduction of new or enhanced products, could have a material adverse effect on the Company's business, financial condition and results of operations. See "Business--Competition." Acquisition-Related Risks. The Company completed a number of acquisitions in fiscal 1996 and may complete additional acquisitions in the future. The process of integrating an acquired company's business into the Company's operations may result in unforeseen operating difficulties and expenditures and may absorb significant management attention that would otherwise be available for the ongoing development of the Company's business. Moreover, there can be no assurance that the anticipated benefits of an acquisition will be realized. Future acquisitions by the Company could result in potentially dilutive issuances of equity securities, the incurrence of debt and contingent liabilities and amortization expenses related to goodwill and other intangible assets, which could materially adversely affect the Company's business, financial condition and results of operations. In addition, acquisitions involve numerous risks, including difficulties in the assimilation of the operations, technologies and products of the acquired companies, difficulties in managing diverse geographic sales and research and development operations, the diversion of management attention from other business concerns, risks of entering markets in which the Company has no or limited direct prior experience and the potential loss of key employees of the acquired company. The inability of the Company's management to respond to changing business conditions effectively, including the changes associated with its recent acquisitions, could have a material adverse effect on the Company's business, financial condition and results of operations. From time to time, the Company evaluates potential acquisitions of businesses, products or technologies. The Company has no present understandings, commitments or agreements with respect to any material acquisition of other businesses, products or technologies, and no material acquisition is currently being pursued actively. In the event that such an acquisition were to occur, however, there can be no assurance that the Company's business, operating results and financial condition would not be materially adversely affected. See "Use of Proceeds" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." Risks Associated with International Operations. In fiscal 1994, 1995 and 1996, the Company derived approximately 30%, 28% and 34%, respectively, of its total revenue from sales outside of North America. The Company expects that international sales will continue to generate a significant percentage of its total revenue in the foreseeable future. The Company expects to continue to make substantial investments in its international operations and to increase its direct sales force in Europe and Asia. There can be no assurance that these increases will result in commensurate increases in the Company's international sales. In addition, international operations are subject to a number of special 6 8 risks, including foreign government regulation, more prevalent software piracy, longer payment cycles, unexpected changes in, or imposition of, regulatory requirements, tariffs, import and export restrictions and other barriers and restrictions, greater difficulty in accounts receivable collection, potentially adverse tax consequences, the burdens of complying with a variety of foreign laws, staffing and managing foreign operations, general geopolitical risks, such as political and economic instability, hostilities with neighboring countries and changes in diplomatic and trade relationships, possible recessionary environments in economies outside the United States and other factors beyond the control of the Company. The Company generally denominates sales to and by foreign subsidiaries in local currency, and an increase in the relative value of the dollar against such currencies, as has recently occurred, would reduce the Company's revenue in dollar terms or make the Company's products more expensive and, therefore, potentially less competitive in foreign markets. The Company has little experience in hedging its foreign currency sales and often does not hedge such sales. There can be no assurance that the Company's future results of operations will not be adversely affected by currency fluctuations. The Company relies on distributors for sales of its products in certain foreign countries and, accordingly, is dependent on their ability to promote and support the Company's products and, in some cases, to translate them into foreign languages. The Company's international distributors generally offer products of several different companies, including in some cases products that are competitive with the Company's products, and such distributors are not subject to any minimum purchase or resale requirements. There can be no assurance that the Company's international distributors will continue to purchase the Company's products or provide them with adequate levels of support. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Risks of Product Defects; Product and Other Liability. As a result of their complexity, software products may contain undetected errors or compatibility issues, particularly when first introduced or as new versions are released. There can be no assurance that, despite testing by the Company and testing and use by current and potential customers, errors will not be found in new products after commencement of commercial shipments. The occurrence of such errors could result in loss of or delay in market acceptance of the Company's products, which could have a material adverse effect on the Company's business, financial condition and results of operations. The increasing use of the Company's products for applications in systems that interact directly with the general public, particularly applications in transportation, medical systems and other markets where the failure of the embedded system could cause substantial property damage or personal injury, could expose the Company to significant product liability claims. In addition, the Company's products are used for applications in mission-critical business systems where the failure of the embedded system could be linked to substantial economic loss. The Company's license and other agreements with its customers typically contain provisions designed to limit the Company's exposure to potential product liability and other claims. It is likely, however, that the limitation of liability provisions contained in the Company's agreements are not effective in all circumstances and in all jurisdictions. Although the Company has not experienced any product liability or economic loss claims to date, the sale and support of the Company's products may entail the risk of such claims. The Company currently does not have insurance against product liability risks or errors or omissions coverage and there can be no assurance that such insurance will be available to the Company on commercially reasonable terms or at all. A product liability claim or claim for economic loss brought against the Company, or a product recall involving the Company's software, could have a material adverse effect on the Company's business, financial condition and results of operations. See "Business--Product Development." Dependence on Key Personnel; Need for Additional Personnel. The Company's future performance depends to a significant degree upon the continued contributions of its key management, product development, sales, marketing and operations personnel. The Company does not have employment agreements with any of its key personnel and does not maintain any key person life insurance policies. In addition, the Company believes its future success will also depend in large part upon its ability to attract and retain highly skilled managerial, engineering, sales, marketing and operations personnel, many of whom are in great demand. Competition for such personnel has intensified dramatically over 7 9 the last twelve months in Santa Clara County, California, where the Company is headquartered, and there can be no assurance that the Company will be successful in attracting and retaining such personnel. The failure of the Company to attract, assimilate and retain the necessary personnel could have a material adverse effect on the Company's business, financial condition and results of operations. See "Business--Employees" and "Management." Limited Protection of Proprietary Technology. The Company's success is heavily dependent upon its proprietary technology. To protect its proprietary rights, the Company relies on a combination of copyright, trade secret, patent and trademark laws, nondisclosure and other contractual restrictions on copying and distribution and technical measures. The Company seeks to protect its software, documentation and other written materials through trade secret and copyright laws, which provide only limited protection. In addition, the Company holds two United States patents and has additional United States patent applications pending. There can be no assurance that patents held by the Company will not be challenged and invalidated, that patents will issue from any of the Company's pending applications or that any claims allowed from existing or pending patents will be of sufficient scope or strength (or be issued in all countries where the Company's products can be sold) to provide meaningful protection or any commercial advantage to the Company. As part of its confidentiality procedures, the Company generally enters into nondisclosure agreements with its employees, consultants, distributors and corporate partners and limits access to and distribution of its software, documentation and other proprietary information. End user licenses of the Company's software are frequently in the form of shrink wrap license agreements, which are not signed by licensees, and therefore may be unenforceable under the laws of many jurisdictions. The source code of the Company's products is also protected as a trade secret and is generally not licensed to customers. Despite the Company's efforts to protect its proprietary rights, it may be possible for unauthorized third parties to copy the Company's products or to reverse engineer or obtain and use information that the Company regards as proprietary. There can be no assurance that the Company's competitors will not independently develop technologies that are substantially equivalent or superior to the Company's technologies. Policing unauthorized use of the Company's products is difficult, and while the Company is unable to determine the extent to which software piracy of its products exists, software piracy can be expected to be a persistent problem. In addition, effective protection of intellectual property rights may be unavailable or limited in certain countries. The status of United States patent protection in the software industry is not well defined and will evolve as the United States Patent and Trademark Office grants additional patents. Patents have been granted on fundamental technologies in software, and patents may issue that relate to fundamental technologies incorporated into the Company's products. As the number of patents, copyrights, trademarks and other intellectual property rights in the Company's industry increases, products based on its technology may increasingly become the subject of infringement claims. There can be no assurance that third parties will not assert infringement claims against the Company in the future. Any such claims with or without merit could be time consuming, result in costly litigation, cause product shipment delays or require the Company to enter into royalty or licensing agreements. Such royalty or licensing agreements, if required, may not be available on terms acceptable to the Company, or at all, which could have a material adverse affect on the Company's business, financial condition and results of operations. In addition, the Company may initiate claims or litigation against third parties for infringement of the Company's proprietary rights or to establish the validity of the Company's proprietary rights. Litigation to determine the validity of any claims, whether or not such litigation is determined in favor of the Company, could result in significant expense to the Company and divert the efforts of the Company's technical and management personnel from productive tasks. In the event of an adverse ruling in any such litigation, the Company may be required to pay substantial damages, discontinue the use and sale of infringing products, expend significant resources to develop non-infringing technology or obtain licenses to infringing technology. The failure of the Company to develop or license a substitute technology could have a material adverse affect on the Company's business, financial condition and results of operations. See "Business--Proprietary Rights." 8 10 Dependence on Licenses from Third Parties. The Company licenses certain software development tool products from other companies to distribute with its own products. The inability of such third parties to provide competitive products with adequate features and high quality on a timely basis or to cooperate in sales and marketing activities could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, the Company's products compete with products produced by certain of the Company's licensors. There can be no assurance that, upon the termination or expiration of these licenses, such licenses will be available on reasonable terms or at all, or that similar products could be obtained to substitute into the tool suites. The inability to license such products could have a material adverse effect on the Company's business, financial condition and results of operations. Volatility of Stock Price. The prices for the Company's Common Stock have fluctuated widely in the past. The management of the Company believes that such fluctuations may have been caused by actual or anticipated variations in the Company's operating results, announcements of technical innovations or new products or services by the Company or its competitors, changes in earnings estimates by securities analysts and other factors, including changes in conditions of the software and other technology industries in general. Stock markets have experienced extreme price volatility in recent years. This volatility has had a substantial effect on the market prices of securities issued by the Company and other high technology companies, often for reasons unrelated to the operating performance of the specific companies. The trading prices of many high technology companies' stocks, including the stock of the Company, are at or near their historical highs and reflect price/earnings ratios substantially above historical norms. There can be no assurance that the trading price of the Company's stock will remain at or near its current level. In the past, following periods of volatility in the market price of a company's securities, securities class action litigation has often been instituted against such a company. Such litigation, if instituted, could result in substantial costs and a diversion of management attention and resources, which would have a material adverse effect on the Company's business, financial condition and results of operations even if the Company is successful in such suits. These market fluctuations, as well as general economic, political and market conditions such as recessions, may adversely affect the market price of the Common Stock. 9 11 USE OF PROCEEDS The net proceeds to the Company from the sale of the 500,000 shares of Common Stock offered by the Company hereby at an assumed public offering price of $24.00 are estimated to be $11,020,000. The Company intends to use the net proceeds from this offering for general corporate purposes, including working capital and possible acquisitions. From time to time, in the ordinary course of business, the Company evaluates potential acquisitions of complementary businesses, products or technologies, for which a portion of the net proceeds may be used. However, the Company currently has no understandings, commitments or agreements with respect to any material acquisition of other businesses, products or technologies. Pending use of the net proceeds for the above purposes, the Company intends to invest such funds in interest-bearing, investment grade obligations. The Company will not receive any proceeds from the sale of Common Stock by the Selling Shareholders. PRICE RANGE OF COMMON STOCK The Common Stock of the Company commenced trading publicly on the Nasdaq National Market on March 7, 1990 and is traded under the symbol INTS. The following table sets forth for the periods indicated the high and low sale prices for the Common Stock.
HIGH LOW ------- ------- FISCAL YEAR ENDED FEBRUARY 28, 1995 1st Quarter................................................. $ 6.250 $ 4.500 2nd Quarter................................................. 6.500 4.188 3rd Quarter................................................. 8.625 6.125 4th Quarter................................................. 11.750 7.125 FISCAL YEAR ENDED FEBRUARY 28, 1996 1st Quarter................................................. 12.000 9.875 2nd Quarter................................................. 15.375 10.000 3rd Quarter................................................. 21.000 14.625 4th Quarter................................................. 23.875 16.000 FISCAL YEAR ENDING FEBRUARY 28, 1997 1st Quarter (through April 10, 1996)........................ 26.000 22.875
On April 10, 1996, the reported last sale price for the Common Stock on the Nasdaq National Market was $24.00 per share. As of February 28, 1996 there were approximately 147 holders of record of the Common Stock. DIVIDEND POLICY The Company has not declared or paid any cash dividends on its capital stock. The Company currently anticipates that it will retain all future earnings for use in its business and does not anticipate paying any cash dividends in the foreseeable future. 10 12 CAPITALIZATION The following table sets forth the consolidated capitalization of the Company as of February 28, 1996 as adjusted to reflect the sale of the 500,000 shares of Common Stock offered by the Company at an assumed price of $24.00 per share and after deducting the estimated underwriting discount and estimated offering expenses payable by the Company.
FEBRUARY 28, 1996 -------------------------- ACTUAL AS ADJUSTED(1) ------- -------------- (IN THOUSANDS) Long-term debt................................................... $ -- $ -- Shareholders' equity: Preferred Stock, no par value; 5,000,000 shares authorized; none outstanding............................................ -- -- Common Stock, no par value; 50,000,000 shares authorized; 21,206,000 shares outstanding; 21,706,000 shares outstanding, as adjusted(2)................................. 40,283 51,303 Unrealized holding gain on marketable securities, net.......... 333 333 Retained earnings.............................................. 17,660 17,660 ------- ------- Total shareholders' equity............................. 58,276 69,296 ------- ------- Total capitalization................................. $58,276 $ 69,296 ======= =======
- --------------- (1) Does not include proceeds to the Company from option exercises by any Selling Shareholders in connection with shares sold in this offering. (2) Does not include 2,525,920 authorized but unissued shares of Common Stock issuable upon exercise of stock options outstanding at February 28, 1996, with a weighted average exercise price of $7.40 and 2,647,210 shares of Common Stock available for future issuance under the Company's stock option plans and stock purchase plan. 11 13 SELECTED CONSOLIDATED FINANCIAL DATA The following selected consolidated financial data is qualified by reference to and should be read in conjunction with the consolidated financial statements and the notes thereto included elsewhere herein. The consolidated statement of operations data set forth below with respect to the years ended February 28, 1994, 1995 and 1996 and the consolidated balance sheet data at February 28, 1995 and 1996 are derived from, and are qualified by reference to, the audited consolidated financial statements and notes thereto included in this Prospectus. The consolidated statement of operations data set forth below with respect to the years ended February 28, 1992 and 1993 and the consolidated balance sheet data at February 28, 1992 and 1993 are derived from audited consolidated financial statements not included in this Prospectus. During fiscal 1996, the Company acquired TakeFive Software GmbH and Doctor Design, Inc. in transactions accounted for as poolings of interests. The annual financial information has been restated to combine the results of the Company and Doctor Design, Inc. in fiscal 1994 and fiscal 1995. Fiscal 1996 includes the results of Doctor Design, Inc. and TakeFive Software GmbH. The annual financial information has not been restated for earlier years because such financial information was not material to the Company.
YEAR ENDED FEBRUARY 28, ------------------------------------------------------- 1992(1) 1993(1) 1994 1995 1996 ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE DATA) CONSOLIDATED STATEMENTS OF OPERATIONS DATA: Revenue: Product....................................... $13,384 $19,690 $26,350 $34,952 $51,597 Services...................................... 11,228 12,698 19,433 23,102 32,845 ------- ------- ------- Total revenue............................ 24,612 32,388 45,783 58,054 84,442 ------- ------- ------- Cost and expenses: Cost of product revenue....................... 1,843 3,221 4,986 5,980 9,046 Cost of services revenue...................... 3,947 4,170 8,262 9,547 15,824 Marketing and sales........................... 7,349 11,564 16,515 20,565 27,209 Research and development...................... 4,537 6,133 5,926 8,341 11,379 General and administrative.................... 1,995 2,468 3,567 4,311 6,637 Amortization of intangible assets............. 600 1,199 1,764 1,311 556 Acquisition and other......................... 11,840 -- -- -- 7,327 ------- ------- ------- ------- ------- Total costs and expenses................. 32,111 28,755 41,020 50,055 77,978 ------- ------- ------- ------- ------- Income (loss) from operations....... (7,499) 3,633 4,763 7,999 6,464 Interest and other income........................ 1,735 1,575 1,258 1,601 2,331 ------- ------- ------- ------- ------- Income (loss) before income taxes... (5,764) 5,208 6,021 9,600 8,795 Provision for income taxes....................... 2,126 1,771 1,935 3,110 3,512 ------- ------- ------- ------- ------- Net income (loss)................... $(7,890) $ 3,437 $ 4,086 $ 6,490 $ 5,283 ======= ======= ======= ======= ======= Earnings (loss) per share(2)..................... $ (0.45) $ 0.18 $ 0.21 $ 0.33 $ 0.24 ======= ======= ======= ======= ======= Earnings per share before acquisition and other costs(3)...................................... $ 0.23 $ 0.18 $ 0.21 $ 0.33 $ 0.50 ======= ======= ======= ======= ======= Shares used in per share calculations(2)......... 17,478 18,636 19,122 19,964 22,088 ======= ======= ======= ======= =======
FEBRUARY 28, ------------------------------------------------------- 1992 1993 1994 1995 1996 ------- ------- ------- ------- ------- (IN THOUSANDS) CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents and marketable securities.................................... $23,985 $27,150 $33,156 $36,517 $49,476 Working capital.................................. 9,744 13,005 12,298 17,783 31,431 Total assets..................................... 38,417 40,918 52,970 66,101 85,264 Total shareholders' equity....................... 30,946 32,447 38,032 47,948 58,276
- ------------------------------ (1) Fiscal 1992 and 1993 have not been restated to reflect the annual financial information for Doctor Design, Inc. as such financial information was not material to the Company. (2) See Note 1 of Notes to Consolidated Financial Statements for an explanation of the determination of the number of shares used in per share calculations. (3) Fiscal 1992 and 1996 earnings per share before acquisition and other costs reflect earnings per share as if the Company had not incurred such acquisition and other costs, net of any tax effects. 12 14 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion provides an analysis of the Company's financial condition and results of operations, and should be read in conjunction with the "Selected Consolidated Financial Data" and the Note thereto and the Consolidated Financial Statements and the Notes thereto of the Company. OVERVIEW Integrated Systems designs, develops, markets and supports software products for embedded microprocessor-based applications and provides related engineering services. The Company currently derives substantially all of its revenues from licensing of these products and providing related maintenance and engineering and consulting services. The Company's revenue has grown steadily through increased licensing of existing and new products and through acquisitions, and its net income, excluding acquisition and other charges has also grown steadily. In October 1995, the Company acquired TakeFive Software GmbH ("TakeFive"), an Austrian corporation in the business of developing and marketing software tools used in software development, including SNiFF+, an advanced object-oriented integrated development environment. In January 1996, the Company completed a merger with Doctor Design, Inc. ("Doctor Design"), a California corporation that develops multimedia hardware, software and application specific integrated circuit technology. Each of these business combinations has been accounted for as a pooling of interests and the results of operations for fiscal 1996 include the results of TakeFive and Doctor Design for the whole of the year. The fiscal 1994 and 1995 results have been restated to include only the results of Doctor Design, since those of TakeFive were not significant in those years. See "Risk Factors--Acquisition-Related Risks." FORWARD-LOOKING INFORMATION IS SUBJECT TO RISK AND UNCERTAINTY Certain statements in the financial discussion and analysis by management contain "forward-looking" information (as defined in the Private Securities Litigation Reform Act of 1995) that involve risk and uncertainty, including projections for fiscal 1997 and various business environment and trends projections. Actual future results and trends may differ materially depending on a variety of factors, including the volume and timing of orders received during the quarter, the mix of and changes in distribution channels through which the Company's products are sold, the timing and acceptance of new products and product enhancements by the Company or its competitors, changes in pricing, buyouts of run-time licenses, product life cycles, the level of the Company's sales of third party products, purchasing patterns of distributors and customers, competitive conditions in the industry, business cycles affecting the markets in which the Company's products are sold, extraordinary events, such as acquisitions or litigation, and economic conditions generally or in various geographic areas, which are difficult to forecast. The future operating results of the Company may fluctuate as a result of these and the other risk factors detailed from time-to-time in the Company's Securities and Exchange Commission reports and in the section of this Prospectus entitled "Risk Factors." Due to all of the foregoing factors, the Company believes that period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as an indication of future performance. It is likely that, in some future quarters, the Company's operating results will be below the expectations of stock market analysts and investors. In such event, the price of the Company's Common Stock would likely be materially adversely affected. Consequently, the purchase or holding of the Company's Common Stock involves a high degree of risk. 13 15 RESULTS OF OPERATIONS The following table sets forth for the periods presented the percentage of total revenue represented by each line item in the Company's consolidated statements of income and the percentage change in each line item from the prior period.
PERCENTAGE OF TOTAL REVENUE PERIOD-TO-PERIOD ------------------------- PERCENTAGE CHANGES --------------------------- YEAR ENDED FEBRUARY 28, FISCAL 1994 FISCAL 1995 ------------------------- TO TO 1994 1995 1996(1) FISCAL 1995 FISCAL 1996 ---- ---- ------- ----------- ----------- Revenue: Product..................................... 58 % 60 % 61% 33% 48% Services.................................... 42 40 39 19 42 --- --- --- Total revenue....................... 100 100 100 27 45 --- --- --- Costs and expenses: Cost of product revenue..................... 11 10 11 20 51 Cost of services revenue.................... 18 17 19 16 66 Marketing and sales......................... 36 36 32 25 32 Research and development.................... 13 14 13 41 36 General and administrative.................. 8 7 8 21 54 Amortization of intangible assets........... 4 2 1 (26) (58) --- --- --- Total costs and expenses............ 90 86 84 22 41 --- --- --- Income from operations......... 10 14 16 68 72 Interest and other income..................... 3 3 3 27 46 --- --- --- Income before income taxes..... 13 17 19 59 68 Provision for income taxes.................... 4 6 6 61 66 --- --- --- Net income..................... 9 % 11 % 13% 59 69 === === ===
- ------------------------------ (1) The table excludes acquisition and other costs of $7.3 million, including related tax effects, in 1996 since inclusion of such costs would render year-to-year comparisons less meaningful. Revenue. The Company's total revenue increased 27% from $45.8 million in fiscal 1994 to $58.1 million in fiscal 1995 and an additional 45% to $84.4 million in fiscal 1996. A majority of the Company's total revenue came from product revenue, which increased 33% from $26.4 million in fiscal 1994 to $35.0 million in fiscal 1995 and an additional 48% to $51.6 million in fiscal 1996. The increase in product revenue from fiscal 1994 to fiscal 1995 was primarily due to increased unit shipments of pSOSystem and new products. The increase in product revenue from fiscal 1995 to fiscal 1996 was due primarily to increased unit shipments of pSOSystem and MATRIXx and the inclusion of SNiFF+ product revenue in fiscal 1996. pSOSystem revenue increased between both comparison periods as a result of increased unit volume in all geographic regions and the introduction of new products. MATRIXx revenue was flat from fiscal 1994 to fiscal 1995 as domestic growth was offset by a decline in international revenue due, in part, to the transition from independent sales representatives to direct sales and support organizations in Europe. MATRIXx revenue grew from fiscal 1995 to fiscal 1996 due to increased unit shipments and the introduction of new products. Services revenue increased 19% from $19.4 million in fiscal 1994 to $23.1 million in fiscal 1995 and an additional 42% to $32.8 million in fiscal 1996. These increases were the result of increases in the number and size of consulting contracts and increases in maintenance revenue from the Company's growing installed base of customers. The percentage of the Company's total revenue from customers located internationally was 30%, 28% and 34% in fiscal 1994, 1995 and 1996, respectively. The Company expects international revenue will continue to grow as a percentage of total revenue. 14 16 Costs and Expenses. The Company's cost of product revenue as a percentage of product revenue was 19%, 17% and 18% in fiscal 1994, 1995 and 1996, respectively. These fluctuations are due primarily to changes in the mix of product revenue derived from the sale of higher margin products. The Company's cost of services revenue as a percentage of services revenue was 43%, 41% and 48% in fiscal 1994, 1995 and 1996, respectively. Fluctuations in these percentages result from shifts in service revenue mix between higher margin maintenance revenue and lower margin consulting contract revenue. Marketing and sales expenses were $16.5 million, $20.6 million and $27.2 million in fiscal 1994, 1995 and 1996, respectively, representing 36%, 36% and 32%, respectively of total revenue. The dollar increases were primarily due to additional expenses associated with the Company's continued expansion of its marketing and sales organization both domestically and overseas. The percentage decrease from fiscal 1995 to fiscal 1996 was the result of pooling the operating results of several acquired companies whose marketing and sales expenses had represented a smaller percentage of their total revenue. The Company anticipates that marketing and sales expenses will increase in fiscal 1997 as a percentage of total revenue as the Company invests in infrastructure to support certain acquired products and to continue its expansion into new geographical areas. Research and development expenses were $5.9 million, $8.3 million and $11.4 million in fiscal 1994, 1995 and 1996, respectively, representing 13%, 14% and 13%, respectively, of total revenue. These dollar increases were primarily the result of increased activity associated with bringing several products to market, including increased personnel and consulting expenses, and a decrease in software cost capitalization. Costs that are required to be capitalized under Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed" ("SFAS No. 86") were $335,000 in fiscal 1996 compared to $492,000 in fiscal 1995 and $1.1 million in fiscal 1994. The amount capitalized represents approximately 3% of total research and development expenditures for fiscal 1996 compared to 6% for fiscal 1995 and 16% for fiscal 1994. The amount of research and development expenditures capitalized in a given time period depends upon the nature of the development performed and, accordingly, amounts capitalized may vary from period to period. Capitalized costs are being amortized using the greater of the amount computed using the ratio that current gross revenues for a product bear the total of current and anticipated future gross revenues for that product, or on a straight-line basis over three years. Amortization for fiscal 1996 was $921,000, compared to $607,000 for fiscal 1995 and $160,000 for fiscal 1994. General and administrative expenses were $3.6 million, $4.3 million and $6.6 million in fiscal 1994, 1995 and 1996, respectively, representing 8%, 7% and 8%, respectively, of total revenue. These dollar increases were primarily the result of increased headcount, related in part to the acquisitions of Doctor Design and TakeFive. Amortization of intangible assets was $1.8 million, $1.3 million and $556,000 in fiscal 1994, 1995 and 1996, respectively. These dollar amounts declined as the Company reached the end of the amortization period for software purchased in an earlier acquisition. Acquisition and other costs in fiscal 1996 totaled $7.3 million and comprised direct costs related to the acquisitions of TakeFive and Doctor Design, the write-off of intangible assets related to a prior acquisition whose product offering will be replaced by the use of other products, costs associated with the acquisition of certain technology and related assets to enhance pSOSystem product offerings, and costs related to the termination of a distributor relationship in Japan. See Note 2 to Notes to Consolidated Financial Statements. Interest and other income was $1.3 million, $1.6 million and $2.3 million in fiscal 1994, 1995 and 1996, respectively. Interest and other income increased due to an increase in the amount of cash equivalents and marketable securities and to higher interest rates. 15 17 The effective tax rate was 40% in fiscal 1996 compared to 32% in both fiscal 1995 and fiscal 1994. The increase in the effective rate is due to the effect of non-deductible acquisition and other costs. After adjusting for such items, the effective rate for fiscal 1996 is 32%. QUARTERLY FINANCIAL DATA The following tables set forth selected unaudited quarterly financial data for the Company's fiscal year ended February 28, 1996. The unaudited information has been prepared on the same basis as the audited information and, in the opinion of management, reflects all adjustments (which include only normal recurring adjustments) necessary for the fair presentation of the information for the periods presented. Based on the Company's operating history and factors that may cause fluctuations in the quarterly results, quarter-to-quarter comparisons should not be relied upon as indicators of future performance.
FISCAL YEAR ENDED FEBRUARY 28, 1996 -------------------------------------------------- QUARTER ENDED -------------------------------------------------- MAY 31, AUGUST 31, NOVEMBER 30, FEBRUARY 28, 1995 1995 1995 1996 ------- ---------- ------------ ------------ (IN THOUSANDS, EXCEPT PER SHARE DATA) Revenue: Product......................................... $11,622 $ 12,146 $ 12,665 $ 15,164 Services........................................ 6,836 7,705 8,845 9,459 ------- ------- ------- ------- Total revenue........................... 18,458 19,851 21,510 24,623 Costs and expenses: Cost of product revenue......................... 2,466 2,073 2,128 2,379 Cost of services revenue........................ 3,423 3,971 4,147 4,283 Marketing and sales............................. 6,379 6,246 6,761 7,823 Research and development........................ 2,585 2,843 2,827 3,124 General and administrative...................... 1,557 1,604 1,563 1,913 Amortization of intangible assets............... 186 186 77 107 Acquisition and other........................... -- -- 3,601 3,726 ------- ------- ------- ------- Total costs and expenses................ 16,596 16,923 21,104 23,355 ------- ------- ------- ------- Income from operations............. 1,862 2,928 406 1,268 Interest and other income......................... 525 691 511 604 ------- ------- ------- ------- Income before income taxes.............. 2,387 3,619 917 1,872 Provision for income taxes........................ 809 1,185 333 1,185 ------- ------- ------- ------- Net income.............................. $ 1,578 $ 2,434 $ 584 $ 687 ======= ======= ======= ======= Earnings per share................................ $ 0.07 $ 0.11 $ 0.03 $ 0.03 ======= ======= ======= ======= Earnings per share before acquisition and other costs........................................... $ 0.07 $ 0.11 $ 0.14 $ 0.17 ======= ======= ======= ======= Shares used in per share calculations............. 21,714 21,994 22,284 22,362 ======= ======= ======= =======
16 18
AS A PERCENTAGE OF TOTAL REVENUE(1) -------------------------------------------------- QUARTER ENDED -------------------------------------------------- MAY 31, AUGUST 31, NOVEMBER 30, FEBRUARY 28, 1995 1995 1995 1996 ------- ---------- ------------ ------------ Revenue: Product.......................................... 63% 61% 59% 62% Services......................................... 37 39 41 38 ------- ---- --- ---- --- ---- --- Total revenue............................ 100 100 100 100 ------- ---- --- ---- --- ---- --- Costs and expenses: Cost of product revenue.......................... 13 11 10 10 Cost of services revenue......................... 19 20 19 17 Marketing and sales.............................. 35 31 31 32 Research and development......................... 14 14 13 13 General and administrative....................... 8 8 7 8 Amortization of intangible assets................ 1 1 1 -- ------- ---- --- ---- --- ---- --- Total costs and expenses................. 90 85 81 80 ------- ---- --- ---- --- ---- --- Income from operations.............. 10 15 19 20 Interest and other income.......................... 3 3 2 2 ------- ---- --- ---- --- ---- --- Income before income taxes............... 13 18 21 22 Provision for income taxes......................... 4 6 7 7 ------- ---- --- ---- --- ---- --- Net income............................... 9% 12% 14% 15% ======= ======= ======= =======
- --------------- (1) The table excludes acquisition and other costs, including the related tax effects, since inclusion of such costs would render the comparison less meaningful. The Company's quarterly operating results vary significantly depending on a number of factors, including the volume and timing of orders received during the quarter, the mix of and changes in distribution channels through which the Company's products are sold, the timing and acceptance of new products and product enhancements by the Company or its competitors, changes in pricing, buyouts of run-time licenses, product life cycles, the level of the Company's sales of third party products, purchasing patterns of distributors and customers, competitive conditions in the industry, business cycles effecting the markets in which the Company's products are sold, extraordinary events, such as litigation or acquisitions, including related charges, and economic conditions generally or in various geographic areas. All of the foregoing factors are difficult to forecast. The future operating results of the Company may fluctuate as a result of these and other factors, including the Company's ability to continue to develop innovative and competitive products. The Company historically has operated with insignificant product backlog because its products are generally shipped as orders are received. As a result, product revenue in any quarter depends on the volume and timing of orders received in that quarter. In addition, the Company has at times recognized a substantial portion of its total revenue from sales booked and shipped in the last two weeks of the quarter such that the magnitude of quarterly fluctuations may not become evident until very late in, or after the end of, a particular quarter. Because the Company's staffing and operating expenses are based on anticipated total revenue levels, and a high percentage of the Company's costs are fixed in the short term, small variations between anticipated orders and actual orders, as well as non-recurring or large orders, can cause disproportionate variations in the Company's operating results from quarter to quarter. The procurement process of the Company's customers typically ranges from a few weeks to several months or longer from initial inquiry to order, making the timing of sales and license fees difficult to predict. Moreover, as licensing of the Company's products increasingly becomes a more 17 19 strategic decision made at higher management levels, there can be no assurance that sales cycles for the Company's products will not lengthen. The Company's results of operations may also be affected by seasonal trends. The Company's total revenue and net income during the first fiscal quarter have been lower than the previous fourth fiscal quarter for a variety of reasons, including customer purchase cycles related to expiration of budgetary authorizations, and the Company expects that total revenue and net income in the first quarter of fiscal 1997 will be lower than the fourth quarter of fiscal 1996. In addition, in the first quarter of fiscal 1997, the Company shifted from third party distributors to direct sales and support in Japan and Italy. In the past, the Company's sales declined in the short term during such transitions. There can be no assurance that declines will not occur during the current transitions or similar transitions in the future. Also, the Company's recent acquisitions in fiscal 1996, as well as any future acquisitions, involve numerous risks and could have a material adverse effect on the Company's business, financial condition and results of operations. The Company expects to move its Santa Clara, California operations to Sunnyvale, California by the end of the first quarter of fiscal 1997. There can be no assurance that the move will not disrupt the Company's operations or affect the Company's operating results. Due to all of the foregoing factors, the Company believes that period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as an indication of future performance. It is likely that, in some future quarters, the Company's operating results will be below the expectations of stock market analysts and investors. In such event, the price of the Company's Common Stock would likely be materially adversely affected. RECENT ACCOUNTING PRONOUNCEMENTS During March 1995, the Financial Accounting Standards Board issued Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" (SFAS No. 121), which requires the Company to review for impairment of long-lived assets, certain identifiable intangibles and goodwill related to those assets whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In certain situations, an impairment loss would be recognized. SFAS No. 121 will be effective for the Company's fiscal year 1997. The Company has studied the implications of the statement, and, based on its initial evaluation, does not expect it to have a material impact on the Company's financial condition or results of operations. During October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" (SFAS No. 123). This accounting standard permits the use of either a fair value based method or the current Accounting Principals Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB No. 25) when accounting for stock-based compensation arrangements. Companies that do not follow the new fair value based method will be required to disclose pro forma net income and earnings per share computed as if the fair value based method had been applied. The disclosure provisions of SFAS No. 123 are effective for fiscal years beginning after December 15, 1995. Management has not determined whether it will adopt the fair value based method of accounting for stock-based compensation arrangements nor the impact of SFAS No. 123 on the Company's consolidated financial statements. LIQUIDITY AND CAPITAL RESOURCES The Company has funded its operations to date principally through cash flows from operations. As of February 28, 1996, the Company had $49.5 million of cash, cash equivalents and marketable securities. This represents an increase of $13.0 million from February 28, 1995. During the first quarter of fiscal 1995, the Company announced that the Board of Directors had authorized the Company to repurchase up to an additional 1,000,000 shares of Common Stock for cash, from time-to-time at market prices, pursuant to a repurchase program announced in September 1992. In the second quarter of fiscal 1995, under this program, the Company repurchased 250,000 shares of Common Stock for $1.1 million. The Company believes that cash flows from operations, together with existing cash balances, available 18 20 borrowings and the proceeds from this offering, will be adequate to meet the Company's cash requirements for working capital, capital expenditures and stock repurchases for the next 12 months and the foreseeable future. Net cash provided by operating activities during fiscal 1996 totaled $18.5 million, an increase of $10.7 million over the amount generated in fiscal 1995 which increased by $293,000 over fiscal 1994. The increase in net cash provided by operating activities in fiscal 1996 was due to increases in depreciation and amortization, current liabilities, income taxes payable and deferred revenue were offset by increases in accounts receivable and other current assets. Net cash used in investing activities totaled $6.0 million in fiscal 1996 compared to $9.3 million in fiscal 1995 and $7.0 million in fiscal 1994. The decrease in net cash used in investing activities in fiscal 1996 was due primarily to the reduction in net purchases of marketable securities, offset by increases in additions to property and equipment and net cash paid in acquisitions. The increase in net cash used in investing activities in fiscal 1995 was due primarily to the acquisition of the FlexOS product line and an increase in expenditures for property and equipment. Net cash provided by financing activities totaled $1.6 million in fiscal 1996 compared to $961,000 in fiscal 1995 and $674,000 in fiscal 1994. The increase in net cash provided by financing activities in fiscal 1996 was due to an increase in proceeds from the exercise of options to purchase Common Stock and purchases under the Employee Stock Purchase Plan and the absence of Common Stock repurchases. The increase in net cash provided by financing activities in fiscal 1995 was due to an increase in proceeds from the exercise of options to purchase Common Stock and purchases under the Employee Stock Purchase Plan, offset by the repurchase of 250,000 shares of Common Stock. After the end of fiscal 1996, in March 1996, the Company purchased a building, which will become its principal facility, for cash of approximately $12.0 million. The Company expects the move to this new facility to be completed by the end of the first quarter of fiscal 1997. 19 21 BUSINESS Integrated Systems designs, develops, markets and supports software products for embedded microprocessor-based applications and also provides related engineering services. Embedded microprocessors are used to add functionality and intelligence to a variety of products and to operate as an integral part of these products, generally without any direct human intervention. The Company offers software that consists of a real-time operating system and a series of modules and design tools that aid the development of embedded applications. The Company's products are designed to enable users to accelerate the design, development, debugging, implementation and maintenance of embedded software. The Company's products and services reduce the expense associated with embedded software and system development and enable customers to develop systems that have greater functionality, enhanced performance, improved reliability and ease of use. Integrated Systems markets and supports its products and provides services on a worldwide basis to a variety of users in a broad range of industries, including telecommunications and data communications, automotive, multimedia and consumer and office and industrial automation. Recently, the Company has introduced embedded operating software and design tools for Internet applications. INDUSTRY BACKGROUND Embedded systems consist of a microprocessor and related software dedicated to a specialized task or set of tasks and are found in many common products such as telephones, automobiles, VCRs and facsimile machines. Many of these products require real-time embedded systems that provide an immediate, predictable response to unpredictable sequences of external events under severe deadlines. For example, the embedded system that controls the engine in an automobile must set airflow, fuel quantity, spark advance and other engine parameters for each cycle within milliseconds based on engine speed, engine temperature, atmospheric conditions and accelerator position in order to optimize fuel efficiency, emissions control and responsiveness. As more powerful microprocessors have become available and decreased in price, the use of embedded systems are being used in or with a wider range of applications. Today, embedded systems are found in telecommunications and data communications products such as routers, access devices and switches; automotive products such as engine controllers and anti-lock braking systems; multimedia and consumer products such as digital video broadcast and security systems; and office and industrial automation products such as printers, copiers and point-of-sale terminals. Emerging embedded Internet applications for interactive entertainment, network computers, remote maintenance and other areas may offer significant new opportunities for embedded systems. The development of applications software for embedded systems requires software development tools and a real-time operating system. Real-time operating systems and software development tools, including compilers, debuggers and simulators, are used by developers to create applications software that enables the embedded system to perform its required functions. Embedded systems are increasingly based upon 32-bit microprocessors, which run significantly larger and more sophisticated application software than embedded systems based upon less powerful microprocessors. In addition, the cost of some 32-bit microprocessors has decreased substantially to below $10, thereby opening new markets for high-volume embedded applications that can now be cost justified. As a result, 32-bit microprocessors represent the fastest growing segment of the embedded microprocessor industry. The complexity and size of these new software applications and the proliferation of multiple types of microprocessors require a more substantial engineering effort, necessitating more sophisticated development tools and real-time operating systems. Developers of embedded systems are increasingly replacing internally developed real-time operating systems with commercially available products as organizations find in-house development and maintenance costly and a diversion of core engineering resources. Also, developers of embedded systems often find that in-house real-time operating systems developed for a single project are not easily ported to other microprocessors or scalable for different applications within the organization, 20 22 which increases development time and cost. As a result, organizations are seeking to improve engineering productivity by standardizing on third-party software in order to eliminate software incompatibilities and reduce training and support costs. With productivity becoming a more strategic issue, selection of tools and real-time operating system technology is increasingly being evaluated by senior managers for division or company-wide deployment. The Company believes that more organizations will need to replace in-house tools with commercial products and to standardize on integrated enterprise-wide solutions that are highly reliable, easily customizable and scalable so that they can be used for simple as well as complex applications. INTEGRATED SYSTEMS' SOLUTION Integrated Systems provides comprehensive solutions for the development of highly reliable and sophisticated embedded microprocessor-based applications. The Company offers operating software that consists of a real-time system, the pSOSystem, and a series of modules and design tools. The Company's products are designed to enable users to accelerate the design, development, debugging, implementation and maintenance of embedded software and to develop systems that have greater functionality, enhanced performance, improved reliability and ease of use. The Company also offers a range of consulting services, including product and system design, training in the use of the Company's products and development of specialized application code or drivers for incorporation into customers' applications. These services have allowed the Company to offer customers complete designs based on the Company's products and have allowed more rapid use of the Company's technology in customers' product designs. The Company's solution is used in embedded and real-time applications in a broad range of industries, including telecommunications and data communications, automotive, multimedia and consumer and office and industrial automation. Recently, the Company has introduced embedded operating software and design tools for Internet applications. The solution offered by Integrated Systems provides the following features and benefits: High Reliability. The Company's pSOS+ operating system is highly reliable, making it suitable for deeply embedded applications where human intervention to remedy software operating problems is not feasible. High reliability reduces maintenance costs and allows the Company's customers to develop sophisticated mass market products based on Integrated Systems' solution. Suitability For High Volume Applications. The Company offers a full-featured high performance operating system with memory requirements as low as 16 Kbytes. In addition, the Company's operating system is very efficient, enabling the Company's customers to minimize hardware costs while increasing the functionality of their application designs. The Company's solutions are suitable for low-cost, high-volume applications because of their low memory and other hardware requirements and for hand-held applications in which less complex hardware conserves battery power. Customability and Scalability. The Company's product architecture is modular, scalable and readily customizable. As a result, the Company's solution is used in a broad range of industries for a wide array of applications. In addition, these product features enable the Company to enter new and emerging markets rapidly. The Company endeavors to be first to market with support for new applications and microprocessors. Cross-Development Capabilities. To accelerate the application development process, Integrated Systems offers a set of tools specifically designed for embedded software development that fully supports object-oriented methodologies. The Company's solution provides an integrated development environment ("IDE") to which individual development tools can be connected. The Company's IDE includes SNiFF+, which is an advanced, object-oriented environment for the development of sophisticated applications. The Company offers comprehensive cross-development capabilities that allow its development tools to operate on a personal computer or workstation, while the embedded software runs on an embedded processor. The Company offers MATRIXx, a high-level set of tools for modeling, simulation and code generation from a graphical description of real-time control software functionality. 21 23 Application-Specific Modules. The Company offers various application specific modules that run on top of the Company's operating system and that allow the operating software to be more easily targeted to specific applications without degrading performance of the operating system. BUSINESS STRATEGY The Company's objective is to maintain its leadership position in the telecommunications and data communications, automotive, multimedia and consumer and office and industrial automation markets, and leverage its experience in embedded applications to enter new markets, such as embedded Internet applications, in which the Company believes it can establish a leadership position. To achieve these objectives, the Company is pursuing the following business strategy: Maintain Technology Leadership. The Company's extensive expertise in embedded software development tools and real-time operating systems has enabled it to be a technology leader in the embedded software development market. The Company seeks to capitalize on this existing technology base to accelerate the development of new products that leverage the features of its existing product line. The Company intends to maintain its technological leadership through rapid response to emerging opportunities and customer requirements by continuing to make significant investments in research and development and continuing to enhance the architecture of its development tools and operating software. Offer Comprehensive Solutions. The Company's products and services offer a comprehensive solution to users of embedded microprocessors. This approach simplifies customers' purchasing decisions, eliminates the need for customers to integrate products from multiple sources, improves customer support, accelerates the integration of the Company's technology into customers' products and allows the Company's products to be used effectively by less experienced engineers. The Company expects to continue to expand and refine its solution through internal development activities and strategic acquisitions. Maintain Market Focus. While the Company's products and services are suitable for a wide variety of applications and are sold to a broad range of customers, the Company has focused its development and marketing efforts on the telecommunications and data communications, automotive, multimedia and consumer and office and industrial automation markets. The Company has developed a complete suite of products to address these markets in order to achieve deeper penetration, as well as to provide products that reduce the time and expense associated with system development. The Company seeks to participate in the rapid growth of low-cost, high-volume applications for embedded systems through run-time license arrangements with its customers based on the number of products sold that incorporate the Company's products. Address Emerging Market Opportunities. From time to time, the Company evaluates strategic opportunities and applies its technology to develop products for new markets more quickly. The Company recently introduced design tools and operating software products for the embedded Internet market based in part on technology obtained through recent acquisitions. The Company believes its products and services are suitable for emerging markets because its products are scalable, reliable and rapidly reconfigurable. Focus on Large Accounts. Integrated Systems markets its software products and engineering services to large customers to encourage them to use the Company's products in multiple designs. This strategy has made it possible for certain large customers to standardize on the Company's products. In addition, it allows the Company to learn from large customers about future requirements that the Company may incorporate into its products and services. Portability and Support for Widely-Used Embedded Microprocessors and Host Platforms. The Company has expended significant resources to make its products available on a broad range of host platforms and 32-bit embedded microprocessors. This has allowed the Company to sell into a broad 22 24 range of markets. Because large companies use a range of host platforms and microprocessors, it also makes it possible for large customers to standardize on Integrated Systems' solution. PRODUCTS AND SERVICES The Company offers three major families of products to support the embedded software development market: real-time or embedded operating software, software development tools and graphical design products. Embedded Operating Software. Integrated Systems' embedded operating software consists of the pSOS+ operating system and special purpose modules that run on the pSOS+ operating system. The combination of real-time operating software and development tools is marketed and licensed as pSOSystem. pSOS+ is a priority-based, interrupt-oriented, multitasking operating system that is small in size (requiring as little as 16 Kbytes of storage) and highly reliable and efficient. Based on a scalable software component architecture, pSOS+ represents a complete solution for advanced 32-bit embedded applications development and run-time. The Company also offers a multiprocessing version, called pSOS+m, that operates on tightly coupled or loosely coupled microprocessors. pSOS+ operating system is currently available for the Motorola 68xxx, Intel x86 and i960, Power PC, MIPS and Hitachi SH product families. The special purpose modules that run on the pSOS+ operating system are used to support development of pSOS+ application software, to debug embedded code and to provide file support for embedded applications. The Company also offers X11 graphical user interface modules for embedded applications. In addition, the Company offers a number of modules that address networking, telecommunications and data communications, automotive, multimedia and consumer and embedded Internet applications. These modules provide complete implementation of certain aspects of the applications at which they are focused, which improves customers' time to market and reliability. For example, the TCP/IP module offered by the Company provides a complete implementation of the TCP/IP communication protocol. Software Development Tools. The Company offers a broad line of tools to support the development of embedded software applications. The Company's development tools consist of an integrated development environment ("IDE"), which provides sophisticated cross development frameworks, and individual tools that are connected to these frameworks. The Company's IDE includes SNiFF+, which is an advanced, object-oriented environment for the development of sophisticated applications including the development of complex object-oriented desktop and client-server applications. Individual tools offered by the Company include C and C++ cross-compilers, source level debuggers, browsers, pSOS+ simulators and profilers. The Company also offers a visual debugging and analysis tool called ESp that graphically displays component configurations, memory stack usage and errors, static and dynamic views of all kernel objects, user specified events and CPU use graphs. The Company also offers IDE products and individual tools that are licensed from third parties or that include technology licensed from third parties. The Company's tools operate on Windows-based personal computers and workstations manufactured by Sun Microsystems, Hewlett-Packard and IBM. Graphical Design Products. The Company's graphical design product line, called MATRIXx, includes control system engineering tools for analysis, design, simulation and prototyping. Products and modules in the MATRIXx family include the following: --Xmath is a mathematically-based engineering analysis tool that provides analysis capabilities, plot generation facilities and specialized function libraries for control design, robust control, optimization, digital signal processing, system identification and model reduction applications. --SystemBuild is a system modeling and simulation tool used to create interactive, dynamic system models that include plant dynamics and real-time software logic. SystemBuild includes a block diagram editor, tools to create animated system simulations and state transition diagrams. In 23 25 addition, customers can order special purpose libraries for a variety of needs, including fuzzy logic systems. The architecture of SystemBuild allows the creation of application-specific libraries. --AutoCode automatically generates programming code from SystemBuild diagrams in the C or Ada languages. This accelerates application development by relieving engineers of line-by-line programming and sharply reducing programming errors committed as projects move from design analysis to programming phrases. --DocumentIt software further accelerates the design process by automatically incorporating information about a design into a documentation format. --RealSim Series prototyping tools complete the family by providing the software and real-time computing hardware to verify an application in its intended environment. C or Ada code generated in the AutoCode environment automatically loads and runs on RealSim Series hardware. Embedded Internet Products. In January 1996, the Company announced the availability of pSOSystem modules directed at embedded Internet applications. The first two modules offered by the Company in its Embedded Internet family are Java support for pSOSystem, which allows developers to build Internet applications on pSOSystem, and an HTTP server based on pSOS+, which allows the Company's operating software to be used for embedded Internet servers. For example, one of the Company's customers has recently demonstrated a network management capability for global networks based on the Company's product providing Java support for pSOSystem. The Company has also recently introduced a SNiFF+ design environment for Java that enables the development of both embedded and desktop Java-based Internet applications. The Company expects to announce additional Embedded Internet products during 1996. Engineering Services. In addition to the products described above, the Company offers engineering services to its customers. The Company's engineering services group helps customers design and implement specific solutions typically using tools provided by the Company. The Company provides engineering services to develop close relationships with key customers, to accelerate acceptance of advanced tools in the industry, to demonstrate the effectiveness of the products, to learn more about specific systems and customer's development needs and to work with the Company's product development group to incorporate appropriate features into new versions of products or into new modules or libraries. Engineering services projects can last from a few weeks to several years and are generally performed on a time and materials basis. SALES AND SUPPORT The Company markets its products primarily through a direct sales force augmented by a focused telemarketing organization, distributors and sales representatives. The Company believes that use of a direct sales force allows the Company to influence customer purchasing decisions, to provide superior support to its customers and to understand better evolving customer needs. The Company has significantly expanded the number of markets where it uses a direct sales force and expects to continue to do so in the future. The Company's direct sales organization in North America operates through 14 United States sales offices and a recently-opened subsidiary in Canada. Direct sales managers are typically supported by field application engineers that are experts in the Company's technology and products. In addition, a small telemarketing organization focuses on selling maintenance and renewal contracts, licensing lower-priced products and licensing to universities. Sales internationally are supported by a direct sales force that operates from subsidiaries based in France, Germany, Italy, Sweden, the United Kingdom, Israel and Japan. In addition, the Company has sales and support offices in Korea and India. The sales and support personnel in these subsidiaries and offices are complemented by distributors and sales representatives that address certain geographical areas, market segments or product families. Sales representatives market and support the Company's 24 26 products in Australia, China, India, Korea, Taiwan and several other countries in Asia, while distributors cover the rest of the world. The Company initiated direct selling operations in Japan and Italy, replacing its existing third party distributor arrangements, and implemented certain substantial changes to its direct sales operations in Germany and France in the first quarter of fiscal 1997. These transitions may result in a decline in the Company's sales in those countries during such transition. The Company's software development products are typically licensed on a per-user basis. The Company's real-time operating systems and run-time packages are also generally licensed for development on a per-user basis. Run-time license fees are typically charged on a per-unit basis when the customer's application is deployed. List prices for the Company's software development tools and real-time operating systems development licenses generally range from less than $4,000 to over $100,000, with a typical development license averaging between $25,000 and $50,000. Approximately 30%, 28% and 34% of the Company's total revenue was derived from sales outside of North America in fiscal 1994, 1995 and 1996, respectively. See Note 10 of Notes to Consolidated Financial Statements. The Company has made significant investments in developing its distribution and support channels outside North America to increase the percentage of revenue derived from international sales. There can be no assurance that changes from distribution sales to direct sales or these additional investments will lead to increased revenue. See "Risk Factors--Risks Associated with International Operations." 25 27 CUSTOMERS AND APPLICATIONS The Company markets its products to customers in a variety of industries, with principal focus on telecommunications and data communications, automotive, multimedia and consumer office and industrial automation, as well as in the embedded Internet market. No single customer accounted for more than 10% of the Company's total revenue in fiscal 1995 or fiscal 1996. The Company's customers include the following:
- ------------------------------------------------------------------------------------ CUSTOMERS SELECTED APPLICATIONS - ------------------------------------------------------------------------------------ TELECOMMUNICATIONS AND DATA COMMUNICATIONS: Alcatel Telephone switching equipment AT&T Central office switching equipment Cascade Communications Frame relay switch DSC Communications Interoffice switching equipment Fujitsu SONET switch Motorola Corporation Satellite communications system Northern Telecom PBXs Samsung Transmission equipment - ------------------------------------------------------------------------------------ AUTOMOTIVE: Bosch Automotive components Daimler-Benz Automotive electronics Ford Motor Corporation Chassis control General Motors Powertrain controllers Honda Engine controllers Nissan Automotive electronics Toyota Traction control - ------------------------------------------------------------------------------------ MULTIMEDIA AND CONSUMER: Hewlett-Packard Set-top box development Philips N.V. HDTV and consumer appliances Sega Corporation Karaoke system Sony Corporation Digital broadcast satellite system - ------------------------------------------------------------------------------------ OFFICE AND INDUSTRIAL AUTOMATION: Eastman Kodak Company Copiers Sharp Corporation Multifunction devices Xerox Corporation Copiers and printers - ------------------------------------------------------------------------------------ EMBEDDED INTERNET: UB Networks Network management Xionics Printer maintenance and management - ------------------------------------------------------------------------------------ MISCELLANEOUS: Gilbarco Automated gas pumps G-TECH Electronic lottery machines - ------------------------------------------------------------------------------------
26 28 PRODUCT DEVELOPMENT The Company's product development activities specifically address the needs of the market segments upon which the Company focuses, offer customers open cross-development capability and enhance the capabilities of current products and modules to address user requirements. In addition, the Company seeks to port the pSOSystem to additional microprocessors, make the pSOSystem suitable for additional high-volume applications, add new products and modules to the Company's product lines, create interfaces between the Company's products and other key computer-aided design and software development tools and provide the end user greater flexibility to integrate automatically-generated code with manually-written code, thereby allowing the end user to accelerate application development. The Company attempts to release upgrades and to introduce new products or modules on a regular basis. In connection with each release, the Company works closely with its customers to define improvements and enhancements that are incorporated into the next release of the product. This approach includes customer feedback in the Company's product design process, as well as in the evaluation stage, thereby permitting customers to influence functionality early in the product's life-cycle. The Company believes that its engineering services group provides the Company with a competitive advantage for product development by defining needs for new products, guiding future enhancements and testing new implementations. In addition, this group contracts with customers to research new methodologies that can serve as prototypes for new features, products or modules. As of February 28, 1996, the Company employed 127 engineers in the product development group and 62 in the engineering services group. The Company's engineers include experts in software engineering, software development tools, multimedia, telecommunications, real-time controls and operating systems technology. For fiscal 1994, 1995 and 1996, the Company's research and development expenses were approximately $5.9 million, $8.3 million and $11.4 million or 13%, 14% and 13% of its total revenue, respectively. The Company capitalizes certain costs of developing computer software to be licensed or otherwise marketed to customers in accordance with Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed" ("SFAS No. 86"). The Company capitalized approximately $1.1 million, $492,000 and $335,000 of research and development expenses related to the development of software products in fiscal 1994, 1995 and 1996, respectively. The amounts capitalized represented approximately 16%, 6% and 3%, respectively, of total research and development expenses for fiscal 1994, 1995 and 1996. Such capitalized costs are being amortized using the greater of the amount computed using the ratio that current gross revenues for a product bear to the total of current and anticipated future gross revenues for that product, or on a straight-line basis over three years. Amortization of capitalized cost for fiscal 1994, 1995 and 1996 was $160,000, $607,000 and $921,000, respectively. The amount of research and development expenses capitalized in a given time period depends upon the nature of the development performed and, accordingly, amounts capitalized may vary from period to period. The market for embedded applications is fragmented and is characterized by ongoing technological developments, evolving industry standards and rapid changes in customer requirements. The Company's success depends upon its ability to continue to develop and introduce in a timely manner new products that take advantage of technological advances, to continue to enhance its existing product lines, to offer its products across a spectrum of microprocessor families used in the embedded systems market and to respond promptly to customers' requirements. The Company must continuously update its existing products to keep them current with changing technology and must develop new products to take advantage of new technologies that could render the Company's existing products obsolete. The Company has in the past experienced delays in the development of new products and the enhancement of existing products. Such delays are commonplace in the software industry and are likely to be experienced by the Company in the future. The Company's future prospects depend upon the Company's ability to increase the functionality of existing products in a timely manner and to develop new products that address new technologies and achieve market acceptance. New products 27 29 and enhancements must keep pace with competitive offerings, adapt to evolving industry standards and provide additional functionality. There can be no assurance that the Company will be successful in developing and marketing, on a timely basis or at all, competitive products, product enhancements and new products that respond to technological change, changes in customer requirements and emerging industry standards, or that the Company's enhanced or new products will adequately address the changing needs of the marketplace. The inability of the Company, due to resource constraints or technological or other reasons, to develop and introduce new products or product enhancements in a timely manner could have a material adverse effect on the Company's business, financial condition or results of operations. From time to time, the Company or its competitors may announce new products, capabilities or technologies that have the potential to replace or shorten the life cycles of the Company's existing products. There can be no assurance that announcements of currently planned or other new products will not cause customers to defer purchasing existing Company products. Any failure by the Company to anticipate or respond adequately to changing market conditions, or any significant delays in product development or introduction, would have a material adverse effect on the Company's business, financial condition and results of operations. Currently, the Company is expending substantial time and financial resources to develop a product line for applications that use Internet technology with embedded microprocessors. If the Internet market, or any other new market targeted by the Company in the future, fails to develop, develops more slowly than anticipated or becomes saturated with competitors, or if the Company's products and services do not achieve or sustain market acceptance, the Company's business, financial condition and results of operations would be materially adversely affected. See "Risk Factors -- Risks Associated with New or Emerging Markets." COMPETITION The market for commercially available software tools and embedded operating systems is fragmented and highly competitive and is characterized by pressures to incorporate new features and accelerate the release of new product versions. The Company's products compete with software developed internally by embedded systems manufacturers and software offered by other third parties. Many organizations that internally develop and maintain real-time operating systems have substantial programming resources and can develop specific products for their needs. Many of these companies have significant investments in their existing software and there can be no assurance that the Company will be able to persuade existing and potential customers to replace or augment their internally developed real-time operating systems with the Company's products. The Company's principal competitors for third-party embedded software development and related tools (pSOSystem) are Mentor Graphics (through its acquisition of Microtec Research Inc.), Microware Systems Corporation and Wind River Systems, Inc. The MATRIXx product family competes with products offered by Mathworks Incorporated and a number of other companies that provide design and analysis, modeling and simulation, and code generation products. The Company also competes with a number of other vendors that address one or more segments of the system design process, including vendors that have modified general purpose software engineering products for real-time and control design applications. As the industry continues to develop, the Company expects competition to increase in the future from existing competitors and from other companies that may enter the Company's existing or future markets with similar or substitute solutions that may be less costly or provide better performance or functionality than the Company's products. Some of the Company's existing and many of its potential competitors have substantially greater financial, technical, marketing and sales resources than the Company and there can be no assurance that the Company will be able to compete successfully against these companies. In the event that price competition increases significantly, competitive pressures could cause the Company to reduce the prices of its products, which would result in reduced profit margins. Prolonged price competition would have a material adverse effect on the Company's business, financial condition and results of operations. Also, run-time licenses, which provide for per-unit royalty payments for each embedded system that incorporates the Company's real-time operating 28 30 systems, may be subject to significant pricing pressures. A variety of other potential actions by the Company's competitors, including increased promotion and accelerated introduction of new or enhanced products, could have a material adverse effect on the Company's business, financial condition and results of operations. The Company believes that the principal bases for a customer's decision to license the Company's products are product functionality and performance, degree of integration, ease of product use, quality of support services and corporate reputation. The Company believes that it competes favorably in these areas. PROPRIETARY RIGHTS The Company's success is heavily dependent upon its proprietary technology. To protect its proprietary rights, the Company relies on a combination of copyright, trade secret, patent and trademark laws, nondisclosure and other contractual restrictions on copying and distribution and technical measures. The Company seeks to protect its software, documentation and other written materials through trade secret and copyright laws, which provide only limited protection. In addition, the Company holds two United States patents and has additional United States patent applications pending. There can be no assurance that patents held by the Company will not be challenged and invalidated, that patents will issue from any of the Company's pending applications or that any claims allowed from existing or pending patents will be of sufficient scope or strength (or be issued in all countries where the Company's products can be sold) to provide meaningful protection or any commercial advantage to the Company. As part of its confidentiality procedures, the Company generally enters into nondisclosure agreements with its employees, consultants, distributors and corporate partners and limits access to and distribution of its software, documentation and other proprietary information. End user licenses of the Company's software are frequently in the form of shrink wrap license agreements which are not signed by licensees, and therefore may be unenforceable under the laws of many jurisdictions. The source code of the Company's products is also protected as a trade secret and is generally not licensed to customers. Despite the Company's efforts to protect its proprietary rights, it may be possible for unauthorized third parties to copy the Company's products or to reverse engineer or obtain and use information that the Company regards as proprietary. There can be no assurance that the Company's competitors will not independently develop technologies that are substantially equivalent or superior to the Company's technologies. Policing unauthorized use of the Company's products is difficult, and while the Company is unable to determine the extent to which software piracy of its products exists, software piracy can be expected to be a persistent problem. In addition, effective protection of intellectual property rights may be unavailable or limited in certain countries. The status of United States patent protection in the software industry is not well defined and will evolve as the United States Patent and Trademark Office grants additional patents. Patents have been granted on fundamental technologies in software, and patents may issue that relate to fundamental technologies incorporated into the Company's products. As the number of patents, copyrights, trademarks and other intellectual property rights in the Company's industry increases, products based on its technology may increasingly become the subject of infringement claims. There can be no assurance that third parties will not assert infringement claims against the Company in the future. Any such claims with or without merit could be time consuming, result in costly litigation, cause product shipment delays or require the Company to enter into royalty or licensing agreements. Such royalty or licensing agreements, if required, might not be available on terms acceptable to the Company, or at all, which could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, the Company may initiate claims or litigation against third parties for infringement of the Company's proprietary rights or to establish the validity of the Company's proprietary rights. Litigation to determine the validity of any claims, whether or not such litigation is determined in favor of the Company, could result in significant expense to the Company and divert the efforts of the Company's technical and management personnel from productive tasks. In the event of an adverse ruling in any such litigation, the Company might be required to pay substantial damages, discontinue the use and sale of infringing products, expend 29 31 significant resources to develop non-infringing technology or obtain licenses to infringing technology. The failure of the Company to develop or license a substitute technology could have a material adverse affect on the Company's business, financial condition and results of operations. The Company licenses certain software development tool products from other companies to distribute with its own products. The inability of such third parties to provide competitive products with adequate features and high quality on a timely basis or to provide sales and marketing cooperation could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, the Company's products compete with products produced by certain of the Company's licensors. There can be no assurance that, upon the termination or expiration of these licenses, such licenses will be available on reasonable terms or at all, or that similar products could be obtained to substitute into the tool suites. The inability to license such products could have a material adverse effect on the Company's business, financial condition and results of operations. BACKLOG The Company generally ships its products within 30 days after acceptance of a customer purchase order and, therefore, has insignificant product backlog. The insignificant product backlog makes it difficult to predict with accuracy quarterly revenue and quarterly earnings prior to the end of a quarterly reporting period. Engineering services backlog, consisting of orders for engineering services scheduled to be performed within the following twelve months, was approximately $2.1 million, $4.1 million and $7.2 million at February 28, 1994, 1995 and 1996, respectively. Most of the contracts with the Company's engineering services customers are terminable at the convenience of the customer. Although the Company has not experienced any material cancellations in the past, there can be no assurance that such cancellations will not occur in the future. EMPLOYEES As of February 28, 1996, the Company employed 416 persons, including 155 in marketing, sales and support services, 189 in engineering (62 in engineering services and 127 in product development) and 72 in management, administration and finance. Of these employees, 345 are located in the United States and 71 are located at the Company's subsidiaries and sales offices outside of the United States. In addition, from time to time the Company employs temporary employees and consultants. None of the Company's employees is represented by a labor union or is the subject of a collective bargaining agreement. The Company has never experienced a work stoppage and believes that its employee relations are good. The Company believes its future success will depend in large part upon its ability to attract and retain highly skilled managerial, engineering, sales, marketing and operations personnel, many of whom are in great demand. Competition for such personnel has intensified dramatically over the last twelve months in Santa Clara County, California, where the Company is headquartered, and there can be no assurance that the Company will be successful in attracting and retaining such personnel. See "Risk Factors--Dependence on Key Personnel; Need for Additional Personnel." FACILITIES The Company's principal offices are located in two buildings in Santa Clara, California covering approximately 60,000 square feet. The Company occupies this space under lease agreements that expire in September 1996. The annual base rental payment for this space (not including operating expenses, insurance, property taxes and assessment) is approximately $700,000. The Company also leases a number of additional offices in North America, Europe, Asia and Israel. In March 1996, the Company purchased for approximately $12.0 million in cash a building in Sunnyvale, California covering approximately 150,000 square feet. By the end of the first quarter of fiscal 1997, the Company expects to move its operations to this space from the two buildings in Santa Clara and terminate its obligations under the lease agreements. The Company will occupy approximately 100,000 square feet of this facility and lease the remaining space for approximately two years. There can be no assurance that the move will not disrupt the Company's operations or affect the Company's operating results over the near term. 30 32 MANAGEMENT EXECUTIVE OFFICERS AND DIRECTORS The executive officers and directors of the Company and their respective ages and positions are as follows:
NAME AGE POSITION - ---------------------------------------- --- ----------------------------------------------- Narendra K. Gupta....................... 47 Chairman of the Board of Directors and Secretary David P. St. Charles.................... 47 President, Chief Executive Officer and Director Joseph Addiego.......................... 40 Vice President, North American Sales Robert M. Dressler...................... 56 Vice President, Advanced Systems Group Hamid Mirab............................. 34 Vice President, European Operations Steven Sipowicz......................... 43 Vice President, Finance and Chief Financial Officer David E. Stepner........................ 51 Vice President, Research and Development Tony Tolani............................. 50 Vice President, Far East Operations Janice Waterman......................... 36 Vice President, Human Resources and Operations John C. Bolger(1)(2).................... 49 Director Vinita Gupta(1)......................... 45 Director Thomas Kailath(1)....................... 60 Director Richard C. Murphy(2).................... 51 Director
- ------------------------------ (1) Member of the Compensation Committee. (2) Member of the Audit Committee. Each director will hold office until the next Annual Meeting of Shareholders and until his successor is elected and qualified or until his earlier resignation or removal. Each officer serves at the discretion of the Board of Directors. Dr. Gupta is a founder of the Company and has been a director of the Company since its formation in 1980. He has been the Chairman of the Board of the Company since March 1993 and Secretary since September 1989. Dr. Gupta was Chief Executive Officer from 1988 to May 1994 and President from the Company's formation in 1980 to May 1994. He was elected a Fellow of the Institute of Electrical and Electronic Engineers (the "IEEE") in November 1991. Dr. Gupta is currently also a director of Digital Link Corporation, a data communications and wide-area networking equipment manufacturer, and Simulation Sciences, Inc., a developer of chemical simulation software. Dr. Gupta holds an M.S. in Engineering from the California Institute of Technology and a Ph.D. in Engineering from Stanford University. He is Vinita Gupta's husband. Mr. St. Charles joined the Company in August 1993 and was appointed President and Chief Executive Officer of the Company in May 1994. He has been a director since he joined the Company in August 1993. From April 1990 until August 1993, Mr. St. Charles served as President and a director of Wind River Systems, Inc., a real-time software company. He holds a B.A. in Liberal Arts and an M.A. in International Economics from Carleton University and an M.S. from the Sloan School of Management at the Massachusetts Institute of Technology. Mr. Addiego has been Vice President, North American Sales of the Company since March 1994. Since joining the Company in April 1986, he has held a variety of positions in marketing and sales, including Vice President, Sales, Design Automation Group from January 1992 until March 1994. Prior to joining the Company, he was employed by the Hewlett-Packard Company and American Tele- 31 33 phone & Telegraph Company in technical support and sales positions. Mr. Addiego holds a B.S. in Computer Engineering from San Francisco State University. Dr. Dressler has been Vice President, Advanced Systems Group since he joined the Company in February 1991. Prior to joining the Company, Dr. Dressler was employed for approximately 16 years by ESL Inc., a defense, aerospace and electrical systems company, most recently as Manager, Aerospace Systems Laboratory. He has also been employed by Systems Control Inc., a computer services company, and Stanford Research Institute in a variety of technical management and engineering research positions. Dr. Dressler holds a B.S. in Electrical Engineering from Rensselaer Polytechnic Institute and an M.S. and a Ph.D., both in Electrical Engineering, from Stanford University. Dr. Mirab joined the Company in November 1989 and has been Vice President, European Operations since October 1995. From November 1989 to September 1992, Dr. Mirab served as Manager, Technical Support in the United Kingdom, and from September 1992 to February 1995 as Managing Director of the Company's United Kingdom subsidiary. From February 1995 to October 1995, he served as General Manager, European Operations. Dr. Mirab holds a B.S. in General Engineering and a Ph.D. in Control Systems from the University of Glasgow. Mr. Sipowicz joined the Company in January 1992 and has been Vice President, Finance of the Company since April 1993 and Chief Financial Officer of the Company since September 1994. From January 1992 to April 1993, he served as the Company's Corporate Controller. Prior to joining the Company, Mr. Sipowicz spent 17 years in various management positions with Coopers & Lybrand, an accounting firm, in the United Kingdom and United States. He holds a B.S. in Chemistry from the University of Bristol in the United Kingdom. Mr. Sipowicz is a certified public accountant. Dr. Stepner has been Vice President, Research and Development since he joined the Company in December 1993. From April 1984 until March 1993, he served as Founder, President and Chief Executive Officer of Greyhawk Systems, Inc., a manufacturer of high resolution liquid crystal displays. In March 1993, Greyhawk Systems, Inc. was sold to AmPro Corporation and Dr. Stepner served as Executive Vice President of AmPro Corporation and General Manager of the AmPro/Greyhawk Division from March 1993 until December 1993. Dr. Stepner holds a B.S. in General Engineering from Brown University and an M.S. and a Ph.D., both in Electrical Engineering, from Stanford University. Dr. Tolani has been Vice President, Far East Operations since he joined the Company in December 1994. From 1973 to September 1994, he was employed by Structural Dynamics Research Corporation, a mechanical design software company, most recently as Vice President and General Manager, Far East Operations. Dr. Tolani holds a B.S. in Mechanical Engineering from Birla College of Engineering in India and an M.S. and a Ph.D., both in Mechanical Engineering, from the University of Missouri. Ms. Waterman joined the Company in July 1995 as Vice President, Human Resources and has served as Vice President, Human Resources and Operations of the Company since March 1996. From September 1994 to July 1995, she served as Vice President, Human Resources and Administration for Salick Health Care Inc., a health care provider. From May 1991 until September 1994, Ms. Waterman was Vice President of Human Resources and Administration of Tekelec, Inc., a telecommunications company. Ms. Waterman holds a B.A. in Sociology and Economics from the University of California at Davis and an M.S. in Industrial Psychology from California State University, Hayward. Mr. Bolger has been a director of the Company since July 1993. He served as Vice President, Finance and Administration, and Secretary of Cisco Systems, Inc., a networking software company, from 1989 until his retirement in 1992. Mr. Bolger is currently also a director of Integrated Device Technology, Inc., a semiconductor manufacturer, TCSI, a communication software company, and Sanmina Corporation, a backplane and contract assembly manufacturer. He holds a B.A. in English Literature from the University of Massachusetts and an M.B.A. from Harvard University. 32 34 Mrs. Gupta has been a director of the Company since its formation in 1980. Since May 1985, she has served as Chairperson of the Board and Chief Executive Officer of Digital Link Corporation, a data-communications and wide-area networking equipment manufacturer. Mrs. Gupta holds an M.S. in Electrical Engineering from the University of California, Los Angeles. She is Narendra K. Gupta's spouse. Dr. Kailath is a founder of the Company and has been a director of the Company since its formation in 1980. He served as Vice Chairman of the Board of Directors from January 1990 to March 1993 and Chairman of the Board of Directors from April 1980 to January 1990. He is currently the Hitachi America Professor of Engineering at Stanford University, where he has been on the faculty since January 1963. Dr. Kailath is a member of the National Academy of Engineering, the American Academy of Arts and Sciences and a Fellow of the IEEE. He holds an M.S. and a Sc.D., both in Electrical Engineering, from the Massachusetts Institute of Technology. Mr. Murphy has been a director of the Company since December 1994. He is a self-employed business consultant. Mr. Murphy is currently also a director of Objectivity, Inc., an object database software company, and iXOS Software, Inc., a distributor of image management software. He holds a B.S. in Mechanical Engineering from the University of Illinois and an M.B.A. from Northwestern University. 33 35 SELLING SHAREHOLDERS The following table sets forth certain information with respect to beneficial ownership of the Company's Common Stock as of April 10, 1996, and as adjusted to reflect the sale of the shares offered by this Prospectus, by each Selling Shareholder. Except as indicated in the footnotes to this table, the persons and entities named in the table have sole voting and sole investment power with respect to all shares beneficially owned by them, subject to community property laws.
SHARES BENEFICIALLY SHARES BENEFICIALLY OWNED PRIOR TO OWNED AFTER OFFERING(1) NUMBER OF OFFERING(1) ------------------- SHARES ------------------- NAME NUMBER PERCENT OFFERED NUMBER PERCENT - ----------------------------------------------- --------- ------- --------- --------- ------- Narendra K. and Vinita Gupta(2)................ 6,116,958 28.6% 1,020,000 5,096,958 23.3% Marco Thompson(3).............................. 377,432 1.8 120,000 257,432 1.2 David P. St. Charles(4)........................ 183,314 * 160,000 23,314 *
- ------------------------------ * Less than 1% (1) Percent ownership is based on 21,352,502 shares of Common Stock outstanding as of April 10, 1996 prior to the offering and 21,865,650 shares outstanding after the offering. Options to purchase shares of Common Stock that are exercisable within 60 days of April 10, 1996 are deemed to be outstanding and to be beneficially owned by the persons holding such options for the purpose of computing the percentage ownership of such person but are not deemed to be outstanding for the purpose of the computing the percentage of ownership of any other person. (2) Represents (i) 5,090,200 shares of Common Stock held of record by Dr. and Mrs. Gupta, (ii) 1,000,000 shares held of record by them, together with a third party, as trustees for their children, as to which they disclaim beneficial ownership, (iii) 7,800 shares held by Dr. Gupta as custodian for his daughter under the Uniform Gifts to Minors Act, as to which he disclaims beneficial ownership and (iv) 18,958 shares subject to options held by Mrs. Gupta that are exercisable within 60 days of April 10, 1996. Dr. Gupta is Chairman of the Board and Secretary of the Company and Mrs. Gupta is a director of the Company. If the Underwriters' over-allotment option to purchase up to 270,000 shares from Dr. and Mrs. Gupta is exercised, the total number of shares offered by them will be 1,290,000 and the shares beneficially owned after the offering will be 4,826,958, or 22.1% of the shares outstanding after the offering. (3) Includes 3,922 shares subject to options held by Mr. Thompson that are exercisable within 60 days of April 10, 1996. Mr. Thompson is President of Doctor Design. (4) Includes 179,416 shares subject to options held by Mr. St. Charles that are exercisable within 60 days of April 10, 1996. In addition, Mr. St. Charles holds options to purchase 168,084 shares that will vest in the future. Mr. St. Charles is the President, Chief Executive Officer and a director of the Company. 34 36 UNDERWRITING Subject to the terms and conditions of the Underwriting Agreement, Hambrecht & Quist LLC and Wessels, Arnold & Henderson, L.L.C. (the "Underwriters") have severally agreed to purchase from the Company and the Selling Shareholders the following respective number of shares of Common Stock.
NUMBER OF UNDERWRITER SHARES -------------------------------------------------------------------------- ---------- Hambrecht & Quist LLC..................................................... Wessels, Arnold & Henderson, L.L.C. ...................................... --------- Total........................................................... 1,800,000 =========
The Underwriting Agreement provides that the obligations of the Underwriters are subject to certain conditions precedent, including the absence of any material adverse change in the Company's business and the receipt of certain certificates, opinions and letters from the Company and its counsel and independent auditors. The nature of the Underwriters' obligation is such that they are committed to purchase all shares of Common Stock offered hereby if any of such shares are purchased. The Underwriters propose to offer the shares of Common Stock directly to the public at the offering price set forth on the cover page of this Prospectus and to certain dealers at such price less a concession not in excess of $ per share. The Underwriters may allow and such dealers may reallow a concession not in excess of $ per share to certain other dealers. After the public offering of the shares, the offering price and other selling terms may be changed by the Underwriters. One Selling Shareholder has granted to the Underwriters an option, exercisable no later than 30 days after the date of this Prospectus, to purchase up to 270,000 additional shares of Common Stock at the public offering price, less the underwriting discount, set forth on the cover page of this Prospectus. To the extent that the Underwriters exercise this option, each of the Underwriters will have a firm commitment to purchase approximately the same percentage thereof which the number of shares of Common Stock to be purchased by it shown in the above table bears to the total number of shares of Common Stock offered hereby. The Selling Shareholder will be obligated, pursuant to the option, to sell such shares to the Underwriters to the extent the option is exercised. The Underwriters may exercise such option only to cover over-allotments made in connection with the sale of the shares of Common Stock offered hereby. The offering of the shares is made for delivery when, as and if accepted by the Underwriters and subject to prior sale and to withdrawal, cancellation or modification of the offering without notice. The Underwriters reserve the right to reject an order for the purchase of shares in whole or in part. The Company and the Selling Shareholders have agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act, and to contribute to payments the Underwriters may be required to make in respect thereof. The Selling Shareholders and a director have agreed that they will not, without the prior written consent of Hambrecht & Quist LLC, sell, offer, contract to sell, make any short sale, pledge, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase or otherwise transfer or dispose of any shares of Common Stock or any securities convertible into or exchangeable or exercisable for or any rights to purchase or acquire Common Stock or enter into any swap or other agreement that transfers, in whole or in part, any of the economic consequences or ownership of Common Stock owned by them during the 90-day period following the date of this Prospectus. 35 37 In general, the rules of the Commission will prohibit the Underwriters from making a market in the Company's Common Stock during the "cooling off" period immediately preceding the commencement of sales in the offering. The Commission has, however, adopted exemptions from these rules that permit passive market making under certain conditions. These rules permit an underwriter to continue to make a market subject to the conditions, among others, that its bid not exceed the highest bid by a market maker not connected with the offering and that its net purchases on any one trading day not exceed prescribed limits. Pursuant to these exemptions, the Underwriters, selling group members (if any) or their respective affiliates intend to engage in passive market making in the Company's Common Stock during the cooling off period. LEGAL MATTERS The validity of the issuance of the shares of Common Stock offered hereby will be passed upon for the Company and the Selling Shareholders by Fenwick & West LLP, Palo Alto, California. Certain legal matters in connection with this offering will be passed upon for the Underwriters by Morrison & Foerster LLP, Palo Alto, California. EXPERTS The consolidated balance sheets of the Company as of February 28, 1995 and 1996, and the consolidated statements of income, shareholders' equity and cash flows for each of the three years in the period ended February 28, 1996, included in this Prospectus and Registration Statement, have been included herein in reliance on the report of Coopers & Lybrand L.L.P., independent accountants, given upon the authority of that firm as experts in accounting and auditing. AVAILABLE INFORMATION The Company is subject to the informational requirements of the Exchange Act and in accordance therewith files reports, proxy statements and other information with the Commission. Such reports, proxy statements and other information can be inspected and copied at the public reference facilities maintained by the Commission at Room 1024, 450 Fifth Street, N.W., Judiciary Plaza, Washington, D.C. 20549, and at the Commission's following Regional Offices: Suite 1400, Northwest Atrium Center, 500 West Madison Street, Chicago, Illinois 60661; and 13th Floor, Seven World Trade Center, New York, New York 10048. Copies of such material can be obtained at prescribed rates from the Public Reference Section of the Commission at 450 Fifth Street, N.W., Judiciary Plaza, Washington, D.C. 20549. The Company's Common Stock is quoted for trading on the Nasdaq National Market and reports, proxy statements and other information concerning the Company may also be inspected at the offices of the National Association of Securities Dealers, 1735 K Street, N.W., Washington, D.C. 20006. The Company has filed with the Commission a Registration Statement on Form S-3 (referred to herein, together with all amendments and exhibits, as the "Registration Statement") under the Securities Act of 1933, as amended, with respect to the securities offered by this Prospectus. This Prospectus does not contain all of the information set forth in the Registration Statement, certain parts of which have been omitted in accordance with the rules and regulations of the Commission. For further information with respect to the Company and the securities offered hereby, reference is made to the Registration Statement. Statements made in this Prospectus as to the contents of any contract or other document referred to herein are not necessarily complete and in each instance in which a copy of such contract is filed as an exhibit to the Registration Statement, reference is made to such copy, and each such statement shall be deemed qualified in all respects by such reference. Copies of the Registration Statement may be inspected, without charge, at the offices of the Commission, or obtained at prescribed rates from the Public Reference Section of the Commission at the address set forth above. 36 38 REPORT OF INDEPENDENT ACCOUNTANTS The Board of Directors and Shareholders Integrated Systems, Inc.: We have audited the accompanying consolidated balance sheets of Integrated Systems, Inc. as of February 28, 1995 and 1996 and the related consolidated statements of income, shareholders' equity and cash flows for each of the three years in the period ended February 28, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Integrated Systems, Inc. as of February 28, 1995 and 1996, and the consolidated results of its operations and its cash flows for each of the three years in the period ended February 28, 1996 in conformity with generally accepted accounting principles. COOOPERS & LYBRAND L.L.P. San Jose, California March 27, 1996 F-1 39 INTEGRATED SYSTEMS, INC. CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)
FEBRUARY 28, --------------------- 1995 1996 ------- ------- ASSETS Current assets: Cash and cash equivalents..................................................... $ 7,746 $21,822 Marketable securities......................................................... 6,472 12,231 Accounts receivable, net of allowance for doubtful accounts of $629 and $852 in 1995 and 1996, respectively........................................ 15,475 19,822 Deferred income taxes......................................................... 1,595 373 Prepaid expenses and other.................................................... 2,793 3,587 ------- ------- Total current assets.................................................. 34,081 57,835 Marketable securities........................................................... 22,299 15,423 Property and equipment, net..................................................... 3,613 5,593 Intangible assets, net.......................................................... 5,466 2,106 Deferred income taxes........................................................... 1,906 Other assets.................................................................... 642 2,401 ------- ------- Total assets.......................................................... $66,101 $85,264 ======= ======= LIABILITIES Current liabilities: Accounts payable.............................................................. $ 2,092 $ 4,309 Accrued payroll and related expenses.......................................... 2,331 3,673 Other accrued liabilities..................................................... 3,257 4,842 Income taxes payable.......................................................... 2,354 4,191 Deferred revenue.............................................................. 6,264 9,389 ------- ------- Total current liabilities............................................. 16,298 26,404 Deferred income taxes........................................................... 790 Other liabilities............................................................... 1,065 584 ------- ------- Total liabilities..................................................... 18,153 26,988 ------- ------- Commitments (Note 6). SHAREHOLDERS' EQUITY Preferred stock, no par value, 5,000 shares authorized: Issued and outstanding: none in 1995 and 1996 Common stock, no par value, 50,000 shares authorized: Issued and outstanding: 19,722 and 21,206 shares in 1995 and 1996, respectively............................................................... 35,688 40,283 Unrealized holding gain (loss) on marketable securities, net.................... (109) 333 Retained earnings............................................................... 12,369 17,660 ------- ------- Total shareholders' equity............................................ 47,948 58,276 ------- ------- Total liabilities and shareholders' equity............................ $66,101 $85,264 ======= =======
The accompanying notes are an integral part of these consolidated financial statements. F-2 40 INTEGRATED SYSTEMS, INC. CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE DATA)
YEAR ENDED FEBRUARY 28, ------------------------------- 1994 1995 1996 ------- ------- ------- Revenue: Product..................................................... $26,350 $34,952 $51,597 Services.................................................... 19,433 23,102 32,845 ------- ------- ------- Total revenue....................................... 45,783 58,054 84,442 ------- ------- ------- Costs and expenses: Cost of product revenue..................................... 4,986 5,980 9,046 Cost of services revenue.................................... 8,262 9,547 15,824 Marketing and sales......................................... 16,515 20,565 27,209 Research and development.................................... 5,926 8,341 11,379 General and administrative.................................. 3,567 4,311 6,637 Amortization of intangible assets........................... 1,764 1,311 556 Acquisition and other....................................... 7,327 ------- ------- ------- Total costs and expenses............................ 41,020 50,055 77,978 ------- ------- ------- Income from operations......................... 4,763 7,999 6,464 Interest and other income..................................... 1,258 1,601 2,331 ------- ------- ------- Income before income taxes..................... 6,021 9,600 8,795 Provision for income taxes.................................... 1,935 3,110 3,512 ------- ------- ------- Net income..................................... $ 4,086 $ 6,490 $ 5,283 ======= ======= ======= Earnings per share............................................ $ 0.21 $ 0.33 $ 0.24 ======= ======= ======= Shares used in per share calculations......................... 19,122 19,964 22,088 ======= ======= =======
The accompanying notes are an integral part of these consolidated financial statements. F-3 41 INTEGRATED SYSTEMS, INC. CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (IN THOUSANDS)
UNREALIZED COMMON STOCK HOLDING ------------------ GAIN (LOSS), RETAINED SHARES AMOUNT NET EARNINGS TOTAL ------ ------- ------------ -------- ------- Balances, February 28, 1993................. 17,774 $29,699 $ 2,748 $32,447 Exercise of common stock options.......... 469 572 572 Common stock purchased under Employee Stock Purchase Plan.................... 120 312 312 Amortization of deferred compensation..... 242 242 Tax benefit from disqualifying dispositions of common stock........... 372 372 Pooling of interests with Doctor Design... 614 79 (291) (212) Note receivable from shareholder.......... (14) (14) Unrealized holding gain on marketable securities, net........................ $ 227 227 Net income................................ 4,086 4,086 ------ ------- ----- ------- ------- Balances, February 28, 1994................. 18,977 31,262 227 6,543 38,032 Exercise of common stock options.......... 585 1,858 1,858 Common stock purchased under Employee Stock Purchase Plan.................... 94 420 420 Amortization of deferred compensation..... 183 183 Tax benefit from disqualifying dispositions of common stock........... 1,009 1,009 Repurchase of common stock................ (250) (430) (664) (1,094) Issuance of common stock in connection with acquisition....................... 316 1,386 1,386 Unrealized holding loss on marketable securities, net........................ (336) (336) Net income................................ 6,490 6,490 ------ ------- ----- ------- ------- Balances, February 28, 1995................. 19,722 35,688 (109) 12,369 47,948 Exercise of common stock options.......... 540 2,050 2,050 Common stock purchased under Employee Stock Purchase Plan.................... 72 557 557 Tax benefit from disqualifying dispositions of common stock........... 2,323 2,323 Pooling of interests with TakeFive Software............................... 872 50 8 58 Purchase of TakeFive Software common stock for cash............................... (400) (400) Payment of note receivable from shareholder............................ 15 15 Unrealized holding gain on marketable securities, net........................ 442 442 Net income................................ 5,283 5,283 ------ ------- ----- ------- ------- Balances, February 28, 1996................. 21,206 $40,283 $ 333 $ 17,660 $58,276 ====== ======= ===== ======= =======
The accompanying notes are an integral part of these consolidated financial statements. F-4 42 INTEGRATED SYSTEMS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEAR ENDED FEBRUARY 28, --------------------------------- 1994 1995 1996 -------- ------- -------- Cash flows from operating activities: Net income.......................................................... $ 4,086 $ 6,490 $ 5,283 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization.................................... 3,868 3,584 4,103 Write-down of intangible assets.................................. 3,083 Deferred income taxes............................................ (2) (558) (1,768) Changes in assets and liabilities: Accounts receivable............................................ (1,661) (5,321) (4,347) Prepaid expenses and other..................................... (658) (1,171) (794) Accounts payable, accrued payroll and other accrued liabilities................................................... 844 2,201 5,255 Income taxes payable........................................... 635 1,979 4,160 Deferred revenue............................................... 1,058 640 3,125 Other assets and liabilities................................... (687) (68) 375 -------- ------- -------- Net cash provided by operating activities................... 7,483 7,776 18,475 -------- ------- -------- Cash flows from investing activities: Purchases of marketable securities.................................. (11,633) (8,041) (16,878) Maturities of marketable securities................................. 7,234 3,593 18,731 Additions to property and equipment................................. (1,448) (2,089) (4,332) Disposals of property and equipment................................. 128 46 149 Capitalized software development costs.............................. (1,132) (492) (335) Net cash paid in acquisitions....................................... (117) (2,081) (2,885) Other............................................................... (200) (480) -------- ------- -------- Net cash used in investing activities....................... (6,968) (9,264) (6,030) -------- ------- -------- Cash flows from financing activities: Repurchase of common stock.......................................... (1,094) Proceeds from exercise of common stock options and purchases under Employee Stock Purchase Plan..................................... 884 2,278 2,607 Other............................................................... (210) (223) (976) -------- ------- -------- Net cash provided by financing activities................... 674 961 1,631 -------- ------- -------- Net increase (decrease) in cash and cash equivalents.................. 1,189 (527) 14,076 Cash and cash equivalents at beginning of year........................ 7,084 8,273 7,746 -------- ------- -------- Cash and cash equivalents at end of year.............................. $ 8,273 $ 7,746 $ 21,822 ======== ======= ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the year for income taxes, net..................... $ 2,056 $ 1,741 $ 700 SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING ACTIVITIES: Increase in carrying amount of purchased intangible assets upon adoption of Financial Accounting Standards No. 109, "Accounting for Income Taxes"................................................ $ 767 Unrealized holding gain (loss) on marketable securities............. $ 379 $ (560) $ 736 SUPPLEMENTAL SCHEDULE OF NONCASH FINANCING ACTIVITIES: Tax benefit from disqualifying dispositions of common stock......... $ 372 $ 1,009 $ 2,323 Issuance of common stock in connection with acquisition (Note 2).... $ 1,386
The accompanying notes are an integral part of these consolidated financial statements. F-5 43 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES NATURE OF OPERATIONS Integrated Systems, Inc. (the Company) designs, develops, markets and supports software products for embedded microprocessor-based applications and also provides related engineering services. Embedded microprocessors are used to add functionality and intelligence to a variety of products and to operate as an integral part of these products, generally without any direct human intervention. The Company offers software that consists of a real-time operating system and a series of modules and design tools that aid the development of embedded applications. The Company markets and supports its products and provides services on a worldwide basis to a variety of users in a broad range of industries, including telecommunications and data communications, automotive, multimedia and consumer, and office and industrial automation, as well as in the embedded Internet market, through a direct sales force augmented by a telemarketing organization, distributors and sales representatives. PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of Integrated Systems, Inc. and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. Investments in affiliated companies that are not controlled are carried at cost plus the Company's equity in undistributed earnings since acquisition (see Note 2). USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during a reporting period. Actual results could differ from those estimates. CASH AND CASH EQUIVALENTS Cash and cash equivalents, which are held at a variety of financial institutions, include demand deposits, money market accounts and all highly liquid debt instruments with an original or remaining maturity at the date of purchase of three months or less. The Company has not experienced any material losses relating to any investment instruments. FAIR VALUE OF FINANCIAL INSTRUMENTS The amounts reported for cash equivalents, accounts receivable, accounts payable and accrued liabilities are considered to approximate fair values based upon comparable market information available at February 28, 1996. Based upon interest rates available to the Company for debt with comparable maturities, the carrying values of the Company's notes payable approximate fair values. The fair values of the Company's marketable securities are set forth in Note 3. Financial instruments that potentially subject the Company to concentrations of credit risks comprise, principally, cash, cash equivalents, investments and trade accounts receivable. The Company invests its excess cash in government securities, tax exempt municipal securities, preferred stock, Eurodollar notes and bonds, time deposits, certificates of deposit, commercial paper rated Aa or better and other specific money market and corporate instruments of similar liquidity and credit quality. The Company performs ongoing evaluations of its customers' financial condition and does not require F-6 44 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) collateral. The Company maintains allowances for potential credit losses and such losses have been within management's expectations. MARKETABLE SECURITIES All marketable securities are classified as available-for-sale and therefore are carried at fair value. Marketable securities classified as current assets have scheduled maturities of less than one year, while marketable securities classified as noncurrent assets have scheduled maturities of more than one year. Unrealized holding gains and losses on such securities are reported net of related taxes as a separate component of shareholders' equity. Realized gains and losses on sales of all such securities are reported in interest and other income and computed using the specific identification cost method. REVENUE RECOGNITION Product Revenue Product revenue consists principally of revenue from product licensing fees. Product licensing fees, including advanced production royalty payments, are generally recognized when a customer purchase order has been received, a license agreement has been executed, the software has been shipped, remaining obligations are insignificant and collection of the resulting account receivable is probable. Generally, the Company's distributors do not have the right of return. Provisions for estimated product returns, warranty costs and insignificant vendor obligations are recorded at the time products are shipped. Services Revenue Services revenue consists principally of maintenance and renewal fees for providing product updates, technical support and related services for software products, and engineering and consulting services fees. Software maintenance revenue bundled with the initial product license revenue is deferred and recognized ratably over the related service period. The Company unbundles a portion of its initial product license revenue related to software maintenance revenue based upon product license renewal amounts, which are substantially less than the initial product license fee, or based upon the amount charged for such services when they are sold separately. License renewal fees, which are substantially less than the initial license, are deferred and recognized ratably over the license term. Revenue from separately sold maintenance contracts is recognized ratably over the related service period. Engineering and consulting services revenue from short-term and long-term contracts is generally recognized on the percentage-of-completion method. For cost reimbursement and firm fixed price contracts, revenues are recognized as the work is performed, based on the ratio of incurred costs to estimated total completion costs. For time-and-material contracts, revenues are recognized on the basis of direct labor hours and other direct costs incurred. Provisions for anticipated losses are made in the period in which they first become determinable. PROPERTY AND EQUIPMENT Property and equipment are recorded at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the respective assets (three to twenty years). Leasehold improvements are amortized over the lease term or the estimated useful life of the asset, whichever is shorter. F-7 45 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) SOFTWARE DEVELOPMENT COSTS The Company capitalizes certain costs to develop computer software to be licensed or otherwise marketed to customers. Such costs are amortized using the greater of the amount computed using the ratio that current gross revenues for a product bear to the total of current and anticipated future gross revenues for that product, or on a straight-line basis over three years. Software development costs included in intangible assets at February 28, 1995 and 1996, were $1,763,000 and $1,177,000, respectively, net of accumulated amortization of $822,000 and $1,743,000, respectively. Capitalized software development costs were $1,132,000, $492,000 and $335,000 in fiscal 1994, 1995 and 1996, respectively. Amortization, which is included in cost of product revenue, was $160,000, $607,000 and $921,000 in fiscal 1994, 1995 and 1996, respectively. INTANGIBLE ASSETS Intangible assets consist primarily of goodwill, purchased software and capitalized software development costs. Goodwill and purchased software are amortized on a straight-line basis over their estimated useful lives. The Company periodically evaluates the recoverability of these costs based upon estimated undiscounted future cash flows from the related products and businesses acquired. INCOME TAXES The Company's provision for income taxes is comprised of its current tax liability and the change in its deferred tax assets and liabilities. Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. ADVERTISING The Company expenses advertising costs as they are incurred. Advertising expense for fiscal 1994, 1995 and 1996 was $409,000, $800,000 and $927,000, respectively. COMPUTATION OF EARNINGS PER SHARE Earnings per share is computed using the weighted average number of common and common equivalent shares outstanding during the period. Common equivalent shares result from the assumed exercise of outstanding stock options that have a dilutive effect when applying the treasury stock method. FOREIGN CURRENCY TRANSLATION The Company's foreign subsidiaries that operate as sales and marketing offices for the Company's products, translate their financial statements using the U.S. dollar as the functional currency. Accordingly, foreign exchange gains and losses, which have been insignificant, are included in the consolidated statements of income. The Company's remaining foreign subsidiaries use the local currency as the functional currency. Accordingly, all assets and liabilities are recorded at year-end exchange rates and income and expenses are recorded at average rates. Adjustments resulting from the translation have been insignificant. F-8 46 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) FISCAL YEAR Prior to fiscal 1996, the Company's fiscal year was reported on a 52/53 week period ending on the last Saturday in February of each year. Beginning in fiscal 1996, the Company's fiscal year end is the last day in February. Accordingly, the fiscal year end for fiscal 1994, 1995 and 1996 was February 26, 25 and 29, respectively. The effect of this change was not material to the Company's financial statements for the year ended February 29, 1996. For clarity of presentation herein, all fiscal years are referred to as ending on February 28. RECLASSIFICATIONS Certain prior year amounts have been reclassified to conform to the current year presentation. RECENT ACCOUNTING PRONOUNCEMENTS During March 1995, the Financial Accounting Standards Board issued Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" (SFAS No. 121), which requires the Company to review for impairment of long-lived assets, certain identifiable intangibles and goodwill related to those assets whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In certain situations, an impairment loss would be recognized. SFAS No. 121 will be effective for the Company's fiscal year 1997. The Company has studied the implications of the statement and, based on its initial evaluation, does not expect it to have a material impact on the Company's financial condition or results of operations. During October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS No. 123). This accounting standard permits the use of either a fair value based method or the current Accounting Principals Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB No. 25) when accounting for stock-based compensation arrangements. Companies that do not follow the new fair value based method will be required to disclose pro forma net income and earnings per share computed as if the fair value based method had been applied. The disclosure provisions of SFAS No. 123 are effective for fiscal years beginning after December 15, 1995. Management has not determined if it will adopt the fair value based method of accounting for stock-based compensation arrangements nor the impact of SFAS No. 123 on the Company's consolidated financial statements. 2. ACQUISITIONS MERGER WITH TAKEFIVE In October 1995, the Company acquired TakeFive Software GmbH (TakeFive), an Austrian corporation by issuing 871,980 shares of its common stock in exchange for 97% of the shares of TakeFive. The remaining 3% of the shares of TakeFive were purchased for cash. The business combination was accounted for as a pooling of interests and the Company's results of operations for fiscal 1996 include those of TakeFive. The prior years' results have not been restated to include TakeFive operations as such operations were insignificant. Prior to the business combination, TakeFive was in the business of developing, marketing and supporting software tools used in software development. The Company intends to continue the business of TakeFive and operate TakeFive as an independent subsidiary. F-9 47 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2. ACQUISITIONS (CONTINUED) MERGER WITH DOCTOR DESIGN In January 1996, the Company acquired Doctor Design, Inc. (Doctor Design), an engineering services company specializing in multimedia hardware, software and application specific integrated circuit technology. The Company issued 743,214 shares of its common stock for substantially all the outstanding stock of Doctor Design. The Company also assumed stock options that converted into options to purchase 263,724 shares of the Company's common stock. The business combination was accounted for as a pooling of interests and the consolidated financial statements have been restated as if Doctor Design had been combined for all periods presented. The Company intends to continue the business of Doctor Design and operate Doctor Design as an independent subsidiary. COMBINED AND SEPARATE RESULTS OF MERGERS Combined and separate results of the Company, Doctor Design and TakeFive during the periods preceding the mergers were as follows (in thousands):
INTEGRATED DOCTOR SYSTEMS DESIGN TAKEFIVE COMBINED ---------- ------ -------- -------- Nine months ended November 30, 1995 (unaudited): Net revenue.............................. $ 47,455 $9,171 $3,193 $59,819 Net income............................... 3,134 882 580 4,596 Year ended February 28, 1995: Net revenue.............................. 51,979 6,075 58,054 Net income............................... 5,754 736 6,490 Year ended February 28, 1994: Net revenue.............................. 41,701 4,082 45,783 Net income............................... 4,033 53 4,086
OTHER ACQUISITIONS In September 1994, the Company acquired certain software products and other assets for a total purchase price of approximately $3,467,000, consisting of $2,081,000 in cash and non-cash consideration of approximately 316,000 shares of restricted common stock with a value of approximately $1,386,000. The acquisition was accounted for using the purchase method of accounting and accordingly, its operations have been included with those of the Company since the date of acquisition. Substantially all of the purchase price was allocated to purchased software, which prior to the third quarter of fiscal 1996, was being amortized on a straight-line basis over a seven-year period. During the third quarter of fiscal 1996, the Company determined that the recoverability of the purchased software was not probable as the products purchased would be replaced by the products acquired in the merger with TakeFive. Accordingly, capitalized purchased software totaling $3,083,000 was charged to acquisition and other expenses in the consolidated statement of income. In December 1995, the Company acquired certain technology, related assets and all of the outstanding common stock of a company for $1,735,000. The acquisition has been accounted for under the equity method of accounting and is included in other assets in the accompanying balance sheet. The acquisition cost exceeded the underlying equity in net assets by $1,395,000, of which $756,000, $425,000 and $214,000 was allocated to existing software products, which had reached technological F-10 48 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2. ACQUISITIONS (CONTINUED) feasibility, goodwill and in-process software development, which had not reached technological feasibility, respectively, based on their respective fair values. The costs allocated to goodwill and existing products are being amortized over periods of five and two years, respectively, and the costs allocated to in-process software development were charged to acquisition and other expenses. In addition to the purchase price, the Company paid bonuses to non-shareholder management and employees totaling $1,645,000, which were expensed and are included as part of acquisition and other expenses in the consolidated statement of income for fiscal 1996. The operations of the acquired company are not material to the consolidated financial statements of the Company, and accordingly, separate financial information for this company has not been presented. ACQUISITION AND OTHER EXPENSES Acquisition and other expenses for fiscal 1996 consist of (in thousands): In-process software development costs written-off......................... $ 214 Bonuses paid to management and employees of acquired company.............. 1,645 Purchased software written-off............................................ 3,083 Professional fees and other acquisition costs............................. 1,585 Termination fees payable to a distributor................................. 800 ------ $7,327 ======
The termination fees payable to a distributor relate to amounts payable resulting from the termination of the Company's reseller arrangement with a Japanese distributor in February 1996. 3. MARKETABLE SECURITIES At February 28, 1995 and 1996, marketable securities consisted of fixed-income U.S. Government securities, primarily treasury notes, municipal securities and preferred stock, held by two investment banks. Marketable securities at February 28, 1995 are summarized below (in thousands):
UNREALIZED FAIR COST UNREALIZED UNREALIZED NET GAINS VALUE BASIS GAINS LOSSES (LOSSES) ------- ------- ---------- ---------- ---------- U.S. Government securities........... $12,911 $13,076 $ 65 $ (230) $ (165) Municipal securities................. 13,790 13,837 40 (87) (47) Preferred stock...................... 2,070 2,039 31 31 ------- ------- ---- ----- ----- $28,771 $28,952 $136 $ (317) (181) ======= ======= ==== ===== Related deferred taxes............... 72 ----- Unrealized holding loss, net......... $ (109) =====
F-11 49 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 3. MARKETABLE SECURITIES (CONTINUED) Marketable securities at February 28, 1996 are summarized below (in thousands):
FAIR COST UNREALIZED UNREALIZED UNREALIZED VALUE BASIS GAINS LOSSES NET GAINS ------- ------- ---------- ---------- ---------- U.S. Government securities........... $12,678 $12,471 $221 $(14) $ 207 Municipal securities................. 11,550 11,456 94 94 Preferred stock...................... 3,426 3,172 254 254 ------- ------- ---- ---- ----- $27,654 $27,099 $569 $(14) 555 ======= ======= ==== ==== Related deferred taxes............... (222) ----- Unrealized holding gain, net......... $ 333 =====
At February 28, 1996, all marketable debt securities classified as current assets have scheduled maturities of less than one year. Marketable debt securities classified as noncurrent assets have scheduled maturities of one to five years. 4. PROPERTY AND EQUIPMENT, NET (IN THOUSANDS):
FEBRUARY 28, --------------------- 1995 1996 ------- ------- Buildings...................................................... $ 908 $ 908 Furniture and fixtures......................................... 1,150 1,373 Computer equipment............................................. 7,786 11,642 Leasehold improvements......................................... 246 258 ------- ------- 10,090 14,181 Less accumulated depreciation and amortization................. (6,477) (8,588) ------- ------- $ 3,613 $ 5,593 ======= =======
Depreciation expense amounted to $1,367,000, $1,531,000 and $2,203,000 in fiscal 1994, 1995 and 1996, respectively. 5. LINE OF CREDIT At February 28, 1996, the Company had available a $1,000,000 unsecured bank line of credit and a $5,000,000 foreign exchange contract facility under an agreement that expires on July 15, 1996. Borrowings under the line of credit bear interest at the bank's prime rate. The agreement contains certain restrictive covenants regarding the Company's financial position. The Company has had no borrowings under this agreement. 6. LEASEHOLD COMMITMENTS OPERATING LEASES The Company occupies its principal facilities under an operating lease agreement that expires in September 1996. Under the agreement, the Company is responsible for taxes, utilities and insurance expenses. Future minimum lease payments under all noncancelable operating leases amount to approximately $973,000, $361,000, $137,000, $102,000, $47,000 and $230,000 for fiscal 1997, 1998, 1999, 2000, 2001 and thereafter, respectively. Rent expense for fiscal 1994, 1995 and 1996 was $875,000, $1,148,000 and $1,455,000, respectively. F-12 50 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 6. LEASEHOLD COMMITMENTS (CONTINUED) BUILDING PURCHASE In March 1996, the Company purchased a building, which will become its principal facility, for cash of approximately $12,000,000. The Company expects the move to this new facility to be completed by the end of the first quarter of fiscal 1997. 7. SHAREHOLDERS' EQUITY COMMON STOCK SPLIT On March 4, 1996, the Company's Board of Directors authorized a two-for-one stock split to be effective on April 5, 1996 for the shareholders of record on March 18, 1996. All share and per share information in the accompanying financial statements has been restated to give retroactive recognition to the stock split for all periods presented. COMMON STOCK OPTION PLANS At February 28, 1996, the Company had reserved 6,663,724 shares of common stock for issuance under various stock option plans, including a plan resulting from the business combination with Doctor Design (see Note 2). The plans provide for the granting of incentive stock options to officers and employees of the Company and nonqualified stock options to officers, employees, directors and consultants of the Company at prices not less than fair market value (as determined by the Compensation Committee of the Board of Directors) on the date of grant. Options are exercisable at times and in increments as specified by the Compensation Committee. Options generally vest over five years and expire in six to ten years. F-13 51 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 7. SHAREHOLDERS' EQUITY (CONTINUED) Activity under these plans is as follows (in thousands, except share and per share amounts):
SHARES NUMBER AVAILABLE OF PRICE PER FOR GRANT OPTIONS SHARE TOTAL ---------- --------- ------------ ------- Balances, February 28, 1993................... 2,122,866 1,643,080 $0.32-$ 6.63 $ 4,192 Options granted............................. (1,561,812) 1,561,812 $0.68-$ 5.88 5,577 Options exercised........................... (468,884) $0.32-$ 4.44 (572) Options canceled............................ 212,912 (216,112) $0.38-$ 6.63 (748) ---------- --------- ------- Balances, February 28, 1994................... 773,966 2,519,896 $0.32-$ 5.88 8,449 Adoption of 1994 Directors Stock Option Plan..................................... 400,000 Shares added to 1988 Plan................... 2,000,000 Options granted............................. (826,164) 826,164 $0.68-$ 9.38 4,894 Options exercised........................... (584,848) $0.32-$ 5.25 (1,858) Options canceled............................ 337,344 (337,344) $2.63-$ 5.32 (1,227) ---------- --------- ------- Balances, February 28, 1995................... 2,685,146 2,423,868 $0.32-$ 9.38 10,258 Options granted............................. (882,272) 882,272 $1.35-$19.50 11,915 Options exercised........................... (540,254) $0.39-$ 9.38 (2,050) Options canceled............................ 239,966 (239,966) $2.88-$14.63 (1,419) ---------- --------- ------- Balances, February 28, 1996................... 2,042,840 2,525,920 $0.32-$19.50 $18,704 ========== ========= =======
At February 28, 1996, options to purchase 799,630 shares of common stock were exercisable. EMPLOYEE STOCK PURCHASE PLAN At February 28, 1996, the Company had reserved a total of 1,000,000 shares of common stock for issuance under its 1990 Employee Stock Purchase Plan (the ESPP). The purpose of the ESPP is to provide eligible employees of the Company with a means of acquiring common stock of the Company through payroll deductions. The purchase price of such stock under the ESPP cannot be less than 85% of the lower of the fair market value on the specified purchase date or the beginning of the offering period. During fiscal 1994, 1995 and 1996, approximately 120,000 shares, 94,000 shares and 72,000 shares, respectively, were sold through the ESPP. 8. 401(K) PLANS The Company has two 401(k) Plans (the Plans), including a plan resulting from the business combination with Doctor Design (see Note 2), that cover essentially all employees. Each eligible employee may elect to contribute to the Plans, through payroll deductions, up to 15% of their compensation, subject to certain limitations. The Company is obligated to make matching contributions on behalf of each participating employee in an amount equal to 25% of an employee's contribution, up to 2% of the employee's compensation. For individuals who were employed by the Company prior to December 1, 1994, Company contributions are fully vested on the date of contribution. For individuals who became employed subsequent to November 30, 1994, Company contributions vest ratably over a six-year period. The Company's contributions charged against income totaled approximately $170,000, $228,000 and $390,000 in fiscal 1994, 1995 and 1996, respectively. F-14 52 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 9. INCOME TAXES The provision for income taxes included the following (in thousands):
YEAR ENDED FEBRUARY 28, ------------------------------ 1994 1995 1996 ------- ------ ------- Federal: Current.............................................. $ 1,851 $1,838 $ 3,211 Deferred............................................. (1,021) (429) (1,584) ------- ------ ------- 830 1,409 1,627 ------- ------ ------- State: Current.............................................. 730 647 1,208 Deferred............................................. (252) (58) (593) ------- ------ ------- 478 589 615 ------- ------ ------- Foreign................................................ 627 1,112 1,270 ------- ------ ------- $ 1,935 $3,110 $ 3,512 ======= ====== =======
The reconciliation between the effective tax rates and statutory federal income tax rate is shown in the following table:
YEAR ENDED FEBRUARY 28, ---------------------- 1994 1995 1996 ---- ---- ---- Statutory federal income tax rate.............................. 34.0% 34.0% 34.0% State taxes, net of federal income tax benefit................. 5.3 4.6 5.4 Acquisition costs.............................................. 8.0 Research and development tax credit and credit carryforwards... (2.9) (1.2) (2.0) Foreign sales corporation tax benefit.......................... (3.8) (3.7) (3.5) Other.......................................................... (0.5) (1.3) (1.9) ---- ---- ---- Effective tax rate............................................. 32.1% 32.4% 40.0% ==== ==== ====
Domestic and foreign components of income before income taxes were (in thousands):
YEAR ENDED FEBRUARY 28, ---------------------------- 1994 1995 1996 ------ ------ ------ Domestic................................................. $5,410 $8,558 $7,430 Foreign.................................................. 611 1,042 1,365 ------ ------ ------ $6,021 $9,600 $8,795 ====== ====== ======
F-15 53 INTEGRATED SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 9. INCOME TAXES (CONTINUED) The significant components of deferred tax assets and liabilities consist of the following (in thousands):
FEBRUARY 28, ------------------- 1995 1996 ------ ------ Deferred tax assets: Purchased intangibles.......................................... $2,572 Tax credit carryforwards....................................... $ 778 Accelerated depreciation....................................... 207 296 Accrued vacation and holiday................................... 266 262 Allowance for doubtful accounts................................ 243 387 Other.......................................................... 366 58 ------ ------ $1,860 $3,575 ====== ====== Deferred tax liabilities: Software development costs..................................... $ 766 $ 510 Marketable securities.......................................... 222 Cash to accrual adjustment..................................... 289 564 ------ ------ $1,055 $1,296 ====== ======
The Company has not provided a valuation allowance for its net deferred tax assets as it expects such amounts to be realized through taxable income from future operations, or by carryback to prior years' taxable income. 10. BUSINESS SEGMENT INFORMATION The Company operates in one business segment: the design, marketing and support of products for automating the process of real-time software development and system design, including engineering services to assist customers in implementing specific solutions. The Company's foreign operations primarily consist of sales and customer service organizations. Revenue, income and assets of the Company's foreign subsidiaries were not material to the consolidated financial statements in fiscal 1994, 1995 and 1996. Revenue by geographical location of customer is as follows (in thousands):
YEAR ENDED FEBRUARY 28, -------------------------------- 1994 1995 1996 -------- -------- -------- North America......................................... $ 32,277 $ 41,723 $ 56,109 Europe................................................ 8,734 9,541 17,028 Asia/Pacific.......................................... 4,772 6,790 11,305 ------- ------- ------- $ 45,783 $ 58,054 $ 84,442 ======= ======= =======
Export revenue to Europe was $5,213,000, $6,472,000 and $9,458,000 for fiscal 1994, 1995 and 1996, respectively. Export revenue to Asia/Pacific was $4,772,000, $6,790,000 and $11,305,000, in fiscal 1994, 1995 and 1996, respectively. Revenue from the United States Government, which are primarily engineering services, was approximately 11% of total revenue for fiscal 1994. No other customer accounted for 10% or more of total revenue in the reported periods. F-16 54 - ------------------------------------------------------------ - ------------------------------------------------------------ NO DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY, ANY SELLING SHAREHOLDER OR THE UNDERWRITERS. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY TO ANY PERSON IN ANY JURISDICTION IN WHICH SUCH AN OFFER OR SOLICITATION WOULD BE UNLAWFUL OR TO ANY PERSON TO WHOM IT IS UNLAWFUL. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY OFFER OR SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY OR THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF. ------------------ TABLE OF CONTENTS
PAGE ----- Incorporation of Certain Documents by Reference................................ 2 Prospectus Summary......................... 3 Risk Factors............................... 4 Use of Proceeds............................ 10 Price Range of Common Stock................ 10 Dividend Policy............................ 10 Capitalization............................. 11 Selected Consolidated Financial Data....... 12 Management's Discussion and Analysis of Financial Condition and Results of Operations............................... 13 Business................................... 20 Management................................. 31 Selling Shareholders....................... 34 Underwriting............................... 35 Legal Matters.............................. 36 Experts.................................... 36 Available Information...................... 36 Report of Independent Accountants.......... F-1 Consolidated Financial Statements.......... F-2
- ------------------------------------------------------------ - ------------------------------------------------------------ - ------------------------------------------------------------ - ------------------------------------------------------------ 1,800,000 SHARES LOGO COMMON STOCK ---------------------- PROSPECTUS ---------------------- HAMBRECHT & QUIST WESSELS, ARNOLD & HENDERSON May , 1996 - ------------------------------------------------------------ - ------------------------------------------------------------ 55 PART II INFORMATION NOT REQUIRED IN THE PROSPECTUS ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION. The following table sets forth the costs and expenses to be paid by the Registrant in connection with the sale of the Common Stock being registered. All amounts are estimates except for the Securities and Exchange Commission registration fee, the NASD filing fee and the Nasdaq National Market filing fee. Securities and Exchange Commission registration fee....................... $ 17,399 NASD filing fee........................................................... 5,546 Nasdaq National Market listing fee........................................ 10,000 Accounting fees and expenses.............................................. 100,000 Legal fees and expenses................................................... 115,000 Printing.................................................................. 60,000 Blue sky fees and expenses................................................ 12,000 Transfer agent and registrar fees and expenses............................ 5,000 Custodian fees and expenses............................................... 5,000 Miscellaneous............................................................. 20,055 ---------- Total........................................................... $350,000 ==========
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS. The Registrant's Articles of Incorporation include a provision that eliminates the personal liability of its directors to the Registrant and its shareholders for monetary damages for breach of the directors' fiduciary duties to the fullest extent permitted by law. This limitation has no effect on a director's liability (i) for acts or omissions that involve intentional misconduct or a knowing and culpable violation of law, (ii) for acts or omissions that a director believes to be contrary to the best interests of the Registrant or its shareholders or that involve the absence of good faith on the part of the director, (iii) for any transaction from which a director derived an improper personal benefit, (iv) for acts or omissions that show a reckless disregard for the director's duty to the Registrant or its shareholders in circumstances in which the director was aware, or should have been aware, in the ordinary course of performing a director's duties, of a risk of a serious injury to the Registrant or its shareholders, (v) for acts or omissions that constitute an unexcused pattern of inattention that amounts to an abdication of the director's duty to Registrant or its shareholders, (vi) under Section 310 of the California Corporations Code (the "California Code") (concerning contracts or transactions between the Registrant and a director) or (vii) under Section 316 of the California Code (concerning directors' liability for improper dividends, loans and guarantees). The provision does not extend to acts or omissions of a director in his capacity as an officer. Further, the provisions will not affect the availability of injunctions and other equitable remedies available to the Registrant's shareholders for any violation of a director's fiduciary duty to the Registrant or its shareholders. The Registrant's Articles of Incorporation also include an authorization for the Registrant to indemnify its agents (as defined in Section 317 of the California Code), through bylaw provisions, by agreement or otherwise, to the fullest extent permitted by law. Pursuant to this latter provision, the Registrant's Bylaws provide for indemnification of the Registrant's directors and officers. In addition, the Registrant, at its discretion, may provide indemnification to persons whom the Registrant is not obligated to indemnify. The Bylaws also allow the Registrant to enter into indemnity agreements with individual directors, officers, employees and other agents. These indemnity agreements have been entered into with all directors and executive officers and provide the maximum indemnification permitted by law. These agreements, together with the Registrant's Bylaws and Articles of Incorporation, may require the Registrant, among other things, to indemnify such directors and executive II-1 56 officers against certain liabilities that may arise by reason of their status or service as directors (other than liabilities resulting from willful misconduct of a culpable nature), to advance expenses to them as they are incurred, provided that they undertake to repay the amount advanced if it is ultimately determined by a court that they are not entitled to indemnification, and to obtain directors' and officers' insurance if available on reasonable terms. Section 317 of the California Code and the Registrant's Bylaws make provision for the indemnification of officers, directors and other corporate agents in terms sufficiently broad to indemnify such persons, under certain circumstances for liabilities (including reimbursement of expenses incurred) arising under the Securities Act. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. Reference is made to the following documents filed herewith or incorporated by reference herein from the exhibits with the same respective numbers in either the Registrant's Registration Statement on Form S-1 originally filed on January 26, 1990 (No. 33-33219) (the "Form S-1"), the Registrant's Form 10-Q for the quarter ended August 31, 1993 (the "Form 10-Q") or the Registrant's Form 10-K for the fiscal year ended February 28, 1996 (the "Form 10-K") regarding relevant indemnification provisions described above:
EXHIBIT DOCUMENT NUMBER ---------------------------------------------------------------------------- ------- Form of Underwriting Agreement.............................................. 1.01 Registrant's Articles of Incorporation (incorporated by reference from the Form 10-K)............................................................ 3.01(i) Registrant's Bylaws (incorporated by reference from the Form 10-Q)............................................................ 3.03 Form of Indemnity Agreement (incorporated by reference from the Form S-1)............................................................. 10.06
ITEM 16. EXHIBITS. The following exhibits are filed herewith or incorporated by reference herein:
EXHIBIT NUMBER EXHIBIT TITLE - ------- ----------------------------------------------------------------------------------- 1.01 -- Form of Underwriting Agreement. 2.01 -- Agreement and Plan of Reorganization by and among Registrant, Software Components Group, Inc. a California corporation ("SCG"), and Alfred Chao dated as of August 9, 1991 (incorporated by reference to Exhibit Number 2.01 to Registrant's Form 8-K filed on September 3, 1991 (the "September 3, 1991 Form 8-K")). 2.02 -- Agreement of Merger by and between Registrant and SCG dated as of August 20, 1991 (incorporated by reference to Exhibit Number 2.02 to the September 3, 1991 Form 8-K). 2.03 -- Stock Exchange Agreement dated as of October 31, 1995 by and between the Registrant and TakeFive Software GmbH and the holders of share interests in TakeFive Software GmbH (incorporated herein by reference to Exhibit 2.01 to the Registrant's Current Report on Form 8-K, dated October 31, 1995). 2.04 -- Agreement and Plan of Reorganization dated as of December 14, 1995, as amended January 26, 1996, by and among Registrant, ISI Purchasing Corporation and Doctor Design, Inc. and related documents (incorporated herein by reference to Exhibit 2.01 to the Registrant's Current Report on Form 8-K, dated January 26, 1996 (the "January 26, 1996 Form 8-K")).
II-2 57
EXHIBIT NUMBER EXHIBIT TITLE - ------- ----------------------------------------------------------------------------------- 2.05 -- Agreement of Merger dated as of January 26, 1996 by and between ISI Purchasing Corporation and Doctor Design, Inc. (incorporated herein by reference to Exhibit 2.02 to the January 26, 1996 Form 8-K). 4.01 -- Registration Rights Agreement, dated as of April 3, 1987 (incorporated herein by reference to Exhibit 4.02 to the Form S-1). 5.01 -- Opinion of Fenwick & West LLP regarding legality of the securities being issued. 23.01 -- Consent of Fenwick & West LLP (included in Exhibit 5.01). 23.02 -- Consent of Coopers & Lybrand L.L.P., Independent Accountants. 24.01 -- Power of Attorney (see Page II-4 of this Registration Statement). 27.01 -- Financial Data Schedule (incorporated herein by reference to Exhibit 27.01 to the Form 10-K).
ITEM 17. UNDERTAKINGS. The Registrant hereby undertakes the following: (1) For purposes of determining any liability under the Securities Act of 1933, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this Registration Statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registration pursuant to the provisions described under Item 14 above, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. II-3 58 SIGNATURES In accordance with the requirements of the Securities Act, the Registrant certifies that it has reasonable grounds to believe that it meets all of the requirements for filing on Form S-3 and authorized this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Santa Clara, State of California, on April 11, 1996. INTEGRATED SYSTEMS, INC. By: /s/ STEVEN SIPOWICZ ------------------------------------ Steven Sipowicz Vice President, Finance and Chief Financial Officer POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS that each person whose signature appears below constitutes and appoints David P. St. Charles and Steven Sipowicz, and each of them, his or her true and lawful attorneys-in-fact, with full power of substitution, for him or her and in his or her name, place and stead in any and all capacities, to sign any and all amendments (including post-effective amendments) to this Registration Statement, and sign any registration statement for the same offering covered by the Registration Statement that is to be effective upon filing pursuant to Rule 462(b) promulgated under the Securities Act, and all post-effective amendments thereto, and to file the same, with all exhibits thereto and all documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he or she might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents or any of them, or his or her substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Act, this Registration Statement has been signed below by the following persons in the capacities and on the dates indicated.
NAME TITLE DATE - --------------------------------------------- ------------------------------ --------------- PRINCIPAL EXECUTIVE OFFICER: /s/ DAVID P. ST. CHARLES President, Chief Executive April 11, 1996 - --------------------------------------------- Officer and Director David P. St. Charles PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER: /s/ STEVEN SIPOWICZ Vice President, Finance and April 11, 1996 - --------------------------------------------- Chief Financial Officer Steven Sipowicz ADDITIONAL DIRECTORS: /s/ NARENDRA K. GUPTA Chairman of the Board and April 11, 1996 - --------------------------------------------- Secretary Narendra K. Gupta /s/ JOHN C. BOLGER Director April 11, 1996 - --------------------------------------------- John C. Bolger /s/ VINITA Director April 11, 1996 GUPTA - --------------------------------------------- Vinita Gupta /s/ THOMAS KAILATH Director April 11, 1996 - --------------------------------------------- Thomas Kailath /s/ RICHARD C. MURPHY Director April 11, 1996 - --------------------------------------------- Richard C. Murphy
II-4 59 INDEX TO EXHIBITS
SEQUENTIALLY EXHIBIT NUMBERED NUMBER EXHIBITS PAGE - ------- ------------------------------------------------------------------------- 1.01 -- Form of Underwriting Agreement........................................... 2.01 -- Agreement and Plan of Reorganization by and among Registrant, Software Components Group, Inc. a California corporation ("SCG"), and Alfred Chao dated as of August 9, 1991 (incorporated by reference to Exhibit Number 2.01 to Registrant's Form 8-K filed on September 3, 1991 (the "September 3, 1991 Form 8-K"))...................................................... 2.02 -- Agreement of Merger by and between Registrant and SCG dated as of August 20, 1991 (incorporated by reference to Exhibit Number 2.02 to the September 3, 1991 Form 8-K).............................................. 2.03 -- Stock Exchange Agreement dated as of October 31, 1995 by and between the Registrant and TakeFive Software GmbH and the holders of share interests in TakeFive Software GmbH (incorporated herein by reference to Exhibit 2.01 to the Registrant's Current Report on Form 8-K, dated October 31, 1995).................................................................... 2.04 -- Agreement and Plan of Reorganization dated as of December 14, 1995, as amended January 26, 1996, by and among Registrant, ISI Purchasing Corporation and Doctor Design, Inc. and related documents (incorporated herein by reference to Exhibit 2.01 to the Registrant's Current Report on Form 8-K, dated January 26, 1996 (the "January 26, 1996 Form 8-K"))...... 2.05 -- Agreement of Merger dated as of January 26, 1996 by and between ISI Purchasing Corporation and Doctor Design, Inc. (incorporated herein by reference to Exhibit 2.02 to the January 26, 1996 Form 8-K).............. 4.01 -- Registration Rights Agreement, dated as of April 3, 1987 (incorporated herein by reference to Exhibit 4.02 to the Form S-1)..................... 5.01 -- Opinion of Fenwick & West LLP regarding legality of the securities being issued................................................................... 23.01 -- Consent of Fenwick & West LLP (included in Exhibit 5.01)................. 23.02 -- Consent of Coopers & Lybrand L.L.P., Independent Accountants............. 24.01 -- Power of Attorney (see Page II-4 of this Registration Statement)......... 27.01 -- Financial Data Schedule (incorporated herein by reference to Exhibit 27.01 to the Form 10-K)..................................................
EX-1.01 2 UNDERWRITING AGREEMENT 1 EXHIBIT 1.01 1,800,000 SHARES(1) COMMON STOCK UNDERWRITING AGREEMENT May _____, 1996 HAMBRECHT & QUIST LLC WESSELS, ARNOLD & HENDERSON, L.L.C. c/o Hambrecht & Quist LLC One Bush Street San Francisco, California 94104 Ladies and Gentlemen: Integrated Systems, Inc., a California corporation (herein called the Company), proposes to issue and sell 500,000 shares of its authorized but unissued Common Stock, no par value (herein called the Common Stock), and the shareholders of the Company named in Schedule II hereto (herein collectively called the Selling Securityholders) propose to sell an aggregate of 1,300,000 shares of Common Stock of the Company (said 1,800,000 shares of Common Stock being herein called the Underwritten Stock). In addition to the Underwritten Stock, Narendra K. Gupta proposes to grant to the Underwriters (as hereinafter defined) an option to purchase up to 270,000 additional shares of Common Stock (herein called the Option Stock and with the Underwritten Stock herein collectively called the Stock). The Common Stock is more fully described in the Registration Statement and the Prospectus hereinafter mentioned. The Company and the Selling Securityholders severally hereby confirm the agreements made with respect to the purchase of the Stock by the several underwriters, for whom you are acting, named in Schedule I hereto (herein collectively called the Underwriters, which term shall also include any underwriter purchasing Stock pursuant to Section 3(b) hereof). You represent and warrant that you have been authorized by each of the other Underwriters to enter into this Agreement on its behalf and to act for it in the manner herein provided. 1. REGISTRATION STATEMENT. The Company has filed with the Securities and Exchange Commission (herein called the Commission) a registration statement on Form S-3 (No. 333-_____), including the related preliminary prospectus, for the registration under the Securities Act of 1933, as amended (herein called the Securities Act) of the Stock. Copies of such registration statement and of each amendment thereto, if any, including the related preliminary prospectus (meeting the requirements of Rule 430A of the rules and regulations of the Commission) heretofore filed by the Company with the Commission have been delivered to you. The term Registration Statement as used in this agreement shall mean such registration statement, including all documents incorporated by reference therein, all exhibits and financial statements, all information omitted therefrom in reliance upon Rule 430A and contained in the Prospectus referred to below, in the form in which it became effective, and any registration statement filed pursuant to Rule 462(b) of the rules and regulations of the Commission with respect to the Stock (herein called a Rule 462(b) registration statement), and, in the event of any amendment thereto after the effective date of such registration statement (herein called the Effective Date), shall also mean (from and after the effectiveness of such amendment) such registration statement as so amended (including any Rule 462(b) registration statement). The term Prospectus as used in this Agreement shall mean the - -------- (1) Plus an option to purchase from Narendra K. Gupta up to 270,000 additional shares to cover over-allotments. 1 2 prospectus, including all documents incorporated by reference therein, relating to the Stock first filed with the Commission pursuant to Rule 424(b) and Rule 430A (or if no such filing is required, as included in the Registration Statement) and, in the event of any supplement or amendment to such prospectus after the Effective Date, shall also mean (from and after the filing with the Commission of such supplement or the effectiveness of such amendment) such prospectus as so supplemented or amended. The term Preliminary Prospectus as used in this Agreement shall mean each preliminary prospectus, including all documents incorporated by reference therein, included in such registration statement prior to the time it becomes effective. The Registration Statement has been declared effective under the Securities Act, and no post-effective amendment to the Registration Statement has been filed as of the date of this Agreement. The Company has caused to be delivered to you copies of each Preliminary Prospectus and has consented to the use of such copies for the purposes permitted by the Securities Act. 2. REPRESENTATIONS AND WARRANTIES OF THE COMPANY AND THE SELLING SECURITYHOLDERS. (a) Each of the Company and Narendra K. Gupta (to the best of his knowledge after reasonable inquiry as to the representations and warranties set forth in Section 2(a)(vii) below) hereby represents and warrants as follows: (i) Each of the Company and its subsidiaries has been duly incorporated and is validly existing as a corporation in good standing under the laws of the jurisdiction of its incorporation, has full corporate power and authority to own or lease its properties and conduct its business as described in the Registration Statement and the Prospectus and as being conducted, and is duly qualified as a foreign corporation and in good standing in all jurisdictions in which the character of the property owned or leased or the nature of the business transacted by it makes qualification necessary (except where the failure to be so qualified would not have a material adverse effect on the business, properties, financial condition or results of operations of the Company and its subsidiaries, taken as a whole). (ii) Since the respective dates as of which information is given in the Registration Statement and the Prospectus, there has not been any materially adverse change in the business, properties, financial condition or results of operations of the Company and its subsidiaries, taken as a whole, whether or not arising from transactions in the ordinary course of business, other than as set forth in the Registration Statement and the Prospectus, and since such dates, except in the ordinary course of business, neither the Company nor any of its subsidiaries has entered into any material transaction not referred to in the Registration Statement and the Prospectus. (iii) The Registration Statement and the Prospectus comply, and on the Closing Date (as hereinafter defined) and any later date on which Option Stock is to be purchased, the Prospectus will comply, in all material respects, with the provisions of the Securities Act and the Securities Exchange Act of 1934, as amended (herein called the Exchange Act) and the rules and regulations of the Commission thereunder; on the Effective Date, the Registration Statement did not contain any untrue statement of a material fact and did not omit to state any material fact required to be stated therein or necessary in order to make the statements therein not misleading; and, on the Effective Date the Prospectus did not and, on the Closing Date and any later date on which Option Stock is to be purchased, will not contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading; provided, however, that none of the representations and warranties in this subparagraph (iii) shall apply to statements in, or omissions from, the Registration Statement or the Prospectus made in reliance upon and in conformity with information herein or otherwise furnished in writing to the Company by or on behalf of the Underwriters for use in the Registration Statement or the Prospectus. (iv) The Stock is duly and validly authorized, is (or, in the case of shares of the Stock to be sold by the Company, will be, when issued and sold to the Underwriters as provided herein) duly and validly 2 3 issued, fully paid and nonassessable and conforms in all material respects to the description thereof in the Prospectus. No further approval or authority of the shareholders or the Board of Directors of the Company will be required for the transfer and sale of the Stock to be sold by the Selling Securityholders or the issuance and sale of the Stock as contemplated herein. (v) The Stock to be sold by the Selling Securityholders is listed and duly admitted to trading on the Nasdaq National Market, and prior to the Closing Date the Stock to be issued and sold by the Company will be authorized for listing by the Nasdaq National Market upon official notice of issuance. (vi) The conditions for use of Form S-3, as set forth in the General Instructions thereto, have been satisfied. (vii) The Company owns or possess adequate licenses or other rights to use all patents, copyrights, trademarks, service marks, trade names, technology and know-how necessary to conduct its business in the manner described in the Prospectus and, except as disclosed in the Prospectus, the Company has not received any notice of infringement or conflict with (and knows of no infringement or conflict with) asserted rights of others with respect to any patents, copyrights, trademarks, service marks, trade names, technology and know-how which could result in any material adverse effect upon the Company and its subsidiaries, taken as a whole; and, to the Company's and Mr. Gupta's knowledge, except as disclosed in the Prospectus, the discoveries, inventions, products or processes of the Company referred to in the Prospectus do not infringe or conflict with any right or patent of any third party, or any discovery, invention, product or process which is the subject of a patent application filed by any third party, known to the Company which could have a material adverse effect on the Company and its subsidiaries, taken as a whole. (viii) The Company is not an "investment company" or a company "controlled" by an "investment company" within the meaning of the Investment Company Act of 1940, as amended. (ix) Other than as set forth in the Registration Statement, no holder of any security of the Company has any right to require registration of shares of Common Stock or any other security of the Company. (b) Each of the Selling Securityholders hereby represents and warrants as follows, except Narendra K. Gupta represents and warrants only as set forth in subsections (i) and (ii) hereof: (i) Such Selling Securityholder has good and marketable title to all the shares of Stock to be sold by such Selling Securityholder hereunder, free and clear of all liens, encumbrances, equities, security interests and claims whatsoever, with full right and authority to deliver the same hereunder, subject, in the case of each Selling Securityholder, to the rights of Chemical Mellon Shareholder Services, as Custodian (herein called the Custodian), and that upon the delivery of and payment for such shares of the Stock hereunder, the several Underwriters will receive good and marketable title thereto, free and clear of all liens, encumbrances, equities, security interests and claims whatsoever. (ii) Certificates in negotiable form for the shares of the Stock to be sold by such Selling Securityholder have been placed in custody under a Custody Agreement for delivery under this Agreement with the Custodian; such Selling Securityholder specifically agrees that the shares of the Stock represented by the certificates so held in custody for such Selling Securityholder are subject to the interests of the several Underwriters and the Company, that the arrangements made by such Selling Securityholder for such custody, including the Power of Attorney provided for in such Custody Agreement, are to that extent irrevocable, and that the obligations of such Selling Securityholder shall not be terminated by any act of such Selling Securityholder or by operation of law, whether by the death or incapacity of such Selling Securityholder or the occurrence of any other event; if any such death, incapacity, or other such event should occur before the delivery of such shares of the Stock hereunder, certificates for such shares of the Stock shall be delivered by the Custodian in accordance with the terms and conditions of this Agreement 3 4 as if such death, incapacity, or other event had not occurred, regardless of whether the Custodian shall have received notice of such death, incapacity, or other event. (iii) Such Selling Securityholder has reviewed the Registration Statement and Prospectus and, although such Selling Securityholder has not independently verified the accuracy or completeness of all the information contained therein, nothing has come to the attention of such Selling Securityholder that would lead such Selling Securityholder to believe that on the Effective Date, the Registration Statement contained any untrue statement of a material fact or omitted to state any material fact required to be stated therein or necessary in order to make the statements therein not misleading; and, on the Effective Date the Prospectus contained and, on the Closing Date and any later date on which Option Stock is to be purchased, contains any untrue statement of a material fact or omitted or omits to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading. 3. PURCHASE OF THE STOCK BY THE UNDERWRITERS. (a) On the basis of the representations and warranties and subject to the terms and conditions herein set forth, the Company agrees to issue and sell 500,000 shares of the Underwritten Stock to the several Underwriters, each Selling Securityholder agrees to sell to the several Underwriters the number of shares of the Underwritten Stock set forth in Schedule II opposite the name of such Selling Securityholder, and each of the Underwriters agrees to purchase from the Company and the Selling Securityholders the respective aggregate number of shares of Underwritten Stock set forth opposite its name in Schedule I. The price at which such shares of Underwritten Stock shall be sold by the Company and the Selling Securityholders and purchased by the several Underwriters shall be $___ per share. The obligation of each Underwriter to the Company and each of the Selling Securityholders shall be to purchase from the Company and the Selling Securityholders that number of shares of the Underwritten Stock which represents the same proportion of the total number of shares of the Underwritten Stock to be sold by each of the Company and the Selling Securityholders pursuant to this Agreement as the number of shares of the Underwritten Stock set forth opposite the name of such Underwriter in Schedule I hereto represents of the total number of shares of the Underwritten Stock to be purchased by all Underwriters pursuant to this Agreement, as adjusted by you in such manner as you deem advisable to avoid fractional shares. In making this Agreement, each Underwriter is contracting severally and not jointly; except as provided in paragraphs (b) and (c) of this Section 3, the agreement of each Underwriter is to purchase only the respective number of shares of the Underwritten Stock specified in Schedule I. (b) If for any reason one or more of the Underwriters shall fail or refuse (otherwise than for a reason sufficient to justify the termination of this Agreement under the provisions of Section 8 or 9 hereof) to purchase and pay for the number of shares of the Stock agreed to be purchased by such Underwriter or Underwriters, the Company or the Selling Securityholders shall immediately give notice thereof to you, and the non-defaulting Underwriters shall have the right within 24 hours after the receipt by you of such notice to purchase, or procure one or more other Underwriters to purchase, in such proportions as may be agreed upon between you and such purchasing Underwriter or Underwriters and upon the terms herein set forth, all or any part of the shares of the Stock which such defaulting Underwriter or Underwriters agreed to purchase. If the non-defaulting Underwriters fail so to make such arrangements with respect to all such shares, the number of shares of the Stock which each non-defaulting Underwriter is otherwise obligated to purchase under this Agreement shall be automatically increased on a pro rata basis to absorb the remaining shares which the defaulting Underwriter or Underwriters agreed to purchase; provided, however, that the non-defaulting Underwriters shall not be obligated to purchase the shares which the defaulting Underwriter or Underwriters agreed to purchase if the aggregate number of such shares of the Stock exceeds 10% of the total number of shares of the Stock which all Underwriters agreed to purchase hereunder. If the total number of shares of the Stock which the defaulting Underwriter or Underwriters agreed to purchase shall not be purchased or absorbed in accordance with the two preceding sentences, the Company and the Selling Securityholders shall have the right, within 24 hours next succeeding the 24-hour period above referred to, to make arrangements with other underwriters or purchasers satisfactory to you for purchase of such shares on the terms herein set forth. In any such case, either you or the Company and the Selling 4 5 Securityholders shall have the right to postpone the Closing Date determined as provided in Section 5 hereof for not more than seven business days after the date originally fixed as the Closing Date pursuant to said Section 5 in order that any necessary changes in the Registration Statement, the Prospectus or any other documents or arrangements may be made. If neither the non-defaulting Underwriters nor the Company and the Selling Securityholders shall make arrangements within the 24-hour periods stated above for the purchase of all the shares of the Stock which the defaulting Underwriter or Underwriters agreed to purchase hereunder, this Agreement shall be terminated without further act or deed and without any liability on the part of the Company or the Selling Securityholders to any non-defaulting Underwriter and without any liability on the part of any non-defaulting Underwriter to the Company or the Selling Securityholders. Nothing in this paragraph (b), and no action taken hereunder, shall relieve any defaulting Underwriter from liability in respect of any default of such Underwriter under this Agreement. (c) On the basis of the representations, warranties and covenants herein contained, and subject to the terms and conditions herein set forth, Narendra K. Gupta grants an option to the several Underwriters to purchase, severally and not jointly, up to 270,000 shares in the aggregate of the Option Stock from Narendra K. Gupta at the same price per share as the Underwriters shall pay for the Underwritten Stock. Said option may be exercised only to cover over-allotments in the sale of the Underwritten Stock by the Underwriters and may be exercised in whole or in part at any time (but not more than once) on or before the thirtieth day after the date of this Agreement upon written or telegraphic notice by you to the Company setting forth the aggregate number of shares of the Option Stock as to which the several Underwriters are exercising the option. Delivery of certificates for the shares of Option Stock, and payment therefor, shall be made as provided in Section 5 hereof. The number of shares of the Option Stock to be purchased by each Underwriter shall be the same percentage of the total number of shares of the Option Stock to be purchased by the several Underwriters as such Underwriter is purchasing of the Underwritten Stock, as adjusted by you in such manner as you deem advisable to avoid fractional shares. 4. OFFERING BY UNDERWRITERS. (a) The terms of the public offering by the Underwriters of the Stock to be purchased by them shall be as set forth in the Prospectus. The Underwriters may from time to time change the public offering price after the closing of the public offering and increase or decrease the concessions and discounts to dealers as they may determine. (b) The information set forth in the last paragraph on the front cover page and under "Underwriting" in the Registration Statement, any Preliminary Prospectus and the Prospectus relating to the Stock filed by the Company (insofar as such information relates to the Underwriters) constitutes the only information furnished by the Underwriters to the Company for inclusion in the Registration Statement, any Preliminary Prospectus, and the Prospectus, and you on behalf of the respective Underwriters represent and warrant to the Company that the statements made therein are correct. 5. DELIVERY OF AND PAYMENT FOR THE STOCK. (a) Delivery of certificates for the shares of the Underwritten Stock and the Option Stock (if the option granted by Section 3(c) hereof shall have been exercised not later than 7:00 A.M., San Francisco time, on the date two business days preceding the Closing Date), and payment therefor, shall be made at the office of Fenwick & West LLP, Two Palo Alto Square, Palo Alto, California, at 7:00 a.m., San Francisco time, on the [fourth] business day after the date of this Agreement, or at such time on such other day, not later than seven full business days after such [fourth] business day, as shall be agreed upon in writing by the Company, the Selling Securityholders and you. The date and hour of such delivery and payment (which may be postponed as provided in Section 3(b) hereof) are herein called the Closing Date. (b) If the option granted by Section 3(c) hereof shall be exercised after 7:00 a.m., San Francisco time, on the date two business days preceding the Closing Date, delivery of certificates for the shares of Option 5 6 Stock, and payment therefor, shall be made at the office of Fenwick & West LLP, Two Palo Alto Square, Palo Alto, California, at 7:00 a.m., San Francisco time, on the third business day after the exercise of such option. (c) Payment for the Stock purchased from the Company shall be made to the Company or its order, and payment for the Stock purchased from the Selling Securityholders shall be made to the Custodian, for the account of the Selling Securityholders, in each case by wire transfer in federal Funds. Such payment shall be made upon delivery of certificates for the Stock to you for the respective accounts of the several Underwriters against receipt therefor signed by you. Certificates for the Stock to be delivered to you shall be registered in such name or names and shall be in such denominations as you may request at least one business day before the Closing Date, in the case of Underwritten Stock, and at least one business day prior to the purchase thereof, in the case of the Option Stock. Such certificates will be made available to the Underwriters for inspection, checking and packaging at the offices of Lewco Securities Corporation, 2 Broadway, New York, New York 10004 on the business day prior to the Closing Date or, in the case of the Option Stock, by 3:00 p.m., New York time, on the business day preceding the date of purchase. It is understood that you, individually and not on behalf of the Underwriters, may (but shall not be obligated to) make payment to the Company and the Selling Securityholders for shares to be purchased by any Underwriter whose check shall not have been received by you on the Closing Date or any later date on which Option Stock is purchased for the account of such Underwriter. Any such payment by you shall not relieve such Underwriter from any of its obligations hereunder. 6. FURTHER AGREEMENTS OF THE COMPANY AND THE SELLING SECURITYHOLDERS. Each of the Company and the Selling Securityholders respectively covenants and agrees as follows: (a) The Company will (i) prepare and timely file with the Commission under Rule 424(b) a Prospectus containing information previously omitted at the time of effectiveness of the Registration Statement in reliance on Rule 430A and (ii) not file any amendment to the Registration Statement or supplement to the Prospectus of which you shall not previously have been advised and furnished with a copy or to which you shall have reasonably objected in writing or which is not in compliance with the Securities Act or the rules and regulations of the Commission. (b) The Company will promptly notify each Underwriter in the event of (i) the request by the Commission for amendment of the Registration Statement or for supplement to the Prospectus or for any additional information, (ii) the issuance by the Commission of any stop order suspending the effectiveness of the Registration Statement, (iii) the institution or notice of intended institution of any action or proceeding for that purpose, (iv) the receipt by the Company of any notification with respect to the suspension of the qualification of the Stock for sale in any jurisdiction, or (v) the receipt by it of notice of the initiation or threatening of any proceeding for such purpose. The Company and the Selling Securityholders will make every reasonable effort to prevent the issuance of such a stop order and, if such an order shall at any time be issued, to obtain the withdrawal thereof at the earliest possible moment. (c) The Company will (i) on or before the Closing Date, deliver to you a signed copy of the Registration Statement as originally filed and of each amendment thereto filed prior to the time the Registration Statement becomes effective and, promptly upon the filing thereof, a signed copy of each post-effective amendment, if any, to the Registration Statement (together with, in each case, all exhibits thereto unless previously furnished to you) and will also deliver to you, for distribution to the Underwriters, a sufficient number of additional conformed copies of each of the foregoing (but without exhibits) so that one copy of each may be distributed to each Underwriter, (ii) as promptly as possible deliver to you and send to the several Underwriters, at such office or offices as you may designate, as many copies of the Prospectus as you may reasonably request, and (iii) thereafter from time to time during the period in which a prospectus is required by law to be delivered by an Underwriter or dealer, likewise send to the Underwriters as many additional copies of the Prospectus and as many copies of any 6 7 supplement to the Prospectus and of any amended prospectus, filed by the Company with the Commission, as you may reasonably request for the purposes contemplated by the Securities Act. (d) If at any time during the period in which a prospectus is required by law to be delivered by an Underwriter or dealer any event relating to or affecting the Company, or of which the Company shall be advised in writing by you, shall occur as a result of which it is necessary, in the opinion of counsel for the Company or of counsel for the Underwriters, to supplement or amend the Prospectus in order to make the Prospectus not misleading in the light of the circumstances existing at the time it is delivered to a purchaser of the Stock, the Company will forthwith prepare and file with the Commission a supplement to the Prospectus or an amended prospectus so that the Prospectus as so supplemented or amended will not contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances existing at the time such Prospectus is delivered to such purchaser, not misleading. If, after the public offering of the Stock by the Underwriters and during such period, the Underwriters shall propose to vary the terms of offering thereof by reason of changes in general market conditions or otherwise, you will advise the Company in writing of the proposed variation, and, if in the opinion either of counsel for the Company or of counsel for the Underwriters such proposed variation requires that the Prospectus be supplemented or amended, the Company will forthwith prepare and file with the Commission a supplement to the Prospectus or an amended prospectus setting forth such variation. The Company authorizes the Underwriters and all dealers to whom any of the Stock may be sold by the several Underwriters to use the Prospectus, as from time to time amended or supplemented, in connection with the sale of the Stock in accordance with the applicable provisions of the Securities Act and the applicable rules and regulations thereunder for such period. (e) Prior to the filing thereof with the Commission, the Company will submit to you, for your information, a copy of any post-effective amendment to the Registration Statement and any supplement to the Prospectus or any amended prospectus proposed to be filed. (f) The Company will cooperate, when and as requested by you, in the qualification of the Stock for offer and sale under the securities or blue sky laws of such jurisdictions as you may designate and, during the period in which a prospectus is required by law to be delivered by an Underwriter or dealer, in keeping such qualifications in good standing under said securities or blue sky laws; provided, however, that the Company shall not be obligated to file any general consent to service of process or to qualify as a foreign corporation in any jurisdiction in which it is not so qualified. The Company will, from time to time, prepare and file such statements, reports, and other documents as are or may be required to continue such qualifications in effect for so long a period as you may reasonably request for distribution of the Stock. (g) During a period of five years commencing with the date hereof, the Company will furnish to you, and to each Underwriter who may so request in writing, copies of all periodic and special reports furnished to shareholders of the Company and of all information, documents and reports filed with the Commission. (h) Not later than the 45th day following the end of the fiscal quarter first occurring after the first anniversary of the Effective Date, the Company will make generally available to its security holders an earnings statement in accordance with Section 11(a) of the Securities Act and Rule 158 thereunder. (i) The Company agrees to pay all costs and expenses incident to the performance of its and the Selling Securityholders' obligations under this Agreement, including all costs and expenses incident to (i) the preparation, printing and filing with the Commission and the National Association of Securities Dealers, Inc. ("NASD") of the Registration Statement, any Preliminary Prospectus and the Prospectus, (ii) the furnishing to the Underwriters of copies of any Preliminary Prospectus and of the several documents required by paragraph (c) of this Section 6 to be so furnished, (iii) the printing of this 7 8 Agreement and related documents delivered to the Underwriters, (iv) the preparation, printing and filing of all supplements and amendments to the Prospectus referred to in paragraph (d) of this Section 6, (v) the furnishing to you and the Underwriters of the reports and information referred to in paragraph (g) of this Section 6 and (vi) the printing and issuance of stock certificates, including the transfer agent's fees. The Selling Securityholders will pay any transfer taxes incident to the transfer to the Underwriters of the shares the Stock being sold by the Selling Securityholders. The Company will pay any fees for listing any Stock on the Nasdaq National Market not already listed thereon. (j) The Company agrees to reimburse you, for the account of the several Underwriters, for blue sky fees and related disbursements (including counsel fees and disbursements and cost of printing memoranda for the Underwriters) paid by or for the account of the Underwriters or their counsel in qualifying the Stock under state securities or blue sky laws and in the review of the offering by the NASD. (k) The provisions of paragraphs (i) and (j) of this Section are intended to relieve the Underwriters from the payment of the expenses and costs which the Company and the Selling Securityholders hereby agree to pay and shall not affect any agreement which the Company and the Selling Securityholders may make, or may have made, for the sharing of any such expenses and costs. (l) The Company and each of the Selling Securityholders hereby agrees that, without the prior written consent of Hambrecht & Quist LLC acting alone or each of Hambrecht & Quist LLC and Wessels, Arnold & Henderson, L.L.C. acting jointly, the Company or such Selling Securityholder, as the case may be, will not, for a period of 90 days following the Effective Date, directly or indirectly, (i) sell, offer, contract to sell, make any short sale, pledge, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase or otherwise transfer or dispose of any shares of Common Stock or any securities convertible into or exchangeable or exercisable for or any rights to purchase or acquire Common Stock or (ii) enter into any swap or other agreement that transfers, in whole or in part, any of the economic consequences or ownership of Common Stock, whether any such transaction described in clause (i) or (ii) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise. The foregoing sentence shall not apply to the Stock to be sold to the Underwriters pursuant to this Agreement or to any stock issued and sold pursuant to any employee benefit plan of the Company described in the Prospectus or in any merger or acquisition; provided, however, that the total number of shares of Common Stock or securities convertible, exchangeable or exercisable for Common Stock issued in such merger or acquisition shall not exceed 5% of the total number of shares of Common Stock then outstanding unless the persons to whom such shares or securities are issued agree to restrictions on the disposition of such shares or securities substantially similar in form and duration to those set forth in this paragraph. (o) The Company is familiar with the Investment Company Act of 1940, as amended, and has in the past conducted its affairs, and will in the future conduct its affairs, in such a manner to ensure that the Company was not and will not be an "investment company" or a company "controlled" by an "investment company" within the meaning of the Investment Company Act of 1940, as amended, and the rules and regulations thereunder. 7. INDEMNIFICATION AND CONTRIBUTION. (a) Subject to the provisions of paragraph (f) of this Section 7, the Company and the Selling Securityholders jointly and severally agree to indemnify and hold harmless each Underwriter and each person (including each partner or officer thereof) who controls any Underwriter within the meaning of Section 15 of the Securities Act from and against any and all losses, claims, damages or liabilities, joint or several, to which such indemnified parties or any of them may become subject under the Securities Act, the Securities Exchange Act of 1934, as amended (herein called the Exchange Act), or the common law or otherwise, and the Company and the Selling Securityholders jointly and severally agree to reimburse each such Underwriter and controlling person for any legal or other expenses (including, except as otherwise hereinafter provided, reasonable fees and disbursements 8 9 of counsel) incurred by the respective indemnified parties in connection with defending against any such losses, claims, damages or liabilities or in connection with any investigation or inquiry of, or other proceeding which may be brought against, the respective indemnified parties, in each case arising out of or based upon (i) any untrue statement or alleged untrue statement of a material fact contained in the Registration Statement (including the Prospectus as part thereof and any Rule 462(b) registration statement) or any post-effective amendment thereto (including any Rule 462(b) registration statement), or the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, or (ii) any untrue statement or alleged untrue statement of a material fact contained in any Preliminary Prospectus or the Prospectus (as amended or as supplemented if the Company shall have filed with the Commission any amendment thereof or supplement thereto) or the omission or alleged omission to state therein a material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading; provided, however, that (1) the indemnity agreements of the Company and the Selling Securityholders contained in this paragraph (a) shall not apply to any such losses, claims, damages, liabilities or expenses if such statement or omission was made in reliance upon and in conformity with information furnished as herein stated or otherwise furnished in writing to the Company by or on behalf of any Underwriter for use in any Preliminary Prospectus or the Registration Statement or the Prospectus or any such amendment thereof or supplement thereto, (2) the indemnity agreement contained in this paragraph (a) with respect to any Preliminary Prospectus shall not inure to the benefit of any Underwriter from whom the person asserting any such losses, claims, damages, liabilities or expenses purchased the Stock which is the subject thereof (or to the benefit of any person controlling such Underwriter) if at or prior to the written confirmation of the sale of such Stock a copy of the Prospectus (or the Prospectus as amended or supplemented) was not sent or delivered to such person (excluding the documents incorporated therein by reference) and the untrue statement or omission of a material fact contained in such Preliminary Prospectus was corrected in the Prospectus (or the Prospectus as amended or supplemented) unless the failure is the result of noncompliance by the Company with paragraph (c) of Section 6 hereof. The indemnity agreements of the Company and the Selling Securityholders contained in this paragraph (a) and the representations and warranties of the Company and the Selling Securityholders contained in Section 2 hereof shall remain operative and in full force and effect regardless of any investigation made by or on behalf of any indemnified party and shall survive the delivery of and payment for the Stock. (b) Each Underwriter severally agrees to indemnify and hold harmless the Company, each of its officers who signs the Registration Statement on his own behalf or pursuant to a power of attorney, each of its directors, each other Underwriter and each person (including each partner or officer thereof) who controls the Company or any such other Underwriter within the meaning of Section 15 of the Securities Act, and the Selling Securityholders from and against any and all losses, claims, damages or liabilities, joint or several, to which such indemnified parties or any of them may become subject under the Securities Act, the Exchange Act, or the common law or otherwise and to reimburse each of them for any legal or other expenses (including, except as otherwise hereinafter provided, reasonable fees and disbursements of counsel) incurred by the respective indemnified parties in connection with defending against any such losses, claims, damages or liabilities or in connection with any investigation or inquiry of, or other proceeding which may be brought against, the respective indemnified parties, in each case arising out of or based upon (i) any untrue statement or alleged untrue statement of a material fact contained in the Registration Statement (including the Prospectus as part thereof and any Rule 462(b) registration statement) or any post-effective amendment thereto (including any Rule 462(b) registration statement) or the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading or (ii) any untrue statement or alleged untrue statement of a material fact contained in the Prospectus (as amended or as supplemented if the Company shall have filed with the Commission any amendment thereof or supplement thereto) or the omission or alleged omission to state therein a material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading, if such statement or omission was made in reliance upon and in conformity with information furnished as herein stated or otherwise furnished in writing to the Company by or on behalf of such indemnifying Underwriter for use in any Preliminary Prospectus or the Registration Statement or the Prospectus or any such amendment thereof or supplement thereto. The indemnity agreement of each Underwriter contained in this paragraph (b) shall remain operative and in full force and effect regardless of any investigation made by or on behalf of any indemnified party and shall survive the delivery of and payment for the Stock. 9 10 (c) Each party indemnified under the provision of paragraphs (a) and (b) of this Section 7 agrees that, upon the service of a summons or other initial legal process upon it in any action or suit instituted against it or upon its receipt of written notification of the commencement of any investigation or inquiry of, or proceeding against, it in respect of which indemnity may be sought on account of any indemnity agreement contained in such paragraphs, it will promptly give written notice (herein called the Notice) of such service or notification to the party or parties from whom indemnification may be sought hereunder. No indemnification provided for in such paragraphs shall be available to any party who shall fail so to give the Notice if the party to whom such Notice was not given was unaware of the action, suit, investigation, inquiry or proceeding to which the Notice would have related and was prejudiced by the failure to give the Notice, but the omission so to notify such indemnifying party or parties of any such service or notification shall not relieve such indemnifying party or parties from any liability which it or they may have to the indemnified party for contribution or otherwise than on account of such indemnity agreement. Any indemnifying party shall be entitled at its own expense to participate in the defense of any action, suit or proceeding against, or investigation or inquiry of, an indemnified party. Any indemnifying party shall be entitled, if it so elects within a reasonable time after receipt of the Notice by giving written notice (herein called the Notice of Defense) to the indemnified party, to assume (alone or in conjunction with any other indemnifying party or parties) the entire defense of such action, suit, investigation, inquiry or proceeding, in which event such defense shall be conducted, at the expense of the indemnifying party or parties, by counsel chosen by such indemnifying party or parties and reasonably satisfactory to the indemnified party or parties; provided, however, that (i) if the indemnified party or parties reasonably determine that there may be a conflict between the positions of the indemnifying party or parties and of the indemnified party or parties in conducting the defense of such action, suit, investigation, inquiry or proceeding or that there may be legal defenses available to such indemnified party or parties different from or in addition to those available to the indemnifying party or parties, then counsel for the indemnified party or parties shall be entitled to conduct the defense to the extent reasonably determined by such counsel to be necessary to protect the interests of the indemnified party or parties and (ii) in any event, the indemnified party or parties shall be entitled to have counsel chosen by such indemnified party or parties participate in, but not conduct, the defense. If, within a reasonable time after receipt of the Notice, an indemnifying party gives a Notice of Defense and the counsel chosen by the indemnifying party or parties is reasonably satisfactory to the indemnified party or parties, the indemnifying party or parties will not be liable under paragraphs (a) through (c) of this Section 7 for any legal or other expenses subsequently incurred by the indemnified party or parties in connection with the defense of the action, suit, investigation, inquiry or proceeding, except that (A) the indemnifying party or parties shall bear the legal and other expenses incurred in connection with the conduct of the defense as referred to in clause (i) of the proviso to the preceding sentence and (B) the indemnifying party or parties shall bear such other expenses as it or they have authorized to be incurred by the indemnified party or parties. If, within a reasonable time after receipt of the Notice, no Notice of Defense has been given, the indemnifying party or parties shall be responsible for any legal or other expenses incurred by the indemnified party or parties in connection with the defense of the action, suit, investigation, inquiry or proceeding. (d) If the indemnification provided for in this Section 7 is unavailable or insufficient to hold harmless an indemnified party under paragraph (a) or (b) of this Section 7, then each indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the amount paid or payable by such indemnified party as a result of the losses, claims, damages or liabilities referred to in paragraph (a) or (b) of this Section 7 (i) in such proportion as is appropriate to reflect the relative benefits received by each indemnifying party from the offering of the Stock or (ii) if the allocation provided by clause (i) above is not permitted by applicable law, in such proportion as is appropriate to reflect not only the relative benefits referred to in clause (i) above but also the relative fault of each indemnifying party in connection with the statements or omissions that resulted in such losses, claims, damages or liabilities, or actions in respect thereof, as well as any other relevant equitable considerations. The relative benefits received by the Company and the Selling Securityholders on the one hand and the Underwriters on the other shall be deemed to be in the same respective proportions as the total net proceeds from the offering of the Stock received by the Company and the Selling Securityholders and the total underwriting discount received by the Underwriters, as set forth in the table on the cover page of the Prospectus, bear to the aggregate public offering price of the Stock. Relative fault shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by each indemnifying party and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such untrue statement or omission. 10 11 The parties agree that it would not be just and equitable if contributions pursuant to this paragraph (d) were to be determined by pro rata allocation (even if the Underwriters were treated as one entity for such purpose) or by any other method of allocation which does not take into account the equitable considerations referred to in the first sentence of this paragraph (d). The amount paid by an indemnified party as a result of the losses, claims, damages or liabilities, or actions in respect thereof, referred to in the first sentence of this paragraph (d) shall be deemed to include any legal or other expenses reasonably incurred by such indemnified party in connection with investigation or preparing to defend or defending against any action or claim which is the subject of this paragraph (d). Notwithstanding the provisions of this paragraph (d), no Underwriter shall be required to contribute any amount in excess of the underwriting discount applicable to the Stock purchased by such Underwriter. No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. The Underwriters' obligations in this paragraph (d) to contribute are several in proportion to their respective underwriting obligations and not joint. Each party entitled to contribution agrees that upon the service of a summons or other initial legal process upon it in any action instituted against it in respect of which contribution may be sought, it will promptly give written notice of such service to the party or parties from whom contribution may be sought, but the omission so to notify such party or parties of any such service shall not relieve the party from whom contribution may be sought from any obligation it may have hereunder or otherwise (except as specifically provided in paragraph (c) of this Section 7). (e) No indemnifying party will, without the prior written consent of the indemnified party, settle or compromise or consent to the entry of any judgment in any pending or threatened claim, action, suit or proceeding in respect of which indemnification may be sought hereunder (whether or not such indemnified party or any person who controls such indemnified party within the meaning of Section 15 of the Securities Act or Section 20 of the Exchange Act is a party to such claim, action, suit or proceeding) unless such settlement, compromise or consent includes an unconditional release of such indemnified party and each such controlling person from all liability arising out of such claim, action, suit or proceeding. (f) The liability of each Selling Securityholder, under such Selling Securityholder's representations and warranties contained in Section 2 hereof and under the indemnity, contribution and reimbursement agreements contained in the provisions of this Section 7 and Section 11 hereof shall be limited to the lesser of (i) an amount equal to the price of the Stock sold by such Selling Securityholder to the Underwriters as set forth in paragraph (a) of Section 3 hereof or (ii) his pro rata portion of the liability hereunder calculated by multiplying the total liability by a fraction, the numerator of which is the number of shares of Stock sold by such Selling Securityholder and the denominator of which is the total number of shares of Stock sold hereunder. The Company and the Selling Securityholders may agree, as among themselves and without limiting the rights of the Underwriters under this Agreement, as to the respective amounts of such liability for which they each shall be responsible. 8. TERMINATION. This Agreement may be terminated by you at any time prior to the Closing Date by giving written notice to the Company and the Selling Securityholders if after the date of this Agreement trading in the Common Stock shall have been suspended, or if there shall have occurred (i) the engagement in hostilities or an escalation of major hostilities by the United States or the declaration of war or a national emergency by the United States on or after the date hereof, (ii) any outbreak of hostilities or other national or international calamity or crisis or change in economic or political conditions if the effect of such outbreak, calamity, crisis or change in economic or political conditions in the financial markets of the United States would, in the Underwriters' reasonable judgment, make the offering or delivery of the Stock impracticable, (iii) a suspension of trading in securities generally or a material adverse decline in the value of securities generally on the New York Stock Exchange, the American Stock Exchange, or The Nasdaq Stock Market, or limitations on prices (other than limitations on hours or numbers of days of trading) for securities on either such exchange or system, (iv) the enactment, publication, decree or other promulgation of any federal or state statute, regulation, rule or order of, or commencement of any proceeding or investigation by, any court, legislative body, agency or other governmental 11 12 authority which in the Underwriters' reasonable opinion materially and adversely affects or will materially or adversely affect the business or operations of the Company, (v) declaration of a banking moratorium by either federal or New York State authorities or (vi) the taking of any action by any federal, state or local government or agency in respect of its monetary or fiscal affairs which causes a material adverse decline in the value of securities on the New York Stock Exchange, the American Stock Exchange, or The Nasdaq Stock Market. If this Agreement shall be terminated pursuant to this Section 8, there shall be no liability of the Company or the Selling Securityholders to the Underwriters and no liability of the Underwriters to the Company or the Selling Securityholders; provided, however, that in the event of any such termination the Company and the Selling Securityholders agree to indemnify and hold harmless the Underwriters from all costs or expenses incident to the performance of the obligations of the Company and the Selling Securityholders under this Agreement, including all costs and expenses referred to in paragraphs (i) and (j) of Section 6 hereof. 9. CONDITIONS OF UNDERWRITERS' OBLIGATIONS. The obligations of the several Underwriters to purchase and pay for the Stock shall be subject to the performance by the Company and by the Selling Securityholders of all their respective obligations to be performed hereunder at or prior to the Closing Date or any later date on which Option Stock is to be purchased, as the case may be, and to the following further conditions: (a) The Registration Statement shall have become effective; and no stop order suspending the effectiveness thereof shall have been issued and no proceedings therefor shall be pending or threatened by the Commission. (b) The legality and sufficiency of the sale of the Stock hereunder and the validity and form of the certificates representing the Stock, all corporate proceedings and other legal matters incident to the foregoing, and the form of the Registration Statement and of the Prospectus (except as to the financial statements, supporting schedules footnotes and other financial and statistical information contained therein), shall have been approved at or prior to the Closing Date by Morrison & Foerster LLP, counsel for the Underwriters. (c) You shall have received from Fenwick & West LLP, counsel for the Company and the Selling Securityholders, an opinion, addressed to the Underwriters and dated the Closing Date, covering the matters set forth in Annex A hereto, respectively, and if Option Stock is purchased at any date after the Closing Date, additional opinions from each such counsel, addressed to the Underwriters and dated such later date, confirming that the statements expressed as of the Closing Date in such opinions remain valid as of such later date. (d) You shall be satisfied that (i) as of the Effective Date, the statements made in the Registration Statement and the Prospectus were true and correct and neither the Registration Statement nor the Prospectus omitted to state any material fact required to be stated therein or necessary in order to make the statements therein, respectively, not misleading, (ii) since the Effective Date, no event has occurred which should have been set forth in a supplement or amendment to the Prospectus which has not been set forth in such a supplement or amendment, (iii) since the respective dates as of which information is given in the Registration Statement in the form in which it originally became effective and the Prospectus contained therein, there has not been any material adverse change or any development involving a prospective material adverse change in or affecting the business, properties, financial condition or results of operations of the Company and its subsidiaries, taken as a whole, whether or not arising from transactions in the ordinary course of business, and, since such dates, except in the ordinary course of business, neither the Company nor any of its subsidiaries has entered into any material transaction not referred to in the Registration Statement in the form in which it originally became effective and the Prospectus contained therein, (iv) neither the Company nor any of its subsidiaries has any material contingent obligations which are not disclosed in the Registration Statement and the Prospectus, (v) there are not any pending or known threatened legal proceedings to which the Company or any of its subsidiaries is a party or of which property of the Company or any of its subsidiaries is the subject which are material and which are not disclosed in the Registration Statement and the Prospectus, 12 13 (vi) there are not any franchises, contracts, leases or other documents which are required to be filed as exhibits to the Registration Statement which have not been filed as required, (vii) the representations and warranties of the Company herein are true and correct in all material respects as of the Closing Date or any later date on which Option Stock is to be purchased, as the case may be, and (viii) there has not been any material change in the market for securities in general or in political, financial or economic conditions from those reasonably foreseeable as to render it impracticable in your reasonable judgment to make a public offering of the Stock, or a material adverse decline in the value of securities generally which render it inadvisable to proceed. (e) You shall have received on the Closing Date and on any later date on which Option Stock is purchased a certificate, dated the Closing Date or such later date, as the case may be, and signed by the President and the Chief Financial Officer of the Company, stating that the respective signers of said certificate have carefully examined the Registration Statement in the form in which it originally became effective and the Prospectus contained therein and any supplements or amendments thereto, and that the statements included in clauses (i) through (vii) of paragraph (d) of this Section 9 are true and correct. (f) You shall have received from Coopers & Lybrand L.L.P., a letter or letters, addressed to the Underwriters and dated the Closing Date and any later date on which Option Stock is purchased, confirming that they are independent public accountants with respect to the Company within the meaning of the Securities Act and the applicable published rules and regulations thereunder and based upon the procedures described in their letter delivered to you concurrently with the execution of this Agreement (herein called the Original Letter), but carried out to a date not more than three business days prior to the Closing Date or such later date on which Option Stock is purchased (i) confirming, to the extent true, that the statements and conclusions set forth in the Original Letter are accurate as of the Closing Date or such later date, as the case may be, and (ii) setting forth any revisions and additions to the statements and conclusions set forth in the Original Letter which are necessary to reflect any changes in the facts described in the Original Letter since the date of the Original Letter or to reflect the availability of more recent financial statements, data or information. The letters shall not disclose any change, or any development involving a prospective change, in or affecting the business or properties of the Company or any of its subsidiaries which, in your reasonable judgment, makes it impractical or inadvisable to proceed with the public offering of the Stock or the purchase of the Option Stock as contemplated by the Prospectus. (g) You shall have been furnished evidence in usual written or telegraphic form from the appropriate authorities of the several jurisdictions, or other evidence satisfactory to you, of the qualification referred to in paragraph (f) of Section 6 hereof. (h) Prior to the Closing Date, the Stock to be issued and sold by the Company shall have been duly authorized for listing by the Nasdaq National Market upon official notice of issuance. (i) On or prior to the Closing Date, you shall have received from each of Thomas Kailath and the Selling Securityholders agreements, in form reasonably satisfactory to Hambrecht & Quist LLC, stating that without the prior written consent of Hambrecht & Quist LLC acting alone or each of Hambrecht & Quist LLC and Wessels, Arnold & Henderson L.L.C. acting jointly, such person or entity will not, for a period of 90 days following the Effective Date, directly or indirectly, (i) sell, offer, contract to sell, make any short sale, pledge, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase or otherwise transfer or dispose of any shares of Common Stock or any securities convertible into or exchangeable or exercisable for or any rights to purchase or acquire Common Stock or (ii) enter into any swap or other agreement that transfers, in whole or in part, any of the economic consequences or ownership of Common Stock, whether any such transaction described in clause (i) or (ii) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise. 13 14 All the agreements, opinions, certificates and letters mentioned above or elsewhere in this Agreement shall be deemed to be in compliance with the provisions hereof only if Morrison & Foerster LLP, counsel for the Underwriters, shall be reasonably satisfied that they comply in form and scope. In case any of the conditions specified in this Section 9 shall not be fulfilled, this Agreement may be terminated by you by giving notice to the Company and to the Selling Securityholders. Any such termination shall be without liability of the Company or the Selling Securityholders to the Underwriters and without liability of the Underwriters to the Company or the Selling Securityholders; provided, however, that (i) in the event of such termination, the Company and the Selling Securityholders agree to indemnify and hold harmless the Underwriters from all costs or expenses incident to the performance of the obligations of the Company and the Selling Securityholders under this Agreement, including all costs and expenses referred to in paragraphs (i) and (j) of Section 6 hereof, and (ii) if this Agreement is terminated by you because of any refusal, inability or failure on the part of the Company or the Selling Securityholders to perform any agreement herein, to fulfill any of the conditions herein, or to comply with any provision hereof other than by reason of a default by any of the Underwriters, the Company will reimburse the Underwriters severally upon demand for all out-of-pocket expenses (including reasonable fees and disbursements of counsel) that shall have been incurred by them in connection with the transactions contemplated hereby. 10. CONDITIONS OF THE OBLIGATION OF THE COMPANY AND THE SELLING SECURITYHOLDERS. The obligation of the Company and the Selling Securityholders to deliver the Stock shall be subject to the conditions that (a) the Registration Statement shall have become effective and (b) no stop order suspending the effectiveness thereof shall be in effect and no proceedings therefor shall be pending or threatened by the Commission. In case either of the conditions specified in this Section 10 shall not be fulfilled, this Agreement may be terminated by the Company and the Selling Securityholders by giving notice to you. Any such termination shall be without liability of the Company and the Selling Securityholders to the Underwriters and without liability of the Underwriters to the Company or the Selling Securityholders; provided, however, that in the event of any such termination the Company and the Selling Securityholders jointly and severally agree to indemnify and hold harmless the Underwriters from all costs or expenses incident to the performance of the obligations of the Company and the Selling Securityholders under this Agreement, including all costs and expenses referred to in paragraphs (i) and (j) of Section 6 hereof. 11. REIMBURSEMENT OF CERTAIN EXPENSES. In addition to their other obligations under Section 7 of this Agreement (and subject, in the case of a Selling Securityholder, to the provisions of paragraph (f) of Section 7), the Company and the Selling Securityholders hereby jointly and severally agree to reimburse on a quarterly basis the Underwriters for all reasonable legal and other expenses incurred in connection with investigating or defending any claim, action, investigation, inquiry or other proceeding arising out of or based upon any statement or omission, or any alleged statement or omission, described in paragraph (a) of Section 7 of this Agreement, notwithstanding the absence of a judicial determination as to the propriety and enforceability of the obligations under this Section 11 and the possibility that such payments might later be held to be improper; provided, however, that (i) to the extent any such payment is ultimately held to be improper, the persons receiving such payments shall promptly refund them and (ii) such persons shall provide to the Company, upon request, reasonable assurances of their ability to effect any refund, when and if due. 12. PERSONS ENTITLED TO BENEFIT OF AGREEMENT. This Agreement shall inure to the benefit of the Company, the Selling Securityholders and the several Underwriters and, with respect to the provisions of Section 7 hereof, the several parties (in addition to the Company, the Selling Securityholders and the several Underwriters) indemnified under the provisions of said Section 7, and their respective personal representatives, successors and assigns. Nothing in this Agreement is intended or shall be construed to give to any other person, firm or corporation any legal or equitable remedy or claim under or in respect of this Agreement or any provision herein contained. The term "successors and assigns" as herein used shall not include any purchaser, as such purchaser, of any of the Stock from any of the several Underwriters. 14 15 13. NOTICES. Except as otherwise provided herein, all communications hereunder shall be in writing or by telegraph and, if to the Underwriters, shall be mailed, telegraphed or delivered to Hambrecht & Quist LLC, One Bush Street, San Francisco, California 94104; and if to the Company, shall be mailed, telegraphed or delivered to it at its office, 3260 Jay Street, Santa Clara, California 95054-3309, Attention: Chief Financial Officer; and if to the Selling Securityholders, shall be mailed, telegraphed or delivered to the Selling Securityholders in care of Narenda Gupta at 3260 Jay Street, Santa Clara, California 95054-3309. All notices given by telegraph shall be promptly confirmed by letter. 14. MISCELLANEOUS. The reimbursement, indemnification and contribution agreements contained in this Agreement and the representations, warranties and covenants in this Agreement shall remain in full force and effect regardless of (a) any termination of this Agreement, (b) any investigation made by or on behalf of any Underwriter or controlling person thereof, or by or on behalf of the Company or the Selling Securityholders or their respective directors or officers, and (c) delivery and payment for the Stock under this Agreement; provided, however, that if this Agreement is terminated prior to the Closing Date, the provisions of paragraph (l) of Section 6 hereof shall be of no further force or effect. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. This Agreement shall be governed by, and construed in accordance with, the laws of the State of California. Please sign and return to the Company and to the Selling Securityholders in care of the Company the enclosed duplicates of this letter, whereupon this letter will become a binding agreement among the Company, the Selling Securityholders and the several Underwriters in accordance with its terms. Very truly yours, INTEGRATED SYSTEMS, INC. By ___________________________________ David P. St. Charles President, Chief Executive Officer SELLING SECURITYHOLDERS: Narendra K. Gupta David P. St. Charles Marco Thompson By ___________________________________ [Attorney-in-Fact] The foregoing Agreement is hereby confirmed and accepted as of the date first above written. HAMBRECHT & QUIST LLC 15 16 WESSELS, ARNOLD & HENDERSON, L.L.C. By Hambrecht & Quist LLC By ___________________________ Managing Director Acting on behalf of the several Underwriters, including themselves, named in Schedule I hereto. 16 17 SCHEDULE I UNDERWRITERS
NUMBER OF SHARES UNDERWRITERS TO BE PURCHASED Hambrecht & Quist LLC......................................... 900,000 Wessels, Arnold & Henderson, L.L.C............................ 900,000 --------- Total......................................................... 1,800,000 ---------
17 18 SCHEDULE II SELLING SECURITYHOLDERS
NAME OF SELLING SECURITYHOLDERS NUMBER OF SHARES TO BE SOLD Narendra and Vinita Gupta............................. 1,020,000 David P. St. Charles.................................. 160,000 Marco Thompson........................................ 120,000 --------- Total................................................. 1,300,000 ---------
18 19 ANNEX A MATTERS TO BE COVERED IN THE OPINION OF FENWICK & WEST LLP COUNSEL FOR THE COMPANY AND THE SELLING SECURITYHOLDERS (i) Each of the Company and its subsidiaries has been duly incorporated and is validly existing as a corporation in good standing under the laws of the jurisdiction of its incorporation, is duly qualified as a foreign corporation and in good standing in each state of the United States of America in which its ownership or leasing of property requires such qualification (except where the failure to be so qualified would not have a material adverse effect on the business, properties, financial condition or results of operations of the Company and its subsidiaries, taken as a whole), and has full corporate power and authority to own or lease its properties and conduct its business as described in the Registration Statement; all the issued and outstanding capital stock of each of the subsidiaries of the Company has been duly authorized and validly issued and is fully paid and nonassessable, and is owned by the Company free and clear of all liens, encumbrances and security interests, and to the best of such counsel's knowledge, no options, warrants or other rights to purchase, agreements or other obligations to issue or other rights to convert any obligations into shares of capital stock or ownership interests in such subsidiaries are outstanding; (ii) the authorized capital stock of the Company consists of shares of Common Stock, $ - par value, of which there are outstanding shares (including the Underwritten Stock plus the number of any shares of Option Stock issued on the date hereof); proper corporate proceedings have been taken validly to authorize such authorized capital stock; all of the outstanding shares of such capital stock (including the Underwritten Stock and the shares of Option Stock issued, if any) have been duly and validly issued and are fully paid and nonassessable; any Option Stock purchased after the Closing Date, when issued and delivered to and paid for by the Underwriters as provided in the Underwriting Agreement, will have been duly and validly issued and be fully paid and nonassessable; and no preemptive rights of, or rights of refusal in favor of, securityholders exist with respect to the Stock, or the issue and sale thereof, pursuant to the Articles of Incorporation or Bylaws of the Company and, to the knowledge of such counsel, there are no contractual preemptive rights that have not been waived, rights of first refusal or rights of co-sale which exist with respect to the Stock being sold by the Selling Securityholders or the issue and sale of the Stock; (iii) the Registration Statement has become effective under the Securities Act and, to the best of such counsel's knowledge, no stop order suspending the effectiveness of the Registration Statement or suspending or preventing the use of the Prospectus is in effect and no proceedings for that purpose have been instituted or are pending or contemplated by the Commission; (iv) the Registration Statement and the Prospectus (except as to the financial statements and schedules and other financial data contained therein, as to which such counsel need express no opinion) comply as to form in all material respects with the requirements of the Securities Act, the Exchange Act and with the rules and regulations of the Commission thereunder; (v) such counsel have no reason to believe that the Registration Statement (except as to the financial statements and schedules and other financial data contained or incorporated by reference therein, as to which such counsel need not express any opinion or belief) at the Effective Date contained any untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading, or that the Prospectus (except as to the financial statements and schedules and other financial data contained or incorporated by reference therein, as to which such counsel need not express any opinion or belief) as of its date or at the Closing Date (or any later date on which Option Stock is purchased), contained or contains any untrue statement of a material 19 20 fact or omitted or omits to state a material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading; (vi) the information required to be set forth in the Registration Statement in answer to Items 9 and 10 (insofar as it relates to such counsel) of Form S-3 is to the best of such counsel's knowledge accurately and adequately set forth therein in all material respects or no response is required with respect to such Items, and, to the best of such counsel's knowledge, the description of the Company's stock option plans and the options granted and which may be granted thereunder set forth or incorporated by reference in the Prospectus accurately and fairly presents the information required to be shown with respect to said plans and options to the extent required by the Securities Act and the rules and regulations of the Commission thereunder; (vii) The statements under the captions "Risk Factors -- Acquisition-Related Risks," "Risk Factors -- Risk of Product Defect; Product and Other Liability," "Risk Factors -- Limited Protection of Proprietary Technology" "Risk Factors --Dependence on Licenses from Third Parties," "Risk Factors --Concentration of Stock Ownership," "Business-Proprietary Rights," and "Selling Shareholders" in the Prospectus and the Registration Statement insofar as such statements constitute a summary of legal matters, documents or proceedings referred to therein, fairly present the information called for with respect to such legal matters, documents and proceedings; (viii) such counsel do not know of any franchises, contracts, leases, documents or legal proceedings, pending or threatened, which in the opinion of such counsel are of a character required to be described in the Registration Statement or the Prospectus or to be filed as exhibits to the Registration Statement, which are not described and filed as required; (ix) the Underwriting Agreement has been duly authorized, executed and delivered by the Company; (x) based insofar as factual matters are concerned solely upon certificates of the Selling Securityholders, the accuracy of which we have no reason to question, (A) the Underwriting Agreement has been duly executed and delivered by or on behalf of each of the Selling Securityholders; (B) the Custody Agreement between the Selling Securityholders and - , as Custodian, and the Power of Attorney referred to in such Custody Agreement have been duly executed and delivered by such Selling Securityholder; (C) the Custody Agreement entered into by, and the Power of Attorney given by, such Selling Securityholder is valid and binding on such Selling Securityholder; and (D) each Selling Securityholder has full legal right and authority to enter into the Underwriting Agreement and to sell, transfer and deliver in the manner provided in the Underwriting Agreement the shares of Stock sold by such Selling Securityholder hereunder; (xi) the issue and sale by the Company of the shares of Stock sold by the Company as contemplated by the Underwriting Agreement will not conflict with, or result in a breach of, the Articles of Incorporation or Bylaws of the Company or any of its subsidiaries or any agreement or instrument known to such counsel to which the Company or any of its subsidiaries is a party or any applicable law or regulation, or so far as is known to such counsel, any order, writ, injunction or decree, of any jurisdiction, court or governmental instrumentality; (xii) all holders of securities of the Company having rights to the registration of shares of Common Stock, or other securities, because of the filing of the Registration Statement by the Company have waived such rights or such rights have expired by reason of lapse of time following notification of the Company's intent to file the Registration Statement; (xiii) good and marketable title to the shares of Stock sold by the Selling Securityholders under the Underwriting Agreement, free and clear of all liens, encumbrances, equities, security interests and claims, has been transferred to the Underwriters who have severally purchased such shares of Stock under 20 21 the Underwriting Agreement, assuming for the purpose of this opinion that the Underwriters purchased the same in good faith without notice of any adverse claims; (xiv) based insofar as factual matters with respect to the stock to be sold by the Selling Securityholders are concerned solely upon certificates of the Selling Securityholders, the accuracy of which such counsel have no reason to question,] no consent, approval, authorization or order of any court or governmental agency or body is required for the consummation of the transactions contemplated in the Underwriting Agreement, except such as have been obtained under the Securities Act and such as may be required under state securities or blue sky laws in connection with the purchase and distribution of the Stock by the Underwriters; and (xv) the Stock sold by the Selling Securityholders is listed and duly admitted to trading on the Nasdaq National Market, and the Stock issued and sold by the Company will been duly authorized for listing by the Nasdaq National Market upon official notice of issuance. 21 EX-5.01 3 OPINION OF FENWICK & WEST 1 Exhibit 5.01 April 11, 1996 Integrated Systems, Inc. 3260 Jay Street Santa Clara, California 94103-4945 RE: REGISTRATION STATEMENT ON FORM S-3 Ladies and Gentlemen: At your request, we have examined the Registration Statement on Form S-3 submitted by you for filing with the Securities and Exchange Commission on April 11, 1996 (the "Registration Statement") in connection with the registration under the Securities Act of 1933, as amended, of up to 2,070,000 shares of your Common Stock (each a "Share"), up to 1,570,000 of which are presently issued and outstanding or will be issued pursuant to the exercise of options and outstanding prior to the date of the closing of the offering, and will be sold by certain Selling Stockholders (the "Selling Stockholders"). As your securities counsel, we have examined the proceedings taken or to be taken by you in connection with the issuance by you of the up to 1,570,000 Shares that may be sold by the Selling Stockholders. We have also examined the proceedings taken by you in connection with the proposed issuance of the up to 500,000 Shares that may be sold by you. It is our opinion that the up to 1,570,000 Shares that may be sold by the Selling Stockholders are, or upon the exercise of options, when issued and sold in the manner providedin such option documents will be, legally issued, fully paid and nonassessable, and the up to 500,000 Shares that may be issued and sold by you, when issued and sold in the manner referred to in the Registration Statement, will be legally issued, fully paid and nonassessable. We consent to the use of this opinion as an exhibit to the Registration Statement and further consent to all references to us in the Registration Statement, the Prospectus constituting a part thereof and any amendments thereto which have been approved by us. Very truly yours, FENWICK & WEST EX-23.02 4 CONSENT OF COOPERS & LYBRAND 1 CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the inclusion in this registration statement on Form S-3 (File No. 333- ) of our report dated March 27, 1996, on our audit of the consolidated financial statements of Integrated Systems, Inc. and the incorporation by reference in this registration statement of our report dated March 27, 1996 on the financial statement schedule of Integrated Systems, Inc. appearing in the Company's 1996 Annual Report on Form 10-K. We also consent to the reference to our firm under the caption "Experts." COOPERS & LYBRAND L.L.P. San Jose, California April 11, 1996 -----END PRIVACY-ENHANCED MESSAGE-----