-----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, L3MVFDXd26/m/X3r6+Zs4nEI7D35FkTC8oLj0c+HP4QgM2j4bbRnuJbXYBelDTtS j5x/1fv013gkvcEgqkIlRA== 0000891618-96-000130.txt : 19960311 0000891618-96-000130.hdr.sgml : 19960311 ACCESSION NUMBER: 0000891618-96-000130 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 13 CONFORMED PERIOD OF REPORT: 19951231 FILED AS OF DATE: 19960308 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: KOMAG INC /DE/ CENTRAL INDEX KEY: 0000813347 STANDARD INDUSTRIAL CLASSIFICATION: MAGNETIC & OPTICAL RECORDING MEDIA [3695] IRS NUMBER: 942914864 STATE OF INCORPORATION: DE FISCAL YEAR END: 0102 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-16852 FILM NUMBER: 96533172 BUSINESS ADDRESS: STREET 1: 275 S HILLVIEW DR CITY: MILPITAS STATE: CA ZIP: 95035 BUSINESS PHONE: 4089462300 MAIL ADDRESS: STREET 1: 275 S HILLVIEW DR CITY: MILPITAS STATE: CA ZIP: 95035 10-K 1 FORM 10-K 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED] FOR THE FISCAL YEAR ENDED DECEMBER 31, 1995 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER 0-16852 KOMAG, INCORPORATED (Exact name of registrant as specified in its charter) DELAWARE 94-2914864 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 275 SOUTH HILLVIEW DRIVE, MILPITAS, CALIFORNIA 95035 (Address of Principal Executive Offices, including Zip Code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (408) 946-2300 Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE TITLE OF EACH CLASS ON WHICH REGISTERED ------------------- ------------------- None None
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $0.01 PAR VALUE Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No -- -- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment of this Form 10-K. [ ] [COVER PAGE 1 OF 2 PAGES] 2 The aggregate market value of voting stock held by non-affiliates of the Registrant as of February 23, 1996 was approximately $1,447,185,000 (based upon the closing sale price for shares of the Registrant's Common Stock as reported by the Nasdaq National Market for the last trading date prior to that date). Shares of Common Stock held by each officer, director and holder of 5% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes. On February 23, 1996 approximately 50,832,767 shares of the Registrant's Common Stock, $0.01 par value, were outstanding. DOCUMENTS INCORPORATED BY REFERENCE Designated portions of the following document are incorporated by reference into this Report on Form 10-K where indicated: Komag, Incorporated Proxy Statement for the Annual Meeting of Stockholders to be held on May 14, 1996, Part III. 2 3 PART I ITEM 1. BUSINESS Komag, Incorporated ("Komag" or the "Company") designs, manufactures and markets thin-film media ("disks"), the primary storage medium for digital data in computer hard disk drives. Komag believes it is recognized as the leader in the thin-film media market. The Company's business strategy relies on the combination of advanced technology and cost-effective, high-volume manufacturing to advance its leadership position. The Company believes that the combination of these two capabilities is a significant competitive advantage and enables the Company to support its customers' technically advanced, high-volume product programs. Komag's products address the high-capacity/high-performance segment of the disk drive market and are used in products such as disk arrays, network file servers, high-end personal computers and engineering workstations. The Company manufactures the highest density disks commercially available for primarily 5 1/4-inch and 3 1/2-inch form factor hard disk drives. The Company was organized in 1983 and is incorporated in the State of Delaware. The Company's business is subject to risks and uncertainties, a number of which are discussed under "Risk Factors". Increasing demand for digital storage and low-cost, high-performance hard disk drive products has resulted in strong unit demand for these products. International Data Corporation ("IDC") forecasts that world-wide disk drive unit shipments in 1996 will grow 30% over 1995 and that the annual rate of unit growth will remain high, at about 20%, through 1999. Greater processing power, more sophisticated operating systems and application software, high-resolution graphics and larger data bases are among the developments that have required ever higher performance from disk drives. For example, the first 5 1/4-inch hard disk drive, introduced in 1980, offered a capacity of five megabytes (one million bytes is a megabyte or "MB") with a storage density of less than ten megabits (one million bits is a megabit; eight bits is one byte) per square inch. Current high-performance 3 1/2-inch drives have capacities of four gigabytes (one billion bytes is a gigabyte or "GB") with densities typically of 400 to 500 megabits per square inch. Advances in component technology have been critical to improving the performance and storage capacity of disk drives and lowering cost per bit stored. The Company has capitalized on its technological strength in thin-film processes and its manufacturing capabilities to achieve the leading market position in the thin-film media market. The Company's technological strength stems from knowledge of materials science and an understanding of the interplay between disks, heads and other drive components. Komag's manufacturing expertise in thin-film media is evidenced by its history of delivering reliable products in high volume. Current manufacturing operations are conducted by the Company in the United States and Malaysia as well as through a joint venture in Japan. Asahi Komag Co., Ltd. ("AKCL"), a joint venture with Asahi Glass Co., Ltd. ("Asahi Glass") and Vacuum Metallurgical Company, manufactures thin-film media in Japan. The Company manufactures disk substrates in the U.S. for internal use through its subsidiary, Komag Material Technologies, Inc. ("KMT"). A 20% minority interest in KMT is held by Kobe Steel USA Holdings Inc. (together with Kobe Steel, Ltd. and other affiliated companies, "Kobe"). The Company has a direct voting interest (less than 20%) in Headway Technologies, Inc. ("Headway"). Other Headway shareholders include Hewlett-Packard Company, AKCL, and a U.S. subsidiary of Asahi Glass. Headway is developing and manufacturing advanced magnetoresistive ("MR") heads for the data storage industry. 3 4 TECHNOLOGY Komag manufactures and sells thin-film magnetic media on rigid disk platters for use in hard disk drives. These drives are used in computer systems to record, store and retrieve digital information. Inside a disk drive, the media or disk rotates at speeds of up to 7,200 RPM. The head scans across the disk as it spins, magnetically recording or reading information. The domains where each bit of magnetic code is stored are extremely small (now typically 400 to 500 million bits per square inch in high-performance drives) and precisely placed. The tolerances of the disks and recording heads are extremely demanding and the interaction between these components is one of the most critical design aspects in an advanced disk drive. The primary factors governing the density of storage achievable on a disk's surface are (1) the minimum distance at which read/write heads can reliably pass over the surface of the disk to detect a change in magnetic polarity when reading from the disk, defined as glide height (measured in microinches or millionths of an inch), and (2) the strength of the magnetic field required to change the polarity of a bit of data on the magnetic layer of a disk when writing, defined as coercivity (measured in oersteds -- "Oe"). The lower the glide height, the more accurately and reliably the bit can be retrieved. The higher the coercivity of the media, the smaller the width of the bit that can be stored. The Company's plating, polishing and texturing processes result in a uniform surface with relatively few defects which permits the read/write heads to pass over the disk surface at glide heights of 1.5 microinches. The platinum-cobalt based alloy deposited on the surfaces of Komag's disks allows high coercivities, low noise and other desirable magnetic characteristics. The combination of these factors results in more data stored in a given area on the disk surface. PRODUCTS, CUSTOMERS AND MARKETING Komag's thin-film disk products generally can be classified by size. The diameter of the disk corresponds roughly with the width of the disk drive. The Company sells primarily 95 mm and 130 mm disks for 3 1/2-inch and 5 1/4-inch drives, respectively. Within each of these sizes, Komag offers a range of coercivities, glide height capabilities, and other parameters to meet specific customer requirements. Komag primarily sells its media products to independent OEM disk drive manufacturers for incorporation into hard disk drives which are marketed under the manufacturers' own labels. The Company also currently sells its disks to computer system manufacturers. The Company works closely with customers as they design new high-performance disk drives and generally customizes its products according to customer specifications. Net sales to major customers in 1995 were as follows: Seagate Technology, Inc. ("Seagate") -- 42%, Quantum Corporation ("Quantum") -- 23%, Hewlett-Packard Company ("Hewlett-Packard") -- 15%, and Western Digital Corporation ("Western Digital") -- 12%. Sales are generally concentrated in a small number of customers due to the high volume requirements of the dominant disk drive manufacturers and their tendency to rely on a few suppliers because of the close interrelationship between media and disk drive performance. Given the relatively small number of high-performance disk drive manufacturers, the Company expects that it will continue its dependence on a very limited number of customers. Further there have been consolidations among the Company's disk drive customers, including the recent merger of Seagate and Conner. In addition, Quantum recently announced that it would cease disk drive production in Milpitas, California and Penang, Malaysia and contract with its Japanese manufacturing partner, Matsushita-Kotobuki Electronics Industries, Ltd. ("MKE"), to manufacture its disk drives. AKCL, the Company's Japanese joint venture, has an established working relationship with MKE and MKE has remained AKCL's largest customer for the past several years. The Company's Malaysian subsidiary recently began shipments to MKE's new Singapore manufacturing facility. However, there can be no 4 5 assurance that MKE will purchase from either Komag or AKCL the unit quantities of product which the Company previously supplied to Quantum in the U.S. and Malaysia. See "Risk Factors". Sales are made directly to disk drive manufacturers worldwide (except media sales into Japan) from the Company's U.S. and Malaysian operations. Media sales to Japan are made solely through AKCL. Media sales to the Far East from the Company's U.S. and Malaysian operations represented 62%, 54% and 45% of Komag's net sales in 1995, 1994 and 1993, respectively. All foreign sales are subject to certain risks common to all export activities, such as government regulation and the risk of imposition of tariffs or other trade barriers. Foreign sales must also be licensed by the Office of Export Administration of the U.S. Department of Commerce. The Company's sales are generally made pursuant to purchase orders rather than long-term contracts. These purchase orders are generally subject to change or cancellation without significant penalty. At December 31, 1995 the Company's backlog of purchase orders scheduled for delivery within 90 days totaled $156.0 million compared to $69.6 million at January 1, 1995. The Company believes it is a common practice for disk drive manufacturers to place orders in excess of actual requirements when there is an industry-wide shortage of media supply (a condition that persisted throughout much of 1995), and these purchase orders may be changed or canceled by customers on short notice without significant penalty. Accordingly, the backlog should not be relied upon as indicative of sales for any future period. MANUFACTURING Komag's manufacturing expertise in thin-film media is evidenced by its history of delivering reliable products in high volume. Through the utilization of proprietary processes and techniques, the Company has the capability to cost-effectively produce advanced disk products that exhibit uniform performance characteristics. Such uniform performance characteristics enhance the reliability of the drive products manufactured by the Company's customers. In addition, these characteristics raise production yields on the customers' manufacturing lines, which is an important cost consideration in high-performance disk drives with large component counts. Manufacturing costs are highly dependent upon the Company's ability to effectively utilize its installed physical capacity to produce large volumes of products at acceptable yields. To improve yields and capacity utilization, Komag has adopted formal continuous improvement programs at all of its worldwide operations. The Company's media manufacturing facilities throughout the world have obtained ISO Certification, an internationally recognized quality standard. The process technologies employed by the Company require substantial capital investment. In addition, long lead times to install new increments of physical capacity complicate capacity planning. Historically, the Company has operated at or near full capacity with favorable manufacturing yields and equipment utilization rates. The manufacture of thin-film sputtered disks is a complex, multi-step process that converts polished aluminum substrates into finished data storage media ready for use in a hard disk drive. The process requires the deposition of extremely thin, uniform layers of metallic film onto a disk substrate. To achieve this end, the Company uses a vacuum deposition, or sputtering method, similar to that used to coat semiconductor wafers. The basic process consists of many interrelated steps which can be grouped into four major categories: 1. Nickel Alloy Plating of the Substrate: Through a series of chemical baths polished aluminum substrates are plated with a uniform nickel phosphorus layer in order to provide support for the magnetic layer. 2. Polishing, Texturing and Cleaning. During this relatively labor-intensive process disks are smoothed and cleaned so that the read/write heads of the disk drives can fly at low and constant levels over the disks. 5 6 3. Sputtering and Lube: By a technically demanding vacuum deposition process, the magnetic layers are successively deposited on the disk and a hard protective overcoat is applied. After sputtering, a microscopic layer of lubrication is applied to the disk's surfaces to improve durability and reduce surface friction. 4. Glide Test and Certification. In robotically controlled test cells, disks are first tested for a specified glide height and then certified for magnetic properties. Based on these test results, disks are graded according to specific characteristics and sold to customers based upon their specific performance requirements. Most of the critical process steps are conducted in Class 100 or better clean rooms. From the final cleaning operation forward, disks are handled by custom designed, and in many cases Company-built, automated equipment to reduce contamination and enhance process precision. Minute impurities in materials used, particulate contamination, or other production problems can reduce production yields and, in extreme cases, result in the prolonged suspension of production. Although no problems have required prolonged suspension of the Company's production to date, other manufacturers of thin-film media have experienced such suspensions, and no assurance can be given that the Company will not experience manufacturing problems from contamination or other causes in the future. PRODUCTION CAPACITY The Company currently has 21 production lines installed at its manufacturing plants in three countries: ten in the United States, six in Malaysia, and five at its manufacturing joint venture in Japan. The Company plans to add one additional line at its Penang, Malaysia facility in the second quarter of 1996, thus utilizing all available space at that plant. The Company is currently constructing and equipping a new front end manufacturing facility in the east Malaysian state of Sarawak. This new facility will manufacture plated, polished substrates that will be subsequently shipped to the Company's back end manufacturing facilities in the United States and Penang, Malaysia for completion. Production at this new facility is expected to begin in the first half of 1996. In addition, due to strong market demand for the Company's disk products, the Company has committed to further expand its physical production capacity in the United States, Malaysia and Japan. The Company began construction of a new 225,000 square-foot back end disk manufacturing plant in San Jose, California in October 1995 and recently commenced construction of the structural foundation for a new 275,000 square foot back end disk manufacturing plant in Penang, Malaysia. These back end plants will utilize plated, polished substrates to produce finished sputtered disk products. Production at the new San Jose and Penang plants is expected to begin during the fourth quarter of 1996 and the first quarter of 1997, respectively. Each of these new facilities is expected to house the equivalent of at least six current production lines. AKCL began construction of a 225,000 square-foot facility in Thailand for front end production of thin-film disks in 1995 and expects to begin production at this site in late 1996. Supplementing this new physical capacity, the Company expects that continued focus on process improvements will result in higher unit output from both current and planned production lines during 1996, thus leading to increased effective capacity. During the fourth quarter of 1994, the Company began a series of process improvements designed to support production of future advanced disk products. The Company believes that these improvements should enhance product performance and should enable increased unit output through reduced process cycle times. In order to utilize these process improvements on all of the Company's sputtering lines, certain older machines are in the process of being upgraded to a new design. Three U.S. machines were upgraded in 1995 and three additional machines will be upgraded in 1996. Only one sputtering line has been or will be out of production at any given time. As a result, one U.S. machine will be out of 6 7 production throughout 1996 as was the case in 1995. Certain older sputtering lines at the Japanese joint venture have been or will also be upgraded during 1995 and 1996. The Company does not expect to sell appreciable quantities of AKCL-produced media in 1996 due to strong demand for AKCL's products within the Japanese media market. In the event demand within the Japanese media market decreases, AKCL-produced media may become available for qualification and resale by the Company to its customers. RESEARCH, DEVELOPMENT AND ENGINEERING Since its founding, Komag has focused on the development of advanced thin-film disk designs, as well as the process technologies necessary to produce these designs. The Company utilizes a full scale sputtering line for pilot production. In addition, the Board of Directors has recently approved the construction of a new 178,000 square foot research and development facility which the Company expects to occupy in the first half of 1997. The Company's spending and capital investment for R&D are focused on the investigation, design, development, and testing of more efficient that can be integrated into manufacturing in a commercially viable manner. In 1996 thin-film media development efforts will focus on completing the development of low-glide, full-surface textured inductive media for contact recording and full-surface or mechanical zone-textured magnetoresistive ("MR") media as well as the technical support for the production ramp of these products. Additional efforts will be placed on the development of laser zone-textured media for increased recording density in MR applications and on the development of smooth glass media. Due to the interaction between heads and disks in these advanced low-glide (less than 1.5 microinches) products, new mechanical texturing processes are being developed as well as improved cleaning processes, improved overcoats, and improved corrosion resistant metallic alloys for the magnetic layers on the disks. The Company's expenditures (and percentage of sales) on research, development and engineering, were $23.8 million (4.6%) in fiscal 1995, $21.3 million (5.4%) in fiscal 1994, and $29.6 million (7.7%) in fiscal year 1993. Research, development and engineering expenses in 1995 and 1994 were lower than in 1993 due to the cessation of operations at a former thin-film head manufacturing joint venture, Dastek, Inc. ("Dastek"). Dastek's research, development and engineering expenditures amounted to approximately $11.8 million in 1993. STRATEGIC ALLIANCES The Company has established joint ventures with Asahi Glass and Kobe. Komag believes these alliances have enhanced the Company's competitive position by providing research, development, engineering and manufacturing expertise that reduce costs and technical risks and shorten product development cycles. Asahi Komag Co., Ltd. ("AKCL") In 1987 the Company formed a partnership (Komag Technology Partners) with the U.S. subsidiaries of two Japanese companies, Asahi Glass and Vacuum Metallurgical Company. The partners simultaneously formed a wholly-owned subsidiary, AKCL, to manufacture and distribute thin-film disks in Japan. Under the joint venture agreement, the Company contributed technology developed prior to January 1987, and licensed technology developed after January 1987, to the extent such technology relates to sputtered thin-film hard disk media, for a 50% interest in the partnership. The Japanese partners contributed equity capital aggregating 1.5 billion yen (approximately $11 million). AKCL began 7 8 commercial production with its first production line in 1988 and added three more production lines between 1989 and 1991. A fifth production line was added at its manufacturing facility in Yonezawa, Japan in September 1995. During the fourth quarter of 1995 the first sputtering line was removed from production for upgrading to a new design standard, thus offsetting the incremental unit output from the newly-installed fifth sputtering line. Following the upgrading of its second sputtering line, AKCL is expected to commence production on all five lines late in the first half of 1996. The terms of the joint venture agreement provide that AKCL may only sell disks for incorporation into disk drives that are assembled in Japan, with no limitation on the territory in which AKCL's customers can sell such assembled disk drive products. The Company has, however, periodically granted AKCL a limited right to sell its disks outside of Japan. During the term of the joint venture agreement and for five years thereafter, the Japanese partners and their affiliates have agreed not to develop, manufacture or sell sputtered media anywhere in the world other than through the joint venture, and the Company and its affiliates have agreed not to develop, manufacture or sell such media in Japan except through the joint venture. Upon the occurrence of certain terminating events and the subsequent acquisition of AKCL by one or more of the joint venture partners, the restrictions related to activities of the acquiring joint venture partner(s) within Japan may lapse. Disk sales to AKCL represented less than 1% of the Company's net sales in 1995, 1994 and 1993. The Company purchased 1% of AKCL's unit output during 1995 compared to approximately 8% and 14% in 1994 and 1993, respectively. Increased demand within the Japanese thin-film disk market continued to absorb most of AKCL's production. The Company does not expect to sell appreciable quantities of AKCL-produced products to U.S. customers in 1996 due to expected strong demand within the Japanese media market. However, disk sales by the Company to AKCL for distribution may increase in 1996. Komag Material Technology, Inc. ("KMT") In 1988 Komag formed a wholly-owned subsidiary, KMT, to secure an additional stable supply of aluminum substrates of satisfactory quality for the Company's products. In 1989 Kobe, a leading worldwide supplier of blank aluminum substrates, purchased a 45% interest in KMT for $1.4 million. In December 1995, the Company reacquired 25% of the outstanding common stock of KMT by purchasing shares from Kobe for $6.75 million. The Company's recent purchase raised its total ownership percentage of KMT to 80%. Under the recent stock purchase and related agreements, Kobe retained one seat on KMT's Board of Directors. Under the new agreements, Kobe will continue to supply substrate blanks to KMT while the Company will continue to purchase KMT's entire output of finished substrates. Further, the Company has indicated its intention to purchase a substantial proportion of its future substrate requirements from Kobe, a continuation of a past procurement practice. In combination, KMT and Kobe supply in excess of 85% of the Company's substrate requirements. Dastek, Inc. ("Dastek") The Company previously supplied thin-film recording heads for hard disk drives through Dastek, a joint venture with a subsidiary of Asahi Glass. Due to market changes during 1993 and significant continuing losses, Dastek ceased its inductive thin-film head operations in mid 1994, sold its equipment at various public auctions, settled its obligations with its creditors and was legally dissolved in December 1994. Equity Positions Held by Asahi Glass and Kobe in Komag Asahi Glass and Kobe each purchased one million shares of newly issued Common Stock from the Company for $20 million in January 1989 and March 1990, respectively. In 1992 Asahi Glass transferred 8 9 ownership of its shares to a U.S. subsidiary of Asahi Glass. Under their respective stock purchase agreements, Asahi Glass and Kobe each have the right to purchase additional shares of the Company's Common Stock on the open market to increase their respective equity interests in the Company to 20%, the right to maintain their percentage interest in the Company by purchasing their pro rata shares of any new equity issuance by the Company, and the right to require the Company to register their shares for resale, either on a demand basis or concurrent with an offering by the Company. Each stock purchase agreement further provides that the Company shall use its best efforts to elect a representative of each investor to the Company's Board of Directors and to include such representatives on the Nominating Committee of the Board. During 1994 Asahi America and Kobe reduced their ownership positions in the Company by 3,691,568 and 2,573,112 shares, respectively. There were no purchases or sales of the Company's stock by Asahi Glass or Kobe in 1995 and according to the Company's stock records at February 23, 1996, Asahi America and Kobe held 2,000,000 and 2,000,002 shares of Common Stock, respectively. Sales of significant amounts of the security holdings of Asahi Glass and/or Kobe in the future could adversely affect the market price of the Company's Common Stock. Any sales by either party, however, would require relinquishment of its respective seat on the Company's Board of Directors. COMPETITION Current thin-film disk competitors fall into three groups: U.S. non-captive manufacturers, U.S. captive manufacturers, and Japan-based manufacturers. Historically, each of these groups has supplied approximately one-third of the worldwide thin-film disk unit output. Based upon research conducted by an independent market research firm, the Company believes it is the leading supplier of thin-film disks, with a market share greater than twice the size of any of the U.S. non-captive manufacturers or Japan-based manufacturers. The Company's U.S. non-captive thin-film disk competitors include Akashic Memories Corporation (a subsidiary of Kubota, Inc.), HMT Technology Corporation and StorMedia, Inc. Japan-based thin-film disk competitors include Fuji Electric Company, Ltd., Mitsubishi Kasei Corp., Showa Denko K.K. and HOYA Corporation. The U.S. captive manufacturers include IBM and OEM drive manufacturers, such as Seagate and Conner (who have recently merged operations), and Western Digital, which manufacture disks as a part of their vertical integration programs. To date, IBM and these OEM drive manufacturers have sold nominal quantities of disks in the open market. See "Risk Factors -- Competition". ENVIRONMENTAL REGULATION The Company is subject to a variety of regulations in connection with its operations, and believes that it has obtained all necessary permits for its operations. The Company uses various industrial hazardous materials, including metal plating solutions, in its manufacturing processes. Wastes from the Company's manufacturing processes are either stored in areas with secondary containment before removal to a disposal site or processed on site and discharged to the industrial sewer system. In addition, at one of its facilities, the Company receives industrial waste water from Headway, which subleases a portion of a building in Milpitas, California directly from the Company. Under this arrangement, the Company processes this received waste water together with its own industrial waste water. The Company has made investments in upgrading its waste water treatment facilities to improve the performance and consistency of its waste water processing. Nonetheless, industrial waste water discharges from the Company and other businesses located at the southern end of the San Francisco Bay may, in the future, be subject to more stringent regulations. Failure to comply with present or future regulations could result in the suspension or cessation of part or all of the Company's operations. Such regulations could restrict the Company's ability to expand at its present locations or could require the Company to acquire costly equipment or incur other significant expenses. 9 10 PATENTS AND PROPRIETARY INFORMATION Komag holds and has applied for United States and foreign patents relating to its processes and equipment for manufacturing components and the resulting components. While possession of patents could present obstacles to the introduction of new products by competitors and possibly result in royalty-bearing licenses from third parties, the Company believes that its success does not depend on the ownership of intellectual property rights, but rather on its innovative skills, technical competence and marketing abilities. Accordingly, the patents held and applied for will not constitute any assurance of the Company's future success. The Company regards elements of its equipment designs and processes as proprietary and confidential and relies upon employee and vendor non-disclosure agreements and a system of internal safeguards for protection. Despite these steps for protecting proprietary and confidential information, there is a risk that competitors may obtain and use such information. Furthermore, the laws of certain foreign countries in which the Company does business may provide a lesser degree of protection to the Company's proprietary and confidential information than provided by the laws of the United States. In addition, the Company from time to time receives proprietary and confidential information from vendors, customers, and partners, the use and disclosure of which being governed by non-disclosure agreements. Through internal communication and the monitoring of use and disclosure of such information, the Company complies with its obligations regarding use and non-disclosure. However, despite these efforts, there is a risk that such information may be used or disclosed in violation of the Company's obligations of non-disclosure. The Company has occasionally received, and may receive in the future, communications from third parties asserting violation of intellectual rights alleged to cover certain of the Company's products or manufacturing processes or equipment. The Company evaluates whether to seek licenses to the rights referred to in such communications. Although the Company believes that any such licenses or other rights could be obtained by the Company on terms that would not have a material adverse effect on the Company, there can be no assurance that this will be the case. EMPLOYEES As of December 31, 1995 the Company and its consolidated subsidiaries had 2,915 employees (2,748 of which are regular employees and 167 of which were employed on a temporary basis), including 2,587 in manufacturing, 202 in research, development and engineering, and 126 in sales, administrative and management positions. Of the total 1,091 are employed at offshore facilities. The Company believes that its future success will depend in large part upon its ability to continue to attract, retain and motivate highly skilled and dedicated employees. None of the Company's employees is represented by a labor union and the Company has never experienced a work stoppage. RISKS FACTORS The Company's business is subject to a number of risks and uncertainties. As a result of those risks described below and other risks presented elsewhere in this report, there can be no assurance that the Company will continue to be successful or will maintain a leading market position. The discussion contained in Item 1 -- "Business" and Item 7 -- "Management's Discussion and Analysis of Financial Condition and Results of Operations" contain predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties. While this discussion represents the Company's current judgment on the risks and future direction of the business, such risks and uncertainties could cause actual results to differ materially from any future performance suggested herein. Factors that could cause actual results to differ include the following: product transitions to next-generation products; effective utilization 10 11 of existing manufacturing facilities; continuation of improved manufacturing efficiencies; industry supply-demand relationships and related pricing for high-end disk products; execution of planned capacity additions; and vertical integration and company consolidation within a limited customer base. The Company undertakes no obligation to publicly release the result of any revisions to these forward-looking statements which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Rapid Technological Change The thin-film disk industry has been characterized by rapid technological developments, increasingly shorter product life cycles, and price erosion. The Company believes that its future success depends, in large measure, on its ability to continually improve existing process technologies and to develop and implement new process technologies in a timely manner. Such technologies must support cost-effective, high-volume production of thin-film disks that meet the ever-advancing customer requirements for enhanced magnetic recording performance. Although the Company has a significant, ongoing research and development effort to advance its process technologies and the resulting products, there can be no assurance that the Company will be able to develop and implement such technologies in a timely manner in order to compete effectively against competitors' products and/or entirely new data storage technologies. The Company's results of operations would be materially adversely affected if the Company's efforts to advance its process technologies were not successful or if the technologies that the Company had chosen not to develop were proven to be viable competitive alternatives. In addition, protection of technology through patents and other forms of intellectual property rights in technically sophisticated fields is commonplace. There can be no assurance that others have not or will not perfect such intellectual property rights and either enforce those rights to prevent the Company from practicing certain technologies or demand royalty payments from the Company in return for practicing those technologies, which may have a material adverse affect on the Company's results of operations. The Company reviews, on a routine basis, patent issuances in the U.S. and patent applications which are published in Japan, and became aware of a Japanese patent application which, if issued in identical form in Japan or, if there exists a corresponding application in the U.S., if issued in the U.S., could give rise to a claim of infringement against the Company. While the Company has not investigated this Japanese patent application in detail, it believes it is unlikely that a valid patent of sufficient breadth to materially adversely affect the Company's business will be issued in either Japan or the U.S. However, there can be no assurance that a broad patent will not issue from this application, which if asserted against the Company and upheld may apply to a significant portion of the Company's products and would have a material adverse effect on the Company's business. Capacity Expansion and Capital Intensity Inasmuch as the Company is operating its disk production lines at or near full capacity, future sales and earnings growth will depend on the successful expansion of the Company's manufacturing capacity. The Company plans to expand capacity by increasing the disk output of its existing production lines through process improvements and through the installation of new production lines at existing and new manufacturing facilities. To improve disk output from existing production lines, the Company strives to reduce process cycle times, improve manufacturing yields, and increase equipment utilization rates. Additionally, the Company is upgrading certain older existing production lines to a new design standard that should enhance the production capabilities of these older machines. Should the Company's efforts in these areas not produce the desired results, the Company's rate of growth may be constrained or curtailed. Furthermore, should the Company experience a deterioration in manufacturing performance or a delay or unforeseen outcome arising from the machine upgrade program, the Company's results of operations would be materially adversely affected. 11 12 The Company currently plans to add another production line at its existing manufacturing plant in Penang, Malaysia during the second quarter of 1996 and additional lines at new back end manufacturing facilities currently under construction in San Jose (first line during fourth quarter of 1996) and Penang (first line during first quarter of 1997). Installations of new production lines at both facilities are expected to occur in 4 to 6 month intervals. In addition, a new front end manufacturing plant will begin operation in the second quarter of 1996 in the east Malaysian state of Sarawak. There can be no assurance that the Company's additional production lines will be installed as scheduled or will experience the high levels of manufacturing efficiencies attained by the Company's existing production lines. The Company must attract, train, motivate and retain highly-trained and dedicated employees, particularly at the Company's new operations in Sarawak. Manufacturing and other challenges in connection with the commencement and subsequent expansion of operations in any location and in particular Sarawak, a business location with limited experience in advanced manufacturing, could have a material adverse affect on the Company's results of operations. Based upon industry forecasts of continued high growth in demand for magnetic media, the Company has developed plans to increase its production capacity under a schedule that is substantially more aggressive than its past expansion plans. Implementation of this plan entails parallel expansion at multiple locations rather than serial expansion one location at a time, thus requiring precise planning. Successful execution of this parallel expansion will require timely identification and acquisition of appropriate sites, receipt of requisite approvals, construction and equipping of facilities, recruitment and retention of a high quality workforce, and achievement of satisfactory manufacturing results on a scale greater than the Company's prior expansions. The Company's capital expenditures totaled $166 million in 1995 and 1996 capital expenditures are planned to increase to $350 million. Due to the capital intensive nature of the Company's business, the construction and equipping of new manufacturing facilities requires substantial capital investment. Further, significant amounts of continuing investment in capital equipment is required to improve, modify and change existing manufacturing processes to support rapidly changing process technologies. There can be no assurance that the Company will be able to properly plan and install capable plant and equipment to support the manufacturing processes required for advanced future products in a timely and cost-effective manner due to the long lead times required to design, construct and install plant and equipment. Further, required changes in manufacturing processes could obsolete or significantly shorten the useful lives of substantial amounts of equipment. There can be no assurance that the Company will successfully achieve planned process improvements or successfully manage its aggressive expansion plan. In addition, should actual demand for the Company's products not meet the Company's forecast, and not absorb existing or planned additional capacity, the fixed costs and operating expenses related to unused capacity would have a material adverse affect on the Company's results of operations. Dependence on a Limited Number of Customers; Dependence on the Hard Disk Drive Industry The Company's sales are concentrated in a small number of customers due to the high-volume requirements of the dominant disk drive manufacturers and their tendency to rely on a few suppliers because of the close interrelationship between media performance and disk drive performance. Net sales to major customers in 1995 were as follows: Seagate -- 42%, Quantum -- 23%, Hewlett-Packard -- 15%, and Western Digital -- 12%. Given the relatively small number of high-performance disk drive manufacturers, the Company expects that it will continue its dependence on a very limited number of customers. Further there have been consolidations among the Company's disk drive customers, including the recent merger of Seagate and Conner. In addition, Quantum recently announced that it would cease disk drive production in Milpitas, California and Penang, Malaysia and contract with its Japanese manufacturing partner, Matsushita-Kotobuki Electronics, Industries, Ltd. ("MKE") to manufacture its disk drives. AKCL, the Company's Japanese joint venture, has an established working relationship with MKE and MKE has remained AKCL's largest customer for the past several years. The Company's 12 13 Malaysian subsidiary recently began shipments to MKE's new Singapore manufacturing facility. However, there can be no assurance that MKE will purchase from either Komag or AKCL the unit quantities of product which the Company previously supplied to Quantum in the U.S. and Malaysia. Seagate produces a portion of its disk requirements internally and Conner produces the majority of its own disk requirements. Prior to their merger, both Seagate and Conner announced expansions of their disk production facilities and Seagate has recently announced a long-term purchase commitment with one of the Company's competitors. Other customers and potential customers have, or could adopt, similar strategies. Depending on the overall growth in market demand for disk products, such actions could result in the reduction or cessation of purchases from the Company, thus materially adversely affecting the Company's results of operations. Additionally, if one or more of the Company's customers were to begin selling disks on the open market in direct competition with the Company, the Company's results of operations could be further adversely affected. The demand for the Company's high-performance thin-film disks depends upon the demand for hard disk drives and the Company's ability to provide technically superior products at competitive prices. The high-performance segment of the hard disk drive market is characterized by short product life cycles and rapid technological change. Failure by the Company to qualify new products and/or successfully achieve volume manufacturing of new customer products could adversely affect the Company's results of operations. Furthermore, the Company's sales are generally made pursuant to purchase orders which are subject to cancellation, modification or rescheduling without significant penalties. There can be no assurance that the Company's current customers will continue to place orders with the Company, that orders by existing customers will continue at the levels of previous periods, or that the Company will be able to obtain orders from new customers. Capital Needs The Company believes that, in order to achieve its long-term expansion objectives and maintain and enhance its competitive position, it will need significant additional financial resources over the next several years for capital expenditures, working capital and research and development. During 1996, the Company expects to spend approximately $350 million on capital expenditures. The Company believes that it will be able to fund these expenditures from a combination of cash flow from operations, funds available from existing and possibly new bank lines of credit, and existing cash balances. Property, plant and equipment expenditures in 1997 are expected to be approximately $400 million and will require significant new capital, thus necessitating additional debt, equity or other financing. There can be no assurance that such additional funds will be available to the Company or, if available, will be available on favorable terms. In addition, the Company may require additional capital for other purposes. If the Company is unable to obtain sufficient capital, it could be required to reduce its capital equipment and research and development expenditures, which could have a material adverse affect on the Company's results of operations. Fluctuations in Operating Results The Company believes that its future operating results will continue to be subject to quarterly variations based upon a wide variety of factors, including the cyclical nature of the hard disk drive industry, the ability to develop and implement new manufacturing process technologies, the ability to introduce new products and to achieve cost-effective, high-volume production in a timely manner, changes in product mix and average selling prices, the availability and the extent of utilization of the Company's production capacity, manufacturing yields, prolonged disruptions of operations at any of the Company's facilities for any reason, changes in the cost of or limitations on availability of labor, and increases in production and engineering costs associated with initial production of new product programs. Because the thin-film disk industry is capital intensive and requires a high level of fixed costs, gross margins are also extremely sensitive to changes in volume. Assuming fixed average selling prices, reductions in manufacturing efficiency would cause declines in gross margins. Additionally, decreasing 13 14 demand for the Company's products generally results in reduced average selling prices and/or low capacity utilization that, in turn, adversely affects gross margins and operating results. The Company's ability to maintain average selling prices and gross margins is dependent on its ability to produce, in volume, products that are differentiated on the basis of technological superiority. In the second, third and fourth quarters of 1995, the Company achieved high gross margins as a result of increased manufacturing efficiencies, coupled with strong market demand for and an industry shortage of 1800 Oe disks. The Company does not believe that future gross margins are sustainable at the fourth quarter's record level. The Company expects that the overall average selling price will likely trend downward from the average selling price in the fourth quarter of 1995 due to a continuing high proportion of 1800 Oe product sales during the first half of 1996. The transition to higher-priced 2000 Oe products is expected to commence in the second quarter of 1996 and such products could account for more than 50% of the Company's sales during the fourth quarter of 1996. In the event that market supply meets or exceeds demand or the Company is unable to introduce and ramp to volume production next-generation products in a timely manner, the Company's operating results would likely be adversely affected. See "Management's Discussion and Analysis of Financial Condition and Results of Operations". Fluctuations in the financial results of AKCL, the Company's unconsolidated Japanese disk manufacturing joint venture, could also impact the Company's financial performance. Equity in net income of AKCL contributed 7% of the Company's 1995 consolidated net income. AKCL is subject to many of the same types of risks facing the Company. In addition, the equity income derived from AKCL fluctuates over time due to its dependence on a more limited customer base (MKE and Fujitsu Ltd. accounted for 72% and 26%, respectively, of AKCL's 1995 net sales), yen/dollar exchange rate fluctuations, and possible further write-downs by AKCL of its investment in Headway Technologies, Inc. Risk of Foreign Operations In 1995, sales to customers in the Far East, including foreign subsidiaries of domestic companies, accounted for 62% of the Company's net sales from its U.S. and Malaysian facilities, and the Company anticipates that international sales will continue to represent the majority of its net sales. All of the Company's sales are currently priced in U.S. dollars worldwide. Certain costs at the Company's foreign manufacturing and marketing operations are incurred in the local currency. The Company also purchases certain operating supplies and production equipment from Japanese suppliers in yen denominated transactions. Accordingly, the Company's operating results are subject to the risks inherent with international operations, including but not limited to, compliance with or changes in the law and regulatory requirements of foreign jurisdictions, fluctuations in exchange rates, tariffs or other barriers, difficulties in staffing and managing foreign operations, exposure to taxes in multiple jurisdictions, and transportation delays and interruptions. The Company's existing Malaysian manufacturing facility accounted for 33% and 52% of the Company's 1995 consolidated net sales and operating income, respectively. Prolonged disruption of operations at this facility for any reason would cause delays in shipments of the Company's products, thus materially adversely affect the Company's results of operations. Competition The Company's thin-film disk products are used primarily in the high-capacity segment of the 3 1/2-inch and 5 1/4-inch hard disk drive market, where product performance, consistent quality and availability, taken together, are of great competitive importance. To succeed in an industry characterized by rapid incremental technological developments, the Company must continuously advance its thin-film technology at a pace consistent with or faster than its competitors. In addition, the Company must capture a market share position that will insure a competitive cost structure. The Company believes that its thin-film manufacturing facility in Penang, Malaysia provides a significant competitive cost advantage relative to most other thin-film disk manufacturers that currently operate exclusively in the U.S. and Japan. However, if the technology involved in the manufacture of thin-film disks does not continue to advance 14 15 rapidly, or if the Company is not able to keep pace with such advances, the Company may face increased price competition from other manufacturers. Such competition could materially adversely affect its results of operations. Worldwide disk drive shipments grew 30% in 1995 over 1994 and are projected to grow approximately 30% in 1996 over 1995 according to International Data Corporation ("IDC"). IDC forecasts that the annual rate of unit growth will remain high, at about 20%, through 1999. In response to the continuing rapid growth of the disk drive market and resulting strong demand for thin-film disk products, a majority of the Company's competitors (both independent disk manufacturers and vertically-integrated disk drive customers) have announced substantial plans to increase disk manufacturing capacity. These significant investments in new disk production capacity, coupled with slower market growth for data storage, could reduce the number of potential customers and increase competition for the remaining market. Such conditions could have a material adverse affect on the Company's results of operations. Volatility of Stock Price The Company's Common Stock has experienced and can be expected to experience substantial price volatility in response to actual or anticipated quarterly variations in operating results, announcements of technological innovations or new products by the Company or its competitors, developments related to patents or other intellectual property rights, developments in the Company's relationships with its customers or suppliers, announcements of alliances, mergers or other relationships by or between the Company's competitors and/or customers, and other events or factors. In addition, any shortfall or changes in revenue, gross margins, earnings, or other financial results from analysts' expectations could cause the price of the Company's Common Stock to fluctuate significantly. In recent years the stock market in general has experienced extreme price and volume fluctuations which have particularly affected the market price of many technology companies and which have often been unrelated to the operating performance of those companies. These broad market fluctuations may adversely affect the market price of the Company's Common Stock. See "Price Range of Common Stock". Other Risk Factors The Company relies on a limited number of suppliers, in some cases a sole supplier, for certain materials used in its manufacturing processes. These materials include aluminum substrates, nickel plating solutions, sputtering target materials, and certain polishing and texturing supplies. These suppliers work closely with the Company to optimize the Company's production processes. Although this reliance on a limited number of suppliers, or sole supplier, entails some risk that the Company's production capacity would be limited if one or more of such materials were to become unavailable or available in reduced quantities, the Company believes that the advantages of working closely with these suppliers outweigh such risks. If such materials should be unavailable for a significant period of time, the Company's results of operations would be adversely affected. The Company's California manufacturing facilities, its Japanese joint venture (AKCL), its Japanese supplier of aluminum blanks for substrate production, other Japanese suppliers of key manufacturing supplies, and its Japanese supplier of sputtering machines are each located in areas with seismic activity. The Company has incurred no significant disruptions to its business due to seismic activity. However, there can be no assurance that seismic activity or other natural disasters will not result in a prolonged disruption of production in the future. Such disruptions could have a material adverse affect on the Company's results of operations. 15 16 ITEM 2. PROPERTIES. Worldwide (excluding AKCL), the Company currently occupies facilities totaling approximately 813,000 square feet and has 775,000 square feet of manufacturing facilities currently under construction. The Company owns a 340,000 square foot thin-film disk manufacturing facility in Penang, Malaysia on a 13-acre site and the Company's headquarters, research and development, manufacturing, and sales facilities are located in leased buildings in the cities of Milpitas, San Jose, and Santa Rosa, California. These facilities are leased for the following terms:
FACILITY SIZE CURRENT LEASE (SQUARE FEET) TERM EXPIRES EXTENSION OPTIONS 103,000 July 1999 10 years 97,000 February 2001 10 years 96,000 February 2001 10 years 44,000 April 1999 10 years 39,000 March 1997 -- 51,000 March 1997 --
In addition to the facilities listed above, the Company leases other smaller facilities in California and Singapore. The Company owns approximately 6 acres of undeveloped land adjacent to its Milpitas manufacturing complex. The Company is currently constructing and equipping a 275,000 square foot front end manufacturing plant on a 77-acre site in Kuching, the capital city of the east Malaysian state of Sarawak. Production from this facility is scheduled to commence in the first half of 1996. The Company is also constructing a new 225,000 square foot back end disk manufacturing plant in San Jose, California under a build-to-suit lease arrangement on a 14-acre parcel and recently commenced construction of a new 275,000 square foot back end disk manufacturing plant in Penang, Malaysia on a 18-acre site. The new back end plants in San Jose and Penang should begin operations in the fourth quarter of 1996 and first quarter of 1997, respectively. In January 1996, the Board of Directors approved the construction (under build-to-suit lease arrangements) of a new 178,000 square foot research and development building and a new 90,000 square foot administrative building in San Jose, California. These new buildings will be located on an 18-acre parcel adjacent to the new San Jose manufacturing plant and will be ready for occupancy in the first half of 1997. ITEM 3. LEGAL PROCEEDINGS. There are no material legal proceedings to which the Company or its subsidiaries is a party or to which any of its property is subject. 16 17 ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS. A Special Annual Meeting of Stockholder's was held on December 20, 1995 for the following purpose: To approve an amendment to the Company's Restated Certificate of Incorporation to increase the authorized shares of Common Stock from 35,000,000 shares to 85,000,000 shares. Shares of Common Stock voted (on a post-split basis) were as follows: For -- 43,549,324 Against -- 747,814 Abstain -- 291,768 Broker non-votes -- 5,837,866 EXECUTIVE OFFICERS OF THE REGISTRANT As of January 31, 1996 the executive officers of the Company are as follows:
NAME AGE POSITION - ---- --- -------- Tu Chen................................... 60 Chairman of the Board of Directors Stephen C. Johnson........................ 53 President, Chief Executive Officer and Director Willard Kauffman.......................... 60 Senior Vice President-Chief Operating Officer Venche Kao................................ 59 Vice President Manufacturing-Milpitas Operations Kathryn A. McGann......................... 50 Vice President-Human Resources Steven J. Miura........................... 43 Vice President-Quality and Product Integration T. Hunt Payne............................. 53 Senior Vice President-Marketing and Sales William L. Potts, Jr...................... 49 Senior Vice President, Chief Financial Officer and Secretary Thian Hoo Tan............................. 47 Vice President Manufacturing-Malaysian Operations Sonny Wey................................. 54 Vice President-Engineering and R&D William V. Whitmer........................ 53 Vice President Manufacturing-U.S. Operations Tsutomu T. Yamashita...................... 41 Vice President-Research
Dr. Chen is a founder of the Company and has served as Chairman of the Board from its inception in June 1983. From 1971 to June 1983 he was a Member, Research Staff and principal scientist at Xerox Corporation's Palo Alto Research Center. From 1968 to 1971 Dr. Chen was employed as a research scientist for Northrop Corp. Dr. Chen received his Ph.D. and M.S. in Metallurgical Engineering from the University of Minnesota and holds a B.S. degree in Metallurgical Engineering from Cheng Kung University in Taiwan. Mr. Johnson has served as President and Chief Executive Officer of the Company since September 1983. From 1977 to 1983 Mr. Johnson was an officer of Boschert Incorporated, a manufacturer of switching power supplies, initially as Vice President, Marketing and subsequently as President and Chief Executive Officer. Mr. Johnson holds a B.S. degree in Engineering from Princeton University, a M.S. degree in Electrical Engineering from the University of New Mexico and a M.B.A. degree from the Harvard Graduate School of Business. Mr. Johnson is a director of 3COM Corporation and Uniphase Corporation. 17 18 Mr. Kauffman was appointed Senior Vice President-Chief Operating Officer in February 1990. For three years prior to joining the Company, Mr. Kauffman was Executive Vice President and Chief Operating Officer of Vitelic Corporation. Prior to that he was employed at Intel Corporation for 16 years in a variety of positions, including Vice President of Component Production and Vice President of Component Quality. Mr. Kauffman holds B.S. and M.S. degrees in Engineering Physics from Lehigh University. Dr. Kao was promoted to Vice President for Milpitas Manufacturing in October 1993. Dr. Kao joined Komag in November 1983 as a manager of Operations and was promoted to Director of Manufacturing in April 1988. Previously, Dr. Kao was a Plant Manager at Tau Laboratory, Inc. in New York. Dr. Kao holds a Ph.D. degree from Iowa State University where he majored in Electrical Engineering and minored in Physics. Ms. McGann joined the Company as Vice President-Human Resources in September 1988. From 1978 to 1981 and from 1985 to 1988 she was employed by Transamerica Corporation in various human resource management positions. From 1981 to 1985, Ms. McGann was an area personnel manager and later a personnel programs manager at Digital Equipment Corporation. Ms. McGann holds a B.A. degree in Anthropology from the University of California at Berkeley and a Masters degree in Public Administration from the University of Southern California. Mr. Miura joined the Company in 1984 and was Director of Test Engineering prior to his promotion to Vice President-Quality and Product Integration in November 1991. Before joining Komag, Mr. Miura held various engineering positions at IBM. Mr. Miura holds both B.S. and M.S. degrees in electrical engineering from the University of California, Davis. Mr. Payne joined the Company in June 1985 and was Vice President-Marketing and Sales prior to his promotion to Senior Vice President-Marketing and Sales in January 1992. From November 1983 to June 1985 he was a founder and Vice President of Marketing for Domain Technology, Incorporated. From 1981 to 1983 he served as Vice President of Sales for ITT/Qume Corporation and prior to that served in several sales management positions for Control Data Corporation. Mr. Potts joined the Company in 1987 and served as Vice President -- Chief Financial Officer from January 1991 until his promotion to Senior Vice President -- Chief Financial Officer in January 1996. In addition Mr. Potts serves as Secretary. Prior to joining Komag, Mr. Potts held financial management positions at several high technology manufacturing concerns. He has also served on the consulting staff of Arthur Andersen & Co. Mr. Potts holds a B.S. degree in Industrial Engineering from Lehigh University and a M.B.A. degree from the Stanford Graduate School of Business. Mr. Tan was appointed Vice President Manufacturing of Komag, Incorporated in September 1993 and has served as the Managing Director of Komag USA (Malaysia) Sdn., since February 1992. Previously, Mr. Tan was in charge of operations at Komag's San Jose, California manufacturing facility. Before joining Komag in 1989, Mr. Tan was Vice President of Operations at HMT Technology. Mr. Tan holds a M.S. degree in Physics from University of Malaya at Kuala Lumpur. Dr. Wey has served as Vice President-Engineering since April 1988 and assumed his current responsibilities in January 1996. Dr. Wey joined the Company in November 1983 and has held director positions in both engineering and manufacturing. For 10 years prior to joining the Company, Dr. Wey worked in various engineering and engineering management positions at IBM. Dr. Wey received his Ph.D. in Physical Chemistry from the Illinois Institute of Technology and holds a B.S. degree in Chemical Engineering from National Chen-Kung University in Taiwan. 18 19 Mr. Whitmer joined the Company as Vice President-Manufacturing in December 1987. From 1972 to 1987, he held various positions with Raychem Corporation including the General Manager of the Materials Division. Mr. Whitmer holds a B.S. degree in Chemical Engineering from Ohio State University. Mr. Yamashita joined the Company in 1984 and was Senior Director of Research prior to his promotion to Vice President-Research in January 1995. Prior to joining the Company, Mr. Yamashita was a graduate research assistant in the Department of Material Science and Engineering at Stanford University. Mr. Yamashita holds a B.S. in Chemistry and M.S. in Materials Science from Stanford University. PART II ITEMS 5, 6, 7 AND 8. ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock is traded on the Nasdaq National Market under the symbol KMAG. The following table sets forth the range of high and low closing sales prices, as reported on the Nasdaq National Market. At February 23, 1996 the Company had approximately 449 holders of record of its Common Stock and 50,832,767 shares outstanding. The share prices have been adjusted to reflect the Company's two-for-one stock split effective December 21, 1995. PRICE RANGE OF COMMON STOCK
HIGH LOW ---- --- 1994 First Quarter 13 13/16 7 7/8 Second Quarter 12 5/8 8 7/8 Third Quarter 13 1/4 9 5/8 Fourth Quarter 14 5/16 12 1/16 1995 First Quarter 16 23/32 11 9/16 Second Quarter 26 1/8 15 7/8 Third Quarter 37 1/16 25 5/8 Fourth Quarter 34 3/8 21 15/16 1996 First Quarter (through February 23, 31 7/8 23 1996)
DIVIDEND POLICY The Company has never paid cash dividends on its Common Stock. The Company presently intends to retain all cash for use in the operation and expansion of the Company's business and does not anticipate paying any cash dividends in the near future. Certain of Komag's debt agreements limit the amount of dividend payments without the lenders' consent. 19 20 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA The following table sets forth selected consolidated financial data and other operating information of Komag, Incorporated. The financial data and operating information is derived from the consolidated financial statements of Komag, Incorporated and should be read in conjunction with the consolidated financial statements, related notes, and other financial information included herein.
Fiscal Year Ended ---------------------------------------------------------------- 1995 1994 1993 (1) 1992 1991 -------- -------- -------- -------- -------- (in thousands, except per share amounts and number of employees) CONSOLIDATED STATEMENTS OF OPERATIONS DATA: Net Sales $512,248 $392,391 $385,375 $326,801 $279,194 Gross Profit 197,486 125,386 91,439 67,765 68,185 Restructuring Charge -- -- 38,956 -- -- Income (Loss) Before Minority Interests and Equity in Joint Venture Income 101,410 54,156 (33,738) 4,263 14,314 Minority Interests in Net Income (Loss) of Consolidated Subsidiaries 1,957 1,091 (18,977) (9,458) 1,025 Equity in Net Income of Unconsolidated Joint Venture 7,362 5,457 4,860 3,172 2,070 Net Income (Loss) $106,815 $58,522 $(9,901) $16,893 $15,359 Net Income (Loss) Per Share (2) $2.14 $1.27 $(0.23) $0.40 $0.38 CONSOLIDATED BALANCE SHEET DATA: Working Capital $252,218 $118,230 $97,265 $97,894 $97,808 Net Property, Plant & Equipment 329,174 228,883 187,267 192,051 120,904 Long-term Debt & Capital Lease Obligations (less current portion) -- 16,250 29,482 27,613 16,516 Stockholders' Equity 574,564 331,215 255,331 248,738 202,077 Total Assets $686,315 $424,095 $382,297 $355,849 $276,979 Number of Employees at Year-end 2,915 2,635 3,497 3,090 2,637
(1) The results of operations for 1993 included a $39.0 million restructuring charge for the winding down of Dastek's inductive thin-film head operation. The net effect of the restructuring charge, after related minority interest and tax adjustments, was $35.4 million ($0.83 loss per share) for 1993. (2) The earnings per share amounts have been restated to reflect the two-for-one stock split effective December 21, 1995. (3) The Company paid no cash dividends during the five-year period. 20 21 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS OVERVIEW The Company's business is both capital intensive and volume sensitive, making capacity planning and efficient capacity use imperative. Physical capacity, utilization of this physical capacity, yields and average unit sales price constitute the key determinants of the Company's profitability. Of these key determinants, price and utilization are the most sensitive to changes in product demand. If capacity and product price are fixed at a given level and demand is sufficient to support a higher level of output, then increased output attained through improved utilization rates and higher manufacturing yields will translate directly into increased sales and improved gross margins. Alternatively, if demand for the Company's products decreases, falling average selling prices and lower capacity utilization could adversely affect the results of the Company's operations. The following discussion contains predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties. While this discussion represents the Company's current judgment on the future direction of the business, such risks and uncertainties could cause actual results to differ materially from any future performance suggested herein. Factors that could cause actual results to differ include the following: product transitions to next-generation products; effective utilization of existing manufacturing facilities; continuation of improved manufacturing efficiencies; industry supply-demand relationships and related pricing for high-end disk products; execution of planned capacity additions; and vertical integration and consolidations within a limited customer base. See "Business - Risk Factors" for more detailed discussions of the Company's risk factors. The Company undertakes no obligation to publicly release the result of any revisions to these forward-looking statements which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. 1995 VS. 1994 Net Sales Net sales for 1995 rose to $512.2 million, a 31% increase over the $392.4 million reported in 1994. The combination of unit sales volume growth and an increase in the overall average selling price resulted in the substantially higher net sales. Nearly three-quarters of the improvement in net sales was attributable to higher unit sales volume in 1995 relative to 1994. The overall average selling price typically strengthens only as the result of product mix shifts to higher-priced, more technologically advanced product offerings. Price reductions for individual product offerings are characteristic of the thin-film media industry. The Company began a rapid transition to its leading-edge 1800 Oe product offering in the fourth quarter of 1994. Unit sales of this product increased to 91% of unit sales volume in the fourth quarter of 1995 from 14% of unit sales in the fourth quarter of 1994. The higher sales mix of 1800 Oe product and a favorable pricing environment arising from an industry shortage of this product allowed the overall average selling price to increase 7% in 1995 relative to 1994. The overall average selling price will likely trend downward from the average selling price in the fourth quarter of 1995 due to a continuing high proportion of 1800 Oe product sales during the first half of 1996. The transition to higher-priced 2000 Oe products is expected to commence in the second quarter of 1996 and such products could account for more than 50% of the Company's sales during the fourth quarter of 1996. Any delay in the introduction of these products could adversely affect the Company's results of operations. 21 22 In addition to sales of its internally produced disk products, the Company resells products manufactured by Asahi Komag Co., Ltd. ("AKCL"), its Japanese joint venture with Asahi Glass Company, Ltd. Distribution sales of product manufactured by AKCL decreased to $0.9 million in 1995 from $9.4 million in 1994. The Company purchased smaller quantities of product from AKCL in 1995 as demand within the Japanese thin-film media market absorbed the majority of AKCL's capacity. The Company anticipates that distribution sales of AKCL-produced product to U.S. customers in 1996 will be minimal. Increased production volume may occur due to increased physical capacity (additional production lines) and/or improvements in manufacturing efficiencies (improved unit output from higher yields, better equipment utilization or shorter process cycle times). The increase in unit production volume required to support the increase in unit sales volume for 1995 relative to 1994 was primarily achieved through the addition of production lines and improvement in cycle times. Production yields and equipment utilization rates were relatively unchanged between the years. Shortened process cycle times accounted for nearly one-half of the increase in unit output in 1995 relative to 1994. Net physical capacity additions provided the remaining increase in unit production volume. The Company added one new sputtering machine in each of January 1994, August 1994, March 1995 and September 1995. As of the end of the year, the Company had a total of fifteen production lines, ten in the U.S. and five in Malaysia. In late 1994, the Company began a program to upgrade its sputtering machines to enhance product capabilities and shorten process cycle times. The Company expects one U.S. machine will be out of production on a rotating basis through 1996. The addition of two production lines in the first and second quarters of 1996 and full use of the two production lines installed during 1995 throughout 1996, coupled with expected efficiency improvements, should allow unit output between 1995 and 1996 to grow approximately 35%. Gross Margin The gross margin percentage for 1995 rose to 38.6%, up markedly from the 32.0% gross margin achieved for 1994. The combination of the rapid transition to 1800 Oe product in 1995, strong industry demand for this product, and solid manufacturing performance produced this historically high gross margin for the Company. The 7% increase in the overall average selling price accounted for over two-thirds of the gross margin percentage improvement. Additionally, process cycle time improvements allowed the Company to lower its overall average unit cost of production despite the inherently higher costs of producing more technologically advanced 1800 Oe products. The gross margin percentage increased sequentially in each quarter of 1995 from 31.2% in the first quarter to 42.6% in the fourth quarter of 1995 as the sales mix of 1800 Oe product increased and market conditions for advanced thin-film media remained strong. The gross margin achieved in the fourth quarter of 1995 was well above the Company's targeted range and the Company anticipates that its quarterly gross margin percentage will decline toward its targeted range of 33%-38% as the 1996 fiscal year progresses. Continued focus on process improvement programs designed to increase production throughput and reduce the overall average unit production cost should reduce, but not eliminate, the impact of a decreasing overall average selling price on the Company's gross margin in 1996. In spite of expected sequential increases in quarterly unit output, reductions in the gross margin percentage from the level achieved in the fourth quarter of 1995 will likely restrict sequential earnings growth during 1996. However, the Company believes that its 1996 annual financial performance will compare favorably to that achieved for fiscal year 1995. Operating Expenses Research and development expenses increased 12% ($2.5 million) in 1995 relative to 1994. The increase was primarily due to development of improved sputtering processes and next-generation thin-film media products. Selling, general and administrative ("SG&A") expenses increased $17.5 million in 1995 compared to 1994. The increase was primarily due to a $13.5 million increase in the provisions for the Company's bonus and profit sharing programs resulting from the substantially higher operating performance in 1995. Provisions for bad debt increased $1.5 million between the years. Excluding provisions for bad debt and the Company's bonus and profit sharing programs, SG&A expenses 22 23 increased approximately $2.5 million between the years. Increases in administrative costs required to support the growth in the business accounted for the majority of the increase. Interest Income/Expense and Other Income Interest income increased $2.5 million (76%) in 1995 relative to 1994. The increase was due to the combination of higher interest rates and higher average investment balances in 1995. The Company exited 1995 with $213.7 million in cash and short-term investments compared to $93.9 million at the end of 1994. Proceeds from the Company's third public offering in September 1995 and significant cash flow provided by operations in 1995 allowed the Company to maintain its higher average investment balances for 1995. Interest expense decreased $1.1 million (37%) in 1995 compared to 1994 due to a lower average outstanding debt balance for 1995. The Company repaid all of its existing outstanding debt in September 1995 and exited the year with no bank debt. Other income increased $2.1 million in 1995 relative to 1994 primarily due to receipt of an insurance recovery related to an electrical power disruption at the Company's Malaysian manufacturing facility. Income Taxes The effective income tax rate for 1995 of 25% was lower than the 1995 combined federal and state statutory rate of 41% and the effective income tax rate of 30% in 1994 primarily as a result of a tax holiday granted to the Company's wholly-owned thin-film media operation in Malaysia. Komag USA (Malaysia) Sdn. ("KMS") has been granted a five-year tax holiday by the Malaysian government. Assuming the Company fulfills certain commitments under its license to operate within Malaysia, this tax holiday may be extended for an additional five-year period by the Malaysian government. The impact of the tax holiday was to increase net income by approximately $11.5 million ($0.23 per share) and $6.4 million ($0.14 per share) in 1995 and 1994, respectively. Losses incurred prior to the commencement of the tax holiday, approximately $6.2 million, are available for carryforward to years following the expiration of the tax holiday. The Company anticipates that the effective income tax rate for 1996 will decrease as KMS installs one additional sputtering machine in each of the first and second quarters of 1996 and generates a larger percentage of the Company's consolidated profit than in 1995. Minority Interest in Consolidated Subsidiary/Equity in Unconsolidated Joint Venture The minority interest in the net income of consolidated subsidiary during 1995 represented Kobe Steel USA Holdings Inc.'s ("Kobe USA") 45% share of Komag Material Technology, Inc.'s ("KMT") net income. KMT recorded net income of $4.3 million and $2.4 million in 1995 and 1994, respectively. On December 28, 1995 the Company increased its ownership interest in KMT from 55% to 80% through the purchase of KMT shares directly from Kobe USA for $6.75 million. Kobe USA retained a 20% minority interest investment in KMT. The Company records 50% of AKCL's net income as equity in net income of unconsolidated joint venture. AKCL reported net income of $14.7 million for 1995, up from $11.0 million for 1994. Equity in net income of AKCL contributed 7% of the Company's 1995 consolidated net income. The Company anticipates that AKCL's equity income will account for a similar percentage of 1996 consolidated net income. The Company translates AKCL's yen-based income statements to U.S. dollars at the average exchange rate in effect during the year. The Japanese yen strengthened approximately 6% in 1995 relative to 1994. AKCL's net income would have been approximately $13.5 million in 1995 had the yen-based income statement been translated at the average rate in effect for 1994. AKCL's net income in 1996 will be affected by the start-up costs associated with a new manufacturing facility and the financial performance of Headway Technologies, Inc. ("Headway"). AKCL began construction of a 225,000 square foot facility in Thailand for front end production of thin-film disks in 1995 and expects to begin production at this site in late 1996. AKCL invested in Headway in 1994 and has been recording partial writedowns of its investment based upon net losses incurred at 23 24 Headway. AKCL's net income reflected writedowns, net of tax, of $2.2 million and $0.5 million in 1995 and 1994, respectively. To the extent that such losses continue, AKCL will record a portion of those losses. Alternatively, AKCL will record a portion of Headway's net income, if any, to the extent of previously recognized losses. Other The Company operates facilities in the U.S. and Malaysia and ships products to both domestic and international locations. In order to minimize the risks associated with foreign currency fluctuations, the Company denominates its sales in U.S. dollars and periodically enters into foreign exchange contracts to hedge firm purchase commitments. The Company had approximately $17.1 million of foreign exchange contracts outstanding at December 31, 1995. No such foreign exchange contracts were open as of January 1, 1995. Gains and losses created by the remeasurement of the financial statements of the Company's Malaysian operations into U.S. dollars from Malaysian ringgits have not had a significant effect on the consolidated results of operations. In 1995, the Company adopted Statement of Financial Accounting Standard No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed" ("FAS 121"). The adoption of FAS 121 did not have a material impact on the Company's financial position or results of operations. Beginning January 1, 1996, the Company will be required to adopt Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("FAS 123"). The Company plans to adopt only the disclosure requirements of the Statement and, as such, the adoption of FAS 123 will have no impact on the Company's financial position or results of operations. 1994 VS. 1993 The Company's consolidated results of operations for 1994 represent the Company's thin-film media operations exclusively. In contrast, results of operations for 1993 consolidate the operating results of the Company's thin-film media operations and Dastek, Inc. ("Dastek"), the Company's thin-film head joint venture with Asahi Glass America, Inc. ("Asahi America"). In the fourth quarter of 1993, the Company recorded a $39.0 million restructuring charge related to the cessation of Dastek's inductive thin-film head operations, which was effected during 1994. Approximately one-half of the restructuring charge provided for estimates of losses to be incurred during the 1994 wind down of Dastek's operations. The remaining charge primarily represented reductions of assets and liabilities to their estimated net realizable value. Actual operating losses incurred in 1994 were approximately one-third higher than estimated in the 1993 restructuring charge. However, net losses from the sale of Dastek's assets and the settlement of its liabilities were lower by a comparable amount. 24 25 Excluding Dastek's results of operations and the related restructuring charge, income statements for the Company were as follows for 1994 and 1993:
(in thousands) Fiscal Year Ended ------------------------ 1994 1993 -------- -------- Net sales $392,391 $334,542 Cost of sales 267,005 225,086 -------- -------- Gross profit 125,386 109,456 Research, development and engineering 21,340 17,867 Selling, general and administrative 27,101 24,488 -------- -------- Operating income 76,945 67,101 Interest income 3,306 2,674 Interest expense (2,933) (4,038) Other income, net 48 606 Income before taxes, minority interest and equity in joint -------- -------- venture income 77,366 66,343 Provision for income taxes 23,210 24,825 Minority interest in net income of consolidated subsidiary 1,091 499 Equity in income of unconsolidated joint venture 5,457 4,860 -------- -------- Net income $ 58,522 $ 45,879 ======== ========
The following discussion compares the results of operations for 1994 vs. 1993, excluding the results of Dastek, as presented above. Net Sales Unit sales of thin-film media increased nearly 40% in 1994 relative to 1993. The effect on thin-film media revenue from this substantial increase in unit sales volume was reduced by a 16% decrease in the overall average unit selling price between the years. In 1994, the Company began a transition to more advanced 1800 Oe product offerings. The transition to this new disk product was more challenging and required more time than previous product transitions. As a result of the more lengthy product transition time, the effects of traditionally declining prices for individual product offerings reduced the overall average selling price between the years. Distribution sales of product manufactured by AKCL decreased to $9.4 million in 1994 from $17.1 million in 1993. The Company purchased smaller quantities of product from AKCL in 1994 as demand within the Japanese thin-film media market absorbed more of AKCL's capacity. The increase in unit production volume required to support the increase in unit sales volume for 1994 relative to 1993 was primarily achieved through a combination of higher manufacturing throughput, increased physical capacity, and improved production yields and utilization rates. Improvements in manufacturing throughput, primarily due to shortened sputter cycle times, and physical capacity additions each accounted for approximately 40% of the increased unit production volume. Improvements in yields and utilization rates accounted for the remaining increase in unit production volume. 25 26 Gross Margin The thin-film media gross margin percentage decreased to 32.0% for 1994 from 32.7% for 1993. Excluding distribution sales of product manufactured by AKCL for resale to the Company's customers, the gross margin percentage decreased to 32.7% from 34.1% between the years. The substantial decrease in the overall average selling price outpaced solid improvements in the average unit production cost and resulted in the lower gross margin percentage for 1994. Manufacturing efficiencies, such as reduced cycle times and yield and utilization improvements, were the primary drivers in reducing the average unit production cost. Operating Expenses Research, development and engineering expenses increased $3.5 million in 1994 compared to 1993. The increase between the years was mainly due to development costs for advanced thin-film media, including costs associated with the Company's thin-film media pilot production line. Selling, general and administrative expenses increased $2.6 million in 1994 relative to 1993, primarily due to higher provisions for the Company's bonus and profit sharing programs resulting from the higher operating profitability for the Company's thin-film media operations. Interest Income/Expense and Other Income Interest income increased $0.6 million in 1994 relative to 1993. The increase was due to the combination of higher interest rates and higher average investment balances in 1994. Interest expense decreased $1.1 million. In 1993, the Company reversed previously capitalized interest related to the construction of its thin-film media manufacturing facility in Malaysia, thus increasing 1993 interest expense. Excluding this reversal, interest expense decreased $0.2 million primarily due to a lower average outstanding debt balance for 1994. Other income, net decreased $0.6 million in 1994 mainly due to higher losses on disposal of equipment in 1994 relative to 1993. Income Taxes The effective income tax rate for 1994 of 30% was lower than the effective income tax rate of 37% in 1993 primarily as a result of a tax holiday granted to the Company's wholly-owned thin-film media operation in Malaysia. Komag USA (Malaysia) Sdn. has been granted a five-year tax holiday by the Malaysian government. The impact of the tax holiday was to increase net income by approximately $6.4 million ($0.14 per share) in 1994. Minority Interest in Consolidated Subsidiary/Equity in Unconsolidated Joint Venture The minority interest in the net income of consolidated subsidiary represented Kobe USA's 45% share of KMT's net income. KMT recorded net income of $2.4 million and $1.1 million in 1994 and 1993, respectively. The equity in net income of unconsolidated joint venture reflected the Company's 50% interest in AKCL's net income. AKCL reported net sales and net income of $131.3 million and $11.0 million for 1994, up from $119.4 million and $9.8 million for 1993. AKCL's functional currency is the Japanese yen. The Company translates AKCL's yen-based income statements to U.S. dollars at the average exchange rate in effect for each quarterly period. The Japanese yen strengthened approximately 8% in 1994 relative to 1993. AKCL's net income would have been approximately $10.0 million in 1994 had the yen-based income statement been translated at the average rate in effect for 1993. 26 27 LIQUIDITY AND CAPITAL RESOURCES Consolidated cash and short-term investments of $213.7 million at the end of 1995 increased substantially from $93.9 million at the end of 1994. Consolidated operating activities generated $188.8 million in cash during 1995 and more than funded the Company's $166.5 million of capital spending during the year. Sales of Common Stock under the Company's stock option and stock purchase programs during 1995 generated $10.8 million, while scheduled repayments of long-term obligations used $9.7 million. In September 1995, the Company raised $122.1 million (net of underwriting commissions and expenses) through a public offering of 3.5 million shares of the Company's Common Stock. The Company used $19.8 million of the proceeds from the stock offering to repay all of its long-term debt. Total capital expenditures for 1996 are currently planned at approximately $350 million. Construction and fit up of three new manufacturing facilities are the major components of the capital plan. The Company is nearing completion of a 275,000 square foot facility for the front end stages of its manufacturing process in Sarawak, Malaysia and expects to begin production at this site in the second quarter of 1996. Two back end factories are currently under construction in San Jose, California and Penang, Malaysia. The San Jose factory is approximately 225,000 square feet and the Penang factory is approximately 275,000 square feet. The Company plans to begin production at the new San Jose and Penang facilities in late 1996 and early 1997, respectively. Additionally, the Company expects to begin construction of a 178,000 research and development facility and a 90,000 square foot administration building in 1996 for occupancy in the first half of 1997. Current noncancellable commitments total approximately $165.0 million. The Company believes that, in order to achieve its long-term expansion objectives and maintain and enhance its competitive position, it will need additional financing over the next several years for capital expenditures, working capital, and research and development. During the two-year period of 1996 and 1997, the Company expects to spend approximately $750 million to construct new facilities and add production equipment at its new and existing facilities. Assuming a continued strong operating performance, the Company expects to fund its 1996 capital expenditures through a combination of cash flow from operations, its cash balances, and funds available from its unutilized $140 million credit facilities. However, new debt or equity financing will likely be required to fund a portion of capital expenditures in 1997. If the Company is unable to obtain sufficient capital it could be required to reduce its capital equipment and research and development expenditures which could have a material adverse effect on the Company's results of operations. 27 28 ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS KOMAG, INCORPORATED INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page Report of Ernst & Young LLP, Independent Auditors 29 Consolidated Statements of Operations 1995, 1994 and 1993 30 Consolidated Balance Sheets, 1995 and 1994 31-32 Consolidated Statements of Cash Flows 1995, 1994 and 1993 33-34 Consolidated Statements of Stockholders' Equity, 1995, 1994 and 1993 35 Notes to Consolidated Financial Statements 36-47
28 29 REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders Komag, Incorporated We have audited the accompanying consolidated balance sheets of Komag, Incorporated as of December 31, 1995 and January 1, 1995, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1995. Our audits also included the financial statement schedule listed in the Index at Item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We did not audit the financial statements of Asahi Komag Co., Ltd. (a corporation in which the Company has a 50% interest) as of December 31, 1995 and January 1, 1995, and for each of the three years in the period ended December 31, 1995. Those financial statements were audited by other auditors whose reports have been furnished to us, and our opinion, insofar as it relates to data included for Asahi Komag Co., Ltd. as of December 31, 1995 and January 1, 1995, and for each of the three years in the period ended December 31, 1995, is based solely on the report of the other auditors. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits and the report of other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of other auditors, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Komag, Incorporated at December 31, 1995 and January 1, 1995, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1995, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. ERNST & YOUNG LLP San Jose, California January 17, 1996 29 30 KOMAG, INCORPORATED CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Fiscal Year Ended --------------------------------- 1995 1994 1993 -------- -------- -------- Net sales (see Note 13) $512,248 $392,391 $385,375 Cost of sales (see Notes 12 and 13) 314,762 267,005 293,936 -------- -------- -------- Gross profit 197,486 125,386 91,439 Operating expenses: Research, development and engineering 23,804 21,340 29,641 Selling, general and administrative 44,598 27,101 28,165 Restructuring charge -- -- 38,956 -------- -------- -------- 68,402 48,441 96,762 -------- -------- -------- Operating income (loss) 129,084 76,945 (5,323) Other income (expense): Interest income 5,802 3,306 2,915 Interest expense (1,856) (2,933) (5,510) Other, net 2,189 48 605 -------- -------- -------- 6,135 421 (1,990) -------- -------- -------- Income (loss) before income taxes, minority interests and equity in joint venture income 135,219 77,366 (7,313) Provision for income taxes 33,809 23,210 26,425 -------- -------- -------- Income (loss) before minority interests and equity in joint venture income 101,410 54,156 (33,738) Minority interests in net income (loss) of consolidated subsidiaries 1,957 1,091 (18,977) Equity in net income of unconsolidated joint venture 7,362 5,457 4,860 -------- -------- -------- Net income (loss) $106,815 $58,522 $(9,901) ======== ======== ======== Net income (loss) per share $2.14 $1.27 $(0.23) ======== ======== ======== Number of shares used in per share computation 49,905 45,994 42,744 ======== ======== ========
See notes to consolidated financial statements. 30 31 KOMAG, INCORPORATED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Fiscal Year End ------------------------- 1995 1994 -------- -------- ASSETS Current Assets Cash and cash equivalents $14,879 $22,664 Short-term investments 198,799 71,284 Accounts receivable, less allowances of $4,279 in 1995 and $2,223 in 1994 61,660 44,564 Accounts receivable from related parties 5,034 214 Inventories: Raw materials 20,213 15,030 Work-in-process 7,431 5,652 Finished goods 1,377 3,419 -------- -------- Total inventories 29,021 24,101 Prepaid expenses and deposits 5,196 1,611 Deferred income taxes 8,569 7,069 -------- -------- Total current assets 323,158 171,507 Investment in Unconsolidated Joint Venture 30,143 22,653 Property, Plant and Equipment Land 5,268 4,360 Building 38,357 33,322 Leasehold improvements 51,088 45,633 Furniture 6,118 4,711 Equipment 443,011 294,626 -------- -------- 543,842 382,652 Less allowances for depreciation and amortization (214,668) (153,769) -------- -------- Net property, plant and equipment 329,174 228,883 Deposits and Other Assets 3,840 1,052 -------- -------- $686,315 $424,095 ======== ========
31 32
Fiscal Year End ---------------------- 1995 1994 -------- -------- LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Trade accounts payable $28,717 $17,842 Accounts payable to related parties 7,761 2,354 Accrued compensation and benefits 31,966 17,913 Other liabilities 2,096 1,665 Income taxes payable 400 271 Current portion of long-term debt -- 13,232 -------- -------- Total current liabilities 70,940 53,277 Long-term Debt, Less Current Portion -- 16,250 Deferred Income Taxes 37,643 18,725 Other Long-term Liabilities 474 548 Minority Interest in Consolidated Subsidiary 2,694 4,080 Commitments Stockholders' Equity Preferred Stock, $0.01 par value per share: Authorized--1,000 shares in 1995 and 1994 No shares issued and outstanding -- -- Common Stock, $0.01 par value per share: Authorized--85,000 shares in 1995 and 35,000 in 1994 Issued and outstanding--50,714 shares in 1995 and 45,803 shares in 1994 507 458 Additional paid-in capital 374,399 238,033 Retained earnings 193,605 86,790 Accumulated translation adjustment 6,053 5,934 -------- -------- Total stockholders' equity 574,564 331,215 -------- -------- $686,315 $424,095 ======== ========
See notes to consolidated financial statements. 32 33 KOMAG, INCORPORATED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
Fiscal Year Ended -------------------------------------- 1995 1994 1993 -------- -------- -------- OPERATING ACTIVITIES Net cash provided by operating activities-- see detail on following page $188,792 $97,517 $40,752 INVESTING ACTIVITIES Acquisition of property, plant and equipment (166,450) (102,435) (86,249) Purchase of subsidiary shares from minority interest holder (6,750) -- -- Purchases of short-term investments (177,993) (86,402) (80,900) Proceeds from short-term investments 50,478 90,518 86,200 Proceeds from disposal of equipment 916 12,072 416 Deposits and other assets 113 983 (72) -------- -------- ------- Net cash used in investing activities (299,686) (85,264) (80,605) FINANCING ACTIVITIES Increase in notes payable -- 1,500 19,000 Payments of notes payable -- (4,500) -- Increase in long-term obligations -- -- 20,000 Payments of long-term obligations (29,482) (14,505) (9,488) Sale of Common Stock, net of issuance costs 132,871 12,037 6,826 Minority interest investment in consolidated subsidiary -- -- 11,031 Distribution to minority interest holder (280) (280) -- -------- -------- ------- Net cash provided by (used in) financing activities 103,109 (5,748) 47,369 -------- -------- ------- Increase (decrease) in cash and cash equivalents (7,785) 6,505 7,516 Cash and cash equivalents at beginning of year 22,664 16,159 8,643 -------- -------- ------- Cash and cash equivalents at end of year $14,879 $22,664 $16,159 -------- -------- -------
33 34
Fiscal Year Ended --------------------------------- 1995 1994 1993 -------- -------- ------- Net income (loss) $106,815 $58,522 $(9,901) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization 65,483 47,591 49,025 Provision for losses on accounts receivable 1,519 (195) (191) Undistributed earnings of unconsolidated joint venture (7,362) (5,457) (4,860) Loss on disposal of equipment 508 1,156 757 Restructuring charge -- -- 38,956 Deferred income taxes 17,418 8,709 2,030 Deferred rent (74) (7) (43) Minority interests in net income (loss) of consolidated subsidiaries 1,957 1,091 (18,977) Changes in operating assets and liabilities: Accounts receivable (18,615) (1,649) (7,284) Accounts receivable from related parties (4,820) 73 (175) Inventories (4,920) 6,981 (10,885) Prepaid expenses and deposits (2,811) 1,419 (4) Trade accounts payable 10,875 (4,923) 2,404 Accounts payable to related parties 5,407 (1,072) (3,828) Accrued compensation and benefits 14,053 1,344 1,959 Other liabilities 431 (809) 1,817 Income taxes payable 2,928 630 (48) Restructuring liability -- (15,887) -- --------- ------- ------- Net cash provided by operating activities $188,792 $97,517 $40,752 ======== ======== ======= Supplemental disclosure of cash flow information Cash paid for interest $2,204 $2,892 $3,865 Cash paid for income taxes 13,463 12,937 24,310 Income tax benefit from stock options exercised 3,582 2,851 1,703
See notes to consolidated financial statements. 34 35 KOMAG, INCORPORATED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (IN THOUSANDS)
Common Stock Additional Accumulated --------------- Paid-in Note Retained Translation Shares Amount Capital Receivable Earnings Adjustment ------ ------ ---------- ---------- -------- ----------- BALANCE AT JANUARY 3, 1993 42,162 $422 $219,175 $(11,031) $38,169 $2,003 Collection of note receivable (4,412) 11,031 Common Stock issued under stock option and purchase plans, including related tax benefits 1,370 14 8,404 Net loss (9,901) Accumulated translation adjustment 1,457 ------ ---- -------- -------- -------- ------ BALANCE AT JANUARY 2, 1994 43,532 436 223,167 -- 28,268 3,460 Common Stock issued under stock option and purchase plans, including related tax benefits 2,268 22 14,865 Common Stock issued upon exercise of stock warrants 3 1 Net income 58,522 Accumulated translation adjustment 2,474 ------ ---- -------- -------- -------- ------ BALANCE AT JANUARY 1, 1995 45,803 458 238,033 -- 86,790 5,934 Common Stock issued under stock option and purchase plans, including related tax benefits 1,411 14 14,298 Sale of Common Stock, net of issuance costs 3,500 35 122,068 Net income 106,815 Accumulated translation adjustment 119 ------ ---- -------- -------- -------- ------ BALANCE AT DECEMBER 31, 1995 50,714 $507 $374,399 $ -- $193,605 $6,053 ====== ==== ======== ======== ======== ======
See notes to consolidated financial statements. 35 36 KOMAG, INCORPORATED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Consolidation: The consolidated financial statements include the accounts of the Company, its wholly-owned and majority-owned subsidiaries (see Notes 11 and 12) and equity in its unconsolidated joint venture (see Note 13). All significant intercompany accounts and transactions have been eliminated in consolidation. Foreign Currency Translation: The functional currency of the Company's unconsolidated joint venture is the Japanese yen. Translation adjustments relating to the translation of these statements are included as a separate component of stockholders' equity and not included in net income. The functional currency for the Company's Malaysian operation is the U.S. dollar. Remeasurement gains and losses, resulting from the process of remeasuring these foreign currency financial statements into U.S. dollars, are included in operations. Foreign Exchange Gains and Losses: The Company enters into foreign currency forward exchange contracts to reduce the impact of currency fluctuations on firm purchase order commitments for equipment and construction-in-process. Gains and losses related to these contracts are included in the cost of the assets acquired. The Company had approximately $17,125,000 in foreign exchange contracts outstanding at December 31, 1995. The fair market value of these foreign exchange contracts was not materially different from the contract value at December 31, 1995. There were no foreign exchange contracts outstanding at January 1, 1995. The Company had approximately $358,000 and $9,000,000 of unhedged Japanese yen based firm purchase commitments at December 31, 1995 and January 1, 1995, respectively. Cash Equivalents: The Company considers as a cash equivalent any highly liquid investment that matures within three months of its purchase date. Short-Term Investments: The Company invests its excess cash in high-quality, short-term debt instruments. Short-term investments consist primarily of AAA-rated, municipal auction rate preferred stock. None of the Company's debt security investments have maturities greater than one year. At December 31, 1995 all short-term investments are designated as available for sale. Interest and dividends on the investments are included in interest income. The following is a summary of the Company's investments by major security type at amortized cost, which approximates fair value:
DEC 31 Jan 1 (in thousands) 1995 1995 -------- -------- Municipal auction rate preferred stock $198,636 $ 70,765 Corporate debt securities 3,062 2,417 Mortgage-backed securities 19,462 10,677 -------- -------- $221,160 $ 83,859 ======== ======== Amounts included in cash and cash equivalents $ 22,361 $ 12,575 Amounts included in short term investments 198,799 71,284 -------- -------- $221,160 $ 83,859 ======== ========
36 37 There were no realized gains or losses on the Company's investments during 1995 as all investments were held to maturity during the year. The Company utilizes zero-balance accounts and other cash management tools to invest all available funds including bank balances in excess of book balances. Inventories: Inventories are stated at the lower of cost (first-in, first-out method) or market. Property, Plant and Equipment: Property, plant and equipment, except construction-in-process, are stated at cost less accumulated depreciation and amortization. Depreciation is computed by the straight-line method over the estimated useful lives of the assets. The estimated useful life of the Company's buildings is 30 years. Furniture and equipment are generally depreciated over 3 to 5 years and leasehold improvements are amortized over the shorter of the lease term or the useful life. Revenue Recognition: The Company records sales upon shipment and provides an allowance for estimated returns of defective products. Research and Development: Research and development costs are expensed as incurred. Income Taxes: The provision for income taxes is based on pretax financial accounting income. Deferred tax assets and liabilities are recognized for the expected tax consequences of temporary differences between the tax and book basis of assets and liabilities. Income (Loss) Per Share: Income per share has been computed using the weighted average number of shares of Common Stock and dilutive common stock equivalents outstanding during the period. Common stock equivalents include shares issuable upon the assumed exercise of options reflected under the treasury stock method. Loss per share has been computed using the weighted average number of shares of Common Stock outstanding during the period. Reclassifications: Certain reclassifications have been made to the 1994 Consolidated Balance Sheet, the 1994 and 1993 Statements of Cash Flows, and the related notes to conform to the current year's presentation. Fiscal Year: The Company uses a 52-53 week fiscal year ending on the Sunday closest to December 31. The years ended December 31, 1995, January 1, 1995 and January 2, 1994 were each comprised of 52 weeks. Stock Split: The Company effected a two-for-one stock split of its outstanding Common Stock effective December 21, 1995. Earnings per share and share amounts for all periods in the consolidated financial statements have been restated to reflect the split. 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 amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. NOTE 2. SEGMENT AND GEOGRAPHIC INFORMATION The Company operates in one business segment which is the development, production and marketing of high-performance thin-film media for use in hard disk drives. The Company sells to original equipment manufacturers in the rigid disk drive market and computer system manufacturers that produce their own disk drives. 37 38 Summary information for the Company's operations by geographic location is as follows:
1995 1994 1993 --------- --------- --------- (in thousands) Net sales To customers from U.S. operations $ 344,218 $ 315,540 $ 369,683 To customers from Far East operations 168,030 76,851 15,692 Intercompany from Far East operations 25,123 16,881 25,806 Intercompany from U.S. operations 6,683 -- -- --------- --------- --------- 544,054 409,272 411,181 Eliminations (31,806) (16,881) (25,806) --------- --------- --------- Total net sales $ 512,248 $ 392,391 $ 385,375 ========= ========= ========= Operating income (loss) U.S. operations $ 55,696 $ 48,265 $ 7,460 Far East operations 67,559 25,080 (13,458) --------- --------- --------- 123,255 73,345 (5,998) Eliminations 5,829 3,600 675 --------- --------- --------- Total operating income (loss) $ 129,084 $ 76,945 $ (5,323) ========= ========= ========= Identifiable assets U.S. operations $ 573,006 $ 387,907 $ 342,192 Far East operations 201,915 124,048 89,354 --------- --------- --------- 774,921 511,955 431,546 Eliminations (88,606) (87,860) (49,249) --------- --------- --------- Total identifiable assets $ 686,315 $ 424,095 $ 382,297 ========= ========= =========
Export sales by domestic operations included the following:
Fiscal Year Ended ----------------------------------- 1995 1994 1993 --------- --------- --------- (in thousands) Far East (see Note 13) $ 151,000 $ 133,574 $ 180,844 Europe -- 1,258 20,950
38 39 NOTE 3. CONCENTRATION OF CUSTOMER AND SUPPLIER RISK The Company performs ongoing credit evaluations of its customers' financial conditions and generally requires no collateral. Significant customers accounted for the following percentages of net sales in 1995, 1994 and 1993:
Fiscal Year Ended ------------------------------------------- 1995 1994 1993 ------------ ------------ ------------ Seagate Technology, Inc. 42% 40% 24% Quantum Corporation 23% 23% 15% Hewlett-Packard Company 15% 21% 21% Western Digital Corporation 12% 12% less than 10% Conner Peripherals, Inc. less than 10% less than 10% 11%
In February 1996, Seagate and Conner merged. Net sales to Seagate and Conner on a combined basis were 44%, 40% and 35% in 1995, 1994 and 1993, respectively. In addition, Quantum recently announced that it would cease disk drive production in Milpitas, California and Penang, Malaysia and contract with its Japanese manufacturing partner, Matsushita-Kotobuki Electronics Industries, Ltd. ("MKE") to manufacture its drives. Asahi Komag Co. Ltd. ("AKCL"), the Company's Japanese joint venture, has an established working relationship with MKE and MKE has remained AKCL's largest customer for the past several years. The Company's Malaysian subsidiary recently began shipments to MKE's new Singapore manufacturing facility. However, there can be no assurance that MKE will purchase from either the Company or AKCL the unit quantities of product which the Company previously supplied to Quantum in the U.S. and Malaysia. Kobe Steel, Ltd. ("Kobe") supplies aluminum substrate blanks to Komag Material Technology, Inc. ("KMT"), and the Company in turn purchases KMT's entire output of finished substrates. The Company also purchases substantial quantities of finished substrates from Kobe in addition to the substrates purchased from KMT. In combination, KMT and Kobe supply in excess of 85% of the Company's substrate requirements. The Company also relies on a limited number of other suppliers, in some cases a sole supplier, for certain other materials used in its manufacturing processes. These materials include nickel plating solutions, sputtering target materials and certain polishing and texturing supplies. These suppliers work closely with the Company to optimize the Company's production processes. Although this reliance on a limited number of suppliers, or sole supplier, entails some risk that the Company's production capacity would be limited if one or more of such materials were to become unavailable or available in reduced quantities, the Company believes that the advantages of working closely with these suppliers outweigh such risks. If such materials should be unavailable for a significant period of time, the Company's results of operations would be adversely affected. NOTE 4. STOCKHOLDERS' EQUITY In 1995, the Company raised $122,100,000 from the sale of 3,500,000 shares of Common Stock in a follow-on public stock offering. In December 1995, the stockholders approved an increase in the number of shares of Common Stock authorized for issuance to 85,000,000. 39 40 NOTE 5. STOCK OPTION PLANS AND STOCK PURCHASE PLAN Under the Company's stock option plans ("Plans"), options to purchase up to 12,760,000 shares of Common Stock may be granted to key employees and directors. The Plans provide for issuing both incentive stock options, which must be granted at fair market value at the date of grant, and non-qualified stock options, which may be granted at not less than 85% of fair market value at the date of grant. Outstanding options generally vest over four years and expire no later than ten years from the date of grant. Options may be exercised in exchange for cash or outstanding shares of the Company's Common Stock. Approximately 17,000 and 11,000 shares of the Company's Common Stock were received in exchange for option exercises in 1995 and 1994, respectively. No such exchange occurred in 1993. At December 31, 1995 approximately 543,000 options were available for grant and 5,571,000 shares of Common Stock were reserved for future issuance under these Plans. At December 31, 1995 and January 1, 1995 approximately 1,487,000 and 1,283,000, respectively, of the outstanding options were exercisable. Under an option plan for employees of Dastek, Inc. ("Dastek"), a former joint venture of the Company (see Note 11), options to purchase 2,000,000 shares of the Company's Common Stock were authorized and reserved for issuance. At December 31, 1995, 560,000 options had been exercised and no options were exercisable or outstanding under the Dastek plan. No additional options will be granted under the Dastek plan due to the cessation of Dastek's operations. A summary of stock option transactions is as follows:
Shares Exercise Price Total ------ --------------- -------- (in thousands, except per share amounts) Outstanding at January 3, 1993 5,671 $ 0.49 - $10.88 $ 35,770 Granted 1,883 7.75 - 12.00 18,701 Exercised (842) 0.49 - 9.25 (3,787) Cancelled (330) 0.49 - 10.88 (2,490) ------ --------------- -------- Outstanding at January 2, 1994 6,382 0.49 - 12.00 48,194 Granted 1,382 7.88 - 13.38 12,551 Exercised (1,811) 0.49 - 12.00 (9,850) Cancelled (1,254) 2.17 - 12.00 (10,728) ------ --------------- -------- Outstanding at January 1, 1995 4,699 2.90 - 13.38 40,167 Granted 1,479 11.63 - 35.94 24,528 Exercised (997) 2.90 - 12.94 (7,174) Cancelled (153) 2.90 - 25.63 (1,567) ------ --------------- -------- Outstanding at December 31, 1995 5,028 $3.13 - $ 35.94 $ 55,954 ====== =============== ========
In January 1996 the Company's Board of Directors approved an increase of 3,000,000 in the total number of shares of Common Stock that may be issued under the Komag Stock Option Plan. The increase is subject to stockholder approval. Under the terms of the Employee Stock Purchase Plan, employees may elect to contribute up to 10% of their compensation toward the purchase of shares of the Company's Common Stock. The purchase price 40 41 per share will be the lesser of 85% of the fair market value of the stock on the first day of enrollment in a twenty-four month offering period or the last day of each semi-annual period within the twenty-four month offering period. The total number of shares of stock that may be issued under the Plan cannot exceed 2,800,000 shares. Shares issued under this plan approximated 431,000, 469,000 and 528,000 in 1995, 1994 and 1993, respectively. At December 31, 1995 approximately 398,000 shares of Common Stock were reserved for future issuance under this Plan. Beginning January 1, 1996, the Company will be required to adopt Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("FAS 123"). The Company plans to adopt only the disclosure requirements of the Statement and, as such, the adoption of FAS 123 will have no impact on the Company's financial position or results of operations. NOTE 6. BONUS AND PROFIT SHARING PLANS The Company and its subsidiaries maintain various cash profit sharing plans. Under the terms of the cash profit sharing plans, a percentage of semi-annual operating profit, as defined in the plans, is allocated among all employees who meet certain criteria. Under the terms of the Company's bonus plans, various percentages of an operating unit's annual operating profit, as defined in the respective bonus plans, is paid to eligible employees. The Company expensed $19,990,000, $9,083,000 and $8,084,000 under these bonus and cash profit sharing plans in 1995, 1994 and 1993, respectively. The Company and its subsidiaries maintain savings and deferred profit sharing plans. Employees who meet certain criteria are eligible to participate. In addition to voluntary employee contributions to these plans, the Company contributes four percent of semi-annual consolidated operating profit, as defined in the plans. These contributions are allocated to all eligible employees. Furthermore, the Company matches a portion of the employee's contributions to the plans up to a maximum amount. The Company contributed $6,653,000, $4,081,000 and $2,207,000 to the plans in 1995, 1994 and 1993, respectively. Expenses for the Company's bonus and profit sharing plans are included in selling, general and administrative expenses. 41 42 NOTE 7. INCOME TAXES The provision for income taxes consists of the following:
Fiscal Year Ended ----------------------------------------- 1995 1994 1993 -------- -------- -------- (in thousands) Federal: Current $ 16,496 $ 13,482 $ 22,863 Deferred 14,830 4,437 (4,515) -------- -------- -------- 31,326 17,919 18,348 State: Current (1,284) 264 1,339 Deferred 2,588 4,272 6,580 -------- -------- -------- 1,304 4,536 7,919 Foreign: Current 1,179 755 158 -------- -------- -------- $ 33,809 $ 23,210 $ 26,425 ======== ======== ========
The foreign provision above consists of withholding taxes on royalty and interest payments and foreign taxes of subsidiaries. Deferred tax assets (liabilities) are comprised of the following:
Fiscal Year End ------------------------ 1995 1994 -------- -------- (in thousands) Depreciation $ (7,284) $ (8,384) State income taxes (7,295) (5,016) Deferred income (13,588) (1,323) Other (9,476) (4,002) -------- -------- Gross deferred tax liabilities (37,643) (18,725) -------- -------- Inventory valuation adjustments 1,578 1,675 Accrued compensation and benefits 2,270 2,466 State income taxes 901 1,636 Other 3,820 1,292 Tax benefit of net operating losses 34,789 33,600 -------- -------- Gross deferred tax assets 43,358 40,669 -------- -------- Deferred tax asset valuation allowance (34,789) (33,600) -------- -------- $(29,074) $(11,656) ======== ========
As of December 31, 1995 a 60%-owned subsidiary of the Company, Dastek Holding Company, has a federal tax net operating loss carryforward of approximately $99,000,000. The Company has fully reserved for the potential future federal tax benefit of this net operating loss in the deferred tax asset 42 43 valuation allowance due to the fact that its utilization is limited to the subsidiary's separately computed future taxable income and that the subsidiary has no history of operating profits. The deferred tax asset valuation allowance increased $1,189,000, $7,308,000 and $11,719,000 in fiscal years 1995, 1994 and 1993, respectively. The $99,000,000 net loss expires at various dates through 2010. A reconciliation of the income tax provision at the 35% federal statutory rate to the income tax provision at the effective tax rate is as follows:
Fiscal Year Ended -------------------------------- 1995 1994 1993 -------- -------- -------- (in thousands) Income taxes computed at federal statutory rate $ 47,327 $ 27,078 $ (2,560) State and foreign income taxes, net of federal tax benefit 868 2,961 5,290 Tax-exempt interest income (1,434) (827) (723) Permanently reinvested foreign earnings (12,634) (6,473) -- Domestic losses unavailable for offset in consolidated return or carryback -- -- 21,141 Certain foreign losses not currently utilized -- -- 5,429 Write-off of investments in subsidiaries -- -- (2,295) Other (318) 471 143 -------- -------- -------- $ 33,809 $ 23,210 $ 26,425 ======== ======== ========
Foreign pretax income (loss) was $65,903,000, $23,882,000 and ($15,511,000) in 1995, 1994 and 1993, respectively. Komag USA (Malaysia) Sdn., the Company's wholly-owned thin-film media operation in Malaysia, has been granted a tax holiday for a period of five years commencing in July 1993. Assuming the Company fulfills certain commitments under its license to operate within Malaysia, this tax holiday may be extended for an additional five-year period by the Malaysian government. The impact of this tax holiday was to increase net income by approximately $11,500,000 ($0.23 per share) and $6,400,000 ($0.14 per share) in 1995 and 1994, respectively. Losses incurred prior to the commencement of the tax holiday, approximately $6,237,000, are available for carryforward to years following the expiration of the tax holiday. The Company has generated $76,800,000 of earnings for which no U.S. tax has been provided. These earnings are considered to be permanently invested outside the United States. NOTE 8. TERM DEBT AND LINE OF CREDIT The Company had no long-term debt outstanding at December 31, 1995. Notes payable, primarily to banks, totaled approximately $29,482,000 at January 1, 1995. The notes bore interest at various LIBOR and Eurodollar rates plus 1.375%. The Company used $19,800,000 of the proceeds from its September 1995 public offering to repay its remaining notes payable. The Company's credit facilities total $140,000,000 and are comprised of three four-year term line of credit agreements. These agreements each expire in December 1999 but may be extended, subject to bank approvals, annually for an additional year, thus perpetuating their four-year terms. The entire $140,000,000 under these unsecured credit facilities remains available. 43 44 The Company's credit facilities require maintenance of certain financial ratios and compliance with covenants that limit the amount of dividend payments without the lenders' consents. NOTE 9. FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying values of cash and short-term investments, accounts receivable and certain other liabilities on the Consolidated Balance Sheets approximate fair value at December 31, 1995 and January 1, 1995 due to the relatively short period to maturity of the instruments. NOTE 10. LEASES AND COMMITMENTS The Company leases most of its production facilities under operating leases that expire at various dates between 1996 and 2006. Certain of these leases include renewal options varying from five to ten years. At December 31, 1995 the future minimum commitments for all non-cancellable operating leases are as follows (in thousands): 1996 $ 4,809 1997 5,495 1998 5,378 1999 4,564 2000 3,692 Thereafter 12,241 ------- Total minimum lease payments $36,179 =======
Rental expense for all operating leases amounted to $4,212,000, $4,319,000 and $5,471,000 in 1995, 1994 and 1993, respectively. The Company has current non-cancellable capital commitments of approximately $165,037,000. NOTE 11. DASTEK HOLDING COMPANY In December 1991 the Company completed a merger with Dastek, Inc. ("Dastek"), a manufacturer of thin-film magnetic recording heads for use in hard disk drives. In February 1992 the Company formed a joint venture to produce and market thin-film magnetic recording heads with Asahi Glass America, Inc. ("Asahi America"), a U.S. subsidiary of Asahi Glass Co., Ltd. of Japan. Under the joint venture agreement, the Company contributed to the joint venture both the stock of Dastek and the assets of its existing thin-film head development program. Asahi America in turn contributed to the joint venture nearly $60,000,000 in cash and notes. The notes were paid to the joint venture in 1992 and 1993. Based on these contributions, the Company and Asahi America obtained interests in the joint venture of 60% and 40%, respectively. During 1993 the Company and a subsidiary of Asahi America loaned the Dastek joint venture an additional $24,000,000 and $16,000,000, respectively. These loans were revalued to their estimated settlement amounts in late 1993 as a result of the restructuring of the thin-film head operations. In December 1993 the Company recorded a one-time charge of $38,956,000 as a result of Dastek's decision to exit the inductive thin-film head business. The net impact of the restructuring charge, after related minority interest and income tax adjustments, was $35,389,000 44 45 ($0.83 loss per share for the year ended January 2, 1994). Approximately one-half of the restructuring charge related to the reduction of assets and liabilities to net realizable value. The remaining portion provided for estimated operating losses to be incurred during the completion of existing customer orders and the wind down of Dastek's operations. Dastek ceased its inductive thin-film head operations, sold its equipment at various public auctions, settled with its creditors and was legally dissolved prior to the end of 1994. Based upon the results of these actual shutdown activities, no significant adjustment was required to the aggregate restructuring charge recorded in 1993. Actual operating losses incurred in 1994 were approximately one-third higher than estimated in the 1993 restructuring charge. However, net losses from the sale of Dastek's assets and the settlement of its liabilities were lower by a comparable amount. NOTE 12. KOMAG MATERIAL TECHNOLOGY, INC. The Company's financial statements include the consolidation of the financial results of Komag Material Technology, Inc. ("KMT"), which manufactures and sells aluminum disk substrate products for high-performance magnetic storage media. KMT was owned 55% by the Company and 45% by Kobe Steel USA Holdings Inc. ("Kobe USA"), a U.S. subsidiary of Kobe Steel, Ltd. ("Kobe") from November 1988 to December 1995. On December 28, 1995 the Company increased its ownership of KMT to 80% through the purchase of KMT Common Stock directly from Kobe USA for $6,750,000. Kobe USA retained a 20% minority interest investment in KMT. Other transactions between Kobe or its distributors and the Company were as follows:
Fiscal Year Ended -------------------------------- 1995 1994 1993 -------- -------- -------- (in thousands) Accounts payable to Kobe or its distributors: Balance at beginning of year $ 2,234 $ 2,728 $ 2,636 Purchases 34,478 34,657 33,098 Payments (33,410) (35,151) (33,006) -------- -------- -------- Balance at end of year $ 3,302 $ 2,234 $ 2,728 ======== ======== ========
NOTE 13. UNCONSOLIDATED JOINT VENTURE In 1987 the Company formed a partnership, Komag Technology Partners ("Partnership"), with the U.S. subsidiaries of two Japanese companies and simultaneously formed a subsidiary, Asahi Komag Co., Ltd. ("AKCL"). The Company contributed technology in exchange for a 50% interest in the Partnership, and the subsidiaries of the Japanese companies contributed approximately 1.5 billion yen (approximately $11 million) in exchange for a 50% interest in the Partnership. The Partnership then contributed all the cash and licensed the technology to AKCL in exchange for all of its stock and a limited royalty of 5% of product produced and sold by AKCL. The Partnership and its subsidiary (joint venture) established a facility in Japan to manufacture and sell the Company's thin-film media products in Japan. AKCL also sells its products to the Company for resale outside of Japan. The Company's share of the joint venture's net income was $7,362,000, $5,457,000 and $4,860,000 in 1995, 1994 and 1993, respectively. Royalty income ceased in 1992 upon reaching its contractual limit. 45 46 Other transactions between the joint venture and the Company were as follows:
Fiscal Year Ended ---------------------------------- 1995 1994 1993 -------- -------- -------- (in thousands) Accounts receivable from joint venture: Balance at beginning of year $ 96 $ 227 $ 92 Sales 21,224 1,375 990 Cash receipts (16,414) (1,506) (855) -------- -------- -------- Balance at end of year $ 4,906 $ 96 $ 227 -------- -------- -------- Accounts payable to joint venture: Balance at beginning of year $ 46 $ 592 $ 4,572 Purchases 5,460 9,752 16,259 Payments (5,151) (10,298) (20,239) -------- -------- -------- Balance at end of year $ 355 $ 46 $ 592 ======== ======== ========
Equipment purchases by the Company from its joint venture partners were $18,195,000, $11,571,000 and $4,998,000 in 1995, 1994 and 1993, respectively. Summary combined financial information for the Partnership and AKCL for the years ended December 31, 1995, 1994 and 1993, and as of December 31, 1995 and 1994 is as follows. The subsidiary's total assets, liabilities, revenues, costs and expenses approximate 100% of the combined totals.
Fiscal Year Ended ------------------------------------ 1995 1994 1993 -------- -------- -------- (in thousands) Summarized Income Statements: Net sales $173,177 $131,335 $119,447 Costs and expenses 143,766 109,674 99,596 Provision for income taxes 14,687 10,626 10,094 -------- -------- -------- Net Income $ 14,724 $ 11,035 $ 9,757 ======== ======== ========
Fiscal Year End ---------------------- 1995 1994 -------- -------- (in thousands) Summarized Balance Sheets: Current assets $ 52,302 $ 32,328 Noncurrent assets 99,765 76,124 -------- -------- Total Assets $152,067 $108,452 ======== ======== Current liabilities $ 71,811 $ 39,677 Long-term obligations 10,412 14,079 Partners' capital 69,844 54,696 -------- -------- Total Liabilities and Partners' Capital $152,067 $108,452 ======== ========
46 47 NOTE 14. PARTICIPATION IN HEADWAY TECHNOLOGIES, INC. The Company has a voting interest in Headway Technologies, Inc. ("Headway"). Headway was formed in 1994 to research, develop and manufacture advanced magnetoresistive ("MR") heads for the data storage industry. Hewlett-Packard Company ("HP") and AKCL (see Note 13) provided the initial cash funding to Headway in exchange for equity interests. The Company and Asahi America licensed to Headway MR technology developed by Dastek and contributed certain research and production equipment in exchange for equity. As a result of these transactions the Company holds a direct voting interest in Headway of less than 20%. The Company has no cost basis in its investment in Headway. Consequently, operating results at Headway do not directly affect the Company's earnings. The Company has not guaranteed any obligation of Headway and is not otherwise committed to provide financial support to Headway. AKCL invested in Headway in 1994 and has been recording partial writedowns of its investment based upon net losses incurred at Headway. AKCL's net income reflected writedowns, net of tax, of $2,200,000 and $500,000 in 1995 and 1994, respectively. To the extent that such losses continue, AKCL will record a portion of those losses. Alternatively, AKCL will record a portion of Headway's net income, if any, to the extent of previously recognized losses. NOTE 15. QUARTERLY SUMMARIES (in thousands except per share amounts, unaudited)
1995 -------------------------------------------------------- 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter ----------- ----------- ----------- ----------- Net sales $105,063 $120,807 $132,835 $153,543 Gross profit 32,767 46,020 53,322 65,377 Net income 14,880 23,361 30,399 38,175 Net income per share $ 0.31 $ 0.48 $ 0.61 $ 0.72
1994 -------------------------------------------------------- 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter ----------- ----------- ----------- ----------- Net sales $97,701 $97,774 $98,172 $98,744 Gross profit 32,888 29,897 31,570 31,031 Net income 15,444 13,954 15,015 14,109 Net income per share $ 0.34 $ 0.31 $ 0.33 $ 0.30
47 48 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL DISCLOSURE. Not Applicable. PART III ITEMS 10, 11, 12 AND 13. Items 10 through 13 of Part III will be contained in the Komag, Incorporated Proxy Statement For the Annual Meeting of Stockholders to be held May 14, 1996 (the "1996 Proxy Statement") which will be filed with the Securities and Exchange Commission no later than April 29, 1996. The cross reference table below sets forth the captions under which the responses to these items are found:
10-K Item Description Caption in 1996 Proxy Statement - --------- ----------- ------------------------------- 10 Directors and Executive Officers "Item No. 1--Election of Directors: Nominees; Business Experience of Directors and Nominees" and "Additional Information: Certain Relationships and Related Transactions; Other Matters" 11 Executive Compensation "Additional Information: Executive Compensation and Related Information" 12 Security Ownership of Certain Beneficial "Additional Information: Principal Owners and Management Stockholders" 13 Certain Relationships and Related "Additional Information: Certain Transactions Relationships and Related Transactions"
The information set forth under the captions listed above, contained in the 1996 Proxy Statement, are hereby incorporated herein by reference in response to Items 10 through 13 of this Report on Form 10-K. 48 49 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (A) LIST OF DOCUMENTS FILED AS PART OF THIS REPORT. 1. FINANCIAL STATEMENTS. The following consolidated financial statements of Komag, Incorporated are filed in Part II, Item 8 of this Report on Form 10-K: Consolidated Statements of Operations--Fiscal Years 1995, 1994 and 1993 Consolidated Balance Sheets--December 31, 1995 and January 1, 1995 Consolidated Statements of Cash Flows--Fiscal Years 1995, 1994 and 1993 Consolidated Statements of Stockholders' Equity--Fiscal Years 1995, 1994 and 1993 Notes to Consolidated Financial Statements 2. FINANCIAL STATEMENT SCHEDULES. The following financial statement schedule of Komag, Incorporated is filed in Part IV, Item 14(d) of this report on Form 10-K: Schedule II-Valuation and Qualifying Accounts Report of Other Auditor --Report of Chuo Audit Corporation on Asahi Komag Co., Ltd. All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted. 49 50 3. EXHIBITS. 3.1 Amended and Restated Certificate of Incorporation. 3.2 Bylaws (incorporated by reference from Exhibit 3.3 filed with the Company's Report on Form 10-K for the year ended December 30, 1990). 4.2 Specimen Stock Certificate (incorporated by reference from a similarly numbered exhibit filed with Amendment No. 1 to the Registration Statement). 10.1.1 Lease Agreement dated May 24, 1991 between Milpitas-Hillview and Komag, Incorporated (incorporated by reference from Exhibit 10.1.2 filed with the Company's report on Form 10-K for the year ended December 29, 1991). 10.1.2 Lease Agreement dated May 24, 1991, between Milpitas-Hillview II and Komag, Incorporated (incorporated by reference from Exhibit 10.1.3 filed with the Company's report on Form 10-K for the year ended December 29, 1991). 10.1.3 Lease Agreement dated July 29, 1988 by and between Brokaw Interests and Komag Corporation (incorporated by reference from Exhibit 10.1.6 filed with the Company's Report on Form 10-K for the year ended January 1, 1989). 10.1.4 Lease Agreement dated May 2, 1989 by and between Stony Point Associates I and Komag Material Technology, Inc. (incorporated by reference from Exhibit 10.1.6 filed with the Company's Report on Form 10-K for the year ended December 31, 1989). 10.1.5 Amendment to Lease Agreement dated December 28, 1990 by and between Milpitas-Hillview II and Komag, Incorporated (incorporated by reference from Exhibit 10.1.11 filed with the Company's Report on Form 10-K for the year ended December 30, 1990). 10.1.6 Second Amendment to Lease dated December 28, 1990 by and between Milpitas-Hillview and Komag, Incorporated (incorporated by reference from Exhibit 10.1.12 filed with the Company's Report on Form 10-K for the year ended December 30, 1990). 10.1.7 First Amendment to Lease dated November 1, 1993 by and between Wells Fargo Bank et al and Komag Material Technology, Inc. (incorporated by reference from Exhibit 10.1.14 filed with the Company's Report on Form 10-K for the year ended January 2, 1994). 10.1.8 Lease Agreement dated May 27, 1994 by and between Hillview I Partners and Komag, Incorporated (incorporated by reference from Exhibit 10.1.16 filed with the Company's Report on Form 10-Q for the quarter ended July 3, 1994). 10.1.9 Lease Agreement dated August 4, 1995 by and between Great Oaks Interests and Komag, Incorporated (incorporated by reference from Exhibit 10.11.12 filed with Form 10-Q for the Quarter ended October 1, 1995). 10.2 Form of Directors' Indemnification Agreement (incorporated by reference from Exhibit 10.9 filed with the Company's Report on Form 10-K for the year ended December 30, 1990). 10.3.1 Joint Venture Agreement by and among Komag, Inc., Asahi Glass Co., Ltd., and Vacuum Metallurgical Company dated November 9, 1986, as amended January 7, 1987 and January 27, 1987 (incorporated by reference from Exhibit 10.10.1 filed with the 50 51 Registration Statement on Form S-1--File No. 33-13663) (confidential treatment obtained as to certain portions). 10.3.2 General Partnership Agreement for Komag Technology Partners dated January 7, 1987 (incorporated by reference from Exhibit 10.10.2 filed with the Registration Statement on Form S-1--File No. 33-13663). 10.3.3 Technology Contribution Agreement dated January 7, 1987 by and between Komag, Incorporated and Komag Technology Partners (incorporated by reference from Exhibit 10.10.3 filed with the Registration Statement on Form S-1--File No. 33-13663) (confidential treatment obtained as to certain portions). 10.3.4 Technical Cooperation Agreement dated January 7, 1986 by and between Asahi Glass Company, Ltd. and Komag, Incorporated (incorporated by reference from Exhibit 10.10.4 filed with the Registration Statement on Form S-1--File No. 33-13663). 10.3.5 Third Amendment to Joint Venture Agreement by and among Komag, Inc., Asahi Glass Co., Ltd., Vacuum Metallurgical Company, et al dated March 21, 1990 (incorporated by reference from Exhibit 10.10.5 filed with the Company's Report on Form 10-K for the year ended December 31, 1989). 10.3.6 Fourth Amendment to Joint Venture Agreement by and among Komag, Inc., Asahi Glass Co., Ltd., Vacuum Metallurgical Company, et al dated May 24, 1990 (incorporated by reference from Exhibit 10.10.11 filed with the Company's Report on Form 10-K for the year ended January 1, 1995). 10.3.7 Fifth Amendment to Joint Venture Agreement by and among Komag, Inc., Asahi Glass Co., Ltd., Vacuum Metallurgical Company, et al dated November 4, 1994 (incorporated by reference from Exhibit 10.10.12 filed with the Company's Report on Form 10-K for the year ended January 1, 1995). 10.3.8 Joint Venture Agreement dated March 6, 1989 by and between Komag, Incorporated, Komag Material Technology, Inc. and Kobe Steel USA Holdings Inc. (incorporated by reference from Exhibit 10.10.6 filed with the Company's Report on Form 10-K for the year ended December 31, 1989) (confidential treatment obtained as to certain portions). 10.3.9 Joint Development and Cross-License Agreement dated March 10, 1989 by and between Komag, Incorporated, Kobe Steel, Ltd., and Komag Material Technology, Inc. (incorporated by reference from Exhibit 10.10.7 filed with the Company's Report on Form 10-K for the year ended December 31, 1989). 10.3.10 Blank Sales Agreement dated March 10, 1989 by and between Komag, Incorporated, Kobe Steel, Ltd., and Komag Material Technology, Inc. (incorporated by reference from a similarly numbered exhibit filed with the Company's Report on Form 10-K for the year ended December 31, 1989). 10.3.11 Finished Substrate Agreement dated March 10, 1989 by and between Komag, Incorporated, Kobe Steel, Ltd., and Komag Material Technology, Inc. (incorporated by reference from Exhibit 10.10.9 filed with the Company's Report on Form 10-K for the year ended December 31, 1989) (confidential treatment obtained as to certain portions). 10.3.12 Stock Purchase Agreement between Komag, Incorporated and Kobe Steel USA Holdings Inc. dated November 17, 1995. 51 52 10.3.13 Substrate Agreement by and between Kobe Steel, Ltd. and Komag, Incorporated dated November 17, 1995 (filed on March 4, 1996 requesting confidential treatment as to certain portions; incorporated herein by reference). 10.3.14 License Amendment Agreement among Komag, Incorporated, Komag Material Technology, Inc. and Kobe Steel, Ltd. dated November 17, 1995. 10.3.15 Substrate Sales Amendment Agreement among Komag, Incorporated, Komag Material Technology, Inc. and Kobe Steel, Ltd. dated November 17, 1995. 10.3.16 Joint Venture Amendment Agreement among Komag, Incorporated, Komag Material Technology, Inc. and Kobe Steel USA Holdings Inc. dated November 17, 1995 (filed on March 4, 1996 requesting confidential treatment as to certain portions; incorporated herein by reference). 10.4.1 Restated 1987 Stock Option Plan, effective January 23, 1992 and forms of agreement thereunder (incorporated by reference from a similarly numbered exhibit filed with the Company's report on Form 10-K for the year ended December 29, 1991). 10.4.2 Komag, Incorporated 1995 Management Bonus Plan (incorporated by reference from a similarly numbered exhibit filed with the Company's Report on Form 10-K for the year ended January 1, 1995). 10.4.3 1988 Employee Stock Purchase Plan Joinder Agreement dated July 1, 1993 between Komag, Incorporated and Komag USA (Malaysia) Sdn. (incorporated by reference from Exhibit 10.11.11 filed with the Company's Report on Form 10-K for the year ended January 2, 1994). 10.5.1 Komag, Incorporated Deferred Compensation Plan (incorporated by reference from a similarly numbered exhibit filed with the Company's Report on Form 10-K for the year ended January 1, 1995). 10.5.2 Komag Material Technology, Inc. 1995 Stock Option Plan (incorporated by reference from Exhibit 10.11.12 filed with Form 10-Q for the Quarter ended October 1, 1995). 10.6 Common Stock Purchase Agreement dated December 9, 1988 by and between Komag, Incorporated and Asahi Glass Co., Ltd. (incorporated by reference from Exhibit 1 filed with the Company's Report on Form 8-K filed with the Securities and Exchange Commission on December 20, 1988). 10.7 Common Stock Purchase Agreement dated February 6, 1990 by and between Komag, Incorporated and Kobe Steel USA Holdings Inc. (incorporated by reference from Exhibit 10.17 filed with the Company's Report on Form 10-K for the year ended December 31, 1989). 10.8 Registration Rights Agreement dated March 21, 1990 by and between Komag, Incorporated and Kobe Steel USA Holdings Inc. (incorporated by reference from Exhibit 10.18 filed with the Company's Report on Form 10-K for the year ended December 31, 1989). 10.9 Amendment No. 1 to Common Stock Purchase Agreement dated March 21, 1990 by and between Komag, Incorporated and Asahi Glass Co., Ltd. (incorporated by reference from Exhibit 10.19 filed with Amendment No. 1 to the Registration Statement filed with the Securities and Exchange Commission on May 26, 1987). 52 53 10.10 Amended and Restated Registration Rights Agreement dated March 21, 1990 by and between Komag, Incorporated and Asahi Glass Co., Ltd. (incorporated by reference from Exhibit 10.20 filed with Amendment No. 1 to the Registration Statement filed with the Securities and Exchange Commission on May 26, 1987). 10.11 Letter dated February 10, 1992 from the Malaysian Industrial Development Authority addressed to Komag, Incorporated approving the "Pioneer Status" of the Company's thin- film media venture in Malaysia (incorporated by reference from Exhibit 10.28 filed with the Company's report on Form 10-K for the year ended January 3, 1993). 10.12 Credit Agreement between Komag, Incorporated and First Interstate Bank of California-- Three Year Facility--dated December 15, 1994 (incorporated by reference from Exhibit 10.24 filed with the Company's report on Form 10-K for the year ended January 1, 1995). 10.13 Credit Agreement between Komag, Incorporated and First Interstate Bank of California-- One Year Facility--dated December 15, 1994 (incorporated by reference from Exhibit 10.25 filed with the Company's report on Form 10-K for the year ended January 1, 1995). 10.14 First Amendment to Credit Agreement--Three Year Facility--by and between Komag, Incorporated and First Interstate Bank of California dated March 29, 1995. 10.15 Second Amendment to Credit Agreement--Three Year Facility--by and between Komag, Incorporated and First Interstate Bank of California dated December 15, 1995. 10.16 Credit Agreement between Komag, Incorporated and The Industrial Bank of Japan, Limited, San Francisco Agency dated December 15, 1995. 11.1 Computation of Income (Loss) per Share. 21 List of Subsidiaries. 23.1 Consent of Ernst & Young LLP. 23.2 Consent of Chuo Audit Corporation. 24 Power of Attorney. Reference is made to the signature pages of this Report. 27 Financial Data Schedule. - ----------------- The Company agrees to furnish to the Commission upon request a copy of any instrument with respect to long-term debt where the total amount of securities authorized thereunder does not exceed 10% of the total assets of the Company. (B) REPORTS ON FORM 8-K. Not Applicable UNDERTAKING For the purposes of complying with the amendments to the rules governing Form S-8 (effective July 13, 1990) under the Securities Act of 1933, the undersigned registrant hereby undertakes as follows: 53 54 Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers or 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 1933 Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered on the Form S-8 identified below, the registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the 1933 Act and will be governed by the final adjudication of such issue. The preceding undertaking shall be incorporated by reference into registrant's Registration Statements on Form S-8 Nos. 33-16625 (filed August 19, 1987), 33-19851 (filed January 28, 1988), 33-25230 (filed October 28, 1988), 33-41945 (filed July 29, 1991), 33-45469 (filed February 3, 1992), 33-53432 (filed October 16, 1992), 33-80594 (filed June 22, 1994), and 33-62543 (filed September 12, 1995). 54 55 SIGNATURES PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934, REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN MILPITAS, CALIFORNIA ON THIS 6TH DAY OF MARCH, 1996. Komag, Incorporated By Stephen C. Johnson ------------------------- Stephen C. Johnson President and Chief Executive Officer POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears herein constitutes and appoints Stephen C. Johnson and William L. Potts, Jr., and each of them, as his true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities, to sign any and all amendments to this Report on Form 10-K, and to file the same, with all exhibits thereto, and other 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 connection therewith, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents, or any of them, or their or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. 55 56 PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE CAPACITIES AND ON THE DATES INDICATED:
Name Title Date TU CHEN Chairman of the Board March 6, 1996 - ---------------------------- and Director (Tu Chen) STEPHEN C. JOHNSON President, Chief Executive Officer March 6, 1996 - ---------------------------- (Stephen C. Johnson) WILLIAM L. POTTS, JR. Senior Vice President-Chief March 6, 1996 - ---------------------------- Financial Officer and Secretary (William L. Potts, Jr.) (Principal Financial and Accounting Officer) CRAIG R. BARRETT Director February 23, 1996 - ---------------------------- (Craig R. Barrett) CHRIS A. EYRE Director March 6, 1996 - ---------------------------- (Chris A. Eyre) IRWIN FEDERMAN Director March 6, 1996 - ---------------------------- (Irwin Federman) GEORGE A. NEIL Director February 26, 1996 - ---------------------------- (George A. Neil) MAX PALEVSKY Director March 6, 1996 - ---------------------------- (Max Palevsky) ANTHONY SUN Director March 6, 1996 - ---------------------------- (Anthony Sun) MASAYOSHI TAKEBAYASHI Director February 24, 1996 - --------------------------- (Masayoshi Takebayashi) *By WILLIAM L. POTTS, JR. ------------------------ (William L. Potts, Jr., Attorney-in-Fact)
56 57 ITEM 14(D) FINANCIAL STATEMENT SCHEDULES KOMAG, INCORPORATED SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS (IN THOUSANDS)
COL. A COL. B COL. C COL. D COL. E - ------ ------ ------ ------ ------ ADDITIONS BALANCE AT CHARGED TO BALANCE BEGINNING COSTS AND AT END DESCRIPTION OF PERIOD EXPENSES DEDUCTIONS OF PERIOD - ----------- --------- -------- ---------- --------- Year ended January 2, 1994 Allowance for doubtful accounts $ 1,917 $ (191) $ 44 $ 1,682 Allowance for sales returns 1,344 3,163 (1) 2,632 (2) 1,875 ------- ------- -------- ------- Sub total 3,261 2,972 2,676 3,557 Restructuring liability (3) -- 38,956 23,069 (4) 15,887 ------- ------- -------- ------- $ 3,261 $41,928 $ 25,745 $19,444 ======= ======= ======== ======= Year ended January 1, 1995 Allowance for doubtful accounts $ 1,682 $ (195) $ -- $ 1,487 Allowance for sales returns 1,875 2,146 (1) 3,285 (2) 736 ------- ------- -------- ------- Sub total 3,557 1,951 3,285 2,223 Restructuring liability (3) 15,887 -- 15,887 (5) -- ------- ------- -------- ------- $19,444 $ 1,951 $ 19,172 $ 2,223 ======= ======= ======== ======= Year ended December 31, 1995 Allowance for doubtful accounts $ 1,487 $ 1,519 $ -- $ 3,006 Allowance for sales returns 736 2,351 (1) 1,814 (2) 1,273 ------- ------- -------- ------- $ 2,223 $ 3,870 $ 1,814 $ 4,279 ======= ======= ======== =======
(1) Additions to the allowance for sales returns are netted against sales. (2) Actual sales returns of subsequently scrapped product were charged against the allowance for sales returns. Actual sales returns of product that was subsequently tested and shipped to another customer were netted directly against sales. (3) Relates to the restructuring of Dastek, Inc., the Company's thin-film head joint venture. See Note 10 to the Consolidated Financial Statements. (4) Primarily represents reductions of assets and liabilities to their estimated net realizable values. (5) Primarily represents operating losses incurred during the shutdown of Dastek, Inc. 57 58 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors Asahi Komag Co., Ltd. We have audited the accompanying consolidated balance sheet of Asahi Komag Co., Ltd. and subsidiary as of December 31, 1995, and the related consolidated statements of income, cash flows, and stockholder's equity for the year then ended. We have also audited the accompanying balance sheet of Asahi Komag Co., Ltd. as of December 31, 1994, and the related statements of income, cash flows, and stockholder's equity for each of the years in the two year period ended December 31, 1994. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We did not audit the financial statements of Headway Technologies, Inc., a company investment accounted for using the equity method, which represents six percent of the Company's total assets as of December 31, 1995. Those statements were audited by other auditors whose report has been provided to us and our opinion, insofar as it relates to the amounts included for Headway Technologies, Inc., is based solely on the report of the other auditors. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. These 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, based on our audit and the report of other auditors, the financial statements referred to above present fairly, in all material respects the consolidated financial position of Asahi Komag Co., Ltd. and subsidiary as of December 31, 1995, and the consolidated results of its operations and its cash flows for the year ended December 31, 1995, and the financial position of Asahi Komag Co., Ltd. as of December 31, 1994 and the results of its operations and its cash flows for each of the years in the two year period ended December 31, 1994 in conformity with generally accepted accounting principles applicable in the United States of America. As discussed in Note 2b of the notes to the financial statements, the Company reporting entity changed in 1995 as a result of the establishment of a wholly owned subsidiary. The consolidated financial statements as of and for the year ended December 31, 1995 have been translated into United States Dollars solely for the convenience of the reader. Our audit included the translation, and in our opinion such translation has been made in accordance with the basis stated in note 2g to the financial statements. CHUO AUDIT CORPORATION Tokyo, Japan January 27, 1996 58 EX-3.1 2 AMENDED AND RESTATED CERTIFICATE OF INCORPORATION 1 EXHIBIT 3.1 AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF KOMAG, INCORPORATED, a Delaware Corporation The undersigned, Stephen C. Johnson and William L. Potts, Jr., hereby certify that: FIRST: They are the duly elected and acting President and Secretary, respectively, of said corporation. SECOND: The Certificate of Incorporation of said corporation was originally filed with the Secretary of State of Delaware on October 29, 1986. THIRD: The Certificate of Incorporation of said corporation shall be amended and restated to read in full as follows: I The name of the corporation (herein called the "Corporation") is KOMAG, INCORPORATED. II The address of the registered office of the Corporation in the State of Delaware is Corporation Trust Center, 1209 Orange Street, in the City of Wilmington, County of New Castle, zip code 19801. The name of the registered agent of the Corporation at such address is The Corporation Trust Company. III The purpose of the Corporation is to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of the State of Delaware. IV The Corporation shall be authorized to issue Eighty-Six Million (86,000,000) shares of capital stock having an aggregate par value of Eight Hundred Sixty Thousand Dollars ($860,000). This Capital Stock shall be divided into two classes, Common Stock and Preferred Stock, both classes having a par value. The authorized Common Stock shall be Eighty-Five Million shares (85,000,000) shares having a par value of one cent ($.01) per share for an aggregate class par value of Eight Hundred Fifty Thousand Dollars ($850,000). The authorized Preferred Stock shall be One Million (1,000,000) shares having a par value of one cent ($.01) per share for an aggregate class par value of Ten Thousand Dollars ($10,000). The Board of Directors of the Corporation is hereby empowered (i) to determine the preferences, privileges, or restrictions of such Preferred Stock, including (but not limited to) the dividend rights and rate, conversion and voting rights, redemption rights and the terms and prices thereof (including any provision for a sinking fund), or liquidation preferences thereof, if any, (ii) to divide the Preferred Stock into different series consisting of any number of shares, each series having different rights, provisions, or conditions from any other series and (iii) to increase or decrease the number of shares of any series so designated, but not below the number of shares of any such series then outstanding. The Corporation is also authorized to issue debentures (convertible into the Common Stock or Preferred Stock or non- convertible, either with or without voting rights) and/or warrants or options to purchase Common Stock or Preferred Stock. V 2 In furtherance and not in limitation of the powers conferred by statute, the Board of Directors is expressly authorized to make, alter, amend or repeal the By-Laws of the Corporation. VI The number of directors of the Corporation shall be fixed from time to time by a by-law or amendment thereof duly adopted by the Board of Directors or by the Stockholders. VII All rights to vote and all voting power shall be vested in the Common Stock, and any Preferred Stock with voting rights pursuant to the terms thereof, and any such holders thereof shall be entitled at all elections of directors to as many votes as shall equal the number of votes which (except for this provision as to cumulative voting) he would be entitled to cast for the election of directors with respect to his shares of stock multipled by the number of directors to be elected, and such holder may cast all of such votes for a single director or may distribute them among the number to be voted for, or for any two or more of them as he may see fit, and to vote for each share upon all other matters. VIII Elections of directors need not be by written ballot unless the By-laws of the Corporation shall be provided. IX Meetings of stockholders may be held within or without the State of Delaware, as the By-laws may provide. The books of the Corporation may be kept (subject to any provision contained in the statutes) outside the State of Delaware at such place or places as may be designated from time to time by the Board of Directors or in the By-laws of the Corporation. X A director of the Corporation shall not be personally liable to the Corporation or its stockholders for monetary damages for breach of fiduciary duty as a director, except for liability (i) for any breach of the director's duty of loyalty to the Corporation or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or knowing violation of law, (iii) under Section 174 of the Delaware General Corporation Law, or (iv) for any transaction from which the director derived any improper personal benefit. XI The Corporation reserves the right to amend, alter, change or repeal any provision contained in this restated Certificate of Incorporation, in the manner now or hereafter prescribed by statute, and all rights conferred upon stockholders herein are granted subject to this reservation. XII The Corporation reserves the right to amend, alter, change or repeal any provision contained in this Amended and Restated Certificate of Incorporation, in the manner now or hereafter prescribed by statute, and all rights conferred upon stockholders herein are granted subject to this reservation. 2. 3 XIII The Corporation shall have perpetual existence. 3. 4 FOURTH: The foregoing Amended and Restated Certificate of Incorporation has been duly adopted by the Corporation's Board of Directors and stockholders in accordance with the applicable provisions of Section 228, 242 and 245 of the General Corporation Law of the State of Delaware. IN WITNESS WHEREOF, the undersigned have executed this certificate on December ____, 1995. KOMAG, INCORPORATED By: ------------------------------------ Stephen C. Johnson, President Attest: ---------------------------------------- William L. Potts, Jr., Secretary 4. EX-10.3.12 3 STOCK PURCHASE AGREEMENT 1 EXHIBIT 10.3.12 STOCK PURCHASE AGREEMENT Dated As Of November 17, 1995 Between KOMAG, INCORPORATED And KOBE STEEL USA HOLDINGS INC. 2 TABLE OF CONTENTS
Page ---- 1. Purchase and Sale of Stock . . . . . . . . . . . . . . . . . . . . 1 2. Representations and Warranties of the Seller . . . . . . . . . . . 1 2.1 Organization . . . . . . . . . . . . . . . . . . . . . . . 1 2.2 Authorization . . . . . . . . . . . . . . . . . . . . . . 1 2.3 Consents . . . . . . . . . . . . . . . . . . . . . . . . . 1 2.4 Offering . . . . . . . . . . . . . . . . . . . . . . . . . 2 2.5 Litigation . . . . . . . . . . . . . . . . . . . . . . . . 2 2.6 Non-Contravention . . . . . . . . . . . . . . . . . . . . 2 2.7 Title to Stock . . . . . . . . . . . . . . . . . . . . . . 2 3. Representations and Warranties of the Buyer . . . . . . . . . . . 2 3.1 Organization . . . . . . . . . . . . . . . . . . . . . . . 2 3.2 Authorization . . . . . . . . . . . . . . . . . . . . . . 3 3.3 Consents . . . . . . . . . . . . . . . . . . . . . . . . . 3 3.4 Litigation . . . . . . . . . . . . . . . . . . . . . . . . 3 3.5 Non-Contravention . . . . . . . . . . . . . . . . . . . . 3 3.6 Purchase for Own Account . . . . . . . . . . . . . . . . . 3 3.7 Accredited Investor . . . . . . . . . . . . . . . . . . . 4 4. Conditions of Buyer's Obligations at Closing . . . . . . . . . . . 4 4.1 Representations and Warranties . . . . . . . . . . . . . . 4 4.2 Performance . . . . . . . . . . . . . . . . . . . . . . . 4 4.3 Qualifications . . . . . . . . . . . . . . . . . . . . . . 4 4.4 Corporate Proceedings and Documents . . . . . . . . . . . 4 4.5 No Adverse Proceeding . . . . . . . . . . . . . . . . . . 4 4.6 Absence of Governmental or Other Objection . . . . . . . . 4 4.7 Board of Directors . . . . . . . . . . . . . . . . . . . . 5 4.8 Stock Certificates . . . . . . . . . . . . . . . . . . . . 5 4.9 Seller Purchase Documents . . . . . . . . . . . . . . . . 5 4.10 Secretary's Certificate . . . . . . . . . . . . . . . . . 5 4.11 Other Matters . . . . . . . . . . . . . . . . . . . . . . 6 5. Conditions of the Seller's Obligations at Closing . . . . . . . . 6 5.1 Representations and Warranties . . . . . . . . . . . . . . 6 5.2 Performance . . . . . . . . . . . . . . . . . . . . . . . 6 5.3 Corporate Proceedings and Documents . . . . . . . . . . . 6 5.4 No Adverse Proceeding . . . . . . . . . . . . . . . . . . 6 5.5 Payment of Purchase Price . . . . . . . . . . . . . . . . 6 5.6 Stock Certificates . . . . . . . . . . . . . . . . . . . . 6 5.7 Buyer Purchase Documents . . . . . . . . . . . . . . . . . 6 5.8 Secretary's Certificate . . . . . . . . . . . . . . . . . 7 5.9 Other Matters . . . . . . . . . . . . . . . . . . . . . . 7 6. Miscellaneous . . . . . . . . . . . . . . . . . . . . . . . . . . 7 6.1 Survival of Representations, Warranties and Agreements . . 7 6.2 Indemnification . . . . . . . . . . . . . . . . . . . . . 7
i. 3 6.3 Defense of Claims. . . . . . . . . . . . . . . . . . . 8 6.4 Successors and Assigns . . . . . . . . . . . . . . . . . 9 6.5 Governing Law . . . . . . . . . . . . . . . . . . . . . 9 6.6 Counterparts . . . . . . . . . . . . . . . . . . . . . . 9 6.7 Titles and Subtitles . . . . . . . . . . . . . . . . . . 9 6.8 Notices . . . . . . . . . . . . . . . . . . . . . . . . 9 6.9 Finder's Fee . . . . . . . . . . . . . . . . . . . . . . 9 6.10 Expenses . . . . . . . . . . . . . . . . . . . . . . . . 10 6.11 Amendments and Waivers . . . . . . . . . . . . . . . . . 10 6.12 Severability . . . . . . . . . . . . . . . . . . . . . . 10 6.13 Entire Agreement . . . . . . . . . . . . . . . . . . . . 10 6.14 Arbitration . . . . . . . . . . . . . . . . . . . . . . 10 6.15 Non-Exercise of Joint-Venture Option . . . . . . . . . . 10
EXHIBIT A - Joint Venture Amendment Agreement EXHIBIT B - License Amendment Agreement EXHIBIT C - Substrate Sales Amendment Agreement EXHIBIT D - KMT Consent EXHIBIT E - Substrate Agreement ii. 4 STOCK PURCHASE AGREEMENT THIS STOCK PURCHASE AGREEMENT is made as of the 17th day of November, 1995, between Komag, Incorporated, a Delaware corporation (the "Buyer"), and Kobe Steel USA Holdings Inc., a Delaware corporation (the "Seller"). THE PARTIES HEREBY AGREE AS FOLLOWS: 1. Purchase and Sale of Stock. Subject to the terms and conditions of this Agreement, the Buyer agrees to purchase for $6,750,000 at the Closing, and the Seller agrees to sell to the Buyer at the Closing, 389 shares of the Common Stock (such Common Stock as is being sold by the Seller is referred to herein as the "Stock") of Komag Material Technology, Inc., a Delaware corporation ("KMT"), owned by the Seller. The purchase and sale of the Stock shall take place at the offices of Brobeck, Phleger & Harrison, Two Embarcadero Place, 2200 Geng Road, Palo Alto, California, at 10:30 A.M. on December 28, 1995, or at such other time and place as the Seller and the Buyer mutually agree upon in writing (which time and place are designated as the "Closing"). At the Closing the Seller shall deliver to the Buyer a certificate or certificates representing the Stock (which certificate or certificates shall be appropriately endorsed to the Buyer) that the Buyer is purchasing against payment by the Buyer by wire transfer representing immediately available funds in the amount of $6,750,000 to an account to be designated by the Seller to the Buyer. 2. Representations and Warranties of the Seller. The Seller hereby represents and warrants to the Buyer that: 2.1 Organization. The Seller is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware. 2.2 Authorization. All corporate action on the part of the Seller, its officers, directors and stockholders necessary for the authorization, execution and delivery of this Agreement, each of the other documents required to be executed and delivered by the Seller or persons affiliated with the Seller in connection with this Agreement that are described in Section 4.9 (together with this Agreement, referred to collectively as the "Seller Purchase Documents") and performance of all obligations of the Seller hereunder and thereunder has been taken or will be taken prior to the Closing, and this Agreement and the other Seller Purchase Documents constitute valid and legally binding obligations of the Seller, enforceable against the Seller in accordance with their respective terms. 2.3 Consents. No consent, approval, order or authorization of, or registration, qualification, designation, declaration or filing with, any federal, state or local governmental authority or any other person on the part of the Seller is required in connection with the consummation of the transactions contemplated by this Agreement or the other Seller Purchase Documents. 2.4 Offering. Subject to the truth and accuracy of each of the Buyer's representations set forth in Section 3 of this Agreement, the offer and sale of the Stock as contemplated by this Agreement are exempt from the registration requirements of the Securities Act of 1933, as amended, and neither the Seller nor any agent acting on its behalf will take any action hereafter that would cause the loss of such exemption. 1. 5 2.5 Litigation. There is no action, suit, proceeding or investigation pending or, to the best of the Seller's knowledge, currently threatened against the Seller that questions the validity of this Agreement or the other Seller Purchase Documents or the right of the Seller to enter into this Agreement or the other Seller Purchase Documents, or to consummate the transactions contemplated hereby or thereby. The Seller is not a party or subject to the provisions of any order, writ, injunction, judgment or decree of any court or government agency or instrumentality that would in any way adversely affect the Seller's ability to perform its obligations under this Agreement or the other Seller Purchase Documents or the transactions contemplated hereby or thereby. There is no action, suit, proceeding or investigation by the Seller currently pending or that the Seller intends to initiate that would in any way adversely affect the Seller's ability to perform its obligations under this Agreement or the other Seller Purchase Documents or the transactions contemplated hereby or thereby. 2.6 Non-Contravention. The execution, delivery and performance by the Seller of this Agreement and the other Seller Purchase Documents do not and will not, (a) contravene or conflict with the certificate of incorporation or by-laws of the Seller, (b) contravene or conflict with any law, regulation, judgment, injunction, writ, order or decree binding upon or currently applicable to the Seller, (c) result in the creation or imposition of any lien upon the Stock, or (d) constitute a default under any agreement, contract or other instrument binding upon the Seller or by or to which or any of its assets or properties is bound. 2.7 Title to Stock. The Seller owns the Stock free and clear of all mortgages, liens, loans and encumbrances and no other person has any rights or claims of any kind to the Stock except for any rights and privileges provided to the Buyer in Section 10 of the Joint Venture Agreement (the "JV Agreement") dated as of March 6, 1989 among the Buyer, KMT and the Seller. 3. Representations and Warranties of the Buyer. The Buyer hereby represents and warrants that: 3.1 Organization. The Buyer is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware. 3.2 Authorization. All corporate action on the part of the Buyer, its officers, directors, and stockholders necessary for the authorization, execution and delivery of this Agreement and each of the other documents required to be executed and delivered by the Buyer or persons affiliated with the Buyer in connection with this Agreement that are described in Section 5.7 (together with this Agreement, referred to collectively as the "Buyer Purchase Documents" and the Buyer Purchase Documents, together with the Seller Purchase Documents, are referred to collectively as the "Purchase Documents") and the performance of, all obligations of the Buyer hereunder and thereunder has been taken or will be taken prior to the Closing, and this Agreement and the other Buyer Purchase Documents constitute valid and legally binding obligations of the Buyer, enforceable against the Buyer in accordance with their respective terms. 3.3 Consents. No consent, approval, order or authorization of, or registration, qualification, designation, declaration or filing with, any federal, state or local governmental authority or any other person on the part of the Buyer is required in connection with the consummation of the transactions contemplated by this Agreement or the other Buyer Purchase Documents. 3.4 Litigation. There is no action, suit, proceeding or investigation pending or, 2. 6 to the best of the Buyer's knowledge, currently threatened against the Buyer that questions the validity of this Agreement or the other Buyer Purchase Documents or the right of the Buyer to enter into this Agreement or the other Buyer Purchase Documents, or to consummate the transactions contemplated hereby or thereby. The Buyer is not a party or subject to the provisions of any order, writ, injunction, judgment or decree of any court or government agency or instrumentality that would in any way adversely affect the Seller's ability to perform its obligations under this Agreement or the other Buyer Purchase Documents or the transactions contemplated hereby or thereby. There is no action, suit, proceeding or investigation by the Buyer currently pending or that the Buyer intends to initiate that would in any way adversely affect the Seller's ability to perform its obligations under this Agreement or the other Buyer Purchase Documents or the transactions contemplated hereby or thereby. 3.5 Non-Contravention. The execution, delivery and performance by the Buyer of this Agreement and the other Buyer Purchase Documents do not and will not, (a) contravene or conflict with the certificate of incorporation or by-laws of the Buyer, (b) contravene or conflict with any law, regulation, judgment, injunction, writ, order or decree binding upon or currently applicable to the Buyer, or (c) constitute a default under any agreement, contract or other instrument binding upon the Buyer or by or to which or any of its assets or properties is bound. 3.6 Purchase for Own Account. The Stock to be received by the Buyer will be acquired for investment for the Buyer's own account, not as a nominee or agent, and not with a view to the resale or distribution of any part thereof, and that the Buyer has no present intention of selling, granting any participation in, or otherwise distributing the same. 3.14 Accredited Investor. The Buyer is an "accredited investor" within the meaning of Securities and Exchange Commission ("SEC") Rule 501 of Regulation D, as presently in effect and acknowledges that it can bear the economic risk of its investment and can capably evaluate the risks of the purchase of the Stock. 4. Conditions of Buyer's Obligations at Closing. The obligations of the Buyer under Section 1 of this Agreement are subject to the fulfillment on or before the Closing of each of the following conditions: 4.1 Representations and Warranties. The representations and warranties of the Seller contained in Section 2 shall be true on and as of the Closing with the same effect as though such representations and warranties had been made on and as of the date of such Closing. 4.2 Performance. The Seller shall have performed and complied with all agreements, obligations and conditions contained in this Agreement and the other Seller Purchase Documents that are required to be performed or complied with by it on or before the Closing. 4.3 Qualifications. All authorizations, approvals, consents or permits, if any, of any governmental authority or regulatory body of the United States or of any state or any other person that are required in connection with the lawful sale of the Stock pursuant to this Agreement shall be duly obtained and effective as of the Closing. 4.4 Corporate Proceedings and Documents. All corporate and other proceedings in connection with the transactions contemplated to occur at the Closing by this Agreement and the other Seller Purchase Documents and all documents incident hereto and thereto shall be reasonably satisfactory in form and substance to the Buyer, and the Buyer shall have received all such counterpart originals and certified or other copies of such documents as it may 3. 7 reasonably request. 4.5 No Adverse Proceeding. There shall have been no pending or threatened claim, action, litigation or proceeding, judicial or administrative, or any government investigation against the Seller, KMT or the Buyer for the purpose, or having the effect of, enjoining or preventing the consummation of this Agreement or the other Purchase Documents, or otherwise claiming that this Agreement or the other Purchase Documents or the consummation of this Agreement or the other Purchase Documents is illegal. 4.6 Absence of Governmental or Other Objection. There shall be no pending or threatened lawsuit challenging the sale of the Stock contemplated by the SEC, the California Department of Corporations, or any commissioner of corporations or similar offices of any other state, the Federal Trade Commission, the U.S. Department of Justice, any other body or agency of the federal government, or any similar state body or agency and the consummation of the transaction(s) contemplated hereby shall not have been enjoined by a court of competent jurisdiction as of the Closing. At the time of the Closing, the sale and issuance of the Stock shall be legally permitted by all laws and regulations to which the Seller and KMT are subject. 4.7 Board of Directors. The Board of Directors of KMT shall be reconstituted so that one director nominated by the Seller shall resign his position on the Board of Directors and one new director nominated by the Buyer shall be elected to the Board of Directors. 4.8 Stock Certificates. The Seller shall have delivered to the Buyer the certificate or certificates representing the Stock, which certificate or certificates shall be appropriately endorsed in favor of the Buyer. 4.9 Seller Purchase Documents. The Seller shall have executed and delivered, or, where execution or delivery is required by an affiliate of Seller other than KMT, caused to be executed and delivered, to the Buyer each of the Seller Purchase Documents which shall be in the forms attached hereto. Such Seller Purchase Documents shall consist of (a) this Agreement, (b) the Joint Venture Amendment Agreement dated as of the date hereof among the Buyer, the Seller and KMT in substantially the form attached as Exhibit A hereto (the "JV Amendment"), (c) the License Amendment Agreement dated as of the date hereof among the Buyer, Kobe Steel, Ltd. and KMT in substantially the form attached as Exhibit B hereto (the "License Amendment"), (d) the Substrate Sales Amendment Agreement dated as of the date hereof among the Buyer, Kobe Steel, Ltd. and KMT in substantially the form attached as Exhibit C hereto (the "Substrate Sales Amendment"), (e) the Consent of KMT dated as of the date hereof by KMT in substantially the form attached as Exhibit D hereto (the "KMT Consent"), (f) the Substrate Agreement dated as of the date hereof between Kobe Steel, Ltd. and the Buyer in substantially the form attached as Exhibit E hereto (the "Substrate Agreement"), and (g) the documents and certificates required pursuant to Sections 4.8 and 4.10. 4.10 Secretary's Certificate. The Secretary or Assistant Secretary of the Seller shall have executed and delivered certified copies of the resolutions of the Board of Directors of the Seller authorizing the execution, delivery and performance by the Seller of the Seller Purchase Documents which are to be executed, delivered or performed by the Seller. 4.11 Other Matters. All actions required to be taken by the Seller in connection with consummation of the transactions contemplated hereby and all certificates, opinions, instruments, and other documents required to effect the transactions contemplated hereby will be reasonably satisfactory in form and substance to the Buyer. 4. 8 5. Conditions of the Seller's Obligations at Closing. The obligations of the Seller to the Buyer under this Agreement are subject to the fulfillment on or before the Closing of each of the following conditions by the Buyer: 5.1 Representations and Warranties. The representations and warranties of the Buyer contained in Section 3 shall be true on and as of the Closing with the same effect as though such representations and warranties had been made on and as of the Closing. 5.2 Performance. The Buyer shall have performed and complied with all agreements, obligations and conditions contained in this Agreement and the other Buyer Purchase Documents that are required to be performed or complied with by it on or before the Closing. 5.3 Corporate Proceedings and Documents. All corporate and other proceedings in connection with the transactions contemplated to occur at the Closing by this Agreement and the other Buyer Purchase Documents and all documents incident hereto and thereto shall be reasonably satisfactory in form and substance to the Seller, and the Seller shall have received all such counterpart originals and certified or other copies of such documents as it may reasonably request. 5.4 No Adverse Proceeding. There shall have been no pending or threatened claim, action, litigation or proceeding, judicial or administrative, or any government investigation against the Seller, KMT or the Buyer for the purpose, or having the effect of, enjoining or preventing the consummation of this Agreement or the other Purchase Documents, or otherwise claiming that this Agreement or the other Purchase Documents or the consummation of this Agreement or the other Purchase Documents is illegal. 5.5 Payment of Purchase Price. The Buyer shall have delivered to the Seller the purchase price as specified in Section 1. 5.6 Stock Certificates. The Buyer shall have caused KMT to deliver to the Seller the new or replacement certificate or certificates representing the Seller's remaining 311 shares of the Common Stock of KMT. 5.7 Buyer Purchase Documents. The Buyer shall have executed and delivered, or caused KMT to execute or deliver, to the Seller each of the Buyer Purchase Documents which shall be in the forms attached hereto to the Seller. Such Buyer Purchase Documents shall consist of (a) this Agreement, (b) the JV Amendment, (c) the License Amendment, (d) the Substrate Sales Amendment, (e) the KMT Consent, (f) the Substrate Agreement, and (g) the documents and certificates required pursuant to Sections 5.6 and 5.8. 5.8 Secretary's Certificate. The Secretary or Assistant Secretary of the Buyer shall have executed and delivered certified copies of the resolutions of the Board of Directors of the Buyer authorizing the execution, delivery and performance by the Buyer of the Buyer Purchase Documents which are to be executed, delivered or performed by the Buyer. 5.9 Other Matters. All actions required to be taken by the Buyer in connection with consummation of the transactions contemplated hereby and all certificates, opinions, instruments, and other documents required to effect the transactions contemplated hereby will be reasonably satisfactory in form and substance to the Seller. 5. 9 6. Miscellaneous. 6.1 Survival of Representations, Warranties and Agreements. (a) Survival of Representation and Warranties. Subject to the limitations set forth in Section 6.2 of this Agreement and notwithstanding any investigation conducted at any time with regard thereto by or on behalf of either party, all representations and warranties of each party set forth in this Agreement shall survive the execution, delivery and performance of this Agreement for a period of one (1) year from the Closing and shall thereafter terminate and be of no further force and effect. All representations, and warranties of each party set forth in this Agreement shall be deemed to have been made again by such party at and as of the Closing. (b) Survival of Covenants and Agreements. Unless provided otherwise, the covenants, indemnities and agreements of each of the parties in this Agreement shall survive the execution, delivery and performance of this Agreement. 6.2 Indemnification. (a) Indemnification by the Seller. The Seller hereby agrees to indemnify and hold harmless the Buyer, KMT and any of their officers, directors, affiliates, employees and/or agents (collectively, the "Buyer Indemnified Parties") from and against any and all losses, liabilities, damages, demands, claims, suits, actions, judgments or causes of action, assessments, costs and expenses, including, without limitation, interest, penalties, attorneys' fees, any and all expenses incurred in investigating, preparing or defending against any litigation, commenced or threatened, or any claim whatsoever, and any and all amounts paid in settlement of any claim or litigation (collectively, "the Buyer Indemnified Parties Damages"), asserted against, resulting to, imposed upon, or incurred or suffered by any of the Buyer Indemnified Parties directly or indirectly, as a result of or arising from any inaccuracy in or breach or nonfulfillment of any of the representations, warranties, covenants or agreements made by the Seller in this Agreement and from any taxes that are the Seller's responsibility to pay but which are imposed by any governmental entity or otherwise on the Buyer in connection with the sale of the Stock (the "Buyer Indemnified Parties Claims"). (b) Indemnification by the Buyer. The Buyer hereby agrees to indemnify and hold harmless the Seller and any of its officers, directors, affiliates, employees and/or agents (collectively, the "Seller Indemnified Parties") from and against any and all losses, liabilities, damages, demands, claims, suits, actions, judgments or causes of action, assessments, costs and expenses, including, without limitation, interest, penalties, attorneys' fees, any and all expenses incurred in investigating, preparing or defending against any litigation, commenced or threatened, or any claim whatsoever, and any and all amounts paid in settlement of any claim or litigation (collectively, the "Seller Indemnified Parties Damages"), asserted against, resulting to, imposed upon, or incurred or suffered by the Seller Indemnified Parties directly or indirectly, as a result of or arising from any inaccuracy in or breach or nonfulfillment of any of the representations, warranties, covenants or agreements made by the Buyer Indemnified Parties in this Agreement and from any taxes that are the Buyer's responsibility to pay but which are imposed by any governmental entity or otherwise on the Seller in connection with the purchase of the Stock (the "Seller Indemnified Parties Claims" and, together with the Buyer Indemnified Parties Claims, referred to collectively as the "Claims"). 6.3 Defense of Claims. The parties hereto shall promptly give written notice to 6. 10 each other after either of them obtains knowledge of any Claim, obligation, liability or action for which indemnification may be sought hereunder or prompt written notice of the commencement of any legal proceedings for which indemnification may be sought hereunder, whichever occurs first; provided, that the failure to give such notice (other than notice of the commencement of a legal proceeding) shall not adversely affect any right of indemnification under this Agreement. The indemnifying party shall be entitled to control the defense of any such legal proceeding, through legal counsel reasonably satisfactory to the indemnified party, at the sole expense of the indemnifying party, and the indemnified party shall cooperate with the indemnifying party in the defense of such Claim and shall have the right, but not the obligation, to participate in the defense at its own expense. If the indemnifying party elects not to direct such defense by written notice within fifteen (15) days after receipt of the original notice, the indemnified party will have the right, at its own discretion, to direct such defense at the indemnifying party's sole expense. The indemnifying party shall have the right to compromise or settle, with the indemnified party's prior written approval, any claim or litigation regarding which it is required to indemnify. If the indemnified party refuses to approve any compromise or settlement recommended by the indemnifying party which would have concluded such Claim or litigation but for the indemnified party's failure to give approval, the indemnifying party's liability to the indemnified party hereunder with respect to any such claim or litigation shall not exceed the amount which the indemnifying party would have paid pursuant to such proposed compromise or settlement. 6.4 Successors and Assigns. Except as otherwise provided herein, the terms and conditions of this Agreement shall inure to the benefit of and be binding upon the respective successors and assigns of the parties (including transferees of the Stock). Nothing in this Agreement, express or implied, is intended to confer upon any party other than the parties hereto or their respective successors and assigns any rights, remedies, obligations, or liabilities under or by reason of this Agreement, except as expressly provided in this Agreement. 6.5 Governing Law. This Agreement shall be governed by and construed under the laws of the State of California as applied to agreements among California residents entered into and to be performed entirely within California. 6.6 Counterparts. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. 6.7 Titles and Subtitles. The titles and subtitles used in this Agreement are used for convenience only and are not to be considered in construing or interpreting this Agreement. 6.8 Notices. Unless otherwise provided, any notice required or permitted under this Agreement shall be given in writing and shall be deemed effectively given upon personal delivery to the party to be notified or upon deposit with the United States Post Office, by registered or certified mail, postage prepaid and addressed to the party to be notified at the address indicated for such party on the signature page hereof, or at such other address as such party may designate by ten (10) days' advance written notice to the other parties. 6.9 Finder's Fee. Each party represents that it neither is nor will be obligated for any finders' fee or commission in connection with this transaction. The Seller agrees to indemnify and to hold harmless the Buyer from any liability for any commission or compensation in the nature of a finders' fee (and the costs and expenses of defending against such liability or asserted liability) for which the Seller or any of its officers, partners, employees, or representatives is responsible. The Buyer agrees to indemnify and hold harmless the Seller from any liability for 7. 11 any commission or compensation in the nature of a finders' fee (and the costs and expenses of defending against such liability or asserted liability) for which the Buyer or any of its officers, employees or representatives is responsible. 6.10 Expenses. Irrespective of whether the Closing is effected, each party shall pay all costs and expenses that it incurs with respect to the negotiation, execution, delivery and performance of this Agreement except as set forth in the immediately following sentence. If any action at law or in equity is necessary to enforce or interpret the terms of this Agreement, the prevailing party shall be entitled to reasonable attorney's fees, costs and necessary disbursements in addition to any other relief to which such party may be entitled. 6.11 Amendments and Waivers. Any term of this Agreement may be amended and the observance of any term of this Agreement may be waived (either generally or in a particular instance and either retroactively or prospectively), only with the written consent of the Seller and the Buyer. 6.12 Severability. If one or more provisions of this Agreement are held to be unenforceable under applicable law, such provision shall be excluded from this Agreement and the balance of the Agreement shall be interpreted as if such provision were so excluded and shall be enforceable in accordance with its terms. 6.13 Entire Agreement. This Agreement and the documents referred to herein constitute the entire agreement among the parties and no party shall be liable or bound to any other party in any manner by any warranties, representations, or covenants except as specifically set forth herein or therein. 6.14 Arbitration. All disputes, controversies or differences arising out of or in relation to or in connection with this Agreement, which cannot be settled by discussion and mutual accord, shall be finally settled by binding arbitration, to be conducted in Palo Alto, California in accordance with the rules of the American Arbitration Association. Demand for arbitration shall be made in writing and shall be served upon the party or parties to whom the demand is addressed in the manner provided for the tender of notices in Section 6.8 hereof. There shall be three (3) arbitrators and the proceedings shall be conducted in the English language. Judgment upon the award rendered may be entered in any court having proper jurisdiction or application made to such court for a judicial acceptance of the award and an order of enforcement, as the case may be. The arbitrators shall be instructed, in connection with the issuance of their award, to prepare a written finding of facts and law concerning the award. 6.15 Non-Exercise of Joint-Venture Option. Notwithstanding anything to the contrary in the JV Agreement, the execution, delivery and performance of this Agreement and the other Purchase Documents shall not be deemed to be an exercise, or to involve or require the exercise, of any of the Buyer's or the Seller's rights under Section 10.2 of the JV Agreement and all other rights and obligations of the parties to the JV Agreement are hereby ratified and confirmed. 8. 12 IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first above written. KOMAG, INCORPORATED By: Title: Address: 275 South Hillview Drive Milpitas, CA 95035 KOBE STEEL USA HOLDINGS INC. By: Title: Address: 535 Madison Avenue New York, NY 10010 9. EX-10.3.14 4 LICENSE AMENDMENT AGREEMENT 1 EXHIBIT 10.3.14 LICENSE AMENDMENT AGREEMENT THIS LICENSE AMENDMENT AGREEMENT (this "Amendment"), dated as of November 17, 1995, is made among Komag, Incorporated, a Delaware corporation ("Komag"), Komag Material Technology, Inc., a Delaware corporation ("KMT"), and Kobe Steel, Ltd., a Japanese company ("Kobe"). WHEREAS, Komag, KMT and Kobe are parties to a Joint Development and Cross-License Agreement dated as of March 10, 1989 (the "License Agreement"); WHEREAS, the term of such License Agreement has expired and the parties hereto wish to reinstate (on the terms and conditions set forth therein as originally executed except as modified hereby) and extend the term of such License Agreement; and WHEREAS, Komag and Kobe Steel USA Holdings, Inc. are parties to a Stock Purchase Agreement dated as of the date hereof (the "Stock Purchase Agreement") and it is a condition precedent to the effectiveness of such Stock Purchase Agreement that the parties hereto execute and deliver this Amendment. NOW, THEREFORE, subject to the terms and conditions hereof, the parties hereto agree as follows: 1 Definitions; Reinstatement of License Agreement. Terms Defined in License Agreement. All capitalized terms used in this Amendment and not otherwise defined herein shall have the meanings assigned to them in the License Agreement. 2 Amendments to the License Agreement. (a) Amendments. The License Agreement shall be restated and amended as follows, effective as of the date of the occurrence of the Closing, as defined in the Stock Purchase Agreement. (i) Article I of the License Agreement is hereby amended by adding in the following new Sections: "Section 1.4 A "Inventing Party" shall mean a party to this Agreement which employs one or more inventors as that term is used before the U.S. Patent and Trademark Office, which inventor or inventors contribute or contributes to the invention of a certain Joint Invention." "Section 1.4 B "Joint Inventions" shall mean all discoveries, improvements and inventions, conceived or first reduced to practice pursuant hereto, as those terms are used before the U.S. Patent and Trademark Office which are jointly made by one or more Inventing Parties." (ii) Sections 2.1, 2.2 and 2.3 of the License Agreement are hereby amended by deleting the phrase "or other products incorporating Disk Substrates" appearing therein. 1. 2 (iii) Section 4.5 of the License Agreement is hereby amended by deleting such Section 4.5 in its entirety and by inserting in lieu thereof the following new Section 4.5: "4.5 Joint Property. Joint Inventions shall be jointly owned by the Inventing Parties, each Inventing Party having an equal and undivided interest therein, subject to the limitations on sublicensing set forth in Section 2.4 above as if such Joint Inventions were held subject to licenses hereunder. In such event, the Inventing Parties shall all determine whether a patent application or applications shall be filed on such Joint Inventions, the Inventing Party which will prepare and file such application or applications, and the country or countries in which the same are to be filed. The patent expenses incurred shall be divided equally among the Inventing Parties. If the Inventing Parties are not able to all agree to file an application or applications on a Joint Invention, any one of the Inventing Parties may elect to assume such expenses (the "Electing Party"). The Electing Party shall control the preparation and prosecution of any such applications and all rights in any patents granted thereon shall belong exclusively to the Electing Party. Any Inventing Party declining to bear its share of the expenses of prosecuting or maintaining patents covering a Joint Invention (the "Declining Party") agrees to execute any and all forms, assignments or other documents to effect the foregoing; provided, however, that the Declining Party shall automatically have a worldwide, non-exclusive, royalty-free perpetual license under any patent or patents which may be granted with respect to any such Joint Invention; provided further, however, that such Declining Party shall not have the right to assign, sublicense or otherwise transfer the patent or patents, except to an Affiliate. The administration of any licensing of Joint Inventions shall be determined when the circumstances arise. Neither Kobe nor KOMAG may, without the prior written consent of the other (which consent may be withheld for any reason in its sole and absolute discretion), assign or otherwise transfer its interest in any Joint Invention except pursuant to Section 8.14 below." (iv) Section 5.1 of the License Agreement is hereby amended by deleting such Section 5.1 in its entirety and by inserting in lieu thereof the following new Section 5.1: "5.1 Term. This Agreement shall become effective on December 28, 1995 and shall remain in full force and effect for two (2) years unless earlier terminated pursuant to Sections 5.2 or 5.3; provided, that such term shall be automatically renewed for subsequent two (2) year periods (subject to the effect of Sections 5.2 and 5.3) unless a written objection of any party hereto is received by the other parties hereto prior to the end of the then current term, in which case this Agreement will expire at the end of such then current term." (v) Section 7.2 of the License Agreement is hereby amended by adding the following new clause (c): "(c) Notwithstanding anything to the contrary in Section 7.2, any Proprietary Information shall no longer be deemed to be "confidential" or "proprietary" for purposes of this Agreement five (5) years after the date such Proprietary Information is disclosed by any party to any other party hereto." (vi) Section 7.3(a) of the License Agreement is hereby amended by adding ", California" after the occurrence of "Palo Alto" therein. 2. 3 (vii) Section 8.1 of the License Agreement is hereby amended by (a) deleting "Richard C. Spalding" and by inserting in lieu thereof "Andrew B. Koslow" and (b) deleting all text relating to Graham & James and by inserting in lieu thereof the following new text: "Graham & James One Maritime Plaza Suite 300 San Francisco, CA 94111 Attention: Michael R. Moyle, Esq. Facsimile: (415) 391-2493" (viii) Section 8.14(a) of the License Agreement is hereby amended by adding the phrase "and except as to those rights specified in Sections 4.2, 4.3 and 4.4" after the word "below" in the second line thereof. (b) Amendment to Table of Contents. The Table of Contents of the License Agreement shall be amended to the extent necessary to reflect the amendments to the License Agreement made in subsection (a). (c) References Within License Agreement. Each reference in the License Agreement to "this Agreement" and the words "hereof," "herein," "hereunder," or words of like import, shall mean and be a reference to the License Agreement as amended by this Amendment. 3 Miscellaneous. (a) License Agreement Otherwise Not Affected. Except as expressly reinstated and amended pursuant hereto, the License Agreement shall remain unchanged and in full force and effect. Without limitation, the provisions of Sections 8.4, 8.5, 8.6, 8.10 and 8.14 of the License Agreement shall be deemed to be applicable to this Amendment. (b) Complete Agreement; Amendments. This Amendment, together with the License Agreement, contains the entire and exclusive agreement of the parties hereto and thereto with reference to the matters discussed herein and therein. This Amendment supersedes all prior commitments, drafts, communications, discussions and understandings, oral or written, with respect thereto. This Amendment may not be modified, amended or otherwise altered except in accordance with the terms of the License Agreement. (c) Severability. Whenever possible, each provision of this Amendment shall be interpreted in such manner as to be effective and valid under all applicable laws and regulations. If, however, any provision of this Amendment shall be prohibited by or invalid under any such law or regulation in any jurisdiction, it shall, as to such jurisdiction, be deemed modified to conform to the minimum requirements of such law or regulation, or, if for any reason it is not deemed so modified, it shall be ineffective and invalid only to the extent of such prohibition or invalidity without affecting the remaining provisions of this Amendment, or the validity or effectiveness of such provision in any other jurisdiction. (d) Counterparts. This Amendment may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute but one and the same agreement. (e) Interpretation. This Amendment is the result of negotiations among the parties hereto, and is the product of all parties hereto. Accordingly, this Amendment shall not be construed against a particular party merely because of such party's involvement in the preparation thereof. 3. 4 4. 5 IN WITNESS WHEREOF, the parties hereto have duly executed this Amendment, as of the date first above written. KOMAG, INCORPORATED By ------------------------------------- Title: KOMAG MATERIAL TECHNOLOGY, INC. By ------------------------------------- Title: KOBE STEEL, LTD. By ------------------------------------- Title: 5. EX-10.3.15 5 SUBSTRATE SALES AMENDMENT AGREEMENT 1 EXHIBIT 10.3.15 SUBSTRATE SALES AMENDMENT AGREEMENT THIS SUBSTRATE SALES AMENDMENT AGREEMENT (this "Amendment"), dated as of November 17, 1995, is made among Komag, Incorporated, a Delaware corporation ("Komag"), Komag Material Technology, Inc., a Delaware corporation ("KMT"), and Kobe Steel, Ltd., a Japanese company ("Kobe"). WHEREAS, Komag, KMT and Kobe are parties to a Finished Sales Substrate Agreement dated as of March 10, 1989 (the "Substrate Agreement"); and WHEREAS, Komag and Kobe Steel USA Holdings, Inc. are parties to a Stock Purchase Agreement dated as of the date hereof (the "Stock Purchase Agreement") and it is a condition precedent to the effectiveness of such Stock Purchase Agreement that the parties hereto execute and deliver this Amendment. NOW, THEREFORE, subject to the terms and conditions hereof, the parties hereto agree as follows: 1 Definitions. All capitalized terms used in this Amendment and not otherwise defined herein shall have the meanings assigned to them in the Substrate Agreement. 2 Amendments to the Substrate Agreement. (a) Amendments. The Substrate Agreement shall be amended as follows, effective as of the date of satisfaction of the occurrence of the Closing, as defined in the Stock Purchase Agreement: (i) Section 1.2 of the Substrate Agreement is hereby amended by deleting such Section 1.2 in its entirety and by inserting in lieu thereof the following new Section 1.2: "1.2 "Cost" will be determined quarterly and shall be KMT's cost from the prior fiscal quarter (including operating expenses and other expenses) before tax in accordance with generally accepted accounting principles consistently applied with the exception that all costs relating to stock options shall be excluded. (ii) Section 3.2 of the Substrate Agreement is hereby amended by deleting such Section 3.2 in its entirety and by inserting in lieu thereof the phrase "Intentionally Omitted." (iii) Section 8.1 of the Substrate Agreement is hereby amended by (a) deleting "Richard C. Spalding" and by inserting in lieu thereof "Andrew B. Koslow" and (b) deleting all text relating to Graham & James and by inserting in lieu thereof the following new text: "Graham & James One Maritime Plaza Suite 300 1. 2 San Francisco, CA 94111 Attention: Michael R. Moyle, Esq. Facsimile: (415) 391-2493" (iv) Section 8.11 of the Substrate Agreement is hereby amended by adding ", California" after the occurrence of "Palo Alto" appearing therein. (b) Amendment to Table of Contents. The Table of ontents of the Substrate Agreement shall be amended to the extent necessary to reflect the amendments to the Substrate Agreement made in subsection (a). (c) References Within Substrate Agreement. Each eference in the Substrate Agreement to "this Agreement" and the words "hereof," "herein," "hereunder," or words of like import, shall mean and be a reference to the Substrate Agreement as amended by this Amendment. 3 Miscellaneous. (a) Substrate Agreement Otherwise Not Affected. Except as expressly amended pursuant hereto, the Substrate Agreement shall remain unchanged and in full force and effect and is hereby ratified and confirmed in all respects. Without limitation, the provisions of Sections 8.4, 8.5, 8.6, 8.10 and 8.15 of the Substrate Agreement shall be deemed to be applicable to this Amendment. (b) Complete Agreement; Amendments. This Amendment, together with the Substrate Amendment, contains the entire and exclusive agreement of the parties hereto and thereto with reference to the matters discussed herein and therein. This Amendment supersedes all prior commitments, drafts, communications, discussions and understandings, oral or written, with respect thereto. This Amendment may not be modified, amended or otherwise altered except in accordance with the terms of the Substrate Agreement. (c) Severability. Whenever possible, each provision of this Amendment shall be interpreted in such manner as to be effective and valid under all applicable laws and regulations. If, however, any provision of this Amendment shall be prohibited by or invalid under any such law or regulation in any jurisdiction, it shall, as to such jurisdiction, be deemed modified to conform to the minimum requirements of such law or regulation, or, if for any reason it is not deemed so modified, it shall be ineffective and invalid only to the extent of such prohibition or invalidity without affecting the remaining provisions of this Amendment, or the validity or effectiveness of such provision in any other jurisdiction. (d) Counterparts. This Amendment may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute but one and the same agreement. (e) Interpretation. This Amendment is the result of negotiations among the parties hereto and is the product of all parties hereto. Accordingly, this Amendment shall not be construed against a particular party merely because of such party's involvement in the preparation thereof. 2. 3 IN WITNESS WHEREOF, the parties hereto have duly executed this Amendment, as of the date first above written. KOMAG, INCORPORATED By ------------------------------------- Title: KOMAG MATERIAL TECHNOLOGY, INC. By ------------------------------------- Title: KOBE STEEL, LTD. By ------------------------------------- Title: 3. EX-10.14 6 FIRST AMENDMENT TO CREDIT AGREEMENT 1 EXHIBIT 10.14 FIRST AMENDMENT TO CREDIT AGREEMENT - THREE YEAR FACILITY This First Amendment To Credit Agreement - Three Year Facility is entered into this 29th day of March, 1995, by and among (a) KOMAG, INCORPORATED, a Delaware corporation ("Borrower"); (b) the banks from time to time party hereto, together with their respective successors and assigns (each a "Bank" and collectively the "Banks"); and FIRST INTERSTATE BANK OF CALIFORNIA, a California banking corporation ("FICAL"), as agent for the Banks (in such capacity, the "Agent"). This First Amendment amends that certain Credit Agreement - Three Year Facility dated as of December 15, 1994 and executed by and among Borrower, Banks and Agent and Bank as follows: 1. Section 6.02, NEGATIVE COVENANTS (j) (vi), page 29: delete the "and" at the end of the sub-section; 2. Section 6.02, NEGATIVE COVENANTS (j) (vii), page 30: delete the "." at the end of the sub-section and replace with "; and"; 3 Section 6.02, NEGATIVE COVENANTS (j), page 30, insert a new "(viii)" as follows: "(viii) make investments which in the aggregate do not exceed $5,000,000 during the term of this Agreement pursuant to Borrower's Non Qualified Deferred Compensation Plan which will become effective March 31, 1995." - - - - - - - - - - - Except as specifically amended in this First Amendment or to the extent necessary to be consistent with the provisions of this First Amendment, the Credit Agreement - Three Year Facility shall continue in full force and effect and be binding upon Borrower, Banks and Agent notwithstanding the execution and delivery of this First Amendment. 2 IN WITNESS WHEREOF, the parties hereto have duly executed this First Amendment as of the day and year first hereinabove written. FIRST INTERSTATE BANK OF KOMAG, INCORPORATED CALIFORNIA, as the Agent and as a Bank By: By: ----------------------------------- --------------------------------- Title: Title: -------------------------------- ------------------------------ Address: South Bay Regional Corporate Center By: 177 Park Center Plaza --------------------------------- San Jose, California 95113 Title: Attention: Teresa J. Heller ------------------------------ Senior Vice President Address: 275 South Hillview Drive Milpitas, California 95035 Attention: David H. Allen Treasurer COMERICA BANK - CALIFORNIA ABN AMRO BANK, N.V. By: By: ----------------------------------- --------------------------------- Title: Title: -------------------------------- ------------------------------ Address 333 West Santa Clara Street By: San Jose, California 95113 --------------------------------- Attention: Lori S. Edwards Title: First Vice President ------------------------------ Address: 101 California Street San Francisco, California 94111-5812 Attention: Robin S. Yim Vice President EX-10.15 7 SECOND AMENDMENT TO CREDIT AGREEMENT 1 EXHIBIT 10.15 SECOND AMENDMENT TO CREDIT AGREEMENT - THREE YEAR FACILITY This Second Amendment to Credit Agreement - Three Year Facility is entered into as of this fifteenth day of December, 1995, by and among (a) KOMAG, INCORPORATED, a Delaware corporation ("Borrower"); (b) the banks from time to time party hereto, together with their respective successors and assigns (each a "Bank" and collectively "Banks"); and FIRST INTERSTATE BANK OF CALIFORNIA, a California banking corporation ("FICAL"), as agent for the Banks (in such capacity, the "Agent"). This Second Amendment amends that certain Credit Agreement - Three Year Facility dated as of December 15, 1994 and that certain First Amendment thereto dated March 29, 1995 (jointly, the "Agreement"), each of which were executed by and among Borrower, Banks and the Agent as follows: 1. SECTION 1.01., DEFINED TERMS., "Maturity Date", page 5: delete this definition and replace with "December 15, 1999, unless an extension shall occur under Section 2.01, in which case "Maturity Date" shall mean the amended Maturity Date resulting from such extension."; 2. SECTION 2.01., THE REVOLVING LOANS., (c) Commitment Fee., page 9: delete this section and replace with "Borrower agrees to pay to the Agent, for the pro rata benefit of the Banks in accordance with their respective Commitment Percentages, a commitment fee equal to ten (10) basis points of the Aggregate Commitment, calculated on the basis of a 360-day year for the actual days elapsed, payable on December 15, 1995 and on each anniversary date thereafter."; 3. SECTION 2.01., THE REVOLVING LOANS., (f) Non-Utilization Fee., page 10: delete this section and replace with "Borrower agrees to pay to the Agent, for the pro rata benefit of the Banks in accordance with their respective Commitment Percentages, a non-utilization fee equal to fifteen (15) basis points of average daily unused portion of the Aggregate Commitment from December 15, 1995 until the Maturity Date, and any extensions thereof, payable on the last day of each December, March, June and September (for the preceding quarter) commencing on the first such date occurring after December 15,1995 and on the Maturity Date.", 2 4. SECTION 2.01., THE REVOLVING LOANS., (g) Extension of Maturity Date., pages 10 and 11, inclusive: delete "the then current Maturity Date" and replace with "each anniversary date" on lines 5, lines 7 and 8 and lines 9 and 10; 5. SECTION 2.03., INTEREST RATE AND PAYMENT DATES., (c) Eurodollar Rate Loans., page 13: delete the schedule and replace with "If Borrower's Consolidated Debt to Consolidated Capital is less than .25 to 1.0: 75 basis points; and If Borrower's Consolidated Debt to Consolidated Capital is equal to or greater than .25 to 1.0: 90 basis points."; 6. SECTION 2.03., INTEREST RATE AND PAYMENT DATES., (c) Eurodollar Rate Loans., page 13: add a new introductory sentence to the last paragraph as follows "Notwithstanding anything to the contrary contained in the Agreement, for purposes of calculating the rates referred to in this subsection, Borrower's convertible subordinated debt shall not be included as part of its Consolidated Debt."; 7. SECTION 6.01., AFFIRMATIVE COVENANTS., (b) Notices and Information.,(i), (c), page 24: delete "$1,000,000" wherever it appears and replace with "$10,000,000"; 8. SECTION 6.02., NEGATIVE COVENANTS., (d) Consolidated Tangible Net Worth., line 7, page 27: insert the following between "Subsidiaries" and "adjusted" "(other than equity investments by the Borrower in its Consolidated Subsidiaries or equity investments by the Borrower's Consolidated Subsidiaries in the Borrower)"; 9. SECTION 6.02., NEGATIVE COVENANTS., (e) Domestic Unrestricted Cash Balances., page 27: delete this section and its header in their entirety; 10. SECTION 6.02., NEGATIVE COVENANTS., (f) Liens, Etc., (g) Debt., (h) Dividends, Etc., (i) Consolidation, Merger or Acquisition., A) Loans, Investments, Secondary Liabilities., and (k) Asset Sales., pages 27 through 30, inclusive: reletter as (e) Liens, Etc., (f) Debt., (g) Dividends, Etc., (h) Consolidation, Merger or Acquisition., (i) Loans, Investments, Secondary Liabilities. , and A) Asset Sales. Page 2 of 6 3 11. SECTION 6.02., NEGATIVE COVENANTS., (f) Debt., (iv), page 28: delete "$35,000,000" wherever it appears and replace with "$100,000,000" and delete "$20,000,000" and replace with "$50,000,000"; 12. SECTION 6.02., NEGATIVE COVENANTS., (g) Dividends., page 28, lines 10 through 13, inclusive: delete "repurchase up to 500,000 shares of stock per fiscal year of Borrower on the open market to meet employee stock option plan requirements for Dastek employees; and (iv) make repurchases of employee stock and/or employee stock options which in the aggregate do not exceed $500,000 per fiscal year" and replace with "repurchase stock of Borrower in an amount not to exceed $15,000,000 in any calendar year"; 13. SECTION 6.02., NEGATIVE COVENANTS., (j) Asset Sales., (i), page 30: delete "12.5%" and replace with "20%"; 14. SECTION 6.02., NEGATIVE COVENANTS., (I) Domestic Assets of Borrower and its Consolidated Subsidiaries., page 30: delete this section and its header in their entirety; 15. SECTION 6.02., NEGATIVE COVENANTS., page 30: add a new "(k)" as follows "(k)" Debt Service Coverage Ratio. Permit earnings before interest plus taxes plus depreciation plus amortization ("EBITDA") divided by interest expense plus scheduled principal payments plus $15,000,000 to be less than 2.0 to 1.0 at any time during the term of the Agreement. This ratio will be calculated on a rolling prior four quarter basis."; 16. SECTION 7.01., EVENTS OF DEFAULT.(h), page 32: delete this subsection in its entirety; 17. SECTION 7.01., EVENTS OF DEFAULT., subsections (i) and (j), pages 32 and 33, inclusive: reletter as "(h)" and "(i)", respectively; 18. SECTION 7.01., EVENTS OF DEFAULT., subsection (i), lines 2 through 4, inclusive, page 33: delete "or against any guarantor (at such time or times as there are any outstandings under the Borrowings which were the subject of any guarantee executed by such guarantor),"; 19. SECTION 9.02., NOTICES, ETC., line 9, page 37: delete "or VII"; 20. SECTION 9.07., EFFECTIVENESS; BINDING EFFECT; GOVERNING LAW., line 8, page 39: delete "$35,000,000" and replace with "$95,000,000"; 4 Page 3 of 6 21. Signature page, page 41: change the Borrower's zip code from "95124" to "95035", 22. Signature page, page 41: change Standard Chartered Bank's address from "707 Wilshire Boulevard, Los Angeles, California 90017, Attention: Rita Raychaudhuri" to "7 World Trade Center, New York, New York 10048, Attention: Peter Dodds"; 23. Delete Exhibit A and replace with the attached; 24. Delete Exhibit 1 and replace with the attached; 25. Delete Exhibit 4 and replace with the attached; and 26. Borrower shall pay to the Agent a sum not to exceed $5,000 simultaneously with its execution of this Second Amendment to reimburse the Agent for its attorney's fees in conjunction with the preparation and negotiation of this Second Amendment. 27. Borrower hereby represents and warrants to the Banks and the Agent that (a) the representations and warranties contained in the Agreement are true in all material respects on and as of the date of this Second Amendment, (b) no event has occurred and is continuing which constitutes an Event of Default or Potential Event of Default, and (c) the documents previously delivered to the Agent and the Banks pursuant to clauses (ii), (iii) and (v) of Section 4.01 (a) remain in full force and effect. 28. Except as specifically amended pursuant to the foregoing paragraphs of this Second Amendment, all recitals, representations, warranties, covenants, undertakings, promises, indemnities, terms, conditions and provisions of the Agreement shall remain in full force and effect and shall be and remain unaffected by this Second Amendment. 29. This Second Amendment shall become effective when the Agent (which shall promptly distribute such information to each of the Banks) shall have received all of the following: (a) Counterparts of this Second Amendment signed by the Borrower, the Banks and the Agent. (b) The Revolving Notes in the form attached hereto as Exhibit A duly signed by an authorized officer of the Borrower in favor of each of the Banks. Such promissory notes shall constitute the Revolving Notes as defined in and for the purpose of the Agreement and shall be deemed to have amended and restated the Revolving Notes previously executed and delivered by the Borrower under the Agreement. 5 Page 4 of 6 30. This Amendment may be signed in any number of counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. This Second Amendment and the Agreement constitute the entire agreement and understanding among the parties hereto and supersedes any and all prior agreements and understandings, oral or written, relating to the subject matter hereof. 31. This Amendment shall be governed by, and construed and enforced in accordance with, the internal laws of the State of California without regard to principles of conflicts of laws. ------------ IN WITNESS WHEREOF, the parties hereto have duly executed this Second Amendment as of the day and year first hereinabove written. FIRST INTERSTATE BANK OF CALIFORNIA, KOMAG, INCORPORATED, as the Agent as Borrower and as a Bank By: By: -------------------------------- --------------------------------- Title: Title: ------------------------------ ------------------------------ Address: 275 South Hillview Drive Milpitas, CA 95035 Attention: David H .Allen Treasurer Address: South Bay Regional Corporate 177 Park Center Plaza San Jose, CA 95113 Attention: Erik B. Larsen Vice President Page 5 of 6 6 COMERICA BANK - CALIFORNIA ABN-AMRO BANK, N.V. as a Bank as a Bank By: ABN AMRO North America, Inc. , as agent By: By: ------------------------------ --------------------------------- Its: Its: ------------------------------ -------------------------------- Address: Address: 333 West Santa Clara Street 101 California Street, Suite 4550 San Jose, CA 95113 San Francisco, CA 94111-5812 Attention: Lori S. Edwards Attention: Robin S. Yim First Vice President Vice President STANDARD CHARTERED BANK as a Bank By: ------------------------------- Its: ------------------------------ Address: 7 World Trade Center New York, NY 10048 Attention: Peter Dodds Vice President 6 of 6 EX-10.16 8 CREDIT AGREEMENT DATED DECEMBER 15, 1995 1 EXHIBIT 10.16 $35,000,000 CREDIT AGREEMENT DATED AS OF DECEMBER 15, 1995 BETWEEN KOMAG, INCORPORATED AND THE INDUSTRIAL BANK OF JAPAN, LIMITED, SAN FRANCISCO AGENCY 2 TABLE OF CONTENTS ARTICLE I DEFINITIONS . . . . . . . . . . . . . . . . . . . . . . . 1 SECTION 1.1. DEFINED TERMS . . . . . . . . . . . . . . . . . . . 1 SECTION 1.2. OTHER DEFINITIONAL PROVISIONS. . . . . . . . . . . . 8 ARTICLE II THE REVOLVING LOANS . . . . . . . . . . . . . . . . . . . 9 SECTION 2.1. THE REVOLVING LOANS. . . . . . . . . . . . . . . . . 9 SECTION 2.2. REPAYMENT. . . . . . . . . . . . . . . . . . . . . . 12 SECTION 2.3. INTEREST RATE AND PAYMENT DATES . . . . . . . . . . 13 SECTION 2.4. CONTINUATION AND CONVERSION OPTIONS . . . . . . . . 13 ARTICLE III GENERAL PROVISIONS CONCERNING THE REVOLVING LOANS . . . . . . . . . . . . . . . . . . 14 SECTION 3.1. USE OF PROCEEDS . . . . . . . . . . . . . . . . . . 14 SECTION 3.2. POST MATURITY INTEREST . . . . . . . . . . . . . . . 14 SECTION 3.3. COMPUTATION OF INTEREST . . . . . . . . . . . . . . 15 SECTION 3.4. PAYMENTS . . . . . . . . . . . . . . . . . . . . . . 15 SECTION 3.5. PAYMENT ON NON-BUSINESS DAYS . . . . . . . . . . . . 15 SECTION 3.6. REDUCED RETURN . . . . . . . . . . . . . . . . . . . 15 SECTION 3.7. INDEMNITIES . . . . . . . . . . . . . . . . . . . . 16 SECTION 3.8. FUNDING SOURCES . . . . . . . . . . . . . . . . . . 17 SECTION 3.9 INABILITY TO DETERMINE INTEREST RATE . . . . . . . . 17 SECTION 3.10. REQUIREMENTS OF LAW . . . . . . . . . . . . . . . . 18 SECTION 3.11. ILLEGALITY . . . . . . . . . . . . . . . . . . . . . 19 ARTICLE IV CONDITIONS OF LENDING . . . . . . . . . . . . . . . . . . 20 SECTION 4.1. CONDITIONS PRECEDENT TO INITIAL REVOLVING LOANS . . 20 SECTION 4.2. CONDITIONS PRECEDENT TO EACH BORROWING . . . . . . . 21 ARTICLE V REPRESENTATIONS AND WARRANTIES . . . . . . . . . . . . . . 21
3 SECTION 5.1. REPRESENTATIONS AND WARRANTIES . . . . . . . . . . . . . . . . . 21 ARTICLE VI COVENANTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 SECTION 6.1. AFFIRMATIVE COVENANTS . . . . . . . . . . . . . . . . . . . . . 25 SECTION 6.2. NEGATIVE COVENANTS . . . . . . . . . . . . . . . . . . . . . . . 29 ARTICLE VII EVENTS OF DEFAULT . . . . . . . . . . . . . . . . . . . . . . . . . . 32 SECTION 7.1. EVENTS OF DEFAULT . . . . . . . . . . . . . . . . . . . . . . . 32 ARTICLE VIII MISCELLANEOUS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36 SECTION 8.1. AMENDMENTS, ETC . . . . . . . . . . . . . . . . . . . . . . . . 36 SECTION 8.2. NOTICES, ETC . . . . . . . . . . . . . . . . . . . . . . . . . . 36 SECTION 8.3. RIGHT OF SETOFF . . . . . . . . . . . . . . . . . . . . . . . . 36 SECTION 8.4. NO WAIVER: REMEDIES . . . . . . . . . . . . . . . . . . . . . . 37 SECTION 8.5. COSTS AND EXPENSES . . . . . . . . . . . . . . . . . . . . . . . 37 SECTION 8.6. PARTICIPATIONS . . . . . . . . . . . . . . . . . . . . . . . . . 37 SECTION 8.7. EFFECTIVENESS, BINDING EFFECT; GOVERNING LAW . . . . . . . . . . 38 SECTION 8.8. CONSENT TO JURISDICTION; VENUE. BANK FOR SERVICE OF PROCESS . . 39 SECTION 8.9. ENTIRE AGREEMENT . . . . . . . . . . . . . . . . . . . . . . . . 40 SECTION 8.10. SEPARABILITY OF PROVISIONS . . . . . . . . . . . . . . . . . . . 40 SECTION 8.11. EXECUTION IN COUNTERPARTS . . . . . . . . . . . . . . . . . . . 40 SECTION 8.12. SUCCESSORS AND ASSIGNS . . . . . . . . . . . . . . . . . . . . . 40 SECTION 8.13. EFFECTIVENESS OF AGREEMENT . . . . . . . . . . . . . . . . . . . 40
EXHIBIT A: NOTICE OF BORROWING EXHIBIT B: REVOLVING NOTE SCHEDULE 1: EXISTING LIENS SCHEDULE 2: SUBSIDIARIES -ii- 4 CREDIT AGREEMENT This CREDIT AGREEMENT, dated as of December 15, 1995, is entered into between KOMAG, INCORPORATED, a Delaware corporation ("Borrower"), and THE INDUSTRIAL BANK OF JAPAN, LIMITED, SAN FRANCISCO AGENCY ("Bank"). The parties hereto hereby agree as follows: I DEFINITIONS I.1 DEFINED TERMS. As used in this Agreement, the following terms have the following meanings: "Agreement": This Credit Agreement, as amended, supplemented or modified from time to time. "Bank": As set forth in the introductory paragraph of this Agreement. "Borrower": As set forth in the introductory paragraph of this Agreement. "Business Day": A day other than a Saturday, Sunday or a day on which commercial banks in California are authorized or required by law to close. "Capital Lease": As applied to any Person, any lease of any property (whether real, personal or mixed) by that Person as lessee which would, in accordance with GAAP, be required to be accounted for as a capital lease on the balance sheet of that Person. "Commitment": The Commitment of Bank to make Revolving Loans to Borrower pursuant to Article II up to, but not exceeding, at any time outstanding the amount of $35,000,000.00. "Confidentiality Letter": As set forth in Section 8.6(b). "Consolidated Subsidiary" or "Consolidated Subsidiaries": Any corporation or other Person more than 50% of the outstanding voting stock of which shall at the time be owned by Borrower or another Consolidated Subsidiary, excluding from this definition Asahi Komag Co., Ltd., a Japanese corporation. -iii- 5 "Consolidated Tangible Net Worth": At any date of determination, the excess of total assets over consolidated liabilities of Borrower and its Consolidated Subsidiaries determined on a consolidated basis, excluding, however from the determination of total assets (i) all intangible assets, including, without limitation, goodwill (whether representing the excess cost over book value of assets acquired or otherwise), patents, trademarks, trade names, copyrights, franchises, and deferred charges (including, without limitation, unamortized debt discount and expense, organization and research and product development costs), (ii) treasury stock, (iii) cash set apart and held in a sinking or other analogous fund established for the purpose of redemption or other retirement of capital stock, and (iv) to the extent not already deducted from total assets, reserves for depreciation, depletion, obsolescence, and/or amortization of properties and all other reserves or appropriation of retained earnings which, in accordance with GAAP, should be established in connection with the business conducted by the relevant corporation. "Convertible Debt": Debt subordinate by its terms to the Revolving Loans converted at the option of Borrower to equity securities. "Dastek(M)": Dastek(M) SDN BHD, a Malaysian corporation. "Debt": As applied to any Person, (i) all indebtedness for borrowed money, (ii) that portion of obligations with respect to Capital Leases which is property classified as a liability on a balance sheet in conformity with GAAP, (iii) notes payable and drafts accepted representing extensions of credit whether or not representing obligations for borrowed money, (iv) any obligation owed for all or any part of the deferred purchase price of property or services which purchase price is (A) due more than six months from the date of incurrence of the obligation in respect thereof or (B) evidenced by a note or similar written instruments, and (v) all indebtedness secured by any Lien on any property or asset owned or held by that Person regardless of whether the indebtedness secured thereby shall have been assumed by that Person or is non-recourse to the credit of that Person. "Dollars" and "$": Dollars in lawful currency of the United States of America. -2- 6 "Employee Benefit Plan": Any Pension Plan, any employee welfare benefit plan or any other employee benefit plan which is described in Section 3(3) of ERISA and which is maintained for employees of Borrower or any ERISA Affiliate of Borrower. "ERISA": The Employee Retirement Income Security Act of 1974, as amended from time to time and any successor statute. "ERISA Affiliate": As applied to any Person, any trade or business (whether or not incorporated) which is a member of a group of which that Person is a member and which is under common control within the meaning of Section 414(b) or (c) of the Internal Revenue Code, but excluding any Subsidiary or other Person that is not a Consolidated Subsidiary. "Eurodollar Business Day": A day which is a Business Day on which dealings in Dollar deposits may be carried out in the interbank Eurodollar market. "Eurodollar Rate": For each Interest Period (i) the rate of interest determined by Bank at which deposits for the relevant Interest Period would be offered to Bank in the approximate amount of the relevant Eurodollar Rate Loan for the Interest Period requested by Borrower in the interbank Eurodollar market selected by Bank, upon request of Bank at 11:00 A.M. (San Francisco time) on the day which is one Eurodollar Business Day prior to the first day of such Interest Period, divided by (ii) a number equal to 1.00 minus the aggregate (but without duplication) of the rates, if any, (expressed as a decimal fraction) of reserve requirements in effect on the day which is one Eurodollar Business Day prior to the beginning of such Interest Period (including, without limitation, basic, supplemental, marginal and emergency reserves under any regulations of the Board of Governors of the Federal Reserve System or other governmental authority having jurisdiction with respect thereto, as in effect at the time Bank quotes the rate to Borrower) for Eurocurrency funding of domestic assets (currently referred to as "Eurocurrency liabilities" in Regulation D of such Board) which are required to be maintained by a member bank of such System (such rate to be adjusted to the next higher 1/16 of 1%). "Eurodollar Rate Loans": Revolving Loans hereunder at such time as they accrue interest at a rate -3- 7 based upon the Eurodollar Rate. "Event of Default": As defined in Article VII. "FICAL": First Interstate Bank of California, a California banking corporation. "GAAP": Generally accepted accounting principles set forth in the opinions and pronouncements of the Accounting Principles Board of the American Institute of Certified Public Accountants and statements and pronouncements of the Financial Accounting Standards Board or in such other statements by such other entity as may be approved by a significant segment of the accounting profession, as may be in effect from time to time. "Interest Payment Date": As to any Prime Rate Loan until payment in full, the Maturity Date and the last day of each December, March, June, and September commencing on the first of such days to occur after a Prime Rate Loan is made. As to any Eurodollar Rate Loan with an Interest Period of three months or less, the last day of such Interest Period and the Maturity Date, and as to any Eurodollar Rate Loan with an Interest Period in excess of three months, (i) the last day of each December, March, June and September following the beginning of such Interest Period, (ii) the last day of such Interest Period, and (iii) the Maturity Date. "Interest Period": With respect to any Eurodollar Rate Loan: (i) initially, the period commencing on, as the case may be, the Revolving Loan or conversion date with respect to such Eurodollar Rate Loan and ending one, two, three, six, nine, or twelve months thereafter so long as the Eurodollar Rate is quoted for such period in the applicable interbank Eurodollar market, as selected by Borrower in the notice of Revolving Loan as provided in Section 2.1(b) or the notice of conversion as provided in Section 2.4; and (ii) thereafter, each period commencing on the last day of the next preceding Interest Period applicable to such Eurodollar Rate Loan and ending one, two, three, six, nine, or twelve months thereafter so long as the Eurodollar Rate is quoted for such period in the applicable interbank Eurodollar market, as selected by Borrower in the notice of continuation as provided in -4- 8 Section 2.4; provided that all of the foregoing provisions relating to Interest Periods are subject to the following: (a) if any Interest Period for a Eurodollar Rate Loan would otherwise end on a day which is not a Eurodollar Business Day, that Interest Period shall be extended to the next succeeding Eurodollar Business Day; and (b) there shall be no more than six Interest Periods outstanding at any time. "Internal Revenue Code": The Internal Revenue Code of 1986, as amended to the date hereof and from time to time hereafter. "Lien": Any lien, mortgage, deed of trust, pledge, security interest, charge, or encumbrance of any kind (including any conditional sale or other title retention agreement, any lease in the nature thereof, and any agreement to give any security interest). "Loan Documents": This Agreement, the Revolving Note, and other documents executed in connection with this Agreement and/or the Revolving Loans extended hereunder, including, without limitation all amendments, waivers, and consents relating thereto. "Material Adverse Effect": As defined in Section 5.1(f). "Maturity Date": That date which is four years from the date of this Agreement, unless an extension shall occur under Section 2.1, in which case "Maturity Date" shall mean the amended Maturity Date resulting from such extension. "Multiemployer Plan": A "multiemployer plan" as defined in Section 4001(a)(3) of ERISA which is maintained for employees of Borrower or any ERISA Affiliate of Borrower. "Pension Plan": Any employee plan which is subject to Section 412 of the Internal Revenue Code and which is maintained for employees of Borrower or any ERISA Affiliate of Borrower, other than a Multiemployer Plan. "Permitted Liens": A lien, security interest, -5- 9 encumbrance, or charge (a) for taxes, assessments, charges, or claims of Borrower either not yet due or being contested in good faith by appropriate proceedings, (b) arising out of judgments or awards against Borrower with respect to which an appeal or other proceeding is being prosecuted in good faith and with respect to which there shall have been secured a stay of execution pending such appeal or proceedings or which is vacated or discharged within thirty (30) days after the termination of such stay, (c) materialmen's, mechanics', workers', repairmen's, employee's, or other like liens arising in the ordinary course of business for amounts either not yet due or being contested in good faith by appropriate proceedings, (d) granted by Borrower to Bank pursuant to this Agreement, (e) liens, deposits, or pledges made to secure statutory obligations, workers' compensation claims, surety or appeal bonds, or bonds for the release of attachments or for stay of execution, or to secure the performance of bids, lenders contracts (other than for the payment of borrowed money), leases or for purposes of like general nature in the ordinary course of Borrower's business, (f) purchase money security interests for property acquired, conditional sale agreements, or other title retention agreements with respect to property acquired, provided, however, that no such security interest or agreement shall extend to any property other than such after-acquired property and proceeds, (g) refunding, refinancing, or extension of the liens or security interests permitted in the foregoing clause not exceeding the principal amount of indebtedness so refunded, refinanced, or extended at the time of the refunding, refinancing, or extension thereof, and applying only to the same property theretofore subject to such lien or security interest, (h) liens existing on the date hereof and identified in Schedule 1 attached hereto or incurred with any refunding, refinancing, or extension of any such indebtedness secured by such liens, provided that such refinancing, refunding or extension shall not increase the amount, as of the date of such refinancing, refunding, or extension, secured by any such lien or security interest, (i) other liens securing indebtedness, the principal amount of which shall not exceed $2,000,000; (j) liens in property of Asahi Komag Co., Ltd., a Japanese corporation; and (k) liens taken by Borrower on its Subsidiaries. "Person": An individual, partnership, corporation, limited liability company, business trust, joint stock company, trust, unincorporated association, joint venture, governmental authority, or other entity of -6- 10 whatever nature. "Potential Event of Default": A condition or event which, after notice or lapse of time or both, would constitute an Event of Default if that condition or event were not cured or removed within any applicable grace or cure period. "Prime Rate": On any day, the higher of (a) the rate of interest most recently announced by The Industrial Bank of Japan, Limited at its New York branch as its "Prime Rate" ("IBJ Prime Rate") for loans in Dollars in the United States and (b) the Federal Funds Rate plus a margin of 0.50%. The IBJ Prime Rate is one of The Industrial Bank of Japan, Limited's base rates and serves as the basis upon which effective rates of interest are calculated for those loans making reference thereto. The IBJ Prime Rate is evidenced by the recording thereof after its announcement in such internal publication or publications as The Industrial Bank of Japan, Limited may designate and may not be the lowest of The Industrial Bank of Japan, Limited base rates. Any change in any of the interest rates chargeable hereunder resulting from a change in IBJ Prime Rate shall become effective as of 12:01 a.m. (San Francisco time): (a) on the Domestic Business Day on which each change in the IBJ Prime Rate is announced by The Industrial Bank of Japan, Limited, if such change is announced prior to 11:00 a.m. (San Francisco time) on such day, and (b) on the Domestic Business Day following the Domestic Business Day on which each change in the IBJ Prime Rate is announced if such change is announced at or after 11:00 a.m. (San Francisco time) on such day. "Prime Rate Loans": Revolving Loans hereunder at such time as they accrue interest at a rate based upon the Prime Rate. "Regulation G, T, U and X": Regulations G, T, U and X, respectively, promulgated by the Board of Governors of the Federal Reserve System, as amended from time to time, and any successors thereto. "Revolving Loans": As defined in Section 2.1(a). "Revolving Note": As defined in Section 2.1(f). "S.E.C.": The United States Securities and Exchange Commission and any successor institution or body which performs the functions or substantially all of the -7- 11 functions thereof. "Subsidiary": A corporation or other Person of which at least fifty percent (50%) of the outstanding voting stock or profit interests shall at the time be owned by Borrower or another Subsidiary. "Termination Event": (i) a "Reportable Event" described in Section 4043 of ERISA and the regulations issued thereunder (other than a "Reportable Event" not subject to the provision for 30-day notice to the Pension Benefit Guaranty Corporation under such regulations), or (ii) the withdrawal of Borrower or any of its ERISA Affiliates from a Pension Plan during a plan year in which it was a "substantial employer" as defined in Section 4001(1)(2) or 4068(f) of ERISA, or (iii) the filing of a notice of intent to terminate a Pension Plan or the treatment of a Pension Plan amendment as a termination under Section 4041 of ERISA, or (iv) the institution of proceedings to terminate a Pension Plan by the Pension Benefit Guaranty Corporation (v) any other event or condition which might constitute grounds under ERISA for the termination of, or the appointment by the Pension Benefit Guaranty Corporation of a trustee to administer, any Pension Plan, or (vi) the imposition of a lien pursuant to Section 412(n) of the Internal Revenue Code. "Transfer": As defined in Section 6.2(i). I.2 OTHER DEFINITIONAL PROVISIONS. (a) All terms defined in this Agreement shall have the deemed meanings when used in the Revolving Note or any certificate or other document made or delivered pursuant hereto. (b) As used herein and in the Revolving Note, and any certificate or other document made or delivered pursuant hereto, accounting terms not defined in Section 1.1, and accounting terms partly defined in Section 1.1 to the extent not defined, shall have the respective meanings given to them under GAAP, and all financial data required to be delivered hereunder shall be prepared in accordance with GAAP, except that foreign currency translation adjustments need not be included for purposes of determining Borrower's equity or net worth. If any changes in GAAP from those used in the preparation of the financial statements referred to in Section 5.1(e) ("GAAP Changes") hereafter occasioned by the promulgation of rules, regulations, pronouncements, and opinions by or -8- 12 required by the Financial Accounting Standards Board of the American Institute of Certified Public Accountants (or successors thereto or agencies with similar functions) result in a change in the method of calculation of any of the financial covenants, standards, or other terms or conditions found in this Agreement, the parties hereto agree to enter into negotiations to amend such provisions so as to reflect equitably such GAAP Changes with the desired result that the criteria for evaluating the financial condition and performance of Borrower and its Consolidated Subsidiaries shall be the same after such GAAP Changes as if such GAAP Changes had not been made. (c) For purposes of this Agreement and unless otherwise specified herein: (i) For purposes of computing periods of time: (A) the word "from" means "from and including" and the words "to" and "until" each mean "to but excluding"; and (B) periods measured in days shall be measured in calendar days. (ii) References to the plural include the singular and to the singular include the plural, references to any gender include any other gender, the part includes the whole, the term "including" is not limiting, and the term "or" has, except where otherwise indicated, the inclusive meaning represented by the phrase "and/or." References to any fiscal period are references to fiscal periods of Borrower. References in this Agreement to any determination by Bank include good faith estimates (in the case of quantitative determinations) by Bank; any such determination made in good faith by Bank shall be presumptively correct absent manifest error. The words "hereof," "herein," "hereby," and "hereunder," and any other similar words, refer to this Agreement as a whole and not to any particular provision of this Agreement, unless otherwise specified. Article, section, subsection, clause, exhibit, and schedule references are to this Agreement. Any reference to this Agreement or any other Loan Document includes all permitted alterations, amendments, changes, extensions, modifications, renewals, or supplements thereto or thereof, as applicable. (iii) All of the exhibits and schedules attached hereto are incorporated herein by this reference. (iv) Neither this Agreement nor any other Loan Document nor any uncertainty or ambiguity herein or therein shall be construed or resolved using any -9- 13 presumption against any party hereto or thereto, whether under any rule of construction or otherwise. On the contrary, this Agreement and the other Loan Documents have been reviewed by each of the parties and their counsel and, in the case of any ambiguity or uncertainty, shall be construed and interpreted according to the ordinary meaning of the words used so as to fairly accomplish the purposes and intentions of all parties hereto. (v) All agreements and covenants hereunder and under the other Loan Documents shall be given independent effect such that if a particular action or condition is prohibited by the terms of any such agreement or covenant, the fact that such action or condition would be permitted within the limitations of another agreement or covenant shall not be construed as allowing such action to be taken or condition to exist. II THE REVOLVING LOANS II.1. THE REVOLVING LOANS. (a) The Commitment. Bank agrees, on the terms and conditions hereinafter set forth, to make loans ("Revolving Loans") to Borrower from time to time during the period from the date hereof to and including the Maturity Date in the aggregate principal amount not to exceed at any one time outstanding the Commitment, as such amount may be reduced pursuant to Section 2.1(e). Each Revolving Loan shall be in a minimum amount of $1,000,000 and in an integral multiple of $100,000 above such amount for a Prime Rate Loan and in a minimum amount of $1,000,000 and in an integral multiple of $500,000 above such amount for a Eurodollar Rate Loan. Within the limits of each Commitment, Borrower may borrow, repay pursuant to Section 2.2(b) and reborrow under this Section, provided that at no time shall the aggregate principal amount of outstanding Revolving Loans exceed the Commitment then in effect. (b) Making the Revolving Loans. Borrower may borrow under the Commitment on any Business Day if the Revolving Loan is to be a Prime Rate Loan and on any Eurodollar Business Day if the Revolving Loan is to be a Eurodollar Rate Loan, provided Borrower shall give Bank irrevocable notice in the form of Exhibit A (which notice -10- 14 must be received by Bank prior to 9:00 A.M., San Francisco time) (i) three Eurodollar Business Days prior to the requested borrowing date in the case of a Eurodollar Rate Loan, and (ii) on the Business Day of the requested borrowing in the case of a Prime Rate Loan, specifying (A) the amount of the proposed Revolving Loan, (B) the requested date of the Revolving Loan, (C) whether the Revolving Loan is to consist of a Prime Rate Loan or a Eurodollar Rate Loan, and (D) if the Revolving Loan is to be a Eurodollar Rate Loan, the length of the Interest Period therefor. Upon satisfaction of the applicable conditions set forth in this Section and in Article IV, the proceeds of such Revolving Loan will then be made available to Borrower by Bank by crediting the account of Borrower on the books of Bank, or as otherwise directed by Borrower. The notice of Revolving Loan may be given orally (including telephonically) or in writing (including telex or facsimile transmission) and any conflict regarding a notice or between an oral notice and a written notice applicable to the same Revolving Loan shall be conclusively determined by Bank's books and records. Bank shall not incur any liability to Borrower in acting upon any notice of Revolving Loan which Bank believes in good faith to have been given by a Person duly authorized to give such notice on behalf of Borrower. (c) Arrangement Fee. Borrower agrees to pay to Bank, on the date of Borrower's execution of this Agreement, the arrangement fee specified in the letter from Bank to Borrower, dated October 26, 1995. (d) Commitment Fee. Borrower agrees to pay to Bank a commitment fee equal to 0.10% per annum of the maximum amount of the Commitment (whether or not used), which shall be calculated on the basis of a 365-day year for the actual days elapsed, payable quarterly in arrears on the last day of each December, March, June, and September, commencing the first such date occurring after the date of this Agreement, and on the Maturity Date. (e) Reduction of the Commitment. Borrower shall have the right, upon at least two (2) Business Days' notice to Bank, to terminate in whole or reduce in part the unused portion of the Commitment, without premium or penalty, provided that each partial reduction shall be in the aggregate amount of $1,000,000 or an integral multiple of $1,000,000 thereof and that such reduction shall not reduce the Commitment to an amount less than the amount -11- 15 outstanding hereunder on the effective date of the reduction. Such notice shall be irrevocable and such reduction shall not be reinstated. (f) Revolving Note. The Revolving Loans made by Bank pursuant hereto shall be evidenced by a promissory note of Borrower, substantially in the form of Exhibit B, with appropriate insertions (the "Revolving Note"), payable to the order of Bank and representing the obligation of Borrower to pay the aggregate unpaid principal amount of the Revolving Loans made by Bank to Borrower, with interest thereon as prescribed in Section 2.3. Bank is hereby authorized to record in its books and records and on any exhibit annexed to Revolving Note, the date and amount of each Revolving Loan made by Bank and the date and amount of each payment of principal thereof, and in the case of Eurodollar Rate Loans, the Interest Period and interest rate with respect thereto, and any such recordation shall constitute prima facie evidence of the accuracy of the information so recorded; provided that failure by Bank to effect such recordation shall not affect Borrower's obligations hereunder. Prior to the transfer of the Revolving Note, Bank shall record such information on any exhibit annexed to and forming a part of the Revolving Note. (g) Non-Utilization Fee. Borrower agrees to pay to Bank a non-utilization fee on the average daily unused portion of the Commitment from the date of this Agreement until the Maturity Date, or any extensions thereof, at the rate of 0.10% per annum, which shall be calculated on the basis of a 365-day year for the actual days elapsed, payable on the last day of each December, March, June, and September (for the preceding quarter) commencing the first such date occurring after the date of this Agreement and on the Maturity Date. (h) Extension of Maturity Date. Notwithstanding anything to the contrary contained in this Agreement, the Maturity Date may be extended for additional one year periods on each anniversary date of this Agreement. A request for an extension of the Maturity Date may be made by Borrower not more than 60 nor less than 30 days prior to each anniversary of the date of this Agreement. Within 15 days of its receipt of a request by Borrower to extend the Maturity Date, Bank shall notify Borrower whether it agrees to the requested extension of the Maturity Date (which decision shall be in the absolute discretion of Bank). The failure by Bank to respond to any extension request within the applicable period, shall be deemed a -12- 16 rejection of such request. Each extension of the Maturity Date agreed to by Bank shall be evidenced by an amendment to this Agreement. In connection with the making of any request for an extension of the Maturity Date, Borrower shall provide to Bank any documents, instruments, records, information, or access to management personnel that Bank may reasonably request. II.2. REPAYMENT. (a) Mandatory Repayments. The aggregate principal amount of the Revolving Loans outstanding on the Maturity Date, together with accrued interest thereon, shall be due and payable in full on the Maturity Date. If at any time the aggregate principal amount of outstanding Revolving Loans exceeds the Commitment then in effect, Borrower shall immediately repay the Revolving Loans in an amount equal to the excess. (b) Optional Payment. Borrower may at its option repay the Revolving Loans, without penalty except as set forth in Section 3.7(b), in whole or in part, on any Business Day, prior to the Maturity Date, from time to time, provided Bank shall have received from Borrower notice of any such payment at least: (i) three Business Days prior to the date of the proposed payment if the Revolving Loan being prepaid is a Eurodollar Rate Loan, and (ii) one Business Day prior to the date of the proposed payment if the Revolving Loan being prepaid is a Prime Rate Loan. For Prime Rate Loans, each day shall be defined as and constitute an "Interest Period." Partial payments hereunder shall be in an aggregate principal amount of not less than the lesser of (a) $1,000,000 and in an integral multiple of $100,000 for a Revolving Loan consisting of a Prime Rate Loan; (b) $1,000,000 and in an integral multiple of $500,000 for a Revolving Loan consisting of a Eurodollar Rate Loan; and (c) the outstanding balance of the Revolving Loan being paid. (c) Allocation of Payments Following an Event of Default. Following the occurrence of an Event of Default and acceleration of the Revolving Loans, all amounts received by Bank on account of the Revolving Loans shall be applied by Bank as follows: (i) First, to the payment of expenses incurred by Bank in the enforcement of its rights under the Loan Documents, including, without limitation, all costs and expenses of collection, attorneys' fees and -13- 17 court costs; and (ii) then, to the outstanding principal balance of all Revolving Loans and interest accrued thereon. II.3. INTEREST RATE AND PAYMENT DATES. (a) Payment of Interest. Interest with respect to each Revolving Loan shall be payable in arrears on each Interest Payment Date for such Revolving Loan. In no event shall interest on a Revolving Loan exceed the maximum rate permitted by applicable law. (b) Prime Rate Loans. Revolving Loans which are Prime Rate Loans shall bear interest on the unpaid principal amount thereof at a rate per annum equal to the Prime Rate from the date hereof through the Maturity Date. Bank shall promptly notify Borrower of the amount and the effective date of each adjustment in the Prime Rate, provided that no failure or delay in giving any such notice shall affect or delay the making of any such adjustments or the obligation of Borrower to pay in a timely manner the interest due on such Revolving Loans. (c) Eurodollar Rate Loans. Revolving Loans which are Eurodollar Rate Loans shall bear interest for each Interest Period with respect thereto on the unpaid principal amount thereof at a rate per annum equal to the Eurodollar Rate determined for such Interest Period plus 0.625 percentage points. II.4. CONTINUATION AND CONVERSION OPTIONS. Borrower may elect from time to time to convert outstanding Revolving Loans from Revolving Loans bearing interest at a rate determined by reference to one basis to Revolving Loans bearing interest at a rate determined by reference to an alternative basis if Borrower gives Bank (i) at any time irrevocable notice of an election to convert Eurodollar Rate Loans to Prime Rate Loans and (ii) at least three Eurodollar Business Days' prior irrevocable notice of an election to convert Prime Rate Loans to Eurodollar Rate Loans, provided that any conversion of Eurodollar Rate Loans to Prime Rate Loans shall only be made on the last day of an Interest Period with respect thereto, and provided further that no Prime Rate Loan may be converted to a Eurodollar Rate Loan so long as an Event of Default or Potential Event of Default has occurred and is continuing. Borrower may elect from time to time to -14- 18 continue its outstanding Eurodollar Rate Loans upon the expiration of the Interest Period(s) applicable thereto if Borrower gives to Bank irrevocable notice of continuation of such a Eurodollar Rate at least one Eurodollar Business Days' prior to the expiration thereof and so long as an Event of Default or Potential Event of Default has not occurred and is not continuing. Each notice electing to convert or continue a Revolving Loan shall specify: (i) the proposed conversion/continuation date; (ii) the amount of the Revolving Loan to be converted/continued; (iii) the nature of the proposed continuation/conversion; and (iv) in the case of a conversion to, or continuation of a Eurodollar Rate Loan, the requested Interest Period, and shall certify that no Event of Default or Potential Event of Default has occurred and is continuing. On the date on which such conversion or continuation is being made Bank shall take such action as is necessary to effect such conversion or continuation. In the event that no notice of continuation or conversion is received by Bank with respect to outstanding Eurodollar Rate Loans, upon expiration of the Interest Period(s) applicable thereto, such Eurodollar Rate Loans shall convert to Prime Rate Loans. Subject to the limitations set forth in this Section and in the definition of Interest Period, all or any part of outstanding Revolving Loans may be converted or continued as provided herein, provided that partial conversions or continuations shall be in an aggregate principal amount of not less than (a) $1,000,000 and in an integral multiple of $100,000 for a Revolving Loan consisting of a Prime Rate Loan; (b) $1,000,000 and in an integral multiple of $500,000 above such amount for a Eurodollar Rate Loan; and (c) the outstanding balance of the Revolving Loan being converted or continued. III GENERAL PROVISIONS CONCERNING THE REVOLVING LOANS III.1. USE OF PROCEEDS. The proceeds of the Revolving Loans hereunder shall be used by Borrower for general corporate purposes. III.2. POST MATURITY INTEREST. Notwithstanding anything to the contrary contained in Section 2.3, if all or a portion of the principal amount of any of the Revolving Loans made hereunder or any interest accrued thereon shall not be paid when due (whether at the stated maturity, by acceleration or otherwise), any such overdue -15- 19 amount shall bear interest at a rate per annum which is equal to the greater of (a) two percent (2%) above the rate which would otherwise be applicable pursuant to Section 2.3 and (b) two percent (2%) above the Prime Rate, from the date of such nonpayment until paid in full (after as well as before judgment), payable on demand. In addition, such Revolving Loan, if a Eurodollar Rate Loan, shall be converted to a Prime Rate Loan at the end of the then current Interest Period therefor. III.3. COMPUTATION OF INTEREST (a) Calculations. Interest in respect of the Prime Rate Loans shall be calculated on the basis of a 365-day year for the actual days elapsed. Any change in the interest rate on a Prime Rate Loan resulting from a change in the Prime Rate shall become effective as of the opening of business on the date on which such change in the Prime Rate shall become effective. Interest with respect of the Eurodollar Rate Loans shall be calculated on the basis of a 360-day year for the actual days elapsed. (b) Determination by Bank. Each determination of an interest rate or fee by Bank pursuant to any provisions of this Agreement shall be conclusive and binding on Borrower in the absence of manifest error. III.4. PAYMENTS. Borrower shall make each payment of principal, interest, and fees referred to in Section 2.2 due from it hereunder and under the Revolving Note, without setoff or counterclaim, not later than 12:00 P.M. (San Francisco time) on the day when due in lawful money of the United States of America to Bank, at the office of Bank designated from time to time in immediately available funds. III.5. PAYMENT ON NON-BUSINESS DAYS. Whenever any payment to be made hereunder or under the Revolving Note shall be stated to be due on a day which is not a Business Day, such payment may be made on the next succeeding Business Day and with respect to payments of principal, interest thereon shall be payable at the then applicable rate during such extension. III.6. REDUCED RETURN. If Bank shall have determined that any new or additional applicable law, regulation, rule, or regulatory requirement (collectively in this Section 3.6 "Requirement") regarding capital -16- 20 adequacy, or any change therein, or any change in the interpretation or administration thereof by any governmental authority, central bank, or comparable agency charged with the interpretation of administration thereof, or compliance by Bank with any new or additional request or directive regarding capital adequacy (whether or not having the force of law) of any such authority, central bank, or comparable agency, has or would have the effect of reducing the rate of return on Bank's capital as a consequence of the Commitment and obligations hereunder to a level below that which would have been achieved but for such Requirement, change, or compliance (taking into consideration Bank's policies with respect to capital adequacy) by an amount deemed by Bank to be material (which amount shall be determined by Bank's reasonable allocation of the aggregate of such reductions resulting from such events), then from time to time, within thirty (30) Business Days after written demand by Bank, Borrower shall pay to Bank such additional amount or amounts as will compensate Bank for such reduction. Notwithstanding the foregoing, no additional compensation will be required from Borrower under this Section 3.6 if the reason for additional compensation was based solely on Bank's failure to comply with any existing or new law, treaty, rule, or regulation or requirement. In addition, Bank shall promptly notify Borrower of any proposed request for compensation under this Section 3.6 and shall provide Borrower with reasonable support therefor. Any request by Bank for additional compensation shall be structured to allocate such additional costs over the term of the credit affected thereby. III.7. INDEMNITIES. (a) General. Whether or not the transactions contemplated hereby shall be consummated, Borrower agrees to indemnify, pay and hold Bank, and the shareholders, officers, directors, employees, and agents of Bank, harmless from and against any and all claims, liabilities, losses, damages, costs, and expenses (whether or not any of the foregoing Persons is a party to any litigation), including, without limitation, reasonable attorneys' fees and costs (including, without limitation, the reasonable estimate of the allocated cost of in-house legal counsel and staff) and costs of investigation, document production, attendance at a deposition, or other discovery, with respect to or arising out of any proposed acquisition by Borrower or any of its Consolidated Subsidiaries of any Person or any securities (including a self-tender), this Agreement or any use of proceeds -17- 21 hereunder, or any claim, demand, action or cause of action being asserted against Borrower or any of its Consolidated Subsidiaries (collectively, the "Indemnified Liabilities"), provided that Borrower shall have no obligation hereunder with respect to Indemnified Liabilities arising from the gross negligence or willful misconduct of any such Persons. If any claim is made, or any action, suit or proceeding is brought, against any Person indemnified pursuant to this Section, the indemnified Person shall notify Borrower of such claim or of the commencement of such action, suit or proceeding, and Borrower will assume the defense of such action, suit or proceeding, employing counsel selected by Borrower and reasonably satisfactory to the indemnified Person, and pay the fees and expenses of such counsel. This covenant shall survive termination of this Agreement and payment of the outstanding Revolving Note. (b) Funding Losses. Borrower agrees to indemnify Bank and to hold Bank harmless from any loss or expense including, but not limited to, any such loss or expense arising from interest or fees payable by Bank to lenders of funds obtained by Bank in order to maintain its Eurodollar Rate Loans hereunder, which Bank may sustain or incur as a consequence of (i) default by Borrower in payment of the principal amount of or interest on the Eurodollar Rate Loans of Bank, (ii) default by Borrower in making a conversion or continuation after Borrower has given a notice thereof, (iii) default by Borrower in making any payment after Borrower has given a notice of payment or (iv) Borrower making any payment of a Eurodollar Rate Loan on a day other than the last day of the Interest Period for such Revolving Loan. For purposes of this Section and Section 3.10, it shall be assumed that Bank had funded or would have funded one hundred percent (100%) of each Eurodollar Rate Loan in the interbank Eurodollar market for a corresponding amount and term. In the event of a payment set forth in (iv) above, Borrower shall be credited with a reinvestment interest rate equal to one sixteenth of one percent (.0625%) less than the rate of interest generally available to Bank at the time of the payment for a period of time approximately equal to the period remaining on the then applicable Interest Period and for an amount approximately equal to the amount of the payment. The determination of such amount by Bank shall be presumed correct in the absence of manifest error. This covenant shall survive termination of this Agreement and payment of the outstanding Revolving Note. III.8. FUNDING SOURCES. Nothing in this Agreement -18- 22 shall be deemed to obligate Bank to obtain the funds for any Revolving Loan in any particular place or manner or to constitute a representation by Bank that it has obtained or will obtain the funds for any Revolving Loan in any particular place or manner. III.9. INABILITY TO DETERMINE INTEREST RATE. In the event that Bank shall have determined (which determination shall be conclusive and binding upon Borrower) that by reason of circumstances affecting the interbank Eurodollar market, adequate and reasonable means do not exist for ascertaining the Eurodollar Rate applicable pursuant to Section 2.3 for any Interest Period with respect to a Eurodollar Rate Loan that will result from a requested Eurodollar Rate Loan or that such rate of interest does not adequately cover the cost of funding such Revolving Loan, Bank shall forthwith give notice of such determination to Borrower not later than 1:00 P.M., San Francisco time, on the requested Borrowing date, the requested conversion date or the last day of an Interest Period of a Revolving Loan which was to have been continued as a Eurodollar Rate Loan. If such notice is given and has not been withdrawn (i) any requested Eurodollar Rate Loan shall be made as a Prime Rate Loan, or, at Borrower's option, such Revolving Loan shall not be made, (ii) any Revolving Loan that was to have been converted to a Eurodollar Rate Loan, shall be continued as, or converted into, a Prime Rate Loan and (iii) any outstanding Eurodollar Rate Loan shall be converted, on the last day of the then current Interest Period with respect thereto, to a Prime Rate Loan. Until such notice has been withdrawn by Bank, no further Eurodollar Rate Loans shall be made and Borrower shall not have the right to convert a Revolving Loan to a Eurodollar Rate Loan. Bank will review the circumstances affecting the interbank Eurodollar market from time to time and Bank will withdraw such notice at such time as it shall determine that the circumstances giving rise to said notice no longer exist. III.10. REQUIREMENTS OF LAW. In the event that any law, regulation, or directive or any change therein or in the interpretation or application thereof or compliance by Bank with any request or directive (whether or not having the force of law) from any central bank or other governmental authority, agency or instrumentality: (a) does or shall subject Bank to any new or additional tax of any kind whatsoever with respect to this Agreement, the Revolving Note, or any Revolving Loan made hereunder, or change the basis of taxation of payments to -19- 23 Bank of principal, commitment fee, non-utilization fee, interest, or any other amount payable hereunder (except for changes in the rate of tax on the overall net income of Bank); (b) does or shall impose, modify, or hold applicable any reserve, assessment rate, special deposit, compulsory loan, or other requirement (collectively in this Section 3.10 "Requirements") against assets held by, or deposits or other liabilities in or for the account of, advances or loans by, or other credit extended by, or any other acquisition of funds by, any office of Bank which Requirements are not otherwise included in the determination of any Eurodollar Rate at the last Borrowing conversion or continuation date of a Revolving Loan; (c) does or shall impose, modify or hold applicable any of the Requirements against the Commitment; or (d) does or shall impose on Bank any other new or additional condition; and the result of any of the foregoing is to increase the cost to Bank of making, renewing or maintaining the Commitment or the Eurodollar Rate Loans or to reduce any amount receivable thereunder by an amount determined by Bank, in its sole discretion, to be material (which increase or reduction shall be determined by Bank's reasonable allocation of the aggregate of such cost increases or reduced amounts receivable resulting from such events), then, in any such case, Borrower shall pay to Bank, within thirty (30) Business Days of its demand, any additional amounts necessary to compensate Bank for such additional cost or reduced amount receivable as determined by Bank with respect to this Agreement. If Bank becomes entitled to claim any additional amounts pursuant to this subsection, it shall notify Borrower of the event by reason of which it has become so entitled. A statement incorporating the calculation as to any additional amounts payable pursuant to the foregoing sentence submitted by Bank to Borrower shall be conclusive in the absence of manifest error. Notwithstanding the foregoing, no additional compensation will be required from Borrower under this Section 3.10 if the reason for said additional compensation was based solely on Bank's failure to comply with any existing or new law, treaty, rule, regulation, or requirement. In addition, Bank shall promptly notify Borrower of any proposed request for compensation under this Section 3.10 and shall provide -20- 24 Borrower with reasonable support therefor. Any request by Bank for additional compensation shall be structured to allocate such additional costs over the term of the credit affected thereby. III.11. ILLEGALITY. Notwithstanding any other provisions herein, if any law, regulation, treaty, or directive or any change therein or in the interpretation or application thereof, shall make it unlawful, impossible or impracticable for Bank to make or maintain Eurodollar Rate Loans as contemplated by this Agreement, (a) the commitment of Bank hereunder to make Eurodollar Rate Loans or convert Prime Rate Loans to Eurodollar Rate Loans shall forthwith be suspended and (b) Bank's Revolving Loans then outstanding as Eurodollar Rate Loans, if any, shall be converted automatically to Prime Rate Loans on the next succeeding Interest Payment Date or within such earlier period as allowed by law. Borrower hereby agrees to pay Bank, within thirty (30) Business Days of its demand, any additional amounts necessary to compensate Bank for any costs incurred by Bank in making any conversion in accordance with this Section, including, but not limited to, any interest or fees payable by Bank to lenders of funds obtained by it in order to make or maintain its Eurodollar Rate Loans hereunder (Bank's notice of such costs, as certified to Borrower to be conclusive absent manifest error). Notwithstanding the foregoing, no additional compensation will be required from Borrower under this Section 3.11 if the reason for said additional compensation was based solely on Bank's failure to comply with any existing or new law, treaty, rule or regulation or requirement. In addition Bank shall promptly notify Borrower of any proposed request for compensation under this Section 3.11 and shall provide Borrower with reasonable support therefor. Any request by Bank for additional compensation shall be structured to allocate such additional costs over the term of the credit affected thereby. IV CONDITIONS OF LENDING IV.1. CONDITIONS PRECEDENT TO INITIAL REVOLVING LOANS. The obligation of Bank to make its initial Revolving Loan is subject to the conditions precedent that: (a) Bank shall have received on or before the date of this Agreement the following, each dated such day -21- 25 (except for the documents referred to in clause (ii) and (iv)), in form and substance satisfactory to Bank: (i) The Revolving Note issued by Borrower to the order of Bank; (ii) Borrower's certificate that the copies of the Certificate of Incorporation or other organizational documents of Borrower certified by the Secretary of State of its state of formation or incorporation, heretofore provided to Bank are in full force and effect and have not been amended and/or supplemented; (iii) Borrower's certificate that the copies of the Bylaws, if any, of Borrower, certified by the Secretary or an Assistant Secretary of Borrower heretofore provided to Bank are in full force and effect and have not been amended and/or supplemented; (iv) Copies of resolutions of the Board of Directors or other authorizing documents of Borrower, in form and substance satisfactory to Bank, approving the Loan Documents and the Borrowings hereunder; (v) Borrower's certificate that the copy of the incumbency certificate executed by the Secretary or an Assistant Secretary of Borrower or equivalent document, certifying the names and signatures of the officers of Borrower or other Persons authorized to sign the Loan Documents and the other documents to be delivered hereunder heretofore provided to Bank is in full force and effect and has not been amended and/or supplemented; and (vi) Executed copies of all Loan Documents; (b) All corporate legal proceedings and instruments and documents in connection with the transactions contemplated by this Agreement shall be reasonably satisfactory in content, form and substance to Bank and its counsel, and Bank and such counsel shall have received any and all further information and documents which Bank or such counsel may reasonably have requested in connection therewith, such documents where appropriate to be certified by proper corporate or governmental authorities. IV.2. CONDITIONS PRECEDENT TO EACH BORROWING. The obligation of Bank to make a Revolving Loan on the -22- 26 occasion of such Revolving Loan (including the initial Revolving Loan) shall be subject to the further conditions precedent that on the date of such Revolving Loan (a) the following statements shall be true and Bank shall have received the notice required by Section 2.1(b), which notice shall be deemed to be a certification by Borrower that: (i) The representations and warranties contained in Section 5.1 are correct on and as of the date of such Revolving Loan as though made on and as of such date (except to the extent such representations and warranties expressly refer to an earlier date, in which case they shall be true and correct as of such earlier date and except that Section 5.1(e) shall be deemed instead to refer to the last day of the most recent fiscal year and fiscal quarter for which financial statements have then been delivered), (ii) No event has occurred and is continuing, or would result from such Revolving Loan, which constitutes an Event of Default or Potential Event of Default, and (iii) All Loan Documents are in full force and effect, and (b) Bank shall have received such other approvals, opinions, or documents as Bank may reasonably request. V REPRESENTATIONS AND WARRANTIES V.1. REPRESENTATIONS AND WARRANTIES. In order to induce Bank to make the Revolving Loans, Borrower represents and warrants as follows: (a) Organization. Borrower is duly organized, validly existing, and in good standing under the laws of the state of its formation. Borrower is also duly authorized, qualified, and licensed in all applicable jurisdictions, and under all applicable laws, regulations, ordinances, or orders of public authorities, to carry on its business in the locations and in the manner presently conducted, to the extent that the failure to do so could not reasonably be expected to have a Material Adverse Effect. All of the Subsidiaries and Consolidated Subsidiaries of Borrower and the percentage of Borrower's -23- 27 ownership interest therein as of the date of this Agreement are identified on Schedule 2. (b) Authorization. The execution, delivery, and performance by Borrower of the Loan Documents, and the making of Borrowings hereunder, are within Borrower's corporate powers, have been duly authorized by all necessary corporate action and do not contravene (i) Borrower's certificate of incorporation, by-laws or other organizational documents or (ii) any law or regulation (including Regulations G, T, U, and X) or any contractual restriction binding on or affecting Borrower. (c) Governmental Consents. No authorization or approval or other action by, and no notice to or filing with, any governmental authority or regulatory body (except routine reports required pursuant to the Securities Exchange Act of 1934, as amended (if such act is applicable to Borrower), which reports will be made in the ordinary course of business) is required for the due execution, delivery, and performance by Borrower of the Loan Documents. (d) Validity. The Loan Documents are the binding obligations of Borrower, enforceable in accordance with their respective terms; except in each case as such enforceability may be limited by bankruptcy, insolvency, reorganization, liquidation, moratorium, or other similar laws of general application and equitable principles relating to or affecting creditors' rights. (e) Financial Condition. The balance sheets of Borrower and its Consolidated Subsidiaries as at the fiscal quarter ended July 2, 1995 and the fiscal year ended January 1, 1995, and the related statements of income and retained earnings of Borrower and its Consolidated Subsidiaries to that date and the fiscal year then ended, copies of which have been furnished to Bank, fairly present the financial condition of Borrower and its Consolidated Subsidiaries as at such dates and the results of the operations of Borrower and its Consolidated Subsidiaries for the respective periods ended on such dates, all in accordance with GAAP, consistently applied. Since January 1, 1995, there has been no material adverse change in the business, operations, properties, assets, or condition (financial or otherwise) of Borrower and its Consolidated Subsidiaries, taken as a whole. (f) Litigation. Except as set forth in the -24- 28 financial statements delivered on or prior to the date hereof, to the best of Borrower's knowledge there is no pending or threatened action or proceeding affecting Borrower or any of its Consolidated Subsidiaries before any court, governmental agency, or arbitrator, which may materially adversely affect the consolidated financial condition or operations of Borrower or which may have a material adverse effect on Borrower's ability to perform its obligations under the Loan Documents, having regard for its other financial obligations (a "Material Adverse Effect"). (g) Employee Benefit Plans. Borrower and each of its ERISA Affiliates is in compliance in all material respects with any applicable provisions of ERISA and the regulations and published interpretations thereunder wish respect to all Employee Benefit Plans. No Termination Event has occurred or is reasonably expected to occur with respect to any Pension Plan that would reasonably be expected to have a Material Adverse Effect. (h) Disclosure. No representation or warranty of Borrower contained in this Agreement or any other document, certificate, or written statement furnished to Bank or on behalf of Borrower for use in connection with the transactions contemplated by this Agreement contains any untrue statement of a material fact or omits to state a material fact (known to Borrower in the case of any document not furnished by it) necessary in order to make the statements contained herein or therein not misleading. To the best of Borrower's knowledge, there is no fact known to Borrower (other than matters of a general economic nature) which materially adversely affects the business, operations, property, assets, or condition (financial or otherwise) of Borrower and its Consolidated Subsidiaries, taken as a whole, which has not been disclosed herein or in such other documents, certificates and statements furnished to Bank for use in connection with the transactions contemplated hereby. (i) Margin Stock. The aggregate value of all margin stock (as defined in Regulation U) directly or indirectly owned by Borrower and its Consolidated Subsidiaries is less than 25% of the aggregate value of Borrower's assets. (j) Environmental Matters. Except as set forth in the financial statements delivered on or prior to the date hereof and except for certain claims associated with Great Western Chemical, neither Borrower nor any -25- 29 Consolidated Subsidiary, nor, to the best of their knowledge, any other person, has treated, stored, processed, discharged, spilled, or otherwise disposed of any substance defined as hazardous or toxic by any applicable federal, state, or local law, rule, regulation, order, or directive, or any waste or by-product thereof, at any real property or any other facility owned, leased, or used by Borrower or any Consolidated Subsidiary, in violation of any applicable statutes, regulations, ordinances, or directives of any governmental authority or court, which violations may result in liability to Borrower or any Consolidated Subsidiary in an amount for all such violations that could reasonably be expected to have a Material Adverse Effect; and the unresolved violations, if any, set forth in the financial statements delivered on or prior to the date hereof will not result in liability to Borrower or any Consolidated Subsidiary in an amount for all such unresolved violations that could reasonably be expected to have a Material Adverse Effect. Except as set forth in the financial statements delivered on or prior to the date hereof, no employee or other person has ever made a claim or demand against Borrower or any Consolidated Subsidiary based on alleged damage to health caused by any such hazardous or toxic substance or by any waste or by-product thereof in an amount that could reasonably be expected to have a Material Adverse Effect; and the unsatisfied claims, if any, or demands against Borrower or any Consolidated Subsidiary set forth in the financial statements delivered on or prior to the date hereof will not result in uninsured liability to Borrower or any Consolidated Subsidiary or any of their respective officers, employees, representatives, agents, or shareholders in an amount that could reasonably be expected to have a Material Adverse Effect for all such unsatisfied claims or demands. Except as set forth in the financial statements delivered on or prior to the date hereof neither Borrower nor any Consolidated Subsidiary has been charged by any governmental authority with improperly using, handling, storing, discharging, or disposing of any such hazardous or toxic substance or waste or by-product thereof or with causing or permitting any pollution of any body of water in an amount that could reasonably be expected to have a Material Adverse Effect; and the outstanding charges, if any, set forth in the financial statements delivered on or prior to the date hereof will not result in liability to Borrower or any Consolidated Subsidiary or any or their respective officers, employees, representatives, agents, or shareholders in an amount that could reasonably be expected to have a Material Adverse Effect for all such -26- 30 outstanding charges. (k) Employee Matters. There is no strike or work stoppage in existence or, to the best of Borrower's knowledge, threatened involving Borrower or its Consolidated Subsidiaries that could reasonably be expected to have a Material Adverse Effect. VI COVENANTS VI.1. AFFIRMATIVE COVENANTS. So long as the Revolving Note shall remain unpaid or Bank shall have any Commitment hereunder, Borrower will, unless Bank shall otherwise consent in writing: (a) Financial Information. Furnish to Bank: (i) as soon as available, but in any event within 120 days after the end of each fiscal year of Borrower, a copy of Borrower's consolidated balance sheet of itself and its Consolidated Subsidiaries as at the end of each fiscal year and the related consolidated statements of income, stockholders' equity, and statement of cash flows for such year, setting forth in each case in comparative form the figures for the previous year, accompanied by an unqualified report and opinion thereon of Ernst & Young or other independent certified public accountants acceptable to Bank; (ii) as soon as available, but in any event within 60 days after the end of each of Borrower's fiscal quarters, Borrower's unaudited consolidated balance sheet of itself and its Consolidated Subsidiaries as at the end of such period and the related unaudited consolidated statements of income, stockholders' equity, and statement of cash flows for such period and year to date, setting forth in each case in comparative form the figures as at the end of the previous fiscal year as to the balance sheet and the figures for the previous corresponding period as to the other statements, certified by a duly authorized officer of Borrower as being fairly stated in all material respects subject to year end adjustments; all such financial statements to be complete and correct in all material respects and to be prepared in reasonable detail acceptable to Bank and in accordance with GAAP -27- 31 applied consistently throughout the periods reflected therein (except as approved by such accountants and disclosed therein); (iii) together with each delivery of financial statements of Borrower and its Consolidated Subsidiaries pursuant to subdivisions (i) and (ii) above, (A) an officer's certificate stating that the signers have reviewed the terms of the Loan Documents and have made, or caused to be made under their supervision, a review in reasonable detail of the transactions and condition of Borrower and its Consolidated Subsidiaries during the accounting period covered by such financial statements and that such review has not disclosed the existence during or at the end of such accounting period, and that the signers do not have knowledge of the existence as at the date of the officers' certificate, of any existing condition or event which constitutes an Event of Default or Potential Event of Default, or, if any such condition or event existed or exists, specifying the nature and period of existence thereof and what action Borrower has taken, is taking and proposes to take with respect thereto; and (B) a compliance certificate, in form and substance satisfactory to Bank, setting forth in such detail as Bank may request the calculation of the ratios and amounts necessary to determine Borrower's compliance with Sections 6.2(a), 6.2(b), 6.2(c), 6.2(e), and 6.2(j) hereof for the accounting period covered by such financial statements, certified by Borrower's chief executive officer or chief financial officer; and (iv) as soon as available, copies of all reports which Borrower sends to any of its security holders, and copies of all reports and registration statements which Borrower or any Subsidiary files with the S.E.C. or any national securities exchange, including, but not limited to: Form 8-K Current Report, Form 10-K Annual Report, Form 10-Q Quarterly Report, Annual Report to Shareholders, Proxy Statements, and Registration Statements. (b) Notices and Information. Deliver to Bank: (i) promptly upon any officer of Borrower obtaining knowledge (a) of any condition or event which constitutes an Event of Default or existing Potential Event of Default, (b) that any Person has given any notice to Borrower or any Consolidated Subsidiary or taken any other action with respect to a claimed default or event or condition of the type referred to in Section -28- 32 7.1(e), (c) of the institution of any litigation involving an alleged liability (including possible forfeiture of property) of Borrower or any of its Consolidated Subsidiaries equal to or greater than $5,000,000 or any adverse determination in any litigation involving a potential liability of Borrower or any of its Consolidated Subsidiaries equal to or greater than $5,000,000, or (d) of a material adverse change in the business, operations, properties, assets, or condition (financial or otherwise) of Borrower and its Consolidated Subsidiaries, taken as a whole, an officer's certificate specifying the nature and period of existence of any such condition or event, or specifying the notice given or action taken by such holder or Person and the nature of such claimed default, Event of Default, Potential Event Of Default, event, or condition, and what action Borrower has taken, is taking, and proposes to take with respect thereto; (ii) promptly upon becoming aware of the occurrence of or forthcoming occurrence of any (a) Termination Event, or (b) "prohibited transaction," as such term is defined in Section 4975 of the Internal Revenue Code or Section 406 of ERISA, in connection with any Employee Benefit Plan (other than the Dastek, Inc. Savings and Deferred Profit-Sharing Plan which is proposed to be terminated effective as of June 30, 1994) or any trust created thereunder, a written notice specifying the nature thereof, what action Borrower has taken, is taking, or proposes to take with respect thereto, and, when known, any action taken or threatened by the Internal Revenue Service, the Department of Labor, or the Pension Benefit Guaranty Corporation with respect thereto; (iii) with reasonable promptness copies of (a) all notices received by Borrower or any of its ERISA Affiliates of the Pension Benefit Guaranty Corporation's intent to terminate any material Pension Plan or to have a trustee appointed to administer any Pension Plan; (b) each Schedule B (Actuarial Information) to the annual report (Form 5500 Series) filed by Borrower or any of its ERISA Affiliates with the Internal Revenue Service with respect to each material Pension Plan; and (c) all notices received by Borrower or any of its ERISA Affiliates from a Multiemployer Plan sponsor concerning the material imposition or material amount of withdrawal liability pursuant to Section 4202 of ERISA; (iv) promptly, and in any event within thirty (30) days after receipt thereof, a copy of any notice, summons, citation, directive, letter, or other -29- 33 form of communication from any governmental authority or court in any way concerning any material action or omission on the part of Borrower or any of its Consolidated Subsidiaries in connection with any substance defined as toxic or hazardous by any applicable federal, state, or local law, rule, regulation, order, or directive or any waste or by product thereof, or concerning the filing of a material lien upon, against, or in connection with Borrower, its Consolidated Subsidiaries, or any of their leased or owned real or personal property, in connection with a Hazardous Substance Superfund or a Post-Closure Liability Fund as maintained pursuant to ss. 9507 of the Internal Revenue Code; and (v) promptly, and in any event within ten (10) days after request, such other information and data with respect to the business affairs and financial condition of Borrower or any of its Consolidated Subsidiaries as from time to time may be reasonably requested by Bank. (c) Corporate Existence, Etc. At all times preserve and keep in full force and effect Borrower's and its Consolidated Subsidiaries' corporate existence and rights and franchises material to Borrower's business and those of each of its Consolidated Subsidiaries; provided, however, that the corporate existence of any such Consolidated Subsidiary may be terminated if such termination is in the best interest of Borrower and is not materially disadvantageous to the holder of the Revolving Note. (d) Payment of Taxes and Claims. Pay, and cause each of its Consolidated Subsidiaries (except Dastek(M)) to pay, all taxes, assessments, and other governmental charges imposed upon it or any of its properties or assets or in respect of any of its franchises, business, income, or property before any penalty or interest accrues thereon, and all claims (including, without limitation, claims for labor, services, materials, and supplies) for sums which have become due and payable and which by law have or may become a lien upon any of its properties or assets, prior to the time when any penalty or fine shall be incurred with respect thereto; provided that no such charge or claim need be paid if being contested in good faith by appropriate proceedings promptly instituted and diligently conducted and if such reserve or other appropriate provision, if any, as shall be required in conformity with GAAP shall have been made therefor. -30- 34 (e) Maintenance of Properties; Insurance. Maintain or cause to be maintained in good repair, working order and condition all material properties used or useful in the business of Borrower and its Consolidated Subsidiaries (except Dastek(M)) and from time to time will make or cause to be made all appropriate repairs, renewals, and replacements thereof. Borrower will maintain or cause to be maintained, with financially sound and reputable insurers, insurance with respect to its properties and business and the properties and business of its Consolidated Subsidiaries (except Dastek(M)) against loss or damage of the kinds customarily insured against by corporations of established reputation engaged in the same or similar businesses and similarly situated, of such types and in such amounts as are customarily carried under similar circumstances by such other corporations. (f) Inspection. Permit any authorized representatives designated by Bank to visit and inspect any of the properties of Borrower or any of its Consolidated Subsidiaries (except Dastek(M)), including its and their financial and accounting records, and to make copies and take extracts therefrom, and to discuss its and their affairs, finances, and accounts with its and their officers and independent public accountants, all at such reasonable times during normal business hours and under Borrower's supervision and as often as may be reasonably requested. Any such additional information together with other nonpublic information received hereunder shall be held in confidence by Bank and may not be used for any purpose other than to monitor the creditworthiness of Borrower and its Consolidated Subsidiaries (except Dastek(M)) and shall not be disclosed or disseminated to any other Person for any reason, and the Confidentiality Letters shall apply thereto. (g) Compliance with Laws, Etc. Exercise, and cause each of its Consolidated Subsidiaries to exercise, all due diligence in order to comply with the requirements of all applicable laws, rules, regulations, and orders of any governmental authority, including, without limitation, all environmental laws, rules, regulations, and orders, noncompliance with which would have a Material Adverse Effect. VI.2. NEGATIVE COVENANTS. So long as the Revolving Note shall remain unpaid or Bank shall have any Commitment hereunder, Borrower will not, without the written consent of Bank: -31- 35 (a) Profitability. Permit, on a consolidated after-tax basis, a loss in more than two consecutive fiscal quarters. (b) Leverage Ratio. Permit Borrower's ratio of consolidated total liabilities (excluding Convertible Debt and minority interests in Subsidiaries) to Consolidated Tangible Net Worth at the end of any fiscal quarter to exceed .85 to 1.00. (c) Consolidated Tangible Net Worth. Permit Borrower's Consolidated Tangible Net Worth, on a quarterly consolidated basis, to be less than $250,000,000, plus (i) 85% of Borrower's cumulative consolidated net income (without deduction for any losses), adjusted on an annual basis beginning with Borrower's fiscal year ending 1994 (said adjustment for fiscal 1994 shall include Borrower's future net income after July 3, 1994), plus (ii) 100% of the net proceeds of equity investments and issues received by Borrower or its Consolidated Subsidiaries (other than equity investments by Borrower in its Consolidated Subsidiaries or equity investments by Borrower's Consolidated Subsidiaries in Borrower) adjusted on a quarterly basis. For purposes hereof, the minimum Consolidated Tangible Net Worth requirement shall not be increased by equity issued through the exercise of employee stock options and/or employee stock purchase plans and the definition shall be exclusive of any effect of minority interests. (d) Liens, Etc. Create or suffer to exist, or permit any of its Consolidated Subsidiaries (except Dastek(M)) to create or suffer to exist, any Lien upon or with respect to any of its properties, whether now owned or hereafter acquired, or assign, or permit any of its Consolidated Subsidiaries (except Dastek(M)) to assign, any right to receive income, in each case to secure any Debt of any Person other than (i) Liens in favor of Bank; (ii) Liens reflected on the financial statements referred to in Section 5.1(e) and other Liens existing on the date hereof heretofore disclosed to Bank; and (iii) Permitted Liens. (e) Dividends, Etc. Declare or pay any dividends, purchase or otherwise acquire for value its capita] stock now or hereafter outstanding, or make any distribution of assets to its stockholders as such, or permit any of its Consolidated Subsidiaries (except Dastek(M)) to purchase or otherwise acquire for value any -32- 36 stock of Borrower, except that Borrower and/or its Consolidated Subsidiaries (except Dastek(M)) may (i) declare and deliver dividends and distributions payable in its capital stock; (ii) in any fiscal year declare and pay cash dividends to its stockholders and purchase or otherwise acquire shares of its own outstanding capital stock for cash in an aggregate amount up to 15% of net income after taxes of Borrower and its Consolidated Subsidiaries (except Dastek(M)) for the immediately preceding fiscal year; and (iii) repurchase stock of Borrower in an amount not to exceed $15,000,000 in any calendar year. (f) Consolidation, Merger, or Acquisition. Regarding Borrower and its Consolidated Subsidiaries (except Dastek(M)), liquidate or dissolve or enter into any consolidation, merger, acquisition, material partnership, material joint venture, syndication, or other combination without Bank's prior written consent, which consent will not be unreasonably withheld, except that Borrower may consolidate with, merge into or acquire any other corporation or entity, except that any corporation or entity may consolidate with or merge into Borrower, provided that Borrower shall be the surviving entity of such merger or consolidation, and provided further, that immediately after the consummation or such consolidation or merger there shall exist no condition or event which constitutes an Event of Default or a Potential Event of Default. In addition Borrower may purchase any, all or substantially all of the assets of any other Person in connection with acquisitions reasonably related to Borrower's existing lines of business, provided that immediately after the effectiveness of any such acquisition, there shall have occurred and be continuing no Event of Default or Potential Event of Default. (g) Loans, Investments, and Secondary Liabilities. Make or permit to remain outstanding, or permit any Consolidated Subsidiary (except Dastek(M)) to make or permit to remain outstanding, any loan or advance to, or guaranty, induce or otherwise become contingently liable, directly or indirectly, in connection with the obligations, stock, or dividends of, or own, purchase, or acquire any stock, obligations, or securities of or any other interest in, or make any capital contribution to, any other Person, except Borrower and its Consolidated Subsidiaries may: (i) own, purchase, or acquire certificates of deposit, time deposits and bankers' -33- 37 acceptances issued by Bank, commercial paper rated Moody's P-2 or better and/or Standard & Poor's A-2 or better, obligations or instruments issued by or guaranteed by an entity designated as Standard & Poor's A-2 or better, or Moody's P-2 or better or the equivalent by a nationally recognized credit agency, municipal bonds, and other governmental and corporate debt obligations rated Standard & Poor's A or better and/or Moody's A2 or better, direct obligations of the United States of America or its agencies, and obligations guaranteed or insured by the United States of America, and any funds investing in any of the foregoing; (ii) acquire and own stock, obligations, or securities received in connection with debts created in the ordinary course of business owing to Borrower or a Subsidiary; (iii) continue to own the existing capital stock of Borrower's Subsidiaries; (iv) endorse negotiable instruments for deposit or collection or similar transactions in the ordinary course of business; (v) make loans, advances to, or investments in a Subsidiary or joint venture in connection with the normal operations of the business of such Subsidiary or joint venture and allow Borrower's Subsidiaries or any joint venture to which it is a party to make or permit to remain outstanding advances from Borrower's Subsidiaries or such joint venture to Borrower; (vi) make or permit to remain outstanding loans or advances to Borrower's Subsidiaries or any joint venture to which it is a party or enter into or permit to remain outstanding guarantees in connection with the obligations of Borrower's Subsidiaries or such joint venture; and (vii) make or permit to remain outstanding (a) loans and/or advances to Borrowers' officers, stockholders and/or employees, which, in the aggregate, would not exceed $3,000,000 during the term of this Agreement, (b) loans to Borrower's vendors, in the ordinary course of Borrower's business, which, in the aggregate, do not exceed $5,000,000, (c) progress payments to Borrower's vendors made in the ordinary course of Borrower's business, (d) (i) loans and/or advances for the purpose of purchasing Borrower's shares of stock pursuant -34- 38 to its employee stock purchase or option plans, (ii) advances for salary, travel, and other expenses, advances against commission and other similar advances made to officers or employees in the ordinary course of Borrower's business, and (iii) loans and/or advances to or for the benefit of officers, directors, or employees in connection with litigation and other proceedings involving such persons by virtue of their status as officers, directors, or employees, respectively, and (e) investments under deferred compensation plans for the benefit of the employees of Borrower and its Subsidiaries. (h) Asset Sales. Convey, sell, lease, transfer, or dispose of (individually, a "Transfer"), or permit any Consolidated Subsidiary (except Dastek(M)) to Transfer, in one transaction or a series of transactions all or any part of its or its Consolidated Subsidiary's (except Dastek(M)) business, property or fixed assets outside the ordinary course of business, whether now owned or hereafter acquired, except that Borrower and its Consolidated Subsidiaries (except Dastek(M)) may make Transfers of business, property or fixed assets in transactions outside the ordinary course of business for consideration which in the aggregate does not exceed 20% of Consolidated Tangible Net Worth in any fiscal year of Borrower without the prior written consent of Bank, which consent shall not be unreasonably withheld. VII EVENTS OF DEFAULT VII.1. EVENTS OF DEFAULT. If any of the following events ("Events of Default") shall occur and be continuing: (a) Borrower shall fail to pay any installment of the principal of the Revolving Note outstanding hereunder when due or any installment of interest on the Revolving Note or other amount payable hereunder within 10 Business Days of the date when due; or (b) Any representation or warranty made by Borrower herein or by Borrower (or any of its officers) in connection with the Loan Documents shall prove to have been incorrect in any material respect when made; or (c) Borrower shall fail to perform or observe any term, covenant or agreement contained in this Agreement or in any and all documents executed in conjunction with this -35- 39 Agreement, which failure continues uncured for more than 30 consecutive days. Notwithstanding the foregoing, any failure of Borrower to perform or observe Sections 6.1 (c) and (f) and/or 6.2 (a), (b), (c), (d), (f), and (h) shall constitute an Event of Default without regard to any lapse of time or cure period; or (d) Borrower shall fail to perform or observe any term, covenant or agreement contained in this Agreement other than those referred to in Subsections 7.1(a), (b) and (c) above on its part to be performed or observed and any such failure shall remain unremedied for 30 days after Borrower knows of such failure; or (e) Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) shall, after written demand, fail to pay any principal of or premium or interest on, any Debt in which Borrower may be obligated as either a borrower or guarantor, the aggregate outstanding amount of which is at least $1,000,000 (excluding Debt evidenced by the Revolving Notes), when due (whether by scheduled maturity, required prepayment, acceleration, demand, or otherwise) and such failure shall continue after the applicable grace period, if any is specified in the agreement or instrument relating to such Debt; or (f) (i) Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) shall commence any case, proceeding or other action (A) under any existing or future law of any jurisdiction, domestic or foreign, relating to bankruptcy, insolvency, reorganization, or relief of debtors, seeking to have an order for relief entered with respect to it, or seeking to adjudicate it bankrupt or insolvent, or seeking reorganization, arrangement, adjustment, winding-up, liquidation, dissolution, composition, or other relief with respect to it or its debts, or (B) seeking appointment of a receiver, trustee, custodian or other similar official for it or for all or any substantial part of its assets, or Borrower or any of -36- 40 its Consolidated Subsidiaries (except Dastek(M)) shall make a general assignment for the benefit of its creditors; or (ii) there shall be commenced against Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) any case, proceeding or other action of a nature referred to in clause (i) above which (A) results in the entry of an order for relief or any such adjudication or appointment or (B) remains undismissed, undischarged, or unbonded for a period of 30 days; or (iii) there shall be commenced against Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) any case, proceeding, or other action seeking issuance of a warrant of attachment, execution, distraint, or similar process against all or any substantial part of its assets which results in the entry of an order for any such relief which shall not have been vacated, discharged, or stayed or bonded pending appeal within 30 days from the entry thereof; or (iv) Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) shall take any action in furtherance of, or indicating its consent to, approval of, or acquiescence in, any of the acts set forth in clause (i), (ii), and (iii) above; or (v) Borrower or any of its Consolidated Subsidiaries shall generally not, or shall be unable to, or shall admit in writing its inability to, pay its debts as they become due; or (g) One judgment or decree shall be entered against Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) involving a liability (not paid or 75% covered by insurance or the third party indemnity of a solvent indemnitor) equal to or greater than $5,000,000 or one or more judgements or decrees shall be entered against Borrower or any of its Consolidated Subsidiaries (except Dastek(M)) involving in the aggregate a liability (not paid or 75% covered by insurance or the third party indemnity of a solvent indemnitor) equal to or greater than $10,000,000 and all such judgments or decrees shall not have been vacated, discharged, or stayed or bonded pending appeal within 30 days from the entry thereof; or (h) (i) Borrower or any of its ERISA Affiliates fails to make full payment when due of all material amounts which, under the provisions of any Pension Plan or Section 412 of the Internal Revenue Cede, Borrower or any of its ERISA Affiliates is required to pay as contributions thereto; (i) any material accumulated funding deficiency occurs or exists, whether or not waived, with respect to any Pension Plan; (ii) the excess of the actuarial present value of all benefit liabilities under all material Pension Plans over the fair market value of the assets of such Pension Plans (excluding on such computation Pension Plans with assets greater than benefit liabilities) allocable to such benefit liabilities are greater than 5% of Consolidated Tangible Net Worth; (iii) Borrower or any of its ERISA -37- 41 Affiliates enters into any transaction which has as its principal purpose the evasion of liability under Subtitle D of Title IV of ERISA; (iv) (A) Any material Pension Plan maintained by Borrower or any of its ERISA Affiliates shall be terminated within the meaning of Title IV of ERISA, or (B) a trustee shall be appointed by an appropriate United States district court to administer any material Pension Plan, or (C) the Pension Benefit Guaranty Corporation (or any successor thereto) shall institute proceedings to terminate any material Pension Plan or to appoint a trustee to administer any Pension Plan, or (D) Borrower or any of its ERISA Affiliates shall withdraw (under Section 4063 of ERISA) from any material Pension Plan, if as of the date of the event listed in subclauses (A)-(C) above or any subsequent date, either Borrower or its ERISA Affiliates has any material liability (such liability to include, without limitation, any material liability to the Pension Benefit Guaranty Corporation, or any successor thereto, or to any other party under Sections 4062, 4063, or 4064 of ERISA or any other provision of law) resulting from or otherwise associated with the events listed in subclauses (A)-(C) above; (v) As used in this subsection 7.1(i)(vi) the term "accumulated funding deficiency" has the meaning specified in Section 412 of the Internal Revenue Codes and the terms "actuarial present value" and "benefit liabilities" have the meanings specified in Section 4001 of ERISA; or (i) There shall be instituted against Borrower, or any of its Consolidated Subsidiaries (except Dastek(M)), any proceeding for which forfeiture (not paid or 75% covered by insurance or the third party indemnity of a solvent indemnitor) of any property equal to or greater than $5,000,000 is a potential penalty and such proceeding shall not have been vacated or discharged within 30 days of its institution; THEN (i) upon the occurrence of any Event of Default described in clause (f) above, the Commitment shall immediately terminate and all Revolving Loans hereunder with accrued interest thereon, and all other amounts owing under this Agreement, the Revolving Note, and the other Loan Documents shall automatically become due and payable, and (ii) upon the occurrence and continuance of any other Event of Default, Bank may by notice to Borrower, declare the Commitment to be terminated forthwith, whereupon the -38- 42 Commitment shall immediately terminate; and by notice to Borrower, declare the Revolving Loans hereunder, with accrued interest thereon, and all other amounts owing under this Agreement, the Revolving Note, and the other Loan Documents to be due and payable forthwith, whereupon the same shall immediately become due and payable. Except as expressly provided above in this Section, presentment, demand, protest, and all other notices of any kind are hereby expressly waived. Notwithstanding any other provision of this Agreement, notices to Borrower pursuant to this Section may be communicated orally (including by telephone with a written notice to Borrower to be subsequently provided by Bank) or in writing (including telex or facsimile transmission). VIII MISCELLANEOUS VIII.1. AMENDMENTS, ETC. No amendment or waiver of any provision of the Loan Documents nor consent to any departure by Borrower therefrom, shall in any event be effective unless the same shall be in writing and signed by Bank, and then such waiver or consent shall be effective only in the specific instance and for the specific purpose for which given. VIII.2. NOTICES, ETC. Except as otherwise set forth in this Agreement, all notices and other communications provided for hereunder shall be in writing (including telegraphic, telex, or facsimile communication) and mailed or telegraphed or telexed or sent by facsimile or delivered, if to Borrower, at Borrower's address set forth on the signature page hereof; and if to Bank, at its address set forth on the signature page hereof; or, as to each party at such other address as shall be designated by such party in a written notice to the other parties. All such notices and communications shall be effective when deposited in the mails, delivered to the telegraph company, sent by telex or sent by facsimile respectively, except that notices and communications to Bank pursuant to Article II shall not be effective until received by Bank. VIII.3. RIGHT OF SETOFF. Upon and during the continuance of any Event of Default, Bank and any participant with Bank in the Commitment pursuant to Section 8.6 is hereby authorized by Borrower, at any time, and from time to time, without prior notice, (a) to set off against, and to appropriate and apply to the payment of, the obligations and liabilities of Borrower under the -39- 43 Loan Documents (whether matured or unmatured, fixed or contingent or liquidated or unliquidated) any and all amounts owing by Bank or such participant to Borrower (whether payable in Dollars or any other currency, whether matured or unmatured, and, in the case of deposits, whether general or special, time or demand and however evidenced), and (b) pending any such action, to the extent necessary, to hold such amounts as collateral to secure such obligations and liabilities and to return as unpaid for insufficient funds any and all checks and other items drawn against any deposits so held as Bank or such participant in its sole discretion may elect. Bank agrees promptly to notify Borrower (and to cause each such participant to notify Borrower) after any such set-off and application is made. Upon and during the continuance of any Event of Default, Bank and all such participants are authorized to debit any account maintained with it by Borrower for any amount of principal, interest, or fees which are then due and owing to Bank or such participants by Borrower. VIII.4. NO WAIVER: REMEDIES. No failure on the part of Bank to exercise, and no delay in exercising, any right under any of the Loan Documents shall operate as a waiver thereof; nor shall any single or partial exercise of any right under any of the Loan Documents preclude any other or further exercise thereof or the exercise of any other right. The remedies herein provided are cumulative and not exclusive of any remedies provided by law. VIII.5. COSTS AND EXPENSES. Borrower agrees to pay, within 30 days of demand therefor by Bank (but on demand if there shall then exist any Event of Default), all costs and expenses (i) of Bank (including reasonable and documented attorneys' fees and reasonable and documented costs of in-house counsel and staff) in connection with the preparation, amendment, or modification of the Loan Documents, and (ii) of Bank in connection with the enforcement (including, without limitation, in appellate, bankruptcy, insolvency, liquidation, reorganization, moratorium, or other similar proceedings) or restructuring of the Loan Documents; provided that Borrower's obligation to reimburse Bank for such attorneys' fees in connection with the preparation of the Loan Documents shall be limited to $5,000; provided further that the foregoing limitation shall not apply to any such costs and expenses attributable (in the reasonable judgment of Bank) to (i) any material change (other than at the request of Bank) in the terms and conditions set forth in the Summary of Terms and Conditions (attached to a letter from Bank to -40- 44 Andrew Koslow, Esq., dated October 16, 1995), dated October 16, 1995, or (ii) any failure by Borrower, or any representative acting on behalf of Borrower reasonably to cooperate with the efficient closing of the transaction contemplated by the Loan Documents. VIII.6. PARTICIPATIONS. (a) Bank may sell, negotiate, or grant participations in all or part of the obligations of Borrower outstanding under the Loan Documents, subject to the prior written approval of Borrower (which approval shall not be unreasonably withheld); provided that any such sale, negotiation or participation shall be in compliance with the applicable federal and state securities laws. Notwithstanding the foregoing, Bank shall not sell, negotiate, or grant participations unless it retains at least $20,000,000 of the Commitment or another amount as agreed upon by Borrower and Bank. Bank shall not transfer or grant any participating interest under which the participant shall have rights: (i) greater than Bank under Sections 3.6, 3.7, or 3.10 of this Agreement, or (ii) to approve any amendment to, or any consent or waiver with respect to, this Agreement or any other Loan Document, except to the extent such amendment, consent or waiver would: (A) increase the amount or extend the Maturity Date of the Commitment; (B) reduce the principal of, or interest on, the Revolving Loans or any fee or other amount payable to the participant hereunder; (C) postpone any date fixed for any payment in respect of principal of, or interest on, the Revolving Loans or any fee or other amount payable to Bank hereunder; or (D) amend the provisions of this sentence. In the event that Borrower requests a modification to any of the provisions set forth in clauses (A) through (D) above (a "Modification Request") and any existing participant refuses to agree to such modifications (a "Nonaccepting Participant"), Bank shall use good faith efforts to secure a participant willing to accept such modifications as a replacement participant for the Nonaccepting Participant (an "Accepting Participant") and, in the event that Bank shall be unable to secure an Accepting Participant within 60 days from Bank's receipt from Borrower of the related Modification Request, then -41- 45 Borrower shall, at its option, be entitled to purchase the Nonaccepting Participant's participation interest. No participant shall constitute "Bank" under any Loan Document, and Borrower shall continue to deal solely and directly with Bank. (b) Bank may disclose to any proposed participant which is a financial institution any information relating to Borrower or any of its Consolidated Subsidiaries; provided, that prior to such disclosure such participant and Bank shall have executed Borrower's standard Confidential Disclosure Statement ("Confidentiality Letter"). VIII.7. EFFECTIVENESS, BINDING EFFECT; GOVERNING LAW. This Agreement is being executed on the date hereof by Borrower, and Bank and is binding on and effective against each such party as of the date hereof. This Agreement shall become effective when it shall have been executed by Borrower and Bank and thereafter shall be binding upon and inure to the benefit of Borrower, Bank and their respective permitted successors and assigns, except that Borrower shall not have the right to assign its rights hereunder or any interest herein without the prior written consent of Bank. THIS AGREEMENT AND THE REVOLVING NOTE SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF CALIFORNIA WITHOUT GIVING EFFECT TO ITS CHOICE OF LAW DOCTRINE. VIII.8. CONSENT TO JURISDICTION; VENUE. BANK FOR SERVICE OF PROCESS. All judicial proceedings brought against Borrower with respect to this Agreement and the Loan Documents may be brought in any state or federal court of competent jurisdiction in the County of San Francisco in the State of California, and by execution and delivery of this Agreement, Borrower accepts for itself and in connection with its properties, generally and unconditionally, the nonexclusive jurisdiction of the aforesaid courts, and irrevocably agrees to be bound by any judgment rendered thereby in connection with this Agreement. Borrower irrevocably waives any right it may have to assert the doctrine of forum non conveniens or to object to venue to the extent any proceeding is brought in accordance with this Section. Borrower designates and appoints Borrower's Chief Financial Officer, from time to time, Komag Incorporated, 275 South Hillview Drive, Milpitas, California 95035, and such other Persons as may hereafter be selected by Borrower irrevocably agreeing in writing to so serve (as its agent to receive on its behalf -42- 46 service of all process in any such proceedings in any such court, such service being hereby acknowledged by Borrower to be effective and binding service in every respect). A copy of any such process so served shall be mailed by registered mail to Borrower at its address provided in the applicable signature page hereto, except that unless otherwise provided by applicable law, any failure to mail such copy shall not affect the validity of service of process. If any agent appointed by Borrower refuses to accept service, Borrower hereby agrees that service upon it by mail shall constitute sufficient notice. Nothing herein shall affect the right to serve process in any other manner permitted by law or shall limit the right of Bank, on behalf of Bank or Bank to bring proceedings against Borrower in courts of any jurisdiction. VIII.9. ENTIRE AGREEMENT. This Agreement with Exhibits and the other Loan Documents embody the entire agreement and understanding between the parties hereto and supersedes all prior agreements and understandings relating to the subject matter hereof. VIII.10. SEPARABILITY OF PROVISIONS. In case any one or more of the provisions contained in this Agreement should be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby. VIII.11. EXECUTION IN COUNTERPARTS. This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute one and the same agreement. VIII.12. SUCCESSORS AND ASSIGNS. This Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns, except that Borrower may not assign or transfer any of its rights or obligations under this Agreement or any other Loan Document without the consent of Bank. VIII.13. EFFECTIVENESS OF AGREEMENT. This Agreement shall become effective on the later to occur of (i) December 15, 1995 and (ii) such other date that Borrower notifies Bank that any necessary approvals of any other lenders to Borrower have been obtained and that this Agreement is effective, provided that if this Agreement -43- 47 has not become effective on or before January 31, 1996 as hereinabove provided, then this Agreement shall be null and void and Bank shall have no obligation to Borrower on account of the Commitment or otherwise pursuant to this Agreement. -44- 48 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed by their respective officers thereunto duly authorized, as of the date first above written. "BORROWER" KOMAG, INCORPORATED By: ------------------------------------- Title: ---------------------------------- Address for notices: 275 South Hillview Drive Milpitas, California 95035 Attention: David H. Allen Treasurer "BANK" THE INDUSTRIAL BANK OF JAPAN, LIMITED, SAN FRANCISCO AGENCY By: ------------------------------------- Title: ---------------------------------- Address for notices: 555 California Street, Suite 3110 San Francisco, California 94104 Attention: Michael McCorriston -45- 49 EXHIBIT A NOTICE OF BORROWING Date: ___________________, 19____ To: The Industrial Bank of Japan, Limited, San Francisco Agency, with respect to the Credit Agreement, dated as of December 15, 1995 (as extended, renewed, amended, or restated from time to time, the "Credit Agreement"), between Komag, Incorporated and The Industrial Bank of Japan, Limited, San Francisco Agency. Ladies and Gentlemen: The undersigned, Komag, Incorporated ("Borrower"), refers to the Credit Agreement, the terms defined therein being used herein as therein defined, and hereby gives you notice irrevocably, pursuant to Section 2.1(b) of the Credit Agreement, of the Revolving Loan specified below: 1. The Business Day of the proposed Revolving Loan is ______________________, 19___. 2. The aggregate amount of the proposed Revolving Loan is $__________________________. 3. The Revolving Loan is to be comprised of $____________ of a [Prime Rate] [Eurodollar Rate] Loan. [4. The duration of the Interest Period for the Eurodollar Rate Loan shall be [one] [two] [three] [six] [nine] [twelve] months.] The undersigned hereby certifies that the following statements are true on the date hereof, and will be true on the date of the proposed Revolving Loan, before and after giving effect thereto and to the application of the proceeds therefrom: (a) the representations and warranties of Borrower contained in Article V of the Credit Agreement are true and correct as though made on and as of such date (except to the extent such representations and warranties relate to an earlier date, in which case they are true and -1- 50 correct as of such date); (b) no Event of Default or Potential Event of Default has occurred and is continuing, or would result from such proposed Revolving Loan; and (c) The proposed Revolving Loan will not cause the aggregate principal amount of all outstanding Revolving Loans to exceed the Commitment. KOMAG, INCORPORATED By: ------------------------------------- Title: ---------------------------------- -2- 51 EXHIBIT B REVOLVING NOTE $35,000,000 San Jose, California December __, 1995 FOR VALUE RECEIVED, KOMAG, INCORPORATED (Borrower"), promises to pay to the order of THE INDUSTRIAL BANK OF JAPAN, LIMITED, SAN FRANCISCO AGENCY ("Bank") the principal amount of THIRTY-FIVE MILLION DOLLARS ($35,000,000), or, if less, the aggregate amount of Revolving Loans (as defined in the Credit Agreement referred to below), made by Bank to Borrower pursuant to the Credit Agreement referred to below, outstanding on the Maturity Date (as defined in the Credit Agreement referred to below). All unpaid amounts of principal and interest shall be due and payable in full on the Maturity Date as defined in the Credit Agreement referred to below. Borrower also promises to pay interest on the unpaid principal amount hereof from the date hereof until paid at the rates and at the times which shall be determined in accordance with the provisions of the Credit Agreement referred to below. All payments of principal and interest in respect of this Note shall be made in lawful money of the United States of America in same day funds at the office of Bank located at 555 California Street, San Francisco, California 94104, or at such other place as shall be designated in writing for such purpose in accordance with the terms of the Credit Agreement referred to below. Until notified of the transfer of this Note, Borrower shall be entitled to deem Bank or such person who has been so identified by the transferor in writing to Borrower as the holder of this Note, as the owner and holder of this Note. Each of Bank and any subsequent holder of this Note agrees that before disposing of this Note or any part hereof it will make a notation hereon of all principal payments previously made hereunder and of the date to which interest hereon has been paid on the schedule attached hereto, if any; provided, however, that the failure to make notation of any payment made on this Note shall not limit or otherwise affect the obligation of Borrower hereunder with respect to payments of principal or interest on this Note. -1- 52 This Note is referred to in, and is entitled to the benefits of, the Credit Agreement, dated as of December 15, 1995 (the "Credit Agreement"), between Borrower and Bank. The Credit Agreement, among other things, (i) provides for the making of advances (the "Loans") by Bank to Borrower from time to time in an aggregate amount not to exceed at any time outstanding the U.S. dollar amount first above mentioned, the indebtedness of Borrower resulting from each such Loan being evidenced by this Note, and (ii) contains provisions for acceleration of the maturity hereof upon the happening of certain stated events and also for prepayments on account of principal hereof prior to the maturity hereof upon the terms and conditions therein specified. The terms of this Note are subject to amendment only in the manner provided in the Credit Agreement. No reference herein to the Credit Agreement and no provision of this Note or the Credit Agreement shall alter or impair the obligation of Borrower, which is absolute and unconditional, to pay the principal of and interest on this Note at the place, at the respective times, and in the currency herein prescribed. Borrower promises to pay all costs and expenses, including reasonable attorneys' fees, incurred in the collection and enforcement of this Note. Borrower hereby consents to renewals and extensions of time at or after the maturity hereof, without notice, and hereby waives diligence, presentment, protest, demand, and notice of every kind and, to the full extent permitted by law, the right to plead any statute of limitations as a defense to any demand hereunder. IN WITNESS WHEREOF, Borrower has caused this Note to be executed and delivered by its duly authorized officer, as of the date and the place first above written. KOMAG, INCORPORATED By: ------------------------------------- Title: ---------------------------------- -2- 53 SCHEDULE 1 EXISTING LIENS AND SECURITY INTERESTS 1. Purchase money security interests in equipment; and 2. UCC filings evidencing leased equipment. -3- 54 SCHEDULE 2
SUBSIDIARIES AND PERCENTAGE OF CONSOLIDATED SUBSIDIARIES BORROWER'S OWNERSHIP - ------------------------- -------------------- 1. Komag Material Technology, Inc. 55% 2. Komag Technology Partners 50% 3. Asahi Komag Co., Ltd. 0%(1) 4. Komag Bermuda Ltd. 100% 5. Komag Overseas Ltd. 100% 6. Komag USA (Malaysia) Sdn 0%(2) 7. Dastek Holding Company 60% 8. Dastek(M) SDN BHD 0%(3) 9. Headway Technologies, Inc. 17%(4) 10. Asahi Komag (Thailand) Co., Ltd. 0%(5)
- ------------------------- (1) Borrower owns 50% of Komag Technology Partners, which owns 98% of Asahi Komag Co., Ltd. (2) Komag Bermuda Ltd. (97%) and Komag Overseas Ltd. (3%) own 100% of Komag USA (Malaysia) Sdn. (3) Dastek Holding Company owns 100% of Dastek(M) SDN BHD. (4) Borrower, through Asahi Komag Co, Ltd., owns an additional 9.5% of Headway Technologies, Inc. (5) Asahi Komag Co., Ltd. owns 100% of Asahi Komag (Thailand) Co., Ltd. EX-11.1 9 COMPUTATION OF INCOME (LOSS) PER SHARE 1 EXHIBIT 11.1 KOMAG, INCORPORATED COMPUTATION OF INCOME (LOSS) PER SHARE (In thousands, except per share amounts)
Fiscal Year Ended (2) ---------------------------------------------------------------------- December 31, 1995 January 1, 1995 January 2, -------------------------- --------------------------- primary fully diluted primary fully diluted 1994 (1) -------- ------------- -------- ------------- ---------- Weighted average shares of Common Stock outstanding 47,589 47,589 44,782 44,782 42,744 Weighted average shares of Common Stock equivalents: Stock Options 2,316 2,284 1,212 1,592 -- -------- -------- ------- ------- ------- Number of shares used in per share computation 49,905 49,873 45,994 46,374 42,744 ======== ======== ======= ======= ======= Net income (loss) $106,815 $106,815 $58,522 $58,522 $(9,901) ======== ======== ======= ======= ======= Net income (loss) per share $2.14 $2.14 $1.27 $1.26 $(0.23) ======== ======== ======= ======= =======
(1) Common Stock equivalents related to stock options and warrants were not included in the computation of loss per share for the year ended January 2, 1994 as their effect would be anti-dilutive. (2) The shares and earnings per share amounts have been restated to reflect the two-for-one stock split effective December 21, 1995. EX-21 10 LIST OF SUBSIDIARIES 1 KOMAG, INCORPORATED Exhibit 21 List of Subsidiaries Asahi Komag Co., Ltd., a Japanese corporation Komag USA (Malaysia) Sdn., a Malaysian corporation EX-23.1 11 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS 1 EXHIBIT 23.1 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statements (Form S-8 Nos.33-62453, 33-80594, 33-53432, 33-45469, 33-41945, 33-25230, 33-19851 and 33-16625) pertaining to the Komag Material Technology, Inc. 1995 Stock Option Plan, the Komag, Incorporated Employee Stock Purchase Plan, the Komag, Incorporated Restated 1987 Stock Option Plan, the Dastek International Stock Option Plan and the Dastek, Inc. 1992 Stock Option Plan and in the Registration Statement (Form S-3 No. 33-61161) of Komag, Incorporated and in the related Prospectus of our report dated January 17, 1996, with respect to the consolidated financial statements and schedule of Komag, Incorporated included in this Annual Report (Form 10-K) for the year ended December 31, 1995. ERNST & YOUNG LLP San Jose, California March 6, 1996 EX-23.2 12 CONSENT OF INDEPENDENT AUDITORS 1 EXHIBIT 23.2 CONSENT OF INDEPENDENT AUDITORS We consent to the inclusion in this annual report on Form 10-K of our report dated January 27, 1996 on our audit of the financial statements of Asahi Komag Co., Ltd. as of December 31, 1995 and 1994 and for the three years in the period ended December 31, 1995. CHUO AUDIT CORPORATION Tokyo, Japan March 5, 1996 EX-27 13 FINANCIAL DATA SCHEDULE
5 1000 U.S. DOLLARS 12-MOS DEC-31-1995 JAN-02-1995 DEC-31-1995 1 14,879 198,799 70,953 4,259 29,021 323,158 543,842 214,668 686,315 70,940 0 0 0 507 574,057 686,315 512,248 512,248 314,762 314,762 26,546 1,519 1,856 135,219 33,809 106,815 0 0 0 106,815 2.14 2.14
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