SCHEDULE
14A
(Rule
14a-101)
INFORMATION
REQUIRED IN PROXY STATEMENT
SCHEDULE
14A INFORMATION
Proxy
Statement Pursuant To Section 14(a) of the Securities
Exchange
Act of 1934
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Filed
by the Registrant x Filed
by a Party other than the Registrant ¨
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Check
the appropriate box:
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¨
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Preliminary
Proxy Statement
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Confidential,
for Use of the Commission Only (as permitted by Rule
14a-6(e)(2))
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x
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Definitive
Proxy Statement
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Definitive
Additional Materials
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Soliciting
Material Under Rule 14a-12
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ISCO
INTERNATIONAL, INC.
(Name
Of Registrant As Specified In Its Charter)
(Name
Of Person(S) Filing Proxy
Statement, if Other Than the Registrant)
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Payment
of Filing Fee (Check the appropriate
box):
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No
fee required.
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Fee
computed on table below per Exchange Act Rules 14a-6(i)(1) and
0-11.
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(1)
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Title
of each class of securities to which transaction applies: Common
Stock,
par value $0.001 per share
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(2)
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Aggregate
number of securities to which transaction applies: 40,000,000
shares of common stock
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(3)
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Per
unit price or other underlying value of transaction computed pursuant
to
Exchange Act Rule 0-11 (set forth the amount on which the filing
fee is
calculated and state how it was determined): $0.25 (the average
of the
high and low trading prices of ISCO's common stock on AMEX on November
27,
2007)
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(4)
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Proposed
maximum aggregate value of transaction: $10,000,000
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(5)
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Total
fee paid: $2,000
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x
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Fee
paid previously with preliminary materials: $2,000
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Check
box if any part of the fee is offset as provided by Exchange Act
Rule
0-11(a)(2) and identify the filing for which the offsetting fee
was paid
previously. Identify the previous filing by registration
statement number, or the form or schedule and the date of its
filing.
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(1)
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Amount
previously paid:
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(2)
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Form,
Schedule or Registration Statement No.:
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(3)
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Filing
Party:
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(4)
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Date
Filed:
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1001
Cambridge Drive
Elk
Grove
Village, Illinois 60007
December
12 , 2007
Dear
Stockholder:
On
behalf
of the board of directors, I cordially invite you to attend a Special Meeting
of
Stockholders of ISCO International, Inc., to be held at 10:00
am central time on December 27, 2007, at the Marriott Suites Chicago
O’Hare, 6155 North River Road, Rosemont, IL 60018.
The
matters that we expect will be acted upon at the meeting are described in
the
attached Proxy Statement and include:
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(1)
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To
approve the merger of ISCO International, Inc. with Clarity Communication
Systems Inc. (“Clarity”) and the issuance of shares of our common stock to
Jim Fuentes, the sole shareholder of Clarity and one of our directors,
and
the issuance of shares of our common stock from our 2003 Equity
Incentive
Plan, as amended (the “Plan”) to Clarity Rightsholders to satisfy certain
employee rights and interests, as described in the Proxy
Statement;
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(2)
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To
increase the number of authorized shares of common stock permitted
by our
certificate of incorporation, as described in the Proxy
Statement;
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(3)
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To
approve the increase in the amount of shares of common stock available
under the Plan, as described in the Proxy
Statement;
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(4)
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To
approve the issuance of shares of common stock upon the conversion
of
notes issued in accordance with our debt restructuring in June
2007, as
described in the Proxy Statement;
and
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(5) To
transact such other business as may properly come before the meeting or any
adjournment or postponement thereof, if necessary or appropriate, to solicit
additional proxies if there are insufficient votes at the time of the Special
Meeting to adopt any of the Proposals.
THE
BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT STOCKHOLDERS VOTE “FOR” ALL OF
THE PROPOSALS IN THE PROXY STATEMENT.
It
is
important that your shares be represented whether or not you are able to
be
present at the Special Meeting. Please sign and date the enclosed
proxy card and promptly return it to us in the enclosed postage paid
envelope. Your vote is very important, regardless of the amount of
stock that you own.
We
believe your support for the proposals described in the Proxy Statement is
essential for us to continue with our business strategy. Please
return your proxy card as soon as possible.
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Sincerely,
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Ralph
Pini
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Chief
Executive Officer
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NOTICE
OF SPECIAL MEETING OF STOCKHOLDERS TO BE HELD ON DECEMBER 27,
2007
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To
the Stockholders of
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ISCO
International, Inc.
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NOTICE
IS HEREBY GIVEN that a Special Meeting of Stockholders of ISCO
International, Inc. (the “Company”), a Delaware corporation, will be held
at 10:00 am central time on December 27, 2007, at the
Marriott Suites Chicago O’Hare, 6155 North River Road, Rosemont, IL 60018 for
the following purposes:
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(1)
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To
approve the merger of ISCO International, Inc. with Clarity Communication
Systems Inc. (“Clarity”) and the issuance of shares of our common stock to
Jim Fuentes, the sole shareholder of Clarity and one of our directors,
and
the issuance of shares of our common stock from our 2003 Equity
Incentive
Plan, as amended (the “Plan”) Clarity Rightsholders to satisfy certain
employee rights and interests, as described in the Proxy
Statement;
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(2)
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To
increase the number of authorized shares of common stock permitted
by our
certificate of incorporation, as described in the Proxy
Statement;
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(3)
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To
approve the increase in the amount of shares of common stock available
under the Plan, as described in the Proxy
Statement;
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(4)
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To
approve the issuance of shares of common stock upon the conversion
of
notes issued in accordance with our debt restructuring in June
2007, as
described in the Proxy Statement;
and
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(5)
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To
transact such other business as may properly come before the meeting
or
any adjournment or postponement thereof, if necessary or appropriate,
to
solicit additional proxies if there are insufficient votes at the
time of
the special meeting to adopt any of the
Proposals.
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The
board of
directors has fixed the close of business on November 30, 2007 as the record
date for determining stockholders entitled to notice of, and to vote at,
the
Special Meeting. Only stockholders of record of the Company as of the
close of business on November 30, 2007 will be entitled to vote at the Special
Meeting. The Company will maintain a complete list of its
stockholders entitled to vote at the Special Meeting at its headquarters
located
at 1001 Cambridge Drive, Elk Grove Village, IL for ten days prior to the
date of
the Special Meeting. If the Company has to adjourn the Special
Meeting, then it will take action on the items described above on the date
to
which the Special Meeting is adjourned.
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By
Order of the Board,
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Frank
Cesario, Secretary
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Elk
Grove Village, IL
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December
12, 2007
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ii
Table
of Contents
iii
1001 CAMBRIDGE DRIVE
ELK GROVE VILLAGE, ILLINOIS 60007
The
accompanying proxy is solicited on behalf of the board of directors (the
“Board
of Directors” or “Board”) of ISCO International, Inc., a Delaware corporation
(sometimes referred to in the Proxy Statement as the “Company”, “ISCO”, “we”,
“us”, or “our”), for use at the Special Meeting of Stockholders (the “Special
Meeting”) to be held at 10:00 am central time on December 27,
2007 at the Marriott Suites Chicago O’Hare, 6155 North River Road, Rosemont, IL
60018, and any adjournment or postponement thereof. This Proxy
Statement and accompanying proxy are first being mailed to stockholders on
or
about December 12, 2007.
Record
Date and Outstanding Shares. The Board has fixed the close of
business on November 30, 2007 as the record date (the “Record Date”) for the
determination of stockholders entitled to notice of, and to vote at, the
Special
Meeting or any adjournment or postponement thereof. As of the Record
Date, the Company had outstanding approximately 201 million shares of common
stock, par value $0.001 per share, (the “Common Stock”).
Each
of
the outstanding shares of Common Stock is entitled to one vote on all matters
to
come before the Special Meeting. As of the Record Date, none of the
Company’s preferred stock, par value $0.001 per share, was
outstanding.
Matters
To Be Voted On. Stockholders will be asked to approve the
following proposals (collectively, the “Proposals”):
(1) To
approve (the “Merger Proposal”) the merger (the “Merger”) of ISCO International,
Inc. with Clarity Communication Systems Inc. (“Clarity”) pursuant to the
Agreement and Plan of Merger dated November 13, 2007 (the “Merger Agreement”),
the issuance of shares of Common Stock to Jim Fuentes, the sole shareholder
of
Clarity and one of our directors, and the issuance of shares of Common Stock
from our 2003 Equity Incentive Plan (the “Plan”), as amended, to certain Clarity
rightsholders (the “Rightsholders”) to satisfy certain employee rights and
interests;
(2) To
approve (the “Charter Amendment”) the increase in the number of authorized
shares of Common Stock permitted by our certificate of
incorporation;
(3) To
approve (the “Plan Amendment”) the increase in the amount of shares of Common
Stock available under the Plan; and
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(4)
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To
approve (the “Note Issuance”) the issuance of shares of Common Stock upon
the conversion of the amended and restated notes (the
“Notes”) issued in connection with our debt restructuring in
June 2007 (the “Restructuring”).
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We
may
also transact other business as may properly come before the special meeting
or
any adjournment of the Special Meeting, if necessary or appropriate, to solicit
additional proxies if there are insufficient votes at the time of the special
meeting to adopt any of the Proposals.
Voting
of Proxies. Mr. Ralph Pini and Mr. Frank Cesario, the persons
named as proxies on the proxy card accompanying this Proxy Statement, were
selected by the Board of the Company to serve in such
capacity. Mr. Pini is serving as the Company’s interim Chief
Executive Officer and is also a member of the Board and Mr. Cesario is the
Company’s Chief Financial Officer. Each executed and returned
proxy will be voted in accordance with the directions indicated thereon,
or if
no direction is indicated, such proxy will be voted in accordance with the
recommendations of the Board contained in this Proxy Statement.
Each
stockholder giving a proxy has the power to revoke it at any time before
the
shares it represents are voted. Revocation of a proxy is effective
upon receipt by the Secretary of the Company of either (i) an instrument
revoking the proxy or (ii) a duly executed proxy bearing a later
date. Additionally, a stockholder may change or revoke a previously
executed proxy by voting in person at the Special Meeting.
Required Votes. The affirmative vote of a majority of the shares of
Common Stock present, in person or represented by proxy at the Special Meeting
and entitled to vote on the matter is required to approve each of the
Proposals.
Quorum;
Abstentions and Broker Non-Votes. A majority of the shares of
Common Stock issued and outstanding as of the Record Date is required to
transact business at the Special Meeting. Votes cast by proxy or in
person at the Special Meeting will be tabulated by the inspector of election
appointed for the Special Meeting.
Abstentions
and broker non-votes will be included in determining the presence of a
quorum. If your shares are held in the name of a bank or broker or
other nominee, you will receive separate instructions from your bank, broker
or
other nominee describing how to vote your shares. The availability of
telephonic or Internet voting will depend on the bank’s or broker’s voting
process. Please check with your bank or broker and follow the voting
procedures your bank or broker provides.
You
should instruct your bank, broker or other nominee how to vote your
shares. Although rules applicable to broker-dealers grant your broker
discretionary authority to vote your shares without receiving your instructions
on certain matters, your broker does not have discretionary authority to
vote
your shares for each of the Proposals. If your broker does not
receive voting instructions from you regarding those proposals, your shares
will
not be voted on the Proposals.
Stockholder
List. A list of stockholders entitled to vote at the Special
Meeting, arranged in alphabetical order, showing the address and number of
shares registered in the name of each stockholder, will be open to the
examination of any stockholder for any purpose germane to the Special Meeting
during ordinary business hours commencing on December 17, 2007 and
continuing through the date of the Special Meeting at the principal offices
of
the Company, 1001 Cambridge Drive, Elk Grove Village, Illinois 60007.
Recommendation. The
Board of Directors recommends that you vote“FOR” all of the
Proposals.
Revocation
of Proxies. If you wish to change your vote, please send a
later-dated, signed proxy card to our Corporate Secretary at ISCO, prior
to the
date of the Special Meeting or attend the Special Meeting and vote in
person. You also may revoke your proxy by sending a notice of
revocation to our Corporate Secretary at the address of ISCO’s corporate
headquarters, provided such revocation is received prior to the Special
Meeting.
Solicitation
of Proxies. The Company will pay all expenses relating to this
proxy solicitation. The Company reserves the right to retain a
solicitation agent to assist in the solicitation of proxies. The
Company will also request banks, brokers and other intermediaries holding
shares
of the Company’s Common Stock beneficially owned by others to send this Proxy
Statement to, and obtain proxies from, the beneficial owners and will, if
requested, reimburse the record holders for their reasonable out-of-pocket
expenses in so doing. Solicitation of proxies by mail may be
supplemented through solicitation by telephone and other electronic means,
advertisements and personal solicitation by the directors, officers or employees
of the Company. No additional compensation will be paid to the
Company’s directors, officers or employees for soliciting votes in connection
with the special meeting.
If
you have
questions about the Special Meeting or would like additional copies of this
Proxy Statement, you should contact our Corporate Secretary, Frank Cesario,
1001
Cambridge Drive, Elk Grove Village, Illinois 60007, telephone
(847) 391-9400.
The
Company
makes forward-looking statements in this document. These
forward-looking statements are subject to risks and uncertainties, including
those that are enumerated under the heading “Risk Factors” in this Proxy
Statement, the Company’s Annual Report to Stockholders on Form 10-K for the year
ended December 31, 2006, as updated in the Company’s Quarterly Report on Form
10-Q for the quarter ended September 30, 2007, and in the Company’s other
filings with the Securities and Exchange Commission. Such risks and
uncertainties could cause actual results to differ materially from those
projected. Therefore, there can be no assurance that such statements
will prove to be correct. In some cases, you can identify
forward-looking statements by terminology such as “may,” “will,” “should,”
“plans,” “believes,” “anticipates,” “expects,” “looks,” and “intends,” or the
negative of such terms and similar terminology. You are cautioned not
to place undue reliance on these forward-looking statements, which speak
only as
of the date hereof. The Company undertakes no obligation to release
publicly the results of any revisions to these forward-looking statements
that
may be made to reflect events or circumstances after the date hereof or to
reflect the occurrence of anticipated events.
The
following summary provides an overview of the acquisition of all of the
outstanding stock of Clarity through a merger in which our wholly-owned
subsidiary, ISCO Illinois, Inc. (“Merger Subsidiary”) will merge with and into
Clarity with Clarity being the surviving corporation and a wholly-owned
subsidiary of our Company. We will issue shares of our Common Stock
in connection with the Merger as described herein. This overview is
not a complete summary of the transaction and may not contain all of the
information that is important to you. You should carefully read this
Proxy Statement and the attached annexes in their entirety. A copy of
the Merger Agreement is attached to this Proxy Statement as Appendix A and is incorporated herein by
reference.
ISCO
International, Inc.
1001
Cambridge Drive
Elk
Grove
Village, IL 60007
847-391-9400
ISCO
is a
leading global supplier of radio frequency management and interference-control
systems for the wireless telecommunications industry. By integrating
state-of-the-art filtering, duplexing and low noise amplifier technology,
ISCO’s
product portfolio is able to improve the performance of new and existing
cellular deployments. ISCO now offers software-based, adaptive
filtering solutions targeted at increasing the performance of CDMA and WCDMA
wireless systems worldwide. ISCO maintains a website at
http://www.iscointl.com. The information contained therein
is not incorporated into this Proxy Statement.
Clarity
Communication Systems Inc.
2640
White Oak Circle, Suite C
Aurora,
IL 60502-4809
630-499-1234
Clarity
is a leading provider of applications and platforms for the wireless
industry. Its portfolio of applications for mobile devices includes
end-to-end Push-to-Talk (“PTT”) solutions and Location-Based Services
(“LBS”). Where2Talk, its latest product, combines PTT and LBS into
one application. Clarity also offers custom development services that
utilizes its core technologies and accelerates development time in an effort
to
help customers introduce new products and services quickly and
cost-effectively. Founded in 1998, Clarity is a privately held
company with headquarters in the Chicago area. Clarity maintains a
website at http://www.claritycsi.com . The
information contained therein is not incorporated into this Proxy Statement.
Clarity
is owned by a single stockholder, Mr. Fuentes. However, certain
employees, former employees, advisors and consultants hold rights to receive
either cash or the same consideration Mr. Fuentes or Clarity receives in
the
event of a change in control of Clarity pursuant to Clarity’s Non-Qualified
Phantom Stock Plan, as amended (the “Phantom Plan”). In addition,
pursuant to separate At-Risk Compensation Plans (collectively, the “At-Risk
Plan”), Mr. Fuentes and certain employees each agreed to suspend receipt of his
or her salary for employment with Clarity for two and a half months in exchange
for an amount equal to his or her accrued suspended salary (the “Suspended
Salary”) in cash plus an equal amount to be paid in equity securities (the
“Enhanced Benefits”) received upon an acquisition of Clarity. The
Suspended Salary would be paid by Clarity through its line of credit upon
approval of, but prior to closing of the Merger.
ISCO
and
Clarity have agreed to the acquisition of Clarity by ISCO under the terms
of the
Merger Agreement that is described in this Proxy Statement. A special
committee of disinterested members of our Board of Directors reviewed and
negotiated the terms of the merger, received a fairness opinion by an
independent financial advisor with respect to the financial terms of the
Merger,
and recommended to the full Board of Directors (excluding Mr. Fuentes) that
it
approve the Merger. In addition, in accordance with the rules of the
American Stock Exchange (“AMEX”), the Audit Committee of our Board of Directors
reviewed the terms of the Merger and recommended to the full Board of Directors
that it approve the Merger. The full Board of Directors (excluding
Mr. Fuentes) has approved the Merger on the terms and subject to the conditions
of the Merger Agreement.
In
addition, the board of directors and the sole stockholder of Clarity have
approved the Merger on the terms and subject to the conditions of the Merger
Agreement.
In
the
Merger, newly created ISCO Illinois, Inc. (“Merger Subsidiary”) will merge with
and into Clarity with Clarity being the surviving corporation and a wholly-owned
subsidiary of ISCO. In connection with the Merger, we are issuing
shares of Common Stock in exchange for all of the shares of Clarity stock
and to
satisfy certain obligations of Clarity to its Rightsholders. We have
attached the Merger Agreement to this Proxy Statement as Appendix A. We encourage you to carefully read the
Merger Agreement in its entirety because it is the legal document that governs
the Merger. For a description of the material terms of the Merger
Agreement, please see the section titled “THE MERGER AGREEMENT” beginning on
page 51 of this Proxy Statement.
Pursuant
to the Merger Agreement, ISCO will issue up to an aggregate of 40 million
shares
(the “Shares”) of ISCO common stock in exchange for all of Clarity’s stock,
which is held entirely by Mr. Fuentes, and satisfaction of the rights under
the
Phantom Plan and the Enhanced Benefits under the At-Risk Plan. Of the
total number of Shares ISCO may issue in the Merger, 20 million Shares would
be
issuable upon closing (subject to adjustment if the amount of total liabilities,
subject to certain exceptions, on Clarity’s closing balance sheet, including
Clarity’s line of credit, exceeds $1.5 million), 2.5 million Shares would be
issuable on each of the first and second anniversaries of closing (the
“Time-Based Shares”) (subject to any indemnification claims), and 3.75 million
Shares would be issuable on each of the first dates on which ISCO’s equity
market capitalization first equals or exceeds $125,000,000, $175,000,000,
$225,000,000 and $275,000,000 within the three year period after closing
of the
Merger for at least 40 of the 45 consecutive trading days ISCO’s market
capitalization equals such thresholds (the “Market-Based
Shares”). The exact number of Shares issuable to Mr. Fuentes and the
Rightsholders will depend on, among other things, whether any of the Time-Based
Shares are used to satisfy indemnification claims or whether one or more
Rightsholders forfeit their shares because their employment with ISCO following
the closing of the Merger is terminated. In the event one or more
Rightsholders forfeit their Shares prior to the closing of the Merger, the
Shares allocated to Mr. Fuentes and the remaining Rightsholders will be adjusted
upward on a pro-rata basis. Mr. Fuentes will be allocated
approximately 65% of the Shares. No single Rightsholder will be
allocated more than 2.75% of the Shares. Assuming Mr. Fuentes is
issued all of the shares he is eligible to receive in connection with the
Merger, Mr. Fuentes will beneficially own approximately 11% of ISCO’s
outstanding Common Stock. We will pay off the amount of Clarity’s
outstanding line of credit at closing, which we expect to be approximately
$1,000,000. For additional information please see the section titled
“THE MERGER AGREEMENT – Merger and Rights Consideration” beginning on
page 51 of this Proxy Statement.
In
addition, we have agreed to reimburse certain professional fees and expenses
of
Clarity relating to the Merger up to an aggregate of $375,000.
We
will
require additional capital as part of the costs anticipated with the Merger,
as
well as to support any significant quarterly revenue increases in the form
of
working capital or in any greater than expected expansion of our business
and
product offering that are expected to provide additional revenue
opportunities. Further, as a condition to closing of the Merger, we
will be required to obtain $1.5 million in financing to fund the initial
operations of the combined entity, which we expect to obtain through one
of our
existing lenders and on terms substantially similar to our current debt
arrangements. The primary covenant in our existing debt arrangement
involves the right of the lenders to receive debt repayment from the proceeds
of
new financing activities. In the event we need to look to sources
other than our existing lenders for the financing required in the Merger,
this
covenant may restrict our ability to obtain new sources of financing and/or
to
apply the proceeds of such financing event toward the integration of the
combined company until our existing debt is repaid in full. For a
description of our debt arrangements, please see the Note Issuance Proposal
beginning on page 68 of the Proxy Statement or our Quarterly Report on Form
10-Q
for the quarter ended September 30, 2007, a copy of which is attached as
Appendix Eto this Proxy Statement. For
additional information regarding the financing, please see the section titled
“THE MERGER AGREEMENT – Financing Condition” beginning on page 53 of this Proxy Statement.
In
addition to the financing condition described above, the consummation of
the
Merger will depend on the satisfaction or waiver of a number of closing
conditions by both ISCO and Clarity, including obtaining ISCO stockholder
approval of the Merger, the issuance of the Shares, and the transactions
contemplated thereby. These conditions are described in more detail
in the section titled “THE MERGER AGREEMENT - Other Conditions Required for
Closing” beginning on page 53 of this Proxy
Statement.
The
Merger Agreement contains certain covenants and agreements among the
parties. For instance, Clarity has agreed to certain restrictions on
the operations of its business and a no solicitation provision. In
addition, the Merger Agreement contains certain other covenants and agreements,
including, among others, covenants relating to:
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Access
by ISCO to Clarity and Clarity
information;
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Clarity
maintaining the confidentiality of all non-public information of
Clarity
and ISCO and their respective
operations;
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·
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Obligations
to provide prompt notice to the other party upon the occurrence
of certain
events;
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·
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ISCO
using its commercially reasonable efforts to cause the shares of
Common
Stock issuable in connection with the Merger to be approved for
listing on
AMEX;
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·
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ISCO
taking commercially reasonable efforts to file a registration statement
on
Form S-8 prior to closing of the Merger;
and
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·
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Clarity
taking commercially reasonable efforts to obtain by December 1,
2007
acknowledgements and releases from the Rightsholders regarding
their share
allocations.
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The
covenants and agreements are described in more detail in the section titled
“Other Covenants and Agreements on page 55 of this
Proxy Statement.
ISCO
and
Clarity can mutually agree to terminate the Merger Agreement at any time
without
completing the Merger. In addition, either party may terminate the
Merger Agreement if the Merger is not completed by January 31, 2008, or under
other circumstances set forth in the Merger Agreement and described in this
Proxy Statement. For additional information please see the section
titled “THE MERGER AGREEMENT – Termination of the Merger Agreement beginning on
page 58 of this Proxy Statement.
ISCO,
its
officers, directors, employees, stockholders, successors, representatives
and
certain other parties will be entitled to indemnification in the event of
losses
resulting from, among other things, breaches of Clarity’s representations and
warranties, failure to perform covenants under the Merger Agreement and Clarity
tax obligations solely and exclusively as provided in the Merger Agreement,
other than for fraud. ISCO and these other parties will not be
entitled to indemnification until the cumulative amount of all losses pursuant
to indemnification claims exceeds $150,000, and then only to the extent of
any
amounts that exceed $150,000. The length of time in which to bring an
indemnification claim and the amount by which ISCO or another indemnified
party
may be indemnified are subject to certain caps and time limits. For
additional information regarding indemnification, please see the section
titled
“THE MERGER AGREEMENT – Indemnification beginning on page 59 of this Proxy Statement.
In
connection with the proposed Merger, ISCO and Mr. Fuentes intend to enter
into
an employment agreement for a term of 24 months following closing of the
proposed transaction whereby Mr. Fuentes would earn an annual salary of
$240,000. Pursuant to the terms of the employment agreement, Mr.
Fuentes will assist our Chief Executive Officer in the coordination and
integration of Clarity’s operations with our business and perform such other
duties as the Chief Executive Officer may assign to Mr. Fuentes. The
employment agreement would be subject to customary for-cause termination
and
severance payments in the event of termination without cause, and allows
for the
parties to modify or extend the employment agreement as may be mutually
agreed. Mr. Fuentes will continue to serve on our Board at least for
the remainder of his term.
In
addition, we intend to enter into a registration rights agreement with Mr.
Fuentes and certain Clarity Rightsholders pursuant to which we would agree
to
register the shares of Common Stock they receive in connection with the Merger
for resale under the Securities Act on a Registration Statement on Form S-3,
or
other available form to be filed by us within 30 days after the closing of
the
Merger, subject to certain conditions. Assuming Mr. Fuentes is issued
all of the shares he is eligible to receive in connection with the Merger,
Mr.
Fuentes would beneficially own approximately 11% of our outstanding Common
Stock.
For
additional information on these agreements, please see the section titled
“THE
MERGER AGREEMENT – Related Agreements beginning on page 60.
In
evaluating the Merger, the Merger Agreement or the issuance of the Shares,
you
should carefully read this Proxy Statement and especially consider the factors
discussed in the section entitled “Risk Factors” on page 23 of this Proxy
Statement.
The
Merger has been structured to qualify as a reorganization within the meaning
of
Section 368(a) of the Internal Revenue Code of 1986, as amended (the
“Code”). Assuming the Merger qualifies as such a reorganization, for
U.S. federal income tax purposes, Mr. Fuentes will generally not recognize
a
gain or loss with respect to his Clarity Common Stock exchanged in the Merger
for shares of our common stock and the right to receive the Time-Based Shares
and the Market-Based Shares, if any. However, a portion of the
Time-Based Shares and the Market-Based Shares, if any, may be treated as
taxable
interest income to Mr. Fuentes at the time such shares are issued.
ISCO
stockholders will not exchange their ISCO Common Stock in the Merger and
accordingly will not recognize any taxable gain or loss as a result of the
Merger.
Tax
matters are very complicated. The tax consequences of the Merger to
Mr. Fuentes will depend on his particular circumstances. Mr. Fuentes
is urged to consult his tax advisors to determine the U.S. federal, state,
local, foreign or other tax consequences of the Merger to him. For
additional information please see the section titled “Material United States
Federal Income Tax Consequences of the Merger” beginning on page 48.
No
dissenters’ or
appraisal rights are available under applicable Delaware or Illinois law
to
either our stockholders or to the sole Clarity stockholder.
We
believe the Merger and the transactions contemplated by the Merger Agreement
are
not subject to any federal or state regulatory requirement or approval, except
for filings necessary to effectuate the transactions contemplated by the
Merger
Proposal with the Secretary of State of the State of Illinois and the Charter
Amendment with the Secretary of State of the State of Delaware as well as
compliance with applicable federal and state securities laws and the application
for listing of the shares issuable in connection with the Merger with
AMEX.
Approval
of the Merger is conditioned on the approval of certain related proposals
we are
asking our stockholders to consider at the Special Meeting and described
in this
Proxy Statement.
Increase
in Authorized Shares of Common Stock pursuant to the Charter Amendment
(see page 61). We are also seeking your consent to
amend our certificate of incorporation to increase the number of shares of
common stock that we are authorized to issue to 500 million shares of common
stock from 250 million shares of common stock pursuant to the Charter Amendment
described in this Proxy Statement. In addition to the Shares that
will be paid as consideration in connection with the Merger, we issued
convertible notes (the “Amended and Restated Notes”) to our two lenders,
Alexander Finance, L.P. (“Alexander”) and Manchester Securities Corporation
(“Manchester” and together with Alexander, the “Lenders”) in connection with our
June 2007 debt restructuring. The Amended and Restated Notes and
associated financing documents contain provisions that require us to increase
the number of authorized shares under our certificate of incorporation to
a
number that would permit the Lenders to convert their Amended and Restated
Notes
into shares of Common Stock (the “Conversion Shares”). Without the
approval of the Charter Amendment we will not be able to issue the Shares
in
connection with the Merger, and as a result the Merger will not be consummated,
or issue the Conversion Shares. Further, if we are unable to issue
the Conversion Shares, the interest rate on the Amended and Restated Notes
will
increase and we will be required to repay the Amended and Restated Notes,
including any accrued interest thereon, upon the maturity date of the Amended
and Restated Notes whether or not we have sufficient cash resources to do
so. In addition, increasing the number of authorized shares of Common
Stock will give us flexibility to compensate our directors and employees,
including officers, finance future acquisitions, and raise additional capital
in
the future, if necessary, through sales of shares of Common Stock and future
stock splits and stock dividends, if any, if the Board of Directors deems
it in
the our best interest to do so.
Increase
in Available Shares of Common Stock pursuant to the Plan Amendment
(see page 63). In addition, we would like to
increase the amount of shares of Common Stock we have available under the
Plan,
primarily to be able to satisfy our obligation to issue Shares pursuant to
the
Merger Agreement to Rightsholders who will be new employees of the combined
entity after the Merger pursuant to the terms and conditions governed by
the
Plan and with shares registered under the Securities Act. In
addition, we seek to increase the amount of Common Stock available under
the
Plan to continue to be able to attract and retain quality employees within
the
combined entity.
After
careful consideration, our Board of Directors (other than Mr. Fuentes) based
on
the recommendation of the Special Committee of disinterested directors, has
determined that the Merger is advisable, fair to and in the best interests
of
ISCO and its stockholders and recommends that you vote “FOR”
adoption of the Merger Proposal. Our Board of Directors considered a
number of factors in determining to approve the Merger Agreement and the
issuance of the Shares pursuant to the Merger Agreement. These
considerations are described in the section entitled “Reasons for the Merger”
beginning on page 41 of this Proxy
Statement.
In
addition, the Board of Directors has determined that the other Proposals
are
advisable, fair to and in the best interests of, ISCO and its stockholders
and
recommends that you vote “FOR” adoption of the other
Proposals.
Why
am I receiving these materials?
You
are
receiving this Proxy Statement because you own shares of ISCO Common
Stock. Our Board of Directors is providing these proxy materials to
give you information for use in determining how to vote in connection with
the
Special Meeting of stockholders.
When
and where is the special meeting?
The
Special Meeting of ISCO stockholders will be held on December 27, 2007,
beginning at 10:00 am central time at the Marriott Suites Chicago O’Hare,
6155 North River Road, Rosemont, IL.
What
matters will be voted on at the special meeting?
As
a
stockholder of ISCO you will be asked to consider and vote on the following
proposals (the “Proposals”):
(1) To
approve (the “Merger Proposal”) the merger (the “Merger”) of ISCO International,
Inc. with Clarity Communication Systems Inc. (“Clarity”) pursuant to the
Agreement and Plan of Merger dated November 13, 2007 (the “Merger Agreement”),
the issuance of shares of Common Stock to Jim Fuentes, one of our directors,
and
the issuance of shares of Common Stock from our 2003 Equity Incentive Plan
(the
“Plan”), as amended, to certain Clarity rightsholders (the “Rightsholders”) to
satisfy certain employee rights and interests;
(2) To
approve (the “Charter Amendment”) the increase in the number of authorized
shares of Common Stock permitted by our certificate of
incorporation;
(3) To
approve (the “Plan Amendment”) the increase in the amount of shares of Common
Stock available under the Plan; and
(4) To
approve (the “Note Issuance”) the issuance of shares of Common Stock upon the
conversion of the amended and restated notes (the “Notes”) issued in connection
with our debt restructuring in June 2007 (the “Restructuring”).
In
addition, we may transact such other business as may properly come before
the
meeting or any adjournment or postponement thereof, if necessary or appropriate,
to solicit additional proxies if there are insufficient votes at the time
of the
special meeting to adopt any of the Proposals.
What
is the proposed Merger?
The
proposed transaction is the merger of Clarity Communication Systems Inc.
with a
wholly-owned subsidiary of ISCO (“Merger Subsidiary”) pursuant to the Merger
Agreement. Once the Merger Proposal has been approved and adopted by
ISCO’s stockholders and the other closing conditions under the Merger Agreement
have been satisfied or waived, Merger Subsidiary will merge with and into
Clarity. Clarity will be the surviving corporation in the Merger and
thereby become a wholly-owned subsidiary of ISCO. A copy of the
Merger Agreement is attached to this Proxy Statement as Appendix A, which we encourage you to read in its
entirety.
Why
does ISCO wish to conduct the Merger with Clarity?
We
believe that the growth provided by an acquisition will strengthen our Company,
diversify our product and service solutions and allow us to be more competitive
as we continue to move toward a more software driven business model within
the
wireless telecommunications industry. The telecommunications
industry, particularly the wireless segment, has been consolidating for several
years and continues to do so. Inherent benefits in a larger entity
size include cost efficiencies in operations and sourcing, as well as diversity
of products and markets, all of which would allow us to reduce our reliance
on
any particular element of the organization in the face of fluctuating customer
spending patterns. For a more detailed discussion on our reasons for
conducting the Merger, as well as other considerations that factored into
our
decision, please see the section titled “Reasons for Merger” beginning on
page 41 of this Proxy
Statement.
What
is the relationship among the proposals?
Approval
of the Merger is conditioned on the approval of certain related proposals
we are
asking our stockholders to consider at the Special Meeting and described
in this
Proxy Statement, in particular an amendment (the “Charter Amendment”) to our
certificate of incorporation to increase in the number of shares of Common
Stock
authorized for issuance and an amendment (the “Plan Amendment”) to our 2003
Equity Incentive Plan, as amended (the “Plan”), to increase the number of shares
of Common Stock available for issuance under the Plan. Without the
approval of the Charter Amendment, we will not be able to issue shares of
Common
Stock in the Merger, and therefore, we will not be able to complete the
Merger. In addition, without the approval of the Charter Amendment,
we will not be able to issue shares of Common Stock upon conversion of the
Amended and Restated Notes. In that event, the interest rate on the
Amended and Restated Notes will increase and we will need to repay the Amended
and Restated Notes at maturity, which we may not have sufficient cash resources
available to do. Further, if the Note Issuance is not approved. as a
result of the failure to approve the Charter Amendment or otherwise, our
ability
to secure the $1.5 million of additional financing required by the Merger
Agreement may be adversely affected. For additional information on
the Charter Amendment please see the description of the proposal beginning
on
page 61 of this Proxy Statement.
Without
the approval of the Plan Amendment, we will not be able to issue shares of
Common Stock registered under the Securities Act of 1933, as amended (the
“Securities Act”), to the Rightsholders of Clarity who are expected to become
employees of the combined company following the Merger. An exemption
from registration for the issuance of such shares may not be available in
that
event. For additional information on the Plan Amendment, please see
the description of the proposal beginning on page 65 of
this Proxy Statement.
What
will ISCO stockholders receive if the Merger occurs?
ISCO
stockholders will continue to own their existing ISCO
shares. However, those shares will represent a smaller proportion of
the outstanding shares of the combined company due to the issuance of ISCO
Common Stock to Mr. Fuentes and the Clarity Rightsholders in connection with
the
Merger. As a result of the Merger, depending upon whether all time
and market capitalization milestones are reached, we estimate that current
ISCO
stockholders will own approximately 83% of ISCO’s Common Stock following the
Merger (which does not account for any shares of ISCO Common Stock that may
be
issued upon conversion of the Amended and Restated Notes pursuant to the
Note
Issuance).
What
will Clarity receive if the Merger occurs?
Pursuant
to the Merger Agreement, ISCO will issue up to an aggregate of 40 million
shares
(the “Shares”) of ISCO Common Stock in exchange for all of Clarity’s stock,
which is held entirely by Mr. Fuentes, and satisfaction of the rights under
the
Phantom Plan and the Enhanced Benefits under the At-Risk Plan. Of the
total number of Shares ISCO may issue in the Merger, 20 million Shares would
be
issuable upon closing (subject to adjustment if the amount of total liabilities,
subject to certain exceptions, on Clarity’s closing balance sheet, including
Clarity’s line of credit, exceeds $1.5 million), 2.5 million Time-Based
Shares would be issuable on each of the first and second anniversaries of
closing (subject to any indemnification claims pursuant to the Merger
Agreement), and 3.75 million Market-Based Shares would be issuable on each
of
the first dates on which ISCO’s equity market capitalization first equals or
exceeds $125,000,000, $175,000,000, $225,000,000 and $275,000,000 for at
least 40 of the 45 consecutive trading days ISCO’s market capitalization equals
such thresholds within the three year period after closing of the
Merger. The exact number of Shares issuable to Mr. Fuentes and the
Rightsholders will depend on, among other things, whether any of the Time-Based
Shares are used to satisfy indemnification claims or whether one or more
Rightsholders forfeit their shares because their employment with ISCO following
the closing of the Merger is terminated. In the event one or more
Rightsholders forfeit their Shares prior to the closing of the Merger, the
Shares allocated to Mr. Fuentes and the remaining Rightsholders will be adjusted
upward on a pro-rata basis. Mr. Fuentes will be allocated
approximately 65% of the Shares. Subject to the possibility of this
reallocation, no single Rightsholder will be allocated more than 2.75% of
the
Shares. Assuming Mr. Fuentes is issued all of the Shares he is
eligible to receive in connection with the Merger, Mr. Fuentes will beneficially
own approximately 11% of ISCO’s outstanding common stock. For
additional information please see the section titled “THE MERGER AGREEMENT –
Merger and Rights Consideration” beginning on page 51 of this Proxy Statement.
How
does ISCO’s Board of Directors recommend that I vote my
shares?
The
Board
of Directors recommends that you vote“FOR” all of the
Proposals.
You
should read the Risk Factors section beginning on page 23 of this Proxy
Statement for a discussion of the material risks pertinent to and surrounding
the Merger. In addition, in considering the proposed Merger, you
should be aware that some of our directors and executive officers have interests
in the Merger that may be different from, or in addition to, the interests
of
our stockholders generally. See the section titled “Interests of
Directors and Officers in the Merger” beginning on page 47 of this Proxy
Statement.
Did
ISCO receive a fairness opinion in connection with the
Merger?
The
Special Committee of ISCO’s Board of Directors engaged Appraisal Economics, Inc.
(“AEI”) as its independent financial advisor to assist the Special Committee in
determining whether to recommend to the full Board to approve the Merger
and the
transactions contemplated thereby. AEI rendered a fairness opinion to
the Special Committee regarding its opinion as to the fairness, from a financial
point of view to ISCO and its stockholders, of the consideration payable
in
connection with the Merger. A summary of AEI’s fairness opinion is
described in the section titled “Opinion of Appraisal Economics, Inc., Financial
Advisor to ISCO’s Special Committee of the Board of Directors” beginning on page
42. The full text of AEI’s fairness opinion is
attached to the Proxy Statement as Appendix
B.
How
is ISCO paying for the Merger?
ISCO
will
be issuing new shares of Common Stock in the Merger in exchange for all of
the
capital stock of Clarity and to satisfy certain obligations to Clarity employees
and interests triggered upon a change of control of Clarity. ISCO
will pay off Clarity’s outstanding line of credit at closing, which we expect to
be approximately $1.0 million. As a condition to the Merger, ISCO
will obtain financing in an aggregate amount of $1.5 million, which is expected
to come from one of ISCO’s existing lenders on terms expected to be
substantially similar to ISCO’s existing debt. For a description of
ISCO’s current debt arrangement, please see the Note Issuance Proposal beginning
on page 68 of the Proxy Statement and ISCO’s Current Report on Form 10-Q
for the quarter ended September 30, 2007 attached as Appendix E to this Proxy Statement.
When
do you expect the Merger to be completed?
Assuming
ISCO’s stockholders approve the Merger Proposal, the Charter Amendment and the
Plan Amendment, the Merger will be completed within three business days after
the satisfaction or waiver of the other conditions to closing of the
Merger. For a description of these conditions, please see page 53 of the Proxy Statement.
Who
is entitled to vote?
Holders
of the Company’s Common Stock of record at the close of business on November 30,
2007, the record date, will be entitled to one vote per share. On the
record date, ISCO had approximately 201 million shares of Common Stock
outstanding.
What
vote is required to approve the Merger Proposal and the other
Proposals?
The
affirmative vote of a majority of the shares of Common Stock issued and
outstanding present, in person or represented by proxy at the Special Meeting
and entitled to vote is required to approve the Merger Proposal as well as
the
other Proposals.
What
happens if the Merger Proposal is not approved?
If
the
Merger Proposal is not approved, or if the Charter Amendment or the Plan
Amendment are not approved, we will not be able to close the Merger and the
transaction will be abandoned.
What
if the Note Issuance is not approved?
If
the
Note Issuance is not approved, we will be unable to issue the Conversion
Shares
upon conversion of the Amended and Restated Notes. Further, if we are
unable to issue the Conversion Shares, the interest rate on the Amended and
Restated Notes would increase and we would be required to repay the Amended
and
Restated Notes, including any accrued interest thereon, upon the maturity
date
of the Amended and Restated Notes, whether or not we have sufficient cash
resources to do so. Further, if the Note Issuance is not approved,
our ability to secure the $1.5 million of additional financing required by
the
Merger Agreement may be adversely affected.
What
will happen if I abstain from voting or fail to vote?
Each
of
the Proposals requires the affirmative vote of a majority of the shares of
ISCO’s Common Stock present in person or by proxy and entitled to vote at the
Special Meeting. Therefore, a failure to vote or an abstention will
have the effect of a vote against each of the Proposals.
If
my shares are held in “street name” by my broker will my broker vote my shares
for me?
If
you
hold your shares in “street name,” your bank or broker cannot vote your shares
with respect to any of the Proposals without specific instructions from you,
which are sometimes referred to in this Proxy Statement as the broker “non-vote”
rules. If you do not provide instructions with your proxy, your bank
or broker may deliver a proxy card expressly indicating that it is NOT voting
your shares; this indication that a bank or broker is not voting your shares
is
referred to as a “broker non-vote.” Broker non-votes will be counted for the
purpose of determining the existence of a quorum, but will not count for
purposes of determining the number of votes cast at the Special
Meeting. Your broker can vote your shares only if you provide
instructions on how to vote. You should instruct your broker to vote
your shares in accordance with directions you provide to your
broker.
What
do I do if I want to change my vote?
If
you
wish to change your vote, please send a later-dated, signed proxy card to
our
Corporate Secretary at ISCO prior to the date of the Special Meeting or attend
the Special Meeting and vote in person. You also may revoke your
proxy by sending a notice of revocation to our Corporate Secretary at the
address of ISCO’s corporate headquarters, provided such revocation is received
prior to the Special Meeting.
Who
can help answer my questions?
If
you
have questions about any of the Proposals, you may write or call ISCO
International, Inc. at 1001 Cambridge Drive, Elk Grove Village, IL 60007
(847)
391-9400, Attention: Frank Cesario. You may also obtain additional
information about ISCO from documents filed with the Securities and Exchange
Commission (“SEC”) by following the instructions in the section entitled “Where
You Can Find More Information”.
The
following selected historical consolidated financial data should be read
in
conjunction with ISCO’s consolidated financial statements and related notes and
ISCO’s Management’s Discussion and Analysis of Financial Condition and Results
of Operations included in ISCOs Annual Report on Form 10-K for the year ended
December 31, 2006 attached as Appendix
F to this Proxy Statement, and Quarterly Report on Form 10-Q for
the quarter ended September 30, 2007, which is attached as Appendix E to this Proxy
Statement. The consolidated statement of operations data for the
years ended December 31, 2004, 2005 and 2006 and the consolidated balance
sheet
data as of December 31, 2005 and 2006 have been derived from audited
consolidated financial statements, which are included in Appendix F to this Proxy
Statement. The consolidated statement of operations data for the
years ended December 31, 2002 and 2003 and the consolidated balance sheet
data
as of December 31, 2002 and 2003 have been derived from audited
consolidated financial statements not included or incorporated by reference
in
this Proxy Statement. The consolidated statement of operations data
for the nine months ended September 30, 2006 and September 30, 2007 and the
consolidated balance sheet data as of September 30, 2007 have been derived
from
unaudited condensed consolidated financial statements provided in Appendix E to this Proxy Statement and, in the
opinion of ISCO, include all adjustments, consisting of normal recurring
adjustments, which are necessary for a fair presentation of this information
when read in conjunction with the ISCO audited consolidated financial statements
and related notes provided in this Proxy Statement. The consolidated
statement of operations data presented below is not necessarily indicative
of
results for any future period.
|
CONSOLIDATED
STATEMENT OF
|
||||||||||||||||||||||||||||
|
OPERATIONS
DATA
|
||||||||||||||||||||||||||||
|
Unaudited
nine months ended Sept 30, 2007
|
Unaudited
nine months ended Sept 30, 2006
|
Year
ended Dec 31, 2006
|
Year
ended Dec 31, 2005
|
Year
ended Dec 31, 2004
|
Year
Ended Dec 31, 2003
|
Year
Ended Dec 31, 2002
|
||||||||||||||||||||||
|
Net
sales
|
$ |
6,300,357
|
$ |
11,205,308
|
$ |
14,997,320
|
$ |
10,264,428
|
$ |
2,621,933
|
3,238,402
|
$ |
3,662,805
|
|||||||||||||||
|
Costs
and expenses:
|
||||||||||||||||||||||||||||
|
Cost
of sales
|
3,633,283
|
6,739,266
|
9,066,929
|
5,121,650
|
1,527,554
|
1,639,540
|
3,565,140
|
|||||||||||||||||||||
|
Research
and development
|
2,004,003
|
1,390,374
|
2,011,652
|
1,767,447
|
1,119,406
|
988,425
|
2,737,084
|
|||||||||||||||||||||
|
Selling
and marketing
|
1,808,800
|
2,472,426
|
3,207,882
|
1,861,065
|
1,164,830
|
959,798
|
2,201,195
|
|||||||||||||||||||||
|
General
and administrative
|
3,185,141
|
3,152,764
|
4,287,080
|
3,691,070
|
4,757,935
|
5,614,492
|
7,972,948
|
|||||||||||||||||||||
|
Operating
loss
|
(4,330,870 | ) | (2,549,522 | ) | (3,576,223 | ) | (2,176,804 | ) | (5,947,792 | ) | (5,963,853 | ) | (12,813,562 | ) | ||||||||||||||
|
Other
income (Expense)
|
||||||||||||||||||||||||||||
|
Interest
income
|
70,387
|
97,885
|
118,590
|
77,383
|
8,660
|
5,087
|
62,954
|
|||||||||||||||||||||
|
Interest
expense
|
(759,501 | ) | (646,344 | ) | (907,351 | ) | (877,461 | ) | (1,028,169 | ) | (1,197,309 | ) | (327,224 | ) | ||||||||||||||
|
Total
other expense, net
|
(689,114 | ) | (548,459 | ) | (788,761 | ) | (800,078 | ) | (1,019,509 | ) | (1,192,222 | ) | (264,270 | ) | ||||||||||||||
|
Net
loss
|
$ | (5,019,984 | ) | $ | (3,097,981 | ) | $ | (4,364,984 | ) | (2,976,882 | ) | $ | (6,967,301 | ) | (7,156,075 | ) | $ | (13,077,832 | ) | |||||||||
|
Basic
and diluted loss per
|
||||||||||||||||||||||||||||
|
common
share
|
$ | (0.03 | ) | $ | (0.02 | ) | $ | (0.02 | ) | $ | (0.02 | ) | $ | (0.04 | ) | $ | (0.05 | ) | $ | (0.09 | ) | |||||||
|
Weighted
average number of
|
||||||||||||||||||||||||||||
|
common
shares outstanding
|
193,433,000
|
184,705,000
|
185,506,261
|
170,786,657
|
158,977,249
|
148,080,749
|
142,884,921
|
|||||||||||||||||||||
|
CONSOLIDATED
BALANCE
|
|
SHEET
DATA
|
|
Unaudited
as of
|
Unaudited
as
of
|
|||||||||||||||||||||||||||
|
Sept
30, 2007
|
Sept
30,
2006
|
Year
ended Dec 31, 2006
|
Year
ended Dec 31, 2005
|
Year
ended Dec 31, 2004
|
Year
Ended Dec 31, 2003
|
Year
Ended Dec 31, 2002
|
||||||||||||||||||||||
|
Cash
and cash equivalents
|
$ |
2,782,761
|
$ |
4,173,382
|
$ |
2,886,476
|
$ |
3,486,430
|
$ |
402,391
|
346,409
|
$ |
216,119
|
|||||||||||||||
|
Working
capital
|
6,816,455
|
(847,927 | ) | (1,422,309 | ) |
6,396,541
|
979,413
|
735,840
|
1,333,827
|
|||||||||||||||||||
|
Total
assets
|
22,460,653
|
27,468,474
|
26,875,195
|
22,905,633
|
17,133,752
|
17,723,035
|
19,183,000
|
|||||||||||||||||||||
|
Total
debt, with related parties
|
15,363,070
|
16,166,712
|
5,131,762
|
10,520,369
|
7,500,000
|
5,000,000
|
2,000,000
|
|||||||||||||||||||||
|
Stockholders’
equity
|
5,797,377
|
8,720,182
|
8,164,192
|
10,530,716
|
7,247,635
|
10,943,247
|
15,380,306
|
|||||||||||||||||||||
The
following selected historical consolidated financial data should be read
in
conjunction with the Clarity consolidated financial statements and related
notes
included elsewhere in this Proxy Statement, and “Clarity Management’s Discussion
and Analysis of Financial Condition and Results of Operations” included
elsewhere in this Proxy Statement. The consolidated statement of
operations data for the year ended December 31, 2006 and the consolidated
balance sheet data as of December 31, 2006 have been derived from Clarity’s
audited consolidated financial statements, included elsewhere in this Proxy
Statement. The consolidated statement of operations data for the
years ended December 31, 2002, 2003, 2004, and 2005 and the consolidated
balance
sheet data as of December 31, 2002, 2003, 2004, and 2005 have been derived
from
unaudited consolidated financial statements not included in this Proxy
Statement. The consolidated statement of operations data for the nine
months ended September 30, 2006 and 2007, respectively, and the consolidated
balance sheet data as of September 30, 2007 have been derived from the unaudited
condensed consolidated financial statements included elsewhere in this Proxy
Statement and, in the opinion of Clarity, include all adjustments, consisting
of
normal recurring adjustments, which are necessary for a fair presentation
of
this information when read in conjunction with the Clarity audited consolidated
financial statements and related notes included elsewhere in this Proxy
Statement. The consolidated statement of operations data presented
below are not necessarily indicative of results for any future period.
|
CONSOLIDATED
STATEMENT OF
|
||||||||||||||||||||||||||||
|
OPERATIONS
DATA
|
||||||||||||||||||||||||||||
|
Unaudited
nine months ended Sept 30, 2007
|
Unaudited
nine months ended Sept 30, 2006
|
Year
ended Dec 31, 2006
|
Unaudited
Year ended Dec 31, 2005
|
Unaudited
Year ended Dec 31, 2004
|
Unaudited
Year Ended Dec 31, 2003
|
Unaudited
Year Ended Dec 31, 2002
|
||||||||||||||||||||||
|
Net
sales
|
$ |
2,852,911
|
$ |
7,692,158
|
$ |
8,983,165
|
$ |
9,856,500
|
$ |
6,174,459
|
9,126,655
|
$ |
8,577,615
|
|||||||||||||||
|
Costs
and expenses:
|
||||||||||||||||||||||||||||
|
Cost
of sales
|
1,180,516
|
2,467,115
|
3,025,314
|
4,469,774
|
1,797,031
|
2,109,282
|
4,814,252
|
|||||||||||||||||||||
|
Research
and development
|
2,330,075
|
3,026,874
|
4,131,878
|
2,862,636
|
2,759,326
|
4,359,558
|
1,273,398
|
|||||||||||||||||||||
|
Selling
and marketing
|
269,185
|
272,559
|
383,774
|
243,354
|
170,456
|
218,033
|
105,336
|
|||||||||||||||||||||
|
General
and administrative
|
930,088
|
1,064,109
|
1,402,909
|
1,654,015
|
1,237,875
|
1,514,887
|
1,564,649
|
|||||||||||||||||||||
|
Operating
income (loss)
|
(1,856,953 | ) |
861,501
|
39,290
|
626,721
|
209,771
|
924,895
|
819,980
|
||||||||||||||||||||
|
Other
income (expense)
|
||||||||||||||||||||||||||||
|
Interest
income (expense), net
|
(58,578 | ) |
26,680
|
29,324
|
13,271
|
11,073
|
36,254
|
87,067
|
||||||||||||||||||||
|
Other
income (expense), net
|
91,806
|
-
|
-
|
(27,595 | ) | (1,010 | ) | (13,130 | ) | (18,013 | ) | |||||||||||||||||
|
Total
other income (expense), net
|
33,228
|
26,680
|
29,324
|
(14,324 | ) |
10,063
|
23,124
|
69,054
|
||||||||||||||||||||
|
Net
income (loss)
|
$ | (1,823,725 | ) | $ |
888,179
|
$ |
68,614
|
612,397
|
$ |
219,834
|
948,019
|
$ |
889,034
|
|||||||||||||||
|
Basic
and diluted income (loss) per
|
||||||||||||||||||||||||||||
|
common
share
|
$ | (1,824 | ) | $ |
888
|
$ |
68
|
$ |
612
|
$ |
220
|
$ |
948
|
$ |
889
|
|||||||||||||
|
Weighted
average number of
|
||||||||||||||||||||||||||||
|
common
shares outstanding
|
1,000
|
1,000
|
1,000
|
1,000
|
1,000
|
1,000
|
1,000
|
|||||||||||||||||||||
|
CONSOLIDATED
BALANCE
|
|
SHEET
DATA
|
|
Unaudited
as of
|
Unaudited
as of
|
As
of
|
As of
|
Unaudited
as of
|
Unaudited
as of
|
Unaudited
as of
|
||||||||||||||||||||||
|
Sept
30, 2007
|
Sept
30, 2006
|
Dec
31, 2006
|
Dec
31, 2005
|
Dec
31, 2004
|
Dec
31, 2003
|
Dec
31, 2002
|
||||||||||||||||||||||
|
Cash
and cash equivalents
|
$ |
199,537
|
$ |
1,480,390
|
$ |
1,547,831
|
$ |
3,592,770
|
$ |
490,689
|
2,535,529
|
$ |
3,306,393
|
|||||||||||||||
|
Working
capital
|
(2,399,095 | ) |
1,662,950
|
(607,114
|
) |
2,911,548
|
2,595,309
|
2,635,221
|
2,569,967
|
|||||||||||||||||||
|
Total
assets
|
852,604
|
2,329,650
|
2,730,072
|
5,793,930
|
3,026,132
|
3,324,915
|
3,862,824
|
|||||||||||||||||||||
|
Total
debt, with related parties
|
2,074,712
|
-
|
2,000,000
|
-
|
-
|
-
|
-
|
|||||||||||||||||||||
|
Stockholders’
equity (deficit)
|
(2,095,477 | ) |
2,543,585
|
(276,689 | ) |
3,278,409
|
2,739,815
|
2,820,473
|
2,917,356
|
|||||||||||||||||||
The
following selected quarterly financial data should be read in conjunction
with
ISCO’s consolidated financial statements and related notes and ISCO’s
Management’s Discussion and Analysis of Financial Condition and Results of
Operations included in ISCO’s Quarterly Report on Form 10-Q for the quarter
ended September 30, 2007, which is attached as Appendix
E to this Proxy Statement, with respect to ISCO, and the Clarity
consolidated financial statements and related notes included elsewhere in
this
Proxy Statement, and “Clarity Management’s Discussion and Analysis of Financial
Condition and Results of Operations” included elsewhere in this Proxy Statement,
with respect to Clarity. The information for the quarters ended
September 30, 2006 and 2007 have been derived from unaudited consolidated
financial statements included elsewhere in this Proxy Statement. The
information for other quarters have been derived from unaudited consolidated
financial statements not included in or incorporated into this Proxy
Statement. The selected quarterly financial information presented
below is intended to be a summary only and is not necessarily indicative
of
results for any future period.
|
2007
Quarter Ended
|
||||||||||||
|
March
31
|
June
30
|
September
30
|
||||||||||
|
(in
thousands of U.S. dollars except per share
amounts)
|
||||||||||||
|
Net
Sales
|
$ |
953
|
$ |
3,423
|
$ |
1,924
|
||||||
|
Gross
Profit
|
244
|
1,720
|
703
|
|||||||||
|
Net
Loss
|
(2,397 | ) | (832 | ) | (1,791 | ) | ||||||
|
Loss
per Share
|
$ | (0.01 | ) | $ | (0.00 | ) | $ | (0.01 | ) | |||
|
2006
Quarter Ended
|
||||||||||||||||||||||||||||||
|
March
31
|
|
June
30
|
September
30
|
December
31
|
||||||||||||||||||||||||||
|
(in
thousands of U.S. dollars except per share
amounts)
|
||||||||||||||||||||||||||||||
|
Net
Sales
|
$ |
1,326
|
$ |
3,446
|
$ |
6,433
|
$ |
3,792
|
||||||||||||||||||||||
|
Gross
Profit
|
495
|
1,387
|
2,583
|
|
1,464 |
|
||||||||||||||||||||||||
|
Net
Loss
|
(1,700 | ) | (1,231 | ) | (167 | ) | (1,267 | ) | ||||||||||||||||||||||
|
Loss
per Share
|
$ | (0.01 | ) | $ | (0.01 | ) | $ | (0.00 | ) | $ | (0.01 | ) | ||||||||||||||||||
|
2005
Quarter Ended
|
||||||||||||||||||||||||||||||
|
March
31
|
June
30
|
September
30
|
December
31
|
|||||||||||||||||||||||||||
|
(in
thousands of U.S. dollars except per share
amounts)
|
||||||||||||||||||||||||||||||
|
Net
Sales
|
$ |
3,293
|
$ |
2,484
|
$ |
2,037
|
$ |
2,450
|
||||||||||||||||||||||
|
Gross
Profit
|
1,372
|
1,290
|
1,265
|
1,216
|
||||||||||||||||||||||||||
|
Net
Loss
|
(482 | ) | (811 | ) | (596 | ) | (1,088 | ) | ||||||||||||||||||||||
|
Loss
per Share
|
$ |
0.00
|
$ | (0.01 | ) | $ |
0.00
|
$ | (0.01 | ) | ||||||||||||||||||||
|
2007
Quarter Ended
|
|||||||||||||||||||||||
|
March
31
|
June
30
|
September
30
|
|||||||||||||||||||||
|
(in
thousands of U.S. dollars except per share
amounts)
|
|||||||||||||||||||||||
|
Net
Sales
|
$ |
1,163
|
$ |
928
|
$ |
762
|
|||||||||||||||||
|
Gross
Profit
|
771
|
525
|
377
|
||||||||||||||||||||
|
Net
Loss
|
(740 | ) | (610 | ) | (473 | ) | |||||||||||||||||
|
Loss
per Share
|
$ | (740 | ) | $ | (610 | ) | $ | (473 | ) | ||||||||||||||
|
2006
Quarter Ended
|
|||||||||||||||||||||||
|
March
31
|
June
30
|
September
30
|
December
31
|
||||||||||||||||||||
|
(in
thousands of U.S. dollars except per share
amounts)
|
|||||||||||||||||||||||
|
Net
Sales
|
$ |
3,731
|
$ |
2,705
|
$ |
1,256
|
$ |
1,291
|
|||||||||||||||
|
Gross
Profit
|
2,720
|
1,920
|
576
|
742
|
|||||||||||||||||||
|
Net
Income (Loss)
|
1,354
|
455
|
(931 | ) |
(809
|
) | |||||||||||||||||
|
Loss
per Share
|
$ |
1,354
|
$ |
455
|
$ | (931 | ) | $ | (809 | ) | |||||||||||||
|
2005
Quarter Ended
|
|||||||||||||||||||||||
|
March
31
|
June
30
|
September
30
|
December
31
|
||||||||||||||||||||
|
(in
thousands of U.S. dollars except per share
amounts)
|
|||||||||||||||||||||||
|
Net
Sales
|
$ |
2,313
|
2,538
|
2,569
|
2,435
|
||||||||||||||||||
|
Gross
Profit
|
1,175
|
1,424
|
1,477
|
1,310
|
|||||||||||||||||||
|
Net
Loss
|
254
|
250
|
190
|
(82)
|
|||||||||||||||||||
|
Loss
per Share
|
$ |
254
|
250
|
190
|
(82)
|
||||||||||||||||||
The
accompanying unaudited pro forma combined consolidated financial statements
present financial information from the ISCO and Clarity unaudited pro forma
combined consolidated statement of operations for the nine months ended
September 30, 2007 and for the year ended December 31, 2006 and the unaudited
pro forma combined consolidated balance sheet as of September 30, 2007 is
based
on the historical balance sheets of ISCO and Clarity as of that
date. The unaudited pro forma combined consolidated statement of
operations is presented as if the Merger had occurred on the first day of
the
period (i.e., October 1, 2007). The unaudited pro forma
combined consolidated balance sheet gives effect to the transaction as if
it
occurred on September 30, 2007. The unaudited pro forma combined
consolidated financial data are based on estimates and assumptions, which
are
preliminary and subject to change, as set forth in the notes to such statements
and which are provided for information purposes only. The unaudited
pro forma combined consolidated financial data are not necessarily indicative
of
the financial position or operating results that would have been achieved
had
the Merger been consummated as of the dates indicated, nor are they necessarily
indicative of future financial position or operating results. This
information should be read in conjunction with the historical financial
statements and related notes of ISCO and Clarity included this Proxy
Statement.
|
As
of September 30, 2007
|
||||||||||||||||||||||||
|
Historical
|
Pro
Forma
|
|||||||||||||||||||||||
|
ISCO
|
Clarity
|
Adjustments
|
Combined
|
|||||||||||||||||||||
|
Assets:
|
||||||||||||||||||||||||
|
Current
Assets:
|
||||||||||||||||||||||||
|
Cash
and Equivalents
|
||||||||||||||||||||||||
|
Inventory
|
$ |
2,782,761
|
$ |
199,537
|
$ | (375,000 | ) |
A
|
$ |
2,607,298
|
||||||||||||||
|
Accounts
Receivable, net
|
3,820,067
|
-
|
3,820,067
|
|||||||||||||||||||||
|
Prepaid
Expenses and Other
|
889,908
|
274,524
|
1,164,432
|
|||||||||||||||||||||
|
Total
Current Assets
|
80,485
|
74,925
|
155,410
|
|||||||||||||||||||||
|
Property
and Equipment
|
7,573,221
|
548,986
|
(375,000 | ) |
7,747,207
|
|||||||||||||||||||
|
Less:
Accumulated Depreciation
|
1,407,530
|
819,421
|
(99,183 | ) |
B
|
2,127,768
|
||||||||||||||||||
|
Net
Property and Equipment
|
(909,363 | ) | (588,303 | ) |
20,347
|
B,K
|
(1,477,319 | ) | ||||||||||||||||
|
Restricted
Certificates of Deposit
|
498,167
|
231,118
|
(78,836 | ) |
650,449
|
|||||||||||||||||||
|
Goodwill
|
170,648
|
-
|
170,648
|
|||||||||||||||||||||
|
Intangible
assets, net
|
13,370,000
|
-
|
7,525,353
|
C
|
20,895,353
|
|||||||||||||||||||
|
Total
Assets
|
848,617
|
72,500
|
100,000
|
C
|
1,021,117
|
|||||||||||||||||||
| $ |
22,460,653
|
$ |
852,604
|
$ |
7,171,517
|
$ |
30,484,774
|
|||||||||||||||||
|
Liabilities
and Stockholders’ Equity:
|
||||||||||||||||||||||||
|
Current
Liabilities:
|
||||||||||||||||||||||||
|
Accounts
Payable
|
||||||||||||||||||||||||
|
Inventory-related
material purchase accrual
|
$ |
224,087
|
$ |
172,543
|
$ |
396,630
|
||||||||||||||||||
|
Employee-related
accrued liability
|
84,607
|
-
|
84,607
|
|||||||||||||||||||||
|
Accrued
professional services
|
184,730
|
350,635
|
535,365
|
|||||||||||||||||||||
|
Other
accrued liabilities and current deferred revenue
|
46,000
|
-
|
400,000
|
D
|
446,000
|
|||||||||||||||||||
|
Current
Portion of LT Debt, including related interest, with related
parties
|
217,342
|
350,191
|
567,533
|
|||||||||||||||||||||
|
Total
Current Liabilities
|
-
|
2,074,712
|
(2,074,712 | ) |
E
|
-
|
||||||||||||||||||
| $ |
756,766
|
$ |
2,948,081
|
$ | (1,674,712 | ) | $ |
2,030,135
|
||||||||||||||||
|
Deferred
facility reimbursement
|
$ |
91,250
|
-
|
$ |
91,250
|
|||||||||||||||||||
|
Deferred
revenue - non current
|
128,040
|
-
|
128,040
|
|||||||||||||||||||||
|
Notes
and related accrued interest with related parties
|
15,363,070
|
-
|
15,363,070
|
|||||||||||||||||||||
|
Accued
interest payable, with related parties
|
324,150
|
-
|
324,150
|
|||||||||||||||||||||
|
Stockholders’
equity:
|
||||||||||||||||||||||||
|
Preferred
stock
|
-
|
|||||||||||||||||||||||
|
Common
stock
|
200,508
|
1,000
|
24,000
|
F,G
|
225,508
|
|||||||||||||||||||
|
Treasury
Stock
|
(64,600 | ) | (64,600 | ) | ||||||||||||||||||||
|
Additional
paid-in capital
|
175,086,385
|
9,000
|
6,716,000
|
F,G
|
181,811,384
|
|||||||||||||||||||
|
Accumulated
deficit
|
(169,425,256 | ) | (2,105,477 | ) |
2,106,229
|
F,K
|
(169,424,504 | ) | ||||||||||||||||
|
Total Shareholders’
Equity
|
$ |
5,797,377
|
$ | (2,095,477 | ) | $ |
8,846,229
|
$ |
12,548,129
|
|||||||||||||||
| Total Liabilities and Shareholders’ Equity | $ |
22,460,653
|
$ |
852,604
|
$ |
7,171,517
|
$ |
30,484,774
|
||||||||||||||||
|
-
|
||||||||||||||||||||||||
|
A
-
$375,000 to be paid upon closing for Clarity’s reimbursable transaction
costs
|
Asset
|
Liability
|
Equity
|
|||||||||||||||||||||
|
B
-
Assets that are not expected to be included in the transaction
(leased
autos), net of accumulated depreciation
|
(375,000 | ) | ||||||||||||||||||||||
|
C
-
Total cost estimated at $7,525,000, including $6,750,000 in equity
value
(20 million up front shares plus 5 million time vest shares x $0.27
per
share closing price of ISCO stock on AMEX)
|
(79,588 | ) | ||||||||||||||||||||||
|
plus
$375,000 paid for Clarity’s closing reimbursable costs plus an estimated
$400,000 of transaction fees
|
7,525,353
|
Goodwill
|
||||||||||||||||||||||
|
to
be paid directly by ISCO
|
100,000
|
Other
Intang
|
||||||||||||||||||||||
|
D
-
Estimated transaction fees to be paid directly by ISCO
|
||||||||||||||||||||||||
|
E
-
Liabilities that are excluded from the transaction - notes and
related
accrued interest to related party (sole shareholder) of
Clarity.
|
400,000
|
|||||||||||||||||||||||
|
(2,074,712)
|
||||||||||||||||||||||||
|
F
-
Termination of historical capital accounts of seller ($1,000 common
stock,
$9,000 APIC, and $2,105,477 of negative retained earnings.
|
2,095,477
|
|||||||||||||||||||||||
|
G
-
Recording of newly issued stock of $25,000 common stock and $6,725,000
of
APIC.
|
6,750,000
|
|||||||||||||||||||||||
|
K
-
Impact of adjustments in the income statement for the
period.
|
752
|
752
|
||||||||||||||||||||||
|
Average
of five closing days prior to September 30, 2007 was $0.27 per
share on
AMEX.
|
7,171,517
|
(1,674,712)
|
8,846,229
|
-
|
||||||||||||||||||||
|
Nine
Month Period Ended September 30, 2007
|
|||||||||||||||||||
|
Historical
|
Pro
Forma
|
||||||||||||||||||
|
ISCO
|
Clarity
|
Adjustments
|
Combined
|
||||||||||||||||
|
Net
Sales
|
$ |
6,300,357
|
$ |
2,852,911
|
$ |
9,153,268
|
|||||||||||||
|
Costs
and Expenses:
|
|||||||||||||||||||
|
Cost
of Sales
|
3,633,283
|
1,180,516
|
4,813,799
|
||||||||||||||||
|
Research
and Development
|
2,004,003
|
2,330,075
|
10,000
|
B,C
|
4,344,078
|
||||||||||||||
|
Selling
and Marketing
|
1,808,800
|
269,185
|
2,077,985
|
||||||||||||||||
|
General
and Administrative
|
3,185,141
|
930,088
|
(10,752 | ) |
B,C
|
4,104,477
|
|||||||||||||
|
Total
Costs and Expenses
|
$ |
10,631,227
|
$ |
4,709,864
|
$ | (752 | ) | $ |
15,340,339
|
||||||||||
|
Operating
(Loss) Income
|
(4,330,870 | ) | (1,856,953 | ) |
752
|
(6,187,071 | ) | ||||||||||||
|
Other
Income (Expense):
|
|||||||||||||||||||
|
Interest
Expense, net of interest income
|
(689,114 | ) |
(58,578
|
) |
74,712
|
E
|
(672,980 | ) | |||||||||||
|
Other
Income (Expense)
|
91,806 | 91,806 | |||||||||||||||||
|
Other
Income (Expense), net
|
$ | (689,114 | ) | $ |
33,228
|
$ |
74,712
|
$ | (581,174 | ) | |||||||||
|
Net
Loss (Income)
|
$ | (5,019,984 | ) | $ | (1,823,725 | ) | $ |
75,464
|
$ | (6,768,245 | ) | ||||||||
|
Basic
and diluted loss per share
|
$ | (0.03 | ) | $ | (0.09 | ) | $ | (0.03 | ) | ||||||||||
|
Weighted
average number of common shares outstanding
|
193,433,000
|
20,000,000
|
213,433,000
|
||||||||||||||||
|
E -
Eliminate interest on note receivable with related party that would
not
relate to the combined entity
|
|||||||||||||||||||
|
B,C
- Reduced amortization related to fixed assets not included in
the
transaction less estimated additional intangible asset
amortization
|
|||||||||||||||||||
19
|
Historical
|
Pro
Forma
|
|||||||||||||||||||||||
|
ISCO
|
Clarity
|
Adjustments
|
Combined
|
|||||||||||||||||||||
|
Assets:
|
||||||||||||||||||||||||
|
Current
Assets:
|
||||||||||||||||||||||||
|
Cash
and Equivalents
|
$ |
2,886,476
|
$ |
1,547,831
|
$ | (375,000 | ) |
A
|
$ |
4,059,307
|
||||||||||||||
|
Inventory
|
6,368,599
|
-
|
6,368,599
|
|||||||||||||||||||||
|
Accounts
Receivable, net
|
2,554,716
|
734,014
|
3,288,730
|
|||||||||||||||||||||
|
Prepaid
Expenses and Other
|
168,741
|
107,802
|
276,543
|
|||||||||||||||||||||
|
Total
Current Assets
|
11,978,532
|
2,389,647
|
(375,000 | ) |
13,993,179
|
|||||||||||||||||||
|
Property
and Equipment
|
1,334,203
|
819,421
|
(99,183 | ) |
B
|
2,054,441
|
||||||||||||||||||
|
Less:
Accumulated Depreciation
|
(811,167 | ) | (573,996 | ) |
15,320
|
B,K
|
(1,369,843 | ) | ||||||||||||||||
|
Net
Property and Equipment
|
523,036
|
245,425
|
(83,863 | ) |
684,598
|
|||||||||||||||||||
|
Restricted
Certificates of Deposit
|
162,440
|
-
|
162,440
|
|||||||||||||||||||||
|
Goodwill
|
13,370,000
|
-
|
7,525,552
|
C
|
20,895,552
|
|||||||||||||||||||
|
Intangible
assets, net
|
841,187
|
95,000
|
100,000
|
C
|
1,036,187
|
|||||||||||||||||||
|
Total
Assets
|
$ |
26,875,195
|
$ |
2,730,072
|
$ |
7,166,689
|
$ |
36,771,956
|
||||||||||||||||
|
Liabilities
and Stockholders’ Equity:
|
||||||||||||||||||||||||
|
Current
Liabilities:
|
||||||||||||||||||||||||
|
Accounts
Payable
|
$ |
1,172,844
|
$ |
82,280
|
$ |
1,255,124
|
||||||||||||||||||
|
Inventory-related
material purchase accrual
|
328,663
|
-
|
328,663
|
|||||||||||||||||||||
|
Employee-related
accrued liability
|
284,653
|
302,505
|
587,158
|
|||||||||||||||||||||
|
Accrued
professional services
|
93,000
|
-
|
400,000
|
D
|
493,000
|
|||||||||||||||||||
|
Other
accrued liabilities and current deferred revenue
|
225,724
|
611,976
|
837,700
|
|||||||||||||||||||||
|
Current
Portion of LT Debt, including related interest, with related
parties
|
11,295,957
|
2,000,000
|
(2,000,000 | ) |
E
|
11,295,957
|
||||||||||||||||||
|
Total
Current Liabilities
|
$ |
13,400,841
|
$ |
2,996,761
|
$ | (1,600,000 | ) | $ |
14,797,602
|
|||||||||||||||
|
Deferred
facility reimbursement
|
$ |
102,500
|
-
|
$ |
102,500
|
|||||||||||||||||||
|
Deferred
revenue - non current
|
75,900
|
-
|
75,900
|
|||||||||||||||||||||
|
Notes
and related accrued interest with related parties
|
5,131,762
|
-
|
5,131,762
|
|||||||||||||||||||||
|
Stockholders’
equity:
|
||||||||||||||||||||||||
|
Preferred
stock
|
-
|
|||||||||||||||||||||||
|
Common
stock
|
189,622
|
1,000
|
24,000
|
F,G
|
214,622
|
|||||||||||||||||||
|
Treasury
Stock
|
-
|
-
|
||||||||||||||||||||||
|
Additional
paid-in capital (net of unearned compensation)
|
172,379,842
|
9,000
|
8,466,000
|
F,G
|
180,854,842
|
|||||||||||||||||||
|
(Accumulated
deficit)/Retained Earnings
|
(164,405,272 | ) | (276,689 | ) |
276,689
|
F,K
|
(164,405,272 | ) | ||||||||||||||||
|
Total
Shareholders’ Equity
|
$ |
8,164,192
|
$ | (266,689 | ) | $ |
8,766,689
|
$ |
16,664,192
|
|||||||||||||||
|
Total
Liabilities and Shareholders’ Equity
|
$ |
26,875,195
|
$ |
2,730,072
|
$ |
7,166,689
|
$ |
36,771,956
|
||||||||||||||||
|
Asset
|
Liability
|
Equity
|
||||||||||||||||||||||
|
A
-
$375,000 to be paid upon closing for Clarity’s reimbursable transaction
costs
|
(375,000 | ) | ||||||||||||||||||||||
|
B
-
Assets that are not expected to be included in the transaction
(leased
autos), net of accumulated depreciation
|
(83,863 | ) | ||||||||||||||||||||||
|
C
-
Total cost estimated at $9,275,000, including $8,500,000 in equity
value
(20 million up front shares plus 5 million time vest shares x $0.34
per
share closing
|
7,525,552
|
Goodwill
|
||||||||||||||||||||||
|
price
of ISCO stock on AMEX) plus $375,000 paid for Clarity’s reimbursable
closing costs plus estimated $400,000 of transaction fees
|
100,000
|
Other
Intang
|
||||||||||||||||||||||
|
to
be paid directly by ISCO.
|
||||||||||||||||||||||||
|
D
-
Estimated transaction fees to be paid directly by ISCO
|
400,000
|
|||||||||||||||||||||||
|
E
-
Liabilities that are excluded from the transaction - notes and
related
accrued interest to related party (sole shareholder) of
Clarity.
|
(2,000,000)
|
|||||||||||||||||||||||
|
F
-
Termination of historical capital accounts of seller ($1,000 common
stock,
$9,000 APIC, and $276,689 of negative retained
earnings.
|
266,689
|
|||||||||||||||||||||||
|
G
-
Recording of newly issued stock of $25,000 common stock and $8,475,000
of
APIC.
|
8,500,000
|
|||||||||||||||||||||||
|
K
-
Impact of adjustments in the income statement for the
period.
|
-
|
-
|
||||||||||||||||||||||
|
7,166,689
|
(1,600,000)
|
8,766,689
|
-
|
|||||||||||||||||||||
|
Average
of five closing days prior to December 31, 2007 was $0.34 per share
on
AMEX.
|
||||||||||||||||||||||||
|
Twelve Month Period Ended December 31, 2006
|
|||||||||||||||||||
|
Historical
|
Pro
Forma
|
||||||||||||||||||
|
ISCO
|
Clarity
|
Adjustments
|
Combined
|
||||||||||||||||
|
Net
Sales
|
$ |
14,997,320
|
$ |
8,983,165
|
$ |
23,980,485
|
|||||||||||||
|
Costs
and Expenses:
|
|||||||||||||||||||
|
Cost
of Sales
|
9,066,929
|
3,025,314
|
12,092,243
|
||||||||||||||||
|
Research
and Development
|
2,011,652
|
4,131,878
|
15,320
|
B,C
|
6,158,850
|
||||||||||||||
|
Selling
and Marketing
|
3,207,882
|
383,774
|
3,591,656
|
||||||||||||||||
|
General
and Administrative
|
4,287,080
|
1,402,909
|
(15,320 | ) |
B,C
|
5,674,669
|
|||||||||||||
|
Total
Costs and Expenses
|
$ |
18,573,543
|
$ |
8,943,875
|
$ |
-
|
$ |
27,517,418
|
|||||||||||
|
Operating
(Loss) Income
|
$ | (3,576,223 | ) | $ |
39,290
|
-
|
$ | (3,536,933 | ) | ||||||||||
|
Other
Income (Expense):
|
|||||||||||||||||||
|
Interest
Expense, net of interest income
|
(788,761 | ) |
29,324
|
-
|
(759,437 | ) | |||||||||||||
|
Other
Income (Expense)
|
-
|
-
|
-
|
||||||||||||||||
|
Other
Income (Expense), net
|
$ | (788,761 | ) | $ |
29,324
|
-
|
$ | (759,437 | ) | ||||||||||
|
Net
Loss (Income)
|
$ | (4,364,984 | ) | $ |
68,614
|
-
|
$ | (4,296,370 | ) | ||||||||||
|
Basic
and diluted loss per share
|
$ | (0.02 | ) | $ |
0.00
|
$ | (0.02 | ) | |||||||||||
|
Weighted
average number of common shares outstanding
|
185,506,000
|
20,000,000
|
205,506,000
|
||||||||||||||||
|
B,C
- Reduced amortization related to fixed assets not included in
the
transaction less estimated additional intangible asset
amortization
|
|||||||||||||||||||
The
following table sets forth for ISCO and Clarity common stock, certain
historical, pro forma combined consolidated and pro forma equivalent per
share
financial information. The pro forma data in the table are derived
from, and should be read in conjunction with, the “Unaudited Pro Forma Combined
Consolidated Financial Data” and related notes thereto beginning on page 18. ISCO’s historical per share information is
derived from the audited consolidated financial statements for the year ended
December 31, 2006 contained in ISCO’s Annual Report on Form 10-K for the year
ended December 31, 2006 and the unaudited interim financial statements for
the
nine months ended September 30, 2007 which are attached as Appendix Fand Appendix
E, respectively, to this Proxy Statement. Clarity’s
historical per share information is derived from the audited financial
statements for the year ended December 31, 2006 and the unaudited interim
financial statements for the nine months ended September 30, 2007 contained
elsewhere in this Proxy Statement.
The
unaudited pro forma combined consolidated per share information does not
purport
to represent what the actual results of operations of the combined company
would
have been had the Merger been in effect for the periods described below or
to
project the future results of the combined company after the
Merger.
Comparative
Per Share Data
|
ISCO
|
Clarity
|
Unaudited
Pro
Forma Consolidated
|
Pro
Forma Equivalent per ISCO Share
|
|||
|
Net
loss
|
||||||
|
Per
share (basic and diluted)
|
$ (0.03)
|
$(1,824.00)
|
$ (0.04)
|
$(0.08)
|
||
|
Book
Value per share
|
$ 0.03
|
$(2,095.00)
|
$ 0.06
|
$(0.02)
|
||
|
Clarity
|
1,000
|
shares
|
||||
|
ISCO
|
40,000,000
|
shares
of ISCO per share of Clarity, including performance shares
|
||||
|
Ratio
|
40,000
|
|||||
You
should carefully consider the risk factors described below, the matters
discussed under “A Warning About Forward-Looking Statements” on page 2 of this Proxy Statement, and all other information
contained in this Proxy Statement before deciding whether to vote to approve
the
Merger Proposal. If any of the following risks, as well as other
risks and uncertainties that are not currently known to ISCO or Clarity or
that
are currently not believed by ISCO or Clarity to be material, actually occur,
the business, financial condition and results of operation of the combined
company could be materially and adversely affected. As Clarity’s
operations will combined with those of ISCO’s upon consummation of the Merger,
we believer the risk factors described below relating to the business and
operations of Clarity may continue to be risks for the combined
company.
Clarity
had a net loss during 2007 that raises doubts about its ability to continue
as a
going concern
Clarity
was founded in 1998 and generated profitable results until 2007 when Clarity
posted a substantial loss of $1.8 million through the first nine months (ended
September 30, 2007) of the current year. In addition, Clarity is
changing its business model from an almost exclusively custom product
development outsourced engineering function to an entity providing both custom
engineering services and selling finished products and hosted services to
customers. It is possible that Clarity may continue to experience net
losses and cannot be certain if or when Clarity will again become profitable,
even if the Merger is consummated.
These
conditions raise substantial doubt about Clarity’s ability to continue as a
going concern. The accompanying consolidated financial statements
have been prepared assuming Clarity will continue as a going concern and
do not
include any adjustments relating to the recoverability of reported assets
or
liabilities should Clarity be unable to continue as a going
concern.
If
Clarity fails to obtain necessary funds for its operations, Clarity may be
unable to maintain or improve on its technology position and unable to develop
and commercialize its products
During
October 2007, Clarity drew on its line of credit that is guaranteed by Clarity’s
sole shareholder up to $1.5 million. As of November 30, 2007,
approximately $610,000 has been drawn down under the line of
credit. Borrowings on this line of credit are subject to the approval
of the lending institution. In addition, Clarity owes its sole
shareholder $2 million plus accrued interest in the form of a shareholder
note
executed on December 31, 2006 and payable upon demand. Clarity lacks
the credit facilities or immediate cash flows needed to repay these
liabilities.
Clarity’s
continued existence is therefore dependent upon Clarity’s ability to raise funds
through borrowings. Although Clarity believes that it will be able to
secure suitable financing for its operations, there can be no guarantee that
such financing will be available on reasonable terms, or at all. As a
result, there is no assurance that Clarity will be able to continue as a
going
concern.
The
actual amount of future funding requirements will depend on many factors,
including: the amount and timing of future revenues, the level of product
marketing and sales efforts to support Clarity’s commercialization plans, the
magnitude of research and product development programs, the ability to improve
or maintain product margins, consummation of the Merger and the receipt of
the
$1.5 million in financing required under the Merger Agreement, and the costs
involved in protecting patents or other intellectual property.
Clarity
has limited experience in sales and marketing
Clarity’s
sales and marketing experience to date is very limited. Clarity may
be required to further develop its marketing and sales force in order to
effectively demonstrate the advantages of Clarity’s products over other
products. Clarity also may elect to enter into arrangements with
third parties regarding the commercialization and marketing of Clarity’s
products. If Clarity enters into such agreements or relationships,
Clarity would be substantially dependent upon the efforts of others in deriving
commercial benefits for Clarity’s products. Clarity may be unable to
establish adequate sales and distribution capabilities, including entering
into
marketing arrangements or relationships with third parties on financially
acceptable terms, and any such third party may not be successful in marketing
Clarity’s products. There is no guarantee that Clarity’s sales and
marketing efforts will be successful, which would have a material adverse
effect
on Clarity’s business, operating results and financial condition.
Unsuccessful
management of Clarity’s growth may cause a material, adverse effect on Clarity’s
business
Growth
may cause a significant strain on management, operational, financial and
other
resources. The ability to manage growth effectively may require
Clarity to implement and improve its operational, financial, and management
information systems and expand, train, manage and motivate
employees. These demands may require the addition of new management
personnel and the development of additional expertise by
management. Any increase in resources devoted to product development
and marketing and sales efforts could have an adverse effect on financial
performance in future fiscal quarters. If Clarity were to receive
substantial customer orders, Clarity may have to expand current facilities,
which could cause an additional strain on Clarity’s management personnel and
development resources. The failure of the management team to
effectively manage growth could have a material adverse effect on Clarity’s
business, operating results and financial condition.
TECHNOLOGY
AND MARKET RISKS
Clarity
is dependent on wireless telecommunications and any adverse changes in the
industry could have a material adverse effect on Clarity’s
business
The
principal target market for Clarity’s products is wireless
telecommunications. The devotion of substantial resources to the
wireless telecommunications market creates vulnerability to adverse changes
in
this market. Adverse developments in the wireless telecommunications
market, which could come from a variety of sources, including future
competition, new technologies or regulatory measures, could affect the
competitive position of wireless systems. Any adverse developments in
the wireless telecommunications market may have a material adverse effect
on
Clarity’s business, operating results and financial condition.
Clarity
is dependent on the acceptance of push-to-talk and location-based services
and
related applications
Increased
sales of products are dependent on a number of factors, one of which is the
acceptance and demand for location-based features and push-to-talk
services. Further, the spending patterns of wireless operators and
OEMs is beyond management’s control and depends on a variety of factors,
including access to financing, the status of federal, local and foreign
government regulation and deregulation, changing standards for wireless
technology, the overall demand for wireless services, competitive pressures
and
general economic conditions. The expansion of wireless services and
applications, and related networks to support them, may take years to
complete. The magnitude and timing of capital spending by these
operators for constructing, rebuilding or upgrading their systems significantly
impacts the demand for Clarity’s products. Any decrease or delay in
capital spending patterns in the wireless telecommunications industry, whether
because of a general business slowdown or a reevaluation of the prospective
demand for data and other services, would delay the build-out of these networks
and may significantly harm Clarity’s business prospects.
Rapid
technological change and future competitive technologies could negatively
affect
Clarity’s operations
The
field
of telecommunications is characterized by rapidly advancing
technology. Clarity’s success will depend in large part upon
Clarity’s ability to keep pace with advancing its solutions in light of
applications and services offered by competitors. Rapid changes have
occurred, and are likely to continue to occur, in the development of wireless
telecommunications. Development efforts may be rendered obsolete by
the adoption of alternative solutions to current wireless operator problems
or
by technological advances made by others, which could have a material adverse
effect on Clarity’s business, operating results, and financial
condition.
BUSINESS
RISKS
Dependence
on a limited number of customers
Sales
to
three customers accounted for nearly 100% of Clarity’s total revenues for
2006. During 2006, Clarity’s top three customers were Alcatel-Lucent
Technologies, Autodesk and Lockheed Martin, respectively. In
addition, a significant amount of Clarity’s technical and managerial resources
have been focused on working with these and a limited number of other operators
and OEMs. The loss of any of these large customers might have a
material adverse effect on Clarity’s business, operating results, and financial
condition.
24
Clarity
expects that if its products achieve market acceptance, a limited number
of
wireless service providers and OEMs will account for a substantial portion
of
revenue during any period. Sales of many of Clarity’s products depend
in significant part upon the decisions of prospective and current customers
to
adopt and expand their use of these products. Wireless service
providers, wireless equipment OEMs and Clarity’s other customers are
significantly larger than Clarity is, and are able to exert a high degree
of
influence over Clarity in negotiating customer contracts. Customers’
orders are affected by a variety of factors such as new product introductions,
regulatory approvals, end user demand for wireless services, customer budgeting
cycles, inventory levels, customer integration requirements, competitive
conditions and general economic conditions. The loss of any such
customer or the failure to attract new customers would have a material
adverse
effect on Clarity’s business, operating results and financial condition.
Clarity
has lengthy sales cycles which may result in inconsistent revenues and be
difficult to predict
Prior
to
selling products to customers, Clarity may be required to undergo lengthy
approval and purchase processes. Technical and business evaluation by
potential customers can take up to a year or more for products based on new
technologies. The length of the approval process is affected by a
number of factors, including, among others, the complexity of the product
involved, priorities of the customers, budgets and regulatory issues affecting
customers. Clarity may not obtain the necessary approvals or ensuing
sales of such products may not occur. The length of customers’
approval processes or delays could make Clarity’s quarterly revenues and
earnings inconsistent and difficult to predict.
Loss
of, or failure to attract or retain key personnel could have a material adverse
effect on Clarity
Clarity’s
success depends in large part upon its ability to attract and retain highly
qualified management, engineering, manufacturing, marketing, sales and R&D
personnel. Due to the specialized nature of Clarity’s business, it
may be difficult to locate and hire qualified personnel. The loss of
services of any of Clarity’s key personnel, or the failure to attract and retain
other key personnel, could have a material adverse effect on Clarity’s business,
operating results and financial condition.
Failure
of products to perform properly might result in significant warranty
expenses
In
general, Clarity’s products and services carry a warranty of one or two years,
limited to replacement of the product or refund of the cost of the
product. In addition, Clarity offers its customers extended
warranties. Repeated or widespread quality problems could result in
significant warranty expenses and/or the loss of customer
confidence. The occurrence of such quality problems could have a
material adverse effect on Clarity’s business, operating results and financial
condition.
Intense
competition, and continued consolidation in the wireless telecommunications
industry could create stronger competitors and harm Clarity’s
business
The
wireless telecommunications applications market is very
competitive. Many of these companies have substantially greater
financial resources, larger research and development staffs and greater
manufacturing and marketing capabilities than Clarity does. Clarity’s
products compete directly with products which embody existing and future
competing commercial technologies. Other emerging wireless
technologies may also provide similar functionality, potentially at lower
prices
and/or superior performance, and may therefore compete with Clarity’s
products. Failure of Clarity’s products to improve performance
sufficiently, reliably, or at an acceptable price or to achieve commercial
acceptance or otherwise compete with existing and new technologies, would
have a
material adverse effect on Clarity’s business, operating results and financial
condition.
LEGAL
RISKS
Intellectual
property and patent protection and infringement may be
costly
Clarity’s
success will depend in part on Clarity’s ability to obtain patent protection for
Clarity’s products and processes, to preserve trade secrets and to operate
without infringing upon the patent or other proprietary rights of others
and
without breaching or otherwise losing rights in the technology licenses upon
which many of Clarity’s products are based.
Clarity’s
participation in litigation or patent office proceedings in the U.S. or other
countries to enforce patents issued or licensed to Clarity, to defend against
infringement claims made by others or to determine the ownership, scope or
validity of Clarity’s proprietary rights of others, could result in substantial
cost to, and diversion of effort by, Clarity. The parties to such
litigation may be larger, better capitalized than Clarity is and better able
to
support the cost of litigation. An adverse outcome in any such
proceedings could subject us to significant liabilities to third parties,
require Clarity to seek licenses from third parties and/or require Clarity
to
cease using certain technologies, any of which could have a material adverse
effect on Clarity’s business, operating results and financial condition.
Government
regulations may have a material adverse effect on Clarity’s
business
Although
Clarity believes that its wireless telecommunications products themselves
are
not subject to licensing by, or approval requirements of, the Federal
Communications Commission (“FCC”), wireless operators and OEMs are subject to
FCC licensing and the radio equipment into which Clarity’s products would be
incorporated must meet specified technical standards and is subject to FCC
approval. The ability to sell Clarity’s wireless telecommunications
products is dependent on the ability of wireless equipment manufacturers
and
wireless operators to obtain and retain the necessary FCC approvals and
licenses. In order for them to be acceptable to equipment
manufacturers and to operators, the characteristics, quality and reliability
of
Clarity’s products must enable them to meet FCC technical
standards. Clarity may be subject to similar regulations of foreign
governments. Any failure to meet such standards or delays by
equipment manufacturers and wireless operators in obtaining the necessary
approvals or licenses could have a material adverse effect on Clarity’s
business, operating results and financial condition. In addition,
Clarity’s products may be covered by the U.S. Department of
Commerce’s export regulation list. Therefore, exportation of
Clarity’s products to certain countries may be restricted or subject to export
licenses.
Clarity
is subject to governmental labor, safety and discrimination laws and regulations
with substantial penalties for violations. In addition, employees and
others may bring suit against Clarity for perceived violations of such laws
and
regulations. Defending against such complaints could result in
significant legal costs for Clarity. Although Clarity endeavors to
comply with all applicable laws and regulations, Clarity may be the subject
of
complaints in the future, which could have a material adverse effect on
Clarity’s business, operating results and financial condition.
RISKS
RELATED TO OUR OPERATIONS, INCLUDING RESPECT
TO THE
MERGER
We
have a history of losses that raises doubts about our ability to continue
as a
going concern
We
were
founded in October 1989 and through 1996 we were engaged principally in research
and development, product testing, manufacturing, marketing and sales
activities. Since 1996, we have been actively selling products to the
marketplace and we continue to develop new products for sale. We have
incurred net losses since inception. As of September 30, 2007, our
accumulated deficit was approximately $169 million. We have only
recently begun to generate revenues from the sale of our ANF and RF² products,
having sold more in the two years ended December 31, 2006 than in the fourteen
years of company history prior to 2005. Although we showed a
substantial improvement in revenues and we have indicated the expectation
of
continued improvement in the future, it is nonetheless possible that we may
continue to experience net losses, such as during the third quarter of 2007,
and
cannot be certain if or when we will become profitable.
These
conditions raise substantial doubt about our ability to continue as a going
concern. The accompanying consolidated financial statements have been
prepared assuming we will continue as a going concern and do not include
any
adjustments relating to the recoverability of reported assets or liabilities
should we be unable to continue as a going concern.
If
we fail to obtain necessary funds for our operations, we may be unable to
maintain or improve on our technology position and unable to develop and
commercialize our products
To
date,
we have financed our operations primarily through public and private equity
and
debt financings, and most recently through several financings with affiliates
of
our two largest shareholders. As a condition to closing the proposed
acquisition of Clarity, we will be required to obtain $1.5 million in financing
to fund the initial operations of the combined entity, which we expect to
obtain
through one of our existing lenders and on terms substantially similar to
our
current debt arrangements. Additionally, we may have additional
working capital requirements that may require additional financial
resources. As such, we will require additional capital. We
intend to look into augmenting our existing capital position by continuing
to
evaluate potential short-term and long-term sources of capital whether from
debt, equity, hybrid, or other methods. The primary covenant in our
existing debt arrangement involves the right of the lenders to receive debt
repayment from the proceeds of new financing activities. This
covenant may restrict our ability to obtain new sources of financing and/or
to
apply the proceeds of a financing event toward operations until the debt
is
repaid in full.
Our
continued existence is therefore dependent upon our continued ability to
raise
funds through the issuance of our equity securities or
borrowings. Our plans in this regard are to obtain other debt and
equity financing until such time as profitable operation and positive cash
flow
are achieved and maintained. Although we believe, based on the fact
that we have raised funds through sales of common stock and from borrowings
over
the past several years, that we will be able to secure suitable additional
financing for our operations, there can be no guarantee that such financing
will
continue to be available on reasonable terms, or at all. As a result,
there is no assurance that we will be able to continue as a going
concern.
The
actual
amount of future funding requirements will depend on many factors, including:
the amount and timing of future revenues, the level of product marketing
and
sales efforts to support our commercialization plans, the magnitude of research
and product development programs, the ability to improve or maintain product
margins, the completion of the proposed merger with Clarity, Clarity’s
successful integration into our business as well as any other merger and
acquisition activity, and the costs involved in protecting patents or other
intellectual property.
The
Merger is subject to conditions to closing that could result in the Merger
being
delayed or not consummated, which could negatively affect our stock price
and
future business and operations
The
Merger is
subject to conditions to closing as set forth in the Merger Agreement, including
obtaining the approval of our stockholders. If any of the conditions
to the Merger are not satisfied or, where permissible, not waived, the merger
will not be consummated. If the Merger is not completed for any
reason, our ongoing business may be adversely affected and will be subject
to a
number of risks, including:
|
•
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the
market price of our Common Stock might decline to the extent that
the
current market price reflects a market assumption that the Merger
will be
completed; and
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•
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we
must pay the costs related to the Merger, such as legal and accounting,
even if the even if the Merger is not
completed.
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In
addition, any delay in the consummation of the Merger or any uncertainty
about
the consummation of the Merger may adversely affect the future business,
growth,
revenue and results of operations of our Company or the combined company.
Risks
involved in future acquisitions, including the risk that we may not successfully
integrate the Clarity business or realize the anticipated benefits from the
Merger, which could adversely affect our business, financial condition and
results of operations
In
the
future, we may pursue acquisitions to obtain products, services and technologies
that we believe would complement or enhance our current product or services
offerings. On November 13, 2007, we announced the signing of a
definitive Merger Agreement to acquire Clarity. There is no assurance
that the proposed Merger will be consummated, and if the proposed Merger
is
consummated, there is no assurance that we will be able to successfully
integrate Clarity’s business into our own. At the present time, no
other definitive agreements or similar arrangements exist with respect to
any
other acquisition. An acquisition, such as the Merger with Clarity,
may not produce the revenue, earnings or business synergies as anticipated
and
may attach significant unforeseen liabilities, and an acquired product, service
or technology might not perform as expected. Our management could
spend a significant amount of time and effort in identifying and completing
the
acquisition and may be distracted from the operations of the
business. In addition, management would probably have to devote a
significant amount of resources toward integrating the acquired business
with
the existing business, and that integration may not be
successful. The process is resource intensive, both in time and
financial resources, and thus incorporates a cost to the company.
Failure
to attract and retain of key personnel could have a material adverse effect
on
our business
Our
success depends on our ability to attract and retain the appropriate personnel
needed to operate our business. During October 2007, we announced the
departure of our CEO and our subsequent search for his
replacement. Our success depends, in part, on finding an appropriate
person to fill this necessary role within our Company.
Additionally,
the value of the Clarity acquisition to our stockholders rests in large part
on
the continuity of the key personnel within the Clarity
organization. While we believe we have devised appropriate incentives
to retain Clarity’s employees, there can be no guarantee that they will choose
to remain with our Company after the Merger is complete, should it be completed,
which may have an adverse impact on our operations and financial
condition.
The
indemnification obligations under the Merger Agreement are limited, which
means
we could have unreimbursed liabilities related to the
acquisition
Our
Company, our officers, directors, employees, stockholders and other
related parties, will be entitled to indemnification in the event of losses
resulting from, among other things, breaches of Clarity’s representations and
warranties, failure to perform covenants under the Merger Agreement and Clarity
tax obligations solely and exclusively as provided in the Merger Agreement,
other than for fraud. Our Company and other indemnified parties will
not be entitled to indemnification until the cumulative amount of all losses
exceed $150,000, after which such party will only be entitled to any amounts
that exceed $150,000. In addition, the length of time in which our
Company and other indemnified parties have a right to bring an indemnification
claim and the amount to which a party may be indemnified are subject to certain
caps as set forth in the Merger Agreement. Further, indemnification
may be satisfied by withholding Time-Based Shares of Common Stock issuable
in
connection with the Merger, which would not provide us with any cash to either
pay or offset the liability that was the subject of the indemnification
claim.
The
issuance of additional shares of Common Stock will result in dilution to
our
existing stockholders
If
stockholders approve the issuances of Common Stock pursuant to the proposed
merger with Clarity and in connection with our June 2007 debt restructuring,
and
if we issue the full number of shares issuable pursuant to these two
transactions, we will be issuing up to approximately 98.5 million additional
shares of Common Stock (subject to certain anti-dilution adjustments), or
approximately 49% of the total number of shares currently outstanding as
of
November 30, 2007. As a result, these issuances will be dilutive to
existing stockholders and may have an adverse effect on the market value
of our
common stock.
Further,
as
of November 30, 2007, we had outstanding options to purchase 4.9 million
shares
of Common Stock at a weighted average exercise price of $0.41 per share (fewer
than 0.1 million of which have not yet vested) issued to employees, directors
and consultants pursuant to the 2003 Equity Incentive Plan and its predecessor
1993 Stock Option Plan, as amended, the merger agreement with Spectral
Solutions, and individual agreements with management and
directors. In addition, on the same date we had 3.8 million unvested
shares of restricted stock outstanding. In order to attract and
retain key personnel, we may issue additional securities, including grants
of
restricted shares, in connection with or outside our company employee benefit
plans, or may lower the price of existing stock options. The exercise
of options and notes for Common Stock and the issuance of additional shares
of
Common Stock, shares of restricted stock and/or rights to purchase Common
Stock
at prices below market value would be dilutive to existing stockholders and
may
have an adverse effect on the market value of our Common Stock.
As
a
result of the issuances described above, the sale of a substantial number
of
shares of our Common Stock, or the perception that such sales could occur,
could
adversely affect the market price for our Common Stock. It could also
impair our ability to raise money through the sale of additional shares of
Common Stock or securities convertible into shares of our Common
Stock.
Failure
to manage our growth may have a material adverse effect on our
business
Growth
may
cause a significant strain on our management, operational, financial and
other
resources. The ability to manage growth effectively may require us to
implement and improve our operational, financial, manufacturing and management
information systems and expand, train, manage and motivate
employees. These demands may require the addition of new management
personnel and the development of additional expertise by
management. Any increase in resources devoted to product development
and marketing and sales efforts could have an adverse effect on financial
performance in future fiscal quarters. If we were to receive
substantial orders, we may have to expand current facilities, which could
cause
an additional strain on our management personnel and development
resources. The failure of the management team to effectively manage
growth could have a material adverse effect on our business, operating results
and financial condition. In addition, the proposed acquisition of
Clarity will require substantial attention and resources in order to integrate
Clarity’s operations into our business and distract management from other areas
of our business.
The
Internal Revenue Service may disagree with the anticipated federal income
tax
consequences of the Merger
The
Merger
has been structured to qualify as a reorganization within the meaning of
Section
368(a) of the Code. Assuming the Merger qualifies as such a
reorganization, for U.S. federal income tax purposes, Mr. Fuentes will generally
not recognize a gain or loss with respect to his Clarity common stock exchanged
in the Merger for shares of our Common Stock and the right to receive the
Time-Based Shares and the Market-Based Shares, if any. However, a
portion of the Time-Based Shares and the Market-Based Shares, if any, may
be
treated as taxable interest income to Mr. Fuentes at the time such shares
are
issued.
No
assurance can be given that the Internal Revenue Service will not challenge
the
income tax consequences of the acquisition. Neither we nor Clarity
have applied for, or expect to obtain, a ruling from the Internal Revenue
Service or an opinion of legal counsel as to the U.S. federal income tax
consequences of the Merger.
OTHER
BUSINESS RISKS
We
have limited experience in manufacturing, sales and marketing and dependence
on
third party manufacturers
For
us to
be financially successful, we must either manufacture our products in
substantial quantities, at acceptable costs and on a timely basis or enter
into
outsourcing arrangements with qualified manufacturers that will allow us
the
same result. Currently, our manufacturing requirements are met by
third party contract manufacturers. The efficient operation of our
business will depend, in part, on our ability to have these and other companies
manufacture our products in a timely manner, cost-effectively and in sufficient
volumes while maintaining the required quality. Any manufacturing
disruption could impair our ability to fulfill orders and could cause us
to lose
customers.
In
the event
that we are unable to maintain manufacturing arrangements on acceptable terms
with qualified manufacturers then we would have to produce our products in
commercial quantities in our own facilities. Although to date we have
produced limited quantities of our products for commercial installations
and for
use in development and customer field trial programs, production of large
quantities of our products at competitive costs presents a number of
technological and engineering challenges. We may be unable to
manufacture such products in sufficient volume. We have limited
experience in manufacturing, and substantial costs and expenses may be incurred
in connection with attempts to manufacture larger quantities of our
products. We may be unable to make the transition to large-scale
commercial production successfully.
Our
sales and
marketing experience to date is very limited. We may be required to
further develop our marketing and sales force in order to effectively
demonstrate the advantages of our products over other products. We
also may elect to enter into arrangements with third parties regarding the
commercialization and marketing of our products. If we enter into
such agreements or relationships, we would be substantially dependent upon
the
efforts of others in deriving commercial benefits from our
products. We may be unable to establish adequate sales and
distribution capabilities, we may be unable to enter into marketing arrangements
or relationships with third parties on financially acceptable terms, and
any
such third party may not be successful in marketing our
products. There is no guarantee that our sales and marketing efforts
will be successful.
Dependence
on a limited number of customers
Sales
to
three customers accounted for 98%, 97%, and 94% of our total revenues for
2006,
2005 and 2004, respectively. During 2006, our top three customers
were Verizon Wireless, Alltel Corporation, and Bluegrass Cellular Corporation,
respectively. In addition, a significant amount of our technical and
managerial resources have been focused on working with these and a limited
number of other operators and OEMs. The loss of any of these large
customers might have a material adverse effect on our business, operating
results, and financial condition.
We
expect
that if our products achieve market acceptance, a limited number of wireless
service providers and OEMs will account for a substantial portion of revenue
during any period. Sales of many of our products depend in
significant part upon the decisions of prospective and current customers
to
adopt and expand their use of these products. Wireless service
providers, wireless equipment OEMs and our other customers are significantly
larger than we are, and are able to exert a high degree of influence over
us. Customers’ orders are affected by a variety of factors such as
new product introductions, regulatory approvals, end user demand for wireless
services, customer budgeting cycles, inventory levels, customer integration
requirements, competitive conditions and general economic
conditions. The failure to attract new customers would have a
material adverse effect on our business, operating results and financial
condition.
We
have lengthy sales cycles which could make revenues and earnings inconsistent
and difficult to trend
Prior
to
selling products to customers, we may be required to undergo lengthy approval
and purchase processes. Technical and business evaluation by
potential customers can take up to a year or more for products based on new
technologies. The length of the approval process is affected by a
number of factors, including, among others, the complexity of the product
involved, priorities of the customers, budgets and regulatory issues affecting
customers. We may not obtain the necessary approvals or ensuing sales
of such products may not occur. The length of customers’ approval
process or delays could make our quarterly revenues and earnings inconsistent
and difficult to trend.
We
are dependant on limited sources of supply
Certain
parts and components used in our RF products are only available from a limited
number of sources. Our reliance on these limited source suppliers
exposes us to certain risks and uncertainties, including the possibility
of a
shortage or discontinuation of certain key components and reduced control
over
delivery schedules, manufacturing capabilities, quality and
costs. Any reduced availability of such parts or components when
required could materially impair the ability to manufacture and deliver products
on a timely basis and result in the cancellation of orders, which could have
a
material adverse effect on our business, operating results and financial
condition.
In
addition, the purchase of certain key components involves long lead times
and,
in the event of unanticipated increases in demand for our products, we may
be
unable to manufacture products in quantities sufficient to meet customers’
demand in any particular period. We have few guaranteed supply
arrangements with our limited source suppliers, do not maintain an extensive
inventory of parts or components, and customarily purchase parts and components
pursuant to actual or anticipated purchase orders placed from time to time
in
the ordinary course of business.
Related
to this topic, we produce substantially all of our products through third-party
contract manufacturers. Like raw materials, the elimination of any of
these entities or delays in the fulfillment process, for whatever reason,
may
impact our ability to fulfill customer orders on a timely basis and may have
a
material adverse effect on our business, operating results, or financial
condition.
To
satisfy customer requirements, we may be required to stock certain long
lead-time parts and/or finished product in anticipation of future orders,
or
otherwise commit funds toward future purchase. The failure of such
orders to materialize as forecasted could limit resources available for other
important purposes or accelerate the requirement for additional
funds. In addition, such excess inventory could become obsolete,
which would adversely affect financial performance. Business
disruption, production shortfalls or financial difficulties of a limited
source
supplier could materially and adversely affect us by increasing product costs
or
reducing or eliminating the availability of such parts or
components. In such events, the inability to develop alternative
sources of supply quickly and on a cost-effective basis could materially
impair
the ability to manufacture and deliver products on a timely basis and could
have
a material adverse effect on our business, operating results and financial
condition.
Failure
of products to perform properly might result in significant warranty
expenses
In
general, our products carry a warranty of one or two years, limited to
replacement of the product or refund of the cost of the product. In
addition, we offer our customers extended warranties. Repeated or
widespread quality problems could result in significant warranty expenses
and/or
the loss of customer confidence. The occurrence of such quality
problems could have a material adverse effect on our business, operating
results
and financial condition.
The
wireless telecommunications equipment market is very
competitive. Many of our competitors have substantially greater
financial resources, larger research and development staffs and greater
manufacturing and marketing capabilities than we do. Our products
compete directly with products which embody existing and future competing
commercial technologies. Other emerging wireless technologies may
also provide protection from RF interference and offer enhanced range to
wireless communication service providers, potentially at lower prices and/or
superior performance, and may therefore compete with our
products. High performance RF solutions may not become a preferred
technology to address the needs of wireless communication service
providers. Failure of our products to improve performance
sufficiently, reliably, or at an acceptable price or to achieve commercial
acceptance or otherwise compete with existing and new technologies, would
have a
material adverse effect on our business, operating results and financial
condition.
RISKS
RELATED TO OUR COMMON STOCK AND CHARTER PROVISIONS
Volatility
of common stock price
The
market price of our Common Stock, like that of many other high-technology
companies, has fluctuated significantly and is likely to continue to fluctuate
in the future. Since January 1, 2007 and through September 30, 2007,
the price of our common stock has ranged from a low of $0.15 per share to
a high
of $0.35 per share. Announcements by us or others regarding the
receipt of customer orders, quarterly variations in operating results,
acquisitions or divestitures, additional equity or debt financings, results
of
customer field trials, scientific discoveries, technological innovations,
litigation, product developments, patent or proprietary rights, government
regulation and general market conditions may have a significant impact on
the
market price of our Common Stock. In addition, fluctuations in the
price of our Common Stock could affect our ability to maintain the listing
of
our Common Stock on the American Stock Exchange.
Concentration
of our stock ownership
At
the
time of this filing, officers, directors and principal stockholders (holding
greater than 5% of outstanding shares) together control more than 50% of
the
outstanding voting power on a fully diluted basis. The two largest
stockholders, along with their affiliates, are also our lenders, holding
all of
our outstanding debt instruments. Consequently, these stockholders,
if they act together, would be able to exert significant influence over all
matters requiring stockholder approval, including the election of directors
and
approval of significant corporate transactions, such as the Merger Proposal
and
the Note Issuance Proposal. In addition, this concentration of
ownership may delay or prevent a change of control of us, even if such a
change
may be in the best interests of our stockholders. The interests of
these stockholders may not always coincide with our interests or the interests
of other stockholders. Accordingly, these stockholders could cause us
to enter into transactions or agreements that we would not otherwise
consider.
Certain
provisions in our charter documents have an anti-takeover
effect
There
exist certain mechanisms that may delay, defer or prevent such a change of
control. For instance, our Certificate of Incorporation and By-Laws
provide that (i) our Board of Directors has authority to issue series of
our
preferred stock with such voting rights and other powers as the Board of
Directors may determine and (ii) prior specified notice must be given by
a
stockholder making nominations to the Board of Directors or raising business
matters at stockholders meetings. The effect of the anti-takeover
provisions in our charter documents may be to deter business combination
transactions not approved by our Board of Directors, including acquisitions
that
may offer a premium over market price to some or all stockholders.
The
reporting requirements of a public company could result in significant cost
to
us and divert attention from other activities
As
a
public company, we are required to comply with various reporting
obligations. These obligations change from time to time, and
currently include full compliance with Section 404 of the Sarbanes-Oxley
Act for
our fiscal year ending December 31, 2007. The process of achieving
full compliance might involve the commitment of significant resources, including
substantial levels of management attention. If we fail to comply with
the reporting obligations of the Exchange Act and Section 404 of the
Sarbanes-Oxley Act, or if we fail to achieve and maintain adequate internal
controls over financial reporting, our business, results of operations and
financial condition, and investors’ confidence in us, could be materially
adversely affected.
As
a
public company, we are required to comply with the periodic reporting
obligations of the Exchange Act, including preparing annual reports, quarterly
reports and current reports. Our failure to prepare and disclose this
information in a timely manner could subject us to penalties under federal
securities laws, expose us to lawsuits and restrict our ability to access
financing. In addition, we are required under applicable law and
regulations to integrate our systems of internal controls over financial
reporting. We plan to evaluate our existing internal controls with
respect to the standards adopted by the Public Company Accounting Oversight
Board. During the course of our evaluation, we may identify areas
requiring improvement and may be required to design enhanced processes and
controls to address issues identified through this review. This could
result in significant delays and cost to us and require us to divert substantial
resources, including management time, from other activities.
TECHNOLOGY
AND MARKET RISKS
We
are dependent on wireless telecommunications
The
principal target market for our products is wireless
telecommunications. The devotion of substantial resources to the
wireless telecommunications market creates vulnerability to adverse changes
in
this market. Adverse developments in the wireless telecommunications
market, which could come from a variety of sources, including future
competition, new technologies or regulatory decisions, could affect the
competitive position of wireless systems. Any adverse developments in
the wireless telecommunications market may have a material adverse effect
on our
business, operating results and financial condition.
We
are dependent on the enhancement of existing networks and the build-out of
next-generation networks, and the capital spending patterns of wireless network
operators
Increased
sales of products are dependent on a number of factors, one of which is the
build-out of next generation (3G and 4G) enabled wireless communications
networks as well as enhancements of existing infrastructure. Building
wireless networks is capital intensive, as is the process of upgrading existing
equipment. Further, the capital spending patterns of wireless network
operators is beyond management’s control and depends on a variety of factors,
including access to financing, the status of federal, local and foreign
government regulation and deregulation, changing standards for wireless
technology, the overall demand for wireless services, competitive pressures
and
general economic conditions. The build-out of next-generation
networks may take years to complete. The magnitude and timing of
capital spending by these operators for constructing, rebuilding or upgrading
their systems significantly impacts the demand for our products. Any
decrease or delay in capital spending patterns in the wireless communication
industry, whether because of a general business slowdown or a reevaluation
of
the prospective demand for data and other services, would delay the build-out
of
these networks and may significantly harm business prospects.
Our
success depends on the market’s acceptance of our products
Our
RF
products, including our ANF and RF² products, have not been sold in very large
quantities and a sufficient market may not develop for these
products. Customers establish demanding specifications for
performance, and although we believe we have met or exceeded these
specifications to date, there is no guarantee that the wireless service
providers will elect to use these solutions to solve their wireless network
problems. Although we have enjoyed substantial revenue growth between
2005 and the beginning of 2007, there is no assurance that we will continue
to
receive orders from these customers.
Rapid
technological change and future competitive technologies could negatively
affect
our operations
The
field
of telecommunications is characterized by rapidly advancing
technology. Our success will depend in large part upon our ability to
keep pace with advancing our high performance RF technology and efficient,
readily available low cost materials technologies. Rapid changes have
occurred, and are likely to continue to occur, in the development of wireless
telecommunications. Development efforts may be rendered obsolete by
the adoption of alternative solutions to current wireless operator problems
or
by technological advances made by others.
LEGAL
RISKS
Intellectual
property and patent protection and infringement may be
costly
Our
success will depend in part on our ability to obtain patent protection for
our
products and processes, to preserve trade secrets and to operate without
infringing upon the patent or other proprietary rights of others and without
breaching or otherwise losing rights in the technology licenses upon which any
of our products are based. We have applied for patents for inventions
developed internally and acquired patent rights in connection with the purchase
of the Adaptive Notch Filtering business unit of Lockheed Martin
Canada. One of the patents is jointly owned with Lucent Technologies,
Inc. We believe there are a large number of patents and patent
applications covering RF products and other products and technologies that
we
are pursuing. Accordingly, the patent positions of companies using RF
technologies, including us, are uncertain and involve complex legal and factual
questions. The patent applications filed by us or others may not
result in issued patents or the scope and breadth of any claims allowed in
any
patents issued to us or others may not exclude competitors or provide
competitive advantages. In addition, patents issued to us, our
subsidiaries or others may not be held valid if subsequently challenged or
others may claim rights in the patents and other proprietary technologies
owned
or licensed by us. Others may have developed, or may in the future
develop, similar products or technologies without violating any of our
proprietary rights. Furthermore, the loss of any license to
technology that we might acquire in the future may have a material adverse
effect on our business, operating results and financial condition.
Some
of
the patents and patent applications owned by us are subject to non-exclusive,
royalty-free licenses held by various U.S. governmental units. These
licenses permit these U.S. government units to select vendors other than
us to
produce products for the U.S. Government, which would otherwise
infringe our patent rights that are subject to the royalty-free
licenses. In addition, the U.S. Government has the right
to require us to grant licenses (including exclusive licenses) under such
patents and patent applications or other inventions to third parties in certain
instances.
Older
patent applications in the U.S. are currently maintained in secrecy until
patents are issued. In foreign countries and for newer U.S. patent
applications, this secrecy is maintained for a period of time after
filing. Accordingly, publication of discoveries in the scientific
literature or of patents themselves or laying open of patent applications
in
foreign countries or for newer U.S. patent applications tends to lag behind
actual discoveries and filing of related patent applications. Due to
this factor and the large number of patents and patent applications related
to
RF materials and technologies, and other products and technologies that we
are
pursuing, comprehensive patent searches and analyses associated with RF
technologies and other products and technologies that we are pursuing are
often
impractical or not cost-effective. As a result, patent and literature
searches cannot fully evaluate the patentability of the claims in our patent
applications or whether materials or processes used by us for our planned
products infringe or will infringe upon existing technologies described in
U.S.
patents or may infringe upon claims in patent applications made available
in the
future. Because of the volume of patents issued and patent
applications filed relating to RF technologies and other products and
technologies that we are pursuing, we believe there is a significant risk
that
current and potential competitors and other third-parties have filed or will
file patent applications for, or have obtained or will obtain, patents or
other
proprietary rights relating to materials, products or processes used or proposed
to be used by us. In any such case, to avoid infringement, we would
have to either license such technologies or design around any such
patents. We may be unable to obtain licenses to such technologies or,
if obtainable, such licenses may not be available on terms acceptable to
us or
we may be unable to successfully design around these third-party patents.
Our
participation in litigation or patent office proceedings in the U.S. or other
countries to enforce patents issued or licensed to us, to defend against
infringement claims made by others or to determine the ownership, scope or
validity of the proprietary rights of us and others, could result in substantial
cost to, and diversion of effort by, us. The parties to such
litigation may be larger, better capitalized than we are and better able
to
support the cost of litigation. An adverse outcome in any such
proceedings could subject us to significant liabilities to third parties,
require us to seek licenses from third parties and/or require us to cease
using
certain technologies, any of which could have a material adverse effect on
our
business, operating results and financial condition.
Litigation
may be costly and divert management’s attention
We
have
no active lawsuits, or any pending or threatened to the best of our
knowledge. The act of defending against any potential claim may be
costly and divert management attention. If we are not successful in
defending against whatever claims and charges may be made against us in the
future, there may be a material adverse effect on our business, operating
results and financial condition.
Government
regulations may have a material adverse effect on our business
Although
we believe that our wireless telecommunications products themselves are not
subject to licensing by, or approval requirements of, the FCC, the operation
of
base stations is subject to FCC licensing and the radio equipment into which
our
products would be incorporated is subject to FCC approval. Base
stations and the equipment marketed for use therein must meet specified
technical standards. The ability to sell our wireless
telecommunications products is dependent on the ability of wireless base
station
equipment manufacturers and wireless base station operators to obtain and
retain
the necessary FCC approvals and licenses. In order for them to be
acceptable to base station equipment manufacturers and to base station
operators, the characteristics, quality and reliability of our base station
products must enable them to meet FCC technical standards. We may be
subject to similar regulations of foreign governments. Any failure to
meet such standards or delays by base station equipment manufacturers and
wireless base station operators in obtaining the necessary approvals or licenses
could have a material adverse effect on our business, operating results and
financial condition. In addition, certain RF filters are on the
U.S. Department of Commerce’s export regulation
list. Therefore, exportation of such RF filters to certain countries
may be restricted or subject to export licenses.
We
are
subject to governmental labor, safety and discrimination laws and regulations
with substantial penalties for violations. In addition, employees and
others may bring suit against us for perceived violations of such laws and
regulations. Defending against such complaints could result in
significant legal costs for us. Although we endeavor to comply with
all applicable laws and regulations, we may be the subject of complaints
in the
future, which could have a material adverse effect on our business, operating
results and financial condition.
Environmental
liability may involve substantial expenditures
Certain
hazardous materials may be used in research, development and to the extent
of
any manufacturing operations. As a result, we are subject to
stringent federal, state and local regulations governing the storage, use
and
disposal of such materials. It is possible that current or future
laws and regulations could require us to make substantial expenditures for
preventive or remedial action, reduction of chemical exposure, or waste
treatment or disposal. We believe we are in material compliance with
all environmental regulations and to date have not had to incur significant
expenditures for preventive or remedial action with respect to the use of
hazardous materials.
However,
our operations, business or assets could be materially and adversely affected
by
the interpretation and enforcement of current or future environmental laws
and
regulations. In addition, although we believe that our safety
procedures for handling and disposing of such materials comply with the
standards prescribed by state and federal regulations, there is the risk
of
accidental contamination or injury from these materials. In the event
of an accident, we could be held liable for any damages that
result. Furthermore, the use and disposal of hazardous materials
involves the risk that we could incur substantial expenditures for such
preventive or remedial actions. The liability in the event of an
accident or the costs of such actions could exceed available resources or
otherwise have a material adverse effect on the business, results of operations
and financial condition. We carry property and worker’s compensation
insurances in full force and effect through nationally known carriers which
include pollution cleanup or removal and medical claims for industrial
incidents.
WITH
CLARITY COMMUNICATION SYSTEMS INC.
On
November 13, 2007, the Merger Agreement was entered into by and among ISCO,
ISCO
Illinois, Inc. (“Merger Subsidiary”), a wholly-owned subsidiary of ISCO, Clarity
Communication Systems Inc. and Jim Fuentes, for himself and as the
representative of Clarity’s Rightsholders.
Jim
Fuentes is the sole stockholder of Clarity. However, certain
employees, former employees, advisors and consultants (collectively, the
“Rightsholders”) hold rights to receive either cash or the same type of
consideration Mr. Fuentes or Clarity receives in the event of a change in
control of Clarity pursuant to Clarity’s Non-Qualified Phantom Stock Plan, as
amended (the “Phantom Plan”). Further, Mr. Fuentes and certain of the
Rightsholders are also entitled to receive equity consideration (“Enhanced
Benefits”) in the event of a change in control of Clarity pursuant to the at
risk compensation arrangements (collectively, the “At-Risk Plan”).
Mr.
Fuentes is currently a director of ISCO and will enter into an employment
agreement with ISCO upon closing of the Merger. Due to the nature of
Mr. Fuentes’ relationship with ISCO, the Board deemed the potential transaction
with Clarity to be a related party transaction subject to ISCO’s related party
transaction approval process.
Pursuant
to Rule 712 of the AMEX Company Guide, we are required to seek approval of
the
issuance of shares of Common Stock to Mr. Fuentes in connection with the
Merger.
Statement
of Principles
ISCO’s
Board of Directors is required to pre-approve any transactions with related
parties, as those terms are defined by AMEX, the Public Company Accounting
Oversight Board, the Securities and Exchange Commission (e.g., Item 404
of Regulation S-K), or any other qualified entity.
When
in
doubt, all members of the organization are required to disclose the information
and the Board will determine the appropriate course of action, if
any. In making this determination the Board has the authority to
engage the Company’s counsel or other legal counsel as it deems appropriate and
necessary. Company management is prohibited from engaging in any
related party transaction without the express approval of the Board of
Directors.
Procedures
Requests
or applications to enter into related party transactions must be submitted
to
the Chairman of the Board, who will then process the request using reasonable
judgment, including but not limited to submission for review to the full
Board
of Directors. The Chairman will enter any such communications into
the minutes of the next Board meeting and include a current status and/or
resolution. In addition, pursuant to AMEX rules, the Audit Committee
of the Board must review and approve any such transaction, as is noted in
its
charter.
Establishment
of Special Committee
Mr.
Fuentes informed Mr. Thode, ISCO’s Chief Executive Officer, of his potential
interest in evaluating a possible strategic combination with ISCO, who in
turn
disclosed such interest to the Chairman of the Board and other members of
the
Board. Upon learning of Mr. Fuentes’ interest, the full Board
resolved to establish a special committee of disinterested directors (the
“Special Committee”) to evaluate, review and negotiate the terms of what became
the Merger and to recommend to the full Board whether to approve the Merger
and
the transactions contemplated thereby. The Special Committee
consisted of directors of ISCO who the Board determined were independent
in this
matter and did not have a personal interest in the Merger, outside that of
which
is created solely as a result of their service on ISCO’s Board of
Directors. The Special Committee consisted of Mr. John Thode, who was
ISCO’s chief executive officer at the time the Special Committee was
established, Mr. Ralph Pini, the Chairman of ISCO’s Board of Directors, and Dr.
George Calhoun. Mr. Fuentes was not at any time a member of the
Special Committee and did not participate in the activities of the Special
Committee, except to the extent of any negotiations with the Special Committee
as the sole stockholder and director of Clarity.
The
Board
of Directors and management of ISCO regularly discuss ISCO’s business,
competitive position and strategic direction. They review
alternatives for growth, both organic and through transaction, in an effort
to
strengthen the Company and maximize shareholder value.
On
May
14, 2007, Mr. John Thode, then CEO of ISCO, and Mr. Jim Fuentes, CEO of Clarity
and Director of ISCO, had a preliminary conversation about a potential strategic
partnership or combination between the entities. Mr. Fuentes
described a need for his company to expand commercial and financial resources
in
the commercial solutions area. Mr. Thode described a need for ISCO to
accelerate the extension of the AIM platform into software, ideally into
a
handset application. Mr. Thode notified ISCO’s Board of Directors of
this communication via email.
On
May
21, 2007, Mr. Thode summarized this initial discussion for the rest of ISCO’s
Board of Directors, and after consulting the Company’s legal counsel who
reviewed the role and duties of the Board of Directors in a related-party
transaction with a director and the Board of Directors’ responsibility to ISCO’s
stockholders, recommended that a Special Committee of the Board be established
to consider the potential benefits and any adverse consequences of some type
of
strategic arrangement with Clarity, as well as any proposed
terms. Mr. Fuentes was not present for this
discussion. The Board of Directors identified Mr. Fuentes’ personal
interest in any transaction, that any transaction would be between related
parties, and determined that Mr. Fuentes be excluded from any communication
on
the topic, except as the representative of Clarity. In addition, the
Board identified certain Board members who it determined were independent
of any
transaction with Clarity and had the ability to perform their fiduciary
obligations involved in serving on a Special Committee, which would be
responsible, in part, for leading any direct communications or negotiations
with
Clarity, as potential members of the Special Committee.
Between
May 21, 2007 and June 8, 2007, limited discussions between Mr. Thode, Mr.
Cesario (ISCO’s Chief Financial Officer), Mr. Fuentes and Mr. Bill Jenkins
(Clarity’s Vice President of Strategy and Product Management), took place to
learn more about Clarity’s products and services. Robert W. Baird
& Co. (“Baird”), Clarity’s investment banker engaged to assist in the
possible sale of Clarity, provided a summary overview of Clarity’s
business.
On
June
8, 2007, ISCO’s Board of Directors created a Special Committee of disinterested
directors as described in the section “Related Party Transaction Approval
Process and Establishment of Special Committee” above. The members of
the Special Committee consisted of three directors who the Board determined
had
no personal interest in any potential transaction and were knowledgeable
about
Clarity’s business. They were Mr. Thode, Dr. George Calhoun, and Mr.
Ralph Pini. The Special Committee was directed to analyze any
potential transaction with Clarity, review the terms of the transaction,
share
information with the Board of Directors, participate in any negotiations
should
they be appropriate, and make one or more recommendations of appropriate
action
to the Board of Directors, subject to additional approval by the Audit Committee
pursuant to AMEX rules on related party transactions. It was
determined that other disinterested members of the Board of Directors would
be
welcome to participate in Special Committee meetings but not have a formal
vote
on Special Committee matters. The duties and obligations of the
Special Committee were discussed with legal counsel and confirmed with the
committee members. Mr. Thode was named Chairman of the Special
Committee. In addition, the Special Committee determined that ISCO’s
legal counsel, Pepper Hamilton, LLP, did not have any relationship with Clarity
or Mr. Fuentes and could act as counsel for the Special Committee.
For
the
next two weeks, discussions occurred between Mr. Thode, Mr. Cesario, and
Clarity
representatives Jim Fuentes and Bill Jenkins. Both sides shared their
respective strategic plans and identified needs to make their respective
companies more competitive. Clarity expressed a desire to quickly
expand its selling and operations capabilities to provide product solutions
to
customers, as opposed to the almost exclusively custom product development
it
had focused on during its history. ISCO expressed a desire to
accelerate the conversion of its AIM platform to software, as well as to
push
deeper into software-based solutions for wireless telecommunications.
Discussions
ceased during June 2007 as ISCO focused on restructuring its credit line
arrangement with its lenders, which was announced on June 26,
2007. In the course of restructuring ISCO’s credit line arrangement,
ISCO notified its lenders that it was in discussions with Clarity about a
possible transaction.
Discussions
between ISCO and Clarity resumed on July 5, 2007, when Mr. Fuentes contacted
Mr.
Cesario. Mr. Fuentes expressed his desire to continue toward a
strategic combination with ISCO, citing the rapid addition of sales and
operational assets as a significant potential benefit to Clarity. Mr.
Cesario and Mr. Fuentes discussed the type of due diligence data that would
be
required in order to further consider a strategic
combination. Limited information from Clarity was provided to ISCO
over the following two weeks. Mr. Cesario reported this discussion to
Mr. Thode who then reported it to the Special Committee and the other
disinterested members of the Board.
On
July
19, 2007, Mr. Thode and Mr. Cesario summarized what they had learned about
Clarity from discussions with Mr. Fuentes and Mr. Jenkins, to the Special
Committee and other disinterested members of the Board. Mr. Thode and
Mr. Cesario expressed a view that the arrangement that offered the greatest
potential to meet each side’s strategic needs would be a combination of the
entities through a merger and described potential synergies between the
companies. They described their view that the discussions involved
cross selling products and utilizing R&D resources, and in light of the
limited administrative staffs of both entities, any arrangement would
essentially involve all of the employees of each company in some
fashion. As both companies’ value was determined to be based on human
knowledge and expertise, in order to have value the entities must continue,
and
thus described a merger of the two companies into one. They explained
that Mr. Fuentes asked for a nonbinding letter of intent to confirm basic
deal
concepts prior to performing detailed due diligence in order to ensure the
entities were of like mind. The Special Committee determined that
detailed due diligence would be required before it could truly understand
the
pros and cons of a potential combination, and that a non-binding letter of
intent may align the parties, and facilitate the gathering of additional
information. Management was then instructed to execute along this
course.
Between
July 19, 2007 and mid-August 2007, representatives of Clarity, including
Baird,
and Mr. Thode discussed the potential terms of a merger and the terms of
a
non-binding letter of intent.
As
of
mid-August 2007, the companies had not agreed upon a nonbinding letter of
intent
but expressed continued interested in gathering more data and evaluating
whether
a transaction would be beneficial for both sides. Clarity began to
provide further limited diligence materials that were requested by
ISCO. This limited diligence review continued through the rest of
August 2007. The parties were able to identify economic terms desired
by each side and create the basis for discussions for a potential
transaction. ISCO indicated that it had a limited amount of cash
available and wanted to explicitly align the performance of a combined entity
by
using stock as consideration. Clarity described the need for
financial assets to defray any transaction expenses, but otherwise agreed
to a
deal for equity consideration as Mr. Fuentes expressed optimism in the value
of
a combined entity.
On
August
23, 2007, Mr. Cesario and Mr. Thode summarized to the Special Committee the
results of the diligence process to date. They described the
information that was obtained concerning Clarity’s legal structure and Board
minutes/actions, shareholder structure, financial condition, contracts,
customers, vendors, employees, assets and liabilities. Mr. Cesario
created a repository for the diligence materials collected from Clarity and
shared such data with ISCO’s legal counsel.
After
the
Special Committee meeting on August 23, 2007, Mr. Thode and Mr. Cesario had
further discussions with ISCO’s lenders regarding the proposed transaction and
received an oral non-binding consent from the lenders to the deal structure
to
satisfy the requirement under ISCO’s line of credit arrangement to seek consent
from the lenders prior to issuing or assuming additional debt, which Clarity
and
ISCO had discussed as part of the terms of the potential
transaction.
On
August
27, 2007, ISCO’s Special Committee decided it had gathered sufficient
information to present a nonbinding letter of intent to Clarity, based largely
on points discussed during the prior weeks of discussions (as described above)
for purposes of gathering additional diligence materials. Mr. Thode
presented this proposal to Clarity.
On
August
28, 2007, ISCO and Clarity entered into a letter of intent for a transaction,
subject to, among other things, the completion of additional due diligence,
a
no-solicitation period granted to ISCO by Clarity until September 30, 2007,
the
rendering of a fairness opinion to ISCO’s Special Committee and full Board of
Directors, completion of an audit of Clarity’s financial statements, commitment
from ISCO’s lenders for funding of the combined entity, and approvals on both
sides. This agreement included a period of exclusivity between ISCO
and Clarity, ending on September 30, 2007, and included substantial due
diligence procedures, which provided, among other things, that within two
weeks
after receipt of due diligence materials, ISCO would notify Clarity whether
ISCO
intended to proceed with a transaction and toward a definitive
agreement. This nonbinding letter of intent outlined economic terms
of ISCO providing 40 million shares of Common Stock to Clarity – 20 million up
front, 10 million vesting over two years and subject to continued employment
conditions, and 10 million subject to certain market capitalization thresholds
for 45 consecutive days during the following three year period. It
was agreed by the parties that a portion of these shares would be used to
satisfy certain employee compensation plan obligations that would be triggered
in the event of a change in control of Clarity. In addition, ISCO was
to assume a $2 million shareholder note, provide up to $750,000 in cash to
offset documented and reasonable Clarity transaction costs and assume a credit
line that Clarity did not have but was contemplating possibly needing for
a
short period of time. Finally, Mr. Fuentes was to have a two year
contract to serve as an employee of ISCO following the transaction.
During
the next two weeks Clarity provided due diligence materials to ISCO and its
legal counsel to review and ISCO’s management and legal counsel conducted their
due diligence review.
On
September 14, 2007, ISCO’s Special Committee met to consider the data that had
been gathered, the risks and opportunities associated with Clarity’s business,
potential synergies, and potential transaction costs and cash requirements
throughout a transaction process and beyond. After reviewing the
duties and obligations of the Special Committee with legal counsel, Mr. Cesario
and Mr. Thode shared revised financial forecasts and the results of authorized
customer contact, as well as a more complete view of the assets and liabilities
of Clarity. Mr. Cesario and Mr. Thode noted that financial
performance had been significantly below expectations based on earlier
discussions and review of Clarity financial data as certain opportunities
had
not yet materialized, and explained that Clarity would likely need more cash
than expected and for a longer period of time, which would be ISCO’s obligation
should a transaction be consummated. Ultimately, the Special
Committee considered whether to maintain, change, or terminate the transaction
process with Clarity. After a detailed review, the Special Committee
decided that there remained value in a potential combination and decided
to
present a revised letter of intent to Clarity, with the ability for the entities
to terminate without completing a transaction, including requiring final
approval of ISCO’s Board of Directors.The nonbinding letter of intent was
revised to tie more of the consideration to equity capitalization performance
measures to relieve ISCO of some of the risk and allow for the repayment
by ISCO
of a credit line to be utilized by Clarity for operation funding, but offset
this use of cash by eliminating the assumption of the shareholder note and
reducing the amount of cash to be provided to cover Clarity’s closing
costs.
After
the
meeting of September 14, 2007, Mr. Thode held discussions with ISCO’s lenders to
review the proposed revised terms of the transaction, including the elimination
of the assumption of the shareholder note and the extension of debt financing
to
ISCO to pay off Clarity’s line of credit at closing of the
Merger. One of ISCO’s lenders, Alexander Finance, L.P. indicated its
willingness to provide up to $1.5 million for this purpose.
On
September 21, 2007, ISCO and Clarity entered into a revised letter of intent,
reflecting adjusted economic elements based on the preliminary diligence
findings and updated cash needs and expectations of the
business. Upon agreement of the revised letter of intent, Mr. Cesario
was instructed by the Special Committee to engage an independent auditor
to
audit Clarity’s financial statements as well as an independent appraisal firm to
provide a fairness opinion. ISCO then engaged Grant Thornton, LLP
(“Grant Thornton”), ISCO’s independent registered public accounting firm to
conduct the audit of Clarity’s financial statements and Appraisal Economics,
Inc. (“AEI”) to render the fairness opinion. The Special Committee
indicated a preference for an outside professional investment advisor that
had
no prior relationship with ISCO or Clarity, due to the related party nature
of
the potential transaction. A number of candidates were identified and
evaluated. Based on reviews of clients and competencies including
AEI’s reputation and experience on the valuation of companies, a direct
interview process and reference checks, AEI was selected as providing the
most
value to ISCO, the Special Committee, the Board of Directors, ISCO’s
stockholders and the transaction process overall. To the best
knowledge of ISCO management and the Board of Directors, there has never
been a
relationship between ISCO, or its affiliates, and AEI.
During
the next few weeks, diligence review continued, including legal and accounting
diligence. On October 8, 2007, Grant Thornton began its field work at
Clarity’s offices. AEI also began its evaluation of Clarity and the
proposed transaction during this time. ISCO’s legal counsel continued
to conduct due diligence and draft a definitive merger agreement.
On
October 10,
2007, Mr. John Thode submitted his resignation as CEO to ISCO’s Board of
Directors. ISCO considered the appropriate disclosure to the
marketplace, and its Board of Directors concluded that it should disclose
the
advanced stage of the Clarity relationship as well. On October 15,
2007, both a non-binding letter of intent between the parties and Mr. Thode’s
resignation were disclosed via press release and Current Report on Form
8-K. During this time ISCO also announced that Mr. Ralph Pini, ISCO’s
Chairman of the Board of Directors would serve as interim chief executive
officer of ISCO until a permanent successor to Mr. Thode could be found.
On
October 12, 2007, a draft definitive merger agreement was sent to Clarity,
its
legal counsel and Baird for review.
On
October 22, Clarity, through its legal counsel, provided a number of preliminary
comments to the draft merger agreement. Many of these points related
to rights and obligations specified in the draft definitive agreement as
well as
the type and amount of indemnities to be provided by each side to the other
(primarily from Clarity to ISCO). Between October 22, 2007 and
October 24, 2007, representatives from the parties discussed various
alternatives to achieve each party’s interests.
On
October 24, 2007, ISCO’s Special Committee, with its legal counsel and Mr.
Cesario, met to consider deal points raised by Clarity pertaining to the
draft
merger agreement. Mr. Cesario and ISCO’s legal counsel explained the
points that were raised and provided recommendations, as well as certain
potential alternatives to the two positions that had been advanced (ISCO’s
initial draft and Clarity’s requested changes). After discussion of
the individual and overall elements, the Special Committee directed Mr. Cesario
to present ISCO’s reply to these points, with the expectation of moving forward
in the negotiations if agreement on these points could be reached.
On
October 26, 2007, ISCO’s Special Committee, with its legal counsel, Mr. Cesario,
and independent financial advisors from AEI, met to discuss the fairness
opinion
document that was provided on October 25, 2007 and the underlying assumptions
and analysis. Mr. Joe Kettel of AEI led the presentation of their
analysis. Mr. Kettel described the nature of the engagement, his
understanding of the consideration to be offered, the processes and tools
employed, the information that was used, and expressed that AEI was able
to
conduct an appropriate, independent review of the financial nature of the
transaction for ISCO, its Board of Directors and stockholders. Key
assumptions were analyzed, including pro forma changes that would result
should
certain assumptions be changed as discussed (e.g., future revenue and
discount rate). Members of the Special Committee, as well as other
disinterested directors who were in attendance, asked questions and engaged
in a
discussion with AEI about its report and analysis. Ultimately the
Special Committee agreed with the findings presented by Appraisal Economics,
that the transaction was fairly priced from a valuation
perspective.
Revised
drafts of the definitive merger agreement were circulated between the parties
during the last week of October 2007.
On
November 2, 2007, the Audit Committee of ISCO’s Board of Directors met with
representatives of Grant Thornton for Grant Thornton’s presentation of the
results of the audit of Clarity’s financial statements.
Later
on
November 2, 2007, the Special Committee, with its legal counsel and Mr. Cesario,
again reviewed the duties and obligations of the Special Committee, and then
considered what it believed to be the final points that had to be resolved
in
order for a definitive agreement to be agreeable to the Special Committee
and
ISCO’s Board of Directors. After a careful review of the history,
positions, and data, the Special Committee analyzed the risks and requirements
of each point, and which could and could not be
compromised. Ultimately, Mr. Cesario was instructed to present to
Clarity the decision on those points with an intention to move forward with
a
final agreement pending agreement on the open points.
Negotiations
on the terms of the definitive merger agreement continued between the parties
between November 2 and November 12, 2007 on several open
points. During this time, Mr. Cesario kept ISCO’s lenders informed
about the status of the proposed transaction as well as open deal
points. Toward the end of this period, Mr. Cesario also showed the
revised draft definitive merger agreement and related open deal points to
AEI,
who determined that the assumptions contained in its fairness opinion still
applied and no changes were necessary to the fairness opinion.
On
November 12, 2007, ISCO’s Special Committee, with its legal counsel and Mr.
Cesario, met to review a further revised definitive merger
agreement. After a review of goals, management confirmed it believed
the revised definitive agreement was in near final form with all material
issues
resolved. After confirming with legal counsel the duties and
responsibilities of the Special Committee, the Special Committee reviewed
the
terms of the proposed transaction, the risks and opportunities that would
go
with it, and the final deal points as presented by management and described
in
the draft definitive agreement. The Special Committee unanimously
recommended to the Board of Directors (excluding Mr. Fuentes) and to the
Audit
Committee that the transaction be consummated as described.
On
November 12, 2007, subject to the formal recommendation and approval of the
Audit Committee, the Board of Directors (excluding Mr. Fuentes) considered
the
merger transaction and supporting materials and determined it was in the
best
interest of ISCO’s stockholders to proceed with the transaction. The
Special Committee and the Board of Directors considered the fairness opinion
rendered by AEI and considered whether there were any circumstances, including
such circumstances specific to ISCO as well as to the capital markets and
the
wireless telecommunications industry generally, that would undermine the
assumptions contained in the fairness opinion. It was determined that
the fairness opinion dated October 25, 2007 remained valid and
applicable. Because of scheduling limitations, the Audit Committee
was not able to formally meet prior to this Board of Directors
Meeting. Because of a lack of a quorum of Audit Committee members at
the appropriate portion of this full Board of Directors meeting, the Board
approved of this transaction and instructed Mr. Cesario to execute the
definitive agreement subject to the formal recommendation of the Audit
Committee.
On
November 13, 2007, the Audit Committee met with the Company’s legal counsel and
Mr. Cesario, considered its duties and obligations, considered the merger
transaction as proposed, considered the related party nature of the transaction
and controls employed during the process, considered the results of the audit
and the comments provided by the independent auditors, as well as other factors,
and recommended that the Company proceed with the transaction. Mr.
Cesario shared the Audit Committee’s approval with the full Board of Directors
prior to signing the definitive agreement.
On
November 13, 2007, Mr. Cesario on behalf of ISCO and Mr. Fuentes on behalf
of
Clarity, himself and as representative of the Rightsholders, executed a
Definitive Merger Agreement, which is attached as Appendix A to this Proxy Statement and announced
the
agreement to the public via press release and on a Current Report on Form
8-K
filed with the SEC.
In
reaching its decision to approve the merger, ISCO’s Special Committee and Board
of Directors consulted with ISCO’s management and advisors, and considered the
following potentially positive factors:
|
·
|
The
telecommunications industry, particularly the wireless segment,
has been
consolidating for years and continues to do so. The Merger
offers an opportunity for ISCO to become a larger, more competitive
company. Inherent benefits in entity size include cost
efficiencies in operations and sourcing, as well as diversity of
products
and markets, to reduce the reliance on any particular element of
the
organization in the face of fluctuating customer spending
patterns.
|
|
·
|
ISCO’s
competitors are growing larger, in many cases through acquisition,
and
thus are more difficult to compete against. By increasing
its own size, ISCO expects to be in a better position to compete
with
these entities.
|
|
·
|
ISCO’s
customers and potential customers are also growing via
merger. By becoming a larger entity with a larger breadth of
product and serve offerings, ISCO believes it would be more likely
to be
selected as a vendor by these
entities.
|
|
·
|
ISCO
is moving toward a more software-driven business model within wireless
telecommunications industry, including a view into mobile
devices. Clarity has built significant capabilities in the
field of mobile device applications, including assembling a strong,
skilled employee base and competency over the years. The Merger
may significantly improve ISCO’s ability to expand its AIM platform into a
handset application and related
derivatives.
|
|
·
|
The
customer bases between the two companies appear highly
complementary. There may be significant cross-selling
opportunities in bringing the product lines of both companies to
the
combined customer base.
|
|
·
|
Each
entity offers a different set of solutions to the marketplace,
thus
reducing the risk of adding one solution while diminishing the
value of
another.
|
|
·
|
The
expansion of product and market breadth would reduce the reliance
on any
one product, market or customer. ISCO has experienced a
relatively concentrated customer base for several years. This
combination would reduce the reliance on any single customer and
reduce
the risk profile of the combined
entity.
|
|
·
|
Each
entity has a highly entrepreneurial culture and their respective
facilities are geographically close, thus increasing the probability
of a
successful integration.
|
|
·
|
The
structure of the transaction ties combined company performance
in the
future to the cost of the transaction, as 37% of the shares issuable
in
connection with the Merger are tied to future increases in the
combined
entity’s value as measured by its market capitalization. Should
these projected increases not occur, this large portion of the
consideration in the Merger (15 million shares out of a maximum
possible
issuance of 40 million shares) would not be
paid.
|
|
·
|
The
combined entity affords greater opportunity for larger and longer-term
customer orders with longer revenue recognition cycles, which is
viewed as
potentially reducing the volatility of ISCO’s revenues and common stock
valuation.
|
The
Board
of Directors and Special Committee also considered the following potentially
adverse effects:
|
·
|
2007
was the lowest revenue Clarity ever posted and its first significant
operating loss.
|
|
·
|
Clarity
was shifting from its historical revenue base (almost exclusively
providing custom product development services) to offering products
and
hosted services to customers. It did not have a significant
track record of success in these new
areas.
|
|
·
|
The
combined entity would have greater cash requirements to operate
than ISCO
as a standalone entity, and thus the pressure on the combined entity
for
additional revenues and/or funding in the near term will be
significant.
|
|
·
|
ISCO
will need its lenders to lend an additional $1.5 million to cover
transaction costs and initial working capital of the combined
entity.
|
|
·
|
The
volatility in the telecommunications marketplace, and while a positive
in
terms of expanded product offerings and customer bases, the resulting
entity would have greater assets in this marketplace and thus be
more
intensely subject to macro trends in the wireless telecommunications
industry.
|
|
·
|
Dilution
to ISCO’s stockholders as a result of the equity to be issued in the
proposed transaction.
|
|
·
|
ISCO
has a modest amount of cash in the bank and Clarity has a net
deficit. A combined entity would start without a significant
amount of cash, even after additional debt financing to resolve
certain
liabilities and transaction costs.
|
|
·
|
Despite
the attempt to incentivize Clarity employees to stay after a merger,
there
could be no assurance that they would indeed stay with the combined
entity.
|
|
·
|
The
additional strain on ISCO’s personnel in integrating an entity, in light
of the thin staffing at ISCO and particularly in light of the recent
departure of Mr. Thode as ISCO’s CEO and related CEO search
process.
|
FAIRNESS
OPINION
Appraisal
Economics Inc. (“AEI”) was retained by the Special Committee to render a
fairness opinion in connection with its proposed acquisition of Clarity.
The
Special Committee chose to retain AEI based on AEI’s reputation and experience
in the valuation of telecommunications companies. Specifically, the Special
Committee requested AEI to determine whether the consideration that would
be
paid by the Company in connection with the acquisition of Clarity was fair
to
the Company’s stockholders from a financial point of view. On October 26, 2007,
at a meeting of the Special Committee of the Board of Directors, held to
evaluate the acquisition, AEI rendered the opinion (the “Fairness Opinion”),
which Fairness Opinion was distributed to the Special Committee, to the effect
that, as of the date of the Fairness Opinion (October 25, 2007 or the “Report
Date”) and based on and subject to the matters described in its opinion, the
consideration to be paid by the Company in connection with the acquisition
is
fair, from a financial point of view to the Company stockholders.
The
full text of
AEI’s written Fairness Opinion to the Special Committee, which sets forth the
procedures followed, assumptions made, matters considered and limitations
on the
review undertaken, is attached hereto as Appendix B.
AEI has consented to the inclusion of its Fairness Opinion in the proxy
statement. You are encouraged to read the Fairness Opinion carefully in its
entirety. The Fairness Opinion was provided to the Special Committee in
connection with its evaluation of the acquisition and relates only to the
fairness to the stockholders, from a financial point of view, of the
consideration to be paid by the Company, and does not address any other aspect
of the acquisition and does not constitute a recommendation to any stockholder
as to how such stockholder should vote or act with respect to any matters
relating to the acquisition. The Fairness Opinion is neither a recommendation
nor advice as to whether the Company stockholders should exercise their right
to
vote their shares for or against the transaction. The summary of AEI’s Fairness
Opinion in this proxy statement is qualified in its entirety by reference
to the
full text of the Fairness Opinion.
In
conducting
the analysis and arriving at its opinion, AEI reviewed such materials and
considered such financial and other factors as deemed relevant under the
circumstances, including:
|
·
|
a
copy of the Letter of Intent for Purchase of Clarity Stock dated
August
28, 2007 and the Amendment to the Letter of Intent dated September
21,
2007;
|
|
·
|
unaudited
financial statements of Clarity for the years ended December 31,
2002
through 2006, and for the interim period ended June 30, 2007 (the
periods
of 2006 and 2007 were audited during October 2007 by Grant Thornton,
LLP,
with no material changes from the financial statements as presented
to
AEI);
|
|
·
|
certain
internal financial and operating information, including financial
projections for Clarity prepared by the management of Clarity and
financial projections for Clarity prepared by the management of
ISCO;
|
|
·
|
market
traded security prices and publicly available financial and operating
data
concerning certain companies whose business description was deemed
comparable to Clarity or otherwise relevant to the
inquiry;
|
|
·
|
information
regarding acquisitions of other companies in the telecommunications
industry;
|
|
·
|
ISCO
stock price history on and before the Report Date to determine
the value
of the merger consideration;
|
|
·
|
published
studies of discounts to be applied to restricted stock in order
to
determine the value of the time-based equity
consideration;
|
|
·
|
application
of a Monte Carlo simulation model to determine the value of the
market
cap-based equity consideration; and
|
|
·
|
other
financial studies, analyses, and investigations as deemed
appropriate.
|
In
addition,
AEI discussed with the senior management of ISCO and Clarity; (i) the recent
history and prospects for Clarity's business, (ii) the terms of the Transaction,
and (iii) such other matters as deemed relevant.
As
part of
its review and analysis and in arriving at its opinion, AEI relied upon the
accuracy and completeness of the financial and other information provided
to it
by ISCO and Clarity. AEI did not undertake any independent
verification of such information or any independent valuation or appraisal
of
any of the assets or liabilities of Clarity except as noted. AEI
assumed that the final terms of the transaction will be substantially similar
to
those described to it and included in the Fairness Opinion. The Fairness
Opinion
is necessarily based on economic, financial, and market conditions as they
exist
and can only be evaluated as of the date of the Fairness Opinion. The Fairness
Opinion does not address and should not be construed to address the merits
of
the transaction and alternative financing strategies.
AEI
and all
of its employees are independent of ISCO and Clarity and have no current
financial interest in these parties or in the transaction. It was retained
by
ISCO to render the Fairness Opinion in connection with the transaction and
will
receive a fee for such services. AEI’s fee for the engagement is in no way
contingent upon the results reported in the Fairness Opinion.
AEI’s
opinion
and financial analyses were only one of many factors considered by the Special
Committee in their evaluation of the acquisition and should not be viewed
as
determinative of the views of the Special Committee with respect to the decision
to pursue the acquisition or the consideration to be paid in connection with
the
acquisition.
Valuation
Analysis
The
following
is a summary of the financial analysis performed by AEI in connection with
the
preparation of its opinion. No company or security used in the analysis is
directly comparable to Clarity. In addition, mathematical analysis
such as determining the mean or median is not in itself a meaningful method
of
using selected company or market data. The analysis performed is not necessarily
indicative of actual values, which may be significantly more or less favorable
than suggested by the analysis. Furthermore, AEI considered all of
the shares of ISCO common stock, including those which may be issued in
connection with the transaction, including the time-based and performance
based
shares, as merger consideration for valuation purposes.
43
AEI
concluded
that Clarity's business enterprise value is between $5.2 million and $8.2
million, with a most applicable value of $7.0 million and, net of $1.0 million
in assumed debt, a fair market value of equity of approximately $6.0 million
as
of September 30, 2007 (the “Valuation Date”). Fair market value is
defined as the amount at which property would change hands between a willing
seller and a willing buyer when neither is acting under compulsion, and when
both have reasonable knowledge of the relevant facts. The fair market value
presented in the Fairness Opinion is, to the best of AEI’s knowledge, the latest
fair market value established for Clarity's total equity, prior to
closing.
AEI
utilized
the discounted cash flow method of the income approach with support from
the
guideline public company method and the guideline transaction method of the
market approach to determine the business enterprise value of
Clarity.
Income
Approach - Discounted Cash Flow Method
AEI
was
provided with budgeted sales and expenses for 2007 through 2011 (the
''Projection Period"'). The time frame beyond the Projection Period was denoted
as the residual period. AEI estimated the free operating cash flow (“FCF”) for
each year of the Projection Period and discounted it to present value using
an
appropriate discount rate of 22 percent and then estimated the present value
of
the estimated FCF for the residual period. The sum of these two components
is
the business enterprise value of the company. The annual FCF was discounted
to
present value at a rate of 22.0 percent using a mid-year discounting convention.
To estimate the discount rate for Clarity, AEI used the sized based method
to
best consider the relative small size of Clarity. Details of the discount
rate
computation are captured in the Appraisal Economics Inc. Fairness
Opinion. AEI tested the sensitivity of its model by varying the
discount rate and revenue projection.
AEI
determined a residual value of the enterprise at the end of the discrete
forecast period and discounted it to present value. The residual value analysis
requires the determination of the value of all prospective cash flow generated
by the business after a discrete forecast period. This model states that
the
value of an income stream is determined by the following equation: RV= (CF
x
(1+g)) / (k-g) where,
RV
=
residual value in the last year of the projection;
CF
= cash
flow in the last year of the projection;
k
=
discount rate; and
g
=
residual cash flow annual growth rate.
AEI
used a
residual cash flow annual growth rate of 5.0 percent in its model. The term
"k-g" is known as the capitalization rate, equal to 17.0 percent in the
analysis. AEI discounted the resulting residual value to present value. The
present values from both the Projection Period and the residual value were
added
to obtain the business enterprise value.
AEI
concluded
a business enterprise value of $7.3 million (rounded) for Clarity as of the
Valuation Date using the discounted cash flow method of the income
approach.
Market
Approach - Guideline Public Company Method
AEI
compared
Clarity to similar (or "guideline") companies that are publicly traded on
a
stock market or exchange. The use of valuation ratios calculated from the
selected guideline companies provided an indication of Clarity's fair market
value of equity. AEI selected the following six guideline companies:
PCTEL, Inc.; Smith Micro Software Inc.; MMS Communications Corporation; CalAmp
Corp; Openwave Systems, Inc.; and Wind River Systems, Inc. It should
be noted that Clarity is substantially smaller then the guideline public
companies, having only $1.2 million in total assets, as such, no company
was
considered directly comparable to Clarity.
44
AEI
computed
the market value of equity for the guideline companies relative to certain
valuation metrics, such as total assets, revenue and income. These ratios
were
then applied to Clarity to obtain an indication of its market value of
equity. A
company’s size, growth, and profitability were critical elements in selecting
appropriate valuation multiples. Given Clarity's lack of consistent
profitability, AEI utilized the revenue multiple in determining an indication
of
value. Furthermore, AEI applied multiples in line with the median of the
multiples of the selected guideline companies to Clarity’s trailing twelve-
month revenue and 2007E revenue.
AEI
concluded
a business enterprise value of $5.2 million for Clarity as of the Valuation
Date
using the guideline public company method of the market approach.
Market
Approach - Guideline Transaction Method
AEI
computed
valuation ratios from the observed purchase prices paid in the acquisition
of
companies, operating within the wireless telecommunications industry. Then
AEI
applied the valuation ratios to Clarity, similar to the guideline company
method.
Although
none
of the companies identified within the guideline transactions have operations
with the same scope as Clarity, AEI selected 16 transactions involving the
acquisition of companies operating in the mobile, wireless, telecommunication
industry announced between April 2004 and October 2007. The majority of the
transactions identified represent acquisitions of privately held companies,
whereby access to the transaction details are limited
In
evaluating the guideline transactions, AEI applied multiples in line with
the
median of the implied multiples of the selected guideline
transactions. AEI utilized the revenue multiple in determining an
indication of value as this data was consistently available throughout the
guideline transaction sample.
AEI
concluded
a business enterprise value of $8.2 million (rounded) for Clarity as of the
Valuation Date using the guideline transaction method of the market approach.
Summary
of Equity Value
Based
upon the income approach, the indicated business enterprise value of Clarity
as
of the valuation date is $7.3 million. The income approach is a forward-looking
analysis based upon industry data and expectations of company performance.
Prospective investors in the company typically analyze the prospective income
and cash flows available from such an investment. While AEI considered the
results from the two market approaches, it relied more heavily upon the income
approach as the guideline companies and the guideline transactions in the
market
approach vary from Clarity, primarily in terms of its relative
size.
INDICATED
FAIR MARKET VALUE OF EQUITY
(Amounts
in Thousands of U.S. Dollars)
|
Indicated
|
Applied
|
Weighted
|
|
|
BEV
|
Weight
|
BEV
|
|
|
Guideline
Company Approach
|
$5,200
|
0.25
|
$1,300
|
|
Guideline
Transaction Approach
|
8,200
|
0.25
|
2,050
|
|
Income
Approach
|
7,300
|
0.50
|
3,650
|
|
Concluded
business enterprise value (BEV)
|
1.00
|
$7,000
|
|
|
Less:
Assumed interest bearing debt at closing
|
1,000
|
||
|
Fair
market value
|
$6,000
|
As
a result
of its analysis, AEI concluded that a fair market value of Clarity’s equity
of $6.0 million as of the Valuation Date
Consideration
to be Paid by ISCO
The
following
figure outlines the purchase price terms of the proposed transaction, which
AEI
concluded as $6.4 million as of the Report Date. Details of AEI’s
analysis for both the Time-Based Equity Consideration and Market Cap-Based
Equity Consideration follow.
45
TRANSACTION
ANALYSIS
(Amounts
in Thousands of U.S. Dollars, Except Share Amounts)
|
Share
Amount
(Millions)
|
Total
Equity Value as of the Report Date
|
|
|
Closing
Consideration
|
20
|
$4,200
|
|
Time-Based
Equity Consideration
|
5
|
790
|
|
Market
Cap Based-Equity Consideration
|
15
|
1,460
|
|
Total
Equity Consideration
|
6,450
|
|
|
Total
Equity Consideration (rounded)
|
$6,400
|
AEI’s
Closing Consideration Analysis
As
of the
Report Date, 20 million shares represent a total equity value of $4.2 million
at
a price of $0.21 per share. This share price was the closing market
price for a share of ISCO stock on the Report Date and about the median share
price during the prior 90 trading days.
AEI’s
Time-Based Equity Consideration Analysis
As
of the
Report Date, the 5 million shares at a price of $0.21 per share represent
a
total equity value of $1.05 million, prior to a discount for lack of
marketability. The Time-Based Equity Consideration is similar to restricted
shares prior to reaching the vesting periods (one year from closing of the
proposed Transaction for 2.5 million shares and two years from closing of
the
proposed Transaction for 2.5 million shares). AEI reviews published studies
on
discounts for lack of marketability of common stocks as an indication of
a
reasonable marketability discount for the equity. These studies are grouped
into
two categories: restricted stock studies and private-to-public stock
studies.
The
restricted stock studies report the discounts observed on restricted stock
of
companies that also had otherwise identical publicly traded
stock. The only difference between the two classes of stock is a
restriction prohibiting transfer for periods of up to two years. The
private-to-public studies consider the discounts observed between transactions
in stocks of various companies before and after the companies’ stocks became
publicly traded. The discounts observed in these studies range from
20 percent to 51 percent, with a median across all studies of approximately
34
percent.
Based
on its
analysis and consideration of the marketability studies, AEI selected a
marketability discount of 25 percent for the equity value of the Time-Based
Equity Consideration, resulting in a value of $790 thousand as of the Report
Date.
AEI’s
Market Cap-Based Equity Consideration Analysis
AEI
used a
Monte Carlo analysis to simulate the expected value of the Market Cap-Based
Equity Consideration. Each trial of its analysis represents the
simulated results for each tranche from closing.
The
expected
payout to the Market Cap-Based Equity Consideration is estimated by simulating
the ISCO’s risk-neutral price drift on a weekly basis (that is, over 52
simulated periods per year) during the three-year term of the Market Cap-Based
Equity Consideration.
Each
tranche
is dependent on whether ISCO’s market cap exceeds a certain
threshold. In AEI’s Monte Carlo analysis, the stock price prevailing
as of the Report Date ($0.21) was used as the “baseline” from which to calculate
the implied stock prices and corresponding market cap as the target thresholds
are met for each tranche. Subsequent to the Report Date, the AEI
analysis simulates stock price returns on a weekly basis, which are then
used to
calculate the indicated fair market value for each tranche.
The
simulation was performed for 100,000 trials. For each trial, the
indicated value of the Market-Cap Based Equity Consideration was recorded
using
the following steps. First, the simulation determined when each
tranche vests. When each tranche does vest, the payoff to that
tranche was computed based on the projected share price on that vesting
date. Once the simulation determines the payoff for each tranche, AEI
computed the present value of the payoff for each tranche using the risk-free
rate.
46
Based
on its
analysis, AEI concluded the fair market value of each tranche of the Market
Cap-Based Equity Consideration as of the Report Date, as shown in the following
figure, resulting in a total fair market value of $1.46 million.
FAIR
MARKET VALUE SUMMARY
(Amounts
in Millions of U.S. Dollars, Except Share Amounts)
|
Market
Cap Threshold
|
Vested
Shares (Millions)
|
Fair
Market Value/Share
|
Total
Fair Market Value
(Millions)
|
|
|
Tranche
1
|
$125
|
3.75
|
$0.13
|
$0.49
|
|
Tranche
2
|
175
|
3.75
|
0.1
|
0.37
|
|
Tranche
3
|
225
|
3.75
|
0.09
|
0.34
|
|
Tranche
4
|
275
|
3.75
|
0.07
|
0.26
|
|
$1.46
|
Conclusion
Relative
to the concluded fair market value of Clarity’s equity of $6.0 million as of the
Valuation Date, AEI deemed the total equity consideration of $6.4 million
as a
fair purchase price for Clarity’s total equity. As a result, AEI
believes the total consideration to be paid by ISCO in this transaction is
fair,
from a financial point of view, to ISCO stockholders.
Mr.
Fuentes, the sole shareholder of Clarity and a party to the Merger Agreement
is
a member of ISCO’s Board of Directors. Mr. Fuentes was elected to the
Board in November 2003 and served as Chairman of the Board from January 2006
until June 2007, when Mr. Ralph Pini became Chairman of the
Board. Mr. Fuentes will be issued approximately 65% of the 40,000,000
shares of Common Stock issuable in connection with the
Merger. Assuming Mr. Fuentes is issued all of the shares he is
eligible to receive in connection with the Merger, Mr. Fuentes will beneficially
own approximately 11% of ISCO’s outstanding common stock. In
addition, Mr. Fuentes is expected to become an employee of the Company upon
the
consummation of the Merger pursuant to an employment agreement (please see
the
Section entitled “Employment Agreement with Jim Fuentes”
below). Further, Mr. Fuentes will be released from his obligation to
guaranty up to $1,500,000 drawn under Clarity’s line of credit
arrangement. In his current capacity as a non-employee director, Mr.
Fuentes receives compensation from the Company as consideration for his service
on the Board. For specific terms of Mr. Fuentes’ compensation, please
see the Director Compensation section of the Company’s Proxy Statement pursuant
to Section 14(a), filed on April 27, 2007. As of November 30, 2007,
Mr. Fuentes beneficially owned 296,250 shares of Common Stock, including
a
restricted stock grant of 28,750 shares that were not vested and outstanding
options to purchase 160,000 shares of Common Stock which were currently
exercisable, representing less than 1% of our outstanding Common Stock as
of the
date of the mailing of this Proxy Statement. Mr. Fuentes intends to
continue to serve on ISCO’s Board at least for the remainder of his term, though
he will not be considered independent under AMEX rules and no longer serve
on
any Board committees.
No
other
director or officer of ISCO will have any personal interest in the
Merger.
The
Merger is expected to be accounted for as a business combination utilizing
the
purchase method of accounting in accordance with Statement of Financial
Accounting Standards No. 141, “Business Combinations.” Under the purchase method
of accounting, the purchase price is allocated to the assets acquired and
liabilities assumed based on their estimated fair values. ISCO’s
management has made a preliminary allocation of the estimated purchase price
based on preliminary estimates of fair values as set forth in the ISCO unaudited
pro forma condensed combined financial statements. Any excess of the
estimated purchase price over the fair value of net assets acquired will
be
accounted for as goodwill.
In
accordance with Statement of Financial Accounting Standards No. 142, “Goodwill
and Other Intangible Assets”, goodwill will not be amortized but instead will be
tested for impairment at least annually (more frequently if indicators of
impairment are present).
47
Based
on the
number of shares of ISCO common stock issued and outstanding on November
30,
2007, and assuming the combined entity achieves all milestones in order
for Mr.
Fuentes and the Rightsholders to receive all of the 40,000,0000 Shares
they are
eligible to receive in connection with the Merger, Mr. Fuentes and the
Rightsholders will own an aggregate of approximately between 11% and 17%
of the
issued and outstanding ISCO Common Stock following the Merger, depending
on
whether all Time-Based and Market-Based Shares are issued.
No
dissenters’ rights or appraisal rights are available under applicable Delaware
law or Illinois law to either our stockholders or to the sole Clarity
shareholder.
The
following is a discussion of the material U.S. federal income tax consequences
of the Merger to Mr. Fuentes with respect to his exchange of shares of Clarity
common stock for shares of ISCO Common Stock and the right to receive the
Time-Based Shares and the Market-Based Shares, if any, (collectively, the
“Additional Shares”). This discussion assumes that Mr. Fuentes is a
citizen or resident of the United States for U.S. federal income tax purposes
and that he holds his Clarity common stock as a capital asset. This
discussion does not address all of the U.S. federal income tax consequences
that
may be relevant to Mr. Fuentes in light of his individual circumstances or
address any such consequences with respect to shares of Clarity common stock
received by Mr. Fuentes as compensation, if any. This discussion does
not address the tax consequences of any consideration or payment received
by Mr.
Fuentes in connection with the Merger other than the receipt of shares of
our
Common Stock and the rights to the Additional Shares in exchange for Mr.
Fuentes’ Clarity common stock.
This
discussion is based on the Code, applicable Treasury regulations, administrative
interpretations and court decisions, each as in effect as of the date of
this
document and all of which are subject to change, possibly with retroactive
effect. This discussion is not binding on the Internal Revenue
Service, or the IRS, and there can be no assurance that the IRS or a court
will
agree with the conclusions stated herein. No ruling has been or will
be sought from the IRS, and no opinion has been or will be sought from counsel,
as to the U.S. federal income tax consequences of the Merger. In
addition, this discussion does not address any state, local, foreign, or
other
tax consequences of the Merger.
Mr.
Fuentes is urged to consult his tax advisors as to the specific tax consequences
to him of the Merger in light of his particular circumstances, including
the
applicability and effect of U.S. federal, state, local, and foreign income
and
other tax laws.
Tax
Consequences
The
Merger has been structured to qualify as a reorganization within the meaning
of
Section 368(a) of the Code. Assuming the Merger qualifies as such a
reorganization, the following are the material U.S. federal income tax
consequences of the Merger to Mr. Fuentes.
Exchange
of Clarity Common Stock for ISCO Common Stock and the Right to the Additional
Shares
Except
as
discussed below with respect to any portion of the Additional Shares
that may be treated as imputed interest, Mr. Fuentes will
generally not recognize gain or loss for U.S. federal income tax purposes
on his receipt of ISCO Common Stock or the rights to receive the Additional
Shares in exchange for his Clarity common stock in the Merger.
Basis
and Holding Period
The
aggregate tax basis of the ISCO Common Stock and the rights to the Additional
Shares received by Mr. Fuentes pursuant to the Merger will be the same as
the
aggregate tax basis of the Clarity common stock exchanged
therefor. The tax basis will be allocated among the ISCO Common Stock
and the rights to the Additional Shares as though Mr. Fuentes received the
maximum number of shares that can be issued under the rights to receive the
Additional Shares.
An
adjustment to the basis in the ISCO Common Stock received and the rights
to
receive the Additional Shares should be made once it becomes known
how many
shares, if any, Mr. Fuentes is entitled to receive under the rights
to receive
the Additional Shares. It is unclear how this adjustment should be
made. The IRS has not issued guidelines on how a stockholder should
make this adjustment. Mr. Fuentes is urged to consult his own tax
advisor as to this allocation of tax basis.
The
holding period of the ISCO Common Stock and the rights to receive the
Additional
Shares in the hands of Mr. Fuentes will include the holding period
of the
Clarity common stock exchanged therefore.
Conversion
of the Rights to Receive the Additional Shares into Shares of ISCO
Common
Stock
Upon
the
conversion of the rights to receive the Additional Shares:
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no
gain or loss would be recognized, except that any portion
of such
Additional Shares that is treated as imputed interest (as
described below)
will be taxed as ordinary interest
income;
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the
tax basis in the ISCO Common Stock received on conversion
will be
determined initially as set forth above under the section
titled “Basis
and Holding Period” and will be increased by the portion of such stock
treated as imputed interest; and
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the
holding period of the ISCO Common Stock received will include
the holding
period of the rights to receive the Additional Shares, except
that the
portion of the additional shares of ISCO Common Stock received
which
represents the receipt of imputed interest, as described
below, will begin
a new holding period upon receipt of such additional
shares.
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When
Mr.
Fuentes sells or otherwise disposes of the ISCO Common Stock received
upon the
closing of the Merger or upon conversion of the rights to receive the
Additional
Shares, he generally will recognize capital gain or loss in an amount
equal to
the difference between the amount he realizes for the shares and his
tax basis
in the shares. Individuals generally are entitled to a reduced rate
of tax on capital gains with respect to property held for more than
one
year.
Imputed
Interest on the Additional Shares
Under
current law, the deferred receipt of additional shares in a reorganization,
such
as the Additional Shares, requires that a portion of the additional
shares be
treated as interest income. Where there is no express provision for
interest, as is the case here, under the current regulations interest
may be
imputed under Section 483 of the Code. Thus, if additional shares
become payable more than one year after the Merger, a portion of any
shares
payable more than six months after the date of the Merger will constitute
ordinary interest income. The amount of such interest income will be
calculated by taking the fair market value of any additional shares
issued and
discounting such amount from the date of issuance back to the time
of the Merger
using the imputed interest rate under the Code. The imputed interest
rate will be the “applicable federal rate” provided under Section 1274(d) of the
Code as of the time of the Merger. Thus, the longer the period of
time until the additional shares are received, the greater the proportion
of
such shares that will be treated as ordinary interest income. Each
additional share received will be deemed to represent its pro rata
share of the
interest income. Upon the issuance of any additional shares, ISCO
will report to Mr. Fuentes and to the IRS the amount of such interest
income as
required by the Code.
Reporting
Requirements
Mr.
Fuentes will be required to retain records pertaining to the Merger
and will be
required to file with his U.S. federal income tax return for the year
in which
the Merger takes place a statement setting forth certain facts relating
to the
Merger.
THE
DISCUSSION OF MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES SET FORTH
ABOVE IS
NOT INTENDED TO BE A COMPLETE ANALYSIS OR DESCRIPTION OF ALL POTENTIAL
UNITED
STATES FEDERAL INCOME TAX CONSEQUENCES OF THE MERGER. MOREOVER, THE
DISCUSSION SET FORTH ABOVE DOES NOT ADDRESS TAX CONSEQUENCES THAT MAY
VARY WITH,
OR ARE CONTINGENT UPON, INDIVIDUAL CIRCUMSTANCES. IN ADDITION, THE
DISCUSSION SET FORTH ABOVE DOES NOT ADDRESS ANY NON-INCOME TAX OR ANY
FOREIGN,
STATE, LOCAL, OR OTHER TAX CONSEQUENCES OF THE MERGER AND DOES NOT
ADDRESS THE
TAX CONSEQUENCES OF ANY TRANSACTION OTHER THAN THE MERGER.
MR.
FUENTES IS URGED TO CONSULT HIS TAX ADVISOR AS TO THE U.S. FEDERAL,
STATE, LOCAL, FOREIGN, AND OTHER TAX CONSEQUENCES OF THE
MERGER.
Mr.
Fuentes, the sole stockholder of Clarity, is already a stockholder of
ISCO. In the Merger, his shares of Clarity common stock, which
represent all of the issued and outstanding shares of Clarity capital stock,
will be converted into the right to receive shares of ISCO’s Common
Stock. Clarity Rightsholders do not hold any shares of Clarity’s
capital stock and will not vote to approve the Merger or the transactions
contemplated thereby. After the Merger, the Rightsholders will become
stockholders of ISCO.
The
following
description of ISCO’s Common Stock is qualified in its entirety by reference to
ISCO’s Certificate of Incorporation and Bylaws, copies of which have been filed
with the Securities and Exchange Commission.
Our
Certificate of Incorporation currently authorizes 250,000,000 shares of Common
Stock and 300,000 shares of preferred stock. As of November 30, 2007,
there were approximately 201,000,000 shares of Common Stock outstanding and
no
shares of preferred stock outstanding. Holders of Common Stock will
be entitled to one vote per share on all matters submitted to a vote of
stockholders.
Subject
to the rights of holders of any outstanding shares of our preferred stock,
the
holders of outstanding shares of our Common Stock will be entitled to the
dividends and other distributions as may be declared from time to time by
our
Board of Directors from legally available funds. Holders of our
Common Stock do not have preemptive, subscription, redemption or conversion
rights. Subject to the rights of holders of any shares of our
outstanding preferred stock, upon our liquidation, dissolution or winding
up and
after payment of all prior claims, the holders of shares of our Common Stock
outstanding at that time will be entitled to receive pro rata all of our
assets. All shares of our Common Stock currently outstanding are
fully paid and nonassessable.
Our
Board
of Directors, without further stockholder approval, may issue our preferred
stock in one or more series from time to time and fix or alter the designations,
relative rights, priorities, preferences, qualifications, limitations and
restrictions of the shares of each series. The rights, preferences,
limitations and restrictions of different series of our preferred stock may
differ with respect to dividend rates, amounts payable on liquidation, voting
rights, conversion rights, redemption provisions, sinking fund provisions
and
other matters. Our Board of Directors may authorize the issuance of
our preferred stock which ranks senior to our common stock for the payment
of
dividends and the distribution of assets on liquidation. In addition,
our Board of Directors can fix limitations and restrictions, if any, upon
the
payment of dividends on our common stock to be effective while any shares
of our
preferred stock are outstanding. Our Board of directors, without
stockholder approval, can also issue our preferred stock with voting and
conversion rights which could adversely affect the voting power of the holders
of common stock. Our issuance of our preferred stock may delay, defer
or prevent a change in our control. We have no present intention to
issue shares of our preferred stock.
We
believe the Merger and the transactions contemplated by the Merger Agreement
are
not subject to any federal or state regulatory requirement or approval, except
for filings necessary to effectuate the transactions contemplated by the
Merger
Proposal with the Secretary of State of the State of Illinois and the Charter
Amendment with the Secretary of State of the State of Delaware as well as
compliance with applicable federal and state securities laws and the application
for listing of the shares issuable in connection with the Merger with
AMEX.
The
Company’s shares are currently listed on AMEX. Pursuant to the
Agreement, ISCO will use commercially reasonable efforts to cause the Shares
to
be approved for listing on AMEX, subject to official notice of issuance.
The
descriptions contained in this Proxy Statement regarding the material terms
of
the Merger Agreement are qualified in their entirety by reference to the
full
text of the Merger Agreement attached hereto as Appendix
Aand incorporated herein by reference. You should carefully
read the full text of the Merger Agreement for a more complete understanding
of
the Merger Agreement and the transactions contemplated thereby.
The
Merger Agreement provides that the closing of the Merger will take place
within
three business days after the date on which all conditions to closing set
forth
in the Merger Agreement have been met or waived. On the Closing Date,
Merger Subsidiary will cause the Merger to be consummated under Illinois
Law by
filing articles of merger in customary form and substance with the Secretary
of
State of the State of Illinois and make all other filings or recordings required
by Illinois law in connection with the Merger. The Merger will become
effective at such time (the “Effective Time”) as the articles of merger are
accepted by the Illinois Secretary of State or at such later time as is
specified in the articles of merger. Following the closing, Merger
Subsidiary will cease to exist and Clarity will continue to operate its business
as a wholly-owned subsidiary of ISCO.
Pursuant
to the Merger Agreement, ISCO will issue up to an aggregate of 40 million
shares
(the “Shares”) of ISCO Common Stock in exchange for all of Clarity’s stock,
which is held entirely by Mr. Fuentes, and satisfaction of the rights under
the
Phantom Plan and the Enhanced Benefits under the At-Risk Plan. Of the
total number of Shares ISCO may issue in the Merger, 20 million Shares would
be
issuable upon closing (subject to adjustment if the amount of total liabilities
on Clarity’s closing balance sheet, subject to certain exceptions,
exceeds $1.5 million), 2.5 million Shares would be issuable on each of the
first and second anniversaries of closing (the “Time-Based Shares”) (subject to
any indemnification claims pursuant to the Merger Agreement),
and 3.75 million Shares would be issuable on each of the first dates
on which ISCO’s equity market capitalization first equals or exceeds
$125,000,000, $175,000,000, $225,000,000 and $275,000,000 within the three
year
period after closing of the Merger for at least 40 of the 45 consecutive
trading
days ISCO’s market capitalization equals such thresholds (the “Market-Based
Shares”). The exact number of Shares issuable to Mr. Fuentes and the
Rightsholders will depend on, among other things, whether any of the Time-Based
Shares are used to satisfy indemnification claims or whether one or more
Rightsholders forfeit their shares because their employment with ISCO following
the closing of the Merger is terminated. In the event one or more
Rightsholders forfeit their Shares prior to the closing of the Merger, the
Shares allocated to Mr. Fuentes and the remaining Rightsholders will be adjusted
upward on a pro-rata basis. Mr. Fuentes will be allocated 65% of the
Shares. No single Rightsholder will be allocated more than 2.75% of
the Shares. Assuming Mr. Fuentes is issued all of the shares he is
eligible to receive in connection with the Merger, Mr. Fuentes will beneficially
own approximately 11% of ISCO’s outstanding common stock. Any
Suspended Salary owing to a Rightsholder pursuant to the At-Risk Plan will
be
paid by Clarity through its line of credit prior to closing of the
Merger. ISCO will pay off the amount of Clarity’s outstanding line of
credit at the closing of the Merger, which is expected to be approximately
$1,000,000.
In
addition, ISCO has agreed to reimburse certain professional advisors of Clarity
up to an aggregate of $375,000 for fees and expenses related to the
Merger.
The
Merger Agreement contains customary representations and warranties made by
Clarity to us and to Merger Subsidiary, and by us and Merger Subsidiary to
Clarity for the purpose of allocating certain risks associated with the
acquisition. The representations and warranties of Clarity include,
but are not limited to, representations and warranties relating to:
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due
organization, standing and power, and other corporate
matters;
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capitalization
and ownership of Clarity and absence of restrictions or encumbrances
with
respect to capital stock;
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completeness
and correctness of financial statements;
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taxes;
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litigation
and compliance with laws;
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employee
benefit plans, labor and employees;
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business
activities, restrictions and governmental
authorizations;
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authorization,
execution and delivery of the Merger
Agreement;
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absence
of any conflicts or violations under organizational documents,
contracts
with third parties or law as a result of entering into and carrying
out
the obligations contained in the Merger
Agreement;
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required
consents and approvals;
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licenses
and permits;
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the
assets, real property and contracts of
Clarity;
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intellectual
property;
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environmental
matters;
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insurance;
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brokers’
fees;
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customers;
suppliers; products and warranties;
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conduct
of the business and the absence of certain changes or events;
and
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accuracy
of information and undisclosed
liabilities.
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Our
representations and warranties and the representations and warranties of
Merger
Subsidiary include, but are not limited to, representations and warranties
relating to:
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due
organization, standing and power, and other corporate
matters;
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authorization,
execution and delivery of the Merger
Agreement;
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funds
or borrowing capability available to consummate the
merger;
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conflicts
or violations under organizational documents, contracts or
law;
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SEC
filings;
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required
consents and approvals;
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acknowledgement
regarding forward-looking
statements;
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brokers’
fees;
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reservation
of sufficient shares; and
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litigation.
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These
representations and warranties are made by the parties to each other, are
qualified by specific disclosures made to the other parties in connection
with
the Merger Agreement, may not survive the closing or survive for a limited
period of time and may not form the basis for any claims under the Merger
Agreement after the acquisition is completed. Moreover, the
representations and warranties are subject to materiality and knowledge
qualifiers contained in the Merger Agreement, and are made only as of the
date
of the Merger Agreement and the closing date of the acquisition.
We
will
require additional capital as part of the costs anticipated with the Merger,
as
well as to support any significant quarterly revenue increases in the form
of
working capital or in any greater than expected expansion of our business
and
product offerings that are expected to provide additional revenue
opportunities. Further, as a condition to the closing of the Merger,
we will be required to obtain $1.5 million in financing to fund the initial
operations of the combined entity, which we expect to obtain through one
of our
existing lenders and on terms substantially similar to our current debt
arrangements. The primary covenant in our existing debt arrangement
involves the right of the lenders to receive debt repayment from the proceeds
of
new financing activities. In the event we need to look to sources
other than our existing lenders for the financing required in the Merger,
this
covenant may restrict our ability to obtain new sources of financing and/or
to
apply the proceeds of such financing event toward the integration of the
combined company until our existing debt is repaid in full. As of the
time of mailing of the Proxy Statement, we have not completed arrangements
for
this financing. For a description of our debt arrangements, please
see the Note Issuance Proposal beginning on page 68 of
the Proxy Statement or our Quarterly Report on Form 10-Q for the quarter
ended
September 30, 2007, a copy of which is attached as Appendix Eto this Proxy Statement.
The
consummation of the Merger will depend on the satisfaction or waiver of a
number
of closing conditions, including, but not limited to, the
following:
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there
being no legal prohibition to the
merger;
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the
Merger and the issuance of the Shares will have been approved by
our
stockholders;
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the
Shares will have been approved for listing on AMEX;
and
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we
will have entered into definitive loan documents to fund the initial
operations of the combined entity in the aggregate amount of
$1,500,000.
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In
addition, the following closing conditions must be met prior to our obligation
to close:
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the
accuracy of Clarity’s representations and
warranties;
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Clarity
must have in all material respects performed or complied with all
agreements and covenants as required by the Merger
Agreement;
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Clarity
has not experienced a material adverse effect on its business,
financial
condition or prospects;
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each
Clarity employee who will continue employment with ISCO after the
closing
of the Merger having entered into a non-competition and non-solicitation
agreement;
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full
payment or release and forgiveness of all Clarity indebtedness,
subject to
certain exceptions;
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Clarity
will have made arrangements with its professional advisors to reduce
the
amount of its transaction costs to $375,000 or Clarity will agree
to pay
any transaction costs in excess of
$375,000;
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ISCO
having received all Rule 145 Affiliate
Letters;
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receipt
of resignations of all Clarity officers and
directors;
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none
of Clarity’s Key Employees (as defined in the Merger Agreement) have
terminated their employment with Clarity or have refused employment
following the closing of the
Merger;
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ISCO
will have received acknowledgments from all
Rightsholders;
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all
documents to be delivered by Clarity at the closing of the transaction
have been received; and
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Clarity’s
delivery of other certificates, documents and other instruments
as we may
reasonably request.
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In
addition, the following closing conditions must be met prior to Clarity’s
obligation to close:
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the
accuracy of our and Merger Subsidiary’s representations and
warranties;
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we
and Merger Subsidiary must have in all material respects performed
all
material agreements and covenants as required by the Merger
Agreement;
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we
have delivered all certificates and payments, including reimbursement
of
up to $375,000 of Clarity’s transaction
costs;
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we
have delivered the payoff amount to American Chartered Bank to
pay
Clarity’s line of credit;
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all
documents to be delivered by us and Merger Subsidiary at the closing
of
the Merger have been received; and
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we
have delivered all other certificates, documents and instruments
as
Clarity may reasonably request.
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In addition to the above conditions, the stockholders
are required to approve the following three proposals as set forth in this
Proxy
Statement in order to carry out the intent of the Merger Agreement:
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the
entering into the Merger and the issuance of the Shares pursuant
to the
Merger Agreement;
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amendment
of our certificate of incorporation to increase the number of shares
of
Common Stock we are authorized to issue and to enable us to issue
the
Shares; and
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the
amendment of our 2003 Equity Incentive Plan to increase the number
of
shares of Common Stock available for issuance and enable us to
issue
Shares to Rightsholders who will become our employees following
the
Merger, to receive registered shares of Common
Stock.
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Each
of
the conditions listed above may be waived by the party or parties whose
obligation to complete the acquisition of the assets are so
conditioned. At present, we have not considered waiving any specific
closing conditions and we do not anticipate that it will be necessary for
us to
waive any of the obligations of Clarity that are a condition to our obligation
to complete the acquisition. However, we reserve the right to waive
any such closing conditions in our sole discretion. Furthermore, we
do not believe that there is any material uncertainty as to the satisfaction
of
any of the closing conditions to the Merger Agreement. In the event
that we or Clarity waive any conditions, we do not intend to re-solicit
stockholder votes to approve the acquisition. Accordingly the waiver
of any of the conditions by us could give rise to additional business or
other
risks.
54
Except
as
otherwise expressly contemplated by the Merger Agreement or as required by
applicable law, or to the extent that ISCO otherwise consents in writing,
from
and after the date of the Merger Agreement until the earlier of the termination
of the Merger Agreement or the effective time of the Merger, Clarity will
carry
on its business in the usual, regular and ordinary course and in material
compliance with all applicable laws, pay its debts and taxes when due, pay
or
perform other material obligations when due, and use commercially reasonable
efforts consistent with past practices and policies to preserve substantially
intact its present business organization, keep available the services of
its
present executive officers and employees and consultants, and preserve its
relationships with its employees, consultants, customers, suppliers, licensors,
licensees, lessors and others with which it has significant business
dealings.
In
addition, without the prior written consent of ISCO, subject to certain
exceptions, which consent will not be unreasonably withheld or delayed, Clarity
has agreed that from and after the date of the Merger Agreement until the
earlier of the termination of the Merger Agreement or the effective time
of the
Merger, Clarity will not do any of the following:
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enter
into any new line of business material to
Clarity;
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declare,
set aside or pay any dividends on or make any other distributions
in
respect of any capital stock, or combine, split or reclassify any
capital
stock or issue or authorize the issuance of any other securities
in
respect of, in lieu of or in substitution for any capital
stock;
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authorize
for issuance, issue, deliver, sell, pledge or otherwise encumber
(whether
through the issuance or granting of options, warrants, commitments,
subscriptions, rights (including stock appreciation rights or phantom
stock rights), rights to purchase or otherwise) any securities
of Clarity
or rights to acquire such securities, or enter into any other agreements
or commitments of any character obligating it to issue any such
securities
or rights, or enter into any amendment of any term of any currently
outstanding securities of Clarity or rights to acquire such
securities;
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purchase,
redeem or otherwise acquire or offer to redeem, purchase, or otherwise
acquire, directly or indirectly, any securities of
Clarity;
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cause,
permit or propose to adopt any amendments to Clarity’s charter
documents;
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adopt
or implement any stockholder rights plan, “poison pill,” or other
anti-takeover plan, arrangement or mechanism that, in each case,
is
applicable to ISCO or Merger Subsidiary or the transactions contemplated
by the Merger Agreement;
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acquire
or agree to acquire by merging or consolidating with, or by purchasing
any
equity or voting interest in or purchasing a material portion or
all of
the assets of, or by any other manner, any business or any person
or any
division thereof, or otherwise acquire or agree to acquire any
assets that
are or are expected to be material, individually or in the aggregate,
to
the business of Clarity, or solicit or participate in any negotiations
with respect to any of the
foregoing;
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enter
into, modify or amend in a manner materially adverse to Clarity,
or
terminate any material contract or waive, release or assign any
material
rights or claims thereunder, in each case, in a manner materially
adverse
to Clarity;
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enter
into any binding agreement, agreement in principle, letter of intent,
memorandum of understanding or similar agreement with respect to
any
material joint venture, strategic partnership or
alliance;
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sell,
lease, license, mortgage, pledge, encumber or otherwise dispose
of any
properties or assets except for the sale, lease, license, encumbrance
or
disposition of property or assets that are not material, individually
or
in the aggregate, to the business of Clarity, in each case, in
the
ordinary course of business and in a manner consistent with past
practices, including with respect to the terms and conditions of
any such
sale, lease, license, encumbrance or other
disposition;
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with
the exception of the Merger, adopt a plan of complete or partial
liquidation dissolution, merger, consolidation, recapitalization,
reorganization, or other restructuring of Clarity, or organize
or form any
subsidiary or similar entity over which Clarity will have
control;
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except
as required by the Merger Agreement, incur, assume or prepay any
indebtedness for borrowed money or assume, guarantee, endorse or
otherwise
become liable or responsible (whether directly, contingently or
otherwise)
for, any such indebtedness of another person, guarantee any debt
securities of another person, or enter into any arrangement having
the
economic effect of any of the foregoing, other than in connection
with the
financing of ordinary course trade payables consistent with past
practices;
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make
any payments, loans, extensions of credit or financing, advances
or
capital contributions to, or investments in, any other person,
other than
(i) employee loans, advances, or payments for bona fide travel
and
entertainment expenses reimbursement made in the ordinary course
of
business consistent with past practices or (ii) extensions of credit
or
financing to, or extended payment terms for, customers made in
the
ordinary course of business consistent with past
practices;
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sell,
transfer or lease any properties or assets (whether real, personal
or
mixed, tangible or intangible) to, or enter into any contract,
arrangement
or understanding with or on behalf of, any officer, director or
employee
of Clarity or any affiliate of any of Clarity, or any business
entity in
which Clarity or any such affiliate, or any relative of any such
person,
has any material, direct or indirect
interest;
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commit
any capital expenditure or expenditures in excess of $10,000 in
the
aggregate above the capital expenditures set forth in Clarity’s fiscal
2007 budget forecasts;
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except
as required by changes in GAAP or applicable law requirements,
and as
concurred by ISCO’s independent auditors, (i) make any change in Clarity’s
methods or principles of accounting or (ii) revalue any of Clarity’s
assets, including writing down the value of inventory or writing-off
notes
or accounts receivable;
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(i)
fail to file on a timely basis, including allowable extensions,
with the
appropriate governmental authorities, all tax returns required
to be
filed, (ii) fail to timely pay or remit (or cause to be paid or
remitted)
any taxes due in respect of such tax returns, (iii) adopt or change
any
accounting method in respect of taxes, (iv) enter into any agreement
or
arrangement, or settle or compromise any claim or assessment in
respect
of, taxes, or make or change any election with respect to taxes,
(v) file
any amended tax return or (vi) consent to any extension or waiver
of the
statutory period of limitations period applicable to any claim
or
assessment in respect of taxes;
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commence,
settle or compromise any pending or threatened legal proceeding,
or pay,
discharge or satisfy or agree to pay, discharge or satisfy any
claim,
liability, obligation (whether absolute, accrued, asserted or unasserted,
contingent or otherwise) by or against Clarity or relating to any
of its
businesses, properties or assets (whether real, personal or mixed,
tangible or intangible), other than the settlement, compromise,
payment,
discharge or satisfaction of legal Proceedings, claims or other
liabilities (i) reflected or reserved against in full in Clarity’s
financial statements or (ii) the settlement, compromise, discharge
or
satisfaction of which does not include any obligation (other than
the
payment of money) to be performed by Clarity following the effective
time
of the Merger and that does not involve the payment, individually
or in
the aggregate, of an amount exceeding
$10,000;
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except
as required by applicable law or any contract or agreement currently
binding on the Company, (i) adopt, amend, modify, or increase in
any
manner the amount of compensation or fringe benefits of, pay or
grant any
bonus, change of control, severance or termination pay to any officer,
employee or director of Clarity, (ii) adopt or amend in any manner,
any
Clarity benefit plan, including without limitation the Clarity
Phantom
Plan, (iii) fail to make any required contribution to any Clarity
benefit
plan, (iv) make any contribution, other than regularly scheduled
contributions, to any Clarity benefit plan, (v) authorize cash
payments in
exchange for any benefits or rights, (vi) allocate bonus awards
under a
Clarity benefit plan in a manner or amount not consistent with
past
practices, (vii) enter into or amend any employment agreement,
arrangement
or understanding with any employee or director or any indemnification
agreement or arrangement with any employee or director, (viii)
enter into
any collective bargaining or amend or extend any existing collective
bargaining agreement, or (ix) hire any employees or retain any
consultant
other than in the ordinary course of business consistent with past
practices or hire, elect or appoint any officers or
directors;
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(i)
grant any exclusive rights with respect to any Clarity intellectual
property, (ii) divest any Clarity intellectual property, except
if such
divestiture or divestures, individually or in the aggregate, are
not
material to Clarity, (iii) enter into any material contract, agreement
or
license that adversely affects, or could reasonably be expected
to
adversely affect, any patents or applications therefor, in each
case, of
Clarity or any of its affiliates, or (iv) abandon or permit to
lapse any
rights to any United States patent or patent
application;
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enter
into any contract, agreement, arrangement or understanding with
a customer
that contains any material non-standard terms, including but not
limited
to, non-standard discounts, provisions for unpaid future deliverables,
non-standard service requirements or future royalty payments, other
than
as is consistent with past
practices;
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enter
into any contract, arrangement or understanding to do any of the
foregoing
or authorize, recommend, take, commit, or agree in writing or otherwise
to
take, or announce an intention to take, any of the actions described
above, or any other action that results or is reasonably likely
to (i)
result in any of the conditions to the Merger set forth in the
Merger
Agreement not being satisfied, (ii) result in any representation
or
warranty of Clarity contained in the Merger Agreement that is qualified
as
to materiality becoming untrue or incorrect or any representation
or
warranty not so qualified becoming untrue or incorrect in any material
respect (provided that representations made as of a specific date
shall be
required to be so true and correct, subject to qualifications,
as of such
date only), (iii) prevent Clarity from performing, or cause Clarity
not to
perform, its covenants or agreements hereunder, or (iv) otherwise
materially impair the ability of Clarity to consummate the transactions
contemplated hereby in accordance with the terms hereof or materially
delay such consummation; or
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take,
or agree or fail to take, any action that would reasonably be expected
to
cause the Merger to fail to qualify as a reorganization pursuant
to
Section 368(a) of the Internal Revenue
Code.
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Clarity
has agreed that from and after the date of the Merger Agreement until the
earlier to occur of the termination of the Merger Agreement or the effective
time of the Merger, Clarity will not, nor will it authorize or knowingly
permit
any of its directors, officers or other employees, affiliates, or any investment
banker, attorney or other advisor or representative retained by it or any
of
them to, directly or indirectly, (i) solicit, initiate, knowingly encourage,
or
induce the making, submission or announcement of, an “Acquisition Proposal”,
(ii) furnish to any person any non-public information relating to Clarity
or
afford access to the business, properties, assets, books or records of Clarity
to any person (other than ISCO, Merger Subsidiary or any of their respective
designees) in connection with an Acquisition Proposal, (iii) participate
or
engage in discussions or negotiations with any person with respect to an
Acquisition Proposal (other than to notify such person as to the existence
of
these non-solicitation provisions), (iv) approve, endorse or recommend an
Acquisition Proposal, (v) enter into any letter of intent, memorandum of
understanding or other agreement, contract or arrangement contemplating or
otherwise relating to an Acquisition Proposal, or (vi) terminate, amend or
waive
any rights under any “standstill” or other similar agreement between Clarity and
any person (other than ISCO). Furthermore, Clarity has terminated any
and all pending discussions or negotiations relating to any Acquisition Proposal
and represents and warrants that it had the legal right to terminate such
negotiations without the payment of any fee or penalty or the incurrence
of any
continuing liability on Clarity’s behalf.
For
purposes of the Merger Agreement, “Acquisition Proposal” means, whether directly
or indirectly solicited or unsolicited by Clarity or Mr. Fuentes, any
offer,
proposal or any third party indication of interest or intent relating
to any
transaction or series of related transactions involving a merger, consolidation,
share exchange, business combination, sale of a majority or all the assets
of,
sale of shares of Clarity’s capital stock or similar transaction or any
combination of the foregoing involving Clarity (other than the transactions
contemplated by the Merger Agreement and the issuance of shares of capital
stock
pursuant to the Rights outstanding on the date of the Merger
Agreement).
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access
by ISCO to the business, properties, personnel and other information
of
Clarity prior to the closing of the
Merger;
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Clarity
maintaining the confidentiality of all non-public information of
Clarity
and ISCO and their respective
operations;
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consultations
between the parties with respect to any public statements regarding
the
Merger;
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obligations
to provide prompt notice to the other party of the
following:
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material
breaches of representations, warranties or covenants contained
in the
Merger Agreement;
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legal
proceedings that seek to prohibit or materially impair the consummation
of
the Merger and
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with
respect to Clarity, any material adverse
effect;
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ISCO
using its commercially reasonable efforts to cause its Common Stock
to be
issued or issuable pursuant to the Merger Agreement to be approved
for
listing on AMEX;
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ISCO
taking all action necessary to hold the Special
Meeting;
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ISCO
taking commercially reasonable efforts to file a registration statement
on
Form S-8 prior to the closing of the
Merger;
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Clarity
taking commercially reasonable efforts to obtain by December 1,
2007
acknowledgements and releases from the Rightsholders regarding
their share
allocations; and
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responsibilities
with respect to filing tax returns and allocations of
taxes.
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The
Merger Agreement may be terminated by either party upon the occurrence of any
of
the following events:
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the
mutual written consent of both us and
Clarity;
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by
either us or Clarity if the merger shall not have been consummated
by
January 31, 2008 with specified
exceptions;
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by
either us or Clarity upon specified adverse actions by governmental
authorities; or
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by
either us or Clarity if the special meeting of our stockholders is
held
but we do not obtain our Stockholders’ approval of the Merger Proposal,
the Charter Amendment and the Plan
Amendment.
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The
Merger
Agreement may be terminated by us upon the occurrence of any of the following
events:
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any
material adverse effect against Clarity;
and
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if
Clarity has breached any of its covenants of obligations under the
Merger
Agreement or if any of Clarity’s representations or warranties have become
untrue or incorrect and cannot be cured by the closing date, upon
certain
circumstances.
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The
Merger Agreement may be terminated by Clarity upon the occurrence of any of
the
following events:
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if
we or Merger Subsidiary have breached any of our covenants or obligations
under the Merger Agreement or if any of our representations or warranties
were untrue or incorrect and cannot be cured by the closing date,
upon
certain circumstances.
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58
ISCO,
its
officers, directors, employees, stockholders, advisers, agents, affiliates
(including the surviving corporation), successors, heirs, permitted assigns
and
representatives (each, an “ISCO Indemnified Party”) will be entitled to
indemnification in the event of losses resulting from, among other things,
breaches of Clarity’s representations and warranties, failure to perform
covenants under the Merger Agreement and Clarity tax obligations solely and
exclusively as provided in the Merger Agreement, other than for
fraud. ISCO Indemnified Party will not be entitled to indemnification
until the cumulative amount of all losses exceed $150,000, after which such
ISCO
Indemnified Party will only be entitled to any amounts that exceed
$150,000. For purposes of determining indemnification amounts, the
parties will give effect to applicable materiality and knowledge qualifiers
and
for purposes of indemnification for breaches of representations and warranties
in which materiality is readily quantifiable, materiality is defined as any
fact
or occurrence, or series of related facts and occurrences, with a dollar value
in excess of $20,000.
The
length of time in which to bring an indemnification claim and the amount by
which an ISCO Indemnified Party may be indemnified are subject to certain caps
as follows:
(i) for
breaches of representations (the “General Representations”) other than Two-Year
Representations or Three Year Representations (as those terms are defined
below), any losses entitling an ISCO Indemnified Party will be satisfied out
of
up to an aggregate of 2,000,000 Time-Based Shares. After the
Time-Based Shares that vest one year after Closing (the “First Time-Based
Shares”) are distributed, the ISCO Indemnified Parties will have no further
right to receive indemnification with respect to General Representations;
(ii)
ISCO
Indemnified Parties’ right to receive indemnification for breaches of
representations relating to due organization, no conflict with law, no conflict
with agreements, necessary consents and brokers (collectively, the “Two-Year
Representations”) will be satisfied out of the Time-Based Shares; provided that
(x) a portion of the First Time-Based Shares will also be available to satisfy
other indemnification rights of the ISCO Indemnified Parties, (y) once the
First
Time-Based Shares are distributed, the ISCO Indemnified Parties will have no
further right to use such First Time-Based Shares to satisfy indemnification
claims with respect to the Two-Year Representations, and (z) once the Time-Based
Shares are fully distributed, the ISCO Indemnified Parties will have no further
right to receive indemnification with respect to the Two-Year Representations;
(iii) ISCO
Indemnified Parties’ right to receive indemnification for (x) breaches of
representations relating to Clarity’s capitalization, authority, no conflict
with charter documents, and taxes, (y) claims by current and former security
holders, and (z) tax obligations will be satisfied first out of the Time-Based
Shares. If the Time-Based Shares are not sufficient to satisfy these
claims, Mr. Fuentes will be obligated to satisfy the remaining amounts of any
such claims (A) brought in the first year after closing of the Merger up to
an
aggregate liability equal to the lesser of $3,000,000 and 75% of Mr. Fuentes’
Share Value (as defined in the Merger Agreement) less the aggregate value of
Time-Based Shares already used to satisfy prior indemnification claims (the
“First Year Cap”), (B) brought in the second year after closing of the Merger up
to an aggregate liability equal to the lesser of $2,000,000 and 50% of Mr.
Fuentes’ Share Value less the aggregate value of Time-Based Shares already used
to satisfy prior indemnification claims (the “Second Year Cap”) and (C) brought
in the third year after closing of the Merger up to an aggregate liability
equal
to the lesser of $1,000,000 and 25% of Mr. Fuentes’ Share Value less the
aggregate value of Time-Based Shares already used to satisfy prior
indemnification claims (the “Third Year Cap”). If and to the extent
that any of the First Year Cap, the Second Year Cap or the Third Year Cap are
met, then ISCO Indemnified Parties will not be entitled to any further
indemnification.
“Share
Value” is defined in the Merger Agreement as the sum of (a) “Liquidated Value”
plus (b) “Held Value”. “Liquidated Value” is defined in the Merger
Agreement as the net (i.e. after taxes and commissions) proceeds received by
Mr.
Fuentes from the sale of any Shares actually received by him in connection
with
the Merger. “Held Value” is defined in the Merger Agreement as the
value of Shares actually received by Mr. Fuentes in that he holds at the time
of
the indemnification claim, as valued based on the average 10-day closing price
for the Shares at the time the claim was finally resolved and paid.
The
Merger Agreement may be amended or waived in writing and signed by all parties
to the agreement either before or after its approval by ISCO
stockholders. However, the Merger Agreement may not be amended after
its approval by ISCO stockholders if, under applicable law, such amendment
would
require further approval by ISCO stockholders, unless such approval is obtained.
59
Pursuant
to the Merger Agreement, Mr. Fuentes was appointed, authorized and empowered
to
act as the representative of the Rightsholders in connection with, and to
facilitate the consummation of the Merger and the other transactions
contemplated thereby. The authority of the representative will
include the power and authority to (a) take all action necessary in connection
with the defense, payment and/or settlement of any claims for indemnification
pursuant to the Merger Agreement, (b) take such actions and to execute and
deliver such amendments, modifications, waivers and consents in connection
with
the Merger Agreement and the other transactions contemplated thereby as the
representative, in his reasonable discretion, may deem necessary or desirable
to
give effect to the intentions of the Merger Agreement, (c) give and receive
all
notices required to be given under the Merger Agreement, (d) take any and all
additional action as is contemplated to be taken by the representative by the
terms of the Merger Agreement and (e) take all actions necessary or appropriate
in the judgment of the representative for the accomplishment of any of the
foregoing. The representative will receive no compensation for his
services as the representative, however the reasonable costs and expenses of
the
representative in addressing indemnification or other matters on behalf ot
he
Rightsholders will be reimbursed by using Time-Based Shares up to an aggregate
value of $10,000.
The
reasonable costs and expenses of the Representative in addressing
indemnification or other matters on behalf of the Rightsholders will be
reimbursed by using Time-Based Shares up to an aggregate value of
$10,000. Otherwise, each party to the Merger Agreement will bear its
own costs and expenses in connection with the Merger.
In
connection with the Merger, ISCO intends to enter into certain other transaction
documents, including employment and registration rights agreements with Mr.
Fuentes. Pursuant to the proposed employment agreement, Mr. Fuentes
will report to ISCO’s Chief Executive Officer (“CEO”) to assist the CEO in the
coordination and integration of the surviving corporation’s operations with the
combined entity and perform such other duties as the CEO may assign to Mr.
Fuentes. During the term of the employment agreement, Mr. Fuentes’
base salary will be $240,000 per year. The term of the employment
agreement is for two years; provided, however, that upon the eighteen-month
anniversary of the start of his employment and each day thereafter, the term
of
the agreement will be extended for one additional day unless and until ISCO
provides written notice to Mr. Fuentes that such extension will not
occur. If Mr. Fuentes’ employment ceases due to a termination by ISCO
other than for Cause or by Mr. Fuentes for Good Reason (as those terms are
defined in the employment agreement), then subject to Mr. Fuentes’ compliance
with certain covenants, Mr. Fuentes will receive (i) monthly severance payments
equal to 1/12th of his annual base salary for the lesser of: (x) three months
or
(y) the number of whole months remaining in the term of the agreement as of
the
date of his termination and (ii) any accrued but unpaid base salary and any
accrued but unused vacation as of the date of Mr. Fuentes’
termination. Mr. Fuentes will continue to serve on ISCO’s Board at
least for the remainder of his term as director. A copy of the form
of employment agreement is attached as Exhibit B to the Merger Agreement,
which is attached to this Proxy Statement as Appendix
A.
In
addition,
ISCO intends to enter into a registration rights agreement with Mr. Fuentes
and
certain Clarity Rightsholders pursuant to which ISCO will agree to register
the
Shares they receive in connection with the Merger for resale under the
Securities Act, on a Registration Statement on Form S-3, or other available
form, to be filed by ISCO within 30 days after the closing of the Merger,
subject to certain conditions. A copy of the form of registration
rights agreement is attached as Exhibit C to the Merger Agreement, which
is attached to this Proxy Statement as Appendix
A.
The
affirmative vote of the holders of a majority of the shares of Common Stock
present in person or represented by proxy and entitled to vote on the Merger
Proposal is required for approval of this proposal.
Our
Board of Directors recommends a vote “FOR” the approval of the Merger Proposal.
60
TO
INCREASE THE NUMBER OF AUTHORIZED SHARES
The
Board
of Directors has adopted a resolution approving and recommending to the
Company’s stockholders for their approval, a proposal to amend (the “Charter
Amendment”) the Company’s certificate of incorporation (the “Certificate of
Incorporation”) to increase the number of authorized shares the Company is
permitted to issue to 500,000,000 shares of Common Stock. The
Certificate of Incorporation currently permits the Company to issue up to
250,000,000 shares of Common Stock. The Charter Amendment is
necessary to provide us with sufficient shares of Common Stock to issue up
to
the 40,000,000 shares of Common Stock issuable in connection with the Merger
described in the Merger Proposal above and up to the 58,492,461 shares of Common
Stock issuable upon conversion the Amended and Restated Notes in connection
with
our June 2007 debt restructuring described in the Note Issuance Proposal
below. In addition, the Charter Amendment will provide us with
additional shares of Common Stock to use for general corporate
purposes. A copy of the full text of the Charter Amendment is
attached to this Proxy Statement as Appendix
C.
It
is
important to the Company’s future that the amendment to the Certificate of
Incorporation be approved. Without the approval of the Charter
Amendment, the Company will not be able to complete the Merger or issue shares
of Common Stock upon conversion of the Amended and Restated
Notes. Stockholders are urged to consider the following:
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Approval
of the proposed Charter Amendment will allow the Company to use
its Common
Stock to undertake future financings and pursue strategic business
opportunities, including the Merger with Clarity. The Board of
Directors believes that the flexibility to engage in such transactions
is
essential to the Company’s growth and viability;
and
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Equity-based
compensation is a key aspect of the Company’s hiring and retention
strategy. The additional shares of capital stock authorized by
the proposed Charter Amendment may be used by the Company to attract
and
retain qualified directors, officers and other
employees.
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As
of
November 30, 2007, there were 250 million shares of Common Stock authorized
for
issuance under the Certificate of Incorporation, of which approximately 201
million shares of Common Stock were issued and outstanding. In
addition, as of such date, not including any shares of Common Stock issuable
pursuant to the Merger or to the Note Issuance, there were 13,752,351 shares
of
Common Stock reserved for issuance as follows:
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4,871,643
authorized but unissued shares of Common Stock have been reserved
for
future issuance upon exercise of outstanding options;
and
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8,880,708
shares of Common Stock are reserved for issuance under the Plan
pursuant
to future awards.
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In
June
2007, the Company entered into an agreement with its Lenders to restructure
the
Company’s outstanding debt. At the time of the restructuring, the
Company owed the Lenders $10.2 Million in principal and accrued
interest. Pursuant to the restructuring, all then outstanding notes
issued to the Lenders were amended and restated (the “Amended and Restated
Notes”) into notes convertible into shares of our Common Stock. As
part of our obligations under the Amended and Restated Notes, we are obligated
to seek stockholder approval to amend our Certificate of Incorporation to
increase our authorized capital stock because we did not then have enough
shares
of Common Stock authorized for issuance if the Lenders converted the Amended
and
Restated Notes.
Assuming
the Amended and Restated Notes are not converted until maturity, approximately
58,492,461 shares of Common Stock would be required to be issued upon
conversion, for both principal and interest. This amount represents
approximately 28% of the approximately 201 million shares of Common Stock
currently issued and outstanding and would be approximately 19% of our Common
Stock on a fully-diluted basis if we issue all of the Shares issuable in
connection with the Merger.
Failure
to approve the Charter Amendment could have a material adverse effect on
the
Company. The terms of the restructuring provide that if the Company
does not increase its authorized capital stock by June 26, 2008, the interest
rate on the Amended and Restated Notes will increase to an annual rate of
15%. Further, obtaining approval of the Charter Amendment is a
precursor to being able to register the shares issuable upon conversion (the
“Conversion Shares”) of the Amended and Restated Notes for resale under the
Securities Act. If we are unable to register the Conversion Shares by
the 15 month anniversary of the issuance date of the Amended and Restated
Notes,
the then-current interest rate will increase by a rate of 1% per annum each
month thereafter until the Conversion Shares are registered, up to the default
rate of the lower of 20% per annum or the highest amount permitted by
law. If we are unable to issue the Conversion Shares, then we will
need to be able to repay the Amended and Restated Notes, including all accrued
but unpaid interest thereon, upon maturity. There is no assurance
that we will have sufficient cash resources to repay the Amended and Restated
Notes in such circumstance. Further, if the Note Issuance is not
approved, as a result of the failure to approve the Charter Amendment or
otherwise, our ability to secure the $1.5 million of additional financing
required by the Merger Agreement may be adversely affected.
In
addition, if stockholders do not approve the Charter Amendment we will not
be
able to complete the Merger. Further, without the Charter Amendment,
the Company does not have enough authorized shares of Common Stock available
for
issuance in connection with future business purposes, including future financing
transactions, acquisitions, strategic business alliances and equity incentive
awards for our employees. Approval of the Charter Amendment will
provide the Company with the flexibility to consummate potential financings
or
strategic business opportunities involving the issuance of additional shares
of
Common Stock, or securities convertible into shares of Common Stock, in a timely
manner and to take advantage of other favorable financial or strategic business
opportunities. If the Company’s stockholders fail to approve the
Charter Amendment, the Company will be limited in its ability to act promptly
with respect to potential financing or strategic business opportunities when
such opportunities are presented.
The
additional shares of Common Stock (other than the shares described above that
have been reserved for issuance) may be issued, subject to certain exceptions,
by the Board of Directors at such times, in such amounts and upon such terms
as
the Board of Directors may determine without further approval of the
stockholders. Stockholders will not realize any dilution in their
percentage of ownership of our Company or their voting rights as a result of
the
foregoing change.
However,
issuances of significant numbers of additional shares of Common Stock in
the
future, such as pursuant to the Merger and/or the Note Issuance, (i) will
dilute
stockholders’ percentage ownership of our Company and, (ii) if such shares are
issued at prices below what current stockholders paid for their shares, may
dilute the value of current stockholders’ shares. If the Proposal is
approved, it will become effective upon filing a certificate of amendment
to our
certificate of incorporation with the Secretary of State of the State of
Delaware.
The
affirmative vote of the holders of a majority of the shares of Common Stock
present in person or represented by proxy and entitled to vote on the Charter
Amendment is required for approval of this proposal.
Our
Board of Directors recommends a vote “FOR” the approval of the Charter
Amendment.
FOR
DISTRIBUTION UNDER THE 2003 EQUITY INCENTIVE PLAN
Stockholders
are being asked to approve an amendment (the “Plan Amendment”) to ISCO’s 2003
Equity Incentive Plan, as amended, (the “Plan”), which was adopted, subject to
stockholder approval, by the Board of Directors to increase the number of shares
of Common Stock reserved for issuance under the Plan to 43,398,673 shares of
Common Stock for which options and stock grants may be granted under the Plan.
Pursuant
to
Rule 711 of the AMEX Company Guide, the Company is required to obtain the
consent of the Stockholders prior to amending the Plan to increase the number
of
shares available for issuance. The Board approved an amendment to the
Plan to fix the number of shares reserved under the Plan at 43,398,673 shares,
subject to stockholder approval. By approving this Plan
Amendment Proposal, we would be able to issue to current employees of Clarity,
who will become employees of our Company after the Merger, registered shares
of
our Common Stock on a Form S-8, as satisfaction of the Shares issuable to such
employees in connection with the Merger. Without the approval of the
Plan Amendment, we will not be able to issue shares of Common Stock registered
under the Securities Act, to the Rightsholders of Clarity who are expected
to
become employees of the combined company following the Merger. An
exemption from registration for the issuance of such shares may not be available
in that event. In addition, if the Plan Amendment is approved, we
will be able to issue the portion of the consideration in connection with the
Merger to such new employees of ISCO pursuant to terms and conditions governed
by the Plan.
The
Company believes that its growth and long-term success depend in large part
upon
attracting, retaining and motivating key personnel, and that such retention
and
motivation can be achieved in part through the grant of stock-based
awards. The Company also believes that stock-based awards will play
an important role in our success by encouraging and enabling the directors,
officers and other employees of the Company, upon whose judgment, initiative
and
efforts the Company depends, to acquire a proprietary interest in the Company’s
long-term performance. The Company anticipates that providing these
persons with a direct stake in the Company will ensure a closer identification
of the interests of the participants in the Plan with those of the Company,
thereby stimulating the efforts of these participants to promote our future
success and strengthen their desire to remain with the Company.
The
following is a summary of the material terms and conditions of the Plan, as
proposed to be amended, and is qualified in its entirety by the provisions
contained in the Plan, as amended, a copy of which is attached to this Proxy
Statement as Appendix D.
The
proposed Plan amendment to the Plan would fix the number of shares of Common
Stock for which options or stock grants can be granted under the Plan at
43,398,673 (47,011,468 if one were to include those shares granted under the
predecessor 1993 Plan). Prior to the proposed amendment, the maximum
number of shares that could be issued under the Plan was
28,398,673. The proposed Plan Amendment would help the Company to
continue to realize the purpose for which the Plan was adopted, especially
in
regards to attracting and retaining key personnel needed for the integration
of
Clarity’s business with ours. The proposed amendment would also
permit us to issue shares of Common Stock pursuant to the Merger Agreement
that
are registered under the Securities Act and upon terms and conditions governed
by the Plan. Extending the Plan to those employees joining the
Company pursuant to the Clarity Merger for possible future grants also aligns
their interests in the success of the Company with ours. The text of
the Plan Amendment is as follows:
“(a)
Shares Subject to the Plan. The Shares to be subject to or
related to Awards under the Plan will be authorized and unissued Shares of
the
Company, whether or not previously issued and subsequently acquired by the
Company. The maximum number of Shares that may be subject to Options
or Restricted Shares under the Plan is 38,398,673, plus an additional number
of
Shares not to exceed 5,000,000, which additional number will be equal to the
number of Shares subject to options granted under the ISCO International,
Inc. Amended and Restated 1993 Stock Option Plan that expire, are
forfeited, or are cancelled after the date of the Company’s 2005 Annual
Meeting. The Company shall reserve for purposes of the Plan out of
its authorized and unissued Shares that total number of Shares. No
Participant may receive an award of Options or SARs under the Plan with respect
to more than 2,000,000 Shares in any calendar year.”
The
following table shows the amounts that will be received by or allocated
to each
of the following under the Proposal being acted upon:
New
Plan Benefits
ISCO
INTERNATIONAL 2003 EQUITY
INCENTIVE
PLAN
|
Name
and Position
|
Dollar
Value ($)(1)
|
Number
of Units(2)
|
|||||
|
Ralph
Pini (Interim Chief Executive Officer)
|
$
|
—
|
(3)
|
—
|
|||
|
Executive
Group(4)
|
—
|
—
|
|||||
|
Non-Executive
Director Group(5)
|
—
|
(5)
|
—
|
(5)
|
|||
|
Non-Executive
Officer Employee Group(3)
|
—
|
—
|
|||||
|
(1)
|
The
value of an award is based on the closing price of the Company’s Commons
Stock on AMEX on the date of grant.
|
|
(2)
|
The
number of shares of restricted Common Stock that the listed persons
may
receive may be subject to certain time-based and market
capitalization-based requirements.
|
|
(3)
|
The
Compensation Committee of the Board of Directors has indicated
its intent
to grant Mr. Pini the equivalent of $500 per week in restricted
stock upon
the conclusion of his service as Interim Chief Executive
Officer.
|
|
(4)
|
Awards
under the Plan are discretionary and no awards are currently
planned with
respect to any other employee or director, other than awards
pursuant to
the non-employee director compensation policy described below
and
elsewhere in this Proxy Statement. Therefore, new plan benefits
to anyone are not determinable.
|
|
(5)
|
Pursuant
to the Company’s Non-Employee Director compensation policy, Non-Employee
Directors will receive on an annual basis, in addition to certain
cash
payments, a grant of 25,000 restricted shares of the Company’s common
stock for service on the Board, a grant of 12,500 restricted
shares of
common stock for service as the chairman of the Board of Directors
or one
of the Board’s three committees, and a grant of 7,500 restricted shares of
Common Stock for service on a Board committee. Awards for
service in 2007 have already been made and no new awards are
expected to
existing members of the Board until the next Annual Meeting of
Stockholders.
|
In
addition, if all time and market capitalization milestones in connection
with
the contingent consideration issuable in the Merger are issued, the Clarity
Rightsholders who become employees of ISCO will receive an aggregate of
13,132,991 shares of Common Stock.
The
maximum number of shares of Common Stock with respect to which awards may
be
made under the Plan is currently 32,011,468. In the event of any
stock split, reverse stock split, stock dividend, recapitalization,
reclassification or other similar event, adjustments may be made in the
Board’s
discretion to the number of shares reserved for issuance under the Plan
and to
the number, kind and price of shares covered by outstanding
awards. Shares subject to forfeited, cancelled or expired awards
granted under the Plan will again become available for issuance under the
Plan. In addition, shares surrendered in payment of any exercise
price or in satisfaction of any withholding obligation arising in connection
with an award granted under the Plan will again become available for issuance
under the Plan.
Administration
The
Board
may administer the Plan either directly or through appointment of a committee
of
two or more Non-Employee Directors. Presently, the Compensation
Committee of the Board administers the Plan. The Board or the
appointed committee interprets the Plan, selects award recipients, determines
the number of shares subject to each award and establishes the price, vesting
and other terms of each award. While there are no predetermined
performance formulas or measures or other specific criteria used to determine
recipients of awards under the Plan, awards are based generally upon
consideration of the grantee’s position and responsibilities, the nature of
services provided, the value of the services to us, the present and potential
contribution of the grantee to our success, the anticipated number of years
of
service remaining and other factors which the Board or the appointed committee
deems relevant.
The
number of currently eligible participants in the Plan is approximately
53. if the Merger is consummated, it is expected that the total
number of persons eligible to participate in the Plan will be
approximately 96.
The
Plan
has no specified term, although incentive stock options will not be granted
more
than 10 years after the most recent increase in the number of shares subject
to
the Plan.
The
Plan
permits the grant of incentive stock options to our employees and the employees
of our subsidiaries. The Plan also provides for the grant of
non-qualified stock options to our employees, directors, and consultants and
other individuals who perform services for us (as well as to employees,
directors, consultants and service providers of our
subsidiaries). The exercise price of any incentive stock options
granted under the Plan may not be less than 100% of the fair market value of
our
Common Stock on the date of grant. Options granted under the Plan may
be exercised by payment in cash, through an exchange for shares of Common Stock
owned by the option holder for more than six months, that have a fair market
value on the date of exercise equal to the option exercise price or through
such
other means as the Board or the appointed committee may accept.
Under
the
Plan, each option is exercisable at such time and to such extent as specified
in
the pertinent option agreement between the Company and the option
recipient. However, no option shall be exercisable with respect to
any shares of Common Stock more than ten years after the date of grant of such
award. Unless otherwise specified by the Board or the appointed
committee with respect to a particular option, all options are non-transferable,
except upon death.
Upon
or
in anticipation of a change of control of the Company, the Board or the
appointed committee, may: (i) cause outstanding options to become immediately
exercisable, (ii) provide for the cancellation of options in exchange for
comparable options to purchase shares in a successor corporation, and/or (iii)
provide for the cancellation of options in exchange for a cash and/or other
substitute consideration.
The
Plan
also provides for the grant of stock appreciation rights, either alone or in
tandem with stock options. A stock appreciation right entitles its
holder to a cash payment of the excess of the fair market value of our Common
Stock on the date of exercise, over the fair market value of our Common Stock
on
the date of the grant. A stock appreciation right issued in tandem
with a stock option will have the same term as the stock option. The
term of a stock appreciation right granted alone, without an option, will be
established by the Board or the appointed committee, in the award agreement
governing the stock appreciation right.
Upon,
or
in anticipation of a change of control of the Company, the Board or the
appointed committee, may: (i) cause outstanding stock appreciation rights to
become immediately exercisable, and/or (ii) provide for the cancellation of
stock appreciation rights in exchange for a cash and/or other substitute
consideration.
The
Plan
also provides for the grant of restricted shares. Restricted shares
are shares of our Common Stock issued to an individual that will be forfeited
if
certain vesting conditions established by the Board or the appointed committee
at the time of grant (such as a specified period of continued employment or
the
fulfillment of specified individual or corporate performance goals) are not
met. Restricted shares may be sold under the Plan (at their full
value or at a discount), or may be granted solely in consideration for
services.
Upon,
or
in anticipation of an event of a change of control of the Company, the Board
or
the appointed committee may: (i) cause restrictions on restricted shares to
lapse, (ii) cancel restricted shares in exchange for restricted shares of a
successor corporation, and/or (iii) redeem restricted shares for cash or other
substitute consideration.
The
Board
may amend, alter or discontinue the Plan at any time, but, for certain actions
with respect to a change in control of the Company, no amendment, alteration
or
discontinuation will be made which would impair the rights of a participant
with
respect to an award under the Plan, without such participant’s consent, or
which, without the approval of such amendment within one year (365 days) of
its
adoption by the Board, by a majority of the votes cast at a duly held
stockholder meeting at which a quorum representing a majority of the Company’s
outstanding voting shares is present (either in person or by proxy), would:
(i)
increase the total number of shares reserved for the purposes of the Plan
(except for certain event of any recapitalization, stock split or combination,
stock dividend or other similar event or transaction affecting the shares),
or
(ii) change the persons or class of persons eligible to receive equity awards
under the Plan.
The
following summary of tax consequences with respect to stock options, stock
appreciation rights and restricted shares that may be granted under the Plan
is
not comprehensive and is based upon laws and regulations in effect on the date
of this proxy. Such laws and regulations are subject to
change.
Stock
options granted under the Plan may be either incentive stock options intended
to
qualify under Section 422 of the Code (“ISOs”) or non-qualifying stock options
(“NQSOs”). There are generally no federal income tax consequences
either to the option holder or to the Company upon the grant of a stock
option. On exercise of an ISO, the option holder will not recognize
any income, and the Company will not be entitled to a deduction for tax
purposes, although such exercise may give rise to liability for the option
holder under the alternative minimum tax provisions of the Internal Revenue
Code. Generally, if the option holder disposes of shares acquired
upon exercise of an ISO within two years of the date of grant or one year of
the
date of exercise, the option holder will recognize ordinary income and the
Company will then be entitled to a tax deduction equal to the excess of the
fair
market value of the shares on the date of exercise over the option exercise
price (or the gain on sale, if less). Otherwise, the Company will not
be entitled to any tax deduction upon disposition of such shares, and the entire
gain realized by the option holder will be treated as a long term capital
gain.
On
exercise of a NQSO, the amount by which the fair market value of the shares
on
the date of exercise exceeds the option exercise price will generally be taxable
to the option holder as ordinary income and will generally be deductible by
the
Company.
Under
federal tax law, there are generally no federal income tax consequences to
an
employee of the Company due to the grant of stock appreciation
rights. The employee will generally recognize ordinary income upon
exercise of a stock appreciation right in an amount equal to the amount of
cash,
or the fair market value of the shares (determined at the time of exercise),
the
employee receives upon exercise.
Under
federal tax law, in the absence of an election made under section 83(b) of
the
Internal Revenue Code, there are generally no federal income tax consequences
to
an employee of the Company due to the grant of restricted shares. The
employee will generally recognize ordinary income upon the date on which the
shares are no longer subject to a substantial risk of forfeiture. The
amount of income recognized by the employee will be equal to the excess of
the
fair market value of the shares on the date on which they are first free from
the substantial risk of forfeiture over the amount, if any, the employee paid
for the shares. The Company will be entitled to a deduction in the
same amount at that time. The employee will have a basis in the
shares equal to the amount, if any, he or she paid for the shares plus the
amount of income he or she recognized in respect of the shares. The
later disposition of restricted shares will generally result in a capital gain
or loss for the employee. Such a disposition will have no tax
consequences for the Company.
The
tax
treatment of restricted shares is different if the employee makes an election
under section 83(b) of the Internal Revenue Code with respect to the restricted
shares. If an employee makes such an election, he will recognize
compensation income, and the Company will be entitled to a deduction at the
time
the employee receives the restricted shares, even though the shares remain
subject to a substantial risk of forfeiture. The amount of income to
be recognized by the employee, and deducted by the Company, will be the excess
of the fair market value of the restricted shares determined at the time of
the
employee’s receipt of the shares, (without regard to the restrictions to which
the shares are subject), over the amount, if any, the employee paid for the
shares. The employee will have a basis in the shares equal to the sum
of the amount of income recognized in respect of the shares plus the amount,
if
any, the employee paid for the shares. The subsequent vesting or
forfeiture of restricted shares with respect to which an 83(b) election has
been
made will have no tax consequence for the Company or the employee. An
election under section 83(b) must be made by the employee no later than 30
days
after the employee first receives the restricted shares.
Section
162(m) of the Internal Revenue Code limits the deductibility of compensation
in
excess of $1,000,000 paid to the chief executive officer of the Company or
to one of the next-four highest paid executive officers of the Company, unless
the excess compensation is considered to be
“performance-based”. Among other requirements contained in Section
162(m), the material terms of a compensation plan in which such officers
participate, including the number of shares available for grant and the number
of shares that may be issued to one person, must be approved by stockholders
for
awards or compensation provided under the plan to be considered
“performance-based”. The Company intends that its deductions for
amounts paid pursuant to ISOs, NQSOs and stock appreciation rights granted
under
the Plan will not be limited by Section 162(m) because such awards qualify
as
performance-based compensation. However, restricted shares awarded
under the Plan may not qualify as performance-based compensation for purposes
of
162(m) and therefore, may be subject to the limits of
Section 162(m).
The
following table gives information about the Company’s Common Stock that may be
issued upon the exercise of options, warrants and rights under the Company’s
1993 Plan and under the 2003 Equity Incentive Plan as of November 30,
2007. The table does not include the additional shares requested for
issuance under the Plan in this Plan Amendment Proposal.
|
Plan
Category
|
Number
of Securities
to
be issued upon exercise
of
outstanding Options,
warrants
and rights
|
Weighted-average
exercise
price of
outstanding
options,
warrants
and rights
|
Number
of Securities
remaining
available for
future
issuance under
equity
compensation
plans
(excluding securities
reflected
in second
column)
|
|||||
|
Equity
compensation plans approved by security holders
|
7,529,768
|
$
|
0.37
|
8,880,780
|
(1)
|
|||
|
Equity
compensation plans not approved by security holders
|
1,100,000
|
0.43
|
—
|
(2)
|
||||
|
Total
|
8,629,768
|
$
|
0.38
|
8,880,708
|
(1)
|
|||
|
(1)
|
The
1993 Plan terminated in August 2003 and was replaced by the
Plan. At the Annual Meeting of Stockholders held December 2005,
the Company’s stockholders voted to approve the allocation of 12 million
shares of Common Stock to the plan, included above, and also clarified
the
use of up to 5 million shares in the Plan that were allocated to
the 1993
Plan but were ultimately unused.
|
|
(2)
|
These
securities represent shares of Common Stock issuable upon exercise
of
stock options granted to John Thode pursuant to a letter agreement
dated
January 6, 2006. Such options were issued outside the
Plan.
|
The
affirmative vote of the holders of a majority of the shares of Common Stock
present in person or represented by proxy and entitled to vote on the Plan
Amendment is required for approval of this proposal.
Our
Board of Directors recommends that you vote “FOR” the approval of the Plan
Amendment.
On
June
26, 2007, the Company, Manchester, Alexander, Spectral Solutions, Inc. and
Illinois Superconductor Canada Corporation entered into an amendment to the
November 10, 2004 Third Amended and Restated Loan Agreement, as amended, with
corresponding amendments to the Fourth Amended and Restated Guaranties and
the
Fourth Amended and Restated Security Agreement and notes issued by the Company
in favor of the Lenders (the “Notes” and together with the Third Amended and
Restated Loan Agreement, the Fourth Amended and Restated Guaranties and the
Fourth Amended and Restated Security Agreement, the “Loan Documents”) in
conjunction with the restructuring of the Notes (the
“Restructuring”). The transaction was conducted pursuant to Section
3(a)(9) of the Securities Act, as amended (the “Securities Act”). Pursuant
to Rule 713 of the AMEX Company Guide, we are seeking the approval of our
stockholders for the issuance of up to 58,492,461 shares of Common Stock
issuable upon conversion of the Amended and Restated Notes, plus any
additional shares of Common Stock issuable upon conversion as a result of
certain anti dilution adjustments.
The
Company issued amended and restated Notes (the “Amended and Restated Notes”) in
an aggregate principal amount, including accrued interest on the Notes, of
approximately $10.2 Million to replace all of the existing Notes under the
Company’s line of credit arrangement and reflect the amendments to the Loan
Documents, including: (i) the extension of the termination dates and maturity
dates for all the Notes from August 1, 2007 to August 1, 2009; (ii) the
reduction of the interest rate on each of the Notes from 9% to 7% per annum;
(iii) provision for the conversion of the aggregate principal amount outstanding
on each of the Amended and Restated Notes at the election of the Lenders,
together with all accrued and unpaid interest thereon into shares (the
“Conversion Shares”) of the Company’s Common Stock at an initial conversion
price of $0.20 per share. In addition, pursuant to the amendments to
the Loan Documents, each of Manchester and Alexander has immediately converted
$750,000 in principal amount and accrued interest outstanding under the Notes
each lender held prior to the Restructuring, into 8,333,334 shares (the “Initial
Conversion Shares”) of Common Stock at a conversion price of $0.18, the 10 day
volume weighted average closing price of the Company’s Common Stock on the AMEX
as of June 21, 2007.
Before
the Lenders may exercise their respective rights to convert the Amended and
Restated Notes into the Conversion Shares, the Company is required to seek
the
approval of its stockholders to (i) increase the number of authorized shares
of
Common Stock available for issuance under its Certificate of Incorporation,
as
amended and (ii) approve the issuance of the Conversion Shares pursuant to
Rule
713 of the AMEX Company Guide as well as to obtain the approval of AMEX to
list
the Initial Conversion Shares and the Conversion Shares on AMEX. The
Company is required to obtain these approvals within one year of the issuance
date of the Amended and Restated Notes. In the event that these
required approvals are not obtained by that time, then the interest rate on
the
Amended and Restated Notes will increase to a rate of 15% per
annum. Pursuant to the Registration Rights Agreement, as described
below, if the Initial Conversion Shares and Conversion Shares are not registered
for resale under the Securities Act by the 15 month anniversary of the issuance
date of the Amended and Restated Notes, then the then-current interest rate
will
increase by a rate of 1% per annum each month thereafter until the Initial
Conversion Shares and Conversion Shares are registered, up to the default rate
of the lower of 20% per annum or the highest amount permitted by
law. If we are required to repay the Amended and Restated Notes in
cash at maturity, we may not have sufficient cash resources to do so, which
would result in a default on the Amended and Restated Notes. Further,
if the Note Issuance is not approved, our ability to secure the $1.5 million
of
additional financing required by the Merger Agreement may be adversely
affected.
The
conversion rate of the Amended and Restated Notes is subject to customary
anti-dilution protections, which could increase the number of shares issuable
upon conversion. The Amended and Restated Notes do not contain market
or trading-based ratchet or reset provisions. The Company has the
right to redeem the Amended and Restated Notes in full in cash at any time
beginning June 26, 2009.
The
Amended and Restated Notes are secured on a first priority basis by all of
the
Company’s intangible and tangible property and assets. Payment of the
Amended and Restated Notes is guaranteed by the Company’s two subsidiaries,
Spectral Solutions, Inc. and Illinois Superconductor Canada
Corporation.
In
connection with the Restructuring, the Company entered into a Registration
Rights Agreement with Manchester and Alexander. Pursuant to the
Registration Rights Agreement, the Company is required to file a registration
statement under the Securities Act covering the resale of the shares of Initial
Conversion Shares and the Conversion Shares with the Securities and Exchange
Commission within 30 days after both of the stockholders’ approvals and AMEX
approval have occurred. The Registration Rights Agreement contains
customary covenants, including registration delay payments, in addition to
certain interest rate increases under the Amended and Restated Notes, under
certain events, for failing to maintain the effectiveness of a registration
statement covering the resale of the Initial Conversion Shares and the
Conversion Shares.
Assuming
the Amended and Restated Notes are not converted until maturity, approximately
58,492,461 shares of Common Stock would be required to be issued upon
conversion, for both principal and interest. This amount is
approximately 27.9% of the approximately 201,000,000 shares of Common Stock
currently issued and outstanding as of November 30, 2007. As of
November 30, 2007, the Lenders, including their affiliates, beneficially owned
in the aggregate approximately 106,492,839, or 48%, of the Company’s outstanding
shares, including the Initial Conversion Shares. As a result of this
transaction, the combined holdings of the Lenders would be approximately 60%
of
the outstanding Common Stock as of November 30, 2007 on a fully converted basis
(excluding the Shares issuable in conjunction with the Merger). The number
of
shares issuable upon conversion of the Amended and Restated Notes is subject
to
certain anti-dilution adjustments, which may increase the number of shares
issuable upon conversion.
Copies
of
the full text of the amendments to the Loan Documents, the Registration Rights
Agreement and the Amended and Restated Notes are attached as to exhibits 10.1
to
10.10 to the Company’s Quarterly Report on Form 10-Q for the quarter ended
September 30, 2007, which is attached to the Proxy Statement as Appendix E.
The
Lenders, to whom the shares would be issued upon conversion of the Amended
and
Restated Notes, each own in excess of 5% of the issued and outstanding shares
of
the Company and are considered affiliates of the Company. Pursuant to
Rule 713 of the AMEX Company Guide, stockholder approval is required before
the
Company can issue stock upon the conversion of the Amended and Restated Notes
as
described above. In addition, as a result of their current combined
ownership of the Company’s outstanding Common Stock, if all shares of Common
Stock issued and outstanding as of November 30, 2007 vote on the Note Issuance,
a total of approximately 13,500,001 shares of Common Stock, or 6.7% of the
number of shares of Common Stock issued and outstanding as of November 30,
2007,
will be required to approve the Note Issuance.
The
Company’s current stockholders will suffer a dilution of voting rights and
tangible book value per share of the Common Stock as the result of any such
issuance of Common Stock upon conversion of the Amended and Restated
Notes. The extent of dilution of voting rights and the per share book
value will depend on the number of shares issued. However, the
ability to issue shares of Common Stock upon the Conversion of the Amended
and
Restated Notes will allow the Company to use its cash resources for other
purposes rather than for repayment of principal and interest on the Amended
and
Restated Notes.
The
affirmative vote of the holders of a majority of the shares of Common Stock
present in person or represented by proxy and entitled to vote on the Note
Issuance is required for approval of this proposal.
Our
Board of Directors recommends that you vote FOR the approval of the Note
Issuance.
AND
RELATED STOCKHOLDER MATTERS
At
the
close of business on the ISCO record date, directors and executive officers
of
ISCO and their affiliates collectively, beneficially owned approximately
6,141,702 shares of issued and outstanding Common Stock, collectively
representing approximately 3.0% of the shares of Common Stock outstanding on
that date. In addition, ISCO’s two largest stockholders together
beneficially own approximately 106,492,839 shares of Common Stock, or 48%
of the shares of Common Stock outstanding on that date. The
affirmative vote of a majority of the shares of Common Stock present, in person
or represented by proxy at the Special Meeting and entitled to vote on the
matter is required to approve each of the Proposals.
The
first
table below sets forth information regarding the beneficial ownership of Common
Sock as of November 30, 2007 prior to the Merger, except as otherwise indicated
in the relevant footnote, by (1) each person or group that the Company knows
beneficially owns more than 5% of Common Stock, (2) each of the Company’s
directors and director nominees, (3) the Named Executive Officers, and (4)
all
current Executive Officers and directors as a group. The second table
below sets forth the information regarding beneficial ownership of Common Stock
immediately after giving effect to the Merger. Unless otherwise
indicated, the address of each person identified below is c/o the Company at
its
principal executive offices.
The
percentages of beneficial ownership shown in the first table below are based
on
approximately 201,000,000 shares of Common Stock outstanding as of November
30,
2007 and in the second table are based on approximately 224,000,000 shares
of
Common Stock that would be outstanding immediately after giving effect to the
20,000,000 shares issuable at the closing of the Merger and approximately
3,000,000 Time-Based Shares to be issued to Mr. Fuentes in connection with
the
Merger (excluding shares of Common Stock issuable upon conversion of the Amended
and Restated Notes pursuant to the Notes Issuance), in each case unless
otherwise stated. Beneficial ownership is determined in accordance
with the rules of the Securities and Exchange Commission and generally includes
those securities over which a person may exercise voting or investment
power. In addition, shares of Common Stock which a person has the
right to acquire upon the exercise of stock options and/or warrants within
60
days of the date of this table are deemed outstanding for the purpose of
computing the percentage ownership of that person, but are not deemed
outstanding for computing the percentage ownership of any other
person. Except as indicated in the footnotes to this table or as
affected by applicable community property laws, the persons named in the table
have sole voting and investment power with respect to all shares of Common
Stock
beneficially owned.
At
the
close of business on November 30, 2007, a single stockholder owned 1000 shares
of issued and outstanding Clarity common stock, representing 100% of the shares
of Clarity common stock outstanding on that date.
|
|
Number
of Shares
|
|||||
|
Name
|
of
Common Stock
|
|||||
|
Beneficially
Owned
|
Percent
of Class
|
|||||
|
Alexander
Finance L.P.
|
84,064,846
|
(1)
|
35.5%
|
|||
|
Elliott
Associates L.P.
|
55,523,835
|
(2)
|
23.5%
|
|||
|
Elliott
International L.P.
|
19,904,159
|
(2)
|
8.4%
|
|||
|
John
Thode
|
2,157,500
|
(3)
|
1.1%
|
|||
|
Amr
Abdelmonem
|
1,349,499
|
(4)
|
*
|
|||
|
George
Calhoun
|
1,086,083
|
(5)
|
*
|
|||
|
Frank
Cesario
|
751,370
|
(6)
|
*
|
|||
|
Mike
Fenger
|
232,000
|
(7)
|
*
|
|||
|
Jim
Fuentes
|
296,250
|
(8)
|
*
|
|||
|
Ralph
Pini
|
239,000
|
(9)
|
*
|
|||
|
John
Owings
|
30,000
|
(10)
|
*
|
|||
|
All
Directors and Officers as a Group (8 persons)
|
6,141,702
|
(11)
|
3.0%
|
|
*
|
Less
than 1%.
|
|
(1)
|
Includes
affiliates. As reflected in an SEC filing dated June
2007. The address for Alexander Finance, L.P. is 1560 Sherman
Avenue Evanston, IL 60201. Also presumes conversion of 36
million shares in convertible debt.
|
|
(2)
|
Includes
affiliates. As reflected in SEC filings dated June 2007 for
Elliott Associates, L.P. and Elliott International, L.P. Also
presumes conversion of 36 million shares in convertible
debt. The address of Elliott Associates, L.P. is 712 Fifth
Avenue, New York, New York 10019 and the address of Elliott International,
L.P. is c/o Elliott International Capital Advisors, Inc. 712 Fifth
Avenue
New York, New York 10019.
|
|
(3)
|
Includes
outstanding options to purchase 1,100,000 shares of common stock
that were
vested as of November 30, 2007.
|
|
(4)
|
Includes
outstanding options to purchase 262,499 shares which were exercisable
as
of November 30, 2007.
|
|
(5)
|
Includes
a restricted stock grant of 22,500 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 920,833 shares which were exercisable as of November
30, 2007.
|
|
(6)
|
Includes
a restricted stock grant of 187,500 shares that were not vested as
of
November 30, 2007, or within 60 days of such date.
|
|
(7)
|
Includes
a restricted stock grant of 20,000 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 110,000 shares which were exercisable as of November
30, 2007.
|
|
(8)
|
Includes
a restricted stock grant of 28,750 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 160,000 shares which were exercisable as of November
30, 2007.
|
|
(9)
|
Includes
a restricted stock grant of 26,250 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 110,000 shares which were exercisable as of November
30, 2007.
|
|
(10)
|
Includes
a restricted stock grant of 30,000 shares that were not vested as
of
November 30, 2007, or within 60 days of such date.
|
|
(11)
|
Includes
outstanding restricted stock grants and options as described
above.
|
|
Number
of Shares
|
||||||
|
Name
|
of
Common Stock
|
|||||
|
Beneficially
Owned
|
Percent
of Class
|
|||||
|
Alexander
Finance L.P.
|
84,064,846
|
(1)
|
32.3%
|
|||
|
Elliott
Associates L.P.
|
55,523,835
|
(2)
|
21.3%
|
|||
|
Elliott
International L.P.
|
19,904,159
|
(2)
|
7.7%
|
|||
|
John
Thode
|
2,157,500
|
(3)
|
1.0%
|
|||
|
Amr
Abdelmonem
|
1,349,499
|
(4)
|
*
|
|||
|
George
Calhoun
|
1,086,083
|
(5)
|
*
|
|||
|
Frank
Cesario
|
751,370
|
(6)
|
*
|
|||
|
Mike
Fenger
|
232,000
|
(7)
|
*
|
|||
|
Jim
Fuentes
|
16,784,059
|
(8)
|
7.5%
|
|||
|
Ralph
Pini
|
239,000
|
(9)
|
*
|
|||
|
John
Owings
|
30,000
|
(10)
|
*
|
|||
|
All
Directors and Officers as a Group (8 persons)
|
22,629,511
|
(11)
|
10.0%
|
|
*
|
Less
than 1%.
|
|
(1)
|
Includes
affiliates. As reflected in an SEC filing dated June
2007. The address for Alexander Finance, L.P. is 1560 Sherman
Avenue Evanston, IL 60201. Also presumes conversion of 36
million shares in convertible debt.
|
|
(2)
|
Includes
affiliates. As reflected in SEC filings dated June 2007 for
Elliott Associates, L.P. and Elliott International, L.P. Also
presumes conversion of 36 million shares in convertible
debt. The address of Elliott Associates, L.P. is 712 Fifth
Avenue, New York, New York 10019 and the address of Elliott International,
L.P. is c/o Elliott International Capital Advisors, Inc. 712 Fifth
Avenue
New York, New York 10019.
|
|
(3)
|
Includes
outstanding options to purchase 1,100,000 shares of common stock
that were
vested as of November 30, 2007.
|
|
(4)
|
Includes
outstanding options to purchase 262,499 shares which were exercisable
as
of November 30, 2007.
|
|
(5)
|
Includes
a restricted stock grant of 22,500 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 920,833 shares which were exercisable as of November
30, 2007.
|
|
(6)
|
Includes
a restricted stock grant of 187,500 shares that were not vested as
of
November 30, 2007, or within 60 days of such date.
|
|
(7)
|
Includes
a restricted stock grant of 20,000 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 110,000 shares which were exercisable as of November
30, 2007.
|
|
(8)
|
Includes
a restricted stock grant of 28,750 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 160,000 shares which were exercisable as of November
30, 2007. Includes 16,487,809 shares from the proposed merger
with Clarity out of the 20 million shares that are to be provided
up front
and 3.3 million of the shares that vest based solely on the passage
of
time, and excluding the remaining 1.7 million shares that have additional
performance requirements and the 15 million performance shares that
vest
upon attainment of certain market capitalization goals in the
future.
|
|
(9)
|
Includes
a restricted stock grant of 26,250 shares that were not vested as
of
November 30, 2007, or within 60 days of such date, as well as outstanding
options to purchase 110,000 shares which were exercisable as of November
30, 2007.
|
|
(10)
|
Includes
a restricted stock grant of 30,000 shares that were not vested as
of
November 30, 2007, or within 60 days of such date.
|
|
(11)
|
Includes
outstanding restricted stock grants and options as described
above.
|
History
Clarity
was founded in 1998 by its current president, CEO and sole shareholder, Jim
Fuentes. Mr. Fuentes acquired licenses to technology assets from
Lucent Technologies (now Alcatel-Lucent Technologies) and built a company on
providing highly effective, low cost handset applications for mobile devices
in
the wireless telecommunications sector. Building on success in
creating over the air functionality applications for mobile devices, Clarity
leveraged its proprietary product and development methodologies into new
applications, including Push-To-Talk (PTT) and Location-Based Services
(LBS). Today Clarity offers a unique product that combines both
technologies into a single application – Where2Talk. Clarity’s
facilities and executive offices are located at 2640 White Oak Circle, Aurora,
IL 60502. The main telephone number is (630) 499-1234, and website is
http://www.claritycsi.com. The information contained therein
is not incorporated into this report.
Clarity’s
strategic goal is to become a leader in creating mobile device applications
for
the wireless telecommunications industry. Clarity built platform
assets in the very young fields of PTT and LBS, but Clarity’s core competency
lies in the methodology for developing and delivering applications in this
environment. Clarity created the Clarity Application Server Suite
(CLASS) as a product foundation of both hardware and middleware for developing
high availability applications that meet the exacting standards of the
telecommunications industry. CLASS offers a reusable platform for
many of the elements of a completed product. In addition, Clarity
developed the Rapid Application Deployment in Client Languages (RADiCL) as
a
foundation for mobile device applications themselves. This open
architecture supports third party plug-in applications as needed in the
development process, and isolates device hardware from the execution
environment, thus enabling more rapid application development and easier porting
between devices.
Clarity
expects to leverage these design assets to quickly allow for new application
development, and thus able to quickly adapt to changing technologies,
environments, and customer requirements. Clarity believes that it can
deliver highly valuable solutions to both OEMs and operators.
As
Clarity primarily sells software (excluding very limited hardware support in
the
form of preconfigured network servers as needed), Clarity has little current
need for extensive manufacturing capabilities. Instead, Clarity’s
products are preloaded on handsets or provided via download. As such,
Clarity does not typically carry any meaningful amount of inventory, nor has
Clarity been forced to invest in significant manufacturing assets.
The
demand for faster, more robust applications within mobile devices has been
growing substantially, and is expected to continue for the foreseeable
future. Mobile devices offer tremendous convenience in delivering
value added applications. The number of mobile devices shipped
annually has been quoted by industry experts to exceed one billion units per
year, and the growth of various technologies for delivering services to such
devices (traditional wireless such as cellular and including next generation
data application architectures such as WCDMA, WiFi, WiMax, and others) has
created a very large and dynamic industry.
With
the
proliferation of data applications, consumers grow increasingly reliant on
their
mobile devices for a variety of tasks. From child protection to fleet
tracking, LBS services can improve our lives, safety and
efficiency. Clarity therefore offers its Whereabouts application,
which allows real time tracking of devices that are set up on the
system. Until now, customers have been forced to choose between
carrying around an additional GPS (global positioning system) device and pay
an
additional cost or accepted limited features being offered through less robust
offerings. Today Clarity offers the capability of using the GPS
device imbedded in the mobile device with the connection and reporting tools
already imbedded in that device as an optional service. Clarity
believes this convenience will provide substantial value to
customers.
Despite
Nextel’s previous success (now part of Sprint Nextel) with respect to PTT
features, the market has been slow to provide substantial PTT features through
mobile devices in any scale. Clarity believes that a limitation of
deploying PTT more broadly is less an issue of competition among rival companies
offering PTT applications than an issue of operator acceptance and end user
demand, particularly a concern about potential costs to overall operator
networks. In response to Clarity’s perception that end user demand is
unsatisfied, Clarity offers the InTouch solution. The InTouch
platform interfaces with the existing packet data network, without requiring
a
costly overhaul, and thus allows PTT to be added at little cost and with limited
maintenance requirements.
Clarity
realized that the combination of these technologies might be precisely what
the
market wanted, creating the Where2Talk platform. Combining PTT and
LBS technologies, Where2Talk allows for a geographically-based call to be
conducted from the handset. This feature allows a person at a console
to locate emergency workers in the vicinity of an event using advanced mapping
technologies, who then can be quickly connected and organized. The
initial trial of this solution is expected to occur during early 2008 with
the
Department of Homeland Security (“DHS”), and Clarity believes this feature has
significant application throughout the field of public safety as well as in
commercial applications.
Push-to-Talk
(PTT)
Nextel
proved value in providing PTT to consumers, and the basic technology is broadly
available. However, relatively few PTT applications are currently
offered to consumers. Clarity views the primary limitation in
providing PTT to consumers is from the network operators themselves who would
have to support such a system. Clarity offers a solution to this
problem by providing a fully hosted service, in which it maintains the network
servers required for the applications to function and connect to the mobile
devices using VOIP (voice over internet protocol). Larger operators
may choose not to allow applications outside of their immediate control and
thus
may not enable PTT features via this hosted approach.
Location-Based
Services (LBS)
The
primary suppliers of LBS services are specific devices that are used within
the
vehicle to provide real time LBS applications (such as maps, directions, and
fleet tracking). There have recently been increases in limited mobile
device applications offering some form of LBS-based features, but the industry
remains relatively young. The primary barrier to providing LBS
applications on a mobile device is to prove a need for the application and
then
prove that the application will not otherwise interfere with the network or
device. This can be a time-consuming process, particularly for a
small company.
Combined
Solution
Clarity
does not believe there are significant combinations of the LBS and PTT
technologies on the market today. DHS indicated that it selected
Clarity for its 2008 trial because DHS could not find another solution in the
marketplace that offered this combination of technologies in a single
platform. Proving a new technology to the wireless telecommunications
industry can be a very long process that may never succeed, particularly for
a
small company. Clarity believes that it needs to parlay success from
early adopters and look for opportunities to partner with other entities to
maximize the opportunity for this type of platform to be adopted.
Sales
and Marketing
Clarity
has historically focused its sales and marketing efforts on serving the needs
of
OEMs by offering outsourced engineering services in the form of custom product
development. Over the past year, Clarity has broadened its scope by
selling products and hosted services directly to operators, and is now making
inroads into the field of public safety.
Because
Clarity is relatively new to providing solutions to operators, sales to three
customers accounted for nearly 100% of its total revenues for
2006. Those customers were Alcatel-Lucent Technologies, Autodesk, and
Lockheed Martin, respectively. In addition, a significant amount of
Clarity’s technical and managerial resources have been focused on working with
these and a limited number of other operators and OEMs.
Research
and Development
Clarity
is currently developing related products that are synergistic with its core
offerings and which utilize Clarity’s core technical competencies in quickly and
efficiently producing applications that meet the very high quality standard
required by the telecommunications industry.
Intellectual
Property and Patents
Clarity
has only two patent applications today, relying on Clarity’s proprietary
processes for developing applications as its primary competitive
advantage. In addition, Clarity’s PTT solutions incorporates licensed
technology from Alcatel-Lucent Technologies. As Clarity launches
applications commercially, it expects to file more patent applications to
protect those distinct applications and processes. Clarity believes
that its success will depend in part upon the protection of its proprietary
information and the ability to operate without infringing on the proprietary
rights of others.
Government
Regulations
Although
Clarity believes that its wireless telecommunications products themselves are
not licensed or governed by approval requirements of the Federal Communications
Commission (“FCC”), the operation of the radio equipment into which Clarity
products would be incorporated is subject to FCC approval. In order
to be acceptable to OEMs and to operators, the characteristics, quality, and
reliability of Clarity’s products must enable them to meet FCC technical
standards.
As
a
company that does not have significant manufacturing needs, Clarity believes
it
is in material compliance with all environmental regulations and to date has
not
had to incur significant expenditures for preventive or remedial action with
respect to the use of hazardous materials.
Employees
As
of
November 15, 2007, Clarity had a total of 38 employees. Clarity also
periodically employs other consultants and independent contractors on as
as-needed basis. None of Clarity’s employees are covered by a
collective bargaining agreement. Clarity believes that its
relationship with its employees is good.
The
following discussion should be read in conjunction with the Condensed
Consolidated Financial Statements for Clarity beginning on page 80 of this Proxy
Statement. These Condensed Consolidated Financial Statements present
the results of operations and financial position of Clarity for the three-month
period ended September 30, 2007 and the full year ended December 31,
2006. In addition to historical information, the following discussion
may contain forward looking information that involves risks and
uncertainties. All amounts presented, except share data, are rounded
to the nearest thousand dollars.
General
Clarity
has shifted from being an almost exclusively custom product development
engineering services firm for mobile device applications to an entity that
provides both custom engineering services and direct solutions and services
to
OEM and wireless operator customers. The latter category includes
Clarity’s push-to-talk, location-based services, and combined
offerings.
The
wireless telecommunications industry is subject to risks beyond Clarity’s
control that can negatively impact customer capital spending budgets and/or
spending patterns. In addition, Clarity does not have significant
history in providing products and hosted services directly to customers, an
area
of Clarity’s business where, assuming adequate resources are available, Clarity
expects significant growth and future revenue regardless of whether the Merger
is consummated. However, Clarity has an immediate need for an
infusion of new capital. Further, Clarity currently lacks sufficient
sales and operations personnel in order achieve these goals and will be unable
to hire sufficient personnel unless Clarity receives additional resources or
consummates the Merger with ISCO. For these and other reasons,
Clarity’s financial statements have been prepared assuming Clarity will continue
as a going concern.
During
October 2007, Clarity announced that it signed a letter of intent to merge
with
ISCO International, Inc. ISCO has significant experience in providing
products and services directly to operators in the wireless field and would
expand Clarity’s product offerings to include hardware. Clarity views
significant synergies in the combined company’s product platforms, customer
bases, and sales channels.
Clarity
was founded in 1998 as a private entity, has a single shareholder, and files
tax
returns as a subchapter S corporation. Clarity’s facilities and
principal executive offices are located at 2640 White Oak Circle, Aurora, IL
60504 and telephone number is (630) 499-1234.
Results
of Operations
Three
Months Ended September 30, 2007 and 2006
Net
sales
decreased $494,000 or 39%, to $762,000 for the three months ended September
30,
2007 from $1,256,000 for the same period in 2006. Custom product
development for handset applications was significantly lower during 2007 than
any of the past several years as customers decide what to outsource and what
to
keep, and the rate of acceptance for products and hosted services offered
directly to customers has taken longer than Clarity expected.
Cost
of
sales decreased by $296,000, or 43%, to $385,000 for the three months ended
September 30, 2007 from $681,000 for the same period in 2006. The
decrease in cost of sales was due to the reduction in sales volume.
Research
and development (“R&D”) expenses decreased by $479,000 or 44%, to $609,000
for the three months ended September 30, 2007, from $1,088,000 for the same
period in 2006. This decrease was due to the substantial completion
of Clarity’s Whereabouts and WhereToTalk products during the period, as well as
spending limits imposed by weaker revenue during 2007.
Selling
and marketing expenses decreased by $22,000, or 31%, to $48,000 for the three
months ended September 30, 2007, from $70,000 for the same period in
2006. The decrease in expense was attributable to the loss of one
person in this area between the relevant time periods. As selling end
products and services to customers remains new to Clarity, this area is still
very lightly staffed.
General
and
administrative expenses decreased by $129,000, or 38%, to $209,000 for the
three
months ended September 30, 2007, from $338,000 for the same period in
2006. This decrease was attributable to a decrease in a number of
areas of cost and not any one item in particular. During 2007,
Clarity implemented significant spending reduction and delay efforts to
compensate for lower revenue, including the two-and-half month suspension of
salary for certain Clarity employees, including for Mr. Fuentes, Clarity’s chief
executive officer.
Nine
Months Ended September 30, 2007 and 2006
Net
sales
decreased $4,839,000, or 63%, to $2,853,000 for the nine months ended September
30, 2007 from $7,692,000 for the same period in 2006. Custom product
development for handset applications was significantly low for Clarity during
2007 than any of the past several years as customers decide what to outsource
and what to keep, and the rate of acceptance for products and hosted services
offered directly to customers has taken longer than Clarity
expected.
Cost
of
sales decreased by $1,286,000, or 52%, to $1,181,000 for the nine months ended
September 30, 2007 from $2,467,000 for the same period in 2006. The
decrease in cost of sales was due to the reduction in revenue, above, and
combined with relative inefficiencies of underutilized staff related to
significantly lower revenue.
Our
R&D expenses decreased by $696,000 or 23%, to $2,331,000 for the nine months
ended September 30, 2007, from $3,027,000 for the same period in
2006. This decrease was due to the substantial completion of
Clarity’s Whereabouts and WhereToTalk products during the period, as well as
spending limits imposed by weaker revenue during 2007.
Selling
and marketing expenses decreased by $4,000, or 1%, to $269,000 for the nine
months ended September 30, 2007, from $273,000 for the same period in
2006. The decrease in expense was negligible during the nine month
period but included a relatively higher level of spending early during the
period that has decreased as 2007 has continued, related to the need to conserve
cash and lower staffing levels.
General
and administrative expenses decreased by $134,000 or 13%, to $930,000 for the
nine months ended September 30, 2007, from $1,064,000 for the same period in
2006. decrease was attributable to a decrease in a number of areas of cost
and
not any one item in particular. During 2007, Clarity implemented
significant spending reduction and delay efforts to compensate for lower
revenue, including the two-and-half month suspension of salary for certain
Clarity employees during the third quarter of 2007, including for Mr. Fuentes,
Clarity’s chief executive officer.
Liquidity
and Capital Resources
As
of
September 30, 2007, Clarity’s cash and cash equivalents were $0.2 million, a
decrease of $1.3 million from the balance at December 31, 2006 of $1.5
million.
During
the nine month period ended September 30, 2007, Clarity utilized approximately
$0.9 million in cash from the realization of receivables and unbilled revenue,
net. In addition, Clarity increased its accrued payables and expenses
by $0.3 million, net of additions.
The
continuing development of, and expansion in, sales of Clarity’s product lines
will require a commitment of funds. The actual amount of Clarity’s
future funding requirements will depend on many factors, including: the closing
of the Merger with ISCO and successful integration of the combined company,
the
amount and timing of future revenues, the level of product marketing and sales
efforts to support commercialization plans, the magnitude of research and
product development programs, the ability to improve or maintain product
margins, and the costs involved in protecting patents or other intellectual
property.
In
addition, Clarity is required to make regular monthly payments of all accrued
and unpaid interest due as of each payment date. However, if the
Merger occurs, ISCO will pay off any outstanding amounts under the line of
credit. Clarity has no other available sources of funds. The
interest rate may vary over time pursuant to The Wall Street Journal Prime
Index
(the “Index”) such that the interest rate for the line of credit will be 0.5%
less than the Index. The minimum interest rate permitted under the
line of credit is 5.25% and the maximum interest rate is the maximum rate
allowed by law. In the event of default, the interest rate under the
line of credit will increase by 5.0% above the then current
rate. Clarity will pay outstanding amounts under the line of credit
in one payment of all outstanding principal plus all accrued and unpaid interest
on July 16, 2008. In addition, Clarity is required to make regular
monthly payments of all accrued and unpaid interest due as of each payment
date. However, if the Merger occurs, ISCO will pay off any
outstanding amounts under the line of credit. Clarity has no other
available sources of funds.
Clarity
has 1,000 shares of common stock issued and outstanding as of November 30,
2007
and such shares are held by a single shareholder, Jim Fuentes. There
are no other shares of common stock available for issuance under Clarity’s
articles of incorporation. As a result, there is no established
public trading market for Clarity’s common stock.
Under
Clarity’s line of credit arrangement, Clarity may not, without the prior written
consent of its lender, pay any dividends on Clarity’s stock (other than
dividends payable in stock) provided, however that, so long as no event of
default under the line of credit has occurred and is continuing or would result
from the payment of dividends, if Clarity is a “Subchapter S Corporation” (as
defined in the Internal Revenue Code of 1986, as amended), Clarity may pay
cash
dividends on its stock to its shareholder from time to time in amounts necessary
to enable the shareholder to pay income taxes and make estimated income tax
payments to satisfy the shareholder’s liabilities under federal and state law
which arise solely from the shareholder’s status as shareholder of a
Subchapter S Corporation because of the shareholder’s ownership of shares
of Clarity’s stock, or purchase or retire any of Clarity’s outstanding shares or
alter or amend Clarity’s capital structure.
The
following table gives information about Clarity’s common stock that may be
issued upon the exercise of options, warrants and rights under any equity
compensation plan as of November 30, 2007.
|
Plan
Category
|
Number
of Securities
to
be issued upon exercise
of
outstanding Options,
warrants
and rights
|
Weighted-average
exercise
price of
outstanding
options,
warrants
and rights
|
Number
of Securities
remaining
available for future
issuance under equity
compensation
plans
(excluding securities
reflected
in second
column)
|
|||||
|
Equity
compensation plans approved by security holders
|
533
|
$
|
N/A
|
0
|
||||
|
Equity
compensation plans not approved by security holders
|
N/A
|
N/A
|
N/A
|
|||||
|
Total
|
533
|
$
|
N/A
|
0
|
)
|
|||
Note:
This
table represents the equivalent of 533 shares of Clarity common stock issuable
upon a change in control of Clarity to Rightsholders under the Phantom Stock
Plan and to certain Rightsholders and Mr. Fuentes pursuant to the At-Risk
Compensation Plan based on 1,000 shares of Clarity common stock issued and
outstanding. These equivalent shares of Clarity common stock would
never be issued since pursuant to the terms of the Phantom Stock Plan and the
At-Risk Compensation Plan, shares of a company acquiring Clarity are to be
issued to satisfy the obligations under these plans.
REPORT
OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board
of
Directors
Clarity
Communication Systems Inc.
We
have
audited the accompanying balance sheets of Clarity Communication Systems
Inc., an Illinois S-Corporation (the "Company") as of December 31, 2006 and
December 31, 2005, and the related statement of operations, changes in
stockholder equity (deficit) and cash flows for the year ended December 31,
2006
. These financial statements are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We
conducted our audits in accordance with auditing standards generally
accepted in the United States of America as established by
the American Institute of Certified Public Accountants. 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 consideration of internal control
over financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An
audit also includes examining, on a test basis, evidence supporting the amounts
and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In
our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Clarity Communication Systems
Inc. as of December 31, 2006 and 2005 and the related results of
their operations and their cash flows for the year ended December 31,
2006, in conformity with accounting principles generally accepted in the United
States of America.
The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note B, the Company
incurred a net loss of $1.8 million during the nine month period year ended
September 30, 2007, and, during 2006 and 2007 the Company incurred debt that
cannot be satisfied with existing funding commitments. These factors,
among others, as discussed in Note B to the financial statements, raise
substantial doubt about the Company’s ability to continue as a going
concern. Management’s plans in regard to these matters are also
described in Note B. The financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
Grant
Thornton LLP
Chicago,
Illinois
November
30, 2007
|
Clarity
Communication Systems, Inc.
|
|||
|
December
31,
|
|||
|
ASSETS
|
2006
|
2005
|
|
|
CURRENT
ASSETS
|
|||
|
Cash
and cash equivalents
|
$ 1,547,831
|
$ 3,592,770
|
|
|
Accounts
receivable
|
734,014
|
1,667,519
|
|
|
Prepaid
expenses and other current assets
|
107,802
|
166,780
|
|
|
Total
current assets
|
2,389,647
|
5,427,069
|
|
|
PROPERTY
AND EQUIPMENT, NET
|
245,425
|
241,861
|
|
|
INTANGIBLE
ASSETS, net of accumulated amortization
|
95,000
|
125,000
|
|
|
TOTAL
ASSETS
|
$ 2,730,072
|
$ 5,793,930
|
|
|
Clarity
Communication Systems, Inc.
|
|||
|
BALANCE
SHEETS - CONTINUED
|
|||
|
December
31,
|
|||
|
LIABILITIES
AND STOCKHOLDER (DEFICIT) EQUITY
|
2006
|
2005
|
|
|
CURRENT
LIABILITIES
|
|||
|
Accounts
payable
|
$ 82,280
|
$ 162,365
|
|
|
Accrued
expenses
|
302,505
|
824,748
|
|
| Deferred revenue and other accrued liabilities | 611,976 | 1,528,408 | |
|
Note
payable to sole stockholder
|
2,000,000
|
-
|
|
|
Total
current liabilities
|
2,996,761
|
2,515,521
|
|
|
Total
liabilities
|
2,996,761
|
2,515,521
|
|
|
STOCKHOLDER
(DEFICIT) EQUITY
|
|||
|
Common
stock, $1.00 par value; 1,000 shares
|
|||
|
authorized,
issued and outstanding
|
1,000
|
1,000
|
|
|
Additional
paid-in capital
|
9,000
|
9,000
|
|
|
Retained
(deficit) earnings
|
(276,689)
|
3,268,409
|
|
|
Total
stockholder (deficit) equity
|
(266,689)
|
3,278,409
|
|
|
TOTAL
LIABILITIES AND
|
|||
|
STOCKHOLDER
(DEFICIT) EQUITY
|
$ 2,730,072
|
$ 5,793,930
|
|
|
Clarity
Communication Systems, Inc.
|
|
|
Year
ended December 31,
|
|
|
2006
|
|
|
Net
sales
|
$ 8,983,165
|
|
Operating
expenses
|
|
|
Cost
of sales
|
3,025,314
|
|
Development
|
4,131,878
|
|
Selling
and marketing
|
383,774
|
|
General
and administrative
|
1,402,909
|
|
Total
operating expenses
|
8,943,875
|
|
Net
operating income
|
39,290
|
|
Other
income (expense)
|
|
|
Interest
income
|
29,324
|
|
Other
income (expense), net
|
-
|
|
Other
income, net
|
29,324
|
|
NET
INCOME
|
$ 68,614
|
|
Clarity
Communication Systems, Inc.
|
|||||||
|
Year
ended December 31, 2006
|
|||||||
|
Additional
|
Total
|
||||||
|
Common
|
paid-in
|
Retained
|
stockholder
|
||||
|
stock
|
capital
|
(deficit)
earnings
|
(deficit)
equity
|
||||
|
Balance
at January 1, 2006
|
$ 1,000
|
$ 9,000
|
$ 3,268,409
|
$ 3,278,409
|
|||
|
Stockholder
distributions
|
-
|
-
|
(3,613,712)
|
(3,613,712)
|
|||
|
Net
income
|
68,614
|
68,614
|
|||||
|
Balance
at December 31, 2006
|
$ 1,000
|
$ 9,000
|
$ (276,689)
|
$ (266,689)
|
|||
|
Clarity
Communication Systems, Inc.
|
|
|
Year
ended December 31,
|
|
|
2006
|
|
|
Cash
flows from operating activities
|
|
|
Net
income
|
$ 68,614
|
|
Adjustments
to reconcile net income to net cash used in operating
activities
|
|
|
Depreciation
and amortization
|
105,327
|
|
Changes
in assets and liabilities
|
|
|
Accounts
receivable
|
933,505
|
|
Prepaid
expenses and other assets
|
58,978
|
|
Accounts
payable
|
(80,085)
|
|
Accrued
expenses
|
(522,243)
|
|
Deferred
revenue
|
(916,431)
|
|
Net
cash used in operating activities
|
(352,335)
|
|
Cash
flows from investing activities
|
|
|
Purchases
of property and equipment
|
(78,892)
|
|
Net
cash used in investing activities
|
(78,892)
|
|
Cash
flows from financing activities
|
|
|
Distributions
to stockholder
|
(3,613,712)
|
|
Proceeds
from note payable
|
2,000,000
|
|
Net
cash used in financing activities
|
(1,613,712)
|
|
Net
decrease in cash and cash equivalents
|
(2,044,939)
|
|
Cash
and cash equivalents at beginning of year
|
3,592,770
|
|
Cash
and cash equivalents at end of year
|
$ 1,547,831
|
|
Supplemental
disclosures of cash flow information
|
|
|
Cash
paid during the year for
|
|
|
Income
taxes
|
$ -
|
|
Interest
|
-
|
NOTE
A - DESCRIPTION OF BUSINESS
Clarity
Communication Systems, Inc. (“Clarity” or the “Company”) develops communications
products within wireless communication systems. The Company provides solutions
to OEMs and wireless operators on a contract basis and also develops unique
products, including Push-to-Talk and/or location-based solutions. Its products
and services are typically client applications downloaded onto wireless
handsets, as well as the infrastructure to support such applications in certain
circumstances. The Company has historically marketed its products and
services to cellular and wireless telecommunications service providers and
OEM’s
located primarily in the United States.
NOTE
B – REALIZATION OF ASSETS
The
accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America, which
contemplate continuation of the Company as a going concern. Based
upon unaudited financial information, the Company has sustained substantial
losses in the nine months ending September 30, 2007, of $1.8 million and has
negative working capital and a retained deficit $2.4 million and $2.1 million,
respectively, as of September 30, 2007. In addition, the Company has
used, rather than provided, cash in its operations.
The
Company continues to seek alternative financing solutions and is evaluating
strategic alternatives, including the potential sale of the
Company.
In
view
of the matters described in the preceding paragraph, recoverability of a major
portion of the recorded asset amounts shown in the accompanying balance sheet
is
dependent upon continued operations of the Company, which in turn is dependent
upon the Company’s ability to meet its financing requirements on a continuing
basis, to maintain present financing, and to succeed in its future operations.
The financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts and
classification of liabilities that might be necessary should the Company be
unable to continue in existence.
NOTE
C - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Cash
and Cash Equivalents
The
Company considers all highly liquid investments with original maturities of
three months or less to be cash equivalents. Interest income is
earned on the certificates of deposit for the benefit of the
Company.
Concentration
of Credit Risk
One
customer (a Fortune 500 company in the telecommunications
industry) accounted for 100% of accounts receivable as of December 31, 2006
and 2005. Sales to the one customer for the year ended December 31,
2006 was 94% of total revenues.
Accounts
Receivable
The
majority of the Company’s accounts receivable is due from companies in the
telecommunications industry. Credit is extended based on evaluation of a
customers’ financial condition and, generally, collateral is not required.
Accounts receivable are typically due within 30 days or 45 days and are stated
at amounts due from customers, net of an allowance for doubtful accounts.
Accounts outstanding longer than the contractual payment terms, are considered
past due. The Company determines its allowance for doubtful accounts by
considering a number of factors, including the length of time trade accounts
receivable are past due, the Company’s previous loss history, the customer’s
current ability to pay its obligation to the Company, and the condition of
the
general economy and the industry as a whole. The Company writes-off accounts
receivable when they become uncollectible, and payments subsequently received
on
such receivables are credited to the allowance for doubtful accounts. The
allowance could be materially different if economic conditions change or actual
results deviate from historical trends. As of December 31, 2006 and
2005, accounts receivable were fully collectible and no allowance for doubtful
accounts was required.
Revenue
recognition
The
Company recognizes revenue for contract product development arrangements when
certain performance milestones are achieved, as determined by the
buyer.
Certain
of the Company’s customer arrangements encompass multiple deliverables.
Accounting for these arrangements is in accordance with Emerging Issues Task
Force (“EITF”) No. 00-21,“Accounting for Revenue Arrangements with Multiple
Deliverables” (“EITF 00-21”). If the deliverables meet the criteria in EITF
00-21, the deliverables are separated into separate units of accounting, and
revenue is allocated to the deliverables based on their relative fair values.
The criteria specified in EITF 00-21 are that the delivered item has value
to
the customer on a stand-alone basis, there is objective and reliable evidence of
the fair value of the undelivered item, and if the arrangement includes a
general right of return relative to the delivered item, delivery or performance
of the undelivered item is considered probable and substantially in the control
of the vendor. Applicable revenue recognition criteria is considered separately
for each separate unit of accounting.
Management
applies judgment to ensure appropriate application of EITF 00-21, including
value allocation among multiple deliverables, determination of whether
undelivered elements are essential to the functionality of delivered elements
and timing of revenue recognition, among others. For those arrangements where
the deliverables do not qualify as a separate unit of accounting, revenue from
all deliverables is treated as one accounting unit and recognized over the
term
of the arrangement.
Property
and Equipment
Property
and equipment are stated at cost, less accumulated depreciation, and are
depreciated over the estimated useful lives of the assets using both straight
line and accelerated methods. The accelerated method used is the double
declining balance method. Software is amortized over 3 years utilizing the
straight-line method. Leasehold improvements are amortized using the
straight-line method over the shorter of the useful life of the asset or the
term of the lease. The useful lives assigned to property and
equipment for the purpose of computing depreciation follow:
|
Automobiles
|
|
5
years
|
|
Office
equipment
|
|
3
to 5 years
|
|
Furniture
and fixtures
|
|
5
years
|
|
Leasehold
improvements
|
|
Life of lease
|
Expenditures
for major additions improvements are capitalized while maintenance and repairs
are expensed as incurred.
Long-Lived
Assets and Long-Lived Assets to Be Disposed Of
In
accordance with FAS No. 144, “Accounting for the Impairment or Disposal
of Long-Lived Assets,” the Company reviews its long-lived assets and
certain identifiable intangible assets for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets.
Income
Taxes
The
Company, with the consent of its stockholder, has elected, under the Internal
Revenue Code, to be taxed as an S-Corporation. The stockholder of an
S-Corporation is taxed on the Company’s taxable income. Therefore, no provision
or liability for Federal income taxes has been included in the Company’s
financial statements.
Advertising
Costs
Advertising
costs are charged to expense in the period incurred.
Use
of Estimates
The
preparation of consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts
of
assets and liabilities and disclosure of contingent assets and liabilities
at
the date of the financial statements, and the reported amounts of revenues
and
expenses during the reporting period. Actual results could differ
from those estimates.
Fair
Value of Financial Instruments
Cash
and
cash equivalents are reported at their fair values in the balance sheets. The
carrying amounts reported in the balance sheets for accounts receivable,
accounts payable, and accrued expenses approximate their fair values due to
the
short-term nature of these financial instruments. Notes payable have an interest
rate that approximates current market values; therefore, the carrying value
approximate fair value.
New
Accounting Pronouncements
In
February 2007, the Financial Accounting Standards board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 159. “The Fair Value
Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”) provides
the option to report certain financial assets and liabilities at fair value,
with the intent to mitigate volatility in financial reporting that can occur
when related assets and liabilities are recorded on different bases. This
statement is effective for the Company beginning January 1, 2008. The Company
does not expect SFAS 159 to have a material impact on the financial
statements.
In
September 2006, the Financial Accounting Standards Board issued SFAS No. 157,
"Fair Value Measurements" ("SFAS 157"). This statement defines fair value as
used in numerous accounting pronouncements, establishes a framework for
measuring fair value in generally accepted accounting principles ("GAAP") and
expands disclosure related to the use of fair value measures in financial
statements. SFAS 157 does not expand the use of fair value measures in financial
statements, but standardizes its definition and guidance in GAAP. SFAS 157
is
effective for fiscal years beginning after November 15, 2007. We plan to adopt
the provisions of SFAS 157 on January 1, 2008. We are evaluating the potential
impact of SFAS 157, but at this time do not anticipate that it will have an
impact on the financial statements when adopted.
NOTE
D - PROPERTY AND EQUIPMENT
Property
and equipment as of December 31 is as follows:
|
2006
|
2005
|
||
|
Equipment
|
$ 406,275
|
$ 353,067
|
|
|
Furniture
and Fixtures
|
164,272
|
164,273
|
|
|
Leasehold
Improvements
|
124,008
|
124,008
|
|
|
Automobiles
|
99,183
|
99,182
|
|
|
Construction
in progress
|
25,683
|
-
|
|
|
Less
accumulated depreciation and amortization
|
(573,996)
|
(498,669)
|
|
|
Net
property and
equipment
|
$ 245,425
|
$ 241,861
|
Depreciation
and amortization expense for the year ended December 31, 2006 was
$75,327.
NOTE
E - INTANGIBLES
In
2004,
the Company entered into an agreement to license the rights to certain software
equipment developed and manufactured by another company. The purchase price
paid
for the license was $150,000, which represented its fair value. This amount
was
recorded as an intangible asset and is being amortized over the period of its
estimated benefit life of 5 years. At December 31, 2006 and 2005, accumulated
amortization was $55,000 and $25,000. Amortization expense recognized for the
year ended December 31, 2006 is $30,000.
NOTE
F - COMMITMENTS AND CONTINGENCIES
The
Company leases its facilities and office space, as well as some testing and
office equipment. Under the terms of its lease in Aurora, IL, which expires
July
2009, the Company is responsible for proportionate real estate taxes and
operating expenses.
Future
minimum payments under non-cancelable leases are as follows:
|
Years
ending December 31,
|
|
|
2007
|
$ 172,226
|
|
2008
|
177,393
|
|
2009
|
105,267
|
NOTE
G – PHANTOM STOCK PLAN
In
February 2004, the Company established the Clarity Communication Systems, Inc.
Phantom Stock Plan (“Plan”). Eligibility and the granting of awards
in the Plan are at the discretion of the sole stockholder. Rights
under the Plan only vest in the event of a change in control, as defined in
the
Plan. In the event of employment termination with the Company, or
death, the rights granted to the employee under the Plan also terminate and
are
forfeited. As of December 31, 2006, a change in control event was not
probable, and as such, no expense has been recognized in the financial
statements.
NOTE
H – NOTE PAYABLE TO SOLE STOCKHOLDER
On
December 31, 2006, the Company received $2,000,000 of debt financing in the
form
of a note with its sole stockholder. Interest is stated at 4.7% per
annum and the note and accrued interest is due upon demand. There are
no financial covenants or collateral associated with this note.
NOTE
I – EMPLOYEE BENEFIT PLAN
The
Company has a 401(k) plan covering all employees who meet prescribed service
requirements. The plan provides for deferred salary contributions by the plan
participants and the opportunity for a Company contribution. During 2006, the
Company made no contribution to employee accounts under the plan.
NOTE
J – SUBSEQUENT EVENT
On
November 13, 2007, the Company and ISCO International, Inc. (“ISCO”), entered
into a Plan of Merger, pursuant to which ISCO would acquire the Company (the
“Merger”).
Pursuant
to the Merger Agreement, ISCO would issue up to an aggregate of 40.0 million
shares of ISCO common stock (closing common stock price was $0.24 as of November
13, 2007) in exchange for all of the Company’s stock. Of the total
number of shares ISCO may issue in the merger, 20.0 million shares would
be
issuable upon closing (subject to adjustment if the amount of total liabilities
on Clarity’s closing balance sheet, subject to certain exceptions, exceeds $1.5
million), 2.5 million shares would be issuable on each of the first and second
anniversaries of closing (subject any indemnification claims pursuant to
the
Merger Agreement) and 3.75 million shares would be issuable on each of the
first
dates on which ISCO’s equity market capitalization first equals or exceeds
$125,000,000, $175,000,000, $225,000,000 and $275,000,000 within the three
year
period after closing of the Merger for at least 40 of the 45 consecutive
trading
days ISCO’s market capitalization equals such
thresholds.
In
the event the Merger is completed, the
participants in the Phantom Stock Plan are eligible to receive benefits.
The sole stockholder would receive approximately 65% of the shares issued
in
connection with the Merger while the Phantom Stock Plan participants would
receive approximately 35% of the shares issued in connection with the Merger.
During
2007, the Company entered into a credit line
arrangement with American Chartered Bank. The first draw on this credit
line took place during October 2007. As of November 30, 2007,
approximately $0.6 million had been drawn on this credit line.
|
Clarity
Communication Systems, Inc.
|
|||
|
September
30,
|
December
31,
|
||
|
ASSETS
|
2007
|
2006
|
|
|
CURRENT
ASSETS
|
|||
|
Cash
and cash equivalents
|
$ 199,537
|
$ 1,547,831
|
|
|
Accounts
receivable
|
274,524
|
734,014
|
|
|
Prepaid
expenses and other current assets
|
74,925
|
107,802
|
|
|
Total
current assets
|
548,986
|
2,389,647
|
|
|
PROPERTY
AND EQUIPMENT, NET
|
231,118
|
245,425
|
|
|
INTANGIBLE
ASSETS, net of accumulated amortization
|
72,500
|
95,000
|
|
|
TOTAL
ASSETS
|
$ 852,604
|
$ 2,730,072
|
|
|
Clarity
Communication Systems, Inc.
|
|||
|
BALANCE
SHEETS - CONTINUED
|
|||
|
September
30,
|
December
31,
|
||
|
LIABILITIES
AND STOCKHOLDER (DEFICIT) EQUITY
|
2007
|
2006
|
|
|
CURRENT
LIABILITIES
|
|||
|
Accounts
payable
|
$ 172,543
|
$ 82,280
|
|
|
Accrued
expenses
|
350,635
|
302,505
|
|
|
Deferred
revenue and other accrued liabilities
|
350,191 | 611,976 | |
|
Note
and accrued interest payable to sole stockholder
|
2,074,712
|
2,000,000
|
|
|
Total
current liabilities
|
2,948,081
|
2,996,761
|
|
|
Total
liabilities
|
2,948,081
|
2,996,761
|
|
|
STOCKHOLDER
(DEFICIT) EQUITY
|
|||
|
Common
stock, $1.00 par value; 1,000 shares
|
|||
|
authorized,
issued and outstanding
|
1,000
|
1,000
|
|
|
Additional
paid-in capital
|
9,000
|
9,000
|
|
|
Retained
(deficit) earnings
|
(2,105,477)
|
(276,689)
|
|
|
Total
stockholder (deficit) equity
|
(2,095,477)
|
(266,689)
|
|
|
TOTAL
LIABILITIES AND
|
|||
|
STOCKHOLDER
(DEFICIT) EQUITY
|
$ 852,604
|
$ 2,730,072
|
|
|
Clarity
Communication Systems, Inc.
|
||
|
Nine
Months Ended September 30, 2007
|
||
|
September
30,
|
||
|
2007
|
||
|
Net
sales
|
$ 2,852,911
|
|
|
Operating
expenses
|
||
|
Cost
of sales
|
1,180,516
|
|
|
Development
|
2,330,075
|
|
|
Selling
and marketing
|
269,185
|
|
|
General
and administrative
|
930,088
|
|
|
Total
operating expenses
|
4,709,864
|
|
|
Net
operating income
|
(1,856,953)
|
|
|
Other
income (expense)
|
||
|
Interest
income (expense), net
|
(58,578)
|
|
|
Other
income (expense), net
|
91,806
|
|
|
Other
income, net
|
33,228
|
|
|
NET
INCOME
|
$ (1,823,725)
|
|
|
Clarity
Communication Systems, Inc.
|
|||||||
|
Nine
Months Ended September 30, 2007
|
|||||||
|
Additional
|
Total
|
||||||
|
Common
|
paid-in
|
Retained
|
stockholder
|
||||
|
stock
|
capital
|
(deficit)
earnings
|
(deficit)
equity
|
||||
|
Balance
at January 1, 2006
|
$ 1,000
|
$ 9,000
|
$ (276,689)
|
$ (266,689)
|
|||
|
Stockholder
distributions
|
-
|
-
|
(5,063)
|
(5,063)
|
|||
|
Net
income
|
(1,823,725)
|
(1,823,725)
|
|||||
|
Balance
at December 31, 2006
|
$ 1,000
|
$ 9,000
|
$ (2,105,477)
|
$ (2,095,477)
|
|||
|
Clarity
Communication Systems, Inc.
|
|
|
Nine
Months Ended September 30, 2007
|
|
|
Cash
flows from operating activities
|
|
|
Net
income
|
$ (1,823,725)
|
|
Adjustments
to reconcile net income to net cash used in operating
activities
|
|
|
Depreciation
and amortization
|
36,807
|
|
Changes
in assets and liabilities
|
443,687
|
|
Net
cash used in operating activities
|
(1,343,231)
|
|
Cash
flows from investing activities
|
|
|
Purchases
of property and equipment
|
-
|
|
Net
cash used in investing activities
|
-
|
|
Cash
flows from financing activities
|
|
|
Distributions
to stockholder
|
(5,063)
|
|
Other
financing activities
|
-
|
|
Net
cash used in financing activities
|
(5,063)
|
|
Net
decrease in cash and cash equivalents
|
(1,348,294)
|
|
Cash
and cash equivalents at beginning of year
|
1,547,831
|
|
Cash
and cash equivalents at end of year
|
$ 199,537
|
|
Supplemental
disclosures of cash flow information
|
|
|
Cash
paid during the year for
|
|
|
Income
taxes
|
$ -
|
|
Interest
|
-
|
FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2007
NOTE
A - DESCRIPTION OF BUSINESS
Clarity
Communication Systems, Inc. (“Clarity” or the “Company”) develops communications
products within wireless communication systems. The Company provides solutions
to OEMs and wireless operators on a contract basis and also develops unique
products, including Push-to-Talk and/or location-based solutions. Its products
and services are typically client applications downloaded onto
wireless handsets, as well as the infrastructure to support such applications
in
certain circumstances. The Company has historically marketed its
products and services to cellular and wireless telecommunications service
providers and OEM’s located primarily in the United States.
NOTE
B – REALIZATION OF ASSETS
The
accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America,
which
contemplate continuation of the Company as a going concern. Based
upon unaudited information, the Company has sustained substantial losses
in the
nine months ending September 30, 2007, of $1.8 million and has negative
working
capital and a retained deficit $2.4 million and $2.1 million, respectively,
as
of September 30, 2007. In addition, the Company has used, rather than
provided, cash in its operations.
The
Company continues to seek alternative financing solutions and is evaluating
strategic alternatives, including the potential sale of the
Company.
In
view
of the matters described in the preceding paragraph, recoverability of
a major
portion of the recorded asset amounts shown in the accompanying balance
sheet is
dependent upon continued operations of the Company, which in turn is dependent
upon the Company’s ability to meet its financing requirements on a continuing
basis, to maintain present financing, and to succeed in its future operations.
The financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts
and
classification of liabilities that might be necessary should the Company
be
unable to continue in existence.
NOTE
C - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Cash
and Cash Equivalents
The
Company considers all highly liquid investments with original maturities
of
three months or less to be cash equivalents. Interest income is
earned on the certificates of deposit for the benefit of the
Company.
Concentration
of Credit Risk
One
customer (a Fortune 500 company in the telecommunications
industry) accounted for 100% of accounts receivable as of December 31,
2006. Sales to three customers (Alcatel-Lucent Technologies,
Autodesk, and Lockheed Martin) accounted for nearly 100% of total revenue
during 2006.
Accounts
Receivable
The
majority of the Company’s accounts receivable is due from companies in the
telecommunications industry. Credit is extended based on evaluation of
a
customers’ financial condition and, generally, collateral is not required.
Accounts receivable are typically due within 30 days or 45 days and are
stated
at amounts due from customers, net of an allowance for doubtful accounts.
Accounts outstanding longer than the contractual payment terms, are considered
past due. The Company determines its allowance for doubtful accounts by
considering a number of factors, including the length of time trade accounts
receivable are past due, the Company’s previous loss history, the customer’s
current ability to pay its obligation to the Company, and the condition
of the
general economy and the industry as a whole. The Company writes-off accounts
receivable when they become uncollectible, and payments subsequently received
on
such receivables are credited to the allowance for doubtful accounts. The
allowance could be materially different if economic conditions change or
actual
results deviate from historical trends. As of September 30, 2007 and
December 31, 2006, accounts receivable were fully collectible and no allowance
for doubtful accounts was required.
Revenue
recognition
The
Company recognizes revenue for contract product development arrangements
when
certain performance milestones are achieved, as determined by the
buyer.
Certain
of the Company’s customer arrangements encompass multiple deliverables.
Accounting for these arrangements is in accordance with Emerging Issues
Task
Force (“EITF”) No. 00-21,“Accounting for Revenue Arrangements with Multiple
Deliverables” (“EITF 00-21”). If the deliverables meet the criteria in EITF
00-21, the deliverables are separated into separate units of accounting, and
revenue is allocated to the deliverables based on their relative fair values.
The criteria specified in EITF 00-21 are that the delivered item has value
to
the customer on a stand-alone basis, there is objective and reliable evidence
of
the fair value of the undelivered item, and if the arrangement includes
a
general right of return relative to the delivered item, delivery or performance
of the undelivered item is considered probable and substantially in the
control
of the vendor. Applicable revenue recognition criteria is considered separately
for each separate unit of accounting.
Management
applies judgment to ensure appropriate application of EITF 00-21, including
value allocation among multiple deliverables, determination of whether
undelivered elements are essential to the functionality of delivered elements
and timing of revenue recognition, among others. For those arrangements
where
the deliverables do not qualify as a separate unit of accounting, revenue
from
all deliverables is treated as one accounting unit and recognized over
the term
of the arrangement.
Property
and Equipment
Property
and equipment are stated at cost, less accumulated depreciation, and are
depreciated over the estimated useful lives of the assets using both straight
line and accelerated methods. The accelerated method used is the double
declining balance method. Software is amortized over 3 years utilizing
the
straight-line method. Leasehold improvements are amortized using the
straight-line method over the shorter of the useful life of the asset or
the
term of the lease. The useful lives assigned to property and
equipment for the purpose of computing depreciation follow:
|
Automobiles
|
|
5
years
|
|
Office
equipment
|
|
3
to 5 years
|
|
Furniture
and fixtures
|
|
5
years
|
|
Leasehold
improvements
|
|
Life of lease
|
Expenditures
for major additions improvements are capitalized while maintenance and
repairs
are expensed as incurred.
Long-Lived
Assets and Long-Lived Assets to Be Disposed Of
In
accordance with FAS No. 144, “Accounting for the Impairment or Disposal
of Long-Lived Assets,” the Company reviews its long-lived assets and
certain identifiable intangible assets for impairment whenever events or
changes
in circumstances indicate that the carrying amount of an asset may not
be
recoverable. Recoverability of assets to be held and used is measured by
a
comparison of the carrying amount of an asset to future net cash flows
expected
to be generated by the asset. If assets are considered to be impaired,
the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets.
Income
Taxes
The
Company, with the consent of its stockholder, has elected, under the Internal
Revenue Code, to be taxed as an S-Corporation. The stockholder of an
S-Corporation is taxed on the Company’s taxable income. Therefore, no provision
or liability for Federal income taxes has been included in the Company’s
financial statements.
Advertising
Costs
Advertising
costs are charged to expense in the period incurred.
Use
of Estimates
The
preparation of consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts
of
assets and liabilities and disclosure of contingent assets and liabilities
at
the date of the financial statements, and the reported amounts of revenues
and
expenses during the reporting period. Actual results could differ
from those estimates.
Fair
Value of Financial Instruments
Cash
and
cash equivalents are reported at their fair values in the balance sheets.
The
carrying amounts reported in the balance sheets for accounts receivable,
accounts payable, and accrued expenses approximate their fair values due
to the
short-term nature of these financial instruments. Notes payable have an
interest
rate that approximates current market values; therefore, the carrying value
approximate fair value.
New
Accounting Pronouncements
In
February 2007, the Financial Accounting Standards board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 159. “The Fair Value
Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”) provides
the option to report certain financial assets and liabilities at fair value,
with the intent to mitigate volatility in financial reporting that can
occur
when related assets and liabilities are recorded on different bases. This
statement is effective for the Company beginning January 1, 2008. The Company
does not expect SFAS 159 to have a material impact on the financial
statements.
In
September 2006, the Financial Accounting Standards Board issued SFAS No.
157,
"Fair Value Measurements" ("SFAS 157"). This statement defines fair value
as
used in numerous accounting pronouncements, establishes a framework for
measuring fair value in generally accepted accounting principles ("GAAP")
and
expands disclosure related to the use of fair value measures in financial
statements. SFAS 157 does not expand the use of fair value measures in
financial
statements, but standardizes its definition and guidance in GAAP. SFAS
157 is
effective for fiscal years beginning after November 15, 2007. We plan to
adopt
the provisions of SFAS 157 on January 1, 2008. We are evaluating the potential
impact of SFAS 157, but at this time do not anticipate that it will have
an
impact on the financial statements when adopted.
NOTE
D - PROPERTY AND EQUIPMENT
Property
and equipment as of September 30 is as follows:
|
2007
|
||
|
Property
and Equipment
|
$ 819,421
|
|
|
Less
accumulated depreciation and amortization
|
(588,303)
|
|
|
Net
property and
equipment
|
$ 231,118
|
NOTE
E – NOTE PAYABLE TO SOLE STOCKHOLDER
On
December 31, 2006, the Company received $2,000,000 of debt financing in
the form
of a note with its sole stockholder. Interest is stated at 4.7% per
annum and the note and accrued interest is due upon demand. There are
no financial covenants or collateral associated with this note.
NOTE
F – SUBSEQUENT EVENT
On
November 13, 2007, the Company and ISCO International, Inc. (“ISCO”), entered
into a Plan of Merger, pursuant to which ISCO would acquire the Company
(the
“Merger”).
Pursuant
to the Merger Agreement, ISCO would issue up to an aggregate of 40.0
million
shares of ISCO common stock (closing common stock price was $0.24 as
of November
13, 2007) in exchange for all of the Company’s stock. Of the total
number of shares ISCO may issue in the merger, 20.0 million shares would
be
issuable upon closing (subject to adjustment if the amount of total liabilities
on Clarity’s closing balance sheet, subject to certain exceptions, exceeds $1.5
million), 2.5 million shares would be issuable on each of the first and
second
anniversaries of closing (subject any indemnification claims pursuant
to the
Merger Agreement) and 3.75 million shares would be issuable on each of
the first
dates on which ISCO’s equity market capitalization first equals or exceeds
$125,000,000, $175,000,000, $225,000,000 and $275,000,000 within the
three year
period after closing of the Merger for at least 40 of the 45 consecutive
trading
days ISCO’s market capitalization equals such
thresholds.
In
the event the Merger is completed, the
participants in the Phantom Stock Plan are eligible to receive benefits.
The sole stockholder would receive approximately 65% of the shares
issued in
connection with the Merger while the Phantom Stock Plan participants
would
receive approximately 35% of the shares issued in connection with the
Merger.
During
2007, the Company entered into a credit line
arrangement with American Chartered Bank. The first draw on this credit
line took place during October 2007. As of November 30, 2007,
approximately $0.6 million had been drawn on this credit line.
The
cost
of this proxy solicitation will be borne by ISCO. The regular
employees of ISCO may solicit proxies in person or by telephone or
facsimile. ISCO may request banks, brokers, fiduciaries, custodians,
nominees and certain other record holders to send proxies, proxy statements
and
other materials to their principals at the ISCO’s expense. Such
banks, brokers, fiduciaries, custodians, nominees and other record holders
will
be reimbursed by ISCO for their reasonable out-of-pocket expenses of
solicitation.
With
respect to ISCO’s 2008 Annual Meeting of Stockholders, ISCO intends to mail next
year’s Proxy Statement to our stockholders on or about April 30,
2008. Applicable law requires any stockholder proposal intended to be
presented at our 2008 Annual Meeting of Stockholders to be received by us at
our
executive offices in Elk Grove Village, Illinois on or before January 30, 2008
in order to be considered for inclusion in our Proxy Statement and form of
proxy
for that annual meeting.
With
respect to ISCO’s 2008 Annual Meeting of Stockholders, if ISCO is not provided
notice of a stockholder proposal, which the stockholder has not previously
sought to include in ISCO’s Proxy Statement, by January 30, 2008 then the
management proxies will be allowed to use their discretionary voting authority
when the proposal is raised at the meeting, without any discussion of the matter
in the Proxy Statement.
The
total
amount estimated to be spent in connection with the solicitation of security
holders is approximately $100,000.
We
file
annual, quarterly and current reports, proxy statements and other information
with the SEC. You may read and copy any document we file at the SEC’s
public reference room located at: Judiciary Plaza Room 1024, 450 Fifth Street,
N.W., Washington, DC 20549. You can request copies of these documents
by writing to the Public Reference Section of the SEC, 450 Fifth Street, N.W.,
Washington, DC 20549 or by calling the SEC at 1-800-SEC-0330. Our SEC
filings are also available at the SEC’s website at
http://www.sec.gov. This website address is included in this document
as an inactive textual reference only.
You
may
also obtain information about us, including copies of our SEC reports, through
our website at http://www.iscointl.com. This website address is
included in this document as an inactive textual reference only. Any
documents, references, links or other materials of any kind contained or
referred to on such website are not part of this Proxy Statement.
You
should rely on the information contained in this Proxy Statement to vote on
the
Proposals. We have not authorized anyone to provide you with
information that is different from what is contained in this Proxy
Statement. You should not assume that the information contained in
the Proxy Statement is accurate as of any date other than the date hereof,
and
the mailing of this proxy statement to our stockholders shall not create any
implication to the contrary.
In
addition, if you have questions about the Special Meeting or would like
additional copies of this Proxy Statement or any of our other filings with
the
SEC at no cost to you, you should contact our Corporate Secretary, Frank
Cesario, 1001 Cambridge Drive, Elk Grove Village, Illinois 60007, telephone
(847) 391-9400.
Our
Board
of Directors does not intend to bring any other matters before the Special
Meeting and has no reason to believe any other matters will be
presented. If other matters properly do come before the Special
Meeting, however, it is the intention of the persons named as proxy agents
in
the enclosed proxy card to vote on such matters as they deem appropriate.
ISCO
INTERNATIONAL, INC.
|
þ
|
Please
mark your votes as in this example.
|
FOR
|
AGAINST
|
ABSTAIN
|
||
|
1.
|
To
approve the merger of ISCO International, Inc. with Clarity Communication
Systems Inc. and the issuance of shares of our common stock to Jim
Fuentes
and the issuance of shares of our common stock from our 2003 Equity
Incentive Plan, as amended to Clarity Rightsholders to satisfy certain
employee rights and interests, as described in the Proxy
Statement.
|
o | o | o | ||
|
2.
|
To
increase the number of authorized shares of common stock permitted
by our
certificate of incorporation, as described in the Proxy
Statement.
|
o | o | o | ||
|
3.
|
To
approve the increase in the amount of shares of common stock available
under the Plan, as described in the Proxy Statement.
|
o | o | o | ||
|
4.
|
To
approve the issuance of shares of common stock upon the conversion
of
notes issued in accordance with our debt restructuring in June 2007,
as
described in the Proxy Statement.
|
o | o | o | ||
|
In
their discretion, the proxies are authorized to vote on such other
business as may properly come before the meeting or any adjournments
thereof, if necessary or appropriate, to solicit additional proxies
if
there are insufficient votes at the time of the special meeting to
adopt
any of the Proposals.
|
o | o | o |
The
undersigned hereby appoints Mr. Ralph Pini and Mr. Frank Cesario and either
of
them as proxies, each with power of substitution, and hereby authorizes them
to
represent the undersigned and to vote, as designated below, all the shares
of
common stock held of record by the undersigned on November 30, 2007 at the
Special Meeting of Stockholders of ISCO International, Inc. described in the
Proxy Statement, or at any adjournment or postponement thereof, upon the matters
set forth in the Notice of Special Meeting of Stockholders and Proxy Statement,
receipt of which is hereby acknowledged.
Attendance
of the undersigned at the meeting, or at any adjournment or postponement
thereof, will not be deemed to revoke this proxy unless the undersigned shall
affirmatively indicate at such meeting or session the intention of the
undersigned to vote said share(s) in person. If the undersigned
hold(s) any of the shares of the Company in a fiduciary, custodial or
joint capacity or capacities, this proxy is signed by the undersigned in every
such capacity, as well as individually.
PLEASE
MARK, SIGN, DATE AND RETURN THE PROXY CARD PROMPTLY USING THE ENCLOSED
ENVELOPE.
SIGNATURE
______________________________ DATE:
__________________________
SIGNATURE
______________________________ DATE:
__________________________
Note: Please
sign name(s) exactly as appearing hereon. When signing as attorney,
executor, administrator or other fiduciary, please give your full title as
such. Joint owners should each sign personally. When
signing as a corporation or a partnership, please sign in the name of the entity
by an authorized person.
Please
check this
box if you plan to attend the meeting.
PROXY
ISCO
INTERNATIONAL, INC.
1001
CAMBRIDGE DRIVE – ELK GROVE VILLAGE, ILLINOIS 60007
THIS
PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS
PROXY
FOR THE DECEMBER 27, 2007 SPECIAL MEETING OF
STOCKHOLDERS
On
behalf
of the board of directors, I cordially invite you to attend a Special Meeting
of
Stockholders of
ISCO
International, Inc., to be held at 10:00 am central time on Thursday, December
27, 2007, at the Marriott Suites Chicago O’Hare, 6155 North River Road,
Rosemont, IL 60018.
The
matters that we expect will be acted upon at the meeting are described in the
attached Proxy Statement.
THE
BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT STOCKHOLDERS VOTE “FOR”
ALL
OF
THE PROPOSALS IN THE PROXY STATEMENT.
THIS
PROXY, WHEN PROPERLY EXECUTED, WILL BE VOTED IN THE MANNER DIRECTED HEREIN
BY
THE UNDERSIGNED STOCKHOLDER. IF NO DIRECTION IS MADE AS TO ANY
PARTICULAR ITEM, THIS PROXY WILL BE VOTED “FOR” THE PROPOSALS LISTED ON THIS
PROXY CARD.
It
is
important that your shares be represented whether or not you are able to be
present at the Special Meeting. Please sign and date the enclosed
proxy card and promptly return it to us in the enclosed postage paid
envelope.
Your
vote
is very important, regardless of the amount of stock that you own.
We
believe your support for the proposals described in the Proxy Statement is
essential for us to continue with our business strategy. Please
return your proxy card as soon as possible.
Appendix
F –ISCO International, Inc. Annual Report on Form 10-K
for the Year Ended December 31, 2006
AGREEMENT
AND PLAN OF MERGER
BY
AND AMONG
ISCO
INTERNATIONAL, INC.
ISCO
ILLINOIS, INC.
CLARITY
COMMUNICATION SYSTEMS INC.
AND
JAMES
FUENTES
(FOR
HIMSELF AND AS REPRESENTATIVE OF THE RIGHTSHOLDERS)
DATED
AS OF NOVEMBER 13, 2007
TABLE
OF CONTENTS
Page
AGREEMENT
AND PLAN OF MERGER 1
RECITALS 1
ARTICLE
I
DEFINITIONS 2
1.1. Certain
Definitions.2
1.2. List
of Additional Defined Terms.9
ARTICLE
II THE MERGER 11
2.1. The
Merger.11
2.2. Effective
Time of the Merger.12
2.3. Closing;
Closing Deliveries.12
2.4. Articles
of Incorporation and Bylaws of the Surviving Corporation.14
2.5. Directors
and Officers.15
2.6. Effect
on Capital Stock and Rights and Enhanced Benefits.15
2.7. At-Risk
Plan.19
2.8. Further
Action.20
2.9. Reorganization
Status.20
2.10. Rightsholder
Notes.20
ARTICLE
III REPRESENTATIONS AND WARRANTIES OF THE COMPANY 20
3.1. Organization.20
3.2. Capitalization.21
3.3. Authority;
No Conflict; Necessary Consents.21
3.4. Financial
Statements.23
3.5. Absence
of Certain Changes or Events.23
3.6. Taxes.25
3.7. Title
to Properties.27
3.8. Intellectual
Property.28
3.9. Restrictions
on Business Activities.32
3.10. Governmental
Authorizations.32
3.11. Litigation.32
3.12. Compliance
with Laws.33
3.13. Environmental
Matters.33
3.14. Brokers’
and Finders’ Fees.33
3.15. Related
Party Transactions.33
3.16. Employee
Benefit Plans and Compensation.33
3.17. Contracts.36
3.18. Insurance.38
3.19. Accounts
Receivable.38
3.20. Warranties;
Products Liability.39
3.21. Customers.39
3.22. Suppliers.39
3.23. Labor
and Employment.39
3.24. Export
Control Laws.41
3.25. Foreign
Corrupt Practices Act.41
3.26. Powers
of Attorney.42
3.27. Change
of Control; Severance; Bonus Payments.42
3.28. Financial
Projections.42
3.29. Books
and Records.42
3.30. Tax
Advice.42
3.31. Disclosures.42
ARTICLE
IV REPRESENTATIONS AND WARRANTIES OF PARENT AND MERGER
SUBSIDIARY 43
4.1. Organization;
Good Standing; Capitalization of Merger Subsidiary.43
4.2. Authority;
No Conflict; Necessary Consents.43
4.3. Capitalization.44
4.4. Availability
of Funds.44
4.5. Litigation.44
4.6. SEC
Filings.45
4.7. Brokers’
and Finders’ Fees.45
4.8.Parent’s
and Merger Subsidiary’s Acknowledgement Regarding Forward-Looking
Statements. 45
4.9. Compliance
with Laws.45
4.10. Issuance
of Shares.46
ARTICLE
V
CONDUCT OF BUSINESS PRIOR TO THE EFFECTIVE TIME 46
5.1. Conduct
of Business by the Company Prior to Closing.46
5.2. Control
of Business.50
ARTICLE
VI ADDITIONAL AGREEMENTS 50
6.1. No
Solicitation.50
6.2.Confidentiality;
Access to Information; No Modification of Representations, Warranties or
Covenants. 50
6.3. Public
Disclosure.51
6.4. Regulatory
Filings.52
6.5. State
Anti-Takeover Law.52
6.6. Third-Party
Consents.52
6.7. Notification
of Certain Matters.52
6.8. Rights
and Enhanced Benefits.53
6.9. Indebtedness;
Releases.54
6.10. Resignations.54
6.11. Rightsholders
Agreements.54
6.12. Meeting
of Parent Stockholders.54
6.13. Proxy
Statement and Registration Statement.55
6.14. AMEX
Listing.56
6.15. Tax
Matters.56
6.16. Satisfaction
of Obligations; Termination or Exchange of Certain
Agreements
and Plans. 57
6.17. Company
Transaction Expenses.58
6.18. Affiliates.58
6.19. Authorized
Shares.58
6.20. Additional
Actions; Further Assurances.58
6.21. Section 16
of the Exchange Act.59
6.22. Tax-Free
Reorganization Status.59
ARTICLE
VII CONDITIONS TO THE MERGER 59
7.1. Conditions
to the Obligations of Each Party to Effect the Merger.59
7.2.Additional
Conditions to the Obligations of Parent and Merger
Subsidiary. 60
7.3. Additional
Conditions to the Obligations of the Company and Seller.62
ARTICLE
VIII TERMINATION, AMENDMENT AND WAIVER 63
8.1. Termination.63
8.2. Notice
of Termination; Effect of Termination.64
8.3. Amendment.65
8.4. Extension;
Waiver.65
ARTICLE
IX INDEMNIFICATION 65
9.1. Survival
of Representations and Warranties.65
9.2. Indemnification
of Parent Indemnified Parties.65
9.3. Limitation
on Indemnification; Mechanics.67
9.4. Indemnification
Procedures – Non-Third Party Claims.69
9.5. Indemnification
Procedures – Third Party Claims.69
9.6. Other
Reductions in Indemnity Payments.70
9.7. No
Contribution.71
9.8. Effect
of Investigation.71
9.9. Subrogation.71
9.10. Exclusive
Remedies.71
9.11. No
Double Recovery.72
9.12. Mitigation.72
ARTICLE
X
GENERAL PROVISIONS 72
10.1. No
Other Representations and Warranties.72
10.2. Notices.72
10.3. Interpretation.73
10.4. Counterparts.73
10.5. Attorneys’
Fees.74
10.6. Entire
Agreement; Third-Party Beneficiaries.74
10.7. Severability.74
10.8. Other
Remedies; Specific Performance.74
10.9. Expenses.74
10.10. Rules
of Construction.74
10.11. Assignment.75
10.12. Time.75
10.13. Governing
Law; Jurisdiction.75
10.14. Waiver
of Jury Trial.75
ARTICLE
XI THE REPRESENTATIVE 76
11.1. Authorization.76
11.2. Reliance.76
11.3. Compensation;
Exculpation.76
11.4. Expenses76
Exhibits
and Schedules
Exhibit
A Allocation
Schedule
Exhibit
B Form
of Employment Agreement
Exhibit
C Form
of Registration Rights Agreement
Exhibit
D Form
of Affiliate Letter
Exhibit
E Form
of Confidentiality, Non-Competition and Intellectual Property
Agreement
Exhibits
F-1
and
F-2 Forms
of Phantom Stock Plan/At-Risk Acknowledgement
Exhibit
G Form
of Restricted Stock Award Agreement
Exhibit
H Financial
Statements Certificate
Schedule
2.3(c)(v) delivered prior to Closing
Company
Disclosure Letter
Parent
Disclosure Letter
AGREEMENT
AND PLAN OF MERGER
THIS
AGREEMENT AND PLAN OF MERGER (this “Agreement”) is made and entered into as of
November 13, 2007, by and among ISCO International, Inc., a Delaware corporation
(“Parent”), ISCO Illinois, Inc., an Illinois corporation and a direct
wholly-owned subsidiary of Parent (“Merger Subsidiary”), Clarity Communication
Systems Inc., an Illinois corporation (the “Company”), and for the purposes
described herein, James Fuentes (“Seller”), for himself and as the
representative (the “Representative”) of the Rightsholders (as defined
herein).
RECITALS
WHEREAS,
Seller is the sole holder of all the shares of the Company’s issued and
outstanding capital stock;
WHEREAS,
the Company has implemented (i) a Nonqualified Phantom Stock Plan (the “Company
Rights Plan”) pursuant to which holders (individually, a “Rightsholder” and
collectively, the “Rightsholders”) of rights (“Rights”) are each entitled to
receive upon a change of control of the Company a payout of such consideration
received by the Company or its affiliates in such change of control in the
allocations set forth next to each such Rightsholder’s name listed on the
Allocation Schedule and (ii) an At-Risk Compensation Plan (the “At-Risk Plan”)
pursuant to which Seller and certain Rightsholders have each agreed to suspend
receipt of their respective salaries for employment with the Company in exchange
for an amount equal to their accrued suspended salary (the “Suspended Salary”)
in cash plus an equal amount to be paid in equity securities (the “Enhanced
Benefit”) received in an acquisition of the Company in the amounts set forth
next to Seller and each such Rightsholder’s name listed on the Allocation
Schedule;
WHEREAS,
it is proposed that the acquisition of the Company by Merger Subsidiary be
accomplished by the merger of Merger Subsidiary with and into the Company,
with
the Company being the Surviving Corporation, in accordance with the applicable
provisions of Illinois Law;
WHEREAS,
the Company, prior to the Closing Date, may issue a note to each Rightsholder
(the “Rightsholder Notes”) in partial satisfaction of their respective Rights
under the Company Rights Plan and in full satisfaction of their respective
Enhanced Benefits under the At-Risk Plan (to the extent
applicable).
WHEREAS,
each share of the capital stock and all other outstanding securities of the
Company will thereupon be cancelled and converted into the right to receive
the
consideration as set forth herein, all upon the terms and subject to the
conditions set forth herein;
WHEREAS,
Parent, Merger Subsidiary, the Company and Seller desire to make certain
representations, warranties, covenants and agreements in connection with the
Merger and also to prescribe various conditions to the Merger;
WHEREAS,
the boards of directors of Parent, Merger Subsidiary and the Company deem it
advisable and in the best interest of their respective stockholders to
consummate the transactions contemplated by this Agreement on the terms and
subject to the conditions provided for herein and have each approved, in
accordance with applicable provisions of Applicable Law, this Agreement and
the
transactions contemplated hereby, including the acquisition of the Company
by
Parent through the Merger;
WHEREAS,
Seller, as the Company’s sole stockholder, upon recommendation of the board of
directors of the Company, has approved this Agreement and the
Merger;
WHEREAS,
Seller is a also a director of Parent and as a result, Parent has created a
special committee that has reviewed, negotiated and recommended to the full
board of directors of Parent that Parent approve the terms and conditions of
the
Merger set forth in this Agreement and the transactions contemplated
hereby;
WHEREAS,
in accordance with AMEX rules on related party transactions, the Audit Committee
of the board of directors of Parent has approved the Merger and the transactions
contemplated hereby and recommended to the full board of directors of Parent
that Parent approve the terms and conditions of the Merger set forth in this
Agreement and the transactions contemplated hereby;
WHEREAS,
in accordance with AMEX rules, as well as Parent’s charter documents and equity
incentive plan documents, the board of directors of Parent has resolved to
submit to Parent’s stockholders for their approval (i) an increase in the number
of shares of Parent Common Stock available for issuance under its certificate
of
incorporation, as amended, (ii) an increase in the number of shares available
for issuance under Parent’s 2003 Equity Incentive Plan, as amended, (iii) this
Agreement and the Merger and the issuance of the shares of Parent Common Stock
to make the Payments pursuant to the Agreement (collectively, the “Parent
Stockholder Approval”); and
WHEREAS,
the Merger is intended to constitute a “reorganization” within the meaning of
Code Section 368(a), and this Agreement sets forth a “plan of reorganization”
within the meaning of Treas. Reg. §§ 1.368-2(g) and 1.368-3.
NOW,
THEREFORE, in consideration of the foregoing premises and the representations,
warranties, covenants and agreements set forth herein, as well as other good
and
valuable consideration, the receipt and sufficiency of which are hereby
acknowledged and accepted, and intending to be legally bound hereby, Parent,
Merger Subsidiary, the Company and Seller hereby agree as follows:
ARTICLE
I
DEFINITIONS
1.1. Certain
Definitions. For all purposes of and under this Agreement, the
following capitalized terms shall have the following respective
meanings:
“Acquisition
Proposal” shall mean, whether directly or indirectly solicited or unsolicited by
the Company or Seller, any offer, proposal or any third party indication of
interest or intent relating to any transaction or series of related transactions
involving a merger, consolidation, share exchange, business combination, sale
of
a majority or all the assets of, sale of shares of capital stock of the Company
or similar transaction or any combination of the foregoing involving the Company
(other than the transactions contemplated by this Agreement and the issuance
of
shares of capital stock pursuant to the Rights outstanding on the date of this
Agreement).
“Affiliate”
shall mean, with respect to any Person, any other Person which directly or
indirectly controls, is controlled by or is under common control with such
Person. For purposes of the immediately preceding sentence, the term “control”
(including, with correlative meanings, the terms “controlling,” “controlled by”
and “under common control with”), as used with respect to any Person, means the
possession, directly or indirectly, of the power to direct or cause the
direction of the management and policies of such Person, whether through
ownership of voting securities, by contract or otherwise.
“Allocation
Schedule” shall mean a schedule, attached hereto as Exhibit A, setting forth (a)
the amount of Suspended Salary owing to each beneficiary under the At-Risk
Plan,
(b) the number of shares of Parent Common Stock to be paid to satisfy the
Enhanced Benefits owing to each beneficiary under the At-Risk Plan, (c) the
number of Shares of Parent Common Stock allocated to Seller and each
Rightsholder at Closing, (d) the number of First Time-Based Shares allocated
to
Seller and each Rightsholder, (e) the number of Second Time-Based Shares
allocated to Seller and each Rightsholder, (f) the number of Market-Based Shares
allocated to Seller and each Rightsholder, and (g) Seller’s and each
Rightsholder’s Indemnification Percentage (in each case, as such amounts and
percentages may be updated from time to time in accordance with Section
2.6(h)).
“AMEX”
shall mean the American Stock Exchange.
“Applicable
Law” shall mean any and all applicable federal, state, local, municipal, foreign
or other law, statute, treaty, constitution, principle of common law, ordinance,
code, edict, decree, directive, published guidance, order, rule, regulation,
ruling or requirement issued, enacted, adopted, promulgated, implemented or
otherwise put into effect by or under the authority of any Governmental
Authority.
“Business
Day” shall mean any day, other than a Saturday, Sunday and any day which is a
legal holiday under the laws of the State of Illinois.
“Change
of Control” shall mean, except as to a transaction or series of transactions
relating to or involving Parent’s existing lenders or any Affiliates thereof,
any of the following:
(a) the
sale, lease, transfer, conveyance or other disposition, in one or a series
of
related transactions, of all or substantially all of the assets of Parent and
its Subsidiaries, taken as a whole, to any “person” (as such term is used in
Section 13(d)(3) of the Exchange Act);
(b) any
transaction (including, without limitation, any merger or consolidation) the
result of which is that any “person” (as defined above), becomes the “beneficial
owner” (as such term is defined in Rule 13d-3 and Rule 13d-5 under the Exchange
Act, except that a person shall be deemed to have “beneficial ownership” of all
securities that such person has the right to acquire, whether such right is
currently exercisable or is exercisable only upon the occurrence of a subsequent
condition), directly or indirectly, of more than 50% of the capital stock of
Parent (measured by voting power rather than number of shares); or
(c) the
consolidation of Parent with, or merging of Parent with or into, any Person,
or
the consolidation of any Person with, or the merging of any Person with or
into,
Parent, in any such event pursuant to a transaction in which any of the
outstanding capital stock of Parent is converted into or exchanged for cash,
securities or other property, other than any such transaction where the capital
stock of Parent outstanding immediately prior to such transaction is converted
into or exchanged for capital stock of the surviving or transferee Person
constituting a majority of the outstanding shares of such capital stock of
such
surviving or transferee Person (immediately after giving effect to such
issuance).
“Closing
Balance Sheet” shall mean a balance sheet of the Company dated as of the Closing
Date prepared in a manner consistent with the Company’s past accounting
practices and will be accompanied by a certification of the Company’s Chief
Executive Officer that the Closing Balance Sheet presents fairly, completely
and
accurately the Company’s assets, liabilities and working capital of the Company
as of the Closing Date.
“Code”
shall mean the Internal Revenue Code of 1986, as amended.
“Company
Common Stock” shall mean the class of common stock, par value $1.00 per share,
of the Company.
“Company
Material Adverse Effect” shall mean any change, circumstance, development,
effect, event, fact or occurrence that, individually, or when taken together
with all such other changes, circumstances, developments, effects, events,
facts
or occurrences that exist or have occurred prior to the date of determination
of
the Company Material Adverse Effect, has caused, resulted in or had, or is
reasonably likely to cause, result in or have, a material and adverse effect
on
the assets (whether real, personal or mixed, tangible or intangible), business,
financial condition or results of operations of the Company excluding changes,
circumstances, developments, effects, events, facts or occurrences directly
or
indirectly resulting from (a) matters generally affecting the businesses in
which the Company operates, (b) matters generally affecting the economy of
the
United States and/or any country in which the Company sells products or
services, (c) military action or any act of terrorism, (d) the disclosure of
the
transactions contemplated by this Agreement, (e) changes in Applicable Law,
(f)
changes in accounting rules or requirements or the interpretation thereof,
or
(g) compliance with terms of this Agreement or the consummation of the
transactions contemplated by this Agreement (including the taking of any action
expressly required by this Agreement or acts or omissions of the Company or
Seller or any of their Affiliates taken with the prior written consent of
Parent).
“Contract”
shall mean any contract, subcontract, agreement, commitment, note, bond,
mortgage, indenture, lease, license, sublicense, permit, franchise or other
instrument, obligation or binding arrangement or understanding of any kind
or
character, whether oral or in writing.
“Credit
Line” shall mean that certain line of credit by and between the Company and
American Chartered Bank dated July 16, 2007.
“Delaware
Law” shall mean the General Corporation Law of the State of Delaware and any
other applicable law of the State of Delaware.
“Employees”
shall mean all employees of the Company as of the date hereof and at the Closing
Date.
“Environmental
Law” shall mean any and all Applicable Law relating to occupational safety and
health, the environment, or emissions, discharges or releases of Hazardous
Substances into the environment, including ambient air, surface water,
groundwater or land, or otherwise relating to the handling of Hazardous
Substances or the investigation, clean-up or other remediation
thereof.
“Environmental
Matters” shall mean any liability or obligation arising under Environmental Law,
whether arising under theories of contract, tort, negligence, successor or
enterprise liability, strict liability or other legal or equitable theory,
including (i) any failure to comply with an applicable Environmental Law or
Environmental Permit and (ii) any liability or obligation arising from the
manufacture, processing, distribution, treatment, storage, disposal, transport,
presence of, release or threatened release of, or exposure of persons or
property to, Hazardous Substances.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“First
Year Cap” shall mean (a) the lesser of (x) $3,000,000 and (y) 75%
of Seller’s Total Share Value, minus (b) the aggregate value of
Time-Based Shares already used to satisfy prior indemnification claims by Parent
Indemnified Parties pursuant to the terms of this Agreement.
“Governmental
Authority” shall mean any supranational, national, state, municipal, local or
foreign government, any instrumentality, subdivision, court, administrative
agency or commission or other governmental authority or instrumentality, or
any
quasi-governmental or private body exercising any regulatory, taxing, importing
or other governmental or quasi-governmental authority.
“Hazardous
Substance” shall mean any “hazardous substance,” “hazardous waste,” “pollutant,”
“contaminant” or “toxic substance” (as defined or regulated by any Environmental
Law, including the Comprehensive Environmental Response, Compensation and
Liability Act, 42 U.S.C. Section 9601 et seq., the Resources Conservation and
Recovery Act, 42 U.S.C. Section 6901 et seq., the Clean Water Act, 33 U.S.C.
Section 1251 et seq., the Clean Air Act, 42 U.S.C. Section 7401 et seq., or
the
Toxic Substances Control Act, 15 U.S.C. Section 2601 et seq., and regulations
promulgated thereunder, or any analogous state and local laws and regulations),
petroleum and petroleum products, polychlorinated biphenyls or
asbestos.
“Illinois
Law” shall mean the Business Corporation Act of Illinois and any other
applicable law of the State of Illinois.
“Indebtedness”
shall mean an amount equal to, as of the Closing Date, the then outstanding
principal of, and accrued and unpaid interest on, and any premiums, prepayment
fees and penalties due upon prepayment and full satisfaction of, all bank or
other third party indebtedness for borrowed money of the Company, including
the
Seller’s Note, indebtedness under any bank credit agreement and any other
related agreements but excluding all amounts due after the Closing Date under
capital and operating leases and trade payables.
“Indemnification
Percentage” shall mean, with respect to Seller and each Rightsholder, a
percentage equal to (a) the number of Time-Based Shares allocated to such Person
pursuant to the Allocation Schedule as of the Closing, divided by (b) 5,000,000;
provided, however, that if Seller or one or more Rightsholders forfeit shares
of
Parent Common Stock pursuant to the terms set forth herein, with respect to
Seller or of such Rightsholders’ Restricted Stock Agreement, then the
Indemnification Percentage for Seller and each remaining Rightsholder shall
be
adjusted so that it equals (1) the number of Time-Based Shares allocated to
Seller or such Rightsholder as set forth on the Allocation Schedule that have
not then (x) vested in accordance with Section 2.6 or (y) been used to satisfy
indemnification claims in accordance with Section 9.2(b), divided by (2) the
total number of Time-Based Shares that have not then (x) vested in accordance
with Section 2.6, (y) been used to satisfy indemnification claims in accordance
with Section 9.2(b) or (z) been forfeited by Seller or a Rightsholder, as
applicable.
“Key
Employee” shall mean Seller, Bill Jenkins and Dennis Hansen.
“Knowledge”
shall mean with respect to the Company, with respect to any matter in question,
the actual knowledge of James Fuentes or any other Key Employee.
“Legal
Proceedings” shall mean any action, claim, suit, litigation, proceeding (public
or private), criminal prosecution, audit or investigation by or before any
Governmental Authority.
“Liability”
or “Liabilities” shall mean all indebtedness, obligations and other liabilities,
whether direct or indirect, and any loss, damage (including direct, incidental,
consequential and special damages), cost, deficiency, Lien, penalty, fine,
cost
or expense (including any litigation expenses), or any diminution in value
of
any real or personal property (excluding any depreciation), or contingent
liability, loss contingency, unpaid expense, claim, guaranty or endorsement
(other than endorsements for deposits or collection of checks in the ordinary
course of business).
“Lien”
shall mean any lien, pledge, hypothecation, charge, mortgage, security interest,
encumbrance, claim, option, right of first refusal, preemptive right, community
property interest or restriction of any nature (including any restriction on
the
voting of any security, any restriction on the transfer of any security or
other
asset, any restriction on the possession, exercise or transfer of any other
attribute of ownership of any asset).
“Market
Price” shall mean the price per share of Parent Common Stock determined as
follows:
(a) If
the Parent Common Stock is listed for trading on one or more securities
exchanges, the closing price or last price per share of the Parent Common Stock
on the principal securities exchange on which the Parent Common Stock is then
listed for trading.
(b) If
the Parent Common Stock is not listed for trading on a securities exchange
on
such date but is traded in the over-the-counter market, then the average of
the
closing bid and ask prices per share for the Parent Common Stock in the
over-the-counter market as reported by Bloomberg or, if no closing bid and
ask
prices are reported for the Parent Common Stock by Bloomberg, the average of
the
bid and ask prices per share of the market makers for such security as reported
in the “pink sheets” by Pink Sheets LLC or its successor.
(c) If
the Parent Common Stock is not publicly traded on such date, then as the
Representative and Parent agree, or in the absence of such an agreement, by
arbitration in accordance with the rules then standing of the American
Arbitration Association, before a single arbitrator to be chosen by the
Representative and Parent from a panel of persons qualified by education and
training to pass on the matter to be decided.
“Non-Continuing
Rightsholders” shall mean the following Rightsholders who will not be continuing
employment with Parent or the Surviving Corporation following the Closing Date:
Dennis Johnson, Dan Kennelly, Gerald L. Zielinski, Jo-Fang Hsueh, Terry Piatak,
and Mike Foley.
“Parent
Common Stock” shall mean the class of common stock, par value $0.001 per share
of Parent.
“Parent’s
Total Equity Market Capitalization” as of any date shall mean the product of (A)
the Market Price multiplied by (B) the sum of (i) the total number of shares
of
Parent Common Stock issued and outstanding on such date plus (ii) the total
number of shares of Parent Common Stock issuable upon the conversion or exercise
of options or warrants convertible into or exercisable for Parent Common
Stock.
“Payments”
shall mean the Initial Merger Consideration, the Contingent Merger
Consideration, the Initial Rights Payments, the Contingent Rights Payments,
and
the Enhanced Benefits, as may be adjusted from time to time pursuant to the
terms of this Agreement.
“Person”
shall mean any individual, corporation (including any non-profit corporation),
general partnership, limited partnership, limited liability partnership, joint
venture, estate, trust, company (including any limited liability company or
joint stock company), firm or other enterprise, association, organization,
entity or Governmental Authority.
“Pre-Closing
Tax Period” shall mean all taxable periods ending on or before the Closing Date
and the portion through the end of the Closing Date for any taxable period
that
includes (but does not end on) the Closing Date.
“Related
Party Transaction” shall mean any transaction, agreement, relationship,
arrangement, or understanding between the Company and any stockholder, director,
officer or other Affiliate of the Company, or any immediate family member of
a
stockholder, director, officer or Affiliate of the Company with respect to
or
involving (a) any property, real or personal, or right, tangible or intangible
(including Company Intellectual Property), which is used in the business of
the
Company, (b) any money owed to the Company or money owed by the Company or
any
Affiliate, (c) any contract or other arrangement, written or oral, with the
Company, other than as an at-will employee, or (d) any direct or indirect
interest in any Company Material Contract.
“Restricted
Stock Award Agreements” shall mean the Restricted Stock Award Agreements to be
executed after the Closing by each Rightsholder in substantially the form
attached hereto as Exhibit G in connection with the issuance of the Contingent
Rights Payments.
“SEC”
shall mean the United States Securities and Exchange Commission, or any
successor thereto.
“Second
Year Cap” shall mean (a) the lesser of (x) $2,000,000 and (y) 50%
of Seller’s Total Share Value, minus (b) the aggregate value of
Time-Based Shares already used to satisfy prior indemnification claims by Parent
Indemnified Parties pursuant to the terms of this Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Seller’s
Liquidated Share Value” shall mean the aggregate amount of net proceeds (i.e.
after applicable taxes and commissions, if any) received by Seller from the
sale
of any shares of Parent Common Stock actually received by Seller pursuant to
the
terms of this Agreement.
“Seller’s
Held Share Value” shall mean the aggregate value of the shares of Parent Common
Stock actually received by Seller pursuant to the terms of this Agreement that
are held by Seller at the time a Three-Year Indemnification Matter is finally
resolved in accordance with the terms of this Agreement, as valued in accordance
with Section 9.2(c) hereof.
“Seller’s
Note” shall mean that certain Promissory Note in the aggregate principal amount
of Two Million Dollars ($2,000,000) by and between Seller and the Company dated
as of December 31, 2006.
“Seller’s
Total Share Value” shall mean (a) Seller’s Liquidated Share Value, plus (b)
Seller’s Held Share Value. For purposes of example only, if (x)
Seller receives 12,000,000 shares of Parent Common Stock pursuant to this
Agreement, Seller sells 2,000,000 shares for net proceeds of $500,000 (z)
Seller’s remaining 10,000,000 shares of Parent Common Stock are worth $3,000,000
at the time the indemnification claim in question is finally resolved as
determined in accordance with this Agreement, then Seller’s Total Share Value
shall equal $3,500,000 (i.e. $500,000 of Seller’s Liquidated Share Value and
$3,000,000 of Seller’s Held Share Value).
“Subsidiary”
shall mean, with respect to any Person, any entity of which securities or other
ownership interests having ordinary voting power to elect a majority of the
board of directors or other persons performing similar functions are at any
time
directly or indirectly owned by such Person.
“Third
Year Cap” shall mean (a) the lesser of (x) $1,000,000 and (y) 25%
of Seller’s Total Share Value, minus (b) the aggregate value of
Time-Based Shares already used to satisfy prior indemnification claims by Parent
Indemnified Parties pursuant to the terms of this Agreement.
“Three-Year
Company Representations” shall mean the representations and warranties of the
Company set forth in Sections 3.2, 3.3(a), 3.3(b)(i), 3.6, and
3.30.
“Time-Based
Shares” shall mean, collectively, the First Time-Based Shares and the Second
Time-Based Shares.
“Transaction
Documents” shall mean this Agreement, the Phantom Stock Plan/At-Risk
Acknowledgements, the Non-Competition Agreements, the Employment Agreement,
the
Restricted Stock Award Agreements, the Registration Rights Agreement, the
Allocation Schedule, and the Affiliate Letter.
“Two-Year
Company Representations” shall mean the representations and warranties of the
Company set forth in Sections 3.1, 3.3(b)(ii), 3.3(b)(iii), 3.3(c) and
3.14.
1.2. List
of Additional Defined Terms. The following capitalized terms shall
have the respective meanings ascribed thereto in the respective sections of
this
Agreement set forth opposite each of the capitalized terms identified
below:
|
Term
|
Defined
in Section
|
|
Affiliate
Letter
|
6.17
|
|
Agreement
|
Preamble
|
|
Articles
of Incorporation
|
2.4
|
|
Articles
of Merger
|
2.2(a)
|
|
At-Risk
Plan
|
Recitals
|
|
Certificate
|
2.6(g)
|
|
Change
of Control Valuation
|
2.6(m)
|
|
Claim
Notice
|
9.4(a)
|
|
Closing
|
2.3(a)
|
|
Closing
Date
|
2.3(a)
|
|
Closing
Reimbursement
|
2.2(c)(v)
|
|
Company
|
Preamble
|
|
Company
Balance Sheet
|
3.4
|
|
Company
Benefit Plan
|
3.16(a)
|
|
Company
Bylaws
|
3.1(b)
|
|
Company
Charter
|
3.1(b)
|
|
Company
Charter Documents
|
3.1(b)
|
|
Company
Disclosure Letter
|
Preamble
to Art. III
|
|
Company
Financials
|
3.4
|
|
Company
Intellectual Property
|
3.8(a)
|
|
Company
Material Contract
|
3.17(a)
|
|
Company
Permits
|
3.10
|
|
Company
Products and/or Services
|
3.8(a)
|
|
Company
Registered Intellectual Property
|
3.8(a)
|
|
Company
Rights Plan
|
Recitals
|
|
Company
Source Code
|
3.8(i)
|
|
Company
Survival Date
|
9.1
|
|
Company
Transaction Expenses
|
2.3(c)(v)
|
|
Contingent
Merger Consideration
|
2.6(d)(ii)
|
|
Contingent
Rights Payments
|
2.6(e)(iii)
|
|
Customer
Information
|
3.8(k)
|
|
Effective
Time
|
2.2(a)
|
|
Employment
Agreement
|
2.3(b)(ii)
|
|
End
Date
|
8.1(b)
|
|
Enhanced
Benefit
|
Recitals
|
|
Environmental
Permits
|
3.13
|
|
ERISA
|
3.16(a)
|
|
ERISA
Affiliate
|
3.16(a)
|
|
Export
Approvals
|
3.24
|
|
FCPA
|
3.25
|
|
Financial
Statements Certificate
|
7.2(l)
|
|
Financials
|
3.4
|
|
First
Time-Based Shares
|
2.6(d)(ii)(A)
|
|
401(k)
Plan
|
6.16(c)
|
|
Fraud
Claim Exception
|
9.3(d)
|
|
GAAP
|
3.4
|
|
Illinois
Secretary of State
|
2.2(a)
|
|
Indemnity
Claim Dispute Notice
|
9.4(b)
|
|
Indemnified
Party
|
9.4(a)
|
|
Indemnitor
|
9.4(b)
|
|
Identified
Payments
|
2.10
|
|
Initial
Merger Consideration
|
2.6(d)(i)
|
|
Initial
Rights Payments
|
2.6(e)(i)
|
|
Intellectual
Property
|
3.8(a)
|
|
Intellectual
Property Rights
|
3.8(a)
|
|
Interim
Financials
|
3.4
|
|
Losses
|
9.2
|
|
Lease
Documents
|
3.7(b)
|
|
Market-Based
Shares
|
2.6(d)(ii)(B)
|
|
Merger
Subsidiary
|
Preamble
|
|
Merger
|
2.1
|
|
Necessary
Governmental Consents
|
3.3(c)
|
|
Non-Competition
Agreements
|
7.2(d)
|
|
Notice
of Third Party Claim
|
9.5
|
|
Open
Source
|
3.8(h)
|
|
Other
Company Representations
|
9.3(c)(i)
|
|
Parent
|
Preamble
|
|
Parent
Disclosure Letter
|
Preamble
to Art. IV
|
|
Parent-Filed
Returns
|
6.15(a)
|
|
Parent’s
401(k) Plan
|
6.16(c)
|
|
Parent
Indemnified Party
|
9.2
|
|
Parent
Indemnified Parties
|
9.2
|
|
Parent
SEC Reports
|
4.6
|
|
Parent
Stockholder Approval
|
Recitals
|
|
Parent
Stockholders’ Meeting
|
6.11
|
|
Pay-Off
Amount
|
2.3(b)(vi)
|
|
Phantom
Stock Plan/At-Risk Acknowledgements
|
7.2(j)
|
|
Plan
|
3.16(a)
|
|
Proxy
Statement
|
6.13
|
|
Real
Property
|
3.7(a)
|
|
Related
Party Transactions
|
3.15
|
|
Relevant
Group
|
3.6(a)(i)
|
|
Representative
|
Preamble
|
|
Required
Consents
|
6.6
|
|
Rights
|
Recitals
|
|
Rightsholder(s)
|
Recitals
|
|
Rightsholder
Notes
|
Recitals
|
|
Second
Time-Based Shares
|
2.6(d)(ii)(A)
|
|
Seller
|
Preamble
|
|
Seller
Cap
|
9.3(a)
|
|
Seller-Filed
Returns
|
6.15(a)
|
|
Seller
Threshold Amount
|
9.3(a)
|
|
Shrink-Wrapped
Code
|
3.8(a)
|
|
Significant
Customer
|
3.21
|
|
Significant
Supplier
|
3.22
|
|
Source
Code
|
3.8(a)
|
|
Surviving
Corporation
|
2.1
|
|
Suspended
Salary
|
Recitals
|
|
Tax
or Taxes
|
3.6(a)(ii)
|
|
Tax
Benefit
|
9.6
|
|
Tax
Return
|
3.6(a)(iii)
|
|
Third
Party Claim
|
9.5
|
|
Three-Year
Indemnification Matters
|
9.3(c)(iii)
|
|
Threshold
Amount
|
9.3(a)
|
|
Threshold
Claim Exceptions
|
9.3(b)
|
|
Title
Claim Exception
|
9.3(d)
|
|
Transfer
Taxes
|
6.15(e)
|
|
WARN
Act
|
3.23(d)
|
ARTICLE
II
THE
MERGER
2.1. The
Merger.Upon the terms and subject to the conditions set forth in this Agreement
and the applicable provisions of Illinois Law, at the Effective Time, Merger
Subsidiary shall be merged with and into the Company (the “Merger”), whereupon
the separate corporate existence of Merger Subsidiary shall thereupon cease
and
the Company shall continue as the surviving corporation of the Merger and a
wholly-owned subsidiary of Parent. (The Company as the surviving
corporation of the Merger, is sometimes hereinafter referred to as the
“Surviving Corporation”). At the Effective Time, the effect of the
Merger shall be as provided in this Agreement and the applicable provisions
of
Illinois Law. Without limiting the generality of the foregoing, at
the Effective Time all the property, rights, privileges, powers and franchises
of the Company and Merger Subsidiary shall vest in the Surviving Corporation,
and all debts, liabilities and duties of the Company and Merger Subsidiary
shall
become the debts, liabilities and duties of the Surviving
Corporation.
2.2. Effective
Time of the Merger.
(a) Upon
the terms and subject to the conditions set forth in this Agreement, on the
Closing Date, Merger Subsidiary shall cause the Merger to be consummated under
Illinois Law by filing articles of merger (“Articles of Merger”) in customary
form and substance with the Secretary of State of the State of Illinois (the
“Illinois Secretary of State”) and make all other filings or recordings required
by Illinois Law in connection with the Merger. The Merger shall
become effective at such time (the “Effective Time”) as the Articles of Merger
are accepted by the Illinois Secretary of State or at such later time as is
specified in the Articles of Merger.
(b) Pursuant
to the transactions contemplated by this Agreement and subject to the terms
and
conditions set forth herein, including Sections 2.6(d) and 2.6(e), and in any
applicable Transaction Document, Parent shall issue up to an aggregate of
40,000,000 shares of Parent Common Stock, including 20,000,000 shares of Parent
Common Stock at Closing, up to an aggregate of 5,000,000 Time-Based Shares
(as
defined in Section 2.6(d)(ii)(A)) and up to an aggregate of 15,000,000 shares
of
Market-Based Shares (as defined in Section 2.6(d)(ii)(B)).
2.3. Closing;
Closing Deliveries.
(a) Closing
Date. The consummation of the Merger (the “Closing”) shall take place
at a closing to occur at the offices of Pepper Hamilton LLP, 600 Fourteenth
Street, N.W., Washington, D.C. 20005, within three Business Days after the
date
on which all conditions to Closing set forth in Article VII have been met or
waived (to the extent that any such condition may be waived under this Agreement
and Applicable Law, and other than those conditions that by their terms are
to
be satisfied at the Closing, but subject to the satisfaction or waiver, to
the
extent permitted by this Agreement and Applicable Law, of such conditions),
or
at such other location, date and time as Parent, Merger Subsidiary and the
Company shall mutually agree upon in writing, with the date upon which the
Closing shall actually occur pursuant hereto being referred to in this Agreement
as the “Closing Date.”
(b) Closing
Obligations and Deliveries – the Company. At the Closing, the Company
shall:
(i) deliver
to Parent a certificate, duly executed by the corporate secretary of the
Company, dated the Closing Date, to the effect that: (A) the Company Charter
Documents attached to such certificate are true, complete and correct, and
were
in full force and effect in the form as attached to such certificate on the
date
of this Agreement and on the Closing Date, (B) a copy of the resolutions of
the
board of directors and Seller, as the Company’s sole stockholder, as attached to
such certificate are true, complete and correct on the date of this Agreement
and on the Closing Date, (C) Seller is the sole holder of record of the shares
of capital stock of the Company, (D) the number of Rights and Enhanced Benefits,
as applicable, set forth next to the name of each Rightsholder and Seller,
as
applicable, set forth on the Allocation Schedule correctly represent the number
of Rights and/or Enhanced Benefits held of record by such Rightsholder or by
Seller, as applicable, on the date of this Agreement and on the Closing Date,
and there are no other Rights or Enhanced Benefits outstanding, (E) the
Allocation Schedule accurately represent the amounts payable to each holder
of
capital stock of the Company, Rights, or Enhanced Benefits in connection with
the transactions contemplated by the Merger based upon the rights and privileges
of the shares of capital stock of the Company, Rights, or Enhanced Benefits
held
by such holder as reflected in the Company Charter Documents (as defined herein)
and other instruments or agreements defining the rights of holders of securities
of the Company, Rights, or Enhanced Benefits, and (F) the officers or officers
of the Company executing this Agreement and the other documents delivered in
connection with the transactions contemplated by this Agreement to be executed
and delivered by the Company are incumbent officers and the signatures on this
Agreement and such documents are their genuine signatures;
(ii) deliver,
or cause to be delivered to Parent, the Employment Agreement (the “Employment
Agreement”) executed by Seller in substantially the form attached hereto as
Exhibit B;
(iii) deliver,
or cause to be delivered to Parent the certificate representing all of the
issued and outstanding shares of the Company’s capital stock owned by
Seller;
(iv) deliver,
or cause to be delivered to Parent, all of the other certificates, resignations,
agreements and releases and other documents and instruments set forth in Article
VII;
(v) deliver,
or cause to be delivered to Parent, the Registration Rights Agreement executed
by Seller; and
(vi) deliver,
or cause to be delivered to Parent, a pay-off letter from American Chartered
Bank setting forth the amount necessary to pay off the Credit Line in full
at
Closing (the “Pay-Off Amount”).
(c) Closing
Obligations and Deliveries - Parent. At the Closing, Parent
shall:
(i) deliver
to Seller certificates representing the Initial Merger Consideration (as defined
herein) in partial consideration for the exchange of all of the shares of
Company Common Stock in the amounts set forth on the Allocation
Schedule;
(ii) deliver
to Seller, certificates representing the Enhanced Benefit (less any withholding)
in the amount set forth on the Allocation Schedule;
(iii) deliver
to the Rightsholders, certificates representing the Initial Rights Payment
(as
defined herein) (less any withholding) to the Rightsholders in the amounts
set
forth on the Allocation Schedule;
(iv) deliver
to the Rightsholders receiving Enhanced Benefits, certificates representing
the
Enhanced Benefits (less any withholding) to certain Rightsholders in the amounts
set forth on he Allocation Schedule;
(v) deliver
to the parties identified on Schedule 2.3(c)(v) pursuant to instructions set
forth thereon an amount in cash up to a maximum of Three Hundred Seventy-Five
Thousand Dollars ($375,000) (the “Closing Reimbursement”) to cover certain of
the Company’s transaction fees and expenses solely and directly related to the
Merger (“Company Transaction Expenses”);
(vi) deliver,
or cause to be delivered to Seller the Employment Agreement executed by
Parent;
(vii) deliver
to Seller a certificate, duly executed by the corporate secretary of Parent,
dated the Closing Date, to the effect that: (A) the copy of the resolutions
of
the board of directors of Parent, the board of directors or managers, as
applicable, of the Merger Subsidiary and Parent, as the sole stockholder or
member, as applicable, of the Merger Subsidiary, attached to such certificate
with respect to the Merger are true, complete and correct and in effect on
the
Closing Date and (B) the officer or officers of Parent executing this Agreement
and the other documents delivered in connection with the transactions
contemplated by this Agreement to be executed and delivered by Parent are
incumbent officers and the signatures on this Agreement and such documents
are
their genuine signatures;
(viii) deliver
to Seller the Registration Rights Agreement executed by Parent; and
(ix) pay
to American Chartered Bank the Pay-Off Amount and deliver to Seller a full
and
unconditional release of Seller’s personal obligations under the Credit Line,
such release to be in form and substance reasonably satisfactory to Seller
and
Parent.
2.4. Articles
of Incorporation and Bylaws of the Surviving Corporation.
At
the
Effective Time, (i) the articles of incorporation (the “Articles of
Incorporation”) of the Surviving Corporation as in effect immediately prior to
the Effective Time shall be amended and restated in their entirety to be
identical to the Articles of Incorporation of Merger Subsidiary as in effect
immediately prior to the Effective Time, until thereafter amended as provided
under Illinois Law and such Articles of Incorporation; provided that Article
I
of the Articles of Incorporation of the Surviving Corporation shall be amended
to read as follows: “The name of the corporation is Clarity Communication
Systems Inc.”, and (ii) the bylaws of Merger Subsidiary as in effect immediately
prior to the Effective Time shall be the bylaws of the Surviving Corporation
(other than any express references to the name of Merger Subsidiary in such
bylaws, which shall be amended to refer to the Surviving Corporation) until
thereafter amended in accordance with Illinois Law and as provided in the
Articles of Incorporation of the Surviving Corporation and such
bylaws.
2.5. Directors
and Officers.
The
directors and officers of Merger Subsidiary immediately prior to the Effective
Time shall be the directors and officers of the Surviving Corporation, each
to
hold such office in accordance with the provisions of Illinois Law and the
Articles of Incorporation and bylaws of the Surviving
Corporation. Notwithstanding the above, other than James Fuentes, no
current officer or director of the Company as of the date hereof shall remain
an
officer and/or director of the Company as of and after the Effective
Time.
2.6. Effect
on Capital Stock and Rights and Enhanced Benefits. Upon the terms and
subject to the conditions of this Agreement, at the Effective Time, and without
any action on the part of Parent, Merger Subsidiary, the Company or the holders
of any shares of capital stock, other securities, Rights or Enhanced Benefits
of
the Company:
(a) Treasury
Stock. All shares of capital stock of the Company, if any, held in
the Company’s treasury shall be cancelled and cease to exist and no cash or
other consideration shall be delivered in exchange therefore.
(b) Subsidiary
and Parent-Owned Stock. All shares of capital stock of the Company,
if any, held by any direct or indirect wholly-owned Subsidiary of the Company
shall be cancelled and cease to exist and no cash or other consideration shall
be delivered in exchange therefor. All shares of capital stock of the
Company, if any, held by Parent, or any direct or indirect wholly-owned
Subsidiary of Parent shall be canceled and cease to exist and no cash or other
consideration shall be delivered in exchange therefore.
(c) Merger
Subsidiary Shares. At the Effective Time, each share of common stock
of Merger Subsidiary outstanding immediately prior to the Effective Time shall
be converted into and become one share of common stock of the Surviving
Corporation with the same rights, powers and privileges as the shares so
converted and shall constitute the only outstanding shares of capital stock
of
the Surviving Corporation, and all of such shares shall be held by
Parent.
(d) Conversion
of Company Securities. In exchange for the cancellation of shares of
Company Common Stock, such shares shall be converted into the right by Seller
to
receive in the Merger the shares of Parent Common Stock allocated to Seller
on
the Allocation Schedule (as updated in accordance with the terms hereof) as
follows:
(i) Initial
Merger Consideration. Subject to the conditions to Closing set forth
herein, at the Effective Time, Seller shall receive the shares of Parent Common
Stock (the “Initial Merger Consideration”) allocated to Seller on the Allocation
Schedule (as updated in accordance with the terms hereof) under the heading
“Closing Shares”.
(ii) Contingent
Merger Consideration. Seller shall be eligible to receive future
consideration in the Merger (the “Contingent Merger Consideration”) as
follows:
(A) Time-Based. Subject
to the conditions set forth herein, on the first anniversary of the Closing
Date, Seller shall receive the shares of Parent Common Stock allocated to Seller
on the Allocation Schedule (as updated in accordance with the terms hereof)
under the heading “First Time-Based Shares” representing his portion of first
time-based shares (the “First Time-Based Shares”) and on the second anniversary
of the Closing Date, Seller shall receive the shares of Parent Common Stock
allocated to Seller on the Allocation Schedule (as updated in accordance with
the terms hereof) under the heading “Second Time-Based Shares” representing his
portion of second time-based shares (the “Second Time-Based
Shares”).
(B) Market-Based. Subject
to the conditions set forth herein, Seller shall receive the shares of Parent
Common Stock allocated to Seller on the Allocation Schedule (as updated in
accordance with the terms hereof) under the heading “Market-Based Shares”
representing his portion of shares of Parent Common Stock issuable if the
thresholds set forth in this Section 2.6(d)(ii)(B) are met (the “Market-Based
Shares”). Twenty-Five Percent (25%) of Seller’s Market-Based Shares
shall become issuable on the first date on which Parent’s Total Equity Market
Capitalization first equals or exceeds each of the following thresholds within
a
three year period from the Closing Date for at least Forty (40) of the
Forty-Five (45) consecutive trading days (and such Market-Based Shares shall
be
issued to Seller within Twenty (20) Business Days of such date):
(1) One
Hundred Twenty-Five Million Dollars ($125,000,000);
(2) One
Hundred Seventy-Five Million Dollars ($175,000,000);
(3) Two
Hundred Twenty-Five Million Dollars ($225,000,000); and
(4) Two
Hundred Seventy-Five Million Dollars ($275,000,000).
(e) Further
Obligations With Respect to Rights and Enhanced Benefits. Subject to
the conditions set forth herein and in Restricted Stock Award Agreements or
Phantom Stock Plan/At-Risk Acknowledgements, as applicable, executed by Parent
and Rightsholders pursuant to which:
(i) Subject
to the conditions to Closing set forth herein, at the Effective Time, each
Rightsholder shall receive at Closing the shares of Parent Common Stock
allocated to such Rightsholder on the Allocation Schedule (as updated in
accordance with the terms hereof) under the heading “Closing Shares” in
satisfaction of a portion of their respective Rights (the “Initial Rights
Payments”) in accordance with the Company Rights Plan the number of shares of
Parent Common Stock equal to such Rightsholder’s portion of the Initial Rights
Payment set forth next to such Rightsholders name on the Allocation
Schedule.
(ii) at
Closing, Seller and the Rightsholders listed on the Allocation Schedule shall
receive the shares of Parent Common Stock in the amount set forth next to
Seller’s and such Rightsholder’s name on the Allocation Schedule (as updated in
accordance with the terms hereof) under the heading “At-Risk Shares” in full
satisfaction of the Company’s obligation to Seller and such Rightsholder for
Enhanced Benefits under the At-Risk Plan. For purposes of valuing the shares
to
be received by an applicable Rightsholder in satisfaction of Enhanced Benefits,
the value of each of such shares of Parent Common Stock shall be equal to the
average Market Price of Parent Common Stock for the consecutive ten day trading
period ending the second trading day prior to the Closing Date.
(iii) after
Closing, each Rightsholder shall be eligible to receive from Parent contingent
Rights payments (“Contingent Rights Payments”) consisting of the Time-Based
Shares and the Market-Based Shares allocated to such Rightsholder on the
Allocation Schedule (as updated in accordance with the terms hereof) under
the
headings “Time-Based Shares” and “Market-Based Shares” (respectively) in full
satisfaction of the remainder of such Rightsholder’s Rights, which Contingent
Rights Payments shall be based on, and subject to, the same time and market
capitalization thresholds and related mechanics, as applicable, set forth in
Section 2.6(d)(ii).
(f) Adjustment
to Initial Merger Consideration and Rights Payment. Notwithstanding
anything to the contrary herein and unless waived by Parent in its sole
discretion, if the amount of total liabilities, except for the Rightsholder
Notes, if any, on the Closing Balance Sheet delivered to Parent at Closing
as an
exhibit to the Financial Statements Certificate pursuant to Section 7.2(l)
exceeds One Million Five Hundred Thousand Dollars ($1,500,000), the sum of
the
number of shares of Parent Common Stock comprising the Initial Merger
Consideration and the Initial Rights Payments at Closing shall be reduced on
a
pro-rata basis among Seller and the Rightsholders by an amount equal to (i)
the
amount by which such total liabilities exceed One Million Five Hundred Thousand
Dollars ($1,500,000), divided by (ii) the average Market Price of Parent Common
Stock for the consecutive ten day trading period ending the date immediately
prior to the Closing Date. For the avoidance of doubt, it is
understood and agreed that (i) the liabilities set forth on the Closing Balance
Sheet shall include the amount outstanding under the Credit Line and (ii) prior
to the Closing, the Company shall use the Credit Line to pay the Suspended
Salary, including any withholding amounts, portion of the At-Risk Plan in
accordance with the terms of this Agreement.
(g) Cancellation;
Right to Consideration/Payments. All shares of capital stock, other
securities of the Company, Rights, and Enhanced Benefits when converted or
exchanged as provided in this Article II, shall be retired, shall cease to
be
outstanding and shall automatically be cancelled, and the holder of a
certificate or other instrument evidencing such security of the Company, Rights,
or Enhanced Benefits (“Certificate”) that, immediately prior to the Effective
Time represented such shares of capital stock, other security of the Company,
Rights, or Enhanced Benefits shall cease to have any rights with respect
thereto, except the right to receive the Payments, in accordance with Article
II, applicable to the shares, other securities, Rights, or Enhanced Benefits
represented by such Certificate. The Payments set forth in this
Article II and paid in accordance with the terms herein shall be deemed to
have
been paid in full satisfaction of all rights pertaining to such shares, other
securities, Rights, or Enhanced Benefits, and there shall be no registration
of
transfers on the records of the Surviving Corporation of any shares of capital
stock, other securities of the Company, Rights, or Enhanced Benefits that were
outstanding immediately prior to the Effective Time.
(h) Allocation
Schedule. Attached hereto as Exhibit A is the current draft of the
Allocation Schedule based on currently available information. One
Business Day prior to the Closing, the Company shall deliver to Parent an
updated Allocation Schedule, which Allocation Schedule shall be updated to
reflect (a) the final number of shares under the heading “At-Risk Shares” and
(b) the final number of shares of Parent Common Stock to be issued at Closing,
the final number of Time-Based Shares and the final number of Market-Based
Shares (and, in each case, the related allocations thereof), which numbers
and
related allocations shall be adjusted to reflect (i) the final number of shares
under the heading “At-Risk Shares”, (ii) certain expenses incurred by the
Company in connection with the transactions contemplated hereby, (iii) any
adjustment pursuant to Section 2.7(f) and (iv) any Rightsholders or
Non-Continuing Rightsholder ceasing to be eligible to receive Payments hereunder
pursuant to the terms of the Company Rights Plan and/or the At-Risk Plan between
the date hereof and the Closing. Subsequent to the Closing, if Seller
or one or more Rightsholders forfeit shares of Parent Common Stock pursuant
to
the terms hereof, in the case of Seller, or of such Rightsholders’ Restricted
Stock Award Agreement, in the case of such Rightsholder, then the Representative
shall as soon as reasonably practicable prepare a revised Allocation Schedule
reflecting the forfeited shares of Parent Common Stock as well as revised
Indemnification Percentages (if applicable). The Company represents,
warrants and agrees that (i) the Allocation Schedule, as updated in accordance
with this Section 2.6(h), complies with (and will comply with) and does not
(and
will not) violate any provision of the Company Charter Documents, the Company
Rights Plan, the At-Risk Plan or any other agreement, arrangement or
understanding to which the Company and any holder or holders of capital stock,
other securities of the Company, Rights or Enhanced Benefits are parties, in
each case as in effect as of the Closing Date, and (ii) the Allocation Schedule
will be used by Parent and the Representative for all purposes of determining
the amounts to which any holder of capital stock, other securities of the
Company, Rights, or Enhanced Benefits is entitled with respect to the Payments
and each of Parent and the Representative shall be entitled to assume the
accuracy of such Allocation Schedule at and after the Closing.
(i) Exchange
Procedures. As soon as reasonably practicable after execution of this
Agreement, the parties hereto shall mutually agree to the exchange procedures
in
connection with the surrender of Certificates. Upon surrender of a
Certificate or Certificates for cancellation to the Company prior to the
Effective Time (who shall deliver such Certificates to Parent), or Parent after
the Effective Time or to such other agent or agents as may be appointed by
Parent, together with such letter of transmittal, duly completed and validly
executed in accordance with the instructions thereto and such other documents
as
may reasonably be required by Parent, the holder of such Certificate, subject
to
Section 2.6(j), shall be entitled to receive upon the Effective Time in exchange
therefor the portion of the Payments applicable to the shares of
capital stock, other securities of the Company, Rights, or Enhanced Benefits
represented by such Certificate as indicated in the Allocation Schedule, as
applicable, and upon the Effective Time the Certificate so surrendered shall
forthwith be cancelled. Until so surrendered, outstanding
Certificates will be deemed from and after the Effective Time, for all corporate
purposes, to evidence the ownership of the Payments into which such shares
of
the capital stock, other securities of the Company, Rights, or Enhanced Benefits
shall have been so converted.
(j) Required
Withholding. Notwithstanding anything to the contrary set forth in
this Agreement, each of Parent, Merger Subsidiary, the Company, the Surviving
Corporation and any of their agents shall be entitled to deduct and withhold
from any consideration or other payments deliverable pursuant to this Agreement
such amounts as may be required to be deducted or withheld therefrom under
Applicable Law and to request any necessary Tax forms, or Tax information,
from
the holder or former holder of shares of capital stock, other securities of
the
Company, Rights, Enhanced Benefits or Suspended Salary and any other recipients
of payments hereunder. To the extent that such amounts are so
deducted or withheld, such amounts shall be treated for all purposes under
this
Agreement as having been paid to the Person to whom such amounts would otherwise
have been paid.
(k) No
Liability. Notwithstanding anything to the contrary set forth in this
Agreement, neither the Surviving Corporation nor any other party hereto shall
be
liable to a holder of shares of capital stock, other securities of the Company,
Rights, or Enhanced Benefits for any amount properly paid to a public official
pursuant to any Applicable Laws.
(l) Adjustments. The
shares of Parent Common Stock issued to Seller and the Rightsholders pursuant
to
the terms set forth herein shall be equitably adjusted to reflect appropriately
the effect of any stock split, reverse stock split, stock dividend (including
any dividend or distribution of securities convertible into Parent Common
Stock), reorganization, recapitalization, reclassification, combination,
exchange of shares or other like change with respect to Parent Common Stock
occurring between the date hereof and the date on which applicable shares of
Parent Common Stock shall vest in accordance with the terms and conditions
set
forth herein or in such other applicable Transaction Document.
(m) Acceleration. If
at any time after the Closing Date, and while any Time-Based Shares or
Market-Based Shares are unvested and not forfeited, a Change of Control occurs
with respect to Parent, then prior to such Change of Control, (i) Parent shall
issue to Seller and applicable Rightsholders any Time-Based Shares that have
not
been issued, and (ii) if the Change of Control would result in a valuation
of
Parent and its Subsidiaries, determined in good faith by Parent’s board of
directors (the “Change of Control Valuation”), that equals or exceeds any of the
thresholds set forth in Section 2.6(d)(ii)(B) with respect to the Market-Based
Shares, Parent shall issue to Seller and applicable Rightsholders the number
of
Market-Based Shares that would have been issued to Seller and applicable
Rightsholders if Parent’s Total Equity Market Capitalization had equaled the
Change of Control Valuation for a period of at least Forty (40) of the Forty
Five (45) consecutive days within the three-year period following the Closing
Date.
2.7. At-Risk
Plan.
Prior
to
the Effective Time, the Company shall use the Credit Line to pay the amount
of
Suspended Salary (including any applicable withholdings for Taxes) then-owing
to
each beneficiary under the At-Risk Plan as set forth on the Allocation Schedule
(as such Allocation Schedule may be updated in accordance with Section 2.6(h)).
At the Effective Time, Parent shall issue the shares representing the Enhanced
Benefits to the Company on behalf of and for delivery to such individuals and
in
such amounts as set forth on the Allocation Schedule (as such Allocation
Schedule may be updated in accordance with Section 2.6(h)).
2.8. Further
Action. At and after the Effective Time, the officers and directors
of Parent and the Surviving Corporation will be authorized to execute and
deliver, in the name and on behalf of the Company and Merger Subsidiary, any
deeds, bills of sale, assignments or assurances and to take and do, in the
name
and on behalf of Company and Merger Subsidiary, any other actions and things
necessary to vest, perfect or confirm of record or otherwise in the Surviving
Corporation any and all right, title and interest in, to and under any of the
rights, properties or assets acquired or to be acquired by the Surviving
Corporation as a result of, or in connection with, the Merger.
2.9. Reorganization
Status.The Merger is intended to constitute a “reorganization” within the
meaning of Section 368(a) of the Code and this Agreement sets forth a “plan of
reorganization” within the meaning of Treas. Reg. §§ 1.368-2(g) and
1.368-3.
2.10. Rightsholder
Notes. Notwithstanding anything to the contrary contained in this
Agreement or in any Transaction Document, it is understood and agreed that
(a)
any shares of Parent Common Stock received by a Rightsholder pursuant to Section
2.6(e)(i) or Section 2.6(e)(ii) (the “Identified Payments”) shall be deemed to
have first been paid to the Company, and then paid by the Company to the
applicable Rightsholder in satisfaction of such Rightsholder’s Rightsholder
Note, if any, (b) upon the receipt of each of the Identified Payments by such
Rightsholder, such Rightsholder’s Rightsholder Note, if any, will be paid in
full and the Company shall have no further liability with respect thereto and
(c) the Company shall be permitted to issue the Rightsholder Notes and pay
off
the Rightsholder Notes in connection with the transactions contemplated by
this
Agreement.
ARTICLE
III
REPRESENTATIONS
AND WARRANTIES OF
THE
COMPANY
The
Company, through its officers, director and sole stockholder, represents and
warrants to Parent and Merger Subsidiary, including the information disclosed
in
the disclosure letter (referencing the appropriate section or subsection of
this
Agreement, as applicable) supplied by the Company to Parent dated as of the
date
hereof (the “Company Disclosure Letter”), as follows in this Article
III.
3.1. Organization.
(a) Organization;
Good Standing; Power and Authority. The Company is a corporation duly
organized, validly existing and in good standing under Illinois Law with full
corporate power and authority to conduct its business as it is currently being
conducted and to own or lease, as applicable, its assets as currently owned
or
leased. The Company is duly qualified to do business as a foreign
entity and is in good standing in each jurisdiction where the character of
its
properties owned or leased or the nature of its activities make such
qualification necessary, except where the failure to be so qualified or in
good
standing would not have a Company Material Adverse Effect.
(b) Charter
Documents. The Company has delivered or made available to Parent a
true and correct copy of the articles of incorporation, including all
certificates of designation thereto (the “Company Charter”), and bylaws of the
Company (the “Company Bylaws”), each as amended and or restated to date
(collectively, the “Company Charter Documents”).
(c) Subsidiaries. The
Company currently has no Subsidiaries and except as set forth in Section 3.1(c)
of the Company Disclosure Letter never has had Subsidiaries and does not own
or
control, directly or indirectly, any equity, participation or similar interest
in any Person.
3.2. Capitalization.
(a) Capital
Stock. The authorized capital stock of the Company consists of 1,000
shares of Company Common Stock and no other shares of capital
stock. All 1,000 shares of Company Common Stock are issued and
outstanding and are beneficially owned by Seller. All outstanding
shares of Company Common Stock are duly authorized, validly issued, fully paid
and non-assessable, have been issued in compliance with federal and state
securities laws and are not subject to preemptive rights created by statute,
the
Company Charter Documents, or any agreement to which the Company is a party
or
by which it is bound.
(b) Rights. The
Allocation Schedule sets forth a true, complete and correct list of all Rights
issued and outstanding. Since October 15, 2007 no Rights have been
granted to any Person.
(c) Other
Securities. Except as described in this Section 3.2, as of the date
hereof, there are no securities, options, warrants, calls, rights, contracts,
commitments, agreements, instruments, arrangements, understandings, obligations
or undertakings of any kind to which the Company is a party or by which any
of
them is bound obligating the Company to (including on a deferred basis) issue,
deliver or sell, or cause to be issued, delivered or sold, additional shares
of
capital stock, or other voting securities of the Company, or obligating the
Company to issue, grant, extend or enter into any such security, option,
warrant, call, right, commitment, agreement, instrument, arrangement,
understanding, obligation or undertaking. The Company is not in
violation of any provisions granting holders of Company securities or Rights
preemptive, purchase or similar rights in any of the agreements listed in
Section 3.2(c) of the Company Disclosure Letter. There are no
outstanding Contracts of the Company to repurchase, redeem or otherwise acquire
any shares of capital stock of, or other equity or voting interests in, the
Company. The Company is not a party to any voting agreement with
respect to shares of the capital stock of, or other equity or voting interests
in, the Company nor are there any irrevocable proxies, voting trusts, rights
plans, anti-takeover plans or registration rights agreements with respect to
any
shares of the capital stock of, or other equity or voting interests in, the
Company.
3.3. Authority;
No Conflict; Necessary Consents.
(a) Authority. The
Company has all requisite power and authority to enter into this Agreement
and
to consummate the Merger and the transactions contemplated
hereby. The execution and delivery of this Agreement and the
consummation of the Merger and the transactions contemplated hereby have been
duly authorized by all necessary corporate action on the part of the Company
and
no further action is required on the part of the Company to authorize the
execution and delivery of this Agreement or to consummate the Merger and the
other transactions contemplated hereby, subject only to the filing of the
Articles of Merger pursuant to Applicable Law. This Agreement has
been duly executed and delivered by the Company and assuming due authorization,
execution and delivery by Parent, and Merger Subsidiary, constitutes the valid
and binding obligation of the Company, enforceable against the Company in
accordance with its terms, except as enforcement may be limited by applicable
bankruptcy, insolvency, reorganization, moratorium and other laws affecting
creditors’ rights generally and except insofar as the availability of equitable
remedies may be limited by Applicable Law.
(b) No
Conflict. The execution and delivery by the Company of this
Agreement, and the consummation of the transactions contemplated hereby, will
not (i) conflict with or violate any provision of the Company Charter Documents,
(ii) conflict with or violate any Applicable Law, or (iii) result in any breach
of or constitute a default (or an event that with notice or lapse of time or
both would become a default) under, or impair the Company’s rights or alter the
rights or obligations of any third party under, or give to others any rights
of
termination, amendment, acceleration or cancellation of, or result in the
creation of a Lien on any of the properties or assets of the Company pursuant
to, any Company Material Contract except, in the case of each of the preceding
clauses (i), (ii) and (iii) for any conflict, violation, beach, default,
impairment, alteration, giving of rights or Lien which would not reasonably
be
expected to result in a Company Material Adverse Effect or materially and
adversely affect the ability of the Company to consummate the Merger within
the
time frame in which the Merger would otherwise be consummated in the absence
of
such conflict, violation, beach, default, impairment, alteration, giving of
rights or Lien.
(c) Necessary
Consents. The execution and delivery by the Company of this Agreement
and the consummation of the Merger and the other transactions contemplated
hereby, do not require the Company to obtain any consent, approval or action
of,
or make any filing with or give notice to, any Person, except (i) as set forth
in Section 3.3(c) of the Company Disclosure Letter, (ii) the filing of the
Articles of Merger with the Illinois Secretary of State and appropriate
documents with the relevant authorities of other states in which the Company
and/or Parent are qualified to do business (the “Necessary Governmental
Consents”) and (iii) such other consents, waivers, approvals, orders,
authorizations, registrations, declarations and filings which if not obtained
or
made would not be material to the Company or materially adversely affect the
ability of the parties hereto to consummate the Merger within the time frame
in
which the Merger would otherwise be consummated in the absence of the need
for
such consent, waiver, approval, order, authorization, registration, declaration
or filing. Subject to the exceptions set forth in the preceding
sentence, Section 3.3(c) of the Company Disclosure Letter provides a list of
all
Persons, other than Governmental Authorities, whose consent is required to
be
obtained by the Company in connection with the execution and delivery of this
Agreement or the consummation of the Merger and other transactions contemplated
hereby and thereby except as Parent and the Company may mutually agree on
alternative timing arrangements.
3.4. Financial
Statements. The Company has delivered to Parent true, complete and
correct copies of the Company’s unaudited balance sheets as of December 31,
2006, 2005 and 2004 and unaudited statements of operations, cash flows and
stockholders’ equity of the Company for the years ended December 31, 2006, 2005
and 2004 (the “Financials”) and the unaudited balance sheet of the Company as of
September 30, 2007 (the “Company Balance Sheet”) and unaudited statements of
operation, cash flows and stockholders’ equity for the nine-month period then
ended (the “Interim Financials,” and together with the Financials, collectively,
the “Company Financials”). The Company Financials were prepared consistent with
past Company accounting practices and present fairly and accurately the
financial condition and operating results of the Company as of the dates and
for
the periods indicated therein in all material respects, and are consistent
with
the books and records of the Company, subject, in the case of Interim
Financials, to year-end audit adjustments and the absence of
notes. The Financials for the year ended December 31, 2006 and the
nine-month period ended September 30, 2007 were audited by Grant Thornton,
LLP,
an independent registered public accounting firm, who will deliver its report
to
(a) the Company’s Board of Directors prior to Parent’s filing of the preliminary
copy of Parent’s Proxy Statement in connection with the Parent Stockholders’
Meeting pursuant to SEC rules, and (b) Parent for inclusion in Parent’s Proxy
Statement. Except as set forth in the Company Financials or any notes
thereto, the Company has (i) no liabilities, contingent or otherwise, other
than
(A) liabilities incurred in the ordinary course of business subsequent to any
such Company Financials, (B) obligations incurred in the ordinary course of
business and not required under United States generally accepted accounting
principles (“GAAP”) to be reflected in the Company Financials, and (C) expenses
in connection with the negotiation and consummation of the transactions
contemplated hereby which, in all cases, individually or in the aggregate,
are
not material to the financial condition or operating results of the Company
and
(ii) no Indebtedness (other than the Credit Line and the Seller’s
Note). The Company is not a party to any off-balance sheet
transactions that could have a current or future effect upon the Company’s
financial condition, cash flows or results of operations.
3.5. Absence
of Certain Changes or Events. Except as set forth in Section 3.5 of
the Company Disclosure Letter, from September 30, 2007 through the date of
this
Agreement, there has not been, accrued or arisen:
(a) any
Company Material Adverse Effect;
(b) any
acquisition by the Company of, or agreement by the Company to acquire by merging
or consolidating with, or by purchasing any assets or equity securities of,
or
by any other manner, any business or corporation, partnership, association
or
other business organization or division thereof, or other acquisition or
agreement to acquire any assets or any equity securities;
(c) any
Contract, agreement in principle, letter of intent, memorandum of understanding
or similar agreement with respect to any material joint venture, strategic
partnership or alliance;
(d) any
declaration, setting aside or payment of any dividend on, or other distribution
(whether in cash, stock or property) in respect of, any of the Company’s capital
stock, or any purchase, redemption or other acquisition by the Company of any
of
the Company’s capital stock or any other securities of the Company or any
options, warrants, calls except for the Rights, or rights to acquire any such
shares or other securities;
(e) any
split, combination or reclassification of any of the Company’s capital
stock;
(f) any
granting by the Company, whether orally or in writing, of any increase in
compensation or fringe benefits or any payment by the Company of any bonus
or
any change by the Company of severance, termination or bonus policies and
practices or any amendment or entry by the Company into any employment,
severance, incentive, termination, indemnification or other agreement, except
pursuant to the Company Rights Plan;
(g) any
amendment, termination or consent with respect to any Company Material Contract
or, any adoption, amendment or termination of any Company Benefit
Plan;
(h) any
termination of employment of any employee of the Company;
(i) any
material change by the Company in its accounting methods (including Tax
accounting), principles or practices;
(j) any
making of or change in any Tax election, closing agreement, settlement or
compromise of any Tax claim or assessment, extension or waiver of the limitation
period applicable to any Tax claim or assessment, or entering into any other
agreement or arrangement with respect to Taxes;
(k) any
debt, capital lease or other debt or equity financing transaction by the Company
or entry into any agreement by the Company in connection with any such
transaction, except for capital lease and receivables financings entered into
in
the ordinary course of business consistent with past practices which are not
individually or in the aggregate material to the Company;
(l) any
sale, lease, mortgage, pledge, license, encumbrance or other disposition of
any
properties or assets except the sale, lease, mortgage, pledge license,
encumbrance or disposition of property or assets which are not material,
individually or in the aggregate to the business of the Company other than
Company Intellectual Property licenses included in the Company's form customer
agreements entered into in the ordinary course for the purchase of Company
Products or Services;
(m) any
purchases of fixed assets, spares or other long-term assets other than in the
ordinary course of business and in a manner consistent with past
practices;
(n) any
revaluation by the Company of any of its assets, including, writing down the
value of capitalized inventory, spares, long term or short-term investments,
fixed assets, goodwill, intangible assets, deferred tax assets, or writing
off
notes or accounts receivable other than in the ordinary course of business
consistent with past practices;
(o) any
damage, destruction or other casualty loss (whether or not covered by insurance)
with respect to any assets that, individually or in the aggregate, are material
to the Company;
(p) any
sale, assignment or transfer of any of the Company Intellectual Property other
than Company Intellectual Property licenses included in the Company's form
customer agreements entered into in the ordinary course for the purchase of
Company Products or Services;
(q) receipt
of notice that there has been a loss of, or order cancellation or reduction
by,
any customer of the Company that has or would result in a Company Material
Adverse Effect;
(r) any
loans or guarantees made by the Company to or for the benefit of its employees,
stockholders, officers or directors or any members of their immediate families,
other than travel advances made in the ordinary course of its business;
or
(s) any
agreement or commitment by the Company to do any of the things described in
this
Section 3.5(a)-(r).
3.6. Taxes.
(a) For
purposes of this Agreement:
(i) “Relevant
Group” means any affiliated, combined, consolidated, unitary or similar group of
which the Company is or was a member.
(ii) “Tax”
or “Taxes” means all federal, state, local or foreign, net or gross income,
gross receipts, net proceeds, sales, use, ad valorem, value added, franchise,
bank shares, withholding, payroll, employment, excise, property, deed, stamp,
alternative or add-on minimum, environmental, profits, windfall profits,
transaction, license, lease, service, transfer, occupation, severance, energy,
unemployment, social security, worker’s compensation, capital, premium, or other
taxes, assessments, customs, duties, fees, levies, or other governmental
charges, whether disputed or not, together with any interest, penalties,
additions to tax, or additional amounts with respect thereto.
(iii) “Tax
Return” means any return, declaration, report, claim for refund, or information
return or statement relating to Taxes, including any schedule or attachment
thereto, and including any amendment thereof.
(b) All
Tax Returns required to have been filed by or with respect to the Company have
been duly and timely filed, and each such Tax Return correctly and completely
reflects liability for Taxes and all other information required to be reported
thereon. All Taxes owed by the Company (whether or not shown on any
Tax Return) have been timely paid. The Company has adequately
provided for liabilities for all unpaid Taxes in the Company Financials, and
will so adequately provide in the Company Balance Sheet delivered as an exhibit
to the Financial Statements Certificate, which liabilities represent current
Taxes not yet due and payable. The Company has never been a member of
a Relevant Group.
(c) There
is no action, audit, dispute or claim currently asserted, or to the Company’s
Knowledge, proposed, pending, or threatened against the Company, or any matters
under discussion with any Governmental Authority, in respect of any
Taxes. The Company is not the beneficiary of any extension of time
within which to file any Tax Return, nor has it made any requests for such
extensions. No written claim has ever been made by a Governmental
Authority in a jurisdiction where the Company does not file Tax Returns that
the
Company is or may be subject to taxation by that jurisdiction or that the
Company must file Tax Returns in that jurisdiction. There are no
Liens, other than for Taxes not yet due and payable, on any of the stock or
assets of the Company with respect to Taxes.
(d) Since
November 1, 2000, the Company has been a validly electing S corporation, within
the meaning of Sections 1361 and 1362 of the Code (and for all state and local
income Tax purposes). The Company has not, in the past 10 years,
acquired assets from another corporation in a transaction in which the Company’s
Tax basis of the acquired assets was determined, in whole or in part, by
reference to the Tax basis of the acquired assets (or other property) in the
hands of the transferor. Except as set forth in Section 3.6(d) of the
Company Disclosure Letter, the Company has no potential liability for any Tax
under Section 1374 of the Code.
(e) The
Company has withheld and timely paid all Taxes required to have been withheld
and paid, and has collected and remitted all Taxes (including all sales and
use
Taxes) required to be collected and remitted, and has complied with all
information reporting and backup withholding requirements.
(f) Section
3.6(f) of the Company Disclosure Letter: (i) lists all federal, state, local,
and foreign Tax Returns filed with respect to the Company for taxable periods
ended on or after December 31, 2002, (ii) indicates those Tax Returns that
have
been audited, and (iii) indicates those Tax Returns that currently are the
subject of audit. The Company has delivered or made available to
Parent correct and complete copies of all federal Tax Returns, examination
reports, and statements of deficiencies assessed against or agreed to by to
the
Company since January 1, 2002. The Company is not subject to a waiver
of any statute of limitations in respect of Taxes and is not subject to any
extension of time with respect to a Tax assessment or deficiency.
(g) The
Company has never been a United States real property holding corporation within
the meaning of Section 897(c)(2) of the Code.
(h) The
Company has not agreed to nor is it required to make by reason of a change
in
accounting method or otherwise, nor could it be required to make by reason
of a
proposed change in accounting method by virtue of the transactions contemplated
by this Agreement or otherwise, any adjustment under Section 481(a) of the
Code. The Company has not been the “distributing corporation” or the
“controlled corporation” with respect to a transaction described in Section 355
of the Code. The Company has not received (and is not subject to) any
private ruling from any taxing authority and has not entered into (and is not
subject to) any agreement with a taxing authority. The Company has
not engaged in a “reportable transaction” as defined in Treasury Regulation
Section 1.6011-4.
(i) The
Company is not a party to any Tax allocation or sharing
agreement. The Company has no liability for the Taxes of any Person
(i) as a transferee or successor, (ii) by Contract, or (iii) any Applicable
Law. The Company is not a party to any joint venture, partnership or
other arrangement that is treated as a partnership for federal income Tax
purposes.
(j) The
Company will not be required to include any item of income in, or exclude any
item of deduction from, taxable income for any taxable period (or portion
thereof) ending after the Closing Date as a result of any: (i)
installment sale or open transaction disposition made on or prior to the Closing
Date, (ii) prepaid amount received on or prior to the Closing Date, or (iii)
closing agreement with a Governmental Authority.
(k) The
Company has complied with all transfer pricing laws, rules, regulations and
interpretations thereof by Governmental Authorities including Section 482 of
the
Code and has engaged in all transactions with Affiliates on arms-lengths
terms.
(l) The
Company uses the accrual method of accounting for Tax purposes.
(m) The
Company has not taken, or agreed or failed to take, any action, and does not
know of any fact, that would prevent the Merger from qualifying as a
reorganization within the meaning of Section 368(a) of the Code.
3.7. Title
to Properties.
(a) Owned
and Leased Properties. The Company has never owned any real
property. Section 3.7(a) of the Company Disclosure Letter sets forth
a separate list of all real property currently leased, licensed or subleased
by
the Company or otherwise used or occupied by the Company (the “Real Property”),
the name of the lessor, licensor, sublessor, master lessor and/or lessee and
the
date of the lease, license, sublease or other occupancy right and each amendment
thereto. All such current leases are in full force and effect, are
valid and effective in accordance with their respective terms, and there is
not,
under any of such leases, any existing default or event of default (or event,
which with notice or lapse of time, or both, would constitute a default) by
the
Company, or, to the Company’s Knowledge, by any other party
thereto. The Company currently occupies all of the Real Property for
the operation of its business. No parties other than the Company have
a right to occupy any material Real Property, except for subleases described
in
the Company Disclosure Letter pursuant to which third parties have the right
to
occupy Real Property. The Real Property and the physical assets of
the Company are, in all material respects, in satisfactory condition and, to
the
Company’s Knowledge, the Real Property is in compliance, in all materials
respects, with Applicable Laws.
(b) Lease
Documents. The Company has made available to Parent true, complete
and correct copies of all current leases, lease guaranties, agreements for
the
leasing, use or occupancy of, or otherwise granting to the Company a right
to
occupy the Real Property, including all amendments, terminations and
modifications thereof (the “Lease Documents”); and there are no other Lease
Documents affecting the Real Property or to which the Company is bound, other
than those identified in Section 3.7(a) of the Company Disclosure
Letter.
(c) Title. The
Company has good and valid title to, or, in the case of leased properties and
assets, valid leasehold interests in, all of its material tangible properties
and assets, real, personal and mixed, used or held for use in its business,
free
and clear of any Liens except (i) as reflected in the Company Balance Sheet,
(ii) Liens for Taxes not yet due and payable or delinquent or being contested
in
good faith by appropriate proceedings for which reserves have been established,
(iii) Liens imposed by Applicable Law, such as carrier's, warehousemen's and
mechanic liens and other similar Liens, which arise in the ordinary course
of
business with respect to obligations not yet due, and (iv) easements, covenants,
conditions and restrictions and such other imperfections of title and
encumbrances, if any, which do not in any material respect detract from the
value or interfere with the present use of the property subject thereto or
affected thereby and (v) Liens under the Credit Line. The rights,
properties and assets presently owned, leased or licensed by the Company include
all rights, properties and assets necessary to permit the Company to conduct
its
business in all material respects in the same manner as its business has been
conducted prior to the date hereof.
3.8. Intellectual
Property.
(a) Definitions.
For all purposes of this Agreement, the following terms shall have the following
respective meanings:
“Company
Intellectual Property” shall mean any and all Intellectual Property that is
owned by, or licensed to, the Company.
“Company
Products and/or Services” shall mean all products and services that have been
developed by or on behalf of the Company and/or are owned, made, provided,
distributed, imported, sold or licensed to third Persons by or on behalf of
the
Company.
“Company
Registered Intellectual Property” shall mean the applications, registrations and
filings for Intellectual Property Rights that are owned by the Company or that
have been registered, filed, certified or otherwise perfected or recorded with
or by any Governmental Authority by or in the name of the Company.
“Intellectual
Property” shall mean any or all of the following (i) works of authorship
including computer programs, source code, and executable code, whether embodied
in software, firmware or otherwise, architecture, documentation, designs, files,
and records, (ii) inventions (whether or not patentable), discoveries,
improvements, and technology, (iii) proprietary and confidential information,
trade secrets and know how, (iv) proprietary databases, and technical data,
(v)
logos, trade names, trade dress, trademarks and service marks, (vi) domain
names, web addresses and sites, (vii) proprietary tools, methods and processes,
(viii) devices, prototypes, schematics, breadboards, netlists, maskworks, test
methodologies, verilog files, emulation and simulation reports, test vectors
and
hardware development tools, and (ix) any and all instantiations of the foregoing
in any form and embodied in any medium.
“Intellectual
Property Rights” shall mean worldwide common law and statutory rights associated
with (i) patents, patent applications and inventors’ certificates, (ii)
copyrights, copyright registrations and copyright applications, “moral” rights
and mask work rights, (iii) the protection of trade and industrial secrets
and
confidential information (“Trade Secrets”), (iv) trademarks, trade names and
service marks, (vi) divisions, continuations, renewals, reissuances, extensions
and any foreign equivalents of any of the foregoing (as applicable) and (vii)
analogous rights to those set forth above, including the right to enforce and
recover remedies for infringement or misappropriation of any of the
foregoing.
“Shrink-Wrapped
Code” means (a) generally commercially available binary code (other than
development tools and development environments) where available for a cost
of
not more than U.S. $15,000 for a perpetual license for a single user or work
station (or $25,000 in the aggregate for all users and work stations), and
(b)
generally commercially available software programs that are not Company Products
and are used internally by the Company in the ordinary course of
business.
“Source
Code” shall mean computer software and code, in form other than object code
form, including, to the extent currently prepared and in existence, any related
programmer comments and annotations, help text, data and data structures,
instructions and procedural, object-oriented and other code, which may be
printed out or displayed in human readable form.
(b) No
Infringement. The operation of the business of the Company as it is
currently conducted or proposed to be conducted, including the design,
development, use, import, branding, advertising, promotion, marketing,
licensing, manufacture and sale of any Company Product or Service, has not
and
does not infringe or misappropriate any copyright, trade secret right, trademark
or, to the Company’s Knowledge, any other Intellectual Property Rights of any
third Person, or constitute unfair competition or trade practices under the
laws
of any jurisdiction.
(c) Notice. The
Company has not received written notice from any third Person claiming that
any
Company Product or Service or the operation of the business of the Company
infringes or misappropriates any Intellectual Property Rights of any third
Person or constitutes unfair competition or trade practices under the laws
of
any jurisdiction, and the Company has no knowledge of any information that
would
reasonably be expected to result in such a notice. The Company has not received
written notice from any third Person challenging the complete and exclusive
ownership of or right to use the Company Intellectual Property, or suggesting
that any third Person has any claim of legal or beneficial ownership with
respect thereto, and the Company has no Knowledge of any information that would
reasonably be expected to result in such a notice. The Company has
not received written notice challenging, terminating, amending or affecting
the
interest of the Company, in the Company Intellectual Property, and the Company
has no Knowledge of any information that would reasonably be expected to result
in such a notice.
(d) Employees,
Contractors and Confidentiality With Respect to Intellectual
Property. The Company has taken commercially reasonable steps to
perfect, maintain and protect the Company Intellectual
Property. Without limiting the foregoing, the Company has implemented
a policy requiring each current and former employee, consultant and contractor
who develops Company Intellectual Property for the Company to execute agreements
to keep the Company’s confidential information confidential and to assign to the
Company all right, title and interest in and to, or otherwise provide Company
the right to use, all of the Company Intellectual Property and, except as set
forth in Section 3.8(d) of the Company Disclosure Letter, all current and former
employees, consultants and contractors of the Company that have created any
material Company Intellectual Property owned or purportedly owned by the Company
have executed such agreements and either: (i) is a party to a “work made for
hire” agreement or arrangement under which the Company is deemed to be the
original owner/author of all right, title and interest in the Company
Intellectual Property; or (ii) has executed a valid, enforceable and irrevocable
assignment of or a valid and enforceable agreement to irrevocably assign in
favor of the Company all right, title and interest in the Company Intellectual
Property.
(e) Third
Party Intellectual Property. The Company owns all right, title and
interest in and to, or otherwise has the right to use, all Intellectual Property
used in the Company Products and Services, subject only to the terms of the
Contracts set forth on Section 3.8(d) of the Company Disclosure Letter to which
the Company is a party and under which the Company has been granted or provided
with any rights to Intellectual Property or Intellectual Property Rights by
a
third party other than as has been granted or provided to the Company in the
ordinary course of business consistent with past practices, free and clear
of
all Liens or claims of others.
(f) Company
Intellectual Property. Section 3.8(f) of the Company Disclosure
Letter lists (i) all Company Registered Intellectual Property; and (ii) all
other Company Intellectual Property comprising (A) logos, trade names, trade
dress, trademarks or service marks and (B) domain names, web addresses and
sites. The Company is current in (1) the payment of all necessary
registration, maintenance and renewal fees owing in connection with such Company
Intellectual Property and (2) the filing of documents that are required to
be
filed with the relevant patent, copyright, trademark or other authorities in
the
United States or foreign jurisdictions, as the case may be, for the purposes
of
obtaining and maintaining such Company Intellectual Property. Section
3.8(f) of the Company Disclosure Letter lists all actions, including the making
of any payments that need to be taken with the applicable registering
governmental agency within 120 days of the date hereof to maintain, renew or
preserve the rights of the Company in any of the Company Intellectual
Property. All of the Company Intellectual Property is valid and
subsisting. The Company has not taken or failed to take any action,
including with respect to disclosure of information in the application for
or
prosecution of any Company Intellectual Property that would render such Company
Intellectual Property invalid or unenforceable. No Company
Intellectual Property is involved in any interference, reissue, reexamination,
opposition or cancellation proceeding or any other material Legal Proceeding
of
any kind in the United States or in any other jurisdiction.
(g) No
Order. The Company has not received any written notice that any
Company Intellectual Property or Company Product or Service is subject to any
proceeding or outstanding decree, order, judgment, settlement agreement,
forbearance to sue, consent, stipulation or similar obligation that restricts
in
any manner the use, transfer or licensing thereof by the Company or may affect
the validity, use or enforceability of such Company Intellectual Property or
Company Product or Service.
(h) Open
Source. The Company is not obligated under any of its licenses of
Open Source (as defined below) to disclose to any third Person the Source Code
for any Company Product or Service that is owned by the
Company. Section 3.8(h) of the Company Disclosure Letter sets forth a
list of the Company’s licenses of Open Source. As used herein, “Open
Source” shall mean software that is distributed under conditions that include:
(i) licensees of such software being authorized to access, modify and make
derivative works of the source code for the software; (ii) licensees of source
code of such software not being obligated to maintain the confidentiality of
such source code; and (iii) licensees of such software being required, even
under limited circumstances, to grant licenses to the source code or derivative
works thereof, which licenses include rights under the licensee’s intellectual
property or that is licensed or distributed under any of the following licenses
or distribution models, or licenses or distribution models similar to any of
the
following: (1) GNU’s General Public License (GPL) or Lesser/Library GPL (LGPL),
(2) The Artistic License (e.g., PERL), (3) the Mozilla Public License, (4)
the
Netscape Public License, (5) the Berkeley software design (BSD) license
including Free BSD or BSD-style license, (6) the Sun Community Source License
(SCSL), (7) an Open Source Foundation License (e.g., CDE and Motif UNIX user
interfaces) and (8) the Apache Server license.
(i) Source
Code. The Company has not disclosed, delivered or licensed to any
third Person, agreed to disclose, deliver or license to any third Person, or
permitted the disclosure or delivery to any escrow agent or other third Person
of, any Source Code for any Company Product or Service that is owned by the
Company (“Company Source Code”). No event has occurred, and no
circumstance or condition exists, that (with or without notice or lapse of
time,
or both) will, or would reasonably be expected to, result in the disclosure
or
delivery by the Company or any third Person acting on its behalf to any third
Person of any Company Source Code. Section 3.8(h) of the Company
Disclosure Letter identifies each written Contract pursuant to which the Company
has deposited, or is or may be required to deposit, Company Source Code with
an
escrow agent or any other Person. The execution of this Agreement or
any of the other transactions contemplated by this Agreement will not result
in
the release from escrow of any Company Source Code.
(j) Licenses-In. Other
than (i) licenses to Shrink-Wrapped Code, (ii) licenses to Open Source as set
forth in Section 3.8(h) of the Company Disclosure Letter and (iii)
non-disclosure agreements entered into in the ordinary course of business,
Section 3.8(j) of the Company Disclosure Letter lists all written Contracts
that
are material to the business of the Company to which the Company is a party
and
under which the Company has been granted or provided any rights to Intellectual
Property or Intellectual Property Rights by a third party.
(k) Customer
Information. The Company has taken commercially reasonable steps to
protect the confidentiality of customer contact information, customer
correspondence and customer licensing and purchasing histories held by the
Company (the “Customer Information”). To the Knowledge of the Company, the
Company is in compliance, in all material respects, with the Company’s privacy
policies and all Applicable Laws, regulations and Contracts with respect to
the
use and disclosure of Customer Information and the consummation of the
transactions contemplated by this Agreement will not violate such privacy
policies, laws, regulations and contracts with respect to such Customer
Information.
(l) Third
Person Infringement. No third Person has been put on written notice
by the Company, nor, to Company's Knowledge, are there any facts which would
indicate a likelihood that a third Person has, will be, or currently is
infringing, misappropriating, diluting or otherwise misusing any of the Company
Intellectual Property. The Company has no Knowledge of any
circumstance that would justify the Company’s putting any third Person on such
written notice.
3.9. Restrictions
on Business Activities. Except as set forth in Section 3.9 of the
Company Disclosure Letter, the Company is not a party to or bound by any
Contract containing any covenant (a) limiting in any respect the right of the
Company to engage in any line of business, to make use of any Company
Intellectual Property or Company Products or Services or compete with any Person
in any line of business, (b) granting any exclusive distribution rights, (c)
providing “most favored nations” or other preferential pricing terms for current
Company Products and Services or (d) otherwise limiting or restricting the
right
of the Company to sell, distribute or manufacture any Company Products or
Services or Company Intellectual Property or to purchase or otherwise obtain
any
software, components, parts or subassemblies.
3.10. Governmental
Authorizations. Each material consent, license, permit, grant or
other authorization (i) pursuant to which the Company currently operates or
holds any interest in any of its properties or assets, or (ii) which is required
for the operation of the Company’s business as currently conducted or the
holding of any such interest (collectively, “Company Permits”) has been issued
or granted to the Company, as the case may be. Each Company Permit is
in full force and effect. As of the date hereof, no suspension or
cancellation of any Company Permit is pending or, to the Knowledge of the
Company, threatened. The Company is in compliance in all material
respects with the terms of all Company Permits.
3.11. Litigation. Except
as set forth in Section 3.11 of the Company Disclosure Letter, there is no
Legal
Proceeding pending or, to the Company’s Knowledge, threatened against the
Company or any of its properties or assets (whether real, personal or mixed,
tangible or intangible). There is no investigation or other
proceeding pending or, to the Company’s Knowledge, threatened against the
Company or any of its properties or assets (whether real, personal or mixed,
tangible or intangible) by or before any Governmental
Authority. There has not been since January 1, 2003, nor are there
currently, any internal investigations or inquiries being conducted by the
Company, the Company’s board of directors (or any committee thereof) or, to the
Knowledge of the Company, any third party at the request of any of the foregoing
concerning any financial, accounting, tax, conflict of interest, illegal
activity, fraudulent or deceptive conduct or other misfeasance or malfeasance
issues by the Company or any of its directors or officers in their capacities
as
such. As of the date of this Agreement, there is no Legal Proceeding
pending, or to the Company’s Knowledge, threatened in writing against, relating
to or affecting the Company that seeks to restrain or enjoin the consummation
of
the Merger or seek other relief or remedy related thereto. The
Company is not subject to any judgment, decree, injunction, rule or order of
any
court, governmental department, commission, agency, instrumentality or
authority, or any arbitrator which prohibits or restricts the consummation
of
the transactions contemplated by this Agreement.
3.12. Compliance
with Laws. The Company has neither been nor is it in violation or
default in any material respect of any Applicable Law. There is no
judgment, injunction, order or decree binding upon the Company which has or
would reasonably be expected to have the effect of prohibiting or impairing
any
business practice of the Company in such a way as has resulted or would
reasonably be expected to result in a Company Material Adverse
Effect.
3.13. Environmental
Matters. The Company has never held any material Company Permit
issued under Environmental Laws (the “Environmental Permits”) and no such
Environmental Permits are required with respect to the Company’s business as it
has been and is now conducted. The Company is now and for the last
five years has been in material compliance with all Environmental
Laws. There are no past or present conditions, events, circumstances,
facts, activities, practices, incidents, actions, omissions or plans (i) that
have given rise or could reasonably be expected to give rise to any material
Liabilities of the Company under any Environmental Laws or (ii) that have
required or could reasonably be expected to require the Company to incur any
material cleanup, remediation, removal or other response costs (including the
cost of coming into compliance with Environmental Laws), investigation costs
(including fees of consultants, counsel and other experts in connection with
any
environmental investigation, testing, audits or studies), losses, Liabilities,
payments, damages (including any actual, punitive or consequential damages
under
any Environmental Laws or to third parties for personal injury or property
damage), civil or criminal fines or penalties, judgments or amounts paid in
settlement under Environmental Laws. The Company has not received any
written notice or other written communication: (x) that it is or may be a
potentially responsible Person or otherwise materially liable in connection
with
any waste disposal site or other location allegedly containing any Hazardous
Substances; (ii) of any failure by it to materially comply with any
Environmental Laws; or (iii) that it is requested or required by any
Governmental Authority to perform any material investigatory or remedial
activity or other action in connection with any actual or alleged release of
Hazardous Substances or any other Environmental Matters.
3.14. Brokers’
and Finders’ Fees. Except as set forth in Section 3.14 of the Company Disclosure
Letter, the Company has not (i) incurred, nor will it incur, directly or
indirectly, any liability for brokerage or finders’ fees or agents’ commissions,
fees related to investment banking or similar advisory services or any similar
charges in connection with this Agreement or any transaction contemplated
hereby, nor (ii) entered into any indemnification agreement or arrangement
with
any Person in connection with this Agreement and the transactions contemplated
hereby.
3.15. Related
Party Transactions. Except as set forth in Section 3.15 of the
Company Disclosure Letter, neither the Company nor, to the Company’s Knowledge,
any director, officer or Affiliate of the Company owns, nor to the Company’s
Knowledge, any immediate family member of a director, officer or Affiliate
of
the Company owns, directly or indirectly, any interest in any corporation or
other business that engages in a business similar or competitive to the business
of the Company, other than ownership of one percent (1%) or less of the
outstanding equity securities of a publicly-traded company. Section
3.15 of the Company Disclosure Letter describes all Related Party
Transactions.
3.16. Employee
Benefit Plans and Compensation.
(a) Definitions.
For all purposes of this Agreement, the following terms shall have the following
respective meanings:
“Company
Benefit Plan” means any Plan established, sponsored or maintained by the Company
or any ERISA Affiliate thereof, to which the Company or any of its ERISA
Affiliates contributes or is obligated to contribute to or with respect to
which
the Company or any of its ERISA Affiliates has any Liability.
“ERISA”
means the Employee Retirement Income Security Act of 1974, as
amended.
“ERISA
Affiliate” means, as to any person, any trade or business, whether or not
incorporated, which together with such person would be deemed, at any time
through the Closing Date, a single employer within the meaning of Section 4001
of ERISA or Section 414(b), (c), (m) or (o) of the Code.
“Plan”
means any bonus, incentive compensation, deferred compensation, pension, profit
sharing, retirement, stock purchase, stock option, stock ownership, stock
appreciation rights, phantom stock, leave of absence, layoff, vacation or
holiday pay, day or dependent care, legal services, cafeteria, life, health,
accident, sickness, disability, workmen’s compensation, medical, life, dental or
other insurance, severance, separation or other employee benefit, fringe
benefit, plan, program, trust, contract, practice, policy or arrangement of
any
kind, whether written or oral, including any “employee benefit plan” within the
meaning of Section 3(3) of ERISA whether or not in the nature of formal or
informal understandings and whether or not included in or described in any
employment manual or handbook.
(b) Section
3.16(b) of the Company Disclosure Schedule is a current, correct and complete
list of all Company Benefit Plans.
(c) The
Allocation Schedule sets forth a current, correct and complete list of all
Rightsholders to whom the Company owes Suspended Salary and/or Enhanced Benefits
under the At-Risk Plan and sets forth next to such Rightsholder’s name the
amount of Suspended Salary and/or Enhanced Benefits owed by the Company to
such
Rightsholder.
(d) All
the Company Benefit Plans conform (and at all times have conformed) in all
material respects to, and are being administered and operated (and have at
all
times been administered and operated) in material compliance with, the
requirements of ERISA, the Code and all other Applicable Laws. All
returns, reports and disclosure statements required to be made under ERISA
and
the Code with respect to all such Company Benefit Plans have been timely filed
or delivered. There have not been any “prohibited transactions” (as
such term is defined in Section 4975 of the Code or Section 406 of ERISA)
involving any of the Company Benefit Plans that could subject the Company or
any
of its ERISA Affiliates to any material penalty or tax.
(e) Each
Company Benefit Plan that is intended to be qualified under Section 401(a)
of
the Code and exempt from tax under Section 501(a) of the Code has been
determined by the Internal Revenue Service to be so qualified and
exempt. Any such Internal Revenue Service determination remains in
effect and has not been revoked. Nothing has occurred that is
reasonably likely to adversely affect such qualification or exemption, or result
in the imposition of an excise, income or unrelated business income taxes under
the Code or ERISA with respect to any such Company Benefit Plan.
(f) The
Company and its ERISA Affiliates do not sponsor, participate in or contribute
to, and have not in the past sponsored, participated in or contributed to,
and
have no current or contingent obligation with respect to: (i) any
defined benefit pension plan subject to Title IV of ERISA, (ii) any
“multiemployer plan” (as defined in Section 3(37) of ERISA), (iii) any plan or
arrangement that provides medical benefits, death benefits or other welfare
benefits following cessation of employment, except to the extent required by
Part 6 of Title I of ERISA or any similar Applicable Law, or (iv) any “welfare
benefit fund” (within the meaning of Section 419 of the
Code). Without limiting the generality of any other provision of this
Agreement, there exists no Lien on any asset of the Company or any Subsidiary
of
the Company arising under Section 412(n) of the Code or Section 4068 of
ERISA.
(g) The
Company has delivered or made available to Parent current, correct and complete
copies of the following documents: (i) all plan documents, amendments and trust
agreements relating to each Company Benefit Plan; (ii) the most recent annual
and periodic accountings of plan assets relating to each Company Benefit Plan;
(iii) the most recent Internal Revenue Service determination or notification
letter for each Company Benefit Plan that is an “employee pension benefit plan”
(as that term is defined in ERISA Section 3(2)) and a list identifying any
amendment not covered by such determination or notification letter; (iv) annual
reports filed on Form 5500 (including accompanying schedules) for each Company
Benefit Plan for the last three (3) years, if such reports were required to
be
filed; (v) the current summary plan description, if any is required by ERISA,
for each Company Benefit Plan; (vi) all insurance contracts, annuity contracts,
investment management or advisory agreements, administration contracts, service
provider agreements, audit reports, fidelity bonds and fiduciary liability
policies relating to any Company Benefit Plan; and (vii) all material written
correspondence with any Governmental Authority relating to any Company Benefit
Plan.
(h) To
the Company’s Knowledge, all written communications regarding each Company
Benefit Plan by the Company or by an Employee or agent of the Company reflect
and have always reflected accurately the material terms of that Company Benefit
Plan.
(i) There
are no pending or, to the Company’s Knowledge, threatened claims by or on behalf
of any Company Benefit Plan, or by or on behalf of any individual participants
or beneficiaries of any Company Benefit Plan, alleging any violation of ERISA
or
any other Applicable Laws with respect to Company Benefit Plans, or claiming
payments (other than benefit claims made in the ordinary course of the operation
of such plans), nor is there, to the Company’s Knowledge, any basis for such
claim. No Company Benefit Plan is the subject of any pending (or, to
the Company’s Knowledge, any threatened) investigation or audit by the Internal
Revenue Service, the U.S. Department of Labor, the Pension Benefit Guaranty
Corporation or any other regulatory agency, foreign or domestic.
(j) All
required payments and contributions under the Company Benefit Plans, including
the payment of all insurance premiums, have been timely made. All
such payments and contributions have been fully deducted by the Company for
federal income tax purposes. Such deductions have not been challenged
or disallowed by any Governmental Authority and the Company has no reason to
believe that such deductions are not properly allowable. The Company
and its ERISA Affiliates have not incurred any Liabilities for any tax, excise
tax, penalty or fee with respect to any Company Benefit Plan, and no event
has
occurred and no circumstance exists or has existed that could give rise to
any
such Liabilities.
(k) Except
for the distribution of Payments to satisfy the Company’s obligations under the
Company Rights Plan and the At-Risk Plan, the execution and performance of
the
transactions contemplated by this Agreement will not (either alone or upon
the
occurrence of any additional or subsequent events) result in any payment,
acceleration, vesting or increase in benefits with respect to any current or
former employee or other service provider of the Company or its ERISA
Affiliates.
(l) The
execution of and performance of the transactions contemplated by this Agreement
(either alone or upon the occurrence of any subsequent event) will not cause
any
payment or benefit to constitute a “parachute payment” within the meaning of
Section 280G of the Code.
(m) There
has been no amendment to, written interpretation or announcement (whether or
not
written) relating to, or change in employee participation or coverage under,
any
Company Benefit Plan which would increase materially the expense of maintaining
such Company Benefit Plan above the level of the expense incurred in respect
thereof for the fiscal year of the Company ending immediately prior to the
date
hereof. Each Company Benefit Plan may be terminated, with thirty (30)
days or less prior notice, by the Company in its sole discretion.
(n) The
Company and its ERISA Affiliates do not maintain (and have not maintained),
and
are not (and have not been) a party to, any plan, agreement or arrangement
that
could cause (or has caused) any employee or service provider to become subject
to any Tax under Section 409A of the Code.
3.17. Contracts.
(a) Material
Contracts. For purposes of this Agreement, “Company Material
Contract” shall mean any of the following to which the Company is a party or by
which it or its assets are bound:
(i) any
agreement, understanding or other arrangement pursuant to which the Company
has
continuing obligations to jointly develop any Intellectual Property or
Intellectual Property Rights that will not be owned, in whole or in part, by
the
Company;
(ii) any
agreement, understanding or other arrangement granting, licensing, sublicensing
or otherwise transferring any Intellectual Property Rights of the Company other
than Company Intellectual Property licenses included in the Company's form
customer agreements entered into in the ordinary course for the purchase of
Company Products and Services, or to which the Company is a party and pursuant
to which the Company licenses, purchases or acquires any Intellectual Property
(including any parts, supplies and components) that is material to the design,
manufacture or support of the Company Products and Services;
(iii) any
mortgages, indentures, guarantees, loans or credit agreements, security
agreements or other agreements relating to the borrowing of money or extension
of credit;
(iv) all
employment and consulting agreements to which the Company is a
party;
(v) any
material settlement agreement entered into within three years prior to the
date
of this Agreement or under which the Company has outstanding
obligations;
(vi) any
agreement, understanding or other arrangement, or group of agreements,
understandings or other arrangements with a Person (or group of affiliated
Persons), the termination or breach of which could reasonably be expected to
have an adverse effect on any Company Product or Service or otherwise have
a
Company Material Adverse Effect;
(vii) all
of the Company’s agreements with Significant Customers and any other agreements,
understanding or arrangements providing for obligations (contingent or
otherwise) of, or payments to, the Company of $25,000 or more within a 12-month
period.
(viii) any
written arrangement concerning noncompetition (other than the Company’s standard
form of nonsolicitation and non-competition agreement with its
employees);
(ix) any
material agreement, understanding or other arrangement involving the grant
of
rights to manufacture, produce, assemble, license, market, or sell Company
Products and/or Services to any other person; or
(x) any
agreement, understanding or other arrangement which affect the Company's
exclusive right to develop, manufacture, assemble, distribute, market or sell
Company Products and/or Services.
(b) Schedule
of Material Contracts. Section 3.17(b) of the Company Disclosure
Letter sets forth a list of all Company Material Contracts to which the Company
is a party or by which any of them is bound as of the date hereof which are
described in Section 3.17(a). True, complete and correct copies of
all Company Material Contracts have been provided, or made available, to
Parent.
(c) No
Default/No Conflict. All Company Material Contracts are valid and in
full force and effect, and enforceable in accordance with their terms, assuming
due execution by the other parties thereto, except as enforcement may be limited
by applicable bankruptcy, insolvency, reorganization, moratorium and other
laws
affecting creditors’ rights generally and except insofar as the availability of
equitable remedies may be limited by Applicable Law. The consummation
of the transactions contemplated by this Agreement will neither violate nor
by
their terms result in the breach, modification, cancellation, termination,
suspension of, or acceleration of any payments with respect to, such Company
Material Contracts, subject to obtaining any consents and approvals as are
set
forth in Section 3.17(c) of the Company Disclosure Letter. The
Company is in material compliance with, and has not materially breached any
term
of any Company Material Contracts or committed or failed to perform any act
which, with or without notice, lapse of time or both would constitute a material
default under the provisions of any such Company Material Contract and, to
the
Company’s Knowledge, all other parties to such Company Material Contracts are in
compliance with, and have not materially breached any term of, such Company
Material Contracts. Following the Closing Date, and subject to
obtaining any consents and approvals as are set forth in Section 3.17(c) of
the
Company Disclosure Letter, the Surviving Corporation will be permitted to
exercise all of the Company’s rights under all Company Material Contracts to the
same extent the Company would have been able to had the transactions
contemplated by this Agreement not occurred and without the payment of any
additional amounts or consideration other than ongoing fees, royalties or
payments which the Company would otherwise be required to pay.
(d) Transaction.
Neither this Agreement nor the transactions contemplated by this Agreement,
including any assignment to Merger Subsidiary or the Surviving Corporation
by
operation of law as a result of the Merger of any Company Material Contracts,
will result in Parent, any of its Subsidiaries or the Surviving Corporation
being obligated under such Company Material Contracts to pay any royalties
or
other material amounts, or offer any discounts, to any third party in excess
of
those payable by, or required to be offered by, the Company or any of them,
respectively, in the absence of this Agreement or the transactions contemplated
hereby, subject to obtaining any consents and approvals required to be obtained
in connection with any such written contracts and agreements.
3.18. Insurance. Section
3.18 of the Company Disclosure Letter sets forth a list of all material
insurance policies, including worker’s compensation, title, fire, general
liability, fiduciary liability, directors’ and officers’ liability, malpractice
liability, theft and other forms of property and casualty insurance held by
the
Company. Each of the insurance policies set forth in Section 3.18 of
the Company Disclosure Letter is in full force and effect. To the
Company’s Knowledge, there is no existing default or event which, with the
giving of notice, lapse of time or both, would constitute a default, by any
insured under any policy listed in Section 3.18 of the Company Disclosure
Letter, except where the existence of such default would not be reasonably
likely to be material to the Company. All premiums and other amounts
due on such policies have been paid, and the Company has complied in all
material respects with the provisions of such policies. The Company
has reported to its insurers all claims and pending circumstances that could
potentially result in a claim, except where the failure to report such a claim
would not be reasonably likely to be material to the Company.
3.19. Accounts
Receivable. The Company has delivered or made available to Parent a
list of all accounts receivable of the Company as of September 30, 2007,
together with a range of days elapsed since invoice. All of the
Company’s accounts receivable arose in the ordinary course of business, are
carried at values determined in a manner consistent with the Company’s past
accounting practices, and are reasonably believed by the Company to be
collectible except to the extent of reserves therefor set forth in the Company
Financials, or, for receivables arising subsequent to September 30, 2007, as
reflected on the books and records of the Company. No Person has any
Lien on any of the Company’s accounts receivable, and no request or agreement
for deduction or discount has been made with respect to any of the Company’s
accounts receivable.
3.20. Warranties;
Products Liability. The Company has not incurred any material
expenses not reflected in the Company Financials in connection with any claims
made by customers under the Company’s obligations under their guaranty,
warranty, right of return and indemnity provisions during each of the last
three
fiscal years and the interim period covered by the Company Financials; and
to
the Company’s Knowledge, there is no reason why a material amount of any such
expenses would be incurred in the future. During the last three
fiscal years and the interim period covered by the Interim Company Financials,
the Company has not incurred any material liability arising out of any injury
to
any individual or property as a result of the ownership, possession, or use
of
any product or service manufactured, sold, leased or delivered by the
Company.
3.21. Customers. Section
3.21 of the Company Disclosure Letter lists the customers who, in the Company’s
twelve months ended September 30, 2007, were the ten (10) largest customers,
as
measured by gross revenue, of the Company (each, a “Significant
Customer”). The Company does not intend to (a) terminate its
relationship or any Contract between any Significant Customer and the Company,
(b) stop, or materially decrease the rate of supplying products or services
to
such Significant Customer, or (c) seek the exercise of any remedy against any
such Significant Customer. The Company has no Knowledge of any intent
on the part of a Significant Customer to (a) terminate its relationship or
any
Contract between such Significant Customer and the Company, (b) stop, or
materially decrease the rate of buying products or services (in each case,
as
measured against the Significant Customer’s historical rate of buying products
or services since January 1, 2004) from the Company, (c) refuse to pay any
amount due from such Significant Customer to the Company, (d) return products
of
the Company, or (e) seek the exercise of any remedy against the
Company. The Company has not within the past year been engaged in a
material dispute with any Significant Customer.
3.22. Suppliers. Section
3.22 of the Company Disclosure Letter lists the suppliers who, in the nine
months ended September 30, 2007, were the ten (10) largest suppliers of goods
and services to the Company, based on amounts paid by the Company to such
suppliers (each, a “Significant Supplier”). The Company has no
Knowledge that any Significant Supplier intends to (a) terminate any Contract
between such Significant Supplier and the Company, (b) stop, or materially
decrease the rate of supplying products or services (in each case, as measured
against such Significant Supplier’s historical rate of supplying products or
services since January 1, 2004) to the Company, or (c) seek to exercise any
remedy against the Company. The Company has not within the past year
been engaged in a material dispute with any Significant Supplier.
3.23. Labor
and Employment. Employee List. Section 3.23(a) of the
Company Disclosure Letter contains a complete list of each Employee of the
Company as of the date hereof, including the following information for each
Employee of the Company:
(i) job
title;
(ii) annual
base salary and gross earnings for calendar years 2005, 2006 and estimated
base
salary and gross earnings for 2007;
(iii) incentives
paid in 2005, 2006 and an estimate for incentives paid in 2007;
(iv) date
of hire;
(v) credited
years of service;
(vi) employment
status (active or on a leave of absence);
(vii) employment
category (full time or part time); and
(viii) employee
FLSA classification (exempt or non-exempt) and hourly rate for non-exempt
employees.
(b) Nature
of Employment. All of the Employees of the Company identified in
Section 3.23(b) of the Company Disclosure Letter are employees at-will except
as
otherwise specifically noted. Section 3.23(b) of the Company
Disclosure Letter also sets forth the same information with respect to calendar
years 2005 and 2006 as well as the names of each person classified as an
independent contractor (full or part-time) by the Company from during such
years
as well as since January 1, 2007, and each such independent contractor’s start
date, current or former position, and gross earnings for calendar years 2005,
2006 and estimated gross earnings for 2007. Section 3.23(b) of the
Company Disclosure Letter also sets forth the name of each Person whose
employment or engagement as an independent contractor was terminated by the
Company in calendar years 2005 through 2007 and the reason(s) for such
termination.
(c) Collective
Bargaining Arrangements. There are no labor or collective bargaining
agreements to which the Company is a party; there is no union or labor
organization that is certified or recognized as the collective bargaining
representative for any employees of the Company; no union organizing activities
have taken place since January 1, 2005; no unfair labor practice charges or
representation petitions have been filed with the National Labor Relations
Board, or similar local agency, against or with respect to Employees or
independent contractors of the Company, and to the Company’s Knowledge, the
Company has not received any notice or communication reflecting an intention
or
a threat to file any such complaint or petition. There are not, and
in the preceding twelve (12) months have not been any labor disputes, strikes,
work stoppages, work slowdowns or lockouts, or concerted activity by any
Employee or independent contractor of the Company and none are
expected.
(d) Notice
of Termination. No Employee of the Company has given notice of intent
to terminate employment if the transactions contemplated by this Agreement
are
completed. There have not been any “plant closings” or “mass
layoffs”(as those terms are defined in the Worker Adjustment and Retraining
Notification Act, (hereinafter the “WARN Act”), by the Company that would create
any obligations or liabilities under the WARN Act, or any similar state, local
or foreign law requiring notice in connection with plant closings, mass layoffs
or terminations of employment. The Company has properly paid its
employees and withheld all amounts required by law or agreement to be withheld
by it from wages, salaries and other payments to its Employees and is not liable
for any arrears of wages, overtime, or any taxes or penalties for failure to
comply with applicable law. The Company has properly treated all
independent contractors who have rendered services to it as non-employees for
all federal, state, local and foreign tax purposes, as well as all ERISA and
employee benefits purposes. There has been no determination by any
Governmental Authority that any independent contractor is an employee of the
Company.
(e) Discrimination
Claims; Employee Complaints. Since January 1, 2005, the Company has
not discharged, demoted, suspended, threatened, harassed or in any other manner
retaliated or discriminated against any employee (i) who had previously
submitted to his or her supervisor or anyone else in a position of authority
with the Company any written or oral complaint, concern or allegation regarding
any alleged unlawful or unethical conduct by the Company or its employees
relating to accounting, internal accounting controls, auditing matters, or
other
conduct relating to statutorily protected conduct of employees or (ii) who
has
provided information to, or otherwise assisted any investigation by, any law
enforcement, regulatory or other governmental authority or a member of the
United States Congress. Since January 1, 2005, no employee of the
Company (x) has submitted to his or her supervisor or to someone else in a
position of authority any written or oral complaint, concern or allegation
regarding any alleged unlawful or unethical conduct by the Company or its
employees relating to accounting, internal accounting controls or auditing
matters or other conduct relating to statutorily protected conduct of employees
or (y) to the Knowledge of the Company, has provided information to, or
otherwise assisted any investigation by, any law enforcement, regulatory or
other governmental authority or a member of the United States Congress related
to the Company.
3.24. Export
Control Laws. To the Company’s Knowledge, the Company has at all
times conducted its export transactions in all material respects in accordance
with (i) all applicable U.S. export and re-export controls, including the United
States Export Administration Act and Regulations and Foreign Assets Control
Regulations and (ii) all other applicable import/export controls in other
countries in which the Company conducts business. To the Company’s
Knowledge, the Company has obtained all export licenses, license exceptions
and
other consents, notices, waivers, approvals, orders, authorizations,
registrations, declarations, classifications and filings with any Governmental
Authority required for (i) the export and reexport of products, services,
software and technologies and (ii) releases of technologies and software to
foreign nationals located in the United States and abroad (“Export
Approvals”). The Company is in material compliance with the terms of
all applicable Export Approvals. There are no pending or, to the
Company’s Knowledge, threatened claims against the Company with respect to such
Export Approvals, and no Export Approvals for the transfer of export licenses
to
Parent or the Surviving Corporation are required. To the Company’s
Knowledge, there are no actions, conditions or circumstances pertaining to
the
Company’s export transactions that may give rise to any future
claims.
3.25. Foreign
Corrupt Practices Act. To the Company’s Knowledge, the Company
(including any of their officers, directors, agents, distributors, employees
or
other Person associated with or acting on their behalf) has not, directly or
indirectly, taken any action which would cause it to be in violation of the
Foreign Corrupt Practices Act of 1977, as amended, or any rules or regulations
thereunder or any similar anti-corruption or Applicable Law with respect to
anti-bribery in any jurisdiction other than the United Sates (collectively,
the
“FCPA”), used any corporate funds for unlawful contributions, gifts,
entertainment or other unlawful expenses relating to political activity, made,
offered or authorized any unlawful payment to foreign or domestic government
officials or employees, whether directly or indirectly, or made, offered or
authorized any bribe, rebate, payoff, influence payment, kickback or other
similar unlawful payment, whether directly or indirectly.
3.26. Powers
of Attorney. There are no outstanding powers of attorney executed on
behalf of the Company.
3.27. Change
of Control; Severance; Bonus Payments. Except for the Company Rights
Plan and the At-Risk Plan, the Company is not a party to any agreement that
would require any change of control, acceleration of any vesting of options,
warrants or other instruments with vesting provisions, severance or bonus or
other payment in connection with the consummation of the Merger and the
consummation of the transactions contemplated by this Agreement.
3.28. Financial
Projections. Subject to Section 4.8, the financial projections
provided by the Company were prepared by the Company in good faith based on
assumptions that management believes were reasonable at the time of such
financial projections. As of the date hereof, to the Knowledge of the
Company, there are no facts that have come to the attention of any officer
or
Key Employee of the Company since the date of the financial projections provided
by Company which would result in a Company Material Adverse Effect.
3.29. Books
and Records. The minute books and other similar records of the
Company contain true and complete records of all actions taken at any meetings
of the Company’s shareholders, board of directors or any committee thereof and
of all written consents executed in lieu of the holding of any such
meeting. The books and records of the Company accurately reflect the
assets, liabilities, business, financial condition and results of operations
of
the Company and have been maintained in accordance with good business and
bookkeeping practices.
3.30. Tax
Advice. Seller, for himself and as Representative, understands,
represents and warrants that (1) neither Parent nor Merger Subsidiary, nor
any
of their agents, has advised him regarding his Tax liability or the Tax
liability of the Rightsholders in connection with the transactions contemplated
by this Agreement, and (2) he has reviewed with his own Tax advisors the Tax
consequences of the transactions contemplated by this Agreement and is relying
solely on such advisors for such advice.
3.31. Disclosures. No
statement contained in the Disclosure Letter or any other document, certificate
or other instrument required to be delivered as a condition to Closing by or
on
behalf of the Company or Seller pursuant to this Agreement, contains or will
contain any untrue statement of a material fact or omits or will omit to state
any material fact necessary, in light of the circumstances under which it was
or
will be made, in order to make the statements herein or therein not
misleading.
ARTICLE
IV
REPRESENTATIONS
AND WARRANTIES OF PARENT AND MERGER SUBSIDIARY
Parent
and Merger Subsidiary represent and warrant to the Company, including the
information disclosed in the disclosure letter (referencing the appropriate
section or subsection of this Agreement, as applicable) supplied by Parent
to
the Company dated as of the date hereof (the “Parent Disclosure Letter”) as
follows:
4.1. Organization;
Good Standing; Capitalization of Merger Subsidiary. Each of Parent
and Merger Subsidiary is duly organized, validly existing and in good standing
under the laws of its jurisdiction of incorporation or organization with full
corporate power and authority to conduct its business as it is currently being
conducted and to own or lease, as applicable, its assets. True and
complete copies of the governing documents of Merger Subsidiary, as in effect
as
of the date of this Agreement, have previously been made available to the
Company. Parent is the legal and beneficial owner of 1,000 shares of
common stock of Merger Subsidiary, which shares constitute all of the issued
and
outstanding capital stock of Merger Subsidiary. Merger Subsidiary was
recently formed by Parent solely for the purpose of effecting the Merger and
the
other transactions contemplated by this Agreement. Except as
contemplated by this Agreement, Merger Subsidiary does not hold and has not
held
any material assets or incurred any material liabilities, and has not carried
on
any business activities other than in connection with the Merger and the other
transactions contemplated by this Agreement.
4.2. Authority;
No Conflict; Necessary Consents.
(a) Authority. Each
of Parent and Merger Subsidiary has all requisite corporate power and authority
to enter into this Agreement and to consummate the Merger and the transactions
contemplated hereby. The execution and delivery by each of Parent and Merger
Subsidiary of this Agreement and the consummation of the Merger and the
transactions contemplated hereby have been duly authorized by all necessary
corporate action on the part of Parent and Merger Subsidiary and no other action
is required on the part of Parent and Merger Subsidiary to authorize the
execution and delivery of this Agreement or to consummate the Merger and the
other transactions contemplated hereby, subject only to the filing of the
Articles of Merger pursuant to Illinois Law. This Agreement has been
duly executed and delivered by Parent and Merger Subsidiary and, assuming due
execution and delivery of this Agreement by the Company, constitutes the valid
and binding obligations of Parent and Merger Subsidiary, enforceable against
each of Parent and Merger Subsidiary in accordance with its terms, except as
enforcement may be limited by applicable bankruptcy, insolvency, reorganization,
moratorium and other laws affecting creditors’ rights generally and except
insofar as the availability of equitable remedies may be limited by Applicable
Law.
(b) No
Conflict. The execution and delivery by Parent and Merger Subsidiary
of this Agreement and the consummation of the transactions contemplated hereby,
will not (i) conflict with or violate any provision of the certificate of
incorporation, Articles of Incoporation or bylaws of either Parent or Merger
Subsidiary, (ii) conflict with or violate any Applicable Law or (iii) result
in
any breach of or constitute a default (or an event that with notice or lapse
of
time or both would become a default) under, or materially impair Parent’s or
Merger Subsidiary’s rights or alter the rights or obligations of any third party
under, or give to others any rights of termination, amendment, acceleration
or
cancellation of, or result in the creation of a Lien on any of the properties
or
assets of Parent or Merger Subsidiary pursuant to, any contract filed with
the
SEC in Parent’s filed SEC reports pursuant to Item 601(b)(10) of Regulation S-K
of the SEC; except, in the case of each of the preceding clauses (i), (ii)
and
(iii) for any conflict, violation, beach, default, impairment, alteration,
giving of rights or Lien which would not reasonably be expected to materially
and adversely affect the ability of Parent or Merger Subsidiary to consummate
the Merger within the time frame in which the Merger would otherwise be
consummated in the absence of such conflict, violation, beach, default,
impairment, alteration, giving of rights or Lien.
(c) Necessary
Consents. Except as set forth in Section 4.2(c) of the Parent
Disclosure Letter, no consent, waiver, approval, order, authorization,
registration, declaration or filing with any Governmental Authority, or any
Person, is required to be made or obtained by Parent or Merger Subsidiary in
connection with the execution and delivery of this Agreement or the consummation
of the transactions contemplated hereby, except for such consents, waivers,
approvals, orders, authorizations, registrations, declarations and filings
which, if not obtained or made, would not be material to Parent and Merger
Subsidiary taken as a whole or materially adversely affect the ability of the
parties hereto to consummate the Merger within the time frame in which the
Merger would otherwise be consummated in the absence of the need for such
consent, waiver, approval, order, authorization, registration, declaration
or
filing.
4.3. Capitalization. As
of the date of this Agreement, the authorized capital stock of Parent consists
of 250,000,000 shares of common stock, par value $0.001 per share. At
the close of business on September 30, 2007, 200,508,315 shares of Parent Common
Stock were issued and outstanding. Except as set forth in Section 4.3
of the Parent Disclosure Letter, as of the close of business on September 30,
2007, no shares of capital stock of Parent were issued, reserved for issuance
or
outstanding. All issued and outstanding shares of capital stock of
Parent have been, and all shares of the capital stock of Parent that may be
issued pursuant to the exercise of outstanding options will be, issued in
accordance with the terms thereof, duly authorized, validly issued, fully paid
and nonassessable and are subject to no preemptive or similar
rights.
(b) Parent
is the legal and beneficial owner of 1,000 shares of common stock of Merger
Subsidiary, which shares constitute all of the issued and outstanding capital
stock of Merger Subsidiary. Merger Subsidiary was recently formed by
Parent solely for the purpose of effecting the Merger and the other transactions
contemplated by this Agreement. Except as contemplated by this
Agreement, Merger Subsidiary does not hold and has not held any material assets
or incurred any material liabilities, and has not carried on any business
activities other than in connection with the Merger and the other transactions
contemplated by this Agreement.
4.4. Availability
of Funds. At Closing, Parent will have sufficient cash funds or
sufficient borrowing capabilities under existing borrowing facilities or loan
commitments which are sufficient to enable it to consummate the transactions
contemplated hereby.
4.5. Litigation. As
of the date of this Agreement, there is no Legal Proceeding pending, or the
knowledge of Parent, threatened in writing against, relating to or affecting
Parent or Merger Subsidiary that seeks to restrain or enjoin the consummation
of
the Merger or seek other relief or remedy related thereto. Neither
Parent nor any of its Subsidiaries is subject to any judgment, decree,
injunction, rule or order of any court, governmental department, commission,
agency, instrumentality or authority, or any arbitrator which prohibits or
restricts the consummation of the transactions contemplated by this
Agreement.
4.6. SEC
Filings. Except as set forth in Section 4.6 of the Parent Disclosure
Letter, Parent has timely filed all forms, reports, statements and documents
required to be filed by it with the SEC and the AMEX (collectively, the “Parent
SEC Reports”). Each Parent SEC Report (i) was prepared in accordance
with the requirements of the Securities Act, the Exchange Act, and the AMEX,
as
the case may be, and (ii) did not at the time it was filed contain any untrue
statement of a material fact or omit to state a material fact required to be
stated therein or necessary in order to make the statements made therein, in
the
light of the circumstances under which they were made, not
misleading.
(b) Each
of the financial statements (including, in each case, any notes thereto)
contained in the Parent SEC Reports was prepared in accordance with GAAP
(except, in the case of unaudited financial statements, for the absence of
footnotes and subject to normal year end adjustments, which adjustments are
not
material) applied on a consistent basis throughout the periods indicated (except
as may be indicated in the notes thereto) and each presented fairly the
financial position of Parent as at the respective dates thereof, and results
of
operations, stockholders’ equity and cash flows for the respective periods
indicated therein, except as otherwise noted therein (subject, in the case
of
unaudited statements, to normal and recurring immaterial year-end
adjustments).
(c) Since
the filing of Parent’s last Quarterly Report on SEC Form 10-Q, there have been
no SEC or AMEX inquiries or investigations, other governmental inquiries or
investigations or internal investigations pending or threatened with respect
to
Parent.
4.7. Brokers’
and Finders’ Fees. Except as set forth in Section 4.7 of Parent’s Disclosure
Letter, Parent and Merger Subsidiary have not (a) incurred, nor will it or
they
incur, directly or indirectly, any liability for brokerage or finders’ fees or
agents’ commissions, fees related to investment banking or similar advisory
services or any similar charges in connection with this Agreement or any
transaction contemplated hereby, nor (b) entered into any indemnification
agreement or arrangement with any Person in connection with this Agreement
and
the transactions contemplated hereby.
4.8. Parent’s
and Merger Subsidiary’s Acknowledgement Regarding Forward-Looking
Statements. Parent and Merger Subsidiary acknowledge that (a) except
as set forth in Section 3.28, neither the Company nor any of its directors,
officers, employees, agents or advisors makes or is deemed to have made
hereunder any representation or warranty, express or implied, of any kind
whatsoever concerning the accuracy or completeness of any financial projections
or other forward-looking financial information concerning the Company, (b)
there
are uncertainties inherent in attempting to make any such financial projections
or other forward-looking financial information concerning the Company, and
(c)
actual results of operations may differ materially from any such financial
projections or other forward-looking financial information concerning the
Company.
4.9. Compliance
with Laws.
Except
as
otherwise provided herein, neither Parent nor Merger Subsidiary are in violation
or default in any material respect of any Applicable Law. There is no
judgment, injunction, order or decree binding upon Parent or Merger Subsidiary
which has or would reasonably be expected to have the effect of prohibiting
or
impairing any business practice of Parent or Merger Subsidiary that would be
material to Parent and Merger Subsidiary taken as a whole or materially
adversely affect the ability of the parties hereto to consummate the Merger
within the time frame in which the Merger would otherwise be consummated in
the
absence of the need for such consent, waiver, approval, order, authorization,
registration, declaration or filing.
4.10. Issuance
of Shares.
Subject
to the approval of Parent’s stockholders in accordance with the terms of this
Agreement, the Parent Common Stock to be issued to Seller and the Rightsholders
hereunder has been duly authorized and, when issued in accordance with the
terms
of this Agreement, will be validly issued, fully paid and non-assessable, and
free from all Liens.
ARTICLE
V
CONDUCT
OF BUSINESS PRIOR TO THE EFFECTIVE TIME
5.1. Conduct
of Business by the Company Prior to Closing. Except as otherwise
expressly contemplated by this Agreement, as set forth in Section 5.1 of the
Company Disclosure Letter, or as required by Applicable Law, or to the extent
that Parent shall otherwise consent in writing, during the period from the
date
hereof and continuing until the earlier of the termination of this Agreement
pursuant to Article VIII or the Effective Time, the Company shall carry on
its
business in the usual, regular and ordinary course, in substantially the same
manner as heretofore conducted and in material compliance with all Applicable
Laws, pay its debts and Taxes when due, pay or perform other material
obligations when due, and use commercially reasonable efforts consistent with
past practices and policies to preserve substantially intact its present
business organization, keep available the services of its present executive
officers and Employees and consultants, and preserve its relationships with
its
Employees, consultants, customers, suppliers, licensors, licensees, lessors
and
others with which it has significant business dealings. The Company
also shall as promptly as reasonably practicable notify in writing Parent of
any
event or condition which could reasonably be expected to lead to a Company
Material Adverse Effect. Without limiting the generality of the
foregoing and subject to the exceptions set forth in Section 5.1 of the Company
Disclosure Letter, without the prior written consent of Parent (which consent
shall not be unreasonably withheld or delayed), during the period from the
date
hereof and continuing until the earlier of the termination of this Agreement
pursuant to Article VIII or the Effective Time, the Company shall not do any
of
the following:
(a) Enter
into any new line of business material to the Company;
(b) Declare,
set aside or pay any dividends on or make any other distributions in respect
of
any capital stock, or combine, split or reclassify any capital stock or issue
or
authorize the issuance of any other securities in respect of, in lieu of or
in
substitution for any capital stock;
(c) Authorize
for issuance, issue, deliver, sell, pledge or otherwise encumber (whether
through the issuance or granting of options, warrants, commitments,
subscriptions, rights (including stock appreciation rights or phantom stock
rights), rights to purchase or otherwise) any securities of the Company or
rights to acquire such securities, or enter into any other agreements or
commitments of any character obligating it to issue any such securities or
rights, or enter into any amendment of any term of any currently outstanding
securities of the Company or rights to acquire such securities;
(d) Purchase,
redeem or otherwise acquire or offer to redeem, purchase, or otherwise acquire,
directly or indirectly, any securities of the Company;
(e) Cause,
permit or propose to adopt any amendments to Company Charter
Documents;
(f) Adopt
or implement any stockholder rights plan, “poison pill,” or other anti-takeover
plan, arrangement or mechanism that, in each case, is applicable to Parent
or
Merger Subsidiary or the transactions contemplated by this
Agreement;
(g) Acquire
or agree to acquire by merging or consolidating with, or by purchasing any
equity or voting interest in or purchasing a material portion or all of the
assets of, or by any other manner, any business or any Person or any division
thereof, or otherwise acquire or agree to acquire any assets that are or are
expected to be material, individually or in the aggregate, to the business
of
the Company, or solicit or participate in any negotiations with respect to
any
of the foregoing;
(h) Enter
into, modify or amend in a manner materially adverse to the Company, or
terminate any Company Material Contract or waive, release or assign any material
rights or claims thereunder, in each case, in a manner materially adverse to
the
Company;
(i) Enter
into any binding agreement, agreement in principle, letter of intent, memorandum
of understanding or similar agreement with respect to any material joint
venture, strategic partnership or alliance;
(j) Sell,
lease, license, mortgage, pledge, encumber or otherwise dispose of any
properties or assets except for the sale, lease, license, encumbrance or
disposition of property or assets that are not material, individually or in
the
aggregate, to the business of the Company, in each case, in the ordinary course
of business and in a manner consistent with past practices, including with
respect to the terms and conditions of any such sale, lease, license,
encumbrance or other disposition;
(k) With
the exception of the Merger, adopt a plan of complete or partial liquidation
dissolution, merger, consolidation, recapitalization, reorganization, or other
restructuring of the Company, or organize or form any subsidiary or similar
entity over which the Company shall have control;
(l) Except
as required by this Agreement, incur, assume or prepay any indebtedness for
borrowed money or assume, guarantee, endorse or otherwise become liable or
responsible (whether directly, contingently or otherwise) for, any such
indebtedness of another Person, guarantee any debt securities of another Person,
or enter into any arrangement having the economic effect of any of the
foregoing, other than in connection with the financing of ordinary course trade
payables consistent with past practices;
(m) Make
any payments, loans, extensions of credit or financing, advances or capital
contributions to, or investments in, any other Person, other than (i) employee
loans, advances, or payments for bona fide travel and entertainment expenses
reimbursement made in the ordinary course of business consistent with past
practices or (ii) extensions of credit or financing to, or extended payment
terms for, customers made in the ordinary course of business consistent with
past practices;
(n) Sell,
transfer or lease any properties or assets (whether real, personal or mixed,
tangible or intangible) to, or enter into any contract, arrangement or
understanding with or on behalf of, any officer, director or employee of the
Company or any Affiliate of any of the Company, or any business entity in which
the Company or any such Affiliate, or any relative of any such Person, has
any
material, direct or indirect interest;
(o) Commit
any capital expenditure or expenditures in excess of $10,000 in the aggregate
above the capital expenditures set forth in the Company’s fiscal 2007 budget
forecasts.
(p) Except
as required by changes in GAAP or Applicable Law requirements, and as concurred
by Parent’s independent auditors, (i) make any change in the Company’s methods
or principles of accounting or (ii) revalue any of the Company’s assets,
including writing down the value of inventory or writing-off notes or accounts
receivable;
(q) (i)
Fail to file on a timely basis, including allowable extensions, with the
appropriate Governmental Authorities, all Tax Returns required to be filed,
(ii)
fail to timely pay or remit (or cause to be paid or remitted) any Taxes due
in
respect of such Tax Returns, (iii) adopt or change any accounting method in
respect of Taxes, (iv) enter into any agreement or arrangement, or settle or
compromise any claim or assessment in respect of, Taxes, or make or change
any
election with respect to Taxes, (v) file any amended Tax Return or (vi) consent
to any extension or waiver of the statutory period of limitations period
applicable to any claim or assessment in respect of Taxes;
(r) Commence,
settle or compromise any pending or threatened Legal Proceeding, or pay,
discharge or satisfy or agree to pay, discharge or satisfy any claim, liability,
obligation (whether absolute, accrued, asserted or unasserted, contingent or
otherwise) by or against the Company or relating to any of its businesses,
properties or assets (whether real, personal or mixed, tangible or intangible),
other than the settlement, compromise, payment, discharge or satisfaction of
Legal Proceedings, claims or other Liabilities (i) reflected or reserved against
in full in the Company Financials or (ii) the settlement, compromise, discharge
or satisfaction of which does not include any obligation (other than the payment
of money) to be performed by the Company following the Effective Time and that
does not involve the payment, individually or in the aggregate, of an amount
exceeding $10,000;
(s) Except
as required by Applicable Law or any contract or agreement currently binding
on
the Company, (i) adopt, amend, modify, or increase in any manner the amount
of
compensation or fringe benefits of, pay or grant any bonus, change of control,
severance or termination pay to any officer, Employee or director of the
Company, (ii) adopt or amend in any manner, any Company Benefit Plan, including
without limitation the Company Rights Plan, (iii) fail to make any required
contribution to any Company Benefit Plan, (iv) make any contribution, other
than
regularly scheduled contributions, to any Company Benefit Plan, (v) authorize
cash payments in exchange for any benefits or Rights, (vi) allocate bonus awards
under a Company Benefit Plan in a manner or amount not consistent with past
practices, (vii) enter into or amend any employment agreement, arrangement
or
understanding with any Employee or director or any indemnification agreement
or
arrangement with any Employee or director, (viii) enter into any collective
bargaining or amend or extend any existing collective bargaining agreement,
or
(ix) hire any employees or retain any consultant other than in the ordinary
course of business consistent with past practices or hire, elect or appoint
any
officers or directors;
(t) (i)
Grant any exclusive rights with respect to any Company Intellectual Property,
(ii) divest any Company Intellectual Property, except if such divestiture or
divestures, individually or in the aggregate, are not material to the Company,
(iii) enter into any material contract, agreement or license that adversely
affects, or could reasonably be expected to adversely affect, any patents or
applications therefor, in each case, of the Company or any Affiliate of the
Company, or (iv) abandon or permit to lapse any rights to any United States
patent or patent application;
(u) Enter
into any contract, agreement, arrangement or understanding with a customer
that
contains any material non-standard terms, including but not limited to,
non-standard discounts, provisions for unpaid future deliverables, non-standard
service requirements or future royalty payments, other than as is consistent
with past practices;
(v) Enter
into any contract, arrangement or understanding to do any of the foregoing
or
authorize, recommend, take, commit, or agree in writing or otherwise to take,
or
announce an intention to take, any of the actions described in this Section
5.1,
or any other action that results or is reasonably likely to (i) result in any
of
the conditions to the Merger set forth in Article VII hereof not being
satisfied, (ii) result in any representation or warranty of the Company
contained in this Agreement that is qualified as to materiality becoming untrue
or incorrect or any representation or warranty not so qualified becoming untrue
or incorrect in any material respect (provided that representations made as
of a
specific date shall be required to be so true and correct, subject to
qualifications, as of such date only), (iii) prevent the Company from
performing, or cause the Company not to perform, its covenants or agreements
hereunder, or (iv) otherwise materially impair the ability of the Company to
consummate the transactions contemplated hereby in accordance with the terms
hereof or materially delay such consummation; or
(w) Take,
or agree or fail to take, any action that would reasonably be expected to cause
the Merger to fail to qualify as a reorganization pursuant to Section 368(a)
of
the Code.
5.2. Control
of Business. Nothing contained in this Agreement shall give (a)
Parent or Merger Subsidiary, directly or indirectly, the right to control the
Company’s operations prior to the Effective Time or (b) the Company, directly or
indirectly, the right to control the operations of Parent or Merger Subsidiary
prior to the Effective Time. Prior to the Effective Time, each of
Parent, Merger Subsidiary and the Company shall exercise, consistent with the
terms and conditions of this Agreement, complete control and supervision over
its respective business operations.
ARTICLE
VI
ADDITIONAL
AGREEMENTS
6.1. No
Solicitation. From and after the date of this Agreement until the earlier to
occur of the termination of this Agreement pursuant to Article VIII and the
Effective Time, the Company shall not, nor shall it authorize or knowingly
permit any of its directors, officers or other employees, Affiliates, or any
investment banker, attorney or other advisor or representative retained by
it or
any of them to, directly or indirectly, (i) solicit, initiate, knowingly
encourage, or induce the making, submission or announcement of, an Acquisition
Proposal, (ii) furnish to any Person any non-public information relating to
the
Company or afford access to the business, properties, assets, books or records
of the Company to any Person (other than Parent, Merger Subsidiary or any
designees of Parent or Merger Subsidiary) in connection with an Acquisition
Proposal, (iii) participate or engage in discussions or negotiations with any
Person with respect to an Acquisition Proposal (other than to notify such Person
as to the existence of the provisions of this Section 6.1), (iv) approve,
endorse or recommend an Acquisition Proposal, (v) enter into any letter of
intent, memorandum of understanding or other agreement, contract or arrangement
contemplating or otherwise relating to an Acquisition Proposal, or (vi)
terminate, amend or waive any rights under any “standstill” or other similar
agreement between the Company and any Person (other than Parent). The
Company has terminated any and all pending discussions or negotiations relating
to any Acquisition Proposal and represents and warrants that it had the legal
right to terminate such negotiations without the payment of any fee or penalty
or the incurrence of any continuing liability on behalf of the
Company. The Company shall notify Parent as promptly as is reasonably
practicable (but in any event within 24 hours) after receipt by the Company,
its
Affiliates or its advisors of any Acquisition Proposal or any request for
information or access to the Company’s properties, books or records in
connection with an Acquisition Proposal. Such notice shall be made in
writing and shall indicate in reasonable detail the identity of the Person
or
entity and the terms and conditions of such proposal, inquiry or
contact. Without limiting the generality of the foregoing, it is
understood and agreed by the parties hereto that any violation of the
restrictions set forth above in this Section 6.1 by any officer, director,
agent, representative or Affiliate of the Company shall be deemed to be a
material breach of this Agreement by the Company including, without limitation,
for purposes of Article IX. Notwithstanding the restrictions in this
Section 6.1, nothing in this Agreement shall prevent Company or its board of
directors, at any time, with respect to this Agreement and the Merger, from
making any legally required disclosure to the Rightsholders.
6.2. Confidentiality;
Access to Information; No Modification of Representations, Warranties or
Covenants.
(a) Confidentiality. From
and after the date of this Agreement, the Company shall, and shall cause their
Affiliates and representatives and, other than pursuant to employment
arrangements with Parent, Employees to, keep confidential and not disclose
to
any other Person or use for their own benefit or the benefit of any other Person
any trade secrets or other confidential or proprietary information in its
possession or control regarding the business of the Company, the Surviving
Corporation and/or Parent and their respective operations, including
confidential or proprietary information regarding customers, vendors, suppliers,
Intellectual Property, training programs, manuals or materials, technical
information, contracts, systems, procedures, mailing lists, improvements, price
lists, financial or other data (including revenues, costs or profits associated
with any of the Company’s products or services), business plans, code books,
invoices and other financial statements, computer programs, databases, discs
and
printouts, plans (business, technical or otherwise), customer and industry
lists, correspondence, internal reports, personnel files, sales and advertising
material, telephone numbers, names, addresses or any other compilation of
information. The obligation of the Company and Seller under this
Section 6.2(a) shall not apply to information which (i) is or becomes generally
available to the public without breach of the commitment provided for in this
Section 6.2(a), (ii) the Company deems it reasonably necessary to disclose
in
order for the Company to enforce its/his rights or perform its/his obligations
under this Agreement or any of the Transaction Documents, or (iii) is required
to be disclosed by Applicable Law or order; provided, however, that, in such
case, the Company shall (x) notify Parent as early as reasonably practicable
prior to disclosure to allow Parent to take appropriate measures to preserve
the
confidentiality of such information and (y) take all steps reasonably necessary
to minimize the amount of confidential information to be disclosed.
(b) Access
to Information. The Company shall afford Parent and its accountants,
counsel and other representatives, reasonable access during the period from
the
date hereof and prior to the Effective Time to (i) all of the properties,
assets, books, contracts, commitments and records of the Company, including
all
Intellectual Property used by the Company (including access to design processes
and methodologies and all source code), (ii) all other information concerning
the business, properties and personnel (subject to restrictions imposed by
Applicable Law) of the Company as Parent may reasonably request, and (iii)
all
Employees of the Company as identified by Parent. The Company agrees
to provide to Parent and its authorized representatives copies of internal
financial statements (including Tax Returns and supporting documentation)
promptly upon request. No information or knowledge obtained in any
investigation or notification pursuant to this Section 6.2 or otherwise shall
affect or be deemed to modify any representation or warranty contained herein,
the covenants or agreements of the parties hereto, the conditions to the
obligations of the parties hereto under this Agreement, or the remedies
available to the parties hereto under this Agreement. The terms and conditions
of Section 6.2(a) hereof shall apply to any information provided to Parent
pursuant to this Section 6.2(b).
6.3. Public
Disclosure. From the date hereof until the earlier of the Effective
Time or the termination of this Agreement in accordance with Article VIII,
Parent and the Company shall consult with each other before issuing, and provide
each other the opportunity to review, comment upon and concur with, and use
reasonable efforts to agree on any press release or public statement with
respect to this Agreement and the transactions contemplated hereby, including
the Merger and any Acquisition Proposal, and shall not issue any such press
release or make any such public statement prior to such consultation and
agreement, except as may be required by Applicable Law or, in the case of
Parent, any listing agreement with AMEX. The parties have agreed to
the text of the joint press release announcing the signing of this
Agreement.
6.4. Regulatory
Filings. Subject to the terms and conditions of this Agreement, the
Company, Parent and Merger Subsidiary shall use their respective commercially
reasonable efforts to make all necessary and appropriate filings with federal,
state or local governmental bodies, applicable foreign governmental agencies
or
securities exchange and obtain required approvals, consents and clearances
with
respect thereto, if applicable, and supply all additional information requested
in connection therewith.
6.5. State
Anti-Takeover Law. In the event that any state anti-takeover or other
similar statute or regulation is or becomes applicable to this Agreement, the
Merger or any of the transactions contemplated by this Agreement, the Company,
at the direction of the board of directors of the Company, shall use its
commercially reasonable efforts to ensure that the Merger and the other
transactions contemplated by this Agreement may be consummated as promptly
as
practicable on the terms and subject to the conditions set forth in this
Agreement, and otherwise to minimize the effect of any such statute or
regulation on this Agreement, the Merger and the other transactions contemplated
hereby.
6.6. Third-Party
Consents. As soon as practicable following the date hereof, the
Company, with the reasonable cooperation from Parent as may be reasonably
requested by the Company, will use all commercially reasonable efforts to obtain
the consents, waivers and approvals set forth in Section 3.3(c) of the Company
Disclosure Letter that are required to be obtained in connection with the
consummation of the transactions contemplated hereby (the “Required
Consents”). If one or more Required Consents is not obtained prior to
the Closing, the parties shall work together in good faith in an effort to
as
promptly as practicably determine alternative arrangements that will minimize
the impact of the failure to obtain such Required Consent on the
Company.
6.7. Notification
of Certain Matters.
(a) By
the Company.
(i) At
all times commencing with the execution and delivery of this Agreement and
continuing until the earlier of the termination of this Agreement pursuant
to
Article VIII hereof and the Effective Time, the Company shall, as promptly
as is
reasonably practicable upon receiving Knowledge thereof, give notice to Parent
and Merger Subsidiary (A) of any representation or warranty made by it contained
in this Agreement becoming untrue or inaccurate in any material respect, or
of
any failure of the Company to comply with or satisfy in any material respect
any
covenant, condition or agreement to be complied with or satisfied by it under
this Agreement, (B) of the occurrence of any Company Material Adverse Effect,
or
(C) any Legal Proceedings commenced or threatened by any Person (including
a
Governmental Authority) that seek to prohibit or materially impair the
consummation of the Merger and the transactions contemplated in this
Agreement. No notification and no information or knowledge obtained
through notification pursuant to this Section 6.7(a)(i) or otherwise shall
affect or be deemed to modify any representation or warranty contained herein,
the covenants or agreements of the parties hereto, the conditions to the
obligations of the parties hereto under this Agreement, or the remedies
available to the parties hereto under this Agreement. The terms and
conditions of Section 6.2(a) hereof shall apply to any information provided
to
Parent pursuant to this Section 6.7(a)(i).
(ii) At
all times commencing with the execution and delivery of this Agreement and
continuing until the earlier of the termination of this Agreement pursuant
to
Article VIII hereof, and the Effective Time, the Company shall, as promptly
as
is reasonably practicable upon receipt thereof, give notice to Parent of (A)
any
notice or other communication received by it from any third party, subsequent
to
the date of this Agreement and prior to the Effective Time, alleging any
material breach of or material default under any Company Material Contract
to
which the Company is a party or (B) any notice or other communication received
by the Company from any third party, subsequent to the date of this Agreement
and prior to the Effective Time, alleging that the consent of such third party
is or may be required in connection with the transactions contemplated by this
Agreement. No notification and no information or knowledge obtained
through notification pursuant to this Section 6.7(a)(ii) or otherwise shall
affect or be deemed to modify any representation or warranty contained herein,
the covenants or agreements of the parties hereto, the conditions to the
obligations of the parties hereto under this Agreement, or the remedies
available to the parties hereto under this Agreement. The terms and
conditions of Section 6.2(a) hereof shall apply to any information provided
to
Parent pursuant to this Section 6.7(a)(ii).
(b) By
Parent and Merger Subsidiary. At all times commencing with the
execution and delivery of this Agreement and continuing until the earlier of
the
termination of this Agreement pursuant to Article VIII hereof, and the Effective
Time, Parent shall give as promptly as reasonably practicable upon receiving
knowledge thereof, notice to the Company (i) of any representation or warranty
made by them contained in this Agreement becoming untrue or inaccurate in any
material respect, or of any failure of Parent or Merger Subsidiary to comply
with or satisfy in any material respect any covenant, condition or agreement
to
be complied with or satisfied by them under this Agreement or (ii) any Legal
Proceedings commenced or threatened by any Person (including a Governmental
Authority) that seek to prohibit or materially impair the consummation of the
Merger and the transactions contemplated in this Agreement. No
notification and no information or knowledge obtained through notification
pursuant to this Section 6.7(b) or otherwise shall affect or be deemed to modify
any representation or warranty contained herein, the covenants or agreements
of
the parties hereto, the conditions to the obligations of the parties hereto
under this Agreement, or the remedies available to the parties hereto under
this
Agreement. The terms and conditions of Section 6.2(a) hereof shall
apply to any information provided to Parent pursuant to this Section
6.7(b).
6.8. Rights
and Enhanced Benefits. All outstanding Rights and Enhanced Benefits
shall be converted into the right to receive a portion of the Payments as set
forth in Section 2.6 above, and the Company and the Representative shall
promptly following the date of this Agreement (a) inform all affected
Rightsholders of the terms and conditions of their right to receive their
respective portion of the Payments and (b) take all action necessary to effect
the distribution of the Payments following the Effective Time, including the
adoption of any necessary amendments to the Company Rights Plan, the At-Risk
Plan and/or the agreements pertaining to such outstanding Rights or Enhanced
Benefits, and the obtaining the any necessary amendments or consents of, or
acknowledgments and releases from the Rightsholders, if so requested by Parent,
which such amendments, consents, acknowledgments or releases shall be in form
reasonably satisfactory to Parent. No Rightsholder shall receive any
Payment unless such Rightsholder executes a Phantom Stock Plan/At-Risk
Acknowledgment and no Rightsholder (other than Non-Continuing Rightsholders)
shall receive any Contingent Rights Payments unless such Rightsholder executes
a
Restricted Stock Agreement.
6.9. Indebtedness;
Releases. Except for the Rightsholder Notes, if any (which shall be
satisfied at Closing), prior to the Closing Date, the Company shall make all
arrangements necessary to permit the following to happen at or prior to Closing
as set forth in this Agreement: (i) full payment or forgiveness and release
or
termination of all outstanding Indebtedness of the Company, including, without
limitation, the Credit Line, (ii) Seller’s contribution of the Seller’s Note to
the Company for no consideration, (iii) termination and release of any guaranty
or guaranties of the Company, and (iv) release and termination of any Lien
on
any properties or assets of the Company.
6.10. Resignations. On
the Closing Date, the Company shall cause to be delivered to Parent duly
executed resignations, effective as of the Closing, of all members of the board
of directors and all officers of the Company.
6.11. Rightsholders
Agreements. To the extent such actions have not already begun prior
to execution of this Agreement, the Company shall commence all actions necessary
to enable each Rightsholder to execute the applicable Phantom Stock Plan/At-Risk
Acknowledgements and shall use commercially reasonable efforts to obtain such
documents prior to December 1, 2007 (it being understood that to the extent
such
documents are executed by a Rightsholder prior to the Closing, such signatures
will be delivered in escrow and will not become effective unless and until
the
Closing occurs, at which point such documents will be dated the Closing
Date).
6.12. Meeting
of Parent Stockholders.
(a) Call
of Meeting; Solicitation of Proxies. Subject to Section 6.13(a),
Parent will take all action necessary to call, hold and convene a meeting (the
“Parent Stockholders’ Meeting”) of its stockholders, as promptly as practicable
following the date hereof, for the purposes of obtaining the Parent Stockholder
Approval. Parent shall solicit proxies from the stockholders to
obtain the Parent Stockholder Approval and, consistent with its fiduciary
duties, use its best efforts to secure the requisite stockholder vote at the
Parent Stockholders’ Meeting. Unless this Agreement is earlier
terminated pursuant to Article VIII, Parent shall establish a record date for,
call, give notice of, convene and hold the Parent Stockholders’ Meeting for the
purpose of obtaining the Parent Stockholder Approval in accordance with Delaware
Law, Illinois Law and AMEX rules.
(b) Postponement
or Adjournment. Parent may adjourn or postpone the Parent
Stockholders’ Meeting to the extent necessary to ensure that any necessary
supplement or amendment to the Proxy Statement is provided to its stockholders
in advance of a vote on the Parent Stockholder Approval, or, if as of the time
the Parent Stockholders’ Meeting is originally scheduled to be convened (as set
forth in the Proxy Statement) there are insufficient shares of Parent Common
Stock represented (either in person or by proxy) to constitute a quorum
necessary to conduct the business of the Parent Stockholders’
Meeting.
6.13. Proxy
Statement and Registration Statement.
(a) Preparation
and Filing. As promptly as practicable after the execution of this
Agreement, Parent shall prepare and file with the SEC the Proxy Statement in
accordance with the applicable requirements of the Exchange Act (the “Proxy
Statement”). Parent shall use commercially reasonable efforts to
clear any comments to the Proxy Statement issued by the SEC as promptly as
practicable after such filing. Parent shall use its commercially
reasonable efforts to cause the Proxy Statement to be mailed to the stockholders
of Parent as promptly as practicable after it files the definitive copy of
the
Proxy Statement with the SEC. Parent shall also take any action
required to be taken under any applicable state securities laws in connection
with the issuance of shares of Parent Common Stock in the Merger, and the
Company shall furnish all information as may be reasonably requested by Parent,
including without limitation, audited and pro forma financial statements of
the
Company satisfying the rules and regulations of the SEC, in connection with
any
such action and the preparation, filing and distribution of the Proxy
Statement.
(b) Cooperation
and Consultation; Amendments and Supplements. No preparation, filing
or distribution of the Proxy Statement (including any amendments or supplements
thereto) will be made by Parent without providing the Company with a reasonable
opportunity to review and comment thereon. Parent will notify the
Company promptly upon the receipt of any comments from the SEC or its staff
in
connection with the initial filing of, or amendments or supplements to, the
Proxy Statement, and shall supply the Company with copies of all correspondence
between Parent or any of its representatives, on the one hand, and the SEC
or
its staff, on the other hand, with respect to the Proxy Statement. If
at any time prior to the Effective Time, Parent becomes aware of any information
that should be set forth in an amendment or supplement to the Proxy Statement,
so that either such document would not include any misstatement of material
fact
or omit to state any material fact necessary to make the statements therein,
in
light of the circumstances under which they are made, not misleading, Parent
shall promptly notify the Company and an appropriate amendment or supplement
describing such information shall be promptly filed with the SEC and, to the
extent required by Applicable Law or SEC staff request, disseminated to the
stockholders of Parent.
(c) Notice
of Certain Actions. Parent also shall notify the Company promptly of
the issuance of any stop order affecting, or suspension of, the qualification
of
the Parent Common Stock issuable in connection with the Merger for offering
or
sale in any jurisdiction, or injunction or other action of the SEC or other
governmental authority prohibiting or limiting the use of the Proxy Statement
in
connection with the solicitation of proxies from the stockholders of Parent
with
respect to the adoption and approval of this Agreement and approval of the
Merger and the offer and issuance of Parent Common Stock in connection
therewith.
(d) Registration
of Shares. As promptly as practicable after obtaining the Parent
Stockholder Approval, but prior to Closing, Parent shall take commercially
reasonable efforts to prepare and file with the SEC a registration statement
on
Form S-8 (or an amendment to an existing S-8 filed by Parent covering shares
under its 2003 Equity Incentive Plan, as amended), covering the shares of Parent
Common Stock issued or issuable to the Rightsholders pursuant to this Agreement,
subject to the Securities and Exchange Commission’s guidelines. The resale of
shares of Parent Common Stock issuable to Seller and the Non-Continuing
Rightsholders pursuant to this Agreement shall be subject to the Registration
Rights Agreement in substantially the form attached hereto to this Agreement
as
Exhibit C.
6.14. AMEX
Listing. Parent shall use commercially reasonable efforts to cause
the shares of Parent Common Stock to be issued in connection with the Merger
to
be approved for listing on AMEX, subject to official notice of issuance, prior
to the Effective Time.
6.15. Tax
Matters.
(a) Responsibility
for Filing Tax Returns. Parent shall prepare or cause to be prepared
and file or cause to be filed all Tax Returns of the Company that are filed
after the Closing Date (“Parent-Filed Returns”) other than income Tax Returns of
the Company (including Illinois Tax Returns of the Company based on income)
for
taxable periods or portions thereof ending on or before the Closing Date, which
returns Seller shall prepare or cause to be prepared and file or cause to be
filed (“Seller-Filed Returns”). Seller shall not file any
Seller-Filed Return without Parent’s consent, which consent shall not be
unreasonably withheld. Parent shall pay or cause to be paid all Taxes
of the Company shown on Parent-Filed Returns. Seller shall pay or
cause to be paid all Taxes (including Taxes imposed on the Company) with respect
to Seller-Filed Returns. Parent shall have the right to proceed
against and recover from Seller the amount of Taxes allocable to the taxable
period (or portion thereof) ending on or before the Closing Date reflected
in
the Parent-Filed Returns pursuant to and in accordance with the terms and
conditions of Article IX; provided, however, the provisions of Sections 9.4
and
9.5 shall not apply in this circumstance.
(b) Tax
Refunds. If it is finally determined after the Closing Date that
there has been overpayment of Taxes of the Company attributable to a taxable
period or portion thereof ending or before the Closing Date and the original
payment of such Tax was (i) borne by Seller economically or (ii) paid prior
to
the Closing Date by the Company, then Parent shall pay or cause to be paid
to
Seller the amount of such overpayment promptly upon the receipt of a refund
of
such overpayment by Parent or its Affiliates (or benefit of crediting of such
overpayment), less any costs associated with recovering such refund or benefit,
provided, however, that neither (x) a refund or credit that results from the
carryforward of a Tax attribute from a taxable period ending on or before the
Closing Date to a taxable period beginning after the Closing Date; nor (y)
a
refund or credit that results from the carryback of a Tax attribute from a
taxable period beginning after the Closing Date to a taxable period ending
on or
before the Closing Date shall be considered derived from an overpayment
attributable to a taxable period ending on or before the Closing
Date.
(c) Allocation
of Taxes. For purposes of Sections 6.15(a), in the case of any Taxes
that are payable for a taxable period that includes, but does not end on, the
Closing Date, the portion of such Tax which relates to the portion of such
taxable period ending on the Closing Date shall (A) in the case of Taxes other
than Taxes based on income or receipts, be deemed to be the amount of such
Tax
for the entire taxable period multiplied by a fraction the numerator of which
is
the number of days in the taxable period ending on the Closing Date and the
denominator of which is the number of days in the entire taxable period, and
(B)
in the case of any Tax based on income or receipts, be deemed equal to the
amount which would be payable if the relevant taxable period ended as of the
Closing Date.
(d) Cooperation. Parent,
the Company, the Surviving Corporation and Seller/Representative shall, and
shall each cause its Subsidiaries and Affiliates to, provide to the others
such
cooperation and information, as and to the extent reasonably requested, in
connection with the filing of any Tax Return, amended Tax Return, or claim
for
refund, determining liability for Taxes or in conducting any audit, litigation
or other proceeding with respect to Taxes. Each Party shall (A)
retain all books and records with respect to Tax matters pertinent to the
Company relating to any taxable period beginning before the Closing Date until
the expiration of the statute of limitations (and, to the extent notified by
any
party, any extensions thereof) of the respective taxable periods, and abide
by
all record retention agreements entered into with any taxing authority, (B)
upon
the reasonable request of the other parties, provide, at such other parties’
sole cost and expense, copies of such books and records, and (C) give the other
parties reasonable written notice prior to transferring, destroying or
discarding any such books and records and, if any of the other parties so
request, shall allow the requesting party to take possession of such books
and
records.
(e) Transfer
Taxes. Seller shall pay all Transfer Taxes arising out of the
transactions contemplated by this Agreement and shall file or cause to be filed
all necessary documentation and Tax Returns with respect to such Transfer Taxes.
For purposes of this Agreement, “Transfer Taxes” means sales, use, transfer,
real property transfer, recording, documentary, stamp, registration, stock
transfer, and other similar taxes and fees (including any penalties and
interest).
(f) FIRPTA
Compliance. On the Closing Date, Seller shall deliver to Parent a properly
executed statement of non-foreign status as to both Seller and the Company
in a
form reasonably acceptable to Parent for purposes of satisfying Parent’s
obligations under Section 1445.
(g) Reporting. The
parties shall report the Merger as a reorganization within the meaning of
Section 368(a) of the Code for purposes of all Tax Returns and other
filings.
(h) For
the avoidance of doubt, any income Tax deductions attributable to
payment (including by issuance of the Rightsholder Notes, if any) of the
Suspended Salary, the Enhanced Benefits, and the Rights under the Company Rights
Plan to the extent payable to the Rightsholders on or before the day before
the
Closing Date (payment of which is subject to the filing and effectiveness of
a
Registration Statement with the SEC) shall be included on the Company’s 2007
S-corporation U.S. federal income tax return.
6.16. Satisfaction
of Obligations; Termination or Exchange of Certain Agreements and
Plans.
(a) Satisfaction
of Suspended Salary Obligations. The Company shall pay and fully
satisfy its obligation to pay the Rightsholders listed on the Allocation
Schedule their respective Suspended Salaries in cash pursuant to the provisions
of the At-Risk Plan as provided in this Agreement.
(b) Termination
of all Company Benefit Plans. Prior to the Effective Time, the
Company shall take all action necessary to cause the termination of all Company
Benefit Plans, including without limitation, the Company Rights Plan and the
At-Risk Plan, in each case, effective upon Closing and shall provide Parent
with
written documentation of such action.
(c) Termination
of 401(k) Plan. Effective as of no later than the day immediately
preceding the Closing Date, each of the Company and any ERISA Affiliate shall
terminate any and all Company Benefit Plans intended to include an arrangement
under Section 401(k) of the Code (each a “401(k) Plan”) unless Parent provides
written notice to the Company that any such 401(k) plan shall not be
terminated. Unless, no later than ten (10) Business Days prior to the
Closing Date, Parent provides such written notice to the Company, then the
Company shall provide Parent with evidence that such 401(k) Plan(s) have been
terminated (effective as of no later than the day immediately preceding the
Closing Date) pursuant to resolutions of the board of directors of the Company
or such ERISA Affiliate, as the case may be. Parent shall cause a
401(k) plan that is sponsored by Parent or an Affiliate of Parent (“Parent’s
401(k) Plan”) to accept the rollover contributions from or on behalf of any
employee of the Company who receives an eligible rollover distribution from
a
401(k) Plan.
6.17. Company
Transaction Expenses. Except for the Company Transaction Expenses,
none of Parent, Merger Subsidiary or the Surviving Corporation shall, directly
or indirectly, before or after the Closing Date have any liability or obligation
with respect to any amounts owed by Seller or the Company for brokerage or
finders’ fees or agents’ commissions, fees related to investment banking or
similar advisory services or any similar charges in connection with this
Agreement or any transaction contemplated hereby.
6.18. Affiliates. The
Company shall identify in a letter to Parent all Persons who are, on the date
hereof, “affiliates” of the Company, as such term is used in Rule 145 under the
Securities Act. The Company shall cause its respective affiliates to
deliver to Parent, not later than ten (10) days prior to the date of the Parent
Stockholders’ Meeting, a written agreement substantially in the form attached as
Exhibit D (the “Affiliate Letter”), and shall to cause Persons who become
“affiliates” after such date but prior to the Closing Date to execute and
deliver such Affiliate Letters at least five (5) days prior to the Closing
Date.
6.19. Authorized
Shares. Upon approval by Parent’s stockholders to increase the number
of shares of Parent Common Stock Parent is authorized to issue under the Parent
Charter Documents, Parent shall at all times maintain sufficient authorized
but
unissued shares of Parent Common Stock to issue the shares of Parent Common
Stock in order to make the Payments in full.
6.20. Additional
Actions; Further Assurances. Subject to the terms and conditions of
this Agreement, each party agrees to use all commercially reasonable efforts
to
take, or cause to be taken, all action and to do, or cause to be done, all
things necessary, proper or advisable under Applicable Law, or to remove any
injunctions or other impediments or delays, to consummate and make effective
the
Merger and transactions contemplated hereby. Each of the parties
agrees further shall take such additional action to deliver or cause to be
delivered to other parties at the Closing and at such other times thereafter
as
shall be reasonably agreed by such parties such additional agreements or
instruments as any of them may reasonably request for the purpose of carrying
out this Agreement and the transactions contemplated hereby. At and
after the Effective Time, the officers and directors of the Surviving
Corporation will be authorized to execute and deliver, in the name and on behalf
of the Company or Merger Subsidiary, any deeds, bills of sale, assignments
or
assurances and to take and do, in the name and on behalf of the Company or
Merger Subsidiary, any other actions and things to vest, perfect or confirm
of
record or otherwise in the Surviving Corporation any and all right, title and
interest in, to and under any of the rights, properties or assets of the
Company.
6.21. Section
16 of the Exchange Act. Prior to the Effective Time, Parent shall
take all such steps as may be required to cause any acquisitions of Parent
Common Stock (including derivative securities with respect to Parent Common
Stock) resulting from the transactions contemplated by this Agreement by each
individual who is or will become subject to the reporting requirements of
Section 16(a) of the Exchange Act, to be exempt under Rule 16b-3 promulgated
under the Exchange Act, such steps to be taken in accordance with the guidance
provided by the SEC.
6.22. Tax-Free
Reorganization Status. Seller, Parent and Company agree to take any
reasonable action, cause any reasonable action to be taken, and shall not fail
to take any reasonable action or fail to cause to take any reasonable action
that would prevent the Merger from constituting a tax-free reorganization under
Section 368(a) of the Code.
ARTICLE
VII
CONDITIONS
TO THE MERGER
7.1. Conditions
to the Obligations of Each Party to Effect the Merger. The respective
obligations of each of Parent, Merger Subsidiary and the Company to effect
the
Merger shall be subject to the satisfaction, or, to extent permitted by
Applicable Law, the waiver at or prior to the Closing Date of each of the
following conditions:
(a) No
Legal Prohibition. No Governmental Authority of competent
jurisdiction shall have (i) adopted or issued a statute, rule, regulation or
order or taken any other action (including the failure to have taken an action)
that is in effect, in any case having the effect (or which reasonably could
be
expected to have the effect) of making illegal the Merger or the transactions
contemplated hereby in any jurisdiction in which Parent or the Company have
material business operations or prohibiting or otherwise preventing or
materially delaying the consummation of the Merger or any of the transactions
contemplated hereby or (ii) issued or granted or threatened to issue or grant
any judgment, injunction, order, decree, ruling or similar action (whether
temporary, preliminary or permanent in character) that is in effect and has
(or
which reasonably could be expected to have) the effect of making illegal the
Merger or the transactions contemplated hereby in any jurisdiction in which
Parent or the Company have material business operations or prohibiting or
otherwise preventing or delaying materially the consummation of the Merger
or
any of the transactions contemplated hereby.
(b) Governmental
Consents; HSR. Each of the parties shall have obtained all consents
and approvals under Applicable Law required to consummate the Merger and the
transactions contemplated thereby. Any waiting period (and any
extension thereof) applicable to the consummation of the Merger under the HSR
Act and any other applicable foreign antitrust, competition or similar
Applicable Law shall have expired or been terminated.
(c) AMEX
Listing. The shares of Parent Common Stock to be issued in the Merger
shall have been approved for listing on the AMEX, subject to official notice
of
issuance.
(d) S-8.
There shall have been filed a registration statement on Form S-8 or an amendment
to an existing registration statement on Form S-8 covering Parent securities
under the Securities Act and the rules promulgated by the SEC thereunder
covering the shares of Parent Common Stock to be issued to the Rightsholders
under this Agreement.
(e) Parent
Stockholder Approval. Parent shall have obtained the Parent
Stockholder Approval at the Parent Stockholders’ Meeting.
(f) Financing. Parent
shall have executed definitive loan documents with its lenders and shall have
received an aggregate amount of $1,500,000 pursuant to such
documents.
7.2. Additional
Conditions to the Obligations of Parent and Merger Subsidiary. The
obligations of Parent and Merger Subsidiary to effect the Merger shall be
subject to the satisfaction, or, to the extent permitted by Applicable Law,
the
waiver by Parent and Merger Subsidiary, at or prior to the Closing Date of
each
of the following conditions:
(a) Representations
and Warranties. Each of the representations and warranties of the
Company, through its officers, director and sole stockholder, set forth in
this
Agreement or in any other document required to be delivered at the Closing
pursuant hereto, without giving effect to any “material,” “materially” or
Company Material Adverse Effect qualification contained in such representations
and warranties, shall be true, complete and correct in each case as of the
date
hereof and as of the Effective Time with the same effect as if made anew at
and
as of the Effective Time (except to the extent such representations and
warranties specifically relate to a different date, in which case such
representations and warranties shall be true, complete and correct as of such
different date), except where the failure to be true and correct has not had,
individually or in the aggregate, a Company Material Adverse
Effect. In addition, for purposes of determining the accuracy of the
Company’s representations and warranties under this Section 7.2(a), any update
of or modification to the Company Disclosure Letter made or purported to have
been made after the date of this Agreement shall be disregarded.
(b) Agreements
and Covenants. The Company shall have in all material respects
performed or complied with all agreements and covenants required by this
Agreement to be performed or complied with by the Company at or prior to the
Closing Date.
(c) No
Company Material Adverse Effect. From the date hereof through the
Effective Time, there shall not have occurred and be continuing any change,
event, occurrence, development or circumstance which, individually or in the
aggregate, has resulted in a Company Material Adverse Effect.
(d) Non-Competition
and Non-Solicitation Agreements. Each Employee who will continue
employment with Parent or the Surviving Corporation following the Closing Date
shall have each executed and delivered to Parent the Confidentiality,
Non-Competition and Intellectual Property Agreements (the “Non-Competition
Agreements”) in substantially the form attached hereto as Exhibit
E.
(e) Repayment
of Indebtedness; Release of Guaranties and Liens. Except for the
Rightsholder Notes, if any (which shall be satisfied at Closing), full payment
or forgiveness and release of all outstanding Indebtedness of the Company,
including, without limitation, the contribution of the Seller’s Note to the
capital of the Company for no consideration has been made and all guaranties
of
the Company and Liens on any properties or assets of the Company have been
released and extinguished, and Parent has received acceptable confirmation
of
such. In addition, Seller shall have delivered to Parent the Seller’s
Note marked “Cancelled and Returned”.
(f) Transaction
Costs. The Company shall have either (i) made an agreement with any
broker, finder, investment banker, legal counsel or other advisor to reduce
the
amount of the Company Transaction Expenses to the amount equal to the Closing
Reimbursement or (ii) Seller shall agree to cover the difference between the
total amount of the Company Transaction Expenses and the Closing Reimbursement
and provide Parent will evidence of such agreement under either (i) or (ii)
to
Parent’s sole satisfaction.
(g) Rule
145. Parent shall have received the Affiliate Letters from all
Persons who are “affiliates” of the Company, as such term is used in Rule 145
under the Securities Act.
(h) Resignations. Parent
shall have received the resignations, effective as of the Closing, of all
members of the board of directors and all officers of the Company.
(i) Employees. None
of the Key Employees will have (i) voluntarily terminated employment with the
Company on or prior to the Closing Date or (ii) refused to accept employment
with, or given notice of an intent to not continue employment with, the
Surviving Corporation or Parent.
(j) Phantom
Stock Plan/At-Risk Acknowledgements. Parent shall have received the
Phantom Stock Plan/At-Risk Acknowledgements (the “Phantom Stock Plan/At-Risk
Acknowledgements”) executed by each Rightsholder (including each Non-Continuing
Rightsholder) in substantially the forms attached hereto as Exhibits F-1 and
F-2, as applicable (it being understood and agreed that the forms of Phantom
Stock Plan/At-Risk Acknowledgments shall be modified to account for the
Rightsholder Notes).
(k) Closing
Deliveries. All documents, instruments, certificates or other items
required to be delivered at the Closing by or on behalf of the Company pursuant
to this Agreement.
(l) Financial
Statements Certificate. Parent shall have received a certificate (the
“Financial Statements Certificate”) executed in the name of and on behalf of the
Company by the Chief Executive Officer of the Company, in his capacity as such,
to the effect set forth on Exhibit H hereto.
(m) Officers’
Certificates. Parent shall have received a certificate, dated as of
the Closing Date, signed on behalf of the Company by the Company’s Chief
Executive Officer to the effect that the conditions set forth in Sections 7.2(a)
and 7.2(b) have been satisfied.
(n) Other
Documents. Parent shall have received from the Company such other
certificates, documents and instruments as it may reasonably request in
connection with the Closing.
7.3. Additional
Conditions to the Obligations of the Company and Seller. The
obligations of the Company and Seller to effect the Merger shall be subject
to
the satisfaction, or, to extent permitted by Applicable Law, the waiver by
the
Company, at or prior to the Closing Date of each of the following
conditions:
(a) Representations
and Warranties. Each of the representations and warranties of Parent
and Merger Subsidiary set forth in this Agreement or in any other document
required to be delivered as a condition to Closing pursuant hereto, without
giving effect to any “material,” “materially” or material adverse effect
qualification contained in such representations and warranties, shall be true
and correct in each case as of the date hereof and as of the Effective Time
with
the same effect as if made anew at and as of the Effective Time (except to
the
extent such representations and warranties specifically related to a different
date, in which case such representations and warranties shall be true and
correct as of such different date), except where the failure to be true and
correct has not had, and would not reasonably be expected to have, a material
and adverse effect on Parent and Merger Subsidiary’s ability to consummate the
Merger and the transactions contemplated hereby.
(b) Agreements
and Covenants. Parent and Merger Subsidiary shall have in all
material respects performed or complied with all agreements and covenants
required by this Agreement to be performed or complied with by them at or prior
to the Closing Date.
(c) Officers’
Certificates. Company shall have received a certificate, dated as of
the Closing Date, signed on behalf of Parent and Merger Subsidiary by the
authorized executive officers of Parent and Merger Subsidiary to the effect
that
the conditions set forth in Sections 7.3(a) and 7.3(b) have been
satisfied;
(d) Payment
of Initial Merger Consideration, Initial Rights Payments and Enhanced
Benefits. Parent shall have delivered or cause to be delivered the
certificates representing the Initial Merger Consideration, the Initial Rights
Payments and the Enhanced Benefits in the allocations as set forth in the
Allocation Schedule.
(e) Payment
of Company Transaction Expenses. Parent shall have delivered or cause
to be delivered the Closing Reimbursement.
(f) Closing
Deliveries. All documents, instruments, certificates or other items
required to be delivered at the Closing by or on behalf of Parent and Merger
Subsidiary pursuant to this Agreement have been delivered.
(g) Other
Documents. The Company shall have received from Parent such other
certificates, documents and instruments as it may reasonably request in
connection with the Closing.
ARTICLE
VIII
TERMINATION,
AMENDMENT AND WAIVER
8.1. Termination. This
Agreement may be terminated at any time prior to the Effective Time, by action
taken by the terminating party or parties, and as provided below:
(a) by
mutual written consent of each of Parent and the Company;
(b) by
either Parent or the Company if the Merger shall not have been consummated
by
January 31, 2008 (the “End Date”); provided, however, that the right to
terminate this Agreement pursuant to this Section 8.1(b) shall not be available
to any party whose action or failure to act has been a principal cause of or
resulted in the failure of the Merger to occur on or before such date and such
action or failure to act constitutes a material breach of this
Agreement;
(c) by
either Parent or the Company if any Governmental Authority of competent
jurisdiction shall have (i) adopted or issued a statute, rule, regulation or
order or taken any other action (including the failure to have taken an action)
that is in effect, in any case having the effect (or which reasonably could
be
expected to have the effect) of making illegal the Merger or the transactions
contemplated hereby in any jurisdiction in which Parent or the Company have
material business operations or prohibiting or otherwise preventing or
materially delaying the consummation of the Merger or any of the transactions
contemplated hereby, or (ii) issued or granted any judgment, injunction, order,
decree, ruling or similar action that is in effect and has (or which reasonably
could be expected to have) the effect of making illegal the Merger or the
transactions contemplated hereby in any jurisdiction in which Parent or the
Company have material business operations or prohibiting or otherwise preventing
or delaying materially the consummation of the Merger or any of the transactions
contemplated hereby, which judgment, injunction, order, decree, ruling or other
action is final and nonappealable; provided, however, that the right to
terminate this Agreement pursuant to this Section 8.1(c) shall not be available
to any party whose breach of any provision of this Agreement has been a
principal cause of or resulted in results in the imposition of such judgment,
injunction, order, decree, ruling or other action; and provided, further, that
the right to terminate this Agreement pursuant to this Section 8.1(c) shall
not
be available to any party who has not used all commercially reasonable efforts
to lift any such judgment, injunction, order, decree, ruling or other
action;
(d) by
Parent, if since the date of this Agreement, there shall have been any event,
circumstance or fact that, individually or in the aggregate, has had a Company
Material Adverse Effect;
(e) by
either Parent or the Company, if the Parent Stockholder Meeting is held but
Parent Stockholder Approval shall not have been obtained;
(f) by
Parent, if the Company shall have breached any of its covenants or obligations
under this Agreement or if any representation or warranty of the Company under
this Agreement shall have been untrue or incorrect, such that the conditions
set
forth in Sections 7.2(a) or 7.2(b) (as applicable) would not be satisfied as
of
the time of such breach or as of the time such representation or warranty shall
have become untrue or incorrect; provided, however, that if such inaccuracy
in
the Company’s representations and warranties or breach by the Company is curable
by the Company prior to the Closing Date through the exercise of all
commercially reasonable efforts, then Parent may not terminate this Agreement
under this Section 8.1(f) prior to 20 days following the receipt of written
notice from Parent to the Company of such breach, as long as the Company
continues to exercise all commercially reasonable efforts to cure such breach
during such 20 day period (it being understood that Parent may not terminate
this Agreement pursuant to this Section 8.1(f) if it shall have materially
breached this Agreement or if such breach by the Company is cured within such
20
day period; provided, however, that if the Closing Date is to occur on a date
which is less than 20 days following the date of receipt of written notice
by
Parent to the Company, then such breach must be cured at or prior to the Closing
Date);
(g) by
the Company, if Parent shall have breached any of its covenants or obligations
under this Agreement or if any representation or warranty of Parent under this
Agreement shall have been untrue or incorrect, such that the conditions set
forth in Sections 7.3(a) or 7.3(b) (as applicable) would not be satisfied as
of
the time of such breach or as of the time such representation or warranty shall
have become untrue or incorrect; provided, however, that if such inaccuracy
in
Parent’s representations and warranties or breach by Parent is curable by Parent
prior to the Closing Date through the exercise of all commercially reasonable
efforts, then the Company may not terminate this Agreement under this Section
8.1(g) prior to 20 days following the receipt of written notice from the Company
to Parent of such breach, as long as Parent continues to exercise all
commercially reasonable efforts to cure such breach during such 20 day period
(it being understood that the Company may not terminate this Agreement pursuant
to this Section 8.1(g) if it shall have materially breached this Agreement
or if
such breach by Parent is cured within such 20 day period; provided, however,
that if the Closing Date is to occur on a date which is less than 20 days
following the date of receipt of written notice by the Company to Parent, then
such breach must be cured at or prior to the Closing Date);
8.2. Notice
of Termination; Effect of Termination. Any valid termination of this
Agreement under Section 8.1 will be effective immediately upon the delivery
of a
valid written notice of the terminating party to the other party or parties
hereto, as applicable, after giving effect to any applicable cure period
provided in Section 8.1. In the event of the valid termination of
this Agreement as provided in Section 8.1, this Agreement shall be of no further
force or effect without liability of any party or parties hereto, as applicable
(or any stockholder, director, officer, employee, agent, consultant or
representative of such party or parties) to the other party or parties hereto,
as applicable (a) except as set forth in Section 6.3, Section 8.2 and Article
X,
each of which shall survive the termination of this Agreement and (b) except
that any party shall have the right to recover damages sustained by such party
as a result of any willful breach by the other party of any representation,
warranty, covenant or agreement contained in this Agreement or in the case
of
fraud.
8.3. Amendment. Subject
to Applicable Law or the AMEX rules, this Agreement may be amended by the
parties hereto at any time before or after approval of the Merger by the
stockholders of Parent (whether by written consent or otherwise); provided,
however, that after approval of the Merger by the stockholders of Parent, no
amendment to this Agreement may be made which under Applicable Law or the AMEX
rules further approval by the stockholders of Parent is required, unless such
further stockholder approval is so obtained. This Agreement may be
amended only by execution of an instrument in writing signed on behalf of each
of the parties to be bound by the amendment.
8.4. Extension;
Waiver. Any failure of Parent, Merger Subsidiary or the Surviving
Corporation (following the Effective Time), on the one hand, or the Company
(prior to the Effective Time) or the Representative, on the other hand, to
comply with any obligation, covenant, agreement or condition contained herein
may be waived, or any time for performance of any covenant or agreement may
be
extended, only if set forth in an instrument in writing signed by the party
or
parties to be bound by such waiver, but such waiver or failure to insist upon
strict compliance with such obligation, covenant, agreement or condition shall
not operate as a waiver of, or estoppel with respect to, any other
failure. Any delay by a party in exercising any right under this
Agreement shall not constitute a waiver of such right.
ARTICLE
IX
INDEMNIFICATION
9.1. Survival
of Representations and Warranties. Except as otherwise provided
herein, all of the representations and warranties of the Company, through its
officers, director, and sole stockholder, contained in this Agreement, the
Company Disclosure Letter, the Schedules or any other certificate, document,
writing or instrument required to be delivered as a condition to Closing by
or
on behalf of the Company pursuant to this Agreement together with the covenants
contained herein (to the extent such covenants apply to periods prior to the
Closing Date) shall survive the Effective Time until twelve (12) months from
the
Effective Time (the “Company Survival Date”), provided that (i) the Two-Year
Company Representations shall survive the Effective Time until 24 months from
the Effective Time and (ii) and the Three-Year Company Representations shall
survive the Effective Time until 36 months from the Effective Time.
9.2. Indemnification
of Parent Indemnified Parties. From and after the Effective Time,
subject to the other provisions of this Article IX, Parent and Parent’s
officers, directors, employees, stockholders, advisers, agents, Affiliates
(including the Surviving Corporation), successors, heirs, permitted assigns
and
representatives (each, a “Parent Indemnified Party” and, collectively, the
“Parent Indemnified Parties”) shall be defended, indemnified and held harmless,
from and against and will be paid or reimbursed for any and all claims,
litigation, investigations, proceedings, damages, liabilities, losses, fines,
charges, interest, penalties, Taxes, costs and expenses, including fees and
disbursements of counsel, accountants, experts, consultants and other
representatives in connection with any investigation, defense, prosecution
or
settlement of any matter (including costs and expenses of enforcing the rights
of the Parent Indemnified Parties under this Section 9.2) whether or not
involving or resulting from a Third-Party Claim (collectively, “Losses”),
incident to, arising from or in connection with, whether directly or
indirectly:
(a) the
failure of any representation or warranty made by the Company, through its
officers, director, and sole stockholder, in (i) this Agreement (after giving
effect to any supplement to the Company Disclosure Letter after the date hereof
with respect to a matter arising after the date hereof), (ii) the Company
Disclosure Letter (after giving effect to any supplement to the Company
Disclosure Letter after the date hereof with respect to a matter arising after
the date hereof), (iii) any supplement to the Company Disclosure Letter, (iv)
the Schedules or (v) any other certificate, document, writing or instrument
required to be delivered as a condition to Closing by or on behalf of the
Company pursuant to this Agreement, to be true, complete and correct in all
respects as of the date of this Agreement and the Closing Date (except to the
extent such representation, warranty, Company Disclosure Letter or Schedule
specifically relates to a different date, in which case such representation,
warranty, Company Disclosure Letter or Schedule shall be true, complete and
correct as of such different date);
(b) any
breach or failure of the Company, Seller or of the Representative (on behalf
of
the Rightsholders) to perform any covenant, agreement or obligation of the
Company, Seller, the Representative or any Rightsholder contained in this
Agreement, the Company Disclosure Letter, the Schedules or any other
certificate, including the certificate required by Section 2.3(b)(i), document,
writing or instrument required to be delivered as a condition to Closing by
or
on behalf of the Company, Seller or the Representative (on behalf of the
Rightsholders) pursuant to this Agreement (other than Seller’s Employment
Agreement, the Non-Competition Agreements, the Restricted Stock Award
Agreements, or the Phantom Stock Plan/At-Risk Acknowledgements);
(c) any
claims by any current or former holder of securities of the Company seeking
to
assert, or based upon, ownership or rights to ownership of securities of the
Company or any rights as an owner of securities of the Company; or
(d) (i)
all Taxes imposed on or relating to the Company with respect to all Pre-Closing
Tax Periods, except to the extent such Taxes are taken into account in computing
the adjustment, if any, pursuant to Section 2.6(f), (ii) all Taxes of any Person
for which the Company is liable that are attributable to a Pre-Closing Tax
Period, (iii) all Taxes imposed on the Company as transferee or successor or
by
Contract that are attributable to a Pre-Closing Tax Period, (iv) all Taxes
imposed on the Company as a result of the invalidity or termination of the
Company’s S corporation election for any reason other than the Merger and (v)
all Taxes of Seller;
provided,
however, for the purposes of this Section 9.2 and Section 9.3, (A) “Losses”
shall not include punitive, exemplary, consequential or incidental damages,
except that the parties hereto agree that Losses relating to Third Party Claims
actually assessed against Parent Indemnified Parties arising out of punitive,
exemplary, consequential or incidental damages shall be regarded as included
in
the calculation of “Losses,” and, therefore, are subject to the indemnification
obligations of Seller under this Article IX, and (B) solely for purposes of
determining whether indemnification is available pursuant to Sections 9.2 and
9.3 hereunder (and not for any other purpose), any materiality qualifiers in
representations or warranties of the Company shall, to the extent that the
concept of materiality is readily quantifiable in the context of such
representation or warranty, be deemed to mean any fact or occurrence, or series
of related facts or occurrences, with a dollar value in excess of
$20,000.
9.3. Limitation
on Indemnification; Mechanics.
(a) Threshold. The
Parent Indemnified Parties shall not be entitled to indemnification pursuant
to
this Article IX unless and until the cumulative amount of all Losses suffered
by
any or all of the Parent Indemnified Parties exceeds $150,000 (the “Threshold
Amount”), after which point the Parent Indemnified Parties shall be entitled to
indemnification for all Losses but only to the extent such Losses exceed the
Threshold Amount.
(b) Exceptions
to Threshold. The Seller Threshold Amount limitation shall not apply
to claims for indemnification for Losses arising in respect of (i) claims made
pursuant to Sections 9.2(d), (ii) any breach of any representation and warranty
set forth in Article III (including the Company Disclosure Letter) of which
the
Company had Knowledge as of the date on which such representation and warranty
was made, or (iii) Taxes as set forth in Section 6.15 (each a “Threshold Claim
Exception”).
(c) Indemnification
Caps. Each of Parent and Merger Subsidiary acknowledge and agree, on
behalf of themselves and on behalf of each Parent Indemnified Party, that,
except as set forth in Section 9.3(d), the Parent Indemnified Parties’ rights to
receive indemnification pursuant to this Agreement shall be satisfied solely
and
exclusively as follows:
(i) The
Parent Indemnified Parties’ right to receive indemnification pursuant to Section
9.2(a) with respect to representations and warranties other than the Two-Year
Company Representations and the Three-Year Company Representations (such
representations and warranties being the “Other Company Representations”) shall
be satisfied solely and exclusively out of 2,000,000 of the First Time-Based
Shares (it being understood that (x) such First Time-Based Shares will also
be
available to satisfy other indemnification rights of the Parent Indemnified
Parties as provided in Sections 9.3(c)(ii) and 9.3(c)(iii) and (y) once the
First Time-Based Shares are distributed to Seller and the Rightsholders pursuant
to Section 2.6(d)(ii)(A), the Parent Indemnified Parties shall have no further
right to receive indemnification pursuant to Section 9.2(a) with respect to
the
Other Company Representations, from the Company, Seller or any Rightsholder
or
otherwise; provided, however, that, if, prior to the distribution of the First
Time-Based Shares to Seller and the Rightsholders pursuant to Section
2.6(d)(ii)(A) , Seller and the Rightsholders forfeit more than 500,000 shares
of
Parent Common Stock pursuant to one or more Restricted Stock Award Agreements,
then Second Time-Based Shares, if available, shall be used to satisfy the Parent
Indemnified Parties’ right to receive indemnification pursuant to Section 9.2(a)
with respect to the Other Company Representations up to the 2,000,000 share
cap
set forth above.
(ii) The
Parent Indemnified Parties’ right to receive indemnification pursuant to
Sections 9.2(a) with respect to the Two-Year Company Representations shall
be
satisfied solely and exclusively out of the Time-Based Shares it being
understood that (w) a portion of the First Time-Based Shares will also be
available to satisfy other indemnification rights of the Parent Indemnified
Parties as provided in Sections 9.3(c)(i) and 9.3(c)(iii), (x) once the First
Time-Based Shares are distributed to Seller and the Rightsholders pursuant
to
Section 2.6(d)(ii)(A), the Parent Indemnified Parties shall have no further
right to use such First Time-Based Shares to satisfy indemnification claims
pursuant to Section 9.2(a) with respect to the Two-Year Company Representations,
and (y) once the Time-Based Shares are fully distributed to Seller and the
Rightsholders pursuant to Section 2.6(d)(ii)(A), the Parent Indemnified Parties
shall have no further right to receive indemnification pursuant to Section
9.2(a) or otherwise with respect to the Two-Year Company Representations from
the Company, Seller, any Rightsholder or otherwise.
(iii) The
Parent Indemnified Parties’ right to receive indemnification pursuant to Section
9.2(a) with respect to the Three-Year Company Representations, Section 9.2(b),
Section 9.2(c) and Section 9.2(d) (the “Three-Year Indemnification Matters”)
shall be satisfied first out of the Time-Based Shares it being understood that
a
portion of the First Time-Based Shares will also be available to satisfy other
indemnification rights of the Parent Indemnified Parties as provided in Sections
9.3(c)(i) and 9.3(c)(ii). If there are not sufficient Time-Based
Shares to satisfy a claim brought by a Parent Indemnified Party with respect
to
a Three-Year Indemnification Matter, then Seller shall be responsible to satisfy
any amount of such claim that can not be satisfied out of Time-Based Shares
subject to the following: (A) if such claim is finally resolved
between the Closing Date and the first anniversary of the Closing Date, then
Seller’s aggregate liability with respect to Three-Year Indemnification Matters
pursuant to this sentence shall not exceed the First Year Cap, (B) if such
claim
is finally resolved between the first anniversary of the Closing Date and the
second anniversary of the Closing Date, then Seller’s aggregate liability with
respect to Three-Year Indemnification Matters pursuant to this sentence shall
not exceed the Second Year Cap and (C) if such claim is finally resolved between
the second anniversary of the Closing Date and the third anniversary of the
Closing Date, then Seller’s aggregate liability with respect to Three-Year
Indemnification Matters pursuant to this sentence shall not exceed the Third
Year Cap. For the avoidance of doubt, (x) once the First Time-Based
Shares are distributed to Seller and the Rightsholders pursuant to Section
2.6(d)(ii)(A) , the Parent Indemnified Parties shall have no further right
to
use such First Time-Based Shares to satisfy Three-Year Indemnification Matters,
(y) once the Second Time-Based Shares are fully distributed to Seller and the
Rightsholders pursuant to Section 2.6(d)(ii)(A) , the Parent Indemnified Parties
shall have no further right to use such First Time-Based Shares to satisfy
Three-Year Indemnification Matters and (z) if and to the extent that any of
the
First Year Cap, the Second Year Cap or the Third Year Cap are met pursuant
to
the terms of this Section 9.3(c)(iii), the Parent Indemnified Parties shall
have
no further right to receive indemnification with respect to the Three-Year
Indemnification Matters from the Company, Seller, any Rightsholder or
otherwise.
(d) Other
Exceptions. In addition to the exceptions described in Section
9.3(b), the limitations on the indemnification obligations of Seller expressed
in Section 9.2 and Section 9.3, or in any other provision of this Agreement,
shall not apply with respect to claims for actual fraud involving the Company,
Seller or the Representative on behalf of the Rightsholders (the “Fraud Claim
Exception”).
(e) Mechanics. Any
claim by any Parent Indemnified Party which is subject to the provisions of
Sections 9.2 and 9.3 shall be brought in accordance with Section 9.4 or 9.5
(as
applicable). If upon the final resolution of such claim in accordance
with Section 9.4 or 9.5 (as applicable) the Parent Indemnified Parties are
entitled to indemnification hereunder, then, subject to this Section 9.3, a
number of Time-Based Shares shall be used to satisfy any Loss or Losses
resulting from such claim as determined by dividing (x) the amount of the Loss
or Losses by (y) the average Market Price per share of Parent Common Stock
for
the consecutive ten-day trading period ending on the date of the final
resolution of the claim. Once the number of Time-Based Shares necessary to
satisfy the Loss or Losses is determined, such shares shall be allocated among
Seller and the Rightsholders in accordance with their then-current
Indemnification Percentages and the Allocation Schedule shall be adjusted
accordingly.
9.4. Indemnification
Procedures – Non-Third Party Claims.
(a) Notice
of Claims. Any Parent Indemnified Party seeking indemnification
hereunder (the “Indemnified Party”) shall, within the relevant limitation period
provided for in this Article IX, give to Seller (as Representative) a written
notice (a “Claim Notice”) describing in reasonable detail the facts giving rise
to any claims for indemnification hereunder and shall include in such Claim
Notice (if then known) the amount or the method of computation of the amount
of
such Loss or Losses resulting from such claim, and a reference to the provision
or provisions of this Agreement or any agreement, certificate or instrument
executed pursuant hereto or in connection herewith upon which such claim is
based.
(b) Claim
Payment and Disputes. The party obligated to provide indemnification
(the “Indemnitor”) (acting through Seller, in the case of indemnification sought
by a Parent Indemnified Party) shall have twenty (20) days after the giving
of
any Claim Notice pursuant hereto to (i) agree to the amount or method of
determination set forth in the Claim Notice or (ii) provide such Indemnified
Party with written notice that it disagrees with the amount or method of
determination set forth in the Claim Notice or that it is liable for
indemnification pursuant to the terms of this Agreement (an “Indemnity Claim
Dispute Notice”). Within 20 days after the giving of any Indemnity
Claim Dispute Notice, a representative of the Indemnitor and the Indemnified
Party shall negotiate in good faith to resolve the matter. In the
event that the controversy is not resolved within twenty (20) days of the giving
of the Indemnity Claim Dispute Notice, the parties shall thereupon be entitled
to pursue any and all available remedies at law.
(c) Not
Applicable to Third Party Claims. Notwithstanding the foregoing, the
provisions of this Section 9.4 shall not apply in the case of a Claim Notice
provided in connection with a claim by a third Person made against an
Indemnified Party, which claims are provided for in, and subject to, Section
9.5.
9.5. Indemnification
Procedures – Third Party Claims. If a claim by a third party is made
against an Indemnified Party (a “Third Party Claim”), and if such Indemnified
Party intends to seek indemnity with respect thereto under this Article IX,
such
Indemnified Party shall promptly notify (a “Notice of Third Party Claim”) the
Representative, in the case of indemnification sought by any Parent Indemnified
Party, in writing of such claims within fifteen (15) days of receipt of such
claim, setting forth such claims in reasonable detail; provided, however, that
failure to give such a Notice of Third Party Claim within such fifteen (15)
day
period shall not relieve the Indemnitor of its obligations hereunder, except
to
the extent Indemnitor shall have been materially prejudiced by such
failure. The Indemnitor shall have fifteen (15) days after receipt of
such notice to undertake, conduct and control, through counsel of its own
choosing (which counsel shall be reasonably acceptable to the Indemnified Party)
and at Indemnitor’s own expense, the settlement or defense of the Third Party
Claim, and the Indemnified Party shall cooperate with it in connection
therewith; provided, however, that the Indemnified Party may participate in
such
settlement or defense through counsel chosen by such Indemnified Party and
paid
at its own expense; and provided, further, that, if in the reasonable opinion
of
counsel for such Indemnified Party, there is a reasonable likelihood of a
conflict of interest between the Indemnitor and the Indemnified Party, the
Indemnitor shall be responsible for the reasonable fees and expenses of one
counsel and one local counsel, if applicable, to such Indemnified Party in
connection with such defense of the Third Party Claim. So long as the
Indemnitor is reasonably contesting any such Third Party Claim in good faith,
the Indemnified Party shall not pay or settle any such Third Party Claim without
the prior written consent of the Indemnitor, which consent shall not be
unreasonably withheld. If the Indemnitor does not notify the
Indemnified Party in writing within fifteen (15) days after receipt of the
Indemnified Party’s Notice of Third Party Claim hereunder that it elects to
undertake the defense thereof, the Indemnified Party shall have the right to
undertake, at Indemnitor’s cost, risk and expense, the defense, compromise or
settlement of the Third Party Claim, but shall not thereby waive any right
to
indemnity therefor pursuant to this Agreement. The Indemnitor shall
pay the Indemnified Party’s expenses as and when incurred (as evidenced by
appropriate documentation). The Indemnitor shall not, except with the
prior written consent of the Indemnified Party, enter into any settlement that
(i) does not include as an unconditional term thereof the giving by the Person
or Persons asserting such Third Party Claim to all Indemnified Parties of an
unconditional release from all liability with respect to such claim or consent
to entry of any judgment, (ii) involves non-monetary relief or remedy, including
any restrictions on the Indemnified Party’s ability to operate or compete, or
(iii) in the case of a Claim related to Taxes, gives an unconditional release
from all liability with respect to similar Claims for all other relevant Tax
periods or portions therof.
9.6. Other
Reductions in Indemnity Payments. Notwithstanding anything contained
herein to the contrary, the amount of any Losses incurred or suffered by any
Indemnified Party shall be calculated after giving effect to (i) any insurance
proceeds received by the Indemnified Party (or any of its Affiliates) with
respect to such Losses, (ii) any reduction in federal or state income Taxes
of
the Indemnified Party arising from an item of deduction, loss or credit directly
resulting from such Loss, or a refund of federal or state income Taxes of the
Indemnified Party arising from an item of deduction, loss or credit directly
resulting from such Loss (each, a “Tax Benefit”), (x) but only when actually
realized and (y) the amount of which shall be, but only if a positive number,
(1) the Indemnified Party's income Tax liability determined without the Tax
Benefit (but determined with all other Tax items and attributes, including
net
operating loss carryforwards) minus (2) the Indemnified Party's Tax liability
determined with the Tax Benefit (determined with all other Tax items and
attributes, including net operating loss carryforwards), and (iii)
any recoveries obtained by the Indemnified Party (or any of its Affiliates)
from
any other third party. Each Indemnified Party shall exercise
commercially reasonable efforts to obtain such proceeds, benefits and
recoveries. If any such proceeds, benefits or recoveries are received
by an Indemnified Party (or any of its Affiliates) with respect to any Losses
after an Indemnitor has made a payment to the Indemnified Party with respect
thereto, the Indemnified Party (or such Affiliate) shall promptly pay to the
Indemnitor the amount of such proceeds, benefits or recoveries (up to the amount
of the Indemnitor’s payment).
9.7. No
Contribution. No holder of shares of capital stock of the Company or
Rights shall have any right of contribution against the Company or the Surviving
Corporation with respect to any breach by the Company or any of its
representations, warranties, covenants or agreements, whether by virtue of
any
contractual or statutory right of indemnity or otherwise.
9.8. Effect
of Investigation. An Indemnified Party’s right to indemnification or
other remedies under this Agreement based upon the representations and
warranties and covenants and agreements of Parent or Merger Subsidiary (with
respect to a Company Indemnified Party) or the Company (with respect to a Parent
Indemnified Party) shall not be affected by any investigation or knowledge
of
the Indemnified Party or waiver by the Indemnified Party of any condition based
on the accuracy of any such representation or warranty or compliance with any
covenant or agreement. Such representations and warranties and
covenants and agreements of Parent or Merger Subsidiary (with respect to a
Company Indemnified Party) or the Company (with respect to a Parent Indemnified
Party) shall not be deemed waived or affected by reason of the fact that the
Indemnified Party knew or should have known that any such representation or
warranty is or might be inaccurate or that any such covenant or agreement has
not or might not have been complied with. Any investigation made by
Parent or Merger Subsidiary, on the one hand, or the Company, Seller or the
Representative (on behalf of the Rightsholders) on the other hand, shall be
for
its or their own protection only, and shall not affect or impair any right
or
remedy under this Agreement.
9.9. Subrogation. Upon
making any payment to an Indemnified Party in respect of any Losses, the
Indemnifying Party will, to the extent of such payment, be subrogated to all
rights of the Indemnified Party (and its Affiliates) against any third party
in
respect of the Losses to which such payment relates. Such Indemnified
Party (and its Affiliates) and Indemnifying Party shall execute upon request
all
instruments reasonably necessary to evidence or further perfect such subrogation
rights.
9.10. Exclusive
Remedies. Except as set forth in Section 10.8, the sole and exclusive
liability and responsibility of the Company, Seller and any Rightsholder to
Parent or Merger Subsidiary under or in connection with this Agreement, the
Merger and the transactions contemplated hereby or thereby (including for any
breach of or inaccuracy in any representation or warranty or for any breach
of
any covenant or obligation or for any other reason) shall be as set forth in
this Article IX. To the extent that Parent or Merger Subsidiary has
any Losses for which it may assert any other right to indemnification,
contribution or recovery from the Company, Seller or any Rightsholder (whether
under this Agreement or under any common law theory or any statute or other
law
or otherwise), each of Parent and Merger Subsidiary hereby waives, releases
and
agrees not to assert such right, and each of Parent and Merger Subsidiary agrees
to cause each of its Affiliates to waive, release and agree not to assert such
right, regardless of the theory upon which any claim may be based, whether
contract, equity, tort, fraud, warranty, strict liability or any other theory
of
liability.
9.11. No
Double Recovery. Notwithstanding anything herein to the contrary, no
Indemnified Party shall be entitled to indemnification or reimbursement under
this Article IX to the extent such Indemnified Party already has been
indemnified or reimbursed for such Loss under any other provision of this
Agreement (including Exhibits or applicable Disclosure Letter attached
hereto).
9.12. Mitigation. Parent
and the Representative agree to use reasonable efforts to mitigate any Loss
which forms the basis of a claim hereunder.
ARTICLE
X
GENERAL
PROVISIONS
10.1. No
Other Representations and Warranties.
(a) By
Company or the Representative. Neither the Company, Seller nor the
Representative (on behalf of the Rightsholders) makes any representation or
warranty, express or implied, as to the accuracy or completeness of any
information regarding the Company, in each case, except as expressly set forth
in this Agreement, the Company Disclosure Letter, the Schedules or any other
certificate, document, writing or instrument required to be delivered by or
on
behalf of the Company or the Representative at the Closing pursuant to this
Agreement.
(b) By
Parent or Merger Subsidiary. Neither Parent nor Merger Subsidiary
makes any representation or warranty, express or implied, as to the accuracy
or
completeness of any information regarding Parent or Merger Subsidiary, in each
case, except as expressly set forth in this Agreement, the Parent Disclosure
Letter, the Schedules or any other certificate, document, writing or instrument
delivered by or on behalf of Parent and Merger Subsidiary pursuant to this
Agreement.
10.2. Notices. All
notices and other communications hereunder shall be in writing and shall be
deemed duly given (i) on the date of delivery if delivered personally and/or
by
messenger service, (ii) on the date of confirmation of receipt (or, the first
Business Day following such receipt if the date is not a Business Day) of
transmission by facsimile or electronic mail, or (iii) on the date of
confirmation of receipt (or, the first Business Day following such receipt
if
the date is not a Business Day) if delivered by a nationally recognized courier
service. All notices hereunder shall be delivered as set forth below,
or pursuant to such other instructions as may be designated in writing by the
party to receive such notice:
if
to
Parent or Merger Subsidiary, to:
ISCO,
Inc.
1001
Elk
Cambridge Drive
Elk
Grove, IL 60007
Attention: Chief
Financial Officer
Telephone: (847)
391-9412
Telecopy: (847)-391-5015
Email:
cesario@iscointl.com
with
a
copy to:
Pepper
Hamilton LLP
400
Berwyn Park
899
Cassatt Road
Berwyn,
PA 19312
Attention: Michael
P. Gallagher
Telephone: (610)
640-7807
Telecopy: (610)
640-7835
Email: gallagmp@pepperlaw.com
if
to the
Company, Seller and/or the Representative, to:
Clarity
Communication Systems Inc.
2640
White Oak Circle
Aurora,
IL 60502
Attention: President
and Chief Executive Officer
Telephone: (630)
499-1234
Telecopy: (630)
499-1230
Email:
jfuentes@claritycsi.com
with
a
copy to:
Mayer
Brown LLP
71
South
Wacker Drive
Chicago,
IL 60606-4637
Attention:
William R. Kucera
Telephone:
(312) 701-7296
Telecopy
(312) 706-8138
Email:
wkucera@mayerbrown.com
10.3. Interpretation. When
a reference is made in this Agreement to Exhibits or the Schedules, such
reference shall be to the corresponding Exhibit or Schedule to this Agreement,
unless otherwise indicated. When a reference is made in this
Agreement or in the Company Disclosure Letter or the Parent Disclosure Letter
to
Articles, Sections or sub-Sections, such reference shall be to the corresponding
Article, Section or sub-Section of this Agreement, unless otherwise
indicated. For purposes of this Agreement, the words “include,”
“includes” and “including,” when used herein, shall be deemed in each case to be
followed by the words “without limitation.” Unless the context
otherwise requires, all defined terms contained herein shall include the
singular and plural and the conjunctive and disjunctive forms of such defined
terms. The words “hereby,” “hereof,” “herein” and “herewith” and
words of similar import shall, unless otherwise indicated, be construed to
refer
to this Agreement as a whole and not any particular provision of this
Agreement. The table of contents and headings contained in this
Agreement are for reference purposes only and shall not affect in any way the
meaning or interpretation of this Agreement.
10.4. Counterparts. This
Agreement may be executed by the parties in multiple counterparts, all of which
shall be considered one and the same agreement and shall become effective when
one or more counterparts have been signed by each of the parties and delivered
to the other parties, it being understood that all parties need not sign the
same counterpart. This Agreement may be executed by facsimile
signature.
10.5. Attorneys’
Fees. If any action at law or equity, including an action for
declaratory relief, is brought to enforce or interpret any provision of this
Agreement, the prevailing party shall be entitled to recover reasonable
attorneys’ fees and expenses from the other party, which fees and expenses shall
be in addition to any other relief which may be awarded.
10.6. Entire
Agreement; Third-Party Beneficiaries. This Agreement and the
documents and instruments and other agreements among the parties hereto as
contemplated by or referred to herein, including the Company Disclosure Letter,
the Parent Disclosure Letter and the Exhibits and Schedules hereto constitute
the entire agreement among the parties with respect to the subject matter hereof
and supersede all prior agreements and understandings, both written and oral,
among the parties with respect to the subject matter hereof, it being understood
that the Confidentiality Agreement shall continue in full force and effect
until
the Closing and shall survive any termination of this Agreement. This
Agreement is not intended to confer upon any other Person any rights, benefits
or remedies under or by reason of this Agreement, and shall not confer on any
Person any rights, benefits or remedies under or by reason of this Agreement
except as specifically provided herein.
10.7. Severability. In
the event that any provision of this Agreement or the application thereof,
becomes or is declared by a court of competent jurisdiction to be illegal,
void
or unenforceable, the remainder of this Agreement shall continue in full force
and effect and the application of such provision to other Persons or
circumstances will be interpreted so as reasonably to effect the intent of
the
parties hereto. The parties further agree to replace such void or
unenforceable provision of this Agreement with a valid and enforceable provision
that will achieve, to the greatest extent possible, the economic, business
and
other purposes of such void or unenforceable provision.
10.8. Other
Remedies; Specific Performance. The parties hereby acknowledge and
agree that the failure of any party to perform its agreements and covenants
hereunder, including its failure to take all actions pursuant thereto as are
necessary on its part for the consummation of the Merger, will cause irreparable
injury to the other parties. It is accordingly agreed that the
parties shall be entitled to an injunction or injunctions to prevent breaches
of
this Agreement and to enforce specifically the terms and provisions of this
Agreement in any Illinois state court or, if under Applicable Law exclusive
jurisdiction over such matter is vested in the federal courts, any court of
the
United States located in the State of Illinois, this being in addition to any
other remedy to which such party is entitled at law or in equity.
10.9. Expenses. Except
as otherwise expressly provided in this Agreement, each of the parties hereto
will bear all legal, accounting, investment banking and other expenses incurred
by it or on its behalf in connection with any due diligence investigation,
or
the negotiation, execution and delivery of this Agreement, and the consummation
of the transactions contemplated hereby, whether or not such transactions are
consummated.
10.10. Rules
of Construction. The parties hereto agree that they have been
represented by counsel during the negotiation and execution of this Agreement
and, therefore, waive the application of any law, regulation, holding or rule
of
construction providing that ambiguities in an agreement or other document will
be construed against the party drafting such agreement or document.
10.11. Assignment. Neither
this Agreement nor any of the rights, interests or obligations hereunder shall
be assigned by any of the parties hereto, whether by operation of law or
otherwise, unless the parties hereto provide written consent to such assignment;
provided, however, that upon notice to the Company (prior to the Effective
Time)
Seller or the Representative (after the Effective Time) and without releasing
Parent from any of its or their obligations or liabilities hereunder, (a) Parent
may assign or delegate any or all of its or their rights or obligations under
this Agreement to any Affiliate of Parent, provided however, Parent shall not
do
so if such assignment or delegation will adversely affect the tax-free status
of
the Merger under Section 368(a) of the Code and (b) nothing in this Agreement
shall limit the ability of Parent to make a collateral assignment of its or
their rights under this Agreement to any lender that provides funds to Parent
or
any Affiliate of Parent, in either case without the consent of the Company
or
Seller, as applicable. Seller shall execute an acknowledgment of such
collateral assignments in such forms as Parent or its Affiliates may from time
to time reasonably request. In the event of such an assignment, the
provisions of this Agreement shall inure to the benefit of and be binding on
the
assigns of Parent or their Affiliates, as applicable. Any assignment
in violation of the foregoing shall be null and void.
10.12. Time. Time
is of the essence in each and every provision of this Agreement.
10.13. Governing
Law; Jurisdiction. This Agreement shall be governed by and construed
in accordance with the laws of the State of Illinois, regardless of the laws
that might otherwise govern under applicable principles of conflicts of law
thereof. Each of the parties hereto (a) irrevocably consents to the
jurisdiction and venue of any Illinois state court or any court of the United
States located in the State of Illinois in the event any dispute arises out
of
this Agreement or any of the transactions contemplated hereby, (b) agrees that
it will not attempt to deny or defeat such personal jurisdiction by motion
or
other request for leave from any such court, (c) agrees that it will not bring
any action relating to this Agreement or any of the transactions contemplated
by
this Agreement in any court other than a Illinois state court or, if under
Applicable Law exclusive jurisdiction over such matter is vested in the federal
courts, any court of the United States located in the State of Illinois, and
(d)
consents to service being made through the notice procedures set forth in
Section 10.2. Each of the Company, Seller, the Representative on
behalf of the Rightsholders, Parent and Merger Subsidiary hereby agrees that
service of any process, summons, notice or document by U.S. registered mail
to
the respective addresses set forth in Section 10.2 shall be effective service
of
process for any Legal Proceeding in connection with this Agreement or the
transactions contemplated hereby.
10.14. Waiver
of Jury Trial. EACH OF THE PARTIES HEREBY IRREVOCABLY WAIVES ALL
RIGHT TO TRIAL BY JURY IN ANY ACTION, PROCEEDING OR COUNTERCLAIM (WHETHER BASED
ON CONTRACT, TORT OR OTHERWISE) ARISING OUT OF OR RELATING TO THIS AGREEMENT
OR
THE ACTIONS OF PARENT, MERGER SUBSIDIARY, THE COMPANY OR THE REPRESENTATIVE
IN
THE NEGOTIATION, ADMINISTRATION, PERFORMANCE AND ENFORCEMENT
HEREOF.
ARTICLE
XI
THE
REPRESENTATIVE
11.1. Authorization. The
Representative hereby is appointed, authorized and empowered to act as the
agent
of the Rightsholders in connection with, and to facilitate the consummation
of
the Merger and the other transactions contemplated by this Agreement, and with
respect to the activities to be performed on behalf of the Rightsholders under
this Agreement (it being understood that each Rightsholder shall acknowledge
and
agree to be bound by the provisions of this Article XI pursuant to such
Rightsholder’s Restricted Stock Award Agreement as if such Rightsholder was a
signatory hereto). The authority of the Representative shall include
the power and authority to (a) take all action necessary in connection with
the
defense, payment and/or settlement of any claims for indemnification, (b) take
such actions and to execute and deliver such amendments, modifications, waivers
and consents in connection with this Agreement and the other transactions
contemplated hereby as the Representative, in his reasonable discretion, may
deem necessary or desirable to give effect to the intentions of this Agreement,
(c) give and receive all notices required to be given under this Agreement,
(d)
take any and all additional action as is contemplated to be taken by the
Representative by the terms of this Agreement and (e) take all actions necessary
or appropriate in the judgment of the Representative for the accomplishment
of
any of the foregoing.
11.2. Reliance. Parent,
the Surviving Corporation and its and their Subsidiaries shall be entitled
to
rely exclusively upon the communications of the Representative relating to
the
foregoing as the communications of the Rightsholders. Neither Parent
nor the Surviving Corporation shall be held liable or accountable in any manner
for any act or omission of the Representative in such capacity.
11.3. Compensation;
Exculpation.
(a) Compensation. The
Representative shall receive no compensation for his services as the
Representative.
(b) Exculpation. The
Representative shall not be liable to any Rightsholder for any act done or
omitted hereunder as the Representative other than as a result of gross
negligence, bad faith or willful misconduct) on the part of the Representative
and shall be entitled to rely on the advice of counsel, public accountants
or
other independent experts experienced in the matter at issue, and any error
in
judgment or other act or omission of the Representative pursuant to such advice
shall in no event subject the Representative to liability to any Rightsholder
other than as a result of gross negligence, bad faith or willful misconduct
on
the part of the Representative.
11.4. Expenses
The
reasonable costs and expenses of the Representative in addressing
indemnification or other matters on behalf of the Rightsholders shall be
reimbursed by using Time-Based Shares up to an aggregate value of
$10,000. At least five Business Days prior to the first anniversary
of the Closing Date (with respect to the First Time-Based Shares) and the second
anniversary of the Closing Date (with respect to the Second Time-Based Shares),
the Representative shall provide Parent with a written notice setting forth,
in
reasonable detail, its costs and expenses for the previous year. Upon
receipt of such notice, the Allocation Schedule shall be revised by taking
Time-Based Shares from Seller and the Rightsholders (using the average Market
Price per share of Parent Common Stock for the previous consecutive ten-day
trading period for purposes of valuation) in accordance with such Seller’s and
Rightsholders’ respective then-current Indemnification Percentages and
allocating such shares to the Representative.
[remainder
of page intentionally blank; signature page follows]
IN
WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed
by
their duly authorized respective officers as of the date first written
above.
PARENT:
ISCO
International, Inc.
By: /s/
Frank Cesario
Name: Frank
Cesario__
Title: CFO__________
MERGER
SUBSIDIARY:
ISCO
Illinois, Inc.
By: /s/
Frank Cesario
Name: Frank
Cesario__
Title: CFO__________
COMPANY:
Clarity
Communication Systems Inc.
By: /s/
James Fuentes____
Name: James
Fuentes_______
Title: Chief
Executive Officer
SELLER:
By: /s/
James Fuentes_____
Name: James
Fuentes_______
REPRESENTATIVE:
James
Fuentes (solely in his capacity as the Representative)
By: /s/
James Fuentes_____
Name: James
Fuentes_______
APPENDIX
B TO THE MERGER AGREEMENT - EMPLOYMENT AGREEMENT
This
Employment Agreement (this “Agreement”) is made and entered into on this ____
day of _______, 200__, by and between ISCO INTERNATIONAL, INC. (the “Company”),
and JAMES FUENTES, an individual (“Executive”), with reference to the following
facts:
WHEREAS,
pursuant to the Agreement and Plan of Merger, dated November 13, 2007 (the
“Merger Agreement”), by and among the Company, ISCO Illinois, Inc., an Illinois
corporation and a direct wholly-owned subsidiary of the Company (“Merger
Subsidiary”), Clarity Communication Systems Inc., an Illinois corporation
(“Clarity”), and Executive, for himself and as the Representative (as defined in
the Merger Agreement), the parties thereto intend to effect a merger (the
“Merger”) in which Merger Subsidiary will merge with and into Clarity with
Clarity being the surviving corporation (the “Surviving Corporation”) of the
Merger; and
WHEREAS,
as a condition to the obligations of the parties to effect the Merger, the
Merger Agreement requires the Company and Executive to enter into this
Agreement; and
WHEREAS,
it is the mutual desire of the Company and Executive that Executive be employed
by the Company on the terms set forth in this Agreement.
NOW,
THEREFORE, based on the above premises and in consideration of the mutual
covenants and agreements contained herein, and for other good and valuable
consideration, the receipt and sufficiency of which are hereby acknowledged,
the
parties agree as follows:
SECTION
1. Effective Date. The effectiveness of this Agreement is
expressly contingent upon, and effective as of the date of, the closing of
the
Merger (the “Effective Date”).
SECTION
2. Employment with the Company.
2.1. Position
and Duties. Executive will report to the Company’s Chief Executive
Officer (“CEO”) as a member of the management team of the Company and its
consolidated subsidiaries (collectively, the “Combined Entity”) to assist the
CEO in the coordination and integration of the Surviving Corporation’s
operations with the Combined Entity and perform such other duties as the CEO
may
assign to the Executive. Nothing in this paragraph will obligate the
Company or any constituent member of the Combined Entity to continue to employ
Executive in any capacity beyond the end of the period described below in
Section 3, nor shall it inhibit the parties from continuing such arrangement
as
mutually agreed.
2.2. Full
Time and Best Efforts. Executive will perform his duties faithfully
and to the best of his ability and will devote his full business time and effort
to the performance of his duties hereunder. Executive will not engage
in any other employment or business activities for any direct or indirect
remuneration that would be directly harmful or detrimental to, or that may
compete with, the business and affairs of the Company, or that would interfere
with his duties hereunder. Executive acknowledges that frequent
travel may be necessary in carrying out his duties hereunder.
SECTION
3. Term of Employment. Executive’s employment by the
Company under this Agreement shall be for a period commencing on the Effective
Date and ending on the second anniversary of the Effective Date subject to
his
earlier termination in accordance with Section 7 of this Agreement (the “Term”);
provided, however, that upon the eighteen-month anniversary of the Effective
Date and each day thereafter the Term shall be extended for one additional
day
unless and until the Company provides written notice to Executive that such
extension shall not occur. Upon expiration of the Term,
this Agreement will expire (other than Section 10 hereof, which Section will
survive any expiration or termination of this Agreement) and, unless otherwise
agreed by the parties, Executive’s employment by the Company will cease and the
Company will have no liability to Executive.
SECTION
4. Compensation. The Company will compensate Executive for
services rendered hereunder at the annual rate of $240,000 (“Base Salary”)
payable in accordance with the Company’s normal payroll practices and subject to
changes in such practices or payroll deductions as may be necessary or customary
for the Company’s salaried employees.
SECTION
5. Benefits. Executive shall be entitled to participate in
the employee benefit plans and programs of the Company, if any, to the extent
that his position, tenure, salary, age, health and other qualifications make
him
eligible to participate in such plans or programs, subject to the rules and
regulations applicable thereto. Executive shall be given credit for
his service with Clarity for purposes of eligibility and vesting under any
such
benefit plans and programs of the Company. The Company reserves the
right to cancel or change the benefit plans and programs it offers to its
employees at any time. Executive shall be entitled to
receive five (5) weeks of annual paid vacation in accordance with the
Company’s vacation policy. Executive shall be entitled to all paid
holidays the Company makes available to its employees.
SECTION
6. Business Expenses. The Company shall reimburse
Executive for reasonable travel, entertainment or other expenses incurred by
Executive in the furtherance of or in connection with the performance of
Executive’s duties hereunder, in accordance with the Company’s expense
reimbursement policies as in effect from time to time.
SECTION
7. Termination. Executive’s employment hereunder may be
terminated by either party at any time, subject to the terms of this Section
7:
7.1. Termination
Without Cause or for Good Reason. If Executive’s employment ceases
due to a termination by the Company other than for Cause or by Executive for
Good Reason, then subject to Executive’s compliance with the provisions of
Section 10 below (the “Covenants”), Executive will receive (A) monthly severance
payments equal to 1/12th of his Base Salary for the lesser of: (i) three months
or (ii) the number of whole months remaining in the Term as of the
date of his termination and (B) the payments described in Section 7.2. The
severance benefits described in this Section 7.1 are in lieu of, not in addition
to, any severance benefits otherwise payable under any other severance
arrangement maintained by the Company.
7.2. Other
Terminations. In the event of any cessation of Executive’s employment
other than as described above in Section 7.1, all salary, benefits and other
compensation will cease at the time of such termination and, subject to the
terms of any benefit plans then in force and applicable to Executive, the
Company will have no further liability or obligation hereunder by reason of
such
termination; provided, however that the Company will pay Executive any accrued
but unpaid Base Salary and any accrued but unused vacation as of the date of
Executive’s termination.
7.3. Cause. “Cause”
means the occurrence of any of the following: (1) Executive’s
refusal, failure or inability to perform (other than due to illness or
disability) his duties or to follow the lawful directives of the person or
group
of persons to whom he reports (his “Supervisor”); in such event prior to
termination, his Supervisor shall provide written notice of the bases of
termination, meet with Executive within five days of the notice of termination,
and Executive shall have thirty days thereafter to cure the conduct; (2)
misconduct or gross negligence by Executive in the course of employment that
could reasonably be expected to have a material adverse effect on the
operations, condition or reputation of the Company; (3) Executive’s conviction
of, or the entry of a plea of guilty or nolo contendere to, a crime involving
moral turpitude or that otherwise could reasonably be expected to have an
material adverse effect on the operations, condition or reputation of the
Company; (4) a material breach by Executive of any agreement with, lawful policy
of or fiduciary duty owed to the Company; or (5) violation of the Company’s
policies regarding alcohol abuse or use of controlled drugs. For
avoidance of doubt, a cessation of employment due to a disability entitling
Executive to benefits under any Company maintained or provided long-term
disability plan or policy will not constitute a termination by the Company
“without Cause.”
7.4. Good
Reason. Executive shall be eligible to terminate his employment for
“Good Reason” upon the occurrence of any of the following events or
conditions;
the
assignment to Executive of any duties materially inconsistent with the
Executive's position and status as set forth in Section 2.1,
a
reduction by the Company in Executive’s Base Salary to an amount that is less
than required under Section 4,
the
relocation of Executive's base office to an office that is more than 50 highway
miles of Executive's base office on the Effective Date,
any
other
material breach of this Agreement by the Company.
7.5. Mitigation. Except
as may be expressly provided elsewhere in this Agreement, the Executive shall
not be required to mitigate the amount of any payment or benefit contemplated
by
this Section 7 (whether by seeking new employment or in any other
manner). No such payment shall be reduced by earnings that the
Executive may receive from any other source.
7.6. Section
409A. Notwithstanding any other provision of this Agreement, if the
termination giving rise to any payment or benefit described in Section 7 is
not
a “Separation from Service” within the meaning of Treas. Reg. § 1.409A-1(h)(1)
(or any successor provision), then the payment of those amounts (to the extent
they constitute a “deferral of compensation,” within the meaning of Section 409A
of the Internal Revenue Code) will be deferred (without interest) until such
time as Executive experiences a Separation from Service. In addition,
to the extent compliance with the requirements of Treas. Reg. § 1.409A-3(i)(2)
(or any successor provision) is necessary to avoid the application of an
additional tax under Section 409A of the Internal Revenue Code, those amounts
that would otherwise be paid within six months following Executive’s Separation
from Service (taking into account the preceding sentence) will instead be
deferred (without interest) and paid to Executive in a lump sum immediately
following that six-month period. This provision shall not be
construed as preventing the application of Treas. Reg. §§ 1.409A-1(b)(4) or
1.409A-1(b)(9) (or any successor provisions) to amounts payable
hereunder.
SECTION
8. Modified Reduction. Notwithstanding any other
provisions of this Agreement to the contrary, in the event that any payments
or
benefits received or to be received by Executive in connection with Executive’s
employment with the Company (or termination thereof) would subject Executive
to
the excise tax imposed under Section 4999 of the Internal Revenue Code of 1986,
as amended (the “ Excise Tax”), and if the net after-tax amount (taking into
account all applicable taxes payable by Executive, including without limitation
any Excise Tax) that Executive would receive with respect to such payments
or
benefits does not exceed the net after-tax amount Executive would receive if
the
amount of such payments and benefits were reduced to the maximum amount which
could otherwise be payable to Executive without the imposition of the Excise
Tax, then, only to the extent necessary to eliminate the imposition of the
Excise Tax, such payments and benefits shall be so reduced.
SECTION
9. Condition to Severance Payments. All severance payments
or other benefits provided under Section 7 are conditioned on Executive’s
continuing compliance with this Agreement and the Company’s policies and
Executive’s execution (and non-revocation) of a release of claims and covenant
not to sue substantially in the form provided in Exhibit A upon termination
of
employment.
SECTION
10. Covenants. In recognition of the compensation and
severance protection provided to Executive pursuant to this Agreement, the
Executive agrees to be bound by the provisions of this Section
10. These provisions will apply without regard to whether any
cessation of the Executive’s employment is initiated by the Company or the
Executive, and without regard to the reason for that cessation.
10.1. Non-Solicitation
and Non-Competition. For a period of two (2) years after
the cessation of Executive’s employment with the Company for any reason (without
regard to whether that cessation is initiated by Executive or the Company),
Executive will not do any of the following, directly or indirectly, without
the
prior written consent of the Company (except in his capacity as an officer
or
director of the Company):
10.1.1. solicit,
entice or induce any person, firm or corporation who or which is a client or
customer of the Company or any of its subsidiaries to become a client or
customer of any other person, firm or corporation involved in activities that
are the same as, or in direct competition with, the business activities carried
on by the Company (or being definitively planned by the Company at the time
of
the cessation of Executive’s employment with the Company) (a “Competing
Business”);
10.1.2. influence
or attempt to influence any customer of the Company or its subsidiaries to
terminate or modify any written or oral agreement or course of dealing with
the
Company or its subsidiaries;
10.1.3. influence
or attempt to influence any person to terminate or modify any employment,
consulting, agency, distributorship, licensing or other similar relationship
or
arrangement with the Company or its subsidiaries; or
10.1.4. engage
in a geographic area that is coextensive with the geographic area in which
the
Company does business at the time of the cessation of Executive’s employment
with the Company as a principal, shareholder, partner, director, officer, agent,
employee, consultant or otherwise; provided, however, that nothing contained
in
this subsection shall prevent Executive from holding for investment up to five
percent (5%) of any class of equity securities of a company whose securities
are
publicly traded on a national securities exchange or in a national market
system.
10.2. Non-Disclosure. Executive
shall not use for Executive’s personal benefit, or disclose, communicate or
divulge to, or use for the direct or indirect benefit of any person, firm,
association or company other than the Company, any “Confidential Information,”
which term shall mean any information regarding the business methods, business
policies, policies, procedures, techniques, research or development projects
or
results, historical or projected financial information, budgets, trade secrets,
or other knowledge or processes of, or developed by, the Company, any Company
Creation (as that term is defined in Section 10.3.1), or any other confidential
information relating to or dealing with the business operations of the Company,
made known to Executive or learned or acquired by Executive while in the employ
of the Company, but Confidential Information shall not include information
otherwise lawfully known generally by or readily accessible to the general
public. The foregoing provisions of this subsection shall apply
during and after the period when Executive is an employee of the Company and
shall be in addition to (and not a limitation of) any other legally applicable
protections of the Company’s interest in confidential information, trade
secrets, and the like. At the termination of Executive’s employment
with Company, Executive shall return to the Company all copies of Confidential
Information in any medium, including computer tapes and other forms of data
storage.
10.3. Intellectual
Property & Company Creations.
10.3.1. Ownership. All
right, title and interest in and to any and all ideas, inventions, designs,
technologies, formulas, methods, processes, development techniques, discoveries,
computer programs or instructions (whether in source code, object code, or
any
other form), computer hardware, algorithms, plans, customer lists, memoranda,
tests, research, designs, specifications, models, data, diagrams, flow charts,
techniques (whether reduced to written form or otherwise), patents, patent
applications, formats, test results, marketing and business ideas, trademarks,
trade secrets, service marks, trade dress, logos, trade names, fictitious names,
brand names, corporate names, original works of authorship, copyrights,
copyrightable works, mask works, computer software, all other similar intangible
personal property, and all improvements, derivative works, know-how, data,
rights and claims related to the foregoing that have been or are conceived,
developed or created in whole or in part by Executive (a) at any time and at
any
place that relates to the business of the Company, as then operated, operated
in
the past or under consideration or development or (b) as a result of tasks
assigned to Executive by the Company (collectively, “Company Creations”), shall
be and become and remain the sole and exclusive property of the Company and
shall be considered “works made for hire” as that term is defined pursuant to
applicable statutes and law.
10.3.2. Assignment. Executive
acknowledges that all Company Creations that are copyrightable shall be
considered a work made for hire under United States Copyright Law. To
the extent that any copyrightable Company Creations may not be considered a
work
made for hire under the applicable provisions of the copyright law, or to the
extent that, notwithstanding the foregoing provisions, Executive may retain
an
interest in any Company Creation, Executive hereby irrevocably assigns and
transfers to the Company any and all right, title, or interest that Executive
may have in such Company Creation under copyright, patent, trade secret,
trademark and other law protecting proprietary or intellectual property rights,
in perpetuity or for the longest period otherwise permitted by law, without
the
necessity of further consideration. The Company shall be entitled to
obtain and hold in its own name all registrations of copyrights, patents, trade
secrets, trademarks and other proprietary or intellectual property rights with
respect thereto. Executive shall have no claim for additional
compensation for Company Creations.
10.3.3. Disclosure
& Cooperation. Executive shall keep and maintain adequate and
current written records of all Company Creations and their development by
Executive (solely or jointly with others), which records shall be available
at
all times to and remain the sole property of the Company. Executive
shall communicate promptly and disclose to the Company, in such form as the
Company may reasonably request, all information, details and data pertaining
to
any Company Creations. Executive further agrees to execute and
deliver to the Company or its designee(s) any and all formal transfers and
assignments and other documents and to provide any further cooperation or
assistance reasonably required by the Company to perfect, maintain or otherwise
protect its rights in the Company Creations. Executive hereby
designates and appoints the Company or its designee as Executive’s agent and
attorney-in-fact to execute on Executive’s behalf any assignments or other
documents deemed necessary by the Company to perfect, maintain or otherwise
protect the Company’s rights in any Company Creations.
10.4. Acknowledgments. Executive
acknowledges that the Covenants are reasonable and necessary to protect the
Company’s legitimate business interests, its relationships with its customers,
its trade secrets and other confidential or proprietary
information. Executive further acknowledges that the duration and
scope of the Covenants are reasonable given the nature of this Agreement and
the
position Executive holds or will hold within the Company. Executive
further acknowledges that the Covenants are included herein to induce the
Company to enter into this Agreement and that the Company would not have entered
into this Agreement or otherwise enhanced Executive’s Base Salary in the absence
of the Covenants. Executive also acknowledges that any breach, willful or
otherwise, of the Covenants will cause continuing and irreparable injury to
the
Company for which monetary damages, alone, will not be an adequate
remedy. Finally, Executive acknowledges that the Covenants are in
addition to, and not in lieu of, any restrictive covenants to which he is
subject pursuant to the Merger Agreement.
10.5. Enforcement.
10.5.1. Judicial
Modification. If any court determines that the Covenants, or any part
thereof, is unenforceable because of the duration or scope of such provision,
that court will have the power to modify such provision and, in its modified
form, such provision will then be enforceable.
10.5.2. Remedies. Executive
acknowledges and agrees that, in view of the nature of the business in which
the
Company is engaged and Executive’s exposure to the Company’s business, the
restrictions contained in this section are reasonable and necessary to protect
the legitimate interests of the Company, and that any violation of those
restrictions would result in irreparable injury to the Company, for which there
is no adequate remedy at law. Executive therefore agrees that in the
event of any actual or threatened violation, the Company shall be entitled
to
obtain from any court of competent jurisdiction preliminary and permanent
injunctive relief against Executive, in addition to damages from Executive
and
an equitable accounting of all commissions, earnings, profits and other benefits
to Executive arising from such violation, which rights shall be cumulative
and
in addition to any other rights or remedies to which the Company may be
entitled.
10.5.3. Disgorgement. In
addition to the remedies specified above and any other relief awarded by any
court, if Executive breaches any of the Covenants, he will be required to
account for and pay over to the Company all compensation, profits, monies,
accruals, increments or other benefits derived or received by him as a result
of
any such breach and the Company will be entitled to injunctive or other
equitable relief to prevent further breaches of the Covenants by
Executive.
10.5.4. Extension
of Restrictions. If Executive breaches Section 10.1 in any respect,
the duration of the restrictions therein contained will be extended for a period
equal to the period that Executive was in breach of such
restrictions.
SECTION
11. Successors and Assigns. The Company may assign its
rights under this Agreement to any successor to all or substantially all of
its
assets and business by means of liquidation, dissolution, merger, consolidation,
transfer of assets, or otherwise. Executive shall not assign or
transfer this Agreement or any right or obligation under this Agreement to
any
other person or entity.
SECTION
12. Notice Clause. Any notice or other communication
required or permitted to be given under this Agreement will be given in writing
and will be deemed effective on the day delivered in person, or the business
day
after the day on which such notice was mailed registered or certified mail,
postage prepaid, addressed as follows:
if
to the
Executive: to his home address then on file in the Company’s personnel
records;
if
to the
Company: to the Company’s principal executive offices, c/o Chief Financial
Officer;
or
to
such other address as either party may duly specify by notice given in the
manner described above.
SECTION
13. Governing Law. This Agreement shall be governed by and
construed in accordance with the internal substantive laws, but not the choice
of law rules, of the State of Illinois.
SECTION
14. Severability. The invalidity or unenforceability of
any provision of this Agreement, or any terms hereof, shall not affect the
validity or enforceability of any other provision or term of this
Agreement.
SECTION
15. Wage Claims. The parties intend that all obligations
to pay compensation to Executive be obligations solely of the
Company. Therefore, intending to be bound by this provision,
Executive hereby waives any right to claim payment of amounts owed to him,
now
or in the future, from directors or officers of the Company in the event of
the
Company’s insolvency.
SECTION
16. Integration. This Agreement and any other agreement
referred to herein or executed contemporaneously herewith represent the entire
agreement and understanding between the parties as to the subject matter herein
and supersedes all prior or contemporaneous agreements whether written or oral,
provided, however, that Executive will at all times be bound by all applicable
Company policies in then effect, including (without limitation) the Company’s
ethics guidelines and insider trading policies. No waiver,
alteration, or modification of any of the provisions of this Agreement shall
be
binding unless in writing and signed by duly authorized representatives of
the
parties hereto.
SECTION
17. Taxes. All payments and transfers of property, whether
made pursuant to this Agreement or otherwise, shall be subject to withholding
of
applicable income and employment taxes.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Agreement to be duly executed
and
the Executive has executed this Agreement, in each case as of the date first
above written.
JAMES
FUENTES ISCO
INTERNATIONAL, INC.
By:
Title:
EXHIBIT
A TO EMPLOYMENT AGREEMENT
RELEASE
AND NON-DISPARAGEMENT AGREEMENT
THIS
RELEASE AND NON-DISPARAGEMENT AGREEMENT (this “Release”) is made as of the ___
day of _______, _____ by and between JAMES FUENTES (the “Executive”) and ISCO
INTERNATIONAL, INC. and CLARITY COMMUNICATIONS SYSTEMS INC. (collectively,
the
“Company”).
WHEREAS,
the Executive’s employment as an executive of the Company has terminated;
and
WHEREAS,
pursuant to Section 7 of the Employment Agreement by and between the Company
and
the Executive dated __________, 2007 (the “Employment Agreement”), the Company
has agreed to pay the Executive certain amounts and to provide him with certain
rights and benefits, subject to the execution of this Release.
NOW
THEREFORE, in consideration of these premises and the mutual promises contained
herein, and intending to be legally bound hereby, the parties agree as
follows:
SECTION
1. Consideration. The Executive acknowledges that: (i) the
payments, rights and benefits set forth in Section 7.1 of the Agreement
constitute full settlement of all his rights under the Employment Agreement,
(ii) he has no entitlement under any other severance or similar arrangement
maintained by the Company, and (iii) except as otherwise provided specifically
in this Release, the Company does not and will not have any other liability
or
obligation to the Executive. The Executive further acknowledges that,
in the absence of his execution of this Release, the benefits and payments
specified in Section 7.1 of the Employment Agreement would not otherwise be
due
to him.
SECTION
2. Release and Covenant Not to Sue.
2.1. The
Executive hereby fully and forever releases and discharges the Company, and
all
predecessors and successors, assigns, stockholders, affiliates, officers,
directors, trustees, employees, agents and attorneys, past and present (the
Company and each such person or entity is referred to as a “Released Person”)
from any and all claims, demands, liens, agreements, contracts, covenants,
actions, suits, causes of action, obligations, controversies, debts, costs,
expenses, damages, judgments, orders and liabilities, of whatever kind or
nature, direct or indirect, in law, equity or otherwise, whether known or
unknown, arising through the date of this Release, out of the Executive’s
employment by the Company or the termination thereof, including, but not limited
to, any claims for relief or causes of action under the Age Discrimination
in
Employment Act, 29 U.S.C. § 621 et seq., or any other federal, state or local
statute, ordinance or regulation regarding discrimination in employment and
any
claims, demands or actions based upon alleged wrongful or retaliatory discharge
or breach of contract under any state or federal law.
2.2. The
Executive expressly represents that he has not filed a lawsuit or initiated
any
other administrative proceeding against a Released Person and that he has not
assigned any claim against a Released Person. The Executive further
promises not to initiate a lawsuit or to bring any other claim against the
other
arising out of or in any way related to the Executive’s employment by the
Company or the termination of that employment. This Release will not
prevent the Executive from filing a charge with the Equal Employment Opportunity
Commission (or similar state agency) or participating in any investigation
conducted by the Equal Employment Opportunity Commission (or similar state
agency); provided, however, that any claims by the Executive for personal relief
in connection with such a charge or investigation (such as reinstatement or
monetary damages) would be barred.
2.3. The
foregoing will not be deemed to release the Company from claims solely to
enforce this Release or Section 7.1 of the Employment Agreement.
SECTION
3. Restrictive Covenants. The Executive acknowledges that
Section 10 of the Employment Agreement will survive the termination of his
employment. The Executive affirms that those restrictive covenants
are reasonable and necessary to protect the legitimate interests of the Company,
that he received adequate consideration in exchange for agreeing to those
restrictions and that he will abide by those restrictions.
SECTION
4. Non-Disparagement. The Executive will not disparage any
Released Person or otherwise take any action that could reasonably be expected
to adversely affect the personal or professional reputation of any Released
Person. Similarly, the Company (meaning, solely for this purpose, the
Company’s officers, directors and agents specifically authorized to communicate
on its behalf) will not disparage the Executive or otherwise take any action
that could reasonably be expected to adversely affect his personal or
professional reputation.
SECTION
5. Cooperation. The Executive further agrees that, subject
to reimbursement of his reasonable expenses, he will cooperate fully with the
Company and its counsel with respect to any matter (including litigation,
investigations, or governmental proceedings) in which the Executive was in
any
way involved during his employment with the Company. The Executive
shall render such cooperation in a timely manner on reasonable notice from
the
Company.
SECTION
6. Rescission Right. The Executive expressly acknowledges
and recites that (a) he has read and understands the terms of this Release
in
its entirety, (b) he has entered into this Release knowingly and voluntarily,
without any duress or coercion; (c) he has been advised orally and is hereby
advised in writing to consult with an attorney with respect to this Release
before signing it; (d) he was provided twenty-one (21) calendar days after
receipt of the Release to consider its terms before signing it; and (e) he
is
provided seven (7) calendar days from the date of signing to terminate and
revoke this Release, in which case this Release shall be unenforceable, null
and
void. The Executive may revoke this Release during those seven (7)
days by providing written notice of revocation to the Company at the address
specified in Section 12 of the Employment Agreement.
SECTION
7. Challenge. If the Executive violates or challenges the
enforceability of any provisions of this Release or Section 10 of the Employment
Agreement, no further payments, rights or benefits under Section 7 of the
Employment Agreement will be due to the Executive.
SECTION
8. Miscellaneous.
8.1. No
Admission of Liability. This Release is not to be construed as an
admission of any violation of any federal, state or local statute, ordinance
or
regulation or of any duty owed by the Company to the Executive. There
have been no such violations, and the Company specifically denies any such
violations.
8.2. No
Reinstatement. The Executive agrees that he will not apply for
reinstatement with the Company or seek in any way to be reinstated, re-employed
or hired by the Company in the future.
8.3. Successors
and Assigns. This Release shall inure to the benefit of and be
binding upon the Company and the Executive and their respective successors,
permitted assigns, executors, administrators and heirs. The Executive
not may make any assignment of this Release or any interest herein, by operation
of law or otherwise. The Company may assign this Release to any
successor to all or substantially all of its assets and business by means of
liquidation, dissolution, merger, consolidation, transfer of assets, or
otherwise.
8.4. Severability. Whenever
possible, each provision of this Release will be interpreted in such manner
as
to be effective and valid under applicable law. However, if any
provision of this Release is held to be invalid, illegal or unenforceable in
any
respect, such invalidity, illegality or unenforceability will not affect any
other provision, and this Release will be reformed, construed and enforced
as
though the invalid, illegal or unenforceable provision had never been herein
contained.
8.5. Entire
Agreement; Amendments. Except as otherwise provided herein, this
Release contains the entire agreement and understanding of the parties hereto
relating to the subject matter hereof, and merges and supersedes all prior
and
contemporaneous discussions, agreements and understandings of every nature
relating to the subject matter hereof. This Release may not be
changed or modified, except by an agreement in writing signed by each of the
parties hereto.
8.6. Governing
Law. This Release shall be governed by, and enforced in accordance
with, the laws of the State of Illinois, without regard to the application
of
the principles of conflicts of laws.
8.7. Counterparts
and Facsimiles. This Release may be executed, including execution by
facsimile signature, in multiple counterparts, each of which shall be deemed
an
original, and all of which together shall be deemed to be one and the same
instrument.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Release to be executed by its
duly
authorized officer, and the Executive has executed this Release, in each case
as
of the date first above written.
JAMES
FUENTES ISCO
INTERNATIONAL, INC.
By:
Title:
EXHIBIT
C TO MERGER AGREEMENT - REGISTRATION RIGHTS AGREEMENT
This
Registration Rights Agreement (this “Agreement”) is entered into as of
_________, 200_, among ISCO International, Inc., a Delaware corporation with
offices at 1001 Cambridge Drive, Elk Grove Village, Illinois 60007 (the
“Company”) and James Fuentes (“Fuentes”) and the Rightsholders whose shares of
Common Stock have not been registered on a Form S-8 prior to the Closing Date
(collectively with Fuentes, “Sellers” and each, a “Seller”).
W
I T N E
S S E T H:
WHEREAS,
pursuant to the Agreement and Plan of Merger, dated November 13, 2007 (the
“Merger Agreement”), by and among the Company, ISCO Illinois, Inc., an Illinois
corporation and a direct wholly-owned subsidiary of the Company, Clarity
Communication Systems Inc., an Illinois corporation which is solely owned by
Fuentes (“Clarity”), and Fuentes, for himself and as the representative of the
Rightsholders, the Company is to acquire Clarity through a merger (the “Merger”)
in which the Company is to issue shares of its common stock, par value $0.001
per share (the “Common Stock”), to Sellers in exchange for Sellers’ shares of
capital stock of Clarity or Rights in accordance with the terms of the Merger
Agreement; and
WHEREAS,
the Company and Fuentes have agreed to enter into this Agreement to provide
for
the registration for resale of the shares of Common Stock to be issued to
Sellers in the Merger; and
NOW,
THEREFORE, in consideration of the mutual promises, representations, warranties,
covenants and conditions set forth in the Merger Agreement and this Agreement,
the Company and Sellers agree as follows:
1. Certain
Definitions. Capitalized terms used herein and not otherwise defined
shall have the meaning ascribed thereto in the Merger Agreement. As
used in this Agreement, the following terms shall have the following respective
meanings:
“Commission”
or “SEC” shall mean the Securities and Exchange Commission or any other federal
agency at the time administering the Securities Act.
“1934
Act” shall mean the Securities Exchange Act of 1934, as amended.
The
terms
“register,” “registered” and “registration” shall refer to a registration
effected by preparing and filing a registration statement in compliance with
the
Securities Act and applicable rules and regulations thereunder, and the
declaration or ordering of the effectiveness of such registration
statement.
“Registrable
Shares” shall mean all Sellers’ Shares upon original issuance thereof and at all
times subsequent thereto until the earliest to occur of (1) the disposition
of
such Sellers’ Shares in accordance with the Resale Registration Statement, (2)
the sale of such Sellers’ Shares in compliance with Rule 144 and/or Rule 145, as
applicable, under the Securities Act or (3) such Sellers’ Shares ceasing to be
outstanding.
“Resale
Registration Statement” shall have the meaning set forth in Section 2(i)
herein.
“Securities
Act” or “Act” shall mean the Securities Act of 1933, as amended.
2. Registration
Requirements.
(i) Within
30 days after the Closing, the Company shall file with the SEC a Registration
Statement on Form S-3 (the “Resale Registration Statement”), or on such other
form available to the Company if Form S-3 is not available, for an offering
to
be made on a continuous basis pursuant to Rule 415 promulgated under the
Securities Act (as such rule may be amended from time to time) registering
the
resale from time to time by each Seller of the shares of Common Stock issued
or
issuable pursuant to the Merger Agreement (the “Sellers’ Shares”) up to the full
extent permitted by Applicable Law or SEC guidelines and interpretations (it
being understood that the initial filing shall include all of Sellers’ Shares
and any reduction in the number of Sellers’ Shares included in the Resale
Registration Statement shall only be made if required by the SEC staff in
connection with its review of the Resale Registration Statement and, in the
event of any such reduction, the Company shall register any such Sellers’ Shares
not included in the Resale Registration Statement as soon as possible in
accordance with Applicable Law and SEC guidelines and interpretations), which
registration statement shall comply in all material respects with the
requirements of the Securities Act. Notwithstanding the foregoing, if
in the reasonable determination of the Company’s counsel that the Resale
Registration Statement could not be declared effective due to the age of the
Company’s financial statements, then the Company may delay the initial filing of
the Resale Registration Statement until five (5) days after the date of the
Company’s independent auditor’s report on the Company’s financial statements as
of and for the year ended December 31, 2007; provided, however, that the Company
shall use commercially reasonable efforts to obtain the independent auditor's
report as soon as practicable after the Company's financial statements as of
and
for the nine months ended September 30, 2007 become stale pursuant to the rules
of the SEC.
(ii) The
Company shall use its commercially reasonable efforts to cause the Resale
Registration Statement to become and remain effective at all times during the
period beginning upon the filing thereof and ending on the earlier of (A) the
date all of the Registrable Shares may be sold pursuant to Rule 144(k) under
the
Securities Act and (B) the date there ceases to be any Registrable Shares and
(C) the second anniversary of the Closing Date (the “Effective
Period”). The Company shall promptly supplement and amend the Resale
Registration Statement if required by the rules, regulations or instructions
applicable to Form S-3 or if required by the Securities Act. In
addition, from and after the date that the Resale Registration Statement is
filed, and to the extent permitted by applicable rules and regulations, the
Company shall, as promptly as practicable following receipt of a written request
from a Seller, file a supplement to the prospectus contained in the Resale
Registration Statement to amend the selling stockholder table contained therein
as set forth in such request.
(iii) In
connection with its obligations pursuant to this Agreement, the Company
shall:
(A) prepare
the Resale Registration Statement and, no later than five Business Days prior
to
filing, furnish to and afford Sellers a reasonable opportunity to review the
Resale Registration Statement proposed to be filed and reflect in such document
when so filed reasonable comments of Sellers;
(B) prepare
and file with the SEC such amendments and post-effective amendments to the
Resale Registration Statement as may be necessary to keep such Resale
Registration Statement continuously effective during the Effective Period;
cause
the related prospectus to be supplemented by any prospectus supplement required
by Applicable Law, and as so supplemented to be filed pursuant to Rule 424
promulgated under the Securities Act (or any similar provisions then in force);
and use its commercially reasonable efforts to comply with the provisions of
the
Securities Act applicable to it with respect to the disposition of all Sellers’
Shares covered by the Resale Registration Statement during the Effective Period
in accordance with the intended methods of distribution set forth in the Resale
Registration Statement as so amended or in such prospectus as so supplemented;
provided that before filing any amendments or supplements to the Resale
Registration Statement, the Company shall furnish to and afford Sellers a
reasonable opportunity to review copies of all such amendments or supplements
proposed to be filed (in each case, where possible, at least three Business
Days
prior to such filing, or such later date as is reasonable under the
circumstances) and reflect in each such document when so filed reasonable
comments of Sellers (it being understood that this proviso shall not apply
to
reports filed by the Company pursuant to the Exchange Act that are incorporated
by reference into the Resale Registration Statement);
(C) notify
Sellers, as promptly as practicable, (1) when a prospectus or any prospectus
supplement or post-effective amendment to the Resale Registration Statement
has
been filed, and, with respect to any post-effective amendment, when the same
has
become effective under the Securities Act, (2) of the issuance by the SEC of
any
stop order suspending the effectiveness of the Resale Registration Statement
or
of any order preventing or suspending the use of any prospectus or the
initiation of any proceedings for that purpose, (3) of the happening of any
event, the existence of any condition or any information becoming known (but
not
the nature or details concerning such event, condition or information) that
makes any statement made in the Resale Registration Statement or related
prospectus or any document incorporated or deemed to be incorporated therein
by
reference untrue in any material respect or that requires the making of any
changes in or amendments or supplements to the Resale Registration Statement,
prospectus or documents so that, in the case of the Resale Registration
Statement, it will not contain any untrue statement of a material fact or omit
to state any material fact required to be stated therein or necessary to make
the statements therein not misleading, and that in the case of the prospectus,
it will not contain any untrue statement of a material fact or omit to state
any
material fact required to be stated therein or necessary to make the statements
therein, in the light of the circumstances under which they were made, not
misleading (provided, however, that no notice by the Company pursuant to this
clause (3) shall be required in the event that the Company promptly files a
prospectus supplement to update the prospectus or a Current Report on Form
8-K
or other appropriate Exchange Act report that is incorporated by reference
into
the Resale Registration Statement which, in either case, contains the requisite
information with respect to such event, condition or information that results
in
the Resale Registration Statement no longer containing any untrue statement
of a
material fact or omitting to state a material fact necessary to make the
statements contained therein not misleading) and (4) of the Company’s
determination that a post-effective amendment to the Resale Registration
Statement would be appropriate. Upon notification pursuant to Clauses
(2), (3) or (4) of this section or notification of a Suspension Period (as
defined below), Sellers shall immediately discontinue the use of Resale
Registration Statement for dispositions of the Sellers’ Shares until such time
as the Company has notified Sellers that (a) the stop order has been withdrawn,
(b) the prospectus supplement or report has been filed or the post effective
amendment has been declared effective, as the same may be, or (c) the use of
the
applicable prospectus contained in the Resale Registration Statement may be
resumed, and, in any case, has received copies of any additional or supplemental
filings that are incorporated or deemed to be incorporated by reference in
such
prospectus or Resale Registration Statement, which notification shall be made
promptly following such withdrawal, filing or effectiveness. The
Company may provide appropriate stop orders to enforce the provisions of this
paragraph;
(D) use
its commercially reasonable efforts to prevent the issuance of any stop order
by
the SEC suspending the effectiveness of the Resale Registration Statement or
of
any stop order by the SEC preventing or suspending the use of a prospectus
and,
if any such stop order is issued, to use its commercially reasonable efforts
to
obtain the withdrawal of such stop order at the earliest possible moment, and
provide prompt notice to Seller of the withdrawal of any such stop
order;
(E) deliver
during the Effective Period to Sellers, at the sole expense of the Company,
as
many copies of the prospectus contained in the Resale Registration Statement
and
each amendment or supplement thereto as Seller may reasonably request (not
including the documents incorporated by reference therein, unless Sellers so
requests in writing); and the Company hereby consents to the use of such
prospectus and each amendment or supplement thereto in connection with the
offering and sale of the Sellers’ Shares covered by such prospectus and any
amendment or supplement thereto in the manner set forth therein;
(F) use
its commercially reasonable efforts to register or qualify any Seller’s Shares
covered by the Resale Registration Statement under the securities or blue sky
laws of such states as such Seller shall reasonably request and at such Seller’s
sole cost and expense, and do any and all other acts and things that may
reasonably be necessary or desirable to enable such Seller to consummate the
public sale or other disposition of the Seller’s Shares in such states;
provided, however, that the Company shall not be required in connection with
this paragraph to qualify as a foreign corporation or execute a general consent
to service of process in any jurisdiction;
(G) unless
the Sellers’ Shares shall be in book-entry form only, cooperate with Sellers to
facilitate the timely preparation and delivery of certificates representing
Sellers’ Shares sold pursuant to the Resale Registration Statement, or subject
to receipt by the Company of satisfactory evidence of compliance with Applicable
Law, an exemption for the registration requirements of the Securities Act,
which
certificates shall not bear any restrictive legends (unless transferred
otherwise than pursuant to the Resale Registration Statement or in compliance
with Rule 144 under the Securities Act) and shall be in a form eligible for
deposit with The Depository Trust Company; and enable such Sellers’ Shares to be
in such denominations and registered in such names as Sellers may reasonably
request in connection with any sale of Sellers’ Shares. Prior to any
sale or other transfer of Sellers’ Shares other than pursuant to the Resale
Registration Statement, Sellers must furnish to the Company such certificates,
legal opinions and other information as the Company or its transfer agent may
reasonably require to confirm that such sale or transfer is being made pursuant
to an exemption from the registration requirements of the Securities
Act;
(H) subject
to Section 2(vi) below, upon the occurrence of any event contemplated by Section
2(iii)(C), as promptly as practicable prepare and file with the SEC, at the
sole
expense of the Company, a supplement or post-effective amendment to the Resale
Registration Statement or a supplement to the related prospectus or any document
incorporated or deemed to be incorporated therein by reference, or file any
other required document so that, as thereafter delivered to the purchasers
of
the Sellers’ Shares being sold thereunder, any such prospectus will not contain
an untrue statement of a material fact or omit to state a material fact required
to be stated therein or necessary to make the statements therein, in the light
of the circumstances under which they were made, not misleading;
(I) during
the Effective Period, use its commercially reasonable efforts to comply with
all
rules and regulations of the SEC applicable to the Resale Registration
Statement; and
(J) use
its commercially reasonable efforts to take all other steps necessary to effect
the registration of the Sellers’ Shares covered by the Resale Registration
Statement contemplated hereby.
(iv) Except
as otherwise provided herein, the Company will pay all Registration Expenses
relating to the Resale Registration Statement. For purposes of this
Agreement, the term “Registration Expenses” shall mean all expenses incurred by
the Company in complying with this Agreement, including all registration and
filing fees, listing fees, printing expenses, fees and disbursements of counsel
for the Company, excluding any state blue sky fees and expenses; provided,
however, that except as expressly set forth herein, in no event shall
Registration Expenses include any underwriting fees, discounts, commissions
or
fees attributable to the sale of the Sellers’ Shares or any counsel, accounting
or other Persons retained by Sellers in connection with the matters set forth
in
this Agreement.
(v) If
the Company has delivered a prospectus to Sellers and after having done so
the
prospectus is amended to comply with the requirements of the Securities Act,
the
Company shall promptly notify Sellers and provide Sellers with a reasonable
number of revised prospectuses.
(vi) The
Company may suspend the availability of the Resale Registration Statement and
the use of any prospectus for a period not to exceed sixty (60) days in the
aggregate in any three (3) month period or ninety (90) days in the aggregate
during any twelve (12) month period, if the Company determines, in its
reasonable judgment and based on the advice of its counsel, that such suspension
is necessary due to the existence of an event or state of facts relating to
the
Company or its subsidiaries that is material to the Company and its
subsidiaries, taken as a whole; provided that the Company promptly thereafter
complies with the requirements of Section 2(iii)(B), if
applicable. Any period during which the Company may, pursuant to this
Section 2 (vii), suspend the availability of the Resale Registration Statement
and the use of any prospectus shall be referred to as a “Suspension
Period.”
(vii) Sellers
agree to cooperate as reasonably requested by the Company in connection with
the
preparation and filing of the Resale Registration Statement.
3. Information
by Sellers. Sellers shall promptly furnish to the Company such
information regarding Sellers and the distribution and/or sale proposed by
Sellers as the Company may from time to time reasonably request in writing
in
connection with any registration, qualification or compliance referred to in
this Agreement, and the Company shall not be required to file a Resale
Registration Statement or amendment or supplement, as applicable, if Sellers
fail to furnish such information within a reasonable time after receiving such
request. Sellers agree that, other than ordinary course brokerage
arrangements, in the event it enters into any arrangement with a broker dealer
for the sale of any Registrable Shares through a block trade, special offering,
exchange distribution or secondary distribution or a purchase by a broker or
dealer, Sellers shall promptly deliver to the Company in writing all applicable
information required in order for the Company to be able to timely file a
supplement to the Prospectus pursuant to Rule 424(b) under the Securities Act,
to the extent that such supplement is legally required. Such
information shall include a description of (i) the name of the participating
broker dealer(s), (ii) the number of Registrable Shares involved, (iii) the
price at which such Registrable Shares were or are to be sold, and (iv) the
commissions paid or to be paid or discounts or concessions allowed or to be
allowed to such broker dealer(s), where applicable.
4. Indemnification
and Contribution.
(a) The
Company agrees to indemnify, to the fullest extent permitted by law, each seller
of Registrable Shares, its officers and directors and each Person who controls
such seller (within the meaning of the Securities Act or the Exchange Act)
from
and against all losses, claims, damages, liabilities and expenses (including,
but not limited to, reasonable attorneys' fees) (collectively, “Losses”) arising
out of or based upon any untrue or alleged untrue statement of a material fact
contained in the Resale Registration Statement, any related preliminary
prospectus, prospectus or free writing prospectus, or any amendment thereof
or
supplement thereto, or any omission or alleged omission of a material fact
required to be stated therein or necessary to make the statements therein,
in
light of the circumstances under which they were made, not misleading, or any
violation by the Company of any federal or state securities laws, except that
the Company shall not be liable for any indemnification under this Section
4 to
the extent such Losses are caused by or contained in any information furnished
in writing to the Company by such seller expressly for use therein or by such
seller's failure to deliver a copy of the prospectus or any amendments or
supplements thereto after the Company has furnished such seller with a
sufficient number of copies of the same. The reimbursements required
by this paragraph will be made by periodic payments during the course of the
investigation or defense, promptly after bills are received or expenses
incurred.
(b) Each
seller of Registrable Shares will indemnify the Company, its directors and
officers and each Person who controls the Company (within the meaning of the
Securities Act or the Exchange Act) from and against any Losses resulting from
any untrue statement or alleged untrue statement of a material fact contained
in
the Resale Registration Statement, any related preliminary prospectus,
prospectus or free writing prospectus, or any amendment thereof or supplement
thereto, or any omission or alleged omission of a material fact required to
be
stated therein or necessary to make the statements therein, in light of the
circumstances under which they were made, not misleading, but only to the extent
that such untrue statement or alleged untrue statement or omission or alleged
omission is contained in any information so furnished in writing by such seller;
provided that the obligation to indemnify will be several, not joint and
several, among such sellers of Registrable Shares, and the liability of each
such seller of Registrable Shares will be in proportion to the number of
Registrable Shares sold by each such seller divided by the total number of
Registrable Shares included in such registration statement, and provided further
that such liability will be limited to, in any event, the net amount received
by
such seller from the sale of Registrable Shares pursuant to such registration
statement.
(c) If
any action is brought in respect of which indemnity may be sought pursuant
hereto, the Person seeking indemnification (the “indemnified party”) shall
promptly notify the Person against whom indemnification is sought (the
“indemnifying party”) in writing of the institution of such action (but the
failure so to notify will not relieve the indemnifying party from any liability
that it may have to the indemnified party hereunder to the extent the
indemnifying party is not materially prejudiced as a result thereof, and in
no
event shall it relieve the indemnifying party from any liability it may have
otherwise than pursuant to this Section 4), and the indemnifying party shall
assume the defense of such action, including the employment of counsel
reasonably satisfactory to the indemnified party or parties and payment of
expenses. The indemnified party or parties shall have the right to
employ its or their own counsel in any such case, but the fees and expenses
of
such counsel shall be at the expense of indemnified party or parties unless
(A)
the employment of such counsel shall have been authorized in writing by the
indemnifying party, (B) the indemnifying party shall not have employed counsel
reasonably satisfactory to the indemnified party or parties within a reasonable
time or (C) such indemnified party or parties shall have reasonably concluded
(based on the advice of counsel) that there may be defenses available to it
or
them which are different from or additional to those available to the
indemnifying party and may present a conflict for counsel representing the
indemnified party or parties and the indemnifying party (in which case the
indemnifying party shall not have the right to direct the defense of such action
on behalf of the indemnified party or parties), in any of which events such
fees
and expenses shall be borne by the indemnifying party and paid as incurred
(it
being understood, however, that the indemnifying party shall not be liable
for
the fees and expenses of more than one separate counsel (in addition to local
counsel) for the indemnified parties in any one action or series of related
actions in the same jurisdiction representing the indemnified parties who are
parties to such action). Anything in this paragraph to the contrary
notwithstanding, the indemnifying party shall not be liable for any settlement
effected without its written consent unless the indemnifying party shall have
failed to assume the defense of such action or reimburse the indemnified party
for fees and expenses of counsel as contemplated by this paragraph within 30
days after receipt by the indemnifying party of the request
therefor. An indemnifying party will not, without the prior written
consent of the indemnified parties, settle or compromise or consent to the
entry
of any judgment in any action in respect of which indemnification may be sought
hereunder unless such settlement, compromise or consent includes an
unconditional release of the indemnified parties from all liability arising
out
of the action.
(d) If
the indemnification provided for in this Section 4 is held by a court of
competent jurisdiction to be unavailable to an indemnified party with respect
to
any losses, claims, damages or liabilities referred to herein, the indemnifying
party, in lieu of indemnifying such indemnified party thereunder, shall to
the
fullest extent permitted by applicable law contribute to the amount paid or
payable by such indemnified party as a result of such loss, claim, damage or
liability in such proportion as is appropriate to reflect the relative fault
of
the indemnifying party on the one hand and of the indemnified party on the
other
in connection with the matters that resulted in such loss, claim, damage or
liability, as well as any other relevant equitable considerations. The relative
fault of the indemnifying party and of the indemnified party shall be determined
by a court of law by reference to, among other things, whether the untrue or
alleged untrue statement of a material fact or the omission or alleged omission
to state a material fact related to information supplied by the indemnifying
party or by the indemnified party and the parties' relative intent, knowledge,
access to information and opportunity to correct or prevent such statement
of
omission; provided, that in no event shall the amounts payable in indemnity
by a
seller of Registrable Shares exceed the net proceeds received by such seller
in
the registered offering out of which such indemnification arises. No party
guilty of fraudulent misrepresentation under Section 11(f) of the Securities
Act
shall be entitled to contribution under this Section 4.
5. Transfer
or Assignment. This Agreement shall inure to the benefit of and be
binding upon the successors and assigns of each of the parties, including,
without the need for an express assignment or any consent by the Company,
subsequent holders of the Sellers’ Shares.
6. Reports
Under The 1934 Act.
With
a
view to making available to Sellers the benefits of Rule 144 promulgated under
the Securities Act or any other similar rule or regulation of the SEC that
may
at any time permit Seller to sell securities of the Company to the public
without registration (“Rule 144”), the Company agrees to:
(a) make
and keep public information available, as those terms are understood and defined
in Rule 144;
(b) file
with the SEC in a timely manner all reports and other documents required of
the
Company under the Securities Act and the 1934 Act so long as the Company remains
subject to such requirements and the filing of such reports and other documents
is required for the applicable provisions of Rule 144; and
(c) furnish
to Sellers so long as Sellers own Registrable Shares, promptly upon request,
(i)
a written statement by the Company, if true, that it has complied with the
reporting requirements of Rule 144, the Securities Act and the 1934 Act, (ii)
a
copy of the most recent annual or quarterly report of the Company and such
other
reports and documents so filed by the Company, and (iii) such other information
as may be reasonably requested to permit Seller to sell such securities pursuant
to Rule 144 without registration.
7. Miscellaneous.
(a) Remedies. The
Company and Sellers acknowledge and agree that irreparable damage would occur
in
the event that any of the provisions of this Agreement were not performed in
accordance with their specific terms or were otherwise breached. It
is accordingly agreed that the parties shall be entitled to an injunction or
injunctions to prevent or cure breaches of the provisions of this Agreement
and
to enforce specifically the terms and provisions hereof, this being in addition
to any other remedy to which any of them may be entitled by law or
equity.
(b) Jurisdiction. THE
PARTIES MUTUALLY IRREVOCABLY AND UNCONDITIONALLY AGREE (I) THAT ALL ACTIONS
OR
PROCEEDINGS ARISING IN CONNECTION WITH THIS AGREEMENT SHALL BE TRIED AND
LITIGATED ONLY IN THE STATE AND FEDERAL COURTS LOCATED IN THE STATE OF ILLINOIS,
AND THAT THE PARTIES SHALL BE SUBJECT TO THE JURISDICTION OF SUCH COURTS, AND
(II) THAT SERVICE OF PROCESS BY CERTIFIED MAIL, RETURN RECEIPT REQUESTED, SHALL
CONSTITUTE PERSONAL SERVICE. NOTHING IN THIS SECTION 7(b) SHALL
AFFECT OR LIMIT ANY RIGHT TO SERVE PROCESS IN ANY OTHER MANNER PERMITTED BY
LAW. THE COMPANY AND SELLERS EACH WAIVE, TO THE EXTENT PERMITTED
UNDER APPLICABLE LAW, ANY RIGHT EACH 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 7(b).
(c) Notices. Any
notice or other communication required or permitted to be given hereunder shall
be in writing by facsimile, electronic transmission, mail or personal delivery
and shall be effective upon actual receipt of such notice. The
addresses for such communications shall be:
to
the
Company:
ISCO
International, Inc.
1001
Cambridge Drive
Elk
Grove
Village, Illinois 60007
Telephone: (847)
391-9400
Facsimile: (847)
391-5015
Attention:: Frank
Cesario
E-mail:
frank.cesario@iscointl.com
with
a
copy to:
Pepper
Hamilton LLP
400
Berwyn Park
899
Cassatt Road
Berwyn,
Pennsylvania 19312
Telephone: (610)
640-7800
Facsimile: (610)
640-7835
Attention: Michael
P. Gallagher, Esq.
E-mail:
GALLAGMP@pepperlaw.com
to
Sellers:
Clarity
Communications Systems Inc.
2640
White Oak Circle
Aurora,
IL 60502
Attention: President
and Chief Executive Officer
Telephone: (630)
499-1234
Telecopy: (630)
499-1230
Email:
jfuentes@claritycsi.com
with
a
copy to:
Mayer
Brown LLP
71
South
Wacker Drive
Chicago,
IL 60606-4637
Attention:
William R. Kucera
Telephone:
(312) 701-7296
Telecopy
(312) 706-8138
Email:
wkucera@mayerbrown.com
Any
party
hereto may from time to time change its address for notices by giving at least
five days’ written notice of such changed address to the other parties
hereto.
(d) Waivers. No
waiver by any party of any default with respect to any provision, condition
or
requirement of this Agreement shall be deemed to be a continuing waiver in
the
future or a waiver of any other provision, condition or requirement hereof,
nor
shall any delay or omission of any party to exercise any right hereunder in
any
manner impair the exercise of any such right accruing to it
thereafter.
(e) Execution
in Counterpart. This Agreement may be executed in two or more
counterparts, all of which shall be considered one and the same agreement,
it
being understood that all parties need not sign the same
counterpart.
(f) Signatures. Facsimile
signatures shall be valid and binding on each party submitting the
same.
(g) Entire
Agreement; Amendment. This Agreement, together with the Merger
Agreement, and the agreements and documents contemplated hereby and thereby,
contains the entire understanding and agreement of the parties.
(h) Governing
Law. This Agreement and the validity and performance of the terms
hereof shall be governed by and construed in accordance with the laws of the
State of Illinois applicable to contracts executed and to be performed entirely
within such state.
(i) Jury
Trial. EACH PARTY HERETO WAIVES THE RIGHT TO A TRIAL BY
JURY.
(j) Titles. The
titles used in this Agreement are used for convenience only and are not to
be
considered in construing or interpreting this Agreement.
(k) No
Strict Construction. The language used in this Agreement will be
deemed to be the language chosen by the parties to express their mutual intent,
and no rule of strict construction will be applied against any
party.
(l) Third
Party Beneficiaries. Each holder of Registrable Shares shall be a
third party beneficiary to the agreements made hereunder between the Company,
on
the one hand, and Sellers, on the other hand, and shall have the right to
enforce such agreements directly to the extent it deems such enforcement
necessary or advisable to protect its rights hereunder.
[Signature
Page Follows]
In
Witness Whereof, the parties hereto have caused this Agreement to be duly
executed as of the date first above written.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
SELLERS
By:
Name:
October
25, 2007
The
Board
of Directors
c/o
Frank
Cesario
Chief
Financial Officer
ISCO
International, Inc.
1001
Cambridge Drive
Elk
Grove
Village, Illinois 60007
Dear
Members of the Board:
We
understand that ISCO International, Inc. (“ISCO”) and Clarity Communications
Systems, Inc. (“Clarity”) propose to enter into a transaction (the
“Transaction”) for the acquisition of Clarity’s outstanding capital stock from
Jim Fuentes, Clarity’s sole stockholder (the “Seller”). Pursuant to
the terms of the Transaction, ISCO is to pay 40 million shares of ISCO
common stock in exchange for all of the outstanding capital stock of
Clarity. Appraisal Economics Inc. has been retained to provide our
opinion of the fairness, from a financial point of view, of the terms of the
Transaction to the Board of Directors of ISCO.
According
to documentation provided to us, we understand that the 40 million shares of
ISCO common stock will be payable as follows; (i) 20 million shares upon closing
of the Transaction (the “Closing Consideration”), (ii) 5 million shares vesting
50 percent annually over two years from closing of Transaction (the “Time-Based
Equity Consideration”), and (iii) 15 million shares vesting at such time at
which ISCO’s equity market capitalization equals or exceeds certain thresholds
as illustrated in the figure below (the “Market Cap-Based Equity
Consideration”). We understand that the Market Cap-Based Equity
Consideration will expire 3 years from closing of the Transaction. In
the event of a change in control of ISCO, the Time-Based Equity
Consideration will become fully vested and the Market Cap-Based Equity
Consideration will be forfeited.
MARKET
CAP-BASED EQUITY CONSIDERATION VESTING SCHEDULE
|
Tranche
|
Shares
to Vest
|
Equity
Market-Cap Threshold1
|
|
1
|
3.75
million
|
$125,000,000
|
|
2
|
3.75
million
|
175,000,000
|
|
3
|
3.75
million
|
225,000,000
|
|
4
|
3.75
million
|
275,000,000
|
1
Target must be
maintained for 45 consecutive trading days
In
conducting our analysis and arriving at the opinion expressed herein, we review
such materials and consider such financial and other factors as we deem relevant
under the circumstances, including:
|
•
|
a
copy of the Letter of Intent for Purchase of Clarity Stock dated
August
28, 2007 and the Amendment to the Letter of Intent dated September
21,
2007;
|
|
•
|
unaudited
financial statements of Clarity for the years ended December 31, 2002
through 2006, and for the interim period ended June 30,
2007;
|
|
•
|
certain
internal financial and operating information, including financial
projections for Clarity prepared by the management of Clarity and
financial projections for Clarity prepared by the management of
ISCO;
|
|
•
|
market
traded security prices and publicly available financial and operating
data
concerning certain companies whose business description we deem comparable
to Clarity or otherwise relevant to our
inquiry;
|
|
•
|
information
regarding acquisitions of similar companies whose business description
we
deem comparable to Clarity;
|
|
•
|
ISCO
stock price on or around September 30, 2007 to determine the value
of the
Closing Consideration;
|
|
•
|
published
studies of discounts to be applied to restricted stock to determine
the
value of the Time-Based Equity
Consideration;
|
|
•
|
application
of a Monte Carlo simulation model to determine the value of the Market
Cap-Based Equity Consideration; and
|
|
•
|
other
financial studies, analyses, and investigations as we deem
appropriate.
|
Details
of our analysis are summarized in attached Appendices I through
III.
We
have
discussed with the senior management of ISCO and Clarity; (i) the
recent history and prospects for Clarity’s business, (ii) the terms of the
Transaction, and (iii) such other matters as we deem relevant.
As
part
of our review and analysis and in arriving at our opinion, we have relied upon
the accuracy and completeness of the financial and other information provided
to
us by ISCO and Clarity. We have not undertaken any independent
verification of such information or any independent valuation or appraisal
of
any of the assets or liabilities of Clarity except as noted. We
assume that the final terms of the Transaction will be substantially similar
to
those described herein. Our opinion is necessarily based on economic,
financial, and market conditions as they exist and can only be evaluated as
of
the date hereof. Our opinion does not address and should not be
construed to address the merits of the Transaction and alternative financing
strategies.
Appraisal
Economics Inc. and all its employees are independent of ISCO and Clarity and
have no current financial interest in these parties. We have been
retained by ISCO to render this opinion in connection with the Transaction
and
will receive a fee for such services. Our fee for this engagement is
in no way contingent upon the results reported.
Based
upon and subject to the foregoing, we are of the opinion, as of the date hereof,
that the terms of the Transaction are fair, from a financial point of view,
to
the holders of ISCO’s capital stock.
APPRAISAL
ECONOMICS INC.
Date
of
Report: October 25, 2007
APPENDIX
I
SUMMARY
OF CLARITY ANALYSIS
The
following is a summary of the
financial analysis performed by Appraisal Economics Inc. in connection with
the
preparation of our opinion. No company or security used in the
analysis described below is directly comparable to Clarity. In
addition, mathematical analysis such as determining the mean or median is not
in
itself a meaningful method of using selected company or market
data. The analysis we perform is not necessarily indicative of actual
values, which may be significantly more or less favorable than suggested by
this
analysis.
We
conclude that the fair market value of Clarity’s total equity is
$6.0 million as of September 30, 2007 (the “Valuation
Date”). We define fair market value as the amount at which
property would change hands between a willing seller and a willing buyer when
neither is acting under compulsion, and when both have reasonable knowledge
of
the relevant facts. The fair market value presented herein
is for the Valuation Date only and to the best of our knowledge is
the latest fair market value established for Clarity’s total equity, prior to
closing.
VALUATION
THEORY
To
determine the fair market value of the equity, first we determine the value
of
Clarity’s business enterprise. Then, we deduct interest-bearing debt
from the business enterprise value to arrive at Clarity’s equity
value. The theoretical details of business enterprise value are
explained below.
Business
Enterprise Value
We
define
the value of a business enterprise as the value of its net working capital
plus
the value of its fixed and intangible assets. This equates to the
value of the total capital of the business (debt plus equity). We
derive this latter relationship from the familiar accounting
equation:
Assets = Liabilities
+ Stockholders’ Equity
or,
more
specifically:
CA + TFA
+ IA = CL + LTD + SE
where:
CA = Current
Assets
TFA = Tangible
Fixed Assets
IA = Intangible
Assets
CL = Current
Liabilities
LTD
= Long-term Debt (defined as all interest-bearing debt)
SE = Stockholders’
Equity
Rearranging
the above equation, we have:
(CA
- CL)
+ TFA + IA = LTD + SE
We
define
the quantity (CA - CL) as net working capital (NWC), and as previously defined,
the business enterprise value equals net working capital plus fixed and
intangible assets, so that:
Business
Enterprise Value = NWC +TFA + IA = LTD + SE
Thus,
the
business enterprise value equals the value of the company’s debt plus its
equity.
Approaches
to Determining Business Enterprise Value
There
are
three principal approaches for determining the business enterprise
value: the market, income, and cost approaches. A brief
discussion of each follows.
In
the
market approach, fair market value is based on actual transaction
prices or stock prices of comparable guideline companies. To select
guideline companies, consideration such as the nature of the business, its
location, size, growth, and profitability are analyzed.
Using
the
capital markets method or guideline company method of the
market approach, we rely upon the stock prices of publicly traded
companies. Publicly traded companies have published market values and
are usually subject to diligent analysis by investors. To value a
business enterprise using this information, we typically develop a relationship
between the market value of the guideline company’s invested capital (that is,
market value of all equity plus interest-bearing debt), to some relevant
performance measure, such as cash flow or earnings. Then we use these
relationships, commonly referred to as valuation multiples, to value the subject
company.
Using
the
acquisitions method or guideline transaction method of the
market approach, we analyze available data concerning the purchase prices paid
in the acquisition of companies. Then we develop relationships
between the acquisition price and some measure of the acquired company’s net
sales or earnings, and apply these relationships to the subject company as
in
the capital markets method.
The
income approach is based on the premise that the business enterprise
value is the present value of the future economic income to be obtained from
the
business (for example, the current value of the future cash generated by the
business). Of the several income approaches available, including the
capitalization of normalized earnings, the capitalization of normalized cash
flows, discounted future cash flows, and capitalized dividend paying capacity,
we select the discounted future cash flow approach for valuing the company’s
business enterprise value as management has provided us with financial
projections.
Using
the
cost approach, the book values of a company’s assets and liabilities
are adjusted to fair market value. The book value of the entity must
be adjusted for several reasons. In accordance with generally
accepted accounting principles, assets are generally accounted for at historical
cost less accumulated depreciation. Intangible assets that may exist
are generally not included on historical balance sheets. Liabilities
are reflected at face value, while contingent liabilities are not
shown. Due to this accounting treatment, the use of book value of the
assets and liabilities to estimate the fair market value of the equity may
result in a material misstatement of fair market value.
Selected
Valuation Methods
We
utilize the discounted cash flow method of the income approach with support
from
the guideline company method and the guideline transaction method of the market
approach to determine the business enterprise value of Clarity.
INCOME
APPROACH
Of
the
several methods that can be used when applying the income approach, we select
the discounted cash flow (“DCF”) method.
Using
the
DCF method, we prepare a pro forma financial analysis of the Company to estimate
free operating cash flow (“FCF”) attributable to the business
enterprise. FCF is the amount that could be paid out to the providers
of capital (for example, debtholders and stockholders) in the form of interest
and dividends without impairment of the business
operations. Algebraically, it is defined as follows:
Calculation
of Cash Flow
Net
Sales
Minus
(-)
Operating
Expenses
Equals
(=)
Operating
Income
Minus
(-)
Income
Taxes
Equals
(=)
Net
Operating Income After Taxes
Plus
(+)
Depreciation
and Amortization
Minus
(-)
Increases
in Net Working Capital
Minus
(-)
Capital
Expenditures
Equals
(=)
Free
Operating Cash Flow
Discounted
Cash Flow Analysis
We
have
been provided with budgeted sales and expenses for 2007 through 2011 (the
“Projection Period”). The time frame beyond the Projection Period is
denoted as the residual period. We estimate the FCF for each year of
the Projection Period and discount it to present value using an appropriate
discount rate. Then we estimate the present value of the estimated
FCF for the residual period. The sum of these two components is the
business enterprise value of the company. The annual FCF is
discounted to present value at a rate of 22.0 percent, using a mid-year
discounting convention. To estimate the discount rate for Clarity, we
use the sized based method to best consider the relative small size of
Clarity. Details of the discount rate computation are shown in
Appendix III.
We
determine a residual value of the enterprise at the end of the discrete forecast
period and discount it to present value. The residual value analysis
requires the determination of the value of all prospective cash flow generated
by the business after a discrete forecast period. This model states
that the value of an income stream is determined by the following
equation:
RV
= (CF x (1+g)) / (k-g)
where,
|
|
RV
|
=
|
residual
value in the last year of the
projection,
|
|
|
CF
|
=
|
cash
flow in the last year of the
projection,
|
|
|
k
|
=
|
discount
rate, and
|
|
|
g
|
=
|
residual
cash flow annual growth rate.
|
We
use a
residual cash flow annual growth rate of 5.0 percent in our
model. The term “k- g” is known as the capitalization
rate, equal to 17.0 percent in our analysis. We discount the
resulting residual value to present value. The present values from
both the Projection Period and the residual value are added to obtain the
business enterprise value.
The
following figure illustrates our DCF analysis and computation taking into
account the historical financial results of Clarity and our projections over
the
next five years.
DISCOUNTED
CASH FLOW COMPUTATION
(Amounts
in Thousands of U.S. Dollars)
|
3
months
|
|||||||
|
2007
|
2007
|
2008
|
2009
|
2010
|
2011
|
2012
|
|
|
Revenue
|
$2,900
|
$725
|
$8,000
|
$11,683
|
$15,365
|
$19,048
|
$20,000
|
|
Cost
of goods sold as a % of revenue
|
105.4%
|
105.4%
|
45.0%
|
40.0%
|
40.0%
|
36.0%
|
36.0%
|
|
Cost
of goods sold
|
$3,057
|
$764
|
$3,600
|
$4,673
|
$6,146
|
$6,857
|
$7,200
|
|
Operating
expenses as a % of revenue
|
113.3%
|
113.3%
|
55.0%
|
48.4%
|
45.8%
|
43.1%
|
43.1%
|
|
Operating
expenses
|
3,285
|
821
|
4,400
|
5,654
|
7,041
|
8,203
|
8,613
|
|
Equity
compensation
|
500
|
125
|
1,000
|
1,000
|
1,000
|
1,000
|
1,000
|
|
EBIT
margin
|
-135.9%
|
-135.9%
|
-12.5%
|
3.0%
|
7.7%
|
15.7%
|
15.9%
|
|
EBIT
|
(3,942)
|
(986)
|
(1,000)
|
355
|
1,178
|
2,988
|
3,187
|
|
Net
operating profit after tax
|
($3,942)
|
($986)
|
($1,000)
|
$355
|
$1,178
|
$2,988
|
$3,187
|
|
Less:
Working capital requirement
|
(1,085)
|
(271)
|
918
|
663
|
663
|
663
|
171
|
|
Free
operating cash flow (FCF)
|
(2,857)
|
(714)
|
(1,918)
|
(308)
|
515
|
2,325
|
3,016
|
|
Discount
factor
|
0.9755
|
0.8615
|
0.7061
|
0.5788
|
0.4744
|
0.3889
|
|
|
Present
value of FCF
|
($697)
|
($1,652)
|
($217)
|
$298
|
$1,103
|
$1,173
|
|
|
Cumulative
present value of FCF
|
($697)
|
($2,349)
|
($2,566)
|
($2,268)
|
($1,165)
|
$8
|
|
|
Residual
value calculation:
|
|||||||
|
Residual
FCF
|
$3,016
|
||||||
|
Growth
rate
|
5.0%
|
||||||
|
Residual
FCF plus growth
|
3,167
|
||||||
|
Capitalization
rate
|
17.0%
|
||||||
|
Residual
value
|
18,626
|
||||||
|
Present
value factor
|
0.3889
|
||||||
|
Present
value of residual FCF
|
7,243
|
||||||
|
Present
value of discrete FCF
|
8
|
||||||
|
Indicated
business enterprise value (BEV)
|
$7,251
|
||||||
|
BEV
(rounded)
|
$7,300
|
||||||
In
the
following table, we provide results from our sensitivity analysis regarding
sales projections and discount rates. The shaded areas provide our
conclusion when matching the sales projections with corresponding discount
rates.
SENSITIVITY
VALUE
(Amounts
in Thousands of U.S. Dollars)
[Missing
Graphic Reference]
We
conclude a business enterprise value as of the Valuation Date of $7.3 million
(rounded) for Clarity.
MARKET
APPROACH - GUIDELINE COMPANY METHOD
In
this
section, we describe our valuation analysis of Clarity using the guideline
company method of the market approach. Using this method, we compare
Clarity to similar (or guideline) companies that are publicly traded on a stock
market or exchange. The use of valuation ratios calculated from the
selected guideline companies provides an indication of Clarity’s fair market
value of equity.
Guideline
Company Selection
The
first
step in the guideline company method is the selection of publicly traded
companies that are engaged in businesses similar to Clarity. To
select guideline companies, we researched three
sources: Edgar-Online, Hoovers Online, and Value Line Investment
Surveys. We limit our selection to those companies that operate as
software providers within the wireless telecommunications industry.
After
reviewing the detailed business descriptions of these companies, we select
those
that are most similar to Clarity in terms business description. We
select six guideline companies: PCTEL, Inc.; Smith Micro Software Inc.; NMS
Communications Corporation; CalAmp Corp; Openwave Systems, Inc.; and Wind River
Systems, Inc. The following are brief descriptions of each of the
guideline companies. Clarity is considerably smaller than each of
these guideline companies.
PCTEL,
Inc. (“PCTEL”) was founded in 1994 and is headquartered in Chicago,
Illinois. The company provides wireless connectivity products and
technology to wireless carriers, aggregators of Internet connectivity, personal
computer original equipment manufacturers (OEMs), wireless Internet service
providers, and wireless equipment manufacturers. The company operates
in three groups: the Broadband Technology Group, the Mobility Solutions Group,
and Licensing. The Broadband Technology Group designs, distributes,
and supports antenna solutions for public safety applications, unlicensed and
licensed wireless broadband, fleet management, network timing, and other GPS
applications. The Mobility Solutions Group produces mobility software
products for WiFi, cellular, Internet protocol multimedia subsystem, and wired
applications. The Licensing group holds an intellectual property
portfolio primarily in analog modem technology.
Smith
Micro Software Inc. (“Smith Micro”) was founded in 1982 and is
headquartered in Aliso Viejo, California. The company and its
subsidiaries engage in the development and marketing of wireless communications
software products and services. The company offers products in the
technology and communication-related markets, including wireless, mobile music,
data compression, and diagnostic and utility software. Smith Micro’s
products comprise original equipment manufacturer wireless products which enable
or enhance broadband wireless, multimedia services, and management tools offered
by wireless operators and mobile device manufacturers. In addition,
the company offers wireless compression products that enable compression of
data
files to facilitate storage in mobile devices and transmission over wireless
networks. Further, Smith Micro offers consumer products which provide
compression, utility, diagnostic, fax, and eBusiness solutions. The
company also provides consulting, Web site hosting, and fulfillment
services. It offers software products for Windows, Mac, Unix, Linux,
and Windows Mobility operating systems. The company serves original
equipment manufacturers market, primarily wireless service providers, mobile
device manufacturers, hardware manufacturers, and corporations
worldwide.
NMS
Communications Corporation (“NMS”) was founded in 1983 and is headquartered
in Framingham, Massachusetts. NMS provides technologies, platforms,
and systems to wireless and wireline telecommunications operators, network
equipment, and application providers worldwide. It operates in three
segments: Platform Solutions, Mobile Applications, and Network
Infrastructure. The Platform Solutions segment provides Open Access
products for developing and deploying voice, video, and data applications and
services. The Mobile Applications segment offers applications which
enables mobile subscribers to select original recordings of music, sounds,
and
voices for callers to hear in place of the conventional ringback tone until
the
call is answered as well as various applications which combine subscriber and
content management system. The Network Infrastructure segment offers
a wireless backhaul optimization system. The company also provides a
range of technical and operational support, system integration, and professional
services.
CalAmp
Corp. (“CalAmp”) was founded in 1981 and is headquartered in Oxnard,
California. CalAmp, together with its subsidiaries, provides wireless
communications products that enable anytime/anywhere access to critical
information, data, and entertainment content. The company develops,
manufactures, and sells wireless communications devices and systems that receive
television programming transmitted from satellites and terrestrial transmission
towers. The company offers DBS reception products consisting of
reflector dish antennae, feedhorns, and electronics that receive, process,
and
amplify satellite television signals for distribution of coaxial cable into
the
building; wireless modules that enable network connectivity for machines;
wireless modems, base stations, network routers, and supporting software; and
GPS-based tracking devices used by commercial and government
fleets. CalAmp also offers software applications for urgent messaging
and media content delivery which provide communication applications for network
monitoring, enterprise management, help desk, dispatch, and call center
systems. In addition, the company offers a media content delivery
application. CalAmp was formerly known as California Amplifier,
Inc.
Openwave
Systems, Inc. (“Openwave”) was founded in 1994 and is based in Redwood
City, California. Openwave provides server and client software
products and services for the communications and media industries
worldwide. The company’s server software products include a
carrier-class infrastructure software for exchanging data between the wireline
Internet and wireless mobile phones; an integrated client-server solution that
simplifies converging messaging and communications services; a PC-based Web
2.0
solution for carrier-scale deployment by broadband and mobile operators;
carrier-class messaging; and multimedia services. Its server products
also include messaging abuse prevention, solutions that enable mobile and
broadband service providers to provide IP voicemail and call management
services, contact management, data repository functions, commercial wireless
location services and location for emergency voice calls.
Wind
River Systems, Inc. (“Wind River”) was founded in 1981 and is headquartered
in Alameda, California. The company offers device software
optimization solutions. Wind River’s software and development tools
are used to optimize the functionality of devices, such as digital imaging
products, set-top boxes, automobile braking and navigation systems; and avionics
control panels, factory automation equipment, Internet routers, mobile hand
sets, and coronary pacemakers. The company primarily offers Wind
River platforms, which comprise VxWorks or Linux open-source software operating
systems; Workbench, an integrated development suite for designing, developing,
debugging, and testing device software that supports VxWorks and Linux operating
systems, and a range of processor architectures; and market-specific middleware,
which provides the networking, security, mobility, wireless, and management
protocols. Wind River markets its products and services in North
America, Europe, Middle East, Africa, Japan, and the Asia Pacific region
primarily through its direct sales force. The company also licenses
distributors internationally to serve customers in regions not serviced by
its
direct sales force. In addition, Wind River provides a range of
hardware-assisted debugging tools and hardware reference designs that enable
customers to incorporate into their products or use in the development/prototype
stage. It serves customers in aerospace and defense,
telecommunications, automotive devices, and consumer devices
markets.
Comparison
of Guideline Companies to Clarity
We
analyze these guideline companies using their historical financial statement
data that is available from Forms 10-K and 10-Q filed with the Securities and
Exchange Commission. A financial comparison is shown in the following
figure. The income statement data is based on the latest available
trailing twelve month (“TTM”) period as of the Valuation
Date. Balance sheet data is based on the latest reported figures as
of the Valuation Date.
GUIDELINE
COMPANY COMPARISON
(Amounts
in Thousands of U.S. Dollars)
|
PCTEL
|
Smith
Micro
|
NMS
|
CalAmp
|
|
|
Assets
|
||||
|
Total
assets
|
$132,311
|
$150,284
|
$63,613
|
$220,606
|
|
Current
assets
|
72.4%
|
63.1%
|
73.7%
|
34.1%
|
|
Net
property, plant, and equipment
|
9.4%
|
0.4%
|
10.7%
|
2.7%
|
|
Intangibles
|
17.2%
|
31.3%
|
13.6%
|
58.1%
|
|
Other
|
0.9%
|
5.2%
|
1.9%
|
5.2%
|
|
Liabilities
and Equity
|
||||
|
Current
liabilities
|
9.9%
|
4.7%
|
25.5%
|
20.7%
|
|
Other
non-current liabilities
|
1.8%
|
0.0%
|
3.3%
|
2.1%
|
|
Interest
bearing debt
|
0.6%
|
0.0%
|
0.0%
|
14.9%
|
|
Stockholders’
equity
|
87.7%
|
95.3%
|
71.3%
|
62.3%
|
|
Income
Statements
|
||||
|
Revenues
|
$79,151
|
$65,042
|
$82,859
|
$203,814
|
|
Total
costs and expenses
|
134.8%
|
87.3%
|
128.6%
|
125.6%
|
|
EBITDA
|
-22.9%
|
28.8%
|
-17.5%
|
-20.1%
|
|
Depreciation
and amortization
|
5.9%
|
3.7%
|
4.7%
|
4.4%
|
|
EBIT
|
-34.8%
|
12.7%
|
-28.6%
|
-25.6%
|
|
Net
Income
|
-22.9%
|
12.5%
|
-27.7%
|
-6.9%
|
GUIDELINE
COMPANY COMPARISON (Continued)
(Amounts
in Thousands of U.S. Dollars)
|
Openwave
|
Wind
River
|
Median
|
Clarity
|
|
|
Assets
|
||||
|
Total
assets
|
$548,287
|
$517,628
|
$185,445
|
$1,197
|
|
Current
assets
|
66.6%
|
38.0%
|
64.9%
|
73.4%
|
|
Net
property, plant, and equipment
|
3.6%
|
14.8%
|
6.5%
|
16.0%
|
|
Intangibles
|
15.7%
|
23.5%
|
20.4%
|
10.6%
|
|
Other
|
14.1%
|
23.7%
|
5.2%
|
0.0%
|
|
Liabilities
and Equity
|
||||
|
Current
liabilities
|
28.8%
|
30.0%
|
23.1%
|
32.3%
|
|
Other
non-current liabilities
|
13.0%
|
3.2%
|
2.7%
|
0.0%
|
|
Interest
bearing debt
|
27.2%
|
0.0%
|
0.3%
|
171.2%
|
|
Stockholders’
equity
|
31.1%
|
66.8%
|
69.0%
|
-103.4%
|
|
Income
Statements
|
||||
|
Revenues
|
$290,301
|
$309,290
|
$143,337
|
$5,856
|
|
Total
costs and expenses
|
139.2%
|
102.0%
|
127.1%
|
135.5%
|
|
EBITDA
|
-20.9%
|
9.1%
|
-18.8%
|
-34.4%
|
|
Depreciation
and amortization
|
10.4%
|
3.6%
|
4.6%
|
1.1%
|
|
EBIT
|
-39.2%
|
-2.0%
|
-27.1%
|
-35.5%
|
|
Net
Income
|
-67.7%
|
-0.2%
|
-14.9%
|
-35.2%
|
As
shown,
Clarity is considerably smaller than the guideline companies, with only $1.2
million in total assets.
Guideline
Company Method Computation of Value
We
compute the market value of equity for the guideline companies relative to
certain valuation metrics, such as total assets, revenue and
income. These ratios are then applied to Clarity to obtain an
indication of its market value of equity.
The
market value of equity is computed for each guideline company by summing the
book value of preferred stock and the market value of outstanding common
stock. The book value of preferred stock is taken from the most
recently reported balance sheets. The market value of the common
stock is computed by multiplying the closing market price per share of common
stock by the number of fully diluted shares outstanding. We compute
the market value of equity for the guideline companies as shown in the following
figure.
MARKET
VALUE OF EQUITY COMPUTATION
(Amounts
in Thousands of U.S. Dollars, Except Per Share Data)
|
Smith
|
Wind
|
|||||
|
PCTEL
|
Micro
|
NMS
|
CalAmp
|
Openwave
|
River
|
|
|
Market
traded
|
Nasdaq
|
Nasdaq
|
Nasdaq
|
Nasdaq
|
Nasdaq
|
NYSE
|
|
Ticker
symbol
|
PCTI
|
SMSI
|
NMSS
|
CAMP
|
OPWV
|
WIND
|
|
Latest
quarter ended
|
06/30/07
|
06/30/07
|
06/30/07
|
08/31/07
|
06/30/07
|
07/31/07
|
|
Stockholders’
Equity
|
||||||
|
Common
shares outstanding
|
22,500
|
29,825
|
45,595
|
23,635
|
82,835
|
86,972
|
|
Stock
price date
|
09/30/07
|
09/30/07
|
09/30/07
|
09/30/07
|
09/30/07
|
09/30/07
|
|
Price
per share
|
$7.59
|
$16.06
|
$1.23
|
$3.45
|
$4.38
|
$11.77
|
|
Market
value of common equity
|
170,775
|
478,990
|
56,082
|
81,541
|
362,817
|
1,023,660
|
|
Book
value of preferred equity
|
0
|
0
|
0
|
0
|
0
|
0
|
|
Market
value of stockholders’ equity
|
$170,775
|
$478,990
|
$56,082
|
$81,541
|
$362,817
|
$1,023,660
|
|
Less: Cash
and equivalents
|
68,644
|
80,198
|
28,752
|
8,370
|
80,581
|
90,698
|
|
Market
value of stockholders’ equity
|
$102,131
|
$398,792
|
$27,330
|
$73,171
|
$282,236
|
$932,962
|
|
Market
Value of Invested Capital (MVIC)
|
||||||
|
Market
value of stockholders’ equity
|
$170,775
|
$478,990
|
$56,082
|
$81,541
|
$362,817
|
$1,023,660
|
|
Add: Interest
bearing debt
|
770
|
0
|
0
|
32,782
|
149,017
|
0
|
|
Less: Cash
and equivalents
|
68,644
|
80,198
|
28,752
|
8,370
|
80,581
|
90,698
|
|
MVIC
|
$102,901
|
$398,792
|
$27,330
|
$105,953
|
$431,253
|
$932,962
|
GUIDELINE
COMPANY VALUATION MULTIPLES
(Amounts
in Thousands of U.S. Dollars, Except Multiples)
|
Smith
|
Wind
|
||||||
|
PCTEL
|
Micro
|
NMS
|
CalAmp
|
Openwave
|
River
|
Median
|
|
|
MVIC
to TTM Revenue
|
|||||||
|
TTM
Revenue
|
$79,151
|
$65,042
|
$82,859
|
$203,814
|
$290,301
|
$309,290
|
|
|
MVIC
|
102,901
|
398,792
|
27,330
|
105,953
|
431,253
|
932,962
|
|
|
Indicated
Multiple
|
1.3
|
6.1
|
0.3
|
0.5
|
1.5
|
3.0
|
1.4
|
|
MVIC
to 2007E Revenue
|
|||||||
|
2007E
Revenue
|
$79,140
|
$77,210
|
$85,150
|
$156,250
|
$273,750
|
$329,210
|
|
|
MVIC
|
102,901
|
398,792
|
27,330
|
105,953
|
431,253
|
932,962
|
|
|
Indicated
Multiple
|
1.3
|
5.2
|
0.3
|
0.7
|
1.6
|
2.8
|
1.4
|
|
MVIC
to 2008E Revenue
|
|||||||
|
2008E
Revenue
|
$91,730
|
$108,360
|
$96,370
|
NA
|
$304,420
|
$373,280
|
|
|
MVIC
|
102,901
|
398,792
|
27,330
|
105,953
|
431,253
|
932,962
|
|
|
Indicated
Multiple
|
1.1
|
3.7
|
0.3
|
NA
|
1.4
|
2.5
|
1.4
|
We
consider that a company’s size, growth, and profitability are critical elements
in selecting appropriate valuation multiples. Given Clarity’s lack of
consistent profitability we utilize the revenue multiple in determining an
indication of value. Furthermore, we apply the median multiples to
Clarity’s TTM and 2007E revenue as illustrated below.
APPLICATION
OF SELECTED GUIDELINE COMPANY MULTIPLES
(Amounts
in Thousands of U.S. Dollars, Except Multiples)
|
Performance
|
Company
|
Selected
|
Indicated
|
Applied
|
Weighted
|
|
Metric
|
Fundamental
|
Multiple
|
BEV
|
Weight
|
BEV
|
|
TTM Revenue
|
$3,884
|
1.4
|
$5,438
|
0.50
|
$2,719
|
|
2007E
Revenue
|
2,900
|
1.4
|
4,060
|
0.50
|
2,030
|
|
$4,749
|
|||||
|
Add
cash
|
464
|
||||
|
Concluded
BEV
|
5,213
|
||||
|
BEV
(rounded)
|
$5,200
|
Based
on
our analysis, we select a business enterprise value of $5.2 million for
Clarity as of the Valuation Date using the guideline company method of the
market approach.
MARKET
APPROACH - GUIDELINE TRANSACTION METHOD
Using
the
guideline transaction method, we compute valuation ratios from the observed
purchase prices paid in the acquisition of companies similar to Clarity,
operating within the wireless telecommunications industry. Then we
apply these valuation ratios to Clarity as we did in the guideline company
method.
Guideline
Transaction Selection
The
first
step in the guideline transaction method is the identification of transactions
involving companies engaged in businesses similar to Clarity. We
search several sources to identify suitable transactions, including Pratt’s
Stats and the Mergerstat Control Premium Study. We
review the detailed business descriptions of these transactions and select
those
that are most similar to Clarity. Although none of the companies
identified within the guideline transactions have operations with the same
scope
as Clarity, we select 16 transactions involving the acquisition of companies
operating in the mobile, wireless, telecommunication industry announced between
April 2004 and October 2007. The majority of the transactions
identified represent acquisitions of privately held companies, whereby access
to
the transaction details are limited. The guideline transactions
selected are outlined in the following table.
GUIDELINE
TRANSACTION SUMMARY
|
Date
|
Target
|
Business
Description
|
Sales
|
Sales
Multiple
|
|
04/02/2004
|
Heinz
Corporation
|
Provider
of In-Building Wireless Infrastructure Services for both Cellular
and WiFi
Applications
|
$4,152,922
|
0.2
|
|
05/13/2004
|
Karlnet,
Inc.
|
Develops
Software for Operating and Managing Wireless Networks
|
3,842,011
|
1.6
|
|
09/20/2004
|
VocalData,
Inc.
|
Provider
of Hosted Internet Protocol (IP) Telephony Applications
|
4,773,974
|
5.8
|
|
09/30/2004
|
Aether
Mobile Government (A Division of Aether Systems, Inc.)
|
Provides
Wireless Data Solutions
|
20,898,000
|
0.5
|
|
11/02/2004
|
Tertio
Telecoms, Ltd.
|
Operations
Support Systems (OSS) Software Solutions to Communication
Carriers
|
17,584,000
|
2.4
|
|
11/24/2004
|
Quality
Communications & Alarm Company, Inc.
|
Provider
of Wireless Communication Infrastructure Services
|
8,339,060
|
0.8
|
|
01/03/2006
|
KIRK
Telecom A/S
|
Provider
of Wireless Communications Solutions
|
39,755,000
|
1.8
|
|
01/13/2006
|
Musiwave
S.A.
|
Provider
of Mobile Music Entertainment Services to Mobile Phone Operators
and Media
Companies
|
26,600,000
|
4.8
|
|
02/17/2006
|
Gavitec
AG
|
Software
for Mobile Applications
|
772,000
|
10.1
|
|
02/23/2006
|
Sponge
Limited
|
Engaged
in Developing and Implementing Mobile Applications and Delivering
Content
|
4,666,000
|
3.9
|
|
07/10/2006
|
3E
Technologies International, Inc.
|
Computer
Networking, Wireless Communications, and Smart Sensor
Systems
|
25,703,264
|
1.3
|
|
10/02/2006
|
eStara,
Inc.
|
Click
to Call, Chat and Call Tracking Solutions
|
7,431,649
|
6.6
|
|
05/02/2007
|
GlobalSat
LLC
|
Global
Provider of Satellite-Based Telecommunications Services
|
20,906,906
|
1.3
|
|
06/06/2007
|
MacroPort,
Inc.
|
Provides
Mobile Technology Software and Content Services
|
527,354
|
6.7
|
|
07/05/2007
|
Objectware,
Inc.
|
Software
Company Specializing in the Development and Hosting of Custom Web,
Mobile
and Wireless Applications
|
3,902,000
|
1.7
|
|
10/01/2007
|
Navteq
|
Digital
map information for auto navigation systems
|
582,000,000
|
13.9
|
|
Minimum
|
0.2
|
|||
|
Maximum
|
13.9
|
|||
|
Average
|
4.0
|
|||
|
Median
|
2.1
|
In
evaluating the guideline transactions we select multiples in line with the
median of the implied multiples of the selected guideline
transactions. Our primary focus is on the revenue multiple as this
data was consistently available throughout our guideline transaction
sample.
APPLICATION
OF SELECTED GUIDELINE
TRANSACTION MULTIPLES
(Amounts
in Thousands of U.S. Dollars)
|
TTM
|
|||
|
Performance
|
Company
|
Selected
|
Indicated
|
|
Metric
|
Fundamental
|
Multiple
|
Value
|
|
Revenue
|
$3,884
|
2.1
|
$8,156
|
Based
on
our analysis, we select an indicated business enterprise value of
$8.2 million (rounded) for Clarity as of the Valuation Date using the
guideline transaction method of the market approach.
SUMMARY
OF EQUITY VALUE
Based
upon the income approach, the indicated BEV of Clarity as of the Valuation
Date
is $7.3 million. The income approach is a forward looking analysis
based upon industry data and expectations of company
performance. Prospective investors in the company would typically
analyze the prospective income and cash flows available from such an
investment. While we consider the results from the market approach,
we rely more heavily upon the income approach as the guideline companies and
the
guideline transactions in the market approach vary from Clarity, primarily
in
terms of their relative size.
INDICATED
FAIR MARKET VALUE OF EQUITY
(Amounts
in Thousands of U.S. Dollars)
|
Indicated
|
Applied
|
Weighted
|
|
|
BEV
|
Weight
|
BEV
|
|
|
Guideline
Company Approach
|
$5,200
|
0.25
|
$1,300
|
|
Guideline
Transaction Approach
|
8,200
|
0.25
|
2,050
|
|
Income
Approach
|
7,300
|
0.50
|
3,650
|
|
Concluded
business enterprise value (BEV)
|
$7,000
|
||
|
Less:
Interest bearing debt at closing
|
1,000
|
||
|
Fair
market value
|
$6,000
|
As
a
result of our analysis, we conclude that the fair market value of the Clarity’s
equity is $6.0 million as of the Valuation Date.
CONCLUSION
OF CLARITY ANALYSIS
The
following figure outlines the purchase price terms of the proposed Transaction,
which we conclude as $6.4 million as of October 25, 2007 (the “Report
Date”). Details of our analysis for both the Time-Based Equity
Consideration and Market Cap-Based Equity Consideration follow in Appendix
II.
TRANSACTION
ANALYSIS
(Amounts
in Thousands of U.S. Dollars, Except Share Amounts)
|
Share
Amount (Millions)
|
Total
Equity Value as of the Report Date
|
|
|
Closing
Consideration
|
20
|
$4,200
|
|
Time-Based
Equity Consideration
|
5
|
790
|
|
Market
Cap Based-Equity Consideration
|
15
|
1,460
|
|
Total
Equity Consideration
|
6,450
|
|
|
Total
Equity Consideration (rounded)
|
$6,400
|
Relative
to the concluded fair market value of Clarity’s equity of $6.0 million as of the
Valuation Date, we deem the total equity consideration of $6.4 million as a
fair
purchase price for Clarity’s total equity.
APPENDIX
II
TIME-BASED
AND MARKET CAP-BASED EQUITY
CONSIDERATION
ANALYSES
TIME-BASED
EQUITY CONSIDERATION ANALYSIS
The
Time-Based Equity Consideration, an aggregate of 5 million shares, is similar
to
restricted shares prior to reaching the vesting periods (one year from closing
of the proposed Transaction for 2.5 million shares and two years from closing
of
the proposed Transaction for 2.5 million shares). Based on this
relationship, we apply a marketability discount to the equity value of the
aggregate 5 million shares which are contemplated in this
consideration. As of the Report Date, the 5 million shares represent
a total equity value of $1.05 million, prior to a discount for lack of
marketability.
Discount
for Lack of Marketability
We
review
published studies on discounts for lack of marketability of common stocks as
an
indication of a reasonable marketability discount for the
equity. These studies are grouped into two
categories: restricted stock studies and private-to-public stock
studies.
The
restricted stock studies report the discounts observed on restricted stock
of
companies that also had otherwise identical publicly traded
stock. The only difference between the two classes of stock is a
restriction prohibiting transfer for periods of up to two years. The
private-to-public studies consider the discounts observed between transactions
in stocks of various companies before and after the companies’ stocks became
publicly traded. The results of these studies are summarized
next:
LACK
OF MARKETABILITY STUDIES
Median
Discount
Restricted
Stocks
SEC
Institutional Investor
Study 26
percent
Gelman
Study 33
percent
Trout
Study 34
percent
Moroney
Study 36
percent
Maher
Study 35
percent
Standard
Research Const.
Study 45
percent
|
|
Management
Planning Inc.
|
28
percent
|
Willamette
Mgmt. Assoc.
Study 31
percent
Silber
Study 34
percent
FMV
Opinions Inc.
Study 23
percent
|
|
Shannon
Pratt Study
|
20
percent
|
Private-to-Public
Stocks
R.W.
Baird & Co.
Studies 46
percent
Willamette
Mgmt. Assoc.
Studies 51
percent
The
discounts observed in these studies range from 20 percent to 51 percent, with
a
median across all studies of approximately 34 percent.
Conclusion
of Value
Based
on
our analysis and consideration of the marketability studies, we select a
marketability discount of 25 percent for the equity value of the Time-Based
Equity Consideration, resulting in a value of $790 thousand as of the Report
Date.
MARKET
CAP-BASED EQUITY CONSIDERATION ANALYSIS
We
use a
Monte Carlo analysis to simulate the expected value of the Market Cap-Based
Equity Consideration. Each trial of our analysis represents the
simulated results for each tranche from closing of the proposed
Transaction.
For
each
week of the simulation, our Monte Carlo simulation estimates ISCO’s stock
price. The expected stock price is separated into two components:
dividends and price appreciation (or return). In our analysis,
dividends are not contemplated as ISCO has not paid out dividends to its
shareholders. We use a risk-neutral model to simulate the expected
price return (or price drift) of ISCO’s common stock. In a
risk-neutral model, we model the price drift using the appropriate risk-free
rate, taken from the yields of Treasury notes on the Report Date. We
estimate the standard deviation (or volatility) of the expected price return
based on an analysis of the historical volatility of ISCO’s stock price
returns.
For
each
simulation trial, having simulated ISCO’s stock price during the three year term
of the Market Cap-Based Equity Consideration, we apply a decision algorithm
to
determine whether the projected stock price exceeds the specified performance
hurdles. The potential payoff to the Market Cap-Based Equity
Consideration is computed, and discounted to present value using the risk-free
rate.
Simulation
Details
As
described above, the expected payout to the Market Cap-Based Equity
Consideration is estimated by simulating the ISCO’s risk-neutral price drift on
a weekly basis (that is, over 52 simulated periods per year) during the three
year term of the Market Cap-Based Equity Consideration.
Risk-free
Interest Rate
To
generate probability distributions based on Monte Carlo simulations, we use
the
risk-free rates prevailing as of the Valuation Date. Consistent with
the expected three year life of the Market-Cap Based Equity Consideration,
we
use the yield on three year Treasury notes as the risk-free rate. The
average risk-free interest rate is 4.0 percent as of the Report
Date.
Analysis
of Expected Price Volatility
Based
on
ISCO’s historical volatility, we select a volatility of 75.0 percent for ISCO’s
total equity.
Conclusion
of Restricted Stock Value
Each
tranche is dependent on whether ISCO’s market cap exceeds a certain
threshold. In our Monte Carlo analysis, we treat the stock price
prevailing as of the Report Date ($0.21) as the “baseline” from which to
calculate the implied stock prices and corresponding market cap as the target
thresholds are met for each tranche. Subsequent to the Report Date,
our analysis simulates stock price returns on a weekly basis, which are then
used to calculate the indicated fair market value for each tranche.
We
perform the simulation for 100,000 trials. For each trial, we record
the indicated value of the Market-Cap Based Equity Consideration using the
following steps. First, the simulation determines when each tranche
vests. When each tranche does vest, we calculate the payoff to that
tranche based the projected share price on that vesting date. Once
the simulation determines the payoff for each tranche, we compute the present
value of the payoff for each tranche using the risk-free rate.
Conclusion
of Value
Based
on
our analysis, we conclude that the fair market value of each tranche of the
Market Cap-Based Equity Consideration as of the Report Date, as shown in the
following figure, concluding a total fair market value of $1.46
million.
FAIR
MARKET VALUE SUMMARY
(Amounts
in Millions of U.S. Dollars, Except Share Amounts)
|
Market
Cap
Threshold
|
Vested
Shares
(Millions)
|
Fair
Market Value/Share
|
Total
Fair
Market
Value
(Millions)
|
|
|
Tranche
1
|
$125
|
3.75
|
$0.13
|
$0.49
|
|
Tranche
2
|
175
|
3.75
|
0.10
|
0.37
|
|
Tranche
3
|
225
|
3.75
|
0.09
|
0.34
|
|
Tranche
4
|
275
|
3.75
|
0.07
|
0.26
|
|
$1.46
|
APPENDIX
III
DISCOUNT
RATE
Computation
of Discount Rate
A
discount rate is generally used in business valuations as the rate at which
a
series of future cash flows is reduced to present value. The discount
rate is related to risk. In an investment situation, the risk is the
degree to which actual returns may deviate from expected returns. The
greater the degree to which the price and returns of an investment fluctuate,
the greater the financial risk. Because U.S. government securities
are assumed not to carry the risk of default, they are considered more
predictable than other securities and, therefore, risk-free.
Discount
rates are predicated on two key factors: (i) expected rates for
risk-free financial instruments as measured by government bonds whose maturity
approximates the expected duration of the income stream; and (ii) the perceived
risk of the income stream. Risk refers to the possibility of success
that lies between complete certainty (no risk) and complete uncertainty
(infinite risk). The rate of return must, therefore, increase with
the level of risk.
We
base
our development of a discount rate on the use of a weighted-average cost of
capital method. We calculate the cost of each component of the
capital structure and then weight and sum them over all sources. Of
the four basic sources of financing available to a company -- equity (common
stock), preferred stock, debt, and retained earnings -- we assume only two,
equity and debt.
In
calculating the costs of debt and equity, we consider that income risk is best
determined by comparing it to the risk levels of guideline companies that are
in
the same industry as Clarity. Using this comparison, we determine an
appropriate cost of equity for a comparable level of risk and the appropriate
debt-to-total-capital ratio.
Capital
Structure
We
examine the debt-to-total-capital ratios of guideline companies to determine
an
appropriate long-term capital structure for our analysis. Total
capital is computed as the market value of 100 percent of the equity plus the
book value of all interest-bearing debt. The results of this analysis
are summarized in the following figure.
DEBT-TO-TOTAL-CAPITAL
RATIOS OF GUIDELINE COMPANIES
|
Debt
to
Total
Capital
|
|
|
Brightpoint,
Inc.
|
5.9%
|
|
Openwave
Systems Inc.
|
17.1%
|
|
Powerwave
Technologies
|
26.3%
|
|
Smith
Micro Software, Inc.
|
0.0%
|
|
Wind
River Systems, Inc.
|
2.6%
|
|
Average
|
10.4%
|
|
Median
|
5.9%
|
Based
on
this data, we select a debt-to-total-capital ratio of 5.0 percent for our
analysis.
Cost
of Equity
In
financial theory, the cost of equity is defined as the minimum rate of return
that a company must earn on the equity-financed portion of its capital to leave
the market price of its stock unchanged. We calculate this required
return by using the capital asset pricing model (“CAPM”). This model
relates the cost of equity financing to its level of risk.
When
applying this model, we add a risk premium to the risk-free rate of return;
that
is, an additional return that an investor requires over a risk-free
rate. The underlying assumption is that stock investors are
risk-averse and seek to maximize the returns on their
investments. For the risks that they assume, they demand compensation
in the form of anticipated higher returns. We express this
relationship between risk and return in the following equation:
|
|
Rs
|
=
|
Rf
+ Rp
|
where,
Rs = Return
on the security
Rf = Risk-free
rate
Rp = Risk
premium
This
model defines only systematic risk, that part of a security’s risk that cannot
be eliminated by diversification because it is related to the movement of the
stock market. The assumption is that investors can easily eliminate
company-specific risk by properly diversifying their portfolios and are not
compensated for bearing unsystematic risk.
In
financial theory, the level of this systematic risk is defined by the company’s
beta coefficient that measures the extent to which the returns on a given
investment move with the stock market as a whole. The beta is a gauge
of a security’s volatility in comparison with the market’s
volatility. Beta is determined by regressing individual stock returns
against aggregate returns in the market. Stocks whose betas are
greater than 1.00 tend to have a high degree of systematic risk and a strong
sensitivity to market swings. Conversely, stocks whose betas are less
than 1.00 tend to rise and fall by a lesser percentage than the
market.
For
our
application, we select a beta by analyzing the risk of the guideline
companies. We rely on the data published in the Value Line
Investment Surveys in September 2007. The betas of the guideline
companies are shown in the following figure. Based on these data, we
select a beta of 1.50 for our analysis.
GUIDELINE
COMPANY BETAS
|
Beta
|
|
|
Brightpoint,
Inc.
|
1.45
|
|
Openwave
Systems Inc.
|
2.40
|
|
Powerwave
Technologies
|
2.05
|
|
Smith
Micro Software, Inc.
|
1.50
|
|
Wind
River Systems, Inc.
|
1.65
|
|
Average
|
1.81
|
|
Median
|
1.65
|
The
risk/expected return relationship that we derive from applying the capital
asset
pricing model is known as the security market line. We now measure
the risk premium as beta times the difference between the expected return on
the
market less the risk-free rate. The capital market model equation
then becomes:
Ke
= Rs = Rf
+ ßs x (Rm
- Rf)
where,
Ke = Cost
of equity
|
|
Rs
|
=
|
Expected
return on the stock (and the company’s cost of
equity)
|
ßs = Stock’s
beta
Rm-Rf = Market
premium
Rf = Risk-free
rate
By
studying historical returns on a wide variety of U.S. securities classes since
1926, Ibbotson Associates determined the risk premium that stock investors
require over the risk-free rate. In the 2007 version of Stocks,
Bonds, Bills, and Inflation, they updated the historical returns to the end
of 2006.1 According to Ibbotson’s findings, this is the
risk that must be incorporated into the cost of equity.
In
their
study, Ibbotson Associates concludes that the average stock investor expects
a
6.3 percent stock premium over the risk-free rate of return. For the
risk-free rate, we examine the yield on 20-year U.S. Government Treasury
Securities as of the Valuation Date. We select 4.9 percent as the
risk-free rate.
From
the
CAPM equation, we calculate the cost of equity to the Company as:
Ke
= Rs = 4.9
+ (1.50 x 6.3)
Ke
=
14.4%
To
this,
a small stock premium of 6.3 percent, also indicated in Ibbotson’s study, is
added to allow for the size difference between the entire population of the
studied companies and those of similar size to the Company. Following
addition of these premiums, the cost of equity as indicated by our calculations
is 21.0 percent, rounded, using the CAPM model.
Duff
and Phelps Size-Based Equity Risk Premium
A
second
study we use to estimate an appropriate cost of equity is the 2007 Equity Risk
Premium Study by Duff and Phelps. Duff and Phelps conducted
a study of the relationship between firm size and investor returns using the
database of the Center for Research in Security Prices (CRSP) at the University
of Chicago, together with Standard and Poors’ Compustat
database. Using various measures of size, companies were ranked at
the beginning of each year (starting with 1963, the year that the Compustat
database was established) into 25 groupings based on 8 different gauges of
size,
including: market value of common equity (common stock price times
number of common shares outstanding), book value of common equity, net sales
for
the TTM, five-year average net income, market value of invested capital (market
value of common equity plus book value of preferred stock and long-term debt),
book value of total assets, five-year average EBITDA, TTM revenue,
and number of employees.
Total
return was defined as capital price appreciation plus dividends divided by
the
initial price of the security. An average premium was computed by
subtracting the average income return on long-term United States Treasury notes
from the average portfolio return. The data were then adjusted to
smooth out irregularities. By each measure of size used, the result
was a clear inverse relationship between size and historical equity
returns.
We
use
these data to estimate the required return on equity. First, we
review eight measures of size, which are: market value of equity, book value
of
equity, average net income, market value of invested capital, total assets,
average EBITDA, and the number of employees. Applying Clarity’s data
to the regression formula for the most applicable measures as set forth in
the
study, we compute a smoothed equity risk premium ranging from 15 percent to
17
percent. We select 17 percent as an appropriate risk premium and add
this to the 4.9 percent risk-free yield of 20-year United States Treasury bonds,
which results in an indicated cost of equity capital of 22 percent
(rounded).
We
rely
on the sized-based approach for the discount rate used in our analysis as this
approach sufficiently accounts for Clarity’s relative small
size. Thus, we use a 22 percent discount rate in our
analysis.
|
1
|
Stocks,
Bonds, Bills, and Inflation: Valuation Edition 2007 Yearbook,
Ibbotson Associates, Chicago, 2007.
|
APPENDIX
IV
STATEMENT
OF ASSUMPTIONS AND LIMITING CONDITIONS
Statement
of Assumptions and Limiting Conditions
We
have
made no investigation of, and assume no responsibility for the legal description
or matters including legal or title considerations. Title to the
property is assumed to be good and marketable unless otherwise stated, and
the
property is appraised free and clear of any or all liens or encumbrances unless
otherwise stated.
The
information furnished by others is believed to be reliable. However,
we give no warranty or other form of assurance regarding its
accuracy.
It
is
assumed that there is full compliance with all applicable federal, state, and
local regulations and laws unless noncompliance is stated, defined, and
considered in the report.
It
is
assumed that all required licenses, certificates of occupancy, consents, or
legislative or administrative authority from any local, state, or national
government, private entity or organization have been or can be obtained or
renewed for any use on which the valuation conclusion contained in this report
is based.
Possession
of this report, or a copy thereof, does not carry with it the right of
publication. It may not be used for any purpose by any person other
than the party to whom it is addressed, (including its affiliates and their
relevant taxing authorities), without our written consent and, in any event,
only with proper written qualifications and only in its entirety. No
part of the contents of this report (especially any conclusions of value, the
identity of the appraisers, or the firm with which the appraisers are
associated) shall be disseminated to the public through advertising, public
relations, news, sales, or other media without our prior written consent and
approval.
We,
by
reason of this letter report, are not required to furnish additional reports,
or
to give testimony, or to be in attendance in court with reference to the
property in question unless arrangements have been previously made.
CERTIFICATE
OF AMENDMENT
OF
THE
CERTIFICATE OF INCORPORATION
OF
ISCO
INTERNATIONAL, INC.
ISCO
INTERNATIONAL, INC., (the "Corporation"), a corporation organized and existing
under of the General Corporation Law of the State of Delaware, does hereby
certify:
FIRST:
The board of directors of the Corporation (the “Board of Directors”), at a duly
convened meeting of the Board of Directors, duly adopted a resolution declaring
advisable the amendment of the Certificate of Incorporation of the Corporation
(the “Amendment”) and submitted the same to the stockholders of the Corporation
for approval. The resolution setting forth the proposed amendment is
as follows:
RESOLVED,
that the first sentence of Article 4, Section 4.1 of the Certificate of
Incorporation, as amended, of the Corporation is hereby amended and restated
in
its entirety to read as follows:
"The
total number of shares of all classes of stock which the Corporation shall
have
authority to issue is Five Hundred Million, Three Hundred Thousand
(500,300,000), of which Five Hundred Million (500,000,000) shares are of a
class
designated "Common Stock" (referred to in this certificate as "Common"), and
Three Hundred Thousand (300,000) shares are of a class designated "Preferred
Stock" (referred to in this certificate as "Preferred") all with a par value
of
$0.001."
SECOND:
That the Amendment has been duly adopted by the Corporation’s stockholders in
accordance with Section 242 of the General Corporation Law of the State of
Delaware.
IN
WITNESS WHEREOF, ISCO International, Inc. has caused this Certificate of
Amendment to be signed by an authorized officer this ___ day of _____________,
200_.
ISCO
INTERNATIONAL, INC.
By:___________________________
Name:
Ralph Pini
Title:
Chief Executive Officer
ISCO
INTERNATIONAL, INC.
2003
EQUITY INCENTIVE PLAN
SECTION
1. Purpose;
Definitions. The purposes of the ISCO International, Inc. 2003 Equity
Incentive Plan (the “Plan”) are to: (a) enable ISCO International,
Inc. (the “Company”) and its affiliated companies to recruit and retain highly
qualified employees, directors and consultants; (b) provide those employees,
directors and consultants with an incentive for productivity; and (c) provide
those employees, directors and consultants with an opportunity to share in
the
growth and value of the Company.
For
purposes of the Plan, the following initially capitalized words and phrases
will
be defined as set forth below, unless the context clearly requires a different
meaning:
(a)
“Affiliate” means, with respect to a Person, a Person that directly or
indirectly controls, or is controlled by, or is under common control with such
Person.
(b) “Award”
means a grant of Options, SARs or Restricted Shares pursuant to the provisions
of the Plan.
(c) “Award
Agreement” means, with respect to any particular Award, the written document
that sets forth the terms of that particular Award.
(d) “Board”
means the Board of Directors of the Company, as constituted from time to time;
provided, however, that if the Board appoints a Committee to perform some or
all
of the Board’s administrative functions hereunder pursuant to Section 2,
references in the Plan to the “Board” will be deemed to also refer to that
Committee in connection with administrative matters to be performed by that
Committee.
(e) “Cause”
means (i) alcohol abuse or use of controlled drugs (other than in
accordance with a physician’s prescription); (ii) refusal, failure or inability
to perform any material obligation or fulfill any duty (other than any duty
or
obligation of the type described in clause (iv) below) to the Company (other
than due to a Disability), which failure, refusal or inability is not cured
within 10 days after delivery of notice thereof; (iii) gross negligence or
willful misconduct in the course of employment; (iv) any breach of any
obligation to or duty to the Company or any of its Affiliates (whether arising
by statute, common law, contract or otherwise) relating to confidentiality,
noncompetition, nonsolicitation or proprietary rights; (v) other conduct
involving any type of disloyalty to the Company or any of its Affiliates,
including, without limitation, fraud, embezzlement, theft or proven dishonesty;
or (vi) conviction of (or the entry of a plea of guilty or nolo contendere
to) a
misdemeanor involving moral turpitude or a felony. Notwithstanding
the foregoing, if a Participant and the Company (or any of its Affiliates have
entered into an employment agreement, consulting agreement or other similar
agreement that specifically defines “cause,” then with respect to such
Participant, “Cause” shall have the meaning defined in that employment
agreement, consulting agreement or other agreement.
(f) “Change
in Control” means, with respect to any entity: (i) the sale, transfer,
assignment or other disposition (including by merger or consolidation, but
excluding any sales by stockholders made as part of an underwritten public
offering of the common stock of the entity) by stockholders of the entity,
in
one transaction or a series of related transactions, of more than 50% of the
voting power represented by the then outstanding capital stock of the entity
to
one or more Persons, (ii) the sale of substantially all the assets of the entity
(other than a transfer of financial assets made in the ordinary course of
business for the purpose of securitization), or (iii) the liquidation or
dissolution of the entity.
(g) “Code”
means the Internal Revenue Code of 1986, as amended from time to time, and
any
successor thereto.
(h) “Committee”
means a committee appointed by the Board in accordance with Section 2 of the
Plan.
(i) “Director”
means a member of the Board.
(j) “Disability”
means a condition rendering a Grantee Disabled.
(k) “Disabled”
will have the same meaning as set forth in Section 22(e)(3) of the
Code.
(l) “Exchange
Act” means the Securities Exchange Act of 1934, as amended.
(m) “Fair
Market Value” means, as of any date: (i) the closing price of the
Shares as reported on the American Stock Exchange or the principal nationally
recognized stock exchange on which the Shares are traded on such date, or if
no
Share prices are reported on such date, the closing price of the Shares on
the
last preceding date on which there were reported Share prices; or (ii) if the
Shares are not listed or admitted to unlisted trading privileges on a nationally
recognized stock exchange, the closing price of the Shares as reported by The
Nasdaq Stock Market on such date, or if no Share prices are reported on such
date, the closing price of the Shares on the last preceding date on which there
were reported Share prices; or (iii) if the Shares are not listed or admitted
to
unlisted trading privileges on a nationally recognized stock exchange or traded
on The Nasdaq Stock Market, the Fair Market Value will be determined by the
Board acting in its discretion, which determination will be
conclusive.
(n) “Incentive
Stock Option” means any Option intended to be and designated as an “Incentive
Stock Option” within the meaning of Section 422 of the Code.
(o) “Non-Employee
Director” will have the meaning set forth in Rule 16b-3(b)(3)(i) promulgated by
the Securities and Exchange Commission under the Exchange Act, or any successor
definition adopted by the Securities and Exchange Commission; provided, however,
that the Board or the Committee may, to the extent that it deems necessary
to
comply with Section 162(m) of the Code or regulations thereunder, require that
each “Non-Employee Director” also be an “outside director” as that term is
defined in regulations under Section 162(m) of the Code.
(p) “Non-Qualified
Stock Option” means any Option that is not an Incentive Stock
Option.
(q) “Option”
means any option to purchase Shares (including Restricted Shares, if the
Committee so determines) granted pursuant to Section 5 hereof.
(r) “Participant”
means an employee, consultant or Director of the Company or any of its
Affiliates to whom an Award is granted.
(s) “Person”
means an individual, partnership, corporation, limited liability company, trust,
joint venture, unincorporated association, or other entity or
association.
(t) “Restricted
Shares” means Shares that are subject to restrictions pursuant to Section 8
hereof.
(u) “SAR”
means a share appreciation right granted under the Plan and described in Section
6 hereof.
(v) “Share”
means a share of the Company’s common stock, par value $.001, subject to
substitution or adjustment as provided in Section 3(c) hereof.
(w)
“Subsidiary” means, in respect of the Company, a subsidiary company, whether now
or hereafter existing, as defined in Sections 424(f) and (g) of the
Code.
SECTION
2. Administration. The
Plan will be administered by the Board; provided, however, that the Board may
at
any time appoint a Committee to perform some or all of the Board’s
administrative functions hereunder; and provided further, that the authority
of
any Committee appointed pursuant to this Section 2 will be subject to
such terms and conditions as the Board may prescribe and will be coextensive
with, and not in lieu of, the authority of the Board hereunder.
Any
Committee established under this Section 2 will be composed of not fewer than
two members, each of whom will serve for such period of time as the Board
determines; provided, however, that if the Company has a class of securities
required to be registered under Section 12 of the Exchange Act, all members
of
any Committee established pursuant to this Section 2 will be Non-Employee
Directors. From time to time the Board may increase the size of the
Committee and appoint additional members thereto, remove members (with or
without cause) and appoint new members in substitution therefor, fill vacancies
however caused, or remove all members of the Committee and thereafter directly
administer the Plan.
The
Board
will have full authority to grant Awards under this Plan. In
particular, subject to the terms of the Plan, the Board will have the
authority:
(a) to
select the persons to whom Awards may from time to time be granted hereunder
(consistent with the eligibility conditions set forth in Section
4);
(b) to
determine the type of Award to be granted to any person hereunder;
(c) to
determine the number of Shares, if any, to be covered by each such
Award;
(d) to
establish the terms and conditions of each Award Agreement;
(e) to
determine whether and under what circumstances an Option may be exercised
without a payment of cash under Section 5(d); and
(f) to
determine whether, to what extent and under what circumstances Shares and other
amounts payable with respect to an Award may be deferred either automatically
or
at the election of the Participant.
The
Board
will have the authority to adopt, alter and repeal such administrative rules,
guidelines and practices governing the Plan as it, from time to time, deems
advisable; to establish the terms of each Award Agreement; to interpret the
terms and provisions of the Plan and any Award issued under the Plan (and any
Award Agreement); and to otherwise supervise the administration of the
Plan. The Board may correct any defect, supply any omission or
reconcile any inconsistency in the Plan or in any Award in the manner and to
the
extent it deems necessary to carry out the intent of the Plan.
All
decisions made by the Board pursuant to the provisions of the Plan will be
final
and binding on all persons, including the Company and
Participants. No Director will be liable for any good faith
determination, act or omission in connection with the Plan or any
Award.
SECTION
3. Shares
Subject to the Plan.
(a) Shares
Subject to the Plan. The Shares to be subject to or related to Awards
under the Plan will be authorized and unissued Shares of the Company, whether
or
not previously issued and subsequently acquired by the Company. The maximum
number of Shares that may be subject to Options or Restricted Shares under
the
Plan is 38,398,763, plus an additional number of Shares not to exceed 5,000,000,
which additional number will be equal to the number of Shares subject to options
granted under the ISCO International, Inc. Amended and Restated 1993 Stock
Option Plan that expire, are forfeited, or are cancelled after the date of
the
Company’s 2005 Annual Meeting. The Company shall reserve for purposes of the
Plan out of its authorized and unissued Shares that total number of
Shares. No Participant may receive an award of Options or SARs under
the Plan with respect to more than 2,000,000 Shares in any calendar
year.
(b) Effect
of the Expiration or Termination of Awards. If and to the extent that
an Option expires, terminates or is canceled or forfeited for any reason without
having been exercised in full, the Shares associated with that Option will
again
become available for grant under the Plan. Similarly, if and to the
extent any Restricted Share is canceled, forfeited or repurchased for any
reason, or if any Share is withheld pursuant to Section 11(d) in settlement
of a
tax withholding obligation associated with an Award, that Share will again
become available for grant under the Plan. Finally, if any Share is
received in satisfaction of the exercise price payable upon exercise of an
Option, that Share will become available for grant under the Plan.
(c) Other
Adjustment. In the event of any recapitalization, stock split or
combination, stock dividend or other similar event or transaction affecting
the
Shares, equitable substitutions or adjustments may be made by the Board, in
its
sole and absolute discretion, to the aggregate number, type and issuer of the
securities reserved for issuance under the Plan, to the number, type and issuer
of Shares subject to outstanding Options or SARs, to the exercise price of
outstanding Options or SARs, and to the number, type and issuer of Restricted
Shares.
(d) Change
in Control. Notwithstanding anything to the contrary set forth in the
Plan, upon or in anticipation of any Change in Control of the Company or any
of
its Affiliates, the Board may, in its sole and absolute discretion and without
the need for the consent of any Participant, take one or more of the following
actions contingent upon the occurrence of that Change in Control: (i) cause
any
or all outstanding Options and SARs held by Participants affected by the Change
in Control to become vested and immediately exercisable, in whole or in part;
(ii) cause any or all outstanding Restricted Shares held by Participants
affected by the Change in Control to become non-forfeitable, in whole or in
part; (iii) cancel any Option held by a Participant affected by the Change
in
Control in exchange for an option to purchase common stock of any successor
corporation, which new option satisfies the requirements of Treas. Reg. §
1.425-1(a)(4)(i) (notwithstanding the fact that the original Option may never
have been intended to satisfy the requirements for treatment as an Incentive
Stock Option), (iv) cancel any Restricted Shares held by a Participant affected
by the Change in Control in exchange for restricted shares of the common stock
of any successor corporation, (v) redeem any Restricted Shares held by a
Participant affected by the Change in Control for cash and/or other substitute
consideration with a value equal to the Fair Market Value of an unrestricted
Share on the date of the Change in Control; or (vi) cancel any Option or SAR
held by a Participant affected by the Change in Control in exchange for cash
and/or other substitute consideration with a value equal to (A) the number
of
Shares subject to that Option or SAR, multiplied by (B) the difference, if
any,
between the Fair Market Value per Share on the date of the Change in Control
and
the exercise price of that Option or SAR; provided, that if the Fair Market
Value per Share on the date of the Change in Control does not exceed the
exercise price of any such Option, the Board may cancel that Option without
any
payment of consideration therefor.
SECTION
4. Eligibility. Employees,
Directors, consultants, and other individuals who provide services to the
Company or its Affiliates are eligible to be granted Awards under the
Plan. Persons who are not employees of the Company or a Subsidiary
are not eligible to be granted Incentive Stock Options but are eligible to
be
granted other types of Awards.
SECTION
5. Options. Options
granted under the Plan may be of two types: (i) Incentive Stock Options or
(ii)
Non-Qualified Stock Options. Any Option granted under the Plan will
be in such form as the Board may at the time of such grant approve.
The
Award
Agreement evidencing any Option will incorporate the following terms and
conditions and will contain such additional terms and conditions, not
inconsistent with the terms of the Plan, as the Board deems appropriate in
its
sole and absolute discretion:
(a) Option
Price. The exercise price per Share purchasable under a Non-Qualified
Stock Option will be determined by the Board. The exercise price per
Share purchasable under an Incentive Stock Option will be not less than 100%
of
the Fair Market Value of the Share on the date of the grant. However,
any Incentive Stock Option granted to any Participant who, at the time the
Option is granted, owns more than 10% of the voting power of all classes of
shares of the Company or of a Subsidiary will have an exercise price per Share
of not less than 110% of Fair Market Value per Share on the date of the
grant.
(b) Option
Term. The term of each Option will be fixed by the Board, but no
Incentive Stock Option will be exercisable more than 10 years after the date
the
Option is granted. However, any Incentive Stock Option granted to any
Participant who, at the time such Option is granted, owns more than 10% of
the
voting power of all classes of shares of the Company or of a Subsidiary may
not
have a term of more than five years. No Option may be exercised by
any person after expiration of the term of the Option.
(c) Exercisability. Options
will vest and be exercisable at such time or times and subject to such terms
and
conditions as determined by the Board at the time of grant. If the Board
provides, in its discretion, that any Option is exercisable only in
installments, the Board may waive such installment exercise provisions at any
time at or after grant, in whole or in part, based on such factors as the Board
determines, in its sole and absolute discretion.
(d) Method
of Exercise. Subject to the exercisability provisions of Section
5(c), the termination provisions set forth in Section 7 and the applicable
Award
Agreement, Options may be exercised in whole or in part at any time and from
time to time during the term of the Option, by the delivery of written notice
of
exercise by the Participant to the Company specifying the number of Shares
to be
purchased. Such notice will be accompanied by payment in full of the
purchase price, either by certified or bank check, or such other means as the
Board may accept. As determined by the Board, in its sole discretion,
at or after grant, payment in full or in part of the exercise price of an Option
may be made in the form of previously acquired Shares based on the Fair Market
Value of the Shares on the date the Option is exercised; provided, however,
that, in the case of an Incentive Stock Option, the right to make a payment
in
the form of previously acquired Shares may be authorized only at the time the
Option is granted.
No
Shares
will be issued upon exercise of an Option until full payment therefor has been
made. A Participant will not have the right to distributions or
dividends or any other rights of a stockholder with respect to Shares subject
to
the Option until the Participant has given written notice of exercise, has
paid
in full for such Shares, and, if requested, has given the representation
described in Section 11(a) hereof.
(e) Incentive
Stock Option Limitations. In the case of an Incentive Stock Option,
the aggregate Fair Market Value (determined as of the time of grant) of the
Shares with respect to which Incentive Stock Options are exercisable for the
first time by the Participant during any calendar year under the Plan and/or
any
other plan of the Company or any Subsidiary will not exceed
$100,000. For purposes of applying the foregoing limitation,
Incentive Stock Options will be taken into account in the order
granted. To the extent any Option does not meet such limitation, that
Option will be treated for all purposes as a Non-Qualified Stock
Option.
(f) Termination
of Employment. Unless otherwise specified in the applicable Award
Agreement, Options will be subject to the terms of Section 7 with respect to
exercise upon or following termination of employment.
(g) Transferability
of Options. Except as may otherwise be specifically determined by the
Board with respect to a particular Option, no Option will be transferable by
the
Participant other than by will or by the laws of descent and distribution,
and
all Options will be exercisable, during the Participant’s lifetime, only by the
Participant or, in the event of his Disability, by his personal
representative.
SECTION
6. Stock
Appreciation Rights.
(a) Grant. The
grant of an SAR provides the holder the right to receive the appreciation in
value of Shares between the date of grant and the date of
exercise. SARs may be granted alone (“Stand-Alone SARs”) or in
conjunction with all or part of any Option (“Tandem SARs”). In the case of a
Non-Qualified Stock Option, a Tandem SAR may be granted either at or after
the
time of the grant of such Option. In the case of an Incentive Stock
Option, a Tandem SAR may be granted only at the time of the grant of such
Option.
(b) Exercise.
(i) Tandem
SARs. A Tandem SAR or applicable portion thereof will terminate and
will no longer be exercisable upon the termination or exercise of the related
Option or portion thereof, except that, unless otherwise determined by the
Board, in its sole discretion at the time of grant, a Tandem SAR granted with
respect to less than the full number of Shares covered by a related Option
will
be reduced only after such related Option is exercised or otherwise terminated
with respect to the number of Shares not covered by the Tandem SAR.
A
Tandem
SAR may be exercised by a Participant by surrendering the applicable portion
of
the related Option, only at such time or times and to the extent that the Option
to which such Tandem SAR relates will be exercisable in accordance with the
provisions of Section 5 and this Section 6. Options which have been
so surrendered, in whole or in part, will no longer be exercisable to the extent
the related Tandem SARs have been exercised.
Upon
the
exercise of a Tandem SAR, a Participant will be entitled to receive, upon
surrender to the Company of all (or a portion) of an Option in exchange for
cash
and/or Shares, an amount equal to the excess of (A) the Fair Market Value,
as of
the date such Option (or such portion thereof) is surrendered, of the Shares
covered by such Option (or such portion thereof) over (B) the aggregate exercise
price of such Option (or such portion thereof).
Upon
the
exercise of a Tandem SAR, the Option or part thereof to which such Tandem SAR
is
related, will be deemed to have been exercised for the purpose of the limitation
set forth in Section 3 of the Plan on the number of Shares to be issued under
the Plan, but only to the extent of the number of Shares issued under the Tandem
SAR at the time of exercise based on the value of the Tandem SAR at such
time.
A
Tandem
SAR may be exercised only if and when the Fair Market Value of the Shares
subject to the Option exceeds the exercise price of such Option.
(ii) Stand-Alone
SARs. A Stand-Alone SAR may be exercised by a Participant giving
notice of intent to exercise to the Company, provided that all or a portion
of
such Stand-Alone SAR will have become vested and exercisable as of the date
of
exercise.
Upon
the
exercise of a Stand-Alone SAR, a Participant will be entitled to receive, in
either cash and/or Shares, an amount equal to the excess, if any, of (A) the
Fair Market Value, as of the date such SAR (or portion of such SAR) is
exercised, of the Shares covered by such SAR (or portion of such SAR) over
(B)
the Fair Market Value of the Shares covered by such SAR (or a portion of such
SAR) as of the date such SAR (or a portion of such SAR) was
granted.
(c) Terms
and Conditions. The Award Agreement evidencing any SAR will
incorporate the following terms and conditions and will contain such additional
terms and conditions, not inconsistent with the terms of the Plan, as the Board
deems appropriate in its sole and absolute discretion:
(i) Term
of SAR. Unless otherwise specified in the Award Agreement, the term
of a Tandem SAR will be identical to the term of the associated Option, and
the
term of a Stand-Alone SAR will be ten years.
(ii) Exercisability. SARs
will vest and become exercisable at such time or times and subject to such
terms
and conditions as will be determined by the Board at the time of grant; provided
that, unless otherwise specified in the Award Agreement, a Tandem SAR will
vest
and become exercisable in the same manner and at the same time as the associated
Option.
(iii) Termination
of Employment. Unless otherwise specified in the Award Agreement,
SARs will be subject to the terms of Section 7 with respect to exercise upon
termination of employment.
SECTION
7. Termination
of Service. Unless otherwise specified with respect to a particular
Award, Options or SARs granted hereunder will remain exercisable after
termination of employment only to the extent specified in this Section
7.
(a) Termination
by Reason of Death. If a Participant’s service with the Company or
any Affiliate terminates by reason of death, any Option or SAR held by such
Participant may thereafter be exercised, to the extent then exercisable or
on
such accelerated basis as the Board may determine, at or after grant, by the
legal representative of the estate or by the legatee of the Participant under
the will of the Participant, for a period expiring (i) at such time as may
be
specified by the Board at or after the time of grant, or (ii) if not specified
by the Board, then 12 months from the date of death, or (iii) if sooner than
the
applicable period specified under (i) or (ii) above, then upon the expiration
of
the stated term of such Option.
(b) Termination
by Reason of Disability. If a Participant’s service with the Company
or any Affiliate terminates by reason of Disability, any Option or SAR held
by
such Participant may thereafter be exercised by the Participant or his personal
representative, to the extent it was exercisable at the time of termination,
or
on such accelerated basis as the Board may determine at or after grant, for
a
period expiring (i) at such time as may be specified by the Board at or after
the time of grant, or (ii) if not specified by the Board, then 12 months from
the date of termination of service, or (iii) if sooner than the applicable
period specified under (i) or (ii) above, then upon the expiration of the stated
term of such Option or SAR.
(c) Cause. If
a Participant’s service with the Company or any Affiliate is terminated for
Cause: (i) any Option or SAR not already exercised will be
immediately and automatically forfeited as of the date of such termination,
and
(ii) any Shares for which the Company has not yet delivered share certificates
will be immediately and automatically forfeited and the Company will refund
to
the Participant the Option exercise price paid for such Shares, if
any.
(d) Other
Termination. If a Participant’s service with the Company or any
Affiliate terminates for any reason other than death, Disability or Cause,
any
Option or SAR held by such Participant may thereafter be exercised by the
Participant, to the extent it was exercisable at the time of such termination,
or on such accelerated basis as the Board may determine at or after grant,
for a
period expiring (i) at such time as may be specified by the Board at or after
the time of grant, or (ii) if not specified by the Board, then 60 days from
the
date of termination of service, or (iii) if sooner than the applicable period
specified under (i) or (ii) above, then upon the expiration of the stated term
of such Option or SAR.
SECTION
8. Restricted
Shares.
(a) Issuance. Restricted
Shares may be issued either alone or in conjunction with other
Awards. The Board will determine the time or times within which
Restricted Shares may be subject to forfeiture, and all other conditions of
such
Awards.
(b) Awards
and Certificates. The Award Agreement evidencing the grant of any
Restricted Shares will contain such terms and conditions, not inconsistent
with
the terms of the Plan, as the Board deems appropriate in its sole and absolute
discretion. The prospective recipient of an Award of Restricted
Shares will not have any rights with respect to such Award, unless and until
such recipient has executed an Award Agreement and has delivered a fully
executed copy thereof to the Company, and has otherwise complied with the
applicable terms and conditions of such Award. The purchase price for
Restricted Shares may, but need not, be zero.
A
share
certificate will be issued in connection with each Award of Restricted
Shares. Such certificate will be registered in the name of the
Participant receiving the Award, and will bear the following legend and/or
any
other legend required by this Plan, the Award Agreement, the Company’s
stockholders’ agreement, if any, or by applicable law:
THE
TRANSFERABILITY OF THIS CERTIFICATE AND THE SHARES REPRESENTED HEREBY ARE
SUBJECT TO THE TERMS AND CONDITIONS OF THE ISCO INTERNATIONAL, INC. 2003 EQUITY
INCENTIVE PLAN AND AN AGREEMENT ENTERED INTO BETWEEN [THE PARTICIPANT] AND
ISCO
INTERNATIONAL, INC. (WHICH TERMS AND CONDITIONS MAY INCLUDE, WITHOUT LIMITATION,
CERTAIN TRANSFER RESTRICTIONS, REPURCHASE RIGHTS AND FORFEITURE
CONDITIONS). COPIES OF THAT PLAN AND AGREEMENT ARE ON FILE IN THE
PRINCIPAL OFFICES OF ISCO INTERNATIONAL, INC. AND WILL BE MADE AVAILABLE TO
THE
HOLDER OF THIS CERTIFICATE WITHOUT CHARGE UPON REQUEST TO THE SECRETARY OF
THE
COMPANY.
Share
certificates evidencing Restricted Shares will be held in custody by the Company
or in escrow by an escrow agent until the restrictions thereon have
lapsed. As a condition to any Restricted Shares award, the
Participant may be required to deliver to the Company a share power, endorsed
in
blank, relating to the Shares covered by such Award.
(c) Restrictions
and Conditions. The Restricted Shares awarded pursuant to this
Section 8 will be subject to the following restrictions and
conditions:
(i) During
a period commencing with the date of an Award of Restricted Shares and ending
at
such time or times as specified by the Board (the “Restriction Period”), the
Participant will not be permitted to sell, transfer, pledge, assign or otherwise
encumber Restricted Shares awarded under the Plan. The Board may
condition the lapse of restrictions on Restricted Shares upon the continued
employment or service of the recipient, the attainment of specified individual
or corporate performance goals, or such other factors as the Board may
determine, in its sole and absolute discretion.
(ii) Except
as provided in this Paragraph (ii) or Section 8(c)(i), once the Participant
has
been issued a certificate or certificates for Restricted Shares, the Participant
will have, with respect to the Restricted Shares, all of the rights of a
stockholder of the Company, including the right to vote the Shares, and the
right to receive any cash distributions or dividends. The Board, in
its sole discretion, as determined at the time of award, may permit or require
the payment of cash distributions or dividends to be deferred and, if the Board
so determines, reinvested in additional Restricted Shares to the extent Shares
are available under Section 3 of the Plan. Any distributions or
dividends paid in the form of securities with respect to Restricted Shares
will
be subject to the same terms and conditions as the Restricted Shares with
respect to which they were paid, including, without limitation, the same
Restriction Period.
(iii) Subject
to the applicable provisions of the Award Agreement, if a Participant’s service
with the Company terminates prior to the expiration of the Restriction Period,
all of that Participant’s Restricted Shares which then remain subject to
forfeiture will then be forfeited automatically.
(iv) If
and when the Restriction Period expires without a prior forfeiture of the
Restricted Shares subject to such Restriction Period (or if and when the
restrictions applicable to Restricted Shares lapse pursuant to Sections 3(d)),
the certificates for such Shares will be replaced with new certificates, without
the restrictive legends described in Section 8(b) applicable to such lapsed
restrictions, and such new certificates will be promptly delivered to the
Participant, the Participant’s representative (if the Participant has suffered a
Disability), or the Participant’s estate or heir (if the Participant has
died).
SECTION
9. Amendments
and Termination. The Board may amend, alter or discontinue the Plan
at any time, but, except as otherwise provided in Section 3(d) of the Plan,
no
amendment, alteration or discontinuation will be made which would impair the
rights of a Participant with respect to an Award, without that Participant’s
consent, or which, without the approval of such amendment within one year (365
days) of its adoption by the Board, by a majority of the votes cast at a duly
held stockholder meeting at which a quorum representing a majority of the
Company’s outstanding voting shares is present (either in person or by proxy),
would: (i) increase the total number of Shares reserved for the purposes of
the
Plan (except as otherwise provided in Section 3(c)), or (ii) change the persons
or class of persons eligible to receive Awards.
SECTION
10. Unfunded
Status of Plan. The Plan is intended to be
“unfunded.” With respect to any payments not yet made to a
Participant by the Company, nothing contained herein will give any such
Participant any rights that are greater than those of a general creditor of
the
Company. In its sole discretion, the Board may authorize the creation
of grantor trusts or other arrangements to meet the obligations created under
the Plan to deliver Shares or payments in lieu of Shares or with respect to
Awards.
SECTION
11. General
Provisions.
(a) The
Board may require each Participant to represent to and agree with the Company
in
writing that the Participant is acquiring securities of the Company for
investment purposes and without a view to distribution thereof and as to such
other matters as the Board believes are appropriate. The certificate
evidencing any Award and any securities issued pursuant thereto may include
any
legend which the Board deems appropriate to reflect any restrictions on transfer
and compliance with securities laws.
All
certificates for Shares or other securities delivered under the Plan will be
subject to such share-transfer orders and other restrictions as the Board may
deem advisable under the rules, regulations, and other requirements of the
Securities Act of 1933, as amended, the Exchange Act, any stock exchange upon
which the Shares are then listed, and any other applicable federal or state
securities laws, and the Board may cause a legend or legends to be put on any
such certificates to make appropriate reference to such
restrictions.
(b) Nothing
contained in the Plan will prevent the Board from adopting other or additional
compensation arrangements, subject to stockholder approval if such approval
is
required; and such arrangements may be either generally applicable or applicable
only in specific cases.
(c) Neither
the adoption of the Plan nor the execution of any document in connection with
the Plan will (i) confer upon any person any right to continued employment
or
engagement with the Company or such Affiliate, or (ii) interfere in any way
with
the right of the Company or such Affiliate to terminate the employment of any
of
its employees at any time.
(d) No
later than the date as of which an amount first becomes includible in the gross
income of the Participant for federal income tax purposes with respect to any
Award under the Plan, the Participant will pay to the Company, or make
arrangements satisfactory to the Board regarding the payment of any federal,
state or local taxes of any kind required by law to be withheld with respect
to
such amount. Unless otherwise determined by the Board, the minimum
required withholding obligations may be settled with Shares, including Shares
that are part of the Award that gives rise to the withholding
requirement. The obligations of the Company under the Plan will be
conditioned on such payment or arrangements and the Company will, to the extent
permitted by law, have the right to deduct any such taxes from any payment
of
any kind otherwise due to the Participant.
SECTION
12. Effective
Date of Plan. The Plan will become effective on the date that it is
adopted by the Board; provided, however, that all Options intended to be
Incentive Stock Options will automatically be converted into Non-Qualified
Stock
Options if the Plan is not approved by the Company’s stockholders within one
year (365 days) of its adoption by the Board in a manner consistent with Treas.
Reg. § 1.422-5.
SECTION
13. Term
of Plan. The Plan will continue in effect until terminated in
accordance with Section 9; provided, however, that no Incentive Stock Option
will be granted hereunder on or after the 10th anniversary of the date of
stockholder approval of the Plan (or, if the stockholders approve an amendment
that increases the number of shares subject to the Plan, the 10th anniversary
of
the date of such approval); but provided further, that Incentive Stock Options
granted prior to such 10th anniversary may extend beyond that date.
SECTION
14. Invalid
Provisions. In the event that any provision of this Plan is found to
be invalid or otherwise unenforceable under any applicable law, such invalidity
or unenforceability will not be construed as rendering any other provisions
contained herein as invalid or unenforceable, and all such other provisions
will
be given full force and effect to the same extent as though the invalid or
unenforceable provision was not contained herein.
SECTION
15. Governing
Law. The Plan and all Awards granted hereunder will be governed by and construed
in accordance with the laws and judicial decisions of the State of Delaware,
without regard to the application of the principles of conflicts of
laws.
SECTION
16. Board
Action. Notwithstanding anything to the contrary set forth in the
Plan, any and all actions of the Board or Committee, as the case may be, taken
under or in connection with the Plan and any agreements, instruments, documents,
certificates or other writings entered into, executed, granted, issued and/or
delivered pursuant to the terms hereof, will be subject to and limited by any
and all votes, consents, approvals, waivers or other actions of all or certain
stockholders of the Company or other persons required by:
(a) the
Company’s Certificate of Incorporation (as the same may be amended and/or
restated from time to time);
(b) the
Company’s Bylaws (as the same may be amended and/or restated from time to time);
and
(c) any
other agreement, instrument, document or writing now or hereafter existing,
between or among the Company and its stockholders or other persons (as the
same
may be amended from time to time).
SECTION
17. Notices. Any
notice to be given to the Company pursuant to the provisions of the Plan will
be
addressed to the Company in care of its Secretary (or such other person as
the
Company may designate from time to time) at its principal executive office,
and
any notice to be given to a Participant will be delivered personally or
addressed to him or her at the address given beneath his or her signature on
his
or her Award Agreement, or at such other address as such Participant may
hereafter designate in writing to the Company. Any such notice will
be deemed duly given on the date and at the time delivered via personal, courier
or recognized overnight delivery service or, if sent via telecopier, on the
date
and at the time telecopied with confirmation of delivery or, if mailed, on
the
date five (5) days after the date of the mailing (which will be by regular,
registered or certified mail). Delivery of a notice by telecopy (with
confirmation) will be permitted and will be considered delivery of a notice
notwithstanding that it is not an original that is received.
ADOPTION
AND APPROVAL OF PLAN
Date
Plan
adopted by Board: ______________
Date
Plan
approved by Stockholders: _____________
Effective
Date of Plan: ________________
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
Form
10-Q
(Mark
One)
|
x
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF
1934.
|
For
the quarterly period ended September 30, 2007
OR
|
¨
|
TRANSITION
REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934.
|
For
the transition period
from to
Commission
file number 001-22302
ISCO
INTERNATIONAL, INC.
(Name
of
Registrant as Specified in Its Charter)
|
Delaware
|
|
36-3688459
|
|
(State
or Other Jurisdiction of Incorporation or
Organization)
|
|
(I.R.S.
Employer Identification No.)
|
|
1001
Cambridge Drive, Elk Grove Village, Illinois
|
|
60007
|
|
(Address
of Principal Executive Offices)
|
|
(Zip
Code)
|
Registrant’s
Telephone Number, Including Are Code (847) 391-9400
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes x No
¨
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
one):
|
|
|
|
|
|
|
Large
accelerated filer ¨
|
|
Accelerated
filer ¨
|
|
Non-accelerated
filer x
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act. ¨ Yes
x No
Indicate
the number of shares outstanding of each of the issuer’s classes of common
stock, as of the latest practicable date.
|
|
|
|
|
Class
|
|
Outstanding
at October 30, 2007
|
|
Common
Stock, par value $0.001 per share
|
|
200,633,315
|
|
|
|
|
|
|
|
Table
of Contents
|
|
i
|
||
|
|
|
|||
|
PART
I. FINANCIAL INFORMATION
|
|
1
|
||
|
|
|
|
||
|
|
|
Item
1. Financial Statements.
|
|
1
|
|
|
|
|
||
|
|
|
Condensed
Consolidated Balance Sheets as of September 30, 2007
(unaudited) and December 31, 2006
|
|
1
|
|
|
|
|
||
|
|
|
Condensed
Consolidated Statements Of Operations (unaudited) for the three month
and
nine month periods ended September 30, 2007 and 2006
|
|
2
|
|
|
|
|
||
|
|
|
Condensed
Consolidated Statement of Stockholders’ Equity (unaudited) for the nine
months ended September 30, 2007
|
|
3
|
|
|
|
|
||
|
|
|
Condensed
Consolidated Statements Of Cash Flows (unaudited) for the nine months
ended September 30, 2007 and 2006
|
|
4
|
|
|
|
|
||
|
|
|
Notes
To Condensed Consolidated Financial Statements
|
|
5
|
|
|
|
|
||
|
|
|
Item
2. Management’s Discussion and Analysis of Financial Conditions and
Results of Operations.
|
|
12
|
|
|
|
|
||
|
|
|
Item
3. Quantitative and Qualitative Disclosures About Market
Risk.
|
|
16
|
|
|
|
|
||
|
|
|
Item
4. Controls and Procedures.
|
|
16
|
|
|
|
|||
|
PART
II. OTHER INFORMATION
|
|
17
|
||
|
|
|
|
||
|
|
|
Item
1A. Risk Factors.
|
|
17
|
|
|
|
|
||
|
|
|
Error!
Hyperlink reference not valid. 5. Other
Information
|
|
18
|
|
|
|
|
||
|
|
|
Item
6. Exhibits
|
|
19
|
|
|
|
|||
|
Signatures
|
|
20
|
||
E-
#9087409
v2
Table
of
Content
PART
I. FINANCIAL INFORMATION
Item 1.
Financial Statements
ISCO
INTERNATIONAL, INC.
CONDENSED
CONSOLIDATED BALANCE SHEETS
|
|
|
September
30,
|
|
|
December
31,
|
|
||
|
|
|
2007
|
|
|
2006
|
|
||
|
|
|
(unaudited)
|
|
|
|
|
||
|
Assets:
|
|
|
|
|
|
|
||
|
Current
Assets:
|
|
|
|
|
|
|
||
|
Cash
and equivalents
|
|
$
|
2,782,761
|
|
|
$
|
2,886,476
|
|
|
Inventory
|
|
|
3,820,067
|
|
|
|
6,368,599
|
|
|
Accounts
receivable, net
|
|
|
889,908
|
|
|
|
2,554,716
|
|
|
Prepaid
expenses and other
|
|
|
80,485
|
|
|
|
168,741
|
|
|
Total
current assets
|
|
|
7,573,221
|
|
|
|
11,978,532
|
|
|
Property
and equipment
|
|
|
1,407,530
|
|
|
|
1,334,203
|
|
|
Less:
accumulated depreciation
|
|
|
(909,363
|
)
|
|
|
(811,167
|
)
|
|
Net
property and equipment
|
|
|
498,167
|
|
|
|
523,036
|
|
|
Restricted
certificates of deposit
|
|
|
170,648
|
|
|
|
162,440
|
|
|
Goodwill
|
|
|
13,370,000
|
|
|
|
13,370,000
|
|
|
Intangible
assets, net
|
|
|
848,617
|
|
|
|
841,187
|
|
|
Total
Assets
|
|
$
|
22,460,653
|
|
|
$
|
26,875,195
|
|
|
Liabilities
and Stockholders' Equity:
|
|
|
|
|
|
|
|
|
|
Current
Liabilities:
|
|
|
|
|
|
|
|
|
|
Accounts
Payable
|
|
$
|
224,087
|
|
|
$
|
1,172,844
|
|
|
Inventory-related
material purchase accrual
|
|
|
84,607
|
|
|
|
328,663
|
|
|
Employee-related
accrued liability
|
|
|
184,730
|
|
|
|
284,653
|
|
|
Accrued
professional services
|
|
|
46,000
|
|
|
|
93,000
|
|
|
Other
accrued liabilities and current deferred revenue
|
|
|
217,342
|
|
|
|
225,724
|
|
|
Current
Portion of LT Debt, including related interest, with related
parties
|
|
|
-
|
|
|
|
11,295,957
|
|
|
Total
Current Liabilities
|
|
|
756,766
|
|
|
|
13,400,841
|
|
|
Deferred
facility reimbursement
|
|
|
91,250
|
|
|
|
102,500
|
|
|
Deferred
revenue - non current
|
|
|
128,040
|
|
|
|
75,900
|
|
|
Notes
Payable, with related parties
|
|
|
15,363,070
|
|
|
|
5,000,000
|
|
|
Accrued
interest payable, with related parties
|
|
|
324,150
|
|
|
|
131,762
|
|
|
Stockholders'
equity:
|
|
|
|
|
|
|
|
|
|
Preferred
stock; 300,000 shares authorized; No shares issued and
outstanding
|
|
|
|
|
|
|||
|
at September 30, 2007 and December 31, 2006
|
|
|
-
|
|
|
|
-
|
|
|
Common
stock ($.001 par value); 250,000,000 shares authorized;
200,508,315
|
|
|
|
|
|
|
|
|
|
and 189,622,133 shares issued and outstanding at September 30, 2007
and
|
|
|
|
|
|
|
|
|
|
December 31, 2006, respectively
|
|
|
200,508
|
|
|
|
189,622
|
|
|
Treasury
Stock
|
|
|
(64,260
|
)
|
|
|
-
|
|
|
Additional
paid-in capital (net of unearned compensation)
|
|
|
175,086,385
|
|
|
|
172,379,842
|
|
|
Accumulated
deficit
|
|
|
(169,425,256
|
)
|
|
|
(164,405,272
|
)
|
|
Total
Shareholders' Equity
|
|
|
5,797,377
|
|
|
|
8,164,192
|
|
|
Total
Liabilities and Shareholders' Equity
|
|
$
|
22,460,653
|
|
|
$
|
26,875,195
|
|
|
NOTE:
The condensed consolidated balance sheet as of December 31,2006 has
been
derived from the audited financial statements for that date, but
does not
include all of the information and accompanying notes required by
accounting principles generally accepted in the United States of
America
for complete financial statements.
|
|||
|
|
See
the accompanying Notes which are an integral part of the Condensed
Consolidated Financial Statements.
|
||
Table
of
Content
ISCO
INTERNATIONAL, INC.
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
|
|
|
Three
Months Ended
|
|
|
Nine
Months Ended
|
|
||||||||||
|
|
|
September
30,
|
|
|
September
30,
|
|
||||||||||
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
||||
|
Net
sales
|
|
$
|
1,924,401
|
|
|
$
|
6,433,439
|
|
|
$
|
6,300,357
|
|
|
$
|
11,205,308
|
|
|
Costs
and Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of sales
|
|
|
1,220,913
|
|
|
|
3,850,012
|
|
|
|
3,633,283
|
|
|
|
6,739,266
|
|
|
Research
and development
|
|
|
721,241
|
|
|
|
452,435
|
|
|
|
2,004,003
|
|
|
|
1,390,374
|
|
|
Selling
and marketing
|
|
|
554,494
|
|
|
|
989,329
|
|
|
|
1,808,800
|
|
|
|
2,472,426
|
|
|
General
and administrative
|
|
|
1,003,762
|
|
|
|
1,093,684
|
|
|
|
3,185,141
|
|
|
|
3,152,764
|
|
|
Total
Costs and Expenses
|
|
|
3,500,410
|
|
|
|
6,385,460
|
|
|
|
10,631,227
|
|
|
|
13,754,830
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
(Loss) Income
|
|
|
(1,576,009
|
)
|
|
|
47,979
|
|
|
|
(4,330,870
|
)
|
|
|
(2,549,522
|
)
|
|
Other
Income (Expense):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
|
34,182
|
|
|
|
45,872
|
|
|
|
70,387
|
|
|
|
97,885
|
|
|
Interest
(expense)
|
|
|
(248,712
|
)
|
|
|
(261,007
|
)
|
|
|
(759,501
|
)
|
|
|
(646,344
|
)
|
|
Other
income (expense), net
|
|
|
(214,530
|
)
|
|
|
(215,135
|
)
|
|
|
(689,114
|
)
|
|
|
(548,459
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Loss
|
|
$
|
(1,790,539
|
)
|
|
$
|
(167,156
|
)
|
|
$
|
(5,019,984
|
)
|
|
$
|
(3,097,981
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted loss per share
|
|
$
|
(0.01
|
)
|
|
$
|
(0.00
|
)
|
|
$
|
(0.03
|
)
|
|
$
|
(0.02
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
average number of common
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
shares
outstanding
|
|
|
200,154,000
|
|
|
|
186,105,594
|
|
|
|
193,433,000
|
|
|
|
184,705,066
|
|
See
the
accompanying Notes which are an integral part of the Condensed Consolidated
Financial Statements.
Table
of
Content
ISCO
INTERNATIONAL, INC.
CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
Nine
Months ended September 30, 2007
(UNAUDITED)
|
|
|
Common
|
|
Common
|
|
Treasury
|
|
Additional
|
|
Accumulated
|
|
|
|
|
|
|
Stock
|
|
Stock
|
|
Stock
|
|
Paid-In
|
|
Deficit
|
|
|
|
|
|
|
Shares
|
|
Amount
|
|
Amount
|
|
Capital
|
|
|
|
Total
|
|
|
Balance
as of December 31, 2006
|
|
189,622,133
|
$
|
189,622
|
$
|
|
$
|
172,379,842
|
$
|
(164,405,272)
|
$
|
8,164,192
|
|
|
Exercise
of stock options and
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
vesting of restricted shares
|
|
2,892,849
|
|
2,893
|
|
|
|
(2,893)
|
|
|
|
-
|
|
|
1.5M
accrued interest converted
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
to
equity
|
|
8,333,333
|
|
8,333
|
|
|
|
1,491,667
|
|
|
|
1,500,000
|
|
|
Treasury
stock
|
|
(340,000)
|
|
(340)
|
|
(64,260)
|
|
|
|
|
|
(64,600)
|
|
|
Equity
compensation expense
|
|
|
|
|
|
|
|
1,217,769
|
|
|
|
1,217,769
|
|
|
Net
loss
|
|
|
|
|
|
|
|
|
|
(5,019,984)
|
|
(5,019,984)
|
|
|
Balance
at September 30, 2007
|
|
200,508,315
|
$
|
200,508
|
$
|
(64,260)
|
$
|
175,086,385
|
$
|
(169,425,256)
|
$
|
5,797,377
|
|
See
the
accompanying Notes which are an integral part of the Condensed Consolidated
Financial Statements.
Table
of
Content
ISCO
INTERNATIONAL, INC.
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
|
|
|
Nine
Months Ended
|
|
|
Nine
Months Ended
|
|
||
|
|
|
September
30, 2007
|
|
|
September
30, 2006
|
|
||
|
OPERATING
ACTIVITIES
|
|
|
|
|
|
|
||
|
Net
loss
|
|
$
|
(5,019,984
|
)
|
|
$
|
(3,097,981
|
)
|
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
138,488
|
|
|
|
105,990
|
|
|
Non-cash
compensation charges
|
|
|
1,217,769
|
|
|
|
1,026,423
|
|
|
Changes
in operating assets and liabilities
|
|
|
3,750,119
|
|
|
|
(2,535,432
|
)
|
|
Net
cash provided by (used in) operating activities
|
|
|
86,392
|
|
|
|
(4,501,000
|
)
|
|
INVESTING
ACTIVITIES
|
|
|
|
|
|
|
|
|
|
(Increase)/Decrease
in restricted certificates of deposit
|
|
|
(8,208
|
)
|
|
|
80,414
|
|
|
Payment
of patent costs
|
|
|
(47,722
|
)
|
|
|
(32,547
|
)
|
|
Acquisition
of property and equipment, net
|
|
|
(69,577
|
)
|
|
|
(120,939
|
)
|
|
Net
cash used in investing activities
|
|
|
(125,507
|
)
|
|
|
(73,072
|
)
|
|
FINANCING
ACTIVITIES
|
|
|
|
|
|
|
|
|
|
Proceeds
from Section 16b recovery
|
|
|
-
|
|
|
|
3,124
|
|
|
Proceeds
from debt issuance
|
|
|
-
|
|
|
|
5,000,000
|
|
|
Exercise
of stock options/vesting of restricted stock grants
|
|
|
-
|
|
|
|
257,900
|
|
|
Treasury
stock purchased
|
|
|
(64,600
|
)
|
|
|
-
|
|
|
Net
cash provided by (used in) financing activities
|
|
|
(64,600
|
)
|
|
|
5,261,024
|
|
|
|
|
|
|
|
|
|
|
|
|
(Decrease)/Increase
in cash and cash equivalents
|
|
|
(103,715
|
)
|
|
|
686,952
|
|
|
Cash
and cash equivalents at beginning of period
|
|
|
2,886,476
|
|
|
|
3,486,430
|
|
|
Cash
and cash equivalents at end of period
|
|
$
|
2,782,761
|
|
|
$
|
4,173,382
|
|
Note:
During June 2007, $1.5 million of accrued interest was converted to equity
and
$1.7 million was reclassified from accrued interest into notes payable in a
non-cash transaction described in Note 6.
See
the
accompanying Notes which are an integral part of the Condensed Consolidated
Financial Statements.
Table
of
Content
ISCO
INTERNATIONAL, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Note
1 - Basis of Presentation
The
condensed consolidated financial statements include the accounts of ISCO
International, Inc. and its wholly owned subsidiaries, Spectral Solutions,
Inc.
and Illinois Superconductor Canada Corporation (collectively referred to as
the
“Company”, or “we”, “our” or “us”). All significant intercompany balances and
transactions have been eliminated in consolidation.
The
accompanying unaudited condensed consolidated financial statements have been
prepared by the Company in accordance with accounting principles generally
accepted in the United States of America (“US GAAP”) for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and notes required
by US GAAP for complete financial statements. In the opinion of management,
all adjustments (consisting of normal recurring accruals) considered necessary
for a fair presentation of results for the interim periods have been included.
These financial statements and notes included herein should be read in
conjunction with the Company’s audited financial statements and notes for the
year ended December 31, 2006 included in the Company’s Annual Report on
Form 10-K filed with the Securities and Exchange Commission. The results of
operations for the interim periods presented are not necessarily indicative
of
the results to be expected for any subsequent quarter of, or for, the entire
year ending December 31, 2007. For further information, refer to the
financial statements, including the notes thereto, included in the Company’s
Annual Report on Form 10-K for the fiscal year ended December 31,
2006.
Recent
Accounting Pronouncements
In
February 2007, the Financial Accounting Standards board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 159. “The Fair Value
Option for Financial Assets and Financial Liabilities” (“SFAS No. 159”) provides
the option to report certain financial assets and liabilities at fair value,
with the intent to mitigate volatility in financial reporting that can occur
when related assets and liabilities are recorded on different bases. This
statement is effective for us beginning January 1, 2008. The company does not
expect SFAS 159 to have a material impact on our consolidated financial
statements.
In
September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS
No. 157, "Fair Value Measurements" ("SFAS 157"). This statement defines fair
value as used in numerous accounting pronouncements, establishes a framework
for
measuring fair value in generally accepted accounting principles ("GAAP") and
expands disclosure related to the use of fair value measures in financial
statements. SFAS 157 does not expand the use of fair value measures in financial
statements, but standardizes its definition and guidance in GAAP. SFAS 157
is
effective for fiscal years beginning after November 15, 2007. We plan to adopt
the provisions of SFAS 157 as of January 1, 2008. We are evaluating the
potential impact of SFAS 157, but at this time do not anticipate that it will
have an impact on our financial statements when adopted.
In
July
2006, FASB released FASB Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes, an interpretation of FASB Statement No. 109” (FIN 48). FIN 48
clarifies the accounting and reporting for uncertainties in income tax
positions. FIN 48 prescribes a recognition threshold and measurement attribute
for the financial statement recognition and measurement of a tax position taken
or expected to be taken in a tax return. FIN 48 also provides guidance on
derecognition, classification, interest and penalties, accounting in interim
periods, disclosure and transition. FIN 48 is effective for fiscal years ending
after December 15, 2006. We adopted FIN 48 as of January 1, 2007, as required.
See Footnote 7 for a more detailed discussion of FIN 48.
E-
#9087409
v2
Table
of
Content
Note
2. Realization of Assets
The
accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America, which
contemplate continuation of the Company as a going concern. However, the Company
has sustained substantial losses from operations in recent years, and such
losses have continued through the year ended December 31, 2006 and more
recent nine months ended September 30, 2007. In addition, the Company has used,
rather than provided, cash in its operations. Consistent with these facts,
Grant
Thornton, LLP, the Company’s independent registered public accounting firm,
included the comment published in our Annual Report on Form 10-K as of and
for
the year ended December 31, 2006, that there is substantial doubt about the
Company’s ability to continue as a going concern.
In view of the matters described in the preceding paragraph,
recoverability of a major portion of the recorded asset amounts shown in the
accompanying balance sheet is dependent upon continued operations of the
Company, which in turn is dependent upon the Company’s ability to meet its
financing requirements on a continuing basis, to maintain present financing,
and
to succeed in its future operations. The financial statements do not include
any
adjustments relating to the recoverability and classification of recorded asset
amounts or amounts and classification of liabilities that might be necessary
should the Company be unable to continue in existence.
The
Company has incurred, and continues to incur, losses from operations. For the
years ended December 31, 2006, 2005, and 2004, the Company incurred net
losses of $4 million, $3 million, and $7 million, respectively. The first nine
months of 2007 showed an additional net loss of $5 million. The Company
implemented strategies during 2002 and subsequently maintained to
reduce its cash used in operating activities. The Company’s strategies include
increasing the efficiency of the Company’s processes, focusing development
efforts on products with a greater probability of commercial sales, reducing
professional fees and discretionary expenditures, and negotiating favorable
payment arrangements with suppliers and service providers. More importantly,
the
Company has configured itself along an outsourcing model, thus allowing for
relatively large, efficient production without the associated overhead.
Beginning in 2005, the Company began to invest in additional product development
(engineering) and sales and marketing resources as it began to increase its
volume of business. While viewed as a positive development, these expenditures
have added to the funding requirements listed above. In addition,
particularly during the fourth quarter 2007, the Company expects to incur
significant professional service fees in conjunction with its proposed
acquisition of Clarity Communication Systems Inc. (“Clarity”) as described in
more detail herein.
To
date,
the Company has financed its operations primarily through public and private
equity and debt financings. Additional capital will be required as part of
the
costs anticipated with the proposed acquisition of Clarity, and potentially
to
support working capital requirements. As a condition to closing the proposed
acquisition of Clarity, we will be required to obtain $1.5 million in financing
to fund the initial operations of the combined entity, which we expect to obtain
through one of our existing lenders and on terms substantially similar to our
current debt arrangements. Until recently, more than $11 million had been due
in
August 2007. However, on June 26, 2007, the Company and its lenders, Manchester
Securities Corporation ("Manchester") and Alexander Finance, L.P. ("Alexander"
and together with Manchester, the "Lenders"), including their affiliates,
entered into a restructuring of the Company’s line of credit arrangements as
more fully described in Notes 5 and 6.
Note
3 - Net Loss Per Share
Basic
and
diluted net loss per share is computed based on the weighted average number
of
common shares outstanding. Common shares issuable upon the exercise of options
are not included in the per share calculations since the effect of their
inclusion would be antidilutive.
E-
#9087409
v2
Table
of
Content
Note
4 - Inventories
Inventories consisted of the following:
|
|
|
September
30, 2007
|
|
|
December
31, 2006
|
|
||
|
Raw
materials
|
|
$
|
1,614,000
|
|
|
$
|
2,675,000
|
|
|
Work
in process
|
|
|
1,079,000
|
|
|
|
2,332,000
|
|
|
Finished
product
|
|
|
1,127,000
|
|
|
|
1,362,000
|
|
|
Total
|
|
$
|
3,820,000
|
|
|
$
|
6,369,000
|
|
Cost
of
product sales for the nine months ended September 30, 2007, and the twelve
months ended December 31, 2006 included approximately $0 and $165,000
respectively, of costs in excess of the net realizable value of inventory
(including obsolete materials).
Inventory
balances are reported net of a reserve for obsolescence. This reserve is
computed by taking into consideration the components of inventory, the recent
usage of those components, and anticipated usage of those components in the
future. This reserve was approximately $447,000 and $325,000 as of September
30,
2007 and December 31, 2006, respectively.
Note
5 - Stock Options and Warrants
Effective
January 1, 2006, we adopted SFAS No. 123(R), “Share Based Payments,” as
described in Note 7, in the Notes to the Consolidated Financial
Statements.
As
of
September 30, 2007, a total of 4,872,000 stock options were outstanding under
the Company’s equity compensation plans. Stock-based compensation expense
recognized during the third quarter of 2007 and 2006 included compensation
expense for stock options granted prior to, but not yet fully vested as of,
September 30, 2007 and 2006, respectively. Such amounts were none and
$17,000, respectively.
Restricted
Share Rights
Restricted
share grants offer employees the opportunity to earn shares of the Company’s
stock over time. These grants generally vest over two years to four years for
employees and one year for non-employee directors. The Company recognizes the
issuance of the shares related to these stock-based compensation awards and
the
related compensation expense on a straight-line basis over the vesting period.
Included within these grants are also performance-based shares, that is, shares
that vest based on accomplishing particular objectives as opposed to vesting
over time. No performance-based shares were vested during the first and third
quarter 2007 or during the first nine months of 2006, respectively. 40,000
performance-based shares vested during the second quarter 2007.
The
following table summarizes the restricted stock award activity during the first
nine months of 2007.
|
|
|
|
|
|
Weighted
|
|
||
|
|
|
|
|
|
Average
Grant Date
|
|
||
|
|
|
Shares
|
|
|
Fair
Value (per share)
|
|
||
|
|
|
|
|
|
|
|
||
|
Outstanding,
December 31, 2006
|
|
|
8,714,000
|
|
|
|
0.35
|
|
|
Granted
|
|
|
3,577,000
|
|
|
|
0.25
|
|
|
Forfeited
or canceled
|
|
|
(915,000
|
)
|
|
|
0.33
|
|
|
Vested
|
|
|
(2,893,000
|
)
|
|
|
0.34
|
|
|
Outstanding,
September 30, 2007
|
|
|
8,483,000
|
|
|
|
0.31
|
|
Table
of
Content
The
total
fair value of restricted shares vested during the three and nine month periods
ended September 30, 2007 was $165,000 and $976,000, respectively. Total
non-cash equity compensation expense recognized during the three and nine month
periods ended September 30, 2007 were $379,000 and $1,218,000,
respectively. Non-cash equity expense for the three and nine month periods
ended
September 30, 2007 included $165,000 and $976,000 for vested restricted
share grants and $214,000 and $242,000 respectively, for the straight-line
amortization of restricted share grants that did not vest during the three
and
nine month periods ended September 30, 2007.
On August 19, 1993, the Board of Directors (“Board”) adopted the
1993 Stock Option Plan for employees, consultants, and directors who were not
also employees of the Company (outside directors). This plan reached its
ten-year expiration during 2003. During the 2003 annual meeting of shareholders,
the Company’s shareholders approved the 2003 Equity Incentive Plan to take the
place of the expiring 1993 plan. Unissued options from the 1993 plan were used
to fund the 2003 plan. During the 2005 annual meeting of shareholders, the
Company’s shareholders approved 12 million additional shares of stock to be
included in the 2003 Plan, a two-year grant to the CEO of 2 million time-vest
restricted shares and 4 million performance-vest restricted shares, and
clarified the ability for the 2003 Plan to utilize up to 5 million unused
shares originally allocated to the 1993 Plan. The maximum number of shares
issuable under these plans is 32,011,468. These Plans are collectively referred
to as the “Plan”.
For
employees and consultants, the Plan provides for granting of restricted shares
of stock, Incentive Stock Options (ISOs) and Nonstatutory Stock Options
(“NSOs”). In the case of ISOs, the exercise price shall not be less than 100%
(110% in certain cases) of the fair value of the Company’s common stock, as
determined by the Compensation Committee or full Board as appropriate (the
“Committee”), on the date of grant. In the case of NSOs, the exercise price
shall be determined by the Committee, on the date of grant. The term of options
granted to employees and consultants will be for a period not to exceed 10
years
(five years in certain cases). Options granted under the Plan default to vest
over a four-year period (one-fourth of options granted vest after one year
from
the grant date and the remaining options vest ratably each month thereafter),
but the vesting period is determined by the Committee and may differ from the
default period. In addition, the Committee may authorize option and restricted
stock grants with vesting provisions that are not based solely on employees’
rendering of additional service to the Company.
For
outside directors, the Plan provides that each outside director will be
automatically granted NSOs on the date of their initial election to the Board.
On the date of the annual meeting of the stockholders of the Company, each
outside director who is elected, reelected, or continues to serve as a director,
shall be granted additional NSOs, except for those outside directors who are
first elected to the Board at the meeting or three months prior. The options
granted vest ratably over one or two years, based on the date of grant, and
expire after ten years from the grant date. Beginning in 2006, the Compensation
Committee of the Board approved grants of Restricted Stock to be used as
compensation for outside directors in lieu of NSO’s.
Beginning
in 2006, the Board, at the recommendation of the Compensation Committee of
the
Board, began providing restricted stock grants in lieu of stock options within
both employee and non-employee compensation programs. The impact of the new
accounting standard, industry trends, and the ability to use fewer shares to
achieve intended results were a few of the reasons behind this change in view.
The Board also expressed an intention to continue to utilize performance-based
equity incentives for more cases of equity compensation than in years
past.
During
the first nine months of 2007, the Board granted 3,000,000 RSGs to the Company’s
employees, most of which are scheduled to vest over a four year
period.
On
June
26, 2007, as part of the debt restructuring that is detailed in Note 6, $1.5
million of accrued interest was converted into ISCO common stock at $0.18 per
share. See note 6 for additional discussion.
Table
of
Content
On
June
28, 2007, the Company, on the recommendation and approval of the Compensation
Committee of the Company’s Board of Directors, determined to make certain
changes to the terms of separate restricted stock agreements (the “Agreements”)
with each of John Thode, the Company’s President and Chief Executive Officer,
and Dr. Amr Abdelmonem, the Company’s Chief Technology Officer. These changes
were made to ease end-of-year administrative burdens and compliance with tax
withholding requirements. The changes included: 1) changing the date on which
shares of restricted stock will vest to December 23, 2007, instead of December
31, 2007 as originally provided (in each case, subject to continued service
through that date); and 2) waiving the requirements of Section 9(g) of each
Agreement with respect to cash withholding requirements so that each officer
can
satisfy withholding requirements with respect to shares vesting on June 30,
2007
and December 23, 2007 by delivering a portion of those shares to the Company
in
accordance with the terms of the Plan; and 3) the Compensation Committee
authorized management to take any actions it may deem necessary or advisable
to
prevent any unintended and/or adverse consequences that may result from the
application of recent legislation concerning the taxation of deferred
compensation to the Company’s plans, compensation arrangements and agreements,
provided that such actions do not materially increase any obligation of the
Company. Pursuant to these changes, upon the share vesting on June 30, 2007,
ISCO International, Inc. withheld 145,000 shares from Amr Abdelmonem and 195,000
shares from John Thode as treasury stock.
During
October 2007, Mr. Thode terminated employment with the Company. Consequently,
the 500,000 shares that would have vested during December 2007 and two million
performance-based shares that would have been considered based on the Company’s
performance during 2007, as authorized during the annual meeting of shareholders
during 2006, were forfeit during the fourth quarter 2007.
In
conjunction with the proposed acquisition of Clarity, it is contemplated that
a
portion of the stock to be offered as part of the transaction would be issued
through the Company’s 2003 Equity Incentive Plan, as amended. Therefore, we
intend to request that our shareholder approve an increase to the size of the
plan during a special meeting of shareholders, at which we intend to ask our
shareholders as well to approve the other elements of the
transaction.
Note
6 - Debt and Financial Position
2007
Convertible Debt that replaced the 2002 Credit Line
On
June
26, 2007, as previously referenced in Notes 2 and 5, the Company, Manchester
Securities Corporation ("Manchester"), Alexander Finance, L.P. ("Alexander"
and
together with Manchester, and the affiliates of both entities, the "Lenders"),
entered into an agreement to restructure the $11.7 million of credit line debt
and accrued interest which was to mature August 2007.
The
Company issued amended and restated Notes (the "Amended and Restated Notes")
in
aggregate principal amount, including accrued interest on the maturing notes,
of
approximately $10.2 Million to replace all of the maturing credit line notes
and
reflect the amendments to the Loan Documents, including: (i) the extension
of
the termination dates and maturity dates for all the maturing notes that were
set to mature August 1, 2007 to a new maturity date of August 1, 2009; (ii)
the
reduction of the interest rate on each of the maturing notes from 9% to 7%
per
annum; (iii) provision for the conversion of the aggregate principal amount
outstanding on each of the maturing notes at the election of the Lenders,
together with all accrued and unpaid interest thereon into shares (the
"Conversion Shares") of the Company's common stock ("Common Stock"), par value
$0.001 per share, at an initial conversion price of $0.20 per share. In
addition, pursuant to the amendments to the Loan Documents, each of the Lenders
immediately converted $750,000 in principal amount and accrued interest
outstanding under the aforementioned notes each Lender held prior to the
Restructuring into shares (the "Initial Conversion Shares") of Common Stock
at a
conversion price of $0.18, the 10 day volume weighted average closing price
of
the Company's Common Stock on the American Stock Exchange ("AMEX") as of June
21, 2007.
Before
the Lenders may exercise their respective rights to convert the Amended and
Restated Notes into the Conversion Shares, the Company is required to seek
the
approval of its stockholders to (i) increase the number of authorized shares
of
Common Stock available for issuance under its Certificate of Incorporation,
as
amended and (ii) issue the Conversion Shares pursuant to AMEX rules as well
as
to obtain the approval of AMEX to list the Initial Conversion Shares and the
Conversion Shares on AMEX. The Company is required to obtain these approvals
within one year of the issuance date of the Amended and Restated Notes. In
the
event that these required approvals are not obtained by that time, then the
interest rate on the Amended and Restated Notes will increase to a rate of
15%
per annum. If the Initial Conversion Shares and Conversion Shares are not
registered under the Registration Rights Agreement by the 15 month anniversary
of the issuance date of the Amended and Restated Notes, then the then-current
interest rate will increase by a rate of 1% per annum each month thereafter
until the Initial Conversion Shares and Conversion Shares are registered, up
to
the default rate of the lower of 20% per annum or the highest amount permitted
by law.
Assuming
the Amended and Restated Notes are not converted until maturity, approximately
58.5 million shares of Common Stock would be required to be issued upon
conversion, for both principal and interest.
2006
Convertible Debt
During
June 2006 the Company entered into a Securities Purchase Agreement (the
“Agreement”) and convertible notes (the “2006 Notes”) with Alexander Finance,
L.P., and Manchester Securities Corporation L.P. (together, the “Lenders”),
pursuant to which the Lenders have agreed, to each loan us $2,500,000, or an
aggregate of $5,000,000, in convertible debt. The Lenders, including affiliates,
are our two largest shareholders and the lenders of the 2002 Credit Line
(replaced by the 2007 Convertible Debt) referenced above.
The
2006
Notes will mature on June 22, 2010 and bear an interest rate of 5% due at
maturity. Both the principal amount and any accrued interest on the Notes are
convertible into the Company’s common stock at a rate of $0.33 per share,
subject to certain anti-dilution adjustments. The Lenders have the right to
convert the 2006 Notes, both principal and accrued interest, into shares of
common stock at the rate of $0.33 per share at any time. We have the right
to
redeem the 2006 Notes in full in cash at any time beginning two years after
the
date of the Agreement (June 2008). The conversion rate of the 2006 Notes is
subject to customary anti-dilution protections, provided that the number of
additional shares of common stock issuable as a result of changes to the
conversion rate will be capped so that the aggregate number of shares of common
stock issuable upon conversion of the 2006 Notes will not exceed 19.99% of
the
aggregate number of shares of common stock presently issued and
outstanding.
The
Notes
are secured on a first priority basis by all the Company’s intangible and
tangible property and assets. Payment of the Notes is guaranteed by our two
inactive subsidiaries, Spectral Solutions, Inc. and Illinois Superconductor
Canada Corporation. The Company filed a registration statement covering the
resale of the shares of common stock issuable upon conversion of the 2006 Notes
with the Securities and Exchange Commission. Concurrently with the execution
of
the Agreement, the Lenders waived their right under the 2002 Credit Line to
receive the financing proceeds from the issuance of the Notes, allowing the
Company to use the funds for product development or general working capital
purposes.
Assuming
the 2006 Notes are held for the full four year term, 18.5 million shares of
common stock would be required upon settlement, for both principal and
interest.
Note
7 - Income Taxes
The Company adopted the provisions of FASB Interpretation 48, Accounting
for Uncertainty in Income Taxes, on January 1, 2007. Previously, the Company
had
accounted for tax contingencies in accordance with Statement of Financial
Accounting Standards 5, Accounting for Contingencies. As required by FIN 48,
which clarifies Statement 109, Accounting for Income Taxes, the Company
recognizes the financial statement benefit of a tax position only after
determining that the relevant tax authority would more likely than not sustain
the position following an audit. For tax positions meeting the
more-likely-than-not threshold, the amount recognized in the financial
statements is the largest benefit that has a greater than 50 percent likelihood
of being realized upon ultimate settlement with the relevant tax authority.
At
the adoption date, the Company applied FIN 48 to all tax positions for which
the
statute of limitations remained open. As a result of the implementation of
FIN
48, there was no effect on the Company’s 2007 financial statements, nor have
there been any material changes in unrecognized tax benefits during
2007.
The
Company is subject to income taxes in the U.S. federal jurisdiction and various
states jurisdictions. Tax regulations within each jurisdiction are subject
to
the interpretation of the related tax laws and regulations and require
significant judgment to apply. As the Company has sustained losses since
inception, a large number of tax years are open (1992-2006) as the losses have
not been utilized by the Company.
The
Company is currently not aware of any current or threatened examination by
any
jurisdiction. The Company has elected to classify interest and penalties related
to unrecognized tax benefits as a component of income tax expense, if
applicable. No accrual is required as of September 30, 2007 for interest and
penalties.
Note
8 – Subsequent Events
As
a
subsequent event, we announced on October 15, 2007 that we had executed a letter
of intent to acquire Clarity, and subsequently announced on November 13, 2007
that a definitive merger agreement had been reached. We communicated the intent
to present the merger and all related elements to our shareholders for approval,
as well as the need to obtain certain regulatory approvals. Please see
Note 2 for a discussion on anticipated debt in conjuction with this
proposed merger. The outcome of this process is not guaranteed. We also
announced on October 15, 2007 the resignation of our Chief Executive Officer,
Mr. John Thode, indicating that Mr. Ralph Pini (Chairman of the Board) would
serve as interim CEO while a search for a replacement is conducted. In
conjuction with that change, we appointed Dr. George Calhoun interim Chairman
of
the Board while Mr. Pini serves in the interim CEO role.
Table
of
Content
Item 2.
Management’s Discussion and Analysis of Financial Conditions and Results of
Operations.
Forward
Looking Statements
Because
we want to provide investors with more meaningful and useful information, this
Quarterly Report on Form 10-Q contains, and incorporates by reference, certain
forward-looking statements that reflect our current expectations regarding
its
future results of operations, performance and achievements. We have tried,
wherever possible, to identify these forward-looking statements by using words
such as “anticipates,” “believes,” “estimates,” “expects,” “designs,” “plans,”
“intends,” “looks,” “may,” and similar expressions. These statements reflect our
current beliefs and are based on information currently available to us.
Accordingly, these statements are subject to certain risks, uncertainties and
contingencies, including the factors set forth under Item 1A, Risk Factors
of our Annual Report on Form 10-K for the year ended December 31, 2006,
which could cause our actual results, performance or achievements for 2007
and
beyond to differ materially from those expressed in, or implied by, any of
these
statements. You should not place undue reliance on any forward-looking
statements. Except as otherwise required by federal securities laws, we
undertake no obligation to release publicly the results of any revisions to
any
such forward-looking statements that may be made to reflect events or
circumstances after the date of this prospectus or to reflect the occurrence
of
unanticipated events.
General
We
have
shifted from manufacturing in-house to an outsourced manufacturing model wherein
we supply parts and raw materials to third parties, who then complete the
products to our specifications. This system has allowed us to begin to outsource
procurement and realize additional manufacturing efficiencies. Our products
are
designed for efficient production in this manner, emphasizing solid-state
electronics over mechanical devices with moving parts. The decrease in cost
associated with these developments, coupled with enhanced product functionality,
have significantly reduced overhead costs since 2002 and allowed us to realize
improved margins. In addition, because we have built upon and expanded upon
our
earlier developed technology, based on substantial input from customers, we
have
generally controlled total research and development (“R&D”)
costs.
Wireless
telecommunications has undergone significant merger activity in recent years,
a
trend which we believe will continue. These activities often result in operators
with disparate technologies and spectrum assets, and the need to integrate
those
assets. In addition, the deployment of data applications is adding to the
industry requirement to integrate disparate technologies into base stations
and
other fixed points of access, resulting in the need to manage multiple wireless
signals and keep them from interfering with each other. We are focused on
providing solutions that address these types of requirements. During 2006 and
2007 (year to date), we bid on substantially larger business opportunities
than
we had in recent years. These proposals often are accompanied by long approval
cycles and we may bear up-front product development costs. We believe the
potential benefits to outweigh these costs, and expect to continue to bid on
these types of business opportunities.
The
wireless telecommunications industry is subject to risks beyond our control
that
can negatively impact customer capital spending budgets (as occurred during
2003) and/or spending patterns (as occurred during 2004 and to a lesser extent
on a quarterly basis after 2004, including the current year). For these and
other reasons, our financial statements have been prepared assuming we will
continue as a going concern.
From
a
company-specific view, we have invested in measured infrastructure growth to
allow for potentially substantial revenue expansion. This has caused spending
to
increase from 2004 levels. We believe that we now have the infrastructure
largely in place to allow for such potential revenue expansion, and therefore
as
a general guideline do not expect fixed costs to rise, except for some R&D
associated with product initiatives, during the remainder of 2007. We also
announced the addition of a new director (Mr. John Owings), and the retirement
of another director (Mr. Tom Powers) when his term expired during June 2007,
as
well as the departure of another director (Dr. Martin Singer) during March
2007.
Our Governance Committee has an ongoing program designed to identify and retain
qualified external directors on our Board.
Table
of
Content
During
October 2007, we announced that we signed a letter of intent to acquire Clarity.
We subsequently announced that a definitive merger agreement had been signed
with Clarity during November 2007. We have expressed an interest in broadening
our reach and quickly expanding our capabilities in telecommunications handset
software, an area in which Clarity excels. We believe a combined entity would
be
able to accelerate the expansion of our Adaptive Interference Management (“AIM”)
platform from the base station (cell tower) into mobile devices and other types
of wireless architectures. We view significant synergies in the combination
of
our product platforms, customer bases, and sales channels.
We
also
announced on October 15, 2007, the resignation of our Chief Executive Officer,
Mr. John Thode, indicating that Mr. Ralph Pini (Chairman of the Board) would
serve as interim CEO while a search for a replacement is
conducted. In conjunction with that change, we appointed Dr. George
Calhoun interim Chairman of the Board while Mr. Pini serves in the interim
CEO
role.
We
are
pursuing digital technologies, evidenced by the deployment of our digital (front
end) ANF solution platform during 2006, subsequent extensions of that platform,
and our expectation to complete a fully digital ANF platform during 2007 that
creates the more descriptive Adaptive Interference Management (“AIM”) product
platform. We believe that by producing solutions in digital format, we will
extend coverage across additional wireless telecommunications spectrum and
technologies as well as start to address new opportunities in the non-cellular
market. If we are successful in this effort, we expect to open a much broader
addressable market and thus have the opportunity to enjoy substantially larger
revenues. Digitizing the ANF platform has already led to a new revenue stream
from software, as evidenced by our deferred software-related revenue beginning
during the fourth quarter 2006 and growing during 2007. We expect
software-related revenue as a percentage of our total revenue to increase over
time as we implement our fully digital product platform.
The
Company was founded in 1989 by ARCH Development Corporation, an affiliate of
the
University of Chicago, to commercialize superconductor technologies initially
developed by Argonne National Laboratory. The Company was incorporated in
Illinois on October 18, 1989 and reincorporated in Delaware on
September 24, 1993. Its facilities and principal executive offices are
located at 1001 Cambridge Drive, Elk Grove Village, IL 60007 and telephone
number is (847) 391-9400.
Results
of Operations
Three
Months Ended September 30, 2007 and 2006
Our
net
sales decreased $4,509,000 or 70%, to $1,924,000 for the three months ended
September 30, 2007 from $6,433,000 for the same period in 2006, which we
attribute to the timing and magnitude of new customer orders and overall
business conditions in North America. Gross margins decreased to 37% from
40% for the same periods, primarily due to the lower volume. Cumulative deferred
software revenue, the amount of revenue that will be recognized in future
periods related to currently installed equipment and related software, increased
to $0.3 million at September 30, 2007. This item did not exist at September
30,
2006. We, along with many in the industry, expected higher levels of customer
spending during the second half of 2007, as compared to the first half of 2007,
and more comparable with that of the prior year. We, like many similar entities,
found sales cycles longer and more difficult during the current period.
Based on our broad market expectations and including the approximately $1
million of product backlog with which we enter the fourth quarter 2007, we
expect revenue during the fourth quarter 2007 to be greater that the third
quarter 2007.
Cost
of
sales decreased by $2,629,000, or 68%, to $1,221,000 for the three months ended
September 30, 2007 from $3,850,000 for the same period in 2006. The decrease
in
cost of sales was primarily due to the reduction in sales volume, as gross
margin declined from 40% to 37% on reduced sales volume.
Our
research and development (“R&D”) expenses increased by $269,000 or 59%, to
$721,000 for the three months ended September 30, 2007, from $452,000 for
the same period in 2006. This increase was due in part to increased spending
associated with the addition of a significant number of products to our RF² and
dANF product families, but primarily to the investment we are making in a fully
digital ANF product platform. We expect to continue to invest more in R&D
during the remainder of 2007 than we did during the comparable period of 2006,
likely at a rate similar to the third quarter of 2007, as we expand both our
existing product families and develop new products that would be applicable
in
wireless technologies beyond cellular telecommunications.
Table
of
Content
Selling and marketing expenses decreased by $435,000, or 44%, to $554,000
for the three months ended September 30, 2007, from $989,000 for the same period
in 2006. The decrease in expense was attributable to higher personnel in this
area during 2006 as we had an overlap of personnel when Mr. Wetterling and
others joined the Company and their predecessors were here simultaneously,
and
when we were completing an extensive marketing analysis. Lower sales revenue
also contributed to this decrease. We expect selling and marketing expenses
to
increase during the fourth quarter of 2007 as we look to add new customers
and
launch new products, particularly the fully digital ANF product
platform.
General and administrative expenses decreased by $90,000, or 8%, to
$1,004,000 for the three months ended September 30, 2007, from $1,094,000
for the same period in 2006. This decrease was attributable to a decrease in
a
number of areas of cost and not any one item in particular. Of the cost
components that decreased, favorable trends in the insurance industry were
the
largest driver of this favorable change. We expect legal, accounting and
financial service expenses to increase during the fourth quarter 2007 as result
of the proposed Clarity merger
Nine
Months Ended September 30, 2007 and 2006
Our
net
sales decreased $4,905,000, or 44%, to $6,300,000 for the nine months ended
September 30, 2007 from $11,205,000 for the same period in 2006, which we
attribute to the timing of closing new customer orders and the deferral of
certain software-related revenue. Gross margins increased to 42% from 40% for
the same periods, primarily due to the benefit of cost reduction activities
in
product design and materials. Cumulative deferred software revenue, the amount
of revenue that will be recognized in future periods related to currently
installed equipment and related software, increased to $0.3 million at September
30, 2007. This item did not exist at September 30, 2006. We, along with many
in
the industry, expected customer spending to increase during the second half
of
2007, as compared to the first half of 2007. This was not evident during the
third quarter 2007, particularly the North American market, though we
expects improvement during the fourth quarter 2007, as compared to the
third quarter 2007, in part because of an approximately $1 million in order
backlog entering the fourth quarter 2007.
Cost
of
sales decreased by $3,106,000, or 46%, to $3,633,000 for the nine months ended
September 30, 2007 from $6,739,000 for the same period in 2006. The
decrease in cost of sales was due to the reduction in revenue,
above.
Our
R&D expenses increased by $614,000 or 44%, to $2,004,000 for the nine months
ended September 30, 2007, from $1,390,000 for the same period in 2006. This
increase was due to increased spending associated with the addition of a
significant number of products to our RF² and dANF product families, but
primarily to the investment we are making in a fully digital ANF product
platform. We expect to continue to invest more in R&D during the remainder
of 2007 than we did during the comparable period of 2006, likely at a rate
similar to this second quarter 2007, as we expand both our existing product
families and develop new products that would be applicable in wireless
technologies beyond cellular telecommunications.
Selling
and marketing expenses decreased by $663,000, or 27%, to $1,809,000 for the
nine
months ended September 30, 2007, from $2,472,000 for the same period in
2006. The decrease in expense was attributable to higher personnel in this
area
during 2006 as we had an overlap of personnel when Mr. Wetterling (EVP Sales)
and others joined the Company and their predecessors were here simultaneously,
and when we were completing an extensive marketing analysis. We expect selling
and marketing expenses to increase during the fourth quarter 2007, as compared
to the third quarter 2007 as we look to add new customers and launch new
products, particularly the fully digital ANF product platform.
General
and administrative expenses increased by $32,000 or 1%, to $3,185,000 for the
nine months ended September 30, 2007, from $3,153,000 for the same period
in 2006. This increase reflects overall cost controls and not any single line
item. We expect legal, accounting and financial expenses to increase
during the fourth quarter 2007 as a result of the proposed acquisition of
Clarity.
Table
of
Content
Liquidity
and Capital Resources
As
of
September 30, 2007, the Company’s cash and cash equivalents were $2.8
million, a decrease of $0.1 million from the balance at December 31, 2006
of $2.9 million.
During
the nine months of 2007, the Company utilized approximately $4.2 million in
cash
from the realization of receivables and inventory, net of additions, and paid
out approximately $1.1 million in cash toward the reduction in accrued expenses,
net of additions. The remainder was the approximately $3.0 million of business
expenses incurred during the period.
The
continuing development of, and expansion in, sales of our product lines, the
proposed transaction with Clarity and any other potential merger and acquisition
activity, as well as any required defense of our intellectual
property, will require a commitment of funds to undertake product line
development and to market and sell our RF products. The actual amount of our
future funding requirements will depend on many factors, including: the amount
and timing of future revenues, the level of product marketing and sales efforts
to support our commercialization plans, the magnitude of our research and
product development programs, our ability to improve or maintain product
margins, and the costs involved in protecting our patents or other intellectual
property.
To
date,
we have financed our operations primarily through public and private equity
and debt financings. Additional capital will be required as part of the costs
anticipated with the proposed acquisition of Clarity, and potentially to support
working capital requirements. As a condition to closing the proposed acquisition
of Clarity, we will be required to obtain $1.5 million in financing to fund
the
initial operations of the combined entity, which we expect to obtain through
one
of our existing lenders and on terms substantially similar to our current debt
arrangements. Until recently, more than $11 million had been due in August
2007.
However, on June 26, 2007, the Company and its lenders, Manchester Securities
Corporation ("Manchester") and Alexander Finance, L.P. ("Alexander" and together
with Manchester, the "Lenders"), including their affiliates, entered into a
restructuring of the Company’s line of credit arrangements as more fully
described in Notes 5 and 6 herein.
Contractual
Obligations, Commitments, and Off Balance Sheet
Arrangements
The
following table lists the contractual obligations and commitments that existed
as of September 30, 2007:
|
Contractual
Obligations
|
Payments
Due by Period
|
|
|
|
|
|
|
|
|||
|
|
|
|
|
Less
than 1
|
|
|
|
|
|
More
than
|
|
|
Year
|
|
Total
|
|
Year
|
|
1-3
Years
|
|
3-5
Years
|
|
5
Years
|
|
|
Long
Term Debt Obligations
|
$
|
17,837,000
|
$
|
-
|
$
|
17,837,000
|
$
|
-
|
$
|
-
|
|
|
Operating
Lease Obligations
|
$
|
1,509,000
|
$
|
204,000
|
$
|
417,000
|
$
|
434,000
|
$
|
454,000
|
|
|
Total
|
$
|
19,346,000
|
$
|
204,000
|
$
|
18,254,000
|
$
|
434,000
|
$
|
454,000
|
|
Long
term debt obligations include the June 2007 restructuring event as described
in
Note 6.
Table
of
Content
Item 3.
Quantitative and Qualitative Disclosures About Market
Risk.
We
do not
have any material market risk sensitive instruments.
Item 4.
Controls and Procedures.
|
|
(a)
|
An
evaluation was performed under the supervision and with the participation
of the Company’s management, including its Chief Executive Officer, or
CEO, and Chief Financial Officer, or CFO, of the effectiveness of
the
Company’s disclosure controls and procedures, as such term is defined
under Rule 13a-15(e) promulgated under the Securities Exchange Act
of
1934, as amended (the “Exchange Act”) as of September 30, 2007. Based
on that evaluation, the Company’s management, including the CEO and CFO,
concluded that the Company’s disclosure controls and procedures are
effective to ensure that information required to be disclosed by
the
Company in reports that it files or submits under the Exchange Act,
is
recorded, processed, summarized and reported as specified in Securities
and Exchange Commission rules and forms.
|
|
|
(b)
|
There
were no changes in the Company’s internal control over financial reporting
identified in connection with the evaluation of such controls that
occurred during the Company’s most recent fiscal quarter that has
materially affected, or is reasonably likely to materially affect,
the
Company’s internal control over financial
reporting.
|
Table
of
Content
PART
II. OTHER INFORMATION
Item
1A. Risk Factors.
We
have
updated certain risk factors as disclosed in our Form 10-K for the fiscal year
ended December 31, 2006. The complete list of risk factors are disclosed in
our
Form 10-K for the fiscal year ended December 31, 2006.
Risks
of future acquisitions
In
the
future, we may pursue acquisitions to obtain products, services and technologies
that we believe would complement or enhance our current product or services
offerings. On November 13, 2007, we announced the signing of a definitive merger
agreement to acquire Clarity Communication Systems Inc. There is no
assurance that the proposed merger will be consummated, and if the proposed
merger is consummated, there is no assurance that we will be able to
successfully integrate the Clarity business. At the present time, no
other definitive agreements or similar arrangements exist with respect to any
other acquisition. An acquisition, such as the merger with Clarity, may not
produce the revenue, earnings or business synergies as anticipated and may
attach significant unforeseen liabilities, and an acquired product, service
or
technology might not perform as expected. Our management could spend a
significant amount of time and effort in identifying and completing the
acquisition and may be distracted from the operations of the business. In
addition, management would probably have to devote a significant amount of
resources toward integrating the acquired business with the existing business,
and that integration may not be successful. The process is resource
intensive, both in time and financial resources, and thus incorporates a cost
to
the company.
The
merger is subject to conditions to closing that could result in the merger
being
delayed or not consummated, which could negatively our stock price and future
business and operations
The
merger is subject to conditions to closing as set forth in the merger agreement,
including obtaining the approval of our stockholders. If any of the conditions
to the merger are not satisfied or, where permissible, not waived, the merger
will not be consummated. Failure to consummate the merger could negatively
impact our stock price, future business and operations, and financial condition.
Any delay in the consummation of the merger or any uncertainty about the
consummation of the merger may adversely affect the future business, growth,
revenue and results of operations of our company or the combined
company.
Failure
to complete the merger could negatively impact the market price of our common
stock and our future business and financial results.
If
the
merger is not completed for any reason, our ongoing business may be adversely
affected and will be subject to a number of risks, including:
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•
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the
market price of our common stock might decline to the extent that
the
current market price reflects a market assumption that the merger
will be
completed; and
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•
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our
unreimbursed costs incurred related to the merger must be paid even
if the
merger is not completed.
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If
we fail to obtain necessary funds for our operations, we may be unable to
maintain or improve on our technology position and unable to develop and
commercialize our products
To
date,
we have financed our operations primarily through public and private equity
and
debt financings, and most recently through several financings with affiliates
of
our two largest shareholders. As a condition to closing the proposed acquisition
of Clarity, we will be required to obtain $1.5 million in financing to fund
the
initial operations of the combined entity, which we expect to obtain through
one
of our existing lenders and on terms substantially similar to our current debt
arrangements. Additionally, we may have additional working capital
requirements that may require additional financial resources. As such, we will
require additional capital. We intend to look into augmenting our existing
capital position by continuing to evaluate potential short-term and long-term
sources of capital whether from debt, equity, hybrid, or other methods. The
primary covenant in our existing debt arrangement involves the right of the
lenders to receive debt repayment from the proceeds of new financing activities.
This covenant may restrict our ability to obtain new sources of financing and/or
to apply the proceeds of a financing event toward operations until the debt
is
repaid in full.
E-
#9087409
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Table
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Our
continued existence is therefore dependent upon our continued ability to raise
funds through the issuance of our equity securities or borrowings. Our plans
in
this regard are to obtain other debt and equity financing until such time as
profitable operation and positive cash flow are achieved and maintained.
Although we believe, based on the fact that we have raised funds through sales
of common stock and from borrowings over the past several years, that we will
be
able to secure suitable additional financing for our operations, there can
be no
guarantee that such financing will continue to be available on reasonable terms,
or at all. As a result, there is no assurance that we will be able to continue
as a going concern.
The
actual amount of future funding requirements will depend on many factors,
including: the amount and timing of future revenues, the level of product
marketing and sales efforts to support our commercialization plans, the
magnitude of research and product development programs, the ability to improve
or maintain product margins, the completion of the proposed merger with Clarity,
Clarity’s successful integration into our business as well as any other merger
and acquisition activity, and the costs involved in protecting patents or other
intellectual property.
Management
of our growth
Growth
may cause a significant strain on our management, operational, financial and
other resources. The ability to manage growth effectively may require us to
implement and improve our operational, financial, manufacturing and management
information systems and expand, train, manage and motivate employees. These
demands may require the addition of new management personnel and the development
of additional expertise by management. Any increase in resources devoted to
product development and marketing and sales efforts could have an adverse effect
on financial performance in future fiscal quarters. If we were to receive
substantial orders, we may have to expand current facilities, which could cause
an additional strain on our management personnel and development resources.
The
failure of the management team to effectively manage growth could have a
material adverse effect on our business, operating results and financial
condition. In addition, the proposed acquisition of Clarity will
require substantial attention and resources in order to integrate Clarity’s
operations into our business.
Risk
of dilution
If
stockholders approve the issuances of common stock pursuant to the proposed
merger with Clarity and in connection with our June 2007 debt restructuring,
and
if we issue the full number of shares issuable pursuant to these two
transactions, we will be issuing up to 40 million additional shares of common
stock, or approximately 20% of the total number of shares currently outstanding
as October 30, 2007. As a result, these issuances will be dilutive to
existing stockholders and may have an adverse effect on the market value of
our
common stock.
Retention
of Key Personnel
Our
success depends on our ability to attract and retain the appropriate personnel
needed to operate our business. We have announced the departure of
our CEO during October 2007 and subsequent search process employed for a new
CEO, with Mr. Ralph Pini, who had been Chairman of the Board until this change,
serving as interim CEO on a temporary basis. Our success depends, in
part, on finding an appropriate person to fill this necessary role within our
Company.
Additionally,
the value of the Clarity acquisition to our shareholders rests in large part
on
the continuity of the key personnel within the Clarity
organization. While we believe we have devised appropriate incentives
to retain Clarity’s employees, there can be no guarantee that they will choose
to remain with the Company after the merger completes, should it complete,
which
may have an adverse impact on our operations and financial
condition.
Item
5 – Other Information
On
June
26, 2007, we filed a Current Report on Form 8-K (the “8-K”) to report the
restructuring of our outstanding debt. The amendment to the loan
documents, the amended and restated notes, and the registration rights agreement
referenced in the 8-K are being filed as exhibits to this Quarterly Report
on
Form 10-Q.
Table
of
Content
Item
6. Exhibits
Exhibits:
A list of exhibits is set forth in the Exhibit Index found on page 19 of this
report.
EXHIBIT
INDEX
EXHIBIT101
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Exhibit
Number
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Description
of Exhibit
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10.1
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Amendment
to Loan Documents dated June 26, 2007 between ISCO International,
Inc.,
Manchester Securities Corporation, Alexander Finance, L.P., ISCO
International, Inc. , Spectral Solutions, Inc. and Illinois Superconductor
Corporation
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10.2
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Manchester Securities Corporation, dated
June 26,
2007, in the amount of $2,520,441.39
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10.3
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Manchester Securities Corporation, dated
June 26,
2007, in the amount of $1,522,687.06
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10.4
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Manchester Securities Corporation, dated
June 26,
2007, in the amount of $147,240.00
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10.5
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Manchester Securities Corporation, dated
June 26,
2007, in the amount of $1,121,625.00
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10.6
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Alexander Finance, LLC, dated June 26, 2007,
in
the amount of $1,622,405.00
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10.7
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Alexander Finance, LLC, dated June 26, 2007,
in
the amount of $1,314,300.00
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10.8
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Alexander Finance, LLC, dated June 26, 2007,
in
the amount of $1,375,000.00
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10.9
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Amended
and Restated 7% Senior Secured Convertible Note by and between ISCO
International, Inc. and Alexander Finance, LLC, dated June 26, 2007,
in
the amount of $550,000.00
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10.10
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Registration
Rights Agreement dated June 26, 2007, by and among ISCO International,
Inc., Manchester Securities Corp. and Alexander Finance,
L.P.
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31.1
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Certification
by Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a)
as
adopted pursuant to Section 302 of the Sarbanes Oxley Act of
2002.
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31.2
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Certification
by Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a)
as
adopted pursuant to Section 302 of the Sarbanes Oxley Act of
2002.
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32.1
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Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
906 of
the Sarbanes-Oxley Act of 2002.
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Table
of
Content
Signatures
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized on the 14th day of November
2007.
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ISCO
International, Inc.
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By:
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/s/
Ralph Pini
Ralph
Pini
Interim
Chief Executive Officer
(Principal
Executive Officer)
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By:
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/s/
Frank Cesario
Frank
Cesario
Chief
Financial Officer
(Principal
Financial and Accounting Officer)
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Exhibit 10.1
AMENDMENT
TO
LOAN
DOCUMENTS
AMENDMENT
TO THE LOAN DOCUMENTS (“Agreement”), dated as of June ___, 2007, by and among
Manchester Securities Corporation, a New York corporation (“Manchester”),
Alexander Finance, L.P. an Illinois limited partnership (“Alexander” and
together with Manchester, the “Lenders”), ISCO International , Inc., a Delaware
corporation (the “Company”), Spectral Solutions, Inc., a Colorado corporation
(“Spectral”) and Illinois Superconductor, a Canada corporation, an Ontario
corporation (“ISCO Canada” and together with Spectral, the
“Guarantors”).
W
I T
N E S S E T H
WHEREAS,
pursuant to a certain Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended (the “Loan Agreement”), by and among the Lenders
and the Company, the Lenders have provided loan commitments to the Company
in
the aggregate principal amount of $8,500,000 which are due August 1,
2007;
WHEREAS,
to evidence borrowing made under the Loan Agreement (and its predecessor
agreements), the Company has issued notes (the “Notes”) to the
Lenders;
WHEREAS,
the Notes and certain other obligations have been guaranteed by the Guarantors,
who are subsidiaries of the Company, each such guaranty being made pursuant
to
separate Fourth Amended and Restated Guaranties dated as of June 21, 2006,
as
amended (the “Guaranties”);
WHEREAS,
the Notes and certain other obligations have been secured by the assets of
the
Company and the Guarantors pursuant to a certain Fourth Amended and Restated
Security Agreement, dated as of June 22, 2006, as amended, by and among the
Company, the Lenders and the Guarantors (the “Security Agreement”, and together
with this Agreement, the Loan Agreement, the Notes, and the Guaranties, the
“Loan Documents”);
WHEREAS,
the parties desire that the terms of the Loan Documents be modified by (i)
extending the Maturity Date of the Notes to August 1, 2009, (ii) reducing the
interest rate on the Notes from 9% to 7%, and (iii) provide that all the Notes
will be convertible into shares of the Company’s common stock (“Conversion
Shares”), on the terms and conditions set forth herein;
WHEREAS,
in connection with the entering into this Agreement to the Loan Documents by
the
parties hereto, the Lenders will convert $750,000 in principal amount
outstanding under the Notes each holds into shares of Common Stock (the “Initial
Conversion Shares”) immediately upon execution by the respective parties of this
Agreement to the Loan Documents, the Amended and Restated Notes (as defined
below) and the Registration Rights Agreement (as defined below) at a conversion
price of $0.18 per share, the 10 day volume weighted average closing price
of
the Company’s Common Stock on the American Stock Exchange (“AMEX”) as of June
21, 2007; and
WHEREAS,
pursuant to the Registration Rights Agreement, dated as of the date hereof
and
in the form and such substance of Exhibit A hereto (the “Registration
Rights Agreement”), the Company shall register for resale under the Securities
Act of 1933, as amended (the “Securities Act”), the Initial Conversion Shares
and the Conversion Shares, subject to the terms and conditions set forth in
the
Registration Rights Agreement.
NOW,
THEREFORE, in consideration of the foregoing premises and the covenants
contained herein and other good and valuable consideration, the receipt and
sufficiency of which are hereby acknowledged, the parties hereto agree as
follows (capitalized terms used and not defined herein shall have the meaning
set forth in the Loan Agreement):
1.
Amendment of Notes . Each of the Notes issued under the Loan
Agreement shall be amended and restated in the form of the Amended and Restated
Note (“ Amended and Restated Note”) attached hereto as Exhibit B
and to reflect, among other things, the following: (a) the Termination Date
and
Maturity Dates (as defined in each of the Notes) for all the Notes shall be
extended from August 1, 2007 to August 1, 2009, (b) the interest rate on each
of
the Notes shall be reduced from 9% to 7% per annum, subject to the terms and
conditions under the Amended and Restated Notes, (c) the aggregate principal
amount outstanding under the Notes held by each Lender immediately prior to
the
execution of this Agreement shall be reduced by $750,000 on account of the
acquisition of the Initial Conversion Shares as set forth in Section 2 below,
and (d) the aggregate principal amount outstanding on each of the Notes,
together with all accrued by unpaid interest thereon, shall be convertible
into
Conversion Shares of the Company on the terms and conditions set forth in the
Amended and Restated Notes. Upon execution of this Agreement and
issuance of the Amended and Restated Notes, all documents and certificates
evidencing the previously issued Notes shall be immediately, and without any
further action on the part of the Company or the Lenders, cancelled and of
no
further force and effect.
2.
Conversion of Notes . Immediately upon execution by the
respective parties of this Agreement and to the Registration Rights Agreement,
and the issuance of the Amended and Restated Notes, each of the Lenders will
convert $750,000 in principal amount outstanding under the Notes it holds into
the Initial Conversion Shares at a conversion price of $0.18 per share, the
10-day volume weighted average closing price of the Company’s Common Stock on
AMEX as of June 21, 2007.
3.
Amendment of Loan Agreement . The Loan Agreement is hereby
amended by modifying the terms and references to the Original Note, New Note,
July 2004 Note and November 2004 Note (all as defined therein) in accordance
with this Agreement.
4.
Amendment of Security Agreement and Guaranties .
(a)
The Security Agreement is hereby amended by modifying the term
“Obligations,” as defined in Section 2 of the Security Agreement, to refer to
the Loan Agreement, 2002 Notes, 2003 Notes, July 2004 Notes, November 2004
Notes
and Restated Guaranties (all as defined therein) as modified by this
Agreement.
(b)
Each of the Guaranties is modified such that the definition of
“Obligations” in Section 1(a) thereof, is hereby amended to include the Notes,
the Loan Agreement and Security Agreement (as such terms are defined in the
Guaranties) as amended by this Agreement.
5.
Registration Rights Agreement . The Company and Lenders shall
execute and deliver the Registration Rights Agreement as of the date
hereof.
6.
Representations; Warranties and Covenants .
(a)
The Company hereby restates the representations in Section 2.1 of
the Loan Agreement and Section 3 of the Security Agreement, as of the date
hereof (other than the representation in Section 2.1(g) of the Loan Agreement,
which is made as of the date of the Loan Agreement). The Guarantors
hereby restate their respective representations in Section 3 of the Security
Agreement and Section 8 of the Guaranties, as of the date hereof. The
Lenders hereby restate their representations in Section 2.2 of the Loan
Agreement, as of the date hereof.
(b)
The Company also represents and warrants that:
(i)
Upon
issuance in accordance with this Agreement, the Initial Conversion Shares will
be duly authorized, validly issued, fully paid and nonassessable and free from
all taxes (other than transfer taxes where the Notes have been transferred
and
other than any taxes due because of actions by a Lender), liens and charges
with
respect to the issue thereof and the holders of such Initial Conversion Shares
shall be entitled to all rights and preferences accorded to a holder
of shares of the Company’s common stock.
(ii)
Assuming (without any independent investigation or verification by or on behalf
of the Company) the accuracy of the representations and warranties of the
Lenders set forth in the Loan Agreement, the issuance of the amended and
restated Notes are exempt from registration under Section 5 of the Securities
Act. Neither the Company nor any person acting on its behalf has
taken or will take any action which might subject the offering, issuance or
sale
of the Notes to the registration requirements of Section 5 of the Securities
Act.
(c)
The Company agrees to use its best efforts to obtain within one (1)
year from the date hereof the requisite stockholder and AMEX approvals described
in the Amended and Restated Notes, as well as AMEX’s approval for the listing of
the Initial Conversion Shares on AMEX.
(d)
The Company further agrees that upon obtaining the requisite
stockholder and AMEX approvals described in the Amended and Restated Notes
and
upon issuance in accordance with this Agreement, the Loan Agreement, and the
terms of the Amended and Restated Notes, the Conversion Shares into which the
Amended and Restated Notes are convertible will be duly authorized, validly
issued, fully paid and nonassessable and free from all taxes (other than
transfer taxes where the Amended and Restated Notes have been transferred and
other than any taxes due because of actions by a Lender), liens and charges
with
respect to the issue thereof and the holders of such Conversion Shares shall
be
entitled to all rights and preferences accorded to a holder of shares
of the Company’s Common Stock
7.
Stock Legends . Each Lender agrees to the imprinting, so long
as is required by this Section 5, of the following legend on its Amended and
Restated Notes, the Initial Conversion Shares and Conversion
Shares:
THE
SECURITIES REPRESENTED HEREBY HAVE NOT BEEN REGISTERED WITH THE SECURITIES
AND
EXCHANGE COMMISSION OR THE SECURITIES COMMISSION OF ANY STATE IN RELIANCE UPON
AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE
“SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT PURSUANT
TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR PURSUANT
TO
AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO, THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT AND IN ACCORDANCE WITH
APPLICABLE STATE SECURITIES LAWS.
The
Initial Conversion Shares and Conversion Shares shall not contain the legend
set
forth above if the issuance thereof occurs at any time while the registration
statement (“Registration Statement”) filed pursuant to the Registration Rights
Agreement is effective under the Securities Act, or in the event that the
Initial Conversion Shares and Conversion Shares may be sold pursuant to Rule
144(k) under the Securities Act. The Company agrees that it will
provide each Lender, upon request, with a certificate or certificates
representing Initial Conversion Shares or Conversion Shares free from such
legend at such time as such legend is no longer required
hereunder. Each Lender agrees that, in connection with any transfer
of Initial Conversion Shares or Conversion Shares by it pursuant to an effective
registration statement under the Securities Act, it will comply with the
prospectus delivery requirements of the Securities Act provided copies of a
current prospectus relating to such effective registration statement are or
have
been supplied to such Lender.
8.
Press Release . The Company and the Lenders shall consult with
each other in issuing any press releases or otherwise making public statements
with respect to the transactions contemplated hereby and neither the Company
nor
any Lender shall issue any such press release or otherwise make any such public
statement without the prior consent of the other, which consent shall not be
unreasonably withheld or delayed, except that no prior consent shall be required
if such disclosure is required by law, in which such case the disclosing party
shall provide the other party with prior notice of such public
statement.
9.
Miscellaneous .
(a) As
modified hereby, the Loan Documents shall remain in full force and
effect.
(b) The
Company shall, upon request of the Lenders, reimburse them for their legal
expenses incurred in the preparation of this Agreement and for related
transactions.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the parties have caused this Agreement to be executed and
delivered by their respective officers thereunto duly authorized, as of the
date
first above written.
ISCO
INTERNATIONAL, INC.
By:
Name: John
Thode
Title: Chief
Executive Officer
SPECTRAL
SOLUTIONS, INC.
By:
Name:
Title:
ILLINOIS
SUPERCONDUCTOR CANADA CORPORATION
By:
Name:
Title:
MANCHESTER
SECURITIES CORPORATION
By:
Name: Elliot
Greenberg
Title: Vice
President
ALEXANDER
FINANCE, L.P.
By:
Name:
Title:
COLLATERAL
AGENT
UNDER
SECURITY AGREEMENT:
MANCHESTER
SECURITIES CORPORATION
By:
Name: Elliot
Greenberg
Title: Vice
President
EXHIBIT
A
REGISTRATION
RIGHTS AGREEMENT
EXHIBIT
B
FORM
OF
AMENDED AND RESTATED NOTE
Exhibit
10.2
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-1 Current Principal Amount $2,520,441.39
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of MANCHESTER
SECURITIES CORPORATION or its registered assigns or successors-in-interest
(“Holder”) the principal sum of TWO MILLION FIVE HUNDRED TWENTY THOUSAND FOUR
HUNDRED FORTY ONE U.S. DOLLARS AND THIRTY NINE CENTS (U.S. $ 2,520,441.39)
(representing the principal amount outstanding on the New Issuance Date (as
defined below), plus all accrued but unpaid interest since October 23, 2002),
together with all accrued but unpaid interest thereon, if any, on the Maturity
Date, to the extent such principal amount and interest has not been converted
into the Company's Common Stock, $0.001 par value per share (the “Common
Stock”), in accordance with the terms hereof. Interest on the unpaid
principal balance hereof shall accrue at the rate of 7% per annum from the
amended and restated issuance date of this Note, June 26, 2007 (the “New
Issuance Date”), until the same becomes due and payable on the Maturity Date, or
such earlier date upon acceleration or by conversion or redemption in accordance
with the terms hereof or of the other Transaction Documents. Interest
on this Note shall accrue daily commencing on the New Issuance Date, shall
be
compounded monthly and shall be computed on the basis of a 360-day year, 30-day
months and actual days elapsed and shall be payable in accordance with Section
1
hereof; provided, however, that nothing in the foregoing shall be deemed to
modify the calculation of the Principal Amount based on a different rate of
interest applied prior to the New Issuance Date. Notwithstanding
anything contained herein, this Note shall bear interest on the due and unpaid
Principal Amount from and after the occurrence and during the continuance of
an
Event of Default pursuant to Section 5(a), at the rate (the “Default Rate”)
equal to the lower of twenty percent (20%) per annum or the highest rate
permitted by law. Unless otherwise agreed or required by applicable
law, payments will be applied first to any unpaid collection costs, then to
unpaid interest and fees (including late charges, if applicable) and any
remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
|
A.
|
the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
|
|
B.
|
the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
|
|
C.
|
the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
|
|
D.
|
the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
|
|
E.
|
the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
|
then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets
of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
|
Conversion
information:
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Date
to Effect Conversion
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|
Aggregate
Principal Amount of Note Being
Converted
|
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|
Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.3
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-2 Current Principal Amount $1,522,687.06
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of MANCHESTER
SECURITIES CORPORATION or its registered assigns or successors-in-interest
(“Holder”) the principal sum of ONE MILLION FIVE HUNDRED TWENTY TWO THOUSAND SIX
HUNDRED EIGHTY SEVEN DOLLARS AND SIX CENTS (U.S. $1,522,687.06) (representing
the principal amount outstanding on the New Issuance Date (as defined below),
plus all accrued but unpaid interest since October 23, 2002), together with
all
accrued but unpaid interest thereon, if any, on the Maturity Date, to the extent
such principal amount and interest has not been converted into the Company's
Common Stock, $0.001 par value per share (the “Common Stock”), in accordance
with the terms hereof. Interest on the unpaid principal balance
hereof shall accrue at the rate of 7% per annum from the amended and restated
issuance date of this Note, June 26, 2007 (the “New Issuance Date”), until the
same becomes due and payable on the Maturity Date, or such earlier date upon
acceleration or by conversion or redemption in accordance with the terms hereof
or of the other Transaction Documents. Interest on this Note shall
accrue daily commencing on the New Issuance Date, shall be compounded monthly
and shall be computed on the basis of a 360-day year, 30-day months and actual
days elapsed and shall be payable in accordance with Section 1 hereof; provided,
however, that nothing in the foregoing shall be deemed to modify the calculation
of the Principal Amount based on a different rate of interest applied prior
to
the New Issuance Date. Notwithstanding anything contained herein,
this Note shall bear interest on the due and unpaid Principal Amount from and
after the occurrence and during the continuance of an Event of Default pursuant
to Section 5(a), at the rate (the “Default Rate”) equal to the lower of twenty
percent (20%) per annum or the highest rate permitted by law. Unless
otherwise agreed or required by applicable law, payments will be applied first
to any unpaid collection costs, then to unpaid interest and fees (including
late
charges, if applicable) and any remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
|
A.
|
the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
|
|
B.
|
the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
|
|
C.
|
the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
|
|
D.
|
the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
|
|
E.
|
the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
|
then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
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Conversion
information:
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Date
to Effect Conversion
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Aggregate
Principal Amount of Note Being
Converted
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Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.4
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-3 Current Principal Amount $147,240.00
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of MANCHESTER
SECURITIES CORPORATION or its registered assigns or successors-in-interest
(“Holder”) the principal sum of ONE HUNDRED FORTY SEVEN THOUSAND TWO HUNDRED
FORTY U.S. DOLLARS (U.S. $147,240.00) (representing the principal amount
outstanding on the New Issuance Date (as defined below), plus all accrued but
unpaid interest since October 23, 2002), together with all accrued but unpaid
interest thereon, if any, on the Maturity Date, to the extent such principal
amount and interest has not been converted into the Company's Common Stock,
$0.001 par value per share (the “Common Stock”), in accordance with the terms
hereof. Interest on the unpaid principal balance hereof shall accrue
at the rate of 7% per annum from the amended and restated issuance date of
this
Note, June 26, 2007 (the “New Issuance Date”), until the same becomes due and
payable on the Maturity Date, or such earlier date upon acceleration or by
conversion or redemption in accordance with the terms hereof or of the other
Transaction Documents. Interest on this Note shall accrue daily
commencing on the New Issuance Date, shall be compounded monthly and shall
be
computed on the basis of a 360-day year, 30-day months and actual days elapsed
and shall be payable in accordance with Section 1 hereof; provided, however,
that nothing in the foregoing shall be deemed to modify the calculation of
the
Principal Amount based on a different rate of interest applied prior to the
New
Issuance Date. Notwithstanding anything contained herein, this Note
shall bear interest on the due and unpaid Principal Amount from and after the
occurrence and during the continuance of an Event of Default pursuant to Section
5(a), at the rate (the “Default Rate”) equal to the lower of twenty percent
(20%) per annum or the highest rate permitted by law. Unless
otherwise agreed or required by applicable law, payments will be applied first
to any unpaid collection costs, then to unpaid interest and fees (including
late
charges, if applicable) and any remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
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A.
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the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
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B.
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the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
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C.
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the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
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D.
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the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
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E.
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the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
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then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
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Conversion
information:
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Date
to Effect Conversion
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Aggregate
Principal Amount of Note Being
Converted
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Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.5
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-4 Current Principal Amount $1,121,625.00
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of MANCHESTER
SECURITIES CORPORATION or its registered assigns or successors-in-interest
(“Holder”) the principal sum of ONE MILLION ONE HUNDRED TWENTY ONE THOUSAND SIX
HUNDRED TWENTY FIVE U.S. DOLLARS (U.S. $1,121,625.00) (representing the
principal amount outstanding on the New Issuance Date (as defined below), plus
all accrued but unpaid interest since October 23, 2002), together with all
accrued but unpaid interest thereon, if any, on the Maturity Date, to the extent
such principal amount and interest has not been converted into the Company's
Common Stock, $0.001 par value per share (the “Common Stock”), in accordance
with the terms hereof. Interest on the unpaid principal balance
hereof shall accrue at the rate of 7% per annum from the amended and restated
issuance date of this Note, June 26, 2007 (the “New Issuance Date”), until the
same becomes due and payable on the Maturity Date, or such earlier date upon
acceleration or by conversion or redemption in accordance with the terms hereof
or of the other Transaction Documents. Interest on this Note shall
accrue daily commencing on the New Issuance Date, shall be compounded monthly
and shall be computed on the basis of a 360-day year, 30-day months and actual
days elapsed and shall be payable in accordance with Section 1 hereof; provided,
however, that nothing in the foregoing shall be deemed to modify the calculation
of the Principal Amount based on a different rate of interest applied prior
to
the New Issuance Date. Notwithstanding anything contained herein,
this Note shall bear interest on the due and unpaid Principal Amount from and
after the occurrence and during the continuance of an Event of Default pursuant
to Section 5(a), at the rate (the “Default Rate”) equal to the lower of twenty
percent (20%) per annum or the highest rate permitted by law. Unless
otherwise agreed or required by applicable law, payments will be applied first
to any unpaid collection costs, then to unpaid interest and fees (including
late
charges, if applicable) and any remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
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A.
|
the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
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B.
|
the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
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C.
|
the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
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D.
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the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
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E.
|
the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
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then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets
of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
|
Conversion
information:
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Date
to Effect Conversion
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|
Aggregate
Principal Amount of Note Being
Converted
|
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Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.6
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-5 Current Principal Amount $1,622,405.00
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of ALEXANDER FINANCE
L.P. or its registered assigns or successors-in-interest (“Holder”) the
principal sum of ONE MILLION SIX HUNDRED TWENTY-TWO THOUSAND FOUR HUNDRED FIVE
U.S. DOLLARS AND ZERO CENTS (U.S. $1,622,405.00) (representing the principal
amount outstanding on the New Issuance Date (as defined below), plus all accrued
but unpaid interest since October 23, 2002), together with all accrued but
unpaid interest thereon, if any, on the Maturity Date, to the extent such
principal amount and interest has not been converted into the Company's Common
Stock, $0.001 par value per share (the “Common Stock”), in accordance with the
terms hereof. Interest on the unpaid principal balance hereof shall
accrue at the rate of 7% per annum from the amended and restated issuance date
of this Note, June 26, 2007 (the “New Issuance Date”), until the same becomes
due and payable on the Maturity Date, or such earlier date upon acceleration
or
by conversion or redemption in accordance with the terms hereof or of the other
Transaction Documents. Interest on this Note shall accrue daily
commencing on the New Issuance Date, shall be compounded monthly and shall
be
computed on the basis of a 360-day year, 30-day months and actual days elapsed
and shall be payable in accordance with Section 1 hereof; provided, however,
that nothing in the foregoing shall be deemed to modify the calculation of
the
Principal Amount based on a different rate of interest applied prior to the
New
Issuance Date. Notwithstanding anything contained herein, this Note
shall bear interest on the due and unpaid Principal Amount from and after the
occurrence and during the continuance of an Event of Default pursuant to Section
5(a), at the rate (the “Default Rate”) equal to the lower of twenty percent
(20%) per annum or the highest rate permitted by law. Unless
otherwise agreed or required by applicable law, payments will be applied first
to any unpaid collection costs, then to unpaid interest and fees (including
late
charges, if applicable) and any remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
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A.
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the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
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B.
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the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
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C.
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the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
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D.
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the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
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E.
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the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
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then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets
of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
E-
#9087409
v2
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
26, 2007.
ISCO
INTERNATIONAL, INC.
By:
/s/ John Thode
Name: John
Thode
Title: CEO
Attest
:
Sign:
/s/ Frank
Cesario
Print
Name: Frank Cesario
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
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Conversion
information:
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Date
to Effect Conversion
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Aggregate
Principal Amount of Note Being
Converted
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Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.7
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-6 Current Principal Amount $1,314,300.00
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of ALEXANDER FINANCE
L.P. or its registered assigns or successors-in-interest (“Holder”) the
principal sum of ONE MILLION THREE HUNDRED FOURTEEN THOUSAND THREE HUNDRED
U.S.
DOLLARS AND ZERO CENTS (U.S. $1,314,300.00) (representing the principal amount
outstanding on the New Issuance Date (as defined below), plus all accrued but
unpaid interest since October 23, 2002), together with all accrued but unpaid
interest thereon, if any, on the Maturity Date, to the extent such principal
amount and interest has not been converted into the Company's Common Stock,
$0.001 par value per share (the “Common Stock”), in accordance with the terms
hereof. Interest on the unpaid principal balance hereof shall accrue
at the rate of 7% per annum from the amended and restated issuance date of
this
Note, June 26, 2007 (the “New Issuance Date”), until the same becomes due and
payable on the Maturity Date, or such earlier date upon acceleration or by
conversion or redemption in accordance with the terms hereof or of the other
Transaction Documents. Interest on this Note shall accrue daily
commencing on the New Issuance Date, shall be compounded monthly and shall
be
computed on the basis of a 360-day year, 30-day months and actual days elapsed
and shall be payable in accordance with Section 1 hereof; provided, however,
that nothing in the foregoing shall be deemed to modify the calculation of
the
Principal Amount based on a different rate of interest applied prior to the
New
Issuance Date. Notwithstanding anything contained herein, this Note
shall bear interest on the due and unpaid Principal Amount from and after the
occurrence and during the continuance of an Event of Default pursuant to Section
5(a), at the rate (the “Default Rate”) equal to the lower of twenty percent
(20%) per annum or the highest rate permitted by law. Unless
otherwise agreed or required by applicable law, payments will be applied first
to any unpaid collection costs, then to unpaid interest and fees (including
late
charges, if applicable) and any remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
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A.
|
the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
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B.
|
the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
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C.
|
the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
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D.
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the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
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E.
|
the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
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then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets
of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
|
Conversion
information:
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Date
to Effect Conversion
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|
Aggregate
Principal Amount of Note Being
Converted
|
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|
Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.8
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-7 Current Principal Amount $1,375,000.00
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of ALEXANDER FINANCE
L.P. or its registered assigns or successors-in-interest (“Holder”) the
principal sum of ONE MILLION THREE HUNDRED SEVENTY FIVE THOUSAND U.S. DOLLARS
AND ZERO CENTS (U.S. $1,375,000.00) (representing the principal amount
outstanding on the New Issuance Date (as defined below), plus all accrued but
unpaid interest since October 23, 2002), together with all accrued but unpaid
interest thereon, if any, on the Maturity Date, to the extent such principal
amount and interest has not been converted into the Company's Common Stock,
$0.001 par value per share (the “Common Stock”), in accordance with the terms
hereof. Interest on the unpaid principal balance hereof shall accrue
at the rate of 7% per annum from the amended and restated issuance date of
this
Note, June 26, 2007 (the “New Issuance Date”), until the same becomes due and
payable on the Maturity Date, or such earlier date upon acceleration or by
conversion or redemption in accordance with the terms hereof or of the other
Transaction Documents. Interest on this Note shall accrue daily
commencing on the New Issuance Date, shall be compounded monthly and shall
be
computed on the basis of a 360-day year, 30-day months and actual days elapsed
and shall be payable in accordance with Section 1 hereof; provided, however,
that nothing in the foregoing shall be deemed to modify the calculation of
the
Principal Amount based on a different rate of interest applied prior to the
New
Issuance Date. Notwithstanding anything contained herein, this Note
shall bear interest on the due and unpaid Principal Amount from and after the
occurrence and during the continuance of an Event of Default pursuant to Section
5(a), at the rate (the “Default Rate”) equal to the lower of twenty percent
(20%) per annum or the highest rate permitted by law. Unless
otherwise agreed or required by applicable law, payments will be applied first
to any unpaid collection costs, then to unpaid interest and fees (including
late
charges, if applicable) and any remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
|
A.
|
the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
|
|
B.
|
the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
|
|
C.
|
the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
|
|
D.
|
the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
|
|
E.
|
the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
|
then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets
of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
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Date
to Effect Conversion
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Aggregate
Principal Amount of Note Being
Converted
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Aggregate
Interest (plus any applicable late charges) Being
Converted
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of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Exhibit
10.9
NEITHER
THESE SECURITIES NOR THE SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE
HAVE BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION IN RELIANCE
UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED
(THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT
PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR
PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO,
THE
REGISTRATION REQUIREMENTS OF THE SECURITIES ACT.
THIS
NOTE
DOES NOT REQUIRE PHYSICAL SURRENDER OF THE NOTE IN THE EVENT OF A PARTIAL
REDEMPTION OR CONVERSION. AS A RESULT, FOLLOWING ANY REDEMPTION OR
CONVERSION OF ANY PORTION OF THIS NOTE, THE OUTSTANDING PRINCIPAL AMOUNT
REPRESENTED BY THIS NOTE MAY BE LESS THAN THE PRINCIPAL AMOUNT AND ACCRUED
INTEREST SET FORTH BELOW.
AMENDED
AND RESTATED
7%
SENIOR SECURED CONVERTIBLE NOTE DUE AUGUST 1, 2009
OF
ISCO
INTERNATIONAL, INC.
Note
No.:
F-8 Current Principal Amount $550,000.00
Original
Issuance Date: October 23, 2002 Elk Grove Village, Illinois
Amended
& Restated Issuance Date: June 26, 2007
This
AMENDED AND RESTATED Note (“Note”) is one of a duly authorized issue of notes of
ISCO INTERNATIONAL, INC., a corporation duly organized and existing under the
laws of the State of Delaware (the “Company”), originally designated as part of
the Company's 9½% Secured Grid Notes due March 31, 2004, as amended from time to
time, and is now amended and restated, with the other notes issued in that
series and other notes issued pursuant to the Loan Agreement (as defined below),
as a 7% Senior Secured Convertible Note Due August 1, 2009 (“Maturity Date”) of
the Company.
For
Value
Received, the Company hereby promises to pay to the order of ALEXANDER FINANCE
L.P. or its registered assigns or successors-in-interest (“Holder”) the
principal sum of FIVE HUNDRED FIFTY THOUSAND U.S. DOLLARS AND ZERO CENTS (U.S.
$550,000.00) (representing the principal amount outstanding on the New Issuance
Date (as defined below), plus all accrued but unpaid interest since October
23,
2002), together with all accrued but unpaid interest thereon, if any, on the
Maturity Date, to the extent such principal amount and interest has not been
converted into the Company's Common Stock, $0.001 par value per share (the
“Common Stock”), in accordance with the terms hereof. Interest on the
unpaid principal balance hereof shall accrue at the rate of 7% per annum from
the amended and restated issuance date of this Note, June 26, 2007 (the “New
Issuance Date”), until the same becomes due and payable on the Maturity Date, or
such earlier date upon acceleration or by conversion or redemption in accordance
with the terms hereof or of the other Transaction Documents. Interest
on this Note shall accrue daily commencing on the New Issuance Date, shall
be
compounded monthly and shall be computed on the basis of a 360-day year, 30-day
months and actual days elapsed and shall be payable in accordance with Section
1
hereof; provided, however, that nothing in the foregoing shall be deemed to
modify the calculation of the Principal Amount based on a different rate of
interest applied prior to the New Issuance Date. Notwithstanding
anything contained herein, this Note shall bear interest on the due and unpaid
Principal Amount from and after the occurrence and during the continuance of
an
Event of Default pursuant to Section 5(a), at the rate (the “Default Rate”)
equal to the lower of twenty percent (20%) per annum or the highest rate
permitted by law. Unless otherwise agreed or required by applicable
law, payments will be applied first to any unpaid collection costs, then to
unpaid interest and fees (including late charges, if applicable) and any
remaining amount to principal.
Except
as
otherwise provided herein, all payments of principal and interest (including
late charges, if applicable) on this Note shall be made in lawful money of
the
United States of America by wire transfer of immediately available funds to
such
account as the Holder may from time to time designate by written notice in
accordance with the provisions of this Note or by Company check. This
Note may not be prepaid in whole or in part except as otherwise provided
herein. Whenever any amount expressed to be due by the terms of this
Note is due on any day which is not a Business Day (as defined below), the
same
shall instead be due on the next succeeding day which is a Business
Day.
Capitalized
terms used herein and not otherwise defined shall have the meanings set forth
in
the Amendment Agreement dated on or about the New Issuance Date pursuant to
which this Note was issued (the “Amendment Agreement”). For purposes hereof the
following terms shall have the meanings ascribed to them below:
“Business
Day” shall mean any day other than a Saturday, Sunday or a day on which
commercial banks in the City of New York are authorized or required by law
or
executive order to remain closed.
“Change
in Control Transaction” will be deemed to exist if (i) there occurs any
consolidation, merger or other business combination of the Company with or
into
any other corporation or other entity or person (whether or not the Company
is
the surviving corporation), or any other corporate reorganization or transaction
or series of related transactions in which in any of such events the voting
stockholders of the Company prior to such event cease to own 50% or more of
the
voting stock, or corresponding voting equity interests, of the surviving
corporation after such event (including without limitation any “going private”
transaction under Rule 13e-3 promulgated pursuant to the Exchange Act (as
defined below) or tender offer by the Company under Rule 13e-4 promulgated
pursuant to the Exchange Act for 20% or more of the Company's Common Stock),
(ii) any person (as defined in Section 13(d) of the Exchange Act), together
with
its affiliates and associates (as such terms are defined in Rule 405 under
the
Securities Act), beneficially owns or is deemed to beneficially own (as
described in Rule 13d-3 under the Exchange Act without regard to the 60-day
exercise period) in excess of 50% of the Company's voting power, (iii) there
is
a replacement of more than one-half of the members of the Company’s Board of
Directors which is not approved by those individuals who are members of the
Company's Board of Directors on the date thereof, or (iv) in one or a series
of
related transactions, there is a sale or transfer of all or substantially all
of
the assets of the Company, determined on a consolidated basis, or (v) the
execution by the Company of an agreement to which the Company is a party or
which it is bound providing for an event set forth in (i), (ii), (iii) or (iv)
above.
“Conversion
Ratio” means, at any time, a fraction, of which the numerator is the entire
outstanding Principal Amount of this Note (or such portion thereof that is
being
redeemed or repurchased), and of which the denominator is the then applicable
Conversion Price.
“Conversion
Price” shall equal $0.20 (which Conversion Price shall be subject to adjustment
as set forth herein).
“Conversion
Shares” means the shares of Common Stock into which the Notes are convertible
(including repayment in Common Stock as set forth herein) in accordance with
the
terms hereof and the Amendment Agreement and Loan Agreement.
“Convertible
Securities” means any convertible securities, warrants, options or other rights
to subscribe for or to purchase or exchange for, shares of Common
Stock.
“Debt”
shall mean indebtedness of any kind.
“Effective
Date” means the date on which a Registration Statement covering all the
Conversion Shares and other Registrable Securities (as defined in the
Registration Rights Agreement) is declared effective by the Securities and
Exchange Commission.
“Exchange
Act” shall mean the Securities Exchange Act of 1934, as amended.
“Fair
Market Price” shall mean the closing price (or closing bid price) for the Common
Stock on the Trading Day immediately preceding the date on which the price
is
being determined.
“Loan
Agreement” shall mean the Third Amended and Restated Loan Agreement, dated as of
November 10, 2004, as amended, by and among the Company, Manchester Securities
Corporation and Alexander Finance, L.P.
“Market
Price” shall equal 90% of the average of the VWAP for each of the twenty (20)
Trading Days, excluding the five (5) highest Trading Days (i.e. the
Trading Days with the highest VWAP) from the average, immediately preceding
the
date on which such Market Price is being determined.
“MFN
Transaction” shall mean a transaction in which the Company issues or sells any
securities in a capital raising transaction or series of related transactions
(the “MFN Offering”) which grants to the investor (the “MFN Investor”) the right
to receive additional securities based upon future capital raising transactions
of the Company on terms more favorable than those granted to the MFN Investor
in
the MFN Offering.
“Per
Share Selling Price” shall include the amount actually paid by third parties for
each share of Common Stock in a sale or issuance by the Company. In
the event a fee is paid by the Company in connection with such transaction
directly or indirectly to such third party or its affiliates, any such fee
shall
be deducted from the selling price pro rata to all shares sold in the
transaction to arrive at the Per Share Selling Price. A sale of
shares of Common Stock shall include the sale or issuance of rights, options,
warrants or convertible, exchangeable or exercisable securities, issued or
sold
on or subsequent to the Closing Date, under which the Company is or may become
obligated to issue shares of Common Stock, and in such circumstances the Per
Share Selling Price of the Common Stock covered thereby shall also include
the
exercise, exchange or conversion price thereof (in addition to the consideration
received by the Company upon such sale or issuance less the fee amount as
provided above). In case of any such security issued or sold on or
subsequent to the Closing Date in an MFN Transaction, the Per Share Selling
Price shall be deemed to be the lowest conversion or exercise price at which
such securities are converted or exercised, or the lowest adjustment price
in
the case of an MFN Transaction, over the life of such securities. If
shares are issued for a consideration other than cash, the Per Share Selling
Price shall be the fair value of such consideration as determined in good faith
by independent certified public accountants mutually acceptable to the Company
and the Purchaser. In the event the Company directly or indirectly
effectively reduces the conversion, exercise or exchange price for any
Convertible Securities issued or sold on or subsequent to the Closing Date
which
are currently outstanding (other than pursuant to the terms of the transaction
documentation for such securities as in effect on the date hereof), then the
Per
Share Selling Price shall equal such effectively reduced conversion, exercise
or
exchange price.
“Principal
Amount” shall refer to the sum of (i) the original principal amount of this
Note, (ii) all accrued but unpaid interest hereunder, and (iii) any default
payments owing under the Transaction Documents but not previously paid or added
to the Principal Amount.
“Principal
Market” shall mean the American Stock Exchange or such other principal market or
exchange on which the Common Stock is then listed for trading.
“Redemption
Date” shall mean the date on which the Company has elected to redeem this Note
pursuant to Section 1(c) below.
“Registration
Statement” shall have the meaning set forth in the Registration Rights
Agreement.
“Securities
Act” shall mean the Securities Act of 1933, as amended.
“Trading
Day” shall mean (x) if the Common Stock is listed on the New York Stock Exchange
or the American Stock Exchange, a day on which there is trading on such stock
exchange, or (y) if the Common Stock is not listed on either of such stock
exchanges but sale prices of the Common Stock are reported on an automated
quotation system, a day on which trading is reported on the principal automated
quotation system on which sales of the Common Stock are reported, or (z) if
the
foregoing provisions are inapplicable, a day on which quotations are reported
by
National Quotation Bureau Incorporated.
“VWAP”
shall mean the daily volume weighted average price of the Common Stock on the
Principal Market as reported by Bloomberg Financial L.P. (based on a trading
day
from 9:30 a.m. Eastern Time to 4:00 p.m. Eastern Time) using the AQR function
on
the date in question.
The
following terms and conditions shall apply to this Note:
Section
1. Payments of Principal and Interest .
(a)
Interest . Subject to Section 3(i) below, this
Note shall accrue interest at a rate of 7% per annum daily commencing on the
New
Issuance Date, shall be compounded monthly and shall be computed on the basis
of
a 360-day year, 30-day months and actual days elapsed. Accrued
interest shall be added to the Principal Amount of this Note.
(b)
Payment of Principal. Subject to the provisions
hereof, the Principal Amount of this Note shall be due and payable in cash
on
the Maturity Date.
(c)
Redemption Right of Company . Beginning on the
two (2) year anniversary of the New Issuance Date, the Company shall have the
right to redeem this Note in full (but not less than full) in cash upon
delivering notice in writing sixty (60) days prior to such Redemption
Date. Nothing in this Section 1(c) shall prohibit the Holder from
converting this Note prior to the Redemption Date.
Section
2. Seniority . The obligations of the
Company hereunder shall rank pari passu to the Company’s notes issued under and
governed by the Loan Agreement and the Securities Purchase Agreement, dated
as
of June 22, 2006, by and among the Company and the Holder and Alexander Finance,
L.P. (the “Purchase Agreement”), and shall be senior to the Company’s unsecured
indebtedness.
Section
3. Conversion .
(a)
Conversion by Holder . Subject to the terms
hereof and restrictions and limitations contained herein, the Holder shall
have
the right, at such Holder's option, at any time and from time to time to convert
the outstanding Principal Amount under this Note in whole or in part by
delivering to the Company a fully executed notice of conversion in the form
of
conversion notice attached hereto as Exhibit A (the “Conversion Notice”),
which may be transmitted by facsimile or electronic transmission
(with the original mailed on the same day be certified or registered mail,
postage prepaid and return receipt requested), on the date of conversion (the
“Conversion Date”). A Conversion Notice shall be deemed sent on the
date of delivery if delivered before 5:00 p.m. Eastern Standard Time on such
date, or the day following such date if delivered after 5:00 p.m. Eastern
Standard Time. Notwithstanding anything to the contrary herein, this
Note and the outstanding Principal Amount hereunder shall not be convertible
into Common Stock to the extent that such conversion would result in the Holder
hereof exceeding the limitations contained in, or otherwise violating the
provisions of Section 3(i) below.
(b)
Conversion Date Procedures . Upon conversion of
this Note pursuant to this Section 3, the outstanding Principal Amount hereunder
shall be converted into such number of fully paid, validly issued and
non-assessable shares of Common Stock, free of any liens, claims and
encumbrances, as is determined by dividing the outstanding Principal Amount
(and, at the election of the Holder, any accrued interest or applicable late
charges) being converted by the then applicable Conversion Price. If
a conversion under this Note cannot be effected in full for any reason, or
if
the Holder is converting less than all of the outstanding Principal Amount
hereunder pursuant to a Conversion Notice, the Company shall, upon request
by
the Holder, promptly deliver to the Holder (but no later than five Trading
Days
after the Conversion Date) a Note for such outstanding Principal Amount (and,
at
the election of the Holder, any accrued interest or applicable late charges)
as
has not been converted if this Note has been surrendered to the Company for
partial conversion. The Holder shall not be required to physically
surrender this Note to the Company upon any conversion hereunder unless the
full
outstanding Principal Amount (and, at the election of the Holder, any accrued
interest or applicable late charges) represented by this Note is being converted
or repaid. The Holder and the Company shall maintain records showing
the outstanding Principal Amount (and, at the election of the Holder, any
accrued interest or applicable late charges) so converted and repaid and the
dates of such conversions or repayments or shall use such other method,
reasonably satisfactory to the Holder and the Company, so as not to require
physical surrender of this Note upon each such conversion or
repayment.
(i)
Stock Certificates or DWAC . The Company will
deliver to the Holder not later than three (3) Trading Days after the Conversion
Date, a certificate or certificates which shall be free of restrictive legends
and trading restrictions (assuming that the Registration Statement has been
declared effective), representing the number of shares of Common Stock being
acquired upon the conversion of this Note. In lieu of delivering
physical certificates representing the shares of Common Stock issuable upon
conversion of this Note, provided the Company's transfer agent is participating
in the Depository Trust Company (“DTC”) Fast Automated Securities Transfer
(“FAST”) program, upon request of the Holder, the Company shall use commercially
reasonable efforts to cause its transfer agent to electronically transmit such
shares issuable upon conversion to the Holder (or its designee), by crediting
the account of the Holder’s (or such designee’s) prime broker with DTC through
its Deposit Withdrawal Agent Commission system (provided that the same time
periods herein as for stock certificates shall apply). If in the case
of any conversion hereunder, such certificate or certificates are not delivered
to or as directed by the Holder by the third Trading Day after the Conversion
Date, the Holder shall be entitled by written notice to the Company at any
time
on or before its receipt of such certificate or certificates thereafter, to
rescind such conversion, in which event the Company shall immediately return
this Note tendered for conversion.
(c)
Conversion Price Adjustments .
(i)
Stock Dividends and Splits. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding (A) shall pay a stock
dividend or otherwise make a distribution or distributions on any equity
securities (including instruments or securities convertible into or exchangeable
for such equity securities) in shares of Common Stock, or (B) subdivide
outstanding Common Stock into a larger number of shares, then the applicable
then Conversion Price shall be multiplied by a fraction, the numerator of which
shall be the number of shares of Common Stock outstanding before such event
and
the denominator of which shall be the number of shares of Common Stock
outstanding after such event. Any adjustment made pursuant to this
Section 3(c)(i) shall become effective immediately after the record date for
the
determination of stockholders entitled to receive such dividend or distribution
and shall become effective immediately after the effective date in the case
of a
subdivision.
(ii)
Distributions. If the Company or any of its
subsidiaries, at any time while the Notes are outstanding, shall distribute
to
all holders of Common Stock evidences of its indebtedness or assets or cash
or
rights or warrants to subscribe for or purchase any security of the Company
or
any of its subsidiaries (excluding those referred to in Section 3(c)(i) above),
then concurrently with such distributions to holders of Common Stock, the
Company shall distribute to holders of the Notes the amount of such
indebtedness, assets, cash or rights or warrants which the holders of the Notes
would have received had the Notes been converted into Common Stock.
(iii)
Common Stock Issuances. In the event that the Company or
any of its subsidiaries on or subsequent to the date of the Amendment Agreement
(A) issues or sells any securities which are convertible into or exercisable
or
exchangeable for Common Stock (other than Notes issued under the Loan Agreement
or Purchase Agreement or shares or options issued or which may be issued
pursuant to the Company’s 2003 Equity Incentive Plan, as amended (the “Incentive
Plan”), up to the Incentive Plan Limit (as defined below)), or any warrants or
other rights to subscribe for or to purchase or any options for the purchase
of
its Common Stock, (B) directly or indirectly effectively reduces the conversion,
exercise or exchange price for any Convertible Securities (other than shares
or
options issued or which may be issued pursuant to the Incentive Plan up to
the
Incentive Plan Limit) which are currently outstanding (other than pursuant
to
terms existing on the date hereof) or (C) issues or sells any Common Stock
at or
to an effective Per Share Selling Price which is less than the Conversion Price
in effect immediately prior to such issue or sale or record date, as applicable,
then the Conversion Price shall be reduced by multiplying the existing
Conversion Price by a fraction (x) the numerator of which shall be the sum
of
(i) the number of shares of Common Stock outstanding immediately prior to such
sale or issuance or reduction and (ii) the number of shares of Common Stock
which the aggregate consideration received by the Company would purchase at
such
Conversion Price; and (y) the denominator of which shall be the number of shares
of Common Stock outstanding (or deemed outstanding, as discussed below)
immediately after such issue, sale or reduction. effective concurrently with
such issue or sale to equal such lower Per Share Selling Price.
“Incentive
Plan Limit” shall mean an amount, with respect to each calendar year, equal to
2.5% of the number of the Company’s outstanding shares of Common Stock, provided
that (AA) this amount shall be net of any shares or options issued under the
Incentive Plan which are cancelled, forfeited, expired or redeemed, and (BB)
for
purposes of calculating this amount, restricted shares shall count as two shares
of Common Stock and option shares shall count as one share of Common
Stock. To the extent that the Company issues securities under the
Incentive Plan beyond the Incentive Plan Limit, such issuances shall not be
exempt from the adjustment provisions of this Note.
For
the
purposes of the foregoing adjustment, in the case of any Convertible Securities,
the maximum number of shares of Common Stock issuable upon exercise, exchange
or
conversion of such Convertible Securities shall be deemed to be outstanding,
provided that no further adjustment shall be made upon the actual issuance
of
Common Stock upon exercise, exchange or conversion of such Convertible
Securities.
In
the
event a fee is paid by the Company in connection with a transaction described
in
this clause (iii), the portion of such fee in excess of 3% of the purchase
price
in such transactions shall be deducted from the selling price pro rata to all
shares sold in the transaction to arrive at the Per Share Selling
Price.
For
purposes of this Section 3(c)(iii), if an event occurs that triggers more than
one of the above adjustment provisions, then only one adjustment shall be made
and the calculation method which yields the greatest downward adjustment in
the
Conversion Price shall be used.
For
purposes of making the foregoing adjustments, the following provisions shall
apply.
A.
[Intentionally Omitted]
B.
Issuance of Convertible Securities . If the
Company in any manner issues or sells any Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) and the lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise
thereof is less than the Conversion Price in effect immediately prior to such
issuance, then such share of Common Stock shall be deemed to be outstanding
and
to have been issued and sold by the Company at the time of the issuance of
sale
of such Convertible Securities for such price per share. For the
purposes of this Section 3(c)(iii)(B), the “lowest price per share for which one
share of Common Stock is issuable upon such conversion, exchange or exercise”
shall be equal to the sum of the lowest amounts of consideration (if any)
received or receivable by the Company with respect to any one share of Common
Stock upon the issuance or sale of the Convertible Security and upon the
conversion, exchange or exercise of such Convertible Security. No
further adjustment of the Conversion Price shall be made upon the actual
issuance of such Common Stock upon conversion, exchange or exercise of such
Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any options for which adjustment of the
Conversion Price had been or are to be made pursuant to other provisions of
this
Section 3(c)(iii)(B), no further adjustment of the Conversion Price shall be
made by reason of such issue or sale.
C.
Change in Option Price or Rate of Conversion
. Except for shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit, if the purchase or
exercise price provided for in any Convertible Securities, the additional
consideration, if any, payable upon the issue, conversion, exchange or exercise
of any Convertible Securities, or the rate at which any Convertible Securities
are convertible into or exchangeable or exercisable for Common Stock changes
at
any time, the Conversion Price in effect at the time of such change shall be
adjusted to the Conversion Price that would have been in effect at such time
had
such Convertible Securities provided for such changed purchase price, additional
consideration or changed conversion rate, as the case may be, at the time
initially granted, issued or sold. For purposes of this Section
3(c)(iii)(C), if the terms of any option or Convertible Security that was
outstanding as of the date of issuance of the Notes are changed in the manner
described in the immediately preceding sentence, then such option or Convertible
Security and the Common Stock deemed issuable upon exercise, conversion or
exchange thereof shall be deemed to have been issued as of the date of such
change. No adjustment shall be made if such adjustment would result
in an increase of the Conversion Price then in effect.
D.
Calculation of Consideration Received . In case
any option is issued in connection with the issue or sale of other securities
of
the Company, together comprising one integrated transaction in which no specific
consideration is allocated to such options by the parties thereto, then solely
for purposes of this Section 3, the options will be deemed to have been issued
for a consideration of $0.01. If any Common Stock or Convertible
Securities (other than shares or options issued or which may be issued pursuant
to the Incentive Plan up to the Incentive Plan Limit) are issued or sold or
deemed to have been issued or sold for cash, the consideration received therefor
will be deemed to be the gross amount received by the Company
therefor. If any Common Stock or Convertible Securities (other than
shares or options issued or which may be issued pursuant to the Incentive Plan
up to the Incentive Plan Limit) are issued or sold for a consideration other
than cash, the amount of the consideration other than cash received by the
Company will be the fair value of such consideration, except where such
consideration consists of marketable securities, in which case the amount of
consideration received by the Company will be the arithmetic average of the
Closing Sale Prices of such securities during the ten (10) consecutive Trading
Days ending on the date of receipt of such securities. The fair value
of any consideration other than cash or securities will be determined jointly
by
the Company and the holders of the Notes. If such parties are unable
to reach agreement within ten (10) days after the occurrence of an event
requiring valuation (the “Valuation Event”), the fair value of such
consideration will be determined within five (5) Business Days after the tenth
(10 th ) day
following the Valuation Event by an independent, reputable appraiser selected
by
the Company and the holders of the Notes.
E.
Record Date . If the Company takes a record of
the holders of Common Stock for the purpose of entitling them (A) to receive
a
dividend or other distribution payable in Common Stock, options or Convertible
Securities or (B) to subscribe for or purchase Common Stock, options or
Convertible Securities, then such record date will be deemed to be the date
of
the issue or sale of the shares of Common Stock deemed to have been issued
or
sold upon the declaration of such dividend or the making of such other
distribution or the date of the granting of such right of subscription or
purchase, as the case may be.
(iv)
Rounding of Adjustments. All calculations under this
Section 3 shall be made to the nearest cent or the nearest 1/100th of a share,
as the case may be.
(v)
Notice of Adjustments. Whenever any Affected Conversion
Price is adjusted pursuant to Section 3(c)(ii) or (iii) above, the Company
shall
promptly deliver to each holder of the Notes, a notice setting forth the
Affected Conversion Price after such adjustment and setting forth a brief
statement of the facts requiring such adjustment, provided that any failure
to
so provide such notice shall not affect the automatic adjustment
hereunder.
(vi)
Change in Control Transactions. In case of any Change in
Control Transaction, the Holder shall have the right thereafter to, at its
option, (A) convert this Note, in whole or in part, at the then applicable
Conversion Price into the shares of stock and other securities, cash and/or
property receivable upon or deemed to be held by holders of Common Stock
following such Change in Control Transaction, and the Holder shall be entitled
upon such event to receive such amount of securities, cash or property as the
shares of the Common Stock of the Company into which this Note could have been
converted immediately prior to such Change in Control Transaction would have
been entitled if such conversion were permitted, subject to such further
applicable adjustments set forth in this Section 3 (provided that the
limitations in Section 3(i) shall not apply to the extent that Holder shall
have
waived them) or (B) require the Company or its successor to redeem this Note,
in
whole or in part, at a redemption price equal to 110% of the outstanding
Principal Amount (plus any accrued interest or applicable late charges) being
redeemed. The terms of any such Change in Control Transaction shall
include such terms so as to continue to give to the Holders the right to receive
the amount of securities, cash and/or property upon any conversion or redemption
following such Change in Control Transaction to which a holder of the number
of
shares of Common Stock deliverable upon such conversion would have been entitled
in such Change in Control Transaction, and interest payable hereunder shall
be
in cash or such new securities and/or property, at the Holder’s
option. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges. Notwithstanding any other provisions of this Note, the
Holder shall be permitted to convert all or any portion of the Principal Amount
(plus any accrued interest or late charges, if applicable) at the Conversion
Price described in Section 3(c) herein at any time until the consummation of
the
Change in Control Transaction.
(vii)
Notice of Certain Events. If:
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A.
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the
Company shall declare a dividend (or any other distribution) on its
Common
Stock; or
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B.
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the
Company shall declare a special nonrecurring cash dividend on or
a
redemption of its Common Stock; or
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C.
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the
Company shall authorize the granting to all holders of the Common
Stock
rights or warrants to subscribe for or purchase any shares of capital
stock of any class or of any rights;
or
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D.
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the
approval of any stockholders of the Company shall be required in
connection with any reclassification of the Common Stock of the Company,
any consolidation or merger to which the Company is a party, any
sale or
transfer of all or substantially all of the assets of the Company,
of any
compulsory share of exchange whereby the Common Stock is converted
into
other securities, cash or property;
or
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E.
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the
Company shall authorize the voluntary or involuntary dissolution,
liquidation or winding up of the affairs of the
Company;
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then
the
Company shall cause to be filed at each office or agency maintained for the
purpose of conversion of this Note, and shall cause to be mailed to the Holder
at its last address as it shall appear upon the books of the Company, on or
prior to the date notice to the Company's stockholders generally is given,
a
notice stating (x) the date on which a record is to be taken for the purpose
of
such dividend, distribution, redemption, rights or warrants, or if a record
is
not to be taken, the date as of which the holders of Common Stock of record
to
be entitled to such dividend, distributions, redemption, rights or warrants
are
to be determined or (y) the date on which such reclassification, consolidation,
merger, sale, transfer or share exchange is expected to become effective or
close, and the date as of which it is expected that holders of Common Stock
of
record shall be entitled to exchange their shares of Common Stock for
securities, cash or other property deliverable upon such reclassification,
consolidation, merger, sale, transfer or share exchange.
(d)
Reservation and Issuance of Underlying Securities
. The Company covenants that, beginning immediately after the
Required Approvals (as defined below) are obtained, it will at all times reserve
and keep available out of its authorized and unissued Common Stock solely for
the purpose of issuance upon conversion of this Note (including repayments
in
stock), free from preemptive rights or any other actual contingent purchase
rights of persons other than the holders of the Notes, not less than an amount
equal to the number of Conversion Shares. The Company covenants that
all shares of Common Stock that shall be so issuable shall, upon issue, be
duly
authorized, validly issued, fully paid, nonassessable and freely
tradeable.
(e)
No Fractions . Upon a conversion hereunder the
Company shall not be required to issue stock certificates representing fractions
of shares of Common Stock, but may if otherwise permitted, make a cash payment
in respect of any final fraction of a share based on the closing price of a
share of Common Stock on the Principal Market at such time. If the
Company elects not, or is unable, to make such cash payment, the Holder shall
be
entitled to receive, in lieu of the final fraction of a share, one whole share
of Common Stock.
(f)
Charges, Taxes and Expenses . Issuance of
certificates for shares of Common Stock upon the conversion of this Note
(including repayment in stock) shall be made without charge to the holder hereof
for any issue or transfer tax or other incidental expense in respect of the
issuance of such certificate, all of which taxes and expenses shall be paid
by
the Company, and such certificates shall be issued in the name of the Holder
or
in such name or names as may be directed by the Holder; provided ,
however , that in the event certificates for shares of Common Stock
are
to be issued in a name other than the name of the Holder, this Note when
surrendered for conversion shall be accompanied by an assignment form; and
providedfurther , that the Company shall not be required to pay
any tax or taxes which may be payable in respect of any such
transfer.
(g)
Cancellation . After all of the Principal Amount
(including accrued but unpaid interest and default payments (including any
applicable late charges) at any time owed on this Note) have been paid in full
or converted into Common Stock, this Note shall automatically be deemed canceled
and the Holder shall promptly surrender the Note to the Company at the Company’s
principal executive offices.
(h)
Notices Procedures . Any and all notices or other
communications or deliveries to be provided by the Holder hereunder, including,
without limitation, any Conversion Notice, shall be in writing and delivered
personally, by confirmed facsimile, electronic transmission, or by a nationally
recognized overnight courier service to the Company at the facsimile telephone
number or address of the principal place of business of the Company as set
forth
in the Loan Agreement. Any and all notices or other communications or
deliveries to be provided by the Company hereunder shall be in writing and
delivered personally, by facsimile, electronic transmission, or by a nationally
recognized overnight courier service addressed to the Holder at the facsimile
telephone number or address of the Holder appearing on the books of the Company,
or if no such facsimile telephone number or address appears, at the principal
place of business of the Holder. Any notice or other communication or
deliveries hereunder shall be deemed delivered (i) upon receipt, when delivered
personally, (ii) when sent by facsimile, upon receipt if received on a Business
Day prior to 5:00 p.m. (Eastern Time), or on the first Business Day following
such receipt if received on a Business Day after 5:00 p.m. (Eastern Time) or
(iii) upon receipt, when deposited with a nationally recognized overnight
courier service.
(i)
Required Approvals . The Holder acknowledges that
the Company is required to seek the approval of its stockholders to (i) increase
the number of authorized shares of Common Stock available for issuance under
its
Certificate of Incorporation, as amended (the “Certificate of Incorporation”)
and (ii) issue the shares of Common Stock issuable upon conversion of the Notes
pursuant to the rules of the American Stock Exchange
(“AMEX”). Notwithstanding anything contained herein to the contrary,
the Notes shall not be convertible into shares of Common Stock until (A) the
Certificate of Incorporation shall have been amended to increase the number
of
shares of Common Stock available for issuance in sufficient number to include
the shares of Common Stock issuable pursuant to the Notes, (B) the issuance
of
such shares shall have been approved by the Company’s stockholders and (C) such
shares shall have been approved for listing on AMEX (“collectively, the
“Required Approvals”). The Company shall use its reasonable best
efforts to seek the approval of its stockholders to amend the Certificate of
Incorporation to increase the number of shares of Common Stock available for
issuance in sufficient number to include the shares of Common Stock issuable
pursuant to the Notes, approve the issuance of the shares of Common Stock
issuable upon conversion of the Notes, and the approval by AMEX to list such
shares on AMEX. Notwithstanding the above, the Required Approvals
shall be obtained within one (1) year of the New Issuance Date (the “Approval
Deadline”). In the event that the Required Approvals are not obtained
by the first anniversary of the New Issuance Date, then the interest rate shall
thereafter be increased to accrue at a rate of 15% per annum. If the
Initial Conversion Shares and Conversion Shares are not registered under the
Registration Rights Agreement by the fifteen (15) month anniversary of the
New
Issuance Date, then the then-current interest rate shall increase by a rate
of
1% per annum each month thereafter (commencing on the day immediately following
such 15-month anniversary date) until such shares are registered, up to the
Default Rate.
Section
4. Defaults and Remedies .
(a)
Events of Default
. An
“Event of Default” is: (i) a default in the payment of any Principal
Amount of the Notes; (ii) default in payment of the principal amount or accrued
but unpaid interest thereon of any of the June 2006 Notes issued to Holder
(as
defined in the Purchase Agreement), or the Amended and Restated Notes (as
defined in the Amendment Agreement) other than this Note (collectively, this
Note, the other Amended and Restated Notes and the June 2006 Notes shall be
referred to as the “ISCO Notes”), on or after the date such payment is due,
(iii) failure by the Company for ten (10) days after notice to it, to comply
with any other material provision of any of the ISCO Notes, the Registration
Rights Agreement or the Purchase Agreement or the Loan Agreement; (iv) an Event
of Default under the Security Agreement or the ISCO Notes; (v) a breach by
the
Company of its representations or warranties in the Loan Agreement, Amendment
Agreement or under any of the Guaranties (as defined below); (vi) any default
under or acceleration prior to maturity of any mortgage, indenture or instrument
under which there may be issued or by which there may be secured or evidenced
any indebtedness for money borrowed by the Company or a subsidiary of the
Company or for money borrowed the repayment of which is guaranteed by the
Company or a subsidiary of the Company, whether such indebtedness or guarantee
now exists or shall be created hereafter, provided that the obligations with
respect to any such borrowed or accelerated amount exceeds, in the aggregate,
$500,000; (vii) any money judgment, writ or warrant of attachment, or similar
process in excess of $500,000 in the aggregate shall be entered or filed against
the Company or a subsidiary of the Company or any of their respective properties
or other assets and shall remain unpaid, unvacated, unbonded and unstayed for
a
period of 45 days; (viii) if the Company or any subsidiary of the Company
pursuant to or within the meaning of any Bankruptcy Law: (A)
commences a voluntary case; (B) has an involuntary case commenced against it,
and such case is not dismissed within 30 days of such commencement or consents
to the entry of an order for relief against it in an involuntary case; (C)
consents to the appointment of a Custodian of it for all or substantially all
of
its property; (D) makes a general assignment for the benefit of its creditors;
or (E) admits in writing that it is generally unable to pay its debts as the
same become due; or (ix) a court of competent jurisdiction enters an order
or
decree under any Bankruptcy Law that: (1) is for relief against the
Company in an involuntary case; (2) appoints a Custodian of the Company or
for
all or substantially all of its property; or (3) orders the liquidation of
the
Company or any subsidiary, and the order or decree remains unstayed and in
effect for ninety (90) days. The terms “Bankruptcy Law” means Title
11, U.S. Code, or any similar federal or state law for the relief of
debtors. The term “Custodian” means any receiver, trustee, assignee,
liquidator or similar official under any Bankruptcy Law.
(b)
Remedies . If an Event of Default occurs and is
continuing with respect to any of the Notes, the Holder may declare all of
the
then outstanding Principal Amount of this Note and all other Notes held by
the
Holder, including any interest due thereon, to be due and payable immediately,
except that in the case of an Event of Default arising from events described
in
clauses (vii) and (viii) of Section 4(a) hereof, this Note shall become due
and
payable without further action or notice. In the event of an
acceleration, the amount due and owing to the Holder shall be the greater of
(1)
110% of the outstanding Principal Amount of the Notes held by the Holder (plus
all accrued and unpaid interest, if any) and (2) the product of (A) the highest
closing price for the five (5) Trading Days immediately preceding the Holder’s
acceleration and (B) the Conversion Ratio. In either case the Company
shall pay interest on such amount in cash at the Default Rate to the Holder
if
such amount is not paid within seven days of Holder’s request. The
remedies under this Note shall be cumulative.
Section
5. Loan Agreement; Amendment Agreement; Security
Agreement; Guaranties . This Note is being issued to the Holder
in connection with the Loan Agreement and Amendment Agreement and is entitled
to
the benefits thereof. In addition the Company’s obligations under
this Note are guaranteed by the Guaranties (the “Guaranties”) of Spectral
Solutions, Inc. and Illinois Superconductor Canada Corporation, subsidiaries
of
the Company (the together, the “Guarantors”) and this Note is entitled to the
benefits thereof. The Company’s obligations under this Note are also
secured, pursuant to the terms of the Security Agreement by all the assets
of
the Company and the Guarantors.
Section
6. General .
(a)
Payment of Expenses . The Company agrees to pay
all reasonable charges and expenses, including reasonable attorneys' fees and
expenses, which may be incurred by the Holder in successfully enforcing this
Note and/or collecting any amount due under this Note.
(b)
Savings Clause . In case any provision of this
Note is held by a court of competent jurisdiction to be excessive in scope
or
otherwise invalid or unenforceable, such provision shall be adjusted rather
than
voided, if possible, so that it is enforceable to the maximum extent possible,
and the validity and enforceability of the remaining provisions of this Note
will not in any way be affected or impaired thereby. In no event
shall the amount of interest paid hereunder exceed the maximum rate of interest
on the unpaid principal balance hereof allowable by applicable
law. If any sum is collected in excess of the applicable maximum
rate, the excess collected shall be applied to reduce the principal
debt. If the interest actually collected hereunder is still in excess
of the applicable maximum rate, the interest rate shall be reduced so as not
to
exceed the maximum allowable under law.
(c)
Amendment . Neither this Note nor any term hereof
may be amended, waived, discharged or terminated other than by a written
instrument signed by the Company and holders of 75% of the Principal Amount
of
all Notes.
(d)
Assignment, Etc. The Holder may assign or
transfer this Note to any transferee. The Holder shall notify the
Company of any such assignment or transfer promptly. This Note shall
be binding upon the Company and its successors and shall inure to the benefit
of
the Holder and its successors and permitted assigns.
(e)
No Waiver . No failure on the part of the Holder
to exercise, and no delay in exercising any right, remedy or power hereunder
shall operate as a waiver thereof, nor shall any single or partial exercise
by
the Holder of any right, remedy or power hereunder preclude any other or future
exercise of any other right, remedy or power. Each and every right,
remedy or power hereby granted to the Holder or allowed it by law or other
agreement shall be cumulative and not exclusive of any other, and may be
exercised by the Holder from time to time.
(f)
Governing Law; Jurisdiction.
(i)
Governing Law. THIS NOTE WILL BE GOVERNED BY AND
CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK WITHOUT REGARD
TO
ANY CONFLICTS OF LAWS PROVISIONS THEREOF THAT WOULD OTHERWISE REQUIRE THE
APPLICATION OF THE LAW OF ANY OTHER JURISDICTION.
(ii)
Jurisdiction. The Company irrevocably submits to the
exclusive jurisdiction of any State or Federal Court sitting in the State of
New
York, County of New York, over any suit, action, or proceeding arising out
of or
relating to this Note. The Company irrevocably waives, to the fullest
extent permitted by law, any objection which it may now or hereafter have to
the
laying of the venue of any such suit, action, or proceeding brought in such
a
court and any claim that suit, action, or proceeding has been brought in an
inconvenient forum.
The
Company agrees that the service of process upon it mailed by certified or
registered mail, postage prepaid and return receipt requested (and service
so
made shall be deemed complete three days after the same has been posted as
aforesaid) or by personal service shall be deemed in every respect effective
service of process upon it in any such suit or proceeding. Nothing
herein shall affect Holder's right to serve process in any other manner
permitted by law. The Company agrees that a final non-appealable
judgment in any such suit or proceeding shall be conclusive and may be enforced
in other jurisdictions by suit on such judgment or in any other lawful
manner.
(iii)
No Jury Trial. The Company hereby knowingly and
voluntarily waives any and all rights it may have to a trial by jury with
respect to any litigation based on, or arising out of, under, or in connection
with, this Note.
(g)
Replacement Notes . This Note may be exchanged by
Holder at any time and from time to time for a Note or Notes with different
denominations representing an equal aggregate outstanding Principal Amount,
as
reasonably requested by Holder, upon surrendering the same. No
service charge will be made for such registration or exchange. In the
event that Holder notifies the Company that this Note has been lost, stolen
or
destroyed, a replacement Note identical in all respects to the original Note
(except for registration number and Principal Amount, if different than that
shown on the original Note), shall be issued to the Holder, provided that the
Holder executes and delivers to the Company an agreement reasonably satisfactory
to the Company to indemnify the Company from any loss incurred by it in
connection with the Note.
[Signature
Page Follows]
IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed on June
___, 2007.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
Attest
:
Sign:
Print
Name:
EXHIBIT
A
FORM
OF
CONVERSION NOTICE
(To
be
Executed by the Holder
in
order
to Convert a Note)
The
undersigned hereby elects to convert the aggregate outstanding Principal Amount
(as defined in the Note) indicated below of this Note into shares of Common
Stock, $0.001 par value per share (the “Common Stock”), of ISCO INTERNATIONAL,
INC. (the “Company”) according to the conditions hereof, as of the date written
below. If shares are to be issued in the name of a person other than
the undersigned, the undersigned will pay all transfer taxes payable with
respect thereto and is delivering herewith such certificates and opinions as
reasonably requested by the Company in accordance therewith. No fee
will be charged to the holder for any conversion, except for such transfer
taxes, if any. The undersigned represents as of the date hereof that,
after giving effect to the conversion of this Note pursuant to this Conversion
Notice, the undersigned will not exceed the “Restricted Ownership Percentage”
contained in Section 3(i) of this Note and will remain in compliance with
Section 3(i) of this Note.
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Conversion
information:
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Date
to Effect Conversion
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Aggregate
Principal Amount of Note Being
Converted
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Aggregate
Interest (plus any applicable late charges) Being
Converted
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Number
of shares of Common Stock
to be Issued
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Applicable
Conversion Price
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Signature
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Name
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Address
Exhibit
10.10
REGISTRATION
RIGHTS AGREEMENT
This
Registration Rights Agreement (“ Agreement”) is entered into as of June
____, 2007, among ISCO International, Inc., a Delaware corporation with offices
at 1001 Cambridge Drive, Elk Grove Village, Illinois 60007 (the “
Company”) and the Lenders set forth on the signature page hereto (the “
Lenders”).
W
I T
N E S S E T H :
WHEREAS,
pursuant to the Amendment Agreement, dated on or about the date hereof, by
and
between the Company and the Lenders (the “ Amendment Agreement”), the
Company has agreed to amend and restate the Notes (the “ Amended and Restated
Notes”) issued to the Lenders pursuant to the Third Amended and Restated
Loan Agreement, dated as of November 10, 2004, as amended (the “ Loan
Agreement”); and
WHEREAS,
the Amended and Restated Notes provide that they will be convertible into shares
(the “ Conversion Shares”) of the common stock, par value $0.001 per
share (the “ Common Stock”) of the Company; and
WHEREAS,
pursuant to the Amendment Agreement, each of the Lenders has agreed to convert
$750,000 in principal amount outstanding of debt currently owed by the Company
to each of the Lenders into shares of Common Stock (the “ Initial Conversion
Shares”); and
NOW,
THEREFORE, in consideration of the mutual promises, representations, warranties,
covenants and conditions set forth in the Loan Agreement, Amendment Agreement
and this Agreement, the Company and each Purchaser agree as
follows:
1.
Certain Definitions . Capitalized terms used
herein and not otherwise defined shall have the meaning ascribed thereto in
the
Purchase Agreements or the Amended and Restated Notes. As used in
this Agreement, the following terms shall have the following respective
meanings:
“
Approval Date” shall mean the date on which both (i)
the Company’s stockholders shall have approved the issuance of the
Conversion Shares and (ii) the American Stock Exchange (“ AMEX”) shall
have approved the Conversion Shares and the Initial Conversion Shares for
listing on AMEX.
“
Commission” or “ SEC” shall mean the Securities and Exchange
Commission or any other federal agency at the time administering the Securities
Act.
“
Holder” and “ Holders” shall include each Purchaser and any
transferee or transferees of Registrable Securities and/or Amended and Restated
Notes which have not been sold to the public to whom the registration rights
conferred by this Agreement have been transferred in compliance with this
Agreement and the Purchase Agreement.
“
1934
Act” shall mean the Securities Exchange Act of 1934, as
amended.
The
terms
“ register ,” “ registered” and “ registration” shall refer
to a registration effected by preparing and filing a registration statement
in
compliance with the Securities Act and applicable rules and regulations
thereunder, and the declaration or ordering of the effectiveness of such
registration statement.
“
Registrable Securities” shall mean: (i) the Conversion Shares
(without regard to any limitations on beneficial ownership contained in the
Amended and Restated Notes) issued or issuable to each Holder (a) upon
conversion of the Amended and Restated Notes, (b) upon any distribution with
respect to, any exchange for or any replacement of such Amended and Restated
Notes, or (c) upon any conversion or exchange of any securities issued in
connection with any such distribution, exchange or replacement; (ii) the Initial
Conversion Shares, (iii) securities issued or issuable upon any stock split,
stock dividend, recapitalization or similar event with respect to the foregoing;
and (iv) any other security issued as a dividend or other distribution with
respect to, in exchange for or in replacement of the securities referred to
in
the preceding clauses, except that any such Conversion Shares, the Initial
Conversion Shares or other securities shall cease to be Registrable Securities
when (x) they have been sold to the public or (y) they may be sold by the Holder
thereof under Rule 144(k).
“
Registration Expenses” shall mean all reasonable expenses to be incurred
by the Company in connection with each Holder’s registration rights under this
Agreement (such amount not to exceed $5,000 in the aggregate), including,
without limitation, all registration and filing fees, printing expenses, fees
and disbursements of counsel for the Company, and blue sky fees and expenses,
reasonable fees and disbursements of counsel to Holders (using a single counsel
selected by a majority in interest of the Holders) for a review of the
Registration Statement and related documents, and the expense of any special
audits incident to or required by any such registration (but excluding the
compensation of regular employees of the Company, which shall be paid in any
event by the Company).
“
Registration Statement” shall have the meaning set forth in Section 2(a)
herein.
“
Regulation D” shall mean Regulation D as promulgated pursuant to the
Securities Act, and as subsequently amended.
“
Securities Act” or “ Act” shall mean the Securities Act of 1933,
as amended.
“
Selling Expenses” shall mean all underwriting discounts, selling
commissions and transfer taxes applicable to the sale of Registrable Securities
and all fees and disbursements of counsel for Holders not included within
“Registration Expenses”.
2.
Registration Requirements . The Company shall use
its best efforts to effect the registration of the resale of the Registrable
Securities (including, without limitation, the execution of an undertaking
to
file post-effective amendments, appropriate qualification under applicable
blue
sky or other state securities laws and appropriate compliance with applicable
regulations issued under the Securities Act) as would permit or facilitate
the
resale of all the Registrable Securities in the manner (including manner of
sale) and in all states reasonably requested by the Holder. Such best
efforts by the Company shall include, without limitation, the
following:
(a)
The Company shall, as expeditiously as possible after the Approval
Date:
(i)
But in any event within 30 days of the Approval Date, prepare and
file a registration statement with the Commission pursuant to Rule 415 under
the
Securities Act on Form S-3 under the Securities Act (or in the event that the
Company is ineligible to use such form, such other form as the Company is
eligible to use under the Securities Act provided that such other form shall
be
converted into an S-3 as soon as Form S-3 becomes available to the Company)
covering resales by the Holders as selling stockholders (not underwriters)
of
the Registrable Securities and, to the extent practicable, no other securities
(the “ Registration Statement”), which Registration Statement, to the
extent allowable under the Securities Act and the rules promulgated thereunder
(including Rule 416), shall state that such Registration Statement also covers
the resale of such indeterminate number of additional shares of Common Stock
as
may be issued upon conversion of the Amended and Restated Notes by reason of
stock splits, stock dividends or similar transactions. The number of
shares of Common Stock initially included in such Registration Statement shall
be no less than [______________], unless the SEC instructs the Company that
a
lesser number of shares of Common Stock will be permitted to be included in
such
Registration Statement, in which case the Registration Statement shall include
the number of shares of Common Stock permitted by the SEC. The
Company shall, in accordance with applicable SEC rules, regulations,
interpretations and practices, amend such Registration Statement or file
additional Registration Statements to cover the number of additional shares
of
Common Stock that may be issued or issuable pursuant to the terms of the Amended
and Restated Notes in the event that the number of shares of Common Stock
initially registered is insufficient or reduced in accordance with applicable
SEC rules, regulations, interpretations and practices. Nothing in the
preceding sentence will limit the Company’s obligations to reserve shares of
Common Stock pursuant to Section 3(d) of the Amended and Restated
Notes. Thereafter the Company shall use its reasonable best efforts
to cause such Registration Statement and other filings to be declared effective
as soon as possible, and in any event prior to 90 days (or, if the SEC elects
to
review the Registration Statement, 150 days) following the Approval Date (the
“
Effectiveness Deadline”). Without limiting the foregoing, the
Company will promptly respond to all SEC comments, inquiries and requests,
and
shall request acceleration of effectiveness at the earliest possible
date.
(ii)
Prepare and file with the SEC such amendments and supplements to
such Registration Statement and the prospectus used in connection with such
Registration Statement as may be necessary to comply with the provisions of
the
Act with respect to the disposition of all securities covered by such
Registration Statement and notify the Holders of the filing and effectiveness
of
such Registration Statement and any amendments or supplements.
(iii)
Furnish to each Holder such numbers of copies of a current
prospectus conforming with the requirements of the Act, copies of the
Registration Statement, any amendment or supplement thereto and any documents
incorporated by reference therein and such other documents as such Holder may
reasonably require in order to facilitate the disposition of Registrable
Securities owned by such Holder.
(iv)
Register and qualify the securities covered by such Registration
Statement under the securities or “Blue Sky” laws of all domestic jurisdictions,
to the extent required; provided that the Company shall not be required in
connection therewith or as a condition thereto to qualify to do business or
to
file a general consent to service of process in any such states or
jurisdictions.
(v)
Notify each Holder immediately of the happening of any event (but
not the substance or details of any such events unless specifically requested
by
a Holder) as a result of which the prospectus (including any supplements thereto
or thereof) included in such Registration Statement, as then in effect, includes
an untrue statement of material fact or omits to state a material fact required
to be stated therein or necessary to make the statements therein not misleading
in light of the circumstances then existing, and use its best efforts to
promptly update and/or correct such prospectus.
(vi)
Notify each Holder immediately of the issuance by the Commission or
any state securities commission or agency of any stop order suspending the
effectiveness of the Registration Statement or the threat or initiation of
any
proceedings for that purpose. The Company shall use its best efforts
to prevent the issuance of any stop order and, if any stop order is issued,
to
obtain the lifting thereof at the earliest possible time.
(vii)
Permit Holders and counsel to the Holders to review the
Registration Statement and all amendments and supplements thereto within a
reasonable period of time (but not less than two (2) full Trading Days (as
defined in the Amended and Restated Notes)) prior to each filing and will not
request acceleration of the Registration Statement without prior notice to
such
counsel.
(viii)
List the Registrable Securities covered by such Registration
Statement with all securities exchange(s) and/or markets on which the Common
Stock is then listed and prepare and file any required filings with the
Principal Market.
(b)
Set forth below in this Section 2(b) are (I) events that may arise
that the Lenders consider will interfere with the full enjoyment of their rights
under this Agreement, the Loan Agreement, the Amendment Agreement and the
Amended and Restated Notes (the “ Interfering Events”), and (II) certain
remedies applicable in each of these events.
Paragraphs
(i) through (iii) of this Section 2(b) describe the Interfering Events, provide
a remedy to the Lenders if an Interfering Event occurs.
Paragraph
(iv) provides, interalia , that the Lenders have the right to
specific performance.
The
preceding paragraphs in this Section 2(b) are meant to serve only as an
introduction to this Section 2(b), are for convenience only, and are not to
be
considered in applying, construing or interpreting this Section
2(b).
(i)
Delay in Effectiveness of Registration Statement.
(A)
In the event that such Registration Statement has not been declared
effective by: (x) the Effectiveness Deadline if the SEC does not
elect to review the Registration Statement or (y) within 150 days of the
Approval Date, if the SEC elects to review the Registration Statement, or the
Company at any time fails to issue unlegended Registrable Securities to the
extent required by Section 7 of the Amendment Agreement, then the Company shall
pay each Holder (other than (i) in the case of a Registration Statement not
declared effective, a Holder of Registrable Securities that the Company could
exclude from registration in accordance with Section 9 and (ii) in the case
of a
failure to issue unlegended certificates in accordance with the Amendment
Agreement, a Holder that is not a party to, including as a permitted assignee
bound to, the Amendment Agreement) a Monthly Delay Payment (as defined below)
with respect to each successive 30-day period (or portion thereof appropriately
prorated) thereafter that effectiveness of the Registration Statement is delayed
or failure to issue such unlegended Registrable Securities
persists.
(B)
Subject to subsection (C)(II) below, as used in this Agreement, a “
Monthly Delay Payment” shall be a cash payment equal to 1% of the amount
equal to (x) the conversion price of the Amended and Restated Notes multiplied
by (y) the sum of the number of Conversion Shares that are Registrable
Securities and held by the applicable Holder plus the number of Conversion
Shares issuable upon conversion of Amended and Restated Notes held by such
Holder. Payment of the Monthly Delay Payments shall be due and
payable from the Company to such Holder on the later of (I) the end of the
applicable 30-day period or portion thereof and (II) 5 business days after
demand therefor. At the option of the Holder, Monthly Delay Payments
may be added to the outstanding Principal Amount of the Amended and Restated
Notes held by it.
(C)
Notwithstanding the foregoing, (I) there shall be excluded from the
calculation of the number of days that the Registration Statement has not been
declared effective the delays which are solely attributable to delays in the
Lenders providing information required for the Registration Statement or to
the
Lenders not having otherwise complied with their obligations hereunder; (II)
the
aggregate amount of Monthly Delay Payments payable to a Purchaser pursuant
to
this Agreement shall not exceed ten (10) times the amount of Monthly Delay
Payment calculated for such Purchaser pursuant to subsection (B) above; and
(III) no Monthly Delay Payments shall accrue as to any Registrable Securities
from and after the date such security is no longer a Registrable
Security.
(ii)
No Listing; Suspension of Class of Shares
(A)
In the event that the Company fails, refuses or for any other
reason is unable to cause the Registrable Securities covered by the Registration
Statement to be listed (subject to issuance) with the Principal Market (as
defined in the Amended and Restated Notes) at all times during the period (“
Listing Period”) from the date (“ Effectiveness Commencement
Date”) which is the earlier of the effectiveness of the Registration
Statement and the 90 th day following
the
Approval Date (or the 150 th day if
the SEC
elects to review the Registration Statement) until such time as the registration
period specified in Section 5 terminates, then the Holder shall have available
the remedy set forth in Section 4(a) of the Amended and Restated
Notes.
(B)
In the event that shares of Common Stock of the Company are not
listed on the Principal Markets at all times following the Approval Date, or
are
otherwise suspended from trading and remain unlisted or suspended for 3
consecutive days, then the Holder shall have available the remedy set forth
in
Section 4(a) of the Amended and Restated Notes.
(iii)
Blackout Periods.
(A)
In the event the Registration has become effective and, afterwards,
any Holder’s ability to sell Registrable Securities under the Registration
Statement is suspended for more than (i) 30 days in any 90-day period or (ii)
60
days in any calendar year (“ Blackout Period”), including without
limitation by reason of any suspension or stop order with respect to the
Registration Statement or the fact that an event has occurred as a result of
which the prospectus (including any supplements thereto) included in such
Registration Statement then in effect includes an untrue statement of material
fact or omits to state a material fact required to be stated therein or
necessary to make the statements therein not misleading in light of the
circumstances then existing, then the Company shall provide to each Holder
a
Monthly Delay Payment for each 30-day period or portion thereof (appropriately
prorated) from and after the expiration of the Blackout Period, on the terms
set
forth in Section 2(b)(i)(B) above.
(B)
Notwithstanding anything to the contrary herein, the Company may
suspend the filing or availability of a Registration Statement or prospectus
or
delay the disclosure of any material non-public information or pending
development concerning the Company for a specified period if the disclosure
of
such information or development during such period would be materially
detrimental, in the good faith judgment of the Company’s general counsel and one
or more executive officers of the Company, to the Company (a “ Grace
Period”); provided, however, that the Company shall promptly (i) notify the
Holders in writing of the existence of such material non-public information
or
pending development giving rise to a Grace Period (provided that the Company
shall not disclose the content of such material non-public information or
pending development to the Holders) and the date on which the Grace Period
will
begin, and (ii) notify the Holders in writing of the date on which the Grace
Period ends. No single Grace Period shall, without incurring any liability
to
pay the Monthly Delay Payments pursuant to Section 2(b)(i)(B), exceed twenty
(20) consecutive days and the aggregate duration of all Grace Periods shall
not,
without incurring any liability to pay the Monthly Delay Payments pursuant
to
Section 2(b)(i)(B), exceed forty (40) days during any three hundred sixty-five
day period (each Grace Period complying with this Section 2(b)(iii)(B) being
an
“ Allowable Grace Period”). For purposes of determining the length of a
Grace Period, the Grace Period shall be deemed to begin on and include the
date
stated in the notice referred to in clause (i) above as the beginning of such
Grace Period and shall end on and include the earlier of (I) the date stated
in
the notice referred to in clause (ii) above as the end of such Grace Period
or,
(II) to the extent considered appropriate by the Company in its sole discretion,
such earlier date as to which the Company may advise the Holders in writing
after the Company’s provision of the notices described above; provided, however,
that no Grace Period shall be longer than an Allowable Grace Period without
incurring any liability to pay the Monthly Delay Payments pursuant to Section
2(b)(i)(B). The Company agrees to use all reasonable efforts to ensure that
the
Holders may resume sales under the relevant Registration Statement as soon
as
such suspension, in the sole discretion of the Company, is no longer necessary.
The provisions of Sections 2(a)(iii) and 2(a)(v) of this Agreement shall not
be
applicable, and the Company shall not have any obligation to pay any Monthly
Delay Payments by reason of any delay pursuant to Section 2(b)(i) or Blackout
Period, during the period of any Allowable Grace Period.
(iv)
Cumulative Remedies . The Monthly Delay Payments
provided for above are in addition to and not in lieu or limitation of any
other
rights the Holders may have at law, in equity or under the terms of the Amended
and Restated Notes, the Amendment Agreement, the Loan Agreement and this
Agreement, including without limitation, the right to monetary contract damages
and specific performance; provided that (x) no holder of Amended and Restated
Notes may collect default interest in addition to Monthly Delay Payments and
(y)
no holder of Amended and Restated Notes may collect more than one Monthly Delay
Payment with respect to the same 30-day period or portion
thereof. Each Holder shall be entitled to specific performance of any
and all obligations of the Company in connection with the registration rights
of
the Holders hereunder.
(c)
The Holders agree to cooperate as reasonably requested by the
Company in connection with the preparation and filing of the Registration
Statement.
(d)
If the Holder(s) intend to distribute the Registrable Securities by
means of an underwriting, the Holder(s) shall so advise the
Company. Any such underwriting may only be administered by nationally
or regionally recognized investment bankers reasonably satisfactory to the
Company.
(e)
The Company shall enter into such customary agreements for
secondary offerings (including a customary underwriting agreement with the
underwriter or underwriters, if any) and take all such other reasonable actions
reasonably requested by the Holders in connection with any underwritten offering
or when the SEC has required that the Holders be identified as underwriters
in
the Registration Statement in order to expedite or facilitate the disposition
of
such Registrable Securities and in such connection:
(i)
make such representations and warranties to the Holders and the
underwriter or underwriters, if any, in form, substance and scope as are
customarily made by issuers to underwriters in secondary offerings;
(ii)
cause to be delivered to the sellers of Registrable Securities and
the underwriter or underwriters, if any, opinions of independent counsel to
the
Company, on and dated as of the effective day (or in the case of an underwritten
offering, dated the date of delivery of any Registrable Securities sold pursuant
thereto) of the Registration Statement, and within ninety (90) days following
the end of each fiscal year thereafter, which counsel and opinions (in form,
scope and substance) shall be reasonably satisfactory to the Holders and the
underwriter(s), if any, and their counsel and covering such matters that are
customarily given to underwriters in underwritten offerings, addressed to the
Holders and each underwriter, if any;
(iii)
cause to be delivered, immediately prior to the effectiveness of
the Registration Statement (and, in the case of an underwritten offering, at
the
time of delivery of any Registrable Securities sold pursuant thereto), and
at
the beginning of each fiscal year following a year during which the Company’s
independent certified public accountants shall have reviewed any of the
Company’s books or records, a “comfort” letter from the Company’s independent
certified public accountants addressed to each underwriter (including the
Holders, if the SEC has required them to be identified as underwriters in the
Registration Statement), if any, to the extent requested by such underwriters,
stating that such accountants are independent public accountants within the
meaning of the Securities Act and the applicable published rules and regulations
thereunder, and otherwise in customary form and covering such financial and
accounting matters as are customarily covered by letters of the independent
certified public accountants delivered in connection with secondary offerings;
such accountants shall have undertaken in each such letter to update the same
during each such fiscal year in which such books or records are being reviewed
so that each such letter shall remain current, correct and complete throughout
such fiscal year; and each such letter and update thereof, if any, shall be
reasonably satisfactory to such underwriters;
(iv)
if an underwriting agreement is entered into, the same shall
include customary indemnification and contribution provisions to and from the
underwriters and procedures for secondary underwritten offerings;
and
(v)
deliver such documents and certificates as may be reasonably
requested by the Holders of the Registrable Securities being sold or the
managing underwriter or underwriters, if any, to evidence compliance with clause
(i) above and with any customary conditions contained in the underwriting
agreement, if any.
(f)
The Company shall make available for inspection by the Holders,
representative(s) of all the Holders together, any underwriter participating
in
any disposition pursuant to a Registration Statement, and any attorney or
accountant retained by any Holder or underwriter, all financial and other
records customary for purposes of the Holders’ due diligence examination of the
Company and review of any Registration Statement, all SEC Documents (as defined
in the Purchase Agreement) filed subsequent to the Approval Date, pertinent
corporate documents and properties of the Company, and cause the Company’s
officers, directors and employees to supply all information reasonably requested
by any such representative, underwriter, attorney or accountant in connection
with such Registration Statement, provided that such parties agree to keep
such
information confidential. Notwithstanding the foregoing, the
foregoing right shall not extend to any Holder (i) who is not a financial
investor or entity or (ii) who, itself or through any affiliate, has any
strategic business interest that would reasonably be expected to be in conflict
with any business of the Company or its subsidiaries.
(g)
Subject to Section 2(b) above and to clause (i) below, the Company
may suspend the use of any prospectus used in connection with the Registration
Statement only in the event, and for such period of time as, (i) such a
suspension is required by the rules and regulations of the Commission or (ii)
it
is determined in good faith by the Board of Directors of the Company that
because of valid business reasons (not including the avoidance of the Company’s
obligations hereunder), it is in the best interests of the Company to suspend
such use, and prior to suspending such use in accordance with this clause (ii)
the Company provides the Holders with written notice of such suspension, which
notice need not specify the nature of the event giving rise to such
suspension. The Company will use reasonable best efforts to cause
such suspension to terminate at the earliest possible date. This
provision shall not affect the right of Holders to receive Monthly Delay
Payments pursuant to Section 2(b) above.
(h)
The Company shall file a Registration Statement with respect to any
newly authorized and/or reserved Registrable Securities consisting of Conversion
Shares described in clause (i) of the definition of Registrable Securities
within five (5) business days of any stockholders meeting authorizing same
and
shall use its best efforts to cause such Registration Statement to become
effective within sixty (60) days of such stockholders meeting. If the
Holders become entitled, pursuant to an event described in clause (ii) and
(iii)
of the definition of Registrable Securities, to receive any securities in
respect of Registrable Securities that were already included in a Registration
Statement, subsequent to the date such Registration Statement is declared
effective, and the Company is unable under the securities laws to add such
securities to the then effective Registration Statement, the Company shall
promptly file, in accordance with the procedures set forth herein, an additional
Registration Statement with respect to such newly Registrable
Securities. The Company shall use its best efforts to (i) cause any
such additional Registration Statement, when filed, to become effective under
the Securities Act, and (ii) keep such additional Registration Statement
effective during the period described in Section 5 below and cause such
Registration Statement to become effective within 90 days of that date that
the
need to file the Registration Statement arose. All of the
registration rights and remedies under this Agreement shall apply to the
registration of the resale of such newly reserved shares and such new
Registrable Securities, including without limitation the provisions providing
for default payments contained herein.
(i)
The Company shall prepare and file with the SEC such amendments
(including post-effective amendments) and supplements to a Registration
Statement and the prospectus used in connection with such Registration
Statement, which prospectus is to be filed pursuant to Rule 424 promulgated
under the Securities Act, as may be necessary to keep such Registration
Statement effective at all times during the Registration Period (as defined
below), and, during such period, comply with the provisions of the Securities
Act with respect to the disposition of all Registrable Securities of the Company
covered by such Registration Statement. In the case of amendments and
supplements to a Registration Statement which are required to be filed pursuant
to this Agreement (including pursuant to this Section 2(h)) by reason of the
Company filing a report on Form 10-K, Form 10-Q or Form 8-K or any analogous
report under the 1934 Act, the Company shall have incorporated such report
by
reference into such Registration Statement, if applicable, or shall file such
amendments or supplements with the SEC on the same day on which the 1934 Act
report is filed which created the requirement for the Company to amend or
supplement such Registration Statement.
(j)
Each Holder agrees by its acquisition of the Registrable Securities
that, upon receipt of a notice from the Company of the occurrence of any event
of the kind described in Sections 2(a)(v) or 2(a)(vi), such Holder will
forthwith discontinue disposition of such Registrable Securities under the
Registration Statement until such Holder’s receipt of the copies of the
supplemented Prospectus and/or amended Registration Statement contemplated
by
Section 3(h), or until it is advised in writing (the “ Advice”) by the
Company that the use of the applicable Prospectus may be resumed, and, in either
case, has received copies of any additional or supplemental filings that are
incorporated or deemed to be incorporated by reference in such Prospectus or
Registration Statement. The Company may provide appropriate stop
orders to enforce the provisions of this paragraph.
(k)
If requested by a Holder, the Company shall (i) as soon as
practicable incorporate in a prospectus supplement or post-effective amendment
such information as a Holder reasonably requests to be included therein relating
to the sale and distribution of Registrable Securities, including, without
limitation, information with respect to the number of Registrable Securities
being offered or sold, the purchase price being paid therefor and any other
terms of the offering of the Registrable Securities to be sold in such offering;
(ii) as soon as practicable make all required filings of such prospectus
supplement or post-effective amendment after being notified of the matters
to be
incorporated in such prospectus supplement or post-effective amendment; and
(iii) as soon as practicable, supplement or make amendments to any Registration
Statement if reasonably requested by a Holder holding any Registrable
Securities.
3.
Expenses of Registration . All Registration
Expenses in connection with any registration, qualification or compliance with
registration pursuant to this Agreement shall be borne by the Company, and
all
Selling Expenses of a Holder shall be borne by such Holder.
4.
Registration on Form S-3 . The Company shall use
its best efforts to remain qualified for registration on Form S-3 or any
comparable or successor form or forms, or in the event that the Company is
ineligible to use such form, such form as the Company is eligible to use under
the Securities Act, provided that if such other form is used, the Company shall
convert such other form to a Form S-3 as soon as the Company becomes so
eligible, provided that the Company shall maintain the effectiveness of the
Registration Statement then in effect until such time as a Registration
Statement or Form S-3 covering the Registrable Securities has been declared
effective by the SEC.
5.
Registration Period . In the case of the
registration effected by the Company pursuant to this Agreement, the Company
shall keep such registration effective until the earlier of (a) the date on
which all the Holders have completed the sales or distribution described in
the
Registration Statement relating thereto or, (b) until such Registrable
Securities may be sold by the Holders under Rule 144(k) (provided that the
Company’s transfer agent has accepted an instruction from the Company to such
effect) (the “ Registration Period”). Subject to Section 8
below, this Agreement shall be terminated automatically without further action
by any party hereto upon the expiration of the Registration Period.
6.
Indemnification.
(a)
Company Indemnity . The Company will indemnify
and hold harmless each Holder, each of its officers, directors, agents and
partners, and each person controlling of each of the foregoing, within the
meaning of Section 15 of the Securities Act and the rules and regulations
thereunder with respect to which registration, qualification or compliance
has
been effected pursuant to this Agreement, and each underwriter, if any, and
each
person who controls, within the meaning of Section 15 of the Securities Act
and
the rules and regulations thereunder, any underwriter, against all claims,
losses, damages and liabilities (or actions in respect thereof) arising out
of
or based on any untrue statement (or alleged untrue statement) of a material
fact contained in any prospectus, offering circular or other document (including
any related registration statement, notification or the like) incident to any
such registration, qualification or compliance, or based on any omission (or
alleged omission) to state therein a material fact required to be stated therein
or necessary to make the statements therein not misleading in light of the
circumstances under which they were made, or any violation by the Company of
the
Securities Act or any state securities law or in either case, any rule or
regulation thereunder applicable to the Company and relating to action or
inaction required of the Company in connection with any such registration,
qualification or compliance, and will reimburse each Holder, each of its
officers, directors, agents and partners, and each person controlling each
of
the foregoing, each such underwriter and each person who controls any such
underwriter, for any legal and any other expenses reasonably incurred in
connection with investigating and defending any such claim, loss, damage,
liability or action, provided that the Company will not be liable in any such
case to a Holder to the extent that any such claim, loss, damage, liability
or
expense arises out of or is based (i) on any untrue statement or omission based
upon written information furnished to the Company by such Holder or the
underwriter (if any) therefor and stated to be specifically for use therein
or
(ii) the failure of a Holder to deliver at or prior to the written confirmation
of sale, the most recent prospectus, as amended or supplemented. The
indemnity agreement contained in this Section 6(a) shall not apply to amounts
paid in settlement of any such loss, claim, damage, liability or action if
such
settlement is effected without the consent of the Company (which consent will
not be unreasonably withheld).
(b)
Holder Indemnity . Each Holder will, severally
and not jointly, if Registrable Securities held by it are included in the
securities as to which such registration, qualification or compliance is being
effected, indemnify and hold harmless the Company, each of its directors,
officers, agents and partners, and each underwriter, if any, of the Company’s
securities covered by such a registration statement, each person who controls
the Company or such underwriter within the meaning of Section 15 of the
Securities Act and the rules and regulations thereunder, each other Holder
(if
any), and each of their officers, directors and partners, and each person
controlling of such other Holder(s) against all claims, losses, damages and
liabilities (or actions in respect thereof) arising out of or based on any
untrue statement (or alleged untrue statement) of a material fact contained
in
any such registration statement, prospectus, offering circular or other
document, or any omission (or alleged omission) to state therein a material
fact
required to be stated therein or necessary to make the statement therein not
misleading in light of the circumstances under which they were made, and will
reimburse the Company and such other Holder(s) and their directors, officers
and
partners, underwriters or control persons for any legal or any other expenses
reasonably incurred in connection with investigating and defending any such
claim, loss, damage, liability or action, in each case to the extent, but only
to the extent, that such untrue statement (or alleged untrue statement) or
omission (or alleged omission) is made in such registration statement,
prospectus, offering circular or other document in reliance upon and in
conformity with written information furnished to the Company by such Holder
and
stated to be specifically for use therein, and provided that the maximum amount
for which such Holder shall be liable under this indemnity shall not exceed
the
net proceeds received by such Holder from the sale of the Registrable Securities
pursuant to the registration statement in question. The indemnity
agreement contained in this Section 6(b) shall not apply to amounts paid in
settlement of any such claims, losses, damages or liabilities if such settlement
is effected without the consent of such Holder (which consent shall not be
unreasonably withheld).
(c)
Procedure . Each party entitled to
indemnification under this Section 6 (the “ Indemnified Party”) shall
give notice to the party required to provide indemnification (the “
Indemnifying Party”) promptly after such Indemnified Party has actual
knowledge of any claim as to which indemnity may be sought, and shall permit
the
Indemnifying Party to assume the defense of any such claim in any litigation
resulting therefrom, provided that counsel for the Indemnifying Party, who
shall
conduct the defense of such claim or any litigation resulting therefrom, shall
be approved by the Indemnified Party (whose approval shall not be unreasonably
withheld), and the Indemnified Party may participate in such defense at its
own
expense, and provided further that the failure of any Indemnified Party to
give
notice as provided herein shall not relieve the Indemnifying Party of its
obligations under this Section 6 except to the extent that the Indemnifying
Party is materially and adversely affected by such failure to provide
notice. No Indemnifying Party, in the defense of any such claim or
litigation, shall, except with the consent of each Indemnified Party, consent
to
entry of any judgment or enter into any settlement which does not include as
an
unconditional term thereof the giving by the claimant or plaintiff to such
Indemnified Party of a release from all liability in respect to such claim
or
litigation. Each Indemnified Party shall furnish such non-privileged
information regarding itself or the claim in question as an Indemnifying Party
may reasonably request in writing and as shall be reasonably required in
connection with the defense of such claim and litigation resulting
therefrom.
7.
Contribution . If the indemnification
provided for in Section 6 herein is unavailable to the Indemnified Parties
in
respect of any losses, claims, damages or liabilities referred to herein (other
than by reason of the exceptions provided therein), then each such Indemnifying
Party, in lieu of indemnifying such Indemnified Party, shall contribute to
the
amount paid or payable by such Indemnified Party as a result of such losses,
claims, damages or liabilities as between the Company on the one hand and any
Holder on the other, in such proportion as is appropriate to reflect the
relative fault of the Company and of such Holder in connection with the
statements or omissions which resulted in such losses, claims, damages or
liabilities, as well as any other relevant equitable
considerations. The relative fault of the Company on the one hand and
of any Holder on the other shall be determined by reference to, among other
things, whether the untrue or alleged untrue statement of a material fact or
omission or alleged omission to state a material fact relates to information
supplied by the Company or by such Holder.
In
no
event shall the obligation of any Indemnifying Party to contribute under this
Section 7 exceed the amount that such Indemnifying Party would have been
obligated to pay by way of indemnification if the indemnification provided
for
under Section 6(a) or 6(b) hereof had been available under the
circumstances.
The
Company and the Holders agree that it would not be just and equitable if
contribution pursuant to this Section 7 were determined by prorata
allocation (even if the Holders or the underwriters were treated as one entity
for such purpose) or by any other method of allocation which does not take
account of the equitable considerations referred to in the immediately preceding
paragraphs. The amount paid or payable by an Indemnified Party as a
result of the losses, claims, damages and liabilities referred to in the
immediately preceding paragraphs shall be deemed to include, subject to the
limitations set forth above, any legal or other expenses reasonably incurred
by
such Indemnified Party in connection with investigating or defending any such
action or claim. Notwithstanding the provisions of this section, no
Holder or underwriter shall be required to contribute any amount in excess
of
the amount by which (i) in the case of any Holder, the net proceeds received
by
such Holder from the sale of Registrable Securities pursuant to the registration
statement in question or (ii) in the case of an underwriter, the total price
at
which the Registrable Securities purchased by it and distributed to the public
were offered to the public exceeds, in any such case, the amount of any damages
that such Holder or underwriter has otherwise been required to pay by reason
of
such untrue or alleged untrue statement or omission or alleged
omission. No person guilty of fraudulent misrepresentation (within
the meaning of Section 11(f) of the Securities Act) shall be entitled to
contribution from any person who was not guilty of such fraudulent
misrepresentation.
8.
Survival . The indemnity and contribution
agreements contained in Sections 6 and 7 and the representations and warranties
of the Company referred to in Section 2(d)(i) shall remain operative and in
full
force and effect regardless of (i) any termination of this Agreement or the
Purchase Agreement or any underwriting agreement, (ii) any investigation made
by
or on behalf of any Indemnified Party or by or on behalf of the Company, and
(iii) the consummation of the sale or successive resales of the Registrable
Securities.
9.
Information by Holders . Each Holder shall
promptly furnish to the Company such information regarding such Holder and
the
distribution and/or sale proposed by such Holder as the Company may from time
to
time reasonably request in writing in connection with any registration,
qualification or compliance referred to in this Agreement, and the Company
may
exclude from such registration the Registrable Securities of any Holder who
unreasonably fails to furnish such information within a reasonable time after
receiving such request. The intended method or methods of disposition
and/or sale (Plan of Distribution) of such securities as so provided by such
Purchaser shall be included without alteration in the Registration Statement
covering the Registrable Securities and shall not be changed without written
consent of such Holder. Each Holder agrees that, other than ordinary
course brokerage arrangements, in the event it enters into any arrangement
with
a broker dealer for the sale of any Registrable Securities through a block
trade, special offering, exchange distribution or secondary distribution or
a
purchase by a broker or dealer, such Holder shall promptly deliver to the
Company in writing all applicable information required in order for the Company
to be able to timely file a supplement to the Prospectus pursuant to Rule 424(b)
under the Securities Act, to the extent that such supplement is legally
required. Such information shall include a description of (i) the
name of such Holder and of the participating broker dealer(s), (ii) the number
of Registrable Securities involved, (iii) the price at which such Registrable
Securities were or are to be sold, and (iv) the commissions paid or to be paid
or discounts or concessions allowed or to be allowed to such broker dealer(s),
where applicable.
10.
Replacement Certificates . The certificate(s)
representing the Registrable Securities held by any Purchaser (or then Holder)
may be exchanged by such Purchaser (or such Holder) at any time and from time
to
time for certificates with different denominations representing an equal
aggregate number of Registerable Securities, as reasonably requested by such
Purchaser (or such Holder) upon surrendering the same. No service
charge will be made for such registration or exchange. Upon receipt
by the Company of evidence reasonably satisfactory to it of the loss, theft,
destruction or mutilation of any certificates representing a Registrable
Security and, in the case of loss, theft or destruction, of indemnity reasonably
satisfactory to it, or upon surrender and cancellation of such certificate
if
mutilated, the Company will make and deliver a new certificate of like tenor
and
dated as of such cancellation at no charge to the holder.
11.
Transfer or Assignment . Except as otherwise
provided herein, this Agreement shall be binding upon and inure to the benefit
of the parties and their successors and permitted assigns. The rights
granted to the Lenders by the Company under this Agreement to cause the Company
to register Registrable Securities may be transferred or assigned (in whole
or
in part) to a permitted transferee or assignee of Amended and Restated Notes
or
Registrable Securities, and all other rights granted to the Lenders by the
Company hereunder may be transferred or assigned to any permitted transferee
or
assignee of any Amended and Restated Notes or Registrable Securities; provided
in each case that the Company must be given written notice by the Lenders at
the
time of or within a reasonable time after said transfer or assignment, stating
the name and address of said transferee or assignee and identifying the
securities with respect to which such registration rights are being transferred
or assigned; and provided further that the transferee or assignee of such rights
agrees in writing to be bound by the registration provisions of this
Agreement.
12.
Reports Under The 1934 Act .
With
a
view to making available to the Holders the benefits of Rule 144 promulgated
under the Securities Act or any other similar rule or regulation of the SEC
that
may at any time permit the Holders to sell securities of the Company to the
public without registration (“ Rule 144”), the Company agrees
to:
(a)
make and keep public information available, as those terms are
understood and defined in Rule 144;
(b)
file with the SEC in a timely manner all reports and other
documents required of the Company under the Securities Act and the 1934 Act
so
long as the Company remains subject to such requirements and the filing of
such
reports and other documents is required for the applicable provisions of Rule
144; and
(c)
furnish to each Holder so long as such Holder owns Registrable
Securities, promptly upon request, (i) a written statement by the Company,
if
true, that it has complied with the reporting requirements of Rule 144, the
Securities Act and the 1934 Act, (ii) a copy of the most recent annual or
quarterly report of the Company and such other reports and documents so filed
by
the Company, and (iii) such other information as may be reasonably requested
to
permit the Holders to sell such securities pursuant to Rule 144 without
registration.
13.
Miscellaneous.
(a)
Remedies . The Company and the Lenders
acknowledge and agree that irreparable damage would occur in the event that
any
of the provisions of this Agreement were not performed in accordance with their
specific terms or were otherwise breached. It is accordingly agreed
that the parties shall be entitled to an injunction or injunctions to prevent
or
cure breaches of the provisions of this Agreement and to enforce specifically
the terms and provisions hereof, this being in addition to any other remedy
to
which any of them may be entitled by law or equity.
(b)
Jurisdiction . THE PARTIES MUTUALLY IRREVOCABLY
AND UNCONDITIONALLY AGREE (I) THAT ALL ACTIONS OR PROCEEDINGS ARISING IN
CONNECTION WITH THIS AGREEMENT SHALL BE TRIED AND LITIGATED ONLY IN THE STATE
AND FEDERAL COURTS LOCATED IN THE STATE OF NEW YORK, NEW YORK COUNTY AND THAT
THE PARTIES SHALL BE SUBJECT TO THE JURISDICTION OF SUCH COURTS, AND (II) THAT
SERVICE OF PROCESS BY CERTIFIED MAIL, RETURN RECEIPT REQUESTED, SHALL CONSTITUTE
PERSONAL SERVICE. NOTHING IN THIS SECTION 13(b) SHALL AFFECT OR LIMIT
ANY RIGHT TO SERVE PROCESS IN ANY OTHER MANNER PERMITTED BY LAW. THE
COMPANY AND EACH PURCHASER WAIVES, TO THE EXTENT PERMITTED UNDER APPLICABLE
LAW,
ANY RIGHT EACH 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 13(b).
(c)
Notices . Any notice or other communication
required or permitted to be given hereunder shall be in writing by facsimile,
electronic transmission, mail or personal delivery and shall be effective upon
actual receipt of such notice. The addresses for such communications
shall be:
to
the
Company:
ISCO
International, Inc.
1001
Cambridge Drive
Elk
Grove
Village, Illinois 60007
Telephone: (847)
391-9400
Facsimile: (847)
391-5015
Attention:: Frank
Cesario
E-mail:
frank.cesario@iscointl.com
with
a
copy to:
Pepper
Hamilton LLP
400
Berwyn Park
899
Cassatt Road
Berwyn,
Pennsylvania 19312
Telephone: (610)
640-7800
Facsimile: (610)
640-7835
Attention: Michael
P. Gallagher, Esq.
E-mail:
GALLAGMP@pepperlaw.com
to
the
Lenders:
As
set
forth on Schedule I hereto
with
a
copy to:
As
set
forth on Schedule I hereto
Any
party
hereto may from time to time change its address for notices by giving at least
five days’ written notice of such changed address to the other parties
hereto.
(d)
Waivers . No waiver by any party of any default
with respect to any provision, condition or requirement of this Agreement shall
be deemed to be a continuing waiver in the future or a waiver of any other
provision, condition or requirement hereof, nor shall any delay or omission
of
any party to exercise any right hereunder in any manner impair the exercise
of
any such right accruing to it thereafter.
(e)
Execution in Counterpart . This Agreement may be
executed in two or more counterparts, all of which shall be considered one
and
the same agreement, it being understood that all parties need not sign the
same
counterpart.
(f)
Signatures . Facsimile signatures shall be valid
and binding on each party submitting the same.
(g)
Entire Agreement; Amendment . This Agreement,
together with the Amendment Agreement, the Amended and Restated Notes and the
agreements and documents contemplated hereby and thereby, contains the entire
understanding and agreement of the parties.
(h)
Governing Law . This Agreement and the validity
and performance of the terms hereof shall be governed by and construed in
accordance with the laws of the State of New York applicable to contracts
executed and to be performed entirely within such state.
(i)
Jury Trial . EACH PARTY HERETO WAIVES THE RIGHT
TO A TRIAL BY JURY.
(j)
Titles . The titles used in this Agreement are
used for convenience only and are not to be considered in construing or
interpreting this Agreement.
(k)
No Strict Construction . The language used in
this Agreement will be deemed to be the language chosen by the parties to
express their mutual intent, and no rule of strict construction will be applied
against any party.
[Signature
Page Follows]
In
Witness Whereof, the parties hereto have caused this Agreement to be duly
executed as of the date first above written.
ISCO
INTERNATIONAL, INC.
By:
Name:
Title:
MANCHESTER
SECURITIES CORP.
By:
Name:
Title:
ALEXANDER
FINANCE, L.P.
By:
Name:
Title:
Schedule
I
|
Name
of Lenders
|
Contact
Information
|
|
Manchester
Securities Corp.
|
712
Fifth Avenue
36
th
Floor
New
York, New York 10019
Attn: Dave
Miller
Tel: (212)
506-2999
Fax: (212)
586-9467
E-Mail:
dmiller@elliottmgmt.com
|
|
Copy
to:
|
Kleinberg,
Kaplan, Wolff & Cohen, P.C.
551
Fifth Avenue
New
York, New York 10176
Telephone:
(212) 986-6000
Facsimile:
(212) 986-8866
Attn:
Lawrence D. Hui, Esq.
E-Mail:
lhui@kkwc.com
|
|
Alexander
Finance, L.P.
|
Alexander
Finance, LP
1560
Sherman Avenue
Evanston,
Illinois
Telephone: (847)
733-0232
Facsimile: (847)
733-0339
Attention: Bradford
T. Whitmore
E-Mail:
bwhitmore@gbros.com
|
|
Copy
to:
|
Sachnoff
& Weaver
30
S. Wacker Drive
Chicago,
Illinois 60606
Telephone: (312)
207-3879
Facsimile: (312)
207-6400
Attention: Evelyn
C. Arkebauer, Esq.
E-Mail:
earkeba@sachnoff.com
|
Exhibit
31.1
CERTIFICATIONS
I,
Ralph
Pini, certify that:
1.
I have
reviewed this quarterly report on Form 10-Q of ISCO International,
Inc.;
2.
Based
on my knowledge, this quarterly report does not contain any untrue statement
of
a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were
made, not misleading with respect to the period covered by this quarterly
report;
3.
Based
on my knowledge, the financial statements, and other financial information
included in this quarterly report, fairly present in all material respects
the
financial condition, results of operations and cash flows of the registrant
as
of, and for, the periods presented in this quarterly report;
4.
The
registrant’s other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in Exchange Act
Rules
13a-15(e) and 15(d)-15(e)) for the registrant and have:
a.
designed such disclosure controls and procedures or caused such disclosure
controls and procedures to be designed under our supervision to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
b.
evaluated the effectiveness of the registrant’s disclosure controls and
procedures and presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this quarterly report based on such evaluation;
c.
disclosed in this quarterly report any change in the registrant’s internal
control over financial reporting that occurred during the registrant’s most
recent fiscal quarter that was materially affected, or is reasonably likely
to
materially affect, the registrant’s internal control over financial reporting;
and
5.
The
registrant’s other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the Audit Committee of the registrant’s board of
directors (or persons performing the equivalent functions):
a.
all
significant deficiencies and material weaknesses in the design or operation
of
internal control over financial reporting which are reasonably likely to
adversely affect the registrant’s ability to record, process, summarize and
report financial information; and
b.
any
fraud, whether or not material, that involves management or other employees
who
have a significant role in the registrant’s internal control over financial
reporting.
|
|
|
|
|
|
ISCO
International, Inc.
|
|
|
|
|
|
|
Date: November
14, 2007
|
By:
|
/s/
RALPH PINI
|
|
|
Ralph
Pini
|
|
|
|
Interim
Chief Executive Officer
|
|
Exhibit
31.2
CERTIFICATIONS
I,
Frank
Cesario, certify that:
1.
I have
reviewed this quarterly report on Form 10-Q of ISCO International,
Inc.;
2.
Based
on my knowledge, this quarterly report does not contain any untrue statement
of
a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were
made, not misleading with respect to the period covered by this quarterly
report;
3.
Based
on my knowledge, the financial statements, and other financial information
included in this quarterly report, fairly present in all material respects
the
financial condition, results of operations and cash flows of the registrant
as
of, and for, the periods presented in this quarterly report;
4.
The
registrant’s other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in Exchange Act
Rules
13a-15(e) and 15(d)-15(e)) for the registrant and have:
a.
designed such disclosure controls and procedures or caused such disclosure
controls and procedures to be designed under our supervision to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
b.
evaluated the effectiveness of the registrant’s disclosure controls and
procedures and presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this quarterly report based on such evaluation;
c.
disclosed in this quarterly report any change in the registrant’s internal
control over financial reporting that occurred during the registrant’s most
recent fiscal quarter that was materially affected, or is reasonably likely
to
materially affect, the registrant’s internal control over financial reporting;
and
5.
The
registrant’s other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the Audit Committee of the registrant’s board of
directors (or persons performing the equivalent functions):
a.
all
significant deficiencies and material weaknesses in the design or operation
of
internal control over financial reporting which are reasonably likely to
adversely affect the registrant’s ability to record, process, summarize and
report financial information; and
b.
any
fraud, whether or not material, that involves management or other employees
who
have a significant role in the registrant’s internal control over financial
reporting.
|
|
|
|
|
|
ISCO
International, Inc.
|
|
|
|
|
|
|
Date: November
14, 2007
|
By:
|
/s/
FRANK CESARIO
|
|
|
Frank
Cesario
|
|
|
|
Chief
Financial Officer
|
|
Exhibit
32.1
CERTIFICATION
PURSUANT
TO
18 U.S.C SECTION 1350,
AS
ADOPTED PURSUANT TO
SECTION
906 OF THE SARBANES-OXLEY ACT OF 2002
In
connection with the Quarterly Report of ISCO International, Inc. (the “Company”)
on Form 10-Q for the quarter ending September, 2007 as filed with the Securities
and Exchange Commission on the date hereof (the “Report”), each of the
undersigned officers of the Company, certify pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that:
1.
The
Report fully complies with the requirements of Section 13(a) or 15(d) of
the Securities Act of 1934; and
2.
The
information contained in the Report fairly presents, in all material respects,
the financial condition and results of operations of the Company.
|
|
|
|
|
|
/s/
RALPH PINI
|
|
|
/s/
FRANK CESARIO
|
|
|
|
|
|
|
Ralph
Pini
Interim
Chief Executive Officer
November 14,
2007
|
|
|
Frank
Cesario
Chief
Financial Officer
November 14,
2007
|
UNITED
STATES
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
|
for
the fiscal year ended December 31, 2006
or
|
¨
|
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF
1934
|
for
the transition period
from to
Commission
File Number 001-22302
ISCO
INTERNATIONAL, INC.
(Exact
name of registrant as specified in its charter)
|
|
|
|
|
Delaware
|
|
36-3688459
|
|
(State
or other jurisdiction of
incorporation
or organization)
|
|
(I.R.S.
Employer
Identification
No.)
|
|
|
|
|
|
1001
Cambridge Drive
Elk
Grove Village, Illinois
|
|
60007
|
|
(Address
of principal executive offices)
|
|
(Zip
Code)
|
Registrant’s
telephone number, including area code: (847) 391-9400
Securities
registered pursuant to Section 12(b) of the Act:
|
Common
Stock, Par Value $0.001 Per Share
|
|
American
Stock Exchange
|
|
(Title
of each class)
|
|
(Name
of each exchange on which
registered)
|
Securities
registered pursuant to Section 12(g) of the Act:
None
(Title
of class)
None
(Title
of class)
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act. Yes ¨ No
x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the
Act. Yes ¨ No
x
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 registrant’s knowledge, in the definitive proxy or information statements
incorporated by reference in Part III of this on Form 10-K or any amendment
to
this on Form 10-K. ¨
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
one):
Large
accelerated filer ¨
Accelerated filer ¨
Non-accelerated
filer x
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes ¨ No
x
As
of
June 30, 2006, the aggregate market value of the registrant’s common stock
held by non-affiliates of the registrant was approximately $32.3 million based
on the last sale price of the common stock on such date as reported on the
American Stock Exchange. This calculation excludes more than 88 million
shares held by directors, executive officers, and two holders of more than
10%
of the registrant’s common stock.
As
of
March 1, 2007, there were 190,388,033 shares of the registrant’s common
stock outstanding.
DOCUMENTS
INCORPORATED BY REFERENCE:
As
stated
in Part III of this Annual Report on Form 10-K, portions of the registrant’s
definitive proxy statement for the registrant’s 2007 Annual Meeting of
Stockholders to be held on June 8, 2007 are incorporated by reference in
Part III of this Annual Report on Form 10-K.
Table
of Contents
TABLE
OF CONTENTS
|
|
|
PART
I
|
|
|
|
|
|
Forward
Looking Statements
|
|
|
|
Item 1.
|
|
Business
|
|
1
|
|
Item
1A.
|
|
Risk
Factors
|
|
9
|
|
Item
1B.
|
|
Unresolved
Staff Comments
|
|
17
|
|
Item 2.
|
|
Properties
|
|
17
|
|
Item 3.
|
|
Legal
Proceedings
|
|
17
|
|
Item 4.
|
|
Submission
of Matters to a Vote of Security Holders
|
|
17
|
|
|
|
|
||
|
|
|
PART
II
|
|
|
|
Item 5.
|
|
Market
for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities
|
|
18
|
|
Item 6.
|
|
Selected
Financial Data
|
|
18
|
|
Item 7.
|
|
Management’s
Discussion and Analysis of Financial Condition and Results Of
Operations
|
|
20
|
|
Item 7A.
|
|
Quantitative
and Qualitative Disclosures About Market Risk
|
|
28
|
|
Item 8.
|
|
Financial
Statements and Supplementary Data
|
|
28
|
|
Item 9.
|
|
Changes
in and Disagreements with Accountants on Accounting and Financial
Disclosure
|
|
50
|
|
Item 9A.
|
|
Controls
and Procedures
|
|
50
|
|
Item 9B.
|
|
Other
Information
|
|
50
|
|
|
|
|
||
|
|
|
PART
III
|
|
|
|
Item
10
|
|
Directors,
Executive Officers and Corporate Governance
|
|
51
|
|
Item
11
|
|
Executive
Compensation
|
|
51
|
|
Item
12
|
|
Security
Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
|
|
51
|
|
Item
13
|
|
Certain
Relationship and Related Transactions, and Director
Independence
|
|
51
|
|
Item
14
|
|
Principal
Accountant Fees and Services
|
|
51
|
|
|
|
|
||
|
|
|
PART
IV
|
|
|
|
Item 15.
|
|
Exhibits
and Financial Statement Schedules
|
|
52
|
Table
of Contents
FORWARD-
LOOKING STATEMENTS
Because
we want to provide investors with more meaningful and useful information, this
Annual Report on Form 10-K (“Form 10-K”) contains, and incorporates by
reference, certain forward-looking statements that reflect our current
expectations regarding its future results of operations, performance and
achievements. We have tried, wherever possible, to identify these
forward-looking statements by using words such as “anticipates,” “believes,”
“estimates,” “expects,” “designs,” “plans,” “intends,” “looks,” “may,” and
similar expressions. These statements reflect our current beliefs and are based
on information currently available to us. Accordingly, these statements are
subject to certain risks, uncertainties and contingencies, including the factors
set forth under Item 1A, Risk Factors, which could cause our actual
results, performance or achievements for 2007 and beyond to differ materially
from those expressed in, or implied by, any of these statements. You should
not
place undue reliance on any forward-looking statements. Except as otherwise
required by federal securities laws, we undertake no obligation to release
publicly the results of any revisions to any such forward-looking statements
that may be made to reflect events or circumstances after the date of this
Annual Report on Form 10-K or to reflect the occurrence of unanticipated
events.
PART
I
Item 1.
Business
HISTORY
We
were
founded in 1989 by ARCH Development Corporation, an affiliate of the University
of Chicago, to commercialize superconductor technologies initially developed
by
Argonne National Laboratory. We were incorporated as Illinois Superconductor
Corporation in Illinois on October 18, 1989 and reincorporated in Delaware
on September 24, 1993. In 2001, we shifted our focus from solely a
superconductive filter (high-temperature superconductor product line referred
to
as “HTS”) provider to a customer-driven provider of more specialized Radio
Frequency (“RF”) management solutions, with a particular focus on interference
management, changing our name to ISCO International, Inc. We continue to broaden
our solutions with an increasingly comprehensive approach toward optimization
of
the full radio link of a number of diverse wireless networks. Our facilities
and
principal executive offices are located at 1001 Cambridge Drive, Elk Grove
Village, Illinois 60007 and our telephone number is (847) 391-9400. We
maintain a website at http://www.iscointl.com . The information
contained therein is not incorporated into this annual report.
BUSINESS
STRATEGY
Our
strategic goal is to become the leading supplier of RF management solutions
to
wireless operators. We seek to accomplish our goal by:
|
|
•
|
|
Marketing
our products aggressively to leading wireless
operators;
|
|
|
•
|
|
Providing
customers comprehensive radio link management infrastructure-based
solutions for wireless networks;
|
|
|
•
|
|
Continuing
to build on our strong intellectual property position selectively,
emphasizing speed to market; and
|
|
|
•
|
|
Outsourcing
product manufacturing and reducing product
cost.
|
We
focus
on winning the support of the world’s leading wireless operators for our RF
management solutions. We believe that our ANF and RF² product families, as well
as professional service support and other products, make us a preeminent RF
management specialist in the market. We have taken steps to expand into a
digital delivery platform for our ANF technologies, and expect this trend to
continue. We believe that the ability to solve interference problems using
the
delivery size, capabilities and cost benefits of a digital platform will greatly
enhance our addressable market within the field of wireless
telecommunications.
Table
of Contents
We
currently outsource production of our products. We believe that this model
will
allow us to maintain or achieve targeted product gross margins, minimize capital
needs while reducing product costs, and maintain a very high quality level.
We
also believe that offering the lowest product cost will further strengthen
our
ability to achieve our strategic objectives.
RF
MANAGEMENT ISSUES, INCLUDING INTERFERENCE, AND WIRELESS
SYSTEMS
RF
management issues are a growing problem limiting cell site coverage, capacity
and range, as well as mobile transmit power and related battery-life issues.
RF
Link (or “Link”) problems cause dropped calls, poor call quality, and other
service problems that lead to subscriber dissatisfaction and turnover (churn).
Interference enters a carrier’s operating frequencies from such sources as: home
electronic devices including portable phones, two-way radios used by commercial
enterprises and governmental agencies, air-to-ground radio, police, fire and
emergency services radio, military radio, wireless data networking systems,
television and radio broadcasts, radar and other cellular networks. Interference
is also created by electrical sources used to power cellular base station
equipment. Interference may begin within a particular frequency or migrate
from
another frequency. Increased usage of co-location (multiple providers and/or
multiple architectures from a single vendor using the same towers), increased
sensitivity of non-voice applications, and the continued surge in wireless
traffic result in increasing the impact of interference on wireless networks.
With the proliferation of data applications and the limitations on tower
availability and related budgets, wireless operators are finding that their
own
preferred technology combinations for their cell sites are creating interference
with each other. Wireless operators also create self interference during the
planned re-mining of existing spectrum with 3G/4G broadband
technologies.
We
believe the proliferation of wireless devices and high data rate services will
exacerbate the amount of interference bombarding carriers’ operating
frequencies. Conventional cellular base station equipment does not effectively
cope with interference issues. More importantly, the wireless telecommunications
industry is undergoing significant transformation as it attempts to integrate
existing infrastructure and technologies with newer 3G equipment. Additionally,
the recent merger activity is forcing merged companies to integrate disparate
technology platforms, sometimes using two and three different architectures
in
the same site in order to handle planned traffic. We believe this trend will
continue. Our products are designed to address this expanding market
need.
In
the
face of expanding subscriber bases, increased minutes of cell phone use, demand
for high data rate services, the ease of customer churn (changing providers)
due
to number portability, restricted capital budgets and intense competition,
the
provisioning and optimization of wireless system infrastructure is a major
challenge for operators. As a result of these industry conditions, wireless
equipment manufacturers, including independent wireless technology companies
and
large original equipment manufacturers (OEM’s) are working intensely to develop
technologies that provide operators the tools necessary to monetize the growing
demand for wireless services.
Using
our
solutions to tightly integrate disparate technologies while simultaneously
optimizing the radio link, including the mitigation of interference, operators
can capture additional capacity and utilization, expand cell site range and
coverage, reduce dropped calls, and significantly improve overall call quality.
High speed data applications have placed a tremendous additional strain on
wireless networks. Higher data rates require much cleaner signals than
traditional voice-oriented networks to support the data throughput required
for
many of the highest average revenue per unit applications (including VoIP,
music, television and video). As a result, we believe the value proposition
and
payback of our solutions are improving with increasing demand for high speed
data, which we believe will result in increased demand for our solutions.
Network capacity, quality and throughput are today the critical competitive
differentiators in commercial wireless networks. All of our products improve
one
or more of these performance factors.
We
estimate the economic payback to operators as a result of the use of our
solutions should typically occur in less than one year, sometimes well under
one
year, depending on traffic levels and overall link quality. We believe our
solutions often present the best overall value of all alternatives available
in
many applications.
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Target
Market
We
believe demand for our products will be primarily driven by the following
factors:
1.
Existing networks are straining under heavy traffic. According to many sources,
the annual growth rate in wireless telecommunications is roughly 15-20%. The
number of handsets sold during 2006 has been reported to be more than 900
million units worldwide.
2.
The
ongoing transition from predominantly voice based networks to data based
networks will continue to drive demand for infrastructure enhancements to
achieve data and error rates required to support near real time data
applications (including VoIP, music, television and video).
3.
Interference and coverage issues are primary causes of poor call quality,
dropped calls and poor data throughput. We believe that as a result of
increasing use of devices such as cellular phones, wireless data networking
equipment, and wireless consumer appliances, wireless network operators are
coming to view interference and coverage management technologies as necessary
to
protect against their customer bases “churning” to other carriers, especially
since the full implementation of number portability (the ability to retain
one’s
phone number when changing wireless operators - historically a barrier to
changing providers).
4.
We
believe that newer, data-driven wireless networks and expansion into higher
frequencies will require smaller operating cells and more base stations than
existing cellular networks in order to cover the same geographic area. This
is
based, in part, on the requirement for a higher quality radio link in order
to
enable full 3G throughputs required by the most popular applications, as well
as
inherent limitation of RF transmissions in higher frequencies. High frequency
RF
signals require more transmission points for equivalent coverage than signals
of
lower frequency. Since most 3G technologies are deployed at high frequencies,
an
operator has to add a significant number of additional cells to match coverage
and in-building penetration capabilities they achieved with their 2G
deployments. To minimize the capital investment and maximize the performance
and
customer satisfaction of their data-driven networks, operators are compelled
to
look at technology options to overcome these inherent obstacles.
5.
The
wireless telecommunications industry is undergoing significant transformation
due to industry consolidation. The primary competitive driver is to reduce
the
cost bases, both capital and recurring costs, mostly achieved by reducing the
number of cells required to support the combined customer base and to increase
penetration such as by providing better in-building coverage. This creates
demanding requirements to integrate disparate technologies, frequency spectrums,
and legacy platforms while at the same time enabling the integrations of
advanced technologies and services. Our products enable this integration while
simultaneously optimizing the RF performance of the overall system.
In
summary, we believe we have differentiated technologies in radio link management
and optimization and are customer-driven to closely align our solutions to
their
specific needs thereby maximizing our value-add to our customers. Our goal
is to
continue to position ourselves as a leader in this segment of the wireless
industry.
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TECHNOLOGY
OVERVIEW
A
wireless base station is roughly divided into two halves: the digital portion
and the so-called “RF” portion.
Our
core
expertise is the application of technology and experience to RF systems, though
we are beginning to implement RF solutions utilizing digital technologies.
The
components in the receiver front-end are designed to acquire the desired
information-bearing signal and pass it through to the digital portion of the
system, where it is processed digitally and the user information is extracted.
Typically, a portion of the signal is lost as it passes through the RF
components. Further, undesired interference (in band and out of band) also
leaks
into the system due to imperfections in the characteristics of the RF
devices.
The
use
of our solutions for wireless RF systems is based on creating RF systems which
block or mitigate the impact of interference, optimize signal processing within
the radio path while introducing very little signal loss or
degradation.
Our
two
current primary product families are: (i) Adaptive Notch Filter (ANF ™),
which dynamically and adaptively identifies and eliminates direct in-band
interference in the radio link of a wide-band system such as CDMA or UMTS;
(ii) Radio Link Radio Frequency Fidelity (RF² ™), which includes ultra
linear low-noise amplifier receivers, multi-couplers, filters and duplexers
that
enable full and integrated upgrades of legacy systems to 3G technologies
resulting in a significant overall improvement in system performance, such
as
both dropped calls and increased data throughput. These products are designed
for efficient production, emphasizing solid-state electronics over mechanical
devices with moving parts.
RF²
(Radio link Radio Frequency Fidelity)
We
introduced our RF² products in September 2003, we began to add new products to
our RF² family in 2004, and added a significant number of products in 2005 and
2006. The RF² product family is comprised of solutions that focus on optimizing
RF handling in order to improve system performance, integrate the disparate
technologies utilized by operators, and enable next generation 3G upgrades.
The
RF² product family is designed to improve capacity and coverage in cellular base
stations through state of the art low noise RF amplification, filtering, and
combining and integration technologies.
The
basic
RF² product is a radio link solution designed and priced for network-wide
deployment, improving system coverage integrity, in-building penetration, and
voice/data capacity. This leads to improvement in wireless user perceived
quality by reducing failed connection attempts and dropped calls, and improving
handset battery life.
Our
RF²
products are easy to install, maintenance-free, and often present a performance
benefit over alternative solutions in terms of tighter integration into/with
existing equipment, continued ability to utilize diagnostics and monitoring
equipment, and higher performance. Additionally, our RF² solutions have been
shown to deliver results generally comparable to HTS-based solutions without
a
cryogenic cooler or other moving parts, and with a tighter integration and
much
lower cost. We believe that the ease of integration and higher value compete
strongly with other solutions.
RF²
Competition
OEM
competition includes solutions such as adding a carrier to the cell sites (to
increase capacity), cell splitting, or even adding an entirely new base station
so as to add capacity and coverage. After-market competition includes repeaters,
TMA’s (tower-mounted amplifiers), GMA’s (ground-mounted amplifiers) and HTS
receiver front ends, as well as duplexers and other non-integrated solutions.
We
believe these products may generally improve the coverage of the network, but
lack the value of our fully integrated link management solutions.
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Adaptive
Notch Filters
Our
patented ANF system identifies and suppresses in-band interference in the radio
link of a wide-band system such as CDMA or UMTS. If interference is not
eliminated, the radio link of the system may be reduced, possibly to the point
of not allowing any calls on the entire channel. The ANF unit continuously
monitors the power spectral density across the carriers in use and identifies
narrow-band interference. The severity of multiple in-band interferers is
prioritized, and through software control, the ANF unit dynamically inserts
a
highly selective filter to eliminate multiple interferers with minimal impact
on
the desired broadband signal. The objective of the ANF system is for operators
to realize significant gains in performance in coverage, capacity and data
throughput. An entire network of ANF hardware can be managed via the web-based
management software that supports the hardware. We believe our patented ANF
technology is the only in-band dynamically controlled interference management
solution commercially available to the marketplace today.
Our
products, including projected expansions, are focused on CDMA and other
wide-band spread spectrum systems (W-CDMA), including, for example, upgrades
of
GSM systems to UMTS and similar 3G technology. During 2006 we launched our
first
ANF solution that protects PCS (1900 MHz). We empowered this and other ANF
platforms with a digital front end and modular design for easy adaptation to
customer requirements. This new platform has significantly expanded our
addressable market and will also serve as an enabler to a larger suite of
dynamically adaptable RF multiplexer solutions.
We
have
also developed a network-wide, web-based network management tool (web monitor),
allowing our customers to perform management functions for all ANF units
throughout the system. This tool with a graphical user interface allows the
service provider to control, configure, and monitor the ANF units remotely
from
the network management center. This includes:
|
|
•
|
|
Remote
configuration of parameters within all ANF
units;
|
|
|
•
|
|
Remote
monitoring of alarm status for all ANF
units;
|
|
|
•
|
|
Observation
of interference and notch activity from all units;
and
|
|
|
•
|
|
The
ability to view on-line event data and reports based on measured
performance data.
|
We
have
industry leading expertise in the optimization of networks. To facilitate rapid
penetration of ANF, we offer professional services to the service providers’
engineering teams to identify and quantify interference, and, its effects on
network performance. We have developed several custom software and hardware
tools to perform interference analysis and interference audit. iSMART
(Interference from System Metric Analysis Rules Tool) is a software tool that
enables a service provider to identify potential ANF candidate sectors/cell
sites by analyzing the system performance metrics data generated in their
network. Automated Test Equipment, ANF-on-wheels and ANF Web Monitor is a
software/hardware system that allows us to perform interference audits at cell
sites of service providers regardless of the frequency band of operation. This
service helps quantify interference and identify new markets (frequency bands)
with high interference.
We
have
recently added a digital front-end to our ANF products, and are working on
a
fully digital version that we expect to complete during 2007. We believe a
fully
digital ANF solution would integrate well into operator plans and provide the
economics to allow far greater penetration into customer networks, as well
as
access to wireless applications outside of traditional cellular (e.g., WiFi
and
WiMax architectures), as well as mobile devices such as handsets.
ANF
competition
We
believe our patented ANF technology is the only in-band dynamically controlled
interference management solution commercially available to the marketplace
today. We hold proprietary technology on ANF. We do, however, face competition
as described below.
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Direct
Competition — After-Market Vendors
Fixed-frequency
notch filters are the main form of direct competition. However, these will
only
work in a static interference environment, and hence do not satisfy the need
of
dynamic interference detection and elimination as observed in a vast majority
of
in-band interference scenarios. Smart antennas were also developed with the
intent of in-band interference mitigation. However, we believe these solutions
have limited applicability and effectiveness in eliminating in-band
interference, particularly in a CDMA-based network, and are typically
substantially more expensive (in addition to being less effective) than our
ANF
solution.
Direct
Competition — OEMs
Digital-signal-processing
based solutions may be under development by the various OEMs. Even if the
manufacturers do develop such a solution for in-band interference, we believe
that they would have limited dynamic range and hence would only be able to
mitigate low-power interference. Most importantly they would likely not be
available for deployment on the hundreds of thousands of legacy cell sites
currently in service.
Indirect
Competition — OEMs
Indirect
competition does not directly address the problem of in-band interference,
but
could be viewed as a method for circumventing the problem. Examples include
adding a carrier to a cell site (to increase capacity), cell splitting, or
even
adding an entirely new base station. These methods seek to overcome the effects
of the interference by a brute force of added capacity and higher
signal-to-noise in a problematic location. However, we believe these solutions
to be relatively costly and do not guarantee adequate increased performance
due
to absolute limiting effects of in-band interference in certain
situations.
Indirect
Competition — After-Market Vendors
Other
forms of indirect competition include repeaters, TMA’s, and HTS receiver front
ends. As with the OEM-based solutions, we do not believe these directly address
the problem of in-band interference. There are several entities attempting
to
develop and market digital solutions that address part of the problem that
our
ANF solutions address, but we believe they operate in a very different fashion
and will not achieve the same benefits. Additionally, they are typically
entities without significant current revenue streams or operator access. We
have
the benefit of a growing existing customer base and the ability to work with
our
customers in tightly matching next generation solutions with their
needs.
Product
Benefits
Our
products are designed to address the high performance RF needs of domestic
and
international commercial wireless telecommunication systems by providing the
following advantages:
Enable
Deployment of Data Networks. Beginning in 2005, our solutions have
been utilized with data network deployments. These deployments require upgrades
and changes to existing infrastructure. Our products have proven effective
in
helping customers in this area. It is generally expected that data networks
will
continue to be widely deployed, in the United States and internationally, during
2006 and beyond.
Technology
Integration due to Expansion or Consolidation. The wireless
telecommunications industry is undergoing significant transformation due to
industry consolidation. The primary competitive driver is to reduce the cost
bases, both capital and reoccurring costs, mostly achieved by reducing the
number of cells required to support the combined customer base. This creates
demanding requirements to integrate disparate technologies, frequency spectrums,
and legacy platforms while at the same time enabling the integrations of
advanced technologies and services. Our products enable this integration while
simultaneously optimizing the RF performance of the overall system.
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Greater
Network Capacity and Utilization. Our solutions can increase
capacity and utilization by up to 70% or more. In some cases, capacity increases
because channels which were previously unusable due to interference are
recovered. In other cases, system utilization increases because of lower levels
of blocked or dropped calls, and increases in the ability of the system to
permit weak signals to be processed with acceptable call quality.
Improved
Base Station Range. Our RF systems have been shown to extend the
radio link range of a wireless system by up to 50%. Greater range can reduce
a
service operator’s capital expenditure per customer in lower density areas by
filling in coverage gaps in existing systems or by reducing the number of
required cell sites for new system deployments.
Improved
Flexibility in Locating Base Stations. Our RF products can allow
wireless telecommunications service providers to co-locate base stations near
other RF transmitters. Our products allow the cell site radio to better tolerate
RF interference while reducing out-of band signals that could interfere with
other nearby wireless telecommunication operators.
Improved
Call Quality - Fewer Dropped Calls and Failed Connection Attempts.
Our products improve call quality by reducing dropped and blocked calls. During
commercial installations, our RF products have demonstrated drastic reduction
in
dropped calls, by as much as 50% or more. Our products similarly reduce the
number of ineffective connection attempts and dead zones within
networks.
Reduced
Mobile Transmit Power. By improving the radio link, reducing the
system’s noise floor and mitigating the destructive impact of interference, our
solutions greatly reduce required mobile transmit power. This improves battery
life, among other benefits.
COMPANY
HIGHLIGHTS
Sales
and Marketing
We
have
historically focused our sales and marketing effort on U.S. wireless service
providers for retrofit applications. To date, we have sold our products to
many
of the largest cellular operators in the United States as well as to mid-size
and smaller U.S. wireless operators.
We
have
targeted certain international customers, marketing both our existing products
and presenting the benefits of our interference-management technology in the
design and early stage deployments of new systems. Targeted regions have
included China and other parts of the Far East as well as several countries
within Latin America and Europe. We have engaged professional representatives
in
these areas to facilitate entry into the markets and follow-on services. Such
representatives typically help by providing customer contacts and relationships,
in marketing, field support, and distribution.
Sales
to
three customers accounted for 98%, 97%, and 94% of our total revenues for 2006,
2005 and 2004, respectively. During 2006, the top three customers were Verizon
Wireless, Alltel Corporation, and Bluegrass Cellular Corporation, respectively.
In addition, a significant amount of our technical and managerial resources
have
been focused on working with these and a limited number of other operators
and
OEMs. Our sales, in dollars, to non-”top three” customers during 2006 was
similar to the 2005 amount, reflecting additional penetration in our largest
customers offsetting the continued expansion in our customer base.
Manufacturing
We
outsource our manufacturing processes in order to provide predictable product
yields and easy expansion to meet increased customer demand. Toward that end,
we
currently produce all of our products through third party manufacturers. We
believe there are multiple sources available for manufacturing and foresee
no
problem continuing to apply our outsourcing strategy. Our internal manufacturing
and test capability can be found in Elk Grove Village, IL.
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Research
and Development
Our
R&D efforts have been focused on developing and improving RF products for
wireless telecommunications systems. As a result of such efforts, product
performance has been improved, product size has been reduced, production costs
have been lowered, product functionality has been increased, and product
packaging has been streamlined. We are currently developing related products
that are synergistic with our core offerings and which utilize our core
technical competencies in the radio link management arena, allowing us to
deliver our solutions to more customers.
Our
total
R&D expenses during 2006, 2005 and 2004 were approximately $2,012,000,
$1,767,000, and $1,119,000, respectively.
Intellectual
Property and Patents
We
regard
certain elements of our product design, fabrication technology and manufacturing
process as proprietary and protect our rights in them through a combination
of
patents, trade secrets and non-disclosure agreements. We also have obtained
exclusive and non-exclusive licenses for technology developed with or by our
research partners, which have included Argonne National Laboratory and
Northwestern University. We believe that our success will depend in part upon
the protection of our proprietary information, our patents and licenses of
key
technologies from third parties, and our ability to operate without infringing
on the proprietary rights of others.
HTS
Technology
We
spent
many years developing HTS applications, resulting in a number of products,
processes and materials related to HTS. This experience has helped us offer
our
current set of state of the art solid-state solutions, such that the underlying
technology is being utilized in the marketplace today and may be even more
fully
utilized in the future.
There
are
two ways of designing an HTS component - “thin-film” and “thick-film”
techniques. We have technologies in both aspects that may have application
to
specific, but currently limited markets. We are prepared to address those
segments should the opportunity present itself, but currently have chosen to
focus on higher value-added, solid state solutions appropriate for the wireless
telecommunications application.
Patents
We
have
applied for patents for inventions developed internally and acquired patents,
through assignment of a license from the Canadian government, in connection
with
the purchase of the Adaptive Notch Filtering business unit of Lockheed Martin
Canada. One of our patents is jointly owned with Lucent Technologies, Inc.
Furthermore, we expect to pursue foreign patent rights on certain inventions
and
technologies critical to our products. Please refer to Note 2 of our Financial
Statements for a discussion of patent useful lives and
amortization.
Government
Regulations
Although
we believe that our wireless telecommunications products themselves are not
licensed or governed by approval requirements of the Federal Communications
Commission (“FCC”), the operation of base stations is subject to FCC licensing
and the radio equipment into which our products would be incorporated is subject
to FCC approval. Base stations and the equipment marketed for use therein must
meet specified technical standards. Our ability to sell our RF products is
dependent on the ability of wireless base station equipment manufacturers and
of
wireless base station operators to obtain and retain the necessary FCC approvals
and licenses. In order to be acceptable to base station equipment manufacturers
and to base station operators, the characteristics, quality, and reliability
of
our base station products must enable them to meet FCC technical
standards.
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We
may
use certain hazardous materials in our research, development and any
manufacturing operations. As a result, we may be subject to stringent federal,
state and local regulations governing the storage, use and disposal of such
materials. It is possible that current or future laws and regulations could
require us to make substantial expenditures for preventive or remedial action,
reduction of chemical exposure, or waste treatment or disposal. We believe
we
are in material compliance with all environmental regulations and to date we
have not had to incur significant expenditures for preventive or remedial action
with respect to the use of hazardous materials.
Employees
As
of
January 19, 2007, we had a total of 39 employees, 13 of whom hold advanced
degrees. Of the employees, 5 are engaged in manufacturing and production, 17
are
engaged in research, development and engineering, and 11 are engaged in
marketing and sales, and 6 are engaged in finance and administration. We also
periodically employ other consultants and independent contractors on as
as-needed basis. None of our employees are covered by a collective bargaining
agreement. We believe that our relationship with our employees is
good.
Item 1A.
Risk Factors
The
following factors, in addition to other information contained herein, should
be
considered carefully in evaluating us and our business.
RISKS
RELATED TO THE OPERATIONS AND FINANCING OF THE COMPANY
We
have a history of losses that raises doubts about our ability to continue as
a
going concern
We
were
founded in October 1989 and through 1996 we were engaged principally in research
and development, product testing, manufacturing, marketing and sales activities.
Since 1996, we have been actively selling products to the marketplace and we
continue to develop new products for sale. We have incurred net losses since
inception. As of December 31, 2006, our accumulated deficit was
approximately $164 million. We have only recently begun to generate revenues
from the sale of our ANF and RF² products, having sold more in the past two
years than in the fourteen years of company history prior to 2005. Accordingly,
although we showed a substantial improvement in revenues and we have indicated
the expectation of continued improvement during 2007, it is nonetheless possible
that we may continue to experience net losses and cannot be certain if or when
we will become profitable.
These
conditions raise substantial doubt about our ability to continue as a going
concern. The accompanying consolidated financial statements have been prepared
assuming we will continue as a going concern and do not include any adjustments
relating to the recoverability of reported assets or liabilities should we
be
unable to continue as a going concern.
If
we fail to obtain necessary funds for our operations, we may be unable to
maintain or improve on our technology position and unable to develop and
commercialize our products
To
date,
we have financed our operations primarily through public and private equity
and
debt financings, and most recently through several financings with affiliates
of
our two largest shareholders. We believe that we have sufficient funds to
operate our business until $11.3 million of our debt becomes due in August
2007.
That debt is held by our two largest shareholders, including affiliates. While
we expect to refinance this debt no such refinancing has occurred as of the
reporting date, therefore, the ability to refinance our debt and maintain
adequate working capital is necessary for us to continue as a going concern.
Additionally, we project increases in working capital requirements in order
to
pursue significant business opportunities during 2007 and beyond, and also
expect to spend additional financial resources in the expansion of our business
and product offering. As such, we may require additional capital prior to August
2007. We intend to look into augmenting our existing capital position by
continuing to evaluate potential short-term and long-term sources of capital
whether from debt, equity, hybrid, or other methods. The primary covenant in
our
existing debt arrangement involves the right of the lenders to receive debt
repayment from the proceeds of new financing activities. This covenant may
restrict our ability to obtain new sources of financing and/or to apply the
proceeds of a financing event toward operations until the debt is repaid in
full.
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Our
continued existence is therefore dependent upon our continued ability to raise
funds through the issuance of our equity securities or borrowings. Our plans
in
this regard are to obtain other debt and equity financing until such time as
profitable operation and positive cash flow are achieved and maintained.
Although we believe, based on the fact that we have raised funds through sales
of common stock and from borrowings over the past several years, that we will
be
able to secure suitable additional financing for our operations, there can
be no
guarantee that such financing will continue to be available on reasonable terms,
or at all. As a result, there is no assurance that we will be able to continue
as a going concern.
The
actual amount of future funding requirements will depend on many factors,
including: the amount and timing of future revenues, the level of product
marketing and sales efforts to support our commercialization plans, the
magnitude of research and product development programs, the ability to improve
or maintain product margins, any merger and acquisition activity, and the costs
involved in protecting patents or other intellectual property.
We
have limited experience in manufacturing, sales and marketing and dependence
on
third party manufacturers
For
us to
be financially successful, we must either manufacture our products in
substantial quantities, at acceptable costs and on a timely basis or enter
into
outsourcing arrangements with qualified manufacturers that will allow us the
same result. Currently, our manufacturing requirements are met by third party
contract manufacturers. The efficient operation of our business will depend,
in
part, on our ability to have these and other companies manufacture our products
in a timely manner, cost-effectively and in sufficient volumes while maintaining
the required quality. Any manufacturing disruption could impair our ability
to
fulfill orders and could cause us to lose customers.
In
the
event that we are unable to maintain manufacturing arrangements on acceptable
terms with qualified manufacturers then we would have to produce our products
in
commercial quantities in our own facilities. Although to date we have produced
limited quantities of our products for commercial installations and for use
in
development and customer field trial programs, production of large quantities
of
our products at competitive costs presents a number of technological and
engineering challenges. We may be unable to manufacture such products in
sufficient volume. We have limited experience in manufacturing, and substantial
costs and expenses may be incurred in connection with attempts to manufacture
larger quantities of our products. We may be unable to make the transition
to
large-scale commercial production successfully.
Our
sales
and marketing experience to date is very limited. We may be required to further
develop our marketing and sales force in order to effectively demonstrate the
advantages of our products over other products. We also may elect to enter
into
arrangements with third parties regarding the commercialization and marketing
of
our products. If we enter into such agreements or relationships, we would be
substantially dependent upon the efforts of others in deriving commercial
benefits from our products. We may be unable to establish adequate sales and
distribution capabilities, we may be unable to enter into marketing arrangements
or relationships with third parties on financially acceptable terms, and any
such third party may not be successful in marketing our products. There is
no
guarantee that our sales and marketing efforts will be successful.
Management
of our growth
Growth
may cause a significant strain on our management, operational, financial and
other resources. The ability to manage growth effectively may require us to
implement and improve our operational, financial, manufacturing and management
information systems and expand, train, manage and motivate employees. These
demands may require the addition of new management personnel and the development
of additional expertise by management. Any increase in resources devoted to
product development and marketing and sales efforts could have an adverse effect
on financial performance in future fiscal quarters. If we were to receive
substantial orders, we may have to expand current facilities, which could cause
an additional strain on our management personnel and development resources.
The
failure of the management team to effectively manage growth could have a
material adverse effect on our business, operating results and financial
condition.
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RISKS
RELATED TO OUR COMMON STOCK AND CHARTER PROVISIONS
Volatility
of common stock price
The
market price of our common stock, like that of many other high-technology
companies, has fluctuated significantly and is likely to continue to fluctuate
in the future. Since January 1, 2005 and through December 31, 2006,
the closing price of our common stock has ranged from a low of $0.25 per share
and high of $0.46 per share. Announcements by us or others regarding the receipt
of customer orders, quarterly variations in operating results, acquisitions
or
divestitures, additional equity or debt financings, results of customer field
trials, scientific discoveries, technological innovations, litigation, product
developments, patent or proprietary rights, government regulation and general
market conditions may have a significant impact on the market price of our
common stock. In addition, fluctuations in the price of our common stock could
affect our ability to maintain the listing of our common stock on the American
Stock Exchange.
Risk
of dilution
As
of
December 31, 2006, we had outstanding options to purchase 4.9 million
shares of common stock at a weighted average exercise price of $0.41 per share
(fewer than 0.1 million of which have not yet vested) issued to employees,
directors and consultants pursuant to the 2003 Equity Incentive Plan and its
predecessor 1993 Stock Option Plan, as amended, the merger agreement with
Spectral Solutions, and individual agreements with management and directors.
In
addition, on the same date we had 8.7 million unvested shares of restricted
stock outstanding. In order to attract and retain key personnel, we may issue
additional securities, including grants of restricted shares, in connection
with
or outside our company employee benefit plans, or may lower the price of
existing stock options.
The
exercise of options and warrants for common stock and the issuance of additional
shares of common stock, shares of restricted stock and/or rights to purchase
common stock at prices below market value would be dilutive to existing
stockholders and may have an adverse effect on the market value of our common
stock.
Concentration
of our stock ownership
At
the
time of this filing, officers, directors and principal stockholders (holding
greater than 5% of outstanding shares) together control approximately 50% of
the
outstanding voting power on a fully diluted basis. The two largest stockholders,
along with their affiliates, are also our lenders, holding all of our
outstanding debt instruments. Consequently, these stockholders, if they act
together, would be able to exert significant influence over all matters
requiring stockholder approval, including the election of directors and approval
of significant corporate transactions. In addition, this concentration of
ownership may delay or prevent a change of control of us, even if such a change
may be in the best interests of our stockholders. The interests of these
stockholders may not always coincide with our interests or the interests of
other stockholders. Accordingly, these stockholders could cause us to enter
into
transactions or agreements that we would not otherwise consider.
Certain
provisions in our charter documents have an anti-takeover
effect
There
exist certain mechanisms that may delay, defer or prevent such a change of
control. For instance, our Certificate of Incorporation and By-Laws provide
that
(i) our Board of Directors has authority to issue series of our preferred
stock with such voting rights and other powers as the Board of Directors may
determine and (ii) prior specified notice must be given by a stockholder
making nominations to the Board of Directors or raising business matters at
stockholders meetings. The effect of the anti-takeover provisions in our charter
documents may be to deter business combination transactions not approved by
our
Board of Directors, including acquisitions that may offer a premium over market
price to some or all stockholders.
Table
of Contents
Reporting
requirements of a public company
As
a
public company, we are required to comply with various reporting obligations.
These obligations change from time to time, and currently include full
compliance with Section 404 of the Sarbanes-Oxley Act for our fiscal year
ending December 31, 2007. The process of achieving full compliance might
involve the commitment of significant resources, including substantial levels
of
management attention. If we fail to comply with the reporting obligations of
the
Exchange Act and Section 404 of the Sarbanes-Oxley Act, or if we fail to
achieve and maintain adequate internal controls over financial reporting, our
business, results of operations and financial condition, and investors’
confidence in us, could be materially adversely affected.
As
a
public company, we are required to comply with the periodic reporting
obligations of the Exchange Act, including preparing annual reports, quarterly
reports and current reports. Our failure to prepare and disclose this
information in a timely manner could subject us to penalties under federal
securities laws, expose us to lawsuits and restrict our ability to access
financing. In addition, we are required under applicable law and regulations
to
integrate our systems of internal controls over financial reporting. We plan
to
evaluate our existing internal controls with respect to the standards adopted
by
the Public Company Accounting Oversight Board. During the course of our
evaluation, we may identify areas requiring improvement and may be required
to
design enhanced processes and controls to address issues identified through
this
review. This could result in significant delays and cost to us and require
us to
divert substantial resources, including management time, from other
activities.
TECHNOLOGY
AND MARKET RISKS
We
are dependent on wireless telecommunications
The
principal target market for our products is wireless telecommunications. The
devotion of substantial resources to the wireless telecommunications market
creates vulnerability to adverse changes in this market. Adverse developments
in
the wireless telecommunications market, which could come from a variety of
sources, including future competition, new technologies or regulatory decisions,
could affect the competitive position of wireless systems. Any adverse
developments in the wireless telecommunications market may have a material
adverse effect on our business, operating results and financial
condition.
We
are dependent on the enhancement of existing networks and the build-out of
next-generation networks, and the capital spending patterns of wireless network
operators
Increased
sales of products are dependent on a number of factors, one of which is the
build-out of next generation (3G and 4G) enabled wireless communications
networks as well as enhancements of existing infrastructure. Building wireless
networks is capital intensive, as is the process of upgrading existing
equipment. Further, the capital spending patterns of wireless network operators
is beyond management’s control and depends on a variety of factors, including
access to financing, the status of federal, local and foreign government
regulation and deregulation, changing standards for wireless technology, the
overall demand for wireless services, competitive pressures and general economic
conditions. The build-out of next-generation networks may take years to
complete. The magnitude and timing of capital spending by these operators for
constructing, rebuilding or upgrading their systems significantly impacts the
demand for our products. Any decrease or delay in capital spending patterns
in
the wireless communication industry, whether because of a general business
slowdown or a reevaluation of the prospective demand for data and other
services, would delay the build-out of these networks and may significantly
harm
business prospects.
Our
success depends on the market’s acceptance of our products
Our
RF
products, including our ANF and RF² products, have not been sold in very large
quantities and a sufficient market may not develop for these products. Customers
establish demanding specifications for performance, and although we believe
we
have met or exceeded these specifications to date, there is no guarantee that
the wireless service providers will elect to use these solutions to solve their
wireless network problems. Although we have enjoyed substantial revenue growth
over the past two years, including the best three revenue quarters in our
history during 2006, there is no assurance that we will continue to receive
orders from these customers.
-12-
Table
of Contents
Rapid
technological change and future competitive technologies could negatively affect
our operations
The
field
of telecommunications is characterized by rapidly advancing technology. Our
success will depend in large part upon our ability to keep pace with advancing
our high performance RF technology and efficient, readily available low cost
materials technologies. Rapid changes have occurred, and are likely to continue
to occur, in the development of wireless telecommunications. Development efforts
may be rendered obsolete by the adoption of alternative solutions to current
wireless operator problems or by technological advances made by
others.
BUSINESS
RISKS
Dependence
on a limited number of customers
Sales
to
three customers accounted for 98%, 97%, and 94% of our total revenues for 2006,
2005 and 2004, respectively. During 2006, the top three customers were Verizon
Wireless, Alltel Corporation, and Bluegrass Cellular Corporation, respectively.
In addition, a significant amount of our technical and managerial resources
have
been focused on working with these and a limited number of other operators
and
OEMs. Our sales, in dollars, to non-”top three” customers during 2006 was
similar to the 2005 amount, reflecting additional penetration in our largest
customers offsetting the continued expansion in our customer base. The loss
of
any of these large customers might have a material adverse effect on our
business, operating result, and financial condition.
We
expect
that if our products achieve market acceptance, a limited number of wireless
service providers and OEMs will account for a substantial portion of revenue
during any period. Sales of many of our products depend in significant part
upon
the decisions of prospective and current customers to adopt and expand their
use
of these products. Wireless service providers, wireless equipment OEMs and
our
other customers are significantly larger than we are, and are able to exert
a
high degree of influence over us. Customers’ orders are affected by a variety of
factors such as new product introductions, regulatory approvals, end user demand
for wireless services, customer budgeting cycles, inventory levels, customer
integration requirements, competitive conditions and general economic
conditions. The failure to attract new customers would have a material adverse
effect on our business, operating results and financial condition.
We
have lengthy sales cycles
Prior
to
selling products to customers, we may be required to undergo lengthy approval
and purchase processes. Technical and business evaluation by potential customers
can take up to a year or more for products based on new technologies. The length
of the approval process is affected by a number of factors, including, among
others, the complexity of the product involved, priorities of the customers,
budgets and regulatory issues affecting customers. We may not obtain the
necessary approvals or ensuing sales of such products may not occur. The length
of customers’ approval process or delays could make our quarterly revenues and
earnings inconsistent and difficult to trend.
We
are dependant on limited sources of supply
Certain
parts and components used in our RF products are only available from a limited
number of sources. Our reliance on these limited source suppliers exposes us
to
certain risks and uncertainties, including the possibility of a shortage or
discontinuation of certain key components and reduced control over delivery
schedules, manufacturing capabilities, quality and costs. Any reduced
availability of such parts or components when required could materially impair
the ability to manufacture and deliver products on a timely basis and result
in
the cancellation of orders, which could have a material adverse effect on our
business, operating results and financial condition.
Table
of Contents
In
addition, the purchase of certain key components involves long lead times and,
in the event of unanticipated increases in demand for our products, we may
be
unable to manufacture products in quantities sufficient to meet customers’
demand in any particular period. We have few guaranteed supply arrangements
with
our limited source suppliers, do not maintain an extensive inventory of parts
or
components, and customarily purchase parts and components pursuant to actual
or
anticipated purchase orders placed from time to time in the ordinary course
of
business.
Related
to this topic, we produce substantially all of our products through third-party
contract manufacturers. Like raw materials, the elimination of any of these
entities or delays in the fulfillment process, for whatever reason, may impact
our ability to fulfill customer orders on a timely basis and may have a material
adverse effect on our business, operating results, or financial
condition.
To
satisfy customer requirements, we may be required to stock certain long
lead-time parts and/or finished product in anticipation of future orders, or
otherwise commit funds toward future purchase. The failure of such orders to
materialize as forecasted could limit resources available for other important
purposes or accelerate the requirement for additional funds. In addition, such
excess inventory could become obsolete, which would adversely affect financial
performance. Business disruption, production shortfalls or financial
difficulties of a limited source supplier could materially and adversely affect
us by increasing product costs or reducing or eliminating the availability
of
such parts or components. In such events, the inability to develop alternative
sources of supply quickly and on a cost-effective basis could materially impair
the ability to manufacture and deliver products on a timely basis and could
have
a material adverse effect on our business, operating results and financial
condition.
Dependence
on key personnel
Our
success will depend in large part upon our ability to attract and retain highly
qualified management, engineering, manufacturing, marketing, sales and R&D
personnel. Due to the specialized nature of our business, it may be difficult
to
locate and hire qualified personnel. The loss of services of one of our
executive officers or other key personnel, or the failure to attract and retain
other executive officers or key personnel, could have a material adverse effect
on our business, operating results and financial condition.
Failure
of products to perform properly might result in significant warranty
expenses
In
general, our products carry a warranty of one or two years, limited to
replacement of the product or refund of the cost of the product. In addition,
we
offer our customers extended warranties. Repeated or widespread quality problems
could result in significant warranty expenses and/or the loss of customer
confidence. The occurrence of such quality problems could have a material
adverse effect on our business, operating results and financial
condition.
Intense
competition, and continued consolidation in our industry could create stronger
competitors and harm the business
The
wireless telecommunications equipment market is very competitive. Many of these
companies have substantially greater financial resources, larger research and
development staffs and greater manufacturing and marketing capabilities than
we
do. Our products compete directly with products which embody existing and future
competing commercial technologies. Other emerging wireless technologies may
also
provide protection from RF interference and offer enhanced range to wireless
communication service providers, potentially at lower prices and/or superior
performance, and may therefore compete with our products. High performance
RF
solutions may not become a preferred technology to address the needs of wireless
communication service providers. Failure of our products to improve performance
sufficiently, reliably, or at an acceptable price or to achieve commercial
acceptance or otherwise compete with existing and new technologies, would have
a
material adverse effect on our business, operating results and financial
condition.
Table
of Contents
LEGAL
RISKS
Intellectual
Property and Patents
Our
success will depend in part on our ability to obtain patent protection for
our
products and processes, to preserve trade secrets and to operate without
infringing upon the patent or other proprietary rights of others and without
breaching or otherwise losing rights in the technology licenses upon which
any
of our products are based. We have applied for patents for inventions developed
internally and acquired patent rights in connection with the purchase of the
Adaptive Notch Filtering business unit of Lockheed Martin Canada. One of the
patents is jointly owned with Lucent Technologies, Inc. We believe there are
a
large number of patents and patent applications covering RF products and other
products and technologies that we are pursuing. Accordingly, the patent
positions of companies using RF technologies, including us, are uncertain and
involve complex legal and factual questions. The patent applications filed
by us
or others may not result in issued patents or the scope and breadth of any
claims allowed in any patents issued to us or others may not exclude competitors
or provide competitive advantages. In addition, patents issued to us, our
subsidiaries or others may not be held valid if subsequently challenged or
others may claim rights in the patents and other proprietary technologies owned
or licensed by us. Others may have developed or may in the future develop
similar products or technologies without violating any of our proprietary
rights. Furthermore, the loss of any license to technology that we might acquire
in the future may have a material adverse effect on our business, operating
results and financial condition.
Some
of
the patents and patent applications owned by us are subject to non-exclusive,
royalty-free licenses held by various U.S. governmental units. These licenses
permit these U.S. government units to select vendors other than us to produce
products for the U.S. Government, which would otherwise infringe our patent
rights that are subject to the royalty-free licenses. In addition, the U.S.
Government has the right to require us to grant licenses (including exclusive
licenses) under such patents and patent applications or other inventions to
third parties in certain instances.
Older
patent applications in the U.S. are currently maintained in secrecy until
patents are issued. In foreign countries and for newer U.S. patent applications,
this secrecy is maintained for a period of time after filing. Accordingly,
publication of discoveries in the scientific literature or of patents themselves
or laying open of patent applications in foreign countries or for newer U.S.
patent applications tends to lag behind actual discoveries and filing of related
patent applications. Due to this factor and the large number of patents and
patent applications related to RF materials and technologies, and other products
and technologies that we are pursuing, comprehensive patent searches and
analyses associated with RF technologies and other products and technologies
that we are pursuing are often impractical or not cost-effective. As a result,
patent and literature searches cannot fully evaluate the patentability of the
claims in our patent applications or whether materials or processes used by
us
for our planned products infringe or will infringe upon existing technologies
described in U.S. patents or may infringe upon claims in patent applications
made available in the future. Because of the volume of patents issued and patent
applications filed relating to RF technologies and other products and
technologies that we are pursuing, we believe there is a significant risk that
current and potential competitors and other third-parties have filed or will
file patent applications for, or have obtained or will obtain, patents or other
proprietary rights relating to materials, products or processes used or proposed
to be used by us. In any such case, to avoid infringement, we would have to
either license such technologies or design around any such patents. We may
be
unable to obtain licenses to such technologies or, if obtainable, such licenses
may not be available on terms acceptable to us or we may be unable to
successfully design around these third-party patents.
Our
participation in litigation or patent office proceedings in the U.S. or other
countries to enforce patents issued or licensed to us, to defend against
infringement claims made by others or to determine the ownership, scope or
validity of the proprietary rights of us and others, could result in substantial
cost to, and diversion of effort by, us. The parties to such litigation may
be
larger, better capitalized than we are and better able to support the cost
of
litigation. An adverse outcome in any such proceedings could subject us to
significant liabilities to third parties, require us to seek licenses from
third
parties and/or require us to cease using certain technologies, any of which
could have a material adverse effect on our business, operating results and
financial condition.
Table
of Contents
Litigation
We
have
no active lawsuits, nor any pending or threatened to the best of our knowledge.
The act of defending against any potential claim may be costly and divert
management attention. If we are not successful in defending against whatever
claims and charges may be made against us in the future, there may be a material
adverse effect on our business, operating results and financial
condition.
Government
Regulations
Although
we believe that our wireless telecommunications products themselves are not
subject to licensing by, or approval requirements of, the FCC, the operation
of
base stations is subject to FCC licensing and the radio equipment into which
our
products would be incorporated is subject to FCC approval. Base stations and
the
equipment marketed for use therein must meet specified technical standards.
The
ability to sell our wireless telecommunications products is dependent on the
ability of wireless base station equipment manufacturers and wireless base
station operators to obtain and retain the necessary FCC approvals and licenses.
In order for them to be acceptable to base station equipment manufacturers
and
to base station operators, the characteristics, quality and reliability of
our
base station products must enable them to meet FCC technical standards. We
may
be subject to similar regulations of foreign governments. Any failure to meet
such standards or delays by base station equipment manufacturers and wireless
base station operators in obtaining the necessary approvals or licenses could
have a material adverse effect on our business, operating results and financial
condition. In addition, certain RF filters are on the U.S. Department of
Commerce’s export regulation list. Therefore, exportation of such RF filters to
certain countries may be restricted or subject to export licenses.
We
are
subject to governmental labor, safety and discrimination laws and regulations
with substantial penalties for violations. In addition, employees and others
may
bring suit against us for perceived violations of such laws and regulations.
Defending against such complaints could result in significant legal costs for
us. Although we endeavor to comply with all applicable laws and regulations,
we
may be the subject of complaints in the future, which could have a material
adverse effect on our business, operating results and financial
condition.
Environmental
Liability
Certain
hazardous materials may be used in research, development and to the extent
of
any manufacturing operations. As a result, we are subject to stringent federal,
state and local regulations governing the storage, use and disposal of such
materials. It is possible that current or future laws
and
regulations could require us to make substantial expenditures for preventive
or
remedial action, reduction of chemical exposure, or waste treatment or disposal.
We believe we are in material compliance with all environmental regulations
and
to date have not had to incur significant expenditures for preventive or
remedial action with respect to the use of hazardous materials.
However,
our operations, business or assets could be materially and adversely affected
by
the interpretation and enforcement of current or future environmental laws
and
regulations. In addition, although we believe that our safety procedures for
handling and disposing of such materials comply with the standards prescribed
by
state and federal regulations, there is the risk of accidental contamination
or
injury from these materials. In the event of an accident, we could be held
liable for any damages that result. Furthermore, the use and disposal of
hazardous materials involves the risk that we could incur substantial
expenditures for such preventive or remedial actions. The liability in the
event
of an accident or the costs of such actions could exceed available resources
or
otherwise have a material adverse effect on the business, results of operations
and financial condition. We carry property and worker’s compensation insurances
in full force and effect through nationally known carriers which include
pollution cleanup or removal and medical claims for industrial
incidents.
Table
of Contents
RISKS
RELATED TO ACQUISITIONS AND BUSINESS EXPANSION
Risks
of future acquisitions
In
the
future , we may pursue acquisitions to obtain products, services and
technologies that we believe would complement or enhance our current product
or
services offerings. At present, no definitive agreements or similar arrangements
exist with respect to any such acquisition. An acquisition may not produce
the
revenue, earnings or business synergies as anticipated and may attach
significant unforeseen liabilities, and an acquired product, service or
technology might not perform as expected. If an acquisition is pursued, our
management could spend a significant amount of time and effort in identifying
and completing the acquisition and may be distracted from the operations of
the
business. In addition, management would probably have to devote a significant
amount of resources toward integrating the acquired business with the existing
business, and that integration may not be successful.
International
operations
We
are in
discussions and have agreements in place with companies in non-U.S. markets
to
form manufacturing, product development joint ventures and other marketing,
distribution or consulting arrangements. We also have agreements with foreign
entities for international distribution as well as foreign sources of components
to be used in North America. These agreements and relationships help us optimize
our competitive position and cost structure. There are many such entities that
exist, domestically and internationally, that offer similar capabilities, and
thus could reduce risk exposure to the loss of such foreign
entities.
We
believe that non-U.S. markets could provide a substantial source of revenue
in
the future. However, there are certain risks applicable to doing business in
foreign markets that are not applicable to companies doing business solely
in
the U.S. For example, we may be subject to risks related to fluctuations in
the
exchange rate between the U.S. dollar and foreign currencies in countries in
which we do business. In addition, we may be subject to the additional laws
and
regulations of these foreign jurisdictions, some of which might be substantially
more restrictive than similar U.S. ones. Foreign jurisdictions may also provide
less patent protection than is available in the U.S., and we may be less able
to
protect our intellectual property from misappropriation and infringement in
these foreign markets.
Item 1B.
Unresolved Staff Comments
Not
applicable.
Item 2.
Properties
We
maintain our corporate headquarters in a 15,000 square foot building located
in
Elk Grove Village, Illinois under a lease which expires in October 2014. This
facility houses our manufacturing, research, development, engineering,
administration and marketing activities. We also maintain a 4,000 square foot
facility located in Elk Grove Village, Illinois under a lease which expires
in
October 2014, which is used for R&D purposes. We believe that these
facilities are adequate and suitable for our current needs and that additional
space would be available on commercial terms as necessary to meet any future
needs.
Item 3.
Legal Proceedings
None.
We
were not involved in any such proceedings during 2006 nor are we aware of any
pending or threatened litigation.
Item 4.
Submission of Matters to a Vote of Security Holders
None.
Table
of Contents
PART
II
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer
Purchases of Equity Securities
Our
common stock has been listed since June 2002 on the American Stock Exchange
under the symbol “ISO.” Prior to that, and until April 1999, our stock had been
listed on the OTC Bulletin Board under the symbol “ISCO.” From 1993 until April
1999, our common stock was listed on the NASDAQ National Market. The following
table shows, for the periods indicated, the reported high and low sale prices
for the common stock. Such prices reflect prices between dealers, without retail
mark up, mark down, or commissions and may or may not reflect actual
transactions.
|
|
|
|
High
|
|
|
Low
|
|
|
FISCAL
YEAR ENDED DECEMBER 31, 2005
|
|
|
|
|
|
|
|
|
First
Quarter
|
|
$
|
0.52
|
|
$
|
0.28
|
|
|
Second
Quarter
|
|
$
|
0.41
|
|
$
|
0.22
|
|
|
Third
Quarter
|
|
$
|
0.29
|
|
$
|
0.23
|
|
|
Fourth
Quarter
|
|
$
|
0.45
|
|
$
|
0.25
|
|
|
FISCAL
YEAR ENDED DECEMBER 31, 2006
|
|
|
|
|
|
|
|
|
First
Quarter
|
|
$
|
0.43
|
|
$
|
0.30
|
|
|
Second
Quarter
|
|
$
|
0.43
|
|
$
|
0.25
|
|
|
Third
Quarter
|
|
$
|
0.36
|
|
$
|
0.27
|
|
|
Fourth
Quarter
|
|
$
|
0.45
|
|
$
|
0.30
|
|
On
December 31, 2006, there were approximately 300 holders of record of our
common stock. On such date the closing bid price for our common stock as
reported on the American Stock Exchange was $0.34.
We
have
never paid cash dividends on the common stock and we do not expect to pay any
dividends on our common stock in the foreseeable future. In addition, borrowings
under our line of credit are collateralized by all of our assets — we are
prohibited from paying any dividends, other than dividends consisting solely
of
common stock or rights to purchase common stock, unless our lenders waive such
prohibition.
Except
as
reported on our Current Reports on Form 8-K filed with the Securities and
Exchange Commission on July 26, 2006 and August 3, 2006, there were no
recent sales of unregistered securities during 2006. Further, there were no
repurchases of equity securities by us during the fourth quarter of
2006.
Item 6.
Selected Financial Data
The
following table presents selected consolidated financial data with respect
to us
as of and for the years ended December 31, 2002, 2003, 2004, 2005, and
2006. The selected consolidated financial data for each of the years in the
five-year period ended December 31, 2006 have been derived from our audited
consolidated financial statements. The information set forth below should be
read in conjunction with Item 7. “Management’s Discussion and Analysis of
Financial Condition and Results of Operations” and Item 8. “Financial
Statements and Supplementary Data.”
Table
of Contents
|
|
|
2002
|
|
2003
|
|
2004
|
|
2005
|
|
2006
|
|
|
CONSOLIDATED
STATEMENT OF
|
|
|
|
|
|
|
|
|
|
|
|
|
OPERATIONS
DATA
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
sales
|
$
|
3,662,805
|
$
|
3,238,402
|
$
|
2,621,933
|
$
|
10,264,428
|
$
|
14,997,320
|
|
|
Costs
and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of sales
|
|
3,565,140
|
|
1,639,540
|
|
1,527,554
|
|
5,121,650
|
|
9,066,929
|
|
|
Research
and development
|
|
2,737,084
|
|
988,425
|
|
1,119,406
|
|
1,767,447
|
|
2,011,652
|
|
|
Selling
and marketing
|
|
2,201,195
|
|
959,798
|
|
1,164,830
|
|
1,861,065
|
|
3,207,882
|
|
|
General
and administrative
|
|
7,972,948
|
|
5,614,492
|
|
4,757,935
|
|
3,691,070
|
|
4,287,080
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
loss
|
|
(12,813,562)
|
|
(5,963,853)
|
|
(5,947,792)
|
|
(2,176,804)
|
|
(3,576,223)
|
|
|
Other
income (Expense)
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
62,954
|
|
5,087
|
|
8,660
|
|
77,383
|
|
118,590
|
|
|
Interest
expense
|
|
(327,224)
|
|
(1,197,309)
|
|
(1,028,169)
|
|
(877,461)
|
|
(907,351)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
other expense, net
|
|
(264,270)
|
|
(1,192,222)
|
|
(1,019,509)
|
|
(800,078)
|
|
(788,761)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
$
|
(13,077,832)
|
$
|
(7,156,075)
|
$
|
(6,967,301)
|
|
(2,976,882)
|
$
|
(4,364,984)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted loss per
|
|
|
|
|
|
|
|
|
|
|
|
|
common
share
|
$
|
(0.09)
|
$
|
(0.05)
|
$
|
(0.04)
|
$
|
(0.02)
|
$
|
(0.02)
|
|
|
Weighted
average number of
|
|
|
|
|
|
|
|
|
|
|
|
|
common
shares outstanding
|
|
142,884,921
|
|
148,080,749
|
|
158,977,249
|
|
170,786,657
|
|
185,506,261
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CONSOLIDATED
BALANCE
|
|
|
|
|
|
|
|
|
|
|
|
|
SHEET
DATA
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and cash equivalents
|
$
|
216,119
|
$
|
346,409
|
$
|
402,391
|
$
|
3,486,430
|
$
|
2,886,476
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Working
capital
|
|
1,333,827
|
|
735,840
|
|
979,413
|
|
6,396,541
|
|
(1,422,309)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
19,183,000
|
|
17,723,035
|
|
17,133,752
|
|
22,905,633
|
|
26,875,195
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term
debt, less current portion
|
2,000,000
|
|
5,000,000
|
|
7,500,000
|
|
10,520,369
|
|
5,131,762
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders'
equity
|
|
15,380,306
|
|
10,943,247
|
|
7,247,635
|
|
10,530,716
|
|
8,164,192
|
|
We
received $150,000 from our landlord for leasehold improvements during late
2004
and early 2005. Consistent with the appropriate accounting treatment of showing
these items separately (i.e., showing the full value of the leasehold
improvement within fixed assets and the unamortized value of the landlord credit
within current liabilities) working capital and total assets were reclassified
in the 2004 figure above to conform to the 2005 presentation of these items.
This reclassification has no material effect on the business condition or
results.
Table
of Contents
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations
A
NOTE CONCERNING FORWARD-LOOKING STATEMENTS
The
discussion below contains certain forward-looking statements that reflect our
current expectations regarding the Company’s future results of operations,
performance and achievements. Please see the discussion of such forward-looking
statements under “Forward Looking Statements” above.
Overview
We
have
employed an outsourced manufacturing model wherein we supply raw materials
to
external parties and products are then completed. Further, this system allows
us
to outsource procurement in the future if we choose to do so. Manufacturing
partners then produce to specification with Company personnel on hand to assist
with quality control. Our products are designed for efficient production in
this
manner, emphasizing solid-state electronics over mechanical devices with moving
parts. The cost benefits associated with these developments, coupled with
enhanced product functionality, have allowed us to realize good margins and
efficiently managed overhead costs. Extensions of developed technology, based
on
substantial input from customers, have allowed us to launch the RF² product
family and consider additional solutions while generally controlling total
R&D cost.
Wireless
telecommunications has undergone significant merger activity in recent years,
a
trend which we believe will continue. These activities often result in operators
with disparate technologies and spectrum assets, and the need to integrate
those
assets. In addition, the deployment of data applications is adding to the
industry requirement to integrate disparate technologies into base stations
and
other fixed points of access, resulting in the need to manage multiple wireless
signals and keep them from interfering with each other. We are focused on
providing solutions that address these types of requirements. During 2006,
we
bid on substantially larger business opportunities than we had in recent years.
These proposals often are accompanied by long approval cycles and we may bear
up-front product development costs. We believe the potential benefits to
outweigh these costs, and expect to continue to bid on these types of business
opportunities.
We
announced several significant recent events during 2006 and early 2007,
including a continuing trend of substantially increased revenue during 2006
which saw the three best quarterly revenue figures in our history, increased
international sales and sourcing activities, additional penetration into our
largest customers, our first products based partly on digital technology, and
$5
million in funding intended to support new product development. Despite these
improvements, the wireless telecommunications industry is subject to risks
beyond our control that can negatively impact customer capital spending budgets
(as occurred during 2003) and/or spending patterns (as occurred during 2004
and
to a lesser extent on a quarterly basis after 2004). In addition, a large
portion of our debt ($11.3 million) matures in August 2007 and must be
refinanced. For these and other reasons, our financial statements have been
prepared assuming we will continue as a going concern.
From
a
company-specific view, we have invested in measured infrastructure growth to
allow for potentially substantial revenue expansion. This has caused spending
to
increase from 2004 levels. We believe that we now have the infrastructure
largely in place to allow for such potential revenue expansion, and therefore
as
a general guideline do not expect fixed costs to rise, except for some R&D
associated with product initiatives, during 2007.
We
are
pursuing digital technologies, evidenced by the deployment of our digital (front
end) ANF solution platform during 2006, subsequent extensions of that platform,
and our expectation to complete a fully digital ANF platform during 2007. We
believe that producing solutions on a digital platform will allow us to extend
coverage in the wireless telecommunications realm, both in more aspects of
the
cellular market and beyond the cellular market, and thus greatly increase our
available market.
Table
of Contents
Results
of Operations
Years
Ended December 31, 2006 and 2005
Our
net
sales increased $4,733,000, or 46%, from $10,264,000 in 2005 to $14,997,000
in
2006. This increase was due primarily to the expansion of the RF² product family
and related revenues, particularly from data network deployments. An incremental
improvement was also seen from the shipment of more ANF products during 2006
than during prior years. We saw our first deferred software revenue during
2006,
carrying nearly $0.2 million in deferred software maintenance revenue into
2007.
We anticipate our unit volume and related revenue to increase during 2007 as
compared to 2006, due to existing and/or anticipated customer orders. Our order
backlog as of December 31, 2006 remained minimal, which was consistent with
the end of 2005. However, we are pursuing substantial potential revenue
opportunities as of the beginning of 2007.
Cost
of
products sold increased $3,945,000, or 77%, from $5,122,000 in 2005 to
$9,067,000 in 2006. The increase in cost of sales was due to the increase in
sales volume, as well as a less favorable product mix than was realized during
the prior year. RF² products have varied gross margins, but typically are below
margins for ANF products, and the expansion of lower margin products outpaced
that of the higher margin products. We believe that our consistent gross margin
of 40% during 2006 is superior to the industry norm, but it was below our record
50% achieved during 2005.
Our
internally funded research and development expenses increased $245,000, or
14%,
from $1,767,000 in 2005 to $2,012,000 during 2006. We expensed approximately
$200,000 of capitalized patent-related charges during the second quarter 2005,
as we deemed such items to be unlikely to generate significant future revenues,
so the increase in 2006 cash spend over 2005 was $200,000 more than reported
above. We added a significant number of products to our RF² product family
during 2006, including a GMA (“ground mounted amplifier”), as well as the first
digital platformed ANF products. We expect to continue to invest more in R&D
during 2007 than we did during 2006 as we expand both our existing product
families and develop two new product lines that would be applicable in wireless
technologies beyond cellular telecommunications, particularly in the digital
space.
Selling
and marketing expenses increased $1,347,000, or 72%, from $1,861,000 during
2005
to $3,208,000 during 2006. The increase in expense was attributable to the
continued addition of personnel in this area as we pursue additional customers
and larger, more diverse opportunities (these elements contributed to the 46%
annual revenue growth increase in 2006 over 2005; and higher if viewed on a
quarterly basis during the last three quarters of 2006). We have also performed
extensive customer development activities as we have added new customers and
launched new products, including a very detailed and comprehensive interference
study over a wide geographic range (a one-time cost of approximately $0.2
million).
General
and administrative expenses increased $596,000, or 16%, from $3,691,000 in
2005
to $4,287,000 during 2006. This increase was largely attributable to a $0.5
million increase in non-cash equity charges associated with stock-based
compensation.
Interest
income increased $42,000, or 55%, from $77,000 in 2005 to $119,000 during 2006.
This increase was due to the timing of payments and funding from the June 2006
financing proceeds. Additionally, we saw improved cash flows from operations
during the second half of 2006.
Interest
expense increased $30,000, or 3.4%, from $877,000 in 2005 to $907,000 during
2006. We borrowed $5 million under a convertible debt arrangement during June
2006 with our two largest shareholders, including affiliates, which also hold
the remainder of our debt which matures August 2007.
Table
of Contents
Years
Ended December 31, 2005 and 2004
Our
net
sales increased $7,642,000, or 291%, from $2,622,000 in 2004 to $10,264,000
in
2005. This increase was due primarily to the expansion of the RF² product family
and related revenues, particularly from data network deployments. An incremental
improvement was also seen from the shipment of more ANF products during 2005,
such that we earned more revenue from ANF sales than any prior year, including
2004.
Cost
of
products sold increased $3,594,000, or 235%, from $1,528,000 in 2004 to
$5,122,000 in 2005. The increase in cost of sales was due to the increase in
sales volume offset by the more efficient allocation of fixed expenses, the
expanded sourcing of raw materials and resulting cost decreases, and other
efficiencies.
Our
internally funded research and development expenses increased $648,000, or
58%,
from $1,119,000 in 2004 to $1,767,000 during 2005. We expensed approximately
$200,000 of capitalized patent-related charges during the second quarter 2005,
as we deemed such items to be unlikely to generate significant future revenues.
We added a significant number of products to our RF² product family during 2005,
including a multicoupler solution and a PCS spectrum portfolio.
Selling
and marketing expenses increased $696,000, or 60%, from $1,165,000 during 2004
to $1,861,000 during 2005. We have continued to add personnel in this area
as we
pursue larger business opportunities and additional customers, and thus expect
to continue to incur a higher level of selling and marketing expenses in future
periods. It should be noted that this cost as a percentage of revenue has
decreased from 44% during 2004 to 18% during 2005, reflecting efficiencies
in
higher sales volume as fixed expenses are allocated over a larger
base.
General
and administrative expenses decreased $1,067,000, or 22%, from $4,758,000 in
2004 to $3,691,000 during 2005. This decrease was attributable to a $1 million
decrease in legal expenses, primarily related to the concluded patent
litigation, the reduction in facility costs by approximately $250,000 annually,
which is offset by various increases in personnel and related costs due to
growth in our size.
Interest
income increased $68,000, or 756%, from $9,000 in 2004 to $77,000 during 2005.
This increase was due to the timing of payments and funding from the credit
line
and the August 2005 financing proceeds.
Interest
and warrant expense decreased $151,000, or 15%, from $1,028,000 in 2004 to
$877,000 during 2005. We borrowed $1 million under our credit line arrangement
during 2005, but pursuant to a financing agreement with our lenders, the
interest rate was reduced from 14% to 9% as of April 2005.
Liquidity
and Capital Resources
The
accompanying financial statements have been prepared assuming that we will
continue as a going concern. As discussed in Note 3 to the financial statements,
we incurred a net loss of $4 million during the year ended December 31,
2006, and, as of that date, our accumulated deficit is $164 million. In
addition, we have consistently used, rather than provided, cash in our
operations. These factors, among others, as discussed in Note 3 to the financial
statements, raise substantial doubt about our ability to continue as a going
concern. We have been engaged in developing new solutions, and toward that
end
development spending has preceded sales revenues. Management’s plans in regard
to these matters include the focusing of development efforts on products with
a
greater probability of commercial sales, increased efficiencies and reduced
product costs within our outsourced production model, all of which are also
described in Note 3. The financial statements do not include any adjustments,
including any adjustments relating to the recoverability and classification
of
recorded asset amounts or amounts and classification of liabilities that might
result from the outcome of this uncertainty. Significant uses of cash during
2006 included the cost to produce inventory, personnel costs, facility related
costs, increased product development (engineering) costs and sales and marketing
efforts. Significant sources of cash during 2006 included sales and the
resulting realization of customer receivables, the sale of $5 million in
convertible debt in June 2006 to entities that, along with their affiliates,
are
our lenders and also our largest two shareholders.
Table
of Contents
Current
assets including accounts receivable and inventory, and current liabilities
including accounts payable and accrued expenses, increased from the prior year
figure due to overall higher business levels. Quarterly and annual revenue
during 2006 were the highest in our history and, on average, roughly 50% larger
than that of the prior year, and thus created larger working capital balances.
Working capital includes the classifications listed above.
In
view
of the matters described in the preceding paragraph, recoverability of a major
portion of the recorded asset amounts shown in the accompanying balance sheet
is
dependent upon continued operations, which in turn is dependent upon our ability
to meet our financing requirements on a continuing basis, to maintain present
financing, and to succeed in our future operations.
At
December 31, 2006, our cash and cash equivalents, excluding restricted
certificates of deposit, were $2,886,000, a decrease of $600,000 from the
December 31, 2005 balance of $3,486,000. This decrease was primarily
attributable to the increase in working capital (inventories and accounts
receivable) associated with our higher revenue levels and the timing of orders
and related shipments.
The
continuing development of, and expansion in, sales of our product lines, any
potential merger and acquisition activity, as well as any required defense
of
our intellectual property, may require a commitment of funds to undertake
product line development and to market and sell our RF products. The actual
amount of our future funding requirements will depend on many factors,
including: the amount and timing of future revenues, the level of product
marketing and sales efforts to support our commercialization plans, the
magnitude of our research and product development programs, our ability to
improve or maintain product margins, and the costs involved in protecting our
patents or other intellectual property.
We
believe that we have sufficient funds to operate our business until $11.3
million of our debt becomes due in August 2007. That debt is held by our two
largest shareholders, including affiliates. While we expect to refinance this
debt no such refinancing has occurred as of the reporting date, therefore,
the
ability to refinance our debt and maintain adequate working capital is necessary
for us to continue as a going concern Additionally, we project increases in
working capital requirements in order to pursue significant business
opportunities during 2007 and beyond, and also expect to spend additional
financial resources in the expansion of our business and product offerings.
As
such, we may require additional capital prior to August 2007. We intend to
look
into augmenting our existing capital position by continuing to evaluate
potential short-term and long-term sources of capital whether from debt, equity,
hybrid, or other methods. The primary covenant in our existing debt arrangement
involves the right of the lenders to receive debt repayment from the proceeds
of
new financing activities. This covenant may restrict our ability to obtain
additional financing or to apply the proceeds of a financing event toward
operations until the debt is repaid in full.
Uncommitted
Line of Credit (2002 Credit Line)
As
of the
reporting date, we have drawn $8.5 million of debt financing under a credit
line, as described below. During October 2002, we entered into an uncommitted
line of credit with our two largest shareholders, an affiliate of Elliott
Associates, L.P. (Manchester Securities Corporation) and Alexander Finance,
L.P.
This line initially provided up to $4 million to us. This line was uncommitted,
such that each new borrowing under the facility would be subject to the approval
of the lenders. Borrowings on this line bore an initial interest rate of 9.5%
and were collateralized by all the assets of the Company. Outstanding loans
under this agreement would be required to be repaid on a priority basis should
we receive new funding from other sources. Additionally, the lenders were
entitled to receive warrants to the extent funds were drawn down on the line.
The warrants bore a strike price of $0.20 per share of common stock and were
to
expire on April15, 2004. The credit line was to mature and be due, including
accrued interest thereon, on March 31, 2004. Due to a subsequent agreement
between the parties no warrants were issued with subsequent
borrowings.
According
to existing accounting pronouncements and SEC guidelines, we allocated the
proceeds of these borrowings between their debt and equity components. As a
result of these borrowings during 2002, we recorded a non-cash charge of $1.2
million through the outstanding term of the warrants (April, 2004). $250,000
and
$862,000 of that amount were recorded during 2004 and 2003, respectively. These
warrants were valued at $1.2 million of the $2 million debt instrument based
on
a Black-Scholes valuation that included the difference between the value of
our
common stock and the exercise price of the warrants on the date of each warrant
issuance and a 30% discounted face value of the notes, leaving the remaining
$0.8 million as the underlying value of the debt. This $1.2 million was
amortized over the vesting period of the warrants (six quarters from the fourth
quarter 2002 through the first quarter 2004).
Table
of Contents
During
October 2003, we entered into an agreement with our lenders to supplement the
credit line with an additional $2 million, $1 million of which was drawn
immediately and $1 million subsequently drawn upon our request and subject
to
the approval of the lenders. This supplemental facility bore a 14% rate of
interest and was due October 31, 2004. The term of the previous credit line
was
not affected by this supplement, and as such the $4 million borrowed under
that
line, plus accrued interest, remained due March 31, 2004.
During
February 2004, the credit line was extended to a due date of April 2005, with
interest after the initial periods to be charged at 14%. No warrants or other
inducements were issued with respect to this extension. Additionally, lenders
exercised their 10 million warrants during February 2004, agreeing to let us
use
the funds for general purposes as opposed to repaying debt.
During
July 2004, we and our lenders agreed to increase the aggregate loan commitments
under the credit line from $6,000,000 to $6,500,000. Simultaneously, we drew
the
remaining $1,500,000 of the financing.
During
November 2004, we and our lenders agreed to increase the line of credit to
up to
an additional $2 million to an aggregate loan commitment of $8,500,000, $1
million of which was drawn immediately by us with the remaining $1 million
drawable upon our request and subject to the approval of the lenders, which
occurred during January 2005.
During
February 2005, the credit line was extended until April 2006. Interest during
the extension period was to be charged at 9%. No warrants or other inducements
were issued with respect to this extension.
On
August
2, 2005, we and our lenders agreed to extend the due date from April 2006 until
August 2007, and the lenders also agreed to waive the Company’s obligation to
repay its debt with proceeds from an equity financing transaction with its
lenders, including affiliates, in August 2005. No warrants or other inducements
were issued as a result of this transaction.
2006
Convertible Debt
During
June 2006 we entered into a Securities Purchase Agreement (the “Agreement”) and
convertible notes (the “Notes”) with Alexander Finance, L.P., and Manchester
Securities Corporation L.P. (together, the “Lenders”), pursuant to which the
Lenders have agreed, to each loan us $2,500,000, or an aggregate of $5,000,000,
in convertible debt. The Lenders, including affiliates, are our two largest
shareholders and the lenders of the 2002 Credit Line referenced above. The
transaction was structured as a private placement of securities pursuant to
Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”)
and Rule 506 promulgated thereunder.
The
Notes
will mature on June 22, 2010 and bear an interest rate of 5% due at maturity.
Both the principal amount and any accrued interest on the Notes are convertible
into our common stock at a rate of $0.33 per share, subject to certain
anti-dilution adjustments. The Lenders have the right to convert the Notes,
both
principal and accrued interest, into shares of common stock at the rate of
$0.33
per share at any time. We have the right to redeem the Notes in full in cash
at
any time beginning two years after the date of the Agreement. The conversion
rate of the Notes will be subject to customary anti-dilution protections,
provided that the number of additional shares of common stock issuable as a
result of changes to the conversion rate will be capped so that the aggregate
number of shares of common stock issuable upon conversion of the Notes will
not
exceed 19.99% of the aggregate number of shares of common stock presently issued
and outstanding.
The
Notes
are secured on a first priority basis by all of our intangible and tangible
property and assets. Payment of the Notes is guaranteed by our two inactive
subsidiaries, Spectral Solutions, Inc. and Illinois Superconductor Canada
Corporation. The Agreement contains customary representations, warranties and
covenants. We filed a registration statement covering the resale of the shares
of common stock issuable upon conversion of the Notes with the Securities and
Exchange Commission. Concurrently with the execution of the Agreement, the
Lenders have waived their right under the 2002 Credit Line to receive the
financing proceeds from the issuance of the Notes, allowing us to use the funds
for product development or general working capital purposes. No fees were paid
to any financial advisor, placement agent, broker or finder in connection with
the transactions contemplated by the Agreement and the Notes.
Table
of Contents
Assuming
the Notes are held for the full four year term, 18,505,719 shares of common
stock would be required upon settlement, for both principal and interest. This
amount is approximately 10% of the then approximately 186 million shares of
common stock currently issued and outstanding. As of December 31, 2006, the
Lenders, including their affiliates, owned approximately 43% of the Company’s
outstanding shares. As a result of this transaction, the combined holdings
of
the Lenders would be approximately 48% of the Company’s outstanding common
stock.
Critical
Accounting Policies
The
discussion and analysis of our financial condition and results of operations
are
based upon our consolidated financial statements, which have been prepared
in
accordance with accounting principles generally accepted in the United States
of
America. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amount of assets and
liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities at the date of our financial statements. Actual results may
differ from these estimates under different assumptions or
conditions.
Critical
accounting policies are defined as those that are reflective of significant
judgments and uncertainties, and potentially result in materially different
results under different assumptions and conditions. We believe that our critical
accounting policies are limited to those described below. For a detailed
discussion on the application of these and other accounting policies, see Note
2
in the notes to the consolidated financial statements.
Revenue
Recognition
In
accordance with SAB No. 104, we recognize revenue when the following criteria
are met: persuasive evidence of an arrangement exists, delivery has occurred
or
services have been rendered, price is fixed and determinable, and collectability
is reasonably assured. Revenues from product sales are generally recognized
at
the time of shipment and are recorded net of estimated returns and allowances.
Revenues from services are generally recognized upon substantial completion
of
the service and acceptance by the customer. We have under certain conditions,
granted customers the right to return product during a specified period of
time
after shipment. In these situations, we establish a liability for estimated
returns and allowances at the time of shipment and make the appropriate
adjustment in revenue recognized for accounting purposes. During 2006, no
revenue was recognized on products that included a right to return or otherwise
required customer acceptance after December 31, 2006. We have established a
program which, in certain situations, allows customers or prospective customers
to field test our products for a specified period of time. Revenues from field
test arrangements are recognized upon customer acceptance of the
products.
During
2006, we began to sell the dANF product which contains software that is
essential to the functionality of the product and as such is required to be
accounted for in accordance with SOP 97-2, “Software Revenue Recognition,” as
amended by SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions.” The revenue recognized for each separate
element of a multiple-element software contract is based upon vendor-specific
objective evidence of fair value, which is based upon the price the customer
is
required to pay when the element is sold separately. The dANF product is
recognized as revenue upon shipment while the maintenance is deferred and
recognized on a straight line basis during the applicable maintenance period,
typically 1-3 years.
Table
of Contents
We
warrant our products against defects in materials and workmanship typically
for
a 1-2 year period from the date of shipment, though these terms may be
negotiated on a case by case basis. A provision for estimated future costs
related to warranty expenses is recorded when revenues are recognized. At both
December 31, 2006 and 2005 we accrued $34,000 for warranty costs. This
warranty reserve is based on the cost to replace a percentage of products in
the
field at a given point, adjusted by actual experience. Returns and allowances
were not significant in any period reported, and form a data point in
establishing the reserve. Should this warranty reserve estimate be deemed
insufficient, by new information, experience, or otherwise, an increase to
warranty expense would be required.
Goodwill
and Intangible Assets
During
2006, we completed our annual process of evaluating goodwill for impairment
under SFAS No. 142 “Goodwill and Other Intangible Assets”. As the fair value of
the enterprise, using quoted market prices for our common stock, exceeded the
carrying amount, goodwill was determined to be not impaired. We assess the
potential for impairment of goodwill annually, or more frequently if events
or
changes in circumstances indicate that the asset might be impaired. If we
determine that the carrying value of goodwill is less than its fair value,
a
write-down may be required. In accordance with SFAS No. 144 “Accounting for the
Impairment or Disposal of Long-Lived Assets”, we review our identifiable
intangible assets for impairment whenever events or changes in circumstances
indicate that the carrying amount may not be recoverable. Recoverability of
the
intangible assets is measured by a comparison of the carrying amount to the
fair
value. If intangible assets are considered to be impaired, the impairment to
be
recognized is measured by the amount by which the carrying amount of the asset
exceeds the fair value.
Allowance
for Doubtful Receivables
An
allowance for doubtful receivables may be maintained for potential credit
losses. Management specifically analyzes accounts receivable, on a client by
client basis, when evaluating the adequacy of our allowance for doubtful
receivables including customer credit worthiness and current economic trends
and
records any necessary bad debt expense based on the best estimate of the facts
known to date. Alternatives to this approach include applying a fixed and/or
empirical rate of bad debts to receivables. Bad debts have historically been
very low (none in 2006 or 2005). We believe our current method to be less
arbitrary and more reliable than the alternatives as described. Should the
facts
regarding the collectability of receivables change, the resulting change in
the
allowance would be charged or credited to income in the period such
determination is made. Such a change could materially impact our financial
position and results of operations.
Stock-Based
Compensation
Effective
January 1, 2006, we adopted the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 123R, "Share-Based Payment," ("FAS 123R") which
establishes accounting for equity instruments exchanged for employee services.
Under the provisions of FAS 123R, share-based compensation cost is measured
at
the grant date, based on the calculated fair value of the award, and is
recognized as an expense over the employee's requisite service period (generally
the vesting period of the equity grant). Performance-based grants (grants that
vest upon a future event and not due to the passage of time) are not expensed
until we believe it probable that vesting will occur. We elected to adopt the
modified prospective transition method as provided by FAS 123R and, accordingly,
financial statement amounts for the prior periods have not been retroactively
adjusted to reflect the fair value method of expensing share-based compensation.
Under the modified prospective method, share-based expense recognized after
adoption includes: (a) share-based expense for all awards granted prior to,
but
not yet vested as of January 1, 2006, based on the grant date fair value and
(b)
share-based expense for all awards granted subsequent to January 1, 2006. We
changed our equity compensation practices at the same time to emphasize grants
of restricted stock as opposed to stock options. As most options were fully
vested as of January 1, 2006, only a small portion of its total equity
compensation expense came from stock options, with the vast majority coming
from
grants of restricted stock. Grants of restricted stock are valued at the market
price on the date of grant and amortized during the service period on a
straight-line basis or the vesting of such grant, whichever is
higher.
Table
of Contents
Contractual
Obligations, Commitments, and Off Balance Sheet
Arrangements
No
such
arrangements existed as of December 31, 2006, except for leases as
described and the minimum lease payments as detailed in this
document.
|
Contractual
Obligations
|
|
Payments
Due by Period
|
|
|
|
|
|
|
|
|
|
|
||||
|
|
|
|
|
|
|
Less
than 1
|
|
|
|
|
|
|
|
|
More
than
|
|
|
Year
|
|
|
Total
|
|
|
Year
|
|
|
1-3
Years
|
|
|
3-5
Years
|
|
|
5
Years
|
|
|
Long
Term Debt Obligations
|
|
$
|
17,787,000
|
|
$
|
11,746,000
|
|
|
-
|
|
$
|
6,041,000
|
|
|
-
|
|
|
Operating
Lease Obligations
|
|
$
|
1,659,000
|
|
$
|
201,000
|
|
$
|
413,000
|
|
$
|
427,000
|
|
$
|
618,000
|
|
|
Total
|
|
$
|
19,446,000
|
|
$
|
11,947,000
|
|
$
|
413,000
|
|
$
|
6,468,000
|
|
$
|
618,000
|
|
Recent
Accounting Pronouncements
In
September 2006, the Financial Accounting Standards Board issued SFAS No. 157,
"Fair Value Measurements" ("SFAS 157"). This statement defines fair value as
used in numerous accounting pronouncements, establishes a framework for
measuring fair value in generally accepted accounting principles ("GAAP") and
expands disclosure related to the use of fair value measures in financial
statements. SFAS 157 does not expand the use of fair value measures in financial
statements, but standardizes its definition and guidance in GAAP. SFAS 157
is
effective for fiscal years beginning after November 15, 2007. We plan to adopt
the provisions of SFAS 157 on January 1, 2008. We are evaluating the potential
impact of SFAS 157, but at this time do not anticipate that it will have an
impact on our financial statements when adopted.
In
September 2006, the Securities and Exchange Commission ("SEC") released Staff
Accounting Bulletin No. 108, "Considering the Effects of Prior Year
Misstatements When Quantifying Misstatements in Current Year Financial
Statements" ("SAB 108"). SAB 108 provides guidance on how the effects of the
carryover or reversal of prior year financial statement misstatements should
be
considered in quantifying a current year misstatement. Prior practice allowed
the evaluation of materiality on the basis of (1) the error quantified as the
amount by which the current year income was misstated ("rollover method") or
(2)
the cumulative error quantified as the cumulative amount by which the current
year balance sheet was misstated ("iron curtain method"). The guidance provided
by SAB 108 requires both methods to be used in evaluating materiality.
Immaterial prior year errors may be corrected with the first filing of prior
year financial statements after adoption. The cumulative effect of the
correction would be reflected in the opening balance sheet with appropriate
disclosure of the nature and amount of each individual error corrected in the
cumulative adjustment, as well as a disclosure of the cause of the error and
that the error had been deemed to be immaterial in the past. We adopted SAB
108
for the year ended December 31, 2006, as required, and the adoption did not
have
a significant impact on our results of operations or financial
position.
Table
of Contents
In
July
2006 , FASB released FASB Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes, an interpretation of FASB Statement No. 109” (FIN 48). FIN 48
clarifies the accounting and reporting for uncertainties in income tax
positions. FIN 48 prescribes a recognition threshold and measurement attribute
for the financial statement recognition and measurement of a tax position taken
or expected to be taken in a tax return. FIN 48 also provides guidance on
derecognition, classification, interest and penalties, accounting in interim
periods, disclosure and transition. FIN 48 is effective for fiscal years ending
after December 15, 2006. We will adopt FIN 48 as of January 1, 2007, as
required. The cumulative effects, if any, of applying this Interpretation will
be recorded as an adjustment to retained earnings as of the beginning of the
period of adoption. We do not believe the adoption of FIN 48 will impact our
results of operations or financial position.
In
May
2005, the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standards (SFAS) No. 154, “Accounting Changes and Error
Corrections”, a replacement of APB Opinion No. 20 and FASB Statement No. 3. This
statement applies to all voluntary changes in accounting principle, and requires
retrospective application to prior periods’ financial statements for changes in
accounting principle. SFAS No. 154 was effective for us beginning on January
1,
2006. This statement didn't have a material impact on our financial
statements.
Effective
January 1, 2006, we adopted SFAS No. 123(R), “Share Based Payments,” as
described in Note 7, in the Notes to the Consolidated Financial Statements.
For
the year ended December 31, 2006, the effect on the results of operations of
recording stock-based compensation in accordance with SFAS 123(R) was $1.6
Million.
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
We
do not
have any material market risk sensitive instruments.
Item 8.
Financial Statements and Supplementary Data
Table
of Contents
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board
of
Directors
ISCO
International, Inc.
We
have
audited the accompanying consolidated balance sheets of ISCO International,
Inc.
(a Delaware corporation) and subsidiaries, as of December 31, 2006 and
2005, and the related consolidated statements of operations, stockholders’
equity, and cash flows for each of the three years ended December 31, 2006.
These financial statements are the responsibility of the Company’s management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company’s internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures
in
the financial statements assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In
our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the consolidated financial position of ISCO
International, Inc. and subsidiaries as of December 31, 2006 and 2005, and
the consolidated results of their operations and their cash flows for each
of
the three years ended December 31, 2006, in conformity with accounting
principles generally accepted in the United States of America.
The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 3, the Company incurred
a
net loss of $4,364,984 during the year ended December 31, 2006, and, as of
that date, the Company’s accumulated deficit was $164,405,272. In addition, the
Company has consistently used, rather than provided, cash in its operations.
These factors, among others, as discussed in Note 3 to the financial statements,
raise substantial doubt about the Company’s ability to continue as a going
concern. Management’s plans in regard to these matters are also described in
Note 3. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
As
discussed in Notes 2 and 7 to the consolidated financial statements, effective
January 1, 2006, the Company adopted Statement of Financial Accounting Standard
Number 123 (revised 2004), “Share Based Payments.”
Grant
Thornton LLP
Chicago,
Illinois
March 30,
2007
Table
of Contents
ISCO
INTERNATIONAL
CONSOLIDATED
BALANCE SHEETS
|
|
|
|
December
31,
|
|
|
December
31,
|
|
|
|
|
|
2006
|
|
|
2005
|
|
|
Assets:
|
|
|
|
|
|
|
|
|
Current
Assets:
|
|
|
|
|
|
|
|
|
Cash
and Cash Equivalents
|
|
$
|
2,886,476
|
|
$
|
3,486,430
|
|
|
Inventory
|
|
|
6,368,599
|
|
|
2,715,170
|
|
|
Accounts
Receivable, net
|
|
|
2,554,716
|
|
|
1,677,334
|
|
|
Prepaid
Expenses and Other
|
|
|
168,741
|
|
|
253,167
|
|
|
Total
Current Assets
|
|
|
11,978,532
|
|
|
8,132,101
|
|
|
Property
and Equipment
|
|
|
1,334,203
|
|
|
1,037,432
|
|
|
Less:
Accumulated Depreciation
|
|
|
(811,167)
|
|
|
(720,142)
|
|
|
Net
Property and Equipment
|
|
|
523,036
|
|
|
317,290
|
|
|
Restricted
Certificates of Deposit
|
|
|
162,440
|
|
|
242,180
|
|
|
Goodwill
|
|
|
13,370,000
|
|
|
13,370,000
|
|
|
Intangible
assets, net
|
|
|
841,187
|
|
|
844,062
|
|
|
Total
Assets
|
|
$
|
26,875,195
|
|
$
|
22,905,633
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
and Stockholders' Equity:
|
|
|
|
|
|
|
|
|
Current
Liabilities:
|
|
|
|
|
|
|
|
|
Accounts
Payable
|
|
$
|
1,172,844
|
|
$
|
416,095
|
|
|
Inventory-related
material purchase accrual
|
|
|
328,663
|
|
|
530,134
|
|
|
Employee-related
accrued liability
|
|
|
284,653
|
|
|
208,408
|
|
|
Accrued
professional services
|
|
|
93,000
|
|
|
279,000
|
|
|
Other
accrued liabilities and current deferred revenue
|
|
|
225,724
|
|
|
301,923
|
|
|
Current
Portion of LT Debt, including related interest, with related
parties
|
|
|
11,295,957
|
|
|
-
|
|
|
Total
Current Liabilities
|
|
|
13,400,841
|
|
|
1,735,560
|
|
|
|
|
|
|
|
|
|
|
|
Deferred
facility reimbursement
|
|
|
102,500
|
|
|
118,988
|
|
|
Deferred
revenue - non current
|
|
|
75,900
|
|
|
-
|
|
|
Notes
and related accrued interest with related parties, net of current
portion
|
|
|
5,131,762
|
|
|
10,520,369
|
|
|
Stockholders'
equity:
|
|
|
|
|
|
|
|
|
Preferred
stock; 300,000 shares authorized; No shares issued and
outstanding
|
|
|
|
|
|
|
|
|
at December 31, 2006 and December 31, 2005
|
|
|
-
|
|
|
-
|
|
|
Common
stock ($.001 par value); 250,000,000 shares authorized;
189,622,133
|
|
|
|
|
|
|
|
|
and 183,252,018 shares issued and outstanding at December 31, 2006
and
|
|
|
|
|
|
|
|
|
December 31, 2005, respectively
|
|
|
189,622
|
|
|
183,252
|
|
|
Additional
paid-in capital
|
|
|
172,379,842
|
|
|
170,387,752
|
|
|
Accumulated
deficit
|
|
|
(164,405,272)
|
|
|
(160,040,288)
|
|
|
Total
Shareholders' Equity
|
|
|
8,164,192
|
|
|
10,530,716
|
|
|
Total
Liabilities and Shareholders' Equity
|
|
$
|
26,875,195
|
|
$
|
22,905,633
|
|
See
the
accompanying Notes which are an integral part of the financial
statements.
Table
of Contents
ISCO
INTERNATIONAL
CONSOLIDATED
STATEMENTS OF OPERATIONS
|
|
|
|
|
Year
Ended December 31,
|
|
|||||
|
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
Net
sales
|
|
$
|
14,997,320
|
|
$
|
10,264,428
|
|
$
|
2,621,933
|
|
|
Costs
and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of sales
|
|
|
9,066,929
|
|
|
5,121,650
|
|
|
1,527,554
|
|
|
Research
and development
|
|
|
2,011,652
|
|
|
1,767,447
|
|
|
1,119,406
|
|
|
Selling
and marketing
|
|
|
3,207,882
|
|
|
1,861,065
|
|
|
1,164,830
|
|
|
General
and administrative
|
|
|
4,287,080
|
|
|
3,691,070
|
|
|
4,757,935
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
costs and expenses
|
|
|
18,573,543
|
|
|
12,441,232
|
|
|
8,569,725
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
loss
|
|
|
(3,576,223)
|
|
|
(2,176,804)
|
|
|
(5,947,792)
|
|
|
Other
income (expense)
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
|
118,590
|
|
|
77,383
|
|
|
8,660
|
|
|
Non-cash
warrant expense
|
|
|
-
|
|
|
-
|
|
|
(250,297)
|
|
|
Interest
expense
|
|
|
(907,351)
|
|
|
(877,461)
|
|
|
(777,872)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
other expense, net
|
|
|
(788,761)
|
|
|
(800,078)
|
|
|
(1,019,509)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(4,364,984)
|
|
|
(2,976,882)
|
|
$
|
(6,967,301)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted loss per common share
|
|
$
|
(0.02)
|
|
|
(0.02)
|
|
$
|
(0.04)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
average number of common shares outstanding
|
|
|
185,506,261
|
|
|
170,786,657
|
|
|
158,977,249
|
|
See
the
accompanying Notes which are an integral part of the financial
statements.
Table
of Contents
ISCO
INTERNATIONAL
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY
Years
Ended December 31, 2004, 2005, and 2006
|
|
|
Common
|
|
Common
|
|
Additional
|
|
Accumulated
|
|
|
|
|
|
|
Stock
|
|
Stock
|
|
Paid-In
|
|
Deficit
|
|
|
|
|
|
|
Shares
|
|
Amount
|
|
Capital
|
|
|
|
Total
|
|
|
Balance
as of December 31, 2003
|
|
150,149,927
|
$
|
150,150
|
$
|
160,889,202
|
$
|
(150,096,105)
|
$
|
10,943,247
|
|
|
Exercise
of Stock Options
|
|
1,063,776
|
|
1,064
|
|
140,676
|
|
-
|
|
141,740
|
|
|
Exercise
of Warrants
|
|
10,000,000
|
|
10,000
|
|
1,990,000
|
|
-
|
|
2,000,000
|
|
|
Stock-Based
Compensation
|
|
-
|
|
-
|
|
879,652
|
|
-
|
|
879,652
|
|
|
Non-cash
Warrant Expense
|
|
-
|
|
-
|
|
250,297
|
|
-
|
|
250,297
|
|
|
Net
Loss
|
|
-
|
|
-
|
|
-
|
|
(6,967,301)
|
|
(6,967,301)
|
|
|
Balance
as of December 31, 2004
|
|
161,213,703
|
$
|
161,214
|
$
|
164,149,827
|
$
|
(157,063,406)
|
$
|
7,247,635
|
|
|
Exercise
of Stock Options
|
|
2,038,333
|
|
2,038
|
|
265,078
|
|
-
|
|
267,116
|
|
|
Equity
Financing
|
|
20,000,000
|
|
20,000
|
|
4,280,000
|
|
-
|
|
4,300,000
|
|
|
Section
16b recovery
|
|
-
|
|
-
|
|
607,223
|
|
-
|
|
607,223
|
|
|
Stock-Based
Compensation
|
|
-
|
|
-
|
|
1,085,624
|
|
-
|
|
1,085,624
|
|
|
Net
Loss
|
|
-
|
|
-
|
|
-
|
|
(2,976,882)
|
|
(2,976,882)
|
|
|
Balance
as of December 31, 2005
|
|
183,252,036
|
$
|
183,252
|
$
|
170,387,752
|
$
|
(160,040,288)
|
$
|
10,530,716
|
|
|
Exercise
of Stock Options
|
|
2,582,826
|
|
2,583
|
|
427,330
|
|
-
|
|
429,913
|
|
|
Stock
Grants Vested
|
|
3,787,271
|
|
3,787
|
|
(3,787)
|
|
-
|
|
|
|
|
Section
16b recovery
|
|
-
|
|
-
|
|
3,124
|
|
-
|
|
3,124
|
|
|
Stock-Based
Compensation
|
|
-
|
|
-
|
|
1,565,423
|
|
-
|
|
1,565,423
|
|
|
Net
Loss
|
|
-
|
|
-
|
|
-
|
|
(4,364,984)
|
|
(4,364,984)
|
|
|
Balance
as of December 31, 2006
|
|
189,622,133
|
$
|
189,622
|
$
|
172,379,842
|
$
|
(164,405,272)
|
$
|
8,164,192
|
|
See
the
accompanying Notes which are an integral part of the financial
statements.
Table
of Contents
ISCO
INTERNATIONAL
CONSOLIDATED
STATEMENTS OF CASH FLOWS
|
|
|
|
|
Years
Ended December 31,
|
|
|||||
|
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
OPERATING
ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(4,364,984)
|
|
$
|
(2,976,882)
|
|
$
|
(6,967,301)
|
|
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
92,963
|
|
|
81,174
|
|
|
633,794
|
|
|
Amortization
|
|
|
54,431
|
|
|
56,560
|
|
|
50,325
|
|
|
Non-cash
compensation charges
|
|
|
1,565,423
|
|
|
1,085,624
|
|
|
879,651
|
|
|
Non-cash
warrant issuance-related expense
|
|
|
-
|
|
|
-
|
|
|
250,297
|
|
|
Patent-related
charge
|
|
|
-
|
|
|
199,819
|
|
|
32,564
|
|
|
Changes
in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
Accounts
receivable
|
|
|
(877,382)
|
|
|
(1,554,874)
|
|
|
1,047,251
|
|
|
Inventories
|
|
|
(3,653,429)
|
|
|
(1,746,122)
|
|
|
(290,687)
|
|
|
Prepaid
expenses and other
|
|
|
84,426
|
|
|
341,321
|
|
|
(273,341)
|
|
|
Accounts
payable
|
|
|
756,749
|
|
|
213,482
|
|
|
(41,034)
|
|
|
Accrued
liabilities and deferred revenue
|
|
|
476,837
|
|
|
1,290,565
|
|
|
499,616
|
|
|
Deferred
occupancy costs
|
|
|
106,250
|
|
|
-
|
|
|
-
|
|
|
Net
cash used in operating activities
|
|
|
(5,758,716)
|
|
|
(3,009,333)
|
|
|
(4,178,865)
|
|
|
INVESTING
ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
Decrease/
(Increase) in restricted certificates of deposit
|
|
|
79,740
|
|
|
48,847
|
|
|
(250,500)
|
|
|
Payment
of patent costs
|
|
|
(51,556)
|
|
|
(49,121)
|
|
|
(38,707)
|
|
|
Acquisition
of property and equipment, net
|
|
|
(302,458)
|
|
|
(80,694)
|
|
|
(117,686)
|
|
|
Net
cash used in investing activities
|
|
|
(274,274)
|
|
|
(80,968)
|
|
|
(406,893)
|
|
|
FINANCING
ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds
from warrants
|
|
|
-
|
|
|
-
|
|
|
2,000,000
|
|
|
Proceeds
from equity issuance
|
|
|
-
|
|
|
4,300,000
|
|
|
-
|
|
|
Proceeds
from Section 16b recovery
|
|
|
3,124
|
|
|
607,223
|
|
|
-
|
|
|
Exercise
of stock options
|
|
|
429,912
|
|
|
267,117
|
|
|
141,740
|
|
|
Proceeds
from issuance of notes
|
|
|
5,000,000
|
|
|
1,000,000
|
|
|
2,500,000
|
|
|
Net
cash provided by financing activities
|
|
|
5,433,036
|
|
|
6,174,340
|
|
|
4,641,740
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase
in cash and cash equivalents
|
|
|
(599,954)
|
|
|
3,084,039
|
|
|
55,982
|
|
|
Cash
and cash equivalents at beginning of period
|
|
|
3,486,430
|
|
|
402,391
|
|
|
346,409
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and cash equivalents at end of period
|
|
$
|
2,886,476
|
|
$
|
3,486,430
|
|
$
|
402,391
|
|
|
Supplemental
cash flow information
|
|
|
|
|
|
|
|
|
|
|
|
Cash
paid for interest and income taxes
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
See
the
accompanying Notes which are an integral part of the financial statements
Table
of Contents
Notes
to the Financial Statements
1.
Description of Business
ISCO
International (including its inactive subsidiaries, Spectral Solutions, Inc.,
and Illinois Superconductor Canada Corporation, the “Company”) addresses RF
(Radio Frequency) and radio link optimization issues, including interference
issues, within wireless communications. The Company uses unique products,
including ANF, RF², and other solutions, as well as service expertise, in
improving the RF handling of a wireless system, particularly the radio link
(the
signal between the mobile device and the base station). A subset of this
capability is mitigating the impact of interference on wireless communications
systems. These solutions are designed to enhance the quality, capacity, coverage
and flexibility of wireless telecommunications services. The Company has
historically marketed its products to cellular, PCS and wireless
telecommunications service providers and OEM’s located both in the United States
and in international markets.
2.
Summary of Significant Accounting Policies
Principles
of Consolidation
The
consolidated financial statements include the accounts of the Company and its
wholly owned subsidiaries. All intercompany balances and transactions have
been
eliminated.
Cash
and Cash Equivalents
Cash
and
cash equivalents consist of demand deposits, time deposits, money market funds,
and commercial paper which have original maturities of three months or less
from
the date of purchase. Management believes that the financial institutions in
which it maintains such deposits are financially sound and, accordingly, minimal
credit risk exists with respect to these deposits.
Accounts
receivable
The
majority of the Company’s accounts receivable is due from companies in the
telecommunications industry. Credit is extended based on evaluation of a
customers’ financial condition and, generally, collateral is not required.
Accounts receivable are typically due within 30 days and are stated at amounts
due from customers, net of an allowance for doubtful accounts. Accounts
outstanding longer than the contractual payment terms are considered past due.
The Company determines its allowance for doubtful accounts by considering a
number of factors, including the length of time trade accounts receivable are
past due, the Company’s previous loss history, the customer’s current ability to
pay its obligation to the Company, and the condition of the general economy
and
the industry as a whole. The Company writes-off accounts receivable when they
become uncollectible, and payments subsequently received on such receivables
are
credited to the allowance for doubtful accounts. The allowance could be
materially different if economic conditions change or actual results deviate
from historical trends.
Inventories
Inventories
are stated at the lower of cost (determined on a first in, first out basis)
or
market.
Table
of Contents
Property
and Equipment
Property
and equipment are stated at cost, less accumulated depreciation, and are
depreciated over the estimated useful lives of the assets using both straight
line and accelerated methods. The accelerated method used is the double
declining balance method. Software is typically amortized over 3 years utilizing
the straight-line method. Leasehold improvements are amortized using the
straight-line method over the shorter of the useful life of the asset or the
term of the lease. Amortization of leasehold improvements is included in
depreciation expense. The useful lives assigned to property and equipment for
the purpose of computing book depreciation follow:
|
Manufacturing
equipment
|
|
3 to 4 years
|
|
Office
equipment
|
|
3
to 5 years
|
|
Furniture
and fixtures
|
|
5
years
|
|
Leasehold
improvements
|
|
Life of lease
|
Income
Taxes
Deferred
tax assets and liabilities are determined based on differences between financial
reporting and tax bases of assets and liabilities and are measured using the
enacted tax rates and laws that will be in effect when the differences are
expected to reverse. The Company uses a valuation allowance when it determines
the amount of deferred tax asset to include in its financial statement for
the
current period is not realizable. This valuation allowance is based on
historical patterns of taxable income, recognized deferred tax liabilities,
and
other factors that could impact the current view of future tax asset
utilization.
Revenue
Recognition
Revenues
from product sales are generally recognized at the time of shipment and are
recorded net of estimated returns and allowances. Revenues from services are
generally recognized upon substantial completion of the service and acceptance
by the customer. We have under certain conditions, granted customers the right
to return product during a specified period of time after shipment. In these
situations, we establish a liability for estimated returns and allowances at
the
time of shipment and make the appropriate adjustment in revenue recognized
for
accounting purposes. During 2006, no revenue was recognized on products that
included a right to return or otherwise required customer acceptance after
December 31, 2006. We have established a program which, in certain
situations, allows customers or prospective customers to field test our products
for a specified period of time. Revenues from field test arrangements are
recognized upon customer acceptance of the products.
During
2006, we began to sell the dANF product which contains software that is
essential to the functionality of the product and as such is required to be
accounted for in accordance with SOP 97-2, “Software Revenue Recognition,” as
amended by SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions.” The revenue recognized for each separate
element of a multiple-element software contract is based upon vendor-specific
objective evidence of fair value, which is based upon the price the customer
is
required to pay when the element is sold separately. The dANF product is
recognized as revenue upon shipment while the maintenance is deferred and
recognized on a straight line basis during the applicable maintenance period,
typically 1-3 years.
Product
Warranty
The
Company warrants its products against defects in materials and workmanship
typically for a 1-2 year period from the date of shipment, though these terms
may be negotiated on a case-by-case basis. A provision for estimated future
costs related to warranty expenses is recorded when revenues are recognized.
At
both December 31, 2006 and 2005 the Company accrued $34,000 for warranty
costs. This warranty reserve is based on the cost to replace a percentage of
products in the field at a given point, adjusted by actual experience. Returns
and allowances were not significant in any period reported, and form a data
point in establishing the reserve. Should this warranty reserve estimate be
deemed insufficient, by new information, experience, or otherwise, an increase
to warranty expense would be required.
Table
of Contents
Concentration
of Credit Risk
Sales
to
three of the Company’s customers accounted for 98%, 97% and 94% of the Company’s
total revenues for 2006, 2005 and 2004, respectively. The balance of Accounts
Receivable from our top three customers was $2.5 Million and $1.7 Million as
of
December 31, 2006 and 2005, respectively. During 2006 the top three
customers were Verizon Wireless, Alltel Corporation, and Bluegrass Cellular
Corporation, respectively.
Advertising
Costs
Advertising
costs are charged to expense in the period incurred.
Research
and Development Costs
Research
and development costs related to both present and future products are charged
to
expense in the period incurred.
Net
Loss Per Common Share
Basic
and
diluted net loss per common share are computed based upon the weighted average
number of common shares outstanding. Approximately 5 million common shares
issuable as of December 31, 2006 upon the exercise of options and warrants,
and 9 million unvested shares of restricted stock, are not included in the
per
share calculations since the effect of their inclusion would be
antidilutive.
Use
of Estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of
the financial statements, and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
Description
of Certain Concentrations and Risks
The
Company operates in a highly competitive and rapidly changing industry. Product
revenues are currently concentrated with a limited number of customers, and
the
supply of certain materials is concentrated among a few providers. The
development and commercialization of new technologies by any competitor could
adversely affect the Company’s results of operations.
Goodwill
and Intangible Assets
Patents
and trademarks represent costs, primarily legal fees and expenses, incurred
in
order to prepare and file patent applications related to various aspects of
the
Company’s technology and to its current and proposed products. Patents and
trademarks are recorded at cost and are amortized using the straight-line method
over the shorter of their estimated useful lives or 17 years. The recoverability
of the carrying values of patents and trademarks is evaluated on an ongoing
basis by Company management. Factors involved in this evaluation include whether
the item is in force, whether it has been directly threatened or challenged
in
litigation or administrative process, continued usefulness of the item in
current and/or expected utilization by the Company in its solution offerings,
perceived value of such material or invention in the marketplace, availability
and utilization of alternative or other technologies, the perceived protective
value of the item, and other factors.
Table
of Contents
During
2006 and 2005, the Company wrote off approximately $0 and $200,000,
respectively, in patent-related costs. Total capitalized patent and trademark
costs were approximately $841,000 and $844,000 at December 31, 2006 and
2005, respectively. Capitalized patent costs related to pending patents were
approximately $289,000 and $266,000 at December 31, 2006 and 2005,
respectively. Patents and trademarks were reported net of accumulated
amortization of approximately $321,000 and $268,000 at December 31, 2006
and 2005, respectively.
As
of the
reporting date, the Company had recorded goodwill resulting from the
acquisitions of Spectral Solutions, Inc. and the Adaptive Notch Filter division
of Lockheed Martin Canada, Inc., both during 2000. Beginning January 1,
2002, goodwill is no longer to be amortized but rather to be tested for
impairment on an annual basis and between annual tests whenever there is an
indication of potential impairment. Impairment losses would be recognized
whenever the implied fair value of goodwill is determined to be less than its
carrying value. SFAS 142 prescribes a two-step impairment test to determine
whether the carrying value of the Company’s goodwill is impaired. The first step
of the goodwill impairment test is used to identify potential impairment, while
the second step measures the amount of the impairment loss. Step one to this
test requires the comparison of the fair value of each reporting unit with
its
carrying amount, including goodwill. As the Company is comprised of a single
reporting unit, the question of fair value is centered upon whether the market
value, as measured by market capitalization, of the Company exceeds
shareholders’ equity. The excess of the Company’s market capitalization over its
reported shareholders’ equity indicates that the goodwill of the Company’s sole
reporting unit was not impaired as of December 31, 2006 and
2005.
The
Company’s balances of Goodwill and Intangible Assets were as
follows:
|
|
|
Year Ended December 31,
|
|
||||
|
|
|
2006
|
|
2005
|
|
||
|
|
|
(in thousands of dollars)
|
|
||||
|
Patent,
gross
|
|
$
|
1,162
|
|
$
|
1,112
|
|
|
Accumulated
amortization
|
|
|
(321)
|
|
|
(268)
|
|
|
|
|
|
|
|
|
|
|
|
Other
amortizable intangibles, net
|
|
$
|
841
|
|
$
|
844
|
|
|
|
|
|
|
|
|
|
|
|
Goodwill
|
|
$
|
13,370
|
|
$
|
13,370
|
|
The
following table summarizes the estimated annual pretax amortization expense
for
the intangible assets with definitive lives:
|
2007
|
|
|
|
|
|
51
|
|
|
2008
|
|
|
|
|
|
51
|
|
|
2009
|
|
|
|
|
|
51
|
|
|
2010
|
|
|
|
|
|
51
|
|
|
2011
|
|
|
|
|
|
50
|
|
|
Thereafter
|
|
|
|
|
|
587
|
|
|
Total
|
|
|
|
|
$
|
841
|
|
Fair
Value of Financial Instruments
The
carrying values of financial instruments, including accounts receivable,
accounts payable, and long-term debt, approximates fair value.
Table
of Contents
Long
Lived Assets
In
accordance with the provisions of SFAS No. 144, “Accounting for the
Impairment or Disposal of Long-Lived Assets,” the Company reviews long-lived
assets, including property and equipment, for impairment whenever events or
changes in business circumstances indicate the carrying amount of the assets
may
not be fully recoverable. Under SFAS No. 144, an impairment loss is
recognized when estimated undiscounted future cash flows expected to result
from
use of the asset and its eventual disposition are less than the carrying amount.
Impairment, if any, is determined using discounted cash flows. The Company
had
no such impairment losses in 2006 or 2005.
Stock-Based
Employee Compensation
In
December 2004, the FASB issued SFAS No.123 (revised 2004), “Share-Based Payment”
(SFAS No.123R). This statement requires that the compensation cost relating
to
share-based payment transactions be recognized in the financial statements.
Compensation cost is to be measured based on the estimated fair value of the
equity-based compensation awards issued as of the grant date. The related
compensation expense will be based on the estimated number of awards expected
to
vest and will be recognized over the requisite service period (often the vesting
period) for each grant. The statement requires the use of assumptions and
judgments about future events and some of the inputs to the valuation models
will require considerable judgment by management.
SFAS
No.123(R) replaces FASB Statement No.123 (SFAS No.123), “Accounting for
Share-Based Compensation,” and supersedes APB Opinion No.25, “Accounting for
Stock Issued to Employees.” The provisions of SFAS No.123(R) are required to be
applied by public companies that do not file as small business issuers, as
of
the first interim or annual reporting period that begins after June 15, 2005,
and all other public companies as of the first interim or annual reporting
period that begins after December 15, 2005. On April 14, 2005, the SEC adopted
a
new rule amending the effective date for Statement 123(R). Based on the amended
rule, registrants were required to implement Statement 123(R) as of the first
annual period beginning after June 15, 2005, which was January 1, 2006 for
us.
On
January 1, 2006, we adopted SFAS No.123(R), under the modified prospective
application transition method without restatement of prior interim periods.
This
resulted in our recognizing compensation cost based on the requirements of
SFAS
No.123(R) for all equity-based compensation awards issued after the effective
date of this statement. For all equity-based compensation awards that were
unvested as of that date, compensation cost is recognized for the unamortized
portion of compensation cost not previously included in the SFAS No.123 pro
forma footnote disclosure. The adoption of SFAS No.123(R) had a material effect
on the Company’s results of operations with respect to equity issuances during
2006, with an equity compensation charge of $1.5 million during
2006.
The
effects on earnings and earnings per share if the value recognition provisions
of FAS 123(R) were applied to the twelve-month periods ended December 31, 2005
and 2004, respectively, is presented in the following tables:
|
In
thousands of dollars:
|
|
Twelve
months ended
December
31, 2005
|
|
Twelve
months ended
December
31, 2004
|
|
||
|
Net
loss, as reported
|
|
$
|
(2,977
|
)
|
$
|
(6,967
|
)
|
|
Deduct
net change in stock-based employee compensation expense determined
under
fair-value-based method of all rewards, net of tax
|
|
$
|
(273
|
)
|
$
|
(406
|
)
|
|
Pro
forma net loss
|
|
$
|
(3,250
|
)
|
$
|
(7,373
|
)
|
|
Pro
forma net loss per share (basic)
|
|
$
|
(0.02
|
)
|
$
|
(0.05
|
)
|
|
Pro
forma net loss per share (diluted)
|
|
$
|
(0.02
|
)
|
$
|
(0.05
|
)
|
Table
of Contents
The
following table summarizes the stock option activity during the fiscal year
ended December 31, 2006:
|
Outstanding,
December 31, 2005
|
|
|
8,146,000
|
|
|
Granted
|
|
|
-
|
|
|
Forfeited
or canceled
|
|
|
(651,000)
|
|
|
Exercised
|
|
|
(2,583,000)
|
|
|
Outstanding,
December 31, 2006
|
|
|
4,912,000
|
|
The
fair
value of each option grant was estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions used for grants in 2005: no dividend yield, expected volatility
of
105%, risk-free interest rate of 3.8%, and an expected life of 4 years. No
options were granted during 2006.
At
December 31, 2006, a total of 4.9 million stock options were outstanding under
the Company’s equity compensation plans, all but less than 0.1 million of which
are fully vested. Stock-based compensation expense recognized during the fiscal
year ended December 31, 2006 includes compensation expense for stock options
granted prior to this period but not yet vested, based on the grant date fair
value estimated in accordance with the pro forma provisions of FAS 123. Included
in stock-based compensation expense for the fiscal year ended December 31,
2006
was $0.1 million related to stock options.
Restricted
Share Rights
Restricted
share grants offer employees the opportunity to earn shares of the Company’s
stock over time. Grants issued during 2006 generally vest over two years for
employees and one year for non-employee directors. For grants during 2007 and
beyond, we expect that the typical vesting period for employees will be four
years while the vesting period for non-employee directors will remain tied
to
the one year service period (directors are elected annually by our
shareholders). We recognize the issuance of the shares related to these
stock-based compensation awards and the related compensation expense on a
straight-line basis over the vesting period, or on an accelerated basis in
those
cases where the actual vesting is faster than the proportional straight line
value. Included within these grants are also performance-based shares, that
is,
shares that vest based on accomplishing particular objectives as opposed to
vesting over time. No performance-based shares were vested during the fiscal
year ended December 31, 2006.
The
following table summarizes the restricted stock award activity during
2006.
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
Average
Grant Date
|
|
|
|
|
|
Shares
|
|
|
Fair
Value (per share)
|
|
|
Outstanding,
December 31, 2005
|
|
|
None
|
|
|
None
|
|
|
Granted
|
|
|
15,598,000
|
|
$
|
0.35
|
|
|
Forfeited
or canceled
|
|
|
(3,097,000)
|
|
$
|
0.34
|
|
|
Vested
|
|
|
(3,787,000)
|
|
$
|
0.35
|
|
|
Outstanding,
December 31, 2006
|
|
|
8,714,000
|
|
$
|
0.35
|
|
The
total
fair value of restricted shares vested during the fiscal year ended December
31,
2006 was $1.3 million. Total non-cash equity compensation expense recognized
during the fiscal year ended December 31, 2006 was $1.6 million. Non-cash equity
expense for the fiscal year ended December 31, 2006 included $1.3 million for
vested restricted share grants, $0.1 million for the vesting of stock options
awarded prior to 2006, and $0.2 million for the straight-line amortization
of
restricted share grants that did not vest during the fiscal year ended December
31, 2006.
Table
of Contents
Recent
Accounting Pronouncements
In
September 2006, the Financial Accounting Standards Board issued SFAS No. 157,
"Fair Value Measurements" ("SFAS 157"). This statement defines fair value as
used in numerous accounting pronouncements, establishes a framework for
measuring fair value in generally accepted accounting principles ("GAAP") and
expands disclosure related to the use of fair value measures in financial
statements. SFAS 157 does not expand the use of fair value measures in financial
statements, but standardizes its definition and guidance in GAAP. SFAS 157
is
effective for fiscal years beginning after November 15, 2007. We plan to adopt
the provisions of SFAS 157 on January 1, 2008. We are evaluating the potential
impact of SFAS 157, but at this time do not anticipate that it will have an
impact on our financial statements when adopted.
In
September 2006, the Securities and Exchange Commission ("SEC") released Staff
Accounting Bulletin No. 108, "Considering the Effects of Prior Year
Misstatements When Quantifying Misstatements in Current Year Financial
Statements" ("SAB 108"). SAB 108 provides guidance on how the effects of the
carryover or reversal of prior year financial statement misstatements should
be
considered in quantifying a current year misstatement. Prior practice allowed
the evaluation of materiality on the basis of (1) the error quantified as the
amount by which the current year income was misstated ("rollover method") or
(2)
the cumulative error quantified as the cumulative amount by which the current
year balance sheet was misstated ("iron curtain method"). The guidance provided
by SAB 108 requires both methods to be used in evaluating materiality.
Immaterial prior year errors may be corrected with the first filing of prior
year financial statements after adoption. The cumulative effect of the
correction would be reflected in the opening balance sheet with appropriate
disclosure of the nature and amount of each individual error corrected in the
cumulative adjustment, as well as a disclosure of the cause of the error and
that the error had been deemed to be immaterial in the past. We adopted SAB
108
for the year ended December 31, 2006, as required, and the adoption did not
have
a significant impact on our financial statements.
During
July 2006, the FASB issued FIN 48, “Accounting for Uncertainty in Income Taxes,”
which will impact the recognition, measurement, and disclosure of positions
taken for income tax purposes. The Interpretation is effective for fiscal years
beginning after December 15, 2006 (January 1, 2007 for us). Because we have
historically posted losses and have maintained a full valuation allowance on
our
available future income tax benefit, we do not expect this Interpretation to
have a material effect on our results of operations or financial
position.
Reclassifications
Certain
amounts reported in prior years have been reclassified from what was previously
reported to conform to the current year’s presentation.
3.
Realization of Assets
The
accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America, which
contemplate continuation of the Company as a going concern. However, the Company
has sustained substantial losses from operations in recent years, and such
losses have continued through the year ended December 31, 2006. In
addition, the Company has used, rather than provided, cash in its operations.
Consistent with these facts, the accompanying report from Grant Thornton, LLP,
the Company’s independent registered public accounting firm, includes the
comment that there is substantial doubt about the Company’s ability to continue
as a going concern.
In
view
of the matters described in the preceding paragraph, recoverability of a major
portion of the recorded asset amounts shown in the accompanying balance sheet
is
dependent upon continued operations of the Company, which in turn is dependent
upon the Company’s ability to meet its financing requirements on a continuing
basis, to maintain present financing, and to succeed in its future operations.
The financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts and
classification of liabilities that might be necessary should the Company be
unable to continue in existence.
Table
of Contents
The
Company has incurred, and continues to incur, losses from operations. For the
years ended December 31, 2006, 2005, and 2004, the Company incurred net
losses of $4.4 million, $3.0 million, and $7.0 million, respectively. During
those years the Company implemented strategies to reduce its cash used in
operating activities. The Company’s strategy included the consolidation of its
manufacturing and research and development facilities and a targeted reduction
of the employee workforce, increasing the efficiency of the Company’s processes,
focusing development efforts on products with a greater probability of
commercial sales, reducing professional fees and discretionary expenditures,
and
negotiating favorable payment arrangements with suppliers and service providers.
More importantly, the Company configured itself along an outsourcing model,
thus
allowing for relatively large, efficient production without the associated
overhead. The combination of these factors has been effective in bringing the
Company closer to profitability (from a net loss as high as $28 million during
2001) while enabling it to deliver significant quantities of solutions.
Beginning in 2005, the Company began to invest in additional product development
(engineering) and sales and marketing resources as it began to increase its
volume of business. While viewed as a positive development, these expenditures
have added to the funding requirements listed above.
We
believe that we have sufficient funds to operate our business until $11.3
million of our debt becomes due in August 2007. That debt is held by our two
largest shareholders, including affiliates. While we expect to refinance this
debt no such refinancing has occurred as of the reporting date, therefore,
the
ability to refinance our debt and maintain adequate working capital is necessary
for us to continue as a going concern Additionally, we project increases in
working capital requirements in order to pursue significant business
opportunities during 2007 and beyond, and also expect to spend additional
financial resources in the expansion of our business and product offerings.
As
such, we may require additional capital prior to August 2007. We intend to
look
into augmenting our existing capital position by continuing to evaluate
potential short-term and long-term sources of capital whether from debt, equity,
hybrid, or other methods. The primary covenant in our existing debt arrangement
involves the right of the lenders to receive debt repayment from the proceeds
of
new financing activities. This covenant may restrict our ability to obtain
additional financing or to apply the proceeds of a financing event toward
operations until the debt is repaid in full.
4.
Inventories
Inventories
consist of the following:
|
|
|
|
December 31,
|
|
December 31,
|
||
|
|
|
|
2006
|
2005
|
|||
|
Raw
materials
|
|
$
|
2,675,000
|
|
$
|
1,368,000
|
|
|
Work
in process
|
|
|
2,332,000
|
|
|
443,000
|
|
|
Finished
product
|
|
|
1,362,000
|
|
|
904,000
|
|
|
Total
|
|
$
|
6,369,000
|
|
$
|
2,715,000
|
|
Cost
of
product sales for the years ended December 31, 2006 and 2005 includes
approximately $165,000 and $0, respectively, of costs in excess of the net
realizable value of inventory (including obsolete materials).
Inventory
balances are reported net of a reserve for obsolescence. This reserve is
computed by taking into consideration the components of inventory, the recent
usage of those components, and anticipated usage of those components in the
future. At December 31, 2006 and 2005, those reserves were approximately
$325,000 and $160,000, respectively.
Table
of Contents
|
|
For the Years Ended December 31,
|
|
||||||||
|
|
|
2006
|
|
2005
|
|
2004
|
|
|||
|
|
|
(in
thousands of dollars)
|
|
|||||||
|
Beginning
Balance
|
|
$
|
160
|
|
$
|
218
|
|
$
|
858
|
|
|
Inventory
Obsolescence Expense
|
|
|
165
|
|
|
-
|
|
|
57
|
|
|
Inventory
Written Off
|
|
|
-
|
|
|
58
|
|
|
697
|
|
|
Recoveries
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
Ending
Balance
|
|
$
|
325
|
|
$
|
160
|
|
$
|
218
|
|
5.
Allowance for Doubtful Accounts
|
|
|
For the Years Ended December 31,
|
|
|||||||
|
|
|
2006
|
|
2005
|
|
2004
|
|
|||
|
|
|
(in
thousands of dollars)
|
|
|||||||
|
Beginning
Balance
|
|
$
|
0
|
|
$
|
0
|
|
$
|
4
|
|
|
Bad
Debt Expense
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
Accounts
Written Off
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
Recoveries
|
|
|
0
|
|
|
0
|
|
|
4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ending
Balance
|
|
$
|
0
|
|
$
|
0
|
|
$
|
0
|
|
6.
Capital Stock
The
Company has an authorized class of undesignated preferred stock consisting
of
300,000 shares. Preferred stock may be issued in series from time to time with
such designations, relative rights, priorities, preferences, qualifications,
limitations and restrictions thereof, to the extent that such are not fixed
in
the Company’s certificate of incorporation, as the Company’s Board of Directors
(“Board of Directors” or “Board”) determines.
On
February 9, 1996, the Board of Directors adopted a shareholder rights plan
(the “Rights Plan”). In conjunction with the adoption of the Rights Plan, the
Company created one series of preferred stock, consisting of 10,000 shares
of
Series A Junior Participating Preferred Stock (“Series A Preferred”). Each share
of Series A Preferred entitled the holder to receive dividends equal to 1,000
times the dividends per share declared with respect to the Company’s common
stock and, in the event of liquidation, such holders would have received a
preference of 1,000 times the aggregate amount to be distributed per share
to
the holders of the Company’s common stock. Pursuant to the Rights Plan, a Series
A Right was associated with, and would have traded with, each share of common
stock outstanding. This Rights Plan expired during February 2006.
At
December 31, 2006, authorized but unissued shares of common stock have been
reserved for future issuance as follows:
|
Options
outstanding (Note 7)
|
|
|
4,912,000
|
|
At
December 31, 2006, 8.7 million shares of restricted stock had been issued but
had not vested.
Table
of Contents
7.
Stock Options and Warrants
On
August 19, 1993, the Board of Directors adopted the 1993 Stock Option Plan
for employees, consultants, and directors who were not also employees of the
Company (outside directors). This plan reached its ten-year expiration during
2003. During the 2003 annual meeting of shareholders, the Company’s shareholders
approved a new 2003 Equity Incentive Plan to take the place of the expiring
1993
plan. Unissued options from the 1993 plan were used to fund the 2003 plan.
During the 2005 annual meeting of shareholders, the Company’s shareholders
approved 12 million additional shares of stock to be included in the 2003
Plan, and clarified the ability for the 2003 Plan to utilize up to
5 million unused shares originally allocated to the 1993 Plan. The maximum
number of shares issuable under these plans is 26,011,468. These Plans are
collectively referred to as the “Plan”.
For
employees and consultants, the Plan provides for granting of restricted shares
of stock, Incentive Stock Options (ISOs) and Nonstatutory Stock Options (NSOs).
In the case of ISOs, the exercise price shall not be less than 100% (110% in
certain cases) of the fair value of the Company’s common stock, as determined by
the Compensation Committee or full Board as appropriate (the “Committee”), on
the date of grant. In the case of NSOs, the exercise price shall be determined
by the Committee, on the date of grant. The term of options granted to employees
and consultants will be for a period not to exceed 10 years (five years in
certain cases). Options granted under the Plan default to vest over a four-year
period (one-fourth of options granted vest after one year from the grant date
and the remaining options vest ratably each month thereafter), but the vesting
period is determined by the Committee and may differ from the default period.
In
addition, the Committee may authorize option and restricted stock grants with
vesting provisions that are not based solely on employees’ rendering of
additional service to the Company.
For
outside directors, the Plan provides that each outside director will be
automatically granted NSOs on the date of their initial election to the Board
of
Directors. On the date of the annual meeting of the stockholders of the Company,
each outside director who is elected, reelected, or continues to serve as a
director, shall be granted additional NSOs, except for those outside directors
who are first elected to the Board of Directors at the meeting or three months
prior. The options granted vest ratably over one or two years, based on the
date
of grant, and expire after ten years from the grant date. Beginning in 2006,
the
Compensation Committee of the Board approved grants of Restricted Stock to
be
used as compensation for outside directors in lieu of NSO’s.
During
2005, the Board elected to utilize a transition rule provided under FAS 123R,
and accelerated the vesting to December of 2005 a total of 364,198 options
that
were priced above the Company’s stock price (i.e., “out of the money” options)
and scheduled to vest after 2005. There was no compensation expense recognized
upon the acceleration of the options in 2005. The majority of these accelerated
options were scheduled to vest during the first quarter 2006. By employing
this
method, these options are excluded from the Company’s FAS 123R calculation in
2006, but are included in the FAS 148 pro forma disclosure presented in Note
2.
Beginning in 2006, the Board began providing restricted stock grants in lieu
of
stock options within both employee and non-employee compensation programs.
The
impact of the new accounting standard, industry trends, and the ability to
use
fewer shares to achieve intended results are a few of the reasons behind this
change in view. The Board has also expressed an intention to continue to utilize
performance-based equity incentives for more cases of equity compensation than
in years past.
The
fair
value for these options was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions for the
years ended December 31, 2005 and 2004: risk-free interest rate of 4.1% and
2.7%, respectively; a dividend yield of 0%; annual volatility factor of the
expected market price of the Company’s common stock of 0.85 and 1.14,
respectively (the daily “volatility”, which is measured as the standard
deviation of the closing stock price for the same periods, would be 0.05 and
0.10); and expected life of the options of 4.0 years. No
options were issued during 2006.
The
Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions, including the expected stock price volatility. Because
the Company’s employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management’s
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
Table
of Contents
The
table
below summarizes all option activity during the three year period ended
December 31, 2006:
|
|
|
|
Options
|
|
|
|
|
|
|
|
|
Outstanding
|
|
|
Exercise
Price Per Share
|
|
|
Outstanding
at December 31, 2003
|
|
|
6,660,000
|
|
$
|
0.11 —21.50
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
4,540,000
|
|
$
|
0.14
— 0.89
|
|
|
Exercised
|
|
|
(1,046,000)
|
|
$
|
0.11
— 0.49
|
|
|
Forfeited
|
|
|
(1,095,000)
|
|
$
|
0.11
— 21.50
|
|
|
Outstanding
at December 31, 2004
|
|
|
9,059,000
|
|
$
|
0.11
— 18.25
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
2,815,000
|
|
$
|
0.25
— 0.43
|
|
|
Exercised
|
|
|
(2,038,000)
|
|
$
|
0.11
— 0.14
|
|
|
Forfeited
|
|
|
(1,690,000)
|
|
$
|
0.11
— 18.25
|
|
|
Outstanding
at December 31, 2005
|
|
|
8,146,000
|
|
$
|
0.11
— 18.25
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
-
|
|
|
|
|
|
Exercised
|
|
|
(2,583,000)
|
|
$
|
0.11
- 0.39
|
|
|
Forfeited
|
|
|
(651,000)
|
|
$
|
0.25
- 18.25
|
|
|
Outstanding
at December 31, 2006
|
|
|
4,912,000
|
|
$
|
0.11
- 1.81
|
|
The
weighted-average exercise price of options outstanding at December 31,
2006, 2005 and 2004, was $0.41, $0.28, and $0.40, respectively. The
weighted-average exercise price of options granted, exercised, and forfeited
during 2006 was N/A, $0.35 and $0.95, respectively. The weighted-average fair
value of options granted during 2006, 2005 and 2004 was N/A, $0.36, and $0.18,
respectively. No stock option grants were issued during 2006.
Following
is additional information with respect to options outstanding at
December 31, 2006:
|
|
|
|
$0.11
to
|
|
$0.24
to
|
|
$0.45
to
|
|||
|
|
|
|
$0.22
|
|
$0.43
|
|
$1.81
|
|||
|
OUTSTANDING
AT DECEMBER 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
Number
of options
|
|
|
1,145,000
|
|
|
2,755,000
|
|
|
1,012,000
|
|
|
Weighted-average
exercise price
|
|
$
|
0.14
|
|
$
|
0.35
|
|
$
|
0.89
|
|
|
Weighted-average
remaining contractual life in years
|
|
|
7
|
|
|
7
|
|
|
4
|
|
|
EXERCISABLE
AT DECEMBER 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
Number
of options
|
|
|
1,104,000
|
|
|
2,755,000
|
|
|
1,012,000
|
|
|
Weighted-average
exercise price
|
|
$
|
0.14
|
|
$
|
0.35
|
|
$
|
0.89
|
|
The
total
number of unvested options outstanding at December 31, 2006 was less than
0.1 million, which will vest based on employees’ continued service to the
Company.
Table
of Contents
8.
Long-Term Debt
Uncommitted
Line of Credit (2002 Credit Line)
As
of the
reporting date, we have drawn $8.5 million of debt financing under a credit
line, as described below. During October 2002, we entered into an uncommitted
line of credit with our two largest shareholders, an affiliate of Elliott
Associates, L.P. (Manchester Securities Corporation) and Alexander Finance,
L.P.
This line initially provided up to $4 million to us. This line was uncommitted,
such that each new borrowing under the facility would be subject to the approval
of the lenders. Borrowings on this line bore an initial interest rate of 9.5%
and were collateralized by all the assets of the Company. Outstanding loans
under this agreement would be required to be repaid on a priority basis should
we receive new funding from other sources. Additionally, the lenders were
entitled to receive warrants to the extent funds were drawn down on the line.
The warrants bore a strike price of $0.20 per share of common stock and were
to
expire on April15, 2004. The credit line was to mature and be due, including
accrued interest thereon, on March 31, 2004. Due to a subsequent agreement
between the parties no warrants were issued with subsequent
borrowings.
According
to existing accounting pronouncements and SEC guidelines, we allocated the
proceeds of these borrowings between their debt and equity components. As a
result of these borrowings during 2002, we recorded a non-cash charge of $1.2
million through the outstanding term of the warrants (April, 2004). $250,000
and
$862,000 of that amount were recorded during 2004 and 2003, respectively. These
warrants were valued at $1.2 million of the $2 million debt instrument based
on
a Black-Scholes valuation that included the difference between the value of
our
common stock and the exercise price of the warrants on the date of each warrant
issuance and a 30% discounted face value of the notes, leaving the remaining
$0.8 million as the underlying value of the debt. This $1.2 million was
amortized over the vesting period of the warrants (six quarters from the fourth
quarter 2002 through the first quarter 2004).
During
October 2003, we entered into an agreement with our lenders to supplement the
credit line with an additional $2 million, $1 million of which was drawn
immediately and $1 million subsequently drawn upon our request and subject
to
the approval of the lenders. This supplemental facility bore a 14% rate of
interest and was due October 31, 2004. The term of the previous credit line
was
not affected by this supplement, and as such the $4 million borrowed under
that
line, plus accrued interest, remained due March 31, 2004.
During
February 2004, the credit line was extended to a due date of April 2005, with
interest after the initial periods to be charged at 14%. No warrants or other
inducements were issued with respect to this extension. Additionally, lenders
exercised their 10 million warrants during February 2004, agreeing to let us
use
the funds for general purposes as opposed to repaying debt.
During
July 2004, we and our lenders agreed to increase the aggregate loan commitments
under the credit line from $6,000,000 to $6,500,000. Simultaneously, we drew
the
remaining $1,500,000 of the financing.
During
November 2004, we and our lenders agreed to increase the line of credit to
up to
an additional $2 million to an aggregate loan commitment of $8,500,000, $1
million of which was drawn immediately by us with the remaining $1 million
drawable upon our request and subject to the approval of the lenders, which
occurred during January 2005.
During
February 2005, the credit line was extended until April 2006. Interest during
the extension period was to be charged at 9%. No warrants or other inducements
were issued with respect to this extension.
On
August
2, 2005, we and our lenders agreed to extend the due date from April 2006 until
August 2007, and the lenders also agreed to waive the Company’s obligation to
repay its debt with proceeds from an equity financing transaction with its
lenders, including affiliates, in August 2005. No warrants or other inducements
were issued as a result of this transaction.
Table
of Contents
2006
Convertible Debt
During
June 2006 we entered into a Securities Purchase Agreement (the “Agreement”) and
convertible notes (the “Notes”) with Alexander Finance, L.P., and Manchester
Securities Corporation L.P. (together, the “Lenders”), pursuant to which the
Lenders have agreed, to each loan us $2,500,000, or an aggregate of $5,000,000,
in convertible debt. The Lenders, including affiliates, are our two largest
shareholders and the lenders of the 2002 Credit Line referenced above. The
transaction was structured as a private placement of securities pursuant to
Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”)
and Rule 506 promulgated thereunder.
The
Notes
will mature on June 22, 2010 and bear an interest rate of 5% due at maturity.
Both the principal amount and any accrued interest on the Notes are convertible
into our common stock at a rate of $0.33 per share, subject to certain
anti-dilution adjustments. The Lenders have the right to convert the Notes,
both
principal and accrued interest, into shares of common stock at the rate of
$0.33
per share at any time. We have the right to redeem the Notes in full in cash
at
any time beginning two years after the date of the Agreement. The conversion
rate of the Notes will be subject to customary anti-dilution protections,
provided that the number of additional shares of common stock issuable as a
result of changes to the conversion rate will be capped so that the aggregate
number of shares of common stock issuable upon conversion of the Notes will
not
exceed 19.99% of the aggregate number of shares of common stock presently issued
and outstanding.
The
Notes
are secured on a first priority basis by all of our intangible and tangible
property and assets. Payment of the Notes is guaranteed by our two inactive
subsidiaries, Spectral Solutions, Inc. and Illinois Superconductor Canada
Corporation. The Agreement contains customary representations, warranties and
covenants. We filed a registration statement covering the resale of the shares
of common stock issuable upon conversion of the Notes with the Securities and
Exchange Commission Concurrently with the execution of the Agreement, the
Lenders have waived their right under the 2002 Credit Line to receive the
financing proceeds from the issuance of the Notes, allowing us to use the funds
for product development or general working capital purposes. No fees were paid
to any financial advisor, placement agent, broker or finder in connection with
the transactions contemplated by the Agreement and the Notes.
Assuming
the Notes are held for the full four year term, 18,505,719 shares of common
stock would be required upon settlement, for both principal and interest. This
amount is approximately 10% of the then approximately 186 million shares of
common stock currently issued and outstanding. As of December 31, 2006, the
Lenders, including their affiliates, owned approximately 43% of the Company’s
outstanding shares. As a result of this transaction, the combined holdings
of
the Lenders would be approximately 48% of the Company’s outstanding common
stock.
Table
of Contents
9.
Income Taxes
The
Company has net operating loss carryforwards for tax purposes of approximately
$137,002,000 at December 31, 2006. The net operating loss carryforwards
expire in the following years:
|
Year
|
|
|
Amount
|
|
|
2007
|
|
|
974,000
|
|
|
2008
|
|
|
1,658,000
|
|
|
2009
|
|
|
3,973,000
|
|
|
2010
|
|
|
8,199,000
|
|
|
2011
|
|
|
11,953,000
|
|
|
2012
|
|
|
11,922,000
|
|
|
2018
|
|
|
11,146,000
|
|
|
2019
|
|
|
10,726,000
|
|
|
2020
|
|
|
15,501,000
|
|
|
2021
|
|
|
24,904,000
|
|
|
2022
|
|
|
13,982,000
|
|
|
2023
|
|
|
5,284,000
|
|
|
2024
|
|
|
9,758,000
|
|
|
2025
|
|
|
3,371,000
|
|
|
2026
|
|
|
3,651,000
|
|
|
Total
|
|
$
|
137,002,000
|
|
A
reconciliation of income tax expense at the statutory rate to the Company’s
actual income tax expense is shown below:
|
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
Tax
benefit computed at the Federal statutory rate
|
34.00%
|
|
|
34.00%
|
|
|
34.00%
|
|
||
|
Increase
(decrease) in taxes due to:
|
|
|
|
|
|
|
|
|
|
|
|
Change
in valuation allowance
|
|
|
-38.80%
|
|
|
-38.80%
|
|
|
-38.80%
|
|
|
State
taxes, net of Federal benefit
|
|
|
4.80%
|
|
|
4.80%
|
|
|
4.80%
|
|
Significant
components of the Company’s deferred tax assets and liabilities are as
follows:
|
|
|
December
31,
|
|
|
December
31,
|
|
|
|
|
|
|
2006
|
|
|
2005
|
|
|
Deferred
tax assets
|
|
|
|
|
|
|
|
|
Net
operating loss carryforward
|
|
$
|
52,061,000
|
|
$
|
50,490,000
|
|
|
Accrued
liabilities
|
|
|
1,223,000
|
|
|
840,000
|
|
|
Inventories
|
|
|
124,000
|
|
|
61,000
|
|
|
Property
and Equipment
|
|
|
893,000
|
|
|
893,000
|
|
|
|
|
|
|
|
|
|
|
|
Total
deferred tax assets
|
|
|
54,301,000
|
|
|
52,284,000
|
|
|
Deferred
liabilities:
|
|
|
|
|
|
|
|
|
Patent
costs
|
|
|
(320,000)
|
|
|
(321,000)
|
|
|
|
|
|
|
|
|
|
|
|
Net
deferred tax assets
|
|
|
53,981,000
|
|
|
51,963,000
|
|
|
Valuation
allowance
|
|
|
(53,981,000)
|
|
|
(51,963,000)
|
|
|
Net
Deferred tax assets
|
|
$
|
—
|
|
$
|
—
|
|
Table
of Contents
The
valuation allowance increased during 2006 and 2005 by $2,018,000 and $1,595,000,
respectively, due primarily to the increase in the net operating loss
carryforward. Based on the Internal Revenue Code and changes in the ownership
of
the Company, utilization of the net operating loss carryforwards will be subject
to annual limitations.
10.
Leases
The
Company leases its manufacturing and office space, as well as some testing
and
office equipment. Under the terms of its two leases in Elk Grove Village, IL,
which expire October 2014, the Company is responsible for proportionate real
estate taxes and operating expenses.
Future
minimum payments under the operating leases consist of the following at
December 31, 2006:
|
Year
|
|
|
Amount
|
|
|
2007
|
|
$
|
201,000
|
|
|
2008
|
|
|
205,000
|
|
|
2009
|
|
|
208,000
|
|
|
2010
|
|
|
211,000
|
|
|
2011
|
|
|
216,000
|
|
Rent
expense totaled $251,000, $151,000, and $260,000 for the years ended
December 31, 2006, 2005, and 2004, respectively.
11.
401(k) Plan
The
Company has a 401(k) plan covering all employees who meet prescribed service
requirements. The plan provides for deferred salary contributions by the plan
participants and a Company contribution. Through 2005, Company contributions,
if
any, have been at the discretion of the Board of Directors and not to exceed
the
amount deductible under applicable income tax laws. No Company contribution
was
made for the years ended December 31, 2005 and 2004. Beginning in 2006, the
Company began providing a partial match of employee contributions, up to a
maximum of 3% of employee salary.
12.
Litigation
There
was
no existing, pending, or threatened litigation at the time of this
filing.
13.
Segment Reporting
The
Company adopted SFAS No. 131 “Disclosures about Segments of an Enterprise
and Related Information”. SFAS No. 131 requires a business enterprise,
based upon a management approach, to disclose financial and descriptive
information about its operating segments. Operating segments are components
of
an enterprise about which separate financial information is available and
regularly evaluated by the chief operating decision maker(s) of an enterprise.
Under this definition, the Company operated as a single segment for all periods
presented.
Table
of Contents
14.
Selected Quarterly Financial Data (Unaudited)
A
summary
of selected quarterly information for 2006 and 2005 is as follows:
|
|
|
2006
Quarter Ended
|
|
||||||||||
|
|
|
March 31
|
|
June
30
|
|
|
September
30
|
|
December
31
|
|
|||
|
|
|
(in thousands of U.S. dollars except per share amounts)
|
|
||||||||||
|
Net
Sales
|
|
$
|
1,326
|
|
$
|
3,446
|
|
$
|
6,433
|
|
$
|
3,792
|
|
|
Gross
Profit
|
|
|
495
|
|
|
1,387
|
|
|
2,583
|
|
|
1,464
|
|
|
Net
Loss
|
|
|
(1,700)
|
|
|
(1,231)
|
|
|
(167)
|
|
|
(1,267)
|
|
|
Loss
per Share
|
|
$
|
(0.01)
|
|
$
|
(0.01)
|
|
$
|
(0.00)
|
|
$
|
(0.01)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
Quarter Ended
|
|
||||||||||
|
|
|
March 31
|
|
June
30
|
|
|
September
30
|
|
December
31
|
|
|||
|
|
|
(in thousands of U.S. dollars except per share amounts)
|
|
||||||||||
|
Net
Sales
|
|
$
|
3,293
|
|
$
|
2,484
|
|
$
|
2,037
|
|
$
|
2,450
|
|
|
Gross
Profit
|
|
|
1,372
|
|
|
1,290
|
|
|
1,265
|
|
|
1,216
|
|
|
Net
Loss
|
|
|
(482)
|
|
|
(811)
|
|
|
(596)
|
|
|
(1,088)
|
|
|
Loss
per Share
|
|
$
|
0.00
|
|
$
|
(0.01)
|
|
$
|
0.00
|
|
$
|
(0.01)
|
|
As
an
after-market vendor, the Company’s revenue has fluctuated from quarter to
quarter, consistent with buying patterns of planning processes within wireless
telecommunications carriers. With the advent of significant projects such as
data networks, funds are often reallocated between periods and thus diminish
the
pool of funds available for normal activities. The Company’s objective is to be
included in these projects, and thus realize a higher, more stable revenue
stream.
Table
of Contents
Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial
Disclosure.
None.
Item 9A.
Controls and Procedures
(a)
An
evaluation was performed under the supervision and with the participation of
the
Company’s management, including its Chief Executive Officer, or CEO, and Chief
Financial Officer, or CFO, of the effectiveness of the Company’s disclosure
controls and procedures, as such term is defined under Rule 13a-15(e)
promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange
Act”) as of December 31, 2006. Based on that evaluation, the Company’s
management, including the CEO and CFO, concluded that the Company’s disclosure
controls and procedures are effective to ensure that information required to
be
disclosed by the Company in reports that it files or submits under the Exchange
Act, is recorded, processed, summarized and reported as specified in Securities
and Exchange Commission rules and forms.
(b)
There
were no significant changes in the Company’s internal control over financial
reporting identified in connection with the evaluation of such controls that
occurred during the Company’s most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Company’s internal
control over financial reporting.
Item 9B.
Other Information
None.
Table
of Contents
PART
III
Item 10. Directors,
Executive Officers, and Corporate Governance
The
information required by this item is incorporated herein by reference to the
similarly named sections in our definitive proxy statement for the 2007 annual
meeting of shareholders.
Code
of Conduct
We
adopted a Code of Business Conduct and Ethics (“Code of Ethics”) applicable to
our principal executive officer and principal financial and accounting officer
and any persons performing similar functions. In addition, the Code of Ethics
applies to our employees, officers, directors, agents and representatives.
The
Code of Ethics requires, among other things, that our employees avoid conflicts
of interest, comply with all laws and other legal requirements, conduct business
in an honest and ethical manner, and otherwise act with integrity and in our
best interest.
The
Code
of Ethics includes procedures for reporting violations of the Code of Ethics.
In
addition, the Sarbanes-Oxley Act of 2002 requires companies to have procedures
to receive, retain and treat complaints received regarding accounting, internal
accounting controls or auditing matters and to allow for the confidential and
anonymous submission by employees of concerns regarding questionable accounting
or auditing matters. The Code of Ethics is intended to comply with the rules
of
the SEC and AMEX and includes these required procedures. The Code of Ethics
is
available on our website at www.iscointl.com (under “Investors”). We have also
filed the Code of Ethics as Exhibit 14 to this Annual Report on Form 10-K for
the year ended December 31, 2006.
Item 11. Executive
Compensation
The
information required by this item is incorporated herein by reference to the
similarly named sections in our definitive proxy statement for the 2007 annual
meeting of shareholders.
Item 12. Security
Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters
The
information required by this item is incorporated herein by reference to the
similarly named sections in our definitive proxy statement for the 2007 annual
meeting of shareholders.
Item 13. Certain
Relationships and Related Transactions, and Director
Independence
The
information required by this item is incorporated herein by reference to the
similarly named sections in our definitive proxy statement for the 2007 annual
meeting of shareholders.
Item 14. Principal
Accountant Fees and Services
The
information required by this item is incorporated herein by reference to the
similarly named sections in our definitive proxy statement for the 2007 annual
meeting of shareholders.
Table
of Contents
Item 15.
Exhibits and Financial Statement Schedules
|
|
(a)
|
The
following documents are filed as part of this Form
10-K:
|
|
1.
The following financial statements of the Company, with the report
of
independent auditors, are filed as part of this Form 10-K:
|
|
|
|
|
|
|
|
Report
of Independent Registered Public Accounting Firm
|
|
|
|
|
|
|
|
Consolidated
Balance Sheets as of December 31, 2006 and 2005
|
|
|
|
|
|
|
|
Consolidated
Statements of Operations for the Years Ended December 31, 2006, 2005,
and
2004
|
|
|
|
|
|
|
|
Consolidated
Statements of Stockholders’ Equity (Net Capital Deficiency) for the Years
Ended December 31, 2006, 2005 and 2004
|
|
|
|
|
|
|
|
Consolidated
Statements of Cash Flows for the Years Ended December 31, 2006, 2005,
and
2004
|
|
|
|
|
|
|
|
Notes
to Consolidated Financial Statements
|
|
|
|
|
|
|
|
2.
The following financial statement schedules of the Company are filed
as
part of this Form 10-K:
|
|
|
|
|
|
|
|
All
financial schedules are omitted because such schedules are not required
or
the information required has been presented in the aforementioned
financial statements.
|
|
|
|
|
|
|
|
3.
Exhibits are listed in the Exhibit Index to this Form
10-K.
|
|
|
Table
of Contents
SIGNATURES
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act
of 1934, the Registrant has duly caused this Amendment to be signed on its
behalf by the undersigned, thereunto duly authorized, on the 28th day of March,
2007.
|
ISCO
INTERNATIONAL
|
||
|
|
|
|
|
By:
|
|
/s/
JOHN THODE
|
|
|
|
John
Thode
|
|
|
|
Chief
Executive Officer
|
Pursuant
to the requirements of the Securities Exchange Act of 1934, this Amendment
has
been signed below by the following persons on behalf of the registrant and
in
the capacities indicated on the 28th day of March, 2007.
|
Signature
|
|
Title
|
|
|
|
|
|
/s/
JOHN THODE
|
|
Chief
Executive Officer and Director
(Principal
Executive Officer and Director)
|
|
John
Thode
|
|
|
|
|
|
|
|
/s/
FRANK CESARIO
|
|
Chief
Financial Officer
(Principal
Financial and Accounting Officer)
|
|
Frank
Cesario
|
|
|
|
|
|
|
|
/s/
JAMES FUENTES
|
|
Director
and Chairman of the Board
|
|
James
Fuentes
|
|
|
|
|
|
|
|
/s/
AMR ABDELMONEM
|
|
Director
and Chief Technology Officer
|
|
Amr
Abdelmonem
|
|
|
|
|
|
|
|
/s/
GEORGE CALHOUN
|
|
Director
|
|
George
Calhoun
|
|
|
|
|
|
|
|
/s/
MICHAEL FENGER
|
|
Director
|
|
Michael
Fenger
|
|
|
|
|
|
|
|
/s/
RALPH PINI
|
|
Director
|
|
Ralph
Pini
|
|
|
|
|
|
|
|
/s/
TOM POWERS
|
|
Director
|
|
Tom
Powers
|
|
|
|
|
|
|
|
/s/
MARTY SINGER
|
|
Director
|
|
Marty
Singer
|
|
|
|
|
|
|
Table
of Contents
ISCO
INTERNATIONAL
EXHIBIT
INDEX
|
Exhibit
Number
|
|
Description
of Exhibits
|
|
3.1
|
|
Certificate
of Incorporation of the Company, incorporated by reference to Exhibit
3.1
to the Company’s Registration Statement on Form S-3/A, filed with the
Securities and Exchange Commission (“SEC”) on August 13, 1998,
Registration No. 333-56601 (the “August 1998 S-3”).
|
|
|
|
|
|
3.2
|
|
By-Laws
of the Company, incorporated by reference to Exhibit 3.2 to Amendment
No.
3 to the Company’s Registration Statement on Form S-1, filed with the SEC
on October 26, 1993, Registration No. 33-67756 (the “IPO Registration
Statement”).
|
|
|
|
|
|
3.3
|
|
Certificate
of Amendment of Certificate of Incorporation of the Company, incorporated
by reference to Exhibit 3.3 to the IPO Registration
Statement.
|
|
|
|
|
|
3.4
|
|
Certificate
of Amendment of Certificate of Incorporation of the Company, incorporated
by reference to Exhibit 4.3 to the Company’s Registration Statement on
Form S-3/A, filed with the SEC on July 1, 1999, Registration No.
333-77337.
|
|
|
|
|
|
3.5
|
|
Certificate
of Amendment of Certificate of Incorporation of the Company filed
July 18,
2000, incorporated by reference to the Company’s registration statement on
Form S-8 filed August 7, 2000 (the August 2000 S-8”).
|
|
|
|
|
|
3.6
|
|
Certificate
of Amendment to Certificate of Incorporation filed with the Secretary
of
State of the State of Delaware on June 25, 2001, incorporated by
reference
to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed on June
27, 2001.
|
|
|
|
|
|
3.7
|
|
Certificate
of Amendment to Certificate of Incorporation filed with the Secretary
of
State of the State of Delaware on December 16, 2004, incorporated
by
reference to Exhibit 3.7 to the Company’s Annual Report on Form 10-K filed
on March 31, 2005 (the “2004 10-K”).
|
|
|
|
|
|
4.1
|
|
Specimen
stock certificate representing common stock, incorporated by reference
to
Exhibit 4.1 to the IPO Registration Statement.
|
|
|
|
|
|
4.2
|
|
Rights
Agreement dated as of February 9, 1996 between the Company and LaSalle
National Trust, N.A., incorporated by reference to the Exhibit to
the
Company’s Registration Statement on Form 8-A, filed with the SEC on
February 12, 1996.
|
|
|
|
|
|
4.3
|
|
The
SSI Replacement Nonqualified Stock Option Plan, incorporated by reference
to Exhibit 4.1 to the Company’s Registration Statement on Form S-8, filed
with the SEC on November 3, 2000, Registration No.
333-49268.*
|
|
|
|
|
|
4.4
|
|
Amendment
No. 1 to the Rights Agreement between ISCO International, Inc. (formerly
Illinois Superconductor Corporation) and LaSalle National Trust
Association (formerly known as LaSalle National Trust Company) dated
as of
February 9, 1996, incorporated by reference to Exhibit 4.1 to the
Company’s Current Report on Form 8-K filed with the SEC on February 22,
2002.
|
|
|
|
|
|
10.1 *
|
|
Form
of Amended and Restated Director Indemnification Agreement, incorporated
by reference to Exhibit 10 to the Company’s Quarterly Report on Form 10-Q
for the quarterly period ended September 30, 1998.
|
|
|
|
|
|
10.2
|
|
Public
Law Agreement dated February 2, 1990 between Illinois Department
of
Commerce and Community Affairs and the Company, incorporated by reference
to Exhibit 10.5 to the IPO Registration Statement.
|
|
|
|
|
|
10.3
|
|
Public
Law Agreement dated December 30, 1991 between Illinois Department
of
Commerce and Community Affairs and the Company, amended as of June
30,
1992, incorporated by reference to Exhibit 10.6 to the IPO Registration
Statement.
|
|
|
|
|
|
10.4
|
|
Subcontract
and Cooperative Development Agreement dated as of June 1, 1993 between
American Telephone and Telegraph Company and the Company, incorporated
by
reference to Exhibit 10.9 to the IPO Registration
Statement.
|
|
|
|
|
|
10.5
|
|
Intellectual
Property Agreement dated as of June 1, 1993 between American Telephone
and
Telegraph Company and the Company, incorporated by reference to Exhibit
10.10 to the IPO Registration Statement.
|
|
|
|
|
|
10.6
|
|
License
Agreement dated January 31, 1990 between the Company and Northwestern
University, incorporated by reference to Exhibit 10.13 to the IPO
Registration Statement.
|
|
|
|
|
|
10.7
|
|
License
Agreement dated February 2, 1990 between the Company and ARCH Development
Corporation, incorporated by reference to Exhibit 10.14 to the IPO
Registration Statement.
|
|
|
|
|
|
10.8
|
|
License
Agreement dated August 9, 1991 between the Company and ARCH Development
Corporation, incorporated by reference to Exhibit 10.15 to the IPO
Registration Statement.
|
|
|
|
|
|
10.9
|
|
License
Agreement dated October 11, 1991 between the Company and ARCH Development
Corporation, incorporated by reference to Exhibit 10.16 to the IPO
Registration Statement.
|
|
|
|
|
|
10.10
|
|
Public
Law Agreement dated August 18, 1993 between Illinois Department of
Commerce and Community Affairs and the Company, incorporated by reference
to Exhibit 10.17 to the IPO Registration
Statement.
|
Table
of Contents
|
|
|
|
|
10.11 *
|
|
Form
of Officer Indemnification Agreement incorporated by reference to
Exhibit
10.17 to the Company’s Annual Report on Form 10-K for the year ended
December 31, 1998.
|
|
|
|
|
|
10.12
|
|
Escrow
Agreement dated August 8, 2000 among the Company, Russell Scott,
III, as
stockholder representative, and American National Bank and Trust
Company,
as escrow agent, incorporated by reference to Exhibit 10.25 to the
Company’s registration statement on Form S-2 filed September 7, 2000,
Registration No. 333-45406 (the “September S-2”).
|
|
|
|
|
|
10.13
*
|
|
Employment
Agreement with Amr Abdelmonem dated January 1, 2001, incorporated
by
reference to Exhibit 10.5 to the Company’s Registration Statement on Form
S-3 filed on April 20, 2001.
|
|
|
|
|
|
10.14
|
|
ISCO
International, Inc. Amended and Restated 1993 Stock Option Plan,
incorporated by reference to Appendix C and D of the Company’s Definitive
Proxy materials filed on May 22, 2001.
|
|
|
|
|
|
10.15
|
|
Secured
9 1
/ 2 % Grid Note dated October 23, 2002 between ISCO International,
Inc.
and Alexander Finance L.P. in the principal amount of $1,752,400,
incorporated by reference to Exhibit 10.3 to the Company’s Current Report
on Form 8-K filed on October 24, 2002.
|
|
|
|
|
|
10.16
|
|
Secured
9 1
/ 2 % Grid Note dated October 23, 2002 between ISCO International,
Inc.
and Manchester Securities Corporation in the principal amount of
$2,247,600, incorporated by reference to Exhibit 10.4 to the Company’s
Current Report on Form 8-K filed on October 24, 2002.
|
|
|
|
|
|
10.17
|
|
Registration
Rights Agreement dated October 23, 2002 between ISCO International,
Inc.
Manchester Securities Corporation, and Alexander Finance L.P.,
incorporated by reference to Exhibit 10.7 to the Company’s Current Report
on Form 8-K filed on October 24, 2002.
|
|
|
|
|
|
10.18
|
|
ISCO
International, Inc. 2003 Equity Incentive Plan, incorporated by reference
to Exhibit 99.2 to the Company’s Current Report on Form 8-K filed on June
20, 2006.
|
|
|
|
|
|
10.19
|
|
Secured
14% Grid Note dated October 24, 2003 between ISCO International,
Inc. and
Alexander Finance, L.P. in the principal amount of $876,200, incorporated
by reference to Exhibit 10.10 to the Company’s Current Report on Form 8-K
filed on October 27, 2003.
|
|
|
|
|
|
10.20
|
|
Secured
14% Grid Note dated October 24, 2003 between ISCO International,
Inc. and
Manchester Securities Corporation in the principal amount of $1,123,800,
incorporated by reference to Exhibit 10.11 to the Company’s Current Report
on Form 8-K filed on October 27, 2003.
|
|
|
|
|
|
10.21
|
|
Secured
14% Grid Note dated July 23, 2004 between ISCO International, Inc.
and
Alexander Finance, L.P. in the principal amount of $386,900, incorporated
by reference to Exhibit 10.3 to the Company’s Current Report on Form 8-K
filed on July 28, 2004.
|
|
|
|
|
|
10.22
|
|
Secured
14% Grid Note dated July 23, 2004 between ISCO International, Inc.
and
Manchester Securities Corporation in the principal amount of $113,100,
incorporated by reference to Exhibit 10.4 to the Company’s Current Report
on Form 8-K filed on July 28, 2004.
|
|
|
|
|
|
10.23
|
|
Stock
Purchase Agreement dated December 15, 2003 between ISCO International,
Inc. and Morgan & Finnegan, L.L.P., incorporated by reference to
Exhibit 10.1 to the Company’s Current Report of Form 8-K filed on December
16, 2003.
|
|
|
|
|
|
10.24
|
|
Office/Service
Center Lease Agreement dated July 20, 2004 between ISCO International,
Inc. and D&K Elk Grove Industrial II, LLC, incorporated by reference
to Exhibit 10.24 to the 2004 10-K.
|
|
|
|
|
|
10.25
|
|
Third
Amended and Restated Loan Agreement dated November 10, 2004 between
ISCO
International, Inc., Manchester Securities Corporation, and Alexander
Finance L.P., incorporated by reference to Exhibit 10.1 to the Company’s
Current Report on Form 8-K filed on November 12, 2004.
|
|
|
|
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10.26
|
|
Third
Amended and Restated Security Agreement dated November 10, 2004 between
ISCO International, Inc., Spectral Solutions, Inc., Illinois
Superconductor Canada Corporation, Manchester Securities Corporation,
and
Alexander Finance L.P., incorporated by reference to Exhibit 10.2
to the
Company’s Current Report on Form 8-K filed on November 12,
2004.
|
|
|
|
|
|
10.27
|
|
Secured
14% Grid Note dated November 10, 2004 between ISCO International,
Inc. and
Alexander Finance, L.P. in the principal amount of $1,100,000,
incorporated by reference to Exhibit 10.3 to the Company’s Current Report
on Form 8-K filed on November 12, 2004.
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|
|
|
|
|
10.28
|
|
Secured
14% Grid Note dated November 10, 2004 between ISCO International,
Inc. and
Manchester Securities Corporation in the principal amount of $900,000,
incorporated by reference to Exhibit 10.4 to the Company’s Current Report
on Form 8-K filed on November 12, 2004.
|
|
|
|
|
|
10.29
|
|
Third
Amended and Restated Guaranty of Spectral Solutions, Inc. dated November
10, 2004, incorporated by reference to Exhibit 10.5 to the Company’s
Current Report on Form 8-K filed on November 12, 2004.
|
|
|
|
|
|
10.30
|
|
Third
Amended and Restated Guaranty of Illinois Superconductor Canada
Corporation dated November 10, 2004, incorporated by reference to
Exhibit
10.6 to the Company’s Current Report on Form 8-K filed on November 12,
2004.
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|
|
|
|
|
10.31*
|
|
Letter
Agreement dated January 6, 2005 between ISCO International, Inc.
and John
Thode (including Non-Qualified Stock Option Agreement) incorporated
by
reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K
filed on January 12, 2005.
|
|
|
|
|
|
10.32
|
|
Amendment
to Loan Documents dated February 10, 2005 between ISCO International,
Inc., Manchester Securities Corporation, Alexander Finance, L.P.,
Spectral
Solutions, Inc. and Illinois Superconductor Corporation, incorporated
by
reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K
filed on February 15, 2005.
|
Table
of Contents
|
|
|
|
|
10.33
|
|
Securities
Purchase Agreement dated July 25, 2005 by and among ISCO International,
Inc. Alexander Finance, L.P., Grace Brothers LTD, Elliott Associates,
L.P., and Elliott International, L.P., .incorporated by reference
to
Exhibit 10.1 to the Company’s Current Report of Form 8-K filed on July 26,
2005
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|
|
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|
10.34
|
|
Amendment
to and Waiver Under Loan Documents dated July 25, 2005 by and among
ISCO
International, Inc., Manchester Securities Corporation and Alexander
Finance, L.P., incorporated by reference to Exhibit 10.2 to the Company’s
Current Report of Form 8-K filed on July 26, 2005
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|
|
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10.35
|
|
Letter
Agreement dated August 5, 2005 by and among ISCO International, Inc.,
Elliott Associates, L.P., and Elliott International, L.P., incorporated
by
reference to Exhibit 10.1 to the Company’s Current Report of Form 8-K
filed on August 9, 2005.
|
|
|
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10.36*
|
|
Thode
Employment Agreement dated January 10, 2006 between ISCO International,
Inc. and John S. Thode, incorporated by reference to Exhibit 10.1
to the
Company’s Current Report of Form 8-K filed on January 17,
2006.
|
|
|
|
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|
10.37*
|
|
Abdelmonem
Employment Agreement dated January 12, 2006 between ISCO International,
Inc. and Dr. Amr Abdelmonem, incorporated by reference to Exhibit
10.2 to
the Company’s Current Report of Form 8-K filed on January 17,
2006.
|
|
|
|
|
|
10.38*
|
|
Restricted
Stock Agreement dated January 12, 2006 by and between ISCO International,
Inc. and Dr. Amr Abdelmonem, incorporated by reference to Exhibit
10.3 to
the Company’s Current Report of Form 8-K filed on January 17,
2006.
|
|
|
|
|
|
10.39*
|
|
Employment
Agreement dated February 6, 2006 between ISCO International, Inc.
and
Frank J. Cesario, incorporated by reference to Exhibit 10.1 to the
Company’s Current Report of Form 8-K filed on February 9,
2006.
|
|
|
|
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|
10.40*
|
|
Summary
of Non-Employee Director Compensation Policy, incorporated by reference
to
Exhibit 10.1 to the Company’s Current Report of Form 8-K filed on February
24, 2006.
|
|
|
|
|
|
10.41
|
|
Securities
Purchase Agreement by and among ISCO International, Inc., Manchester
Securities Corporation and Alexander Finance, L.P. dated June 22,
2006,
incorporated by reference to Exhibit 10.1 to the Company’s Current Report
on Form 8-K filed on June 28, 2006.
|
|
|
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|
10.42
|
|
5%
Senior Secured Convertible Note by and between ISCO International,
Inc.
and Manchester Securities Corporation, incorporated by reference
to
Exhibit 10.2 to the Company’s Current Report on Form 8-K filed on June 28,
2006.
|
|
|
|
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|
10.43
|
|
5%
Senior Secured Convertible Note by and between ISCO International,
Inc.
and Alexander Finance, L.P., incorporated by reference to Exhibit
10.3 to
the Company’s Current Report on Form 8-K filed on June 28,
2006.
|
|
|
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|
10.44
|
|
Registration
Rights Agreement by and among ISCO International, Inc., Manchester
Securities Corporation and Alexander Finance, L.P. dated June 22,
2006,
incorporated by reference to Exhibit 10.4 to the Company’s Current Report
on Form 8-K filed on June 28, 2006.
|
|
|
|
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|
10.45
|
|
Fourth
Amended and Restated Security Agreement by and among ISCO International,
Inc., Spectral Solutions, Inc., Illinois Superconductor Canada
Corporation, Manchester Securities Corporation and Alexander Finance,
L.P.
dated June 22, 2006, incorporated by reference to Exhibit 10.5 to
the
Company’s Current Report on Form 8-K filed on June 28,
2006.
|
|
|
|
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|
10.46
|
|
Fourth
Amended and Restated Guaranty of Spectral Solutions, Inc., incorporated
by
reference to Exhibit 10.6 to the Company’s Current Report on Form 8-K
filed on June 28, 2006.
|
|
|
|
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10.47
|
|
Fourth
Amended and Restated Guaranty of Illinois Superconductor Canada
Corporation, incorporated by reference to Exhibit 10.7 to the Company’s
Current Report on Form 8-K filed on June 28, 2006.
|
|
|
|
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|
10.48
|
|
Amendment
to and Waiver Under the Third Amended and Restated Loan Agreement
by and
among ISCO International, Inc., Spectral Solutions, Inc., Illinois
Superconductor Canada Corporation, Manchester Securities Corporation
and
Alexander Finance, L.P. dated June 22, 2006, incorporated by reference
to
Exhibit 10.8 to the Company’s Current Report on Form 8-K filed on June 28,
2006.
|
|
|
|
|
|
|
|
|
|
14
|
|
Code
of Ethics incorporated by reference to Exhibit 14 to the Company’s Annual
Report on Form 10-K filed on March 30, 2004.
|
|
|
|
|
|
21**
|
|
List
of subsidiaries: Spectral Solutions, Inc. and Illinois Superconductor
Canada Corporation
|
|
|
|
|
|
23.1**
|
|
Consent
of Grant Thornton LLP
|
|
|
|
|
|
31.1**
|
|
Certification
by Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a)
as
adopted pursuant to Section 302 of the Sarbanes Oxley Act of
2002.
|
|
|
|
|
|
31.2**
|
|
Certification
by Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a)
as
adopted pursuant to Section 302 of the Sarbanes Oxley Act of
2002.
|
|
|
|
|
|
32**
|
|
Certification
Pursuant To 18 U.S.C Section 1350, as Adopted Pursuant to Section
906 of
the Sarbanes-Oxley Act of 2002
|
|
*
|
Management
contract or compensatory plan or arrangement required to be filed
as an
exhibit on this Form 10-K.
|
|
**
|
Filed
herewith.
|
EXHIBIT
23.1
CONSENT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We
have
issued our report dated March 30, 2007, accompanying the consolidated
balance sheet of ISCO International Inc. and subsidiaries as of
December 31, 2006 and 2005, and the related consolidated statements of
operations, stockholders’ equity and cash flows for each of the three years then
ended included in its Annual Report on Form 10-K for the year ended
December 31, 2006. We hereby consent to the incorporation by reference of
said report in the Registration Statement on Form S-3 (File numbers: 333-136612,
333-129339, 333-109127, 333-111242, 333-53338 and 333-53646) and Form S-8 (File
numbers: 333-136613, 333-126623, 333-115967, 333-39342, 333-64818, 333-43164
and
333-49268).
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|
|
Chicago,
Illinois
|
|
|
|
Date: March
30, 2007
|
By:
|
/s/ GRANT
THORNTON LLP
|
|
|
||
|
|
|
|
Exhibit
31.1
CERTIFICATIONS
I,
John
Thode, certify that:
1.
I have
reviewed this annual report on Form 10-K of ISCO International,
Inc.;
2.
Based
on my knowledge, this annual report does not contain any untrue statement of
a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made,
not
misleading with respect to the period covered by this annual
report;
3.
Based
on my knowledge, the financial statements, and other financial information
included in this annual report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant
as
of, and for, the periods presented in this annual report;
4.
The
registrant’s other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in Exchange Act
Rules
13a-15(e) and 15(d)-15(e)) for the registrant and have:
a.
designed such disclosure controls and procedures or caused such disclosure
controls and procedures to be designed under our supervision to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;
b.
evaluated the effectiveness of the registrant’s disclosure controls and
procedures and presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this annual report based on such evaluation;
c.
disclosed in this annual report any change in the registrant’s internal control
over financial reporting that occurred during the registrant’s most recent
fiscal quarter that was materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting;
and
5.
The
registrant’s other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the Audit Committee of the registrant’s board of
directors (or persons performing the equivalent functions):
a.
all
significant deficiencies and material weaknesses in the design or operation
of
internal control over financial reporting which are reasonably likely to
adversely affect the registrant’s ability to record, process, summarize and
report financial information; and
b.
any
fraud, whether or not material, that involves management or other employees
who
have a significant role in the registrant’s internal control over financial
reporting.
|
|
|
|
|
|
ISCO
International, Inc.
|
|
|
|
|
|
|
Date: March
30, 2007
|
By:
|
/s/
JOHN THODE
|
|
|
John
Thode
|
|
|
|
Chied
Executive Officer
|
|
Exhibit
31.2
CERTIFICATIONS
I,
Frank
Cesario, certify that:
1.
I have
reviewed this annual report on Form 10-K of ISCO International,
Inc.;
2.
Based
on my knowledge, this annual report does not contain any untrue statement of
a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made,
not
misleading with respect to the period covered by this annual
report;
3.
Based
on my knowledge, the financial statements, and other financial information
included in this annual report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant
as
of, and for, the periods presented in this annual report;
4.
The
registrant’s other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in Exchange Act
Rules
13a-15(e) and 15(d)-15(e)) for the registrant and have:
a.
designed such disclosure controls and procedures or caused such disclosure
controls and procedures to be designed under our supervision to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;
b.
evaluated the effectiveness of the registrant’s disclosure controls and
procedures and presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this annual report based on such evaluation;
c.
disclosed in this annual report any change in the registrant’s internal control
over financial reporting that occurred during the registrant’s most recent
fiscal quarter that was materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting;
and
5.
The
registrant’s other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the Audit Committee of the registrant’s board of
directors (or persons performing the equivalent functions):
a.
all
significant deficiencies and material weaknesses in the design or operation
of
internal control over financial reporting which are reasonably likely to
adversely affect the registrant’s ability to record, process, summarize and
report financial information; and
b.
any
fraud, whether or not material, that involves management or other employees
who
have a significant role in the registrant’s internal control over financial
reporting.
|
|
|
|
|
|
ISCO
International, Inc.
|
|
|
|
|
|
|
Date: March
30, 2007
|
By:
|
/s/
FRANK CESARIO
|
|
|
Frank
Cesario
|
|
|
|
Chief
Financial Officer
|
|
Exhibit
32
CERTIFICATION
PURSUANT
TO
18 U.S.C SECTION 1350,
AS
ADOPTED PURSUANT TO
SECTION
906 OF THE SARBANES-OXLEY ACT OF 2002
In
connection with the Annual Report of ISCO International, Inc. (the “Company”) on
Form 10-K for the fiscal year ending December 31, 2006 as filed with the
Securities and Exchange Commission on the date hereof (the “Report”), each of
the undersigned officers of the Company, certify pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that:
1.
The
Report fully complies with the requirements of Section 13(a) or 15(d) of
the Securities Act of 1934; and
2.
The
information contained in the Report fairly presents, in all material respects,
the financial condition and results of operations of the Company.
|
|
|
|
|
|
/s/
JOHN THODE
|
|
|
/s/
FRANK CESARIO
|
|
|
|
||
|
John
Thode
Chief
Executive Officer
March 30,
2007
|
|
|
Frank
Cesario
Chief
Financial Officer
March 30,
2007
|