Back to GetFilings.com
1
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
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, 2000
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 000-30715
COSINE COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 94-3280301
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
3200 BRIDGE PARKWAY, REDWOOD CITY, CA 94065
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER INCLUDING AREA CODE: (650) 637-4777
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.0001 PAR VALUE
(TITLE OF EACH CLASS)
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 definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Although the Registrant has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the period
that the Registrant was required to file such reports, the Registrant did not
become subject to such filing requirements until the registration of certain
shares of its Common Stock pursuant to a Registration Statement on Form S-1
which was declared effective by the Securities and Exchange Commission on
September 25, 2000.
As of February 28, 2001, there were 103,525,166 shares of the Registrant's
Common Stock outstanding. The aggregate market value of the Common Stock held by
non-affiliates of the Registrant (based on the closing price for the Common
Stock on the Nasdaq National Market on February 28, 2001) was $740,291,000.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the definitive Proxy Statement for CoSine's Annual Meeting of
Stockholders to be filed within 120 days of CoSine's year end.
Exhibit index on pages 60 - 61.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
2
COSINE COMMUNICATIONS, INC.
FORM 10-K
YEAR ENDED DECEMBER 31, 2000
TABLE OF CONTENTS
PAGE
----
PART I
Item 1. Business.................................................... 1
Item 2. Properties.................................................. 12
Item 3. Legal Proceedings........................................... 12
Item 4. Submission of Matters to a Vote of Security Holders......... 12
Executive Officers of the Registrant.................................. 13
PART II
Market for Registrant's Common Stock and Related Stockholder
Item 5. Matters..................................................... 14
Item 6. Selected Financial Data..................................... 15
Management's Discussion and Analysis of Financial Condition
Item 7. and Results of Operations................................... 16
Quantitative and Qualitative Disclosures about Market
Item 7A. Risk........................................................ 27
Item 8. Financial Statements and Supplementary Data................. 27
Changes in and Disagreements with Accountants on Accounting
Item 9. and Financial Disclosure.................................... 55
PART III
Item 10. Directors and Executive Officers of the Registrant.......... 55
Item 11. Executive Compensation...................................... 55
Security Ownership of Certain Beneficial Owners and
Item 12. Management.................................................. 55
Item 13. Certain Relationships and Related Transactions.............. 55
PART IV
Exhibits, Financial Statement Schedules and Reports on Form
Item 14. 8-K......................................................... 56
Supplemental Financial Information.................................... 57
Signatures............................................................ 59
Exhibit Index......................................................... 60
i
3
SAFE HARBOR STATEMENT UNDER PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995
In addition to historical information, this report contains forward-looking
statements. These forward-looking statements are subject to certain risks and
uncertainties that could cause actual results to differ materially from those
reflected in these forward-looking statements. We use words such as
"anticipate," "believe," "plan," "expect," "future," "intend" and similar
expressions to identify forward-looking statements. Factors that might cause
such a difference include, but are not limited to, product development,
commercialization and technology difficulties, manufacturing costs, the impact
of competitive products, pricing pressures, changing customer requirements,
timely availability and acceptance of new products, changes in economic
conditions in the various markets we serve and those factors discussed in the
section entitled "Management's Discussion and Analysis of Financial Position and
Results of Operations -- Risk Factors." Readers are cautioned not to place undue
reliance on these forward-looking statements, which reflect management's
opinions only as of the date hereof. We undertake no obligation to revise or
publicly release the results of any revision to these forward-looking
statements. Readers should carefully review the risk factors described in other
documents we file from time to time with the Securities and Exchange Commission,
including the Quarterly Reports on Form 10-Q to be filed by us in fiscal year
2001.
ii
4
PART I
ITEM 1. BUSINESS
OVERVIEW
We develop, market and sell a communications platform designed to enable
network service providers to rapidly deliver computer applications and
communications services from within their networks. Examples include:
- virtual private networks, or VPN's, which are secure private networks
that run on the Internet and other communications networks;
- firewalls, which are security programs designed to prevent unwanted
network traffic; and
- secure broadband access, which is secure high-speed access to the
Internet and other communications networks.
Our IP, or Internet protocol, service delivery platform consists of three
independent elements: our IPSX 9000(TM) service processing switch (IPSX 9000),
InVision(TM) service management system (InVision) for network management and
InGage(TM) customer network management software (InGage).
Our platform is designed to:
- allow delivery of applications and services simultaneously to thousands
of subscribers;
- help address the cost, management complexity and scalability issues of
service delivery; and
- reduce the need for equipment on a customer's premises to provide these
applications and services.
INDUSTRY BACKGROUND
Data networks, including the Internet, have rapidly evolved to become
critical for the communications needs of many businesses and consumers. The
explosive growth in the number of users and applications has created an enormous
need for communications bandwidth. Numerous service providers have emerged to
offer high-speed connectivity services to businesses and consumers. These
service providers are building high-capacity networks using the latest broadband
access, switching and routing products from both traditional and emerging
communications equipment vendors.
As new entrants in the service provider market emerge, the delivery of
high-speed connectivity is becoming intensely competitive. This competition is
making it difficult for service providers to differentiate their service
offerings on price alone.
As businesses have become more dependent on the Internet and other data
networks, they are increasingly seeking other communications services in
addition to high-speed connectivity. To enable these services, a secure and
reliable networking environment is required. The Internet, however, suffers from
an inherent lack of security and dependability, which businesses have struggled
to overcome by using technologies installed on customer premises equipment, or
CPE. These technologies include firewalls, computer virus detection, intrusion
detection, which is the detection of unauthorized network access, and
encryption, which is the coding of data for security purposes. Businesses use
additional CPE as more services are needed. This equipment can be costly to
install and maintain, requiring large numbers of expensive networking personnel
to manage. We believe that most businesses will have difficulty implementing
these new technologies and that many businesses will increasingly seek to
outsource these activities.
Network service providers have begun to provide management of CPE to
address this demand and achieve three important business objectives:
- attracting subscribers through differentiated services that can be
layered on top of basic high-speed connectivity services;
1
5
- increasing revenue from business subscribers who are demanding additional
services; and
- reducing subscriber turnover, because customers must consider the total
cost of replacing multiple services and to evaluate the risk of moving
critical business services to a new service provider.
Although network service providers have started to offer additional
services through the CPE-based approach, this approach is subject to a number of
limitations.
THE PROBLEMS OF A CPE-BASED APPROACH
Each customer site requires multiple pieces of on-site equipment provided
by numerous vendors. This equipment enables various functions, including
routing, firewall protection and detection of unauthorized intrusion.
We believe that the CPE-based model creates the following challenges that
constrain the delivery of services for both network service providers as well as
their customers.
High Cost to Install and Manage. Installing and managing equipment located
at dispersed customer sites can result in high costs for both service providers
and their customers. Each new customer site or service requires new CPE, or the
modification of existing CPE, as well as on-site service calls. This approach is
costly and time consuming and often leads to delays in establishing service.
Both service providers and their subscribers can incur significant maintenance
and monitoring expenses for the CPE and for expensive personnel needed to manage
these complex networks.
Difficult to Expand. We believe that the CPE-based service delivery model
is difficult to expand because on-site installation is required for each new
site or service. Implementation challenges increase significantly as new
services and devices are added, since each new network site must be connected to
all existing network sites.
Limited Network Services. In a CPE-based model, a subscriber's data is
typically encrypted before entering the service provider's network. This
encryption limits the service provider to simple data transmission because
additional services must be implemented before encryption.
Difficult to Integrate. CPE-based services often involve the integration of
hardware and software from a variety of vendors. We believe that integrating and
ensuring compatibility among diverse hardware and software is a significant
challenge.
Inconsistent Quality of Service. Service providers may have difficulty
offering consistent quality of service across all of these disparate network
devices and implementing and supporting agreed levels of service.
THE NEED FOR A NEW NETWORK-BASED SERVICE DELIVERY MODEL
We believe that the problems with CPE-based service delivery models have
created a significant need for service providers to offer network-based services
that operate on equipment located within the service providers' networks.
Delivering services in this manner requires the creation of a new and more
intelligent network, through which services can be delivered quickly and
cost-effectively. It also must serve thousands of customer sites from within a
service provider's network, without the need for equipment to be installed or
managed on customers' premises. We believe that this network must also be based
on an open architecture, which will support network standards and allow for the
implementation of third-party applications.
LIMITATIONS OF EXISTING NETWORK-BASED APPROACHES
Relocation of Customer Premises Equipment. While reducing the installation
and management costs resulting from broad geographic dispersion of CPE,
relocating this equipment in the service providers' facilities does not fully
address the remaining problems of CPE-based approaches. For example, this
approach introduces costs incurred in requiring large numbers of devices to be
located in the already constrained space of the service providers' facilities.
2
6
Carrier Switches and Routers. Switches and routers used by service
providers are specifically designed to forward packets of data through networks.
We believe that this equipment lacks the flexibility and general-purpose
computing capacity necessary to directly provide a wide range of services.
Large General-Purpose Computers. Large general-purpose computers, commonly
used in computer data centers, do not have routing capabilities or network
access interfaces and are not designed specifically for data forwarding. We
believe that these computers do not have the network management and operational
systems required to meet stringent service provider standards.
NEED FOR AN OPEN ARCHITECTURE
Most of today's network equipment is designed around proprietary
architectures and operating systems. This equipment has not been designed to
support the use of third-party applications in the network. Since network
equipment vendors generally do not maintain core competencies in all application
technologies, we believe that service providers need a system that employs an
open architecture, facilitating the development of new applications and the
adaptation of existing applications by third parties, for use on that device. An
open architecture also allows service providers to rapidly change services and
implement new applications without having to replace existing equipment.
We believe there is substantial demand for systems that enable the delivery
of network-based services and applications in a scalable and reliable manner.
THE COSINE COMMUNICATIONS SOLUTION
Our IP service delivery platform provides a solution that is designed to
allow service providers to build intelligent data networks and deliver a variety
of third-party applications to their end-users. Intelligent data networks are
those designed to deliver applications from within a network without the need
for specialized CPE.
Our service delivery platform is designed to deliver applications to
thousands of subscribers simultaneously.
Our IP service delivery platform consists of three independent key
elements: our IPSX 9000 service processing switch, InVision service management
system and InGage customer network management software. We began shipping the
IPSX 9000 and InVision in the first quarter of 2000 and began shipping InGage
later in 2000.
We believe our products will offer the following benefits for service
providers and their customers:
- the ability for service providers to increase revenue by delivering a
variety of services to their customers;
- faster availability of new services for delivery by service providers;
- reduced operating expenses for service providers through automated
delivery, customer activation, centralized billing and fewer on-site
service calls;
- the ability of service providers to attract new customers and reduce
customer turnover;
- the ability for subscribers to monitor and control services;
- reliability and scalability;
- software-based network management capabilities for service providers and
their customers;
- a flexible open architecture that can support third-party applications
and services; and
- the ability to support and operate with existing network standards and
applications.
3
7
Our IP service delivery platform is designed for a wide range of service
providers that potentially includes traditional local, regional, national and
international communications carriers, IP carriers and ISPs, or Internet service
provider.
STRATEGY
Our objective is to become the leading supplier of carrier network
equipment designed to deliver profitable applications and services seamlessly
from within a service provider's network. The key elements of our strategy are:
- Use Our Architecture to Offer Third-Party Services and Applications. The
open architecture approach of the IPSX 9000 enables us to offer service
providers the capability of using third-party software technologies. We
offer several of these technologies from a number of software providers.
Our goal is to continue developing relationships with additional
third-party software providers to expand our portfolio of services.
- Establish Our Platform as the Leading Solution in Key Markets. We focus
on achieving commercial acceptance of our products by customers
representing various types of service providers to allow us to
demonstrate and validate distinct applications. We believe that early
success with these customers will better enable us to market our products
to other similar service providers, which will enable us to establish our
products as their primary service delivery platform.
- Work Closely with Customers to Facilitate New Services. We work closely
with our customers to develop features to meet their complex and distinct
needs. We believe that our customers' input and cooperation are essential
to the design of our platform and its use in their networks.
- Expand Sales, Distribution, Support and Service Capabilities. We intend
to rapidly expand our domestic and international sales and distribution
capabilities. We have built a team of support and service professionals
to assist our customers with the design, implementation and efficient
operation of our platform within their networks.
- Develop New Technologies and Products. We have developed a modular and
scalable hardware and software architecture that we believe will allow us
to rapidly develop future products and enhancements. We intend to
continue our significant investment in research and development to create
new technologies and products.
- Pursue Strategic Alliances and Acquisitions. We intend to expand our
products and services through selected acquisitions and alliances. These
may include acquisitions of complementary products, technologies and
businesses that enhance our technology leadership and product breadth. We
also believe that working with companies that provide complementary
products or services for intelligent data networks will assist us in
bringing greater value to our customers.
PRODUCTS AND TECHNOLOGY
IP SERVICE DELIVERY PLATFORM
In January 2000, we released our IPSX 9000 and InVision for general
availability and we released InGage later in 2000.
Our products are offered in various configurations and combinations
depending on the size of the service provider and the specific service
offerings. The IPSX 9000 comes with the operating system software already
loaded. A network service provider may buy the IPSX 9000 with no additional
software applications. However, the IPSX 9000 will often be ordered with
InVision. The InGage software can be purchased at a later date as the service
providers' customers request network management capability. Additional IPSX 9000
service processing switches may also be purchased at a later date.
4
8
The operating system software is loaded into the IPSX 9000 at the time of
manufacture. As the product is fully functional at the time of shipment, no
significant installation services are necessary once the product has been
received at the customer's site.
IPSX 9000 SERVICE PROCESSING SWITCH
Our IPSX 9000 combines the functionality of high-performance networking
hardware, distributed computing hardware and operating system software. It is
designed to be installed in a service provider's facility and is the product
from which services are delivered.
Our platform is based on a computing architecture that allows distributed
computing to occur simultaneously within a multi-processor system. This approach
combines the computing power of multiple computer processors, or processing
engines, to deliver the performance of a more powerful computing system.
This approach, which is designed to be scalable, allows additional
processing resources to be added as they are needed. Our architecture enables
applications to be distributed among available processing resources. These
processing resources are located within processing engines on printed circuit
board assemblies, which we refer to as blades.
IPSX Hardware Architecture. The IPSX hardware architecture involves two key
design elements, our chassis design and blade design, that create a modular and
flexible platform.
Our chassis design provides a total of 26 slots for system blades, 13 in
the front and 13 in the rear. This chassis supports four types of system blades:
- access blades -- interfaces to subscriber networks;
- trunk blades -- interfaces to the carrier backbone;
- processing blades -- multiple processing engines for service
applications; and
- control blades -- processing for shelf management and administrative
functions.
Access, trunk and control blades can also support multiple processing
engines for the delivery of services.
IPNOS Software. Our operating system software, or IPNOS, is designed to
provide:
- real-time processing, which allows the IPSX 9000 to perform its functions
without significant delay;
- an object-oriented environment, which provides a simple framework for
multiple instances of the same application to operate securely and
independently;
- fault-tolerance, with the goal that if any component fails, a backup will
immediately take its place with no loss of service; and
- distributed computing, which spreads applications and data over multiple
processors at the same time.
IPNOS combines the capabilities of real-time operating system software
typically found in networking infrastructure products with the capabilities of
large scale general-purpose computing operating system software typically found
in large scale general-purpose computers and traditional servers. IPNOS is a
distributed operating system designed to allow applications to easily take
advantage of our processing capabilities.
IPNOS is designed to support high-performance routing and data
transmission. It also provides an application programming interface, or API,
which is designed to allow applications to be adapted and transferred from
traditional general-purpose operating systems, such as UNIX or Windows. Finally,
IPNOS provides a framework for secure system communications.
INVISION SERVICE MANAGEMENT SYSTEM
InVision is a scalable network management software product designed to
allow service providers to manage our IP service delivery platforms and the
services being offered to their customers. It is designed to be installed in the
service provider's network operations center and provides a broad range of
management
5
9
services for each application. It also enables service providers to develop
templates and tools to facilitate the process of delivering new services.
InVision is designed for scalability to meet the needs of the largest
service provider networks and conforms to telecom industry network management
standards. The InVision system runs on the Sun Solaris and Microsoft Windows NT
operating systems. InVision also is designed to operate with network management
systems from Hewlett-Packard Company, Concord Communications, Inc., VERITAS
Software Corporation and Micromuse Inc.
INGAGE CUSTOMER NETWORK MANAGEMENT
InGage is designed to be a scalable network management software product,
allowing subscribers to securely manage their services through an interface that
can be securely accessed through the Internet. We expect InGage to enable a
subscriber to remotely manage services without affecting the services of any
other subscriber and monitor the usage of various services. We expect InGage to
provide subscribers with the ability to activate various service capabilities
directly without contacting the service provider. We began shipping InGage, an
optional enhancement to our service delivery platform, during 2000.
IPSX SERVICE APPLICATIONS
A service provider can deliver a variety of service applications running on
our platform based on individual subscriber needs. Our IP service delivery
platform is designed to enable each service to be available independently and
privately for each enterprise subscriber.
Although we license many of our service applications from application
software vendors, we have also developed several of our own enterprise
subscriber service applications. We plan to continue to add new services
developed internally as well as by third parties. The table below shows service
applications available for use on our IP service delivery platform.
APPLICATION CATEGORY COSINE-DEVELOPED THIRD-PARTY-DEVELOPED (LICENSOR)
-------------------- ---------------- --------------------------------
Access Protocol Cisco HDLC Frame Relay (Harris and Jeffries)
Ethernet VLAN -- 802.1Q ATM (Trillium)
Packet-Over-SONET PPP (RouterWare)
Virtual Routing Static Routing RIP V1/V2 (Epilog)
Phase2:ISIS
Nexthop BGP, OSPF
Netplane MPLS
Security Network Address Translation Proxy Firewall (Network Associates)
Packet Filter IPSec (SSH)
Encryption
Broadband and Dial Aggregation PPTP Windriver -- L2TP, PPOE
PPPoATM
Emulation FRoIPSec
Virtual FR Switch
SERVICE OFFERING EXAMPLES
Our IP service delivery platform can provide the following network
applications:
- enterprise VPN service;
- wholesale VPN service;
- secure broadband service;
- combined traditional and IP networking service; and
- frame relay transported over IP service.
6
10
ENTERPRISE VIRTUAL PRIVATE NETWORK SERVICE
Our platform is designed to enable service providers with IP backbone
networks to offer their enterprise subscriber's VPN services without the need
for costly CPE. Using traditional connections, enterprise subscribers can access
our IP service delivery platform located at their service provider's closest
facility. Each IPSX 9000 acts as a private aggregation point for these
connections and can provide secure routing services between all of a customer's
sites within a virtual network.
Service providers can install our platform at the edge of their networks to
reduce the distance that must be traversed using costly traditional connections
from each enterprise subscriber to the nearest service provider facility. Once
the traffic reaches the IPSX 9000, our service delivery platform can provide
encryption and authentication services. The traffic can then be securely
transmitted less expensively over public IP networks or the Internet.
WHOLESALE VPN SERVICE
A wholesale ISP which provides wholesale VPN and other services to regional
ISPs, can use our IP service delivery platform to offer these regional ISPs
services for resale to their subscribers. ISPs using CPE-based encryption cannot
easily offer network-based services because traffic is encrypted on the
customer's premises before being sent to the network. Once encrypted by the
customer, the service provider cannot interpret the contents of the packet and,
as a result, cannot layer on any services.
When CPE-based encrypted traffic from a customer site is directed by the
regional ISP to our IPSX 9000 within the wholesale ISP's network, the wholesale
ISP can decrypt the traffic and offer services on behalf of regional ISPs. The
wholesale ISP can then re-encrypt the traffic and forward it to its next
destination. This allows the regional ISP to offer a wide range of services to
its customers from the wholesale ISP's network in a cost-effective, scalable
manner.
SECURE BROADBAND SERVICE
Broadband local access carriers installing digital subscriber line, or DSL,
cable modem or broadband wireless data services control consumer and business
access to the Internet and other data networks. These carriers are very often in
the position of providing wholesale broadband access to their service provider
customers. We believe that wholesale broadband connectivity is becoming a
commodity, and these data carriers are seeking ways to lower costs of providing
this connectivity and to increase revenues through services. Our platform is
designed to enable broadband data carriers to provide traffic aggregation and
service switching. Additionally, our platform potentially lowers the cost of
operation for carriers by allowing them to transport the aggregated traffic over
IP networks instead of using traditional connections to reach their wholesale
customers.
Our platform also gives data carriers and their service provider customers
several new revenue-generating opportunities.
COMBINED TRADITIONAL AND IP NETWORKING SERVICE
Many traditional domestic and international carriers have invested in frame
relay and asynchronous transfer mode, or ATM, network equipment. Frame relay is
a data communications service, which puts data into variable-sized units for
transmission, while ATM is a communications switching technology that organizes
data into standard-sized units for transmission. We believe that these networks
and the enterprises using them will continue to grow. Large enterprise customers
using these networks generally cannot afford to quickly transition their entire
organization to a new IP-based network. Our platform is designed to enable
traditional service providers to use their frame relay or ATM networks to
emulate IP networks and offer network-based services. We believe that this will
enable service providers to pursue revenue opportunities from new services using
their significant investments in equipment.
7
11
FRAME RELAY TRANSPORTED OVER IP
We believe that IP service providers will sometimes need to offer services
enabling frame relay traffic to be transported over IP. We believe that these
service providers are likely to continue to have customers that need to use
traditional services to transport many traditional protocols, such as Novell,
Inc.'s IPX. Although we believe that these services will not grow as quickly as
next generation services, frame relay connections are likely to continue to grow
with the volume of traffic from large enterprises. Our IPSX 9000 is designed to
permit frame relay traffic to be carried without requiring an IP-based carrier
to invest in any frame relay equipment.
CUSTOMERS
During the year ended December 31, 2000, we recognized revenue from seven
customers, three of whom -- AduroNet Ltd., a British company, Nissho
Electronics, a Japanese company and Qwest Communications -- each accounted for
more than 10% of our revenue. Also during 2000, we were actively involved with
24 prospective customers who had either lab or field trials underway, or had
completed trials and were finishing their business plans before awarding
purchase orders. We had additional demand for 25 customer evaluations in our
labs for the first quarter of 2001. It is not possible to predict whether these
prospective customers who are in or awaiting evaluation or trial will award
purchase orders.
Currently a small number of customers account for a substantial portion of
our revenues, and the loss of any one customer can have a material impact on our
operations. In February 2001, AduroNet became insolvent and subsequently filed
for provisional liquidation under British law. We therefore do not expect to
receive any future orders from AduroNet, and the equipment we sold to them will
likely be placed on the market at a discount. As of December 31, 2000, CoSine
accrued a bad debt provision of $0.6 million in anticipation of not collecting
any remaining accounts receivable from this customer. Additionally, as of
December 31, 2000, deferred post-contract service revenue related to AduroNet
amounted to $3.5 million which we will continue to amortize over the original
service period, pending final resolution of the AduroNet liquidation proceeding.
SALES AND MARKETING
We sell our products through our direct sales organization and through
resellers that target specific countries and international partners. At December
31, 2000, we had 98 people in our sales and marketing organization.
We devote substantial sales and marketing resources to customer evaluations
and trials. The leading edge technology of our IP service delivery platform and
the complexity of the networks in which it is installed and integrated may often
require extensive evaluation periods and trials to be conducted by our customers
at customer-designated locations. We currently have two sales laboratories
located in Europe and Asia in addition to our facilities in Redwood City,
California for use by our prospective customers in evaluating our products.
Because of the complexity of testing our products and services and the nature of
the equipment required, our prospective customers often do not have the
resources to efficiently evaluate our products. Therefore, we are currently
seeking to expand our sales laboratories to provide our prospective customers
with greater resources to commence and conclude evaluation and trial efforts
necessary for them to make a decision to purchase our products. These
evaluations and trials require support from our highly trained systems engineers
and service and support personnel and generally take approximately eight to 14
months. We anticipate that customer evaluations and trials will continue to
require a substantial amount of our sales and marketing resources.
DIRECT SALES
Our North American direct sales organization is divided into western,
central and eastern regions and concentrates on network service providers
offering IP-based services. Territory sales managers cover specified
geographies, and account managers focus on large individual customers. Both
types of sales managers work
8
12
with our global sales and support organization systems engineers to provide
customers with network design and build-out proposals. Sales and account
managers are directed by regional vice presidents in the western, central and
eastern regions who report directly to the vice president of Americas sales.
As part of our direct selling model, we use our field sales, engineering
and executive personnel to establish multiple contacts within a potential
customer's business organization. We believe that maintaining ongoing customer
relationships with key individuals in a customer's engineering, operations,
marketing and executive departments is important to our success.
INTERNATIONAL SALES AND RESELLERS
We believe that to effectively market our products in other countries, we
need to use local sales organizations that understand the business and network
environment in their countries. We expect that the international sales
organizations and resellers that we have selected will enhance our ability to
sell our products in complex international environments and provide high quality
support for our foreign customers.
CUSTOMER SERVICE AND SUPPORT
Customer service and support play a key role in ensuring our customers'
success in using the IP service delivery platform. The goal of our service
organization is to enable service providers to generate sustainable new revenues
in a short period of time. We seek to achieve this goal by providing a
comprehensive set of service offerings ranging from professional services
targeted at network architecture, design and installation to product support.
Our support offerings include hardware and software warranty services, access to
our technical assistance center, on-site network engineers and technical
information and assistance.
Our professional services include consulting offerings designed to support
service providers from initial planning through implementation and ongoing
operation. Our network engineers and consultants are skilled in network design
and architecture, VPN technologies, IP security, IP routing protocols and
network performance and availability.
At December 31, 2000, we had 59 employees in our customer service and
support organization.
RESEARCH AND DEVELOPMENT
We have a team of skilled engineers with extensive experience in designing:
- scalable Internet software;
- high performance computing platforms;
- application specific integrated circuits with advanced packaging
technologies;
- network communications protocols;
- Internet security protocols;
- Internet firewalls;
- managed network services;
- operating system design; and
- network management software.
Our engineers have come from data networking, computer systems, computer
security and telecommunications companies. Our research and development group is
organized into teams that work on multiple generations of products. We seek to
offer our customers new products as they are needed, as well as enhancements to
existing products.
We plan to enhance our core technology and develop additional applications
for our IP service delivery platform. We are dedicating substantial resources to
the development of new features for the IPSX 9000. The design phase of these
features is expected to have a minimum nine to 12 month development cycle.
9
13
Our research and development efforts are driven by the availability of new
technology, market demand and customer feedback. We have invested significant
time and resources in creating a structured process for undertaking all product
development projects. Following an assessment of market demand, our research and
development team develops a set of functional product specifications based on
input from the product management, sales and service organizations. This process
is designed to provide a framework for defining and addressing the steps, tasks
and activities required to bring product concepts and development projects to
market.
We work closely with our customers to determine the features and
functionality they want from our products. We use their feedback to define and
prioritize our product development efforts. To further the development of
additional applications for our IP service delivery platform, we intend to
continue working with current and potential customers to develop products that
address the needs of the market.
At December 31, 2000, we had 244 employees in our research and development
group.
Our research and development expenses totaled $91.2 million, $27.3 million
and $7.4 million for the years ended December 31, 2000, 1999 and 1998,
respectively.
MANUFACTURING
During 2000, we outsourced manufacturing to three contract manufacturers:
Solectron, SMTC Manufacturing and Sonic Manufacturing. These suppliers procure
material and assemble and test all printed circuit boards and chassis assemblies
used in our products. These printed circuit boards and chassis assemblies are
delivered to our Redwood City, California facilities, where we perform the final
testing, packaging and shipping. Our manufacturers produce our products within
30 miles of our Redwood City facilities. All manufacturing is done on a purchase
order basis. We anticipate that Solectron will provide additional manufacturing
services through systems integration, test and direct shipment to our customers.
We believe that our use of outsourced manufacturing minimizes the space and
inventory investment needed for manufacturing operations and enables us to:
- adjust manufacturing volumes quickly to meet changes in customer demand;
- focus on production planning and key commodity management; and
- take advantage of the purchasing power of our contract manufacturers.
The use of third-party contract manufacturers can result in interruptions
in our manufacturing operations if our relationships with these parties are
terminated or they are unable or unwilling to produce sufficient quantities of
products in a timely manner and at satisfactory quality levels. Also, we rely on
single or limited sources for various key components, and the loss or delay of
these sources could also interrupt our manufacturing operations. See "Risk
Factors."
At December 31, 2000, we had 31 employees in our manufacturing operations
group.
BACKLOG
CoSine's backlog includes purchase orders from customers with approved
credit status, representing products and services we plan to deliver within 12
months, plus our current balance of deferred revenue. At December 31, 2000, our
backlog totaled $15,020,000.
After the successful completion of a customer evaluation and trial, there
is generally a short time between order and shipment. In addition, customers
occasionally change delivery schedules or cancel orders. As a result, we do not
believe that backlog, as of any particular date, is necessarily indicative of
actual revenues for any future period. However, we expect that most of our
future sales will come from the successful completion of customer evaluations
and trials. We were engaged in 24 evaluations and trials during 2000, and we
expect to commence additional evaluations and trials in future periods.
10
14
COMPETITION
The networking equipment business is extremely competitive, with numerous
vendors offering products that enhance the functionality of a service provider's
network. Because our IP service delivery platform enables a broad suite of
services, our capabilities place us in direct competition with a variety of
networking equipment vendors who can offer specific products addressing these
customer needs.
In specific service areas, our competitors include Alcatel, Cisco, Lucent,
Nortel and Siemens. Our competitors market and sell products offering VPN
capabilities and firewall solutions. These competitors and other new entrants
are developing new infrastructure solutions for use within a service provider's
network.
We also compete with companies that provide traditional enterprise products
because our IP service delivery platform may reduce the need for these products.
These vendors include Check Point Software Technologies, Ltd. and AXENT
Technologies, Inc. for firewalls, and VPNet Technologies, Inc. and RedCreek
Communications, Inc. for VPN encryption. Although we believe no single
competitor is dominant in the market, we believe our single largest competitor
is Nortel, which produces the Shasta Network application. Nortel has significant
market penetration and sales strength.
Many of these companies, particularly the large public companies, have
substantially greater financial, marketing and development resources. Many of
them have existing relationships with network service providers, which will make
it more difficult for us to sell our products to those customers. Some
competitors may seek to use intellectual property rights to limit our ability to
compete.
We believe that the principal methods of competition in these markets are
product performance, reliability, expandability and the ability of a product to
deliver cost-effective results. We believe that to be competitive in these
markets, we must deliver products that:
- provide extremely high network reliability;
- provide high performance capabilities;
- scale easily and efficiently with minimum disruption to the network;
- operate with existing network designs and equipment vendors;
- reduce the complexity of the network by decreasing the need for multiple
layers of equipment;
- provide a cost-effective solution for service providers; and
- are supported by responsive customer service and support.
We believe that positive factors pertaining to our competitive position
include our technology, the expertise of our research and development personnel,
our service and support organization and our intellectual property rights. We
believe that negative factors pertaining to our competitive position include our
relative newness in the market and the fact that some of our competitors have
large financial resources available to promote sales of their products and to
develop products more directly competitive with ours.
INTELLECTUAL PROPERTY
Our IPNOS, InVision and InGage software, were developed internally and are
protected by United States and foreign copyright laws. Our IP service delivery
platform system architecture and hardware were developed internally, and we own
all rights to the core interfaces and protocols between subsystems, which are
the subject of pending United States patent applications. Currently, we have a
total of 10 patent applications pending in the United States relating to the
design of our products.
Although we rely on copyright, patent, trade secret and trademark law to
protect our intellectual property, we believe that the technological and
creative skills of our personnel, new product developments and frequent product
enhancements are essential to maintain our technology leadership.
11
15
We license software from network software application companies for
integration into our IP service delivery platform. These licenses are terminable
after a specified period or upon the occurrence of specified events. If one or
more of these licenses are terminated, we may need to locate and incorporate
alternative software providing comparable services to the customer.
Our success will depend upon our ability to obtain necessary intellectual
property rights and protect our intellectual property rights. We cannot be
certain that we will be able to obtain the necessary intellectual property
rights or that other parties will not contest our intellectual property rights.
EMPLOYEES
As of December 31, 2000, we had 506 full-time employees, 244 of whom were
engaged in research and development, 98 in sales and marketing, 59 in customer
support, 74 in general corporate, finance and administration and 31 in
manufacturing. None of our employees is represented by a labor union. None of
our officers or key employees is bound by an employment agreement for any
specific term. We have not experienced any work stoppages, and we consider our
relations with our employees to be good.
ITEM 2. PROPERTIES
CoSine leases approximately 131,000 square feet of office and manufacturing
space located in Redwood City and San Carlos, California under operating leases,
which expire in July 2001, August 2002 and December 2011. The lease that will
expire in July 2001 will not be renewed. We believe the remaining space will be
sufficient for our current and anticipated needs through at least December 2001.
We have two sales laboratories in Paris and Kuala Lumpur utilizing 8,000 and
3,000 square feet of space, respectively, with leases expiring in 2009 and 2002,
respectively. We are actively seeking to establish additional sales laboratory
locations.
ITEM 3. LEGAL PROCEEDINGS
On June 6, 2000, Ericsson Inc. filed a complaint against CoSine and five of
its employees in the Superior Court of Wake County in North Carolina. The
complaint alleged that CoSine misappropriated trade secrets known to the five
employees who had recently left Ericsson's employ and that CoSine induced the
employees to breach their contractual obligations to Ericsson. The complaint
sought injunctive relief and unspecified monetary damages, as well as punitive
and treble damages.
After a hearing on July 13, 2000, CoSine and Ericsson signed a settlement
term sheet and a final Settlement Agreement, in which CoSine has agreed not to
solicit Ericsson employees for the purpose of recruiting. Under the agreement,
CoSine will not incur financial liability. The lawsuit was subsequently
dismissed.
On November 8, 2000, net.com filed a complaint against CoSine and two of
its employees in the Superior Court of the State of California, San Mateo
County. The complaint alleged, among other things, misappropriation of trade
secrets known to the two employees who had recently left net.com's employment,
unfair competition and intentional interference with contractual relations. The
complaint seeks unspecified monetary damages, double and punitive damages and
attorney's fees. The parties are currently in settlement discussions.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the
quarter ended December 31, 2000.
12
16
EXECUTIVE OFFICERS OF THE REGISTRANT
The names of our executive officers and their ages, titles and biographies
appear below. All officers are elected for a term of three years.
NAME AGE POSITION
---- --- --------
Dean Hamilton................ 38 Chairman, President and Chief Executive Officer
Steve Goggiano............... 48 Chief Operating Officer and Executive Vice President
Craig Collins................ 45 Chief Financial Officer and Executive Vice President
Bill Ferone.................. 56 Executive Vice President, Worldwide Field Operations
Michael Nielsen.............. 39 Senior Vice President, Engineering
Jill Bresnahan............... 38 Vice President, General Counsel and Secretary
Dean Hamilton has served as Chairman, President and Chief Executive Officer
of CoSine since founding CoSine in April 1997. From August 1996 to November
1997, Mr. Hamilton was the general manager of the carrier signaling
infrastructure business unit at Ascend Communications, Inc., a
telecommunications company. From April 1995 to August 1996, Mr. Hamilton was
Co-founder, Chief Executive Officer and President of Subspace Communications, a
telecommunications company, which was acquired by Ascend.
Steve Goggiano has served as Chief Operating Officer since joining CoSine
in December 1999. Prior to joining CoSine, Mr. Goggiano held various positions
at SGI, formerly known as Silicon Graphics, Inc., a provider of computing
systems and software, from 1989 to 1999. These positions included Senior Vice
President and General Manager of SGI's Server and Supercomputer division, and
Senior Vice President of worldwide manufacturing and customer service. Mr.
Goggiano holds a B.S. in Business from San Jose State University.
Craig Collins has served as Chief Financial Officer and Executive Vice
President since joining CoSine in May 2000 and served as Secretary during May
2000. From February 2000 to May 2000, Mr. Collins was Vice President of
Corporate Finance and Strategic Planning at JDS Uniphase, a provider of fiber
optic components and, from September 1997 to February 2000, he was Vice
President and Chief Financial Officer of Optical Coating Laboratory, Inc., which
was acquired by JDS Uniphase in February 2000. From December 1993 to June 1996,
Mr. Collins was Senior Vice President of Finance and Chief Financial Officer at
Nestle Beverage Co. Mr. Collins holds a B.B.A. in Quantitative Methods and a
M.S. in Public and Business Administration from the University of Oregon.
Bill Ferone has served as the Executive Vice President of Global Services
and Support since joining CoSine in July 1999. In 2000 Mr. Ferone became
Executive Vice President of Worldwide Field Operations. Before joining CoSine,
Mr. Ferone was Senior Vice President of Service at Nortel Networks from April
1998 to July 1999. He served as Vice President and later as Senior Vice
President of Customer Service at Amdahl Corporation, a wholly owned subsidiary
of Fujitsu Limited that is a provider of integrated computing services, from
January 1991 to April 1998. Mr. Ferone holds a B.S. in Business from the
University of Cincinnati.
Michael Nielsen has served as Senior Vice President of Engineering since
joining CoSine in October 1999. From July 1992 to September 1999, Mr. Nielsen
held various positions at SGI, formerly known as Silicon Graphics, Inc., most
recently as Vice President of Engineering for the Workstation Division. Mr.
Nielsen holds a B.S., a M.S. and a Ph.D. in Electrical Engineering from Stanford
University.
Jill Bresnahan has served as Vice President and General Counsel since
joining CoSine in March 2000. Ms. Bresnahan became Secretary of CoSine in May
2000. Prior to this Ms. Bresnahan served 10 years as Senior Division Counsel for
SGI, formerly known as Silicon Graphics, Inc., a provider of computing systems
and software, and Cray Research, before it was acquired by SGI. Ms. Bresnahan
holds a JD from Hamlin University School of Law, and a B. S. in Finance from St.
Cloud State University.
13
17
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Our common stock has been traded on the Nasdaq National Market under the
symbol COSN since our initial public offering in September 2000. Prior to that
time there was no public market for the common stock. According to the records
of our transfer agent, we had approximately 7,500 stockholders of record as of
March 21, 2001.
The following table sets forth the high and low sales price of our common
stock in each of the last two fiscal quarters since our initial public offering:
2000 HIGH LOW
---- ------ ------
Third quarter...................................... $71.00 $53.00
Fourth quarter..................................... $56.00 $ 9.13
DIVIDEND POLICY
Our current policy is to retain future earnings, if any, for use in the
operations and expansion of the business, and we do not anticipate paying any
cash dividends in the foreseeable future.
USE OF PROCEEDS OF REGISTERED SECURITIES
On September 25, 2000, in connection with our initial public offering, a
Registration Statement on Form S-1 (File No. 333-35938) was declared effective
by the Securities and Exchange Commission, pursuant to which 11,500,000 shares
of our common stock were offered and sold for our account at a price of $23 per
share, generating gross offering proceeds of $264.5 million. The managing
underwriters were Goldman, Sachs & Co., Chase Securities Inc., Robertson
Stephens, Inc. and JP Morgan Securities Inc. Our initial public offering closed
on September 29, 2000. The net proceeds of the initial public offering were
approximately $242.5 million after deducting approximately $18.5 million in
underwriting discounts and approximately $3.5 million in other offering
expenses.
We did not pay directly or indirectly any of the underwriting discounts or
other related expenses of the initial public offering to any of our directors or
officers, any person owning 10% or more of any class of our equity securities,
or any of our affiliates.
We have not yet used any funds from the initial public offering. We expect
to use the net proceeds from the initial public offering for general corporate
purposes, including working capital, expansion of our sales and marketing
organization and capital expenditures. We may also use a portion of the net
proceeds from this offering to acquire or invest in businesses, technologies or
products that are complementary to our business. We currently have no
commitments or agreements with respect to any acquisitions or investments. We
have not determined the amounts we plan to spend on any of the uses described
above or the timing of these expenditures. Pending our use of the net proceeds,
we intend to invest them in short-term, interest-bearing, investment-grade
securities.
RECENT SALES OF UNREGISTERED SECURITIES
During the fourth quarter ended December 31, 2000, we sold 89,364 shares of
common stock to our directors, officers, other employees and consultants upon
the exercise of outstanding stock options. In exchange for the shares, we
received an aggregate of $6,000 in cash. These securities were issued in
transactions exempt from registration under the Securities Act of 1933 in
reliance upon Section 4(2) of the Securities Act of 1933 and Rule 701 under the
Securities Act of 1933.
14
18
ITEM 6. SELECTED FINANCIAL DATA
YEAR ENDED DECEMBER 31,
------------------------------------------
2000 1999 1998 1997
--------- -------- ------- ------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
CONSOLIDATED STATEMENTS OF OPERATIONS DATA:
Revenue........................................... $ 31,107 -- -- --
Cost of goods sold.............................. 23,926 -- -- --
--------- -------- ------- ------
Gross profit...................................... 7,181 -- -- --
--------- -------- ------- ------
Operating expenses:
Research and development........................ 91,180 27,336 7,366 87
Sales and marketing............................. 53,625 6,077 606 --
General and administrative...................... 24,441 4,980 1,106 47
--------- -------- ------- ------
Total operating expenses................ 169,246 38,393 9,078 134
--------- -------- ------- ------
Loss from operations.............................. (162,065) (38,393) (9,078) (134)
--------- -------- ------- ------
Interest income (expense), net.................... 6,194 651 (212) 3
Other income (expenses)........................... 9 21 (3) --
--------- -------- ------- ------
Loss before income tax provision.................. (155,862) (37,721) (9,293) (131)
Income tax provision.............................. (264) -- -- --
--------- -------- ------- ------
Net loss.......................................... (156,126) (37,721) (9,293) (131)
Deemed dividend to series D preferred
stockholders.................................... (2,500) -- -- --
--------- -------- ------- ------
Net loss allocable to common stockholders......... $(158,626) $(37,721) $(9,293) $ (131)
========= ======== ======= ======
Basic and diluted net loss per common share....... $ (5.23) $ (7.49) $ (4.53) $(0.25)
========= ======== ======= ======
Shares used in computing basic and diluted net
loss per common share........................... 30,347 5,034 2,051 522
========= ======== ======= ======
DECEMBER 31,
------------------------------------------
2000 1999 1998 1997
--------- -------- ------- ------
(IN THOUSANDS)
CONSOLIDATED BALANCES SHEET DATA:
Cash, cash equivalents and short-term
investments..................................... $ 288,282 $ 54,586 $ 6,580 $1,301
Working capital................................... 283,027 49,584 2,900 1,238
Total assets...................................... 353,928 66,070 11,099 1,443
Long-term obligations, less current portion....... 9,932 7,907 2,710 --
Redeemable convertible preferred stock............ -- 89,388 9,823 --
Total stockholders' equity (net capital
deficiency)..................................... 304,763 (38,374) (6,038) 1,370
15
19
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements. These forward-looking
statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from those reflected in these
forward-looking statements. We use words such as "anticipate," "believe,"
"plan," "expect," "future," "intend" and similar expressions to identify
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, product development, commercialization and technology
difficulties, manufacturing costs, the impact of competitive products, pricing
pressures, changing customer requirements, timely availability and acceptance of
new products, changes in economic conditions in the various markets we serve and
those factors discussed in the section entitled "Management's Discussion and
Analysis of Financial Position and Results of Operations -- Risk Factors."
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect management's opinions only as of the date hereof. We
undertake no obligation to revise or publicly release the results of any
revision to these forward-looking statements. Readers should carefully review
the risk factors described in other documents we file from time to time with the
Securities and Exchange Commission, including the Quarterly Reports on Form 10-Q
to be filed by us in fiscal year 2001.
OVERVIEW
From our incorporation on April 14, 1997 through December 31, 1999, we were
a development stage enterprise, and our operating activities were primarily
devoted to increasing our research and development capabilities, designing our
hardware, developing our software and testing our products. In March 2000, after
extensive field-testing of our IP service delivery platform, we recognized
revenue from product shipments to our first customers and therefore ceased to be
classified as a development stage enterprise. We market our products through our
direct sales force and through resellers to service providers in Asia, Europe
and North America. We provide customer service and support for our products.
For the year ended December 31, 2000, we received substantially all of our
revenue from three customers for the sales of the IPSX 9000 product and
software. Also during 2000, we were actively involved with 24 prospective
customers who had either lab or field trials underway, or had completed trials
and were finishing their business plans before awarding purchase orders. We had
additional demand for 25 customer evaluations in our labs during the first
quarter of 2001.
The market for our IP service delivery platform is new and evolving, and
the volume and timing of orders are difficult to predict. A customer's decision
to purchase our platform typically involves a significant commitment of its
resources and a lengthy evaluation, testing and product qualification process.
Long sales and implementation cycles for our platform, may cause our revenue and
operating results to vary significantly and unexpectedly from quarter to
quarter.
REVENUE RECOGNITION
We recognize product revenue at the time of shipment, assuming that
persuasive evidence of an arrangement exists, the sales price is fixed or
determinable and collectibility is probable, unless we have future obligations
for installation or require customer acceptance, in which case revenue is
deferred until these obligations are met. Our product incorporates software that
is not incidental to the related hardware and, accordingly, we recognize revenue
in accordance with the American Institute of Certified Public Accountants issued
Statement of Position 97-2 "Software Revenue Recognition." For arrangements that
include the delivery of multiple products, the revenue is allocated to the
various products based on "vendor-specific objective evidence of fair value"
(VSOE). We establish VSOE based on either the price charged for the product when
the same product is sold separately or for products not yet sold separately,
based on the list prices of such products individually established by management
with the relevant authority to do so. Revenue from post-contract support
obligations for specified future periods is deferred and recognized on a
straight-line basis over the service period. Revenue from consulting services is
recognized as the services are provided. Amounts billed in excess of revenue
recognized are included as deferred revenue in the accompanying
16
20
consolidated balance sheets. We reserve for warranty costs based on our
projections of the costs of fulfilling our warranty obligations.
IMPACT OF EQUITY ISSUANCES ON OPERATING RESULTS
Equity issuances had a material impact on our operating results. The equity
issuances that affected operating results included warrants granted to customers
and suppliers, stock options granted to employees and consultants and stock
issued in lieu of cash compensation to suppliers.
Our revenue is affected significantly by warrants issued to our first three
customers, Qwest, AduroNet Ltd. and Broadband Office. These warrants were issued
upon receipt of substantial purchase orders which were preceded by a period of
cooperation with us in the marketing, development and refinement of our
products. For these customers revenue consists of receipts from sales, including
equity issued in connection with sales, less receipts for equity issued in
connection with sales.
Our cost of goods sold and operating expenses are also affected
significantly by charges related to warrants and options issued for services.
Additionally, some of our employee stock option transactions have resulted in
deferred compensation, which is presented as a reduction of stockholders' equity
on our balance sheet and is amortized over the vesting period of the applicable
options using the graded vesting method.
COSTS OF GOODS SOLD
Cost of goods sold includes all costs of producing our sold products,
including the cost of outsourced manufacturing, software royalties, warranties,
related manufacturing overhead costs, as well as costs of providing our service
offerings, including personnel engaged in providing maintenance and consulting
services to our customers. We have also incurred non-cash charges arising from
stock options granted to our employees. We have outsourced the majority of our
manufacturing and repair operations. During the year ended December 31, 2000, a
significant portion of our cost of goods sold consisted of payments to our
contract manufacturers, Solectron, SMTC Manufacturing and Sonic Manufacturing.
We conduct manufacturing engineering, final assembly, configuration testing and
documentation control at our facilities in Redwood City, California.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses consist primarily of salaries and related
personnel costs, fees paid to contractors and outside service providers, and the
costs of laboratory equipment and prototypes related to the design, development
and testing of our products. We have also incurred non-cash charges arising from
the issuance of stock options to purchase common stock to employees and
consultants. We expense our research and development costs as they are incurred.
Several components of our research and development effort require significant
expenditures, the timing of which can cause significant quarterly variability in
our expenses. The number of prototypes required to build and test a complex
product such as the IP service delivery platform is large, and this building and
testing process occurs over a short period of time.
SALES AND MARKETING EXPENSES
Sales and marketing expenses consist primarily of salaries and related
expenses for personnel engaged in sales, marketing and customer evaluations, as
well as the costs associated with customer evaluations and trials and other
promotional and marketing expenses. We devote substantial sales and marketing
resources to customer evaluations and trials. The complexity of our IP service
delivery platform and the networks in which it is installed and integrated may
often require extensive evaluation periods and trials. These trials are
conducted by our customers at customer-designated locations or within our sales
laboratories and require support from our highly trained systems engineers and
service and support personnel. These evaluations and trials generally take
approximately eight to 14 months. We anticipate that customer evaluations and
trials will continue to require a substantial amount of our sales and marketing
resources. We have also incurred non-cash charges arising from stock options
granted to employees and consultants.
17
21
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses consist primarily of salaries and
related expenses for executive, finance, accounting and human resources
personnel as well as other corporate expenses, including non-cash charges
resulting from the issuance of stock options to employees and consultants.
RESULTS OF OPERATIONS
For the year ended December 31, 2000, the first year in which we recognized
revenue, we reported a basic and diluted net loss per common share of $5.23. For
the years ended 1999 and 1998, basic and diluted loss per common share was $7.49
and $4.53, respectively. The effects of equity issuances to customers,
suppliers, employees and consultants increased net loss per common share by
$2.61 and $0.89 for the years ended December 31, 2000 and 1999, respectively.
REVENUE
From inception in April 1997 through the year ended December 31, 1999, we
had no revenue. For the year ended December 31, 2000, revenue was $31.1 million,
of which 86% were from hardware sales, 8% were from software sales and 6% were
from sales of services. Receipts from sales, including equity issued in
connection with sales, were $41.6 million.
Below is a reconciliation of revenue for the year ended December 31, 2000
as presented in our statement of operations to show the separate components as
indicated (in thousands):
Receipts from sales, including equity issued in connection
with sales............................................... $41,618
Less: Receipts for equity issued in connection with
sales.................................................... 10,511
-------
Revenue.................................................... $31,107
=======
We issued the following warrants to customers:
A warrant exercisable for 1,233,499 shares of our Series C preferred
stock at an exercise price of $0.81 per share issued to Qwest upon receipt
of a purchase order from Qwest for $18.3 million of our products and
services;
A warrant exercisable for 200,000 shares of our common stock at an
exercise price of $4.00 per share issued to AduroNet upon receipt of a
purchase order from AduroNet for $20.7 million of our products and
services; and
A warrant exercisable for 468,849 shares of our common stock at an
exercise price of $3.73 per share issued to BroadBand Office upon receipt
of a purchase order from BroadBand Office for $20.0 million of our products
and services.
We calculated the fair value of these customer-related warrants to be $16.2
million ($10.3 million in the case of Qwest, $1.8 million in the case of
AduroNet and $4.1 million in the case of BroadBand Office). These values were
calculated using the Black-Scholes option pricing model, using volatility of
0.6, a risk-free interest rate of 5% and an expected life of four years. Of this
amount, $10.5 million ($8.9 million related to Qwest, $1.3 million related to
AduroNet and $0.3 million related to BroadBand Office) was excluded from revenue
the year ended December 31, 2000. The remaining $5.7 million will be amortized
in future periods as an offset to receipts from sales, for including equity
issued in connection with sales and accordingly excluded from revenue to the
extent of and as the revenue from these customers' orders is recognized.
As of December 31, 2000, we deferred $7.6 million of revenue from contracts
that we immediately invoiced but which provide for subsequent customer
acceptance, consulting services and post-contract support services. At December
31, 2000, the unamortized portion of non-cash charges related to warrants issued
to customers was $5.7 million. We will recognize deferred revenue and associated
non-cash charges related to customer warrants in future periods.
18
22
NON-CASH CHARGES RELATED TO EQUITY ISSUANCES
During 2000, 1999 and 1998, we amortized $68.8 million, $4.5 million and
$0.2 million of non-cash charges related to equity issuances, respectively, to
cost of goods sold and operating expenses.
COST OF GOODS SOLD
For the year ended December 31, 2000, cost of goods sold was $23.9 million,
of which $16.6 million or 69% represented materials, labor and production
overhead, $4.3 million or 18% represented warranty costs and $3.1 million or 13%
represented amortization of deferred compensation related to the options granted
to employees in manufacturing operations. Prior to the year ended December 31,
2000, there was no cost of goods sold.
GROSS PROFIT
For the year ended December 31, 2000, gross profit was $7.2 million, or 23%
of revenue.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses were $91.2 million, $27.3 million and
$7.4 million for the years ended December 31, 2000, 1999 and 1998, respectively.
The increase for the year ended December 31, 2000 was $63.8 million or 234% when
compared with the year ended 1999. For the period ended December 31, 1999, the
increase in these expenses was $20.0 million or 271% when compared with the year
ended 1998. These increases resulted from increased non-cash charges related to
the issuance of stock options to employees and consultants, increased headcount
and related employee expenses, increased information technology and facilities
costs and increased expenses for the development of prototypes of our IPSX 9000.
Non-cash charges related to stock options granted to employees and consultants
were $34.7 million and $2.2 million for the years ended December 31, 2000 and
1999, respectively. There were no significant non-cash charges in 1998.
SALES AND MARKETING EXPENSES
Sales and marketing expenses were $53.6 million, $6.1 million and $0.6
million for the years ended December 31, 2000, 1999 and 1998, respectively. The
increase in sales and marketing expense was $47.5 million or 782% for the year
ended December 31, 2000 when compared with the similar period for 1999. For the
year ended December 31, 1999, sales and marketing expenses increased $5.5
million or 903% when compared with the year ended 1998. These increases resulted
from increased headcount and related employee expenses, increased non-cash
charges related to the issuance of stock options to employees and consultants,
increased expenses associated with lending products to customers and
establishing and maintaining sales laboratories for evaluation purposes,
increased travel-related expenses and increased facilities costs. Additionally,
advertising, public relations and other marketing-related costs increased as we
expanded our marketing campaign and attempted to establish brand recognition and
loyalty. Non-cash charges related to stock options granted to employees and
consultants were $17.9 million and $1.5 million for the years ended December 31,
2000 and 1999, respectively. There were no significant non-cash charges in 1998.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses were $24.4 million, $5.0 million and
$1.1 million for the years ended December 31, 2000, 1999 and 1998, respectively.
General and administrative expenses increased $19.5 million or 391% in 2000 when
compared with 1999. In the period ended December 31, 1999, general and
administrative expenses increased $3.9 million or 350% when compared with the
year ended December 31, 1998. This was a result of increases in non-cash charges
related to the issuance of stock options to employees and consultants, increased
headcount and related employee expenses, and increases in professional services
and other outside services. General and administrative non-cash charges related
to stock options granted to employees and consultants were $12.9 million and
$0.7 million for the years ended December 31, 2000 and 1999, respectively. There
were no significant non-cash charges in 1998.
19
23
INTEREST AND OTHER INCOME
For the year ended December 31, 2000, interest and other income was $8.1
million, an increase of $6.8 million from the $1.3 million of interest and other
income for the comparable period in 1999. Interest income for 1998 was $0.1
million. This increase reflects increased investment activity, which was the
result of larger cash balances created from our September 2000 initial public
offering and private financings in prior periods.
INTEREST EXPENSE
For the year ended December 31, 2000, interest expense was $1.9 million, an
increase of $1.3 million when compared with the $0.6 million of interest expense
in 1999. In 1998, we incurred $0.3 million in interest expense. These increases
reflect an increase in equipment loans and capital leases.
INCOME TAX PROVISION
The provision for income taxes of $0.3 million for the year ended December
31, 2000 was composed entirely of foreign corporate income taxes. The foreign
corporate income taxes are a function of our international expansion and the
establishment of branches and subsidiaries in various jurisdictions. The
provision for income taxes is based on income taxes on minimum profits the
foreign operations generated for services provided to us. Our tax expense for
fiscal 2001 will continue to be significantly dependent on the amount and mix of
income derived from sources subject to corporate income taxes of foreign taxing
jurisdictions.
As of December 31, 2000, we had federal and state net operating loss
carryforwards of approximately $54,000,000 and $34,000,000, respectively. As of
December 31, 2000, we also had federal and state research and development tax
credit carryforwards of approximately $2,000,000 and $1,700, 000, respectively.
The net operating loss and tax credit carryforwards will expire at various dates
beginning in 2005, if not utilized.
We have not recognized any benefit from the future use of net operating
loss carryforwards for these periods, or for any other periods, since our
incorporation. We are not recognizing the potential tax benefits of our net
operating loss carryforwards because we do not have sufficient evidence that we
will generate adequate profits to use them.
DEEMED DIVIDEND
In March 2000, we sold 625,000 shares of series D redeemable convertible
preferred stock at $8.00 per share for which we received proceeds of $5.0
million. At the date of issuance, we believed that the per share price of $8.00
represented the fair value of the preferred stock. After our initial public
offering process began, we reevaluated and increased the fair value of our
common stock at March 2000. The increase in fair value resulted in a beneficial
conversion feature of $2.5 million, which we recorded as a deemed dividend to
preferred stockholders in 2000. We recorded the deemed dividend at the date of
issuance by offsetting charges and credits to stockholders' equity. The
preferred stock dividend increased the net loss allocable to common stockholders
in the calculation of basic and diluted net loss per common share for the year
ended December 31, 2000.
LIQUIDITY AND CAPITAL RESOURCES
Prior to our initial public offering in September 2000, we financed our
operations primarily through sales of convertible preferred stock for net
proceeds of $166.6 million, plus equipment and working capital loans and capital
leases. Upon the closing of our initial public offering on September 29, 2000,
we received cash proceeds, net of underwriters' discount and offering expenses,
totaling $242.5 million, and all of our convertible preferred stock was
converted into 69.6 million shares of common stock.
20
24
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
At December 31, 2000, cash, cash equivalents and short-term investments
were $288.3 million. This compares with $54.6 million at December 31, 1999. The
increase resulted from sales of our series D convertible preferred stock in
March 2000, our series E convertible preferred stock in May 2000 and sales of
11.5 million common shares in September 2000 in connection with our initial
public offering.
OPERATING ACTIVITIES
We used $54.4 million in cash for operations for the year ended December
31, 2000, an increase of $23.6 million from the $30.8 million used in 1999. Cash
used in 1999 increased $25.5 million from the $5.3 million used in 1998. The
increase in the use of cash in 2000 was primarily the result of higher operating
expenses due to additional headcount and related employee expenses, and
increased costs of information technology, facilities, product development,
marketing and professional services related to the expansion of our business.
During 2000, these higher operating expenses and associated use of cash were
partially offset by revenue and gross profits, which generated cash. During 1999
and 1998, we used cash primarily for product development and expansion of our
business.
INVESTING ACTIVITIES
For the year ended December 31, 2000, we used $169.6 million in cash for
investing activities, an increase of $128.3 million from the $41.3 million used
for investing activities during the comparable period of 1999. This reflects an
increase of $93.1 million for net purchases of short-term investments and an
increase of $35.2 million in capital expenditures. The $38.3 million increase in
1999 over 1998 primarily reflects a $34.5 million increase in short-term
investment purchases.
FINANCING ACTIVITIES
For the year ended December 31, 2000, we received $330.1 million in cash
from financing activities, an increase of $244.5 million from the $85.6 million
generated in the comparable period of 1999. The majority of the increase
resulted from net proceeds of $242.5 million from the issuance of common stock
in our initial public offering in September 2000. We received $13.6 million in
cash from financing activities for the year ended December 31, 1998. Cash
generated for financing activities in the years ended December 31, 1999 and 1998
primarily resulted from the issuance of preferred stock.
We believe that we possess sufficient liquidity and capital resources to
fund our operating and working capital requirements for at least the next 12
months. We may require additional funds to support other purposes and may seek
to raise these additional funds through debt or equity financing or from other
sources. There can be no assurances that additional funding will be available at
all, or that if available, such financing will be obtainable on terms favorable
to us.
SUBSEQUENT EVENT
In February 2001, AduroNet Ltd., a CoSine customer in the United Kingdom,
became insolvent and subsequently filed for provisional liquidation under
British law. We therefore do not expect to receive any future orders from
AduroNet, and the equipment we sold to them will likely be placed on the market
at a discount. As of December 31, 2000, CoSine accrued a bad debt provision of
$0.6 million in anticipation of not collecting any remaining accounts receivable
from this customer. Additionally, as of December 31, 2000, deferred
post-contract service revenue related to AduroNet amounted to $3.5 million which
we will continue to amortize over the original service period, pending final
resolution of the AduroNet liquidation proceeding.
OUTLOOK
The long-term growth outlook for capital spending in the telecommunications
industry appears healthy. However, due to reductions in capital spending
commitments by our customers and uncertainty within the telecommunications
industry, the current and short-term outlook for growth is not optimistic. There
is a
21
25
decided lack of capital availability for many emerging service providers and
with the caution being exercised by larger service providers, capital spending
in the industry on a whole has slowed. While we believe this is a short-term
phenomenon, it has had and will continue to have a direct impact on our
operations for at least the current fiscal year. We anticipate that these
capital spending trends will continue to adversely affect our revenue growth
dramatically for at least the current fiscal year. This is evidenced by a
slowdown in bookings coupled with our decision not to ship product to customers
that represent unsuitable credit risks. As capital continues to be scarce, we
believe that pricing will continue to be under pressure as each potential
customer attempts to improve returns on capital.
RISK FACTORS
RISKS RELATED TO OUR BUSINESS
WE HAVE A HISTORY OF LOSSES THAT WE EXPECT WILL CONTINUE, AND IF WE NEVER
ACHIEVE PROFITABILITY WE MAY CEASE OPERATIONS.
At December 31, 2000, we had an accumulated deficit of $203.3 million. We
have incurred net losses since our incorporation. We have only recently begun to
recognize revenue, and we cannot be certain that our revenue will grow or that
we will generate sufficient revenue to become profitable. If we do not achieve
profitability, we may cease operations.
We have incurred significant expenses in the past. For example, for the
fiscal year ended December 31, 2000, we incurred research and development, sales
and marketing and general and administrative expenses of $169.2 million.
Although we cannot quantify the amount, we expect expenses to continue to
increase through 2001 and to continue to incur losses.
THE LIMITED SALES HISTORY OF OUR IP SERVICE DELIVERY PLATFORM MAKES FORECASTING
OUR REVENUE DIFFICULT, WHICH MAY IMPAIR OUR ABILITY TO MANAGE OUR BUSINESS.
We were founded in April 1997, shipped our first test IP service delivery
platform product in March 1999, and sold our first IP service delivery platform
product in March 2000. We have limited meaningful historical financial data upon
which to forecast our revenue.
IF OUR CUSTOMERS ARE UNABLE TO GENERATE SALES OF SERVICES DELIVERED USING OUR
PRODUCTS AND TO MANAGE DELIVERY OF THESE SERVICES TO THEIR CUSTOMERS, WE MAY BE
UNABLE TO SELL OUR PRODUCTS.
Our future success depends on network service providers, who are our
customers, generating revenue from the sale of services delivered using our
products. Sales of our products may decline or be delayed if our customers do
not successfully introduce commercial services derived from our IP service
delivery platform or if our customers do not generate revenue from these
services sufficient to realize an attractive return on their investment in our
IP service delivery platform.
Our ability to generate future revenue also depends on whether network
service providers successfully:
- sell and deliver services using our IP service delivery platform to their
customers; and
- forecast market trends and identify the services and features that our
products should offer their customers.
IF OUR IP SERVICE DELIVERY PLATFORM DOES NOT RAPIDLY ACHIEVE MARKET ACCEPTANCE,
WE MAY BE UNABLE TO ACHIEVE PROFITABILITY.
Our products offer a new approach for delivering services by network
service providers, which may perceive our products as being more expensive than
the other technologies and products they purchase. If network service providers
do not accept our IP service delivery platform as a method for delivering
services to their customers, our ability to increase our revenue, achieve
profitability and continue operations would be
22
26
harmed. Our success also depends on third-party software providers recognizing
the advantages of our service delivery method and on our ability to effectively
support their software development efforts.
OUR IP SERVICE DELIVERY PLATFORM IS OUR ONLY PRODUCT LINE, AND OUR FUTURE
REVENUE DEPENDS ON ITS COMMERCIAL SUCCESS.
Our IPSX 9000, InVision and InGage products are the only products that have
been shipped to our customers. Our future revenue depends on the commercial
success of our IP service delivery platform product line. If customers do not
adopt, purchase and successfully implement our IP service delivery platform in
large numbers, our revenue will not grow.
OUR PRODUCTS ARE TECHNICALLY COMPLEX AND MAY CONTAIN ERRORS OR DEFECTS THAT ARE
NOT FOUND UNTIL OUR CUSTOMERS PUT OUR PRODUCTS TO FULL USE. ERRORS OR DEFECTS IN
OUR PRODUCTS COULD SERIOUSLY HARM OUR REPUTATION AND OUR ABILITY TO SELL OUR
PRODUCTS.
Our products are more complicated than most networking products. They can
be adequately tested only when put to full use in very large and diverse
networks with high amounts of traffic. Because none of our customers has put our
products to full use, we are unable to assess the likelihood or magnitude of
this risk. Errors or defects in our products could result in:
- loss of current customers and failure to attract new customers or achieve
market acceptance; and
- increased service and warranty costs.
THE LONG SALES CYCLE FOR OUR PLATFORM, AS WELL AS THE EXPECTATION THAT CUSTOMERS
WILL SPORADICALLY PLACE LARGE ORDERS, MAY CAUSE OUR REVENUE AND OPERATING
RESULTS TO VARY SIGNIFICANTLY FROM QUARTER TO QUARTER, AND THE PRICE OF OUR
STOCK TO DECLINE.
A customer's decision to purchase our IP service delivery platform involves
a significant commitment of its resources and a lengthy evaluation, testing and
product qualification process. Network service providers and other customers
with complex networks usually expand their networks in large increments on a
periodic basis. We may receive purchase orders for significant dollar amounts on
an irregular and unpredictable basis. These events may cause our revenue and
operating results to vary significantly and unexpectedly from quarter to
quarter, which could cause our stock price to decline.
IF WE FAIL TO DEVELOP NEW PRODUCTS OR FEATURES, WE WILL HAVE DIFFICULTY
ATTRACTING CUSTOMERS.
Based on our prior experience, we expect that our customers will require
product features that our current IP service delivery platform does not have.
Our products are technically complex, and the development of new products or
features is an uncertain, time-consuming and labor-intensive process. We may
experience design, manufacturing or marketing problems with new products. If we
fail to develop new or enhanced products that meet customer requirements, our
ability to attract and retain customers will be hindered.
WE RELY UPON A LIMITED NUMBER OF CUSTOMERS, AND ANY DECREASE IN REVENUE FROM
THESE CUSTOMERS OR FAILURE TO INCREASE OUR CUSTOMER BASE COULD HARM OUR
OPERATING RESULTS.
For the year ended December 31, 2000, we received substantially all of our
revenue from three customers, one of whom, AduroNet Ltd., is in liquidation (see
Note 9 of Notes to Consolidated Financial Statements). The loss of one or more
of our customers, a reduction in purchases of our products by our customers or
the decline of our customers' business may limit our revenue growth and harm our
operating results. We do not have long-term contracts with our customers, and
our customers may reduce or discontinue purchases of our products at any time.
Our future success will depend on attracting additional customers. Failure
to increase our customer base would hinder our growth and harm our operating
results.
23
27
IF WE DO NOT EFFECTIVELY MANAGE OUR GROWTH, INTEGRATE NEWLY HIRED-KEY PERSONNEL
AND HIRE ADDITIONAL PERSONNEL OUR OPERATIONS WILL SUFFER.
The growth of our operations places a significant strain on our management
systems and resources. If we do not effectively manage our growth and improve
our financial and managerial controls and systems, we may be unable to provide
adequate service and support to our customers and our operations will suffer. At
December 31, 2000 and 1999, we had 506 and 185 employees, respectively. We plan
to continue to hire a significant number of employees this year, but we may be
unable to hire and retain the kind and number that we need.
We recently hired many of our key executives, including our chief financial
officer and other managerial personnel. These personnel have worked together for
only a short period of time and must learn our business while performing their
regular duties. Our operations could be disrupted if we do not rapidly integrate
these new key personnel.
A FAILURE OF OUR CONTRACT MANUFACTURERS OR OUR SOLE SOURCE AND LIMITED SOURCE
SUPPLIERS TO MEET OUR NEEDS WOULD SERIOUSLY HARM OUR ABILITY TO TIMELY FILL
CUSTOMER ORDERS.
We currently use two third-party contract manufacturers: Solectron and
Sonic Manufacturing. If any of our manufacturers terminates its relationship
with us or is unable to produce sufficient quantities of our products in a
timely manner and at satisfactory quality levels, our ability to fill customer
orders on time, our reputation and our operating results will suffer. Our
contract manufacturers do not have a long-term obligation to supply products to
us. Qualifying new contract manufacturers and starting volume production is
expensive and time consuming and would disrupt our business.
We purchase several key components, including field programmable gate
arrays, some integrated circuits and memory devices, and power supplies from a
single source or limited sources. We do not have long-term supply contracts for
these components. If our supply of these components is interrupted, we may be
unable to locate an alternate source in a timely manner or at favorable prices.
Interruption or delay in the supply of these components could cause us to lose
sales to existing and potential customers.
IF WE FAIL TO PREDICT OUR MANUFACTURING REQUIREMENTS ACCURATELY, WE COULD INCUR
ADDITIONAL COSTS OR MANUFACTURING DELAYS.
We provide forecasts of our demand to our contract manufacturers up to
twelve months before scheduled delivery of products to our customers. If we
overestimate our manufacturing requirements, our contract manufacturers may have
excess or obsolete inventory, which would harm our operating results if we were
required to purchase the excess or obsolete inventory. If we underestimate our
requirements, our contract manufacturers may have an inadequate inventory, which
could interrupt manufacturing of our products and result in delays in shipments
and revenue. If we do not accurately anticipate lead times for components, we
may experience component shortages.
IF NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY ARE TERMINATED OR BECOME
UNAVAILABLE OR TOO EXPENSIVE, OUR COMPETITIVE POSITION AND OUR PRODUCT OFFERING
WILL SUFFER.
We license from third-party suppliers several key software applications
incorporated in our IP service delivery platform, such as firewall software from
Network Associates, Inc. and database software from Oracle Corporation. We will
be required to license technology from other third-party suppliers to enable us
to develop new products or features. Our inability to renew or obtain any
third-party license that we need could require us to obtain substitute
technology of lower quality or at greater cost. Either of these outcomes could
seriously impair our ability to sell our products and harm our operating
results.
24
28
INSIDERS CONTINUE TO HAVE SUBSTANTIAL CONTROL OVER US AND THEY COULD DELAY OR
PREVENT A CHANGE IN OUR CORPORATE CONTROL EVEN IF OUR OTHER STOCKHOLDERS WANTED
IT TO OCCUR.
Our executive officers, directors and principal stockholders who hold 5% or
more of the outstanding common stock and their affiliates beneficially own a
significant portion of our outstanding common stock. These stockholders will be
able to exercise significant control over all matters requiring stockholder
approval, including the election of directors and approval of significant
corporate transactions. This could delay or prevent an outside party from
acquiring or merging with us even if our other stockholders wanted it to occur.
RISKS RELATED TO OUR INDUSTRY
THE LONG-TERM GROWTH OUTLOOK FOR CAPITAL SPENDING IN THE TELECOMMUNICATIONS
INDUSTRY DIRECTLY IMPACTS OUR BUSINESS.
Due to reductions in capital spending commitments by our customers and
uncertainty within the telecommunications industry, the current and short-term
outlook for growth is not optimistic. There is a decided lack of capital
availability for many emerging service providers and with the caution being
exercised by larger service providers, capital spending in the industry on a
whole has slowed.
While we believe this is a short-term phenomenon, it has had and will
continue to have a direct impact on our operations for at least the current
fiscal year. We anticipate that these capital spending trends will continue to
adversely affect our revenue growth dramatically for at least the current fiscal
year.
ONGOING POWER SUPPLY PROBLEMS IN CALIFORNIA COULD HARM OUR BUSINESS.
Our corporate headquarters, our research and development activities, other
critical business operations and the majority of our suppliers are located in
California. California has recently experienced ongoing power shortages, which
have resulted in "rolling blackouts." These blackouts could cause disruptions to
our operations and the operations of our suppliers and customers. Losses
incurred for these types of outages are not covered under CoSine's insurance
policies. In addition, California has recently experienced rising energy costs
which could negatively impact our results.
WE PARTICIPATE IN SEVERAL HIGHLY COMPETITIVE MARKETS, AND OUR FAILURE TO COMPETE
SUCCESSFULLY WOULD LIMIT OUR ABILITY TO INCREASE OUR MARKET SHARE AND HARM OUR
BUSINESS.
Competition in the network infrastructure market is intense, and we expect
that competition in the market for IP networking services will also be intense.
If we are unable to compete effectively, our revenue and market share will be
reduced.
We face competition from:
- companies in the network infrastructure market, including Cisco Systems,
Inc., Lucent Technologies, Inc., Nortel Networks Corporation, Alcatel,
Ericsson Business Networks AB and Siemens AG; and
- companies, including Cisco, that market products for installation on the
premises of network service providers' customers and which offer some
services that compete with the services delivered using our IP service
delivery platform.
We believe that there is likely to be consolidation in this industry. We
expect to face increased competition from larger companies with significantly
greater resources than we have.
Some of these larger competitors have pre-existing relationships involving
a range of product lines with the network service providers who are the
principal potential customers for our IP service delivery platform. These
competitors may offer vendor financing, which we do not offer, undercut our
prices or use their pre-existing relationships with our customers to induce them
not to use our IP service delivery platform.
25
29
IF ANY OF OUR SIGNIFICANT SUPPLIERS WERE TO TERMINATE THEIR RELATIONSHIPS WITH
US OR COMPETE AGAINST US, OUR REVENUE AND MARKET SHARE WILL LIKELY BE REDUCED.
Many of our suppliers also have significant development and marketing
relationships with our competitors and have significantly greater financial and
marketing resources than we do. If they develop and market products in the
future in competition with us, or form or strengthen arrangements with our
competitors, our revenue and market share will likely be reduced.
IF WE BECOME SUBJECT TO UNFAIR HIRING CLAIMS, WE COULD BE PREVENTED FROM HIRING
NEEDED PERSONNEL, OR FROM PURSUING OR IMPLEMENTING OUR RESEARCH, AND COULD INCUR
SUBSTANTIAL LIABILITIES OR COSTS.
Companies in our industry whose employees accept positions with competitors
frequently claim that these competitors have engaged in unfair hiring practices
or that the employment of these persons would involve the disclosure or use of
trade secrets. In June 2000, Ericsson Inc. filed a complaint against us, which
they subsequently agreed to withdraw, alleging that we misappropriated trade
secrets known to several employees who recently joined us from Ericsson. On
November 8, 2000, net.com filed a complaint against CoSine and two of its
employees in the Superior Court of the State of California, San Mateo County.
The complaint alleged, among other things, misappropriation of trade secrets
known to the two employees who had recently left net.com's employment, unfair
competition, and intentional interference with contractual relations.
We have been threatened with claims like these in the past and may receive
claims of these kind in the future. These claims could prevent us from hiring
personnel or from using the intellectual property alleged to be trade secrets
brought to us by the personnel that we hired. We could also incur substantial
costs and damages in defending ourselves or our employees against these claims,
regardless of their merits. Defending ourselves from these claims could divert
the attention of our management away from our operations.
IF OUR PRODUCTS DO NOT WORK THE WAY OUR CUSTOMERS EXPECT, ORDERS FOR OUR
PRODUCTS MAY BE CANCELLED AND THE MARKET PERCEPTION OF OUR PRODUCTS COULD BE
HARMED.
If our products do not work with our customers' or their end users'
networks, the market perception of our products could be harmed and orders for
our products could be cancelled. In particular, if an actual or perceived breach
of network security occurs in a customer's or its end-user's network that uses
our products, we may be subject to lawsuits for losses suffered by customers or
their end-users.
If we have to redesign or modify our products to make them compatible with
a customer's or end user's network, our sales cycle could be extended, our
research and development expenses may increase, and profit margins on our
products may be reduced.
BECAUSE THE MARKETS IN WHICH WE COMPETE ARE PRONE TO RAPID TECHNOLOGICAL CHANGE
AND THE ADOPTION OF STANDARDS DIFFERENT FROM THOSE THAT WE USE, OUR PRODUCTS
COULD BECOME OBSOLETE, AND WE COULD BE REQUIRED TO INCUR SUBSTANTIAL EXPENSES TO
MODIFY OUR PRODUCTS TO REMAIN COMPETITIVE.
The market for our IP service delivery platform is prone to rapid
technological change, the adoption of new standards, frequent new product
introductions and changes in customer and end user requirements. We may be
unable to respond quickly or effectively to these developments. We may
experience difficulties that could prevent our development of new products and
features. The introduction of new products or technologies by competitors, or
the emergence of new industry standards could render our products obsolete or
could require us to incur expenses to redesign our products.
WE RELY ON OUR INTELLECTUAL PROPERTY RIGHTS TO BE COMPETITIVE, AND IF WE ARE
UNABLE TO PROTECT THESE RIGHTS, WE MAY NEVER BECOME PROFITABLE.
We rely on a combination of copyright, trademark and trade secret laws and
restrictions on disclosure to protect our intellectual property rights.
Monitoring unauthorized use of our products is difficult, and we cannot be
certain that the steps we have taken will prevent unauthorized use of our
technology. If we are unable to
26
30
protect our intellectual property rights, our ability to supply our products as
they have been designed could suffer, and our ability to become profitable could
be harmed.
IF WE BECOME INVOLVED IN AN INTELLECTUAL PROPERTY DISPUTE, WE COULD BE SUBJECT
TO SIGNIFICANT LIABILITY, THE TIME AND ATTENTION OF OUR MANAGEMENT COULD BE
DIVERTED AND WE COULD BE PREVENTED FROM SELLING OUR PRODUCTS.
We may become a party to litigation in the future to protect our
intellectual property or because others may allege infringement of their
intellectual property. These claims and any resulting lawsuit could subject us
to significant liability for damages and invalidate our proprietary rights.
These lawsuits, regardless of their merits, likely would be time-consuming and
expensive to resolve and would divert management time and attention. Any
potential intellectual property litigation alleging our infringement of a
third-party's intellectual property also could force us to:
- stop selling our products or services that use the challenged
intellectual property;
- obtain from the owner of the infringed intellectual property right a
license to sell the relevant technology, which license may not be
available on reasonable terms, or at all; and
- redesign those products or services that use the infringed technology.
WE HAVE LIMITED EXPERIENCE MARKETING AND SELLING OUR PRODUCTS INTERNATIONALLY.
WE INTEND TO EXPAND OUR OPERATIONS INTERNATIONALLY, AND OUR OPERATING RESULTS
WILL SUFFER IF WE DO NOT GENERATE REVENUE FROM INTERNATIONAL OPERATIONS THAT
EXCEEDS THE COST OF ESTABLISHING AND MAINTAINING THE OPERATIONS.
We intend to enter new markets in Europe, Asia and Latin America. We have
limited experience in marketing and distributing our products internationally
and may be unable to develop international market demand for our products. If we
are unable to generate revenue from international operations that exceed the
cost of establishing and maintaining these operations, our operating results
will suffer.
The success of our international operations may be affected by:
- our ability to establish relationships with international distributors
who can effectively market and support our products; and
- difficulties inherent in developing versions of our products that comply
with local standards or regulatory requirements.
ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE SENSITIVITY
We do not currently use derivative financial instruments for speculative
trading or hedging purposes. In addition, we maintain our cash equivalents in
government and agency securities, debt instruments of financial institutions and
corporations and money market funds. Our exposure to market risks from changes
in interest rates relates primarily to corporate debt securities. We place our
investments with high credit quality issuers and, by policy, limit the amount of
the credit exposure to any one issuer.
Our general policy is to limit the risk of principal loss and ensure the
safety of invested funds by limiting market and credit risk. All highly liquid
investments with a maturity of less than three months at the date of purchase
are considered to be cash equivalents, and all investments with maturities of
three months or greater are classified as available-for-sale and considered to
be short-term investments.
EXCHANGE RATE SENSITIVITY
Currently, all of our sales and most of our expenses are denominated in
United States dollars. Therefore, we have not engaged in any foreign exchange
hedging activities to date. However, we expect to conduct transactions in
foreign currencies in increasing volumes in the future, and as a result we may
engage in foreign exchange hedging activities.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
27
31
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
CoSine Communications, Inc.
We have audited the accompanying consolidated balance sheets of CoSine
Communications, Inc. as of December 31, 2000 and 1999, and the related
consolidated statements of operations, redeemable convertible preferred stock
and stockholders' equity (net capital deficiency) and comprehensive loss, and
cash flows for each of the three years in the period ended December 31, 2000.
Our audits also included the financial statement schedule listed at Item 14(a).
These consolidated financial statements and schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the 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. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
CoSine Communications, Inc. at December 31, 2000 and 1999, and the consolidated
results of its operations and its cash flows for each of the three years in the
period ended December 31, 2000, in conformity with accounting principles
generally accepted in the United States. Also, in our opinion, the related
financial statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information stated therein.
/s/ Ernst & Young LLP
San Jose, California
January 26, 2001
28
32
STATEMENT OF MANAGEMENT RESPONSIBILITY
Cosine's management is responsible for the preparation, integrity and
objectivity of the consolidated financial statements and other financial
information presented in this report. The accompanying consolidated financial
statements have been prepared in conformity with accounting principles generally
accepted in the United States and reflect the effects of certain estimates and
judgments made by management.
Management maintains an effective system of internal control that is
designed to provide reasonable assurance that assets are safeguarded and
transactions are properly recorded and executed in accordance with management's
authorization. The system is continuously monitored by direct management review.
We select and train qualified people who are provided with and expected to
adhere to our standards of business conduct. These standards, which set forth
the highest principles of business ethics and conduct, are a key element of our
control system.
Our consolidated financial statements have been audited by Ernst & Young
LLP, independent accountants. Their audits were conducted in accordance with
auditing standards generally accepted in the United States, and included a
review of financial controls and tests of accounting records and procedures, as
they considered necessary in the circumstances.
The Audit Committee of the Board of Directors, which consists of outside
directors, meets regularly with management and the independent accountants to
review accounting, reporting and auditing and internal control matters. The
committee has direct and private access to the external auditors.
Dean Hamilton, Chairman, President and Craig Collins, Chief Financial Officer and
and Chief Executive Officer Executive Vice President
29
33
COSINE COMMUNICATIONS, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
ASSETS
DECEMBER 31, DECEMBER 31,
2000 1999
------------ ------------
Current assets:
Cash and cash equivalents................................. $ 126,139 $ 20,089
Short-term investments.................................... 162,143 34,497
Accounts receivable:
Trade (net of allowance for doubtful accounts of
$631).................................................. 6,093 --
Other................................................... 791 --
Inventory................................................. 10,634 327
Prepaid expenses and other current assets................. 14,174 1,820
--------- --------
Total current assets............................... 319,974 56,733
Property and equipment, net............................... 32,739 7,631
Other assets.............................................. 1,215 1,706
--------- --------
$ 353,928 $ 66,070
========= ========
LIABILITIES AND STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY)
Current liabilities:
Accounts payable.......................................... $ 7,134 $ 2,505
Provision for warranty claims............................. 3,741 --
Accrued other liabilities................................. 7,478 1,468
Accrued compensation...................................... 4,810 812
Note payable.............................................. 223 --
Deferred revenue.......................................... 7,643 30
Current portion of equipment and working capital loans.... 2,674 2,274
Current portion of obligations under capital lease........ 3,160 --
Other current liabilities................................. 84 60
--------- --------
Total current liabilities.......................... 36,947 7,149
Long-term portion of equipment and working capital loans.... 4,541 6,037
Long-term portion of obligations under capital lease........ 5,391 --
Accrued rent................................................ 2,154 1,648
Other long-term liabilities................................. 132 222
Commitments and contingencies
Redeemable convertible preferred stock:
Series B convertible preferred stock, $.0001 par value:
none and 13,578,649 shares authorized at December 31,
2000 and 1999, respectively; none and 12,884,205 shares
issued and outstanding at December 31, 2000 and 1999,
respectively............................................ -- 9,823
Series C convertible preferred stock, $.0001 par value:
none and 27,503,677 shares authorized at December 31,
2000 and 1999, respectively; none and 24,503,677 shares
issued and outstanding at December 31, 2000 and 1999,
respectively............................................ -- 22,342
Series D convertible preferred stock, $.0001 par value:
none and 20,500,000 shares authorized at December 31,
2000 and 1999, respectively; none and 17,118,253 shares
issued and outstanding at December 31, 2000 and 1999,
respectively............................................ -- 57,223
Stockholders' equity (net capital deficiency):
Series A convertible preferred stock, $.0001 par value:
none and 2,150,000 shares authorized at December 31,
2000 and 1999, respectively; none and 1,875,000 shares
issued and outstanding at December 31, 2000 and 1999,
respectively............................................ -- --
Preferred stock, 3,000,000 and none authorized at December
31, 2000 and 1999, respectively; none issued and
outstanding at December 31, 2000 and 1999
Common stock, $.0001 par value, 300,000,000 and
200,000,000 shares authorized at December 31, 2000 and
1999, respectively; 103,697,827 and 10,764,151 shares
issued and outstanding at December 31, 2000 and 1999,
respectively............................................ 10 1
Additional paid-in capital................................ 634,261 40,048
Notes receivable from stockholders........................ (36,521) (903)
Accumulated other comprehensive income.................... 2,286 11
Deferred compensation..................................... (92,002) (30,386)
Accumulated deficit....................................... (203,271) (47,145)
--------- --------
Total stockholders' equity (net capital
deficiency)...................................... 304,763 (38,374)
--------- --------
$ 353,928 $ 66,070
========= ========
See accompanying notes.
30
34
COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31,
------------------------------
2000 1999 1998
--------- -------- -------
Revenue..................................................... $ 31,107 $ -- $ --
Cost of goods sold(1)..................................... 23,926 -- --
--------- -------- -------
Gross profit................................................ 7,181 -- --
--------- -------- -------
Operating expenses:
Research and development(2)............................... 91,180 27,336 7,366
Sales and marketing(3).................................... 53,625 6,077 606
General and administrative(4)............................. 24,441 4,980 1,106
--------- -------- -------
Total operating expenses.......................... 169,246 38,393 9,078
--------- -------- -------
Loss from operations........................................ (162,065) (38,393) (9,078)
--------- -------- -------
Other income (expenses):
Interest income........................................... 8,060 1,250 55
Interest expense(5)....................................... (1,866) (599) (267)
Other..................................................... 9 21 (3)
--------- -------- -------
Total other income (expenses)..................... 6,203 672 (215)
--------- -------- -------
Loss before income tax provision............................ (155,862) (37,721) (9,293)
Income tax provision...................................... (264) -- --
--------- -------- -------
Net loss.................................................... (156,126) (37,721) (9,293)
Deemed dividend to series D preferred stockholders.......... (2,500) -- --
--------- -------- -------
Net loss allocable to common stockholders................... $(158,626) $(37,721) $(9,293)
========= ======== =======
Basic and diluted net loss per common share................. $ (5.23) $ (7.49) $ (4.53)
========= ======== =======
Shares used in computing basic and diluted net loss per
common share.............................................. 30,347 5,034 2,051
========= ======== =======
- ---------------
(1) Cost of goods sold includes $3,072 in 2000, $0 in 1999 and $0 in 1998 of
non-cash charges related to equity issuances.
(2) Research and development expenses include $34,726 in 2000, $2,248 in 1999
and $13 in 1998 of non-cash charges related to equity issuances.
(3) Sales and marketing expenses include $17,901 in 2000, $1,476 in 1999 and $5
in 1998 of non-cash charges related to equity issuances.
(4) General and administrative expenses include $12,928 in 2000 $714 in 1999 and
$0 in 1998 of non-cash charges related to equity issuances.
(5) Interest expense includes $137 in 2000, $47 in 1999 and $211 in 1998 of
non-cash charges related to equity issuances.
See accompanying notes.
31
35
COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK,
STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY) AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA)
REDEEMABLE NOTES ACCUMULATED
CONVERTIBLE ADDITIONAL RECEIVABLE OTHER
PREFERRED COMMON PAID-IN FROM COMPREHENSIVE DEFERRED
STOCK STOCK CAPITAL STOCKHOLDERS INCOME COMPENSATION
----------- ------ ---------- ------------ ------------- ------------
BALANCE AT DECEMBER 31, 1997......... $ -- $ 1 $ 2,500 $ (1,000) $ -- $ --
Issuance of 2,666,664 shares of
common stock to founders at $0.0375
per share for cash and notes....... 100 (80)
Issuance of 312,500 shares of series
A preferred stock to investors at
$1.60 per share, net of issuance
costs of $11....................... 489
Issuance of 12,884,205 shares of
series B preferred stock to
investors at $0.738 per share, net
of issuance costs of $37........... 9,471
Issuance of warrants to purchase
43,067 shares of common stock in
connection with services........... 5
Issuance of warrants to purchase
159,105 shares of series A
preferred stock in connection with
lease of building.................. 371
Issuance of warrants to purchase
694,444 shares of series B
preferred stock in connection with
loan financing..................... 352
Repayment of notes receivable from
stockholders....................... 1,000
Net loss and comprehensive loss......
BALANCE AT DECEMBER 31, 1998......... 9,823 1 3,465 (80) -- --
Issuance of 73,667 shares of common
stock for services at various dates
at prices ranging from $0.545 to
$2.60 per share.................... 163
Issuance of 24,503,677 shares of
series C preferred stock to
investors at $0.897 per share, net
of issuance costs of $29........... 21,950
Issuance of 17,118,253 shares of
series D preferred stock to
investors at $3.505 per share, net
of issuance costs of $3,079........ 56,921
Issuance of warrants to purchase
641,904 shares of series C
preferred stock for technical,
marketing and market-related
product development services....... 392
Issuance of warrants to purchase
154,064 shares of series D
preferred stock in connection with
services........................... 302
Issuance of 4,023,820 shares of
common stock in connection with
stock options for cash and
promissory notes................... 1,603 (873)
Increase in value of variable award
warrants of series A preferred
stock issued in connection with
lease of building.................. 396
Increase in value of variable award
warrants of common stock issued in
connection with services........... 255
Repayment of notes receivable from
stockholders....................... 50
Deferred stock-based compensation.... 33,955 (33,955)
Amortization of deferred stock-based
compensation....................... 3,569
Issuance of options to non-employees
to purchase common stock........... 211
TOTAL
STOCKHOLDERS'
EQUITY (NET
ACCUMULATED CAPITAL
DEFICIT DEFICIENCY)
----------- -------------
BALANCE AT DECEMBER 31, 1997......... $ (131) $ 1,370
Issuance of 2,666,664 shares of
common stock to founders at $0.0375
per share for cash and notes....... 20
Issuance of 312,500 shares of series
A preferred stock to investors at
$1.60 per share, net of issuance
costs of $11....................... 489
Issuance of 12,884,205 shares of
series B preferred stock to
investors at $0.738 per share, net
of issuance costs of $37........... --
Issuance of warrants to purchase
43,067 shares of common stock in
connection with services........... 5
Issuance of warrants to purchase
159,105 shares of series A
preferred stock in connection with
lease of building.................. 371
Issuance of warrants to purchase
694,444 shares of series B
preferred stock in connection with
loan financing..................... --
Repayment of notes receivable from
stockholders....................... 1,000
Net loss and comprehensive loss...... (9,293) (9,293)
BALANCE AT DECEMBER 31, 1998......... (9,424) (6,038)
Issuance of 73,667 shares of common
stock for services at various dates
at prices ranging from $0.545 to
$2.60 per share.................... 163
Issuance of 24,503,677 shares of
series C preferred stock to
investors at $0.897 per share, net
of issuance costs of $29........... --
Issuance of 17,118,253 shares of
series D preferred stock to
investors at $3.505 per share, net
of issuance costs of $3,079........ --
Issuance of warrants to purchase
641,904 shares of series C
preferred stock for technical,
marketing and market-related
product development services....... --
Issuance of warrants to purchase
154,064 shares of series D
preferred stock in connection with
services........................... --
Issuance of 4,023,820 shares of
common stock in connection with
stock options for cash and
promissory notes................... 730
Increase in value of variable award
warrants of series A preferred
stock issued in connection with
lease of building.................. 396
Increase in value of variable award
warrants of common stock issued in
connection with services........... 255
Repayment of notes receivable from
stockholders....................... 50
Deferred stock-based compensation.... --
Amortization of deferred stock-based
compensation....................... 3,569
Issuance of options to non-employees
to purchase common stock........... 211
32
36
COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK,
STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY) AND COMPREHENSIVE LOSS (CONTINUED)
(IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA)
REDEEMABLE NOTES ACCUMULATED
CONVERTIBLE ADDITIONAL RECEIVABLE OTHER
PREFERRED COMMON PAID-IN FROM COMPREHENSIVE DEFERRED
STOCK STOCK CAPITAL STOCKHOLDERS INCOME COMPENSATION
----------- ------ ---------- ------------ ------------- ------------
Components of comprehensive loss:
Net loss...........................
Unrealized gains on investments.... 11
------
Total comprehensive loss..... 11
--------- --- -------- -------- ------ ---------
BALANCE AT DECEMBER 31, 1999......... 89,388 1 40,048 (903) 11 (30,386)
Issuance of 19,202 shares of common
stock for services at $4.00 and
$9.50 per share.................... 96
Issuance of warrants to purchase
1,233,499 shares of series C
preferred stock to a customer upon
issuance of a purchase order....... 10,300
Issuance of warrants to purchase
668,849 shares of common stock to
customers upon issuance of purchase
orders............................. 5,952
Issuance of warrants to purchase
37,500 shares of common stock in
connection with lease agreement.... 357
Issuance of 625,000 shares of series
D preferred stock to investors at
$8.00 per share, net of issuance
costs of $39....................... 4,961
Issuance of 4,666,667 shares of
series E preferred stock to
investors at $15.00 per share, net
of issuance costs of $5............ 69,995
Issuance of 11,061,129 shares of
common stock in connection with
stock options for cash and notes... 1 37,755 (35,847)
Increase in value of variable award
warrants of common stock in
connection with services........... 429
Exercise of warrants to purchase
159,105 shares of series A
convertible preferred stock........ 10
Conversion of 159,105 shares of
series A convertible preferred
stock into 636,420 shares of common
stock..............................
Exercise of warrants to purchase
304,878 shares of series B
convertible preferred stock........ 226
Exercise of warrants to purchase
1,875,403 shares of series C
convertible preferred stock........ 1,700
Exercise of warrants to purchase
154,064 shares of series D
convertible preferred stock........ 540
Exercise of warrants to purchase
325,956 shares of common stock..... 806
Automatic conversion of 69,632,147
shares of series A through E
convertible preferred stock in
connection with the initial public
offering........................... (177,110) 7 177,103
TOTAL
STOCKHOLDERS'
EQUITY (NET
ACCUMULATED CAPITAL
DEFICIT DEFICIENCY)
----------- -------------
Components of comprehensive loss:
Net loss........................... (37,721) (37,721)
Unrealized gains on investments.... 11
--------- ---------
Total comprehensive loss..... (37,721) (37,710)
--------- ---------
BALANCE AT DECEMBER 31, 1999......... (47,145) (38,374)
Issuance of 19,202 shares of common
stock for services at $4.00 and
$9.50 per share.................... 96
Issuance of warrants to purchase
1,233,499 shares of series C
preferred stock to a customer upon
issuance of a purchase order....... --
Issuance of warrants to purchase
668,849 shares of common stock to
customers upon issuance of purchase
orders............................. 5,952
Issuance of warrants to purchase
37,500 shares of common stock in
connection with lease agreement.... 357
Issuance of 625,000 shares of series
D preferred stock to investors at
$8.00 per share, net of issuance
costs of $39....................... --
Issuance of 4,666,667 shares of
series E preferred stock to
investors at $15.00 per share, net
of issuance costs of $5............ --
Issuance of 11,061,129 shares of
common stock in connection with
stock options for cash and notes... 1,909
Increase in value of variable award
warrants of common stock in
connection with services........... 429
Exercise of warrants to purchase
159,105 shares of series A
convertible preferred stock........ 10
Conversion of 159,105 shares of
series A convertible preferred
stock into 636,420 shares of common
stock.............................. --
Exercise of warrants to purchase
304,878 shares of series B
convertible preferred stock........ --
Exercise of warrants to purchase
1,875,403 shares of series C
convertible preferred stock........ --
Exercise of warrants to purchase
154,064 shares of series D
convertible preferred stock........ --
Exercise of warrants to purchase
325,956 shares of common stock..... 806
Automatic conversion of 69,632,147
shares of series A through E
convertible preferred stock in
connection with the initial public
offering........................... 177,110
33
37
COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK,
STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY) AND COMPREHENSIVE LOSS (CONTINUED)
(IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA)
REDEEMABLE NOTES ACCUMULATED
CONVERTIBLE ADDITIONAL RECEIVABLE OTHER
PREFERRED COMMON PAID-IN FROM COMPREHENSIVE DEFERRED
STOCK STOCK CAPITAL STOCKHOLDERS INCOME COMPENSATION
----------- ------ ---------- ------------ ------------- ------------
Issuance of 11,500,000 shares of
common stock at $23 per share, net
of underwriting discounts of
$18,500 and issuance costs of
$3,514 in connection with initial
public offering.................... 1 242,470
Repayment of notes receivable from
stockholders....................... 98
Deferred stock-based compensation.... 121,396 (121,396)
Amortization of deferred stock-based
compensation....................... 59,780
Issuance and remeasurement of options
to non-employees to purchase common
stock.............................. 8,035
Repurchase of 241,178 unvested
shares............................. (196) 131
Components of comprehensive loss:
Net loss...........................
Unrealized gains on
investments.................... 2,327
Translation adjustment............. (52)
------
Total comprehensive loss..... 2,275
--------- --- -------- -------- ------ ---------
BALANCE AT DECEMBER 31, 2000......... $ -- $10 $634,261 $(36,521) $2,286 $ (92,002)
========= === ======== ======== ====== =========
TOTAL
STOCKHOLDERS'
EQUITY (NET
ACCUMULATED CAPITAL
DEFICIT DEFICIENCY)
----------- -------------
Issuance of 11,500,000 shares of
common stock at $23 per share, net
of underwriting discounts of
$18,500 and issuance costs of
$3,514 in connection with initial
public offering.................... 242,471
Repayment of notes receivable from
stockholders....................... 98
Deferred stock-based compensation.... --
Amortization of deferred stock-based
compensation....................... 59,780
Issuance and remeasurement of options
to non-employees to purchase common
stock.............................. 8,035
Repurchase of 241,178 unvested
shares............................. (65)
Components of comprehensive loss:
Net loss........................... (156,126) (156,126)
Unrealized gains on
investments.................... 2,327
Translation adjustment............. (52)
--------- ---------
Total comprehensive loss..... (156,126) (153,851)
--------- ---------
BALANCE AT DECEMBER 31, 2000......... $(203,271) $ 304,763
========= =========
See accompanying notes.
34
38
COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEARS ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
--------- -------- -------
OPERATING ACTIVITIES:
Net loss.................................................... $(156,126) $(37,721) $(9,293)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation.............................................. 16,872 1,921 284
Non-cash warrant expense -- preferred stock............... 9,043 511 227
Non-cash warrant expense -- common stock.................. 2,327 29 --
Common stock issued for services.......................... 96 163 --
Amortization of deferred stock compensation............... 59,780 3,569 --
Non-cash charges on options granted to acquire goods and
services................................................ 8,029 -- --
Issuance of options to purchase common stock.............. -- 211 --
Accrued expense on bridge note converted into preferred
stock................................................... -- -- 9
Changes in unrealized gains or losses..................... 2,327 11 --
Cumulative translation adjustment......................... (52) -- --
Change in operating assets and liabilities:
Accounts receivable (trade)............................. (6,093) -- --
Other receivables....................................... (791) -- --
Inventory............................................... (10,307) 343 (670)
Prepaid expenses and other current assets............... (8,420) (1,437) (169)
Other assets............................................ 491 (504) (302)
Accounts payable........................................ 4,629 (335) 2,767
Accrued liabilities..................................... 9,751 738 730
Accrued compensation.................................... 3,998 691 121
Note payable............................................ 223 (201) 201
Deferred revenue........................................ 9,353 -- --
Deferred rent........................................... 506 886 762
Other liabilities....................................... (66) 312 --
--------- -------- -------
Net cash used in operating activities....................... (54,430) (30,813) (5,333)
--------- -------- -------
INVESTING ACTIVITIES:
Capital expenditures........................................ (41,980) (6,785) (3,019)
Purchase of short-term investments.......................... (182,494) (34,497) --
Proceeds from maturities of short-term investments.......... 46,627 -- --
Proceeds from sales of short-term investments............... 8,221 -- --
--------- -------- -------
Net cash used in investing activities....................... (169,626) (41,282) (3,019)
--------- -------- -------
FINANCING ACTIVITIES:
Proceeds from equipment and working capital loans and
capital leases............................................ 11,482 7,001 2,853
Principal payments of equipment and working capital loans
and capital leases........................................ (4,027) (1,350) (193)
Proceeds from issuance of bridge loans...................... -- -- 1,500
Proceeds from issuance of preferred stock, net.............. 77,432 79,173 8,451
Proceeds from issuance of common stock, net................. 245,121 730 20
Proceeds from notes receivable from stockholders............ 98 50 1,000
--------- -------- -------
Net cash provided by financing activities................... 330,106 85,604 13,631
--------- -------- -------
Net increase in cash and cash equivalents................... 106,050 13,509 5,279
Cash and cash equivalents at the beginning of the period.... 20,089 6,580 1,301
--------- -------- -------
Cash and cash equivalents at the end of the period.......... $ 126,139 $ 20,089 $ 6,580
========= ======== =======
SUPPLEMENTAL INFORMATION:
Cash paid for interest...................................... $ 1,729 $ 552 $ 56
--------- -------- -------
Capital lease obligations incurred.......................... $ 9,996 -- --
--------- -------- -------
Conversion of redeemable convertible preferred stock........ $ 177,120 -- --
--------- -------- -------
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING
ACTIVITIES:
Issuance of preferred stock in exchange for bridge loans.... -- -- $ 1,500
--------- -------- -------
Issuance and remeasurement of warrants...................... $ 17,038 $ 1,345 $ 728
--------- -------- -------
Notes receivable received from stockholders (in exchange for
issuance of common stock)................................. $ 35,847 $ 873 $ 80
--------- -------- -------
See accompanying notes.
35
39
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Business
CoSine Communications, Inc. (CoSine) was incorporated in California on
April 14, 1997 and in August 2000 was reincorporated in the State of Delaware.
CoSine is engaged in the development of network-based, high-performance Internet
service delivery platforms for the global business Internet Protocol Service
Provider market. Since inception and through the first quarter of 2000, CoSine's
principal activities had been recruiting personnel, raising capital and
developing product. Accordingly, CoSine was classified as a development stage
enterprise at December 31, 1999. During the first quarter of 2000, CoSine began
shipping product and recognizing revenue, and therefore ceased to be classified
as a development stage enterprise.
Initial Public Offering
In September 2000, CoSine completed its initial public offering in which it
sold 11,500,000 shares of common stock, including 1,500,000 shares upon the
exercise of the underwriters' over-allotment option, at $23 per share. The net
proceeds of the initial public offering, after deducting the underwriters'
discount and other offering expenses, were approximately $242,471,000. Upon the
completion of the initial public offering all outstanding convertible preferred
stock converted into an aggregate of 69,632,147 shares of common stock. Prior to
the initial public offering, there were warrants for 2,582,412 shares of
preferred and common stock that were subject to cashless automatic exercise upon
the initial public offering; however, all of these warrants were exercised in
cash for approximately $3,514,000 prior to the initial public offering.
Subsequent to the initial public offering, CoSine's authorized capital consisted
of 300,000,000 shares of common stock, $0.0001 par value, and 3,000,000 shares
of preferred stock, $.0001 par value.
Basis of Presentation
The consolidated financial statements include all of the accounts of CoSine
and its wholly owned subsidiaries. All significant intercompany balances and
transactions have been eliminated.
Fiscal Year End
CoSine's fiscal year end is December 31.
Use of Estimates
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements and the accompanying notes. Actual results
could differ from these estimates.
Impairment of Long-Lived Assets
In accordance with the provisions of Statement of Financial Accounting
Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of," (SFAS 121), CoSine reviews long-lived
assets, including property and equipment, for impairment whenever events or
changes in business circumstances indicate that the carrying amount of the
assets may not be fully recoverable. Under SFAS 121, an impairment loss would be
recognized when estimated undiscounted future cash flows expected to result from
the use of the asset and its eventual disposition are less than the asset's
carrying amount. Impairment, if any, is assessed using discounted cash flows.
Through December 31, 2000, Cosine has not recognized any impairment losses.
36
40
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Significant Concentrations
Financial instruments that potentially subject CoSine to concentrations of
credit risk primarily consist of cash equivalents and short-term investments.
CoSine mitigates investment risk by investing only in government and high
quality corporate securities and by limiting the amount of exposure to any one
issuer.
CoSine relies on a few companies as the sole source of various materials in
the production process. CoSine also utilizes third-party subcontractors to
manufacture its product. If these suppliers were unable to satisfy the material
and production requirements, CoSine may be unable to meet customer demand.
For the year ended December 31, 2000, CoSine had three customers that
accounted for 41%, 35% and 19% of total revenue. At December 31, 2000, CoSine
had four customers which accounted for 36%, 20%, 16% and 12% of total accounts
receivable.
Cash, Cash Equivalents and Short-Term Investments
CoSine considers all highly liquid investments purchased with original
maturities of three months or less from the date of purchase to be cash
equivalents. Investments with maturities in excess of three months and less than
one year are considered to be short-term investments. Management determines the
appropriate classification of cash equivalents and investment securities at the
time of purchase and reevaluates the determination as of each balance sheet
date. Management has classified CoSine's marketable securities as
available-for-sale securities in the accompanying consolidated financial
statements. Available-for-sale securities are carried at fair value, with
unrealized gains and losses reported in a separate component of stockholders'
equity. Realized gains and losses and declines in value judged to be
other-than-temporary on available-for-sale securities are included in interest
income. Interest on securities classified as available-for-sale is also included
in interest income. The cost of securities sold is based on the specific
identification method.
CoSine invests excess cash in U.S. government and agency securities, debt
instruments of financial institutions and corporations, and money market funds
with strong credit ratings. CoSine has established guidelines about the
diversification of its investments and their maturities which should maintain
safety and liquidity.
Short-term investments at each year end, including cash equivalents and
short-term investments, were as follows: (in thousands)
2000 1999
--------- --------
Money market funds.................................... $ 84,485 $ 11,448
Commercial paper...................................... 132,495 17,751
Corporate bonds....................................... 63,040 24,670
--------- --------
280,020 53,869
Amounts classified as cash equivalents................ (117,877) (19,372)
--------- --------
$ 162,143 $ 34,497
========= ========
As of December 31, 2000 and 1999, the fair value approximated the amortized
cost of available-for-sale securities. All available-for-sale securities have
contractual maturities of one year or less.
37
41
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Inventories
Net inventories at each year end, stated at the lower of cost (first-in,
first-out) or market, consisted of the following: (in thousands)
2000 1999
------- ----
Raw materials.............................................. $ 832 $327
Semi-finished goods........................................ 7,554 --
Finished goods............................................. 2,248 --
------- ----
$10,634 $327
======= ====
Included in net finished goods inventory at December 31, 2000 was $415,000
of goods awaiting customer acceptance. Included in net semi-finished goods was
$1,158,000 of goods used for customer evaluation purposes.
Property and Equipment
Property and equipment are stated at cost, net of accumulated depreciation.
Property and equipment are depreciated using the straight-line method over
estimated useful lives of the assets (ranging from three to five years) or the
related lease term.
Property and equipment at each year end consisted of the following: (in
thousands)
2000 1999
------- -------
Computer equipment....................................... $10,651 $ 2,175
Furniture and fixtures................................... 2,592 1,069
Leasehold improvements................................... 2,287 364
Computer software........................................ 5,691 2,002
Manufacturing and laboratory equipment................... 30,597 4,228
------- -------
51,818 9,838
Accumulated depreciation................................. (19,079) (2,207)
------- -------
$32,739 $ 7,631
======= =======
Stock-Based Compensation
CoSine accounts for employee and director stock option grants using the
intrinsic value method in accordance with Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees," (APB 25) and related
interpretations as described in FASB Interpretation No. 44 "Accounting for
Certain Transactions involving Stock Compensation," (FIN 44). The fair value
disclosures required by Statement of Financial Accounting Standards Board
Statement No. 123, "Accounting for Stock-Based Compensation," (SFAS 123) are
included in Note 6. SFAS 123 requires the disclosure of pro forma information
regarding net loss and net loss per share as if CoSine had accounted for its
stock options under the fair value method.
In connection with CoSine's initial public offering, the fair value of its
common stock was reevaluated and deferred stock compensation for option grants
to employees was recorded, representing the difference between the fair value of
the common stock for financial reporting purposes and the exercise price of the
underlying options. Cosine is also required to remeasure the value of unvested
shares issued upon exercise of unvested employee stock options for full recourse
promissory notes that were converted to non-recourse obligations. The amount of
deferred stock-based compensation is amortized over the vesting period of the
individual options, using the graded vesting method.
38
42
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Stock options granted to non-employees are accounted for in accordance with
SFAS 123 and the Emerging Issues Task Force Consensus No. 96-18, "Accounting for
Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services" which requires the value of such
options to be periodically remeasured as they vest over a performance period.
The fair value of such options is determined using the Black-Scholes model.
Revenue Recognition
CoSine recognizes product revenue at the time of shipment, assuming that
persuasive evidence of an arrangement exists, the sales price is fixed or
determinable and collectibility is probable, unless CoSine has future
obligations for installation or require customer acceptance, in which case
revenue is deferred until these obligations are met. CoSine's product
incorporates software that is not incidental to the related hardware and,
accordingly, CoSine recognizes revenue in accordance with the American Institute
of Certified Public Accountants issued Statement of Position 97-2 "Software
Revenue Recognition." For arrangements that include the delivery of multiple
products, the revenue is allocated to the various products based on "vendor-
specific objective evidence of fair value" (VSOE). CoSine establishes VSOE based
on either the price charged for the product when the same product is sold
separately or for products not yet sold separately, based on the list prices of
such products individually established by management with the relevant authority
to do so. Revenue from post-contract support obligations for specified future
periods is deferred and recognized on a straight-line basis over the service
period. Revenue from consulting services is recognized as the services are
provided. Amounts billed in excess of revenue recognized are included as
deferred revenue in the accompanying consolidated balance sheets.
During 2000, CoSine issued warrants to its initial customers. The warrants
were issued upon receipt of substantial purchase orders that were preceded by a
period of cooperation with CoSine in the marketing, development and refinement
of its product. The fair value of these customer-related warrants was calculated
to be $16,252,000. For the year ended December 31, 2000, $10,511,000 was
recognized as an offset to receipts from sales, including equity issued in
connection with sales in the determination of revenue. The remaining $5,741,000,
which is netted against deferred revenue or included in other current assets,
will be amortized in future periods as an offset to receipts from sales,
including equity issued in connection with sales to the extent of and as the
revenue associated with these orders is recognized. One of CoSine's initial
customers was provided limited price protection rights that expired unexercised
in October 2000.
Below is a reconciliation of revenue for the year ended December 31, 2000
as presented in the statement of operations to show the separate components as
indicated: (in thousands)
Receipts from sales, including equity issued in connection
with sales................................................ $41,618
Less: Receipts for equity issued in connection with sales... 10,511
-------
Revenue..................................................... $31,107
=======
Cost of Goods Sold
Cost of goods sold is comprised primarily of material, labor, overhead and
estimated warranty reserves. In addition, cost of goods sold includes non-cash
stock based expense arising from the issuance to suppliers of options to
purchase common stock.
Provision for Warranty Claims
The warranty period for CoSine's product is generally outlined in the
specific sales agreements. Estimated expenses for warranty obligations are
accrued as revenue is recognized and included in cost of goods sold.
39
43
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Research and Development
Research and development expenditures, consisting primarily of materials,
labor and overhead costs for the development and testing of prototypes and
salaries and related personnel costs associated with independent research, are
generally charged to operations as incurred.
Statement of Financial Accounting Standards No. 86, "Accounting for the
Costs of Computer Software to be Sold, Leased or Otherwise Marketed," requires
the capitalization of certain software development costs subsequent to the
establishment of technological feasibility. Based on CoSine's product
development process, technological feasibility is established upon the
completion of a working model. Through December 31, 2000, capitalizable costs
incurred after achieving technological feasibility have not been significant for
any development project. Accordingly, CoSine has charged all costs to research
and development expense in the periods they were incurred.
Advertising Expense
Advertising costs are expensed as incurred and amounted to $532,000 for the
year ended December 31, 2000, and were immaterial in prior years.
Net Loss Per Common Share
Basic net loss per common share is calculated based on the weighted-average
number of common shares outstanding during the periods presented, less the
weighted-average shares outstanding which are subject to CoSine's right of
repurchase. Diluted net loss per common share would give effect to the dilutive
effect of common stock equivalents consisting of convertible preferred stock,
stock options and warrants (calculated using the treasury stock method).
Potentially dilutive securities have been excluded from the diluted net loss per
common share computations, as their inclusion would be antidilutive.
The following table presents the calculation of basic and diluted net loss
per share for each year end: (in thousands, except per share data)
2000 1999 1998
--------- -------- -------
Net loss allocable to common
stockholders............................. $(158,626) $(37,721) $(9,293)
Basic and diluted:
Weighted-average shares of common stock
outstanding........................... 40,382 7,659 6,151
Less: weighted-average shares subject to
repurchase............................... (10,035) (2,625) (4,100)
--------- -------- -------
Weighted-average shares used in basic and
diluted net loss per common share..... 30,347 5,034 2,051
========= ======== =======
Basic and diluted net loss per common
share.................................... $ (5.23) $ (7.49) $ (4.53)
========= ======== =======
During all periods presented, CoSine had securities outstanding that could
potentially dilute earnings per share in the future, but were excluded from the
computation of diluted net loss per common share, as their effect would have
been antidilutive. These shares amounted to 14,378,000, 74,938,000 and
24,376,000 for the years ended December 31, 2000, 1999 and 1998, respectively.
Segment Reporting
Effective January 1, 1998, CoSine adopted Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information," (SFAS 131). SFAS 131 establishes annual and interim reporting
standards for an enterprise's operating segments and related disclosures about
its
40
44
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
products, services, geographic areas and major customers. CoSine has determined
that it operates in only one segment. Substantially all of CoSine's assets are
located in the United States.
Revenues from customers by geographic region were as follows: (in
thousands)
RECEIPTS FROM SALES, RECEIPTS FOR EQUITY
INCLUDING EQUITY ISSUED IN ISSUED IN CONNECTION
CONNECTION WITH SALES WITH SALES REVENUE
REGION -------------------------- -------------------- -------
Europe.......................... $14,608 $ 1,296 $13,312
Japan........................... 7,787 -- 7,787
United States................... 19,223 9,215 10,008
------- ------- -------
Total................. $41,618 $10,511 $31,107
======= ======= =======
Recent Accounting Pronouncements
In March 2000, the Emerging Issues Task Force reached a consensus on Issue
00-2, "Accounting for the Costs of Developing a Web Site," (EITF 00-2). EITF
00-2 is effective for costs incurred after June 30, 2000. In general, EITF 00-2
states that the costs of developing a web site should be accounted for under
provisions of Statement of Position 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use." The adoption of EITF 00-2 does
not have a significant impact on CoSine's financial position, results of
operations or cash flows. While CoSine maintains a website, it is not a
significant focus of its business.
In March 2000, the Financial Accounting Standards Board issued FASB
Interpretation No. 44 "Accounting for Certain Transactions involving Stock
Compensation," (FIN 44). FIN 44 provides guidance for certain issues arising in
the application of APB Opinion No. 25 "Accounting for Stock Issued to
Employees." CoSine believes that its accounting policy for stock issued to
employees is in compliance with FIN 44.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements." The
bulletin summarized some of the commission's views in applying generally
accepted accounting principles to revenue recognition in financial statements.
CoSine believes its revenue recognition policy complies with this bulletin.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Financial
Instruments and for Hedging Activities," (SFAS 133) which provides a
comprehensive and consistent standard for the recognition and measurement of
derivatives and hedging activities. SFAS 133 is effective for fiscal years
beginning after June 15, 2000. CoSine does not currently hold any derivative
financial instruments or engage in hedging activities. Adoption of SFAS 133 is
not expected to have a material impact on CoSine's financial position or results
of operations. CoSine will adopt SFAS 133 in the first quarter of 2001,
effective January 1, 2001.
2. EQUIPMENT AND WORKING CAPITAL LOANS
CoSine has entered into equipment and working capital loan agreements
totaling $1,486,000 and $9,854,000 at December 31, 2000 and 1999, respectively
that are secured by the assets purchased using the loans. Principal and interest
are due in monthly installments through 2004. Interest accrues at annual rates
between 12.9% and 14.3%. As of December 31, 2000 and 1999, total principal
payments due under these agreements were $7,215,000 and $8,311,000,
respectively. The fair value of the loans is estimated based on current interest
rates available to CoSine for debt instruments with similar terms, degrees of
risk and remaining maturities. The carrying value of the loans approximates
their fair value.
41
45
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Future minimum payments under equipment and working capital loans at
December 31, 2000 are as follows: (in thousands)
2001........................................................ $ 3,462
2002........................................................ 2,985
2003........................................................ 2,028
2004........................................................ 133
-------
Total minimum payments...................................... 8,608
Amount representing interest................................ (1,393)
-------
Total principal............................................. 7,215
Current portion............................................. (2,674)
-------
Long-term portion......................................... $ 4,541
=======
3. LEASES
CoSine entered into various capital leases under sale and leaseback
agreements to finance the purchase of computer and other equipment. Capitalized
costs of $9,996,000 and accumulated amortization of $1,655,000 are included in
property and equipment at December 31, 2000. CoSine leases its facilities under
operating leases, with terms ranging from August 1, 1998 through July 31, 2011.
Future minimum payments for all leases and the present value of the net
minimum lease payments for capital leases are as follows: (in thousands)
CAPITAL OPERATING
LEASES LEASES
------- ---------
2001..................................................... $ 3,865 $ 6,929
2002..................................................... 3,865 4,898
2003..................................................... 1,964 4,359
2004..................................................... -- 4,475
2005..................................................... -- 4,570
Later years.............................................. -- 47,356
------- -------
Total minimum lease payments............................. 9,694 $72,587
=======
Amount representing interest............................. (1,143)
-------
Present value of net minimum lease payments.............. 8,551
Current portion.......................................... (3,160)
-------
Long-term portion...................................... $ 5,391
=======
Rent expense was $7,259,000, $2,093,000 and $1,045,000 for the years ended
December 31, 2000, 1999 and 1998, respectively, and is calculated on a
straight-line basis.
CoSine subleases a portion of the space at its facility. Rental income
relating to the sublease was $719,000, $323,000 and $13,000 for the years ended
December 31, 2000, 1999 and 1998, respectively. The sublease arrangements, which
expire on June 30, 2001, provide for income of $301,000 in 2001.
In connection with its facility lease, CoSine has issued a
non-interest-bearing promissory note due January 2001 for approximately $222,000
relating to a security deposit, which is included in note payable and other
long-term liabilities at December 31, 2000 and 1999, respectively.
42
46
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. COMMITMENTS AND CONTINGENCIES
As of December 31, 2000 and 1999, CoSine had commitments of approximately
$9,543,000 and $6,067,000, respectively, relating to purchases of raw material
components. As of December 31, 1999, there was $3,813,000 relating to the
minimum amount of royalties payable on software licenses on future product sales
regardless of the amount of these sales. There was no remaining obligation as of
December 31, 2000. If sales levels exceed a minimum threshold, CoSine must pay
additional royalties under these contracts.
On September 25, 2000, a technology company had initiated correspondence
with CoSine asserting that CoSine had used that company's patented technology
without a licensing arrangement. Management believes that the claim does not
have any merit.
On November 8, 2000, net.com filed a complaint against CoSine and two of
its employees in the Superior Court of the State of California, San Mateo
County. The complaint alleged, among other things, misappropriation of trade
secrets known to the two employees who had recently left net.com's employment,
unfair competition, and intentional interference with contractual relations. The
complaint seeks unspecified monetary damages, double and punitive damages and
attorney's fees. The parties are currently in settlement discussions.
5. 401(k) PLAN
CoSine has a defined contribution benefit plan established under the
provisions of section 401(k) of the Internal Revenue Code. All employees may
elect to contribute up to 20% of their compensation to the plan through salary
deferrals, subject to IRS limits. CoSine may contribute a discretionary matching
contribution. Since inception CoSine made no matching contributions to the plan.
6. REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (NET CAPITAL
DEFICIENCY)
Prior to September 29, 2000, CoSine had convertible preferred stock that
consisted of (i) series A convertible preferred stock and (ii) series B, C, D
and E redeemable convertible preferred stock, collectively referred to as
"preferred stock." On September 29, 2000, the closing of CoSine's initial public
offering, all shares of preferred stock were automatically converted into
69,632,147 shares of common stock. The following is a description of the
preferred stock prior to conversion. Following the initial public offering
3,000,000 shares of preferred stock were authorized and unissued.
Convertible Preferred Stock
Series A
Series A convertible preferred stock ranked senior to CoSine's common stock
and junior to the series B, C and D preferred stock as to liquidation
preference. Series A convertible preferred stock had a liquidation preference of
$1.60 per share, plus any accrued dividends.
Each share of series A convertible preferred stock was, at the option of
the holder, convertible into common stock as determined by dividing the original
issue price by a conversion price of $0.40 (subject to adjustment). The
outstanding shares of series A convertible preferred stock would automatically
be converted into common stock immediately before the closing of an underwritten
public offering of common stock in which CoSine received at least $15,000,000 in
gross proceeds, and the price per share was at least $5.00 per share, or at the
election of the holders of a majority of the then outstanding shares of series A
convertible preferred stock.
Series A convertible preferred stock was not redeemable by CoSine. The
series A convertible preferred stockholders had voting rights equal to the
common shares issuable upon conversion. In addition, the holders
43
47
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
of series A convertible preferred stock, voting together as a class, were
entitled to elect one member of CoSine's board of directors (as long as 500,000
shares of the class were outstanding).
Series A convertible preferred stock ranked senior to the common stock as
to dividends. Each fiscal year, series A convertible stockholders were entitled
to cumulative dividends of $0.16 per share. Dividends could have been paid only
when declared by the board of directors, out of legally available funds. No
dividends were declared.
Redeemable Convertible Preferred Stock
Series B
Series B convertible preferred stock ranked senior to the series A
preferred stock and pari passu with the series C, D and E preferred stock as to
liquidation preference. Series B convertible preferred stock had a liquidation
preference of $0.738 per share, plus any accrued dividends. The aggregate per
share liquidation amount for the holders of series B convertible preferred stock
could not have exceeded $2.50.
Each share of series B convertible preferred stock was, at the option of
the holder, convertible into common stock as determined by dividing the original
issue price by a conversion price of $0.738 (subject to adjustment). The
outstanding shares of series B convertible preferred stock would automatically
be converted into common stock immediately before the closing of an underwritten
public offering of common stock in which CoSine received at least $15,000,000 in
gross proceeds, and the price per share was at least $5.00 per share, or at the
election of the holders of a majority of the then outstanding shares of series B
convertible preferred stock.
If at any time within the 90 day period following November 23, 2003, CoSine
received a written request from the holders of not less than 67% of the then
outstanding series B, C, D and E convertible preferred stock, requesting
redemption of all or a portion of their series B, C, D and E convertible
preferred stock, CoSine would have been required to redeem pro rata to their
respective requests for redemption one-third of each of the series B, C, D and E
convertible preferred stock requested to be redeemed, and would have been
required to redeem the series B, C, D and E convertible preferred stock
remaining outstanding after this redemption pro rata to the respective number of
shares of each then outstanding, in two equal installments on November 23, 2004
and November 23, 2005. CoSine would have been required to pay in cash for series
B preferred the higher of $0.738 per share or the fair market value of the
shares as determined by a qualified independent appraiser.
The series B convertible preferred stockholders had voting rights equal to
the common shares issuable upon conversion. In addition, the holders of series B
convertible preferred stock, voting together as a class, were entitled to elect
two members of CoSine's board of directors (as long as 500,000 shares of the
class were outstanding).
Series B convertible preferred stock ranked senior to the common stock as
to dividends. Each fiscal year, series B convertible stockholders were entitled
to noncumulative dividends of $0.0738 per share. Dividends could have been paid
only when declared by the board of directors, out of legally available funds. No
dividends were declared.
Series C
Series C convertible preferred stock ranked senior to the series A
preferred stock and pari passu with the series B, D and E preferred stock as to
liquidation preference. Series C convertible preferred stock had a liquidation
preference of $0.897 per share, plus any accrued dividends. The aggregate per
share liquidation amount for the holders of series C preferred stock could not
have exceeded $3.588.
44
48
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Each share of series C convertible preferred stock was, at the option of
the holder, convertible into common stock as determined by dividing the original
issue price by a conversion price of $0.897 (subject to adjustment). The
outstanding shares of series C convertible preferred stock would automatically
be converted into common stock upon the close of business on the day immediately
before the closing of an underwritten public offering of common stock in which
CoSine received at least $15,000,000 in gross proceeds, and the price per share
was at least $5.00 per share, or at the election of the holders of a majority of
the then outstanding shares of series C convertible preferred stock.
If at any time within the 90 day period following November 23, 2003, CoSine
received a written request from the holders of not less than 67% of the then
outstanding series B, C, D and E convertible preferred stock, requesting
redemption of all or a portion of their series B, C, D and E convertible
preferred stock, CoSine would have been required to redeem pro rata to their
respective requests for redemption one-third of each of the series B, C, D and E
convertible preferred stock requested to be redeemed, and would have been
required to redeem the series B, C, D and E convertible preferred stock
remaining outstanding after this redemption pro rata to the respective number of
shares of each then outstanding, in two equal installments on November 23, 2004
and November 23, 2005. CoSine would have been required to pay in cash for series
C preferred the higher of $0.897 per share of the fair market value or the
shares as determined by a qualified independent appraiser.
The series C convertible preferred stockholders had voting rights equal to
the common shares issuable upon conversion.
Series C convertible preferred stock ranked senior to the common stock as
to dividends. Each fiscal year, series C convertible stockholders were entitled
to noncumulative dividends of $0.0897 per share. Dividends could have been paid
only when declared by the board of directors, out of legally available funds. No
dividends were declared.
Series D
Series D convertible preferred stock ranked senior to the series A
preferred stock and pari passu with the series B, C and E preferred stock as to
liquidation preference. Series D convertible preferred stock had a liquidation
preference of $3.505 per share, plus any accrued dividends. The aggregate per
share liquidation amount for the holders of series D preferred stock could not
have exceeded $14.02.
Each share of series D convertible preferred stock was, at the option of
the holder, convertible into common stock as determined by dividing the original
issue price by a conversion price of $3.505 (subject to adjustment). The
outstanding shares of series D convertible preferred stock would automatically
be converted into common stock immediately before the closing of an underwritten
public offering of common stock in which CoSine received at least $15,000,000 in
gross proceeds, and the price per share was at least $7.00 per share, or at the
election of the holders of a majority of the then outstanding shares of series D
convertible preferred stock.
If at any time within the 90 day period following November 23, 2003, CoSine
received a written request from the holders of not less than 67% of the then
outstanding series B, C, D and E convertible preferred stock, requesting
redemption of all or a portion of their series B, C, D and E convertible
preferred stock, CoSine would have been required to redeem pro rata to their
respective requests for redemption one-third of each of the series B, C, D and E
convertible preferred stock requested to be redeemed, and would have been
required to redeem the series B, C, D and E convertible preferred stock
remaining outstanding after this redemption pro rata to the respective number of
shares of each then outstanding, in two equal installments on November 23, 2004
and November 23, 2005. CoSine would have been required to pay in cash for series
D preferred the higher of $3.505 per share or the fair market value of the
shares as determined by a qualified independent appraiser.
45
49
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The series D convertible preferred stockholders had voting rights equal to
the common shares issuable upon conversion.
Series D convertible preferred stock ranked senior to the common stock as
to dividends. Each fiscal year, series D convertible stockholders were entitled
to noncumulative dividends of $0.3505 per share. Dividends could have been paid
only when declared by the board of directors, out of legally available funds. No
dividends were declared.
Series E
Series E convertible preferred stock ranked senior to the series A
preferred stock and pari passu with the series B, C and D preferred stock as to
liquidation preference. Series E convertible preferred stock had a liquidation
preference of $15.00 per share, plus $0.125 per share for each month such share
was held between the original issue date of the series E and the liquidation.
Each share of series E convertible preferred stock was, at the option of
the holder, convertible into common stock as determined by dividing the original
issue price by a conversion price of $15.00 (subject to adjustment). The
outstanding shares of series E convertible preferred stock would automatically
be converted into common stock either immediately before the closing of an
underwritten public offering of common stock in which CoSine received at least
$15,000,000 in gross proceeds, and the price per share was at least $7.00 per
share, or at the election of the holders of a majority of the then outstanding
shares of series E convertible preferred stock.
If at any time within the 90 day period following November 23, 2003, CoSine
received a written request from the holders of not less than 67% of the then
outstanding series B, C, D and E convertible preferred stock, requesting
redemption of all or a portion of their series B, C, D and E convertible
preferred stock, CoSine would have been required to redeem pro rata to their
respective requests for redemption one-third of each of the series B, C, D and E
convertible preferred stock requested to be redeemed, and would have been
required to redeem the series B, C, D and E convertible preferred stock
remaining outstanding after this redemption pro rata to the respective number of
shares of each then outstanding, in two equal installments on November 23, 2004
and November 23, 2005.
CoSine would have been required to pay in cash for series E preferred the
higher of $15.00 per share or the fair market value of the shares as determined
by a qualified independent appraiser.
The series E convertible preferred stockholders had voting rights equal to
the common shares issuable upon conversion.
Series E convertible preferred stock ranked senior to the common stock as
to dividends. Each fiscal year, series E convertible stockholders were entitled
to noncumulative dividends of $1.50 per share. Dividends could have been paid
only when declared by the board of directors, out of legally available funds. No
dividends were declared.
Deemed Dividend
In March 2000, CoSine consummated the sale of an additional 625,000 shares
of series D redeemable convertible preferred stock from which CoSine received
proceeds of approximately $5,000,000 or $8.00 per share. At the date of
issuance, CoSine believed the per share price of $8.00 represented the fair
value of the preferred stock. After CoSine's initial public offering process
began, CoSine reevaluated the fair value of its common stock as of March 2000.
Accordingly, the increase in fair value has resulted in a beneficial conversion
feature of $2,500,000, which has been recorded as a deemed dividend to preferred
stockholders in 2000. CoSine recorded the deemed dividend at the date of
issuance by offsetting charges and credits to stockholders'
46
50
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
equity. The preferred stock dividend increases the net loss allocable to common
stockholders in the calculation of basic and diluted net loss per common share
for the year ended December 31, 2000.
Common Stock
In September 1997, January and February 1998, 6,666,664 shares of common
stock were issued to founders of CoSine for cash and full-recourse notes. The
outstanding shares are subject to certain transfer restrictions. These shares
are also subject to repurchase at the issuance price upon termination of
employment. CoSine's right of repurchase expires ratably over periods ranging
from three to four years. As of December 31, 2000 and 1999, 458,333 and
1,666,666 shares of common stock issued to the two founders are subject to
repurchase, respectively.
CoSine has reserved shares of common stock for future issuance at each year
end as follows (in thousands):
2000 1999
------ ------
Stock options:
Options outstanding...................................... 13,567 10,762
Reserved for future grants............................... 6,897 6,834
Convertible preferred stock................................ -- 64,289
Warrants outstanding....................................... 811 2,170
------ ------
21,275 84,055
====== ======
1997 Stock Option Plan
In October 1997, the board of directors adopted the 1997 Stock Plan (1997
Plan) for issuance of common stock and grants of options for common stock to
employees, consultants and directors. Incentive stock options granted under the
plan are at prices not less than the fair value of stock at the date of grant,
except in the case of a sale to a person who owns stock representing more than
10% of all the voting power of all classes of stock of CoSine, in which case the
purchase price will be 110% of the fair market value of the common stock on the
date of grant. Nonstatutory stock options granted under the 1997 Plan are at
prices not less than 85% of the fair value of stock at the date of grant, except
in the case of a sale to a person who owns stock representing more than 10% of
all the voting power of all classes of stock of CoSine, in which case the
purchase price will be 110% of the fair market value of the common stock on the
date of grant. Options granted under the 1997 Plan generally vest over four
years at a rate of 25% one year from the grant date and ratably monthly
thereafter and expire 10 years after the grant, or earlier upon termination.
Options may be granted with different vesting terms.
The 1997 Plan also allows for the exercise of options before vesting and
the related issuance of restricted stock that is subject to right of repurchase
by CoSine. The rights of repurchase generally lapse at the rate noted above. An
aggregate 9,346,355 and 2,782,227 shares of common stock were acquired through
the exercise of options are subject to repurchase at an aggregate repurchase
price of $36,527,000 and $1,485,000 as of December 31, 2000 and 1999,
respectively.
Effective upon the initial public offering, the 1997 Plan was terminated
and the shares reserved and unissued under the 1997 Plan were reserved for
issuance under the 2000 Plan.
2000 Stock Option Plan
In May 2000, the board of directors adopted the 2000 Stock Plan (2000
Plan). The 2000 Plan was approved by the stockholders before the completion of
the initial public offering. The 2000 Plan provides for the grant of incentive
stock options to employees, and for the grant of nonstatutory stock options and
stock
47
51
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
purchase rights to employees, directors and consultants. Incentive stock options
granted under the 2000 Plan will be at prices not less than the fair value of
the common stock at the date of grant. The term of each option will be
determined by the administrator of the plan, generally 10 years or less.
At December 31, 2000, a total of 8,398,074 common shares of CoSine have
been reserved for issuance under the 2000 Plan, including 2,500,000 shares
initially reserved upon adoption of the 2000 Plan, 5,187,092 shares added to the
2000 Plan on October 1, 2000 pursuant to its terms, and shares rolled over from
the 1997 Plan.
2000 Employee Stock Purchase Plan
In May 2000, the board of directors adopted the 2000 Employee Stock
Purchase (Purchase Plan), which was effective upon the closing of the initial
public offering. The Purchase Plan qualifies under the provisions of section 423
of the 1986 Internal Revenue Code of the United States. A total of 2,500,000
shares were initially reserved for issuance under the Purchase Plan. Pursuant to
terms of the Purchase Plan, the board of directors approved an increase in the
number of shares reserved for issuance under the Purchase Plan from 2,500,000 to
4,500,000 effective January 1, 2001. Under the terms of the Purchase Plan,
employees may contribute through payroll deductions up to 10% of their
compensation to purchase shares at a price equal to 85% of the lower of the fair
market value of the common stock at the beginning of the offering period or at
the end of the offering period.
2000 Director Option Plan
In May 2000, the board of directors adopted the 2000 Director Option Plan
(Director's Plan), which was effective upon the closing of the initial public
offering. A total of 400,000 shares of common stock have been reserved for
issuance under the Director's Plan.
The Director's Plan will automatically grant an option to purchase 80,000
shares of common stock to each non-employee director when they are first elected
to CoSine's board of directors following the initial public offering. The
Director's Plan also provides that each non-employee director who has been a
member of the board of directors for at least six months before the date of the
2000 annual stockholders' meeting will receive an automatic annual grant of
options to acquire 20,000 shares of common stock.
The options have an exercise price per share equal to the fair market value
of common stock at the date of grant and have a term of 10 years. Initial
options vest and become exercisable in four equal annual increments immediately
following the date of grant. Later options vest and become exercisable on the
fourth anniversary of the date of grant.
48
52
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Stock activity under the Stock Option Plans were as follows: (in thousands,
except per share data)
WEIGHTED-
SHARES AVERAGE
AVAILABLE FOR OPTIONS PRICE PER
GRANT OUTSTANDING SHARE
------------- ----------- ---------
BALANCE AS OF DECEMBER 31, 1997.................. 833 -- --
Authorized..................................... 1,787 -- --
Granted........................................ (2,618) 2,618 $0.08
------- ------
BALANCE AS OF DECEMBER 31, 1998.................. 2 2,618 0.08
Authorized..................................... 19,000 -- --
Granted........................................ (12,604) 12,604 0.70
Exercised...................................... -- (4,024) 0.40
Canceled....................................... 436 (436) 0.17
------- ------
BALANCE AS OF DECEMBER 31, 1999.................. 6,834 10,762 0.69
Authorized..................................... 13,687 -- --
Granted........................................ (14,941) 14,941 9.94
Exercised...................................... -- (11,061) 3.41
Canceled....................................... 1,075 (1,075) 6.26
Repurchased.................................... 242 -- --
------- ------
BALANCE AS OF DECEMBER 31, 2000.................. 6,897 13,567 $8.21
------- ------ -----
The following table summarizes information concerning options outstanding
and exercisable at December 31, 2000: (in thousands, except per share data)
OPTIONS OUTSTANDING
------------------------------------------ OPTIONS EXERCISABLE
WEIGHTED- -----------------------
AVERAGE WEIGHTED- WEIGHTED-
RANGE OF REMAINING AVERAGE AVERAGE
EXERCISE PRICES SHARES CONTRACTUAL LIFE EXERCISE PRICE SHARES EXERCISE PRICE
- --------------- ------ ---------------- -------------- ------ --------------
$ 0.04 - $ .55 1,922 8.3 $ .30 1,922 $ .30
1.00 - 4.00 4,231 9.0 2.55 4,231 2.55
9.50 - 12.00 4,443 9.5 10.02 4,405 10.01
13.13 - 40.00 2,971 9.8 18.97 1,609 21.00
------ --- ------ ------ ------
$ .04 - $40.00 13,567 9.2 $ 8.21 12,167 $ 7.32
------ --- ------ ------ ------
Stock-Based Compensation
During the years ended December 31, 2000 and 1999, CoSine issued stock
options to employees with exercise prices that it believed represented the fair
value of the stock. In March 2000, after CoSine began the initial offering
process, CoSine reevaluated the fair value of its common stock. In connection
with the reevaluation, CoSine recorded deferred stock compensation for these
stock option grants of $81,029,000 and $33,955,000 in the years ended December
31, 2000 and 1999, respectively, representing the difference between the fair
value of the common stock for financial reporting purposes and the exercise
price of the underlying options. This amount is recorded as a reduction of
stockholders' equity and is being amortized over the vesting period of the
individual options, generally four years, using the graded vesting method.
CoSine recorded amortization of deferred stock compensation of $51,174,000 and
$3,569,000 for the years ended December 31, 2000 and 1999, respectively.
During the years ended December 31, 2000 and 1999, CoSine granted common
stock options to non-employees at exercise prices that range from $0.15 to $9.50
per share for services provided to CoSine. These options are included in the
option tables disclosed above. The options generally vest over four years at a
rate of
49
53
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
25% one year from the grant date and ratably monthly thereafter and expire 10
years after the grant date. CoSine recognized expense of $8,029,000 and $211,000
in 2000 and 1999, respectively, for these transactions. The related expense in
1998 was not material. The fair value of these options is periodically
remeasured as they vest over the performance period and was estimated using the
Black-Scholes model with the following assumptions: risk-free interest rate of
5%, expected life of 10 years, a dividend yield of zero, and an expected
volatility of CoSine's common stock of 0.6.
During the fourth quarter of 2000, CoSine converted full-recourse
promissory notes received from employees upon the early exercise of unvested
employee stock options to non-recourse obligations. Accordingly, CoSine is
required to remeasure the value of these shares until the shares vest, which
affects the non-cash charges associated with these issuances. Cosine has
recorded additional deferred stock compensation of $39,718,000 and amortization
of $8,217,000 relating to the remeasurement of unvested shares during the fourth
quarter of 2000.
Pro Forma Information
Pro forma information about net loss and net loss per share is required by
SFAS 123, which requires the information to be determined as if Cosine has
accounted for its employee stock options granted under the fair value method.
The fair value of CoSine's options was estimated at the grant date using the
Black-Scholes option pricing model with the following assumptions: volatility of
0.6, risk-free interest rate of 5%, an expected life of four years, and a
dividend yield of zero. The weighted-average fair value of options granted
during 2000, 1999 and 1998 was $4.79, $2.92 and $0.02, respectively.
Pro forma information is as follows: (in thousands, except per share data)
2000 1999 1998
--------- -------- -------
As reported:
Net loss allocable to common stockholders........ $(158,626) $(37,721) $(9,293)
Basic and diluted net loss per common share...... $ (5.23) $ (7.49) $ (4.53)
Pro forma:
Net loss allocable to common stockholders........ $(158,626) $(37,721) $(9,299)
Basic and diluted net loss per common share...... $ (5.23) $ (7.49) $ (4.53)
Pro forma net loss and net loss per share equal actual net loss and net
loss per share in 2000 and 1999 due to the fact that the amortization of
deferred stock-based compensation exceeds pro forma compensation expense
calculated under SFAS 123.
The impact of applying SFAS 123 in this pro forma disclosure is not
indicative of future results.
Warrants
In November 1998, in connection with consulting services, CoSine issued
warrants to purchase 43,067 shares of common stock. The warrants were
exercisable at any time at $0.15 per share and expired on the earlier of 10
years following the issue date or a corporate reorganization. The warrants were
exercised in September 2000 and converted into 43,067 common shares upon
completion of the initial public offering. The warrants had a variable
measurement date and accordingly they were periodically revalued based on the
guidance of Emerging Issues Task Force Consensus No. 96-18 (EITF No. 96-18). The
warrants were to vest over a period of four years and their fair value was
calculated to be $260,000 at December 31, 1999, using the Black-Scholes
valuation method, utilizing a volatility factor of 0.6, risk-free interest rate
of 5%, and an initial expected life of 10 years. Prior to their exercise, the
fair value of the warrants was being amortized over the expected life of the
warrants.
50
54
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In August 1998, in connection with a facilities lease arrangement, CoSine
issued warrants to purchase 157,915 shares of series A preferred stock. The
warrants were exercisable at any time at no cost to the holder and expired on
the earlier of five years following the issue date or a corporate
reorganization. The warrants had a variable measurement date and accordingly
they are periodically revalued based on the guidance of EITF No. 96-18. The
warrants vested over a period of one year and their fair value was calculated to
be $767,000 at December 31, 1999 using the Black-Scholes valuation method,
utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an
initial expected life of five years. The fair value of the warrants was being
amortized over the term of the lease. These warrants were exercised in June 2000
and converted into 636,420 shares of common stock upon the completion of the
initial public offering in September of 2000.
In May 1998, in connection with a loan and security agreement, CoSine
issued warrants to purchase 84,688 shares of series B preferred stock. Upon the
closing of the initial public offering, these warrants became warrants to
purchase an equivalent number of shares of common stock. The warrants were fully
vested immediately upon issuance and exercisable at any time at $0.738 per share
and expired five years following the issue date. There are no forfeiture rights.
As there were no future performance obligations, the measurement date of the
warrants was fixed at the issuance date. The fair value of the warrants was
calculated to be $35,000 using the Black-Scholes valuation method, utilizing a
volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of
five years, and was expensed in full during 1998. In October of 2000, these
warrants were exercised in a cashless exercise, which resulted in 82,889 shares
of common stock being issued net of 1,799 shares delivered in payment of the
warrant exercise price.
In October 1998, in connection with an equipment and working capital loan
arrangement, CoSine issued warrants to purchase 304,878 shares of series B
preferred stock. Upon the closing of the initial public offering, these warrants
became warrants to purchase an equivalent number of shares of common stock. The
warrants were fully vested immediately upon issuance and exercisable at any time
at $0.738 per share and expire eight years following the issue date. The fair
value of the warrants was calculated to be $152,000 using the Black-Scholes
valuation method, utilizing a volatility factor of 0.6, risk-free interest rate
of 5%, and an expected life of eight years. The fair value of the warrants is
being amortized over the term of the loan.
In November 1998, in connection with a bridge note agreement, CoSine issued
warrants to purchase 304,878 shares of series B preferred stock. The warrants
were fully vested immediately upon issuance and exercisable at any time at
$0.738 per share and expired on the earlier of 10 years following the issue date
and a corporate reorganization. As there were no future performance obligations,
the measurement date of the warrants was fixed at the issuance date. The fair
value of the warrants was calculated to be $165,000 using the Black-Scholes
valuation method, utilizing a volatility factor of 0.6, risk-free interest rate
of 5%, and an expected life of 10 years, and was expensed in full during 1998.
These warrants were exercised at various dates between May 2000 and completion
of the initial public offering in September and the shares of series B preferred
stock issued were converted to common stock upon completion of the initial
public offering.
In May 1999, for technical, marketing and market-related product
development services, CoSine issued warrants to a customer to purchase 641,904
shares of series C preferred stock. The warrants were fully vested immediately
upon issuance and exercisable at any time at $1.0905 per share and expired five
years following the issue date. The warrants were exercised in July 2000 and
converted into 641,904 shares of common stock upon completion of the initial
public offering. As there were no future performance obligations, the
measurement date of the warrants was fixed at the issuance date. The fair value
of the warrants was calculated to be $392,000 using the Black-Scholes valuation
method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and
an expected life of five years, and was expensed in full during 1999.
In September 1999, in connection with placement services for the first
round of series D issuance, CoSine issued warrants to purchase 148,929 shares of
series D preferred stock. The warrants were fully vested immediately upon
issuance and exercisable at any time at $3.505 per share and expired five years
following the issue date. The warrants were exercised in July 2000 and converted
into 148,928 shares of common stock upon
51
55
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
completion of the initial public offering. As there were no future performance
obligations, the measurement date of the warrants was fixed at the issuance
date. The fair value of the warrants was calculated to be $292,000 using the
Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free
interest rate of 5%, and an expected life of five years, and was recorded as
series D first round issuance costs.
In October 1999, in connection with placement services for the second round
of series D issuance, CoSine issued warrants to purchase 5,135 shares of series
D preferred stock. The warrants were fully vested immediately upon issuance and
exercisable at any time at $3.505 per share and expired five years following the
issue date. The warrants were exercised in July 2000 and converted into 5,135
shares of common stock upon the completion of the initial public offering. As
there were no future performance obligations, the measurement date of the
warrants was fixed at the issuance date. The fair value of the warrants was
calculated to be $10,000 using the Black-Scholes valuation method, utilizing a
volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of
five years, and was recorded as series D second round issuance costs.
In January 2000, upon receipt of a purchase order from a customer, CoSine
issued warrants to the customer to purchase 1,233,499 shares of series C
preferred stock at $0.81 per share, subject to adjustment. The warrants had a
life of four years. They were fully vested and exercisable immediately and were
exercised in July 2000 and converted into 1,233,499 shares of common stock upon
completion of the initial public offering. As there were no future performance
obligations, the measurement date of the warrants was fixed at the issuance
date. The fair value of the warrants was calculated to be $10,300,000 using the
Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free
interest rate of 5% and an expected life of four years. The fair value of the
warrants was deferred and is being amortized as an offset to receipts from
sales, including equity issued in connection with sales to the extent of and as
the revenue associated with this order is recognized.
In February 2000, upon receipt of a purchase order from a customer, CoSine
issued warrants to the customer to purchase 200,000 shares of common stock at
$4.00 per share, subject to adjustment. The warrants had a life of four years.
They were fully vested and exercisable immediately and were exercised in
September 2000. As there were no future performance obligations, the measurement
date of the warrants was fixed at the issuance date. The fair value of the
warrants was calculated to be $1,840,000 using the Black-Scholes valuation
method, utilizing a volatility factor of 0.6, risk-free interest rate of 5% and
an expected life of four years. Prior to their exercise, the fair value of the
warrants was deferred and is being amortized as an offset to receipts from
sales, including equity issued in connection with sales to the extent of and as
the revenue associated with this order was recognized.
In March 2000, upon receipt of a purchase order from a customer, CoSine
issued warrants to the customer to purchase 468,849 shares of common stock at
$3.73 per share, subject to adjustment. The warrants had a life of four years.
They were fully vested and exercisable immediately. As there were no future
performance obligations, the measurement date of the warrants was fixed at the
assumed issuance date. The fair value of the warrants was calculated to be
$4,112,000 using the Black-Scholes valuation method, utilizing a volatility
factor of 0.6, risk-free interest rate of 5% and an expected life of four years.
Prior to their exercise, the fair value of the warrants was deferred and is
being amortized as an offset to receipts from sales, including equity issued in
connection with sales to the extent of and as the revenue associated with this
order is recognized.
In March 2000, in connection with an equipment lease, CoSine issued
warrants for the purchase of 37,500 shares of its common stock at $8.00 per
share to a leasing company. The warrants may be exercised at any time before or
the earlier of 10 years from the date of the warrant or the fifth anniversary of
the initial public offering. As there are no future performance obligations, the
measurement date of the warrants was fixed at the issuance date. The fair value
of the warrant was calculated to be $357,000 using the Black-Scholes valuation
method utilizing a volatility factor of 0.6, risk-free interest rate of 5% and
an expected life of
52
56
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10 years. This amount has been deferred as prepaid interest and is being
amortized over the lease term of three years.
In April 2000, for assistance with specific marketing activities CoSine
agreed to issue a warrant to a customer for the purchase of 75,000 shares of
common stock at $15.00 per share, subject to adjustment. The issuance of the
warrant was contingent upon the customer obtaining financing for its purchase
order. CoSine understands that the customer has sought protection under Chapter
11 of the United States federal bankruptcy code. These warrants have not been
issued.
At December 31, 2000, warrants to purchase 304,878, 468,849 and 37,500
shares of common stock at $0.738 per share, $3.73 per share and $8.00 per share,
respectively, were outstanding.
7. RELATED PARTIES
CoSine has non-recourse promissory notes of $5,565,000 as of December 31,
2000 and $30,000 as of December 31, 1999, from officers of CoSine. The notes are
secured by a pledge of CoSine's common stock and have an annual interest rates
ranging from 6.09% to 6.77%. The notes and interest accrued but unpaid are due
and payable during 2008.
As of December 31, 2000 and 1999, CoSine had non-recourse promissory notes
secured by a pledge of the CoSine's common stock totaling $30,956,000 and
$873,000, respectively, from employees of CoSine for the payment of stock option
exercises. Yearly interest on the notes ranges from 6.09% to 6.77%. The notes
are due and payable at the earliest of 10 years from the date of loan, the date
of the employee's termination or the date the shares are sold.
In 1999 and 2000, CoSine issued a total of 19,000 shares of common stock to
a firm of immigration attorneys in lieu of compensation. A partner of that firm
is a relative of an officer of CoSine.
During 2000, certain CoSine officers purchased stock in AduroNet Ltd. The
officer's total holdings represented less than 1% of AduroNet's total
outstanding shares. For the year ended December 31, 2000, CoSine recognized
revenue of $13,267,000 from AduroNet. As of December 31, 2000, CoSine had
deferred revenue and accounts receivable from AduroNet of $3,078,000 and
$631,000, respectively. Management believes that the transactions with AduroNet
were conducted at arms' length.
8. INCOME TAXES
The provision for income taxes of $264,000 for the year ended December 31,
2000 is composed entirely of foreign corporate income taxes. Due to operating
losses and CoSine's inability to recognize an income tax benefit from these
losses, there is no provision for income taxes for the years ended December 31,
1999 and 1998.
The difference between the provision for income taxes and the amount
computed by applying the federal statutory income tax rate to the loss before
income taxes is explained below (in thousands):
2000 1999 1998
-------- -------- -------
U.S. federal tax benefit at federal statutory
rate.............................................. $(54,552) $(13,206) $(3,253)
Loss for which no tax benefit is currently
recognizable...................................... 42,785 13,206 3,253
Non-cash charges related to equity.................. 12,031 -- --
-------- -------- -------
Total provision........................... $ 264 $ -- $ --
======== ======== =======
53
57
COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
CoSine's deferred tax assets are as follows (in thousands):
2000 1999
-------- --------
Deferred tax assets:
Net operating loss carryforwards.......................... $ 21,114 $ 10,300
Equity related charges.................................... 13,398 --
Tax credit carryforwards.................................. 3,103 900
Deferred revenue.......................................... 4,150 --
Inventory reserve......................................... 6,309 --
Capitalized research and development...................... 3,049 --
Accruals and reserves not currently deductible............ 5,448 3,300
-------- --------
Total deferred tax assets................................... 56,571 14,500
Valuation allowance......................................... (56,571) (14,500)
-------- --------
Net deferred tax assets................................ $ -- $ --
======== ========
Financial Accounting Standards Board Statement No. 109, "Accounting for
Income Taxes" provides for the recognition of deferred tax assets if realization
of the deferred tax assets is more likely than not. Based upon the weight of
available evidence, which includes CoSine's historical operating performance and
the reported cumulative net losses in all prior years, CoSine has provided a
full valuation allowance against its net deferred tax assets. The valuation
allowance increased by $42,071,000 in 2000 and $10,530,000 in 1999. The
valuation allowance at December 31, 2000 includes approximately $13,400,000
relating to equity issuances which will be credited to stockholders' equity when
realized.
As of December 31, 2000, CoSine had federal and state net operating loss
carryforwards of approximately $54,000,000 and $34,000,000, respectively. As of
December 31, 2000, CoSine also had federal and state research and development
tax credit carryforwards of approximately $2,000,000 and $1,700,000,
respectively. The net operating loss and tax credit carryforwards will expire at
various dates beginning in 2005, if not utilized.
Use of the net operating loss and tax credit carryforwards may be subject
to substantial annual limitation due to the ownership change limitations
provided by the Internal Revenue Code of 1986, and similar state provisions. The
annual limitation may result in the expiration of net operating loss and tax
credit carryforwards before utilization.
9. SUBSEQUENT EVENT
In February 2001, AduroNet Ltd., a CoSine customer in the United Kingdom,
became insolvent and subsequently filed for provisional liquidation under
British law. We therefore do not expect to receive any future orders from
AduroNet, and the equipment we sold to them will likely be placed on the market
at a discount. As of December 31, 2000, CoSine accrued a bad debt provision of
$0.6 million in anticipation of not collecting any remaining accounts receivable
from this customer. Additionally, as of December 31, 2000, deferred
post-contract service revenue related to AduroNet amounted to $3.5 million which
we will continue to amortize over the original service period, pending final
resolution of the AduroNet liquidation proceeding.
ITEM 8. SUPPLEMENTAL FINANCIAL INFORMATION
The supplemental financial information required to be set forth in this
Item 8 is located in Part IV Item 14.
54
58
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
ITEM 11. EXECUTIVE COMPENSATION
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by these Items is omitted and incorporated herein
by reference to CoSine's definitive Proxy Statement for its 2001 Annual Meeting
of Stockholders to be filed within 120 days of the end of CoSine's fiscal year
ended December 31, 2000. However, no information set forth in the Proxy
Statement regarding the Report of the Compensation Committee on Executive
Compensation or the performance graph, or the Report of the Audit Committee
shall be deemed incorporated by reference into this Form 10-K.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Information about compliance with section 16(a) of the Securities and
Exchange Act is incorporated by reference to CoSine's definitive Proxy Statement
for its 2001 Annual Meeting of Stockholders to be filed within 120 days of the
end of CoSine's fiscal year ended December 31, 2000.
55
59
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Annual Report on Form
10-K:
(1) Financial Statements:
PAGE
----
Report of Independent Auditors.............................. 28
Statement of Management Responsibility...................... 29
Consolidated Balance Sheets -- December 31, 2000 and 1999... 30
Consolidated Statements of Operations -- Years ended
December 31, 2000, 1999 and 1998.......................... 31
Consolidated Statements of Redeemable Convertible Preferred
Stock, Stockholders'
Equity (Net Capital Deficiency) and Comprehensive
Loss -- Years ended December 31, 2000, 1999 and 1998...... 32
Consolidated Statements of Cash Flows -- Years ended
December 31, 2000, 1999 and 1998.......................... 35
Notes to Consolidated Financial Statements.................. 36
(2) Financial Statement Schedules:
Schedule II -- Valuation and Qualifying Accounts............ 58
All other schedules are omitted as they are not applicable or the
required information is shown in the Financial Statements or the notes
thereto.
(3) Exhibits:
See Exhibit Index on pages 60 - 61. The Exhibits listed in the
accompanying Exhibit Index are filed as part of this Annual Report on
Form 10-K
(b) Reports on Form 8-K.
None.
56
60
SUPPLEMENTAL FINANCIAL INFORMATION (UNAUDITED)
1999 2000
-------------------------------------- -----------------------------------------
1ST 2ND 3RD 4TH 1ST 2ND 3RD 4TH
QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Revenue...................... -- -- -- -- $ 2,369 $ 5,253 $ 7,201 $ 16,284
Gross profit (loss).......... -- -- -- -- (525) 872 210 6,624
Net loss..................... (6,792) (8,306) (8,771) (13,852) (24,150) (32,886) (52,272) (46,818)
Basic and diluted net loss
per common share........... $ (1.79) $ (1.84) $ (1.71) $ (2.08) $ (3.22) $ (3.98) $ (4.72) $ (0.51)
Pro forma basic and diluted
net loss per common
share(1)................... $ (0.21) $ (0.17) $ (0.17) $ (0.20) $ (0.38) $ (0.45) $ (0.66) $ (0.51)
- ---------------
(1) Pro forma basic and diluted net loss per common share includes shares
issuable upon the conversion of outstanding shares of convertible preferred
stock (using the as-if converted method) from the original date of issuance.
This was the method of presentation of basic and diluted net loss per share
included in the quarterly report filed on Form 10-Q for the quarter ended
September 30, 2000.
57
61
COSINE COMMUNICATIONS, INC.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
BALANCE AT BALANCE AT
BEGINNING OF CHARGED TO ADDITIONS END OF
CLASSIFICATION YEAR EXPENSES (DEDUCTIONS) YEAR
-------------- ------------ ---------- ------------ ----------
Year ended December 31, 2000:
Reserves for accounts receivable................. $-- $631 $-- $631
--- ---- --- ----
$-- $631 -- $631
=== ==== === ====
Year ended December 31, 1999....................... $-- $ -- $-- $ --
=== ==== === ====
Year ended December 31, 1998....................... $-- $ -- $-- $ --
=== ==== === ====
58
62
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 March 30, 2001.
COSINE COMMUNICATIONS, INC.
By: /s/ DEAN HAMILTON
------------------------------------
Dean Hamilton,
Chairman, President and Chief
Executive Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Dean Hamilton, Jill Bresnahan and Craig
Collins, and each of them acting individually, his true and lawful
attorneys-in-fact and agents, each with full power of substitution, for him in
any and all capacities, to sign any and all amendments to this report, and to
file the same, with all exhibits thereto and all other documents in connection
therewith, with the Securities and Exchange Commission, granting unto each of
said attorneys-in-fact, or his substitute or substitutes, and each of them,
hereby ratifying and confirming all that such attorneys-in-fact, or any
substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed on March 30, 2001 by the following persons in the
capacities indicated.
SIGNATURE TITLE
--------- -----
/s/ DEAN HAMILTON Chairman, President and Chief Executive Officer
- ----------------------------------------------------- (Principal Executive Officer)
Dean Hamilton
/s/ CRAIG COLLINS Chief Financial Officer and Executive Vice President
- ----------------------------------------------------- (Principal Financial and Accounting Officer)
Craig Collins
/s/ JILL BRESNAHAN Vice President, General Counsel and Secretary
- -----------------------------------------------------
Jill Bresnahan
/s/ CHARLES J. ABBE Director
- -----------------------------------------------------
Charles J. Abbe
/s/ VINTON CERF Director
- -----------------------------------------------------
Vinton Cerf
/s/ DONALD GREEN Director
- -----------------------------------------------------
Donald Green
/s/ R. DAVID SPRENG Director
- -----------------------------------------------------
R. David Spreng
59
63
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------- -----------
3.1* Second Amended and Restated Certificate of Incorporation, as
amended (incorporated by reference to Exhibit 3.2 to Form 8A
(file no. 000-30715) filed May 26, 2000).
3.2* Amended and Restated Bylaws, as amended (incorporated by
reference to Exhibit 3.3 to Form 8A (file no. 000-30715)
filed May 26, 2000).
10.1* Form of Indemnification Agreement entered into by the
Registrant with each of its directors and officers
(incorporated by reference to Exhibit 10.1 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.2* 2000 Stock Plan and forms of agreements thereunder
(incorporated by reference to Exhibit 10.2 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.3* 2000 Employee Stock Purchase Plan and forms of agreements
thereunder (incorporated by reference to Exhibit 10.3 of
Amendment No. 1 to Registration Statement on Form S-1 filed
June 6, 2000).
10.4* 2000 Director Option Plan and forms of agreements thereunder
(incorporated by reference to Exhibit 10.4 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.5* 1997 Stock Plan (as amended and restated) and forms of
agreements thereunder (incorporated by reference to Exhibit
10.5 of Registration Statement on Form S-1 filed April 28,
2000).
10.6* Third Amended and Restated Investors' Rhts Agreement
(incorporated by reference to Exhibit 10.6 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.7* Master Equipment Lease Agreement between the Registrant and
Relational Funding Corporation dated as of February 1, 2000
(incorporated by reference to Exhibit 10.7 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.8* Loan and Security Agreement between Registrant and Venture
Lending and Leasing II, Inc. dated as of September 21, 1998
(incorporated by reference to Exhibit 10.8 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.9* Amended and Restated Supplement between Registrant and
Venture Lending and Leasing II, Inc. dated as of October 21,
1998 (incorporated by reference to Exhibit 10.9 of Amendment
No. 1 to Registration Statement on Form S-1 filed June 6,
2000).
10.10* Master Loan and Security Agreement between Registrant and
Finova Capital Corporation date as of May 19, 1999
(incorporated by reference to Exhibit 10.10 of Amendment No.
1 to Registration Statement on Form S-1 filed June 6, 2000).
10.11* Loan and Security Agreement between Registrant and Silicon
Valley Bank dated as of May 29, 1998 (incorporated by
reference to Exhibit 10.11 of Amendment No. 1 to
Registration Statement on Form S-1 filed June 6, 2000).
10.12* Loan Modification Agreement between Registrant and Silicon
Valley Bank dated as of June 22, 1998 (incorporated by
reference to Exhibit 10.12 of Registration Statement on Form
S-1 filed April 28, 2000).
10.13* Loan and Security Agreement between Registrant and Silicon
Valley Bank dated as of September 30, 1999 (incorporated by
reference to Exhibit 10.13 of Amendment No. 1 to
Registration Statement on Form S-1 filed June 6, 2000).
10.14* Building Lease Agreement between Registrant and Westport
Joint Venture dated as of May 26, 1998 (incorporated by
reference to Exhibit 10.14 of Amendment No. 1 to
Registration Statement on Form S-1 filed June 6, 2000).
10.15* Amendment No. 1 to Lease between Registrant and Westport
Joint Venture dated as of September 9, 1999 (incorporated by
reference to Exhibit 10.15 of Registration Statement on Form
S-1 filed April 28, 2000).
10.16* Building Lease Agreement between Registrant and Westport
Joint Venture dated as of September 20, 1999 (incorporated
by reference to Exhibit 10.16 of Amendment No. 1 to
Registration Statement on Form S-1 filed June 6, 2000).
60
64
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.17* Sublease between Registrant and Liberate Technologies dated
as of June 28, 2000 (incorporated by reference to Exhibit
10.17 Amendment No. 4 to Registration Statement on Form S-1
filed September 5, 2000).
21.1 Subsidiaries of the Registrant.
23.1 Consent of Independent Auditors.
- ---------------
* Previously filed.
61