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Proc-Type: 2001,MIC-CLEAR
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<SEC-DOCUMENT>0001021408-02-004300.txt : 20020415
<SEC-HEADER>0001021408-02-004300.hdr.sgml : 20020415
ACCESSION NUMBER: 0001021408-02-004300
CONFORMED SUBMISSION TYPE: 10-K405
PUBLIC DOCUMENT COUNT: 4
CONFORMED PERIOD OF REPORT: 20011231
FILED AS OF DATE: 20020328
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: CERADYNE INC
CENTRAL INDEX KEY: 0000018937
STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS MANUFACTURING INDUSTRIES [3990]
IRS NUMBER: 330055414
STATE OF INCORPORATION: DE
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: 10-K405
SEC ACT: 1934 Act
SEC FILE NUMBER: 000-13059
FILM NUMBER: 02591098
BUSINESS ADDRESS:
STREET 1: 3169 RED HILL
CITY: COSTA MESA
STATE: CA
ZIP: 92626
BUSINESS PHONE: 7145490421
MAIL ADDRESS:
STREET 2: 3169 RED HILL
CITY: COSTA MESA
STATE: CA
ZIP: 92626
</SEC-HEADER>
<DOCUMENT>
<TYPE>10-K405
<SEQUENCE>1
<FILENAME>d10k405.txt
<DESCRIPTION>FORM 10-K 405
<TEXT>
<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
X ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
- -
EXCHANGE ACT OF 1934
For the Fiscal Year Ending December 31, 2001
_ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (No fee required)
For the transition period from _____ to _____
Commission File No. 000-13059
CERADYNE, INC.
--------------
(Exact name of Registrant as specified in its charter)
Delaware 33-0055414
----------------------- --------------------
(State or other jurisdiction of (I.R.S. Employer Identifica-
incorporation or organization) tion Number)
3169 Red Hill Avenue, Costa Mesa, California 92626
---------------------------------------------------
(Address of principal executive offices)
Registrant's telephone number, including area code: (714) 549-0421
--------------
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
(Title of 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. ( X )
The aggregate market value (based on the closing price at which stock was sold)
of the voting shares held by non-affiliates of the registrant as of March 4,
2002 was $69,482,960.
As of March 4, 2002, the number of shares of the registrant's Common Stock
outstanding was 8,456,205.
DOCUMENTS INCORPORATED BY REFERENCE: None
<PAGE>
PART I
This Annual Report on Form 10-K contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. Forwarding-looking statements inherently are
subject to risks and uncertainties, some of which we cannot predict or quantify.
Our actual results may differ materially from the results projected in the
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, those discussed in "Item 1 - Business," including the
section therein entitled "Risk Factors," and in "Item 7 - Management's
Discussion and Analysis of Financial Condition and Results of Operations." You
generally can identify forward-looking statements by the use of forward-looking
terminology such as "believes," "may," "will," "expects," "intends,"
"estimates," "anticipates," "plans," "seeks," or "continues," or the negative
thereof or variations thereon or similar terminology.
Item 1. Business
--------
Introduction
Ceradyne, Inc. ("Ceradyne" or the "Company") develops, manufactures and markets
advanced technical ceramic products and components for industrial, defense,
consumer, electronic, and microwave communications applications. In many high
performance applications, products made of advanced technical ceramics meet
specifications that similar products made of metals or plastics cannot achieve.
Advanced technical ceramics can withstand extremely high temperatures, combine
hardness with light weight, are highly resistant to corrosion and wear, and have
excellent electrical insulation capability and other special electronic
properties.
Ceradyne's technology was originally developed primarily for defense and
aerospace applications which have historically represented a substantial portion
of its business. However, the Company has diversified its product lines based on
the development of new ceramic materials' applications for domestic and
international markets. The Company continues to serve its historical customer
base which accounts for a substantial portion of Ceradyne's business.
The Company derives a portion of its revenues from its traditional products,
lightweight ceramic armor for military helicopters and microwave tube products.
However, newer products developed or being developed by the Company for defense,
industrial and consumer applications represent an increasing share of its
business. Examples of these newer products include (i) lightweight ceramic armor
vests for military personnel; (ii) a translucent ceramic orthodontic bracket,
which is sold to Unitek Corporation, a subsidiary of 3M, under an exclusive
marketing agreement and marketed by Unitek under its brand name "Clarity", (iii)
silicon nitride advanced technical ceramic components (cam rollers) used in
diesel engines, (iv) wear resistant components for industrial machinery, such as
paper making equipment, made from the Company's Ceralloy(R) 147 silicon nitride
advanced technical ceramic; (v) missile nose cones or radomes for the defense
industry, and (vi) large corrosion resistant ceramic components sold to
semiconductor equipment manufacturers.
1
<PAGE>
Industry Background
Developments in industrial processing, military systems, microwave electronics,
consumer electronics, automotive/diesel engine products, and orthodontics have
generated a demand for high performance materials with certain properties not
readily available in metals or plastics. In certain high performance
applications, this demand has been met by products made of advanced technical
ceramics.
The following table compares certain favorable properties of selected advanced
technical ceramics commonly used by the Company with those of other selected
materials.
<TABLE>
<CAPTION>
================================================================================================================
MELTING
POINT HARDNESS CHEMICAL DENSITY
(DEGREES (VICKERS RESISTANCE ELECTRICAL (GMS
MATERIALS FAHRENHEIT) SCALE) TO ACIDS PROPERTIES PER CC)
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Advanced technical From conductors to
ceramics 2,500 to 6,900 1,600 to 7,000 Excellent excellent insulators 2.5 to 4.5
- ----------------------------------------------------------------------------------------------------------------
High strength alloy
steel 2,500 to 2,700 250 to 900 Fair Conductors 7.0 to 9.0
- ----------------------------------------------------------------------------------------------------------------
High performance Good to excellent
plastics 275 to 750 5 to 10 Good to Excellent insulators 1.0 to 2.0
================================================================================================================
</TABLE>
Ceramics such as earthenware, glass, brick and tile have been made for centuries
and are still in common use today. The inertness and lasting qualities of
ceramics are illustrated by the artifacts uncovered intact in modern times.
Almost all traditional ceramics, including those of ancient times, were based on
clay. In recent years, significant advances have been made in ceramic technology
through the application of specialized processes to produce man-made ceramic
powders. In the 1950's and 1960's, developments in aluminum oxide and other
oxides provided ceramics that were excellent electrical insulators and were
capable of withstanding high temperatures. In the 1970's, these and other
developments resulted in the ability to manufacture advanced technical ceramics
with great strength at elevated temperatures and reduced brittleness,
historically a primary limitation of ceramics. The products that have emerged
from these advances are known as advanced technical (or structural) ceramics.
The properties of advanced technical ceramics present a compelling case for
their use in a wide array of applications. However, manufacturing costs
associated with the production of these materials need to be reduced in order to
accelerate the use of advanced technical ceramics as a direct replacement for
metals, plastics or other ceramics. A portion of these costs is related to the
need for diamond grinding finished components to exacting tolerances. Industry
cost reduction efforts have included the production of blanks or feed stock to
"near net shape" configurations, thus reducing the need for final finishing.
Manufacturers are also seeking to reduce costs through the use of high volume
automated processing and finishing equipment and techniques, and to achieve
economies of scale in areas such as powder processing, blank fabrication,
firing, finishing and inspection.
2
<PAGE>
Ceradyne Strategy
The Company's strategy is to capitalize on its existing technologies, developed
originally for defense and aerospace applications, and to broaden its product
and customer base through increased marketing efforts, both domestically and
internationally. The Company is focusing on additional customer requirements for
existing products, and on emerging markets and products which require or can
benefit from the physical, chemical or electronic properties of advanced
technical ceramics. To support this strategy, the Company's Advanced Ceramic
Operations in Costa Mesa, California created a new Research & Development
Department in early 1998 to focus on new materials' technology.
Ceradyne seeks to increase sales of its traditional products primarily through
expanded domestic and global marketing efforts. In 2000, Ceradyne established a
European Sales Office in England and in early 2001 an Asian Sales Office in
Beijing, China. The European office will concentrate its sales efforts in the
area of industrial applications and lightweight ceramic armor for military
applications. The China office will concentrate its sales efforts in the area of
industrial ceramics, utilizing fused silica ceramics for the glass tempering and
metal forming markets.
In addition to the Company's strategy to leverage its existing technologies, the
Company expects much of its future growth to come from products which are
currently in early production or still in development. There can be no
assurances, however, that products still under development will be successfully
completed, or that any of these newer products, including those already in
production, will achieve wide market acceptance. See "Risk Factors". The
following table illustrates these newer and planned products and the markets for
which they are intended.
3
<PAGE>
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------------
MARKET OPPORTUNITY TECHNICAL DEMANDS OF MARKET CERADYNE'S STRATEGIC RESPONSE
----------------------------------------------------------------------------------------------------------------------------------
INDUSTRIAL
----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Corrosion resistant non-oxide The industry has historically used silicon metal, Ceradyne is supplying high density and
ceramics for use as semiconductor quartz, and aluminum oxide ceramics to fabricate high purity nitride and carbide ceramic
equipment chamber components that chamber components. Next generation equipment components to the semiconductor wafer
handle wafers. may have operating conditions that may deteriorate processing equipment companies.
currently used materials in some sections. Ceradyne's R&D group is continually
working with semiconductor equipment
suppliers to tailor Ceradyne's ceramic
materials to meet new equipment
requirements.
Wear resistant components Failure of industrial equipment is often caused Ceralloy(R) 147 Sintered Reaction Bonded
required on the rubbing or by premature wearing out of surfaces due to Silicon Nitride (SRBSN) industrial wear
cutting surfaces of industrial abrasive action. Examples include paper making parts and cutting tool inserts are
machinery, such as in paper making where the pulp slurry runs at 5000 feet per designed to replace hard metal or even
equipment, centrifuges, and minute, or in metal cutting where as much as .125 oxide ceramic wear surfaces, resulting
cutting tool inserts. inch depth of cut are removed in a single pass. in great productivity, quality and
longer "uptime".
----------------------------------------------------------------------------------------------------------------------------------
DEFENSE
----------------------------------------------------------------------------------------------------------------------------------
Lightweight armor for military As tactical conflicts as well as terrorist and Ceradyne has developed IMP/ACT(TM)
personnel. other activities result in the increased use of (Improved Multihit Protection/Advanced
automatic weapons, it has become necessary to Composite Technology) to improve the
stop bullets as great as a .50 caliber machine performance of Ceralloy(R) 546 (boron
gun round. However, vests or other armor must carbide) in body armor and other military
be light enough in weight to allow freedom of applications. Further research is focused
movement without undue fatigue. on flexible armor solutions utilizing
Ceralloy(R) 146 (silicon carbide) and
Ceralloy(R) 147 (silicon nitride).
Missile nose cones (radomes). Next generation defensive missiles (Standard The Company's advanced technical ceramic
Missile Block IV and Block IVA and Patriot PAC-3) radomes are designed to address demanding
will be required to fly at extremely high specifications of next generation missile
velocities, tight turning radii, and severe nose cones.
weather conditions. These operating conditions
may preclude the use of conventional polymer
materials.
Lightweight applique armor The increased necessity for worldwide military New armor development initiatives at
for ground combat vehicles. police actions and rapid response peacekeeping Ceradyne are focused on a low cost,
missions is driving the military vehicle durable modular armor kit technology
force to lightweight systems that are air called Ramtech(TM)that can be added to
transportable. These vehicles must provide many different vehicles. Multi-hit
armor protection beyond their original design protection is provided against 7.62mm,
specification, which can only be met through 12.7mm and 14.5mm armor piercing
the addition of lightweight modular armor ammunition.
applique.
----------------------------------------------------------------------------------------------------------------------------------
CONSUMER
----------------------------------------------------------------------------------------------------------------------------------
Orthodontic brackets Traditional stainless steel orthodontic Ceradyne's Transtar translucent
ceramic brackets are often considered orthodontic brackets are inert, pick up
unsightly. Substitute clear plastic the color of the patient's teeth and
materials can be weak and may stain. allow the orthodontist to correct the
Some orthodontic patients prefer patient's bite. The Company and its
aesthetically pleasing brackets which marketing partner, 3M/Unitek, introduced
can be affixed to each tooth to support an enhanced version of this ceramic
the archwire. bracket in 1996, which is marketed by
Unitek under the brand name "Clarity".
Shipments of orthodontic brackets in 2000
increased from the prior year period. The
Company has recently introduced a new
Clarity prescription known as "MBT".
----------------------------------------------------------------------------------------------------------------------------------
AUTOMOTIVE
----------------------------------------------------------------------------------------------------------------------------------
Heavy duty diesel engine In order to achieve diesel engine life Ceradyne's Ceralloy(R) 147 SRBSN is a
valve train components of one million miles and automobile engine candidate for a variety of engine
and high-pressure fuel pump life of over 125,000 miles without major components including cam rollers, fuel
components. maintenance, it may be necessary to replace pump parts and other wear components.
metal engine components with longer lasting, The Company is in production of cam
lighter weight, higher temperature resistant rollers for diesel engines and rollers
ceramic parts at acceptable unit costs. for fuel pumps. Ceradyne continues
prototype development with a number of
engine and fuel systems manufacturers
worldwide to expand the application of
its cam roller products.
----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
4
<PAGE>
As part of the Company's strategy, management has and intends to further
establish additional sales representative and distributor relationships,
particularly in international markets. The Company will also seek to develop
strategic product development or marketing relationships with other
manufacturing companies or key customers whose expertise, marketing or financial
resources will assist the Company in accomplishing these objectives. See "Risk
Factors".
Strategic Relationships
The Company has established two strategic relationships which have been, and the
Company expects will continue to be, important factors in the Company's efforts
to develop and expand its advanced technical ceramic technology into new
products and markets. These relationships are described below.
Ford Motor Company Joint Development Program. Ceradyne completed a series of
transactions with the Ford Motor Company ("Ford") in March 1986 with a long-term
objective of developing ceramic components for automobiles. Key to this venture
was the transfer of technology developed by Ford relating to technical ceramics,
including a portfolio of United States and corresponding foreign patents and
patent applications, and the investment by Ford of $10 million in the Company in
exchange for Common Stock which eventually resulted in an ownership interest in
Ceradyne of approximately 14.6%. Ford and the Company also entered into a joint
development program pursuant to which Ceradyne has been applying its experience
and expertise in technical ceramics to develop this technology into commercial
products with a view to eventually develop components for automobile engines.
The technology acquired from Ford and the efforts of this joint development
program have led to the development of Ceradyne's Ceralloy(R) 147 sintered
reaction bonded silicon nitride (SRBSN) advanced technical ceramic, from which
the Company now produces a line of industrial wear components and has a line of
components for use in diesel engines and fuel pumps. As of March 15, 2002 Ford's
ownership interest in Ceradyne is 12.2%.
3M/Unitek Orthodontic Bracket Joint Program. In March 1986, Ceradyne entered
into a joint development and supply agreement with Unitek Corporation, a
subsidiary of Minnesota Mining and Mfg ("3M/Unitek") for the development of a
translucent ceramic bracket for orthodontic appliances commonly known as braces.
Under this agreement, 3M/Unitek, which is a major manufacturer of stainless
steel orthodontic brackets, provided Ceradyne with information regarding the
functional specifications and properties which ceramic brackets would be
required to satisfy. Based on this information and utilizing its experience with
translucent ceramics originally produced by Ceradyne for defense electronic
countermeasure applications, Ceradyne developed, and in 1987 began
manufacturing, translucent ceramic brackets. These brackets cosmetically blend
with the natural color of the patient's teeth while performing the structural
functions formerly performed by traditional stainless steel brackets.
Ceradyne and 3M/Unitek have obtained and jointly own two United States patents
covering the basic use of translucent ceramics for an orthodontic bracket.
3M/Unitek has an exclusive right to market brackets based on this technology
until 2007.
5
<PAGE>
Market Applications
The Company's products can be categorized by the table below which represents
principal market applications they address in percent of total sales.
------------------------------------
Year Ended December 31,
------------------------------------
2001 2000 1999
------------------------------------
-------------------------------------------------------------------
Industrial 33% 34% 38%
-------------------------------------------------------------------
-------------------------------------------------------------------
Defense 29% 33% 21%
-------------------------------------------------------------------
-------------------------------------------------------------------
Consumer 18% 14% 18%
-------------------------------------------------------------------
-------------------------------------------------------------------
Microwave Tube Products 17% 16% 21%
-------------------------------------------------------------------
-------------------------------------------------------------------
Automotive 3% 3% 2%
-------------------------------------------------------------------
-------------------------------------------------------------------
TOTAL 100% 100% 100%
-------------------------------------------------------------------
Set forth below is a description of the Company's principal products itemized by
market:
Industrial
Industrial Wear Components. Ceradyne's industrial wear components are made
primarily of its Ceralloy(R) 147 sintered reaction bonded silicon nitride
(SRBSN). These SRBSN ceramic components are generally incorporated in industrial
machinery where severe abrasive conditions exist which wear out vital
components. The Ceradyne wear resistant parts are used to replace conventional
wear materials such as tungsten carbide or ceramics such as alumina or zirconia.
Often these parts are incorporated in high wear areas at the original equipment
manufacturer's plant. Applications include metal cutting tool inserts, paper
making equipment, abrasive blasting nozzles as well as custom applications.
Semiconductor Equipment Components. The equipment used to make semiconductor
wafers is extremely advanced and the newest generation has operating
environments that are harsh enough to limit the life of the traditional ceramic
and metal components. Ceradyne offers the industry non-oxide ceramics that have
exceptional corrosion resistance and other key properties, such as high thermal
conductivity, that are essential to the manufacture of high quality
semiconductor wafers.
Tempered Glass Furnace Components and Metallurgical and Industrial Tooling.
Fused silica ceramic is a ceramic which does not materially expand when heated,
nor materially contract when cooled. It is used to produce industrial tooling
components and molds where complicated shapes and dimensions must be maintained
over a wide range of temperatures. Such applications include the forming and
shaping of titanium metal, used in the manufacturing of aircraft. Other
applications take advantage of fused silica's excellent thermal shock resistance
and inertness when in contact with glass. These include components for equipment
used in the fabrication of flat plate
6
<PAGE>
and tempered glass, such as tempering furnace rollers, and contoured shapes such
as automobile windshields and architectural glass. Fused silica ceramic shapes
of up to 14 feet in length are produced in the Company's facility located near
Atlanta, Georgia.
Defense
Lightweight Ceramic Armor. Ceradyne has developed and currently produces
lightweight ceramic armor capable of protecting against threats as great as
14.5mm armor piercing machine gun bullets. Compared to traditional steel armor
plates, Ceradyne's ceramic armor systems offer weight savings as great as 75%
for 7.62mm, 12.7mm and 14.5mm armor piercing projectiles. Utilizing hot pressed
Ceralloy(R) ceramic, the Company's armor plates are laminated with either
Kevlar(TM), Spectra(TM), fiberglass, zylon or custom hybrid laminates and formed
into a wide variety of shapes, structures and components. Historically, ceramic
armor manufactured by the Company has been used principally for military
helicopter crew seats and airframe panels. The Company believes it is a leader
in producing lightweight ceramic armor for military helicopters. Recently,
Ceradyne has become a major supplier of lightweight ceramic body armor for the
U.S. Army, and is rapidly expanding in new areas that require protection,
including ground combat vehicles, marine craft and architectural infrastructure.
See "Risk Factors--We Must Successfully Increase Manufacturing Capacity and
Improve Product Yields or Our Gross Margins and Profitability May Suffer."
The Company received its first production contract for ceramic armor vests for
military personnel in January 1995. This order, from the Defense Logistics
Agency of the United States Government, was for $3.5 million in vests, which the
Company shipped during 1996.
On March 2, 1998, a U.S. government agency selected Ceradyne to provide certain
ceramic armor products over a multi-year period. The multi-year contract
provides for total orders over the 6 year life of the program which could exceed
$100 million. Through December 31, 2001, the Company has received production
orders under this program totaling $23 million. However, there can be no
assurances as to the exact quantities or deliveries under this program as the
government is not required to purchase any minimum amount and all orders are at
the full discretion of the government. Additionally, in 2001, Ceradyne received
further new firm orders for body armor products under a new contract worth in
excess of $13 million, all of which is scheduled to ship during the first seven
months of 2002.
Missile Nose Cones (Radomes). The Company produces conical shaped, precision
machined ceramic components which are designed for the front end of defensive
missiles. These nose cones, or radomes, are used where the velocities and
operating environments are severe and the thermal shock and erosion resistance,
high strength and microwave transparency properties of advanced technical
ceramics are required. Radomes manufactured by the Company have been qualified
for the Standard Missile Block IV and Block IVA missile program and for the
Patriot PAC-3 missile program. The PAC-3 missile is now in the low rate
production phase.
7
<PAGE>
Consumer
Ceramic Orthodontic Brackets. In the orthodontic process of correcting a
patient's tooth alignment, typically small (about 1/4") stainless steel brackets
are adhered to each individual tooth in order to serve as a guide to the
archwire which is the wire that sets into each bracket. The cosmetic appearance
of all this metal is often considered quite unattractive. Ceradyne, together
with its marketing partner, 3M/Unitek, have developed and are marketing ceramic
orthodontic brackets made of Ceradyne's translucent ceramic, Transtar(R). The
translucency of this ceramic bracket, together with the classic ceramic
properties of hardness, chemical inertness and imperviousness, have resulted in
a cosmetic substitute for traditional stainless steel brackets. These products
are generally sold as aesthetic alternatives to conventional metal brackets and
have been in production since 1987. Ceradyne and 3M/Unitek introduced a new
enhanced ceramic bracket called "Clarity" in October of 1996. This product has
patent protection and offers new features which improve the bracket's strength
and functionality, compared to earlier designs manufactured by the Company.
Comments from orthodontists who have purchased Clarity(TM) brackets have been
positive. The Company believes Clarity(TM) brackets offer the orthodontist a
more robust product that will minimize treatment and chair time while providing
superior aesthetic appearance.
Microwave Tube Products
Microwave Ceramic-Impregnated Dispenser Cathodes. The Company manufactures
ceramic-impregnated dispenser cathodes which are used in microwave tubes for
applications in radar, satellite communications, electronic countermeasures and
other uses. Dispenser cathodes, when heated, provide the stream of electrons
which are magnetically focused into an electron beam. Microwave frequency
signals which interact with this beam of electrons are substantially increased
in power. Microwave dispenser cathodes are primarily composed of a porous
tungsten matrix impregnated with ceramic oxide compounds.
Samarium Cobalt Permanent Magnets. The Company's samarium cobalt magnets are
sold as components primarily for microwave tube applications. Electron beams in
microwave tubes generated by the dispenser cathodes described above can be
controlled by the magnetic force provided by these powerful permanent magnets.
The magnets are generally small sub-components of microwave traveling wave
tubes.
Precision Ceramics. Ceradyne produces a wide variety of hot pressed Ceralloy(R)
ceramic compositions, precision diamond ground to close tolerances, primarily
for microwave tube applications. The interior cavities of microwave tubes often
require ceramic components capable of operating at elevated temperatures and in
high vacuums.
Automotive Market
Internal Combustion and Diesel Engine Components. The demand for higher
performance, cleaner burning, more efficient and more durable engines for
heavy-duty diesel trucks and automobiles creates additional opportunities for
advanced technical ceramics. The Company believes that if engines could be
produced using certain advanced technical ceramic components, they could be
lighter and last longer than those using metal components, and could operate at
higher temperatures and pressures with reduced cooling and lubrication
requirements. As a result, engines would use less fuel, achieve more complete
combustion thereby reducing emissions, and be less costly to maintain. Because
of these potential benefits, industry wide efforts are being made to replace
8
<PAGE>
selected metal components in heavy-duty diesel engines and fuel pumps with
advanced technical ceramic components.
Ceradyne has produced a number of prototype parts made from Ceradyne's
Ceralloy(R) 147 silicon nitride for evaluation and testing in internal
combustion and diesel engines. Ceradyne has been producing cam rollers for
heavy-duty diesel engines since 1999, and now has sole source contracts with two
major engine companies. Ceradyne also has a sole source contract with a fuel
systems manufacturer for components for a light duty diesel fuel pump. In
addition, Ceradyne has a development project in place with a number of engine
and fuel systems manufacturers world wide for various ceramic components.
Furthermore, Ceradyne is engaged in a joint development program with Ford to
develop ceramic components for automobile engines. Ford is not obligated to
purchase any minimum quantities of components developed under this program and
Ceradyne's efforts in this area are still in the experimental stage with future
success greatly dependent on achieving cost reductions while maintaining a high
quality level.
Marketing and Customers
Each of Ceradyne's three manufacturing locations maintains an autonomous sales
and marketing force promoting their individual products. The Company has more
than 12 employees directly involved in marketing, including a marketing manager
located in the United Kingdom who was hired in February, 2000, and a sales
manager located in Beijing, China, who was hired in January 2001. The Company
also has agreements with manufacturers' representatives in the United States and
other countries who are compensated as a percent of sales in their territory.
Ceradyne is focusing much of its marketing effort outside the United States
through direct involvement of senior management personnel from the Company's
U.S. facilities in concert with local manufacturing representatives. Revenues
from export sales represented approximately 11% of total net sales in 1999, 13%
in 2000 and 16% in 2001.
Generally, the Company sells components to contractors or original equipment
manufacturers. To a lesser extent, Ceradyne sells its products directly to the
end user. The Company sells its translucent ceramic orthodontic brackets only to
3M/Unitek pursuant to an exclusive marketing agreement with that customer. Sales
to 3M/Unitek represented approximately 18% of total net sales in 1999, 14% in
2000, and 18% in 2001. See "Risk Factors--Sales of Our Ceramic Orthodontic
Brackets Depend on Our Exclusive Marketing and Sales Relationship with Unitek, a
Division of 3M Corporation."
The Company continues to explore various domestic and international marketing,
and other relationships to increase its sales and market penetration.
Furthermore, Ceradyne is attempting to create long-term relationships with its
customers to promote a smoother, more predictable flow of orders and shipments
by entering into multi-year agreements or exclusive relationships where
possible.
Manufacturing Processes
Ceradyne has a number of manufacturing processes which are dedicated to specific
products and markets. These processes and the product applications are described
below.
Hot Pressing. The Company's hot pressing process is generally used to fabricate
ceramic shapes for lightweight ceramic armor and semiconductor equipment
components. Ceradyne has developed
9
<PAGE>
and constructed induction heated furnaces capable of operating at temperatures
exceeding 4000(Degrees)F in inert atmospheres at pressures up to 5000 lbs. per
square inch. This equipment enables Ceradyne to fabricate parts more than 26
inches in diameter, which is considered large for advanced technical ceramics.
Through the use of multiple cavity dies and special tooling, the Company can
produce a number of parts in one furnace during a single heating and pressing
cycle.
Ceradyne procures its raw materials (fine powders) from several outside
suppliers. After processing by the Company, the powders are either loaded
directly into the hot pressing molds or are shaped into preforms prior to
loading into the hot pressing molds. The powders are placed in specially
prepared graphite tooling, most of which is produced by Ceradyne. Heat and
pressure are gradually applied to the desired level, carefully maintained and
finally reduced. The furnace is removed from the press while cooling to permit
the press to be used with another furnace. For most products, approximately 20
hours are required to perform this cycle. The resultant ceramic product
generally has mechanical, chemical and electrical properties of a quality
approaching that only theoretically obtainable. Almost all products are then
finished by diamond grinding to meet precise dimensional specifications.
Sintering of Fused Silica Ceramics. Sintering of fused silica ceramics is the
process Ceradyne uses to fabricate fused silica ceramic shapes for applications
in glass tempering furnaces, metallurgical tooling and other industrial uses. To
fabricate fused silica ceramic shapes, fused silica powders are made into
unfired shapes through slip casting or other ceramic compaction processes. These
unfired "green" shapes are fired as they move through a continuously operated
150 foot long tunnel kiln at temperatures up to 2500(Degrees)F. The final shapes
are often marketed in the "as fired" condition or, in some cases, precision
diamond ground to achieve specific dimensional tolerances or surface finishes
required by certain customers. See "Business, Manufacturing Processes-Diamond
Grinding".
Ceramic-Impregnated Dispenser Cathode Fabrication. Ceramic-impregnated dispenser
cathode fabrication is used to produce cathodes for microwave power tube
applications. To produce ceramic-impregnated dispenser cathodes, both tungsten
metal powders and ceramic powders are used. The tungsten metal powders are
isostatically pressed in polymer tooling, removed and fired in special
atmospheres at temperatures in excess of 4000(Degrees)F. The tungsten billets
are machined into precision shapes with exacting tolerances. The tungsten
machined shapes are impregnated with a ceramic composite and fired at high
temperatures in special atmospheres. The ceramic impregnated components are
assembled and furnace brazed.
Final processing includes the insertion of a metal heating element within a
ceramic insulating compound and the addition of an extremely thin layer of
precious metals to the surface. The Company's final quality inspection often
includes a test of the cathode's electron emitting capabilities at normal
operating temperatures.
Sintering and Reaction Bonding of Silicon Nitride. The sintering of reaction
bonding silicon nitride results in the Company's Ceralloy(R) 147 SRBSN, which is
used in industrial and automotive applications. Ceradyne's SRBSN is based on
technology acquired from Ford. See "Strategic Relationships". This SRBSN process
begins with relatively inexpensive high purity elemental silicon (Si) powders,
which contrasts sharply with most other competitors' manufacturing techniques
which start with relatively more expensive silicon nitride (Si\\3\\N\\4\\)
powders.
10
<PAGE>
After additives are incorporated by milling and spray drying, the silicon
powders are formed into shapes through conventional ceramic processing such as
dry pressing. These shapes are then fired in a nitrogen atmosphere which
converts the silicon part to a silicon nitride part. At this step (reaction
bonding), the silicon nitride is pressure sintered in an inert atmosphere
increasing the strength of the component threefold. As a result of SRBSN
processing, the ceramic crystals grow in an intertwining "needle-like" fashion
which the Company has named NeedleLokTM. Ceradyne's NeedleLokTM structure
results in a tough, high fracture energy part. The process is economical due to
the low cost of the starting powders and can be used to produce extremely high
production volumes of parts due to the use of conventional pressing processes.
Fabrication of Translucent Ceramics (Transtar(R)). Ceradyne produces translucent
aluminum oxide (Transtar(R)) components primarily for use as orthodontic ceramic
brackets. The high purity powders are purchased from outside vendors and
processed by dedicated conventional ceramic mechanical dry presses. The formed
blanks are then fired in a segregated furnace in a hydrogen atmosphere at
3272(Degrees)F until the ceramics enter into a strong translucent condition.
These fired aesthetic brackets then have certain critical features diamond
ground into them. The final step is a proprietary treatment of the bonding side
in order to permit a sound mechanical seal when bound to the patient's teeth.
Diamond Grinding. Many of Ceradyne's advanced technical ceramic products must be
finished by diamond grinding because of their extreme hardness. The Company's
finished components typically are machined to tolerances of **.001 inch and
occasionally are machined to tolerances up to **.0001 inch. To a limited
extent, the Company also performs diamond grinding services for customers
independently of its other manufacturing processes to specifications provided by
the customer. The Company's diamond grinding department can perform surface
grinding, diameter grinding, ultrasonic diamond grinding, diamond lapping,
diamond slicing and honing. The equipment includes manual, automatic and
computer numerically controlled (CNC) grinders. The CNC grinders have been
specially adapted by the Company for precision grinding of ceramic contours to
exacting tolerances.
Fabrication of Samarium Cobalt Permanent Magnets. The fabrication of samarium
cobalt permanent magnets results in various magnet shapes which are primarily
used in microwave tube applications. The Company procures premixed samarium
cobalt powder either as SmCo\\5\\ or Sm\\2\\Co\\17\\ compositions. The powders
are then milled and formed into the final configuration by pressing in a
magnetic field using a specially designed magnet press. These "pre-fire" or
"green" magnets are then sintered at 2000(Degrees)F in helium or vacuum. The
magnets may then be subsequently diamond ground and characterized as to each
individual magnet's strength.
Raw Materials. The starting raw materials for Ceradyne's manufacturing
operations are generally fine, man-made powders available from several domestic
and foreign sources. The raw materials, such as KevlarTM, graphite, metal
components and ceramic powders are readily available from several commercial
sources.
Quality Control. Ceradyne products are made to a number of exacting
specifications. In order to meet both internal quality criteria and customer
requirements, the Company has implemented a number of quality assurance and
in-process statistical process control programs. These quality programs are
implemented separately at each of Ceradyne's three manufacturing locations. The
Company's Thermo Materials Division in Scottdale, Georgia received its ISO 9002
Certification in
** means plus or minus
11
<PAGE>
1997. The Company's Advanced Ceramic Operations in Costa Mesa, California
received its ISO 9001 Certification in 1998.
Engineering and Research
Ceradyne's engineering and research efforts consist of applications engineering
in response to customer requirements, in addition to new materials and product
development performed by its Research and Development Department. These efforts
are directed toward the creation of new products, the modification of existing
products to fit specific customer needs, or the development of enhanced ceramic
process technology. The Company is also engaged in research to develop new
products. Costs associated with application engineering and research are
generally expensed as incurred and are included in cost of product sales, or in
Research and Development expense. Costs associated with research were
approximately $1,580,000 in 2001, $1,610,000 in 2000 and $878,000 in 1999. The
totals consist of $1,083,000, $1,252,000 and $597,000 from the Research and
Development Department, and $497,000, $358,000 and $281,000 from the Engineering
Department (included in cost of product sales) for the years ended December 31,
2001, 2000 and 1999, respectively.
Competition
Ceradyne competes on the basis of product performance, material specifications,
applications engineering capabilities, customer support, reputation and price.
Competitive pressures vary in each specific product market, depending on the
product and program. In many instances, the competitors are well-known companies
with greater financial, marketing and technical resources than Ceradyne.
Ceradyne intends to continue to focus on selected business areas in which it can
exploit its technological, manufacturing and marketing strengths. Some of
Ceradyne's competitors are divisions of larger companies, with each of
Ceradyne's product lines subject to completely different competitors. Some of
the competitors of the Company include Kyocera Corporation's Industrial Ceramics
Group, Vesuvius, Cercom, CoorsTek, Inc., Spectra-Mat, and others. In many
applications, the Company also competes with manufacturers of non-ceramic
materials. For future automotive applications, there is a wide range of both
current and potential domestic and international competitors. See "Risk
Factors--The Advanced Technical Ceramic Markets are Highly Competitive."
Backlog
Ceradyne records an item as backlog when it receives a contract or purchase
order indicating the number of units to be purchased, the purchase price,
specifications and other customary terms and conditions. Ceradyne customarily
includes unexercised options as a separate item in its backlog because the
purchase orders are given on the basis of the total order, including options.
Total backlog as of December 31, 2001 was approximately $28.1 million,
consisting of $26.4 million of firm scheduled orders and $1.7 million of
unexercised options. As of December 31, 2000 total backlog approximated $26.7
million, consisting of $26.0 million of firm scheduled orders and $.7 million of
unexercised options. Typically, firm orders are scheduled to be shipped within
12 to 18 months from receipt of order.
12
<PAGE>
Patents, Licenses and Trademarks
The Company relies primarily on trade secrecy to protect compositions and
processes that it believes are proprietary. In certain cases, the disclosure of
information concerning such compositions or processes in issuing a patent could
be competitively disadvantageous. However, management believes that patents are
important for technologies where trade secrecy alone is not a reliable source of
protection. Accordingly, Ceradyne has applied for, or has been granted, several
United States patents relating to compositions, products or processes that
management believes are proprietary, including lightweight ceramic armor.
Two U.S. patents have been issued to the Company relating to translucent
ceramics for orthodontic brackets. The earliest of these patents expires in
2007. These patents are co-invented and co-owned by Ceradyne and 3M/Unitek.
Ceradyne and 3M/Unitek have granted licenses to eight companies whose ceramic
orthodontic brackets infringe the Ceradyne-3M/Unitek patents, wherein those
companies pay royalties to Ceradyne and 3M/Unitek based on sales of their
orthodontic ceramic brackets for the remaining life of the patents. See "Risk
Factors--We May Be Adversely Affected If We Are Unable To Adequately Safeguard
Our Intellectual Property or If We Infringe Others' Intellectual Property."
Through its association with Ford, Ceradyne acquired in excess of 80 U.S.
patents, of which 4 are still active, and corresponding foreign patents and
applications relating to technical ceramics for automotive technology. The last
of these patents will expire in August 2007. See "Strategic Relationships".
In addition to the above, Ceradyne has been issued 18 U.S. patents and has 6
patents pending and has applied for corresponding foreign patents in various
foreign countries. The earliest of these patents expires in 2002.
"Ceralloy(R)", the name of Ceradyne's technical ceramics, "Ceradyne(R)" and the
Ceradyne logo, comprising the stylized letters "CD(R)", are major trademarks of
the Company which have been registered in the United States and various foreign
countries. The Company also has other trademarks, including "Transtar(R)",
"Semicon(R)", "Thermo(R)", "Netshape(R)", "Defender(R)", "NeedleLok(TM)", and
"Ramtech(TM)".
Employees
At December 31, 2001, Ceradyne employed approximately 463 persons versus 405 in
the prior year. Management considers its employee relations to be excellent. The
Company has not experienced difficulty in attracting personnel. None of the
Company's employees are represented by a labor union.
RISK FACTORS
This annual report on Form 10-K contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. Our actual results may differ materially from
the results projected in the forward-looking statements. Factors that might
cause such a difference include, but are not limited to, the following:
13
<PAGE>
We Must Successfully Increase Manufacturing Capacity and Improve Product
Yields or Our Gross Margins and Profitability May Suffer
Recently we have experienced a substantial increase in orders for ceramic armor
vests for military personnel and for cam rollers for diesel engines. We
currently expect that demand for these products will require us to increase our
production of ceramic armor vests in 2002 by approximately four fold over 2001,
and increase production of cam rollers in 2002 by approximately ten fold over
2001. During 2001, we invested in capital expenditures to increase production
capacity for these two products, and we expect to make additional capital
expenditures in 2002 to further expand our capacity. Even with these additions
to production capacity there can be no assurance that we will be able to
manufacture the required quantities of these products in a timely manner or on a
profitable basis. In order to successfully satisfy customer demand for these
products while achieving acceptable profits, we must:
. Add manufacturing capacity and personnel;
. Achieve significant manufacturing cost reductions; and
. Improve product yields.
We expect that the inefficiencies inherent with the rapid ramp up in our
manufacturing volumes will put pressure on our gross profit margins in 2002,
particularly in the first quarter. Thereafter we expect gross profit margins to
gradually improve as we increase our product yields and manufacturing
efficiencies. However, there can be no assurance that the gross profit margins
we ultimately achieve on higher volumes of these products will be comparable to
our historical gross profit margins, especially in the automotive product line
of ceramic cam rollers for diesel engines.
We Must Successfully Develop and Market New Products; We Have Limited
Volume Manufacturing Experience for Products Under Development
Our future prospects will depend to a large extent on the success of products
which currently provide little revenue or which remain under development. These
products include:
. semiconductor equipment components;
. ceramic components for automobile engines.
The semiconductor industry has been flat for the past year; however, we are
supplying high density and high purity nitride and carbide ceramic components to
the semiconductor wafer processing equipment companies. Our Research and
Development group is continually working with semiconductor equipment suppliers
to tailor our ceramic materials to meet new equipment requirements.
Approximately 4% of our revenue for the year ended December 31, 2001 was derived
from advanced technical ceramic components shipped to semiconductor equipment
companies.
We are developing ceramic automotive engine components based on our belief that
a significant market for these products will emerge. However, predicting future
demand for such components is fraught with uncertainties. This is a new and
evolving market and advanced technical ceramics are
14
<PAGE>
not currently used in any significant automobile applications. It is possible
that such applications will never emerge.
Even if a market emerges, our efforts to produce ceramic components for
automobile engines remain in an early stage. To successfully produce these
components, we must significantly lower manufacturing costs and develop high
volume manufacturing capabilities while maintaining component quality. If we
meet our production goals, it typically takes several years to introduce new
materials and components into production automobiles. Thus, demand for these
products and our ability to service such demand are subject to a high degree of
uncertainty.
Failure to Manage Our Growth Could Adversely Affect Us
The increase in orders for ceramic armor vests for military personnel and cam
rollers for diesel engines, as well as the introduction of new products, is
placing, and will continue to place, a significant strain on our resources and
personnel. To continue our growth, we must increase our production capacity for
our existing products and introduce new products that apply our core advanced
technical ceramic technologies. Managing this growth will strain our
operational, financial and managerial resources into the foreseeable future.
To effectively manage growth, we must:
. add manufacturing capacity and personnel;
. continue to implement and improve our operational, financial and
management information systems;
. develop the management skills of our managers and supervisors;
. add new management personnel and improve the expertise of existing
management personnel; and
. train, motivate and manage our employees.
Any failure to effectively manage growth could have material adverse effects on
our business, operating results and financial condition.
We Depend on Joel P. Moskowitz and Our Other Key Personnel
Our success largely depends on the continued service of our principal managers.
Many of these managers, and in particular Joel P. Moskowitz, who is Chairman,
Chief Executive Officer and President, and a principal stockholder of Ceradyne,
would be extremely difficult to replace. We also depend on other key personnel,
and our ability to attract, motivate and retain highly qualified personnel.
Competition for skilled employees is intense and there can be no assurance that
we will be able to recruit and retain such personnel. If we are unable to retain
our existing managers and employees or hire and integrate new employees, it
could have material adverse effects on our business, operating results and
financial condition.
15
<PAGE>
The Advanced Technical Ceramics Markets Are Highly Competitive
The markets for applications of advanced technical ceramics are competitive. We
believe the principal competitive factors in these matters are:
. product performance;
. material specifications;
. application engineering capabilities;
. customer support;
. reputation; and
. price
At present, while we believe that we compete favorably with respect to these
factors, this may change. If we fail to address our competitive challenges,
there could be material adverse effects on our business, financial condition and
results of operations.
Our competitors include divisions of larger companies and manufacturers of
non-ceramic materials. Many of these competitors, both domestic and
international, have greater financial, marketing and technical resources than we
do. Our primary competitors include Kyocera Corporation's Industrial Ceramics
Group, Vesuvius, Cercom, CoorsTek, Inc., Spectra-Mat, and others. Not only do we
compete with many large companies, but each of our product lines compete with
completely different companies.
We cannot guaranty that we will be able to compete successfully against our
current or future competitors or that competition will not have material adverse
effects on our business, operating results and financial condition.
We Could Be Liable for Violations of Environmental Laws and Regulations
We are subject to a variety of environmental regulations relating to the use,
storage, discharge and disposal of hazardous materials used to manufacture our
products. Authorities could impose fines, suspend production, alter our
manufacturing processes, or stop our operations if we do not comply with these
regulations.
In the past, we produced certain products using beryllium oxide, which is highly
toxic in powder form. This powder, if inhaled, can cause chronic beryllium
disease in a small percentage of the population. We have been sued in the past
by former employees and by employees of one of our customers and by their family
members alleging that they had contracted chronic beryllium disease as a result
of exposure to beryllium oxide powders used in our products. All of these claims
have been dismissed without incurring material liability. We cannot guaranty
that we will avoid future liability to persons who may allege that they
contracted chronic beryllium disease as a result of exposure to beryllium oxide
utilized by Ceradyne in prior years.
While we believe we are in material compliance with all applicable environmental
statutes and regulations, any failure to comply with current or subsequently
enacted statutes and regulations could subject us to liabilities, fines or the
suspension of production. Furthermore, any claims asserted against
us in the future related to exposure to beryllium oxide powder may not be
covered
16
<PAGE>
by insurance. Even if covered, the amount of insurance may be inadequate to
cover any adverse judgment.
Fines and other punishments imposed in connection with environmental violations
and expenses related to remediation or compliance with environmental regulations
and future liability for incidences of chronic beryllium disease contracted by
employees or employees of customers could have material adverse effects on our
business, operating results and financial condition.
We Depend Upon Sales to Agencies of the United States Government; We Face
the Risk That a Key Government Contract May be Terminated
We have a $28.1 million backlog of orders as of December 31, 2001. Of this
amount, approximately $11.1 million, or 40%, represents orders for defense
applications. These orders are closely tied to the level of U.S. defense
spending. Certain contracts for armor or radomes are directly or indirectly with
agencies of the United States government. Moreover, we anticipate that a
significant percentage of our revenues for the foreseeable future will derive
from direct or indirect sales to government agencies.
Under U.S. law, defense-related contracts may be canceled by the government for
convenience at any time and without cause. If that happens, we receive
reimbursement only for the expenses we actually incurred. Any such cancellations
could have material adverse effects on our business, operating results and
financial condition.
Sales of our Ceramic Orthodontic Brackets Depend on Our Exclusive Marketing
and Sales Relationship with Unitek, a Division of 3M Corporation
We developed our translucent ceramic orthodontic bracket pursuant to a joint
development agreement with Unitek. We sell this product only to Unitek pursuant
to an exclusive marketing agreement, which expires in 2007. Consequently, our
sales of this product depend entirely on Unitek's marketing and sales efforts.
We cannot guaranty that Unitek will devote substantial marketing efforts to
sales of our orthodontic products, or that Unitek will not reassess its
commitment to our technologies or develop its own competitive technologies. If
Unitek fails to actively market our orthodontic brackets, there may be material
adverse effects on our business, operating results and financial condition.
We Depend on Our International Sales; We are Subject to Risks Associated
with Operating in International Markets
Shipments to customers outside of the United States accounted for approximately
11% of our sales in 1999, 13% in 2000, and 16% in 2001. We anticipate that
international shipments will account for a significant portion of our sales for
the foreseeable future. Therefore, the following risks associated with
international business activities could have material adverse effects on our
performance:
. burdens to comply with multiple and potentially conflicting foreign laws
and regulations, including export requirements, tariffs and other
barriers, health and safety requirements, and unexpected changes in any
of the foregoing;
17
<PAGE>
. difficulty in obtaining export licenses from the U.S. government;
. differences in intellectual property protections;
. longer accounts receivable payment cycles;
. potentially adverse tax consequences due to overlapping or differing tax
structures;
. fluctuations in currency exchange rates; and
. risks associated with sales to foreign government agencies similar to the
risks associated with dealing with U.S. government agencies.
We have traditionally invoiced our foreign sales in U.S. dollars. Accordingly,
we do not currently engage in foreign currency hedging transactions that could
protect against the risk of currency fluctuations. This approach could pose
risks. If the U.S. dollar were to become more expensive relative to the
currencies of our foreign customers, the price of our products in those
countries rises and our sales into those countries, or our profitability within
those countries, may fall.
Future international activity may require that we denominate foreign sales in
the local currencies of our customers. In that case, if the U.S. dollar were to
become more expensive relative to the currencies of our foreign customers, we
would receive fewer U.S. dollars for each unit of foreign currency that we
receive when our customers pay us. Therefore, a more expensive U.S. dollar would
cause us to incur losses upon the conversion of accounts receivable denominated
in foreign currencies. Such losses could harm our results of operations
We cannot export some of our products to certain foreign countries without an
export license obtained from the U.S. government. We have experienced difficulty
in obtaining licenses to export our products to certain countries. Similar
difficulties may arise again in the future. If any of the above risks emerge,
there may be material adverse effects on our business, operating results and
financial condition.
We May be Adversely Affected If We Are Unable to Adequately Safeguard Our
Intellectual Property or If We Infringe on Other's Intellectual Property
We rely on a combination of patents, trade secrets, trademarks, and other
intellectual property law, nondisclosure agreements and other protective
measures to preserve our proprietary rights to our products and production
processes. These measures afford only limited protection and may not preclude
competitors from developing products or processes similar or superior to ours.
Moreover, the laws of certain foreign countries do not protect intellectual
property rights to the same extent as the laws of the United States.
Although we implement protective measures and intend to defend our proprietary
rights, there can be no assurance that these efforts will succeed. We may have
to litigate within the United States or abroad to enforce patents issued or
licensed to us, to protect trade secrets or know-how owned by us or to determine
the enforceability, scope and validity of our proprietary rights and the
proprietary rights of others. Enforcing or defending our proprietary rights
could be expensive and might not bring us timely and effective relief.
Furthermore, there can be no assurance that our products or processes are not in
violation of the patent rights of third parties, or that any of our patents will
not be challenged, invalidated or circumvented. Although there are no pending or
threatened intellectual property lawsuits against
18
<PAGE>
us, we may face litigation or infringement claims in the future. Infringement
claims could result in substantial costs and diversion of our resources even if
we ultimately prevail. A third party claiming infringement may also obtain an
injunction or other equitable relief, which could effectively block the
distribution or sale of allegedly infringing products. Although we may seek
licenses from third parties covering intellectual property that we are allegedly
infringing, we cannot guarantee that any such licenses could be obtained on
acceptable terms, if at all.
If we fail to adequately protect our intellectual property, or if we face claims
for infringement on the intellectual property of third parties, there may be
material adverse effects on our business, operating results, and financial
condition.
Item 2. Properties
----------
The Company serves its markets from manufacturing facilities in three locations
across the United States. The Company's Advanced Ceramic Operations, located in
Costa Mesa and Irvine, California, primarily produces armor and orthodontic
products, components for semiconductor equipment, and houses the Company's SRBSN
research and development activities. The Company's cathode development and
production are handled through its Semicon Associates division located in
Lexington, Kentucky. Fused silica products, including missile radomes, are
produced at the Company's Thermo Materials division located in Scottdale,
Georgia. The facilities at these locations comprise approximately 126,000,
35,000 and 85,000 square feet, respectively. The Company's Costa Mesa, Irvine
and Scottdale facilities are held under leases which expire in October 2005,
January 2007, and October 2015, respectively. The Company owns its Lexington,
Kentucky facility, which is on a five acre property with room for expansion.
Ceradyne's manufacturing structure is summarized in the following table:
<TABLE>
<CAPTION>
==============================================================================================
FACILITY LOCATION PRODUCTS
- ----------------------------------------------------------------------------------------------
<S> <C>
Advanced Ceramic Operations . Semiconductor Equipment Components
Costa Mesa and Irvine, California . Lightweight ceramic armor
Approximately 126,000 square feet . Orthodontic ceramic brackets
. Ceralloy(R) 147 SRBSN wear parts
. Precision ceramics
. Ceralloy(R) 147 SRBSN diesel/automotive engine parts
. Research and Development
- ----------------------------------------------------------------------------------------------
Semicon Associates . Microwave ceramic-impregnated dispenser cathodes
Lexington, Kentucky . Ion laser ceramic-impregnated dispenser cathodes
Approximately 35,000 square feet . Samarium cobalt magnets
- ----------------------------------------------------------------------------------------------
Thermo Materials . Glass tempering rolls (fused silica ceramics)
Scottdale, Georgia . Metallurgical tooling (fused silica ceramics)
Approximately 85,000 square feet . Missile radomes (fused silica ceramics)
. Castable and other fused silica products
==============================================================================================
</TABLE>
19
<PAGE>
Item 3. Legal Proceedings
-----------------
The Company is, from time to time, involved in various legal and other
proceedings that relate to the ordinary course of operating its business,
including, but not limited to, employment-related actions and workers'
compensation claims.
From October 1995 through November 2000, the Company, along with other
companies, was served with eight different complaints that were filed by eleven
former employees of one of the Company's customers, and eight spouses. The
complaints, all filed in the United States District Court, Eastern District of
Tennessee, alleged that the customers' employees contracted chronic beryllium
disease as a result of their exposure to beryllium-containing products sold by
Ceradyne and other companies. As of December 7, 2001, all of these cases had
been terminated without liability to Ceradyne; summary judgment in favor of
Ceradyne was granted in seven cases, and the other one case was dismissed
voluntarily by the plaintiff without prejudice to file the suit in the future.
On December 21, 2001, the Company was served with a complaint filed by the
Company's insurance carrier in the Superior Court of California in Santa Ana,
California. The complaint seeks a declaration that the Company is obligated to
reimburse the insurance carrier for defense expenses that the insurance carrier
has or will pay on behalf of the Company's prior lessor. The lessor was sued by
an employee of the Company alleging he contracted chronic beryllium disease
while employed at the lessor's facility in the 1980's. The Company's insurance
carrier has or will pay the lessor's defense costs under a reservation of rights
to seek reimbursement from the Company if it is determined by the Court that the
Company's insurance carrier is not obligated to pay.
The Company believes that the insurance carrier's claim is without merit and is
vigorously defending against this claim. The case is in the early stage of
discovery and no trial date has been set. The complaint does not state the
amount of legal expenses for which reimbursement is sought, but the Company
believes that the resolution of this matter will not have a material adverse
effect on the financial condition or operations of the Company.
Item 4. Submission of matters to a vote of security holders
---------------------------------------------------
Not applicable.
20
<PAGE>
MANAGEMENT
Executive Officers of the Registrant.
The executive officers of the Company as of March l5, 2002 are as follows:
Name Age Position
- -------------------------- --- --------
Joel P. Moskowitz ........ 62 Chairman of the Board, President and Chief
Executive Officer
Earl E. Conabee .......... 64 Vice President, and Director of Marketing
at Thermo Materials
Howard F. George ......... 57 Vice President Finance, Chief Financial
Officer and Secretary
David P. Reed ............ 47 Vice President, and General Manager of
Advanced Ceramic Operations
Joel P. Moskowitz co-founded the Company's predecessor in 1967. He served
as President of the Company from 1974 until January 1987, and from September
1987 to the present. Mr. Moskowitz currently serves as Chairman of the Board,
President and Chief Executive Officer of the Company, which positions he has
held since 1983. Mr. Moskowitz currently serves on the Board of Trustees of
Alfred University. Mr. Moskowitz obtained a B.S. in Ceramic Engineering from
Alfred University in 1961 and an M.B.A. from the University of Southern
California in 1966.
Earl E. Conabee joined the Company in July 1985, and has served as Vice
President of the Company since June 1986. Mr. Conabee serves as Vice President
of Marketing for the Company's Thermo Materials division, where he is
responsible for the overall marketing and sales effort for fused silica
ceramics. Prior to joining the Company, Mr. Conabee served as General Manager of
Ceramatec, a manufacturer of technical ceramics, from 1983 to 1985, and as
Director of Refinery Operations for Englehard Minerals Corporation from 1973 to
1983. Mr. Conabee obtained a B.S. in Ceramic Engineering from Alfred University
in 1960.
Howard F. George joined the Company in December 1995 and serves in the
positions of Vice President Finance, Chief Financial Officer, and Corporate
Secretary. Prior to joining Ceradyne, Mr. George was Chief Financial Officer of
Richmond Technology, Inc. and Chief Operating Officer of its subsidiary, Static
Control Services from 1992 to 1995. From 1990 to 1992, Mr. George was Vice
President of Finance for Sunset Richards, a subsidiary of Hanson, PLC. Prior to
the above, Mr. George has had management positions at Advanced Controls, Inc.,
Bausch & Lomb, Inc., and TRW, Inc. Mr. George earned his B.A. degree in Business
and Economics in 1970 at California State University Long Beach, and an MBA from
Pepperdine University, Malibu in 1980.
David P. Reed joined the Company in November 1983, and has served as Vice
President since January 1988. Mr. Reed is responsible for the operations,
finances and marketing of the Company's Costa Mesa, California operations. Prior
to joining the Company, Mr. Reed served as Manager, Process Engineering for the
Industrial Ceramic Division of Norton Co. from 1980 to 1983. Mr. Reed obtained a
B.S. in Ceramic Engineering from Alfred University in 1976 and an M.S. in
Ceramic Engineering from the University of Illinois in 1978.
Officers serve at the discretion of the Board of Directors.
21
<PAGE>
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
-----------------------------------------------------------------
Matters
-------
The Company's Common Stock is traded on the Nasdaq National Market under the
symbol CRDN. The following table sets forth for the calendar quarters indicated
the high and low closing sale prices per share on the National Market as
reported by Nasdaq. As of December 31, 2001, the Company had approximately 426
record holders of its Common Stock.
High Low
---- ---
Year ended December 31, 2001
First Quarter 10.06 6.63
Second Quarter 9.42 6.95
Third Quarter 8.53 6.45
Fourth Quarter 11.43 8.10
Year ended December 31, 2000
First Quarter 9.88 4.38
Second Quarter 11.75 6.63
Third Quarter 10.50 7.50
Fourth Quarter 9.50 5.88
The present policy of Ceradyne is to retain earnings for the operation and
expansion of its business. Ceradyne has never paid cash dividends, and
management does not anticipate that it will do so in the foreseeable future.
The Company did not sell any equity securities during the year ended December
31, 2001 that were not registered under the Securities Act of 1933.
22
<PAGE>
Item 6. Selected Financial Data
-----------------------
Statements of Operations Data: (Amounts in thousands, except per share data)
- -----------------------------
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------
2001 2000 1999 1998 1997
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net sales $45,339 $45,930 $30,382 $26,279 $28,693
Cost of product sales 32,852 33,743 23,674 21,292 23,274
------- ------- ------- ------- -------
Gross profit 12,487 12,187 6,708 4,987 5,419
------- ------- ------- ------- -------
Operating expenses:
Selling 2,036 1,605 1,480 1,494 1,515
General and administrative 4,897 4,456 3,400 3,239 3,660
Research and development 1,083 1,252 597 344 ---
------- ------- ------- ------- -------
8,016 7,313 5,477 5,077 5,175
------- ------- ------- ------- -------
Income (loss) from operations 4,471 4,874 1,231 (90) 244
Other income (expense):
Other income 392 357 344 382 265
Interest expense (26) (34) (16) --- (134)
------- ------- ------- ------- -------
366 323 328 382 131
------- ------- ------- ------- -------
Income before provision (benefit) for
income taxes 4,837 5,197 1,559 292 375
Provision (benefit) for income taxes 808 104 (44) 10 (1,675)
------- ------- ------- ------- -------
Net income $ 4,029 $ 5,093 $ 1,603 $ 282 $ 2,050
======= ======= ======= ======= =======
Basic net income per share $ 0.48 $ 0.62 $ 0.20 $ 0.04 $ 0.26
======= ======= ======= ======= =======
Diluted net income per share $ 0.46 $ 0.61 $ 0.20 $ 0.04 $ 0.26
======= ======= ======= ======= =======
Weighted average shares
Outstanding--diluted 8,713 8,395 8,189 8,068 8,035
<CAPTION>
Balance Sheet Data: December 31,
- ------------------- ------------
2001 2000 1999 1998 1997
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Working capital $23,167 $20,883 $15,156 $15,051 $15,327
Total assets 47,951 38,463 32,893 29,493 29,017
Long-term obligations 158 258 358 --- ---
Stockholders' equity $39,657 $34,989 $29,137 $27,352 $26,760
</TABLE>
23
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and Results
-----------------------------------------------------------------------
of Operations
-------------
Overview
The Company's technology was developed primarily for defense and aerospace
applications, which have historically represented and continue to represent a
substantial portion of its business. Utilizing this historical base, the Company
has transitioned over several years to a more balanced product offering,
including industrial, consumer, microwave tube products, automotive,
semiconductor, and defense applications.
The Company's cost of product sales includes the cost of materials, direct labor
expenses and manufacturing overhead expenses. The Company's business requires
that it maintain a relatively high fixed manufacturing overhead. As a result,
the Company's gross profit, in absolute dollars and as a percentage of net
sales, is greatly impacted by the Company's sales volume and the corresponding
absorption of fixed manufacturing overhead expenses. Furthermore, due to the
customized nature of many of its products, the Company is frequently required to
devote resources to sustaining engineering expenses, which are also included in
cost of product sales and are expensed as incurred.
The Company is in the process of experiencing significant volume increases at
Advanced Ceramic Operations in Costa Mesa, California. Facility expansion and
the increases in production personnel will put pressure on gross profit margins
in the start-up period, particularly the first quarter of 2002.
Results of Operations
The percentage relationships to net sales of certain income and expense items
for the three years ended December 31, 2001, 2000 and 1999 are contained in the
following table.
Years Ended December 31
-----------------------
2001 2000 1999
---- ---- ----
Net sales 100.00% 100.00% 100.00%
Cost of product sales 72.46 73.47 77.92
------- ------- -------
Gross profit 27.54 26.53 22.08
------- ------- -------
Operating expenses:
Selling 4.49 3.49 4.87
General & administrative 10.80 9.70 11.19
Research & Development 2.39 2.73 1.97
------- ------- -------
17.68 15.92 18.03
------- ------- -------
Income from operations 9.86 10.61 4.05
Other income .86 .78 1.14
Interest expense (.05) (.07) (.05)
------- ------- -------
Income before provision
for income taxes 10.67 11.32 5.14
Provision (benefit) for income taxes 1.78 .23 (.14)
------- ------- -------
Net income 8.89% 11.09% 5.28%
======= ======= =======
24
<PAGE>
Years Ended December 31, 2001 and 2000
Net Sales. Net sales for the year ended December 31, 2001 were $45.3 million, a
decrease of $.6 million, or 1.3% compared to the prior year.
Advanced Ceramic Operations in Costa Mesa, California, had a decrease in sales
for the year ended December 31, 2001 of $.2 million as compared to the year ago
period. The sales decrease was mainly in ceramic armor for defense customers due
to the delay of armor vest orders, which were not received until late in the
fourth quarter. Also, sales of semiconductor products decreased from the prior
year because of the downturn in this industry. However, these sales decreases
were nearly offset by growth in orthodontic products due to an increasing demand
by orthodontists for our translucent ceramic brackets. Also, sales increased for
the Research and Development contracts awarded by the Department of Defense over
the prior year.
The Company's Semicon Associates Division in Lexington, Kentucky, posted a sales
increase of $.5 million. Increases were mainly due to demand by the Company's
customers for dispenser cathodes, which are used in microwave tubes for radar
and satellite communications. In addition, sales increases were due to modest
price increases and a contract award from the Department of Defense.
Additionally, the Company's Thermo Materials Division in Scottdale, Georgia,
posted a sales decrease of $.9 million as compared to the prior year period. The
decrease in sales was mainly caused by less demand for fused silica products due
to downsizing domestically by the glass, steel and aluminum making industries.
International sales have been, and are expected to be, an important part of the
Company's business, representing 16% of total sales for the year ended 2001 as
compared to 13% in 2000. The reasons for the increase were due to the Company's
relatively new sales efforts in England and China, and increases in armor
components for Israel.
Gross Profit. The Company's gross profit was $12.5 million, or 28% of net sales,
for the year ended December 31, 2001, compared to $12.2 million, or 27% of net
sales, for the prior year. The increase in gross profit for the year ended
December 31, 2001 as compared to the prior year was $.3 million or 2%.
The Company's Advanced Ceramic Operations in Costa Mesa, California, posted
gross profit of $9.2 million compared to $8.4 million, or a 10% increase over
the prior year. The favorable results were mainly due to higher volume of parts
and higher capacity utilization resulting in economies of scale. However, the
Company recently leased a new facility containing approximately 41,000 square
feet, most of which will be used for manufacturing, and it will take time to
absorb this additional capacity and realize the same level of economies of scale
as were achieved in 2001. Moreover, the Company is experiencing poor product
yields and other manufacturing inefficiencies as production capacities are being
increased to meet rising demand for personal armor and diesel engine components.
Consequently, gross profit margins are expected to decrease in the first six
months of 2002 as compared to 2001, but gradually improve thereafter. However,
gross profit dollars are expected to be higher in 2002 as compared to 2001
because of increases in sales volume.
25
<PAGE>
Semicon Associates in Lexington, Kentucky, posted gross profit of $2.4 million,
compared to $1.7 million, or a 41% increase over the prior year. The increase
over the prior year is attributed to better quality and process control and
greater capacity utilization and is being partially funded by a contract
award from the Department of Defense. The mission of this Department of Defense
Production Act Title III Program is to create assured, affordable and
commercially viable production capabilities for items essential for national
defense. Additionally, modest price increases were contributing factors. The
Company expects the trend of gross profit as a percent of sales to stabilize.
Thermo Materials in Scottdale, Georgia, posted gross profit of $.9 million,
compared to $2.1 million, or a 57% decrease over the prior year. The decreases
were attributable to lower production volume and to a process control problem in
fused silica products. The process control concern has subsequently been
corrected by diligent testing of raw materials.
Selling Expenses. Selling expenses were $2.0 million for the year ended December
31, 2001, as compared to $1.6 million in the prior year. Salary and personnel
increases, commissions and travel account for the increased selling expenses.
General and Administrative Expenses. General and administrative expenses were
$4.9 million for the year ended December 31, 2001, a $.4 million increase from
the prior year. Salary and personnel increases accounted primarily for the
increased expenses.
Research and Development Expenses. Research and development expenses were
approximately $1.1 million for the year ended December 31, 2001, as compared to
$1.3 million for the prior year. The expenses incurred for both years are
related to wages for engineering, technicians and production personnel,
materials, outside services, small tools and travel. Approximately $.9 million
of Research and Development cost is in Cost of Sales due to Small Business
Innovation Research (SBIR) grants, which are recorded as sales.
In addition, the Company historically has and continues to engage in application
engineering and internally funded research to improve and reduce the cost of
production and to develop new products. The costs associated with application
engineering and research are expensed as incurred and are included in cost of
product sales.
Other Income. Other income was $392,000 and $357,000 for the years ended 2001
and 2000, respectively. An increase in royalty income over the prior year due to
greater demand for orthodontic brackets and miscellaneous scrap income was
partially offset by a decrease in interest income due to less cash reserves.
Interest Expense. Interest expense was $26,000 for the year ended December 31,
2001, compared to $34,000 in the prior year.
Income Taxes. The Company made a fourth quarter year-to-date adjustment to its
tax provision based upon the pre-tax income for the full year of 2001. The
Company used a combined Federal and State tax rate of 16.7% for the twelve
months ended December 31, 2001, resulting in a provision for taxes of $808,000.
Because the Company used an estimated combined tax rate of 25% for the nine
months ended September 30, 2001, which resulted in a tax provision of
$1,034,000, the Company reported a tax provision credit in the fourth quarter of
$226,000. The decrease in the tax provision was the result of decreasing gross
profit in the fourth quarter, mainly
26
<PAGE>
from the tardiness in armor orders received late in the fourth quarter for
Advanced Ceramic Operations.
Net Income. Reflecting all of the matters discussed above, net income was $4.0
million (or $0.48 per share basic and $0.46 diluted) for the year ended December
31, 2001 compared to a net income of $5.1 million (or $.62 per share basic and
$.61 per share diluted) for the prior year.
Years Ended December 31, 2000 and 1999
Net Sales. Net sales for the year ended December 31, 2000 were $45.9 million, an
increase of $15.5 million, or 51% compared to the prior year.
The increase in sales was primarily attributable to the Company's Advanced
Ceramic Operations in Costa Mesa, California. This increase was approximately
$13.4 million over the prior year. The major increase was in armor products due
to increasing demand for protective body armor by the U.S. military services.
The industrial/automotive products recorded strong increases in sales, mainly
due to demand for ceramic cam rollers for diesel engines. Additionally,
orthodontic products contributed to the increase over the prior year due to
continually increased demand by orthodontists for the Clarity(TM) orthodontic
brackets.
The Company's Semicon Associates Division in Lexington, Kentucky, posted a sales
increase of $.8 million, or 13% over the prior year. Increases were mainly due
to demand by the Company's customers for dispenser cathodes, which are used in
microwave tubes for radar and satellite communications. In addition, sales
increases were due to modest price increases.
Additionally, the Company's Thermo Materials Division in Scottdale, Georgia,
posted a sales increase of $1.3 million, or 22% over the prior year. The
increases were attributable to demand from a major customer because of their low
fused silica inventory. Also contributing was an increase in demand from
existing and new customers for the fused silica product line that the Company
acquired from Harbison Walker Refractories Company in 1998. There were slight
increases in the defense sector for ceramic missile radomes for the Patriot
PAC-3 and Standard Missile Block IV and Block IVA programs. Furthermore, a new
product line for high purity fused silica ceramic crucibles for melting silicon
for incorporation into photovoltaic cells for energy production had slight sales
increases over the prior year initial startup.
International sales have been, and are expected to be, an important part of the
Company's business, representing 13% of total sales for the year ended 2000 as
compared to 11% in 1999. In April 2000, the Company opened a European sales and
marketing office located in England and hired a new European marketing director.
Also, in January 2001, the Company opened its sales and marketing office in
Beijing, China and hired a new director for this location.
Gross Profit. The Company's gross profit was $12.2 million, or 27% of net sales,
for the year ended December 31, 2000, compared to $6.7 million, or 22% of net
sales, for the prior year. The increase in gross profit for the year ended
December 31, 2000 as compared to the prior year was $5.5 million or 82%.
The Company's Advanced Ceramic Operations in Costa Mesa, California, posted
gross profit of $8.4 million compared to $4.2 million, or a 100% increase over
the prior year. The favorable
27
<PAGE>
results were mainly due to higher volume and higher capacity utilization
resulting in economies of scale.
Semicon Associates in Lexington, Kentucky, posted gross profit of $1.7 million,
compared to $1.1 million, or a 55% increase over the prior year. The increase
over the prior year is attributed to higher volume and greater capacity
utilization. Additionally, price increases and improvements in production yields
were contributing factors.
Thermo Materials in Scottdale, Georgia, posted gross profit of $2.1 million,
compared to $1.4 million, or a 50% increase over the prior year. The increases
were attributable to volume and the product mix of larger quantities yielding
better manufacturing efficiencies than in the prior year.
Selling Expenses. Selling expenses were $1.6 million for the year ended December
31, 2000, as compared to $1.5 million in the prior year. Increases in salaries,
travel expenses, product literature, consulting, and the addition of a new
marketing director in the United Kingdom contributed to the increase in selling
expenses over the prior year.
General and Administrative Expenses. General and administrative expenses were
$4.5 million for the year ended December 31, 2000, a $1.1 million increase from
the prior year. Approximately 42% of the increase was attributable to the
increase in employee bonuses which was charged to general and administrative
expense. Bonuses were resumed in the year 2000 because of the increased
profitability of the Company. The other increases involved two additional
personnel at the Thermo Materials division, investor relations consulting fees,
salary increases and fringe benefits.
Research and Development Expenses. Research and development expenses were
approximately $1.3 million for the year ended December 31, 2000, as compared to
$.6 million for the prior year. The expenses incurred for both years are related
to wages for engineering, technicians and production personnel, materials,
outside services, small tools and travel. The increased expenses over the prior
year are directly related to the Company being awarded $2.4 million in Small
Business Innovation Research (SBIR) grants in 2000 for military ceramic armor
systems and microwave ceramics.
In addition, the Company historically has and continues to engage in application
engineering and internally funded research to improve and reduce the cost of
production and to develop new products. The costs associated with application
engineering and research are expensed as incurred and are included in cost of
product sales.
Other Income. Other income was $.36 million and $.34 million for the years ended
2000 and 1999, respectively. An increase in interest income over the prior year
due to greater cash reserves was offset by a decrease in royalty income.
Interest Expense. Interest expense was $34,000 for the year ended December 31,
2000, compared to $16,000 in the prior year. The increase was caused by having a
capital equipment loan in place for the full year in 2000, as compared to
partial year in 1999.
Income Taxes. The Company has recorded a $104,000 provision for income tax for
the year ended December 31, 2000. The Company's net deferred tax asset of $1.7
million at December 31, 2000 relates primarily to its tax net operating loss
carryforwards, which total approximately $5.2 million.
28
<PAGE>
The Company expects to use its remaining net operating loss carryforward in
2001. (See Note 3 of Notes to Consolidated Financial Statements).
Net Income. Reflecting all of the matters discussed above, net income was $5.1
million (or $0.62 per share basic and $0.61 diluted) for the year ended December
31, 2000 compared to a net income of $1.6 million (or $.20 per share basic and
diluted) for the prior year.
Accounting Policies
Our significant accounting policies are summarized in Note 1 to the Consolidated
Financial Statements. In applying those policies, estimates and judgments affect
the amounts at which accounts receivable and inventory and certain liabilities
are recorded and the useful lives of property and equipment.
We apply our accounting policies on a consistent basis. As circumstances change,
they are considered in our estimates and judgments, and future changes in
circumstances could result in changes in amounts at which assets and liabilities
are recorded. They could also affect the estimated useful levels of property and
equipment, which could result in changes in depreciation expense or write offs
or write downs of such assets.
Liquidity and Capital Resources
The Company generally meets its operating and capital requirements for cash flow
from operating activities and borrowings under its credit facility.
The Company has a $4,000,000 revolving credit agreement with Comerica Bank. As
of December 31, 2001, there had been no borrowings under this credit facility.
However, in the first quarter of 2002, the credit line was used for operation
needs. Under a separate credit facility with Comerica Bank, the Company entered
into a $500,000 capital equipment loan agreement during the third quarter of
1999. The term of the loan is for 60 months with no prepayment penalty and as of
December 31, 2001, this loan balance is $258,000.
The Company's net cash balance decreased by $5.6 million during the year ended
December 31, 2001, compared to a net increase of $5.2 million in the prior year.
The largest component of this change was the Company's investment of $7.0
million in machinery, equipment and leasehold improvements in 2001, compared to
$2.4 million in 2000, to expand production capacity, primarily at the Company's
Advanced Ceramic Operations in Costa Mesa, California. Another major use of cash
was $6.4 million increase in inventories in 2001, compared to the prior year
period, as the Company manufactured products and has raw materials and
work-in-process for production orders to be shipped in the first quarter of
2002.
Management believes that its current cash and cash equivalents on hand, as well
as cash generated from operations and the ability to borrow under the existing
credit facilities, will be sufficient to finance anticipated capital and
operating requirements for at least the next 12 months.
29
<PAGE>
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities". SFAS No. 133 requires that all derivative
instruments be recorded on the balance sheet at their fair value. Changes in the
fair value of derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designed as part of a
hedge transaction and, if it is, the type of hedge transaction. In June 1999,
the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging
Activities - Deferral of the Effective Date of FASB Statement No. 133". SFAS No.
137 delays the effective date of SFAS No. 133 to fiscal years beginning after
June 15, 2000. In June 2000, the FASB issued SFAS No. 138, "Accounting for
Certain Derivative Instruments and Certain Hedging Activities - an amendment of
FASB Statement No. 133". SFAS No. 138 is effective concurrent with the delayed
effective date of SFAS No. 133. SFAS No. 138 amends the accounting and reporting
standards for certain derivative instruments and certain hedging activities. The
Company adopted SFAS Nos. 133, 137 and 138 on January 1, 2001. The adoption did
not have a material impact, as the Company does not currently hold any
derivative instruments.
In June 2001, the FASB issued SFAS No. 141, "Business Combinations". This
Statement addresses financial accounting and reporting for business combinations
and supersedes APB Opinion No. 16, "Business Combinations," and SFAS No. 38,
"Accounting for Preacquisition Contingencies of Purchased Enterprises". All
business combinations in the scope of this Statement are to be accounted for
using one method, the purchase method. We will adopt SFAS 141 for all business
combinations initiated after June 30, 2001.
Also in June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets". SFAS 142 addresses financial accounting and reporting for acquired
goodwill and other intangible assets and supersedes APB Opinion No. 17,
"Intangible Assets". This pronouncement addresses, among other things, how
goodwill and other intangible assets should be accounted for after they have
been initially recognized in the financial statements. Goodwill would no longer
be amortized but would be assessed at least annually for impairment using a fair
value methodology. We will adopt this statement for all goodwill and other
intangible assets acquired after June 30, 2001 and for all existing cost in
excess of net assets acquired (goodwill) and other intangible assets beginning
January 1, 2002. Upon adoption of this standard on January 1, 2002, we will
cease recording amortization of goodwill, which is expected to increase gross
income in 2002 by approximately $200,000, or approximately $0.01 per diluted
share after tax. Other than ceasing the amortization of goodwill, we do not
anticipate that the adoption of SFAS 142 will have a significant effect on our
financial position nor the results of our operations, as we do not currently
anticipate any impairment charges for existing goodwill.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets". SFAS No. 144 addresses the financial accounting
and reporting for the impairment of long-lived assets and for long-lived assets
to be disposed of and is effective for fiscal years beginning after December 15,
2001. This statement supersedes SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of"; however, it
retains the fundamental provision of SFAS No. 121 for (i) recognition and
measurement of the impairment of long-lived assets to be held and used and (ii)
measurement of long-lived assets to be disposed of by sale. This statement also
supersedes the accounting and reporting provisions of
30
<PAGE>
APB Opinion No. 30, "Reporting the Results of Operations--Reporting the Effects
of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" for the disposal of a segment of
a business. The Company does not believe SFAS No. 144 will have a material
impact on the Company's financial position or results of operations.
Item 7A. Quantitative and Qualitative Disclosure About Market Risk
---------------------------------------------------------
The Company is exposed to market risks related to fluctuations in interest rates
on its debt. Currently, the Company does not utilize interest rate swaps,
forward or option contracts on foreign currencies or commodities, or other types
of derivative financial instruments. The purpose of the following analysis is to
provide a framework to understand the Company's sensitivity to hypothetical
changes in interest rates as of December 31, 2000. Many of the statements
contained in this section are forward looking and should be read in conjunction
with the Company's disclosures under the heading "Risk Factors".
The Company utilized debt financing during 2001 primarily for the purpose of
acquiring manufacturing equipment. For fixed rate debt, changes in interest
rates generally affect the fair market value of the debt instrument, but not the
Company's earnings or cash flows. The Company does not have an obligation to
prepay fixed rate debt prior to maturity, and as a result, interest rate risk
and changes in fair market value should not have a significant impact on the
fixed rate debt until the Company would be required to refinance such debt. The
fair market value estimates for debt securities are based on discounting future
cash flows utilizing current rates offered to the Company for debt of the same
type and remaining maturity.
As of December 31, 2001, the Company's debt consisted of a $258,000 capital
equipment loan at a fixed interest rate of 8.18% due July 28, 2004. The carrying
amount is a reasonable estimate of fair value as the rate of interest paid on
the note approximates the current rate available for financing with similar
terms and maturity.
We do not have any significant foreign currency risk. Sales to foreign
distributors are all denominated in U.S. dollars.
Item 8. Consolidated Financial Statements and Supplementary Data
--------------------------------------------------------
The Consolidated Financial Statements and Supplementary Data commence at page 47
of this report and an index thereto is included in Part IV, Item 14 of this
report on page 42.
Item 9. Changes in and Disagreements with Accountants on Accounting and
---------------------------------------------------------------
Financial Disclosure
--------------------
Not applicable.
31
<PAGE>
PART III
Item 10. Directors and Executive Officers of Registrant
----------------------------------------------
Information regarding executive officers of the Company is included in Part
I of this report.
The Directors of the Company are as follows:
Name Age Position
----- --- --------
Joel P. Moskowitz ........ 62 Chairman of the Board, President and
Chief Executive Officer
Richard A. Alliegro ...... 71 Director
Eduard Bagdasarian ....... 37 Director
Frank Edelstein .......... 76 Director
Wilford D. Godbold, Jr. .. 62 Director
Christopher Johnson ...... 36 Director
Milton L. Lohr ........... 76 Director
Joel P. Moskowitz co-founded the Company's predecessor in 1967. He served
as President of the Company from 1974 until January 1987, and from September
1987 to the present. Mr. Moskowitz currently serves as Chairman of the Board and
Chief Executive Officer of the Company, which positions he has held since 1983.
Mr. Moskowitz currently serves on the Board of Trustees of Alfred University.
Mr. Moskowitz obtained a B.S. in Ceramic Engineering from Alfred University in
1961 and an M.B.A. from the University of Southern California in 1966.
Richard A. Alliegro has served on the Board of Directors of the Company
since 1992. Mr. Alliegro retired from Norton Company in 1990 after 33 years,
where his last position was Vice President, Refractories and Wear, for Norton's
Advanced Ceramics operation. He served as President of Lanxide Manufacturing
Co., a subsidiary of Lanxide Corporation, from May 1990 to February 1993. Mr.
Alliegro currently is the owner of AllTec Consulting, Inc., a ceramic technology
consulting firm. Mr. Alliegro obtained B.S. and M.S. degrees in Ceramic
Engineering from Alfred University in 1951 and 1952, respectively, and serves as
a member of the Board of Trustees of that university.
Eduard Bagdasarian was appointed to the Board of Directors on February 25,
2002 to fill the vacancy created by the resignation of Leonard Allenstein. He is
Managing Director and Chief Operating Officer of the investment banking firm of
Barrington Associates, where he has been employed since 1989. Mr. Bagdasarian
chairs Barrington Associates' Executive Committee and serves on its Board of
Directors. Mr. Bagdasarian is a registered General and Financial Principal with
the NASD. He is a graduate of UCLA with a degree in Business/Economics.
Frank Edelstein has served on the Board of Directors of the Company since
1984. Mr. Edelstein has been a Vice President of Stone Creek Capital, Inc., an
investment banking firm, since November 1986. From 1979 to November 1986, he was
Chairman of the Board of International Central Bank & Trust Company, which was
acquired by Continental Insurance Co. in July 1983. Mr. Edelstein is currently a
director of Arkansas Best Corp. and IHOP Corp.
32
<PAGE>
Wilford D. Godbold, Jr. has been a member of the Board of Directors of the
Company since July 2000. Mr. Godbold is currently a private investor. From 1982
to 1998, Mr. Godbold was employed by Zero Corporation, a manufacturer of
packaging systems for the electronics industry, where he served as President and
Chief Executive Officer from 1984 to 1998. From 1966 to 1982, he was engaged in
the private practice of law with Gibson Dunn & Crutcher, specializing in mergers
and acquisitions, corporate finance and general corporate law. Mr. Godbold holds
an A.B. degree in Political Science from Stanford University, and a J.D. from
UCLA Law School. Mr. Godbold is a director of Sempra Energy and K2, Inc.
Christopher Johnson was appointed to the Board of Directors on February 25,
2002 to fill the vacancy created by the resignation of Paul Blumberg, Ford's
previous representative on Ceradyne's Board. Mr. Johnson is Technology Venture
Fund Manager of Ford Motor Company. Mr. Johnson manages Ford Motor Company's
strategic venture capital fund and has led various financial transactions
involving third parties, and is involved with Ford-related venture technology
concepts. Mr. Johnson has worked for Ford Motor Company since 1998. Prior to
Ford Motor Company, Mr. Johnson worked for Aeroquip Corporation for eleven years
as Director of New Business Planning. Mr. Johnson is on the Board of Directors
of several technology companies where Ford has an investment. He has a degree in
Business Administration from the University of Toledo and an MBA from the
University of Michigan with emphasis in international business and strategy.
Milton L. Lohr served as a Director of the Company from 1986 until October
1988, when he resigned to accept a position as Deputy Undersecretary of Defense
for Acquisitions. He held that position until May 1989 and was re-elected as a
Director of the Company in July 1989. Mr. Lohr is currently a partner of L. F.
Global Investments, LLC, a San Diego based financial institution with activities
in money management funds, venture capital and asset management coupons. He
served as the first Deputy Under Secretary for Acquisitions in both the Reagan
and Bush administrations, with responsibility to assist in overseeing the
Department of Defense's major acquisition programs as well as exercising
oversight of international programs and U.S. Arms Control Compliance activities.
He also served as U.S. Acquisition Representative to the NATO Conference of
National Armament Directors and provided leadership guiding U.S. armament
cooperative programs, and in developing and establishing policy initiatives
aimed at promoting cooperation on major weapon systems and technology among the
NATO Allies. He also served on the Four Power Group with members from the U.K.,
France, Germany and the U.S. Mr. Lohr previously held the position of President
of Defense Development Corporation, a defense-related research and development
company from 1990 to 1993. Mr. Lohr also held the position of Senior Vice
President of Titan Systems, a defense-related research and development company,
from 1986 to 1988, and was founder and CEO of Defense Research Corporation, a
defense consulting firm, from 1983 to 1986. Mr. Lohr served from 1969 to 1983 as
Executive Vice-President of Flight Systems, Inc., a firm engaged in aerospace
and electronic warfare systems. Mr. Lohr has over thirty-five years experience
in government positions and aerospace and defense management. He currently
serves as a panel member of the President's Science Advisory Committee, a member
of the Office of the Secretary of Defense, Army Science Board, as well as other
ad hoc government related assignments.
Directors are elected annually and hold office until the next annual meeting of
stockholders and until their successors have been elected and qualified. The
Company has agreed to nominate a representative of Ford for election as a
Director pursuant to an agreement made in March 1986, pursuant to which
agreement Ford acquired a total of 1,207,299 shares of the Company's Common
Stock. Joel P. Moskowitz and members of his family have agreed to vote a portion
of their shares
33
<PAGE>
of the Company's Common Stock, if necessary, for the election of Ford's nominee.
Mr. Christopher Johnson is Ford's current representative. Officers serve at the
discretion of the Board of Directors. Compliance with Section 16(a) of the
Securities Exchange Act of 1934
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
directors and executive officers, and persons who own more than ten percent of a
registered class of the Company's equity securities, to file with the Securities
and Exchange Commission ("SEC") initial reports of ownership and reports of
changes in ownership of Common Stock and other equity securities of the Company.
Officers, directors and greater than ten percent shareholders are required by
SEC regulations to furnish the Company with copies of all Section 16(a) forms
they file.
To the Company's knowledge, based solely on a review of the copies of such
reports furnished to the Company and written representations that no other
reports were required during the fiscal year ended December 31, 2001, its
officers, directors and greater than ten percent beneficial owners complied with
all Section 16(a) filing requirements.
34
<PAGE>
Item 11. Executive Compensation
----------------------
Summary Compensation Table
- --------------------------
The following table shows certain information concerning the compensation of the
Chief Executive Officer and the other most highly compensated executive officers
of the Company whose aggregate compensation for services in all capacities
rendered during the year ended December 31, 2001 exceeded $100,000
(collectively-the "Named Executive Officers"):
Long Term
Annual Compensation Compensation
------------------- ------------
Securities
Name & Underlying
- ------- Options
Principal Position Year Salary Bonus # of Shares)
- ------------------ ---- ------ ----- ------------
Joel P. Moskowitz 2001 $274,923 $48,915 50,000
Chairman of the Board, 2000 259,000 51,970 -
Chief Executive 1999 240,085 16,027 -
Officer
and President
Earl E. Conabee 2001 $118,540 - 2,500
Vice President 2000 113,000 - 2,000
1999 106,872 - -
Howard F. George 2001 $117,193 $ 8,856 2,500
Vice President and 2000 104,327 8,545 2,000
ChiefFinancial Officer 1999 101,062 - -
David P. Reed 2001 $151,846 $41,985 5,000
Vice President 2000 143,000 37,905 10,000
1999 132,919 - 10,000
35
<PAGE>
Option Grants in Last Fiscal Year
- ---------------------------------
The following table sets forth certain information concerning grants of
options to each of the Named Executive Officers during the year ended December
31, 2001. In addition, in accordance with the rules and regulations of the
Securities and Exchange Commission, the following table sets forth the
hypothetical gains or "option spreads" that would exist for the options. Such
gains are based on assumed rates of annual compound stock appreciation of 5% and
10% from the date on which the options were granted over the full term of the
options. The rates do not represent the Company's estimate or projection of
future Common Stock prices, and no assurance can be given that any appreciation
will occur or that the rates of annual compound stock appreciation assumed for
the purposes of the following table will be achieved.
<TABLE>
<CAPTION>
Potential Realizable
Value at Assumed Annual
Percent of Rates of Stock Price
Total Options Appreciation for
Granted to Exercise Option Term/(2)/
Options Granted Employees in Price Expiration ----------------
Name (# of Shares)/(1)/ Fiscal Year ($/Share) Date 5%($) 10%($)
- ---- ------------------ ----------- --------- ---- ----- ------
<S> <C> <C> <C> <C> <C> <C>
Joel P. Moskowitz 50,000 29.5% 6.70 09/06/11 210,680 533,904
Earl E. Conabee 2,500 1.5% 6.70 09/06/11 10,534 26,696
Howard F. George 2,500 1.5% 6.31 12/20/10 9,921 25,141
David P. Reed 5,000 3.0% 6.70 09/06/11 21,068 53,390
</TABLE>
________________
/(1)/ The per share exercise price of all options granted is the fair market
value of the Company's Common Stock on the date of grant. Options have
a term of 10 years and become exercisable in five equal installments,
each of which vests at the end of each year after the grant date,
except that the option granted to Mr. Moskowitz became fully vested
three months after the date of grant.
/(2)/ The potential realizable value is calculated from the exercise price
per share, assuming the market price of the Company's Common Stock
appreciates in value at the stated percentage rate from the date of
grant to the expiration date. Actual gains, if any, are dependent on
the future market price of the Common Stock.
36
<PAGE>
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option
- --------------------------------------------------------------------------
Values
- ------
The following table sets forth certain information regarding option
exercises during the year ended December 31, 2001 by the Named Executive
Officers, the number of shares covered by both exercisable and unexercisable
options as of December 31, 2001 and the value of unexercised in-the-money
options held by the Named Executive Officers as of December 31, 2001:
<TABLE>
<CAPTION>
Value of Unexercised
Number of Securities Underlying In-the-Money Options at
Unexercised Options at Fiscal Year-End Fiscal Year-End /(1)/
-------------------------------------- ---------------------
No. of Shares
Acquired on Value
Name Exercise Realized/(2)/ Exercisable Unexercisable Exercisable Unexercisable
---- -------- ------------ ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Joel P. Moskowitz --- --- 50,000 --- $228,500 $ ---
Earl E. Conabee --- --- 2,000 5,700 $ 10,015 $ 18,523
Howard F. George --- --- 29,300 5,200 $185,629 $ 17,966
David P. Reed --- --- 53,300 24,700 $405,923 $110,755
</TABLE>
/(1)/ Based upon the closing price of the Common Stock on December 31, 2001, as
reported by the Nasdaq National Market ($11.27 per share).
/(2)/ Represents the closing sale price of the Common Stock on the date of
exercise, less the exercise price per share, multiplied by the number of
shares acquired.
37
<PAGE>
Compensation of Directors
- -------------------------
Directors are paid fees for their services on the Board of Directors in
such amounts as are determined from time to time by the Board. During 2001, a
fee of $500 per month plus $1,000 for each Board meeting attended was paid to
each non-employee director other than the Ford representative, who did not
receive a fee.
In addition, non-employee directors, other than the Ford representative,
receive stock options from time-to-time under the Company's 1994 Stock Incentive
Plan. During 2001, options to purchase 5,000 shares were granted to each of
Messrs. Allenstein, Alliegro, Bagdasarian, Edelstein, Godbold and Lohr. Each
option vests in full three months after the date of grant, has a term of 10
years, and an exercise price equal to the fair market value of the Common Stock
on the date of grant.
Compensation Committee Interlocks and Insider Participation
- -----------------------------------------------------------
The Board of Directors has established Audit and Compensation Committees.
The Compensation Committee's function is to review and make recommendations to
the Board regarding executive officers' compensation. This committee is composed
of Messrs, Edelstein, Alliegro, and Lohr. The Audit Committee meets with the
Company's independent public accountants and with management to review the
Company's financial statements, the scope of the annual audit, internal
accounting controls, and recommends to the Board the selection of the
independent public accountants. This committee is composed of Messrs, Alliegro,
Edelstein, Godbold and Lohr.
38
<PAGE>
Item 12. Security Ownership of Certain Beneficial Owners
and Management
-----------------------------------------------
The following table sets forth information as of March 15, 2002 regarding
the beneficial ownership of the common stock of the Company by (i) each person
or group known by the Company to be the beneficial owner of more than 5% of the
outstanding shares of common stock, (ii) each of the directors of the Company,
(iii) each of the executive officers named in the Summary Compensation Table,
and (iv) all current executive officers and directors of the Company as a group.
Name of Amount and Nature of Percent
Beneficial Owner Beneficial Ownership/(1)/ of Class
---------------- ------------------------- --------
Joel P. Moskowitz 1,213,110 /(2)/ 14.4%
3169 Redhill Avenue
Costa Mesa, CA 92626
Ford Motor Company 1,027,300 12.2%
The American Road
Dearborn, MI 48121
Dimensional Fund Advisors, Inc. 562,500 /(3)/ 6.7%
1299 Ocean Ave., 11/th/ Floor
Santa Monica, CA 90401
Pequot Capital Management, Inc. 499,000 /(4)/ 5.9%
500 Nyala Farm Rd.
Westport, CT 06880
David P. Reed 90,017 /(5)/ 1.1%
Frank Edelstein 59,400 /(6)/ *
Milton L. Lohr 37,000 /(7)/ *
Howard F. George 35,057 /(8)/ *
Richard A. Alliegro 33,000 /(9)/ *
Earl E. Conabee 14,325 /(10)/ *
Wilford D. Godbold, Jr. 16,000 /(11)/ *
Eduard Bagdasarian 5,000 /(12)/ *
Christopher Johnson - -
39
<PAGE>
All current executive 1,502,909 /(13)/ 17.9%
officers and directors as a
group (10 persons)
* Less than 1%
/(1)/ Except as otherwise noted, the beneficial owners have sole voting and
investment powers with respect to the shares indicated, subject to
community property laws where applicable.
/(2)/ Includes 50,000 shares subject to options held by Mr. Moskowitz which
are currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(3)/ Based on information contained in a statement on Schedule 13G dated
January 30, 2002, as filed with the Securities and Exchange Commission.
As stated in such Schedule 13G, all shares are held on behalf of
advisory clients of Dimensional Fund Advisors, Inc., which disclaims
beneficial ownership of such shares.
/(4)/ Based upon information contained in a statement dated February 14, 2002
as filed with the Securities and Exchange Commission. As stated in such
Schedule 13G, all shares are held on behalf of advisory clients of
Pequot Capital Management, Inc., which disclaims beneficial ownership
of such shares.
/(5)/ Includes 57, 000 shares subject to options held by Mr. Reed which are
currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(6)/ Includes 39,500 shares subject to options held by Mr. Edelstein which
are currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(7)/ Includes 37,000 shares subject to options held by Mr. Lohr which are
currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(8)/ Includes 29,300 shares subject to options held by Mr. George which are
currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(9)/ Includes 32,000 shares subject to options held by Mr. Alliegro which
are currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(10)/ Includes 500 shares subject to options held by Mr. Conabee which are
currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(11)/ Includes 15,000 shares subject to options held by Mr. Godbold which are
currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(12)/ Includes 5,000 shares subject to options held by Mr. Bagdasarian which
are currently exercisable or will become exercisable within 60 days of
March 15, 2002.
/(13)/ Includes 265,300 shares subject to options which are currently
exercisable or will become exercisable within 60 days of March 15,
2002.
40
<PAGE>
Item 13. Certain Relationships and Related Transactions
----------------------------------------------
On March 11, 1986, the Company sold 526,316 shares of its Common Stock
to Ford Motor Company ("Ford") at a price of $19.00 per share, for a total
purchase price of $10,000,000. At the same time, the Company and Ford created a
new corporation, Ceradyne Advanced Products, Inc. ("CAPI"), and entered into
agreements involving a broad-based technology transfer, licensing and joint
development program. Under the agreements, Ford contributed technology and a
portfolio of United States and foreign patents relating to technical ceramics to
CAPI in exchange for 80% of CAPI's capital stock, and Ceradyne acquired the
remaining 20% of CAPI in exchange for $200,000. The technology and patents
contributed by Ford were developed in the Ford Research Laboratories over a
15-year period. Under the March 11, 1986 agreements, the Company was granted an
option to acquire Ford's 80% interest in CAPI in exchange for an additional
680,983 shares of Ceradyne Common Stock, which the Company exercised effective
February 12, 1988. As a result, Ceradyne now owns 100% of CAPI. The Company and
Ford also entered into a joint development agreement, under which Ford agreed to
contribute on a matching value basis with Ceradyne, for the development by
Ceradyne of technical ceramic products oriented towards the automotive market.
So long as Ford continues to own 5%, or more, of the Company's
outstanding common stock, Ceradyne has agreed to use its best efforts to cause
one person designated by Ford to be elected a member of the Ceradyne Board of
Directors and, under certain circumstances in the event the Company issues
additional shares of its Common Stock in a public or private transaction, to
permit Ford to purchase, at the same price and terms upon which sold by the
Company in such transaction, additional shares of Ceradyne Common Stock to
enable Ford to maintain its percentage ownership of the Company.
In connection with the sale of stock to Ford, Joel P. Moskowitz,
Chairman of the Board, Chief Executive Officer and President of the Company, and
members of his immediate family agreed to vote shares of the Company's Common
Stock owned by them in favor of the election of Ford's nominee to the Board of
Directors. However, they may first vote that number of shares that is necessary
to assure the election of Joel P. Moskowitz as a Director of the Company, and
any shares that are not necessary to assure the election of Mr. Moskowitz and a
Ford nominee to the Board of Directors may be voted by them without restriction.
41
<PAGE>
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
---------------------------------------------------------------
(a) List of documents filed as part of this report:
(1) Financial Statements: Page
--------------------- ----
Report of Independent Public Accountants 46
Consolidated Balance Sheets at December 31, 2001 and 2000 47-48
Consolidated Statements of Operations for the Years Ended
December 31, 2001, 2000 and 1999 49
Consolidated Statements of Stockholders' Equity for the Years
Ended December 31, 2001, 2000, and 1999 50
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2001, 2000 and 1999 51-52
Notes to Consolidated Financial Statements 53-66
(2) Financial Statement Schedules:
------------------------------
Schedule II -- Valuation and Qualifying Accounts 67
All other schedules are omitted since the required information is not
present or is not present in amounts sufficient to require submission of
the schedule, or because the information required is included in the
Consolidated Financial Statements and Notes thereto.
(b) The following reports on Form 8-K were filed during the last quarter of the
fiscal year ended December 31, 2001:
None
(c) List of Exhibits
3.1 Certificate of Incorporation of the Registrant. Incorporated herein by
reference to Exhibit 3.1 to the Registrant's Registrant Statement on
Form 8-B.
3.2 Bylaws of Registrant. Incorporated herein by reference to Exhibit 3.2
to the Registrant's Form 10-Q Report for the period ended June 30,
1996.
3.3 Amendment to Bylaws of Registrant, adopted April 29, 1996. Incorporated
herein by reference to Exhibit 3.3 to the Registrant's Form 10-Q Report
for the period ended June 30, 1996.
10.1* Ceradyne, Inc. 1983 Stock Option Plan as amended and restated.
Incorporated by reference from Exhibit 10.13 to the Company's
Registration Statement on Form S-1 (File No. 2-99930) filed on
September 25, 1985 (the "1985 S-1").
42
<PAGE>
10.2 Lease between Trico Rents and the Registrant dated March 23, 1984,
covering premises located at 235 Paularino Avenue, Costa Mesa,
California. Incorporated herein by reference to Exhibit 10.14 to the
Registrant's Registration Statement on Form S-1 (File No. 2-90821).
10.3 Lease covering premises located at 3169-A Red Hill Avenue, Costa Mesa,
California dated October 28, 1985. Incorporated herein by reference to
Exhibit 10.30 to the Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 1985.
10.4 Stock Sale Agreement between the Registrant and Ford Motor Company
dated March 11, 1986. Incorporated herein by reference to Exhibit 10.31
to the Registrant's Annual Report on Form 10-K for the fiscal year
ended December 31, 1985.
10.5 Agreement between certain shareholders of the Registrant and Ford Motor
Company dated March 11, 1986. Incorporated herein by reference to
Exhibit 10.32 to the Registrant's Annual Report on Form 10-K for the
year ended December 31, 1985.
10.6 Stock Purchase Agreement between Ceradyne Advanced Products, Inc., the
Registrant and Ford Motor Company dated March 11, 1986. Incorporated
herein by reference to Exhibit 10.33 to the Registrant's Annual Report
on Form 10-K for the fiscal year ended December 31, 1985.
10.7 Patent and Technology Transfer Agreement between Ford Motor Company and
Ceradyne Advanced Products, Inc. dated March 11, 1986. Incorporated
herein by reference to Exhibit 10.34 to the Registrant's Annual Report
on Form 10-K for the fiscal year ended December 31, 1985.
10.8 License Agreement between the Registrant and Ceradyne Advanced
Products, Inc., dated March 11, 1986. Incorporated herein by reference
to Exhibit 10.35 to the Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 1985.
10.9 License Agreement between Ford Motor Company and the Registrant dated
March 11, 1986. Incorporated herein by reference to Exhibit 10.36 to
the Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1985.
10.10 Joint Development Agreement between the Registrant and Ford Motor
Company dated March 11, 1986. Incorporated herein by reference to
Exhibit 10.37 to the Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 1985.
10.11 Lease dated March 31, 1986 covering premises located at 3163 Red Hill
Avenue, Costa Mesa, California. Incorporated herein by reference to
Exhibit 10.45 to the Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 1986.
10.12 Lease dated August 5, 1986 covering premises located at 225 Paularino
Avenue, Costa Mesa, California. Incorporated herein by reference to
Exhibit 10.46 to the Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 1986.
43
<PAGE>
10.13 Short-form Memorandum of Lease Assignment dated December 15, 1986, and
Lease dated June 23, 1980, covering premises located at 3449 Church
Street, Scottdale, Georgia. Incorporated herein by reference to
Exhibit 10.47 to the Registrant's Annual Report on Form 10-K for the
fiscal year ended December 31, 1986.
10.14* Amendment dated June 3, 1986 to the Ceradyne, Inc. 1983 Stock Option
Plan. Incorporated herein by reference to Exhibit 10.50 to the
Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1986.
10.15* Amendment dated March 16, 1987 to the Ceradyne, Inc. 1983 Stock Option
Plan. Incorporated herein by reference to Exhibit 10.51 to the
Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1986.
10.16 Joint Development Agreement dated March 28, 1986 between Unitek
Corporation and the Registrant, and First and Second Amendments
thereto. Incorporated herein by reference to Exhibit 10.52 to the
Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1986.
10.17* Amendment dated April 30, 1987 to the Ceradyne, Inc. 1983 Stock Option
Plan. Incorporated herein by reference to Exhibit 10.56 to the
Registrant's Registration Statement on Form 8-B.
10.18* Employment Agreement entered into as of July 5, 1994 by and between
Joel P. Moskowitz and the Registrant. Incorporated herein by reference
to Exhibit 10.30 to the Registrant's Annual Report on Form 10-K for
the fiscal year ended December 31, 1994.
10.19* Ceradyne, Inc. 1994 Stock Incentive Plan. Incorporated herein by
reference to Exhibit 10.31 to the Registrant's Annual Report on Form
10-K for the fiscal year ended December 31, 1994.
10.20* Amendment No. 1 to the Ceradyne, Inc. 1994 Stock Incentive Plan.
Incorporated herein by reference to Exhibit 4.2 to Registrant's
Registration Statement on Form S-8 (File No. 33-61675).
10.21* Ceradyne, Inc. 1995 Employee Stock Purchase Plan. Incorporated herein
by reference to Exhibit 4.1 to Registrant's Registration Statement on
Form S-8 (File No. 33-61677).
10.22 Amendment No. 2, dated June 5, 1995, to Lease between Trico Rents and
the Registrant covering premises located at 235 Paularino Avenue,
Costa Mesa, California. Incorporated herein by reference to Exhibit
10.32 to the Registrant's Registration Statement on Form S-1 (File No.
33-62345).
10.23 Amendment No. 2, dated June 5, 1995, to Lease covering premises
located at 3169-A Red Hill Avenue, Costa Mesa, California.
Incorporated herein by reference to Exhibit 10.33 to the Registrant's
Registration Statement on Form S-1 (File No. 33-62345).
44
<PAGE>
10.24 Amendment No. 2, dated June 5, 1995, to Lease dated March 31, 1986
covering premises located at 3163 Red Hill Avenue, Costa Mesa,
California. Incorporated herein by reference to Exhibit 10.34 to the
Registrant's Registration Statement on Form S-1 (File No. 33-62345).
10.25 Amendment No. 2, dated June 5, 1995, to Lease dated August 5, 1986
covering premises located at 225 Paularino Avenue, Costa Mesa,
California. Incorporated herein by reference to Exhibit 10.35 to the
Registrant's Registration Statement on Form S-1 (File No. 33-62345).
10.26* Amendment No. 2 to the Ceradyne, Inc. 1994 Stock Incentive Plan.
Incorporated herein by reference to Exhibit 10.36 to the Registrant's
Annual report on Form 10-K for the fiscal year ended December 31,
1996.
10.27* Amendment No. 3 to the Ceradyne, Inc. 1994 Stock Incentive Plan.
Incorporated herein by reference to Exhibit 4.4 to Registrant's
Registration Statement on Form S-8 (File No. 333-31679).
10.28* Amendment No. 4 to the Ceradyne, Inc. 1994 Stock Incentive Plan.
Incorporated herein by reference to Exhibit 10.29 to the Registrant's
Annual Report on Form 10-K for the fiscal year ended December 31,
1998.
10.29* Amendment No. 5 to the Ceradyne, Inc. 1994 Stock Incentive Plan.
Incorporated herein by reference to Exhibit 10.29 to the Registrant's
annual report on Form 10-K for the fiscal year ended December 31,
2000.
10.30* Amendment No. 6 to the Ceradyne, Inc. 1994 Stock Incentive Plan.
Incorporated herein by reference to Exhibit 4.7 to the Registrant's
Registration Statement on Form S-8 (File No. 333-64094).
10.31 Amendment No. 1 to the Ceradyne, Inc. 1995 Employee Stock Purchase
Plan. Incorporated herein by reference to Exhibit 4.2 to the
Registrant's Registration Statement on Form S-8 (File No. 333-64078).
10.32 Lease between EMC Associates and the Registrant dated December 7,
2001, covering premises located at 17466 Daimler Avenue, Irvine,
California.
21.1 Subsidiaries of the Registrant. Incorporated herein by reference to
Exhibit 23.2 to the Registrant's Statement on Form S-1 (File No.
33-62345).
23.1 Consent of Arthur Andersen LLP.
99.1 Letter regarding representations received from Arthur Andersen LLP.
* Each of these exhibits constitutes a management contract, compensatory
plan, or arrangement required to be filed as an exhibit to this Report
pursuant to Item 14(c) of this Report.
45
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders and Directors
of Ceradyne, Inc.:
We have audited the accompanying consolidated balance sheets of Ceradyne, Inc.
(a Delaware corporation) and subsidiaries as of December 31, 2001 and 2000, and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 2001. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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 financial statements referred to above present fairly, in
all material respects, the financial position of Ceradyne, Inc. and subsidiaries
as of December 31, 2001 and 2000, and the results of their operations and their
cash flows for each of the three years in the period ended December 31, 2001, in
conformity with accounting principles generally accepted in the United States.
Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the index of
financial statements is presented for purposes of complying with the Securities
and Exchange Commission's rules and is not a required part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in our audits of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
/s/ Arthur Andersen LLP
Orange County, California
February 27, 2002
46
<PAGE>
CERADYNE, INC.
--------------
CONSOLIDATED BALANCE SHEETS
---------------------------
DECEMBER 31, 2001 AND 2000
--------------------------
ASSETS
------
(Amounts in thousands)
<TABLE>
<CAPTION>
2001 2000
---- ----
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 1,017 $ 6,656
Accounts receivable, net of allowances for
doubtful accounts of $101 and $84
in 2001 and 2000, respectively 8,305 6,290
Other receivables 215 63
Inventories, net 14,581 8,193
Production tooling 2,889 1,655
Prepaid expenses and other 1,689 795
1,728 447
-------- ---------
Total current assets 30,424 24,099
-------- --------
PROPERTY, PLANT AND EQUIPMENT:
Land 422 422
Buildings and improvements 1,851 1,825
Machinery and equipment 30,126 25,450
Leasehold improvements 3,224 2,280
Office equipment 3,291 2,975
Construction in progress 1,067 197
-------- --------
39,981 33,149
Less--Accumulated depreciation and amortization (23,965) (21,751)
-------- --------
16,016 11,398
-------- --------
COSTS IN EXCESS OF NET ASSETS ACQUIRED,
net of accumulated amortization of $2,406 and $2,239 in
2001 and 2000, respectively 1,511 1,678
-------- --------
DEFERRED TAX ASSET --- 1,261
OTHER ASSETS, net of accumulated amortization of
$698 and $671 in 2001 and 2000, respectively --- 27
-------- --------
Total assets $ 47,951 $ 38,463
======== ========
</TABLE>
The accompanying notes are an integral part
of these consolidated balance sheets.
47
<PAGE>
CERADYNE, INC.
--------------
CONSOLIDATED BALANCE SHEETS
---------------------------
DECEMBER 31, 2001 AND 2000
--------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
(Amounts in thousands, except share data)
2001 2000
---- ----
CURRENT LIABILITIES:
Current maturities of long-term debt $ 100 $ 100
Accounts payable 5,361 1,953
Accrued expenses:
Payroll and payroll related 1,320 914
Other 476 249
-------- --------
Total current liabilities 7,257 3,216
-------- --------
LONG-TERM DEBT, less current maturities 158 258
-------- --------
DEFERRED REVENUE 270 ---
-------- --------
DEFERRED TAX LIABILITY 609 ---
-------- --------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Common stock, $.01 par value:
Authorized--12,000,000 shares
Outstanding--8,402,705 and 8,288,142 shares
in 2001 and 2000, respectively 39,298 38,659
Retained earnings (deficit) 359 (3,670)
-------- --------
Total stockholders' equity 39,657 34,989
-------- --------
Total liabilities and stockholders' equity $ 47,951 $ 38,463
======== ========
The accompanying notes are an integral part
of these consolidated balance sheets.
48
<PAGE>
CERADYNE, INC.
--------------
CONSOLIDATED STATEMENTS OF OPERATIONS
-------------------------------------
FOR THE YEARS ENDED DECEMBER 31, 2001 , 2000 AND 1999
-----------------------------------------------------
(Amounts in thousands, except per share data)
<TABLE>
<CAPTION>
2001 2000 1999
---- ---- ----
<S> <C> <C> <C>
NET SALES $ 45,339 $ 45,930 $ 30,382
COST OF PRODUCT SALES 32,852 33,743 23,674
--------- --------- ---------
Gross profit 12,487 12,187 6,708
--------- --------- ---------
OPERATING EXPENSES:
Selling 2,036 1,605 1,480
General and administrative 4,897 4,456 3,400
Research and development 1,083 1,252 597
--------- --------- ---------
8,016 7,313 5,477
--------- --------- ---------
Income from operations 4,471 4,874 1,231
--------- --------- ---------
OTHER INCOME (EXPENSE):
Royalty Income 165 148 200
Interest Income 186 209 144
Miscellaneous 41 --- ---
Interest Expense (26) (34) (16)
--------- --------- ----------
366 323 328
--------- --------- ---------
Income before provision (benefit)
for income taxes 4,837 5,197 1,559
PROVISION (BENEFIT) FOR INCOME
TAXES 808 104 (44)
--------- --------- ----------
Net income $ 4,029 $ 5,093 $ 1,603
========= ========= =========
BASIC NET INCOME PER SHARE $ 0.48 $ 0.62 $ 0.20
========= ========= =========
DILUTED INCOME PER SHARE $ 0.46 $ 0.61 $ 0.20
========= ========= =========
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING:
Basic 8,345 8,212 8,070
========= ========= =========
Diluted 8,713 8,395 8,189
========= ========= =========
</TABLE>
The accompanying notes are an integral part
of these consolidated statements.
49
<PAGE>
CERADYNE, INC.
--------------
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
-----------------------------------------------
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999
----------------------------------------------------
(Amounts in thousands, except share data)
<TABLE>
<CAPTION>
Common Stock
------------
Retained Total
Number Earnings Stockholders'
of Shares Amount (Deficit) Equity
--------- ------ --------- ------
<S> <C> <C> <C> <C>
BALANCE, December 31, 1998 8,054,838 $37,718 $(10,366) $27,352
Issuance of common stock 30,741 154 --- 154
Exercise of stock options 10,269 28 --- 28
Net income --- --- 1,603 1,603
---------- ------- -------- -------
BALANCE, December 31, 1999 8,095,848 37,900 (8,763) $29,137
Issuance of common stock 64,304 190 --- 190
Exercise of stock options 127,990 569 --- 569
Net income --- --- 5,093 5,093
---------- ------- -------- -------
BALANCE, December 31, 2000 8,288,142 38,659 (3,670) $34,989
---------- ------- -------- -------
Issuance of common stock 60,863 409 --- 409
Exercise of stock options 53,700 230 --- 230
Net income --- --- 4,029 4,029
---------- ------- -------- -------
BALANCE, December 31, 2001 8,402,705 $39,298 $ 359 $39,657
========== ======= ======== =======
</TABLE>
The accompanying notes are an integral part
of these consolidated statements.
50
<PAGE>
CERADYNE, INC.
--------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
-------------------------------------
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999
----------------------------------------------------
(Amounts in thousands)
<TABLE>
<CAPTION>
2001 2000 1999
---- ---- ----
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 4,029 $ 5,093 $ 1,603
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 2,485 2,212 1,835
Gain on sale of equipment (12) --- ---
Changes in operating assets and liabilities:
Accounts receivable, net (2,015) (453) (1,456)
Other receivables (152) 35 69
Inventories (6,388) 259 (932)
Production tooling (1,234) (312) (239)
Prepaid expenses and other assets (305) 352 (352)
Accounts payable 3,408 (261) 1,130
Accrued expenses 633 349 27
Deferred revenue 270 (270) ---
-------- -------- --------
Net cash provided by operating activities 719 7,004 1,685
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (6,965) (2,414) (3,788)
Proceeds from sale of equipment 68 --- ---
-------- -------- --------
Net cash used in investing activities (6,897) (2,414) (3,788)
-------- -------- --------
</TABLE>
The accompanying notes are an integral part
of these consolidated statements.
51
<PAGE>
CERADYNE, INC.
--------------
CONSOLIDATED STATEMENTS OF CASH FLOWS - (continued)
-------------------------------------
(Amounts in thousands)
<TABLE>
<CAPTION>
2001 2000 1999
---- ---- ----
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock $ 409 $ 190 $ 154
Proceeds from exercise of stock options 230 569 28
Borrowings on long-term debt --- --- 500
Payments on long-term debt (100) (100) (42)
-------- --------- --------
Net cash provided by financing activities 539 659 640
-------- -------- --------
(Decrease) increase in cash and cash equivalents (5,639) 5,249 (1,463)
Cash and cash equivalents, beginning of year 6,656 1,407 2,870
-------- -------- --------
Cash and cash equivalents, end of year $ 1,017 $ 6,656 $ 1,407
-------- -------- --------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
Interest paid $ 26 $ 34 $ 16
======== ======== ========
Income taxes paid $ 253 $ 78 $ 39
======== ======== ========
</TABLE>
The accompanying notes are an integral part
of these consolidated statements.
52
<PAGE>
CERADYNE, INC.
--------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
DECEMBER 31, 2001
-----------------
1. Summary of Significant Accounting Policies
------------------------------------------
a. Principles of Consolidation and Nature of Operations
----------------------------------------------------
The consolidated financial statements include the financial statements of
Ceradyne, Inc. (a Delaware Corporation), and its subsidiaries. Ceradyne,
Inc. and its subsidiaries are collectively referred to herein as the
"Company". All significant intercompany accounts and transactions have been
eliminated.
The Company develops, manufactures and markets advanced technical ceramic
products and components for industrial, defense, consumer and microwave
applications. The products are sold primarily to industrial, consumer, and
defense concerns globally.
b. Cash and Cash Equivalents
-------------------------
The Company considers all highly liquid investments with an initial
maturity of three months or less when purchased to be cash equivalents.
c. Accounts Receivable
-------------------
The allowance for doubtful accounts includes management's estimate of the
amount expected to be uncollectable on specific accounts and unidentified
accounts included in accounts receivable. In estimating the potential
losses on specific accounts, management relies on in-house prepared
analysis and review of other available information. The amounts the Company
will ultimately realize could differ from the amounts assumed in arriving
at the allowance for doubtful accounts in the accompanying financial
statements.
d. Inventories, Net
----------------
Inventories are valued at the lower of cost (first-in, first-out) or
market. The write down of inventory for obsolete items is based on
management's estimate of the amount considered obsolete based on specific
reviews of inventory items. In estimating the allowance, management relies
on its knowledge of the industry as well as its current inventory levels.
The amounts the Company will ultimately realize could differ from amounts
estimated by management. Inventory costs include the cost of material,
labor and manufacturing overhead. The following is a summary of inventories
by component:
December 31,
------------
2001 2000
---- ----
Raw materials $ 8,143,000 $ 4,815,000
Work-in-process 5,616,000 2,800,000
Finished goods 822,000 578,000
------------ -----------
$ 14,581,000 $ 8,193,000
============ ===========
53
<PAGE>
e. Production Tooling
------------------
The Company's production tooling primarily consists of graphite tooling
used in the manufacturing and furnacing processes. This tooling is being
amortized over three to nine months.
f. Property, Plant and Equipment
-----------------------------
Depreciation and amortization of property, plant and equipment are provided
using the straight-line method over the following estimated useful lives:
Buildings and improvements 20 years
Machinery and equipment 3 to 12 years
Office equipment 5 years
Leasehold improvements Shorter of 10 years or the term of Lease
Maintenance, repairs and minor renewals are charged to expense as incurred.
Repairs and maintenance expense approximated $1,061,000, $965,000, and
$720,000 in 2001, 2000 and 1999, respectively. Additions and improvements
are capitalized. When assets are disposed of, the applicable costs and
accumulated depreciation and amortization are removed from the accounts and
any resulting gain or loss is included in the results of operations.
Depreciation expense approximated $2,291,000, $2,018,000 and $1,645,000 in
2001, 2000 and 1999, respectively.
g. Costs in Excess of Net Assets Acquired
--------------------------------------
The cost in excess of net assets acquired (goodwill) amount presented on
the financial statements primarily resulted from the acquisition of the
Company's divisions. The acquisitions were accounted for as purchases and
were valued based on the estimated fair value of the assets acquired and
liabilities assumed with respect to each acquisition at the dates of
acquisition. Goodwill represents the excess of cost over the fair value of
assets acquired. Prior to January 1, 2002, the goodwill was amortized using
the straight-line method between 20 and 27 years. As of January 1, 2002,
new accounting pronouncement SFAS 142 will be applied. See footnote 1.q.,
New Accounting Pronouncements. The Company periodically assesses the
recoverability of goodwill for any impairment.
h. Sales Recognition
-----------------
The Company recognizes sales as of the date shipments are made and title
passes to the customer. Shipping and handling costs billed to a customer
are recorded as sales and cost of product sales.
54
<PAGE>
i. Deferred Revenue
----------------
In October 2001, Ford Motor Company contributed $270,000 for 2002 to the
Joint Product Development Program. The Company will amortize this amount to
revenue during 2002. In January 2001 and October 1999 and 1998, Ford also
contributed $270,000 for each year and the Company fully amortized these
amounts to revenue during 2001, 2000 and 1999.
j. Net Income Per Share
--------------------
Basic net income per share is computed by dividing income available to
common stockholders by the weighted average number of common shares
outstanding. Diluted net income per share is computed by dividing income
available to common stockholders by the weighted average number of common
shares outstanding plus the effect of any dilutive stock options and common
stock warrants using the treasury stock method.
The following is a summary of the number of shares entering into the
computation of net income per common and common equivalent share:
December 31,
-----------
2001 2000 1999
---- ---- ----
Weighted average number of
shares outstanding 8,344,874 8,211,568 8,070,225
Dilutive stock options 368,160 183,769 119,174
--------- --------- ---------
Number of shares used in
diluted computation 8,713,034 8,395,337 8,189,399
========= ========= =========
k. Accounting for Long-Lived Assets
--------------------------------
As prescribed by Statement of Financial Accounting Standards (SFAS) No.
121, "Accounting for the Impairment of Long-lived Assets and for Long-lived
Assets to be Disposed of," the Company assesses the recoverability of its
long-lived assets (including costs in excess of net assets acquired) by
determining whether the asset balance can be recovered over the remaining
depreciation or amortization period through projected undiscounted future
cash flows. Cash flow projections, although subject to a degree of
uncertainty, are based on trends of historical performance and management's
estimate of future performance, giving consideration to existing and
anticipated competitive and economic conditions. There were no impairment
charges in any of the three years ended December 31, 2001, 2000 and 1999.
l. Pre-Production Engineering
--------------------------
Effective for design and development costs incurred after December 31,
1999, the Emerging Issues Task Force (EITF) released issue No. 99-5,
"Accounting for Pre-Production Costs Related to Long Term Supply
Arrangements". The task force reached a consensus that design and
development costs for products to be sold under long-term
55
<PAGE>
supply arrangement should be expenses as incurred. The effect of adoption
was immaterial to the Company's financial statements.
In 1998, the Company capitalized $188,000 in pre-production engineering
costs relating to a new government contract for the armor vest product
line. In November 1999, the company commenced shipments of the product and
began to amortize these costs. The remaining amount capitalized of $172,000
was completely amortized by March 31, 2000.
m. Use of Estimates
----------------
The preparation of financial statements in accordance with accounting
principles generally accepted in the United States requires management to
make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements. Actual results could differ from those
estimates.
n. Engineering and Research
------------------------
The costs associated with application engineering and internally-funded
research are expensed as incurred and are included in cost of product sales
or other operating expenses. The Company established a new research and
development department in 1998 to focus on new materials technology. Costs
associated with the research and development department were $1,083,000,
$1,252,000, and $597,000 for years ended December 31, 2001, 2000 and 1999,
respectively. In addition, the Company historically has and continues to
engage in application engineering and internally funded research to improve
and reduce the cost of products and to develop new products. Costs
associated with the engineering department were approximately $497,000,
$358,000 and $281,000 in 2001, 2000 and 1999, respectively, and are
included in cost of product sales.
o. Fair Value of Financial Instruments
-----------------------------------
The carrying value of accounts receivable and trade payables approximates
the fair value due to their short-term maturities. The carrying value of
the Company's unused line of credit is considered to approximate fair
market value, as the interest rates of these instruments are based
predominately on variable reference rates. The carrying value of the
Company's long-term debt is a reasonable estimate of fair value as the rate
of interest paid on the note approximates the current rate available for
financing with similar terms and maturities.
p. Income Taxes
------------
The Company accounts for income taxes using the asset and liability
approach. Under this approach, deferred taxes are determined based on the
differences between the financial statements and the tax bases using rates
as enacted in tax laws. A valuation allowance is established if it is "more
likely than not" that all or a portion of the deferred tax asset will not
be realized.
56
<PAGE>
q. New Accounting Pronouncements
-----------------------------
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities".
SFAS No. 133 requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of derivatives
are recorded each period in current earnings or other comprehensive income,
depending on whether a derivative is designed as part of a hedge
transaction and, if it is, the type of hedge transaction. In June 1999, the
FASB issued SFAS No. 137, "Accounting for Derivative Instruments and
Hedging Activities - Deferral of the Effective Date of FASB Statement No.
133". SFAS No. 137 delays the effective date of SFAS No. 133 to fiscal
years beginning after June 15, 2000. In June 2000, the FASB issued SFAS No.
138, "Accounting for Certain Derivative Instruments and Certain Hedging
Activities - an amendment of FASB Statement No. 133". SFAS No. 138 is
effective concurrent with the delayed effective date of SFAS No. 133. SFAS
No. 138 amends the accounting and reporting standards for certain
derivative instruments and certain hedging activities. The Company adopted
SFAS Nos. 133, 137 and 138 on January 1, 2001. The adoption did not have a
material impact, as the Company does not currently hold any derivative
instruments.
In June 2001, the FASB issued SFAS No. 141, "Business Combinations." This
Statement addresses financial accounting and reporting for business
combinations and supersedes APB Opinion No. 16, "Business Combinations,"
and SFAS No. 38, "Accounting for Preacquisition Contingencies of Purchased
Enterprises". All business combinations in the scope of this Statement are
to be accounted for using one method, the purchase method. The Company
adopted SFAS 141 for all business combinations initiated after June 30,
2001.
Also in June 2001, the FASB issued SFAS No. 142, "Goodwill and Other
Intangible Assets". SFAS 142 addresses financial accounting and reporting
for acquired goodwill and other intangible assets and supersedes APB
Opinion No. 17, "Intangible Assets". This pronouncement addresses, among
other things, how goodwill and other intangible assets should be accounted
for after they have been initially recognized in the financial statements.
Goodwill would no longer be amortized but would be assessed at least
annually for impairment using a fair value methodology. The Company adopted
this statement for all goodwill and other intangible assets acquired after
June 30, 2001 and for all existing goodwill and other intangible assets
beginning January 1, 2002. Upon adoption of this standard on January 1,
2002 the Company will cease recording amortization of goodwill, which is
expected to increase gross income in 2002 by approximately $200,000 or
approximately $0.01 per diluted share after tax. Other than ceasing the
amortization of goodwill, the Company does not anticipate that the adoption
of SFAS 142 will have a significant effect on the financial position or the
results of operations, as the Company does not currently anticipate any
impairment charges for existing goodwill.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". SFAS No. 144 addresses the
financial accounting and reporting for the impairment of long-lived assets
and for long-lived assets to be disposed of and is effective for fiscal
years beginning after December 15, 2001. This statement supersedes SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of"; however, it retains the fundamental provision of
SFAS No. 121 for (i) recognition and measurement of the impairment of
long-lived assets to be held and used and (ii)
57
<PAGE>
measurement of long-lived assets to be disposed of by sale. This statement
also supersedes the accounting and reporting provisions of APB Opinion No.
30, "Reporting the Results of Operations--Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions" for the disposal of a segment of a
business. The Company does not believe SFAS No. 144 will have a material
impact on the Company's financial position or results of operations.
2. Debt and Bank Borrowing Arrangements
------------------------------------
In November 1997, the Company entered into a revolving credit agreement with
Comerica Bank. The unused credit facility amount remains at $4,000,000 as of
December 31, 2001.
The Company entered into a $500,000 capital equipment loan agreement during the
third quarter of 1999. The capital equipment loan bears interest at a fixed
interest rate of 8.18%, as of December 31, 2001, and is payable in monthly
installments of $8,333 expiring July 2004. There is no prepayment penalty on the
loan. The equipment serves as the collateral for the loan. Pursuant to the loan,
the Company is subject to certain covenants, which include, among other things,
the maintenance of minimum net worth, minimum ratio of quick assets to current
liabilities, and maximum ratio of total liabilities to net worth.
Future scheduled capital equipment loan payments are as follows:
Year Ending December 31:
2002 $100,000
2003 100,000
2004 58,000
--------
$258,000
========
3. Income Taxes
------------
The provision (benefit) for income taxes is comprised of the following for the
year ended December 31:
2001 2000 1999
---- ---- ----
Current $167,000 $104,000 $(44,000)
Deferred 641,000 --- ---
-------- -------- --------
$808,000 $104,000 $(44,000)
======== ======== ========
The Company's deferred tax asset (liability) of $1.1 million at December 31,
2001 relates primarily to its tax net operating loss carryforwards, which total
approximately $2.0 million and expire as follows:
2009 $ 380,000
2010 1,620,000
-----------
$ 2,000,000
===========
58
<PAGE>
The components of the Company's deferred tax asset (liability) as of December
31, 2001 and 2000 are as follows:
December 31,
------------
2001 2000
---- ----
Current asset:
Inventory adjustments $ 379,000 $ 299,000
Vacation accrual 121,000 113,000
Bad debt allowance 47,000 33,000
Net operating loss and tax credit
carryforwards 1,129,000 ---
Other 52,000 2,000
---------- ----------
$1,728,000 $ 447,000
---------- ----------
Noncurrent (liability) asset:
Depreciation and amortization $ (609,000) $ 42,000
Net operating loss and tax credit
carryforwards --- 2,371,000
Valuation allowance --- (1,152,000)
---------- ----------
$ (609,000) $1,261,000
=========== ==========
The effective income tax rate for the years ended December 31, 2001, 2000 and
1999 differs from the Federal statutory income tax rate due to the following
items:
<TABLE>
<CAPTION>
December 31,
------------
2001 2000 1999
---- ---- ----
<S> <C> <C> <C>
Income before taxes $ 4,837,000 $ 5,197,000 $ 1,559,000
------------- ----------- ------------
Provision for income taxes at federal
statutory rate (34%) 1,644,580 1,766,980 530,060
State income taxes, net of federal benefit 234,595 252,055 75,612
Reduction of valuation allowance (1,152,000) (1,839,000) (708,000)
Other 80,825 (76,035) 58,328
-------------- ----------- ------------
Provision (benefit) for income taxes $ 808,000 $ 104,000 $ (44,000)
============= =========== ============
Effective tax rate 16.70% 2.00% (2.82)%
===== ==== =====
</TABLE>
59
<PAGE>
4. Commitments and Contingencies
-----------------------------
a. Operating Lease Obligations
---------------------------
The Company leases certain of its manufacturing facilities under
noncancelable operating leases expiring at various dates through October
2015. The Company incurred rental expense under these leases of $792,458,
$691,365 and $653,433 for the years ended 2001, 2000 and 1999,
respectively. The approximate minimum rental commitments required under
existing noncancelable leases as of December 31, 2001 are as follows:
2002 $1,113,000
2003 1,171,000
2004 1,225,000
2005 1,148,000
2006 544,000
Thereafter 2,593,000
----------
$7,794,000
b. Employment Agreement
--------------------
The Company had an employment agreement with its Chief Executive Officer
which expired on July 5, 2001. In addition to a base salary, the agreement
provides for a bonus to be determined by the Compensation Committee of the
Board of Directors. No maximum compensation limit exists. Compensation
expense pursuant to this agreement in 2001, 2000 and 1999 was $323,838,
$310,970 and $256,112, respectively.
c. Legal Proceedings
-----------------
The Company is, from time to time, involved in various legal and other
proceedings that relate to the ordinary course of operating its business,
including, but not limited to, employment-related actions and workers'
compensation claims.
From October 1995 through November 2000, the Company, along with other
companies, was served with eight different complaints that were filed by
eleven former employees of one of the Company's customers, and eight
spouses. The complaints, all filed in the United States District Court,
Eastern District of Tennessee, alleged that the customers' employees
contracted chronic beryllium disease as a result of their exposure to
beryllium-containing products sold by Ceradyne and other companies. As of
December 7, 2001, all of these cases had been terminated without liability
to Ceradyne; summary judgment in favor of Ceradyne was granted in seven
cases, and the other one case was dismissed voluntarily by the plaintiff
without prejudice to file the suit in the future.
On December 21, 2001, the Company was served with a complaint filed by the
Company's insurance carrier in the Superior Court of California in Santa
Ana, California. The complaint seeks a declaration that the Company is
obligated to reimburse the insurance carrier for defense expenses that the
insurance carrier has or will pay on behalf of the Company's prior lessor.
The lessor was sued by an employee of the Company alleging he contracted
chronic beryllium disease while employed at the lessor's facility in the
1980's. The Company's
60
<PAGE>
insurance carrier has or will pay the lessor's defense costs under a
reservation of rights to seek reimbursement from the Company if it is
determined by the Court that the Company's insurance carrier is not
obligated to pay.
The Company believes that the insurance carrier's claim is without merit
and is vigorously defending against this claim. The case is in the early
stage of discovery and no trial date has been set. The complaint does not
state the amount of legal expenses for which reimbursement is sought, but
the Company believes that the resolution of this matter will not have a
material adverse effect on the financial condition or operations of the
Company.
5. Disclosure About Segments of Enterprise and Related Information
---------------------------------------------------------------
The Company serves its markets and manages its business through three divisions,
each of which has its own manufacturing facilities and administrative and
selling functions. The Company's Advanced Ceramic Operations, located in Costa
Mesa and Irvine, California, primarily produces armor and orthodontic products,
components for semiconductor equipment, and houses the Company's SRBSN research
and development activities. The Company's cathode development and production are
handled through its Semicon Associates division located in Lexington, Kentucky.
Fused silica products, including missile radomes, are produced at the Company's
Thermo Materials division located in Scottdale, Georgia.
Ceradyne's manufacturing structure is summarized in the following table:
<TABLE>
<CAPTION>
==================================================================================================
FACILITY LOCATION PRODUCTS
- --------------------------------------------------------------------------------------------------
<S> <C>
Advanced Ceramic Operations . Semiconductor Equipment Components
Costa Mesa and Irvine, California . Lightweight ceramic armor
Approximately 126,000 square feet . Orthodontic ceramic brackets
. Ceralloy(R) 147 SRBSN wear parts
. Precision ceramics
. Ceralloy(R) 147 SRBSN diesel/automotive engine parts
. Research and Development
- --------------------------------------------------------------------------------------------------
Semicon Associates . Microwave ceramic-impregnated dispenser cathodes
Lexington, Kentucky . Ion laser ceramic-impregnated dispenser cathodes
Approximately 35,000 square feet . Samarium cobalt magnets
- --------------------------------------------------------------------------------------------------
Thermo Materials . Glass tempering rolls (fused silica ceramics)
Scottdale, Georgia . Metallurgical tooling (fused silica ceramics)
Approximately 85,000 square feet . Missile radomes (fused silica ceramics)
. Castable and other fused silica products
==================================================================================================
</TABLE>
61
<PAGE>
Ceradyne, Inc.
Segment Statement of Operations for the Years Ended
December 31, 2001, 2000, and 1999
(amounts in thousands)
<TABLE>
<CAPTION>
Advanced Ceramic Ops Semicon Associates Thermo Materials TOTAL
-------------------- ------------------- ---------------- -----
- ---------------------------------------------------------------------------------------------------------------------------------
2001 2000 1999 2001 2000 1999 2001 2000 1999 2001 2000 1999
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenue from $31,026 $31,250 $17,839 $ 7,709 $7,191 $6,385 $6,604 $7,489 $6,158 $45,339 $45,930 $30,382
------- ------- ------- ------- ------ ------ ------ ------ ------ ------- ------- -------
External
Customers
Depreciation $ 1,641 $ 1,564 $ 1,272 $ 451 $ 362 $ 347 $ 393 $ 286 $ 216 $ 2,485 $ 2,212 $ 1,835
------- ------- ------- ------- ------ ------ ------ ------ ------ ------- ------- -------
and
Amortization
Segment $ 3,754 $ 3,389 $ 762 $ 1,493 $ 895 $ 395 $ (410) $ 913 $ 402 $ 4,837 $ 5,197 $ 1,559
------- ------- ------- ------- ------ ------ ------ ------ ------ ------- ------- -------
Income (loss)
before
provision
(benefit) for
income taxes
Segment $35,398 $27,298 $23,196 $ 6,575 $5,994 $5,877 $5,978 $5,171 $3,820 $47,951 $38,463 $32,893
------- ------- ------- ------- ------ ------ ------ ------ ------ ------- ------- -------
Assets
Expenditures $ 5,746 $ 1,211 $ 2,989 $ 384 $ 394 $ 322 $ 835 $ 809 $ 477 $ 6,965 $ 2,414 $ 3,788
------- ------- ------- ------- ------ ------ ------ ------ ------ ------- ------- -------
for Segment
Assets of
PP&E
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The following is revenue by product line for Advanced Ceramic Operations for the
year ended December 31,
2001 2000 1999
---- ---- ----
Semiconductor $ 1,667 $ 2,407 $ 2,113
Armor 12,446 14,489 4,772
Orthodontics 7,992 6,511 5,623
Other 8,921 7,843 5,331
------- ------- -------
$31,026 $31,250 $17,839
Segment Statement of Net Sales by Area
for the Years Ended
December 31, 2001, 2000, and 1999
(in %)
<TABLE>
<CAPTION>
Advanced Ceramic Ops Semicon Associates Thermo Materials TOTAL
-------------------- ------------------- ---------------- -----
- ---------------------------------------------------------------------------------------------------------------------------
2001 2000 1999 2001 2000 1999 2001 2000 1999 2001 2000 1999
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Net 60% 63% 54% 14% 12% 18% 10% 12% 17% 84% 87% 89%
Sales
Western 4% 3% 3% 2% 2% 2% 1% 1% 1% 7% 6% 6%
Europe Net
Sales
Asia Net 1% 1% 1% 1% 1% 1% 3% 2% 2% 5% 4% 4%
Sales
Israel Net 3% 1% --- --- --- --- --- --- --- 3% 1% ---
Sales
Canada Net --- --- 1% --- 1% --- 1% 1% --- 1% 2% 1%
Sales
Other --- --- --- --- --- --- --- --- --- --- --- ---
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Net 68% 68% 59% 17% 16% 21% 15% 16% 20% 100% 100% 100%
===== ===== ===== ===== ===== ===== ===== ===== ===== ===== ===== =====
Sales
----------------------------------------------------------------------------------------------------------
</TABLE>
One customer accounted for approximately 18%, 14% and 18% of net sales for the
years ended 2001, 2000 and 1999, respectively.
62
<PAGE>
6. Stock Options
-------------
The Company has a stock option plan, the 1994 Stock Incentive Plan, and an
employee stock purchase plan, the 1995 Employee Stock Purchase Plan. The Company
accounts for these plans under APB Opinion No. 25, under which no compensation
cost has been recognized. Had compensation cost for these plans been determined
consistent with SFAS No. 123, the Company's net income and earnings per share
would have been reduced to the following pro forma amounts:
<TABLE>
<CAPTION>
2001 1999 1998
---- ---- ----
<S> <C> <C> <C>
Net income: As reported $4,029,000 $5,093,000 $1,603,000
Pro forma $3,385,000 $4,696,000 1,276,000
Basic income per share As reported $0.48 $0.62 $0.20
Pro forma $0.41 $0.57 $0.16
Diluted income per share As reported $0.46 $0.61 $0.20
Pro forma $0.39 $0.56 $0.16
</TABLE>
Because the SFAS No. 123 method of accounting has not been applied to options
granted prior to January 1, 1995, the resulting pro forma compensation cost may
not be representative of that to be expected in future years. Additionally, the
2001, 2000 and 1999 pro forma net income include immaterial amounts related to
the purchase discount offered under the 1995 Employee Stock Purchase Plan.
The Company may sell up to 250,000 shares of stock to its full-time employees
under the 1995 Employee Stock Purchase Plan. The Company has sold 21,765 shares,
27,925 shares and 26,793 shares in 2001, 2000 and 1999, respectively, under the
1995 Employee Stock Purchase Plan. Employees may purchase shares at the lower of
85 percent of the quoted market value of the shares as determined on the first
or last day of the plan year. As of December 31, 2001, the Company has 113,657
shares available under the 1995 Employee Stock Purchase Plan. The weighted
average fair value of shares sold in 2001, 2000 and 1999 was $6.88, $3.88 and
$3.88, respectively.
The Company may grant options for up to 950,000 shares under the 1994 Stock
Incentive Plan. The Company has granted options for 1,035,100 shares and has had
cancellations of 143,705 shares through December 31, 2001. Options are granted
at or above the fair market value at the date of grant and generally become
exercisable over a five-year period for Incentive Options and three months for
Non-Qualified Options.
63
<PAGE>
A summary of the status of the Company's stock option plan at December 31, 1999,
2000 and 2001 and changes during the years then ended is presented in the table
and narrative below:
Weighted Average
Shares Exercise Price
------ ---------------
OUTSTANDING, December 31, 1998 498,150 $ 4.24
======== ========
Granted 151,000 $ 3.39
Exercised (10,200) (2.63)
Canceled (10,400) (4.66)
-------- --------
OUTSTANDING, December 31, 1999 628,550 $ 4.06
======== ========
Granted 107,900 $ 6.83
Exercised (127,990) (4.23)
Canceled (11,000) (4.16)
-------- --------
OUTSTANDING, December 31, 2000 597,460 $ 4.57
======== ========
Granted 169,500 $ 6.83
Exercised (53,700) 4.00
Canceled (7,500) 4.84
-------- --------
OUTSTANDING, December 31, 2001 705,760 $ 5.15
======== ========
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions used for grants in 2001, 2000, and 1999, respectively: risk free
interest rates of 4.92, 5.76 and 6.51 percent; expected life for 2001, 2000 and
1999 of 7 years; expected volatility of 64.97, 66.53 and 65.06 percent. The
assumed dividend yield in 2001, 2000 and 1999 is zero percent.
Of the 705,760 options outstanding at December 31, 2001, 300,900 have exercise
prices between $2.00 and $4.38, with a weighted average exercise price of $3.17,
and a weighted average remaining contractual life of six years. The remaining
404,860 options have exercise prices between $4.75 and $7.62, with a weighted
average exercise price of $6.53, and a weighted average remaining contractual
life of eight years.
7. Supplemental Retirement Plan
----------------------------
In December 1988 the Board of Directors of the Company approved the adoption of
a supplemental retirement plan, the Ceradyne SMART 401(k) Plan (the Plan), in
which substantially all employees are eligible to participate after completing
90 days of employment. Participation in the Plan is voluntary. An employee may
elect to contribute up to fifteen percent (15% or the maximum deferred tax
amount of $10,500 in 2001, whichever is less) of the employee's pretax
compensation as a basic contribution. The Company may contribute any amount
which the Board of Directors annually determines appropriate. Company
contributions fully vest and are nonforfeitable after the participant has
completed five years of service. During the years ended December 31, 2001, 2000
and 1999, the related Company contribution was $259,024, $82,052 and $14,601,
respectively.
64
<PAGE>
The Company's contribution is in the form of shares of its common stock. The
number of shares to be contributed will be determined by dividing the total
Company match for the Plan year by the higher of the market value per share of
common stock as of the end of that Plan year (December 31), or the audited book
value per share of common stock as of the end of that Plan year. The
participants' cash contributions may be invested, at their discretion, in
several funds. The member can elect to allocate the accumulated and future
contributions to their accounts among these funds in increments of 10 percent.
The Company has reserved 250,000 shares of its common stock for possible
issuance under the Plan. At December 31, 2001, 64,966 shares were available for
issuance under the Plan.
8. Joint Venture and Joint Development Agreement
---------------------------------------------
On March 11, 1986, the Company sold 526,316 shares of its common stock to Ford
Motor Company (Ford) for a gross sales price of $10,000,000. In addition, Ford
and the Company formed a joint venture, Ceradyne Advanced Products, Inc. (CAPI),
in which the Company acquired a 20 percent interest for $200,000. Ford
contributed certain technology in exchange for its 80 percent interest in the
joint venture. The Company granted Ford an option to have Ford's 80 percent
interest in the joint venture to the Company in exchange for 608,020 shares of
the Company's common stock. Ford granted the Company an option to call Ford's 80
percent interest in the joint venture in exchange for 680,983 shares of the
Company's common stock.
On February 13, 1988, the Company exercised its call option and issued 680,983
shares of its common stock to Ford. The value of the shares issued ($2,043,000)
was allocated to the technology acquired and is being amortized over a 20 year
period utilizing the purchase method of accounting.
Ford and the Company have also entered into a joint development program to
develop a prototype production facility to produce ceramics with automotive
applications. Under the terms of the joint development agreement, Ford and the
Company share equally in the cost of this project. Ford contributed $270,000 for
each of the years ended December 31, 2001, 2000 and 1999. In addition, Ford
contributed $270,000 in October 2001 for fiscal year 2002.
9. Interim Financial Information (unaudited)
-----------------------------------------
The results by quarter for 2001 and 2000 are as follows:
<TABLE>
<CAPTION>
Quarter Ending
--------------
March 31, 2001 June 30, 2001 September 30, 2001 December 31, 2001
-------------- ------------- ------------------ -----------------
<S> <C> <C> <C> <C>
Net Sales $11,949,000 $11,137,000 $10,178,000 $12,075,000
Gross Profit 3,826,000 3,293,000 2,801,000 2,567,000
Net Income 1,189,000 1,257,000 658,000 925,000
Diluted Income per
Share $ 0.14 $ 0.14 $ 0.08 $ 0.10
</TABLE>
65
<PAGE>
<TABLE>
<CAPTION>
Quarter Ending
--------------
March 31, 2000 June 30, 2000 September 30, 2000 December 31, 2000
-------------- ------------- ------------------ -----------------
<S> <C> <C> <C> <C>
Net Sales $11,148,000 $11,699,000 $11,493,000 $11,590,000
Gross Profit 2,885,000 3,164,000 3,230,000 2,908,000
Net Income 1,156,000 1,338,000 1,409,000 1,190,000
Diluted Income per
Share $ 0.14 $ 0.16 $ 0.17 $ 0.14
</TABLE>
66
<PAGE>
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
-----------------------------------------------
(Amounts in thousands)
Balance Charged Balance
at to Costs at
Beginning and End of
Description of Period Expenses Deductions Period
- ----------- --------- -------- ---------- ------
For the Year Ending
December 31, 2001:
- ------------------
Allowance for
doubtful
accounts receivable $ 84 $ 57 $ 40 $101
==== ==== ==== ====
For the Year Ending
December 31, 2000:
- ------------------
Allowance for
doubtful
accounts receivable $ 39 $134 $ 89 $ 84
==== ==== ==== =====
For the Year Ending
December 31, 1999:
- ------------------
Allowance for
doubtful
accounts receivable $ 92 $ 77 $130 $ 39
==== ==== ==== =====
67
<PAGE>
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.
March 27, 2002 CERADYNE, INC.
By /s/ Joel P. Moskowitz
----------------------
Joel P. Moskowitz
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
/s/Joel P. Moskowitz Chairman of the Board, March 27, 2002
-------------------- Chief Executive Officer,
Joel P. Moskowitz President and Director
(Principle executive
officer)
/s/Howard F. George Chief Financial Officer March 27, 2002
------------------- (Principle financial
Howard F. George and accounting officer)
/s/Richard A. Alliegro Director March 27, 2002
----------------------
Richard A. Alliegro
/s/Eduard Bagdasarian Director March 27, 2002
---------------------
Eduard Bagdasarian
/s/Frank Edelstein Director March 27, 2002
------------------
Frank Edelstein
/s/Wilford D. Godbold, Jr. Director March 27, 2002
--------------------------
Wilford D. Godbold, Jr.
/s/Christopher D. Johnson Director March 27, 2002
-------------------------
Christopher D. Johnson
/s/Milton L. Lohr Director March 27, 2002
--------------------
Milton L. Lohr
68
<PAGE>
Exhibit Index
Exhibit No. Description
- ----------- -----------
10.32 Lease between EMC Associates and the Registrant dated December 7,
2001, covering premises located at 17466 Daimler Avenue, Irvine,
California
23.1 Consent of Arthur Andersen LLP
99.1 Letter regarding representations received from Arthur Andersen LLP
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-10.32
<SEQUENCE>3
<FILENAME>dex1032.txt
<DESCRIPTION>LEASE AGREEMENT DATED 12/7/2001
<TEXT>
<PAGE>
Exhibit No. 10.32
To establish a lease between EMC Associates and the Registrant
(Ceradyne, Inc.) dated December 7, 2001, covering premises located
at 17466 Daimler Avenue, Irvine, California.
<PAGE>
[LOGO] AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION
STANDARD INDUSTRIAL/COMMERCIAL SINGLE-TENANT LEASE -- NET
(DO NOT USE THIS FORM FOR MULTI-TENANT BUILDINGS)
1. Basic Provisions ("Basic Provisions").
1.1 Parties: This Lease ("Lease"), dated for reference purposes only,
December 7, 2001, is made by and between EMC Associates ("Lessor") and Ceradyne
Inc., a Delaware Corp. ("Lessee"), (collecti vely the "Parties," or individually
a "Party").
1.2 Premises: That certain real property, including all improvements
therein or to be provided by Lessor under the terms of this Lease, and commonly
known as 17466 Daimler Avenue, located in the County of Orange, State of
California, and generally described as (describe briefly the nature of the
property and, if applicable, the "Project", if the property is located within a
Project) an approximately 40,645 SQ' concrete tilt up industrial building
("Premises"). (See also Paragraph 2)
1.3 Term: five (5) years and -0- months ("Original Term") commencing
January 1, 2002 ("Commencement Date") and ending December 31, 2006 ("Expiration
Date"). (See also Paragraph 3)
1.4 Early Possession: December 15, 2001 ("Early Possession Date").
(See also Paragraphs 3.2 and 3.3)
1.5 Base Rent: $22,354.75 per month ("Base Rent"), payable on the 1st
day of each month commencing January 1, 2002. (See also Paragraph 4)
[X] If this box is checked, there are provisions in this Lease for the Base Rent
to be adjusted.
1.6 Base Rent and Other Monies Paid Upon Execution:
(a) Base Rent: $ 22,354.75 for the period January 1, 2002-January
31, 2002.
(b) Security Deposit: $ 22,354.75 ("Security Deposit"). (See also
Paragraph 5)
(c) Association Fees: $__________ for the period
(d) Other: $__________ for______________________________________.
(e) Total Due Upon Execution of this Lease: $ 44,709.50.
1.7 Agreed Use: Assembly and manufacturing of ceramic products (See
also Paragraph 6)
1.8 Insuring Party: Lessor is the "Insuring Party" unless otherwise
stated herein. (See also Paragraph 8)
1.9 Real Estate Brokers: (See also Paragraph 15)
(a) Representation: The following real estate brokers (the
"Brokers") and brokerage relationships exist in this transaction (check
applicable boxes):
[_] __________________________represents Lessor exclusively ("Lessor's Broker");
[_] ______________________ represents Lessee exclusively ("Lessee's Broker"); or
[X] Lee & Associates-Newport Beach, Inc. represents both Lessor and Lessee
("Dual Agency").
(b) Payment to Brokers: Upon execution and delivery of this Lease
by both Parties, Lessor shall pay to the Broker the fee agreed to in their
separate written agreement (or if there is no such agreement, the sum of
__________ or _____% of the total Base Rent) for the brokerage services
rendered by the Brokers.
1.10 Guarantor. The obligations of the Lessee under this Lease are to be
guaranteed by ____________________________________ ("Guarantor"). (See also
Paragraph 37)
1.11 Attachments. Attached hereto are the following, all of which
constitute a part of this Lease:
[X] an Addendum consisting of Paragraphs 51 through 56;
[_] a plot plan depicting the Premises;
[_] a current set of the Rules and Regulations;
[_] a Work Letter;
[_] other (specify): ___________________________________________________________
_______________________________________________________________________________.
2. Premises.
2.1 Letting. Lessor hereby leases to Lessee, and Lessee hereby leases
from Lessor, the Premises, for the term, at the rental, and upon all of the
terms, covenants and conditions set forth in this Lease. Unless otherwise
provided herein, any statement of size set forth in this Lease, or that may have
been used in calculating Rent, is an approximation which the Parties agree is
reasonable and any payments based thereon are not subject to revision whether or
not the actual size is more or less. Note: Lessee is advised to verify the
actual size prior to executing this Lease.
2.2 Condition. Lessor shall deliver the Premises to Lessee broom clean
and free of debris on the Commencement Date or the Early Possession Date,
whichever first occurs ("Start Date"), and, so long as the required service
contracts described in Paragraph 7.1(b) below are obtained by Lessee and in
effect within thirty days following the Start Date, warrants that the existing
electrical, plumbing, fire sprinkler, lighting, heating, ventilating and air
conditioning systems ("HVAC"), loading doors, sump pumps, if any, and all other
such elements in the Premises, other than those constructed by Lessee, shall be
in good operating condition on said date and that the structural elements of the
roof, bearing walls and foundation of any buildings on the Premises (the
"Building") shall be free of material defects. If a non-compliance with said
warranty exists as of the Start Date, or if one of such systems or elements
should malfunction or fail within the appropriate warranty period, Lessor shall,
as Lessor's sole obligation with respect to such matter, except as otherwise
provided in this Lease, promptly after receipt of written notice from Lessee
setting forth with specificity the nature and extent of such non-compliance,
malfunction or failure, rectify same at Lessor's expense. The warranty periods
shall be as follows: (i) 6 months as to the HVAC systems, and (ii) 30 days as to
- -------------- --------------
/s/ ILLEGIBLE /s/ ILLEGIBLE
- -------------- --------------
Initials Page 1 of 12 Initials
<PAGE>
the remaining systems and other elements of the Building. If Lessee does not
give Lessor the required notice within the appropriate warranty period,
correction of any such non-compliance, malfunction or failure shall be the
obligation of Lessee at Lessee's sole cost and expense.
2.3 Compliance. Lessor warrants that the improvements on the Premises
comply with the building codes, applicable laws, covenants or restrictions of
record, regulations, and ordinances ("Applicable Requirements") that were in
effect at the time that each improvement, or portion thereof, was constructed.
Said warranty does not apply to the use to which Lessee will put the Premises,
modifications which may be required by the Americans with Disabilities Act or
any similar laws as a result of Lessee's use (see Paragraph 50), or to any
Alterations or Utility Installations (as defined in Paragraph 7.3(a)) made or to
be made by Lessee. NOTE: Lessee is responsible for determining whether or not
the Applicable Requirements, and especially the zoning, are appropriate for
Lessee's intended use, and acknowledges that past uses of the Premises may no
longer be allowed. If the Premises do not comply with said warranty, Lessor
shall, except as otherwise provided, promptly after receipt of written notice
from Lessee setting forth with specificity the nature and extent of such
non-compliance, rectify the same at Lessor's expense. If Lessee does not give
Lessor written notice of a non-compliance with this warranty within 6 months
following the Start Date, correction of that non-compliance shall be the
obligation of Lessee at Lessee's sole cost and expense. If the Applicable
Requirements are hereafter changed so as to require during the term of this
Lease the construction of an addition to or an alteration of the Premises and/or
Building, the remediation of any Hazardous Substance, or the reinforcement or
other physical modification of the Unit, Premises and/or Building ("Capital
Expenditure"), Lessor and Lessee shall allocate the cost of such work as
follows:
(a) Subject to Paragraph 2.3(c) below, if such Capital
Expenditures are required as a result of the specific and unique use of the
Premises by Lessee as compared with uses by tenants in general, Lessee shall be
fully responsible for the cost thereof, provided, however that if such Capital
Expenditure is required during the last 2 years of this Lease and the cost
thereof exceeds 6 months' Base Rent, Lessee may instead terminate this Lease
unless Lessor notifies Lessee, in writing, within 10 days after receipt of
Lessee's termination notice that Lessor has elected to pay the difference
between the actual cost thereof and an amount equal to 6 months' Base Rent. If
Lessee elects termination, Lessee shall immediately cease the use of the
Premises which requires such Capital Expenditure and deliver to Lessor written
notice specifying a termination date at least 90 days thereafter. Such
termination date shall, however, in no event be earlier than the last day that
Lessee could legally utilize the Premises without commencing such Capital
Expenditure.
(b) If such Capital Expenditure is not the result of the specific
and unique use of the Premises by Lessee (such as, governmentally mandated
seismic modifications), then Lessor and Lessee shall allocate the obligation to
pay for such costs pursuant to the provisions of Paragraph 7.1(d); provided,
however, that if such Capital Expenditure is required during the last 2 years of
this Lease or if Lessor reasonably determines that it is not economically
feasible to pay its share thereof, Lessor shall have the option to terminate
this Lease upon 90 days prior written notice to Lessee unless Lessee notifies
Lessor, in writing, within 10 days after receipt of Lessor's termination notice
that Lessee will pay for such Capital Expenditure. If Lessor does not elect to
terminate, and fails to tender its share of any such Capital Expenditure, Lessee
may advance such funds and deduct same, with Interest, from Rent until Lessor's
share of such costs have been fully paid. If Lessee is unable to finance
Lessor's share, or if the balance of the Rent due and payable for the remainder
of this Lease is not sufficient to fully reimburse Lessee on an offset basis,
Lessee shall have the right to terminate this Lease upon 30 days written notice
to Lessor.
(c) Notwithstanding the above, the provisions concerning Capital
Expenditures are intended to apply only to non-voluntary, unexpected, and new
Applicable Requirements. If the Capital Expenditures are instead triggered by
Lessee as a result of an actual or proposed change in use, change in intensity
of use, or modification to the Premises then, and in that event, Lessee shall
either: (i) immediately cease such changed use or intensity of use and/or take
such other steps as may be necessary to eliminate the requirement for such
Capital Expenditure, or (ii) complete such Capital Expenditure at its own
expense. Lessee shall not, however, have any right to terminate this Lease.
2.4 Acknowledgements. Lessee acknowledges that: (a) it has been
advised by Lessor and/or Brokers to satisfy itself with respect to the condition
of the Premises (including but not limited to the electrical, HVAC and fire
sprinkler systems, security, environmental aspects, and compliance with
Applicable Requirements and the Americans with Disabilities Act), and their
suitability for Lessee's intended use, (b) Lessee has made such investigation as
it deems necessary with reference to such matters and assumes all responsibility
therefor as the same relate to its occupancy of the Premises, and (c) neither
Lessor, Lessor's agents, nor Brokers have made any oral or written
representations or warranties with respect to said matters other than as set
forth in this Lease. In addition, Lessor acknowledges that: (i) Brokers have
made no representations, promises or warranties concerning Lessee's ability to
honor the Lease or suitability to occupy the Premises, and (ii) it is Lessor's
sole responsibility to investigate the financial capability and/or suitability
of all proposed tenants.
2.5 Lessee as Prior Owner/Occupant. The warranties made by Lessor in
Paragraph 2 shall be of no force or effect if immediately prior to the Start
Date Lessee was the owner or occupant of the Premises. In such event, Lessee
shall be responsible for any necessary corrective work.
3. Term.
3.1 Term. The Commencement Date, Expiration Date and Original Term of
this Lease are as specified in Paragraph 1.3.
3.2 Early Possession. If Lessee totally or partially occupies the
Premises prior to the Commencement Date,the obligation to pay Base Rent shall be
abated for the period of such early possession. All other terms of this Lease
(including but not limited to the obligations to pay Real Property Taxes and
insurance premiums and to maintain the Premises) shall, however, be in effect
during such period. Any such early possession shall not affect the Expiration
Date.
3.3 Delay In Possession. Lessor agrees to use its best commercially
reasonable efforts to deliver possession of the Premises to Lessee by the
Commencement Date. If, despite said efforts, Lessor is unable to deliver
possession by such date, Lessor shall not be subject to any liability therefor,
nor shall such failure affect the validity of this Lease. Lessee shall not,
however, be obligated to pay Rent or perform its other obligations until Lessor
delivers possession of the Premises and any period of rent abatement that Lessee
would otherwise have enjoyed shall run from the date of delivery of possession
and continue for a period equal to what Lessee would otherwise have enjoyed
under the terms hereof, but minus any days of delay caused by the acts or
omissions of Lessee. If possession is not delivered within 60 days after the
Commencement Date, Lessee may, at its option, by notice in writing within 10
days after the end of such 60 day period, cancel this Lease, in which event the
Parties shall be discharged from all obligations hereunder. If such written
notice is not received by Lessor within said 10 day period, Lessee's right to
cancel shall terminate. If possession of the Premises is not delivered within
120 days after the Commencement Date, this Lease shall terminate unless other
agreements are reached between Lessor and Lessee, in writing.
3.4 Lessee Compliance. Lessor shall not be required to deliver
possession of the Premises to Lessee until Lessee complies with its obligation
to provide evidence of insurance (Paragraph 8.5). Pending delivery of such
evidence, Lessee shall be required to perform all of its obligations under this
Lease from and after the Start Date, including the payment of Rent,
notwithstanding Lessor's election to withhold possession pending receipt of such
evidence of insurance. Further, if Lessee is required to perform any other
conditions prior to or concurrent with the Start Date, the Start Date shall
occur but Lessor may elect to withhold possession until such conditions are
satisfied.
4. Rent.
4.1. Rent Defined. All monetary obligations of Lessee to Lessor under
the terms of this Lease (except for the Security Deposit) are deemed to be rent
("Rent").
4.2 Payment. Lessee shall cause payment of Rent to be received by
Lessor in lawful money of the United States on or before the day on which it is
due, without offset or deduction (except as specifically permitted in this
Lease). Rent for any period during the term hereof which is for less than one
full calendar month shall be prorated based upon the actual number of days of
said month. Payment of Rent shall be made to Lessor at its address stated herein
or to such other persons or place as Lessor may from time to time designate in
writing. Acceptance of a payment which is less than the amount then due shall
not be a waiver of Lessor's rights to the balance of such Rent, regardless of
Lessor's endorsement of any check so stating. In the event that any check,
draft, or other instrument of payment given by Lessee to Lessor is dishonored
for any reason, Lessee agrees to pay to Lessor the sum of $25 in addition to any
Late Charge and Lessor, at its option, may require all future payments to be
made by Lessee to be by cashier's check. Payments will be applied first to
accrued late charges and attorney's fees, second to accrued interest, then to
Base Rent and Operating Expense Increase, and any remaining amount to any other
outstanding charges or costs.
4.3 Association Fees. In addition to the Base Rent, Lessee shall pay
to Lessor each month an amount equal to any owner's association or condominium
fees levied or assessed against the Premises. Said monies shall be paid at the
same time and in the same manner as the Base Rent.
5. Security Deposit. Lessee shall deposit with Lessor upon execution hereof
the Security Deposit as security for Lessee's faithful performance of its
obligations under this Lease. If Lessee fails to pay Rent, or otherwise Defaults
under this Lease, Lessor may use, apply or retain all or any portion of said
Security Deposit for the payment of any amount due Lessor or to reimburse or
compensate Lessor for any liability, expense, loss or damage which Lessor may
suffer or incur by reason thereof. If Lessor uses or applies all or any portion
of the Security Deposit, Lessee shall within 10 days after written request
therefor deposit monies with Lessor sufficient to restore said Security Deposit
to the full amount required by this Lease. If the Base Rent increases during the
term of this Lease, Lessee shall, upon written request from Lessor, deposit
additional moneys with Lessor so that the total amount of the Security Deposit
shall at all times bear the same proportion to the increased Base Rent as the
initial Security Deposit bore to the initial Base Rent. Should the Agreed Use be
amended to accommodate a material change in the business of Lessee or to
accommodate a sublessee or assignee, Lessor shall have the right to increase the
Security Deposit to the extent necessary, in Lessor's reasonable judgment, to
account for any increased wear and tear that the Premises may suffer as a result
thereof. If a change in control of Lessee occurs during this Lease and following
such change the financial condition of Lessee is, in Lessor's reasonable
judgment, significantly reduced, Lessee shall deposit such additional monies
with Lessor as shall be sufficient to cause the Security Deposit to be
STN-7-4/01E at a commercially reasonable level based on such change in financial
condition. Lessor shall not be required to keep the Security Deposit separate
from its
- -------------- --------------
/s/ ILLEGIBLE /s/ ILLEGIBLE
- -------------- --------------
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general accounts. Within 14 days after the expiration or termination of this
Lease, if Lessor elects to apply the Security Deposit only to unpaid Rent, and
otherwise within 30 days after the Premises have been vacated pursuant to
Paragraph 7.4(c) below, Lessor shall return that portion of the Security Deposit
not used or applied by Lessor. No part of the Security Deposit shall be
considered to be held in trust, to bear interest or to be prepayment for any
monies to be paid by Lessee under this Lease.
6. Use.
6.1 Use. Lessee shall use and occupy the Premises only for the Agreed
Use, or any other legal use which is reasonably comparable thereto, and for no
other purpose. Lessee shall not use or permit the use of the Premises in a
manner that is unlawful, creates damage, waste or a nuisance, or that disturbs
occupants of or causes damage to neighboring premises or properties. Lessor
shall not unreasonably withhold or delay its consent to any written request for
a modification of the Agreed Use, so long as the same will not impair the
structural integrity of the improvements on the Premises or the mechanical or
electrical systems therein, and/or is not significantly more burdensome to the
Premises. If Lessor elects to withhold consent, Lessor shall within 7 days after
such request give written notification of same, which notice shall include an
explanation of Lessor's objections to the change in the Agreed Use.
6.2 Hazardous Substances.
(a) Reportable Uses Require Consent. The term "Hazardous
Substance" as used in this Lease shall mean any product, substance, or waste
whose presence, use, manufacture, disposal, transportation, or release, either
by itself or in combination with other materials expected to be on the Premises,
is either: (i) potentially injurious to the public health, safety or welfare,
the environment or the Premises, (ii) regulated or monitored by any governmental
authority, or (iii) a basis for potential liability of Lessor to any
governmental agency or third party under any applicable statute or common law
theory. Hazardous Substances shall include, but not be limited to, hydrocarbons,
petroleum, gasoline, and/or crude oil or any products, by-products or fractions
thereof. Lessee shall not engage in any activity in or on the Premises which
constitutes a Reportable Use of Hazardous Substances without the express prior
written consent of Lessor and timely compliance (at Lessee's expense) with all
Applicable Requirements. "Reportable Use" shall mean (i) the installation or use
of any above or below ground storage tank, (ii) the generation, possession,
storage, use, transportation, or disposal of a Hazardous Substance that requires
a permit from, or with respect to which a report, notice, registration or
business plan is required to be filed with, any governmental authority, and/or
(iii) the presence at the Premises of a Hazardous Substance with respect to
which any Applicable Requirements requires that a notice be given to persons
entering or occupying the Premises or neighboring properties. Notwithstanding
the foregoing, Lessee may use any ordinary and customary materials reasonably
required to be used in the normal course of the Agreed Use, ordinary office
supplies (copier toner, liquid paper, glue, etc.) and common household cleaning
materials, so long as such use is in compliance with all Applicable
Requirements, is not a Reportable Use, and does not expose the Premises or
neighboring property to any meaningful risk of contamination or damage or expose
Lessor to any liability therefor. In addition, Lessor may condition its consent
to any Reportable Use upon receiving such additional assurances as Lessor
reasonably deems necessary to protect itself, the public, the Premises and/or
the environment against damage, contamination, injury and/or liability,
including, but not limited to, the installation (and removal on or before Lease
expiration or termination) of protective modifications (such as concrete
encasements) and/or increasing the Security Deposit.
(b) Duty to Inform Lessor. If Lessee knows, or has reasonable
cause to believe, that a Hazardous Substance has come to be located in, on,
under or about the Premises, other than as previously consented to by Lessor,
Lessee shall immediately give written notice of such fact to Lessor, and provide
Lessor with a copy of any report, notice, claim or other documentation which it
has concerning the presence of such Hazardous Substance.
(c) Lessee Remediation. Lessee shall not cause or permit any
Hazardous Substance to be spilled or released in, on, under, or about the
Premises (including through the plumbing or sanitary sewer system) and shall
promptly, at Lessee's expense, comply with all Applicable Requirements and take
all investigatory and/or remedial action reasonably recommended, whether or not
formally ordered or required, for the cleanup of any contamination of, and for
the maintenance, security and/or monitoring of the Premises or neighboring
properties, that was caused or materially contributed to by Lessee, or
pertaining to or involving any Hazardous Substance brought onto the Premises
during the term of this Lease, by or for Lessee, or any third party.
(d) Lessee Indemnification. Lessee shall indemnify, defend and
hold Lessor, its agents, employees, lenders and ground lessor, if any, harmless
from and against any and all loss of rents and/or damages, liabilities,
judgments, claims, expenses, penalties, and attorneys' and consultants' fees
arising out of or involving any Hazardous Substance brought onto the Premises by
or for Lessee, or any third party (provided, however, that Lessee shall have no
liability under this Lease with respect to underground migration of any
Hazardous Substance under the Premises from adjacent properties not caused or
contributed to by Lessee). Lessee's obligations shall include, but not be
limited to, the effects of any contamination or injury to person, property or
the environment created or suffered by Lessee, and the cost of investigation,
removal, remediation, restoration and/or abatement, and shall survive the
expiration or termination of this Lease. No termination, cancellation or release
agreement entered into by Lessor and Lessee shall release Lessee from its
obligations under this Lease with respect to Hazardous Substances, unless
specifically so agreed by Lessor in writing at the time of such agreement.
(e) Lessor Indemnification. Lessor and its successors and assigns
shall indemnify, defend, reimburse and hold Lessee, its employees and lenders,
harmless from and against any and all environmental damages, including the cost
of remediation, which result from Hazardous Substances which existed on the
Premises prior to Lessee's occupancy or which are caused by the gross negligence
or willful misconduct of Lessor, its agents or employees. Lessor's obligations,
as and when required by the Applicable Requirements, shall include, but not be
limited to, the cost of investigation, removal, remediation, restoration and/or
abatement, and shall survive the expiration or termination of this Lease.
(f) Investigations and Remediations. Lessor shall retain the
responsibility and pay for any investigations or remediation measures required
by governmental entities having jurisdiction with respect to the existence of
Hazardous Substances on the Premises prior to Lessee's occupancy, unless such
remediation measure is required as a result of Lessee's use (including
"Alterations", as defined in paragraph 7.3(a) below) of the Premises, in which
event Lessee shall be responsible for such payment. Lessee shall cooperate fully
in any such activities at the request of Lessor, including allowing Lessor and
Lessor's agents to have reasonable access to the Premises at reasonable times in
order to carry out Lessor's investigative and remedial responsibilities.
(g) Lessor Termination Option. If a Hazardous Substance Condition
(see Paragraph 9.1(e)) occurs during the term of this Lease, unless Lessee is
legally responsible therefor (in which case Lessee shall make the investigation
and remediation thereof required by the Applicable Requirements and this Lease
shall continue in full force and effect, but subject to Lessor's rights under
Paragraph 6.2(d) and Paragraph 13), Lessor may, at Lessor's option, either (i)
investigate and remediate such Hazardous Substance Condition, if required, as
soon as reasonably possible at Lessor's expense, in which event this Lease shall
continue in full force and effect, or (ii) if the estimated cost to remediate
such condition exceeds 12 times the then monthly Base Rent or $100,000,
whichever is greater, give written notice to Lessee, within 30 days after
receipt by Lessor of knowledge of the occurrence of such Hazardous Substance
Condition, of Lessor's desire to terminate this Lease as of the date 60 days
following the date of such notice. In the event Lessor elects to give a
termination notice, Lessee may, within 10 days thereafter, give written notice
to Lessor of Lessee's commitment to pay the amount by which the cost of the
remediation of such Hazardous Substance Condition exceeds an amount equal to 12
times the then monthly Base Rent or $100,000, whichever is greater. Lessee shall
provide Lessor with said funds or satisfactory assurance thereof within 30 days
following such commitment. In such event, this Lease shall continue in full
force and effect, and Lessor shall proceed to make such remediation as soon as
reasonably possible after the required funds are available. If Lessee does not
give such notice and provide the required funds or assurance thereof within the
time provided, this Lease shall terminate as of the date specified in Lessor's
notice of termination.
6.3 Lessee's Compliance with Applicable Requirements. Except as
otherwise provided in this Lease, Lessee shall, at Lessee's sole expense, fully,
diligently and in a timely manner, materially comply with all Applicable
Requirements, the requirements of any applicable fire insurance underwriter or
rating bureau, and the recommendations of Lessor's engineers and/or consultants
which relate in any manner to the such Requirements, without regard to whether
such Requirements are now in effect or become effective after the Start Date.
Lessee shall, within 10 days after receipt of Lessor"s written request, provide
Lessor with copies of all permits and other documents, and other information
evidencing Lessee's compliance with any Applicable Requirements specified by
Lessor, and shall immediately upon receipt, notify Lessor in writing (with
copies of any documents involved) of any threatened or actual claim, notice,
citation, warning, complaint or report pertaining to or involving the failure of
Lessee or the Premises to comply with any Applicable Requirements.
6.4 Inspection; Compliance. Lessor and Lessor"s "Lender" (as defined
in Paragraph 30) and consultants shall have the right to enter into Premises at
any time, in the case of an emergency, and otherwise at reasonable times after
reasonable notice, for the purpose of inspecting the condition of the Premises
and for verifying compliance by Lessee with this Lease. The cost of any such
inspections shall be paid by Lessor, unless a violation of Applicable
Requirements, or a Hazardous Substance Condition (see paragraph 9.1) is found to
exist or be imminent, or the inspection is requested or ordered by a
governmental authority. In such case, Lessee shall upon request reimburse Lessor
for the cost of such inspection, so long as such inspection is reasonably
related to the violation or contamination. In addition, Lessee shall provide
copies of all relevant material safety data sheets (MSDS) to Lessor within 10
days of the receipt of a written request therefor.
7. Maintenance; Repairs, Utility Installations; Trade Fixtures and
Alterations.
7.1 Lessee's Obligations.
(a) In General. Subject to the provisions of Paragraph 2.2
(Condition), 2.3 (Compliance), 6.3 (Lessee's Compliance with Applicable
Requirements), 7.2 (Lessor's Obligations), 9 (Damage or Destruction), and 14
(Condemnation), Lessee shall, at Lessee's sole expense, keep the Premises,
Utility Installations (intended for Lessee's exclusive use, no matter where
located), and Alterations in good order, condition and repair (whether or not
the portion of the Premises requiring repairs, or the means of repairing the
same, are reasonably or readily accessible to Lessee, and whether or not the
need for such repairs occurs as a result of Lessee's use, any prior use, the
elements or the age of such portion of the Premises), including, but not limited
to, all
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equipment or facilities, such as plumbing, HVAC equipment, electrical, lighting
facilities, boilers, pressure vessels, fire protection system, fixtures, walls
(interior and exterior), foundations, ceilings, roofs, roof drainage systems,
floors, windows, doors, plate glass, skylights, landscaping, driveways, parking
lots, fences, retaining walls, signs, sidewalks and parkways located in, on, or
adjacent to the Premises. Lessee, in keeping the Premises in good order,
condition and repair, shall exercise and perform good maintenance practices,
specifically including the procurement and maintenance of the service contracts
required by Paragraph 7.1(b) below. Lessee's obligations shall include
restorations, replacements or renewals when necessary to keep the Premises and
all improvements thereon or a part thereof in good order, condition and state of
repair. Lessee shall, during the term of this Lease, keep the exterior
appearance of the Building in a first-class condition (including, e.g. graffiti
removal) consistent with the exterior appearance of other similar facilities of
comparable age and size in the vicinity, including, when necessary, the exterior
repainting of the Building.
(b) Service Contracts. Lessee shall, at Lessee's sole expense,
procure and maintain contracts, with copies to Lessor, in customary form and
substance for, and with contractors specializing and experienced in the
maintenance of the following equipment and improvements, if any, if and when
installed on the Premises: (i) HVAC equipment, (ii) boiler, and pressure
vessels, (iii) fire extinguishing systems, including fire alarm and/or smoke
detection, (iv) landscaping and irrigation systems, (v) roof covering and
drains, (vi) clarifiers (vii) basic utility feed to the perimeter of the
Building, and (viii) any other equipment, if reasonably required by Lessor.
However, Lessor reserves the right, upon notice to Lessee, to procure and
maintain any or all of such service contracts, and if Lessor so elects, Lessee
shall reimburse Lessor, upon demand, for the cost thereof.
(c) Failure to Perform. If Lessee fails to perform Lessee's
obligations under this Paragraph 7.1, Lessor may enter upon the Premises after
10 days' prior written notice to Lessee (except in the case of an emergency, in
which case no notice shall be required), perform such obligations on Lessee's
behalf, and put the Premises in good order, condition and repair, and Lessee
shall promptly pay to Lessor a sum equal to 115% of the cost thereof.
(d) Replacement. Subject to Lessee's indemnification of Lessor as
set forth in Paragraph 8.7 below, and without relieving Lessee of liability
resulting from Lessee's failure to exercise and perform good maintenance
practices, if an item described in Paragraph 7.1(b) cannot be repaired other
than at a cost which is in excess of 50% of the cost of replacing such item,
then such item shall be replaced by Lessor, and the cost thereof shall be
prorated between the Parties and Lessee shall only be obligated to pay, each
month during the remainder of the term of this Lease, on the date on which Base
Rent is due, an amount equal to the product of multiplying the cost of such
replacement by a fraction, the numerator of which is one, and the denominator of
which is 144 (ie. 1/144th of the cost per month). Lessee shall pay interest on
the unamortized balance at a rate that is commercially reasonable in the
judgment of Lessor's accountants. Lessee may, however, prepay its obligation at
any time.
7.2 Lessor's Obligations. Subject to the provisions of Paragraphs 2.2
(Condition), 2.3 (Compliance), 9 (Damage or Destruction) and 14 (Condemnation),
it is intended by the Parties hereto that Lessor have no obligation, in any
manner whatsoever, to repair and maintain the Premises, or the equipment
therein, all of which obligations are intended to be that of the Lessee. It is
the intention of the Parties that the terms of this Lease govern the respective
obligations of the Parties as to maintenance and repair of the Premises, and
they expressly waive the benefit of any statute now or hereafter in effect to
the extent it is inconsistent with the terms of this Lease.
7.3 Utility Installations; Trade Fixtures; Alterations.
(a) Definitions. The term "Utility Installations" refers to all
floor and window coverings, air and/or vacuum lines, power panels, electrical
distribution, security and fire protection systems, communication cabling,
lighting fixtures, HVAC equipment, plumbing, and fencing in or on the Premises.
The term "Trade Fixtures" shall mean Lessee's machinery and equipment that can
be removed without doing material damage to the Premises. The term "Alterations"
shall mean any modification of the improvements, other than Utility
Installations or Trade Fixtures, whether by addition or deletion. "Lessee Owned
Alterations and/or Utility Installations" are defined as Alterations and/or
Utility Installations made by Lessee that are not yet owned by Lessor pursuant
to Paragraph 7.4(a).
(b) Consent. Lessee shall not make any Alterations or Utility
Installations to the Premises without Lessor's prior written consent. Lessee
may, however, make non-structural Utility Installations to the interior of the
Premises (excluding the roof) without such consent but upon notice to Lessor, as
long as they are not visible from the outside, do not involve puncturing,
relocating or removing the roof or any existing walls, will not affect the
electrical, plumbing, HVAC, and/or life safety systems, and the cumulative cost
thereof during this Lease as extended does not exceed a sum equal to 3 month's
Base Rent in the aggregate or a sum equal to one month's Base Rent in any one
year. Notwithstanding the foregoing, Lessee shall not make or permit any roof
penetrations and/or install anything on the roof without the prior written
approval of Lessor. Lessor may, as a precondition to granting such approval,
require Lessee to utilize a contractor chosen and/or approved by Lessor. Any
Alterations or Utility Installations that Lessee shall desire to make and which
require the consent of the Lessor shall be presented to Lessor in written form
with detailed plans. Consent shall be deemed conditioned upon Lessee's: (i)
acquiring all applicable governmental permits, (ii) furnishing Lessor with
copies of both the permits and the plans and specifications prior to
commencement of the work, and (iii) compliance with all conditions of said
permits and other Applicable Requirements in a prompt and expeditious manner.
Any Alterations or Utility Installations shall be performed in a workmanlike
manner with good and sufficient materials. Lessee shall promptly upon completion
furnish Lessor with as-built plans and specifications. For work which costs an
amount in excess of one month's Base Rent, Lessor may condition its consent upon
Lessee providing a lien and completion bond in an amount equal to 150% of the
estimated cost of such Alteration or Utility Installation and/or upon Lessee's
posting an additional Security Deposit with Lessor.
(c) Liens; Bonds. Lessee shall pay, when due, all claims for labor
or materials furnished or alleged to have been furnished to or for Lessee at or
for use on the Premises, which claims are or may be secured by any mechanic's or
materialmen's lien against the Premises or any interest therein. Lessee shall
give Lessor not less than 10 days notice prior to the commencement of any work
in, on or about the Premises, and Lessor shall have the right to post notices of
non-responsibility. If Lessee shall contest the validity of any such lien, claim
or demand, then Lessee shall, at its sole expense defend and protect itself,
Lessor and the Premises against the same and shall pay and satisfy any such
adverse judgment that may be rendered thereon before the enforcement thereof. If
Lessor shall require, Lessee shall furnish a surety bond in an amount equal to
150% of the amount of such contested lien, claim or demand, indemnifying Lessor
against liability for the same. If Lessor elects to participate in any such
action, Lessee shall pay Lessor's attorneys' fees and costs.
7.4 Ownership; Removal; Surrender; and Restoration.
(a) Ownership. Subject to Lessor's right to require removal or
elect ownership as hereinafter provided, all Alterations and Utility
Installations made by Lessee shall be the property of Lessee, but considered a
part of the Premises. Lessor may, at any time, elect in writing to be the owner
of all or any specified part of the Lessee Owned Alterations and Utility
Installations. Unless otherwise instructed per paragraph 7.4(b) hereof, all
Lessee Owned Alterations and Utility Installations shall, at the expiration or
termination of this Lease, become the property of Lessor and be surrendered by
Lessee with the Premises.
(b) Removal. By delivery to Lessee of written notice from Lessor
not earlier than 90 and not later than 30 days prior to the end of the term of
this Lease, Lessor may require that any or all Lessee Owned Alterations or
Utility Installations be removed by the expiration or termination of this Lease.
Lessor may require the removal at any time of all or any part of any Lessee
Owned Alterations or Utility Installations made without the required consent.
(c) Surrender; Restoration. Lessee shall surrender the Premises by
the Expiration Date or any earlier termination date, with all of the
improvements, parts and surfaces thereof broom clean and free of debris, and in
good operating order, condition and state of repair, ordinary wear and tear
excepted. "Ordinary wear and tear" shall not include any damage or deterioration
that would have been prevented by good maintenance practice. Notwithstanding the
foregoing, if this Lease is for 12 months or less, then Lessee shall surrender
the Premises in the same condition as delivered to Lessee on the Start Date with
NO allowance for ordinary wear and tear. Lessee shall repair any damage
occasioned by the installation, maintenance or removal of Trade Fixtures, Lessee
owned Alterations and/or Utility Installations, furnishings, and equipment as
well as the removal of any storage tank installed by or for Lessee. Lessee shall
completely remove from the Premises any and all Hazardous Substances brought
onto the Premises by or for Lessee, or any third party (except Hazardous
Substances which were deposited via underground migration from areas outside of
the Premises, or if applicable, the Project) even if such removal would require
Lessee to perform or pay for work that exceeds statutory requirements. Trade
Fixtures shall remain the property of Lessee and shall be removed by Lessee. Any
personal property of Lessee not removed on or before the Expiration Date or any
earlier termination date shall be deemed to have been abandoned by Lessee and
may be disposed of or retained by Lessor as Lessor may desire. The failure by
Lessee to timely vacate the Premises pursuant to this Paragraph 7.4(c) without
the express written consent of Lessor shall constitute a holdover under the
provisions of Paragraph 26 below.
8. Insurance; Indemnity.
8.1 Payment For Insurance. Lessee shall pay for all insurance required
under Paragraph 8 except to the extent of the cost attributable to liability
insurance carried by Lessor under Paragraph 8.2(b) in excess of $2,000,000 per
occurrence. Premiums for policy periods commencing prior to or extending beyond
the Lease term shall be prorated to correspond to the Lease term. Payment shall
be made by Lessee to Lessor within 10 days following receipt of an invoice.
8.2 Liability Insurance.
(a) Carried by Lessee. Lessee shall obtain and keep in force a
Commercial General Liability policy of insurance protecting Lessee and Lessor as
an additional insured against claims for bodily injury, personal injury and
property damage based upon or arising out of the ownership, use, occupancy or
maintenance of the Premises and all areas appurtenant thereto. Such insurance
shall be on an occurrence basis providing single limit coverage in an amount not
less than $1,000,000 per occurrence with an annual aggregate of not less than
$2,000,000, an "Additional Insured-Managers or Lessors of Premises Endorsement"
and contain the "Amendment of the Pollution Exclusion Endorsement" for damage
caused by heat, smoke or fumes from a hostile fire. The policy shall not contain
any intra-insured exclusions as between insured persons or organizations, but
shall include coverage for liability assumed under this Lease as an "insured
contract" for the performance of Lessee's indemnity obligations under this
Lease. The limits of said insurance shall not,
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however, limit the liability of Lessee nor relieve Lessee of any obligation
hereunder. All insurance carried by Lessee shall be primary to and not
contributory with any similar insurance carried by Lessor, whose insurance shall
be considered excess insurance only.
(b) Carried by Lessor. Lessor shall maintain liability insurance as
described in Paragraph 8.2(a), in addition to, and not in lieu of, the insurance
required to be maintained by Lessee. Lessee shall not be named as an additional
insured therein.
8.3 Property Insurance - Building, Improvements and Rental Value.
(a) Building and Improvements. The Insuring Party shall obtain and
keep in force a policy or policies in the name of Lessor, with loss payable to
Lessor, any ground-lessor, and to any Lender insuring loss or damage to the
Premises. The amount of such insurance shall be equal to the full replacement
cost of the Premises, as the same shall exist from time to time, or the amount
required by any Lender, but in no event more than the commercially reasonable
and available insurable value thereof. If Lessor is the Insuring Party, however,
Lessee Owned Alterations and Utility Installations, Trade Fixtures, and Lessee's
personal property shall be insured by Lessee under Paragraph 8.4 rather than by
Lessor. If the coverage is available and commercially appropriate, such policy
or policies shall insure against all risks of direct physical loss or damage
(except the perils of flood and/or earthquake unless required by a Lender),
including coverage for debris removal and the enforcement of any Applicable
Requirements requiring the upgrading, demolition, reconstruction or replacement
of any portion of the Premises as the result of a covered loss. Said policy or
policies shall also contain an agreed valuation provision in lieu of any
coinsurance clause, waiver of subrogation, and inflation guard protection
causing an increase in the annual property insurance coverage amount by a factor
of not less than the adjusted U.S. Department of Labor Consumer Price Index for
All Urban Consumers for the city nearest to where the Premises are located. If
such insurance coverage has a deductible clause, the deductible amount shall not
exceed $1,000 per occurrence, and Lessee shall be liable for such deductible
amount in the event of an Insured Loss.
(b) Rental Value. The Insuring Party shall obtain and keep in force a
policy or policies in the name of Lessor with loss payable to Lessor and any
Lender, insuring the loss of the full Rent for one year with an extended period
of indemnity for an additional 180 days ("Rental Value insurance"). Said
insurance shall contain an agreed valuation provision in lieu of any coinsurance
clause, and the amount of coverage shall be adjusted annually to reflect the
projected Rent otherwise payable by Lessee, for the next 12 month period. Lessee
shall be liable for any deductible amount in the event of such loss.
(c) Adjacent Premises. If the Premises are part of a larger building,
or of a group of buildings owned by Lessor which are adjacent to the Premises,
the Lessee shall pay for any increase in the premiums for the property insurance
of such building or buildings if said increase is caused by Lessee's acts,
omissions, use or occupancy of the Premises.
8.4 Lessee's Property; Business Interruption Insurance.
(a) Property Damage. Lessee shall obtain and maintain insurance
coverage on all of Lessee's personal property, Trade Fixtures, and Lessee Owned
Alterations and Utility Installations. Such insurance shall be full replacement
cost coverage with a deductible of not to exceed $1,000 per occurrence. The
proceeds from any such insurance shall be used by Lessee for the replacement of
personal property, Trade Fixtures and Lessee Owned Alterations and Utility
Installations. Lessee shall provide Lessor with written evidence that such
insurance is in force.
(b) Business Interruption. Lessee shall obtain and maintain loss of
income and extra expense insurance in amounts as will reimburse Lessee for
direct or indirect loss of earnings attributable to all perils commonly insured
against by prudent lessees in the business of Lessee or attributable to
prevention of access to the Premises as a result of such perils.
(c) No Representation of Adequate Coverage. Lessor makes no
representation that the limits or forms of coverage of insurance specified
herein are adequate to cover Lessee's property, business operations or
obligations under this Lease.
8.5 Insurance Policies. Insurance required herein shall be by companies
duly licensed or admitted to transact business in the state where the Premises
are located, and maintaining during the policy term a "General Policyholders
Rating" of at least B+, V, as set forth in the most current issue of "Best's
Insurance Guide", or such other rating as may be required by a Lender. Lessee
shall not do or permit to be done anything which invalidates the required
insurance policies. Lessee shall, prior to the Start Date, deliver to Lessor
certified copies of policies of such insurance or certificates evidencing the
existence and amounts of the required insurance. No such policy shall be
cancelable or subject to modification except after 30 days prior written notice
to Lessor. Lessee shall, at least 30 days prior to the expiration of such
policies, furnish Lessor with evidence of renewals or "insurance binders"
evidencing renewal thereof, or Lessor may order such insurance and charge the
cost thereof to Lessee, which amount shall be payable by Lessee to Lessor upon
demand. Such policies shall be for a term of at least one year, or the length of
the remaining term of this Lease, whichever is less. If either Party shall fail
to procure and maintain the insurance required to be carried by it, the other
Party may, but shall not be required to, procure and maintain the same.
8.6 Waiver of Subrogation. Without affecting any other rights or
remedies, Lessee and Lessor each hereby release and relieve the other, and waive
their entire right to recover damages against the other, for loss of or damage
to its property arising out of or incident to the perils required to be insured
against herein. The effect of such releases and waivers is not limited by the
amount of insurance carried or required, or by any deductibles applicable
hereto. The Parties agree to have their respective property damage insurance
carriers waive any right to subrogation that such companies may have against
Lessor or Lessee, as the case may be, so long as the insurance is not
invalidated thereby.
8.7 Indemnity. Except for Lessor's gross negligence or willful
misconduct, Lessee shall indemnify, protect, defend and hold harmless the
Premises, Lessor and its agents, Lessor's master or ground lessor, partners and
Lenders, from and against any and all claims, loss of rents and/or damages,
liens, judgments, penalties, attorneys' and consultants' fees, expenses and/or
liabilities arising out of, involving, or in connection with, the use and/or
occupancy of the Premises by Lessee. If any action or proceeding is brought
against Lessor by reason of any of the foregoing matters, Lessee shall upon
notice defend the same at Lessee's expense by counsel reasonably satisfactory to
Lessor and Lessor shall cooperate with Lessee in such defense. Lessor need not
have first paid any such claim in order to be defended or indemnified.
8.8 Exemption of Lessor from Liability. Lessor shall not be liable for
injury or damage to the person or goods, wares, merchandise or other property of
Lessee, Lessee's employees, contractors, invitees, customers, or any other
person in or about the Premises, whether such damage or injury is caused by or
results from fire, steam, electricity, gas, water or rain, or from the breakage,
leakage, obstruction or other defects of pipes, fire sprinklers, wires,
appliances, plumbing, HVAC or lighting fixtures, or from any other cause,
whether the said injury or damage results from conditions arising upon the
Premises or upon other portions of the building of which the Premises are a
part, or from other sources or places. Lessor shall not be liable for any
damages arising from any act or neglect of any other tenant of Lessor nor from
the failure of Lessor to enforce the provisions of any other lease in the
Project. Notwithstanding Lessor's negligence or breach of this Lease, Lessor
shall under no circumstances be liable for injury to Lessee's business or for
any loss of income or profit therefrom.
8.9 Failure to Provide Insurance. Lessee acknowledges that any failure on
its part to obtain or maintain the insurance required herein will expose Lessor
to risks and potentially cause Lessor to incur costs not contemplated by this
Lease, the extent of which will be extremely difficult to ascertain.
Accordingly, for any month or portion thereof that Lessee does not maintain the
required insurance and/or does not provide Lessor with the required binders or
certificates evidencing the existence of the required insurance, the Base Rent
shall be automatically increased, without any requirement for notice to Lessee,
by an amount equal to 10% of the then existing Base Rent or $100, whichever is
greater. The parties agree that such increase in Base Rent represents fair and
reasonable compensation for the additional risk/ costs that Lessor will incur by
reason of Lessee's failure to maintain the required insurance. Such increase in
Base Rent shall in no event constitute a waiver of Lessee's Default or Breach
with respect to the failure to maintain such insurance, prevent the exercise of
any of the other rights and remedies granted hereunder, nor relieve Lessee of
its obligation to maintain the insurance specified in this Lease.
9. Damage or Destruction.
9.1 Definitions.
(a) "Premises Partial Damage" shall mean damage or destruction to the
improvements on the Premises, other than Lessee Owned Alterations and Utility
Installations, which can reasonably be repaired in 6 months or less from the
date of the damage or destruction. Lessor shall notify Lessee in writing within
30 days from the date of the damage or destruction as to whether or not the
damage is Partial or Total.
(b) "Premises Total Destruction" shall mean damage or destruction to
the Premises, other than Lessee Owned Alterations and Utility Installations and
Trade Fixtures, which cannot reasonably be repaired in 6 months or less from the
date of the damage or destruction. Lessor shall notify Lessee in writing within
30 days from the date of the damage or destruction as to whether or not the
damage is Partial or Total.
(c) "Insured Loss" shall mean damage or destruction to improvements
on the Premises, other than Lessee Owned Alterations and Utility Installations
and Trade Fixtures, which was caused by an event required to be covered by the
insurance described in Paragraph 8.3(a), irrespective of any deductible amounts
or coverage limits involved.
(d) "Replacement Cost" shall mean the cost to repair or rebuild the
improvements owned by Lessor at the time of the occurrence to their condition
existing immediately prior thereto, including demolition, debris removal and
upgrading required by the operation of Applicable Requirements, and without
deduction for depreciation.
(e) "Hazardous Substance Condition" shall mean the occurrence or
discovery of a condition involving the presence of, or a contamination by, a
Hazardous Substance as defined in Paragraph 6.2(a), in, on, or under the
Premises which requires repair, remediation, or restoration.
9.2 Partial Damage - Insured Loss. If a Premises Partial Damage that is
an Insured Loss occurs, then Lessor shall, at Lessor's expense, repair such
damage (but not Lessee's Trade Fixtures or Lessee Owned Alterations and Utility
Installations) as soon as reasonably possible and this Lease shall continue in
full force and effect; provided, however, that Lessee shall, at Lessor's
election, make the repair of any damage or destruction the total cost to repair
of which is $10,000 or less, and, in such event, Lessor shall make any
applicable insurance proceeds available to Lessee on a reasonable basis for that
purpose. Notwithstanding the foregoing, if the required insurance was not in
force or the insurance proceeds are not sufficient to effect such repair, the
Insuring Party shall promptly contribute the shortage in proceeds (except as to
the deductible which is Lessee's responsibility) as and when required to
complete said repairs. In the event, however, such shortage was due to the fact
that, by reason of the unique nature of the improvements, full replacement
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cost insurance coverage was not commercially reasonable and available, Lessor
shall have no obligation to pay for the shortage in insurance proceeds or to
fully restore the unique aspects of the Premises unless Lessee provides Lessor
with the funds to cover same, or adequate assurance thereof, within 10 days
following receipt of written notice of such shortage and request therefor. If
Lessor receives said funds or adequate assurance thereof within said 10 day
period, the party responsible for making the repairs shall complete them as soon
as reasonably possible and this Lease shall remain in full force and effect. If
such funds or assurance are not received, Lessor may nevertheless elect by
written notice to Lessee within 10 days thereafter to: (i) make such restoration
and repair as is commercially reasonable with Lessor paying any shortage in
proceeds, in which case this Lease shall remain in full force and effect, or
(ii) have this Lease terminate 30 days thereafter. Lessee shall not be entitled
to reimbursement of any funds contributed by Lessee to repair any such damage or
destruction. Premises Partial Damage due to flood or earthquake shall be subject
to Paragraph 9.3, notwithstanding that there may be some insurance coverage, but
the net proceeds of any such insurance shall be made available for the repairs
if made by either Party.
9.3 Partial Damage - Uninsured Loss. If a Premises Partial Damage that is
not an Insured Loss occurs, unless caused by a negligent or willful act of
Lessee (in which event Lessee shall make the repairs at Lessee's expense),
Lessor may either: (i) repair such damage as soon as reasonably possible at
Lessor's expense, in which event this Lease shall continue in full force and
effect, or (ii) terminate this Lease by giving written notice to Lessee within
30 days after receipt by Lessor of knowledge of the occurrence of such damage.
Such termination shall be effective 60 days following the date of such notice.
In the event Lessor elects to terminate this Lease, Lessee shall have the right
within 10 days after receipt of the termination notice to give written notice to
Lessor of Lessee's commitment to pay for the repair of such damage without
reimbursement from Lessor. Lessee shall provide Lessor with said funds or
satisfactory assurance thereof within 30 days after making such commitment. In
such event this Lease shall continue in full force and effect, and Lessor shall
proceed to make such repairs as soon as reasonably possible after the required
funds are available. If Lessee does not make the required commitment, this Lease
shall terminate as of the date specified in the termination notice.
9.4 Total Destruction. Notwithstanding any other provision hereof, if a
Premises Total Destruction occurs, this Lease shall terminate 60 days following
such Destruction. If the damage or destruction was caused by the gross
negligence or willful misconduct of Lessee, Lessor shall have the right to
recover Lessor's damages from Lessee, except as provided in Paragraph 8.6.
9.5 Damage Near End of Term. If at any time during the last 6 months of
this Lease there is damage for which the cost to repair exceeds one month's Base
Rent, whether or not an Insured Loss, Lessor may terminate this Lease effective
60 days following the date of occurrence of such damage by giving a written
termination notice to Lessee within 30 days after the date of occurrence of such
damage. Notwithstanding the foregoing, if Lessee at that time has an exercisable
option to extend this Lease or to purchase the Premises, then Lessee may
preserve this Lease by, (a) exercising such option and (b) providing Lessor with
any shortage in insurance proceeds (or adequate assurance thereof) needed to
make the repairs on or before the earlier of (i) the date which is 10 days after
Lessee's receipt of Lessor's written notice purporting to terminate this Lease,
or (ii) the day prior to the date upon which such option expires. If Lessee duly
exercises such option during such period and provides Lessor with funds (or
adequate assurance thereof) to cover any shortage in insurance proceeds, Lessor
shall, at Lessor's commercially reasonable expense, repair such damage as soon
as reasonably possible and this Lease shall continue in full force and effect.
If Lessee fails to exercise such option and provide such funds or assurance
during such period, then this Lease shall terminate on the date specified in the
termination notice and Lessee's option shall be extinguished.
9.6 Abatement of Rent; Lessee's Remedies.
(a) Abatement. In the event of Premises Partial Damage or Premises
Total Destruction or a Hazardous Substance Condition for which Lessee is not
responsible under this Lease, the Rent payable by Lessee for the period required
for the repair, remediation or restoration of such damage shall be abated in
proportion to the degree to which Lessee's use of the Premises is impaired, but
not to exceed the proceeds received from the Rental Value insurance. All other
obligations of Lessee hereunder shall be performed by Lessee, and Lessor shall
have no liability for any such damage, destruction, remediation, repair or
restoration except as provided herein.
(b) Remedies. If Lessor shall be obligated to repair or restore the
Premises and does not commence, in a substantial and meaningful way, such repair
or restoration within 90 days after such obligation shall accrue, Lessee may, at
any time prior to the commencement of such repair or restoration, give written
notice to Lessor and to any Lenders of which Lessee has actual notice, of
Lessee's election to terminate this Lease on a date not less than 60 days
following the giving of such notice. If Lessee gives such notice and such repair
or restoration is not commenced within 30 days thereafter, this Lease shall
terminate as of the date specified in said notice. If the repair or restoration
is commenced within such 30 days, this Lease shall continue in full force and
effect. "Commence" shall mean either the unconditional authorization of the
preparation of the required plans, or the beginning of the actual work on the
Premises, whichever first occurs.
9.7 Termination; Advance Payments. Upon termination of this Lease
pursuant to Paragraph 6.2(g) or Paragraph 9, an equitable adjustment shall be
made concerning advance Base Rent and any other advance payments made by Lessee
to Lessor. Lessor shall, in addition, return to Lessee so much of Lessee's
Security Deposit as has not been, or is not then required to be, used by Lessor.
9.8 Waive Statutes. Lessor and Lessee agree that the terms of this Lease
shall govern the effect of any damage to or destruction of the Premises with
respect to the termination of this Lease and hereby waive the provisions of any
present or future statute to the extent inconsistent herewith.
10. Real Property Taxes.
10.1 Definition. EAs used herein, the term "Real Property Taxes" shall
include any form of assessment; real estate, general, special, ordinary or
extraordinary, or rental levy or tax (other than inheritance, personal income or
estate taxes); improvement bond; and/or license fee imposed upon or levied
against any legal or equitable interest of Lessor in the Premises or the
Project, Lessor's right to other income therefrom, and/or Lessor's business of
leasing, by any authority having the direct or indirect power to tax and where
the funds are generated with reference to the Building address and where the
proceeds so generated are to be applied by the city, county or other local
taxing authority of a jurisdiction within which the Premises are located. Real
Property Taxes shall also include any tax, fee, levy, assessment or charge, or
any increase therein: (i) imposed by reason of events occurring during the term
of this Lease, including but not limited to, a change in the ownership of the
Premises, and (ii) levied or assessed on machinery or equipment provided by
Lessor to Lessee pursuant to this Lease.
10.2 Payment of Taxes. In addition to Base Rent, Lessee shall pay to
Lessor an amount equal to the Real Property Tax installment due at least 20 days
prior to the applicable delinquency date. If any such installment shall cover
any period of time prior to or after the expiration or termination of this
Lease, Lessee's share of such installment shall be prorated. In the event Lessee
incurs a late charge on any Rent payment, Lessor may estimate the current Real
Property Taxes, and require that such taxes be paid in advance to Lessor by
Lessee monthly in advance with the payment of the Base Rent. Such monthly
payments shall be an amount equal to the amount of the estimated installment of
taxes divided by the number of months remaining before the month in which said
installment becomes delinquent. When the actual amount of the applicable tax
bill is known, the amount of such equal monthly advance payments shall be
adjusted as required to provide the funds needed to pay the applicable taxes. If
the amount collected by Lessor is insufficient to pay such Real Property Taxes
when due, Lessee shall pay Lessor, upon demand, such additional sum as is
necessary. Advance payments may be intermingled with other moneys of Lessor and
shall not bear interest. In the event of a Breach by Lessee in the performance
of its obligations under this Lease, then any such advance payments may be
treated by Lessor as an additional Security Deposit.
10.3 Joint Assessment. If the Premises are not separately assessed,
Lessee's liability shall be an equitable proportion of the Real Property Taxes
for all of the land and improvements included within the tax parcel assessed,
such proportion to be conclusively determined by Lessor from the respective
valuations assigned in the assessor's work sheets or such other information as
may be reasonably available.
10.4 Personal Property Taxes. Lessee shall pay, prior to delinquency, all
taxes assessed against and levied upon Lessee Owned Alterations, Utility
Installations, Trade Fixtures, furnishings, equipment and all personal property
of Lessee. When possible, Lessee shall cause its Lessee Owned Alterations and
Utility Installations, Trade Fixtures, furnishings, equipment and all other
personal property to be assessed and billed separately from the real property of
Lessor. If any of Lessee's said property shall be assessed with Lessor's real
property, Lessee shall pay Lessor the taxes attributable to Lessee's property
within 10 days after receipt of a written statement setting forth the taxes
applicable to Lessee's property.
11. Utilities and Services. Lessee shall pay for all water, gas, heat, light,
power, telephone, trash disposal and other utilities and services supplied to
the Premises, together with any taxes thereon. If any such services are not
separately metered or billed to Lessee, Lessee shall pay a reasonable
proportion, to be determined by Lessor, of all charges jointly metered or
billed. There shall be no abatement of rent and Lessor shall not be liable in
any respect whatsoever for the inadequacy, stoppage, interruption or
discontinuance of any utility or service due to riot, strike, labor dispute,
breakdown, accident, repair or other cause beyond Lessor's reasonable control or
in cooperation with governmental request or directions.
12. Assignment and Subletting.
12.1 Lessor's Consent Required.
(a) Lessee shall not voluntarily or by operation of law assign,
transfer, mortgage or encumber (collectively, "assign or assignment") or sublet
all or any part of Lessee's interest in this Lease or in the Premises without
Lessor's prior written consent.
(b) Unless Lessee is a corporation and its stock is publicly traded
on a national stock exchange, a change in the control of Lessee shall constitute
an assignment requiring consent. The transfer, on a cumulative basis, of 25% or
more of the voting control of Lessee shall constitute a change in control for
this purpose.
(c) The involvement of Lessee or its assets in any transaction, or
series of transactions (by way of merger, sale, acquisition, financing,
transfer, leveraged buy-out or otherwise), whether or not a formal assignment or
hypothecation of this Lease or Lessee's assets occurs, which results or will
result in a reduction of the Net Worth of Lessee by an amount greater than 25%
of such Net Worth as it was represented at the time of the execution of this
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Lease or at the time of the most recent assignment to which Lessor has
consented, or as it exists immediately prior to said transaction or transactions
constituting such reduction, whichever was or is greater, shall be considered an
assignment of this Lease to which Lessor may withhold its consent. "Net Worth of
Lessee" shall mean the net worth of Lessee (excluding any guarantors)
established under generally accepted accounting principles.
(d) An assignment or subletting without consent shall, at Lessor's
option, be a Default curable after notice per Paragraph 13.1(c), or a noncurable
Breach without the necessity of any notice and grace period. If Lessor elects to
treat such unapproved assignment or subletting as a noncurable Breach, Lessor
may either: (i) terminate this Lease, or (ii) upon 30 days written notice,
increase the monthly Base Rent to 110% of the Base Rent then in effect. Further,
in the event of such Breach and rental adjustment, (i) the purchase price of any
option to purchase the Premises held by Lessee shall be subject to similar
adjustment to 110% of the price previously in effect, and (ii) all fixed and
non-fixed rental adjustments scheduled during the remainder of the Lease term
shall be increased to 110% of the scheduled adjusted rent.
(e) Lessee's remedy for any breach of Paragraph 12.1 by Lessor shall
be limited to compensatory damages and/or injunctive relief.
12.2 Terms and Conditions Applicable to Assignment and Subletting.
(a) Regardless of Lessor's consent, no assignment or subletting
shall: (i) be effective without the express written assumption by such assignee
or sublessee of the obligations of Lessee under this Lease, (ii) release Lessee
of any obligations hereunder, or (iii) alter the primary liability of Lessee for
the payment of Rent or for the performance of any other obligations to be
performed by Lessee.
(b) Lessor may accept Rent or performance of Lessee's obligations
from any person other than Lessee pending approval or disapproval of an
assignment. Neither a delay in the approval or disapproval of such assignment
nor the acceptance of Rent or performance shall constitute a waiver or estoppel
of Lessor's right to exercise its remedies for Lessee's Default or Breach.
(c) Lessor's consent to any assignment or subletting shall not
constitute a consent to any subsequent assignment or subletting.
(d) In the event of any Default or Breach by Lessee, Lessor may
proceed directly against Lessee, any Guarantors or anyone else responsible for
the performance of Lessee's obligations under this Lease, including any assignee
or sublessee, without first exhausting Lessor's remedies against any other
person or entity responsible therefor to Lessor, or any security held by Lessor.
(e) Each request for consent to an assignment or subletting shall be
in writing, accompanied by information relevant to Lessor's determination as to
the financial and operational responsibility and appropriateness of the proposed
assignee or sublessee, including but not limited to the intended use and/or
required modification of the Premises, if any, together with a fee of $500 as
consideration for Lessor's considering and processing said request. Lessee
agrees to provide Lessor with such other or additional information and/or
documentation as may be reasonably requested. (See also Paragraph 36)
(f) Any assignee of, or sublessee under, this Lease shall, by reason
of accepting such assignment or entering into such sublease, be deemed to have
assumed and agreed to conform and comply with each and every term, covenant,
condition and obligation herein to be observed or performed by Lessee during the
term of said assignment or sublease, other than such obligations as are contrary
to or inconsistent with provisions of an assignment or sublease to which Lessor
has specifically consented to in writing.
(g) Lessor's consent to any assignment or subletting shall not
transfer to the assignee or sublessee any Option granted to the original Lessee
by this Lease unless such transfer is specifically consented to by Lessor in
writing. (See Paragraph 39.2)
12.3 Additional Terms and Conditions Applicable to Subletting. The
following terms and conditions shall apply to any subletting by Lessee of all or
any part of the Premises and shall be deemed included in all subleases under
this Lease whether or not expressly incorporated therein:
(a) Lessee hereby assigns and transfers to Lessor all of Lessee's
interest in all Rent payable on any sublease, and Lessor may collect such Rent
and apply same toward Lessee's obligations under this Lease; provided, however,
that until a Breach shall occur in the performance of Lessee's obligations,
Lessee may collect said Rent. In the event that the amount collected by Lessor
exceeds Lessee's obligations any such excess shall be refunded to Lessee. Lessor
shall not, by reason of the foregoing or any assignment of such sublease, nor by
reason of the collection of Rent, be deemed liable to the sublessee for any
failure of Lessee to perform and comply with any of Lessee's obligations to such
sublessee. Lessee hereby irrevocably authorizes and directs any such sublessee,
upon receipt of a written notice from Lessor stating that a Breach exists in the
performance of Lessee's obligations under this Lease, to pay to Lessor all Rent
due and to become due under the sublease. Sublessee shall rely upon any such
notice from Lessor and shall pay all Rents to Lessor without any obligation or
right to inquire as to whether such Breach exists, notwithstanding any claim
from Lessee to the contrary.
(b) In the event of a Breach by Lessee, Lessor may, at its option,
require sublessee to attorn to Lessor, in which event Lessor shall undertake the
obligations of the sublessor under such sublease from the time of the exercise
of said option to the expiration of such sublease; provided, however, Lessor
shall not be liable for any prepaid rents or security deposit paid by such
sublessee to such sublessor or for any prior Defaults or Breaches of such
sublessor.
(c) Any matter requiring the consent of the sublessor under a
sublease shall also require the consent of Lessor.
(d) No sublessee shall further assign or sublet all or any part of
the Premises without Lessor's prior written consent.
(e) Lessor shall deliver a copy of any notice of Default or Breach by
Lessee to the sublessee, who shall have the right to cure the Default of Lessee
within the grace period, if any, specified in such notice. The sublessee shall
have a right of reimbursement and offset from and against Lessee for any such
Defaults cured by the sublessee.
13. Default; Breach; Remedies.
13.1 Default; Breach. A "Default" is defined as a failure by the Lessee to
comply with or perform any of the terms, covenants, conditions or Rules and
Regulations under this Lease. A "Breach" is defined as the occurrence of one or
more of the following Defaults, and the failure of Lessee to cure such Default
within any applicable grace period:
(a) The abandonment of the Premises; or the vacating of the Premises
without providing a commercially reasonable level of security, or where the
coverage of the property insurance described in Paragraph 8.3 is jeopardized as
a result thereof, or without providing reasonable assurances to minimize
potential vandalism.
(b) The failure of Lessee to make any payment of Rent or any Security
Deposit required to be made by Lessee hereunder, whether to Lessor or to a third
party, when due, to provide reasonable evidence of insurance or surety bond, or
to fulfill any obligation under this Lease which endangers or threatens life or
property, where such failure continues for a period of 3 business days following
written notice to Lessee.
(c) The failure by Lessee to provide (i) reasonable written evidence
of compliance with Applicable Requirements, (ii) the service contracts, (iii)
the rescission of an unauthorized assignment or subletting, (iv) an Estoppel
Certificate, (v) a requested subordination, (vi) evidence concerning any
guaranty and/or Guarantor, (vii) any document requested under Paragraph 42,
(viii) material safety data sheets (MSDS), or (ix) any other documentation or
information which Lessor may reasonably require of Lessee under the terms of
this Lease, where any such failure continues for a period of 10 days following
written notice to Lessee.
(d) A Default by Lessee as to the terms, covenants, conditions or
provisions of this Lease, or of the rules adopted under Paragraph 40 hereof,
other than those described in subparagraphs 13.1(a), (b) or (c), above, where
such Default continues for a period of 30 days after written notice; provided,
however, that if the nature of Lessee's Default is such that more than 30 days
are reasonably required for its cure, then it shall not be deemed to be a Breach
if Lessee commences such cure within said 30 day period and thereafter
diligently prosecutes such cure to completion.
(e) The occurrence of any of the following events: (i) the making of
any general arrangement or assignment for the benefit of creditors; (ii)
becoming a "debtor" as defined in 11 U.S.C. ss.101 or any successor statute
thereto (unless, in the case of a petition filed against Lessee, the same is
dismissed within 60 days); (iii) the appointment of a trustee or receiver to
take possession of substantially all of Lessee's assets located at the Premises
or of Lessee's interest in this Lease, where possession is not restored to
Lessee within 30 days; or (iv) the attachment, execution or other judicial
seizure of substantially all of Lessee's assets located at the Premises or of
Lessee's interest in this Lease, where such seizure is not discharged within 30
days; provided, however, in the event that any provision of this subparagraph
(e) is contrary to any applicable law, such provision shall be of no force or
effect, and not affect the validity of the remaining provisions.
(f) The discovery that any financial statement of Lessee or of any
Guarantor given to Lessor was materially false.
(g) If the performance of Lessee's obligations under this Lease is
guaranteed: (i) the death of a Guarantor, (ii) the termination of a Guarantor's
liability with respect to this Lease other than in accordance with the terms of
such guaranty, (iii) a Guarantor's becoming insolvent or the subject of a
bankruptcy filing, (iv) a Guarantor's refusal to honor the guaranty, or (v) a
Guarantor's breach of its guaranty obligation on an anticipatory basis, and
Lessee's failure, within 60 days following written notice of any such event, to
provide written alternative assurance or security, which, when coupled with the
then existing resources of Lessee, equals or exceeds the combined financial
resources of Lessee and the Guarantors that existed at the time of execution of
this Lease.
13.2 Remedies. If Lessee fails to perform any of its affirmative duties or
obligations, within 10 days after written notice (or in case of an emergency,
without notice), Lessor may, at its option, perform such duty or obligation on
Lessee's behalf, including but not limited to the obtaining of reasonably
required bonds, insurance policies, or governmental licenses, permits or
approvals. Lessee shall pay to Lessor an amount equal to 115% of the costs and
expenses incurred by Lessor in such performance upon receipt of an invoice
therefor. In the event of a Breach, Lessor may, with or without further notice
or demand, and without limiting Lessor in the exercise of any right or remedy
which Lessor may have by reason of such Breach:
(a) Terminate Lessee's right to possession of the Premises by any
lawful means, in which case this Lease shall terminate and Lessee shall
immediately surrender possession to Lessor. In such event Lessor shall be
entitled to recover from Lessee: (i) the unpaid Rent which had been earned at
the time of termination; (ii) the worth at the time of award of the amount by
which the unpaid rent which would have been earned after termination until the
time of award exceeds the amount of such rental loss that the Lessee proves
could have been reasonably avoided; (iii) the worth at the time of award of the
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amount by which the unpaid rent for the balance of the term after the time of
award exceeds the amount of such rental loss that the Lessee proves could be
reasonably avoided; and (iv) any other amount necessary to compensate Lessor for
all the detriment proximately caused by the Lessee's failure to perform its
obligations under this Lease or which in the ordinary course of things would be
likely to result therefrom, including but not limited to the cost of recovering
possession of the Premises, expenses of reletting, including necessary
renovation and alteration of the Premises, reasonable attorneys' fees, and that
portion of any leasing commission paid by Lessor in connection with this Lease
applicable to the unexpired term of this Lease. The worth at the time of award
of the amount referred to in provision (iii) of the immediately preceding
sentence shall be computed by discounting such amount at the discount rate of
the Federal Reserve Bank of the District within which the Premises are located
at the time of award plus one percent. Efforts by Lessor to mitigate damages
caused by Lessee's Breach of this Lease shall not waive Lessor's right to
recover damages under Paragraph 12. If termination of this Lease is obtained
through the provisional remedy of unlawful detainer, Lessor shall have the right
to recover in such proceeding any unpaid Rent and damages as are recoverable
therein, or Lessor may reserve the right to recover all or any part thereof in a
separate suit. If a notice and grace period required under Paragraph 13.1 was
not previously given, a notice to pay rent or quit, or to perform or quit given
to Lessee under the unlawful detainer statute shall also constitute the notice
required by Paragraph 13.1. In such case, the applicable grace period required
by Paragraph 13.1 and the unlawful detainer statute shall run concurrently, and
the failure of Lessee to cure the Default within the greater of the two such
grace periods shall constitute both an unlawful detainer and a Breach of this
Lease entitling Lessor to the remedies provided for in this Lease and/or by said
statute.
(b) Continue the Lease and Lessee's right to possession and recover
the Rent as it becomes due, in which event Lessee may sublet or assign, subject
only to reasonable limitations. Acts of maintenance, efforts to relet, and/or
the appointment of a receiver to protect the Lessor's interests, shall not
constitute a termination of the Lessee's right to possession.
(c) Pursue any other remedy now or hereafter available under the laws
or judicial decisions of the state wherein the Premises are located. The
expiration or termination of this Lease and/or the termination of Lessee's right
to possession shall not relieve Lessee from liability under any indemnity
provisions of this Lease as to matters occurring or accruing during the term
hereof or by reason of Lessee's occupancy of the Premises.
13.3 Inducement Recapture. Any agreement for free or abated rent or other
charges, or for the giving or paying by Lessor to or for Lessee of any cash or
other bonus, inducement or consideration for Lessee's entering into this Lease,
all of which concessions are hereinafter referred to as "Inducement Provisions,"
shall be deemed conditioned upon Lessee's full and faithful performance of all
of the terms, covenants and conditions of this Lease. Upon Breach of this Lease
by Lessee, any such Inducement Provision shall automatically be deemed deleted
from this Lease and of no further force or effect, and any rent, other charge,
bonus, inducement or consideration theretofore abated, given or paid by Lessor
under such an inducement Provision shall be immediately due and payable by
Lessee to Lessor, notwithstanding any subsequent cure of said Breach by Lessee.
The acceptance by Lessor of rent or the cure of the Breach which initiated the
operation of this paragraph shall not be deemed a waiver by Lessor of the
provisions of this paragraph unless specifically so stated in writing by Lessor
at the time of such acceptance.
13.4 Late Charges. Lessee hereby acknowledges that late payment by Lessee
of Rent will cause Lessor to incur costs not contemplated by this Lease, the
exact amount of which will be extremely difficult to ascertain. Such costs
include, but are not limited to, processing and accounting charges, and late
charges which may be imposed upon Lessor by any Lender. Accordingly, if any Rent
shall not be received by Lessor within 5 days after such amount shall be due,
then, without any requirement for notice to Lessee, Lessee shall immediately pay
to Lessor a one-time late charge equal to 10% of each such overdue amount or
$100, whichever is greater. The Parties hereby agree that such late charge
represents a fair and reasonable estimate of the costs Lessor will incur by
reason of such late payment. Acceptance of such late charge by Lessor shall in
no event constitute a waiver of Lessee's Default or Breach with respect to such
overdue amount, nor prevent the exercise of any of the other rights and remedies
granted hereunder. In the event that a late charge is payable hereunder, whether
or not collected, for 3 consecutive installments of Base Rent, then
notwithstanding any provision of this Lease to the contrary, Base Rent shall, at
Lessor's option, become due and payable quarterly in advance.
13.5 Interest. Any monetary payment due Lessor hereunder, other than late
charges, not received by Lessor, when due as to scheduled payments (such as Base
Rent) or within 30 days following the date on which it was due for non-scheduled
payment, shall bear interest from the date when due, as to scheduled payments,
or the 31st day after it was due as to non-scheduled payments. The interest
("Interest") charged shall be computed at the rate of 10% per annum but shall
not exceed the maximum rate allowed by law. Interest is payable in addition to
the potential late charge provided for in Paragraph 13.4.
13.6 Breach by Lessor.
(a) Notice of Breach. Lessor shall not be deemed in breach of this
Lease unless Lessor fails within a reasonable time to perform an obligation
required to be performed by Lessor. For purposes of this Paragraph, a reasonable
time shall in no event be less than 30 days after receipt by Lessor, and any
Lender whose name and address shall have been furnished Lessee in writing for
such purpose, of written notice specifying wherein such obligation of Lessor has
not been performed; provided, however, that if the nature of Lessor's obligation
is such that more than 30 days are reasonably required for its performance, then
Lessor shall not be in breach if performance is commenced within such 30 day
period and thereafter diligently pursued to completion.
(b) Performance by Lessee on Behalf of Lessor. In the event that
neither Lessor nor Lender cures said breach within 30 days after receipt of said
notice, or if having commenced said cure they do not diligently pursue it to
completion, then Lessee may elect to cure said breach at Lessee's expense and
offset from Rent the actual and reasonable cost to perform such cure, provided
however, that such offset shall not exceed an amount equal to the greater of one
month's Base Rent or the Security Deposit, reserving Lessee's right to seek
reimbursement from Lessor. Lessee shall document the cost of said cure and
supply said documentation to Lessor.
14. Condemnation. If the Premises or any portion thereof are taken under the
power of eminent domain or sold under the threat of the exercise of said power
(collectively "Condemnation"), this Lease shall terminate as to the part taken
as of the date the condemning authority takes title or possession, whichever
first occurs. If more than 10% of the Building, or more than 25% of that portion
of the Premises not occupied by any building, is taken by Condemnation, Lessee
may, at Lessee's option, to be exercised in writing within 10 days after Lessor
shall have given Lessee written notice of such taking (or in the absence of such
notice, within 10 days after the condemning authority shall have taken
possession) terminate this Lease as of the date the condemning authority takes
such possession. If Lessee does not terminate this Lease in accordance with the
foregoing, this Lease shall remain in full force and effect as to the portion of
the Premises remaining, except that the Base Rent shall be reduced in proportion
to the reduction in utility of the Premises caused by such Condemnation.
Condemnation awards and/or payments shall be the property of Lessor, whether
such award shall be made as compensation for diminution in value of the
leasehold, the value of the part taken, or for severance damages; provided,
however, that Lessee shall be entitled to any compensation for Lessee's
relocation expenses, loss of business goodwill and/or Trade Fixtures, without
regard to whether or not this Lease is terminated pursuant to the provisions of
this Paragraph. All Alterations and Utility Installations made to the Premises
by Lessee, for purposes of Condemnation only, shall be considered the property
of the Lessee and Lessee shall be entitled to any and all compensation which is
payable therefor. In the event that this Lease is not terminated by reason of
the Condemnation, Lessor shall repair any damage to the Premises caused by such
Condemnation.
15. Brokerage Fees.
15.1 Additional Commission. In addition to the payments owed pursuant to
Paragraph 1.9 above, and unless Lessor and the Brokers otherwise agree in
writing, Lessor agrees that: (a) if Lessee exercises any Option, (b) if Lessee
acquires any rights to the Premises or other premises owned by Lessor and
located within the same Project, if any, within which the Premises is located,
(c) if Lessee remains in possession of the Premises, with the consent of Lessor,
after the expiration of this Lease, or (d) if Base Rent is increased, whether by
agreement or operation of an escalation clause herein, then, Lessor shall pay
Brokers a fee in accordance with the schedule of the Brokers in effect at the
time of the execution of this Lease.
15.2 Assumption of Obligations. Any buyer or transferee of Lessor's
interest in this Lease shall be deemed to have assumed Lessor's obligation
hereunder. Brokers shall be third party beneficiaries of the provisions of
Paragraphs 1.9, 15, 22 and 31. If Lessor fails to pay to Brokers any amounts due
as and for brokerage fees pertaining to this Lease when due, then such amounts
shall accrue Interest. In addition, if Lessor fails to pay any amounts to
Lessee's Broker when due, Lessee's Broker may send written notice to Lessor and
Lessee of such failure and if Lessor fails to pay such amounts within 10 days
after said notice, Lessee shall pay said monies to its Broker and offset such
amounts against Rent. In addition, Lessee's Broker shall be deemed to be a third
party beneficiary of any commission agreement entered into by and/or between
Lessor and Lessor's Broker for the limited purpose of collecting any brokerage
fee owed.
15.3 Representations and Indemnities of Broker Relationships. Lessee and
Lessor each represent and warrant to the other that it has had no dealings with
any person, firm, broker or finder (other than the Brokers, if any) in
connection with this Lease, and that no one other than said named Brokers is
entitled to any commission or finder's fee in connection herewith. Lessee and
Lessor do each hereby agree to indemnify, protect, defend and hold the other
harmless from and against liability for compensation or charges which may be
claimed by any such unnamed broker, finder or other similar party by reason of
any dealings or actions of the indemnifying Party, including any costs,
expenses, attorneys' fees reasonably incurred with respect thereto.
16. Estoppel Certificates.
(a) Each Party (as "Responding Party") shall within 10 days after
written notice from the other Party (the "Requesting Party") execute,
acknowledge and deliver to the Requesting Party a statement in writing in form
similar to the then most current "Estoppel Certificate" form published by the
American Industrial Real Estate Association, plus such additional information,
confirmation and/or statements as may be reasonably requested by the Requesting
Party.
(b) If the Responding Party shall fail to execute or deliver the
Estoppel Certificate within such 10 day period, the Requesting Party may
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execute an Estoppel Certificate stating that: (i) the Lease is in full force and
effect without modification except as may be represented by the Requesting
Party, (ii) there are no uncured defaults in the Requesting Party's performance,
and (iii) if Lessor is the Requesting Party, not more than one month's rent has
been paid in advance. Prospective purchasers and encumbrancers may rely upon the
Requesting Party's Estoppel Certificate, and the Responding Party shall be
estopped from denying the truth of the facts contained in said Certificate.
(c) If Lessor desires to finance, refinance, or sell the Premises,
or any part thereof, Lessee and all Guarantors shall deliver to any potential
lender or purchaser designated by Lessor such financial statements as may be
reasonably required by such lender or purchaser, including but not limited to
Lessee's financial statements for the past 3 years. All such financial
statements shall be received by Lessor and such lender or purchaser in
confidence and shall be used only for the purposes herein set forth.
17. Definition of Lessor. The term "Lessor" as used herein shall mean the owner
or owners at the time in question of the fee title to the Premises, or, if this
is a sublease, of the Lessee's interest in the prior lease. In the event of a
transfer of Lessor's title or interest in the Premises or this Lease, Lessor
shall deliver to the transferee or assignee (in cash or by credit) any unused
Security Deposit held by Lessor. Except as provided in Paragraph 15, upon such
transfer or assignment and delivery of the Security Deposit, as aforesaid, the
prior Lessor shall be relieved of all liability with respect to the obligations
and/or covenants under this Lease thereafter to be performed by the Lessor.
Subject to the foregoing, the obligations and/or covenants in this Lease to be
performed by the Lessor shall be binding only upon the Lessor as hereinabove
defined.
18. Severability. The invalidity of any provision of this Lease, as determined
by a court of competent jurisdiction, shall in no way affect the validity of any
other provision hereof.
19. Days. Unless otherwise specifically indicated to the contrary, the word
"days" as used in this Lease shall mean and refer to calendar days.
20. Limitation on Liability. The obligations of Lessor under this Lease shall
not constitute personal obligations of Lessor or its partners, members,
directors, officers or shareholders, and Lessee shall look to the Premises, and
to no other assets of Lessor, for the satisfaction of any liability of Lessor
with respect to this Lease, and shall not seek recourse against Lessor's
partners, members, directors, officers or shareholders, or any of their personal
assets for such satisfaction.
21. Time of Essence. Time is of the essence with respect to the performance of
all obligations to be performed or observed by the Parties under this Lease.
22. No Prior or Other Agreements; Broker Disclaimer. This Lease contains all
agreements between the Parties with respect to any matter mentioned herein, and
no other prior or contemporaneous agreement or understanding shall be effective.
Lessor and Lessee each represents and warrants to the Brokers that it has made,
and is relying solely upon, its own investigation as to the nature, quality,
character and financial responsibility of the other Party to this Lease and as
to the use, nature, quality and character of the Premises. Brokers have no
responsibility with respect thereto or with respect to any default or breach
hereof by either Party. The liability (including court costs and attorneys'
fees), of any Broker with respect to negotiation, execution, delivery or
performance by either Lessor or Lessee under this Lease or any amendment or
modification hereto shall be limited to an amount up to the fee received by such
Broker pursuant to this Lease; provided, however, that the foregoing limitation
on each Broker's liability shall not be applicable to any gross negligence or
willful misconduct of such Broker.
23. Notices.
23.1 Notice Requirements. All notices required or permitted by this Lease
or applicable law shall be in writing and may be delivered in person (by hand or
by courier) or may be sent by regular, certified or registered mail or U.S.
Postal Service Express Mail, with postage prepaid, or by facsimile transmission,
and shall be deemed sufficiently given if served in a manner specified in this
Paragraph 23. The addresses noted adjacent to a Party's signature on this Lease
shall be that Party's address for delivery or mailing of notices. Either Party
may by written notice to the other specify a different address for notice,
except that upon Lessee's taking possession of the Premises, the Premises shall
constitute Lessee's address for notice. A copy of all notices to Lessor shall be
concurrently transmitted to such party or parties at such addresses as Lessor
may from time to time hereafter designate in writing.
23.2 Date of Notice. Any notice sent by registered or certified mail,
return receipt requested, shall be deemed given on the date of delivery shown on
the receipt card, or if no delivery date is shown, the postmark thereon. If sent
by regular mail the notice shall be deemed given 48 hours after the same is
addressed as required herein and mailed with postage prepaid. Notices delivered
by United States Express Mail or overnight courier that guarantee next day
delivery shall be deemed given 24 hours after delivery of the same to the Postal
Service or courier. Notices transmitted by facsimile transmission or similar
means shall be deemed delivered upon telephone confirmation of receipt
(confirmation report from fax machine is sufficient), provided a copy is also
delivered via delivery or mail. If notice is received on a Saturday, Sunday or
legal holiday, it shall be deemed received on the next business day.
24. Waivers. No waiver by Lessor of the Default or Breach of any term, covenant
or condition hereof by Lessee, shall be deemed a waiver of any other term,
covenant or condition hereof, or of any subsequent Default or Breach by Lessee
of the same or of any other term, covenant or condition hereof. Lessor's consent
to, or approval of, any act shall not be deemed to render unnecessary the
obtaining of Lessor's consent to, or approval of, any subsequent or similar act
by Lessee, or be construed as the basis of an estoppel to enforce the provision
or provisions of this Lease requiring such consent. The acceptance of Rent by
Lessor shall not be a waiver of any Default or Breach by Lessee. Any payment by
Lessee may be accepted by Lessor on account of moneys or damages due Lessor,
notwithstanding any qualifying statements or conditions made by Lessee in
connection therewith, which such statements and/or conditions shall be of no
force or effect whatsoever unless specifically agreed to in writing by Lessor at
or before the time of deposit of such payment.
25. Disclosures Regarding The Nature of a Real Estate Agency Relationship.
(a) When entering into a discussion with a real estate agent
regarding a real estate transaction, a Lessor or Lessee should from the outset
understand what type of agency relationship or representation it has with the
agent or agents in the transaction. Lessor and Lessee acknowledge being advised
by the Brokers in this transaction, as follows:
(i) Lessor's Agent. A Lessor's agent under a listing
---------------
agreement with the Lessor acts as the agent for the Lessor only. A Lessor's
agent or subagent has the following affirmative obligations: To the Lessor: A
--------------
fiduciary duty of utmost care, integrity, honesty, and loyalty in dealings with
the Lessor. To the Lessee and the Lessor: a. Diligent exercise of reasonable
-----------------------------
skills and care in performance of the agent's duties. b. A duty of honest and
fair dealing and good faith. c. A duty to disclose all facts known to the agent
materially affecting the value or desirability of the property that are not
known to, or within the diligent attention and observation of, the Parties. An
agent is not obligated to reveal to either Party any confidential information
obtained from the other Party which does not involve the affirmative duties set
forth above.
(ii) Lessee's Agent. An agent can agree to act as agent for
--------------
the Lessee only. In these situations, the agent is not the Lessor's agent, even
if by agreement the agent may receive compensation for services rendered, either
in full or in part from the Lessor. An agent acting only for a Lessee has the
following affirmative obligations. To the Lessee: A fiduciary duty of utmost
--------------
care, integrity, honesty, and loyalty in dealings with the Lessee. To the Lessee
-------------
and the Lessor: a. Diligent exercise of reasonable skills and care in
- ---------------
performance of the agent's duties. b. A duty of honest and fair dealing and good
faith. c. A duty to disclose all facts known to the agent materially affecting
the value or desirability of the property that are not known to, or within the
diligent attention and observation of, the Parties. An agent is not obligated to
reveal to either Party any confidential information obtained from the other
Party which does not involve the affirmative duties set forth above.
(iii) Agent Representing Both Lessor and Lessee. A real estate
-----------------------------------------
agent, either acting directly or through one or more associate licenses, can
legally be the agent of both the Lessor and the Lessee in a transaction, but
only with the knowledge and consent of both the Lessor and the Lessee. In a dual
agency situation, the agent has the following affirmative obligations to both
the Lessor and the Lessee: a. A fiduciary duty of utmost care, integrity,
honesty and loyalty in the dealings with either Lessor or the Lessee. b. Other
duties to the Lessor and the Lessee as stated above in subparagraphs (i) or
(ii). In representing both Lessor and Lessee, the agent may not without the
express permission of the respective Party, disclose to the other Party that the
Lessor will accept rent in an amount less than that indicated in the listing or
that the Lessee is willing to pay a higher rent than that offered. The above
duties of the agent in a real estate transaction do not relieve a Lessor or
Lessee from the responsibility to protect their own interests. Lessor and Lessee
should carefully read all agreements to assure that they adequately express
their understanding of the transaction. A real estate agent is a person
qualified to advise about real estate. If legal or tax advice is desired,
consult a competent professional.
(b) Brokers have no responsibility with respect to any default or
breach hereof by either Party. The liability (including court costs and
attorneys' fees), of any Broker with respect to any breach of duty, error or
omission relating to this Lease shall not exceed the fee received by such Broker
pursuant to this Lease; provided, however, that the foregoing limitation on each
Broker's liability shall not be applicable to any gross negligence or willful
misconduct of such Broker.
(c) Lessor and Lessee agree to identify to Brokers as
"Confidential" any communication or information given Brokers that is considered
by such Party to be confidential.
26. No Right To Holdover. Lessee has no right to retain possession of the
Premises or any part thereof beyond the expiration or termination of this
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Lease. In the event that Lessee holds over, then the Base Rent shall be
increased to 150% of the Base Rent applicable immediately preceding the
expiration or termination. Nothing contained herein shall be construed as
consent by Lessor to any holding over by Lessee.
27. Cumulative Remedies. No remedy or election hereunder shall be deemed
exclusive but shall, wherever possible, be cumulative with all other remedies at
law or in equity.
28. Covenants and Conditions; Construction of Agreement. All provisions of this
Lease to be observed or performed by Lessee are both covenants and conditions.
In construing this Lease, all headings and titles are for the convenience of the
Parties only and shall not be considered a part of this Lease. Whenever required
by the context, the singular shall include the plural and vice versa. This Lease
shall not be construed as if prepared by one of the Parties, but rather
according to its fair meaning as a whole, as if both Parties had prepared it.
29. Binding Effect; Choice of Law. This Lease shall be binding upon the Parties,
their personal representatives, successors and assigns and be governed by the
laws of the State in which the Premises are located. Any litigation between the
Parties hereto concerning this Lease shall be initiated in the county in which
the Premises are located.
30. Subordination; Attornment; Non-Disturbance.
30.1 Subordination. This Lease and any Option granted hereby shall be
subject and subordinate to any ground lease, mortgage, deed of trust, or other
hypothecation or security device (collectively, "Security Device"), now or
hereafter placed upon the Premises, to any and all advances made on the security
thereof, and to all renewals, modifications, and extensions thereof. Lessee
agrees that the holders of any such Security Devices (in this Lease together
referred to as "Lender") shall have no liability or obligation to perform any of
the obligations of Lessor under this Lease. Any Lender may elect to have this
Lease and/or any Option granted hereby superior to the lien of its Security
Device by giving written notice thereof to Lessee, whereupon this Lease and such
Options shall be deemed prior to such Security Device, notwithstanding the
relative dates of the documentation or recordation thereof.
30.2 Attornment. In the event that Lessor transfers title to the Premises,
or the Premises are acquired by another upon the foreclosure or termination of a
Security Device to which this Lease is subordinated (i) Lessee shall, subject to
the non-disturbance provisions of Paragraph 30.3, attorn to such new owner, and
upon request, enter into a new lease, containing all of the terms and provisions
of this Lease, with such new owner for the remainder of the term hereof, or, at
the election of such new owner, this Lease shall automatically become a new
Lease between Lessee and such new owner, upon all of the terms and conditions
hereof, for the remainder of the term hereof, and (ii) Lessor shall thereafter
be relieved of any further obligations hereunder and such new owner shall assume
all of Lessor's obligations hereunder, except that such new owner shall not: (a)
be liable for any act or omission of any prior lessor or with respect to events
occurring prior to acquisition of ownership; (b) be subject to any offsets or
defenses which Lessee might have against any prior lessor, (c) be bound by
prepayment of more than one month's rent, or (d) be liable for the return of any
security deposit paid to any prior lessor.
30.3 Non-Disturbance. With respect to Security Devices entered into by
Lessor after the execution of this Lease, Lessee's subordination of this Lease
shall be subject to receiving a commercially reasonable non-disturbance
agreement (a "Non-Disturbance Agreement") from the Lender which Non-Disturbance
Agreement provides that Lessee's possession of the Premises, and this Lease,
including any options to extend the term hereof, will not be disturbed so long
as Lessee is not in Breach hereof and attorns to the record owner of the
Premises. Further, within 60 days after the execution of this Lease, Lessor
shall use its commercially reasonable efforts to obtain a Non-Disturbance
Agreement from the holder of any pre-existing Security Device which is secured
by the Premises. In the event that Lessor is unable to provide the
Non-Disturbance Agreement within said 60 days, then Lessee may, at Lessee's
option, directly contact Lender and attempt to negotiate for the execution and
delivery of a Non-Disturbance Agreement.
30.4 Self-Executing. The agreements contained in this Paragraph 30 shall be
effective without the execution of any further documents; provided, however,
that, upon written request from Lessor or a Lender in connection with a sale,
financing or refinancing of the Premises, Lessee and Lessor shall execute such
further writings as may be reasonably required to separately document any
subordination, attornment and/or Non-Disturbance Agreement provided for herein.
31. Attorneys' Fees. If any Party or Broker brings an action or proceeding
involving the Premises whether founded in tort, contract or equity, or to
declare rights hereunder, the Prevailing Party (as hereafter defined) in any
such proceeding, action, or appeal thereon, shall be entitled to reasonable
attorneys' fees. Such fees may be awarded in the same suit or recovered in a
separate suit, whether or not such action or proceeding is pursued to decision
or judgment. The term, "Prevailing Party" shall include, without limitation, a
Party or Broker who substantially obtains or defeats the relief sought, as the
case may be, whether by compromise, settlement, judgment, or the abandonment by
the other Party or Broker of its claim or defense. The attorneys' fees award
shall not be computed in accordance with any court fee schedule, but shall be
such as to fully reimburse all attorneys' fees reasonably incurred. In addition,
Lessor shall be entitled to attorneys' fees, costs and expenses incurred in the
preparation and service of notices of Default and consultations in connection
therewith, whether or not a legal action is subsequently commenced in connection
with such Default or resulting Breach ($200 is a reasonable minimum per
occurrence for such services and consultation).
32. Lessor's Access; Showing Premises; Repairs. Lessor and Lessor's agents shall
have the right to enter the Premises at any time, in the case of an emergency,
and otherwise at reasonable times after reasonable prior notice for the purpose
of showing the same to prospective purchasers, lenders, or tenants, and making
such alterations, repairs, improvements or additions to the Premises as Lessor
may deem necessary or desirable and the erecting, using and maintaining of
utilities, services, pipes and conduits through the Premises and/or other
premises as long as there is no material adverse effect to Lessee's use of the
Premises. All such activities shall be without abatement of rent or liability to
Lessee.
33. Auctions. Lessee shall not conduct, nor permit to be conducted, any auction
upon the Premises without Lessor's prior written consent. Lessor shall not be
obligated to exercise any standard of reasonableness in determining whether to
permit an auction.
34. Signs. Lessor may place on the Premises ordinary "For Sale" signs at any
time and ordinary "For Lease" signs during the last 6 months of the term hereof.
Except for ordinary "for sublease" signs, Lessee shall not place any sign upon
the Premises without Lessor's prior written consent. All signs must comply with
all Applicable Requirements.
35. Termination; Merger. Unless specifically stated otherwise in writing by
Lessor, the voluntary or other surrender of this Lease by Lessee, the mutual
termination or cancellation hereof, or a termination hereof by Lessor for Breach
by Lessee, shall automatically terminate any sublease or lesser estate in the
Premises; provided, however, that Lessor may elect to continue any one or all
existing subtenancies. Lessor's failure within 10 days following any such event
to elect to the contrary by written notice to the holder of any such lesser
interest, shall constitute Lessor's election to have such event constitute the
termination of such interest.
36. Consents. Except as otherwise provided herein, wherever in this Lease the
consent of a Party is required to an act by or for the other Party, such consent
shall not be unreasonably withheld or delayed. Lessor's actual reasonable costs
and expenses (including but not limited to architects', attorneys', engineers'
and other consultants' fees) incurred in the consideration of, or response to, a
request by Lessee for any Lessor consent, including but not limited to consents
to an assignment, a subletting or the presence or use of a Hazardous Substance,
shall be paid by Lessee upon receipt of an invoice and supporting documentation
therefor. Lessor's consent to any act, assignment or subletting shall not
constitute an acknowledgment that no Default or Breach by Lessee of this Lease
exists, nor shall such consent be deemed a waiver of any then existing Default
or Breach, except as may be otherwise specifically stated in writing by Lessor
at the time of such consent. The failure to specify herein any particular
condition to Lessor's consent shall not preclude the imposition by Lessor at the
time of consent of such further or other conditions as are then reasonable with
reference to the particular matter for which consent is being given. In the
event that either Party disagrees with any determination made by the other
hereunder and reasonably requests the reasons for such determination, the
determining party shall furnish its reasons in writing and in reasonable detail
within 10 business days following such request.
37. Guarantor.
37.1 Execution. The Guarantors, if any, shall each execute a guaranty in
the form most recently published by the American Industrial Real Estate
Association, and each such Guarantor shall have the same obligations as Lessee
under this Lease.
37.2 Default. It shall constitute a Default of the Lessee if any Guarantor
fails or refuses, upon request to provide: (a) evidence of the execution of the
guaranty, including the authority of the party signing on Guarantor's behalf to
obligate Guarantor, and in the case of a corporate Guarantor, a certified copy
of a resolution of its board of directors authorizing the making of such
guaranty, (b) current financial statements, (c) an Estoppel Certificate, or (d)
written confirmation that the guaranty is still in effect.
38. Quiet Possession. Subject to payment by Lessee of the Rent and performance
of all of the covenants, conditions and provisions on Lessee's part to be
observed and performed under this Lease, Lessee shall have quiet possession and
quiet enjoyment of the Premises during the term hereof.
39. Options. If Lessee is granted an Option, as defined below, then the
following provisions shall apply:
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39.1 Definition. "Option" shall mean: (a) the right to extend the term of
or renew this Lease or to extend or renew any lease that Lessee has on other
property of Lessor; (b) the right of first refusal or first offer to lease
either the Premises or other property of Lessor; (c) the right to purchase or
the right of first refusal to purchase the Premises or other property of Lessor.
39.2 Options Personal To Original Lessee. Any Option granted to Lessee in
this Lease is personal to the original Lessee, and cannot be assigned or
exercised by anyone other than said original Lessee and only while the original
Lessee is in full possession of the Premises and, if requested by Lessor, with
Lessee certifying that Lessee has no intention of thereafter assigning or
subletting.
39.3 Multiple Options. In the event that Lessee has any multiple Options to
extend or renew this Lease, a later Option cannot be exercised unless the prior
Options have been validly exercised.
39.4 Effect of Default on Options.
(a) Lessee shall have no right to exercise an Option: (i) during the
period commencing with the giving of any notice of Default and continuing until
said Default is cured, (ii) during the period of time any Rent is unpaid
(without regard to whether notice thereof is given Lessee), (iii) during the
time Lessee is in Breach of this Lease, or (iv) in the event that Lessee has
been given 3 or more notices of separate Default, whether or not the Defaults
are cured, during the 12 month period immediately preceding the exercise of the
Option.
(b) The period of time within which an Option may be exercised shall
not be extended or enlarged by reason of Lessee's inability to exercise an
Option because of the provisions of Paragraph 39.4(a).
(c) An Option shall terminate and be of no further force or effect,
notwithstanding Lessee's due and timely exercise of the Option, if, after such
exercise and prior to the commencement of the extended term or completion of the
purchase, (i) Lessee fails to pay Rent for a period of 30 days after such Rent
becomes due (without any necessity of Lessor to give notice thereof), or (ii) if
Lessee commits a Breach of this Lease.
40. Multiple Buildings. If the Premises are a part of a group of buildings
controlled by Lessor, Lessee agrees that it will abide by and conform to all
reasonable rules and regulations which Lessor may make from time to time for the
management, safety, and care of said properties, including the care and
cleanliness of the grounds and including the parking, loading and unloading of
vehicles, and to cause its employees, suppliers, shippers, customers,
contractors and invitees to so abide and conform. Lessee also agrees to pay its
fair share of common expenses incurred in connection with such rules and
regulations.
41. Security Measures. Lessee hereby acknowledges that the Rent payable to
Lessor hereunder does not include the cost of guard service or other security
measures, and that Lessor shall have no obligation whatsoever to provide same.
Lessee assumes all responsibility for the protection of the Premises, Lessee,
its agents and invitees and their property from the acts of third parties.
42. Reservations. Lessor reserves to itself the right, from time to time, to
grant, without the consent or joinder of Lessee, such easements, rights and
dedications that Lessor deems necessary, and to cause the recordation of parcel
maps and restrictions, so long as such easements, rights, dedications, maps and
restrictions do not unreasonably interfere with the use of the Premises by
Lessee. Lessee agrees to sign any documents reasonably requested by Lessor to
effectuate any such easement rights, dedication, map or restrictions.
43. Performance Under Protest. If at any time a dispute shall arise as to any
amount or sum of money to be paid by one Party to the other under the provisions
hereof, the Party against whom the obligation to pay the money is asserted shall
have the right to make payment "under protest" and such payment shall not be
regarded as a voluntary payment and there shall survive the right on the part of
said Party to institute suit for recovery of such sum. If it shall be adjudged
that there was no legal obligation on the part of said Party to pay such sum or
any part thereof, said Party shall be entitled to recover such sum or so much
thereof as it was not legally required to pay.
44. Authority; Multiple Parties; Execution.
(a) If either Party hereto is a corporation, trust, limited liability
company, partnership, or similar entity, each individual executing this Lease on
behalf of such entity represents and warrants that he or she is duly authorized
to execute and deliver this Lease on its behalf. Each party shall, within 30
days after request, deliver to the other party satisfactory evidence of such
authority.
(b) If this Lease is executed by more than one person or entity as
"Lessee", each such person or entity shall be jointly and severally liable
hereunder. It is agreed that any one of the named Lessees shall be empowered to
execute any amendment to this Lease, or other document ancillary thereto and
bind all of the named Lessees, and Lessor may rely on the same as if all of the
named Lessees had executed such document.
(c) This Lease may be executed by the Parties in counterparts, each of
which shall be deemed an original and all of which together shall constitute one
and the same instrument.
45. Conflict. Any conflict between the printed provisions of this Lease and
typewritten or handwritten provisions shall be controlled by the typewritten or
handwritten provisions.
46. Offer. Preparation of this Lease by either Party or their agent and
submission of same to the other Party shall not be deemed an offer to lease to
the other Party. This Lease is not intended to be binding until executed and
delivered by all Parties hereto.
47. Amendments. This Lease may be modified only in writing, signed by the
Parties in interest at the time of the modification. As long as they do not
materially change Lessee's obligations hereunder, Lessee agrees to make such
reasonable non-monetary modifications to this Lease as may be reasonably
required by a Lender in connection with the obtaining of normal financing or
refinancing of the Premises.
48. Waiver of Jury Trial. THE PARTIES HEREBY WAIVE THEIR RESPECTIVE RIGHTS TO
TRIAL BY JURY IN ANY ACTION OR PROCEEDING INVOLVING THE PROPERTY OR ARISING OUT
OF THIS AGREEMENT.
49. Mediation and Arbitration of Disputes. An Addendum requiring the Mediation
and/or the Arbitration of all disputes between the Parties and/or Brokers
arising out of this Lease [_] is [X] is not attached to this Lease.
50. Americans with Disabilities Act. Since compliance with the Americans with
Disabilities Act (ADA) is dependent upon Lessee's specific use of the Premises,
Lessor makes no warranty or representation as to whether or not the Premises
comply with ADA or any similar legislation. In the event that Lessee's use of
the Premises requires modifications or additions to the Premises in order to be
in ADA compliance, Lessee agrees to make any such necessary modifications and/or
additions at Lessee's expense.
- ----------- -----------
[ILLEGIBLE] [ILLEGIBLE]
- ----------- -----------
Initials Initials
Page 11 of 12
<PAGE>
LESSOR AND LESSEE HAVE CAREFULLY READ AND REVIEWED THIS LEASE AND EACH TERM AND
PROVISION CONTAINED HEREIN, AND BY THE EXECUTION OF THIS LEASE SHOW THEIR
INFORMED AND VOLUNTARY CONSENT THERETO. THE PARTIES HEREBY AGREE THAT, AT THE
TIME THIS LEASE IS EXECUTED, THE TERMS OF THIS LEASE ARE COMMERCIALLY REASONABLE
AND EFFECTUATE THE INTENT AND PURPOSE OF LESSOR AND LESSEE WITH RESPECT TO THE
PREMISES.
ATTENTION: NO REPRESENTATION OR RECOMMENDATION IS MADE BY THE AMERICAN
- ----------
INDUSTRIAL REAL ESTATE ASSOCIATION OR BY ANY BROKER AS TO THE LEGAL SUFFICIENCY,
LEGAL EFFECT, OR TAX CONSEQUENCES OF THIS LEASE OR THE TRANSACTION TO WHICH IT
RELATES. THE PARTIES ARE URGED TO:
1. SEEK ADVICE OF COUNSEL AS TO THE LEGAL AND TAX CONSEQUENCES OF THIS LEASE.
2. RETAIN APPROPRIATE CONSULTANTS TO REVIEW AND INVESTIGATE THE CONDITION OF THE
PREMISES. SAID INVESTIGATION SHOULD INCLUDE BUT NOT BE LIMITED TO: THE POSSIBLE
PRESENCE OF HAZARDOUS SUBSTANCES, THE ZONING OF THE PREMISES, THE STRUCTURAL
INTEGRITY, THE CONDITION OF THE ROOF AND OPERATING SYSTEMS, AND THE SUITABILITY
OF THE PREMISES FOR LESSEE'S INTENDED USE.
WARNING: IF THE PREMISES IS LOCATED IN A STATE OTHER THAN CALIFORNIA, CERTAIN
- --------
PROVISIONS OF THE LEASE MAY NEED TO BE REVISED TO COMPLY WITH THE LAWS OF THE
STATE IN WHICH THE PREMISES IS LOCATED.
The parties hereto have executed this Lease at the place and on the dates
specified above their respective signatures.
<TABLE>
<S> <C>
Executed at: [ILLEGIBLE] Executed at: [ILLEGIBLE]
-------------------------------- -------------------------------
on: [ILLEGIBLE] on: [ILLEGIBLE]
----------------------------------------- ----------------------------------------
By LESSOR: By LESSEE:
EMC Associates Ceradyne Inc., a Delaware Corporation
- --------------------------------------------- --------------------------------------------
_____________________________________________ ____________________________________________
By: /s/ [ILLEGIBLE] By: /s/ [ILLEGIBLE]
----------------------------------------- ----------------------------------------
Name Printed: [ILLEGIBLE] Name Printed: [ILLEGIBLE]
------------------------------- ------------------------------
Title: [ILLEGIBLE] Title: [ILLEGIBLE]
-------------------------------------- -------------------------------------
By: _________________________________________ By: ________________________________________
Name Printed: _______________________________ Name Printed: ______________________________
Title: ______________________________________ Title: _____________________________________
Address: ____________________________________ Address: 3169 Redhill Avenue
-----------------------------------
Costa Mesa, CA 92626
_____________________________________________ --------------------------------------------
Telephone/Facsimile: ________________________ Telephone/Facsimile: _______________________
Federal ID No. ______________________________ Federal ID No.______________________________
BROKER: BROKER:
Lee & Associates-Newport Beach, Inc. Lee & Associates-Newport Beach, Inc.
- --------------------------------------------- --------------------------------------------
/s/ Bill Garrett /s/ B. Garrett
- --------------------------------------------- --------------------------------------------
Attn: Bill Garret/Jedd Zaun Attn: Brian Garbutt
--------------------------------------- --------------------------------------
Title: Senior Vice Presidents Title: Senior Vice President
-------------------------------------- -------------------------------------
Address: 3991 MacArthur Blvd. Address: 3991 MacArthur Blvd., Suite 100
------------------------------------ ------------------------------------
Newport Beach, CA 92660 Newport Beach, CA 92660
- --------------------------------------------- --------------------------------------------
Telephone/Facsimile: (949) 724-1000 Telephone/Facsimile: (949) 724-1000
------------------------ -----------------------
Federal ID No._______________________________ Federal ID No.______________________________
</TABLE>
NOTE: These forms are often modified to meet the changing requirements of law
and industry needs. Always write or call to make sure you are utilizing
the most current form: AMERICAN INDUSTRIAL REAL ESTATE ASSOCIATION, 700
So. Flower Street, Suite 600, Los Angeles, California 90017. (213)
687-8777. Fax No. (213) 687-8616
(C) Copyright 1997 - By American Industrial Real Estate Association. All rights
reserved.
No part of these works may be reporduced in any form without permission in
writing.
garrett-Single Lease Net-17466 Dalmler
- ----------- -----------
[ILLEGIBLE] [ILLEGIBLE]
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Initials Initials
Page 12 of 12
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-23.1
<SEQUENCE>4
<FILENAME>dex231.txt
<DESCRIPTION>CONSENT OF ARTHUR ANDERSON LLP
<TEXT>
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation of our
reports included in this Form 10-K, into the Company's previously filed
Registration Statement File No. 333-31679 and Registration Statement File No.
33-61677.
Orange County, California
March 25, 2002
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-99.1
<SEQUENCE>5
<FILENAME>dex991.txt
<DESCRIPTION>LETTER REGARDING ARTHUR ANDERSON
<TEXT>
<PAGE>
Exhibit No. 99.1
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549
Dear Commission:
Andersen LLP the independent auditors of Ceradyne, Inc. has made the following
representation to the Company:
"We represent that this audit was subject to our quality control system for the
U.S. accounting and auditing practice to provide reasonable assurance that the
engagement was conducted in compliance with professional standards, that there
was appropriate continuity of Arthur Andersen personnel working on the audit,
availability of national office consultation, and availability of personnel at
foreign affiliates, if applicable, of Arthur Andersen to conduct the relevant
portions of the audit."
Sincerely,
Howard F. George
CFO of Ceradyne, Inc.
</TEXT>
</DOCUMENT>
</SEC-DOCUMENT>
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