edX - TXT1x Data
-----BEGIN PRIVACY-ENHANCED MESSAGE-----1Proc-Type: 2001,MIC-CLEAR2Originator-Name: [email protected]3Originator-Key-Asymmetric:4MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen5TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB6MIC-Info: RSA-MD5,RSA,7StvcjI02Cps/0KvcderQoVJEwu/Luwb1qOeTaApntvRbsdd0chjb+k/MwUKYpxXx8oVOvS6ju8uSqp4FHF1zEdA==910<SEC-DOCUMENT>0000351721-99-000003.txt : 1999033111<SEC-HEADER>0000351721-99-000003.hdr.sgml : 1999033112ACCESSION NUMBER: 0000351721-99-00000313CONFORMED SUBMISSION TYPE: 10-K14PUBLIC DOCUMENT COUNT: 215CONFORMED PERIOD OF REPORT: 1998123116FILED AS OF DATE: 199903301718FILER:1920COMPANY DATA:21COMPANY CONFORMED NAME: ADVANCED NEUROMODULATION SYSTEMS INC22CENTRAL INDEX KEY: 000035172123STANDARD INDUSTRIAL CLASSIFICATION: SURGICAL & MEDICAL INSTRUMENTS & APPARATUS [3841]24IRS NUMBER: 75164600225STATE OF INCORPORATION: TX26FISCAL YEAR END: 12312728FILING VALUES:29FORM TYPE: 10-K30SEC ACT:31SEC FILE NUMBER: 000-1052132FILM NUMBER: 995788533334BUSINESS ADDRESS:35STREET 1: ONE ALLENTOWN PARKWAY36CITY: ALLEN37STATE: TX38ZIP: 7500239BUSINESS PHONE: 97239098004041MAIL ADDRESS:42STREET 1: ONE ALLENTOWN PARKWAY43CITY: ALLEN44STATE: TX45ZIP: 750024647FORMER COMPANY:48FORMER CONFORMED NAME: QUEST MEDICAL INC49DATE OF NAME CHANGE: 1992070350</SEC-HEADER>51<DOCUMENT>52<TYPE>10-K53<SEQUENCE>154<DESCRIPTION>FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 199855<TEXT>565758<PAGE>59===============================================================================6061SECURITIES AND EXCHANGE COMMISSION62Washington, D.C. 2054963-----------------------64FORM 10-K6566|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE67SECURITIES EXCHANGE ACT OF 193468For the Fiscal Year Ended December 31, 199869OR70| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE71SECURITIES EXCHANCE ACT OF 193472For the transition period from to73Commission File Number: 0-1052174------------------------7576ADVANCED NEUROMODULATION SYSTEMS, INC.77(Exact name of registrant as specified in its charter)78<TABLE>79<S> <C>80TEXAS 75-164600281(State or other jurisdiction of (I.R.S. Employer82incorporation or organization) Identification No.)8384201 ALLENTOWN PARKWAY,85ALLEN, TEXAS 7500286(Address of principal executive offices) (Zip Code)87</TABLE>8889Registrant's telephone number, including area code: (972) 390-98009091SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:92<TABLE>93<S> <C>9495Title of Each Class Name of Each Exchange on Which Registered96------------------- -----------------------------------------97NONE NONE98</TABLE>99SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE EXCHANGE ACT:100Title of Class101--------------102Common Stock, $.05 Par Value103------------------------104Indicate by checkmark whether the registrant (1) has filed all reports105required to be filed by Section 13 or 15(d) of the Securities Exchange Act of1061934 during the preceding 12 months (or for such shorter period that the107registrant was required to file such reports), and (2) has been subject to such108filing requirements for the past 90 days. Yes |X| No | |109110Indicate by checkmark if disclosure of delinquent filers pursuant to Item111405 of the S-K is not contained herein, and will not be contained, to the best112of registrant's knowledge, in definitive proxy or information statements113incorporated by reference in Part III of this Form 10-K or any amendment to this114Form 10-K. | |115116Aggregate market value of the registrant's Common Stock held by117non-affiliates of the registrant as of March 18, 1999: $61,662,572118119Number of shares outstanding of the registrant's Common Stock as of120March 18, 1999: 7,776,129121------------------------122DOCUMENTS INCORPORATED BY REFERENCE123124Portions of the registrant's definitive Proxy Statement for the125registrant's Annual Meeting of Stockholders to be held on June 23, 1999, are126incorporated by reference into Part III.127================================================================================128<PAGE>129130Advanced Neuromodulation Systems, Inc.131132Annual Report133134Form 10-K135136Year Ended December 31, 1998137138PART I139140ITEM 1. BUSINESS141General142-------143144Advanced Neuromodulation Systems, Inc., a Texas corporation ("ANS" or the145"Company"), designs, develops, manufactures and markets implantable electronic146stimulation systems for spinal cord stimulation used to manage chronic147intractable pain. Until June 1998, ANS was known as Quest Medical, Inc.148149Because stimulation devices have gained acceptance as a viable, efficacious and150cost-effective treatment alternative for relieving chronic intractable pain, the151Company is continuing its efforts to expand its product offerings in the high152growth market of neuromodulation. Neuromodulation is the electrical or chemical153modulation of the central nervous system to enhance function or reduce154dysfunction. Today, ANS is a market share and technology leader in the $35155million radio-frequency stimulation segment of the neuromodulation market. In1561998, the Company accelerated its investment in development projects to position157the Company for participation in the other larger and more rapidly growing158segments of the neuromodulation market. Industry analysts expect the159neuromodulation market to grow from $260 million in 1998 to nearly $1 billion by1602003.161162Recent Developments163-------------------164165On January 30, 1998, the Company completed the sale of substantially all of the166assets of its cardiovascular and intravenous fluid product lines (the "CVS167Operations") to Atrion Corporation ("Atrion"). The CVS Operations designed,168developed, manufactured and marketed cardiovascular products (including pressure169control valves, filters and surgical retracting tapes), specialized intravenous170fluid delivery tubing sets and accessories and pressure monitoring kits used171primarily in labor and delivery. The cardiovascular products of the CVS172Operations also included the MPS(R) myocardial protection system, a173sophisticated system designed to manage the delivery of solutions to the heart174during open-heart surgery. See Item 7: "Management's Discussion and Analysis of175Financial Condition and Results of Operations-Overview" and Note 11- "Sale of176CVS Operations/Discontinued Operations" of the Notes to Consolidated Financial177Statements.178179The Company also granted Atrion a nine-month option to acquire the Company's180principal office and manufacturing facility in Allen, Texas for $6.5 million.181During October 1998, Atrion exercised its option to acquire the facility and the182closing of the transaction occurred on February 1, 1999. The Company repaid its183outstanding mortgage debt at closing and received net proceeds of $2.7 million184185-1-186<PAGE>187188after repayment of the mortgage debt and related expenses to the transaction.189The Company will move its operations to a 40,000 square foot leased facility in190the North Dallas area during May 1999. See Item 2: "Properties".191192In January 1999, the Company and Sofamor Danek Group, Inc. ("Sofamor Danek")193terminated a June 1998 agreement under which ANS would develop and manufacture194for Sofamor Danek, products and systems for use in Deep Brain Stimulation. The195termination was effective upon the closing of the Sofamor Danek merger with196Medtronic, Inc. Under terms of the termination agreement, Sofamor Danek agreed197to accelerate payments due to ANS in the amount of $8 million. The Company198received the $8 million payment the day after the completion of the Sofamor199Danek/Medtronic merger. See Item 7: "Management's Discussion and Analysis of200Financial Condition and Results of Operations-Overview" and Note 12- "Product201Development Agreement" of the Notes to Consolidated Financial Statements.202203The Neuromodulation Market204--------------------------205206Neuromodulation is the electrical or chemical modulation of the central nervous207system to enhance function or reduce dysfunction. The neuromodulation market is208comprised of implantable electrical stimulation systems and fully implantable209intrathecal drug pumps that modulate the central nervous system by delivering210either electricity or pharmaceuticals directly to nerve fibers.211212Four product segments address the chronic intractable pain segment of the213neuromodulation market. These segments are: (1) radio-frequency stimulation214systems for spinal cord stimulation, (2) implantable pulse generator stimulation215systems for spinal cord and deep brain stimulation, (3) fully implantable216constant rate intrathecal drug pumps and (4) fully implantable programmable rate217intrathecal drug pumps. Industry analysts estimate the market at $260 million in2181998 and growing to nearly $1 billion by 2003.The growth in the market for219stimulation systems and intrathecal drug pumps is being driven by a number of220factors including:221222* New technology is increasing the capability of these devices223* New clinical applications for stimulation systems and intrathecal drug224pumps are being discovered and tested225* Improved outcomes driven by technology, patient selection and improved226techniques227* Stimulation and intrathecal drug pump devices are low risk, cost effective228and the therapies are reversible229* Patient awareness and advocacy230* A growing base of pain specialists and centers of excellence231232Listed below are the estimated units and revenue by market segment in 1998 and2332003 for all manufacturers of such products. These estimates do not consider234applications for neuromodulation technology platforms such as urge incontinence,235epilepsy, peripheral nerve stimulation, sacral nerve root stimulation for236various pelvic pain disorders, functional stimulation, tens stimulation,237peripheral vascular disease and deep brain applications for disorders other than238Parkinson's Disease and Essential Tremor.239240-2-241<PAGE>242243Estimated, for all product manufacturers, by market segment:244245<TABLE>246<CAPTION>2471998 2003248-------------------- --------------------249$ $250Units (000's) Units (000's)251--------- --------- --------- ---------252<S> <C> <C> <C> <C>253Radio-frequency stimulation254systems for spinal cord255stimulation ....................... 2,750 $ 35,000 4,460 $ 60,000256257Implantable pulse generator258stimulation systems for spinal259cord stimulation .................. 11,250 80,000 30,850 282,000260261Implantable pulse generator262stimulation systems for deep brain263stimulation for Parkinson's Disease264and Essential Tremor .............. 2,745 20,000 19,050 175,000265266Fully implantable constant rate267intrathecal drug pumps ............ 1,935 8,000 5,450 23,000268269Fully implantable programmable270rate intrathecal drug pumps ....... 15,400 117,000 51,900 380,000271--------- --------- --------- ---------272Total .................... 34,080 $260,000 111,710 $920,000273--------- --------- --------- ---------274</TABLE>275276The number of patients who can benefit from stimulation and intrathecal drug277pump devices is substantial. Thus, the Company believes the market is278under-served and under-penetrated. In 1998, only 34,000 patients benefited from279a stimulation system or intrathecal drug pump.280281The Company's growth strategy is to develop and license proprietary products to282expand from its current participation in the radio-frequency stimulation segment283into all segments of the neuromodulation market. Since most pain practitioners284implant products in all four categories, the Company believes it is in a unique285position to leverage its distribution capabilities.286287Products288--------289290STIMULATION SYSTEMS291292Stimulation devices electrically stimulate nerve fibers along the spinal cord to293reduce chronic severe neuropathic pain by "masking" the pain signals sent to the294brain. Neuropathic pain usually arises from nerve damage. Stimulation device295implantation manages the pain associated with failed back surgery syndrome296(FBSS), peripheral neuropathy, phantom limb or stump pain, ischemic pain and297reflex sympathetic dystrophy (RSD), also known as complex regional pain syndrome298(CRPS). Stimulation device implantation in the brain is being used to relieve299the effects of various neurological disorders, such as Parkinson's Disease and300Essential Tremor by delivering small electrical impulses to targeted structures301in the brain.302303The market for stimulation systems is currently divided between radio-frequency304stimulation systems, which use an external power source, and stimulation systems305306-3-307<PAGE>308309that utilize implantable battery driven systems known as implantable pulse310generators (IPGs). According to industry analysts, lPG devices account for 80311percent of the number of spinal cord stimulation procedures performed, with312radio-frequency devices accounting for the remainder. The Company currently313designs, develops, manufactures and markets radio-frequency stimulation devices314and is in the process of developing an IPG device. The primary advantage of the315radio-frequency device revolves around the benefits of the system's external316battery. An external battery system allows the patient to recharge the device by317simply changing out a special nine-volt battery. The IPG requires surgical318intervention, revision and replacement after two to four years. Due to its319inexpensive power system, the radio-frequency device can be programmed with a320wide range of amplitude, frequency and pulse width settings for a variety of321programs controlled by the patient. These features make the radio-frequency322devices the most cost efficient for long-term stimulation treatment. On the323other hand, IPG devices provide the convenience of a completely internalized324system, although they involve added long-term cost when repeat surgeries are325required to replace the IPG power source. Both radio-frequency systems and IPG326systems are useful to the pain physician. Radio-frequency systems are most often327prescribed for patients who have complex bilateral pain syndromes or large pain328topographies that require high power levels. IPGs are most often prescribed for329patients with simple unilateral and single extremity pain complaints or330indications with low power requirements.331332The Company's radio-frequency stimulation systems consist of four primary333components: leads, a receiver, a transmitter and programmer. The leads are most334commonly placed percutaneously through the skin into the epidural space of the335spinal column. This procedure for lead placement is similar to that employed by336anesthesiologists in routine epidural procedures. Typically, one or two leads337are inserted, each of which has multiple electrodes that can be used to338stimulate the targeted nerve roots of the spinal cord. Laminotomy style (paddle)339leads are also available for neurosurgeons or orthopedic surgeons who prefer to340insert leads in an open surgical procedure approach. The leads are then341connected to a passive receiver, which is implanted under the skin on the side342of the abdomen. The receiver contains electronics that receive radio-frequency343energy and data from a source (the transmitter) outside the body, and delivers344the prescribed electrical pulses to the leads. The transmitter is approximately345the size of a pager, and is typically worn on a belt. Since it is external to346the body, the transmitter can be easily programmed and serviced as needed, and347its battery can be simply recharged or replaced.348349The Company's CompuStim(R) systems include four, seven, eight and sixteen350electrodes on one, two or more leads; simple and complex receivers; and an351external battery powered transmitter. The Company believes that the CompuStim352product line's multi-electrode leads and advanced multiprogrammable technology353have changed the manner in which neuromodulation is performed worldwide. For354example, the Company's "Dual Octrode" device, a system of dual leads with eight355electrodes on each lead introduced in 1995, creates a targeted current density356that appears to be especially effective in relieving complex and multi-extremity357pain patterns. Previously, quadrapolar stimulation systems only relieved the leg358pain associated with FBSS. Many thought leaders support the view that the Dual359Octrode device provides improved pain relief to both the legs and the back. Dual360Octrode systems are enjoying increasing acceptance from the physician community361and, in the Company's judgment, is the technological leader in the stimulation362field. The Company believes that the long-term results of stimulation in the363treatment of pain have improved as a result of the technological superiority of364365-4-366<PAGE>367368ANS products. Moreover, the ease of use of the system has expanded the potential369market for these products.370371The Company recently completed development of its enhanced radio-frequency372stimulation system and expects to introduce the products in the United States in3731999. These products include enhancements that will simplify the procedure for374implanters while providing improved function.375376In 1998, the Company licensed the rights to filed method patents for sacral377nerve root stimulation aimed at relieving the effects of chronic pelvic pain,378including interstitial cystitis. Interstitial cystitis is an extremely painful379bladder disease that affects an estimated 450,000 people worldwide. The Company380believes its advanced radio-frequency stimulation devices can be effective in381treating pelvic pain indications including interstitial cystitis. In February3821999, the Company received conditional approval from the FDA to initiate a pilot383study to evaluate the use of its advanced radio-frequency stimulation systems to384treat interstitial cystitis. If the pilot study is successful, the Company would385seek approval from the FDA to initiate further clinical studies in the process386to receive a PMA approval to begin marketing in the United States.387388The Company believes its radio-frequency stimulation devices represent a strong389base for penetration of the broader neuromodulation market. The Company390continued development of an IPG stimulation system during 1998 to better serve391the broad needs of the pain management market. The Company expects to complete392development of its IPG stimulation system during the second quarter of 1999 and393will seek approval from the FDA during the third quarter of 1999 to initiate394clinical trials. The IPG stimulation system will allow the Company to395participate in the largest segment of the stimulation market for spinal cord396stimulation and leverage its sales and marketing capabilities. In addition, the397IPG provides the Company the opportunity to address a larger number of new398indications such as chronic intractable angina, urinary urge incontinence,399peripheral nerve stimulation and DBS for essential tremor and tremor associated400with Parkinson's disease.401402PAINDOC(R)403404In early 1997 the Company began marketing PainDoc, a pen-based computer system405that is designed to assist physicians and their patients in optimizing the406performance of the Company's stimulation devices both pre- and post-operatively.407PainDoc interfaces with the Company's CompuStim transmitters to optimize408stimulation therapy and document treatment outcomes. PainDoc allows the409physician to interact with the patient to map the location and intensity of the410patient's pain. The resulting "pain map" is then used to assess and select the411most effective stimulation sets, or combination of multi-electrode stimulation412arrays, to treat the pain. The idea is to generate pain coverage that overlaps413the patient's pain map. The selected arrays (programs) are uploaded into the414patient's CompuStim transmitter. The physician can visually compare the415patient's pain map against a stimulation map and optimize the patient's416stimulator setting to address the patient's needs and assess whether desired417levels of pain relief have been obtained and whether excess stimulation has been418delivered.419420PainDoc enables the physician to program up to 24 different stimulation sets421delivering electrical stimulation every 50 milliseconds to expand pain area422coverage and relief. The Company believes that PainDoc should also allow423physicians to create a broad based database tool that, by using a standardized424425-5-426<PAGE>427428methodology, will enable physicians to share and compare outcomes data, which429can then be used to deliver more efficacious pain relief to individual patients.430The Company believes that PainDoc and CompuStim devices used in tandem431significantly enhance the effectiveness, flexibility and precision of managing432chronic neuropathic pain. The Company expects PainDoc to promote the selection433of the Company's CompuStim devices for stimulation procedures, especially as434stimulation devices become more sophisticated and the pain management process435becomes more refined. In October 1995, the Company received 510(k) approval from436the FDA to market PainDoc as an interactive medical treatment device. See Item4371: "Business-Other Business Matters-Government Regulation."438439The Company continues to make improvements to PainDoc and will continue to440develop systems that are easier to use and offer more capability.441442INTRATHECAL DRUG PUMPS443444Fully implantable intrathecal drug pumps are designed to deliver pharmaceuticals445directly into the intrathecal space (the fluid-filled area around the spinal446cord). With intrathecal drug delivery, the medication is delivered directly to447its site of action. This contrasts to oral or intravenous drug delivery, where448the medication is distributed systemically throughout the entire body. Since the449drug is being delivered directly to the site of action, a greater therapeutic450effect can be achieved with much lower quantities of medication, which reduces451the common side effects that can occur with oral medications. Today, intrathecal452drug pumps are used to deliver morphine for the treatment of pain and baclofen453for the treatment of spasticity.454455Intrathecal drug pump systems consist of the pump itself and a catheter. The456pump is a low profile cylinder shaped device (similar to the size of a hockey457puck) that contains a reservoir into which the drug to be delivered is injected458and mechanisms that regulate the rate of delivery of the drug. The pump is459implanted under the skin generally in the abdominal area and is connected to the460catheter. The catheter is a piece of silastic tubing that is tunneled under the461skin and into the spinal fluid space in the back where it delivers the drug from462the pump. The drug supply in the pump usually lasts one to three months. The463drug pump is refilled using a needle inserted through the skin into the pump's464access port. The drug is then injected through the needle into the reservoir.465The refill procedure is generally performed on an outpatient basis by a466physician or under the direct supervision of a physician.467468Industry analysts estimate that the intrathecal drug pump market will grow469annually between 25 to 30 percent over the next five years. In 1998 the market470was estimated at $125 million and is expected to grow to $403 million by the471year 2003. The market for fully implantable intrathecal drug pumps is currently472divided between constant rate drug pumps and programmable rate drug pumps.473According to industry analysts, the programmable drug pumps account for 89474percent of the number of intrathecal drug pump procedures performed, with475constant rate drug pumps accounting for the remainder. Currently, Medtronic,476Inc. is the sole worldwide provider of a programmable intrathecal drug pump.477478The programmable rate drug pump is the most versatile type of implantable pump479since it allows the rate of drug delivery to be changed non-invasively to meet480varying patients' needs. Medtronic's programmable pump contains a battery and481482-6-483<PAGE>484485motor. The battery delivers pulses of energy to the motor which pushes the drug486from the pump into the catheter and into the spinal canal. The programmability487feature allows for time-modified delivery of the drug. For example, it can be488non-invasively programmed to deliver more medication at night and less in the489morning. Since the pump is powered with a battery, the entire pump typically490needs to be replaced every four to five years.491492Constant rate drug pumps are designed to provide drug infusion at a constant493rate. Once implanted, the medication flow rates remain the same. In order to494change medication rates, different drug concentrations can be mixed and changed495at refill. Constant rate pumps are typically powered by pressurized gas496contained in a compartment of the device. As the gas expands, the medication is497forced out of the drug reservoir through a flow restrictor and catheter and into498the spinal canal. When the drug reservoir is refilled, its power is499automatically recharged. Therefore constant rate pumps are less expensive and500have a longer implant life (eight to ten years) since there is no battery that501can be depleted.502503Management believes that the fully implantable intrathecal drug pump market504offers significant opportunity. In August 1998, the Company completed an505agreement with Tricumed Medizintechnik GmbH, a German corporation, granting ANS506exclusive rights to distribute Tricumed's fully implantable intrathecal drug507pump products in international markets including the United States, Canada, the508United Kingdom, France, Spain, Switzerland, South America, Australia and other509world markets. Tricumed manufactures a proprietary constant rate intrathecal510drug pump (Archimedes) that has received the CE mark (European) approval.511Tricumed is also developing a fully implantable programmable intrathecal drug512pump (Micromedes). Tricumed expects to complete development of the Micromedes513pump and seek regulatory approval in Europe (CE mark) in the latter part of5141999. Both the Archimedes and Micromedes pumps have proprietary engineered515features that improve patient convenience and reduce costs. If Tricumed516successfully completes development of the Micromedes and obtains the CE mark,517the Company would commence marketing the Micromedes pump in international518countries. The Company would also seek approval from the FDA to initiate519clinical trials in the United States, a step in the process to receive approval520to market the Micromedes domestically. The Company commenced marketing the521Archimedes pump in international countries in the first quarter of 1999.522523In 1998, the Company also continued development on its own low-cost fully524implantable constant rate intrathecal drug pump utilizing proprietary technology525licensed from the University of Minnesota. The Company expects to complete526development of the pump in the third quarter of 1999 and will seek approval from527the FDA to initiate clinical trials in the United States. The Company will seek528CE mark approval to distribute the low-cost pump internationally during the529second half of 1999, with international sales expected to commence in late530fourth quarter of 1999. Management believes that its value priced pump will531expand the market for fully implantable intrathecal drug pumps to price532sensitive markets including cancer pain therapy and third world countries.533534-7-535<PAGE>536537Other Business Matters538----------------------539540MARKETING AND MAJOR CUSTOMER541542ANS utilizes specialty distributors and commissioned sales agents to market its543stimulation systems. Currently, the Company has seven specialty distributors who544employ thirty-five personnel to market its stimulation systems. In addition, the545Company has twenty commissioned sales agents and two direct sales546representatives who sell the Company's stimulation systems. The Company employs547four regional sales managers who oversee the distributors, sales agents and548direct representatives. Internationally, the Company sells product to fourteen549specialty distributors who represent ANS in twenty-one countries. The primary550medical specialists the Company targets in its marketing efforts are551anesthesiologists, neurosurgeons and orthopedic surgeons. Although neurosurgeons552were the first practitioners to use stimulation systems, anesthesiologists now553account for a greater percentage of sales as the relative number of these554practitioners has grown and as the understanding and acceptance of stimulation555treatment has increased. The Company derives 90 percent of net revenues from556product sales of its stimulation systems from domestic sales and approximately55710 percent from export sales.558559During 1998, 1997 and 1996, the Company had one major customer that accounted560for 10 percent or more of its net revenue from product sales. Sun Medical, Inc.,561a specialty distributor of ANS products, accounted for $3.4 million, $3.7562million and $2.6 million, or 20 percent, 25 percent and 22 percent of ANS' net563revenue from product sales for the years ended December 31, 1998, 1997 and 1996,564respectively. While the Company believes its relations with Sun Medical are565good, the loss of this customer could have a material adverse effect on the566Company's business, financial condition and results of operations.567568RESEARCH AND DEVELOPMENT569570In 1998, the Company focused its research and development efforts on the571continued development of its enhanced radio-frequency stimulation systems and572ongoing research and development of new products for the neuromodulation market,573such as an implantable pulse generator stimulation system for spinal cord574stimulation, an implantable pulse generator stimulation system for Deep Brain575Stimulation ("DBS") and a low-cost constant rate intrathecal drug pump. The576Company expended $2.8 million (13.9 percent of total net revenue) on its577research and development activities in 1998, compared to $977,000 (6.6 percent578of total net revenue) in 1997. The Company expects to increase its investment in579research and development and clinical trials during 1999 and expects580expenditures of approximately $4.6 million. These expenditures will be directed581toward completion of the low-cost constant rate intrathecal drug pump, the582implantable pulse generator stimulation system for spinal cord stimulation, the583implantable pulse generator stimulation system for DBS and for the development584of next generation radio-frequency stimulation systems and implantable pulse585generator stimulation systems. These expenditures also include expenses for586clinical trials that the Company expects to initiate on several of its new587products upon approval from the FDA. The clinical trials are a necessary process588to receive approval from the FDA to begin marketing the products in the United589States. During February 1999, the Company received approval from the FDA to590initiate a pilot clinical study to evaluate the use of its advanced591radio-frequency stimulation systems to treat pelvic pain, specifically592593-8-594<PAGE>595596interstitial cystitis. The Company also expects to seek approval from the FDA597during the third quarter of 1999 to initiate clinical studies for its598implantable pulse generator stimulation system for spinal cord stimulation and599its low-cost constant rate intrathecal drug pump. As of March 1999, ANS had an600in-house research and development staff of 25 personnel as compared to 13 in601March 1998.602603The Company is evaluating strategic partners for DBS to replace its terminated604agreement with Sofamor Danek that could partially fund research and development605expenditures during 1999. In addition to DBS, the Company believes its606implantable pulse generator stimulation platform has market opportunities607outside its focus of chronic pain including applications such as epilepsy,608urinary incontinence, angina, peripheral nerve stimulation and peripheral609vascular disease. The Company may also seek strategic partners with established610distribution systems to develop these market opportunities outside the chronic611pain market area.612613MANUFACTURING614615The Company manufactures and packages its stimulation systems at its616manufacturing facility in Allen, Texas. This facility received ISO 9001617certification (for design and manufacturing processes) in July 1995. See Item 1.618"Business-Other Business Matters-Government Regulations."619620The Company's manufacturing processes consist of the assembly of standard and621custom component parts and the testing of completed products. The Company622subcontracts with various suppliers to provide it with the quantity of component623parts necessary to assemble its products. Almost all of these components are624available from a number of different suppliers, although certain components are625purchased from single sources. For example, the Company currently relies on a626single supplier for a computer chip used in the receiver and transmitter of its627stimulation systems. The supplier of this computer chip has indicated its desire628to cease manufacturing and supplying the computer chip in the future, but to629date, has not determined when this will occur. The supplier has agreed to notify630the Company once a date has been determined and allow the Company to place a631final one-time purchase order for the computer chip. In the interim, the Company632is maintaining a higher than normal inventory of the computer chip. In addition,633the Company is developing a custom computer chip to replace the existing634computer chip and expects such chip to be available during the first half of6352000. A sudden disruption in supply from the computer chip supplier or another636single-source supplier could adversely affect the Company's ability to deliver637finished products on time.638639The Company devotes significant attention to quality control. Its quality640control measures begin at the manufacturing level where components are assembled641in a "clean room" environment designed and maintained to reduce product exposure642to particulate matter. Products are tested throughout the manufacturing process643for adherence to specifications. Finished components are shipped to outside644processors for ethylene oxide gas sterilization.645646Skills of assembly workers required for the manufacture of medical products are647similar to those required in typical assembly operations. The Company believes648that workers with these skills are readily available in the Dallas area.649650-9-651<PAGE>652653COMPETITION654655In marketing its stimulation systems, the Company competes with one other656significant supplier, Medtronic, Inc. Medtronic has substantially greater657financial resources and engages in substantially greater research and658development and marketing efforts. Medtronic holds a substantial majority share659of the stimulation market and sells both radio-frequency stimulation systems and660implantable pulse generator stimulation systems. Medtronic also holds the661substantial majority share of the market for implantable intrathecal drug pumps662and is the sole marketer worldwide of fully implantable programmable intrathecal663drug pumps and implantable pulse generators.664665The Company believes that the principal competitive factors in the666neuromodulation market are cost-effectiveness, impact on patient outcomes,667product performance, quality, ease of use, technical innovation and customer668service. The Company intends to continue to compete on the basis of its high669performance products, innovative technologies, manufacturing capability, close670customer relations and support, and its strategy to increase its offerings of671products within the neuromodulation market.672673PATENTS, TRADEMARKS AND PROPRIETARY INFORMATION674675The Company currently owns four United States patents and also owns two foreign676patents. In management's view, these patents offer reasonable coverage of its677stimulation devices' electrode, receiver, transmitter and programmer technology.678These patents cover both radio-frequency stimulation systems and implantable679pulse generator stimulation systems for a wide range of current and future680applications. Pending patent applications concern the PainDoc computer system681and the Company's innovative Multistim(R) technology.682683The Company also licenses four United States patents and one foreign patent from684the University of Minnesota relating to the constant rate intrathecal drug pump685the Company is currently developing.686687In 1998, the Company licensed exclusive worldwide rights to filed method patents688for sacral nerve-root stimulation aimed at relieving the effects of chronic689pelvic pain, including interstitial cystitis. Currently, there are two pending690patent applications. See Item 7: "Management's Discussion and Analysis of691Financial Condition and Results of Operations-Overview".692693The validity of any patents issued to the Company may be challenged by others694and the Company could encounter legal and financial difficulties in enforcing695its patent rights against infringers. In addition, there can be no assurance696that other technologies cannot or will not be developed or that patents will not697be obtained by others which would render the Company's patents obsolete. The698loss of any one patent would not have a material adverse effect on the Company's699current revenue base. Although the Company does not believe that patents are the700sole determinant in the commercial success of its products, the loss of a701significant percentage of its patents or its patents relating to the stimulation702product line could have a material adverse effect on the Company's business,703financial condition and results of operations.704705-10-706<PAGE>707708The Company has developed technical knowledge which, although non-patentable, is709considered by the Company to be significant in enabling it to compete. However,710the proprietary nature of such knowledge may be difficult to protect. The711Company has entered into an agreement with each key employee prohibiting such712employee from disclosing any confidential information or trade secrets of the713Company and prohibiting that employee from engaging in any competitive business714while the employee is working for the Company and for a period of one year715thereafter. In addition, these agreements also provide that any inventions or716discoveries relating to the business of the Company by these individuals will be717assigned to the Company and become the Company's sole property.718719Claims by competitors and other third parties that the Company's products720allegedly infringe the patent rights of others could have a material adverse721effect on the Company. The interventional pain management market is722characterized by extensive patent and other intellectual property claims, which723can create greater potential than in less developed markets for possible724allegations of infringement, particularly with respect to newly developed725technology. Intellectual property litigation is complex and expensive and the726outcome of this litigation is difficult to predict. Any future litigation,727regardless of outcome, could result in substantial expense to the Company and728significant diversion of the efforts of the Company's technical and management729personnel. An adverse determination in any such proceeding could subject the730Company to significant liabilities to third parties, or require the Company to731seek licenses from third parties or pay royalties that may be substantial.732Furthermore, there can be no assurance that necessary licenses would be733available to the Company on satisfactory terms or at all. Accordingly, an734adverse determination in a judicial or administrative proceeding or failure to735obtain necessary licenses could prevent the Company from manufacturing or736selling certain of its products, which could have a material adverse effect on737the Company's business, financial condition and results of operations.738739COMPUSTIM, MULTISTIM, PAINDOC, UNISTIM and OCTRODE are among the Company's740registered trademarks. Registration applications are pending for various741trademarks the Company believes have value in the marketplace, including742Advanced Neuromodulation Systems and ANS.743744GOVERNMENT REGULATION745746The manufacture and sale of the Company's products are subject to regulation by747numerous governmental authorities, principally the FDA and corresponding foreign748agencies. The research and development, manufacturing, promotion, marketing and749distribution of the Company's products in the United States are governed by the750Federal Food, Drug and Cosmetic Act and the regulations promulgated thereunder751(the "FDC Act and Regulations"). The Company is subject to inspection by the FDA752for compliance with such regulations and procedures.753754The FDA has traditionally pursued a rigorous enforcement program to ensure that755regulated entities such as the Company comply with the FDC Act and Regulations.756A company not in compliance may face a variety of regulatory actions, including757warning letters, product detentions, device alerts, mandatory recalls or field758corrections, product seizures, injunctive actions or civil penalties and759criminal prosecutions of the Company or responsible employees, officers and760directors. The Company was last inspected in the summer of 1996, with no major761violations found.762763-11-764<PAGE>765766Under the FDA's requirements, a new medical device cannot be released for767commercial use until a pre-market approval application (a "PMA") has been filed768with the FDA and the FDA has approved the device's release. If a manufacturer769can establish that a newly developed device is "substantially equivalent" to a770legally marketed device, the manufacturer may seek marketing clearance from the771FDA to market the device by filing a 510(k) premarket notification with the FDA,772which usually takes less time than a PMA. The process of obtaining FDA clearance773can be lengthy, expensive and uncertain. Both a 510(k) and a PMA, if granted,774may include significant limitations on the indicated uses for which a product775may be marketed. FDA enforcement policy strictly prohibits the promotion of776approved medical devices for unapproved uses. In addition, product approvals can777be withdrawn for failure to comply with regulatory requirements or the778occurrence of unforeseen problems following initial marketing. Although all of779the Company's currently marketed products have been the subject of successful780510(k) submissions, the Company believes that because the products the Company781currently has in development are more innovative, some of these products will782require the PMA submission process, which is lengthier and more costly than the783510(k) process.784785The Company is also subject to regulation in each of the foreign countries in786which it sells its products with regard to product standards, packaging787requirements, labeling requirements, import restrictions, tariff regulations,788duties and tax requirements. Many of the regulations applicable to the Company's789products in such countries are similar to those of the FDA. The national health790or social security organizations of certain countries require the Company's791products to be qualified before they can be marketed in those countries. To792date, the Company has not experienced significant difficulty in complying with793these regulations.794795To position itself for access to European and other international markets, ANS796has maintained certification under the ISO 9000 Series of Standards. ISO 9000 is797a set of integrated requirements, which when implemented, form the foundation798and framework for an effective quality management system. These standards were799developed and published by the ISO, a worldwide federation of national standard800bodies, founded in Geneva, Switzerland in 1946. ISO has over 92 member801countries. ISO certification is essential to enter European Community markets.802803In December 1998, ANS' quality system was recommended for re-certification and804an upgrade to ISO 9001/EN 46001 certification. The ISO 9001 registration is the805most stringent standard in the ISO series and lasts for three years. The German806notified body TUV Product Services will issue the upgraded certificates. The ISO8079001 standard covers design, production, installation and servicing of products.808The EN 46001 covers the same elements as the ISO standard however the focus is809on quality systems for medical device manufacturing. In addition, ANS is810certified to the Active Implantable Medical Device Directive allowing ANS to811market devices throughout the European Community. The Company is subject to an812annual audit by the notified body to maintain the registrations.813814The financial arrangements through which the Company markets, sells and815distributes its products may be subject to certain federal and state laws and816regulations in the United States with respect to the provision of services or817products to patients who are Medicare or Medicaid beneficiaries. The "fraud and818abuse" laws and regulations prohibit the knowing and willful offer, payment or819receipt of anything of value to induce the referral of Medicare or Medicaid820patients for services or goods. In addition, the physician anti-referral laws821822-12-823<PAGE>824825prohibit the referral of Medicare or Medicaid patients for certain "Designated826Health Services" to entities in which the referring physician has an ownership827or compensation interest. Violations of these laws and regulations may result in828civil and criminal penalties, including substantial fines and imprisonment. In a829number of states, the scope of fraud and abuse or physician anti-referral laws830and regulations, or both, have been extended to include the provision of831services or products to all patients, regardless of the source of payment,832although there is variation from state to state as to the exact provisions of833such laws or regulations. In other states, and on a national level, several834health care reform initiatives have been proposed which would have a similar835impact. The Company believes that its operations and its marketing, sales and836distribution practices currently comply in all respects with all current fraud837and abuse and physician anti-referral laws and regulations, to the extent they838are applicable. Although the Company does not believe that it will need to839undertake any significant expense or modification to its operations or its840marketing, sales and distribution practices to comply with federal and state841fraud and abuse and physician anti-referral regulations currently in effect or842proposed, financial arrangements between manufacturers of medical devices and843other health care providers may be subject to increasing regulation in the844future. Compliance with such regulation could adversely affect the Company's845marketing, sales and distribution practices, and may affect the Company in other846respects not presently foreseeable, but which could have an adverse impact on847the Company's business, financial condition and results of operations.848849THIRD PARTY REIMBURSEMENT AND COST CONTAINMENT850851The Company's products are purchased primarily by hospitals and ambulatory852surgery centers, which then bill various third party payers for the services853provided to the patients. These payers, which include Medicare, Medicaid,854private insurance companies, managed care and worker's compensation855organizations, reimburse part or all of the costs and fees associated with the856procedures performed with these devices.857858Medicare and Medicaid reimbursement for hospitals is based on a fixed amount for859admitting a patient with a specific diagnosis. Because of this fixed860reimbursement method, hospitals have incentives to use less costly methods in861treating Medicare and Medicaid patients, and will frequently make capital862expenditures to take advantage of less costly treatment technologies.863Frequently, reimbursement is reduced to reflect the availability of a new864procedure or technique, and as a result hospitals are generally willing to865implement new cost saving technologies before these downward adjustments take866effect. Likewise, because the rate of reimbursement for certain physicians who867perform certain procedures has been and may in the future be reduced in the868event of further changes in the resource-based relative value scale method of869payment calculation, physicians may seek greater cost efficiency in treatment to870minimize any negative impact of reduced reimbursement. Any amendments to871existing reimbursement rules and regulations which restrict or terminate the872reimbursement eligibility (or the extent or amount of coverage) of medical873procedures using the Company's products or the eligibility (or the extent or874amount of coverage) of the Company's products could have an adverse impact on875the Company's business, financial condition and results of operations. Third876party payers are increasingly challenging the prices charged for medical877products and services and may deny reimbursement if they determine that a device878was not used in accordance with cost-effective treatment methods as determined879by the payer, was experimental or was used for an unapproved application.880881-13-882<PAGE>883884The Company's stimulation systems, while cost-effective compared to repeat back885surgeries, have encountered some resistance to third party reimbursement.886Although Medicare, Medicaid and many private insurers reimburse for the887stimulation systems and procedure, especially after repeat back surgeries have888failed to relieve chronic pain, some managed care and private payers889occasionally refuse to reimburse for stimulation systems or restrict890reimbursement. There can be no assurance that in the future, third party payers891will continue to reimburse for the Company's products, or that their892reimbursement levels will not adversely affect the profitability of the893Company's products. In addition, health care costs have risen significantly over894the past decade, and there have been and will continue to be proposals by895legislators and regulators to curb these costs. Legislative action limiting896reimbursement for certain procedures could have a material adverse effect on the897Company's business, financial condition and results of operations.898899In response to the focus of national attention on rising health care costs, a900number of changes to reduce costs have been proposed or have begun to emerge.901There have been, and may continue to be, proposals by legislators and regulators902and third party payers to curb these costs. There has also been a significant903increase in the number of Americans enrolling in some form of managed care plan.904It has become a typical practice for hospitals to affiliate themselves with as905many managed care plans as possible. Higher managed care penetration typically906drives down the prices of health care procedures, which in turn places pressure907on medical supply prices. This causes hospitals to implement tighter vendor908selection and certification processes, by reducing the number of vendors used,909purchasing more products from fewer vendors and trading discounts on price for910guaranteed higher volumes to vendors. Hospitals have also sought to control and911reduce costs over the last decade by joining group purchasing organizations or912purchasing alliances. The Company cannot predict what continuing or future913impact existing or proposed legislation, regulation or such third party payer914measures may have on its future business, financial condition or results of915operations.916917Changes in reimbursement policies and practices of third party payers could have918a substantial and material impact on sales of the Company's products. The919development or increased use of more cost-effective treatments could cause such920payers to decrease or deny reimbursement to favor these other treatments.921922EMPLOYEES923924As of March 18, 1999, the Company employed 103 full-time employees, 25 in925research and development, 21 in sales and marketing, 45 in manufacturing and926related operations, and the remainder in executive and administrative positions.927None of the Company's employees is represented by a labor union and the Company928considers its employee relations to be good.929930ADVISORY BOARD931932The Company has established the Advanced Neuromodulation Systems Advisory Board,933which is comprised of individuals with substantial expertise in neuromodulation934and pain management. Members of the Company's management and scientific and935technical staff consult closely with members of the Advisory Board to identify936specific areas where techniques are changing and where existing products do not937adequately fulfill the needs of the pain physician. The Advisory Board helps938939-14-940<PAGE>941942management evaluate new product ideas and concepts and once a product is943approved for development, its subsequent design and development. The Advisory944Board may also participate in the clinical testing of products developed.945946Certain members of the Advisory Board are employed by academic institutions and947may have commitments to or consulting or advisory agreements with other entities948that may limit their availability to the Company. The members of the Advisory949Board may also serve as consultants to other medical device companies. No950members of the Advisory Board are expected to devote more than a small portion951of their time to the Company.952953ITEM 2. PROPERTIES954955At December 31, 1998, the Company owned and occupied a manufacturing facility956and executive office in Allen, Texas (located north of Dallas). The facility957covers approximately 107,000 square feet and was constructed during 1993 on 19.2958acres of land that the Company acquired in 1985. The Company borrowed $4.4959million from MetLife Capital Corporation to construct and outfit the facility.960The land, facility and certain equipment of the Company secure the note. See961Note 5 - "Notes Payable" of the Notes to Consolidated Financial Statements.962963In connection with the January 1998 sale of the CVS Operations, the Company964granted Atrion a nine-month option to acquire the Company's principal office and965manufacturing facility in Allen, Texas for $6.5 million. Atrion exercised the966option to acquire the facility during October 1998 and the transaction closed on967February 1, 1999. The Company repaid the outstanding mortgage debt on the968facility at closing and received net proceeds of $2.7 million after paying969expenses related to the transaction. No material gain or loss was realized on970the sale of the facility. The Company is leasing space, furniture and equipment971from Atrion until May 1999 at the monthly rate of $48,125 and is paying Atrion972fifty percent of certain operating expenses including utilities, janitorial973services, landscaping services, insurance and property taxes. At that time the974Company will move its operations to a 40,000 square foot leased facility in975Plano, Texas, a northeast suburb of Dallas. The Company entered a sixty-three976month lease agreement in February 1999 for the aforementioned space. Under terms977of the lease agreement, the Company receives three months of free rent and the978monthly rental rate for the remaining term of the lease is $48,308. The monthly979rental rate includes certain operating expenses such as property taxes on the980facility, insurance, landscape and maintenance and janitorial services. The981Company also has a first right of refusal to acquire the facility. The Company982expects to spend approximately $2.3 million for furniture and equipment,983leasehold improvements, computer systems, telephone systems and manufacturing984clean room for the leased facility. The expense for moving and transitioning985into the new facility is expected to be immaterial.986987ITEM 3. LEGAL PROCEEDINGS988989The Company is a party to product liability claims related to ANS' stimulation990systems. Product liability insurers have assumed responsibility for defending991the Company against these claims, subject to reservation of rights in certain992cases. While historically product liability claims for ANS stimulation systems993have not resulted in significant monetary liability for the Company beyond its994995-15-996<PAGE>997998insurance coverage, there can be no assurances that the Company will not incur999significant monetary liability to the claimants if such insurance is unavailable1000or inadequate for any reason, or that the Company's current stimulation business1001and future ANS neuromodulation products will not be adversely affected by these1002product liability claims. While the Company seeks to maintain appropriate levels1003of product liability insurance with coverage that the Company believes is1004comparable to that maintained by companies similar in size and serving similar1005markets, there can be no assurance that the Company will avoid significant1006future product liability claims relating to its stimulation systems.10071008Except for such product liability claims and other ordinary routine litigation1009incidental or immaterial to its business, the Company is not currently a party1010to any other pending legal proceeding. The Company maintains general liability1011insurance against risks arising out of the normal course of business.10121013ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS10141015Inapplicable.101610171018PART II10191020ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED1021STOCKHOLDER MATTERS10221023The Company's common stock is currently quoted on the NASDAQ Stock Market under1024the symbol "ANSI." Until June 30, 1998, the common stock was quoted on the1025NASDAQ Stock Market under the symbol "QMED". The Company's symbol was changed on1026July 1, 1998 in connection with the name change of the Company from Quest1027Medical, Inc. to Advanced Neuromodulation Systems, Inc. On March 18, 1999, there1028were approximately 704 holders of record of the Company's common stock. The1029following table sets forth the quarterly high and low closing sales prices for1030the Company's common stock. These prices do not include adjustments for retail1031mark-ups, mark-downs or commissions.10321033<TABLE>1034<CAPTION>10351997: High Low1036----- ----------- -----------1037<S> <C> <C>1038First Quarter $ 8.13 $ 5.941039Second Quarter $ 9.22 $ 5.751040Third Quarter $ 10.50 $ 8.251041Fourth Quarter $ 10.00 $ 6.381042</TABLE>1043<TABLE>1044<CAPTION>10451998: High Low1046----- ----------- -----------1047<S> <C> <C>1048First Quarter $ 8.75 $ 6.501049Second Quarter $ 10.00 $ 8.061050Third Quarter $ 10.00 $ 5.751051Fourth Quarter $ 6.75 $ 5.001052</TABLE>1053<TABLE>1054<CAPTION>10551999: High Low1056----- ----------- -----------1057<S> <C> <C>1058First Quarter $ 8.19 $ 6.191059(through March 18, 1999)1060</TABLE>10611062-16-1063<PAGE>10641065To date, the Company has not declared or paid any cash dividends on its common1066stock and the Board of Directors does not anticipate paying cash dividends on1067the Company's common stock in the foreseeable future.10681069During January 1998, the Board of Directors approved a stock repurchase program1070of up to 500,000 shares of the Company's common stock and during August 19981071approved the repurchase of up to an additional 1,000,000 shares. The Company's1072purchases may be effected through open market purchases, block transactions,1073privately negotiated purchases or otherwise. Purchases of the Company's common1074stock will be effected at prices and terms to be determined in light of then1075current circumstances, are completely discretionary and may be temporarily or1076permanently suspended at any time without notice. Through December 31, 1998, the1077Company had repurchased 1,258,625 shares of its common stock at an aggregate1078cost of $9,411,055 (including commissions), or an average of $7.48 per share.1079During the year ended December 31, 1998, the Company issued 184,874 shares from1080its treasury upon the exercise of stock options. At December 31, 1998, 1,073,7511081shares remained in the treasury.10821083-17-1084<PAGE>10851086ITEM 6. SELECTED FINANCIAL DATA10871088<TABLE>1089<CAPTION>1090-----------------------------------------------------1091Years Ended December 31,1092-----------------------------------------------------10931998 1997 1996 1995(1) 19941094--------- --------- --------- --------- ---------1095(in thousands, except per share data)1096Statement of Operations Data (2):1097<S> <C> <C> <C> <C> <C>1098Net revenue-product sales ..... $ 17,006 $ 14,718 $ 11,403 $ 10,434 $ --1099Total net revenue ............. 20,106 14,718 11,403 10,434 --1100Gross profit-product sales .... 12,021 9,878 8,088 7,682 --1101Research and development1102expense ..................... 2,801 977 1,316 808 --1103Purchased research and1104development ................. -- -- -- 10,500 --1105Marketing, general and1106administrative and1107amortization expenses ....... 8,486 6,815 6,257 3,796 --1108Earnings (loss) from1109operations .................. 3,833 2,086 515 (7,421) --1110Net earnings (loss) from1111continuing operations ....... 2,586 818 115 (8,906) --1112Loss from discontinued1113operations .................. (212) (93) (527) (1,199) (1,719)1114Gain on the sale of assets of1115discontinued operations ..... 4,585 -- -- -- --1116Net earnings (loss) from1117discontinued operations ..... 4,373 (93) (527) (1,199) (1,719)1118Net earnings (loss) ........... $ 6,959 $ 724 $ (412) $(10,374) $(1,719)11191120Diluted earnings (loss) per share:11211122Continuing operations ........ $ .30 $ .09 $ .01 $ (1.42) $ --1123Discontinued operations ...... $ .51 $ (.01) $ (.06) $ (.19) $ (.33)1124Extraordinary item ........... $ -- $ -- $ -- $ (.05) $ --1125Net earnings (loss) .......... $ .81 $ .08 $ (.05) $ (1.66) $ (.33)1126</TABLE>11271128-18-1129<PAGE>11301131<TABLE>1132<CAPTION>1133-----------------------------------------------------1134Years Ended December 31,1135-----------------------------------------------------11361998 1997 1996 1995 19941137--------- --------- --------- --------- ---------1138(in thousands)1139Balance Sheet Data:1140<S> <C> <C> <C> <C> <C>1141Cash, cash equivalents and1142marketable securities ....... $ 12,263 $ 2,204 $ 2,206 $ 3,914 $ 5,2621143Working capital .............. 16,426 14,128 11,088 12,183 7,4111144Total assets ................. 45,485 48,982 47,188 44,496 24,2351145Short-term notes payable and1146current maturities of1147long-term notes payable ..... 3,633 8,257 2,084 1,616 2,7591148Notes payable, excluding1149current maturities .......... -- 3,635 11,912 8,558 4,1241150Stockholders' equity ......... $ 33,304 $ 33,906 $ 30,993 $ 30,870 $ 15,9311151</TABLE>1152- -----------------------1153(1) Includes results of ANS from March 31, 1995. The net loss for 1995 reflects1154a charge of $10,500, or $(1.68), for purchased in-process research and1155development incurred in connection with the ANS acquisition and an1156extraordinary charge of $269, or $(.05) per share, for the write-off of1157capitalized debt issuance costs due to early repayment of bank debt with the1158proceeds from a public offering completed in November 1995.1159(2) On January 30, 1998, the Company sold its cardiovascular and intravenous1160fluid delivery product lines (CVS Operations). The CVS Operations have been1161accounted for as discontinued operations. See Note 11 of the Notes to1162Consolidated Financial Statements.11631164ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND1165RESULTS OF OPERATIONS11661167The following discussion of the financial condition and results of operations of1168the Company should be read in conjunction with the Consolidated Financial1169Statements of the Company and the related Notes.11701171OVERVIEW11721173On January 30, 1998, we sold the assets of our CVS Operations, including our1174MPS(R) myocardial protection system product line, to Atrion Corporation1175("Atrion"). See Note 11 - "Sale of CVS Operations/ Discontinued Operations" of1176the Notes to Consolidated Financial Statements. We received approximately $231177million in cash from the sale. We also granted Atrion a nine-month option to1178acquire our principal office and manufacturing facility in Allen, Texas for $6.51179million. Atrion exercised the option to acquire the facility during October 19981180and the transaction closed on February 1, 1999. We repaid the outstanding1181mortgage debt on the facility at closing and received net proceeds of $2.71182million after paying expenses related to the transaction. No material gain or1183loss was realized on the sale of the facility. We are leasing space, furniture1184and equipment from Atrion until May 1999 at the monthly rate of $48,125 and are1185paying Atrion fifty percent of certain operating expenses. At that time we1186will move our operations to a 40,000 square foot leased facility in Plano,1187Texas, a northeast suburb of Dallas. The expense of moving and transitioning1188into the new facility is expected to be immaterial.11891190-19-1191<PAGE>11921193Assets of the CVS Operations sold to Atrion primarily consisted of accounts1194receivable, inventories, furniture and fixtures, manufacturing tooling and1195equipment, and intangible assets including patents, trademarks and purchased1196technology. The intangible assets also included the rights to the name Quest1197Medical, Inc., our former name. We reported a pretax gain on the transaction of1198$7.1 million during the year ended December 31, 1998. This pretax gain is net of1199$1,005,000 compensation expense recorded as a result of changes made to the1200stock options held by employees of the CVS Operations. See Note 7 -1201"Stockholders' Equity" of the Notes to Consolidated Financial Statements. The1202pretax gain is also net of an expense of $969,000 recorded in connection with1203sale of the facility to Atrion which relates to abated property taxes. See Note120411- "Sale of CVS Operations/Discontinued Operations" of the Notes to1205Consolidated Financial Statements. We utilized $9 million of the proceeds from1206the sale to retire debt and pay expenses related to the transaction. We are1207utilizing the remaining proceeds for working capital for our expanding ANS1208business and for the repurchase of issued and outstanding shares. During 1998,1209the Board of Directors approved stock repurchase programs of up to 1,500,0001210shares of the Company's common stock at prices and terms to be determined in1211light of then current circumstances. During the year ended December 31, 1998, we1212repurchased 1,258,625 shares of our common stock at an aggregate cost of1213$9,411,055 (including commissions).12141215The CVS Operations have been accounted for as discontinued operations in the1216Consolidated Financial Statements for the years ended December 31, 1998, 1997,1217and 1996.12181219At our Annual Meeting of Shareholders in May 1998, the shareholders approved a1220proposal to change the name of the Company from Quest Medical, Inc. to Advanced1221Neuromodulation Systems, Inc. The name change became effective during June 1998.1222The Company's trading symbol on the NASDAQ Stock Market was changed from "QMED"1223to "ANSI" on July 1, 1998.12241225In June 1998, we completed an agreement with Sofamor Danek Group, Inc. ("Sofamor1226Danek") under which we would develop and manufacture for Sofamor Danek, products1227and systems for use in Deep Brain Stimulation ("DBS"). See Note 12- "Product1228Development Agreement" of the Notes to Consolidated Financial Statements. We1229received a payment of $4 million upon execution of the agreement that is being1230recognized into income as revenue based upon the estimated completion of the1231development project. During the year ended December 31, 1998, we recognized $3.11232million into income as revenue. In January 1999, the agreement with Sofamor1233Danek was terminated in conjunction with the merger of Sofamor Danek and1234Medtronic, Inc. In connection with the termination, we received an additional1235payment of $8 million from Sofamor Danek, which will be recognized into income1236as revenue during 1999.12371238The former agreement with Sofamor Danek fits with our strategy to strengthen and1239broaden our neuromodulation technology platforms and to find strategic partners1240to leverage ANS' core technology into other significant market segments beyond1241our focus on the pain management market. We are evaluating potential strategic1242partners for DBS to replace the terminated relationship with Sofamor Danek,1243although there is no assurance that we will be successful in negotiating and1244consummating a new DBS agreement.12451246-20-1247<PAGE>12481249In August 1998, we completed an agreement with Tricumed Medizintechnik GmbH, a1250German corporation, granting us exclusive rights to distribute Tricumed's CE1251mark approved constant rate intrathecal drug pump and a future programmable rate1252intrathecal drug pump which Tricumed is currently developing. Our distribution1253rights in international markets include the United States, Canada, the United1254Kingdom, France, Spain, Switzerland, South America, Australia and other world1255markets. We began distribution of the constant rate intrathecal pump1256internationally during January 1999. If Tricumed is successful in developing the1257programmable rate intrathecal drug pump and obtaining the CE mark, we would also1258begin marketing such pump internationally. We would also seek approval from the1259FDA to initiate clinical studies in the United States, a necessary process to1260receive a PMA approval to begin marketing in the United States.12611262In August 1998, we completed an agreement to license exclusive worldwide rights1263to filed method patents for sacral nerve root stimulation aimed at relieving the1264effects of chronic pelvic pain including interstitial cystitis ("I.C."), an1265extremely painful bladder disease that affects an estimated 450,000 people1266worldwide. We made a licensing payment of $250,000 upon executing the agreement1267and will pay up to an additional $750,000 in licensing payments upon certain1268regulatory approvals in 1999 and 2000. We have also agreed to pay a royalty on1269product sales used in sacral nerve root stimulation. We believe our advanced1270radio-frequency stimulation systems can be effective in treating pelvic pain1271indications including I.C. In February 1999, we received conditional approval1272from the FDA to initiate a pilot clinical study to evaluate the use of our1273advanced radio-frequency stimulation systems to treat I.C. If the pilot study is1274successful, we would seek approval from the FDA to initiate further clinical1275studies in the process to receive a PMA approval to begin marketing in the1276United States.12771278RESULTS OF OPERATIONS12791280Comparison of the Years Ended December 31, 1998 and 19971281- --------------------------------------------------------12821283We reported net earnings of $6.96 million or $.81 per diluted share in 19981284compared to $724,000 or $.08 per diluted share in 1997. The 1998 results1285included net earnings of $4.4 million from the discontinued CVS Operations or1286$.51 per diluted share primarily due to an after-tax gain of $4.6 million on the1287sale of the discontinued operations while the 1997 results included a loss of1288$93,000 or $(.01) per diluted share from the discontinued operations. Net1289earnings from continuing operations increased to $2.6 million or $.30 per1290diluted share in 1998 compared to $818,000 or $.09 per diluted share in 1997.12911292Total net revenue from continuing ANS operations of $20.1 million for the year1293ended December 31, 1998, was $5.4 million, or 37 percent, above the comparable12941997 level of $14.7 million. The 1998 period includes $3.1 million of net1295revenue associated with our former development agreement for DBS products with1296Sofamor Danek. Net revenue from ANS product sales increased 16 percent to $17.01297million during 1998 compared to $14.7 million in 1997. This increase in net1298revenue from product sales was the result of higher unit sales volume of ANS'1299radio-frequency stimulation systems used to treat complex pain patterns. Of the1300$2.3 million increase in 1998, $1.7 million was the result of higher sales in1301the United States and the remainder from higher sales internationally. We expect1302to launch our enhanced radio-frequency stimulation systems in the United States1303market during the second quarter of 1999. Our strategy is to expand our product13041305-21-1306<PAGE>13071308offerings to all segments of the neuromodulation market and therefore we have1309increased our investment in research and development. These development projects1310include an implantable pulse generator for spinal cord stimulation, an1311implantable pulse generator for Deep Brain Stimulation and a low-cost constant1312rate intrathecal drug pump. Our partner Tricumed is also developing a1313programmable rate intrathecal drug pump.13141315Gross profit from product sales increased to $12.0 million in 1998 from $9.91316million in 1997 due to the increase in net revenue from product sales discussed1317above and an increase in gross profit margin. Gross profit margin from product1318sales increased to 70.7 percent in 1998 compared to 67.1 percent in 1997 due,1319for the most part, to a $479,000 expense during 1997 for the write-off of ANS1320inventory of previous designs. Excluding such write-off in 1997, gross profit1321margin remained approximately the same, 70.4 percent in 1997 compared to 70.71322percent in the 1998 period.13231324Total operating expenses (the aggregate of research and development, marketing,1325amortization of intangibles and administrative expenses) increased to $11.31326million in 1998 compared to $7.8 million in 1997 and as a percentage of total1327net revenue increased to 56 percent in 1998 from 53 percent in 1997.13281329Research and development expense increased to $2.8 million in 1998, or 13.91330percent of 1998 total net revenue, from $977,000 during 1997, or 6.6 percent of13311997 total net revenue, reflecting our stepped up commitment to develop products1332that will expand our presence into all market segments of the neuromodulation1333market. This increase during 1998 compared to 1997 was the result of higher1334salary and benefit expense from staffing additions, increased consulting1335expense, and higher test material expense. These expenditures during 1998 were1336directed toward development of our enhanced radio-frequency stimulation systems1337which we expect to introduce to the U.S. market in the second quarter of 1999, a1338low-cost constant rate intrathecal drug pump, an implantable pulse generator1339stimulation system for spinal cord stimulation and an implantable pulse1340generator system for Deep Brain Stimulation. We expect to complete the1341development of our implantable pulse generator stimulation system for spinal1342cord stimulation during the second quarter of 1999 and expect to seek FDA1343approval in the third quarter of 1999 to initiate clinical trials in the United1344States. We will also seek the CE mark (European) approval for the implantable1345pulse generator stimulation system for spinal cord stimulation during the second1346half of 1999 with market introduction expected internationally in the fourth1347quarter of 1999. We also expect to complete development of our low-cost constant1348rate intrathecal drug pump during the third quarter of 1999 and expect to seek1349approval from the FDA to initiate clinical trials at that time. We are currently1350evaluating strategic partners to replace our former relationship with Sofamor1351Danek for Deep Brain Stimulation.13521353Marketing expense, as a percentage of total net revenue, decreased to 23.31354percent in 1998 from 27.0 percent in 1997, while the dollar amount increased1355from $4.0 million during 1997 to $4.7 million in 1998. This dollar increase1356during 1998 was attributable to higher commissions from increased product sales,1357higher training expense for new users of ANS products and higher convention and1358promotional expense.13591360General and administrative expense increased from $1.8 million during 1997 to1361$2.6 million in 1998 and as a percentage of total net revenue, increased to 13.11362percent in 1998 from 12.0 percent during 1997. This increase in expense during13631364-22-1365<PAGE>136613671998 was principally the result of increased legal expense related to the1368various development agreements discussed above, increased recruiting and1369relocation expense and increased costs for existing employee benefit plans.13701371Amortization of ANS intangibles increased from $1.1 million in 1997 to $1.21372million during 1998, mostly due to an expense associated with a non-compete1373agreement with the former president and chief executive officer.13741375Other income increased to $499,000 in 1998 compared to an expense of $536,000 in13761997 primarily as a result of two factors. First, interest expense decreased by1377$294,000 during 1998 compared to 1997 as a result of the repayment of short-term1378notes payable in January 1998 from the proceeds of the sale of the CVS1379Operations. Second, interest income increased by $720,000 in 1998 compared to13801997 due to higher funds available for investment due to the proceeds from the1381January 1998 sale of the CVS Operations.13821383Income tax expense from continuing operations increased to $1.75 million in 19981384from $733,000 in 1997 due to higher earnings from ANS operations. This1385represents effective tax rates of 40.3 percent in 1998 and 47.3 percent in 1997.1386Our expense for amortization of costs in excess of net assets acquired1387(goodwill) is not deductible for tax purposes, thus explaining the higher1388effective tax rate during both 1998 and 1997 compared to the U.S. statutory rate1389for corporations of 34 percent.13901391Comparison of the Years Ended December 31, 1997 and 19961392- --------------------------------------------------------13931394We reported net earnings of $724,000 or $.08 per diluted share in 1997 compared1395to a net loss of $412,000 or $(.05) per diluted share in 1996. The 1997 results1396included a net loss of $93,000 from the discontinued CVS Operations or $(.01)1397per diluted share while the 1996 results included a net loss of $527,000 or1398$(.06) per diluted share from the discontinued operations. Net earnings from1399continuing operations increased to $818,000 or $.09 per diluted share in 19971400compared to $115,000 or $.01 per diluted share in 1996.14011402Total net revenue from continuing ANS operations of $14.7 million for the year1403ended December 31, 1997, was $3.3 million, or 29 percent, above the level for1404the comparable 1996 period of $11.4 million. This increase during 1997 was the1405result of higher unit sales volume, principally in the United States. During14061996 and into the first quarter of 1997, we dedicated significant engineering1407and marketing resources to build the infrastructure at ANS and improve our1408current products to transform ANS into an industry leader and compete1409effectively in the stimulation market. We believe these measures account for the1410increase in net revenue during the 1997 period compared to the same period1411during 1996.14121413Gross profit from product sales increased during 1997 to $9.9 million compared1414to $8.1 million in 1996. As a percentage of net revenue, however, gross profit1415decreased to 67.1 percent in 1997 compared to 70.9 percent during 1996. This1416decrease in gross profit margin during 1997 was due, for the most part, to a1417$479,000 expense for the write-off of ANS inventory of previous designs. As1418mentioned above, during 1996 we dedicated a significant amount of time and1419effort to improve the design and performance of our products. Due to the1420acceptance and superior performance of the current design of ANS products, we1421decided that inventories of previous designs should be written off and recorded1422such expense during the second quarter of 1997.14231424-23-1425<PAGE>14261427Total operating expenses of $7.8 million during 1997 increased slightly from the14281996 level of $7.6 million, although as a percentage of total net revenue, such1429expenses decreased to 52.9 percent during 1997 from 66.4 percent in 1996.14301431Research and development expense decreased to $977,000 in 1997, or 6.6 percent1432of 1997 total net revenue, from $1.3 million during 1996, or 11.5 percent of14331996 total net revenue. This decrease during 1997 compared to 1996 was the1434result of lower salary and benefit expense from personnel reductions, lower1435consulting expense, and lower regulatory expense.14361437Marketing expense, as a percentage of total net revenue, decreased to 27.01438percent in 1997 from 29.3 percent in 1996, while the dollar amount increased1439from $3.3 million during 1996 to $4.0 million in 1997. This dollar increase1440during 1997 was attributable to additional expense related to higher1441commissions, clinical study and training expense for new users of ANS products.14421443General and administrative expense decreased from $2.1 million during 1996 to1444$1.8 million in 1997 and as a percentage of total net revenue, decreased to 12.01445percent in 1997 from 18.3 percent during 1996. This decrease in expense during14461997 was principally the result of a charge during 1996 of $198,000 to write off1447an account receivable from a former ANS distributor who filed bankruptcy.14481449Amortization of ANS intangibles increased from $826,000 in 1996 to $1.1 million1450during 1997, mostly due to patents acquired during February 1997 from the former1451owner of the stimulation business.14521453Other expense increased to $536,000 in 1997 compared to $81,000 during 1996 as a1454result of three factors. First, interest expense increased by $207,000 during14551997 compared to 1996 as a result of higher levels of borrowing and higher1456overall interest rates on borrowed money. Second, interest income declined by1457$85,000 during 1997 compared to 1996 as a result of lower funds available for1458investment combined with overall lower rates of return. Finally, during 1996 we1459realized gains of $137,000 on the sale of marketable securities compared to a1460loss of $26,000 during 1997, a reduction of $163,000.14611462Income tax expense increased to $733,000 during 1997 from $320,000 in 1996 due1463to higher earnings from operations. This represents effective tax rates of 47.31464percent in 1997 and 73.6 percent in 1996. Our expense for amortization of costs1465in excess of net assets acquired (goodwill) is not deductible for tax purposes,1466thus explaining the higher effective tax rate during both 1997 and 1996 compared1467to the U.S. statutory rate for corporations of 34 percent.14681469LIQUIDITY AND CAPITAL RESOURCES14701471In the sale of assets of the CVS Operations to Atrion during January 1998, we1472received cash proceeds of approximately $23 million, after post-closing1473adjustments as defined in the purchase agreement, which significantly enhanced1474our financial position. We utilized approximately $9 million of the proceeds to1475retire all our short-term notes payable and related expenses of the transaction.14761477-24-1478<PAGE>14791480At December 31, 1998 our working capital increased from $14.1 million at1481year-end 1997 to $16.4 million at year-end 1998. The ratio of current assets to1482current liabilities was 2.7:1 at December 31, 1998, compared to 2.5:1 at1483December 31, 1997. Cash, cash equivalents and marketable securities totaled1484$12.3 million at December 31, 1998 compared to $2.2 million at December 31,14851997.14861487During January 1998, the Board of Directors approved a stock repurchase program1488of up to 500,000 shares of the Company's common stock and during August 19981489approved the repurchase of up to an additional 1,000,000 shares. During the year1490ended December 31, 1998, we repurchased 1,258,625 shares of our common stock at1491an aggregate cost of $9,411,055.14921493In January 1999, we received the $8 million payment in connection with the1494termination of the DBS agreement with Sofamor Danek.14951496During February 1999, we completed the sale of our corporate facility to Atrion1497for $6.5 million. After repayment of the mortgage debt and expenses related to1498the transaction, we realized net proceeds of $2.7 million.14991500We expect capital expenditures during 1999 of approximately $3.5 million. Of1501such expenditures, approximately $2.3 million is budgeted for new furniture and1502equipment, computer systems, telephone system, manufacturing clean-room and1503leasehold improvements for our relocation to our new leased facility in May15041999. The remaining expenditures primarily relate to manufacturing tooling and1505equipment for the new products we are developing and sacral nerve root patent1506licensing fees.15071508We believe our current cash, cash equivalents and marketable securities, the1509termination payment from Sofamor Danek in January 1999, net proceeds from the1510February 1999 sale of our corporate facility and cash generated from operations1511will be sufficient to fund all of our operating needs, including capital1512expenditures and share repurchases for the foreseeable future.15131514CASH FLOWS15151516Net cash provided by continuing operations increased to $6.9 million in 19981517compared to $2.1 million in 1997 and a net use of cash during 1995 of $636,000.1518This improvement during 1998 compared to 1997 and 1996 reflects the improved1519operating results of ANS, deferred revenue associated with the former agreement1520with Sofamor Danek and income taxes payable not due until March 1999. Net cash1521provided by discontinued operations decreased to $59,000 in 1998 compared to1522$391,000 in 1997 and a net use of cash during 1996 of $145,000. The 1998 period1523included only one month of results until the sale in January 1998.15241525Net cash provided by investing activities was $20.8 million in 1998 compared to1526net uses of cash in 1997 and 1996 of $5.7 million and $957,000 respectively. The15271998 period reflects net proceeds from the sale of discontinued operations of1528$21.8 million. We utilized $1.4 million in 1998 for capital expenditures1529primarily for manufacturing tooling and equipment for the new products we are1530developing and $250,000 to license method patents for sacral nerve root1531stimulation. Primary uses of cash during 1997 were capital expenditures of $1.315321533-25-1534<PAGE>15351536million and payments to the former owner of the neurostimulation business1537relating to patents and settlements of $4.5 million. The primary use of cash1538during 1996 was for capital expenditures of $1.9 million.15391540Net cash used in financing activities was $16.9 million in 1998 compared to net1541cash provided by financing activities of $3.3 million in 1997 and $305,000 in15421996. During 1998, we received cash of $818,000 from the exercise of stock1543options while $9.4 million was used for share repurchases and $8.3 million to1544reduce debt. During 1997, we received cash of $922,000 from the exercise of1545stock options and $3.5 million from additional borrowings under short-term1546notes. We used $1.2 million during 1997 to repay debt. During 1996, the primary1547source of cash from financing activities was $559,000 from the exercise of stock1548options while we used cash to repay $151,000 of mortgage debt and $103,0001549utilized in the redemption of the Company's shareholder rights plan.15501551YEAR 200015521553The Year 2000 issue results from computer programs being written using two1554digits rather than four to define the applicable year. Computer programs or1555hardware that have date-sensitive software or embedded chips may recognize a1556date using "00" as the year 1900 rather than the year 2000. This could result1557in a system failure or miscalculations causing disruptions of operations,1558including, among other things, a temporary inability to process transactions,1559send invoices, manufacture products or engage in similar normal business1560activities.15611562We began our assessment of our computer software, hardware, manufacturing1563equipment and other non-critical systems in early 1998 and are substantially1564complete. The assessment determined that a significant portion of our computer1565hardware and software and manufacturing equipment were Year 2000 compliant.1566Certain personal computers, non-critical internal software programs and1567manufacturing equipment will need modifications or replacement and we expect the1568costs associated with the replacement and modifications to approximate1569$125,000. We estimate the costs incurred in the assessment of our systems to be1570under $100,000, which have been expensed in our current operations.15711572When we sold our facility to Atrion on February 1, 1999, Atrion also acquired1573our mainframe computer and software applications. In moving to a new leased1574facility in May 1999, we will purchase new computer hardware and software that1575is similar to our current systems. We will also purchase a new telephone system.1576We have received assurances from the providers of the new systems that they are1577Year 2000 compliant. We expect to spend approximately $500,000 for these new1578systems (in addition to the $125,000 for modifications and replacements1579discussed above), which is included in the $2.3 million we have budgeted for the1580relocation. We will fund these costs from our current cash reserves and expect1581most of the costs will be capitalized.15821583When we relocate to our new facility and install our new computer hardware and1584software systems, we will test the systems to ensure compliance1585with Year 2000. We expect to complete the testing by the end of the third1586quarter of 1999. We also plan to complete the modifications necessary to1587non-critical software applications and manufacturing equipment by the end of the1588third quarter of 1999.15891590-26-1591<PAGE>15921593We have contacted the third-party vendors and suppliers of products and1594services that we consider critical to our operations to ascertain their level of1595Year 2000 readiness. We have no means of ensuring that all vendors and suppliers1596will be Year 2000 compliant. The inability of these parties to complete their1597Year 2000 resolution process could materially impact us. As a result, we will1598consider new business relationships with alternate providers of products and1599services as necessary and to the extent alternatives are available.16001601Our plan to complete the Year 2000 modifications is based upon management's best1602estimates and assumptions. We cannot guarantee, however, that we will achieve1603these estimates; actual results could differ materially from those plans.16041605Our goal is to ensure all critical systems and processes under our control1606remain operational. However, because certain systems and processes may be linked1607with systems outside our control, we cannot assure you that all implementations1608will be successful. As a result, we are developing a contingency plan to respond1609to any failures that may occur. We do not expect the costs of our Year 20001610project to have a material adverse effect on our financial position or results1611of operations. However, any unanticipated failures by critical third party1612suppliers and vendors as well as our own failure to execute our Year 2000 plan,1613could have a material adverse impact on the Company.16141615OUTLOOK AND UNCERTAINTIES16161617The following is a "safe harbor" statement under the Private Securities1618Litigation Reform Act of 1995: The matters discussed in this Annual Report on1619Form 10-K contain statements that constitute forward-looking statements within1620the meaning of Section 21E of the Securities Exchange Act of 1934, as amended.1621The words "expect," "estimate," "anticipate," "predict," "believe," "plan,"1622"will," "should," "intend" and similar expressions and variations thereof are1623intended to identify forward-looking statements. Such statements appear in a1624number of places in this Annual Report on Form 10-K and include statements1625regarding our intent, belief or current expectations with respect to, among1626other things: (i) trends affecting our financial condition or results of1627operations; (ii) our financing plans; and (iii) our business growth strategies.1628We caution our readers that any forward-looking statements are not guarantees of1629future performance and involve risks and uncertainties. Actual results may1630differ materially from those projected in the forward-looking statements as a1631result of various factors. These risks and uncertainties include the following:16321633PRODUCT DEVELOPMENT AND MARKET ACCEPTANCE. Our growth depends in part on our1634ability to develop and gain market acceptance of new products, including next1635generation ANS products. We cannot assure you that we will continue to develop1636successful products, that delays in product introduction will not be1637experienced, or that once such products are introduced, the market will accept1638them.16391640YEAR 2000 COMPLIANCE. We cannot assure you that our Year 2000 readiness efforts1641will prevent a material adverse impact on our results of operations, financial1642condition and cash flows since our compliance is dependent upon third parties1643also being Year 2000 ready in a timely manner.16441645-27-1646<PAGE>16471648GOVERNMENT REGULATION. Our business is subject to extensive government1649regulation, principally by the FDA. The regulatory process, especially as it1650relates to product approvals, can be lengthy, expensive and uncertain. See Item16511-"Business-Government Regulation".16521653SINGLE-SOURCED COMPONENTS. We rely on a single supplier for the computer chip1654used in two components of our stimulation systems. The supplier of this computer1655chip has indicated its desire to cease manufacturing and supplying the computer1656chip in the future, but to date, has not determined when this will occur. The1657supplier has agreed to notify us when a date has been determined and allow us to1658place a final one-time purchase order for the computer chip. In the interim, we1659are maintaining a higher than normal inventory of the computer chip. In1660addition, we are developing a custom computer chip to replace the existing1661computer chip and expect such chip to be available during the first half of16622000. A sudden disruption in supply from the computer chip supplier or another1663single-source supplier could adversely affect our ability to deliver finished1664products on time.16651666COMPETITION AND TECHNOLOGICAL CHANGE. The medical device market is highly1667competitive. We compete with many larger companies that have access to greater1668capital, research and development, marketing, distribution and other resources1669than we do. In addition, our market is characterized by extensive research1670efforts and rapid product development and technological change, which could1671render our products obsolete or noncompetitive.16721673INTELLECTUAL PROPERTY RIGHTS. We rely in part on patents, trade secrets and1674proprietary technology to remain competitive. It may be necessary to defend1675these rights or to defend against claims that we are infringing the rights of1676others. Intellectual property litigation and controversies are disruptive and1677expensive.16781679COST PRESSURES ON MEDICAL TECHNOLOGY. The overall escalating cost of medical1680products and healthcare results in significant cost pressure. Third party payers1681are under intense pressure to challenge the prices charged for medical products1682and services. We rely heavily on Medicare and Medicaid reimbursement. Any1683amendments to existing reimbursement rules and regulations which restrict or1684terminate the reimbursement eligibility (or the extent or amount of coverage) of1685medical procedures using our products or the eligibility (or the extent or1686amount of coverage) of our products could adversely impact on our business,1687financial condition and results of operations.16881689POTENTIAL PRODUCT LIABILITY. The testing, manufacturing, marketing and sale of1690medical devices entail substantial risks of liability claims or product recalls.16911692RELIANCE ON CUSTOMER/DISTRIBUTOR. During 1998, we had one major customer that1693accounted for 10 percent or more of our net revenue. Sun Medical, Inc., a1694specialty distributor of our products, accounted for $3.4 million, or 201695percent, of our net revenue from product sales for the year ended December 31,16961998. While we believe our relations with Sun Medical are good, the loss of this1697or any other major customer could have a material adverse effect on the1698Company's business, financial condition and results of operations.16991700OTHER UNCERTAINTIES. We discuss other operating, financial or legal risks or1701uncertainties in this Form 10-K in specific contexts and in the Company's other1702periodic SEC filings. The Company is, of course, also subject to general1703economic risks, the risk of interruption in the source of supply, dependence on1704key personnel and other risks and uncertainties.17051706-28-1707<PAGE>17081709CURRENCY FLUCTUATIONS17101711Substantially all of our international sales are denominated in U.S. dollars.1712Fluctuations in currency exchange rates in other countries could reduce the1713demand for our products by increasing the price of our products in the currency1714of the countries in which the products are sold, although we do not believe1715currency fluctuations have had a material effect on the Company's results of1716operations to date.17171718ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK17191720We do not use derivative financial instruments to manage the impact of interest1721rate changes on our investments or debt instruments.17221723We invest our cash reserves in high quality short-term liquid money market1724instruments with major financial institutions. At December 31, 1998, we had1725$11,612,347 invested in money market funds. The rate of interest earned on these1726investments will vary with overall market rates. A hypothetical 100-basis point1727change in the interest rate earned on these investments would not have a1728material effect on our income or cash flows.17291730We also have certain investments in available-for-sale securities. These1731investments primarily consist of real estate investment trusts and investment1732grade corporate preferred securities that are traded on the New York Stock1733Exchange. The cost of these investments is $764,195 and had a fair value at1734December 31, 1998 of $566,072. The investments are subject to overall stock1735market and interest rate risk. A hypothetical 20 percent decrease in the share1736prices of these investments from the prices at December 31, 1998 would decrease1737the fair value by $113,214.17381739The only debt instrument we had at December 31, 1998 was a mortgage note payable1740on our facility of $3,633,475. The note payable has a fixed rate with a1741weighted-average interest rate of 8.45 percent. We repaid the note payable on1742February 1, 1999 when we sold the facility.174317441745ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA17461747The information required by this item is set forth in Appendices A, B and C.17481749ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND1750FINANCIAL DISCLOSURE17511752None17531754-29-1755<PAGE>17561757PART III17581759ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT17601761The information required by this item is contained under the captions "Election1762of Directors" and "Executive Officers" in the definitive proxy material of the1763Company to be filed in connection with its 1999 annual meeting of stockholders,1764which information is incorporated herein by reference.17651766ITEM 11. EXECUTIVE COMPENSATION17671768The information required by this item is contained under the captions1769"Compensation and Committees of the Board of Directors" and "Compensation of1770Executive Officers" in the definitive proxy material of the Company to be filed1771in connection with its 1999 annual meeting of stockholders, which information is1772incorporated herein by reference.17731774ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT17751776The information required by this item is contained under the caption "Security1777Ownership of Management and Principal Shareholders" in the definitive proxy1778material of the Company to be filed in connection with its 1999 annual meeting1779of stockholders, which information is incorporated herein by reference.17801781ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS17821783The information required by this item is contained under the caption "Certain1784Relationships and Related Transactions" in the definitive proxy material of the1785Company to be filed in connection with its 1999 annual meeting of stockholders,1786which information is incorporated herein by reference.178717881789PART IV17901791ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K17921793(a) Documents filed as part of this report.179417951. Financial Statements:1796See Index to Financial Statements on the second page of1797Appendix A.179817992. Financial Statement Schedules:* Schedule II - Valuation and1800Qualifying Accounts.1801See Appendix B.18021803* Those schedules not listed above are omitted as not applicable or not1804required.180518063. Exhibits: See (c) below.18071808-30-1809<PAGE>18101811(b) Reports on Form 8-K.1812None.18131814<TABLE>1815<CAPTION>1816(c) Exhibits:1817<S> <C>18182.1 Asset Purchase Agreement, dated December 29, 1997, by and among1819Quest Medical, Inc., QMI Medical, Inc. (formerly known as QMI1820Acquisition Corp.) and Atrion Corporation (including exhibits and1821schedules 2.1.1, 2.1.2, 2.3(a) and 2.3(b))(8)18223.1 Articles of Incorporation, as amended(5)18233.2 Articles of Amendment to the Articles of Incorporation dated June182412, 1998 changing the name of the Corporation from Quest Medical,1825Inc. to Advanced Neuromodulation Systems, Inc.(11)18263.3 Bylaws(1)18274.1 Rights Agreement dated as of August 30, 1996, between Quest1828Medical, Inc. and KeyCorp Shareholder Services, Inc. as Rights1829Agent(6)183010.1 Quest Medical, Inc. 1979 Amended and Restated Employees Stock1831Option Plan(2)183210.2 Form of 1979 Employees Stock Option Agreement(3)183310.3 Quest Medical, Inc. Directors Stock Option Plan (as amended)(2)183410.4 Form of Directors Stock Option Agreement(1)183510.5 Quest Medical, Inc. 1987 Stock Option Plan(5)183610.6 Form of 1987 Employee Stock Option Agreement(5)183710.7 Quest Medical, Inc. 1995 Stock Option Plan(5)183810.8 Form of 1995 Employee Stock Option Agreement(5)183910.9 Quest Medical, Inc. 1998 Stock Option Plan(12)184010.10 Employment Agreement dated April 9, 1998 between Christopher G.1841Chavez and Quest Medical, Inc.(10)184210.11 Employment Agreement dated April 9, 1998 between Scott F. Drees1843and Quest Medical, Inc. (10)184410.12 Employment Agreement dated April 9, 1998 between F. Robert Merrill1845III and Quest Medical, Inc.(10)184610.13 Form of Employment Agreement and Covenant Not to Compete, between1847the Company and key employees(1)184810.14 Promissory Note dated December 28,1993, between Quest Medical,1849Inc. and MetLife Capital Financial Corporation(4)185010.15 Commercial Deed of Trust, Security Agreement and Assignment of1851Leases and Rents and Fixture Filing dated December185228,1993, between Quest Medical, Inc. and MetLife Capital Financial1853Corporation(4)185410.16 Term Promissory Note dated December 28,1993, between Quest1855Medical, Inc. and MetLife Capital Corporation(4) 10.17 Loan and1856Security Agreement dated December 28,1993, between Quest Medical,1857Inc. and MetLife Capital Corporation(4)185810.18 Supplemental Security Agreement Number One dated December 28,1993,1859between Quest Medical, Inc. and MetLife Capital Corporation(4)186010.19 Third Amended and Restated Credit Agreement dated as of March 3,18611997, between Quest Medical, Inc. and NationsBank of Texas,1862N.A.(7)186310.20 Promissory Note (Facility A. Note) in the original principal1864amount of $5,650,000 dated March 3, 1997(7)186510.21 Promissory Note (Facility B. Note) in the original principal1866amount of $350,000 dated March 3, 1997(7)186710.22 First Amended and Restated Security Agreement dated March 3, 1997,1868between Quest Medical, Inc. and NationsBank of Texas, N.A.(7)186910.23 First Amended and Restated Security Agreement dated March 3, 1997,1870between Advanced Neuromodulation Systems, Inc. and NationsBank of1871Texas, N.A.(7)1872</TABLE>18731874-31-1875<PAGE>1876<TABLE>1877<S> <C>187810.24 First Amended and Restated Intellectual Property Security1879Agreement and Assignment dated as of March 3, 1997, between Quest1880Medical, Inc. and NationsBank of Texas N.A.(7)188110.25 First Amended and Restated Intellectual Property Security1882Agreement and Assignment dated as of March 3, 1997, between1883Advanced Neuromodulation Systems, Inc. and NationsBank of Texas,1884N.A.(7)188510.26 First Amended and Restated License Agreement dated as of March 3,18861997, between Quest Medical, Inc. and NationsBank of Texas,1887N.A.(7)188810.27 First Amended and Restated License Agreement dated as of March 3,18891997, between Advanced Neuromodulation Systems, Inc. and1890NationsBank of Texas, N.A.(7)189110.28 Guaranty of Advanced Neuromodulation Systems, Inc. in favor of1892NationsBank of Texas, N.A. under the Third Amended and Restated1893Credit Agreement dated as of March 3, 1997(7)189410.29 Form of License Agreement, dated January 30, 1998, by and between1895Quest Medical, Inc. and QMI Medical, Inc. (formerly known as QMI1896Acquisition Corp.)(8)189710.30 Form of Lease Agreement, dated January 30, 1998, by and between1898Quest Medical, Inc. and QMI Medical, Inc. (formerly known as QMI1899Acquisition Corp.)(8)190010.31 Form of Option Agreement, dated January 30, 1998, by and between1901Quest Medical, Inc. and QMI Medical, Inc. (formerly known as QMI1902Acquisition Corp.)(8)190310.32 Agreement, dated December 31, 1997, by and among Quest Medical,1904Inc., its subsidiaries and affiliates and Thomas C. Thompson.(9)190510.33 Lease Agreement dated as of February 4, 1999, between Advanced1906Neuromodulation Systems, Inc. and Legacy Lincoln I, LTD. (13)190711.1 Computation of Earnings Per Share(13)190821.1 Subsidiaries(13)190923.1 Consent of Independent Auditors(13)191027.1 Financial Data Schedule - December 31, 1998(13)19111912</TABLE>1913<TABLE>1914<CAPTION>1915- -------------------------------------1916<S> <C>1917(1) Filed as an Exhibit to the Company's Registration Statement on Form S-18,1918Registration No. 2-71198-FW, and incorporated herein by reference.1919(2) Filed as an Exhibit to the report of the Company on Form 10-K for the year1920ended December 31, 1987, and incorporated herein by reference.1921(3) Filed as an Exhibit to the Company's Registration Statement on Form S-1,1922Registration No. 2-78186, and incorporated herein by reference.1923(4) Filed as an Exhibit to the report of the Company on Form 10-KSB for the1924year ended December 31, 1993, and incorporated herein by reference.1925(5) Filed as an Exhibit to the Company's Registration Statement on Form SB-2,1926Registration No. 33-62991, and incorporated herein by reference.1927(6) Filed as an Exhibit to the report of the Company on Form 8-K dated1928September 3, 1996, and incorporated herein by reference.1929(7) Filed as an Exhibit to the report of the Company on Form 10-K dated for the1930year ended December 31, 1996, and incorporated herein by reference.1931(8) Filed as an Exhibit to the report of the Company on Form 8-K dated1932February 13, 1998, and incorporated herein by reference. Upon request, the1933Company will furnish a copy of any omitted schedule to the Commission.1934(9) Filed as an Exhibit to the report of the Company on Form 10-K dated for the1935year ended December 31, 1997, and incorporated herein by reference.1936(10) Filed as an Exhibit to the report of the Company on Form 10-Q dated for the1937quarterly period ended March 31, 1998, and incorporated herein by1938reference.1939(11) Filed as an Exhibit to the report of the Company on Form 10-Q dated for the1940quarterly period ended June 30, 1998, and incorporated herein by reference.1941(12) Filed as an Exhibit to the Definitive Proxy Statement on Schedule 14A dated1942April 27, 1998, and incorporated herein by reference.1943(13) Filed herewith.1944</TABLE>19451946-32-1947<PAGE>19481949Signatures1950----------19511952Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange1953Act of 1934, the Company has duly caused this report to be signed on its behalf1954by the undersigned, thereunto duly authorized.19551956Date: March 30, 19991957ADVANCED NEUROMODULATION SYSTEMS, INC.19581959By: /s/Christopher G. Chavez1960------------------------1961Christopher G. Chavez1962President and Chief Executive Officer19631964Pursuant to the requirements of the Securities Exchange Act of 1934, this report1965has been signed by the following persons on behalf of the Company and in the1966capacities and on the dates indicated:1967<TABLE>1968<CAPTION>19691970Signature Title Date1971--------- ----- ----1972<S> <C> <C>1973/s/Christopher G. Chavez Chief Executive Officer, President March 30, 19991974- ---------------------------- and, Director of Advanced1975Christopher G. Chavez Neuromodulation Systems, Inc.1976(Principal Executive Officer)19771978/s/F. Robert Merrill III Executive Vice President-Finance, March 30, 19991979- ---------------------------- Treasurer and Secretary of1980F. Robert Merrill III Advanced Neuromodulation Systems,1981Inc. (Principal Financial and1982Accounting Officer)19831984/s/Hugh M. Morrison Chairman of the Board and March 30, 19991985- ---------------------------- Director of Advanced1986Hugh M. Morrison Neuromodulation Systems, Inc.19871988/s/Robert C. Eberhart Director of Advanced March 30, 19991989- ---------------------------- Neuromodulation Systems, Inc.1990Robert C. Eberhart19911992/s/Joseph E. Laptewicz, Jr. Director of Advanced March 30, 19991993- ---------------------------- Neuromodulation Systems, Inc.1994Joseph E. Laptewicz, Jr.19951996/s/Richard D. Nikolaev Director of Advanced March 30, 19991997- ---------------------------- Neuromodulation Systems, Inc.1998Richard D. Nikolaev19992000/s/Michael J. Torma Director of Advanced March 30, 19992001- ---------------------------- Neuromodulation Systems, Inc.2002Michael J. Torma2003</TABLE>20042005-33-20062007<PAGE>2008Appendix A2009----------201020112012201320142015Consolidated Financial Statements2016Independent Auditors' Report20172018Three Years Ended December 31, 1998201920202021Forming a Part of the Annual Report20222023Form 10-K20242025Item 8202620272028of202920302031ADVANCED NEUROMODULATION SYSTEMS, INC. and SUBSIDIARIES2032(Name of issuer)2033203420352036Filed with the20372038Securities and Exchange Commission20392040Washington, D.C. 20549204120422043under20442045The Securities and Exchange Act of 193420462047<PAGE>20482049Advanced Neuromodulation Systems, Inc. and Subsidiaries20502051Table of Contents2052to2053Consolidated Financial Statements20542055Form 10-K - Item 82056205720582059206020612062206320642065Independent Auditors' Report2066206720682069Consolidated Financial Statements:20702071Consolidated Balance Sheets - December 31, 1998 and 19972072Consolidated Statements of Operations - Years ended December 31, 1998, 1997,2073and 19962074Consolidated Statements of Stockholders' Equity - Years ended December 31, 1998,20751997, and 19962076Consolidated Statements of Cash Flows - Years ended December 31, 1998, 1997,2077and 19962078Notes to Consolidated Financial Statements20792080208120822083<PAGE>208420852086208720882089Report of Independent Auditors20902091The Board of Directors2092Advanced Neuromodulation Systems, Inc.20932094We have audited the accompanying consolidated balance sheets of Advanced2095Neuromodulation Systems, Inc. and subsidiaries (the Company) as of December 31,20961998 and 1997, and the related consolidated statements of operations,2097stockholders' equity and cash flows for each of the three years in the period2098ended December 31, 1998. Our audit also included the financial statement2099schedule listed in the Index at Item 14A. These consolidated financial2100statements and schedule are the responsibility of the Company's management. Our2101responsibility is to express an opinion on these financial statements and2102schedule based on our audits.21032104We conducted our audits in accordance with generally accepted auditing2105standards. Those standards require that we plan and perform the audit to obtain2106reasonable assurance about whether the financial statements are free of material2107misstatement. An audit includes examining, on a test basis, evidence supporting2108the amounts and disclosures in the financial statements. An audit also includes2109assessing the accounting principles used and significant estimates made by2110management, as well as evaluating the overall financial statement presentation.2111We believe that our audits provide a reasonable basis for our opinion.21122113In our opinion, the financial statements referred to above present fairly, in2114all material respects, the consolidated financial position of Advanced2115Neuromodulation Systems, Inc. and subsidiaries at December 31, 1998 and 1997,2116and the consolidated results of their operations and their cash flows for each2117of the three years in the period ended December 31, 1998, in conformity with2118generally accepted accounting principles. Also, in our opinion, the related2119financial statement schedule, when considered in relation to the basic financial2120statements taken as a whole, presents fairly in all material respects the2121information set forth therein.2122212321242125/s/ERNST & YOUNG LLP2126--------------------2127ERNST & YOUNG LLP212821292130Dallas, Texas2131February 26, 199921322133<PAGE>21342135Advanced Neuromodulation Systems, Inc. and Subsidiaries2136Consolidated Balance Sheets2137December 31, 1998 and 199721382139<TABLE>2140<CAPTION>21412142Assets 1998 19972143- ------ ----------- -----------2144<S> <C> <C>2145Current assets:2146Cash and cash equivalents ................................. $11,697,209 $ 747,8282147Marketable securities ..................................... 566,072 1,455,86421482149Receivables:2150Trade accounts, less allowance for doubtful2151accounts of $249,607 in 1998 and $212,375 in 1997 .... 3,135,615 2,398,3272152Interest and other .................................... 124,511 209,5952153----------- -----------2154Total receivables .................................... 3,260,126 2,607,9222155----------- -----------21562157Inventories:2158Raw materials ......................................... 1,010,865 1,056,7182159Work-in-process ....................................... 415,442 323,9292160Finished goods ........................................ 1,216,955 1,597,8402161----------- -----------2162Total inventories .................................... 2,643,262 2,978,4872163----------- -----------21642165Deferred income taxes ..................................... 887,609 2,288,1922166Net assets of building and land sold in 1999 and net assets2167of discontinued operations sold in 1998 ............... 6,310,985 12,831,31821682169Prepaid expenses and other current assets ................. 852,025 476,7162170----------- -----------2171Total current assets ................................. 26,217,288 23,386,3272172----------- -----------21732174Property, plant and equipment:2175Land ...................................................... -- 1,927,9002176Building and improvements ................................. -- 5,254,9452177Furniture and fixtures .................................... 882,968 624,7532178Machinery and equipment ................................... 2,066,514 920,8792179----------- -----------21802,949,482 8,728,47721812182Less accumulated depreciation and amortization ............ 1,060,890 1,317,3622183----------- -----------2184Net property, plant and equipment .................... 1,888,592 7,411,1152185----------- -----------21862187Cost in excess of net assets acquired, net of accumulated2188amortization of $1,734,617 in 1998 and $1,178,0142189in 1997 ................................................... 9,077,047 9,633,6502190Patents, net of accumulated amortization2191of $302,281 in 1998 and $148,958 in 1997 .................. 3,054,283 2,851,0422192Purchased technology from acquisitions, net of accumulated2193amortization of $1,000,000 in 1998 and2194$733,334 in 1997 .......................................... 3,000,000 3,266,6662195Tradenames, net of accumulated amortization of2196$468,750 in 1998 and $343,750 in 1997 ..................... 2,031,250 2,156,2502197Other assets, net of accumulated amortization of2198$68,993 in 1998 and $0 in 1997 ............................ 216,908 277,2702199----------- -----------2200$45,485,368 $48,982,3202201=========== ===========2202</TABLE>22032204See accompanying notes to consolidated financial statements.22052206<PAGE>22072208Advanced Neuromodulation Systems, Inc. and Subsidiaries2209Consolidated Balance Sheets2210December 31, 1998 and 199722112212<TABLE>2213<CAPTION>22142215Liabilities and Stockholders' Equity 1998 19972216- ------------------------------------ ----------- -----------2217<S> <C> <C>2218Current liabilities:2219Accounts payable .......................................... $ 904,899 $ 240,2492220Short-term notes payable and current maturities of2221long-term notes payable ............................... 3,633,475 8,257,3482222Deferred revenue .......................................... 900,000 --2223Income taxes payable ...................................... 2,276,655 --2224Accrued salary and employee benefit costs ................. 562,618 381,7352225Other accrued expenses .................................... 1,513,499 379,4442226----------- -----------2227Total current liabilities ............................ 9,791,146 9,258,7762228----------- -----------22292230223122322233Notes payable ................................................. -- 3,635,027223422352236Deferred income taxes ......................................... 2,390,475 2,182,580223722382239Commitments and contingencies22402241Stockholders' equity:2242Common stock, $.05 par value2243Authorized 25,000,000 shares in 1998 and 1997;2244issued 8,708,367 shares in 1998 and22458,635,509 shares in 1997 ........................... 435,418 431,7752246Additional capital ........................................ 41,156,582 40,780,7172247Retained earnings (deficit) ............................... (308,859) (7,268,061)2248Accumulated other comprehensive income (loss), net of2249tax benefit of $67,363 in 1998 and $19,831 in 1997 .... (130,760) (38,494)2250Cost of common shares in treasury; 1,073,751 shares in 1998 (7,848,634) --2251----------- -----------22522253Total stockholders' equity ........................... 33,303,747 33,905,937225422552256----------- -----------2257$45,485,368 $48,982,3202258=========== ===========2259</TABLE>22602261See accompanying notes to consolidated financial statements.22622263<PAGE>22642265Advanced Neuromodulation Systems, Inc. and Subsidiaries2266Consolidated Statements of Operations2267Years Ended December 312268<TABLE>2269<CAPTION>22701998 1997 19962271------------ ------------ ------------2272<S> <C> <C> <C>2273Net revenue-product sales ............................... $ 17,006,407 $ 14,717,721 $ 11,403,1442274Net revenue-contract research and development ........... 3,100,000 -- --2275------------ ------------ ------------2276Total net revenue .............................. 20,106,407 14,717,721 11,403,1442277------------ ------------ ------------22782279Operating expenses:2280Cost of product sales ............................... 4,985,887 4,839,261 3,315,2552281General and administrative .......................... 2,633,250 1,760,061 2,083,7632282Research and development ............................ 2,801,175 976,900 1,315,9532283Amortization of intangibles ......................... 1,170,585 1,085,871 826,4182284Marketing ........................................... 4,682,423 3,969,320 3,346,4502285------------ ------------ ------------228616,273,320 12,631,413 10,887,8392287------------ ------------ ------------2288Earnings from operations ....................... 3,833,087 2,086,308 515,30522892290Other income (expense):2291Gain (loss) on sale of marketable securities ........ (4,381) (25,659) 136,9752292Interest expense .................................... (331,468) (625,321) (418,246)2293Investment and other income, net .................... 834,772 115,197 200,3222294------------ ------------ ------------2295498,923 (535,783) (80,949)2296------------ ------------ ------------2297Earnings from continuing operations2298before income taxes ........................ 4,332,010 1,550,525 434,35622992300Income taxes ............................................ 1,746,304 733,014 319,8422301------------ ------------ ------------2302Net earnings from continuing operations ........ 2,585,706 817,511 114,5142303------------ ------------ ------------23042305Loss from discontinued operations, net of income2306tax benefits of $129,711 in 1998, $15,909 in23071997 and $236,967 in 1996 ........................... (211,634) (93,490) (526,671)23082309Gain on sale of assets of discontinued operations, net of2310income tax expense of $2,473,293 .................... 4,585,130 -- --2311------------ ------------ ------------2312Net earnings (loss) from discontinued operations 4,373,496 (93,490) (526,671)2313------------ ------------ ------------2314Net earnings (loss) ............................ $ 6,959,202 $ 724,021 $ (412,157)2315============ ============ ============23162317Basic earnings (loss) per share:2318Continuing operations ............................... $ .31 $ .10 $ .012319============ ============ ============2320Discontinued operations ............................. $ .53 $ (.01) $ (.06)2321============ ============ ============2322Net earnings (loss) ................................. $ .84 $ .09 $ (.05)2323============ ============ ============23242325Diluted earnings (loss) per share:2326Continuing operations ............................... $ .30 $ .09 $ .012327============ ============ ============2328Discontinued operations ............................. $ .51 $ (.01) $ (.06)2329============ ============ ============2330Net earnings (loss) ................................. $ .81 $ .08 $ (.05)2331============ ============ ============2332</TABLE>23332334See accompanying notes to consolidated financial statements.23352336<PAGE>23372338Advanced Neuromodulation Systems, Inc. and Subsidiaries2339Consolidated Statements of Cash Flows2340Years Ended December 312341<TABLE>2342<CAPTION>23431998 1997 19962344------------ ------------ ------------2345<S> <C> <C> <C>2346Cash flows from operating activities:2347Net earnings from continuing operations ............................ $ 2,585,706 $ 817,511 $ 114,5142348Adjustments to reconcile earnings from continuing operations2349to net cash provided by operating activities:2350Depreciation .................................................. 615,388 438,056 312,2452351Amortization .................................................. 1,170,585 1,085,871 826,4172352Deferred income taxes ......................................... 103,267 717,104 97,4782353Non-operating loss (gains) included in net earnings ........... 4,381 25,655 (139,030)2354Increase in inventory reserve ................................. 52,818 534,619 --2355Changes in assets and liabilities2356Receivables ................................................ (748,442) (130,283) 658,9802357Inventories ................................................ 200,834 (500,835) (1,385,149)2358Prepaid expenses and other assets .......................... (383,940) (302,558) 239,7552359Income taxes payable ....................................... 1,605,319 -- --2360Accounts payable ........................................... 649,802 (513,704) 57,8492361Accrued expenses ........................................... 177,904 (62,529) (615,315)2362Deferred revenue ........................................... 900,000 -- --2363------------ ------------ ------------2364Net cash provided by continuing operations ............... 6,933,622 2,108,907 167,7442365Net cash provided by (used in) discontinued operations ... 59,049 391,096 (145,431)2366------------ ------------ ------------2367Net cash provided by operating activities ................ 6,992,671 2,500,003 22,3132368------------ ------------ ------------23692370Cash flows from investing activities:2371Net proceeds from marketable securities transactions ............... 745,620 24,542 1,480,9242372Additions to property, plant , equipment and patents - continuing2373operations ...................................................... (1,678,842) (545,193) (391,832)2374Additions to property, plant and equipment - discontinued operations (12,060) (745,729) (1,580,468)2375Net proceeds from sale of assets of discontinued operations ........ 21,754,181 -- --2376Payments related to 1995 acquisition ............................... -- (4,472,197) (468,767)2377Other .............................................................. -- (594) 3,6372378------------ ------------ ------------2379Net cash provided by (used in) investing activities ...... 20,808,899 (5,739,171) (956,506)2380------------ ------------ ------------23812382Cash flows from financing activities:2383Net increase (decrease) in short-term obligations .................. (8,081,763) 3,531,763 --2384Payment of long-term notes ......................................... (177,137) (1,163,349) (150,647)2385Exercise of stock options .......................................... 817,766 922,386 558,5522386Redemption of rights plan .......................................... -- -- (103,146)2387Purchase of treasury stock ......................................... (9,411,055) -- --2388------------ ------------ ------------2389Net cash provided by (used in) financing activities ...... (16,852,189) 3,290,800 304,7592390------------ ------------ ------------23912392Net increase (decrease) in cash and cash equivalents ................. 10,949,381 51,632 (629,434)2393Cash and cash equivalents at beginning of year ....................... 747,828 696,196 1,325,6302394------------ ------------ ------------2395Cash and cash equivalents at end of year ............................. $ 11,697,209 $ 747,828 $ 696,1962396============ ============ ============23972398Supplemental cash flow information is presented below:23992400Income taxes paid .................................................. $ 37,715 $ -- $ --2401============ ============ ============24022403Interest paid ...................................................... $ 370,304 $ 994,294 $ 668,0492404============ ============ ============2405</TABLE>24062407See accompanying notes to consolidated financial statements.24082409<PAGE>24102411Advanced Neuromodulation Systems, Inc. and Subsidiaries2412Consolidated Statements of Stockholders' Equity2413Three Years Ended December 31, 19982414<TABLE>2415<CAPTION>2416Retained Other Total2417Common Stock Additional Earnings Comprehensive Treasury Stockholders'2418Shares Amount Capital (Deficit) Income (Loss) Stock Equity2419------------- ------------- ------------- ------------- ------------- ------------- -------------2420<S> <C> <C> <C> <C> <C> <C> <C>2421Balance at2422December 31, 1995 8,147,349 $ 407,367 $ 38,253,670 $ (7,579,925) $ (211,062) $ -- $ 30,870,0502423Net loss -- -- -- (412,157) -- -- (412,157)2424Adjustment to unrealized2425losses on marketable2426securities -- -- -- -- 80,184 -- 80,1842427-------------2428Comprehensive Income (331,973)2429-------------2430Shares issued upon2431exercise of stock2432options 159,178 7,959 479,207 -- -- -- 487,1662433Issuance of 31,983 new2434common shares for2435employee bonuses and2436cancellation of a2437stock option 31,983 1,600 69,786 -- -- -- 71,3862438Redemption of rights2439plan dividend -- -- (103,146) -- -- -- (103,146)2440------------- ------------- ------------- ------------- ------------- ------------- -------------2441Balance at2442December 31, 1996 8,338,510 416,926 38,699,517 (7,992,082) (130,878) -- 30,993,4832443Net earnings -- -- -- 724,021 -- -- 724,0212444Adjustment to2445unrealized losses on2446marketable securities -- -- -- -- 92,384 -- 92,3842447-------------2448Comprehensive Income 816,4052449-------------2450Shares issued upon2451exercise of stock2452options 296,999 14,849 907,537 -- -- -- 922,3862453Tax benefit from2454employee stock option2455exercises -- -- 1,173,663 -- -- -- 1,173,6632456------------- ------------- ------------- ------------- ------------- ------------- -------------2457Balance at2458December 31, 1997 8,635,509 431,775 40,780,717 (7,268,061) (38,494) -- 33,905,9372459Net earnings -- -- -- 6,959,202 -- -- 6,959,2022460Adjustment to2461unrealized losses on2462marketable securities -- -- -- -- (92,266) -- (92,266)2463-------------2464Comprehensive Income 6,866,9362465-------------2466Shares issued upon2467exercise of stock2468options 72,858 3,643 160,554 -- -- -- 164,1972469Tax benefit from2470employee stock option2471exercises -- -- 119,509 -- -- -- 119,5092472Compensation expense2473resulting from2474changes to stock2475options -- -- 1,004,654 -- -- -- 1,004,6542476Issuance of 184,8742477shares from treasury2478for stock option2479exercises -- -- (908,852) -- -- 1,562,421 653,5692480Purchase of 1,258,6252481treasury shares,2482at cost -- -- -- -- -- (9,411,055) (9,411,055)2483------------- ------------- ------------- ------------- ------------- ------------- -------------2484Balance at2485December 31, 1998 8,708,367 $ 435,418 $ 41,156,582 $ (308,859) $ (130,760) $ (7,848,634) $ 33,303,7472486============= ============= ============= ============= ============= ============= =============2487</TABLE>24882489See accompanying notes to consolidated financial statements.24902491<PAGE>2492Advanced Neuromodulation Systems, Inc. and Subsidiaries2493Notes to Consolidated Financial Statements24942495(1) BUSINESS24962497CONTINUING OPERATIONS24982499Advanced Neuromodulation Systems, Inc. (the "Company" or "ANS"), formerly Quest2500Medical, Inc., designs, develops, manufactures and markets implantable2501neurostimulation systems. ANS devices are used primarily to manage chronic2502severe pain. ANS revenues are derived primarily from sales throughout the United2503States, Europe and Australia.25042505The neurostimulation systems business, described above, was acquired in March25061995. All other businesses of the Company were sold in January 1998 as described2507below under Discontinued Operations.25082509The research and development, manufacture, sale and distribution of medical2510devices is subject to extensive regulation by various public agencies,2511principally the Food and Drug Administration and corresponding state, local and2512foreign agencies. Product approvals and clearances can be delayed or withdrawn2513for failure to comply with regulatory requirements or the occurrence of2514unforeseen problems following initial marketing.25152516In addition, ANS products are purchased primarily by hospitals and other users2517who then bill various third-party payers including Medicare, Medicaid, private2518insurance companies and managed care organizations. These third-party payers2519reimburse fixed amounts for services based on a specific diagnosis. The impact2520of changes in third-party payer reimbursement policies and any amendments to2521existing reimbursement rules and regulations that restrict or terminate the2522eligibility of ANS products could have an adverse impact on the Company's2523financial condition and results of operations.25242525The Company changed its name from Quest Medical, Inc. to Advanced2526Neuromodulation Systems, Inc. during June 1998. The Company's NASDAQ stock2527symbol was changed from "QMED" to "ANSI" on July 1, 1998.25282529DISCONTINUED OPERATIONS25302531On January 30, 1998, the Company sold its cardiovascular and intravenous fluid2532product lines ("CVS Operations"), including its MPS(R) myocardial protection2533system product line, to Atrion Corporation (see Note 11 - "Sale of CVS2534Operations/Discontinued Operations"). The CVS Operations have been accounted for2535as discontinued operations in the Consolidated Statements of Operations for the2536years ended December 31, 1998, 1997 and 1996. Net assets at December 31, 1997 of2537the CVS Operations have been presented on the Consolidated Balance Sheet as net2538assets of discontinued operations sold in 1998. During October 1998, Atrion also2539exercised an option to acquire the Company's land, office and manufacturing2540facility for $6.5 million. The transaction was closed on February 1, 1999. Net2541assets of the land and facility have been presented on the Consolidated Balance2542Sheet at December 31, 1998 as net assets of building and land sold in 1999.25432544-1-2545<PAGE>2546Advanced Neuromodulation Systems, Inc. and Subsidiaries2547Notes to Consolidated Financial Statements25482549(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES25502551PRINCIPLES OF CONSOLIDATION25522553The consolidated financial statements include the accounts of Advanced2554Neuromodulation Systems, Inc. and all of its subsidiaries. All significant2555intercompany transactions and accounts have been eliminated in consolidation.25562557USE OF ESTIMATES25582559The preparation of financial statements in conformity with generally accepted2560accounting principles requires management to make estimates and assumptions that2561affect the amounts reported in the financial statements and accompanying notes.2562Actual results could differ from those estimates.25632564CASH EQUIVALENTS25652566The Company considers temporary cash investments with maturities of three months2567or less from the date of purchase to be cash equivalents.25682569REVENUE RECOGNITION25702571The Company recognizes revenue from product sales when the goods are shipped to2572its customers. The Company recognizes revenue from research and development2573contracts based upon the estimated percentage of completion of the development2574project.25752576MARKETABLE SECURITIES25772578The Company's marketable securities and debt securities are classified as2579available-for-sale and are carried at fair value with the unrealized gains and2580losses reported in a separate component of stockholders' equity entitled "Other2581comprehensive income". The amortized cost of debt securities in this category is2582adjusted for amortization of premiums and accretion of discounts to maturity.2583Such amortization is included in investment income. Realized gains and losses2584and declines in value judged to be other than temporary are included in other2585income. The cost of securities sold is based on the specific identification2586method. Interest and dividends are included in investment income.25872588INVENTORIES25892590Inventories are recorded at the lower of standard cost or market. Standard cost2591approximates actual cost determined on the first-in, first-out ("FIFO") basis.25922593PROPERTY, PLANT AND EQUIPMENT25942595Property, plant and equipment are stated at cost. Additions and improvements2596extending asset lives are capitalized while maintenance and repairs are expensed2597as incurred. Depreciation is provided using the straight-line method over the2598estimated useful lives of the various assets ranging from 3 to 30 years.25992600-2-2601<PAGE>2602Advanced Neuromodulation Systems, Inc. and Subsidiaries2603Notes to Consolidated Financial Statements26042605INTANGIBLE ASSETS26062607The excess of cost over the net assets of acquired businesses ("goodwill") is2608amortized on a straight-line basis over the estimated useful life of 20 years.26092610The cost of purchased technology related to acquisitions is based on appraised2611values at the date of acquisition and is amortized on a straight-line basis over2612the estimated useful life (15 years) of such technology.26132614The cost of purchased tradenames is based on appraised values at the date of2615acquisition and is amortized on a straight-line basis over the estimated useful2616life (20 years) of such tradenames.26172618The cost of purchased patents is amortized on a straight-line basis over the2619estimated useful life (17 years) of such patents. The cost of licensed patents2620is amortized on a straight-line basis over the estimated useful life (20 years)2621of such patents. Costs of patents that are the result of internal development2622are charged to current operations.26232624The Company assesses the recoverability of all its intangible assets primarily2625based on its current and anticipated future undiscounted cash flows. At December262631, 1998, the Company does not believe there has been any impairment of its2627intangible assets.26282629RESEARCH AND DEVELOPMENT26302631Product development costs including start-up and research and development are2632charged to operations in the year in which such costs are incurred.26332634ADVERTISING26352636Advertising expense is charged to operations in the year in which such costs are2637incurred. Total advertising expense included in marketing expense from2638continuing operations was $21,843, $14,746 and $5,615 at December 31, 1998, 19972639and 1996, respectively.26402641DEFERRED TAXES26422643Deferred income taxes are recorded based on the liability method and represent2644the tax effect of the differences between the financial and tax basis of assets2645and liabilities other than costs in excess of the net assets of businesses2646acquired.26472648STOCK-BASED COMPENSATION26492650The Company has elected to follow APB No. 25, "Accounting for Stock Issued to2651Employees" in the primary financial statements and to provide supplementary2652disclosures required by FASB Statement No. 123, "Accounting for Stock-Based2653Compensation" (see Note 7 - "Stockholders' Equity").26542655-3-2656<PAGE>2657Advanced Neuromodulation Systems, Inc. and Subsidiaries2658Notes to Consolidated Financial Statements26592660EARNINGS PER SHARE26612662Basic earnings per share is computed based only on the weighted average number2663of common shares outstanding during the period, and the dilutive effect of stock2664options and warrants is excluded. Diluted earnings per share is computed using2665the additional dilutive effect, if any, of stock options and warrants using the2666treasury stock method based on the average market price of the stock during the2667period. Basic earnings (loss) per share for 1998, 1997 and 1996 are based upon26688,314,290, 8,428,393 and 8,259,129 shares, respectively. Diluted earnings (loss)2669per share for 1998, 1997 and 1996 are based upon 8,544,040, 8,858,086 and26708,809,583 shares, respectively. The following table presents the reconciliation2671of basic and diluted shares:26722673<TABLE>2674<CAPTION>26751998 1997 19962676--------- --------- ---------2677<S> <C> <C> <C>2678Weighted-average shares outstanding2679(basic shares) .......................... 8,314,290 8,428,393 8,259,1292680Effect of dilutive instruments(1)2681Stock options .................. 214,806 412,996 550,4542682Warrants ....................... 14,944 16,697 --2683--------- --------- ---------2684Dilutive potential common shares 229,750 429,693 550,4542685--------- --------- ---------2686Diluted shares .......................... 8,544,040 8,858,086 8,809,5832687========= ========= =========2688</TABLE>26892690(1) See Notes 5 and 7 for a description of these instruments.26912692For 1998, 1997 and 1996, the incremental shares used for dilutive earnings2693(loss) per share relate to stock options and warrants whose exercise price was2694less than the average market price in the underlying quarterly computations.2695Options to purchase 215,981 shares at an average price of $9.02 per share were2696outstanding in 1998, 148,313 shares at an average price of $10.80 per share were2697outstanding in 1997, and options to purchase 128,812 shares at an average price2698of $9.82 per share were outstanding in 1996 but were not included in the2699computation of diluted earnings (loss) per share because the options' exercise2700prices were greater than the average market price of the common shares and,2701therefore, the effect would be antidilutive.27022703RECLASSIFICATION27042705Certain prior period amounts have been reclassified to conform to current-year2706presentation.27072708(3) COMPREHENSIVE INCOME27092710Statement of Financial Accounting Standards No. 130 - "Reporting Comprehensive2711Income" - was adopted by the Company as of January 1, 1998. The new rules2712require the reporting and display of comprehensive income and its components;2713however, the adoption of this statement had no impact on the Company's net2714earnings or stockholders' equity. SFAS No. 130 requires unrealized gains or2715losses on the Company's available for sale securities, which prior to adoption2716were reported separately in shareholders' equity, to be included in "Other2717comprehensive income". Prior period financial statements have been reclassified2718to conform to the requirements of SFAS No. 130. Total comprehensive income is2719reported in the Consolidated Statements of Stockholders' Equity.27202721-4-2722<PAGE>2723Advanced Neuromodulation Systems, Inc. and Subsidiaries2724Notes to Consolidated Financial Statements27252726(4) MARKETABLE SECURITIES27272728The following is a summary of available-for-sale securities at December 31,27291998:27302731<TABLE>2732<CAPTION>2733Gross Gross2734Unrealized Unrealized Estimated2735Cost Gains Losses Fair Value2736---------- ---------- ---------- ----------2737<S> <C> <C> <C> <C>2738Investment grade preferred securities $ 557,596 $ -- $ 127,763 $ 429,8332739Publicly traded limited partnerships 51,875 -- 28,440 23,4352740Real estate investment trusts 141,590 -- 29,232 112,3582741Other 13,134 -- 12,688 4462742---------- ---------- ---------- ----------2743$ 764,195 $ -- $ 198,123 $ 566,0722744========== ========== ========== ==========2745</TABLE>27462747At December 31, 1998, no individual security represented more than 40 percent of2748the total portfolio or 1 percent of total assets. The Company did not have any2749investments in derivative financial instruments at December 31, 1998.27502751The following is a summary of available-for-sale securities at December 31,27521997:27532754<TABLE>2755<CAPTION>2756Gross Gross2757Unrealized Unrealized Estimated2758Cost Gains Losses Fair Value2759---------- ---------- ---------- ----------2760<S> <C> <C> <C> <C>2761Investment grade preferred securities $ 557,596 $ 1,870 $ 4,802 $ 554,6642762Publicly traded limited partnerships 51,875 -- 10,315 41,5602763Real estate investment trusts 241,590 312 12,465 229,4372764Other 663,128 -- 32,925 630 2032765---------- ---------- ---------- ----------2766$1,514,189 $ 2,182 $ 60,507 $1,455,8642767========== ========== ========== ==========2768</TABLE>27692770At December 31, 1997, no individual security represented more than 25 percent of2771the total portfolio or 1 percent of total assets. The Company did not have any2772investments in derivative financial instruments at December 31, 1997.27732774-5-2775<PAGE>2776Advanced Neuromodulation Systems, Inc. and Subsidiaries2777Notes to Consolidated Financial Statements27782779(5) NOTES PAYABLE27802781Notes payable for the years ended December 31 consisted of the following:27822783<TABLE>2784<CAPTION>278527861998 19972787----------- -----------2788<S> <C> <C>2789Notes payable to banks ........... $ -- $ 5,000,0002790Note payable to shareholder ...... -- 2,000,0002791Acquisition notes ................ -- 1,000,0002792Mortgage notes ................... 3,633,475 3,810,6122793Other ............................ -- 81,7632794----------- -----------27953,633,475 11,892,37527962797Less current maturities .......... 3,633,475 8,257,3482798----------- -----------2799Long-term portion of notes payable $ -- $ 3,635,0272800=========== ===========2801</TABLE>28022803In 1993, the Company entered into two mortgage notes relating to its principal2804office and manufacturing facility. The first note, in the amount of $2,825,3322805at December 31, 1998, bears interest at 8.59 percent and has a twenty-five year2806amortization. The loan is collateralized by the Allen facility and land. On2807February 1, 1999, the Company repaid the note in connection with the sale of the2808land and facility to Atrion Corporation (see Note 11 - "Sale of CVS2809Operations/Discontinued Operations"). The second note, in the amount of $808,1432810at December 31, 1998, is related to equipment and furnishings and bears interest2811at 7.94 percent. The note is collateralized by the equipment and furnishings. On2812February 1, 1999, the Company repaid the note in connection with the sale of the2813facility to Atrion Corporation. Both notes have been reclassified to short-term2814notes payable at December 31, 1998.28152816At December 31, 1997, the Company's notes payable to banks were under a2817$5,650,000 working capital line of credit and a $350,000 term loan facility (the2818"Facilities"). Borrowings under the Facilities bore interest at prime plus 1002819basis points, or at the Company's option, LIBOR plus 225 or 275 basis points.2820The Facilities were collateralized by all of the Company's assets with the2821exception of the real property, building and equipment that collateralize the2822mortgage notes described above. At December 31, 1997, the Company had advances2823in the amount of $4,650,000 outstanding under the working capital line with a2824weighted average interest rate of 7.50 percent and advances in the amount of2825$350,000 under the term loan facility with a weighted average interest rate of28268.25 percent. On January 30, 1998, the Company repaid all notes payable under2827the Facilities with proceeds from the sale of the assets of its CVS Operations2828(see Note 11 - "Sale of CVS Operations/Discontinued Operations") and the2829Facilities expired.28302831In February 1997, the Company borrowed $2,000,000 from a nonaffiliate2832shareholder pursuant to a promissory note that bore interest at the rate of 62833percent per annum. The Company issued the shareholder a five-year warrant to2834purchase 100,000 shares of common stock at an exercise price of $6.50 per share,2835the closing sales price on the date the indebtedness was incurred. Under the2836warrant agreement, the shareholder has the right to one demand registration in2837addition to piggyback registration rights. During November 1997, upon demand of2838the shareholder, the Company filed a registration statement on Form S-3. At2839February 26, 1999, the warrant remained unexercised. The Company repaid the note2840on January 30, 1998 with proceeds from the sale of the assets of its CVS2841Operations (see Note 11 - "Sale of CVS Operations/Discontinued Operations").28422843-6-2844<PAGE>2845Advanced Neuromodulation Systems, Inc. and Subsidiaries2846Notes to Consolidated Financial Statements28472848In February 1997, the Company issued the former owner of the neurostimulation2849business a promissory note in the amount of $1.0 million that bore interest at2850the rate of 10 percent per annum. The Company repaid the note on January 30,28511998, with proceeds from the sale of the assets of its CVS Operations (see Note285211 - "Sale of CVS Operations/Discontinued Operations").28532854(6) FEDERAL INCOME TAXES28552856The significant components of the net deferred tax liability at December 31,2857were as follows:28582859<TABLE>2860<CAPTION>2861Deferred tax assets: 1998 19972862----------- -----------2863<S> <C> <C>2864Tax credit and net operating loss carry forwards $ -- $ 2,488,5732865Deferred revenue ............................... 306,000 --2866Accrued expenses and reserves .................. 572,030 278,3872867Unrealized loss on marketable securities ....... 67,362 19,8312868Valuation allowance ............................ -- --2869----------- -----------2870Total deferred tax asset ....................... 945,392 2,786,79128712872Deferred tax liabilities:28732874Purchased intangible assets .................... (1,710,625) (1,843,792)2875Excess of tax over book depreciation ........... (602,383) (566,296)2876Other .......................................... (135,250) (271,091)2877----------- -----------2878Total deferred tax liability ................... (2,448,258) (2,681,179)2879----------- -----------28802881Net deferred tax asset (liability) ............. $(1,502,866) $ 105,6122882=========== ===========2883</TABLE>28842885The provision for income taxes on earnings from continuing operations for the2886years ended December 31 consists of the following:28872888<TABLE>2889<CAPTION>28901998 1997 19962891----------- ----------- -----------2892<S> <C> <C> <C>2893Current $ 2,005,713 $ -- $ --2894Deferred (259,409) 733,014 319,8422895----------- ----------- -----------2896$ 1,746,304 $ 733,014 $ 319,8422897=========== =========== ===========2898</TABLE>28992900A reconciliation of the provision for income taxes on earnings from continuing2901operations to the expense calculated at the U.S. statutory rate follows:29022903<TABLE>2904<CAPTION>29051998 1997 19962906----------- ----------- -----------2907<S> <C> <C> <C>2908Income tax expense at statutory rate .... $ 1,472,883 $ 527,179 $ 147,6812909Tax effect of:2910State taxes .......................... 117,900 -- --2911Nondeductible amortization of goodwill 189,245 185,200 147,9992912Other ................................ (33,724) 20,635 24,1622913----------- ----------- -----------2914Income tax expense ............. $ 1,746,304 $ 733,014 $ 319,8422915=========== =========== ===========2916</TABLE>29172918-7-2919<PAGE>2920Advanced Neuromodulation Systems, Inc. and Subsidiaries2921Notes to Consolidated Financial Statements29222923In 1998, the Company utilized net operating loss carry forwards of $4,277,5402924and general business credits and alternative minimum tax credits of $1,038,6692925to reduce its tax liabilities. At December 31, 1998, no net operating loss carry2926forwards or general business credits existed.29272928(7) STOCKHOLDERS' EQUITY29292930The Company has a Shareholder's Rights Plan, adopted in August 1996, which2931permits shareholders to purchase shares of the Company's common stock at2932significant discounts in the event a person or group acquires more than 152933percent of the Company's common stock or announces a tender or exchange offer2934for more than 20 percent of the Company's common stock. Previously outstanding2935rights were redeemed in August 1996 at $.01 per share.29362937During January 1998, the Company's Board of Directors approved a stock2938repurchase program of up to 500,000 shares of the Company's common stock and2939during August 1998 approved the repurchase of up to an additional 1,000,0002940shares. During the year ended December 31, 1998, the Company repurchased29411,258,625 shares of its common stock at an aggregate cost of $9,411,055. During2942the year ended December 31, 1998, the Company issued 184,874 shares from its2943treasury upon the exercise of stock options. At December 31, 1998, 1,073,7512944shares remained in the treasury.29452946As described in Note 5-"Notes Payable", in 1998 the Company issued a five-year2947warrant to purchase 100,000 shares of common stock at an exercise price of $6.502948per share. The warrant is outstanding at December 31, 1998.29492950The Company has various stock option plans pursuant to which stock options may2951be granted to key employees, officers, directors and advisory directors of the2952Company. The most recent of the plans, adopted during 1998 (the "1998 Plan")2953and approved by the shareholders during May 1998, reserved 800,000 shares of2954common stock for options under the plan; provided, however, that on January 1 of2955each year (commencing in 1999), the aggregate number of shares of common stock2956reserved for options under the 1998 Plan shall be increased by the same2957percentage that the total number of issued and outstanding shares of common2958stock increased from the preceding January 1 to the following December 31 (if2959such percentage is positive). No additional options were added to the 1998 Plan2960on January 1, 1999. Several of the plans allow for the grant of incentive stock2961options to key employees and officers intended to qualify for preferential tax2962treatment under Section 422 of the Internal Revenue Code of 1986. Under all of2963the Company's plans, the exercise price of options granted must equal or exceed2964the fair market value of the common stock at the time of the grant. Options2965granted to employees and officers expire ten years from the date of grant and2966for the most part are exercisable one-fourth each year over a four-year period2967of continuous service. Options granted to directors and advisory directors2968expire six years from the date of grant and for the most part are exercisable2969one-fourth each year over a four-year period of continuous service. Certain2970options, however, have a special two-year vesting schedule.29712972At December 31, 1998, under all of the Company's stock option plans, 1,068,2152973shares have been granted and are outstanding, 1,646,446 shares of common stock2974have been issued upon exercise, and 409,101 shares were reserved for future2975grants.29762977-8-2978<PAGE>2979Advanced Neuromodulation Systems, Inc. and Subsidiaries2980Notes to Consolidated Financial Statements29812982Data with respect to stock option plans of the Company are as follows:29832984<TABLE>2985<CAPTION>2986----------------------------- -----------------------------2987Options Outstanding Exercisable Options2988----------------------------- -----------------------------2989Weighted Weighted2990Average Average2991Shares Exercise Price Shares Exercise Price2992------------ -------------- ------------ --------------2993<S> <C> <C> <C> <C>2994January 1, 1996 ..... 1,126,561 $ 4.33 622,226 $ 2.842995Granted ............. 323,000 $ 8.122996Exercised ........... (159,178) $ 3.062997Rescinded ........... (115,195) $ 8.362998------------ -------------- ------------ --------------29993000January 1, 1997 ..... 1,175,188 $ 5.16 663,459 $ 3.513001Granted ............. 66,500 $ 6.163002Exercised ........... (296,999) $ 3.353003Rescinded ........... (111,417) $ 6.363004------------ -------------- ------------ --------------30053006January 1, 1998 ..... 833,272 $ 5.68 568,285 $ 4.663007Granted ............. 1,352,800 $ 6.123008Exercised ........... (257,732) $ 3.493009Rescinded ........... (860,125) $ 8.103010------------ -------------- ------------ --------------3011December 31, 1998 ... 1,068,215 $ 4.82 465,340 $ 4.583012------------ -------------- ------------ --------------3013</TABLE>30143015<TABLE>3016<CAPTION>3017Exercisable Options at3018Options Outstanding at December 31, 1998 December 31, 19983019- -------------------------------------------------------- -----------------------3020Weighted3021Average Weighted Weighted3022Range of Remaining Average Average3023Exercise Price Shares Life (Years) Exercise Price Shares Exercise Price3024- -------------- --------- ------------ -------------- -------- --------------3025<S> <C> <C> <C> <C> <C>3026$ 1.45 - 2.25 24,814 1.05 $ 2.10 24,814 $ 2.103027$ 2.25 - 3.50 47,793 0.85 $ 3.18 47,793 $ 3.183028$ 3.50 - 5.25 963,983 8.80 $ 4.89 361,108 $ 4.703029$ 5.25 - 8.00 21,625 1.75 $ 6.00 21,625 $ 6.003030$ 8.00 - 12.25 10,000 0.08 $ 9.75 10,000 $ 9.753031--------- ----------- -------------- -------- --------------30321,068,215 8.04 $ 4.82 465,340 $ 4.583033--------- ----------- -------------- -------- --------------3034</TABLE>30353036Exercisable options at December 31, 1998 and 1997 included options for 134,9043037and 306,297 shares, respectively, with a weighted average exercise price of3038$4.53 per share at December 31, 1998 and $4.22 per share at December 31, 1997,3039which are held by employees who terminated employment with the Company on3040January 30, 1998 in connection with the sale of the CVS Operations (see Note 113041- - "Sale of CVS Operations/Discontinued Operations"). The Company accelerated the3042vesting of the unvested portion of these terminated employee options as a result3043of the sale. The Company also extended the normal 90-day exercise period3044subsequent to termination to January 30, 1999 for these options.30453046In November 1998, the Board of Directors authorized the repricing of options for3047certain employees, advisory directors and directors under various of the Plans.3048Stock options were rescinded for these participants and a new option was granted3049at the then fair market value of the common stock of $5.00 per share.30503051-9-3052<PAGE>3053Advanced Neuromodulation Systems, Inc. and Subsidiaries3054Notes to Consolidated Financial Statements30553056In accordance with APB No. 25, the Company has not recorded compensation expense3057for its stock option awards. As required by SFAS No. 123, the Company provides3058the following disclosure of hypothetical values for these awards. The3059weighted-average fair value of an option granted in 1998, 1997 and 1996 was3060$2.30, $2.37 and $3.09, respectively. For purposes of fair market value3061disclosures, the fair market value of an option grant was estimated using the3062Black-Scholes option pricing model with the following assumptions:30633064<TABLE>3065<CAPTION>30661998 1997 19963067------ ------ ------3068<S> <C> <C> <C>3069Risk-free interest rate ....... 4.6% 6.1% 6.0%3070Average life of options (years) 3.0 3.0 3.03071Volatility .................... 49.2% 48.0% 48.4%3072Dividend Yield ................ -- -- --3073</TABLE>30743075Had the compensation expense been recorded based on these hypothetical values,3076pro forma net earnings (loss) for 1998, 1997 and 1996 would have been3077$6,457,825, $519,731 and $(541,855), respectively, and pro forma diluted net3078earnings (loss) per common share for 1998, 1997 and 1996 would have been $.76,3079$.06 and $(.06), respectively. Because option grants prior to 1995 are not3080considered in the pro forma amounts, as permitted by SFAS No. 123, the pro forma3081effects on net earnings (loss) are not likely to be representative of the3082effects on reported amounts in future years.30833084(8) COMMITMENTS AND CONTINGENCIES30853086The Company has no material commitments under non-cancelable operating leases.3087Total rent expense under operating leases included in continuing operations for3088the years ended December 31, 1998, 1997 and 1996 was $8,782, $8,617 and $32,493,3089respectively.30903091The Company is a party to product liability claims related to ANS3092neurostimulation devices. Product liability insurers have assumed responsibility3093for defending the Company against these claims. While historically product3094liability claims for ANS neurostimulation devices have not resulted in3095significant monetary liability for the Company beyond its insurance coverage,3096there can be no assurances that the Company will not incur significant monetary3097liability to the claimants if such insurance is inadequate or that the Company's3098neurostimulation business and future ANS product lines will not be adversely3099affected by these product liability claims.31003101Except for such product liability claims and other ordinary routine litigation3102incidental or immaterial to its business, the Company is not currently a party3103to any other pending legal proceeding. The Company maintains general liability3104insurance against risks arising out of the normal course of business.31053106(9) FINANCIAL INSTRUMENTS, RISK CONCENTRATION, AND MAJOR CUSTOMERS31073108In the United States, the Company's accounts receivable are due primarily from3109hospitals and distributors located throughout the country. Internationally, the3110Company's accounts receivable are due primarily from distributors located in3111Europe and Australia. The Company generally does not require collateral for3112trade receivables. The Company maintains an allowance for doubtful accounts3113based upon expected collectibility. Any losses from bad debts have historically3114been within management's expectations.31153116-10-3117<PAGE>3118Advanced Neuromodulation Systems, Inc. and Subsidiaries3119Notes to Consolidated Financial Statements31203121Net sales of implantable neurostimulation systems to a major customer for each3122of the three years ended December 31, as a percentage of net revenue from3123product sales from continuing operations, were as follows: 1998 - 20 percent,31241997 - 25 percent and 1996 - 22 percent. Foreign sales, primarily Europe and3125Australia, for the years ended December 31, 1998, 1997 and 1996 were3126approximately 10 percent, 8 percent and 15 percent of net revenue from product3127sales from continuing operations, respectively.31283129(10) EMPLOYEE BENEFIT PLANS31303131The Company has a defined contribution retirement savings plan (the "Plan")3132available to substantially all employees. The Plan permits employees to elect3133salary deferral contributions of up to 15 percent of their compensation and3134requires the Company to make matching contributions equal to 50 percent of the3135participants' contributions to a maximum of 6 percent of the participants'3136compensation. The Board of Directors may change the percentage of matching3137contribution at their discretion. The expense of the Company's contribution for3138continuing operations was $119,543 in 1998, $72,635 in 1997 and $81,885 in 1996.31393140(11) SALE OF CVS OPERATIONS/DISCONTINUED OPERATIONS31413142On January 30, 1998, the Company sold its cardiovascular and intravenous fluid3143product lines, including its Myocardial Protection System product line, to3144Atrion Corporation. The Company received approximately $23 million from the sale3145and utilized $8.0 million of the proceeds to retire debt and $1.2 million to pay3146expenses related to the transaction. The remaining proceeds are being used for3147working capital for the expanding ANS business and stock repurchases as deemed3148appropriate by the Board of Directors. The Company reported a net gain (after3149income tax expense) from the sale of $4.6 million. This gain is net of a pre-tax3150expense of $969,204 recorded in connection with the sale of the corporate3151facility to Atrion. As part of the sale of the CVS Operations to Atrion, the3152Company granted Atrion a nine-month option to acquire the Company's principal3153office and manufacturing facility in Allen Texas for $6.5 million. During3154October 1998, Atrion exercised its option to acquire the facility. When the3155Company built the facility in 1993, the Company entered a ten-year agreement3156with the City of Allen granting tax abatements to the Company if a minimum job3157base and personal property base were maintained in the City of Allen. The3158agreement provided for abated taxes to be repaid to the City of Allen if the3159Company defaulted under the agreement. The Company believes it incurred such a3160liability due to the sale of the facility. If the Company, however, is3161successful in petitioning the City of Allen to approve the assignment of the3162agreement to Atrion and if Atrion meets the minimum requirements under the3163agreement until 2003, then there may be no payment required. The gain is also3164net of a pre-tax compensation expense of $1,004,654 recorded as a result of3165changes made to the options held by employees of the CVS Operations (see Note 73166- - "Stockholders' Equity"). The Company also reported a net loss for the CVS3167Operations of approximately $211,634 in January 1998 prior to the sale.31683169On February 1, 1999, the sale of the facility to Atrion was consummated. The3170Company repaid the mortgage debt on the facility at the closing of the3171transaction (see Note 5 - "Notes Payable"). After repayment of the mortgage debt3172and expenses related to the transaction, the Company received $2.7 million of3173net proceeds. No material gain or loss is expected on the sale of the facility3174except related to the tax abatement liability described above. The Company3175intends to move its operations to a 40,000 square foot leased facility in the3176North Dallas area during May 1999. Until such time, the Company is leasing space3177from Atrion at a monthly expense of $48,175 and is paying Atrion fifty percent3178of certain operating expenses. The Company expects the expense of moving and3179transitioning into the new leased facility to be immaterial.31803181-11-3182<PAGE>3183Advanced Neuromodulation Systems, Inc. and Subsidiaries3184Notes to Consolidated Financial Statements31853186Operating results of the CVS Operations have been reclassified and reported as3187discontinued operations. Summary operating results for the years ended December318831, 1998, 1997 and 1996 for the CVS Operations were as follows (the 1998 period3189includes results for one month until the sale on January 30, 1998):31903191<TABLE>3192<CAPTION>31931998 1997 19963194------------ ------------ ------------3195<S> <C> <C> <C>3196Revenue ....................... $ 1,111,992 $ 14,306,127 $ 14,670,6643197Gross profit .................. 206,481 6,500,654 6,980,6593198Earnings (loss) from operations (307,120) 333,200 (415,115)3199Interest expense .............. (34,225) (442,599) (348,523)3200------------ ------------ -------------3201Loss before income tax benefit (341,345) (109,399) (763,638)3202Income tax benefit ............ (129,711) (15,909) (236,967)3203------------ ------------ -------------3204Net loss ...................... $ (211,634) $ (93,490) $ (526,671)3205============ ============ =============3206</TABLE>32073208The above operating results of the CVS Operations reflect the revenues and3209expenses of the CVS Operations including direct and indirect expenses of the3210Operations that are paid by the Company and charged directly to the CVS3211Operations. Allocation of the general overhead from the Company includes charges3212for regulatory, general corporate management, accounting and payroll services,3213human resources, management information systems and facilities expenses based on3214revenues of the CVS Operations to total revenues of the Company. Management3215believes that the expenses charged to the CVS Operations on this basis are not3216materially different from the costs that would have been incurred had the CVS3217Operations borne such expenses on a direct basis.32183219Interest expense on the Company's corporate facility has been allocated to the3220CVS Operations based on space utilization. Interest expense on the Company's3221general credit facilities was allocated to the CVS Operations based on the ratio3222of the net assets of the CVS Operations to the total net assets of the Company.32233224Assets and liabilities of discontinued CVS Operations for the years ended3225December 31, 1998 and 1997 were as follows:32263227<TABLE>3228<CAPTION>32291998 19973230----------- -----------3231<S> <C> <C>3232Current assets:3233Accounts receivable ..................................... $ -- $ 2,481,2783234Inventories ............................................. -- 5,208,6763235Prepaid expenses ........................................ -- 131,7353236----------- -----------3237-- 7,821,6893238----------- -----------3239Noncurrent assets:3240Net property, plant and equipment ....................... 6,310,985 3,633,8553241Net intangible assets consisting of patents, purchased3242technology and costs in excess of net assets acquired -- 2,043,1073243Other assets ................................................. -- 8,6313244----------- -----------32456,310,985 5,685,5933246----------- -----------3247Total assets ................................................. 6,310,985 13,507,2823248----------- -----------3249Current liabilities:3250Accounts payable .................................... -- 410,4833251Accrued liabilities ................................. -- 265,4813252----------- -----------3253-- 675,9643254----------- -----------3255Net assets of CVS Operations ................................. $ 6,310,985 $12,831,3183256=========== ===========3257</TABLE>32583259-12-3260<PAGE>3261Advanced Neuromodulation Systems, Inc. and Subsidiaries3262Notes to Consolidated Financial Statements32633264(12) PRODUCT DEVELOPMENT AGREEMENT32653266In June 1998, the Company entered an agreement with Sofamor Danek Group, Inc.3267("Sofamor Danek") under which the Company will develop and manufacture for3268Sofamor Danek, products and systems for use in Deep Brain Stimulation ("DBS").3269DBS products provide electrical stimulation to certain areas of the brain and3270are intended to relieve the effects of various neurological disorders, such as3271Parkinson's Disease and Essential Tremor. Under terms of the agreement, the3272Company granted Sofamor Danek exclusive worldwide rights to use, market and sell3273the DBS products developed and manufactured by ANS. The Company received a cash3274payment of $4 million upon execution of the agreement that is being recognized3275into income as revenue based upon the estimated percentage of completion of the3276development project. During the year ended December 31, 1998, the Company3277recognized $3.1 million into income as revenue. The agreement also called for3278ANS to receive four additional payments of $2 million each, and would be3279recognized into income upon the satisfactory completion of certain domestic and3280international regulatory milestones over the next several years. In order for3281Sofamor Danek to market the DBS products in the United States, FDA clearance3282will be necessary, which will require clinical trials. Sofamor Danek accepted3283the responsibility and expense for seeking regulatory approvals. Sofamor Danek3284also agreed to purchase the DBS products exclusively from ANS and agreed to pay3285ANS a royalty on Sofamor Danek sales of the DBS products.32863287In December 1998, the Company and Sofamor Danek agreed to terminate the June32881998 DBS agreement due to the impending merger of Sofamor Danek and Medtronic.3289Under the termination agreement, Sofamor Danek agreed to accelerate payments due3290the Company in the amount of $8 million and the Company agreed to release3291Sofamor Danek from further contractual obligations, contingent upon the closing3292of the Sofamor Danek/Medtronic merger. The Company received the $8 million3293payment from Sofamor Danek on January 28, 1999, the day after the completion of3294the merger. The $8 million payment will be recognized into revenue during 1999.32953296-13-3297<PAGE>3298Appendix B3299----------330033013302330333043305Schedule II - Valuation and Qualifying Accounts33063307330833093310Forming a Part of the Annual Report33113312Form 10-K33133314Item 14331533163317of331833193320ADVANCED NEUROMODULATION SYSTEMS, INC. and SUBSIDIARIES3321(Name of issuer)3322332333243325Filed with the33263327Securities and Exchange Commission33283329Washington, D.C. 20549333033313332under33333334The Securities and Exchange Act of 193433353336<PAGE>33373338Schedule II - Valuation and Qualifying Accounts3339Advanced Neuromodulation Systems, Inc. and Subsidiaries3340December 31, 19983341<TABLE>3342<CAPTION>3343Balance at Charged to Balance3344Beginning Charged to Other at End3345Description of Period Expenses Accounts Deductions of Period3346----------- ----------- ----------- ----------- -----------3347<S> <C> <C> <C> <C> <C>3348Year ended December 31, 1998:3349Continuing Operations:3350Allowance for doubtful accounts $ 212,375 $ 25,000 $ -- $ (12,232)(1) $ 249,607(1)3351Reserve for obsolete inventory 56,005 50,709 -- 20,115 86,5993352----------- ----------- ----------- ----------- -----------3353Total ......... $ 268,380 $ 75,709 $ -- $ 7,883 $ 336,2063354=========== =========== =========== =========== ===========33553356Discontinued Operations:3357Allowance for doubtful accounts $ 30,610 $ 96,238 $ -- $ 126,848 $ --3358Reserve for obsolete inventory 154,347 -- -- 154,347 --3359----------- ----------- ----------- ----------- -----------3360Total ......... $ 184,957 $ 96,238 $ -- $ 281,195 $ --3361=========== =========== =========== =========== ===========33623363Year ended December 31, 1997:3364Continuing Operations:3365Allowance for doubtful accounts $ 160,000 $ 64,453 $ -- $ 12,078 $ 212,3753366Reserve for obsolete inventory -- 534,619 -- 478,614 56,0053367----------- ----------- ----------- ----------- -----------3368Total ......... $ 160,000 $ 599,072 $ -- $ 490,692 $ 268,3803369=========== =========== =========== =========== ===========33703371Discontinued Operations:3372Allowance for doubtful accounts $ 14,337 $ 54,098 $ -- $ 37,825 $ 30,6103373Reserve for obsolete inventory 230,472 151,168 -- 227,293 154,3473374----------- ----------- ----------- ----------- -----------3375Total ......... $ 244,809 $ 205,266 $ -- $ 265,118 $ 184,9573376=========== =========== =========== =========== ===========33773378Year ended December 31, 1996:3379Continuing Operations:3380Allowance for doubtful accounts $ 100,000 $ 60,000 $ -- $ -- $ 160,0003381Reserve for obsolete inventory -- -- -- -- --3382----------- ----------- ----------- ----------- -----------3383Total ......... $ 100,000 $ 60,000 $ -- $ -- $ 160,0003384=========== =========== =========== =========== ===========33853386Discontinued Operations:3387Allowance for doubtful accounts $ 14,337 $ -- $ -- $ -- $ 14,3373388Reserve for obsolete inventory 238,679 12,100 -- 20,307 230,4723389----------- ----------- ----------- ----------- -----------3390Total ......... $ 253,016 $ 12,100 $ -- $ 20,307 $ 244,8093391=========== =========== =========== =========== ===========3392</TABLE>33933394(1) Includes $96,238 transferred from discontinued operations for accounts3395remaining with the Company.33963397<PAGE>3398Appendix C3399----------340034013402340334043405Quarterly Financial Data3406(unaudited)34073408340934103411Forming a Part of the Annual Report34123413Form 10-K34143415Item 8341634173418of341934203421ADVANCED NEUROMODULATION SYSTEMS, INC. and SUBSIDIARIES3422(Name of issuer)3423342434253426Filed with the34273428Securities and Exchange Commission34293430Washington, D.C. 20549343134323433under34343435The Securities and Exchange Act of 1934343634373438<PAGE>3439<TABLE>3440<CAPTION>344134421998 1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.3443- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3444<S> <C> <C> <C> <C>3445Net revenue- product sales $ 4,423,455 $ 4,730,672 $ 3,706,402 $ 4,145,8783446Total net revenue 4,423,455 5,330,672 5,006,402 5,345,8783447Gross profit- product sales 3,165,823 3,493,103 2,657,313 2,704,2813448Earnings from operations 771,403 1,356,560 865,004 840,1203449Earnings from continuing operations before income3450taxes 847,373 1,520,187 1,032,775 931,6753451Net earnings from continuing operations 501,644 921,188 613,637 549,2373452Net earnings (loss) from discontinued operations34534,988,941 -- -- (615,445)3454- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3455Net earnings (loss) $ 5,490,585 $ 921,188 $ 613,637 $ (66,208)3456- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------34573458Basic earnings (loss) per share:3459Continuing operations $ 0.06 $ 0.11 $ 0.07 $ 0.073460Discontinued operations $ 0.58 $ -- $ -- $ (0.08)3461- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3462Net earnings (loss) $ 0.64 $ 0.11 $ 0.07 $ (0.01)3463- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------34643465Diluted earnings (loss) per share:3466Continuing operations $ 0.06 $ 0.10 $ 0.07 $ 0.073467Discontinued operations $ 0.56 $ -- $ -- $ (0.08)3468- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3469Net earnings (loss) $ 0.62 $ 0.10 $ 0.07 $ (0.01)3470- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3471</TABLE>34723473<TABLE>3474<CAPTION>34751997 1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.3476- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3477<S> <C> <C> <C> <C>3478Net revenue $ 3,135,581 $ 3,465,753 $ 4,220,002 $ 3,896,3853479Gross profit 2,218,003 1,805,158 3,065,411 2,789,8883480Earnings (loss) from operations 361,973 (149,343) 1,125,084 748,5943481Earnings (loss) from continuing operations before3482income taxes 202,041 (269,154) 1,007,426 610,2123483Net earnings (loss) from continuing operations 137,891 (222,013) 649,100 252,5333484Net earnings (loss) from discontinued operations (43,525) 187,265 (199,738) (37,492)3485- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3486Net earnings (loss) $ 94,366 $ (34,748) $ 449,362 $ 215,0413487- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------34883489Basic earnings (loss) per share:3490Continuing operations $ 0.02 $ (0.03) $ 0.08 $ 0.033491Discontinued operations (0.01) 0.03 (0.03) --3492- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3493Net earnings $ 0.01 $ -- $ 0.05 $ 0.033494- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------34953496Diluted earnings (loss) per share:3497Continuing operations $ 0.02 $ (0.03) $ 0.07 $ 0.033498Discontinued operations (0.01) 0.03 (0.02) (0.01)3499- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3500Net earnings $ 0.01 $ -- $ 0.05 $ 0.023501- ------------------------------------------------------ ------------------ ------------------- ------------------ ------------------3502</TABLE>35033504<PAGE>35053506INDEX TO EXHIBITS3507<TABLE>3508<CAPTION>3509Exhibit3510Number Description3511------ -----------35123513<C> <S>35142.4 Asset Purchase Agreement, dated December 29, 1997, by and among3515Quest Medical, Inc., QMI Medical, Inc. (formerly known as QMI3516Acquisition Corp.) and Atrion Corporation (including exhibits and3517schedules 2.1.1, 2.1.2, 2.3(a) and 2.3.(b))(8)35183.1 Articles of Incorporation, as amended(5)35193.2 Articles of Amendment to the Articles of Incorporation dated June352012, 1998 changing the name of the Corporation from Quest Medical,3521Inc. to Advanced Neuromodulation Systems, Inc.(11)35223.3 Bylaws(1)35234.1 Rights Agreement dated as of August 30, 1996, between Quest3524Medical, Inc. and KeyCorp Shareholder Services, Inc. as Rights3525Agent(6)352610.1 Quest Medical, Inc. 1979 Amended and Restated Employees Stock3527Option Plan(2)352810.2 Form of 1979 Employees Stock Option Agreement(3)352910.3 Quest Medical, Inc. Directors Stock Option Plan (as amended)(2)353010.4 Form of Directors Stock Option Agreement(1)353110.5 Quest Medical, Inc. 1987 Stock Option Plan(5)353210.6 Form of 1987 Employee Stock Option Agreement(5)353310.7 Quest Medical, Inc. 1995 Stock Option Plan(5)353410.8 Form of 1995 Employee Stock Option Agreement(5)353510.9 Quest Medical, Inc. 1998 Stock Option Plan(12)353610.10 Employment Agreement dated April 9, 1998 between Christopher G.3537Chavez and Quest Medical, Inc.(10) 10.11 Employment Agreement3538dated April 9, 1998 between Scott F. Drees and Quest Medical,3539Inc.(10) 10.12 Employment Agreement dated April 9, 1998 between3540F. Robert Merrill III and Quest Medical, Inc.(10) 10.13 Form of3541Employment Agreement and Covenant Not to Compete, between the3542Company and key employees(1) 10.14 Promissory Note dated December354328,1993, between Quest Medical, Inc. and MetLife Capital3544Financial Corporation(4)354510.15 Commercial Deed of Trust, Security Agreement and Assignment of3546Leases and Rents and Fixture Filing dated December 28,1993,3547between Quest Medical, Inc. and MetLife Capital Financial3548Corporation(4)354910.16 Term Promissory Note dated December 28,1993, between Quest3550Medical, Inc. and MetLife Capital Corporation(4)355110.17 Loan and Security Agreement dated December 28,1993, between Quest3552Medical, Inc. and MetLife Capital Corporation(4)355310.18 Supplemental Security Agreement Number One dated December 28,35541993, between Quest Medical, Inc. and MetLife Capital3555Corporation(4)355610.19 Third Amended and Restated Credit Agreement dated as of March 3,35571997, between Quest Medical, Inc. and NationsBank of Texas,3558N.A.(7) 10.20 Promissory Note (Facility A. Note) in the original3559principal amount of $5,650,000 dated March 3, 1997(7) 10.213560Promissory Note (Facility B. Note) in the original principal3561amount of $350,000 dated March 3, 1997(7) 10.22 First Amended and3562Restated Security Agreement dated March 3, 1997, between Quest3563Medical, Inc. and NationsBank of Texas, N.A.(7)356410.23 First Amended and Restated Security Agreement dated March 3,35651997, between Advanced Neuromodulation Systems, Inc. and3566NationsBank of Texas, N.A.(7)356710.24 First Amended and Restated Intellectual Property Security3568Agreement and Assignment dated as of March 3, 1997, between Quest3569Medical, Inc. and NationsBank of Texas N.A.(7)357010.25 First Amended and Restated Intellectual Property Security3571Agreement and Assignment dated as of March 3, 1997, between3572Advanced Neuromodulation Systems, Inc. and NationsBank of Texas,3573N.A.(7)357410.26 First Amended and Restated License Agreement dated as of March 3,35751997, between Quest Medical, Inc. and NationsBank of Texas,3576N.A.(7)3577</TABLE>3578<PAGE>35793580INDEX TO EXHIBITS3581<TABLE>3582<CAPTION>3583Exhibit3584Number Description3585------ -----------35863587<C> <S>358810.27 First Amended and Restated License Agreement dated as of March 3,35891997, between Advanced Neuromodulation Systems, Inc. and3590NationsBank of Texas, N.A.(7)359110.28 Guaranty of Advanced Neuromodulation Systems, Inc. in favor of3592NationsBank of Texas, N.A. under the Third Amended and Restated3593Credit Agreement dated as of March 3, 1997(7)359410.29 Form of License Agreement, dated January 30, 1998, by and between3595Quest Medical, Inc. and QMI Medical, Inc.(formerly known as QMI3596Acquisition Corp.)(8)359710.30 Form of Lease Agreement, dated January 30, 1998, by and between3598Quest Medical, Inc. and QMI Medical, Inc. (formerly known as QMI3599Acquisition Corp.)(8)360010.31 Form of Option Agreement, dated January 30, 1998, by and between3601Quest Medical, Inc. and QMI Medical, Inc. (formerly known as QMI3602Acquisition Corp.)(8)360310.32 Agreement, dated December 31, 1997, by and among Quest Medical,3604Inc., its subsidiaries and affiliates and Thomas C. Thompson(9)360510.33 Lease Agreement dated as of February 4, 1999, between Advanced3606Neuromodulation Systems, Inc. and Legacy Lincoln I, LTD. (13)360711.1 Computation of Earnings Per Share(13)360821.1 Subsidiaries(13)360923.1 Consent of Independent Auditors(13)361027.1 Financial Data Schedule - December 31, 1998(13)3611</TABLE>3612- -------------------------------------3613(1) Filed as an Exhibit to the Company's Registration Statement on Form S-18,3614Registration No. 2-71198-FW, and incorporated herein by reference.3615(2) Filed as an Exhibit to the report of the Company on Form 10-K for the year3616ended December 31, 1987, and incorporated herein by reference.3617(3) Filed as an Exhibit to the Company's Registration Statement on Form S-1,3618Registration No. 2-78186, and incorporated herein by reference.3619(4) Filed as an Exhibit to the report of the Company on Form 10-KSB for the3620year ended December 31, 1993, and incorporated herein by reference.3621(5) Filed as an Exhibit to the Company's Registration Statement on Form SB-2,3622Registration No. 33-62991, and incorporated herein by reference.3623(6) Filed as an Exhibit to the report of the Company on Form 8-K dated3624September 3, 1996, and incorporated herein by reference.3625(7) Filed as an Exhibit to the report of the Company on Form 10-K dated for3626the year ended December 31, 1996, and incorporated herein by reference.3627(8) Filed as an Exhibit to the report of the Company on Form 8-K dated3628February 13, 1998, and incorporated herein by reference. Upon request, the3629Company will furnish a copy of any omitted schedule to the Commission.3630(9) Filed as an Exhibit to the report of the Company on Form 10-K dated for3631the year ended December 31, 1997, and incorporated herein by reference.3632(10) Filed as an Exhibit to the report of the Company on Form 10-Q dated for3633the quarterly period ended March 31, 1998, and incorporated herein by3634reference.3635(11) Filed as an Exhibit to the report of the Company on Form 10-Q dated for3636the quarterly period ended June 30, 1998, and incorporated herein by3637reference.3638(12) Filed as an Exhibit to the Definitive Proxy Statement on Schedule 14A3639dated April 27, 1998, and incorporated herein by reference.3640(13) Filed herewith.36413642<PAGE>36433644364536463647364836493650365136523653365436553656365736583659EXHIBIT 10.33366036613662<PAGE>3663LEASE AGREEMENT3664---------------36653666This Lease Agreement (this "Lease") is entered into on this the 4th day of3667February, 1999 by and between LEGACY LINCOLN I, LTD., a Texas limited3668partnership ("Landlord"), and ADVANCED NEUROMODULATION SYSTEMS, INC., a3669corporation ("Tenant").367036711. PREMISES, TERM, AND INITIAL IMPROVEMENTS.36723673(a) Subject to and upon the terms, provisions and conditions hereinafter3674set forth, and each in consideration of the duties, covenants and obligations of3675the other hereunder, Landlord hereby leases to Tenant, and Tenant hereby leases3676and takes from Landlord, approximately 40,680 square feet of Net Rentable Area3677(hereinafter defined) (the "Premises") located in the approximately 64,0173678square foot building (the "Building") to be constructed upon the land situated3679in the City of Plano, Texas (the "Land"). The Building is known as "Building D"3680of a four (4) building project containing an aggregate of approximately 182,0003681square feet of Net Rentable Area located on the Land known as the "Lincoln R&D3682Legacy Project" (the "Project"). A legal description of the Land is attached3683hereto as Exhibit "A-1". A preliminary Site Plan depicting the Premises is3684attached hereto as Exhibit "A". The Premises will be composed of (i)3685approximately 30,140 square feet of Net Rentable Area of office and light3686assembly space, (ii) approximately 7,000 square feet of Net Rentable Area of a3687Class 10,000 "Clean Room", (iii) approximately 3,000 square feet of Net Rentable3688Area of air-conditioned warehouse space, and (iv) approximately 540 square feet3689of Net Rentable Area of "operating room" for physicians' training. Landlord3690anticipates that it may be necessary for Landlord to make certain modifications3691to the Site Plan with the consent of Tenant (such consent not be unreasonably3692withheld or delayed); accordingly, if and when such Site Plan is revised by3693Landlord after Tenant has consented thereto, such revised Site Plan shall be3694initialed by Landlord and Tenant and substituted in place of the then current3695Site Plan attached to this Lease. The term "Net Rentable Area" refers to the3696area occupied by office and/or warehouse space, as calculated using the3697methodology set forth in Standard Method for Measuring Floor Area in Office3698Buildings as published by the Building Owners and Managers Association3699International (approved June 7, 1996 by American National Standards Institute,3700Inc.; ANSI/BOMA Z65.1-1996) (the "BOMA Method"), except that the boundaries3701shall be measured from the exterior surface of the exterior walls and windows of3702the Building, and the center line of any demising walls separating the Premises3703from space to be occupied by another tenant. Tenant shall have the right to3704calculate the Net Rentable Area within the Premises upon the parties' final3705agreement to the Drawings (hereinafter defined) and upon such calculation, the3706parties shall promptly execute an amendment to this Lease confirming the actual3707Net Rentable Area in the Premises calculated pursuant to the BOMA Method, as3708modified above, the monthly Base Rent and Tenant's Proportionate Share.37093710(b) The term of this Lease (the "Term") shall be sixty-three (63)3711months, beginning on the date (the "Commencement Date") which is thirty (30)3712days after the date on which Substantial Completion (hereinafter defined) of the3713Improvements (hereinafter defined) has occurred in accordance with Exhibit "B"3714attached hereto and made a part hereof, and ending on the last day of the 63rd3715full month following the Commencement Date. Although the Term may not commence3716until after the date hereof, from and after the date hereof this Lease shall be3717deemed to be a contract between Landlord and Tenant and the provisions hereof3718shall be effective for all purposes. Notwithstanding anything to the contrary3719contained above, Tenant acknowledges that the Building has not yet been3720constructed by Landlord. It is contemplated by Landlord and Tenant that the3721Commencement Date shall occur on or before May 1, 1999. In the event the3722Commencement Date does not occur on or before May 1, 1999 (which date shall be3723extended by the number of days of delay (i) attributable to Events of Force3724Majeure, and (ii) attributable to Tenant Delays, including any delays in the3725parties' agreement to the final Drawings beyond February 1, 1999 due to Tenant37263727-1-3728<PAGE>37293730Delays, and which May 1, 1999 date as so extended is referred to herein as the3731"Deadline Date") (such period between the Deadline Date and the date on which3732Substantial Completion of the Improvements has occurred is herein called the3733"Holdover Period"), then Landlord shall pay to Tenant, as liquidated damages, an3734amount equal to the product of the number of days in the Holdover Period times3735$500.00. For purposes of this Lease, the term "Events of Force Majeure" shall3736mean any delays due to strikes, riots, acts of God, shortages of labor or3737materials, war, governmental laws, regulations or restrictions, or any other3738causes of any kind whatsoever which are beyond the control of Landlord. In the3739event the Commencement Date has not occurred by July 1, 1999 for reasons other3740than Events of Force Majeure or Tenant Delays, then Tenant shall have the right,3741at Tenant's option, to terminate this Lease by delivering written notice thereof3742to Landlord on or before August 1, 1999, this Lease shall terminate and no3743longer be of any force or effect. Notwithstanding anything to the contrary3744contained above, in the event that substantial completion of the Improvements3745occurs prior to May 1, 1999, Landlord shall make the Premises available for3746occupancy at such time, and Tenant shall have the right to occupy the Premises3747prior to May 1, 1999, subject to the terms and provisions of this Lease, except3748that Tenant shall have no obligations to pay Base Rent or any other amount for3749the period of any such early occupancy prior to May 1, 1999. Rental and Tenant's3750other obligations under this Lease shall not commence until said Commencement3751Date and the Term shall commence and the expiration date shall be extended so as3752to give effect to the full stated Term. Landlord and Tenant shall enter into a3753written agreement confirming the date on which the Commencement Date in fact3754occurs in accordance with the terms of this Lease.37553756(c) Landlord shall construct the Building and the Premises in a good and3757workmanlike manner in substantial accordance with the plans and specifications3758referenced on Exhibit "B", and, by occupying the Premises, Tenant shall be3759deemed to have accepted the Premises in their condition, subject only to latent3760defects and the completion of any punch-list items. Neither Landlord nor3761Landlord's agents have made any express or implied representations or promises3762with respect to the Building or the Premises or the repair or alteration3763thereof, except as expressly set forth in this Lease, and no rights or easements3764or licenses are acquired by Tenant by implication or otherwise, except as3765expressly set forth herein. Nothing contained in this paragraph (c) shall be3766construed to limit or otherwise affect Landlord's obligations otherwise set3767forth in this Lease.376837692. BASE RENT. SECURITY DEPOSIT AND ADDITIONAL RENT.37703771(a) Tenant shall pay to Landlord monthly "Base Rent", in advance,3772without demand, deduction or set off except as hereinbelow expressly provided,3773equal to the total sum of $2,898,450.00, payable in the following installments3774for the following periods of time:37753776Rate Per Square foot of Net3777Months in Term Monthly Base Rent Rentable Area Per Year3778- --------------------- ----------------------- ------------------------------37791-3 $0.00 $0.0037804-63 $48,307.50 $14.2537813782Notwithstanding the foregoing, the $2,898,450.00 and the monthly Base Rent3783amounts set forth above shall be subject to Tenant's right to measure the square3784feet of Net Rentable Area in the Premises in accordance with Section 1(a) above,3785and upon Tenant's calculation of said area, Landlord and Tenant shall enter into3786an amendment confirming the actual monthly Base Rent, annual Base Rent and total37873788-2-3789<PAGE>37903791Base Rent payable during the Term of this Lease. In the event the cost of3792construction of the Tenant's Work depicted on the Drawings is less than the Cash3793Allowance, as defined in Exhibit "B" (the difference between the amount of the3794Cash Allowance and the total cost of construction of the Tenant's Work herein3795called the "Savings"), then the "Rate Per Square Foot of Net Rentable Area Per3796Year" set forth hereinabove upon which the Base Rent is derived shall be reduced3797by ten cents (10(cent)) for every one dollar ($1.00) of Savings per square foot3798of Net Rentable Area in the Premises. Each monthly installment of Base Rent3799payable hereunder shall be due on the first (1st) day of each calendar month3800following the Commencement Date, beginning on the first (1st) day of the fourth3801(4th) calendar month of the Term. If the Term begins on a day other than the3802first day of a month or ends on a day other than the last day of a month, then3803Base Rent and additional rent for such partial month shall be prorated.38043805(b) [INTENTIONALLY OMITTED - SECURITY DEPOSIT]38063807(c) For calendar year 2000, and each subsequent calendar year thereafter3808during the Term and any renewals and extensions thereof, Tenant shall pay, as3809additional rent, Tenant's Proportionate Share (hereinafter defined) of all3810reasonable costs incurred by Landlord in owning, operating, maintaining,3811repairing and replacing the Land, the Building, the Project and the facilities3812and services provided for the common use of Tenant and any other tenants of the3813Project (collectively, "Operating Expenses") in excess of the Operating Expenses3814for calendar year 1999 ("Base Year") said Operating Expenses for the Base Year3815being grossed up to 100% occupancy as provided in Section 2(d) below ("Operating3816Expenses Excess"). Operating Expenses shall include the following items: (1)3817Taxes (defined below) and the cost of any tax consultant employed to assist3818Landlord in determining the fair tax valuation of the Project; (2) the cost of3819all utilities used in the Project which are not billed separately to a tenant of3820the Project for above building standard utility consumption and which are not3821sub-metered to the Premises and paid for directly by Tenant; (3) insurance3822premiums; (4) the cost of repairs, replacement, management fees (not to exceed3823an annual amount equal to 4% of the annual gross revenues derived from the3824Project) and expenses, landscape maintenance and replacement, janitorial3825services to the extent set forth on Exhibit "G" attached hereto and made a part3826hereof for all purposes, security service (if provided), sewer service (if3827provided), trash service (if provided); (5) the cost of dues, assessments, and3828other charges applicable to the Land payable to any property or community owner3829association under restrictive covenants or deed restrictions to which the3830Premises are subject; and (6) alterations, additions, and improvements made by3831Landlord to comply with any change in any applicable Laws (defined in Section383223(a) below) enacted subsequent to the time of construction of the Building.3833Throughout the Term on the same day that Base Rent is due, Tenant shall pay to3834Landlord an amount equal to 1/12 of Landlord's reasonable estimate of Tenant's3835Proportionate Share of annual Operating Expenses Excess. The initial monthly3836payments are based upon Landlord's estimate of the Operating Expenses Excess for3837the calendar year in question, and shall be increased or decreased annually to3838reflect the actual Operating Expenses reasonably determined by Landlord for that3839calendar year. If Tenant's total payments in respect of Operating Expenses3840Excess for any calendar year are less than Tenant's Proportionate Share of3841actual Operating Expenses Excess for that calendar year, Tenant shall pay the3842difference to Landlord within ten (10) days after Landlord's request therefor;3843if such payments are more than Tenant's Proportionate Share of actual Operating3844Expenses Excess for that calendar year, Landlord shall refund the excess to3845Tenant within ten (10) days after the determination of actual Operating Expenses3846for the year in question. Landlord shall, on or before April 1 of each year,3847provide to Tenant a statement showing the actual Operating Expenses for the3848immediately preceding calendar year. In calculating Tenant's Proportionate Share3849of actual Operating Expenses Excess, Tenant shall not be responsible for any3850controllable Operating Expenses in excess of one hundred eight percent (108%) of3851such controllable Operating Expenses in the immediately preceding calendar year.3852For purposes of this provision, controllable Operating Expenses do not include3853taxes, insurance or utilities. Operating Expenses shall not include the3854following: (A) any costs for interest, amortization, or other payments on loans38553856-3-3857<PAGE>38583859to Landlord; (B) expenses incurred in leasing or procuring tenants; (C) legal3860expenses other than those incurred for the general benefit of the Project's3861tenants; (D) allowances, concessions, and other costs of renovating or otherwise3862improving space for occupants of the Project or vacant space in the Project; (E)3863federal income taxes imposed on or measured by the income of Landlord from the3864operation of the Project; (F) rents under ground leases; (G) costs incurred in3865selling, syndicating, financing, mortgaging, or hypothecating any of Landlord's3866interests in the Project; (H) the cost of any capital improvements (except for3867the amortization of the cost of (1) capital improvements made by Landlord or3868equipment purchased by Landlord as a means to accomplish savings in operating,3869repairing, managing or maintaining the Project, and (2) capital improvements3870made by Landlord to comply with any change in any applicable Laws enacted3871subsequent to the time of construction of the Project); (I) the cost of electric3872and gas service sub-metered to the Premises and paid for directly by Tenant; (J)3873costs of alterations, maintenance, or repair attributable solely to specific3874tenants or occupants of the Project; (K) any inheritance, estate, gift,3875franchise, corporation, income, net profits, or similar tax which may be, or is,3876assessed against or imposed upon Landlord and/or the Project; (L) depreciation3877of the Project and Landlord's personal property; (M) fees for professional3878services including legal, architectural, engineering, accounting, appraisal that3879are not directly related to the management, operation, repair and maintenance of3880the Premises, or are related to the purchase or leasing of the Project; (N) any3881payments for air rights, licenses and easements benefiting the Project; (O)3882costs incurred by Landlord to the extent that Landlord is entitled to receive3883reimbursement for such costs from any source (including, but not limited to,3884insurance, tenants of the Project, and warranties and guaranties provided to3885Landlord in connection with the initial construction of the Project); (P) costs3886(including permits, licenses, and inspection costs) incurred with respect to the3887installation of tenant improvements for tenants in the Project or incurred in3888renovating, decorating, painting or redecorating vacant space for tenants or3889other occupants of the Project, including common areas of the Project; (Q) costs3890and expenses incurred in connection with leasing space in the Project to tenants3891(including Tenant), including, without limitation, marketing costs, leasing3892commissions and the costs of any inducements provided to Tenants, including, but3893not limited to, tenant finish allowances, costs incurred for materials and labor3894in connection with the installation of multi-tenant floor corridor3895configurations, security systems, rent allowances, lease takeover costs, payment3896of moving costs and other similar costs and expenses; (R) real estate3897commissions, attorneys' fees, and other costs and expenses incurred in3898connection with negotiations with purchasers or potential purchasers of the3899Project; (S) all costs and expenses (including, but not limited to attorneys'3900fees) incurred in connection with disputes with tenants or other occupants of3901the Project; (T) expenses in connection with services or other benefits which3902are not provided to Tenant, but which are provided solely to other tenants or3903occupants of the Project; (U) costs incurred by Landlord due to the violation by3904Landlord, or any other tenants of the Project, of the terms and conditions of3905any lease of space in the Project; (V) landlord's general overhead and general3906administrative expenses; (W) rentals and other related expenses incurred in3907leasing air conditioning systems, elevators or other equipment or machinery3908ordinarily considered of a capital nature, if such machinery or equipment would3909constitute a capital expenditure if purchased by Landlord; (X) advertising and3910promotional expenditures, and costs of signs in or on the Project identifying3911the owner of the Project or any tenant of the Project; (Y) utility for which any3912occupant of the Project directly contracts with the utility company or which is3913separately metered, and other costs which any occupant pays directly to any3914utility company or other vendor; (Z) special assessments; (AA) penalties or3915fines incurred by Landlord due to a violation by Landlord of any legal3916requirement, building codes, or any other government rule or requirement; (BB)3917interest and penalties on taxes; (CC) the cost of rent continuation insurance;3918(DD) cost of insurance in excess of that required for Landlord to comply with3919this lease; (EE) salaries and benefits for employees other than those directly3920employed at the Project; (FF) salary of Landlord's officers, management3921supervisors and leasing agents; (GG) expenses related to compliance with3922environmental laws, and the law (including related regulations) commonly known3923as the "Americans with Disabilities Act", as may be amended, or any successor3924law or regulations, (collectively, the "ADA") unless such expenses relate to the39253926-4-3927<PAGE>39283929interior of Tenant's Premises or arise because of Tenant's use of the Premises3930or Project pursuant to the terms of this Lease in which event, the expense shall3931be the responsibility of Tenant; (HH) expenses paid to affiliates of Landlord,3932or to the Project's manager or its affiliates, to the extent the same exceed3933expenses that would be incurred in an arm's-length transaction; (JJ) cost of3934work performed or services rendered to any tenant which work or services are3935above building-standard; (II) tort claims not fully covered by insurance; (JJ)3936costs to remedy structural defects (including but not limited to latent defects)3937in the Project or portion thereof; (KK) repair costs resulting from defects in3938workmanship, materials, or equipment to the extent Landlord failed to act as a3939prudent landlord in the selection or supervision of the person that performed3940the applicable work; and (LL) cost necessitated by or resulting from the3941negligence of Landlord, its agents, officers, employees or invitees or3942Landlord's breach of its obligations under the lease.39433944In no event shall Landlord be entitled to recover more than its actual3945Operating Expenses in any year. Landlord agrees that it will use its good faith3946efforts to reasonably and fairly allocate Operating Expenses to the buildings in3947the Project. Landlord shall keep books and records in accordance with sound3948accounting practice or generally accepted accounting principles, consistently3949applied. Landlord shall use its good faith efforts to keep Operating Expenses to3950a minimum. There shall be no duplication of costs for reimbursements in3951calculating Operating Expenses.39523953(d) If during any calendar year (including the Base Year) the Project is3954less than 100% occupied, then, for purposes of calculating Tenant's3955Proportionate Share of Operating Expenses Excess for that calendar year, the3956amount of Operating Expenses that fluctuate with Project occupancy shall be3957"grossed-up" to the amount which, in Landlord's estimation, would have been3958incurred by Landlord had the Project been 100% occupied for that entire calendar3959year. Without limiting the generality of the foregoing, it is agreed that the3960component of Operating Expenses consisting of ad valorem taxes shall be3961determined for the Base Year as though the Project were fully assessed for ad3962valorem tax purposes assuming leasehold improvements constructed in the3963remainder of the Project at building standard levels and the remaining Project3964leased at market rental rates.39653966(e) Landlord, upon written request from Tenant, will provide Tenant with3967a statement reflecting the Operating Expenses of the Building for any year in3968which Operating Expenses Excess is due from Tenant under the terms of Section39692(c). In addition, Tenant shall have the right no more than one (1) time for3970each calendar year during the Term, after reasonable notice to Landlord and at3971times during normal business hours, to audit the records of Landlord relating to3972the calculation of Operating Expenses and Tenant's Proportionate Share of3973Operating Expenses Excess. Landlord will refund any overcharge discovered by3974such audit. If the audit discloses more than a three percent (3%) overcharge by3975Landlord, then Landlord shall pay to Tenant the reasonable cost of the audit.39763977(f) If any payment of Base Rent or the regularly scheduled monthly3978payment of the Operating Expenses Excess based on Landlord's estimate thereof is3979not paid within five (5) days after the date on which any such payment is due,3980or if any other payment required of Tenant under this Lease is not paid within3981five (5) days following written notice from Landlord advising Tenant of its3982failure to make such payment, then except to the extent limited by any3983applicable Laws, and not in limitation or waiver of any of Landlord's other3984rights and remedies under this Lease, Landlord may charge Tenant and Tenant3985shall pay to Landlord a fee equal to $500.00 to reimburse Landlord for its cost3986and inconvenience incurred as a consequence of Tenant's delinquency.39873988(g) All payments and reimbursements required to be made by Tenant under3989this Lease shall constitute "rent" (herein so called).39903991(h) The term "Tenant's Proportionate Share" means the ratio from time to3992time of the Net Rentable Area of the Premises to the Net Rentable Area of the39933994-5-3995<PAGE>39963997Project (which contains 182,290 square feet of Net Rentable Area). Tenant's3998Proportionate Share has been initially determined to be 22.32%. If the Net3999Rentable Area of the Premises or Project changes, Tenant's Proportionate Share4000shall change accordingly. It is agreed that Tenant's Proportionate Share shall4001be finally determined after Tenant has calculated the Net Rentable Area in the4002Premises in accordance with the terms hereof.400340043. TAXES.40054006(a) Landlord shall pay all taxes, assessments and governmental charges4007whether federal, state, county, or municipal and whether they are imposed by4008taxing or management districts or authorities presently existing or hereafter4009created but excluding any interest or penalties for late or delinquent payments4010(collectively, "Taxes") that accrue against the Premises and the Project subject4011to Tenant's obligation to pay Tenant's Proportionate Share of Operating Expenses4012Excess pursuant to Section 2(c). If, during the Term, there is levied, assessed4013or imposed on Landlord a capital levy or other tax directly on the rent or a4014franchise tax, assessment, levy or charge measured by or based, in whole or in4015part, upon rent, then all such taxes, assessments, levies or charges, or the4016part thereof so measured or based, shall be included within the term "Taxes". If4017the Project is occupied by more than one tenant and the cost of any improvements4018constructed in the premises occupied by any tenant is disproportionately higher4019than the cost of improvements constructed in the premises of other tenants of4020the Project, then Landlord may require that the tenant whose premises contain4021such disproportionately higher cost improvements pay the amount of Taxes4022attributable to such improvements in addition to such tenant's proportionate4023share of Taxes.40244025(b) Tenant shall (1) pay when due all taxes levied or assessed against4026any personal property, fixtures or alterations placed in the Premises and (2)4027upon the request of Landlord, deliver to Landlord copies of receipts from the4028applicable taxing authority or other evidence acceptable to Landlord to verify4029that such taxes have been paid. If any such taxes are levied or assessed against4030Landlord or Landlord's property and (A) Landlord pays them or (B) the assessed4031value of Landlord's property is increased thereby and Landlord pays the4032increased taxes, then Tenant shall pay to Landlord such taxes immediately upon4033Landlord's request therefor.403440354. LANDLORD'S MAINTENANCE.40364037(a) This Lease is intended by Landlord and Tenant to be a full service4038lease, net of the utilities described in Section 8; accordingly, Landlord's4039maintenance obligations include the repair and maintenance of the Premises, the4040repair, maintenance and replacement (if Landlord, in Landlord's reasonable4041business judgment, determines replacement is necessary) of the Building's roof4042and repair, maintenance and replacement (if Landlord, in Landlord's reasonable4043business judgment, determines replacement is necessary) of the foundation and4044structural members of the exterior walls and load bearing columns of the4045Building (collectively, the "Building's Structure"), the repair, maintenance and4046replacement (if Landlord, in Landlord's reasonable business judgment, determines4047replacement is necessary) of the mechanical, electrical, plumbing, heating,4048ventilation, air-conditioning, sprinkler, and life-safety systems and equipment4049of the Building, and any repair, maintenance or replacement (if Landlord, in4050Landlord's reasonable business judgment, determines replacement is necessary) of4051the Premises or any portion thereof to the extent such repair, maintenance or4052replacement is necessitated due to design, construction or materials defects in4053the initial construction of the Improvements pursuant to the terms hereof;4054however, Landlord shall not be responsible (1) for any such work until Tenant4055delivers to Landlord written notice of the need therefor, or (2) for alterations4056to the Building's Structure required by any applicable Law (including, without4057limitation, the Americans with Disabilities Act of 1990) because of Tenant's use4058of the Premises (which alterations shall be performed by Tenant at Tenant's sole4059cost and expense), or (3) repairs, maintenance or replacements required because40604061-6-4062<PAGE>40634064of the negligence of Tenant or any Tenant Party, or resulting from a default by4065Tenant or any Tenant Party under the terms of this Lease. Landlord hereby4066represents to Tenant that, to the best of Landlord's actual knowledge, the4067Building and the Premises will be completed substantially in accordance with all4068applicable requirements of the Americans with Disabilities Act of 1990, and that4069Landlord will be responsible for compliance with ADA requirements for all4070portions of the Building other than the Premises except as otherwise provided4071hereinabove. The Building's Structure does include skylights, windows, glass or4072plate glass, doors, special store fronts or office entries, all of which shall4073be maintained by Landlord. Landlord's liability for any defects, repairs,4074replacement or maintenance for which Landlord is responsible hereunder shall be4075limited to the cost of performing such work.40764077(b) Landlord shall maintain the parking areas, driveways, alleys and4078grounds surrounding the Premises in a clean and sanitary condition, including,4079without limitation, maintenance, repairs and replacements of (i) the exterior of4080the Building (including painting and landscaping), (ii) sprinkler systems and4081sewage lines, and (iii) any other items normally associated with the foregoing.4082Tenant shall repair or replace, as applicable, and pay for any damage caused to4083such parking areas, driveways, alleys and grounds by a Tenant Party (defined4084below) or caused by Tenant's default hereunder.40854086(c) On or before the Commencement Date, Landlord shall deliver the4087heating, air conditio0ning, and ventilation equipment and system (the "HVAC4088System") in good repair and working order. Thereafter Landlord shall maintain4089the HVAC System in good repair and condition.40904091(d) The cost of performing Landlord's maintenance and repair obligations4092shall be an Operating Expense (except to the limited extent any such cost is4093specifically excluded from being an Operating Expense pursuant to Section 2.(c)4094above).40954096(e) So long as Tenant is not in default under this Lease, Landlord4097agrees to furnish the following services: (i) water at points of supply as4098reflected in the Drawings; (ii) janitorial service to the Premises to the extent4099set forth on Exhibit "G" attached hereto; and (iii) electric lighting for all4100public areas and special service areas of the Building in the manner and to the4101extent deemed by the Landlord to be reasonable and standard including4102replacement of Building standard light bulbs and tubes. In the event any4103services to be provided by Landlord hereunder are interrupted for five (5)4104consecutive business days (or ten [10] business days whether or not consecutive4105during any twelve [12] month period) because of Landlord's negligence or willfu4106misconduct, then Tenant shall have the right, in addition to its other rights4107and remedies, to abate rent from the date such interruption commenced until all4108services required to be provided by Landlord hereunder are fully restored. In4109the event of any such interruption of service that Landlord is obligated to4110provide hereunder, Landlord agrees that it will use its good faith efforts to4111cause such service to be restored as soon as is reasonably possible. Nothing4112contained in this Section 4(e) is intended to negate or act as a waiver of any4113right Tenant may have at law or in equity to claim constructive eviction as a4114result of Tenant's loss of use of the Premises because of an interruption of the4115services described in this Section 4(e).411641175. TENANT'S MAINTENANCE AND REPAIR OBLIGATIONS.41184119(a) Tenant shall maintain all parts of the Premises (except for4120maintenance work for which Landlord is expressly responsible under Section 44121above) in good condition and promptly make all necessary repairs and4122replacements to the Premises. Tenant shall be responsible for above average and4123unusual trash and waste disposal from the Premises and will maintain adequate4124receptacles for such disposal, the design, placement and capacity of such41254126-7-4127<PAGE>41284129receptacles to be subject to the prior approval of Landlord. Outdoor storage of4130trash or any other material and receptacles or containers not approved by4131Landlord (which approval shall not be unreasonably withheld or delayed) is4132strictly prohibited.41334134(b) If Tenant fails to perform any of Tenant's maintenance or repair4135obligations, and if such failure continues for thirty (30) days after written4136notice thereof is delivered to Tenant (provided, however, if such failure4137cannot, through the exercise of reasonable diligence, be cured within 30 days,4138Tenant shall be entitled to such additional time as is reasonably necessary to4139cure such failure so long as Tenant commences its curative efforts within such414030 day period and thereafter diligently prosecutes same to completion), the4141Landlord may perform such obligation, in which event Tenant shall pay to4142Landlord the reasonable cost incurred by Landlord in performing such obligation4143within thirty (30) days after Landlord's written request therefor.41444145(c) Tenant acknowledges that Landlord is not providing security services4146of any kind to the Premises or for Tenant's property and that the keys given to4147Tenant for the Premises may not be secure. At its expense, Tenant shall provide4148whatever security and/or alarm systems Tenant deems necessary or appropriate for4149the protection of the Premises and of Tenant's personal property and personnel4150located therein, including, if Tenant desires to do so, installing new locks for4151the Premises with new keys. Tenant shall provide to Landlord copies of all keys4152and access codes to allow Landlord entry to the Premises. In no event shall4153Landlord be responsible for, and Tenant waives any and all claims arising from,4154the loss or damage to any of Tenant's personal property situated in and on the4155Premises, even though Landlord may have provided general area security or guard4156services, except to the extent such loss or damage results from the negligence4157or willful misconduct of Landlord or its agents or contractors. Landlord may4158elect to, but shall have no obligation to, provide general area security or4159guard services. In the event Landlord elects to provide general area security or4160guard services, it may discontinue such security or guard services without4161notice. At its expense, Tenant is also responsible for the maintenance, repair,4162or replacement of any mechanical, security and fire protection systems which4163Tenant has installed within the Premises [provided, however, it shall be4164Landlord's responsibility to repair, maintain and replace the mechanical,4165security and fire protection systems initially installed as part of the4166Improvements pursuant to Exhibit "B" pursuant to Section 4(a) hereinabove].4167Tenant is expressly advised that if Tenant should place any fixtures, inventory4168or equipment with, in or on the Premises prior to the time the Premises are4169completed and delivered to the Tenant, the risk of loss or damage to such4170inventory, fixtures, or equipment will be greatly increased in view of the fact4171that, out of necessity, numerous people will be permitted access to the Premises4172for the purpose of completion of any work. All such risk of loss or damage shall4173be borne exclusively by the Tenant and not by the Landlord, and the Tenant4174hereby waives any claim for any such loss or damage against the Landlord, except4175to the extent such loss or damage results from the negligence or willful4176misconduct of Landlord or its agents or contractors.417741786. ALTERATIONS. Tenant shall not make any alterations, additions or4179improvements to the Premises without the prior written consent of Landlord4180(which consent shall not be unreasonably withheld or delayed with respect to4181nonstructural alterations or additions). Landlord shall not be required to4182notify Tenant of whether it consents to any alteration, addition or improvements4183until it (a) has received plans and specifications therefor which are4184sufficiently detailed to allow construction of the work depicted thereon to be4185performed in a good and workmanlike manner, and (b) has had a reasonable4186opportunity to review them (not to exceed five [5] business days). If the4187alteration, addition or improvement will affect the Building's Structure, HVAC4188System, or mechanical, electrical, or plumbing systems, then the plans and4189specifications therefor must be prepared by a licensed engineer reasonably4190acceptable to Landlord. Landlord's approval of any plans and specifications4191shall not be a representation or warranty that the plans or the work depicted4192thereon will comply with applicable Laws or be adequate for any purpose, but4193shall merely be Landlord's consent to performance of the work by Tenant. Upon4194completion of any alteration, addition, or improvement, Tenant shall deliver to41954196-8-4197<PAGE>41984199Landlord accurate, reproducible as-built plans therefor. Notwithstanding the4200foregoing, Tenant may, without Landlord's consent, erect shelves, bins,4201machinery and trade fixtures, and may make non-structural alterations to the4202interior of the Premises which individually cost less than $5,000.00 and in the4203aggregate cost no more than $50,000.00, provided that such items (1) do not4204alter the basic character of or damage the Premises or the Building; (2) do not4205overload or damage the same; and (3) may be removed without damage to the4206Premises. Unless Landlord specifies in writing otherwise, all alterations,4207additions, and improvements shall be Landlord's property when installed in the4208Premises; provided, however, the following shall remain Tenant's property: (a)4209furniture, movable equipment and other personal property that is not attached to4210the floors, walls, or ceiling of the Premises; and (b) any other fixture,4211equipment, or other item, regardless of the manner of attachment, that is used4212primarily in Tenant's trade or business and that can be removed as a separate4213physical unit without damage to the Building and without interference with other4214tenants' use and enjoyment of their leased premises. All work performed by a4215Tenant Party in the Premises (including that relating to the installation,4216repair, replacement, or removal of any item) shall be performed in accordance4217with all applicable Laws and with Landlord's reasonable specifications and4218requirements, in a good and workmanlike, lien-free manner, and so as not to4219damage or alter the Building's Structure or the Premises. In connection with any4220such alteration, addition, or improvement, Landlord shall not be entitled to4221charge a construction management or supervision fee or other fee in connection4222with such work, provided, however, any fees of third party consultants shall be4223the responsibility of Tenant. Upon expiration of the Term or termination of4224Tenant's right to possess the Premises, Landlord may require Tenant to remove4225alterations installed in the Premises by or at the request of Tenant (excluding4226the initial Improvements constructed pursuant to Exhibit "B")so long as Landlord4227advised Tenant, at the time Landlord approved of the alterations in question4228that such alterations would be required to be removed upon the expiration or4229termination of this Lease or of Tenant's right to possession of the Premises to4230repair any damage to the Premises, caused by such removal, and to restore the4231Premises to the same condition and state of repair as existed prior to the4232installation of the alterations in question, ordinary wear and tear excepted. If4233Landlord elects to require Tenant to remove any alterations, it must do so by4234delivering to Tenant written notice thereof at the time Landlord consented to4235the alteration. Attached hereto as Exhibit "C" is a list of trade fixtures,4236equipment, or other items that shall remain the property of Tenant. Subject to4237Landlord's prior written approval (which approval shall not be unreasonably4238withheld or delayed and which approval shall in all events be deemed to have4239been given with respect to any furniture, equipment or other personal property4240that is not attached to the Premises or other fixture, equipment or other item,4241regardless of the manner of attachment, that is used primarily in Tenant's trade4242or business and which can be removed as a separate physical unit without damage4243to the Building), this list may be updated as alterations and additions are made4244to the Premises.424542467. SIGNS. Tenant shall not place, install or attach any signage,4247decorations,advertising media, blinds, draperies, window treatments, bars, or4248security installations to the Premises or the Building without Landlord's prior4249written consent. Landlord hereby grants the right to Tenant to install an4250exterior building sign on the facade of the Building fronting Windcrest Drive,4251the installation of which sign shall be at Tenant's sole cost (subject to the4252availability of the cash allowance as hereinafter provided), subject however to4253obtaining any approvals required by covenants, conditions and restrictions4254applicable to the Project. Tenant shall repair, paint, and/or replace any4255portion of the Premises or the Building damaged or altered as a result of its4256signage when it is removed (including, without limitation, any discoloration of4257the Building). Tenant shall not (a) make any changes to the exterior of the4258Premises or the Building, (b) install any exterior lights, decorations,4259balloons, flags, pennants, banners or paintings; or (c) erect or install any4260signs, windows or door lettering, decals, window or storefront stickers,4261placards, decorations or advertising media of any type that is visible from the4262exterior of the Premises without Landlord's prior written consent (which consent4263shall not be unreasonably withheld or delayed). Landlord shall not be required4264to notify Tenant of whether it consents to any sign until it (1) has received42654266-9-4267<PAGE>42684269detailed, to-scale drawings thereof specifying design, material composition,4270color scheme, and method of installation, and (2) has had a reasonable4271opportunity to review them (not to exceed five [5] business days). Landlord4272hereby agrees to provide Tenant with an allowance of $3,000.00 to be used by4273Tenant toward the cost for exterior signage at the entrance to the Premises to4274be in a design and location subject to Landlord's approval (which consent shall4275not be unreasonably withheld or delayed) and/or the signage to be installed on4276the Building's facade facing Windcrest Drive subject however to obtaining any4277approvals required by covenants, conditions and restrictions applicable to the4278Project. All work in connection with the Building signs of Tenant shall be done4279by Tenant at its sole cost and expense and all such signs must comply with all4280applicable laws and governmental requirements. Landlord agrees to cooperate with4281Tenant in obtaining any consents or approvals required from any governmental4282authorities or architectural review boards with respect to the signage of4283Tenant.428442858. UTILITIES. Tenant shall obtain and pay for all gas, electricity and4286telephone services used at the Premises, together with any taxes, penalties,4287surcharges, deposits, maintenance charges, and the like pertaining to the4288Tenant's use of such utilities within the Premises. All such utilities shall be4289separately metered and Tenant shall pay for the use of any such utility service4290directly to the utility provider. The utility services described in this Section42918 (but not any other utilities provided to the Premises) shall not be duplicated4292in Tenant's obligation to pay Tenant's Proportionate Share of Operating Expenses4293Excess under Section 2.(c) above. Except as provided in Section 4(e) above,4294Landlord shall not be liable for any interruption or failure of any utility4295service to the Premises including, but not limited to, utility service described4296in this Section 8.429742989. INSURANCE. Tenant shall maintain (a) workers' compensation insurance4299(with a waiver of subrogation endorsement reasonably acceptable to Landlord) and4300commercial general liability insurance (with contractual liability endorsement),4301including personal injury and property damage in the amount of $1,000,000 per4302occurrence combined single limit for personal injuries and death of persons and4303property damage occurring in or about the Premises, plus umbrella coverage of at4304least $2,000,000 per occurrence, and (b) fire and extended coverage insurance4305covering (1) the replacement cost of all alterations, additions, partitions and4306improvements installed in the Premises by or on behalf of a Tenant Party4307(including the initial Tenant's Work described on Exhibit "B"), and (2) the4308replacement cost of all of Tenant's personal property in the Premises. Such4309policies shall (A) name Landlord, Landlord's agents, and their respective4310Affiliates (defined below) of whose identity Landlord has given Tenant written4311notice in accordance with the terms hereof, as additional insureds, (B) be4312issued by an insurance company licensed to do business in the State of Texas4313with a Best's Guide Insurance Rating of A-VII, or better, and otherwise4314reasonably acceptable to Landlord, (C) provide that such insurance may not be4315canceled unless thirty (30) days' prior written notice is first given to4316Landlord, (D) be delivered to Landlord by Tenant before the Commencement Date4317and at least 30 days before each renewal thereof, and (E) provide primary4318coverage to Landlord when any policy issued to Landlord is similar or duplicate4319in coverage, in which case Landlord's policy shall be excess over Tenant's4320policies. The commercial general liability insurance required to be carried by4321Tenant pursuant to subsection (a) above may be carried by Tenant under blanket4322or umbrella policies covering other liabilities, properties and locations of4323Tenant.43244325Landlord shall procure and maintain throughout the Term, the cost of which shall4326be included as an Operating Expense, (1) fire and extended coverage insurance4327covering the Building in an amount not less than the full replacement cost of4328the Building, and (2) such other insurance as Landlord or Landlord's Mortgagee4329(hereinafter defined) shall require.43304331-10-4332<PAGE>4333433410. CASUALTY DAMAGE.43354336(a) Tenant immediately shall give written notice to Landlord of any4337damage to the Premises or the Building. If the Premises or the Building are4338totally destroyed by an insured peril, or so damaged by an insured peril that,4339in Landlord's reasonable estimation, rebuilding or repairs cannot be4340substantially completed within 180 days after the date of Landlord's actual4341knowledge of such damage, then either Landlord or Tenant may terminate this4342Lease by delivering to the other written notice thereof within thirty (30) days4343after such damage, in which case, the rent shall be abated during the unexpired4344portion of this Lease, effective upon the date such damage occurred. Time is of4345the essence with respect to the delivery of such notices.43464347(b) If this Lease is not terminated under Section 10.(a), then Landlord4348shall restore the Premises to substantially its previous condition, except that4349Landlord shall not be required to rebuild, repair or replace any part of the4350partitions, fixtures, additions and other improvements or personal property4351required to be covered by Tenant's insurance under Section 9 (unless Tenant4352makes available to Landlord the insurance proceeds received by Tenant with4353respect to the Tenant's Work in which event Landlord shall restore the Tenant's4354Work to their former condition to the extent of the insurance proceeds so made4355available by Tenant to Landlord). If the Premises are untenantable, in whole or4356in part, during the period beginning on the date such damage occurred and ending4357on the date of substantial completion of Landlord's repair or restoration work4358(the "Repair Period"), then the rent for such period shall be reduced to such4359extent as may be fair and reasonable under the circumstances.43604361(c) If the Premises are destroyed or substantially damaged and any4362Landlord's Mortgagee requires that insurance proceeds be applied to the4363indebtedness secured by its Mortgage (defined below) obligations, Landlord may4364terminate this Lease by delivering written notice of termination to Tenant4365within thirty (30) days after such destruction or damage or such requirement is4366made known by any such Landlord's Mortgagee, as applicable, whereupon all rights4367and obligations hereunder shall cease and terminate, except for any liabilities4368of Tenant which accrued before this Lease is terminated. Notwithstanding the4369foregoing provisions of this Section 10(c), Landlord agrees that it will use its4370best efforts to obtain the approval of any such Landlord's Mortgagee for the use4371of such insurance proceeds for the purpose of restoration of the Improvements in4372accordance with the terms of the Mortgage of such Landlord's Mortgagee.4373437411. LIABILITY, INDEMNIFICATION, WAIVER OF SUBROGATION AND NEGLIGENCE.43754376(a) Subject to Section 11.(c) below, Tenant shall indemnify, defend, and4377hold harmless Landlord, its successors, assigns, agents, employees, contractors,4378partners, directors, officers and affiliates (collectively, the "Landlord4379Indemnified Parties") from and against all fines, suits, losses, costs,4380liabilities, claims, demands, actions and judgments of every kind or character4381(1) arising from Tenant's failure to perform its covenants hereunder, (2)4382recovered from or asserted against any of the Landlord Indemnified Parties on4383account of any loss to the extent that any such loss may be incident to, arise4384out of, or be caused, wholly or in part, by a Tenant Party or any other person4385entering upon the Premises under or with a Tenant Party's express or implied4386invitation or permission, (3) arising from or out of the occupancy or use of the4387Premises by a Tenant Party or arising from or out of any occurrence in the4388Premises, howsoever caused, or (4) suffered by, recovered from or asserted4389against any of the Landlord Indemnified Parties by the employees, agents,4390contractors, or invitees of Tenant or its subtenants or assignees; provided,4391however, such indemnification of the Landlord Indemnified Parties by Tenant4392shall not be applicable to the extent such loss, damage, or injury is caused by4393the negligence or willful misconduct of Landlord or any of its duly authorized4394agents or employees or Landlord's breach of its obligations hereunder.43954396-11-4397<PAGE>43984399(b) Subject to Section 11.(c) below, Landlord shall indemnify, defend,4400and hold harmless Tenant, its successors, assigns, agents, employees,4401contractors, partners, directors, officers and affiliates (collectively, the4402"Tenant Indemnified Parties") from and against all fines, suits, losses, costs,4403liabilities, claims, demands, actions and judgments of every kind or character4404(1) arising from Landlord's failure to perform its covenants hereunder, (2)4405recovered from or asserted against any of the Tenant Indemnified Parties on4406account of any loss to the extent that any such loss may be incident to, arise4407out of, or be caused, wholly or in part, by Landlord or any agent, employee,4408invitee or contractor of Landlord (individually a "Landlord Party") or any other4409person entering upon the Premises under or with a Landlord Party's express or4410implied invitation or permission, (3) arising from or out of the use of the4411Lincoln R&D Legacy Project by a Landlord Party, or arising from or out of any4412occurrence in the Lincoln R&D Legacy Project caused by a Landlord Party, or (4)4413suffered by, recovered from or asserted against any of the Tenant Indemnified4414Parties by the employees, agents, contractors, or invitees of Landlord;4415provided, however, such indemnification of the Tenant Indemnified Parties by4416Landlord shall not be applicable to the extent such loss, damage, or injury is4417caused by the negligence or willful misconduct of Tenant or any of its duly4418authorized agents or employees or Tenant's breach of its obligations hereunder.44194420(c) Landlord and Tenant both waive any claim it might have against the4421other for any damage to or theft, destruction, loss, or loss of use of any4422property, to the extent the same is insured against under any insurance policy4423maintained by it (or that is required to be maintained by it under the terms of4424this Lease) that covers the Building, the Premises, Landlord's or Tenant's4425fixtures, personal property, leasehold improvements, or business, or is required4426to be insured against by the waiving party under the terms hereof, regardless of4427whether the negligence or fault of the other party caused such loss. Each party4428shall cause its insurance carrier to endorse all applicable policies waiving the4429carrier's rights of recovery under subrogation or otherwise against the other4430party.4431443212. USE.44334434(a) The Premises shall be used only for general office purposes and/or4435for purposes of receiving, storing, shipping and selling products, materials and4436merchandise made or distributed by Tenant and for such other lawful purposes as4437may be incidental thereto; however, no retail sales may be made from the4438Premises. Tenant shall not use, or permit the use of, the Premises to receive,4439store or handle any product, material or merchandise that is explosive or highly4440inflammable or hazardous except in accordance with the requirements of all4441applicable Laws. Outside storage is prohibited. Tenant shall be solely4442responsible for complying with all Laws applicable to the specific use by Tenant4443of the Premises and/or the Building (it being agreed that any Laws that are4444applicable to buildings generally, and not with respect to the Premises and4445Tenant's use thereof, shall be complied with by Landlord at its own expense and4446shall not be Tenant's obligations hereunder). Tenant and all Tenant Parties4447shall comply with all rules and regulations governing the use and occupancy of4448the Premises which are now or hereafter imposed by Landlord (provided, however,4449Tenant shall not be required to comply with any such rules and regulations4450hereinafter imposed by Landlord unless they are reasonable and written notice4451thereof is provided by Landlord to Tenant). Landlord shall enforce all such4452rules and regulations in a nondiscriminatory manner. In the event of any4453conflict or inconsistency between the terms of this Lease and any such rules and4454regulations, the terms of this Lease shall control. A copy of the rules and4455regulations now in force are attached as Exhibit "D". Tenant shall not cause or4456permit any reasonably objectionable or unpleasant odors, smoke, dust, gas,4457light, noise or vibrations to emanate from the Premises; nor take or permit any4458other action that would constitute a nuisance or would unreasonably disturb,4459unreasonably interfere with, or endanger Landlord or any other person; nor cause4460or permit the Premises to be used for any purpose or in any manner that would4461(1) void the insurance thereon, (2) materially increase the insurance risk, or4462(3) cause the disallowance of any sprinkler credits. Tenant shall pay to44634464-12-4465<PAGE>44664467Landlord within 10 days after demand any increase in the cost of any insurance4468on the Premises or the Building incurred by Landlord which is caused by Tenant's4469use of the Premises.44704471(b) Tenant and its employees and invitees shall have the non-exclusive4472right to use, in common with others, a maximum of one hundred forty-four (144)4473parking spaces (one [1] space for each two hundred fifty [250] square feet of4474Net Rentable Area in the Premises) associated with the Premises which Landlord4475has designated for such use, subject to (1) such reasonable written rules and4476regulations as Landlord may promulgate from time to time (and written notice of4477which rules and regulations is provided by Landlord to Tenant) and (2) rights of4478ingress and egress of other tenants and their employees, agents and invitees.4479Tenant shall have the right to designate five (5) of such parking spaces as4480"reserved visitor parking spaces" in a location agreed to by Landlord near the4481main entrance to the Premises. Landlord shall not be responsible for enforcing4482Tenant's parking rights against third parties.4483448413. INSPECTION. Landlord and Landlord's agents and representatives may4485enter the Premises during business hours to do the following (provided that4486Landlord shall not unreasonably interfere with Tenant's use and enjoyment of the4487Premises in connection therewith): inspect the Premises; to make such repairs as4488may be required or permitted under this Lease; to perform any unperformed4489obligations of Tenant hereunder; and to show the Premises to prospective4490purchasers, mortgagees, ground lessors, and (during the last six (6) months of4491the Term) tenants. During the last six (6) months of the Term, Landlord may4492erect a sign on the Premises indicating that the Premises are available. At4493least thirty (30) days before the date on which Tenant is anticipated to vacate4494the Premises ("Vacation Date"), Tenant and Landlord shall meet for a joint4495inspection of the Premises. After such inspection, Landlord and Tenant shall4496prepare a list of items, if any, that Tenant must perform before the Vacation4497Date and which are consistent with Tenant's obligations under this Lease. If4498Tenant fails to perform such work before the Vacation Date, then Landlord may4499perform such work at Tenant's cost. Tenant shall pay all reasonable costs4500incurred by Landlord in performing such work within ten days after Landlord's4501request therefor.4502450314. ASSIGNMENT AND SUBLETTING.45044505(a) Tenant shall not, without the prior written consent of Landlord, (1)4506advertise that any portion of the Premises is available for lease or cause or4507allow any such advertisement, (2) assign, transfer, or encumber this Lease or4508any estate or interest herein, whether directly or by operation of law, (3)4509sublet any portion of the Premises, or (4) grant any license, concession, or4510other right of occupancy of any portion of the Premises, or (5) permit the use4511of the Premises by any party other than Tenant (any of the events listed in4512Sections 14.(a)(1) through 14.(a)(5) being a "Transfer"). Landlord will not4513unreasonably withhold or delay its consent to an assignment of Tenant's interest4514in the Lease or a sublease of the Premises or to the grant of a license,4515concession or other right of occupancy if the proposed use of the Premises by4516the assignee, sublessee, licensee or occupant is reasonably acceptable to4517Landlord. If Tenant requests Landlord's consent to a Transfer, then Tenant shall4518provide Landlord with a written description of all terms and conditions of the4519proposed Transfer, copies of the proposed documentation, and the following4520information about the proposed transferee: name and address; information about4521its business and business history; its proposed use of the Premises; banking,4522financial, and other credit information; and general references sufficient to4523enable Landlord to determine the proposed transferee's creditworthiness and4524character. Tenant shall reimburse Landlord for its reasonable attorneys' fees4525incurred in connection with considering any request for its consent to a4526Transfer. If Landlord consents to a proposed Transfer, then the proposed4527transferee shall deliver to Landlord a written agreement whereby it expressly4528assumes the Tenant's obligations hereunder (however, any transferee of less than4529all of the space in the Premises shall be liable only for obligations under this45304531-13-4532<PAGE>45334534Lease that are properly allocable to the space subject to the Transfer, and only4535to the extent of the rent it has agreed to pay Tenant therefor) that accrue or4536are performable from and after the date of the Transfer in question. Landlord's4537consent to a Transfer or a Permitted Transaction shall not release Tenant from4538performing its obligations under this Lease, but rather Tenant and its4539transferee shall be jointly and severally liable therefor. Landlord's consent to4540any Transfer shall not waive Landlord's rights as to any subsequent Transfers.4541If an Event of Default occurs while the Premises or any part thereof are subject4542to a Transfer, then Landlord, in addition to its other remedies, may collect4543directly from such transferee all rents becoming due to Tenant and apply such4544rents against Tenant's rent obligations. Tenant authorizes its transferees to4545make payments of rent directly to Landlord upon receipt of notice from Landlord4546to do so. Notwithstanding the foregoing, Tenant may, without Landlord's consent,4547(i) assign this Lease or sublet the Premises to any affiliate of Tenant, and4548(ii) assign this Lease in connection with the sale of substantially all of the4549assets of Tenant as an entirety. In addition, the merger, consolidation,4550reorganization or other change in the ownership or control of Tenant shall not4551constitute an assignment or subletting or require Landlord's consent. The4552transactions prescribed in the preceding two sentences shall be referred to4553herein as the "Permitted Transactions".45544555(b) Tenant hereby assigns, transfers and conveys fifty percent (50%) of4556all consideration received by Tenant under any Transfer, which are in excess of4557the rents payable by Tenant under this Lease to Landlord, and Tenant shall hol4558such amounts in trust for Landlord and pay them to Landlord within ten (10) days4559after receipt. Notwithstanding the foregoing, this Section 14(b) shall not apply4560to any Permitted Transaction.4561456215. CONDEMNATION. If any portion of the Premises is taken for any public4563or quasi-public use by right of eminent domain or private purchase in lieu4564thereof (a "Taking"), or any portion of the Building or the parking area4565associated with the Building is taken such that the Taking prevents or4566materially and adversely interferes with the use of the remainder of the4567Premises for the purpose for which they were leased to Tenant, either party may4568terminate this Lease by delivering to the other written notice thereof within4569thirty (30) days after the Taking, in which case rent shall be abated during the4570unexpired portion of the Term, effective as of the date of such Taking. Tenant4571shall not have the right to terminate this Lease if a portion of the parking4572area associated with the Building is taken provided that Landlord provides4573Tenant with alternative parking in some other area of the Project or otherwise4574in close proximity to the Premises, and which complies with all applicable laws4575and ordinances. If this Lease is not terminated as provided above, the rent4576payable during the unexpired portion of the Term shall be reduced to such extent4577as may be fair and reasonable under the circumstances and Landlord shall4578reconstruct the Building and the Premises to an architecturally and functionally4579complete unit comparable in condition and utility to that which exists prior to4580the Taking to the extent reasonably possible. All compensation awarded for any4581Taking shall be the property of Landlord and Tenant assigns any interest it may4582have in any such award to Landlord; however, Landlord shall have no interest in4583any award made to Tenant for loss of business or goodwill or for the taking of4584Tenant's trade fixtures.4585458616. SURRENDER OF PREMISES, HOLDING OVER.45874588(a) No act by Landlord shall be an acceptance of a surrender of the4589Premises, and no agreement to accept a surrender of the Premises shall be valid4590unless it is in writing and signed by Landlord. At the end of the Term or the4591termination of Tenant's right to possess the Premises, Tenant shall (1) deliver4592to Landlord the Premises with all improvements located thereon in the same4593condition and state of repair as when received by Tenant (provided that Tenant4594shall not have any obligation to remove any alterations which it is not4595otherwise required to remove under Section 6 hereof), reasonable wear and tear4596(subject however to Tenant's maintenance obligations), (2) deliver to Landlord4597all keys to the Premises, and (3) remove all signage placed on the Premises, the45984599-14-4600<PAGE>46014602Building, or the Land by or at Tenant's request. All fixtures, alterations,4603additions, and improvements (whether temporary or permanent) shall be Landlord's4604property and shall remain on the Premises except as provided in Section 6 above.4605All items so requested to be removed which are not so removed shall, at the4606option of Landlord, be deemed abandoned by Tenant and may be appropriated, sold,4607stored, destroyed, or otherwise disposed of by Landlord without notice to Tenant4608and without any obligation to account for such items and Tenant shall pay for4609the reasonable costs incurred by Landlord in connection therewith. All work4610required of Tenant under this Section 16.(a) shall be coordinated with Landlord4611and be done in a good and workmanlike manner, in accordance with all applicable4612Laws, and so as not to damage the Building or unreasonably interfere with other4613tenants' use of their premises. Tenant shall, at its expense, repair all damage4614caused by any work performed by Tenant under this Section 16.(a). Without4615limiting the generality of the foregoing, delivery of the Premises in compliance4616with this Section 16.(a) shall require that Tenant cause the following (which is4617not an exclusive list) to be true as of the date of surrender:46184619(1) Warehouse floor is broom swept and clean of all trash and materials.46204621(2) Warehouse floor is cleaned of excessive oils, fluids and other4622foreign materials.46234624(3) All electrical, plumbing, and other utilities which are terminated4625are disconnected, capped and/or terminated according to applicable4626building codes and all other governmental requirements.46274628(4) All electrical conduit and wiring installed by Tenant specifically4629for Tenant's equipment are removed to originating electrical panel4630if Landlord so requires.46314632(5) Overhead interior and exterior doors are operational and in good4633condition.46344635(6) Any bolts secured to floor are cut off flush and sealed with epoxy.46364637(7) Warehouse fencing or partitions are removed if Landlord so requires.46384639(8) All furniture, trash and debris are removed.46404641(9) All pictures, posters, signage, stickers and all similar items are4642removed from all walls, windows, doors and all other interior and4643exterior surfaces of the Premises.46444645(10) Carpet areas are vacuumed.46464647(11) All uncarpeted office floors are swept.46484649(12) All doors, windows, and miscellaneous hardware are operational if4650Landlord so requires.46514652(13) Ceiling tiles, grid, light lenses, air grills and diffusers are in4653place with no holes or stains.46544655(14) There are no broken windows or other glass items.46564657(15) Bathroom walls, floors, and fixtures are clean.46584659-15-4660<PAGE>46614662(16) All plumbing fixtures are intact and operational and do not leak.46634664(17) All downspouts are undamaged and operational.46654666(18) Inside walls are reasonably clean and any holes in the walls or roof4667are properly and permanently patched.46684669Notwithstanding the foregoing, Tenant shall in all events have the right to4670remove its modular cleaning room and in connection therewith, Tenant shall at4671its expense repair any roof penetration associated with such cleaning room.4672Tenant shall in all events be responsible for repairing any and all damage4673caused to the Premises and the Building in connection with its vacation of the4674Premises. Nothing contained herein shall require Tenant to deliver the Premises4675to Landlord in a condition or state of repair that is better than that in which4676Tenant receives same from Landlord.46774678(b) If Tenant fails to vacate the Premises at the end of the Term, then4679Tenant shall have the right to holdover for a period of 90 days following the4680expiration of the Term (with the actual period of holdover to be determined by4681Tenant), and after said initial 90-day holdover period Tenant shall be a tenant4682at will and Tenant shall pay, in addition to the other rent due hereunder, a4683daily Base Rent equal to (i) the Base Rent payable during the last month of the4684Term for the first ninety (90) days of holding over, and (ii) one hundred fifty4685percent (150%) of the daily Base Rent payable during the last month of the Term4686for each day thereafter. Additionally, Tenant shall defend, indemnify, and hold4687harmless Landlord from any damage, liability and expense (including attorneys'4688fees and expenses) incurred because of such holding over. No payments of money4689by Tenant to Landlord after the Term shall reinstate, continue or extend the4690Term, and no extension of this Term shall be valid unless it is in writing and4691signed by Landlord and Tenant.4692469317. QUIET ENJOYMENT. Provided Tenant has fully performed its obligations4694under this Lease, Tenant shall peaceably and quietly hold and enjoy the Premises4695for the Term, without hindrance from any party claiming by, through, or under4696Landlord.4697469818. EVENTS OF DEFAULT. Each of the following events shall constitute an4699"Event of Default" under this Lease:47004701(a) Tenant fails to pay any rent when due, or any payment or4702reimbursement required under any other provisions of this Lease, and such4703failure continues for a period of ten (10) days after written notice from4704Landlord to Tenant [provided, however, Tenant shall be entitled to such notice4705and opportunity to cure on only two (2) occasions during any twelve (12) month4706period].47074708(b) The filing of a petition by or against Tenant or any guarantor of4709Tenant's obligations hereunder (1) in any bankruptcy or other insolvency4710proceeding; (2) seeking any relief under any debtor relief Law; (3) for the4711appointment of a liquidator, receiver, trustee, custodian, or similar official4712for all or substantially all of Tenant's property or for Tenant's interest in4713this Lease; or (4) for reorganization or modification of Tenant's capital4714structure [however, if any such petition is filed against Tenant, then the4715filing of such petition shall not constitute an Event of Default, unless it is4716not dismissed within sixty (60) days after the filing thereof].47174718(c) Tenant fails to discharge any lien placed upon the Premises in4719violation of Section 22 below within thirty (30) days after Tenant's knowledge4720of any such lien or encumbrance having been filed against the Premises.47214722-16-4723<PAGE>47244725(d) Tenant fails to comply with any term, provision or covenant of this4726Lease (other than those listed above in this Section 18), and such failure4727continues for thirty (30) days after written notice thereof to Tenant (provided,4728however, if such failure cannot through the exercise of reasonable diligence be4729cured within thirty (30) days, then Tenant shall be entitled to such additional4730time as is reasonably necessary to cure such failure so long as Tenant commences4731its curative efforts within such 30 day period and diligently prosecutes same to4732completion).4733473419. REMEDIES.47354736(a) Upon any Event of Default, Landlord may, in addition to all other4737rights and remedies afforded Landlord hereunder or by Law, take any of the4738following actions:47394740(1) Terminate this Lease by giving, Tenant written notice4741thereof, in which event, Tenant shall pay to Landlord the sum of (A) all4742rent accrued hereunder through the date of termination, (B) all amounts due4743under Section 19.(b) below, and (C) an amount equal to (i) the total rent4744that Tenant would have been required to pay for the remainder of the Term4745discounted to a present value at a per annum rate equal to the "Prime Rate"4746as published on the date this Lease is terminated by The Wall Street4747Journal, Southwest Edition, in its listing of "Money Rates", minus (ii) the4748then present fair rental value of the Premises for such period, similarly4749discounted; or47504751(2) Terminate Tenant's right to possess the Premises without4752terminating this Lease by giving written notice thereof to Tenant, in which4753event Tenant shall pay to Landlord (A) all rent and other amounts accrued4754hereunder to the date of termination of possession, (B) all amounts due4755from time to time under Section 19.(b) below, and (C) all rent and4756other sums required hereunder to be paid by Tenant during the remainder4757of the Term, diminished by any net sums thereafter received by Landlord4758through reletting the Premises during such period; however, Landlord4759shall not be liable for, nor shall Tenant's obligations hereunder be4760diminished because of, Landlord's failure to relet the Premises or to4761collect rent due for a reletting. Tenant shall not be entitled to the4762excess of any consideration obtained by reletting over the rent due4763hereunder. Reentry by Landlord in the Premises shall not affect4764Tenant's obligations hereunder for the unexpired Term; rather, Landlord4765may, from time to time, bring action against Tenant to collect amounts4766due by Tenant, without the necessity of Landlord's waiting until the4767expiration of the Term. Unless Landlord delivers written notice to4768Tenant expressly stating that it has elected to terminate this Lease,4769all actions taken by Landlord to exclude or dispossess Tenant of the4770Premises shall be deemed to be taken under this Section 19.(a)(2). If4771Landlord elects to proceed under this Section 19.(a)(2), it may at any4772time elect to terminate this Lease under Section 19.(a)(1) above.47734774Additionally, without notice, except as may be provided by Laws, Landlord may4775alter locks or other security devices at the Premises to deprive Tenant of4776access thereto, and Landlord shall not be required to provide a new key or right4777of access to Tenant; provided, however, that Landlord shall provide Tenant4778reasonable access to remove its personal property as provided in Section 164779hereof.47804781(b) Tenant shall pay to Landlord all costs and expenses incurred by4782Landlord (including court costs and reasonable attorneys' fees and expenses) in4783(1) obtaining possession of the Premises, (2) removing and storing Tenant's or4784any other occupant's property, (3) repairing, restoring, altering, remodeling,4785or otherwise putting the Premises into condition acceptable to a new tenant, (4)4786if Tenant is dispossessed of the Premises and this Lease is not terminated,4787reletting all or any part of the Premises (including brokerage commissions, cost4788of tenant finish work, and other costs incidental to such reletting), (5)47894790-17-4791<PAGE>47924793performing Tenant's obligations which Tenant failed to perform, and (6)4794enforcing, or advising Landlord of, its rights, remedies, and recourses.4795Landlord's acceptance of rent following an Event of Default shall not waive4796Landlord's rights regarding such Event of Default. Landlord's receipt of rent4797with knowledge of any default by Tenant hereunder shall not be a waiver of such4798default, and no waiver by Landlord of any provision of this Lease shall be4799deemed to have been made unless set forth in writing and signed by Landlord. No4800waiver by either party of any violation or breach of any of the terms contained4801herein shall waive such party's rights regarding any future violation of such4802term or violation of any other term. If Landlord repossesses the Premises4803pursuant to the authority herein granted, then Landlord shall have the right4804after notice to Tenant and a reasonable opportunity for Tenant to remove the4805property described on Exhibit "C" to (A) keep in place or (B) remove and store,4806at Tenant's expense, all of the furniture, fixtures, equipment and other4807property deemed abandoned by Tenant in the Premises, including that which is4808owned by or leased to Tenant at all times before any repossession thereof by any4809lessor thereof or third party having a lien thereon. Landlord may relinquish4810possession of all or any portion of such furniture, fixtures, equipment and4811other property to any person (a "Claimant") who presents to Landlord a copy of4812any instrument represented by Claimant to have been executed by Tenant (or any4813predecessor of Tenant) granting Claimant the right under various circumstances4814to take possession of such furniture, fixtures, equipment or other property,4815(provided, however, Landlord shall exercise due care in ascertaining the4816authenticity or legality of the instrument in question). The rights of Landlord4817herein stated are in addition to any and all other rights that Landlord has or4818may hereafter have at law or in equity, and Tenant agrees that the rights herein4819granted Landlord are commercially reasonable except that other than as4820specifically provided hereinabove, Landlord shall not be entitled to recover4821consequential, special or punitive damages from Tenant). In connection with any4822Event of Default, Landlord shall use its reasonable efforts to mitigate any4823damages arising out of such Event of Default.48244825For good and valuable consideration, Landlord hereby waives any and all4826landlord's liens (whether statutory, constitutional or otherwise) and agrees,4827upon Tenant's request, to execute such further instruments as may be reasonably4828required by Tenant to further evidence such waiver.4829483020. LANDLORD'S DEFAULT. If Landlord fails to perform any of its4831obligations hereunder and such failure continues beyond the time reasonably4832necessary for Landlord to cure such failure following written notice thereo4833from Tenant to Landlord, then Landlord shall be deemed in default, and Tenant4834may pursue such remedies as are provided in this Lease or otherwise available at4835law or in equity. In addition, in the event the default by Landlord is (a)4836failure to complete the Premises in accordance with the provisions of the4837ConstructionAgreement attached hereto as Exhibit "B", (b) failure to pay the4838Cash Allowance in accordance with the provisions of such Construction Agreement,4839(c) failure to perform its maintenance and repair obligations pursuant to4840Section 4 of the Lease, or (d) failure to pay Taxes prior to the date such Taxes4841become delinquent in accordance with the provisions of Section 3(a) or failure4842to maintain the insurance required to be maintained by Landlord pursuant to the4843provisions of Section 9, then, after a second written notice to Landlord4844advising Landlord that it intends to cure such failure, Tenant may proceed with4845the cure of such failure on behalf of Landlord so long as in doing so in4846connection with the curing of the matters described in subsections (a) and (c)4847hereinabove, Tenant does not interfere with the rights of any other tenant of4848the Building, and all such improvements, alterations and repairs are made with4849new materials and in a good and workmanlike manner. Landlord shall pay to4850Tenant, within ten (10) business days after demand, all reasonable sums expended4851by Tenant in curing such failure (together with interest thereon at the highest4852non-usurious interest rate permitted by applicable law, from the date the4853expense in question was incurred by Tenant until the amount in question is4854repaid to Tenant). In the event Landlord fails to reimburse Tenant within said4855ten (10) business day period with respect to any matter pursuant to which Tenant4856exercised its self help remedy granted above, then Tenant shall have the right4857to offset the amount it is owed by Landlord against the next accruing4858installments of Base Rent in an amount equal to twenty-five percent (25%) of the48594860-18-4861<PAGE>48624863amount of each such installment of Base Rent until such time as Tenant has been4864fully reimbursed for the amount due from Landlord. Unless Landlord fails to so4865cure such default after such notice, Tenant shall not have remedy or cause of4866action by reason thereof In the event Landlord or Tenant shall be delayed,4867hindered or prevented from the performance of any act required hereunder of4868Landlord or Tenant (as the case may be) by reason of Events of Force Majeure,4869then the performance of such act shall be excused for the period of the delay4870and the period for the performance of any such act shall be extended for a4871period equivalent to the period of such delay; provided, however, this provision4872shall in no event operate to extend any period of time for Tenant to pay any4873Rent or any other monetary obligation of Tenant under the terms of this Lease.4874Liability of Landlord to Tenant for any default by Landlord shall be limited to4875the actual and direct, but not consequential, special or punitive, damages4876therefor and shall be recoverable only from the interest of Landlord in the4877Building and the Land, and neither Landlord nor Landlord's partners,4878shareholders, officers, directors, employees, agents or attorneys shall have any4879personal liability therefor; provided, however, the foregoing shall not be4880construed to limit Tenant's equitable remedies or remedies expressly provided in4881this Lease.4882488321. MORTGAGES.48844885(a) This Lease shall be subordinate to any deed of trust, mortgage or4886other security instrument (a "Mortgage"), and any ground lease, master lease, or4887primary lease (a "Primary Lease") that now or hereafter covers any portion of4888the Premises (the mortgagee under any Mortgage or the lessor under any Primary4889Lease is referred to herein as "Landlord's Mortgagee"), and to increases,4890renewals, modifications, consolidations, replacements, and extensions thereof;4891provided, however, the subordination of this Lease to the Mortgage affecting the4892Premises as of the effective date of this Lease and to any future Mortgage is4893expressly conditioned upon Tenant and the Landlord's Mortgagee in question4894entering into a subordination non-disturbance and attornment agreement in a form4895and substance reasonably acceptable to Tenant ("SNDA"). Landlord will use its4896good faith efforts to obtain a SNDA from any future Landlord's Mortgagee. Any4897Landlord's Mortgagee may elect to subordinate its Mortgage or Primary Lease (as4898the case may be) to this Lease by delivering written notice thereof to Tenant.4899Tenant shall from time to time within ten (10) days after request therefor,4900execute any instruments that may be required by any Landlord's Mortgagee to4901evidence the subordination of this Lease to any such Mortgage or Primary Lease4902consistent with the terms hereof. Landlord agrees that it will, concurrently4903with the execution hereof, obtain an SNDA from Landlord's Mortgagee as of the4904date of this Lease in a form reasonably acceptable to Tenant, consenting,4905agreeing to and recognizing the continuation of Tenant's rights under this Lease4906so long as no Event of Default by Tenant exists hereunder, and such form of SNDA4907shall be attached to this Lease as Exhibit "l" and made a part hereof for all4908purposes. Tenant agrees that an SNDA in substantially the form as attached4909hereto as Exhibit "I" from any future Landlord's Mortgagee will be acceptable to4910Tenant.49114912(b) Tenant shall attorn to any party succeeding to Landlord's interest4913in the Premises, whether by purchase, foreclosure, deed in lieu of foreclosure,4914power of sale, termination of lease, or otherwise, upon such party's request,4915and shall execute such agreements confirming such attornment as such party may4916reasonably request provided such agreements are consistent with the terms of the4917applicable SNDA entered into by Tenant and such party. Tenant shall not seek to4918enforce any remedy it may have for any default on the part of Landlord without4919first giving written notice by certified mail, return receipt requested,4920specifying the default in reasonable detail to any Landlord's Mortgagee whose4921address has been given to Tenant, and affording such Landlord's Mortgagee the4922same opportunity to which Landlord is entitled hereunder to perform such4923obligations (which cure period for Landlord's Mortgagee shall run concurrently4924with Landlord's cure period).4925492622. ENCUMBRANCES. Tenant has no authority, express or implied, to create4927or place any lien or encumbrance of any kind or nature whatsoever upon, or in49284929-19-4930<PAGE>49314932any manner to bind Landlord's property or the interest of Landlord or Tenant in4933the Premises or the Building or to charge the rent for any claim in favor of any4934person dealing with Tenant, including those who may furnish materials or perform4935labor for any construction or repairs. Tenant shall pay or cause to be paid all4936sums due for any labor performed or materials furnished in connection with any4937work performed on the Premises by or at the request of Tenant. Tenant shall give4938Landlord immediate written notice of the placing of any lien or encumbrance4939against the Premises. The provisions of this Section 22 shall not be applicable4940to the initial Improvements constructed by Landlord pursuant to the terms4941hereof.4942494323. MISCELLANEOUS.49444945(a) Words of any gender used in this Lease shall include any other4946gender, and words in the singular shall include the plural, unless the context4947otherwise requires. The captions inserted in this Lease are for convenience only4948and in no way affect the interpretation of this Lease. The following terms shall4949have the following meanings: "Laws" shall mean all federal, state and local4950laws, rules, and regulations; all court orders, governmental directives, and4951governmental orders; and all restrictive covenants affecting Tenant or the4952Premises, and "Law" shall mean any of the foregoing; "affiliate" shall mean any4953person or entity which, directly or indirectly, controls, is controlled by, or4954is under common control with the party in question; and "Tenant Party" shall4955include Tenant, any assignees claiming by, through, or under Tenant, any4956subtenants claiming by, through, or under Tenant, and any of their respective4957agents, contractors, employees, and invitees.49584959(b) Landlord may transfer and assign, in whole or in part, its rights4960and obligations in the Building and property that are the subject of this Lease,4961in which case Landlord shall have no further liability hereunder with the4962respect to covenants performable from and after the date of such transfer and4963assignment, provided that Landlord's assignee assumes all of Landlord's4964obligations under this Lease. Each party shall furnish to the other, promptly4965upon demand, a corporate resolution, proof of due authorization by partners, or4966other appropriate documentation evidencing the due authorization of such party4967to enter into this Lease.49684969(c) Tenant shall, from time to time, within ten (10) days after request4970of Landlord, deliver to Landlord, or Landlord's designee, the most recent4971publicly available financial statements for Tenant and an estoppel certificate4972stating that this Lease is in full effect, the date to which rent has been paid,4973the unexpired Term and such other factual matters pertaining to this Lease as4974may be requested by Landlord (provided, however, Tenant shall be entitled to4975make such changes to such estoppel certificate as are necessary to make the4976statements therein factually accurate). Tenant's obligation to furnish the4977above-described items in a timely fashion is a material inducement for4978Landlord's execution of this Lease.49794980(d) This Lease constitutes the entire agreement of the Landlord and4981Tenant with respect to the subject matter of this Lease, and contains all of the4982covenants and agreements of Landlord and Tenant with respect thereto. Landlord4983and Tenant each acknowledge that no representations, inducements, promises or4984agreements, oral or written, have been made by Landlord or Tenant, or anyone4985acting on behalf of Landlord or Tenant, which are not contained herein, and any4986prior agreements, promises, negotiations, or representations not expressly set4987forth in this Lease are of no effect. This Lease may not be altered, changed or4988amended except by an instrument in writing signed by both parties hereto.49894990(e) All obligations of Tenant hereunder not fully performed by the end4991of the Term shall survive, including, without limitation, all payment4992obligations with respect to Taxes and insurance and all obligations concerning4993the condition and repair of the Premises. Landlord's obligation to return the49944995-20-4996<PAGE>49974998Security Deposit, if any, shall survive the expiration of the Term. Tenant4999shall, prior to vacating the Premises, pay to Landlord the prorated amount, as5000estimated by Landlord, of Tenant's obligation hereunder for Operating Expenses5001Excess for the year in which the Term ends (which amount shall be reconciled5002once the actual Operating Expense Excess for the year in question is determined5003pursuant to Section 2(c) above, at which time a cash settlement shall be5004effected between Landlord to Tenant to reconcile such payment). All such amounts5005shall be used and held by Landlord for payment of such obligations of Tenant5006hereunder, with Tenant being liable for any additional costs therefor upon5007demand by Landlord or with any excess to be returned to Tenant after all such5008obligations have been determined and satisfied as the case may be. Any Security5009Deposit held by Landlord may be credited against the amount due by Tenant under5010this Section 23.(e).50115012(f) If any provision of this Lease is illegal, invalid or unenforceable,5013then the remainder of this Lease shall not be affected thereby, and in lieu of5014each such provision, there shall be added, as a part of this Lease, a provision5015as similar in terms to such illegal, invalid or unenforceable clause or5016provision as may be possible and be legal, valid and enforceable.50175018(g) All references in this Lease to "the date hereof" or similar5019references shall be deemed to refer to the last date, in point of time, on which5020all parties hereto have executed this Lease.50215022(h) Landlord and Tenant each warrant to the other that it has not dealt5023with any broker or agent in connection with this Lease except for Daniel M.5024Arnold of Swearingen Realty Group, LLC ("Broker"). Tenant and Landlord shall5025each indemnify the other against all costs, attorneys' fees, and other5026liabilities for commissions or other compensation claimed by any broker or agent5027claiming the same by, through, or under the indemnifying party. Landlord shall5028pay Broker a real estate commission pursuant to the terms and conditions of a5029separate agreement between Landlord and Broker.50305031(i) If and when included within the term "Tenant", as used in this5032instrument, there is more than one person, firm or corporation, all shall5033jointly arrange among themselves for their joint execution of a notice5034specifying an individual at a specific address within the continental United5035States for the receipt of notices and payments to Tenant. All parties included5036within the terms "Landlord" and "Tenant", respectively, shall be bound by5037notices given in accordance with the provisions of Section 24 to the same effect5038as if each had received such notice.50395040(j) The terms and conditions of this Lease are confidential and neither5041party shall disclose the terms of this Lease to any third party except as may be5042required by law or to enforce its rights hereunder; provided, however, each5043party may disclose the terms hereof to its attorneys, accountants, consultants,5044and advisors, as well as present and prospective investors, lenders and other5045financing sources.50465047(k) Tenant shall pay interest on all past-due rent from the date due5048until paid at the maximum lawful rate. In no event, however, shall the charges5049permitted under this Section 23.(k) or elsewhere in this Lease, to the extent5050they are considered to be interest under applicable Law, exceed the maximum5051lawful rate of interest.50525053(l) This Lease may be executed in any number of counterparts, each of5054which shall be an original, but such counterparts together shall constitute one5055and the same instrument.5056505724. NOTICES. Each provision of this instrument or of any applicable Laws5058and other requirements with reference to the sending, mailing or delivering of5059notice or the making of any payment hereunder shall be deemed to be complied5060with when and if the following steps are taken:50615062-21-5063<PAGE>50645065(a) All rent shall be payable to Landlord at the address for Landlord5066set forth below its signature on the signature page of this Lease, or at such5067other address as Landlord may specify from time to time by written notice5068delivered in accordance herewith. Tenant's obligation to pay rent shall not be5069deemed satisfied until such rent has been actually received by Landlord.50705071(b) All payments required to be made by Landlord to Tenant hereunder5072shall be payable to Tenant at the address set forth below its signature on the5073signature page of this Lease, or at such other address within the continental5074United States as Tenant may specify from time to time by written notice5075delivered in accordance herewith.50765077(c) Any written notice or document required or permitted to be delivered5078hereunder shall be delivered to the parties at their respective addresses set5079forth below their signatures on the signature page on this Lease, or at such5080other address as either such party may specify from time to time by written5081notice delivered in accordance herewith, and shall be deemed to be delivered5082upon the earlier to occur of (1 ) tender of delivery (in the case of a hand5083delivered notice), (2) deposit in the United States Mail, postage prepaid,5084certified mail, return receipt requested, or (3) receipt by facsimile5085transmission, in each case, addressed to the parties hereto at the respective5086addresses set out below, or at such other address as they have theretofore5087specified by written notice delivered in accordance herewith. If Landlord has5088attempted to deliver notice to Tenant at Tenant's address reflected on5089Landlord's books but such notice was returned or acceptance thereof was refused,5090then Landlord may post such notice in or on the Premises, which notice shall be5091deemed delivered to Tenant upon the posting thereof.5092509325. HAZARDOUS WASTE. The term "Hazardous Substances", as used in this5094Lease, shall mean pollutants, contaminants, toxic or hazardous wastes, or any5095other substances, the removal of which is required or the use of which is5096restricted, prohibited or penalized by any "Environmental Law", which term shall5097mean any Law relating to health, pollution, or protection of the environment.5098Tenant hereby agrees that (a) no activity will be conducted on the Premises that5099will produce any Hazardous Substances, except for such activities that are part5100of the ordinary course of Tenant's business activities (the "Permitted5101Activities") provided such Permitted Activities are conducted in accordance with5102all Environmental Laws; (b) the Premises will not be used in any manner for the5103storage of any Hazardous Substances except for storage of such materials that5104are used in the ordinary course of Tenant's business (the "Permitted Materials")5105provided such Permitted Materials are properly stored in a manner and location5106satisfying all Environmental Laws; (c) no portion of the Premises will be used5107as a landfill or a dump; (d) Tenant will not install any underground tanks of5108any type; (e) Tenant will not cause any surface or subsurface conditions come5109into existence that constitute, or with the passage of time may constitute a5110public or private nuisance; and (f) Tenant will not permit any Hazardous5111Substances to be brought onto the Premises, except for the Permitted Materials,5112and if so brought or found located thereon, the same shall be immediately5113removed by Tenant, with proper disposal, and all required cleanup procedures5114shall be diligently undertaken pursuant to all Environmental Laws. If at any5115time during or after the Term, the Premises are found to be so contaminated or5116subject to such conditions as a result of Tenant's use of the Premises or breach5117of this Lease, or if Tenant is in violation of any Environmental Law, Tenant5118shall defend, indemnify and hold Landlord harmless from all claims, demands,5119actions, liabilities, costs, expenses, damages and obligations of any nature5120arising from or as a result of the use of the Premises by Tenant. The Hazardous5121Substances which will be used and/or stored by Tenant on the Premises in5122accordance with the terms of this Section 25 are reflected on Exhibit "J"5123attached hereto and made a part hereof for all purposes, and no other Hazardous5124Substances will be brought on the Premises without the prior written approval of5125Landlord, which approval shall not be unreasonably withheld or delayed, and if5126approved, such additional Hazardous Substances will be added to Exhibit "J" to5127this Lease. Landlord may enter the Premises and conduct environmental51285129-22-5130<PAGE>51315132inspections and tests therein as it may require from time to time, provided that5133Landlord shall use reasonable efforts to minimize the interference with Tenant's5134business. Such inspections and tests shall be conducted at Landlord's expense,5135unless they reveal the presence of Hazardous Substances (other than Permitted5136Materials) that are caused by Tenant, or that Tenant has not complied with the5137requirements set forth in this Section 25, in which case Tenant shall reimburse5138Landlord for the reasonable cost thereof within ten (10) days after Landlord's5139request therefor. Nothing in this Section shall require Tenant to indemnify5140Landlord for any matters arising out of or caused by the actions or omissions of5141Landlord, its employees, agents, contractors, licensees, or invitees. Landlord5142represents to Tenant that, to the best of Landlord's actual knowledge, the5143Building will not contain asbestos, PCBs or any other Hazardous Substances.5144Landlord agrees that it will provide Tenant with a copy of any environmental5145report relating to the Building that Landlord has in its possession as of the5146date of execution of this Lease.5147514826. ROOF DISH. Subject to the provisions of this Section 26, and subject5149to any applicable restrictive covenants and applicable laws, Tenant shall have5150the right to install, maintain and operate upon the roof of the Building (in a5151location approved by Landlord) a satellite dish and related equipment5152(collectively, the "Communications Equipment") for its use in the conduct of5153Tenant's business so long as the installation of such Communications Equipment5154does not affect the structural integrity or aesthetics of the Building as5155determined in Landlord's reasonable discretion (provided, however, if Landlord5156reasonably determines that the aesthetics of the Building are affected thereby,5157Tenant shall have the right to screen such installation in a manner reasonably5158acceptable to Landlord in order to mitigate the effect on the aesthetics of the5159Building). Tenant agrees to pay all costs incurred in connection with Tenant's5160installation, operation, utilization, replacement, maintenance and removal of5161such Communications Equipment. Such Communications Equipment must be designed,5162installed and operated in complete compliance with all laws and installed and5163operated so as not to adversely affect structural, mechanical, electrical,5164elevator or other systems of or serving the Building, or customary telephone5165service for the Building, and so as not to cause injury to persons or property.5166Tenant shall be permitted to use third party contractors to undertake the5167installation of such Communications Equipment, subject to Landlord's approval of5168the qualifications of such contractors (which approval shall not be unreasonably5169withheld or delayed); provided, however, in the event the use of third party5170contractors would jeopardize Landlord's warranty on the roof of the Building,5171then Tenant shall be required to use Landlord's contractor. Any such work5172conducted in connection with the installation of such Communications Equipment5173must be done in accordance with the Building Rules and any other reasonable5174regulations promulgated by Landlord pertaining to construction in or on the5175Building. Tenant shall be fully responsible for any and all damage caused to the5176roof, the Building, or to any property or persons in or around the Building, and5177Tenant shall indemnify, defend and hold Landlord harmless from and against any5178loss, cost, expense, liability, claim or other action arising out of Tenant's5179installation, operation, utilization, replacement, maintenance and removal of5180such Communications Equipment. Upon the expiration or earlier termination of5181this Lease, Tenant shall remove all of the Communications Equipment and shall5182repair any damage to the roof caused thereby, all at Tenant's sole cost and5183expense.5184518527. CONDITION PRECEDENT. The obligations of Landlord and Tenant pursuant5186to the terms of this Lease are conditioned upon the transaction by and between5187the Tenant and Atrion Corporation or its designee set forth in that certain5188Option Agreement for the Purchase and Sale of Real Property dated January 30,51891998 (as it may be amended from time to time), being finally consummated on or5190before February 8, 1999. If Tenant notifies Landlord in writing prior to5191February 8, 1999 that such transaction has not been consummated, then this Lease5192shall be null and void and the parties shall have no further obligations or5193liabilities hereunder. If Tenant fails to notify Landlord of the consummation of5194said transaction prior to February 8, 1999, then this condition shall be deemed5195waived, and no longer of any force or effect, and the Lease shall be fully5196effective, binding and enforceable against both Landlord and Tenant.5197Concurrently with the execution hereof, Tenant has paid Landlord the sum of51985199-23-5200<PAGE>52015202$100.00 as independent consideration for Tenant's right to terminate this Lease5203pursuant to Section 27, the receipt and adequacy of which is hereby acknowledged5204and confessed.52055206TENANT ACKNOWLEDGES THAT (1) NO REPRESENTATIONS AS TO THE REPAIR OF THE5207PREMISES, NOR PROMISES TO ALTER, REMODEL OR IMPROVE THE PREMISES HAVE BEEN MADE5208BY LANDLORD (EXCEPT AS MAY BE SET FORTH IN THIS LEASE), AND (2) THERE ARE NO5209REPRESENTATIONS OR WARRANTIES, EXPRESSED, IMPLIED OR STATUTORY, THAT EXTEND5210BEYOND THE DESCRIPTION OF THE PREMISES. NOTHING IN THIS PARAGRAPH SHALL BE5211DEEMED TO AFFECT LANDLORD'S REPRESENTATIONS, WARRANTIES AND COVENANTS EXPRESSLY5212SET FORTH IN THIS LEASE.52135214SIGNATURES ON FOLLOWING PAGE521552165217-24-5218<PAGE>52195220EXECUTED by Tenant on February 4, 1999.52215222TENANT:52235224ADVANCED NEUROMODULATION SYSTEMS, INC.522552265227By: Name: /s/Stuart B. Johnson5228Title: Vice President, Operations52295230Address: One Allentown Parkway5231Allen, Texas 75002-421152325233Telephone: 972-390-9800, Ext. 3225234Fax: 972-390-84655235523652375238EXECUTED by Landlord on February 4, 1999.52395240LANDLORD:52415242LEGACY LINCOLN I, LTD.,5243Texas limited partnership52445245By: LINCOLN PROPERTY COMPANY No 2698, LTD.,5246a Texas limited partnership, its General Partner52475248By: LINCOLN PROPERTY COMPANY5249No 2699, INC.,5250a Texas corporation, its General Partner525152525253By: Name: /s/John H. Walter5254Title: Vice President52555256Address: 3300 Lincoln Plaza5257500 North Akard5258Dallas, Texas 7520152595260Telephone: (214) 740-33005261Fax: (214) 740 3404526252635264-25-5265<PAGE>52665267EXHIBIT "A"52685269LINCOLN R&D LEGACY PROJECT5270Plano, Texas5271Approximately 37,622 square feet5272SITE PLAN OF PREMISES527352745275-26-5276<PAGE>52775278EXHIBIT "A-1"52795280THE LAND5281--------52825283BEING a 14.9216 acre tract of land situated in the Maria C. Vela Survey,5284Abstract No. 935, City of Plano, Collin County, Texas, and being a part of a52851,094.07 acre tract conveyed to Quorum Development Corporation by Deed recorded5286in Volume 1171, Page 174, Land Records of Collin County, Texas, and being more5287particularly described as follows (bearings referenced to EDS monumentation5288system):52895290COMMENCING at a found 3-inch aluminum disk stamped "T.U. ELECTRIC" for the5291southwest corner of Plano Tennyson Parkway Substation, an addition to the City5292of Plano, Texas, as recorded in Cabinet G, Page 437, Map Records of Collin5293County, Texas, said point South 74 degrees 09 minutes 03 seconds West, a5294distance of 3,302.03 feet from a found brass disk in concrete stamped "EDS 10",5295having EDS truncated surface coordinates North 75014.8828 feet, East 90574.19775296feet;52975298THENCE North 00 degrees 00 minutes 18 seconds East, along the west line of said5299Plano Tennyson Parkway Substation, a distance of 500.00 feet to a found 3-inch5300aluminum disk stamped "T.U. ELECTRIC" for the northwest corner of said Plano5301Tennyson Parkway Substation;53025303THENCE South 89 degrees 59 minutes 42 seconds East, along the north line of said5304Plano Tennyson Parkway Substation, a distance of 105.36 feet to a 1/2-inch iron5305rod found with yellow plastic cap stamped "Halff Associates, Inc." for the POINT5306OF BEGINNING;53075308THENCE North 00 degrees 40 minutes 47 seconds West, departing the north line of5309said Plano Tennyson Parkway Substation, a distance of 989.29 feet to a 1/2-inch5310iron rod found with yellow plastic cap stamped "Halff Associates, Inc." for5311corner;53125313THENCE North 89 degrees 19 minutes 13 seconds East, a distance of 653.20 feet to5314a 1/2 inch iron rod found with yellow plastic cap stamped "Halff Associates,5315Inc." for corner, said point being in the West line of Windcrest Drive (a 60'5316R.O.W.) and being the beginning of a curve to the left having a central angle of531715 degrees 13 minutes 35 seconds, a radius of 530.00 feet, a tangent length of531870.84 feet, and a chord bearing South 06 degrees 56 minutes 01 minutes West,5319140.43 feet;53205321THENCE in a southerly direction along said curve to the left, and with the5322West line of Windcrest Drive, an arc distance of 140.85 feet to a 1 inch iron5323rod found for corner;53245325THENCE South 00 degrees 40 minutes 47 seconds East, with the West line of5326Windcrest Drive, a distance of 1136.28 feet to a 1 inch iron rod found for5327corner, said point being the beginning of a curve to the right having a central5328angle of 03 degrees 08 minutes 58 seconds, a radius of 670.00 feet, a tangent5329length of 18.42 feet, and a chord bearing South 00 degrees 53 minutes 42 seconds5330West, 36.82 feet;53315332THENCE in a southerly direction along said curve to the right, and with the5333west line of Windcrest Drive, an arc distance of 36.83 feet to a 1 inch iron rod5334found for corner;53355336THENCE South 89 degrees 42 minutes 57 seconds West, departing said West line of5337Windcrest Drive, a distance of 58.99 feet to a 1/2 inch iron rod found with5338yellow plastic cap stamped "Halff Associates, Inc." for corner in the east line5339of the abovementioned Plano Tennyson Parkway Substation;53405341-27-5342<PAGE>53435344THENCE North 00 degrees 40 minutes 47 seconds West, with the East line of said5345Plano Tennyson Parkway Substation, a distance of 315.72 feet to a 1/2 inch iron5346rod found with yellow plastic cap stamped "Halff Associates, Inc." for corner,5347said point being the Northeast corner of said Plano Tennyson Parkway Substation;53485349THENCE North 89 degrees 59 minutes 42 seconds West, with the North line of said5350Plano Tennyson Parkway Substation, a distance of 574.64 feet to the POINT OF5351BEGINNING and containing 649.985 square feet or 14.9216 acres of land.53525353-28-5354<PAGE>53555356EXHIBIT "B"53575358CONSTRUCTION AGREEMENT5359----------------------536053611. DEFINITIONS. The terms defined in this Paragraph 1, for all purposes5362of this Construction Agreement, shall have the meanings herein specified, and,5363in addition to the terms defined herein, the definitions in the Lease shall also5364apply to this Construction Agreement.53655366(a) "Building Standard" shall mean the quantity and quality of5367materials, finishing and workmanship specified by Landlord in the5368plans and specifications for the Building set forth on Schedule B-15369attached hereto and made a part hereof.53705371(b) "Drawings" shall mean the working drawings for Tenant's Work5372that are agreed to in writing by Landlord and Tenant or deemed5373approved in accordance with the terms hereof.53745375(c) "Expenditure Authorization" shall mean an authorization by5376Tenant to Landlord to expend funds on behalf of Tenant for Tenant's5377Work on the Premises.53785379(d) "Improvements" shall mean the aggregate of the Landlord's5380Work and Tenant's Work.53815382(e) "Landlord's Contractor" shall mean the person or firm5383selected to perform Tenant's Work in the Premises in accordance with5384the terms of this Exhibit "B".53855386(f) "Landlord's Work" shall mean (i) the construction of the5387Building, together with all exterior improvements, including paving5388and landscaping, in accordance with the plans and specifications5389therefor dated October 15, 1998, prepared by HKS, Inc. ("Building5390Plans"), (ii) the work required to place the Premises in Shell5391Condition and (iii) the Overhead Doors (hereinafter defined).53925393(g) "Net Rentable Area of the Building" shall have the meaning5394specified in the Lease.53955396(h) "Net Rentable Area of the Premises" shall have the meaning5397specified in the Lease.53985399(i) "Shell Condition" shall mean the condition of the Building5400substantially completed with the following improvements in5401accordance with the Building Plans: (a) outside walls and unfinished5402concrete floors; (b) Building Standard power supplied to panels5403provided on the Building; and (c) sprinkler risers and main loop5404installed without the dropping of sprinkler heads.54055406(j) "Tenant's Architect" shall mean MBA Architects, Inc. who5407shall prepare Tenant's plans and working drawings for Tenant's Work.54085409(k) "Tenant's Work" shall mean the items which are supplied,5410installed and finished by Landlord on behalf of Tenant (unless5411Tenant elects to supply, install and finish such items), as provided5412for hereinbelow, which exceed Shell Condition, and which shall be5413paid for by Tenant as provided for herein.54145415-29-5416<PAGE>541754182. SPACE PLANNING.54195420(a) Landlord's designated space planner, at no cost to Tenant, will5421prepare a space plan (including initial "block" diagrams and a preliminary5422layout with one revision) for the Premises showing the location of all5423partitions and doors. Tenant will cooperate with Landlord's space planner,5424furnishing all reasonable information and material concerning Tenant's5425organization, staffing, growth expectations, physical facility needs, equipment5426inventory and other information and material necessary for the space planner to5427efficiently and expeditiously arrive at an acceptable layout of the Premises.54285429(b) The space plan must be approved in writing by both Landlord and5430Tenant by January 19, 1999, and preparation of the working drawings by Tenant's5431Architect shall not commence prior to such approval. The space plan as so5432approved by Landlord and Tenant in writing is referred to as the "Approved Space5433Plan". If at anytime after approval of the Approved Space Plan, any redrawing of5434the space plan is necessitated by Tenant's requested changes, the expense of any5435redrawing shall be borne by Tenant. Based upon the Approved Space Plan, Landlord5436shall cause Tenant's Architect to prepare working drawings for the construction5437of the Improvements, which working drawings shall be consistent with the5438Approved Space Plans. Landlord shall not unreasonably withhold or delay its5439approval of the working drawings and shall, in all events, grant such approval5440within ten (10) days after the proposed working drawings are submitted to5441Landlord (provided, however, if Landlord fails to approve or reasonably5442disapproves such drawings within such ten (10) day period, Landlord shall be5443deemed to have approved same.). After Tenant has received Landlord's reasonable5444comments with regard to the proposed working drawings, Tenant shall cause5445Tenant's Architect to revise the working drawings to incorporate Landlord's5446reasonable comments thereto. The term "Drawings" as used herein shall mean the5447final working drawings which are approved by Landlord (or deemed approved by5448Landlord) and Tenant.54495450(c) If Tenant shall arrange for interior design services, whether with5451Landlord's space planner or with any other planner or designer, it shall be5452Tenant's responsibility and expense to cause necessary coordination of its5453planners' and designers' efforts with the efforts of the planners and designers5454of Landlord to insure that no delays are caused to either the planning or5455construction of the required Landlord's Work.545654573. COMPLETION OF PREMISES.54585459(a) Landlord shall cause to be constructed the Improvements in5460accordance with the Drawings and all Laws. Landlord shall solicit competitive5461bids for the construction of the Improvements from at least three (3) general5462contractors approved by Tenant (which approval shall not be unreasonably5463withheld or delayed). Tenant shall have the right to be involved in all aspects5464of the bidding process (including, but not limited to, the process of5465"qualifying" the bidders). Landlord shall select the general contractor who5466submits the lowest qualifying bid (unless Tenant designates a different general5467contractor who has submitted a bid and who is properly insured to be the5468"Landlord's Contractor" in which case Landlord shall select such other5469contractor that is so designated by Tenant) as the "Landlord's Contractor" for5470the construction of the Improvements. Landlord shall enter into the construction5471contract with the Landlord's Contractor ("Contract"), which Contract shall be a5472"stipulated sum" contract (as opposed to being on a cost-plus basis). Tenant5473shall have the right to approve all subcontractors, which approval shall not be5474unreasonably withheld or delayed. Unless otherwise agreed to in writing by5475Landlord and Tenant, all work involved in completion of Landlord's Work and5476Tenant's Work shall be carried out by Landlord's Contractor under the sole5477direction of Landlord. Tenant shall cooperate with Landlord and Landlord's5478Contractor to promote the efficient and expeditious completion of such work.5479Landlord and Tenant shall reasonably cooperate so that the Tenant's Architect5480may submit final plans, working drawings, information, and instructions with5481respect to such Tenants' Work on or before February 1, 1999. Within fifteen (15)54825483-30-5484<PAGE>54855486days after receipt of such final plans and specifications, drawings, information5487and instructions with respect to Tenant's Work by Landlord, Landlord will submit5488to Tenant written estimates of the cost of Tenant's Work. Tenant agrees that it5489shall be responsible for any and all reasonable increases in costs of Tenant's5490Work resulting from governmental requirements during Tenant's Work, whether such5491increases occur before the cost estimates are initially submitted to Tenant, or5492after all final bids have been taken and such cost estimates have been approved5493by Tenant.54945495(1) Any delay caused by Tenant in connection with the completion5496of Tenant's Work by Landlord's Contractor pursuant to this Section 3.15497(collectively, the "Tenant Delays") shall extend the time allowed for5498Landlord's Contractor to complete the work in question. By way of5499illustration, and not in limitation, of the foregoing:55005501(a) Any delay caused by Tenant or Tenant's Architect in5502the preparation of the Drawings shall be charged to Tenant.55035504(b) Any delay resulting from a failure by Tenant to5505approve or reasonably reject any shop drawings, samples or models5506within five (5) business days of submission thereof shall be charged5507to Tenant.55085509(c) In the event Tenant requires specific products to be5510used in completion of Tenant's Work, any delay in Tenant's review of5511shop drawings, samples or models, or which results from Tenant's5512unreasonable later rejection of the specified products, shall be5513charged to Tenant, and if Tenant specifies particular suppliers of5514any material, any delay which results from a failure by such5515supplier to comply with delivery schedules necessary to maintain the5516normal progression of the work shall be charged to Tenant.55175518(d) Any delay which results from unavailability or delay5519in the delivery of any special equipment, including, but not limited5520to, computer systems, special communications equipment, or other5521equipment not associated with normal office uses, shall be charged5522to Tenant.55235524(e) Any delay which results from Tenant's requests for5525changes in the components of the Shell Condition of the Premises.55265527(2) In the event Landlord's Contractor is unable to substantially5528complete Tenant's Work on or before May 1, 1999 (except to the extent such5529delays are chargeable to Tenant as set forth in this Section 3), Tenant5530shall be entitled to postpone the commencement of the payment of Base Rent5531with respect to the Premises in question until the thirtieth (30th) day5532after substantial completion is achieved. For purposes of this Construction5533Agreement, the term "Substantial Completion" shall occur when each of the5534following conditions is satisfied: the improvements are substantially5535completed in accordance with the Drawings and a Certificate of Substantial5536Completion has been delivered to Tenant by Landlord's space planner; a5537certificate of occupancy has been issued for the Premises so that the5538Premises may be lawfully occupied; and Landlord has tendered to Tenant5539physical possession thereof. Substantial Completion shall have occurred5540even though minor details of construction, decoration, landscaping and5541mechanical adjustment remain to be completed by Landlord so long as5542Tenant can lawfully occupy and conduct its business in the Premises as5543contemplated by Tenant. Tenant shall prepare and deliver to Landlord a5544punch-list of incomplete, minor, detail items within thirty (30) days55455546-31-5547<PAGE>55485549after substantial completion, and Landlord shall use all reasonable5550efforts to complete such items within thirty (30) days thereafter except as5551to such items that, by their nature, will take a longer period to complete5552as set forth in the punch-list in which case Landlord shall have such time5553as is reasonably necessary to complete same so long as such work is5554diligently prosecuted to completion.55555556(b) If there are any changes in Tenant's Work by or on behalf of Tenant,5557from the work as reflected in the Drawings, each such change must receive the5558prior written approval of Landlord (which approval shall not be unreasonably5559withheld or delayed) and must be paid for by Tenant to the extent that the cost5560thereof exceeds the Cash Allowance, and in the event of any such approved change5561in the Drawings, Tenant shall, upon completion of Tenant's Work, furnish5562Landlord with accurate "as-built" plans of Tenant's Work as constructed, which5563plans shall be incorporated into this Construction Agreement by this reference5564for all intents and purposes.55655566(c) Under no circumstances whatsoever will Tenant or Tenant's authorized5567representative ever alter or modify or in any manner disturb any system or5568installation of the Building, including, but not limited to, Central plumbing5569system, Central electrical system, Central heating, ventilating and air5570conditioning systems, Central fire protection and fire alert systems, Central5571building maintenance systems, Central structural systems, or anything located5572within the Central core of the Building (except as reflected in the Drawings).5573Only with Landlord's express written permission (which permission shall not be5574unreasonably withheld or delayed) and under direct supervision of Landlord or5575Landlord's Contractor shall Tenant or Tenant's authorized representative alter,5576add to or modify, or in any manner disturb any Branch of any system or5577installation of the Building which is located within the Premises (except that5578Tenant shall be entitled to alter, add or modify such Branch systems to the5579extent reflected in the Drawings), including, but not limited to, Branch5580plumbing system, Branch electrical system, Branch heating, ventilating and air5581conditioning system, and Branch fire protection and alert system (for the5582purposes of this Section 3.3 "Central" shall be defined as that portion of any5583Building system or component which is within the core and/or common to and/or5584serves or exists for the benefit of other tenants in the Building, and shall5585include, but not be limited to, main fire loops on each floor of the Building5586and duct work to the VAV box; and "Branch" shall be defined as that portion of5587any Building system or component which serves to connect or extend Central5588systems into the Premises).55895590(d) All design, construction and installation shall conform to the5591requirements of applicable building, plumbing, electrical and fire codes and the5592requirements of any authority having jurisdiction over or with respect to such5593work, as such codes and requirements may from time to time be amended,5594supplemented, changed or interpreted.55955596(e) Tenant shall bear all costs of completing Tenant's Work, including,5597without limitation, costs of all drawings, permits, direct supervision of5598Tenant's Work and all costs of construction to improve the Premises to a5599condition greater than Shell Condition. Tenant shall be entitled to a cash5600allowance equal to the product of (a) Twenty and No/100 Dollars ($20.00)5601multiplied by (b) the total number of square feet of Net Rentable Area in the5602Premises (the "Cash Allowance"), but all costs incurred by Landlord in5603completing the Tenant's Work in excess of the Cash Allowance shall be borne by5604Tenant and paid to Landlord upon Substantial Completion. Tenant agrees that in5605the event it defaults in the payment of such excess, Landlord (in addition to5606all other remedies) will have the same rights as in the event of default of5607payment of rent under the Lease (after the expiration of the applicable notice5608and cure periods provided for herein). Tenant shall be entitled to use up to5609$1.00 per square foot of Net Rentable Area of the Cash Allowance for the payment5610of the costs associated with preparation of the Drawings. In addition, in the5611event Tenant does not use all of the Cash Allowance in connection with the5612completion of the Tenant's Work, then Tenant shall be entitled to use such5613excess Cash Allowance to reduce the Rate Per Square Foot of Net Rentable Area56145615-32-5616<PAGE>56175618Per Year in determining the Base Rent due under this Lease in the manner5619provided in Section 2(a) of the Lease. Notwithstanding any provision contained5620herein to the contrary, it is understood and agreed that Landlord shall have no5621obligation to commence installation of any work in the Premises until Tenant5622shall have caused to be furnished to Landlord and Landlord shall have approved5623the Drawings as required by the provisions hereof. Notwithstanding the review5624and approval by Landlord of Tenant's Drawings, Landlord shall have no5625responsibility or liability in regard to the safety, sufficiency, adequacy or5626legality thereof and Tenant shall be solely responsible for the compliance of5627such Drawings with all applicable laws and regulations, the architectural5628completeness and sufficiency thereof and other matters relating thereto;5629provided, however, Landlord shall implement all construction of the Tenant's5630Work in compliance with all Laws.563156324. LANDLORD'S WORK.56335634(a) As Landlord's contribution to the Improvements, Landlord will5635provide in or to the Premises the Building Standard items required to complete5636the Premises to Shell Condition and the Cash Allowance to be used by Tenant to5637pay for all or a portion of the cost of completion of the Tenant's Work. In5638addition, prior to delivery and possession of the Premises to Tenant, Landlord5639will cause to be removed from the Premises by Landlord's Contractor all rubbish,5640tools, scaffolding, and surplus materials and will cause the Premises, interior5641and exterior to be cleaned and ready for occupancy. All floors, floor coverings,5642roof areas and glass will be cleaned, both interior and exterior. In addition,5643it is agreed that Landlord's Work shall include the construction of two 10' x564410' grade level overhead doors in the back of the Building (collectively,5645the "Overhead Doors")and the cost of same shall not be deducted from the Cash5646Allowance or otherwise be chargeable to Tenant.56475648(b) Landlord shall not charge a construction management or other fee in5649connection with the work required to be done pursuant to this Exhibit "B".565056515. MISCELLANEOUS.56525653(a) Landlord shall assign to Tenant, upon the completion of the Tenant's5654Work, all warranties and guaranties provided by contractors, subcontractors,5655manufacturers, and suppliers in connection with the construction of the5656Improvements. Landlord shall cooperate with Tenant in securing the performance5657by the warrantor or guarantor under any such warranty or guaranty.56585659(b) Tenant shall the right to enter the Premises at least fifteen (15)5660days prior to Substantial Completion of the Tenant's Work for the purpose of5661installing its furniture, fixtures, telephones and data systems, to "debug" the5662systems, and for otherwise preparing the Premises for occupancy by Tenant. Such5663early occupancy by Tenant shall be subject to all terms and conditions of this5664Lease other than the payment of rent which shall commence on the Commencement5665Date. In connection with such early entry, Tenant shall use all reasonable5666efforts to minimize interference with the construction of the Tenant's Work.5667Landlord shall use good faith efforts to give Tenant at least thirty (30) days'5668prior written notice of the date on which Landlord reasonably anticipates5669Substantial Completion of the Tenant's Work will occur. Tenant shall be fully5670responsible for any delays in the Commencement Date as a result of Tenant's5671early entry and shall be responsible for any damage to property or injury to5672person caused by any Tenant party because of such early entry, and in such5673event, Tenant shall indemnify and hold Landlord harmless from and against any5674claims, liabilities, costs or expenses incurred by Landlord and rising out of5675Tenant's early entry to the Premises.56765677-33-5678<PAGE>56795680EXHIBIT "C"56815682TENANT'S PERSONAL PROPERTY5683--------------------------56845685All furniture, movable equipment and other personal property that is5686not attached to the floors, walls or ceiling of the Premises; and any other5687fixture, equipment, or other item, regardless of the manner of attachment, that5688is used primarily in Tenant's trade or business and that can be removed as a5689separate physical unit without material damage to the Building and without5690unreasonable interference with other tenants' use and enjoyment of their5691Premises, including, without limitation, the following:569256931. the personal property and fixtures of Tenant's Customers, Contractors5694or Employees.56955696[To be completed by Tenant after execution of Lease, with final Exhibit C to be5697slip sheeted into original executed Lease].56985699-34-5700<PAGE>57015702EXHIBIT "D"57035704RULES AND REGULATIONS5705---------------------57065707Landlord shall have the right to reasonably prescribe the weight, position5708and manner of installation of heavy equipment which, if considered reasonably5709necessary by Landlord, shall be installed in a manner which shall insure5710satisfactory weight distribution. The time, routing and manner of moving such5711heavy equipment shall be subject to prior approval by Landlord (which approval5712shall not be unreasonably withheld or delayed).571357141. Tenant, or the employees, agents, visitors or licensees of Tenant, shall5715not at any time place, leave or discard any rubbish, paper, articles or5716objects of any kind whatsoever outside the doors of the Premises or the5717Property. No animals or birds shall be brought or kept in or about the5718Premises or the Property.571957202. Canvassing, soliciting or peddling in or about the Premises or the Property5721is prohibited and Tenant shall cooperate to prevent same.572257233. Landlord shall have the right to exclude any person from the Property5724(other than employees and personnel of Tenant) other than during customary5725business hours, and any person in the Property will be subject to5726identification by employees and agents of Landlord. All persons in or5727entering the Property shall be required to comply with the security5728policies of the Property. If Tenant desires any additional security service5729for the Premises or the Property, Tenant shall have the right (with the5730prior written consent of Landlord, which approval shall not be unreasonably5731withheld or delayed) to obtain such additional service at Tenant's sol5732cost and expense. Tenant shall keep doors to unattended areas locked and5733shall otherwise exercise reasonable precautions to protect its property5734from theft, loss or damage. Landlord shall not be responsible for the5735theft, loss or damage of any property or for any error with regard to the5736exclusion from or admission to the Premises or the Property of any person5737(except to the extent attributable to the negligence or willfulness5738misconduct of Landlord). In case of invasion, mob, riot or public5739excitement, Landlord reserves the right to prevent access to the Premises5740or the Property during the continuance of same by closing the doors or5741taking other measures for the safety of the tenants and protection of the5742Premises or the Property and property or persons therewith.574357444. Tenant shall not cause or permit any odors to permeate in or emanate from5745the Premises or the Property, or permit or suffer the Premises or the5746Property to be occupied or used in a manner reasonably objectionable to5747Landlord or other occupants of the Premises or the Property by reason o5748light, radiation, magnetism, noise, odors, and/or vibrations, or5749unreasonably interfere in any way with other tenants or those having5750business in the Premises or the Property.575157525. All keys shall be returned to Landlord upon the termination of this Lease5753and Tenant shall give to Landlord the explanations of the combinations of5754all safes, vaults and combination locks remaining with the Premises.5755Landlord may at all times keep a pass key to the Premises. All entrance5756doors to the Premises shall be left closed at all times and left locked5757when the Premises are not in use.575857596. Tenant shall give immediate notice to Landlord in case of any known5760emergency at the Premises or the Property.57615762-35-5763<PAGE>576457657. Tenant shall not advertise for temporary manual laborers (as opposed to5766temporary secretarial or other professional support staff) giving the5767Premises or the Property as an address, nor pay such laborers at a location5768in the Premises or the Property.576957708. No portion of the Premises or any part of the Property shall at any time be5771used or occupied as sleeping or lodging quarters.577257739. The toilet rooms, urinals, wash bowls and other apparatus in the Premises5774shall not be used for any purpose other than that for which they were5775constructed and no foreign substance of any kind whatsoever shall be thrown5776therein and the expense of any breakage, stoppage or damage resulting from5777the violation of this rule shall be borne by the Tenant who or whos5778employees or invitees shall have caused it.5779578010. Landlord reserves the right to exclude or expel from the Property any5781person who, in the reasonable judgment of Landlord, is intoxicated or under5782the influence of liquor or drugs, or who shall in any manner do any act in5783violation of any of the Rules and Regulations of the Premises or the5784Property.5785578611. Landlord reserves the right to rescind any of these rules and regulations5787and to make such other and further rules and regulations as in its5788reasonable judgment shall, from time to time, be required for the safety,5789protection, care and cleanliness of the Property, the operation thereof,5790the preservation of good order therein and the protection and comfort of5791the tenants and their agents, employees, and invitees, which rules and5792regulations shall be binding upon it in like manner as if originally herein5793prescribed.5794579512. Tenant shall park trailers and other oversized vehicles only in areas5796designated by Landlord for the parking of trailers or oversized vehicles.5797579813. Tenant shall not utilize the Premises for outside storage except with the5799written consent of Landlord (which consent shall not be unreasonably5800withheld or delayed).58015802-36-5803<PAGE>58045805EXHIBIT "E"58065807RIGHT OF FIRST REFUSAL5808----------------------58095810Landlord hereby grants to Tenant a continuing right of first refusal ("Refusal5811Right") with respect to any space contiguous to the Premises ("Refusal Space");5812however, the Refusal Right shall not be applicable during any time when there is5813an uncured Event of Default under the Lease.581458151. Exercise of Refusal Right. If Landlord receives an offer from a5816third party to lease all or a part of the Refusal Space which Landlord desires5817to accept, or Landlord makes an offer to a third party to lease all or a part of5818the Refusal Space which offer the third party desires to accept, Landlord shall5819so notify Tenant ("Refusal Notice"), describing all material terms of the offer5820(i.e., rent, location of premises, size of premises, length of term, improvement5821allowance [if any]). Tenant shall have five (5) business days from the receipt5822of the Refusal Notice to notify Landlord in writing of the exercise by Tenant of5823Tenant's Refusal Right with respect to the subject Refusal Space. If Tenant5824fails to so notify Landlord within such five (5) business day period, Tenant5825shall be deemed to have waived its Refusal Right and all rights under this5826Exhibit "E" with respect to such offer and the Refusal Space in question, and5827Landlord shall have the right to enter into a lease with such third party with5828respect to the Refusal Space in question upon the same terms as set forth in the5829Refusal Notice. If the Refusal Space in question is not subsequently leased to5830such third party upon terms set forth in the Refusal Notice within six (6)5831months after the expiration of such five (5) business day period, the Refusal5832Right shall be reinstated. Moreover, if such Refusal Space is so leased to the5833third party, then upon the expiration of the term of such lease (including any5834renewals or extensions thereof, if any) or upon the termination of such lease or5835the termination of the tenant's right of possession thereunder, Tenant's Refusal5836Right as to such Refusal Space shall be reinstated. If Tenant properly exercises5837its Refusal Right in the manner and within the time period specified herein,5838then Tenant shall lease all, but in no event less than all, of the Refusal Space5839on the same terms and conditions as are contained in the Lease with respect to5840the Premises except that (a) if the Lease has at least thirty-six (36) months5841remaining on its initial Term at the time Tenant exercises its Refusal Right,5842then the Base Rent for the Refusal Space shall be at the same rate as the Base5843Rent for the Premises at that time and Tenant shall be entitled to receive from5844Landlord a Cash Allowance equal to the product of 33(cent) times the number of5845square feet of Net Rentable Area in the Refusal Space times the number of months5846remaining on the initial Term of the Lease at that time, and (b) in the event5847there are less than thirty-six (36) months remaining on the initial Term of the5848Lease or during any Renewal Term, then the Base Rent for the Refusal Space and5849the Cash Allowance shall be as set forth in the Refusal Notice. The term of the5850Lease as it relates to the Refusal Space shall expire (a) coterminous with the5851Term for the Premises in the event there are at least thirty-six (36) months5852remaining on the initial Term at the time Tenant exercises its Refusal Right,5853and (b) on the expiration date of the proposed term for the Refusal Space5854contained in the Refusal Notice in the event there are less than thirty-six (36)5855months remaining on the initial Term at the time Tenant exercises its Refusal5856Right or in the event the Refusal Right is exercised at anytime during a Renewal5857Term. Within thirty (30) days after Tenant delivers to Landlord notice of its5858election, Landlord and Tenant will enter into a written amendment modifying and5859supplementing the Lease and containing such other terms and provisions as5860Landlord may reasonably deem appropriate.58615862If a Refusal Notice pertains only to a portion of the Refusal Space, Tenant's5863rights hereunder shall remain in full force and effect with respect to the5864remaining Refusal Space.58655866-37-5867<PAGE>586858692. Termination of Refusal Right. The Refusal Right shall automatically5870terminate upon (a) the termination of the Term, whether by Landlord upon the5871occurrence of an Event of Default or otherwise, and (b) the failure of Tenant to5872exercise the Refusal Right with respect to any Refusal Space as and within the5873time period specified in this Exhibit "E".58745875-38-5876<PAGE>58775878EXHIBIT "F"58795880RENEWAL OPTIONS5881---------------58825883Tenant shall have the right to renew and extend this Lease with respect to5884the Premises then subject to this Lease for the Renewal Term(s) upon and5885subject to the following terms and conditions:588658871. Tenant may renew this Lease for two (2) Renewal Terms of five (5) years5888each. Each Renewal Term, herein so called, shall commence immediately upon5889the expiration of the original Term or preceding Renewal Term, as the case5890may be, by Tenant's giving written notice thereof to Landlord no later than5891six (6) months prior to the expiration of the original Term or the5892expiration of the preceding Renewal Term, as the case may be. If Tenant5893does not renew this Lease for a Renewal Term, then Tenant shall have no5894further renewal rights. The term "Term" as used herein shall mean the5895initial Term specified in Section 1(b) of the Lease as may be extended5896pursuant to the exercise of any renewal option provided herein.589758982. The exercise by Tenant of any renewal option granted hereinabove must be5899made, if at all, by written notice executed by Tenant and delivered to5900Landlord on or before the date set forth hereinabove. Once Tenant shall5901exercise the renewal option, Tenant may not thereafter revoke such5902exercise. Tenant shall not have the right to exercise the renewal option at5903a time when there is an uncured Event of Default under this Lease. Tenant's5904failure to exercise timely the renewal option for any reason whatsoever5905shall conclusively be deemed a waiver of such renewal option.590659073. Tenant shall take the Premises "as is" for each Renewal Term and Landlord5908shall have no obligation to make any improvements or alterations to the5909Premises, except that Landlord will provide Tenant with a Market Rate5910Refurbishment Allowance at the beginning of each Renewal Term. For purposes5911of this provision, the term "Market Rate Refurbishment Allowance" shall5912mean refurbishment allowances being offered for renewals of comparable5913office/light assembly buildings in the Plano, Texas area on the effective5914date for the Renewal Term in question which shall be determined using the5915same procedures as set forth in paragraph 5 below with respect to Fair5916Market Value Rate.591759184. Base Rent for the Renewal Term attributable to the Premises shall be at an5919annual rate per square foot of Rentable Area of the Premises equal to 95%5920of the Fair Market Value Rate, as hereinafter defined, which shall be5921increased, adjusted, or augmented as provided in and under this Lease,5922except that the Base Year shall be changed to the first (1st) year of the5923Renewal Term in question.592459255. As used in this Exhibit "F", "Fair Market Value Rate" shall mean the fair5926market value base rent rate per square foot of rentable area per year in5927effect on the effective date for the Renewal Term in question for5928comparable tenants, taking comparable space, in comparable condition, under5929comparable terms in comparable office/light assembly buildings in the5930Plano, Texas area, taking into consideration the credit standing of Tenant5931and all other relevant factors. Within five (5) days after Tenant's5932exercise of a renewal option, Landlord shall deliver to Tenant in writing5933the proposed Fair Market Value Rate for the renewal term in question. If5934Tenant disagrees with such Fair Market Value Rate, Landlord and Tenant will5935attempt to come to agreement as to an acceptable Fair Market Value Rate for5936such Renewal Term. If Landlord and Tenant cannot agree within 30 days after5937Tenant's exercise of the renewal option in question, then either Landlord59385939-39-5940<PAGE>59415942or Tenant may serve a written notice to the other stating that an appraisal5943should be conducted pursuant to this Paragraph 5 of Exhibit "F", in which5944event five (5) days after such notice is given, Landlord and Tenant shall5945each nominate and appoint one (1) appraiser to determine the Fair Market5946Value Rate. Upon the appointment of the two (2) appraisers as hereinabove5947provided, said two (2) appraisers shall be sworn faithfully and fairly to5948determine the Fair Market Value Rate as of the effective date of the5949Renewal Term. The two (2) appraisers shall afford to Landlord and Tenant5950the right to submit evidence with respect to such value and shall, with all5951possible speed, make their respective determinations in writing and give5952notice thereof to Landlord and Tenant. If there is a variance of less than5953five percent (5%) in the fair market values determined by the two (2)5954appraisers, the average of the values so determined shall be controlling5955and shall be binding upon Landlord and Tenant. If there is a variance of5956more than five percent (5%) in the fair market values determined by the two5957(2) appraisers, said appraisers shall forthwith and within five (5) days5958after both of such appraisers have made their determinations appoint in5959writing a third (3rd) appraiser and give written notice of such appointment5960to Landlord and Tenant. In the event the two (2) appraisers fail to appoint5961or agree upon such third (3rd) appraiser within said five (5) day period, a5962third (3rd) appraiser shall be selected by Landlord and Tenant if they so5963agree upon such third (3rd) appraiser within a further period of five (5)5964days. If any appraiser shall not be appointed or agreed upon within the5965time herein provided, then Landlord or Tenant may apply to any state5966district court judge of the State of Texas in the Dallas/Fort Worth, Texas5967area for the appointment of such appraiser. Such appraiser shall be sworn5968faithfully and fairly to determine, pursuant to the procedures set forth5969above, the question at issue. The Fair Market Value Rate shall be the5970average of the two determinations that are closer to each other than the5971third determination. If the appraisal mechanism is utilized to determine5972Fair Market Value Rate hereunder, such determination shall, in all events,5973be made within 90 days following the date upon which Tenant exercised the5974renewal option in question. Landlord and Tenant shall pay the fees and5975expenses of the appraiser it appoints, and the fees and expenses of the5976third (3rd) appraiser and any general expenses incurred by the panel of5977appraisers in connection with the appraiser shall be divided equally5978between Landlord and Tenant. In the event any appraiser appointed as5979aforesaid shall thereafter die or becomes unable or unwilling to act, such5980appraiser's successor shall be appointed in the same manner as provided in5981this paragraph for the appointment of the appraiser's dying or becoming5982unable or unwilling to act. Any appraiser appointed hereunder shall have no5983less than ten (10) years' experience in the appraisal of real property of5984the type comparable to the property, and shall hold the professional5985designation of M.A.I. or its equivalent, or any such appraiser may be a5986licensed real estate broker who is a member of the Society of Industrial5987and Office Realtors and who has at least ten (10) years' experience in5988leasing premises similar to the Premises.59895990-40-5991<PAGE>59925993EXHIBIT "G"59945995DESCRIPTION OF JANITORIAL SERVICES5996----------------------------------59975998Landlord shall be responsible for providing janitorial services five (5) days5999per week, excluding national holidays, for the interior of the Premises in a6000good and workmanlike manner in accordance with the specifications deemed6001customary by Landlord or such additional and/or alternative specifications as6002from to time are mutually acceptable to and set forth in writing by Landlord and6003Tenant. Those specifications are more particularly described as follows:60046005A. OFFICE LEASE:600660071. Empty, clean and damp dust all waste receptacles and remove wast6008paper and rubbish from the premises nightly; wash receptacles as6009necessary.601060112. Empty and clean all ash trays nightly.601260133. Vacuum all rugs and carpeted areas in office, lobbies and corridors6014nightly.601560164. Hand dust and wipe clean with damp or treated cloth all office6017furniture, files, fixtures, and all other horizontal surfaces6018nightly; window sills weekly and wash window sills when necessary.601960205. Clean all vertical surfaces, including doors, door frames, around6021light switches, private entrance glass, and partitions weekly.602260236. Wash clean all water coolers nightly.602460257. Damp mop spillage in office and public areas as required.602660278. Hand dust all telephones with treated cloth as necessary.60286029B. TOILETS:603060311. Damp mop, rinse and dry floors nightly.603260332. Scrub floors as necessary.603460353. Clean all mirrors, bright work and enameled surfaces nightly.603660374. Wash and disinfect all basins, urinals and bowls nightly, using6038scouring powder to remove stains and clean undersides of rim of6039urinals and bowls.604060415. Wash both sides of all toilet seats with soap and water or6042disinfectant nightly.604360446. Damp wipe nightly, wash with disinfectant when necessary, all6045partitions, tile walls and outside surface of all dispensers and6046receptacles.604760487. Empty and sanitize all receptacles and sanitary disposals nightly;6049thoroughly clean and wash at least once per week.60506051-41-6052<PAGE>605360548. Fill toilet tissue, soap, towel and sanitary napkin dispensers6055daily.605660579. Clean flushometers, piping, toilet seat hinges and other metal work6058nightly.6059606010. Wash all wall partitions, tile walls and enamel surfaces from trim6061to floor monthly.60626063C. FLOORS:606460651. Ceramic tile, marble or terrazzo floors to be swept nightly and6066washed or scrubbed as necessary.606760682. Vinyl, asphalt, rubber or other composition floors and bases to be6069cleaned nightly.607060713. Tile floors in office areas will be waxed and buffed monthly.607260734. All tile floors stripped, machine cleaned and rewaxed semi-annually.607460755. All carpeted areas and rugs to be vacuum cleaned nightly.607660776. Carpet shampooing will be performed at Tenant's request and billed6078to Tenant at Lessor's contractor's reasonable cost thereof.60796080D. GLASS:608160821. Clean all perimeter windows, inside and outside, a minimum of net6083less than two (2) times per year with respect to outside windows and6084one (1) time per year with respect to inside windows.60856086E. HIGH DUSTING (Quarterly):608760881. Dust and wipe clean all closet shelving when empty and carpet sweep6089or dry mop all floors in closets if such are empty.609060912. Dust all picture frames, charts, graphs and similar wall hangings.609260933. Dust clean all vertical surfaces such as walls, partitions, doors,6094door bucks and other surfaces above shoulder height.609560964. Damp dust all ceiling air conditioning diffusers, wall grilles,6097registers and other ventilating louvers.609860995. Dust the exterior surfaces of lighting fixtures, including glass and6100plastic enclosures.61016102F. DRAPERIES:610361041. Spot clean all blinds at a minimum of not less often than three (3)6105times a year.610661072. Cleaning of individual pairs of draperies will be performed at6108Tenant's request and billed to Tenant at Lessor's Contractor's6109reasonable cost thereof.61106111-42-6112<PAGE>61136114G. GENERAL:611561161. Where "as needed", "as necessary", or "as required" is used in this6117janitorial specification, the Lessor shall be the sole judge.611861192. It is expressly understood the Lessor shall maintain all common6120areas of the Building in a first-class manner comparable to other6121Class A Office/Tech/R&D buildings in Plano, Texas.61226123-43-6124<PAGE>61256126EXHIBIT "H"61276128RIGHT OF FIRST OFFER6129--------------------61306131If Landlord desires to sell one or more of the Buildings in the Project, or all6132of the Project (the "Sale Property"), then Landlord shall notify Tenant thereof,6133setting forth in such notice the complete terms and conditions pursuant to which6134Landlord would sell the Sale Property (including the closing date of such sale).6135Said notice shall be accompanied with rent rolls, operating statements and other6136information relating to the Sale Property as is necessary for Tenant to evaluate6137the proposed transaction. Within fifteen (15) days after such notice from6138Landlord, Tenant shall have the right to deliver a contract to Landlord to6139purchase the Sale Property on the terms set forth in Landlord's notice. If6140Tenant exercises its rights described hereinabove, then Landlord shall have the6141option to either accept or reject Tenant's contract to purchase the Sale6142Property by delivering written notice thereof to Tenant within fifteen (15) days6143after receiving Tenant's contract. If Landlord accepts Tenant's contract, then6144Tenant shall be required to purchase the Sale Property on the closing date set6145forth in Landlord's notice, and otherwise in accordance with the terms and6146provisions of Tenant's contract. If Landlord rejects Tenant's offer in Tenant's6147contract, then Landlord shall be free to sell the Sale Property for a purchase6148price and on financial terms not more favorable to the third party than those6149stated in Tenant's contract within the one hundred eighty (180) day period6150following Landlord's rejection of Tenant's contract. If Landlord desires to sell6151the Sale Property to such third party on terms and conditions that are more6152favorable to the third party than those stated in Tenant's contract, then6153Landlord shall again be required to comply with the provisions of this Exhibit6154"H". If a contract is not entered into by Landlord and a third party covering6155the sale to such third party of the Sale Property in accordance with this6156Exhibit "H" within such one hundred eighty (180) day period, then Landlord may6157not sell the Sale Property without again complying with the provisions of this6158Exhibit "H". For purposes of determining whether or not the purchase price of a6159particular offer is more or less favorable than the purchase price of Tenant's6160contract, the consideration to be received by Landlord from Tenant thereunder6161shall be net of any brokerage commissions or fees which Landlord would be6162obligated to pay in the case of a sale to Tenant. The provisions of this Exhibit6163"H" shall not apply, and Tenant shall have no rights whatsoever in the event the6164Sale Property is being sold or offered for sale to a partner in Landlord6165pursuant to the buy-sell provisions of the Landlord's partnership agreement6166existing as of the date of this Lease; provided, however, the rights of Tenant6167pursuant to the terms of this Exhibit "H" shall survive after any such sale to a6168partner of Landlord.61696170-44-6171<PAGE>61726173EXHIBIT "I"61746175FORM OF SNDA6176------------61776178SUBORDINATION, NONDISTURBANCE AND ATTORNMENT AGREEMENT6179------------------------------------------------------61806181This SUBORDINATION, NONDISTURBANCE AND ATTORNMENT AGREEMENT (this6182"Agreement") is made and entered into as of the 4th day of February, 1999, by6183and among ADVANCED NEUROMODULATION SYSTEMS, INC., a corporation, hereinafter6184referred to as ("Tenant"), LEGACY LINCOLN I, LTD., a Texas limited partnership6185("Landlord"), and NATIONSBANK, N.A., a national banking association6186("Mortgagee");61876188WHEREAS, Mortgagee has made a loan to Landlord, which is evidenced by6189that certain Promissory Note (herein, as it may be from time to time renewed,6190extended, amended or supplemented, called the "Note") executed by Landlord,6191payable to the order of Mortgagee, and secured by, among other things, that6192certain Deed of Trust, Assignment, Security Agreement and Financing Statement6193(herein, as it may have been or may be from time to time renewed, extended,6194amended or supplemented, called the "Mortgage") recorded in Volume 4247, Page61952425 in the real property records of Collin County, Texas, covering among other6196property, the land (the "Land") described in Exhibit "A" which is attached6197hereto and incorporated herein by reference, and the improvements thereon (such6198Land and improvements being herein together called the "Property");61996200WHEREAS, Tenant is the tenant under a Lease Agreement (with any addenda6201and as amended or modified from time to time, the "Lease") dated February62024, 1999, executed by Tenant and Landlord, pertaining to certain space (the6203"Premises") in the building on the Land; and62046205WHEREAS, the term "Landlord" as used herein means the present landlord6206under the Lease or, if the landlord's interest is transferred in any manner, the6207successor(s) or assign(s) occupying the position of landlord under the Lease at6208the time in question, but not Mortgagee or any Purchaser (as defined in Section62093 below);62106211THEREFORE, for and in consideration of Ten Dollars ($10.00), and other6212good and valuable consideration, the receipt and sufficiency of which are hereby6213acknowledged and confessed, and in consideration of the mutual covenants and6214agreements herein contained, Tenant, Landlord, and Mortgagee hereby agree as6215follows:621662171. SUBORDINATION. Tenant hereby agrees and covenants that the Lease,6218all of Tenant's rights thereunder, Tenant's leasehold estate created thereby,6219including, without limitation, all renewal, expansion and purchase rights, if6220any, all of Tenant's right, title and interest in and to the Premises, are and6221shall be completely and unconditionally subject, subordinate and inferior to (a)6222the Mortgage and the rights of Mortgagee thereunder and all right, title and6223interest of Mortgagee in the Property, and (b) all other security documents now6224or hereafter securing payment of any indebtedness of the Landlord (or any prior6225landlord) to Mortgagee which cover or affect any or all of the Property (the6226"Security Documents"). Without limitation of any other provision hereof,6227Mortgagee may at its option and without joinder or further consent of Tenant,6228Landlord, or anyone else, at any time after the date hereof subordinate the lien6229of the Mortgage (or any other lien or security interest held by Mortgagee which6230covers or affects the Property) to the Lease by executing an instrument which is6231intended for that purpose and which specifies such subordination; and in the6232event of any such election by Mortgagee to subordinate, Tenant shall promptly at6233Mortgagee's request execute any documents required to evidence or confirm such6234subordination; provided, however, notwithstanding that the Lease may by6235unilateral subordination by Mortgagee hereafter be made superior to the lien of62366237-45-6238<PAGE>62396240the Mortgage, the provisions of the Mortgage relative to the rights of Mortgagee6241with respect to proceeds arising from an eminent domain taking (including a6242voluntary conveyance by Landlord) and/or insurance payable by reason of damage6243to or destruction of the Premises or the Property shall be prior and superior to6244and shall control over any contrary provisions in the Lease.624562462. NON-DISTURBANCE. Mortgagee agrees that so long as the Lease is in6247full force and effect and Tenant is not in default in the payment of rent,6248additional rent or other payments or in the performance of any of the other6249terms, covenants or conditions of the Lease on Tenant's part to be performed6250(beyond the period, if any, specified in the Lease within which Tenant may cure6251such default),62526253(a) Tenant's possession of the Premises under the Lease and Tenant's6254rights and privileges thereunder, and under any extensions or renewals thereof,6255shall not be disturbed, diminished or interfered with by Mortgagee or any other6256party acting by, through or under Mortgagee in the exercise of any of its rights6257under the Mortgage or any of the Security Documents, including any foreclosure6258or conveyance in lieu of foreclosure, and62596260(b) Mortgagee will not terminate the Lease, nor join Tenant as a party6261defendant in any proceeding for foreclosure of the Mortgage or any of the6262Security Documents.626362643. ATTORNMENT62656266(a) Tenant covenants and agrees that in the event of foreclosure of the6267Mortgage or any of the Security Documents, whether by power of sale or by court6268action, or upon a transfer of the Property or the Premises by conveyance in lieu6269of foreclosure (the purchaser at foreclosure or the transferee in lieu of6270foreclosure, including Mortgagee if it is such purchaser or transferee, and6271their successors and assigns being herein called "Purchaser"), Tenant shall6272attorn to Purchaser as Tenant's new landlord, and Tenant and Mortgagee agree6273that the Lease shall continue in full force and effect as a direct lease between6274Tenant and Purchaser upon all of the terms, covenants, conditions and agreements6275set forth in the Lease; provided, however, that in no event shall Purchaser be:62766277(1) liable for any act or omission of any previous landlord (including6278Landlord);62796280(2) subject to any offset, defense, deduction or counterclaim which6281Tenant might be entitled to assert against any previous landlord (including6282Landlord)(other than offsets arising from Landlord's failure to perform any6283maintenance or repair obligation required of Landlord under the Lease if,6284and only if, (i) Tenant has provided Purchaser with written notice of such6285failure and a reasonable opportunity to cure the same prior to exercising6286any of Tenant's rights under the Lease, (ii) Tenant duly exercises its6287rights under the Lease to cure such default by making such repairs or6288performing such maintenance to the Premises or the Building on behalf of6289Landlord (A) in compliance with all applicable laws, (B) with materials of6290a quality and grade at least equal to that in place as of the date of6291delivery of the Premises to Tenant, and (C) without interference with the6292rights of other tenants of the Property, (iii) the total liability for such6293default shall not exceed the fair and reasonable cost to Tenant to make6294such repairs or perform such maintenance on Landlord's behalf);62956296(3) bound by any payment of rent or additional rent made by Tenant to6297any previous landlord (including Landlord) for more than one (1) month in6298advance (except for the escrow of pass-through expenses as provided in the6299Lease);63006301-46-6302<PAGE>63036304(4) bound by any amendment or modification of the Lease hereafter made6305that results in a reduction of rent or other sums due and payable pursuant6306to the Lease, terminates the Lease (except pursuant to an express right of6307termination set forth in the Lease as of the date of this Agreement),6308modifies the terms of the Lease regarding surrendering possession of the6309Premises, provides for payment of rent more than one (1) month in advance,6310permits the subordination of the Lease to any lien other than the Mortgage,6311modifies the permitted uses under the Lease, modifies the provisions6312regarding Tenant's obligation to comply with all laws (including6313environmental laws) or otherwise makes Landlord's obligations thereunder6314more onerous without the prior written consent of the Mortgagee;63156316(5) liable for any deposit that Tenant may have given to any previous6317landlord (including Landlord) which has not, as such, been transferred to6318and received by Purchaser; or63196320(6) otherwise liable, except as provided above, with respect to any act,6321omission, event, condition or circumstance to the extent that the same6322occurred or arose before such transfer of the Property or the Premises to6323Purchaser.63246325The above listed items (1)-(6) shall not be construed to modify or limit any6326rights Tenant may have at law or in equity against Landlord or any other prior6327owner of the Premises.63286329(b) The provisions of this Agreement regarding attornment by Tenant6330shall be self-operative and effective without the necessity of execution of any6331new lease or other document on the part of any party hereto or the respective6332heirs, legal representatives, successors or assigns of any such party. Tenant6333agrees, however, to execute and deliver at any time and from time to time,6334promptly upon the written request of Landlord or of any holder(s) of any of the6335indebtedness or other obligations secured by the Mortgage, any instrument or6336certificate which, in the reasonable judgment of Landlord or of such holder(s),6337may be necessary or appropriate in any such foreclosure proceeding or otherwise6338to evidence such attornment in accordance with the terms hereof, including, if6339requested, a new lease of the Premises on the same terms and conditions as the6340Lease and for the then unexpired term of the Lease.634163424. ESTOPPEL CERTIFICATE. Tenant agrees to execute and deliver from time6343to time, upon the written request of Landlord or of any holder(s) of any of the6344indebtedness or other obligations secured by the Mortgage and Security6345Documents, a certificate regarding the status of the Lease, including6346statements, if true (or if not, specifying why not), (i) that the Lease is in6347full force and effect, (ii) of the date through which rentals have been paid,6348(iii) of the date of the commencement of the term of the Lease, (iv) of the6349nature of any amendments or modifications of the Lease, (v) that no default, or6350state of facts which with the passage of time or notice (or both) would6351constitute a default, exists under the Lease, and (vi) of such other matters as6352may reasonably be requested.635363545. ACKNOWLEDGMENT AND AGREEMENT BY TENANT. Tenant hereby acknowledges6355and agrees as follows:63566357(a) Tenant acknowledges and recognizes the Mortgage and the agreements6358evidencing and securing the loan evidenced by the Note.63596360(b) Tenant acknowledges that it is aware that the Landlord's interest6361in the Lease has been assigned to Mortgagee in connection with the financing of6362the Property and that Mortgagee will rely upon this instrument in connection6363with such financing.63646365-47-6366<PAGE>63676368(c) Mortgagee, in making any disbursements to Landlord, is under no6369obligation or duty to oversee or direct the application of the proceeds of such6370disbursements, and such proceeds may be used by Landlord for purposes other than6371improvement of the Property.63726373(d) From and after the date hereof, in the event of any default by6374Landlord under the Lease or any act or omission by Landlord which would give6375Tenant the right, either immediately or after a lapse of time, to terminate the6376Lease or claim a partial or total eviction (except the failure of Landlord to6377initially deliver the Premises to Tenant on or before the date specified in the6378Lease), Tenant shall not exercise any such right or remedy unless and until all6379of the following conditions are met: (1) Mortgagee shall have received from6380Tenant written notice of such default, act or omission; and (2) Mortgagee shall6381have had a period for cure of such default, act or omission beginning upon the6382later of Mortgagee's receipt of such notice or Mortgagee's becoming entitled6383under the Mortgage to remedy the same and continuing for a period equal to the6384period provided to Landlord for cure under the Lease, but in any event at least6385thirty (30) days after receipt of such notice or for such longer period of time6386as may be reasonably necessary to cure or remedy such default, act or omission,6387including such period of time as may be necessary to obtain possession of the6388Property and thereafter cure or remedy such default, act, or omission (not to6389exceed, in any event, 120 days), during which period of time Mortgagee shall be6390permitted to cure or remedy such default, act or omission; provided, however,6391that Mortgagee shall have no duty or obligation to cure or remedy any breach or6392default.63936394(e) From and after the date hereof, in the event of any default by6395Landlord under the Lease or any act or omission by Landlord which would give6396Tenant the right, either immediately or after a lapse of time, to exercise any6397right of self-help, Tenant shall not exercise any such right unless and until6398all of the following conditions are met: (1) Mortgagee shall have received from6399Tenant written notice of such default, act or omission; and (2) Mortgagee shall6400have had a period for cure of such default, act or omission beginning upon the6401date of Mortgagee's receipt of such notice and continuing for a period equal to6402the period provided to Landlord for cure under the Lease, but in any event at6403least fifteen (15) days after receipt of such notice.64046405(f) Tenant has notice that the rent and all other sums due under the6406Lease have been assigned to Mortgagee as additional security. Tenant shall not6407prepay any rents or other sums due under the Lease for more than one (1) month6408in advance of the due dates therefor (except as may be provided otherwise in the6409Lease). In the event that Mortgagee notifies Tenant in writing of a default6410under the Mortgage and demands that Tenant pay its rent and all other sums due6411under the Lease directly to Mortgagee, Tenant shall honor such demand and pay6412its rent and all sums due under the Lease directly to Mortgagee or as otherwise6413required pursuant to such written notice. Landlord hereby authorizes Tenant to6414make such payments to Mortgagee and hereby releases and discharges Tenant of and6415from any liability to Landlord resulting from Tenant's payment to Mortgagee in6416accordance with this Agreement, and hereby agrees that such described payment to6417Mortgagee shall be deemed to discharge Tenant's obligations to Landlord under6418the Lease in respect of such described payment.64196420(g) Tenant shall send a copy of any notice or statement under the Lease6421to Mortgagee at the same time such notice or statement is sent to Landlord, by6422registered or certified mail, postage prepaid, at the address of Mortgagee set6423forth in this Agreement or such other address as Mortgagee may designate to6424Tenant.64256426(h) This Agreement satisfies any condition or requirement in the Lease6427relating to the granting of a non-disturbance agreement in connection with the6428Mortgage, and Tenant waives any provision to the contrary in the Lease.64296430-48-6431<PAGE>64326433(i) Mortgagee and any Purchaser shall have no obligation or liability6434to Tenant or any other party with respect to any conflict between the Lease and6435any law, rule, regulation or ordinance, whether federal, state or local, the6436provisions of the Lease giving rise to such conflict shall be null and void to6437the extent of such conflict, without the remaining provisions of the Lease being6438impaired or affected, and Tenant shall have no right to terminate or cancel the6439Lease or take any other remedial action against Mortgagee or any Purchaser or6440against any other party for which Mortgagee or any Purchaser would be liable on6441account of such conflict.64426443(j) Mortgagee and any Purchaser shall have no obligation or incur any6444liability w7ith respect to the erection or completion of the improvements in6445which the Premises are located or for completion of the Premises or any6446improvements for Tenant's use and occupancy, either at the commencement of the6447term of the Lease, upon any renewal or extension thereof or upon the addition of6448additional space pursuant to any expansion rights contained in the Lease.6449Nothing herein shall be deemed to prohibit Tenant from exercising any express6450right in the Lease to terminate the Lease if Landlord shall fail to deliver to6451Tenant the completed Premises on or before the outside date specified in the6452Lease.64536454(k) Mortgagee and any Purchaser shall have no obligation or liability6455with respect to any warranty of any nature whatsoever, express or implied, made6456to Tenant by landlord, any agent or employee of Landlord, or any other party,6457whether pursuant to the Lease or otherwise, including without limitation any6458warranties respecting use, compliance with zoning, Landlord's title, Landlord's6459authority, habitability, fitness for any purpose or possession.64606461(l) In the event that Mortgagee or any Purchaser shall acquire title to6462the Premises or the Property through foreclosure, deed-in-lieu of foreclosure,6463or otherwise, Mortgagee or such Purchaser shall have no obligation or liability6464beyond Mortgagee's or Purchaser's then equity interest, if any, in the Property6465or the Premises, and Tenant shall look solely to such equity interest of6466Mortgagee or Purchaser, if any, for the payment and discharge of any obligations6467imposed upon Mortgagee or Purchaser hereunder or under the Lease or for recovery6468of any judgment or award from Mortgagee or Purchaser, and in no event shall6469Mortgagee or Purchaser ever be personally liable for such judgment or award.6470This subparagraph (l) shall not be construed as a limitation of Tenant's6471self-help rights under the Lease or rights under applicable law to pursue6472equitable remedies which may be available to Tenant.64736474(m) Nothing herein contained is intended, nor shall it be construed, to6475abridge or adversely affect any right or remedy of Landlord or Tenant under the6476Lease in the event of any default by the other party or in the performance of6477any of the other terms, covenants or conditions of the Lease.64786479(n) Landlord has not agreed to any abatement of rental or period of6480"free rent" for the Premises unless same is specifically provided in the Lease,6481and Tenant agrees that in the event Mortgagee or any Purchaser becomes the owner6482of the Property, no agreement for abatement of rent not specifically provided6483for in the Lease shall be binding on Mortgagee or Purchaser.64846485(o) Tenant hereby acknowledges and agrees that in the event of a6486failure or disruption in building services of any kind (including, but not6487limited to, janitorial, elevator, maintenance, electrical, water, sewer or any6488other utility service), for any length of time, Landlord, Mortgagee and/or6489Purchaser shall not be liable for any damages, actual or consequential, arising6490from or relating to such failure or disruption of service if such failure or6491disruption is cured or remedied in accordance with the terms of the Lease.649264936. ACKNOWLEDGMENT AND AGREEMENT BY LANDLORD. Landlord, as landlord6494under the Lease and grantor under the Mortgage, acknowledges and agrees for64956496-49-6497<PAGE>64986499itself and its heirs, representatives, successors and assigns, that: (a) this6500Agreement does not constitute a waiver by Mortgagee of any of its rights under6501the Mortgage, Note or Security Documents and does not in any way release6502Landlord from its obligations to comply with the terms, provisions, conditions,6503covenants, agreements and clauses of the Mortgage, Note and Security Documents;6504(b) the provisions of the Mortgage, Note and Security Documents remain in full6505force and effect and must be complied with by Landlord; and (c) in the event of6506a default under the Mortgage, Note or Security Documents, Tenant may pay all6507rent and all other sums due under the Lease to Mortgagee as provided herein or6508in the Mortgage, Note and Security Documents or any separate assignment.6509Landlord represents and warrants to Mortgagee that a true and complete copy of6510the Lease has been delivered by Landlord to Mortgagee.651165127. LEASE STATUS. Landlord and Tenant each certify to Mortgagee that6513neither Landlord nor Tenant has knowledge of any default on the part of the6514other under the Lease, and the Lease is bona fide and contains all of the6515agreements of the parties thereto with respect to the letting of the Premises6516and all of the agreements and provisions therein contained are in full force and6517effect. Tenant hereby agrees that, without the prior written consent of6518Mortgagee, Tenant shall not amend, alter, terminate, or waive any provision of,6519or consent to the amendment, alteration, termination or waiver of any provision6520of the Lease if such amendment, alteration, termination or waiver would (i)6521result in a reduction of rent or other sums due and payable pursuant to the6522Lease, (ii) terminate the Lease (except pursuant to an express right of6523termination set forth in the Lease as of the date of this Agreement, (iii)6524modify the terms of the Lease regarding surrendering possession of the Premises,6525(iv) provide for payment of rent more than one (1) month in advance, (v) permit6526the subordination of the Lease to any lien other than the Mortgage, (vi) modify6527the permitted uses under the Lease, (vii) modify the provisions regarding6528Tenant's obligation to comply with all laws (including environmental laws), or6529(viii) otherwise make Landlord's obligations thereunder more onerous.653065318. NOTICES. All notices, requests, consents, demands and other6532communications required or which any party desires to give hereunder shall be in6533writing and shall be deemed sufficiently given or furnished if delivered by6534personal delivery, by telegram, telex, or facsimile, by expedited delivery6535service with proof of delivery, or by registered or certified United States6536mail, postage prepaid, at the addresses specified at the end of this Agreement6537(unless changed by similar notice in writing given by the particular party whose6538address is to be changed). Any such notice or communication shall be deemed to6539have been given either at the time of personal delivery or, in the case of6540delivery service or mail as a certified or registered item, as of the date such6541notice is deposited in an official depository of the United States Mail properly6542addressed to the address of the intended recipient, or, in the case of telegram,6543telex, or facsimile, upon receipt. Notwithstanding the foregoing, no notice of6544change of address shall be effective except upon receipt. This Section shall not6545be construed in any way to affect or impair any waiver of notice or demand6546provided in this Agreement or in the Lease or in any document evidencing,6547securing or pertaining to the loan evidenced by the Note or to require giving of6548notice or demand to or upon any person in any situation or for any reason.654965509. MISCELLANEOUS.65516552(a) This Agreement supersedes any inconsistent provision of the Lease.65536554(b) Nothing contained in this Agreement shall be construed in derogation6555of or in any way to impair or affect the liens, security interests or provisions6556of the Mortgage or Security Documents.65576558(c) This Agreement shall inure to the benefit of and be binding upon6559Mortgagee, Landlord, Tenant and their respective successors and permitted6560assigns (including, but not limited to any party who purchases the Property6561pursuant to a foreclosure of the Mortgage and the grantee of a deed in lieu of65626563-50-6564<PAGE>65656566foreclosure and their respective successors and assigns), and any Purchaser, and6567its successors and assigns; provided, however, that in the event of the6568assignment or transfer of the interest of Mortgagee, all obligations and6569liabilities of the assigning Mortgagee under this Agreement shall terminate, and6570thereupon all such obligations and liabilities shall be the responsibility of6571the party to whom Mortgagee's interest is assigned or transferred, and provided6572further that, the interest of Tenant under the Lease and this Agreement may not6573be assigned or transferred without the prior written consent of Mortgagee;6574provided, however, that Tenant shall have the right, without Mortgagee's6575consent, to assign the Lease as permitted by the terms of the Lease (in which6576case Tenant may assign its rights under this Agreement to such assignee without6577Mortgagee's consent).65786579(d) If any provision of this Agreement shall be held to be invalid,6580illegal, or unenforceable in any respect, such invalidity, illegality, or6581unenforceability shall not apply to or affect any other provision hereof, but6582this Agreement shall be construed as if such invalidity, illegality, or6583unenforceability did not exist.65846585(e) This Agreement and its validity, enforcement and interpretation6586shall be governed by the laws of the State of Texas and applicable United States6587federal law except only to the extent, if any, that the laws of the state in6588which the Property is located necessarily control.65896590(f) The words "herein," "hereof" and "hereunder" and other similar6591compounds of the word "here" as used in this Agreement refer to this entire6592Agreement and not to any particular section or provision.65936594(g) This Agreement may not be modified orally or in any manner other6595than by an agreement in writing signed by the parties hereto or their respective6596successors in interest.65976598- --------------------------------------------------------------------------------6599THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK6600- --------------------------------------------------------------------------------66016602-51-6603<PAGE>66046605IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be6606duly executed as of the date first above written.66076608MORTGAGEE:66096610NATIONSBANK, N.A.,6611a national banking association66126613By: /s/Robert H. Shore6614Name: Robert H. Shore6615Title: Vice President66166617TENANT:66186619ADVANCED NEUROMODULATION SYSTEMS, INC.,6620a Texas corporation662166226623By: /s/Stuart B. Johnson6624Name: Stuart B. Johnson6625Title: Vice President, Operations66266627LANDLORD:66286629LEGACY LINCOLN I, LTD.,6630a Texas limited partnership66316632By: Lincoln Property Company No. 2698, Ltd.,6633a Texas limited partnership, its General6634Partner66356636By: Lincoln Property Company No.66372699, Inc., a Texas corporation,6638its General Partner663966406641By: /s/ John H. Walter6642Name: John H. Walter6643Title: Vice President66446645Address of Mortgagee:6646NationsBank, N.A.6647901 Main Street, 51st Floor6648Dallas, Texas 752026649Attention: Real Estate Loan Administration66506651-52-6652<PAGE>66536654Address of Tenant:6655One Allentown Parkway6656Allen, Texas 75002-42116657Attention: Stuart B. Johnson66586659Address of Landlord:6660Legacy Lincoln I Ltd.66613300 Lincoln Plaza6662500 North Akard Street6663Dallas, Texas 752016664Attention: Thomas H. Kuhlmann66656666-53-6667<PAGE>66686669EXHIBIT A66706671Legal Description of the Land6672-----------------------------66736674BEING a 14.9216 acre tract of land situated in the Maria C. Vela Survey,6675Abstract No. 935, City of Plano, Collin County, Texas, and being a part of a66761,094.07 acre tract conveyed to Quorum Development Corporation by Deed recorded6677in Volume 1171, Page 174, Land Records of Collin County, Texas, and being more6678particularly described as follows (bearings referenced to EDS monumentation6679system):66806681COMMENCING at a found 3-inch aluminum disk stamped "TU Electric" for the6682southwest corner of Plano Tennyson Parkway Substation, an addition to the City6683of Plano, Texas, as recorded in Cabinet G, Page 437, Map Records of Collin6684County, Texas, said point South 74 degrees 09 minutes 03 seconds West, a6685distance of 3,302.03 feet from a found brass disk in concrete stamped "EDS 10",6686having EDS truncated surface coordinates North 75014.8828 feet, East 90574.19776687feet;66886689THENCE North 00 degrees 00 minutes 18 seconds East, along the west line of said6690Plano Tennyson Parkway Substation, a distance of 500.00 feet to a found 3-inch6691aluminum disk stamped "TU Electric" for the northwest corner of said Plano6692Tennyson Parkway Substation;66936694THENCE South 89 degrees 59 minutes 42 seconds East, along the north line of said6695Plano Tennyson Parkway Substation, a distance of 1095.36 feet to a 1/2 inch iron6696rod found with yellow plastic cap stamped "Halff Associates, Inc." for the POINT6697OF BEGINNING;66986699THENCE north 00 degrees 40 minutes 47 seconds West, departing the north line of6700said Plano Tennyson Parkway Substation, a distance of 989.29 feet to a 1/2 inch6701iron rod found with yellow plastic cap stamped "Halff Associates, Inc." for6702corner;67036704THENCE North 89 degrees 19 minutes 13 seconds East, a distance of 653.20 feet to6705a 1/2 inch iron rod found with yellow plastic cap stamped "Halff Associates,6706Inc." for corner, said point being in the West line of Windcrest Drive (a 60'6707ROW) and being the beginning of a curve to the left having a central angle of 156708degrees 13 minutes 35 seconds, a radius of 530.00 feet, a tangent length of670970.84 feet, and a chord bearing South 06 degrees 56 minutes 01 seconds West6710140.43 feet;67116712THENCE in a southerly direction along said curve to the left, and with the West6713line of Windcrest Drive, an arc distance of 140.85 feet to a 1 inch iron rod6714found for corner;67156716THENCE South 00 degrees 40 minutes 47 seconds East, with the West line of6717Windcrest Drive, a distance of 1136.28 feet to a 1 inch iron rod found for6718corner, said point being the beginning of a curve to the right having a central6719angle of 03 degrees 08 minutes 58 seconds, a radius of 670.00 feet, a tangent6720length of 18.42 feet, and a chord bearing South 00 degrees 53 minutes 42 seconds6721West, 36.82 feet;67226723THENCE in a southerly direction along said curve to the right, and with the west6724line of Windcrest Drive, an arc distance of 36.38 feet to a 1 inch iron rod6725found for corner;67266727THENCE South 89 degrees 42 minutes 57 seconds West, departing said West line of6728Windcrest Drive, a distance of 58.99 feet to a 1/2 inch iron rod found with6729yellow plastic cap stamped "Halff Associates, Inc." for corner in the east line6730of the above mentioned Plano Tennyson Parkway Substation;67316732-54-6733<PAGE>67346735THENCE North 00 degrees 40 minutes 47 seconds West, with the East line of said6736Plano Tennyson Parkway Substation, a distance of 315.72 feet to a 1/2 inch iron6737rod found with yellow plastic cap stamped "Halff Associates, Inc." for corner,6738said point being the Northeast corner of said Plano Tennyson Parkway Substation;67396740THENCE North 89 degrees 59 minutes 42 seconds West, with the North line of said6741Plano Tennyson Parkway Substation, a distance of 574.64 feet to the POINT OF6742BEGINNING and containing 649,985 square feet or 14.9216 acres of land.67436744-55-6745<PAGE>67466747EXHIBIT "J"67486749HAZARDOUS SUBSTANCES6750--------------------67516752Isopropyl Alcohol6753Mek6754Toluene6755Acetone6756AK-2256757Wavieide6758Dimethyl Siloxane6759Acid Flux6760Sulfuric Acid6761Liquid Vinyl6762Naphtha Methoysilane6763Sodium Dichromate6764Dichloromethane6765Bleach67666767-56-6768<PAGE>67696770677167726773677467756776677767786779678067816782678367846785EXHIBIT 11.167866787<PAGE>67886789Advanced Neuromodulation Systems, Inc.6790Computation of Earnings Per Share6791Years Ended December 316792<TABLE>6793<CAPTION>679467951998 1997 19966796------------ ------------ ------------6797Basic earnings (loss) per share:6798<S> <C> <C> <C>6799Weighted average common6800shares outstanding .......................... 8,314,290 8,428,393 8,259,1296801------------ ------------ ------------68026803Net earnings from continuing operations ......... $ 2,585,706 $ 817,511 $ 114,5146804Net earnings (loss) from discontinued operations 4,373,496 (93,490) (526,671)6805------------ ------------ ------------6806Net earnings (loss) ............................. $ 6,959,202 $ 724,021 $ (412,157)6807------------ ------------ ------------680868096810Net earnings from continuing operations6811per share ................................... $ 0.31 $ 0.10 $ 0.016812Net earnings (loss) from discontinued operations6813per share ................................... 0.53 (0.01) (0.06)6814------------ ------------ ------------6815Net earnings (loss) per share ................... $ 0.84 $ 0.09 $ (0.05)6816------------ ------------ ------------6817</TABLE>68186819<TABLE>6820<CAPTION>6821Diluted earnings (loss) per share:6822<S> <C> <C> <C>6823Weighted average common6824shares outstanding .......................... 8,314,290 8,428,393 8,259,1296825Stock options and warrants--based on the treasury6826stock method using average market price ..... 229,750 429,693 550,4546827------------ ------------ ------------6828Diluted common and common equivalent6829shares outstanding .......................... 8,544,040 8,858,086 8,809,5836830------------ ------------ ------------68316832Net earnings from continuing operations ......... $ 2,585,706 $ 817,511 $ 114,5146833Net earnings (loss) from discontinued operations 4,373,496 (93,490) (526,671)6834------------ ------------ ------------6835Net earnings (loss) ............................. $ 6,959,202 $ 724,021 $ (412,157)6836------------ ------------ ------------68376838Net earnings from continuing operations6839per share ................................... $ 0.30 $ 0.09 $ 0.016840Net earnings (loss) from discontinued operations6841per share ................................... 0.51 (0.01) (0.06)6842------------ ------------ ------------6843Net earnings (loss) per share ................... $ 0.81 $ 0.08 $ (0.05)6844------------ ------------ ------------6845</TABLE>68466847<PAGE>6848684968506851685268536854685568566857685868596860686168626863EXHIBIT 21.168646865<PAGE>68666867SUBSIDIARIES6868------------68696870The Company has no "significant subsidiaries" as defined in Rule 1-02 (w) of6871Regulation S-X.68726873<PAGE>6874687568766877687868796880688168826883688468856886688768886889EXHIBIT 23.168906891<PAGE>689268936894689568966897689868996900Consent of Independent Auditors69016902We consent to the incorporation by reference in the Registration Statements6903(Form S-8 - Nos. 2-82414, 2-91410, 33-235312, and 33-00967, and Form S-3 - No.690433-40927) pertaining to the Advanced Neuromodulation Systems, Inc. 1979 Amended6905and Restated Employees' Stock Option Plan; the Advanced Neuromodulation Systems,6906Inc. Directors' Stock Option Plan; the Advanced Neuromodulation Systems, Inc.69071987 Employees' Stock Option Plan; the Advanced Neuromodulation Systems, Inc.69081995 Stock Option Plan; the Advanced Neuromodulation Systems, Inc. Sales and6909Marketing Employees Stock Option Plan; the Heaton Stock Option Plan; the6910registration of 100,000 shares of Common Stock issued pursuant to a Common Stock6911Purchase Warrant between Advanced Neuromodulation Systems, Inc. and Robert L.6912Swisher, Jr. and the related Prospectuses of our report dated February 26, 1999,6913with respect to the consolidated financial statements of Advanced6914Neuromodulation Systems, Inc. and Subsidiaries, included in the Annual Report6915(Form 10-K) for the year ended December 31, 1998.69166917/s/ Ernst & Young LLP6918---------------------6919Ernst & Young LLP692069216922Dallas, Texas6923March 26, 199969246925</TEXT>6926</DOCUMENT>6927<DOCUMENT>6928<TYPE>EX-276929<SEQUENCE>26930<DESCRIPTION>FDS --6931<TEXT>69326933<TABLE> <S> <C>693469356936<ARTICLE> 56937<LEGEND>6938Exhibit 27.1, Financial Data Sheet6939</LEGEND>6940<CIK> 00003517216941<NAME> Advanced Neuromodulation Systems, Inc.694269436944<S> <C>6945<PERIOD-TYPE> YEAR6946<FISCAL-YEAR-END> DEC-31-19986947<PERIOD-START> JAN-01-19986948<PERIOD-END> DEC-31-19986949<CASH> 11,697,2096950<SECURITIES> 566,0726951<RECEIVABLES> 3,385,2226952<ALLOWANCES> 249,6076953<INVENTORY> 2,643,2626954<CURRENT-ASSETS> 26,217,2886955<PP&E> 2,949,4826956<DEPRECIATION> 1,060,8906957<TOTAL-ASSETS> 45,485,3686958<CURRENT-LIABILITIES> 9,791,1466959<BONDS> 06960<PREFERRED-MANDATORY> 06961<PREFERRED> 06962<COMMON> 435,4186963<OTHER-SE> 32,868,3296964<TOTAL-LIABILITY-AND-EQUITY> 45,485,3686965<SALES> 17,006,4076966<TOTAL-REVENUES> 20,106,4076967<CGS> 4,985,8876968<TOTAL-COSTS> 11,287,4336969<OTHER-EXPENSES> (830,391)6970<LOSS-PROVISION> 06971<INTEREST-EXPENSE> 331,4686972<INCOME-PRETAX> 4,332,0106973<INCOME-TAX> 1,746,3046974<INCOME-CONTINUING> 2,585,7066975<DISCONTINUED> 4,373,4966976<EXTRAORDINARY> 06977<CHANGES> 06978<NET-INCOME> 6,959,2026979<EPS-PRIMARY> .846980<EPS-DILUTED> .816981698269836984</TABLE>6985</TEXT>6986</DOCUMENT>6987</SEC-DOCUMENT>6988-----END PRIVACY-ENHANCED MESSAGE-----698969906991