10-Q 1 file001.txt FORM 10-Q ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 ---------------- FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2001 Commission file numbers 001-14141 and 333-46983 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION 600 Third Avenue New York, NY 10016 Telephone: (212) 697-1111 State of incorporation: Delaware IRS identification numbers: 13-3937434 and 13-3937436 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the proceeding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. X Yes No ----- ----- There were 39,205,509 shares of L-3 Communications Holdings, Inc. common stock with a par value of $0.01 outstanding as of the close of business on October 31, 2001. ================================================================================ L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION FORM 10-Q QUARTERLY REPORT FOR QUARTER ENDED SEPTEMBER 30, 2001 PART I -- FINANCIAL INFORMATION:
PAGE NO. --------- ITEM 1. Financial Statements Condensed Consolidated Balance Sheets as of September 30, 2001 and December 31, 2000 ....................................................... 1 Condensed Consolidated Statements of Operations for the Three and Nine Months ended September 30, 2001 and September 30, 2000 .................. 2 Condensed Consolidated Statements of Cash Flows for the Nine Months ended September 30, 2001 and September 30, 2000 ......................... 4 Notes to Unaudited Condensed Consolidated Financial Statements ........... 5 ITEM 2. Management's Discussion and Analysis of Results of Operations and Financial Condition ..................................................... 18 ITEM 3. Quantitative and Qualitative Disclosures About Market Risk ............... 26 PART II -- OTHER INFORMATION: ITEM 1. Legal Proceedings ........................................................ 27 ITEM 6. Exhibits and Reports on Form 8-K ......................................... 27
L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED)
SEPTEMBER 30, DECEMBER 31, 2001 2000 --------------- ------------- ASSETS Current assets: Cash and cash equivalents ....................................... $ 98,471 $ 32,680 Contracts in process ............................................ 780,160 700,133 Deferred income taxes ........................................... 69,610 89,732 Other current assets ............................................ 18,326 7,025 ---------- ---------- Total current assets .......................................... 966,567 829,570 ---------- ---------- Property, plant and equipment, net ............................... 175,634 156,128 Intangibles, primarily goodwill .................................. 1,527,184 1,371,368 Deferred income taxes ............................................ 56,244 57,111 Deferred debt issuance costs ..................................... 29,239 29,907 Other assets ..................................................... 34,793 19,460 ---------- ---------- Total assets .................................................. $2,789,661 $2,463,544 ========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable, trade ......................................... $ 139,683 $ 159,901 Accrued employment costs ........................................ 127,357 102,606 Accrued expenses ................................................ 39,901 55,576 Customer advances ............................................... 63,909 55,203 Accrued interest ................................................ 22,213 16,335 Income taxes .................................................... 5,072 7,251 Other current liabilities ....................................... 64,228 71,797 ---------- ---------- Total current liabilities ..................................... 462,363 468,669 ---------- ---------- Pension and postretirement benefits .............................. 109,275 105,523 Other liabilities ................................................ 58,870 101,783 Long-term debt ................................................... 911,608 1,095,000 Minority interest ................................................ 71,925 -- Commitments and contingencies Shareholders' equity: L-3 Holdings' common stock $.01 par value; authorized 100,000,000 shares, issued and outstanding 39,122,326 and 33,606,645 shares (L-3 Communications common stock: $.01 par value, 100 shares authorized, issued and outstanding) ........................... 926,193 515,926 Retained earnings ............................................... 257,201 186,272 Unearned compensation ........................................... (3,680) (2,457) Accumulated other comprehensive loss ............................ (4,094) (7,172) ---------- ---------- Total shareholders' equity ....................................... 1,175,620 692,569 ---------- ---------- Total liabilities and shareholders' equity .................... $2,789,661 $2,463,544 ========== ==========
See notes to condensed consolidated financial statements. 1 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30, -------------------------------- 2001 2000 ----------- ------------- Sales ................................................... $618,164 $514,415 Costs and expenses ...................................... 542,956 451,600 -------- -------- Operating income ........................................ 75,208 62,815 Interest and other income (expense) ..................... (199) 904 Interest expense ........................................ 18,450 24,831 Minority interest ....................................... 2,370 -- -------- -------- Income before income taxes .............................. 54,189 38,888 Provision for income taxes .............................. 20,754 14,772 -------- -------- Net income .............................................. $ 33,435 $ 24,116 ======== ======== L-3 Holdings' earnings per common share: Basic .................................................. $ 0.86 $ 0.72 ======== ======== Diluted ................................................ $ 0.82 $ 0.69 ======== ======== L-3 Holdings' weighted average common shares outstanding: Basic .................................................. 39,035 33,542 ======== ======== Diluted ................................................ 44,222 35,166 ======== ========
See notes to condensed consolidated financial statements. 2 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, --------------------------------- 2001 2000 --------------- --------------- Sales ................................................... $1,641,625 $1,352,443 Costs and expenses ...................................... 1,459,081 1,205,306 ---------- ---------- Operating income ........................................ 182,544 147,137 Interest and other income ............................... 1,255 3,461 Interest expense ........................................ 64,886 67,122 Minority interest ....................................... 3,955 -- ---------- ---------- Income before income taxes .............................. 114,958 83,476 Provision for income taxes .............................. 44,029 31,972 ---------- ---------- Net income .............................................. $ 70,929 $ 51,504 ========== ========== L-3 Holdings' earnings per common share: Basic .................................................. $ 1.92 $ 1.55 ========== ========== Diluted ................................................ $ 1.84 $ 1.48 ========== ========== L-3 Holdings' weighted average common shares outstanding: Basic .................................................. 36,852 33,288 ========== ========== Diluted ................................................ 38,459 34,847 ========== ==========
See notes to condensed consolidated financial statements. 3 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, ------------------------------- 2001 2000 ------------- ------------ OPERATING ACTIVITIES: Net income .......................................................... $ 70,929 $ 51,504 Depreciation and amortization ....................................... 33,174 29,456 Goodwill amortization ............................................... 31,815 23,730 Amortization of deferred debt issue costs ........................... 4,739 4,039 Deferred income taxes ............................................... 33,906 19,502 Minority interest ................................................... 3,955 -- Other noncash items ................................................. 12,532 8,087 Changes in operating assets and liabilities, net of amounts acquired: Contracts in process ............................................... (67,713) (34,554) Other current assets ............................................... (1,724) (8,619) Other assets ....................................................... (5,117) (3,572) Accounts payable and accrued expenses .............................. (16,855) 29,107 Customer advances .................................................. 5,721 (14,592) Income taxes ....................................................... 8,099 3,065 Other current liabilities .......................................... (37,091) (34,472) Pension and postretirement benefits ................................ 3,054 (8,917) Other liabilities .................................................. 4,527 349 All other operating activities, net ................................ (111) (1,441) --------- --------- Net cash from operating activities .................................. 83,840 62,672 --------- --------- INVESTING ACTIVITIES: Acquisition of businesses, net of cash acquired ..................... (222,495) (532,873) Proceeds from sale of interest in subsidiary ........................ 72,060 -- Capital expenditures ................................................ (29,990) (21,356) Disposition of property, plant and equipment ........................ 133 3,225 Other investing activities .......................................... (5,001) 5,865 --------- --------- Net cash used in investing activities ............................... (185,293) (545,139) --------- --------- FINANCING ACTIVITIES: Borrowings under senior credit facilities ........................... 316,400 754,500 Repayment of borrowings under senior credit facilities .............. (506,400) (286,000) Proceeds from sale of common stock, net ............................. 353,621 -- Proceeds from exercise of stock options ............................. 10,367 6,120 Debt issuance costs ................................................. (4,071) (3,375) Other financing activities, net ..................................... (2,673) (1,347) --------- --------- Net cash from financing activities .................................. 167,244 469,898 --------- --------- Net increase (decrease) in cash ..................................... 65,791 (12,569) Cash and cash equivalents, beginning of the period .................. 32,680 42,788 --------- --------- Cash and cash equivalents, end of the period ........................ $ 98,471 $ 30,219 ========= =========
See notes to condensed consolidated financial statements. 4 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 1. DESCRIPTION OF BUSINESS L-3 Communications Holdings, Inc. ("L-3 Holdings" and together with its subsidiaries, "L-3" or "the Company") derives all its operating income and cash flow from its wholly owned subsidiary L-3 Communications Corporation ("L-3 Communications"). L-3 is a merchant supplier of sophisticated secure communication systems and specialized communication products. The Company produces secure, high data rate communication systems, training and simulation systems, avionics and ocean products, telemetry, instrumentation and space products and microwave components. These systems and products are critical elements of virtually all major communication, command and control, intelligence gathering and space systems. The Company's systems and specialized products are used to connect a variety of airborne, space, ground and sea-based communication systems and are used in transmission, processing, recording, monitoring and dissemination functions of these communication systems. The Company's customers include the U.S. Department of Defense ("DoD"), certain U.S. Government intelligence agencies, major aerospace and defense contractors, foreign governments, commercial customers and certain other U.S. Government agencies. The Company has two reportable segments, Secure Communication Systems and Specialized Communication Products. Secure Communication Systems. This segment provides secure, high data rate communications systems for military and other U.S. Government reconnaissance and surveillance applications. The major secure communication programs and systems include: o secure data links for airborne, satellite, ground and sea-based remote platforms for real time information collection and dissemination to users; o strategic and tactical signal intelligence systems that detect, collect, identify, analyze and disseminate information; o secure telephone and network equipment and encryption management; o communication software and system support services; o communication systems for surface and undersea vessels and manned space flights; and o wide-area security systems. The Secure Communication Systems segment includes the training and simulation business, which produces advanced simulation and training products, with high-fidelity representations of cockpits and operator stations for aircraft and vehicle system simulation. This segment also provides a full range of teaching, training, logistic and training device support services to domestic and international military customers, and custom ballistic targets for the DoD. Specialized Communication Products. This segment supplies products to military and commercial customers, and focuses on niche markets in which the Company believes it can achieve a market leadership position. This reportable segment includes three product categories: o avionics and ocean products including aviation recorders, airborne collision avoidance products, displays, antennas, acoustic undersea warfare products, naval power distribution, conditioning, switching and protection equipment and premium fusing products; o telemetry, instrumentation and space products including commercial off-the-shelf, real-time data collection and transmission products and components for missile, aircraft and space-based electronic systems and; o microwave components including commercial off-the-shelf, high-performance microwave components and frequency monitoring equipment. 5 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 2. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements comprise the unaudited condensed consolidated financial statements of L-3 Holdings and L-3 Communications. L-3 Holdings' only asset is its investment in L-3 Communications. At September 30, 2001, the only debt obligation of L-3 Holdings was the 5.25% Convertible Senior Subordinated Notes due 2009 (the "Convertible Notes"). L-3 Holdings has also guaranteed the borrowings under the senior credit facilities of L-3 Communications. Early in the fourth quarter of 2001, L-3 Holdings sold $420,000 4% Senior Subordinated Convertible Contingent Debt Securities ("CODES") due 2011 (See Note 5). At the date of issuance the CODES are also a debt obligation of L-3 Holdings. Because the Convertible Notes of L-3 Holdings have been jointly, severally, fully and unconditionally guaranteed by L-3 Communications and certain of its domestic subsidiaries, the Convertible Notes have been reported as debt of L-3 Communications in its unaudited condensed consolidated financial statements in accordance with the Securities and Exchange Commission's Staff Accounting Bulletin No. 54. In addition, all issuances of equity securities including grants of stock options and restricted stock by L-3 Holdings to employees of L-3 Communications have also been reported in the unaudited condensed consolidated financial statements of L-3 Communications. As a result, the unaudited condensed consolidated financial positions, results of operations and cash flows of L-3 Holdings and L-3 Communications are substantially the same. L-3 Holdings has no independent assets or operations other than through its wholly owned subsidiary L-3 Communications. L-3 Communications and all of the guarantor subsidiaries of L-3 Communications are guarantor subsidiaries of L-3 Holdings. All of the non-guarantor subsidiaries of L-3 Communications are indirect non-guarantor subsidiaries of L-3 Holdings. Financial information of the subsidiaries of L-3 Communications is presented in Note 11. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Commission; accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States of America for a complete set of financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the results for the interim periods presented have been included. The results of operations for the interim periods are not necessarily indicative of results for the full year. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of sales and costs and expenses during the reporting period. The most significant of these estimates and assumptions relate to estimates of contract sales and costs, estimated costs in excess of billings to complete contracts in process, estimates of pension and postretirement benefit obligations, recoverability of recorded amounts of fixed assets and goodwill, income taxes, litigation and environmental obligations. Changes in estimates are reflected in the periods during which they become known. Actual results could differ from these estimates. Certain reclassifications have been made to conform prior period amounts to the current period presentation. These interim financial statements should be read in conjunction with the Consolidated Financial Statements of L-3 Holdings and L-3 Communications for the fiscal year ended December 31, 2000, included in their Annual Reports on Form 10-K for the fiscal year ended December 31, 2000. 6 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 3. ACQUISITIONS, DIVESTITURES AND OTHER TRANSACTIONS On February 10, 2000, the Company acquired the assets of the Training Devices and Training Services ("TDTS") business of the Raytheon Company ("Raytheon") for $159,170 in cash including acquisition costs. On April 28, 2000, the Company acquired the Traffic Alert and Collision Avoidance System ("TCAS") product line from Honeywell for $239,594 in cash, including acquisition costs. On June 30, 2000, the Company acquired all the outstanding stock of MPRI Inc. ("MPRI") for $39,686 in cash including acquisition costs and $4,000 of additional consideration that was based on the financial performance of MPRI for the year ended June 30, 2001, which will be paid in the fourth quarter of 2001. On December 29, 2000, the Company acquired all of the outstanding common stock of Coleman Research Corporation ("Coleman"), a subsidiary of Thermo Electron Corporation for $60,911 in cash including acquisition costs, and additional purchase price not to exceed $5,000 which is contingent upon the financial performance of Coleman for the year ending December 31, 2001. On May 4, 2001, the Company acquired all of the outstanding common stock of KDI Precision Products ("KDI") for $79,512 in cash plus acquisition costs, reflecting a purchase price increase of $12,000 based on preliminary closing date net assets, as defined, of KDI which is subject to final adjustment. On May 31, 2001, the Company acquired all of the outstanding common stock of EER Systems ("EER") for $118,728 in cash plus acquisition costs, and additional purchase price not to exceed $10,000 which is contingent upon the financial performance of EER for the years ending December 31, 2001 and 2002. All of the acquisitions were financed with cash on hand or borrowings under L-3 Communications' senior credit facilities. All of the Company's acquisitions have been accounted for as purchase business combinations and are included in the Company's results of operations from their respective effective dates. The assets and liabilities of $291,396 and $31,685 recorded in connection with the purchase price allocations for the acquisitions of Coleman, KDI and EER are based upon preliminary estimates of fair values for contracts in process, estimated costs in excess of billings to complete contracts in process, inventories, and deferred taxes. Actual adjustments will be based on the final purchase prices and final appraisals and other analyses of fair values which are in process. The Company has valued acquired contracts in process at contract price, less the estimated costs to complete and an allowance for normal profit on the Company's effort to complete such contracts. The Company does not expect the differences between the preliminary and final purchase price allocations for the acquisitions to be material. Had the acquisition of EER and the related financing occurred on January 1, 2001, the unaudited pro forma sales, net income and diluted earnings per share for the nine months ended September 30, 2001 would have been $1,690,900, $67,100 and $1.74. Had the acquisitions of TDTS, TCAS, Coleman, MPRI and EER and the related financings occurred on January 1, 2000, the unaudited pro forma sales, net income and diluted earnings per share for the nine months ended September 30, 2000 would have been $1,640,800, $53,100, and $1.53. The pro forma results are based on various assumptions and are not necessarily indicative of the results of operations that would have occurred had the acquisitions and the related financing transactions occurred on January 1, 2001 and January 1, 2000. On October 3, 2001, the Company announced that it had signed a definitive agreement with Spar Aerospace Limited ("Spar") pursuant to which L-3 will offer to acquire all of the outstanding common shares of Spar for Cdn$15.50 per share or approximately Cdn$182,000, net of cash to be acquired of Cdn$47,500. The offer has been mailed to the shareholders of Spar and is expected to close by the end of 2001, subject to the receipt of 66 2/3% of Spar's common shares outstanding (on a fully diluted basis) in the tender offer and customary regulatory approvals. 7 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) On May 31, 2001, the Company sold a 30% interest in Aviation Communications and Surveillance Systems LLC ("ACSS") which comprises the Company's TCAS business to Thales Avionics, a wholly owned subsidiary of Thales (formerly Thomson-CSF), for $72,060 of cash. L-3 will continue to consolidate the financial statements of ACSS. Interest and other income for the nine months ended September 30, 2001 includes an after-tax gain of $4,298 from the sale of a 30% interest in ACSS which was largely offset by a $3,912 after-tax write-down in the carrying amount of an investment in common stock. Interest and other income for the nine months ended September 30, 2000 includes an after-tax gain of $9,127 from the sale of the Company's interests in three businesses. These gains were largely offset by after-tax losses of $7,574 on the write-down in the carrying value of certain investments and intangible assets. The net proceeds from the sales are reported in "Other investing activities" on the Condensed Consolidated Statements of Cash Flows. In March 2001, the Company settled certain items with a third party provider related to an existing services agreement. In connection with the settlement, L-3 received a net cash payment of $14,200. The payment represents a credit for fees being paid over the term of the services agreement and incremental costs incurred and to be incurred by the Company over the same period arising from performance deficiencies under the services agreement. These incremental costs include additional operating costs for material management, vendor replacement, rework, warranty, manufacturing and engineering support, and administrative activities. The credit is being amortized as a reduction to costs and expenses over the period during which the services are provided. 4. CONTRACTS IN PROCESS The components of contracts in process are presented in the table below.
SEPTEMBER 30, 2001 DECEMBER 31, 2000 -------------------- ------------------ Billed receivables .............................. $284,213 $310,185 -------- -------- Unbilled contract receivables, gross ............ 338,364 277,026 Less: unliquidated progress payments ............ (95,792) (69,529) -------- -------- Unbilled contract receivables, net ............. 242,572 207,497 -------- -------- Inventoried contract costs, gross ............... 122,828 83,808 Less: unliquidated progress payments ............ (14,478) (5,685) -------- -------- Inventoried contract costs, net ................ 108,350 78,123 Inventories at lower of cost or market .......... 145,025 104,328 -------- -------- Total contracts in process ..................... $780,160 $700,133 ======== ========
8 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 5. DEBT The components of long-term debt are presented in the table below.
SEPTEMBER 30, 2001 DECEMBER 31, 2000 -------------------- ------------------ Borrowings under Senior Credit Facilities .......... $ -- $ 190,000 10 3/8% Senior Subordinated Notes due 2007 .......... 225,000 225,000 8 1/2% Senior Subordinated Notes due 2008 ........... 180,000 180,000 8% Senior Subordinated Notes due 2008 .............. 206,608 200,000 5 1/4% Convertible Senior Subordinated Notes due 2009 ............................................. 300,000 300,000 -------- ---------- Carrying value of long-term debt .................. 911,608 1,095,000 Less: Fair value of Swap Agreements ............... 6,608 -- -------- ---------- Total long-term debt .............................. $905,000 $1,095,000 ======== ==========
During the second quarter of 2001, L-3 Communications restructured its senior credit facilities. The senior credit facilities are comprised of a $400,000 five year revolving credit facility maturing on May 15, 2006 and a $200,000 364-day revolving facility maturing on May 15, 2002 under which at the maturity date L-3 Communications may, (i) at its request and subject to approval of the lenders, extend the maturity date in whole or in part, for an additional 364 day period, or (ii) at its election, convert the outstanding principal amount thereunder into a term loan which would be repayable in a single payment two years from the maturity date. Additionally, the senior credit facilities provides L-3 Communications the ability to increase, on an uncommitted basis, the amount of either the five year revolving credit facility or the 364-day revolving credit facility up to an additional $150,000 in the aggregate. Available borrowings under the Company's senior credit facilities at September 30, 2001 were $499,531, after reductions for outstanding letters of credit of $100,469. There were no outstanding borrowings under the senior credit facilities at September 30, 2001. On April 5, 2001, pursuant to a registration rights agreement that L-3 Holdings entered into with the initial purchaser of the Convertible Notes, L-3 Holdings filed a registration statement with the SEC to cover resales by holders of the Convertible Notes and the Guarantees and the 3,680,982 shares of L-3 Holdings common stock issuable upon conversion of the Convertible Notes. This registration statement became effective on April 12, 2001. In July 2001, L-3 Communications entered into interest rate swap agreements (the "Swap Agreements") on its $200,000 8% Senior Subordinate Notes due 2008. The Swap Agreements exchange the fixed interest rate on these notes for a variable interest rate on the entire principal amount outstanding. Under the Swap Agreements, L-3 Communications will pay or receive the difference between the fixed interest rate of 8% and a variable interest rate determined using the six month LIBOR rate, set in arrears, plus an average of 192 basis points. The differential to be paid or received as interest rates change is recorded as an adjustment to interest expense. The Swap Agreements are accounted for as fair value hedges. The aggregate fair values of the Swap Agreements at September 30, 2001 were $6,608 and are included in other assets and are also recorded as increases to the carrying value of the 8% Senior Subordinated Notes due 2008. Early in the fourth quarter of 2001, L-3 Holdings sold $420,000 4% Senior Subordinated Convertible Contingent Debt Securities due 2011 in a private placement. The net proceeds from this offering amounted to approximately $407,450 after underwriting discounts and commissions and other offering 9 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) expenses. Interest is payable semi-annually on March 15 and September 15 of each year commencing March 15, 2002. The CODES are convertible into L-3 Holdings common stock at $107.625 per share if the sale price of the L-3 Holdings common stock is above 120% ($129.15) of the conversion price measured over a specified number of trading days, or if the ratio of the trading price of the CODES to the average conversion value of the CODES is below 105% measured over a specific number of trading days, or if the credit ratings assigned to the CODES are below certain specified ratings, or if they have been called for redemption, or upon the occurrence of certain specified corporate transactions. Additionally, contingent interest, not to exceed a per annum rate of 0.5% of the outstanding principal amount of the CODES, will be paid on the CODES during any six-month period following a six-month period in which the average trading price of the CODES is above 120% of the principal amount of the CODES. The CODES are general unsecured obligations of L-3 Holdings and are subordinated in right of payment to all existing and future senior debt of L-3 Holdings and L-3 Communications. The CODES are subject to redemption at any time, at the option of L-3 Holdings, in whole or in part, on or after October 24, 2004 at redemption prices (plus accrued and unpaid interest -- including contingent interest) starting at 102% of principal (plus accrued and unpaid interest -- including contingent interest) during the 12 month period beginning October 24, 2004 and declining annually to 100% of principal (plus accrued and unpaid interest -- including contingent interest) on September 15, 2006. The CODES are jointly and severally guaranteed (the "Guarantees") by certain existing and future direct and indirect domestic subsidiaries of L-3 Holdings, including L-3 Communications (the "Guarantors"). The Guarantees are subordinated in right of payment to all existing and future senior debt of L-3 Holdings and the Guarantors and rank pari passu with the senior subordinated notes of the Guarantors and the Convertible Notes. Pursuant to a registration rights agreement that L-3 Holdings entered into with the initial purchasers of the CODES, L-3 Holdings agreed to file a registration statement with the SEC within 90 days, and use all commercially reasonable efforts to cause the registration statement to become effective within 180 days, after the original issuance of the CODES to cover resales by holders of the CODES and the Guarantees and the L-3 Holdings common stock issuable upon conversion of the CODES. If L-3 Holdings does not file the registration statement with the SEC on or before January 22, 2002, or if the registration statement does not become effective on or before April 22, 2002, liquidated damages, in the form of additional interest, will accrue on the CODES from and including the day following the registration default to but excluding the day on which the registration default has been cured. In no event will liquidated damages exceed 0.5% per annum of the principal amount outstanding under the CODES. 10 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 6. COMPREHENSIVE INCOME Comprehensive income for the three and nine months ended September 30, 2001 and 2000 is presented in the tables below.
THREE MONTHS ENDED SEPTEMBER 30, ----------------------- 2001 2000 ---------- ---------- Net income ............................................ $33,435 $24,116 Other comprehensive income (loss), net of tax: Foreign currency translation adjustments ............ 470 (727) Unrealized losses on securities: Unrealized losses arising during the period ......... -- (342) Unrealized losses on hedging instruments: Unrealized losses arising during the period ......... (452) -- ------- ------- Comprehensive income .................................. $33,453 $23,047 ======= =======
NINE MONTHS ENDED SEPTEMBER 30, ----------------------- 2001 2000 ---------- ---------- Net income ............................................ $70,929 $ 51,504 Other comprehensive income (loss), net of tax: Foreign currency translation adjustments ............ (70) (1,441) Unrealized gains (losses) on securities: Unrealized losses arising during the period ......... (180) (1,401) Reclassification adjustment for losses included in net income ........................................ 3,632 -- Unrealized losses on hedging instruments: Cumulative adjustment at January 1, 2001 ............ (41) -- Unrealized losses arising during the period ......... (263) -- ------- -------- Comprehensive income .................................. $74,007 $ 48,662 ======= ========
Accumulated other comprehensive balances as of September 30, 2001 and December 31, 2000 are presented in the table below.
FOREIGN UNREALIZED MINIMUM ACCUMULATED CURRENCY UNREALIZED GAINS (LOSSES) PENSION OTHER TRANSLATION GAINS (LOSSES) ON HEDGING LIABILITY COMPREHENSIVE ADJUSTMENTS ON SECURITIES INSTRUMENTS ADJUSTMENTS INCOME (LOSS) ------------- ---------------- ---------------- ------------- -------------- SEPTEMBER 30, 2001 Balance January 1, 2001 ....... $ (2,584) $ (3,698) $ -- $ (890) $ (7,172) Period change ................. (70) 3,452 (304) -- 3,078 -------- -------- ------ ------ -------- Balance September 30, 2001..... $ (2,654) $ (246) $ (304) $ (890) $ (4,094) ======== ======== ====== ====== ======== DECEMBER 31, 2000 Balance January 1, 2000 ....... $ (1,362) $ (970) $ -- $ (71) $ (2,403) Period change ................. (1,222) (2,728) -- (819) (4,769) -------- -------- ------ ------ -------- Balance December 31, 2000...... $ (2,584) $ (3,698) $ -- $ (890) $ (7,172) ======== ======== ====== ====== ========
11 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 7. L-3 HOLDINGS EARNINGS PER SHARE A reconciliation of basic and diluted earnings per share ("EPS") is presented in the table below.
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, -------------------------- -------------------------- 2001 2000 2001 2000 ------------ ------------ ------------ ------------ Basic: Net income .......................................... $ 33,435 $ 24,116 $ 70,929 $ 51,504 Weighted average common shares outstanding .......... 39,035 33,542 36,852 33,288 --------- --------- --------- --------- Basic earnings per share ............................ $ 0.86 $ 0.72 $ 1.92 $ 1.55 ========= ========= ========= ========= Diluted: Net income .......................................... $ 33,435 $ 24,116 $ 70,929 $ 51,504 After-tax interest expense savings on the assumed conversion of Convertible Notes .................... 2,613 -- -- -- --------- --------- --------- --------- Net income including assumed conversion ............. $ 36,048 $ 24,116 $ 70,929 $ 51,504 ========= ========= ========= ========= Common and potential common shares: Weighted average common shares outstanding ......... 39,035 33,542 36,852 33,288 Assumed exercise of stock options .................. 3,844 3,979 3,826 4,005 Assumed purchase of common shares for treasury ......................................... (2,338) (2,355) (2,219) (2,446) Assumed conversion of Convertible Notes ............ 3,681 -- -- -- --------- --------- --------- --------- Common and potential common shares .................. 44,222 35,166 38,459 34,847 ========= ========= ========= ========= Diluted earnings per share .......................... $ 0.82 $ 0.69 $ 1.84 $ 1.48 ========= ========= ========= =========
The 3,680,982 shares of L-3 Holdings common stock that are issuable upon conversion of the Convertible Notes were not included in the computation of diluted EPS for the nine months ended September 30, 2001 because the effect of the assumed conversion would have been anti-dilutive. On May 2, 2001, L-3 Holdings sold 6,900,000 shares of its common stock in a public offering for $80.00 per share. L-3 Holdings sold 4,575,000 shares and other selling stockholders including affiliates of Lehman Brothers Inc. sold 2,325,000 secondary shares. Upon closing, L-3 Holdings received net proceeds after underwriting discounts and commissions and other offering expenses of $353,621. The net proceeds were used to repay borrowings outstanding under the Company's senior credit facilities, pay for the KDI and EER acquisitions and to increase cash and cash equivalents. 8. CONTINGENCIES The Company is engaged in providing products and services under contracts with the U.S. Government and to a lesser degree, under foreign government contracts, some of which are funded by the U.S. Government. All such contracts are subject to extensive legal and regulatory requirements, and, from time to time, agencies of the U.S. Government investigate whether such contracts were and are being conducted in accordance with these requirements. Under U.S. Government procurement regulations, an indictment of the Company by a federal grand jury could result in the Company being suspended for a period of time from eligibility for awards of new government contracts. A conviction could result in debarment from contracting with the federal government for a specified term. Additionally, in the event that U.S. Government expenditures for products and services of the type manufactured and provided by the Company are reduced, and not offset by greater commercial sales or other new programs or products, or acquisitions, there may be a reduction in the volume of contracts or subcontracts awarded to the Company. 12 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) Management continually assesses the Company's obligations with respect to applicable environmental protection laws. While it is difficult to determine the timing and ultimate cost to be incurred by the Company in order to comply with these laws, based upon available internal and external assessments, with respect to those environmental loss contingencies of which management is aware, the Company believes that even without considering potential insurance recoveries, if any, there are no environmental loss contingencies that, individually or in the aggregate, would be material to the Company's results of operations. The Company accrues for these contingencies when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. The Company has been periodically subject to litigation, claims or assessments and various contingent liabilities incidental to its business. With respect to those investigative actions, items of litigation, claims or assessments of which they are aware, management of the Company is of the opinion that the probability is remote that, after taking into account certain provisions that have been made with respect to these matters, the ultimate resolution of any such investigative actions, items of litigation, claims or assessments will have a material adverse effect on the financial position or results of operations of the Company. On September 28, 2001, the Company agreed to dismiss with prejudice its lawsuit against Raytheon and Raytheon Technical Services Company in connection with the sale by Raytheon to the Company of TDTS in February 2000, including the AVCATT contract, and Raytheon agreed to dismiss its counter claims against the Company with prejudice. The dismissal did not materially affect the Company's consolidated results of operations, cash flows or financial position. 9. SEGMENT INFORMATION The Company has two reportable segments, Secure Communication Systems and Specialized Communication Products which are described in Note 1. The Company evaluates the performance of its operating divisions and reportable segments based on sales and operating income. The table below presents sales, operating income and assets by reportable segment.
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, ----------------------- ----------------------------- 2001 2000 2001 2000 ----------- ----------- -------------- -------------- SALES: Secure Communication Systems ............... $346,962 $233,747 $ 868,084 $ 598,967 Specialized Communication Products ......... 271,999 284,126 777,050 760,759 Elimination of intersegment sales .......... (797) (3,458) (3,509) (7,283) -------- -------- ---------- ---------- Consolidated total ....................... $618,164 $514,415 $1,641,625 $1,352,443 ======== ======== ========== ========== OPERATING INCOME: Secure Communication Systems ............... $ 42,130 $ 25,100 $ 93,388 $ 63,796 Specialized Communication Products ......... 33,078 37,715 89,156 83,341 -------- -------- ---------- ---------- Consolidated total ....................... $ 75,208 $ 62,815 $ 182,544 $ 147,137 ======== ======== ========== ==========
SEPTEMBER 30, 2001 DECEMBER 31, 2000 -------------------- ------------------ ASSETS: Secure Communication Systems ............... $ 967,066 $ 792,949 Specialized Communication Products ......... 1,582,155 1,480,790 Corporate .................................. 240,440 189,805 ---------- ---------- Consolidated total ....................... $2,789,661 $2,463,544 ========== ==========
10. NEW ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 141, Business Combinations, which supercedes Accounting Principles 13 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) Board Opinion ("APB") No. 16, Business Combinations. SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 and establishes specific criteria for the recognition of intangible assets separately from goodwill. In July 2001, the FASB also issued SFAS No. 142, Goodwill and Other Intangible Assets, which supercedes APB No. 17, Intangible Assets. SFAS No. 142 revises the standards for accounting for goodwill and intangible assets. SFAS No. 142 requires that goodwill and indefinite lived intangible assets no longer be amortized, but be tested for impairment at least annually. SFAS No. 142 also requires that the amortization period of intangible assets with finite lives be no longer limited to forty years. The provisions of SFAS No. 142 will be effective for fiscal years beginning after December 15, 2001. Based on the current levels of goodwill, amortization expense would decrease by approximately $43,900 on an annual basis. In addition, the Company is still evaluating the impact of the other provisions of SFAS No. 141 and SFAS No. 142 on its consolidated results of operations or financial position. In August 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement Obligations. SFAS No. 143 addresses financial accounting and reporting for legal obligations associated with the retirement of tangible long-lived assets that result from the acquisition, construction, or development and (or) the normal operation of a long-lived asset, except for certain obligations of lessees. This statement does not apply to obligations that arise solely from a plan to dispose of a long-lived asset. SFAS No. 143 is effective for financial statements issued for fiscal years beginning after June 15, 2002. The Company is evaluating the impact of SFAS No. 143 on it's consolidated results of operations and financial position. In October 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This statement supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, Reporting the Results of Operations -- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business (as previously defined in that Opinion). This Statement also amends Accounting Research Bulletin No. 51, Consolidated Financial Statements, to eliminate the exception to consolidation for a subsidiary for which control is likely to be temporary. The provisions of SFAS No. 144 are effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years. The Company is evaluating the impact of SFAS No. 144 on it's consolidated results of operations and financial position. 11. UNAUDITED FINANCIAL INFORMATION OF L-3 COMMUNICATIONS AND ITS SUBSIDIARIES L-3 Communications is a wholly owned subsidiary of L-3 Holdings. The debt of L-3 Communications, including the Senior Subordinated Notes and borrowings under amounts drawn against the Senior Credit Facilities are guaranteed, on a joint and several, full and unconditional basis, by certain of its wholly owned domestic subsidiaries (the "Guarantor Subsidiaries"). The foreign subsidiaries and certain domestic subsidiaries of L-3 Communications (the "Non-Guarantor Subsidiaries") do not guarantee the debt of L-3 Communications. None of the debt of L-3 Communications has been issued by its subsidiaries. There are no restrictions on the payment of dividends from the Guarantor Subsidiaries to L-3 Communications. The following unaudited condensed combining financial information present the results of operations, financial position and cash flows of (i) L-3 Communications excluding its consolidated subsidiaries (the "Parent") (ii) the Guarantor Subsidiaries, (iii) the Non-Guarantor Subsidiaries and (iv) the eliminations to arrive at the information for L-3 Communications on a consolidated basis. 14 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
GUARANTOR NON-GUARANTOR CONSOLIDATED PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS L-3 COMMUNICATIONS ------------- -------------- --------------- ---------------- ------------------- CONDENSED COMBINING BALANCE SHEETS: AS OF SEPTEMBER 30, 2001 Total current assets ..................... $ 550,588 $231,895 $ 184,084 $ -- $ 966,567 Other long-term assets ................... 840,908 405,626 576,560 -- 1,823,094 Investment in and amounts due from consolidated subsidiaries .............. 1,130,327 26,312 121,744 (1,278,383) -- ---------- -------- --------- ----------- ---------- Total assets .......................... $2,521,823 $663,833 $ 882,388 $(1,278,383) $2,789,661 ========== ======== ========= =========== ========== Total current liabilities ................ $ 301,262 $ 55,737 $ 105,364 $ -- $ 462,363 Other long-term liabilities .............. 133,333 31,066 3,746 -- 168,145 Long-term debt ........................... 911,608 -- -- -- 911,608 Minority interest ........................ -- -- 71,925 -- 71,925 Shareholders' equity ..................... 1,175,620 577,030 701,353 (1,278,383) 1,175,620 ---------- -------- --------- ----------- ---------- Total liabilities and shareholders' equity ............................... $2,521,823 $663,833 $ 882,388 $(1,278,383) $2,789,661 ========== ======== ========= =========== ========== AS OF DECEMBER 31, 2000 Total current assets ..................... $ 530,672 $229,531 $ 69,367 $ -- $ 829,570 Other long-term assets ................... 1,110,082 433,763 90,129 -- 1,633,974 Investment in and amounts due from (to) consolidated subsidiaries ...... 613,153 55,805 (27,022) (641,936) -- ---------- -------- --------- ----------- ---------- Total assets .......................... $2,253,907 $719,099 $ 132,474 $ (641,936) $2,463,544 ========== ======== ========= =========== ========== Total current liabilities ................ $ 365,123 $ 71,948 $ 31,598 $ -- $ 468,669 Other long-term liabilities .............. 101,215 103,173 2,918 -- 207,306 Long-term debt ........................... 1,095,000 -- -- -- 1,095,000 Shareholders' equity ..................... 692,569 543,978 97,958 (641,936) 692,569 ---------- -------- --------- ----------- ---------- Total liabilities and shareholders' equity ............................... $2,253,907 $719,099 $ 132,474 $ (641,936) $2,463,544 ========== ======== ========= =========== ==========
15 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
GUARANTOR NON-GUARANTOR CONSOLIDATED PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS L-3 COMMUNICATIONS ------------ -------------- --------------- -------------- ------------------- CONDENSED COMBINING STATEMENTS OF OPERATIONS: FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2001 Sales .................................... $341,588 $ 89,001 $188,377 $ (802) $ 618,164 -------- --------- -------- --------- ---------- Operating income (loss) .................. 55,926 (4,971) 24,253 -- 75,208 Interest and other income (expense) ...... 158 (405) 48 -- (199) Interest expense ......................... 18,260 21 169 -- 18,450 Minority interest ........................ -- -- 2,370 -- 2,370 Provision (benefit) for income taxes ..... 14,487 (2,067) 8,334 -- 20,754 Equity in net income of consolidated subsidiaries ............................ 10,098 -- -- (10,098) -- -------- --------- -------- --------- ---------- Net income (loss) ........................ $ 33,435 $ (3,330) $ 13,428 $ (10,098) $ 33,435 ======== ========= ======== ========= ========== FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2000 Sales .................................... $349,433 $ 120,979 $ 44,003 $ -- $ 514,415 -------- --------- -------- --------- ---------- Operating income (loss) .................. 73,816 (4,009) (6,992) -- 62,815 Interest and other income (expense) ...... 2,274 49 (1,419) -- 904 Interest expense ......................... 24,646 14 171 -- 24,831 Provision (benefit) for income taxes ..... 19,238 (1,485) (2,981) -- 14,772 Equity in net loss of consoldiated subsidiaries ............................ (8,090) -- -- 8,090 -- -------- --------- -------- --------- ---------- Net income (loss) ........................ $ 24,116 $ (2,489) $ (5,601) $ 8,090 $ 24,116 ======== ========= ======== ========= ========== FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 Sales .................................... $939,146 $ 254,948 $450,572 $ (3,041) $1,641,625 -------- --------- -------- --------- ---------- Operating income (loss) .................. 144,839 (12,700) 50,405 -- 182,544 Interest and other income (expense) ...... 8,155 (711) (6,189) -- 1,255 Interest expense ......................... 64,675 38 173 -- 64,886 Minority interest ........................ -- -- 3,955 -- 3,955 Provision (benefit) for income taxes ..... 33,826 (5,151) 15,354 -- 44,029 Equity in net income of consolidated subsidiaries ............... 16,436 -- -- (16,436) -- -------- --------- -------- --------- ---------- Net income (loss) ........................ $ 70,929 $ (8,298) $ 24,734 $ (16,436) $ 70,929 ======== ========= ======== ========= ========== FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 Sales .................................... $911,281 $ 318,347 $122,815 $ -- $1,352,443 -------- --------- -------- --------- ---------- Operating income (loss) .................. 148,123 3,034 (4,020) -- 147,137 Interest and other income (expense) ...... 4,563 227 (1,329) -- 3,461 Interest expense ......................... 66,804 140 178 -- 67,122 Provision (benefit) for income taxes ..... 32,634 1,304 (1,966) -- 31,972 Equity in net loss of consolidated subsidiaries ............................ (1,744) -- -- 1,744 -- -------- --------- -------- --------- ---------- Net income (loss) ........................ $ 51,504 $ 1,817 $ (3,561) $ 1,744 $ 51,504 ======== ========= ======== ========= ==========
16 L-3 COMMUNICATIONS HOLDINGS, INC. AND L-3 COMMUNICATIONS CORPORATION NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
GUARANTOR NON-GUARANTOR CONSOLIDATED PARENT SUBSIDIARIES SUBSIDIARIES ELIMINATIONS L-3 COMMUNICATIONS ------------- -------------- --------------- -------------- ------------------- CONDENSED COMBINING STATEMENTS OF CASH FLOWS: FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 Net cash from (used in) operating activities ............................ $ 29,744 $ (31,737) $ 85,833 -- $ 83,840 ---------- --------- ---------- ---------- ---------- Net cash used in investing activities .. (165,613) (12,082) (222,745) 215,147 (185,293) ---------- --------- ---------- ---------- ---------- Net cash from financing activities ..... 186,007 41,735 154,649 (215,147) 167,244 ---------- --------- ---------- ---------- ---------- Net increase (decrease) in cash ........ 50,138 (2,084) 17,737 -- 65,791 Cash and cash equivalents, beginning of period ............................. 18,708 4,911 9,061 -- 32,680 ---------- --------- ---------- ---------- ---------- Cash and cash equivalents, end of period ................................ $ 68,846 $ 2,827 $ 26,798 $ -- $ 98,471 ========== ========= ========== ========== ========== FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 Net cash from (used in) operating activities ............................ $ 46,384 $ 18,432 $ (2,144) $ -- $ 62,672 ---------- --------- ---------- ---------- ---------- Net cash used in investing activities .. (540,017) (30,389) (11,260) 36,527 (545,139) ---------- --------- ---------- ---------- ---------- Net cash from financing activities ..... 484,360 11,341 10,724 (36,527) 469,898 ---------- --------- ---------- ---------- ---------- Net decrease in cash ................... (9,273) (616) (2,680) -- (12,569) Cash and cash equivalents, beginning of period ............................. 34,037 5,164 3,587 -- 42,788 ---------- --------- ---------- ---------- ---------- Cash and cash equivalents, end of period ................................ $ 24,764 $ 4,548 $ 907 $ -- $ 30,219 ========== ========= ========== ========== ==========
17 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION GENERAL We are a leading merchant supplier of sophisticated secure communication systems and specialized communication products. These systems and products are critical elements of virtually all major communication, command and control, intelligence gathering and space systems. Our customers include the U.S. Department of Defense ("DoD"), certain U.S. Government agencies, major aerospace and defense contractors, foreign governments and commercial customers. We have two reportable segments: Secure Communication Systems and Specialized Communication Products. Our Secure Communication Systems segment provides secure, high data rate communications systems for military and other U.S. Government reconnaissance and surveillance applications. The Secure Communication Systems segment also produces advanced simulation and training products and wide-area security systems, and provides communication software and system support services and a full range of teaching, training, logistic and training device support services to domestic and international military customers and custom ballistic targets for the DoD. Our Specialized Communication Products segment includes three product categories: avionics and ocean products, telemetry, instrumentation and space products and microwave components. All of our domestic government contracts and subcontracts are subject to audit and various cost controls, and include standard provisions for termination for the convenience of the U.S. Government. Multiyear U.S. Government contracts and related orders are subject to cancellation if funds for contract performance for any subsequent year become unavailable. Foreign government contracts generally include comparable provisions relating to termination for the convenience of the relevant foreign government. The U.S. defense industry has also undergone dramatic consolidation resulting in the emergence of four dominant prime system contractors: The Boeing Company, Lockheed Martin Corporation, Northrop Grumman Corporation and Raytheon Company. We believe that one outcome of this consolidation is that the DoD wants to ensure that additional vertical integration does not further diminish the fragmented, yet critical DoD vendor base. Additionally, it has become economically unfeasible for the prime contractors to design, develop or manufacture all of the numerous essential products, components and systems which they use. This industry structure situation creates opportunities for merchant suppliers such as L-3. As the prime contractors continue to evaluate their core competencies and competitive position, focusing their resources on larger programs and platforms, we expect the prime contractors to continue to exit non-strategic business areas and procure these needed elements on more favorable terms from independent, commercially-oriented merchant suppliers. Recent examples of this trend include divestitures of certain non-core defense-related businesses by Lockheed Martin, Boeing and Raytheon. RESULTS OF OPERATIONS The following information should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements as of September 30, 2001. Our results of operations for the periods presented are significantly impacted by our acquisitions (see Note 3 to the Unaudited Condensed Consolidated Financial Statements). The tables below provide our selected statement of operations data for the three-month period ended September 30, 2001 (which we refer to as the 2001 Third Quarter), the three-month period ended September 30, 2000 (which we refer to as the 2000 Third Quarter), the nine-month period ended September 30, 2001 (which we refer to as the 2001 Nine Month Period) and the nine-month period ended September 30, 2000 (which we refer to as the 2000 Nine Month Period). Prior period reported segment information has been reclassified to conform with the 2001 segment presentation. 18 THREE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED WITH THREE MONTHS ENDED SEPTEMBER 30, 2000
THREE MONTHS ENDED SEPTEMBER 30, ----------------------- 2001 2000 ----------- ----------- (in millions) Sales(1): Secure Communication Systems ...................................... $ 346.9 $ 230.7 Specialized Communication Products ................................ 271.3 283.7 -------- -------- Total ........................................................... $ 618.2 $ 514.4 ======== ======== Operating income: Secure Communication Systems ...................................... $ 42.1 $ 25.1 Specialized Communication Products ................................ 33.1 37.7 -------- -------- Total ........................................................... $ 75.2 $ 62.8 ======== ======== Depreciation and amortization expenses included in operating income: Secure Communication Systems ...................................... $ 8.7 $ 6.8 Specialized Communication Products ................................ 13.7 12.2 -------- -------- Total ........................................................... $ 22.4 $ 19.0 ======== ======== EBITDA(2) Secure Communication Systems ...................................... $ 50.8 $ 31.9 Specialized Communication Products ................................ 46.8 49.9 -------- -------- Total ........................................................... $ 97.6 $ 81.8 ======== ========
---------- (1) Sales are after intersegment eliminations. See Note 9 to the Unaudited Condensed Consolidated Financial Statements. (2) EBITDA is defined as operating income plus depreciation expense and amortization expense (excluding the amortization of debt issuance costs). EBITDA is not a substitute for operating income, net income or cash flows from operating activities as determined in accordance with accounting principles generally accepted in the United States of America as a measure of profitability or liquidity. EBITDA is presented as additional information because we believe it to be a useful indicator of our ability to meet debt service and capital expenditure requirements. EBITDA as we define it may differ from similarly named measures used by other entities. Sales increased $103.8 million to $618.2 million in the 2001 Third Quarter from $514.4 million in the 2000 Third Quarter. Sales grew $116.2 million in our Secure Communication Systems segment and decreased $12.4 million in our Specialized Communication Products segment. Operating income increased $12.4 million to $75.2 million in the 2001 Third Quarter. Operating income as a percentage of sales ("operating margin") remained unchanged at 12.2%. Depreciation and amortization expenses increased $3.4 million to $22.4 million in the 2001 Third Quarter, due to increased goodwill amortization associated with our acquisitions and additional depreciation related to our capital expenditures and acquired businesses. EBITDA for the 2001 Third Quarter increased $15.8 million to $97.6 million. EBITDA as a percentage of sales ("EBITDA margin") also remained relatively unchanged at 15.8% in the 2001 Third Quarter. Basic earnings per common share ("EPS") grew 19.4% to $0.86 and diluted EPS grew 18.8% to $0.82 in the 2001 Third Quarter. The increase in diluted weighted-average common shares outstanding was principally related to our sale of 4.6 million shares of our common stock, which was completed on May 2, 2001 and the dilutive effect of the Convertible Notes sold in the fourth quarter of 2000. Interest expense decreased $6.4 million to $18.4 million in the 2001 Third Quarter from $24.8 million in the 2000 Third Quarter. The decrease is primarily due to the lower average outstanding debt during the 2001 Third Quarter and the lower interest rate on the Convertible Notes outstanding in the 2001 Third Quarter compared with the higher interest rates paid on the borrowings under the senior credit facilities outstanding in the 2000 Third Quarter as well as interest savings from the interest rate swap agreement we entered into in July 2001. The interest rate swap agreements exchange the fixed interest rate of 8% on our $200.0 million Senior Subordinated Notes due 2008 to a variable interest rate. Interest and other income for the 2000 Third Quarter includes a net pre-tax gain of $0.6 million ($0.01 per diluted share) on the sale of our 60% interest in a business. Excluding the effects of this non-recurring item, diluted EPS in the 2001 Third Quarter increased 20.6% over the 2000 Third Quarter. 19 The income tax provision for the 2001 Third Quarter is based on our estimated effective income tax rate for 2001 of 38.3%, compared to the effective tax rate of 38.0% for the 2000 Third Quarter. Sales within our Secure Communication Systems segment increased $116.2 million or 50.4% to $346.9 million in the 2001 Third Quarter compared with the 2000 Third Quarter. Operating income increased $17.0 million to $42.1 million. Operating margin increased to 12.1% from 10.9%. We attribute the increase in sales principally to the Coleman Research and EER acquired businesses and internal growth in our data links, secure telephone equipment ("STE"), airport security systems and fixed wireless products. The increase in sales was partially offset by a decline in sales in our Link Training and Simulation business which we expected as we resized and rationalized unprofitable programs in the business. The increase in operating margin was principally attributable to improving margins from the training and simulation businesses, airport security systems and data links, partially offset by negative margins and increased expenditures associated with our Prime Wave business and to lower margins on sales of the acquired businesses which we anticipated. EBITDA increased $18.9 million to $50.8 million in the 2001 Third Quarter and EBITDA margin increased to 14.6% from 13.8%. Sales within our Specialized Communication Products segment decreased $12.4 million or 4.4% to $271.3 million in the 2001 Third Quarter compared with the 2000 Third Quarter. Operating income decreased $4.6 million and operating margin declined to 12.2% from 13.3%. The decrease in sales was principally attributable to a decline in sales of naval power equipment, displays and telemetry and space products. We expect sales of our telemetry and space products for 2001 to remain essentially unchanged as compared to 2000, due to continued softness in the space and broadband commercial communications market. The decrease in sales was partially offset by internal growth in aviation products, acoustic undersea warfare products and microwave components and to the KDI acquired business. The decline in operating margin was principally attributable to lower sales volume in naval power equipment and telemetry and space products, partially offset by higher margins for aviation products and microwave components attributable to increased sales volume. EBITDA decreased $3.1 million to $46.8 million and EBITDA margin declined to 17.3% from 17.6%. NINE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED WITH NINE MONTHS ENDED SEPTEMBER 30, 2000
NINE MONTHS ENDED SEPTEMBER 30, ------------------------ 2001 2000 ------------ ----------- (in millions) Sales(1): Secure Communication Systems ...................................... $ 867.7 $ 593.1 Specialized Communication Products ................................ 773.9 759.3 --------- --------- Total ............................................................ $ 1,641.6 $ 1,352.4 ========= ========= Operating income: Secure Communication Systems ...................................... $ 93.3 $ 63.8 Specialized Communication Products ................................ 89.2 83.3 --------- --------- Total ............................................................ $ 182.5 $ 147.1 ========= ========= Depreciation and amortization expenses included in operating income: Secure Communication Systems ...................................... $ 25.1 $ 18.6 Specialized Communication Products ................................ 39.9 34.6 --------- --------- Total ............................................................ $ 65.0 $ 53.2 ========= ========= EBITDA(2) Secure Communication Systems ...................................... $ 118.4 $ 82.4 Specialized Communication Products ................................ 129.1 117.9 --------- --------- Total ............................................................ $ 247.5 $ 200.3 ========= =========
---------- (1) Sales are after intersegment eliminations. See Note 9 to the Unaudited Condensed Consolidated Financial Statements. (2) EBITDA is defined as operating income plus depreciation expense and amortization expense (excluding the amortization of debt issuance costs). EBITDA is not a substitute for operating income, net income or cash flows from operating activities as determined in accordance with accounting principles generally accepted in the United States of America as a measure of profitability or liquidity. EBITDA is presented as additional information because we believe it to be a useful indicator of our ability to meet debt service and capital expenditure requirements. EBITDA as we define it may differ from similarly named measures used by other entities. 20 Sales increased $289.2 million to $1,641.6 million in the 2001 Nine Month Period from $1,352.4 million in the 2000 Nine Month Period. Sales grew $274.6 million in our Secure Communication Systems segment and $14.6 million in our Specialized Communication Products segment. Operating income increased $35.4 million to $182.5 million in the 2001 Nine Month Period. Operating margin improved to 11.1% from 10.9%. Depreciation and amortization expenses increased $11.8 million to $65.0 million in the 2001 Nine Month Period, due to increased goodwill amortization associated with our acquisitions and additional depreciation related to our capital expenditures and acquired businesses. EBITDA for the 2001 Nine Month Period increased $47.2 million to $247.5 million. EBITDA margin improved to 15.1% in the 2001 Nine Month Period from 14.8% in the 2000 Nine Month Period. Basic EPS grew 23.9% to $1.92 and diluted EPS grew 24.3% to $1.84 in the 2001 Nine Month Period. The increases in basic and diluted weighted-average common shares outstanding were principally related to our sale of 4.6 million shares of our common stock, which was completed on May 2, 2001. Interest expense decreased $2.2 million to $64.9 million in the 2001 Nine Month Period due to the effect of lower interest rates, as well as interest savings from the interest rate swap agreements entered into in July 2001. The interest rate swap agreements exchange the fixed interest rate of 8% on our $200.0 million Senior Subordinated Notes due 2008 to a variable interest rate. Included in interest and other income for the 2001 Nine Month Period is a net pre-tax gain of $0.6 million ($0.01 per diluted share), consisting of an after-tax gain of $4.3 million from the sale of a 30% interest in ACSS to Thales Avionics and an after-tax charge of $3.9 million on the write-down in the carrying amount of an investment in common stock. Interest and other income for the 2000 Nine Month Period includes a net pre-tax gain of $2.5 million ($0.04 per diluted share), consisting of an after-tax gain of $9.2 million from the sale of our interests in three businesses and an after-tax charge of $7.6 million on the write-down in the carrying value of certain investments and intangible assets. Excluding these net gains from both the 2001 Nine Month Period and 2000 Nine Month Period, diluted EPS increased 27.1% to $1.83 in the 2001 Nine Month Period from $1.44 in the 2000 Nine Month Period. The income tax provision for the 2000 and 2001 Nine Month Periods is based on our estimated effective income tax rate for both periods of 38.3%. Sales within our Secure Communication Systems segment increased $274.6 million or 46.3% to $867.7 million in the 2001 Nine Month Period compared with the 2000 Nine Month Period. Operating income increased $29.5 million to $93.3 million. Operating margin remained unchanged at 10.8%. We attribute the increase in sales principally to the Coleman Research, MPRI and EER acquired businesses and internal growth in our data links, STE, airport security systems, fixed wireless access products and training, teaching and logistic services. Operating margin was unchanged because higher margins related to volume increases and improved margins in our training and simulation business were offset by negative margins and increased expenditures associated with our Prime Wave business and to lower margins on sales of the acquired businesses which we expected. EBITDA increased $36.0 million to $118.4 million in the 2001 Nine Month Period and EBITDA margin declined to 13.6% from 13.9%. Sales within our Specialized Communication Products segment increased $14.6 million or 1.9% to $773.9 million in the 2001 Nine Month Period compared with the 2000 Nine Month Period. Operating income increased $5.9 million and operating margin improved to 11.5% from 11.0%. The increase in sales was principally attributable to internal growth in aviation products, microwave components and acoustic undersea warfare products and to the KDI acquired business. These increases in sales were partially offset by decreases in sales of telemetry and space products, naval power equipment and displays. The increase in operating margin was principally attributable to increased sales volumes for aviation products and microwave components, partially offset by lower margins on naval power equipment and telemetry and space products arising from reduced sales volumes. EBITDA increased $11.2 million to $129.1 million and EBITDA margin increased to 16.7% from 15.5%. In March 2001, we settled certain items with a third party provider related to an existing services agreement. In connection with the settlement, we received a net cash payment of $14.2 million. The payment represents a credit for fees being paid over the term of the services agreement and incremental costs incurred and to be incurred by us over the same period arising from performance deficiencies under 21 the services agreement. These incremental costs include additional operating costs for material management, vendor replacement, rework, warranty, manufacturing and engineering support, and administrative activities. The credit is being amortized as a reduction to costs and expenses over the period during which services are being provided. LIQUIDITY AND CAPITAL RESOURCES BALANCE SHEET Contracts in process increased $80.0 million from December 31, 2000 to September 30, 2001 of which $12.3 million was related to acquired businesses. The remaining increase of $67.7 million was principally attributable to planned increases of inventories for the Prime Wave business, STE, naval power equipment and certain other programs and products in advance of shipments planned to begin to occur in the fourth quarter of 2001. During the 2001 Nine Month Period receivables declined, excluding the effect of businesses acquired, as we expected, because collections exceeded billings. The increase in intangibles was primarily related to goodwill for the KDI and EER acquistions. The decrease in other liabilities is in part related to the issuance of common stock in April 2001 to satisfy our $17.7 million obligation for the additional consideration for the ILEX acquisition. The decrease is also related to a reclassification of the current portion of estimated costs in excess of billings to other current liabilities. OPERATING ACTIVITIES During the 2001 Nine Month Period, we generated $83.8 million of cash from our operating activities, an increase of 33.8% compared to the $62.7 million generated during the 2000 Nine Month Period. Earnings adjusted for non-cash items and the deferred portion of the provision for income taxes increased $54.7 million to $191.0 million in the 2001 Nine Month Period from $136.3 million in the 2000 Nine Month Period. During the 2001 Nine Month Period, our working capital and other operating assets and liabilities increased $107.2 million compared with an increase of $73.6 million in the 2000 Nine Month Period. Our cash flows from operating activities during the 2001 Nine Month Period include uses of cash for a planned increase in inventories and receivables related to the Prime Wave business and STE program reported in the change in contracts in process and the continued effort on the AVCATT contract for costs in excess of billings reported in the change in other current liabilities. These uses of cash were partially offset by a settlement of certain items related to a services agreement. Overall, we anticipate that the rate of increase in working capital will decline during the fourth quarter of 2001, and as a result cash flow is expected to increase. The quarterly cash interest payments on our Senior Subordinated Notes and Convertible Notes are $8.0 million in the first quarter and third quarter and $27.6 million in the second quarter and fourth quarter. Our cash interest payments may be adjusted due to the interest rate swap agreements we entered into on our $200.0 million 8% Senior Subordinated Notes due 2008. INVESTING ACTIVITIES The Company continued to pursue its acquisition strategy during the 2001 Nine Month Period and invested $222.5 million to acquire businesses and product lines, as compared with the $532.9 million invested in the 2000 Nine Month Period. On May 31, 2001, we sold a 30% interest in ACSS to Thales Avionics for $72.1 million in cash. We make capital expenditures for improvement of manufacturing facilities and equipment. We expect that capital expenditures for 2001 will be between $45.0 million and $50.0 million. In March 2000, we sold our interest in the Network Security business for net proceeds of $13.4 million. In May 2000, we sold our interest in the Cardio Vascular Computer Systems business for net proceeds of $5.6 million. The proceeds from these sales are included in other investing activities, and are partially offset by acquisitions of certain investments. 22 FINANCING ACTIVITIES On May 2, 2001, we sold 6.9 million shares of our common stock in a public offering for $80.00 per share. Of this amount, we sold 4.6 million shares and other selling stockholders including affiliates of Lehman Brothers Inc. sold 2.3 million secondary shares. Upon closing, we received net proceeds of $353.6 million. The net proceeds of this offering were used to repay existing indebtedness under our senior credit facilities, pay for the KDI and EER acquisitions and to increase cash and cash equivalents. In May 2001, we restructured our senior credit facilities. The senior credit facilities are comprised of a $400.0 million five year revolving credit facility maturing on May 15, 2006 and a $200.0 million 364-day revolving facility maturing on May 15, 2002 under which at the maturity date we may, (i) at our request and subject to approval of the lenders, extend the maturity date, in whole or in part, for an additional 364 day period, or (ii) at our election, convert the outstanding principal amount thereunder into a term loan which would be repayable in a single payment two years from the maturity date. Additionally, the senior credit facilities provide us the ability to increase, on an uncommitted basis, the amount of either the five year revolving credit facility or the 364-day revolving credit facility up to an additional $150.0 million in the aggregate. At September 30, 2001, available borrowings under our senior credit facilities were $499.5 million after reductions for outstanding letters of credit of $100.5 million. There were no outstanding borrowings under our senior credit facilities at September 30, 2001. In July 2001, we entered into interest rate swap agreements, (the "Swap Agreements") on our $200.0 million 8% Senior Subordinated Notes due 2008. The Swap Agreements exchange our fixed interest rate for a variable interest rate on the entire principal amount. Under the Swap Agreements, we will pay or receive the difference between the fixed interest rate of 8% and a variable interest rate determined using the six month LIBOR rate, set in arrears, plus an average of 192 basis points. The differential to be paid or received as interest rates change will be recorded as an adjustment to interest expense. The Swap Agreements are accounted for as fair value hedges. The aggregate fair values of the Swap Agreements at September 30, 2001, were $6.6 million and are included in other assets and are also recorded as increases to the carrying value of the 8% Senior Subordinated Notes due 2008. For every basis point (0.01%) that the six month LIBOR interest rate is greater than 6.08%, we will incur an additional $0.02 million of interest expense above the fixed coupon rate on the $200.0 million 8% Senior Subordinated Notes due 2008 calculated on a per annum basis until maturity. Conversely, for every basis point that the six month LIBOR interest rate is less than 6.08%, we will recognize $0.02 million of interest income on the $200.0 million 8% Senior Subordinated Notes due 2008 calculated on a per annum basis until maturity. The six month LIBOR rate at September 30, 2001 was 2.52%. The senior credit facilities, Senior Subordinated Notes and Convertible Notes contain financial covenants which remain in effect so long as we owe any amount or any commitment to lend exists thereunder. As of September 30, 2001, L-3 Communications had been in compliance with the covenants of the agreements governing those loans at all times. The borrowings under the senior credit facilities are guaranteed by L-3 Holdings and by substantially all of the domestic subsidiaries of L-3 Communications. The payments of principal and premium, if any, and interest on the Senior Subordinated Notes are unconditionally guaranteed, on an unsecured senior subordinated basis, jointly and severally, by L-3 Holdings and substantially all of its direct and indirect wholly owned subsidiaries, including L-3 Communications. The Convertible Notes are jointly and severally guaranteed on a full and unconditional basis, by certain existing direct and indirect domestic subsidiaries of L-3 Holdings, including L-3 Communications and are subordinated in right of payment to all existing and future senior debt of the guarantors and rank pari passu with the other senior subordinated indebtedness of the guarantors. See Note 7 to our consolidated financial statements for fiscal year ended December 31, 2000, included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2000 for a description of our debt and related financial covenants at December 31, 2000. Early in the fourth quarter of 2001, we sold $420.0 million 4% Senior Subordinated Convertible Contingent Debt Securities ("CODES") due 2011 in a private placement. The net proceeds from this offering amounted to approximately $407.5 million after underwriting discounts and commissions and 23 other offering expenses. Interest is payable semi-annually on March 15 and September 15 of each year commencing March 15, 2002. The CODES are convertible into L-3 Holdings common stock at $107.625 per share if the sale price of the L-3 Holdings common stock is above 120% ($129.15) of the conversion price measured over a specified number of trading days, or if the ratio of the trading price of the CODES to the average conversion value of the CODES is below 105% measured over a specified number of trading days, or if the credit ratings assigned to the CODES are below certain specified ratings, or if they have been called for redemption, or upon the occurrence of certain specified corporate transactions. Additionally, contingent interest, not to exceed a per annum rate of 0.5% of the outstanding principal amount of the CODES, will be paid on the CODES during any six-month period following a six-month period in which the average trading price of the CODES is above 120% of the principal amount of the CODES. The CODES are jointly and severally guaranteed (the "Guarantees") by certain existing and future direct and indirect domestic subsidiaries of L-3 Holdings, including L-3 Communications (the "Guarantors"). The Guarantees are subordinated in right of payment to all existing and future senior debt of L-3 Holdings and the Guarantors and rank pari passu with the senior subordinated notes of the Guarantors and the Convertible Notes. Pursuant to a registration rights agreement that we entered into with the initial purchasers of the CODES, we agreed to file a registration statement with the SEC within 90 days and use all commercially reasonable efforts to cause the registration statement to become effective within 180 days, after the original issuance of the CODES to cover resales by holders of the CODES and Guarantees, and the L-3 Holdings common stock issuable upon conversion of the CODES. If we do not file the registration statement with the SEC on or before January 22, 2002, or if the registration statement does not become effective on or before April 22, 2002, liquidated damages, in the form of additional interest, will accrue on the CODES from and including the day following the registration default to but excluding the day on which the registration default has been cured. In no event will liquidated damages exceed 0.50% per annum of the principal amount outstanding under the CODES. On October 3, 2001, we announced that we signed a definitive agreement with Spar Aerospace Limited ("Spar") pursuant to which we will offer to acquire all of the outstanding common shares of Spar for Cdn$15.50 per share or approximately Cdn$182.0 million, net of cash to be acquired of Cdn$47.5 million. The offer has been mailed to the shareholders of Spar and is expected to close by the end of 2001, subject to the receipt of 66 2/3% of Spar's common shares outstanding (on a fully diluted basis) in the tender offer and customary regulatory approvals. The acquisition is expected to be financed with cash on hand. Based upon our current level of operations, we believe that our cash from operating activities, together with available borrowings under the senior credit facilities, will be adequate to meet our anticipated requirements for working capital, capital expenditures, commitments, research and development expenditures, contingent purchase prices, program and other discretionary investments, and interest payments for the foreseeable future. There can be no assurance, however, that our business will continue to generate cash flow at or above current levels or that currently anticipated improvements will be achieved. If we are unable to generate sufficient cash flow from operations to service our debt, we may be required to sell assets, reduce capital expenditures, refinance all or a portion of our existing debt or obtain additional financing. Our ability to make scheduled principal payments, to pay interest on or to refinance our indebtedness depends on our future performance and financial results, which, to a certain extent, are subject to general conditions in or affecting the defense industry and to general economic, political, financial, competitive, legislative and regulatory factors beyond our control. There can be no assurance that sufficient funds will be available to enable us to service our indebtedness, or make necessary capital expenditures and to make discretionary investments. CONTINGENCIES See Note 8 to the Condensed Consolidated Financial Statements. RECENTLY ISSUED AND PROPOSED ACCOUNTING STANDARDS In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No.141, Business Combinations, which supercedes Accounting Principles 24 Board Opinion ("APB") No. 16, Business Combinations, SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 and establishes specific criteria for the recognition of intangible assets separately from goodwill. In July 2001, the FASB also issued SFAS No. 142, Goodwill and Other Intangible Assets, which supersedes APB No. 17, Intangible Assets. SFAS No. 142 revises the standards for accounting for goodwill and intangible assets. SFAS No. 142 requires that goodwill and indefinite lived intangible assets shall no longer be amortized, but be tested for impairment at least annually. SFAS No. 142 also requires that the amortization period of intangible assets with finite lives be no longer limited to forty years. The provisions of SFAS No. 142 will be effective for fiscal years beginning after December 15, 2001. Based on the current levels of goodwill, amortization expense would decrease by approximately $43.9 million on an annual basis. In addition, we have not yet determined the impact of the other provisions of SFAS No. 141 and SFAS No. 142 on our consolidated results of operations or financial position. In August of 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement Obligations. SFAS No. 143 applies to legal obligations associated with the retirement of tangible long-lived assets that result from the acquisiton, construction, or development and (or) the normal operation of a long-lived asset, except for certain obligations of lessees. This statement does not apply to obligations that arise solely from a plan to dispose of a long-lived asset. SFAS No. 143 is effective for financial statements issued for fiscal years beginning after June 15, 2002. We are evaluating the impact of SFAS No. 143 on our consolidated results of operations and financial position. In October of 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This statement supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, Reporting the Results of Operations -- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business ( as previously defined in that Opinion). This Statement also amends Accounting Research Bulletin No. 51, Consolidated Financial Statements, to eliminate the exception to consolidation for a subsidiary for which control is likely to be temporary. The provisions of SFAS No. 144 are effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years. We are evaluating the impact of SFAS No. 144 on our consolidated results of operations and financial position. FORWARD-LOOKING STATEMENTS Certain of the matters discussed concerning our operations, cash flows, financial position, economic performance, and financial condition, including in particular, the likelihood of our success in developing and expanding our business and the realization of sales from backlog, include forward-looking statements within the meaning of section 27A of the Securities Act and Section 21E of the Exchange Act. Statements that are predictive in nature, that depend upon or refer to events or conditions or that include words such as "expects," "anticipates," "intends," "plans," "believes," "estimates" and similar expressions are forward-looking statements. Although we believe that these statements are based upon reasonable assumptions, including projections of orders, sales, operating margins, earnings, cash flow, research and development costs, working capital, capital expenditures and other projections, they are subject to several risks and uncertainties, and therefore, we can give no assurance that these statements will be achieved. Our forward-looking statements will also be influenced by factors such as: o our dependence on the defense industry and the business risks peculiar to that industry including changing priorities or reductions in the U.S. Government defense budget; o our reliance on contracts with a limited number of agencies of, or contractors to, the U.S. Government and the possibility of termination of government contracts by unilateral government action or for failure to perform; 25 o our ability to obtain future government contracts on a timely basis; o the availability of government funding and changes in customer requirements for our products and services; o our significant amount of our debt and the restrictions contained in our debt agreements; o collective bargaining agreements and labor disputes; o economic conditions, competitive environment, international business and political conditions, timing of international awards and contracts; o our extensive use of fixed price contracts as compared to cost plus contracts; o our ability to identify future acquisition candidates or to integrate acquired operations; o the rapid change of technology and high level of competition in the communication equipment industry; o our introduction of new products into commercial markets or our investments in commercial products or companies; and o pension, environmental or legal matters or proceedings and various other market, competitive and industry factors, many of which are beyond our control. Readers of this document are cautioned that our forward-looking statements are not guarantees of future performance and the actual results or developments may differ materially from the expectations expressed in the forward-looking statements. As for the forward-looking statements that relate to future financial results and other projections, actual results will be different due to the inherent uncertainties of estimates, forecasts and projections and may be better or worse than projected. Given these uncertainties, you should not place any reliance on these forward-looking statements. These forward-looking statements also represent our estimates and assumptions only as of the date that they were made. We expressly disclaim a duty to provide updates to these forward-looking statements, and the estimates and assumptions associated with them, after the date of this filing to reflect events or changes or circumstances or changes in expectations or the occurrence of anticipated events. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK See Part II, Item 7, "Management's Discussion and Analysis of Results of Operations and Financial Condition--Liquidity and Capital Resources--Market Risks", of the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000 for a discussion of the Company's exposure to market risks. The only change in those risks during the nine months ended September 30, 2001 is discussed below. In July 2001, we entered into interest rate swap agreements (the "Swap Agreements") on our $200.0 million 8% Senior Subordinated Notes due 2008. The Swap Agreements exchange our fixed interest rate for a variable interest rate on the entire principal amount. Under the Swap Agreements, we will pay or receive the difference between the fixed interest rate of 8% and a variable interest rate determined using the six month LIBOR rate, set in arrears, plus an average of 192 basis points. The differential to be paid or received as interest rates change will be recorded as an adjustment to interest expense. The Swap Agreements are accounted for as fair value hedges. The aggregate fair values of the Swap Agreements at September 30, 2001, were $6.6 million and are included in other assets and are also recorded as increases to the carrying value of the 8% Senior Subordinated Notes due 2008. For every basis point (0.01%) that the six month LIBOR interest rate is greater than 6.08%, we will incur an additional $0.02 million of interest expense above the fixed coupon rate on the $200.0 million 8% Senior Subordinated Notes due 2008 calculated on a per annum basis until maturity. Conversely, for every basis point that the six month LIBOR interest rate is less than 6.08%, we will recognize $0.02 million of interest income on the $200.0 million 8% Senior Subordinated Notes due 2008 calculated on a per annum basis until maturity. The six month LIBOR rate at September 30, 2001 was 2.52%. 26 PART II -- OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS On September 28, 2001, we agreed to dismiss with prejudice our lawsuit against Raytheon Company ("Raytheon") and Raytheon Technical Services Company in connection with the sale by Raytheon to us of the Training Devices and Training Services business in February 2000, including the AVCATT contract, and Raytheon agreed to dismiss with prejudice its counter claims against us. The dismissal did not materially affect our consolidated results of operations, cash flow or financial position. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits *11 L-3 Communications Holdings, Inc. Computation of Basic Earnings Per Share and Diluted Earnings Per Share 12.1 Ratio of Earnings to Fixed Charges *The information required on this exhibit is presented in Note 7 to the Condensed Consolidated Financial Statements as of September 30, 2001 in accordance with the provisions of FASB SFAS No. 128, Earnings Per Share. (b) Reports on Form 8-K Report filed on October 20, 2001 announcing that L-3 Communications Holdings, Inc. has sold $350.0 million in 4.00% Senior Subordinated Convertible Contingent Debt Securities due 2011 in a private placement, and announced its third quarter 2001 results of operations. 27 Pursuant to the requirements of the Securities Exchange Act of 1934, the registrants have duly caused this report to be signed on their behalf by the undersigned thereunto duly authorized. L-3 Communications Holdings, Inc. and L-3 Communications Corporation -------------------------------------- Registrants Date: November 14, 2001 /s/ Robert V. LaPenta -------------------------------------- Name: Robert V. LaPenta Title: President and Chief Financial Officer (Principal Financial Officer) 28