10-K/A 1 y11275e10vkza.txt AMENDMENT NO. 1 TO FORM 10-K -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------- FORM 10-K/A (AMENDMENT NO. 1) (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED: DECEMBER 31, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 1-3985 --------------------- EDO CORPORATION (Exact name of registrant as specified in its charter) NEW YORK 11-0707740 (State of Incorporation) (IRS Employer Identification No.) 60 EAST 42ND STREET, 42ND FLOOR 10165 NEW YORK, NEW YORK (Zip Code) (Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (212) 716-2000 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
TITLE OF EACH CLASS: NAME OF EACH EXCHANGE ON WHICH REGISTERED: -------------------- ------------------------------------------ Common Shares, par value $1 per share New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [X] No [ ] The aggregate market value of the registrant's common stock held by non-affiliates was $368,483,523 based on the reported last sale price of common stock on June 26, 2004 which is the last business day of the registrant's most recently completed second fiscal quarter. The number of shares of EDO common stock outstanding as of July 26, 2005 was 20,177,984 shares. DOCUMENTS INCORPORATED BY REFERENCE: Certain portions of the Registrant's definitive proxy statement (filed pursuant to Reg. 14A) relating to its 2005 Annual Meeting of Shareholders are incorporated by reference in Part III of this Report. -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- EXPLANATORY NOTE This Form 10-K/A constitutes Amendment No. 1 to EDO Corporation's ("the Company") Annual Report on Form 10-K for the fiscal year ended December 31, 2004 (the "Original Filing"), which was filed with the Securities and Exchange Commission on March 1, 2005. This Form 10-K/A is being filed to correct certain information contained in Part 1, Item 1, "Government Contracts" and "Risk Factors" and Note 18 to the Consolidated Financial Statements, "Business Segments." The information sets forth the corrected share of the Company's net sales in 2004 to the U.S. Government as a prime contractor and through subcontracts with other prime contractors. Except for the matters described above, this Form 10-K/A does not modify or update other disclosures in, or exhibits to, the Original Filing. This amendment does not change any previously reported financial results, nor does it reflect events occurring after the date of the Original Filing. EDO CORPORATION TABLE OF CONTENTS
PART I Item 1 Business.................................................... 2 Introduction................................................ 2 Acquisitions................................................ 2 Segments.................................................... 3 Defense Segment........................................... 3 Communications and Space Products Segment................. 8 Engineered Materials Segment.............................. 10 Research and Development.................................... 11 Marketing and International Sales........................... 11 Backlog..................................................... 12 Government Contracts........................................ 12 Competition and Other Factors............................... 12 Environmental............................................... 13 Employees................................................... 13 Risk Factors................................................ 13 Item 2 Properties.................................................. 18 Item 3 Legal Proceedings........................................... 19 Item 4 Submission of Matters to a Vote of Security Holders......... 20 PART II Item 5 Market for Registrant's Common Equity and Related Stockholder Matters......................................... 20 Item 6 Selected Financial Data..................................... 21 Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations................................... 22 Item 7A Quantitative and Qualitative Disclosure About Market Risk... 22 Item 8 Financial Statements and Supplementary Data................. 36 Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................... 78 Item 9A Controls and Procedures..................................... 78 Item 9B Other Information........................................... 78 PART III Item 10 Directors and Executive Officers of the Registrant.......... 79 Item 11 Executive Compensation...................................... 80 Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.................. 80 Item 13 Certain Relationships and Related Transactions.............. 80 Item 14 Principal Accountant Fees and Services...................... 80 PART IV Item 15 Exhibits, Financial Statement Schedules, and Reports on Form 8-K......................................................... 80 (a) Financial Statements and Financial Statement Schedules and Exhibits................................................ 80 1. Financial Statements..................................... 80 2. Financial Statement Schedules............................ 80 3. Exhibits................................................. 81 (b) Reports on Form 8-K..................................... 84 Signatures............................................................ 85
1 PART I ITEM 1. BUSINESS INTRODUCTION EDO Corporation was incorporated in New York in 1925 by Earl Dodge Osborn, from whose initials "EDO" is derived. EDO Corporation designs and manufactures a diverse range of products for the defense industry and commercial markets, and provides related engineering and professional services. Major product groups include: aircraft armament, defense electronics, communications, undersea warfare, and integrated structures. EDO's advanced systems are at the core of the transformation to lighter, faster, and smarter defense capabilities. The Company's Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports, and the Proxy Statement for its Annual Meeting of Shareholders are made available, free of charge, on its Web site www.edocorp.com, as soon as reasonably practicable after such reports have been filed with or furnished to the Securities and Exchange Commission. ACQUISITIONS Acquisitions have been a primary driver of our growth in recent years. EDO has completed ten acquisitions since 1998, all of which have been disclosed in our prior reports on form 10-K, including the following: In April 2000, we acquired AIL Technologies, Inc. (AIL), a privately-held defense electronics company based in Deer Park, New York. In the transaction, a merger of AIL with a wholly-owned EDO subsidiary accounted for as a tax-free reorganization, each share of AIL common stock was exchanged for 1.3296 EDO common shares (equivalent to 6,553,194 EDO common shares valued at $39.4 million). In addition, AIL stockholders received a cash payment of $13.3 million. The merged company also assumed AIL debt of $29.7 million. AIL added extensive capabilities in defense electronics, such as aircraft electronic warfare systems in use on the B-1B bomber and the EA-6B Prowler radar-jamming aircraft. In October 2001, we acquired Dynamic Systems, Inc., a privately-held company based in Alexandria, Virginia, for $13.6 million in cash. Dynamic Systems added to our range of professional and information technology services that are provided primarily to the U.S. Department of Defense (DoD) and other government agencies. In July 2002, we acquired, in an auction under section 363 of the U.S. Bankruptcy Code, substantially all of the assets of Condor Systems, Inc., a privately-held defense-electronics company and its subsidiary (together, "Condor") based in Morgan Hill and Simi Valley, California for $62.5 million in cash, plus transaction costs of $5.0 million. We also assumed $28.0 million in outstanding standby letters of credit. The acquisition of Condor's business has significantly expanded our defense-electronics capabilities in the areas of reconnaissance and surveillance systems and communications and countermeasures. In February 2003, we acquired all of the stock of Advanced Engineering & Research Associates, Inc. (AERA), a privately-held company located in Alexandria, Virginia, for $38.1 million in cash, plus transaction costs of $0.3 million. In addition, we acquired and immediately paid off debt of $3.8 million. AERA strengthened and expanded our range of professional services. AERA was merged with our Professional Services business unit. In March 2003, we acquired all of the stock of Darlington, Inc., a privately-held defense-communications company based in Alexandria, Virginia, for $25.6 million in cash, plus transaction costs of approximately $0.3 million. In addition, we acquired and immediately paid off debt of $4.9 million. The Darlington acquisition significantly expanded our capabilities in defense communications and related professional services. Darlington operates within our Combat Systems business unit. 2 In June 2003, we acquired all of the stock of Emblem Group Ltd., a privately-held company based in Brighton, England, for $27.3 million plus transaction costs of approximately $1.9 million. Emblem, which has been renamed EDO (UK) Ltd., operated through its MBM Technology unit in England and Artisan Technologies Inc. subsidiary in the United States. EDO (UK) reinforces our position as a global leader in aircraft armament-release systems and broadens our customer base in Europe. The acquisition also added a product line of rugged computers and related devices. SEGMENTS We have historically reported our results in three reporting segments: Defense, Communications and Space Products, and Engineered Materials. Because the Company continues to grow organically and through acquisitions primarily related to defense products, the Defense segment has become the dominant segment of our business. We set forth certain business segment information including information on revenues from external customers, operating earnings, assets and capital expenditures in Note 18 on pages 63 through 66 of this Report. Our reporting segments currently consist of the following business units:
DEFENSE COMMUNICATIONS AND SPACE PRODUCTS ENGINEERED MATERIALS ------- --------------------------------- ------------------------ EDO Reconnaissance and Antenna Products and Technologies Electro-Ceramic Products Surveillance Systems Combat Systems EDO Communications and Fiber Science Countermeasures Systems Defense Programs and Technologies Space Products portion of DPT Specialty Plastics (DPT) Technical Services Operations Marine and Aircraft Systems EDO MTech EDO (UK) Ltd. EDO Professional Services
Each segment's percent of our consolidated net sales for the past three fiscal years was:
COMMUNICATIONS ENGINEERED DEFENSE AND SPACE PRODUCTS MATERIALS ------- ------------------ ---------- 2004............................................. 76% 15% 9% 2003............................................. 78% 12% 10% 2002............................................. 74% 14% 12%
DEFENSE SEGMENT The Defense segment includes electronic warfare systems, reconnaissance and surveillance systems, aircraft armament systems, C4I (Command, Control, Communications, Computers, and Intelligence) products and services, undersea-warfare systems and professional and engineering services. ELECTRONIC WARFARE SYSTEMS Electronic warfare systems sales accounted for 12% of consolidated net sales in 2004, 14% in 2003 and 28% in 2002. Our AN/ALQ-161 is the defensive avionics system that protects the U.S. Air Force's (USAF) B-1B bomber from radar-guided and infrared-guided missile threats. Designed in the early 1980's, specifically for the B-1B aircraft, we delivered the AN/ALQ-161 system with a full complement of logistics and spares support for the USAF fleet of 100 aircraft. Currently, we provide continued logistics support, sustaining engineering support and capability upgrades to the AN/ALQ-161 systems. This support includes software 3 enhancements and hardware improvements to increase situation awareness and jamming effectiveness while decreasing costs. In 2003, the USAF made the strategic decision to maintain the AN/ALQ-161 as the defensive suite on the B-1B bomber until at least 2015 and has begun a structured series of enhancements required to maintain the AN/ALQ-161 system and allow the B-1B bomber to perform its mission against ever changing threats. In 2004, EDO received numerous awards, totaling $40.7 million, in support of the AN/ALQ-161 system. We were the original designer and integrator of the AN/ALQ-99 Tactical Support Jamming System for the EA-6B aircraft in the 1960s. We have been under contract for support and modifications for this aircraft's systems and subsystems since then. In 2003, we completed a substantial contract with the U.S. Navy to upgrade the Universal Exciter on the EA-6B aircraft. The Universal Exciter is the unit in the AN/ALQ-99 that provides the specific electronic-jamming-technique waveforms and modulations that defeat enemy air- defense systems. We continue to maintain and support the AN/ALQ-99 system, including the current on-board system hardware and the Universal Exciter Upgrade (UEU) tactical jamming pod. The DoD currently expects EA-6B aircraft to be in operation through 2015 as the UEU pod migrates to the EA-18G Growler aircraft. EDO provides a broad range of electronic warfare related engineering services to the USAF, as well as aerospace and commercial businesses, to produce and support complex, high-technology solutions. Engineering specialties include software, radio-frequency, computer-aided design, and mechanical engineering. The provision of engineering services to the Air Force led to the development of portable radar-signal simulators designed to test the radar-warning receivers. Our first sale of this equipment was made in June 1998. The first significant contract was awarded by the Air Force in 2001 for 70 units. The primary product is the AN/PLM-4. The AN/PLM-4 tests the radar-warning systems onboard fighter jets and other military aircraft before takeoff, as well as during routine maintenance. In addition to the flight-line version, the radar-signal simulator is available in configurations for laboratory, shipboard and vehicle testing. In 2004, we received orders for 118 AN/PLM-4 radar signal simulators from the USAF and international customers. This brought the total number of systems ordered to 622, of which more than 555 have been delivered to customers. RECONNAISSANCE AND SURVEILLANCE SYSTEMS Sales of our reconnaissance and surveillance systems accounted for 16% of consolidated net sales in 2004, 17% in 2003 and 9% in 2002. Our reconnaissance and surveillance systems include state-of-the-art electronic systems, used primarily for Electronic Intelligence (ELINT) and Electronic Support Measure (ESM) systems. The primary purpose of an ELINT system is to determine what electronic signals are in the mission environment and then to very accurately collect data. The analyzed data is stored in collection libraries for subsequent use in ESM systems that provide both situational awareness and self-protection against enemy threats. Our base of products are sold in both domestic and international markets. Specifically, the ALR-95, ES-3701, CS-5060, CS-5500 and CS-3000 systems provide a core product baseline, and also provide opportunities to introduce new products. The ES-3701 is a leading international ESM system for naval applications. More than 50 systems have been sold, many of which are already in operation providing effective at-sea performance. A key feature is the system's precision direction-finding at long range, even in difficult electromagnetic environments. It can be integrated into any type of combat-system multi-function console and enables the interception of radar threats. 4 C4I PRODUCTS AND SERVICES Sales of our C4I products and services accounted for 12% of consolidated net sales in 2004, 10% in 2003 and 1% in 2002. We act as a systems integrator for naval C4I (Command, Control, Communications, Computers, and Intelligence) systems. In this role, we integrate a ship's sensor systems, including radar and sonar, communications systems, navigation and integrated bridge systems, and aircraft control systems to provide situational awareness in a common display format for a ship's commander. Our contracts typically provide for the development of integration software that allows the various subsystems to communicate and produce common information displays. We have completed integration and testing of a Command, Control and Information System (CCIS) on board three Norwegian Coast Guard vessels. A fourth Norwegian Coast Guard vessel under contract for CCIS installation is scheduled to begin modernization in 2005. We will include integration of a new type of search radar for all four ships as part of our 2005 activities in support of the Norwegian Coast Guard. EDO's CCIS is an open-architecture system that enhances maritime operations in both the littoral and open-ocean environments. It is designed for modular integration of sensor and weapons systems including surface-search radar, electro-optic fire-control system, hull-mounted sonar, integrated-bridge system, navigation system and helicopter-control system and complies with U.S. Navy Open Architecture Computing Environment (NOACE) standards. CCIS provides automated decision aids for on-scene command, real-time tactical display management, aircraft control, search and rescue, and weapon engagement. In related communications projects, we have installed tactical data links on the first two of six Royal Norwegian Navy ULA-class submarines. Under this contract, which was awarded at the end of 2003, EDO is providing engineering, manufacturing, and integration services to deliver tactical-data-link systems fully compliant with open systems architecture standards. EDO is also upgrading the existing submarine communications systems to provide new line-of-sight, over-the-horizon, and satellite-data-communications capabilities, allowing interoperability with all NATO forces. Information from EDO's data-link system will be fully integrated with the submarine's on-board command and control system to give the crew a common operational picture that will be distributed throughout the submarine. Also in 2004, we received a follow-on contract award to produce a total of 11 additional AN/TSQ-231 Joint Enhanced Core Communication Systems (JECCS) for the U.S Marine Corps. Three units completed production in 2003, two of which were deployed to Iraq. JECCS provides the Marine Corps with a mobile, first-in system for network management, data and voice transmission, and switching services. EDO continued to serve as the "Signal Corps" for USAID's Office of Foreign Disaster Assistance (OFDA) supporting the US response to worldwide disasters. We provide OFDA headquarters with network administration, communications field support, integrated logistics services, training, and equipment procurement, inventory and maintenance. Our participation in Disaster Assistance Response Teams (DARTs) has taken us to Indonesia and Sri Lanka in response to the tsunami disaster, as well as Haiti, Grenada, Senegal and Sudan over the course of 2004. EDO experienced significant growth as well as an increasing range of engineering and field services to U.S. Navy ships, shore sites and critical programs, through our Fleet Systems Engineering Teams (FSET) contract. FSETs are provided on a continuous basis to Carrier Strike Groups (CSGs), Expeditionary Strike Groups (ESGs), Network Operating Centers (NOCs) and Naval Computer and Telecommunications Area Master Stations (NCTAMS). Our technicians keep communications networks up, optimize the networks to meet changing mission requirements, and ensure connectivity between systems and across networks. Ancillary to our FSET activities, we also provided services to Coalition Networking (CENTRIX) programs and the Base Level Information Infrastructure (BLII) programs for the Navy. EDO also provides design, development, installation and training services to General Dynamics' Electric Boat business unit for the Virginia-class submarine Exterior Communications System (ECS). 5 RUGGED COMPUTERS AND ELECTRONICS EDO produces rugged computers and related electronic devices in the UK. This product line is designed to balance exceptional performance with user friendliness and the rugged protection to withstand rough treatment on the battlefield. Unlike many competing products that are modified commercial equipment, EDO's rugged devices are designed specifically for the military market. These devices meet the highest standards (Land Class A) for resistance to electro-magnetic interference and low signal emission, allowing them to perform safely alongside other electronic systems. The flagship "Termite" product is the only UK-designed and developed rugged, handheld computer. In 2004, EDO continued to invest in new rugged products including computer tablets and a highly innovative wearable computer, known as the "Soldier Digital Assistant" (SDA). AIRCRAFT ARMAMENT Aircraft armament sales accounted for 13% of our consolidated net sales in 2004, 12% in 2003 and 13% in 2002. Aircraft armament equipment includes a broad range of sophisticated devices that allow for the storage and release of bombs and missiles carried on military aircraft. This includes electronic interfaces between the weapon and the aircraft that allow for targeting and release. Over the past two decades, EDO has made significant investments in aircraft armament technology to meet the worldwide demand for smart, lightweight, high-performance weapons-interface systems. We have developed and manufactured bomb release units (BRU) for the F-15E aircraft, ejection release units (ERU) for the Tornado multi-role combat aircraft, jettison release mechanisms for the F-14, pneumatic missile-eject launchers for the F/A-22, and smart-weapon, multiple-carriage systems for the F-18 and domestic and foreign F-16s. In 2004, EDO was awarded a development contract for the Army/Navy/Marine Joint Common Missile Program. In 2004, we: - continued production of F-15E BRUs for the USAF and international customers and provided spare-parts support for Tornado ERUs and F-15 BRUs worldwide. - received production orders for 144 additional LAU-142/A missile launchers for the F/A-22 aircraft. Known as AVEL, for AMRAAM (Advanced Medium Range Air to Air Missile) Vertical Ejection Launcher, the LAU-142/A carries and ejects missiles from internal bays. During in-flight launch, the AVEL system ejects missiles through the jet fighter's air-flow-boundary layer very rapidly, assuring safe aircraft separation at supersonic speeds. The AVEL employs a highly reliable pneumatic-ejection system controlled by the aircraft's stores-management system. We are under contract for depot-support and anticipate we will provide depot support through the life of the F/A-22. - continued development and testing of the pneumatic suspension-and-release system for the F-35 Joint Strike Fighter program. We also began development of a lighter weight pneumatic ERU for the STOVL (Short Takeoff Vertical Landing) version of the F-35. - continued development and testing of a new electronic assembly for the LAU-117 Maverick launcher for Raytheon Missile Systems. This assembly will allow the analog-controlled Maverick missile to be carried on the F-16, F-35 and other aircraft with digital-controlled stores. - received additional production orders for the BRU-57 smart-weapon carriage and electronics system as well as continued the integration of the BRU-55 onto the F-18 aircraft. - successfully flight tested a new generation pneumatic BRU on the B-1B platform, increasing the aircraft's ability to carry and eject 500, 1000, and 2000-pound class weapons at a significant operations cost savings. 6 - delivered initial orders of Modular Advanced Lightweight Training System (MALTS) to an international customer. - received an initial order for interface components for the UK Precision Guided Bomb (Paveway IV). UNDERSEA WARFARE Undersea warfare sales accounted for 6% of our consolidated net sales in 2004, 7% in 2003 and 10% in 2002. AIRBORNE MINE COUNTERMEASURES SYSTEMS We are the preeminent supplier of airborne naval-minesweeping equipment in the world. The principal system of this type used by the U.S. Navy, the MK105 helicopter-towed system, was designed and developed by us starting in 1967. In the early 1990s, we developed a significant upgrade under contract, followed by an initial production contract in 1996. We continue to provide spares and logistics support for these systems to the Navy and an international customer, and we continue to function as the Navy maintenance depot for the MK105 systems. In 1994, we began work under contract with the Navy to develop a lightweight, helicopter-towed minesweeper for shallow water applications. We received a production contract for these systems in 1999 with delivery completed in 2002. Furthermore, we won the competitive contract from the Navy for the next generation minesweeping system, called the Organic Airborne/Surface Influence Sweep (OASIS). Development work will continue through 2005 with expected production starting in 2007 and continuing through 2015. We continued work on the Navy contract to demonstrate the feasibility of unmanned-surface-vessel mine-warfare technology and the application of this technology for fleet integration. The Navy has selected EDO's Unmanned Surface Sweep System, named US3, and OASIS, as baseline sweep mission packages for the Littoral Combat Ship (LCS). In 2004, EDO entered into an agreement with ATLAS ELEKRONIK GmbH, a wholly-owned subsidiary of BAE SYSTEMS, to cooperate in the field of maritime mine counter measures. SONAR SYSTEMS We have been a supplier of undersea systems including sonar sensors, underwater-communication systems, depth-sounding, and speed-measuring equipment for more than 50 years. During 2004, our newest and most capable towed sonar system, the EDO Model 980 ALOFTS, which is designed to detect quiet submarines in littoral waters, was installed for an international customer. Five more systems will be installed through 2008. Development continued in cooperation with Ultra Electronics, the UK-based aerospace and defense-electronics group, on our newest hull mounted sonar, the MFS 7000, which will be installed on the United Kingdom's new anti-air warfare destroyers, the Daring class, beginning in 2005. Installation of two EDO Model 997 hull mounted sonars to replace the earlier EDO Model 610 was also completed in 2004 -- bringing the total number of these new systems operating in the Brazilian Navy to four. Installation of two more systems will be completed in 2005. We continued to support our legacy SQR-18 and SQS-35 towed sonars in their role as primary undersea warfare systems for several international navies, most notably the Taiwanese Navy. PROFESSIONAL AND ENGINEERING SERVICES Professional services accounted for 17% of consolidated net sales in 2004, 19% in 2003 and 13% in 2002. Our professional services include acquisition and logistics management, training and performance support systems, information technology services, systems engineering, operation analysis, and program management. We provide these services to the US defense, federal-services, and information-technology markets. 7 - Acquisition Logistics and Management We support several of the Navy's program executive offices by providing logisticians, acquisition specialists, engineers and financial analysts. These professionals perform functions such as configuration management, budget analysis, analysis of ship casualty reports, ship-manning assessments, and review of training requirements. We also provide acquisition and logistics support to the Marine Corps, including several logistic bases and systems-command centers. We have provided acquisition support to the Coast Guard's Deepwater program office as they create a transformational fleet of vessels. In 2004, we increased our support to the Commander of Naval Installations providing a broad range of operational and analytical support. - Training & Performance Systems Our curriculum and courseware developers continued their work for the Virginia-class submarine platforms. We are a prime contractor on the Naval Air Systems Command "Training Systems Contract II" to develop courseware for many of the Navy and Marine Corps air platforms over the next eight years. We are also applying this skill internally to develop automated training and interactive technical manuals for new EDO platforms, such as the OASIS mine-sweeping system. Our analysts and subject matter experts support the Marine Corps' Warfighting Laboratory with concept-based experimentation and design, technology evaluation, and identification of improved procedures. Similar support is also provided to the Joint Forces Command's "Joint Concept Development and Experimentation Process." - Systems Engineering We perform engineering services under contracts to the Navy for threat-simulator-validation support at China Lake Naval Air Warfare Center, to the Air Force electronic warfare Directorate at Edwards Air Force Base for F/A-22 and various other aircraft platforms, and provide technical and engineering support to various Boeing Satellite Systems programs. In 2004 we were awarded a multi-year contract to continue our in-service engineering support for the Navy's marine propulsion gas turbine systems. We also provide systems engineering services in areas such as test and evaluation, systems integration, performance modeling and computer-aided design to a number of Navy, Coast Guard, and commercial clients. - Operation Analysis and Program Management In 2004, we were awarded a multi-year contract from the Department of the Navy for in-service engineering and depot support for a mine countermeasure program based in San Diego. This contract complements our continued support for the Explosive Ordnance Disposal Program Management Office (PMS-EOD), a contract we have successfully maintained since 1984. COMMUNICATIONS AND SPACE PRODUCTS SEGMENT The Communications and Space Products segment includes antenna products, electronic force-protection products, interference-cancellation systems, and space products. ANTENNA PRODUCTS We design and produce antenna systems for a wide variety of military and commercial applications including communications, electronic warfare, navigation, radar and wireless Local Area Networks. Our antenna business is approximately 60% military and 40% commercial. Our military antennas are deployed on many different types of platforms and vehicles including fixed wing and rotary aircraft, unmanned aerial vehicles (UAVs), satellites, surface ships, submarines, and ground vehicles. Our commercial antennas are used on commercial airliners as well as general-aviation aircraft. 8 We have a broad customer and product base in this business. In 2004, we sold more than 35,000 antennas of 200 different types to more than 350 different original-equipment manufacturers and after-market customers. A large portion of our revenue results from spare part sales and repair services for an installed base of antennas in excess of 500,000 units. We continually work on the development of new antenna products via internally funded and customer-sponsored research and development. For example, in 2004, we were awarded a design contract for an anti-jam GPS antenna as part of the Advanced Digital Antenna Production (ADAP) program. This USAF program is estimated to provide $6 million in future antenna production for EDO. Other major platform contracts include a specialized, multi-function antenna for use on the F/A-18 E/F Super Hornet strike fighter, antennas pertaining to the instrument landing sensors for the F-35 aircraft, and ground mobile communications antennas for the Joint Tactical Radio System. We anticipate many years of production for all three of these platforms. We also provide critical aerospace antennas for the Ground-Based Midcourse Defense System. These antenna types have passed rugged electrical and environmental missile-qualification requirements. ELECTRONIC FORCE PROTECTION EDO's highest priority in 2004 was to quickly fill the U.S. Army's orders for our electronic force protection equipment. Although we have been developing various versions of this technology, known as the Shortstop Electronic Protection System, for more than 14 years, the Army's primary emphasis has shifted to increasing production of the newest version, and substantial additional orders have been received for delivery in 2005. We believe that EDO is the only supplier that can currently meet the Army's specifications. However, we believe that other companies are attempting to develop competing technologies. Our Shortstop program was initiated in 1990 by the U.S. Central Command as a quick-reaction response capability for Operation Desert Storm. The current production system is a modified version that, as described by the Army, provides a protective "electronic bubble for vehicles, dismounted operations in conjunction with vehicles, and for fixed sites." INTERFERENCE CANCELLATION EDO has been a world leader in interference cancellation technology for more than 25 years. Our technology is used to eliminate interference in dense electromagnetic environments that can degrade the effectiveness of radios and other electronic equipment. Our systems allow full operational capability, mitigating both friendly and intentional sources of interference. In 2004, EDO was awarded a three-year system design and development contract from The Boeing Company for an interference cancellation system on the EA-18G aircraft. The EA-18G has been selected by the U.S. Navy to replace the EA-6B Prowler aircraft, which provides an umbrella of protection for strike aircraft, ground troops and ships by jamming enemy radar, electronic data links and communications. EDO's interference-cancellation equipment will allow clear communications during all mission scenarios. In addition, EDO is providing the interference-cancellation subsystem to Boeing for the Air Force CV-22 Osprey tilt-rotor aircraft and is working with Boeing to maximize synergies between the two programs. EDO is also providing interference-cancellation technology for both of the Coast Guard's two major modernization projects, known as Rescue 21 and Deepwater. SPACE PRODUCTS We manufacture products for space payloads that meet the high reliability standards required by the industry, including components, subassemblies and major subsystems that are sold directly to the government for military and civil systems, or to prime contractors for both government and commercial applications. Our sensors and subsystems include larger subsystems, up to full satellite payloads, for remote sensing instruments employing microwave measurements of the earth and its atmosphere, and classified government programs. Sales of these products have been impacted by the downturn in commercial space launches by the Boeing company. 9 ENGINEERED MATERIALS SEGMENT The Engineered Materials segment includes electro-ceramic products and advanced fiber-composite structural products. ELECTRO-CERAMIC PRODUCTS Piezoelectric-ceramic elements convert acoustic energy to electrical energy and vice versa, and form the basis of many defense and commercial products ranging from military sonar to commercial fish finders. We are one of North America's leading manufacturers of piezoelectric-ceramic components for defense applications, and we also provide material and related transducers to several commercial markets. More than 50% of our piezoelectric-ceramic sales are for defense applications. Our business is vertically integrated with in-house manufacturing and development of piezoelectric and dielectric ceramic materials, coupled with state-of-practice mixed analog and digital electronics and software engineering. We believe this combination of engineered active materials and electronics capabilities makes us competitive in several niche markets. Examples of our products include underwater acoustic transducers for use in all areas of undersea warfare and piezoelectric shapes for a variety of industries. In 2004, the Naval Sea System Command (NAVSEA) awarded us contract options worth $5.8 million for additional production of SQS-53C sonar arrays for the Arleigh Burke-class of guided-missile destroyer. The sonar is used for detection, classification, and localization of submarines. This latest order covers production of three shipsets of sonar arrays, bringing the total number of shipsets ordered under this contract to twelve. If all options are exercised, deliveries will extend to approximately 2010. In addition to supplying these arrays for U.S. Navy ships, EDO also provides them to NAVSEA for supply to allied navies under the foreign military sales program. INTEGRATED COMPOSITE STRUCTURES Our capabilities in the area of fiber-reinforced advanced composite structures include product and system design, engineering analysis, process development, tooling design and fabrication, qualification testing and validation, production, and after-market support. The primary focus of our business-development effort is advanced composite structures for all types of platforms including manned and unmanned aircraft, missiles, ships and ground vehicles. In 2004, we secured a number of contracts for composite structures on the next generation Boeing J-UCAS (Joint Unmanned Combat Air Systems) aircraft. The J-UCAS program combines the efforts that were previously known as the Air Force Unmanned Combat Air Vehicle (UCAV) and the Naval Unmanned Combat Air Vehicle (UCAV-N) programs. In 2004, we continued delivery of production filament-wound launch canisters for the new Thales VT-1 missile program. This contract extends into 2005. We also continued production of composite tanks for the Boeing C-17 aircraft. We have been the sole supplier of these tanks since production began, more than 11 years ago. We also signed new contracts with Northrop Grumman for design and fabrication of composite structures on military aircraft modification programs. It is anticipated that this type of work will continue forward based upon our success in 2004. In commercial markets, 2004 marked the 37th year in which we have been a provider to Boeing for composite tanks on commercial airliners. Our aftermarket support for these tanks to the commercial airlines remains strong. We produce our trademark "Fiberbond" line of composite piping for water and fire systems on oil rigs. In 2004, the fabrication and installation of topside piping systems for offshore oil platforms continued strong with Gulf of Mexico deep-water oil platforms. We continue to invest in introducing our Fiberbond piping to the U.S. Navy due to its non-corrosive, lightweight and non-magnetic properties. We believe that this technology is applicable to the LCS and Avenger Upgrade programs. 10 RESEARCH AND DEVELOPMENT Research and development is important to the success of our business, because we focus on niche markets where we have leading-edge technology. While research and development efforts are facilitated by a large portion of our staff, our research and development efforts involved the primary efforts of about 180 employees in 2004. Most of our research and development is funded by long-term development contracts with customers, with the remainder funded at our own expense. Expenditures under development contracts with customers vary in amount from year to year because of the timing of contract funding and other factors. Customer-funded research and development is principally related to military programs. Major customer-sponsored programs include the development of: mine-countermeasures systems; aircraft weapons-carriage technology; command-and-control software for combat-systems integration; shallow-water sonar; low-observable, anti-jam, GPS antennas; mobile-communications and data systems; and underwater-communications transducer products. Company-funded research and development is intended primarily to develop new products and extend the capabilities of existing products. Principal current company-funded research and development includes: digital signal-processing technology for electronic intelligence and support systems; image and signal processing, computer software, and other improvements for combat systems; minesweeping technology; aircraft weapons-carriage systems; application of composites for structural uses; various types of communication equipment; electronic countermeasures; advanced antennas; sonar systems, including processing and detection enhancements; noise reduction and interference cancellation; piezoelectric and composite materials; and new capabilities for our radar-signal simulator products. The following table sets forth research and development expenditures for the years presented.
YEARS ENDED DECEMBER 31, --------------------------- 2004 2003 2002 ------- ------- ------- (IN THOUSANDS) Customer-sponsored...................................... $61,600 $48,800 $38,300 Company-funded.......................................... 11,600 8,600 8,500 ------- ------- ------- Total................................................. $73,200 $57,400 $46,800 ======= ======= =======
MARKETING AND INTERNATIONAL SALES We sell defense products as a prime contractor and through subcontracts with other prime contractors. In addition to defense sales to the U.S. DoD, we also sell defense equipment to the U.S. Government on behalf of foreign governments under the Foreign Military Sales program. Subject to approval by the U.S. Department of State, we sell to foreign governments both directly and through Foreign Military Funded programs and commercial sales. Sales of our defense products are usually made under long-term contracts or subcontracts covering one or more years of production. These contracts are obtained either through competitive bidding or contract negotiation. We believe that our long history of association with our military customers is an important factor in our overall business, and that the experience gained through this history has enhanced our ability to anticipate our customers' needs. Our approach to defense business is to anticipate specific customer needs and to develop systems to meet those needs either at our own expense or pursuant to research and development contracts. Many of our employees, including our chief executive officer and our vice president of Washington operations, are actively involved in the marketing of our defense products in the U.S. and abroad. We also have about 50 independent international sales representatives concentrating on the marketing of our defense products in foreign countries. Commercial products are sold in industrial and commercial markets. In foreign markets, piezoelectrics, antennas and electronic products are generally sold commercially through a network of sales representatives. Fiber-reinforced composite products are sold directly and through sales representatives. 11 It is generally the policy of our U.S. business units to denominate all foreign contracts in U.S. dollars and seek not to incur significant costs in connection with long-term foreign contracts until we have received advance payments or letters-of-credit on amounts due under the contracts. EDO (UK) Ltd. generally denominates its contracts in British Pounds Sterling. International sales comprised 14% of consolidated net sales in 2004, 18% in 2003, and 15% in 2002. BACKLOG We define backlog as the funded value of contracts and orders that has not been recognized as sales. As of December 31, 2004 our total backlog was $474.6 million compared with $462.3 million as of December 31, 2003. Approximately 72% of the total backlog at December 31, 2004 is scheduled for delivery in 2005. Our backlog consists primarily of current orders under long-lived, mission-critical programs of key defense platforms on which we have a strong strategic position. A significant portion of our sales is to prime contractors, the U.S. DoD and foreign governments pursuant to long-term contracts. Accordingly, our backlog consists in large part of orders under these contracts. Backlog does not include portions of contracts for which the U.S. Government has not appropriated funds, nor does it include unexercised options in any contract. There is about $535 million in unfunded contracts and unexercised options at the end of 2004. GOVERNMENT CONTRACTS Net sales to the U.S. Government, as a prime contractor and through subcontracts with other prime contractors, accounted for $425.6 million or 79% of our 2004 consolidated net sales compared with $348.3 million or 76% in 2003 and $245.5 million or 75% in 2002, and consisted primarily of sales to the DoD. Such sales include sales of military equipment to the U.S. Government for resale to foreign governments under the Foreign Military Sales program. Our business is not substantially dependent on any contract. Our defense business can be and has been significantly affected by changes in national-defense policy and spending. Our U.S. Government contracts and subcontracts and certain foreign-government contracts contain the usual required provisions permitting termination at any time for the convenience of the government with payment for work completed and committed along with associated profit at the time of termination. Our contracts with the DoD are made on either a fixed-price or cost-reimbursable basis. Both types may include incentive provisions. Fixed-price contracts provide fixed compensation for specified work. Cost- reimbursable contracts require us to perform specified work in return for reimbursement of costs (to the extent allowable under U.S. Government regulations) plus a specified fee. Under both contract types, an incentive adjustment may be made to our fee based on attainment of performance, scheduling, cost, quality or other goals. In general, with fixed-price contracts we assume a greater risk of loss, but also have the potential for higher profit margins, compared to cost-reimbursable contracts. The distribution of our government contracts between fixed-price and cost-reimbursable contracts varies from time to time. COMPETITION AND OTHER FACTORS Some of our products are sold in markets containing a number of competitors substantially larger than us and with greater financial resources. Direct sales of military products to the U.S. and foreign governments are based principally on product performance, cost and reliability. Such products are generally sold in competition with products of other manufacturers that may fulfill an equivalent function, but which are not direct substitutes. We purchase some materials and components used in our systems and equipment from independent suppliers. These materials and components are normally not purchased under long-term contracts unless a long-term sales contract with one of our customers so requires. We believe that most of the items we purchase are obtainable from a variety of suppliers. We normally seek to have alternative sources for major items, although we are sometimes dependent on a single supplier or a few suppliers for some items. 12 It is difficult to state precisely our market position in all of our product lines because information as to the volume of sales of similar products by our competitors is not generally available and the relevant markets are often not precisely defined. However, we believe that we are a significant factor in the markets for stores-release mechanisms for military aircraft, military sonar systems, military data-links, helicopter-towed mine-countermeasures systems, piezoelectric ceramics, electronic-countermeasures systems, and antennas. Although we own a significant number of patents and have filed applications for additional patents, we do not believe that our businesses depend heavily upon our patents. In addition, most of our U.S. Government contracts license us to use patents owned by others. Similar provisions in the U.S. government contracts awarded to other companies make it impossible for us to prevent the use by other companies of our patents in most domestic defense work. ENVIRONMENTAL Refer to Note 17 on page 63 of this Report for information regarding the cost of compliance with environmental regulations. EMPLOYEES As of December 31, 2004, we employed 2,546 persons. RISK FACTORS REDUCTIONS IN GOVERNMENT SPENDING WOULD ADVERSELY AFFECT OUR RESULTS OF OPERATIONS. A reduction in purchases of our products by domestic and foreign government agencies would have a material adverse effect on our business because a significant portion of our net sales are derived from contracts directly or indirectly with government agencies. In 2004, 2003 and 2002, we derived about 79%, 76% and 75%, respectively, of net sales from direct and indirect contracts with the U.S. Government and derived about 14%, 18% and 15%, respectively, of net sales from international sales to foreign governments. The development of our business will depend upon the continued willingness of the U.S. and foreign governments to fund existing and new defense programs and, in particular, to continue to purchase our products and services. Although defense spending in the United States has recently increased, further increases may not continue and any proposed budget or supplemental budget request may not be approved. In addition, the U.S. Department of Defense may not continue to focus its spending on technologies that we incorporate in our products. THE U.S. GOVERNMENT MAY TERMINATE OR MODIFY OUR EXISTING CONTRACTS OR ITS CONTRACTS WITH THE PRIME CONTRACTORS FOR WHICH WE ARE A SUBCONTRACTOR, WHICH WOULD ADVERSELY AFFECT OUR REVENUE. A significant portion of our revenues are derived from U.S. Government contracts, directly or indirectly. There are inherent risks in contracting with the U.S. Government, including risks peculiar to the defense industry, which could have a material adverse effect on our business, financial condition or results of operations. Laws and regulations permit the U.S. Government to: - terminate contracts for its convenience; - reduce or modify contracts or subcontracts if its requirements or budgetary constraints change; - cancel multi-year contracts and related orders if funds for contract performance for any subsequent year become unavailable; - adjust contract costs and fees on the basis of audits done by its agencies; and - control or prohibit the export of our products. If the U.S. Government terminates our contracts for convenience, we may only recover our costs incurred or committed for settlement expenses and profit on work completed before the termination. Additionally, most of our backlog could be adversely affected by any modification or termination of contracts with the U.S. Government or contracts the prime contractors have with the U.S. Government. The U.S. Government 13 regularly reviews our costs and performance on its contracts, as well as our accounting and general business practices. The U.S. Government may reduce the reimbursement for our fees and contract-related costs as a result of an audit. OUR BUSINESS IS SUBJECT TO VARIOUS RESTRICTIVE LAWS AND REGULATIONS BECAUSE WE ARE A CONTRACTOR AND SUBCONTRACTOR TO THE U.S. GOVERNMENT AND BECAUSE WE PROVIDE MILITARY PRODUCTS TO FOREIGN GOVERNMENTS. As a contractor and subcontractor to the U.S. Government, we are subject to various laws and regulations that are more restrictive than those applicable to non-government contractors. We are required to obtain and maintain material governmental authorizations and approvals to run our business as it is currently conducted. For example, we need a license to operate an FAA repair station. In addition, because we provide defense equipment and related services to foreign governments, we must obtain licenses from the U.S. State Department for our foreign exports. Our failure or inability to obtain these licenses could have a material adverse effect on our business. New or more stringent laws or government regulations concerning government contracts and defense exports, if adopted and enacted, could have a material adverse effect on our business. Responding to governmental audits, inquiries or investigations may involve significant expense and divert management attention from regular operations. Also, an adverse finding in any such audit, inquiry or investigation could involve debarment, fines, injunctions or other sanctions. IF WE FAIL TO WIN COMPETITIVELY AWARDED CONTRACTS IN THE FUTURE, WE MAY EXPERIENCE A REDUCTION IN OUR SALES, WHICH COULD NEGATIVELY AFFECT OUR PROFITABILITY. We obtain many of our U.S. Government contracts through a competitive bidding process. We cannot assure you that we will continue to win competitively awarded contracts or that awarded contracts will generate sales sufficient to result in our profitability. We are also subject to risks associated with the following: - the frequent need to bid on programs in advance of the completion of their design (which may result in unforeseen technological difficulties and cost overruns); - the substantial time and effort, including the relatively unproductive design and development required to prepare bids and proposals, spent for competitively awarded contracts that may not be awarded to us; - design complexity and rapid technological obsolescence; and - the constant need for design improvement. Our government contracts may be subject to protest or challenge by unsuccessful bidders or to termination, reduction or modification in the event of changes in government requirements, reductions in federal spending or other factors. In addition, failure to obtain a renewal or follow-on contract with respect to any significant contract or a number of lesser contracts with the U.S. Government or foreign governments would result in a loss of revenues. If revenues from the award of new contracts fail to offset this loss, it could have a material adverse effect on our results of operations and financial position. A LARGE MAJORITY OF OUR CONTRACTS ARE FIXED-PRICE, AND WE MAY FACE INCREASED RISKS OF COST OVERRUNS OR LOSSES ON OUR CONTRACTS. The majority of our government contracts and subcontracts are firm, fixed-price contracts providing for a predetermined fixed price for the products we make regardless of the costs we incur. At times, we must therefore make pricing commitments to our customers based on our expectation that we will achieve more cost-effective product designs and automate more of our manufacturing operations. The manufacture of our products requires a complex integration of demanding processes involving unique technical skill sets. In addition, the expense of producing products can rise due to increased costs of materials, components, labor, capital equipment or other factors. As a result, we face risks of cost overruns or order cancellations if we fail to achieve forecasted product design and manufacturing efficiencies or if products cost more to produce than expected. 14 WE MAY BE REQUIRED TO REDUCE OUR PROFIT MARGINS ON CONTRACTS ON WHICH WE USE THE PERCENTAGE-OF-COMPLETION ACCOUNTING METHOD. We record sales and profits on many of our contracts using percentage-of-completion methods of accounting. As a result, revisions made to our estimates of sales and profits are recorded in the period in which the conditions that require such revisions become known and can be estimated. Although we believe that our profit margins are fairly stated and that adequate provisions for losses for our fixed price contracts are recorded in our financial statements, as required under U.S. generally accepted accounting principles, we cannot assure you that our contract profit margins will not decrease or our loss provisions will not increase materially in the future. OUR PRODUCTS AND SYSTEMS MAY BE RENDERED OBSOLETE BY OUR INABILITY TO ADAPT TO TECHNOLOGICAL CHANGE. The rapid change of technology continually affects our product applications and may directly impact the performance of our products. For our electronic warfare products, we are required to improve reliability and maintainability, extend frequency ranges and provide advanced jamming techniques. We can give you no assurances that we will successfully maintain or improve the effectiveness of our existing products, nor can we assure you that we will successfully identify new opportunities and continue to have the needed financial resources to develop new products in a timely or cost-effective manner. In addition, products manufactured by others may render our products and systems obsolete or non-competitive. If any of these events occur, our results of operations would be adversely affected. THE UNSUCCESSFUL INTEGRATION OF A BUSINESS OR BUSINESS SEGMENT WE ACQUIRE COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR OPERATING RESULTS. One of our key operating strategies is to pursue selective acquisitions. We review and actively pursue possible acquisitions on a continuous basis. Except as previously disclosed in our public filings, we do not currently have any commitments, agreements or understandings to acquire any specific businesses or other material assets. Our acquisition strategy may require additional debt or equity financing, resulting in additional leverage or dilution of ownership. We cannot assure you that any future acquisition will be consummated, or that if consummated, we will be able to integrate such acquisition successfully without a material adverse effect on our financial condition or results of operations. Moreover, any acquisition could involve other risks, including: - diversion of management's attention from existing operations; - potential loss of key employees or customers of acquired companies; and - exposure to unforeseen liabilities of acquired companies. WE ARE DEPENDENT IN PART UPON OUR RELATIONSHIPS AND ALLIANCES WITH INDUSTRY PARTICIPANTS IN ORDER TO GENERATE REVENUE. We rely on the strength of our relationships with other contractors to form strategic alliances. Some of our partners assist us in the development of some of our products through teaming arrangements. Under these teaming arrangements, our partners usually have borne a portion of the expenses associated with our research and development of new and existing products that are the subject of such agreements. We cannot assure you that our partners will continue to bear these expenses in the future. If any of our existing relationships with our partners were impaired or terminated, we could experience significant delays in the development of our new products ourselves, and we would incur additional development costs. We would need to fund these costs internally or identify new partners. Some of our partners are also potential competitors, which may impair the viability of new strategic relationships. While we must compete effectively in the marketplace, our future alliances may depend on our partners' perception of us. Our ability to win new and/or follow-on contracts may be dependent upon our relationships within the military industry. 15 WE HAVE DEVELOPED OUTSOURCING ARRANGEMENTS FOR THE MANUFACTURE OF MANY OF THE COMPONENTS AND SUB-ASSEMBLIES OF OUR PRODUCTS. IF THIRD PARTIES FAIL TO DELIVER QUALITY PRODUCTS AND COMPONENTS AT REASONABLE PRICES ON A TIMELY BASIS, WE MAY ALIENATE SOME OF OUR CUSTOMERS AND OUR REVENUES, PROFITABILITY AND CASH FLOW MAY DECLINE. We use contract manufacturers as an alternative to our own manufacture of the components and sub-assemblies of our products. If these contract manufacturers are not willing to contract with us on competitive terms or devote adequate resources to fulfill their obligations to us, or we do not properly manage these relationships, our existing customer relationships may suffer. In addition, by undertaking these activities, we run the risks that - the reputation and competitiveness of our products and services may deteriorate as a result of the reduction of our control and quality and delivery schedules and the consequent risk that we will experience supply interruptions and be subject to escalating costs; and - our competitiveness may be harmed by the failure of our contract manufacturers to develop, implement or maintain manufacturing methods appropriate for our products and customers. WE MAY BE REQUIRED TO DEFEND LAWSUITS OR PAY DAMAGES IN CONNECTION WITH THE ALLEGED OR ACTUAL HARM CAUSED BY OUR PRODUCTS. We face an inherent business risk of exposure to product liability claims in the event that the use of some of our products is alleged to have resulted in unintended harm to others or to property. Although we maintain general liability and product liability insurance, we may incur significant liability if product liability lawsuits against us are successful. We cannot assure you that such coverage will be adequate to cover all claims that may arise or that it will continue to be available to us on acceptable terms. WE MAY INCUR SUBSTANTIAL ENVIRONMENTAL LIABILITY ARISING FROM OUR ACTIVITIES INVOLVING THE USE OF HAZARDOUS MATERIALS. Our business is subject to federal, state, local and foreign laws, regulations and ordinances governing the use, manufacture, storage, handling and disposal of hazardous materials and waste products. From time to time, our operations have resulted or may result in noncompliance with environmental laws or liability for the costs of investigating and cleaning up, and certain damages resulting from, sites of past spills, disposals or other releases of hazardous materials. In addition, we have been identified as a potentially responsible party pursuant to the federal Comprehensive Environmental Response, Compensation, and Liability Act of 1980, as amended, or corresponding state environmental laws, for the cleanup of contamination resulting from past disposals of hazardous materials at some sites where we, along with others, sent waste in the past. We are a party to consent decrees as a result of our potential responsibility for contamination caused by the disposal of hazardous materials. We cannot assure you that such matters, or any similar liabilities that arise in the future, will not exceed our resources, nor can we completely eliminate the risk of accidental contamination or injury from these materials. POLITICAL AND ECONOMIC INSTABILITY IN FOREIGN MARKETS MAY HAVE A MATERIAL ADVERSE EFFECT ON OUR OPERATING RESULTS. Foreign sales represented about 14% our total sales in 2004 and we intend to increase the amount of foreign sales we make in the future. Foreign sales are subject to numerous risks, including political and economic instability in foreign markets, restrictive trade policies of foreign governments, economic conditions in local markets, inconsistent product regulation by foreign agencies or governments, the imposition of product tariffs and the burdens of complying with a wide variety of international and U.S. export laws and differing regulatory requirements. If we fail to increase our foreign sales it could have a material adverse effect on our results of operations. 16 CONCENTRATION OF VOTING POWER AND CERTAIN PROVISIONS IN OUR CHARTER DOCUMENTS COULD MAKE A MERGER, TENDER OFFER OR PROXY CONTEST DIFFICULT AND MAY ADVERSELY AFFECT THE PRICE OF OUR COMMON SHARES. At December 31, 2004, the EDO Employee Stock Ownership Trust, or ESOT, owned 3,918,176 common shares (or about 20% of the outstanding common shares). The trustee of the plan has obligations under the trust agreement and its fiduciary duties when voting allocated shares under the plan. The procedure the trustee generally follows is to receive direction from each of the plan participants with respect to his or her allocated shares, and then to vote all shares in accordance with the direction received. The market may perceive that the concentration of voting power in the hands of a single employee stock ownership plan creates a potential barrier against another party acquiring us. This perception could result in lower market prices for our common shares. In addition, certain agreements to which we are a party, including loan and executive officer agreements, contain provisions that impose increased costs in the event of a change of control. IF WE ARE UNABLE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS ADEQUATELY, THE VALUE OF OUR COMMERCIAL PRODUCTS COULD BE DIMINISHED. The value of our commercial products is increased, in part, by obtaining, maintaining and enforcing our patents and other proprietary rights. While we take precautionary steps to protect our technological advantages and intellectual property and rely in part on patent, trademark, trade secret and copyright laws, we cannot assure you that the precautionary steps we have taken will completely protect our intellectual property rights. In the event a competitor successfully challenges our patents or licenses, we could incur substantial litigation costs that could have a material adverse effect on our operating results and financial condition. THE U.S. GOVERNMENT'S RIGHT TO USE TECHNOLOGY DEVELOPED BY US LIMITS OUR INTELLECTUAL PROPERTY RIGHTS. We seek to protect the competitive benefits we derive from our patents, proprietary information and other intellectual property. However, we do not have the right to prohibit the U.S. Government from using certain technologies developed or acquired by us or to prohibit third party companies, including our competitors, from using those technologies in providing products and services to the U.S. Government. The U.S. Government has the right to royalty-free use of technologies that we have developed under U.S. Government contracts. We are free to commercially exploit those government-funded technologies and may assert our intellectual property rights to seek to block other non-government users thereof, but we cannot assure you we could successfully do so. A FAILURE TO ATTRACT AND RETAIN TECHNICAL PERSONNEL COULD REDUCE OUR REVENUES AND OUR OPERATIONAL EFFECTIVENESS. There is a continuing demand for qualified technical personnel, and we believe that our future growth and success will depend upon our ability to attract, train and retain such personnel. Competition for personnel in the military industry is intense, and there are a limited number of persons with knowledge of, and experience in, this industry. Although we currently experience relatively low rates of turnover for our technical personnel, the rate of turnover may increase in the future. An inability to attract or maintain a sufficient number of technical personnel could have a material adverse effect on our contract performance or on our ability to capitalize on market opportunities. INCREASED SCRUTINY OF FINANCIAL DISCLOSURE COULD ADVERSELY AFFECT INVESTOR CONFIDENCE, AND ANY RESTATEMENT OF EARNINGS COULD INCREASE LITIGATION RISKS AND LIMIT OUR ABILITY TO ACCESS THE CAPITAL MARKETS. Congress, the SEC, other regulatory authorities and the media are intensely scrutinizing a number of financial reporting issues and practices. Although all businesses face uncertainty with respect to how the U.S. financial disclosure regime may be affected by this process, particular attention has been focused recently on companies' interpretations of generally accepted accounting principles. If we are required to restate our financial statements as a result of a determination that we had incorrectly applied generally accepted accounting principles, that restatement could adversely affect our ability to access the capital markets or the trading price of our securities. The recent scrutiny regarding financial reporting may 17 also result in an increase in litigation involving companies with publicly traded securities, such as us. There can be no assurance that any such litigation against us would not materially adversely affect our business or the trading price of our securities. IF WE ARE UNABLE TO COMPLY WITH THE RESTRICTIONS AND COVENANTS IN OUR DEBT AGREEMENTS, THERE WOULD BE A DEFAULT UNDER THE TERMS OF THOSE AGREEMENTS, AND THIS COULD RESULT IN AN ACCELERATION OF PAYMENT OF FUNDS THAT HAVE BEEN BORROWED. If we are unable to comply with the restrictions and covenants in our debt agreements, there would be a default under the terms of these agreements. Some of the debt agreements also require us to maintain specified financial ratios and satisfy financial tests. Our ability to meet these financial ratios and tests may be affected by events beyond our control, including, without limitation, sales levels, contract terminations and potential acquisitions. As a result, there can be no assurance that we will be able to meet these tests. In the event of a default under these agreements, the lenders could terminate their commitments to lend or accelerate the loans and declare all amounts borrowed due and payable. Borrowings under other debt instruments that contain cross-acceleration or cross-default provisions may also be accelerated and become due and payable. If any of these events occur, there can be no assurance that we would be able to make necessary payments to the lenders or that we would be able to find alternative financing. Even if we are able to obtain alternative financing, it may not be on terms that are acceptable to us. RESTRICTIONS AND COVENANTS IN OUR DEBT AGREEMENTS LIMIT OUR ABILITY TO CONDUCT OUR BUSINESS AND COULD PREVENT US FROM OBTAINING NEEDED FUNDS IN THE FUTURE. Our debt and financing arrangements contain a number of significant limitations that restrict our ability to, among other things: - borrow additional money or issue guarantees; - pay dividends or other distributions to shareholders; - make investments; - create liens on assets; - sell assets; - enter into transactions with affiliates; and - engage in mergers or consolidations. These restrictions may limit our ability to obtain future financing, fund needed capital expenditures or withstand a future downturn in business or the economy. ITEM 2. PROPERTIES All of our operating facilities are leased except a Charleston, SC facility obtained in the Darlington acquisition. In 2003, we sold our facility in Deer Park, NY. As part of the sale agreement, we are leasing the facility through October 10, 2005, with the option to terminate before October 10 without penalty. We believe our facilities are adequate for our present purposes. All facilities in the following listing are suitable for expansion by using available but unused space, leasing additional available space, or by physical expansion of leased buildings. We believe that, with respect to leases which expire during 2005 and 2006 we will be able to either extend the lease or lease other facilities on reasonable terms. Our obligations under the various leases are set forth in Note 16 on pages 62 and 63 of this Report. 18 Set forth below is a listing of our principal plants and other materially important physical properties.
APPROXIMATE FLOOR AREA BUSINESS UNIT SEGMENT LOCATION (IN SQ. FT.) ------------- ------- -------- ------------ EDO Antenna Products and Technology and EDO Defense Programs and Technologies..... Communications and Space Deer Park, NY 726,000 Products and Defense EDO Reconnaissance and Surveillance Systems.......... Defense Morgan Hill, CA 160,000 EDO Electro-Ceramic Products.... Engineered Materials Salt Lake City, UT 117,000 EDO Fiber Science............... Engineered Materials Salt Lake City, UT 130,000 EDO Marine & Aircraft Systems... Defense North Amityville, NY 92,000 EDO Communications and Countermeasures Systems....... Communications and Space Simi Valley & Products Westlake Village, CA 83,000 EDO Professional Services....... Defense Alexandria, VA 135,000 EDO (UK) Ltd.................... Defense Brighton, UK 43,000 EDO Combat Systems.............. Defense Chesapeake, VA 37,000 EDO Technical Services Operations.................... Defense Lancaster, CA 33,000 EDO Specialty Plastics.......... Engineered Materials Baton Rouge, LA 29,000 EDO Darlington.................. Defense Alexandria, VA & Charleston, SC 43,000 EDO Artisan..................... Defense Parsippany, NJ 25,000 EDO MTech....................... Defense Huntingdon, PA 14,000
ITEM 3. LEGAL PROCEEDINGS The Company and/or its subsidiaries are parties to various legal proceedings arising in the normal course of business, including various environmental actions described in Note 17 on page 63 of this Report. While litigation is subject to inherent uncertainties, management currently believes that the ultimate outcome of these proceedings, individually and in the aggregate, will not have a material adverse effect on the Company's consolidated financial position, cash flow or overall results of operations. The following is a description of certain proceedings: U.S. v. EDO Corporation et al.; EDO Corporation et al. v. Elinco Associates L.P. et al. (United States District Court, District of Connecticut). The Company and three other companies entered into a consent decree in 1990 with the Federal government for the remediation of a Superfund site in Norwalk, CT. The Superfund site has been divided into three operable units. The consent decree relates to two of the operable units. The third operable unit has not been formally studied and the Company is unable to determine whether the EPA will address the third operable unit or, if it does, whether it will conclude that specific remedial response action will be required for it, and in such event, what the costs, if any, or the Company's degree of responsibility will be. As of December 31, 2004 the Company estimates that its discounted liability over the remainder of the twenty-one years related to the two operable units is approximately $1.9 million. See also Note 17 on page 63 of this Report. 19 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The information responsive to this item is set forth under the headings "Common Share Prices" on pages 34 and 35 and "Dividends" on page 35, together with dividend information contained in the "Consolidated Statements of Shareholders' Equity" on pages 38 and 39 and Note 8 on pages 50 and 51 of this Report. The information regarding equity compensation plans can be found in Note 1(k) on pages 45 and 46 and Note 13 on pages 54 and 55 of this Report. 20 ITEM 6. SELECTED FINANCIAL DATA SELECTED FINANCIAL DATA EDO CORPORATION AND SUBSIDIARIES (NOT COVERED BY INDEPENDENT AUDITOR'S REPORTS)
2004 2003 2002 2001 2000 -------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) STATEMENT OF EARNINGS DATA: Net sales............................................. $536,173 $460,667 $328,876 $259,961 $206,822 Costs and expenses: Cost of sales....................................... 392,961 338,259 240,850 189,733 151,512 Selling, general and administrative................. 78,791 71,855 47,584 34,013 29,205 Research and development............................ 11,620 8,594 8,492 8,750 5,371 Other expenses (income)(a).......................... -- 1,871 2,565 389 11,495 Impairment loss on Deer Park facility............... -- 9,160 -- -- -- -------- -------- -------- -------- -------- 483,372 429,739 299,491 232,885 197,583 -------- -------- -------- -------- -------- Operating earnings.................................... 52,801 30,928 29,385 27,076 9,239 Net interest expense.................................. (7,848) (8,152) (4,956) (2,216) (2,438) Other non-operating (expense) income, net............. (319) 279 (95) (971) (216) -------- -------- -------- -------- -------- (8,167) (7,873) (5,051) (3,187) (2,654) -------- -------- -------- -------- -------- Earnings before income taxes and cumulative effect of a change in accounting principle.................... 44,634 23,055 24,334 23,889 6,585 Income tax expense.................................... (15,566) (9,644) (10,342) (9,210) (5,264) -------- -------- -------- -------- -------- Earnings before cumulative effect of a change in accounting principle from: Continuing operations............................... 29,068 13,411 13,992 14,679 1,321 Discontinued operations............................. -- 1,398 -- 273 -- -------- -------- -------- -------- -------- Earnings before cumulative effect of a change in accounting principle................................ 29,068 14,809 13,992 14,952 1,321 Cumulative effect of a change in accounting principle, net of tax of $790(b)............................... -- -- (3,363) -- -- Dividends on preferred shares(c)...................... -- -- -- (194) (881) -------- -------- -------- -------- -------- Net earnings available for common shares.............. $ 29,068 $ 14,809 $ 10,629 $ 14,758 $ 440 ======== ======== ======== ======== ======== PER COMMON SHARE DATA: Basic net earnings (loss): Continuing operations............................... $ 1.64 $ 0.78 $ 0.82 $ 1.14 $ 0.05 Discontinued operations............................. -- 0.08 -- 0.02 -- -------- -------- -------- -------- -------- Basic net earnings before cumulative effect of a change in accounting principle...................... 1.64 0.86 0.82 1.16 0.05 Cumulative effect of a change in accounting principle........................................... -- -- (0.20) -- -- -------- -------- -------- -------- -------- Basic net earnings.................................... $ 1.64 $ 0.86 $ 0.62 $ 1.16 $ 0.05 -------- -------- -------- -------- -------- Diluted net earnings (loss): Continuing operations............................... $ 1.49 $ 0.76 $ 0.81 $ 1.09 $ 0.05 Discontinued operations............................. -- 0.08 -- 0.02 -- -------- -------- -------- -------- -------- Diluted net earnings before cumulative effect of a change in accounting principle...................... 1.49 0.84 0.81 1.11 0.05 Cumulative effect of a change in accounting principle........................................... -- -- (0.20) -- -- -------- -------- -------- -------- -------- Diluted net earnings.................................. $ 1.49 $ 0.84 $ 0.61 $ 1.11 $ 0.05 ======== ======== ======== ======== ======== Cash dividends per common share....................... $ 0.12 $ 0.12 $ 0.12 $ 0.12 $ 0.12 Weighted-average common shares outstanding: Basic............................................... 17,695 17,308 17,080 12,776 9,601 Diluted(d).......................................... 22,377 17,561 17,379 14,254 10,662
21
2004 2003 2002 2001 2000 -------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) OTHER DATA: Depreciation and amortization......................... $ 16,040 $ 17,065 $ 11,321 $ 11,396 $ 9,441 Capital expenditures.................................. 14,206 8,865 7,093 14,298 3,861 Backlog............................................... 474,605 462,327 375,029 294,812 252,888 -------- -------- -------- -------- -------- CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents, marketable securities and restricted cash..................................... $ 98,884 $ 86,632 $159,860 $ 58,031 $ 16,621 Working capital....................................... 226,708 175,715 204,382 105,177 37,552 Total assets.......................................... 546,689 494,696 481,574 285,630 214,254 Total debt(e)......................................... 137,800 137,800 137,800 463 49,444 Shareholders' equity.................................. 211,928 190,332 168,273 174,498 65,818 -------- -------- -------- -------- --------
--------------- (a) Reflects $0.9 million in 2003 and $0.6 million in 2002 for the write-off of purchased in-process research and development ("IPR&D") and other merger-related costs, respectively, associated with our acquisition of the assets of Condor Systems, Inc., as well as a $0.9 million curtailment loss in 2003 and a $2.0 million curtailment loss in 2002 associated with our benefit plans; a $0.9 million post-retirement curtailment gain in 2001; $1.3 million and $11.5 million in the years 2001 and 2000, respectively, for the write-off of IPR&D (in 2000); and other EDO-AIL merger-related costs (in 2001 and 2000). (b) Upon adoption of Statement of Financial Accounting Standard No. 142, "Goodwill and Other Intangible Assets," we recorded a cumulative effect of a change in accounting principle effective January 1, 2002. See Note 1(f) to the consolidated financial statements. (c) ESOP Convertible Cumulative Preferred Shares, Series A. On March 8, 2001, all outstanding preferred shares were converted into common shares. No preferred dividends were paid after March 8, 2001. (d) In 2004, the 5.25% Convertible Subordinated Notes had a dilutive effect on the earnings per share calculation. Consequently, 4.4 million shares are included in the diluted shares outstanding in 2004. (e) Includes note payable, Employee Stock Ownership Trust loan obligation and current portions of long-term debt. ITEMS 7. AND 7A. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS AND QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW EDO Corporation (the "Company") provides military and commercial products and professional services, with core competencies in a wide range of critical defense areas, including: - Defense Electronics - Aircraft Armament - Undersea Warfare - Professional Services - C4I -- Command, Control, Communications, Computers, and Intelligence - Integrated Composite Structures We are a leading supplier of sophisticated, highly engineered products and systems for defense, aerospace and industrial applications. We believe our advanced electronic, electromechanical systems, information systems and engineered materials are mission-critical on a wide range of military programs. We have three reporting segments: Defense, Communications and Space Products, and Engineered Materials. Our Defense 22 segment provides integrated front-line warfighting systems and components including electronic-warfare systems, reconnaissance and surveillance systems, aircraft weapons suspension and release systems, integrated combat systems, command, control, communications, computers, and intelligence (C4I) products and systems, undersea-warfare systems and professional and engineering services for military forces and friendly governments worldwide. Our Communications and Space Products segment supplies antenna products and ultra-miniature electronics and systems for the remote sensing and electronic warfare industries. Our Engineered Materials segment supplies commercial and military piezo-electric ceramic products and integrated composite structures for the aircraft and oil industries. The Company has a disciplined acquisition program which is diversifying the base of major platforms and customers. The Company's Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports, and the Proxy Statement for its Annual Meeting of Shareholders are made available, free of charge, on its Web site www.edocorp.com, as soon as reasonably practicable after such reports have been filed with or furnished to the Securities and Exchange Commission. ACQUISITIONS On June 16, 2003, the Company acquired for cash all of the stock of Emblem Group Ltd. ("Emblem"), a privately-held company based in Brighton, England. Emblem, now known as EDO (UK) Ltd., is a supplier of aerospace and defense products and services, primarily through its MBM Technology Ltd. unit in England, now known as EDO MBM Technology Ltd., and Artisan Technologies, Inc. subsidiary in the United States, now known as EDO Artisan. Emblem has a core competency in aircraft weapons-carriage and interfacing systems that reinforces EDO's position as a global leader in aircraft armament release systems. Emblem is expected to broaden the Company's customer base in Europe. The purchase price was L16.1 million ($27.0 million), excluding transaction costs of approximately $1.9 million. In the second quarter of 2004 we received $0.3 million from an escrow account resulting in a decrease in purchase price and, therefore, goodwill. Emblem became part of the Company's Defense segment. The excess of the purchase price over the net assets acquired recorded as goodwill and other intangibles related to Emblem's units located in England is deductible for U.S. income tax purposes over 15 years. The excess of the purchase price over the net assets acquired related to Artisan Technologies, Inc. is not deductible for income tax purposes. On March 10, 2003, the Company acquired for cash all of the stock of Darlington, Inc. ("Darlington"), a privately-held defense communications company based in Alexandria,Virginia. Darlington designs, manufactures and supports military communications equipment and information networking systems. The acquisition has enhanced the Company's existing positions on long-range platforms and programs across the U.S. military services and in particular the U.S. Marine Corps. The purchase price was $25.6 million, excluding transaction costs of approximately $0.3 million. In addition, the Company acquired and immediately paid off debt of $4.9 million. Darlington became part of the Company's Defense segment. The excess of the purchase price over the net assets acquired recorded as goodwill and other intangible assets is deductible for income tax purposes over 15 years. On February 5, 2003, a wholly-owned subsidiary of the Company acquired for cash all of the stock of Advanced Engineering & Research Associates, Inc.("AERA"), a privately-held company located in Alexandria, Virginia. AERA, which was merged with another EDO subsidiary and renamed EDO Professional Services Inc., provides professional and information technology services primarily to the Department of Defense and other government agencies. The acquisition expanded the range of such services that the Company offers. The purchase price was $38.1 million, excluding transaction costs of $0.3 million. In addition, the Company acquired and immediately paid off debt of $3.8 million. AERA became part of the Company's Defense segment. The excess of the purchase price over the net assets acquired recorded as goodwill and other intangible assets is deductible for income tax purposes over 15 years. On July 26, 2002, a wholly-owned subsidiary of the Company acquired substantially all of the assets and assumed certain liabilities of Condor Systems, Inc., a privately-held defense electronics company and its domestic subsidiary (together, "Condor") for $62.5 million in cash, in addition to transaction costs of $5.0 million. The acquisition expanded the Company's electronic warfare business in the areas of reconnais- 23 sance and surveillance systems. The assets became part of the Company's Defense and Communications and Space Products segments. The excess of the purchase price over the net assets acquired recorded as goodwill, IPR&D and other intangible assets is deductible for income tax purposes over 15 years. Associated with the acquisition and included in operating earnings for 2003 and 2002 is $0.9 million and $0.6 million, respectively, of acquisition-related costs, of which $0.2 million in 2002 represents the write-off of purchased in-process research and development ("IPR&D"). This IPR&D was determined to not have reached technological feasibility and to not have alternative future use. The development project related to detecting and locating weak modulated continuous wave signals. These acquisitions were accounted for as purchases and, accordingly, their operating results are included in the Company's consolidated financial statements since their respective acquisition dates. SALE OF PROPERTY On June 24, 2003, the Board of Directors of the Company approved the decision to sell our 726,000 square foot facility in Deer Park, NY. This decision was based on a company-wide facility plan that evaluated potential uses for the property. We concluded that the Deer Park facility would not meet future requirements, and thus an outright sale was completed, freeing assets for more productive use, including acquisitions. A pre-tax impairment loss of $9.2 million was recorded in the second quarter of 2003, as the net book value of the assets exceeded the fair value less the costs to sell. The fair value was based on a $29.0 million sales price per the sales agreement entered into in July 2003. This impairment charge represents the entire loss we expect to incur. Of the $29.0 million sales price, $22.0 million is in cash and $7.0 million is in the form of a purchase money mortgage and note. We closed on the sale in October 2003 and received the cash less closing payments. The note receivable is due when we vacate the facility. As part of the agreement, we will lease the facility through October 10, 2005, with the option to terminate before such date. The lease agreement does not have any renewal or buyout options. DISCUSSION OF CRITICAL ACCOUNTING POLICIES We make estimates and assumptions in the preparation of our consolidated financial statements in conformity with accounting principles generally accepted in the United States. Actual results could differ significantly from those estimates under different assumptions and conditions. We believe that the following discussion addresses our critical accounting policies, which are those that are most important to the portrayal of our consolidated financial condition and results of operations and which require our most difficult and subjective judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. The following is a brief discussion of the critical accounting policies employed by us. REVENUE RECOGNITION Sales under long-term, fixed-price contracts, including pro-rata profits, are generally recorded based on the relationship of costs incurred to date to total projected final costs or, alternatively, as deliveries and other milestones are achieved or services are provided. These projections are revised throughout the lives of the contracts. Adjustments to profits resulting from such revisions are made cumulative to the date of change and may affect current period earnings. Sales on other than long-term contract orders (principally commercial products) are recorded as shipments are made. Our gross profit is affected by a variety of factors, including the mix of products, systems and services sold, production efficiencies, price competition and general economic conditions. Estimated losses on long-term contracts are recorded when identified. INVENTORIES Inventories under long-term contracts and programs reflect all accumulated production costs, including factory overhead, initial tooling and other related costs (including general and administrative expenses relating to certain of our defense contracts), less the portion of such costs charged to cost of sales. All other inventories 24 are stated at the lower of cost (principally first-in, first-out method) or market. Inventory costs in excess of amounts recoverable under contracts and which relate to a specific technology or application and which may not have alternative uses are charged to cost of sales when such circumstances are identified. From time to time, we manufacture certain products prior to receiving firm contracts in anticipation of future demand. Such costs are inventoried and are incurred to help maintain stable and efficient production schedules. Several factors may influence the sale and use of our inventories, including our decision to exit a product line, technological change, new product development and/or revised estimates of future product demand. If inventory is determined to be overvalued due to one or more of the above factors, we would be required to recognize such loss in value at the time of such determination. Under the contractual arrangements by which progress payments are received, the United States Government has a title to or a security interest in the inventories identified with related contracts. PROPERTY, PLANT AND EQUIPMENT AND OTHER LONG-LIVED ASSETS Property, plant and equipment is recorded at cost and is depreciated on a straight-line basis over the estimated useful lives of such assets. Leasehold improvements are amortized over the shorter of their estimated useful lives or their respective lease periods. In those cases where we determine that the useful life of property, plant and equipment should be shortened, we depreciate the net book value in excess of salvage value over its revised remaining useful life thereby increasing depreciation expense. Factors such as technological advances, changes to our business model, changes in our capital strategy, changes in the planned use of equipment, fixtures, software or changes in the planned use of facilities could result in shortened useful lives. Long-lived assets, other than goodwill, are reviewed by us for impairment whenever events or changes in circumstances indicate that the carrying amount of any such asset may not be recoverable. The estimate of cash flow, which is used to determine recoverability, is based upon, among other things, certain assumptions about future operating performance. Our estimates of undiscounted cash flow may differ from actual cash flow due to such factors including technological advances, changes to our business model, or changes in our capital strategy or planned use of long-lived assets. If the sum of the undiscounted cash flows, excluding interest, is less than the carrying value, we would recognize an impairment loss, measured as the amount by which the carrying value exceeds the fair value of the asset. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets" goodwill must be tested at least annually for impairment at the reporting unit level. If an indication of impairment exists, we are required to determine if such goodwill's implied fair value is less than the unit carrying value in order to determine the amount, if any, of the impairment loss required to be recorded. Impairment indicators include, among other conditions, cash flow deficits, an historic or anticipated decline in revenue or operating profits, adverse legal or regulatory developments, accumulation of costs significantly in excess of amounts originally expected to acquire the asset and/or a material decrease in the fair value of some or all of the assets. To determine the fair value of our reporting units, we generally use a present value technique (discounted cash flow) corroborated by market multiples when available and as appropriate, for all of the reporting units. The discounted cash flow method measures intrinsic value by reference to an enterprise's or an asset's expected annual free cash flows. We applied what we believe to be the most appropriate valuation methodology for each of the reporting units. If we had established different reporting units or utilized different valuation methodologies, the impairment test results could differ. PENSION AND POST-RETIREMENT BENEFITS OBLIGATIONS We sponsor defined benefit pension and other retirement plans in various forms covering all eligible employees. Several statistical and other factors which attempt to anticipate future events are used in 25 calculating the expense and liability related to the plans. These factors include assumptions about the discount rate and expected return on plan assets within certain guidelines and in conjunction with our actuarial consultants. In addition, our actuarial consultants also use subjective factors such as withdrawal and mortality rates to estimate the expense and liability related to these plans. The actuarial assumptions used by us may differ significantly, either favorably or unfavorably, from actual results due to changing market, economic or regulatory conditions, higher or lower withdrawal rates or longer or shorter life spans of participants. In 2004, 2003 and 2002 we used the building block approach to the estimation of the long-term rate of return on assets. Under this approach, we reviewed the publicly available common source data for the range of returns on basic types of equity and fixed income instruments and the differential to those rates provided by active investment management. In consultation with our actuarial and active asset management consultants and taking into account the funds' actual performance and expected asset allocation going forward, we selected an overall return rate within the resulting range. FINANCIAL HIGHLIGHTS Net sales for 2004 increased 16.4% to $536.2 million from $460.7 million for 2003 and included a full year of sales from the acquisitions of Emblem UK, Ltd., Darlington and AERA compared to approximately 6.5 months, 9.5 months and 11 months, respectively in 2003. For 2004, net earnings were $29.1 million or $1.49 per diluted share on 22.4 million shares compared to net earnings of $14.8 million or $0.84 per diluted share on 17.6 million shares in 2003. The 2003 results included a pre-tax impairment loss on the sale of the Deer Park facility of $9.2 million. Also included in 2003 is $1.4 million net of tax earnings from discontinued operations. In 2004 the convertible notes had a dilutive effect, which added approximately 4.4 million shares to the calculation. RECENT ACCOUNTING PRONOUNCEMENTS On December 16, 2004, the Financial Accounting Standards Board ("FASB") issued SFAS No. 123 (revised 2004), "Share-Based Payment," which is a revision of SFAS No. 123, "Accounting for Stock-Based Compensation." SFAS 123(R) supersedes Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees," and amends SFAS No. 95, "Statement of Cash Flows." Generally, the approach in SFAS 123(R) is similar to the approach described in SFAS 123. However, SFAS 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Pro forma disclosure is no longer an alternative. SFAS 123(R) must be adopted in the first interim or annual period beginning after June 15, 2005. We expect to adopt Statement 123(R) on July 1, 2005. As permitted by SFAS 123, we currently account for share-based payments to employees using APB No. 25's intrinsic value method and generally recognize no compensation cost for employee stock options. Accordingly, the adoption of SFAS 123(R)'s fair value method will have a significant impact on our result of operations, although it will have no impact on our overall financial position. The impact of the adoption of SFAS 123(R) cannot be predicted at this time because it will depend on levels of share-based payments granted in the future. However, had we adopted Statement 123(R) in prior periods, the impact of that standard would have approximated the impact of SFAS 123 as described in the disclosure of pro forma net income and earnings per share in Note 1(k) to our consolidated financial statements. SFAS 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required under current literature. 26 RESULTS OF OPERATIONS COMPARISON OF 2004 TO 2003 Net sales by segment were as follows:
TWELVE MONTHS ENDED DECEMBER INCREASE ---------------------- FROM SEGMENT 2004 2003 PRIOR PERIOD ------- --------- --------- ------------ (DOLLARS IN MILLIONS) Defense............................................... $406.3 $360.0 12.9% Communications and Space Products..................... 81.7 55.5 47.2% Engineered Materials.................................. 48.2 45.2 6.7% ------ ------ Total................................................. $536.2 $460.7 16.4% ====== ======
In the Defense segment, approximately $12.7 million of the increase in sales was attributable to a full year of sales of Emblem Group Ltd. ("Emblem") which was acquired on June 16, 2003. There were increases in sales of reconnaissance and surveillance systems, professional services and command, control, communications, computers and intelligence ("C4I") systems. These increases were partially offset by decreases in sales of electronic warfare equipment due to the completion of the UEU production program in 2003. In addition there was a decrease in sales of $2.7 million in 2004 to reflect an increase to the estimate-to-complete of an undersea warfare systems program accounted for under the percentage of completion method. The increase in the estimate resulted in a decrease to the percent complete and therefore the decrease to sales. The revision to the estimate resulted from performance issues discovered during testing phases. There was a comparable reduction to operating earnings as discussed below. In the Communications and Space Products segment, the increase in sales was attributable to deliveries on our contract with the U.S. Army for the new force protection systems. This "rapid response" program was a significant contributor to sales and margin in this segment for the year. In addition, there was an increase in sales of antenna products. These increases in sales were partially offset by a decrease due to completion of production deliveries of interference cancellation systems and the basic shortstop electronic protection systems ("SEPS") in the first quarter of 2003. In addition, in 2004 there were no sales of our space products related to commercial communication satellites due to a significant downturn in market demand. Entering into 2004 there was a forecast from our primary customer that indicated a demand for our product. As the year progressed, and as late as October, there was market potential, including our pursuit of secondary customers. However, as we continued to evaluate the market for our inventory of Ku-band products, we concluded that the market was shifting to Ka-band systems and that there was no potential sale of our product for the foreseeable future. Consequently, we wrote-off our remaining $2.6 million of inventory in the fourth quarter. In the Engineered Materials segment, there were increases in sales of electro-ceramic products utilized in sonar transducers and in sales of integrated composite structures including production and installation of our composite pipe for water and fire systems on offshore oil platforms. 27 Operating earnings were as follows:
TWELVE MONTHS ENDED DECEMBER 31, INCREASE ---------------------- FROM SEGMENT 2004 2003 PRIOR PERIOD ------- -------- -------- ------------ (DOLLARS IN MILLIONS) Defense............................................... $43.1 $35.0 22.8% Communications and Space Products..................... 4.3 3.6 19.8% Engineered Materials.................................. 5.4 2.4 128.2% Impairment loss on Deer Park facility................. -- (9.2) Benefit Plan curtailment loss......................... -- (0.9) ----- ----- Total................................................. $52.8 $30.9 70.7% ===== =====
Items of note affecting operating earnings are summarized here to clarify the comparison of results.
TWELVE MONTHS ENDED DECEMBER 31, ----------------------- 2004 2003 --------- --------- (DOLLARS IN THOUSANDS) Pension..................................................... $2,183 $3,931 ESOP Compensation expense................................... $4,330 $3,281 Intangible asset amortization............................... $5,564 $4,885
The lower pension expense in 2004 compared to 2003 is attributable to the cash contribution we made to our defined benefit plan in 2003. The higher ESOP compensation expense in 2004 is attributable to our higher average stock price compared to 2003. Pension and ESOP compensation expense are allocated between cost of sales and selling, general and administrative expense. The intangible asset amortization expense is associated with the acquisitions made in 2002 and 2003 and affects primarily the Defense segment. The $9.2 million impairment charge in 2003 related to our Deer Park facility which was sold. Operating earnings for 2004 were also affected by several contract-related items which are described in further detail below in the discussion of segment operating earnings. The Defense segment's operating earnings for the year ended December 31, 2004 were $43.1 million or 10.6% of this segment's net sales compared to $35.0 million or 9.7% of this segment's net sales for the year ended December 31, 2003. This increase in operating earnings was attributable to continuing higher-margin sales of reconnaissance and surveillance systems and radar signal simulators. In addition, there was a positive impact to operating earnings of approximately $3.4 million resulting from the release of a reserve which had been previously established for a potential issue on MK105-related contracts. The release of the reserve was triggered by final closeout of MK105 programs and proven performance resulting from system utilization over the course of the year. These increases were partially offset by the effect of increasing the estimate-to-complete on an aircraft armament program resulting in a $1.6 million negative impact to operating earnings and the aforementioned $3.0 million impact on an undersea warfare systems program. We believe that our current estimates accurately reflect the total potential impacts. The Communications and Space Products segment's operating earnings for the year ended December 31, 2004 were $4.3 million or 5.3% of this segment's net sales compared to operating earnings of $3.6 million or 6.5% of this segment's net sales for the year ended December 31, 2003. In the first quarter of 2004, there were operating losses related to adjustments to estimates-to-complete on development and start-up production phases on certain interference cancellation programs resulting from issues discovered in the first quarter during testing. In addition, there were losses in the antenna product line, primarily in the second quarter, due to production inefficiencies that resulted in inventory adjustments as well as increases in estimates-to-complete. In the fourth quarter, there was the aforementioned write-off of space-products related inventory of $2.6 million. This segment's operating results were positively affected by sales associated with the force 28 protection systems program which was a significant contributor to operating earnings in this segment for the year. The Engineered Materials segment's operating earnings for the year ended December 31, 2004 were $5.4 million or 11.3% of this segment's net sales compared to operating earnings of $2.4 million or 5.3% of this segment's net sales for the year ended December 31, 2003. Strong margins on spares primarily contributed to the increase in operating earnings. In the second quarter of 2004, there was a negative impact of $0.8 million which related to the undersea warfare systems program issue in the Defense segment. A component for sonar equipment produced in the engineered materials segment experienced failures during testing. The estimate of the cost to remedy the problem resulted in the $0.8 million charge to earnings. During the year ended December 31, 2004, this segment's operating earnings were positively affected by a net $0.4 million, resulting from $1.1 million received in a settlement of a legal matter, partially offset by related legal fees. During the year ended December 31, 2003, we incurred a charge of $0.7 million to write-down inventory and receivables related to the microwave product line that serviced the telecommunications industry. As sales were not materializing to expected levels, we conducted an analysis which resulted in the write-down of $0.6 million of inventory and $0.1 million of unbilled receivables. Selling, general and administrative expenses for the year ended December 31, 2004 of $78.8 million decreased as a percent of net sales to 14.7% from 15.6% for the year ended December 31, 2003. This decrease was attributable primarily to facilities consolidations and other synergies achieved on the AERA and Darlington acquisitions. Included in selling, general and administrative expenses in 2004 and 2003 were $2.2 million and $1.1 million, respectively, of external costs for compliance with Sarbanes-Oxley. We have not quantified the internal costs. Research and development expense for the year ended December 31, 2004 increased to $11.6 million or 2.2% of net sales from $8.6 million or 1.9% of net sales for the year ended December 31, 2003. The increase is attributable to expenditures in reconnaissance and surveillance systems and force protection systems. Interest expense, net of interest income, for the year ended December 31, 2004 decreased to $7.8 million compared to $8.2 for the year ended December 31, 2003, primarily due to higher interest income on a higher average cash balance. Interest expense is associated primarily with our $137.8 million principal amount of 5.25% Convertible Subordinated Notes ("Notes") issued in April 2002, amortization of deferred debt issuance costs associated with the offering of the Notes, and amortization of deferred financing costs associated with our credit facility. Income tax expense reflects an effective rate of 34.9% for the year ended December 31, 2004 and 41.8% for the year ended December 21, 2003. In 2004, the Company recorded an income tax benefit of $2.8 million due to the reversal of income tax contingencies which were determined to be no longer needed during the fourth quarter of 2004. For the year ended December 31, 2004, net earnings were $29.1 million or $1.49 per diluted common share on 22.4 million diluted shares compared to net earnings from continuing operations of $13.4 million or $0.76 per diluted common share on 17.6 million diluted shares for the year ended December 31, 2003. The convertible notes had a dilutive effect for the year ended December 31, 2004, but not for the year ended December 31, 2003. In the year ended December 31, 2003, we received notification of final settlement of bankruptcy matters pertaining to our former energy business. Upon the discontinuance of such business in 1996, a liability was established pending final settlement of the bankruptcy. This liability was reversed as of December 31, 2003. Consequently, $1.4 million, which was net of income tax expense of $1.0 million, was reported as earnings from discontinued operations in the accompanying statement of earnings. 29 COMPARISON OF 2003 TO 2002 Net sales by segment were as follows:
TWELVE MONTHS ENDED DECEMBER 31, INCREASE ---------------------- FROM SEGMENT 2003 2002 PRIOR PERIOD ------- --------- --------- ------------ (DOLLARS IN MILLIONS) Defense............................................... $360.0 $243.4 47.9% Communications and Space Products..................... 55.5 47.3 17.3% Engineered Materials.................................. 45.2 38.2 18.4% ------ ------ Total................................................. $460.7 $328.9 40.1% ====== ======
Net sales for the year ended December 31, 2003 increased 40.1% to $460.7 million from $328.9 million for the year ended December 31, 2002. This increase comprised sales growth of $116.4 million for the Defense segment, $8.2 million for the Communications and Space Products segment and $7.0 million for the Engineered Materials segment. In the Defense segment, $91.3 million of the net increase was attributable to sales of Emblem Group Ltd. ("Emblem"), Darlington, Inc. ("Darlington"), and Advanced Engineering & Research Associates, Inc. ("AERA") since their acquisition dates of June 16, March 10, and February 5, 2003, respectively. In addition, $48.4 million of the increase is attributable to a full year's worth of sales of reconnaissance and surveillance systems associated with the acquisition of substantially all of the assets of Condor Systems, Inc. ("Condor"), compared to only five months in 2002. In addition, there were increases in sales of aircraft weapons suspension and release systems due in part to the F/A-22 AMRAAM Vertical Eject Launcher program, the BRU-57 Multiple Carriage Smart Bomb Rack program, and development efforts on the Joint Strike Fighter weapons suspension and release units programs. Sales of undersea sonar systems and aircraft radar signal simulator units also increased in 2003 compared to 2002. These increases were offset by decreases in sales of electronic warfare equipment as well as integrated combat systems. The decrease in sales of electronic warfare equipment was due to the completion of the Universal Exciter Upgrade ("UEU") production program in the third quarter of 2003. The decrease in integrated combat systems was due primarily to delays in receipt of orders from foreign customers. In the Communications and Space Products segment, most of the net increase in sales was attributable to a full year's worth of sales of electronic protection systems from the aforementioned acquisition of Condor compared to only five months in 2002. Additionally, sales increases in our antenna product line were more than offset by decreases in sales of our space sensor communication products. In the Engineered Materials segment, there were increases in sales of electro-ceramic products, attributable to transducers and sonar arrays. There were also increases in sales of integrated composite structures including work associated with the Sikorsky Comanche program as well as production and installation of our composite pipe on offshore oil rig projects resulting from increased activity in the Gulf of Mexico. 30 Operating earnings by segment were as follows:
TWELVE MONTHS ENDED DECEMBER 31, INCREASE/(DECREASE) ---------------------- FROM SEGMENT 2003 2002 PRIOR PERIOD ------- -------- -------- ------------------- (DOLLARS IN MILLIONS) Defense.......................................... $35.0 $28.7 22.3% Communications and Space Products................ 3.6 (0.4) 912.5% Engineered Materials............................. 2.4 3.1 (24.3)% Impairment loss on Deer Park Facility............ (9.2) -- Benefit plan curtailment loss.................... (0.9) (2.0) ----- ----- Total............................................ $30.9 $29.4 5.3% ===== =====
Operating earnings for the year ended December 31, 2003 were $30.9 million or 6.7% of net sales. This compares to operating earnings for the year ended December 31, 2002 of $29.4 million or 8.9% of net sales. The 2003 results were negatively impacted by a $9.2 million loss on the sale of our facility in Deer Park, a $0.9 million curtailment loss associated with our non-qualified pension plan, and $0.9 million of costs associated with the acquisition of the former Condor business. In 2002, operating earnings included a $2.0 million curtailment loss associated with our defined benefit pension plan and $0.6 million of costs associated with the acquisition of substantially all of the assets of the former Condor business. In addition, 2003 operating earnings include $4.9 million of intangible asset amortization expense associated with the Condor, AERA, Darlington and Emblem acquisitions. This compares to total amortization expense of approximately $1.0 million for 2002. Also included in operating earnings for the year ended December 31, 2003 is pension expense of $3.9 million and ESOP compensation expense of $3.3 million. Included in operating earnings for the year ended December 31, 2002 is pension expense of $4.0 million and ESOP compensation expense of $4.0 million. The lower ESOP compensation expense for 2003 is attributable to our lower average stock price in 2003 compared to 2002. Pension and ESOP compensation expense are allocated between cost of sales and selling, general and administrative expense. The Defense segment's operating earnings for the year ended December 31, 2003 were $35.0 million or 9.7% of this segment's net sales compared to $28.7 million or 11.8% of this segment's net sales for the year ended December 31, 2002. In 2003, operating earnings were positively affected by higher-margin sales of reconnaissance and surveillance systems from the acquisition of substantially all of the assets of Condor, efficiencies achieved on higher production volume associated with our radar signal simulator, and higher margin sales of aircraft weapons suspension and release systems. The completion of production activities on certain long-term programs, including the UEU, also resulted in earnings at relatively high margins. In addition, there were high margins recognized on various B-1B spares and repairs contracts. These increases were offset in part by a shift in the margins of mine countermeasure systems from higher-margin production on the MK105 program last year to lower-margin, non-recurring development efforts this year associated with OASIS, as well as by the aforementioned lower sales of combat systems. Operating earnings for 2003 were also negatively impacted by amortization expense pertaining to intangible assets associated with acquisitions. The Communications and Space Products segment's operating earnings for the year ended December 31, 2003 were $3.6 million or 6.5% of this segment's net sales compared to an operating loss of $0.4 million or 0.9% of this segment's net sales in 2002. In 2003, operating earnings in this segment were negatively impacted by a $1.1 million pre-tax charge to write down satellite-related inventory to net realizable value. This reduction was caused by competitive price pressure from our major customer as well as some obsolescence. This charge was more than offset by the receipt of an award fee on a classified program as well as the contribution from the higher sales of communications systems from the acquisition of substantially all of the assets of Condor. Included in the 2002 operating loss was a $1.5 million charge to provide for manufacturing inefficiencies resulting from our primary customer's decrease in its forecasted purchases of our satellite down converters. The Engineered Materials segment's operating earnings for the year ended December 31, 2003 were $2.4 million or 5.3% of this segment's net sales compared to operating earnings of $3.1 million or 8.3% of this 31 segment's net sales in 2002. During the year ended December 31, 2003, we incurred a pre-tax charge of $0.7 million to write down inventory and receivables related to the microwave product line that services the telecommunications industry. As sales from such product line were not materializing to expected levels set forth in the business plan for this line, we conducted an analysis of market potential. Such analysis was completed in the second quarter of 2003 and indicated that approximately $0.1 million of unbilled receivables were unrecoverable and that the net realizable value of the related inventory was $0.6 million lower than its book value. In addition, the decrease in this segment's operating earnings as a percentage of net sales was due to a decrease in contribution from composite structural products resulting from a shift in sales to lower-margin, non-recurring engineering efforts associated with the Sikorsky Comanche program. Selling, general and administrative expenses for the year ended December 31, 2003 increased to $71.9 million or 15.6% of net sales from $47.6 million or 14.5% of net sales for the year ended December 31, 2002. This increase was primarily attributable to three acquisitions made in 2003. Research and development expense for the year ended December 31, 2003 increased slightly to $8.6 million or 1.9% of net sales from $8.5 million or 2.6% of net sales for the year ended December 31, 2002. As a percent of sales, the decrease is attributable to the absence of such expenditures in the services businesses. Interest expense, net of interest income, for the year ended December 31, 2003 increased 64.5% to $8.2 million from $5.0 million for the year ended December 31, 2002, due primarily to interest expense associated with our $137.8 million principal amount Notes issued in April 2002, increased amortization expense of deferred debt issuance costs associated with the offering of the Notes and increased amortization of deferred financing costs associated with our credit facility amended in November 2002. Income tax expense reflects an effective rate of 41.8% for the year ended December 31, 2003 compared to 42.5% for the year ended December 31, 2002. The decrease in the effective tax rate was principally attributable to the decreased amount of non-deductible, non-cash ESOP compensation expense in 2003. For the year ended December 31, 2003, earnings available for common shares were $14.8 million or $0.84 per diluted common share on 17.6 million diluted shares compared to earnings before cumulative effect of change in accounting principle of $14.0 million or $0.81 per diluted common share on 17.4 million diluted shares for the year ended December 31, 2002. The cumulative effect of a change in accounting principle for the year ended December 31, 2002 was recorded as of January 1, 2002 and is shown net of a tax benefit of $0.8 million on the consolidated statement of earnings. This charge pertained to the impairment of goodwill and a trademark resulting from impairment tests performed in 2002, as required by SFAS No. 142. The impairment occurred in the Engineered Materials segment and is comprised of the following: $2.2 million and $1.9 million of goodwill and a trademark, respectively, related to our acquisition of Specialty Plastics and $0.1 million of goodwill related to our acquisition of Zenix. LIQUIDITY AND CAPITAL RESOURCES BALANCE SHEET Our cash and cash equivalents increased 14.1% to $98.9 million at December 31, 2004 from $86.6 million at December 31, 2003. Cash generated from operations was $25.7 million. Investing activities included $14.0 million used for the purchase of capital equipment, partially offset by $1.2 million received on notes receivable and $0.3 million received upon settlement of an escrow related to the purchase of Emblem. Financing activities included $2.4 million used for payment of common share cash dividends, partially offset by $1.5 million of proceeds from the exercise of stock options. Accounts receivable increased 14.5% to $153.8 million at December 31, 2004 from $134.3 million at December 31, 2003. The increase is attributable to the higher sales volume. The majority of the increase relates to timing of billed receivables. 32 Inventories increased 52.2% to $52.9 million at December 31, 2004 from $34.7 million at December 31, 2003 due primarily to the efforts expended on work-in-progress on major programs, such as the force protection systems program for which deliveries will continue into 2005. The notes receivable of $7.2 million at December 31, 2004 (all in current assets) and $8.1 million at December 31, 2003 (of which $1.6 million was in current assets) represent the notes receivable from the sale of our facility in Deer Park in 2003 and the sale of our former College Point facility in January 1996. The Deer Park facility note is due no later than October 9, 2005. The College Point facility note is due in annual amounts through September 2005 with a final payment due on December 31, 2005 and bears interest at 7% per annum. The latter note receivable is secured by a mortgage on the facility. FINANCING ACTIVITIES Credit Facility We have a $200.0 million credit facility with a consortium of banks, led by Citibank, N.A. as the administrative agent, Bank of America as the syndication agent and Wachovia Bank, N.A. as the documentation agent. The facility expires in November 2005. The credit facility provides us with sub-limits of borrowing up to $125.0 million for acquisition-related financing and up to $125.0 million in standby letters of credit financing. The potential cash borrowing under the facility is reduced by the amount of outstanding letters of credit. Any borrowings under the facility would be priced initially at LIBOR plus a predetermined amount, ranging from 1.25% to 1.75%, depending on our consolidated leverage ratio at the time of the borrowing. At December 31, 2004, LIBOR was approximately 2.55% and the applicable adjustment to LIBOR was 1.25%. The facility requires us to pay each lender in the consortium a commitment fee on the average daily unused portion of their respective commitment at a rate equal to 0.25%. There were no direct borrowings outstanding under the credit facility at December 31, 2004 or 2003. Letters of credit outstanding at December 31, 2004 pertaining to the credit facility were $39.8 million, resulting in $85.2 million available at December 31, 2004 for standby letters of credit, if needed. In connection with the credit facility, we are required to maintain both financial and non-financial covenants and ratios, including but not limited to leverage ratio, fixed charge coverage ratio, earnings before interest and taxes to interest expense ratio, total unsubordinated debt to tangible net worth, net income and dividends. Also, the Company cannot declare or pay any dividend on its outstanding common stock in an amount that exceeds fifty percent of its consolidated net income for the immediately preceding quarter. As of December 31, 2004, we were in compliance with our covenants. The credit facility is secured by our accounts receivable, inventory and machinery and equipment. 5.25% Convertible Subordinated Notes due 2007("Notes") In April 2002, we completed the offering of the Notes and received proceeds of $133.7 million, net of $4.1 million of commissions paid. Interest payments on the Notes are due April 15 and October 15 of each year, commencing on October 15, 2002. Accrued interest payable, included in accrued liabilities on our consolidated balance sheet, was $1.5 million at December 31, 2004 and 2003. The Notes are convertible, unless previously redeemed or repurchased by us, at the option of the holder at any time prior to maturity, into our common shares at an initial conversion price of $31.26 per share, subject to adjustment in certain events. As of December 31, 2004, there had been no conversions. Shelf Registration On December 23, 2003, we filed a shelf registration statement to potentially offer for sale common shares, preferred shares, debt securities and warrants. We may sell any combination of the foregoing securities in one or more offerings up to an aggregate initial offering price of $500,000,000. We believe that, for the foreseeable future, we have adequate liquidity and sufficient capital to fund our currently anticipated requirements for working capital, capital expenditures, including acquisitions, research and development expenditures, interest payments and funding of our pension and post-retirement benefit 33 obligations. We continue to focus on positioning ourselves to be a significant player in the consolidation of first-tier defense suppliers and, to that end, have actively sought candidates for strategic acquisitions. Future acquisitions may be funded from any of the following sources: cash on hand; borrowings under our credit facility; issuance of our common stock or other equity securities; and/or convertible or other debt offerings. COMMITMENTS AND CONTINGENCIES In order to aggregate all commitments and contractual obligations as of December 31, 2004, we have included the following table. We are obligated under building and equipment leases expiring between 2005 and 2017. The aggregate future minimum lease commitments under those obligations with noncancellable terms in excess of one year are shown below. Our commitments under letters of credit and advance payment and performance bonds relate primarily to advances received on foreign contracts should we fail to perform in accordance with the contract terms. We do not expect to have to make payments under these letters of credits or bonds since these obligations are removed as we perform under the related contracts. The amounts for letters of credit and performance bonds represent the amount of commitment expiration per period.
PAYMENTS DUE IN: ---------------------------------------------------------- 2010 AND CONTRACTUAL OBLIGATIONS TOTAL 2005 2006 2007 2008 2009 BEYOND ----------------------- ------ ----- ----- ------ ----- ----- -------- (IN MILLIONS) 5.25% Convertible Subordinated Notes due 2007...................... $137.8 $ -- $ -- $137.8 $ -- $ -- $ -- Operating leases 109.8 14.4 12.5 11.5 11.0 10.7 49.7 Letters of credit........... 39.8 37.5 0.1 2.2 -- -- -- Projected pension contributions............. 29.0 6.0 6.0 6.0 6.0 5.0 -- Advance payment and performance bonds......... 1.9 -- 0.2 -- -- 1.7 -- ------ ----- ----- ------ ----- ----- ----- Total....................... $318.3 $57.9 $18.8 $157.5 $17.0 $17.4 $49.7 ====== ===== ===== ====== ===== ===== =====
Actual pension contributions may differ from amounts presented above and are contingent on cash flow and liquidity. Additionally, we are subject to certain legal actions that arise out of the normal course of business. It is our belief that the ultimate outcome of these actions will not have a material adverse effect on our consolidated financial position, results of operations or liquidity. CONCENTRATION OF SALES We conduct a significant amount of our business with the United States Government. Although there are currently no indications of a significant change in the status of government funding of certain programs, should this occur, our results of operations, financial position and liquidity could be materially affected. Such a change could have a significant impact on our profitability and our stock price. This could also affect our ability to acquire funds from our credit facility due to covenant restrictions or from other sources. BACKLOG The funded backlog of unfilled orders at December 31, 2004 increased to $474.6 million from $462.3 million at December 31, 2003. Our backlog consists primarily of current orders under long-lived, mission-critical programs on key defense platforms. COMMON SHARE PRICES EDO common shares are traded on the New York Stock Exchange. As of February 21, 2005, there were 1,803 shareholders of record (brokers and nominees counted as one each). 34 The price range in 2004 and 2003 was as follows:
2004 2003 ----------------- ----------------- HIGH LOW HIGH LOW ------- ------- ------- ------- 1st Quarter.................................... 27.2000 23.1000 21.6000 14.7500 2nd Quarter.................................... 25.8900 20.7100 20.3100 14.9700 3rd Quarter.................................... 28.0100 22.3100 23.5900 17.0900 4th Quarter.................................... 32.4200 26.2400 25.9500 19.7000
DIVIDENDS During 2004 and 2003, the Board of Directors approved the payment of quarterly cash dividends of $0.03 per common share. The Company's credit facility places certain limits on the payment of cash dividends. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS None. "SAFE HARBOR" STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 The statements in this Annual Report and in oral statements that may be made by representatives of the Company relating to plans, strategies, economic performance and trends and other statements that are not descriptions of historical facts may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27(a) of the Securities Act of 1933 and Section 21(e) of the Securities Exchange Act of 1934. Forward looking statements are inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to the following for each of the types of information noted below. U.S. and international military program sales, follow-on procurement, contract continuance, and future program awards, upgrades and spares support are subject to: U.S. and international military budget constraints and determinations; U.S. congressional and international legislative body discretion; U.S. and international government administration policies and priorities; changing world military threats, strategies and missions; competition from foreign manufacturers of platforms and equipment; NATO country determinations regarding participation in common programs; changes in U.S. and international government procurement timing, strategies and practices, the general state of world military readiness and deployment; and the ability to obtain export licenses. Commercial satellite programs and equipment sales, follow-on procurement, contract continuance and future program awards, upgrades and spares support are subject to: establishment and continuance of various consortiums for satellite constellation programs; delay in launch dates due to equipment, weather or other factors beyond our control; and development of sufficient customer base to support a particular satellite constellation program. Commercial product sales are subject to: success of product development programs currently underway or planned; competitiveness of current and future production costs and prices and market and consumer base development of new product programs. Achievement of margins on sales, earnings and cash flow can be affected by: unanticipated technical problems; government termination of contracts for convenience; decline in expected levels of sales; underestimation of anticipated costs on specific programs; the ability to effect acquisitions; and risks inherent in integrating recent acquisitions into our overall structure. Expectations of future income tax rates can be affected by a variety of factors, including statutory changes in Federal and state tax rates, nondeductibility of goodwill amortization and IPR&D acquired in a stock purchase business combination and the nondeductibility of our noncash ESOP compensation expense. The Company has no obligation to update any forward-looking statements. 35 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA CONSOLIDATED STATEMENTS OF EARNINGS EDO CORPORATION AND SUBSIDIARIES
YEARS ENDED DECEMBER 31, ------------------------------ 2004 2003 2002 -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) CONTINUING OPERATIONS: NET SALES................................................. $536,173 $460,667 $328,876 -------- -------- -------- COSTS AND EXPENSES Cost of sales........................................... 392,961 338,259 240,850 Selling, general and administrative..................... 78,791 71,855 47,584 Research and development................................ 11,620 8,594 8,492 Write-off of purchased in-process research and development and merger-related costs................. -- 929 567 Benefit plan curtailment loss........................... -- 942 1,998 Impairment loss on Deer Park facility................... -- 9,160 -- -------- -------- -------- 483,372 429,739 299,491 -------- -------- -------- OPERATING EARNINGS........................................ 52,801 30,928 29,385 NON-OPERATING INCOME (EXPENSE) Interest income......................................... 1,271 941 1,729 Interest expense........................................ (9,119) (9,093) (6,685) Other, net.............................................. (319) 279 (95) -------- -------- -------- (8,167) (7,873) (5,051) -------- -------- -------- Earnings from continuing operations before income taxes and cumulative effect of a change in accounting principle............................................ 44,634 23,055 24,334 Income tax expense.......................................... (15,566) (9,644) (10,342) -------- -------- -------- EARNINGS FROM CONTINUING OPERATIONS BEFORE CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE.............. 29,068 13,411 13,992 DISCONTINUED OPERATIONS: Gain from discontinued operations, net of tax of $971..... -- 1,398 -- -------- -------- -------- EARNINGS FROM DISCONTINUED OPERATIONS..................... -- 1,398 -- -------- -------- -------- EARNINGS BEFORE CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE................................................. 29,068 14,809 13,992 -------- -------- -------- Cumulative effect of a change in accounting principle, net of tax of $790............................................ -- -- (3,363) -------- -------- -------- NET EARNINGS................................................ $ 29,068 $ 14,809 $ 10,629 ======== ======== ======== EARNINGS PER COMMON SHARE: Basic: Continuing operations................................... $ 1.64 $ 0.78 $ 0.62 Discontinued operations................................. -- 0.08 -- -------- -------- -------- NET EARNINGS PER COMMON SHARE -- BASIC...................... $ 1.64 $ 0.86 $ 0.62 ======== ======== ======== Diluted: Continuing operations................................... $ 1.49 $ 0.76 $ 0.61 Discontinued operations................................. -- 0.08 -- -------- -------- -------- NET EARNINGS PER COMMON SHARE -- DILUTED.................... $ 1.49 $ 0.84 $ 0.61 ======== ======== ========
See accompanying Notes to Consolidated Financial Statements. 36 CONSOLIDATED BALANCE SHEETS EDO CORPORATION AND SUBSIDIARIES
DECEMBER 31, --------------------- 2004 2003 --------- --------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS) ASSETS Current assets: Cash and cash equivalents................................. $ 98,884 $ 86,632 Accounts receivable, net.................................. 153,810 134,303 Inventories............................................... 52,867 34,733 Deferred income tax asset, net............................ 5,046 4,836 Notes receivable, current................................. 7,202 1,600 Prepayments and other..................................... 3,493 4,354 -------- -------- Total current assets................................... 321,302 266,458 -------- -------- Property, plant and equipment, net.......................... 34,830 31,355 Notes receivable............................................ -- 6,538 Goodwill.................................................... 91,651 92,527 Other intangible assets..................................... 50,356 55,898 Deferred income tax asset, net.............................. 30,241 20,532 Other assets................................................ 18,309 21,388 -------- -------- $546,689 $494,696 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable.......................................... $ 32,406 $ 22,801 Accrued liabilities....................................... 48,492 59,747 Contract advances and deposits............................ 13,696 8,195 -------- -------- Total current liabilities.............................. 94,594 90,743 -------- -------- Income taxes payable........................................ 5,768 2,195 Long-term debt.............................................. 137,800 137,800 Post-retirement benefits obligations........................ 94,936 71,898 Environmental obligation.................................... 1,663 1,728 Shareholders' equity: Preferred shares, par value $1 per share, authorized 500,000 shares......................................... -- -- Common shares, par value $1 per share, authorized 50,000,000 shares, 20,112,243 issued in 2004 and 19,832,108 issued in 2003.............................. 20,112 19,832 Additional paid-in capital................................ 158,548 150,097 Retained earnings......................................... 96,004 69,059 Accumulated other comprehensive loss, net of income tax benefit ($29,617 in 2004 and $20,348 in 2003).......... (42,619) (29,281) Treasury shares at cost (94,585 shares in 2004 and 88,128 shares in 2003)........................................ (1,449) (1,255) Unearned Employee Stock Ownership Plan shares............. (16,039) (17,290) Deferred compensation under Long-Term Incentive Plan...... (2,408) (479) Management group receivables.............................. (221) (351) -------- -------- Total shareholders' equity............................. 211,928 190,332 -------- -------- $546,689 $494,696 ======== ========
See accompanying Notes to Consolidated Financial Statements. 37 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY EDO CORPORATION AND SUBSIDIARIES
YEARS ENDED DECEMBER 31, --------------------------------------------------------- 2004 2003 2002 ----------------- ----------------- ----------------- AMOUNT SHARES AMOUNT SHARES AMOUNT SHARES -------- ------ -------- ------ -------- ------ (IN THOUSANDS) COMMON SHARES Balance at beginning of year............................ $ 19,832 19,832 $ 19,790 19,790 $ 19,790 19,790 Exercise of stock options............................... 164 164 31 31 -- -- Shares used for Long-Term Incentive Plan................ 116 116 11 11 -- -- -------- ------ -------- ------ -------- ------ Balance at end of year.................................. 20,112 20,112 19,832 19,832 19,790 19,790 -------- ------ -------- ------ -------- ------ ADDITIONAL PAID-IN CAPITAL Balance at beginning of year............................ 150,097 147,091 143,747 Exercise of stock options............................... 1,371 150 (466) Income tax benefit related to stock options and Long-Term Incentive Plan.............................. 1,134 328 713 Shares used for payment of directors' fees.............. 60 28 64 Shares used for Long-Term Incentive Plan................ 2,807 178 241 Compensation expense on accelerated options............. -- 292 -- Employee Stock Ownership Plan shares committed-to-be- released.............................................. 3,079 2,030 2,792 -------- -------- -------- Balance at end of year.................................. 158,548 150,097 147,091 -------- -------- -------- RETAINED EARNINGS Balance at beginning of year............................ 69,059 56,325 47,744 Net earnings............................................ 29,068 14,809 10,629 Common share dividends (12 cents per share)............. (2,123) (2,075) (2,048) -------- -------- -------- Balance at end of year.................................. 96,004 69,059 56,325 -------- -------- -------- ACCUMULATED OTHER COMPREHENSIVE LOSS Balance at beginning of year............................ (29,281) (33,899) (13,385) Unrealized gain on foreign currency, net of tax......... (273) 50 86 Additional minimum pension liability, net of tax........ (13,065) 4,568 (20,600) -------- -------- -------- Balance at end of year.................................. (42,619) (29,281) (33,899) -------- -------- -------- TREASURY SHARES AT COST Balance at beginning of year............................ (1,255) (88) (1,321) (94) (2,461) (182) Shares used for exercise of stock options............... -- -- 87 6 952 69 Shares used for payment of directors' fees.............. 80 5 80 6 78 6 Shares (repurchased from) used for Long-Term Incentive Plan.................................................. (274) (12) (101) (6) 110 13 -------- ------ -------- ------ -------- ------ Balance at end of year.................................. (1,449) (95) (1,255) (88) (1,321) (94) -------- ------ -------- ------ -------- ------ DEFERRED COMPENSATION UNDER LONG-TERM INCENTIVE PLAN Balance at beginning of year............................ (479) (579) (300) Shares used for Long-Term Incentive Plan................ (2,845) (189) (480) Amortization of Long-Term Incentive Plan deferred compensation expense.................................. 916 289 201 -------- -------- -------- Balance at end of year.................................. (2,408) (479) (579) -------- -------- --------
38
YEARS ENDED DECEMBER 31, --------------------------------------------------------- 2004 2003 2002 ----------------- ----------------- ----------------- AMOUNT SHARES AMOUNT SHARES AMOUNT SHARES -------- ------ -------- ------ -------- ------ (IN THOUSANDS) UNEARNED EMPLOYEE STOCK OWNERSHIP PLAN COMPENSATION Balance at beginning of year............................ (17,290) (18,541) (19,792) Employee Stock Ownership Plan Shares committed-to-be- released.............................................. 1,251 1,251 1,251 -------- -------- -------- Balance at end of year.................................. (16,039) (17,290) (18,541) -------- -------- -------- MANAGEMENT GROUP RECEIVABLES Balance at beginning of year............................ (351) (593) (845) Payments received on management loans................... 130 242 252 -------- -------- -------- Balance at end of year.................................. (221) (351) (593) -------- -------- -------- TOTAL SHAREHOLDERS' EQUITY................................ $211,928 $190,332 $168,273 ======== ======== ======== COMPREHENSIVE INCOME (LOSS) Net earnings............................................ $ 29,068 $ 14,809 $ 10,629 Additional minimum pension liability, net of income tax benefit (expense) of $9,079 in 2004, ($3,175) in 2003 and $14,316 in 2002................................... (13,065) 4,568 (20,600) Unrealized gain on foreign currency, net of tax......... (273) 50 86 -------- -------- -------- Comprehensive income (loss)............................. $ 15,730 $ 19,427 $ (9,885) ======== ======== ========
See accompanying Notes to Consolidated Financial Statements. 39 CONSOLIDATED STATEMENTS OF CASH FLOWS EDO CORPORATION AND SUBSIDIARIES
YEARS ENDED DECEMBER 31, ------------------------------ 2004 2003 2002 -------- -------- -------- (IN THOUSANDS) OPERATING ACTIVITIES: Earnings from operations.................................. $ 29,068 $ 13,411 $ 10,629 Adjustments to earnings to arrive at cash provided by operations: Depreciation........................................... 10,476 12,180 10,365 Amortization........................................... 5,564 4,885 956 Deferred tax benefit................................... (660) (6,840) (2,984) Write-off of purchased in-process research and development.......................................... -- -- 150 Bad debt expense....................................... -- 568 407 Loss on sale of Deer Park facility..................... -- 9,160 -- Loss (gain) on sale of property, plant and equipment... 255 (131) 53 Deferred compensation expense.......................... 916 289 201 Non-cash Employee Stock Ownership Plan compensation expense.............................................. 4,330 3,281 4,043 Dividends on unallocated Employee Stock Ownership Plan shares............................................... 272 292 312 Non-cash compensation expense.......................... -- 292 -- Common shares issued for directors' fees............... 140 108 142 Income tax benefit from stock options and Long-Term Incentive Plan....................................... 1,134 328 713 Cumulative effect of a change in accounting principle............................................ -- -- 3,363 Changes in operating assets and liabilities, excluding effects of acquisitions: Accounts receivable.................................. (19,507) (3,203) (2,519) Inventories.......................................... (18,134) 1,406 (2,926) Prepayments and other assets......................... 3,588 4,032 220 Contribution to defined benefit pension plan......... -- (5,000) -- Accounts payable, accrued liabilities and other...... 2,744 (5,402) 5,217 Contract advances and deposits....................... 5,501 (12,082) 3,575 -------- -------- -------- Cash provided by operations................................. 25,687 17,574 31,917 -------- -------- -------- Net cash provided by discontinued operations................ -- 79 -- -------- -------- -------- INVESTING ACTIVITIES: Purchase of plant and equipment........................... (14,206) (8,865) (7,093) Payments received on notes receivable..................... 1,200 1,385 350 Proceeds from sale of property, plant and equipment....... -- 21,304 1 Restricted cash........................................... -- 27,347 (27,347) Cash received (paid) related to acquisitions, net of cash acquired............................................... 301 (94,188) (59,024) -------- -------- -------- Cash used by investing activities........................... (12,705) (53,017) (93,113)
40
YEARS ENDED DECEMBER 31, ------------------------------ 2004 2003 2002 -------- -------- -------- (IN THOUSANDS) -------- -------- -------- FINANCING ACTIVITIES: Issuance of convertible subordinated notes................ -- -- 137,800 Proceeds from exercise of stock options................... 1,535 268 486 Proceeds from management group receivables................ 130 242 252 Repayments of acquired debt............................... -- (8,660) -- Payment made on note payable.............................. -- -- (500) Payment of common share cash dividends.................... (2,395) (2,367) (2,360) -------- -------- -------- Cash (used) provided by financing activities................ (730) (10,517) 135,678 -------- -------- -------- Net increase (decrease) in cash and cash equivalents........ 12,252 (45,881) 74,482 Cash and cash equivalents at beginning of year.............. 86,632 132,513 58,031 -------- -------- -------- CASH AND CASH EQUIVALENTS AT END OF YEAR.................... $ 98,884 $ 86,632 $132,513 ======== ======== ======== Supplemental disclosures: Cash paid for: Interest............................................... $ 7,234 $ 7,234 $ 3,878 ======== ======== ======== Income taxes........................................... $ 16,278 $ 11,880 $ 14,063 ======== ======== ========
See accompanying Notes to Consolidated Financial Statements. 41 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2004, 2003 AND 2002 (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (a) PRINCIPLES OF CONSOLIDATION AND BUSINESS The consolidated financial statements include the accounts of EDO Corporation and all wholly-owned subsidiaries (the "Company"). All significant intercompany accounts and transactions have been eliminated in consolidation. The Company operates in three segments: Defense, Communications and Space Products, and Engineered Materials. (b) CASH EQUIVALENTS The Company considers all securities with an original maturity of three months or less at the date of acquisition to be cash equivalents. Included in cash equivalents is marketable securities that are held in mutual funds. (c) REVENUE RECOGNITION Sales under long-term, fixed-price contracts, including pro-rata profits, are generally recorded based on the relationship of costs incurred to date to total projected final costs or, alternatively, as deliveries and other milestones are achieved or services are provided. These projections are revised throughout the lives of the contracts. Adjustments to profits resulting from such revisions are made cumulative to the date of change and may affect current period earnings. Our gross profit is affected by a variety of factors, including the mix of products, systems and services sold or provided, production efficiencies, price competition and general economic conditions. Estimated losses on long-term contracts are recorded when identified. (d) INVENTORIES Inventories under long-term contracts and programs reflect all accumulated production costs, including factory overhead, initial tooling and other related costs (including general and administrative expenses relating to certain of our defense contracts), less the portion of such costs charged to cost of sales. All other inventories are stated at the lower of cost (principally first-in, first-out method) or market. Inventory costs in excess of amounts recoverable under contracts and which relate to a specific technology or application and which may not have alternative uses are charged to cost of sales when such circumstances are identified. From time to time, we manufacture certain products prior to receiving firm contracts in anticipation of future demand. Such costs are inventoried and are incurred to help maintain stable and efficient production schedules. Several factors may influence the sale and use of our inventories, including our decision to exit a product line, technological change, new product development and/or revised estimates of future product demand. If inventory is determined to be overvalued due to one or more of the above factors, we would be required to recognize such loss in value at the time of such determination. Under the contractual arrangements by which progress payments are received, the United States Government has a title to or a security interest in the inventories identified with related contracts. 42 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (e) LONG-LIVED ASSETS, OTHER THAN GOODWILL AND OTHER INTANGIBLES Property, plant and equipment are recorded at cost and is generally depreciated on a straight-line basis over the estimated useful lives of such assets. Amortization of leasehold improvements is computed using the straight-line method over the shorter of the remaining lease term or the estimated useful lives of the improvements. In those cases where the Company determines that the useful life of property, plant and equipment should be shortened, the Company would depreciate the net book value in excess of salvage value over its revised remaining useful life thereby increasing depreciation expense. Factors such as technological advances, changes to the Company's business model, changes in the Company's capital strategy, changes in the planned use of equipment, fixtures, software or changes in the planned use of facilities could result in shortened useful lives. The Company reviews its long-lived assets for impairment in accordance with Financial Accounting Standards Board ("FASB") Statement of Financial Accounting Standard ("SFAS") No. 144, "Accounting for Impairment or Disposal of Long-Lived Assets". The Company adopted SFAS No. 144 on January 1, 2002. SFAS No. 144 requires the Company to review its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of any such asset may not be recoverable. The estimate of cash flow, which is used to determine recoverability, is based upon, among other things, certain assumptions about future operating performance. The Company's estimates of undiscounted cash flow may differ from actual cash flow due to such factors including technological advances, changes to the Company's business model, or changes in the Company's capital strategy or planned use of long-lived assets. If the sum of the undiscounted cash flows, excluding interest, is less than the carrying value, we would recognize an impairment loss, measured as the amount by which the carrying value exceeds the fair value of the asset. Costs associated with the acquisition and development of software for internal use are recognized in accordance with Statement of Position ("SOP") No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." In 2004 and 2003, the Company capitalized approximately $0.6 million and $4.3 million, respectively, of such costs. These costs are being amortized on a straight-line basis over periods ranging from two to four years. Deferred financing costs are amortized on a straight-line basis over the life of the related financing. The unamortized balances of $2.7 million and $4.1 million are included in other assets at December 31, 2004 and 2003, respectively. (f) BUSINESS COMBINATIONS AND GOODWILL AND OTHER INTANGIBLE ASSETS In June 2001, the FASB issued SFAS Nos. 141, "Business Combinations," and 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. SFAS No. 141 also includes guidance on the initial recognition and measurement of goodwill and other intangible assets arising from business combinations completed after June 30, 2001. SFAS No. 142 prohibits the amortization of goodwill and intangible assets with indefinite useful lives and requires that these assets be reviewed for impairment at least annually. Intangible assets with definite lives will continue to be amortized over their estimated useful lives. SFAS No. 142 was adopted by the Company effective January 1, 2002; however, the provisions that provide for the non-amortization of goodwill were effective July 1, 2001 for acquisitions completed after the issuance of SFAS No. 141. In accordance with SFAS No. 142, goodwill must be tested at least annually for impairment at the reporting unit level. If an indication of impairment exists, we are required to determine if such goodwill's 43 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) implied fair value is less than the carrying value in order to determine the amount, if any, of the impairment loss required to be recorded. Impairment indicators include, among other conditions, cash flow deficits, an historic or anticipated decline in revenue or operating profits, adverse legal or regulatory developments, accumulation of costs significantly in excess of amounts originally expected to acquire the asset and/or a material decrease in the fair value of some or all of the assets. The Company performs the required impairment tests of goodwill as of October 1 each year. There was no indication of impairment at December 31, 2004 and 2003. The changes in the carrying amount of goodwill by segment for the years ended December 31, 2004 and 2003 are as follows:
COMMUNICATIONS AND SPACE ENGINEERED DEFENSE PRODUCTS MATERIALS TOTAL ------- -------------- ---------- ------- (IN THOUSANDS) Balance as of January 1, 2003............ $57,660 $ 3,692 $-- $61,352 Settlement of certain pre-acquisition Condor liabilities..................... 1,569 (2,031) -- (462) Adjustments to pre-acquisition tax liabilities............................ (3,059) -- -- (3,059) Acquisition of AERA...................... 11,626 -- -- 11,626 Acquisition of Darlington................ 13,462 -- -- 13,462 Acquisition of Emblem.................... 9,608 -- -- 9,608 ------- ------- -- ------- Balance as of January 1, 2004............ $90,866 $ 1,661 $-- $92,527 ======= ======= == ======= Adjustment of certain AERA liabilities... 23 -- -- 23 Emblem purchase price adjustment......... (301) -- -- (301) Adjustments to pre-acquisition tax liabilities............................ (598) -- -- (598) ------- ------- -- ------- Balance as of December 31, 2004.......... $89,990 $ 1,661 $-- $91,651 ======= ======= == =======
Summarized below are intangible assets subject to amortization as of December 31:
2004 2003 LIFE -------- ------- ----------- (IN THOUSANDS) Capitalized non-compete agreements related to the acquisitions of DSI/AERA/Darlington/Emblem........ $ 3,118 $ 3,118 1-5 years Purchased technologies related to the acquisitions of Condor/Emblem.................................. 17,003 17,003 8-20 years Customer contracts and relationships related to the acquisitions of AERA/Darlington/Emblem............ 39,198 39,198 10-20 years Tradename related to the acquisitions of AERA/ Darlington/Emblem................................. 1,569 1,569 5-10 years Other intangible assets related to the acquisition of Condor Systems, Inc. .......................... 916 916 2 years -------- ------- 61,804 61,804 Less accumulated amortization....................... (11,448) (5,906) -------- ------- $ 50,356 $55,898 ======== =======
The amortization expense for the years ended December 31, 2004, 2003 and 2002 amounted to $5.5 million, $4.9 million and $0.9 million, respectively. Amortization expense for 2005, 2006, 2007, 2008, 44 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2009 and thereafter related to these intangible assets is estimated to be $5.3 million, $5.3 million, $5.1 million, $4.5 million, $4.4 million and $25.8 million, respectively. (g) INCOME TAXES Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be realized or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (h) TREASURY SHARES Common shares held as treasury shares are recorded at cost, with issuances from treasury recorded at average cost. Treasury shares issued for directors' fees are recorded as an expense for an amount equal to the fair market value of the common shares on the issuance date. (i) FINANCIAL INSTRUMENTS The net carrying value of notes receivable approximates fair value based on current rates for comparable commercial mortgages. The fair value of the Company's 5.25% Convertible Subordinated Notes due 2007 (the "Notes") at December 31, 2004 was approximately $146.8 million based on recent market transactions compared to a carrying value of $137.8 million. At December 31, 2003, the fair value of the Notes was approximately $150.6 million based on recent market transactions compared to a carrying value of $137.8 million. The fair value of the environmental obligation approximates its carrying value since it has been discounted. The fair values of all other financial instruments approximate book values because of the short-term maturities of these instruments. (j) USE OF ESTIMATES Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with accounting principles generally accepted in the United States. Actual results could differ from these and other estimates. (k) STOCK-BASED COMPENSATION The Company accounts for its stock-based compensation plans in accordance with Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations. Under APB No. 25, because the exercise price of the Company's stock options is set equal to the market price of the underlying stock on the date of grant, no compensation expense is recognized. The following table illustrates the effect on net earnings and earnings per share if the Company had applied the fair market value recognition provisions of SFAS No. 123 "Accounting for Stock-Based Compensation" whereby compensation expense would be recognized as incurred for stock-based employee compensation. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The per share weighted-average fair value of stock options granted was $13.06, $10.63 and $15.28 in 2004, 2003 and 2002, respectively, on the dates of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: 2004 -- expected dividend yield of 1%, risk free interest rate of 3.8%, expected volatility of 47%, and an expected option life of 6 years; 2003 -- expected dividend yield of 1%, risk free interest rate of 3.6%, expected volatility of 51%, and an expected option life of 7 1/2 years; 2002 -- expected 45 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) dividend yield of 1%, risk free interest rate of 4.8%, expected stock volatility of 51%, and an expected option life of 7 1/2 years.
2004 2003 2002 ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Earnings: As reported........................................... $29,068 $13,411 $10,629 Deferred compensation expense, net of tax............... 540 171 119 Stock compensation expense based on fair value method, net of tax......................................... (2,079) (1,797) (1,197) ------- ------- ------- Pro forma............................................. $27,529 $11,785 $ 9,551 Basic earnings per common share: As reported........................................... $ 1.64 $ 0.78 $ 0.62 Pro forma............................................. 1.56 0.68 0.56 Diluted earnings per common share: As reported........................................... $ 1.49 $ 0.76 $ 0.61 Pro forma............................................. 1.42 0.67 0.55 ======= ======= =======
As permitted by SFAS 123, we currently account for share-based payments to employees using APB No. 25's intrinsic value method and generally recognize no compensation cost for employee stock options. Accordingly, the adoption of SFAS 123(R)'s fair value method will have a significant impact on our result of operations, although it will have no impact on our overall financial position. The impact of the adoption of SFAS 123(R) cannot be predicted at this time because it will depend on levels of share-based payments granted in the future. However, had we adopted Statement 123(R) in prior periods, the impact of that standard would have approximated the impact of SFAS 123 as described in the disclosure of pro forma net income and earnings per share. SFAS 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required under current literature. (l) RECLASSIFICATIONS Certain reclassifications have been made to prior year presentations to conform to current year presentations. (2) ACQUISITIONS On June 16, 2003, the Company acquired for cash all of the stock of Emblem Group Ltd. ("Emblem"), a privately-held company based in Brighton, England. Emblem, now known as EDO (UK) Ltd., is a supplier of aerospace and defense products and services, primarily through its MBM Technology Ltd. unit in England, now known as EDO MBM Technology Ltd., and Artisan Technologies, Inc. subsidiary in the United States, now known as EDO Artisan. Emblem has a core competency in aircraft weapons-carriage and interfacing systems that reinforces EDO's position as a global leader in aircraft armament release systems. Emblem is expected to broaden the Company's customer base in Europe. The purchase price was L16.1 million ($27.0 million), excluding transaction costs of approximately $1.9 million. In the second quarter of 2004 we received $0.3 million from an escrow account resulting in a decrease in purchase price and, therefore, goodwill. Emblem became part of the Company's Defense segment. The excess of the purchase price over the net assets acquired recorded as goodwill and other intangibles related to Emblem's units located in England is deductible 46 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) for U.S. income tax purposes over 15 years. The excess of the purchase price over the net assets acquired related to Artisan Technologies, Inc. is not deductible for income tax purposes. On March 10, 2003, the Company acquired for cash all of the stock of Darlington, Inc. ("Darlington"), a privately-held defense communications company based in Alexandria,Virginia. Darlington designs, manufactures and supports military communications equipment and information networking systems. The acquisition has enhanced the Company's existing positions on long-range platforms and programs across the U.S. military services and in particular the U.S. Marine Corps. The purchase price was $25.6 million, excluding transaction costs of approximately $0.3 million. In addition, the Company acquired and immediately paid off debt of $4.9 million. Darlington became part of the Company's Defense segment. The excess of the purchase price over the net assets acquired recorded as goodwill and other intangible assets is deductible for income tax purposes over 15 years. On February 5, 2003, a wholly-owned subsidiary of the Company acquired for cash all of the stock of Advanced Engineering & Research Associates, Inc.("AERA"), a privately-held company located in Alexandria, Virginia. AERA, which was merged with another EDO subsidiary and renamed EDO Professional Services Inc., provides professional and information technology services primarily to the Department of Defense and other government agencies. The acquisition expanded the range of such services that the Company offers. The purchase price was $38.1 million, excluding transaction costs of $0.3 million. In addition, the Company acquired and immediately paid off debt of $3.8 million. AERA became part of the Company's Defense segment. The excess of the purchase price over the net assets acquired recorded as goodwill and other intangible assets is deductible for income tax purposes over 15 years. On July 26, 2002, a wholly-owned subsidiary of the Company acquired substantially all of the assets and assumed certain liabilities of Condor Systems, Inc., a privately-held defense electronics company and its domestic subsidiary (together, "Condor") for $62.5 million in cash, in addition to transaction costs of $5.0 million. The acquisition expanded the Company's electronic warfare business in the areas of reconnaissance and surveillance systems. The assets became part of the Company's Defense and Communications and Space Products segments. The excess of the purchase price over the net assets acquired recorded as goodwill, IPR&D and other intangible assets is deductible for income tax purposes over 15 years. Associated with the acquisition and included in operating earnings for 2003 and 2002 is $0.9 million and $0.6 million, respectively, of acquisition-related costs, of which $0.2 million in 2002 represents the write-off of purchased in-process research and development ("IPR&D"). This IPR&D was determined to not have reached technological feasibility and to not have alternative future use. The development project related to detecting and locating weak modulated continuous wave signals. These acquisitions were accounted for as purchases and, accordingly, their operating results are included in the Company's consolidated financial statements since their respective acquisition dates. 47 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table summarizes the allocation of the purchase price to the assets acquired and liabilities assumed at the date of acquisition.
EMBLEM DARLINGTON AERA AT AT JUNE 16, AT MARCH 10, FEBRUARY 5, 2003 2003 2003 ----------- ------------ -------------- (IN THOUSANDS) Current assets.................................. $ 9,314 $11,943 $13,022 Plant and equipment............................. 3,537 1,534 1,048 Customer contracts and relationships............ 7,698 14,400 17,100 Purchased technologies.......................... 5,355 -- -- Non-compete agreements.......................... 318 30 2,420 Tradename....................................... 669 400 500 Goodwill........................................ 8,710 13,462 11,649 Other assets.................................... -- 446 414 Liabilities..................................... (6,660) (16,326) (7,791) ------- ------- ------- Total purchase price............................ $28,941 $25,889 $38,362 ======= ======= =======
Adjustments resulting from the settlement of purchase prices on AERA, Darlington and Emblem have been made. Unaudited pro forma results of operations, assuming the acquisitions of Emblem, Darlington, AERA and Condor had been completed at the beginning of each period are summarized below. The results reflect adjustments to net sales, cost of sales, amortization expense, compensation expense, purchased in-process research and development costs, interest income and expense and income tax expense. The interest rate used in determining pro forma adjustments to interest income or expense was based on the average yield of the Company's invested cash and cash equivalents and approximated 1.0% for each of the respective periods presented below.
YEAR ENDED ----------------------------------------- DECEMBER 31, 2003 DECEMBER 31, 2002 ------------------- ------------------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Net sales........................................... $489,531 $494,332 Earnings available for common shares, before discontinued operations and cumulative effect of a change in accounting principle.................... $ 15,995 $ 15,456 Diluted earnings per common share................... $ 0.91 $ 0.89
The pro forma results of operations are not necessarily indicative of the actual results of operations that would have occurred had these acquisitions been completed at the beginning of the periods, or of the results which may occur in the future. (3) DISCONTINUED OPERATIONS In 2003, we received notification of final settlement of bankruptcy matters pertaining to our former energy business. Upon the discontinuance of such business in 1996, a liability was established pending final settlement of the bankruptcy. This liability was reversed in the second quarter of 2003. Consequently, $1.4 million, net of income tax expense of $1.0 million, was reported as earnings from discontinued operations in the accompanying statement of earnings. 48 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (4) ACCOUNTS AND NOTES RECEIVABLE Accounts receivable included $51.8 million and $44.1 million at December 31, 2004 and 2003, respectively, of unbilled revenues. Substantially all of the unbilled balances at December 31, 2004 will be billed and are expected to be collected during 2005. Total billed receivables due from the United States Government, either directly or as a subcontractor to a prime contractor with the Government, were $70.9 million and $67.6 million at December 31, 2004 and 2003 respectively. Notes receivable consist of the following at December 31, 2004 and December 2003:
2004 2003 ------ ------ (IN THOUSANDS) Current: College Point............................................. $ 400 $1,600 Deer Park................................................. 6,802 -- Long-term: Deer Park................................................. -- 6,538 ------ ------ Total....................................................... $7,202 $8,138 ====== ======
The original notes from the sale of the College Point facility in January 1996 were to be paid in full by December 31, 2004. However, one note was collected in full in 2004 and the other note was amended and extended to December 31, 2005. The latter note is due in equal quarterly amounts through September 2005 with a final payment of $0.1 million due on December 31, 2005 and bears interest at 7% per annum. It is secured by a mortgage on the facility. Also included in notes receivable is the note related to the sale of the Company's Deer Park facility in July 2003. The note is due no later than October 9, 2005. The note accrues imputed interest at 4% per annum and will be paid with the note. (5) INVENTORIES Inventories are summarized by major classification as follows at December 31:
2004 2003 ------- -------- (IN THOUSANDS) Raw material and supplies................................... $10,461 $ 8,624 Work-in-process............................................. 44,752 38,052 Finished goods.............................................. 2,043 1,870 Less: Unliquidated progress payments...................... (4,389) (13,813) ------- -------- Total....................................................... $52,867 $ 34,733 ======= ========
49 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (6) PROPERTY, PLANT AND EQUIPMENT, NET The Company's property, plant and equipment at December 31 and their related useful lives are summarized as follows:
2004 2003 LIFE -------- -------- ----------- (IN THOUSANDS) Land.............................................. $ 125 $ 125 Buildings and improvements........................ 1,017 1,017 10-30 years Machinery and equipment........................... 73,466 66,891 3-19 years Software.......................................... 7,190 6,347 2-4 years Leasehold improvements............................ 16,816 16,039 Lease terms -------- -------- 98,614 90,419 Less accumulated depreciation and amortization.... (63,784) (59,064) -------- -------- $ 34,830 $ 31,355 ======== ========
On June 24, 2003, the Board of Directors of the Company approved the decision to sell the Company's 726,000 square foot facility in Deer Park, NY. The Company recorded a pre-tax impairment loss of $9.2 million in the second quarter of 2003, as the net book value of the assets exceeded the fair value less the costs to sell. The fair value was based on a $29.0 million sales price per the sales agreement entered into in July 2003. This impairment charge represents the entire loss the Company expects to incur. Of the $29.0 million sales price, $22.0 million is in cash and $7.0 million is in the form of a purchase money mortgage and note. The Company closed on the sale in October 2003 and received the cash less closing payments. The note receivable is due no later than October 9, 2005. As part of the agreement, we will lease the facility through October 10, 2005, with the option to terminate before such date. The lease agreement does not have any renewal or buyout options. (7) ACCRUED LIABILITIES Accrued liabilities consisted of the following at December 31:
2004 2003 ------- ------- (IN THOUSANDS) Employee compensation and benefits.......................... $20,066 $22,453 Deferred revenue and accrual for future costs related to acquired contracts........................................ 8,857 11,161 Income taxes payable........................................ 2,950 10,438 Accrued interest............................................ 1,579 1,673 Warranty.................................................... 1,354 1,612 Current portion of environmental obligation................. 280 264 Other....................................................... 13,406 12,146 ------- ------- $48,492 $59,747 ======= =======
(8) LONG-TERM DEBT AND CREDIT FACILITY CREDIT FACILITY At December 31, 2004, the Company has a $200 million credit facility with a consortium of banks, led by Citibank, N.A. as the administrative agent, Fleet National Bank as the syndication agent and Wachovia Bank, N.A. as the documentation agent. The facility expires in November 2005. In connection with the amended 50 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) facility, $0.4 million and $0.9 million of deferred finance costs are included in other assets on the accompanying consolidated balance sheet at December 31, 2004 and 2003, respectively, and are being amortized using the straight-line method over the term of the agreement. The credit facility provides sub-limits of borrowing up to $125.0 million for acquisition-related financing and up to $125.0 million in standby letters of credit financing. The potential cash borrowing under the facility is reduced by the amount of outstanding letters of credit. Any borrowings under the facility would be priced initially at LIBOR plus a predetermined amount, ranging from 1.25% to 1.75%, depending on the Company's consolidated leverage ratio at the time of the borrowing. At December 31, 2004, LIBOR was approximately 2.55% and the applicable adjustment to LIBOR was 1.25%. The facility requires the Company to pay each lender in the consortium a commitment fee on the average daily unused portion of their respective commitment at a rate equal to 0.25%. There were no direct borrowings outstanding under the credit facility at December 31, 2004 or 2003. Letters of credit outstanding at December 31, 2004 pertaining to the credit facility were $39.8 million, resulting in $85.2 million available for additional letters of credit, if needed. In connection with the credit facility, the Company is required to maintain both financial and non-financial covenants and ratios, including, but not limited to, minimum tangible net worth plus subordinated debt, leverage ratio, fixed charge coverage ratio, earnings before interest and taxes to interest expense ratio, total unsubordinated debt to tangible net worth, net income and dividends. Also, the Company cannot declare or pay any dividend on its outstanding common stock in an amount that exceeds fifty percent of its consolidated net income for the immediately preceding quarter. As of December 31, 2004, the Company was in compliance with its covenants. The credit facility is secured by the Company's accounts receivables, inventory and machinery and equipment. 5.25% CONVERTIBLE SUBORDINATED NOTES DUE 2007 In April 2002, the Company completed its offering of $137.8 million of 5.25% Convertible Subordinated Notes due 2007 and received $133.7 million, net of commissions paid. Interest payments on the Notes are due April 15 and October 15 of each year, commencing on October 15, 2002. Accrued interest payable, included in accrued liabilities on the accompanying consolidated balance sheet, was $1.5 million at December 31, 2004 and 2003. In connection with the offering of the Notes, there are $2.1 million and $3.1 million of unamortized debt issuance costs at December 31, 2004 and 2003, respectively, which are included in other assets on the accompanying consolidated balance sheet and are being amortized using the straight-line method through April 2007. The Notes are convertible, unless previously redeemed or repurchased by the Company, at the option of the holder at any time prior to maturity, into the Company's common stock at an initial conversion price of $31.26 per share, subject to adjustment in certain events. As of December 31, 2004, there had been no such conversions. (9) EMPLOYEE STOCK OWNERSHIP PLAN AND TRUST The Company sponsors an employee stock ownership plan (ESOP) which provides retirement benefits to substantially all employees. The ESOP has an indirect loan from the Company payable through December 31, 2017. As quarterly payments are made under the indirect loan, unallocated common shares in the ESOP are committed-to-be-released. The allocation to participants is based on (i) a match of 50% of the first 6% of the participants' 401(k) contributions; (ii) a special allocation for employees who meet certain service requirements; (iii) a 51 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) fixed amount per participant chosen annually; and (iv) any remaining distribution is based on participants' relative compensation. The cost basis of the unearned/unallocated shares is initially recorded as a reduction to shareholders' equity. Compensation expense is recorded based on the market value of the Company's common shares as they are committed-to-be-released. The difference between the market value and the cost basis of the shares is recorded as additional paid-in capital. Dividends on unallocated shares are recorded as compensation expense. In 2004, 2003 and 2002, non-cash ESOP compensation expense recorded by the Company amounted to $4.3 million, $3.3 million, and $4.0 million, respectively. At December 31, 2004, there are 2,161,180 unearned/unallocated shares which have an aggregate market value of $68.6 million and 1,756,996 allocated shares. Total principal and interest payments made in 2004, 2003, and 2002 under the merged ESOP indirect loan amounted to $1.7 million in each of the three years. (10) INCOME TAXES The 2004, 2003 and 2002 significant components of the provision for income taxes attributable to continuing operations are as follows:
2004 2003 2002 ------- ------- ------- (IN THOUSANDS) Federal Current............................................... $13,375 $12,927 $10,659 Deferred.............................................. (533) (5,900) (2,503) ------- ------- ------- $12,842 $ 7,027 $ 8,156 ------- ------- ------- Foreign Current............................................... $ (25) $ 207 $ -- Deferred.............................................. 77 82 -- ------- ------- ------- $ 52 $ 289 $ -- ------- ------- ------- State Current............................................... $ 2,876 $ 3,350 $ 2,667 Deferred.............................................. (204) (1,022) (481) ------- ------- ------- $ 2,672 $ 2,328 $ 2,186 ------- ------- ------- Total................................................... $15,566 $ 9,644 $10,342 ======= ======= =======
The reconciliation of income tax attributable to continuing operations computed at the U.S. Federal tax rate to income tax expense is:
PERCENT OF PRE-TAX EARNINGS ------------------ 2004 2003 2002 ---- ---- ---- Tax at statutory rate....................................... 35.0% 35.0% 35.0% State taxes, net of Federal benefit......................... 4.7 5.0 5.0 Reserve adjustment.......................................... (6.2) -- -- Non-cash ESOP compensation expense.......................... 1.9 2.0 3.0 Foreign sales benefit....................................... (1.1) (1.3) (1.4) Other, net.................................................. 0.6 1.1 0.9 ---- ---- ---- Effective income tax rate................................... 34.9% 41.8% 42.5% ==== ==== ====
52 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The significant components of deferred tax assets and liabilities as of December 31 are as follows:
2004 2003 ------- ------- (IN THOUSANDS) DEFERRED TAX ASSETS Retirement plans' additional minimum liability.............. $29,521 $20,442 Post-retirement benefits obligation other than pensions..... 5,507 5,233 Deferred revenue............................................ 1,185 1,697 Non-qualified plans......................................... 4,145 3,614 Inventory valuation......................................... 1,597 1,897 Vacation accrual............................................ 1,643 886 Other....................................................... 1,699 967 ------- ------- Total deferred tax assets................................... 45,297 34,736 ------- ------- DEFERRED TAX LIABILITIES Depreciation and amortization............................... 4,754 4,306 Prepaid pension asset....................................... 4,823 3,613 Other....................................................... 433 1,449 ------- ------- Total deferred tax liabilities.............................. 10,010 9,368 ------- ------- Net deferred tax asset...................................... $35,287 $25,368 ======= =======
The Company is subject to ongoing tax examinations in various jurisdictions, which may result in challenges to tax positions taken and, accordingly, the Company may record adjustments to provisions based on the probable outcomes of such matters. However, the Company believes that the resolution of these matters will not have a material effect on its financial position, results of operations or cash flows. In 2004, the Company recorded an income tax benefit of $2.8 million due to the reversal of income tax contingencies which were determined to be no longer needed during the fourth quarter of 2004. (11) SHAREHOLDERS' EQUITY At various times beginning in 1983, the Board of Directors has authorized and subsequently increased by amendments, a plan to purchase an aggregate amount of 4,190,000 common shares. As of December 31, 2004, the Company had acquired approximately 4,091,000 common shares in open market transactions at prevailing market prices. Approximately 4,046,000 of these shares have been used for various purposes, including: conversion of preferred shares; contributions of common shares to the EDO ESOP; grants pursuant to the Company's Long-Term Incentive Plans; payment of directors' fees; partial payment of a 50% stock dividend; and stock options exercised. As of December 31, 2004 and 2003, respectively, the Company held 94,585 and 88,128 common shares in its treasury for future use. At December 31, 2004, the Company had reserved 6,083,511 authorized and unissued common shares for stock option and long-term incentive plans and conversion of the Notes. 53 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (12) EARNINGS PER SHARE The following table sets forth the computation of basic and diluted earnings per share:
2004 2003 2002 ------- ------- ------- (IN THOUSANDS) Numerator: Earnings from continuing operations for basic calculation........................................ $29,068 $13,411 $10,629 Effect of dilutive securities: Convertible notes.................................. 4,268 -- -- ------- ------- ------- Numerator for diluted calculation..................... $33,336 $13,411 $10,629 ======= ======= ======= Denominator: Denominator for basic calculation..................... 17,695 17,308 17,080 Effect of dilutive securities: Stock options...................................... 274 253 299 Convertible notes.................................. 4,408 -- -- ------- ------- ------- Denominator for diluted calculation................... 22,377 17,561 17,379 ======= ======= =======
The assumed conversion of the Notes was dilutive for 2004 and anti-dilutive for 2003 and 2002. The following table summarizes, for each year presented, the number of shares excluded from the computation of diluted earnings per share, as their effect upon potential issuance was anti-dilutive.
FOR THE YEARS ENDED DECEMBER 31, -------------------- 2004 2003 2002 ---- ----- ----- (IN THOUSANDS) 5.25% Convertible Subordinated Notes........................ -- 4,408 3,285 Unexercised Stock Options................................... 2 311 326 -- ----- ----- 2 4,719 3,611 == ===== =====
(13) STOCK PLANS The Company has granted nonqualified stock options to officers, directors and other key employees under plans approved by the shareholders in 2002 for the purchase of its common shares at the fair market value of the common shares on the dates of grant. Options under the 2002 Long-Term Incentive Plan ("LTIP") generally become exercisable on the third anniversary of the date of the grant and expire on the tenth anniversary of the date of the grant. The 2002 LTIP will expire in 2012. Options under the 2002 Non-Employee Director Stock Option Plan ("NEDSOP"), which pertains only to non-employee directors, are immediately exercisable and expire on the tenth anniversary of the date of the grant. The 2002 NEDSOP will also expire in 2012. 54 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Changes in options outstanding are as follows:
2004 2003 2002 ---------------------- ---------------------- ---------------------- WEIGHTED- WEIGHTED- WEIGHTED- AVERAGE SHARES AVERAGE SHARES AVERAGE SHARES EXERCISE SUBJECT TO EXERCISE SUBJECT TO EXERCISE SUBJECT TO PRICE OPTION PRICE OPTION PRICE OPTION --------- ---------- --------- ---------- --------- ---------- Beginning of year.... $14.65 1,206,096 $13.59 1,057,143 $ 7.75 805,876 Options granted...... 24.37 65,000 19.00 224,405 26.72 327,850 Options exercised.... 9.35 (164,135) 6.66 (37,327) 6.98 (69,433) Options expired/ cancelled.......... 23.05 (23,150) 18.53 (38,125) 22.02 (7,150) ------ --------- ------ --------- ------ --------- End of year.......... $15.86 1,083,811 $14.65 1,206,096 $13.59 1,057,143 ====== ========= ====== ========= ====== ========= Exercisable at year end................ $12.33 732,956 $11.26 602,916 $10.70 490,243 ====== ========= ====== ========= ====== =========
The options outstanding as of December 31, 2004 are summarized as follows:
WEIGHTED- NUMBER OF WEIGHTED- RANGE OF AVERAGE OPTIONS AVERAGE EXERCISE PRICES EXERCISE PRICE OUTSTANDING REMAINING LIFE --------------- -------------- ----------- -------------- $3.07-5.44..................................... 4.31 16,500 1 year $6.13-9.60..................................... 7.83 512,456 5 years $17.86-25.01................................... 20.44 289,430 8 years $27.02-31.40................................... 27.09 265,425 7 years --------- 1,083,811 =========
The 2002 LTIP also provides for restricted common share long-term incentive awards as defined under the plan. As of December 31, 2004 plan participants had been awarded 521,000 restricted common shares. Deferred compensation is recorded for the fair value of the restricted common share awards on the date of grant and is amortized over the five-year period the related services are provided. The fair value of a restricted common share award is calculated as the average of the high and low market values of our common shares on the grant date, as reported for such date on a national exchange or nationally recognized system of price quotation. In the event that there are no transactions reported on such exchange or system on such date, the average would be based on the high and low market values of our common shares on the immediately preceding date. The amount charged to operations in 2004, 2003 and 2002 was $0.9 million, $0.3 million and $0.2 million, respectively. The increase in the expense for 2004 compared to prior years is due to an increase in the amount of shares granted in 2004 as well as the higher fair value on the date of grant. As of December 31, 2004, 591,511 shares are available for additional awards. (14) OTHER EMPLOYEE BENEFIT PLANS DEFINED BENEFIT PLANS The Company maintains a qualified noncontributory defined benefit pension plan covering less than one half of its employees. In November 2002, the plan was amended whereby participation and benefits accrued under the plan were frozen as of December 31, 2002. The Company's funding policy is to make annual contributions to the extent such contributions are at least equal to the minimum required contribution and are tax deductible. 55 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) In 2004, 2003 and 2002 the Company recorded pension expense of $2.2 million, $3.9 million and $6.0 million, respectively. For 2002, the expense included a curtailment loss of $2.0 million resulting from the aforementioned amendment to the plan. A summary of the weighted-average rate assumptions as of December 31 used in pension calculations follows. (Since the Company froze the defined benefit plan in December 2002 there is no future compensation increase for subsequent years.)
2004 2003 2002 ---- ---- ---- Discount Rate (for obligations as of December 31)........... 5.75% 6.25% 6.75% Expected long-term return on plan assets.................... 8.25% 8.75% 9.50% Rate of compensation increase............................... -- -- 4.95%
In 2004, 2003 and 2002, the Company used the building block approach to the estimation of the long-term rate of return on assets. Under this approach, the Company reviewed the publicly available common source data for the range of returns on basic types of equity and fixed income instruments and the differential to those rates provided by active investment management. In consultation with the Company's actuarial and active asset management consultants and taking into account the funds' actual performance and expected asset allocation going forward, the Company selected an overall return rate within the resulting range. Plan asset investment decisions are made by the Pension Investment Committee of the Board of Directors. This committee utilizes the services of a financial advisor in the selection and monitoring of specific asset managers. At its periodic meetings the committee reviews the performance of various funds against benchmarks and makes investment decisions which are then carried out by the fund trustee. The target asset allocation is 70% equity instruments and 30% fixed income instruments. The assets are invested in a variety of both actively managed and passive funds chosen by the committee. Furthermore, equity investments are diversified across U.S. and non-U.S. stocks, as well as growth, value, and small and large capitalizations. Our plan investments are diversified to mitigate any adverse results from one security class on the entire investment portfolio. A small amount of excess return is expected from active investment management. PLAN ASSETS The assets of the Company's defined benefit plans are managed on a commingled basis in a third party master trust. The investment policy and allocation of the assets in the master trust were approved by the Company's Pension Plans Investment Committee of the Board of Directors, which has oversight responsibility for the Company's retirement plans. 56 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The investment allocation for each major asset class as a percent of plan asset fair value as of December 31 is as follows:
2004 2003 2002 ----- ----- ----- Equity Securities........................................... 73.7% 69.7% 65.0% Debt Securities............................................. 25.7% 29.7% 34.4% Cash........................................................ 0.6% 0.6% 0.6% ----- ----- ----- Total....................................................... 100.0% 100.0% 100.0% ===== ===== =====
In 2004, the Company made no contribution to the plan compared to a contribution of $5.0 million in 2003. The Company plans to contribute up to $6.0 million in 2005. A summary of the components of net periodic pension expense follows:
2004 2003 2002 -------- -------- -------- (IN THOUSANDS) Service cost......................................... $ -- $ -- $ (4,353) Interest on projected benefit obligation............. (12,151) (12,727) (15,091) Expected return on plan assets....................... 12,705 12,250 17,217 Amortization of prior service cost................... -- -- (261) Recognized net actuarial loss........................ (2,737) (3,454) (1,476) Curtailment loss..................................... -- -- (1,998) -------- -------- -------- Net pension expense.................................. $ (2,183) $ (3,931) $ (5,962) ======== ======== ========
The following sets forth the funded status of the plan as of December 31:
2004 2003 -------- -------- (IN THOUSANDS) Change in projected benefit obligation: Projected benefit obligation at beginning of year........... $204,439 $197,188 Service cost................................................ -- -- Interest cost............................................... 12,151 12,727 Benefits paid............................................... (18,959) (20,058) Actuarial loss.............................................. 24,314 14,582 -------- -------- Projected benefit obligation at end of year................. $221,945 $204,439 -------- -------- Change in plan assets: Fair value of plan assets at beginning of year.............. $164,024 $148,635 Actual return on plan assets................................ 16,229 30,447 Employer contribution....................................... -- 5,000 Benefits paid............................................... (18,959) (20,058) -------- -------- Fair value of plan assets at end of year.................... $161,294 $164,024 -------- -------- Funded status............................................... $(60,651) $(40,415) Unrecognized net loss....................................... 66,415 48,362 -------- -------- Prepaid pension cost........................................ $ 5,764 $ 7,947 ======== ========
57 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Due to the lower discount rate, offset by positive fund performance, the accumulated benefit obligation at December 31, 2004 and 2003 exceeded the fair value of plan assets by $60.7 million and $40.4 million, respectively. The Company recorded an additional minimum liability of $66.4 million and $48.4 million as of December 31, 2004 and 2003, respectively. Consequently, net of tax comprehensive loss of $10.7 and income of $4.2 million were charged against shareholders' equity in 2004 and 2003, respectively. Amounts recognized in the consolidated balance sheets at December 31 are as follows:
2004 2003 -------- -------- (IN THOUSANDS) Prepaid pension cost (included in other assets)............. $ 5,764 $ 7,947 ======== ======== Additional minimum liability (included in post-retirement benefits obligations)..................................... $(66,415) $(48,362) ======== ======== Accumulated other comprehensive loss (included in shareholders' equity)..................................... $ 66,415 $ 48,362 ======== ========
ESTIMATED FUTURE BENEFIT PAYMENTS The following table presents estimated future benefit payments:
(IN THOUSANDS) 2005........................................................ $14,173 2006........................................................ $14,549 2007........................................................ $14,803 2008........................................................ $14,997 2009........................................................ $15,199 2010-2014................................................... $77,412
NON-QUALIFIED PLANS The Company has a supplemental retirement plan for officers and certain employees. Benefits are based on years of service and certain compensation that is excluded under the qualified plan. In November 2003 the plan was amended whereby benefits under the plan were frozen for all but two individuals as of December 31, 2003. Consequently, a curtailment charge of $0.9 million was recorded in 2003. The plan is unfunded and has no assets. A summary of the weighted-average assumptions as of December 31 used in pension calculations follows:
2004 2003 2002 ---- ---- ---- Discount Rate (for obligations as of December 31)........... 5.75% 6.25% 6.75% Rate of compensation increase............................... 5.00% 5.00% 4.95%
Total expenses under the non-qualified plans in 2004, 2003 and 2002 were $1.2 million, $2.6 million and $1.4 million, respectively. The 2003 expense included the aforementioned $0.9 million curtailment charge. 58 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) A summary of the components of net periodic pension expense follows:
2004 2003 2002 ------ ------ ------ (IN THOUSANDS) Service cost............................................... $ 220 $ 372 $ 190 Interest on projected benefit obligation................... 700 802 815 Amortization of transitional liability..................... 3 3 32 Amortization of prior service cost......................... 63 184 141 Recognized net actuarial loss.............................. 171 273 225 Effect of curtailment...................................... -- 942 -- ------ ------ ------ Net pension expense........................................ $1,157 $2,576 $1,403 ====== ====== ======
Summarized below is the funded status of the combined supplemental plans as of December 31:
2004 2003 -------- -------- (IN THOUSANDS) Change in projected benefit obligation: Projected benefit obligation at beginning of year........... $ 11,641 $ 13,047 Service cost................................................ 219 372 Interest cost............................................... 700 802 Benefits paid............................................... (892) (987) Actuarial loss.............................................. 5,915 158 Plan amendments............................................. -- -- Effect of curtailment....................................... -- (1,752) -------- -------- Projected benefit obligation at end of year................. $ 17,583 $ 11,640 -------- -------- Change in plan assets: Fair value of plan assets at beginning of the year.......... $ -- $ -- Employer contribution....................................... 892 987 Benefits paid............................................... (892) (987) -------- -------- Fair value of plan assets at end of year.................... $ -- $ -- -------- -------- Funded status............................................... $(17,583) $(11,640) Unrecognized net loss....................................... 8,081 2,338 Unrecognized prior service cost............................. 496 558 Unrecognized net obligation................................. 4 7 -------- -------- Accrued benefit cost........................................ $ (9,002) $ (8,737) ======== ========
The accumulated benefit obligation at December 31, 2004 and 2003 exceeded the fair value of plan assets by $15.1 million and $10.8 million, respectively. The Company recorded an additional minimum liability of $6.1 million and $2.1 million as of December 31, 2004 and 2003, respectively. Consequently, a net of tax comprehensive loss of $2.4 million and income of $0.4 million were charged against shareholders' equity in 59 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2004 and 2003, respectively. Amounts recognized in the consolidated balance sheets at December 31 are as follows:
2004 2003 ------- ------- (IN THOUSANDS) Accrued benefit cost (included in post-retirement benefits obligation)............................................... $(9,002) $(8,737) ======= ======= Intangible asset (included in other assets)................. $ 500 $ 565 ======= ======= Additional minimum liability (included in post-retirement benefits obligations)..................................... $(6,088) $(2,062) ======= ======= Accumulated other comprehensive loss (included in shareholders' equity)..................................... $ 5,588 $ 1,497 ======= =======
ESTIMATED FUTURE PENSION BENEFIT PAYMENTS The following table presents estimated future benefit payments:
(IN THOUSANDS) 2005........................................................ $ 989 2006........................................................ $ 981 2007........................................................ $1,465 2008........................................................ $1,463 2009........................................................ $1,447 2010-2014................................................... $6,886
401(K) PLANS The Company sponsors a 401(k) plan covering substantially all employees which provides for a match by the Company of 50% of the first 6% of employee contributions. The match is provided in the Company's common stock under the ESOP plan. (15) POST-RETIREMENT HEALTH CARE AND LIFE INSURANCE BENEFITS The Company provides certain health care and life insurance benefits to qualified retired employees and dependents at certain locations. These benefits are funded as benefits are provided, with the retiree paying a portion of the cost through contributions, deductibles and coinsurance provisions. The Company has always retained the right to modify or terminate the plans providing these benefits. In accordance with SFAS No. 106, "Employers' Accounting for Post-Retirement Benefits Other Than Pensions," the Company recognizes these benefit expenses on an accrual basis as the employees earn them during their employment rather than when they are actually paid. EDO POST-RETIREMENT BENEFIT PLAN Post-retirement health care and life insurance expense included the following components:
2004 2003 2002 ---- ---- ---- (IN THOUSANDS) Interest cost............................................... $143 $126 $171 Recognized actuarial loss................................... 53 -- -- ---- ---- ---- Total post-retirement health care and life insurance expense................................................... $196 $126 $171 ==== ==== ====
60 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The funded status of the EDO post-retirement health care and life insurance benefits plan is as follows as of December 31:
2004 2003 ------ ------ (IN THOUSANDS) Change in accumulated post-retirement benefit obligation: Accumulated benefit obligation at beginning of year....... $2,441 $2,113 Interest cost............................................. 143 126 Benefits paid............................................. (353) (432) Participant contributions................................. 29 27 Actuarial loss............................................ 62 608 ------ ------ Unfunded accumulated post-retirement benefit obligation at end of year............................................... $2,322 $2,442 Unrecognized net loss....................................... (578) (569) ------ ------ Accrued post-retirement benefit cost........................ $1,744 $1,873 ====== ======
Actuarial assumptions used in determining the accumulated post-retirement benefit obligation include a discount rate of 5.75% and 6.25% at December 31, 2004 and 2003, respectively, and estimated increases in health care costs. The Company has limited its increase in health care costs to 5% per year by requiring the retirees to absorb any costs in excess of 5% and has used such rate to measure its obligation. The effects of a one percentage point change in the assumed health care cost trend rates would have had the following effects increase/(decrease) in cost and/or obligation on the results for fiscal year 2004:
1% POINT 1% POINT INCREASE DECREASE -------- -------- (IN THOUSANDS) Benefit obligation at end of year........................... $15.0 $(14.0) Interest cost............................................... 0.9 (0.9)
The above 1% increase/decrease trend is based primarily on the change in dental trend rates, since medical plan benefits are capped. AIL POST-RETIREMENT BENEFIT PLAN Post-retirement expense included in the consolidated financial statements comprised the following:
2004 2003 2002 ------ ------ ----- (IN THOUSANDS) Service cost................................................ $ 452 $ 453 $ 313 Interest cost............................................... 741 765 431 Recognized net actuarial loss (gain)........................ 12 40 (269) ------ ------ ----- Total post-retirement expense............................... $1,205 $1,258 $ 475 ====== ====== =====
61 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The funded status of the AIL post-retirement benefit plan is as follows as of December 31:
2004 2003 ------- ------- (IN THOUSANDS) Change in accumulated post-retirement benefit obligation: Accumulated benefit obligation.............................. $12,258 $11,771 Service cost................................................ 452 453 Interest cost............................................... 741 765 Benefits paid............................................... (381) (441) Actuarial (gain) loss....................................... (4,857) (291) ------- ------- Unfunded accumulated post-retirement benefit obligation at end of year............................................... $ 8,213 $12,257 Unrecognized gain/(loss).................................... 3,474 (1,394) ------- ------- Accrued post-retirement benefit cost........................ $11,687 $10,863 ======= =======
Actuarial assumptions used in determining the accumulated post-retirement benefit obligation include a discount rate of 5.75% and 6.25% at December 31, 2004 and 2003, respectively. The accumulated benefit obligation would not be affected by increases in healthcare costs for retirees since such costs are funded by the participants. Healthcare trend costs will only affect the amounts related to disabled participants. The effects of a one percentage point change in the assumed health care cost trend rates would have had the following effects increase/(decrease) in cost and/or obligation on the results for fiscal year 2004:
1% POINT 1% POINT INCREASE DECREASE -------- -------- (IN THOUSANDS) Benefit obligation at end of year........................... $380 $(352) Interest cost............................................... 0.4 (0.4)
(16) COMMITMENTS AND CONTINGENCIES In order to aggregate all commitments and contractual obligations as of December 31, 2004, the following table is included. The Company is obligated under building and equipment leases expiring between 2005 and 2017. The aggregate future minimum lease commitments under those obligations with noncancellable terms in excess of one year are shown below. The Company's commitments under letters of credit and advance payment and performance bonds relate primarily to advances received on foreign contracts which would be paid only if the Company failed to perform in accordance with the contract terms. The Company does not expect to have to make payments under these letters of credits or bonds since these obligations are removed as 62 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) we perform under the related contracts. The amounts for letters of credit and performance bonds represent the amount of commitment expiration per period.
PAYMENTS DUE IN: ---------------------------------------------------------- 2010 AND TOTAL 2005 2006 2007 2008 2009 BEYOND ------ ----- ----- ------ ----- ----- -------- (IN MILLIONS) 5.25% Convertible Subordinated Notes due 2007............................. $137.8 $ -- $ -- $137.8 $ -- $ -- $ -- Operating leases....................... 109.8 14.4 12.5 11.5 11.0 10.7 49.7 Letters of credit...................... 39.8 37.5 0.1 2.2 -- -- -- Projected pension contributions........ 29.0 6.0 6.0 6.0 6.0 5.0 -- Advance payment and performance bonds................................ 1.9 -- 0.2 -- -- 1.7 -- ------ ----- ----- ------ ----- ----- ----- Total.................................. $318.3 $57.9 $18.8 $157.5 $17.0 $17.4 $49.7 ====== ===== ===== ====== ===== ===== =====
Actual pension contributions may differ from amounts presented above and are contingent on cash flow and liquidity. Rental expense for the years ended December 31, 2004, 2003 and 2002 amounted to $13.6 million, $10.7 million and $5.4 million, respectively. (17) LEGAL MATTERS The Company and three other companies entered into a consent decree in 1990 with the Federal government for the remediation of a Superfund site. The Superfund site has been divided into three operable units. The consent decree relates to two of the operable units. The third operable unit has not been formally studied and, accordingly, no liability has been recorded by the Company. The Company believes that the aggregate amount of the obligation and timing of cash payments associated with the two operable units subject to the consent decree are reasonably fixed and determinable. Accordingly, the environmental obligation has been discounted at five percent. Management estimates that as of December 31, 2004, the discounted liability over the remainder of the twenty-one years related to these two operable units is approximately $1.9 million of which approximately $0.3 million has been classified as current and is included in accrued liabilities. Approximately $0.6 million of the $1.9 million liability will be incurred over the next five years. The Company is also involved in other environmental cleanup efforts, none of which management believes is likely to have a material adverse effect on the Company's consolidated financial position, results of operations or liquidity. Additionally, the Company and its subsidiaries are subject to certain legal actions that arise out of the normal course of business. It is management's belief that the ultimate outcome of these actions will not have a material adverse effect on the Company's consolidated financial position, results of operations or liquidity. (18) BUSINESS SEGMENTS The Company determines its operating segments based upon an analysis of its products and services, production processes, types of customers, economic characteristics and the related regulatory environment, which is consistent with how management operates the Company. The Company's continuing operations are conducted in three business segments: Defense, Communications and Space Products, and Engineered Materials. The Defense segment provides integrated front-line warfighting systems and components including electronic-warfare systems, reconnaissance and surveillance systems, aircraft weapons suspension and release systems, integrated combat systems, command, control, communications, computers, and intelligence (C4I) 63 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) products and systems, undersea-warfare systems and professional and engineering services for military forces and friendly governments worldwide. The Communications and Space Products segment supplies antenna products and ultra-miniature electronics and systems for the remote sensing and electronic warfare industries. The Engineered Materials segment supplies commercial and military piezo-electric ceramic products and integrated composite structures for the aircraft and oil industries. The Company has a disciplined acquisition program which is diversifying the base of major platforms and customers. Domestic U.S. Government sales, which include sales to prime contractors of the U.S. Government, amounted to 79%, 76% and 75% of net sales, which were 83%, 80% and 82% of Defense's net sales, 83%, 71% and 62% of Communications and Space Products' net sales and 45%, 49% and 42% of Engineered Materials' net sales for 2004, 2003 and 2002, respectively. International sales comprised 14%, 18% and 15% of net sales for 2004, 2003 and 2002, respectively. In addition, the Universal Exciter Upgrade program in the Defense segment comprised approximately 0%, 2% and 14% of net sales for 2004, 2003 and 2002, respectively. Principal products and services by segment are as follows: DEFENSE SEGMENT - Reconnaissance and Surveillance Systems - Command, Control, Communications, Computers and Intelligence (C4I) - Electronic Warfare - Undersea Warfare Sonar Systems - Aircraft Armament - Airborne Mine Countermeasures Systems - Rugged Computer and Electronics - Professional and Engineering Services COMMUNICATIONS AND SPACE PRODUCTS SEGMENT - Electronic Force Protection Systems - Interference Cancellation - Antenna Products ENGINEERED MATERIALS SEGMENT - Electro-Ceramic Products - Integrated Advanced Composite Structures Products 64 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Information by segment on sales, operating earnings, identifiable assets, depreciation and amortization, and capital expenditures is as follows for each of the three years ended December 31:
2004 2003 2002 -------- -------- -------- (IN THOUSANDS) Net sales: Defense............................................ $406,301 $360,001 $243,447 Communications and Space Products.................. 81,641 55,458 47,262 Engineered Materials............................... 48,231 45,208 38,167 -------- -------- -------- $536,173 $460,667 $328,876 -------- -------- -------- Operating earnings: Defense............................................ $ 43,064 $ 35,062 $ 28,674 Communications and Space Products.................. 4,294 3,583 (441) Engineered Materials............................... 5,443 2,385 3,150 Impairment loss on Deer Park facility.............. -- (9,160) -- Curtailment loss................................... (942) (1,998) -------- -------- -------- $ 52,801 $ 30,928 $ 29,385 Net interest expense................................. (7,848) (8,152) (4,956) Other (expense) income, net.......................... (319) 279 (95) -------- -------- -------- Earnings from continuing operations before income taxes and cumulative effect of a change in accounting principle............................... $ 44,634 $ 23,055 $ 24,334 -------- -------- -------- Identifiable assets: Defense............................................ $313,979 $303,881 $224,017 Communications and Space Products.................. 45,867 34,684 40,001 Engineered Materials............................... 33,669 30,482 28,496 Corporate.......................................... 153,174 125,649 189,060 -------- -------- -------- $546,689 $494,696 $481,574 -------- -------- -------- Depreciation and amortization: Defense............................................ $ 11,742 $ 12,551 $ 7,440 Communications and Space Products.................. 1,934 2,335 1,895 Engineered Materials............................... 1,986 1,893 1,800 Corporate.......................................... 378 286 186 -------- -------- -------- $ 16,040 $ 17,065 $ 11,321 -------- -------- -------- Capital expenditures: Defense............................................ $ 9,215 $ 4,309 $ 3,587 Communications and Space Products.................. 2,093 956 816 Engineered Materials............................... 2,258 2,347 1,819 Corporate.......................................... 640 1,253 871 -------- -------- -------- $ 14,206 $ 8,865 $ 7,093 ======== ======== ========
65 EDO CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Acquisition-related costs in 2003 and 2002, including IPR&D, attributable to the Condor acquisition are included in the segments as follows:
2004 2003 2002 ------ ------ ---- (IN THOUSANDS) Defense..................................................... $ -- $929 $567 Communications and Space Products........................... -- -- -- Engineered Materials........................................ -- -- -- ---- ---- ---- Total....................................................... $ -- $929 $567 ==== ==== ====
(19) GUARANTOR AND NON-GUARANTOR SUBSIDIARIES The Company may, from time to time, issue indebtedness, a condition of which would be the guarantee of this indebtedness by certain of its subsidiaries. Presented below is condensed consolidating financial information for the Company and the contemplated subsidiary guarantors and non-guarantors at December 31, 2004 and 2003 and for each of the three years in the period ended December 31, 2004. There were no subsidiaries that would have been non-guarantor subsidiaries for 2002. Each contemplated subsidiary guarantor is 100% owned, directly or indirectly, by the Company. Any guarantees that may be issued will be full and unconditional, as well as joint and several. In connection with the Company's credit facility, the Company cannot declare or pay any dividend on its outstanding common stock in an amount that exceeds fifty percent of its consolidated net income for the immediately preceding quarter. 66 EDO CORPORATION CONDENSED CONSOLIDATING BALANCE SHEET DECEMBER 31, 2004
EDO CORPORATION PARENT COMPANY SUBSIDIARY ONLY GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED --------------- ---------- -------------- ------------ ------------ ASSETS Current assets: Cash and cash equivalents........ $ 91,783 $ 2,660 $ 4,441 -- $ 98,884 Accounts receivable, net......... 35,164 113,914 4,732 -- 153,810 Inventories...................... 3,578 44,815 4,474 -- 52,867 Deferred income tax asset, net... 5,046 0 0 -- 5,046 Notes receivable................. 7,202 0 0 -- 7,202 Prepayments and other............ 951 2,206 336 -- 3,493 -------- -------- ------- --------- -------- Total current assets............. 143,724 163,595 13,983 -- 321,302 Investment in subsidiaries....... 269,025 0 0 (269,025) 0 Property, plant and equipment, net............................ 9,922 21,451 3,457 -- 34,830 Notes receivable................. 0 0 0 -- 0 Goodwill......................... 0 82,941 8,710 -- 91,651 Other intangible assets, net..... 0 37,737 12,619 -- 50,356 Deferred income tax asset, net... 30,241 0 0 -- 30,241 Other assets..................... 17,238 1,071 0 -- 18,309 -------- -------- ------- --------- -------- $470,150 $306,795 $38,769 $(269,025) $546,689 ======== ======== ======= ========= ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable and accrued liabilities.................... $ 26,735 $ 48,431 $ 5,732 -- $ 80,898 Contract advances and deposits... 2,344 11,352 0 -- 13,696 -------- -------- ------- --------- -------- Total current liabilities........ 29,079 59,783 5,732 -- 94,594 Long-term debt................... 137,800 0 0 -- 137,800 Income taxes payable, long-term...................... 5,768 0 0 -- 5,768 Deferred income tax liabilities, net............................ (169) 0 169 -- 0 Post retirement benefits obligations.................... 83,249 11,687 0 -- 94,936 Environmental obligation......... 1,663 0 0 -- 1,663 Intercompany accounts............ 0 112,704 25,911 (138,615) 0 Shareholders' equity: Preferred shares................. 0 0 0 -- 0 Common shares.................... 20,112 98 0 (98) 20,112 Additional paid-in capital....... 158,548 25,221 6,418 (31,639) 158,548 Retained earnings................ 96,004 102,376 349 (102,725) 96,004 Accumulated other comprehensive loss, net of income tax benefit........................ (42,008) (801) 190 -- (42,619) Treasury shares.................. (1,449) (4,052) 0 4,052 (1,449) Unearned ESOP shares............. (16,039) 0 0 -- (16,039) Management group receivables..... 0 (221) 0 -- (221) Deferred compensation under Long-Term Incentive Plan....... (2,408) 0 0 -- (2,408) -------- -------- ------- --------- -------- Total shareholders' equity....... 212,760 122,621 6,957 (130,410) 211,928 -------- -------- ------- --------- -------- $470,150 $306,795 $38,769 $(269,025) $546,689 ======== ======== ======= ========= ========
67 EDO CORPORATION CONDENSED CONSOLIDATING STATEMENT OF EARNINGS DECEMBER 31, 2004
EDO CORPORATION PARENT COMPANY SUBSIDIARY ONLY GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED --------------- ---------- -------------- ------------ ------------ Continuing Operations: Net Sales.................... $95,060 $425,262 $29,062 $(13,211) $536,173 Costs and expenses: Cost of sales................ 78,084 307,026 21,062 (13,211) 392,961 Selling, general and administrative............. 3,946 68,509 6,336 0 78,791 Research and development..... 2,879 7,304 1,437 0 11,620 Acquisition-related costs.... 0 0 0 0 0 Benefit plan curtailment loss....................... 0 0 0 0 0 Impairment loss on Deer Park facility................... 0 0 0 0 0 ------- -------- ------- -------- -------- 84,909 382,839 28,835 (13,211) 483,372 ------- -------- ------- -------- -------- Operating Earnings........... 10,151 42,423 227 0 52,801 Non-operating income (expense) Interest income.............. 1,003 172 96 0 1,271 Interest expense............. (9,119) 0 0 0 (9,119) Other, net................... (76) 41 (284) 0 (319) ------- -------- ------- -------- -------- (8,192) 213 (188) 0 (8,167) (Loss) earnings from continuing operations before income taxes........ 1,959 42,636 39 0 44,634 Income tax (benefit) expense.................... (1,581) 16,909 238 0 15,566 ------- -------- ------- -------- -------- (Loss) earnings from continuing operations...... 3,540 25,727 (199) 0 29,068 Equity in undistributed earnings of subsidiaries... 25,528 0 0 (25,528) -- ------- -------- ------- -------- -------- 29,068 25,727 (199) (25,528) 29,068 Earnings from discontinued operations................. 0 0 0 0 0 ------- -------- ------- -------- -------- Net earnings................. $29,068 $ 25,727 $ (199) $(25,528) $ 29,068 ======= ======== ======= ======== ========
68 EDO CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS DECEMBER 31, 2004
EDO CORPORATION PARENT COMPANY SUBSIDIARY ONLY GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED --------------- ---------- -------------- ------------ ------------ Operating Activities: Earnings from continuing operations.......... $ 29,068 $ 25,727 (199) $(25,528) $ 29,068 Adjustments to earnings to arrive at cash provided (used) by continuing operations: Depreciation................................. 1,697 7,933 846 -- 10,476 Amortization................................. -- 4,561 1,003 -- 5,564 Deferred tax benefit......................... -- (660) -- -- (660) Bad debt expense............................. -- -- -- -- -- Loss (gain) on sale of property, plant and equipment.................................. 62 193 -- -- 255 Impairment loss on assets held for sale...... -- -- -- -- -- Deferred compensation expense................ 916 -- -- -- 916 Non-cash Employee Stock Ownership Plan compensation expense....................... 4,330 -- -- -- 4,330 Non-cash stock option compensation expense... -- -- -- -- -- Dividends on unallocated Employee Stock Ownership Plan shares...................... 272 -- -- -- 272 Common shares issued for directors' fees..... 140 -- -- -- 140 Income tax benefit from stock options........ 1,134 -- -- -- 1,134 Changes in operating assets and liabilities, excluding effects of acquisitions: Equity in earnings of subsidiaries........... (25,528) -- -- 25,528 -- Intercompany................................. 18,152 (17,685) (467) -- -- Accounts receivable.......................... (6,077) (12,682) (748) -- (19,507) Inventories.................................. 1,742 (18,691) (1,185) -- (18,134) Prepayments and other assets................. 2,341 1,253 (6) -- 3,588 Contribution to defined benefit pension plan....................................... -- -- -- -- -- Accounts payable, accrued liabilities and other...................................... (2,042) 4,169 617 -- 2,744 Contract advances and deposits............... (444) 5,945 -- -- 5,501 -------- -------- ------- -------- -------- Cash provided (used) by continuing operations................................. 25,763 63 (139) -- 25,687 Net cash provided by discontinued operations................................. -- -- -- -- -- Investing Activities: Purchase of plant and equipment.............. (4,714) (8,904) (588) -- (14,206) Payments received on notes receivable........ 1,200 -- -- -- 1,200 Cash paid for acquisitions, net of cash acquired................................... 301 -- -- -- 301 -------- -------- ------- -------- -------- Cash used by investing activities............ (3,213) (8,904) (588) -- (12,705) Financing Activities: Proceeds from exercise of stock options...... 1,535 -- -- -- 1,535 Proceeds from management group receivables... -- 130 -- -- 130 Repayments of acquired debt.................. -- -- -- -- -- Payment of common share cash dividends....... (2,395) -- -- -- (2,395) -------- -------- ------- -------- -------- Cash (used) provided by financing activities................................. (860) 130 -- -- (730) -------- -------- ------- -------- -------- Net increase (decrease) in cash and cash equivalents................................ 21,690 (8,711) (727) -- 12,252 Cash and cash equivalents at beginning of year....................................... 70,093 11,371 5,168 -- 86,632 -------- -------- ------- -------- -------- Cash and cash equivalents at end of year..... $ 91,783 $ 2,660 $ 4,441 $ 0 $ 98,884 ======== ======== ======= ======== ========
69 EDO CORPORATION CONDENSED CONSOLIDATING BALANCE SHEET DECEMBER 31, 2003
EDO CORPORATION PARENT COMPANY ONLY SUBSIDIARY GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED --------------- --------------------- -------------- ------------ ------------ ASSETS Current assets: Cash and cash equivalents............... $ 70,093 $ 11,371 $ 5,168 $ $ 86,632 Accounts receivable, net................ 29,087 101,233 3,984 (1) 134,303 Inventories............................. 5,320 26,124 3,289 34,733 Deferred income tax asset, net.......... 4,836 0 4,836 Notes receivable........................ 1,600 1,600 Prepayments and other................... 1,010 3,014 330 4,354 -------- -------- ------- --------- -------- Total current assets.................... 111,946 141,742 12,771 (1) 266,458 Investment in subsidiaries.............. 261,950 (261,950) 0 Property, plant and equipment, net...... 6,966 20,674 3,715 31,355 Notes receivable........................ 6,538 0 6,538 Goodwill................................ 0 82,919 9,608 92,527 Other intangible assets, net............ 0 42,276 13,622 55,898 Deferred income tax asset, net.......... 20,532 0 20,532 Other assets............................ 19,850 1,538 0 21,388 -------- -------- ------- --------- -------- $427,782 $289,149 $39,716 $(261,951) $494,696 ======== ======== ======= ========= ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable and accrued liabilities........................... $ 31,866 $ 44,679 $ 6,004 $ (1) $ 82,548 Contract advances and deposits.......... 2,788 5,407 8,195 -------- -------- ------- --------- -------- Total current liabilities............... 34,654 50,086 6,004 (1) 90,743 Income taxes payable, long-term......... 2,195 2,195 Long-term debt.......................... 137,800 0 137,800 Deferred income tax liabilities, net.... (82) 0 82 0 Post retirement benefits obligations.... 61,035 10,863 71,898 Environmental obligation................ 1,728 0 1,728 Intercompany accounts................... 0 126,326 26,611 (152,937) 0 Shareholders' equity: Preferred shares........................ 0 0 0 Common shares........................... 19,832 99 (99) 19,832 Additional paid-in capital.............. 150,097 25,221 6,486 (31,707) 150,097 Retained earnings....................... 69,059 80,878 548 (81,426) 69,059 Accumulated other comprehensive loss, net of income tax benefit............. (29,512) 79 (15) 167 (29,281) Treasury shares......................... (1,255) (4,052) 4,052 (1,255) Unearned ESOP shares.................... (17,290) 0 (17,290) Management group receivables............ 0 (351) (351) Deferred compensation under Long-Term Incentive Plan........................ (479) 0 (479) -------- -------- ------- --------- -------- Total shareholders' equity.............. 190,452 101,874 7,019 (109,013) 190,332 -------- -------- ------- --------- -------- $427,782 $289,149 $39,716 $(261,951) $494,696 ======== ======== ======= ========= ========
70 EDO CORPORATION CONDENSED CONSOLIDATING STATEMENT OF EARNINGS DECEMBER 31, 2003
EDO CORPORATION PARENT COMPANY ONLY SUBSIDIARY GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED --------------- --------------------- -------------- ------------ ------------ Continuing Operations: Net Sales............................... $91,420 $371,306 $16,047 $(18,106) $460,667 Costs and expenses: Cost of sales........................... 76,684 271,384 8,297 (18,106) 338,259 Selling, general and administrative..... 5,420 60,132 6,303 71,855 Research and development................ 2,970 5,210 414 8,594 Acquisition-related costs............... 250 679 929 Benefit plan curtailment loss........... 942 0 942 Impairment loss on Deer Park facility... 9,160 9,160 ------- -------- ------- -------- -------- 86,266 346,565 15,014 (18,106) 429,739 ------- -------- ------- -------- -------- Operating Earnings...................... 5,154 24,741 1,033 0 30,928 Non-operating income (expense) Interest income....................... 630 282 29 941 Interest expense........................ (9,093) 0 (9,093) Other, net.............................. (42) 321 279 ------- -------- ------- -------- -------- (8,505) 603 29 (7,873) (Loss) earnings from continuing operations before income taxes........ (3,351) 25,344 1,062 0 23,055 Income tax (benefit) expense............ (1,068) 10,198 514 9,644 ------- -------- ------- -------- -------- (Loss) earnings from continuing operations............................ (2,283) 15,146 548 0 13,411 Equity in undistributed earnings of subsidiaries.......................... 15,694 0 (15,694) -- ------- -------- ------- -------- -------- 13,411 15,146 548 (15,694) 13,411 Earnings from discontinued operations... 1,398 1,398 ------- -------- ------- -------- -------- Net earnings............................ $14,809 $ 15,146 $ 548 $(15,694) $ 14,809 ======= ======== ======= ======== ========
71 EDO CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS DECEMBER 31, 2003
EDO CORPORATION PARENT COMPANY SUBSIDIARY ONLY GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED --------------- ---------- -------------- ------------ ------------ Operating Activities: Earnings from continuing operations.......... $ 13,411 $ 15,146 $ 548 $(15,694) $ 13,411 Adjustments to earnings to arrive at cash provided (used) by continuing operations: Depreciation................................. 1,748 10,082 350 -- 12,180 Amortization................................. 0 4,466 419 -- 4,885 Deferred tax benefit......................... (7,227) 387 -- -- (6,840) Bad debt expense............................. -- 568 -- -- 568 Loss (gain) on sale of property, plant and equipment.................................. 6 (137) -- -- (131) Impairment loss on assets held for sale...... -- 9,160 -- -- 9,160 Deferred compensation expense................ 289 -- -- -- 289 Non-cash Employee Stock Ownership Plan compensation expense....................... 3,281 -- -- -- 3,281 Non-cash stock option compensation expense... 292 -- -- -- 292 Dividends on unallocated Employee Stock Ownership Plan shares...................... 292 -- -- -- 292 Common shares issued for directors' fees..... 108 -- -- -- 108 Income tax benefit from stock options........ 328 -- -- -- 328 Changes in operating assets and liabilities, excluding effects of acquisitions: Equity in earnings of subsidiaries........... (15,694) -- -- 15,694 0 Intercompany................................. 33,636 (36,859) 3,223 -- 0 Accounts receivable.......................... (4,500) 217 1,080 -- (3,203) Inventories.................................. (4,228) 5,190 444 -- 1,406 Prepayments and other assets................. 4,334 (295) (7) -- 4,032 Contribution to defined benefit pension plan....................................... (5,000) -- -- -- (5,000) Accounts payable, accrued liabilities and other...................................... 22,406 (27,447) (361) -- (5,402) Contract advances and deposits............... (8,297) (3,785) -- -- (12,082) -------- -------- ------ -------- -------- Cash provided (used) by continuing operations................................. 35,185 (23,307) 5,696 0 17,574 Net cash provided by discontinued operations................................. 79 -- -- -- 79 Investing Activities: Purchase of plant and equipment.............. (3,224) (5,113) (528) -- (8,865) Proceeds from sale of property, plant and equipment.................................. -- 21,304 -- -- 21,304 Payments received on notes receivable........ 300 1,085 -- -- 1,385 Restricted cash.............................. 27,347 0 -- -- 27,347 Cash paid for acquisitions, net of cash acquired................................... (94,188) 0 -- -- (94,188) -------- -------- ------ -------- -------- Cash used by investing activities............ (69,765) 17,276 (528) 0 (53,017) Financing Activities: Proceeds from exercise of stock options...... 268 -- -- -- 268 Proceeds from management group receivables... 0 242 -- -- 242 Repayments of acquired debt.................. (8,660) -- -- -- (8,660) Payment of common share cash dividends....... (2,367) -- -- -- (2,367) -------- -------- ------ -------- -------- Cash (used) provided by financing activities................................. (10,759) 242 0 0 (10,517) -------- -------- ------ -------- -------- Net decrease in cash and cash equivalents.... (45,260) (5,789) 5,168 0 (45,881) Cash and cash equivalents at beginning of year....................................... 115,353 17,160 -- -- 132,513 -------- -------- ------ -------- -------- Cash and cash equivalents at end of year..... $ 70,093 $ 11,371 $5,168 $ 0 $ 86,632 ======== ======== ====== ======== ========
72 EDO CORPORATION CONDENSED CONSOLIDATING STATEMENT OF EARNINGS DECEMBER 31, 2002
EDO CORPORATION PARENT COMPANY SUBSIDIARY ONLY GUARANTORS ELIMINATIONS CONSOLIDATED --------------- ---------- ------------ ------------ Continuing Operations: Net Sales............................................ $87,154 $254,772 $(13,050) $328,876 Costs and expenses: Cost of sales........................................ 68,827 185,073 (13,050) 240,850 Selling, general and administrative.................. 5,891 41,693 -- 47,584 Research and development............................. 3,698 4,794 -- 8,492 Write-off of purchased in-process research and development and -related costs..................... 42 525 -- 567 Defined benefit pension plan curtailment loss........ 1,998 0 -- 1,998 ------- -------- -------- -------- 80,456 232,085 (13,050) 299,491 ------- -------- -------- -------- Operating Earnings................................... 6,698 22,687 0 29,385 Non-operating income (expense) Interest income.................................... 1,515 214 -- 1,729 Interest expense..................................... (6,685) 0 -- (6,685) Other, net........................................... (301) 206 -- (95) ------- -------- -------- -------- (5,471) 420 -- (5,051) Earnings from continuing operations before income taxes.............................................. 1,227 23,107 0 24,334 Income tax expense................................... 1,048 9,294 -- 10,342 ------- -------- -------- -------- Earnings from continuing operations.................. 179 13,813 0 13,992 Equity in undistributed earnings of subsidiaries..... 10,450 0 (10,450) -- ------- -------- -------- -------- 10,629 13,813 (10,450) 13,992 Cumulative effect of a change in accounting principle, net of tax.............................. 0 (3,363) -- (3,363) ------- -------- -------- -------- Net earnings......................................... $10,629 $ 10,450 $(10,450) $ 10,629 ======= ======== ======== ========
73 EDO CORPORATION CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS DECEMBER 31, 2002
EDO CORPORATION PARENT COMPANY SUBSIDIARY ONLY GUARANTORS ELIMINATIONS CONSOLIDATED --------------- ---------- ------------ ------------ Operating Activities: Earnings from continuing operations................. $ 10,629 $10,450 $(10,450) $ 10,629 Adjustments to earnings to arrive at cash provided by continuing operations: Depreciation........................................ 1,751 8,614 -- 10,365 Amortization........................................ 0 956 -- 956 Deferred tax benefit................................ (2,984) -- (2,984) Write-off of purchased in-process research and development....................................... 0 150 -- 150 Bad debt expense.................................... -- 407 -- 407 Loss on sale of property, plant and equipment....... -- 53 -- 53 Deferred compensation expense....................... 201 -- -- 201 Non-cash Employee Stock Ownership Plan compensation expense........................................... 4,043 -- -- 4,043 Dividends on unallocated Employee Stock Ownership Plan shares....................................... 312 -- -- 312 Common shares issued for directors' fees............ 142 -- -- 142 Income tax benefit from stock options and Long-Term Incentive Plan.................................... 713 -- -- 713 Cumulative effect of a change in accounting principle......................................... 3,363 -- -- 3,363 Changes in operating assets and liabilities, excluding effects of acquisitions: Equity in earnings of subsidiaries.................. (10,450) -- 10,450 0 Intercompany........................................ 1,412 (1,412) -- 0 Accounts receivable................................. (197) (2,322) -- (2,519) Inventories......................................... 944 (3,870) -- (2,926) Prepayments and other assets........................ 3,859 (3,639) -- 220 Accounts payable, accrued liabilities and other..... 9,136 (3,919) -- 5,217 Contract advances and deposits...................... (3,484) 7,059 -- 3,575 -------- ------- -------- -------- Cash provided by operations......................... 19,390 12,527 0 31,917 Investing Activities: Purchase of plant and equipment..................... (3,099) (3,994) -- (7,093) Payments received on notes receivable............... 300 50 -- 350 Proceeds from sale of property, plant and equipment......................................... 0 1 -- 1 Restricted cash..................................... (27,347) -- -- (27,347) Cash paid for acquisitions, net of cash acquired.... (59,024) -- -- (59,024) -------- ------- -------- -------- Cash used by investing activities................... (89,170) (3,943) 0 (93,113) Financing Activities: Issuance of convertible subordinated notes.......... 137,800 -- -- 137,800 Proceeds from exercise of stock options............. 486 -- -- 486 Proceeds from management group receivables.......... 0 252 -- 252 Payment made on note payable........................ (500) -- -- (500) Payment of common share cash dividends.............. (2,360) -- -- (2,360) -------- ------- -------- -------- Cash provided by financing activities............... 135,426 252 0 135,678 -------- ------- -------- -------- Net increase in cash and cash equivalents........... 65,646 8,836 0 74,482 Cash and cash equivalents at beginning of year...... 49,707 8,324 -- 58,031 -------- ------- -------- -------- Cash and cash equivalents at end of year............ $115,353 $17,160 $ -- $132,513 ======== ======= ======== ========
74 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors and Shareholders EDO Corporation We have audited the accompanying consolidated balance sheets of EDO Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of earnings, shareholders' equity and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the index at Item 15(a). These consolidated financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and schedule based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of EDO Corporation and subsidiaries at December 31, 2004 and 2003 and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. As discussed in Note 1(f) to the consolidated financial statements, effective January 1, 2002, the Company changed its method of accounting for goodwill to conform with Statement of Financial Accounting Standard No. 142, "Goodwill and Other Intangible Assets." We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of EDO Corporation's internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 23, 2005 expressed an unqualified opinion thereon. /s/ ERNST & YOUNG LLP New York, New York February 23, 2005 75 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors and Shareholders EDO Corporation We have audited management's assessment, included in the accompanying Management's Report on Internal Controls that EDO Corporation and subsidiaries maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). EDO Corporation's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the Company's internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, management's assessment that EDO Corporation and subsidiaries maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, EDO Corporation and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of EDO Corporation and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, cash flows, and changes in shareholders' equity for each of the three years in the period ended December 31, 2004 and our report dated February 23, 2005 expressed an unqualified opinion. /s/ ERNST & YOUNG LLP New York, New York February 23, 2005 76 QUARTERLY FINANCIAL INFORMATION (UNAUDITED) The following table sets forth unaudited quarterly financial information for 2004 and 2003 (in thousands, except per share amounts).
FIRST QUARTER SECOND QUARTER THIRD QUARTER FOURTH QUARTER ------------------ -------------------- ------------------- ------------------- 2004 2003 2004 2003 2004 2003 2004 2003 -------- ------- -------- -------- -------- -------- -------- -------- Net sales from continuing operations................. $110,877 $94,377 $126,290 $111,736 $129,875 $118,783 $169,131 $135,771 Net earnings (loss): Continuing operations...... 3,857 2,982(a) 4,176 (1,626)(b) 6,874 5,559(c) 14,161 6,496(d) Discontinued operations.... -- -- -- 1,398 -- -- -- -- -------- ------- -------- -------- -------- -------- -------- -------- Earnings (loss).............. 3,857 2,982 4,176 (228) 6,874 5,559 14,161 6,496 Earnings (loss) per share: Basic: Continuing operations.... 0.22 0.17 .24 (0.09) 0.39 0.32 0.79 0.37 Discontinued operations............. -- -- -- 0.08 -- -- -- -- -------- ------- -------- -------- -------- -------- -------- -------- Earnings (loss) -- Basic........ 0.22 0.17 .24 (0.01) 0.39 0.32 0.79 0.37 Diluted: Continuing operations.... 0.22 0.17 .23 (0.09) 0.35 0.30 0.68 0.34 Discontinued operations............. -- -- -- 0.08 -- -- -- -- -------- ------- -------- -------- -------- -------- -------- -------- Earnings (loss) -- Diluted........ 0.22 0.17 .23 (0.01) 0.35 0.30 0.68 0.34 ======== ======= ======== ======== ======== ======== ======== ========
--------------- (a) Includes pre-tax acquisition-related costs of $0.2 million. (b) Includes pre-tax acquisition-related costs of $0.2 million and an impairment loss on the facility at Deer Park of $9.2 million. (c) Includes pre-tax acquisition-related costs of $0.2 million. (d) Includes pre-tax acquisition-related costs of $0.3 million and a $0.9 million non-qualified pension plan curtailment loss. 77 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES As of the end of the period covered by this Annual Report on Form 10-K the Company carried out an evaluation, under the supervision and with the participation of the Company's senior management, including the Chief Executive Officer and the Chief Financial Officer, as well as members of the Board of Directors, of the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based on their evaluation , the Chief Executive Officer and the Chief Financial Officer of the Company have concluded that the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) are effective to ensure that the information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING There were no changes in EDO's internal controls over financial reporting during EDO's last fiscal quarter that have materially affected, or likely to materially affect internal controls over financial reporting. MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control -- Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2004. Management's assessment of the effectiveness of our internal control over financial reporting as of December 31, 2004 has been audited by Ernst and Young LLP, an independent registered public accounting firm, as stated in their report which is included herein. ITEM 9B. OTHER INFORMATION None. 78 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS The information called for by Item 10 (except to the extent set forth in this Item) is incorporated in this Report by reference to the Company's definitive proxy statement relating to the Annual Meeting of Shareholders anticipated to be held on April 26, 2005. EXECUTIVE OFFICERS
NAME AGE POSITION, TERM OF OFFICE AND PRIOR POSITIONS ---- --- -------------------------------------------- James M. Smith............................ 63 Chairman of the Board (since May 2002) President and Chief Executive Officer (since April 2000). Previously, he was President and CEO of AIL Systems, Inc. Frederic B. Bassett....................... 58 Vice President (since September 2002), Chief Financial Officer and Treasurer (since January 2003). Prior thereto, he was Vice President, Treasurer and Chief Financial Officer of Condor Systems, Inc. (December 2000-July 2002). Prior thereto, he was U.S. Operations Controller for the Howmet Division of Alcoa. Patricia D. Comiskey...................... 54 Vice President -- Human Resources (since June 2001) and Assistant Secretary (since September 2000). Previously, she was Director -- Corporate Human Resources (since September 2000). Prior thereto she was Director -- Human Resources and Assistant Secretary of AIL Systems, Inc. George Fox................................ 62 Vice President -- Electronic Systems Group (since May 2000). Previously, he was Director of Operations of AIL Systems, Inc. (since 1998). Prior thereto, he was Director of Programs of AIL Systems, Inc. (since 1997). William J. Frost.......................... 63 Vice President -- Administration and Shareholder Relations (since April 2000) and Secretary (since May 2001). Milo Hyde................................. 51 Vice President -- Systems & Analysis Group (since April 2000); prior thereto, he served as Systems and Analysis Group General Manager. Frank Otto................................ 55 Executive Vice President (since September 2002) and Chief Operating Officer (since February 2004). Prior thereto, he was Vice President -- Integrated Systems and Structures Group (January 2001-September 2002). Prior thereto, he was General Manager of the Marine and Aircraft Systems Division. Lisa M. Palumbo........................... 46 Vice President, General Counsel and Assistant Secretary (since April 2002). Previously, she was Senior Vice President, General Counsel and Secretary of Moore Corporation Ltd. (from March to September 2001), and prior thereto, Vice President and General Counsel of Rayonier, Inc.
Each officer is either elected by the board of directors or, as provided in our By-Laws, appointed by the Chief Executive Officer and holds office until the first meeting of the board following the next succeeding annual meeting of shareholders, and thereafter until a successor is appointed and qualified, unless the executive officer dies, is disqualified, resigns or is removed in accordance with our By-Laws. 79 ITEM 11. EXECUTIVE COMPENSATION The information called for by Item 11 is incorporated in this Report by reference to the Company's definitive proxy statement relating to the Annual Meeting of Shareholders anticipated to be held on April 26, 2005. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS The information called for by Item 12 is incorporated in this Report by reference to the Company's definitive proxy statement relating to the Annual Meeting of Shareholders anticipated to be held on April 26, 2005. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information called for by Item 13 is incorporated in this Report by reference to the Company's definitive proxy statement relating to the Annual Meeting of Shareholders anticipated to be held on April 26, 2005. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Information appearing under the captions "Fees to Independent Registered Public Accountants for fiscal 2004 and 2003" in the 2005 Proxy Statement is hereby incorporated by reference. PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) Financial Statements and Financial Statement Schedules and Exhibits 1. FINANCIAL STATEMENTS. Consolidated Balance Sheets as of December 31, 2004 and 2003 Consolidated Statements of Earnings for the Years Ended December 31, 2004, 2003 and 2002 Consolidated Statements of Shareholders' Equity for the Years Ended December 31, 2004, 2003 and 2002 Consolidated Statements of Cash Flows for the Years Ended December 31, 2004, 2003 and 2002 Notes to Consolidated Financial Statements Reports of Ernst & Young LLP 2. FINANCIAL STATEMENT SCHEDULES. See Schedule II -- Valuation and Qualifying Accounts below. All other schedules have been omitted because they are not applicable. 80 SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
BALANCE AT CHARGED TO CHARGED TO NET BALANCE AT BEGINNING OF COSTS AND OTHER WRITE-OFFS/ END OF DESCRIPTION PERIOD EXPENSES ACCOUNTS DEDUCTIONS PERIOD ----------- ------------ ---------- ---------- ----------- ---------- (IN THOUSANDS) Year ended December 31, 2004: Allowance for doubtful accounts...... $1,359 (54) 0 (689) $ 616 Year ended December 31, 2003: Allowance for doubtful accounts...... $1,023 568 216(a) (448) $1,359 Year ended December 31, 2002: Allowance for doubtful accounts...... $ 893 407 44(b) (321) $1,023
--------------- (a) Amounts acquired as a result of purchase of Emblem Group Ltd. on June 16, 2003, Darlington, Inc. on March 10, 2003, and Advanced Engineering & Research Associates, Inc. on February 5, 2003. (b) Amount acquired as a result of purchase of Condor Systems, Inc. on July 26, 2002. 3. EXHIBITS
EXHIBIT NUMBER EXHIBIT ------- ------- 2(a) Agreement and Plan of Merger by and among the Company, EDO Acquisition III Inc. and AIL Technologies Inc. as amended and restated dated January 2, 2000 (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1999, Exhibit 2(a)). 2(b) Management Stock Purchase Agreement dated as of January 2, 2000 between the Company as Buyer and eleven individuals as Sellers, relating to the purchase and sale of shares of common stock of AIL Technologies Inc. (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1999, Exhibit 2(b)). 2(c) Stock Purchase Agreement dated as of January 2, 2000 between the Company, as Buyer, and Defense Systems Holding Co., as Seller, relating to the purchase and sale of shares of common and preferred stock of AIL Technologies Inc. (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1999, Exhibit 2(c)). 2(d) Stock Purchase Agreement dated as of October 9, 2001, by EDO Acquisition II, Inc. and the former stockholders of Dynamic Systems, Inc., with a list of the schedules and exhibits (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2001, Exhibit 2(d)). 2(e) Amended and Restated Asset Purchase Agreement and Amendment 1 thereto, dated as of May 31, 2002, between EDO Acquisition IV Inc., a wholly-owned subsidiary of the Company, as Buyer and Condor Systems Inc. and CEI Systems, Inc. as Seller (incorporated herein by reference to the Company's Current Report on Form 8-K dated July 26, 2002, Exhibits 2.1 and 2.2). 2(f) Stock Purchase Agreement, dated as of February 5, 2003, between EDO Professional Services Inc, a wholly-owned subsidiary of the Company, as Buyer and four individuals as Sellers (incorporated herein by reference to the Company's Current Report on Form 8-K dated February 5, 2003, Exhibit 2.1). 2(g) Stock Purchase Agreement, dated as of March 10, 2003, by the Company, as Buyer, and three individuals as Sellers (incorporated by reference to the Company's Current Report on Form 8-K dated March 10, 2003, Exhibit 2.1). 3(a)(1)* Restated Certificate of Incorporation of the Company as amended May 10, 2004. 3(b) By-Laws of the Company as amended October 26, 2004 (incorporated herein by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 25, 2004 Exhibit 3(b)).
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EXHIBIT NUMBER EXHIBIT ------- ------- 4(a) Indenture, dated as of April 2, 2002, by and between the Company and HSBC Bank, USA, as trustee (incorporated herein by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002, Exhibit 4(a)). 4(b) Registration Rights Agreement, dated as of April 2, 2002, by and among the Company and Salomon Smith Barney, Inc., SG Cowen Securities Corporation and Robertson Stephens, Inc., as representatives of the initial purchasers (incorporated herein by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 30, 2002, Exhibit 4(b)). 10(a)(1) Credit Agreement, dated as of November 8, 2002, by and among the Company and AIL Systems Inc., with Citibank N.A., Fleet National Bank, Wachovia Bank, N.A., et al. (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(a)(1)). 10(a)(2) Amendment No. 1, dated December 20, 2002, to the Credit Agreement dated as of November 8, 2002 described above (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(a)(2)). 10(a)(3) Amendment No. 2, dated February 4, 2003, to the Credit Agreement dated as of November 8, 2002 described above (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(a)(3)). 10(a)(4) Amendment No. 3, dated February 28, 2003, to the Credit Agreement dated as of November 8, 2002 described above (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(a)(4)). 10(a)(5) Amendment No. 4, dated March 25, 2004, to the Credit Agreement dated as of November 8, 2002 described above (incorporated herein by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 27, 2004, Exhibit 10(a)). 10(b) EDO Corporation 1996 Long-Term Incentive Plan (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1996, Exhibit 10(a)). 10(c) EDO Corporation 2002 Long-Term Incentive Plan as amended January 1, 2004 (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2003, Exhibit 10(c)). 10(d) Executive Life Insurance Plan Agreements, as amended through January 23, 1990, between the Company and 28 employees and retirees (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1994, Exhibit 10(g)). 10(e) Form of Directors' and Officers' Indemnity Agreements between the Company and 24 current Company directors and officers (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1996, Exhibit 10(d)). 10(f)(1) EDO Corporation Nonqualified Deferred Compensation Plan I effective January 1, 2004 (incorporated herein by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 27, 2004, Exhibit 10(b)). 10(f)(2) EDO Corporation Nonqualified Deferred Compensation Plan II effective January 1, 2004 (incorporated herein by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ended March 27, 2004, Exhibit 10(c)). 10(g) EDO Corporation 1997 Non-Employee Director Stock Option Plan (incorporated herein by reference to the Company's Registration Statement on Form S-8, File No. 333-77865, dated May 6, 1999). 10(h) EDO Corporation 2002 Non-Employee Director Stock Option Plan (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(h)). 10(i) EDO Corporation Compensation Plan for Directors (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998, Exhibit 10(g)).
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EXHIBIT NUMBER EXHIBIT ------- ------- 10(j) Supplemental Executive Retirement Plan, dated July 1, 2001 (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2001, Exhibit 10(i)). 10(k) Amended and Restated Employment Agreement, dated as of October 1, 2004, by and between EDO Corporation and James M. Smith (incorporated herein by reference to the Company's Report on Form 8-K dated October 28, 2004, Exhibit 10). 10(l) Change in Control Agreement dated March 3, 2003 between the Company and Frederic B. Bassett (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(l)). 10(m) Change in Control Agreement dated March 21, 2003 between the Company and Patricia D. Comiskey (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(m)). 10(n) Change in Control Agreement dated March 25, 2003 between the Company and George P. Fox, Jr. (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(n)). 10(o) Change in Control Agreement dated March 21, 2003 between the Company and William J. Frost (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(o)). 10(p) Change in Control Agreement dated March 22, 2003 between the Company and Milo Hyde (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(p)). 10(q) Change in Control Agreement dated March 26, 2003 between the Company and Frank W. Otto (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(r)). 10(r) Change in Control Agreement dated May 1, 2003 between the Company and Lisa M. Palumbo (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002, Exhibit 10(s)). 10(s)* Form of Amendment to the Change in Control Agreement. 10(t)(1)* 2004 Restricted Share and Retention Incentive Award Agreement between the Company and Frederic B. Bassett. 10(t)(2)* 2004 Restricted Share and Retention Incentive Award Agreement between the Company and Patricia D. Comiskey. 10(t)(3)* 2004 Restricted Share and Retention Incentive Award Agreement between the Company and William J. Frost. 10(t)(4)* 2004 Restricted Share and Retention Incentive Award Agreement between the Company and Frank W. Otto. 10(t)(5)* 2004 Restricted Share and Retention Incentive Award Agreement between the Company and Lisa M. Palumbo. 10(u) Form of 2003 Stock Option Agreement (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2003, Exhibit 10(v)). 10(v) Consent Decree, entered on November 25, 1992, amongst the United States, the Company, Plessey, Inc., Vernitron Corporation and Pitney Bowes, Inc. Incorporated by reference to Exhibit 10(e) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998. 10(w)* Agreement for Sale of Deer Park facility dated July 31, 2003. 14 EDO Corporation Standards Ethical Business Conduct for all EDO Employees (incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2003, Exhibit 14.)
83
EXHIBIT NUMBER EXHIBIT ------- ------- 21* List of Subsidiaries. 23** Consent of Independent Registered Public Accounting Firm. 24** Powers of Attorney (included on the signature page). 31.1** Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2** Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
--------------- * Filed previously with the Company's Annual report on Form 10-K filed on March 1, 2005. ** Filed herewith. (b) Reports on 8-K The following reports on 8-K were filed during the three months ended on December 31, 2004:
DATE OF REPORT ITEMS REPORTED -------------- -------------- October 28, 2004 Earnings Release dated October 28, 2004, announcing financial results for the quarter ended September 25, 2004. October 28, 2004 Restated employment agreement with James M. Smith, Chairman, President and Chief Executive Officer, dated October 1, 2004
84 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report on Form 10-K/A to be signed on its behalf by the undersigned, its principal executive officer and principal financial officer, thereunto duly authorized. EDO CORPORATION (REGISTRANT) By: /s/ JAMES M. SMITH ------------------------------------ James M. Smith President and Chief Executive Officer By: /s/ FREDERIC B. BASSETT ------------------------------------ Frederic B. Bassett Vice President - Finance, Treasurer and Chief Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below on July 29, 2005 by the following persons on behalf of the Registrant and in the capacities indicated.
SIGNATURE TITLE --------- ----- * Chairman of the Board of Directors -------------------------------------- (Principal Executive Officer) (James M. Smith) * Director -------------------------------------- (Robert E. Allen) Director -------------------------------------- (Robert Alvine) * Director -------------------------------------- (Dennis C. Blair) * Director -------------------------------------- (Robert M. Hanisee) * Director -------------------------------------- (Michael J. Hegarty) * Director -------------------------------------- (Leslie F. Kenne) * Director -------------------------------------- (Ronald L. Leach)
85
SIGNATURE TITLE --------- ----- * Director -------------------------------------- (James Roth) * Director -------------------------------------- (Robert S. Tyrer) * Director -------------------------------------- (Robert Walmsley)
A majority of the Board of Directors *By: /s/ LISA M. PALUMBO ------------------------------------------------ Lisa M. Palumbo Attorney-in-fact July 29, 2005 86