-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, VSbisoVeO2I8Ncc5IYQSxONVHU0tXwsuaPRu/X7Oux3GyvclNQ7T75tTJ1O1CIqC Ex07BOmmH/bZ0vYgY20Bnw== 0001021408-01-506115.txt : 20010830 0001021408-01-506115.hdr.sgml : 20010830 ACCESSION NUMBER: 0001021408-01-506115 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 14 CONFORMED PERIOD OF REPORT: 20010531 FILED AS OF DATE: 20010829 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PACIFIC AEROSPACE & ELECTRONICS INC CENTRAL INDEX KEY: 0000790023 STANDARD INDUSTRIAL CLASSIFICATION: ELECTRIC LIGHTING & WIRING EQUIPMENT [3640] IRS NUMBER: 911744587 STATE OF INCORPORATION: WA FISCAL YEAR END: 0531 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 000-26088 FILM NUMBER: 1727201 BUSINESS ADDRESS: STREET 1: 430 OLDS STATION RD CITY: WENATCHEE STATE: WA ZIP: 98801 BUSINESS PHONE: 5096679600 MAIL ADDRESS: STREET 1: 430 OLDS STATION ROAD CITY: WENATCHEE STATE: WA ZIP: 98801 FORMER COMPANY: FORMER CONFORMED NAME: PCT HOLDINGS INC /NV/ DATE OF NAME CHANGE: 19950223 FORMER COMPANY: FORMER CONFORMED NAME: VERAZZANA VENTURES LTD DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: VERAZZANA VENTURES SYSTEMS LTD DATE OF NAME CHANGE: 19890618 10-K405 1 d10k405.txt FORM 10-K405 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended May 31, 2001 [_] 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 0-26088 PACIFIC AEROSPACE & ELECTRONICS, INC. (Exact name of registrant as specified in its charter) Washington 91-1744587 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 430 Olds Station Road, Third Floor Wenatchee, Washington 98801 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (509) 667-9600 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered ------------------- ----------------------------------------- None None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.001 par value (Title of class) Common Stock Purchase Warrants (Title of class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___ --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] State the aggregate market value of the voting stock held by non-affiliates, based on the closing price for the registrant's common stock on the Nasdaq National Market System, as of August 10, 2001: approximately $4,592,180. Indicate the number of shares outstanding of each of the registrant's classes of common equity, as of August 27, 2001: common stock, $.001 par value: 39,315,309 shares. Documents Incorporated by Reference: Part III - Portions of the registrant's definitive proxy statement to be issued in conjunction with registrant's 2001 annual meeting of shareholders. Exhibits - Certain Exhibits referred to on the list of Exhibits, contained in Item 14 of this report. TABLE OF CONTENTS -----------------
Item of Form 10-K Page - -------------------------------------------------------------------------------------- PART I Item 1 - Description of Business............................................. 1 Item 2 - Description of Property............................................. 28 Item 3 - Legal Proceedings................................................... 29 Item 4 - Submission of Matters to a Vote of Security Holders................. 29 PART II Item 5 - Market for Common Equity and Related Shareholder Matters............ 30 Item 6 - Selected Financial Data............................................. 36 Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations....................... 38 Item 7A - Quantitative and Qualitative Disclosures About Market Risk.......... 51 Item 8 - Financial Statements................................................ 52 Item 8A - Selected Quarterly Financial Data................................... 91 Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosure................................. 93 PART III Item 10 - Directors and Executive Officers of the Company..................... 94 Item 11 - Executive Compensation.............................................. 94 Item 12 - Security Ownership of Certain Beneficial Owners and Management............................................... 94 Item 13 - Certain Relationships and Related Transactions...................... 94 Item 14 - Exhibits, Financial Statement Schedules and Reports on Form 8-K..... 95 SIGNATURES..................................................................... 103
(i) PART I ITEM 1. DESCRIPTION OF BUSINESS Overview Pacific Aerospace & Electronics, Inc. is an engineering and manufacturing company with operations in the United States and the United Kingdom. We design, manufacture and sell components and subassemblies used in technically demanding environments. Products that we produce primarily for the aerospace and transportation industries include machined, cast, and formed metal parts and subassemblies, using aluminum, titanium, magnesium, and other metals. Products that we produce primarily for the defense, electronics, telecommunications and medical industries include components such as hermetically sealed electrical connectors and instrument packages, and ceramic capacitors, filters and feedthroughs. Our customers include global leaders in all of these industries. We are organized into three operational groups: U.S. Aerospace, U.S. Electronics, and European Aerospace. Each of these groups is composed of a number of operating divisions. Pacific Aerospace has struggled financially since late 1998, when the commercial airplane industry suffered a downturn at approximately the same time that we incurred high-cost, high-yield debt to finance the acquisition of our European Aerospace Group. We reported a net loss of $75,720,000 for our fiscal year ended May 31, 2001. This followed net losses of $13,049,000 and $12,869,000 for our fiscal years ended May 31, 2000 and May 31, 1999, respectively. Approximately $53.8 million of the net loss reported for fiscal 2001 related to non-cash impairment charges and a write-off of deferred tax assets. As of May 31, 2001, we had approximately $64 million in principal amount of 11 1/4% senior subordinated notes and approximately $13.7 million in principal amount of 18% senior secured debt outstanding. For our fiscal year ended May 31, 2001, we had net sales of approximately $109 million, with our European Aerospace Group contributing approximately $52 million in net sales. In October 2000, we announced our intention to sell our European Aerospace Group in order to reduce our outstanding debt. Although we are actively pursuing the sale of that group, we have not reached an agreement to date with any prospective purchaser, and we do not know whether we will be successful in selling the group. If we are successful in selling the group, we do not know the amount of net proceeds that would be available to reduce our outstanding debt. In March 2001, we announced a plan to restructure our operations by shrinking our aerospace business through downsizing and divestiture of non-core, low- margin and unprofitable business units. We have been implementing this plan to streamline our operations and focus our attention and resources on growing our technology-based electronics businesses. As part of this plan, we closed the fabrication operations of our U.S. Aerospace Group's Engineering & Fabrication Division in Sedro-Woolley, Washington, in April 2001 and sold the assets related to those operations in May 2001. In addition, we shut down the Tacoma, Washington, operations of our U.S. Aerospace Group's Casting Division in November 2000 and sold the assets of the division's Entiat operation in June 2001. We also sold the relay business of our U.S. Electronics Group's Display Division in March 2001. On August 1, 2001, we announced that we did not make an approximately $3.6 million interest payment on our 11 1/4% senior subordinated notes that was due on that date. Under the indenture governing the 11 1/4% senior subordinated notes, the Company has a 30-day grace period in which to make the interest payment before an event of default occurs. We will not be able to make the payment 1 before expiration of the 30-day grace period on August 31, 2001. We are currently in negotiations with the holders of approximately 98% of the 11 1/4% senior subordinated notes regarding a possible restructuring of the Company's debt and equity structure. References in this Form 10-K to the Company include Pacific Aerospace & Electronics, Inc., and its subsidiaries. Our headquarters are located at 430 Olds Station Road, Third Floor, Wenatchee, Washington 98801, and our telephone number is (509) 667-9600. 2 Corporate History We acquired all but one of our divisions in a series of acquisitions that began in 1990. We accounted for each of the acquisitions as a purchase. The following chart identifies, as of May 31, 2001, our three operational groups, the operating divisions that comprise those groups, the year of each acquisition, and the locations of our operations. In March 2001, we announced a plan to restructure our operations by shrinking our aerospace business through downsizing and divestiture of non-core low-margin and unprofitable business units. We intend to streamline our operations and focus our attention and resources on growing our technology-based electronics businesses. As part of this plan, we closed our fabrication operations in Sedro-Woolley, Washington in April 2001 and sold the assets related to those operations in May 2001. In addition, we sold the relay business of our U.S. Electronics Group's Display Division in March 2001, and we sold the assets of our U.S. Aerospace Group's Casting Division in June 2001. We have also announced our intention to sell our European Aerospace Group. This Annual Report on Form 10-K relates to the fiscal year ended May 31, 2001. The description of the Company's business in this report focuses on the operations as they were organized during most of 2001.
- ------------------------------------------------------------------------------------------------------------------------------------ Location as of Year Acquired May 31, 2001 Recent Changes - ------------------------------------------------------------------------------------------------------------------------------------ U.S. ELECTRONICS GROUP - ------------------------------------------------------------------------------------------------------------------------------------ Interconnect Division 1990 and 1998 Wenatchee, Washington N/A - ------------------------------------------------------------------------------------------------------------------------------------ Filter Division 1995 Wenatchee, Washington N/A - ------------------------------------------------------------------------------------------------------------------------------------ Bonded Metals Division 1997 Sequim, Washington N/A - ------------------------------------------------------------------------------------------------------------------------------------ Display Division 1998 Vancouver, Washington Being moved to Wenatchee, Washington; target completion date 8/31/01. Assets of relay business sold in March 2001. - ------------------------------------------------------------------------------------------------------------------------------------ Applied Technology Division N/A * Wenatchee, Washington N/A - ------------------------------------------------------------------------------------------------------------------------------------ U.S. AEROSPACE GROUP - ------------------------------------------------------------------------------------------------------------------------------------ Casting Division 1995 and 1998 Entiat, Washington Entiat assets sold in June and 2001. Tacoma, Washington Tacoma foundry shut down in November 2000. - ------------------------------------------------------------------------------------------------------------------------------------ Machining Division 1994 and 1995 Wenatchee, Washington N/A - ------------------------------------------------------------------------------------------------------------------------------------ Engineering & Fabrication Division 1999 and 2000 Sedro-Woolley, Washington Sedro-Woolley operations and Edmonds, Washington closed in April 2001 and assets sold in May 2001. - ------------------------------------------------------------------------------------------------------------------------------------ EUROPEAN AEROSPACE GROUP - ------------------------------------------------------------------------------------------------------------------------------------ Casting Division 1998 Sittingbourne, England N/A Rochester, England and Worcester, England - ------------------------------------------------------------------------------------------------------------------------------------ Forming Division 1998 Welwyn Garden City, England N/A and Birmingham, England - ------------------------------------------------------------------------------------------------------------------------------------
* We formed the Applied Technology Division through internal expansion in fiscal 2000. 3 Business Strengths Significant Customer Base We have a strong, diverse international customer base, which includes many of the world's leading companies. Our customers over the past year have included companies such as: Advanced Bionics Corporation, Aeronautical Macchi Manufacturing Corporation ("Aermacchi"), Agilent Technologies, Inc., BAE SYSTEMS plc ("BAE Systems"), Goodrich Corporation's Aerostructures Group ("Goodrich", formerly known as BFGoodrich Company), The Boeing Company ("Boeing"), European Aeronautic Defence and Space Company N.V. ("EADS"), GKN Westland Aerospace, Inc. ("GKN Westland"), Honeywell International Inc. Lockheed Martin Corporation, Northern Telecom Ltd. ("Northern Telecom"), Vought Aircraft Industries, Inc. ("Vought", formerly Northrup Grumman Corporation's commercial aerostructures group), Paccar Inc. ("PACCAR"), Parker Hannifan Corporation, Raytheon Company ("Raytheon"), Rolls-Royce plc ("Rolls-Royce"), and TRW Inc. Diversity of Product Offerings and Capabilities We design and manufacture a broad range of precision cast, formed, machined, finished, and fabricated metal products, as well as a broad range of specialized electronics components and sub-assemblies. We collaborate with many of our customers to develop products that meet specific design or customization requests. We believe that one of our key strengths is our ability to provide integrated solutions to our customers. We also believe that our experience and capabilities in providing specialty processes and working with the changing needs of our customers will be beneficial in allowing us to respond to changing market trends in the industries that we already serve and responding to the needs of customers in new markets. Strong Position in Major Aerospace and Defense Programs We supply components, parts and assembly tooling to Boeing for each of Boeing's 737, 747, 757, 767 and 777 commercial aircraft construction programs and to members of the Airbus consortium for Airbus' A300/310, A318-A321 and A330/340 commercial aircraft construction programs. In addition, we participate in major defense and military aircraft programs in the U.S. and Europe. Strong Technology Position We utilize specialized manufacturing techniques, advanced materials science, integrated design, process engineering, and proprietary technologies or processes in the design and manufacture of our products. Our U.S. Electronics Group alone owns 23 U.S. patents and has applied for two additional U.S. patents, and uses a combination of patented technology, trade secrets and other proprietary technology in the manufacture of state-of-the-art electronic components and packages. Our U.S. Aerospace Group has a broad base of expertise in precision machining. The group's Engineering & Fabrication Division employs a sophisticated group of professional engineers, who specialize in turn-key design and build, machine designs, engineering research and development, and total system engineering. Our European Aerospace Group has specialized expertise in casting aluminum and magnesium products using sand and investment casting techniques and its licensed "Sophia Process" casting technology. The group also has expertise in superplastic forming of titanium sheet and stretch forming of aluminum sheet. We are continually working to develop new proprietary technologies, and, in addition to the numerous 4 patents that we own or have pending, we maintain an ongoing program of evaluating and protecting our proprietary rights and processes. Strategies Our objective is to be a world class manufacturer that generates profitable growth by integrating manufacturing processes, introducing new products, and developing new customers in targeted markets. We believe that pursuing the following business strategies will enable us to increase market penetration, create operating efficiencies, and enhance our competitive position. Integrate and Consolidate Operations During the 2001 fiscal year, we aggressively integrated and consolidated our operations and, where necessary, shut down and sold unprofitable and non-core operations. We currently plan to focus our growth efforts internally to integrate manufacturing processes, develop and refine our proprietary technologies and new products, expand sales and marketing efforts, and enhance engineering and value-added processes. By doing so, we expect to reduce costs and increase operating efficiencies, while providing more complete and faster solutions to our customers. Enhance Sales and Marketing Functions During the 2001 fiscal year, we evaluated our sales and marketing systems and performance and determined that changes were required to be able to successfully accomplish our goals. As a result of this reevaluation, we have eliminated our centralized marketing department and refocused each of our divisions on sales and marketing. We coordinate the divisions' efforts through regular meetings to ensure that we have the capability to combine the technologies and manufacturing abilities of our different divisions to meet our customers' needs for more complete systems. Offer Complete Solutions At the same time, we have continued to vertically integrate our manufacturing processes, with the goal of improving operating efficiencies and increasing profit margins. A key component of this strategy is to use our expertise in advanced materials science and in the manufacture and assembly of precision products to identify new products, services, technologies and markets and to provide customers with total solutions, from design to assembly. Commercial aircraft manufacturers, defense contractors, and leading manufacturers in other industries are continuing to move toward purchasing from a smaller number of suppliers that can supply more integrated systems and pre-assembled parts. By producing products that integrate our various areas of expertise, we hope to improve profit margins and position the Company to capture a larger share of our customers' total product requirements. Diversify Customer Base We believe that two keys to our long-term success will be diversification of our customer base and expansion of our proprietary technologies into new markets. We have always believed that our proprietary technologies give us advantages that many of our competitors do not have. We do not just make parts based on a drawing - we are able to provide design, modeling and prototyping services to our customers, as well. To further these efforts, we formed our Applied Technology Division in fiscal 2000. At the same time that our older divisions, such as the Machining Division, have been expanding outside their historical roles into new industries, the Applied Technology Division has been exploring 5 opportunities to supply components to industries such as the fuel cell and advanced medical products industries. As a result of these efforts, we plan not only to reduce our reliance on the cyclical aerospace industry, but also to become an important part of emerging industries. Industry Overview Aerospace Since 1998, previously favorable trends in the commercial aerospace industry have been tempered by the Asian financial crisis, efforts by airlines and airplane manufacturers to reduce costs, and other events, but industry analysts and aircraft manufacturers still expect overall growth in air traffic patterns and the demand for new aircraft. Demand for aerospace components is closely related to delivery and use rates for commercial aircraft. Delivery and use rates are in turn directly related to the actual and projected volume of passenger and freight traffic, average aircraft age, and global fleet size. According to the Boeing 1998 Current Market Outlook, world air traffic grew 6% from 1996 to 1997, following a 7% increase in the previous year. However, the Boeing 1999 Current Market Outlook reported that air travel in 1998 varied from the trend, particularly because of decreases in Asian air traffic. In 1999, Boeing revised its estimate for the growth rate of world air travel over the next ten years to a rate of approximately 4.7% per year. In Boeing's 2001 Current Market Outlook, Boeing estimated growth rate of world air travel over the next 20 years will be approximately 4.7% per year. Airbus forecasts a similar growth rate, of 4.9% per year. Boeing has also projected that the world jet fleet will grow to 32,955 passenger and cargo jets in 2020 and that the total market potential for new commercial airplanes between 2001 and 2020 is 23,460 airplanes. In 2000, Boeing delivered 489 new commercial aircraft, compared to 620 new commercial aircraft in 1999 and 563 in 1998. In 2000, Airbus delivered 311 new commercial aircraft, compared to 294 in 1999 and 229 in 1998. Boeing has announced that it delivered 305 commercial aircraft through July 31, 2001, as compared to 275 delivered through July 31, 2000. As of July 31, 2001, Boeing had received orders in 2001 for 192 commercial aircraft, as compared to orders for 342 commercial aircraft during the same period of 2000. Total Boeing orders in 2000 and 1999 were 611 and 391, respectively. As of July 31, 2001, Airbus had announced orders in 2000 for 318 commercial aircraft. Airbus had total orders for 520 aircraft in 2000. As in other transportation segments, aircraft manufacturers and defense contractors have been aggressively searching for ways to improve the quality and reduce the cost of their manufactured products. One major area of focus has been the manner in which they work with their supply base. Aircraft manufacturers and defense contractors have increasingly become product designers and assemblers rather than vertically integrated manufacturers. As a result, these manufacturers are outsourcing component manufacturing to independent suppliers, seeking to benefit from an independent supplier's lower cost structure and specialized manufacturing knowledge. Suppliers that demonstrate an ability to effectively deliver a high quality product on the required delivery schedule at a reasonable cost will benefit from this shift. In addition, commercial aircraft manufacturers are tending, and defense contractors are being strongly encouraged by the U.S. Department of Defense, to purchase from suppliers that can supply more integrated systems and pre-assembled parts. These shifts are leading to a consolidation in the supply base. Certain segments of the aerospace supply base are already consolidated, such as engines, avionics and landing gears. Other segments, however, including 6 structural components and electronics, remain fragmented. The Company believes that this trend toward consolidation presents an opportunity for suppliers with the financial and management resources to meet their customers' needs. Electronics The electronics industry is enjoying growth in the Company's specific sectors, and researchers expect the sector to continue to grow through at least 2004. Growth in the high reliability electronics industry has been fueled by several factors, including the rapid pace of technological advancement and development of new satellite and telecommunications products. The growth in demand by these sophisticated customers has induced manufacturers to create more complex designs of lighter, more efficient configurations and higher levels of performance. Additionally, international demand for advanced electronics components is growing rapidly as these new developments enter the arena of available solutions. The electronics industry is experiencing a dynamic period of mergers and acquisitions, with BAE Systems buying a Lockheed Martin Sanders division, Raytheon acquiring Hughes divisions, Northrop Grumman purchasing Litton Guidance & Controls, and DRS purchasing Texas Instruments divisions, to list a few. Each of these transactions offered the Company new opportunities to experience expanded positive exposure within our technology niche. Many of these industry leaders are involved with the Company in multi-year programs that we expect to continue for several years. When balanced against the recent slowdown and significant reductions in the telecommunications industry, we expect these opportunities to result in modest growth in the Company's U.S. Electronics Group. Products, Processes and Markets Our products, manufacturing processes and markets in fiscal 2001, and the industry segments in which we operated during fiscal 2001, are summarized below. As noted, we have experienced some changes since the latter part of fiscal 2001. We sold the relay business of the U.S. Electronics Group's Display Division in March 2001. We shut down the Tacoma operations of the U.S. Aerospace Group's Casting Division in November 2000 and sold the assets of its Entiat operations in June 2001. In addition, we shut down the fabrication operations of the U.S. Aerospace Group's Engineering & Fabrication Division in April 2001, and sold its assets in May 2001. For financial information about operational segments and geographic areas, see "Notes to Consolidated Financial Statements - Note 5" in the Company's consolidated financial statements for May 31, 2001. 7
- ------------------------------------------------------------------------------------------------------------------------------------ Manufacturing Segment Group Division Processes Sample Products - ------------------------------------------------------------------------------------------------------------------------------------ - ------------------------------------------------------------------------------------------------------------------------------------ U.S. Interconnect Design and manufacture Electronic connectors, packages and assemblies with Electronics ceramic and glass hermetic seals ------------------------------------------------------------------------------------------------------ Filter Design and manufacture Ceramic discoidal electromagnetic filters and E capacitors L ------------------------------------------------------------------------------------------------------ E Bonded Metals Explosive bonding and Metallurgically welded metals for use in C forming of dissimilar electronic connectors and assemblies T metals R ------------------------------------------------------------------------------------------------------ O Display Design and manufacture Sunlight readable displays; EMI filters; ruggedized N displays; relays and solenoids I C (Relay operations sold in March 2001) S ------------------------------------------------------------------------------------------------------ Applied Design and manufacture Medical product components; fuel cell components Technology - ------------------------------------------------------------------------------------------------------------------------------------ Casting Sand; lost foam; and Aircraft and truck parts permanent mold casting (Tacoma foundry A shut down in E November 2000) R O (Entiat assets S U.S. sold in June P Aerospace 2001) A ------------------------------------------------------------------------------------------------------ C Machining Precision machining Aircraft parts; medical E and assembly products; industrial products ------------------------------------------------------------------------------------------------------ Engineering & Design; metal Tooling and structures for aircraft manufacture; Fabrication fabrication aviation tool design; factory integration and automation; aircraft flight structure design (Fabrication operations shut down in April 2001; assets sold in May 2001) ----------------------------------------------------------------------------------------------------------------------- Forming Hot and superplastic Jet engine bulkhead components; airframe and engine titanium forming; cold details; aircraft skin panels; leading edges European stretch aluminum Aerospace forming ------------------------------------------------------------------------------------------------------ (Currently Casting Sand casting; Aircraft parts; aircraft engine parts; high for sale) investment casting; performance motorsport engine and gearbox parts Sophia casting; machining - ------------------------------------------------------------------------------------------------------------------------------------
8 The following chart shows the percentage of total revenue from each division for the past three fiscal years.
- ----------------------------------------------------------------------------------------------- Segment Group Division Years Ended May 31, - ----------------------------------------------------------------------------------------------- 1999 2000 2001 ----- ----- ----- - ----------------------------------------------------------------------------------------------- E U.S. Interconnect 13.30% 12.80% 14.50% L ---------------------------------------------------------------------- E Electronics Filter * * * C ---------------------------------------------------------------------- T Bonded R Metals * * * O ---------------------------------------------------------------------- N Display * * * I ---------------------------------------------------------------------- C Applied N/A * * S Technology - -------------------------------------------------------------------------------------------------- A Casting 12.60% 12.80% * E ---------------------------------------------------------------------- R U.S. Machining 16.30% * 11.10% O ---------------------------------------------------------------------- S Aerospace Engineering P & N/A * * A Fabrication C ----------------------------------------------------------------------------------------- E European Forming 25.10% 24.90% 21.50% ---------------------------------------------------------------------- Aerospace Casting 24.10% 25.60% 25.70% - --------------------------------------------------------------------------------------------------
* Less than 10% U.S. Electronics Group Our U.S. Electronics Group develops, designs and produces a diverse array of components, ranging from tiny implantable medical devices to aircraft cockpit displays and huge components for the Space Shuttle main engine. Virtually all of our products are created to withstand the rigors of some hostile environment. Inter-divisional synergy is very important to the U.S. Electronics Group, as it permits us to develop and produce unique products and technologies. For example, the patented application of the group's Bonded Metals Division is at the very heart of the Interconnect Division's lightweight hermetic technology. 9 Interconnect Division In Wenatchee, Washington, our Interconnect Division designs and produces lightweight, hermetically sealed electronics housings and components for the space, medical, energy and military markets. Utilizing proprietary sealants such as our Kryoflex(R) ceramic and other patented and proprietary technologies, the division is known as a supplier of some of the most durable products on the market today. Applications include many high profile projects, such as the International Space Station, the Javelin Missile, the Longbow Missile, the F-15, F-18 and F-22 current production military aircraft, the THAD Missile and the Joint Strike Fighter aircraft. Utilizing our proprietary and patented ceramic joining technologies, the Interconnect Division has developed and continues to develop innovative solutions for components used in a number of medical applications. For example, we make components for implantable neuro-stimulators for the management of such maladies as incontinence, epilepsy, Hodgkins disease, loss of muscle control, and chronic pain. Other medical component applications include a zirconia/titanium housing for a cochlear implant device, implantable defibrillator components, a left ventricular assist device, and artificial heart components. The "state of the art" machining capability within the Wenatchee facility allows us to comply with the very precise tolerances (up to 1/10,000 inch) needed for the production of satellite, avionics and missile components. When combined with the application of our proprietary Kryoflex(R) ceramic sealant, this capability allows the Company to produce extremely rugged electronic connectors for applications such as the oil industry where "down hole" temperatures exceed 400 degrees Fahrenheit and pressures exceed 30,000 pounds per square inch. Kryoflex(R) is available in several formulations that are selected according to the materials to be joined and conditions to be endured. With our new (patent granted in 2001) metal matrix composite packaging technology, we have undertaken projects for the military radar industry, with current projects in both naval and airborne radar applications. Providing the required features of light weight, thermal conductivity and hermeticity, these systems are utilized within the latest Aegis class cruisers, as well as the F-18 and F-22 aircraft, in preference to the traditional materials, which have both higher weight and significantly higher cost. Initial market responses indicate that this new and unique patented technology may provide significant growth opportunities in the future. The Interconnect Division holds a certificate of registration to the ISO 9001 standard. The division has also received a compliance certificate to the AS 9000 standard. The ISO 9001 and the AS 9000 standards are internationally recognized certifications of quality. AS 9000 is the more demanding aerospace quality management system standard. The registration process requires a company to: (1) document and implement a quality management system that meets or exceeds all of the requirements of the standards, (2) choose an accredited registrar (in our case, TUV Essen), (3) have a full quality management system audit conducted by an accredited registrar, and (4) identify and correct any issues that arise during the audit. Filter Division Our U.S. Electronics Group's Filter Division designs and manufactures very small, specialized multilayer discoidal (round) ceramic capacitors and EMI (electro-magnetic interference) filters for the electronics industry. Traditionally specializing in high reliability devices for the military and aerospace industries, the Filter Division has enjoyed significant recent success in the telecommunications industry 10 as well. During the past year, the Filter Division has released to market a series of high current EMI filters that represent the smallest 25, 50 and 100 amp EMI filters available on the market today. This is a significant advantage to power applications requiring high current and high package density. The Filter Division is also producing components for the heart pacer industry. During the past year, we have made significant progress in the area of labor reducing automation. Fully automatic testing stations and computerized numerical control ("CNC") turning stations are in use in our facility today due to this in house development. This division also produces some very specialized filter components for use by the Interconnect Division. The division has received a number of military and industry qualification ratings. The division also holds a certificate of registration to the ISO 9001 standard and a compliance certificate to the AS 9000 standard. Bonded Metals Division Our U.S. Electronics Group's Bonded Metals Division, located in Sequim, Washington, produces a wide variety of explosively bonded dissimilar metals, as well as other complex metal forms and conditions. Applications of this explosively bonded technology range from components for surgical instruments, such as endoscopes, to "sputtering targets" utilized for vapor deposition of exotic metals onto critical surfaces such as semiconductor devices, to mirrors for medical or spacecraft uses. One major application for these products is in the marine field, where they provide a solution to the ageless problem of galvanic corrosion. The Bonded Metals Division utilizes explosive metal forming to produce components for jet aircraft engines, rocket nozzle components for the Space Shuttle, and complex aircraft chassis components. The Bonded Metals Division is the only known U.S. source for explosive metal forming at this time. Shock hardening (a type of work hardening) of metals is another important product of the Bonded Metals Division. Products include railroad intersection components that are hardened to extend their service life and cutting teeth for tunnel boring machines. Future plans for this division include moving operations to the Wenatchee area to capitalize on the consolidation of services. We currently plan to proceed with this relocation process as soon as an acceptable remote blast site is located and secured. Display Division Flat Panel Displays. The Display Division designs and manufactures enhancements for liquid crystal displays (LCDs) intended for use in a wide variety of hostile environments. Enhancement features include optical filters to minimize the effect of high ambient light sources, such as direct sunlight, for improved contrast, EMI filters to protect sensitive electronic instruments from unwanted electrical interference, and vandal shields to protect the LCD itself from physical abuse. Other options include heater elements for low temperature applications (up to -40 Celsius), touch sensors, and high efficiency backlights. Filter elements and vandal shields consisting of special technical grade glasses are very carefully bonded directly to the LCD with characteristically matched and selected epoxies. Applications for these complex total solution enhancements include such harsh environments as aircraft cockpit displays, in- flight entertainment systems, air traffic control towers, all weather outdoor kiosks, emergency vehicles, medical instruments, commercial trucking, and marine GPS (global positioning satellite) receiver units. The Display Division has been selected to be a strategic "value added partner" with NEC Electronics, Inc., a world leader in display technology. This is a very prestigious relationship in the LCD community. The division's operations are compliant with ISO9002 and AS9000 quality systems. Relays and Solenoids. Until March 2001, the Display Division designed, manufactured and marketed electromechanical devices, such as relays, solenoids, sensors, electronic assemblies, actuators, and time 11 delays used in a wide variety of satellite, aircraft and military hardware applications. We sold these operations in March 2001. Applied Technology Division We formed the Applied Technology Division of our U.S. Electronics Group toward the end of fiscal 2000. The purpose of the division is to apply our proprietary and patented technologies to provide technical solutions to difficulties faced by high-tech manufacturers that are challenged by extreme environmental conditions, primarily in the fuel cell and implantable medical products industries. The division is focusing on providing solutions in the areas of diffusion bonding, ceramic/metals joining, exotic metals composites, interconnect stability, and thermal stress distribution with biocompatible materials. In the fuel cell area, the division develops and manufactures processes for the assembly of fuel cells stacks, heat exchangers and fuel reformers for pem and solid-oxide fuel cells. The division also has applied our zirconia-metal fusion technology to the manufacture of a solid-oxide electrolyzer for use in space exploration. Additional research is being performed on planar fuel cell stacks. The division has also used the zirconia- metal fusion technology to assist a manufacturer of neurostimulator devices in overcoming technological barriers. We have produced titanium-copper-molybdenum composite electronic enclosures and applied for a patent related to this technology. This technology allows us to produce lighter, more durable electronics packages with improved thermal conductivity. The Applied Technology Division is still in its infancy, but our goal is to expand this division by leveraging and finding new applications for our existing and new materials science and emerging manufacturing technology developments. U.S. Aerospace Group Machining Division Our U.S. Aerospace Group's Machining Division operates a precision machine shop in Wenatchee, Washington that produces precision machined components, structural parts and assemblies principally from aluminum, titanium, stainless steel and explosively bonded metals. The Machining Division manufactures machined and sheet metal parts and assemblies that are used for primary and secondary flight components within aircraft. The division uses CNC machining cells to manufacture particularly complex components and assembly housings and also provides value-added services, such as painting and electroplating. The division builds its machined products either to customer specifications or according to an engineering and tooling design developed by the division to suit a customer's particular need. The division is directly linked by computer to Boeing to allow immediate access to the drawings for Boeing parts. The division inspects and tests its machined products at various stages of production using non-destructive methods such as X-ray, ultra-sound, manual and computerized measuring instruments, eddy current, and dyes before the products are passed for shipment to the customer. The division often supplies its precision machined parts on a "just in time to point of use" basis. The Machining Division has historically supplied nearly all of its products to the commercial aerospace and defense industries. However, the division's sales and profitability are affected significantly by fluctuations in the aerospace industry. As a result, we believe it is important to reduce the division's dependence on aerospace work. During fiscal 2001, the Machining Division began targeting and receiving orders from other industries that have a need for high technology precision machining, such as the medical and semiconductor equipment industries. We are continuing to look for ways to offer our capabilities to leaders in these new markets. 12 The division's operations are DI-9000A Boeing approved. The division has also been audited and has received its certificate of registration to the ISO 9002 standard and has received its compliance certificate to the AS 9000 standard. The division has won numerous quality and service awards from customers. Engineering & Fabrication Division Our Engineering & Fabrication Division, located in Mountlake Terrace, Washington, provides turnkey aerospace design solutions, primarily for the commercial aerospace and defense markets. Our products include static tooling, automated manufacturing systems, flight structures, and other related commodities. Our business niche includes specialized products, such as laser alignment and positioning systems, industrial transporters, guidance systems, and automated drilling and fastening systems. In addition, a new business unit, involving the design and development of aircraft flight structures, has been added to complement our suite of capabilities. With focus on lean manufacturing methods and efficient design practice, we believe that this venture offers high value to our customers and positions us well for strategic growth. Our engineering staff includes highly experienced mechanical engineers, electrical engineers, automation engineers, and programmers. We have extensive CAD design capability (CATIA, UG and Autocad), as well as advanced virtual simulation competency, using Delmia-Igrip. Our stress engineers are well versed in the latest Finite Element Analysis software. We have also developed a staff of trained project managers. Casting Division Until June 14, 2001, our U.S. Aerospace Group's Casting Division designed and manufactured precision cast aluminum parts using permanent mold, sand, and lost foam casting technologies in Entiat, Washington. In addition, until November 30, 2000, the division designed and manufactured aluminum, bronze, iron, and steel parts using sand casting technology in Tacoma, Washington. The division's cast parts were sold principally to the transportation and aerospace industries. We closed our Tacoma facility as of November 30, 2000, and we sold the assets of our Entiat operations on June 14, 2001. European Aerospace Group Forming Division At our Welwyn Garden City and Birmingham facilities in England, our European Aerospace Group's Forming Division uses hot and cold metal forming technologies to manufacture titanium and aluminum assemblies and details for the commercial aerospace and defense industries. The division also performs finishing, welding, brazing and riveting processes on these parts. Testing of products is done using non-destructive techniques and in-house X-ray facilities. Interactive discussions with customers enable the division to closely match component design to the most suitable forming process. The division is approved to the ISO 9002 standard. Hot and Superplastic Forming of Titanium. Our Welwyn Garden City facility specializes in hot and superplastic forming of titanium, and we believe it has the largest independent capability in the European Union for that process. Unlike most sheet metal materials, titanium and its alloys are extremely difficult to form in a cold condition. To overcome this, we have developed a variety of hot 13 forming processes, including hot die forming, hot brake press forming, superplastic forming, gas blow forming, and hot circular stretch-forming. These processes maximize weight savings, maintain structural integrity, minimize cost, and enable the designer to manipulate the developing alloys into complex shapes. The forming equipment consists of a range of 21 hot forming and superplastic forming presses with tonnage from 150 to 1500 tons. Most forming tools are machined from oxidation resistant nickel chrome steel castings weighing up to four tons. The division designs the necessary tooling using its in-house pattern facility. The division also has the capability to chemically mill three- dimensional components in titanium. We market the division's hot-formed titanium products primarily to the commercial aircraft, helicopter and military aircraft markets. The division's titanium products include jet engine Nacelle bulkhead components, airframe and engine details, and erosion shields for helicopters. The division's titanium products are included on the Airbus model A318-321 and A330/340 aircraft, the Boeing model 737 aircraft, the Dash 8-400 aircraft, the Embraer 135 and 145 aircraft, and the Dornier 728 aircraft. Cold Forming of Aluminum Alloys. At our Birmingham facility, our European Aerospace Group's Forming Division specializes in the stretch and cold forming of aluminum alloys used for aircraft skin panels, leading edges and acoustic panel liners. Stretch forming is a process well suited to producing aircraft skin panels and leading edges. Specialized equipment in the Birmingham facility has the capability to form sheets up to 8 feet wide and up to 13 feet long, with stretching loads of up to 700 tons being applied. Most tools are machined from oxidation-resistant stainless steel castings, and forming dies up to four tons can be handled. Together with specialist gripper jaws and rotational platen, this enables the division to stretch-form aluminum alloys into a wide variety of shapes and sizes. The division's capabilities extend from design to completion, including tooling design and manufacture, forming, chemical milling, trimming, assembly, and quality control. We market the division's formed aluminum alloy products primarily to the aerospace market. Casting Division In Rochester, Worcester and Sittingbourne, England, our European Aerospace Group's Casting Division manufactures aluminum investment castings and aluminum and magnesium precision sand castings. The division is approved to the ISO 9002 standard. Precision Investment Casting. At our Worcester, England facility, our European Aerospace Group's Casting Division manufactures aluminum investment casting products, including aircraft and defense system components such as electronic enclosures, aircraft engine outer guide vanes, navigation lights, wing tip fences, winglet components, duct stators, and heads up display units. At our Rochester, England facility, the division manufactures aircraft components such as pressure tight fuel connectors. The versatility, accuracy and replicability of the investment casting process provides many advantages over more traditional methods of machining and fabricating metal products from solid components. The investment casting process uses a metal die manufactured to required specifications. The division's precision tooling capabilities permit production of metal dies that incorporate a variety of details and features. A die can be reused to produce the required number of parts without degradation to the original die. The division's production of the die gives the customer an incentive to order additional units of the part from the Company. Sophia Process Investment Casting. The continual pursuit of product improvement and cost reduction campaigns has led to the installation and efficient utilization of the licensed Sophia casting process at our Worcester facility. Our European Aerospace Group's Casting Division is one of only four licensees of the computerized "Sophia Process," which the division uses to manufacture significantly 14 larger, more complex castings than can be made as a single part using more traditional investment casting processes. Using this technology, the division can produce components up to 1.3 cubic meters in one piece. This process capability, coupled with the development of new and patented alloys, creates a significant opportunity to provide customers with an additional and economic choice when selecting between a machined, fabricated, composite, or cast structure. Parts made with the Sophia Process have relatively thin wall thickness but have strength and ductility values comparable to fabricated, forged and machined solid components. The Sophia Process stringently controls the heat level and process parameters to make lighter but stronger components that resist fracture and fatigue. The process reduces machining, fabrication and assembly costs by eliminating both doublers at material interfaces and the weakness and stress associated with riveted assemblies. The division uses high strength alloys with good castability to ensure that the integrity and enhanced properties from one casting are identical to the next, and to achieve the desired combination of tensile strength, ductility and elongation. Parts made with the Sophia Process are used for the commercial aerospace, defense and transportation industries. Such applications include civil aircraft, military aircraft, missiles and underwater weapons applications and applications for the motorsport industry. Our European Aerospace Group uses the Sophia Process to produce components for the Airbus A320, A330 and A340 aircraft, such as navigation light housings and wing tip fences, as a single part, and to produce slat can wing components for Boeing's 737 aircraft. Sand Casting. At our Sittingbourne, England facility, our European Aerospace Group's Casting Division manufactures aluminum and magnesium alloy precision sand castings, including machined and finished parts for the commercial aerospace, defense and motorsport industries. Sand casting is suitable for products that are larger than typical investment casting parts. It is also suitable for products that require heavy wall sections. These products include aircraft engine heat exchangers and air intakes, aircraft engine fuel pump housings, aircraft windscreen canopies, and high performance motorsport engine components and gearboxes. For such customer requirements, sand casting provides an effective method of producing components with strength and uniformity. The division has made significant advances in both the process and materials technology for magnesium and aluminum sand castings. The division engineers patterns utilizing computer assisted design technologies to achieve repeatable high casting integrity and enhanced mechanical properties. The division has complete non-destructive testing and inspection facilities, such as dye penetrant flaw detection and X-ray testing of components, as required by the rigorous standards of the aerospace industry. Machining. Our European Aerospace Group also has a sophisticated machining center that supports the group's casting and forming operations. The group's machining facility has the technical capabilities to provide a full range of machining services for complete production and finishing of components, including design, pattern production, casting and final machining of a component. The machining facility also performs specialized machining of small detail components in steel and titanium. Proposed Sale. For our fiscal year ended May 31, 2001, we had net sales of approximately $109 million, with the European Aerospace Group contributing approximately $52 million in net sales. On October 31, 2000, we announced our intention to sell our European Aerospace Group in order to reduce our outstanding debt. As of May 31, 2001, we had approximately $64 million in principal amount of 11 1/4% senior subordinated notes and approximately $13.7 million in senior secured debt outstanding. Although we are actively pursuing the sale of the European Aerospace Group, we have not yet reached an agreement with any prospective purchaser, and we do not know whether we will be successful in selling that group. If we are successful, we do not know the amount of net proceeds that would be available to reduce our outstanding debt. We are required to pay our senior secured lenders at least $7.5 million upon the sale of our European Aerospace Group. We have received several bona- 15 fide preliminary and final offers to purchase the group. If these offers approximate the final negotiated sales price for the group and we obtain required consents to the sale, the offers indicate that we have incurred an impairment loss related to goodwill and equipment of approximately $37 million. Consequently, we recorded an impairment loss related to our European Aerospace Group goodwill of $25 million for the quarter ended February 28, 2001, and an additional impairment loss of $12 million related to goodwill and equipment for the quarter ended May 31, 2001. Sales and Marketing; Distribution We market our products using a combination of direct sales and outside sales representatives. In addition, we maintain internal customer service staff and engineering capabilities to provide technical support to customers. In the 2001 fiscal year, we transferred responsibilities for sales and marketing to each of our operating divisions. We also reviewed our outside sales representative networks and made changes in order to take advantage of synergies and conduct sales efforts more efficiently and effectively. Our U.S. Electronics Group markets its products in the United States, Europe and Asia through a network of manufacturer representatives and resellers, generally established on a geographic basis. Our U.S. Aerospace Group uses both an inside sales force and sales representatives focused on particular regions or customers. This group's marketing efforts have previously focused on the Western United States. Over the past two years, the group has expanded its marketing efforts beyond its traditional markets, into other regions of the United States and internationally. Our European Aerospace Group utilizes its own employee sales force for sales of its products to customers in the United Kingdom. This internal sales force is organized into two groups, one group responsible for sales of precision castings and one group responsible for metal formed products. The European Aerospace Group also uses independent agents to market its products to customers in countries other than the United Kingdom, including the United States. We believe that we have the opportunity to leverage customer relationships to supply more complete systems by providing products that combine the technologies and manufacturing abilities of our different groups. Consequently, we emphasize cross-selling and coordination of sales and marketing efforts between and among our operating groups. Customers Our top ten customers in terms of revenues during fiscal 2001 were Boeing, BAE Systems, Aermacchi, Northern Telecom, Rolls-Royce, GKN Westland, PACCAR, Raytheon, Goodrich, and Vought. Only the top two customers individually accounted for 5% or more of our revenues, with Boeing at approximately 12.5%, BAE Systems at approximately 8.8%. Together, our top ten customers accounted for approximately 50% of our sales during fiscal 2001. In fiscal 2001, we produced machined and cast metal aircraft components for Boeing and for BAE Systems. We do not have long-term contracts with most of our major customers, and our long-term contracts generally permit the customer to cancel their orders. We depend on our customers continuing to place orders for our products. Because of the relatively small number of customers for most of our products, our largest customers can influence product pricing and other terms of trade. If we were to lose any of our largest customers, or if they reduced or canceled orders, our business and financial performance could be harmed. Our U.S. Aerospace and European Aerospace Groups currently serve substantially different customer bases in similar markets. For example, the U.S. Aerospace Group supplies components and parts to Boeing for each of Boeing's 737, 747, 757, 767 and 777 commercial aircraft construction programs. The European Aerospace Group supplies components and parts for each of Airbus' A300/310, A320 family, and A330/340 commercial aircraft construction programs. The Company's sales have 16 historically been divided approximately equally between the United States and Europe. One of our goals has been to take advantage of our position in both the United States and European markets to provide access for our U.S. groups to customers in Europe, and access for our European group to customers in the U.S. Consequently, we have emphasized cross-marketing efforts between our European and U.S. groups. One of the outcomes of these efforts has been the success of our European Aerospace Group in obtaining work in the U.K. from Boeing. Backlog We sell the majority of our products through individual purchase orders. Many of our customers would have the right to terminate orders by paying the cost of work in process plus a related profit factor. Historically, we have not experienced a large number of significant order cancellations. However, from time to time, customers cancel orders as a result of a program being cancelled or for other reasons. As of May 31, 2001, we had purchase orders and contractual arrangements, excluding those at our U.S. Aerospace Group's Casting Division, evidencing anticipated future deliveries, which we treat as backlog, through fiscal year 2003 of approximately $65 million. We expect to deliver approximately $55 million of this backlog in fiscal year 2002. As of May 31, 2000, we had backlog through fiscal year 2001 of approximately $80 million, which included backlog of the U.S. Aerospace Group's Casting Division. We may not be able to complete all of that backlog and book it as net sales, if we experience cancellations of pending contracts or terminations or reductions of contracts in progress. Competition We have substantial competition in many of the markets that we serve. In the electronics markets, our competitors include Amphenol Corporation, Hermetic Seal Corporation, AVX Corporation, and Spectrum Control, Inc. In the hot and superplastic forming market, our primary competitor is Jet Die Barnes. Our competitors in the European sand casting market include SFU, Stones, Haleys, Hitchcock, and Teledyne. In the investment casting market, our competitors include the Cercast Group, Tital and Tritech. In the precision machining market, we compete with a number of regional machine shops. Many of these competitors have greater financial resources, broader experience, better name recognition and more substantial marketing operations than we have, and they represent substantial long-term competition for us. Our competitors can make components and products similar to those we make using a number of different manufacturing processes. We believe that our manufacturing processes, proprietary technologies and experience provide significant advantages to our customers. These advantages include high quality, more complete solutions, competitive prices, and physical properties that meet stringent demands. However, competitors can use alternative forms of manufacturing to produce many of the components and products that we make. These competing products could be of the same or better quality and price as those we produce. We expect our competitors to continue making new developments, and they could develop products that customers view as more effective or more economical than our products. In addition, our competitors may introduce automation processes and robotics systems that could lower their costs of production substantially. If we are not able to compete successfully against current and future competitors, and respond appropriately to changes in industry standards, our business could be seriously harmed. 17 Raw Materials Our European Aerospace Group obtains approximately 65% of its titanium from one supplier and is subject to a lead time of approximately 26 to 33 weeks in ordering and obtaining titanium. Recently, this lead time was as long as 65 weeks. While the European Aerospace Group generally has managed the ordering process to obtain titanium when needed, a labor strike at the supplier negatively affected the group's ability to obtain timely deliveries of titanium during fiscal 1999 and into the 2000 fiscal year. Although the shortage of titanium did not have a material adverse effect on our European Aerospace Group's business or on our overall financial condition, we lost some business due to customers' dual sourcing contracts, and some customer orders that were expected to be delivered in fiscal 1999 were delayed into fiscal 2000 and 2001. The effect of the strike emphasizes the fact that a failure to obtain titanium or other raw materials when we need them, or significant cost increases imposed by suppliers of raw materials such as titanium or aluminum, could damage our business and financial performance. We generally have readily available sources of all raw materials and supplies we need to manufacture our products and, where possible, we maintain alternate sources of supply. However, we do not have fixed price contracts or arrangements for all of the raw materials and other supplies we purchase. We have experienced in the past shortages of, or price increases for, raw materials and supplies, and shortages or price increases may occur again in the future. Future shortages or price fluctuations could have a material adverse effect on our ability to manufacture and sell our products in a timely and cost-effective manner. Proprietary Rights Significant aspects of our business depend on proprietary processes, know-how and other technology that are not subject to patent protection. We rely on a combination of trade secret, copyright and trademark laws, confidentiality procedures, and other intellectual property protection to protect our proprietary technology. However, our competitors may still develop or utilize technology that is the same as or similar to our proprietary technology. We have 28 U.S. patents, four U.S. patent applications pending (including one allowed application), one PCT International patent applications pending, three patent applications pending in non-U.S. jurisdictions, and one European patent enforceable in the U.K. We can provide no assurance that any of the patent applications will result in issued patents, that existing patents or any future patents will give us any competitive advantages for our products or technology, or that, if challenged, these patents will be held valid and enforceable. Most of our issued patents expire at various times over the next 15 years, with nine patents expiring over the next four years. These nine patents, as well as several other patents that recently expired, relate to products manufactured by our U.S. Electronics Group and constituted less than 1% of our consolidated revenue in fiscal 2001. Although we believe that the manufacturing processes of much of our patented technology are sufficiently complex that competing products made with the same technology are unlikely, our competitors may be able to design competing products using the same or similar technology after these patents have expired. Despite the precautions we have taken, unauthorized parties may attempt to copy aspects of our products or obtain and use information that we regard as proprietary. Existing intellectual property laws give only limited protection with respect to such actions, and policing violations of these laws is difficult. The laws of other countries in which our products are or may be distributed do not protect products and intellectual property rights to the same extent as do the laws of the United States. We could be required to enter into costly litigation to enforce our intellectual property rights or to defend 18 infringement claims by others. Infringement claims could require us to license the intellectual property rights of third parties, but licenses may not be available on reasonable terms, or at all. Environmental Matters Our facilities are subject to regulations concerning solid waste disposal, hazardous materials generation, storage, use and disposal, air emissions, waste water discharge, employee health and other environmental matters. A number of the metals, chemicals and other materials used in and resulting from our manufacturing processes are classified as hazardous substances and hazardous wastes. If we do not meet permitting and other requirements of applicable environmental laws, we could be liable for damages and for the costs of remedial actions. We could also be subject to fines or other penalties, including revocation of permits needed to conduct our business. Any permit revocation could require us to cease or limit production at one or more of our facilities, which could damage our business and financial performance. We have an ongoing program of monitoring and addressing environmental matters, and from time to time in the ordinary course of business we are required to address minor issues of noncompliance at our operating sites. From time to time, we identify operations or processes that lack required permits or otherwise are not in full compliance with applicable environmental laws. Although we believe these items have not been material to date, we maintain an environmental compliance team, and our policy is to take steps promptly to remedy any noncompliance. We have a policy of obtaining environmental assessment reports in connection with the acquisition of properties at which we believe historical operations could have caused adverse environmental conditions. We are not aware of any historical contamination on our properties or involving neighboring activities, except that until August 2001, we leased property in Tacoma, Washington that is located within a superfund site that has been the subject of regulatory action for several years. We have not been named as a potentially liable party for contamination associated with this superfund site, and we have no reason to believe that we will be so named. Environmental laws could become more stringent over time, imposing greater compliance costs and increasing risks and penalties associated with any violations. As a generator of hazardous materials, we are subject to financial exposure with regard to our properties even if we fully comply with these laws. In addition, we utilize facilities that are located in industrial areas and have lengthy operating histories. As a consequence, it is possible that historical or neighboring activities have affected properties we currently own, and that, as a result, additional environmental issues may arise in the future, the precise nature of which we cannot now predict. Any present or future noncompliance with environmental laws or future discovery of contamination could have a material adverse effect on our results of operations or financial condition. Government Regulation We manufacture some of our products under contracts with the United States government. We manufacture other products under contracts with private third parties who utilize our products to satisfy United States government contracts to which they are a party. Federal acquisition regulations and other federal regulations govern these relationships. Some of these regulations relate specifically to the seller-purchaser relationship with the government, such as the bidding and pricing rules. Under regulations of this type, we must observe pricing restrictions, produce and maintain detailed accounting data, and meet various other requirements. Other regulations relate to the conduct of our business generally, such as regulations and standards established by the Occupational Safety and Health Act or similar state laws and relating to employee health and safety. In particular, regulations governing these 19 contracts require that we comply with federal laws and regulations, in general, or face civil liability, cancellation or suspension of existing contracts, or ineligibility for future contracts or subcontracts funded in whole or in part with federal funds. In addition, loss of governmental certification (that we are eligible for government contracted work) could cause some of our customers, including customers in the defense industry, to reduce or curtail their purchases from us, which could harm our business. We have not identified any noncompliance with federal regulations affecting these government contracts that would be material. We have identified conditions that require attention or action. For example, as part of our environmental compliance team efforts discussed in the previous section, we determined that our written policies and training programs relating to employee health and safety matters at several of our facilities required updating and revision to ensure consistency among our United States subsidiaries and compliance with applicable regulations. We are currently updating and implementing these written policies and training programs. These actions are being taken to ensure compliance with applicable laws, and not in response to any violations identified by regulatory agencies. Employees As of May 31, 2001, the Company had approximately 1,041 employees, of whom approximately 926 were engaged in manufacturing functions, 32 in sales and marketing functions, 75 in administrative functions, and 8 in executive functions. Of the employees, approximately 243 were employed by the U.S. Aerospace Group, 532 by the European Aerospace Group, 229 by the U.S. Electronics Group, and 37 by the corporate group. As of May 31, 2001, none of our workforce in the United States is unionized. Certain of the European Aerospace Group's manufacturing and engineering employees are represented by labor unions, although all negotiations are carried out through employee work committees. We have not experienced any work stoppages, and we believe that our relationships with our employees are good. Risk Factors We have reported net losses for recent periods, and we may continue to incur net losses, which could jeopardize our operations and decrease our stock value. We reported a net loss of $12,869,000 for our fiscal year ended May 31, 1999, a net loss of $13,049,000 for our fiscal year ended May 31, 2000, and a net loss of $75,720,000, including impairment losses, for our fiscal year ended May 31, 2001. We believe that we will continue to incur net losses into fiscal 2002 and that such losses may be substantial. For our quarters ended February 28, 2001 and May 31, 2001, we recorded impairment losses related to our European Aerospace Group goodwill and equipment and impairment losses related to other intangibles and property. We also wrote off substantially all our deferred income tax assets at February 28, 2001. We can offer no assurance that we will achieve profitable operations or that any profitable operations will be sustained. Our ability to achieve a profitable level of operations in the future will depend on many factors, including our ability to reduce the level of our debt, to assimilate our recent and potential future acquisitions, to finance production and to realize acceptable gross profits on the products we sell. Future profitability will also depend on our ability to develop new products, the degree of market acceptance of our existing and new products, and the level of competition in the markets in which we operate. If we continue to incur net losses, our cash flow position could be further damaged, our operations could be jeopardized, and our stock price could decrease. 20 Our inability to generate cash if and when needed could severely impact our ability to continue as a going concern. Our consolidated financial statements have been prepared assuming that we will continue as a going concern. However, our independent auditors in their most recent report stated that Pacific Aerospace has suffered recurring losses from operations which raise substantial doubt about our ability to continue as a going concern. The independent auditors' report for fiscal year 2001 is a disclaimer of opinion. Our consolidated financial statements do not include any adjustments that might result from the outcome of that uncertainty. If we are not sufficiently successful in generating cash from operating activities, we may need to sell additional common stock or other securities, or we may need to sell assets outside the ordinary course of business. If we need to dispose of assets outside of the ordinary course of business to generate cash, we may not be able to realize the carrying values of those assets upon liquidation. If we are unable to generate the necessary cash, we could be unable to continue operations. We need to raise additional cash or we will not be able to fund our operations or to make payments on our loans when they are due. Our existing cash and credit facilities will not be sufficient to meet our obligations as they become due. Consequently, we will need to obtain additional cash. Our actual cash needs will depend primarily on the amount of cash generated from or used by operations and financing activities. We cannot predict accurately the amount or timing of our future cash needs. We did not make a semi-annual interest payment of approximately $3.6 million on our 11 1/4% senior subordinated notes that was due on August 1, 2001, and we will not be able to make that payment before expiration of the 30-day grace period that expires on August 31, 2001. As a result, we expect an event of default to occur under those notes. Such an event of default would also cause events of default under certain of our other debt instruments, including our 18% senior secured loan. In addition, we may currently be in default under our 18% senior secured loan for failure to make the August 1, 2001 interest payment on our 11 1/4% senior subordinated notes. To date, our secured lenders have not exercised any remedies with respect to any possible default, but we can provide no assurance that they would not exercise their remedies as a result of any default. Possible remedies include acceleration of the due dates of our debt. We did not make our February 1, 2001 interest payment on our 11 1/4% senior subordinated notes until March 2, 2001, which was one day before expiration of the 30-day grace period. We made the interest payment from the proceeds of an approximately $13.8 million senior secured loan that closed on March 1, 2001. The March 1, 2001 loan bears interest at 18% per annum, payable quarterly. To date, we have made interest payments on the 18% senior secured loan on time. We have the right to defer and accrue a portion of the quarterly interest payments, up to 1 1/4% per quarter, for up to a year at the time of any interest payment. We exercised this right for our interest payments made in March and June 2001. We do not currently have sufficient cash to make the September 30, 2001 interest payment on our 18% senior secured loan, and we will need to raise additional cash to make that payment. We also need to raise additional cash to make other future payments on our debt and to fund our operations. If we are unable to obtain sufficient cash when needed to fund our operations, to make our loan payments, and to pay our other obligations when due, we may be forced to seek protection from creditors under the bankruptcy laws. We are currently in negotiations with the holders of approximately 98% of the 11 1/4% senior subordinated notes regarding a possible restructuring of the Company's debt and equity structure. We do not currently know whether we will be successful in negotiating a restructuring or whether such a restructuring would occur inside or outside of bankruptcy. 21 If we are not able to pay our debt, our lenders could accelerate the principal owing on our debt, which we do not have the funds to pay. If we do not generate sufficient cash flow to make our debt payments, we may be forced to reduce or delay capital expenditures or to dispose of material assets or operations, potentially at a substantial loss. If we are unable to pay our debt, we may need to restructure or refinance our debt at potentially higher rates of interest. Alternatively or in addition, we may need to seek additional equity capital or exchange debt for substantial amounts of equity, which would significantly dilute the value of the shares held by our existing shareholders. We may not be able to choose any of these alternatives or complete them on satisfactory terms. If we fail to make our debt payments or default under other terms of our debt, our lenders will be able to declare all amounts we owe to be immediately due and payable. If our lenders accelerate our debt, we will not have funds available to us to pay off the debt. If we cannot repay our secured debt or if we default under other terms of our debt, our secured lenders could proceed against any collateral securing that debt. We have been notified by one of our secured lenders that we are not in compliance with certain covenants of loans that are secured by a first deed of trust on our headquarters building and other assets. The lender has, to date, agreed not to exercise its remedies, but we can offer no assurance that the lender will continue to forebear until we can regain compliance with those covenants, if at all. The collateral for our secured debt consists of substantially all of our assets, including receivables, inventories, real property, personal property, intangible assets, and the stock of all of our operating subsidiaries. If we are unable to pay our debt or other obligations, including paying the August 1, 2001 interest payment on our 11 1/4% senior subordinated notes within the grace period ending on August 31, 2001, we may be forced to seek protection from creditors under the bankruptcy laws. We will not be able to make this interest payment before the grace period expires, and we expect an event of default to occur under those notes. Such an event of default would also cause events of default under certain of our other debt instruments, including our 18% senior secured loan. In addition, we may currently be in default under our 18% senior secured loan for failure to make the August 1, 2001 interest payment on our 11 1/4% senior subordinated notes. To date, our secured lenders have not exercised any remedies with respect to any possible default, but we can provide no assurance that they would not exercise their remedies as a result of default. We are currently in negotiations with the holders of approximately 98% of the 11 1/4% senior subordinated notes regarding a possible restructuring of the Company's debt and equity structure. We do not currently know whether we will be successful in negotiating a restructuring or whether such a restructuring would occur inside or outside of bankruptcy. We do not have revolving lines of credit that would help us fund our operations. Our U.S. operating line of credit expired on September 5, 2000, and was extended through March 5, 2001. Due to our continued losses, our U.S. senior lender decided not to renew our revolving line of credit and we repaid that line of credit in full on March 2, 2001, out of the proceeds of our 18% senior secured loan. Our line of credit in the U.K. expired in November 2000. That line of credit was subsequently extended, and we repaid it in full on March 7, 2001. We do not plan to request renewal of that line. Our senior secured loan is a term loan rather than a revolving loan. As a result, if we make payments of principal before the loan's maturity, additional loan proceeds will not become available, and the loan will not provide an additional source of cash to fund our operations or to meet our obligations as they become due. 22 We have significant debt that adversely affects our financial condition. At May 31, 2001, our total long-term liabilities were approximately $84.0 million, or approximately 104% of our total assets. At May 31, 2001, we had a total stockholders' deficit of $25.1 million. Unless we increase our cash flow from operations, our total stockholders' deficit, coupled with continued losses, indicates that we will have difficulty satisfying our debt obligations in the future. We incurred substantial debt and payment obligations to finance the acquisition of our European Aerospace Group, which was formed when we acquired Aeromet International PLC in 1998. This debt, which consists of our senior subordinated notes, currently constitutes $63.7 million of our long-term debt and bears interest at 11.25% per year. In addition, at May 31, 2001, our balance sheet includes approximately $5.6 million of deferred financing costs, which are being charged off to interest expense over the period that the related debt is expected to be outstanding. We have announced our intention to sell our European Aerospace Group in order to reduce our outstanding debt. We do not yet know whether we can sell Aeromet or, if it is sold, the amount of net proceeds that will be available to reduce our debt. In addition to our outstanding 11 1/4% senior subordinated notes, we have approximately $13.7 million in senior secured debt that bears interest at 18% per annum. Our debt could make us unable to obtain additional financing in the future. It could also divert a significant portion of our cash flow to principal and interest payments and away from operations and necessary capital expenditures. Our debt has significantly increased our interest expense and net loss, and we expect the interest expense to continue to increase our net loss for the foreseeable future. Our debt also puts us at a competitive disadvantage in relation to competitors with less debt and limits our flexibility to adjust to downturns in our business or market conditions. We must comply with a number of significant debt covenants that limit our flexibility. The agreements that govern our debt, particularly the indenture that governs our 11 1/4% senior subordinated notes and the loan agreement that relates to our 18% senior secured notes restrict a number of our activities. Unless we obtain consent from our lenders, we cannot dispose of or create liens on assets or create additional indebtedness. We are not permitted to pay dividends to shareholders or repurchase stock. Our debt covenants restrict our ability to acquire new businesses or make investments or loans to others. We are also subject to covenants that limit our ability to make capital expenditures, change the business we conduct, or engage in transactions with related parties. In addition, if there is a change of control of our company, we may be required to repay our debt early. If we breach any of these covenants, the lenders may be able to declare all amounts we owe to be immediately due and payable. If this were to occur, we would likely not have funds available to us to pay off the debt. We may not be successful if we fail to manage our historically rapid growth. We have experienced rapid growth from both operations and acquisitions. This growth has placed and will continue to place significant demands on our managerial, administrative, financial and operational resources. For example, both our total number of employees and the number of our operating sites nearly doubled as a result of acquiring our European Aerospace Group, which was formed when we acquired Aeromet in July 1998. The size of our European Aerospace Group has caused and will continue to cause it to have a significant impact on our future financial results. As we continue to assimilate our post acquisitions, and as our business operations become more complex, we will need to be increasingly diligent in our business decisions. To manage our growth effectively, we must continue to improve our operational, accounting, financial and other management processes and systems. We 23 must also continue to attract and retain highly skilled management and technical personnel. If we do not effectively manage these aspects of our growth, we may not succeed. Our past and possible future acquisition strategy could negatively impact our performance. We have historically pursued an aggressive acquisition strategy. We are currently focusing substantially all of our attention on existing operations. However, in the future we may evaluate and pursue potential strategic acquisitions. We have incurred substantial losses as a result of some of our acquisitions and investments, including approximately $46.7 million in fiscal 2001, approximately $4.6 million in fiscal 2000, and approximately $12.7 million in fiscal 1999. We need to better manage our acquisition strategy. This includes accurately assessing the value, strengths and weaknesses of acquisition candidates, as well as successfully implementing necessary changes at newly acquired subsidiaries. In the past, our aggressive acquisition strategy has diverted management attention from our operations, increased borrowings, disrupted product development cycles and diluted earnings per share. If we do not successfully manage future acquisitions, if any, our financial performance could continue to be negatively impacted by acquisitions. We have experienced asset impairment, and we may experience additional asset impairment in the future. We review long-lived assets and intangibles for potential impairment of value whenever events or changes in circumstances indicate that the carrying amount of those assets may not be recoverable. An impairment is determined by totaling the estimated net future cash flows derived from the asset and comparing that total to the book value of the asset. When the total of the net future cash flows is lower than the book value, an impairment exists. The amount of the impairment is the difference between the present value of the net future cash flows and the book value of the asset. Based upon estimated net realizable value of certain assets, we recognized the following impairment charges for the year ended May 31, 2001: Within the European Aerospace Group we recognized a $37.0 million charge to reduce the $33.0 million carrying value of goodwill and the $13.6 million carrying value of manufacturing equipment associated with our European Aerospace Group, to the estimated net realizable value of the manufacturing equipment, $9.6 million. Within the U.S. Aerospace Group, we recognized an impairment charge of $5.5 million to reduce the $6.4 million carrying value of property and manufacturing equipment used at the Entiat, Washington location of the group's Casting Division to net realizable value, approximately $0.9 million. We also recognized a $0.8 million impairment charge to reduce the carrying value of the manufacturing equipment located at the Casting Division's Tacoma casting location to zero, the estimated net realizable value. In addition, we recognized charges of $3.3 million to reduce the $3.5 million carrying value of goodwill and manufacturing equipment used in the group's Engineering & Fabrication Division to estimated net realizable value, $0.2 million. Within the U.S. Electronics Group, we recognized a charge of $0.6 million to reduce the $1.0 million of manufacturing equipment used to produce low power relays to net realizable value, $0.4 million. We also recognized a $320,000 charge to reduce the carrying value of an unused manufacturing facility of $980,000 to net realizable value, $660,000. 24 We also completed an analysis of the estimated future cash flows of certain other long-lived assets, including goodwill and patents. Based upon this analysis, we recognized additional impairment charges of $1.0 million within the U.S. Electronics Group to reduce goodwill to net realizable value, and $0.3 million within the U.S. Aerospace Group to reduce patents to net realizable value. The Company will continue to analyze long-lived and identifiable intangible assets in the future to determine possible impairment charges. Future evaluations could result in additional impairment charges, and those charges could be material. At May 31, 2001, the carrying value of long-lived assets, including property, plant and equipment, goodwill, and patents, was $27.8 million. Our European Aerospace Group has had and will continue to have a significant impact on our business. The acquisition of our European Aerospace Group in 1998 doubled the size of our company. Approximately 43% of our assets and approximately 47% of our revenues are associated with our operations in the United Kingdom. It is more difficult for us to manage a business in the United Kingdom than our other businesses, which are located in Washington State. The reasons for the increased difficulty include differences in time, distance, business practices and cultural variations. Our ownership of a business in Europe also subjects us to regulatory, tax, and trade restrictions that we did not previously face. If we retain ownership of our European Aerospace Group and do not effectively manage that group, we may not be successful. Changes in foreign currency exchange rates could negatively affect our financial position. Because of our European Aerospace Group, we may decide to engage in hedging transactions to protect against losses caused by changes in the exchange rate between the U.S. dollar and the British pound sterling. However, we have not engaged in hedging transactions to date. Since approximately 47% of our transactions are conducted in foreign currency, the exchange rate risk could be material. For the fiscal year ended May 31, 2001, we incurred a foreign currency translation loss of approximately $2.9 million. Even if we were to engage in hedging transactions, they may not completely offset any such losses. Our European Aerospace Group has a few contracts that are in European currencies other than British pounds sterling, or in U.S. dollars. Future issuances or resales of a significant number of shares of our common stock could negatively affect the market price of our stock. Sales of a significant number of shares of common stock in the public market or the prospect of such sales could adversely affect the market price of our common stock. As of August 10, 2001, we have reserved 2,295,000 common shares for issuance under our publicly traded warrants with an exercise price of $4.6875 per share, 3,605,448 common shares for issuance under options outstanding under our two stock incentive plans with exercise prices ranging from $0.22 to $4.6875 per share, 129,137 common shares for issuance under options outstanding under our independent director stock plan with exercise prices ranging from $0.9219 to $1.90 per share, and 5,578,202 common shares for issuance under other warrants with exercise prices ranging from $0.001 to $9.50 per share. We also have an employee stock purchase plan permitting employees to purchase shares of common stock using payroll deductions, subject to certain limits. Shares issued upon exercise of our outstanding warrants or options or pursuant to the employee stock purchase plan would be available for resale in the public 25 markets, subject in some cases to volume and other limitations. Any future issuance of a significant number of common shares, or any future resales by the holders of a significant number of common shares, or the prospect of such issuances or resales, could negatively affect the market price of our common stock. We operate in industries that are subject to cyclical downturns that could adversely affect our revenues. We operate in historically cyclical industries. The aerospace, defense and transportation industries are sensitive to general economic conditions, and past recessions have adversely affected these industries. In past years, a number of factors have adversely affected the aerospace industry, including increased fuel and labor costs, and intense price competition. Recently, the commercial aircraft industry experienced a downturn in the rate of its growth due to changing economic conditions and as a result of the ongoing financial crisis in Asia, which caused reductions in production rates for some commercial airline programs. The major aircraft manufacturers responded, in part, by significantly decreasing their inventory levels. Although very recently the aerospace industry seems to have been experiencing better results, we have not yet benefited from the improvements. Additional cancellations or delays in aircraft orders from customers of Boeing or Airbus could reduce demand for our products and could have a material adverse effect on our business and financial performance. Cyclical factors and general economic conditions could lead to a downturn in demand for our core products and decrease our revenues. We may fail to retain our key management and technical personnel, which could negatively affect our business. We believe that our ability to successfully implement our business strategy and to operate profitably depends significantly on the continued employment of our senior management team, led by our president, Donald A. Wright, and our ability to retain and hire engineers and technical personnel with experience in the aerospace and electronics industries. We have key man life insurance policies on the life of Mr. Wright totaling $8 million. We also have an employment agreement with Mr. Wright and several other senior managers. However, our business and financial results could be materially adversely affected if Mr. Wright, other members of the senior management team, or significant engineers or technical personnel become unable or unwilling to continue in their present employment. Our growth and future success will depend in large part on our ability to retain and attract additional board members, senior managers and highly skilled technical personnel with experience in the aerospace and electronics industries. Because our U.S. operations are not located in a large metropolitan area, we may face more difficulty in acquiring and retaining key management and technical personnel than our competitors in major cities. Competition for such individuals is intense, and we may not be successful in attracting and retaining them, which could interfere with our ability to manage our business profitably. If we do not adapt to technological change and develop new products, we could lose customers and our revenues could decline. The market for our products in both the aerospace and the electronics industries is characterized by evolving technology and industry standards, changes in customer needs, adaptation of products to customer needs, and new product introductions. Other companies that manufacture components for the aerospace and electronics industries from time to time may announce new products, enhancements, or technologies that have the potential to replace or render our existing products obsolete. Our success 26 will depend on our ability to enhance our current products and develop new products to meet changing customer needs, and achieve market acceptance of those products. We view our proprietary technology and our level of technological development as our primary strengths. Because most of our research and development efforts are funded by customers, it will be essential for us to continue to respond effectively to our customers' needs. We will also need to anticipate or respond to evolving industry standards and other technological changes on a timely and cost-effective basis. If we do not adequately respond to these changes, we could lose customers and our revenues could decline. We could be subject to product liability claims and lawsuits for harm caused by our products. Many of our customers use our products for applications such as aircraft, satellites, heavy trucks and other uses in which failure could have serious consequences. We maintain product liability insurance with a maximum coverage of $2 million. However, this insurance may not be sufficient to cover any claims that may arise. A successful product liability claim in excess of our insurance coverage could have a material adverse effect on our business and financial performance. 27 ITEM 2. DESCRIPTION OF PROPERTY Our principal executive and administrative offices are located at 430 Olds Station Road, Wenatchee, Washington. Our headquarters building provides approximately 18,000 square feet of office space, and is owned by the Company. We also lease approximately 1,800 square feet of office space in Edmonds, Washington, for a base rent of $3,260 per month, subject to annual adjustment, under a lease that expires in October 2001 and will not be renewed. Until July 2001, we also leased approximately 873 square feet of office space in Wichita, Kansas, for a base rent of $928 per month. The location, use and approximate size of the principal owned and leased properties where we conduct our operations as of August 10, 2001 are as follows:
- --------------------------------------------------------------------------------------------------------------------- Approx. Own/ Annual Lease Mortgage Group Location Area Lease Rent Expiration Balance - --------------------------------------------------------------------------------------------------------------------- U.S. Wenatchee, Washington 54,000 Lease $294,000 2007 N/A ----------------------------------------------------------------------------------------------------- Electronics Sequim, Washington 18,355 Own N/A N/A None ----------------------------------------------------------------------------------------------------- Vancouver, Washington 50,000 Lease $336,000 2009 N/A - --------------------------------------------------------------------------------------------------------------------- U.S. Wenatchee, Washington 42,000 Lease $213,000 2007 N/A ----------------------------------------------------------------------------------------------------- Aerospace Mountlake Terrace, 10,000 Lease $217,000 2005 N/A Washington - --------------------------------------------------------------------------------------------------------------------- Wenatchee, Washington 41,400 Lease $166,000 2001 N/A - --------------------------------------------------------------------------------------------------------------------- Wenatchee, Washington 15,000 Lease $ 82,000 2002 N/A - --------------------------------------------------------------------------------------------------------------------- European Sittingbourne 54,500 Lease (Pounds)258,000 2018 N/A Aerospace Sittingbourne 7,500 Lease (Pounds) 50,000 2005 N/A ----------------------------------------------------------------------------------------------------- Rochester 37,345 Lease (Pounds)180,000 2001 N/A ------------------------------------------------------------------------------------------------- Worcester 40,000 Lease (Pounds)160,000 2018 N/A ------------------------------------------------------------------------------------------------- Worcester 15,000 Lease (Pounds) 50,000 2003 N/A ------------------------------------------------------------------------------------------------- Welwyn Garden City 55,000 Lease (Pounds)333,000 2018 N/A ------------------------------------------------------------------------------------------------- Birmingham 59,000 Lease (Pounds)236,000 2018 N/A - -----------------------------------------------------------------------------------------------------------------
During the 2001 fiscal year, we also leased properties formerly used by operations that have been shut down. These include:
- ------------------------------------------------------------------------------------------------- Group / Division Location Approx. Area Annual Rent Lease Sublease Leased Expiration - ------------------------------------------------------------------------------------------------- U.S. Aerospace Tacoma, WA 21,700 $ 80,000 2008 New tenant signed Casting Division lease with landlord; PA&E lease terminated as of August 14, 2001 - ------------------------------------------------------------------------------------------------------ Sedro-Woolley, 94,600 $395,000 2003 Portion subleased U.S. Aerospace WA for $7,679 per Engineering & month until October Fabrication 31, 2001; seeking Division additional tenants - ------------------------------------------------------------------------------------------------------ Edmonds, WA 10,800 $155,000 2004 Negotiating lease termination - ------------------------------------------------------------------------------------------------------ Everett, WA 11,500 $ 79,000 2003 Subleased for $5,731 per month, subject to increase to $6,250 in April 2002; sublease expires July 2003 - ------------------------------------------------------------------------------------------------------
28 We are also attempting to sublease the Display Division's facility in Vancouver, Washington, as a result of the division's move to Wenatchee, Washington that is currently in progress. As of December, 2000, we sold a building that we owned in Butler, New Jersey, where part of our U.S. Electronics Group's Interconnect Division was located until July 1999. Net proceeds from the sale of the building was $660,000, and we recorded a loss of $320,000 on the sale. In January 1999, we executed an agreement with the Port of Chelan County, Washington, giving us an option to purchase three parcels of land at or near our Wenatchee campus for a total of $5.4 million. We purchased the first parcel, which was property next to our Wenatchee campus, for $853,000 in cash, on February 2, 1999. In December, 2000, we resold the parcel to the Port of Chelan County for approximately $930,000. In July 2001, we executed a Rescission and Termination Agreement with the Port, which provided for the termination of our option and the return of a $100,000 deposit. ITEM 3. LEGAL PROCEEDINGS From time to time we are involved in legal proceedings relating to claims arising out of operations in the normal course of business. We are not aware of any material legal proceedings pending or threatened against the Company or any of its properties. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 29 PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS Market Information, Shareholders, and Dividends Between July 16, 1996 and June 28, 2001, our common stock was traded on the Nasdaq National Market under the symbol "PCTH", and our public warrants were traded on the same system under the symbol "PCTHW". Each public warrant entitles the holder to purchase one share of common stock at an exercise price of $4.6875 per share. The Nasdaq National Market System reported the following range of high and low sales prices for our common stock and public warrants for each calendar quarter during the period from January 1999 through May 31, 2001, which covers all of the calendar quarters within the Company's 2000 and 2001 fiscal years:
Common Stock Warrants Calendar Period High Low High Low 1999 First Quarter 2.969 1.688 0.875 0.344 Second Quarter 2.188 1.500 0.594 0.375 Third Quarter 1.781 1.250 0.625 0.250 Fourth Quarter 1.500 0.594 0.688 0.188 2000 First Quarter 7.000 1.125 2.438 0.250 Second Quarter 3.000 1.188 1.313 0.406 Third Quarter 2.656 0.781 1.063 0.250 Fourth Quarter 1.438 0.313 0.563 0.094 2001 First Quarter 0.906 0.219 0.313 0.094 Second Quarter (April 1-May 31, 2001) 0.313 0.180 0.160 0.080
On June 28, 2001, our securities were delisted from the Nasdaq National Market and are currently traded on the OTC Bulletin Board. As of August 10, 2001, the closing sales price of our common stock on the OTC Bulletin Board was $0.12 per share, and the closing sales price of our warrants was $0.01. We have never declared or paid cash dividends on our common stock. We currently anticipate that we will retain any future earnings to fund the operations, and we do not anticipate paying dividends on our common stock in the foreseeable future. Our agreements with our senior secured lenders and the indenture governing our 11 1/4% senior subordinated notes restrict our ability to pay dividends. Common Stock As of August 10, 2001, there were 1,078 holders of record of 39,315,309 shares of common stock outstanding, and 21 holders of record of 2,295,000 public warrants outstanding, based on the records maintained by our transfer agent. Each share of outstanding common stock is entitled to participate 30 equally in dividends as and when declared by the Board of Directors, out of funds legally available therefor, and is entitled to participate equally in any distribution of net assets made to our common shareholders in the event of liquidation of the Company after payment to all creditors of the Company, subject to any preferences that may be granted to any series of preferred stock as to dividends or liquidation. There are no preemptive rights or rights to convert common stock into any other securities. The holders of our common stock are entitled to one vote for each share held of record on all matters voted upon by our shareholders and may not cumulate votes for the election of directors. Thus, the owners of a majority of the shares of our common stock outstanding may elect all of the directors of the Company, and the owners of the balance of the shares of the common stock would not be able to elect any directors of the Company. Preferred Stock The Company's Board of Directors has the authority to issue shares of preferred stock in one or more series and to fix the powers, designations, preferences and relative, participating, optional or other rights of any series of preferred stock, including dividend rights, conversion rights, voting rights, redemption terms, liquidation preferences, sinking fund terms and the number of shares constituting any series, without shareholder approval, unless such approval is required by applicable law or by the rules of any stock exchange or automated quotation system on which securities of the Company may be listed or traded. The rights of preferred stock could adversely affect the rights of holders of common stock and the market for the common stock. The Company does not currently have any preferred stock outstanding. Warrants As of August 10, 2001, we had outstanding exercisable warrants to purchase common stock as follows: . publicly traded warrants to purchase 2,295,000 shares of common stock, that (a) were issued as part of the units sold in the Company's July 1996 registered public offering ("Units"), (b) have an exercise price of $4.6875 per share, and (c) expire in July 2003; . warrants to purchase a total of 1,156,224 shares of common stock issued to several employees and consultants of the Company, that (a) have exercise prices ranging from $0.4062 to $9.50 per share, and (b) have expiration dates that range from May 2002 to April 2006; . warrants to purchase 385,000 shares of common stock that (a) were issued in connection with a private placement in July 2000, (b) have an exercise price of $2.01 per share, and (c) expire in July 2003. See "- Summer 2000 Private Placement." . warrants to purchase 4,036,978 shares of common stock that (a) were issued in connection with a private placement in March 2001, (b) have an exercise price of $.001 per share, and (c) expire in March 2006. See "--March 2001 Private Placement." The shares of common stock issuable upon exercise of our outstanding warrants are either registered for issuance or resale, available for resale under Rule 144, or subject to an obligation to register them for resale. Exercise of these warrants would increase the number of shares of our common stock available on the public market and would dilute the interests of existing shareholders. 31 Series B Convertible Preferred Stock Preferred Stock Offering. In May and August 1998, we issued a total of 170,000 shares of Series B Convertible Preferred Stock (the "Preferred Stock") and issued related warrants, for a total price of $17 million, in a private placement to 17 accredited investors. As of June 26, 2000, all of these shares had been converted into a total of 10,136,548 shares of common stock. The issuance of the common stock upon conversion of the Preferred Stock was exempt from registration under Section 3(a)(9) of the Securities Act because it was an exchange exclusively with the holders of Preferred Stock where no commission or other remuneration was paid or given for soliciting the exchange. The former holders of the Preferred Stock have advised us that they resold all but 77 shares of common stock into the public market, either pursuant to a resale registration statement or in reliance on Rule 144. The conversion of the Preferred Stock and resale of the conversion shares had the effect of significantly increasing the number of shares of our common stock in the public market. Warrants Issued to Preferred Shareholders. The warrants to purchase 236,109 shares of common stock at an exercise price of $7.20 per share that were issued in connection with the Preferred Stock expired on May 15, 2001. Summer 2000 Private Placement Description of Summer 2000 Private Placement. On July 27, 2000, we issued 1,142,860 shares of common stock and warrants to purchase additional shares to two accredited investors, Strong River Investments, Inc. and Bay Harbor Investments, Inc., for gross proceeds of $2.0 million. We paid a commission to Rochon Capital Group, Ltd. comprised of $80,000 in cash and warrants to purchase 79,150 shares of common stock, at an exercise price of $1.7688 per share, exercisable through July 27, 2003, for representing Pacific Aerospace in this transaction. After taking into consideration other expenses related to the transaction, we received net proceeds at closing of $1,713,000, which we used to pay down our U.S. credit line. We also issued to the investors on July 27, 2000, closing warrants to purchase an aggregate of 385,000 shares of common stock at an exercise price of $2.01 per share, exercisable through July 27, 2003, and adjustable warrants and vesting warrants to purchase an indeterminate number of shares, as described below. The vesting dates and expiration dates contained in the warrants and the numbers of shares issuable upon exercise of the warrants are subject to anti-dilutive adjustments. The terms of the transaction, including the terms of the warrants, were determined by arms length negotiations between Pacific Aerospace and the investors. The transaction documents also provided that upon effectiveness of the registration statement within 60 days after the first closing, a second closing would occur, and the investors would pay an additional $1.5 million and receive 857,140 additional shares of common stock. This condition was not satisfied, and the investors decided not to waive the condition. As a result, the second closing did not occur. The private placement was made pursuant to the exemption from registration contained in Rule 506 of Regulation D under the Securities Act based on the sale to accredited investors in a private transaction with the purchasers acknowledging that the securities cannot be resold unless registered or exempt from registration under the securities laws. Adjustable Warrants. On July 27, 2000, we issued to the investors adjustable warrants, which permitted the investors to acquire additional shares of common stock at an exercise price of $.001 per share if the market price of our common stock did not achieve and maintain a specific price during each 32 of three vesting periods. On February 15, 2001, Pacific Aerospace and the investors agreed to amend the adjustable warrants to provide that each of the two investors, upon exercise in full of its adjustable warrant, would be entitled to purchase 2,095,243 shares of common stock. The fixed number of shares specified in the amendment was negotiated to replace the provisions of the adjustable warrants that would have determined the number of shares issuable under those warrants based on a formula that depended on the market price of our common stock during three vesting periods. The vesting periods would have been the 20 consecutive trading days before the 20/th/, 40/th/, and 60/th/ trading days after the effective date of the registration statement covering the shares issued to the investors on July 27, 2000. That registration statement became effective on January 31, 2001. The closing price of our common stock on February 15, 2001, the date of the amendment, was $.4063 per share. If the adjustable warrants had not been amended and our common stock price had been $.4063 throughout the three vesting periods, a total of 4,207,666 shares would have been issuable under the adjustable warrants. On February 15, 2001, the investors exercised the adjustable warrants in full, as so amended, for the exercise price of $.001 per share. The exercise price was not changed by the amendment described above. As a result of the exercise, we delivered to the investors a total of 4,190,486 shares of common stock. The resale of these shares was covered by a registration statement on Form S-3 (File No. 333-56884) filed on March 12, 2001. Vesting Warrants. We also issued vesting warrants to the investors on July 27, 2000. The purpose of the vesting warrants was to give Pacific Aerospace an incentive not to cause any triggering events to occur prior to expiration of the vesting warrants and an incentive to cure triggering events that occurred, if they could be cured. On February 15, 2001, Pacific Aerospace and the investors agreed that the vesting warrants would expire on the fifth business day after we delivered the shares issuable upon exercise of the adjustable warrants. We delivered the shares on February 21, 2001, and the vesting warrants expired on February 28, 2001. Closing Warrants. On July 27, 2000, we also issued the investors in the private placement closing warrants to purchase an aggregate of 385,000 shares of common stock at an exercise price of $2.01 per share. The February 15, 2001 amendment did not amend the terms of the closing warrants. The closing warrants were exercisable in full on the date of issuance and remain exercisable until their expiration on July 27, 2003. These warrants are not subject to any adjustments relating to market price, but the exercise price would be adjusted for the issuance of common stock or common stock equivalents at a price below the warrant exercise price while the warrants are outstanding. The exercise price can be paid in cash, or the holder can utilize a cashless exercise provision. The purpose of the closing warrants was to provide the investors with an opportunity to obtain an additional return on their investment if our common stock price exceeds $2.01 per share prior to expiration of the warrants. The resale of the shares issuable upon exercise of the Closing Warrants was registered on a registration statement on Form S-3 (File No. 333-44686), filed on August 28, 2000. March 2001 Private Placement On March 1, 2001, we borrowed approximately $13.8 million from four lenders: B III Capital Partners, L.P., B III-A Capital Partners, L.P., DDJ Canadian High Yield Fund and State Street Bank & Trust, as Custodian for General Motors Employees Global Group Pension Trust. In connection with the secured loan, we issued warrants to purchase an aggregate of 4,036,978 shares of common stock with an exercise price of $.001 per share to the four lenders as an incentive for them to make the loan. The warrants are exercisable through March 1, 2006 and contain weighted average anti-dilution 33 protection in the event we issue equity securities at a price less than market price determined in the manner set forth in the Warrant Agreement. The lenders may exercise the warrants at any time for the exercise price of $.001 per share, whereupon they will receive up to an aggregate amount of 4,036,978 shares of common stock of the Company. DDJ Capital Management, LLC, serves as the investment advisor to each such entity and, accordingly, may be deemed the beneficial owner of the shares of common stock underlying the warrants received by the lenders. The terms of the transaction, including the terms of the warrants, were determined by arms length negotiations between Pacific Aerospace and the lenders. We used approximately $9.5 million of the loan to repay our revolving line of credit in the U.S. and to pay the interest payment on our 11 1/4% senior subordinated notes that was due on February 1, 2001. The remainder of the proceeds were used to replace our line of credit in the United Kingdom, to pay costs of the secured loan transaction and to provide working capital. The transaction documents also provided that we would file a registration statement registering the shares of common stock underlying the warrants issued to the lenders within 30 days following the closing of the loan. We filed a registration statement on Form S-3 (File No. 333-58148) on April 2, 2001. We also paid a commission of approximately $415,000 to First Albany Corporation, the placement agent that represented us in the transaction, and issued warrants to purchase up to 692,074 shares of our common stock to the placement agent, at an exercise price of $.4062 per share. The placement agent warrants are exercisable at any time through April 9, 2006. The placement agent warrants were issued pursuant to the exemption from registration contained in Rule 506 of Regulation D under the Securities Act, and neither the warrants nor the shares issuable upon exercise of the warrants may be resold unless registered or exempt from registration under the securities laws. The placement agent has piggy-back registration rights with respect to the shares issuable upon exercise of the warrants. Registration Rights We are obligated to register the resale of the following shares: Continental Capital & Equity Corporation has the right, through April 17, 2003, to require us to file a resale registration statement with respect to up to 200,000 shares issuable upon exercise by Continental of warrants held by them. We are obligated to register for resale up to 79,150 shares issuable upon exercise of warrants held by the placement agent in the Summer 2000 private placement. We are obligated to register for resale up to 692,074 shares issuable upon exercise of warrants held by the placement agent in our March 2001 private placement. Nasdaq Until June 28, 2001, our common stock was quoted on the Nasdaq National Market. In order to remain listed on this market, we were required to meet Nasdaq's listing maintenance standards. On March 22, 2001, we received a determination letter from Nasdaq staff indicating that, absent a successful appeal by the Company, our securities would be delisted for failure to comply with Marketplace Rule 4450(a)(5), which requires listed stock to maintain a minimum bid price of $1.00. Our common stock had traded below $1.00 since November 7, 2000. Subsequent to the notice, we notified Nasdaq that we also failed to comply with Marketplace Rule 4450(a)(3), which requires an issuer of listed securities to maintain net tangible assets of at least $4 million. We appealed the Nasdaq staff determination before a Nasdaq qualification hearings panel on May 11, 2001, but we were notified 34 on June 27, 2001 that our securities would be delisted on June 28, 2001, and the delisting occurred on that date. Our common stock and public warrants are currently traded on the OTC Bulletin Board. Indemnification The Company agreed to indemnify the holders of the Preferred Stock, the investors in the Summer 2000 private placement, and the holders of the warrants issued in the March 2001 private placement, and those holders and investors agreed to indemnify the Company, against certain liabilities under the Securities Act. Insofar as indemnification for liabilities arising under the Securities Act may be permitted directors, officers and controlling persons of the Company pursuant to the foregoing provisions, or otherwise, we have been advised that, in the opinion of the SEC, such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. Anti-Takeover Laws The Company, as a Washington corporation, is subject to certain provisions of Washington law regarding significant business transactions and fair price restrictions. These provisions may have the effect of delaying or deterring a hostile takeover of the Company. Washington's "Significant Business Transactions" statute (Chapter 23B.19 of the Washington Business Corporation Act) applies to public companies that are incorporated under Washington law. The statute prohibits, subject to certain exceptions, a corporation from entering into any "significant business transactions" with an "Acquiring Person" (defined generally as a person who or an affiliated group that beneficially owns 10% or more of the outstanding voting securities of a corporation) for a period of five years after such person or affiliated group becomes an Acquiring Person unless the transaction or share acquisition made by the Acquiring Person is approved prior to the share acquisition by a majority of the target corporation's directors. In addition, this statute prohibits a corporation subject thereto from entering into a significant business transaction with an Acquiring Person unless the consideration to be received by the corporation's shareholders in connection with the proposed transaction satisfies the "fair price" provisions set forth in the statute. Transfer Agent and Registrar The Transfer Agent and Registrar for our common stock and publicly traded warrants is Interwest Transfer Co., Inc. 35 ITEM 6. SELECTED FINANCIAL DATA The following selected financial data presents selected historical financial data of the Company as of and for the years ended May 31, 1997, 1998, 1999, 2000 and 2001, and is derived from the Company's audited financial statements. This data should be read in conjunction with the Company's Financial Statements and Notes thereto, the Independent Auditors' Report, and Management's Discussion and Analysis of Financial Condition and Results of Operations. The independent auditors' report contains an explanatory paragraph that states that the Company's recurring losses from operations raise substantial doubt about our ability to continue as a going concern. The independent auditors' report for the fiscal year 2001 is a disclaimer of opinion. Our consolidated financial statements and the following selected financial data do not include any adjustments that might result from the outcome of that uncertainty.
Years Ended May 31, ------------------------------------------------------------------------ (in thousands, except percentage and per share data) 1997 1998 1999 2000 2001 ------------ ------------ ---------- ---------- ---------- Statement of Operations Data: Net sales/(1)/............................... $ 34,175 $ 54,099 $ 107,366 $ 112,694 $ 109,288 Cost of sales................................ 25,969 39,487 86,302 92,063 101,048 ------------ ------------ ---------- ---------- ---------- Gross profit................................. 8,206 14,612 21,064 20,631 8,240 Operating expenses........................... 6,259 9,872 22,039 24,533 67,201 ------------ ------------ ---------- ---------- ---------- Income (loss) from operations................ 1,947 4,740 (975) (3,902) (58,961) Net interest (expense)....................... (384) (755) (8,140) (9,862) (10,012) Other income (expense)....................... 169 (853) (6,393) 33 201 ------------ ------------ ---------- ---------- ---------- Income (loss) before taxes and extraordinary item.......................... 1,732 3,132 (15,508) (13,731) (68,772) Extraordinary item, net of tax............... - - - 703 - Income taxes benefit (expense)............... (50) 482 2,639 (21) (6,948) ------------ ------------ ---------- ---------- ---------- Net income (loss)............................ $ 1,682 $ 3,614 $ (12,869) $ (13,049) $ (75,720) ======================================================================== Net income (loss) per share: Basic....................................... .18 .29 (.74) (.59) (2.15) Diluted..................................... .17 .27 (.74) (.59) (2.15) Shares used in computation of income (loss) per share: Basic....................................... 9,500 12,486 17,359 21,955 35,283 Diluted..................................... 10,036 13,606 17,359 21,955 35,283 Other Financial Data: Adjusted EBITDA/(2)/......................... $ 3,305 $ 6,944 $ 10,669 $ 9,004 $ (2,681) Adjusted EBITDA margin/(3)/.................. 9.7% 12.8% 9.9% 8.0% (2.5)% Depreciation, amortization, and $ 1,358 $ 2,204 $ 11,644 $ 12,906 $ 56,280 impairment of long-lived assets............. Capital expenditures......................... 2,739 10,290 8,281 4,867 3,710
36
At May 31, ------------------------------------------------------------------------ (in thousands) 1997 1998 1999 2000 2001 ------------ ------------ ---------- ---------- ---------- Balance Sheet Data: Cash and cash equivalents........... $ 3,048 $ 11,461 $ 8,134 $ 2,154 $ 4,095 Working capital..................... 13,090 25,599 38,329 29,181 25,034 Total assets........................ 35,752 78,580 158,727 143,582 80,816 Long-term debt (including current portion)........................... 4,233 11,233 83,410 70,528 82,932 Shareholders' equity (deficit)...... 25,619 56,142 54,019 49,768 (25,114)
- ------------- /(1)/ The increases in net sales are attributable to acquisitions by the Company and internal growth. See "Description of Business" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." /(2)/ "Adjusted EBITDA" represents income (loss) from operations plus depreciation, amortization, and non-cash asset impairment expense. Adjusted EBITDA should not be construed as an alternative to (i) net income, as defined by generally accepted accounting principles, as an indicator of our operating performance or (ii) cash flow, as defined by generally accepted accounting principles, as a measure of liquidity. We report Adjusted EBITDA because it is a cash flow capacity measure commonly used by financial institutions, including holders of our senior subordinated notes. Generally, we consider Adjusted EBITDA as a measure of cash flow capacity to fund interest expense, principal payments on debt, working capital needs and capital expenditures. This measure may not be comparable to similarly titled measures reported by other companies. The adequacy and historical trend of Adjusted EBITDA to support funding requirements is an indication to our management whether cash sources in addition to Adjusted EBITDA may be required to support ongoing operations. /(3)/ "Adjusted EBITDA margin" represents Adjusted EBITDA as a percent of net sales. We use Adjusted EBITDA margin as a measure to evaluate better our Adjusted EBITDA capacity trends. 37 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- This section and the "Description of Business" section of this Form 10-K contain "forward-looking statements." These forward-looking statements are not guarantees of the Company's future performance. They are subject to risks and uncertainties related to business operations, some of which are beyond the Company's control. Any of these risks or uncertainties may cause actual results or future circumstances to differ materially from the forward-looking statements set forth in this section under the captions "Overview" and "Liquidity and Capital Resources," and in "Description of Business" under each of the captions in that section. - -------------------------------------------------------------------------------- Overview - -------- Pacific Aerospace & Electronics, Inc., is an engineering and manufacturing company with operations in the United States and the United Kingdom. We design, manufacture and sell components and subassemblies used in technically demanding environments. Products that we produce primarily for the aerospace and transportation industries include machined, cast, and formed metal parts and subassemblies, using aluminum, titanium, magnesium, and other metals. Products that we produce primarily for the defense, electronics, telecommunications, energy and medical industries include components such as hermetically sealed electrical connectors and instrument packages and ceramic capacitors, filters and feed-throughs. Our customers include global leaders in all of these industries. We are organized into three operational groups: U.S. Aerospace, U.S. Electronics, and European Aerospace. For our fiscal year ended May 31, 2001, we had net sales of approximately $109 million, with the European Aerospace Group contributing approximately $52 million in net sales. On October 31, 2000, we announced our intention to sell our European Aerospace Group in order to reduce our outstanding 11 1/4% senior subordinated notes. As of May 31, 2001, we had approximately $64 million in principal amount of 11 1/4% senior subordinated notes outstanding. Because we are in the process of seeking buyers for our European Aerospace Group, we do not know whether we will be successful in selling that group and, if successful, we do not know the amount of net proceeds that would be available to reduce our 11 1/4% senior subordinated notes or our approximately $13.7 million of 18% senior secured notes. We are required to pay our senior secured lenders at least $7.5 million upon the sale of our European Aerospace Group. Although at this time we have not committed to the sale of the group, we have received several bona-fide preliminary and final offers to purchase the group. If these offers approximate the final negotiated sales price for the group and we commit to the sale of the group, the offers indicate that we will incur an impairment loss related to goodwill and equipment of approximately $37 million. Consequently, we recorded an impairment loss related to our European Aerospace Group goodwill of $25 million for the quarter ended February 28, 2001, and an additional impairment loss of $12 million related to goodwill and equipment for the quarter ended May 31, 2001. We have also reviewed all other long-lived assets and have recorded impairment losses of approximately $1.0 million, $7.4 million and $3.4 million during the quarters ended November 30, 2000, February 28, 2001 and May 31, 2001, respectively. On March 30, 2001, we announced that we put in place a plan to restructure our operations. In connection with the plan, our European Aerospace Group has been placed for sale, and we closed an unprofitable foundry in Tacoma, Washington. We have also downsized our U.S. Aerospace Group's Engineering & Fabrication Division by closing our fabrication facilities in Sedro-Woolley, Washington and we have sold substantially all of the assets related to the fabrication business. On June 1, 2001, subsequent to our fiscal year end, we completed the sale of substantially all of the assets of our U.S. Aerospace Group's Casting operation located in Entiat, Washington. We believe that these asset sales 38 and closures or sales of business units will help to strengthen and support our core electronics, engineering and aerospace machining operations. Results of Operations - ---------------------- For an understanding of the significant factors that influenced our performance during the past three fiscal years, the following discussion should be read in conjunction with our consolidated financial statements presented in this Form 10-K. The following table sets forth certain of our historical statement of operations data for the periods indicated, expressed in dollars (in thousands) and as a percentage of net sales.
Years Ended May 31, ------------------------------------------------------------------ 1997 1998 1999 ------------------- --------------- ------------------ Net sales $ 34,175 100.0 % 54,099 100.0 $ 107,366 100.0 % Cost of sales 25,969 76.0 39,487 73.0 86,302 80.4 ------------------- --------------- ------------------ Gross profit 8,206 24.0 14,612 27,0 21,064 19.6 Operating expenses 6,259 18.3 9,872 18.2 22,039 20.5 ------------------- --------------- ------------------ Income (loss) from operations 1,947 5.7 4,740 8.8 (975) (0.9) Net interest expense (384) (1.1) (755) (1.4) (8,140) (7.6) Other income (expense) 169 0.5 (853) (1.6) (6,393) (6.0) Extraordinary item - - - - - - Income tax benefit (expense) (50) (0.1) 482 0.9 2,639 2.5 ------------------- --------------- ------------------ Net income (loss) $ 1,682 4.9 % 3,614 6.7 $ (12,869) 12.0 % =================== =============== ================== Adjusted EBITDA/(1)/ $ 3,305 9.7 % 6,944 12.8 $ 10,669 9.9 % =================== =============== ================== ------------------- ---------------------- 2000 2001 ------------------- ---------------------- Net sales $ 112,694 100.0 % $ 109,288 100.0 % Cost of sales 92,063 81.7 101,048 92.5 ------------------- ---------------------- Gross profit 20,631 18.3 8,240 7.5 Operating expenses 24,533 21.8 67,201 61.5 ------------------- ---------------------- Income (loss) from operations (3,902) (3.5) (58,961) (54.0) Net interest expense (9,862) (8.8) (10,012) (9.2) Other income (expense) 33 - 201 0.2 Extraordinary item 703 0.6 - - Income tax benefit (expense) (21) - (6,948) (6.3 ------------------- ---------------------- Net income (loss) $ (13,049) (11.6)% $(75,720) (69.3)% =================== ====================== Adjusted EBITDA/(1)/ $ 9,004 8.0 % $ (2,681) (2.5)% =================== ======================
/(1)/ "Adjusted EBITDA" represents income (loss) from operations plus depreciation, amortization, and non-cash asset impairment expense. Adjusted EBITDA should not be construed as) an alternative to (i) net income, as defined by generally accepted accounting principles, as an indicator of our operating performance or (ii) cash flow, as defined by generally accepted accounting principles, as a measure of liquidity. We report Adjusted EBITDA because it is a cash flow capacity measure commonly used by financial institutions, including holders of our senior subordinated notes. Generally, we consider Adjusted EBITDA as a measure of cash flow capacity to fund interest expense, principal payments on debt, working capital needs and capital expenditures. This measure may not be comparable to similarly titled measures reported by other companies. The adequacy and historical trend of Adjusted EBITDA to support funding requirements is an indication to our management whether cash sources in addition to Adjusted EBITDA may be required to support ongoing operations. Year Ended May 31, 2001 Compared to Year Ended May 31, 2000 Net Sales. Net sales decreased by $3.4 million, or 3.0%, to $109.3 million for fiscal 2001 from $112.7 million in fiscal 2000. The European Aerospace Group contributed $51.6 million, down $5.3 million from the $56.9 million contributed during the year ended May 31, 2000. Our customers in the European aerospace market have been initiating lean manufacturing methods and just-in-time inventory delivery requirements similar to those previously initiated by our customers in the U.S. aerospace market. These initiatives resulted in decreased orders for our European Aerospace Group. The European Aerospace Group is currently being offered for sale, although we have not committed to a formal plan of disposition. If the sale of European Aerospace Group is completed the net sales from this group will be substantially reduced during fiscal 2002 from fiscal 2001. If the sale is not completed, we expect this group's net sales volumes to remain flat or decrease slightly and for order backlog to decrease accordingly during fiscal 2002. The lowering of the exchange rate of the British pound sterling versus the U.S. dollar also contributed to lower net sales volumes from the European Aerospace Group during fiscal 2001 and may continue to do so during fiscal 2002. Had the average exchange rate for fiscal 2001 been equal to the average exchange rate for fiscal 2000, reported net sales for our European Aerospace Group would have been approximately $56.0 million, or $4.4 million higher than actual. The U.S. Aerospace Group contributed $29.1 million during the year ended 39 May 31, 2001, down $2.4 million from the $31.5 million contributed during the year ended May 31, 2000. The U.S. Aerospace Group's casting businesses experienced an unanticipated revenue decline ($3.7 million) during the year, due in large part to lower demand for heavy trucking products, which we believe was primarily a result of higher fuel costs and a cyclical downturn in the heavy trucking segment of the transportation market. This decrease in revenue was offset partially by increased revenue ($1.3 million) from telecommunications companies in our machining business. During fiscal 2001, we transitioned machining of telecommunications parts out of the U.S. Aerospace Group into the U.S. Electronics Group in order to process the orders more efficiently. However, due to the recent downturn in the telecommunications market, our orders for machined telecommunications parts have been cancelled or deferred by our customers. We believe that the demand for machined telecommunications parts should return late in our fiscal year 2002, but we do not expect this to have a significant impact on net sales during fiscal 2002. As of June 1, 2001, we completed the sale of substantially all of the assets of the U.S. Aerospace Group's Casting Division. We have also downsized and sold substantially all of the assets of the fabrication portion of the U.S. Aerospace Group's Engineering & Fabrication Division. Because of those sales and downsizing, we expect that net sales contributed by our U.S. Aerospace Group will be substantially lower in fiscal 2002 than in fiscal 2001. Our U.S. Electronics Group contributed $28.6 million to net sales during the year ended May 31, 2001, up $4.3 million from the $24.3 million contributed during the year ended May 31, 2000. This increase was attributable to additional sales by our U.S. Electronics Group's Filter Division ($0.5 million) of products for telecommunications systems, and sales of non-ruggedized flat panel displays by our U.S. Electronics Group's Display Division ($2.2 million). Our U.S. Electronics Group's Interconnect Division also increased net sales revenue ($1.6 million) related to our core sealing and materials technologies applied to electronic packaging. We currently expect the sales volume in our U.S. Electronics Group to increase during fiscal year 2002. Receivable collection periods, as calculated by dividing ending accounts receivable balances by sales for the year multiplied by 360 days, decreased to 62.9 days for the year ended May 31, 2001 from 67.8 days for the year ended May 31, 2000. This decrease was due to a concerted effort by operations management to increase collection efforts. Gross Profit. Gross profit decreased by $12.4 million, or 60.0%, to $8.2 million for the year ended May 31, 2001, from $20.6 million for the year ended May 31, 2000. As a percentage of net sales, gross profit decreased to 7.5% for the year ended May 31, 2001, from 18.3% for the year ended May 31, 2000. The most significant gross margin decrease occurred in our U.S. Aerospace Group, which continues to under perform due to the lingering effects on our business of the downturn in the commercial aerospace industry and the drawn out cyclical downturn in the heavy trucking transportation industries. Gross margins for the U.S. Aerospace Group decreased from 6.7% during the year ended May 31, 2000 to negative 21.6% during the year ended May 31, 2001. Effective June 1, 2001, we completed the sale of substantially all of the assets of the U.S. Aerospace Group's Casting Division. We have also downsized and sold substantially all of the assets of the fabrication portion of the U.S. Aerospace Group's Engineering & Fabrication Division. We believe that these sales and downsizing should allow our U.S. Aerospace Group to realize positive gross margins in fiscal 2002 if current economic trends do not worsen. Gross margins decreased in our European Aerospace Group from 13.5% for the year ended May 31, 2000 to 11.1% for year ended May 31, 2001. This decrease was primarily due to pricing pressure from customers. We currently expect the gross margins for the European Aerospace Group to increase during fiscal 2002 due to lean manufacturing initiatives and cost containment measures. Gross margins decreased in our U.S. Electronics Group from 44.8% for the year ended May 31, 2000 to 30.8% for the year ended May 31, 2001. This decrease was due to a different product mix within the group, primarily an increased number of non-ruggedized flat panel 40 displays, low power relays, and telecommunications parts, which had the effect of lowering overall gross margins in this group. We also had a $1.6 million inventory charge during the year related to the termination of a contract in our U.S. Electronic Group's Display Division. Without this charge, gross margins would have been 36.4%. We currently expect gross margins to increase within the U.S. Electronics Group during fiscal year 2002. Overall, we currently expect consolidated gross margins to increase during fiscal year 2002. Inventory turnover, as calculated by dividing sales for the year by ending inventory, increased to 4.7 turns for the year ended May 31, 2001 from 4.0 turns for the year ended May 31, 2000. The increase was due to lower inventory levels. We currently expect that our inventory turns will continue to increase during fiscal year 2002. Operating Expenses. Operating expenses increased by $42.7 million, to $67.2 million for the year ended May 31, 2001 from $24.5 million for the year ended May 31, 2000. The increase in operating expenses is primarily attributable to non-cash impairment charges totaling approximately $48.9 million. We review long-lived assets and identifiable intangibles for potential impairment of value whenever events or circumstances indicate that the carrying amount of those assets may not be recoverable. Based upon preliminary and final offers to purchase our European Aerospace Group, we recognized a $37.0 million charge to reduce the $33.0 million carrying value of goodwill and the $13.6 million carrying value of equipment associated with our European Aerospace Group, to net estimated realizable value, approximately $9.6 million. We are still in the process of selling the European Aerospace Group and hope to have the sale finalized during our first or second quarter of fiscal year 2002. We also recognized an impairment charge of $5.5 million to reduce the $6.4 million carrying value of property and equipment used at the Entiat, Washington location of our U.S. Aerospace Group's Casting Division to net realizable value, approximately $0.9 million. During the year ended May 31, 2001, we closed a facility located in Tacoma, Washington that was used by our U.S. Aerospace Group's Casting Division. We recognized a $0.8 million impairment charge to reduce the carrying value of the equipment located at the Tacoma location to zero, the estimated net realizable value. Also, included in operating expenses are non-cash charges of approximately $3.3 million to reduce the $3.5 million carrying value of goodwill and equipment used in the U.S. Aerospace Group's Engineering & Fabrication Division to estimated liquidation value, approximately $0.2 million. We completed the sale of substantially all of the assets used in the fabrication portion of the Engineering & Fabrication Division during the fourth quarter of fiscal year 2001. Within the U.S. Electronic Group's Display Division, we recognized a non-cash charge of approximately $0.6 million to reduce the $1.0 million of equipment used to produce low power relays to its net realizable value, approximately $0.4 million. The equipment, inventory, and intellectual property used to produce low power relays were sold during the fourth quarter of fiscal year 2001. Gross proceeds from the sale were $400,000 compared to a carrying amount of approximately $1.0 million. Operating expenses also include an approximately $320,000 non-cash charge for the loss on the sale of an unused building in Butler, New Jersey that was sold during December 2000. Net proceeds from the sale of the building were approximately $660,000, versus a carrying amount of approximately $980,000. During the fourth quarter of fiscal 2001 we completed our analysis of the value of certain other long-lived assets, including goodwill and patents. Based upon this analysis, we recognized additional impairment charges of approximately $1.0 million to reduce goodwill to estimated fair value, and approximately $0.3 million to reduce patents to estimated fair value. We will continue to analyze long-lived and identifiable intangible assets at the end of each future quarter to determine possible impairment charges. Although we do not believe it likely, our future evaluations could result in additional impairment charges and those charges could be material. At May 31, 2001, the reported value of long-lived assets, including property, plant and equipment, goodwill, and patents, was $27.8 million. 41 Without impairment charges during the respective years, operating expenses decreased by $0.9 million to $18.3 million for the year ended May 31, 2001 from $19.2 million for the year ended May 31, 2000. This decrease in operating expenses relates primarily to our cost reduction efforts. Net Interest Expense. Net interest expense increased $0.1 million to $10.0 million for the year ended May 31, 2001 from $9.9 million for the year ended May 31, 2000. This increase was primarily due to higher average line of credit balances for the first three quarters of the year plus the addition of our 18% senior secured notes and related loan costs during the fourth quarter of the year. The increase in interest from the above items was offset by lower average outstanding balance on our 11 1/4% senior subordinated notes during the year. If our total outstanding senior secured and senior subordinated note balances do not decrease during fiscal year 2002, our interest expense for fiscal year 2002 will be substantially higher than the expense for fiscal year 2001. Other Income (Expense). Other income (expense) represents non-recurring and non-operational income and expense for the period. Other income increased to $201,000 for the year ended May 31, 2001 from $33,000 for the year ended May 31, 2000. Other income in the current year primarily represents rental income and gain on the sale of certain assets. Provision for Income Taxes. Income taxes for the year ended May 31, 2001 primarily represent charges to write off deferred tax assets, $4.9 million, to adjust deferred income tax assets to amounts determined more likely than not to be realizable in accordance with the guidelines set forth in FAS 109, Accounting for Income Taxes. In addition, due to a tax assessment in the U.K. related to interest remitted to Pacific Aerospace, a foreign parent, tax expense also includes an accrual of approximately $1.7 million. We expect income tax expense in future periods to be minimal. Net loss. Net loss increased $62.7 million, to a net loss of $75.7 million for the year ended May 31, 2001 from a net loss of $13.0 million for the year ended May 31, 2000, primarily as a result of the factors discussed above. Adjusted EBITDA. Adjusted EBITDA decreased by $11.7 million to negative $2.7 million for the year ended May 31, 2001 from $9.0 million for the year ended May 31, 2000. The decrease in adjusted EBITDA was due primarily to negative adjusted EBITDA generated by the U.S. Aerospace Group, primarily the Engineering & Fabrication Division and the Casting Division. We have downsized and sold substantially all of the assets related to our Casting Division and the fabrication portion of the Engineering & Fabrication Division. Because of these sales and downsizing, we currently believe that adjusted EBITDA should improve during fiscal year 2002. Year Ended May 31, 2000 Compared to Year Ended May 31, 1999 Net Sales. Net sales increased by $5.3 million, or 5.0%, to $112.7 million for fiscal 2000 from $107.4 million in fiscal 1999. The increase in revenue was primarily due to a full year of operations in our European Aerospace Group ( a $4.0 million increase) and the addition of our Engineering & Fabrication Division ( a $6.7 million increase), offset by reduced sales volume in our Machining Division ( a $7.1 million decrease). The Machining Division continues to be affected by decreases in production of certain aircraft models and inventory minimization initiatives at Boeing, the division's largest customer. 42 Gross Profit. Our gross profit for the year was 18.3%, compared to 19.6% in fiscal 1999. This decrease was primarily due to low sales volumes in our aerospace and transportation production facilities. These facilities traditionally have a high amount of fixed costs which, when coupled with low sales volumes cause the gross profit to decrease. Pricing pressure from customers has also lead to low overall gross profit in the aerospace and transportation markets. Operating Expenses. Operating expenses increased $2.5 million, or 11.4%, to $24.5 million for fiscal 2000 from $22.0 million in fiscal 1999. This increase in operating expenses is primarily due to a full year of operations in our European Aerospace Group and the addition of our Engineering & Fabrication division. Operating expenses include non-cash charges related to the impairment of long-lived assets, primarily goodwill, of $5.3 million in fiscal 2000 and $4.7 million in fiscal 1999. We review long-lived assets and identifiable intangibles for potential impairment of value whenever events or changes in circumstances indicate that the carrying amount of those assets may not be recoverable. During the fourth quarter of fiscal 2000, due to continuing losses and continued weakness in the commercial aerospace and transportation industries, our evaluation resulted in the realization of a $4.6 million impairment of goodwill and a $600,000 property impairment related to our U.S. Aerospace Group. We will continue to evaluate the assets in our U.S. Aerospace Group on a quarterly basis until such time as the divisions in that group become consistently profitable. Our future evaluations could result in additional impairment charges for goodwill, property, and equipment values as well as carrying values of inventories. Approximately $2.4 million of the $4.6 million goodwill impairment related directly to goodwill associated with the Nova-Tech Engineering acquisition, which was acquired by our Engineering & Fabrication Division on May 1, 2000. In April of 1999 we entered into an operating agreement with Nova-Tech Engineering, Inc. We provided consultation and assistance with operations, strategic planning, sales, customers and suppliers, products, employees, accounting and management. We also entered into two loan agreements with Nova-Tech under which we loaned $2.5 million to Nova-Tech for working capital. Periodically, from April 1999 until the acquisition date, May 1, 2000, we reviewed the collectibility of the amounts due from Nova-Tech. Based upon projections of future cash flows completed by us in February 2000, we determined that Nova-Tech would have sufficient future cash flows to repay the loan amounts due to us however, fees due to us under the operating agreement, $10,000 per month, were not going to be collectible. We did not record the income and related bad debt associated with the operating agreement fee, as we believed the amounts were immaterial. Also, based upon our cash flow projections completed in February of 2000, we terminated our original purchase agreement with Nova-Tech, which called for a purchase price of approximately $7.0 million. We renegotiated a purchase price for Nova-Tech of $50,000 plus forgiveness of the debt owed us. This new purchased price resulted in goodwill being recognized on the purchase of approximately $3.9 million. Subsequent to acquisition, during our budgeting process, we prepared a revised forecast based on our current assessment of Nova- Tech's future business prospects. This revised forecast took into consideration recently cancelled and postponed projects. The revised forecast estimated future cash flows, undiscounted, of $3.8 million, significantly lower than what we had previously estimated future cash flows to be. Since this amount was less than our carrying amount of Nova-Tech goodwill, $3.9 million, an impairment was determined to exist. The revised forecast estimated the present value of future cash flows to be $1.5 million. Based upon this, we recognized an impairment charge of $2.4 million to reduce the carrying value of Nova-Tech goodwill from approximately $3.9 million to approximately $1.5 million. Net Interest Expense. Net interest expense increased $1.7 million, or 21.0%, to $9.9 million for fiscal 2000 from $8.1 million in fiscal 1999. This increase was primarily due to a full year of interest 43 expense associated with our 11 1/4% senior subordinated debt, and higher average outstanding balances on our revolving lines of credit. Other Income (Expense). Other income (expense) represents non-recurring and non-operational income and expense for the period. Other expense decreased $6.4 million from $6.4 million expense in fiscal 1999 to other income of $33,000 in fiscal 2000. Prior year other expense was primarily composed of a non-cash charge related to the write down of our investment in the shares of Orca Technologies, Inc. common stock. Extraordinary Item. In March 2000, we exchanged an aggregate of $11.3 million in original principal amount of our 11 1/4% senior subordinated notes for a total of 2,902,806 shares of common stock. This exchange was accounted for as an early extinguishment of debt, and as such, a net of tax gain of $703,000 has been recorded in the accompanying financial statements as an extraordinary item. Net Income. Net income decreased $180,000, to a net loss of $13.0 million for fiscal 2000 from a net loss of $12.9 million in 1999, primarily as a result of the factors discussed above. Adjusted EBITDA. Adjusted EBITDA decreased by $1.7, or 15.9%, to $9.0 million for fiscal 2000 from $10.7 million in fiscal 1999. As a percentage of net sales, adjusted EBITDA decreased to 8.0% in fiscal 2000 from 9.9% in fiscal 1999. The decrease in adjusted EBITDA as a percentage of net sales during this period was primarily attributable to the decreased gross profit due to the decline in commercial aerospace and transportation net sales. Year Ended May 31, 1999 Compared to Year Ended May 31, 1998 Net Sales. Net sales increased by $53.3 million, or 98.5%, to $107.4 million for fiscal 1999 from $54.1 million in fiscal 1998. The significant increase in net sales for fiscal 1999 from fiscal 1998 included a significant net sales contribution from our European Aerospace Group (a $52.8 million increase), increase in electronic products in aerospace, satellite and weapons systems (a $3.5 million increase), offset by a decrease in commercial aerospace and transportation net sales (a $3.0 million decrease). The commercial aerospace industry net sales decrease was primarily attributable to decreases in production of certain aircraft models and inventory minimization initiatives at Boeing. We completed the acquisition of our European Aerospace Group in July 1998. This acquisition expanded our operations to the European aerospace and defense markets, as well as adding to our core competencies in casting and forming. Accordingly, net sales for fiscal 1999 also included ten months of operations of our European Aerospace Group, contributing $52.8 million in net sales. Gross Profit. Gross profit increased by $6.5 million, or 44.5%, to $21.1 million for fiscal 1999 from $14.6 million in fiscal 1998. As a percentage of net sales, gross profit decreased to 19.6% in fiscal 1999 from 27.0% in fiscal 1998. This percentage decrease was primarily attributable to three factors. First, the addition of our European Aerospace Group caused consolidated average margins to be lower since casting segment gross profits have been historically lower, generally in the 18% to 22% range (gross profits on our European Aerospace Group's net sales for fiscal 1999 were 20%). Second, commercial aerospace net sales decreased during fiscal 1999; and third, we recorded approximately $2.2 million in adjustments to inventories, which reduced gross profits 2.1% for fiscal 1999. Operating Expenses. Operating expenses increased by $12.1 million, or 122.2%, to $22.0 million for fiscal 1999 from $9.9 million in fiscal 1998. The acquisition of our European Aerospace Group added 44 $2.7 million, corporate operational costs added $2.5 million, $2.2 million was attributable to general cost increases in operating businesses, and $4.7 million was due to non-cash impairment of long-lived assets, primarily goodwill. Net Interest Expense. Net interest expense increased $7.4 million, or 980%, to $8.1 million for fiscal 1999 from $755,000 in fiscal 1998. This increase was primarily due to our financing of the Aeromet acquisition of our European Aerospace Group in July 1998 with the issuance of $75.0 million of 11 1/4% senior subordinated notes (a $7.7 million increase in interest expense and the associated amortization of issuance costs). Other Income (Expense). Other income (expense) represents non-recurring and non-operational income and expense for the period. Other expense increased to $6.4 million in fiscal 1999 from $853,000 in fiscal 1998. This increase of $5.5 million was due principally to a $7.8 million write down of our investment in shares of Orca Technologies, Inc. common stock. Net Income. Net income decreased $16.5 million, to a $12.9 million loss for fiscal 1999 from a $3.6 million profit in 1998, primarily as a result of the factors discussed above. Adjusted EBITDA. Adjusted EBITDA increased by $3.7, or 53.6%, to $10.7 million for fiscal 1999 from $6.9 million in fiscal 1998. As a percentage of net sales, adjusted EBITDA decreased to 9.9% in fiscal 1999 from 12.8% in fiscal 1998. The decrease in adjusted EBITDA as a percentage of net sales during this period was primarily attributable to $2.2 million in adjustments to inventories recorded during the year and the decreased gross profit due to the decline in commercial aerospace net sales. Liquidity and Capital Resources - ------------------------------- Cash used in operating activities was $1.6 million for the year ended May 31, 2001, compared to cash used in operating activities of $5.2 million for the year ended May 31, 2000. The change in cash used in operating activities was primarily a result of decreasing accounts receivable and inventory balances and increasing accounts payable and accrued liability balances. Our success as a company will depend heavily on our ability to generate cash from operating activities in the future. We can offer no assurance that we will achieve profitable operations or that any profitable operations will be sustained. We are continuing to focus on initiatives that specifically address the need to increase cash provided by operating activities. Some of these initiatives have been completed, such as the closure of our Sedro-Woolley fabrication operations and the sale of our U.S. casting operations, both of which provided negative cash flow from operating activities. Other initiatives include, but are not limited to, staff reductions, selling of excess inventory, and general and administrative cost controls. We continue to reduce staffing at our operating units to better match revenue levels, and we have significantly reduced staff at our corporate headquarters to reduce indirect overhead costs. We are attempting to sublease all or portions of unused facility space. If we are not successful in increasing cash provided by operating activities, we may need to sell additional common stock or other securities, or we may need to sell assets outside of the ordinary course of business in order to meet our obligations. There is no assurance that we will be able to sell additional equity securities or that we will be able to sell assets outside the ordinary course of business for amounts in excess of book value. In that situation, our inability to obtain sufficient cash if and when needed could have a material adverse effect on our financial position, the results of our operations, and our ability to continue as a going concern. Our existing cash and credit facilities will not be sufficient to meet our obligations as they become due. Consequently, we will need to obtain additional cash. Our actual cash needs will depend primarily on 45 the amount of cash generated from or used by operations and financing activities. We cannot predict accurately the amount or timing of our future cash needs. We did not make a semi-annual interest payment of approximately $3.6 million on our 11 1/4% senior subordinated note that was due on August 1, 2001, and we will not be able to make that payment before expiration of the 30-day grace period that expires on August 31, 2001. As a result, we expect an event of default to occur under those notes. Such an event of default would also cause events of default under certain of our other debt instruments, including our 18% senior secured loan. In addition, we may currently be in default under our 18% senior secured loan for failure to make the August 1, 2001 interest payment on our 11 1/4% senior subordinated notes. To date, our secured lenders have not exercised any remedies with respect to any possible default, but we can provide no assurance that they would not exercise their remedies as a result of any default. Possible remedies include acceleration of the due dates of our debt. We are currently in negotiations with the holders of approximately 98% of our 11 1/4% senior subordinated notes regarding a possible restructuring of the Company's debt and equity structure. We did not make our February 1, 2001 interest payment on those notes until March 2, 2001, which was one day before expiration of the 30-day grace period. We made the interest payment from the proceeds of an approximately $13.8 million senior secured loan that closed on March 1, 2001. The March 1, 2001 loan bears interest at 18% per annum, payable quarterly. To date, we have made interest payments on the 18% senior secured loan on time. We have the option to defer and accrue a portion of the quarterly interest payments, up to 1 1/4% per quarter, for up to a year at the time of any interest payment. We exercised this right for our interest payments made in March and June 2001. We do not currently have sufficient cash to make the September 30, 2001 interest payment on our 18% senior secured loan, and we will need to raise additional cash to make that payment. We have been notified by one of our secured lenders that we are not in compliance with certain covenants of loans that are secured by a deed of trust on our headquarters building and other assets. The lender has, to date, agreed not to exercise its remedies, but we can offer no assurance that the lender will continue to forbear until we can regain compliance with those covenants, if at all. We need to raise additional cash to make future payments on our debt and to fund our operations. If we are unable to obtain sufficient cash when needed to fund our operations, to make our loan payments, and to pay our other obligations when due, we may be forced to seek protection from creditors under the bankruptcy laws. Cash used in investing activities decreased from $7.7 million for the year ended May 31, 2000 to $1.5 million during the year ended May 31, 2001. In fiscal year 2001 we made cash investments for the acquisition of equipment of $3.7 million offset by $2.3 million of cash from the sale of assets, primarily an unused building and unused vacant land. We expect to reduce the amount of capital expenditures in fiscal year 2002 and we do not expect to acquire any new businesses during fiscal year 2002. Cash generated from financing activities decreased from $6.8 million during the year ended May 31, 2000 to $5.3 million during the year ended May 31, 2001. Financing activities during fiscal 2001 included net proceeds from the issuance of common stock and warrants, $1.9 million, and borrowing under our 18% senior secured notes of approximately $13.8 million. Approximately, $9.3 million of the 18% senior secured notes was used to directly refinance certain short-term obligations, including our bank line of credit and accrued interest on our 11 1/4% senior subordinated notes. At May 31, 2000, our primary banking relationships included a revolving line of credit of up to $6.3 million in the U.S. and a revolving line of credit of up to approximately $5.0 million ((Pounds)3.5 million) in the U.K. Both of these credit facilities have been replaced with a senior secured term loan of $13.8 million from four institutional lenders. The loan bears interest at 18% per annum, payable quarterly, and has a two-year term. We have the right to defer and accrue a portion of the interest on the loan, up to 1 1/4% per quarter, for up to a year at the time of any interest payment. The loan is secured by our 46 assets, the assets of our United States subsidiaries, and other intangibles. This senior secured loan is a term loan rather than a revolving loan. As a result, if we make payments of principal before the loan's maturity, additional loan proceeds will not become available, and the loan will not provide an additional source of cash to fund our operations or to meet our obligations as they become due. Our working capital as of May 31, 2001 and May 31, 2000 was $25.0 million and $29.2 million, respectively. The decrease in working capital was primarily caused by continued losses, increasing accounts payable and accrued liability balances, and decreasing accounts receivable and inventory balances. The working capital decrease was partially offset by the refinancing of certain short-term obligations, our line of credit, and accrued interest on our 11 1/4% senior subordinated notes, with our 18% senior secured loan, which is long-term debt. If we are not able to increase our cash from operations, increase net income, and secure additional long-term financing or sell additional equity, our working capital will decline during fiscal year 2002. Our consolidated financial statements have been prepared assuming that we will continue as a going concern. However, our independent auditors in their report accompanying our audited consolidated financial statements stated that we have suffered recurring losses from operations which raise substantial doubt about our ability to continue as a going concern. The independent auditors' report for fiscal year 2001 is a disclaimer of opinion. Our consolidated financial statements do not include any adjustments that might result from the outcome of that uncertainty. If we are not sufficiently successful in generating cash from operating activities, we may need to sell additional common stock or other securities, or we may need to sell assets outside the ordinary course of business. If we need to dispose of assets outside of the ordinary course of business to generate cash, we may not be able to realize the carrying value of those assets upon liquidation. If we are unable to generate the necessary cash, we could be unable to continue operations. The functional currency of our European Aerospace Group is the British pound sterling. We translate the activity of our European Aerospace Group into U.S. dollars on a monthly basis. The balance sheet of the European Aerospace Group is translated using the exchange rate as of the date of the balance sheet, and for purposes of the statement of operations and statement of cash flows we use the average exchange rate for the period. The value of our assets, liabilities, revenue, and expenses may vary materially from one reporting period to the next solely as a result of varying exchange rates. During the year ended May 31, 2001, the foreign currency translation adjustment was negative $2.9 million. We have not entered into any hedging activity as of May 31, 2001. Significant Events - ------------------ Equity Financing - Sale of Common Stock In July 2000, we closed the first of two proposed installments of a $3.5 million private placement of common stock to two accredited investors. On that date, we issued 1,142,860 shares of common stock and certain adjustable, vesting, and closing warrants to purchase additional shares to the investors for a gross amount of $2.0 million. We filed a registration statement on Form S-3 with the Securities and Exchange Commission to register the resale of the shares of common stock issued at closing and issuable upon exercise of closing warrants (the "Registration Statement"). If the Registration Statement had become effective within 60 days after the first closing a second closing would have occurred and the investors would have paid an additional $1.5 million and received 857,140 additional shares of common stock. However, the Registration Statement did not become effective within 60 days of the first closing and consequently the second installment did not close. The adjustable warrants permitted 47 the investors to acquire additional shares of common stock at an exercise price of $.001 per share if the market price of our common stock did not achieve and maintain a specific price during each of the three vesting periods. In February 2001, we negotiated an amendment to the adjustable warrants, which replaced the variable amount of shares to be acquired with a fixed number of shares, and the investors exercised the adjustable warrants in full, as so amended, for the exercise price of $.001 per share. As a result of the exercise, we delivered to the investors a total of 4,190,486 shares of common stock. We filed a registration statement on Form S-3 with the Securities and Exchange Commission to register the common stock so issued. We believe that all but 77 of these shares were resold into the public market. The vesting warrants issued under the transaction expired unexercised during February 2001. The closing warrants that entitle the investors to purchase an additional 385,000 shares of our common stock at an exercise price of $2.01 per share remain unexercised and outstanding. The closing warrants expire in July 2003. We paid a commission to the placement agent comprised of $80,000 in cash and warrants to purchase 79,150 shares of common stock at $1.7688 per share. Sales of Assets During our third quarter ended February 28, 2001, we sold our building in Butler, New Jersey that was previously used as a manufacturing site by our Interconnect Division. Net proceeds from the sale of the building were approximately $660,000, versus a carrying amount of approximately $980,000, and we recorded the resultant loss of $320,000 as an operating expense in our consolidated financial statements. We also sold a parcel of land located near our Wenatchee campus. The selling price and carrying value of the land and improvements were both approximately $930,000. During our fourth quarter ended May 31, 2001, we sold substantially all of the assets used in the fabrication portion of our U.S. Aerospace's Group's Engineering & Fabrication Division. The selling price of the assets was approximately $250,000. Within the U.S. Electronic Group's Display Division we sold the equipment, inventory, and intellectual property used to produce low power relays during the fourth quarter of fiscal year 2001. Gross proceeds from the sale were $400,000. Potential Sale of the European Aerospace Group On October 31, 2000, we announced our intention to sell our European Aerospace Group in order to reduce our outstanding 11 1/4% senior subordinated notes. As of May 31, 2001, we had approximately $64 million in principal amount of 11 1/4% senior subordinated notes outstanding. Because we are in the process of seeking buyers for our European Aerospace Group, we do not know whether we will be successful in selling that group and, if successful, we do not know the amount of net proceeds that would be available to reduce our 11 1/4% senior subordinated notes or our approximately $13.7 million of 18% senior secured notes. We are required to pay our senior secured lenders at least $7.5 million upon the sale of our European Aerospace Group. Although at this time we have not committed to the sale of the group, we have received several bona-fide preliminary and final offers to purchase the group. If these offers approximate the final negotiated sales price for the group and we commit to the sale of the group, the offers indicate that we will incur an impairment loss related to goodwill and equipment of approximately $37 million. Consequently, we recorded an impairment loss related to our European Aerospace Group goodwill of $25 million for the quarter ended February 28, 2001, and an additional impairment loss of $12 million related to goodwill and equipment for the quarter ended May 31, 2001. We are still in the process of selling the European Aerospace Group and hope to have the sale finalized during our first or second quarter of fiscal year 2002. 48 18% Senior Secured Loan On March 1, 2001, we borrowed approximately $13.8 million from four institutional lenders. The loan bears interest at 18% per annum, payable quarterly, and has a two-year term. We have the right to defer and accrue a portion of the interest on the loan, up to 1 1/4% per quarter, for up to a year at the time of any interest payment. We exercised this right for our interest payments made in March and June 2001. The loan is secured by our assets, the assets of our U.S. subsidiaries, the common stock of all our operating subsidiaries, and other intangibles. We have used approximately $9.5 million of the proceeds from the loan to repay our revolving line of credit in the U.S. and to pay the interest payment on our 11 1/4% senior subordinated notes that was due on February 1, 2001. The remaining portion of the proceeds from the secured loans has been used to repay other indebtedness, to pay the costs related to the loan transaction, and for general corporate purposes. In connection with the secured loan, we issued warrants to purchase an aggregate of 4,036,978 shares of our common stock at an exercise price of $.001 per share to the lenders. The value of these warrants using the Black Scholes valuation model is $1.6 million at March 1, 2001, and is being amortized over the life of the loan using the straight line method of amortization, as interest expense. In addition, we paid a commission of approximately $415,000 to the placement agent that represented us in the transaction, and we issued warrants to purchase up to 692,074 shares of our common stock to the placement agent, at an exercise price of $.4062 per share. The value of the placement agent's warrants using the Black Scholes valuation model is $250,000 and is being amortized over the life of the loan using the straight line method of amortization, as interest expense. New Accounting Pronouncements - ----------------------------- In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, as amended, Accounting for Derivative Instruments and Hedging Activities. SFAS No. 133 requires the recognition of all derivatives in the consolidated balance sheet as either assets or liabilities measured at fair value. We will adopt the provision of SFAS No. 133 in the first quarter of fiscal year 2002. We do not expect that the adoption of SFAS No. 133 will have a material impact on our consolidated financial statements. In July 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that all business combinations be accounted for under a single method, the purchase method. Use of the pooling-of-interests method no longer is permitted, although poolings initiated prior to June 30, 2001 are grandfathered. SFAS No. 141 requires that the purchase method be used for business combinations initiated after June 30, 2001. SFAS No. 142 requires that intangible assets with indefinite lives and goodwill no longer be amortized to earnings, but instead be reviewed for impairment. The amortization of intangible assets with indefinite lives and goodwill ceases upon adoption of the Statement, which the Company must adopt by June 1, 2002. Early adoption at June 1, 2001, is allowed. SFAS No. 142 also requires an evaluation of intangible assets and their useful lives and a transitional impairment test for certain intangible assets and goodwill. After transition, the impairment tests are to be performed annually. As of May 31, 2001, the Company had unamortized costs in excess of book value of acquired subsidiaries of $351,000 and patents of $735,000, which will be subject to the transition provisions of SFAS No. 141 and 142. We do not expect that the adoption of SFAS No. 141 and 142 will have a material impact on our consolidated financial statements. 49 Subsequent Event - ---------------- Effective June 1, 2001, we sold substantially all of the assets of the U.S. Aerospace Group's Casting Division location in Entiat, Washington to two newly formed limited liability companies owned by a private company. The purchase price was approximately $4.6 million, which consisted of approximately $1.5 million in cash (including $160,000 to be paid into escrow by the purchasers within 120 days after closing and held for possible post-closing adjustments), a $1.0 million long-term note payable to Pacific Aerospace, units in the newly created limited liability companies valued by the parties at $1.0 million, and the assumption of $1.1 million in liabilities. We used the cash proceeds to retire certain long-term debt related to the Entiat assets and to pay closing costs related to the transaction. The long-term note bears interest at 7% and is payable in quarterly installments, interest only for the first year and then principal and interest for five additional years. Due to the uncertainties of payment under this note, we have fully reserved against it as of the closing date and it is not shown as an asset on our balance sheet. The units in the newly created limited liability companies have certain preferential rights, including an accumulating preferred return equal to 5% of the par value of then outstanding units and put rights subject to certain restrictions and limitations. Due to the inability to accurately estimate the fair market value of the units, and the uncertainty surrounding any such value, we have assigned no value to the units for financial statement purposes. 50 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We have financial instruments that are subject to interest rate risk, primarily debt obligations issued at a fixed rate and variable rates. Our fixed-rate debt obligations are generally not callable until maturity and therefore market fluctuations in interest rates will not affect our earnings for the period. Our variable rate debt obligations represent approximately 2% of our total debt obligations. Based upon these facts, we do not consider the market risk exposure for interest rates to be material. The fair value of such instruments approximates their face value, except for our 11 1/4% senior subordinated notes, which as of May 31, 2001, we believe were trading on the open market for approximately 50% of face value. We are subject to foreign currency exchange rate risk relating to receipts from and payments to suppliers in foreign currencies. Since approximately 47% of our transactions are conducted in foreign currency, the exchange rate risk could be material. During fiscal years 1999, 2000 and 2001, the foreign currency translation adjustments were losses of $1.1 million, $5.1 million and $2.9 million, net of tax, respectively. We have not entered into any hedging activity as of May 31, 2001. We are exposed to commodity price fluctuations through purchases of aluminum, titanium, and other raw materials. We enter into certain supplier agreements that guarantee quantity and price of the applicable commodity to limit the exposure to commodity price fluctuations and availability concerns. At May 31, 2001, we had purchase commitments for raw materials aggregating approximately $1.7 million. This amount relates to a titanium supply agreement with a fixed price. This commitment at May 31, 2001 represented less than 2% of our consolidated cost of goods sold for fiscal 2001. 51 ITEM 8. FINANCIAL STATEMENTS INDEPENDENT AUDITORS' REPORT The Board of Directors Pacific Aerospace & Electronics, Inc.: We have audited the accompanying consolidated balance sheets of Pacific Aerospace & Electronics, Inc. as of May 31, 2000 and 2001, and the related consolidated statements of operations and comprehensive loss, stockholders' equity (deficit), and cash flows for each of the years in the three-period ended May 31, 2001. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to report on these consolidated financial statements based on the results of our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our report. In our opinion, the 2000 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Pacific Aerospace & Electronics, Inc. as of May 31, 2000, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America. The accompanying 2000 and 2001 consolidated financial statements have been prepared assuming that Pacific Aerospace & Electronics, Inc. will continue as a going concern. As discussed in note 3 to the consolidated financial statements, the Company has suffered recurring losses from operations and has a net capital deficiency at May 31, 2001, which raise substantial doubt about the entity's ability to continue as a going concern. Management's plans in regard to these matters are also described in note 3. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. Because of the significance of the uncertainty discussed in the preceding paragraph, we are unable to express, and we do not express, an opinion on the accompanying 2001 consolidated financial statements. /s/ KPMG LLP Seattle, Washington July 27, 2001 52 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Consolidated Balance Sheets May 31, 2000 and 2001
Assets 2000 2001 ------------- ------------ Current assets: Cash and cash equivalents $ 2,154,000 4,095,000 Accounts receivable, net of allowance for doubtful accounts, sales returns and allowances of $619,000 in 2000 and $451,000 in 2001 21,210,000 19,101,000 Inventories 27,849,000 22,994,000 Deferred income taxes 872,000 115,000 Prepaid expenses and other 1,668,000 666,000 ------------- ------------ Total current assets 53,753,000 46,971,000 ------------- ------------ Property, plant and equipment, net 44,076,000 26,754,000 ------------- ------------ Other assets: Costs in excess of net book value of acquired subsidiaries, net of accumulated amortization of $2,659,000 in 2000 and $202,000 in 2001 38,291,000 351,000 Patents, net of accumulated amortization of $509,000 in 2000 and $428,000 in 2001 1,158,000 735,000 Deferred financing costs, net of accumulated amortization of $1,433,000 in 2000 and $2,477,000 in 2001 3,597,000 5,597,000 Deferred income taxes 2,303,000 -- Other 404,000 408,000 ------------- ------------ Total other assets 45,753,000 7,091,000 ------------- ------------ $ 143,582,000 80,816,000 ============= ============ Liabilities and Stockholders' Equity (Deficit) Current liabilities: Accounts payable $ 10,630,000 12,639,000 Accrued liabilities 4,589,000 5,209,000 Accrued interest 2,372,000 2,831,000 Current portion of long-term debt 1,098,000 929,000 Current portion of capital lease obligations 504,000 329,000 Line of credit 5,379,000 -- ------------- ------------ Total current liabilities 24,572,000 21,937,000 Long-term liabilities: Long-term debt, net of current portion 4,161,000 16,969,000 Capital lease obligations, net of current portion 1,065,000 1,005,000 Senior subordinated notes payable 63,700,000 63,700,000 Deferred income taxes -- 2,077,000 Deferred rent and other 316,000 242,000 ------------- ------------ Total liabilities 93,814,000 105,930,000 ------------- ------------ Stockholders' equity (deficit): Series B convertible preferred stock, $0.001 par value, 5,000,000 shares authorized, 34,529 and no shares issued and outstanding at May 31, 2000 and 2001, respectively -- -- Common stock, $0.001 par value, 100,000,000 shares authorized, 30,283,621 and 38,833,151 shares issued and outstanding at May 31, 2000 and 2001, respectively 30,000 39,000 Additional paid-in capital 83,173,000 86,917,000 Accumulated other comprehensive loss (6,250,000) (9,165,000) Accumulated deficit 27,185,000) (102,905,000) -------------- ------------ Total stockholders' equity (deficit) 49,768,000 (25,114,000) Commitments, contingencies and subsequent event -- -- -------------- ------------ $ 143,582,000 80,816,000 ============== ============
See accompanying notes to consolidated financial statements. 53 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Consolidated Statements of Operations and Comprehensive Loss Years ended May 31, 1999, 2000 and 2001
1999 2000 2001 --------------- ------------- -------------- Net sales $ 107,366,000 112,694,000 109,288,000 Cost of sales 86,302,000 92,063,000 101,048,000 --------------- ------------- ---------------- Gross profit 21,064,000 20,631,000 8,240,000 Operating expenses 22,039,000 24,533,000 67,201,000 --------------- ------------- ---------------- Loss from operations (975,000) (3,902,000) (58,961,000) --------------- ------------- ---------------- Other income (expense): Interest income 532,000 97,000 15,000 Interest expense (8,672,000) (9,959,000) (10,027,000) Other (6,393,000) 33,000 201,000 --------------- ------------- ---------------- Total other expense (14,533,000) (9,829,000) (9,811,000) --------------- ------------- ---------------- Loss before income tax benefit (expense) and extraordinary item (15,508,000) (13,731,000) (68,772,000) Income tax benefit (expense) 2,639,000 (21,000) (6,948,000) --------------- ------------- ---------------- Loss before extraordinary item (12,869,000) (13,752,000) (75,720,000) Extraordinary item, net of tax of $362,000 -- 703,000 -- --------------- ------------- ---------------- Net loss (12,869,000) (13,049,000) (75,720,000) Other comprehensive loss: Foreign currency translation (1,727,000) (4,523,000) (2,915,000) Income tax benefit (expense) 587,000 (587,000) -- Valuation of available for sale securities 436,000 -- -- --------------- ------------- ---------------- Total other comprehensive loss (704,000) (5,110,000) (2,915,000) --------------- ------------- ---------------- Comprehensive loss $ (13,573,000) (18,159,000) (78,635,000) =============== ============= ================ Net loss per share: Basic $ (0.74) (0.59) (2.15) Diluted (0.74) (0.59) (2.15) Shares used in computation of net loss per share: Basic 17,359,491 21,955,473 35,283,347 Diluted 17,359,491 21,955,473 35,283,347
See accompanying notes to consolidated financial statements. 54 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity (Deficit) Years ended May 31, 1999, 2000 and 2001
Series B convertible preferred stock Common stock Additional ----------------------------- --------------------------- paid-in Shares Amount Shares Amount capital ---------- ---------- ---------- ---------- ----------- Balance at May 31, 1998 100,000 $ -- 15,395,723 $ 15,000 57,830,000 Issuance of preferred stock, net of issuance costs of $370,000 70,000 -- -- -- 6,630,000 Issuance of common stock for services -- -- 590,000 1,000 1,769,000 Cancellation of warrants -- -- -- -- (360,000) Valuation of available for sale securities -- -- -- -- -- Foreign currency translation adjustment, net of tax effect of $587,000 -- -- -- -- -- Issuance of common stock on conversion of Series B preferred stock (8,965) -- 545,114 -- -- Issuance of common stock under employee stock purchase plan, net of related expenses of $4,000 -- -- 41,942 -- 72,000 Sale of common stock for cash, net of issuance costs of $344,000 -- -- 2,585,000 3,000 4,823,000 Common shares redeemed in connection with a prior acquisition -- -- (225,000) -- (1,488,000) Net loss -- -- -- -- -- ---------- ---------- ---------- ---------- ----------- Balance at May 31, 1999 161,035 -- 18,932,779 39,000 69,276,000 Issuance of common stock under employee stock purchase plan, net of related expenses of $12,000 -- -- 142,696 -- 163,000 Sale of common stock for cash, net of issuance costs of $788,000 -- -- 1,598,000 1,000 4,005,000 Issuance of warrants -- -- -- -- 60,000 Exercise of warrants for cash, net -- -- 25,000 -- 86,000 Issuance of common stock in exchange for senior subordinated notes -- -- 2,902,806 3,000 9,650,000 Issuance of common stock on conversion of Series B preferred stock, net of issuance costs of $60,000 (126,506) -- 6,682,340 7,000 (67,000) Foreign currency translation adjustment, net of tax effect of $587,000 -- -- -- -- -- Net loss -- -- -- -- -- ---------- ---------- ---------- ---------- ----------- Balance at May 31, 2000 34,529 -- 30,283,621 30,000 83,173,000 Issuance of common stock under employee stock purchase plan, net of related expenses of $10,000 -- -- 407,090 1,000 167,000 Issuance of common stock on conversion of Series B preferred stock, net of issuance costs of $18,000 (34,529) -- 2,809,094 3,000 (21,000) Sale of common stock and warrants for cash, net of issuance costs of $173,000 -- -- 1,142,860 1,000 1,712,000 Exercise of warrants for cash, net -- -- 4,190,486 4,000 -- Issuance of warrants -- -- -- -- 1,886,000 Foreign currency translation -- -- -- -- -- adjustment Net loss -- -- -- -- -- ---------- ---------- ---------- ---------- ----------- Balance at May 31, 2001 -- $ -- 38,833,151 $ 39,000 86,917,000 ========== ========== ========== ========== =========== Accumulated Total other stockholders' comprehensive Accumulated equity loss deficit (deficit) ------------- ------------ ------------- Balance at May 31, 1998 (436,000) (1,267,000) 56,142,000 Issuance of preferred stock, net of issuance costs of $370,000 -- -- 6,630,000 Issuance of common stock for services -- -- 1,770,000 Cancellation of warrants -- -- (360,000) Valuation of available for sale securities 436,000 -- 436,000 Foreign currency translation adjustment, net of tax effect of $587,000 (1,140,000) -- (1,140,000) Issuance of common stock on conversion of Series B preferred stock -- -- -- Issuance of common stock under employee stock purchase plan, net of related expenses of $4,000 -- -- 72,000 Sale of common stock for cash, net of issuance costs of $344,000 -- -- 4,826,000 Common shares redeemed in connection with a prior acquisition -- -- (1,488,000) Net loss -- (12,869,000) (12,869,000) ------------- ------------ ------------- Balance at May 31, 1999 (1,140,000) (14,136,000) 54,019,000 Issuance of common stock under employee stock purchase plan, net of related expenses of $12,000 -- -- 163,000 Sale of common stock for cash, net of issuance costs of $788,000 -- -- 4,006,000 Issuance of warrants -- -- 60,000 Exercise of warrants for cash, net -- -- 86,000 Issuance of common stock in exchange for senior subordinated notes -- -- 9,653,000 Issuance of common stock on conversion of Series B preferred stock, net of issuance costs of $60,000 -- -- (60,000) Foreign currency translation adjustment, net of tax effect of $587,000 (5,110,000) -- (5,110,000) Net loss -- (13,049,000) (13,049,000) ------------- ------------ ------------- Balance at May 31, 2000 (6,250,000) (27,185,000) 49,768,000 Issuance of common stock under employee stock purchase plan, net of related expenses of $10,000 -- -- 168,000 Issuance of common stock on conversion of Series B preferred stock, net of issuance costs of $18,000 -- -- (18,000) Sale of common stock and warrants for cash, net of issuance costs of $173,000 -- -- 1,713,000 Exercise of warrants for cash, net -- -- 4,000 Issuance of warrants -- -- 1,886,000 Foreign currency translation (2,915,000) -- (2,915,000) adjustment Net loss -- (75,720,000) (75,720,000) ------------- ------------ ------------- Balance at May 31, 2001 (9,165,000) (102,905,000) (25,114,000) ============= ============ =============
See accompanying notes to consolidated financial statements. 55 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended May 31, 1999, 2000 and 2001
1999 2000 2001 ------------- ------------ -------------- Cash flow from operating activities: Net loss $ (12,869,000) (13,049,000) (75,720,000) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 6,705,000 7,741,000 7,334,000 Allowance on note receivable and guarantees 2,884,000 -- -- Impairment of certain long lived assets 3,275,000 5,304,000 48,946,000 Writedown of inventories 2,208,000 -- 1,600,000 Realized loss on investment 4,943,000 19,000 -- Gain on early extinguishment of debt -- (703,000) -- Other nonoperating (income) expenses 750,000 (8,000) (144,000) Income tax (benefit) expense (4,287,000) 151,000 5,844,000 Changes in operating assets and liabilities: Accounts receivable (121,000) 3,250,000 1,661,000 Inventories 543,000 (3,072,000) 2,445,000 Prepaid expenses and other current assets (421,000) (137,000) (347,000) Other assets 1,077,000 (2,307,000) (114,000) Accounts payable, accrued liabilities and other liabilities (5,059,000) (2,396,000) 6,895,000 ------------- ------------ -------------- Net cash used in operating activities (372,000) (5,207,000) (1,600,000) ------------- ------------ -------------- Cash flow from investing activities: Acquisition of property, plant and equipment (8,040,000) (4,867,000) (3,710,000) Acquisition of subsidiaries (69,752,000) (1,350,000) -- Proceeds from sale of property, plant and equipment -- -- 2,254,000 Issuance of notes receivable (1,458,000) (1,505,000) -- Other changes, net (24,000) 49,000 (20,000) ------------- ------------ -------------- Net cash used in investing activities (79,274,000) (7,673,000) (1,476,000) ------------- ------------ -------------- Cash flow from financing activities: Net borrowings (repayments) under line of credit (1,511,000) 5,218,000 319,000 Proceeds from long-term debt 72,160,000 -- 4,802,000 Payments on long-term debt and capital leases (5,752,000) (2,603,000) (1,698,000) Proceeds from sale of common stock and warrants, net 4,898,000 4,169,000 1,863,000 Proceeds from sale of preferred stock, net 6,630,000 (60,000) -- Proceeds from exercise of warrants -- 86,000 4,000 Other changes, net -- 24,000 -- ------------- ------------ -------------- Net cash provided by financing activities 76,425,000 6,834,000 5,290,000 ------------- ------------ -------------- Net increase (decrease) in cash and cash equivalents (3,221,000) (6,046,000) 2,214,000 Effect of exchange rates on cash (106,000) 66,000 (273,000) Cash and cash equivalents at beginning of year 11,461,000 8,134,000 2,154,000 ------------- ------------ -------------- Cash and cash equivalents at end of year $ 8,134,000 2,154,000 4,095,000 ============= ============ ============== Supplemental cash flow: Cash paid during the year for: Interest $ 5,296,000 9,563,000 8,524,000 Income taxes 411,000 2,232,000 295,000 Acquisition of subsidiaries: Fair value of assets acquired and resulting goodwill, excluding cash 86,593,000 9,801,000 -- Liabilities assumed 16,811,000 5,814,000 -- Noncash investing and financing activities: Seller financed acquisition of property, plant and equipment 241,000 -- -- Conversion of notes and accrued interest to common stock -- 11,457,000 -- Short-term obligations refinanced with long-term debt -- -- 9,306,000 Reclassification of property, plant and equipment to other assets 1,217,000 -- -- Issuance of warrants in connection with debt -- -- 1,886,000
See accompanying notes to consolidated financial statements. 56 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (1) Description of Business and Basis of Presentation (a) Description of Business Pacific Aerospace & Electronics, Inc., headquartered in Wenatchee, Washington, is an international engineering and manufacturing company which develops, manufactures and markets high performance electronic and metal components and assemblies for the aerospace, defense, electronics, medical, energy, telecommunications, and transportation industries. The consolidated financial statements include the accounts of Pacific Aerospace & Electronics, Inc. and its wholly owned subsidiaries (collectively, the "Company"). (b) Basis of Presentation These consolidated financial statements are prepared in accordance with generally accepted accounting principles (GAAP) in the United States of America (U.S.) and present the financial position, results of operations and changes in financial position of the Company. All material intercompany balances and transactions have been eliminated in consolidation. Certain 1999 and 2000 amounts have been reclassified to conform with the 2001 presentation. (2) Summary of Significant Accounting Principles (a) Cash and Cash Equivalents Cash and cash equivalents consist of cash, demand deposits with banks and highly liquid investments with maturity dates at purchase of three months or less. (b) Inventories Inventories are stated at the lower of cost, primarily determined by the first-in, first-out method, or market (replacement cost for raw materials and net realizable value for work in progress and finished goods). (c) Property, Plant and Equipment Property, plant and equipment are stated at cost or fair market value of the underlying assets. Property, plant and equipment under capital leases are stated at the lower of the fair market value of the assets or the present value of minimum lease payments at the inception of the leases. Depreciation and amortization are calculated using the straight-line method over the estimated useful lives of the owned assets ranging from 3 years for certain machinery and equipment to 40 years for certain buildings. Property, plant and equipment held under capital leases are amortized using the straight-line method over the shorter of the estimated useful lives of the assets or the lease terms, ranging from 7 to 10 years. (Continued) 57 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 Expenditures for maintenance and repairs are charged to expense as incurred. Upon sale or retirement, the cost and related accumulated depreciation or amortization is removed from the accounts and any resulting gain or loss is reflected in other income or expense. (d) Intangible Assets Costs in excess of net book value of acquired subsidiaries are amortized using the straight-line method over a period ranging from 10 to 40 years from the date of acquisition. Patents are amortized using the straight-line method over the estimated useful lives of the patents ranging from 10 to 17 years. Deferred financing costs were incurred in connection with certain debt instruments and are being amortized using the straight-line method over life of the related debt instruments, currently ranging from 2 to 15 years. (e) Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed Of Long-lived assets and certain identifiable intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceed the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell. (f) Revenue Recognition Revenue is primarily recognized when products are shipped to customers and when services are performed. In certain instances the Company recognizes revenues from long-term, fixed-price contracts on the percentage of completion method measured by job progress. Contract costs for long-term contracts include all direct material and labor costs related to contract performance. Provisions for estimated losses on uncompleted contracts are made in the period in which losses are determined. Changes in job performance, job conditions, and estimated profitability, including those arising from contract penalty provisions, and final contract settlements may result in revisions to costs and income and are recognized in the period in which the revisions are determined. Profit incentives are included in revenue when their realization is reasonably assured. When formal customer approval is necessary, the Company defers revenue recognition until such approval is received. (g) Research and Development Research and development costs are expensed as incurred and are included in cost of sales. (Continued) 58 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (h) Income Taxes The Company follows the asset and liability method of accounting for income taxes. Under the asset and liability method of accounting for income taxes, deferred tax assets and liabilities are recognized based on the estimated future tax consequences attributable to differences between the consolidated 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 in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date. (i) Stock-Based Compensation The Company follows the provisions of Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation. This statement permits a company to choose either the fair-value method or the Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, intrinsic-value based method of accounting for stock-based compensation arrangements. SFAS No. 123 requires pro forma disclosure of net income (loss) and earnings (loss) per share computed as if the fair-value based method had been applied in financial statements of companies that continue to account for such arrangements under APB Opinion No. 25. The Company has elected to continue to record stock-based compensation using the APB Opinion No. 25 intrinsic-value-based method and, therefore, the adoption of SFAS No. 123 has not significantly impacted the Company's financial positions, results of operations, or liquidity. (j) Net Loss Per Share Basic loss per share is computed using the weighted average number of common shares outstanding during the period. Diluted loss per share is computed using the weighted average number of common and dilutive common equivalent shares outstanding during the period using the treasury stock method. As the Company had a net loss for the years ended May 31, 1999, 2000 and 2001, basic and diluted net loss per share are the same. (k) Foreign Currency The functional currency of the Company's foreign subsidiaries is the local currency of the country in which the subsidiary is incorporated. Assets and liabilities of foreign operations are translated into U.S. dollars using rates of exchange in effect at the end of the reporting period. Income and expense accounts are translated into U.S. dollars using average rates of exchange during the reporting period. The net gain or loss resulting from translation is shown as a foreign currency translation adjustment and is included in accumulated other comprehensive income (loss) in stockholders' equity. Gains and losses from foreign currency transactions are included in other income or expense in the consolidated statements of operations. There were no significant foreign currency transaction gains or losses for the years ended May 31, 1999, 2000 and 2001. (Continued) 59 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (l) Comprehensive Loss The Company follows the provisions of SFAS No. 130, Reporting Comprehensive Income, which establishes standards for the reporting and disclosure of comprehensive income and its components (revenues, expenses, gains and losses) in a full set of consolidated financial statements. The Company's other comprehensive income (loss) primarily consists of foreign currency translation adjustments. (m) Use of Estimates The preparation of consolidated financial statements in conformity with GAAP in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. (n) New Accounting Pronouncements In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, as amended, Accounting for Derivative Instruments and Hedging Activities. SFAS No. 133 requires the recognition of all derivatives in the consolidated balance sheet as either assets or liabilities measured at fair value. We will adopt the provision of SFAS No. 133 in the first quarter of fiscal year 2002. The Company does not expect that the adoption of SFAS No. 133 will have a material impact on the Company's consolidated financial statements. In July 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that all business combinations be accounted for under a single method, the purchase method. Use of the pooling-of-interests method no longer is permitted, although poolings initiated prior to June 30, 2001 are grandfathered. SFAS No. 141 requires that the purchase method be used for business combinations initiated after June 30, 2001. SFAS No. 142 requires that intangible assets with indefinite lives and goodwill no longer be amortized to earnings, but instead be reviewed for impairment. The amortization of intangible assets with indefinite lives and goodwill ceases upon adoption of the Statement, which the Company must adopt by June 1, 2002. Early adoption at June 1, 2001, is allowed. SFAS No. 142 also requires an evaluation of intangible assets and their useful lives and a transitional impairment test for certain intangible assets and goodwill. After transition, the impairment tests are to be performed annually. As of May 31, 2001, the Company had unamortized costs in excess of book value of acquired subsidiaries of $351,000, and patents of $735,000, which will be subject to the transition provisions of SFAS No. 141 and 142. The Company does not expect that the adoption of SFAS No. 141 and 142 will have a material impact on the consolidated financial statements. (Continued) 60 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (3) Going Concern The Company's consolidated financial statements have been prepared assuming the Company will continue as a going concern. Cash used in operating activities was $1,600,000 for fiscal year 2001 compared to $5,207,000 and $372,000 in fiscal years 2000 and 1999, respectively. The Company's future success will depend heavily on its ability to generate cash from operating activities and to meet its obligations as they become due. The Company is focusing on initiatives that specifically address the need to increase cash provided by operating activities. Some of these initiatives include, but are not limited to possible staff reductions, reduced product line offerings, selling of excess inventory, and general and administrative cost controls. The Company has also downsized, closed, sold or is in process of selling certain of its subsidiaries that have continued to produce negative cash flow from operations. The Company is also in process of selling its European Aerospace Group to substantially reduce its debt and corresponding interest expense. If the Company is not sufficiently successful in increasing cash provided by operating activities, it may need to sell additional common stock or sell assets outside of the ordinary course of business in order to meet its obligations. There is no assurance that the Company will be able to achieve sufficient cash from operations, to sell additional common stock, or to sell its assets for amounts in excess of book value. The Company's existing cash and credit facilities will not be sufficient to meet its obligations as they become due. Consequently, the Company will need to obtain additional cash. The Company's actual cash needs will depend primarily on the amount of cash generated from or used by its operations and financing activities. The Company cannot predict accurately the amount or timing of its future cash needs. The Company's semi-annual interest payment of approximately $3.6 million on its 11 1/4% senior subordinated notes was due on August 1, 2001. The Company did not make that payment at that time and does not currently have sufficient cash to make the interest payment on its 11 1/4% senior subordinated notes. The Company will also need to raise additional cash to make future interest payments on the Senior Notes, as well as other debt instruments, and to fund its operations. If the Company is unable to obtain sufficient cash when needed to fund its operations, to make these interest payments, and to pay our other obligations when due, it may be forced to seek protection from creditors under the bankruptcy laws. The Company's ability to obtain additional cash if and when needed could have a material adverse effect on its financial position, results of operations and its ability to continue in existence. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. (4) Impairment of Long-Lived Assets Included in operating expenses in the years ended May 31, 1999, 2000 and 2001 are $4.9 million, $5.3 million, and $48.9 million, respectively, in non-cash charges related to the impairment of long-lived assets, primarily goodwill and equipment. The Company reviews long-lived assets and identifiable intangibles for potential impairment of value whenever events or changes in circumstances indicate that the carrying amount of those assets may not be recoverable. (Continued) 61 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 During the year ended May 31, 1999 the Company determined that due to continued losses related to the U.S. Electronics Group's Displays Division, a impairment of approximately $4.7 million existed at that division. The impairment was comprised of goodwill, $3.6 million, and personal property, $1.1 million. The carrying amount of goodwill was $3.6 million prior to the impairment charge and $0 after the impairment charge. The carrying amount of personal property, which consisted of manufacturing equipment, computer hardware, and office furniture, was $3.5 million before the impairment charge and $2.4 million after the impairment charge. Also, during the year ended May 31, 1999 the Company recognized an impairment charge of $0.2 million to reduce the carrying value, $1.6 million, of manufacturing equipment used in the Electronics Group's Interconnect Division to its estimated fair value, $1.4 million. During the year ended May 31, 2000 due to continuing losses, weakness in the commercial aerospace and transportation industries and cancellation and postponement of projects by major customers in our Engineering & Fabrication Division, the Company's evaluation of long-lived assets resulted in the realization of a $4.6 million impairment of goodwill and a $600,000 property impairment related to the Company's U.S. Aerospace Group. The carrying amount of the goodwill was $6.6 million prior to the impairment charge and $2.0 million after the impairment charge. The carrying amount of the personal property, which consisted of manufacturing equipment, was $600,000 prior to the impairment charge and $0 after the impairment charge. Based upon estimated net realizable value of certain assets, the Company recognized the following impairment charges for the year ended May 31, 2001: Within the European Aerospace Group the Company recognized a $37.0 million charge to reduce the $33.0 million carrying value of goodwill and the $13.6 million carrying value of manufacturing equipment associated with our European Aerospace Group, to the estimated net realizable value of the manufacturing equipment, $9.6 million. Within the U.S. Aerospace Group, the Company recognized an impairment charge of $5.5 million to reduce the $6.4 million carrying value of property and manufacturing equipment used at the Company's U.S. Aerospace Group's Casting Division's Entiat, Washington location to net realizable value, approximately $0.9 million. The Company recognized a $0.8 million impairment charge to reduce the carrying value of the manufacturing equipment located at its Tacoma casting location to zero, the estimated net realizable value. The Company also recognized charges of $3.3 million to reduce the $3.5 million carrying value of goodwill and manufacturing equipment used in the Engineering & Fabrication Division to estimated net realizable value, $0.2 million. Within the U.S. Electronics Group, the Company recognized a charge of $0.6 million to reduce the $1.0 million of manufacturing equipment used to produce low power relays to its net realizable value, $0.4 million. The Company recognized a $320,000 charge to reduce the carrying value of an unused manufacturing facility of $980,000 to net realizable value, $660,000. (Continued) 62 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 The Company also completed an analysis of the estimated future cash flows of certain other long-lived assets including goodwill and patents. Based upon this analysis the Company recognized additional impairment charges of $1.0 million within the U.S. Electronics Group to reduce goodwill to net realizable value, and $0.3 million within the U.S. Aerospace Group to reduce patents to net realizable value. The Company will continue to analyze long-lived and identifiable intangible assets in the future to determine possible impairment charges. Future evaluations could result in additional impairment charges and those charges could be material. At May 31, 2001, the carrying value of long-lived assets, including property, plant and equipment, goodwill, and patents, was $27.8 million. (5) Segment Information and Concentration of Risk The Company is organized into three operational segments, "U.S. Aerospace," "European Aerospace," and "U.S. Electronics." The Aerospace segments are primarily comprised of machined, formed and cast metal product operations. Net sales of the Aerospace segments include sales to customers in the aerospace, defense and transportation industries. Net sales of the Electronics segment also include sales to customers in the aerospace and defense industries. Historically, these segments have been cyclical and sensitive to general economic and industry specific conditions. In particular, the aerospace industry, in recent years, has been adversely affected by a number of factors, including reduced demand for commercial aircraft, a decline in military spending, postponement of overhaul and maintenance of aircraft, increased fuel and labor costs, increased regulations, and intense price competition, among other factors. In addition, there is no assurance that general economic conditions will not lead to a downturn in demand for core components and products of the Company, in each of its operational segments. Presented below is the Company's operational segment information. In addition, all operational segments identified as "U.S." and Corporate are located within the U.S. while the operations and assets of the "European Aerospace" segment are located within the United Kingdom. Identifiable assets are those assets used in the Company's operations in each segment, and do not include advances or loans between the business segments. Corporate assets are identified below, and no allocations were necessary for assets used jointly by the segments. Year ended May 31, 1999:
Corporate, U.S. European U.S. other and Aerospace Aerospace Electronics eliminations Total -------------- ------------- ------------- --------------- --------------- Net sales to customers $ 31,096,000 52,814,000 23,456,000 -- 107,366,000 Net sales between segments 239,000 -- -- (239,000) -- Income (loss) from operations 2,148,000 7,468,000 (6,220,000) (4,371,000) (975,000) Identifiable assets 26,655,000 90,125,000 21,735,000 20,212,000 158,727,000 Capital expenditures 2,438,000 1,679,000 2,541,000 2,453,000 9,111,000 Depreciation and amortization 1,659,000 3,170,000 1,684,000 192,000 6,705,000 Interest income -- 17,000 19,000 496,000 532,000 Interest expense 419,000 3,516,000 202,000 4,535,000 8,672,000
(Continued) 63 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 Year ended May 31, 2000:
Corporate, U.S. European U.S. other and Aerospace Aerospace Electronics eliminations Total --------------- --------------- ---------------- --------------- ---------------- Net sales to customers $ 31,483,000 56,913,000 24,298,000 -- 112,694,000 Net sales between segments 351,000 -- -- (351,000) -- Income (loss) from operations (5,820,000) 2,628,000 6,245,000 (6,955,000) (3,902,000) Identifiable assets 32,553,000 75,585,000 23,018,000 12,426,000 143,582,000 Capital expenditures 1,518,000 1,254,000 1,300,000 795,000 4,867,000 Depreciation and amortization 2,235,000 3,702,000 1,367,000 437,000 7,741,000 Interest income -- 35,000 -- 62,000 97,000 Interest expense 353,000 4,349,000 129,000 5,128,000 9,959,000
Year ended May 31, 2001:
Corporate, U.S. European U.S. other and Aerospace Aerospace Electronics eliminations Total --------------- --------------- ---------------- --------------- ---------------- Net sales to customers $ 29,121,000 51,597,000 28,570,000 -- 109,288,000 Net sales between segments 491,000 -- -- (491,000) -- Income (loss) from operations (19,451,000) (35,010,000) 2,809,000 (7,309,000) (58,961,000) Identifiable assets 17,177,000 34,419,000 17,102,000 12,118,000 80,816,000 Capital expenditures 713,000 2,111,000 571,000 315,000 3,710,000 Depreciation and amortization 2,204,000 3,180,000 1,394,000 556,000 7,334,000 Interest income -- 8,000 -- 7,000 15,000 Interest expense 385,000 3,976,000 138,000 5,528,000 10,027,000
The Company had net sales to one customer comprising greater than 10% of each year's net sales, aggregating 12%, 10% and 12.5% in the years ended May 31, 1999, 2000 and 2001, respectively. The Company had accounts receivable from one customer comprising greater than 10% of accounts receivable, aggregating 11% as of May 31, 2000. The Company had accounts receivable from one customer comprising greater than 10% of accounts receivable, aggregating 10.6% as of May 31, 2001. Credit is extended to customers based on an evaluation of their financial condition and collateral is generally not required. (Continued) 64 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 The Company currently purchases aluminum and other raw materials from a limited number of suppliers. Although there are a limited number of potential suppliers of such raw materials, management believes that other suppliers could provide these raw materials on comparable terms. A change in suppliers, however, could cause a delay in manufacturing, increased costs, and a possible loss of sales, which could have a material adverse effect on the manufacturing and delivery of the Company's products. The Company purchased $2,772,000, $2,656,000 and $4,623,000 from one supplier during the years ended May 31, 1999, 2000 and 2001, respectively. The Company purchases other raw materials, of lesser significance, which are available from a limited number of suppliers. At May 31, 2001, the Company had purchase commitments for raw materials aggregating $1,722,000. (6) Business Acquisitions In July 1998, the Company purchased all of the outstanding stock of Aeromet International PLC ("Aeromet"). The purchase price consisted of (pound)42,000,000 (approximately $68,875,000) in cash and acquisition costs of $542,000 for a total of $69,417,000. The purchase price and related acquisition costs were allocated as follows: Current assets $ 27,529,000 Equipment 18,177,000 Cost in excess of net book value 39,884,000 Liabilities assumed (16,173,000) --------------- Total $ 69,417,000 =============== Effective for accounting purposes in June 1999, the Company acquired all of the outstanding stock of Skagit Engineering & Manufacturing, Inc. ("Skagit") for $1,300,000 in cash. The purchase price was allocated as follows: Current assets $ 1,551,000 Property, plant and equipment 1,369,000 Cost of in excess of net book value 1,683,000 Liabilities assumed (3,303,000) -------------- Total $ 1,300,000 ============== (Continued) 65 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 Effective for accounting purposes in May 2000, the Company acquired substantially all of the assets and assumed certain liabilities of Nova-Tech Engineering, Inc. ("Nova-Tech"). The purchase price consisted of $2,500,000 in the forgiveness of a note receivable, intercompany accounts receivable of $137,000, and $50,000 cash for a total of $2,687,000. The purchase price was allocated as follows: Current assets $ 873,000 Furniture and equipment 387,000 Cost in excess of net book value 3,938,000 Liabilities assumed (2,511,000) ------------- Total $ 2,687,000 ============= The business combinations described above have been accounted for using the purchase method. Accordingly, assets and liabilities have been recorded at their fair value at acquisition date. Operating results of these acquired companies are included in the Company's consolidated statements of operations from the respective acquisition dates. In fiscal year 2001, costs in excess of net book value of acquired subsidiaries in the amounts of $33.0 million relating to Aeromet and $1.8 million relating to Skagit, were written off due to impairment. In fiscal year 2000, subsequent to the business combinations, costs in excess of net book value of acquired subsidiaries in the amounts of $1,000,000 relating to Skagit and $2,400,000 relating to Nova-Tech, were written off due to impairment. Amounts written off are included in operating expense. The following summary, prepared on a pro forma basis, presents the unaudited consolidated condensed results of operations of the Company, as if the fiscal year 2000 business acquisitions were made as of the first day of the immediately preceding fiscal year in which the entities were acquired. There are no material adjustments which impact the summary. (unaudited) Year ended May 31, 2000 -------------------- Net sales $ 117,965,000 Loss from operations (11,457,000) Net loss (17,302,000) Net loss per share: Basic (0.79) Diluted (0.79) Shares used in computation of net loss per share: Basic 21,955,473 Diluted 21,955,473 (Continued) 66 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 The pro forma results are not necessarily indicative of the actual results of operations that would have occurred had the transactions been consummated as of the date indicated nor are they intended to indicate results that may occur in the future. (7) Allowance for Doubtful Accounts, Sales Returns and Allowances The Company records a provision for accounts receivable that the Company believes may not be collectible and for products that may be returned in the future. Accounts receivable are reported net an allowance for doubtful accounts, sales returns and allowances on the consolidated balance sheets. The provision for bad debt expense is included in the operating expenses on the consolidated statements of operations and comprehensive income (loss), while net sales are shown net of sales returns and allowances. When specific accounts are determined to be uncollectable and when inventories are returned, the Company eliminates the balance from accounts receivable and reduces the allowance by a corresponding amount. A reconciliation of the allowance for doubtful accounts, sales returns and allowances is as follows: Balance at May 31, 1999 $ 553,000 Charged to operating expense 305,500 Charged to net sales 2,500 Specific account balance write-off (234,000) Effect of exchange rates (8,000) --------- Balance at May 31, 2000 619,000 Charged to operating expense 3,000 Specific account balance write-off (163,000) Effect of exchange rates (8,000) --------- Balance at May 31, 2001 $ 451,000 ========= (8) Inventories Inventories at May 31 consist of the following: 2000 2001 ------------ ------------ Raw materials $ 7,204,000 5,032,000 Work in progress 13,581,000 10,990,000 Finished goods 7,064,000 6,972,000 ------------ ------------- $ 27,849,000 22,994,000 ============ ============= (Continued) 67 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (9) Property, Plant and Equipment Property, plant and equipment, including assets under capital lease arrangements, at May 31 consist of the following:
2000 2001 ------------ ------------ Land $ 2,046,000 1,081,000 Buildings 8,687,000 5,687,000 Leasehold improvements 3,509,000 3,693,000 Machinery and equipment 52,213,000 28,190,000 Office equipment, furniture and fixtures 2,998,000 4,134,000 ------------ ------------ 69,453,000 42,785,000 Less accumulated depreciation and amortization 26,301,000 16,071,000 ------------ ------------ 43,152,000 26,714,000 Construction and purchases in progress 924,000 40,000 ------------ ------------ $ 44,076,000 26,754,000 ============ ============
The Company recognized depreciation of property, plant and equipment of $5,448,000, $5,942,000 and $6,243,000 during the years ended May 31, 1999, 2000 and 2001, respectively. The Company includes computer software and hardware within office equipment, furniture and fixtures. Software is amortized over its estimated useful life, usually three years. Included in property, plant and equipment are costs of $5,874,000 and $2,412,316 and related accumulated amortization of $1,049,000 and $1,137,515 recorded under capital leases at May 31, 2000 and 2001, respectively. (10) Credit Facility At May 31, 2000, the Company's primary banking relationships included a revolving line of credit of up to $6.3 million in the U.S. and a revolving line of credit of up to approximately $5.0 million ((pound)3.5 million) in the U.K. Both of these credit facilities have been replaced with a senior secured term loan of $13.8 million from four institutional lenders. The loan bears interest at 18% per annum, payable quarterly, and has a two-year term. The Company has the right to defer and accrue a portion of the interest on the loan, up to 5% per year, for up to a year at the time of any interest payment. The loan is secured by the Company's assets, the assets of its United States subsidiaries, and other intangibles. This senior secured loan is a term loan rather than a revolving loan. As a result, if the Company makes payments of principal before the loan's maturity, additional loan proceeds will not become available, and the loan will not provide an additional source of cash to fund the Company's operations or to meet the Company's obligations as they become due. (Continued) 68 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (11) Long-Term Debt Long-term debt at May 31 consists of the following:
2000 2001 ---------------- -------------- Note payable to four institutional lenders, quarterly interest payments at 18% with 5% deferred up to one year, with principal balance due in full March 2003. $ -- 13,731,000 Industrial revenue bond payable to a bank in monthly installments of $19,200, including interest at 8.12%, through July 2004 787,000 613,000 Note payable to a bank in monthly installments of $7,000, including interest at LIBOR plus 2% (6.12% at May 31, 2001), with the remaining principal balance due in full in March 2008 658,000 628,000 Subordinated note payable to the City of Entiat in monthly installments of $7,300, including interest at 8%, with the principal balance due in full in May 2001 410,000 363,000 Notes payable to a financing company for certain equipment in aggregate monthly installments of $58,000, including interest at 9% to 10.9%, with maturity dates through 2004 1,701,000 1,232,000 Other notes payable for vehicles and certain equipment in aggregate monthly installments of $22,000, including interest at 1.9% to 10.5% with maturity dates through December 2003 402,000 200,000 Note payable to a bank in monthly installments of $10,127, including interest at LIBOR plus 2.25% (6.43% at May 31, 2001) through June 2008 1,156,000 1,131,000 Notepayable to bank in monthly principal installments of $5,000 plus interest at the 30-day commercial paper rate plus 3.25% (9.82% at May 31, 2000) through March 31, 2003 145,000 -- --------------- -------------- 5,259,000 17,898,000 Less current portion 1,098,000 929,000 --------------- -------------- Long-term debt, net of current portion $ 4,161,000 16,969,000 =============== ==============
(Continued) 69 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 Subsequent to year end, the industrial revenue bond agreement and the subordinated note to the City of Entiat, as well as several vehicle and equipment loans, were repaid in full using proceeds from the sale of the U.S. Aerospace Group's casting facility located in Entiat, Washington. Certain notes payable require, among other items, that the Company maintain minimum working capital, tangible net worth and debt to tangible net worth ratios. At May 31, 2001, the Company was not in compliance with these covenants. Management has received a forbearance letter from the lender waiving the violations. There can be no assurance that the lender will not require the amounts immediately due and payable if violations of the covenants continue. The amount outstanding under these agreements was approximately $1,800,000 as of May 31, 2001. Scheduled principal maturities of long-term debt at May 31, 2001 are as follows for each of the following fiscal year-ends: 2002 $ 929,000 2003 14,586,000 2004 634,000 2005 175,000 2006 181,000 Thereafter 1,393,000 ------------- $ 17,898,000 ============= Long-term debt is secured by substantially all assets of the Company. (12) Senior Subordinated Notes Payable In July 1998, the Company completed a $75 million debt offering of 11 1/4% Senior Subordinated Notes (the "Notes") due in August 2005 (the "Offering"). The Notes are unconditionally guaranteed on a senior subordinated basis by the Company's U.S. subsidiaries. Interest on the Notes is payable semiannually on February 1 and August 1 of each year. The Notes may be redeemable at the option of the Company, in whole or in part, on or after August 1, 2003 at the redemption price as defined in the agreement. In addition, on or before August 1, 2001, the Company may redeem up to 20% of the Notes at a redemption price of 111.25% of the principal amount plus accrued and unpaid interest. Under provisions of the indenture applicable to the Notes, the Company is limited in its ability to incur additional indebtedness or issue Disqualified Capital Stock, pay dividends or make other distributions, create certain liens on assets, sell certain assets and stock of subsidiaries, enter into certain transactions with affiliates, and effect certain mergers and consolidations. The Company is also subject to certain restrictive covenants and is required to maintain certain financial ratios in connection with the Notes. Management believes the Company is in compliance with these covenants at May 31, 2001. (Continued) 70 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 restrictive covenant and is required to maintain certain financial ratios in connection with the Notes. Management believes the Company is in compliance with these covenants at May 31, 2001. In March 2000, the Company exchanged an aggregate of $11.3 million in original principal amount of the Notes for a total of 2,902,806 shares of common stock. This exchange was accounted for as an early extinguishment of debt, and as such, a net of tax gain of $703,000 was recorded in the consolidated financial statements as an extraordinary item. (Continued) 71 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (13) Leasing Arrangements (a) Capital Leases The Company leases certain property, plant and equipment under capital lease agreements that expire at various dates through 2008. Capital lease obligations are secured by the underlying leased assets. Aggregate minimum payments to be made under these agreements at May 31, 2001 are as follows for each of the following fiscal year-ends: 2002 $ 380,000 2003 338,000 2004 324,000 2005 241,000 2006 155,000 Thereafter 170,000 -------------------- 1,608,000 Less amounts representing interest ranging from 6% to 16% 274,000 -------------------- Present value of net minimum capital lease obligations 1,334,000 Less current portion 329,000 -------------------- Capital lease obligations, less current portion $ 1,005,000 ====================
(b) Operating Leases The Company leases certain property, plant and equipment under operating lease agreements that expire at various dates through 2018. Aggregate minimum rental payments to be made under these agreements at May 31, 2001 are as follows for each of the following fiscal year-ends: 2002 $ 4,931,000 2003 4,655,000 2004 3,822,000 2005 3,676,000 2006 3,271,000 Thereafter 20,619,000 ------------------- $ 40,974,000 =================== Total rent expense during the years ended May 31, 1999, 2000 and 2001 amounted to $3,356,000, $4,191,000 and $5,917,000, respectively. Included in rent expense for the year ended May 31, 2001 is an accrual of approximately $500,000 related to the abandonment of certain manufacturing facility operating leases. (Continued) 72 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (14) Common Stock In July 1996, the Company conducted a public offering of 2,250,000 units, each unit composed of one share of the Company's common stock and a warrant to purchase a share of the Company's common stock, at a price of $3.125 per unit. At May 31, 2000 and 2001, all of these public warrants were outstanding. In May 2000, the Company extended the expiration date of the public warrants to July 15, 2003. In addition, the Company issued warrants to two underwriters for the purchase of an additional 225,000 units at $3.75 per unit. Each unit is composed of one share of the Company's common stock and a warrant to purchase one share of the Company's common stock. The warrants entitled the holder to purchase one share of common stock at $4.6875 per share, exercisable any time through July 2001. No underwriter warrants were exercised during the years ended May 31, 1999, 2000 and 2001. In November 1998, the Company sold 2,585,000 shares of its common stock in a private offering to institutional investors. Proceeds from the offering totaled $5,170,000 before expenses of $344,000. In March 2000, the Company sold 1,598,000 shares of its common stock to 26 accredited investors for $4,794,000 before expenses of $788,000. The Company subsequently filed a registration statement, which was declared effective, registering for resale the 1,598,000 shares of common stock sold in the offering. In July 2000 the Company closed the first of two proposed installments of a $3.5 million private placement of Common Stock to two accredited investors. On that date, the Company issued 1,142,860 shares of Common Stock and warrants to purchase additional shares to the investors for a gross amount of approximately $2.0 million. The Company filed a registration statement on Form S-3 with the Securities and Exchange Commission to register the resale of the shares of Common Stock issued or issuable as a result of the transaction (the "Registration Statement"). If the Registration Statement had become effective within 60 days after the first closing a second closing would have occurred and the investors would have paid an additional $1.5 million and received 857,140 additional shares of Common Stock. However, the Registration Statement did not become effective within 60 days of the first closing and consequently the second installment did not close. In addition the Company also issued to the investors certain adjustable, vesting, and closing warrants to purchase additional shares of the Company's common stock. The adjustable warrants permitted the investors to acquire additional shares of common stock at an exercise price of $.001 per share if the market price of the Company's common stock did not achieve and maintain a specific price during each of the three vesting periods. Subsequent to issuance of the adjustable warrants the Company negotiated an amendment to the adjustable warrants, which replaced the variable calculation of shares to be acquired with a fixed number of shares. In February 2001, the investors exercised the adjustable warrants in full, as so amended, for the exercise price of $.001 per share. As a result of the exercise, the Company delivered to the investors a total of 4,190,486 shares of common stock. The vesting warrants issued under the transaction expired unexercised during February 2001. The closing warrants that entitle the investors to purchase an additional 385,000 shares of our common stock at an exercise price of $2.01 per share remain unexercised and outstanding at May 31, 2001. The closing warrants expire in July 2003. (Continued) 73 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (15) Convertible Preferred Stock - Series B Convertible Preferred Stock In May 1998, the Company sold 100,000 shares of Series B convertible preferred stock (Series B) for $100 per share, and issued warrants to purchase 138,888 shares of common stock, in a private offering, which resulted in gross proceeds of $10.0 million, less related offering costs of $740,000 for net proceeds of $9,260,000. In addition, the purchasers deposited $7.0 million in an escrow account which, subsequent to the closing of the purchase of Aeromet, was exchanged by the Company for 70,000 additional shares of Series B and additional warrants to purchase 97,221 shares of common stock. Net proceeds to the Company, subsequent to offering costs of $370,000, were $6,630,000. As of May 31, 2000 and 2001, 135,471 and 170,000 shares, respectively, of Series B have been converted into 7,227,454 and 10,036,548 shares, respectively, of common stock. (16) Warrants The Company periodically issues warrants to purchase common shares in connection with common stock, preferred stock, debt and certain consulting services. When warrants are issued in exchange for consulting or other services, the warrants are valued using the Black Scholes method or the fair value of the services received, whichever is more reasonably determinable. The value of the warrants are recorded as additional paid in capital and a deferred expense amortizable over the term of the services to be received. A summary of the Company's warrants, excluding warrants issued in connection with the public offering in July 1996, is as follows: Weighted average price Warrants of shares ---------------- ----------------- Balance at May 31, 1998 1,676,388 $ 4.360 Granted 97,221 7.200 Exercised (1,290,000) 4.620 ---------------- Balance at May 31, 1999 483,609 4.240 Granted 200,000 6.500 Canceled (25,000) 3.450 ---------------- Balance at May 31, 2000 658,609 4.960 Granted 9,383,688 0.098 Exercised (4,190,486) 0.001 Canceled (273,609) 6.870 ---------------- Balance at May 31, 2001 5,578,202 0.471 ================ 74 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 The following summarizes warrants outstanding, excluding warrants issued in connection with the public offering in July 1996, at May 31, 2001:
Warrants outstanding and exercisable ---------------------------------------------------- Weighted average Weighted Range of remaining average Exercise Number contractual exercise prices outstanding life price ------------------ ---------------- ---------------- -------------- $ 0.001-1.99 4,808,202 4.81 $ 0.03 2.00-3.99 620,000 2.31 2.19 4.00-5.99 50,000 1.92 5.50 6.00-7.99 50,000 1.92 7.50 8.00-9.99 50,000 1.92 9.50 -------------- 5,578,202 ==============
(17) Compensation Plans (a) Long-Term Investment and Incentive Plan The Company has two long-term stock investment and incentive plans. The "1996 Plan" awards directors, officers, key employees and other key individuals with stock options, stock appreciation rights, stock and cash bonuses, restricted stock, or performance units. Under the 1996 Plan, the exercise price of options issued is not less than fair-market value at the date of grant. In October 1999, the Company adopted the "1999 Plan" which effectively reserved an additional 4,000,000 shares of common stock for issuance. The 1999 Plan is identical to the 1996 Plan in form with exception to certain provisions stipulating the expiration of options granted to employees who are subsequently terminated. Options expire ten years from the grant date under both plans. As of May 31, 2000 and 2001, the Company had not issued any stock appreciation rights, stock and cash bonuses, restricted stock, or performance units under either plan. 75 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (b) Independent Director Stock Plan The Company has an Independent Director Stock Plan under which nonemployee directors of the Company are awarded common stock and stock options of the Company for serving on its board of directors. The plan authorizes and reserves for issuance a maximum of 500,000 common shares. At May 31, 2000 and 2001, 380,804 and 338,304 shares, respectively, were available for future issuance. During the year ended May 31, 1999, 600 shares and 56,637 options were issued under the plan. During the year ended May 31, 2000, 40,000 options were issued and 10,000 options were canceled under the plan. During the year ended May 31, 2001, 42,500 options were issued under the plan. Options issued under the plan during the years ended May 31, 1999 and 2000 vested immediately upon issuance. Of the options issued under the plan during the year ended May 31, 2001, 2,500 vested immediately and 40,000 were unvested. Included in compensation expense was $89,000 for the year ended May 31, 1999, resulting from the shares issued. For the years ended May 31, 1999, 2000 and 2001, 41,942, 86,637 and 129,137 options were outstanding, respectively. (c) Retirement Plan The Company maintains a 401(k) plan covering all eligible employees who meet service requirements as provided in the plan. The Company's contribution to the profit-sharing plan is determined annually by the Board of Directors. The Company contributed $48,000, $59,000 and $70,180 to the plan during the years ended May 31, 1999, 2000 and 2001, respectively. (d) Employee Stock Purchase Plan The Company implemented an Employee Stock Purchase Plan in 1999 under which employees are eligible to purchase shares of the Company's common stock, through payroll deductions, at the lower of 85% of the Company's stock price on the first day of an offering period or 100% of the Company's stock price on the last day of an offering period. The first offering period began in November 1998. During the years ended May 31, 1999, 2000 and 2001, 41,942, 142,696 and 407,090 shares respectively, were purchased by employees under the plan. 76 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 As the Company applies APB Opinion No. 25 and related interpretations in accounting for its option plans and employee stock purchase plans, no compensation costs have been recognized for stock options issued to employees. Had compensation costs for the stock option and stock purchase plan been determined consistent with SFAS No. 123, the results of the Company would have been adjusted to the pro forma amounts indicated below:
1999 2000 2001 ------------------ --------------- ---------------- Net loss: As reported $ (12,869,000) (13,049,000) (75,720,000) Pro forma (14,970,000) (14,555,000) (75,848,000) Net loss per share: As reported: Basic (0.74) (0.59) (2.15) Diluted (0.74) (0.59) (2.15) Pro forma: Basic (0.86) (0.66) (2.15) Diluted (0.86) (0.66) (2.15) Shares used in computation of net loss per share: Basic 17,359,491 21,955,473 35,283,347 Diluted 17,359,491 21,955,473 35,283,347
The fair value of the options granted during the years ended May 31, 1999, 2000 and 2001 is estimated as $474,000, $1,253,000 and $98,000, respectively, using the Black-Scholes option-pricing model with the following assumptions on the date of grant: zero percent dividend yield, expected volatility from 24% to 148%, risk-free interest rate from 5.5% to 6.6%, and expected lives ranging from 5 to 10 years. In December 1998, the Company repriced certain options to purchase 1,466,056 shares to a lower exercise price. The repricing resulted in additional compensation costs under SFAS No. 123 of $352,000, which is included in the pro forma amounts disclosed above. Pro forma compensation under the employee stock purchase plan during the years ended May 31, 1999, 2000, and 2001 is $8,000, $78,000, and $30,000, respectively. 77 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 A summary of the activity under the Company's Long-Term Investment and Incentive Plans and Independent Director Stock Plan is as follows:
Shares of common stock ------------------------------- Weighted Available Options average price options under plans of shares ------------- ---------------- ---------------- Balance at May 31, 1998 1,211,925 2,231,116 $ 5.09 Shares granted (600) -- 6.06 Options granted (1,861,025) 1,861,025 2.49 Options expired 40,000 (40,000) 1.98 Options canceled 1,466,056 (1,466,056) (3.70) Options terminated 72,500 (72,500) 6.13 ------------- ---------------- Balance at May 31, 1999 928,856 2,513,585 3.29 Options authorized by new plan 4,000,000 -- -- Options granted (950,000) 950,000 1.62 Options terminated 5,000 (5,000) 2.53 ------------- ---------------- Balance at May 31, 2000 3,983,856 3,458,585 1.61 Options granted (366,500) 366,500 .38 Options expired 60,000 (60,000) 2.53 Options terminated 30,500 (30,500) 2.14 ------------- ---------------- Balance at May 31, 2001 3,707,856 3,734,585 2.42 ============= ================
The following summarizes options from both Long-Term Investment and Incentive plans and the Independent Director Stock plan outstanding at May 31, 2001:
Options outstanding Options exercisable ----------------------------------------------------- --------------------------------- Weighted average Weighted Weighted Range of remaining average average exercise Number contractual exercise Number exercise prices outstanding life price exercisable price -------------- ---------------- --------------- -------------- --------------- -------------- $0.01 - 1.99 1,333,137 8.86 $ 1.27 1,288,137 $ 1.28 2.00 - 3.99 1,793,888 6.45 2.51 1,741,888 2.52 4.00 - 6.00 607,560 5.17 4.69 607,560 4.69 ---------------- --------------- 3,734,585 3,637,585 ================ ===============
(Continued) 78 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (18) Other Income and Expense Included in other income and expense during the year ended May 31, 1999 are other than temporary unrealized losses related to the Company's investment in shares of a public company of $4,943,000 as well as allowances totaling $2,884,000 related to the Company's guarantees of certain debt and a reserve for an outstanding note receivable. (19) Income Taxes Total income tax benefit (expense) is as follows: 1999 2000 2001 ---------- --------- ----------- Current: Federal $ 262,000 -- -- Foreign (1,422,000) (41,800) (1,796,000) Deferred: Federal 3,799,000 (8,000) (4,966,000) Foreign -- 28,800 (186,000) ---------- --------- ----------- Total $ 2,639,000 (21,000) (6,948,000) ========== ========= =========== The domestic and foreign components of income (loss) before income tax benefit (expense) were as follows:
1999 2000 2001 ------------ ----------- ----------- Domestic $ (18,992,000) (11,421,000) (29,564,000) Foreign 3,484,000 (2,310,000) (39,208,000) ------------ ----------- ----------- Loss before income tax benefit (expense) $ (15,508,000) (13,731,000) (68,772,000) ============ =========== ===========
There are no undistributed earnings of the Company's foreign subsidiaries for which no U.S. income taxes have been provided at May 31, 2000 and 2001. Current foreign income tax expense during the year ended May 31, 2001, includes $1.7 million due to the disallowance of previously deducted interest expense remitted to the U.S. parent corporation. (Continued) 79 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 A reconciliation of the U.S. federal statutory tax rate of 34% and the Company's effective tax rates of 17%, 0% and (10)% during the years ended May 31, 1999, 2000 and 2001, respectively, is as follows:
1999 2000 2001 ----------- ---------- ----------- Computed expected income tax benefit (expense) $ 5,273,000 4,669,000 23,382,000 Difference in foreign income tax rate -- -- (1,568,000) Foreign permanent differences -- -- (12,353,000) Change in valuation allowance (2,200,000) (4,119,000) (15,750,000) Other (434,000) (571,000) (659,000) ----------- ---------- ----------- $ 2,639,000 (21,000) (6,948,000) =========== ========== ===========
Deferred tax assets and liabilities are recognized based on the estimated future tax consequences attributable to differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Based upon the weight of available evidence, the Company establishes a valuation allowance to reduce the amount of deferred tax assets to the amount it believes will more likely than not be realized in future periods. Significant components of the Company's deferred tax assets (liabilities) at May 31 are as follows:
2000 2001 ------------- ------------- Deferred tax assets: NOL carryforward $ 6,493,000 11,931,000 Unrealized capital loss carryforward 1,550,000 1,557,000 Goodwill 2,408,000 3,229,000 Fixed asset write-off 540,000 3,507,000 Inventory reserve 502,000 1,397,000 Other 387,000 566,000 Valuation allowances (6,322,000) (22,072,000) ------------- ------------- 5,558,000 115,000 ------------- ------------- Deferred tax liabilities - depreciation: Domestic 1,745,000 1,227,000 International 638,000 850,000 ------------- ------------- 2,383,000 2,077,000 ------------- ------------- Net deferred tax asset (liability) $ 3,175,000 (1,962,000) ============= =============
(Continued) 80 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 The Company has net operating loss (NOLs) carryforwards for U.S. federal income tax purposes of approximately $38.1 million, the benefits of which expire in the tax year 2002 through the tax year 2021. The NOLs created by the Company's subsidiaries prior to their acquisition and the NOLs created as a consolidated group or groups subsequent to a qualifying tax free merger or acquisition, have limitations related to the amount of usage by each subsidiary or consolidated group as described in the Internal Revenue Code. As a result of these limitations, approximately $2.0 million of the $38.1 million total NOLs at May 31, 2001 will never become available. (20) Net Loss Per Share Basic net loss per share is computed on the basis of the weighted average number of common shares outstanding. Diluted net loss per share is computed on the basis of the weighted average number of common shares outstanding, using the "if-converted" method, and outstanding stock options and warrants, using the "treasury stock" method. The components of basic and diluted net loss per share at May 31 were as follows:
1999 2000 2001 ------------ ----------- ------------ Net loss available for common shareholders (12,869,000) (13,049,000) (75,720,000) ============ =========== ============ Average outstanding shares of common stock 17,359,491 21,955,473 35,283,347 Dilutive effect of: Warrants -- -- -- Stock options -- -- -- ------------ ----------- ------------ Common stock and common stock equivalents 17,359,491 21,955,473 35,283,347 ============ =========== ============ Net loss per share: Basic (0.74) (0.59) (2.15) Diluted (0.74) (0.59) (2.15)
Options, warrants and convertible stock were not included in the calculation of net loss per share as they are anti-dilutive. The total number of anti-dilutive options and warrants as of May 31, 2001 was 11,607,787. 81 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (21) Fair Value of Financial Instruments The Company's financial instruments include cash and cash equivalents, receivables, accounts payable, accrued liabilities, and short and long- term borrowings. The fair value of these financial instruments approximates their carrying amounts based on current market indicators, such as prevailing interest rates, with the exception of the senior subordinated notes payable, which are currently trading at approximately 50% of face value. (22) Legal The Company is currently subject and party to various legal actions arising in the normal course of business. Management believes the ultimate liability, if any, arising from such claims or contingencies is not likely to have a material adverse effect on the Company's results of operations or financial condition. In the normal course of business, the Company disposes of potentially hazardous material which could result in claims related to environmental cleanup. The Company has not been notified of any related claims. The Company is subject to various other environmental and governmental regulations. Although the extent of any noncompliance with those regulations, if any, is not completely ascertainable, management believes the ultimate liability is not likely to have a material adverse effect on the Company's results of operations or financial condition. (23) Consolidating Condensed Financial Statements The following statements present consolidating condensed financial information of the Company for the indicated periods. The Company's senior subordinated notes, which were to finance the Aeroment acquisition in July 1998, have been guaranteed by all of the Company's U.S. wholly owned subsidiaries. The guarantor subsidiaries have fully and unconditionally guaranteed this debt on a joint and several basis. This debt is not guaranteed by the Company's foreign subsidiaries, which consist of Aeroment and two related holding companies. There are no significant contractual restrictions on the distribution of funds from the guarantor subsidiaries to the parent corporation. The consolidating condensed financial information is presented in lieu of separate financial statements and other disclosures of the guarantor subsidiaries, as management has determined that such information is not material to investors. 82 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (a) Consolidating condensed balance sheet information at May 31, 2000 is as follows:
Guarantor Non-guarantor Assets Parent subsidiaries subsidiaries Eliminations Consolidated ------------ ------------- ------------- ------------- ------------- Current assets: Cash and cash equivalents $ (184,000) 58,000 2,280,000 -- 2,154,000 Accounts receivable, net -- 9,047,000 12,527,000 (364,000) 21,210,000 Inventories -- 17,307,000 10,542,000 -- 27,849,000 Other 895,000 1,145,000 500,000 -- 2,540,000 ------------ ------------- ------------- ------------- ------------- Total current assets 711,000 27,557,000 25,849,000 (364,000) 53,753,000 ------------ ------------- ------------- ------------- ------------- Property, plant and equipment, net 6,340,000 22,995,000 14,741,000 -- 44,076,000 ------------ ------------- ------------- ------------- ------------- Other assets: Costs in excess of net book value of acquired -- subsidiaries, net -- 3,296,000 34,995,000 -- 38,291,000 Investment in and loans to subsidiaries 111,792,000 72,618,000 -- (184,410,000) -- Other 5,183,000 2,982,000 (703,000) -- 7,462,000 ------------ ------------- ------------- ------------- ------------- Total other assets 116,975,000 78,896,000 34,292,000 (184,410,000) 45,753,000 ------------ ------------- ------------- ------------- ------------- Total assets $124,026,000 129,448,000 74,882,000 (184,774,000) 143,582,000 ============ ============= ============= ============= ============= Liabilities and Stockholders' Equity Current liabilities: Accounts payable $ 667,000 3,729,000 6,598,000 (364,000) 10,630,000 Current portion of long-term debt 170,000 928,000 -- -- 1,098,000 Line of credit 5,379,000 -- -- -- 5,379,000 Other 2,989,000 2,898,000 1,578,000 -- 7,465,000 ------------ ------------- ------------- ------------- ------------- Total current liabilities 9,205,000 7,555,000 8,176,000 (364,000) 24,572,000 ------------ ------------- ------------- ------------- ------------- Long-term liabilities: Long-term debt, net of current portion 64,928,000 2,933,000 -- -- 67,861,000 Intercompany loan payable -- 71,484,000 38,957,000 (110,441,000) -- Other 125,000 706,000 550,000 -- 1,381,000 ------------ ------------- ------------- ------------- ------------- Total long-term liabilities 65,053,000 75,123,000 39,507,000 (110,441,000) 69,242,000 ------------ ------------- ------------- ------------- ------------- Stockholders' equity (deficit): Convertible preferred stock -- -- -- -- -- Common stock 30,000 56,139,000 33,710,000 (89,849,000) 30,000 Additional paid-in capital 83,173,000 -- -- -- 83,173,000 Accumulated other comprehensive loss (6,250,000) -- (6,250,000) 6,250,000 (6,250,000) Accumulated deficit (27,185,000) (9,369,000) (261,000) 9,630,000 (27,185,000) ------------ ------------- ------------- ------------- ------------- Total stockholders' equity (deficit) 49,768,000 46,770,000 27,199,000 (73,969,000) 49,768,000 ------------ ------------- ------------- ------------- ------------- Total liabilities and stockholders' equity $124,026,000 129,448,000 74,882,000 (184,774,000) 143,582,000 ============ ============= ============= ============= =============
(Continued) 83 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (b) Consolidating condensed balance sheet information at May 31, 2001 is as follows:
Guarantor Non-guarantor Assets Parent subsidiaries subsidiaries Eliminations Consolidated ------------- ------------- ------------- ------------- ------------- Current assets: Cash and cash equivalents $ 1,134,000 3,000 2,958,000 -- 4,095,000 Accounts receivable, net -- 6,423,000 12,839,000 (161,000) 19,101,000 Inventories -- 14,326,000 8,668,000 -- 22,994,000 Other 3,975,000 299,000 401,000 (3,894,000) 781,000 ------------- ------------- ------------- ------------- ------------- Total current assets 5,109,000 21,051,000 24,866,000 (4,055,000) 46,971,000 ------------- ------------- ------------- ------------- ------------- Property, plant and equipment, net 5,319,000 11,882,000 9,553,000 -- 26,754,000 ------------- ------------- ------------- ------------- ------------- Other assets: Costs in excess of net book value of acquired subsidiaries, net -- 351,000 -- -- 351,000 Investment in and loans to subsidiaries 41,943,000 72,618,000 -- (114,561,000) -- Other 5,699,000 1,041,000 -- -- 6,740,000 ------------- ------------- ------------- ------------- ------------- Total other assets 47,642,000 74,010,000 -- (114,561,000) 7,091,000 ------------- ------------- ------------- ------------- ------------- Total assets $ 58,070,000 106,943,000 34,419,000 (118,616,000) 80,816,000 ============= ============= ============= ============= ============= Liabilities and Stockholders' Equity (Deficit) Current liabilities: Accounts payable $ 921,000 5,328,000 6,551,000 (161,000) 12,639,000 Current portion of long-term debt 90,000 839,000 -- -- 929,000 Other 3,413,000 2,351,000 6,499,000 (3,894,000) 8,369,000 ------------- ------------- ------------- ------------- ------------- Total current liabilities 4,424,000 8,518,000 13,050,000 (4,055,000) 21,937,000 ------------- ------------- ------------- ------------- ------------- Long-term liabilities: Long-term debt, net of current portion 78,635,000 2,034,000 -- -- 80,669,000 Intercompany loan payable -- 71,723,000 36,957,000 (108,680,000) -- Other 125,000 1,880,000 1,319,000 -- 3,324,000 ------------- ------------- ------------- ------------- ------------- Total long-term liabilities 78,760,000 75,637,000 38,276,000 (108,680,000) 83,993,000 ------------- ------------- ------------- ------------- ------------- Stockholders' equity (deficit): Common stock 39,000 56,139,000 33,709,000 (89,848,000) 39,000 Additional paid-in capital 86,917,000 -- -- -- 86,917,000 Accumulated other comprehensive loss (9,165,000) -- (9,165,000) 9,165,000 (9,165,000) Accumulated deficit (102,905,000) (33,351,000) (41,451,000) 74,802,000 (102,905,000) ------------- ------------- ------------- ------------- ------------- Total stockholders' equity (deficit) (25,114,000) 22,788,000 (16,907,000) (5,881,000) (25,114,000) ------------- ------------- ------------- ------------- ------------- Total liabilities and stockholders' equity $ 58,070,000 106,943,000 34,419,000 (118,616,000) 80,816,000 ============= ============= ============= ============= ============= (Continued)
84 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (c) Consolidating condensed statement of operations information for the year ended May 31, 1999 is as follows:
Guarantor Non-guarantor Parent subsidiaries subsidiaries Eliminations Consolidated ------------- ------------ ------------- ------------ ------------ Net sales $ -- 56,675,000 52,814,000 (2,123,000) 107,366,000 Cost of sales -- 46,150,000 42,275,000 (2,123,000) 86,302,000 ------------- ------------ ------------- ------------ ------------ Gross profit -- 10,525,000 10,539,000 -- 21,064,000 Operating expenses 4,367,000 16,194,000 3,556,000 (2,078,000) 22,039,000 ------------- ------------ ------------- ------------ ------------ Income (loss) from operations (4,367,000) (5,669,000) 6,983,000 2,078,000 (975,000) ------------- ------------ ------------- ------------ ------------ Other income (expense): Parent's share of subsidiaries net loss (1,800,000) -- -- 1,800,000 -- Interest expense (8,050,000) (622,000) (3,516,000) 3,516,000 (8,672,000) Other (727,000) 443,000 17,000 (5,594,000) (5,861,000) ------------- ------------ ------------- ------------ ------------ Total other expense (10,577,000) (179,000) (3,499,000) (278,000) (14,533,000) ------------- ------------ ------------- ------------ ------------ Income (loss) before income taxes (14,944,000) (5,848,000) 3,484,000 1,800,000 (15,508,000) Income tax benefit (expense) 2,075,000 1,986,000 (1,422,000) -- 2,639,000 ------------- ------------ ------------- ------------ ------------ Net income (loss) (12,869,000) (3,862,000) 2,062,000 1,800,000 (12,869,000) ------------- ------------ ------------- ------------ ------------ Other comprehensive income (loss): Foreign currency translation, net of tax (4,000) -- (1,136,000) -- (1,140,000) Adjustment for unrealized loss on investment 436,000 -- -- -- 436,000 ------------- ------------ ------------- ------------ ------------ Total other comprehensive income (loss) 432,000 -- (1,136,000) -- (704,000) ------------- ------------ ------------- ------------ ------------ Comprehensive income (loss) $ (12,437,000) (3,862,000) 926,000 1,800,000 (13,573,000) ============= ============ ============= ============ ============
(d) Consolidating condensed statement of operations information for the year ended May 31, 2000 is as follows:
Guarantor Non-guarantor Parent subsidiaries subsidiaries Eliminations Consolidated ------------- ------------ ------------- ------------ ------------ Net sales $ -- 58,408,000 56,913,000 (2,627,000) 112,694,000 Cost of sales -- 45,433,000 49,257,000 (2,627,000) 92,063,000 ------------- ------------ ------------- ------------ ------------ Gross profit -- 12,975,000 7,656,000 -- 20,631,000 Operating expenses 6,896,000 18,036,000 5,652,000 (6,051,000) 24,533,000 ------------- ------------ ------------- ------------ ------------ Income (loss) from operations (6,896,000) (5,061,000) 2,004,000 6,051,000 (3,902,000) ------------- ------------ ------------- ------------ ------------ Other income (expense): Parent's share of subsidiaries net loss (7,738,000) -- -- 7,738,000 -- Interest expense (9,394,000) (4,748,000) (4,349,000) 8,532,000 (9,959,000) Other 10,284,000 4,394,000 35,000 (14,583,000) 130,000 ------------- ------------ ------------- ------------ ------------ Total other expense (6,848,000) (354,000) (4,314,000) 1,687,000 (9,829,000) ------------- ------------ ------------- ------------ ------------ Loss before income taxes and extraordinary item (13,744,000) (5,415,000) (2,310,000) 7,738,000 (13,731,000) Income tax expense (8,000) -- (13,000) -- (21,000) Extraordinary item, net of tax 703,000 -- -- -- 703,000 ------------- ------------ ------------- ------------ ------------ Net loss (13,049,000) (5,415,000) (2,323,000) 7,738,000 (13,049,000) Other comprehensive loss - foreign currency translation, net of tax (5,110,000) -- (5,110,000) 5,110,000 (5,110,000) ------------- ------------ ------------- ------------ ------------ Comprehensive loss $ (18,159,000) (5,415,000) (7,433,000) 12,848,000 (18,159,000) ============= ============ ============= ============ ============
(Continued) 85 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (e) Consolidating condensed statement of operations information for the year ended May 31, 2001 is as follows:
Guarantor Non-guarantor Parent subsidiaries subsidiaries Eliminations Consolidated ------------ ------------ ------------- ------------- ---------------- Net sales $ -- 59,943,000 51,597,000 (2,252,000) 109,288,000 Cost of sales -- 57,428,000 45,872,000 (2,252,000) 101,048,000 ------------ ------------ ------------- ------------- ---------------- Gross profit -- 2,515,000 5,725,000 -- 8,240,000 Operating expenses 7,336,000 25,687,000 40,965,000 (6,787,000) 67,201,000 ------------ ------------ ------------- ------------- ---------------- Loss from operations (7,336,000) (23,172,000) (35,240,000) 6,787,000 (58,961,000) ------------ ------------ ------------- ------------- ---------------- Other income (expense): Parent's share of subsidiaries net loss (65,172,000) -- -- 65,172,000 -- Interest expense (9,423,000) (4,416,000) (3,976,000) 7,788,000 (10,027,000) Other 10,536,000 4,247,000 8,000 (14,575,000) 216,000 ------------ ------------ ------------- ------------- ---------------- Total other expense (64,059,000) (169,000) (3,968,000) 58,385,000 (9,811,000) ------------ ------------ ------------- ------------- ---------------- Loss before income taxes (71,395,000) (23,341,000) (39,208,000) 65,172,000 (68,772,000) Income tax expense (4,325,000) (641,000) (1,982,000) -- (6,948,000) ------------ ------------ ------------- ------------- ---------------- Net loss (75,720,000) (23,982,000) (41,190,000) 65,172,000 (75,720,000) Other comprehensive loss - foreign currency translation (2,915,000) -- (2,915,000) 2,915,000 (2,915,000) ------------ ------------ ------------- ------------- ---------------- Comprehensive loss $(78,635,000) (23,982,000) (44,105,000) 68,087,000 (78,635,000) ============ ============ ============= ============= ================
(Continued) 86 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (f) Consolidating condensed statement of cash flows information for the year ended May 31, 1999 is as follows:
Guarantor Non-guarantor Parent subsidiaries subsidiaries Eliminations Consolidated -------------- ------------ ------------- ------------ ------------ Cash flow from operating activities - net cash provided by (used in) operating activities $ (7,015,000) 888,000 3,955,000 1,800,000 (372,000) -------------- ------------ ------------- ------------ ------------ Cash flow from investing activities: Acquisition of property, plant and equipment (2,251,000) (4,206,000) (1,583,000) -- (8,040,000) Investment in and loans to subsidiaries (69,752,000) (72,618,000) -- 72,618,000 (69,752,000) Other changes, net (6,401,000) 76,000 (85,000) 4,928,000 (1,482,000) -------------- ------------ ------------- ------------ ------------ Net cash used in investing activities (78,404,000) (76,748,000) (1,668,000) 77,546,000 (79,274,000) -------------- ------------ ------------- ------------ ------------ Cash flow from financing activities: Payments on long-term debt and capital leases (4,154,000) (1,548,000) (50,000) -- (5,752,000) Proceeds from long-term debt 72,160,000 72,618,000 -- (72,618,000) 72,160,000 Proceeds from sale of common stock, net 4,898,000 -- -- -- 4,898,000 Proceeds from sale of preferred stock, net 6,630,000 -- -- -- 6,630,000 Other changes, net (1,715,000) 2,765,000 4,167,000 (6,728,000) (1,511,000) -------------- ------------ ------------- ------------ ------------ Net cash provided by financing activities 77,819,000 73,835,000 4,117,000 (79,346,000) 76,425,000 -------------- ------------ ------------- ------------ ------------ Net change in cash and cash equivalents (7,600,000) (2,025,000) 6,404,000 -- (3,221,000) Cash and cash equivalents at beginning of year 9,398,000 2,063,000 -- -- 11,461,000 Effect of exchange rates on cash -- -- (106,000) -- (106,000) -------------- ------------ ------------- ------------ ------------ Cash and cash equivalents at end of year $ 1,798,000 38,000 6,298,000 -- 8,134,000 ============== ============ ============= ============ ============ Supplemental cash flow: Noncash operating expenses related to: Depreciation $ 192,000 2,970,000 2,306,000 -- 5,468,000 Amortization -- 392,000 844,000 -- 1,236,000 Cash paid during the year for: Interest 4,870,000 413,000 13,000 -- 5,296,000 Income taxes 100,000 -- 311,000 -- 411,000 Noncash investing and financing activities: Seller financed acquisition of property, plant and equipment -- 241,000 -- -- 241,000 Reclassification of property, plant and equipment to other assets -- 1,217,000 -- -- 1,217,000
(Continued) 87 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (g) Consolidating condensed statement of cash flows information for the year ended May 31, 2000 is as follows:
Guarantor Non-guarantor Parent subsidiaries subsidiaries Eliminations Consolidated -------------- -------------- --------------- ------------ ------------ Cash flow from operating activities - net cash provided by (used in) operating activities $ (11,649,000) 1,510,000 (2,806,000) 7,738,000 (5,207,000) -------------- -------------- --------------- ------------ ----------- Cash flow from investing activities: Acquisition of property, plant and equipment (767,000) (2,846,000) (1,254,000) -- (4,867,000) Investment in and loans to subsidiaries (1,311,000) (39,000) -- -- (1,350,000) Other changes, net 2,263,000 21,000 85,000 (3,825,000) (1,456,000) -------------- -------------- --------------- ------------ ----------- Net cash provided by (used in) investing activities 185,000 (2,864,000) (1,169,000) (3,825,000) (7,673,000) -------------- -------------- --------------- ------------ ----------- Cash flow from financing activities: Net borrowings (repayments) under line of credit 5,379,000 (161,000) -- -- 5,218,000 Payments on long-term debt and capital leases (116,000) (2,328,000) (159,000) -- (2,603,000) Proceeds from sale of common stock, net 4,169,000 -- -- -- 4,169,000 Other changes, net 50,000 3,863,000 50,000 (3,913,000) 50,000 -------------- -------------- --------------- ------------ ----------- Net cash provided by (used in) financing activities 9,482,000 1,374,000 (109,000) (3,913,000) 6,834,000 -------------- -------------- --------------- ------------ ----------- Net change in cash and cash equivalents (1,982,000) 20,000 (4,084,000) -- (6,046,000) Cash and cash equivalents at beginning of year 1,798,000 38,000 6,298,000 -- 8,134,000 Effect of exchange rates on cash -- -- 66,000 -- 66,000 -------------- -------------- --------------- ------------ ----------- Cash and cash equivalents at end of year $ (184,000) 58,000 2,280,000 -- 2,154,000 ============== ============== =============== ============ =========== Supplemental cash flow: Noncash operating expenses related to: Depreciation $ 436,000 3,018,000 2,721,000 -- 6,175,000 Amortization -- 475,000 981,000 -- 1,456,000 Impairment of long-lived assets 178,000 5,097,000 -- -- 5,275,000 Cash paid during the year for: Interest 8,997,000 3,719,000 7,900,000 (11,053,000) 9,563,000 Income taxes -- -- 2,232,000 -- 2,232,000 Noncash investing and financing activities - conversion of notes and accrued interest to common stock 11,457,000 -- -- -- 11,457,000
(Continued) 88 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (h) Consolidating condensed statement of cash flows information for the year ended May 31, 2001 is as follows:
Guarantor Non-guarantor Parent subsidiaries subsidiaries --------------- ---------------- ---------------- Cash flow from operating activities - net cash provided by (used in) operating activities $ (5,824,000) 2,011,000 2,213,000 --------------- ---------------- ---------------- Cash flow from investing activities: Acquisition of property, plant and equipment (458,000) (1,141,000) (2,111,000) Proceeds from sale of property, plant and equipment 913,000 1,341,000 -- Investment in and loans to subsidiaries (12,000) -- -- Other changes, net -- (20,000) -- --------------- ---------------- ---------------- Net cash provided by (used in) investing activities 443,000 180,000 (2,111,000) --------------- ---------------- ---------------- Cash flow from financing activities: Net borrowings under line of credit 307,000 -- 12,000 Payments on long-term debt and capital leases (277,000) (1,284,000) (137,000) Proceeds from long-term debt 4,802,000 -- -- Proceeds from sale of common stock and warrants, net 1,863,000 -- -- Other changes, net 4,000 (962,000) 974,000 --------------- ---------------- ---------------- Net cash provided by (used in) financing activities 6,699,000 (2,246,000) 849,000 --------------- ---------------- ---------------- Net change in cash and cash equivalents 1,318,000 (55,000) 951,000 Cash and cash equivalents at beginning of year (184,000) 58,000 2,280,000 --------------- ---------------- ---------------- Effect of exchange rates on cash -- -- (273,000) --------------- ---------------- ---------------- Cash and cash equivalents at end of year $ 1,134,000 3,000 2,958,000 =============== ================ ================ Supplemental cash flow: Noncash operating expenses related to: Depreciation $ 557,000 3,236,000 2,450,000 Amortization -- 361,000 730,000 Cash paid during the year for: Interest 7,920,000 522,000 82,000 Income taxes -- -- 295,000 Noncash investing and financing activities - short-term obligations refinanced with long-term debt 9,306,000 -- -- Issuance of warrants in connection with debt 1,886,000 -- -- Eliminations Consolidated --------------- ----------------- Cash flow from operating activities - net cash provided by (used in) operating activities -- (1,600,000) --------------- ----------------- Cash flow from investing activities: Acquisition of property, plant and equipment -- (3,710,000) Proceeds from sale of property, plant and equipment -- 2,254,000 Investment in and loans to subsidiaries 12,000 -- Other changes, net -- (20,000) --------------- ----------------- Net cash provided by (used in) investing activities 12,000 (1,476,000) --------------- ----------------- Cash flow from financing activities: Net borrowings under line of credit -- 319,000 Payments on long-term debt and capital leases -- (1,698,000) Proceeds from long-term debt -- 4,802,000 Proceeds from sale of common stock and warrants, net -- 1,863,000 Other changes, net (12,000) 4,000 --------------- ----------------- Net cash provided by (used in) financing activities (12,000) 5,290,000 --------------- ----------------- Net change in cash and cash equivalents -- 2,214,000 Cash and cash equivalents at beginning of year -- 2,154,000 Effect of exchange rates on cash -- (273,000) --------------- ----------------- Cash and cash equivalents at end of year -- 4,095,000 =============== ================= Supplemental cash flow: Noncash operating expenses related to: Depreciation -- 6,243,000 Amortization -- 1,091,000 Cash paid during the year for: Interest -- 8,524,000 Income taxes -- 295,000 Noncash investing and financing activities - short-term obligations refinanced with long-term debt -- 9,306,000 Issuance of warrants in connection with debt -- 1,886,000
(Continued) 89 PACIFIC AEROSPACE & ELECTRONICS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements May 31, 2000 and 2001 (i) Inventory information at May 31 is as follows:
2000 2001 ------------------- ------------------- Guarantor subsidiaries Raw materials $ 5,492,000 3,594,000 Work in progress 5,439,000 4,045,000 Finished goods 6,376,000 6,687,000 ---------------- ---------------- 17,307,000 14,326,000 ---------------- ---------------- Non-guarantor subsidiaries: Raw materials 1,712,000 1,438,000 Work in progress 8,142,000 6,945,000 Finished goods 688,000 285,000 ---------------- ---------------- 10,542,000 8,668,000 ---------------- ---------------- Total inventories $ 27,849,000 22,994,000 ================ ================
(24) Subsequent Event Effective June 1, 2001, the Company sold substantially all of the assets of the U.S. Aerospace Group's Casting Division located in Entiat, Washington to two newly formed limited liability companies owned by a private company. The purchase price was approximately $4.6 million, which consisted of approximately $1.5 million cash, a $1.0 million long-term note payable to the Company, units in the newly created limited liability companies valued at $1.0 million and the assumption of $1.1 million in liabilities. The Company used the cash proceeds to retire certain long-term debt related to the Entiat assets and to pay closing costs related to the transaction. The long-term note bears interest at 7% and is payable in quarterly installments, interest only for the first year and then principal and interest for 5 additional years. Due to the uncertainties of payment under this note, the Company has fully reserved against it as of the closing date. The units in the newly created limited liability companies have certain preferential rights including an accumulating preferred return equal to 5% of the par value of then outstanding units and put rights subject to certain restrictions and limitations. Due to the inability to accurately estimate and uncertainty surrounding the fair market value of the units, the Company has assigned no value to the units for financial statement purposes. 90 ITEM 8A. SELECTED QUARTERLY FINANCIAL DATA The following selected quarterly financial data presents selected historical financial data of the Company as of the quarterly periods ended, as indicated, and is derived from our unaudited consolidated quarterly financial statements. This data should be read in conjunction with our Consolidated Financial Statements and Notes thereto, the Independent Auditor's Report, and Management's Discussion and Analysis of Financial Condition and Results of Operations. The Independent Auditor's Report contains an explanatory paragraph that states that our recurring losses from operations raise substantial doubt about our ability to continue as a going concern. The independent auditors' report for the fiscal year 2001 is a disclaimer of opinion. Our Consolidated Financial Statements and the following selected quarterly financial data do not include any adjustments that might result from the outcome of that uncertainty. Pacific Aerospace & Electronics, Inc. Selected Quarterly Financial Data For the Quarters Ended, (in thousands, except per share data)
August 31, November 30, February 29, May 31, August 31, November 30, February 28, May 31, 1999 1999 2000 2000 2000 2000 2001 2001 ---- ---- ---- ---- ---- ---- ---- ---- Net Sales $ 28,571 29,000 26,501 28,622 27,643 27,437 27,068 27,140 Gross profit 6,560 5,251 5,146 3,674 4,922 3,086 (925) 1,157 Loss before extraordinary item (1,506) (2,014) (1,675) (8,557) (2,252) (4,943) (40,341) (28,184) Net loss (1,506) (2,014) (1,675) (7,854) (2,252) (4,943) (40,341) (28,184) Net loss per share: Basic (0.08) (0.10) (0.08) (0.28) (0.07) (0.14) (1.32) (0.73) Diluted (0.08) (0.10) (0.08) (0.28) (0.07) (0.14) (1.32) (0.73) Shares used in computation of loss per share (in thousands): Basic 19,108 19,992 21,043 27,634 33,114 34,292 35,020 38,692 Diluted 19,108 19,992 21,043 27,634 33,114 34,292 35,020 38,692
91 During the quarter ended May 31, 2000, due to continuing losses and continued weakness in the commercial aerospace and transportation industries, we realized a $4.6 million impairment of goodwill and a $600,000 property impairment related to our U.S. Aerospace Group. During the quarter ended May 31, 2000, we exchanged an aggregate of $11.3 million in original principal amount of our 11 1/4% senior subordinated debt for a total of 2,902,806 shares of common stock. This exchange was accounted for as an early extinguishment of debt and, as such, a net of tax gain of $703,000 was recorded in the accompanying selected quarterly financial data as an extraordinary item. During the quarter ended November 30, 2000, we recognized a $0.7 million impairment charge to reduce the carrying value of the equipment located at the Tacoma, Washington location of our U.S. Aerospace Group's Casting Division to its estimated net realizable value. We also recognized a $320,000 non-cash charge for the loss on the sale of an unused building in Butler, New Jersey. Net proceeds from the sale of the building were approximately $660,000, versus a carrying amount of approximately $980,000. During the quarter ended February 28, 2001, based upon preliminary and final offers to purchase our European Aerospace Group, we recognized a $25.0 million charge to reduce the $33.0 million carrying value of goodwill associated with our European Aerospace Group to net estimated realizable value. We also recognized an impairment charge of $3.5 million to reduce the value of property and equipment used at the Entiat, Washington location of our U.S. Aerospace Group's Casting Division to net realizable value. We recognized a non-cash charge of approximately $3.3 million to reduce the carrying value of goodwill and equipment used in the U.S. Aerospace Group's Engineering & Fabrication Division to estimated liquidation value. Finally, within the U.S. Electronics Group's Display Division, we recognized a non-cash charge of approximately $0.6 million to reduce the carrying value of equipment used to produce low power relays to its net realizable value. During the quarter ended May 31, 2001, based upon preliminary and final offers to purchase our European Aerospace Group, we recognized a additional $12.0 million charge to reduce the carrying value of goodwill and equipment associated with our European Aerospace Group to net estimated realizable value. We also recognized an additional impairment charge of $2.0 million to reduce the value of property and equipment used at the Entiat, Washington location of our U.S. Aerospace Group's Casting Division to its estimated net realizable value and an additional impairment charge of $0.1 million to reduce the carrying value of the equipment located at the division's Tacoma location to its estimated net realizable value. During the fourth quarter of fiscal 2001, we also completed our analysis of the value of certain other long-lived assets, including goodwill and patents. Based upon this analysis, we recognized additional impairment charges of approximately $1.0 million to reduce goodwill to estimated fair value, and approximately $0.3 million to reduce patents to estimated fair value. 92 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 93 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY Directors and Executive Officers On August 15, 2001, Nick A. Gerde, who served as Vice President Finance and Chief Financial Officer of the Company, as well as Treasurer and Assistant Secretary, left his employment with the Company. Charles A. Miracle, who previously served as Corporate Controller, took on the role of Interim Chief Financial Officer and Treasurer of the Company on that date. The information regarding directors and executive officers required by Item 10 is incorporated by reference from the Company's definitive proxy statement for its 2001 annual meeting of shareholders. The proxy statement will be filed on or prior to September 28, 2001. ITEM 11. Executive Compensation The information required by Item 11 is incorporated by reference to the Company's definitive proxy statement for its 2001 annual meeting of shareholders. The proxy statement will be filed on or prior to September 28, 2001. The information specified in Item 402 (k) and (l) of Regulation S-K and to be set forth in the Company's definitive proxy statement for its 2001 annual meeting of shareholders is not incorporated herein by reference. ITEM 12. Security Ownership of Certain Beneficial Owners and Management The information required by Item 12 is incorporated by reference to the Company's definitive proxy statement for its 2001 annual meeting of shareholders. The proxy statement will be filed on or prior to September 28, 2001. ITEM 13. Certain Relationships and Related Transactions The information required by Item 13 is incorporated by reference to the Company's definitive proxy statement for its 2001 annual meeting of shareholders. The proxy statement will be filed on or prior to September 28, 2001. 94 ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a)(1) Financial Statements The following financial statements are included in this Annual Report on Form 10-K: Independent Auditors' Report dated July 27, 2001 Consolidated Balance Sheets as of May 31, 2000 and 2001 Consolidated Statements of Operations and Comprehensive Loss for the years ended May 31, 1999, 2000 and 2001 Consolidated Statements of Stockholders' Equity (Deficit) for the years ended May 31, 1999, 2000 and 2001 Consolidated Statements of Cash Flows for the years ended May 31, 1999, 2000 and 2001 Notes to Consolidated Financial Statements (a)(2) Financial Schedules All financial schedules are omitted because the required information is inapplicable or the information is presented in the consolidated financial statements or related notes. (a)(3) Exhibits Exhibit Number Description 2.1 Asset Purchase Agreement between Aeromet America, Inc., Pacific Aerospace & Electronics, Inc., U.S. Castings, LLC, USCRE Properties, LLC, and Advanced Aluminum, LLC, dated June 14, 2001. /(42)/ 2.2 Closing Agreement between Aeromet America, Inc., Pacific Aerospace & Electronics, Inc., U.S. Castings, LLC, USCRE Properties, LLC, and Advanced Aluminum, LLC, dated June 14, 2001. /(42)/ 2.3 Asset Purchase Agreement between MCE Technologies Incorporated and Skagit Engineering & Manufacturing, Inc., dated May 4, 2001. /(43)/ 2.4 Agreement for Purchase and Sale of Assets between Teledyne Technologies Incorporated and Electronic Specialty Corporation, dated February 21, 2001. /(43)/ 3.1 Articles of Incorporation of Pacific Aerospace & Electronics, Inc. /(6)/ 3.2 Amendment to Articles of Incorporation containing Designation of Rights and Preferences of Series A Convertible Preferred Stock, as corrected. /(8)/ 3.3 Amendment to Articles of Incorporation containing Designation of Rights and Preferences of Series B Convertible Preferred Stock. /(20)/ 3.4 Bylaws of Pacific Aerospace & Electronics, Inc., as amended. /(35)/ 4.1 Form of specimen certificate for common stock. /(6)/ 4.2 Form of specimen certificate for public warrants. /(6)/ 4.3 Form of specimen certificate for the Series A Convertible Preferred Stock. /(8)/ 4.4 Form of specimen certificate for the Series B Convertible Preferred Stock. /(20)/ 95 4.5 Form of common stock Purchase Warrant issued to holders of the Series B Convertible Preferred Stock on May 15, 1998./(20)/ 4.6 Warrant Agreement between Interwest Transfer Co., Inc. and PCT Holdings, Inc. dated July 1, 1996./(4)/ 4.7 Amendment No. 1, dated as of May 26, 2000, to the Warrant Agreement, dated as of July 1, 1996, between Pacific Aerospace & Electronics, Inc., as successor to PCT Holdings, Inc., and Interwest Transfer Co., Inc./(32)/ 4.8 Common Stock Purchase Warrant No. 001 from Pacific Aerospace & Electronics, Inc. to Donald A. Wright dated as of November 30, 1996./(10)/ 4.9 Common Stock Purchase Warrant No. 002 from Pacific Aerospace & Electronics, Inc. to Nick A. Gerde dated as of November 30, 1996. /(10)/ 4.10 Common Stock Purchase Warrant No. 003 from Pacific Aerospace & Electronics, Inc. to Edward A. Taylor dated as of November 30, 1996./(10)/ 4.11 Common Stock Purchase Warrant from Pacific Aerospace & Electronics, Inc. to Gregory K. Smith dated June 3, 1997./(9)/ 4.12 Common Stock Purchase Warrant from Pacific Aerospace & Electronics, Inc. to Nestor Wiegand dated June 3, 1997./(9)/ 4.13 Securities Purchase Agreement, dated May 15, 1998, between Pacific Aerospace & Electronics, Inc. and the purchasers of the Company's Series B Convertible Preferred Stock./(20)/ 4.14 Purchase Agreement dated as of July 23, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and Friedman, Billings, Ramsey & Co., Inc. and BancBoston Securities Inc./(18)/ 4.15 Indenture dated as of July 30, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and IBJ Schroder Bank & Tru st Company./(18)/ 4.16 Registration Rights Agreement, dated as of July 30, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and Friedman, Billings, Ramsey & Co., Inc. and BancBoston Securities Inc./(18)/ 4.17 Form of Global Note by Pacific Aerospace & Electronics, Inc./(18)/ 4.18 Form of Subsidiary Guaranty from the U.S. subsidiaries of Pacific Aerospace & Electronics, Inc./(25)/ 4.19 Securities Purchase Agreement among Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc., and Bay Harbor Investments, Inc., dated as of July 27, 2000./(33)/ 4.20 Registration Rights Agreement between Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc., and Bay Harbor Investments, Inc., dated as of July 27, 2000./(33)/ 4.21 Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000./(33)/ 4.22 Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000./(33)/ 4.23 Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000./(33)/ 96 4.24 Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000./(33)/ 4.25 Vesting Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000./(33)/ 4.26 Vesting Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000./(33)/ 4.27 Letter agreement among Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc. and Bay Harbor Investments, Inc., dated as of February 15, 2001./(40)/ 4.28 Placement Agent Warrant between Pacific Aerospace & Electronics, Inc. and Rochon Capital Group, Ltd., dated as of July 27, 2000./(34)/ 4.29 Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17, 2000./(34)/ 4.30 Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17, 2000./(34)/ 4.31 Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17, 2000./(34)/ 4.32 Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17, 2000./(34)/ 4.33 Loan Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc., as Borrowers, Pacific A&E Limited, Pacific Aerospace & Electronics (UK) Limited, Aeromet International PLC, the Foreign Subsidiaries, and DDJ Capital Management, LLC, as Agent for the Lenders, dated March 1, 2001./(41)/ 4.34 Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of B III Capital Partners, L.P., dated March 1, 2001, in the amount of $6,459,361.00./(41)/ 4.35 Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of B III- A Capital Partners, L.P., dated March 1, 2001, in the amount of $2,768,298.00./(41)/ 97 4.36 Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of DDJ Canadian High Yield Fund, dated March 1, 2001, in the amount of $1,845,531.00./(41)/ 4.37 Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of State Street Bank & Trust, as Custodian for General Motors Employees Global Group Pension Trust, dated March 1, 2001, in the amount of $2,768,298.00./(41)/ 4.38 Security Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. and DDJ Capital Management, LLC, as Agent for the Lenders, dated March 1, 2001./(41)/ 4.39 Intellectual Property Security Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. and DDJ Capital Management, LLC, as Agent for the Lenders, dated March 1, 2001./(41)/ 4.40 Pledge Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc., PA&E International, Inc., Pacific A&E Limited, Pacific Aerospace & Electronics (UK) Limited, Aeromet International PLC, and DDJ Capital Management, LLC, as Agent for the Lenders, dated March 1, 2001./(41)/ 4.41 Warrant Agreement, by and among Pacific Aerospace & Electronics, Inc. and Holders, dated March 1, 2001./(41)/ 4.42 Warrant Certificate, dated March 1, 2001, issued to B III Capital Partners, L.P., exercisable for 1,883,923 shares of Common Stock. /(41)/ 4.43 Warrant Certificate, dated March 1, 2001, issued to B III-A Capital Partners, L.P., exercisable for 807,396 shares of Common Stock./(41)/ 4.44 Warrant Certificate, dated March 1, 2001, issued to DDJ Canadian High Yield Fund, exercisable for 538,263 shares of Common Stock./(41)/ 4.45 Warrant Certificate, dated March 1, 2001, issued to State Street Bank & Trust, as Custodian for General Motors Employees Global Group Pension Trust, exercisable for 807,396 shares of Common Stock./(41)/ 4.46 Equity Registration Rights Agreement, by and among Pacific Aerospace & Electronics, Inc. and Holders, dated March 1, 2001./(41)/ 4.47 Warrant Agreement by and among Pacific Aerospace & Electronics, Inc. and First Albany Corporation, dated April 9, 2001./(43)/ 4.48 Warrant Certificate, dated April 9, 2001, issued to First Albany Corporation, exercisable for 692,074 shares of Common Stock./(43)/ 98 10.1 Amended and Restated Stock Incentive Plan./(5)/ 10.2 Amendment No. 1 to the Amended and Restated Stock Incentive Plan. /(19)/ 10.3 Amended and Restated Independent Director Stock Plan./(21)/ 10.4 1999 Stock Incentive Plan /(30)/ 10.5 1997 Employee Stock Purchase Plan./(11)/ 10.6 Employment Agreement, dated June 1, 1997, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright./(9)/ 10.7 Amendment No. 1 to Employment Agreement, dated January 29, 1999, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright./(27)/ 10.8 Amendment No. 2 to Employment Agreement, dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright./(43)/ 10.9 Employment Agreement, dated March 1, 1999, between Pacific Aerospace & Electronics, Inc. and Werner Hafelfinger./(27)/ 10.10 Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Werner Hafelfinger/(43)/ 10.11 Employment Agreement, dated June 1, 1997, between Pacific Aerospace & Electronics, Inc. and Nick A. Gerde./(9)/ 10.12 Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Nick A. Gerde./(43)/ 10.13 Separation Letter dated August 15, 2001 from Pacific Aerospace & Electronics, Inc. to Nick A. Gerde./(43)/ 10.14 Waiver and Release dated August 17, 2001 from Nick A. Gerde to Pacific Aerospace & Electronics, Inc./(43)/ 10.15 Employment Agreement, dated September 1, 1997, between Pacific Aerospace & Electronics, Inc. and Sheryl A. Symonds./(12)/ 10.16 Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Sheryl A. Symonds./(43)/ 10.17 Incentive Compensation Program./(35)/ 10.18 Promissory Note, dated March 18, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association./(15)/ 10.19 Security Agreement, dated March 18, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association./(15)/ 10.20 Loan Agreement, dated September 7, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(29)/ 10.21 Promissory Note, dated September 22, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association./(22)/ 10.22 Commercial Security Agreement, dated September 7, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(29)/ 10.23 Promissory Note, dated September 30, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association./(22)/ 10.24 Deed of Trust, dated September 30, 1998, between Pacific Aerospace & Electronics, Inc., KeyBank National Association and Land Title Company, Chelan-Douglas County, Inc./(22)/ 10.25 Modification and/or Extension Agreement, dated October 6, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association /(29)/ 10.26 Modification and/or Extension Agreement, dated September 6, 2000, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(35)/ 10.27 Modification and/or Extension Agreement, dated November 13, 2000, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(37)/ 99 10.28 Modification and/or Extension Agreement dated November 28, 2000, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(37)/ 10.29 Modification and/or Extension Agreement dated January 5, 2001, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(37)/ 10.30 Modification and/or Extension Agreement dated February 7, 2001, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association./(39)/ 10.31 Letter dated April 11, 2001 to Pacific Aerospace & Electronics, Inc. from Special Assets Group of Key Bank Washington./(43)/ 10.32 Facility Letter, dated July 30, 1998, from Barclays Bank plc to Aeromet International plc./(20)/ 10.33 Non-Negotiable Promissory Note in the original principal amount of $1,000,000.00, from U.S. Castings, LLC to Pacific Aerospace & Electronics, Inc., dated June 14, 2001./(42)/ 10.34 Guarantee by USCRE Properties, LLC to Pacific Aerospace & Electronics, Inc., dated June 14, 2001./(42)/ 10.35 Escrow Note in the original principal amount of $160,000.00, from U.S. Castings, LLC and USCRE Properties, LLC to Pacific Aerospace & Electronics, Inc., dated June 14, 2001./(42)/ 10.36 U.S. Castings, LLC Limited Liability Company Agreement, dated June 13, 2001./(42)/ 10.37 First Amendment to U.S. Castings, LLC Limited Liability Company Agreement, dated June 14, 2001./(42)/ 10.38 USCRE Properties, LLC Limited Liability Company Agreement, dated June 13, 2001./(42)/ 10.39 First Amendment to USCRE Properties, LLC Limited Liability Company Agreement, dated June 14, 2001./(42)/ 10.40 General Terms Agreement No. BCA-65323-0458 dated December 20, 1999 between The Boeing Company and Pacific Aerospace & Electronics, Inc. (U.S. Aerospace Group and European Aerospace Group)./(31)/ 10.41 Special Business Provisions No. POP-65323-0519 December 20, 1999 between The Boeing Company and Pacific Aerospace & Electronics, Inc. (U.S. Aerospace Group and European Aer ospace Group)./(1)/ /(31)/ 10.42 Option to Purchase, dated January 29, 1999, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright./(27)/ 10.43 Real Estate Agreement, dated January 15, 1999, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County./(27)/ 10.44 Real Estate Purchase and Sale Agreement dated December 29, 2000, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County./(37)/ 10.45 Rescission and Termination Agreement, dated July 31, 2001, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County. /(43)/ 10.46 Agreement of Sale, dated October 23, 2000 between Balo Precision Parts, Inc. and D&G Group II, LLC, Louis E. and Mary E. Giresi Grandchildren's Education Trust./(37)/ 21.1 List of Subsidiaries./(43)/ --------------- /(1)/ Subject to confidential treatment. Omitted confidential information was filed separately with the Securities and Exchange Commission . /(2)/ Incorporated by reference to the Company's Annual Report on Form 10- KSB for the year ended May 31, 1995. /(3)/ Incorporated by reference to Amendment No. 1 to the Company's Registration Statement on Form SB-2 filed on June 19, 1996. /(4)/ Incorporated by reference to the Company's Annual Report on Form 10- KSB for the year ended May 31, 1996. /(5)/ Incorporated by reference to the Company's Current Report on Form 10- QSB for the quarterly period ended November 30, 1996. 100 /(6)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on December 12, 1996, reporting the reincorporation merger. /(7)/ Incorporated by reference to the Company's Registration Statement of Certain Successor Issuers on Form 8-B filed on February 6, 1997. /(8)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on March 12, 1997, reporting the Series A Preferred Stock offering. /(9)/ Incorporated by reference to the Company's Annual Report on Form 10- KSB for the fiscal year ending May 31, 1997. /(10)/ Incorporated by reference to the Company's Registration Statement on Form S-8 filed on June 11, 1997. /(11)/ Incorporated by reference to the Company's Definitive Proxy Statement for its 1997 Annual Shareholders Meeting, filed on August 28, 1997. /(12)/ Incorporated by reference to the Post-Effective Amendment No. 1 to Form SB-2, filed on November 3, 1997. /(13)/ Incorporated by reference to the Company's Quarterly Report on Form 10-QSB for the quarterly period ending November 30, 1997. /(14)/ Incorporated by reference to the Company's Registration Statement on Form S-3 filed on December 3, 1997. /(15)/ Incorporated by reference to the Company's Quarterly Report on Form 10-QSB for the quarterly period ending February 28, 1998 . /(16)/ Incorporated by reference to the Company's Current Report on Form 8- K/A, filed on May 1, 1998. /(17)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on July 10, 1998. /(18)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on August 14, 1998. /(19)/ Incorporated by reference to the Company's Registration Statement on Form S-8 filed on November 7, 1997. /(20)/ Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ending May 31, 1998. /(21)/ Incorporated by reference to the Company's Definitive Proxy Statement filed on September 1, 1998. /(22)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q, and Form 10-Q/A, for the quarterly period ending August 31, 1998. /(23)/ Incorporated by reference to the Company's Registration Statement on Form S-1 filed on October 30, 1998. /(24)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ending November 30, 1998. /(25)/ Incorporated by reference to Registration Statement on Form S-4 filed on November 25, 1998. /(26)/ Incorporated by reference to Amendment No. 1 to Registration Statement on Form S-4 filed on January 20, 1999 . /(27)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ending February 28, 1999. /(28)/ Incorporated by reference to the Company's Annual Report on Form 10-K filed on August 30, 1999. /(29)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ending August 31, 1999. /(30)/ Incorporated by reference to the Company's Definitive Proxy Statement filed on September 1, 1999. 101 /(31)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ending February 29, 2000. /(32)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on May 31, 2000. /(33)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on August 8, 2000. /(34)/ Incorporated by reference to the Company's Annual Report on Form 10-K filed on August 28, 2000. /(35)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ending August 31, 2000. /(36)/ Incorporated by reference to the first amendment on Form 10-K/A to the Company's Annual Report for the fiscal year ended May 31, 2000, as filed on October 13, 2000. /(37)/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarterly period ending November 30, 2000. /(38)/ Incorporated by reference to the second amendment on Form 10-K/A to the Company's Annual Report for the fiscal year ended May 31, 2000, as filed on January 18, 2001. /(39)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on February 9, 2001. /(40)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on February 21, 2001. /(41)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on March 7, 2001. /(42)/ Incorporated by reference to the Company's Current Report on Form 8-K filed on June 27, 2001. /(43)/ Filed with this report. (b) Reports on Form 8-K. Current reports filed during the last quarter of fiscal 2001 were as follows: (i) The Company filed a Current Report on Form 8-K on March 7, 2001, reporting the closing of a senior secured loan in the approximate original principal amount of $13.8 million on March 1, 2001. (ii) The Company filed a Current Report on Form 8-K on March 26, 2001, reporting the receipt on March 22, 2001 of a Nasdaq determination letter regarding the proposed delisting of the Company's securities. (iii) The Company filed a Current Report on Form 8-K on April 2, 2001, reporting third quarter losses and restructuring plans. 102 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this amended report to be signed on its behalf by the undersigned, thereunto duly authorized. Date: August 29, 2001 PACIFIC AEROSPACE & ELECTRONICS, INC. By /s/ DONALD A. WRIGHT -------------------- DONALD A. WRIGHT President and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this amended report has been signed below by the following persons on behalf of the registrant and in the following capacities on August 29, 2001. Signatures Title - ---------- ----- /s/ DONALD A. WRIGHT President, Chief Executive Officer, and - -------------------------- Chairman of the Board DONALD A. WRIGHT (Principal Executive Officer) /s/ CHARLES A. MIRACLE Interim Chief Financial Officer and - -------------------------- Treasurer CHARLES A. MIRACLE (Principal Financial and Accounting Officer) /s/ WERNER HAFELFINER Director, Vice President Operations and - -------------------------- Chief Operating Officer WERNER HAFELFINGER /s/ DALE L. RASMUSSEN Director - -------------------------- DALE L. RASMUSSEN /s/ WILLIAM A. WHEELER Director - -------------------------- WILLIAM A. WHEELER /s/ ROBERT M. STEMMLER Director - -------------------------- ROBERT M. STEMMLER /s/ GENE C. SHARRATT, Ph.D. Director - --------------------------- GENE C. SHARRATT, Ph.D. 103 EX-2.3 3 dex23.txt ASSET PURCHASE AGREEMENT EXHIBIT 2.3 ASSET PURCHASE AGREEMENT ------------------------ THIS ASSET PURCHASE AGREEMENT ("Agreement") is entered into as of May 4, 2001 by and between Skagit Engineering & Manufacturing, Inc., a Washington corporation, also know as Pacific Aerospace & Electronics, Inc. - U.S. Aerospace Group - Engineering & Fabrication Division ("Seller"), and MCE Technologies Incorporated, a Washington corporation ("Buyer"). Seller desires to sell, and Buyer desires to purchase, certain of Seller's assets related to the machining portion of Seller's fabrication business in Sedro-Woolley, Washington, on the terms and conditions set forth in this Agreement. The parties agree as follows: 1. Purchase and Sale. On the Closing Date (as defined in Section 3 below), Seller will sell, transfer, assign, convey and deliver to Buyer, and Buyer will purchase from Seller, all of Seller's right, title and interest in the assets listed on Schedule 1 to this Agreement (the "Assets"). The Assets will not include any assets not listed on Schedule 1, including without limitation Seller's books and records, corporate name or trade names, cash or prepaid items, accounts receivable, inventory, intellectual property, contracts, licenses or permits, or interests in real property. The sale of the Assets will be effected by Seller's execution and delivery to Buyer at Closing of a Bill of Sale in the form attached as Exhibit A (the "Bill of Sale"), vehicle titles, and any other instruments of transfer reasonably requested by Buyer, in form sufficient to vest in Buyer all Seller's right, title and interest in and to the Assets, free and clear of any liens, claims or encumbrances. Seller will deliver the Assets to Buyer at Closing, at Seller's facility, "as is" without warranty of any kind, including without limitation any warranty as to condition, performance, merchantability, or fitness for any purpose. Buyer will not assume and will not be liable for any liabilities of Seller. 2. Purchase Price. As full payment for the purchase of the Assets, Buyer will deliver to Seller at Closing $200,000, payable by wire transfer, certified check, or other immediately available funds. 3. Closing. The closing of the sale of the Assets (the "Closing") will take place at 10:00 a.m. on May 31, 2001 (the "Closing Date") at Seller's offices, or at such other time and place as the parties may agree. 4. Representations and Warranties of Seller. Seller represents and warrants to Buyer that the following are true and correct as of the date of this Agreement, and will be true and correct as of the Closing Date. 4.1 Authorization. Seller is a corporation, duly organized and validly existing under the laws of Washington. Seller has taken all corporate action necessary to authorize, and, to the extent required by applicable law, Seller's shareholder has approved, Seller's execution and delivery of, and the performance of its obligations under, this Agreement. Seller has full corporate power and authority to enter into, and to carry out its obligations under, this Agreement. Seller has duly executed and delivered this Agreement, and this Agreement is a valid and binding obligation of Seller, enforceable against Seller in accordance with its terms. -1- Except for any required consents set forth on Schedule 4.2, the execution and delivery of this Agreement by Seller, and the performance of its obligations hereunder, will not conflict with, result in the breach of, or constitute a default under (a) Seller's Articles of Incorporation or Bylaws; (b) any note, mortgage, deed of trust, loan agreement, lease or other agreement or instrument to which Seller is a party or by which Seller is bound; or (c) any order, judgment, rule or regulation of any applicable authority. 4.2 Consents. Except as set forth on Schedule 4.2, no consent or approval by any third person or public authority is required to authorize, or is required in connection with, the execution, delivery or performance of this Agreement by Seller. 4.3 Assets. Except as set forth on Schedule 4.3, Seller has good and marketable title to all of the Assets, free and clear of all liabilities, claims, liens, sales agreements (conditional or otherwise), leases, or other encumbrances of any kind. 4.4 Employment Matters. Seller is not a party to or bound by any employment or collective bargaining agreement, and each of Seller's employees is an "at-will" employee. Seller will pay, and will indemnify Buyer against all salaries, vacation pay, medical and other employment benefits or severance payments due to be paid to its employees for all periods up to the Closing Date. 4.5 Brokers. Seller has not entered into or authorized any arrangements with any broker, finder, or investment banker that will result in payment of a fee in connection with this transaction. Seller will indemnify Buyer against any claim for payment of any such fee. 5. Representations and Warranties of Buyer. Buyer represents and warrants to Seller that the following are true and correct as of the date of this Agreement, and will be true and correct as of the Closing Date: 5.1 Authorization. Buyer is a corporation, duly organized and validly existing under the laws of Washington. Buyer has taken all corporate action necessary to authorize execution and delivery of, and the performance of its obligations under, this Agreement. Buyer has full corporate power and authority to enter into, and to carry out the terms of, this Agreement. Buyer has duly executed and delivered this Agreement, and this Agreement is a valid and binding obligation of Buyer, enforceable in accordance with its terms. The execution and delivery of this Agreement by Buyer , and the performance of its obligations hereunder, will not conflict with, result in the breach of, or constitute a default under: (a) Buyer's Articles of Incorporation or Bylaws; (b) any material note, mortgage, deed of trust, loan agreement, lease or other agreement or instrument to which Buyer is a party or by which Buyer is bound; or (c) any order, judgment, rule or regulation of any applicable authority. 5.2 Consents. No consent or approval by any third person or public authority is required to authorize, or is required in connection with, the execution, delivery or performance of this Agreement by Buyer. Buyer will indemnify Seller against any claim for payment of any such fee. 5.3 Brokers. Buyer has not entered into or authorized any arrangements with any broker, finder, or investment banker that will result in payment of a fee in connection with this transaction. -2- 6. Pre-Closing Covenants. Buyer and Seller agree that, between the date of this Agreement and the Closing Date: 6.1 Access. To permit Buyer to complete its due diligence investigation, subject to the terms of the separate confidentiality agreement between the parties, Seller will (a) permit Buyer and its agents to have reasonable access to the premises in which Seller conducts its business and to all of its books, records, and personnel files related to Seller's machining operations; (b) furnish to Buyer such relevant information as Buyer reasonably requests; and (c) provide Buyer reasonable access to Buyer's customers, suppliers and employees upon request. 6.2. Solicitation of Employees. Buyer may solicit certain of Seller's employees for employment with Buyer. Buyer will identify these employees to Seller in writing. 6.3 Operation of the Business. Buyer will operate the business in a reasonable and prudent manner, in accordance with the Operating Agreement between the parties dated May 4, 2001. 6.4 Assets. Seller will not transfer, lease, or dispose of any of the Assets without Buyer's prior written consent. 6.5 Sublease. Seller will use its best efforts to obtain the consent of Seller's landlord to two subleases substantially in the forms attached as Exhibit B and Exhibit C (the "Subleases"). 6.6 Project Completion. Buyer and Seller will identify up to 1500 hours of Seller's backlog, which Buyer agrees to complete for Seller, either before or after Closing, at a cost of $35.00 per hour, within a time frame and to quality levels agreed upon by the parties. 6.7 Customers. Seller agrees to cooperate with Buyer to provide a reasonable level of assistance to Buyer, upon request, for the purpose of transferring existing relationships of the machining business with current customers to Buyer. 7. Confidentiality. No information concerning one party that has been furnished to or obtained by another party in connection with this Agreement may be disclosed to any person other than in confidence to employees, legal counsel, financial advisers or independent public accountants who reasonably need to know such information in connection with the transactions contemplated by this Agreement and who agree to be bound by this Section. Each party agrees not to use any such information for any purpose other than fulfilling its obligations under this Agreement. Each party agrees that, upon request, it will immediately return to the other party all such information in the event this Agreement is terminated before Closing. Notwithstanding the foregoing, this obligation shall not apply to information that (a) is, or becomes, publicly available from a source other than the other party; (b) was known and can be shown to have been known by the other party at the time of its receipt; (c) is received by the other party from a third party without breach of this Agreement; (d) is required by law or court order to be disclosed; or (e) is disclosed in accordance with the written consent of the other party. Buyer will not be prohibited from disclosing or using information regarding the Assets after Closing -3- 8. Closing Conditions of Buyer. The obligation of Buyer to purchase the Assets is subject to satisfaction, at or before the Closing, of each of the following conditions: 8.1 Consents. All consents required to be obtained from any third-party, including Seller's landlord, and including those listed on Schedule 4.2, shall have been obtained. 8.2 Representations, Warranties and Covenants. The representations and warranties of Seller contained in this Agreement shall be true and correct in all material respects as if made at Closing. Seller shall have complied with or performed, in all material respects, all covenants to be complied with or performed by it at or before the Closing Date. 8.3 Conveyance. Seller shall have executed and delivered to Buyer the Bill of Sale, vehicle titles, and such other instruments of conveyance and transfer as Buyer may reasonably request in order to effect the transfer, assignment and conveyance of the Assets. 8.4 Control of Assets. Seller shall have taken all steps necessary or desirable to place Buyer in possession and operating control of the Assets. 8.5 Subleases. Seller shall have executed and delivered the Subleases to Buyer. 9. Closing Conditions of Seller. The obligation of Seller to sell the Assets is subject to satisfaction, at or before the Closing, of each of the following conditions: 9.1 Consents. All consents required to be obtained from any third-party, including Seller's landlord, and including those listed on Schedule 4.2, shall have been obtained. 9.2 Representations, Warranties and Covenants. The representations and warranties of Buyer contained in this Agreement shall be true and correct in all material respects as if made at Closing. Buyer shall have complied with or performed, in all material respects, all covenants to be complied with or performed by it at or before the Closing Date. 9.3 Purchase Price. Buyer shall have delivered the Purchase Price to Seller by wire transfer, cashier's check, or other immediately available funds. 9.4 Subleases. Buyer shall have executed and delivered the Subleases to Seller. 10. Expenses. The parties each agree to bear their own costs and expenses incurred in connection with the negotiation and preparation of this Agreement and the consummation of the transaction contemplated in this Agreement. 11. Termination. ----------- 11.1 Termination Events. This Agreement may be terminated prior to Closing: (a) by written agreement of the parties; or (b) by either Seller or Buyer if the Closing has not occurred on or before May 31, 2001, unless the terminating party's failure to fulfill or perform any obligation under this Agreement has been the cause of, or resulted in, the failure of the Closing to occur on or before such date. -4- 11.2 Effect of Termination. Upon termination of this Agreement pursuant to Section 11.1, the parties will thereafter be released from all liabilities and obligations arising under this Agreement, unless such termination arises from a breach of this Agreement or except as otherwise provided in this Agreement. Notwithstanding the foregoing, if the Closing has not occurred by June 29, 2001, Buyer will provide the services described in Section 6.6 at no charge, and Buyer will forfeit the rent for May and June 2001 payable under the Operating Agreement. 12. Survival. The representations, warranties, covenants and agreements of the parties contained in this Agreement or in any agreement delivered in accordance with this Agreement shall survive for a period of one year after the Closing. 13. Notices. The parties shall deliver any notices required under this Agreement in writing by personal or courier delivery, facsimile transmission, or by registered or certified U.S. mail, return receipt requested, postage prepaid, to the addresses set forth below, or to such other address as specified by a party in writing. Notices shall be deemed effective as of the date of personal or courier delivery, confirmed facsimile transmission, or three days after the date on the U.S. postmark affixed to the notice. 14. Attorneys' Fees. The prevailing party in any arbitration or litigation concerning this Agreement is entitled to reimbursement of its reasonable attorneys' fees, costs and expenses from the non-prevailing party, including fees, costs and expenses incurred on appeal. 15. Other Provisions. No party may assign its interest under this Agreement without the prior written consent of the other party. Subject to the foregoing, this Agreement shall be binding upon and shall inure to the benefit of the parties and their respective successors and assigns. The provisions of this Agreement, or of any agreement or document executed in connection with this Agreement, may be amended or waived only in a written agreement signed by the party against which enforcement is sought. If any portion of this Agreement is held to be invalid by a court of competent jurisdiction, the remaining terms of this Agreement shall remain in full force and effect to the extent possible. The construction and performance of this Agreement will be governed by the laws of the State of Washington (except for the choice of law provisions thereof). This Agreement, its attached schedules and exhibits, and the documents executed in connection with this Agreement, including the confidentiality agreement and the Bill of Sale, contain the entire agreement of the parties with respect to the subject matter of this Agreement and supersede any prior agreements, written or oral, relating to their subject matter. 16. Counterparts. This Agreement may be executed in one or more counterparts, each of which will be deemed an original but all of which together will constitute the same instrument. -5- Executed as of the first date written above. BUYER: MCE TECHNOLOGIES INCORPORATED By /s/ Daniel T. Valerie -------------------------- Name: Daniel T. Valerie Its: President Address: 3670 East Marginal Way South Seattle, WA 98134 SELLER: SKAGIT ENGINEERING & MANUFACTURING, INC. By /s/ Werner Hafelfinger ------------------------------ Name: Werner Hafelfinger Its: President Address: 6808 220th St. SW, Suite 200 Mountlake Terrace, WA 98043 -6- The following Exhibits and Schedules are omitted from the Asset Purchase Agreement, dated May 4, 2001 between MCE Technologies Incorporated and Skagit Engineering & Manufacturing, Inc., filed as Exhibit 2.3 to the foregoing report on Form 10-K, pursuant to Regulation S-K, item 601(b)(2). The Company agrees to furnish supplementally a copy of the omitted exhibit to the Securities and Exchange Commission upon request. Exhibits - -------- Exhibit A Bill of Sale Exhibit B Sublease Exhibit C Sublease Schedules - --------- Schedule 1 Assets Schedule 4.2 Consents Schedule 4.3 Encumbrances -7- EX-2.4 4 dex24.txt AGREEMENT FOR PURCHASE AND SALE OF ASSETS EXHIBIT 2.4 AGREEMENT FOR PURCHASE AND SALE OF ASSETS ----------------------------------------- This Agreement, hereinafter "Agreement" or "Contract," among Teledyne Electronic Technologies, a division of Teledyne Technologies Incorporated (Buyer), a Delaware corporation, having an office at 12525 Daphne Avenue, Hawthorne, California 90250-3384 and Electronic Specialty Corporation, (Seller), a Washington corporation, having its principal office at, 14511 NE 13/th/ Ave. Vancouver, Washington, also referred individually as a "Party" and together as the "Parties." Buyer desires to purchase from Seller and Seller desires to sell to Buyer, on the terms and subject to the conditions of this Agreement, all the assets, tooling, intellectual property, and inventory of Seller listed on Exhibits I, -- II, and III, in exchange for the cash to be paid by the Buyer. - ----------- In consideration of the mutual covenants, agreements, representations, and warranties contained in this Agreement, the Parties agree as follows: 1. Subject to the terms and conditions set forth in this Agreement, Seller will sell, convey, transfer, assign, and deliver exclusively to Buyer, and Buyer will purchase from Seller, all of the Seller's rights title and interests in the Series 12, 30, 40, 50, 55, 61, 68, 71, 77, 79, 80, 90, 92, 93, 94, 97, 98, 99, 100, 102, 103, 104, 300, F, H, and T relays, hereinafter referred to as "Relays". Relays includes all of the assets tooling, intellectual property, of Seller's Relay Operations of every kind, character, and description, whether tangible, intangible, personal, or mixed, and wherever located (all of which are sometimes collectively referred to as the "Assets") listed on Exhibits I, II, and III, delivered "as is" without warranty of any kind, including without limitation any warranty as to condition, performance, merchantability, or fitness for purpose. 2. As full payment for the transfer of the Assets to Buyer, Buyer must deliver at the Closing (as defined in provision 8 herein) a check, payable to the order of Pacific Aerospace & Electronics in the amount of $400,000.00 in US funds, allocation to be done separately as follows: I. Inventory for resale by Buyer $ II. Equipment (except compressors) III Intellectual Property ____________ $400,000.00 Page 1 of 7 3. The inventories of raw materials, work in process, and finished goods (collectively called inventories) shown on Exhibit I consist of items that are usable and salable in the ordinary course of business by Seller. Except for sales made in the ordinary course of business since the date of this Agreement, all the inventories are the property of Seller. At closing, no items will be subject to security interest, or any other lien or claim. 4. Exhibit II contains a description of the machinery, equipment, furniture, supplies, tools, dies, jigs, molds, patterns, drawings, work in process, finished goods, and other tangible personal property owned by, in the possession of, or used by Seller in connection with the Relays. No personal property used by either Seller in connection with its business is held under any lease, security agreement, conditional sales contract, or other title retention or security arrangement, or is other than in the possession and under the control of Seller. The tangible personal property reflected in Exhibits I, II, & III ------------ constitutes all such tangible personal property necessary for the manufacture and sale by Seller of the Relays product line covered by this Agreement. 5. Exhibit III to this Agreement is a complete and accurate schedule of all intellectual property consisting principally of Drawings and Assembly Instructions owned by Seller and used by Seller in manufacturing the Relays. To the best of Seller's knowledge, the manufacture, use, or sale of the inventions, models, designs, and systems covered by such intellectual property listed in Exhibit III do not violate or infringe on any patent or any proprietary or personal right of any person, firm, or Seller. To the best of Seller's knowledge, Seller has not infringed nor is it now infringing any patent or other right, included within Exhibit III, which belongs to any person, firm, or entity. Seller is not a Party to any license, agreement, or arrangement, whether as licensee, licensor, or otherwise, with respect to any patent, application for patent, invention, design, model, process, trade secret, or formula related the Relays. Seller has the right and authority to use and to transfer to Buyer such inventions, trade secrets, processes, models, designs, and formulas as are necessary to enable Buyer to continue to conduct the manufacture, use, and sale of the Relays and derivative products. 6. Seller has good and marketable title to all the Assets and interests in Assets, whether personal, mixed, tangible, or intangible, which constitute all the Assets and interests in Assets that are the subject of this Agreement. All of these Assets are, or will be at closing, free and clear of restrictions on or conditions to transfer or assignment, and of mortgages, liens, pledges, charges, encumbrances, equities, claims, easements, rights of way, covenants, conditions, or restrictions. Page 2 of 7 7. Seller has the right, power, legal capacity, and authority to enter into and perform its obligations under this Agreement, and no approvals or consents of any persons, other than Seller, are necessary in connection with entering into and performing this Agreement other than consents to be obtained by Seller prior to closing. The execution and delivery of this Agreement by Seller has been duly authorized by all necessary corporate action on the part of Seller. 7a. Buyer has the right, power, legal capacity, and authority to enter into and perform its obligations under this Agreement, and no approvals or consents of any persons, other than Buyer, are necessary in connection with entering into and performing this Agreement, other than consents to be obtained by buyer prior to closing. The execution and delivery of this Agreement by Buyer has been duly authorized by all necessary corporate action on the part of Buyer. 8. The execution and delivery of this Agreement by Seller and the performance of its covenants and obligations under it, have been duly authorized by all necessary corporate action, and Seller will deliver to Buyer copies of all resolutions pertaining to that authorization, certified by the secretary of the Seller, at closing. 9. The transfer of the Assets by Seller to Buyer (the Closing) will take place at the Seller's facility in Vancouver, Washington on or before March 9, 2001, or at such other time as the parties may agree to in writing. Seller shall tender the Assets to Buyer at Seller's facility and shall cooperate with and assist Buyer in removing of all the Assets from Seller's facility in a safe and sound manner and condition at Buyer's risk. Buyer shall be responsible for packing and shipping the Assets at it's own risk. 10. Each Party warrants that it has dealt with no broker or finder in connection with any transaction contemplated by this Agreement, and, as far as it knows, no broker or other person is entitled to any commission or finder's fee in connection with any of these transactions. 11. Seller agrees not to compete directly or indirectly with Buyer in the Relay business, or to own any interest greater than 5% in or participate in any business that competes with the Buyer in the Relays business. This covenant shall continue so long as the Buyer conducts a like business, but not more than three (3) years from the date of this Agreement. Page 3 of 7 12. Seller and Buyer each indemnify and hold harmless one another against any loss, liability, damage, cost, claim, or expense incurred by reason of any brokerage commission or finder's fee alleged to be payable because of any act, omission, or statement of the indemnifying Party. 13. Each Party will pay all costs and expenses incurred or to be incurred by it in negotiating and preparing this Agreement and in closing and carrying out the transactions contemplated in this Agreement. 14. This Agreement constitutes the entire agreement between the Parties pertaining to the subject matter contained in it and supersedes all prior and contemporaneous agreements, representations, and understandings of the Parties with respect to the subject matter of this Agreement. No supplement, modification, or amendment of this Agreement will be binding unless executed in writing by all the Parties. 15. This Agreement may be executed simultaneously in one or more counterparts, each of which will be considered an original, but all of which together will constitute one and the same instrument. 16. If any legal action, arbitration, or other proceeding is brought for the enforcement of this Agreement, or because of a dispute, breach, default, or misrepresentation in connection with any of the provisions of this Agreement, the successful or prevailing Party or Parties will be entitled to recover reasonable attorney fees and other costs incurred in that action or proceeding, in addition to any other relief to which they may be entitled. 17. This Agreement is solely for the purchase of the identified Assets. Buyer assumes no liability for Seller's business, contracts, or any of its liabilities, liens, debts, charges or encumbrances. Buyer assumes no liability for any warranty that may have been extended by Seller from time to time on its products. Buyer assumes no liability, and Seller indemnifies Buyer for any costs and judgments arising out of any claims, lawsuits, liens, or responsibility, which may arise based upon products manufactured and sold by Seller prior to closing. 18. No representations or warranties whatever are made by any Party except as specifically set forth in this Agreement, or in an instrument, certificate, opinion, or other writing provided for in this Agreement. All statements contained in any of these instruments, certificates, opinions, or other writings will be considered to be warranties under this Agreement. The representations, warranties, and indemnities made by the Parties in this Agreement provided for in the covenants and agreements to be performed or complied with by the respective Parties under it Page 4 of 7 before the closing date, will be continuing and will expire on the Closing. 19. All notices, requests, demands, and other communications under this Agreement must be in writing and will be considered to have been duly given on the date of service if served personally on the Party to whom notice is to be given, or on the second day after mailing if mailed to the Party to whom notice is to be given, by first class mail, registered or certified, postage prepaid, and properly addressed as follows: Seller: Electronic Specialty Corporation 14511 NE 13/th/ Ave. Vancouver, WA 98685 Attention: President With a copy to: Pacific Aerospace & Electronics, Inc. 430 Olds Station Road Wenatchee, WA 98801 Attention: U.S. Electronics Group President Buyer: Teledyne Electronic Technologies 12525 Daphne Avenue Hawthorne, CA 90250-3384 Attention: General Manager 20. If any provision of this Agreement is held invalid or unenforceable by any court of final jurisdiction, it is the intent of the Parties that all other provisions of this Agreement be construed to remain fully valid, enforceable, and binding on the Parties. 21. Except as may otherwise be required by law, neither Party to this Agreement shall, without the other Party's prior written consent, which consent shall not be unreasonably withheld, (i) make any news releases, public announcements, denials or confirmations of this Agreement, other than in the Party's SEC reports or filings; or (ii) in any manner advertise or publish the fact that they have contracted hereunder; or (iii) disclose the contents of this Agreement, directly or indirectly to any person or organization, other than the Party's legal counsel, accountants, financial advisors, or lenders or (iv) disclose the information, data or drawings purchased under this Agreement to any person or organization. Page 5 of 7 IN WITNESS WHEREOF, the Parties to this Agreement have duly executed it on the day and year first above written. TELEDYNE ELECTRONIC TECHNOLOGIES ELECTRONIC SPECIALTY CORPORATION By /s/ Hamid R. Emami By /s/ Lewis L. Wear ---------------------------- -------------------------- Name: Hamid R. Emami Name: Lewis L. Wear Title: General Manager of Title: U.S. Electronics Group Teledyne Relays President Date: 16 February, 2001 Date: 21 February 2001 Page 6 of 7 The following Exhibits and Schedules are omitted from the Agreement for Purchase and Sale of Assets between Teledyne Electronic Technologies, a division of Teledyne Technologies Incorporated, and Pacific Aerospace & Electronics, Inc., filed as Exhibit 2.4 to the foregoing report on Form 10-K, pursuant to Regulation S-K, item 601(b)(2). The Company agrees to furnish supplementally a copy of the omitted exhibit to the Securities and Exchange Commission upon request. Exhibits - -------- Exhibit I Inventory for Resale by Buyer Exhibit II Equipment Exhibit III Intellectual Property Page 7 of 7 EX-4.47 5 dex447.txt WARRANT AGREEMENT WITH FIRST ALBANY CORPORATION EXHIBIT 4.47 ================================================================================ WARRANT AGREEMENT BY AND AMONG PACIFIC AEROSPACE & ELECTRONICS, INC. AND FIRST ALBANY CORPORATION April 9, 2001 ================================================================================ TABLE OF CONTENTS ARTICLE I DEFINITIONS.............................................. 1 Section 1.1. Definitions.............................................. 1 ARTICLE II ISSUANCE, EXECUTION AND TRANSFER OF WARRANT CERTIFICATES............................................. 3 Section 2.1. Warrants to be Issued.................................... 3 Section 2.2. Form of Warrant Certificates............................. 3 Section 2.3. Execution of Warrant Certificates........................ 3 Section 2.4. Transfer and Exchange of Warrant Certificates............ 3 Section 2.5. Lost, Stolen, Mutilated or Destroyed Warrant Certificates 4 ARTICLE III EXERCISE PRICE AND EXERCISE OF WARRANTS.................. 4 Section 3.1. Exercise Price........................................... 4 Section 3.2. Registration of Warrant Shares........................... 5 Section 3.3. Exercise of Warrants..................................... 5 Section 3.4. Issuance of Warrant Shares............................... 6 Section 3.5. Certificates for Unexercised Warrants.................... 6 Section 3.6. Reservation of Warrant Shares............................ 6 Section 3.7. No Impairment............................................ 6 ARTICLE IV ADJUSTMENTS, NOTICE PROVISIONS AND ISSUANCE OF ADDITIONAL SECURITIES................................. 7 Section 4.1. Adjustment of Exercise Price............................. 7 Section 4.2. No Adjustments to Exercise Price......................... 8 Section 4.3. Adjustment of Number of Shares........................... 8 Section 4.4. Reorganizations.......................................... 9 Section 4.5. Verification of Computations............................. 9 Section 4.6. Exercise Price Less Than Par Value....................... 9 Section 4.7. Notice of Certain Actions................................ 10 Section 4.8. Certificate of Adjustments............................... 10 Section 4.9. Warrant Certificate Amendments........................... 10 Section 4.10. Fractional Shares........................................ 11 ARTICLE V SPLIT UP, COMBINATION, EXCHANGE, TRANSFER AND CANCELLATION OF WARRANT CERTIFICATES..................... 11 Section 5.1. Split Up, Combination, Exchange and Transfer of Warrant Certificates.......................................................... 11 Section 5.2. Cancellation of Warrant Certificates..................... 11 ARTICLE VI HOLDER REPRESENTATION AND WARRANTIES..................... 11 Section 6.1. Purchase for Investment.................................. 11 ARTICLE VII MISCELLANEOUS............................................ 12 Section 7.1. Changes to Agreement..................................... 12 Section 7.2. Assignment............................................... 12 ii Section 7.3. Successor to Company..................................... 12 Section 7.4. Notices.................................................. 12 Section 7.5. Governing Law............................................ 13 Section 7.6. Standing................................................. 13 Section 7.7. Headings................................................. 13 Section 7.8. Counterparts............................................. 13 Section 7.9. Availability of the Agreement............................ 13 Section 7.10. Entire Agreement......................................... 13 Section 7.11. Rights of Warrant Holders................................ 13 EXHIBIT A Form of Warrant Certificate.................................. 1 Form of Election To Purchase........................................... 3 Assignment............................................................. 4 iii WARRANT AGREEMENT THIS WARRANT AGREEMENT (the "Agreement"), dated as of April 9, 2001, is entered into by and among Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), and First Albany Corporation (the "Holder" and collectively with its permitted transferees, the "Holders"). This Agreement is made in connection with the engagement letter dated January 23, 2001 between the Company and the Holder, as amended by that certain letter agreement dated February 5, 2001 between the Company and the Holder (collectively, the "Engagement Letter"). WITNESSETH THAT: WHEREAS, the Company and its domestic subsidiaries entered into a Loan Agreement on March 1, 2001 with DDJ Capital Management, LLC, as agent, and the Lenders listed therein, whereby the Company received a loan in the aggregate principal amount of $13,841,488 (the "Transaction"); WHEREAS, in consideration for its services as placement agent in connection with the Transaction, the Company has agreed to pay to the Holder a cash fee as set forth in the Engagement Letter and to grant to Holder warrants to purchase Common Stock of the Company as set forth herein; WHEREAS, the Company proposes to issue and deliver Warrant Certificates evidencing Warrants (each, as defined herein) to acquire up to an aggregate of 692,074 shares of the Company's Common Stock, subject to adjustment from time to time as set forth herein (the Common Stock issuable upon exercise of the Warrants being referred to herein as the "Warrant Shares"); and WHEREAS, the Company desires to enter into this Agreement to set forth the terms and conditions of the Warrants and the rights of the holders thereof. NOW, THEREFORE, in consideration of the premises and of the mutual agreements herein contained, the parties hereto agree as follows: ARTICLE I DEFINITIONS ----------- Section 1.1. Definitions. As used in this Agreement, the following terms ----------- shall have the following respective meanings (all terms defined herein in the singular are to have the correlative meanings when used in the plural and vice versa): "Closing Price" means, for any date, the last sale price reported in the ------------- Wall Street Journal or other trade publication regular way or, in case no such - ------------------- reported sale takes place on such date, the average of the last reported bid and asked prices regular way, in either case on the principal national securities exchange on which the Common Stock is listed if that is the principal market for the Common Stock or, if not listed on any national securities exchange or if such national securities exchange is not the principal market for the Common Stock, the average of the closing high bid and low asked prices as reported by The Nasdaq Stock Market, Inc. or its successor, if any, or if the Common Stock is not so reported, as furnished by the National Quotation Bureau, Inc., or if such firm is not then engaged in the business of reporting such prices, as furnished by any similar firm then engaged in such business and selected by the Company or, if there is no such firm, as furnished by any NASD member selected by the Company. "Common Stock" means the Common Stock of the Company, par value $.001 per ------------ share. "Date of Exercise" means, with respect to any Warrant, the date on which a ---------------- Warrant to be exercised has been received by the Company (in accordance with Section 7.4 hereof). "Expiration Date" means April 9, 2006. --------------- "Officers' Certificate" means a certificate signed by any two of the --------------------- Chairman of the Board, the President, any Vice President, the Chief Financial Officer, the Treasurer, the Secretary or an Assistant Secretary of the Company. "Person" means any natural person, corporation, partnership, trust, joint ------ venture, limited liability company, or any other entity or organization. "Restricted Securities" means the Warrants issued on the date hereof and --------------------- any Warrant Shares which have been issued or are issuable upon the exercise of such Warrants until such time as any such Restricted Securities (i) have been sold pursuant to an effective registration statement under the Securities Act, (ii) are distributed to the public pursuant to Rule 144 (or any similar provision then in force) under the Securities Act or (iii) have been otherwise transferred without registration under the Act pursuant to an exemption from the registration requirements of the Securities Act. "Securities Act" means the Securities Act of 1933, as amended from time to -------------- time, or any successor statute, and the rules and regulations of the Securities and Exchange Commission promulgated thereunder. "Trading Days" means, with respect to the Common Stock (i) if the Common ------------ Stock is quoted on the National Market System of the Nasdaq Stock Market, Inc. or any similar system of automated dissemination of quotations of securities prices, days on which trades may be made on such system or (ii) if the Common Stock is listed or admitted for trading on any national securities exchange, days on which such national securities exchange is open for business. "Warrant Certificates" means the certificates representing the Warrants. -------------------- "Warrant Shares" means the shares of Common Stock issuable upon the -------------- exercise of any Warrant. "Warrants" means the Warrants exercisable for shares of Common Stock issued -------- pursuant to this Agreement. 2 ARTICLE II ISSUANCE, EXECUTION AND TRANSFER OF WARRANT CERTIFICATES -------------------------------------------------------- Section 2.1. Warrants to be Issued. The Company will issue Warrants to --------------------- purchase up to an aggregate of 692,074 fully paid and nonassessable shares of the Company's Common Stock, subject to the terms hereof, at the Exercise Price (as defined in Section 3.1), subject to adjustment pursuant to the provisions of Article IV hereof. Section 2.2. Form of Warrant Certificates. The Warrant Certificates ---------------------------- shall be issued substantially in the form of Exhibit A attached hereto. In --------- addition, the Warrant Certificates may have such letters, numbers or other marks of identification or designation and such legends, summaries, or endorsements stamped, printed, lithographed or engraved thereon as the Company may deem appropriate and as are not inconsistent with the provisions of this Agreement, or as, in any particular case, may be required to comply with any law or with any rule or regulation of any regulatory authority or agency, or to conform to customary usage. Each Warrant shall evidence the right, subject to the provisions of this Agreement and of the Warrant Certificate, to purchase such number of shares of Common Stock of the Company as set forth in the Warrant Certificate at the Exercise Price (as defined in Section 3.1), subject to adjustment pursuant to the provisions of Article IV hereof. Section 2.3. Execution of Warrant Certificates. The Warrant Certificates --------------------------------- shall be executed on behalf of the Company by its Chairman or President or any Vice President and attested to by its Secretary or Assistant Secretary, either manually or by facsimile signature printed thereon. In case any authorized officer of the Company who shall have signed any of the Warrant Certificates shall cease to be such officer of the Company either before or after delivery thereof by the Company to the holder thereof, the signature of such person on such Warrant Certificates shall be valid nevertheless, and such Warrant Certificates shall have the same force and effect as though the person who signed such Warrant Certificates had not ceased to be such officer of the Company. Section 2.4. Transfer and Exchange of Warrant Certificates. --------------------------------------------- (a) Warrant Certificates evidencing Restricted Securities and only such Warrant Certificates will bear a legend in substantially the following form: NEITHER THE ISSUANCE OF THE SECURITIES REPRESENTED BY THIS CERTIFICATE NOR THE ISSUANCE OF ANY SECURITIES ISSUABLE UPON EXERCISE HEREOF HAS BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT") OR PURSUANT TO THE SECURITIES LAWS OF ANY STATE, AND SUCH SECURITIES MAY NOT BE SOLD OR TRANSFERRED EXCEPT PURSUANT TO (i) A REGISTRATION STATEMENT IN EFFECT WITH RESPECT TO SUCH SECURITIES UNDER THE SECURITIES ACT AND THE RULES AND REGULATIONS THEREUNDER OR (ii) AN EXEMPTION FROM THE REGISTRATION REQUIREMENTS OF THE SECURITIES ACT AND ANY APPLICABLE STATE SECURITIES LAWS. 3 (b) Neither the Warrant Certificates nor the Warrants represented thereby may be transferred to any person other than an officer, director or employee of the initial Holder. (c) Prior to or concurrently with the transfer or exchange of any Warrant Shares (other than pursuant to an effective registration statement under the Securities Act), the transferor of such Warrant Shares shall, upon request of the Company, deliver to the Company an opinion of counsel, in substance reasonably satisfactory to the Company, to the effect that such Warrant Shares to be issued upon such transfer or exchange will be issued in compliance with applicable Securities laws and/or may be so issued without the foregoing legend. Notwithstanding the foregoing, it shall be understood that no opinion of counsel shall be required for transfers to officers, directors or employees of the initial Holder. (d) No Restricted Security shall be transferred, unless such transfer is in compliance with all applicable securities laws (including, without limitation, the Securities Act and any applicable state securities laws). (e) Subject to paragraph (a) and (b) above, the Company shall register the transfer of all or any whole number of Warrants covered by any outstanding Warrant Certificate upon surrender to the Company of Warrant Certificates accompanied by a written instrument or instruments of transfer, in form satisfactory to the Company, duly executed by the Warrant holder or his attorney duly authorized in writing. Upon any such registration of transfer, a new Warrant Certificate shall be issued to the transferee and the Company shall promptly cancel the surrendered Warrant Certificate. Warrant Certificates may be exchanged at the option of the holder thereof, upon surrender, properly endorsed by the holder, to the Company, with written instructions, for other Warrant Certificates representing in the aggregate a like number of Warrants. Section 2.5. Lost, Stolen, Mutilated or Destroyed Warrant Certificates. --------------------------------------------------------- If any Warrant Certificate shall be mutilated, lost, stolen or destroyed, the Company shall execute and deliver, in exchange and substitution for and upon cancellation of a mutilated Warrant Certificate, or in lieu of or in substitution for a lost, stolen or destroyed Warrant Certificate, a substitute Warrant Certificate, but only upon receipt of evidence of such loss, theft or destruction of such Warrant Certificate, and of the ownership thereof. Any such new Warrant Certificate shall constitute an original contractual obligation of the Company, whether or not the allegedly lost, stolen, mutilated or destroyed Warrant Certificate shall be at any time enforceable by anyone. ARTICLE III EXERCISE PRICE AND EXERCISE OF WARRANTS --------------------------------------- Section 3.1. Exercise Price. Each Warrant Certificate shall, when signed -------------- by the Chairman or President or any Vice President and attested to by the Secretary or Assistant Secretary of the Company, entitle the holder thereof subject to the provisions thereof and of this Agreement, to purchase from the Company at any time after the date hereof and before 5:00 p.m., New York time, on the Expiration Date, such number of shares of Common Stock of the Company as set forth in the Warrant Certificate for each of the Warrants specified therein, at a purchase price of $.4062 per share (the "Exercise Price") or such adjusted number of shares at 4 such adjusted exercise price as may be established from time to time pursuant to the provisions of Article IV hereof, payable in full in accordance with Section 3.3 hereof, at the time of exercise of the Warrant. Except as the context otherwise requires, the term "Exercise Price" as used in this Agreement shall mean the purchase price of one Warrant Share pursuant to the Warrant Certificates reflecting all appropriate adjustments made in accordance with the provisions of Article IV hereof. Section 3.2. Registration of Warrant Shares. The Company shall secure the ------------------------------ effective registration of the Warrant Shares under the Securities Act and applicable state laws and maintain such registration or qualification in effect, all on the same terms set forth in the Registrations Rights Agreement between the Company and DDJ Capital Management, LLC, and the other parties thereto dated as of March 1, 2001 (other than Section 2 thereof, which requires that a registration statement be filed within 30 days after the date of that agreement). Promptly after a registration statement under the Securities Act covering the Warrant Shares has become effective, the Company shall cause notice thereof together with copies of the prospectus covering the Warrant Shares to be mailed to each holder of a Warrant Certificate. Section 3.3. Exercise of Warrants. -------------------- (a) Warrants may be exercised by surrendering the Warrant Certificate evidencing such Warrants to the Company with the Election to Purchase form attached to the Warrant Certificate duly completed and executed by the holder thereof or his attorney duly authorized in writing (the "Exercise Notice"), accompanied by payment in full, as set forth below, of the Exercise Price for each share of Common Stock as to which Warrants are exercised. Such Exercise Price shall be paid in full by (i) cash or a certified check or a wire transfer in same day funds in an amount equal to the then applicable Exercise Price multiplied by the number of Warrant Shares then being purchased, (ii) delivery to the Company of that number of shares of Common Stock, duly endorsed, having an aggregate Fair Market Value (as defined in Section 4.1(d)) equal to the then applicable Exercise Price multiplied by the number of Warrant Shares then being purchased or (iii) by any combination of (i) and (ii). In the alternative, the holder of a Warrant Certificate may exercise its right to purchase some or all of the Warrant Shares subject to such Warrant Certificate, on a net basis, such that, without the exchange of any funds, such holder receives that number of Warrant Shares subscribed to pursuant to such Warrant Certificate less that number of shares of Common Stock having an aggregate Fair Market Value at the Date of Exercise equal to the aggregate Exercise Price that would otherwise have been paid by such holder for the number of Warrant Shares subscribed to pursuant to such Warrant Certificate. A Warrant holder may exercise all or any number of whole Warrants represented by a Warrant Certificate. (b) A Warrant shall be deemed to have been exercised immediately prior to the close of business on the date of the due surrender for exercise of the Warrant Certificate and payment to the Company of the Exercise Price. Each Person in whose name any such certificate for shares of Common Stock is issued shall for all purposes be deemed to have become the holder of record of such shares at the close of business on the date on which the Warrant Certificate was duly surrendered to the Company and payment of the Exercise Price was made to the Company, irrespective of the date of delivery of such share certificate, except that, if the date 5 of such surrender and payment is a date when the stock transfer books of the Company are closed, such person shall be deemed to have become the holder of such shares at the close of business on the next succeeding date on which the stock transfer books are open (whether before or after the Expiration Date in such case). Section 3.4. Issuance of Warrant Shares. As soon as practicable and no -------------------------- later than five (5) business days after the Date of Exercise of any Warrants, the Company shall issue, or cause its transfer agent to issue, a certificate or certificates for the number of full Warrant Shares to which the holder is entitled, registered in accordance with the instructions set forth in the Election to Purchase, together with cash, as provided in Section 4.10 hereof, in respect of any fractional share. All Warrant Shares issued upon the exercise of any Warrants shall be validly authorized and issued, fully paid and non- assessable, free of preemptive rights and free from all taxes, liens, security interests and charges created by the Company in respect of the issuance thereof. Each person in whose name any such certificate for Warrant Shares is issued shall for all purposes be deemed to have become the holder of record of the Common Stock represented thereby on the Date of Exercise of the Warrants resulting in the issuance of such shares, irrespective of the date of issuance or delivery of such certificate for Warrant Shares. Section 3.5. Certificates for Unexercised Warrants. In the event that ------------------------------------- fewer than all of the Warrants represented by a Warrant Certificate are exercised, the Company shall execute and mail, by first-class mail, within ten (10) days of the Date of Exercise, to the holder of such Warrant Certificate, or such other Person as shall be designated in the Election to Purchase, a new Warrant Certificate representing the number of Warrants not exercised. Section 3.6. Reservation of Warrant Shares. The Company shall at all ----------------------------- times reserve and keep available for issuance upon the exercise of Warrants a number of its authorized but unissued shares or treasury shares, or both, of Common Stock that will be sufficient to permit the exercise in full of all outstanding Warrants. Section 3.7. No Impairment. The Company shall not by any action, ------------- including, without limitation, amending its certificate of incorporation or through any reorganization, transfer of assets, consolidation, merger, dissolution, issue or sale of securities, stock split, stock dividend or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms of the Warrants, but will at all times in good faith assist in the carrying out of all such terms and in the taking of all such actions as may be necessary or appropriate to protect the rights of the Warrant holder against impairment. Without limiting the generality of the foregoing, the Company will (a) not increase the par value of any Warrant Shares receivable upon the exercise of the Warrants above the amount payable therefor upon such exercise immediately prior to such increase in par value, (b) take all such action as may be necessary or appropriate to assure that the par value of the Common Stock is at all times equal to or less than the Exercise Price (including without limitation approving and submitting to the stockholders of the Company for approval an amendment to the Company's Bylaws to reduce such par value), (c) take all such action as may be necessary or appropriate in order that the Company may validly and legally issue fully paid and non-assessable Warrant Shares upon the exercise of any Warrant, and (d) use its best efforts to obtain all such authorizations, exemptions or consents from any public regulatory body having jurisdiction thereof as may be necessary to enable the Company to perform its obligations under the Warrants. 6 ARTICLE IV ADJUSTMENTS, NOTICE PROVISIONS AND ISSUANCE ------------------------------------------- OF ADDITIONAL SECURITIES ------------------------ Section 4.1. Adjustment of Exercise Price. Subject to the provisions of ---------------------------- this Article IV, the Exercise Price in effect from time to time shall be subject to adjustment, as follows: (a) In case the Company shall (i) declare a dividend or make a distribution on the outstanding shares of Common Stock in shares of Common Stock or any class thereof, (ii) subdivide or reclassify the outstanding shares of Common Stock or any class thereof into a greater number of shares, or (iii) combine or reclassify the outstanding shares of its Common Stock into a smaller number of shares, the Exercise Price in effect immediately after the record date for such dividend or distribution or the effective date of such subdivision, combination or reclassification shall be adjusted so that it shall equal the price determined by multiplying the Exercise Price in effect immediately prior thereto by a fraction, of which the numerator shall be the number of shares of Common Stock outstanding immediately before such dividend, distribution, subdivision, combination or reclassification, and of which the denominator shall be the number of shares of Common Stock outstanding immediately after such dividend, distribution, subdivision, combination or reclassification. Such adjustment shall be made successively whenever any event specified above shall occur. (b) In case the Company shall fix a record date for the issuance of rights, options, warrants or convertible or exchangeable securities to all holders of its Common Stock entitling them (for a period expiring within forty- five (45) days after such record date) to subscribe for or purchase shares of its Common Stock at a price per share less than the Fair Market Value on such record date the Exercise Price shall be adjusted immediately thereafter so that it shall equal the price determined by multiplying the Exercise Price in effect immediately prior thereto by a fraction, of which the numerator shall be the number of shares of Common Stock outstanding on such record date plus the number of shares of Common Stock which the aggregate offering price of the total number of shares of Common Stock so offered would purchase at the Fair Market Value per share, and of which the denominator shall be the number of shares of Common Stock outstanding on such record date plus the number of additional shares of Common Stock offered for subscription or purchase. Such adjustment shall be made successively whenever such a record date is fixed. To the extent that any such rights, options, warrants or convertible or exchangeable securities are not so issued or expire unexercised, the Exercise Price then in effect shall be readjusted to the Exercise Price which would then be in effect if such unissued or unexercised rights, options, warrants or convertible or exchangeable securities had not been issuable. (c) In case the Company shall fix a record date for the making of a distribution to all holders of shares of Common Stock of (i) shares of any class other than Common Stock or (ii) evidences of its indebtedness or (iii) assets (excluding cash dividends or distributions (other than extraordinary cash dividends or distributions), and dividends or distributions referred to in Section 4.1(a) hereof) or (iv) rights, options, warrants or convertible or exchangeable securities (excluding those rights, options, warrants or convertible or exchangeable securities referred to in Section 4.1(b) hereof), then in each such case the Exercise 7 Price in effect immediately thereafter shall be determined by multiplying the Exercise Price in effect immediately prior thereto by a fraction, of which the numerator shall be the total number of shares of Common Stock outstanding on such record date multiplied by the Fair Market Value per share on such record date, less the aggregate fair market value as determined in good faith by the Board of Directors of the Company of said shares or evidences of indebtedness or assets or rights, options, warrants or convertible or exchangeable securities so distributed, and of which the denominator shall be the total number of shares of Common Stock outstanding on such record date multiplied by such Fair Market Value per share. Such adjustment shall be made successively whenever such a record date is fixed. In the event that such distribution is not so made, the Exercise Price then in effect shall be readjusted to the Exercise Price which would then be in effect if such record date had not been fixed. (d) For the purpose of any computation under Section 4.1(b) or 4.1(c) hereof, the "Fair Market Value" per share at any date (the "Computation Date") shall be as follows: (i) if the Common Stock is listed on a national securities exchange or quoted on a national quotation system, the Current Market Price, which shall be deemed to be the average of the Closing Prices of the Common Stock for the five (5) Trading Days immediately preceding the Computation Date; provided, however, that if there shall have occurred prior to the Computation - -------- ------- Date any event described in Section 4.1(a), 4.1(b) or 4.1(c) which shall have become effective with respect to market transactions at any time (the "Market- Effect Date") on or after the beginning of such 5-day period, the Closing Price for each Trading Day preceding the Market-Effect Date shall be adjusted, for purposes of calculating such average, by multiplying such Closing Price by a fraction the numerator of which is the Exercise Price as in effect immediately prior to the Computation Date and the denominator of which is the Exercise Price as in effect immediately prior to the Market-Effect Date, it being understood that the purpose of this proviso is to ensure that the effect of such event on the market price of the Common Stock shall, as nearly as possible, be eliminated in order that the distortion in the calculation of the Fair Market Value may be minimized and it being understood that if the Exercise Price may not be adjusted due to the provisions of Section 4.6, for purposes of the calculation above, the Exercise Price shall be deemed the Exercise Price as if it had been adjusted or (ii) there is no public market for Common Stock, the fair market value per share of Common Stock as determined in good faith by the Company's Board of Directors. Section 4.2. No Adjustments to Exercise Price. No adjustment in the -------------------------------- Exercise Price in accordance with the provisions of Section 4.1(a), 4.1(b) or 4.1(c) hereof need be made unless such adjustment would amount to a change of at least .5% in such Exercise Price of the Warrant Certificates; provided, however, -------- ------- that the amount by which any adjustment is not made by reason of the provisions of this Section 4.2 shall be carried forward and taken into account at the time of any subsequent adjustment in the Exercise Price. Section 4.3. Adjustment of Number of Shares. Upon each adjustment of the ------------------------------ Exercise Price pursuant to Section 4.1(a), 4.1(b) or 4.1(c) hereof, each Warrant shall thereupon evidence the right to purchase that number of Warrant Shares (calculated to the nearest hundredth of a share) obtained by multiplying the number of Warrant Shares purchasable immediately prior to such adjustment upon exercise of the Warrant by the Exercise Price in effect immediately prior to such adjustment and dividing the product so obtained by the Exercise Price in effect immediately after such adjustment. In the event that the Exercise Price may not be adjusted due 8 to the provisions of Section 4.6 hereof, the number of Warrant Shares purchasable upon the exercise of each Warrant shall be adjusted hereunder as if the Exercise Price had been so adjusted. Section 4.4. Reorganizations. In case of any capital reorganization, --------------- other than in the cases referred to in Section 4.1 hereof, or the consolidation or merger of the Company with or into another corporation (other than a merger or consolidation in which the Company is the continuing corporation and which does not result in any reclassification of the outstanding shares of Common Stock or the conversion of such outstanding shares of Common Stock into shares of other stock or other securities or property), or the sale or conveyance of the property of the Company as an entirety or substantially as an entirety (collectively such actions being hereinafter referred to as "Reorganizations"), there shall thereafter be deliverable upon exercise of any Warrant (in lieu of the number of Warrant Shares theretofore deliverable) the number of shares of stock or other securities or property to which a holder of the number of Warrant Shares which would otherwise have been deliverable upon the exercise of such Warrant would have been entitled upon such Reorganization if such Warrant was fully exercisable and had been exercised in full immediately prior to such Reorganization. In case of any Reorganization, appropriate adjustment, as determined in good faith by the Board of Directors of the Company, shall be made in the application of the provisions herein set forth with respect to the rights and interests of Warrant holders so that the provisions set forth herein shall thereafter be applicable, as nearly as possible, in relation to any shares or other property thereafter deliverable upon exercise of Warrants. Any such adjustment shall be made by and set forth in a supplemental agreement prepared by the Company or any successor thereto, between the Company, or any successor thereto, and shall for all purposes hereof conclusively be deemed to be an appropriate adjustment. The Company shall not effect any such Reorganization unless upon or prior to the consummation thereof the successor corporation, (or if the Company shall be the surviving corporation in any such Reorganization and is not the issuer of the shares of stock or other securities or property to be delivered to holders of shares of the Common Stock outstanding at the effective time thereof, then such issuer), shall assume by written instrument the obligation to deliver to the holder of any Warrant Certificate such shares of stock, securities, cash or other property as such holder shall be entitled to purchase in accordance with the foregoing provisions. Section 4.5. Verification of Computations. The Company shall, if ---------------------------- requested by a Holder of a majority of the outstanding Warrants, select a firm of independent public accountants, which selection may be changed from time to time, to verify each computation and/or adjustment made in accordance with this Article IV. The certificate, report or other written statement of any such firm shall be conclusive evidence of the correctness of any computation made under this Article IV. Promptly upon its receipt of such certificate, report or statement from such firm of independent public accountants, the Company shall deliver a copy thereof to each holder of Warrants. Section 4.6. Exercise Price Less Than Par Value. The Exercise Price shall ---------------------------------- not be adjusted below the par value per share of the Common Stock for the purpose of making any adjustment as may be required pursuant to this Article IV. 9 Section 4.7. Notice of Certain Actions. In the event the Company shall: ------------------------- (a) declare any dividend payable in stock to the holders of the Common Stock or make any other distribution in property other than cash to the holders of the Common Stock; (b) offer to the holders of the Common Stock rights to subscribe for or purchase any shares of any class of stock or any other rights or options; or (c) effect any reclassification of the Common Stock (other than a reclassification involving merely the subdivision or combination of outstanding shares of Common Stock) or any capital reorganization or any consolidation or merger (other than a merger in which no distribution of securities or other property is made to holders of Common Stock), or any sale, transfer or other disposition of its property, assets and business substantially as an entirety, or the liquidation, dissolution or winding up of the Company; then, in each such case, the Company shall mail notice of such proposed action to each holder of Warrants at least ten (10) days prior to such action. Such notice shall specify the date on which the books of the Company shall close, or a record be taken, for determining holders of Common Stock entitled to receive such stock dividend or other distribution or such rights or options, or the date on which such reclassification, reorganization, consolidation, merger, sale, transfer, other disposition, liquidation, dissolution, winding up or exchange shall take place or commence, as the case may be, and the date as of which it is expected that holders of record of Common Stock shall be entitled to receive securities or other property deliverable upon such action, if any such date has been fixed. Such notice shall be mailed in the case of any action covered by paragraph (a) or (b) of this Section 4.7, at least ten (10) days prior to the record date for determining holders of the Common Stock for purposes of receiving such payment or offer, and in the case of any action covered by paragraph (c) of this Section 4.7, at least ten (10) days prior to the earlier of the date upon which such action is to take place or any record date to determine holders of Common Stock entitled to receive such securities or other property. Section 4.8. Certificate of Adjustments. Whenever any adjustment is to be -------------------------- made pursuant to this Article IV, the Company shall prepare an Officers' Certificate setting forth such adjustment to be mailed to each transfer agent for the Common Stock and to each holder of a Warrant Certificate at least five (5) days prior thereto, such notice to include in reasonable detail (i) the events precipitating the adjustment, (ii) the computation of any adjustments, and (iii) the Exercise Price and the number of Warrant Shares or the securities or other property purchasable upon exercise of each Warrant after giving effect to such adjustment. Section 4.9. Warrant Certificate Amendments. Irrespective of any ------------------------------ adjustments pursuant to this Article IV, Warrant Certificates theretofore or thereafter issued need not be amended or replaced, but certificates thereafter issued shall bear an appropriate legend or other notice of any adjustments; provided the Company may, at its option, issue new Warrant Certificates evidencing Warrants in such form as may be approved by its Board of Directors to reflect any adjustment in the Exercise Price and number of Warrant Shares purchasable under the Warrant Certificates and deliver the same to the holders thereof in substitution for existing Warrant Certificates. 10 Section 4.10. Fractional Shares. The Company shall not be required upon ----------------- the exercise of any Warrant to issue fractional Warrant Shares which may result from adjustments in accordance with this Article IV to the Exercise Price or number of Warrant Shares purchasable under each Warrant or otherwise. If more than one Warrant is exercised at one time by the same holder, the number of full Warrant Shares which shall be deliverable shall be computed based on the number of shares deliverable in exchange for the aggregate number of Warrants exercised. With respect to any final fraction of a Warrant Share called for upon the exercise of any Warrant or Warrants, the Company shall pay a cash adjustment to the holders of the Warrants in respect of such final fraction in an amount equal to the same fraction of the Closing Price of a Warrant Share, as determined by the Company on the basis of the Closing Price per share of Common Stock on the business day next preceding the date of such exercise. The holder of each Warrant Certificate, by his acceptance of the Warrant Certificate, shall expressly waive any right to receive any fractional Warrant Share upon exercise of the Warrants. All calculations under this Section 4.10 shall be made to the nearest hundredth of a share. ARTICLE V SPLIT UP, COMBINATION, EXCHANGE, TRANSFER AND --------------------------------------------- CANCELLATION OF WARRANT CERTIFICATES ------------------------------------ Section 5.1. Split Up, Combination, Exchange and Transfer of Warrant ------------------------------------------------------- Certificates. Subject to Article II hereof, Warrant Certificates, subject to - ------------ the provisions of Section 5.2, may be split up, combined or exchanged for other Warrant Certificates of the same type representing a like aggregate number of Warrants or may be transferred in whole or in part. Any holder desiring to split up, combine or exchange a Warrant Certificate or Warrant Certificates shall make such request in writing delivered to the Company and shall surrender the Warrant Certificate or Warrant Certificates so to be split up, combined or exchanged. Upon any such surrender for split up, combination, exchange or transfer, the Company shall execute and deliver to the person entitled thereto a Warrant Certificate or Certificates, as the case may be, as so requested. Section 5.2. Cancellation of Warrant Certificates. Any Warrant ------------------------------------ Certificate surrendered upon the exercise of Warrants or for split up, combination, exchange or transfer, or purchased or otherwise acquired by the Company, shall be canceled and shall not be reissued by the Company; and, except as provided in Section 3.5 hereof in case of the exercise of less than all of the Warrants evidenced by a Warrant Certificate or in Section 5.1 in case of a split up, combination, exchange or transfer, no Warrant Certificate shall be issued hereunder in lieu of such cancelled Warrant Certificate. ARTICLE VI HOLDER REPRESENTATION AND WARRANTIES ------------------------------------ Section 6.1. Purchase for Investment. The Holder is (a) acquiring the ----------------------- Warrants and the Warrant Shares for Holder's own account and not with a view to the distribution thereof in violation of the securities laws of the United States or any state thereof, provided that the disposition of Holder's property shall at all times be within Holder's control, and (b) is an "accredited investor" as defined in Rule 501 (a) of Regulation D under the Securities Act and 11 able to evaluate the merits and risks of the investment. Holder understands that the Warrants and the Warrant Shares have not been registered under the Securities Act and may be resold only if registered pursuant to the provisions of the Securities Act or in an exemption from registration is available, except under circumstances where neither such registration nor such an exemption is required by law. ARTICLE VII MISCELLANEOUS ------------- Section 7.1. Changes to Agreement. The Company, when authorized by its -------------------- Board of Directors, may amend or supplement this Agreement with the written consent of the Holder or Holders of a majority of the outstanding Warrants. Section 7.2. Assignment. All the covenants and provisions of this ---------- Agreement by or for the benefit of the Company shall bind and inure to the benefit of their respective successors and assigns. Section 7.3. Successor to Company. The Company will not merge or -------------------- consolidate with or into any other corporation or sell or otherwise transfer its property, assets and business substantially as an entirety to a successor corporation, unless the corporation resulting from such merger, consolidation, sale or transfer (if not the Company) shall expressly assume, by supplemental agreement satisfactory in form and substance to the Holders and delivered to the Holders, the due and punctual performance and observance of each and every covenant and condition of this Agreement to be performed and observed by the Company. Section 7.4. Notices. All notices and other communications provided for ------- or permitted hereunder shall be in writing and shall be deemed to have been duly given if delivered personally or sent by facsimile or overnight courier, addressed as follows: If to the Company, to: Pacific Aerospace & Electronics, Inc. 430 Olds Station Road Wenatchee, WA 98801 Attn: President Fax: (509) 667-9696 With copies to: Pacific Aerospace & Electronics, Inc. 110 Main Street, Suite 100 Edmonds, WA 98020 Attn: General Counsel Fax: (425) 774-0103 12 Milbank, Tweed, Hadley & McCloy LLP 601 South Figueroa Street, 30th Floor Los Angeles, CA 90017 Attn: Kenneth J. Baronsky, Esq. Fax: (213) 629-5063 If to the Holder, if addressed to such Holder at the address set forth on the signature page hereto. Failure to file any certificate or notice or to mail any notice, or any defect in any certificate or notice pursuant to this Agreement shall not affect in any way the rights of any holder of a Warrant Certificate or the legality or validity of any adjustment made pursuant to Section 4.1 hereof, or any transaction giving rise to any such adjustment, or the legality or validity of any action taken or to be taken by the Company. Section 7.5. Governing Law. This Agreement and each Warrant Certificate ------------- issued hereunder shall be governed by the laws of the State of New York without regard to principles of conflicts of laws thereof. Section 7.6. Standing. Nothing in this Agreement expressed and nothing -------- that may be implied from any of the provisions hereof is intended, or shall be construed, to confer upon, or give to, any person or corporation other than the Company and the Holder of the Warrant Certificates any right, remedy or claim under or by reason of this Agreement or of any covenant, condition, stipulation, promise or agreement contained herein; and all covenants, conditions, stipulations, promises and agreements contained in this Agreement shall be for the sole and exclusive benefit of the Company and their successors, and the Holder of the Warrant Certificates. Section 7.7. Headings. The descriptive headings of the articles and -------- sections of this Agreement are inserted for convenience only and shall not control or affect the meaning or construction of any of the provisions hereof. Section 7.8. Counterparts. This Agreement may be executed in any number ------------ of counterparts, each of which so executed shall be deemed to be an original; but such counterparts shall together constitute but one and the same instrument. Section 7.9. Availability of the Agreement. The Company shall keep copies ----------------------------- of this Agreement available for inspection by holders of Warrants during normal business hours. Copies of this Agreement may be obtained upon written request addressed to the Company at the address set forth in Section 7.4 hereof. Section 7.10. Entire Agreement. This Agreement, including the Exhibits ---------------- referred to herein and the other writings specifically identified herein or contemplated hereby, is complete, reflects the entire agreement of the parties with respect to its subject matter, and supersedes all previous written or oral negotiations, commitments and writings. Section 7.11. Rights of Warrant Holders. No Warrant Certificate shall ------------------------- entitle the holder thereof to any of the rights of a stockholder of the Company, including, without limitation, the 13 right to vote, to receive dividends and other distributions, to receive any notice of, or to attend, meetings of stockholders or any other proceedings of the Company. IN WITNESS WHEREOF, this Warrant Agreement has been duly executed by the parties as of the day and year first above written. PACIFIC AEROSPACE & ELECTRONICS, INC., a Washington corporation By: /s/ Donald A. Wright ----------------------- Name: Donald A. Wright Title: President and Chief Executive Officer HOLDER: FIRST ALBANY CORPORATION By: /s/ Frank Lunn ---------------- Name: Frank Lunn Title: Senior Vice President Notice Address: - -------------- First Albany Corporation FAC/Equities One Penn Plaza, 42nd Floor New York, NY 10119-4000 Attn: Frank P. Lunn III Phone: (212) 273-7140 Fax: (212) 273-7320 14 EXHIBIT A --------- Form of ------- Warrant Certificate ------------------- NEITHER THE ISSUANCE OF THE SECURITIES REPRESENTED BY THIS CERTIFICATE NOR THE ISSUANCE OF ANY SECURITIES ISSUABLE UPON EXERCISE HEREOF HAS BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT") OR PURSUANT TO THE SECURITIES LAWS OF ANY STATE, AND SUCH SECURITIES MAY NOT BE SOLD OR TRANSFERRED EXCEPT PURSUANT TO (i) A REGISTRATION STATEMENT IN EFFECT WITH RESPECT TO SUCH SECURITIES UNDER THE SECURITIES ACT AND THE RULES AND REGULATIONS THEREUNDER OR (ii) AN EXEMPTION FROM THE REGISTRATION REQUIREMENTS OF THE SECURITIES ACT AND ANY APPLICABLE STATE SECURITIES LAWS. No. FAC- _______ April 9, 2001 Certificate for _________Shares NOT EXERCISABLE AFTER 5:00 P.M., New York TIME, ON April 9, 2006 PACIFIC AEROSPACE & ELECTRONICS, INC. COMMON STOCK PURCHASE WARRANT CERTIFICATE THIS CERTIFIES that _____________________ or its assigns is the holder of this Warrant which represents the right to purchase [____________] fully paid and non-assessable shares of Common Stock, par value $.001 per share (the "Common Stock"), of Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), at an initial exercise price (the "Exercise Price") equal to $.4062 per share, at the times provided in the Warrant Agreement (as hereinafter defined), by surrendering this Warrant Certificate, with the Election to Purchase attached hereto duly executed and by paying in full the Exercise Price. Payment of the Exercise Price may be made at the option of the holder hereof by (i) cash, certified check or a wire transfer in same day funds in an amount equal to the then applicable Exercise Price multiplied by the number of Warrant Shares then being purchased, (ii) delivery to the Company of that number of shares of Common Stock, duly endorsed, having an aggregate Fair Market Value equal to the then applicable Exercise Price multiplied by the number of Warrant Shares then being purchased or (iii) by any combination of (i) and (ii). In the alternative, the holder of a Warrant Certificate may exercise its right to purchase some or all of the Warrant Shares subject to such Warrant Certificate, on a net basis, such that, without the exchange of any funds, such holder receives that number of Warrant Shares subscribed to pursuant to such Warrant Certificate less that number of shares of Common Stock having an aggregate Fair Market Value at the Date of Exercise equal to the aggregate Exercise Price that would otherwise have been paid by such holder for the number of Warrant Shares subscribed to pursuant to such Warrant Certificate. No Warrant may be exercised after 5:00 P.M., New York time, on April 9, 2006, (the "Expiration Date"). All Warrants evidenced hereby shall thereafter become void, subject to the terms of the Warrant Agreement. Prior to the Expiration Date, subject to any applicable laws, rules or regulations restricting transferability and to any restriction on transferability that may appear on this Warrant Certificate and in accordance with the terms of the Warrant Agreement, the holder shall be entitled to transfer this Warrant Certificate, in whole or in part, upon surrender of this Warrant Certificate to the Company with the Assignment on the reverse hereof. Upon any such transfer, a new Warrant Certificate or Warrant Certificates representing the same aggregate number of Warrants will be issued in accordance with instructions in the form of assignment. Upon the exercise of less than all of the Warrants evidenced by this Warrant Certificate, there shall be issued to the holder a new Warrant Certificate in respect of the Warrants not exercised. Prior to the Expiration Date, the holder shall be entitled to exchange this Warrant Certificate, with or without other Warrant Certificates, for another Warrant Certificate or Warrant Certificates for the same aggregate number of Warrants, upon surrender of this Warrant Certificate to the Company as set forth in the Warrant Agreement. Upon certain events provided for in the Warrant Agreement, the Exercise Price and the number of shares of Common Stock issuable upon the exercise of each Warrant are required to be adjusted. No fractional shares will be issued upon the exercise of Warrants. As to any final fraction of a share which the holder of one or more Warrant Certificates, the rights under which are exercised in the same transaction, would otherwise be entitled to purchase upon such exercise, the Company shall pay the cash value thereof determined as provided in the Warrant Agreement. This Warrant Certificate is issued under and in accordance with the Warrant Agreement dated as of April 9, 2001 between the Company and the holder and is subject to the terms and provisions contained in said Warrant Agreement, to all of which terms and provisions the holder consents by acceptance hereof. All capitalized terms not defined herein shall have the meaning set forth in the Warrant Agreement. This Warrant Certificate shall not entitle the holder to any of the rights of a stockholder of the Company, including, without limitation, the right to vote, to receive dividends and other distributions, or to attend or receive any notice of meetings of stockholders or any other proceedings of the Company. IN WITNESS WHEREOF, the Company has caused this Warrant Certificate to be duly executed under its facsimile Corporate Seal. PACIFIC AEROSPACE & ELECTRONICS, INC. By: ___________________________ Name: Donald A. Wright Title: President and Chief Financial Officer Attest: By: ___________________________ Name: Sheryl A. Symonds Title: Secretary Form of Election To Purchase ---------------------------- The undersigned hereby irrevocably elects to exercise this Warrant with respect to [________________] shares of Common Stock represented by this Warrant Certificate and to purchase such shares of Common Stock issuable upon the exercise of said Warrant, and requests that Certificates for such shares be issued and delivered as follows: ISSUE TO: _____________________________________________________________________ (NAME) ________________________________________________________________________________ (ADDRESS, INCLUDING ZIP CODE) ________________________________________________________________________________ (SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER) DELIVER TO: ___________________________________________________________________ (NAME) at ____________________________________________________________________________ (ADDRESS, INCLUDING ZIP CODE) If the number of shares hereby purchased is less than all the shares represented by this Warrant Certificate, the undersigned requests that a new Warrant Certificate representing the number of full shares not exercised be issued and delivered as set forth above. In full payment of the exercise price with respect to the shares purchased and transfer taxes, if any, the undersigned hereby tenders payment of $______ by (i) $_______ in cash, certified check or wire transfer in same day funds, (ii) surrender to the Company of certificate no(s) ____________ representing ______ shares of Common Stock, (iii) a combination of (i) an (ii) or (iv) purchasing the shares on a net basis such that the number of shares of Common Stock otherwise receivable by the holder pursuant to the Warrants exercised shall be reduced by the number of shares of Common Stock having an aggregate Fair Market Value equal to the exercise price with respect to the number of shares purchased. Date:_________________, _____ __________________________________________ Signature (Signature must conform in all respects to name of holder as specified on the face of the Warrant Certificate.) PLEASE INSERT SOCIAL SECURITY OR TAX I.D. NUMBER OF HOLDER __________________________________________ Assignment ---------- FOR VALUE RECEIVED, the undersigned hereby irrevocably sells, assigns and transfers unto the Assignee named below all of the rights of the undersigned represented by the within Warrant Certificate, with respect to the number of shares set forth below: Name of Assignee Address No. of Shares ---------------- ------- ------------- and does hereby irrevocably constitute and appoint ____________________________ ______________________________, Attorney, to make such transfer on the books of Pacific Aerospace & Electronics, Inc. maintained for that purpose, with full power of substitution in the premises. Date:_________________, _____ _________________________________________ Signature EX-4.48 6 dex448.txt WARRANT CERTIFICATE, DATED APRIL 9, 2001 EXHIBIT 4.48 Warrant Certificate NEITHER THE ISSUANCE OF THE SECURITIES REPRESENTED BY THIS CERTIFICATE NOR THE ISSUANCE OF ANY SECURITIES ISSUABLE UPON EXERCISE HEREOF HAS BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT") OR PURSUANT TO THE SECURITIES LAWS OF ANY STATE, AND SUCH SECURITIES MAY NOT BE SOLD OR TRANSFERRED EXCEPT PURSUANT TO (i) A REGISTRATION STATEMENT IN EFFECT WITH RESPECT TO SUCH SECURITIES UNDER THE SECURITIES ACT AND THE RULES AND REGULATIONS THEREUNDER OR (ii) AN EXEMPTION FROM THE REGISTRATION REQUIREMENTS OF THE SECURITIES ACT AND ANY APPLICABLE STATE SECURITIES LAWS. No. FAC-1 April 9, 2001 Certificate for 692,074 Shares NOT EXERCISABLE AFTER 5:00 P.M., NEW YORK TIME, ON APRIL 9, 2006 PACIFIC AEROSPACE & ELECTRONICS, INC. COMMON STOCK PURCHASE WARRANT CERTIFICATE THIS CERTIFIES that First Albany Corporation or its assigns is the holder of this Warrant which represents the right to purchase 692,074 fully paid and non-assessable shares of Common Stock, par value $.001 per share (the "Common Stock"), of Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), at an initial exercise price (the "Exercise Price") equal to $.4062 per share, at the times provided in the Warrant Agreement (as hereinafter defined), by surrendering this Warrant Certificate, with the Election to Purchase attached hereto duly executed and by paying in full the Exercise Price. Payment of the Exercise Price may be made at the option of the holder hereof by (i) cash, certified check or a wire transfer in same day funds in an amount equal to the then applicable Exercise Price multiplied by the number of Warrant Shares then being purchased, (ii) delivery to the Company of that number of shares of Common Stock, duly endorsed, having an aggregate Fair Market Value equal to the then applicable Exercise Price multiplied by the number of Warrant Shares then being purchased or (iii) by any combination of (i) and (ii). In the alternative, the holder of a Warrant Certificate may exercise its right to purchase some or all of the Warrant Shares subject to such Warrant Certificate, on a net basis, such that, without the exchange of any funds, such holder receives that number of Warrant Shares subscribed to pursuant to such Warrant Certificate less that number of shares of Common Stock having an aggregate Fair Market Value at the Date of Exercise equal to the aggregate Exercise Price that would otherwise have been paid by such holder for the number of Warrant Shares subscribed to pursuant to such Warrant Certificate. No Warrant may be exercised after 5:00 P.M., New York time, on April 9, 2006, (the "Expiration Date"). All Warrants evidenced hereby shall thereafter become void, subject to the terms of the Warrant Agreement. Prior to the Expiration Date, subject to any applicable laws, rules or regulations restricting transferability and to any restriction on transferability that may appear on this Warrant Certificate and in accordance with the terms of the Warrant Agreement, the holder shall be entitled to transfer this Warrant Certificate, in whole or in part, upon surrender of this Warrant Certificate to the Company with the Assignment on the reverse hereof. Upon any such transfer, a new Warrant Certificate or Warrant Certificates representing the same aggregate number of Warrants will be issued in accordance with instructions in the form of assignment. Upon the exercise of less than all of the Warrants evidenced by this Warrant Certificate, there shall be issued to the holder a new Warrant Certificate in respect of the Warrants not exercised. Prior to the Expiration Date, the holder shall be entitled to exchange this Warrant Certificate, with or without other Warrant Certificates, for another Warrant Certificate or Warrant Certificates for the same aggregate number of Warrants, upon surrender of this Warrant Certificate to the Company as set forth in the Warrant Agreement. Upon certain events provided for in the Warrant Agreement, the Exercise Price and the number of shares of Common Stock issuable upon the exercise of each Warrant are required to be adjusted. No fractional shares will be issued upon the exercise of Warrants. As to any final fraction of a share which the holder of one or more Warrant Certificates, the rights under which are exercised in the same transaction, would otherwise be entitled to purchase upon such exercise, the Company shall pay the cash value thereof determined as provided in the Warrant Agreement. This Warrant Certificate is issued under and in accordance with the Warrant Agreement dated as of April 9, 2001 between the Company and the holder and is subject to the terms and provisions contained in said Warrant Agreement, to all of which terms and provisions the holder consents by acceptance hereof. All capitalized terms not defined herein shall have the meaning set forth in the Warrant Agreement. This Warrant Certificate shall not entitle the holder to any of the rights of a stockholder of the Company, including, without limitation, the right to vote, to receive dividends and other distributions, or to attend or receive any notice of meetings of stockholders or any other proceedings of the Company. IN WITNESS WHEREOF, the Company has caused this Warrant Certificate to be duly executed under its facsimile Corporate Seal. PACIFIC AEROSPACE & ELECTRONICS, INC. By: /s/ Donald A. Wright -------------------- Name: Donald A. Wright Title: President and Chief Financial Officer Attest: By: /s/ Sheryl A. Symonds --------------------- Name: Sheryl A. Symonds Title: Secretary Form of Election To Purchase The undersigned hereby irrevocably elects to exercise this Warrant with respect to [________________] shares of Common Stock represented by this Warrant Certificate and to purchase such shares of Common Stock issuable upon the exercise of said Warrant, and requests that Certificates for such shares be issued and delivered as follows: ISSUE TO: ____________________________________________________________________ (NAME) ________________________________________________________________________________ (ADDRESS, INCLUDING ZIP CODE) ________________________________________________________________________________ (SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER) DELIVER TO: ___________________________________________________________________ (NAME) at ____________________________________________________________________________ (ADDRESS, INCLUDING ZIP CODE) If the number of shares hereby purchased is less than all the shares represented by this Warrant Certificate, the undersigned requests that a new Warrant Certificate representing the number of full shares not exercised be issued and delivered as set forth above. In full payment of the exercise price with respect to the shares purchased and transfer taxes, if any, the undersigned hereby tenders payment of $______ by (i) $_______ in cash, certified check or wire transfer in same day funds, (ii) surrender to the Company of certificate no(s) ____________ representing ______ shares of Common Stock, (iii) a combination of (i) an (ii) or (iv) purchasing the shares on a net basis such that the number of shares of Common Stock otherwise receivable by the holder pursuant to the Warrants exercised shall be reduced by the number of shares of Common Stock having an aggregate Fair Market Value equal to the exercise price with respect to the number of shares purchased. Date:_________________, _____ __________________________________________ Signature (Signature must conform in all respects to name of holder as specified on the face of the Warrant Certificate.) PLEASE INSERT SOCIAL SECURITY OR TAX I.D. NUMBER OF HOLDER __________________________________________ Assignment FOR VALUE RECEIVED, the undersigned hereby irrevocably sells, assigns and transfers unto the Assignee named below all of the rights of the undersigned represented by the within Warrant Certificate, with respect to the number of shares set forth below: Name of Assignee Address No. of Shares ---------------- ------- ------------- and does hereby irrevocably constitute and appoint ____________________________ ______________________________, Attorney, to make such transfer on the books of Pacific Aerospace & Electronics, Inc. maintained for that purpose, with full power of substitution in the premises. Date:_________________, _____ ________________________________________ Signature EX-10.8 7 dex108.txt AMEND. NO. 2 TO AGREEMENT WITH DONALD A. WRIGHT EXHIBIT 10.8 AMENDMENT NO. 2 TO EMPLOYMENT AGREEMENT --------------------------------------- This is Amendment No. 2, dated June 1, 2001 (the "Amendment), to the Employment Agreement made as of June 1, 1997 and amended by Amendment No. 1 to Employment Agreement on January 29, 1999 (as so amended, the "Agreement"), by and between Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), and Donald A. Wright (the "Executive"). Capitalized terms not otherwise defined in this Amendment shall have the meanings set forth in the Agreement. WHEREAS, the Executive provides services to the Company as President and Chief Executive Officer pursuant to the Agreement; WHEREAS, the Agreement provides for an increase in the Executive's Annual Salary for the Contract Year beginning on June 1, 2001 and ending on May 31, 2002, of 15% over the previous Contract Year's Annual Salary, which increase would be equal to $50,371; WHEREAS, the Compensation Committee and the Option Committee of the Company's Board of Directors have determined that it would be in the best interests of the Company to request that the Executive forego $50,000 of his Annual Salary increase for the Contract Year ending May 31, 2002 (the "2002 Contract Year"), and that he receive, in lieu of such increase, a grant of restricted stock under the Company's 1999 Stock Incentive Plan (the "Plan"); and WHEREAS, the Executive has agreed to this arrangement, subject to the terms and conditions of this Amendment. The parties agree as follows: 1. Amendment to Salary for 2002 Contract Year. The Agreement is hereby ------------------------------------------ amended to provide that the Executive's cash salary increase for the 2002 Contract Year will be $371, and that in lieu of $50,000 of his contractual salary increase for the 2002 Contract Year, the Executive will receive, as of June 1, 2001, a grant of 238,095 shares of the Company's Common Stock (the "Shares"), which shares may not be transferred by the Executive prior to June 1, 2002, except in compliance with applicable securities laws. The certificate representing the Shares will bear a legend to the effect that the Shares are subject to restrictions on transfer. For purposes of determining future salary increases only, the Executive's Annual Salary for the 2002 Contract Year will be calculated as if the contractual salary increase had been paid in cash. 2. Previous Amendments. The parties acknowledge that the following amendments ------------------- to the Agreement have previously been made by the Compensation Committee and agreed to by the Executive, but have not previously been provided for in a written amendment to the Agreement: a. Term of Agreement. On May 28, 1998, the Compensation Committee ----------------- extended the term of the Agreement to May 31, 2003. b. Annual Salary. On May 28, 1998, the Compensation Committee increased ------------- the Executive's Annual Salary for the Contract Year ended May 31, 1999 to $253,920, on an annualized basis, effective July 30, 1998. On May 10, 2000, the Compensation Committee amended the Agreement to provide for a 15% annual increase in the Executive's Annual Salary for the Contract Years ending May 31, 2001 through May 31, 2003. c. Options. On May 13, 1999, the Compensation Committee amended Section ------- 3.3 of the Agreement as follow: (i) Section 3.3.1 was amended to provide for 50,000 Fixed Options annually; and (ii) Section 3.3.2 was amended to delete the provisions regarding Formula Options and replace Section 3.3.2 with the following language: 3.3.2 Annually. The Executive may be entitled to receive, after the -------- completion of each Contract Year, a bonus in the form of options to purchase up to 225,000 shares of Common Stock, based on the performance of the Executive, as determined by the Board of Directors or the Compensation Committee. 3. No Further Amendments. Except as specifically set forth in this Amendment, --------------------- the Agreement shall continue in effect in accordance with its terms. THE COMPANY: PACIFIC AEROSPACE & ELECTRONICS, INC. By /s/ Sheryl A. Symonds --------------------- Its VP Administration & General Counsel THE EXECUTIVE: /s/ Donald A. Wright --------------------- Donald A. Wright EX-10.10 8 dex1010.txt AMEND. NO. 1 TO AGREEMENT WITH WERNER HAFELFINGER EXHIBIT 10.10 AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT --------------------------------------- This is Amendment No. 1, dated June 1, 2001 (the "Amendment), to the Employment Agreement made as of March 1, 1999 (the "Agreement"), by and between Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), and Werner Hafelfinger (the "Executive"). Capitalized terms not otherwise defined in this Amendment shall have the meanings set forth in the Agreement. WHEREAS, the Executive provides services to the Company as Vice President Operations and Chief Operating Officer pursuant to the Agreement; WHEREAS, the Agreement provides for an increase in the Executive's Annual Salary for the Contract Year beginning on June 1, 2001 and ending on May 31, 2002, of $10,000 over the previous Contract Year's Annual Salary; WHEREAS, the Compensation Committee and the Option Committee of the Company's Board of Directors have determined that it would be in the best interests of the Company to request that the Executive forego his Annual Salary increase for the Contract Year ending May 31, 2002 (the "2002 Contract Year"), and that he receive, in lieu of such increase, a grant of restricted stock under the Company's 1999 Stock Incentive Plan (the "Plan"); and WHEREAS, the Executive has agreed to this arrangement, subject to the terms and conditions of this Amendment. The parties agree as follows: 1. Amendment to Salary for 2002 Contract Year. The Agreement is hereby ------------------------------------------ amended to provide that the Executive will receive no cash salary increase for the 2002 Contract Year, and that in lieu of his $10,000 contractual salary increase for the 2002 Contract Year, the Executive will receive, as of June 1, 2001, a grant of 47,619 shares of the Company's Common Stock (the "Shares"), which shares may not be transferred by the Executive prior to June 1, 2002, except in compliance with applicable securities laws. The certificate representing the Shares will bear a legend to the effect that the Shares are subject to restrictions on transfer. For purposes of determining future salary increases only, the Executive's Annual Salary for the 2002 Contract Year will be calculated as if the contractual salary increase had been paid in cash. 2. Previous Amendments. The parties acknowledge that the following amendments ------------------- to the Agreement have previously been made by the Compensation Committee and agreed to by the Executive, but have not previously been provided for in a written amendment to the Agreement: a. Annual Salary. On May 10, 2000, the Compensation Committee increased ------------- the Executive's Annual Salary for the Contract Year ended May 31, 2001 to $200,000. b. Options. On May 13, 1999, the Compensation Committee amended Sections ------- 3.3 of the Agreement as follow: (i) Sections 3.3.2 and 3.3.3 were renumbered as 3.3.3 and 3.3.4; (ii) the newly renumbered Section 3.3.3 was amended to read as follows: 3.3.3 Annually. At the sole discretion of the Board, or a committee -------- of the Board, the Executive may be entitled to receive, after completion of each full Contract Year, a bonus in the form of options to purchase up to 25,000 shares of Common Stock (the Annual Option Bonus"), based on the performance of the Executive and the Company during the Contract Year just ended. and (iii) a new Section 3.3.2 was added as follows: 3.3.2 Fixed Options. Beginning with the fiscal year ending May 31, ------------- 1999, and immediately after each subsequent fiscal year end during the Contract Term, the Executive shall be entitled to receive fully vested options to purchase 25,000 shares of Common Stock per Contract Year. 3. No Further Amendments. Except as specifically set forth in this Amendment, --------------------- the Agreement shall continue in effect in accordance with its terms. THE COMPANY: PACIFIC AEROSPACE & ELECTRONICS, INC. By Donald A. Wright ---------------- Its President & CEO THE EXECUTIVE: /s/ Werner Hafelfinger ---------------------- Werner Hafelfinger EX-10.12 9 dex1012.txt AMEND. NO. 1 TO AGREEMENT WITH NICK A. GERDE EXHIBIT 10.12 AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT --------------------------------------- This is Amendment No. 1, dated June 1, 2001 (the "Amendment), to the Employment Agreement made as of June 1, 1997 (the "Agreement"), by and between Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), and Nick A. Gerde (the "Executive"). Capitalized terms not otherwise defined in this Amendment shall have the meanings set forth in the Agreement. WHEREAS, the Executive provides services to the Company as Vice President Finance and Chief Financial Officer pursuant to the Agreement; WHEREAS, the Agreement provides for an increase in the Executive's Annual Salary for the Contract Year beginning on June 1, 2001 and ending on May 31, 2002, of $10,000 over the previous Contract Year's Annual Salary; WHEREAS, the Compensation Committee and the Option Committee of the Company's Board of Directors have determined that it would be in the best interests of the Company to request that the Executive forego his Annual Salary increase for the Contract Year ending May 31, 2002 (the "2002 Contract Year"), and that he receive, in lieu of such increase, a grant of restricted stock under the Company's 1999 Stock Incentive Plan (the "Plan"); and WHEREAS, the Executive has agreed to this arrangement, subject to the terms and conditions of this Amendment. The parties agree as follows: 1. Amendment to Salary for 2002 Contract Year. The Agreement is hereby ------------------------------------------ amended to provide that the Executive will receive no cash salary increase for the 2002 Contract Year, and that in lieu of his $10,000 contractual salary increase for the 2002 Contract Year, the Executive will receive, as of June 1, 2001, a grant of 47,619 shares of the Company's Common Stock (the "Shares"), which shares may not be transferred by the Executive prior to June 1, 2002, except in compliance with applicable securities laws. The certificate representing the Shares will bear a legend to the effect that the Shares are subject to restrictions on transfer. For purposes of determining future salary increases only, the Executive's Annual Salary for the 2002 Contract Year will be calculated as if the contractual salary increase had been paid in cash. 2. Previous Amendments. The parties acknowledge that the following amendments ------------------- to the Agreement have previously been made by the Compensation Committee and agreed to by the Executive, but have not previously been provided for in a written amendment to the Agreement: a. Term of Agreement. On May 13, 1999, the Compensation Committee ----------------- extended the term of the Agreement to May 31, 2002. b. Annual Salary. On May 28, 1998, the Compensation Committee increased ------------- the Executive's Annual Salary for the Contract Year ended May 31, 1999 to $130,000 and increased the Executive's Annual Salary for the Contract Year ended May 31, 2000 to $140,000. On May 13, 1999, the Compensation Committee amended the Agreement to set the Executive's Annual Salary for the Contract Years ending May 31, 2001 and May 31, 2002 at $150,000 and $160,000, respectively. c. Options. On May 13, 1999, the Compensation Committee amended Section ------- 3.3 of the Agreement as follow: (i) Sections 3.3.2 and 3.3.3 were renumbered as 3.3.3 and 3.3.4; and (ii) a new Section 3.3.2 was added as follows: 3.3.2 Fixed Options. Beginning with the fiscal year ending May 31, ------------- 1999, and immediately after each subsequent fiscal year end during the Contract Term, the Executive shall be entitled to receive fully vested options to purchase 25,000 shares of Common Stock per Contract Year. d. Severance Payments and Benefits. On May 13, 1999, the Compensation ------------------------------- Committee amended the first sentence of Section 5.2 of the Agreement to delete the words "one half" and replace them with the words "one times". On May 13, 1999, the Compensation Committee also amended the first sentence of Section 5.3 to delete the words "six months" and replace them with the words "one year". e. Termination without Cause. On May 13, 1999, the Compensation Committee ------------------------- amended the second sentence of Section 7.3 of the Agreement to delete the words "one-half" and replace them with the words "one times". On May 13, 1999, the Compensation Committee also amended the third and last sentences of Section 7.3 to delete the words "six months" and replace them with the words "one year". 3. No Further Amendments. Except as specifically set forth in this Amendment, --------------------- the Agreement shall continue in effect in accordance with its terms. THE COMPANY: PACIFIC AEROSPACE & ELECTRONICS, INC. By /s/ Donald A. Wright -------------------- Its President & CEO THE EXECUTIVE: /s/ Nick A. Gerde ----------------- Nick A. Gerde EX-10.13 10 dex1013.txt SEPARATION LETTER TO NICK A. GERDE EXHIBIT 10.13 Pacific Aerospace & Electronics, Inc. 430 Olds Station Road Wenatchee, Washington 98801 August 15, 2001 Nick A. Gerde 1906 Rocklund Drive Wenatchee, WA 98801 Dear Nick: This letter is to notify you that your employment with Pacific Aerospace & Electronics, Inc. is being terminated, effective immediately, in accordance with your Employment Agreement dated June 1, 1997, as amended. I appreciate your agreement to continue to provide services to the Company at no cost from time to time at my request through September 21, 2001. In accordance with your employment agreement, you will receive, as severance pay, twelve months of your annual salary, as now in effect. This amounts to $150,000, which will be paid in accordance with the Company's normal payroll practices, including deductions, withholdings, and collections required by law, in installments on regular payroll days over the next twelve months. PA&E will also maintain your health, dental and vision insurance at PA&E's current contribution level for twelve months. If you become covered by another employer's plan, you must promptly notify us, and this benefit will cease. Your employment agreement states that the foregoing amounts, plus compensation payable through your last date of employment, constitute PA&E's sole obligation to pay you in connection with the termination of your employment. If you have any outstanding reimbursable business expenses, please submit an expense report to me for approval prior to August 17, 2001. Your outstanding stock options and non-public warrants are summarized on an attachment to this letter and will remain in effect, subject to the terms of the applicable option agreements, warrant agreement, and plans. In accordance with Section 6.1.4 of your employment agreement, please immediately return to me all information and physical property made or compiled by you during your employment with the Company that contains or relates to "Protected Information." Protected Information is defined in Section 6.1.5 of your employment agreement and includes all trade secrets and all confidential, proprietary, and nonpublic information of the Company and any of its subsidiaries. Please review Section 6.1.5 of your employment agreement for a more complete Nick A. Gerde August 15, 2001 Page 2 description of the covered materials. These materials should be delivered to me immediately, along with your company vehicle, building and car keys, security badge, credit cards, computer equipment and software, and any other property in your possession or control that belongs to the Company. In accordance with Section 6.1.1 of your employment agreement, you may not, at any time, either now or in the future, directly or indirectly, disclose or use any Protected Information or cause any Protected Information to become public. You are also reminded that Section 6.3 of your employment agreement restricts your ability to hire employees of the Company or any of its subsidiaries, or to otherwise interfere with any employment relationships. Subject to your execution of the attached waiver and release, the Company hereby offers to waive Section 6.2 of your employment agreement, which is your covenant not to compete. If This portion of your severance package is optional and, if you do not accept it, your covenant not to compete will be in effect until August 15, 2002. In accordance with the Older Worker's Benefits Act, you have 21 days from the date you receive this letter to consider the Company's offer and sign the attached waiver and release. By signing below, you acknowledge that you received this letter and the attached waiver and release on the receipt date indicated below. If you accept the optional portion of the severance package, please indicate your acceptance by signing the attached waiver and release and returning it to me within the 21-day period. You will then have a period of seven days from the date immediately following the date of your execution of the waiver and release in which you may revoke, at your sole discretion, your acceptance of the optional portion of the severance package and the waiver and release. Notice of revocation must be made by you in writing, addressed to me at PA&E. If you do not exercise your right to revoke the waiver and release and severance package, your release from your covenant not to compete will become effective automatically on the date immediately following the end of the seven-day revocation period. The optional portion of your severance package proposed in this letter is for the purpose of insuring an amicable separation and resolving any and all potential disputes, claims or differences between you and PA&E. It is not to be construed as an admission of any kind by either you or PA&E. You have the right to consult with an attorney concerning this severance option. In accordance with company policy, we will only confirm your dates of employment and your position with the Company to prospective future employers. You agree not to make any derogatory or disparaging statements, either written or verbal, to any third party regarding PA&E or any of its affiliates, including any of its officers, directors, employees, or agents. PA&E agrees to allow you to have input on any formal internal and/or external announcements of your departure from PA&E. In the event that the Company requests your services in the future, the Company will reimburse you for reasonable out-of-pocket expenses that you incur in connection with those services. Furthermore, after August 15, 2002, if the Company requests your services, the Company will pay you a reasonable hourly rate for those services. If you are employed at the Nick A. Gerde August 15, 2001 Page 3 time, the hourly rate will be your then current hourly rate. If you are not employed at the time, the hourly rate will be your last hourly rate with the Company. Thank you for your assistance over the past seven years. I wish you the best of luck in your future endeavors. Very truly yours, /s/ Donald A. Wright Donald A. Wright Offer Received: August 15, 2001 /s/ Nick A. Gerde - ------------------ Nick A. Gerde Offer Accepted: August 17, 2001. /s/ Nick A. Gerde - ----------------- Nick A. Gerde EX-10.14 11 dex1014.txt WAIVER AND RELEASE DATED AUGUST 17, 2001 EXHIBIT 10.14 WAIVER AND RELEASE ------------------ This Waiver and Release is made and executed by Nick A. Gerde in connection with my separation from employment with Pacific Aerospace & Electronics, Inc. and in consideration of my receiving severance benefits to which I would otherwise not be entitled, consisting of the waiver of the covenant not to compete contained in my employment agreement. I, Nick A. Gerde, hereby release Pacific Aerospace & Electronics, Inc. and its subsidiaries, and their respective officers, directors, employees, agents, insurers and related corporations (collectively "PA&E") from any and all liability, damages or causes of action, whether known or unknown, relating to my employment with PA&E, or the termination of that employment, or any other acts or events involving PA&E, to the date of this Waiver and Release. This Waiver and Release includes, but is not limited to, any claims for additional compensation in any form, damages, reemployment or reinstatement. This Release specifically includes, but is not limited to, all claims for relief or remedy under any Washington state or federal laws, including but not limited to Title VII of the Civil Rights Act of 1964, the Civil Rights Act of 1991, the Age Discrimination in Employment Act, the Fair Labor Standards Act, the Americans with Disabilities Act, and the civil rights, employment and wage and hour laws of the State of Washington including, but not limited to, RCW 49.48, 49.52, and 49.60, and any applicable contract, tort, or common law theories. This Waiver and Release shall not affect vested rights, if any, which I may have against insurers under medical insurance and long-term disability insurance plans or under any retirement plan maintained by PA&E. Confidentiality is an essential element of this Waiver and Release. I agree to keep confidential the facts and terms of the severance benefits that I have been offered and accepted. I understand, however, that PA&E may have certain obligations to disclose the terms of my severance benefits to its lenders and pursuant to the federal securities laws. I have read this Waiver and Release and understand its effect. I acknowledge and understand that I am releasing legal rights that I may have against my employer, including rights under the Age Discrimination in Employment Act. In accordance with the Older Workers' Benefit Protection Act (the "Act"), I acknowledge that I have been advised in writing to consult with an attorney prior to executing this Waiver and Release; and that as consideration for executing this Waiver and Release, I have received additional benefits of value to which I would not otherwise be entitled. In accordance with the Act, PA&E offered me additional severance benefits in connection with the termination of my employment, and the offer provided me with a period of 21 days from the date of receipt for consideration of the offer. I acknowledge that I received the - 1 - offer on August 15, 2001, and that in the event I have not executed this Waiver and Release by the expiration of the 21-day time period on September 5, 2001, the offer will expire. I further acknowledge that I have a period of seven days from the date immediately following the date of execution of this Waiver and Release in which I may revoke this Waiver and Release by written notice to Donald A. Wright, Pacific Aerospace & Electronics, Inc., 430 Olds Station Road, Third Floor, Wenatchee, WA 98801. If I do not exercise my right to revoke this Waiver and Release, this Waiver and Release will become effective on the date immediately following the 7-day revocation period described above. Every provision of this Waiver and Release is intended to be severable. In the event a court or agency of competent jurisdiction determines that any term or provision contained in this Waiver and Release is illegal, invalid or unenforceable, such illegality, invalidity or unenforceability shall not affect the other terms and provisions of this Waiver and Release which shall continue in full force and effect. This Waiver and Release will be null and void if the Company's payment obligations under the termination letter dated August 15, 2001 are not fulfilled for any reason. This Waiver and Release shall be construed in accordance with, and governed by, the statutes and common law of the State of Washington. Dated: August 17, 2001. /s/ Nick A. Gerde ----------------- Nick A. Gerde - 2 - EX-10.16 12 dex1016.txt AMEND. NO. 1 TO AGREEMENT WITH SHERYL A. SYMONDS EXHIBIT 10.16 AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT --------------------------------------- This is Amendment No. 1, dated June 1, 2001 (the "Amendment), to the Employment Agreement made as of September 1, 1997 (the "Agreement"), by and between Pacific Aerospace & Electronics, Inc., a Washington corporation (the "Company"), and Sheryl A. Symonds (the "Executive"). Capitalized terms not otherwise defined in this Amendment shall have the meanings set forth in the Agreement. WHEREAS, the Executive provides services to the Company as Vice President Administration and General Counsel pursuant to the Agreement; WHEREAS, the Agreement provides for an increase in the Executive's Annual Salary for the Contract Year beginning on June 1, 2001 and ending on May 31, 2002, of 8% over the previous Contract Year's Annual Salary, which increase would be equal to $15,237; WHEREAS, the Compensation Committee and the Option Committee of the Company's Board of Directors have determined that it would be in the best interests of the Company to request that the Executive forego $10,000 of her Annual Salary increase for the Contract Year ending May 31, 2002 (the "2002 Contract Year"), and that she receive, in lieu of such increase, a grant of restricted stock under the Company's 1999 Stock Incentive Plan (the "Plan"); and WHEREAS, the Executive has agreed to this arrangement, subject to the terms and conditions of this Amendment. The parties agree as follows: 1. Amendment to Salary for 2002 Contract Year. The Agreement is hereby ------------------------------------------ amended to provide that the Executive's cash salary increase for the 2002 Contract Year will be $5,237, and that in lieu of $10,000 of her contractual salary increase for the 2002 Contract Year, the Executive will receive, as of June 1, 2001, a grant of 47,619 shares of the Company's Common Stock (the "Shares"), which shares may not be transferred by the Executive prior to June 1, 2002, except in compliance with applicable securities laws. The certificate representing the Shares will bear a legend to the effect that the Shares are subject to restrictions on transfer. The $5,237 cash salary increase referred to in the first sentence of this section will be deferred and paid in a lump sum in January 2002, except that if the Executive's employment with the Company terminates for any reason prior to such payment, the full amount will be paid upon termination of her employment. For purposes of determining future salary increases only, the Executive's Annual Salary for the 2002 Contract Year will be calculated as if the contractual salary increase had been paid in cash. 2. Previous Amendment. The parties acknowledge that the following amendment ------------------ to the Agreement was previously made by the Compensation Committee and agreed to by the Executive, but have not previously been provided for in a written amendment to the Agreement: On May 28, 1998, the Compensation Committee increased the Executive's Annual Salary for the Contract Year ended May 31, 1999 to $163,300, on an annualized basis, effective July 30, 1998. 3. No Further Amendments. Except as specifically set forth in this Amendment, --------------------- the Agreement shall continue in effect in accordance with its terms. THE COMPANY: PACIFIC AEROSPACE & ELECTRONICS, INC. By Donald A. Wright ---------------- Its President & CEO THE EXECUTIVE: /s/ Sheryl A. Symonds --------------------- Sheryl A. Symonds EX-10.31 13 dex1031.txt LETTER DATED APRIL 11, 2001 FROM KEY BANK EXHIBIT 10.31 Key Bank of Washington Special Assets Group 1101 Pacific Avenue Tacoma, Washington 98411-5600 (253)305-7879 Fax (253) 306-7933 April 11, 2001 Pacific Aerospace & Electronics, Inc. 434 Olds Station Road Wenatchee, WA 98801 Attn: Donald Wright Nick Gerde Charles Miracle Re: Loans # 357577-9001, 357577-9002, and 357577-2000009001 Leases # 8800017841 and 8800017859 Gentlemen: As you know from your discussions with Mike McKay and John Thoren, the above referenced loan and lease accounts have been transferred to the Special Assets Group of Key Bank for handling. The transfer was considered appropriate due to the current financial circumstances of the corporation. I will be the handling officer for your accounts going forward. In addition to these credit transactions, our office will also track the various demand deposit accounts carried by Pacific Aerospace & Electronics and its affiliates. John has asked that he remain a local contact to assist you for non-credit matters when possible. While it does not appear that the companies are in the practice of presenting checking account items for payment against insufficient funds, please be advised that it is the policy of Special Assets not to pay overdrafts. According to our systems, of the above accounts, loan #357577-9002 is past due for 4-01-01 in the payment amount of $10,528.08. The other two loans are current at this time. Both of the leases noted were, as of 4-02-01, past due for payments scheduled for 2-10-01 and 3-10-01 in the payment amounts of $17,734.74 and $6,754.26, respectively, not including late charges. If you have not already done so, please arrange to remit funds to bring the loan and lease payments current at the earliest time to prevent further delinquency. You have requested in your letter of April 2, 2001 that the Bank forbear from accelerating the above loans to Pacific Aerospace & Electronics, Inc. due to defaults caused by the company's failure to comply with certain financial covenants of the loan agreement between the parties. Key Bank will agree to forbear until further notice from exercise of default remedies related to the certain financial covenants requested, specifically: Debt to Worth Ratio, Net Worth, and Debt Service Coverage Ratio; so long as no monetary defaults exist. Key Bank does not waive the covenants nor does it waive any of its rights or remedies included in the loan documents by doing so. All other terms and conditions of the loans or leases remain in effect. This condition requires that the loans and leases be paid current immediately and maintained in a current status in future. We appreciate your efforts in taking steps to retire the operating line of credit last quarter, and look forward to working with you to accomplish repayment of the remaining loans and leases as well. If you have any questions regarding the transfer or the accounts noted, please call me at the above number. Sincerely, /s/ Monty D. Sampson Vice President CC: Mike McKay John Thoren EX-10.45 14 dex1045.txt RESCISSION AND TERMINATION AGREEMENT EXHIBIT 10.45 RESCISSION AND TERMINATION AGREEMENT (the "Agreement") This Agreement is entered into this date by and between THE PORT OF CHELAN COUNTY, a Washington municipal corporation, (the "Port") and PACIFIC AEROSPACE ELECTRONICS, INC. a Washington corporation ("PAE") (individually a "Party" and collectively the "Parties"). RECITALS A. The Port has for some time been the owner and developer of industrial property at Olds Station in Wenatchee, Chelan County, Washington ("Industrial Park"), with a history and philosophy of not selling industrial (as opposed to retail or commercial) land, but rather controlling the real property itself and leasing it to businesses and industries. B. In 1993, the Port and PAE became landlord and tenant, respectively, of a portion of the Industrial Park at Olds Station. Since that time, PAE has grown from a relatively small employer of less than thirty (30) people, to a major employer in Chelan County employing, at times, in excess of five hundred (500) people. C. As a unique arrangement with PAE, and recognizing the expansion, growth, and family wage jobs supported by PAE, the Port made exception to its general philosophy and sold portions of its industrial land to PAE to support its expansion. D. On January 15, 1999, the parties entered into a Real Estate Agreement (the "Contract") whereby the Port agreed to sell to PAE three parcels of land at the Industrial Park over a period of approximately three years. E. PAE purchased the first of the 3 parcels ("Parcel 1") shortly after the Contract was executed. F. By agreement formalized September 22, 1999, the parties agreed to extend periods for closing the purchase of the second of the 3 parcels ("Parcel 2") and the third of the 3 parcels ("Parcel 3") for a period of one year. G. During the middle of 2000, PAE reexamined its position relative to acquiring ownership of land for its future improvements and advised the Port that it no longer felt compelled to acquire or own any of the 3 parcels of land identified in the Contract, including Parcel 1 it had initially purchased, suggesting that the parties undo the Contract arrangement and return to the status quo relative to the ownership of property, as it was prior to January 15, 1999. H. The Port understood if it did not agree to the termination and rescission of the Contract and the repurchase of Parcel 1 from PAE, that PAE's choices would be somewhat limited and would result in PAE purchasing Parcel 2 and Parcel 3 and immediately placing all 3 1 parcels for sale, an event which would be inconsistent with the Port's general philosophy and goal. I. The Port, desiring to keep control over the property in the Industrial Park area, consistent with its then practice of owning and leasing industrial land, agreed to purchase Parcel 1 from PAE for the amount initially paid by PAE plus the actual costs of usable improvements placed on Parcel 1 by PAE. J. The intent of the parties was to rescind the Contract and return Parcel 1 to the Port for the amount paid to the Port by PAE plus PAE's actual out-of- pocket expenses for the costs of usable improvements, and to terminate the right of PAE to acquire Parcel 2 and Parcel 3, returning to PAE the remainder of the earnest money deposit. K. In the interest of time, the parties memorialized and accomplished the return of Parcel 1 to the Port, by the Port purchasing Parcel 1, but did not memorialize or complete the termination of the balance of the Contract or the return of the earnest money to PAE. L. The balance of the earnest money deposited by PAE pursuant to the contract, being One Hundred Thousand and No/100 Dollars ($100,000), has been earning interest which has accrued to and been reported as income for income tax purposes by PAE. M. The Port has never exercised dominion or control over the earnest money and has never accounted for or shown the earnest money deposit as a Port asset. The Port agrees it was the intent of the parties to terminate PAE's right to purchase Parcels 2 and 3 and to return the earnest money to PAE in exchange therefor and in exchange for PAE returning Parcel 1 to the Port for the amount expended by PAE for the property. N. The parties intend by this Agreement to complete the commitments made in 2000, by formally terminating the Contract and returning PAE's earnest money to PAE. AGREEMENT 1. Recitals. The foregoing recitals are incorporated herein as though fully set forth herein. 2. Rescission and Termination of Previous Agreement. The Real Estate Agreement between the parties dated January 15, 1999, and Addendum thereto, including the Addendum dated September 22, 1999, is rescinded and terminated effective August 1, 2000, to the extent not already performed by the parties at that time. 3. Previous Understanding and Agreement Memorialized. The parties understand and agree that this Agreement memorializes the previous understanding and agreement made by the parties to terminate and rescind the Contract, eliminating PAE's right to purchase Parcel 2 and Parcel 3 identified in the Contract and returning to PAE the balance of the earnest money deposit, plus any accumulated interest thereon earned from the earnest money deposit. 2 4. Taxable Income. PAE has reported and shall report all taxable income generated from the earnest money deposit as income on PAE's income tax returns and shall be responsible for paying all taxes, costs and fees related to such earnest money deposit. 5. Balance of Earnest Money. The balance of the earnest money deposit plus earned interest, shall be paid to PAE promptly following the execution of this Agreement. 6. Reimbursement by PAE. As rescission of the Contract was initially requested by PAE, PAE shall reimburse the Port for, or pay directly, all costs and fees incurred by the Port involved with this Agreement including, without limitation, the costs and fees of document preparation. 7. All Matters Resolved. The execution of this Agreement resolves all matters related to the Contract and Parcels 1, 2 and 3 in a manner satisfactory to the parties. Each party releases the other from any and all liabilities and opportunities related to the Contract, including, without limitation, the right of PAE to complete the purchase of Parcels 2 and 3 and the right of the Port to have retained any earnest money deposit in the event the purchases of Parcels 2 and 3 were not closed within the agreed upon time in the Contract, as extended. 8. Entire Agreement. This Agreement contains the entire Agreement of the Parties hereto, and except for any Agreements or warranties otherwise stated in writing to survive the execution and delivery of this Agreement, supersedes all other previous understandings and agreements, written and oral, with respect to this transaction. 9. Savings Clause. Nothing in this Agreement shall be construed as to require any act contrary to law, and wherever there is any conflict between the provisions of this Agreement and any statute, law, public regulation or ordinance, the latter shall prevail, but in such event, the provisions of this Agreement affected shall be curtailed and limited only to the extent necessary to bring it within legal requirements. Date: 7-31-01 Date: 7-27-01 ------------------------------ ------------------------------- Port of Chelan County Pacific Aerospace & Electronics, Inc. By: /s/ Mark Urdahl By: /s/ Donald A. Wright ------------------------------ ------------------------------- Name: Mark Urdahl Name: Donald A. Wright Its: Executive Director Its: President & CEO 3 EX-21.1 15 dex211.txt LIST OF SUBSIDIARIES Exhibit 21.1 LIST OF SUBSIDIARIES
Name Jurisdiction of Organization Aeromet America, Inc. Washington Balo Precision Parts, Inc. Washington Cashmere Manufacturing Co., Inc. Washington Ceramic Devices, Inc. Washington Electronic Specialty Corporation Washington Northwest Technical Industries, Inc. Washington Pacific Coast Technologies, Inc. Washington Seismic Safety Products, Inc. Washington Skagit Engineering & Manufacturing, Inc. Washington PA&E International, Inc. Washington Subsidiary: Pacific A&E Limited United Kingdom ---------- Subsidiary: Pacific Aerospace & United Kingdom ---------- Electronics (UK) Limited Subsidiary: Aeromet International PLC United Kingdom ----------
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