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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
FORM 10-K/A
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1997
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number
L-3 COMMUNICATIONS CORPORATION
(Exact name of registrant as specified in its charter)
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DELAWARE 13-3937436
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
600 THIRD AVENUE 10016
NEW YORK, NEW YORK (Zip Code)
(Address of principal executive offices)
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(212) 697-1111
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
None.
Securities registered pursuant to section 12(g) of the Act:
None.
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. [X] Yes [ ] 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. [ ]
As of December 31, 1997, L-3 Communications Corporation (the "Company" or
"L-3 Communications") had 100 shares of common stock outstanding, which were
held by its parent, L-3 Communications Holdings, Inc. ("Holdings").
DOCUMENTS INCORPORATED BY REFERENCE
None.
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PART I
As used herein, unless the context requires otherwise: (i) "Holdings"
means L-3 Communications Holdings, Inc., (ii) "L-3" means Holdings, its
wholly-owned operating subsidiary, L-3 Communications Corporation, their
predecessors, and the businesses acquired in the 1998 Acquisitions (as
defined), (iii) "L-3 Communications" or the "Company" means L-3
Communications Corporation, (iv) "L-3 Acquisition" means the purchase of the
Company from Lockheed Martin Corporation in April 1997 described under
"--History", (v) "1998 Acquisitions" means the recently completed acquisition
of STS (as defined), ILEX (as defined) and Ocean Systems (as defined)
described under "--Recent Developments", (vi) "Notes Offering" means $150
million aggregate principal amount of Senior Subordinated Notes due 2008 to
be offered by L-3 Communications, (vii) "Common Stock Offering" means an
initial public offering of common stock by Holdings which is made
concurrently with the Notes Offering, (viii) "Offerings" means the Notes
Offering and the contribution by Holdings of the proceeds of the Common Stock
Offering and (ix) unless otherwise indicated, "pro forma" financial data
reflect the L-3 Acquisition, the 1998 Acquisitions and the Offerings as if
such transactions had occurred in the beginning of the period indicated.
ITEM 1. BUSINESS.
COMPANY OVERVIEW
L-3 is a leading merchant supplier of sophisticated secure communication
systems and specialized communication products including secure, high data
rate communication systems, microwave components, avionics and ocean systems,
and telemetry, instrumentation and space products. These systems and products
are critical elements of virtually all major communication, command and
control, intelligence gathering and space systems. The Company's systems and
specialized products are used to connect a variety of airborne, space,
ground-and sea-based communication systems and are incorporated into the
transmission, processing, recording, monitoring and dissemination functions
of these communication systems. The Company's customers include the U.S.
Department of Defense (the "DoD"), selected U.S. government (the
"Government") intelligence agencies, major aerospace/defense prime
contractors, foreign governments and commercial customers. In 1997, L-3 had
pro forma sales of $894.0 million and pro forma EBITDA (as defined) of $95.1
million. The Company's pro forma funded backlog as of December 31, 1997 was
$638.1 million. These results reflect internal growth as well as the
execution of the Company's strategy of acquiring businesses that complement
or extend L-3's product lines.
The Company's business areas enjoy proprietary technologies and
capabilities and have leading positions in their respective primary markets.
Management has organized the Company's operations into two primary business
areas: Secure Communication Systems and Specialized Communication Products.
In 1997, the Secure Communication Systems and Specialized Communication
Products business areas generated approximately $456.0 million and $438.0
million of pro forma sales, respectively, and $52.3 million and $42.8 million
of pro forma EBITDA, respectively. In addition, the Company is seeking to
expand its products and technologies in commercial markets. See " -- Emerging
Commercial Products" below.
SECURE COMMUNICATION SYSTEMS. L-3 is the established leader in secure,
high data rate communications in support of military and other national
agency reconnaissance and surveillance applications. The Company's Secure
Communication Systems operations are located in Salt Lake City, Utah, Camden,
New Jersey, and Shrewsbury, New Jersey. These operations are predominantly
cost plus, sole source contractors supporting long-term programs for the U.S.
Armed Forces and classified customers. The Company's major secure
communication programs and systems include: secure data links for airborne,
satellite, ground-and sea-based information collection and transmission;
strategic and tactical signal intelligence systems that detect, collect,
identify, analyze and disseminate information and related support contracts
for military and national agency intelligence efforts; as well as secure
telephone and network equipment. The Company believes that it has developed
virtually every high bandwidth data link used by the military for
surveillance and reconnaissance in operation today. L-3 is also a leading
supplier of communication software support services to military and related
government intelligence markets. In addition to these core Government
programs, L-3 is leveraging its technology base by expanding into
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related commercial communication equipment markets, including applying its
high data rate communications and archiving technology to the medical image
archiving market and its wireless communication expertise to develop local
wireless loop telecommunications equipment.
SPECIALIZED COMMUNICATION PRODUCTS. This business area includes (i)
Microwave Components, (ii) Avionics and Ocean Systems and (iii) Telemetry,
Instrumentation and Space Products operations of the Company.
Microwave Components. L-3 is the preeminent worldwide supplier of
commercial off-the-shelf, high performance microwave components and frequency
monitoring equipment. L-3's microwave products are sold under the
industry-recognized Narda brand name through a standard catalog to wireless,
industrial and military communication markets. L-3 also provides
state-of-the-art communication components including channel amplifiers and
frequency filters for the commercial communication satellite market.
Approximately 76% of Microwave Components sales is made to commercial
customers, including Loral Space & Communications, Ltd., Motorola, Inc.,
Lucent Technologies Inc., AT&T Corp. and Lockheed Martin Corporation
("Lockheed Martin").
Avionics and Ocean Systems. Avionics and Ocean Systems include the
Company's Aviation Recorders, Display Systems, Antenna Systems and Acoustic
Undersea Warfare Systems operations. L-3 is the world's leading manufacturer
of commercial cockpit voice and flight data recorders ("black boxes"). These
recorders are sold under the Fairchild brand name both on an original
equipment manufacturer ("OEM") basis to aircraft manufacturers as well as
directly to the world's major airlines for their existing fleets of aircraft.
L-3 aviation recorders are also installed on military transport aircraft
throughout the world. L-3 provides military and high-end commercial displays
for use on a number of DoD programs including the F-14, V-22, F-117 and E-2C.
Further, L-3 manufactures high performance surveillance antennas and related
equipment for U.S. Air Force, U.S. Army and U.S. Navy aircraft including the
F-15, F-16, AWACS, E-2C and B-2, as well as the U.K.'s maritime patrol
aircraft. L-3 is also one of the world's leading product suppliers of
acoustic undersea warfare systems and airborne dipping sonar systems to the
U.S. and over 20 foreign navies.
Telemetry, Instrumentation and Space Products. The Company's Telemetry,
Instrumentation and Space Products operations develop and manufacture
commercial off-the-shelf, real-time data collection and transmission products
and components for missile, aircraft and space-based electronic systems.
These products are used to gather flight parameter data and other critical
information and transmit it from air or space to the ground. Telemetry
products are also used for range safety and training applications to simulate
battlefield situations. L-3 is also a leading global satellite communications
systems and services provider offering systems and services used in satellite
transmission of voice, video and data.
EMERGING COMMERCIAL PRODUCTS. Building upon its core technical expertise
and capabilities, the Company is seeking to expand into several closely
aligned commercial business areas and applications. Emerging Commercial
Products currently include the following three niche markets: (i) medical
archiving and simulation systems; (ii) local wireless loop telecommunications
equipment; and (iii) airport security equipment. These commercial products
were developed based on technology used in the Company's military businesses
with relatively small incremental financial investments. The Company is
applying its technical capabilities in high data rate communications and
archiving technology developed in its Secure Communication Systems business
area to the medical image archiving market jointly with the General Electric
Company's ("GE") medical systems business ("GE Medical Systems"). Based on
secure, high data rate communications technology also developed in its Secure
Communication Systems business area, the Company has developed local wireless
loop telecommunications equipment that is primarily designed for emerging
market countries and rural areas where voice and data communication
infrastructure is inadequate or non-existent. L-3 has completed the
development phase for the local wireless loop telecommunications equipment
and made its initial shipment in January 1998. In addition, the Federal
Aviation Administration (the "FAA") has awarded the Company a development
contract for next generation airport security equipment for explosive
detection. L-3 has shipped two prototype test units and FAA certification
testing commenced in the first quarter of 1998. To date, revenues generated
from L-3's Emerging Commercial Products have not been, in the aggregate,
material to the Company.
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The Company's systems and products are summarized in the following tables:
SECURE COMMUNICATION SYSTEMS (1997 PRO FORMA SALES: $456.0 MILLION)
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SYSTEMS SELECTED APPLICATIONS SELECTED PLATFORMS/END USES
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SECURE HIGH DATA RATE COMMUNICATIONS
o Wideband data links o High performance, secure o Used on aircraft and naval ships and
communication links for interoperable unmanned aerial vehicles with military
tactical communication and and commercial satellites
reconnaissance
SATELLITE COMMUNICATION TERMINALS
o Ground-based satellite o Interoperable, transportable ground o Provide remote personnel with
communication terminals terminals for remote data links to communication links to distant forces
distant segments via commercial or
military satellites
SPACE COMMUNICATION AND SATELLITE CONTROL
o Satellite communication and o On-board satellite external o International Space Station; Earth
tracking systems communications, video systems, solid Observing Satellite; Landsat-7; Space
state recorders and ground support Shuttle; and National Oceanic and
equipment Atmospheric Administration weather
satellites
o Satellite command and control o Software integration, test and o Air Force satellite control network
sustainment and support maintenance support for Air Force and Titan IV launch system
satellite control network;
engineering support for satellite
launch systems
MILITARY COMMUNICATIONS
o Shipboard communication systems o Shipboard and ship-to-ship o Shipboard voice communications systems
communications for Aegis cruisers and destroyers and
fully automated Integrated Radio Room
(IRR) for ship-to-ship communications
on Trident submarines
o Digital battlefield communications o Communications on the move for o Communication systems for U.S. Army
tactical battlefield C(2)V
o Communication software support o Value added, critical software o ASAS, JSTARS and GUARDRAIL
services support for C(3)I systems
INFORMATION SECURITY SYSTEMS
o Secure Telephone Unit (STU o Secure and non-secure voice, data and o Office and battlefield secure and
III)/Secure Terminal Equipment video communication utilizing ISDN non-secure communication for armed
(STE) and ATM commercial network services, intelligence and security
technologies agencies
o Local management device/key o Provides electronic key material o User authorization and recognition and
processor (LMD/KP) accounting, system management and message encryption for secure
audit support functions for secure communication
data communication
o Information processing systems o Custom designed strategic and o Classified military and national
tactical signal intelligence systems agency intelligence efforts
that detect, collect, identify,
analyze and disseminate information
and related support contracts
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SPECIALIZED COMMUNICATION PRODUCTS (1997 PRO FORMA SALES: $438.0 MILLION)
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PRODUCTS SELECTED APPLICATIONS SELECTED PLATFORMS/END USES
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MICROWAVE COMPONENTS
o Passive components, mechanical o Radio transmission, switching and o Broad-band and narrow-band commercial
switches and wireless assemblies conditioning; antenna and base applications (PCS, cellular, SMR, and
station testing and monitoring paging infrastructure) sold under the
Narda brand name; and broad-
band military applications
o Safety products o Radio frequency (RF) monitoring and o Monitor cellular base station and
measurement industrial RF emissions frequency
monitoring
o Semiconductors (diodes, capacitors) o Radio frequency switches, limiters, o Various industrial and military end
voltage control, oscillators, uses, including commercial satellites,
harmonic generators avionics and specialty communication
products
o Satellite and wireless components o Satellite transponder control, o China Sat, PanAmSat, Telstar, Sirius,
(channel amplifiers, transceivers, channel and frequency separation Tempo, Tiros, Milstar, GPS and LandSat
converters, filters and multiplexers)
AVIONICS AND OCEAN SYSTEMS
Aviation Recorders
o Solid state cockpit voice and flight o Voice recorders continuously record o Installed on business and commercial
data recorders most recent 30-120 minutes of voice aircraft and certain military
and sounds from cockpit and aircraft transport aircraft; sold to both
inter-communications. Flight data aircraft OEMs and airlines under the
recorders record the last 25 hours of Fairchild brand name
flight parameters
Antenna Systems
o Ultra-wide frequency and advanced o Surveillance; radar detection o F-15, F-16, F-18, E-2C, P-3, C-130,
radar antenna systems and rotary B-2, AWACS, Apache, Cobra, Mirage
joints (France), Maritime Patrol (U.K.) and
Tornado (U.K.)
Display Systems
o Cockpit and mission display systems o High performance, ruggedized flat o E-2C, V-22, F-14, F-117, E-6B, C-130,
panel and cathode ray tube displays AWACS and JSTARS
Ocean Systems
o Airborne dipping sonar systems o Submarine detection and localization o SH-60, SH-2/3, AB-212, EH-101 and Lynx
Helicopters
o Submarine and surface ship towed o Submarine and surface ship detection o SSN, SSBN, DDG-963 and FFG-7
arrays and localization
o Torpedo defense systems o Torpedo detection and jamming o SSN, SSBN and DDG-963
o Mine countermeasure systems o Coastal and route survey o MCDV (Canada)
TELEMETRY, INSTRUMENTATION AND SPACE PRODUCTS
Airborne, Ground and Space Telemetry
o Aircraft, missile and satellite o Real time data acquisition, o JSF, F-15, F-18, F-22, Comanche,
telemetry systems measurement, processing, simulation, Nimrod (U.K.), Tactical Hellfire,
distribution, display and storage for Titan, EELV, A2100 and ATHENA
flight testing
o Training range telemetry systems o Battlefield simulation o Combat simulation
Space Products
o Global satellite communications o Satellite transmission of voice, o Rural telephony or private networks,
systems supplier video and data direct to home uplinks, satellite news
gathering and wideband applications
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INDUSTRY OVERVIEW
The defense industry has recently undergone significant changes
precipitated by ongoing federal budget pressures and new roles and missions
to reflect changing strategic and tactical threats. Since the mid-1980's, the
overall U.S. defense budget has declined in real dollars. In response, the
DoD has focused its resources on enhancing its military readiness, joint
operations and digital command and control communications by incorporating
advanced electronics to improve the performance, reduce operating cost and
extend the life expectancy of its existing and future platforms. The emphasis
on system interoperability, force multipliers and providing battlefield
commanders with real-time data is increasing the electronics content of
nearly all of the major military procurement and research programs. As a
result, the DoD's budget for communications and defense electronics is
expected to grow. According to Federal Sources, an independent private
consulting group, the defense budget for command, control, communications and
intelligence ("C(3)I") is expected to increase from $31.0 billion in the
fiscal year ended September 30, 1997 to $42.0 billion in the fiscal year
ended September 30, 2002, a compound annual growth rate of 6.3%.
The industry has also undergone dramatic consolidation resulting in the
emergence of three dominant prime system contractors (The Boeing Company,
Lockheed Martin and Raytheon Company ("Raytheon")). One outgrowth of this
consolidation among the remaining major prime contractors is their desire to
limit purchases of products and sub-systems from one another. However, there
are numerous essential products, components and systems that are not
economical for the major prime contractors to design, develop or manufacture
for their own internal use which creates opportunities for merchant suppliers
such as L-3. As the prime contractors continue to evaluate their core
competencies and competitive position, focusing their resources on larger
programs and platforms, the Company expects the prime contractors to continue
to exit non-strategic business areas and procure these needed elements on
more favorable terms from independent, commercially oriented merchant
suppliers. Recent examples of this trend include divestitures of certain
non-core businesses by AlliedSignal Inc. ("AlliedSignal"), Ceridian
Corporation ("Ceridian"), Lockheed Martin and Raytheon.
The prime contractors' focus on cost control is also driving increased use
of commercial off-the-shelf products for upgrades of existing systems and in
new systems. The Company believes the prime contractors will continue to be
under pressure to reduce their costs and will increasingly seek to focus
their resources and capabilities on major systems, turning to commercially
oriented merchant suppliers to produce sub-systems, components and products.
Going forward, successful merchant suppliers will use their resources to
complement and support, rather than compete with the prime contractors. L-3
anticipates the relationship between the major prime contractors and their
primary suppliers will, as in the automotive and commercial aircraft
industry, develop into critical partnerships encompassing increasingly
greater outsourcing of non-core products and systems by the prime contractors
to their key merchant suppliers and increasing supplier participation in the
development of future programs. Early involvement in the upgrading of
existing systems and the design and engineering of new systems incorporating
these outsourced products will provide merchant suppliers, including the
Company, with a competitive advantage in securing new business and provide
the prime contractors with significant cost reduction opportunities through
coordination of the design, development and manufacturing processes.
RECENT DEVELOPMENTS
Since the formation of the Company in April 1997, the Company has actively
pursued its acquisition strategy. The Company recently purchased the assets
and liabilities of three businesses described below which collectively
comprise the "1998 Acquisitions". The combined purchase prices for these
acquisitions was $146.4 million of cash, subject to certain post-closing
adjustments, and in one case certain additional consideration based on
post-closing performance. The Company has financed these acquisitions through
the use of its existing cash balances as well as through borrowings under the
$375.0 million Senior Credit Facilities (as defined herein). These three
businesses complement and extend L-3's product offerings.
Ocean Systems
On March 30, 1998, L-3 Communications purchased the assets of the Ocean
Systems business ("Ocean Systems") of AlliedSignal for $67.5 million in cash.
In 1997, Ocean Systems had sales of
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$73.0 million. Ocean Systems is one of the world's leading products suppliers
of acoustic undersea warfare systems, having designed, manufactured and
supported a broad range of compact, lightweight, high performance acoustic
systems for navies around the world for over 40 years. Ocean Systems is the
leading products supplier of airborne dipping sonar systems in the world with
substantial market share of the sector and systems in service with the U.S.
and 20 foreign navies. Ocean Systems also produces several sea systems
products including towed array sonar, integrated side-looking sonar, acoustic
jammers, mine detection and torpedo defense systems and supplies commercial
navigation and hydrographic survey systems worldwide. Ocean Systems is
further supported by ELAC Nautik GmbH ("ELAC") located in Kiel, Germany. ELAC
manufactures a broad range of naval defense products including submarine,
torpedo and navigation sonars as well as survey and navigation systems for
the commercial nautical products industry.
ILEX Systems
On March 4, 1998, L-3 Communications purchased the assets of ILEX Systems
("ILEX") for $51.9 million in cash plus additional consideration based on
post-closing performance which could include up to 540,000 shares of Common
Stock over the next three years. In 1997, ILEX had sales of $63.5 million.
ILEX is a leading supplier of communication software support services to
military and related government intelligence markets. ILEX also provides
environmental consulting, software and systems engineering services and
complementary products to several commercial markets.
Satellite Transmission Systems
On February 5, 1998, L-3 Communications purchased the assets of Satellite
Transmission Systems division ("STS") of California Microwave, Inc. for $27.0
million, subject to adjustment based on closing net assets. For the fiscal
year ended June 30, 1997, STS had sales of $68.0 million. STS is a leading
global satellite communications systems and services provider. Its customers
include foreign post, telephone and telegraph administrations, domestic and
international prime communications infrastructure contractors,
telecommunication and satellite service providers, broadcasters and
media-related companies, government agencies and large corporations.
The Company considers and executes strategic acquisitions on an ongoing
basis and may be evaluating acquisitions or engaged in acquisition
negotiations at any given time. As of the date hereof, the Company has
completed, has reached agreement on or is in discussions regarding certain
acquisitions, in addition to the 1998 Acquisitions, that are either
individually or in the aggregate not material to the financial condition or
results of operations of the Company.
HISTORY
Holdings and L-3 Communications were formed in April 1997 by Mr. Frank C.
Lanza, the former President and Chief Operating Officer of Loral Corporation
("Loral"), Mr. Robert V. LaPenta, the former Senior Vice President and
Controller of Loral (collectively, "Senior Management"), Lehman Brothers
Capital Partners III, L.P. and its affiliates (the "Lehman Partnership") and
Lockheed Martin to acquire (the "L-3 Acquisition") substantially all of the
assets and certain liabilities of (i) nine business units previously
purchased by Lockheed Martin as part of its acquisition of Loral in April
1996 (the "Loral Acquired Businesses") and (ii) one business unit,
Communication Systems -- East, purchased by Lockheed Martin as part of its
acquisition of the aerospace business of GE in April 1993 (collectively, the
"Businesses"). L-3 Communications is a wholly-owned subsidiary of Holdings.
At December 31, 1997, Messrs. Lanza and LaPenta and certain other members of
management collectively own 15.9%; the Lehman Partnership owns 50.1%; and
Lockheed Martin owns 34.0% of the outstanding capital stock of Holdings.
The Company's executive offices are located at 600 Third Avenue, New York,
New York, 10016, and the telephone number at that address is 212-697-1111.
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PRODUCTS AND SERVICES
SECURE COMMUNICATION SYSTEMS
L-3 is a leader in communication systems for high performance intelligence
collection, imagery processing and ground, air, sea and satellite
communications for the DoD and other government agencies. The Salt Lake City
operation provides secure, high data rate, real-time communication systems
for surveillance, reconnaissance and other intelligence collection systems.
The Camden operation designs, develops, produces and integrates communication
systems and support equipment for space, ground and naval applications. The
Shrewsbury operation provides communication software support services to
military and related government intelligence markets. Product lines of the
Secure Communication Systems business include high data rate communications
links, satellite communications ("SATCOM") terminals, Navy vessel
communication systems, space communications and satellite control systems,
signal intelligence information processing systems, information security
systems, tactical battlefield sensor systems and commercial communication
systems.
O HIGH DATA RATE COMMUNICATIONS
The Company is a technology leader in high data rate, covert,
jam-resistant microwave communications in support of military and other
national agency reconnaissance and surveillance applications. L-3's product
line covers a full range of tactical and strategic secure point-to-point and
relay data transmission systems, products and support services that conform
to military and intelligence specifications. The Company's systems and
products are capable of providing battlefield commanders with real time,
secure surveillance and targeting information and were used extensively by
U.S. armed forces in the Persian Gulf war.
During the 1980s, largely based on its prior experience with command and
control guidance systems for remotely-piloted vehicles, L-3 developed its
current family of strategic and tactical data links, including its Modular
Interoperable Data Link ("MIDL") systems and Modular Interoperable Surface
Terminals ("MIST"). MIDL and MIST technologies are considered virtual DoD
standards in terms of data link hardware. The Company's primary focus is
spread spectrum communication (based on CDMA technology), which involves
transmitting a data signal with a high rate noise signal so as to make it
difficult to detect by others, and then re-capturing the signal and removing
the noise. The Company's data links are capable of providing information at
over 200 Mb/s.
L-3 provides these secure high band width products to the U.S. Air Force,
Navy, Army and various Government agencies, many through long-term sole
source programs. The scope of these programs include air-to-ground,
air-to-air, ground-to-air and satellite communications. Government programs
include: U-2 Support Program, Common High-Band Width Data Link ("CHBDL"),
Battle Group Passive Horizon Extension System ("BGPHES"), Light Airborne
Multi-Purpose System ("LAMPS"), TriBand SATCOM Subsystem ("TSS"), major
unmanned aerial vehicle ("UAV") programs and Direct Air-Satellite Relay
("DASR").
O SATELLITE COMMUNICATION TERMINALS
L-3 provides ground-to-satellite, high availability, real-time global
communications capability through a family of transportable field terminals
to communicate with commercial, military and international satellites. These
terminals provide remote personnel with anywhere, anytime effective
communication capability and provide communications links to distant forces.
The Company's TriBand SATCOM Subsystem ("TSS") employs a 6.25 meter tactical
dish with a single point feed that provides C, Ku and X band communication to
support the U.S. Army. The Company also offers an 11.3 meter dish which is
transportable on two C-130 aircraft. The SHF Portable Terminal System ("PTS")
is a lightweight (28 lbs.), manportable terminal, which communicates through
DSCS, NATO or SKYNET satellites and brings unprecedented connectivity to
small military tactical units and mobile command posts. L-3 delivered 14 of
these terminals for use by NATO forces in Bosnia.
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O SPACE COMMUNICATIONS AND SATELLITE CONTROL
Continuing L-3's tradition of providing communications for every manned
U.S. space flight since Mercury, the Company is currently designing and
testing three communication subsystems for the International Space Station
("ISS"). These systems will control all ISS radio frequency ("RF")
communications and external video activities. The Company also provides
solid-state recorders and memory units for data capture, storage, transfer
and retrieval for space applications. The standard NASA tape recorder, which
was developed and produced by the Company, has completed over four million
hours of service without a mission failure. Current programs include
recorders for the National Oceanic & Atmospheric Administration ("NOAA")
weather satellites, the Earth Observing Satellite ("EOS"), AM spacecraft and
Landsat-7 Earth-monitoring spacecraft. The Company also provides space and
satellite system simulation, satellite operations and computer system
training, depot support, network engineering, resource scheduling, launch
system engineering, support, software integration and test through cost-plus
contracts with the U.S. Air Force.
O MILITARY COMMUNICATIONS
The Company provides integrated, computer controlled switching systems for
the interior and exterior voice and data needs of today's Navy military
vessels. The Company's products include Integrated Voice Communication
Systems ("IVCS") for Aegis cruisers and destroyers and the Integrated Radio
Room ("IRR") for Trident class submarines, the first computer controlled
communications center in a submarine. These products integrate the intercom,
tactical and administrative communications network into one system accessing
various types of communication terminals throughout the ship. The Company's
MarCom 2000 secure digital switching system is in development for the Los
Angeles class attack submarine and provides an integrated approach to the
specialized voice and data communications needs of a shipboard environment
for internal and external communications, command and control and air traffic
control. The Company also offers on-board, high data rate communications
systems which provide a data link for carrier battle groups which are
interoperable with the U.S. Air Force's surveillance/ reconnaissance terminal
platforms. The Company provides the US Army's Command and Control Vehicle
("C2V") Mission Module Systems ("MMS"). MMS provides the "communications on
the move" capability needed for the digital battlefield by packaging advanced
communications into a modified Bradley Fighting Vehicle. The Company is a
proven supplier of superior technological expertise to the DoD, including its
contractors and related government intelligence agencies.
O INFORMATION SECURITY SYSTEMS
The Company has produced more than 100,000 secure telephone units ("STU
III") which are in use today by the U.S. Armed Forces to provide secure
telephone capabilities for classified confidential communication over public
commercial telephone networks. The Company has begun producing the
next-generation digital, ISDN-compatible STE. STE provides clearer voice and
thirteen-times faster data/fax transmission capability than the STU III. STE
also supports secure conference calls and secure video teleconferencing. STE
uses a CryptoCard security system which consists of a small, portable,
cryptographic module mounted on a PCMCIA card holding the algorithms, keys
and personalized credentials to identify its user for secure communications
access. The Company also provides LMD/KP which is the workstation component
of the Government's Electronic Key Management System ("EKMS"), the next
generation of information security systems. EKMS is the Government system to
replace current "paper" secret keys used to secure government communications
with "electronic" secret keys. LMD/KP is the component of the EKMS which
produces and distributes the electronic keys. L-3 also develops specialized
strategic and tactical SIGINT systems to detect, acquire, collect, and
process information derived from electronic sources. These systems are used
by classified customers for intelligence gathering and require high speed
digital signal processing and high density custom hardware designs.
O TACTICAL SECURITY SYSTEMS
The Company manufactures the IREMBASS, an unattended ground sensor system
which uses sensors placed along likely avenues of enemy approach or intrusion
in a battlefield environment. The
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sensors respond to seismic and acoustic disturbances, infrared energy and
magnetic field changes and thus detect enemy activities. IREMBASS is
currently in use by U.S. Special Operations Forces, the U.S. Army's Light
Divisions and several foreign governments. The Company also provides the
Intrusion Detection Early Warning System ("IDEWS"), a sensor system designed
for platoon-level physical security applications. Weighing less than two
pounds, this sensor system is ideal for covert perimeter intrusion detection,
border protection and airfield or military installation security.
SPECIALIZED COMMUNICATION PRODUCTS
MICROWAVE COMPONENTS
L-3 is the preeminent worldwide supplier of commercial off-the-shelf, high
performance radio frequency ("RF") microwave components, assemblies and
instruments supplying the wireless communications, industrial and military
markets. The Company is also a leading provider of state-of-the-art
space-qualified commercial satellite and strategic military RF products. L-3
sells many of these components under the well-recognized Narda brand name and
through the world's most comprehensive catalog of standard, stocked hardware.
L-3 also sells its products through a direct sales force and an extensive
network of premier market representatives. Specific catalog offerings include
wireless products, electro-mechanical switches, power dividers and hybrids,
couplers/detectors, attenuators, terminations and phase shifters, isolators
and circulators, adapters, control products, sources, mixers, waveguide
components, RF safety products, power meters/monitors and custom passive
products. The Company operates from two sites, Hauppauge, New York ("Narda
East"), and Sacramento, California ("Narda West").
Narda East represents approximately 65% of L-3's microwave sales volume,
offering high performance microwave components, networks and instruments to
the wireless, industrial and military communications markets. Narda East's
products can be divided into three major categories: passive components,
higher level wireless assemblies/monitoring systems and safety instruments.
Passive components are generally purchased in narrow frequency
configurations by wireless OEM equipment manufacturers and service providers.
Similar components are purchased in wide frequency configurations by first
tier military equipment suppliers. Commercial applications for Narda
components are primarily in cellular or PCS base stations. Narda also
manufactures higher level assemblies for wireless base stations and the
paging industry. These products include communication antenna test sets,
devices that monitor reflected power to determine if a cellular base station
antenna is working and whether the base station radios are operating at peak
power levels. Military applications include general procurement for test
equipment or electronic surveillance and countermeasure systems. RF safety
products are instruments which are used to measure the level of non-ionizing
radiation in a given area, i.e., from an antenna, test set or other emitting
source, and determine whether human exposure limits are within federal
standards.
Narda West designs and manufactures state-of-the-art space-qualified and
wireless components. Space qualified components include channel amplifiers
for satellite transponder control and diplexers/ multiplexers, which are used
to separate various signals and direct them to the appropriate other sections
of the payload. Narda West's primary areas of focus are communications
satellite payload products. Channel amplifiers constitute Narda West's main
satellite product. These components amplify the weak signals received from
earth stations by a factor of 1 million, and then drive the power amplifier
tubes that broadcast the signal back to earth. These products are sold to
satellite manufacturers and offer lower cost, lower weight and improved
performance versus in-house alternatives. On a typical satellite, for which
there are 20 to 50 channel amps, Narda West's channel amps offer cost savings
of up to 60% (up to $1 million per satellite) and decrease launch weight by
up to 25 kilograms.
Narda West products include wireless microwave components for cellular and
PCS base station applications. These products include filters used to
transmit and receive channel separation as well as ferrite components, which
isolate certain microwave functions, thereby preventing undesired signal
interaction. Other products include a wide variety of high-reliability power
splitters, combiners and filters
9
<PAGE>
for spacecraft and launch vehicles, such as LLV, Tiros, THAAD, Mars Surveyor,
Peacekeeper, Galileo, Skynet, Cassini, Milstar, Space Shuttle, LandSat,
FltSatCom, GPS, GPS Block IIR, IUS, ACE, SMEX and certain classified
programs. The balance of the operation's business is of an historical nature
and involves wideband filters used for electronic warfare applications.
AVIONICS AND OCEAN SYSTEMS
O AVIATION RECORDERS
L-3 manufactures commercial solid-state crash-protected aviation recorders
("black boxes") under the Fairchild brand name, and has delivered over 40,000
flight recorders to airplane manufacturers and airlines around the world.
Recorders are mandated and regulated by various worldwide agencies for
commercial airlines and a large portion of business aviation aircraft.
Management anticipates growth opportunities in Aviation Recorders as a result
of the current high level of orders for new commercial aircraft. Expansion
into the military market shows continued growth opportunities. L-3 Recorders
were recently selected for installation on the fleet of the Royal Australian
Air Force and Royal Australian Army transport aircraft and are currently
being installed on the U.S. Navy C-9 aircraft. There are two types of
recorders: (i) the Cockpit Voice Recorder ("CVR") which records the last 30
to 120 minutes of crew conversation and ambient sounds from the cockpit and
(ii) the Flight Data Recorder ("FDR") which records the last 25 hours of
aircraft flight parameters such as speed, altitude, acceleration, thrust from
each engine and direction of the flight in its final moments. Recorders are
highly ruggedized instruments, designed to absorb the shock equivalent to
that of an object traveling at 268 knots stopping in 18 inches, fire
resistant to 1,100 degrees centigrade and pressure resistant to 20,000 feet
undersea for 30 days. Management believes that the Company has the leading
worldwide market position for CVR's and FDR's.
O ANTENNA SYSTEMS
Under the Randtron brand name, L-3 produces high performance antennas
designed for surveillance, high-resolution, ultra-wide frequency bands,
detection of low radar cross section ("LRCS") targets, LRCS installations,
severe environmental applications and polarization diversity. L-3's main
antenna product is a sophisticated 24-foot diameter antenna operational on
all E-2C aircraft. This airborne antenna consists of a 24-foot rotating
aerodynamic radome containing a UHF surveillance radar antenna, IFF antenna
and forward and aft auxiliary antennas. Production of this antenna began in
the early 1980s, and production is planned beyond 2000 for the E-2C, P-3 and
C-130 AEW aircraft. The replacement for this antenna is a very adaptive radar
currently under development for introduction early in the next decade. L-3
also produces broad-band antennas for a variety of tactical aircraft and
rotary joints for the AWAC's and E-2C's antenna. Randtron has delivered over
2,000 aircraft sets of antennas and has a current backlog through 1999.
O DISPLAY SYSTEMS
L-3 specializes in the design, development and manufacture of ruggedized
display system solutions for military and high-end commercial applications.
L-3's current product lines include cathode ray tubes ("CRTs"), the Actiview
family of active matrix liquid crystal displays ("AMLCD"), and a family of
high performance Display Processing systems. L-3 manufactures flat-panel
displays that are used on platforms such as E-2C, F-117, and the LCAC
(Landing Craft Air Cushion) vehicle. Recent new contracts for flat-panel
displays include the SH-60J helicopter and the C-130 Senior Scout. L-3 also
manufactures CRT displays for the E-2C Hawkeye, V-22 Osprey, and F-14 Tomcat
and electronics used in aircraft anti-lock braking systems.
O OCEAN SYSTEMS
The Company is one of the world's leading suppliers of acoustic undersea
warfare systems, having designed, manufactured and supported a broad range of
compact, lightweight, high performance acoustic systems for navies around the
world for over forty years. This experience spans a wide range of platforms,
including helicopters, submarines and surface ships, that employ the
Company's sonar systems and countermeasures.
10
<PAGE>
TELEMETRY, INSTRUMENTATION AND SPACE
The Company is a leader in component products and systems used in
telemetry and instrumentation for airborne applications such as satellites,
aircraft, UAVs, launch vehicles, guided missiles, projectiles and targets.
Telemetry involves the collection of data from these platforms, its
transmission to ground stations for analysis, and its further dissemination
or transportation to another platform. A principal use of this telemetry data
is to measure as many as 1,000 different parameters of the platform's
operation (in much the same way as a flight data recorder on an airplane
measures various flight parameters) and transmit this data to the ground.
Additionally, for satellite platforms, the equipment also acquires the
command uplink that controls the satellite and transmits the necessary data
for ground processing. In these applications, high reliability of components
is crucial because of the high cost of satellite repair and the length of
uninterrupted service required. Telemetry also provides the data to terminate
the flight of missiles and rockets under errant conditions and/or at the end
of a mission. Telemetry and command/control products are currently provided
on missile programs such as AMRAAM, ASRAAM, AIM-9X, JASSM, JDAM, FOTT, ATACMS
and PAC-3, as well as satellite programs such as GPS BLK IIF, GLOBALSTAR,
EARTHWATCH, SBIRS, LUNAR PROSPECTOR and MTSAT.
O AIRBORNE, GROUND AND SPACE TELEMETRY
The Company provides airborne equipment and data link systems to gather
critical information and to process, format and transmit it to the ground
through communication data links from a communications satellite, spacecraft,
aircraft and/or missile. These products are available in both COTS and custom
configurations. Major customers are the major defense contractors who
manufacture aircraft, missiles, warheads, launch vehicles, munitions and
bombs. Ground instrumentation activity occurs at the ground station where the
serial stream of combined data is received and decoded in real-time, as it is
received from the airborne platform. Data can be encrypted and decrypted
during this process, an additional expertise that the Company offers. The
Company recently introduced the NeTstar satellite ground station, which
collapses racks of satellite RF receivers, demodulators and related units
into a PC.
O SPACE PRODUCTS
L-3 offers value-added solutions that require complex product integration,
rich software content and comprehensive support to its customers. The Company
focuses on the following niches within the satellite ground segment equipment
market: telephony, video broadcasting and multimedia. The Company's customers
include foreign PTT's, domestic and international prime communications
infrastructure contractors, telecommunications or satellite service
providers, broadcasters and media-related companies.
EMERGING COMMERCIAL PRODUCTS
O MEDICAL ARCHIVING AND SIMULATION SYSTEMS
The Company markets jointly with GE Medical Systems GEMnet(Trademark), a
cardiac image management and archive system through an exclusive reseller
arrangement with GE Medical Systems. GEMnet(Trademark) eliminates the use of
cinefilm in a cardiac catheterization laboratory by providing a direct
digital connection to the laboratory. The system provides for acquisition,
display, analysis and short-and long-term archive of cardiac patient studies,
providing significant cost savings and process improvements to the hospital.
The Company is an exclusive reseller of EchoNet(Trademark) pursuant to a
reseller arrangement with Heartlab, Inc. EchoNet(Trademark) is a digital
archive management and review system designed specifically for the
echocardiology profession. The system accepts digital echocardiology studies
from a variety of currently available ultrasound systems, manages the
studies, making them available on a network, and allows the physicians and
technicians to become more productive. EchoNet(Trademark) is a trademark of
Heartlab, Inc. GEMnet(Trademark) is a trademark of GE.
The Company has approximately a one-third equity ownership interest in
Medical Education Technologies, Inc. ("METI"). METI is a medical technology
company engaged in the development,
11
<PAGE>
manufacture and sale of Human Patient Simulators ("HPS"). The HPS is a
computerized system with a life-like mannequin that reacts to medical
treatments and interventions similar to a human being. Originally oriented to
the anesthesiology training and education domain, METI has expanded into
cardiology, critical care, trauma care, allied health care, military medicine
and continuing medical education. METI's target customers for its HPS include
medical schools throughout the world, colleges with registered nursing
programs, community colleges and state, local and volunteer emergency medical
service organizations.
O WIRELESS LOOP TELECOMMUNICATIONS EQUIPMENT
The Company is applying its wireless communication expertise to introduce
local wireless loop telecommunications equipment using a synchronous Code
Division Multiple Access technology ("CDMA") supporting terrestrial and space
based, fixed and mobile communication services. The system's principal
targeted customer base is emerging market countries and rural areas where
existing telecommunications infrastructure is inadequate or non-existent. The
Company's system will have the potential to interface with low earth orbit
("LEO") PCS systems such as Globalstar, Iridium and/or any local public
telephone network. The Company expects to manufacture for sale certain of the
infrastructure equipment. The Company intends to pursue joint ventures with
third parties for service and distribution capabilities. The Company has
entered into product distribution agreements with Granger Telecom Ltd. for
distribution in parts of Africa, the Middle East and the United Kingdom, and
with Unisys for distribution in parts of Mexico and South America. This same
technology is also being introduced into the Ellipso "big LEO" program to
provide the key communications capability in the ground and user segments. In
this program, the Company will provide the CDMA processing equipment in the
Ground Control Segment and the Ellipso user terminals, both fixed and mobile.
O AIRPORT SECURITY EQUIPMENT
The FAA has awarded the Company a development contract for next generation
airport security equipment for explosive detection. L-3 has teamed with
Analogic Corporation and GE to design and produce an explosive detection
system ("EDS") utilizing a dual energy computer tomography ("CT") X-ray
system. L-3's EDS system, the eXaminer 3DX(Trademark) 6000, will analyze the
contents of checked baggage at airports for a wide-range of explosive
material as specified by the FAA. The eXaminer 3DX(Trademark) 6000 will
inspect baggage at an average of 675 bags per hour, which will allow
screening of passenger-checked baggage for a large body aircraft, such as a
Boeing 747, in approximately 40 minutes. It can be installed as a stand-alone
unit in a conveyor system or in a mobile van. L-3 has shipped two prototype
test units and FAA certification testing commenced in the first quarter of
1998.
MAJOR CUSTOMERS
The Company's sales are predominantly derived from contracts with agencies
of, and prime contractors to, the Government. Various Government customers
exercise independent purchasing decisions. Sales to the Government generally
are not regarded as constituting sales to one customer. Instead, each
contracting entity is considered to be a separate customer. In 1997, the
Company performed under approximately 150 contracts with value exceeding $1
million for the Government. Pro forma 1997 sales to the Government, including
sales through prime contractors, were $651.1 million. Pro forma sales to
Lockheed Martin were $81.6 million in 1997. The Company's largest program,
representing 13% of 1997 pro forma sales, is a long-term, sole source cost
plus support contract for the U-2 Program. No other program represented more
than 7% of pro forma 1997 sales.
RESEARCH AND DEVELOPMENT
The Company employs scientific, engineering and other personnel to improve
its existing product lines and to develop new products and technologies in
the same or related fields. As of December 31, 1997, the Company employed
approximately 2,000 engineers (of whom over 20% hold advanced degrees). The
pro forma amounts of research and development performed under customer-funded
contracts and Company-sponsored research projects, including bid and proposal
costs, for 1997 were $150.2 million and $46.2 million, respectively.
12
<PAGE>
COMPETITION
The Company's ability to compete for defense contracts depends to a large
extent on the effectiveness and innovativeness of its research and
development programs, its ability to offer better program performance than
its competitors at a lower cost to the Government customer, and its readiness
in facilities, equipment and personnel to undertake the programs for which it
competes. In some instances, programs are sole source or work directed by the
Government to a single supplier. In such cases, there may be other suppliers
who have the capability to compete for the programs involved, but they can
only enter or reenter the market if the Government should choose to reopen
the particular program to competition. Approximately 65% of the Company's
1997 pro forma sales related to sole source contracts.
The Company experiences competition from industrial firms and U.S.
government agencies, some of which have substantially greater resources than
the Company. These competitors include: AlliedSignal, AMP, Inc., Aydin
Corporation, Cubic Corporation, GTE Corporation, Harris Corporation, Hughes,
Motorola and Titan Corporation. A majority of the sales of the Company is
derived from contracts with the Government and its prime contractors, and
such contracts are awarded on the basis of negotiations or competitive bids.
Management does not believe any one competitor or a small number of
competitors is dominant in any of the business areas of the Company.
Management believes the Company will continue to be able to compete
successfully based upon the quality and cost competitiveness of its products
and services.
PATENTS AND LICENSES
Although the Company owns some patents and has filed applications for
additional patents, it does not believe that its operations depend upon its
patents. In addition, the Company's Government contracts generally license it
to use patents owned by others. Similar provisions in the Government
contracts awarded to other companies make it impossible for the Company to
prevent the use by other companies of its patents in most domestic work.
BACKLOG
As of December 31, 1997, the Company's pro forma funded backlog was
approximately $638.1 million. This backlog provides management with a useful
tool to project sales and plan its business on an on-going basis; however, no
assurance can be given that the Company's backlog will become revenues in any
particular period or at all. Funded backlog does not include the total
contract value of multi-year, cost-plus reimbursable contracts, which are
funded as costs are incurred by the Company. Funded backlog also does not
include unexercised contract options which represent the amount of revenue
which would be recognized from the performance of contract options that may
be exercised by customers under existing contracts and from purchase orders
to be issued under indefinite quantity contracts or basic ordering
agreements. Backlog is a more relevant predictor of future sales in the
Secure Communication Systems business area. Current funded backlog in Secure
Communication Systems as of December 31, 1997 was $306.0 million, of which
approximately 93% is expected to be shipped in 1998. The Company believes
backlog is a less relevant factor in the Specialized Communication Products
business area given the nature of its catalog and commercial oriented
business. Overall, approximately 85% of the Company's December 31, 1997
funded backlog is expected to be shipped in 1998.
<TABLE>
<CAPTION>
PRO FORMA
FUNDED BACKLOG AS OF
DECEMBER 31, 1997
--------------------
($ IN MILLIONS)
<S> <C>
Secure Communication Systems ............... $306.0
Specialized Communication Products.......... 332.1
--------------------
$638.1
====================
</TABLE>
GOVERNMENT CONTRACTS
Approximately 73% of the Company's 1997 pro forma sales were made to
agencies of the Government or to prime contractors or subcontractors of the
Government.
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<PAGE>
Approximately 64% of the Company's pro forma 1997 sales mix of contracts
were firm fixed price contracts under which the Company agrees to perform for
a predetermined price. Although the Company's fixed price contracts generally
permit the Company to keep profits if costs are less than projected, the
Company does bear the risk that increased or unexpected costs may reduce
profit or cause the Company to sustain losses on the contract. Generally,
firm fixed price contracts offer higher margin than cost plus type contracts.
All domestic defense contracts and subcontracts to which the Company is a
party are subject to audit, various profit and cost controls and standard
provisions for termination at the convenience of the Government. Upon
termination, other than for a contractor's default, the contractor will
normally be entitled to reimbursement for allowable costs and to an allowance
for profit. Foreign defense contracts generally contain comparable provisions
relating to termination at the convenience of the government. To date, no
significant fixed price contract of the Company has been terminated.
Companies supplying defense-related equipment to the Government are
subject to certain additional business risks peculiar to that industry. Among
these risks are the ability of the Government to unilaterally suspend the
Company from new contracts pending resolution of alleged violations of
procurement laws or regulations. Other risks include a dependence on
appropriations by the Government, changes in the Government's procurement
policies (such as greater emphasis on competitive procurements) and the need
to bid on programs in advance of design completion. A reduction in
expenditures by the Government for products of the type manufactured by the
Company, lower margins resulting from increasingly competitive procurement
policies, a reduction in the volume of contracts or subcontracts awarded to
the Company or substantial cost overruns would have an adverse effect on the
Company's cash flow.
ENVIRONMENTAL MATTERS
The Company's operations are subject to various federal, state and local
environmental laws and regulations relating to the discharge, storage,
treatment, handling, disposal and remediation of certain materials,
substances and wastes used in its operations. The Company continually
assesses its obligations and compliance with respect to these requirements.
Management believes that the Company's current operations are in substantial
compliance with all existing applicable environmental laws and permits. The
Company does not believe that its environmental compliance expenditures will
have a material adverse effect on its financial condition or results of its
operations.
Pursuant to the L-3 Acquisition Agreement, the Company has agreed to
assume certain on-site and off-site environmental liabilities related to
events or activities occurring prior to the L-3 Acquisition. Lockheed Martin
has agreed to retain all environmental liabilities for all facilities no
longer used by the Businesses and to indemnify fully the Company for such
prior site environmental liabilities. Lockheed Martin has also agreed, for
the first eight years following April 1997, to pay 50% of all costs incurred
by the Company above those reserved for on the Company's balance sheet at
April 1997 relating to certain Company-assumed environmental liabilities and,
for the seven years thereafter, to pay 40% of certain reasonable operation
and maintenance costs relating to any environmental remediation projects
undertaken in the first eight years. The Company is aware of environmental
contamination at two of the facilities acquired from Lockheed Martin that
will require ongoing remediation. In November 1997, the Company sold one such
facility located in Sarasota, Florida, while retaining a leasehold interest
in a portion of that facility, to Dames & Moore/Brookhill LLC ("DMB") in a
transaction in which DMB contractually agreed to assume responsibility for
further remediation of the Sarasota site. Management believes that the
Company has established adequate reserves for the potential costs associated
with the assumed environmental liabilities. However, there can be no
assurance that any costs incurred will be reimbursable from the Government or
covered by Lockheed Martin under the terms of the L-3 Acquisition Agreement
or that the Company's environmental reserves will be sufficient.
In connection with the acquisition of Ocean Systems, the Company has
acquired the stock of ELAC. The premises currently leased by ELAC have
environmental contamination consisting of chlorinated solvents in the
groundwater beneath and adjoining the site. However, Honeywell Inc.
("Honeywell"), the previous owner of ELAC and the current owner of the
property, has retained the liability for remediating the ELAC site and has
contractually agreed to indemnify AlliedSignal and ELAC. Management believes
that any necessary remediation will be covered by the Honeywell
indemnification.
14
<PAGE>
PENSION PLANS
In connection with the L-3 Acquisition Agreement, Holdings and L-3
Communications assumed certain liabilities relating to defined benefit
pension plans for present and former employees and retirees of certain
businesses which were transferred from Lockheed Martin to Holdings and L-3
Communications. Prior to the consummation of the L-3 Acquisition, Lockheed
Martin received a letter from the PBGC which requested information regarding
the transfer of such pension plans and indicated that the PBGC believed
certain of such pension plans were underfunded using the PBGC's actuarial
assumptions (which assumptions result in a larger liability for accrued
benefits than the assumptions used for financial reporting under FASB 87).
The PBGC underfunding is related to the Subject Plans. As of December 31,
1997, the Company calculated the net funding position of the Subject Plans
and believes them to be overfunded by approximately $5.9 million under ERISA
assumptions, underfunded by approximately $10.2 million under FASB 87
assumptions and, on a termination basis, underfunded by as much as $57.5
million under PBGC assumptions.
With respect to the Subject Plans, Lockheed Martin entered into an
agreement (the "Lockheed Martin Commitment Agreement") among Lockheed Martin,
L-3 and the PBGC dated as of April 30, 1997. The material terms and
conditions of the Lockheed Martin Commitment Agreement include a commitment
by Lockheed Martin to, under certain circumstances, assume sponsorship of the
Subject Plans or provide another form of financial support for the Subject
Plans. The Lockheed Martin Commitment Agreement will continue with respect to
any Subject Plan until such time as such Subject Plan is no longer
underfunded on a PBGC basis for two consecutive years or, at any time after
May 31, 2002, the Company achieves investment grade credit ratings. Pursuant
to the Lockheed Martin Commitment Agreement, the PBGC agreed that it would
take no further action in connection with the L-3 Acquisition.
In return for the Lockheed Martin Commitment, the Company entered into an
agreement with Lockheed Martin, dated as of April 30, 1997, pursuant to which
the Company provided certain assurances to Lockheed Martin including, but not
necessarily limited to, (i) continuing to fund the Subject Plans consistent
with prior practices and to the extent deductible for tax purposes and, where
appropriate, recoverable under Government contracts, (ii) agreeing to not
increase benefits under the Subject Plans without the consent of Lockheed
Martin, (iii) restricting the Company from a sale of any businesses employing
individuals covered by the Subject Plans if such sale would not result in
reduction or elimination of the Lockheed Martin Commitment with regard to the
specific plan and (iv) if the Subject Plans were returned to Lockheed Martin,
granting Lockheed Martin the right to seek recovery from the Company of those
amounts actually paid, if any, by Lockheed Martin with regard to the Subject
Plans after their return. In addition, upon the occurrence of certain events,
Lockheed Martin, at its option, will have the right to decide whether to
assume sponsorship of any or all of the Subject Plans, even if the PBGC has
not sought to terminate the Subject Plans. The Company has performed its
obligations under the letter agreement with Lockheed Martin and the Lockheed
Martin Commitment and has not received any communications from the PBGC
concerning actions which the PBGC contemplates taking in respect of the
Subject Plans.
EMPLOYEES
As of December 31, 1997, the Company employed approximately 6,100
full-time and part-time employees. The Company believes that its relations
with its employees are good.
Approximately 540 of the Company's employees at its Communication Systems
- -- East operation in Camden, New Jersey are represented by four unions, the
Association of Scientists and Professional Engineering Personnel, the
International Federation of Professional and Technical Engineers, the
International Union of Electronic, Electrical, Salaried, Machine and
Furniture Workers and an affiliate of the International Brotherhood of
Teamsters. Three of the four collective bargaining agreements expire in
mid-1998. While the Company has not yet initiated discussions with
representatives of these unions, management believes it will be able to
negotiate, without material disruption to its business, satisfactory new
collective bargaining agreements with these employees. However, there can be
no assurance that a satisfactory agreement will be reached with the covered
employees or that a material disruption to the Company's Camden operations
will not occur.
15
<PAGE>
Approximately 200 employees of Ocean Systems are represented by the United
Auto Workers. The collective bargaining agreement expires in mid-1999.
Approximately 140 of the employees at Ocean Systems' ELAC subsidiary in Kiel,
Germany are represented by the Metal Trade Industrial Workers of the Hamburg
Region and ELAC is represented by the Association of Metal Industry Employers
for Schleswig-Holstein. The labor contract expires in mid-1998. While the
Company has not yet initiated discussions with representatives of these
unions, management believes it will be able to negotiate, without material
disruption to its business, a satisfactory new labor contract with these
employees. However, there can be no assurance that a satisfactory agreement
will be reached with the covered employees or that material disruption to
operations of ELAC or Ocean Systems will not occur.
ITEM 2. PROPERTIES.
The table below sets forth certain information with respect to
manufacturing facilities and properties of the Company, excluding
non-operating properties held for sale.
<TABLE>
<CAPTION>
LOCATION OWNED LEASED
- -------------------------------------------- ------------- -------------
(THOUSANDS OF SQUARE FEET)
<S> <C> <C>
L-3 Headquarters, NY ....................... -- 58.7
SECURE COMMUNICATION SYSTEMS:
Camden, NJ................................. -- 588.7
Salt Lake City, UT......................... -- 457.6
Sierra Vista, AZ........................... -- 18.8
Camarillo, CA.............................. -- 2.4
El Segundo, CA ............................ -- 1.4
Milpitas, CA............................... -- 21.4
Oakland, CA................................ -- 5.2
Santa Ana, CA.............................. -- 5.0
Santa Clara, CA ........................... -- 6.2
Santa Maria, CA ........................... -- 9.8
Colorado Springs, CO ...................... -- 5.8
Hartford, CT............................... -- 1.8
Chicago, IL................................ -- 7.3
Boston, MA................................. -- 25.6
Annapolis Junction, MD .................... -- 6.6
Wheaton, MD................................ -- 0.5
Moorestown, NJ............................. -- 2.8
Shrewsbury, NJ............................. -- 22.5
New York, NY............................... -- 5.9
Cleveland, OH.............................. -- 1.4
Fairfax, VA................................ -- 1.6
Warrentown, VA ............................ -- 0.8
SPECIALIZED COMMUNICATION PRODUCTS:
Folsom, CA ................................ -- 57.5
Lancaster, CA ............................. -- 5.4
Menlo Park, CA ............................ -- 98.3
San Diego, CA ............................. 196.0 68.9
San Mateo, CA ............................. -- 14.8
Santa Clara, CA ........................... -- 2.0
Sylmar, CA................................. -- 240.0
Sarasota, FL............................... -- 143.7
Merritt Island, FL ........................ -- 1.2
Atlanta, GA ............................... -- 52.1
Alpharetta, GA ............................ 40.0 --
Norcross, GA .............................. -- 4.8
Lowell, MA................................. -- 47.0
Hauppauge, NY ............................. 240.0 --
Warminster, PA ............................ 44.7 --
Hampshire (U.K.)........................... -- 1.2
Kiel, Germany.............................. -- 143.0
------------- -------------
Total....................................... 520.7 2,137.7
============= =============
</TABLE>
16
<PAGE>
ITEM 3. LEGAL PROCEEDINGS.
From time to time the Company is involved in legal proceedings arising in
the ordinary course of its business. Management believes it is adequately
reserved for these liabilities and that there is no litigation pending that
could have a material adverse effect on the Company's financial condition and
its results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
There is no established public trading market for the Company's common
stock. All of the issued and outstanding shares of common stock of the
Company are held by its parent, Holdings.
ITEM 6. SELECTED FINANCIAL DATA.
The selected unaudited pro forma data as of December 31, 1997 and for the
year then ended have been derived from, and should be read in conjunction
with, the unaudited pro forma condensed consolidated financial statements
included elsewhere herein. The unaudited pro forma statement of operations
and other data reflect the L-3 Acquisition, the 1998 Acquisitions and the
Offerings as if such transactions had occurred on January 1, 1997 for the
statement of operations and other data. The balance sheet data reflect the
1998 Acquisitions and the Offerings as if such transactions had occurred on
December 31, 1997.
The selected consolidated (combined) financial data as of December 31,
1997, 1996, 1995 and 1994, and for the nine months ended December 31, 1997,
the three months ended March 31, 1997 and the years ended December 31, 1996
and 1995 have been derived from the audited financial statements for the
respective periods. The selected consolidated (combined) financial data as of
December 31, 1993 and March 31, 1993, the nine months ended December 31, 1993
and the three months ended March 31, 1993 have been derived from the
unaudited financial statements of the Company. In the opinion of management,
such unaudited financial statements reflect all adjustments (consisting of
normal recurring adjustments) considered necessary for a fair presentation of
the results for the interim periods presented.
These selected financial data should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Consolidated (Combined) Financial Statements of the
Company (Predecessor Company) and the Loral Acquired Businesses included
elsewhere herein. Prior to April 1, 1996, the Predecessor Company was only
comprised of Communications Systems -- East.
17
<PAGE>
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
--------------------------- ------------------------------------------------------
NINE THREE NINE THREE
YEAR ENDED MONTHS MONTHS YEAR ENDED DECEMBER 31, MONTHS MONTHS
DECEMBER 31, ENDED ENDED ----------------------------- ENDED ENDED
1997 DEC. 31,(1) MARCH 31, DEC. 31,(3) MARCH 31,(4)
PRO FORMA 1997 1997 1996(2) 1995(3) 1994(3) 1993 1993
-------------- ----------- ----------- --------- -------- -------- ----------- ------------
(IN MILLIONS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Sales ....................... $894.0 $ 546.5 $158.9 $ 543.1 $166.8 $218.9 $200.0 $67.8
Operating income ............ 58.4 51.5(5) 7.9 43.7 4.7 8.4 12.4 5.1
Interest expense, net(6) ... 42.5 28.5 8.4 24.2 4.5 5.5 4.1
Provision (benefit) for
income taxes(6) ........... 4.7 10.7 (0.2) 7.8 1.2 2.3 3.8 2.0
Net income (loss) .......... 11.2 12.3(5) (0.3) 11.7 (1.0) 0.6 4.5 3.1
BALANCE SHEET DATA:
Working capital ............ 131.7 $ 131.8 $ 98.8 $ 21.1 $ 19.3 $ 24.7 $22.8
Total assets ............... 881.1 703.4 593.3 228.5 233.3 241.7 93.5
Long-term debt ............. 414.9 392.0
Invested equity ............ 473.6 194.7 199.5 202.0 59.9
Shareholders' equity ....... 229.2 132.7
OTHER DATA:
EBITDA(7) .................. $ 95.1 $ 78.1 $ 15.7 $ 71.8 $ 16.3 $ 19.9 $ 23.4 $ 7.0
Net cash from (used in)
operating activities ...... 73.9 (16.3) 30.7 9.3 21.8
Net cash (used in) investing
activities ................ (457.8) (4.3) (298.0) (5.5) (3.7)
Net cash from (used in)
financing activities ...... 461.4 20.6 267.3 (3.8) (18.1)
Depreciation expense ....... 22.0 13.3 4.5 14.9 5.5 5.4 6.1 1.8
Amortization expense ....... 14.7 8.9 3.3 13.2 6.1 6.1 4.9 0.1
Capital expenditures ....... 19.9 11.9 4.3 13.5 5.5 3.7 2.6 0.8
Ratios of:
Earnings to fixed
charges(8) ............... 1.3X 1.7X --(9) 1.7X 1.0X 1.4X 2.5X
EBITDA to cash interest
expense(10)(11) .......... 2.4X
Net debt to EBITDA(11) .... 4.0X
</TABLE>
- ------------
(1) Reflects the L-3 Acquisition effective April 1, 1997.
(2) Reflects ownership of Loral's Communication Systems -- West and
Specialized Communication Products businesses commencing April 1, 1996.
(3) Reflects ownership of Communication Systems -- East by Lockheed Martin
effective April 1, 1993.
(4) Reflects the ownership of Communications Systems -- East by GE
Aerospace. The amounts shown herein include only those amounts as
reflected in the financial records of Communications Systems --East.
(5) Includes a nonrecurring, noncash compensation charge of $4.4 million
related to the initial capitalization of the Company, effective April
1, 1997.
(6) For periods prior to April 1, 1997, interest expense and income tax
(benefit) provision were allocated from Lockheed Martin.
(7) EBITDA is defined as operating income plus depreciation expense and
amortization expense (excluding the amortization of deferred debt
issuance costs) and the nonrecurring, noncash compensation charge of
$4.4 million recorded on April 1, 1997. EBITDA is not a substitute for
operating income, net income and cash flow from operating activities as
determined in accordance with generally accepted accounting principles
as a measure of profitability or liquidity. EBITDA is presented as
additional information because management believes it to be a useful
indicator of the Company's ability to meet debt service and capital
expenditure requirements.
(8) For purposes of this computation, earnings consist of income before
income taxes plus fixed charges. Fixed charges consist of interest on
indebtedness plus that portion of lease rental expense representative
of the interest element.
(9) Earnings were insufficient to cover fixed charges by $0.5 million for
the three months ended March 31, 1997.
(10) For purposes of this computation, cash interest expense consists of pro
forma interest expense excluding amortization of deferred debt issuance
costs.
(11) Net debt is defined as long-term debt plus current portion of long-term
debt less cash and cash equivalents.
18
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
GENERAL
The Company is a leading merchant supplier of sophisticated secure
communication systems and specialized communication products including
secure, high data rate communication systems, microwave components, avionics
and ocean systems, telemetry, instrumentation and space products. These
systems and products are critical elements of virtually all major
communication, command and control, intelligence gathering and space systems.
The Company's systems and specialized products are used to connect a variety
of airborne, space, ground-and sea-based communication systems and are
incorporated into the transmission, processing, recording, monitoring and
dissemination functions of these communication systems. The Company's
customers include the DoD, selected Government intelligence agencies, major
aerospace/defense prime contractors, foreign governments and commercial
customers. The Company operates primarily in one industry segment, electronic
components and systems.
All domestic government contracts and subcontracts of the Company are
subject to audit and various cost controls, and include standard provisions
for termination for the convenience of the Government. Multi-year Government
contracts and related orders are subject to cancellation if funds for
contract performance for any subsequent year become unavailable. Foreign
government contracts generally include comparable provisions relating to
termination for the convenience of the relevant foreign government.
The defense industry has recently undergone significant changes
precipitated by ongoing federal budget pressures and new roles and missions
to reflect changing strategic and tactical threats. Since the mid-1980's, the
overall U. S. defense budget has declined in real dollars. In response, the
DoD has focused its resources on enhancing its military readiness, joint
operations and digital command and control communications by incorporating
advanced electronics to improve the performance, reduce operating cost and
extend the life expectancy of its existing and future platforms. The emphasis
on system interoperability, force multipliers and providing battlefield
commanders with real-time data is increasing the electronics content of
nearly all of the major military procurement and research programs. As a
result, the DoD's budget for communications and defense electronics is
expected to grow. According to Federal Sources, an independent private
consulting group, the defense budget for C(3)I is expected to increase from
$31.0 billion in the fiscal year ended September 30, 1997 to $42.0 billion in
the fiscal year ended September 30, 2002, a compound annual growth rate of
6.3%.
ACQUISITION HISTORY
The Company was formed to acquire substantially all of the assets of (i)
nine business units previously purchased by Lockheed Martin as part of its
acquisition of Loral in April 1996 (the "Loral Acquired Businesses") which
include eight business units of Loral ("Specialized Communications products")
and one business unit purchased by Loral as part of its acquisition of the
Defense Systems business of Unisys Corporation in May 1995 ("Communications
System --West"), and (ii) one business unit purchased by Lockheed Martin as
part of its acquisition of the aerospace business of General Electric Company
in April 1993 ("Communication Systems -- East"). Collectively, the Loral
Acquired Businesses and Communications Systems -- East comprise the
"Predecessor Company" or "Businesses".
The Company acquired the assets of the Ocean Systems business ("Ocean
Systems") of Allied Signal, Inc., ILEX Systems ("ILEX") and Satellite
Transmission Systems division ("STS") of California Microwave, Inc. on March
30, 1998, March 4, 1998 and February 5, 1998, respectively.
RESULTS OF OPERATIONS
The following information should be read in conjunction with the Company's
Condensed Consolidated Financial Statements and Consolidated (Combined)
Financial Statements and the notes thereto included herein.
The financial statements reflect the Company's results of operations from
the effective date of the L-3 Acquisition, April 1, 1997.
19
<PAGE>
The Predecessor Company's results of operations is for the three months
ended March 31, 1997 and the years ended December 31, 1996 and 1995 which
include the results of operations of the Loral Acquired Businesses beginning
on April 1, 1996, the effective date of that acquisition by Lockheed Martin.
Therefore, the results of operations for the year ended December 31, 1996
reflect the results of operations of the Loral Acquired Businesses for the
nine months from April 1, 1996 to December 31, 1996. Accordingly, changes
between periods for the year ended December 31, 1997 and the year ended
December 31, 1996 of the Predecessor Company are significantly affected by
the timing of the L-3 Acquisition and Loral Acquired Businesses acquisition.
The results of operations for the year ended December 31, 1995 and the period
from January 1 to March 31, 1996 only comprise the results of operations of
Communications Systems -- East. Operating income of the Company and the
Predecessor Company are not directly comparable between periods indicated as
a result of the effects of valuation of assets and liabilities recorded in
accordance with Accounting Principles Board Opinion No. 16 ("APB 16") by the
Company and the Predecessor Company, in the purchase accounting for the L-3
Acquisition and Loral Acquired Businesses acquisition. Interest expense and
income taxes expense for the periods are also not comparable and the impact
of interest expense and income tax expense on the Company is discussed below.
As indicated in Note 6 to the Consolidated (Combined) Financial Statements
as of December 31, 1997, effective April 1, 1997 the Company has accounted
for the sale of its Hycor business in accordance with FASB Emerging Issues
Task Force Issue No. 87-11 "Allocation of Purchase Price to Assets to Be
Sold". Accordingly, the results of operations of the Hycor business are not
included in the results of operations of the Company for the three months
ended March 31, 1998 and the nine months ended December 31, 1997. Hycor is a
business unit of the Loral Acquired Businesses, and, accordingly, Hycor is
only included in the results of operations of the Predecessor Company
beginning on April 1, 1996, the effective date of the Loral Acquired
Businesses acquisition by Lockheed Martin. On January 29, 1998, the Company
sold the Hycor business, excluding land and buildings, for $3.5 million in
cash subject to adjustment based on final closing net assets.
The results of operations of the Predecessor Company for the three months
ended March 31, 1997 and the years ended December 31, 1996 and 1995, include
certain costs and expenses allocated by Lockheed Martin for corporate office
expenses based primarily on the allocation methodology prescribed by
government regulations pertaining to government contractors. Interest expense
was allocated based on Lockheed Martin's actual weighted average consolidated
interest rate applied to the portion of the beginning of the year invested
equity deemed to be financed by consolidated debt based on Lockheed Martin's
debt to equity ratio on such date. The provision (benefit) for income taxes
was allocated to the Predecessor Company as if it were a separate taxpayer,
calculated by applying statutory rates to reported pre-tax income after
considering items that do not enter into the determination of taxable income
and tax credits related to the Predecessor Company. Also, pension and
post-employment benefit costs were allocated based on employee headcount.
Accordingly, the results of operations and financial position hereinafter of
the Predecessor Company may not be the same as would have occurred had the
Predecessor Company been an independent entity.
20
<PAGE>
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
The following table sets forth selected statement of operations data for
the Company and the Predecessor Company for the periods indicated.
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
-------------- --------------------------------------------------------------
NINE MONTHS NINE MONTHS THREE MONTHS THREE MONTHS YEAR
ENDED ENDED ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, MARCH 31, MARCH 31, DECEMBER 31,
1997 1996 1997 1996 1996
-------------- -------------- --------------- -------------- --------------
($ IN MILLIONS)
<S> <C> <C> <C> <C> <C>
Sales ............................. $546.5 $501.9 $158.9 $41.2 $543.1
Costs and expenses ................ 490.6 459.9 151.0 39.5 499.4
Noncash compensation charge........ 4.4 -- -- -- --
Operating income .................. 51.5 42.0 7.9 1.7 43.7
Net interest expense .............. 28.5 22.2 8.4 2.0 24.2
Income (loss) before income taxes 23.0 19.8 (0.5) (0.3) 19.5
Income tax provision (benefit) ... 10.7 7.6 (0.2) 0.2 7.8
Net income (loss).................. 12.3 12.2 (0.3) (0.5) 11.7
</TABLE>
Sales for the nine months ended December 31, 1997 as compared to the
corresponding period in 1996 increased by $44.6 million, of which $30.5
million is attributable to the Loral Acquired Businesses and $14.1 million to
Communication Systems -- East. The increase in sales is attributable to
increased volume in sales of microwave components, CHBDL, UAV programs, F-14
display system contract, power supplies and P3-C Repair Depot.
Operating income for the nine months ended December 31, 1997 as compared
to the corresponding period in 1996 increased by $9.5 million. The net
increase was comprised of increases of $5.8 million attributable to the Loral
Acquired Businesses and $8.1 million to Communication Systems -- East,
partially offset by a nonrecurring, noncash compensation charge of $4.4
million recorded effective April 1, 1997, related to the initial
capitalization of L-3. The increase in operating income for the nine months
ended December 31, 1997 is attributable to increased sales, improved
operating performance on sales of aviation recorders, passive microwave
components and display systems, the GEMnet product-line and P3-C Repair Depot
sales, partially offset by $3.3 million of cost of sales related to ongoing
certification efforts for the Company's Explosive Detection System ("EDS")
contract and lower sales volume on the U-2 Program.
Sales and operating income for the three months ended March 31, 1997
increased by $117.7 million and $6.2 million, respectively, as compared to
the corresponding period in 1996. The increases are attributable to the
acquisition of the Loral Acquired Businesses, offset by losses incurred on
three programs by Communication Systems -- East.
Sales and operating income of the Hycor business included in the
Predecessor Company's results of operations for the three months ended March
31, 1997 and the year ended December 31, 1996 were $1.8 million and $0.0
million, and $7.5 million and $0.3 million, respectively.
Net interest expense for the nine months ended December 31, 1997 was $28.5
million representing interest expense on the Company's outstanding borrowings
(see Note 8 to Consolidated (Combined) Financial Statements as of December
31, 1997), and amortization of debt issuance costs, less interest income of
$1.4 million and interest expense of $0.6 million allocated to the Hycor
business net assets held for sale. Interest expense for the three months
ended March 31, 1997 and the year ended December 31, 1996 was $8.4 million
and $24.2 million, respectively, and was allocated to the Predecessor Company
by applying Lockheed Martin's weighted average consolidated interest rate to
the portion of the Predecessor Company's invested equity account deemed to be
financed by Lockheed Martin's consolidated debt. The increase in interest
expense reflects higher interest rates on the third party debt, as compared
to the interest rate utilized to calculate interest expense by the
Predecessor Company.
The income tax provision for the nine months ended December 31, 1997
reflects the Company's effective income tax rate of 46.5%, which was
significantly impacted by the noncash compensation charge
21
<PAGE>
of $4.4 million which is not deductible for income tax purposes. For the
three months ended March 31, 1997 and in the prior period, income taxes were
allocated to the Predecessor Company by Lockheed Martin and the effective
income tax rate was significantly impacted by amortization of costs in excess
of net assets acquired, which were not deductible for income tax purposes.
See Note 11 to Consolidated (Combined) Financial Statements as of December
31, 1997.
SUPPLEMENTAL ANALYSIS OF ANNUAL RESULTS OF OPERATIONS OF THE COMPANY AND THE
PREDECESSOR COMPANY
As noted above, the Company's financial statements reflect operations
since the effective date of the L-3 Acquisition, April 1, 1997, and the
results of operations for the year ended December 31, 1996 represent the
results of operations of the Predecessor Company, and include the results of
operations of the Loral Acquired Businesses beginning on April 1, 1996, the
effective date of that acquisition. Accordingly, changes between periods for
the year ended December 31, 1997 to the year ended December 31, 1996 of the
Predecessor Company are significantly affected by the timing of these
acquisitions. To enable investors to better assess the trends in the results
of operations and to facilitate comparisons, the following presentation of
results of operations for the year ended December 31, 1997 were obtained by
aggregating, without adjustment, the historical results of operations of the
Predecessor Company for the period from January 1, 1997 through March 31,
1997 with the historical results of operations of the Company for the nine
months period from April 1, 1997 through December 31, 1997 (the "1997
period"), and the results of operations for the year ended December 31, 1996
were obtained by aggregating, without adjustments, the historical results of
operations of the Predecessor Company for the year ended December 31, 1996
with the historical results of operations of the Loral Acquired Businesses
for the period from January 1, 1996 through March 31, 1996 (the "1996
period"). All the historical results were derived from the audited financial
statements for respective periods included herein.
The following table sets forth historical selected statement of operations
data for the Company, Predecessor Company and the Loral Acquired Businesses
for the periods indicated and the related calendar year results of operation
data derived therefrom.
<TABLE>
<CAPTION>
PREDECESSOR PREDECESSOR LORAL ACQUIRED
COMPANY COMPANY COMPANY BUSINESSES
-------------- -------------- -------------- --------------
NINE MONTHS THREE MONTHS YEAR THREE MONTHS
ENDED ENDED ENDED ENDED
DECEMBER 31, MARCH 31, 1997 DECEMBER 31, MARCH 31, 1996
1997 1997 PERIOD 1996 1996 PERIOD
-------------- -------------- -------- -------------- -------------- --------
($ IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C>
Sales................ $546.5 $158.9 $705.4 $543.1 $132.2 $675.3
Costs and expenses .. 490.6 151.0 641.6 499.4 124.4 623.8
Noncash compensation
charge.............. 4.4 -- 4.4 -- -- --
---------------------------- -------- -------------- -------------- --------
Operating income .... $ 51.5 $ 7.9 $ 59.4 $ 43.7 $ 7.8 $ 51.5
============== ============== ======== ============== ============== ========
EBITDA(1) ........... $ 78.1 $ 15.7 $ 93.8 $ 71.8 $ 12.8 $ 84.6
============== ============== ======== ============== ============== ========
</TABLE>
- ------------
(1) EBITDA is defined as operating income plus depreciation expense and
amortization expense (excluding the amortization of debt issuance
costs) and the nonrecurring, noncash compensation charge. EBITDA is not
a substitute for operating income, net income or cash flows from
operating activities as determined in accordance with generally
accepted accounting principles as a measure of profitability or
liquidity. EBITDA is presented as additional information because the
Company believes it to be a useful indicator of the Company's ability
to meet debt service and capital expenditure requirements.
Sales for the 1997 period increased to $705.4 million from $675.3 million
for the 1996 period. Operating income increased to $63.1 million in the 1997
period from $51.5 million in the 1996 period. Operating income is not
directly comparable between the periods as a result of the effects of
valuation of assets and liabilities in accordance with Accounting Principles
Opinion No. 16.
22
<PAGE>
The sales increase in the 1997 period was primarily attributable to sales
of the Loral Acquired Businesses which increased by $18.1 million to $531.4
million in the 1997 period as compared to $513.3 million in the 1996 period.
This sales increase was primarily attributable to increased sales volume on
E2-C antenna program, the E2-C and F-14 display systems and passive microwave
components, additional production and shipments on CHBDL and UAV programs,
and partially offset by lower sales volume on the U-2 Program. Additionally,
sales of Communication Systems --East increased by $12.0 million to $174.0
million in the current period from $162.0 million in the 1996 period, and
were primarily attributable to increased sales of power supplies, the GEMnet
product line and the P3-C Repair Depot.
Operating income increased by $7.9 million or 15.3% to $59.4 million in
the 1997 period from $51.5 million in the 1996 period. Operating income as a
percentage of sales increased to 8.4% in the 1997 period as compared to 7.6%
in the 1996 period. The increase in operating income was largely attributable
to cost reductions, increased sales volume of the Loral Acquired Businesses
and operating improvements at Communications Systems -- East. Operating
income for the 1997 period also included (i) a nonrecurring, noncash
compensation charge of $4.4 million recorded effective April 1, 1997, related
to the initial capitalization of L-3 and (ii) fourth quarter cost of sales of
$3.3 million related to on-going certification efforts for the Company's EDS
contract. Excluding the noncash compensation charge and these EDS costs,
operating income would have been $67.1 million for the 1997 period and
operating income as a percentage of sales would have been 9.5%.
EBITDA for the 1997 period increased by $9.2 million to $93.8 million from
$84.6 million from the 1996 period. EBITDA margin increased to 13.3% for the
1997 period from 12.5% for the 1996 period. The increases in EBITDA and
EBITDA margin were attributable to the items affecting the trends in
operating income between the 1997 period and 1996 period discussed above.
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
The following table sets forth selected statement of operations data for
the Predecessor Company for the periods indicated.
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY
------------------
YEAR ENDED
DECEMBER 31,
------------------
1996 1995
-------- --------
($ IN MILLIONS)
<S> <C> <C>
Sales...................... $543.1 $166.8
Costs and expenses......... 499.4 162.1
Operating income........... 43.7 4.7
Net interest expense....... 24.2 4.5
Income before income
taxes..................... 19.5 0.2
Income tax provision ..... 7.8 1.2
Net income (loss).......... 11.7 (1.0)
</TABLE>
The results of operations of the Loral Acquired Businesses are reflected
in the results of operations of the Predecessor Company beginning on April 1,
1996, the effective date of that acquisition by Lockheed Martin. During 1996,
sales increased to $543.1 million from $166.8 million in 1995. Operating
income increased to $43.7 million compared with $4.7 million in 1995. Net
income increased to $11.7 million as compared to a net loss of $1.0 million
in 1995. The Loral Acquired Businesses contributed $13.6 million to net
income for the year ended December 31, 1996.
The sales increase in 1996 was attributable to the sales of the Loral
Acquired Businesses which contributed $381.1 million of the increase. Sales
of Communication Systems -East decreased in 1996 by $4.8 million as compared
to 1995 primarily due to lower volume on Aegis power supplies and SIGINT
system production, partially offset by Local Management Device/Key Processor
("LMD/KP") production startup.
The increase in 1996 operating income was largely attributable to the
Loral Acquired Businesses, which contributed $36.9 million of the increase.
Communication Systems -East operating income in 1996
23
<PAGE>
increased $2.2 million primarily due to improved operating performance on the
Shipboard Telephone Communications ("STC-2") program partially offset by
increased costs on the Space Station contract. As a percentage of sales,
operating income increased to 8.0% from 2.8%. This increase is attributable
to the improvement in Communication Systems -- East noted above, higher
contract margins and operating improvements in the Loral Acquired Businesses.
Allocated interest expense increased to $24.2 million in 1996 from $4.5
million in 1995 due primarily to the acquisition of the Loral Acquired
Businesses, which was assumed to be fully financed by debt, coupled with a
higher debt-to-equity ratio used in the allocation for Communication Systems
- -- East. See Note 9 to Consolidated (Combined) Financial Statements.
The effective income tax rate declined to 40% in 1996 as compared to 681%
in 1995. The 1995 effective rate was significantly impacted by non-deductible
amortization of costs in excess of net assets acquired. As a percentage of
income subject to tax, such amortization declined significantly in 1996.
LIQUIDITY AND CAPITAL RESOURCES
THE L-3 ACQUISITION
Effective April 1, 1997, the Company purchased the Businesses from
Lockheed Martin for $503.8 million, after a purchase price adjustment of
$21.2 million and acquisition costs of $8.0 million. On November 5, 1997 the
L-3 Acquisition Agreement was amended to finalize the purchase price
adjustment which amounted to $21.2 million of which $15.9 million was
received on April 30, 1997 and $5.3 million was received on November 7, 1997,
plus interest thereon. The amendment also included the assumption by the
Company of Lockheed Martin's rights and obligations under a contract for the
U.S. Army's Command and Control Vehicle ("C(2)V") Mission Module Systems
("MMS"), for which the Company received a cash payment of $12.2 million from
Lockheed Martin.
FINANCING
The L-3 Acquisition was funded by a combination of debt and equity
aggregating $525.0 million. The equity of $125.0 million was comprised of
$80.0 million in cash contributed to Holdings by the Lehman Partnership and
Senior Management and a $45.0 million retained interest in Holdings by
Lockheed Martin representing partial consideration to Lockheed Martin for its
sale of the Businesses to the Company. In connection with the L-3
Acquisition, the Company entered into a $275.0 million credit facility
consisting of $175.0 million of term loans (the "Term Loan Facilities") and a
$100.0 million revolving credit facility (the "Revolving Credit Facility")
(collectively, the "Senior Credit Facilities"). The initial debt balance of
$400.0 million consisted of $175.0 million of borrowings under the Term Loan
Facilities and $225.0 million of 10 3/8% Senior Subordinated Notes (the "1997
Notes") due May 1, 2007.
The required principal payments under the Term Loans Facilities are: $5.0
million in 1998, $11.0 million in 1999, $19.0 million in 2000, $25.0 million
in 2001, $33.2 million in 2002, $20.0 million in 2003, and $25.2 million in
2004, $24.9 million in 2005, and $8.7 million in 2006. Interest payments on
the Term Loan Facilities vary in accordance with the type of borrowings and
are made at a minimum every three months. At December 31, 1997, the Senior
Credit Facilities also included a $100.0 million Revolving Credit Facility.
In February 1998, the Senior Credit Facilities were amended to, among other
things, increase the amount available under the revolving credit facility to
$200.0 million, waive certain excess cash flow prepayments, as defined,
otherwise required, and permit the incurrence of up to an additional $150.0
million of subordinated debt. Other than upon a change of control or the
occurrence of certain asset sales, L-3 Communications will not be required to
repurchase the 1997 Notes until maturity on May 1, 2007. L-3 Communications
is required to make semi-annual interest payments with respect to the 1997
Notes.
The Company has a substantial amount of indebtedness. Based upon the
current level of operations, management believes that the Company's cash flow
from operations, together with available borrowings under the Revolving
Credit Facility, will be adequate to meet its anticipated requirements for
working capital, capital expenditures, research and development expenditures,
program and other discretionary
24
<PAGE>
investments, interest payments and scheduled principal payments for the
foreseeable future including at least the next three years. There can be no
assurance, however, that the Company's business will continue to generate
cash flow at or above current levels or that currently anticipated
improvements will be achieved. If the Company is unable to generate
sufficient cash flow from operations in the future to service its debt, it
may be required to sell assets, reduce capital expenditures, refinance all or
a portion of its existing debt or obtain additional financing. The Company's
ability to make scheduled principal payments, to pay interest on or to
refinance its indebtedness depends on its future performance and financial
results, which, to a certain extent, are subject to general conditions in or
affecting the defense industry and to general economic, political, financial,
competitive, legislative and regulatory factors beyond its control. There can
be no assurance that sufficient funds will be available to enable the Company
to service its indebtedness, including the 1997 Notes, or make necessary
capital expenditures and program and discretionary investments.
On November 5, 1997, L-3 Communications completed its exchange offer
relating to the 1997 Notes and the holders of the 1997 Notes received
registered securities. The 1997 Notes are redeemable at the option of L-3
Communications, in whole or in part, at any time on or after May 1, 2002, at
various redemption prices plus accrued and unpaid interest to the applicable
redemption date. In addition, prior to May 1, 2000, L-3 Communications may
redeem up to 35% of the aggregate principal amount of the 1997 Notes at a
redemption price of 109.375% of the principal amount thereof, plus accrued
and unpaid interest to the redemption date with the net cash proceeds of one
or more equity offerings by Holdings that are contributed to L-3
Communications as common equity capital. See "Risk Factors -- Substantial
Leverage".
The Senior Credit Facilities and the 1997 Notes contain financial
covenants, which remain in effect so long as any amount is owed thereunder by
L-3 Communications. The financial covenants under the Senior Credit
Facilities require that (i) L-3 Communications' debt ratio, as defined, be
less than or equal to 5.50 for the quarter ended December 31, 1997, and that
the maximum allowable debt ratio, as defined, thereafter be further reduced
to less than or equal to 3.1 for the quarters ending after June 30, 2002, and
(ii) L-3 Communications' interest coverage ratio, as defined, be at least
1.85 for the quarter ended December 31, 1997, and thereafter increasing the
interest coverage ratio, as defined, to at least 3.10 for any fiscal quarters
ending after June 30, 2002. At December 31, 1997, L-3 Communications was and
has been in compliance with these covenants at all times.
On February 27, 1998, the Company filed a registration statement with the
Securities and Exchange Commission ("SEC") for the sale of $150.0 million
aggregate principal amount of Senior Subordinated Notes due 2008 (the "Notes
Offering"), and concurrently with the Notes Offering, Holdings filed a
registration statement with the SEC for the sale of common stock for a
proposed maximum aggregate offering price of $100.0 million (the "Common
Stock Offering").
To mitigate risks associated with changing interest rates on certain of
its debt, the Company entered into the interest rate cap and floor contracts
(the "interest rate agreements"). The Company manages exposure to
counterparty credit risk by entering into the interest rate agreements only
with major financial institutions that are expected to perform fully under
the terms of such agreements. Cash payments to (from) the Company and the
counterparties are made at the end of the quarter to the extent due under the
terms of the interest rate agreements. Such payments are recorded as
adjustments to interest expense. The initial costs of the interest rate
agreements are capitalized as deferred debt issuance costs and amortized into
interest expense. The impact of the interest rate agreements on interest
expense was not material for the nine months ended December 31, 1997. See
Note 10 to the Consolidated (Combined) Financial Statements.
1998 ACQUISITIONS
On March 30, 1998, the Company purchased the assets of Ocean Systems for
$67.5 million of cash. On March 4, 1998, the Company purchased the assets of
ILEX for $51.9 million of cash, subject to adjustment based on closing net
assets, and additional consideration based on post-acquisition performance of
ILEX. On February 5, 1998, the Company purchased the assets of STS for $27.0
million in cash, subject to adjustment based upon closing net assets.
25
<PAGE>
The Company financed the 1998 Acquisitions using cash on hand and
borrowings under the Revolving Credit Facility.
The Company considers and executes strategic acquisitions on an ongoing
basis and may be evaluating acquisitions or engaged in acquisition
negotiations at any given time. As of the date hereof, the Company has
completed, has reached agreement on or is in discussions regarding certain
acquisitions, in addition to the 1998 Acquisitions, that are either
individually or in the aggregate not material to the financial condition of
results of operations of the Company.
CASH FLOWS
YEAR ENDED DECEMBER 31, 1997 COMPARED WITH YEARS ENDED DECEMBER 31, 1996 AND
1995
The following table sets forth selected cash flow statement data for the
Company and the Predecessor Company for the periods indicated:
<TABLE>
<CAPTION>
PREDECESSOR PREDECESSOR
COMPANY COMPANY COMPANY
-------------- -------------- ------------------
NINE MONTHS THREE MONTHS YEAR ENDED
ENDED ENDED DECEMBER 31,
DECEMBER 31, MARCH 31, ------------------
1997 1997 1996 1995
-------------- -------------- --------- -------
($ IN MILLIONS)
<S> <C> <C> <C> <C>
Net cash from (used in) operating
activities.................................. $ 73.9 $(16.3) $ 30.7 $ 9.3
Net cash (used in) investing activities ..... (457.8) (4.3) (298.0) (5.5)
Net cash from (used in) financing
activities.................................. 461.4 20.6 267.3 (3.8)
</TABLE>
NET CASH FROM (USED IN) OPERATING ACTIVITIES: Cash provided by operating
activities of the Company for the nine months ended December 31, 1997 was
$73.9 million. Cash provided by operations benefited from improved operating
results, effective management of contracts in process and increases in
accrued employment costs. Contracts in process declined by $18.2 million to
$167.2 million from April 1, 1997 to December 31, 1997, and was primarily
attributable to collections of and reductions in the levels of commercial and
affiliate receivables.
Net cash used in operating activities of the Predecessor Company was $16.3
million for the quarter ended March 31, 1997, resulting primarily from the
increase in contracts in process and decrease in current liabilities. Cash
flows used by the Loral Acquired Businesses was 10.2 million. Cash used for
operating activities by Communication Systems -- East amounted to $6.1
million.
Cash provided by operating activities of the Predecessor Company was $30.7
million in 1996 and $9.3 million in 1995. The increase of $21.4 million in
1996 was due primarily to the impact of the Loral Acquired Businesses which
were acquired by Lockheed Martin effective April 1, 1996. Earnings after
adjustment for non-cash items provided $36.7 million, offset by changes in
other operating assets and liabilities. Without the Loral Acquired
Businesses, cash provided by operating activities for Communication
Systems--East increased to $13.7 million in 1996, 46% over 1995.
The Company's current ratio at December 31, 1997 remained constant at 2.0:
1 as compared to the Predecessor Company's current ratio at December 31,
1996.
NET CASH (USED IN) INVESTING ACTIVITIES: Cash used in investing
activities for the nine months ended December 31, 1997 consisted primarily of
$466.3 million paid by the Company for the L-3 Acquisition (See Note 1 to
Consolidated (Combined) Financial Statements); offset by proceeds from the
sale of the Company's Sarasota, Florida property of approximately $9.5
million and cash received in connection with the assumption of obligations
under the C(2)V MMS contract from Lockheed Martin of $12.2 million. During
the year ended December 31, 1996, $287.8 million was paid by the Predecessor
Company for the acquisition of the Loral Acquired Businesses. See Note 4 to
the Consolidated (Combined) Financial Statements. In addition, for the nine
months ended December 31, 1997 and the three months ended March 31, 1997,
$11.9 million and $4.3 million, respectively, was used for capital
expenditures, and $5.1 million and $0.0, respectively, for purchase of
investments. The Company typically
26
<PAGE>
makes capital expenditures related primarily to improvement of manufacturing
facilities and equipment. The Company expects that its capital expenditures
for 1998 will be approximately $27.0 million.
All transactions between the Businesses and Lockheed Martin have been
accounted as settled in cash at the time such transactions were recorded by
the Businesses. Accordingly, in 1996, cash flows reflect the purchase of the
Loral Acquired Businesses.
NET CASH FROM (USED IN) FINANCING ACTIVITIES: Cash from financing
activities of the Company was $461.4 million for the nine months ended
December 31, 1997, and was due to the debt incurred and proceeds from the
issuance of common stock which were issued to finance the L-3 Acquisition.
See "--Financing" above. Net cash from financing activities also reflects the
payment of debt issue costs of $15.6 million and $3.0 million of scheduled
debt payments of the Term Loan Facilities.
Prior to the L-3 Acquisition, the Businesses participated in the Lockheed
Martin cash management system, under which all cash was received and all
payments were made by Lockheed Martin. For purposes of the statements of cash
flows, all transactions with Lockheed Martin were deemed to have been settled
in cash at the time they were recorded by the Predecessor Company. Net cash
from (used in) financing activities of the Predecessor Company for the three
months ended March 31, 1997 and the years ended December 31, 1996 and 1995,
were approximately $20.6 million, $267.3 million and ($3.8) million,
respectively, and represent advances from (repayments to) Lockheed Martin,
the Predecessor Company's parent company.
BACKLOG
The Company's funded backlog at December 31, 1997 totaled $516.9 million,
as compared with the Predecessor Company's funded backlog at December 31,
1996 of $542.5 million. Funded orders, on a pro forma basis, for the Company
for 1997 were $711.5 million. The Predecessor Company's funded orders for
1996 were $619.5 million. It is expected that 86.0% of the backlog at
December 31, 1997 will be recorded as sales during 1998. However, there can
be no assurance that the Company's backlog will become revenues in any
particular period, if at all. See "Risk Factors -- Backlog". Approximately
81% of the total backlog at December 31, 1997 was directly or indirectly for
defense contracts for end use by the Government. Approximately $434.0 million
of total backlog was directly or indirectly for U.S. and foreign government
defense contracts, and approximately $19.5 million of total backlog was
directly or indirectly for U.S. and foreign government non-defense contracts.
Foreign customers account for approximately $34.6 million of the total
backlog.
RESEARCH AND DEVELOPMENT
Research and development, including bid and proposal, costs ("R&D costs")
sponsored by the Company was $28.9 million for the nine months ended December
31, 1997. R&D costs sponsored by the Predecessor Company were $12.0 million,
$36.5 million and $9.8 million for the three months ended March 31, 1997 and
the years ended December 31, 1996 and 1995, respectively. The Loral Acquired
Businesses sponsored R&D costs of $5.6 million for the three months ended
March 31, 1996 and $21.4 million for the year ended December 31, 1995.
Accordingly, the Company, Predecessor Company and the Loral Acquired
Businesses, in the aggregate, sponsored R&D costs of $40.9 million, $42.1
million and $31.2 million, respectively, for the years ended December 31,
1997, 1996 and 1995. Customer-funded research and development was $117.1
million in 1997, as compared with $153.5 million for 1996. The decrease in
customer-funded research and development in 1997 is due primarily to research
and development programs existing in 1996 which moved into the production
phase during 1997.
CONTINGENCIES
See Note 13 to the Consolidated (Combined) Financial Statements as of
December 31, 1997.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 131, "Disclosure
about Segments of an Enterprise and Related
27
<PAGE>
Information". SFAS No. 131 establishes accounting standards for the way that
public business enterprises report information about operating segments and
requires that those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. In February
1998, the FASB issued SFAS No. 132, "Employers' Disclosures about Pensions
and Other Postretirement Benefits". SFAS No. 132 revises employers'
disclosures about pension and other postretirement benefits plans. It does
not change the measurement or recognition of those plans. It standardizes the
disclosure requirements for pensions and other postretirement benefits to the
extent practicable, requires additional information on changes in the benefit
obligations and fair values of plan assets that will facilitate financial
analysis, and eliminates certain disclosures that are no longer as useful as
they were when SFAS No. 87 "Employers' Accounting for Pensions", SFAS No. 88
"Employers' Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Benefits" and SFAS No. 106 "Employers'
Accounting for Postretirement Benefits Other Than Pensions" were issued. SFAS
132 suggests combined formats for presentation of pension and other
postretirement benefits disclosures. The Company is currently evaluating the
impact, if any, of SFAS No. 131 and SFAS No. 132.
INFLATION
The effect of inflation on the Company's sales and earnings has not been
significant. Although a majority of the Company's sales are made under
long-term contracts, the selling prices of such contracts, established for
deliveries in the future, generally reflect estimated costs to be incurred in
these future periods. In addition, some contracts provide for price
adjustments through escalation clauses.
YEAR 2000 CONVERSION
Under the Company's decentralized structure, each division maintains
and/or outsources its computer-based data processing functions. While each
division is responsible for its own computer-based functions, in late 1997 a
corporate-wide Year 2000 program (the "Program") was instituted for purposes
of overseeing Year 2000 compliance efforts. The Program's major phases
include (i) identification of areas requiring update, which began in late
1997; (ii) assessment of required actions and related impacts, which
commenced in the first quarter of 1998; (iii) development of update schedule
and cost estimates, which is scheduled to be concluded in the second quarter
of 1998 and (iv) implementation of such plan, including follow-up testing,
which is scheduled to commence during the second quarter of 1998 and be
completed by mid-1999. Through December 31, 1997, the costs incurred in
connection with the Program were not material. While these cost estimates
have not been finalized, based upon the type of systems employed by the
Company, costs of the Program are not expected to be material to the results
of operations, liquidity or capital resources of the Company.
28
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
L-3 COMMUNICATIONS CORPORATION
(and the Predecessor Company)
Consolidated (Combined) Financial Statements as of December 31, 1997 and
1996 and for the nine months ended December 31, 1997, the three months ended
March 31, 1997 and the years ended December 31, 1997 and 1996.
29
<PAGE>
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors of
L-3 Communications Corporation:
We have audited the accompanying (i) consolidated balance sheet of L-3
Communications Corporation and subsidiaries (the "Company") as of December
31, 1997, and the related consolidated statements of operations, changes in
shareholders' equity, and cash flows for the nine months then ended, (ii) the
combined statements of operations and cash flows of the Predecessor Company,
as defined in Note 1 to the financial statements, for the three months ended
March 31, 1997 and (iii) combined balance sheet of the Predecessor Company,
as of December 31, 1996 and the related combined statements of operations,
changes in invested equity and cash flows for the year then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based
on our audits. We did not audit the 1996 financial statements of the Lockheed
Martin Communications Systems Division, which statements reflect total assets
and sales constituting 35 percent and 30 percent of the related combined
totals. Those statements were audited by other auditors whose report has been
furnished to us, and our opinion, insofar as it relates to the amounts
included for the Communications Systems Division for 1996, is based solely on
the report of the other auditors.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the financial statements are free
of material misstatements. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits and the report
of the other auditors provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above (i) present
fairly, in all material respects, the consolidated financial position of the
Company and subsidiaries as of December 31, 1997 and their consolidated
results of operations and cash flows for the nine months then ended, and (ii)
based on our audit and the report of other auditors for 1996, present fairly
in all material respects, the combined financial position of the Predecessor
Company as of December 31, 1996 and their combined results of operations, and
cash flows for the year then ended and the three months ended March 31, 1997,
in conformity with generally accepted accounting principles.
/s/ Coopers & Lybrand L.L.P.
1301 Avenue of the Americas
New York, New York 10019
February 2, 1998
30
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors
Lockheed Martin Corporation
We have audited the combined balance sheet of Lockheed Martin
Communications Systems Division, as defined in Note 1 to the financial
statements, as of December 31, 1996, and the related combined statements of
operations, changes in shareholders' equity and invested equity, and cash
flows for the two years in the period ended December 31, 1996. These
financial statements are the responsibility of the Division's and Lockheed
Martin Corporation's management. Our responsibility is to express an opinion
on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the combined financial statements referred to above
present fairly, in all material respects, the combined financial position of
Lockheed Martin Communications Systems Division at December 31, 1996 (not
presented separately herein), and the combined results of its operations and
its cash flows for the year ended December 31, 1996 (not presented separately
herein), and the results of its operations and its cash flows for the period
ended December 31, 1995, in conformity with generally accepted accounting
principles.
/s/ Ernst & Young LLP
Washington, D.C.
March 7, 1997
31
<PAGE>
L-3 COMMUNICATIONS CORPORATION
CONSOLIDATED (COMBINED) BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
CONSOLIDATED COMBINED
----------------- -------------------
DECEMBER 31, 1997 DECEMBER 31, 1996
----------------- -------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ...................................... $ 77,474 --
Contracts in process ........................................... 167,202 $198,073
Net assets held for sale ....................................... 6,653 --
Deferred income taxes .......................................... 13,298 --
Other current assets ........................................... 2,750 3,661
----------------- -------------------
Total current assets ......................................... 267,377 201,734
----------------- -------------------
Property, plant and equipment ................................... 95,034 116,566
Less, accumulated depreciation and amortization ................ 12,025 24,983
----------------- -------------------
83,009 91,583
----------------- -------------------
Intangibles, primarily cost in excess of net assets acquired,
net of amortization ............................................ 297,503 282,674
Deferred income taxes ........................................... 24,217 --
Other assets .................................................... 31,298 17,307
----------------- -------------------
Total assets ................................................. $703,404 $593,298
================= ===================
LIABILITIES AND SHAREHOLDERS' (INVESTED) EQUITY
Current liabilities:
Current portion of long-term debt .............................. $ 5,000 --
Accounts payable, trade ........................................ 33,052 $ 35,069
Accrued employment costs ....................................... 31,162 27,313
Customer advances .............................................. 15,989 3,381
Amounts in excess of costs incurred ............................ 18,469 10,918
Accrued interest ............................................... 4,419 --
Other current liabilities ...................................... 27,476 26,207
----------------- -------------------
Total current liabilities .................................... 135,567 102,888
----------------- -------------------
Pension and postretirement benefits ............................. 38,113 --
Other liabilities ............................................... 5,009 16,801
Long-term debt .................................................. 392,000 --
Commitments and contingencies ...................................
Shareholders' equity
Common Stock, $.01 par value; 100 shares authorized and
outstanding.................................................... -- --
Additional paid-in capital ..................................... 129,410 --
Retained earnings .............................................. 12,305 --
Deemed distribution ............................................ (9,000) --
----------------- -------------------
Total shareholders' and invested equity ......................... 132,715 473,609
----------------- -------------------
Total liabilities and shareholders' and invested equity ..... $703,404 $593,298
================= ===================
</TABLE>
See notes to consolidated (combined) financial statements.
32
<PAGE>
L-3 COMMUNICATIONS CORPORATION
CONSOLIDATED (COMBINED) STATEMENTS OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
CONSOLIDATED COMBINED
----------------- --------------------------------------
NINE MONTHS THREE MONTHS YEAR ENDED DECEMBER 31,
ENDED ENDED ----------------------
DECEMBER 31, 1997 MARCH 31, 1997 1996 1995
----------------- -------------- ---------- ----------
<S> <C> <C> <C> <C>
Sales ............................. $546,525 $158,873 $543,081 $166,781
Costs and expenses ................ 490,669 150,937 499,390 162,132
Noncash compensation charge........ 4,410 -- -- --
----------------- -------------- ---------- ----------
Operating income .................. 51,466 7,936 43,691 4,649
Interest income ................... 1,430 -- -- --
Interest expense .................. 29,884 8,441 24,197 4,475
----------------- -------------- ---------- ----------
Income (loss) before income taxes 22,992 (505) 19,494 174
Income tax expense (benefit) ..... 10,687 (247) 7,798 1,186
----------------- -------------- ---------- ----------
Net income (loss) ................. $ 12,305 $ (258) $ 11,696 $ (1,012)
================= ============== ========== ==========
</TABLE>
See notes to consolidated (combined) financial statements.
33
<PAGE>
L-3 COMMUNICATIONS CORPORATION
CONSOLIDATED (COMBINED) STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY AND
INVESTED EQUITY
FOR THE NINE MONTHS ENDED DECEMBER 31, 1997, THREE MONTHS ENDED
MARCH 31, 1997 AND YEARS ENDED DECEMBER 31, 1996 AND 1995
(IN THOUSANDS EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY COMPANY
COMBINED CONSOLIDATED
------------- ------------------------------------------------------------------------
COMMON STOCK
--------------------- ADDITIONAL
INVESTED SHARES PAID-IN RETAINED EQUITY
EQUITY ISSUED PAR VALUE CAPITAL EARNINGS ADJUSTMENTS TOTAL
------------- -------- ----------- ------------ ---------- ------------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance January 1, 1995 ... $199,506
Repayments to Lockheed
Martin................... (3,831)
Net loss.................. (1,012)
-------------
Balance December 31, 1995 . 194,663
Advances from Lockheed
Martin................... 267,250
Net income................ 11,696
-------------
Balance December 31, 1996 . 473,609
Advances from Lockheed
Martin................... 20,579
Net loss.................. (258)
-------------
Balance March 31, 1997 .... $493,930
============= ======== =========== ============ ========== ============= ==========
Shares Issued............. 100 $-- $125,000 $125,000
Noncash compensation
charge .................. 4,410 4,410
Deemed distribution....... $(9,000) (9,000)
Net Income................ $12,305 12,305
-------- ----------- ------------ ---------- ------------- ----------
Balance December 31, 1997 . 100 $-- $129,410 $12,305 $(9,000) $132,715
======== =========== ============ ========== ============= ==========
</TABLE>
See notes to consolidated (combined) financial statements.
34
<PAGE>
L-3 COMMUNICATIONS CORPORATION
CONSOLIDATED (COMBINED) STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
----------------- ---------------------------------------
NINE MONTHS THREE MONTHS YEAR ENDED DECEMBER 31,
ENDED ENDED -----------------------
DECEMBER 31, 1997 MARCH 31, 1997 1996 1995
----------------- -------------- ----------- ----------
<S> <C> <C> <C> <C>
OPERATING ACTIVITIES:
Net income (loss) ........................... $ 12,305 $ (258) $ 11,696 $(1,012)
Depreciation and amortization ............... 22,190 7,786 28,139 11,578
Noncash compensation charge.................. 4,410 -- -- --
Amortization of deferred debt issuance costs 1,517 -- -- --
Deferred income taxes ....................... 9,991 -- -- --
Changes in operating assets and liabilities,
net of amounts acquired
Contracts in process ....................... 18,161 (17,475) 23,543 (3,267)
Other current assets ....................... (275) (481) 3,049 788
Other assets ............................... 2,141 (761) (8,346) 1,245
Accounts payable ........................... (6,146) (207) 4,104 (648)
Accrued employment costs ................... 6,363 (625) 2,282 (611)
Customer advances .......................... (611) 1,146 (5,541) --
Amounts in excess of costs incurred ....... 1,156 (3,037) (6,045) (2,041)
Accrued interest ........................... 4,419 -- -- --
Other current liabilities .................. (7,132) (1,867) 3,180 4,004
Pension and postretirement benefits ....... 4,284 -- -- --
Other liabilities .......................... 1,087 (500) (25,327) (699)
----------------- -------------- ----------- ----------
Net cash from (used in) operating activities 73,860 (16,279) 30,734 9,337
----------------- -------------- ----------- ----------
INVESTING ACTIVITIES:
Acquisition of business ..................... (466,317) -- (287,803) --
Proceeds from assumption of contract
obligation ................................. 12,176 -- -- --
Net cash from assets held for sale .......... 3,179 -- -- --
Proceeds from sale of property .............. 9,458 -- -- --
Purchases of investments .................... (5,113) -- -- --
Capital expenditures ........................ (11,934) (4,300) (13,528) (5,532)
Disposition of property, plant and equipment 771 -- 3,347 26
----------------- -------------- ----------- ----------
Net cash (used in) investing activities .... (457,780) (4,300) (297,984) (5,506)
----------------- -------------- ----------- ----------
FINANCING ACTIVITIES:
Borrowings under senior credit facility .... 175,000 -- -- --
Proceeds from sale of 10 3/8% senior
subordinated notes ......................... 225,000 -- -- --
Proceeds from issuance of common stock ..... 80,000 -- -- --
Debt issuance costs ......................... (15,606) -- -- --
Payment of debt ............................. (3,000) -- -- --
Advances from (repayments to) Lockheed
Martin ..................................... -- 20,579 267,250 (3,831)
----------------- -------------- ----------- ----------
Net cash from (used in) financing
activities.................................. 461,394 20,579 267,250 (3,831)
----------------- -------------- ----------- ----------
Net change in cash .......................... 77,474 -- -- --
Cash and cash equivalents, beginning of the
period...................................... -- -- -- --
----------------- -------------- ----------- ----------
Cash and cash equivalents, end of the period $ 77,474 $ -- $ -- $ --
================= ============== =========== ==========
</TABLE>
See notes to consolidated (combined) financial statements.
35
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS
(Dollars in thousands)
1. BASIS OF PRESENTATION AND DESCRIPTION OF BUSINESS
The accompanying consolidated financial statements include the assets,
liabilities and results of operations of L-3 Communications Corporation,
Inc., successor company, ("L-3" or the "Company"), a wholly owned subsidiary
of L-3 Communications Holdings, Inc. ("Holdings") following the change in
ownership (see Note 2) effective as of April 1, 1997 and for the period from
April 1, 1997 to December 31, 1997. Prior to April 1, 1997, the statements
comprise substantially all of the assets and liabilities and results of
operations of (i) nine business units previously purchased by Lockheed Martin
Corporation ("Lockheed Martin") as part of its acquisition of Loral
Corporation ("Loral") in April 1996 (the "Loral Acquired Businesses"), and
(ii) one business unit, Communications Systems -- East purchased by Lockheed
Martin as part of its acquisition of the aerospace business of GE in April
1993 (collectively, the "Businesses" or the "Predecessor Company"). The
combined financial statements of the Predecessor Company reflect the
Businesses' assets, liabilities and results of operations included in
Lockheed Martin's historical financial statements. Intercompany accounts
between Lockheed Martin and the Businesses have been included in Invested
Equity. The assets and operations of the semiconductor product line and
certain other facilities which are not material have been excluded from the
combined financial statements. Significant intercompany and inter-business
transactions and balances have been eliminated.
The Company is a supplier of sophisticated secure communication systems
and specialized communication products including secure, high data rate
communication systems, microwave components, avionics, recorders, telemetry
and space products. The Company's customers include the Department of Defense
(the "DoD"), selected U.S. government intelligence agencies, major
aerospace/defense prime contractors and commercial customers. The Company
operates primarily in one industry segment, electronic components and
systems.
Substantially all the Company's products are sold to agencies of the U.S.
Government, primarily the Department of Defense, to foreign government
agencies or to prime contractors or subcontractors thereof. All domestic
government contracts and subcontracts of the Businesses are subject to audit
and various cost controls, and include standard provisions for termination
for the convenience of the U.S. Government. Multi-year U.S. Government
contracts and related orders are subject to cancellation if funds for
contract performance for any subsequent year become unavailable. Foreign
government contracts generally include comparable provisions relating to
termination for the convenience of the government.
2. CHANGE IN OWNERSHIP TRANSACTION
Holdings and L-3 were formed by Mr. Frank C. Lanza, the former President
and Chief Operating Officer of Loral, Mr. Robert V. LaPenta, the former
Senior Vice President and Controller of Loral (collectively, the "Equity
Executives"), Lehman Brothers Capital Partners III, L.P. and its affiliates
(the "Lehman Partnership") and Lockheed Martin to acquire the Businesses. The
Company was capitalized with an equity contribution from Holdings of
$125,000.
On March 28, 1997, Lanza, LaPenta, the Lehman Partnership, L-3, and
Lockheed Martin entered into a Transaction Agreement (the "L-3 Acquisition
Agreement") whereby Holdings would acquire the Businesses from Lockheed
Martin (the "L-3 Acquisition"). Also included in the acquisition is a
semiconductor product line of another business and certain leasehold
improvements in New York City which were not material. Pursuant to the L-3
Acquisition Agreement, L-3 acquired the Businesses from Lockheed Martin for
$525,000, comprising $458,779 of cash, after a $21,221 reduction related to a
purchase price adjustment, and $45,000 of common equity, representing a 34.9%
interest in Holdings retained by Lockheed Martin, plus acquisition costs of
$8,000.
The Company and Lockheed Martin finalized the purchase price adjustment
pursuant to an amendment to the L-3 Acquisition Agreement dated November 5,
1997, which also included the
36
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
assumption by the Company of Lockheed Martin's rights and obligations under a
contract for the production of mission communication systems for track
vehicles, for which the Company received cash of $12,176.
In connection with the L-3 Acquisition Agreement, Holdings and the Company
anticipated entering into a transition services agreement with Lockheed
Martin pursuant to which Lockheed Martin would provide to L-3 and its
subsidiaries (and L-3 would provide to Lockheed Martin) certain corporate
services of a type previously provided at costs consistent with past
practices until December 31, 1997 (or, in the case of Communication Systems
- -- East (formerly known as Communication Systems -- Camden), for a period of
up to 18 months after the Closing). Lockheed Martin is providing L-3 the
services contemplated by the proposed transaction services agreement in the
absence of any executed agreement. The parties also entered into supply
agreements which reflect previously existing inter-company work transfer
agreements or similar support arrangements upon prices and other terms
consistent with previously existing arrangements. Holdings, the Company and
Lockheed Martin have entered into certain subleases of real property and
cross-licenses of intellectual property.
Pursuant to the L-3 Acquisition Agreement the Company also assumed certain
obligations relating to environmental liabilities and benefit plans.
In accordance with Accounting Principles Board Opinion No. 16, the
acquisition of the Businesses by Holdings and L-3 has been accounted for as a
purchase business combination effective as of April 1, 1997. The purchase
cost (including the fees and expenses related thereto) was allocated to the
tangible and intangible assets and liabilities of the Company based upon
their respective fair values. The assets and liabilities recorded in
connection with the purchase price allocation were $664,800 and $164,400,
respectively. The excess of the purchase price over the fair value of net
assets acquired of $303,200 was recorded as goodwill, and is being amortized
on a straight-line basis over a period of 40 years. As a result of the 34.9%
ownership interest retained by Lockheed Martin, the provisions of Emerging
Issues Task Force Issue Number 88-16 were applied in connection with the
purchase price allocation, which resulted in the recognition of a deemed
distribution of $9,000.
In connection with the determination of the fair value of assets acquired
and pursuant to the provisions of Accounting Principles Board Opinion No. 16,
the Company has valued acquired contracts in process at contract price, less
the estimated cost to complete and an allowance for the Company's normal
profit on its effort to complete such contracts.
Had the L-3 Acquisition occurred on January 1, 1996, the unaudited pro
forma sales and net income for the years ended December 31, 1997 and 1996
would have been $703,600 and $11,890, and $663,200 and $5,290, respectively.
The pro forma results, which are based on various assumptions, are not
necessarily indicative of what would have occurred had the acquisition been
consummated on January 1, 1996. The 1997 and 1996 pro forma sales and net
income have been adjusted to (a) include the operations of the Loral Acquired
Businesses from January 1, 1996 (Note 3) and (b) exclude the operations of
the Hycor business net assets held for sale from January 1, 1996 (Note 6).
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS: Cash equivalents consist of highly liquid
investments with a maturity of three months or less at time of purchase.
STATEMENTS OF CASH FLOWS: Changes in operating assets and liabilities are
net of the impact of acquisitions and final purchase price allocations. The
Predecessor Company participated in Lockheed Martin's cash management system,
under which all cash was received and payments were made by Lockheed Martin.
All transactions between the Predecessor Company and Lockheed Martin have
been accounted for as settled in cash at the time the transactions were
recorded by the Predecessor Company.
37
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
REVENUE RECOGNITION: Sales on production-type contracts are recorded as
units are shipped; profits applicable to such shipments are recorded pro
rata, based upon estimated total profit at completion of the contract. Sales
and profits on cost reimbursable contracts are recognized as costs are
incurred. Sales and estimated profits under other long-term contracts are
recognized under the percentage of completion method of accounting using the
cost-to-cost method. Amounts representing contract change orders or claims
are included in sales only when they can be reliably estimated and their
realization is probable.
Losses on contracts are recognized when determined. Revisions in profit
estimates are reflected in the period, on a cumulative catch-up basis, in
which the facts, requiring the revision, become known.
CONTRACTS IN PROCESS: Costs accumulated on contracts in process include
direct costs, as well as manufacturing overhead, and for government
contracts, general and administrative costs, independent research and
development costs and bid and proposal costs. In accordance with industry
practice, contracts in process contain amounts relating to contracts and
programs with long performance cycles, a portion of which may not be realized
within one year.
PROPERTY, PLANT AND EQUIPMENT: Property, plant and equipment are stated
at cost. Depreciation is provided primarily on the straight-line method over
the estimated useful lives of the related assets. Leasehold improvements are
amortized over the shorter of the lease term or the estimated useful life of
the improvements.
COST IN EXCESS OF NET ASSETS ACQUIRED: The excess of the cost of the L-3
Acquisition over the fair value of the net assets acquired is being amortized
using a straight-line method over a 40 year period. Accumulated amortization
of the Company amounted to $5,741 at December 31, 1997.
The carrying amount of cost in excess of net assets acquired is evaluated
on a recurring basis. Current and future profitability as well as current and
future undiscounted cash flows, excluding financing costs, of the acquired
businesses are primary indicators of recoverability. For the nine months
ended December 31, 1997, there was no reduction to the carrying amount of the
cost in excess of net assets acquired resulting from these evaluations.
PREDECESSOR COMPANY INTANGIBLES: Intangibles, primarily the excess of the
cost of Businesses over the fair value of the net assets acquired, was
amortized using a straight-line method primarily over a 40-year period. Other
intangibles were amortized over their estimated useful lives which range from
11 to 15 years. Amortization expense of the Businesses was $2,655 for the
three months ended March 31, 1997; $10,115 and $6,086 for the years ended
December 31, 1996 and 1995, respectively. Accumulated amortization was
$26,524 at December 31, 1996.
Intangibles of the Predecessor Company include costs allocated to the
Businesses relating to the Request for Funding Authorization ("RFA"),
consisting of over 20 restructuring projects to reduce operating costs,
initiated by General Electric ("GE") Aerospace in 1990 and to the REC Advance
Agreement ("RAA"), a restructuring plan initiated after Lockheed Martin's
acquisition of GE Aerospace. The RAA was initiated to close two regional
electronic manufacturing centers. Restructure costs are reimbursable from the
U.S. Government if savings can be demonstrated to exceed costs. The total
cost of restructuring under the RFA and the RAA represented approximately 15%
of the estimated savings to the U.S. Government and, therefore, a deferred
asset has been recorded by Lockheed Martin. The deferred asset is being
allocated to all the former GE Aerospace sites, including the Communications
Systems Division, on a basis that includes manufacturing labor, overhead, and
direct material less non-hardware subcontracts. At December 31, 1997 and
1996, approximately $2,313 and $4,400, respectively, of unamortized RFA and
RAA costs are deferred on the Company's and the Predecessor Company's
consolidated (combined) balance sheets in other current assets and other
assets.
The carrying values of the Predecessor Company intangibles were reviewed
if the facts and circumstances indicated potential impairment of their
carrying value. If this review indicated that
38
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
intangible assets were not recoverable, as determined based on the
undiscounted cash flows of the entity acquired over the remaining
amortization period, the Businesses carrying values related to the intangible
asset were reduced by the estimated shortfall of cash flows.
INCOME TAXES: The Company provides for income taxes using the liability
method prescribed by the Financial Accounting Standards Board ("FASB")
Statement No. 109, "Accounting for Income Taxes." Under the liability method,
deferred income tax assets and liabilities reflect tax carryforwards and the
net tax effects of temporary differences between the carrying amounts of
assets and liabilities for financial reporting and income tax purposes, as
determined under enacted tax laws and rates. The financial effect of changes
in tax laws or rates is accounted for in the period of enactment.
PREDECESSOR COMPANY INCOME TAXES: The Predecessor Company was included in
the consolidated Federal income tax return and certain combined and separate
state and local income tax returns of Lockheed Martin. However, for purposes
of these financial statements, the provision for income taxes has been
allocated to the Predecessor Company based upon reported combined income
before income taxes. Income taxes, current and deferred, are considered to
have been paid or charged to Lockheed Martin and are recorded through the
invested equity account with Lockheed Martin. The principal components of the
deferred taxes are contract accounting methods, property, plant and
equipment, goodwill amortization and timing of accruals.
RESEARCH AND DEVELOPMENT: Research and development costs sponsored by the
Company and the Predecessor Company include research and development, bid and
proposal costs related to government products and services. These costs
generally are allocated among all contracts and programs in progress under
U.S. Government contractual arrangements. Customer-sponsored research and
development costs incurred pursuant to contracts are accounted for as direct
contract costs.
STOCK OPTIONS: In accordance with Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees" ("APB 25") and related
interpretations, compensation expense for stock options is recognized in
income based on the excess, if any, of the Company's fair value of the stock
at the grant date of the award or other measurement date over the amount an
employee must pay to acquire the stock. The exercise price for stock options
granted to employees equals or exceeds the fair value of Holdings common
stock at the date of grant, thereby resulting in no recognition of
compensation expense by the Company. The Company has adopted the disclosure
- -only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation"
("SFAS 123").
DERIVATIVE FINANCIAL INSTRUMENTS: In the normal course of financing
operations, the Company enters into interest rate cap and floor transactions
for interest rate protection purposes, and not for speculative or trading
purposes. Cash payments to and from the Company and the counterparties are
recorded as a component of interest expense. The initial cost of these
arrangements are deferred and amortized as interest expense.
USE OF ESTIMATES: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenue and expenses
during the reporting period. The most significant of these estimates and
assumptions relate to contract estimates of sales and costs, allocations from
Lockheed Martin, recoverability of recorded amounts of fixed assets and cost
in excess of net assets acquired, litigation and environmental obligations.
Actual results could differ from these estimates.
EARNINGS PER SHARE: Earnings per share data is not presented since the
Company and the Predecessor Company are wholly owned subsidiaries.
39
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
ACCOUNTING PRONOUNCEMENTS: In June 1997, the FASB issued Statement of
Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income" and SFAS No. 131, "Disclosure about Segments of an Enterprise and
Related Information." SFAS No. 130 establishes standards for reporting and
display of comprehensive income and its components (revenues, expenses, gains
and losses) in full set general purpose financial statements. SFAS No. 131
establishes accounting standards for the way that public business enterprises
report selected information about operating segments and requires that those
enterprises report selected information about operating segments in interim
financial reports issued to shareholders. In February 1998, the FASB issued
SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement
Benefits." SFAS No. 132 revises employers' disclosures about pension and
other postretirement benefits plans. It does not change the measurement or
recognition of those plans. It standardizes the disclosure requirements for
pensions and other postretirement benefits to the extent practicable,
requires additional information on changes in the benefit obligations and
fair values of plan assets that will facilitate financial analysis, and
eliminates certain disclosures that are no longer as useful as they were when
SFAS No. 87 "Employers' Accounting for Pensions", SFAS No. 88 "Employers'
Accounting for Settlements and Curtailments of Defined Benefit Pension Plans
and for Termination Benefits" and SFAS No. 106 "Employers' Accounting for
Postretirement Benefits Other Than Pensions" were issued. SFAS No. 132
suggests combined formats for presentation of pension and other
postretirement benefits disclosures. SFAS No. 130 and SFAS No. 131 and SFAS
No. 132 are required to be adopted by 1998. The Company is currently
evaluating the impact, if any, of SFAS No. 130, SFAS No. 131 and SFAS 132.
Effective January 1, 1996, the Businesses adopted SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets To
Be Disposed Of" ("SFAS 121"). SFAS 121 establishes the accounting standards
for the impairment of long-lived assets, certain intangible assets and cost
in excess of net assets acquired to be held and used for long-lived assets
and certain intangible assets to be disposed of. The impact of adopting SFAS
121 was not material.
Effective in December 1997 the Company adopted the provisions of SFAS No.
129, "Disclosure of Information about Capital Structure" ("SFAS 129").
RECLASSIFICATIONS: Certain reclassifications have been made to conform
prior-year amounts to the current-year presentation.
4. PREDECESSOR COMPANY ACQUISITION
Effective April 1, 1996, Lockheed Martin acquired substantially all the
assets and liabilities of the defense businesses of Loral, including the
Wideband Systems Division and the Products Group which are included in the
Businesses. The acquisition of the Wideband Systems Division and Products
Group businesses (the "Loral Acquired Businesses") has been accounted for as
a purchase by Lockheed Martin Communications Systems -- Camden Division
("Division"). The acquisition has been reflected in the financial statements
based on the purchase price allocated to those acquired businesses by
Lockheed Martin. The assets and liabilities recorded in connection with the
purchase price allocation were $401,000 and $113,200, respectively. As such,
the accompanying condensed combined financial statements for periods prior to
April 1, 1997 reflect the results of operations of the Division and the Loral
Acquired Businesses from the effective date of acquisition including the
effects of an allocated portion of cost in excess of net assets acquired
resulting from the acquisition.
40
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
5. CONTRACTS IN PROCESS
Billings and accumulated costs and profits on long-term contracts,
principally with the U.S. Government, comprise the following:
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY COMPANY
---------- -------------
DECEMBER 31,
-------------------------
1997 1996
---------- -------------
<S> <C> <C>
Billed contract receivables..................................... $ 39,029 $ 45,212
Unbilled contract receivables .................................. 33,136 84,814
Other billed receivables, principally commercial and affiliates 31,253 41,154
Inventoried costs .............................................. 82,954 72,880
---------- -------------
186,372 244,060
Less, unliquidated progress payments (19,170) (45,987)
---------- -------------
Net contracts in process........................................ $167,202 $198,073
========== =============
</TABLE>
The U.S. Government has title to or a secured interest in, inventory to
which progress payments are applied. Unbilled contract receivables represent
accumulated costs and profits earned but not yet billed to customers. The
Company believes that substantially all such amounts will be billed and
collected within one year.
The following data has been used in the determination of costs and
expenses:
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
-------------- --------------------------------
NINE THREE
MONTHS MONTHS FOR THE YEAR ENDED
ENDED ENDED DECEMBER 31,
DECEMBER 31, MARCH 31, -------------------
1997 1997 1996 1995
-------------- ----------- --------- --------
<S> <C> <C> <C> <C>
Selling, general and administrative ("SG&A") costs
included in inventoried costs...................... $15,379 $14,536 $14,700 $1,156
Selling, general and administrative costs incurred . 88,527 28,449 82,226 6,525
Independent research and development, including bid
and proposal costs, included in SG&A incurred ..... $28,893 $12,024 $36,500 $9,800
</TABLE>
6. NET ASSETS HELD FOR SALE
The Company has accounted for the allocation of purchase price and the net
assets of its Hycor business in accordance with the FASB's Emerging Issues
Task Force Issue 87-11 "Allocation of Purchase Price to Assets to be Sold"
("EITF 87-11"). Accordingly, the net assets related to the Hycor business as
of April 1, 1997 are included in the accompanying consolidated balance sheet
as "Net assets held for sale". The fair value assigned to such net assets is
based upon management's estimate of the proceeds from the sale of the Hycor
business less the estimated income from operations for such business during
the holding period of April 1, 1997 through January 29, 1998 (the "holding
period"), plus interest expense on debt allocated to such net assets during
the holding period. On January 29, 1998, the Company sold the Hycor business,
excluding land and buildings for $3,500 in cash subject to adjustment based
on final closing net assets. In accordance with EITF 87-11, loss from the
operations of the Hycor business of $108 and interest expense of $552 on the
debt allocated to the Hycor net assets have been excluded from the Company's
consolidated statements of operations for the nine months ended December 31,
1997. Management of the Company expects that any gain or loss realized on the
ultimate disposition of the Hycor business will not have a material impact on
the original purchase price allocation.
41
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
Also included in net assets held for sale at December 31, 1997 is a
Company property located in Atlanta, Georgia.
7. PROPERTY, PLANT AND EQUIPMENT
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY COMPANY
---------- -------------
DECEMBER 31,
-------------------------
1997 1996
---------- -------------
<S> <C> <C>
Land.......................................... $ 6,670 $ 9,200
Buildings and improvements ................... 19,487 27,000
Machinery, equipment, furniture and fixtures 58,978 73,137
Leasehold improvements ....................... 9,899 7,229
---------- -------------
$95,034 $116,566
========== =============
</TABLE>
Depreciation and amortization expense attributable to property, plant and
equipment was $13,320 for the nine months ended December 31, 1997; $4,529 for
the three months ended March 31, 1997, and $14,924 and $5,492 for the years
ended December 31, 1996 and 1995, respectively.
8. DEBT
Long-term debt consists of:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
-----------------
<S> <C>
Term loans............................. $172,000
10 3/8 Senior Subordinated Notes due
2007 ................................. 225,000
-----------------
$397,000
Less current portion of term loans ... 5,000
-----------------
Total long-term debt.................. $392,000
=================
</TABLE>
In connection with the L-3 Acquisition, the Company entered into a credit
facility (the "Senior Credit Facilities") with a syndicate of banks and
financial institutions for $275,000 consisting of $175,000 of term loans (the
"Term Loan Facilities") and a $100,000 revolving credit facility (the
"Revolving Credit Facility"). The Senior Credit Facilities bear interest, at
the option of the Company, at a rate related to (i) the higher of federal
funds rate plus 0.50% per annum or the reference rate published by Bank of
America NT&SA or (ii) LIBOR. At December 31, 1997, such interest rates, based
on various maturities, ranged from 7.625% to 8.625%. Interest payments vary
in accordance with the type of borrowing and are made at a minimum every
three months. The Revolving Credit Facility expires in 2003 and is available
for ongoing working capital and letter of credit needs. The Term Loans mature
in installments until the final maturity date in 2006. Approximately $93,428
of the Revolving Credit Facility is available at December 31, 1997 reflecting
letters of credit of $6,572 drawn against the Revolving Credit Facility of
$100,000. In February 1998, the Senior Credit Facilities were amended to,
among other things, increase the Revolving Credit Facility to $200,000, waive
certain excess cash flow prepayments, as defined, otherwise required and
permit the incurrence of up to an additional $150,000 of subordinated debt.
The Company pays a commitment fee of 0.375% per annum on the unused portion
of the Revolving Credit Facility.
In April 1997, the Company issued $225,000 of 10 3/8% senior subordinated
notes (the "1997 Notes") due May 1, 2007 with interest payable semi-annually
on May 1 and November 1 of each year, commencing November 1, 1997. On
November 5, 1997, the Company completed its exchange offer relating to the
1997
42
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
Notes and the holders of the 1997 Notes received registered securities. The
1997 Notes are redeemable at the option of the Company, in whole or in part,
at any time on or after May 1, 2002, at various redemption prices plus
accrued and unpaid interest to the applicable redemption date. In addition,
prior to May 1, 2000, the Company may redeem up to 35% of the aggregate
principal amount of 1997 Notes at a redemption price of 109.375% of the
principal amount thereof, plus accrued and unpaid interest to the redemption
date with the net cash proceeds of one or more equity offerings by Holdings
that are contributed to the Company as common equity capital.
The Senior Credit Facilities and the 1997 Notes agreement contain
financial and restrictive covenants that limit, among other things, the
ability of the Company to borrow additional funds, dispose of assets, or pay
cash dividends. At December 31, 1997, none of the Company's retained earnings
were available to pay dividends. The Senior Credit Facilities contain
financial covenants, which remain in effect so long as any amount is owed by
the Company thereunder. These financial covenants require that (i) the
Company's debt ratio, as defined, be less than or equal to 5.50 for the
quarter ended December 31, 1997, and that the maximum allowable debt ratio,
as defined, thereafter be further reduced to less than or equal to 3.1 for
the quarters ending after June 30, 2002, and (ii) the Company's interest
coverage ratio, as defined, be at least 1.85 for the quarter ended December
31, 1997, and thereafter increasing the interest coverage ratio, as defined,
to at least 3.10 for any fiscal quarters ended after June 30, 2002. At
December 31, 1997, the Company was in compliance with these covenants.
In connection with the Senior Credit Facilities, the Company has granted
the lenders a first priority lien on substantially all of the Company's
assets including the stock of L-3 Communications Corporation.
The aggregate principal payments for debt, excluding borrowings under the
Revolving Credit Facility, for the five years ending December 31, 1998
through 2002 are: $5,000, $11,000, $19,000, $25,000 and $33,200,
respectively.
The costs related to the issuance of debt have been deferred and are being
amortized as interest expense over the term of the related debt using a
method that approximates the effective interest method.
9. PREDECESSOR COMPANY'S INTEREST EXPENSE
Interest expense has been allocated to the Predecessor Company by applying
Lockheed Martin's weighted average consolidated interest rate to the portion
of the beginning of the period invested equity account deemed to be financed
by consolidated debt, which has been determined based on Lockheed Martin's
debt to equity ratio on such date, except that the acquisition of the Loral
Acquired Businesses has been assumed to be fully financed by debt. Management
of the Businesses believes that this allocation methodology is reasonable.
Interest expense of the Predecessor Company was calculated using the
following balances and interest rates:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER
THREE MONTHS
31,
ENDED ----------------------
MARCH 31, 1997 1996 1995
-------------- ---------- ----------
<S> <C> <C> <C>
Invested Equity $473,609 $482,466 $199,506
Interest Rate .. 7.10% 7.20% 7.40%
</TABLE>
10. FINANCIAL INSTRUMENTS
The Company's financial instruments consist primarily of cash and cash
equivalents, billed contract receivables, other billed receivables
(principally commercial and affiliates), trade accounts payable, customer
advances, debt instruments, and interest rate cap and interest rate floor
contracts. The book values of cash and cash equivalents, billed contract
receivables, other billed receivables (principally
43
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
commercial and affiliates), trade accounts payable and customer advances are
considered to be representative of their respective fair values at December
31, 1997 due to the short-term maturities or expected settlement dates of
these instruments.
The Company's debt instruments consist of term loans and 1997 Notes (Note
8). The carrying values of the term loans approximate fair value because they
are variable-rate loans which bear interest at current market rates.
The 1997 Notes are registered, unlisted public debt which is traded in the
over-the-counter market. The fair value of such debt at December 31, 1997 was
estimated to be approximately $243,000, based on trading activity on December
31, 1997.
To mitigate risks associated with changing interest rates on certain of
its debt, the Company entered into the interest rate agreements. The fair
values of the interest rate caps and interest rate floors (collectively, the
"interest rate agreements") were estimated by discounting expected cash flows
using quoted market interest rates. The Company manages exposure to
counterparty credit risk by entering into the interest rate agreements only
with major financial institutions that are expected to fully perform under
the terms of such agreements. The notional amounts are used to measure the
volume of these agreements and do not represent exposure to credit loss. The
impact of the interest rate agreements was not material to interest expense
for the nine months ended December 31, 1997. Information with respect to the
interest rate agreements is as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
--------------------------
NOTIONAL UNREALIZED
AMOUNT GAINS (LOSSES)
---------- --------------
<S> <C> <C>
Interest rate caps . $100,000 $(1,008)
---------- --------------
Interest rate
floors.............. $ 50,000 $ (263)
---------- --------------
</TABLE>
At December 31, 1996, the Predecessor Company's financial instruments
consisted primarily of billed contract receivables, other billed receivables
(principally commercial and affiliates), trade accounts payable and customer
advances. The book value of billed contract receivables, other billed
receivables (principally commercial and affiliates), trade accounts payable
and customer advances approximated their respective fair values at December
31, 1996, due to the short-term maturities or expected settlement dates of
those instruments.
11. NONCASH COMPENSATION CHARGE
Holdings' Class A Common Stock and Class B Common Stock were issued at per
share prices of $6.47 and $5.00, respectively. The aggregate difference in
issuance prices of $4,410 has been accounted for as a noncash compensation
charge to expense effective on April 1, 1997, related to the initial
capitalization of L-3.
12. INCOME TAXES
THE COMPANY
Pretax income of the Company for the nine months ended December 31, 1997
was $22,992 and was primarily domestic. The components of the Company's
provision for income taxes for the nine months ended December 31, 1997 are:
<TABLE>
<CAPTION>
<S> <C>
Income taxes currently payable, primarily federal $ 696
Deferred income taxes:
Federal .......................................... 8,635
State and local .................................. 1,356
--------
Subtotal ......................................... $ 9,991
--------
Total provision for income taxes .................. $10,687
========
</TABLE>
44
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
The effective income tax rate of the Company for the nine months ended
December 31, 1997 differs from the statutory federal income tax rate for the
following reasons:
<TABLE>
<CAPTION>
<S> <C>
Statutory federal income tax rate .............................. 35.0%
State and local income taxes, net of federal income tax benefit 3.8
Noncash compensation charge..................................... 6.8
Non-deductible goodwill amortization and other expenses ....... 4.4
Research and development and other tax credits ................. (3.5)
-------
Effective income tax rate ...................................... 46.5 %
=======
</TABLE>
The significant components of the Company's net deferred tax assets at
December 31, 1997 are:
<TABLE>
<CAPTION>
<S> <C>
Deferred tax assets:
Other postretirement benefits ....................... $ 8,649
Inventoried costs ................................... 8,711
Compensation and benefits ........................... 528
Pension costs ....................................... 4,177
Property, plant and equipment ....................... 8,098
Income recognition on long-term contracts .......... 3,691
Other, net .......................................... 1,861
Net operating loss and other credit carryforwards .. 2,969
---------
Total deferred tax assets........................... 38,684
Deferred tax liabilities:
Cost in excess of net assets acquired ............... (1,099)
Other, net .......................................... (70)
---------
Total deferred tax liabilities...................... (1,169)
---------
Net deferred tax assets............................... $37,515
=========
The net deferred tax assets are classified as
follows:
Current deferred tax assets ......................... $13,298
Long-term deferred tax assets........................ 24,217
---------
$37,515
=========
</TABLE>
At December 31, 1997, the Company had $2,969 of tax credit carryforwards,
primarily related to U.S. federal net operating losses and research and
experimentation tax credits which expire, if unused, in 2012. The Company
believes that these carryforwards will be available to reduce future income
tax liabilities and has recorded these carryforwards as non-current deferred
tax assets.
PREDECESSOR COMPANY
The (benefit) provision for income taxes for the Predecessor Company was
calculated by applying statutory tax rates to the reported income (loss)
before income taxes after considering items that do not enter into the
determination of taxable income and tax credits reflected in the consolidated
provision of Lockheed Martin, which are related to the Businesses.
Substantially all the income of the Businesses are from domestic operations.
For the three months ended March 31, 1997, it is estimated that the benefit
for deferred taxes represents $1,315. For the years ended December 31, 1996
and 1995, it is estimated that the (benefit) provision for deferred taxes
represents ($2,143) and $3,994, respectively.
45
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
The effective income tax rate of the Predecessor Company differs from the
statutory Federal income tax rate for the following reasons:
<TABLE>
<CAPTION>
FOR THE
THREE MONTHS YEARS ENDED
ENDED DECEMBER 31,
MARCH 31, ----------------
1997 1996 1995
--------------------- -------
<S> <C> <C> <C>
Statutory federal income tax rate ..................... (35.0)% 35.0% 34.0%
Amortization of cost in excess of net assets acquired (8.1) 2 529
Research and development and other tax credits ....... (11.3) (2) --
State and local income taxes, net of federal income
tax benefit and state and local income tax credits .. 4.8 6 101
Foreign sales corporation tax benefits ................ (8.4) (1) --
Other, net ............................................ 9.1 -- 17.0
-------------- ------- -------
Effective income tax rate ............................. (48.9)% 40.0% 681%
============== ======= =======
</TABLE>
13. STOCK OPTIONS
THE COMPANY
Holdings sponsors an option plan for key employees, pursuant to which
options to purchase up to 3,255,815 shares of common stock have been
authorized for grant.
On April 30, 1997, Holdings adopted the 1997 Option Plan for key employees
and granted to the Equity Executives nonqualified options to purchase, at
$6.47 per share, 2,285,714 shares of Class A common stock of Holdings. In
each case, half of the options are "Time Options" and half are "Performance
Options" (collectively, the "Options"). The Time Options become exercisable
with respect to 20% of the shares subject to the Time Options on each of the
first five anniversaries if employment continues through and including such
date. The Performance Options become exercisable nine years after the grant
date, but may become exercisable earlier with respect to up to 20% of the
shares subject to the Performance Options on each of the first five
anniversaries, to the extent certain defined targets are achieved. The
Options, which have a ten year term, become fully exercisable under certain
circumstances, including a change in control.
On July 1, 1997 and November 11, 1997, Holdings granted nonqualified
options to certain officers and other employees of the Company to purchase at
$6.47 per share 689,500 shares of Class A common stock of Holdings
(collectively, the "1997 Options"). Generally, the 1997 Options vest over a
three-year vesting period and expire ten years from the date of grant.
The exercise price for Holdings' stock options granted to employees in
1997 equaled the estimated fair value of Holdings' common stock at the date
of grant. Accordingly, in accordance with APB 25, no compensation expense was
recognized by the Company.
Pro forma information regarding net earnings as required by SFAS 123 has
been determined as if the Company had accounted for its employee stock
options under the fair value method. Because Holdings is a nonpublic entity
the fair value for the options was estimated at the date of grant using the
minimum value method prescribed in SFAS 123, which does not consider the
expected volatility of Holdings' stock price, with the following
weighted-average assumptions for 1997: risk-free interest rate of 6.3%;
dividend yield of 0%; and weighted-average expected option life of 5.49
years.
46
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
For purposes of pro forma disclosures, the compensation cost of the
options based on their estimated fair values is amortized to expense over
vesting periods of the options. The Company's net income for the nine months
ended December 31, 1997 would have decreased to the pro forma amounts
indicated below:
<TABLE>
<CAPTION>
<S> <C>
Net income:
As reported . $12,305
=========
Pro forma..... $11,751
=========
</TABLE>
A summary of the stock option activity for the nine months ended December
31, 1997 is as follows:
<TABLE>
<CAPTION>
SHARES WEIGHTED AVERAGE
(IN THOUSANDS) EXERCISE PRICE
-------------- ----------------
<S> <C> <C>
Options granted ........................ 2,975 $6.47
Options exercised ...................... -- --
Options cancelled ...................... 4 $6.47
Options outstanding, December 31, 1997 2,971 $6.47
Options exercisable, December 31, 1997 -- --
</TABLE>
The weighted-average grant-date fair value of options granted during the
nine months ended December 31, 1997 was $1.82 per option. The weighted
average remaining contract life of the Company's outstanding stock options
was 9.37 years at December 31, 1997.
PREDECESSOR COMPANY
During the three months ended March 31, 1997 and the years ended December
31, 1996 and 1995, certain employees of the Predecessor Company participated
in Lockheed Martin's stock option plans. All stock options granted had 10
year terms and vested over a two year service period. Exercise prices of
options awarded in both years were equal to the market price of the stock on
the date of grant. Pro forma information regarding net earnings (loss) as
required by SFAS No. 123 has been determined as if the Predecessor Company
had accounted for its employee stock options under the fair value method. The
fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions for the three months ended March 31, 1997 and the years ended
December 31, 1996 and 1995, respectively: risk-free interest rates of 5.58%,
5.58% and 6.64%; dividend yield of 1.70%; volatility factors related to the
expected market price of the Lockheed Martin's common stock of .186, .186 and
.216; weighted-average expected option life of five years. The
weighted-average fair values of options granted during 1997, 1996 and 1995
were $17.24, $17.24 and $16.09, respectively.
For the purposes of pro forma disclosures, the options' estimated fair
values are amortized to expense over the options' vesting periods. The
Predecessor Company's pro forma net loss for the three months ended March 31,
1997 and the years ended December 31, 1996 and 1995 were ($386), $11,531, and
$(1,040), respectively.
47
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
14. COMMITMENTS AND CONTINGENCIES
The Company and Predecessor Company leases certain facilities and
equipment under agreements expiring at various dates through 2011. At
December 31, 1997, the Company's future minimum payments for noncancellable
operating leases with initial or remaining terms in excess of one year are as
follows:
<TABLE>
<CAPTION>
OPERATING LEASES
------------------------------------
REAL ESTATE EQUIPMENT TOTAL
------------- ----------- --------
<S> <C> <C> <C>
1998.......... $ 8,599 $295 $ 8,894
1999 ......... 7,734 244 7,978
2000 ......... 10,030 232 10,262
2001 ......... 8,926 29 8,955
2002 ......... 2,795 22 2,817
Thereafter .. 14,393 -- 14,393
------------- ----------- --------
$52,477 $822 $53,299
============= =========== ========
</TABLE>
Real estate lease commitments have been reduced by minimum sublease
rentals of $22,106 due in the future under noncancellable subleases.
Leases covering major items of real estate and equipment contain renewal
and or purchase options which may be exercised by the Company and Predecessor
Company. Rent expense, net of sublease income from other Lockheed Martin
entities, was $7,330 for the Company for the nine months ended December 31,
1997; $2,553 for the Predecessor Company for the three months ended March 31,
1997 and $8,495 and $4,772 for the Predecessor Company for the years ended
December 31, 1996 and 1995, respectively.
The Company is and the Predecessor Company has been engaged in providing
products and services under contracts with the U.S. Government and to a
lesser degree, under foreign government contracts, some of which are funded
by the U.S. Government. All such contracts are subject to extensive legal and
regulatory requirements, and, from time to time, agencies of the U.S.
Government investigate whether such contracts were and are being conducted in
accordance with these requirements. Under government procurement regulations,
an indictment of the Company and the Predecessor Company by a federal grand
jury could result in the Company and the Predecessor Company being suspended
for a period of time from eligibility for awards of new government contracts.
A conviction could result in debarment from contracting with the federal
government for a specified term.
The decline in the U.S. defense budget since the mid-1980s has resulted in
program delays, cancellations and scope reduction for defense contracts in
general. These events may or may not have an effect on the Company's
programs; however, in the event that U.S. Government expenditures for
products of the type manufactured by the Company are reduced, and not offset
by greater commercial sales or other new programs or products, or
acquisitions, there may be a reduction in the volume of contracts or
subcontracts awarded to the Company.
Pursuant to the L-3 Acquisition Agreement, Holdings and the Company have
agreed to assume certain on-site and off-site environmental liabilities
related to events or activities occurring prior to the consummation of the
L-3 Acquisition. Lockheed Martin has agreed to retain all environmental
liabilities for all facilities not used by the Businesses as of April, 1997
and to indemnify fully Holdings for such prior site environmental
liabilities. Lockheed Martin has also agreed, for the first eight years
following April 1997 to pay 50% of all costs incurred by Holdings above those
reserved for on the Company's balance sheet at March 31, 1997 relating to
certain Company-assumed environmental liabilities and, for the seven years
thereafter, to pay 40% of certain reasonable operation and maintenance costs
relating to any
48
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
environmental remediation projects undertaken in the first eight years. The
Company believes that its total liability for known or reasonably probable
environmental claims, even without consideration of the Lockheed Martin
indemnification, would not either individually or collectively have a
material adverse effect upon the Company's financial condition or upon the
results of its operations.
Management continually assesses the Company's obligations with respect to
applicable environmental protection laws. While it is difficult to determine
the timing and ultimate cost to be incurred by the Company in order to comply
with these laws, based upon available internal and external assessments, with
respect to those environmental loss contingencies of which management is
aware, the Company believes that even without considering potential insurance
recoveries, if any, there are no environmental loss contingencies that,
individually or in the aggregate, would be material to the Company's results
of operations. The Company accrues for these contingencies when it is
probable that a liability has been incurred and the amount of the loss can be
reasonably estimated.
The Company and the Predecessor Company have been periodically subject to
litigation, claims or assessments and various contingent liabilities
(including environmental matters) incidental to its business. With respect to
those investigative actions, items of litigation, claims or assessments of
which they are aware, management of the Company is of the opinion that the
probability is remote that, after taking into account certain provisions that
have been made with respect to these matters, the ultimate resolution of any
such investigative actions, items of litigation, claims or assessments will
have a material adverse effect on the financial position or results of
operations of the Company and the Predecessor Company.
15. PENSIONS AND OTHER EMPLOYEE BENEFITS
THE COMPANY
PENSIONS: Holdings and the Company maintain a number of pension plans,
both contributory and noncontributory, covering certain employees.
Eligibility for participation in these plans varies and benefits are
generally based on members' compensation and years of service. The Company's
funding policy is generally to contribute in accordance with cost accounting
standards that affect government contractors, subject to the Internal Revenue
Code and regulations thereon. Plan assets are invested primarily in U.S.
government and agency obligations and listed stocks and bonds.
Pension expense for the nine months ended December 31, 1997 includes the
following components:
<TABLE>
<CAPTION>
<S> <C>
Service cost ................. $ 5,109
Interest cost ................ 8,883
Actual return on plan assets (11,285)
Net deferral ................. 1,581
----------
Total pension cost ........... $ 4,288
==========
</TABLE>
49
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
The following presents the funded status and amounts recognized in the
balance sheet for the Company's pension plans:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
--------------------------------
ASSETS EXCEED ACCUMULATED
ACCUMULATED BENEFITS
BENEFITS EXCEED ASSETS
--------------- ---------------
<S> <C> <C>
Actuarial present value of benefit obligations:
Vested benefits ................................................ $13,742 $152,133
--------------- ---------------
Accumulated benefits ........................................... $13,825 $155,474
Effect of projected future salary increases .................... 3,337 25,795
--------------- ---------------
Projected benefits.............................................. $17,162 $181,269
=============== ===============
Plan assets at fair value........................................ $18,172 $155,278
--------------- ---------------
Plan assets in excess of (less than) projected benefit
obligation...................................................... 1,010 (25,991)
Unrecognized net (gain) loss .................................... (559) 5,683
--------------- ---------------
Prepaid (accrued) pension cost................................... $ 451 $(20,308)
=============== ===============
</TABLE>
The following assumptions were used in accounting for pension plans for
the Company:
<TABLE>
<CAPTION>
APRIL 1, 1997 DECEMBER 31, 1997
--------------- -----------------
<S> <C> <C>
Discount rate .................... 7.50% 7.25%
Rate of increase in compensation 5.00% 5.00%
Rate of return on plan assets ... 9.00% 9.00%
</TABLE>
In connection with the Company's assumption of certain plan obligations
pursuant to the L-3 Acquisition, Lockheed Martin has provided the PBGC with
commitments to assume sponsorship or other forms of financial support under
certain circumstances. In this connection, the Company has provided certain
assurances to Lockheed Martin including, but not limited to, (i) continuing
to fund the pension plans consistent with prior practices and to the extent
deductible for tax purposes and, where appropriate, recoverable under
Government contracts, (ii) agreeing to not increase benefits under the
pension plans without the consent of Lockheed Martin, (iii) restricting the
Company from a sale of any businesses employing individuals covered by the
pension plans if such sale would not result in reduction or elimination of
the Lockheed Martin Commitment with regard to the specific plan and (iv) if
the pension plans were returned to Lockheed Martin, granting Lockheed Martin
the right to seek recovery from the Company of those amounts actually paid,
if any, by Lockheed Martin with regard to the pension plans after their
return.
POST-RETIREMENT HEALTH CARE AND LIFE INSURANCE: In addition to providing
pension benefits, the Company provides certain health care and life insurance
benefits for retired employees and dependents at certain locations.
Participants are eligible for these benefits when they retire from active
service and meet the eligibility requirements for the Company's pension
plans. These benefits are funded primarily on a pay-as-you-go basis with the
retiree generally paying a portion of the cost through contributions,
deductibles and coinsurance provisions.
50
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
Post-retirement health care and life insurance costs for the nine months
ended December 31, 1997 include the following components:
<TABLE>
<CAPTION>
<S> <C>
Service cost .............................................. $ 466
Interest cost ............................................. 840
-------
Total post-retirement health care and life insurance costs $1,306
=======
</TABLE>
The following table presents the amounts recognized in the balance sheet
for the Company at December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
Accumulated post-retirement benefit obligation:
Retirees.................................................... $ 4,702
Fully eligible plan participants ........................... 3,188
Other active plan participants ............................. 10,990
---------
Total accumulated post-retirement benefit obligation ........ $18,880
Unrecognized net loss ....................................... 624
---------
Accrued post-retirement health care and life insurance costs $18,256
=========
</TABLE>
Actuarial assumptions used in determining the December 31, 1997
accumulated post-retirement benefit obligation include a discount rate of
7.25%, an average rate of compensation increase of 5.0% and an assumed health
care cost trend rate of 6.5% in 1997 decreasing gradually to a rate of 4.5%
by the year 2001. The discount rate used at April 1, 1997 was 7.50%. The
other assumptions did not change from April 1, 1997. Increasing the assumed
health care cost trend rate by 1% would change the accumulated
post-retirement benefits obligation at December 31, 1997 by approximately
$2,218 and the aggregate service and interest cost components for the nine
months ended December 31, 1997 by approximately $81 and $113, respectively.
EMPLOYEE SAVINGS PLAN: Under its various employee savings plans, the
Company matches the contributions of participating employees up to a
designated level. The extent of the match, vesting terms and the form of the
matching contribution vary among the plans. Under these plans, the Company's
matching contributions, in cash, for the nine months ended December 31, 1997
was $3,742.
THE PREDECESSOR COMPANY
Certain of the Businesses for the Predecessor Company participated in
various Lockheed Martin-sponsored pension plans covering certain employees.
Eligibility for participation in these plans varies, and benefits are
generally based on members' compensation and years of service. Lockheed
Martin's funding policy was generally to contribute in accordance with cost
accounting standards that affect government contractors, subject to the
Internal Revenue Code and regulations. Since the aforementioned pension
arrangements are part of certain Lockheed Martin defined benefit plans, no
separate actuarial data is available for the portion allocable to the
Businesses. Therefore, no liabilities or assets are reflected in the
accompanying combined financial statements of the Predecessor Company as of
December 31, 1996. The Businesses have been allocated pension costs based
upon participant employee headcount. Net pension expense included in the
accompanying combined financial statements of the Predecessor Company was
$1,848 for the three months ended March 31, 1997, and $7,027 and $4,134, for
the years ended December 31, 1996 and 1995, respectively.
In addition to participating in Lockheed Martin-sponsored pension plans,
certain of the Businesses of the Predecessor Company provided varying levels
of health care and life insurance benefits for retired
51
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
employees and dependents. Participants were eligible for these benefits when
they retired from active service and met the pension plan eligibility
requirements. These benefits are funded primarily on a pay-as-you-go basis
with the retiree generally paying a portion of the cost through
contributions, deductibles and coinsurance provisions. Since the
aforementioned postretirement benefits are part of certain Lockheed Martin
postretirement arrangements, no separate actuarial data is available for the
portion allocable to the Businesses. Accordingly, no liability is reflected
in the accompanying combined financial statements as of combined December 31,
1996 and 1995. The Businesses have been allocated postretirement benefits
cost based on participant employee headcount. Postretirement benefit costs
included in the accompanying combined financial statements was $616 for the
three months ended March 31, 1997 and $2,787 and $2,124 for the years ended
December 31, 1996 and 1995, respectively. Under various employee savings
plans sponsored by Lockheed Martin, the Predecessor Company matched
contributions of participating employees up to a designated level. Under
these plans the matching contributions for the three months ended March 31,
1997 and for the years ended December 31, 1996 and 1995 were $1,241, $3,940
and $1,478, respectively.
16. SUPPLEMENTAL CASH FLOW INFORMATION
Supplemental disclosures to the consolidated statement of cash flows are
as follows:
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
----------------- ------------------------------
YEAR ENDED
NINE MONTHS THREE MONTHS DECEMBER 31,
ENDED ENDED --------------
DECEMBER 31, 1997 MARCH 31, 1997 1996 1995
----------------- -------------- ------ ------
<S> <C> <C> <C> <C>
Interest paid ..... $21,245 -- -- --
================= ============== ====== ======
Income taxes paid $ 109 -- -- --
================= ============== ====== ======
</TABLE>
The Company issued $45,000 of Holdings Class A Common Stock to Lockheed
Martin in a non-cash transaction as partial consideration paid to Lockheed
Martin for the L-3 Acquisition.
17. SALES TO PRINCIPAL CUSTOMERS
The Company and the Predecessor Company operate primarily in one industry
segment, government electronic systems. Sales to principal customers are as
follows:
<TABLE>
<CAPTION>
COMPANY PREDECESSOR COMPANY
-------------- -------------------------------------------
THREE
NINE MONTHS YEAR YEAR
MONTHS ENDED ENDED ENDED ENDED
DECEMBER 31, MARCH 31, DECEMBER 31, DECEMBER 31,
1997 1997 1996 1995
-------------- ----------- -------------- --------------
<S> <C> <C> <C> <C>
U.S. Government Agencies ... $434,020 $128,505 $425,033 $161,617
Foreign (principally foreign
governments) ............... 12,090 13,612 33,475 4,945
Other (principally U.S.
commercial) ................ 100,415 16,756 84,573 219
-------------- ----------- -------------- --------------
$546,525 $158,873 $543,081 $166,781
============== =========== ============== ==============
</TABLE>
18. OTHER TRANSACTIONS WITH LOCKHEED MARTIN
The Company and the Predecessor Company sell products to Lockheed Martin
and its affiliates, net sales for which were $60,402 for the nine months
ended December 31, 1997; $21,171 for the three months
52
<PAGE>
L-3 COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED (COMBINED) FINANCIAL STATEMENTS--(continued)
(Dollars in thousands)
ended March 31, 1997 and $70,658 and $25,874 for the years ended December 31,
1996 and 1995, respectively. Included in Contracts in Process are receivables
from Lockheed Martin and its affiliates of $8,846 and $10,924 at December 31,
1997 and 1996, respectively.
Lockheed Martin provides the Company information systems and other
services and previously provided similar services to the Predecessor Company
for which the Company and the Predecessor Company was charged $13,690,
$4,210, $20,901 and $20,508 for the nine months ended December 31, 1997, the
three months ended March 31, 1997 and the years ended December 31, 1996 and
1995, respectively.
The Predecessor Company relied on Lockheed Martin for certain services,
including treasury, cash management, employee benefits, taxes, risk
management, internal audit, financial reporting, contract administration and
general corporate services. Although certain assets, liabilities and expenses
related to these services have been allocated to the Businesses, the combined
financial position, results of operations and cash flows presented in the
accompanying combined financial statements would not be the same had the
Businesses been independent entities.
The amount of allocated corporate expenses to the Predecessor Company and
reflected in these combined financial statements was estimated based
primarily on an allocation methodology prescribed by government regulations
pertaining to government contractors. Allocated costs to the Businesses were
$5,208 for the three months ended March 31, 1997, and $10,057 and $2,964 for
the years ended December 31, 1996 and 1995, respectively.
19. SUBSEQUENT EVENTS
In February 1998, the Company purchased substantially all the assets and
liabilities of the Satellite Transmission Systems division of California
Microwave, Inc. The purchase price of $27,000 is subject to adjustment based
on closing net assets. The Company used cash on hand to fund the purchase
price.
On December 22, 1997, the Company signed a definitive agreement to
purchase substantially all the assets and liabilities of the Ocean Systems
division of AlliedSignal Inc. The purchase price of $67,500, subject to
adjustment based on closing net working capital, will be financed through
cash on hand and/or borrowings available under the Senior Credit Facilities.
In February 1998, the Company entered into a definitive agreement to
purchase the assets of ILEX Systems ("ILEX") for $51,900 in cash and
additional consideration based on post-acquisition performance of ILEX.
The acquisition of ILEX and Ocean Systems are expected to close during the
first quarter of 1998. The Company plans to finance the purchase prices using
its cash on hand and available borrowings under its revolving credit
facility.
In February 1998, the Company filed a registration statement with the
Securities and Exchange Commission ("SEC") for the sale of $150,000 aggregate
principal amount of Senior Subordinated Notes due 2008 (the "Notes
Offering"), and concurrently with the Notes Offering, Holdings filed a
registration statement with the SEC for the sale of 5.5 million shares of
common stock of Holdings.
53
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None
54
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
DIRECTORS AND EXECUTIVE OFFICERS
The following table provides information concerning the directors and
executive officers of Holdings and L-3 Communications.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------- ----- -----------------------------------------------
<S> <C> <C>
Frank C. Lanza ........... 66 Chairman, Chief Executive Officer and Director
Robert V. LaPenta ........ 52 President, Chief Financial Officer and Director
Michael T. Strianese .... 42 Vice President--Finance and Controller
Christopher C. Cambria .. 39 Vice President--General Counsel and Secretary
Robert F. Mehmel ......... 35 Vice President--Planning and Assistant Secretary
Lawrence H. Schwartz .... 60 Vice President--Business Development
Jimmie V. Adams .......... 61 Vice President--Washington D.C. Operations
Robert RisCassi .......... 62 Vice President--Washington D.C. Operations
David J. Brand(a) ........ 36 Director
Alberto M. Finali ........ 43 Director
Eliot M. Fried(a) ........ 65 Director
Robert B. Millard(b) .... 47 Director
Alan H. Washkowitz(b) ... 57 Director
Thomas A. Corcoran ....... 53 Director
Frank H. Menaker, Jr.(a) 57 Director
John E. Montague(b) ..... 44 Director
</TABLE>
- ------------
(a) Member of the Audit Committee.
(b) Member of the Compensation Committee.
Frank C. Lanza, Chairman and CEO. Mr. Lanza joined the Company in April
1997. From April 1996, when Loral was acquired by Lockheed Martin, until
April 1997, Mr. Lanza was Executive Vice President of Lockheed Martin, a
member of Lockheed Martin's Executive Council and Board of Directors and
President and COO of Lockheed Martin's C(3)I and Systems Integration Sector,
which comprised many of the businesses acquired by Lockheed Martin from
Loral. Prior to the April 1996 acquisition of Loral, Mr. Lanza was President
and COO of Loral, a position he held since 1981. He joined Loral in 1972 as
President of its largest division, Electronic Systems. His earlier experience
was with Dalmo Victor and Philco Western Development Laboratory.
Robert V. LaPenta, President and Chief Financial Officer. Mr. LaPenta
joined the Company in April 1997. From April 1996, when Loral was acquired by
Lockheed Martin, until April 1997, Mr. LaPenta was a Vice President of
Lockheed Martin and was Vice President and Chief Financial Officer of
Lockheed's C(3)I and Systems Integration Sector. Prior to the April 1996
acquisition of Loral, he was Loral's Senior Vice President and Controller, a
position he held since 1981. He joined Loral in 1972 and was named Vice
President and Controller of its largest division in 1974. He became Corporate
Controller in 1978 and was named Vice President in 1979.
Michael T. Strianese, Vice President-Finance and Controller. Mr. Strianese
joined the Company in April 1997. From April 1996, when Loral was acquired by
Lockheed Martin, until April 1997, Mr.
55
<PAGE>
Strianese was Vice President and Controller of Lockheed Martin's C(3)I and
Systems Integration Sector. From 1991 to the April 1996 acquisition of Loral,
he was Director of Special Projects at Loral. Prior to joining Loral, he
spent 11 years with Ernst & Young. Mr. Strianese is a Certified Public
Accountant.
Christopher C. Cambria, Vice President-General Counsel and Secretary. Mr.
Cambria joined the Company in June 1997. From 1994 until joining the Company,
Mr. Cambria was an associate with Fried, Frank, Harris, Shriver & Jacobson.
From 1986 until 1993, he was an associate with Cravath, Swaine & Moore.
Robert F. Mehmel, Vice President-Planning and Assistant Secretary. Mr.
Mehmel joined the Company in April 1997. From April 1996, when Loral was
acquired by Lockheed Martin, until April 1997, Mr. Mehmel was the Director of
Financial Planning and Capital Review for Lockheed Martin's C(3)I and Systems
Integration Sector. From 1984 to 1996, Mr. Mehmel held several accounting and
financial analysis positions at Loral Electronic Systems and Loral. At the
time of Lockheed Martin's acquisition of Loral, he was Corporate Manager of
Business Analysis.
Lawrence H. Schwartz, Vice President-Business Development. Mr. Schwartz
joined the Company in May 1997. From April 1996 until May 1997, Mr. Schwartz
was Vice President of Technology for the C(3)I and System Integration Sector
of Lockheed Martin. Prior to the April 1996 acquisition of Loral, he was
Corporate Vice President of Technology for Loral, a position he held since
1987. Between 1976 and 1987, Mr. Schwartz was Vice President of Engineering,
Senior Vice President of Business Development, Senior Vice President of the
Rapport Program and Senior Vice President of Development Programs at Loral
Electronic Systems.
Jimmie V. Adams, Vice President-Washington, D.C. Operations. General
Jimmie V. Adams (U.S.A.F.-ret.) joined the Company in April 1997. From April
1996 until April 1997, he was Vice President of Lockheed Martin's Washington
Operations for the C(3)I and Systems Integration Sector. Prior to the April
1996 acquisition of Loral he held the same position at Loral since 1993.
Before joining Loral in 1993, he was Commander in Chief, Pacific Air Forces,
Hickam Air Force Base, Hawaii, capping a 35-year career with the U.S. Air
Force. He was also Deputy Chief of Staff for plans and operation for U.S. Air
Force headquarters and Vice Commander of Headquarters Tactical Air Command
and Vice Commander in Chief of the U.S. Air Forces Atlantic at Langley Air
Force Base. He is a command pilot with more than 141 combat missions.
Robert RisCassi, Vice President-Washington, D.C. Operations. General
Robert W. RisCassi (U.S. Army-ret.) joined the Company in April 1997. From
April 1996 until April 1997, he was Vice President of Land Systems for
Lockheed Martin's C(3)I and Systems Integration Sector. Prior to the April
1996 acquisition of Loral he held the same position for Loral since 1993. He
joined Loral in 1993 after retiring
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<PAGE>
as U.S. Army Commander in Chief, United Nations Command/Korea. His 35-year
military career included posts as Army Vice Chief of Staff; Director, Joint
Staff, Joint Chiefs of Staff; Deputy Chief of Staff for Operations and Plans;
and Commander of the Combined Arms Center.
David J. Brand, Director. Mr. Brand has served as a director since April
1997 and is a Managing Director of Lehman Brothers and a principal in the
Global Mergers & Acquisitions Group, leading Lehman Brothers' Technology
Mergers and Acquisitions business. Mr. Brand joined Lehman Brothers in 1987
and has been responsible for merger and corporate finance advisory services
for many of Lehman Brothers' technology and defense industry clients. Mr.
Brand is currently a director of K&F Industries, Inc. Mr. Brand holds an
M.B.A. from Stanford University's Graduate School of Business and a B.S. in
Mechanical Engineering from Boston University.
Alberto M. Finali, Director. Mr. Finali has served as a director since
April 1997 and is a Managing Director of Lehman Brothers and principal of the
Merchant Banking Group, based in New York. Prior to joining the Merchant
Banking Group, Mr. Finali spent four years in Lehman Brothers' London office
as a senior member of the M&A Group. Mr. Finali joined Lehman Brothers in
1987 as a member of the M&A Group in New York and became a Managing Director
in 1997. Prior to joining Lehman Brothers, Mr. Finali worked in the Pipelines
and Production Technology Group of Bechtel, Inc. in San Francisco. Mr. Finali
holds an M.E. and an M.B.A. from the University of California at Berkeley,
and a Laurea Degree in Civil Engineering from the Polytechnic School in
Milan, Italy.
Eliot M. Fried, Director. Mr. Fried has served as a director since April
1997 and is a Managing Director of Lehman Brothers. Mr. Fried joined
Shearson, Hayden Stone, a predecessor firm, in 1976 and became a Managing
Director in 1982. Mr. Fried has extensive experience in portfolio management
and equity research. Mr. Fried is currently a director of Bridgeport
Machines, Inc., Energy Ventures, Inc., SunSource L.P., Vernitron Corporation
and Walter Industries, Inc. Mr. Fried holds an M.B.A. from Columbia
University and a B.A. from Hobart College.
Robert B. Millard, Director. Mr. Millard has served as a director since
April 1997 and is a Managing Director of Lehman Brothers, Head of Lehman
Brothers' Principal Trading & Investments Group and principal of the Merchant
Banking Group. Mr. Millard joined Kuhn Loeb & Co. in 1976 and became a
Managing Director of Lehman Brothers in 1983. Mr. Millard is currently a
director of GulfMark International, Inc. and Energy Ventures, Inc. Mr.
Millard holds an M.B.A. from Harvard University and a B.S. from the
Massachusetts Institute of Technology.
Alan H. Washkowitz, Director. Mr. Washkowitz has served as a director
since April 1997 and is a Managing Director of Lehman Brothers and head of
the Merchant Banking Group, and is responsible for the oversight of Lehman
Brothers Merchant Banking Portfolio Partnership L.P. Mr. Washkowitz joined
Lehman Brothers in 1978 when Kuhn Loeb & Co. was acquired by Lehman Brothers.
Mr. Washkowitz is currently a director of Illinois Central Corporation, K&F
Industries, Inc. and McBride plc. Mr. Washkowitz holds an M.B.A. from Harvard
University, a J.D. from Columbia University and an A.B. from Brooklyn
College.
Thomas A. Corcoran, Director. Mr. Corcoran has served as a director since
July 1997 and has been the President and Chief Operating Officer of the
Electronic Systems Sector of Lockheed Martin Corporation since March 1995.
From 1993 to 1995, Mr. Corcoran was President of the Electronics Group of
Martin Marietta Corporation. Prior to that he worked for General Electric for
26 years and from 1983 to 1993 he held various management positions with GE
Aerospace; he was a company officer from 1990 to 1993. Mr. Corcoran is a
member of the Board of Trustees of Worcester Polytechnic Institute, the Board
of Trustees of Stevens Institute of Technology, the Board of Governors of the
Electronic Industries Association, a Director of the U.S. Navy Submarine
League and a Director of REMEC Corporation.
Frank H. Menaker, Jr., Director. Mr. Menaker has served as a director
since April 1997 and has served as Senior Vice President and General Counsel
of Lockheed Martin since July 1996. He served as Vice President and General
Counsel of Lockheed Martin from March 1995 to July 1996, as Vice President of
Martin Marietta Corporation from 1982 until 1995 and as General Counsel of
Martin Marietta
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Corporation from 1981 until 1995. He is a director of Martin Marietta
Materials, Inc., a member of the American Bar Association and has been
admitted to practice before the United States Supreme Court. Mr. Menaker is a
graduate of Wilkes University and the Washington College of Law at American
University.
John E. Montague, Director. Mr. Montague has served as a director since
April 1997 and has been Vice President, Financial Strategies at Lockheed
Martin responsible for mergers, acquisitions and divestiture activities and
shareholder value strategies since March 1995. Previously, he was Vice
President, Corporate Development and Investor Relations at Martin Marietta
Corporation from 1991 to 1995. From 1988 to 1991, he was Director of
Corporate Development at Martin Marietta Corporation, which he joined in 1977
as a member of the engineering staff. Mr. Montague is a director of Rational
Software Corporation. Mr. Montague received his B.S. from the Georgia
Institute of Technology and an M.S. in engineering from the University of
Colorado.
The Board of Directors intends to appoint two additional directors who are
not affiliated with the Company promptly following the Common Stock Offering.
The additional directors have not yet been identified.
Upon closing of the Common Stock Offering, the Company's certificate of
incorporation will provide for a classified Board of Directors divided into
three classes. Class I will expire at the annual meeting of the stockholders
to be held in 1999; Class II will expire at the annual meeting of the
stockholders to be held in 2000; and Class III will expire at the annual
meeting of the stockholders to be held in 2001. At each annual meeting of the
stockholders, beginning with the 1999 annual meeting, the successors to
directors whose terms will then expire will be elected to serve from the time
of election and qualification until the third annual meeting following
election and until their successors have been duly elected and qualified, or
until their earlier resignation or removal, if any. To the extent there is an
increase or reduction in the number of directors, increase or decrease in
directorships resulting therefrom will be distributed among the three classes
so that, as nearly as possible, each class will consist of an equal number of
directors.
Each executive officer and key employee serves at the discretion of the
Board of Directors.
COMMITTEES OF THE BOARD OF DIRECTORS
The Board of Directors has two standing committees: an Audit Committee and
a Compensation Committee. Currently, the Audit Committee consists of Messrs.
Brand, Fried and Menaker. The Company intends to appoint to the Audit
Committee only persons who qualify as an "independent" director for purposes
of the rules and regulations of the NYSE. The Audit Committee will select and
engage, on behalf of the Company, the independent public accountants to audit
the Company's annual financial statements, and will review and approve the
planned scope of the annual audit. Currently, Messrs. Millard, Montague and
Washkowitz serve as members of the Compensation Committee. The Compensation
Committee establishes remuneration levels for certain officers of the
Company, performs such functions as provided under the Company's employee
benefit programs and executive compensation programs and administers the 1997
Option Plan of Key Employees of Holdings.
COMPENSATION OF DIRECTORS
The current directors of the Company do not receive compensation for their
services as directors. Any non-affiliated directors will receive directors'
fees and reimbursements for their reasonable out-of-pocket expenses in
connection with their travel to and attendance at meetings of the board of
directors or committees thereof.
LIMITATIONS ON LIABILITY AND INDEMNIFICATION MATTERS
The Company's Certificate of Incorporation provides that to the fullest
extent permitted by the Delaware General Corporation Law (the "DGCL"), a
director of the Company shall not be liable to the Company or its
stockholders for monetary damages for breach of fiduciary duty as a director.
Under the DGCL, liability of a director may not be limited (i) for any breach
of the director's duty of loyalty to the
58
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Company or its stockholders, (ii) for acts or omissions not in good faith or
that involve intentional misconduct or a knowing violation of law, (iii) in
respect of certain unlawful dividend payments or stock redemptions or
repurchases and (iv) for any transaction from which the director derives an
improper personal benefit. The effect of the provisions of the Company's
Certificate of Incorporation is to eliminate the rights of the Company and
its stockholders (through stockholders' derivative suits on behalf of the
Company) to recover monetary damages against a director for breach of the
fiduciary duty of care as a director (including breaches resulting from
negligent or grossly negligent behavior), except in the situations described
in clauses (i) through (iv) above. This provision does not limit or eliminate
the rights of the Company or any stockholder to seek nonmonetary relief such
as an injunction or rescission in the event of a breach of a director's duty
of care. In addition, the Company's Bylaws provide that the Company shall
indemnify its directors, officers, employees and agents against losses
incurred by any such person by reason of the fact that such person was acting
in such capacity.
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers or persons controlling the
Company pursuant to the foregoing provisions, the Company has been informed
that, in the opinion of the Commission, such indemnification is against
public policy as expressed in the Securities Act and is therefore
unenforceable.
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ITEM 11. EXECUTIVE COMPENSATION.
EXECUTIVE COMPENSATION
Summary Compensation Table. The following table provides certain summary
information concerning compensation paid or accrued by the Company to or on
behalf of the Company's Chief Executive Officer and each of the four other
most highly compensated executive officers of the Company (the "Named
Executive Officers") during the nine months ended December 31, 1997:
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG TERM COMPENSATION AWARDS
-------------------------------
ANNUAL
SECURITIES
COMPENSATION
--------------------- RESTRICTED UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITION SALARY BONUS STOCK AWARDS STOCK OPTIONS COMPENSATION(1)
---------- --------- ----------------------------- ---------------
<S> <C> <C> <C> <C> <C>
Frank C. Lanza (Chairman and Chief
Executive Officer)(2)................. $542,654 -- 1,142,857 --
Robert V. LaPenta (President and Chief
Financial Officer)(2)................. 356,538 -- 1,142,857 --
Lawrence H. Schwartz (Vice President) . 145,327 $80,000 17,000 --
Jimmie V. Adams (Vice President) ...... 157,854 70,000 15,000 $ 61
Robert RisCassi (Vice President) ...... 125,704 60,000 15,000 611
</TABLE>
- ------------
(1) Represents Company match under savings plan.
(2) On March 2, 1998, each of Mr. Lanza and Mr. LaPenta exercised 228,571
options.
Stock Options Granted in 1997. The following table sets forth information
concerning individual grants of stock options to purchase Holdings' Common
Stock made in 1997 to each of the Named Executive Officers.
OPTION GRANTS
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
------------------------------------------------------------------------
NUMBER OF PERCENT OF
SECURITIES TOTAL OPTIONS
UNDERLYING GRANTED TO EXERCISE
OPTIONS EMPLOYEES IN PRICE EXPIRATION GRANT-DATE
NAME AND PRINCIPAL POSITION GRANTED (#) FISCAL YEAR ($/SH) DATE VALUE(1)
- -------------------------------------- -------------- --------------- ---------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Frank C. Lanza (Chairman and Chief
Executive Officer).................... 1,142,857(2) 38.2% $6.47 April 30, 2007 $2,326,731
Robert V. LaPenta (President and Chief
Financial Officer) ................... 1,142,857(2) 38.2% $6.47 April 30, 2007 $2,326,731
Lawrence H. Schwartz (Vice President) 17,000 0.6% $6.47 July 1, 2007 $ 17,571
Jimmie V. Adams (Vice President) ...... 15,000 0.5% $6.47 July 1, 2007 $ 15,504
Robert RisCassi (Vice President) ...... 15,000 0.5% $6.47 July 1, 2007 $ 15,504
</TABLE>
- ------------
(1) The grant-date valuation of the options was calculated using the
minimum value method described in SFAS No. 123. The minimum value is
computed as the current price of stock at the grant date reduced to
exclude the present value of any expected dividends during the option's
expected life minus the present value of the exercise price, and does
not consider the expected volatility of the price of the stock
underlying the option. The material assumptions underlying the
computations are: an average discount rate 6.3%; a dividend yield of 0%
and a weighted average expected option life of 5.49 years, with the
option lives ranging from 2 years to 10 years.
(2) Half of the options granted consists of Time Options and half consists
of Performance Options. See "--Employment Agreements" for descriptions
of the terms of these options.
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<PAGE>
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND
FY-END OPTION VALUES
<TABLE>
<CAPTION>
VALUE OF
NUMBER OF UNEXERCISED
SECURITIES UNDERLYING IN-THE-MONEY
UNEXERCISED OPTIONS OPTIONS AT
AT FY-END(1) FY-END
------------------------------- ------------------------------
SHARES VALUE
ACQUIRED ON REALIZED
NAME AND PRINCIPAL POSITION EXERCISES (#) ($) EXERCISEABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- -------------------------------------- ------------- ---------- -------------- --------------- ------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Frank C. Lanza (Chairman and Chief
Executive Officer).................... -- -- -- 1,142,857 -- $1,748,571
Robert V. LaPenta (President and Chief
Financial Officer) ................... -- -- -- 1,142,857 -- 1,748,571
Lawrence H. Schwartz (Vice President) -- -- -- 17,000 -- 26,010
Jimmie V. Adams (Vice President) ...... -- -- -- 15,000 -- 22,950
Robert RisCassi (Vice President) ...... -- -- -- 15,000 -- 22,950
</TABLE>
- ------------
(1) At December 31, 1997, none of the outstanding options were exercisable.
PENSION PLAN
The following table shows the estimated annual pension benefits payable
under the L-3 Communications Corporation Pension Plan and Supplemental
Employee Retirement Plan to a covered participant upon retirement at normal
retirement age, based on the career average compensation (salary and bonus)
and years of credited service with the Company.
<TABLE>
<CAPTION>
CAREER AVERAGE COMPENSATION YEARS OF CREDITED SERVICE
- --------------------------- ----------------------------------------------------
15 20 25 30 35
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
$125,000.................... $ 18,981 $ 24,937 $ 29,833 $ 33,856 $ 37,164
150,000.................... 23,172 30,408 36,355 41,243 45,260
175,000.................... 27,364 35,879 42,877 48,629 53,357
200,000.................... 31,556 41,349 49,399 56,015 61,454
225,000.................... 35,747 46,820 55,921 63,402 69,550
250,000.................... 39,939 52,291 62,444 70,788 77,647
300,000.................... 48,322 63,233 75,488 85,561 93,840
400,000.................... 65,089 85,116 101,577 115,106 126,226
450,000.................... 73,472 96,057 114,621 129,879 142,420
500,000.................... 81,855 106,999 127,665 144,651 158,613
750,000.................... 123,772 161,707 192,887 218,515 239,579
</TABLE>
As of December 31, 1997, the current annual compensation and current years
of credited service (including for Messrs. LaPenta, Adams and RisCassi, years
of credited service as an employee of Loral and Lockheed Martin) for each of
the following persons were: Mr. Lanza, $750,000 and one year; Mr. LaPenta,
$500,000 and 26 years; Mr. Adams, $216,011 and 5 years; Mr. RisCassi,
$172,016 and 4 years; and Mr. Schwartz, $229,000 and one year. Compensation
covered under the pension plans includes amounts reported as salary and bonus
in the Summary Compensation Table.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors of Holdings established a Compensation Committee in
June 1997. During the 1997 fiscal year, Messrs. Robert Millard, Steven Berger
and John Montague served as members of the Compensation Committee. None of
these individuals has served at any time as an officer or employee of
Holdings or L-3 Communications. Mr. Berger resigned from Holdings' Board of
Directors and the Compensation Committee in January 1998 and Mr. Washkowitz
was appointed to the Compensation Committee in March 1998. Prior to the
establishment of the Compensation Committee, all decisions relating to
executive compensation were made by Holdings' Board of Directors. Messrs.
Millard and Montague are affiliated with the Lehman Partnership which,
assuming the consummation of the Common Stock Offering and full exercise of
the over-allotment option, holds 37.4% of the Common Stock and is
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<PAGE>
a party to the Stockholders Agreement. Pursuant to the Stockholders
Agreement, the Lehman Partnership has the right, from time to time on or
after the 180-day period following that completion of the initial public
offering and subject to certain conditions, to require the Company to
register under the Securities Act shares of Common Stock held by them. The
Lehman Partnership has the right to request up to four demand registrations
and also has piggyback registration rights. The Company has agreed in the
Stockholders Agreement to pay expenses in connection with, among other
things, (i) up to three demand registrations requested by the Lehman
Partnership and (ii) any registration in which the existing stockholders
participate through piggyback registration rights granted under such
agreement. The Stockholders Agreement also provides that Lehman Brothers Inc.
has the exclusive right to provide investment banking services to Holdings
for the five-year period after the closing of the L-3 Acquisition (except
that the exclusivity period is three years as to cash acquisitions undertaken
by L-3) so long as the Lehman Partnership owns at least 10% of the
outstanding Common Stock. In the event that Lehman Brothers Inc. agrees to
provide any investment banking services to L-3, it will be paid fees that are
mutually agreed upon based on similar transactions and practices in the
investment banking industry.
No executive officer of Holdings or L-3 Communications serves as a member
of the board of directors or compensation committee of any entity which has
one or more executive officers serving as a member of Holdings' Board of
Directors or Compensation Committee.
1997 STOCK OPTION PLAN
In April 1997, Holdings adopted the 1997 Option Plan for Key Employees of
Holdings (the "1997 Stock Option Plan") which authorizes the Compensation
Committee to grant options to key employees of Holdings and its subsidiaries.
On March 10, 1998, the 1997 Stock Option Plan was amended to increase the
shares available for option grants to 4,255,815 shares of Common Stock, of
which 3,246,084 had been granted as of March 31, 1998. The Compensation
Committee of the Board of Directors of Holdings, in its sole discretion,
determines the terms of option agreements, including without limitation the
treatment of option grants in the event of a change of control. The 1997
Stock Option Plan remains in effect for 10 years following the date of
approval.
On April 30, 1997, Holdings granted each of Messrs. Lanza and LaPenta
options to purchase 1,142,857 shares of Common Stock. See "--Employment
Agreements" for a description of the terms of these grants. On July 1, 1997
and November 11, 1997, the Compensation Committee authorized grants of
options to employees of Holdings and its subsidiaries, other than Messrs.
Lanza and LaPenta, to acquire an aggregate of 689,500 shares of Common Stock
at an exercise price of $6.47 per share (the "Employee Options"). Each
Employee Option was granted pursuant to an individual agreement that provides
(i) 20% of shares underlying the option will become exercisable on the first
anniversary of the grant date, 50% will become exercisable on the second
anniversary of the grant date and 30% will become exercisable on the third
anniversary of the grant date; provided that, in the event of an initial
public offering of Common Stock, 15% of the shares underlying the option
(which would otherwise become exercisable on the second anniversary of the
grant date) will become exercisable on the earlier to occur of (A) the
completion of the initial public offering of the Common Stock and (B) the
first anniversary of the grant date; (ii) all shares underlying the option
will become exercisable upon certain events constituting a change of control;
and (iii) the option will expire upon the earliest to occur of (A) the tenth
anniversary of the grant date, (B) one year after termination of employment
due to the optionee's death or permanent disability, (C) immediately upon
termination of the optionee's employment for cause and (D) three months after
termination of optionee's employment for any other reason. On March 2, 1998,
each of Mr. Lanza and Mr. LaPenta exercised options to acquire 228,571 shares
of Common Stock.
EMPLOYMENT AGREEMENTS
Holdings entered into an employment agreement (the "Employment
Agreements") effective on April 30, 1997 with each of Mr. Lanza, Chairman and
Chief Executive Officer of Holdings and L-3 Communications, who will receive
a base salary of $750,000 per annum and appropriate executive level benefits,
and Mr. LaPenta, President and Chief Financial Officer of Holdings and L-3
Communications, who will receive a base salary of $500,000 per annum and
appropriate executive level benefits. The
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<PAGE>
Employment Agreements provide for an initial term of five years, which will
automatically renew for one-year periods thereafter, unless a party thereto
gives notice of its intent to terminate at least 90 days prior to the
expiration of the term.
Upon a termination without cause or resignation for good reason, Holdings
will be obligated, through the end of the term, to (i) continue to pay the
base salary and (ii) continue to provide life insurance and medical and
hospitalization benefits comparable to those provided to other senior
executives; provided, however, that any such coverage shall terminate to the
extent that Mr. Lanza or Mr. LaPenta, as the case may be, is offered or
obtains comparable benefits coverage from any other employer. The Employment
Agreements provide for confidentiality during employment and at all times
thereafter. There is also a noncompetition and non-solicitation covenant
which is effective during the employment term and for one year thereafter;
provided, however, that if the employment terminates following the expiration
of the initial term, the noncompetition covenant will only be effective
during the period, if any, that Holdings pays the severance described above.
Holdings has granted each of Messrs. Lanza and LaPenta (collectively, the
"Equity Executives") nonqualified options to purchase, at $6.47 per share of
Common Stock, 1,142,857 shares of Holdings' initial fully-diluted common
stock. In each case, half of the options will be "Time Options" and half will
be "Performance Options" (collectively, the "Options"). The Time Options will
become exercisable with respect to 20% of the shares subject to the Time
Options on March 2, 1998 and each of the second through fifth anniversaries
of the closing of the L-3 Acquisition (the "Closing") if employment continues
through and including such date. The Performance Options will become
exercisable nine years after the Closing, but will become exercisable earlier
with respect to up to 20% of the shares subject to the Performance Options on
March 2, 1998 and each of the second through fifth anniversaries of the
Closing, to the extent certain EBITDA targets are achieved. The Options will
become fully exercisable under certain circumstances, including a change in
control. The Option term is ten years from the Closing; except that (i) if
the Equity Executive is fired for cause or resigns without good reason, the
Options expire upon termination of employment; (ii) if the Equity Executive
is fired without cause, resigns for good reason, dies, becomes disabled or
retires, the Options expire one year after termination of employment.
Unexercisable Options will terminate upon termination of employment, unless
acceleration is expressly provided for. Upon a change of control, Holdings
may terminate the Options, so long as the Equity Executives are cashed out or
permitted to exercise their Options prior to such change of control.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
All outstanding capital stock of L-3 Communications is owned by Holdings.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Under the L-3 Acquisition Agreement, Lockheed Martin has agreed to
indemnify L-3, subject to certain limitations, for Lockheed Martin's breach
of representations and warranties and L-3 has assumed certain obligations
relating to environmental matters and benefits plans. These obligations
include certain on-site and off-site environmental liabilities related to
events or activities of the Businesses occurring prior to the L-3
Acquisition. Lockheed Martin has agreed to indemnify Holdings, subject to
certain limitations, for its breach of (i) non-environmental representations
and warranties up to $50 million (subject to a $5 million threshold) and (ii)
for the first eight years following April 1997, to pay 50% of all costs
incurred by the Company above those reserved for on the Company's balance
sheet at April 1997 relating to certain Company-assumed environmental
liabilities and, for the seven years thereafter, 40% of certain reasonable
operation and maintenance costs relating to any environmental remediation
projects undertaken in the first eight years (subject to a $6 million
threshold).
Lockheed Martin provides to certain divisions of the Company certain
management information systems services at Lockheed Martin's fully-burdened
cost but without profit. Holdings, L-3 Communications and Lockheed Martin
have entered into certain subleases of real property and cross-licenses of
intellectual property.
In addition, Holdings and Lockheed Martin have entered into a Limited
Noncompetition Agreement (the "Noncompetition Agreement") which, for up to
three years from April 1997, in certain circumstances,
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<PAGE>
precludes Lockheed Martin from engaging in the sale of any products that
compete with the products of the Company that are set forth in the
Noncompetition Agreement for specifically identified application of the
products. Under the Noncompetition Agreement, Lockheed Martin is prohibited,
with certain exceptions, from acquiring any business engaged in the sale of
the specified products referred to in the preceding sentence, although
Lockheed Martin may acquire such a business under circumstances where the
exceptions do not apply provided that it offers to sell such business to L-3
within 90 days of its acquisition. The Noncompetition Agreement does not,
among other exceptions, (i) apply to businesses operated and managed by
Lockheed Martin on behalf of the Government, (ii) prohibit Lockheed Martin
from engaging in any existing businesses and planned businesses as of the
closing of the L-3 Acquisition or businesses that are reasonably related to
existing or planned businesses or (iii) apply to selling competing products
where such products are part of a larger system sold by Lockheed Martin.
In the ordinary course of business L-3 sells products to Lockheed Martin
and its affiliates. Pro forma and aggregated sales to Lockheed Martin were
$81.6 million, $70.7 million and $25.9 million for the years ended December
31, 1997, 1996 and 1995, respectively. See Note 19 to the Consolidated
(Combined) Financial Statements.
Sales of products to Lockheed Martin, excluding those under existing
intercompany work transfer agreements, are made on terms no less favorable
than those which would be available from non-affiliated third party
customers. A significant portion of L-3's sales to Lockheed Martin are either
based on competitive bidding or catalog prices.
STOCKHOLDERS AGREEMENT
Holdings, Lockheed Martin, the Lehman Partnership and Messrs. Lanza and
LaPenta entered into a stockholders agreement (the "Stockholders Agreement")
which, except the terms relating to (i) the registration rights, (ii)
provision of services by Lehman Brothers Inc. and (iii) the standstill
agreement by Lockheed Martin, terminates upon the consummation of the Common
Stock Offering. Prior to the consummation of the Common Stock Offering, the
Lehman Partnership is entitled to designate a majority of the members of the
Board of Directors provided that it holds at least 35% of the capital stock
of Holdings and remains the single largest shareholder.
Pursuant to the Stockholders Agreement, certain of the existing
stockholders have the right, from time to time on or after the 180-day period
following the completion of the initial public offering and subject to
certain conditions, to require the Company to register under the Securities
Act shares of Common Stock held by them. Lockheed Martin, the Lehman
Partnership and each of the Senior Management has three, four and one demand
registration rights, respectively. In addition, the Stockholders Agreement
also provides certain existing stockholders with certain piggyback
registration rights. The Stockholders Agreement provides, among other things,
that the Company will pay expenses in connection with (i) up to two demand
registrations requested by Lockheed Martin, up to three demand registrations
requested by the Lehman Partnership and the two demand registrations
requested by the Senior Management and (ii) any registration in which the
existing stockholders participate through piggyback registration rights
granted under such agreement.
The Stockholders Agreement also provides that Lehman Brothers Inc. has the
exclusive right to provide investment banking services to Holdings for the
five-year period after the closing of the L-3 Acquisition (except that the
exclusivity period is three years as to cash acquisitions undertaken by L-3)
so long as the Lehman Partnership owns at least 10% of the Outstanding Common
Stock. In the event that Lehman Brothers Inc. agrees to provide any
investment banking services to L-3, it will be paid fees that are mutually
agreed upon based on similar transactions and practices in the investment
banking industry.
Under the Stockholders Agreement Lockheed Martin is subject to a
standstill arrangement which generally prohibits any increase in its share
ownership percentage over 34.9%.
64
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) FINANCIAL STATEMENTS
The financial statements and notes to the Consolidated (Combined)
Financial Statements are referred to in Item 8.
(b) ADDITIONAL FINANCIAL INFORMATION
None
(c) REPORTS FILED ON FORM 8-K
None
(d) EXHIBITS (NUMBERED IN ACCORDANCE WITH ITEM 601 OF REGULATION S-K)
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBIT
- --------------- ------------------------------------------------------------------------------------------
<S> <C>
*3.1 Certificate of Incorporation.
*3.2 By-Laws of L-3 Communications Corporation.
*10.1 Credit Agreement, dated as of April 30, 1997 among L-3 Communications Corporation and
lenders named therein, as amended.
*10.2 Indenture dated as of April 30, 1997 between L-3 Communications Corporation and The Bank
of New York, as Trustee.
*10.3 Stockholders Agreement dated as of April 30, 1997 among L-3 Communications Corporation and
the stockholders parties thereto.
*10.4 Transaction Agreement dated as of March 28, 1997, as amended, among Lockheed Martin
Corporation, Lehman Brothers Capital Partners III, L.P., Frank C. Lanza, Robert V. LaPenta
and L-3 Communications Holdings, Inc.
*10.5 Employment Agreement dated April 30, 1997 between Frank C. Lanza and L-3 Communications
Holdings, Inc.
*10.51 Employment Agreement dated April 30, 1997 between Robert V. LaPenta and L-3 Communications
Holdings, Inc.
*10.6 Lease dated as of April 29, 1997 among Lockheed Martin Tactical Systems, Inc., L-3
Communications Corporation and KSL, Division of Bonneville International.
*10.61 Lease dated as of April 29, 1997 among Lockheed Martin Tactical Systems, L-3
Communications Corporation and Unisys Corporation.
*10.62 Sublease dated as of April 29, 1997 among Lockheed Martin Tactical Systems, Inc., L-3
Communications Corporation and Unisys Corporation.
*10.7 Limited Noncompetition Agreement dated April 30, 1997 between Lockheed Martin Corporation
and L-3 Communications Corporation.
*10.8 Asset Purchase Agreement dated as of December 19, 1997 between L-3 Communications
Corporation and California Microwave, Inc.
*10.81 Asset Purchase Agreement dated as of February 10, 1998 between FAP Trust and L-3
Communications Corporation.
*10.82 Asset Purchase Agreement dated as of March 30, 1998 among AlliedSignal Inc., AlliedSignal
Technologies, Inc., AlliedSignal Deutschland GMBH and L-3 Communications Corporation.
*10.9 Form of Stock Option Agreement for Employee Options.
*10.91 Form of 1997 Stock Option Plan for Key Employees.
65
<PAGE>
EXHIBIT NO. DESCRIPTION OF EXHIBIT
- --------------- ------------------------------------------------------------------------------------------
*10.10 L-3 Communications Corporation Pension Plan.
12 Ratio of earnings to fixed charges.
*24 Powers of Attorney of L-3 Communications Corporation.
99.1 Unaudited Pro Forma Condensed Consolidated Financial Information.
99.2 Satellite Transmission Systems Division of California Microwave, Inc. Unaudited Condensed
Financial Statements, Six months ended December 31, 1996 and 1997.
99.3 Satellite Transmission Systems Division of California Microwave, Inc. Financial Statements
as of June 30, 1997 and 1996 and for the years ended June 30, 1997, 1996 and 1995.
99.4 ILEX Systems, Inc. and Subsidiary Consolidated Financial Statements, December 31, 1997.
99.5 AlliedSignal Ocean Systems Combined Financial Statements as of December 31, 1997 and for
the year ended December 31, 1997.
</TABLE>
- ------------
* Incorporated by reference from the Company's Registration Statement on Form
S-1, as amended (File no. 333-46983).
66
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized, on May 14, 1998.
L-3 COMMUNICATIONS CORPORATION
By: /s/ Robert V. LaPenta
-------------------------------
Name: Robert V. LaPenta
Title: President and Chief
Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant on May 14, 1998 and in the capacities indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE
- ---------------------------- ----------------------------------------------------------
<S> <C>
/s/ Frank C. Lanza Chairman, Chief Executive Officer and Director (Principal
---------------------------- Executive Officer)
Frank C. Lanza
/s/ Robert V. LaPenta President, Chief Financial Officer (Principal Financial
---------------------------- Officer) and Director
Robert V. LaPenta
/s/ Michael T. Strianese Vice President--Finance and Controller (Principal
---------------------------- Accounting Officer)
Michael T. Strianese
* Director
----------------------------
David J. Brand
* Director
----------------------------
Thomas A. Corcoran
* Director
----------------------------
Alberto M. Finali
* Director
----------------------------
Eliot M. Fried
* Director
----------------------------
Frank H. Menaker, Jr.
* Director
----------------------------
Robert B. Millard
* Director
----------------------------
John E. Montague
* Director
----------------------------
Alan H. Washkowitz
By:/s/ Michael T. Strianese
----------------------------
Attorney-in-Fact
</TABLE>
67
<PAGE>
POWER OF ATTORNEY
We, the undersigned directors and officers of L-3 Communications
Corporation, do hereby constitute and appoint Michael T. Strianese,
Christopher C. Cambria and David J. Brand, or any of them, our true and
lawful attorneys and agents, to do any and all acts and things in our name
and on our behalf in our capacities as directors and officers and to execute
any and all instruments for us and in our names in the capacities indicated
below, which said attorneys and agents, or either of them, may deem necessary
or advisable to enable said Corporation to comply with the Securities
Exchange Act of 1934 and any rules, regulations and requirements of the
Securities and Exchange Commission, in connection with this Annual Report,
including specifically, but without limitation, power and authority to sign
for us or any of us in our names in the capacities indicated below, any and
all amendments (including post-effective amendments) hereto and we do hereby
ratify and confirm all that said attorneys and agents, or either of them,
shall do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Annual Report has been signed on the 14th day of May, 1998 by the following
persons in the capacities indicated:
<TABLE>
<CAPTION>
SIGNATURE TITLE
- ----------------------------- -----------------------------------------------------------
<S> <C>
/s/ Frank C. Lanza Chairman, Chief Executive Officer and Director (Principal
----------------------------- Executive Officer)
Frank C. Lanza
/s/ Robert V. LaPenta President, Chief Financial Officer (Principal Financial
----------------------------- Officer) and Director
Robert V. LaPenta
/s/ Michael T. Strianese Vice President--Finance and Controller (Principal
----------------------------- Accounting Officer)
Michael T. Strianese
/s/ David J. Brand Director
-----------------------------
David J. Brand
/s/ Thomas A. Corcoran Director
-----------------------------
Thomas A. Corcoran
/s/ Albert M. Finali Director
-----------------------------
Albert M. Finali
/s/ Eliot M. Fried Director
-----------------------------
Eliot M. Fried
/s/ Frank H. Menaker, Jr. Director
-----------------------------
Frank H. Menaker, Jr.
/s/ Robert B. Millard Director
-----------------------------
Robert B. Millard
/s/ John E. Montague Director
-----------------------------
John E. Montague
/s/ Alan H. Washkowitz Director
-----------------------------
Alan H. Washkowitz
</TABLE>
68
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBIT PAGE
- --------------- ---------------------------------------------------------------------------------- --------
<S> <C> <C>
*3.1 Certificate of Incorporation.
*3.2 By-Laws of L-3 Communications Corporation.
*10.1 Credit Agreement, dated as of April 30, 1997 among L-3 Communications Corporation
and lenders named therein, as amended.
*10.2 Indenture dated as of April 30, 1997 between L-3 Communications Corporation and
The Bank of New York, as Trustee.
*10.3 Stockholders Agreement dated as of April 30, 1997 among L-3 Communications
Corporation and the stockholders parties thereto.
*10.4 Transaction Agreement dated as of March 28, 1997, as amended, among Lockheed
Martin Corporation, Lehman Brothers Capital Partners III, L.P., Frank C. Lanza,
Robert V. LaPenta and L-3 Communications Holdings, Inc.
*10.5 Employment Agreement dated April 30, 1997 between Frank C. Lanza and L-3
Communications Holdings, Inc.
*10.51 Employment Agreement dated April 30, 1997 between Robert V. LaPenta and L-3
Communications Holdings, Inc.
*10.6 Lease dated as of April 29, 1997 among Lockheed Martin Tactical Systems, Inc., L-3
Communications Corporation and KSL, Division of Bonneville International.
*10.61 Lease dated as of April 29, 1997 among Lockheed Martin Tactical Systems, L-3
Communications Corporation and Unisys Corporation.
*10.62 Sublease dated as of April 29, 1997 among Lockheed Martin Tactical Systems, Inc.,
L-3 Communications Corporation and Unisys Corporation.
*10.7 Limited Noncompetition Agreement dated April 30, 1997 between Lockheed Martin
Corporation and L-3 Communications Corporation.
*10.8 Asset Purchase Agreement dated as of December 19, 1997 between L-3 Communications
Corporation and California Microwave, Inc.
*10.81 Asset Purchase Agreement dated as of February 10, 1998 between FAP Trust and L-3
Communications Corporation.
*10.82 Asset Purchase Agreement dated as of March 30, 1998 among AlliedSignal Inc.,
AlliedSignal Technologies, Inc., AlliedSignal Deutschland GMBH and L-3
Communications Corporation.
*10.9 Form of Stock Option Agreement for Employee Options.
*10.91 Form of 1997 Stock Option Plan for Key Employees.
*10.10 L-3 Communications Corporation Pension Plan.
12 Ratio of earnings to fixed charges.
*24 Powers of Attorney of L-3 Communications Corporation.
99.1 Unaudited Pro Forma Condensed Consolidated Financial Information.
69
<PAGE>
EXHIBIT NO. DESCRIPTION OF EXHIBIT PAGE
- --------------- ---------------------------------------------------------------------------------- --------
99.2 Satellite Transmission Systems Division of California Microwave, Inc. Unaudited
Condensed Financial Statements, Six months ended December 31, 1996 and 1997.
99.3 Satellite Transmission Systems Division of California Microwave, Inc. Financial
Statements as of June 30, 1997 and 1996 and for the years ended June 30, 1997,
1996 and 1995.
99.4 ILEX Systems, Inc. and Subsidiary Consolidated Financial Statements, December 31,
1997.
99.5 AlliedSignal Ocean Systems Combined Financial Statements as of December 31, 1997
and for the year ended December 31, 1997.
</TABLE>
- ------------
* Incorporated by reference from the Company's Registration Statement on Form
S-1, as amended (File no. 333-46983).
70
<PAGE>
EXHIBIT 12
L-3 COMMUNICATIONS CORPORATION
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
(IN THOUSANDS, EXCEPT FOR RATIO DATA)
<TABLE>
<CAPTION>
COMPANY
--------------
PRO FORMA NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, DECEMBER 31,
1997 1997
-------------- --------------
<S> <C> <C>
Earnings:
Income before
income taxes....... $15,900 $22,992
Add:
Interest expense ... 42,400 29,884
Interest component
of rent expense ... 5,133 3,445
-------------- --------------
Earnings............. $63,433 $56,321
============== ==============
Fixed Charges:
Interest expense ... $42,400 $29,884
Interest component
of rent expense ... 5,133 3,445
-------------- --------------
Fixed Charges........ $47,533 $33,329
============== ==============
Ratio of earnings to
fixed charges....... 1.3x 1.7x
============== ==============
</TABLE>
(RESTUBBED TABLE CONTINUED FROM ABOVE)
<TABLE>
<CAPTION>
PREDECESSOR COMPANY
----------------------------------------------------------------------------
THREE MONTHS NINE MONTHS THREE MONTHS
ENDED YEARS ENDED DECEMBER 31, ENDED ENDED
MARCH 31, ------------------------------ DECEMBER 31, MARCH 31,
1997 1996 1995 1994 1993 1993
-------------- --------- -------- --------- -------------- --------------
<S> <C> <C> <C> <C> <C> <C>
Earnings:
Income before
income taxes....... $ (505) $19,494 $ 174 $ 2,929 $ 8,300 $5,100
Add:
Interest expense ... 8,441 24,197 4,475 5,450 4,100 --
Interest component
of rent expense ... 851 2,832 1,591 1,866 1,400 467
-------------- --------- -------- --------- -------------- --------------
Earnings............. $8,787 $46,523 $6,240 $10,245 $13,800 $5,567
============== ========= ======== ========= ============== ==============
Fixed Charges:
Interest expense ... $8,441 $24,197 $4,475 $ 5,450 $ 4,100 --
Interest component
of rent expense ... 851 2,832 1,591 1,866 1,400 467
-------------- --------- -------- --------- -------------- --------------
Fixed Charges........ $9,292 $27,029 $6,066 $ 7,316 $ 5,500 $ 467
============== ========= ======== ========= ============== ==============
Ratio of earnings to
fixed charges....... --(a) 1.7x 1.0x 1.4x 2.5x n.a.
============== ========= ======== ========= ============== ==============
</TABLE>
- ------------
(a) Earnings were insufficient to cover fixed charges by $0.5 million for
the three months ended March 31, 1997.
<PAGE>
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL INFORMATION
The following unaudited pro forma financial information gives effect to
the L-3 Acquisition, the 1998 Acquisitions and the Offerings (collectively,
the "Transactions"). The Offerings include the Notes Offering and the
contribution by Holdings to the Company of the proceeds of the Common Stock
Offering. The unaudited pro forma condensed consolidated statement of
operations gives effect to the Transactions as if they had occurred as of
January 1, 1997. The unaudited pro forma condensed consolidated balance sheet
gives effect to the Transactions as if they had occurred as of December 31,
1997. The pro forma financial information is based on (i) the consolidated
financial statements of the Company for the nine-month period ended December
31, 1997, (ii) the Combined Statement of Operations of the Predecessor
Company for the three-month period ended March 31, 1997 and (iii) the
financial statements of the 1998 Acquisitions for the year ended December 31,
1997, using the purchase method of accounting and the assumptions and
adjustments in the accompanying notes to the unaudited pro forma condensed
consolidated financial statements.
The pro forma adjustments are based upon preliminary estimates of purchase
prices and the related purchase price allocations for the 1998 Acquisitions.
Actual adjustments will be based on final appraisals and other analyses of
fair values and adjustments of final purchase prices. Management does not
expect that differences between preliminary and final allocations will have a
material impact on the Company's pro forma financial position or results of
operations. The pro forma statement of operations does not reflect any cost
savings that management of the Company believes would have resulted had the
Transactions occurred on January 1, 1997. The pro forma financial information
should be read in conjunction with (i) the audited Consolidated (Combined)
Financial Statements of the Company and the Predecessor Company as of
December 31, 1997 and for the nine months ended December 31, 1997 and the
three months ended March 31, 1997, (ii) the audited financial statements of
STS for the year ended June 30, 1997, (iii) the unaudited condensed financial
statements of STS as of December 31, 1997 and for the six months ended
December 31, 1997 and 1996, (iv) the audited consolidated financial
statements of ILEX as of December 31, 1997 and for the year ended December
31, 1997 and (v) the audited combined financial statements of Ocean Systems
as of December 31, 1997 and for the year ended December 31, 1997, all of
which are included elsewhere herein. The unaudited pro forma condensed
financial information may not be indicative of the financial position and
results of operations of the Company that actually would have occurred had
the Transactions been in effect on the dates indicated or the financial
position and results of operations that may be obtained in the future.
1
<PAGE>
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS DATA
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY COMPANY
NINE MONTHS THREE MONTHS PRO FORMA
ENDED ENDED ADJUSTMENTS
DECEMBER 31, MARCH 31, L-3
1997 1997(1) ACQUISITION(1)
------------ ------------ ----------------
(IN MILLIONS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
STATEMENT OF OPERATIONS:
Sales.................... $546.5 $158.9 $(1.8)
Costs and expenses....... 495.0 151.0 (7.6)
------------ ------------ ----------------
Operating income
(loss)................ 51.5 7.9 5.8
Interest and investment
income (expense)........ 1.4 -- --
Interest expense......... 29.9 8.4 1.5
------------ ------------ ----------------
Income (loss) before
income taxes.......... 23.0 (0.5) 4.3
Income tax expense
(benefit)............... 10.7 (0.2) --
------------ ------------ ----------------
Net income (loss)...... $ 12.3 $ (0.3) $ 4.3
============ ============ ================
</TABLE>
(RESTUBBED TABLE CONTINUED FROM ABOVE)
<TABLE>
<CAPTION>
PRO FORMA
PRO FORMA ADJUSTMENTS
L-3 1998 1998 THE
ACQUISITION ACQUISITIONS(3) ACQUISITIONS(2) OFFERINGS PRO FORMA
----------- --------------- --------------- --------- ---------
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS:
Sales.................... $703.6 $190.4 $ -- $ -- $894.0
Costs and expenses....... 638.4 196.3 0.9 (4) -- 835.6
----------- ------------- ------------- --------- ---------
Operating income
(loss)................ 65.2 (5.9) (0.9) -- 58.4
Interest and investment
income (expense)........ 1.4 (0.1) (1.4)(5) (0.1)
Interest expense......... 39.8 0.5 4.8 (5) (2.7)(5) 42.4
----------- ------------- ------------- --------- ---------
Income (loss) before
income taxes.......... 26.8 (6.5) (5.7) 1.3 15.9
Income tax expense
(benefit)............... 10.5 (4.0) (2.2)(6) 0.4 (6) 4.7
----------- ------------- ------------- --------- ---------
Net income (loss)...... $ 16.3 $ (2.5) $(3.5) $ 0.9 $ 11.2
=========== ============= ============= ========= =========
</TABLE>
See notes to Unaudited Pro Forma Condensed Consolidated Financial Statements
2
<PAGE>
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
AT DECEMBER 31, 1997
<TABLE>
<CAPTION>
PRO FORMA PRO FORMA
ADJUSTMENTS COMPANY
1998 1998 BEFORE THE THE
COMPANY ACQUISITIONS(3) ACQUISITIONS OFFERINGS OFFERINGS(5) PRO FORMA
--------- --------------- -------------- ------------ ------------ -----------
($ IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............ $ 77.5 $ 4.9 $(82.4)(4) -- $ 40.0 $ 40.0
Contracts in process................. 167.2 85.2 (2.5)(4) $249.9 -- 249.9
Other current assets................. 22.7 2.0 -- 24.9 -- 24.7
--------- --------------- -------------- ------------ ------------ -----------
Total current assets............... 267.4 92.1 (84.9) 274.6 40.0 314.6
--------- --------------- -------------- ------------ ------------ -----------
Property, plant and equipment, net ... 83.0 24.9 (3.4)(4) 104.5 -- 104.5
Intangibles, primarily cost in excess
of net assets acquired, net of
amortization......................... 297.5 2.2 86.8 (4) 386.5 -- 386.5
Other assets.......................... 55.5 2.5 12.0 (6) 70.0 5.5 75.5
--------- --------------- -------------- ------------ ------------ -----------
Total assets....................... $703.4 $121.7 $ 10.5 $835.6 $ 45.5 $881.1
========= =============== ============== ============ ============ ===========
LIABILITIES AND
SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt ... $ 5.0 $ 0.3 -- $ 5.3 $ (3.8) $ 1.5
Accounts payable and accrued
expenses............................ 68.6 30.6 -- 99.2 -- 99.2
Customer advances and amounts in
excess of costs incurred............. 34.5 16.2 -- 50.7 -- 50.7
Other current liabilities............ 27.5 6.2 (2.2) 31.5 -- 31.5
--------- --------------- -------------- ------------ ------------ -----------
Total current liabilities.......... 135.6 53.3 (2.2) 186.7 (3.8) 182.9
--------- --------------- -------------- ------------ ------------ -----------
Pension, postretirement benefits and
other liabilities.................... 43.1 11.0 -- 54.1 -- 54.1
Revolving credit facility............. -- -- $ 68.8 (2) 68.8 (68.8) --
Term loan facilities.................. 167.0 -- -- 167.0 (128.4) 38.6
Senior subordinated notes............. 225.0 -- -- 225.0 150.0 375.0
Industrial development bond........... -- 1.3 -- 1.3 1.3
Shareholders' equity.................. 132.7 56.1 (56.1) 132.7 96.5 229.2
--------- --------------- -------------- ------------ ------------ -----------
Total liabilities and
shareholders' equity.............. $703.4 $121.7 $ 10.5 $835.6 $ 45.5 $881.1
========= =============== ============== ============ ============ ===========
</TABLE>
See notes to Unaudited Pro Forma Condensed Consolidated Financial Statements
3
<PAGE>
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following facts and assumptions were used in determining the pro forma
effect of the Transactions.
1. The Company's historical financial statements reflect the results of
operations of the Company since the effective date of the L-3 Acquisition,
April 1, 1997, and the Predecessor Company historical financial statements
reflect the results of operations of the Predecessor Company for the three
months ended March 31, 1997. The adjustments made to the pro forma
statement of operations for the three months ended March 31, 1997 and for
the year ended December 31, 1997, relating to the L-3 Acquisition are: (a)
the elimination of $1.8 million of sales and $1.8 million of costs and
expenses related to the Hycor business, which was acquired as part of the
L-3 Acquisition and which has been accounted for as "net assets of
acquired business held for sale", (b) a reduction to costs and expenses of
$0.8 million to record amortization expenses on the excess of the L-3
Acquisition purchase price over net assets acquired of $303.2 million over
40 years, net of the reversal of amortization expenses of intangibles
included in the Predecessor Company historical financial statements, (c) a
reduction to costs and expenses of $0.6 million to record estimated
pension cost on a separate company basis net of the reversal of the
allocated pension cost included in the Predecessor Company historical
financial statements, (d) a net increase to interest expense of $1.5
million, comprised of a $0.2 million allocated interest expense reduction
related to the Hycor business and a net $1.7 million increase, reflecting
pro forma interest expense of $10.2 million based on actual borrowings of
$400.0 million and effective cost of borrowing rates incurred by the
Company to finance the L-3 Acquisition less interest expense of
approximately $8.5 million included in the historical financial statements
of the Predecessor Company, and (e) the reversal of a $4.4 million noncash
compensation charge related to the initial capitalization of the Company
included in the Company's historical results of operations for the nine
months ended December 31, 1997 which is nonrecurring in nature. A
statutory (federal, state and foreign) tax rate of 39.0% was assumed on
these pro forma adjustments except for adjustment (e) where no tax effect
has been reflected.
2. On February 5, 1998, L-3 Communications purchased the assets of STS for
$27.0 million of cash. On March 4, 1998, L-3 Communications purchased
substantially all the assets of ILEX for $49.2 million of cash (net of
acquired cash of $2.7 million) plus additional consideration contingent
upon post-acquisition performance of ILEX. On March 30, 1998, L-3
Communications purchased the assets of Ocean Systems for $67.5 million of
cash. The purchase prices are subject to adjustment based upon the actual
closing net assets of STS and ILEX as defined. For purposes of the pro
forma financial information, the aggregate purchase prices (including
estimated expenses of $2.6 million) for the 1998 Acquisitions of $146.3
million were assumed to be financed using cash on hand of $77.5 million
and initially using $68.8 million of borrowings under the Revolving Credit
Facility. See Note 5 for the pro forma effects of the Offerings on
interest expense and long-term debt including the Revolving Credit
Facility.
3. The pro forma statement of operations and the pro forma balance sheet
include the following historical financial data for the 1998 Acquisitions.
Such data have been derived from each entity's historical financial
statements included elsewhere herein.
The pro forma statement of operations includes the following:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997
-------------------------------------------
OCEAN 1998
STS(A) ILEX SYSTEMS ACQUISITIONS
-------- ------- --------- --------------
($ IN MILLIONS)
<S> <C> <C> <C> <C>
Sales.................................... $53.9 $63.5 $73.0 $190.4
Costs and expenses....................... 61.7 55.9 78.7 196.3
-------- ------- --------- --------------
Operating (loss) income................ (7.8) 7.6 (5.7) (5.9)
Interest and investment income
(expense)............................... -- (0.2) 0.1 (0.1)
Interest expense......................... -- -- 0.5 0.5
-------- ------- --------- --------------
Income (loss) before income taxes ..... (7.8) 7.4 (6.1) (6.5)
Income tax (benefit) provision .......... (2.1) 0.5 (2.4) (4.0)
-------- ------- --------- --------------
Net (loss) income...................... $(5.7) $ 6.9 $(3.7) $ (2.5)
======== ======= ========= ==============
</TABLE>
- ------------
(a) Represents fiscal year ended June 30, 1997 plus the six month period
ended December 31, 1997 minus the six month period ended December 31,
1996.
4
<PAGE>
For the 1998 Acquisitions, the pro forma balance sheet includes the
following historical financial data:
<TABLE>
<CAPTION>
OCEAN 1998
STS ILEX SYSTEMS ACQUISITIONS
------- ------- --------- --------------
($ IN MILLIONS)
<S> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents....................................... -- $ 4.9 -- $ 4.9
Contracts in process............................................ $32.6 13.2 $39.4 85.2
Other current assets............................................ -- 0.3 1.7 2.0
------- ------- --------- --------------
Total current assets........................................... 32.6 18.4 41.1 92.1
------- ------- --------- --------------
Property, plant and equipment, net............................... 7.2 0.9 16.8 24.9
Intangibles, primarily cost in excess of net assets acquired,
net of amortization............................................. -- 0.4 1.8 2.2
Other assets..................................................... -- 0.1 2.4 2.5
------- ------- --------- --------------
Total assets................................................... $39.8 $19.8 $62.1 $121.7
======= ======= ========= ==============
LIABILITIES AND NET ASSETS
Current liabilities:
Current portion of long-term debt............................... $ 0.2 $ 0.1 -- $ 0.3
Accounts payable and accrued expenses........................... 6.5 5.4 $18.7 30.6
Customer advances and amounts in excess of costs incurred ...... -- -- 16.2 16.2
Other current liabilities....................................... 3.7 2.5 -- 6.2
------- ------- --------- --------------
Total current liabilities...................................... 10.4 8.0 34.9 53.3
------- ------- --------- --------------
Pension, postretirement benefits and other liabilities .......... -- -- 11.0 11.0
Industrial development bond...................................... 1.3 -- -- 1.3
Net assets....................................................... 28.1 11.8 16.2 56.1
------- ------- --------- --------------
Total liabilities and net assets............................... $39.8 $19.8 $62.1 $121.7
======= ======= ========= ==============
</TABLE>
4. The aggregate estimated excess of purchase price over fair value of net
assets acquired related to the 1998 Acquisitions is $89.0 million,
comprised of $37.2 million and $51.8 million, respectively, for ILEX and
Ocean Systems and is being amortized over 40 years resulting in a pro
forma charge of $2.2 million per annum. Based upon the preliminary
estimates of fair value, the acquisition of STS resulted in no goodwill
being recorded since the purchase price was equal to the net assets
acquired.
Adjustments to costs and expenses in the pro forma statements of
operations relating to the 1998 Acquisitions were comprised of the
following:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1997
---------------
($ IN MILLIONS)
<S> <C> <C>
(a) Amortization expense of estimated purchase cost in excess of net assets $ 2.2
(b) Elimination of goodwill amortization expense included in the historical
financial statements for the 1998 Acquisitions......................... (2.1)
(c) Estimated annual rent expense on the Sylmar facility of Ocean Systems
which will not be acquired by L-3 Communications....................... 1.1
(d) Elimination of depreciation expense on buildings and improvements on
the Sylmar facility of Ocean Systems which will not be acquired by
L-3 Communications..................................................... (0.3)
---------------
Total increase to costs and expenses.................................. $ 0.9
===============
</TABLE>
5
<PAGE>
5. The pro forma adjustments for the 1998 Acquisitions, reflecting the
Company before the Offerings, include (a) the elimination of $1.4 million
of interest income included in the historical financial statements of the
Company to reflect the use of cash on hand to fund partially the purchase
price for the 1998 Acquisitions and (b) an increase to interest expense of
$4.8 million on debt incurred to fund the remaining purchase prices for
the 1998 Acquisitions. Pro forma adjustments for the Offerings reflect a
decrease to interest expense of $2.7 million to reflect the reduction in
debt from the use of proceeds. The details of interest expense, after such
pro forma adjustments follow:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1997
---------------------------------
PRO FORMA COMPANY
BEFORE THE OFFERINGS PRO FORMA
-------------------- -----------
($ IN MILLIONS)
<S> <C> <C>
Interest on Revolving Credit Facility (7.625% on $68.8
million)..................................................... $ 5.2 --
Interest on the 1997 Notes (10.375% on $225.0 million) ....... 23.3 $23.3
Interest on the Notes (assumed 8.25% on $150.0 million) ...... -- 12.4
Interest on borrowings under Term Loan Facilities (8.0% on
$172.0 million and $39.8 million, respectively).............. 13.8 3.1
Interest on industrial development bond (4.0% on $1.3
million)..................................................... 0.1 0.1
Commitment fee of 0.5% on unused portion of the Revolving
Credit Facility (0.5% on $131.2 million and $200.0 million,
respectively) ............................................... 0.7 1.0
Amortization of deferred debt issuance costs.................. 2.0 2.5
-------------------- -----------
Total pro forma interest expense ........................... $45.1 $42.4
==================== ===========
</TABLE>
In accordance with SEC regulations, the pro forma statement of operations
does not reflect interest income on the $40.0 million cash balance in the
pro forma balance sheet resulting from the Offerings.
The Offerings include the Notes Offering and the contribution to the
Company by Holdings of the proceeds of the Common Stock Offering. The net
proceeds from the Offerings of $241.0 million, comprised of $150.0 million
from the Notes Offering less estimated debt issuance costs of $5.5
million, and $96.5 million from the contribution of the net proceeds of
the Common Stock Offering reflecting $104.5 million less estimated
issuance costs of $8.0 million, have been assumed to reduce borrowings
under the Revolving Credit Facility and Term Loan Facilities by $201.0
million and increase cash and cash equivalents by $40.0 million. On a pro
forma basis the balance sheet reflects the following adjustments and
resulting balances:
<TABLE>
<CAPTION>
INCREASE
(DECREASE)
-----------------
($ IN MILLIONS)
<S> <C>
Cash and cash equivalents ................................ $ 40.0
=================
Senior subordinated notes (proceeds from the Notes) ...... 150.0
=================
Other assets (deferred debt issuance costs)............... $ 5.5
=================
The net proceeds from the Offerings will be used to
reduce borrowings and were recorded as follows:
Current portion of Term Loan Facilities.................. $ (3.8)
Revolving Credit Facility................................ (68.8)
Long term portion of Term Loan Facilities................ (128.4)
-----------------
$(201.0)
=================
Shareholders' equity:
Contribution by Holdings of proceeds from the Common
Stock offering, less expenses............................. $ 96.5
=================
</TABLE>
6. The pro forma adjustments were tax-effected, as appropriate using a
statutory (federal, state and foreign) tax rate of 39.0%.
6
<PAGE>
EXHIBIT 99.2
SATELLITE TRANSMISSION SYSTEMS DIVISION OF CALIFORNIA MICROWAVE, INC.
UNAUDITED CONDENSED FINANCIAL STATEMENTS
As of December 31, 1997 and
for the six months ended December 31, 1996 and 1997
1
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
BALANCE SHEET (UNAUDITED)
DECEMBER 31, 1997
(In Thousands)
<TABLE>
<CAPTION>
<S> <C>
ASSETS
Current assets:
Accounts receivable, less $554 allowance for doubtful
accounts .................................................... $ 22,204
Inventories .................................................. 10,382
----------
Total current assets .......................................... 32,586
Property, plant and equipment, at cost ........................ 21,663
Less accumulated depreciation and amortization ................ (14,467)
----------
Net property and equipment .................................... 7,196
Other assets .................................................. 15
----------
Total assets .................................................. $ 39,797
==========
LIABILITIES AND DIVISION EQUITY
Current liabilities:
Accounts payable ............................................. $ 6,508
Accrued liabilities .......................................... 3,703
Current portion of long-term debt ............................ 200
----------
Total current liabilities ..................................... 10,411
Long-term debt ................................................ 1,330
----------
Total liabilities ............................................. 11,741
Commitments
Division equity ............................................... 28,056
----------
Total liabilities and Division equity ......................... $ 39,797
==========
</TABLE>
See accompanying notes.
2
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
STATEMENTS OF OPERATIONS (UNAUDITED)
(In Thousands)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31
----------------------
1997 1996
---------- ----------
<S> <C> <C>
Net sales ........................... $24,551 $ 38,770
Cost of products sold ............... 23,226 42,530
---------- ----------
Gross margin ........................ 1,325 (3,760)
---------- ----------
Expenses:
Research and development ........... 712 721
Marketing and administration ...... 5,123 8,064
Amortization of intangible assets . -- 72
---------- ----------
Total expenses ...................... 5,835 8,857
---------- ----------
Operating loss ...................... (4,510) (12,617)
Interest expense .................... (43) (70)
Interest income ..................... -- 5
---------- ----------
Loss before income tax benefit ..... (4,553) (12,682)
Allocated benefit from income taxes 1,639 4,185
---------- ----------
Net loss ............................ $(2,914) $ (8,497)
========== ==========
</TABLE>
See accompanying notes.
3
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
STATEMENTS OF CASH FLOWS (UNAUDITED)
(In Thousands)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31
----------------------
1997 1996
---------- ----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss ........................................................ $(2,914) $ (8,497)
Adjustments for noncash items:
Amortization of intangible assets .............................. -- 72
Depreciation and amortization of property, plant and equipment 780 1,200
Loss on sale of assets ........................................ -- 151
Provision for doubtful accounts ............................... 66 750
Changes in asset and liability accounts:
Accounts receivable ............................................ 6,053 16,124
Inventories .................................................... (2,644) 6,789
Prepaid expenses and other assets .............................. 85 213
Accounts payable ............................................... (1,256) (10,238)
Accrued liabilities ............................................ 132 (208)
---------- ----------
Net cash provided by operations ................................. 302 6,356
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures ............................................ (160) (1,072)
Proceeds from sale of building .................................. -- 1,617
---------- ----------
Net cash provided by (used in) investing activities ............ (160) 545
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Payments on long-term debt ...................................... (100) (200)
Net cash provided to CMI ........................................ (42) (6,701)
---------- ----------
Net cash used in financing activities ........................... (142) (6,901)
---------- ----------
Cash and cash equivalents ....................................... $ -- $ --
========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the six month period for interest .............. $ 36 $ 32
========== ==========
</TABLE>
See accompanying notes.
4
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
SIX MONTHS ENDED DECEMBER 31, 1996 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying unaudited financial statements include the operations of
the Satellite Transmission Systems Division ("STS" or the "Division") of
California Microwave, Inc. ("CMI" or the "Company"). The Division is a global
satellite communication systems integrator providing hardware, software and
services for turnkey projects to large commercial customers, principally
domestic and foreign telephone companies and major common carriers and to the
U.S. and foreign governments.
These financial statements are presented as if the Division had existed as
an entity separate from CMI during the periods presented and include the
historical assets, liabilities, sales and expenses that are directly related
to the Division's operations. However, these financial statements are not
necessarily indicative of the financial position and results of operations
which would have occurred had the Division been an independent entity.
The accompanying unaudited condensed financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and Article 10 of Regulation S-X. Accordingly,
they do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the six-month periods ended December 31, 1996 and 1997
are not necessarily indicative of the results that may be expected for the
years ended June 30, 1997 and 1998. For further information, refer to the
financial statements and footnotes thereto included in the Division's
financial statements for the year ended June 30, 1997.
USE OF ESTIMATES; RISKS AND UNCERTAINTIES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Significant estimates are used in determining the
collectibility of accounts receivable, warranty costs, inventory realization,
profitability on long-term contracts, restructuring reserves, recoverability
of property, plant and equipment, and contingencies. Actual results could
differ from estimates.
INVENTORIES AND COST OF PRODUCTS SOLD
Inventories are recorded at the lower of cost or market. Project
inventories are transferred to cost of products sold at the time revenue is
recognized based on the estimated total manufacturing costs and total
contract prices under each contract. Losses on contracts are recognized in
full when the losses become determinable. The cost of other inventories is
generally based on standard costs which approximate actual costs determined
by the first-in, first-out method.
5
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
2. INVENTORIES
Inventories consisted of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
1997
--------------
(IN THOUSANDS)
<S> <C>
Projects in process..................................... $ 9,351
Less: progress billings................................. 1,547
--------------
7,804
Product inventories, principally materials and
supplies............................................... 2,578
--------------
Total................................................... $10,382
==============
</TABLE>
3. CORPORATE ALLOCATIONS
CMI allocates corporate expenses on a value-added basis to each division,
which CMI believes results in a reasonable allocation of such costs. The
accompanying financial statements reflect charges for general corporate
administrative expenses incurred by CMI which amounted to approximately
$832,000 and $793,000 for the six months ended December 31, 1996 and 1997,
respectively.
No interest is allocated by CMI to the Division.
The Division is charged for its proportional share of CMI's self-insured
medical plan. Such charges amounted to $1,015,000 and $732,000 for the six
months ended December 31, 1996 and 1997, respectively.
In addition, there were direct charges from CMI as follows:
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
DECEMBER 31,
--------------
1997 1996
------ ------
(IN THOUSANDS)
<S> <C> <C>
Marketing.................. $304 $389
General and
administrative............ -- 142
------ ------
Total...................... $304 $531
====== ======
</TABLE>
The Division believes that the direct charges from CMI were reasonable
during the periods presented.
4. RESTRUCTURING
During fiscal 1997, a comprehensive review of the Division's operations
was performed, including a review of inventory levels, product development
and migration plans and facility and personnel needs. It was determined to
focus the Division on potentially higher margin products. This resulted in
the write-down of certain inventories and the restructuring of the Division's
operations. During the six month period ended December 31, 1996 inventory and
other charges of $10,300,000, arising from this review, were included in cost
of products sold. During February 1997, additional charges of $800,000
relating to excess facilities and severance were recorded. There are no
remaining cash outlays associated with the restructuring at December 31,
1997.
6
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
5. OTHER
In November 1997, the Division recorded a $1 million charge to cost of
sales relating to a contract with a customer in Sudan. The President of the
United States imposed economic sanctions on Sudan which banned U.S. companies
from doing business in Sudan and as a result, the Division could not continue
to perform under the existing contract. Based upon this, the contract was
terminated and the Division has been released from further performance
requirements.
On December 19, 1997, L-3 Communications Corporation, an unrelated party,
reached an agreement to purchase from CMI substantially all of the assets of
the Division, and to assume certain of the liabilities of the Division, for
approximately $27 million in cash. The final purchase price is subject to
adjustment based on the net assets of the Division at the closing date of the
transaction.
7
<PAGE>
EXHIBIT 99.3
SATELLITE TRANSMISSION SYSTEMS DIVISION OF CALIFORNIA MICROWAVE, INC.
FINANCIAL STATEMENTS
As of June 30, 1997 and 1996 and for the
years ended June 30, 1997, 1996 and 1995
1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
California Microwave, Inc.
We have audited the accompanying balance sheets of the Satellite
Transmission Systems Division of California Microwave, Inc. (the "Company")
as of June 30, 1997 and 1996, and the related statements of operations and
cash flows for each of the three years in the period ended June 30, 1997.
These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of the Satellite
Transmission Systems Division of California Microwave, Inc., as of June 30,
1997 and 1996, and the results of its operations and its cash flows for each
of the three years in the period ended June 30, 1997 in conformity with
generally accepted accounting principles.
/s/ Ernst & Young LLP
Melville, New York
January 27, 1998
2
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
BALANCE SHEETS
(In Thousands)
<TABLE>
<CAPTION>
JUNE 30,
----------------------
1997 1996
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Accounts receivable, less $140 and $508 allowance for doubtful
accounts in 1996 and 1997......................................... $ 28,323 $ 46,750
Inventories........................................................ 7,738 10,412
Prepaid expenses and other assets.................................. 77 121
---------- ----------
Total current assets................................................ 36,138 57,283
Property, plant and equipment, at cost.............................. 21,503 21,378
Less accumulated depreciation and amortization...................... (13,687) (12,984)
---------- ----------
Net property and equipment ......................................... 7,816 8,394
Intangible assets, net of accumulated amortization of $2,268 in
1996............................................................... -- 2,032
Other assets........................................................ 23 2,045
---------- ----------
Total assets ....................................................... $ 43,977 $ 69,754
========== ==========
LIABILITIES AND DIVISION EQUITY
Current liabilities:
Accounts payable................................................... $ 7,764 $ 19,548
Accrued liabilities................................................ 3,571 3,584
Current portion of long-term debt.................................. 100 200
---------- ----------
Total current liabilities........................................... 11,435 23,332
Long-term debt...................................................... 1,530 1,630
---------- ----------
Total liabilities................................................... 12,965 24,962
Commitments
Division equity..................................................... 31,012 44,792
---------- ----------
Total liabilities and Division equity............................... $ 43,977 $ 69,754
========== ==========
</TABLE>
See accompanying notes.
3
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
STATEMENTS OF OPERATIONS
(In Thousands)
<TABLE>
<CAPTION>
YEARS ENDED JUNE 30,
----------------------------------
1997 1996 1995
----------- ---------- ---------
<S> <C> <C> <C>
Net sales......................................... $ 68,037 $124,393 $94,271
Cost of products sold............................. 65,724 102,399 86,335
----------- ---------- ---------
Gross margin...................................... 2,313 21,994 7,936
----------- ---------- ---------
Expenses:
Research and development......................... 1,360 2,540 2,288
Marketing and administration..................... 14,154 13,295 12,655
Amortization and write-down of intangible
assets........................................... 2,032 171 171
Restructuring.................................... 800 -- 2,446
----------- ---------- ---------
Total expenses.................................... 18,346 16,006 17,560
----------- ---------- ---------
Operating (loss) income........................... (16,033) 5,988 (9,624)
Interest expense.................................. (65) (69) (98)
Interest income................................... 40 11 3
----------- ---------- ---------
(Loss) income before income tax benefit
(expense)........................................ (16,058) 5,930 (9,719)
Allocated benefit (expense) from income taxes .... 4,676 (2,135) 3,207
----------- ---------- ---------
Net (loss) income................................. $(11,382) $ 3,795 $(6,512)
=========== ========== =========
</TABLE>
See accompanying notes.
4
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
STATEMENTS OF CASH FLOWS
(In Thousands)
<TABLE>
<CAPTION>
YEARS ENDED JUNE 30,
-----------------------------------
1997 1996 1995
----------- ---------- ----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net (loss) income................................... $(11,382) $ 3,795 $(6,512)
Adjustments for noncash items:
Amortization and write-down of intangible assets .. 2,032 171 171
Depreciation and amortization of property, plant
and equipment..................................... 1,639 1,746 1,848
Loss on sale of assets............................. 77 140 64
Provision for doubtful accounts.................... 750 100 150
Changes in asset and liability accounts:
Accounts receivable................................ 17,677 (17,019) 14,937
Inventories........................................ 2,674 12,243 (8,211)
Prepaid expenses and other assets.................. 449 1,449 5,627
Accounts payable................................... (11,783) 5,736 (3,747)
Accrued and other liabilities...................... (14) (1,697) 1,895
----------- ---------- ----------
Net cash provided by operations..................... 2,119 6,664 6,222
----------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures................................ (1,138) (1,099) (1,881)
Proceeds from sale of building...................... 1,617 -- --
----------- ---------- ----------
Net cash (used in) provided by investing
activities......................................... 479 (1,099) (1,881)
----------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Payments on long-term debt.......................... (200) (100) (200)
Net cash provided to CMI............................ (2,398) (5,465) (4,141)
----------- ---------- ----------
Net cash used in financing activities............... (2,598) (5,565) (4,341)
----------- ---------- ----------
Cash and cash equivalents........................... $ -- $ -- $ --
=========== ========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for interest.............. $ 38 $ 66 $ 70
=========== ========== ==========
</TABLE>
See accompanying notes.
5
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS
YEARS ENDED JUNE 30, 1995, 1996 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying financial statements include the operations of the
Satellite Transmission Systems Division ("STS" or the "Division") of
California Microwave, Inc. ("CMI" or the "Company"). The Division is a global
satellite communication systems integrator providing hardware, software and
services for turnkey projects to large commercial customers, principally
domestic and foreign telephone companies and major common carriers and to the
U.S. and foreign governments.
These financial statements are presented as if the Division had existed as
an entity separate from CMI during the periods presented and include the
historical assets, liabilities, sales and expenses that are directly related
to the Division's operations. However, these financial statements are not
necessarily indicative of the financial position and results of operations
which would have occurred had the Division been an independent entity.
USE OF ESTIMATES; RISKS AND UNCERTAINTIES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Significant estimates are used in determining the
collectibility of accounts receivable, warranty costs, inventory realization,
profitability on long-term contracts, restructuring reserves, recoverability
of property, plant and equipment, and contingencies. Actual results could
differ from estimates.
CASH AND CASH EQUIVALENTS
The Division participates in CMI's centralized cash management function;
accordingly, the Division does not maintain separate cash accounts, other
than payroll and foreign subsidiary accounts, which are deemed insignificant,
and its cash disbursements and collections are settled through Division
equity.
INVENTORIES AND COST OF PRODUCTS SOLD
Inventories are recorded at the lower of cost or market. Project
inventories are transferred to cost of products sold at the time revenue is
recognized based on the estimated total manufacturing costs and total
contract prices under each contract. Losses on contracts are recognized in
full when the losses become determinable. During the year ended June 30,
1995, the Division recognized losses of approximately $2,800,000 on such
contracts. The cost of other inventories is generally based on standard costs
which approximate actual costs determined by the first-in, first-out method.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are carried at cost, less accumulated
depreciation and amortization. Depreciation and amortization charges are
computed using the straight-line method based on the estimated useful lives
of the related assets.
INTANGIBLE ASSETS OF BUSINESS ACQUIRED
During 1997, CMI wrote off $1,888,000 of purchased intangible assets,
principally goodwill, relating to the original acquisition of STS by CMI,
which was pushed down to the Division's books. The intangible
6
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
assets consisted of the excess of the purchase price paid for STS over the
net tangible assets acquired and was amortized using the straight-line method
over 30 years. During 1997, CMI determined that the excess purchase price was
not recoverable due to a significant reduction in sales by the Division in
1997 as compared to prior periods and appropriately reduced the carrying
value.
OTHER LONG-LIVED ASSETS
In accordance with Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed of," the Division records impairment losses on long-lived
assets used in operations when events and circumstances indicate that the
assets might be impaired and the undiscounted cash flows estimated to be
generated by those assets are less than the carrying amount of such assets.
Other than as described above related to purchased intangibles, no such
losses have been incurred.
REVENUE RECOGNITION, RECEIVABLES AND CREDIT RISK
Revenue from product sales is recognized at the time of shipment. Sales on
certain long-term, small quantity, high unit value contracts are recognized
at the completion of significant project milestones, which are generally
contract line items. Scheduled billings and retainages under certain
contracts (principally export contracts) have deferred billing provisions
resulting in unbilled accounts receivable (included in accounts receivable)
of $7,426,000 and $4,425,000 at June 30, 1996 and 1997, respectively. The
unbilled receivable at June 30, 1997, is expected to be collected within one
year.
The Division manufactures and sells satellite communications products,
systems and turnkey telecommunications networks to large commercial
customers, principally domestic and foreign telephone companies and major
common carriers, and to the U.S. government. The Division generally requires
no collateral, but generally requires letters of credit, denominated in U.S.
dollars, from its foreign customers.
During 1996 and 1997, the Division periodically transferred certain
international accounts receivable to CMI. CMI insures these receivables under
a credit insurance program and then sells the receivables, without recourse,
at prevailing discount rates. The Division retains the responsibility to
collect and service these amounts. Outstanding customer receivables
transferred to CMI through Division equity amounted to approximately $421,000
and $2,100,000 during 1996 and 1997, respectively.
The Division charged to operations $150,000, $100,000 and $750,000 for its
provision for doubtful accounts in 1995, 1996 and 1997, respectively.
WARRANTY
The Company generally warrants its products for a period of 12 to 24
months from completion of contract or shipment. Warranty expense was
approximately $679,000, $753,000 and $688,000 for 1995, 1996 and 1997,
respectively.
INCOME TAXES
Income taxes reflect an allocation of CMI's income tax expense (benefit)
calculated based on CMI's effective tax rate. All deferred tax assets and
liabilities relating to the Division are included in intercompany balances
with CMI and are accounted for within Division equity (see Note 7). On a
stand-alone basis, income tax benefit (expense) for the year ended June 30,
1997 would not be material due to the existence of net operating loss
carryforwards at the Division level and the need for a full valuation
allowance on any resulting net deferred tax asset. Such net operating losses
have been fully utilized by CMI.
7
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
FISCAL YEAR
The Division's fiscal year ends on the Saturday closest to June 30, and
includes 52 weeks in fiscal 1995, 1996 and 1997. For 1995, 1996 and 1997, the
fiscal years ended on July 1, 1995, June 29, 1996 and June 28, 1997,
respectively. For clarity of presentation, the financial statements are
reported as ending on a calendar month end.
2. PROPERTY AND EQUIPMENT
Property and equipment consisted of the following:
<TABLE>
<CAPTION>
JUNE 30,
-------------------
LIFE 1997 1996
---------- --------- --------
(IN YEARS) (IN THOUSANDS)
<S> <C> <C> <C>
Land........................... $ 950 $ 950
Buildings ..................... 30 3,559 3,559
Machinery and equipment ...... 3-5 8,780 9,256
Office and computer equipment 3-10 6,440 5,653
Building improvements.......... -- 1,721 1,813
Vehicles ...................... 5 53 147
--------- --------
$21,503 $21,378
========= ========
</TABLE>
Building improvements are depreciated over the shorter of the life of the
improvement or the remaining life of the building.
3. INVENTORIES
Inventories consisted of the following:
<TABLE>
<CAPTION>
JUNE 30,
------------------
1997 1996
-------- --------
(IN THOUSANDS)
<S> <C> <C>
Projects in process..................................... $6,484 $ 6,287
Less: progress billings................................. 2,544 1,991
-------- --------
3,940 4,296
Product inventories, principally materials and
supplies............................................... 3,798 6,116
-------- --------
Total................................................... $7,738 $10,412
======== ========
</TABLE>
8
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
4. ACCRUED LIABILITIES
Accrued liabilities consisted of the following:
<TABLE>
<CAPTION>
JUNE 30,
------------------
1997 1996
-------- --------
(IN THOUSANDS)
<S> <C> <C>
Salaries and bonuses . $ 497 $1,381
Vacation.............. 610 873
Other payroll
related.............. 123 115
Warranties............ 899 758
Commissions........... 813 --
Other................. 629 457
-------- --------
$3,571 $3,584
======== ========
</TABLE>
5. LONG-TERM DEBT
The Division has industrial development bonds that are payable in annual
installments through November 9, 2007, may be prepaid at any time without
penalty and bear interest at 65% of the bank's floating rate (5.5% at June
30, 1997), based upon prevailing market conditions, which is redetermined
daily. The obligor of the industrial development bonds is a related entity,
and the bonds are secured by mortgages on the equipment and properties
involved.
At June 30, 1997, the annual maturities of long-term debt are as follows:
<TABLE>
<CAPTION>
<S> <C>
1998................. $ 100,000
1999................. 200,000
2000................. 100,000
2001................. 200,000
2002................. 100,000
Thereafter........... 930,000
-----------
1,630,000
Less current
portion............. 100,000
-----------
$1,530,000
===========
</TABLE>
6. COMMITMENTS
On November 15, 1996, the Division leased a facility under an 18-month
noncancelable operating lease. Rent expense was approximately $209,000,
$229,000 and $69,000 for 1995, 1996, and 1997, respectively.
Future minimum lease payments under the operating lease is $48,000 for
1998.
9
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
7. DIVISION EQUITY
A summary of the Division equity activity is as follows:
<TABLE>
<CAPTION>
JUNE 30,
---------------------
1997 1996
---------- ---------
(IN THOUSANDS)
<S> <C> <C>
Beginning balance........ $ 44,792 $46,462
Net income (loss)........ (11,382) 3,795
Net cash provided to
CMI..................... (2,398) (5,465)
---------- ---------
Ending balance........... $ 31,012 $44,792
========== =========
</TABLE>
8. EMPLOYEE BENEFITS
The Division participates in the CMI defined contribution retirement plan
which covers substantially all of the employees of the Division. The
Division's contribution was $379,000, $700,000 and $180,000 for 1995, 1996
and 1997, respectively.
9. SIGNIFICANT CUSTOMERS AND SEGMENT INFORMATION
The Division operates in a single industry segment and is engaged in the
manufacture and sale of electronics equipment for satellite communications.
International sales were as follows:
<TABLE>
<CAPTION>
JUNE 30,
-------------------------------
1997 1996 1995
--------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C>
Asia Pacific....... $22,333 $27,106 $17,164
Africa/Middle
East.............. 13,052 41,827 9,572
Latin America...... 5,149 11,137 14,768
Europe............. 7,828 15,984 9,784
Other.............. 1,391 2,973 4,312
--------- --------- ---------
$49,753 $99,027 $55,600
========= ========= =========
</TABLE>
The Division had revenues from one customer representing 17.3%, 31.5% and
11% of total revenues in 1995, 1996 and 1997, respectively.
10. CORPORATE ALLOCATIONS
CMI allocates corporate expenses on a value-added basis to each division,
which CMI believes results in a reasonable allocation of such costs. The
accompanying financial statements reflect charges for general corporate
administrative expenses incurred by CMI which amounted to approximately
$1,477,000, $1,555,000 and $1,663,000 in 1995, 1996 and 1997, respectively.
No interest is allocated by CMI to the Division.
The Division is charged for its proportional share of CMI's self-insured
medical plan. Such charges amounted to $944,000, $1,437,000 and $1,856,000 in
1995, 1996, and 1997, respectively.
10
<PAGE>
SATELLITE TRANSMISSION SYSTEMS DIVISION OF
CALIFORNIA MICROWAVE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
10. CORPORATE ALLOCATIONS (Continued)
In addition, there were direct charges from CMI as follows:
<TABLE>
<CAPTION>
JUNE 30,
------------------------
1997 1996 1995
-------- ------ ------
(IN THOUSANDS)
<S> <C> <C> <C>
Marketing.................. $ 889 -- $--
General and
administrative............ 285 $508 --
-------- ------ ------
Total...................... $1,174 $508 $--
======== ====== ======
</TABLE>
The Division believes that the direct charges from CMI were reasonable
during the periods presented.
11. RELATED PARTY TRANSACTIONS
Included in net sales are product sales to other divisions of CMI. These
sales totaled $3,584,000, $640,000 and $1,800,000 for 1995, 1996 and 1997,
respectively. In addition, there is approximately $2,363,000, $2,937,000 and
$776,000 of purchases from another division of CMI which is included in
ending inventory and $2,139,000, $3,576,000 and $1,129,000 due to this
division which is included in accounts payable at June 30, 1995, 1996 and
1997, respectively.
12. RESTRUCTURING
In June 1995, a decision was made to close the Division's Melbourne,
Florida facility as well as to perform a review of personnel needs at the
Division's operations. Pursuant to these decisions, approximately $2.4
million of restructuring charges were recorded, including approximately
$600,000 to reflect the facility at its net realizable value. There are no
remaining cash outlays associated with the restructuring at June 30, 1997.
In December 1996 and January 1997, a comprehensive review of the
Division's operations was performed, including a review of inventory levels,
product development and migration plans and facility and personnel needs. It
was determined to focus the Division on potentially higher margin products.
This resulted in the write-down of certain inventories and the restructuring
of the Division's operations. Inventory and other charges of $10,300,000,
arising from this review, were included in cost of products sold and excess
facilities and severance charges of $800,000 were included in restructuring.
There are no remaining cash outlays associated with the restructuring at June
30, 1997.
13. SUBSEQUENT EVENTS
In November 1997, the Division recorded a $1 million charge to cost of
sales relating to a contract with a customer in Sudan. The President of the
United States imposed economic sanctions on Sudan which banned U.S. companies
from doing business in Sudan, and as a result the Division could not continue
to perform under the existing contract. Based upon this, the contract was
terminated and the Division has been released from further performance
requirements.
On December 19, 1997, L-3 Communications Corporation, an unrelated party,
reached an agreement to purchase from CMI substantially all of the assets of
the Division, and to assume certain of the liabilities of the Division, for
approximately $27 million in cash. The final purchase price is subject to
adjustment based on the net assets of the Division at the closing date of the
transaction.
11
<PAGE>
EXHIBIT 99.4
ILEX SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997
1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
ILEX Systems, Inc.:
We have audited the accompanying consolidated balance sheet of ILEX
Systems, Inc. and subsidiary as of December 31, 1997, and the related
consolidated statements of income, shareholders' equity, and cash flows for
the year then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of ILEX
Systems, Inc. and subsidiary as of December 31, 1997, and the results of
their operations and their cash flows for the year then ended in conformity
with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
San Jose, California
February 9, 1998, except as to Note 9 which
is as of February 27, 1998
2
<PAGE>
ILEX SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1997
<TABLE>
<CAPTION>
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents ..................................................... $ 4,919,548
Accounts receivable, net of allowance for doubtful accounts of $327,422 ...... 7,354,640
Unbilled accounts receivable .................................................. 4,868,453
Inventories ................................................................... 923,466
Deferred income taxes ......................................................... 13,000
Other current assets .......................................................... 278,771
-------------
Total current assets ......................................................... 18,357,878
Property, plant, and equipment:
Equipment ..................................................................... 2,343,643
Furniture, fixtures, and leasehold improvements ............................... 634,425
-------------
2,978,068
Accumulated depreciation and amortization ..................................... (2,031,763)
-------------
946,305
Goodwill, net of accumulated amortization of $117,940 .......................... 343,564
Deposits and other assets ...................................................... 138,730
-------------
$19,786,477
=============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt ............................................. $ 62,833
Accounts payable .............................................................. 2,226,340
Accrued payroll and related expenses .......................................... 3,176,151
Deferred income ............................................................... 37,843
Distribution payable to shareholders .......................................... 2,216,877
Income taxes payable .......................................................... 80,552
Other current liabilities ..................................................... 175,011
-------------
Total current liabilities .................................................... 7,975,607
Other liabilities .............................................................. 18,678
-------------
Total liabilities ............................................................ 7,994,285
Shareholders' equity:
Common stock, no par value; 5,000,000 shares authorized; 1,317,605 shares
issued and outstanding ....................................................... 1,386,417
Retained earnings ............................................................. 10,405,775
-------------
Total shareholders' equity ................................................... 11,792,192
Commitments ....................................................................
-------------
$19,786,477
=============
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
ILEX SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF INCOME
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
<S> <C>
Revenues:
Consulting fees ...................... $57,309,190
Equipment sales ...................... 6,213,038
-------------
63,522,228
-------------
Costs and expenses:
Cost of revenue, consulting .......... 41,852,031
Cost of sales, equipment ............. 3,314,614
Selling, general, and administrative 9,507,879
Research and development ............. 1,211,497
-------------
55,886,021
-------------
Operating income .................... 7,636,207
Other income (expense):
Interest income ...................... 135,114
Interest expense ..................... (8,579)
Loss on write-down of investment .... (250,000)
Other expense ........................ (108,000)
-------------
Income before income taxes .......... 7,404,742
Income taxes .......................... 550,000
-------------
Net income .......................... $ 6,854,742
=============
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
ILEX SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
COMMON STOCK TOTAL
------------------------- RETAINED SHAREHOLDERS'
SHARES AMOUNT EARNINGS EQUITY
----------- ------------ ------------- ---------------
<S> <C> <C> <C> <C>
Balances as of December 31, 1996 ........ 1,315,720 $1,352,249 $10,606,517 $11,958,766
Issuance of common stock in exchange for
services ............................... 3,400 42,500 -- 42,500
Stock repurchase ........................ (1,515) (8,332) (6,060) (14,392)
Distributions to shareholders ........... -- -- (7,049,424) (7,049,424)
Net income .............................. -- -- 6,854,742 6,854,742
----------- ------------ ------------- ---------------
Balances as of December 31, 1997 ........ 1,317,605 $1,386,417 $10,405,775 $11,792,192
=========== ============ ============= ===============
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
ILEX SYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
<S> <C>
Cash flows from operating activities:
Net income .......................................................................... $ 6,854,742
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization ...................................................... 419,593
Allowance for doubtful accounts .................................................... (203,255)
Loss on write-down of investment ................................................... 250,000
Deferred income taxes .............................................................. 485,000
Issuance of common stock for services .............................................. 42,500
Changes in operating assets and liabilities:
Receivables ....................................................................... (1,267,205)
Inventories ....................................................................... 387,485
Other current assets .............................................................. (112,176)
Deposits and other assets ......................................................... 140,884
Accounts payable and accrued liabilities .......................................... 324,963
Deferred income ................................................................... (159,012)
Income taxes payable .............................................................. 80,552
Other liabilities ................................................................. (459,166)
-------------
Net cash provided by operating activities ........................................ 6,784,905
-------------
Cash flows used in investing activities--purchases of property, plant, and equipment (416,630)
-------------
Cash flows from financing activities:
Payments on debt .................................................................... (67,265)
Distributions paid to shareholders .................................................. (4,832,547)
Repurchase of common stock .......................................................... (14,392)
-------------
Net cash used in financing activities ............................................ (4,914,204)
-------------
Increase in cash and cash equivalents ................................................ 1,454,071
Cash and cash equivalents, beginning of year ......................................... 3,465,477
-------------
Cash and cash equivalents, end of year ............................................... $ 4,919,548
=============
Supplemental disclosures of cash flow information:
Cash paid during year:
Income taxes ....................................................................... $ 716,190
=============
Interest ........................................................................... $ 8,579
=============
Noncash investing and financing activities--distributions payable to shareholders .. $ 2,216,877
=============
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
ILEX SYSTEMS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(1) SUMMARY OF THE COMPANY AND SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
ILEX Systems, Inc. (the "Company") provides services and products
primarily in four areas: environmental consulting services to private and
public sector customers; software consulting services to the federal
government and its contractors; supervisory control and data acquisition
products and services to the electrical utility industry; and secured
communications products, principally to the federal government and its
agencies. The majority of the Company's revenues are derived from its
software consulting services.
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the financial
statements of the Company and its wholly owned subsidiary. All significant
intercompany balances and transactions have been eliminated in consolidation.
REVENUE RECOGNITION
The Company's consulting services are generally performed on time-and
materials-based contracts for the federal government and its contractors.
Accordingly, revenues are recognized as services are performed. Equipment
sales revenues are recognized upon shipment. Unbilled accounts receivable
comprise charges for services and materials provided to customers that have
not been invoiced.
The Company does not require collateral for its receivables. Reserves are
maintained for potential credit losses.
CASH EQUIVALENTS
Cash equivalents of $1,879,285 as of December 31, 1997, consist
principally of money market investments. For purposes of the accompanying
consolidated statement of cash flows, the Company considers all highly liquid
debt instruments with remaining maturities of three months or less when
acquired to be cash equivalents.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value of financial instruments in the Company's consolidated
financial statements approximates fair value due to the short-term maturities
of these instruments.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out basis) or
market.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are stated at cost. Depreciation is
calculated using the straight-line method over the estimated useful lives of
the assets (generally five years). Leasehold improvements are amortized
straight-line over the shorter of the lease term or the estimated useful life
of the asset.
GOODWILL
Goodwill, which represents the excess of purchase price over the fair
value of net assets acquired, is amortized on a straight-line basis over the
expected periods to be benefited of 10 to 15 years. The Company assesses the
recoverability of goodwill by determining whether the amortization of the
goodwill balance over its remaining life can be recovered through
undiscounted future operating cash flows of the acquired operation.
7
<PAGE>
INCOME TAXES
The Company elected S corporation status on March 17, 1997, effective
January 1, 1997. Federal and the majority of state income taxes on the income
of S corporations are generally payable by the individual shareholders rather
than the Company.
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets
and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected
to be recovered or settled. The effect on deferred tax assets and liabilities
of a change in tax rates is recognized in income in the period that includes
the enactment date.
USE OF ESTIMATES
The Company's management has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these consolidated financial
statements in conformity with generally accepted accounting principles.
Actual results could differ from those estimates.
(2) INVENTORIES
Inventories consisted of the following as of December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
Raw materials and
subassemblies.................. $833,945
Work in process................. 89,521
----------
$923,466
==========
</TABLE>
(3) LINE OF CREDIT AND LONG-TERM DEBT
The Company has a $5,000,000 line of credit with a bank that is due on
demand. Interest is payable at the bank's prime rate (8.5% as of December 31,
1997) and is secured by trade accounts receivable, inventories, and other
assets. Borrowings outstanding under the line of credit were $-0-as of
December 31, 1997. The line of credit contains certain restrictive financial
covenants, including a minimum level of net worth and cash flow to debt
ratio. As of December 31, 1997, the Company was in compliance with all such
covenants.
The Company has an unsecured promissory note payable to a former
shareholder that was issued in conjunction with the repurchase of shares of
common stock in 1992. The note bears interest at 10% with payments of $6,000
per month, including interest, through December 1998. As of December 31,
1997, the principal balance of this note was $62,833.
(4) INCOME TAXES
The provision for income taxes for the year ended December 31, 1997,
consisted of the following:
<TABLE>
<CAPTION>
<S> <C>
Federal:
Current .. --
Deferred . $388,000
----------
388,000
----------
State:
Current .. 65,000
Deferred . 97,000
----------
162,000
----------
$550,000
==========
</TABLE>
8
<PAGE>
The provision for income taxes for the year ended December 31, 1997,
differs from the federal statutory rate, primarily due to the flow through
nature of income tax liability to the shareholders and reduction of the
federal and partial state deferred income tax assets and liabilities as of
December 31, 1996, resulting from the S corporation election as follows:
<TABLE>
<CAPTION>
<S> <C>
Federal income tax statutory rate ........ 34.0%
State income tax rate..................... 2.2
Benefit of federal S corporation
election................................. (28.8)
--------
7.4%
========
</TABLE>
The gross deferred tax assets were $13,000 as of December 31, 1997,
consisting of the state deferred income tax assets and liabilities for those
states who do not recognize S corporation status. Management considers
realization of the net deferred tax assets more likely than not due to
continued profitability of the Company and significant carryback
opportunities.
(5) EMPLOYEE BENEFIT PLANS
The Company has two Section 401(k) retirement savings plans (the Plans).
Under the terms of the Plans, employees may make contributions based on a
percentage of eligible earnings. Company contributions to the Plans are
discretionary and totaled $359,718 in 1997.
(6) STOCK OPTION PLAN
The Company has 100,000 shares of common stock reserved for issuance under
its 1992 Incentive Stock Option Plan (the "Plan"). Under the Plan, the
Company may grant options to employees, officers, and directors. Options are
granted at prices not less than the fair market value of the Company's common
stock as determined by the Board of Directors on the grant date. Options vest
ratably over 48 months and expire 49 months from the date of grant.
The Company applies Accounting Principles Board Opinion No. 25 (APB 25) in
accounting for its stock options. The exercise price for stock options
granted to employees in 1997 equaled the fair value of the Company's common
stock at the date of grant. Accordingly, in accordance with APB 25, no
compensation expense was recognized by the Company.
For purposes of pro forma disclosures required by Statement of Financial
Accounting Standards No. 123 (SFAS 123), the compensation cost of the
options, based on their estimated fair values, is amortized to expense over
the vesting periods of the options. The Company's net income for the year
ended December 31, 1997 would have reduced to the pro forma amounts indicated
below:
<TABLE>
<CAPTION>
<S> <C>
Net income:
As reported . $6,854,742
============
Pro forma .... $6,838,958
============
</TABLE>
On January 1, 1997, the Company had no options outstanding. In July 1997,
the Company granted 25,000 options at an exercise price of $17.50, all of
which were outstanding but not exercisable as of December 31, 1997.
The weighted-average grant-date fair value of options granted during the
year ended December 31, 1997 was $3.05 per option. The weighted-average
remaining contract life of the Company's outstanding stock options was 3.5
years at December 31, 1997.
Pro forma information regarding net income as required by SFAS 123 has
been determined as if the Company had accounted for its employee stock
options under the fair value method. The fair value for the options was
estimated at the date of grant using the minimum value method prescribed in
SFAS 123, which does not consider the expected volatility of the Company
stock price, with the following weighted-average assumptions for 1997: risk
free interest rate of 6.06%; dividend yield of 0%; and weighted-average
expected option life of 3.25 years.
9
<PAGE>
(7) COMMITMENTS
The Company leases certain facilities under operating leases that expire
at various dates through 2001. The Company in turn subleases some of these
facilities. As of December 31, 1997, future minimum lease payments under
noncancelable operating leases, exclusive of the sublease rentals, are as
follows:
<TABLE>
<CAPTION>
YEAR ENDING
DECEMBER 31,
- --------------
<S> <C>
1998......... $1,474,448
1999......... 510,551
2000......... 292,096
2001......... 124,212
------------
$2,401,307
============
</TABLE>
Rent expense, exclusive of sublease rentals, was approximately $1,081,636
in 1997. Sublease rental income was approximately $186,733 in 1997.
(8) SIGNIFICANT CUSTOMERS
For the year ended December 31, 1997, sales to a single customer
represented 26% of revenues. The outstanding accounts receivable and unbilled
receivable balances for this customer as of December 31, 1997, were
$1,257,875 and $2,228,650, respectively.
(9) SUBSEQUENT EVENT
In January 1998, shareholders of the Company agreed to sell all of their
common stock for approximately $50,000,000, subject to certain adjustments,
plus additional consideration based on post-acquisition performance. The sale
closed on February 27, 1998.
10
<PAGE>
EXHIBIT 99.5
ALLIEDSIGNAL OCEAN SYSTEMS
A WHOLLY-OWNED OPERATION OF ALLIEDSIGNAL, INC.
COMBINED FINANCIAL STATEMENTS
AS OF AND FOR THE YEAR ENDED DECEMBER 31, 1997
1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
To the Management and Board of Directors
L-3 Communications Holdings, Inc.
We have audited the accompanying combined balance sheet of AlliedSignal
Ocean Systems, a wholly owned operation of AlliedSignal, Inc. ("Ocean
Systems"), as of December 31, 1997 and the related combined statements of
operations, equity and cash flows for the year then ended. These financial
statements are the responsibility of Ocean System's management. Our
responsibility is to express an opinion on these financial statements based
on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the combined financial position of Ocean Systems as
of December 31, 1997, and the combined results of their operations and cash
flows for the year ended December 31, 1997, in conformity with generally
accepted accounting principles.
Coopers & Lybrand L.L.P.
Los Angeles, California
February 23, 1998
2
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY-OWNED OPERATION OF ALLIEDSIGNAL, INC.)
COMBINED BALANCE SHEET
AS OF DECEMBER 31, 1997
(IN THOUSANDS)
<TABLE>
<CAPTION>
<S> <C>
ASSETS
Current assets:
Accounts receivable, net of allowances for doubtful accounts of $81 $13,313
Inventories ........................................................ 25,274
Contracts in progress .............................................. 793
Prepaid expenses and other current assets .......................... 1,743
---------
Total current assets .............................................. 41,123
Property, plant and equipment, net .................................. 16,845
Capitalized software, net ........................................... 2,248
Goodwill, net ....................................................... 1,820
Other assets ........................................................ 31
---------
Total assets ........................................................ $62,067
=========
LIABILITIES AND EQUITY
Current liabilities:
Accounts payable ................................................... $ 2,626
Accrued liabilities ................................................ 16,112
Advance payments ................................................... 16,162
---------
Total current liabilities ......................................... 34,900
Accrued pension and postretirement benefits ......................... 10,959
---------
Total liabilities ................................................... 45,859
---------
Commitment and contingencies
Equity:
Invested equity..................................................... 9,312
ELAC common stock .................................................. 3,424
ELAC retained earnings ............................................. 4,570
Cumulative translation adjustment .................................. (1,098)
---------
Total equity......................................................... 16,208
---------
Total liabilities and equity ........................................ $62,067
=========
</TABLE>
See accompanying notes to the combined financial statements
3
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY-OWNED OPERATION OF ALLIEDSIGNAL, INC.)
COMBINED STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
<TABLE>
<CAPTION>
<S> <C>
Sales ................................. $73,033
Cost of sales ......................... 56,049
---------
Gross profit ......................... 16,984
Operating expenses:
General and administrative ........... 11,981
Selling .............................. 5,933
Bid and proposal ..................... 2,053
Independent research and development 2,765
---------
Total operating expenses ............ 22,732
---------
Loss from operations .................. (5,748)
Interest expense, net ................. 490
Other income .......................... (185)
---------
Loss before income taxes .............. (6,053)
Benefit for income taxes .............. (2,378)
---------
Net loss ............................ $(3,675)
=========
</TABLE>
See accompanying notes to the combined financial statements
4
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
COMBINED STATEMENT OF EQUITY
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
<TABLE>
<CAPTION>
INVESTED ELAC ELAC CUMULATIVE
EQUITY IN OS COMMON RETAINED TRANSLATION TOTAL
(DEFICIT) STOCK EARNINGS ADJUSTMENT EQUITY
-------------- -------- ---------- ------------- ---------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1996 ..... $ 8,298 $3,424 $6,403 $ 87 $18,212
Net loss .......................... (2,680) -- (995) -- (3,675)
Cumulative translation adjustment -- -- -- (1,185) (1,185)
Advances from (repayments to)
AlliedSignal ..................... 3,694 -- (838) -- 2,856
-------------- -------- ---------- ------------- ---------
Balance at December 31, 1997 ..... $ 9,312 $3,424 $4,570 $(1,098) $16,208
============== ======== ========== ============= =========
</TABLE>
See accompanying notes to the combined financial statements
5
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
COMBINED STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
<TABLE>
<CAPTION>
<S> <C>
Cash flows from operating activities:
Net loss ..................................................................... ($ 3,675)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Depreciation of property, plant and equipment ............................... 2,976
Amortization of capitalized software ........................................ 1,078
Amortization of intangible assets ........................................... 70
Loss on the disposal of property, plant and equipment ....................... 8
Changes in operating assets and liabilities:
Accounts receivable ........................................................ 13,561
Inventories ................................................................ (359)
Contracts in progress ...................................................... 1,666
Prepaid and other current assets ........................................... (220)
Accounts payable ........................................................... (1,976)
Accrued liabilities ........................................................ (10,472)
Advance payments ........................................................... (1,092)
Accrued pension and postretirement benefits ................................ (20)
----------
Net cash provided by operating activities ................................. 1,545
----------
Cash flows from investing activities:
Property, plant and equipment purchased ...................................... (3,090)
Software purchased ........................................................... (265)
----------
Net cash used in investing activities ..................................... (3,355)
----------
Cash flows from financing activities:
Advances from AlliedSignal, net .............................................. 3,198
----------
Net cash provided by financing activities ................................. 3,198
----------
Effect of foreign currency exchange rate changes on cash ..................... (1,388)
----------
Net change in cash ............................................................ --
Cash and cash equivalents at the beginning of the year ........................ --
----------
Cash and cash equivalents at the end of the year .............................. $ --
==========
Supplement disclosures of cash flow information:
Cash paid during the year for:
Interest--AlliedSignal ...................................................... $ 552
----------
</TABLE>
See accompanying notes to the combined financial statements
6
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
1. BACKGROUND AND DESCRIPTION OF BUSINESS
The Ocean Systems business ("Ocean Systems" or the "Company") is a wholly
owned operation of AlliedSignal Inc. ("AlliedSignal") comprised of the Ocean
Systems Division ("OS"), and AlliedSignal ELAC Nautik GmbH ("ELAC"). The OS
Division headquarters and principal operations, including one manufacturing
site, are located in Sylmar, California, a suburb of Los Angeles. OS also
operates marketing offices located in Canada ("ASCI") and England ("BOSL").
OS was acquired through AlliedSignal's merger with the Bendix Corporation in
1982. ELAC is a wholly owned subsidiary of AlliedSignal Deutschland ("AS
Deutschland") and is a separate legal entity located in Kiel, Germany. ELAC
was acquired from Honeywell Inc. in 1994.
On December 22, 1997, L-3 Communications Corporation, a wholly owned
subsidiary of L-3 Communications Holdings, Inc. ("L-3") entered into a
definitive Purchase Agreement with AlliedSignal to acquire substantially all
the net assets excluding land and buildings, and assumed certain of the
liabilities of OS and purchased the outstanding capital stock of ELAC from AS
Deutschland.
Ocean Systems develops, manufactures and sells sophisticated sonar
detection and tracking devices for underwater use. The Company's customers
include the U.S. Government, foreign governments, defense industry prime
contractors and commercial customers. The Company operates primarily in one
industry segment, electronic sonar components and systems.
All domestic government contracts and subcontracts of Ocean Systems are
subject to audit and various cost controls, and Government contracts and
related orders are subject to cancellation if funds for contract performance
for any subsequent year become unavailable. Foreign government contracts
generally include comparable provisions relating to termination for the
convenience of the foreign government.
The decline in the U.S. defense budget since the late 1980s has resulted
in program delays, cancellations and scope reduction for defense contracts in
general. These events may or may not have an effect on the Company's
programs; however, in the event that U.S. Government expenditures for
products of the type manufactured by the Company are reduced, and not offset
by greater foreign sales or other new programs or products, or acquisitions,
there may be a reduction in the volume of contracts or subcontracts awarded
to the Company.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICES
BASIS OF PRESENTATION AND USE OF ESTIMATES
The accompanying combined financial statements reflect the assets,
liabilities and operations of Ocean Systems including OS and ELAC which are
combined herein as they are entities under common control and management. All
significant intercompany accounts and transactions have been eliminated.
The preparation of financial statements in conformity with generally
accepted accounting principals requires the Company's 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 combined financial statements and the reported amounts of revenue and
expenses during the reporting period. The most significant of these estimates
and assumptions relate to contract estimates of sales and costs, excess and
obsolete inventory reserves, warranty reserves, pension estimates and
recoverability of recorded amounts of fixed assets. Actual results could
differ from these estimates.
REVENUE RECOGNITION
Under fixed-price contracts, sales and related costs are recorded upon
delivery and customer acceptance. Sales and related costs under
cost-reimbursable contracts are recorded on the percentage of
7
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
completion method. Anticipated future losses on contracts are charged to
income when identified. Revisions in profit estimates are reflected in the
period in which the facts, which require the revision, become known.
ACCOUNTS RECEIVABLE
Management assesses the credit risk and records an allowance for
uncollectable accounts as considered necessary based on several factors
including, but not limited to, an analysis of specific customers, historical
trends, current economic conditions and other information. The U.S. Navy
comprises a significant portion of Ocean System's revenues. The Company's
other customers include the navies of many foreign countries. The Company's
credit risk is affected by conditions or occurrences within the U.S.
Government and economic conditions of the countries in which the Company
operates or has customers. Sales are made on unsecured, customer-specific
credit terms, which may include extended terms.
INVENTORIES
Inventories are valued at the lower of cost or market using the average
cost method. Inventories consist of raw materials and supplies, work in
process and finished goods. An excess and obsolete inventory reserve has been
established primarily for raw materials and parts that have not been
allocated to firm contracts. The excess and obsolete inventory reserve is
based on estimates of future usage of inventory on hand.
CONTRACTS IN PROCESS
Costs accumulated under cost-reimbursable contracts include direct costs,
as well as manufacturing overhead. In accordance with industry practice,
these amounts are included in current assets.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at historical cost net of
accumulated depreciation. For financial purposes, property, plant and
equipment is generally depreciated on the straight line method using
estimated useful lives ranging from 3 to 20 years. Leasehold improvements are
amortized over the shorter of the lease term or the estimated useful life of
the improvements. Interest costs incurred during the construction of plant
and equipment are capitalized using an imputed interest rate approximating
8%. Interest costs capitalized during 1997 amounted to $57.
CAPITALIZED SOFTWARE
Capitalized software primarily represents costs incurred related to the
purchase and implementation of the Company's MRP II business system.
Capitalized software is reported at historical cost less accumulated
amortization. Amortization is based on the estimated useful service life not
to exceed five years. Amortization of capitalized software was $1,078 for the
year ended December 31, 1997. Accumulated amortization was $2,368 at December
31, 1997.
GOODWILL
Goodwill represents the excess of the cost of the purchased business over
the net assets acquired and is being amortized on a straight-line basis over
40 years. This excess relates primarily to the allocated portion of goodwill
arising out of the AlliedSignal merger with Bendix in 1982 and was allocated
to OS
8
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
based on the proportionate percentage of OS pretax earnings to the total
Bendix Aerospace Group pretax earnings at the time of the AlliedSignal
acquisition from Bendix. Amortization expense was $70 for the year ended
December 31, 1997. Accumulated amortization was $980 at December 31, 1997.
The carrying amounts of intangible assets are reviewed if the facts and
circumstances indicate potential impairment of their carrying value. If this
review indicates that intangible assets are not recoverable, as determined
based on the undiscounted cash flows of the entity acquired over the
remaining amortization period, the Company's carrying values related to the
intangible assets are reduced to the fair value of the asset.
RESEARCH AND DEVELOPMENT AND SIMILAR COSTS
Research and development costs sponsored by the Company include research
and development and bid and proposal efforts related to government products
and services. Customer-sponsored research and development costs incurred are
included in contract costs.
FOREIGN OPERATIONS AND FOREIGN CURRENCY TRANSLATION
The Company's major foreign operation is ELAC located in Germany with the
Deutsche mark as its functional currency. Assets and liabilities are
translated at current exchange rates at the end of the period. Income and
expenses are translated using the monthly average exchange rates. The effect
of the unrealized rate fluctuations on translating foreign currency assets
and liabilities into U.S. dollars are accumulated as a separate component of
equity in the accompanying combined balance sheet.
There are no material foreign currency gains or losses for the year ended
December 31, 1997 as the Company's U.S. sales to foreign customers are
denominated in U.S. dollars. ASCI Canadian sales are denominated in Canadian
dollars and the ELAC foreign sales are denominated in Deutsche Marks.
FINANCIAL INSTRUMENTS
At December 31, 1997, the carrying value of the Company's financial
instruments, such as receivables, accounts payable and accrued liabilities,
approximate fair value, based on the short-term maturities of these
instruments.
INCOME TAXES
The benefit for income taxes for OS was computed by applying statutory tax
rates to the reported loss before income taxes after considering items that
do not enter into the determination of taxable income and tax credits
reflected in the consolidated provision of AlliedSignal which are related to
OS. Income taxes for OS are assumed to have been settled with AlliedSignal at
December 31, 1997 and there are no separate tax attributes related to OS. For
ELAC, separate tax attributes that relate specifically to ELAC have been
considered in computing taxes.
3. TRANSACTIONS WITH ALLIEDSIGNAL
Ocean Systems relies on AlliedSignal for certain services, including
treasury, cash management, employee benefits, taxes, risk management,
internal audit, financial reporting, legal, contract administration and
general corporate services. Although certain assets, liabilities and expenses
related to these services have been allocated to the Company, the combined
financial position, results of operations and cash flows presented in the
accompanying combined financial statements would not be the same as would
have occurred had the Company been an independent entity. The following
describes the related party transactions.
9
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
ALLOCATION OF CORPORATE EXPENSES
The amount of allocated corporate expenses reflected in these combined
financial statements has been estimated based primarily on an allocation
methodology prescribed by government regulations pertaining to government
contractors. Corporate expenses allocated to Ocean Systems were $2,258 for
the year ended December 31, 1997, and are included in general and
administrative expense in the accompanying combined statement of operations.
PENSIONS
Certain of the Company's employees participate in various AlliedSignal
sponsored pension plans covering certain employees. Eligibility for
participation in these plans varies, and benefits are generally based on
employees' compensation and years of service.
AlliedSignal funding policy is generally to contribute in accordance with
cost accounting standards that affect government contractors subject to the
Internal Revenue code and regulations. Although the aforementioned pension
arrangements are part of certain AlliedSignal defined benefit plans, separate
actuarial estimates were made for the portion allocable to the Company.
Pension expense included in the accompanying combined statement of operations
was $1,452 for the year ended December 31, 1997. The pension plan liability
at December 31, 1997 was fully funded. The Company also has a supplemental
pension plan for highly compensated employees as defined by IRS rules. The
liability reflected in the accompanying combined balance sheet was $650 at
December 31, 1997. Pension expense included in the combined statement of
operations for the supplemental pension plan was $24 for the year ended
December 31, 1997.
The Company's German employees of ELAC are covered by a separate pension
plan. Pension costs included the following components for the year ended
December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
Service costs earned during the year ......... $163
Interest cost on projected benefit obligation 119
Actual return on plan assets .................. (92)
Amortization of unrecognized net obligation .. 24
------
Net periodic pension cost ..................... $214
======
</TABLE>
10
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
The following table sets forth the ELAC pension plan funded status and
amounts recognized in the Company's combined balance sheet at December 31,
1997:
<TABLE>
<CAPTION>
<S> <C>
Actuarial present value of benefit obligation
Vested ................................................ $1,067
Nonvested ............................................. 296
--------
Accumulated benefit obligation ....................... 1,363
========
Projected benefit obligation .......................... 1,919
Plan assets at fair value ............................. 1,422
--------
Projected benefit obligation in excess of plan assets 497
Unrecognized net loss ................................ 37
Unrecognized prior service costs .....................
Unrecognized net obligation .......................... (361)
--------
Accrued pension costs ............................... $ 173
========
</TABLE>
<TABLE>
<CAPTION>
<S> <C>
Major assumptions were:
Discount Rate ................................... 6.8%
Expected long-term rate of return on assets .... 6.8%
Rate of increase in compensation levels ........ 4.0%
</TABLE>
POSTRETIREMENT HEALTH CARE AND LIFE INSURANCE BENEFITS
In addition to participating in AlliedSignal pension plans, employees of
OS are provided varying levels of health care and life insurance benefits for
retired employees and dependents. Participants are eligible for these
benefits when they retire from active service and meet the pension plan
eligibility requirements. These benefits are funded primarily on a
pay-as-you-go basis with the retiree generally paying of the cost through
contributions, deductibles and coinsurance provisions.
Although the aforementioned postretirement benefits are part of certain
AlliedSignal postretirement arrangements, separate actuarial estimates were
made for the portion allocable to the Company. The weighted average discount
rate utilized in determining the accumulated postretirement benefit
obligation was 7.25% for 1997. Net postretirement benefit costs included in
the combined statements of operations was $1,072 for the year ended December
31, 1997.
The net postretirement benefit costs for 1997 included the following
components:
<TABLE>
<CAPTION>
<S> <C>
Service cost-benefits attributed to service during the period $ 545
Interest cost on accumulated postretirement benefit obligation 704
Amortization of gain .......................................... (177)
=======
Net postretirement benefit cost .............................. $1,072
=======
</TABLE>
11
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
The funded status of the plan and related liability amounts recognized in
the accompanying combined balance sheet at December 31, 1997 were as follows:
<TABLE>
<CAPTION>
<S> <C>
Accumulated postretirement benefit obligation:
Fully eligible active plan participants ..... $2,698
Other active plan participants ............... 7,049
--------
9,747
Unrecognized prior service costs .............. --
Unrecognized net gain (loss) .................. --
--------
Accrued postretirement benefit cost ......... $9,747
========
</TABLE>
EMPLOYEE SAVINGS PLANS
Ocean Systems North American operation also has a supplemental savings
plan in which the Company matches the contributions of participating
employees up to a designated level. Under this plan, the matching
contributions, in cash, were $54 for the year ended December 31, 1997 and the
liability recorded at December 31, 1997 was $562.
INTEREST EXPENSE
Interest expense has been allocated to the Company by applying
AlliedSignal's weighted average consolidated interest rate to the portion of
the beginning of the period equity account deemed to be financed by
consolidated debt, which has been determined based on AlliedSignal's debt to
equity ratio on such date. Management of the Company believes that this
allocation methodology is reasonable.
The allocated interest expense was calculated using the following equity
balance and interest rate, for the year ended December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
Equity ........ $5,751
Interest Rate 9.6%
</TABLE>
Allocated interest expense for the year ended December 31, 1997 amounted
to $552 and is included in interest expense, net in the accompanying combined
statement of operations.
INCOME TAXES
The Company will be included in the consolidated Federal income tax
return, foreign tax returns and certain combined and separate state and local
income tax returns of AlliedSignal for 1997. Income taxes for OS are
considered to have been settled with AlliedSignal at December 31, 1997 and
are recorded through the invested equity account with AlliedSignal as there
are no separate stand alone tax attributes related to OS.
ELAC participates in the AlliedSignal Deutschland GmbH profit pooling
agreement for corporate income tax and municipal trade tax. Since entering
into this agreement ELAC has not paid German taxes, as any profits or losses
of ELAC are transferred to AlliedSignal Deutschland. For purposes of these
combined financial statements, the tax attributes that relate to ELAC prior
to entering into the pooling agreement have been considered in computing the
separate ELAC tax computations as these attributes will remain with ELAC
after the termination of the pooling agreement after the acquisition by L-3.
12
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
STATEMENT OF CASH FLOWS
The company participates in the AlliedSignal cash management system, under
which all cash is received and payments are made by AlliedSignal. All
transactions between the Company and AlliedSignal have been accounted for as
settled in cash at the time such transactions were recorded by the Company.
4. INVENTORIES AND CONTRACTS IN PROCESS
Net inventories are comprised of the following components at December 31,
1997:
<TABLE>
<CAPTION>
<S> <C>
Raw materials and supplies ............ $14,894
Work in process ....................... 6,675
Finished goods ........................ 12,080
Excess and obsolete inventory reserve (7,772)
---------
Net inventories ...................... 25,877
Less, unliquidated progress payments (603)
---------
$25,274
=========
</TABLE>
For the year ended December 31, 1997, there were no general and
administrative, independent research and development, or bid and proposal
costs charged to inventory.
Contracts in process, amounting to $793 as of December 31, 1997, include
accumulated inventoried costs and profits on cost or cost-reimbursement
contracts, principally with the U.S. Government. The U.S. Government has
title to, or a security interest in, inventories to which progress payments
are applied. The Company believes that substantially all such amounts will be
billed and collected within one year.
5. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment at December 31, 1997 are comprised of the
following components:
<TABLE>
<CAPTION>
<S> <C>
Buildings, building improvements and land
improvements ................................ $ 9,108
Machinery, equipment, furniture and fixtures 48,060
Leasehold improvements ....................... 300
----------
57,468
Less, accumulated depreciation and
amortization ................................ (43,324)
----------
14,144
Land ......................................... 388
Construction in progress ..................... 2,313
----------
$ 16,845
==========
</TABLE>
Depreciation and amortization expense was $2,976 for the year ended
December 31, 1997.
13
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
6. INCOME TAXES
The effective tax rate differs from the statutory federal income tax rate
for the following reasons:
<TABLE>
<CAPTION>
<S> <C>
Statutory federal income tax rate .... (35.0)%
State taxes net of federal benefit ... (6.0)%
Foreign losses with no tax benefit ... 6.7 %
Foreign sales corporation tax
benefit.............................. (4.5)%
Other, net............................ (0.5)%
---------
(39.3)%
=========
</TABLE>
At December 31, 1997, the German trade tax and corporate income tax net
operating loss ("NOL") carryovers amounted to $953 and $1,180, respectively,
and may be carried forward indefinitely.
At December 31, 1997, deferred tax assets related to ELAC's German trade
tax and corporate income tax NOL carryovers amounted to $468. A full
valuation is recorded against the deferred tax asset.
The valuation allowance for deferred taxes was based on ELAC's historical
losses from operations and its current year loss. In addition, certain
aspects of the acquisition could limit the utilization of a portion or all of
these NOL carryovers. Accordingly, management believes currently there is not
enough historical information to support that it is more likely than not that
ELAC will realize the future tax benefit of these NOL carryovers.
7. EQUITY
Invested equity represents the equity contributed to OS by AlliedSignal
and related accumulated results of operations of OS. ELAC common stock
represents the one share of common stock held by AS Deutschland. ELAC's
retained earnings includes the impact of ELAC's accumulated operating losses,
and repayments to AlliedSignal offset by the effects of the amortization of
negative goodwill associated with the ELAC acquisition from Honeywell.
8. SALES TO PRINCIPAL CUSTOMERS
The Company operates primarily in one industry segment, electronic sonar
components and systems. Sales to principal customers are as follows for the
year ended December 31, 1997:
<TABLE>
<CAPTION>
<S> <C>
U.S. Government agencies and prime contractors $36,133
German government............................... 5,895
Other foreign governments....................... 24,883
Commercial customers............................ 6,122
---------
$73,033
=========
</TABLE>
14
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
Summarized data of the Company's operations by geographic area for the
year ended December 31, 1997 are as follows:
<TABLE>
<CAPTION>
NORTH REST OF
AMERICA GERMANY EUROPE ASIA OTHER ELIM TOTAL
--------- --------- --------- --------- -------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Sales to unaffiliated
customer ............. $39,002 $ 8,146 $6,220 $18,611 $1,054 -- $73,033
Inter-area sales ...... 19,536 4,334 -- -- -- $(23,870) --
Loss from operations . (4,658) (1,090) -- -- -- -- (5,748)
Identifiable assets at
December 31, 1997 ... 51,613 10,454 -- -- -- -- 62,067
</TABLE>
9. COMMITMENTS AND CONTINGENCIES
The Company leases certain facilities and equipment under agreements
expiring at various dates through 2011. At December 31, 1997, future minimum
payments for noncancellable operating leases with initial or remaining terms
in excess of one year are $933 for 1998, $340 for 1999, $161 for 2000, $35
for 2001 and $7 for 2002.
Leases covering major items of real estate and equipment contain renewal
and or purchase options which may be exercised by the company. Rent expense,
net of sublease income from other AlliedSignal entities, was $1,342 for the
year ended December 31, 1997.
Management is continually assessing the Company's obligations with respect
to applicable environmental protection laws. While it is difficult to
determine the timing and ultimate cost to be incurred by the Company in order
to comply with these laws, based upon available internal and external
assessments, with respect to those environmental loss contingencies of which
management of the Company is aware, the Company believes that even without
considering potential insurance recoveries, if any, there are no
environmental loss contingencies that individually or in the aggregate, would
be material to the Company's combined financial position, cash flows and
results of operations. The Company accrues for these contingencies when it is
probable that a liability has been incurred and the amount of the loss can be
reasonably estimated.
The Company is engaged in providing products and services under contracts
with the U.S. Government and foreign government agencies. All such contracts
are subject to extensive legal and regulatory requirements, and, from time to
time, agencies of the U.S. Government investigate whether such contracts were
and are being conducted in accordance with these requirements. Under
government procurement regulations, an indictment of the Company by a federal
grand jury could result in the Company being suspended for a period of time
from eligibility for awards of new government contracts. A conviction could
result in debarment from contracting with federal government for a specified
term.
The Company is also periodically subject to periodic review or audit by
agencies of the U.S. Government. At December 31, 1997, there are several
pending issues with these agencies that are incidental to the Company's
business. One of these reviews was critical of the Company's procedures for
maintaining control of Government owned property in the Company's custody.
The Company is responsible and liable for $93 million of Government-owned
property in its possession. With respect to this and other U.S. Government
matters, the Company's management believes the ultimate resolution of any
such matters will not have a material adverse effect on the combined
financial position, cash flows or results of operations of the Company.
15
<PAGE>
ALLIEDSIGNAL OCEAN SYSTEMS
(A WHOLLY OWNED OPERATION OF ALLIEDSIGNAL, INC.)
NOTES TO COMBINED FINANCIAL STATEMENTS
DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
The Company is periodically subject to litigation, claims or assessments
and various contingent liabilities (including environmental matters)
incidental to their business. With respect to those investigative actions,
items of litigation, claims or assessments of which they are aware,
management of the Company is of the opinion that the probability is remote
that, after taking into account certain provisions that have been made with
respect to these matters, the ultimate resolution of any such investigative
actions, items of litigation, claims or assessments will have a material
adverse effect on the combined financial position, cash flows or results of
operations of the Company.
16
