<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the year ended October 31, 1997 Commission file number 0-13880
ENGINEERED SUPPORT SYSTEMS, INC.
(Exact name of Registrant as specified in its charter)
Missouri 43-1313242
(State of Incorporation) (IRS Employer Identification No.)
1270 North Price Road, St. Louis, Missouri 63132
(Address of principal executive officer) (Zip Code)
Registrant's telephone number including area code: (314) 993-5880
Securities registered pursuant to Section 12(b) of the Securities Exchange
Act of 1934:
Name of each exchange on
Title of each class which registered
------------------- ------------------------
Common stock, $.01 par value Over the counter
National Market System
National Association of
Security Dealers
No securities are registered pursuant to Section 12(g) of the Securities
Exchange Act of 1934.
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 requirement for the past 90 days. Yes X No
-------- --------
Based on the closing price on January 19, 1998, the aggregate market
value of the voting stock held by non-affiliates of the Registrant was
approximately $32,610,000.
The number of shares of the Registrant's common stock, $.01 par value,
outstanding at January 19, 1998 was 3,166,715.
DOCUMENTS INCORPORATED BY REFERENCE
Parts I and II incorporate by reference portions of the Engineered
Support Systems, Inc. Annual Report to Shareholders (the Annual Report) for
the year ended October 31, 1997. Part III incorporates by reference portions
of the Engineered Support Systems, Inc. Proxy Statement for the Annual
Shareholders Meeting to be held on March 10, 1998 (the Definitive Proxy
Statement) to be filed within 120 days after the close of the year ended
October 31, 1997.
<PAGE> 2
PART I
ITEM 1. BUSINESS
- ------ --------
Engineered Support Systems, Inc. (Company) is a holding company for two
wholly-owned subsidiaries: Engineered Air Systems, Inc. (Engineered Air) and
Engineered Specialty Plastics, Inc. (ESP).
Engineered Air is a military ground support equipment contractor which
specializes in designing, marketing and manufacturing nuclear, biological and
chemical defense systems; air conditioning and heating systems; water and
petroleum distribution systems; and other ground support equipment. This
equipment is designed to be used in any location where U.S. forces may be
deployed. It is designed for rapid deployment and multi-purpose use in
remote locations. Substantially all of Engineered Air's revenues have come
from the sale of equipment to the Department of Defense (DoD) and defense
contractors. ESP is a manufacturer of injection molded plastic products used
primarily in consumer goods such as housewares, computer terminals,
containers for the food processing industry, communication and word
processing equipment, automotive components, medical devices and storage
containers. ESP also produces Lifetime Faucets, a proprietary line of
nonmetallic faucets.
Engineered Air was incorporated under the laws of the State of Missouri
on December 24, 1981, and acquired the assets of the Defense Systems Division
of Allis-Chalmers Corporation on March 30, 1982. The Company was
incorporated under the laws of the State of Missouri in December 1983, and
exchanged all of its outstanding common stock for two-thirds of the common
stock of Engineered Air held by the Company's founders. The Company
purchased the remaining one-third of the common stock of Engineered Air in
January 1984, effective as of November 1, 1983. The Company became a
publicly-owned corporation on August 21, 1985. On March 9, 1993, the Company
purchased all of the outstanding stock of Associated Products, Inc.
(subsequently changed to Engineered Specialty Plastics, Inc.) from an
investor group.
MARKETING
- ---------
Engineered Air's marketing activities focus on determining the current
and future needs of the U.S. military for ground support equipment and
systems. To identify those needs, the Company gathers information from
primary sources such as the DoD budget and its supporting documents, and
military requirement documents such as the Air Force's Statement of Need, the
Navy's Operational Requirements and the Army's Required Operational
Capability.
The Company believes its ability to identify and respond quickly to
changing military needs enhances Engineered Air's ability to obtain new
contracts. The Company believes its defense operations are to some extent
insulated from the effect of reductions or elimination of specific military
programs because of the relative stability of the demand for military ground
support equipment and Engineered Air's ability to provide a wide variety of
products to that market. This is especially true with the recent trend of
the Government away from defending against nuclear threats and toward support
for our conventional forces, with an emphasis on mobility and rapid
deployment.
ESP's principal customers are large, well-established producers of
consumer products. (For the year ended October 31, 1997, 39% of ESP sales
were to one customer). Sales of custom molded plastic products are both
direct and through sales representatives. Customers typically submit sample
parts and drawings to ESP for quotations. An accepted quote sheet is
formalized and becomes the contract. Contracts can be canceled on 30 days
notice.
A significant portion of ESP sales are of storage containers. ESP
anticipates that container sales will remain strong as it is in geographic
proximity to several large purchasers of these products, including companies
within the housewares and poultry industries. The Company also anticipates
that sales for ESP will continue to be strong within the office equipment
market. Custom molded parts for computer terminals, communication and word
processing equipment represent a significant portion of sale volume.
However, ESP is capable of producing a wide variety of custom molded products
including automotive parts, medical apparatus, electronic switching
equipment, electrical
2
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appliances, and most small electronic devices. Sales of its proprietary line of
kitchen and lavatory faucets are primarily through sales representatives, and
focus on service and price.
ENGINEERING
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Engineered Air has approximately 30 persons engaged in activities for
the design and development of new products and the improvement of existing
products. Essentially all of Engineered Air's development activities are
conducted pursuant to U.S. government contracts in response to designated
performance specifications. The Company's own expenditures on research and
development were insignificant during the three-year period ended October 31,
1997.
Engineering capabilities include expertise in thermodynamics, air flow
and liquid pumping, stress analysis, liquid fuel combustion, dynamic and
climatic environmental engineering, biological and chemical decontamination,
non-pyrotechnic smoke generation, and filtration of nuclear, biological and
chemical contamination.
The design phase of Engineered Air's product development activities is
enhanced by use of a computer-aided design and manufacturing system. This
system is used by engineers and draftsmen to design complex products and
component parts in three-dimensional view, and minimizes the need for
time-consuming manual methods of prototype development. Engineered Air's
engineering staff and CAD/CAM system provide it with the ability to adapt its
production process to new product needs on a timely basis.
Engineered Air maintains extensive laboratory facilities used for
supporting engineering development and production operations. These include
test facilities for measurement of product performance from -65 degrees to
+140 degrees and a completely equipped prototype shop. Engineered Air also has
the capability to provide complete technical data support for the products it
manufactures. This includes integrated logistics support, provisioning and
preparation of technical manuals.
MANUFACTURING AND PROCUREMENT
- -----------------------------
Engineered Air manufactures certain components for its products and
systems including fabricated metal cabinets, control panels and frames.
However, a significant portion of parts and materials for the products
manufactured by Engineered Air are purchased from third party suppliers.
Engineered Air believes that the materials and services it requires are
readily available through competitive sources and that it is not dependent
upon any one particular subcontractor or vendor. Engineered Air is qualified
by the U.S. government to the military quality control specifications
MIL-I-45208 and MIL-Q-9858, which apply to all contracts currently in
progress.
ESP's principal competitive advantage lies in the fact that it is
vertically integrated, with the manufacturing facilities to both mold and
finish plastic to high quality specifications. ESP operates 31 injection
molding machines ranging in size from 45 to 2,200 tons of clamp pressure.
Material handling capacity is achieved through five silos with a combined
capacity exceeding 200,000 pounds, a central vacuum loading system, blend
mixers, and a computer-integrated MRP system. Finishing equipment is "state
of the art" and includes a 650 foot paint conveyor, 20 paint spray booths,
drying ovens, hot stamp machines, silk screen machines, a 150 foot motorized
assembly line and sonic welders.
ESP also manufactures and distributes Lifetime Faucets, a proprietary
line of plastic lavatory and kitchen faucets. ESP subcontracts the assembly
and packaging of these faucets to an outside vendor. Assembly supervision,
as well as molding requirements, are maintained by ESP.
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PRODUCTS
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Products are manufactured by the Company within two industry segments:
military ground support equipment produced by Engineered Air and custom
molded plastic products produced by ESP. Pages 3, 13 and 14 of the 1997 Annual
Report are incorporated herein by reference.
The Company has manufactured over 40 distinct products for the U.S.
government during the past five years. The fluctuations in revenues by
product from period to period result primarily from changes in DoD
requirements. As a result, period to period comparisons of revenues by
product may not be meaningful.
GOVERNMENT CONTRACTING
- ----------------------
The Company's government contracts are obtained through the DoD
procurement process as governed by the Federal Acquisition Regulations and
related agency supplements, and are typically fixed-priced contracts. This
means that the price is agreed upon before the contract is awarded and the
Company assumes complete responsibility for any difference between estimated
and actual costs. Other important considerations in government contracting
are discussed herein.
Under the Truth in Negotiations Act of 1962 (the Act), the U.S.
government has the right for three years after final payment on certain
negotiated contracts, subcontracts and modifications thereto, to determine
whether the Company furnished the U.S. government with complete, accurate and
current cost or pricing data as defined by the Act. In the event the Company
fails to satisfy this requirement, the U.S. government has the right to
adjust a contract or subcontract price by the amount of any overstatement as
defined by the Act.
U.S. government contracts typically contain terms permitting the
contract to be terminated at the convenience of the U.S. government. In the
event of such termination, the Company is entitled to reimbursement for
certain expenditures and overhead as provided for in applicable U.S.
government procurement regulations. Generally, this results in the
contractor being reasonably compensated for work actually done, but not for
anticipated profits. The U.S. government may also terminate contracts for
cause if the Company fails to perform in strict accordance with contract
terms. The Company has never had a contract terminated by the U.S.
government for failure to perform in accordance with contract terms. If the
U.S. government would terminate any significant contracts with the Company
for cause, such condition could have an adverse effect on the Company's
revenues and business. Similarly, U.S. government contracts typically permit
the U.S. government to change, alter or modify the contract at its
discretion. In the event the U.S. government exercises this right, the
Company is entitled to reimbursement of all allowable and allocable costs
incurred in making the change plus a reasonable profit.
The U.S. government typically finances a substantial portion of the
Company's contract costs through progress payments. The Company currently
receives progress payments in accordance with DoD contract terms for "small
business" concerns. These terms provide progress payments at a specified
rate applied on the basis of costs incurred while progress payments for
concerns other than small businesses provide for payment based on costs
actually paid and at a 5% to 10% lower rate. Since completion of the ESP
acquisition, the Company has maintained total employment of less than 500
people and therefore continues to qualify as a small business for government
contracting purposes.
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PATENTS
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Engineered Air has various patents with expiration dates extending
through February 2002. From time to time, Engineered Air develops
proprietary information and trade secrets regarding the design and
manufacture of various military products.
ESP has developed a patent for a reversible faucet cartridge. The
benefit of the reversing feature is that by turning the cartridge one-half
revolution the user achieves the same result as though he had replaced a
washer to stop a leaking faucet. This patent expires in October 2002.
The Company considers its proprietary information and patents to be
valuable assets. However, the Company's business is not materially dependent
on patent protection.
COMPETITION
- -----------
Substantially all of Engineered Air's revenues have come from direct
and indirect contracts with the U.S. government. There is significant
competition in obtaining U.S. government contracts. In order to obtain U.S.
government contracts, Engineered Air must comply with detailed and complex
procurement procedures adopted by the U.S. government pursuant to regulations
promulgated by appropriate government agencies, including the DoD. The
regulations and procurement procedures are adopted to promote competitive
bidding. Engineered Air's competition varies for each of the classifications
of military equipment systems that it manufactures.
ESP's competitive market is regional due to the significant relative
impact of freight costs. However, the Company believes that ESP has more
capacity and flexibility than its primary competitors in the Mid-South
region. Its ability to both mold and finish plastic to high quality
specifications represents a significant advantage.
There are various domestic manufacturers of plastic faucets and several
importers with which ESP's Lifetime Faucets line competes. The Company
believes that its ability to produce a quality, low-cost line of faucets
represents a significant and profitable market niche. To further distinguish
this line, ESP produces its faucets in a variety of colors.
DEFENSE BACKLOG
- ---------------
The following table summarizes funded defense backlog information (in
millions) as of October 31 for the indicated years:
1997 $44.1
1996 90.7
1995 90.4
1994 77.9
1993 52.8
The backlog is exclusive of any options to order the Company's products under
existing contracts. The Company's contracts contain customary provisions
permitting termination at the convenience of the U.S. government. See
"Government Contracting."
5
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EMPLOYEES
- ---------
At December 31, 1997, the Company employed 295 persons. Of the 164
employees at Engineered Air, 109 were engaged in manufacturing activities, 30
in engineering activities, and 25 in office administration and management
functions. Approximately 66 of Engineered Air's employees are covered by a
collective bargaining agreement with Lodge 1012 of the International
Brotherhood of Boilermakers, Iron Ship Builders, Blacksmiths, Forgers, and
Helpers, AFL-CIO. Effective November 1, 1995, Engineered Air entered into an
agreement with the bargaining unit, which expires October 31, 1998.
Of the 135 employees at ESP, 107 are engaged in manufacturing
activities and 28 in sales, office administration and management functions.
The Company considers its employee relations to be satisfactory.
ITEM 2. PROPERTIES
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The Company owns two facilities in the metropolitan St. Louis area
consisting of approximately 320,000 square feet. Engineered Air's main
manufacturing facility and the Company's corporate headquarters are located
in a Company-owned building in St. Louis County, Missouri consisting of
approximately 170,000 square feet on 11 acres.
The Company owns one facility adjacent thereto consisting of a 150,000
square foot building on approximately 6 acres. In 1992, the Company
completed consolidation of all operations previously performed at this
location into its main facility. The vacated facility is currently being
leased to an unrelated third party and is for sale.
Engineered Air leases a building consisting of approximately 40,000
square feet on 3 acres in New Haven, Missouri. This facility is used for
manufacturing and assembly. Engineered Air also leases approximately 14,000
square feet in St. Louis County, Missouri. This facility is also used for
manufacturing and assembly.
ESP owns a manufacturing facility in Hot Springs, Arkansas. The
Company-owned building consists of approximately 110,000 square feet on 4.5
acres.
The Company's properties are subject to Deeds of Trust in favor of its
lender under a consolidated credit agreement. The Company believes that its
current facilities are sufficient for the conduct of its current level of
operations.
ITEM 3. LEGAL PROCEEDINGS
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In the opinion of management, there are no legal proceedings or
threatened legal proceedings which would have a material adverse effect on
the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS
- ------- -----------------------------------------------
There were no matters submitted to a vote of shareholders during the
fourth quarter of the year ended October 31, 1997.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK RELATED
- ------- ------------------------------------------------
SHAREHOLDER MATTERS
-------------------
Information concerning the principal market on which the Company's
common stock is traded and the high and low sales prices for such stock
during 1997 is shown in Supplemental Information on page 16 of the 1997
Annual Report, incorporated herein by reference. During 1995, the Company
initiated a semi-annual dividend program. The most recently declared
dividend was in the amount of $.0135 per share payable January 30, 1998 to
shareholders of record as of December 31, 1997.
ITEM 6. SELECTED FINANCIAL DATA
- ------- -----------------------
Financial data required under this section is shown in the Summary of
Selected Financial Data on page 2 of the 1997 Annual Report, incorporated
herein by reference.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
- ------- -----------------------------------------------------------
AND RESULTS OF OPERATIONS
-------------------------
Management's Discussion and Analysis of Financial Condition and Results
of Operations, shown on pages 4 through 5 of the 1997 Annual Report, is
incorporated herein by reference.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ------- -------------------------------------------
The following consolidated financial statements of Engineered Support
Systems, Inc. included in the Annual Report for the year ended October 31,
1997 at the pages indicated, are incorporated herein by reference:
Consolidated Balance Sheets, October 31, 1997 and 1996, page 6.
Consolidated Statements of Income, years ended October 31, 1997, 1996
and 1995, page 7.
Consolidated Statements of Shareholders' Equity, years ended October
31, 1997, 1996 and 1995, page 7.
Consolidated Statements of Cash Flows, years ended October 31, 1997,
1996 and 1995, page 8.
Notes to Consolidated Financial Statements, page 9 through 14.
The quarterly financial information included in Supplementary Information on
page 16 of the 1997 Annual Report is incorporated herein by reference.
All other schedules are omitted because they are not applicable or the
required information is included in the consolidated financial statements or
the notes thereto.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
- ------- ------------------------------------------------
ACCOUNTING AND FINANCIAL DISCLOSURES
------------------------------------
None.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- -------- --------------------------------------------------
The executive officers and directors of the Company, Engineered Air and
ESP as of January 19, 1998 are as follows:
<TABLE>
<CATION>
Name Age Position
---- --- --------
<S> <C> <C>
Michael F. Shanahan Sr. <F1> 58 Chairman, President, Chief
Executive Officer and Director
(Company)
John J. Wichlenski <F1> 54 Director (Company) and President
and Chief Executive Officer
(Engineered Air)
Raymond Barrett <F1><F2> 65 Director (Company)
Alexander M. Cornwell Jr. <F3> 71 Director (Company)
Thomas J. Guilfoil <F3> 78 Director (Company)
LTG Kenneth E. Lewi <F3> 67 Director (Company)
Michael F. Shanahan Jr. <F1><F2><F3> 31 Director (Company)
Earl E. Walker <F3> 77 Director (Company)
Earl W. Wims <F2> 58 Director (Company)
John E. Capeless 52 Vice President and
General Manager (ESP)
Ronald W. Davis 51 Vice President-Marketing
(Engineered Air)
Michael W. Donnelly 42 Vice President-Manufacturing
(Engineered Air)
Gary C. Gerhardt 52 Executive Vice President and
Chief Financial Officer
(Company, Engineered Air and
ESP)
Dan D. Jura 45 Vice President-Sales
(Engineered Air)
Terrence E. Lyles 47 Vice President-Purchasing
(Engineered Air)
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<S> <C> <C>
E. Allen Springer Jr. 52 Vice President-Engineering
(Engineered Air)
David P. Walsh 55 Vice President-Quality Assurance
(Engineered Air)
<FN>
<F1> Member of Executive Committee
<F2> Member of Audit Committee
<F3> Member of Compensation Committee
</TABLE>
EXECUTIVE OFFICERS
- ------------------
The officers serve at the discretion of the Board of Directors, subject
to the terms and conditions of their employment agreements.
Michael F. Shanahan Sr. has been a director of the Company since its
formation. Mr. Shanahan was named the Chief Executive Officer of the Company
in 1985. He was named Chairman of the Company and of Engineered Air in 1987,
and was named Chairman of ESP upon its acquisition in 1993.
John J. Wichlenski has been President and Chief Executive Officer of
Engineered Air since July 1992 and prior thereto served as Chief Operating
Officer since 1991. Mr. Wichlenski joined Engineered Air as Vice
President-Engineering in August 1986.
Gary C. Gerhardt was named Executive Vice President of the Company,
Engineered Air and ESP in December 1994. He has been Chief Financial Officer
of the Company, Engineered Air and ESP since October 1993. Prior thereto, he
was Vice President-Contract Administration of Engineered Air since 1985. Mr.
Gerhardt joined Engineered Air in 1982 as Manager of Contract Administration.
John E. Capeless has been Vice President and General Manager of ESP
since April 1996. Prior thereto, he was Vice President of Operations for
Atlantis Plastics, Inc. from 1994. He served as Director of Manufacturing
for Frem Corporation from 1989 to 1994.
Michael W. Donnelly has been Vice President-Manufacturing of Engineered
Air since March 1996. He served as Director of Manufacturing from May 1994
to March 1996. Prior thereto, he was Manager of Industrial Engineering since
1989. Mr. Donnelly joined Engineered Air in 1981.
Dan D. Jura has been Vice President-Sales since November 1993. Mr.
Jura joined Engineered Air in 1984 as Marketing Manager.
Terrence E. Lyles has been Vice President-Purchasing of Engineered Air
since August 1997. Prior thereto, he was Director of Purchasing from March
1990. Mr. Lyles joined Engineered Air in 1988.
David P. Walsh has been Vice President-Quality Assurance of Engineered
Air since August 1997. Prior thereto, he was Director of Quality Assurance
from January 1989. Mr. Walsh joined Engineered Air in 1985.
All of the remaining executive officers have been employed by the
Company in the positions indicated or comparable positions for the past five
years.
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NON-EMPLOYEE DIRECTORS
- ----------------------
W. Raymond Barrett has been a director of the Company since June 1985.
Mr. Barrett has been the President and principal shareholder of Bio-Medical
Systems, Inc. since January 1975. He is the brother-in-law of Mr. Shanahan.
Alexander M. Cornwell Jr. has been a director of the Company since
March 1993. He is a licensed professional engineer. Mr. Cornwell was the
Chairman and Chief Executive Officer of Street Industries, Inc. of St. Louis
from 1985 through 1988. Mr. Cornwell has provided consulting services to the
Company since 1988.
Thomas J. Guilfoil has been a director of the Company since March 1993.
He is the senior and founding partner of the St. Louis law firm of Guilfoil,
Petzall & Shoemake. His legal career began in St. Louis in 1941.
LTG Kenneth E. Lewi (U.S. Army, Retired) has been a director of the
Company since July 1990. He retired from the U.S. Army in August 1989 after
more than 34 years of service in various command and staff positions. His
career in the U.S. Army centered primarily on providing logistical support to
U.S. armed forces.
Michael F. Shanahan Jr. has been a director of the Company since
December 1994. He has been a Producer for Lockton Companies, an insurance
concern, since October 1994. Prior thereto he served as Assistant to the
Chairman of the Board of the Company since May 1991. He joined Engineered
Air in January 1990 as Marketing Representative.
Earl E. Walker has been a director of the Company since March 1996. He
has been the President and principal shareholder of Carr Lane Manufacturing
since founding it in 1952.
Earl W. Wims has been a director of the Company since December 1991.
He has been Chairman of Marketing Horizons, a marketing research and
consulting firm, since 1986.
ITEM 11. EXECUTIVE COMPENSATION
- -------- ----------------------
Information concerning executive compensation is shown in the Company's
Definitive Proxy Statement (to be filed within 120 days after the close of
the fiscal year ended October 31, 1997) incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
- -------- -----------------------------------------------
AND MANAGEMENT
--------------
Information relating to the ownership of the Company's securities by
certain beneficial owners and management is shown in the Definitive Proxy
Statement (to be filed within 120 days after the close of the year ended
October 31, 1997) incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- -------- ----------------------------------------------
Information on certain relationships, related transactions and
affiliation of directors is shown in the Definitive Proxy Statement (to be
filed within 120 days after the close of the year ended October 31, 1997)
incorporated herein by reference.
10
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND
- -------- ---------------------------------------------
REPORTS ON FORM 8-K
-------------------
(a) (1) and (2) Index of Financial Statements and Financial Statement
Schedules
The following consolidated financial statements of Engineered Support
Systems, Inc., included in the 1997 Annual Report of the registrant to its
shareholders, are incorporated by reference in Item 8:
Report of Independent Accountants
Consolidated Balance Sheets-October 31, 1997 and 1996
Consolidated Statements of Income-years ended October 31, 1997, 1996
and 1995
Consolidated Statements of Shareholders' Equity-years ended October 31,
1997, 1996 and 1995
Consolidated Statement of Cash Flows-years ended October 31, 1997, 1996
and 1995
Notes to Consolidated Financial Statements-October 31, 1997
All other schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under
the related instructions or are inapplicable, and therefore have been
omitted.
3. Lists of Exhibits (listed by numbers corresponding to exhibit table of
Item 601 in regulation S-K)
3.1 Articles of Incorporation of Engineered Support Systems, Inc. <F1>
3.2 Amendment of Articles of Incorporation <F2>
3.3 Amended and Restated By-Laws of Engineered Support Systems, Inc. <F2>
4.1 Credit Agreement dated August 19, 1993 by and between The Boatmen's
National Bank of St. Louis and Engineered Support Systems, Inc. <F8>
4.2 Engineered Air Systems, Inc. 1991 Stock Equity Plan <F4>
4.3 Engineered Support Systems, Inc. 1992 Stock Option Plan for Nonemployee
Directors <F5>
4.4 Engineered Support Systems, Inc. 1993 Stock Option Plan <F9>
4.5 Engineered Support Systems, Inc. 1997 Stock Option Plan for Nonemployee
Directors <F10>
4.6 Engineered Air Systems, Inc. Employee Stock Ownership Plan <F6>
4.7 Trust Agreement for the Engineered Air Systems, Inc. Employee Stock
Ownership Trust <F6>
10.1 Employee Agreement with Michael F. Shanahan Sr. <F3>
11
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10.2 Form of Indemnification Agreement with Directors <F2>
10.3 Lease Agreement dated February 15, 1992 by and between Engineered Air
Systems, Inc. and Hermann Marketing, Inc. <F7>
10.4 Covenants Not to Compete dated March 8, 1993 by and between Parker
Boys, Inc. and KWH Holdings, as covenantors, and Engineered Support
Systems, Inc. <F8>
10.5 Form of Employment Agreement with Presidents and Vice Presidents of
Engineered Air and ESP <F11>
10.6 Engineered Support Systems, Inc. Amended and Restated Executive
Incentive Plan <F11>
11 Statement Re: Computation of Net Income Per Share
13 Engineered Support Systems, Inc. Annual Report for the year ended
October 31, 1997 (the Annual Report). Except for the portions
incorporated herein by reference as evidenced in the Form 10-K, the
Annual Report is furnished for the information of the Securities and
Exchange Commission and is not deemed filed as part of this 10-K
22 Subsidiary of Registrant <F1>
24 Consent of Price Waterhouse LLP, Independent Accountants
27 Statement Re: Summary Financial Informaton
12
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[FN]
<F1> This information is incorporated herein by reference from Form
S-1 Registration Statement filed on July 10, 1985, registration
number 2-98909 as amended on August 13, 1985 and August 21,
1985.
<F2> This information is incorporated herein by reference from Form
10-K Annual Report filed on January 30, 1989.
<F3> This information is incorporated herein by reference from Form
10-K Annual Report filed on January 29, 1990.
<F4> This information is incorporated herein by reference from Form
S-8 registration statement, effective April 5, 1994 registration
number 33-77338.
<F5> This information is incorporated herein by reference from Form
S-8 registration statement, effective April 5, 1994,
registration number 33-77340.
<F6> This information is incorporated herein by reference from Form
S-8 registration statement, effective June 11, 1987,
registration number 33-14504.
<F7> This information is incorporated herein by reference from Form
10-K Annual Report filed on January 29, 1993.
<F8> This information is incorporated herein by reference from Form
10-K Annual Report filed on January 31, 1994.
<F9> This information is incorporated herein by reference from Form
S-8 registration statement, effective April 5, 1994,
registration number 33-77342.
<F10> This information is incorporated herein by reference from Form
S-8 registration statement, effective May 23, 1997,
registration number 333-27695.
<F11> This information is incorporated herein by reference from Form
10-K Annual Report filed on January 27, 1996.
(b) There were not reports filed on Form 8-K during the fourth quarter of
1997.
(c) Exhibits
The response to this portion of Item 14 is submitted as a separate section
of this Report
(d) Financial Statement Schedules
The response to this portion of Item 14 is submitted as a separate
section of this Report.
13
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SIGNATURES
- ----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this annual report to be
signed on its behalf by the undersigned thereunto duly authorized.
ENGINEERED SUPPORT SYSTEMS, INC.
--------------------------------
Dated: January 19, 1998 By: /s/ Gary C. Gerhardt
---------------------------- ----------------------------------------
Gary C. Gerhardt
Executive Vice President and
Chief Financial Officer
Pursuant to the requirements of the Securities and Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ Michael F. Shanahan Sr. Chairman of the Board January 19, 1998
- ---------------------------------- of Directors, President and ----------------
Michael F. Shanahan Sr. Chief Executive Officer
/s/ Gary C. Gerhardt Executive Vice President and January 19, 1998
- ---------------------------------- Chief Financial Officer ----------------
Gary C. Gerhardt
</TABLE>
14
<PAGE> 15
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the registrant
and in the capacities and on the dates indicated.
<TABLE>
DIRECTORS
---------
<S> <C> <C> <C>
/s/ Michael F. Shanahan Sr. Jan. 19, 1998 /s/ John J. Wichlenski Jan. 19, 1998
- ------------------------------- ------------- --------------------------- -------------
MICHAEL F. SHANAHAN SR. JOHN J. WICHLENSKI
/s/ W. Raymond Barrett Jan. 19, 1998 /s/ Alexander M. Cornwell Jan. 19, 1998
- ------------------------------- ------------- --------------------------- -------------
W. RAYMOND BARRETT ALEXANDER M. CORNWELL
/s/ Thomas J. Guilfoil Jan. 19, 1998 /s/ Kenneth E. Lewi Jan. 19, 1998
- ------------------------------- ------------- --------------------------- -------------
THOMAS J. GUILFOIL KENNETH E. LEWI
/s/ Michael F. Shanahan Jr. Jan. 19, 1998 /s/ Earl W. Wims Jan. 19, 1998
- ------------------------------- ------------- --------------------------- -------------
MICHAEL F. SHANAHAN JR. EARL W. WIMS
/s/ Earl E. Walker Jan. 19, 1998
- ------------------------------- -------------
EARL E. WALKER
</TABLE>
15
<PAGE> 16
ENGINEERED SUPPORT SYSTEMS, INC.
<TABLE>
EXHIBIT INDEX
<CAPTION>
Page No.
--------
<S> <C>
11. Statement Re: Computation of Net Income Per Share
13. Engineered Support Systems, Inc. Annual Report for year ended October 31,
1997 (the Annual Report). Except for the portions incorporated herein by
reference as evidenced in the Form 10-K, the Annual Report is furnished
for the information of the Securities and Exchange Commission and is not
deemed filed as part of this Form 10-K.
24. Consent of Price Waterhouse LLP, Independent Accountants
27. Statement Re: Summary Financial Information
</TABLE>
16
<PAGE> 1
<TABLE>
ENGINEERED SUPPORT SYSTEMS, INC.
EXHIBIT 11 - STATEMENT RE: COMPUTATION OF NET INCOME PER SHARE
<CAPTION>
Year Ended
----------------------------------------------------------
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
NET INCOME $4,638,946 $3,314,208 $2,473,062
========== ========== ==========
NET INCOME PER SHARE
Average shares outstanding 3,168,843 3,061,905 3,035,582
========== ========== ==========
Net income $1.46 $1.08 $.81
========== ========== ==========
PRIMARY EARNINGS PER SHARE
Average shares outstanding 3,168,843 3,061,905 3,035,582
Net effect of dilutive stock
options<F1> 134,348 191,391 228,294
---------- ---------- ----------
3,303,191 3,253,296 3,263,876
========== ========== ==========
Net income $1.40 $1.02 $.76
========== ========== ==========
FULLY DILUTED EARNINGS PER SHARE
Average shares outstanding 3,168,843 3,061,905 3,035,582
Net effect of dilutive stock
options<F1> 172,476 216,098 266,992
---------- ---------- ----------
3,341,319 3,278,003 3,302,574
========== ========== ==========
Net income $1.39 $1.01 $.75
========== ========== ==========
<FN>
<F1> Based on the treasury stock method
</TABLE>
1997, 1996 and 1995 net income per share, as presented in the
consolidated financial statements, is based on the fully diluted weighted
average number of common and common equivalent shares outstanding.
17
<PAGE> 1
<TABLE>
<CAPTION>
/ / CONTENTS
<S> <C>
Letter to the Shareholders................................ 1
Management's Discussion
and Analysis.............................................. 4
Consolidated Financial
Statements................................................ 6
Supplemental Information..................................16
Directors and
Officers...................................INSIDE BACK COVER
</TABLE>
FRONT COVER: The Chemical and Biological Protected Shelter System (CBPSS)
provides a contamination free, environmentally controlled work area that is
used as a field medical facility. This contract, currently in development and
scheduled for production beginning in early 1999, is the largest in Company
history.
<PAGE> 2
/ / LETTER TO THE SHAREHOLDERS
Dear Shareholder:
1997 was another year of growth for Engineered Support Systems, Inc. As in
the prior year, net income and net revenues increased to record levels. Our
growing financial strength has provided significant added flexibility to our
ongoing acquisition effort. And 1998 represents the doorway to a substantial
earnings stream from the largest contract in the history of our defense
subsidiary. In short, although shareholder return for the five-year period
ended December 31, 1997 was 717%, we are excited about the potential for
significant continued growth in shareholder value as we approach the new
millenium.
SUMMARY OF 1997
The Company reported net income of $4,639,000, or $1.39 per share, on
revenues of $88.6 million. This compares with net income of $3,314,000, or
$1.01 per share, on revenues of $81.5 million for 1996.
The defense subsidiary, Engineered Air Systems, Inc. (Engineered Air),
contributed record results in 1997 with net revenues and operating income
increasing 9% and 10%, respectively, from the prior year. This performance was
driven by significant production efforts related to contracts for Aviation
Ground Power Units, Flight Line Air Conditioners, Revetment Kits and
B-1B Air Conditioners. In 1998, Engineered Air will be placing a greater
emphasis on development and final testing of two key contracts: the Chemical
and Biological Protected Shelter System (CBPSS) and the Chemically/
Biologically Hardened Air Management Plant (CHAMP). These two programs
represent $122 million, or 61%, of this subsidiary's total funded and unfunded
backlog at October 31, 1997. Significant production requirements on both are
anticipated to begin in early 1999. Because our progress to date has been very
well received by the U.S. Army and U.S. Air Force, we believe that the CBPSS
and CHAMP contracts lay a foundation for substantial revenue and earnings
growth for Engineered Air in the years to follow. In addition, continued
emphasis by the Department of Defense and by foreign nations on nuclear,
biological and chemical defense systems presents significant market potential
for the CBPSS, CHAMP and similar products designed and manufactured by
Engineered Air.
Engineered Specialty Plastics, Inc. (ESP), the commercial subsidiary, also
reached record heights during the past year. 1997 net revenues and operating
income increased 8% and 141%, respectively. The outstanding performance at ESP
was a result of increased capacity utilization, targeted cost reductions and a
continuing emphasis on product quality and customer service. The
accomplishments of this subsidiary cannot be overstated. The Company acquired
ESP in 1993. Since then, we have invested $4.8 million in new equipment,
improved systems and expanded facilities. (This includes the addition of a
2,200 ton molding machine in 1997. ESP's next largest machine has 1,500 tons of
clamp pressure). In addition, we have assembled a solid and effective
management team which, in 1997, generated $3.2 of operating income before
depreciation and amortization. Although fourth quarter results were slowed by
the impact of reduced shipments of houseware products, sales had returned to
more normalized levels by the end of the first quarter of 1998. We therefore
anticipate continued top- and bottom-line growth from ESP in 1998 and beyond.
FLEXIBILITY IN FINANCIAL STRENGTH
Because of its operational success, the Company has been able to build an
extremely strong balance sheet. In 1997, the Company generated free cash flow
(net income plus non-cash items less capital expenditures) of $4.2 million, or
$1.25 per share. Cash and cash equivalents increased to $8.3 million in 1997
from $1.4 million last year. Working capital increased to $11.6 million from
$8.4 million and the current ratio increased to 2.3 to 1 from 1.9 to 1 during
the year. Total shareholders' equity also increased to $23.7 million at October
31, 1997 from $19.3 million at October 31, 1996. In all, the Company's
financial position has never been stronger.
The Company has utilized excess funds generated in several ways. Term debt
has been systematically retired. In January 1998, the Company paid off the
remaining balance of its term loan with the Arkansas Teachers Retirement Fund.
Although for financial reporting purposes the Company records its ESOP loan
guarantee as a liability,
1 / /
<PAGE> 3
the January retirement effectively leaves the Company debt-free for the first
time in its history. The Company also continues to purchase treasury shares.
In 1997, an additional $1 million of treasury shares were purchased. In the
three and one-half years ended October 31, 1997, the Company has purchased
620,441 shares of treasury stock for approximately $3.2 million, or $5.23 per
share. In January 1997, we announced a plan to repurchase an additional
150,000 shares of stock. This threshold has been exceeded with those purchases
made through January 1998. We believe that treasury purchases during periods of
short-term market devaluation provide an outstanding use of Company funds and
we will continue to provide shareholder value through these transactions.
Because the U.S. government has streamlined its procurement system and
effectively encouraged consolidation of defense contractors, we believe that
significant acquisition opportunities exist within this industry. This is
particularly true in our area of expertise where the government's growing
emphasis on "best value buying" programs has resulted in a shakeout of
ineffective competitors and has rewarded quality, low cost vendors such as
Engineered Air. An acquisition in our core business would therefore result in
added capabilities and contract revenue growth within the framework of a
streamlined cost structure. However, any acquisition consummated by the Company
must provide both accretion to earnings per share and long-term value to our
shareholders.
I would like to congratulate all of our employees and directors for a truly
exceptional year in 1997. Their day-to-day efforts make this Company the
success story it has become. To our shareholders, thank you for your continuing
support. I look for another outstanding earnings performance in 1998. With the
maturation of the CBPSS and CHAMP contracts, the continued growth of ESP and
the possible benefits of a successful acquisition, I believe Engineered Support
Systems, Inc. will continue to provide significant shareholder value in the
years to come.
Sincerely,
/s/ Michael F. Shanahan Sr.
Michael F. Shanahan Sr.
Chairman of the Board, President
and Chief Executive Officer
<TABLE>
SUMMARY OF SELECTED FINANCIAL DATA In thousands, except for per share data
- ---------------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995 1994 1993
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
RESULTS OF OPERATIONS:
Net revenues $88,571 $81,507 $65,533 $56,619 $42,227
Gross profit 14,755 12,414 10,745 8,145 7,461
Income from operations 7,668 5,956 5,016 2,085 1,546
Net interest expense (income) (64) 434 895 828 686
Income before income taxes 7,732 5,522 4,121 1,257 860
Income tax provision 3,093 2,208 1,648 502 340
Net income 4,639 3,314 2,473 755 520
- ---------------------------------------------------------------------------------------------------------------
FINANCIAL POSITION:
Working capital $11,560 $ 8,354 $ 4,700 $ 3,120 $ 4,255
Property, plant and equipment, net 14,490 14,097 14,601 15,290 14,998
Total assets 37,084 34,092 33,792 34,386 28,574
Long-term debt and ESOP bank loan 2,068 2,959 3,924 5,152 6,179
Shareholders' equity 23,726 19,251 15,217 13,330 13,161
- ---------------------------------------------------------------------------------------------------------------
PER SHARE DATA:
Net income $1.39 $1.01 $.75 $.21 $.15
Dividends .03 .02 .01 .00 .00
Shareholders' equity 7.48 6.08 5.10 4.21 3.93
Net revenues 26.51 24.86 19.84 16.00 12.14
- ---------------------------------------------------------------------------------------------------------------
BACKLOG OF DEFENSE ORDERS:
Funded backlog $44,114 $90,722 $90,385 $77,856 $52,847
Government options on funded backlog 155,039 153,795 100,172 153,668 147,000
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
/ / 2
<PAGE> 4
/ / ENGINEERED AIR SYSTEMS, INC.
Engineered Air was formed on December 24, 1981 and on March 30, 1982 acquired
certain assets and liabilities of the Defense Systems Division of
Allis-Chalmers Corporation. The Company's core business specializes in the
engineering, fabrication and assembly of a broad range of military ground
support equipment. Brief descriptions of significant programs are presented
below:
CHEMICAL AND BIOLOGICAL
PROTECTED SHELTER SYSTEM (CBPSS)
The CBPSS provides a contamination free, environmentally controlled work area
that is used as a field medical facility. It is a specially designed system
whose center piece is a soft-walled tent supported by inflated columns of air.
The air beams support the tent without any additional framing. The tent is
connected to and carried by a High Mobility Multi-purpose Wheeled Vehicle, more
commonly known as a "Humvee". The CBPSS permits medical specialists to treat
soldiers in an area free of chemical or biological contamination during the
most extreme weather conditions. The heart of the CBPSS is an Engineered
Air-designed, hydraulically powered Environmental Support System (ESS) that
provides heating, cooling and ventilated air as well as nuclear, chemical and
biological filtration. The system also provides the power to operate lights,
communication and medical equipment.
CHEMICALLY/BIOLOGICALLY
HARDENED AIR MANAGEMENT
PLANT (CHAMP)
The CHAMP units will be used initially by the U.S. Air Force in chemically
hardened air transportable hospitals (CHATHs). These units will consolidate a
generator, blowers, filters and environmental control elements into one single
unit, reducing transportation weight and size by 80%. The units can be driven
by either commercial power or a self-contained diesel engine. The CHAMP will
enable medical staff and patients to reduce infection, survive chemical attacks
and continue emergency operations in a contaminated environment.
AVIATION GROUND POWER UNIT
(AGPU)
The AGPU is a self-contained, turbine driven, ground power unit which
provides electrical, hydraulic and pneumatic power in dual combination or
simultaneously. The units provide minimum power requirements for the AH-64
advanced attack helicopter, the UH-60 utility tactical transport aircraft
system, the CH-47 medium helicopter, and other aircraft including the OH-6,
AH-1 and C-12.
ARMY SPACE HEATERS (ASH)
The ASH provides automatic, remote or manual temperature-controlled heating
to meet the needs of personnel and equipment in shelters, vans, hospitals and
other enclosed areas. Most recently the ASH has been shipped overseas to
provide warmth for U.S. military personnel in the extreme winter conditions of
Bosnia.
B-1B/B2 FLIGHT LINE
AIR CONDITIONERS
These flight line air conditioners are used to cool the avionics and
electronics of B-1 and B-2 bombers during preflight checkouts. These units are
also used in support of U.S. Air Force Talon I and Talon II Gunships. Designed
and built by Engineered Air, these are the largest air conditioning units ever
built for the U.S. Air Force employing state of the art technology and
utilizing R-134 refrigerant, which is ozone-friendly and environmentally safe.
/ / ENGINEERED SPECIALTY PLASTICS, INC.
ESP located in Hot Springs, Arkansas, was acquired from a private investor
group on March 9, 1993. This subsidiary manufactures a wide range of injection
molded plastic products used primarily in consumer goods. These products
include housewares, storage containers, communication and word processing
equipment, components for computer terminals, automotive components, medical
devices, containers for the food processing industry and other items used in
consumer products.
ESP also manufactures and distributes Lifetime Faucets, a proprietary
line of nonmetallic kitchen and lavatory faucets. These faucets, which are
known for their high quality and low cost, are sold in a variety of colors and
styles to a broad base of customers ranging from very large retailers to small
hardware stores.
ESP currently operates a single facility with approximately 110,000 square
feet of manufacturing space. This facility houses 31 injection molding machines
ranging in size from 45 to 2,200 tons of clamp pressure and processes over 30
million pounds of resin per year. In addition, ESP has modern finishing
equipment which can perform a variety of secondary operations. This subsidiary
also has a fully integrated business information systems which enhances ESP's
inventory control and product performance while increasing machine efficiency.
ESP implements a continuous improvement program to ensure that competitive
advantages through cost-efficient operations are maintained and is currently in
the process of IS09002 certification.
3 / /
<PAGE> 5
<TABLE>
/ / MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
- -------------------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
RESULTS OF OPERATIONS
Net revenues 100.0% 100.0% 100.0%
Cost of revenues 83.3 84.8 83.6
- -------------------------------------------------------------------------------------------------------------------
Gross profit 16.7 15.2 16.4
Selling, general and administrative expense 8.0 7.9 8.7
- -------------------------------------------------------------------------------------------------------------------
Income from operations 8.7 7.3 7.7
Net interest expense 0.0 0.5 1.4
- -------------------------------------------------------------------------------------------------------------------
Income before income taxes 8.7 6.8 6.3
Income tax provision 3.5 2.7 2.5
- -------------------------------------------------------------------------------------------------------------------
Net income 5.2% 4.1% 3.8%
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
The discussion set forth below analyzes certain factors and trends related to
the financial results for each of the three years ended October 31, 1997, 1996
and 1995. This discussion should be read in conjunction with the Consolidated
Financial Statements and Notes to the Consolidated Financial Statements.
1997 COMPARED TO 1996
Net revenues increased 9% in 1997 to $88.6 million. The defense subsidiary,
Engineered Air Systems, Inc. (Engineered Air), contributed $64.4 million to
net revenues in 1997 compared to $59.2 million in 1996. This increase was
primarily attributable to higher revenues generated from the Aviation Ground
Power Unit contract.
Net revenues for Engineered Specialty Plastics, Inc. (ESP) increased 8% in
1997 to $24.2 million from $22.3 million in 1996. This increase was achieved in
spite of reduced shipments of houseware products to its primary customer in the
fourth quarter of the year. (Sales to this customer returned to more normalized
levels in the first quarter of 1998).
Gross profit was $14.8 million in 1997 compared to $12.4 million in 1996. The
gross margin improved to 16.7% in 1997 from 15.2% in 1996. These increases are
primarily due to significant margin expansion at ESP resulting from increased
capacity utilization.
Selling, general and administrative expense increased from $6.5 million in
1996 to $7.1 million in 1997. As a percentage of net revenues, this expense
increased from 7.9% in 1996 to 8.0% in 1997. Management's concerted effort to
control selling, general and administrative expense, along with the increase in
gross margins, contributed to an overall increase in the Company's operating
margin from 7.3% in 1996 to 8.7% in 1997.
Net interest expense decreased $141,000 in 1997 due primarily to increased
interest income related to a buildup in cash and cash equivalents from $1.4
million at the end of 1996 to $8.3 million at October 31, 1997. The effective
income tax rate was 40% in both 1997 and 1996.
1996 COMPARED TO 1995
Net revenues increased 24% in 1996 to $81.5 million. Engineered Air posted
net revenues of $59.2 million in 1996 versus $42.9 million in 1995, an increase
of 38%. Higher production levels at Engineered Air were primarily generated
from its contracts for MA-3D and C-5 Flight Line Air Conditioners, Air Force
Water Distribution Systems, Aviation Ground Power Units, Revetment Kits and
Army Space Heaters.
ESP contributed net revenues of $22.3 million in 1996 as compared to $22.6
million in 1995. This relatively unchanged level of net revenues was achieved
in spite of a $5.0 million reduction in sales to the subsidiary's primary
customer, which ended its relationship with ESP in June 1996 as part of a
strategic restructuring.
Gross profit increased from $10.7 million in 1995 to $12.4 million in 1996.
This increase was primarily the result of the significant increase in volume at
Engineered Air during the year. Selling, general and administrative expense
increased from $5.7 million in 1995 to $6.5 million in 1996. However, this
expense decreased as a percentage of net revenues from 8.7% in 1995 to 7.9% in
1996.
Net interest expense decreased from $0.9 million in 1995 to $0.4 million in
1996 primarily as a result of the substantial cash flow provided by Engineered
Air operations. The effective income tax rate was 40% in both 1996 and 1995.
OUTLOOK FOR 1998 AND
FUTURE YEARS
The Company's firm backlog of defense orders decreased to $44.1 million at
October 31, 1997 from $90.7 million at October 31, 1996. New contract awards
totaled $17.8 million in 1997 and consisted of awards of production options on
existing contracts and other new programs, some of which are described on page
3 of the Annual Report. Significantly, existing contracts also include
available options totaling $155 million as of October 31, 1997. The Company
expects the majority of these options to be converted into funded backlog.
/ / 4
<PAGE> 6
The Company anticipates another very profitable year in 1998. During the
upcoming year, Engineered Air will derive the most significant portion of its
revenues from contracts for B-1B Air Conditioners and Aviation Ground Power
Units. However, two contracts comprising a combined $122 million of the
Company's $199 million of funded and unfunded backlog are scheduled to
complete development and testing phases in 1998. These contracts, the Chemical
and Biological Protected Shelter System (CBPSS) and the Chemically/
Biologically Hardened Air Management Plant (CHAMP), provide the foundation for
a return to significant growth in 1999 and beyond as the related production
quantities are delivered.
ESP generated record levels of revenue and earnings in 1997. The Company
anticipates that ESP's 1998 results will equal or exceed those posted in 1997,
and believes that significant growth potential remains within both current and
untapped markets.
The operational success of both subsidiaries has provided significant cash
flow for the Company. (Cash and cash equivalents increased to $8.3 million at
October 31, 1997 from $1.4 million at the end of the prior year). The Company
intends to leverage its strengthened financial position in order to make
quality acquisitions, whether in defense or non-defense industries. Although
the Company believes an acquisition may occur in 1998, any such transaction
must be accretive to earnings and must provide long-term value for our
shareholders.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary sources of short-term financing are from cost
reimbursements under contracts with the U.S. Government via receipt
of progress payments, billings for delivered products and bank
borrowings under a $6.4 million line of credit. As of October 31, 1997,
the Company had no borrowings against this line and a cash balance
of $8.3 million.
On October 31, 1997, the Company's working capital and ratio of current
assets to current liabilities were $11.6 million and 2.34 to 1 as compared with
$8.4 million and 1.92 to 1 a year ago. This growth in liquidity is net of $1.5
million of payments on long-term debt, $2.0 million of capital expenditures and
$1.0 million of treasury stock purchases. The ratio of the long-term debt and
ESOP bank loan to shareholders' equity improved to 0.09 to 1 at October 31,
1997 as compared with 0.15 to 1 at October 31, 1996.
The Company anticipates that capital expenditures in 1998 will approximate
$1.0 million. Management believes that cash flow generated from operations,
together with the available line of credit, will provide the necessary
resources to meet the needs of the Company in the foreseeable future.
INFLATION
Since substantially all of the Engineered Air's contracts are at fixed
prices, inflation can affect the ultimate profit to be realized on them. Some
contracts have price adjustment provisions that limit the impact of inflation
on profits. In addition, Engineered Air's volume purchasing and forward
purchasing policies serve to limit the effects of inflation. Engineered Air
considers potential inflation in preparation of contract proposals and bids.
ESP's products are predominantly custom-made. Therefore the impact of inflation
on its operating results is typically not significant. ESP attempts
to alleviate inflationary pressures by increasing selling prices to help offset
rising costs (subject to competitive conditions), increasing productivity and
improving manufacturing techniques. Because of these factors, management does
not believe that inflation has had, or that anticipated inflation will have, a
significant effect on the Company's operations.
REVENUES BY PRODUCT CLASSIFICATION (in millions)
The following table sets forth net revenues for the years ended October 31,
1997, 1996 and 1995 from each of the Company's product classifications:
<TABLE>
- -------------------------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Engineered Air Systems, Inc.:
Air conditioning and heating systems $21.7 24.5% $25.0 30.6% $33.3 50.8%
Water and petroleum distribution systems 6.9 7.8 13.4 16.5 3.5 5.4
Other ground support equipment 35.8 40.4 20.8 25.5 6.1 9.3
- -------------------------------------------------------------------------------------------------------------------------
64.4 72.7 59.2 72.6 42.9 65.5
Engineered Specialty Plastics, Inc.:
Custom molded plastic products 24.2 27.3 22.3 27.4 22.6 34.5
- -------------------------------------------------------------------------------------------------------------------------
Total $88.6 100.0% $81.5 100.0% $65.5 100.0%
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
5 / /
<PAGE> 7
<TABLE>
CONSOLIDATED BALANCE SHEETS
- ------------------------------------------------------------------------------------------------------------
<CAPTION>
October 31 1997 1996
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 8,313,160 $ 1,415,773
Accounts receivable, net 3,398,973 4,855,330
Contracts in process and inventories, net 7,072,377 10,014,627
Refundable income taxes 175,989 88,486
Deferred income taxes 1,062,281 836,625
Prepaid expenses and other assets 185,350 223,943
- ------------------------------------------------------------------------------------------------------------
Total Current Assets 20,208,130 17,434,784
PROPERTY, PLANT AND EQUIPMENT
Land 769,798 769,798
Buildings and improvements 10,389,127 9,912,566
Machinery and equipment 17,474,282 15,969,185
Furniture and fixtures 624,078 621,781
- ------------------------------------------------------------------------------------------------------------
29,257,285 27,273,330
Less accumulated depreciation 14,767,236 13,176,403
- ------------------------------------------------------------------------------------------------------------
14,490,049 14,096,927
OTHER ASSETS
Cost in excess of net assets acquired, less
accumulated amortization of $410,396 and $357,996 648,370 700,770
Covenant not to compete, less accumulated amortization
of $934,936 and $734,536 65,064 265,464
Other assets 1,672,441 1,594,186
- ------------------------------------------------------------------------------------------------------------
2,385,875 2,560,420
- ------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $37,084,054 $34,092,131
- ------------------------------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Current maturities of long-term debt $ 73,273 $ 786,802
Accounts payable 5,596,760 5,834,454
Accrued employee compensation 1,342,054 1,408,759
Other liabilities 1,636,353 1,050,556
- ------------------------------------------------------------------------------------------------------------
Total Current Liabilities 8,648,440 9,080,571
LONG-TERM DEBT 1,194,433 1,937,805
DEFERRED INCOME TAXES 2,642,295 2,801,639
ESOP GUARANTEED BANK LOAN 873,300 1,020,900
SHAREHOLDERS' EQUITY
Common Stock, par value $.01 per share; 10,000,000 shares
authorized; 3,772,573 and 3,687,273 shares issued 37,726 36,873
Additional paid-in capital 9,698,665 8,998,489
Retained earnings 18,026,195 13,465,694
- ------------------------------------------------------------------------------------------------------------
27,762,586 22,501,056
Less ESOP guaranteed bank loan 873,300 1,020,900
Less treasury stock at cost, 598,858 and 522,313 shares 3,163,700 2,228,940
- ------------------------------------------------------------------------------------------------------------
Total Shareholders' Equity 23,725,586 19,251,216
- ------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $37,084,054 $34,092,131
- ------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements.
/ / 6
<PAGE> 8
<TABLE>
CONSOLIDATED STATEMENTS OF INCOME
- ---------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net revenues $88,570,970 $81,506,943 $65,532,702
Cost of revenues 73,816,030 69,093,075 54,787,720
- ---------------------------------------------------------------------------------------------------------
Gross profit 14,754,940 12,413,868 10,744,982
Selling, general and administrative expense 7,087,026 6,457,512 5,729,287
- ---------------------------------------------------------------------------------------------------------
Income from operations 7,667,914 5,956,356 5,015,695
Net interest expense (64,032) 434,148 894,633
- ---------------------------------------------------------------------------------------------------------
Income before income taxes 7,731,946 5,522,208 4,121,062
Income tax provision 3,093,000 2,208,000 1,648,000
- ---------------------------------------------------------------------------------------------------------
Net income $ 4,638,946 $ 3,314,208 $ 2,473,062
- ---------------------------------------------------------------------------------------------------------
Net income per share $1.39 $1.01 $.75
- ---------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements.
<TABLE>
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
- ----------------------------------------------------------------------------------------------------------
<CAPTION>
Additional ESOP
Common Paid-In Retained Guaranteed Treasury
Stock Capital Earnings Bank Loan Stock Total
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance at October 31,
1994 $33,919 $7,670,152 $ 7,773,365 $(1,303,800) $ (843,576) $13,330,060
Net income 2,473,062 2,473,062
Cash dividends (29,337) (29,337)
Exercise of stock
options 651 235,158 235,809
Reduction of ESOP
guaranteed bank loan 135,300 135,300
Purchase of treasury
stock (972,586) (972,586)
Issuance of treasury
stock to ESOP 12,534 31,782 44,316
- ----------------------------------------------------------------------------------------------------------
Balance at October 31,
1995 34,570 7,917,844 10,217,090 (1,168,500) (1,784,380) 15,216,624
Net income 3,314,208 3,314,208
Cash dividends (65,604) (65,604)
Exercise of stock
options 2,303 1,051,464 1,053,767
Reduction of ESOP
guaranteed bank loan 147,600 147,600
Purchase of treasury
stock (471,382) (471,382)
Issuance of treasury
stock to ESOP 29,181 26,822 56,003
- ----------------------------------------------------------------------------------------------------------
Balance at October 31,
1996 36,873 8,998,489 13,465,694 (1,020,900) (2,228,940) 19,251,216
Net income 4,638,946 4,638,946
Cash dividends (78,445) (78,445)
Exercise of stock options 853 628,581 629,434
Reduction of ESOP
guaranteed bank loan 147,600 147,600
Purchase of treasury
stock (957,091) (957,091)
Issuance of treasury
stock to ESOP 71,595 22,331 93,926
- ----------------------------------------------------------------------------------------------------------
Balance at October 31,
1997 $37,726 $9,698,665 $18,026,195 $ (873,300) $(3,163,700) $23,725,586
- ----------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements.
7 / /
<PAGE> 9
<TABLE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
- ------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
CASH FLOW FROM OPERATING ACTIVITIES
Net income $ 4,638,946 $ 3,314,208 $ 2,473,062
Adjustments to reconcile net income
to net cash provided by operations:
Depreciation and amortization 1,897,832 1,849,807 1,894,869
Deferred income taxes (385,000) (385,000) (24,000)
Gain on disposal of assets (20,339)
- ------------------------------------------------------------------------------------------------------
Cash provided before changes
in operating assets and liabilities 6,151,778 4,758,676 4,343,931
Changes in operating assets and liabilities:
Accounts receivable 1,456,357 (1,344,734) 2,103,628
Contracts in process and inventories 2,942,250 2,102,852 (2,573,035)
Accounts payable (237,694) (1,868,487) 2,997,574
Current income taxes (87,503) (166,635) (515,768)
Net changes in other assets and liabilities 522,524 55,647 254,486
- ------------------------------------------------------------------------------------------------------
Net cash provided by operations 10,747,712 3,537,319 6,610,816
- ------------------------------------------------------------------------------------------------------
CASH FLOW FROM INVESTING ACTIVITIES
Additions to property, plant and equipment (1,987,322) (1,145,395) (908,795)
Proceeds from sale of property, plant and
equipment 102,421 73,100
- ------------------------------------------------------------------------------------------------------
Net cash used in investing activities (1,987,322) (1,042,974) (835,695)
- ------------------------------------------------------------------------------------------------------
CASH FLOW FROM FINANCIAL ACTIVITIES
Payments under line-of-credit agreement (1,124,041) (3,918,358)
Payments of long-term debt (1,456,901) (857,921) (1,121,788)
Exercise of stock options 629,434 1,053,767 235,809
Purchase of treasury stock (957,091) (471,382) (972,586)
Cash dividends (78,445) (65,604) (29,337)
- ------------------------------------------------------------------------------------------------------
Net cash used in financing activities (1,863,003) (1,465,181) (5,806,260)
- ------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash
equivalents 6,897,387 1,029,164 (31,139)
Cash and cash equivalents at beginning of year 1,415,773 386,609 417,748
- ------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 8,313,160 $ 1,415,773 $ 386,609
- ------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements.
/ / 8
<PAGE> 10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A -- SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Principles of Consolidation: The consolidated
financial statements include the accounts of Engineered Support Systems, Inc.
(Company) and its wholly owned subsidiaries, Engineered Air Systems, Inc.
(Engineered Air) and Engineered Specialty Plastics, Inc. (ESP). All material
intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates: In preparing these financial statements, management makes
estimates and uses assumptions that effect some of the reported amounts and
disclosures. Actual results could differ from these estimates and assumptions.
Revenue Recognition: Revenues on long-term contracts performed by Engineered
Air, substantially all of which are with the U.S. government, are recognized
under the percentage of completion method and include a proportion of the
earnings that are expected to be realized on the contract in the ratio that
production costs incurred bear to total estimated production costs. Earnings
expectations are based upon estimates of contract values and costs at
completion. Contracts in process are reviewed on a periodic basis. Adjustments
to revenues and earnings are made in the current accounting period based upon
revisions in contract values and estimated costs at completion. Provisions for
estimated losses on contracts are recorded when identified.
Revenue is recognized by ESP when products are shipped. Allowances for
anticipated doubtful accounts are provided based on historical experience and
evaluation of specific accounts. The allowance for doubtful accounts was
$283,000 and $271,000 at October 31, 1997 and 1996, respectively.
Contracts in Process and Inventories: Contracts in process and inventories
represent accumulated contract costs, estimated earnings thereon based upon the
percentage of completion method and contract inventories reduced by the
contract value of delivered items of Engineered Air. Inventories of ESP are
valued at the lower of cost or market using the first-in, first-out method.
Accumulated contract costs and inventories are stated at actual costs incurred
and consist of direct engineering, production, tooling, applicable overhead and
other costs (excluding selling, general and administrative costs which are
charged against income as incurred). Title to or a security interest in certain
items included in contracts in process and inventories is vested in the U.S.
government by reason of the progress payment provisions of related contracts.
In accordance with industry standards, contracts in process and inventories
related to long-term contracts are classified as current assets although a
portion may not be realized within one year.
Property, Plant and Equipment: Property, plant and equipment are stated at cost
and are depreciated using the straight-line method over their estimated useful
lives, which range from 3 to 30 years.
Income Taxes: The provision for income taxes is based on earnings reported in
the financial statements. Deferred income taxes are provided for the tax
effects of temporary differences between financial and income tax reporting.
Cost in Excess of Net Assets Acquired: The excess of cost over net assets of
acquired minority interest in Engineered Air is being amortized on a
straight-line basis over a 40-year period. The cost in excess of the acquired
net assets of ESP is being amortized on a straight-line basis over a 10-year
period.
Covenant Not to Compete: Included in the purchased assets of ESP is a covenant
not to compete which is being amortized on a straight-line basis over a 5-year
period.
Cash and Cash Equivalents: Cash equivalents include temporary investments with
original maturities of three months or less.
Net Income Per Share: Net income per share for 1997, 1996 and 1995 is based on
the weighted average number of common and common equivalents shares outstanding
of 3,341,319, 3,278,003 and 3,302,574, respectively. Common stock equivalents
represent common stock options as computed based on the treasury stock method.
Primary and fully diluted earnings per share are substantially the same for
each of the years presented.
Beginning in 1998, the Company will be subject to the provisions of Statement
of Financial Accounting Standards No. 128 "Earnings Per Share" (SFAS 128)
that was adopted by the Financial Accounting Standards Board in February 1997.
SFAS 128, which is effective for financial statements issued for periods ending
after December 15, 1997, simplifies the standards for computing earnings per
share and makes them comparable to international earnings per share standards.
Impairment of Long-Lived Assets: Long-lived assets are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount
may not be recoverable. If the sum of the expected future undiscounted cash
flows is less than the carrying amount of the asset, a loss is recognized for
the difference between the fair value and the carrying value of the asset.
Industry Information: Engineered Air operates predominately in one
segment--military ground support equipment--and substantially all of its
revenues are related to contracts with the U.S. government. ESP manufactures
and sells made-to-order injection molded plastic products, and manufactures and
distributes a proprietary line of kitchen and bathroom faucets.
9 / /
<PAGE> 11
NOTE B -- ACCOUNTS RECEIVABLE
Accounts receivable includes amounts due from the U.S. government of $1,561,696
and $2,953,619 at October 31, 1997 and 1996, respectively.
NOTE C -- CONTRACTS IN PROCESS AND INVENTORIES
Contracts in process and inventories are comprised of the following:
<TABLE>
- ----------------------------------------------------------------------------------------------
<CAPTION>
October 31 1997 1996
- ----------------------------------------------------------------------------------------------
<S> <C> <C>
Raw materials $1,535,860 $ 1,643,824
Work-in-process 167,043 142,604
Finished goods 804,956 557,900
Inventories substantially applicable to government
contracts in process, reduced by progress payments
of $9,333,930 and $17,619,487 4,564,518 7,670,299
- ----------------------------------------------------------------------------------------------
$7,072,377 $10,014,627
- ----------------------------------------------------------------------------------------------
</TABLE>
Contracts in process and inventories at October 31, 1997 and 1996 include
estimated revenue of $12,204,000 and $8,619,000, respectively, representing
accumulated contract costs and related estimated earnings on uncompleted
government contracts.
NOTE D -- NOTES PAYABLE AND LONG-TERM DEBT
The Company has a loan agreement with a bank, expiring in 1998, which provides
a $6,400,000 revolving credit line. The amount of the revolving credit
borrowing cannot exceed the lesser of a calculated borrowing base or
$6,400,000. The borrowing base is determined by applying specified percentages
to qualified inventories and accounts receivable balances. The bank credit
agreement also provides for a term loan. Borrowings under the revolving credit
line and the term loan bear interest at the bank's prime rate. No compensating
balance is required or maintained related to the credit agreement. As of
October 31, 1997, the Company had $6,400,000 of unused credit related to this
agreement. In addition, ESP has an installment note with the Arkansas Teachers
Retirement Fund.
Long-term debt consists of:
<TABLE>
- --------------------------------------------------------------------------------------------------
<CAPTION>
October 31 1997 1996
- --------------------------------------------------------------------------------------------------
<S> <C> <C>
Installment note, 8.0%, payable in monthly installments
of $14,335 including interest, with a final payment
of $1,029,400 in 2001 $1,267,706 $1,335,363
Term loan, prime rate, payable in monthly
installments of $60,402 plus interest 1,389,244
- --------------------------------------------------------------------------------------------------
1,267,706 2,724,607
Less current maturities 73,273 786,802
- --------------------------------------------------------------------------------------------------
$1,194,433 $1,937,805
- --------------------------------------------------------------------------------------------------
</TABLE>
The Company has guaranteed a bank term loan for the Engineered Support Systems,
Inc. Employee Stock Ownership Plan (ESOP). As loan payments are made, shares
which had been purchased with proceeds from the loan, are released and
allocated to participant accounts. The bank holds the unallocated shares as
collateral for the loan. The loan, which matures in August 2003, bears interest
at the bank's prime rate and is payable in monthly installments of $12,300 plus
interest. Under the terms of the loan agreement, the Company is required to
make contributions to the ESOP in an amount no less than the amount sufficient
to fund the monthly installments.
Borrowings under the revolving credit agreement, the bank term loan and the
ESOP loan are secured by substantially all assets of the Company, Engineered
Air and ESP and are guaranteed by the Company. The revolving credit agreement
contains restrictive covenants relating to net worth, debt to net worth,
minimum operating cash flow, and operating cash flow to fixed charges. At
October 31, 1997, the Company was in compliance with all restrictive covenants
of its credit agreement.
/ / 10
<PAGE> 12
Annual principal payments of long-term debt are as follows:
<TABLE>
- --------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31
- --------------------------------------------------------------------------------------
<S> <C>
1998 $ 73,273
1999 72,641
2000 85,109
2001 1,036,683
- --------------------------------------------------------------------------------------
$1,267,706
- --------------------------------------------------------------------------------------
</TABLE>
Interest paid was $158,000, $531,000 and $958,000 in 1997, 1996 and 1995,
respectively.
NOTE E -- INCOME TAXES
The income tax provision is comprised of the following:
<TABLE>
- --------------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Current:
Federal $3,170,000 $2,380,000 $1,554,000
State 308,000 213,000 118,000
- --------------------------------------------------------------------------------------------------------------
3,478,000 2,593,000 1,672,000
- --------------------------------------------------------------------------------------------------------------
Deferred:
Federal (327,000) (327,000) (20,000)
State (58,000) (58,000) (4,000)
- --------------------------------------------------------------------------------------------------------------
(385,000) (385,000) (24,000)
- --------------------------------------------------------------------------------------------------------------
$3,093,000 $2,208,000 $1,648,000
- --------------------------------------------------------------------------------------------------------------
</TABLE>
The deferred income tax provision (benefit) results from the following
temporary differences:
<TABLE>
- -------------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Uncompleted contracts $ (23,000) $(332,000) $ (37,000)
Depreciation (229,000) 18,000 (118,000)
Contributions to employee benefit plans (60,000) (56,000) 94,000
Other, net (73,000) (15,000) 37,000
- -------------------------------------------------------------------------------------------------------------
$(385,000) $(385,000) $ (24,000)
- -------------------------------------------------------------------------------------------------------------
</TABLE>
Deferred tax assets (liabilities) are comprised of the following:
<TABLE>
- --------------------------------------------------------------------------------------------
<CAPTION>
October 31 1997 1996
- --------------------------------------------------------------------------------------------
<S> <C> <C>
Depreciation $(3,040,000) $(3,082,000)
Contract revenue 460,000 410,000
Employee benefits 354,000 274,000
Asset reserves 268,000 197,000
Net operating loss and tax credit carryforwards 273,000 273,000
Other 105,000 (37,000)
- --------------------------------------------------------------------------------------------
$(1,580,000) $(1,965,000)
- --------------------------------------------------------------------------------------------
</TABLE>
A reconciliation between the income tax provision and the annual amount
computed by applying the statutory federal income tax rate to income before
income taxes is as follows:
<TABLE>
- -------------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Income tax provision at statutory federal rate $2,629,000 $1,878,000 $1,401,000
State income taxes and other, net 464,000 330,000 247,000
- -------------------------------------------------------------------------------------------------------------
$3,093,000 $2,208,000 $1,648,000
- -------------------------------------------------------------------------------------------------------------
</TABLE>
11 / /
<PAGE> 13
Income taxes paid were $3,228,000, $2,239,000 and $2,072,000 in 1997, 1996 and
1995, respectively.
As of October 31, 1997, the Company had net operating loss carryforwards of
approximately $16,000 available to offset future taxable income, and investment
and targeted jobs tax credit carryforwards of approximately $266,000 available
to offset future federal income taxes which would otherwise be payable. These
carryforwards, which relate to ESP, expire in 2003. The Company expects the
carryforwards to be fully utilized and, accordingly, has recorded a deferred
tax asset relating to the carryforwards.
NOTE F -- LEASES
The Company leases manufacturing facilities, data processing equipment and
office equipment under non-cancelable operating leases. Rental expense for all
operating leases was $287,000, $350,000 and $307,000 in 1997, 1996 and 1995,
respectively.
Future minimum payments under non-cancelable operating leases with initial or
remaining terms of one year or more are as follows:
<TABLE>
- ------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31
- ------------------------------------------------------------------------------------
<S> <C>
1998 $188,000
1999 123,000
2000 61,000
2001 14,000
- ------------------------------------------------------------------------------------
$386,000
- ------------------------------------------------------------------------------------
</TABLE>
NOTE G -- SHAREHOLDERS' EQUITY
The Company has established plans whereby options may be granted to employees
and directors of the Company to purchase shares of the Company's common stock.
Options granted are at an option price equal to the market value on the date
the option is granted. Subject to continuation of employment, all options must
be exercised within five years from the date of grant and are exercisable at
any time during this period. As of October 31, 1997, 275,025 shares of unissued
common stock were authorized and reserved for outstanding options, which had a
weighted average remaining contractual life of 3.0 years at that date.
The Company applies Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees", and related interpretations in accounting for
the stock option plans. Accordingly, no compensation expense has been
recognized for stock option awards. Had compensation expense for the Company's
stock option awards been determined based upon their grant date fair value
consistent with the methodology prescribed under Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS
123), the Company's net income would have been reduced by $219,000, or $.07 per
share, in 1997 and $143,000, or $.04 per share, in 1996. The fair value of
options at the grant date was estimated using the Black-Scholes model with an
expected life of 3.6 years, volatility of 42% and a dividend yield of 0.17% for
both 1997 and 1996. The weighted average interest rate used was 6.06% for 1997
and 5.48% for 1996. The weighted average fair value of options granted in 1997
and 1996 was $3.80 and $2.48, respectively.
Transactions involving the stock option plans are as follows:
<TABLE>
- ------------------------------------------------------------------------------------------------------
<CAPTION>
Shares Price per share
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Outstanding at October 31, 1995 365,312 $1.31 to $5.75
Options exercised (230,312) $1.31 to $6.88
Options granted 96,500 $6.13 to $9.63
Options canceled (18,000) $1.88 to $4.25
- ------------------------------------------------------------------------------------------------------
Outstanding at October 31, 1996 213,500 $1.88 to $9.63
Options exercised (85,300) $1.50 to $12.38
Options granted 96,000 $9.75 to $12.38
- ------------------------------------------------------------------------------------------------------
Outstanding at October 31, 1997 224,200 $1.88 to $12.38
- ------------------------------------------------------------------------------------------------------
</TABLE>
/ / 12
<PAGE> 14
NOTE H -- RETIREMENT PLANS
Engineered Air has a non-contributory defined benefit pension plan covering
substantially all full-time employees covered by a collective bargaining
agreement. The Company's funding policy is to make annual contributions to the
pension plan sufficient to fund the normal cost, including amortization of
prior service cost, over a period of 15 years. A summary of the components of
net periodic pension cost for the defined benefit plan is as follows:
<TABLE>
- -----------------------------------------------------------------------------------------------------------
<CAPTION>
Year Ended October 31 1997 1996 1995
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Service cost $ 140,000 $ 133,600 $ 113,100
Interest cost on projected benefit obligation 306,000 261,300 242,800
Actual return on plan assets (365,000) (288,200) (430,200)
Net amortization and deferral 53,800 28,300 191,600
- ----------------------------------------------------------------------------------------------------------
Total pension expense $ 134,800 $ 135,000 $ 117,300
- ----------------------------------------------------------------------------------------------------------
</TABLE>
Assumptions used in accounting for the defined benefit plan in 1997, 1996 and
1995 were a weighted average discount rate of 7.5 percent, 7.75 percent and
7.25 percent, respectively, and an expected long-term rate of return on assets
of 9.0 percent.
The following table sets forth funded status and amounts recognized in the
consolidated balance sheets for the defined benefit pension plan:
<TABLE>
- ----------------------------------------------------------------------------------------------
<CAPTION>
October 31 1997 1996
- ----------------------------------------------------------------------------------------------
<S> <C> <C>
Actuarial present value of benefit obligation:
Vested benefit obligation $4,415,000 $3,758,400
Non-vested benefit obligation 186,000 216,000
- ----------------------------------------------------------------------------------------------
Accumulated benefit obligation $4,601,000 $3,974,400
- ----------------------------------------------------------------------------------------------
Plan assets at fair value--primarily listed common stocks,
bonds and U.S. government securities $4,893,000 $4,204,400
Projected benefit obligation 4,601,000 3,974,400
- ----------------------------------------------------------------------------------------------
Plan assets in excess of projected benefit obligation 292,000 230,000
Unrecognized net gain (192,400) (195,500)
Unrecognized prior service cost 274,100 313,500
Unrecognized net obligation at November 1, 1986, net of
amortization 8,000 22,000
- ----------------------------------------------------------------------------------------------
Net pension asset recognized in consolidated balance sheets $ 381,700 $ 370,000
- ----------------------------------------------------------------------------------------------
</TABLE>
The Company has an Employee Stock Ownership Plan (ESOP) covering all salaried
employees of Engineered Air, all non-salaried employees of Engineered Air who
are not covered by a collective bargaining agreement and all employees of ESP.
The ESOP provides for a matching contribution by the Company of no less than
25% of each employee's contributions up to a maximum of 6% of the employee's
earnings. The Company also makes discretionary annual contributions in an
amount no less than the amount sufficient to pay the monthly installments of
the ESOP bank loan. All employee and employer contributions to the ESOP are 100
percent vested. The Company has recorded expenses based on contributions to the
ESOP for the years ended October 31, 1997, 1996 and 1995 of $377,000, $293,000
and $311,000, respectively. Interest payments on the ESOP bank loan were
$81,000, $93,000 and $121,000 in 1997, 1996 and 1995, respectively. The Company
accounts for ESOP shares under the cash payment method. All ESOP shares are
considered outstanding for purposes of computing net income per share.
NOTE I -- SEGMENT INFORMATION
The Company operates in two industry segments: the military ground support
equipment segment and the custom molded plastic products segment. The military
ground support equipment operations involve the engineering, fabrication and
assembly of a broad range of support equipment designed for rapid deployment
around the world. The custom molded plastic products operations involve the
manufacture and sale of a broad range of injection molded resin products, as
well as the manufacture and sale of a proprietary line of plastic faucets. All
corporate expenses and assets have been allocated to the business segments.
Approximately 82%, 79% and 78%, respectively, of 1997, 1996 and 1995
consolidated revenues were from two customers--71%, 73% and 63%, respectively,
from the U.S. government and 11%, 6% and 15%, respectively, from another
customer. The Company's export net sales and intersegment net sales are not
significant.
13 / /
<PAGE> 15
Information by industry segment is summarized as follows:
<TABLE>
- ---------------------------------------------------------------------------------------------------------
<CAPTION>
- ---------------------------------------------------------------------------------------------------------
Year Ended October 31 1997 1996 1995
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net Revenues:
Military Ground Support Equipment $64,397,161 $59,179,141 $42,892,939
Custom Molded Plastic Products 24,173,809 22,327,802 22,639,763
- ---------------------------------------------------------------------------------------------------------
Total $88,570,970 $81,506,943 $65,532,702
- ---------------------------------------------------------------------------------------------------------
Income from Operations:
Military Ground Support Equipment $ 5,577,402 $ 5,087,705 $ 4,029,748
Custom Molded Plastic Products 2,090,512 868,651 985,947
- ---------------------------------------------------------------------------------------------------------
Total $ 7,667,914 $ 5,956,356 $ 5,015,695
- ---------------------------------------------------------------------------------------------------------
Identifiable Assets:
Military Ground Support Equipment $24,255,029 $21,033,652 $20,007,390
Custom Molded Plastic Products 12,829,025 13,058,479 13,784,222
- ---------------------------------------------------------------------------------------------------------
Total $37,084,054 $34,092,131 $33,791,612
- ---------------------------------------------------------------------------------------------------------
Depreciation and Amortization Expense:
Military Ground Support Equipment $ 833,008 $ 746,581 $ 719,474
Custom Molded Plastic Products 1,064,824 1,103,226 1,175,395
- ---------------------------------------------------------------------------------------------------------
Total $ 1,897,832 $ 1,849,807 $ 1,894,869
- ---------------------------------------------------------------------------------------------------------
Capital Expenditures:
Military Ground Support Equipment $ 583,561 $ 1,035,240 $ 212,624
Custom Molded Plastic Products 1,403,761 110,155 696,171
- ---------------------------------------------------------------------------------------------------------
Total $ 1,987,322 $ 1,145,395 $ 908,795
- ---------------------------------------------------------------------------------------------------------
</TABLE>
NOTE J -- CONTINGENCIES
As a government contractor, Engineered Air is continually subjected to audit by
various agencies of the U.S. government to determine compliance with various
procurement laws and regulations. As a result of such audits and as part of the
normal business operations of Engineered Air and of ESP, various claims and
charges are asserted against the Company. It is not possible at this time to
predict the outcome of all such actions. However, management is of the opinion
that it has good defenses against such actions and believes that none of these
matters will have a material effect on the consolidated financial position or
the results of operations of the Company.
/ / 14
<PAGE> 16
/ / REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of Engineered Support Systems, Inc.
In our opinion, the accompanying consolidated balance sheets and related
consolidated statements of income, shareholders' equity and cash flows present
fairly, in all material respects, the financial position of Engineered Support
Systems, Inc. and its subsidiaries at October 31, 1997 and 1996, and the
results of their operations and their cash flows for each of the three years in
the period ended October 31, 1997, in conformity with generally accepted
accounting principles. These financial statements are the responsibility of the
Company's management; our responsibility is to express an opinion on these
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which 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, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above.
/s/ Price Waterhouse LLP
Price Waterhouse LLP
St. Louis, Missouri
December 5, 1997
/ / REPORT OF MANAGEMENT RESPONSIBILITIES
The Company's management is responsible for the fair presentation and
consistency of all financial data included in the Annual Report. Where
necessary, the data reflects management estimates. The Company's Audit
Committee consists of three non-employee directors. This Committee meets with
financial officers and Price Waterhouse LLP personnel to review internal
controls, financial reporting and accounting practices. Price Waterhouse LLP
meets with the Audit Committee, with and without management present, to discuss
their examinations, the adequacy of internal controls and the quality of
financial reporting.
15 / /
<PAGE> 17
/ / SUPPLEMENTAL INFORMATION
The table below presents unaudited quarterly financial information in
thousands, except for per share data, for the years ended October 31, 1997 and
1996:
<TABLE>
<CAPTION>
Quarter Ended
- -------------------------------------------------------------------------------------------------------------------
January 31 April 30 July 31 October 31
- -------------------------------------------------------------------------------------------------------------------
1997 1996 1997 1996 1997 1996 1997 1996
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues $20,731 $17,047 $22,851 $18,924 $23,926 $21,623 $21,063 $23,913
- -------------------------------------------------------------------------------------------------------------------
Gross profit 3,115 2,480 3,679 2,968 4,074 3,264 3,887 3,702
- -------------------------------------------------------------------------------------------------------------------
Net income 803 486 1,098 717 1,298 916 1,440 1,195
- -------------------------------------------------------------------------------------------------------------------
Net income per share .24 .15 .33 .22 .39 .28 .43 .36
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
MARKET DATA
The Company's common stock trades on the NASDAQ Stock Market under the symbol
EASI. As of December 31, 1997, the approximate number of common shareholders
was 2,000. The following table sets forth the high and low stock prices for
each quarter as provided by the NASDAQ Stock Market.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
1997 1996
- ---------------------------------------------------------------------
HIGH LOW HIGH LOW
- ---------------------------------------------------------------------
<S> <C> <C> <C> <C>
Quarter Ended:
January 31 $15.50 $ 9.63 $ 7.00 $5.75
April 30 14.75 10.63 7.88 6.50
July 31 20.00 11.00 8.13 7.13
October 31 29.00 17.00 12.38 7.25
- ---------------------------------------------------------------------
</TABLE>
DIVIDENDS
The Board of Directors initiated a semi-annual dividend program in 1995. The
most recently declared dividend was in the amount of $.0135 per share payable
January 30, 1998 to shareholders of record on December 31, 1997.
/ / CORPORATE INFORMATION
TRANSFER AGENT AND REGISTRAR
ChaseMellon Shareholder Services
200 North Broadway
St. Louis, MO 63102
INDEPENDENT ACCOUNTANTS
Price Waterhouse LLP
One NationsBank Plaza
St. Louis, MO 63101
LEGAL COUNSEL
Bearden, Mattern, Breckenridge,
Washburn, Gidlow and Kazanas LLC
1034 S. Brentwood Boulevard
St. Louis, MO 63117
ANNUAL MEETING
March 10, 1998
10:00 A.M. at the offices of the Company
1270 North Price Road
St. Louis, MO 63132
FORM 10-K
A copy of the Company's Annual Report on Form 10-K filed with the Securities
and Exchange Commission is available upon written request to:
Investor Relations
Engineered Support Systems, Inc.
1270 North Price Road
St. Louis, MO 63132
/ / 16
<PAGE> 18
/ / DIRECTORS AND OFFICERS
DIRECTORS
ENGINEERED SUPPORT SYSTEMS, INC.
Michael F. Shanahan Sr.
Chairman, President and Chief Executive Officer
John J. Wichlenski
President and Chief Executive Officer
Engineered Air Systems, Inc.
W. Raymond Barrett
President
Bio-Medical Systems, Inc.
Alexander M. Cornwell Jr.
President
Cornwell Consulting
Thomas J. Guilfoil
Partner
Guilfoil, Petzall & Shoemake
LTG Kenneth E. Lewi
U.S. Army, Retired
Michael F. Shanahan Jr.
Lockton Companies
Earl E. Walker
President
Carr Lane Manufacturing Company
Earl W. Wims
Chairman
Marketing Horizons, Inc.
MANAGEMENT
ENGINEERED SUPPORT SYSTEMS, INC.
Michael F. Shanahan Sr.
Chairman, President and
Chief Executive Officer
Gary C. Gerhardt
Executive Vice President
and Chief Financial Officer
MANAGEMENT
ENGINEERED AIR SYSTEMS, INC.
Michael F. Shanahan Sr.
Chairman
John J. Wichlenski
President and Chief
Executive Officer
Gary C. Gerhardt
Executive Vice President
and Chief Financial Officer
Ronald W. Davis
Vice President-Marketing
Michael W. Donnelly
Vice President-Manufacturing
Dan D. Jura
Vice President-Sales
Terrence E. Lyles
Vice President-Purchasing
E. Allen Springer
Vice President-Engineering
David P. Walsh
Vice President-Quality Assurance
MANAGEMENT
ENGINEERED SPECIALTY PLASTICS, INC.
Michael F. Shanahan Sr.
Chairman
Gary C. Gerhardt
Executive Vice President
and Chief Financial Officer
John E. Capeless
Vice President and
General Manager
<PAGE> 1
ENGINEERED SUPPORT SYSTEMS, INC.
EXHIBIT 24 - CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statement (Form S-8 No. 33-14504) pertaining to the Engineered Air Systems,
Inc. Employee Stock Ownership Plan and the Registration Statements (Form S-8
Nos. 33-77338, 33-77340, 33-77342 and 333-27695) pertaining to the 1991 Stock
Equity Plan, the 1992 Stock Option Plan for Non-employee Directors, the 1993
Stock Option Plan and the 1997 Stock Option Plan for Non-employee Directors of
Engineered Support Systems, Inc., respectively, of our report dated December 5,
1997, which appears on page 15 of the 1997 Annual Report to Shareholders of
Engineered Support Systems, Inc. which is incorporated by reference in
Engineered Support Systems, Inc.'s Annual Report on Form 10-K for the year
ended October 31, 1997.
/s/ Price Waterhouse
Price Waterhouse LLP
St. Louis, Missouri
January 28, 1998
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE ANNUAL
REPORT AS INCORPORATED BY REFERENCE IN FORM 10-K FOR THE YEAR ENDED OCTOBER 31,
1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> OCT-31-1997
<PERIOD-START> NOV-01-1996
<PERIOD-END> OCT-31-1997
<CASH> 8,313,160
<SECURITIES> 0
<RECEIVABLES> 3,681,973
<ALLOWANCES> 283,000
<INVENTORY> 7,072,377
<CURRENT-ASSETS> 20,208,130
<PP&E> 29,257,285
<DEPRECIATION> 14,767,236
<TOTAL-ASSETS> 37,084,054
<CURRENT-LIABILITIES> 8,648,440
<BONDS> 2,067,733
<COMMON> 37,726
0
0
<OTHER-SE> 23,687,860
<TOTAL-LIABILITY-AND-EQUITY> 37,084,054
<SALES> 88,570,970
<TOTAL-REVENUES> 88,570,970
<CGS> 73,816,030
<TOTAL-COSTS> 73,816,030
<OTHER-EXPENSES> 7,050,420
<LOSS-PROVISION> 36,606
<INTEREST-EXPENSE> (64,032)
<INCOME-PRETAX> 7,731,946
<INCOME-TAX> 3,093,000
<INCOME-CONTINUING> 4,638,946
<DISCONTINUED> 0
<EXTRAORDINARY> 0
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<NET-INCOME> 4,638,946
<EPS-PRIMARY> 1.40
<EPS-DILUTED> 1.39
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