UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------------------
FORM 10-Q
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X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1995
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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Commission File No. 33-2794
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POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
State of Organization: California
IRS Employer Identification No. 94-2985086
201 Mission Street, 27th Floor, San Francisco, California 94105
Telephone - (415) 284-7400
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, and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
This document consists of 20 pages.
<PAGE>
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
FORM 10-Q - For the Quarterly Period Ended September 30, 1995
INDEX
Part I. Financial Information Page
Item 1. Financial Statements
a) Balance Sheets - September 30, 1995 and
December 31, 1994..........................................3
b) Statements of Operations - Three Months and
Nine Months Ended September 30, 1995 and 1994..............4
c) Statements of Changes in Partners' Capital
(Deficit) - Year Ended December 31, 1994
and Nine Months Ended September 30, 1995...................5
d) Statements of Cash Flows - Nine Months
Ended September 30, 1995 and 1994..........................6
e) Notes to Financial Statements..............................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations.................13
Part II. Other Information
Item 1. Legal Proceedings.............................................17
Item 5. Other Information.............................................19
Item 6. Exhibits and Reports on Form 8-K..............................19
Signature..................................................................20
2
<PAGE>
Part 1. Financial Information
Item 1. Financial Statements
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
BALANCE SHEETS
(Unaudited)
September 30, December 31,
1995 1994
---- ----
ASSETS:
CASH AND CASH EQUIVALENTS $ 23,742,751 $ 14,662,147
RENT AND OTHER RECEIVABLES 259,183 292,061
NOTES RECEIVABLE, net of allowance
for credit losses of $1,192,427
in 1995 and $1,575,000 in 1994 3,018,747 2,781,432
AIRCRAFT at cost, net of accumulated
depreciation of $92,217,103 in 1995
and $90,004,933 in 1994 81,677,790 91,954,354
AIRCRAFT INVENTORY 427,797 848,613
OTHER ASSETS 85,417 29,770
------------- -------------
$ 109,211,685 $ 110,568,377
============= =============
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT):
PAYABLE TO AFFILIATES $ 246,360 $ 702,841
ACCOUNTS PAYABLE AND ACCRUED
LIABILITIES 85,923 38,663
LESSEE SECURITY DEPOSITS 175,433 171,140
MAINTENANCE RESERVES 576,146 722,690
DEFERRED INCOME 642,742 642,742
------------- -------------
Total Liabilities 1,726,604 2,278,076
------------- -------------
PARTNERS' CAPITAL (DEFICIT):
General Partner (1,127,958) (1,119,868)
Limited Partners, 499,997 units
issued and outstanding 108,613,039 109,410,169
------------- -------------
Total Partners' Capital 107,485,081 108,290,301
------------- -------------
$ 109,211,685 $ 110,568,377
============= =============
The accompanying notes are an integral part of these statements.
3
<PAGE>
<TABLE>
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
STATEMENTS OF OPERATIONS
(Unaudited)
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1995 1994 1995 1994
---- ---- ---- ----
<S> <C> <C> <C> <C>
REVENUES:
Rent from operating leases $ 5,303,518 $ 3,657,700 $ 11,356,873 $ 10,851,095
Interest 457,691 220,442 1,210,902 585,751
Other 91,093 -- 310,224 5,860
------------ ------------ ------------ ------------
Total Revenues 5,852,302 3,878,142 12,877,999 11,442,706
------------ ------------ ------------ ------------
EXPENSES:
Depreciation 2,992,188 2,833,719 8,704,759 8,501,156
Management fees to general partner 250,689 173,885 539,568 515,555
Operating 25,643 12,270 50,115 3,658,483
Administration and other 79,290 54,335 222,135 163,940
------------ ------------ ------------ ------------
Total Expenses 3,347,810 3,074,209 9,516,577 12,839,134
------------ ------------ ------------ ------------
NET INCOME (LOSS) $ 2,504,492 $ 803,933 $ 3,361,422 $ (1,396,428)
============ ============ ============ ============
NET INCOME ALLOCATED TO
THE GENERAL PARTNER $ 150,032 $ 320,506 $ 408,574 $ 923,436
============ ============ ============ ============
NET INCOME (LOSS) ALLOCATED
TO LIMITED PARTNERS $ 2,354,460 $ 483,427 $ 2,952,848 $ (2,319,864)
============ ============ ============ ============
NET INCOME (LOSS) PER LIMITED
PARTNERSHIP UNIT $ 4.71 $ 0.97 $ 5.90 $ (4.64)
============ ============ ============ ============
The accompanying notes are an integral part of these statements.
</TABLE>
4
<PAGE>
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
STATEMENTS OF CHANGES IN PARTNERS' CAPITAL (DEFICIT)
(Unaudited)
Year Ended December 31, 1994 and
Nine Months Ended September 30, 1995
------------------------------------
General Limited
Partner Partners Total
------- -------- -----
Balance, December 31, 1993 $ (948,683) $ 126,344,962 $ 125,396,279
Net income (loss) 1,217,696 (4,434,868) (3,217,172)
Cash distributions to partners (1,388,881) (12,499,925) (13,888,806)
------------ ------------ ------------
Balance, December 31, 1994 (1,119,868) 109,410,169 108,290,301
Net income 408,574 2,952,848 3,361,422
Cash distributions to partners (416,664) (3,749,978) (4,166,642)
------------ ------------ ------------
Balance, September 30, 1995 $ (1,127,958) $ 108,613,039 $ 107,485,081
============ ============ ============
The accompanying notes are an integral part of these statements.
5
<PAGE>
<TABLE>
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
STATEMENTS OF CASH FLOWS
(Unaudited)
<CAPTION>
Nine Months Ended September 30,
------------------------------
1995 1994
---- ----
<S> <C> <C>
OPERATING ACTIVITIES:
Net income (loss) $ 3,361,422 $ (1,396,428)
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation 8,704,759 8,501,156
Changes in operating assets and liabilities:
Decrease (increase) in rent and other
receivables 32,878 (210,364)
Increase in other assets (55,647) --
Increase (decrease) in payable to affiliates (456,481) 75,599
Increase (decrease) in accounts payable
and accrued liabilities 47,260 (2,524,574)
Increase (decrease) in lessee security deposits 4,293 (19,602)
Increase (decrease) in maintenance reserves (146,544) 939,571
------------ ------------
Net cash provided by operating activities 11,491,940 5,365,358
------------ ------------
INVESTING ACTIVITIES:
Increase in notes receivable -- (2,284,848)
Principal payments on notes receivable 1,534,490 398,902
Net proceeds from sale of aircraft inventory 220,816 250,127
------------ ------------
Net cash provided by (used in)
investing activities 1,755,306 (1,635,819)
------------ ------------
FINANCING ACTIVITIES:
Cash distributions to partners (4,166,642) (10,416,604)
------------ ------------
Net cash used in financing activities (4,166,642) (10,416,604)
------------ ------------
CHANGES IN CASH AND CASH
EQUIVALENTS AND SHORT-TERM
INVESTMENTS 9,080,604 (6,687,065)
CASH AND CASH EQUIVALENTS AND
SHORT-TERM INVESTMENTS AT
BEGINNING OF PERIOD 14,662,147 22,445,083
------------ ------------
CASH AND CASH EQUIVALENTS AT
END OF PERIOD $ 23,742,751 $ 15,758,018
============ ============
The accompanying notes are an integral part of these statements.
</TABLE>
6
<PAGE>
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
1. Accounting Principles and Policies
In the opinion of management, the financial statements presented herein include
all adjustments, consisting only of normal recurring items, necessary to
summarize fairly Polaris Aircraft Income Fund II's (the Partnership's) financial
position and results of operations. The financial statements have been prepared
in accordance with the instructions of the Quarterly Report to the Securities
and Exchange Commission (SEC) Form 10-Q and do not include all of the
information and note disclosures required by generally accepted accounting
principles. These statements should be read in conjunction with the financial
statements and notes thereto for the years ended December 31, 1994, 1993, and
1992 included in the Partnership's 1994 Annual Report to the SEC on Form 10-K
(Form 10-K).
Aircraft and Depreciation - The aircraft are recorded at cost, which includes
acquisition costs. Depreciation to an estimated residual value is computed using
the straight-line method over the estimated economic life of the aircraft which
was originally estimated to be 30 years from the date of manufacture.
Depreciation in the year of acquisition was calculated based upon the number of
days that the aircraft were in service.
The Partnership periodically reviews the estimated realizability of the residual
values at the end of each aircraft's economic life based on estimated residual
values obtained from an independent party which provides current and future
estimated aircraft values by aircraft type. For any downward adjustment in
estimated residual, or decrease in the projected remaining economic life, the
depreciation expense over the projected remaining life of the aircraft is
increased. If the projected net income generated from the lease (projected
rental revenue, net of management fees, less adjusted depreciation and an
allocation of estimated administrative expense) results in a net loss, that loss
will be recognized currently. Off-lease aircraft are carried at the lower of
depreciated cost or estimated net realizable value. A further adjustment is made
for those aircraft, if any, that require substantial maintenance work.
Capitalized Costs - Aircraft modification and maintenance costs which are
determined to increase the value or extend the useful life of the aircraft are
capitalized and amortized using the straight-line method over the estimated
useful life of the improvement. These costs are also subject to periodic
evaluation as discussed above.
Financial Accounting Pronouncements - The Partnership adopted Statement of
Financial Accounting Standards (SFAS) No. 114, "Accounting by Creditors for
Impairment of a Loan," and the related SFAS No. 118 as of January 1, 1995. SFAS
No. 114 and SFAS No. 118 require that certain impaired loans be measured based
on the present value of expected cash flows discounted at the loan's effective
interest rate; or, alternatively, at the loan's observable market price or the
fair value of the collateral if the loan is collateral dependent. The
Partnership had previously measured the allowance for credit losses using
methods similar to that prescribed in SFAS No. 114. As a result, no additional
provision was required by the adoption of this pronouncement. The Partnership
has recorded an allowance for credit losses equal to the full amount of the
following impaired loan as a result of issues regarding its collection due to
cash flow deficiencies of the lessee. The Partnership recognizes revenue on this
loan only as payments are received.
7
<PAGE>
As discussed in Note 4, the Deferral Agreement with Trans World Airlines, Inc.
(TWA) provides for a deferral of certain rents due the Partnership. The
Partnership recorded a note receivable and an allowance for credit losses equal
to the total of the deferred rents, the net of which is reflected in the
accompanying balance sheets. The note receivable and corresponding allowance for
credit losses will be reduced by the principal portion of payments received
which commenced May 31, 1995. In addition, the Partnership recognizes the
deferred rental revenue and interest revenue as payments are received. The
deferred rents and corresponding allowance for credit losses were $1,192,427 and
$1,575,000 as of September 30, 1995 and December 31, 1994, respectively.
Reclassification - Certain 1994 balances have been reclassified to conform to
the 1995 presentation.
2. Continental Airlines, Inc.(Continental)and Continental Micronesia,Inc.
(Continental Micronesia) Cost Sharing Agreements
In accordance with the Continental and Continental Micronesia cost-sharing
agreements as discussed in the Form 10-K, in January 1994, the Partnership
financed $2,177,533 to Continental and Continental Micronesia for new image
modifications, which is being repaid with interest over the lease terms of the
three aircraft. The Partnership has received all scheduled principal and
interest payments due from Continental and Continental Micronesia through
September 30, 1995. The aggregate note receivable balance as of September 30,
1995 and December 31, 1994 was $1,412,077 and $1,764,167, respectively.
3. Promissory Note from ALG, Inc. (ALG)
One hushkit set from the aircraft formerly leased to Pan American World Airways,
Inc. was sold in January 1993 to ALG for a net sales price of $1,750,000. ALG
paid cash for a portion of the sales price and issued an 11% interest-bearing
promissory note for the balance of $1,132,363, which specified 23 equal monthly
payments and a balloon payment of $897,932 due in January 1995. ALG paid to the
Partnership $19,138 of the balloon payment in January 1995, originating an event
of default under the note. The Partnership and ALG subsequently restructured the
terms of the promissory note. The renegotiated terms specify payment by ALG of
the note balance with interest at a rate of 13% per annum with one lump sum
payment in January 1995 of $254,733, eleven monthly payments of $25,600
beginning in February 1995, and a balloon payment in January 1996 of $416,631.
The Partnership has received all scheduled renegotiated payments due from ALG
through September 30, 1995. The note receivable balances as of September 30,
1995 and December 31, 1994 were $474,221 and $890,265, respectively.
4. TWA Reorganization
As part of the TWA lease extensions negotiated in 1991, the Partnership agreed
to share the cost of meeting certain Airworthiness Directives after TWA
successfully reorganized. The agreement stipulated that such costs incurred by
TWA may be credited against monthly rentals, subject to annual limitations and a
maximum of $500,000 per aircraft through the end of the applicable lease.
Pursuant to this cost-sharing agreement, since TWA emerged from its
reorganization proceedings in 1993, expenses totaling $6.3 million have been
offset against rental payments ($2.7 million in 1993 and $3.6 million in 1994).
Under the terms of this agreement, TWA may offset an additional $2.7 million
against rental payments, subject to annual limitations, over the remaining lease
terms.
8
<PAGE>
In October 1994, TWA notified its creditors, including the Partnership, of
another proposed restructuring of its debt. Subsequently, GE Capital Aviation
Services, Inc. (GECAS) which, as discussed in the Form 10-K, now provides
certain management services to the Partnership's general partner, Polaris
Investment Management Corporation (PIMC), among others, negotiated a standstill
arrangement, as set forth in a letter agreement dated December 16, 1994 (the
Deferral Agreement), with TWA for the 46 aircraft that are managed by GECAS, 18
of which are owned by the Partnership. As required by its terms, the Deferral
Agreement (which has since been amended as discussed below) was approved by PIMC
on behalf of the Partnership with respect to the Partnership's aircraft.
The Deferral Agreement provided for (i) a moratorium on all the rent due to the
Partnership in November 1994 and on 75% of the rents due to the Partnership from
December 1994 through March 1995, and (ii) all of the deferred rents, together
with interest thereon, to be repaid in monthly installments beginning in May
1995 and ending in December 1995. The repayment schedule was subsequently
accelerated upon confirmation of TWA's bankruptcy plan. The Partnership recorded
a note receivable and an allowance for credit losses equal to the total of the
deferred rents, the net of which is reflected in the accompanying balance
sheets. The Partnership will not recognize either the $1.575 million rental
amount deferred in 1994 or the $2.025 million rental amount deferred during the
first quarter of 1995 as rental revenue until the deferred rents are received.
The Partnership has received all scheduled rent payments beginning in April 1995
and all scheduled deferred rental payments beginning in May 1995, including
interest at a rate of 12% per annum, from TWA and has recognized $2,407,573 of
the deferred rents as rental revenue in the second and third quarters of 1995.
The balance of the deferred rents due from TWA on September 30, 1995 was
$1,192,427 which was paid to the Partnership on October 2, 1995 as discussed in
Note 10.
In consideration for the partial rent moratorium described above, TWA agreed to
make a lump sum payment of $1,000,000 to GECAS for the TWA lessors for whom
GECAS provides management services and who agreed to the Deferral Agreement. The
Partnership received $218,171 in January 1995 as its share of such payment by
TWA. This amount was recognized as other revenue in the accompanying statement
of operations for the nine months ended September 30, 1995. In addition, TWA
agreed to issue warrants to the Partnership for such amount of TWA Common Stock
as would have a value (based on the projected balance sheet provided by TWA in
connection with the Deferral Agreement) on December 31, 1997, on a fully diluted
basis, equal to the total amount of rent deferred (which agreement has since
been revised, as discussed below). The Partnership has not currently recognized
these stock warrants in its financial statements as the warrants had not been
issued by TWA as of September 30, 1995. As discussed in Note 10, the Partnership
received the warrants from TWA in November 1995.
In order to resolve certain issues that arose after the execution of the
Deferral Agreement, TWA and GECAS entered into a letter agreement dated June 27,
1995, pursuant to which they agreed to amend certain provisions of the Deferral
Agreement (as so amended, the Amended Deferral Agreement). The effect of the
Amended Deferral Agreement, which has been approved by PIMC with respect to the
Partnership's aircraft, is that TWA, in addition to agreeing to repay the
deferred rents to the Partnership, agreed (i) to a fixed payment amount (payable
in warrants, the number of which will be determined by formula) in consideration
for the aircraft owners' agreement to defer rent under the Deferral Agreement,
and, (ii) to the extent the market value of the warrants is less than the
payment amount, to supply maintenance services to the aircraft owners having a
value equal to such deficiency. The payment amount is to be determined by
subtracting certain maintenance reimbursements owed to TWA by certain aircraft
owners, including the Partnership, from the aggregate amount of deferred rents.
The amount of such maintenance reimbursement has not been finally determined.
The value of the maintenance reimbursement will be determined by the market
9
<PAGE>
value of the warrants by reference to the market price of the underlying TWA
Common Stock calculated with reference to the period falling from 120 days to
210 days after the effective date of TWA's plan of reorganization.
TWA agreed that, upon filing of its prepackaged plan, it would take all
reasonable steps to implement the terms of the Amended Deferral Agreement and
would immediately assume all of the Partnership's leases. TWA also agreed that,
not withstanding the 60-day cure period provided by section 1110 of the U.S.
Bankruptcy Code, it would remain current on the performance of its obligations
under the leases, as amended by the Amended Deferral Agreement.
On June 30, 1995, TWA filed its prepackaged Chapter 11 bankruptcy in the U.S.
Bankruptcy Court for the Eastern District of Missouri. On August 4, 1995, the
Bankruptcy Court confirmed TWA's plan of reorganization, which became effective
on August 23, 1995. Pursuant to the Amended Deferral Agreement, on the
confirmation date of the plan, August 4, 1995, the Partnership received a
payment of $1,217,989 from TWA which represented fifty percent (50%) of the
deferred rent outstanding plus interest as of such date. The remaining balance
of deferred rent plus interest was due September 30, 1995. As discussed in Note
10, the payment due from TWA on September 30, 1995 was paid to the Partnership
on October 2, 1995. While TWA has committed to an uninterrupted flow of lease
payments, there is no assurance that TWA will continue to honor its obligations
in the future.
5. Viscount Air Services, Inc. (Viscount) Restructuring
As discussed in the Form 10-K, the Partnership has entered into an agreement
with Viscount to defer certain rents due the Partnership which aggregate
$196,800; to extend a line of credit to Viscount for a total of $127,000 to be
used primarily for maintenance expenses relating to the Partnership's aircraft;
and which gives the Partnership the option to acquire approximately 2.3% of the
issued and outstanding shares of Viscount stock as of July 26, 1994 for an
option price of approximately $91,000.
The deferred rents are being repaid by Viscount with interest at a rate of 6%
per annum over the remaining terms of the leases. The deferred rents were
recognized as revenue in the period earned. Payments on the deferred rents are
current, and at present, the Partnership considers these deferred rents to be
collectible. The unpaid balances of the deferred rents, which are reflected as
rents receivable in the September 30, 1995 and December 31, 1994 balance sheets,
were $140,267 and $182,982, respectively. The line of credit, which was advanced
to Viscount in full during 1994, is being repaid by Viscount over a 30-month
period, beginning in January 1995, with interest at a rate of 11.53% per annum.
The line of credit balances, which are reflected as notes receivable in the
September 30, 1995 and December 31, 1994 balance sheets, were $96,609 and
$127,000, respectively.
Viscount is presently past due on certain rent payments due the Partnership in
April and May 1995. The past due payments aggregate $65,600 and are included in
rents receivable in the September 30, 1995 balance sheet. The Partnership
considers these past due amounts to be collectible. At the present time, the
Partnership is continuing its discussions with Viscount to restructure certain
of Viscount's financial obligations to the Partnership, which would require
Viscount to remain current on its existing monthly obligations and permit a
deferral of the past- due portion of the April and May 1995 obligations. In the
interim, beginning in June 1995, Viscount has undertaken to pay in full, by the
end of each month, the current month's obligations by making partial periodic
payments during that month. Viscount is presently current on these periodic
payments. Any failure by Viscount to perform its financial obligations with the
Partnership will have an adverse effect on the Partnership's financial position.
10
<PAGE>
6. Sale of Aircraft to American International Airways, Inc. (AIA)
The Partnership sold one Boeing 727-200 aircraft and hushkit, formerly leased to
Delta Airlines Inc. (Delta), to AIA in February 1995 for a sales price of
$1,771,805. The Partnership recorded no gain or loss on the sale as the sales
price equaled the net book value of the aircraft and hushkit. The Partnership
agreed to accept payment of the sales price in 36 monthly installments of
$55,000, with interest at a rate of 7.5% per annum, beginning in March 1995. The
Partnership recorded a note receivable for the sales price and has received all
scheduled principal and interest payments due from AIA through September 30,
1995. The note receivable balance as of September 30, 1995 was $1,035,840. In
addition, during the third quarter of 1995, the Partnership recognized $91,093
as other revenue certain maintenance reserves that were previously paid to the
Partnership by Delta.
7. Continental Restructuring
On January 26, 1995, Continental announced a number of actual and proposed
changes in its operations and financial situation. In connection with those
changes, Continental indicated that it was discussing with certain of its major
lenders modifications to existing debt amortization schedules to enhance the
airline's capital structure. Continental stated that during those discussions it
would not be making payments to such lenders and lessors otherwise required
under the current contracts. The Partnership is not engaged in any such
discussions with Continental at the present time, and Continental has made all
payments due to the Partnership on a current basis to date.
In early April 1995, Continental announced that it had successfully concluded
discussions with The Boeing Company, as well as its primary lender and the City
and County of Denver, that would provide Continental with approximately $370
million in cash deferrals and savings over the next two years, and that it had
reached a preliminary agreement with certain of its lessors for additional cash
deferrals.
8. Aircraft Inventory
During the third quarter of 1995, the Partnership recorded a downward adjustment
of $200,000 to aircraft inventory to reflect the current estimate of net
realizable aircraft inventory value. This adjustment is reflected as increased
depreciation expense in the accompanying statement of operations.
9. Related Parties
Under the Limited Partnership Agreement, the Partnership paid or agreed to pay
the following amounts for the current quarter to the general partner, Polaris
Investment Management Corporation, in connection with services rendered or
payments made on behalf of the Partnership:
11
<PAGE>
Payments for
Three Months Ended Payable at
September 30, 1995 September 30, 1995
------------------ ------------------
Aircraft Management Fees $302,579 $ 12,564
Out-of-Pocket Administrative
Expense Reimbursement 94,215 61,141
Out-of-Pocket Operating and
Remarketing Expense Reimbursement 32,192 172,655
-------- --------
$428,986 $246,360
======== ========
10. Subsequent Events
TWA Reorganization - On October 2, 1995, TWA paid to the Partnership $1,237,425,
which represented the remaining balance of the deferred rent with interest which
was due September 30, 1995 as discussed in Note 4. The Partnership will record
rental and interest revenue from this payment in the fourth quarter of 1995.
TWA Stock Warrants - In November 1995, the Partnership received warrants to
purchase 227,133 shares of TWA Common Stock at an exercise price of $.01 per
share as discussed in Note 4. The exercise period expires August 22, 1996. The
market value of the warrants at the time of receipt was approximately $1.7
million.
Return of Boeing 737-200 Combi Aircraft - The lease of one Boeing 737-200 Combi
aircraft to NWT was scheduled to expire in October 1995. As specified in the
lease, NWT was required to perform certain maintenance work on the aircraft
prior to its return. NWT returned the aircraft to the Partnership on October 26,
1995 without performing the required maintenance work which constituted a
default under the lease. Rent on aircraft will continue to accrue until NWT
satisfies their obligations under the lease. The Partnership estimates the cost
to perform the required maintenance work to be approximately $1,079,000 which
NWT is required to pay to the Partnership in lieu of performing the required
maintenance work. The Partnership is currently marketing this aircraft for sale
or re-lease.
12
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Polaris Aircraft Income Fund II (the Partnership) owns a portfolio of 23 used
commercial jet aircraft and certain inventoried aircraft parts out of its
original portfolio of 30 aircraft. The portfolio consists of 17 McDonnell
Douglas DC-9-30 aircraft and one McDonnell Douglas DC-9-40 aircraft leased to
Trans World Airlines, Inc. (TWA), one Boeing 737-200 aircraft leased to Viscount
Air Services, Inc. (Viscount), two Boeing 727-200 Advanced aircraft leased to
Continental Micronesia, Inc. (Continental Micronesia) and one Boeing 727-200
Advanced aircraft leased to Continental Airlines, Inc. (Continental). The
Partnership owns one Boeing 737-200 Combi aircraft leased to Northwest
Territorial Airways, Ltd. (NWT), which, as discussed below, was returned to the
Partnership in October 1995 and is being marketed for sale or re-lease. One
engine owned by Polaris Aircraft Income Fund I is leased to Viscount through a
joint venture with the Partnership. The Partnership transferred six Boeing
727-200 aircraft, previously leased to Pan American World Airways, Inc., to
aircraft inventory in 1992. These aircraft have been disassembled for sale of
their component parts as discussed in the Partnership's 1994 Annual Report to
the Securities and Exchange Commission on Form 10-K (Form 10-K). The Partnership
sold one Boeing 727-200 aircraft, formerly leased to Delta Airlines, Inc., in
February 1995.
Remarketing Update
Return of Boeing 737-200 Combi Aircraft - The lease of one Boeing 737-200 Combi
aircraft to NWT was scheduled to expire in October 1995. As specified in the
lease, NWT was required to perform certain maintenance work on the aircraft
prior to its return. NWT returned the aircraft to the Partnership on October 26,
1995 without performing the required maintenance work which constituted a
default under the lease. Rent on aircraft will continue to accrue until NWT
satisfies their obligations under the lease. The Partnership estimates the cost
to perform the required maintenance work to be approximately $1,079,000 which
NWT is required to pay to the Partnership in lieu of performing the required
maintenance work. The Partnership is currently marketing this aircraft for sale
or re-lease.
Partnership Operations
The Partnership recorded net income of $2,504,492, or $4.71 per limited
partnership unit, for the three months ended September 30, 1995, compared to net
income of $803,933, or $0.97 per unit, for the same period in 1994. The
Partnership recorded net income of $3,361,422 or $5.90 per limited partnership
unit, for the nine months ended September 30, 1995, compared to a net loss of
$1,396,428, or $4.64 per unit, for the same period in 1994.
The net loss for the nine months ended September 30, 1994 resulted primarily
from maintenance expenses incurred from the Partnership's leases to TWA. As
described in Note 4 to the financial statements, the Partnership agreed to share
the cost of meeting certain Airworthiness Directives (ADs) after TWA
successfully reorganized in 1993. The agreement stipulates that such costs
incurred by TWA may be credited against monthly rentals, subject to annual
limitations and a maximum of $500,000 per aircraft through the end of the
leases. In accordance with the cost sharing agreement, during the nine months
ended September 30, 1994, the Partnership recognized as operating expense $2.7
million of these AD expenses. No operating expense was recognized for these ADs
during the first three quarters of 1995.
Operating results improved for the three and nine months ended September 30,
1995 as compared to the same periods in 1994 as a result of higher revenues,
13
<PAGE>
combined with lower operating expenses, as discussed above. Total revenues in
1995 increased as a result of increased rental revenue, interest revenue and
other revenue recognized primarily from the leases with TWA. As discussed in
Note 4 to the financial statements, the Partnership reached an Amended Deferral
Agreement with TWA in June 1995, which provided for a moratorium on the rent due
the Partnership in November 1994 and on 75% of the rents due the Partnership
from December 1994 through March 1995. The deferred rents, which totaled $3.6
million plus interest at a rate of 12% per annum, were repaid by TWA beginning
in May 1995 and ending in October 1995. The Partnership does not recognize the
deferred rent as rental revenue until the deferred amounts are received,
including $2,025,000 deferred in the first three months of 1995. TWA began
repaying the deferred amounts with interest in May 1995. The Partnership
recognized rental revenue from these deferred rental payments of $1,654,547 and
$2,407,573 during the three and nine months ended September 30, 1995,
respectively. Further impacting the increase in total revenues during the nine
months ended September 30, 1995 as compared to the same period in 1994, the
Partnership received $218,171 as consideration for the agreement with TWA. The
Partnership recognized the $218,171 as other revenue during the first quarter of
1995.
Statement of Financial Accounting Standards No. 121, "Accounting for the
Impairment of Long- Lived Assets and for Long-Lived Assets to Be Disposed Of,"
requires that long-lived assets and certain identifiable intangibles to be held
and used by an entity be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. This Statement will be adopted by the Partnership as of January 1,
1996 and will be applied prospectively. Management is gathering information and
evaluating the requirements of the Statement, but has not determined the impact
of its application on the Partnership's financial position or results of
operations.
Liquidity and Cash Distributions
Liquidity - The Partnership has received all lease payments due from NWT,
Continental and Continental Micronesia through September 30, 1995. As discussed
above and in Notes 4 and 10 to the financial statements, TWA repaid its deferred
rents with interest beginning in May 1995. The Partnership received the final
payment from TWA of $1,237,425 on October 2, 1995. In November 1995, the
Partnership received warrants to purchase 227,133 shares of TWA Common Stock at
an exercise price of $.01 per share. The exercise period expires August 22,
1996. The market value of the warrants at the time of receipt was approximately
$1.7 million. While TWA has committed to an uninterrupted flow of lease
payments, there is no assurance that TWA will continue to honor its obligations
in the future. Any failure by TWA to perform its financial obligations with the
Partnership will have an adverse effect on the Partnership's financial position.
As discussed above and in the Form 10-K, during 1994 and 1993 TWA offset a total
of $6.3 million against rental payments due the Partnership for expenses TWA
incurred for certain ADs on the Partnership's aircraft. TWA may offset rental
payments due the Partnership for the ADs up to an additional $2.7 million,
subject to annual limitations, over the lease terms.
As discussed in the Form 10-K and in Note 5 to the financial statements, the
Partnership entered into an agreement with Viscount in July 1994 under which it
agreed to defer certain rents due the Partnership on one aircraft. These
deferred rents, which aggregate $196,800, are being repaid by Viscount with
interest over the remaining term of the lease through November 1997. The
deferred rents were recognized as revenue in the period earned. Payments on the
deferred rents are current, and at present, the Partnership considers these
deferred rents to be collectible. The agreement with Viscount also stipulates
that the Partnership advance Viscount up to $127,000, primarily for maintenance
14
<PAGE>
expenses incurred by Viscount relating to the Partnership's aircraft. In
accordance with the agreement, the Partnership advanced Viscount $127,000 during
1994 which is being repaid by Viscount with interest over a 30-month period
beginning in January 1995.
Viscount is presently past due on certain rent payments due the Partnership in
April and May 1995. The past due payments aggregate $65,600 and are included in
rents receivable in the September 30, 1995 balance sheet. The Partnership
considers these past due amounts to be collectible. At the present time, the
Partnership is continuing its discussions with Viscount to restructure certain
of Viscount's financial obligations to the Partnership, which would require
Viscount to remain current on its existing monthly obligations and permit a
deferral of the past- due portion of the April and May 1995 obligations. In the
interim, beginning in June 1995, Viscount has undertaken to pay in full, by the
end of each month, the current month's obligations by making partial periodic
payments during that month. Viscount is presently current on these periodic
payments. Any failure by Viscount to perform its financial obligations with the
Partnership will have an adverse effect on the Partnership's financial position.
As specified in the Partnership's leases with Continental Micronesia and
Continental, in January 1994, the Partnership reimbursed Continental (partially
on behalf of its affiliate Continental Micronesia) an aggregate of $1.8 million
for cockpit modifications and $742,325 for C-check labor and parts for the three
aircraft. In addition, in January 1994, the Partnership financed an aggregate of
$2,177,533 for new image modifications, which is being repaid with interest over
the terms of the aircraft leases. The leases with Continental and Continental
Micronesia also stipulate that the Partnership share in the cost of meeting
certain ADs, which cannot be estimated at this time.
As discussed in the Form 10-K, ALG, Inc. (ALG) was required to pay to the
Partnership a balloon payment of $897,932 in January 1995 on their promissory
note. ALG paid to the Partnership $19,138 of the balloon payment in January
1995, originating an event of default under the note. The Partnership and ALG
subsequently restructured the terms of the promissory note. The renegotiated
terms specify payment by ALG of the note balance with interest at a rate of 13%
per annum with one lump sum payment in January 1995 of $254,733, eleven monthly
payments of $25,600 beginning in February 1995, and a balloon payment in January
1996 of $416,631. The Partnership has received all scheduled renegotiated
payments due from ALG.
The Partnership sold one Boeing 727-200 aircraft equipped with a hushkit to AIA
in February 1995 as previously discussed. The agreement with AIA specifies
payment of the sales price in 36 monthly installments of $55,000 beginning in
March 1995. The Partnership has received all scheduled payments due from AIA.
The Partnership receives maintenance reserve payments from certain of its
lessees that may be reimbursed to the lessee or applied against certain costs
incurred by the Partnership for maintenance work performed on the Partnership's
aircraft, as specified in the leases. Maintenance reserve balances, if any,
remaining at the termination of the lease may be used by the Partnership to
offset future maintenance expenses or recognized as revenue. The net maintenance
reserve balances aggregate $576,146 as of September 30, 1995.
Payments of $120,455 and $220,816 have been received during the three and nine
months ended September 30, 1995, respectively, from the sale of inventoried
parts from the six disassembled aircraft and have been applied against aircraft
inventory. The Partnership's cash reserves are being retained to cover the
Partnership's normal operating and administrative expenses and to meet
obligations under the TWA, Continental and Continental Micronesia lease
agreements.
15
<PAGE>
Cash Distributions - Cash distributions to limited partners during the three
months ended September 30, 1995 and 1994 were $1,249,993, or $2.50 per limited
partnership unit and $3,124,981 or $6.25 per unit, respectively. Cash
distributions to limited partners during the nine months ended September 30,
1995 and 1994 were $3,749,978, or $7.50 per limited partnership unit and
$9,374,944 or $18.75 per unit, respectively. The timing and amount of future
cash distributions will depend upon the Partnership's future cash requirements;
the receipt of rental payments from TWA, Viscount, Continental and Continental
Micronesia; the receipt of the deferred rental payments and financing payments
from Viscount; the receipt of modification financing payments from Continental
and Continental Micronesia; the receipt of renegotiated promissory note payments
from ALG; the receipt of sales proceeds from AIA; the receipt of payments from
NWT in lieu of meeting aircraft return conditions; and, the receipt of payments
generated from the aircraft disassembly process.
16
<PAGE>
Part II. Other Information
Item 1. Legal Proceedings
As discussed in Item 3 of Part I of Polaris Aircraft Income Fund II's (the
Partnership) 1994 Annual Report to the Securities and Exchange Commission (SEC)
on Form 10-K (Form 10-K) and in Item 1 of Part II of the Partnership's Quarterly
Reports to the SEC on Form 10-Q for the period ended March 31, 1995 and the
period ended June 30, 1995, respectively, there are a number of pending legal
actions or proceedings involving the Partnership. Except as described below,
there have been no material developments with respect to any such actions or
proceedings during the period covered by this report.
Pan American World Airways, Inc. (Pan Am) - At a hearing held on August 17,
1995, the Bankruptcy Court approved the Stipulation and Order by which Pan Am
agreed to allow the Partnership $2.5 million as an administrative expense
priority claim and $56 million as a general unsecured claim.
Trans World Airlines, Inc. (TWA) - TWA has emerged from its bankruptcy
proceeding and has repaid all outstanding rent deferrals in accordance with its
commitment to the Partnership and in accordance with its plan of reorganization.
TWA has since remained current on all of its payment obligations to the
Partnership.
Reuben Riskind, et al. v. Prudential Securities, Inc., et al. - Prudential
Securities, Inc. has reached a settlement with the plaintiffs. The trial of the
claims of one plaintiff, Robert W. Wilson, against Polaris Aircraft Income Funds
I - VI, their general partner Polaris Investment Management Corporation and
various affiliates of Polaris Investment Management Corporation, including
General Electric Capital Corporation, was commenced on July 10, 1995. On July
26, 1995, the jury returned a verdict in favor of the defendants on all counts.
Subsequent to this verdict, all of the remaining defendants (with the exception
of Prudential Securities, Inc. which had previously settled) entered into a
settlement with the plaintiffs.
Adams, et al. v. Prudential Securities, Inc., et al. - The Judicial Panel has
transferred the action to the Multi-District Litigation filed in the United
States District Court for the Southern District of New York, which is described
in Item 10 of Part III of the Partnership's 1994 Form 10-K.
Scott v. Prudential Securities, Inc. et al. - On or around August 15, 1995, a
complaint entitled Mary C. Scott v. Prudential Securities Inc. et al. was filed
in the Court of Common Pleas, County of Summit, Ohio. The complaint names as
defendants Prudential Securities Inc., the Partnership, Polaris Aircraft Income
Fund III, Polaris Aircraft Income Fund IV, Polaris Aircraft Income Fund VI,
P-Bache/A.G. Spanos Genesis Income Partners LP 1, Prudential-Bache Properties,
Inc., A.G. Spanos Residential Partners - 86, Polaris Securities Corporation and
Robert Bryan Fitzpatrick. Plaintiff alleges claims of fraud and violation of
Ohio securities law arising out of the public offerings of the Partnership,
Polaris Aircraft Income Fund III, Polaris Aircraft Income Fund IV, Polaris
Aircraft Income Fund VI, and P-Bache/A.G. Spanos Genesis Income Partners LP 1.
Plaintiff seeks compensatory damages, general, consequential and incidental
damages, punitive damages, rescission, costs, attorneys' fees and other and
further relief as the Court deems just and proper. On September 15, 1995,
defendants removed this action to the United States District Court, Eastern
District of Ohio. On September 18, 1995, defendants sought the transfer of this
action to the Multi-District Litigation and sought a stay of all proceedings by
the district court, which stay was granted on September 25, 1995. The Judicial
Panel conditionally transferred this action to the Multi-District Litigation on
October 13, 1995.
17
<PAGE>
Other Proceedings - Item 10 in Part III of the Partnership's 1994 Form 10-K
discusses certain actions which have been filed against Polaris Investment
Management Corporation and others in connection with the sale of interests in
the Partnership and the management of the Partnership. With the exception of
Novak, et al v. Polaris Holding Company, et al, where the Partnership is named
as a defendant, the Partnership is not a party to these actions. In Novak, a
derivative action, the Partnership is named as a defendant for procedural
purposes, but the plaintiffs in such lawsuit do not seek an award from the
Partnership. Except as described below, there have been no material developments
with respect to any of the actions described therein during the period covered
by this report.
Bashein, et al. v. Kidder, Peabody & Company Inc., et al. - On October 2, 1995,
the Court denied the defendants' motion to dismiss.
B & L Industries, Inc., et al. v. Polaris Holding Company, et al. - On October
2, 1995, defendants moved to dismiss the complaint.
Harrison v. General Electric Company, et al. - On or around September 27, 1995,
a complaint entitled Martha J. Harrison v. General Electric Company, et al., was
filed in the Civil District Court for the Parish of Orleans, State of Louisiana.
The complaint names as defendants General Electric Company and Prudential
Securities Incorporated. Plaintiff alleges claims of tort, breach of fiduciary
duty in tort, contract and quasi-contract, violation of sections of the
Louisiana Blue Sky Law and violation of the Louisiana Civil Code concerning the
inducement and solicitation of purchases arising out of the public offering of
Polaris Aircraft Income Fund IV. Plaintiff seeks compensatory damages,
attorney's fees, interest, costs and general relief. The Partnership is not
named as a defendant in this action.
In re: Prudential Securities Limited Partnerships (Multi-District Litigation) -
Prudential Securities, Inc. on behalf of itself and its affiliates has made an
Offer of Settlement. A class has been certified for purposes of the Prudential
Settlement and notice to the class has been sent. Any questions concerning
Prudential's Offer of Settlement should be directed to 1-800- 327-3664, or write
to the Claims Administrator at:
Prudential Securities Limited Partnerships
Litigation Claims Administrator
P.O. Box 9388
Garden City, New York 11530-9388
18
<PAGE>
Item 5. Other Information
Directors and Officers
James F. Walsh resigned as Chief Financial Officer of Polaris Investment
Management Corporation (PIMC) effective October 9, 1995. Marc A. Meiches, 42,
has assumed the position of Chief Financial Officer of PIMC effective October 9,
1995. Mr. Meiches presently holds the position of Executive Vice President and
Chief Financial Officer of General Electric Capital Aviation Services, Inc.
(GECAS). Prior to joining GECAS, Mr. Meiches has been with General Electric
Company (GE) and its subsidiaries since 1978. Since 1992, Mr. Meiches held the
position of Vice President of the General Electric Capital Corporation Audit
Staff. Between 1987 and 1992, Mr. Meiches held Manager of Finance positions for
GE Re-entry Systems, GE Government Communications Systems and the GE Astro-Space
Division.
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits (numbered in accordance with Item 601 of Regulation S-K)
27. Financial Data Schedule (Filed electronically only)
b) Reports on Form 8-K
No reports on Form 8-K were filed by the Registrant during the quarter
for which this report is filed.
19
<PAGE>
SIGNATURE
Pursuant to the requirements of section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
(Registrant)
By: Polaris Investment
Management Corporation,
General Partner
November 9, 1995 By: /S/Marc A. Meiches
- ---------------------------------- ------------------
Mark A. Meiches
Chief Financial Officer
(principal financial officer and
principal accounting officer of
Polaris Investment Management
Corporation, General Partner of
the Registrant)
20
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