UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended May 31, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission file number 0-26088
PACIFIC AEROSPACE & ELECTRONICS, INC.
(Exact name of registrant as specified in its charter)
Washington 91-1744587
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
430 Olds Station Road, Third Floor
Wenatchee, Washington 98801
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (509) 667-9600
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
------------------- ---------------------
None None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 par value
(Title of class)
Common Stock Purchase Warrants
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
<PAGE>
State the aggregate market value of the voting stock held by non-affiliates,
based on the closing price for the registrant's Common Stock on the Nasdaq
National Market System, as of August 24, 1999: approximately $28,879,996.50.
Indicate the number of shares outstanding of each of the registrant's classes of
common equity, as of August 24, 1999: Common Stock, $.001 par value ("Common
Stock"): 19,253,331 shares.
Documents Incorporated by Reference: None, except certain Exhibits referred to
on the list of Exhibits, contained in Item 14 of this report.
<PAGE>
TABLE OF CONTENTS
Item of Form 10-K Page
- --------------------------------------------------------------------------------
PART I
Item 1 - Description of Business........................................... 1
Item 2 - Description of Property........................................... 22
Item 3 - Legal Proceedings................................................. 23
Item 4 - Submission of Matters to a Vote of Security Holders............... 23
PART II
Item 5 - Market for Common Equity and Related Shareholder Matters.......... 24
Item 6 - Selected Financial Data .......................................... 28
Item 7 - Management's Discussion and Analysis of
Financial Condition and Results of Operations.................... 29
Item 7A - Quantitative and Qualitative Disclosures About Market Risk........ 40
Item 8 - Financial Statements.............................................. 41
Item 9 - Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure............................... 81
PART III
Item 10 - Directors and Executive Officers of the Company................... 82
Item 11 - Executive Compensation............................................ 85
Item 12 - Security Ownership of Certain Beneficial
Owners and Management............................................. 91
Item 13 - Certain Relationships and Related
Transactions...................................................... 93
Item 14 - Exhibits, Financial Statement Schedules and Reports on Form 8-K... 94
SIGNATURES................................................................... 99
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PART I
ITEM 1. DESCRIPTION OF BUSINESS
Overview
Pacific Aerospace & Electronics, Inc. is an international engineering and
manufacturing company that develops, manufactures and markets high-performance,
technically demanding electronic and metal components and assemblies for the
aerospace, defense, electronics, medical, energy and transportation industries.
The Company is organized into three operational groups: U.S. Aerospace, U.S.
Electronics, and European Aerospace.
During the Company's 1999 fiscal year, the Company acquired Aeromet
International PLC ("Aeromet"). Immediately following the end of the fiscal year,
the Company acquired Skagit Engineering & Manufacturing, Inc. ("Skagit").
Aeromet, which forms the basis of the Company's European Aerospace Group,
supplies magnesium and aluminum precision sand and investment castings and
titanium and aluminum formed sheet products to the aerospace, defense and
motorsport industries in Europe. The Aeromet acquisition nearly doubled the
Company's size, and significantly expanded the Company's customer base and
product offerings. The Skagit acquisition, although smaller in scope than the
Aeromet acquisition, was important to the Company because it significantly
expanded the capabilities of the Company's U.S. Aerospace Group in the area of
metals fabrication. See "- Products, Processes and Markets - U.S. Aerospace
Group - Fabrication Division."
The Company is continuing its consolidation strategy of identifying and
acquiring companies that (i) provide the opportunity for increased sales
penetration with the Company's existing customers and new sales to the Company's
potential customers and (ii) extend and vertically integrate the manufacturing
capabilities of the Company's operational groups.
References in this Form 10-K to the "Company" include Pacific Aerospace &
Electronics, Inc. and its subsidiaries. The Company's headquarters are located
at 430 Olds Station Road, Wenatchee, Washington 98801, and its telephone number
is (509) 667-9600.
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Corporate History
The Company has acquired its various divisions in a series of transactions since
1990. Each acquisition was accounted for as a purchase. The following chart
identifies the Company's three operational groups, the operating divisions and
companies that comprise those groups, the year of each acquisition, and the
current locations of the Company's operations.
<TABLE>
<CAPTION>
Year of
Acquisition Current Location
------------ ----------------
<S> <C> <C>
U.S. AEROSPACE GROUP
Casting Division:
Aeromet America, Inc. 1995 Entiat, Washington
Lyden Castparts, Inc. 1998 Tacoma, Washington
Machining Division:
Cashmere Manufacturing Co. 1994 Wenatchee, Washington
Seismic Safety Products, Inc. 1995 Wenatchee, Washington
Fabrication Division:
Skagit Engineering & Manufacturing, Inc. 1999 Sedro-Woolley, Washington
Engineering Division:
Nova-Tech Engineering, Inc. * Edmonds, Washington
EUROPEAN AEROSPACE GROUP
Casting Division:
Aeromet International PLC 1998 Sittingbourne, England
Rochester, England
Worcester, England
Forming Division:
Aeromet International PLC 1998 Welwyn Garden City, England
Birmingham, England
U.S. ELECTRONICS GROUP
Interconnect Division:
Pacific Coast Technologies, Inc. 1990 Wenatchee, Washington
Balo Precision Parts, Inc. 1998 Wenatchee, Washington
Filter Division:
Ceramic Devices, Inc. 1995 Wenatchee, Washington
Bonded Metals Division:
Northwest Technical Industries, Inc. 1997 Sequim, Washington
Display Technology Division:
Electronic Specialty Corporation and 1998 Vancouver, Washington
Displays & Technologies, Inc.
* The Company does not currently own Nova-Tech Engineering, Inc. ("Nova-Tech").
However, the Company has signed a letter of intent to acquire Nova-Tech, and the
Company is negotiating the terms of a definitive stock purchase agreement with
Nova-Tech's shareholders. The Company expects that the definitive stock purchase
agreement will contain conditions to closing, including receipt of a letter
ruling from the Internal Revenue Service that is necessary to permit Nova-Tech's
Employee Stock Ownership Plan to sell its Nova-Tech stock on the terms
anticipated. The Company is providing services to Nova-Tech under the terms of
an Operating Agreement dated April 23, 1999. See "- U.S. Aerospace Group -
Engineering Division" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources."
</TABLE>
Aeromet Acquisition
On July 30, 1998, the Company acquired Aeromet International PLC ("Aeromet")
through the Company's indirect wholly owned subsidiary, Pacific Aerospace &
Electronics (UK) Limited, for (pound)42 million (approximately $69 million) in
cash. Aeromet is the largest company acquired by the Company to date, and the
acquisition nearly doubled the Company's workforce, facilities and
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revenues and significantly expanded the Company's customer base and product
offerings. The acquisition also significantly enhanced the Company's commercial
aerospace and defense industry presence and provided the Company with a solid
platform from which to access major European commercial aircraft and aircraft
engine programs as well as markets within the European defense and
transportation industries. See " - Products, Processes and Markets - European
Aerospace Group."
In order to fund the Aeromet acquisition and provide working capital, the
Company issued $75 million of 11 1/4% Senior Subordinated Notes due 2005 (the
"Old Notes") in a private placement under Rule 144A of the Securities Act of
1933, as amended ("Securities Act") that closed simultaneously with the Aeromet
acquisition (the "Offering"). The Old Notes were purchased by qualified
institutional buyers and were issued pursuant to an Indenture (the "Indenture"),
dated July 30, 1998, between the Company, the Company's U.S. operating
subsidiaries (the "Subsidiaries") and IBJ Schroder Bank & Trust Company (now
known as IBJ Whitehall Bank & Trust Company), as trustee (the "Trustee"). In
February 1999, the Company exchanged the Old Notes for new senior subordinated
notes (the "Notes") of an equal principal amount and registered the Notes on a
Form S-4 Registration Statement (No. 333-68023), which was declared effective on
January 22, 1999. The terms of the Notes are substantially identical to the
terms of the Old Notes, except that they are not subject to transfer
restrictions or registration rights, unless held by certain broker-dealers,
affiliates or certain other persons. The Notes (i) are senior subordinated,
unsecured, general obligations of the Company, (ii) will mature on August 1,
2005, unless previously redeemed pursuant to the Indenture, and (iii) are
jointly and severally guaranteed on a senior subordinated basis by each of the
Subsidiaries.
Business Strengths
Significant Customer Base
The Company has a strong international customer base, which includes many of the
world's leading companies, such as: Aeronautical Macchi Manufacturing
Corporation ("Aermacchi"), AlliedSignal Inc., BF Goodrich Company, The Boeing
Company ("Boeing"), Bombardier Inc., British Aerospace plc ("British
Aerospace"), DaimlerChrysler AG, Deere & Company, Marconi Actuation Systems,
Inc. (d/b/a GEC Marconi Avionics), GKN Westland Aerospace, Inc., Honeywell Inc.
("Honeywell"), Litton Marine Systems, Inc., Lockheed Martin Corporation, Lucas
Aerospace (a division of Lucas Varity plc), Northern Telecom Ltd. ("Northern
Telecom"), Northrop Grumman Corporation ("Northrop Grumman"), Paccar Inc.
("PACCAR"), Parker Hannifan Corporation, Raytheon Company ("Raytheon"),
Rolls-Royce plc ("Rolls-Royce"), and Schlumberger Ltd. The Company believes that
one of the key advantages of the Aeromet acquisition was the addition of a
significant base of additional customers, primarily in Europe, to the Company's
already blue-chip customer base.
Strong Position in Major Aerospace and Defense Programs
The Company supplies components and parts to Boeing for each of Boeing's 737,
747, 757, 767 and 777 commercial aircraft construction programs. Aeromet
participates in the Airbus A300/310, A320 and A330/340 commercial aircraft
construction programs. In addition, both the Company and Aeromet participate in
major defense and military aircraft programs.
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Diversity of Product Offerings and Capabilities
The Company designs and manufactures a broad range of precision cast, formed,
machined and fabricated metal products, as well as a broad range of electronics
components and sub-assemblies. The Company collaborates with many of its
customers to develop products that meet specific design or customization
requests. The Company believes that one of its key strengths is its ability to
provide total solutions to its customers. The Company also believes that its
experience and capabilities in working with the changing needs of its customers
will allow it to continue to respond to changing market trends in its
industries.
Strong Technology Position
The Company utilizes specialized manufacturing techniques, advanced materials
science, integrated design, process engineering and proprietary technologies or
processes in the manufacture of its products. In particular, the U.S. Aerospace
Group owns four U.S. patents and has a broad base of expertise in the
manufacture of cast aluminum products using lost foam, sand and permanent mold
casting technologies. The European Aerospace Group possesses specialized
expertise in casting aluminum and magnesium products using sand casting and
investment casting techniques and its licensed "Sophia Process" technology, and
in super-plastic forming of titanium sheet and stretch forming of aluminum
sheet. The U.S. Electronics Group owns 28 U.S. patents and uses a combination of
patented technology, trade secrets and other proprietary technology in the
manufacture of its electronics products. The Company has a number of patents
pending and maintains an ongoing program of evaluating and protecting its
proprietary rights and processes.
Strategies
The Company's objective is to be a world class manufacturer that generates
profitable growth by taking advantage of available opportunities in its
industries. The Company believes that pursuing the following business strategies
will enable the Company to increase market penetration, create operating
efficiencies, and enhance its competitive position in its core markets.
Integrate and Consolidate Operations
During the 1999 fiscal year, the Company has focused on streamlining and
centralizing the operations and administration of its operating groups in order
to reduce costs, increase operating efficiencies, and allow the Company to
provide more complete and faster solutions to its customers. The Company's U.S.
accounting, human resources, and information services functions have been
consolidated at the corporate level. In March 1999, the Company hired Werner
Hafelfinger as Vice President Operations and Chief Operating Officer to assist
with the consolidation of operations and to capitalize on the synergies of the
Company's groups and divisions. In the U.S. Electronics Group, the operations of
the Interconnect Division have been combined by moving its New Jersey operations
to Wenatchee, Washington to share the facilities, employees and management of
its Wenatchee counterpart, and unprofitable or obsolete lines of business in the
Display Technology Division have been discontinued. In the U.S. and European
Aerospace Groups, the Company has reorganized operations to adopt a cellular
manufacturing process to improve work flow, reduce cycle time, inventories and
scrap levels, improve flexibility, and increase employee interest in projects.
The U.S. and European Aerospace Groups have also begun to focus on standardizing
manufacturing processes, leveraging engineering expertise, and obtaining
globally recognized quality certifications.
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Enhance Sales and Marketing Functions
The Company is also focused on strengthening its sales and marketing functions
to continue the Company's revenue growth. The Company is currently consolidating
marketing efforts within its operating groups and expanding its direct sales
forces. The Company believes that it has the opportunity to leverage customer
relationships to supply more complete systems by providing products that combine
the technologies and manufacturing abilities of its different groups.
Consequently, the Company is emphasizing cross-selling efforts between its
operating groups. The Aeromet acquisition has also provided the Company with a
strong European base, which the Company intends to use to expand its
international marketing efforts.
Offer Complete Solutions
The Company is continuing to vertically integrate its manufacturing processes in
order to improve operating efficiencies and increase profit margins. A key
component of this strategy is to use the Company's expertise in advanced
materials science and in the manufacture and assembly of precision products to
identify new products, services, technologies and markets and to provide
customers with total solutions, from design to assembly. Commercial aircraft
manufacturers and defense contractors are continuing to move toward purchasing
from a smaller number of suppliers that can supply more complete systems and
pre-assembled parts, and the Company is positioning itself to be one of those
suppliers. By producing products that integrate the Company's metals casting,
forming, machining and fabrication expertise with the Company's expertise in the
manufacture of higher-margin connectors, seals, filters, relays, and electronic
packages, the Company expects to improve its profit margins and position itself
to capture a larger share of its customers' total product requirements.
Pursue Strategic Acquisitions
The Company believes that there are and will continue to be opportunities to
grow the Company and enhance its profitability through acquisition. The Company
intends to continue to pursue strategic acquisitions of companies and
technologies that it believes will provide the opportunity for increased sales
penetration with existing customers and new sales to potential customers, and
that will extend and vertically integrate the Company's products and
technologies.
Industry Overview
The aerospace supply industry has been enjoying favorable trends driven by
strong growth in commercial aircraft fundamentals. Industry sources have
estimated that the worldwide market for aircraft, including components, will be
approximately $520 billion over the ten-year period of 1997 through 2007. In
1998 and 1999, the favorable trends have been somewhat tempered by the Asian
financial downturn, but industry analysts and aircraft manufacturers still
expect overall growth in air traffic patterns and the demand for new aircraft.
Demand for aerospace components is closely related to delivery and use rates for
commercial aircraft. Delivery and use rates are in turn directly related to the
actual and projected volume of passenger and freight traffic, average aircraft
age, and global fleet size. According to the Boeing 1998 Current Market Outlook,
world air traffic grew 6% from 1996 to 1997, following a 7% increase in the
previous year. However, the Boeing 1999 Current Market Outlook reported that air
travel in 1998 varied from the trend, particularly because of decreases in Asian
air traffic. Boeing has revised its estimate for the growth rate of world air
travel over the next ten years to a rate of approximately 4.7% per year. Boeing
also projects that during this same period the world jet fleet
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will grow from an operating fleet of 12,600 commercial aircraft at the end of
1998 to approximately 19,100 aircraft (net of retirements) at the end of 2008.
In 1998, Boeing delivered 559 new commercial aircraft, compared to 320 new
commercial aircraft in 1997 and 220 in 1996. In 1998, Airbus delivered 229 new
commercial aircraft, compared to 182 in 1997 and 126 in 1996. In December 1998,
Boeing announced plans to produce 620 aircraft in 1999. In July 1999, Boeing
announced that it had delivered 313 commercial aircraft in the first half of
1999, putting it on track for its 1999 goal. However, deliveries are expected to
decline to 480 in 2000 and 420 in 2001. At the end of July 1999, Airbus had
delivered 167 commercial aircraft for the year. Industry reports indicate that
the total number of all commercial aircraft ordered in the first half of 1999
has decreased to 324, compared to 569 in the first half of 1998. Of these
orders, 120 were for Boeing aircraft and 204 were for Airbus aircraft. In 1998,
1,212 commercial aircraft were ordered - 656 from Boeing and 557 from Airbus.
According to the U.S. Department of Defense, defense procurement funding is
expected to continue to grow. Some estimates say that this growth will be at
approximately 6% per year, from approximately $43 billion in 1998 to
approximately $60 billion in 2001. The Company believes that both its
electronics and aerospace business segments will benefit from this trend.
As in other transportation segments, aircraft manufacturers and defense
contractors have been aggressively searching for ways to improve the quality and
reduce the cost of their manufactured products. One major area of focus has been
the manner in which they work with their supply base. Similar to automotive
manufacturers, aircraft manufacturers and defense contractors have increasingly
become product designers and assemblers rather than vertically integrated
manufacturers. As a result, these manufacturers are outsourcing component
manufacturing to independent suppliers, seeking to benefit from an independent
supplier's lower cost structure and specialized manufacturing knowledge.
Suppliers that demonstrate an ability to effectively deliver a high quality
product on the required delivery schedule at a reasonable cost will benefit from
this shift. In addition, commercial aircraft manufacturers are tending, and
defense contractors are being strongly encouraged by the U.S. Department of
Defense, to purchase from suppliers that can supply more complete systems and
pre-assembled parts. These shifts are leading to a consolidation in the supply
base. Certain segments of the aerospace supply base are already consolidated,
such as engines, avionics and landing gears. Other segments, however, including
structural components and electronics, remain fragmented. The Company believes
that this trend toward consolidation presents an opportunity for suppliers with
the financial and management resources to complete acquisitions and expand their
operations.
The electronics industry is enjoying growth in the Company's specific sector as
well. According to Fleck Research, a division of Global Connector Research
Group, Inc., the top ten manufacturers of connectors, cable assemblies,
backplane and interconnect devices combined produced over $11 billion worth of
product in 1997, and growth is forecasted at a rate of 4.3% through year 2002.
The Company believes that the portion of this market pertaining to hermetic
connectors can be estimated at 1%, or $112 million total available market.
Additionally, the Company estimates the size of the hermetic electronics
packaging market to be approximately $250 million.
Growth in the high reliability electronics industry has been fueled by several
factors, including the rapid pace of technological advancement and development
of new satellite products. The growth in demand by these sophisticated customers
has induced manufacturers to create more complex designs of lighter, more
efficient configurations and higher levels of performance. Additionally,
international demand for advanced electronics components is growing rapidly as
these new developments enter the arena of available solutions.
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Products, Processes and Markets
The products, manufacturing processes and markets of the Company in fiscal 1999,
and the industry segments in which the Company operates, are summarized below.
For financial information about operational segments and geographic areas, see
"Notes to Consolidated Financial Statements -- Note 3" in the Company's
financial statements for May 31, 1999.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------
Manufacturing
Segment Group Division Processes Sample Products
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Casting Sand; lost foam; and Aircraft and truck parts
A Aerospace permanent mold casting
E ---------------------------------------------------------------------------
R Machining Precision machining of Aircraft parts
O bonded and cast metals
S ---------------------------------------------------------------------------
P Fabrication Metal fabrication Tooling and structures for
A aircraft manufacture
C ---------------------------------------------------------------------------
E Engineering Design Aviation tool design
-------------------------------------------------------------------------------------------
European Forming Hot and super-plastic Jet engine bulkhead components;
Aerospace titanium forming; cold airframe and engine details;
stretch aluminum forming aircraft skin panels; leading
edges
---------------------------------------------------------------------------
Casting Sand casting; investment Aircraft parts; aircraft engine
casting; Sophia casting; parts; motorsport engine parts
machining
- -------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------
U.S. Interconnect Design and manufacture Electronic connectors, packages
E Electronics and assemblies with ceramic and
L glass hermetic seals
E ---------------------------------------------------------------------------
C Filter Design and manufacture Ceramic discoidal
T electromagnetic filters and
R capacitors
O ---------------------------------------------------------------------------
N Bonded Metals Explosive bonding and Metallurgically welded metals
I forming of dissimilar for use in electronic
C metals connectors and assemblies
S ---------------------------------------------------------------------------
Display Design and manufacture Relays and solenoids;
Technology ruggedized flat panel displays
- -------------------------------------------------------------------------------------------------------
</TABLE>
U.S. Aerospace Group
Casting Division
At its facility in Entiat, Washington, the U.S. Aerospace Group's Casting
Division designs and manufactures precision cast aluminum parts using permanent
mold, sand, and lost foam casting technologies. At its facility in Tacoma,
Washington, the division designs and manufactures aluminum, bronze, iron, and
steel parts using sand casting technology. The division's cast parts are sold
principally to the transportation and aerospace industries.
Permanent Mold Casting. The permanent mold process is well-suited for high
strength, long production life parts that do not require frequent changes in
design and can be made in high volume. The division uses this process primarily
to produce components used in diesel engines and
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other structural parts for the transportation industry. The permanent mold
process uses a cast iron mold to shape the part to be cast. Molten aluminum is
ladled into the heated mold and, once cooled, the casting is removed from the
mold. As the mold is not destroyed in the production process, it can be reused.
As an example of the Company's focus on vertically integrating to produce more
complete solutions, the acquisition of the division's Tacoma facility has
permitted the division to produce its own molds, which had previously been
subcontracted. This has provided the division with more control, lower costs,
and the ability to more quickly respond to customers' needs.
Sand Casting. The sand casting process is more appropriate for lower volume
parts. It is also appropriate for parts produced in iron and steel, which have
high melting temperatures, prohibiting the use of many other casting processes.
The division uses this process to produce parts for the aerospace industry, such
as housings. This process uses a wood, plastic, or aluminum pattern of the part
to be cast. An automatic molding machine hydraulically squeezes molding sand to
accurately reproduce the pattern. After the molten aluminum is poured into the
mold, the sand is removed, leaving the casting. The sand mold is destroyed in
the process, but the sand may be recycled for future moldings. The division has
recently added an SO2 core making process, which produces sand cores and molds
without the use of heat, providing for more dimensional accuracy and increased
productivity.
Lost Foam Casting. The lost foam process is well-suited for producing parts with
complex patterns, because it reduces the amount of machining that would be
required if the parts had been made with sand or permanent mold castings. The
U.S. Aerospace Group's Casting Division uses this process to produce support
brackets and housings primarily for the transportation industry. In the lost
foam process, the pattern is created from expanded polystyrene beads. The foam
pattern is then suspended in a large metal flask and surrounded with dry sand.
Molten aluminum is poured directly on the pattern, which vaporizes as the
aluminum replaces every detail of the pattern. The lost foam process allows for
complex details of a part to be cast with little or no touch-up, and the tooling
used to create the polystyrene patterns has an unlimited life because the
tooling only comes in contact with the polystyrene beads.
Machining Division
At its facility in Wenatchee, Washington, the U.S. Aerospace Group's Machining
Division operates a precision machine shop that produces precision machined
components, structural parts and assemblies principally from aluminum, titanium,
stainless steel and explosively bonded metals for the commercial aerospace and
defense industries. These products range from small connectors to complex
assemblies for use in commercial and military aircraft, heavy trucks and seismic
safety gas shutoff valves. The division uses computerized numerical control
("CNC") machining cells to manufacture particularly complex components and
assembly housings. The division builds its machined products either to customer
specifications or according to an engineering and tooling design developed by
the Company to suit a customer's particular need. The division has a direct
computer link to Boeing that allows immediate access to the drawings for Boeing
parts. The division inspects and tests its machined products at various stages
of production using non-destructive methods such as X-ray, ultra-sound, manual
and computerized measuring instruments, eddy current, and dyes before the
products are passed for shipment to the customer. In response to changes in its
customers' manufacturing processes, the division often supplies its precision
machined parts on a "just in time to point of use" basis. As a result of these
processes and the high quality of its machined parts, the U.S. Aerospace Group
has won numerous awards for supplier excellence from customers such as Boeing,
Northrop Grumman and Kawasaki. The group's machining operations are ISO 9002
compliant and DI-9000A Boeing approved, qualifying it to perform work for most
aerospace, medical equipment and general electronics companies. The U.S.
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Aerospace Group also has machining capabilities at its Entiat and Tacoma,
Washington facilities to support its Casting Division.
Fabrication Division
At its Sedro-Woolley, Washington facility, the U.S. Aerospace Group's
Fabrication Division fabricates component parts, completed assemblies and
tooling, and fully manufactured industrial products, such as heavy duty mobile
transporters for use by aircraft manufacturers in moving large sections during
the manufacturing process. The acquisition of this division, which occurred as
of June 1, 1999, has provided the U.S. Aerospace Group with the capacity to
produce both large-sized and heavy-gauge sheet metal components for the
aerospace industry and other industries.
Engineering Division
The U.S. Aerospace Group's Engineering Division provides comprehensive aerospace
design and related engineering services primarily for the commercial and defense
aerospace industries. These services include aircraft tool design, manufacturing
systems, machine design, systems engineering, and technical supervision. The
division also provides tools and machines for non-aerospace industries. The
Company has a number of engineers employed at its various facilities. When and
if the Company acquires Nova-Tech, the Company expects Nova-Tech to form the
core of this division. The Company has signed a letter of intent to acquire
Nova-Tech, and the Company is negotiating the terms of a definitive stock
purchase agreement with Nova-Tech's shareholders. The Company expects that the
definitive stock purchase agreement will contain conditions to closing,
including receipt of a letter ruling from the Internal Revenue Service that is
necessary to permit Nova-Tech's Employee Stock Ownership Plan to sell its
Nova-Tech stock on the terms anticipated. The Company is providing services to
Nova-Tech under the terms of an Operating Agreement dated April 23, 1999.
Nova-Tech is a full service engineering firm of licensed professional engineers,
who specialize in turn-key design and build, machine designs, engineering
research and development, and total system engineering. Nova-Tech designs and
builds high productivity tools, fixtures, and machines for the aerospace
industry.
European Aerospace Group
Forming Division
At its Welwyn Garden City and Birmingham facilities in England, the European
Aerospace Group's Forming Division uses hot and cold metal forming technologies
to manufacture titanium and aluminum assemblies and details for the commercial
aerospace and defense industries. The division also performs finishing, welding,
brazing and riveting processes on these parts. Testing of products is done using
non-destructive techniques and in-house X-ray facilities. Interactive
discussions with customers enable the division to closely match component design
to the most suitable forming process.
Hot Forming of Titanium. The division's Welwyn Garden City facility specializes
in hot and super-plastic forming of titanium, and the Company believes it has
the largest independent capability in the European Union for that process.
Unlike most sheet metal materials, titanium and its alloys are extremely
difficult to form in a cold condition. To overcome this, the division has
developed a variety of hot forming processes, including hot die forming, hot
brake press forming, super-plastic forming, gas blow forming, and hot
stretch-forming. These processes maximize weight savings, maintain structural
integrity, minimize cost, and enable the designer to manipulate the developing
alloys into complex shapes. The forming equipment consists of air circulating,
low thermal mass heat treatment furnaces with temperatures up to 1,100 degrees
centigrade and related quenching facilities. The division designs the necessary
tooling using its in-house pattern facility.
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The division also has the capability to chemically mill three-dimensional
components in titanium. The division markets its hot-formed titanium products
primarily to the commercial aircraft, helicopter and military aircraft markets.
The division's titanium products include jet engine Nacelle bulkhead components,
airframe and engine details, and erosion shields for helicopters. The division's
titanium products are included on the Airbus model 320, 321, 330 and 340
aircraft, the Boeing model 717 and 737 aircraft, and the Dash 8-400 aircraft.
Cold Forming of Aluminum Alloys. At its Birmingham facility, the European
Aerospace Group's Forming Division specializes in the pressing and cold forming
of aluminum alloys used for aircraft skin panels, leading edges and acoustic
panel liners. Stretch forming is a process well suited to producing aircraft
skin panels and leading edges. Specialized equipment in the Birmingham facility
has the capability to form sheets up to 8 feet wide and up to 13 feet long, with
stretching loads of up to 700 tons being applied. Most tools are machined from
oxidation-resistant stainless steel castings, and forming dies up to four tons
can be handled. Together with specialist gripper jaws and rotational platen,
this enables the division to stretch-form aluminum alloys into a wide variety of
shapes and sizes. The division's capabilities extend from design to completion,
including tooling design and manufacture, forming, chemical milling, trimming,
assembly, and quality control. The division markets its formed aluminum alloy
products primarily to the aerospace market.
Casting Division
At its Rochester, Worcester and Sittingbourne, England facilities, the European
Aerospace Group's Casting Division manufactures aluminum investment castings and
aluminum and magnesium precision sand castings. The division is a European
leader in the production of light alloy sand and investment castings for the
commercial aerospace and defense sectors.
Precision Investment Casting. At its Worcester, England facility, the European
Aerospace Group's Casting Division manufactures aluminum investment casting
products, including aircraft and defense system components such as electronic
enclosures, aircraft engine outer guide vanes, navigation lights, wing tip
fences, winglet components, duct stators, and heads up display units. At its
Rochester, England facility, the division manufactures aircraft components such
as pressure tight fuel connectors. The versatility, accuracy and replicability
of the investment casting process provides many advantages over more traditional
methods of machining and fabricating metal products from solid components. The
investment casting process uses a metal die manufactured to required
specifications. The division's precision tooling capabilities permit production
of metal dies that incorporate a variety of details and features. A die can be
reused to produce the required number of parts without degradation to the
original die. The division's production of the die gives the customer an
incentive to order additional units of the part from the Company.
Sophia Process Investment Casting. At its Worcester, England facility, the
European Aerospace Group's Casting Division uses the computerized "Sophia
Process" to manufacture significantly larger, more complex castings than can be
made as a single part using more traditional investment casting processes. Using
this technology, the division can produce components up to 1.3 cubic meters in
one piece. The European Aerospace Group is one of only four licensees of the
Sophia Process, and is licensed to make and sell metal castings in the United
Kingdom, Ireland, Australia, New Zealand and certain African and Asian
countries. Parts made with the Sophia Process have relatively thin wall
thickness but have strength and ductility values comparable to fabricated,
forged and machined solid components. The Sophia Process stringently controls
the heat level and process parameters to make lighter but stronger components
that resist fracture and fatigue. The process reduces machining, fabrication and
assembly costs by eliminating both doublers at material interfaces and the
weakness and stress associated with riveted assemblies. The division uses high
strength alloys with good castability to ensure that the integrity and enhanced
properties from one casting are identical to the next, and to achieve the
desired combination of tensile strength, ductility
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and elongation. Parts made with the Sophia Process are used for the commercial
aerospace, defense and transportation industries. Such applications include
civil aircraft, military aircraft, missiles and underwater weapons applications
and applications for the motorsport industry. The European Aerospace Group is
using the Sophia Process to produce components for the Airbus A320, A330 and
A340 aircraft, such as navigation light housings and wing tip fences, as a
single part.
Sand Casting. At its Sittingbourne, England facility, the European Aerospace
Group's Casting Division manufactures aluminum and magnesium alloy precision
sand castings, including machined and finished parts for the commercial
aerospace, defense and motorsport industries. Sand casting is suitable for
products that are larger than typical investment casting parts. It is also
suitable for products that require heavy wall sections. These products include
aircraft engine heat exchangers and air intakes, aircraft engine fuel pump
housings, aircraft windscreen canopies, and high performance motorsport engine
components and gearboxes. For such customer requirements, sand casting provides
an effective method of producing components with strength and uniformity. The
division has made significant advances in both the process and materials
technology for magnesium and aluminum sand castings. The division engineers
patterns utilizing computer assisted design technologies to achieve repeatable
high casting integrity and enhanced mechanical properties. The division has
complete non-destructive testing and inspection facilities, such as dye
penetrant flaw detection and X-ray testing of components, as required by the
rigorous standards of the aerospace industry.
Machining. The European Aerospace Group also has a sophisticated machining
center that supports the group's casting and forming operations. The group's
machining facility has the technical capabilities to provide the range of
machining services for complete production and finishing of components,
including design, pattern production, casting and final machining of a
component. The machining facility also performs specialized machining of small
detail components in steel and titanium.
U.S. Electronics Group
The Company's U.S. Electronics Group develops, manufactures and markets a wide
array of complex hermetically-sealed electronic connectors and assemblies,
ceramic capacitors and filters, relays and solenoids, and flat panel display
units. These products are used for specialized applications in the aerospace,
defense, telecommunications, energy, medical, and electronics industries. Many
of these products involve sealing and encapsulation of electronic components and
are specifically engineered to withstand degradation or destruction in harsh
environments, such as the ocean, space and the human body. These environments
experience extremes in temperature, pressure, corrosiveness and impact that can
make product repair or replacement difficult or impossible. To meet the demands
of these challenging applications, the Company has developed or acquired
numerous patents and many proprietary processes.
Interconnect Division
At its facility in Wenatchee, Washington, the U.S. Electronics Group's
Interconnect Division designs and manufactures hermetically sealed electronic
connectors, feedthroughs, assemblies and instrument packages. Electronics must
be hermetically sealed when used in locations where the external environment can
penetrate the unit. One of the division's product lines, which until July 1999
was manufactured in Butler, New Jersey, uses a cost-effective, traditional
glass-to-metal seal, which provides an effective seal in less demanding
environments. This technology is used for products such as waveguide windows and
certain types of electronic feedthroughs. The division's second line of
hermetically sealed products use a more expensive, proprietary ceramic sealant,
called Kryoflex(R). The Kryoflex sealant is used in products that must withstand
extremely invasive environments, such as satellite and weapons systems,
implantable medical devices, down-hole oil
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drilling tools, and the fiber optic connectors used on the International Space
Station. Kryoflex has several formula variations, which make it compatible with
many different metal alloys. Both the glass seal and the ceramic seal products
are manufactured to customer specifications using the division's engineering and
design expertise, metallurgical and ceramic analysis capabilities, ceramics
formulation, laser welding, and production processes. The connectors' packages
and assemblies are formed on the division's machining centers, CNC lathes, Swiss
screw machines, vacuum brazing furnaces, and CNC-controlled laser welding
machines. The division also has the capacity to electroplate and chemically film
its products. The division also manufactures hermetically bonded products using
the Company's proprietary ceramic adhesive. This ceramic adhesive bonds metals
that will not normally bond, such as copper and stainless steel. When combined
with the U.S. Electronics Group's explosive bonding technology, the resulting
component is nearly as light as aluminum, making it the preferred product where
weight minimization is important, such as in space applications. The Company
also holds patents in metal matrix composite technology, which the Company
believes will allow it to produce even lighter, more durable electronics
packages in the future.
Filter Division
At its facility in Wenatchee, Washington, the U.S. Electronics Group's Filter
Division designs and manufactures very small, specialized multilayer discoidal
(round) ceramic capacitors and filters. These products are advanced electronic
circuit filtering devices designed to filter out electromagnetic interference
("EMI") and other undesirable electrical signals that pose significant problems
for the manufacturers and users of high-performance, high-reliability electronic
systems operating in harsh environments. The division's products include mini
screw-in filters for telecommunications, aerospace and defense applications,
ring laser gyros, commercial eyelets for IFF (identification friend or foe)
systems and satellite amplifiers, high reliability bolt configurations for the
space shuttle's main engine controllers, filter pins, custom filter assemblies,
and broad band filters for military display systems. The division produces the
smallest discoidal filter in the industry. The division is an approved supplier
of EMI devices to most aerospace and defense contractors, and the U.S.
Electronics Group uses these filters in its own hermetically sealed electronic
products. The division has a self-contained facility with plating, Swiss
turning, assembly, and product testing capabilities, and has received a number
of military and industry qualification ratings.
Bonded Metals Division
At its facility in Sequim, Washington, the U.S. Electronics Group's Bonded
Metals Division bonds similar and dissimilar metals, using an explosive
metallurgical welding technology. Using this technology, an explosive charge
permanently fuses metals, many of which would otherwise be incompatible, such as
aluminum and stainless steel. The result is a strong but lightweight metal that
can be machined and welded into complex assemblies. The division finishes the
metals to the customer's specifications using milling, welding, lathe and
rolling techniques, and tests the finished products in its metallurgical lab
using non-destructive testing such as dye penetration and ultrasonic scanning.
The division also uses its explosive technology to shock-harden metals for use
in applications where extremely high tensile strength is required, such as rail
track intersections and switch components, and to pressure form complex metal
parts. The division's explosively bonded metals are used by the U.S. Electronics
Group and other customers in the aerospace, defense, energy, medical, and marine
industries. Explosively bonded metals are used to fabricate products for highly
specialized applications such as satellites, aircraft and missiles, where weight
minimization is a critical factor. The metals are also used for products such as
oil drill heads, aircraft engine heat exchange tubes, flanges, and feedthroughs
for nuclear particle accelerators, where strength at high temperature and heat
dissipation are critical, and for products such as naval interfaces and
structures, where galvanic corrosion resistance is a requirement.
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Display Technology Division
Relays and Solenoids. At its facility in Vancouver, Washington, the U.S.
Electronics Group's Display Technology Division designs, manufactures and
markets electromechanical devices, such as relays, solenoids, sensors,
electronic assemblies, actuators, and time delays used in a wide variety of
satellite, aircraft and military hardware applications. These high reliability
but low power switches use only one to ten amperes, making them suitable for
applications such as satellite power bus controllers and aircraft fuel control
valves, and they have been used in many space vehicles launched by the United
States and European countries. The division has specialized equipment for CNC
milling, turning and welding that is used for producing these products.
Flat Panel Displays. The division also designs and manufactures ruggedized,
optically enhanced liquid crystal displays and optical filters. These displays
allow users to view the image at a much higher resolution than standard
commercial units. The division's flat panel display product is an extended
temperature commercial liquid crystal display sandwiched between specialized
layers of glass and optical filters in the front, heating and cooling units, and
a computerized optical enhancer, in the back. The entire unit is mounted in a
heavy-duty housing. The flat panel display is used for high ambient light
commercial applications that range from GPS displays and light control filters
used on private and commercial aircraft to ground vehicle displays and automatic
teller machine displays.
Sales and Marketing; Distribution
The Company markets its products using a combination of direct sales and outside
sales representatives. In addition, the Company maintains internal customer
service staff and engineering capabilities to provide technical support to
customers. The Company is consolidating marketing efforts within its operating
groups and expanding its direct sales forces. Currently, the U.S. Aerospace
Group relies primarily on its direct sales force, but the group also maintains a
sales representative network for sales in specific markets and geographic areas.
The European Aerospace Group utilizes its own employee sales force for sales of
its products to customers in the United Kingdom. This internal sales force is
organized into two groups, one group responsible for sales of precision castings
and one group responsible for metal formed products. The European Aerospace
Group also uses independent agents to market its products to customers in
countries other than the United Kingdom. The U.S. Electronics Group markets its
products in the United States, Europe and Asia through a network of manufacturer
representatives and resellers, generally established on a geographic basis. The
Company believes that it has the opportunity to leverage customer relationships
to supply more complete systems by providing products that combine the
technologies and manufacturing abilities of its different groups. Consequently,
the Company is emphasizing cross-selling efforts between its operating groups.
Customers
The Company's top ten customers in terms of revenues during fiscal 1999 were
Boeing, PACCAR, Rolls-Royce, British Aerospace, Aermacchi, Lucas Aerospace,
Northrop Grumman, Raytheon, Honeywell, and Northern Telecom. Only the first four
of the top ten customers accounted for 5% or more of the Company's revenues,
with Boeing at approximately 13%, PACCAR at approximately 8%, Rolls-Royce at
approximately 7%, and British Aerospace at approximately 5%. Together, the top
ten customers accounted for approximately 47% of the Company's sales during
fiscal 1999, and no other customer accounted for more than 2% of the Company's
revenues. Because of the relatively small number of customers for most of the
Company's products, the Company's largest customers can influence product
pricing and other terms of trade. The loss of
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any of the Company's largest customers or reduced or canceled orders from those
customers could have a material adverse effect on the Company and its financial
performance.
The Company's U.S. Aerospace and European Aerospace Groups currently serve
substantially different customer bases in similar markets. For example, the U.S.
Aerospace Group supplies components and parts to Boeing for each of Boeing's
737, 747, 757, 767 and 777 commercial aircraft construction programs. The
European Aerospace Group supplies components and parts for each of Airbus'
A300/310, A320 and A330/340 commercial aircraft construction programs. The
Company's sales are currently divided approximately equally between the United
States and Europe. One of the Company's goals is to take advantage of its
position in both the United States and European markets to provide access for
its U.S. groups to customers in Europe, and access for its European group to
customers in the U.S., which they might not otherwise be able to serve.
Consequently, the Company is emphasizing cross-marketing efforts between its
European and U.S. groups.
Backlog
The majority of the Company's sales are made pursuant to individual purchase
orders and are subject to termination by the customer upon payment of the cost
of work in process plus a related profit factor. Historically, the Company has
experienced no significant order cancellations. As of May 31, 1999, the Company
had purchase orders and contractual arrangements evidencing anticipated future
deliveries ("backlog") through fiscal year 2001 of approximately $100 million,
of which approximately $80 million is expected to be delivered in fiscal year
2000. As of May 31, 1998, the Company had backlog through fiscal year 2000 of
approximately $100 million. There is no assurance that backlog will be completed
and booked as net sales. Cancellations of pending contracts or terminations or
reductions of contracts in progress could have a material adverse effect on the
Company and its financial performance.
Competition
The Company is subject to substantial competition in many of the markets that it
serves. In the hot forming market, the Company's competitors include Die Barnes
Group Inc. and GKN Westland Aerospace (North America). In the cold forming
market, the Company competes with companies such as AHF and Pendle, as well as
the in-house cold forming capabilities of certain of its customers, including
British Aerospace. In the sand casting market, the Company competes with a
number of West Coast and Midwest foundries, including ConMetco in Oregon and
North Carolina, Production Pattern in California, Progress Foundry in Minnesota,
and Wellman Dynamics in Iowa. The Company's competitors in the European sand
casting market include SFU, Stones, Haleys, Hitchcock, and Teledyne. In the
investment casting market, the Company's competitors include the Cercast Group,
Tital and Tritech. In the precision machining market, the Company competes with
a number of regional machine shops. In the electronics markets, the Company's
competitors include Amphenol Corporation, Hermetic Seal Corporation, AVX
Corporation, Spectrum Control, Inc., and Electronics Design and Communications
Instruments. Many of these competitors have greater financial resources, broader
experience, better name recognition and more substantial marketing operations
than the Company, and represent substantial long-term competition for the
Company.
Components and products similar to those made by the Company can be made by
competitors using a number of different manufacturing processes. The Company
believes that its manufacturing processes, proprietary technologies, and
experience provide significant advantages to the Company's customers, such as
high quality, more complete solutions, competitive prices, and physical
properties that must meet stringent demands. However, alternative forms of
manufacturing can be used to produce many of the components and products made by
the
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Company. In addition, new developments by competitors are expected to continue,
and the Company's competitors could develop products that are viewed by
customers as more effective or more economical than the Company's product lines.
The Company may not be able to compete successfully against current and future
competitors, and the competitive pressures faced by the Company could have a
material adverse effect on the Company and its financial performance.
Raw Materials
The European Aerospace Group obtains approximately 70% of its titanium from one
supplier and is subject to a lead time of approximately 65 weeks in ordering and
obtaining titanium. While the European Aerospace Group generally has managed the
ordering process to obtain titanium when needed, a labor strike at the supplier
negatively affected the group's ability to obtain timely deliveries of titanium
during fiscal 1999. Although the shortage of titanium did not have a material
adverse effect on the European Aerospace Group's business or on the financial
condition of the Company, some business was lost due to customers' dual sourcing
contracts, and some customer orders that were expected to be delivered in fiscal
1999 were delayed into fiscal 2000. The effect of the strike emphasizes the fact
that a failure of the Company to obtain titanium or other raw materials when
needed, or significant cost increases imposed by suppliers of raw materials such
as titanium or aluminum, could have a material adverse effect on the Company and
its financial performance. The Company generally has readily available sources
of all raw materials and supplies it needs to manufacture its products and,
where possible, the Company maintains alternate sources of supply. However, the
Company does not have fixed price contracts or arrangements for all of the raw
materials and other supplies it purchases. Shortages of, or price increases for,
certain raw materials and supplies used by the Company have occurred in the past
and may occur in the future. Future shortages or price fluctuations could have a
material adverse effect on the Company's ability to manufacture and sell its
products in a timely and cost-effective manner.
Proprietary Rights
Significant aspects of the Company's business depend on proprietary processes,
know-how and other technology that are not subject to patent protection. The
Company relies on a combination of trade secret, copyright and trademark laws,
confidentiality procedures, and other intellectual property protection to
protect its proprietary technology. However, there is no assurance that the
Company's competitors may not develop or utilize technology that is the same as
or similar to such technology of the Company.
The Company has 32 U.S. patents, eight U.S. patent applications pending, two PCT
International patent applications pending, one Canadian patent application
pending, and one European patent enforceable in the U.K., most of which pertain
to the U.S. Electronics Group. In addition, the European Aerospace Group has one
patent application pending in several jurisdictions. There is no assurance that
any of the patent applications will result in issued patents, that existing
patents or any future patents will give the Company any competitive advantages
for its products or technology, or that, if challenged, these patents will be
held valid and enforceable. Most of the Company's issued patents expire at
various times over the next 15 years, with 16 patents expiring over the next
five years. Although the Company believes that the manufacturing processes of
much of its patented technology are sufficiently complex that competing products
made with the same technology are unlikely, there is no assurance that the
Company's competitors will not design competing products using the same or
similar technology after these patents have expired.
Despite the precautions taken by the Company, unauthorized parties may attempt
to copy aspects of the Company's products or obtain and use information that the
Company regards as proprietary. Existing intellectual property laws give only
limited protection with respect to such actions, and policing violations of such
laws is difficult. The laws of certain countries in which the Company's
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products are or may be distributed do not protect products and intellectual
property rights to the same extent as do the laws of the United States. The
Company could be required to enter into costly litigation to enforce its
intellectual property rights or to defend infringement claims by others. Such
infringement claims could require the Company to license the intellectual
property rights of third parties. There is no assurance that such licenses would
be available on reasonable terms, or at all.
Environmental Matters
The Company's facilities are subject to governmental laws and regulations
concerning solid waste disposal, hazardous materials generation, storage, use
and disposal, air emissions, waste water discharge, employee health and other
environmental matters (together, "Environmental Laws"). Proper waste disposal
and environmental regulation are major considerations for the Company because a
number of the metals, chemicals and other materials used in and resulting from
its manufacturing processes are classified as hazardous substances and hazardous
wastes. If permitting and other requirements of applicable Environmental Laws
are not met, the Company could be liable for damages and for the costs of
remedial actions and could also be subject to fines or other penalties,
including revocation of permits needed to conduct its business. Any permit
revocation could require the Company to cease or limit production at one or more
of its facilities, which could have a material adverse effect on the Company and
its financial performance. The Company has an ongoing program of monitoring and
addressing environmental matters, and from time to time in the ordinary course
of business is required to address minor issues of noncompliance at its
operating sites. Recently, the Company identified certain operations or
processes that lacked required permits or otherwise are not in full compliance
with applicable Environmental Laws. Although the Company believes these items
are not material, the Company is taking steps to remedy any noncompliance.
Environmental Laws could become more stringent over time, imposing greater
compliance costs and increasing risks and penalties associated with any
violations. As a generator of hazardous materials, the Company is subject to
financial exposure with regard to its properties even if it fully complies with
these laws. In addition, certain of the Company's facilities are located in
industrial areas and have lengthy operating histories. As a consequence, it is
possible that historical or neighboring activities have affected properties
currently owned by the Company and that, as a result, additional environmental
issues may arise in the future, the precise nature of which the Company cannot
now predict. There is no assurance that any present or future noncompliance with
Environmental Laws or future discovery of contamination will not have a material
adverse effect on the Company's results of operations or financial condition.
Government Regulation
Certain of the Company's products are manufactured and sold under United States
government contracts or subcontracts. As with all companies that provide
products or services to the United States government, the Company is directly
and indirectly subject to various federal rules, regulations and orders
applicable to government contractors. Some of these regulations relate
specifically to the vendor-vendee relationship with the government, such as the
bidding and pricing rules. Under regulations of this type, the Company must
observe certain pricing restrictions, produce and maintain detailed accounting
data, and meet various other requirements. The Company is also subject to many
regulations affecting the conduct of its business generally. For example, in the
United States the Company must adhere to federal acquisition requirements and
standards established by the Occupational Safety and Health Act relating to
labor practices and occupational safety standards. The Company is currently
updating and implementing written policies and training programs relating to
employee health and safety matters at several of its facilities. Violation of
applicable government rules and regulations could result in civil liability, in
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cancellation or suspension of existing contracts, or in ineligibility for future
contracts or subcontracts funded in whole or in part with federal funds. In
addition, some of the Company's customers are in the defense industry, and loss
of governmental certification by such customers could have a material adverse
effect on their purchases from the Company and the Company's business and
financial performance.
Employees
As of May 31, 1999, the Company had approximately 1,157 employees, of whom
approximately 1,035 were engaged in manufacturing functions, 38 in sales and
marketing functions, 74 in administrative functions, and 10 in executive
functions. Of the employees, approximately 283 were employed by the U.S.
Aerospace Group, 573 by the European Aerospace Group, 289 by the U.S.
Electronics Group, and 12 by Corporate. None of the Company's workforce in the
United States is unionized. In March 1999, employees at the U.S. Aerospace
Group's Casting Division voted against representation by the Teamsters Union.
Certain of the European Aerospace Group's manufacturing and engineering
employees are represented by labor unions, although all negotiations are carried
out through employee work committees. The Company has not experienced any work
stoppages, and it believes that its relationships with its employees are good.
Risk Factors
Acquisition Risks. The Company has pursued an aggressive growth strategy and
expects to continue to evaluate and pursue potential strategic acquisitions. The
success of this strategy depends upon the Company's ability to manage the risks
associated with acquisitions. These risks include:
o the ability of the Company to assess the value, strengths and
weaknesses of acquisition candidates accurately,
o the Company's effectiveness in implementing necessary changes at newly
acquired subsidiaries,
o possible diversion of management attention from the Company's
operations, and
o possible increased borrowings, disruption of product development
cycles and dilution of earnings per share.
The Company has recently incurred substantial losses in connection with its
acquisition of Electronic Specialty Corporation, and its investment in Orca
Technologies, Inc. The size of the Company's European Aerospace Group, which was
acquired in July 1998, will cause it to have a significant impact on the
Company's future financial results. If the Company fails to manage these or
other acquisition risks, there could be a material adverse effect on the Company
and its financial performance. See "- Strategies - Pursue Strategic
Acquisitions," and "Management's Discussion and Analysis of Financial Condition
and Results of Operations - Significant Events Electronic Specialty Corporation
Settlement" and "- Orca Technologies, Inc."
Management of Growth. The Company has experienced rapid growth from both
operations and acquisitions. This growth has placed and will continue to place
significant demands on the Company's managerial, administrative, financial and
operational resources. For example, both the Company's total number of employees
and the number of its operating sites nearly doubled as a result of the Aeromet
acquisition. The Company's operating divisions have had different accounting
systems, which the Company has integrated or has plans to integrate. As the
Company grows and becomes more complex, an increasing level of diligence in its
business decisions will be necessary to comply with regulatory and accounting
requirements. To manage its growth effectively, the Company must continue to
improve its operational, accounting, financial and other
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management processes and systems, and must continue to attract and retain highly
skilled management and technical personnel. See "- Strategies."
Significant Debt. The Company incurred substantial debt and payment obligations
in order to finance the Aeromet acquisition and ongoing operations. This debt
could have important consequences, such as:
o making the Company unable to obtain additional financing in the
future,
o diverting a significant portion of the Company's cash flow to
principal and interest payments and away from operations, acquisitions
and capital expenditures,
o increasing the Company's interest expense, and decreasing the
Company's net income,
o putting the Company at a competitive disadvantage in relation to
competitors with less debt, or
o limiting the Company's flexibility in adjusting to downturns in its
business or market conditions.
Ability to Make Debt Payments. The Company's future financial and operating
performance will affect its ability to make payments on its debt. Since the
Company's performance is affected by many factors, some of which are beyond its
control, there is no assurance that the Company will have sufficient cash flow
to make its debt payments when scheduled, or at all. If the Company did not have
sufficient cash flow to make its debt payments, the Company could be forced to:
o reduce or delay capital expenditures,
o dispose of material assets or operations, potentially at a loss,
o restructure or refinance its debt at potentially higher rates of
interest, or
o seek additional equity capital, which could dilute the value of the
shares held by the Company's existing shareholders.
There is no assurance that the Company would be able to achieve any of these
actions on satisfactory terms or at all. In addition, if the Company were unable
to repay its secured debt, the Company's secured lenders could proceed against
any collateral securing that debt.
Restrictive Debt Covenants. The Company is subject to a number of significant
covenants under some of the agreements governing its debt. Those covenants
restrict a number of corporate activities, including the ability of the Company
to:
o dispose of or create liens on assets,
o incur additional indebtedness,
o prepay or amend certain debt,
o pay dividends or repurchase stock,
o enter into sale and leaseback transactions,
o make investments, loans or advances,
o engage in acquisitions, mergers or consolidations,
o make capital expenditures,
o change the business conducted by the Company or its subsidiaries, or
o engage in certain transactions with affiliates.
The breach of any of these covenants could result in a default that would permit
the lenders to declare all amounts owed by the Company to be immediately due and
payable. As a result, the Company's lenders might terminate their commitments to
extend further credit to the Company. In addition, if there is a change of
control of the Company, the Company may be required to repay its
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debt. Any of these events could have a material adverse effect on the Company
and its financial performance.
Possible Need for Additional Capital. The Company believes that its existing
cash and credit facilities will be sufficient to meet the Company's currently
budgeted working capital requirements for at least the next 12 months. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources." The Company's actual capital
needs, however, will depend on many unpredictable factors, including:
o actual revenue generated from operations,
o interest due on the Company's variable rate debt,
o capital expenditures required to remain competitive, and
o cash required for acquired companies, future acquisitions, and
financing transaction costs.
As a result of these factors, the Company is unable to predict accurately the
amount or timing of its future capital needs, if any. The Company's inability to
obtain additional capital if and when needed could have a material adverse
effect on its financial performance.
Year 2000. The Company is developing and carrying out a comprehensive strategy
for updating its information management and manufacturing systems for Year 2000
("Y2K") compliance. The Company's information technology ("IT") systems include
customized and standard software purchased from outside vendors. All software
has been identified and is being assessed to determine the extent of renovations
required in order to be Y2K compliant. The Company has identified significant
non-IT systems which may be impacted by the Y2K problem, including those
relating to production, processing and communication equipment and is in the
process of determining through inquiries of equipment suppliers, as well as
testing of such equipment, the extent of renovations required, if any. The
Company believes that required renovations, validation and implementations will
be completed by September 30, 1999. The Company is continuing to identify third
parties with which it has a significant relationship that, in the event of a Y2K
failure, could have a material impact on the Company's financial position or
operating results. The Company is continuing to make inquiries of these third
parties to assess their Y2K readiness. The Company expects that this process
will continue throughout the remainder of calendar 1999. Worst case Y2K
scenarios could be as insignificant as a minor interruption in production or
shipping resulting from unanticipated problems encountered in the IT systems of
the Company or any of the significant third parties with whom the Company does
business. The pervasiveness of the Y2K issue makes it likely that previously
unidentified issues will require remediation during the normal course of
business. In such a case, the Company anticipates that transactions could be
processed manually while IT and other systems are repaired and that such
interruptions would have a minor effect on the Company's operations. On the
other hand, a worst case Y2K scenario could be as catastrophic as an extended
loss of utility service resulting from interruptions at the point of power
generation, long-line transmission, or local distribution to the Company's
production facilities. Such an interruption could result in an inability to
provide products to the Company's customers, resulting in a material adverse
effect on the Company's operating results and financial position. The Company is
in the process of developing a contingency plan in the event of a catastrophic
Y2K problem and expects to have a plan in place by September 30, 1999.
Foreign Operations. Maintaining its European Aerospace Group subjects the
Company to the risks of foreign operations. These risks include:
o the Company's ability to manage operations in the United Kingdom
effectively from its Wenatchee, Washington headquarters,
19
<PAGE>
o unfavorable changes in foreign government policies, regulations,
tariffs, taxes and other trade barriers,
o exchange controls and limitations on dividends or other payments, and
o devaluations and fluctuations in currency exchange rates.
Exchange Rates. Because of its European Aerospace Group, the Company may decide
to engage in hedging transactions in order to protect the Company from losses if
the exchange rate between the U.S. dollar and the British pound sterling
changes. However, hedging transactions may not completely offset such losses.
The European Aerospace Group has a few contracts that are in European currencies
other than British pounds sterling, or in U.S. dollars. The Company believes
that the conversion of such currencies to the Euro will not have a material
adverse effect on the European Aerospace Group's business or financial
condition.
Aerospace Industry Risks; Cyclicality. The Company operates in historically
cyclical industries. The aerospace, defense and transportation industries are
sensitive to general economic conditions and have been adversely affected by
past recessions. In past years, the aerospace industry has been adversely
affected by a number of factors, including increased fuel and labor costs, and
intense price competition. Recently, the commercial aircraft industry has
experienced a downturn in the rate of its growth due to changing economic
conditions and as a result of the ongoing financial crisis in Asia, which has
caused reduction in production rates for some commercial airline programs.
Additional cancellations or delays in aircraft orders from Asian customers of
Boeing or Airbus could reduce demand for the Company's products and could have a
material adverse effect on the Company's business and financial performance.
There is no assurance that this trend will not continue or that general economic
conditions will not lead to a downturn in demand for core products of the
Company. See "- Industry Overview."
Dependence on Key Management and Technical Personnel. The Company believes that
its ability to successfully implement its business strategy and to operate
profitably depends significantly on the continued employment of its senior
management team, led by its president, Donald A. Wright, and its significant
technical personnel. The Company has key man life insurance policies on the life
of Mr. Wright totaling $8 million. The Company's business and financial results
could be materially adversely affected if Mr. Wright, other members of the
senior management team, or significant technical personnel become unable or
unwilling to continue in their present employment. In addition, the Company's
growth and future success will depend in large part on its ability to retain and
attract additional board members, senior managers and highly skilled technical
personnel. Competition for such individuals is intense, and there is no
assurance that the Company will be successful in attracting and retaining them.
The Company's failure to do so could have a material adverse effect on the
Company's business and financial performance.
Technological Change; Development of New Products. The market for the Company's
products is characterized by evolving technology and industry standards, changes
in customer needs, adaptation of products to customer needs, and new product
introductions. The Company's competitors from time to time may announce new
products, enhancements, or technologies that have the potential to replace or
render the Company's existing products obsolete. The Company's success will
depend on its ability to:
o enhance its current products and develop new products to meet changing
customer needs, and achieve market acceptance of such products, and
o anticipate or respond to evolving industry standards and other
technological changes on a timely and cost-effective basis.
20
<PAGE>
The Company's failure to do so, or any significant delay, could have a material
adverse effect on the Company's business and financial performance.
Product Liability. The Company is subject to the risk of product liability
claims and lawsuits for harm caused by its products. The Company maintains
product liability insurance with a maximum coverage of $2 million. However,
there is no assurance that this insurance will be sufficient to cover any claims
that may arise. A successful product liability claim in excess of the Company's
insurance coverage could have a material adverse effect on the Company's
business and financial performance.
21
<PAGE>
ITEM 2. DESCRIPTION OF PROPERTY
The principal executive and administrative offices of the Company are located at
430 Olds Station Road, Wenatchee, Washington. The Company's headquarters
building provides approximately 18,000 square feet of office space, and is owned
by the Company. The Company also leases office facilities in (a) Edmonds,
Washington, for administrative offices of approximately 1,800 square feet, for a
base rent of $3,187 per month, subject to annual adjustment, under a lease that
expires in 2001, and (b) Bothell, Washington, of approximately 21,390 square
feet, for base rent of $295,000 per year, subject to annual adjustment, under a
lease that expires in 2003. The Company subleases the Bothell facility to a
third party and guarantees payment of the sublease. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Significant
Events - Orca Technologies, Inc."
The location, use and approximate size of the Company's principal owned and
leased manufacturing properties are as follows:
<TABLE>
<CAPTION>
Approx. Own/ Annual Lease Mortgage
Group Location Area Lease Rent Expiration Balance
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
U.S. Wenatchee, Washington 42,000 Lease $ 199,000 2007 N/A
Aerospace ---------------------------------------------------------------------------------------------
Entiat, Washington 84,000 Own N/A N/A $1,108,000
---------------------------------------------------------------------------------------------
Tacoma, Washington 21,700 Lease $ 78,000 2008 N/A
---------------------------------------------------------------------------------------------
Sedro-Woolley, Washington 94,600 Lease $ 374,000 2003 N/A
---------------------------------------------------------------------------------------------
Wenatchee, Washington 41,400 Lease $ 147,000 2001 N/A
- ------------------------------------------------------------------------------------------------------------
European Sittingbourne, Welwyn
Aerospace Garden City and Worcester 157,000 Lease (pound)751,000 2018 N/A
---------------------------------------------------------------------------------------------
Worcester 15,000 Lease (pound) 45,000 2003 N/A
---------------------------------------------------------------------------------------------
Rochester 34,000 Lease (pound)180,000 2001 N/A
---------------------------------------------------------------------------------------------
Birmingham 59,000 Lease (pound)236,000 2008 N/A
---------------------------------------------------------------------------------------------
Sittingbourne 7,000 Lease (pound) 45,000 2005 N/A
- ------------------------------------------------------------------------------------------------------------
U.S. Wenatchee, Washington 49,000 Lease $ 240,000 2007 N/A
Electronics ---------------------------------------------------------------------------------------------
Sequim, Washington 18,355 Own N/A N/A None
---------------------------------------------------------------------------------------------
Butler, New Jersey 30,000 Own N/A N/A None
---------------------------------------------------------------------------------------------
Vancouver, Washington 50,000 Lease $ 336,000 2009 N/A
- ------------------------------------------------------------------------------------------------------------
</TABLE>
In July 1999, the Company moved the New Jersey operations of its Interconnect
Division to Wenatchee, Washington. The Company has engaged a real estate broker
to sell or lease the Butler, New Jersey property listed above.
In connection with the Aeromet acquisition, the Company entered into a 12-month
option to purchase the Sittingbourne, Worcester and Welwyn Garden City
facilities that are being leased by Aeromet, for a purchase price of
approximately $12.5 million in cash. The Company did not elect to exercise this
option.
In January 1999, the Company executed an agreement with the Port of Chelan
County, Washington, giving the Company an option to purchase three parcels of
land at or adjacent to its Wenatchee campus for a total of $5.4 million. The
Company purchased the first parcel, for property adjacent to its Wenatchee
campus, for $853,000 in cash, on February 2, 1999. If the Company exercises its
options to purchase both of the remaining two parcels, the purchase of the
second parcel would be expected to close in December 2000 and the third would be
expected to close in August 2001.
22
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
From time to time the Company is involved in legal proceedings relating to
claims arising out of operations in the normal course of business. The Company
is not aware of any material legal proceedings pending or threatened against the
Company or any of its properties.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the fourth quarter
of the fiscal year covered by this report.
23
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
Market Information, Shareholders, and Dividends
Until March 13, 1995, there was no public market for the Company's Common Stock.
From that date through September 14, 1995, the Common Stock was listed on the
Nasdaq Electronic Bulletin Board. From September 15, 1995 through July 15, 1996,
the Common Stock was traded on the Nasdaq Small Cap Market System under the
symbol "PCTH." Since July 16, 1996, the Company's Common Stock and Common Stock
Purchase Warrants ("Warrants") have been traded on the Nasdaq National Market
System under the symbols "PCTH" for the Common Stock and "PCTHW" for the
Warrants. Each Warrant entitles the holder to purchase one share of Common Stock
at an exercise price of $4.6875 per share.
The Nasdaq National Market System reported the following range of high and low
sales prices for the Common Stock and the Warrants for each calendar quarter
during the period from January 1, 1997 through May 31, 1999, which covers all of
the calendar quarters within the Company's 1998 and 1999 fiscal years:
<TABLE>
<CAPTION>
Common Stock Warrants
Calendar Period High Low High Low
<S> <C> <C> <C> <C>
1997
First Quarter $ 4.7500 $ 2.7500 $ 1.4063 $ .5000
Second Quarter 4.0625 2.6875 1.1875 .7188
Third Quarter 5.0625 3.7188 2.2500 1.2500
Fourth Quarter 6.8750 4.0000 2.7500 1.5000
1998
First Quarter 7.0313 4.1875 3.1250 1.1250
Second Quarter 6.9375 5.3125 3.0000 2.3750
Third Quarter 7.0000 2.7813 3.0000 1.0000
Fourth Quarter 3.0000 1.4375 1.0625 0.5000
1999
First Quarter 2.9688 1.6875 0.8750 0.3438
Second Quarter (April 1 - May 31, 1999) 2.1875 1.5000 0.5625 0.3750
</TABLE>
As of August 24, 1999, the closing sales price on the Nasdaq National Market
System for the Common Stock was $1.50 per share, and the closing sales price on
the Nasdaq National Market System for the Warrants was $0.50 per Warrant.
The Company has never declared or paid cash dividends on the Common Stock. The
Company currently anticipates that it will retain all future earnings to fund
the operation of its business and does not anticipate paying dividends on the
Common Stock in the foreseeable future. The Company's agreements with its
principal lender and the Indenture restrict the Company's ability to pay
dividends.
Common Stock
As of August 24, 1999, there were 1,013 holders of record of 19,253,331 shares
of fully paid and nonassessable Common Stock outstanding. The number of holders
is based on the Common Stock records maintained by the Company's transfer agent.
Each share of outstanding Common Stock is entitled to participate equally in
dividends as and when declared by the Board of Directors of the Company, out of
funds legally available therefor, and is entitled to participate equally in any
distribution of net assets made to the Company's common shareholders in the
event of liquidation of
24
<PAGE>
the Company after payment to all creditors thereof. There are no preemptive
rights or rights to convert Common Stock into any other securities. The holders
of the Common Stock are entitled to one vote for each share held of record on
all matters voted upon by the Company's shareholders and may not cumulate votes
for the election of directors. Thus, the owners of a majority of the shares of
the Common Stock outstanding may elect all of the directors of the Company and
the owners of the balance of the shares of the Common Stock would not be able to
elect any directors of the Company.
Preferred Stock
The Company's Board of Directors has the authority to issue shares of Preferred
Stock in one or more series and to fix the powers, designations, preferences and
relative, participating, optional or other rights of any series of preferred
stock, including dividend rights, conversion rights, voting rights, redemption
terms, liquidation preferences, sinking fund terms and the number of shares
constituting any series, without shareholder approval, unless such approval is
required by applicable law or by the rules of any stock exchange or automated
quotation system on which securities of the Company may be listed or traded.
Series A Convertible Preferred Stock
In February 1997, the Board of Directors authorized the issuance of 50,000
shares of the Company's Series A Convertible Preferred Stock, which were sold to
a limited number of institutional investors under Rule 506 of the Securities
Act. Effective as of June 11, 1997, the Company registered for resale up to
1,948,541 shares of Common Stock underlying the Series A Convertible Preferred
Stock on a Form S-3 registration statement. As of May 14, 1998, all of the
Series A Convertible Preferred Stock had been converted into 1,494,593 shares of
Common Stock.
Series B Convertible Preferred Stock
Preferred Stock Offering. In May and August 1998, the Company issued a total of
170,000 shares of Series B Convertible Preferred Stock ("Preferred Stock") and
related warrants (the "Preferred Stock Warrants") to purchase 236,109 shares of
Common Stock, for a total price of $17 million. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Significant Events -
Preferred Stock Offering."
Redemption. The Company may redeem the Preferred Stock at a redemption price of
$115 per share upon 20-days notice to the holder if the holder does not elect to
convert within 15 days of receiving a redemption notice. The Company must either
redeem any Preferred Stock that it is not permitted to convert without
shareholder approval under Nasdaq requirements or obtain shareholder approval
for such conversion. If the Company's senior lender requires, any redemption
price, or other cash payments due to the holders, must be converted into
promissory notes in favor of the holder until conversion or redemption is
allowed to occur. The Indenture restricts the ability of the Company to
repurchase its capital stock.
Conversion Shares. Upon conversion of a share of Preferred Stock, the holder
will receive the number of shares of Common Stock equal to $100 divided by the
then-applicable conversion price of the Preferred Stock. See "- Conversion
Price", below. However, no holder of Preferred Stock is entitled to voluntarily
convert Preferred Stock that would cause the holder to own more than 9.9% of the
Company's outstanding Common Stock at any time.
Conversion Price. The conversion price of the Preferred Stock is the lower of
(a) $7.20 per share, or (b) the average of the three lowest closing bid prices
per share of the Common Stock over the 22 trading days before conversion. The
Company cannot issue more than 3,000,000 shares of Common Stock pursuant to
conversion notices unless (1) the Company's shareholders approve the issuance of
additional shares of Common Stock over the 3,000,000 shares already reserved for
issuance (the
25
<PAGE>
"Additional Shares"), or (2) the Company redeems any Preferred Stock whose
conversion would cause the issuance of Additional Shares. The average conversion
price that would result in the issuance of 3,000,000 shares of Common Stock is
$5.67. As of August 24, 1999, 13,684 shares of Preferred Stock had been
converted into 849,614 shares of Common Stock. The Indenture restricts the
Company's ability to redeem its capital stock unless it meets certain
conditions, and the Company expects that it would request shareholder approval
to issue Additional Shares if 3,000,000 shares of Common Stock are not
sufficient to cover all of the Preferred Stock to be converted. If the Company's
shareholders approve the issuance of Additional Shares, the number of Additional
Shares actually issued would depend on the market price of the Company's Common
Stock at the time Preferred Stock is converted, and could result in the issuance
of a substantial number of Additional Shares. If (a) the Company does not redeem
the Preferred Stock whose conversion would cause the issuance of the Additional
Shares, or (b) the Company's shareholders do not approve the issuance of
Additional Shares and the Company is therefore unable to convert any of the
Preferred Stock, then the Company will incur a monthly penalty of 2% of the
Preferred Stock's liquidation preference until the Company redeems the Preferred
Stock or obtains shareholder approval to issue the Additional Shares. Any
Preferred Stock outstanding on May 15, 2003 will automatically convert into
Common Stock at the then-applicable conversion price.
Sale of Shares Issued Upon Conversion. Up to 3,000,000 shares of Common Stock
issued upon conversion of the Preferred Stock, and the 236,109 shares issuable
upon exercise of the Preferred Stock Warrants, may be sold by the holders
pursuant to a registration statement on Form S-1 that was declared effective by
the SEC on December 23, 1998, or under any applicable exemption from
registration. The Company would also register any Additional Shares for resale.
Exercise of the Preferred Stock Warrants. The Preferred Stock Warrants may be
exercised after May 15, 1999 and before their expiration on May 15, 2001. The
exercise price of the Preferred Stock Warrants is $7.20 per share of Common
Stock. The Company intends to use the proceeds from exercise of these warrants,
when and if they are exercised, primarily for working capital or other corporate
purposes.
Indemnification. The Company has agreed to indemnify the holders of the
Preferred Stock, and those holders have agreed to indemnify the Company, against
certain liabilities under the Securities Act. Insofar as indemnification for
liabilities arising under the Securities Act may be permitted to directors,
officers and controlling persons of the Company pursuant to the foregoing
provisions, or otherwise, the Company has been advised that, in the opinion of
the SEC, such indemnification is against public policy as expressed in the
Securities Act and is, therefore, unenforceable.
Warrants
As of August 24, 1999, the Company had outstanding warrants to purchase Common
Stock as follows:
o warrants to purchase 236,109 shares that (a) were issued in connection
with the Preferred Stock Offering, (b) have an exercise price of $7.20
per share, and (c) expire on May 15, 2001;
o publicly traded warrants to purchase 2,295,000 shares of Common Stock,
that (a) were issued as part of the units sold in the Company's July
1996 registered public offering ("Units"), (b) have an exercise price
of $4.6875 per share, and (c) expire in July 2001;
o warrants to purchase Units consisting of 180,000 shares of registered
Common Stock and publicly traded warrants to purchase 180,000 shares
of Common Stock, that (a) were issued to underwriters in the July 1996
public offering, (b) have an exercise price of $3.75 per Unit, and (c)
expire in July 2001; and
26
<PAGE>
o warrants to purchase a total of 247,500 shares of Common Stock issued
to several employees and consultants of the Company, that (a) have
exercise prices ranging from $2.00 to $4.80 per share, and (b)
expiration dates that range from May 2001 to February 2005.
No holder of warrants possesses any rights as a shareholder under such warrants
until exercise of such warrants. Of the shares issuable upon exercise of the
employee and consultant warrants, 160,000 shares are registered under a Form S-8
registration statement, and 87,500 shares are registered for resale under a Form
S-3 registration statement.
Registration Rights
Liviakis. 590,000 shares of restricted Common Stock held by Liviakis Financial
Communications, Inc. and Robert B. Prag have certain piggyback registration
rights that took effect in February 1999 after expiration of a lock-up period.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Significant Events - Issuance of Common Stock to Liviakis." These
piggyback registration rights are subject to certain conditions, including the
right of the Company's underwriters, if any, to limit the number of such shares
included in the registration.
Preferred Stock Offering. The Company would be obligated to register for resale
any shares of Common Stock issuable upon conversion of Preferred Stock that
would exceed 3,000,000 shares of Common Stock, if the Company's shareholders
approve such issuance.
Fall 1998 Common Stock Offering. The Company has agreed to register for resale
the 2,585,000 shares of Common Stock sold in its Fall 1998 Common Stock
Offering. However, the Company has offered to file a registration statement with
respect to those shares, and, as of August 24, 1999, the holders have not
elected to exercise their registration rights. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Significant Events -
Fall 1998 Common Stock Offering."
Anti-Takeover Laws
The Company, as a Washington corporation, is subject to certain provisions of
Washington law regarding significant business transactions and fair price
restrictions. These provisions may have the effect of delaying or deterring a
hostile takeover of the Company.
Washington's "Significant Business Transactions" statute (Chapter 23B.19 of the
Washington Business Corporation Act) applies to public companies that are
incorporated under Washington law. The statute prohibits, subject to certain
exceptions, a corporation from entering into any "significant business
transactions" with an "Acquiring Person" (defined generally as a person who or
an affiliated group that beneficially owns 10% or more of the outstanding voting
securities of a corporation) for a period of five years after such person or
affiliated group becomes an Acquiring Person unless the transaction or share
acquisition made by the Acquiring Person is approved prior to the share
acquisition by a majority of the target corporation's directors. In addition,
this statute prohibits a corporation subject thereto from entering into a
significant business transaction with an Acquiring Person unless the
consideration to be received by the corporation's shareholders in connection
with the proposed transaction satisfies the "fair price" provisions set forth in
the statute.
Transfer Agent and Registrar
The Transfer Agent and Registrar for the Company's Common Stock and publicly
traded Warrants is Interwest Transfer Co., Inc.
27
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data presents selected historical financial
data of the Company as of and for the years ended May 31, 1995, 1996, 1997,
1998, and 1999, and is derived from the Company's audited financial statements.
This data should be read in conjunction with the Company's Financial Statements
and Notes thereto, and Management's Discussion and Analysis of Financial
Condition and Results of Operations.
<TABLE>
<CAPTION>
Years Ended May 31,
-------------------------------------------------------------
(in thousands, except percentage and per share data)
1995 1996 1997 1998 1999
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Net sales(1)....................... $ 11,035 $ 20,725 $ 34,175 $ 54,099 $ 107,366
Cost of sales...................... 9,092 16,439 25,969 39,487 86,094
--------- --------- --------- --------- ---------
Gross profit....................... 1,943 4,286 8,206 14,612 21,272
Operating expenses................. 3,327 4,869 6,259 9,872 17,308
--------- --------- --------- --------- ---------
Income (loss) from operations...... (1,384) (583) 1,947 4,740 3,964
Net interest (expense)............. (282) (498) (384) (755) (8,140)
Other income (expense)............. 14 15 169 (853) (11,332)
--------- --------- --------- --------- ---------
Income (loss) before taxes......... (1,652) (1,066) 1,732 3,132 (15,508)
Income taxes benefit (expense)..... 241 67 (50) 482 2,639
--------- --------- --------- --------- ---------
Net income (loss).................. $ (1,411) $ (999) $ 1,682 $ 3,614 $ (12,869)
--------- --------- --------- --------- ---------
Net income (loss) per share:
Basic........................... (.41) (.16) .18 .29 (.74)
Diluted......................... (.41) (.16) .17 .27 (.74)
Shares used in computation of
income (loss) per share:
Basic........................... 3,469 6,209 9,500 12,486 17,359
Diluted......................... 3,469 6,209 10,036 13,606 17,359
Other Financial Data:
EBITDA(2).......................... $ (976) $ 288 $ 3,305 $ 6,944 $ 10,669
EBITDA margin(3)................... -- 1.4% 9.7% 12.8% 9.9%
Depreciation and amortization...... $ 409 $ 871 $ 1,358 $ 2,204 $ 6,705
Capital expenditures............... 959 1,293 2,739 10,290 8,281
At May 31,
-------------------------------------------------------------
(in thousands)
1995 1996 1997 1998 1999
--------- --------- --------- --------- ---------
Balance Sheet Data:
Cash and cash equivalents.......... $ 1,079 $ 725 $ 3,048 $ 11,461 $ 8,134
Working capital.................... 1,758 952 13,090 25,599 38,329
Total assets....................... 11,630 27,649 35,752 78,580 158,727
Long-term debt (including current
portion)........................ 3,902 6,404 4,233 11,233 83,410
Shareholders' equity............... 5,454 12,539 25,619 56,142 54,019
- --------------
(1) The increases in net sales are attributable to acquisitions by the Company
and internal growth. See "Description of Business" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
(2) "EBITDA" represents income (loss) from operations plus depreciation and
amortization expense. EBITDA should not be construed as an alternative to
(i) net income, as defined by generally accepted accounting principles, as
an indicator of the Company's operating performance or (ii) cash flow, as
defined by generally accepted accounting principles, as a measure of
liquidity.
(3) "EBITDA margin" represents EBITDA as a percent of net sales.
</TABLE>
28
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
- --------------------------------------------------------------------------------
This section and the "Description of Business" section of this Form 10-K contain
"forward-looking statements." These forward-looking statements are not
guarantees of the Company's future performance. They are subject to risks and
uncertainties related to business operations, some of which are beyond the
Company's control. Any of these risks or uncertainties may cause actual results
or future circumstances to differ materially from the forward-looking statements
set forth in this section under the captions "Overview" and "Liquidity and
Capital Resources," and in "Description of Business" under each of the captions
in that section.
- --------------------------------------------------------------------------------
Overview
The Company has been an active consolidator of companies, and its results of
operations have been substantially affected by acquisitions. The Company has
acquired and integrated eleven companies since 1990. See "Description of
Business - Corporate History." These acquisitions, as well as internal growth in
the Company's existing and acquired businesses, have resulted in substantial
increases in net sales. The Company's operating expenses and margins and other
expenses also have been affected by certain expenses directly associated with
the acquisitions and related capital raising transactions. The Company has
experienced substantial increases in all other expense categories as a result of
the increases in its operations. A portion of these expenses is attributable to
the assimilation of acquired operations into the Company's existing businesses.
In July 1998, the Company acquired Aeromet International PLC ("Aeromet").
Aeromet is a manufacturer of magnesium and aluminum precision sand and
investment castings, and of titanium and aluminum formed sheet products, with
five locations in England. The Aeromet acquisition has had a significant effect
on the Company's operations and on comparisons of income, expense, and balance
sheet items in periods after July 1998. The Company's financial results for
fiscal 1999 include ten months of operations of Aeromet.
Substantially all of the Company's revenues are generated by sales to customers
in the commercial aerospace, defense, electronics, and transportation
industries, with commercial aerospace and defense industry sales being the most
significant. The commercial aerospace and defense industries are cyclical in
nature and subject to changes based on general economic conditions, and on
commercial airline industry, defense and government spending. See "Description
of Business - Industry Overview" and " - Risk Factors - Aerospace Industry
Risks; Cyclicality."
The Company's operations focus on developing, manufacturing and marketing high
performance electronics and metal components and assemblies. The Company's
electronics products are characterized by relatively low volumes and high
margins. In comparison, volumes have historically been higher and margins lower
for the Company's metals products. The Company believes that margins will remain
higher for electronic and assembled products than for its metals products.
Products incorporating both electronics and metal parts are expected to generate
margins closer to electronics product margins. As a result of margin
differences, changes in product mix among its electronics, assembled and metals
products can be expected to affect overall margins for the Company.
The Company's sales are not subject to significant seasonal fluctuations.
However, production and resulting sales are subject to the number of working
days in any given period. Results for various periods may vary materially due to
the number of working days available in any period.
Management believes that the Company's operations for the periods discussed have
not been adversely affected by inflation.
29
<PAGE>
Results of Operations
For an understanding of the significant factors that influenced the Company's
performance during the past three fiscal years, the following discussion should
be read in conjunction with the consolidated financial statements of the Company
presented in this Form 10-K.
The following table sets forth for the periods indicated certain historical
statement of operations data of the Company expressed in dollars (in thousands)
and as a percentage of net sales.
<TABLE>
<CAPTION>
Years Ended May 31,
------------------------------------------------------------------------------------------------------
1995 1996 1997 1998 1999
------------------ ------------------ ------------------ ------------------ ------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net sales.................. $ 11,035 100.0% $ 20,725 100.0% $ 34,175 100.0% $ 54,099 100.0% $ 107,366 100.0%
Cost of sales.............. 9,092 82.4 16,439 79.3 25,969 76.0 39,487 73.0 86,094 80.2
------------------ ------------------ ------------------ ------------------ ------------------
Gross profit............... 1,943 17.6 4,286 20.7 8,206 24.0 14,612 27.0 21,272 19.8
Operating expenses......... 3,327 30.1 4,869 23.5 6,259 18.3 9,872 18.2 17,308 16.1
------------------ ------------------ ------------------ ------------------ ------------------
Income (loss) from
operations............... (1,384) (12.5) (583) (2.8) 1,947 5.7 4,740 8.8 3,964 3.7
Net interest expense....... (282) (2.6) (498) (2.4) (384) (1.1) (755) (1.4) (8,140) (7.6)
Other income (expense)..... 14 0.1 15 - 169 0.5 (853) (1.6) (11,332) (10.6)
Income tax benefit
(expense)................ 241 2.2 67 0.3 (50) (0.1) 482 0.9 2,639 2.5
------------------ ------------------ ------------------ ------------------ ------------------
Net income (loss).......... $ (1,411) (12.8)% $ (999) (4.9)% $ 1,682 5.0% $ 3,614 6.7% $ (12,869) (12.0)
================== ================== ================== ================== ==================
EBITDA..................... $ (976) (8.8)% $ 288 1.4% $ 3,305 9.7% $ 6,944 12.8% $ 10,669 9.9%
================== ================== ================== ================== ==================
</TABLE>
Year Ended May 31, 1999 Compared to Year Ended May 31, 1998
Net Sales. Net sales increased by $53.3 million, or 98.5%, to $107.4 million for
fiscal 1999 from $54.1 million in fiscal 1998. The significant increase in net
sales for fiscal 1999 from fiscal 1998 included a significant net sales
contribution from Aeromet ($52.8 million), and an increase in sales of
electronic products for aerospace, satellite and weapons systems (a $3.5 million
increase), offset by a decrease in commercial aerospace and transportation net
sales (a $3.0 million decrease). The commercial aerospace industry net sales
decrease was primarily attributable to decreases in production of certain
aircraft models and inventory minimization initiatives at Boeing.
The Company completed the Aeromet acquisition in July 1998. This acquisition
expanded the Company's operations to the European aerospace and defense markets,
as well as adding to the Company's core competencies in casting and forming. See
"Description of Business - Corporate History" and "- Products, Processes and
Markets - European Aerospace Group." Accordingly, net sales for fiscal 1999
included ten months of operations of Aeromet, contributing $52.8 million in net
sales.
Gross Profit. Gross profit increased by $6.7 million, or 45.9%, to $21.3 million
for fiscal 1999 from $14.6 million in fiscal 1998. As a percentage of net sales,
gross profit decreased to 19.8% in fiscal 1999 from 27.0% in fiscal 1998. This
percentage decrease was primarily attributable to three factors. First, the
addition of Aeromet has caused consolidated average margins to be lower because
casting segment gross profits have been historically lower, generally in the 18%
to 22% range (gross profits on Aeromet net sales for fiscal 1999 were 20%).
Second, commercial aerospace net sales decreased during fiscal 1999. Third, the
Company recorded approximately $2.2 million in non-recurring adjustments to
inventories, which reduced gross profits 2.1% for fiscal 1999.
Operating Expenses. Operating expenses increased by $7.4 million, or 75.3%, to
$17.3 million for fiscal 1999 from $9.9 million in fiscal 1998. The Aeromet
acquisition added $3.6 million, corporate operational costs added $2.0 million,
and the remainder of $2.2 million was attributable to general cost increases in
operating businesses. As a percentage of net sales, operating expenses decreased
from 18.2% to 16.1%.
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EBITDA. EBITDA, as defined, increased by $3.7 million, or 53.6%, to $10.7
million for fiscal 1999 from $6.9 million in fiscal 1998. As a percentage of net
sales, EBITDA decreased to 9.9% in fiscal 1999 from 12.8% in fiscal 1998. The
decrease in EBITDA as a percentage of net sales during this period was primarily
attributable to $2.2 million in non-recurring adjustments to inventories
recorded during the year and the decreased gross profit due to the decline in
commercial aerospace net sales and Aeromet's lower margins.
Net Interest Expense. Net interest expense increased $7.4 million, or 980.1%, to
$8.1 million for fiscal 1999 from $755,000 in fiscal 1998. This increase was
primarily due to the Company's financing of the Aeromet acquisition in July 1998
with the issuance of $75.0 million of 11 1/4% senior subordinated notes (a $7.7
million increase in interest expense and the associated amortization of issuance
costs).
Other Income (Expense). Other income (expense) represents non-recurring and
non-operational income and expense for the period. Other expense increased to
$11.3 million in fiscal 1999 from $853,000 in fiscal 1998. This increase of
$10.5 million was due principally to a $7.8 million write-down of the Company's
investment in Orca Technologies, Inc., a write-off of $2.0 million of goodwill,
net, associated with the acquisition of Electronic Specialty Corporation ("ESC")
in April 1998, and a $1.1 million write-down for long-lived asset impairment at
ESC.
Net Income. Net income decreased $16.5 million, to a $12.9 million loss for
fiscal 1999 from a $3.6 million income in fiscal 1998, primarily as a result of
the factors discussed above. Income tax benefit increased $2.1 million, to $2.6
million for fiscal 1999 from $482,000 in fiscal 1998, primarily as a result of
the net operating losses incurred in fiscal 1999.
Year Ended May 31, 1998 Compared to Year Ended May 31, 1997
Net Sales. Net sales increased by $19.9 million, or 58%, to $54.1 million for
fiscal 1998 from $34.2 million in fiscal 1997. The significant increase in net
sales for fiscal 1998 from fiscal 1997 included increases in both commercial
aerospace industry net sales (an $11.3 million increase) and defense industry
net sales (a $3.5 million increase). The commercial aerospace industry net sales
increase was primarily attributable to increases in production at Boeing and the
related increase in demand from that customer for the Company's precision cast
and machined products. The defense industry net sales increase was primarily
attributable to an increase in orders of aerospace, satellite and weapons
systems electronics products.
Commercial aerospace industry net sales comprised 42.6% of total net sales in
fiscal 1998, up from 34.5% of net sales in fiscal 1997. Defense industry sales
comprised 19.9% of total net sales in fiscal 1998, down from 21.3% of net sales
in fiscal 1997.
The Company completed its acquisition of Balo Precision Parts, Inc. ("Balo") in
February 1998 and its ESC acquisition effective as of March 1998. These
acquisitions expanded production of hermetically sealed product offerings and
added relay, solenoid and flat panel display product lines. See "Description of
Business - Corporate History" and "- Products, Processes and Markets - U.S.
Electronics Group." Accordingly, net sales for fiscal 1998 also included
approximately four months of operations of Balo and three months of operations
for ESC, contributing approximately $4.3 million to net sales in fiscal 1998.
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<PAGE>
Gross Profit. Gross profit increased by $6.4 million, or 78.0%, to $14.6 million
for fiscal 1998 from $8.2 million in fiscal 1997. As a percentage of net sales,
gross profit increased to 27.0% in fiscal 1998 from 24.0% in fiscal 1997, which
was primarily attributable to increased efficiencies gained in manufacturing
processes and in-house production of processes that had previously been
purchased from outside vendors. The Company also believes that capital
investments in equipment and production processes contributed to the improvement
in gross profit margins.
Operating Expenses. Operating expenses increased by $3.6 million, or 57.1%, to
$9.9 million for fiscal 1998 from $6.3 million in fiscal 1997, partially due to
the Balo and ESC acquisitions and increased levels of operations in fiscal 1998.
As a percentage of net sales, operating expenses remained essentially unchanged.
EBITDA. EBITDA increased by $3.6 million, or 109.1%, to $6.9 million for fiscal
1998 from $3.3 million in fiscal 1997. As a percentage of net sales, EBITDA
increased to 12.8% in fiscal 1998 from 9.7% in fiscal 1997. The increase in
EBITDA as a percentage of net sales during this period was primarily
attributable to production efficiencies and improved capacity utilization.
Net Interest Expense. Net interest expense increased $371,000, or 96.6%, to
$755,000 for fiscal 1998 from $384,000 in fiscal 1997. This increase was
primarily due to the Company's financing of capital equipment purchases and debt
incurred to finance the expansion of its Wenatchee facilities to support growth
in net sales.
Other Income (Expense). Other income (expense) represents non-recurring and
non-operational income and expense for the period. Other expense increased to
$853,000 in fiscal 1998 from income of $169,000 in fiscal 1997. This increase of
$1,022,000 was due principally to a $1.0 million write-off of portions of notes
receivable and associated debt restructuring and related expenses in connection
with the termination of the Company's efforts during the third quarter of fiscal
1998 to form an information technology group.
Net Income. Net income increased $1.9 million, or 111.8% to $3.6 million for
fiscal 1998 from $1.7 million in 1997, primarily as a result of the factors
discussed above.
Year Ended May 31, 1997 Compared to Year Ended May 31, 1996
Net Sales. Net sales increased by $13.5 million, or 65.2%, to $34.2 million for
fiscal 1997 from $20.7 million in fiscal 1996. This increase was primarily
attributable to larger order sizes for electronics products, due to broader
market acceptance of the Company's electronics products and technologies, which
increased sales of higher priced products and added new customers.
The Company acquired Northwest Technical Industries, Inc. ("NTI") in April 1997,
which added capabilities for explosive bonding of specialty metals. See
"Description of Business - Corporate History" and "- Products, Processes and
Markets - U.S. Electronics Group." Accordingly, net sales for fiscal 1997
included one month of operations of NTI, which contributed $183,000 to total net
sales for that year.
Gross Profit. Gross profit increased by $3.9 million, or 90.7%, to $8.2 million
for fiscal 1997, up from $4.3 million in fiscal 1996. As a percentage of net
sales, gross profit increased to 24.0% in fiscal 1997 from 20.7% in fiscal 1996.
The increase in gross profit as a percentage of net sales was primarily
attributable to achieving revenue levels which allowed for production
efficiencies and increased capacity utilization. The Company also believes that
its investments in manufacturing equipment contributed to improvements in gross
profit margins.
Operating Expenses. Operating expenses increased by $1.4 million, or 28.6%, to
$6.3 million for fiscal 1997, from $4.9 million for fiscal 1996. As a percentage
of net sales, operating expenses
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<PAGE>
decreased to 18.3% in fiscal 1997 from 23.5% in fiscal 1996. The substantial
decrease in operating expenses as a percentage of net sales was primarily
attributable to the Company's improved ability to leverage its operating costs
and the consolidation of certain operations to the Company's Wenatchee
manufacturing campus. Specifically, both Ceramic Devices, Inc. in the U.S.
Electronics Group and Cashmere Manufacturing Co., Inc. in the U.S. Aerospace
Group were consolidated into the Company's Wenatchee manufacturing campus. See
"Description of Business - Products, Processes and Markets - U.S. Electronics
Group" and "- U.S. Aerospace Group."
EBITDA. EBITDA increased by $3.0 million, or 1,000.0%, to $3.3 million for
fiscal 1997, up from $300,000 for fiscal 1996. As a percentage of net sales,
EBITDA increased to 9.7% in fiscal 1997, from 1.4% in fiscal 1996. The
substantial increase in EBITDA as a percentage of net sales was primarily
attributable to efficiencies gained in manufacturing processes, consolidation of
certain operations to the Company's Wenatchee campus allowing for overhead
efficiencies, and increases in net sales not requiring incremental increases in
operating expenses.
Net Interest Expense. Net interest expense decreased $114,000, or 22.9%, to
$384,000 for fiscal 1997 from $498,000 in fiscal 1996, primarily as a result of
the repayment of debt that was funded by proceeds from a July 1996 public and a
February 1997 private offering of equity securities, and the reduction of bank
line of credit balances throughout the year.
Other Income (Expense). Other income increased to $169,000 in fiscal 1997 from
income of $15,000 in fiscal 1996, primarily as a result of sale of scrap and
recycling of excess materials in the manufacturing process.
Net Income. Net income increased $2.7 million to $1.7 million for fiscal 1997
from a loss of $999,000 in fiscal 1996, primarily as a result of factors
discussed above.
Liquidity and Capital Resources
Cash used in operating activities was $372,000 for fiscal 1999 compared to cash
provided by operating activities of $1.6 million in fiscal 1998. The change in
net cash from operations was primarily a result of the net loss for the year and
decreases in accounts payable, accrued liabilities and other liabilities,
partially offset by decreases in inventories.
Cash used in investing activities increased from $16.7 million in fiscal 1998 to
$79.3 million in fiscal 1999, an increase of $62.6 million. The change results
primarily from the Company's acquisition of Aeromet in July 1998 ($69.4 million)
and increased investment in property and equipment of $8.0 million in fiscal
1999 compared to $6.5 million in fiscal 1998, partially offset by a $4.8 million
decrease in issuance of notes receivable.
Cash generated from financing activities increased by $52.9 million, to $76.4
million in fiscal 1999, from $23.5 million in fiscal 1998. During fiscal 1999,
the Company completed several financing transactions. As a result, the Company
received net proceeds of: (i) $71.7 million from the issuance of senior
subordinated notes to support the Aeromet acquisition; (ii) $4.9 million from
the sale of Common Stock; and (iii) $6.6 million from the sale of Series B
Convertible Preferred Stock. Cash generated by the debt and equity financing
transactions was offset to a certain degree by payments on long-term debt and
capital leases of $5.8 million and financing costs of $1.0 million during fiscal
1999.
At May 31, 1999, the Company's primary banking relationships include a revolving
line of credit of up to $6.3 million for the Company's U.S. operations, which
expires in September 1999, and a revolving line of credit up to approximately
$7.2 million (4.5 million pounds sterling) for the Company's U.K. operations,
which expired in July 1999. The Company is currently negotiating with
33
<PAGE>
its lenders to renew these lines of credit. As of May 31, 1999, both revolving
lines of credit were unused.
Capital expenditures, other than for the Aeromet acquisition, were approximately
$8.1 million in fiscal 1999. Of this amount, $2.7 million was for a building and
land and approximately $5.4 million was for equipment. Included in the amount
spent for capital equipment was the purchase of substantially all the assets of
Lyden Castparts, Inc. ("Lyden") from a related party by the Company's Aeromet
America, Inc. subsidiary. The purchase price consisted of approximately $642,000
of Lyden's liabilities, which the Company paid, plus approximately $300,000 in
assumed liabilities consisting primarily of trade payables. On June 1, 1999, the
Company acquired all of the stock of Skagit Engineering & Manufacturing, Inc.
for $1.3 million in cash. The Company has also entered into a letter of intent
to acquire Nova-Tech Engineering, Inc. ("Nova-Tech"). The Company is negotiating
the terms of a stock purchase agreement with Nova-Tech's shareholders and
expects that the purchase price will consist of approximately $2.7 million in
cash and $250,000 in stock. The Company expects that the definitive stock
purchase agreement will contain conditions to closing, including receipt of a
letter ruling from the Internal Revenue Service that is necessary to permit
Nova-Tech's Employee Stock Ownership Plan to sell its Nova-Tech stock on the
terms anticipated. The Company is providing services to Nova-Tech under an
Operating Agreement dated April 23, 1999. As of May 31, 1999, the Company had
loaned $735,000 to Nova-Tech for working capital. As of August 19, 1999, the
Company had loaned Nova-Tech an additional $1,365,000. These loans have been
made under the terms of two demand notes dated April 26, 1999 and August 5,
1999, each of which is secured by substantially all of the assets of Nova-Tech.
As of May 31, 1999, the Company had no other material commitments outstanding
for purchases of additional capital assets.
In December 1998, the Company entered into an agreement giving it the option to
purchase three parcels of land that make up its Wenatchee campus from the Port
of Chelan County for $5.4 million. The purchase of the first parcel was
completed in early February 1999. If the Company exercises its options to
purchase both of the remaining two parcels, the purchase of the second parcel is
expected to close in December 2000 and the third is expected to close in August
2001.
The Company's working capital, as of May 31, 1999 and 1998 was $38.3 million and
$25.6 million, respectively. The increase in working capital in fiscal 1999 over
fiscal 1998 was primarily the result of debt and equity financing activities. In
July 1998, the Company completed an offering of $75.0 million of 11 1/4% senior
subordinated notes (the "Old Notes") to qualified institutional buyers to
finance the Aeromet acquisition. In February 1999, the Company exchanged the Old
Notes for new senior subordinated notes (the "Notes") of an equal principal
amount. The Notes will mature on August 1, 2005, unless previously redeemed. The
Notes will be redeemable at the option of the Company on or after August 1,
2003. In addition, on or before August 1, 2001, the Company may redeem up to 20%
of the original aggregate principal amount of the Notes, subject to certain
conditions. See "- Significant Events - Aeromet Acquisition."
The Company believes that the current cash balances and credit facilities, plus
cash from future operations, will be sufficient to meet the Company's operating
cash requirements and to fund budgeted capital expenditures. The Company may,
however, need to issue more equity in the future to fund possible acquisition
opportunities, or to fund the eventual redemption or repayment of the Notes used
to finance the Aeromet acquisition.
With the acquisition of Aeromet, whose functional currency is the British pound
sterling, the Company translates the activity of Aeromet into U.S. dollars on a
monthly basis. The balance sheet of Aeromet is translated using the exchange
rate as of the date of the balance sheet, and for purposes of the statement of
operations and statement of cash flows the Company uses the weighted average
exchange rate for the period. The value of the Company's assets, liabilities,
revenue, and expenses may vary materially from one reporting period to the next
solely as a result of varying exchange rates. The
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<PAGE>
Company is in the process of developing a comprehensive foreign currency hedging
policy but has not entered into any hedging activity as of May 31, 1999.
The Company does not expect any material changes in the results of operations or
in operating procedures due to the conversion to the "Euro" by eleven countries
in the European Union on January 1, 1999. The Company expects to continue to
transact business using primarily the U.S. dollar and the British pound
sterling.
At May 31, 1999, the Company had net operating loss (NOLs) carryforwards for
federal income tax purposes of approximately $14.0 million, the benefits of
which expire in the tax year 2001 through the tax year 2019. The NOLs created by
the Company's subsidiaries prior to their acquisition, and the NOLs created as a
consolidated group or groups subsequent to a qualifying tax free merger or
acquisition, have limitations related to the amount of usage by each subsidiary
or consolidated group as described in the Internal Revenue Code. As a result of
these limitations, approximately $1.0 million of the $14.0 million of NOLs will
never become available. At May 31, 1999, the Company recorded a valuation
allowance of $2.2 million because management believed that it was uncertain that
some portion or all of the deferred tax assets would be realized. At May 31,
1999, the Company had net deferred tax assets of $4.3 million, the realization
of which is dependent on material increases over present levels of pre-tax
income, primarily in the United States. The Company expects to achieve these
increases through continued integration, cross selling, and operational
efficiencies of its businesses. The Company anticipates that its effective
income tax rate will continue to approach the statutory rate in the future. In
addition, undistributed earnings of the Company's foreign subsidiaries, for
which no U.S. income taxes have been provided, aggregated approximately $3.7
million at May 31, 1999. No provision for foreign withholding or U.S. federal
income taxes was made for the undistributed earnings, as it is management's
intention that earnings will be reinvested indefinitely in foreign operations or
will be remitted substantially free of additional taxes.
Significant Events
Aeromet Acquisition
Acquisition Transaction. On July 30, 1998, Pacific Aerospace & Electronics (UK)
Limited ("PA&E-UK"), a company organized under the laws of the United Kingdom
and an indirect wholly-owned subsidiary of the Company, purchased all of
Aeromet's issued and outstanding capital stock. The Aeromet acquisition was made
pursuant to a Share Acquisition Agreement dated July 1, 1998, between Charles
Baynes plc, Westpark Limited (an affiliate of Charles Baynes plc), PA&E-UK, and
the Company. In consideration for PA&E-UK's acquisition of all of Aeromet's
issued and outstanding capital stock, the Company delivered to Westpark Limited
(pound)42 million (or approximately $69 million) in cash. The purchase price was
determined in arms-length negotiations between Charles Baynes plc and the
Company. See "Description of Business - Risk Factors - Acquisition Risks."
Rule 144A Offering. The Company funded the Aeromet acquisition from the net
proceeds of the sale of the Old Notes. Subject to the terms and conditions of a
Purchase Agreement (the "Purchase Agreement"), dated July 23, 1998, between the
Company, the Company's U.S. subsidiaries, and the initial purchasers, the
initial purchasers agreed to purchase, and the Company agreed to sell, the Old
Notes in the aggregate principal amount of $75 million. The Old Notes were
issued pursuant to an Indenture, dated July 30, 1998 (the "Indenture") between
the Company, its U.S. subsidiaries and IBJ Schroder Bank & Trust Company (now
known as IBJ Whitehall Bank & Trust Company), as trustee (the "Trustee"). In
February 1999, the Company exchanged the Old Notes for new senior subordinated
notes (the "Notes") of an equal principal amount and registered the Notes on a
Form S-4 Registration Statement, which was declared effective on January 22,
1999. The terms of the Notes are substantially identical to the terms of the Old
Notes, except that they are not subject to transfer restrictions or registration
rights, unless held by certain broker-dealers, affiliates or certain other
persons. The Notes (a) are senior subordinated, unsecured, general obligations
of the Company, (b)
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<PAGE>
will mature on August 1, 2005, unless previously redeemed pursuant to the
Indenture, and (c) are jointly and severally guaranteed on a senior subordinated
basis by each of the Company's U.S. operating subsidiaries. The Company is
subject to a number of restrictive covenants under the Indenture. In addition,
if there is a change of control of the Company's Common Stock, the Company may
be required to repay the Notes. See "Description of Business - Risk Factors -
Restrictive Debt Covenants."
Issuance of Common Stock to Liviakis
In February 1998, the Company entered into a financial services agreement with
Liviakis Financial Communications, Inc. ("Liviakis") to provide financial and
public relations services to the Company. In connection with that consulting
agreement, the Company issued to Liviakis and Robert B. Prag, one of its
principals, warrants to purchase an aggregate of 1,290,000 shares of Common
Stock for $4.62 per share. In August 1998, the Company, Liviakis and Mr. Prag
entered into an agreement in which (a) a finder's fee claim by Liviakis against
the Company was resolved in exchange for the Company's issuance of an aggregate
of 590,000 shares of Common Stock to Liviakis and Mr. Prag under the exemption
from registration provided in Section 4(2) of the Securities Act, and (b)
Liviakis and Mr. Prag transferred the warrants previously issued to them to the
Company for cancellation. No commissions were paid in connection with issuance
of the shares to Liviakis and Mr. Prag.
Reduction of Long-Term Debt
During September 1998, the Company paid off a note in the amount of $4.0
million. In connection with the payoff, the Company accelerated recognition of
$160,000 of related loan fees, which is included in interest expense for fiscal
1999.
Preferred Stock Offering
In August 1998, the Company completed an offering (the "Preferred Stock
Offering") of its Series B Convertible Preferred Stock (the "Preferred Stock")
and related warrants by issuing (a) an additional 70,000 shares of Preferred
Stock, and (b) additional related warrants to purchase 97,221 shares of Common
Stock, in exchange for a purchase price of $7,000,000, which had been held in
escrow pending completion of the Aeromet acquisition. When combined with the
first Preferred Stock Offering closing in May 1998, the Company issued a total
of 170,000 shares of Preferred Stock and related warrants to purchase 236,109
shares of Common Stock, for a total gross purchase price of $17 million. See
"Market for Common Equity and Related Shareholder Matters - Preferred Stock -
Series B Convertible Preferred Stock." On October 30, 1998, the Company filed a
Form S-1 Registration Statement covering resale of up to 3,000,000 shares of
Common Stock issuable upon conversion of the Preferred Stock and 236,109 shares
issuable upon exercise of the related warrants. The Registration Statement was
declared effective on December 23, 1998.
Fall 1998 Common Stock Offering
In November 1998, the Company issued an aggregate of 2,585,000 shares of Common
Stock to accredited investors under Rule 506 of Regulation D, in exchange for
aggregate cash consideration of $5,170,000. The Company paid $310,200 in
commissions to the placement agent in connection with the offering. The Company
agreed to file a registration statement registering these shares for resale
during April 1999. The Company offered to file such a registration statement
prior to that date, but as of August 24, 1999, the investors have not elected to
have the Company proceed with the registration.
Electronic Specialty Corporation Settlement
In April 1999, the Company reached a settlement with Deltec Holdings, Inc.
("Deltec Holdings") and certain parties related to Deltec Holdings, with respect
to the purchase of the Company's wholly-
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<PAGE>
owned subsidiary, ESC. As of March 1, 1998, a wholly-owned subsidiary of the
Company purchased substantially all of the assets of Deltec Holdings, which had
been known as Electronic Specialty Corporation (the "ESC Acquisition"). In
consideration for the purchase, the Company delivered to Deltec Holdings $2
million in cash and 923,304 shares of restricted Common Stock. The number of
shares issued was determined based on a per share value of $6.4984, which was
the average closing price of the Company's Common Stock on the Nasdaq National
Market System for the 20 consecutive trading days preceding the closing date.
In June 1998, the Company terminated ESC's president. The Company subsequently
became aware of certain differences between ESC's actual financial condition and
the financial condition represented by Deltec Holdings in the closing documents.
The Company took a number of actions, including reducing ESC's workforce,
appointing a new general manager, and reassessing ESC's business opportunities
and relationships with customers and suppliers. During the first quarter of
fiscal 1999, the Company wrote off its goodwill in ESC in the amount of
$3,581,000, and during the second quarter of fiscal 1999, the Company recorded a
$1.6 million non-recurring inventory write-down due to the discontinuation of an
unprofitable product line. In the fourth quarter of fiscal 1999, the Company
recorded a $1.1 million non-recurring charge for the impairment of long-lived
assets at ESC.
The Company made claims against Deltec Holdings based on Deltec Holdings'
representations and warranties in the Asset Purchase Agreement related to the
ESC acquisition. The parties settled those claims on April 2, 1999, and Deltec
Holdings agreed to return to the Company for cancellation 225,000 of the shares
of Common Stock that it received as part of the purchase price. The settlement
resulted in the Company recognizing a non-recurring gain of $1.4 million during
the fourth quarter of fiscal 1999.
Orca Technologies, Inc.
At May 31, 1999, the Company held 2,289,309 shares (the "Orca Shares") of common
stock of Orca Technologies, Inc. ("Orca"), which, to the Company's knowledge,
constituted approximately 14% of Orca's issued and outstanding common stock. The
Company acquired 179,600 of the Orca Shares in a market transaction, and
acquired the other 2,109,709 of the Orca Shares pursuant to an April 1998
restructuring agreement between Orca and the Company. In the restructuring
agreement, the Company (a) canceled certain loans owed it by Orca in exchange
for the 2,109,709 shares of Orca's common stock, (b) agreed to continue
guaranteeing Orca's credit facility of $1.3 million and an equipment lease of
$373,000 for equipment used by Orca's then-subsidiary, Televar, Inc., and (c)
accepted a $950,000 promissory note from Orca (the "Orca Note") as payment for
certain third-party notes then owned by the Company. See "Notes to Consolidated
Financial Statements - Note 8" in the Company's financial statements for May 31,
1999. The Orca Note accrues interest at 8% per annum, requires interest-only
payments for the first year, and requires fully amortizing monthly payments of
principal plus interest for the final four years of the note. The Company also
sublets its Bothell, Washington office space to Orca for a base rent of
approximately $32,000 per month.
As of May 31, 1998, the Company recorded a temporary unrealized loss, included
in stockholders' equity, on the Orca Shares of $436,000. During the year ended
May 31, 1999, the Company determined that the decline of the stock price was
other than a temporary decline in the fair value and recorded a loss of $4.9
million, which included the previous temporary unrealized loss and is included
in other expense. At May 31, 1999, the carrying value of the Company's
investment in the Orca Shares was $72,000. In addition, the Company recorded an
allowance for certain expenses and the guarantee of Orca's line of credit
totaling approximately $2.0 million, which has been included in other expense.
On June 29, 1999, the Company, as guarantor of Orca's line of credit, advanced
$300,000 for a partial repayment of the line of credit required by the lender.
As of May 31, 1999, Orca was ten months delinquent in its interest payments, and
the Company had not received the scheduled principal payments as outlined in the
Orca Note. The Company had reserved $250,000 of
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the Orca Note in the fourth quarter of fiscal 1998, and during fiscal 1999, the
Company reserved the remaining balance of $700,000, which has been included in
other expense. As of May 31, 1999, Orca was also ten months delinquent on its
lease payments to the Company. The Company has retained a real estate broker and
is negotiating to sublease the Bothell space to a third party.
Year 2000
The Company is developing and carrying out a comprehensive strategy for updating
its information management and manufacturing systems for Year 2000 compliance.
The Company's information technology ("IT") systems include customized and
standard software purchased from outside vendors. All software has been
identified and is being assessed to determine the extent of renovations required
in order to be Y2K compliant. The Company believes that all software has been
made Y2K compliant through vendor-provided updates or replacement with other Y2K
compliant hardware and software. The Company has identified significant non-IT
systems which may be impacted by the Y2K problem, including those relating to
production, processing and communication equipment and is in the process of
determining through inquiries of equipment suppliers, as well as testing of such
equipment, the extent of renovations required, if any. The Company believes that
required renovations, validation and implementations will be completed by
September 30, 1999.
The Company is continuing to identify third parties with which it has a
significant relationship that, in the event of a Y2K failure, could have a
material impact on the Company's financial position or operating results. The
third parties include energy and utility suppliers, creditors, material and
product suppliers, communication vendors and the Company's significant
customers. These relationships, especially those associated with certain
suppliers and customers, are material to the Company and a Y2K failure by one or
more of these parties could result in a material adverse effect on the Company's
operating results and financial position. The Company is continuing to make
inquiries of these third parties to assess their Y2K readiness. The Company
expects that this process will continue throughout the remainder of calendar
1999.
The Company expects that costs to address Y2K issues will total approximately
$250,000, of which approximately $125,000 was spent in fiscal 1999, with the
remainder being spent during fiscal 2000. Costs include salary and fringe
benefits for personnel, hardware and software costs, and consulting and travel
expenses associated, directly or indirectly, with addressing Y2K issues. Y2K
issues have received a high priority within the Company and, as a result,
certain other IT projects have been delayed. While such non-Y2K projects are
expected to enhance operational efficiencies and improve the quality of
information available to management, the delay of such projects is not expected
to have a material adverse impact on the Company's operations. Worst case Y2K
scenarios could be as insignificant as a minor interruption in production or
shipping resulting from unanticipated problems encountered in the IT systems of
the Company or any of the significant third parties with whom the Company does
business. The pervasiveness of the Y2K issue makes it likely that previously
unidentified issues will require remediation during the normal course of
business. In such a case, the Company anticipates that transactions could be
processed manually while IT and other systems are repaired and that such
interruptions would have a minor effect on the Company's operations. On the
other hand, a worst case Y2K scenario could be as catastrophic as an extended
loss of utility service resulting from interruptions at the point of power
generation, long-line transmission, or local distribution to the Company's
production facilities. Such an interruption could result in an inability to
provide products to the Company's customers, resulting in a material adverse
effect on the Company's operating results and financial position. The Company is
in the process of developing a contingency plan in the event of a catastrophic
Y2K problem and expects to have a plan in place by September 30, 1999.
38
<PAGE>
New Accounting Pronouncements
In April 1998, the Accounting Standards Executive Committee issued Statement of
Position 98-5, Reporting on the Costs of Start-Up Activities. This accounting
standard, which is effective for fiscal years beginning after December 15, 1998,
requires that certain costs of start-up activities and organization costs be
expensed as incurred. The adoption of SOP 98-5 is not expected to have a
material effect on the Company's financial position or results of operations.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. SFAS No. 133
requires the recognition of all derivatives in the consolidated balance sheet as
either assets or liabilities measured at fair value. SFAS No. 133 was effective
for fiscal years beginning after June 15, 1999. In June 1999, the FASB issued
SFAS No. 137, which delays implementation of SFAS No. 133 until fiscal years
beginning after June 15, 2000. The adoption of SFAS No. 133 is not expected to
have a material effect on the Company's financial position or results of
operations.
39
<PAGE>
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
The Company has financial instruments that are subject to interest rate risk,
primarily debt obligations issued at a fixed rate. However, fixed-rate debt
obligations issued by the Company are generally not callable until maturity. The
fair value of such instruments approximates their face value except for the
Notes which, as of May 31, 1999, were trading on the open market for
approximately 75% of face value. The Company does not consider the market risk
exposure for interest rates to be material.
The Company is subject to foreign currency exchange rate risk relating to
receipts from and payments to suppliers in foreign currencies. Since
approximately 50% of the Company transactions are conducted in foreign currency,
the exchange rate risk could be material. The Company is in the process of
developing a comprehensive foreign currency hedging policy but had not entered
into any hedging activity as of May 31, 1999.
The Company is exposed to commodity price fluctuations through purchases of
aluminum and other raw materials. The Company enters into certain supplier
agreements that guarantee quantity and price of the applicable commodity to
limit the exposure to commodity price fluctuations and availability concerns. At
May 31, 1999, the Company had purchase commitments for raw materials aggregating
$4,414,000.
The Company holds an investment in the common stock of a public company. The
Company is exposed to risks associated with the quoted equity price of the
common stock. At May 31, 1999, the carrying value of the investment was $72,000.
40
<PAGE>
ITEM 8. FINANCIAL STATEMENTS
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Pacific Aerospace & Electronics, Inc.:
We have audited the accompanying consolidated balance sheets of Pacific
Aerospace & Electronics, Inc. and subsidiaries as of May 31, 1998 and 1999, and
the related consolidated statements of operations, stockholders' equity, and
cash flows for the years then ended. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits. The
accompanying consolidated statements of operations, stockholders' equity, and
cash flows of Pacific Aerospace & Electronics, Inc. for the year ended May 31,
1997 were audited by other auditors whose report thereon dated July 2, 1997,
expressed an unqualified opinion on those statements.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Pacific Aerospace &
Electronics, Inc. and subsidiaries as of May 31, 1998 and 1999, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the years then ended in conformity with generally accepted accounting
principles.
/s/ KPMG LLP
Seattle, Washington
July 16, 1999, except as to note 24
which is as of August 19, 1999
41
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Pacific Aerospace & Electronics, Inc.:
We have audited the accompanying consolidated statements of operations,
stockholders' equity, and cash flows of Pacific Aerospace & Electronics, Inc.
and subsidiaries for the year ended May 31, 1997. This consolidated financial
statement is the responsibility of the Company's management. Our responsibility
is to express an opinion on this consolidated financial statement based on our
audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statement referred to above presents
fairly, in all material respects, the results of operations and cash flows of
Pacific Aerospace & Electronics, Inc. and subsidiaries for the year ended May
31, 1997 in conformity with generally accepted accounting principles.
/s/ MOSS ADAMS LLP
Everett, Washington
July 2, 1997
42
<PAGE>
<TABLE>
<CAPTION>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Consolidated Balance Sheets
May 31, 1998 and 1999
Assets 1998 1999
-------------- --------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 11,461,000 8,134,000
Accounts receivable, net of allowance for doubtful accounts of
$130,000 in 1998 and $355,000 in 1999 9,375,000 24,992,000
Inventories 16,184,000 24,616,000
Deferred income taxes 386,000 880,000
Prepaid expenses and other 272,000 2,316,000
-------------- --------------
Total current assets 37,678,000 60,938,000
-------------- --------------
Property, plant and equipment, net 26,335,000 45,279,000
-------------- --------------
Other assets:
Notes receivable from related parties 700,000 1,458,000
Investment 4,579,000 72,000
Costs in excess of net book value of acquired subsidiaries, net of
accumulated amortization of $439,000 in 1998 and $1,430,000 in 1999 6,515,000 41,052,000
Patents, net of accumulated amortization of $307,000 in 1998
and $407,000 in 1999 1,229,000 1,255,000
Deferred financing costs, net of accumulated amortization of
$664,000 in 1999 -- 5,029,000
Deferred income taxes 222,000 3,395,000
Other 1,322,000 249,000
-------------- --------------
Total other assets 14,567,000 52,510,000
-------------- --------------
$ 78,580,000 158,727,000
============== ==============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 6,748,000 10,484,000
Accrued liabilities 2,370,000 5,615,000
Accrued interest 217,000 2,813,000
Current portion of long-term debt 1,027,000 1,278,000
Current portion of capital lease obligations 206,000 297,000
Line of credit 1,511,000 --
Other current liabilities -- 2,122,000
-------------- --------------
Total current liabilities 12,079,000 22,609,000
Long-term liabilities:
Long-term debt, net of current portion 9,059,000 5,220,000
Capital lease obligations, net of current portion 941,000 1,615,000
Senior subordinated notes payable -- 75,000,000
Deferred rent and other 359,000 264,000
-------------- --------------
Total liabilities 22,438,000 104,708,000
-------------- --------------
Stockholders' equity:
Series B convertible preferred stock, $0.001 par value, 5,000,000 shares
authorized, 100,000 shares issued and outstanding at May 31, 1998
and 161,035 shares issued and outstanding at May 31, 1999 -- --
Common stock, $0.001 par value, 100,000,000 shares authorized,
15,395,723 and 18,932,779 shares issued and outstanding at
May 31, 1998 and 1999, respectively 15,000 19,000
Additional paid-in capital 57,830,000 69,276,000
Cumulative other comprehensive loss (436,000) (1,140,000)
Accumulated deficit (1,267,000) (14,136,000)
-------------- --------------
Total stockholders' equity 56,142,000 54,019,000
Commitments, contingencies and subsequent events -- --
-------------- --------------
$ 78,580,000 158,727,000
============== ==============
See accompanying notes to consolidated financial statements.
</TABLE>
43
<PAGE>
<TABLE>
<CAPTION>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Consolidated Statements of Operations
Years ended May 31, 1997, 1998 and 1999
1997 1998 1999
-------------- -------------- --------------
<S> <C> <C> <C>
Net sales $ 34,175,000 54,099,000 107,366,000
Cost of sales 25,969,000 39,487,000 86,094,000
-------------- -------------- --------------
Gross profit 8,206,000 14,612,000 21,272,000
Operating expenses 6,259,000 9,872,000 17,308,000
-------------- -------------- --------------
Income from operations 1,947,000 4,740,000 3,964,000
-------------- -------------- --------------
Other income (expense):
Interest income 126,000 110,000 532,000
Interest expense (510,000) (865,000) (8,672,000)
Other 169,000 (853,000) (11,332,000)
-------------- -------------- --------------
(215,000) (1,608,000) (19,472,000)
-------------- -------------- --------------
Income (loss) before income tax
benefit (expense) 1,732,000 3,132,000 (15,508,000)
Income tax benefit (expense) (50,000) 482,000 2,639,000
-------------- -------------- --------------
Net income (loss) 1,682,000 3,614,000 (12,869,000)
-------------- -------------- --------------
Other comprehensive income (loss):
Foreign currency translation -- -- (1,727,000)
Income tax benefit -- -- 587,000
Valuation of available for sale securities -- (436,000) 436,000
-------------- -------------- --------------
Total other comprehensive loss -- (436,000) (704,000)
-------------- -------------- --------------
Comprehensive income (loss) $ 1,682,000 3,178,000 (13,573,000)
============== ============== ==============
Net income (loss) per share:
Basic $ 0.18 0.29 (0.74)
Diluted 0.17 0.27 (0.74)
Shares used in computation of net income (loss) per share:
Basic 9,499,980 12,486,077 17,359,491
Diluted 10,035,846 13,606,061 17,359,491
See accompanying notes to consolidated financial statements.
</TABLE>
44
<PAGE>
<TABLE>
<CAPTION>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
Years ended May 31, 1997, 1998 and 1999
Acc-
Series A Series B umulated
convertible convertible other Total
preferred stock preferred stock Common stock Additional compre- Acc- stock
--------------- --------------- ------------------- paid-in hensive umulated holders'
Shares Amount Shares Amount Shares Amount capital loss deficit equity
------- ------- ------- ------- ---------- -------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at May 31, 1996 -- $ -- -- $ -- 7,478,309 $ 8,000 19,094,000 -- (6,563,000) 12,539,000
Sale of common stock -- -- -- -- 2,264,400 2,000 5,347,000 -- -- 5,349,000
Issuance of warrants -- -- -- -- -- -- 16,000 -- -- 16,000
Issuance of common stock
in connection with an
acquisition -- -- -- -- 477,540 -- 1,552,000 -- -- 1,552,000
Sale of preferred stock
for cash 50,000 -- -- -- -- -- 4,481,000 -- -- 4,481,000
Net income -- -- -- -- -- -- -- -- 1,682,000 1,682,000
------- ------- ------- ------- ---------- -------- ---------- ---------- ---------- ----------
Balance at May 31, 1997 50,000 -- -- -- 10,220,249 10,000 30,490,000 -- (4,881,000) 25,619,000
Issuance of common stock -- -- -- -- 8,559 -- 13,000 -- -- 13,000
Sale of common stock
for cash -- -- -- -- 524,000 1,000 2,222,000 -- -- 2,223,000
Increase in preferred
stock, net of issuance
costs -- -- 100,000 -- -- -- 9,260,000 -- -- 9,260,000
Issuance of warrants -- -- -- -- -- -- 444,000 -- -- 444,000
Exercise of warrants for
cash, net of tax effects
of $99,000 -- -- -- -- 795,000 1,000 3,723,000 -- -- 3,724,000
Issuance of common stock
on conversion of
convertible notes and
accrued interest of
$154,000 -- -- -- -- 1,405,018 1,000 5,518,000 -- -- 5,519,000
Exercise of options for cash -- -- -- -- 25,000 -- 53,000 -- -- 53,000
Issuance of common stock on
conversion of preferred
stock (50,000) -- -- -- 1,494,593 1,000 (1,000) -- -- --
Unrealized losses on
available for sale
securities -- -- -- -- -- -- -- (436,000) -- (436,000)
Issuance of common stock
in connection with
acquisition -- -- -- -- 923,304 1,000 6,108,000 -- -- 6,109,000
Net income -- -- -- -- -- -- -- -- 3,614,000 3,614,000
------- ------- ------- ------- ---------- -------- ---------- ---------- ---------- ----------
Balance at May 31, 1998 -- -- 100,000 -- 15,395,723 15,000 57,830,000 (436,000) (1,267,000) 56,142,000
Issuance of preferred
stock, net of issuance
costs of $370,000 -- -- 70,000 -- -- -- 6,630,000 -- -- 6,630,000
Issuance of common stock
for services -- -- -- -- 590,000 1,000 1,769,000 -- -- 1,770,000
Cancellation of warrants -- -- -- -- -- -- (360,000) -- -- (360,000)
Valuation of available for
sale securities -- -- -- -- -- -- -- 436,000 -- 436,000
Foreign currency translation
adjustment, net of tax
effect of $587,000 -- -- -- -- -- -- -- (1,140,000) -- (1,140,000)
Issuance of common stock on
conversion of Series B
preferred stock -- -- (8,965) -- 545,114 -- -- -- -- --
Issuance of common stock
under employee stock
purchase plan, net of
related expenses of $4,000 -- -- -- -- 41,942 -- 72,000 -- -- 72,000
Sale of common stock for cash,
net of issuance costs of
$344,000 -- -- -- -- 2,585,000 3,000 4,823,000 -- -- 4,826,000
Common shares redeemed in
connection with a prior
acquisition -- -- -- -- (225,000) -- (1,488,000) -- -- (1,488,000)
Net loss -- -- -- -- -- -- -- -- (12,869,000)(12,869,000)
------- ------ ------- ------- ---------- -------- ---------- ---------- ---------- ----------
Balance at May 31, 1999 -- $ -- 161,035 $ -- 18,932,779 $ 19,000 69,276,000 (1,140,000)(14,136,000) 54,019,000
======= ====== ======= ======= ========== ======== ========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
</TABLE>
45
<PAGE>
<TABLE>
<CAPTION>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended May 31, 1997, 1998 and 1999
1997 1998 1999
------------- ------------- -------------
<S> <C> <C> <C>
Cash flow from operating activities:
Net income (loss) $ 1,682,000 3,614,000 (12,869,000)
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities:
Depreciation and amortization 1,358,000 2,204,000 6,705,000
Amortization of deferred finance costs -- -- 664,000
Allowance on note receivable and guarantees -- 250,000 2,884,000
Unrealized loss on investment -- -- 4,943,000
Loss on restructuring of note receivable -- 1,038,000 --
Loss recorded on impairment of long lived assets -- -- 3,275,000
Loss on sale of property, plant and equipment -- -- 86,000
Director compensation paid in common stock 44,000 13,000 --
Consulting services paid through issuance of
stock options and warrants 6,000 139,000 --
Federal income tax benefit -- (1,200,000) (4,287,000)
Changes in operating assets and liabilities:
Accounts receivable (1,774,000) (2,286,000) (121,000)
Inventories (1,951,000) (3,387,000) 2,751,000
Prepaid expenses and other current assets (178,000) 474,000 (421,000)
Other assets 44,000 (1,176,000) 1,077,000
Accounts payable, accrued liabilities and other liabilities 557,000 1,911,000 (5,059,000)
------------- ------------- -------------
Net cash provided by (used in) operating activities (212,000) 1,594,000 (372,000)
------------- ------------- -------------
Cash flow from investing activities:
Sale (purchase) of certificate of deposit (1,000,000) 1,000,000 --
Proceeds from stock subscription receivable 1,030,000 -- --
Acquisition of property, plant and equipment (2,100,000) (6,509,000) (8,040,000)
Proceeds from sale of property, plant and equipment -- -- 104,000
Acquisition of subsidiaries -- (4,318,000) (69,752,000)
Acquisition of patents -- -- (128,000)
Acquisition of investment -- (742,000) --
Issuance of notes receivable -- (6,261,000) (1,458,000)
Payments received on note receivable from related party 58,000 125,000 --
------------- ------------- -------------
Net cash used in investing activities (2,012,000) (16,705,000) (79,274,000)
------------- ------------- -------------
Cash flow from financing activities:
Net repayments under line of credit (1,224,000) (358,000) (1,511,000)
Decrease in restricted cash 1,000,000 -- --
Proceeds from long-term debt and convertible notes 237,000 10,125,000 1,442,000
Payments on long-term debt and capital leases (5,686,000) (1,503,000) (5,752,000)
Proceeds from sale of common stock, net 5,739,000 2,223,000 4,898,000
Proceeds from sale of preferred stock, net 4,481,000 9,260,000 6,630,000
Proceeds from issuance of senior subordinated notes, net -- -- 71,731,000
Proceeds from exercise of stock options and warrants -- 3,777,000 --
Payment of financing costs -- -- (1,013,000)
------------- ------------- -------------
Net cash provided by financing activities 4,547,000 23,524,000 76,425,000
------------- ------------- -------------
Effect of exchange rates on cash -- -- (106,000)
------------- ------------- -------------
Net increase (decrease) in cash
and cash equivalents 2,323,000 8,413,000 (3,327,000)
Cash and cash equivalents at beginning of year 725,000 3,048,000 11,461,000
------------- ------------- -------------
Cash and cash equivalents at end of year $ 3,048,000 11,461,000 8,134,000
============= ============= =============
See accompanying notes to consolidated financial statements.
</TABLE>
46
<PAGE>
<TABLE>
<CAPTION>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows, Continued
Years ended May 31, 1997, 1998 and 1999
1997 1998 1999
------------- ------------- -------------
<S> <C> <C> <C>
Supplemental cash flow:
Cash paid during the year for:
Interest $ 613,000 712,000 5,296,000
Federal income taxes 18,000 521,000 411,000
Acquisition of subsidiaries:
Fair value of assets acquired and resulting
goodwill, excluding cash 1,928,000 10,034,000 86,593,000
Liabilities assumed 482,000 3,925,000 16,811,000
Common stock issued 1,446,000 6,109,000 --
Noncash investing and financing activities:
Seller financed acquisition of property, plant
and equipment 639,000 3,336,000 241,000
Seller financed acquisition of patents 35,000 -- --
Conversion of notes and accrued interest to
common stock -- 5,519,000 --
Restructuring of certain notes receivable for
an investment in common stock -- 6,053,000 --
Property, plant, and equipment included in
accounts payable -- 445,000 --
Deferred portion of common stock issued for
consulting services -- 305,000 --
Long-term debt retired through acquisition
of subsidiary -- 139,000 --
Reclassification of property, plant and equipment to
other assets -- -- 1,217,000
============= ============= =============
See accompanying notes to consolidated financial statements.
</TABLE>
47
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(1) Description of Business and Basis of Presentation
(a) Description of Business
Pacific Aerospace & Electronics, Inc., headquartered in Wenatchee,
Washington, is an international engineering and manufacturing company
which develops, manufactures and markets high performance electronic
and metal components and assemblies for the aerospace, defense,
electronics and transportation industries. The consolidated financial
statements include the accounts of Pacific Aerospace & Electronics,
Inc. and its wholly-owned subsidiaries (collectively, the "Company").
(b) Basis of Presentation
These consolidated financial statements are prepared in accordance
with generally accepted accounting principles (GAAP) in the United
States (U.S.) and present the financial position, results of
operations and changes in financial position of the Company and its
subsidiaries. All material intercompany balances and transactions have
been eliminated in consolidation.
Certain 1997 and 1998 amounts have been reclassified to conform with
the 1999 presentation.
(2) Summary of Significant Accounting Principles
(a) Cash and Cash Equivalents
Cash and cash equivalents consist of cash, demand deposits with banks
and highly liquid investments with maturity dates at purchase of three
months or less.
(b) Inventories
Inventories are stated at the lower of cost, primarily determined by
the first-in, first-out method, or market (replacement cost for raw
materials and net realizable value for work in progress and finished
goods).
(c) Property, Plant and Equipment
Property, plant and equipment are stated at cost. Property, plant and
equipment under capital leases are stated at the lower of the fair
market value of the assets or the present value of minimum lease
payments at the inception of the leases.
Depreciation and amortization are calculated using the straight-line
method over the estimated useful lives of the owned assets ranging
from 5 years for certain machinery and equipment to 40 years for
certain buildings. Property, plant and equipment held under capital
leases are amortized using the straight-line method over the shorter
of the estimated useful lives of the assets or the lease terms,
ranging from 7 to 10 years.
48
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
Expenditures for maintenance and repairs are charged to expense as
incurred. Upon sale or retirement, the cost and related accumulated
depreciation or amortization are removed from the accounts and any
resulting gain or loss is reflected in other income or expense.
(d) Investment
At May 31, 1998 and 1999, the Company had an investment in the common
stock, registered and unregistered shares, of a public company of less
than 20%. The investment is classified as an available-for-sale
security in accordance with Statements of Financial Accounting
Standards (SFAS) No. 115, Accounting for Certain Investments in Debt
and Equity Securities, and is reported at fair value, with temporary
unrealized gains and losses excluded from the statements of operations
and reported as a separate component of stockholders' equity.
Unrealized losses which are determined to be other-than-temporary are
included in other income or expense in the statements of operations.
Fair value of the registered shares of common stock at May 31, 1998
and 1999, and unregistered shares at May 31, 1998 is determined as the
quoted value of the stock in the over-the-counter market, without any
discounts for large blocks or unregistered shares. Fair value of the
unregistered shares at May 31, 1999 is determined based on expected
net realizable value. There is no assurance that such values will be
realizable upon liquidation or sale.
(e) Intangible Assets
Costs in excess of net book value of acquired subsidiaries are
amortized using the straight-line method over a period ranging from 15
to 40 years from the date of acquisition.
Purchased patents are recorded at cost. Developed patents are recorded
at the value of the related compensation awarded. Patents are
amortized using the straight-line method over the estimated useful
lives of the patents ranging from 10 to 17 years.
Deferred financing costs were incurred in connection with the Senior
Subordinated Note offering and are being amortized using the
straight-line method over the seven year life of the notes.
(f) Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed
Of
Long-lived assets and certain identifiable intangibles are reviewed
for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable.
Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows
expected to be generated by the asset. If such assets are considered
to be impaired, the impairment to be recognized is measured by the
amount by which the carrying amount of the assets exceed the fair
value of the assets. Assets to be disposed of are reported at the
lower of the carrying amount or fair value less costs to sell.
49
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(g) Revenue Recognition
Revenue is recognized when products are shipped to customers and when
services are earned.
(h) Research and Development
Research and development costs are expensed as incurred and are
included in cost of sales.
(i) Income Taxes
The Company follows the asset and liability method of accounting for
income taxes. Under the asset and liability method of accounting for
income taxes, deferred tax assets and liabilities are recognized based
on the estimated future tax consequences attributable to differences
between the consolidated financial statement carrying amounts of
existing assets and liabilities and their respective tax bases.
Deferred tax assets and liabilities are measured using enacted tax
rates in effect for the year in which those temporary differences are
expected to be recovered or settled. The effect on deferred tax assets
and liabilities of a change in tax rates is recognized in the period
that includes the enactment date.
(j) Stock-Based Compensation
The Company follows the provisions of SFAS No. 123, Accounting for
Stock-Based Compensation. This statement permits a company to choose
either a new fair-value method or the Accounting Principles Board
(APB) Opinion No. 25, Accounting for Stock Issued to Employees,
intrinsic-value based method of accounting for stock-based
compensation arrangements. SFAS No. 123 requires pro forma disclosure
of net income (loss) and earnings (loss) per share computed as if the
fair-value based method had been applied in financial statements of
companies that continue to account for such arrangements under APB
Opinion No. 25. The Company has elected to continue to record
stock-based compensation using the APB Opinion No. 25
intrinsic-value-based method and, therefore, the adoption of SFAS No.
123 has not impacted the Company's financial positions, results of
operations, or liquidity.
(k) Net Income (Loss) Per Share
Basic income (loss) per share is computed using the weighted average
number of common shares outstanding during the period. Diluted income
(loss) per share is computed using the weighted average number of
common and dilutive common equivalent shares outstanding during the
period using the treasury stock method. As the Company had a net loss
for the year ended May 31, 1999, basic and diluted net loss per share
are the same.
50
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(l) Foreign Currency
The functional currency of the Company's foreign subsidiaries is the
local currency of the country in which the subsidiary is incorporated.
Assets and liabilities of foreign operations are translated into U.S.
dollars using rates of exchange in effect at the end of the reporting
period. Income and expense accounts are translated into U.S. dollars
using average rates of exchange during the reporting period. The net
gain or loss resulting from translation is shown as a foreign currency
translation adjustment and is included in accumulated other
comprehensive income (loss) in stockholders' equity. Gains and losses
from foreign currency transactions are included in other income or
expense in the consolidated statements of operations. There were no
significant foreign currency transaction gains or losses for the years
ended May 31, 1997, 1998 and 1999.
(m) Comprehensive Income (Loss)
On June 1, 1998, the Company adopted the provisions of SFAS No. 130,
Reporting Comprehensive Income, which establishes standards for the
reporting and disclosure of comprehensive income and its components
(revenues, expenses, gains and losses) in a full set of consolidated
financial statements. The Company's comprehensive income (loss)
primarily consists of the valuation of available-for-sale securities
and foreign currency translation adjustments.
(n) Use of Estimates
The preparation of consolidated financial statements in conformity
with GAAP requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure
of contingent assets and liabilities at the date of the consolidated
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
(o) New Accounting Pronouncements
In April 1998, the Accounting Standards Executive Committee issued
Statement of Position 98-5, Reporting on the Costs of Start-Up
Activities. This accounting standard, which is effective for fiscal
years beginning after December 15, 1998, requires that certain costs
of start-up activities and organization costs be expensed as incurred.
The adoption of SOP 98-5 is not expected to have a material effect on
the Company's financial position or results of operations.
51
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
In June 1998, the Financial Accounting Standards Board issued SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities.
SFAS No. 133 requires the recognition of all derivatives in the
consolidated balance sheet as either assets or liabilities measured at
fair value. SFAS No. 133 was effective for fiscal years beginning
after June 15, 1999. In June 1999, the FASB issued SFAS No. 137 which
delays implementation of SFAS No. 133 until fiscal years beginning
after June 15, 2000. The adoption of SFAS No. 133 is not expected to
have a material effect on the Company's financial position or results
of operations.
(3) Segment Information and Concentration of Risk
The Company is organized into three operational segments, "U.S. Aerospace,"
"European Aerospace," and "U.S. Electronics." The Aerospace segments are
primarily comprised of machined and cast metal product operations. Net
sales of the Aerospace segments include sales to customers in the
aerospace, defense and transportation industries. Net sales of the
Electronics segment also include sales to customers in the aerospace and
defense industries. Historically, these segments have been cyclical and
sensitive to general economic and industry specific conditions. In
particular, the aerospace industry, in recent years, has been adversely
affected by a number of factors, including reduced demand for commercial
aircraft, a decline in military spending, postponement of overhaul and
maintenance of aircraft, increased fuel and labor costs, increased
regulations, intense price competition, among other factors. In addition,
there is no assurance that general economic conditions will not lead to a
downturn in demand for core components and products of the Company, in each
of its operational segments.
Presented below is the Company's operational segment information. In
addition, all operational segments identified as "U.S." and the Corporate
are located within the U.S. while the operations and assets of the
"European Aerospace" segment are located within the United Kingdom.
Identifiable assets are those assets used in the Company's operations in
each segment, and do not include advances or loans between the business
segments. Corporate assets are identified below, and no allocations were
necessary for assets used jointly by the segments.
52
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
Year ended May 31, 1997:
<TABLE>
<CAPTION>
Corporate,
U.S. European U.S. other and
Aerospace Aerospace Electronics eliminations Total
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
Net sales to customers $ 22,949,000 -- 11,226,000 -- 34,175,000
Net sales between
segments 151,000 -- -- (151,000) --
Income (loss) from
operations 1,043,000 -- 2,203,000 (1,299,000) 1,947,000
Identifiable assets 21,011,000 -- 11,419,000 3,322,000 35,752,000
Capital expenditures 1,961,000 -- 778,000 -- 2,739,000
Depreciation and
amortization 897,000 -- 461,000 -- 1,358,000
Interest income 13,000 -- -- 113,000 126,000
Interest expense 297,000 -- 131,000 82,000 510,000
</TABLE>
<TABLE>
<CAPTION>
Year ended May 31, 1998:
Corporate,
U.S. European U.S. other and
Aerospace Aerospace Electronics eliminations Total
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
Net sales to customers $ 34,146,000 -- 19,953,000 -- 54,099,000
Net sales between
segments 162,000 -- 5,000 (167,000) --
Income (loss) from
operations 4,665,000 -- 2,454,000 (2,379,000) 4,740,000
Identifiable assets 29,761,000 -- 28,943,000 19,876,000 78,580,000
Capital expenditures 4,212,000 -- 1,333,000 4,745,000 10,290,000
Depreciation and
amortization 1,301,000 -- 855,000 48,000 2,204,000
Interest income -- -- 46,000 64,000 110,000
Interest expense 381,000 -- 104,000 380,000 865,000
</TABLE>
53
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
<TABLE>
<CAPTION>
Year ended May 31, 1999:
Corporate,
U.S. European U.S. other and
Aerospace Aerospace Electronics eliminations Total
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
Net sales to customers $ 31,096,000 52,814,000 23,456,000 -- 107,366,000
Net sales between
segments 239,000 -- -- (239,000) --
Income (loss) from
operations 2,148,000 6,983,000 (1,281,000) (3,886,000) 3,964,000
Identifiable assets 26,655,000 90,125,000 21,735,000 20,212,000 158,727,000
Capital expenditures 1,681,000 1,556,000 2,332,000 2,712,000 8,281,000
Depreciation and
amortization 1,659,000 3,170,000 1,684,000 192,000 6,705,000
Interest income -- 17,000 19,000 496,000 532,000
Interest expense 419,000 3,516,000 202,000 4,535,000 8,672,000
</TABLE>
The Company had net sales to two customers, each comprising greater than
10% of net sales, aggregating 43% and 45% in the years ended May 31, 1997
and 1998, respectively. The Company had net sales to one customer
comprising greater than 10% of net sales, aggregating 13% in the year ended
May 31, 1999.
The Company had accounts receivable from two customers, each comprising
greater than 10% of accounts receivable, aggregating 25% in the year ended
May 31, 1998. The Company had accounts receivable from one customer
comprising greater than 10% of accounts receivable, aggregating 11% in the
year ended May 31, 1999.
Credit is extended to customers based on an evaluation of their financial
condition and collateral is generally not required.
The Company currently purchases aluminum and other raw materials from a
limited number of suppliers. Although there are a limited number of
potential suppliers of such raw materials, management believes that other
suppliers could provide these raw materials on comparable terms. A change
in suppliers, however, could cause a delay in manufacturing, increased
costs, and a possible loss of sales, which could have a material adverse
effect on the manufacturing and delivery of the Company's products. The
Company purchased $2,570,000, $2,723,000 and $6,570,245 from one supplier
during the years ended May 31, 1997, 1998 and 1999, respectively.
The Company purchases other raw materials, of lesser significance, which
are available from a limited number of suppliers.
At May 31, 1999, the Company had purchase commitments for raw materials
aggregating $4,414,000 and equipment aggregating $881,000.
54
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(4) Business Acquisitions
In April 1997, the Company acquired all of the assets and assumed certain
liabilities of Northwest Technical Industries, Inc. The asset purchase
price consisted of 477,540 shares of the Company's common stock valued at
$1,552,000. Costs in excess of net book value of $270,000 were recorded as
a result of this acquisition.
Effective for accounting purposes in February 1998, the Company acquired
substantially all of the assets and assumed certain liabilities of PCC
Composites, Inc.'s operating unit, Balo Precision Parts. The purchase price
consisted of $2.25 million in cash and resulted in costs in excess of net
book value of $1,029,000.
Effective for accounting purposes in March 1998, the Company acquired
substantially all assets and certain liabilities of Electronic Specialty
Corporation and its wholly-owned subsidiary, Displays & Technologies, Inc.
(collectively "ESC"). The purchase price consisted of $2.0 million in cash,
923,304 shares of the Company's common stock valued at $6,109,000, and
acquisition costs of $77,000 for a total of $8,186,000.
The purchase price and related acquisition costs were allocated as follows:
Current assets $ 4,066,000
Equipment 4,364,000
Other non-current assets 50,000
Cost in excess of net book value 3,631,000
Liabilities assumed (3,925,000)
------------
Total $ 8,186,000
============
During the year ended May 31, 1999, the Company made claims against the
previous owner of ESC based on certain representations and warranties in
the purchase agreement. In April 1999, the previous owner of ESC agreed to
return 225,000 of the Company's common shares previously received in the
acquisition.
In July 1998, the Company purchased all of the outstanding stock of Aeromet
International PLC (Aeromet). The purchase price consisted of
(pound)42,000,000 (approximately $68,875,000) in cash and acquisition costs
of $542,000 for a total of $69,417,000.
The purchase price and related acquisition costs were allocated as follows:
Current assets $ 27,529,000
Equipment 18,177,000
Cost in excess of net book value 39,884,000
Liabilities assumed (16,173,000)
------------
Total $ 69,417,000
============
55
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
The business combinations described above have been accounted for using the
purchase method. Accordingly, assets and liabilities have been recorded at
their fair value at acquisition date. Operating results of these acquired
companies are included in the Company's consolidated statements of
operations from the respective acquisition dates.
The following summary, prepared on a pro forma basis, presents the
unaudited consolidated condensed results of operations of the Company, as
if the aforementioned business acquisitions were made as of the first day
of the immediately preceding fiscal year in which the entity was acquired.
There are no material adjustments which impact the summary.
<TABLE>
<CAPTION>
Year ended May 31
(unaudited)
---------------------------------
1998 1999
--------------- ---------------
<S> <C> <C>
Net sales $ 119,798,000 117,368,000
Income from operations 6,278,000 4,096,000
Net income (loss) 1,118,000 (14,286,000)
Net income (loss) per share:
Basic 0.08 (0.82)
Diluted 0.08 (0.82)
Shares used in computation of net
income (loss) per share:
Basic 13,287,961 17,359,491
Diluted 14,407,945 17,359,491
</TABLE>
The pro forma results are not necessarily indicative of the actual results
of operations that would have occurred had the transactions been
consummated as of the date indicated nor are they intended to indicate
results that may occur in the future.
(5) Inventories
Inventories at May 31 consist of the following:
<TABLE>
<CAPTION>
1998 1999
--------------- ---------------
<S> <C> <C>
Raw materials $ 5,789,000 7,374,000
Work in progress 5,683,000 11,478,000
Finished goods 4,712,000 5,764,000
--------------- --------------
$ 16,184,000 24,616,000
=============== ==============
</TABLE>
56
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(6) Property, Plant and Equipment
Property, plant and equipment, including assets under capital lease
arrangements, at May 31 consist of the following:
<TABLE>
<CAPTION>
1998 1999
--------------- ---------------
<S> <C> <C>
Land $ 1,171,000 2,028,000
Buildings 4,380,000 8,765,000
Leasehold improvements 1,738,000 2,285,000
Machinery and equipment 18,331,000 38,687,000
Furniture and fixtures 2,494,000 3,099,000
--------------- --------------
28,114,000 54,864,000
Less accumulated depreciation
and amortization 5,108,000 10,295,000
--------------- --------------
23,006,000 44,569,000
Construction and purchases in progress 3,329,000 710,000
--------------- --------------
$ 26,335,000 45,279,000
=============== ==============
</TABLE>
The Company recognized depreciation of property, plant and equipment of
$1,103,000, $1,851,000 and $5,448,000 during the years ended May 31, 1997,
1998 and 1999, respectively.
Included in property, plant and equipment are costs of $1,402,000 and
$3,244,000 and related accumulated amortization of $208,000 and $893,000
recorded under capital leases at May 31, 1998 and 1999, respectively.
(7) Notes Receivable from Related Parties
At May 31, 1999, the Company had notes receivable from two individual
entities in which the Company has entered into signed letters of intent to
purchase. The first, which is due on demand subsequent to December 15,
1999, allows for a maximum draw of $1.5 million and bears interest at a
fixed rate of 7.5%. The note had an outstanding balance of $735,000 at May
31, 1999. The second note, which is due on demand, allows for a maximum
draw of $750,000 and bears interest at a fixed rate of 7.5%. The note had
an outstanding balance of $723,000 at May 31, 1999. The Company to which
the second note relates was acquired subsequent to year-end (see note 24).
Each note is secured by substantially all of the assets of the respective
entity. The Company has classified these notes as noncurrent at May 31,
1999.
See note 8 for a discussion of the related party note receivable at May 31,
1998.
57
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(8) Investments
At May 31, 1998 and 1999, the Company held an interest in the common stock,
registered and unregistered shares of a public company of less than 20%.
The investment consists of shares which were purchased on the open market
and shares which were obtained in conjunction with the settlement of
certain outstanding notes receivable from the public company under an April
1998 restructuring agreement. Under the restructuring agreement, the public
company agreed to convert notes, previously issued to the Company by the
public company and its subsidiaries, into shares of the public company
stock at $2.00 per share. In addition, the public company agreed to grant
the Company demand registration rights for those shares and, in the event
of an underwritten public offering, piggyback registration rights, which
will be effective after the earliest of (a) the closing of the public
company's third round of financing, or (b) the first anniversary of the
closing of the restructuring agreement. The Company also agreed to continue
guaranteeing the public company's credit facility of $1.3 million and an
equipment lease of $373,000.
As of May 31, 1998, the Company recorded a temporary unrealized loss,
included in stockholders' equity, on the shares of $436,000. During the
year ended May 31, 1999, the Company determined that the decline of the
stock price was other than a temporary decline in the fair value and
recorded a loss of $4,943,000 which included the previous temporary
unrealized loss and is included in other expense. At May 31, 1999, the
registered shares are valued at the quoted market price while the
unregistered shares are valued at expected net realizable value. In
addition, the Company recorded an allowance for certain expenses and the
guarantee of the public company's line of credit totaling approximately $2
million which has been included in other expense. In the restructuring
agreement, the public company also agreed to purchase certain other notes
and interests of the Company (including warrants and interests in a lawsuit
and bankruptcy action) for a $950,000 promissory note from the public
company. The note accrues interest at 8% per annum, requires interest-only
payments for the first year, and requires fully amortizing monthly payments
of principal plus interest for the final four years of the note. As of May
31, 1999, the Company has not received the scheduled principal or interest
payments as outlined in the note. As a result, the Company has fully
reserved the note and related interest receivable as of May 31, 1999.
Certain of the Company's officers were directors of the public company
through June 1997, and certain of the Company's former directors were also
directors of the public company through January 1998. In addition, certain
officers of the Company were individual shareholders of the public company
until such shares were sold in May 1998. Certain directors and officers of
the Company personally guaranteed certain debt of the public company until
July 1997.
(9) Credit Facility
The Company has a credit facility with a bank consisting of (a) a revolving
working capital line of credit of up to $6,300,000 which expires in
September 1999 (the "Line of Credit"), (b) a capital equipment acquisition
credit facility of up to $2,000,000 which expires in June 2008 (the
"Equipment Line"), and (c) a term loan of approximately $700,000 which
expires in March 2008 (the "Construction Loan"). As of May 31, 1999, the
Equipment Line had an outstanding balance of $1,184,000 and the Line of
Credit and Construction Loan had an outstanding balance of $685,000.
Borrowings under the credit facilities bear interest at variable rates
58
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
ranging from 6.94% to 7.19% at May 31, 1999, and are secured by
inventories, accounts receivable, and certain equipment and building
improvements. The agreement contains restrictive covenants related to
working capital, net worth and debt service coverage. Management believes
the Company is in compliance with these covenants at May 31, 1999.
The Company also has a (pound)4,500,000 line of credit with a bank in the
U.K. which expires in July 1999. Borrowings under the line of credit bear
interest at variable rates (7% at May 31, 1999). At May 31, 1999, there
were no borrowings outstanding on the line of credit.
In connection with the acquisition of ESC, the Company assumed a revolving
working capital line of credit. The outstanding balance at May 31, 1998 was
$1,511,000. Subsequent to May 31, 1998, the line of credit balance was
repaid in full and was not renewed.
(10) Long-Term Debt
Long-term debt at May 31 consists of the following:
<TABLE>
<CAPTION>
1998 1999
------------- -------------
<S> <C> <C>
Industrial revenue bond payable to a bank in monthly installments of
$19,200, including interest at 8.12%, through July 2004 $ 1,108,000 961,000
Note payable to a bank in monthly installments of $7,000, including
interest at LIBOR plus 2% (6.94% at May 31, 1999), with the
remaining principal balance due in full in March 2008 712,000 685,000
Subordinated note payable to the City of Entiat in monthly
installments of $7,300, including interest at 8%, with the
principal balance due in full in May 2001 505,000 457,000
Note payable to bank in monthly principal installments of $5,000 plus
interest at the 30-day commercial paper rate plus 3.25% (8.75% at
May 31, 1999) through March 31, 2003 265,000 205,000
Notes payable to a pension fund and others, with interest at 6.75%,
repaid in full during the year ended May 31, 1999 4,050,000 --
Notes payable to a financing company for certain equipment in
aggregate monthly installments of $58,000, including interest at
9% to 10.9%, with maturity dates through 2004 2,685,000 2,220,000
Other notes payable for vehicles and certain equipment in aggregate
monthly installments of $30,000, including interest at 7.9% to
10.9% with maturity dates through December 2003 761,000 786,000
Note payable to a bank in monthly installments of $10,127, including
interest at LIBOR plus 2.25% (7.19% at May 31, 1999) through June
2008 -- 1,184,000
------------- -------------
10,086,000 6,498,000
Less current portion 1,027,000 1,278,000
-------------- -------------
Long-term debt, net of current portion $ 9,059,000 5,220,000
============== =============
</TABLE>
59
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
The industrial revenue bond agreement and a certain note payable to a bank
require, among other items, that the Company maintain minimum working
capital, tangible net worth and debt to tangible net worth ratios.
Management believes the Company is in compliance with these covenants at
May 31, 1999.
Scheduled principal maturities of long-term debt at May 31, 1999 are as
follows for each of the following fiscal year-ends:
2000 $ 1,278,000
2001 1,083,000
2002 981,000
2003 861,000
2004 601,000
Thereafter 1,694,000
-------------
$ 6,498,000
=============
Long-term debt is secured by substantially all assets of the Company and,
in certain circumstances, through personal guarantees of certain
stockholders.
(11) Senior Subordinated Notes Payable
In July 1998, the Company completed a $75 million debt offering of 11 1/4%
Senior Subordinated Notes (the Notes) due in August 2005 (the Offering).
The Notes are unconditionally guaranteed on a senior subordinated basis by
the Company's U.S. subsidiaries. The net proceeds from the Offering were
used to finance the acquisition of Aeromet.
Interest on the Notes is payable semiannually on February 1 and August 1 of
each year, commencing February 1, 1999. The Notes may be redeemable at the
option of the Company, in whole or in part, on or after August 1, 2003 at
the redemption price as defined in the agreement. In addition, on or before
August 1, 2001, the Company may redeem up to 20% of the Notes at a
redemption price of 111.25% of the principal amount plus accrued and unpaid
interest.
Under provisions of the indenture applicable to the Notes, the Company is
limited in its ability to incur additional indebtedness or issue
Disqualified Capital Stock, pay dividends or make other distributions,
create certain liens on assets, sell certain assets and stock of
subsidiaries, enter into certain transactions with affiliates, and effect
certain mergers and consolidations. The Company is also subject to certain
restrictive covenants and is required to maintain certain financial ratios
in connection with the Notes. Management believes the Company is in
compliance with these covenants at May 31, 1999.
60
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(12) Leasing Arrangements
(a) Capital Leases
The Company leases certain property, plant and equipment under capital
lease agreements that expire at various dates through 2008. Capital
lease obligations are secured by the underlying leased assets.
Aggregate minimum payments to be made under these agreements at May
31, 1999 are as follows for each of the following fiscal year-ends:
2000 $ 475,000
2001 484,000
2002 374,000
2003 316,000
2004 290,000
Thereafter 444,000
-------------
2,383,000
Less amounts representing
interest ranging from 6% to 16% 471,000
-------------
Present value of net minimum
capital lease obligations 1,912,000
Less current portion 297,000
-------------
Capital lease obligations,
less current portion $ 1,615,000
=============
(b) Operating Leases
The Company leases certain property, plant and equipment under
operating lease agreements that expire at various dates through June
2026. Aggregate minimum rental payments to be made under these
agreements at May 31, 1999 are as follows for each of the following
fiscal year-ends:
2000 $ 3,417,000
2001 3,329,000
2002 2,922,000
2003 2,896,000
2004 2,669,000
Thereafter 26,134,000
-------------
$ 41,367,000
=============
61
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
Total rent expense during the years ended May 31, 1997, 1998 and 1999
amounted to $475,000, $788,000 and $3,356,000, respectively.
(13) Convertible Notes
In August 1997, the Company closed a private offering of $5,800,000, before
expenses of $435,000, in convertible promissory notes (the "Convertible
Notes") to two accredited investors. The Company subsequently filed a
registration statement, which was declared effective, registering for
resale up to 1,720,690 shares of common stock issuable upon conversion of
the Convertible Notes. As of May 31, 1998, all of the Convertible Notes had
been converted into 1,405,018 shares of common stock.
(14) Common Stock
In July 1996, the Company conducted a public offering of 2,250,000 units at
a price of $3.125 per unit. At May 31, 1997, 1998 and 1999, all of these
warrants were outstanding. In addition, the Company issued warrants to two
underwriters for the purchase of an additional 225,000 units at $3.75 per
unit. Each unit is composed of one share of the Company's common stock and
a warrant to purchase one share of the Company's common stock. The warrants
entitled the holder to purchase one share of common stock at $4.6875 per
share, exercisable any time through July 2001. The Company incurred a total
of $1,726,000 in costs related to the offering. The costs incurred were
charged against the proceeds of the stock offering in the year ended May
31, 1997. During the year ended May 31, 1998, 45,000 of the underwriter's
warrants were exercised for 45,000 units. No warrants were exercised during
the year ended May 31, 1999.
In November 1997, the Company closed a private offering of $6,408,000,
before expenses of $320,000, in common stock and notes payable to three
accredited investors. The Company subsequently filed a registration
statement, which was declared effective, registering for resale the 524,000
shares of common stock sold in the offering. The outstanding balance of the
notes payable was repaid in full during the year ended May 31, 1999.
In November 1998, the Company sold 2,585,000 shares of its common stock at
$2.00 per share, in a private offering to institutional investors. Proceeds
from the offering totaled $5,170,000 before expenses of $341,000.
(15) Convertible Preferred Stock
(a) Series A Convertible Preferred Stock
In February 1997, the Company sold 50,000 shares of Series A
convertible preferred stock (Series A) in a private placement for
$5,000,000, and incurred related offering costs of $519,000, resulting
in net proceeds of $4,481,000. At May 31, 1998, all of the shares of
Series A had been converted into 1,494,593 shares of common stock.
62
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(b) Series B Convertible Preferred Stock
In May 1998, the Company sold 100,000 shares of Series B convertible
preferred stock (Series B) for $100 per share, and issued warrants to
purchase 138,888 shares of common stock, in a private offering, which
resulted in gross proceeds of $10.0 million, less related offering
costs of $740,000 for net proceeds of $9,260,000. In addition, the
purchasers deposited $7.0 million in an escrow account which,
subsequent to the closing of the purchase of Aeromet, was exchanged by
the Company for 70,000 additional shares of Series B and additional
warrants to purchase 97,221 shares of common stock. Net proceeds to
the Company, subsequent to offering costs of $369,000, were
$6,631,000.
Upon conversion of shares of Series B, the holder will receive the
number of shares of common stock equal to $100 divided by the then
applicable conversion price of the Series B. The conversion price of
the Series B at May 31, 1999 is equal to the lower of (a) $7.20 per
share, or (b) the average of the three lowest closing bid prices per
share of the common stock over the 22 trading days before conversion.
No holder of Series B is entitled to voluntarily convert Series B that
would cause the holder to own more than 9.9% of the Company's total
outstanding common stock at any one time. Any Series B outstanding on
May 2003 will be automatically converted into common stock at the
then-applicable conversion price.
Series B has a liquidation preference equal to the greater of the sum
of $100 per Series B share and any declared but unpaid dividends or
the amount the holder would be entitled to if the Series B were
converted to common stock at the then applicable conversion rate.
Dividends on Series B are based on the discretion of the board of
directors and no dividends on the Series B have been declared or paid
as of May 31, 1999. If a dividend is declared or paid on common stock,
other than in shares of common stock, Series B holders are entitled to
a dividend per share of Series B equal to the amount which would be
received as if the Series B were converted to common stock at the then
applicable conversion rate. The Company may redeem the Series B at a
redemption price of $115 per share under certain circusmtances.
As of May 31, 1999, 8,965 shares of Series B have been converted into
545,114 shares of common stock.
63
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(16) Warrants
The Company periodically issues warrants to purchase common shares in
connection with preferred stock, debt and certain consulting services. A
summary of the Company's warrants, excluding warrants issued in connection
with the public offering in July 1996, is as follows:
<TABLE>
<CAPTION>
Weighted
average price
Warrants of shares
------------- -------------
<S> <C> <C>
Balance at May 31, 1996 and 1997 497,500 $ 4.34
Granted 1,928,888 4.74
Exercised (750,000) 4.61
------------- -------------
Balance at May 31, 1998 1,676,388 4.36
Granted 97,221 7.20
Canceled (1,290,000) 4.62
------------- -------------
Balance at May 31, 1999 483,609 4.24
============= =============
</TABLE>
The following summarizes warrants outstanding, excluding warrants issued in
connection with the public offering in July 1996, at May 31, 1999:
<TABLE>
<CAPTION>
Weighted
average Weighted
Range of remaining average
exercise Number contractual exercise Number
prices outstanding life price exercisable
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
$ 2.00 - 4.00 210,000 3.69 years 2.35 210,000
4.01 - 6.00 37,500 2.00 years 4.80 37,500
6.01 - 8.00 236,109 4.00 years 7.20 236,109
--------------
483,609
==============
</TABLE>
64
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(17) Compensation Plans
(a) Long-Term Investment and Incentive Plan
The Company has a long-term stock investment and incentive plan
(Option Plan) under which directors, officers, key employees and other
key individuals may be awarded stock options, stock appreciation
rights, stock and cash bonuses, restricted stock, or performance
units. Under the Option Plan, the exercise price of options issued is
not less than fair-market value at the date of grant. Options expire
ten years from the grant date.
As of May 31, 1997, 1998 and 1999, the Company had not issued any
stock appreciation rights, stock and cash bonuses, restricted stock,
or performance units under the Option Plan.
As the Company applies APB Opinion No. 25 and related interpretations
in accounting for its Option Plan, no compensation costs have been
recognized for stock options issued to employees. Had compensation
costs for stock options been determined consistent with SFAS No. 123,
the results of the Company would have been adjusted to the pro forma
amounts indicated below:
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Net income (loss):
As reported $ 1,682,000 3,614,000 (12,869,000)
Pro forma 75,000 2,478,000 (14,962,000)
Net income (loss) per share:
As reported:
Basic 0.18 0.29 (0.74)
Diluted 0.17 0.27 (0.74)
Pro forma:
Basic 0.01 0.20 (0.86)
Diluted 0.01 0.18 (0.86)
Shares used in computation of net
income (loss) per share:
Basic 9,499,980 12,486,077 17,359,491
Diluted 10,035,846 13,606,061 17,359,491
</TABLE>
The fair value of the options granted during 1997, 1998 and 1999 is
estimated as $1,853,000, $3,007,000 and $474,340, respectively, using
the Black-Scholes option-pricing model with the following assumptions
on the date of grant: zero percent dividend yield, expected volatility
from 24% to 73%, risk-free interest rate from 5.55% to 6.59%, and
expected lives ranging from 5 to 10 years.
65
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
In December 1998, the Company repriced certain options to purchase
1,466,056 shares to a lower exercise price. The repricing resulted in
additional compensation costs under SFAS No. 123 of $352,000, which
are included in the pro forma amounts disclosed above.
A summary of the Company's Stock Option Plan is as follows:
<TABLE>
<CAPTION>
Shares of common stock
----------------------------- Weighted
Available Options average price
options under plan of shares
------------- ------------- -------------
<S> <C> <C> <C>
Balance at June 1, 1996 854,717 145,283 $ 5.09
Authorized 1,000,000 -- --
Granted (998,333) 998,333 4.53
------------- ------------- -------------
Balance at May 31, 1997 856,384 1,143,616 4.61
Authorized 1,000,000 -- --
Granted (1,112,500) 1,112,500 5.49
Exercised -- (25,000) 2.11
------------- ------------- -------------
Balance at May 31, 1998 743,884 2,231,116 5.09
Granted (1,804,388) 1,804,388 2.51
Expired 30,000 (30,000) 2.00
Canceled 1,466,056 (1,466,056) (3.70)
Terminations 72,500 (72,500) 6.13
------------- ------------- -------------
Balance at May 31, 1999 508,052 2,466,948 $ 3.32
============= ============= =============
</TABLE>
No options were exercised during the years ended May 31, 1997 and
1999.
The following summarizes options outstanding at May 31, 1999:
<TABLE>
<CAPTION>
Options outstanding Options exercisable
--------------------------------------------------- ---------------------------------
Weighted
average Weighted Weighted
Range of remaining average average
exercise Number contractual exercise Number exercise
prices outstanding life price exercisable price
--------------- --------------- --------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C> <C>
$ 2.00 - $4.00 1,859,388 8.42 $ 2.51 1,653,583 $ 2.53
$ 4.01 - $6.00 607,560 7.21 4.69 607,560 4.69
--------------- ---------------
2,466,948 2,261,143
=============== ===============
</TABLE>
66
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(b) Independent Director Stock Plan
The Company has an Independent Director Stock Plan under which
nonemployee directors of the Company are awarded common stock and
stock options of the Company for serving on its board of directors.
The plan authorizes and reserves for issuance a maximum of 500,000
common shares. At May 31, 1999, 420,804 shares were available for
future issuance. During the years ended May 31, 1997 and 1998, 14,400
and 8,559 shares of the Company's common stock, respectively, were
issued under the plan, of which all were vested at May 31, 1999.
During the year ended May 31, 1999, 600 shares and 56,637 options were
issued under the plan. Included in compensation expense are $44,000,
$13,000, and $89,000 for the years ended May 31, 1997, 1998, and 1999,
respectively, resulting from the shares and options issued.
(c) Retirement Plan
The Company maintains a 401(k) plan covering all eligible employees
who meet service requirements as provided in the plan. Company
contributions to the profit-sharing plan are determined annually by
the Board of Directors. No contributions were made by the Company to
the plan during the year ended May 31, 1997. The Company contributed
$27,000 and $48,000 to the plan during the years ended May 31, 1998
and 1999, respectively.
(d) Employee Stock Purchase Plan
The Company has an Employee Stock Purchase Plan under which employees
are eligible to purchase shares of the Company's common stock, through
payroll deductions, at the lower of 85% of the Company's stock price
on the first day of an offering period or 100% of the Company's stock
price on the last day of an offering period. The first offering period
began in November 1998. During the year ended May 31, 1999, 41,942
shares were purchased by employees under the plan.
(18) Other Income and Expense
Included in other income and expense during the year ended May 31, 1999 are
other than temporary unrealized losses related to the Company's investment
in shares of a public company of $4,943,000 as well as allowances totaling
$2,884,000 related to the Company's guarantees of certain debt, a reserve
for the outstanding note receivable and other expenses of the public
company expected to be incurred by the Company. Other income and expense
also includes a net amount of $2,033,000 resulting from the write-off of
costs in excess of net book value of acquired subsidiaries recorded in
conjunction with the acquisition of ESC, and a long-lived asset impairment
charge of $1,150,000 related to certain of ESC's fixed assets.
67
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(19) Income Taxes
Total income tax benefit (expense) is as follows:
<TABLE>
<CAPTION>
1997 1998 1999
------------- ------------- -------------
<S> <C> <C> <C>
Current:
Federal $ (50,000) (593,000) 262,000
Foreign -- -- (1,422,000)
Deferred:
Federal -- 1,075,000 3,799,000
------------- ------------- -------------
Total $ (50,000) 482,000 2,639,000
============= ============= =============
</TABLE>
The domestic and foreign components of income (loss) before income tax
benefit (expense) were as follows:
<TABLE>
<CAPTION>
1997 1998 1999
------------- ------------- -------------
<S> <C> <C> <C>
Domestic $ 1,732,000 3,132,000 (18,992,000)
Foreign -- -- 3,484,000
------------- ------------- -------------
Income (loss) before income
tax benefit (expense) $ 1,732,000 3,132,000 (15,508,000)
============= ============= =============
</TABLE>
Undistributed earnings of the Company's foreign subsidiaries for which no
U.S. income taxes have been provided aggregates approximately $3,700,000 at
May 31, 1999. No provision for foreign withholding or United States Federal
income taxes was made for the undistributed earnings, as it is management's
intention that earnings will be reinvested indefinitely in foreign
operations or will be remitted substantially free of additional taxes.
68
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
A reconciliation of the United States Federal statutory tax rate of 34% and
the Company's effective tax rates of 3%, 15% and 17% in the years ended May
31, 1997, 1998 and 1999, respectively, is as follows:
<TABLE>
<CAPTION>
1997 1998 1999
------------- ------------- -------------
<S> <C> <C> <C>
Computed expected income tax
benefit (expense) $ (588,000) (1,065,000) 5,273,000
Change in valuation allowance 558,000 1,717,000 (2,200,000)
Other (20,000) (170,000) (434,000)
------------- ------------- -------------
$ (50,000) 482,000 2,639,000
============= ============= =============
</TABLE>
Significant components of the Company's deferred tax assets (liabilities)
at May 31 are as follows:
<TABLE>
<CAPTION>
1998 1999
-------------- --------------
<S> <C> <C>
Deferred tax assets:
NOL carryforward $ 1,387,000 4,427,000
Unrealized capital loss -- 1,532,000
Other 641,000 1,550,000
Valuation allowances -- (2,200,000)
-------------- --------------
2,028,000 5,309,000
Deferred tax liabilities - depreciation (1,420,000) (1,034,000)
-------------- --------------
Net deferred tax asset $ 608,000 4,275,000
============== ==============
</TABLE>
The Company has net operating loss (NOLs) carryforwards for U.S. Federal
income tax purposes of approximately $14,000,000, the benefits of which
expire in the tax year 2001 through the tax year 2019.
The NOLs created by the Company's subsidiaries prior to their acquisition
and the NOLs created as a consolidated group or groups subsequent to a
qualifying tax free merger or acquisition, have limitations related to the
amount of usage by each subsidiary or consolidated group as described in
the Internal Revenue Code. As a result of these limitations, approximately
$1,000,000 of the $14,000,000 total NOLs at May 31, 1999 will never become
available.
(20) Earnings Per Share
Basic earnings per share is computed on the basis of the weighted average
number of common shares outstanding. Diluted earnings per share is computed
on the basis of the weighted average number of common shares outstanding,
using the "if-converted" method, and outstanding stock options, using the
"treasury stock" method.
69
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
The components of basic and diluted earnings per share at May 31 were as
follows:
<TABLE>
<CAPTION>
1997 1998 1999
--------------- --------------- ---------------
<S> <C> <C> <C>
Net income (loss) available for common
shareholders $ 1,682,000 3,614,000 (12,869,000)
=============== =============== ===============
Average outstanding shares of common
stock 9,499,980 12,486,077 17,359,491
Dilutive effect of:
Warrants 273,564 853,470 --
Employee stock options 262,302 266,514 --
--------------- --------------- ---------------
Common stock and common stock equivalents 10,035,846 13,606,061 17,359,491
=============== =============== ===============
Earnings (loss) per share:
Basic $ 0.18 0.29 (0.74)
Diluted 0.17 0.27 (0.74)
</TABLE>
(21) Fair Value of Financial Instruments
The Company's financial instruments include cash, receivables, investment,
accounts payable and short and long-term borrowings. The fair value of
these financial instruments approximates their carrying amounts based on
current market indicators, such as prevailing interest rates, with the
exception of the senior subordinated notes payable, which are currently
trading at approximately 75% of face value.
(22) Contingencies
(a) Legal
The Company is currently subject and party to various legal actions
arising in the normal course of business. Management believes the
ultimate liability, if any, arising from such claims or contingencies
is not likely to have a material adverse effect on the Company's
results of operations or financial condition.
In the normal course of business, the Company disposes of potentially
hazardous material which could result in claims related to
environmental cleanup. The Company has not been notified of any
related claims. The Company is subject to various other environmental
and governmental regulations. Although the extent of any noncompliance
with those regulations, if any, is not completely ascertainable,
management believes the ultimate liability is not likely to have a
material adverse effect on the Company's results of operations or
financial condition.
70
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(b) Year 2000
Like most other companies, the Year 2000 computer issue creates risks
for the Company. The Year 2000 issue exists because many computer
programs use two digit rather than four digit date fields to define
the applicable year. As a result, computer equipment and software and
devices with imbedded technology that are time-sensitive may recognize
a date using "00" as the year 1900 rather than the year 2000. This
could result in a system failure or miscalculations causing
disruptions of operations, including, among other things, production
delays and a temporary inability to process transactions, send
invoices, or engage in similar normal business activities. Incomplete
or untimely resolution of the Year 2000 issue by the Company or
critically important suppliers or customers of the Company could have
a materially adverse effect on the Company's business, financial
condition, or results of operations.
(23) Consolidating Condensed Financial Statements
The following statements present consolidating condensed financial
information of the Company for the indicated periods. The Company's senior
subordinated notes, which were used to finance the Aeromet acquisition in
July 1998, have been guaranteed by all of the Company's U.S. wholly owned
subsidiaries. The guarantor subsidiaries have fully and unconditionally
guaranteed this debt on a joint and several basis. This debt is not
guaranteed by the Company's foreign subsidiaries, which consist of Aeromet
and two related holding companies. There are no significant contractual
restrictions on the distribution of funds from the guarantor subsidiaries
to the parent corporation. The consolidating condensed financial
information is presented in lieu of separate financial statements and other
disclosures of the guarantor subsidiaries, as management has determined
that such information is not material to investors.
71
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(a) Consolidating condensed balance sheet information at May 31, 1999 is as
follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Assets Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 1,798,000 39,000 6,297,000 -- 8,134,000
Accounts receivable, net -- 8,723,000 16,661,000 (392,000) 24,992,000
Inventories -- 13,564,000 11,052,000 -- 24,616,000
Other 4,535,000 1,517,000 660,000 (3,516,000) 3,196,000
------------ ------------ ------------- ------------ ------------
Total current assets 6,333,000 23,843,000 34,670,000 (3,908,000) 60,938,000
------------ ------------ ------------- ------------ ------------
Property, plant and equipment, net 6,151,000 21,930,000 17,198,000 -- 45,279,000
------------ ------------ ------------- ------------ ------------
Other assets:
Investment 72,000 -- -- -- 72,000
Costs in excess of net book value
of acquired subsidiaries, net -- 2,717,000 38,335,000 -- 41,052,000
Investment in and loans to subsidiaries 115,099,000 75,000,000 85,000 (190,184,000) --
Other 8,254,000 3,295,000 (163,000) -- 11,386,000
------------ ------------ ------------- ------------ ------------
Total other assets 123,425,000 81,012,000 38,257,000 (190,184,000) 52,510,000
------------ ------------ ------------- ------------ ------------
Total assets $135,909,000 126,785,000 90,125,000 (194,092,000) 158,727,000
============ ============ ============= ============ ============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 180,000 2,542,000 8,154,000 (392,000) 10,484,000
Current portion of long-term debt 138,000 1,140,000 -- -- 1,278,000
Other 5,084,000 1,597,000 7,682,000 (3,516,000) 10,847,000
------------ ------------ ------------- ------------ ------------
Total current liabilities 5,402,000 5,279,000 15,836,000 (3,908,000) 22,609,000
Long-term liabilities:
Long-term debt, net of current portion 76,375,000 3,845,000 -- -- 80,220,000
Intercompany note and loan payable 85,000 61,869,000 37,500,000 (99,454,000) --
Other 28,000 1,105,000 746,000 -- 1,879,000
------------ ------------ ------------- ------------ ------------
Total liabilities 81,890,000 72,098,000 54,082,000 (103,362,000) 104,708,000
------------ ------------ ------------- ------------ ------------
Stockholders' equity:
Convertible preferred stock -- -- -- -- --
Common stock 19,000 58,641,000 35,117,000 (93,758,000) 19,000
Additional paid-in capital 69,276,000 -- -- -- 69,276,000
Accumulated other comprehensive loss (1,140,000) -- (1,136,000) 1,136,000 (1,140,000)
Retained earnings (accumulated deficit) (14,136,000) (3,954,000) 2,062,000 1,892,000 (14,136,000)
------------ ------------ ------------- ------------ ------------
Total stockholders' equity 54,019,000 54,687,000 36,043,000 (90,730,000) 54,019,000
------------ ------------ ------------- ------------ ------------
Total liabilities and stockholders' equity $135,909,000 126,785,000 90,125,000 (194,092,000) 158,727,000
============ ============ ============= ============ ============
</TABLE>
72
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(b) Consolidating condensed balance sheet information at May 31, 1998 is as
follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 9,398,000 2,063,000 -- -- 11,461,000
Accounts receivable, net -- 9,608,000 -- (233,000) 9,375,000
Inventories -- 16,184,000 -- -- 16,184,000
Other 12,000 646,000 -- -- 658,000
------------ ------------ ------------- ------------ ------------
Total current assets 9,410,000 28,501,000 -- (233,000) 37,678,000
------------ ------------ ------------- ------------ ------------
Property, plant and equipment, net 3,464,000 22,871,000 -- -- 26,335,000
------------ ------------ ------------- ------------ ------------
Other assets:
Investment 4,579,000 -- -- -- 4,579,000
Costs in excess of net book value
of acquired subsidiaries, net -- 6,515,000 -- -- 6,515,000
Investment in subsidiaries 21,452,000 -- -- (21,452,000) --
Intercompany note and loan receivable 19,764,000 -- -- (19,764,000) --
Other 3,186,000 287,000 -- -- 3,473,000
------------ ------------ ------------- ------------ ------------
Total other assets 48,981,000 6,802,000 -- (41,216,000) 14,567,000
------------ ------------ ------------- ------------ ------------
Total assets $ 61,855,000 58,174,000 -- (41,449,000) 78,580,000
============ ============ ============= ============ ============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 927,000 6,054,000 -- (233,000) 6,748,000
Current portion of long-term debt 24,000 1,003,000 -- -- 1,027,000
Other 635,000 3,669,000 -- -- 4,304,000
------------ ------------ ------------- ------------ ------------
Total current liabilities 1,586,000 10,726,000 -- (233,000) 12,079,000
Long-term liabilities:
Long-term debt, net of current portion 4,127,000 4,932,000 -- -- 9,059,000
Intercompany note and loan payable -- 19,764,000 -- (19,764,000) --
Other -- 1,300,000 -- -- 1,300,000
------------ ------------ ------------- ------------ ------------
Total liabilities 5,713,000 36,722,000 -- (19,997,000) 22,438,000
------------ ------------ ------------- ------------ ------------
Stockholders' equity:
Convertible preferred stock -- -- -- -- --
Common stock 15,000 -- -- -- 15,000
Additional paid-in capital 57,830,000 21,546,000 -- (21,546,000) 57,830,000
Accumulated other comprehensive loss (436,000) -- -- -- (436,000)
Retained earnings (accumulated deficit) (1,267,000) (94,000) -- 94,000 (1,267,000)
------------ ------------ ------------- ------------ ------------
Total stockholders' equity 56,142,000 21,452,000 -- (21,452,000) 56,142,000
------------ ------------ ------------- ------------ ------------
Total liabilities and stockholders' equity $ 61,855,000 58,174,000 -- (41,449,000) 78,580,000
============ ============ ============= ============ ============
</TABLE>
73
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(c) Consolidating condensed statement of operations information for the year
ended May 31, 1999 is as follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Net sales $ -- 56,675,000 52,814,000 (2,123,000) 107,366,000
Cost of sales -- 45,942,000 42,275,000 (2,123,000) 86,094,000
------------ ------------ ------------- ------------ ------------
Gross profit -- 10,733,000 10,539,000 -- 21,272,000
Operating expenses 4,367,000 11,463,000 3,556,000 (2,078,000) 17,308,000
------------ ------------ ------------- ------------ ------------
Income (loss) from operations (4,367,000) (730,000) 6,983,000 2,078,000 3,964,000
Other income (expense):
Parent's share of subsidiaries net loss (1,800,000) -- -- 1,800,000 --
Interest expense (8,050,000) (622,000) (3,516,000) 3,516,000 (8,672,000)
Other (727,000) (4,496,000) 17,000 (5,594,000) (10,800,000)
------------ ------------ ------------- ------------ ------------
Total other expense (10,577,000) (5,118,000) (3,499,000) (278,000) (19,472,000)
------------ ------------ ------------- ------------ ------------
Income (loss) before income taxes (14,944,000) (5,848,000) 3,484,000 1,800,000 (15,508,000)
Income tax benefit (expense) 2,075,000 1,986,000 (1,422,000) -- 2,639,000
------------ ------------ ------------- ------------ ------------
Net income (loss) (12,869,000) (3,862,000) 2,062,000 1,800,000 (12,869,000)
Other comprehensive income (loss):
Foreign currency translation, net of tax (4,000) -- (1,136,000) -- (1,140,000)
Valuation of available for sale securities 436,000 -- -- -- 436,000
------------ ------------ ------------- ------------ ------------
Total other comprehensive income (loss) 432,000 -- (1,136,000) -- (704,000)
------------ ------------ ------------- ------------ ------------
Comprehensive income (loss) $(12,437,000) (3,862,000) 926,000 1,800,000 (13,573,000)
============ ============ ============= ============ ============
</TABLE>
74
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(d) Consolidating condensed statement of operations information for the year
ended May 31, 1998 is as follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Net sales $ -- 54,968,000 -- (869,000) 54,099,000
Cost of sales -- 40,356,000 -- (869,000) 39,487,000
------------ ------------ ------------- ------------ ------------
Gross profit -- 14,612,000 -- -- 14,612,000
Operating expenses 2,378,000 9,373,000 -- (1,879,000) 9,872,000
------------ ------------ ------------- ------------ ------------
Income (loss) from operations (2,378,000) 5,239,000 -- 1,879,000 4,740,000
Other income (expense):
Parent's share of subsidiaries net income 4,778,000 -- -- (4,778,000) --
Interest expense (380,000) (485,000) -- -- (865,000)
Other 995,000 141,000 -- (1,879,000) (743,000)
------------ ------------ ------------- ------------ ------------
Total other income (expense) 5,393,000 (344,000) -- (6,657,000) (1,608,000)
------------ ------------ ------------- ------------ ------------
Income before income taxes 3,015,000 4,895,000 -- (4,778,000) 3,132,000
Income tax benefit (expense) 599,000 (117,000) -- -- 482,000
------------ ------------ ------------- ------------ ------------
Net income 3,614,000 4,778,000 -- (4,778,000) 3,614,000
Other comprehensive loss - valuation of
available-for-sale securities (436,000) -- -- -- (436,000)
------------ ------------ ------------- ------------ ------------
Comprehensive income $ 3,178,000 4,778,000 -- (4,778,000) 3,178,000
============ ============ ============= ============ ============
</TABLE>
75
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(e) Consolidating condensed statement of operations information for the year
ended May 31, 1997 is as follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Net sales $ -- 34,774,000 -- (599,000) 34,175,000
Cost of sales -- 26,615,000 -- (646,000) 25,969,000
------------ ------------ ------------- ------------ ------------
Gross profit -- 8,159,000 -- 47,000 8,206,000
Operating expenses 1,346,000 6,216,000 -- (1,303,000) 6,259,000
------------ ------------ ------------- ------------ ------------
Income (loss) from operations (1,346,000) 1,943,000 -- 1,350,000 1,947,000
Other income (expense):
Parent's share of subsidiaries net income 1,691,000 -- -- (1,691,000) --
Interest expense (82,000) (428,000) -- -- (510,000)
Other 1,415,000 230,000 -- (1,350,000) 295,000
------------ ------------ ------------- ------------ ------------
Total other income (expense) 3,024,000 (198,000) -- (3,041,000) (215,000)
------------ ------------ ------------- ------------ ------------
Income before income taxes 1,678,000 1,745,000 -- (1,691,000) 1,732,000
Income tax benefit (expense) 4,000 (54,000) -- -- (50,000)
------------ ------------ ------------- ------------ ------------
Net income 1,682,000 1,691,000 -- (1,691,000) 1,682,000
Other comprehensive income -- -- -- -- --
------------ ------------ ------------- ------------ ------------
Comprehensive income $ 1,682,000 1,691,000 -- (1,691,000) 1,682,000
============ ============ ============= ============ ============
</TABLE>
76
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(f) Consolidating condensed statement of cash flows information for the year
ended May 31, 1999 is as follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Cash flow from operating activities - net cash
provided by (used in) operating activities $ (6,795,000) 696,000 3,927,000 1,800,000 (372,000)
------------ ------------ ------------- ------------ ------------
Cash flow from investing activities:
Acquisition of property, plant and equipment (2,471,000) (4,013,000) (1,556,000) -- (8,040,000)
Investment in and loans to subsidiaries (69,752,000) (75,000,000) (75,000,000) 150,000,000 (69,752,000)
Other changes, net (6,401,000) 76,000 (85,000) 4,928,000 (1,482,000)
------------ ------------ ------------- ------------ ------------
Net cash used in investing activities (78,624,000) (78,937,000) (76,641,000) 154,928,000 (79,274,000)
------------ ------------ ------------- ------------ ------------
Cash flow from financing activities:
Proceeds from long-term debt, senior subordinated
notes and convertible notes, net 72,160,000 37,500,000 37,500,000 (75,000,000) 72,160,000
Payments on long-term debt and capital leases (4,154,000) (1,548,000) (50,000) -- (5,752,000)
Proceeds from sale of common stock, net 4,898,000 37,500,000 37,500,000 (75,000,000) 4,898,000
Proceeds from sale of preferred stock, net 6,630,000 -- -- -- 6,630,000
Other changes, net (1,715,000) 2,765,000 4,167,000 (6,728,000) (1,511,000)
------------ ------------ ------------- ------------ ------------
Net cash provided by financing activities 77,819,000 76,217,000 79,117,000 (156,728,000) 76,425,000
------------ ------------ ------------- ------------ ------------
Net change in cash and cash equivalents (7,600,000) (2,024,000) 6,403,000 -- (3,221,000)
Cash and cash equivalents at beginning of year 9,398,000 2,063,000 -- -- 11,461,000
Effect of exchange rates on cash -- -- (106,000) -- (106,000)
------------ ------------ ------------- ------------ ------------
Cash and cash equivalents at end of year $ 1,798,000 39,000 6,297,000 -- 8,134,000
============ ============ ============= ============ ============
Supplemental cash flow:
Noncash operating expenses related to:
Depreciation $ 192,000 2,951,000 2,326,000 -- 5,469,000
Amortization -- 392,000 844,000 -- 1,236,000
Cash paid during the year for:
Interest 4,870,000 413,000 13,000 -- 5,296,000
Federal income taxes 100,000 -- 311,000 -- 411,000
Acquisition of subsidiaries:
Fair value of assets acquired and resulting
goodwill, excluding cash 86,593,000 -- -- -- 86,593,000
Liabilities assumed 16,811,000 -- -- -- 16,811,000
Noncash investing and financing activities:
Seller financed acquisition of property, plant
and equipment 241,000 -- -- -- 241,000
Reclassification of property, plant and
equipment to other assets -- 1,217,000 -- -- 1,217,000
============ ============ ============= ============ ============
</TABLE>
77
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(g) Consolidating condensed statement of cash flows information for the year
ended May 31, 1998 is as follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Cash flow from operating activities - net cash
provided by operating activities $ 4,023,000 2,349,000 -- (4,778,000) 1,594,000
------------ ------------ ------------- ------------ ------------
Cash flow from investing activities:
Acquisition of property, plant and equipment (3,010,000) (3,499,000) -- -- (6,509,000)
Acquisition of subsidiaries (4,318,000) -- -- -- (4,318,000)
Other changes, net (14,085,000) 125,000 -- 8,082,000 (5,878,000)
------------ ------------ ------------- ------------ ------------
Net cash used in investing activities (21,413,000) (3,374,000) -- 8,082,000 (16,705,000)
------------ ------------ ------------- ------------ ------------
Cash flow from financing activities:
Proceeds from long-term debt and convertible notes 9,590,000 535,000 -- -- 10,125,000
Payments on long-term debt and capital leases (125,000) (1,378,000) -- -- (1,503,000)
Proceeds from sale of common stock, net 2,223,000 -- -- -- 2,223,000
Proceeds from sale of preferred stock, net 9,260,000 -- -- -- 9,260,000
Other changes, net 3,777,000 2,946,000 -- (3,304,000) 3,419,000
------------ ------------ ------------- ------------ ------------
Net cash provided by financing activities 24,725,000 2,103,000 -- (3,304,000) 23,524,000
------------ ------------ ------------- ------------ ------------
Net change in cash and cash equivalents 7,335,000 1,078,000 -- -- 8,413,000
Cash and cash equivalents at beginning of year 2,063,000 985,000 -- -- 3,048,000
------------ ------------ ------------- ------------ ------------
Cash and cash equivalents at end of year $ 9,398,000 2,063,000 -- -- 11,461,000
============ ============ ============= ============ ============
Supplemental cash flow:
Noncash operating expenses related to:
Depreciation $ 34,000 1,874,000 -- -- 1,908,000
Amortization -- 296,000 -- -- 296,000
Cash paid during the year for:
Interest 17,000 695,000 -- -- 712,000
Federal income taxes 521,000 -- -- -- 521,000
Acquisition of subsidiaries:
Fair value of assets acquired and resulting
goodwill, excluding cash 10,034,000 -- -- -- 10,034,000
Liabilities assumed 3,925,000 -- -- -- 3,925,000
Common stock issued 6,109,000 -- -- -- 6,109,000
Noncash investing and financing activities:
Seller financed acquisition of property,
plant and equipment -- 3,336,000 -- -- 3,336,000
Conversion of notes and accrued interest
to common stock 5,519,000 -- -- -- 5,519,000
Restructuring of certain notes receivable
for an investment in common stock 6,053,000 -- -- -- 6,053,000
Other noncash investing and financing
activities, net 750,000 139,000 -- -- 889,000
============ ============ ============= ============ ============
</TABLE>
78
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(h) Consolidating condensed statement of cash flows information for the year
ended May 31, 1997 is as follows:
<TABLE>
<CAPTION>
Guarantor Non-guarantor
Parent subsidiaries subsidiaries Eliminations Consolidated
------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Cash flow from operating activities - net cash
provided by operating activities $ 1,474,000 5,000 -- (1,691,000) (212,000)
------------ ------------ ------------- ------------ ------------
Cash flow from investing activities:
Acquisition of property, plant and equipment (9,000) (2,091,000) -- -- (2,100,000)
Other changes, net (9,622,000) 58,000 -- 9,652,000 88,000
------------ ------------ ------------- ------------ ------------
Net cash used in investing activities (9,631,000) (2,033,000) -- 9,652,000 (2,012,000)
------------ ------------ ------------- ------------ ------------
Cash flow from financing activities:
Proceeds from long-term debt and convertible notes -- 237,000 -- -- 237,000
Payments on long-term debt and capital leases (94,000) (5,592,000) -- -- (5,686,000)
Proceeds from sale of common stock, net 5,739,000 -- -- -- 5,739,000
Proceeds from sale of preferred stock, net 4,481,000 -- -- -- 4,481,000
Other changes, net (224,000) 7,961,000 -- (7,961,000) (224,000)
------------ ------------ ------------- ------------ ------------
Net cash provided by financing activities 9,902,000 2,606,000 -- (7,961,000) 4,547,000
------------ ------------ ------------- ------------ ------------
Net change in cash and cash equivalents 1,745,000 578,000 -- -- 2,323,000
Cash and cash equivalents at beginning of year 318,000 407,000 -- -- 725,000
------------ ------------ ------------- ------------ ------------
Cash and cash equivalents at end of year $ 2,063,000 985,000 -- -- 3,048,000
============ ============ ============= ============ ============
Supplemental cash flow:
Noncash operating expenses related to:
Depreciation $ -- 1,290,000 -- -- 1,290,000
Amortization -- 68,000 -- -- 68,000
Cash paid during the year for:
Interest 70,000 543,000 -- -- 613,000
Federal income taxes -- 18,000 -- -- 18,000
Acquisition of subsidiaries:
Fair value of assets acquired and resulting
goodwill, excluding cash 1,928,000 -- -- -- 1,928,000
Liabilities assumed 482,000 -- -- -- 482,000
Common stock issued 1,446,000 -- -- -- 1,446,000
Noncash investing and financing activities:
Seller financed acquisition of property,
plant and equipment -- 639,000 -- -- 639,000
Other noncash investing and financing
activities, net -- 35,000 -- -- 35,000
============ ============ ============= ============ ============
</TABLE>
79
<PAGE>
PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
May 31, 1998 and 1999
(continued)
(i) Inventory Information at May 31 is as follows:
<TABLE>
<CAPTION>
1998 1999
-------------- --------------
<S> <C> <C>
Guarantor subsidiaries
Raw materials $ 5,789,000 5,074,000
Work in progress 5,683,000 3,788,000
Finished goods 4,712,000 4,702,000
-------------- --------------
16,184,000 13,564,000
-------------- --------------
Non-guarantor subsidiaries:
Raw materials -- 2,300,000
Work in progress -- 7,690,000
Finished goods -- 1,062,000
-------------- --------------
-- 11,052,000
-------------- --------------
Total inventory $ 16,184,000 24,616,000
============== ==============
</TABLE>
(24) Subsequent Events
On June 1, 1999, the Company acquired all of the stock of Skagit
Engineering & Manufacturing, Inc. for $1.3 million in cash. The Company
also entered into a letter of intent to acquire Nova-Tech Engineering, Inc.
(Nova-Tech) and expects that the purchase price will consist of
approximately $2.7 million in cash and $250,000 in stock. The Company
expects that the definitive stock purchase agreement will contain
conditions to closing, including receipt of a letter ruling from the
Internal Revenue Service that is necessary to permit Nova-Tech's Employee
Stock Ownership Plan to sell its Nova-Tech stock on the terms anticipated.
The Company is providing services to Nova-Tech under an Operating Agreement
dated April 23, 1999. As of May 31, 1999, the Company had loaned $735,000
to Nova-Tech for working capital. As of August 19, 1999, the Company had
loaned Nova-Tech an additional $1,365,000. These loans have been made under
the terms of two demand notes dated April 26, 1999 and August 5, 1999, each
of which is secured by substantially all of the assets of Nova-Tech.
80
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On April 17, 1998, the appointment of Moss Adams LLP, the Company's previous
principal independent accountant, was terminated, and KPMG LLP was engaged, as
the Company's principal independent accountant. The decision to change principal
independent accountants was approved by the Finance and Audit Committee of the
Company's Board of Directors.
In connection with the audit for the fiscal year ended May 31, 1997, and the
subsequent interim period through April 17, 1998:
(a) the report of Moss Adams LLP contained no adverse opinion or disclaimer
of opinion, or modification as to uncertainty, audit scope or accounting
principles; and
(b) there were no disagreements with Moss Adams LLP on any matter of
accounting principles or practices, financial statement disclosure, or auditing
scope or procedures, which, if not resolved to the satisfaction of Moss Adams
LLP, would have caused it to make reference to the subject matter of the
disagreement in connection with its reports.
81
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Directors and Executive Officers
The following table sets forth information as of August 24, 1999, regarding the
directors and executive officers of the Company.
<TABLE>
<CAPTION>
Name Age Position with Company
- --------------------------------------------------------------------------------
<S> <C> <C>
Donald A. Wright 47 Chairman of the Board, Chief Executive
Officer and President
Werner Hafelfinger 53 Chief Operating Officer, Vice President
Operations, Director
Nick A. Gerde 54 Chief Financial Officer, Vice President
Finance, Treasurer and Assistant Secretary
Sheryl A. Symonds 44 Vice President Administration, General
Counsel and Secretary
Allen W. Dahl, M.D. 71 Director
Dale L. Rasmussen 49 Director
Robert M. Stemmler 64 Director
William A. Wheeler 65 Director
</TABLE>
Donald A. Wright. Donald A. Wright has been the Chairman of the Board, Chief
Executive Officer and President of the Company since February 1995, and of its
predecessors since 1990. Mr. Wright is also an officer and director of each of
the Company's operating subsidiaries.
Werner Hafelfinger. Werner Hafelfinger has been a director of the Company since
August 17, 1998. Mr. Hafelfinger has been Vice President Operations and Chief
Operating Officer of the Company since March 1999. Mr. Hafelfinger was employed
by St. Jude Medical (Cardiac Rhythm Management Division), a manufacturer of
implantable medical devices, from 1984 until February 1999, where he served as
Vice President of Global Manufacturing.
Nick A. Gerde. Nick A. Gerde has been the Vice President Finance and Chief
Financial Officer of the Company since February 1995. He has been the Treasurer
of the Company since August 1996, and Assistant Secretary since November 1996.
Mr. Gerde is also an officer and director of each of the Company's operating
subsidiaries. Mr. Gerde served as a Business Development Specialist with the
Economic Development Council of North Central Washington from July 1993 to June
1994, and as Vice President of Televar Northwest, Inc. (formerly a subsidiary of
Orca Technologies, Inc.) from July 1994 to February 1995.
Sheryl A. Symonds. Sheryl A. Symonds has been the Vice President Administration
and General Counsel of the Company since September 1997. Prior to joining the
Company, Ms. Symonds was a partner at Stoel Rives LLP, currently the Company's
primary outside legal counsel. Ms. Symonds joined Stoel Rives LLP in 1985 and
became a partner in 1992. Ms. Symonds has been Secretary of the Company since
August 1996 and is also Secretary of each of the Company's operating
subsidiaries.
82
<PAGE>
Allen W. Dahl. Dr. Allen W. Dahl has been a director of the Company since
February 1995, and of its predecessors since September 1994. Dr. Dahl is retired
from practice as a physician in the Puget Sound region of Washington.
Dale L. Rasmussen. Dale L. Rasmussen has been a director of the Company since
June 1997. Mr. Rasmussen has been employed as the Senior Vice President and
Secretary of IMPCO Technologies, Inc. since 1989.
Robert M. Stemmler. Robert M. Stemmler has been a director of the Company since
May 14, 1999. Mr. Stemmler has been the Chairman, CEO and President of IMPCO
Technologies, Inc. since 1993.
William A. Wheeler. William A. Wheeler has been a director of the Company since
June 1997. Mr. Wheeler retired from Dowty Aerospace Yakima in May 1997, where he
served as President, Chief Executive Officer and Chairman of the Board of
Directors since 1979.
Other Significant Employees
Lewis L. Wear. Lewis L. Wear, 58, has been President of the U.S. Electronics
Group since August 1996 and President of Pacific Coast Technologies, Inc. since
February 1996. He also has been Vice President of Ceramic Devices since October
1997, President of NTI since April 1997, President of Balo since February 1998,
and President of ESC since October 1998. Prior to November 1995, Mr. Wear was
Vice President of Operations for Vacuum Atmospheres, a division of WEMS, Inc.
Duncan Crighton. Duncan Crighton, 63, has been Chief Executive Officer of
Aeromet since March 1997 and became President of the Company's European
Aerospace Group upon closing of the Aeromet Acquisition. Mr. Crighton served as
Managing Director of Aeromet's predecessor, Kent Aerospace Castings plc, from
1990 through 1995, and as a management consultant to Aeromet from 1995 to
February 1997.
Board of Directors
Committees. The Board of Directors has a number of committees, as follows:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------
Committee Function Current Members
- --------------------------- ---------------------------------------------------- ----------------
<S> <C> <C>
Option Committee Administers the Company's Amended and Restated Dr. Dahl
Stock Incentive Plan. Mr. Rasmussen
Mr. Stemmler
- --------------------------- ---------------------------------------------------- ----------------
Finance and Audit Reviews the Company's accounting policies, Mr. Rasmussen
Committee practices, internal accounting controls and Mr. Hafelfinger
financial reporting. Also oversees engagement Mr. Wheeler
of the Company's independent auditors and
monitors management implementation of the
recommendations and findings of the Company's
independent auditors.
- --------------------------- ---------------------------------------------------- ----------------
Compensation Committee Establishes salaries, incentives and other Mr. Wheeler
compensation for the chief executive officer, Dr. Dahl
chief operating officer, chief financial Mr. Rasmussen
officer, general counsel, subsidiary presidents
and other key employees of the Company and its
subsidiaries. Also administers policies
relating to compensation and benefits,
including the Amended and Restated Independent
Director Stock Plan and the Employee Stock
Purchase Plan.
- --------------------------- ---------------------------------------------------- ----------------
Nominating Committee Recommends individuals to be presented to the Mr. Wright
shareholders for election or reelection to the Mr. Rasmussen
Board of Directors. Mr. Stemmler
- -------------------------------------------------------------------------------------------------
</TABLE>
83
<PAGE>
Tenure. Directors of the Company hold office until the next annual meeting of
the Company's shareholders and until their successors have been elected and duly
qualified. The Board of Directors appoints the Company's executive officers at
the first Board meeting after each annual meeting of shareholders. Executive
officers hold office at the pleasure of the Board of Directors.
Compensation. Under the Company's Amended and Restated Independent Director
Stock Plan, each non-employee director of the Company receives an initial award
of options to purchase 2,500 shares of Common Stock when that director is first
elected and an annual award of options to purchase 10,000 shares of Common
Stock. In addition, non-employee directors receive $1,000 in cash per year for
each committee on which they serve, and an additional $500 in cash per year for
serving as chairperson of a committee. The Board may elect to pay any of the
cash fees in shares of Common Stock. See "Executive Compensation - Benefit Plans
- - Independent Director Stock Plan." All directors are reimbursed for reasonable
travel and other out-of-pocket expenses incurred in attending meetings of the
Board of Directors.
Section 16(a) Beneficial Ownership Reporting Compliance
Based solely on a review of Forms 3, 4 and 5 and amendments thereto
furnished to the Company pursuant to Rule 16a-3(e) during its most recent fiscal
year, and on written representations of the Company's officers, directors, or
principal shareholders ("Reporting Persons") that no other reports were
required, the Company believes that, during the fiscal year ended May 31, 1999,
the Reporting Persons complied in all material respects with all applicable
filing requirements under Section 16(a) of the Exchange Act.
84
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
Summary Compensation Table
The following table sets forth in summary form the compensation paid by the
Company to the Chief Executive Officer and to the Company's three most highly
compensated executive officers (the "Named Executives") for services in all
capacities to the Company for the last three fiscal years:
<TABLE>
<CAPTION>
Long-Term
Compensation
Annual ------------------
Compensation Securities
Fiscal ------------ Underlying Other Annual
Name and Principal Position Year Salary($) Options/SARs(#)(1) Compensation($)
- --------------------------- ------ ------------ ------------------ ---------------
<S> <C> <C> <C> <C>
Donald A. Wright 1999 247,551 1,000,000 (2) 5,547 (3)
CEO and President 1998 192,000 650,000 (4) 4,800 (5)
1997 160,000 920,000 (6) 400 (5)
Werner Hafelfinger 1999 (7) 33,654 50,000 (8) 600 (5)
COO, VP Operations
Nick A. Gerde 1999 130,000 116,056 (2) 2,400 (5)
CFO, VP Finance, 1998 100,000 75,000 (4) 2,400 (5)
Treasurer and 1997 84,160 38,333 (4) --
Assistant Secretary
Sheryl A. Symonds 1999 160,973 160,000 (2) --
VP Administration, 1998 (9) 105,000 160,000 (4) --
General Counsel and
Secretary
- --------------
(1) Represents options to purchase shares of Common Stock.
(2) Represents repricing of previously granted options. On December 4, 1998,
the Board of Directors approved the repricing of outstanding options under
the Company's Amended and Restated Stock Incentive Plan. See "- Ten-Year
Option Repricings." For purposes of this table, repriced options are
considered to be option grants and, therefore, are required to be included
in the table as options granted in fiscal 1999. Other than repricing of
options, no options were granted to Mr. Wright, Mr. Gerde, or Ms. Symonds
during fiscal 1999.
(3) Represents estimated value of the personal use of Company vehicles ($4,800)
and premiums on $2 million of key-man life insurance denoting Mr. Wright's
spouse as beneficiary.
(4) These options were repriced in fiscal 1999, and the entire balance is also
included in this table as options granted during fiscal 1999. See footnote
(2) above.
(5) Represents estimated value of the personal use of a Company vehicle.
(6) 257,440 of these options were repriced in fiscal 1999 and are also included
as part of the total shown in this table as options granted during fiscal
1999. See footnote (2) above.
(7) Represents the compensation received by Mr. Hafelfinger during the three
months he was employed by the Company in fiscal year 1999.
(8) Does not include options to purchase 10,000 shares granted to Mr.
Hafelfinger in October 1998 under the Amended and Restated Independent
Director Stock Plan, when Mr. Hafelfinger was a non-employee director of
the Company.
(9) Represents the compensation received by Ms. Symonds during the nine months
she was employed by the Company in fiscal year 1998.
</TABLE>
85
<PAGE>
Option Grants Table
The following table sets forth information on grants of stock options by the
Company during the year ended May 31, 1999 to the Named Executives:
<TABLE>
<CAPTION>
Securities % of Total
Underlying Options Granted Exercise or Grant Date
Options Granted to Employees in Base Price Expiration Present
Name (#) Fiscal Year(1) ($/Share) Date Value (2)($)
---- --------------- --------------- ------------ ---------- ------------
<S> <C> <C> <C> <C> <C>
Donald A. Wright (3) 97,560 5.5% $ 2.5313 10/30/05 177,316
15,000 * $ 2.5313 11/28/05 27,404
237,440 13.4% $ 2.5313 07/15/06 450,520
275,000 15.5% $ 2.5313 02/09/08 554,142
375,000 21.2% $ 2.5313 05/28/08 760,472
Werner Hafelfinger (4) 50,000 2.8% $ 2.5313 3/1/09 85,796
Nick A. Gerde (3) 24,390 1.4% $ 2.5313 10/30/05 44,329
8,333 * $ 2.5313 11/28/05 15,224
8,333 * $ 2.5313 05/21/07 16,330
15,000 * $ 2.5313 06/02/07 29,396
25,000 1.4% $ 2.5313 02/09/08 50,377
35,000 2.0% $ 2.5313 05/28/08 70,977
Sheryl A. Symonds (3) 75,000 4.2% $ 2.5313 07/18/07 147,525
50,000 2.8% $ 2.5313 02/09/08 100,753
35,000 2.0% $ 2.5313 05/28/08 70,977
- --------------
* Less than 1%
(1) The denominator includes (i) options to purchase a total of 1,466,056
shares of Common Stock that were granted prior to fiscal 1999 and repriced
in fiscal 1999 (see "- Ten-Year Option Repricings"), plus (ii) new options
to purchase an additional 303,332 shares of Common Stock that were granted
during fiscal 1999.
(2) Although the Company believes that it is not possible to place a value on
an option, in accordance with the rules of the SEC, the Company has used a
Black-Scholes model of option valuation to estimate grant date present
value. The actual value realized, if any, may vary significantly from the
values estimated by this model. Any future values realized will ultimately
depend upon the excess of the stock price over the exercise price on the
date the option is exercised. The assumptions used to estimate the grant
date present value of this option were: volatility (71.86%); risk-free rate
of return (6%); dividend yield (0%); and time of exercise (remaining life
6.8 to 10 years).
(3) These options represent options that were granted in previous years and
repriced in fiscal 1999. Other than repricing of options, no options were
granted to Mr. Wright, Mr. Gerde, or Ms. Symonds during fiscal 1999. See "-
Ten-Year Option Repricings."
(4) Does not include options to purchase 10,000 shares granted to Mr.
Hafelfinger in October 1998 under the Amended and Restated Independent
Director Stock Plan, when Mr. Hafelfinger was a non-employee director of
the Company.
</TABLE>
86
<PAGE>
Aggregated Options and Fiscal Year-End Option Values
The following table summarizes the aggregate stock options and warrants, and
their market values at May 31, 1999, held by the Named Executives:
<TABLE>
<CAPTION>
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money Options
Options at FY-end(#) at FY-end($)(1)
-------------------------- --------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
---- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C>
Donald A. Wright 1,764,010 18,550 -- --
Werner Hafelfinger (2) 50,000 -- -- --
Nick A. Gerde 161,300 9,756 -- --
Sheryl A. Symonds 160,000 -- -- --
(1) No options or warrants held by the Named Executives had exercise prices of
less than $1.6875 per share, the closing price of the Common Stock on May
28, 1999.
(2) Does not include options to purchase 10,000 shares granted to Mr.
Hafelfinger in October 1998 under the Amended and Restated Independent
Director Stock Plan, when Mr. Hafelfinger was a non-employee director of
the Company.
</TABLE>
Ten-Year Option Repricings
In December 1998, the Board of Directors made a determination that underwater
stock options held by employees of the Company should be repriced to reflect the
then-current market value of the Company's Common Stock. Consequently, on
December 4, 1998, all outstanding stock options with exercise prices over
$2.5313 per share held by employees of the Company were repriced to have an
exercise price of $2.5313 per share, which was the closing sale price of the
Common Stock on that date, except that the repricing of Mr. Wright's options was
limited to options to purchase 1,000,000 shares.
The following table sets forth information on repricing of stock options by the
Company during the year ended May 31, 1999 to the Named Executives:
<TABLE>
<CAPTION>
Market Length of
Number of Price of Original
Securities Common Exercise Option Term
Underlying Stock at Price at New Remaining at
Options Time of Time of Exercise Date of
Name and Position Date Repriced Repricing Repricing Price Repricing
- ----------------- ------- ----------- ----------- --------- -------- ------------
<S> <C> <C> <C> <C> <C> <C>
Donald A. Wright 12/4/98 97,560 $ 2.5313 $ 5.1250 $ 2.5313 7 years
Chairman of the Board, 12/4/98 15,000 $ 2.5313 $ 4.8750 $ 2.5313 7 years
Chief Executive Officer 12/4/98 237,440 $ 2.5313 $ 4.6875 $ 2.5313 8 years
and President 12/4/98 275,000 $ 2.5313 $ 4.7200 $ 2.5313 10 years
12/4/98 375,000 $ 2.5313 $ 6.1300 $ 2.5313 10 years
Nick A. Gerde 12/4/98 24,390 $ 2.5313 $ 5.1250 $ 2.5313 7 years
Chief Financial Officer, 12/4/98 8,333 $ 2.5313 $ 4.8750 $ 2.5313 7 years
Vice President Finance, 12/4/98 8,333 $ 2.5313 $ 2.8750 $ 2.5313 9 years
Treasurer, and 12/4/98 15,000 $ 2.5313 $ 3.0000 $ 2.5313 9 years
Assistant Secretary 12/4/98 25,000 $ 2.5313 $ 4.7200 $ 2.5313 10 years
12/4/98 35,000 $ 2.5313 $ 6.1300 $ 2.5313 10 years
Sheryl A. Symonds 12/4/98 75,000 $ 2.5313 $ 4.000 $ 2.5313 9 years
Vice President Administration, 12/4/98 50,000 $ 2.5313 $ 4.7200 $ 2.5313 10 years
General Counsel and Secretary 12/4/98 35,000 $ 2.5313 $ 6.1300 $ 2.5313 10 years
</TABLE>
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<PAGE>
Employment Agreements
The Company has entered into employment agreements with each of the Named
Executives. The employment agreements employ Mr. Wright through fiscal 2003, and
employ Mr. Hafelfinger, Mr. Gerde, and Ms. Symonds through fiscal 2002. The
employment agreements provide for an annual salary in fiscal 2000 of $292,008,
$175,000, $140,000, and $176,364, for Mr. Wright, Mr. Hafelfinger, Mr. Gerde,
and Ms. Symonds, respectively. The employment agreements also provide for the
annual grant to each of the Named Executives of options to purchase up to
275,000 shares of Common Stock for Mr. Wright, and up to 50,000 shares of Common
Stock for Mr. Hafelfinger, Mr. Gerde, and Ms. Symonds. Of these, 50,000 of Mr.
Wright's options are fixed, 25,000 of the other Named Executive's options are
fixed, and the remainder are discretionary. The exercise price of any such
options is equal to the fair market value of the Common Stock on the date of
grant. Each option may contain vesting and other terms as are approved by the
Board of Directors, and will expire ten years after the date of grant. If a
Named Executive's employment with the Company is terminated without cause, or if
there is a change of control, as those terms are defined in their employment
agreements, the Company will be required to make severance payments equal to, in
the case of Mr. Wright, twice Mr. Wright's then-current annual base salary; in
the case of Mr. Gerde, one times his then-current annual base salary; in the
case of Ms. Symonds, one and one-half times her then-current annual base salary;
and in the case of Mr. Hafelfinger, twice his then current base salary in the
event of a change in control or one times his then-current base salary if he is
terminated without cause. Under these employment agreements, Mr. Wright, Mr.
Hafelfinger, and Mr. Gerde agree not to compete with the Company for two years
following termination of employment. In May 1999, the Board of Directors adopted
an incentive compensation program for fiscal 2000, which provides for the
payment of cash bonuses to the Named Executives, the group presidents, and
approximately 20 other senior managers, upon attainment of certain goals. Under
this program, each of the Named Executives can earn a cash bonus of 10% of his
or her annual salary if the Company achieves budgeted operating income levels
for the year and an additional 5% if the Company exceeds budgeted operating
income by 10%. In addition, each of the Named Executives can earn a cash bonus
of up to 5% of his or her annual salary upon achieving personal goals and
objectives.
Certain Tax Considerations Related to Executive Compensation
As a result of Section 162(m) of the Code, if the Company pays more that
$1,000,000 in compensation to a "covered employee" (the chief executive officer
and the next four highest paid employees) in a single year, then the Company's
deduction for such compensation could be limited to $1,000,000.
Benefit Plans
Amended and Restated Stock Incentive Plan
The Company's shareholders adopted the Company's Amended and Restated Stock
Incentive Plan (the "Option Plan") in October 1996. The Company has reserved for
issuance under the Option Plan a maximum of 3,000,000 shares of Common Stock,
subject to certain adjustments. Under the Option Plan, the plan administrator
may award incentive stock options ("ISOs") to key employees, and may award
non-qualified stock options ("NSOs"), stock appreciation rights ("SARs"), stock
and cash bonus awards, restricted stock, and performance units to employees and
certain non-employees (other than non-employee directors) who have important
relationships with the Company or its subsidiaries. However, no person may
receive options to purchase more than 1,000,000 shares in any one year. As of
May 31, 1999, options to purchase an aggregate of 2,664,448 shares of Common
Stock had been granted under the Option Plan, of which options for 25,000 shares
had been exercised, and options for 172,500 shares had been forfeited, leaving
508,052 shares available
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<PAGE>
as of May 31, 1999 for future grant under the Option Plan. No SARs, stock or
cash bonus awards, restricted stock or performance units have been granted under
the Option Plan. In June 1999, options to purchase an additional 450,000 shares
were granted under the Option Plan, leaving 58,052 shares available for future
grants.
The Option Plan is administered by the Option Committee of the Board of
Directors, which is comprised of disinterested directors in accordance with Rule
16b-3 under the Exchange Act, and of outside directors under Section 162(m) of
the Internal Revenue Code. However, only the Board of Directors may amend or
terminate the Option Plan. Unless terminated sooner by the Board of Directors,
the Option Plan expires in October 2006. In general, vested options and any
related rights may only be exercised when (a) the recipient is employed by or in
the service of the Company, (b) within 12 months following termination of
employment by reason of death or disability, or (c) within three months
following termination for any other reason except for cause. Options, SARs, cash
and stock bonus awards and performance units are nonassignable and
nontransferable except by will or by the laws of descent and distribution at the
time of the recipient's death. On the date an ISO is granted, the aggregate fair
market value of the Common Stock issuable under ISOs available for exercise
during any calendar year, may not exceed $100,000. ISOs must expire ten years
from the date of grant, and the exercise price must equal the fair market value
of the underlying shares of Common Stock at the date of grant. ISOs may not be
granted to employees holding more than 10% of the Company's total voting power
unless (a) the exercise price is at least 110% of the Common Stock's fair market
value on the date of grant, and (b) the option is not exercisable until five
years after the date of grant.
In July 1999 the Board of Directors adopted the 1999 Stock Incentive Plan (the
"New Plan"), subject to the approval of the New Plan by the Company's
shareholders at the 1999 annual meeting. The New Plan will also be administered
by the Option Committee, and its terms are substantially similar to those of the
Option Plan. Under the New Plan, 4,000,000 shares of Common Stock would be
reserved for issuance. The primary differences between the New Plan and the
existing Option Plan relate to the termination provisions for options. Under the
New Plan, options would not expire until (a) 24 months after an option holder's
termination of employment because of disability or death, rather than 12 months,
and (b) 24 months after the retirement of the option holder, rather than 3
months.
Independent Director Stock Plan
The Company's shareholders adopted the Company's original Independent Director
Stock Plan in November 1995. Following approval by the shareholders at the
Company's 1998 Annual Meeting, the plan was amended and restated. The Company
has reserved for issuance under the Amended and Restated Independent Director
Stock Plan (the "Director Plan") a maximum of 500,000 shares of Common Stock,
subject to adjustments, issuable to directors who are not employees of the
Company or any of its subsidiaries.
The Director Plan is administered by the Compensation Committee of the Board of
Directors in accordance with Rule 16b-3 adopted under the Exchange Act. No
director may vote on any matter relating to an award held by such director. Only
the Board of Directors may suspend, amend or terminate the Director Plan. Unless
terminated sooner by the Board of Directors, the Director Plan expires on
October 2005.
Under the Director Plan, as amended in 1998, each Independent Director receives
fully-vested, non-qualified options to purchase up to 2,500 shares of Common
Stock upon election to the Board (the "Initial Award"). Each time an Independent
Director is elected to the Board (or on the date of each annual shareholders'
meeting during terms longer than one year), each Independent Director receives
an option to purchase up to 10,000 shares of Common Stock (the "Annual Award").
Annual Awards vest in full on the first anniversary of grant (the "Vesting
Period") if the
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<PAGE>
Independent Director has attended at least 75% of the regularly scheduled Board
meetings during the Vesting Period. Otherwise the Annual Award is forfeited,
unless the Board of Directors votes unanimously to waive or modify the vesting
requirement. An unvested Annual Award will also be forfeited if the director
ceases to be an Independent Director during the Vesting Period for any reason
other than death or disability unless the Board votes unanimously to waive that
requirement. However, unvested Annual Awards automatically vest (a) if the
director is unable to continue due to disability or death, (b) upon the closing
of any merger, consolidation or plan of exchange in which the Company does not
survive, or (c) upon sale of all or substantially all of the Company's assets.
The exercise price of options granted under the Director Plan is based on the
fair market value of the Company's Common Stock for the five trading days prior
to the date of determination. No Independent Director may transfer any interest
in unvested Annual Awards to any person other than to the Company.
At May 31, 1999, 32,559 shares of Common Stock had been issued under the
Director Plan, and options to purchase an additional 56,637 shares of Common
Stock had been granted, 10,000 of which were forfeited, leaving 420,804 shares
available for issuance under the Director Plan.
Employee Stock Purchase Plan
The Company's shareholders adopted the Company's 1997 Employee Stock Purchase
Plan in October 1997 (the "Employee Stock Plan"). The Company has reserved for
issuance under the Employee Stock Plan a maximum of 1,000,000 shares of Common
Stock, subject to certain adjustments, for issuance to eligible employees of the
Company and its subsidiaries. The Company pays all expenses relating to the
Employee Stock Plan except expenses related to the resale of shares acquired by
employees under the plan. The Employee Stock Plan is administered by the
Compensation Committee of the Board of Directors. The plan administrator has
designated Salomon Smith Barney, Inc. as the plan's custodian to vote the shares
pursuant to the participants' instructions, keep the plan records, and provide
periodic statements to participants. Under the Employee Stock Plan, eligible
employees may purchase shares of the Company's Common Stock through payroll
deductions ranging from a minimum of $20 bi-weekly, to a maximum of 15% of the
employee's annual gross pay or $25,000. The purchase price per share is the
lower of (a) 85% of fair market value on the first day of the offering period,
or (b) 100% of fair market value on the last day of the offering period. The
first offering period began November 1, 1998, and offering periods are one month
long. Plan participants may sell their shares through the plan custodian for a
discounted brokage fee. If a participant's employment terminates before the end
of any offering period, no shares are purchased for the participant during that
period and the payroll deduction is returned to the participant. Between
November 1, 1998 and May 31, 1999, between 113 and 140 employees participated in
the Employee Stock Plan each month, purchasing stock at prices ranging between
$1.4076 per share and $2.3375 per share. For the seven months between November
1, 1998 and May 31, 1999, a total of 41,942 shares of Common Stock were issued
under the Employee Stock Plan.
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<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
Principal Shareholders
The following table shows, to the best of the Company's knowledge based on the
records of the Company's transfer agent and the Company's records on issuances
of shares, as adjusted to reflect changes in ownership documented in filings
with the Securities and Exchange Commission made by certain shareholders and
provided to the Company pursuant to Section 16 of the Exchange Act, and
statements provided to the Company by certain shareholders, the Common Stock
owned as of August 24, 1999, by (1) each person known by the Company to own
beneficially more than 5% of the outstanding Common Stock (each a "Principal
Shareholder"); (2) each of the Company's directors; (3) the Named Executives;
and (4) all executive officers and directors of the Company as a group. Except
as otherwise noted, the Company believes the persons listed below have sole
investment and voting power with respect to the Common Stock owned by them.
<TABLE>
<CAPTION>
Amount and Percentage
Nature of of
Beneficial Common
Name and Address of Beneficial Owner: Ownership(1) Stock
- ------------------------------------ ------------ ----------
<S> <C> <C>
Donald A. Wright (2) 2,343,960 10.85%
c/o Pacific Aerospace & Electronics, Inc.
430 Olds Station Road, Third Floor
Wenatchee, WA 98801
Allen W. Dahl, M.D. (3) 42,401 *
7300 Madrona Drive NE
Bainbridge Island, WA 98110
Werner Hafelfinger(4) 165,220 *
c/o Pacific Aerospace & Electronics, Inc.
430 Olds Station Road, Third Floor
Wenatchee, WA 98801
Dale L. Rasmussen (3) 15,492 *
c/o IMPCO Technologies, Inc.
708 Industrial Drive
Tukwila, WA 98188
Robert M. Stemmler (3) 8,137 *
c/o IMPCO Technologies, Inc.
16804 Gridley Place
Cerritos, CA 90703
William A. Wheeler (3) 16,092 *
2011 Lombard Lane
Yakima, WA 98902
Nick A. Gerde (5) 241,289 1.24%
c/o Pacific Aerospace & Electronics, Inc.
430 Olds Station Road, Third Floor
Wenatchee, WA 98801
Sheryl A. Symonds (6) 213,881 1.10%
c/o Pacific Aerospace & Electronics, Inc.
430 Olds Station Road, Third Floor
Wenatchee, WA 98801
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<PAGE>
Pension Fund of the Siemens Companies in Switzerland 2,440,000 11.25%
Freilagerstrasse 40
CH-8047, Zurich, Switzerland
All executive officers and directors as a group 3,046,472 13.66%
(8 persons) (7)
- ------------
* Less than 1%.
(1) Shares that a person has the right to acquire within 60 days are treated as
outstanding for determining the amount and percentage of Common Stock owned
by such person but are not deemed to be outstanding as to any other person
or group.
(2) Includes (a) 4,000 shares issuable upon exercise of public warrants, (b)
100,000 shares issuable upon exercise of another warrant, and (c) 1,889,010
shares issuable upon exercise of vested stock options. Does not include
18,550 unvested stock options.
(3) Includes 10,000 shares issuable upon exercise of vested stock options.
(4) Includes 110,000 shares issuable upon exercise of vested stock options.
(5) Includes (a) 4,000 shares issuable upon exercise of public warrants, (b)
25,000 shares issuable upon exercise of another warrant, and (c) 191,178
shares issuable upon exercise of vested stock options. Does not include
4,878 unvested stock options.
(6) Includes (a) 500 shares issuable upon exercise of public warrants and (b)
210,000 shares issuable upon exercise of vested stock options.
(7) Includes currently exercisable warrants and options to purchase up to
2,565,447 shares of Common Stock.
</TABLE>
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<PAGE>
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Employment Agreements. The Company has entered into employment agreements with
Donald A. Wright, Werner Hafelfinger, Nick A. Gerde and Sheryl A. Symonds. See
"Executive Compensation - Employment Agreements."
Siemens. In November 1998, the Company sold 2,200,000 shares of restricted
Common Stock to Pension Fund of the Siemens Companies in Switzerland
("Siemens"), which caused it to be a Principal Shareholder. Previous to that
purchase, Siemens held 240,000 shares of Common Stock and a $4,000,000
promissory note that were issued to Siemens in the Company's Fall 1997 Common
Stock and Notes Offering. The Company repaid that note in September 1998. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Significant Events - Reduction of Long-Term Debt."
Condominium. In November 1998, the Company entered into a Condominium Purchase
and Sale Agreement (the "Condominium Agreement") with Donald A. Wright, the
Company's Chief Executive Officer, President, and Chairman of the Board.
Pursuant to the Condominium Agreement, Mr. Wright agreed to purchase from the
Company a residential condominium unit within the Company's headquarters
building for a total purchase price of $175,000. At the time the Condominium
Agreement was executed, the condominium had not been completed. Upon completion,
the condominium had a value higher than Mr. Wright's purchase price. As a
result, Mr. Wright requested that the purchase be rescinded. The Board of
Directors agreed to rescind the purchase, but amended Mr. Wright's employment
agreement to require Mr. Wright to reside in the condominium unit. Mr. Wright
pays rent on the condominium unit of $750.00 per month. In addition, the Board
approved an Option to Purchase, which grants to Mr. Wright the right to purchase
the condominium unit. The option is exercisable upon the earlier of February 1,
2000 or the cessation of the employment relationship between Mr. Wright and the
Company and would remain exercisable until ten business days after such
cessation. The purchase price would be: (i) $350,000 if the option is exercised
prior to February 1, 2001; (ii) $300,000 if the option is exercised on or after
February 1, 2001, but prior to February 1, 2002; and (iii) $250,000 if the
option is exercised on or after February 1, 2002. The option terminates ten
business days after Mr. Wright's employment relationship with the Company ceases
for any reason other than death.
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<PAGE>
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K
(a)(1) Financial Statements
The following financial statements are included in this Annual Report on Form
10-K:
Independent Auditors' Report dated July 16, 1999
Independent Auditors' Report dated July 2, 1997
Consolidated Balance Sheets as of May 31, 1998 and 1999
Consolidated Statements of Operations for the years ended May 31, 1997,
1998 and 1999
Consolidated Statements of Stockholders' Equity for the years ended
May 31, 1997, 1998 and 1999
Consolidated Statements of Cash Flows for the years ended May 31, 1997,
1998 and 1999
Notes to Consolidated Financial Statements
(a)(2) Financial Schedules
All financial schedules are omitted because the required information is
inapplicable or the information is presented in the consolidated financial
statements or related notes.
(a)(3) Exhibits
Exhibit
Number Description
-------- -----------
2.1 Share Acquisition Agreement dated July 1, 1998, by and between
Charles Baynes plc, Westpark Limited, Pacific Aerospace and
Electronics (U.K.) Limited, and Pacific Aerospace & Electronics,
Inc.(18)
3.1 Articles of Incorporation of Pacific Aerospace & Electronics,
Inc.(6)
3.2 Amendment to Articles of Incorporation containing Designation of
Rights and Preferences of Series A Convertible Preferred Stock,
as corrected. (8)
3.3 Amendment to Articles of Incorporation containing Designation of
Rights and Preferences of Series B Convertible Preferred Stock.
(20)
3.4 Bylaws of Pacific Aerospace & Electronics, Inc.(6)
4.1 Form of specimen certificate for Common Stock.(6)
4.2 Form of specimen certificate for public warrants.(6)
4.3 Form of specimen certificate for the Series A Convertible
Preferred Stock.(8)
4.4 Form of specimen certificate for the Series B Convertible
Preferred Stock.(20)
4.5 Form of Common Stock Purchase Warrant issued to holders of the
Series B Convertible Preferred Stock on May 15, 1998.(20)
4.6 Registration Rights Agreement, dated May 15, 1998 between
Pacific Aerospace & Electronics, Inc. and the holders of the
Series B Convertible Preferred Stock.(20)
4.7 Warrant Agreement between Interwest Transfer Co., Inc. and PCT
Holdings, Inc. dated July 1, 1996.(4)
4.8 Form of Stock Purchase Agreement used in the Fall 1997 Common
Stock and Note Offering. (14)
4.9 Purchase Warrant from Pacific Aerospace & Electronics, Inc. to
Paulson Investment Company, Inc., dated September 30, 1997.(20)
4.10 Purchase Warrant from Pacific Aerospace & Electronics, Inc. to
Chester L. Paulson, dated September 30, 1997.(20)
4.11 Purchase Warrant from Pacific Aerospace & Electronics, Inc. to
M. Lorraine Maxfield dated September 30, 1997.(20)
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<PAGE>
4.12 Common Stock Purchase Warrant No. 001 from Pacific Aerospace &
Electronics, Inc. to Donald A. Wright dated as of November 30,
1996.(10)
4.13 Common Stock Purchase Warrant No. 002 from Pacific Aerospace &
Electronics, Inc. to Nick A. Gerde dated as of November 30,
1996.(10)
4.14 Common Stock Purchase Warrant No. 003 from Pacific Aerospace &
Electronics, Inc. to Edward A. Taylor dated as of November 30,
1996.(10)
4.15 Common Stock Purchase Warrant from Pacific Aerospace &
Electronics, Inc. to Robert L. Smith Unified Credit Trust dated
as of February 5, 1998.(20)
4.16 Common Stock Purchase Warrant from Pacific Aerospace &
Electronics, Inc. to David A. Noyes & Company dated June 3,
1997. (9)
4.17 Common Stock Purchase Warrant from Pacific Aerospace &
Electronics, Inc. to Gregory K. Smith dated June 3, 1997. (9)
4.18 Common Stock Purchase Warrant from Pacific Aerospace &
Electronics, Inc. to Nestor Wiegand dated June 3, 1997. (9)
4.19 Securities Purchase Agreement, dated May 15, 1998, between
Pacific Aerospace & Electronics, Inc. and the purchasers of the
Company's Series B Convertible Preferred Stock. (20)
4.20 Purchase Agreement dated as of July 23, 1998, between Pacific
Aerospace & Electronics, Inc., Balo Precision Parts, Inc.,
Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc.,
Electronic Specialty Corporation, Morel Industries, Inc.,
Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., PA&E
International, Inc. and Friedman, Billings, Ramsey & Co., Inc.
and BancBoston Securities Inc.(18)
4.21 Indenture dated as of July 30, 1998, between Pacific Aerospace &
Electronics, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic
Specialty Corporation, Morel Industries, Inc., Northwest
Technical Industries, Inc., Pacific Coast Technologies, Inc.,
Seismic Safety Products, Inc., PA&E International, Inc. and IBJ
Schroder Bank & Trust Company.(18)
4.22 Registration Rights Agreement, dated as of July 30, 1998,
between Pacific Aerospace & Electronics, Inc., Balo Precision
Parts, Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices,
Inc., Electronic Specialty Corporation, Morel Industries, Inc.,
Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., PA&E
International, Inc. and Friedman, Billings, Ramsey & Co., Inc.
and BancBoston Securities Inc.(18)
4.23 Form of Global Note by Pacific Aerospace & Electronics, Inc.(18)
4.24 Form of Subsidiary Guaranty from the U.S. subsidiaries of
Pacific Aerospace & Electronics, Inc. (25)
4.25 Form of Stock Purchase Agreement used in Fall 1998 Common Stock
Offering. (25)
10.1 Placement Agreement, dated October 21, 1997, between Pacific
Aerospace & Electronics, Inc. and Lysys Ltd. (12)
10.2 Placement Agreement, dated March 25, 1998, as amended May 15,
1998, between Pacific Aerospace & Electronics, Inc. and Lysys
Ltd. (20)
10.3 Amended and Restated Stock Incentive Plan.(5)
10.4 Amendment No. 1 to the Amended and Restated Stock Incentive
Plan. (19)
10.5 Amended and Restated Independent Director Stock Plan.(21)
10.6 1997 Employee Stock Purchase Plan.(11)
10.7 Employment Agreement, dated June 1, 1997, between Pacific
Aerospace & Electronics, Inc. and Donald A. Wright.(9)
10.8 Amendment No. 1 to Employment Agreement, dated January 29, 1999,
between Pacific Aerospace & Electronics, Inc. and Donald A.
Wright.(27)
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<PAGE>
10.9 Employment Agreement, dated March 1, 1999, between Pacific
Aerospace & Electronics, Inc. and Werner Hafelfinger. (27)
10.10 Employment Agreement, dated June 1, 1997, between Pacific
Aerospace & Electronics, Inc. and Nick A. Gerde.(9)
10.11 Employment Agreement, dated September 1, 1997, between Pacific
Aerospace & Electronics, Inc. and Sheryl A. Symonds.(12)
10.12 Debt Restructuring Agreement, dated April 6, 1998, between
Pacific Aerospace & Electronics, Inc., Orca Technologies, Inc.,
Televar, Inc. and MONITRx, Inc.(15)
10.13 Commercial Guaranty, dated July 16, 1997, from Pacific Aerospace
& Electronics, Inc. to KeyBank National Association.(13)
10.14 Promissory Note, dated March 18, 1998, from Pacific Aerospace &
Electronics, Inc. to KeyBank National Association.(15)
10.15 Security Agreement, dated March 18, 1998, from Pacific Aerospace
& Electronics, Inc. to KeyBank National Association.(15)
10.16 Facility Letter, dated July 30, 1998, from Barclays Bank plc to
Aeromet International plc.(20)
10.17 Loan Agreement, dated September 22, 1998, between Pacific
Aerospace & Electronics, Inc. and KeyBank National Association.
(22)
10.18 Promissory Note, dated September 22, 1998, from Pacific
Aerospace & Electronics, Inc. to KeyBank National
Association.(22)
10.19 Security Agreement, dated September 22, 1998, between Pacific
Aerospace & Electronics, Inc. and KeyBank National
Association.(22)
10.20 Promissory Note, dated September 30, 1998, from Pacific
Aerospace & Electronics, Inc. to KeyBank National
Association.(22)
10.21 Deed of Trust, dated September 30, 1998, between Pacific
Aerospace & Electronics, Inc., KeyBank National Association and
Land Title Company, Chelan-Douglas County, Inc.(22)
10.22 Agreement, dated as of August 27, 1998, between Pacific
Aerospace & Electronics, Inc., Liviakis Financial
Communications, Inc. and Robert B. Prag.(20)
10.23 Asset Purchase Agreement, dated April 13, 1998, between Pacific
Aerospace & Electronics, Inc. and Electronic Specialty
Corporation.(17)
10.24 Sublease between Pacific Aerospace & Electronics, Inc. and Orca
Technologies, Inc. dated April 27, 1998.(20)
10.25 General Terms Agreement No. PLR-950 Relating to Boeing Model
Aircraft between Cashmere Manufacturing Co., Inc. and Boeing
Commercial Airplane Group, effective as of February 5, 1990, as
amended.(3)
10.26 Special Business Provisions No. L-890821-8140N between The
Boeing Company and Cashmere Manufacturing Co., Inc. effective as
of December 18, 1992.(1)(3)
10.27 Special Business Provisions No. L-500660-8134N between The
Boeing Company and Cashmere Manufacturing Co., Inc. effective as
of December 31, 1991.(1)(3)
10.28 Special Business Provisions No. L-435579-8180N between The
Boeing Company and Cashmere Manufacturing Co., Inc. effective as
of August 11, 1994.(1)(3)
10.29 Special Business Provisions No. PLR-950A between The Boeing
Company and Cashmere Manufacturing Co., Inc. effective as of
February 5, 1990.(1)(3)
10.30 Administrative Agreement No. L-435579-8180N between Cashmere
Manufacturing Co., Inc. and Boeing Commercial Airplane Group
effective as of August 11, 1994.(3)
10.31 Special Business Provisions No. POP-65311-0047 between The
Boeing Company and Cashmere Manufacturing Co., Inc. effective as
of February 26, 1996.(1)(3)
10.32 General Terms Agreement No. BCA-65311-0044 between The Boeing
Company and Cashmere Manufacturing Co., Inc. effective as of
February 26, 1996.(3)
96
<PAGE>
10.33 General Terms Agreement No. BCA-65311-0140 between The Boeing
Company and Cashmere Manufacturing Co., Inc. effective as of
June 11, 1997.(20)
10.34 Special Business Provisions No. POP-65311-0143 between The
Boeing Company and Cashmere Manufacturing Co., Inc. effective as
of June 11, 1997.(1)(20)
10.35 Long Term Agreement No. 0108098 between Northrop Grumman
Corporation and Cashmere Manufacturing Co., Inc. effective as of
April 6, 1998.(1)(20)
10.36 Condominium Purchase and Sale Agreement between Pacific
Aerospace & Electronics, Inc. and Donald A. Wright effective as
of November 7, 1998.(24)
10.37 Rescission Agreement, dated January 29, 1999 between Pacific
Aerospace & Electronics, Inc. and Donald A. Wright.(27)
10.38 Option to Purchase, dated January 29, 199, between Pacific
Aerospace & Electronics, Inc. and Donald A. Wright. (27)
10.39 Real Estate Agreement, dated January 15, 1999, between Pacific
Aerospace & Electronics, Inc. and the Port of Chelan County.
(27)
10.40 Operating Agreement, dated as of April 23, 1999, between Pacific
Aerospace & Electronics, Inc. and Nova-Tech Engineering,
Inc.(28)
10.41 Demand Promissory Note, dated April 26, 1999 from Nova-Tech
Engineering, Inc. to Pacific Aerospace & Electronics, Inc. (28)
10.42 Demand Promissory Note, dated August 5, 1999, from Nova-Tech
Engineering, Inc. to Pacific Aerospace & Electronics, Inc. (28)
10.43 Security Agreement, dated April 26, 1999, from Nova-Tech
Engineering, Inc. to Pacific Aerospace & Electronics, Inc. (28)
16.1 Letter from accountant regarding a change of accountants.(16)
21.1 List of Subsidiaries.(28)
23.1 Consent of KPMG LLP.(28)
23.2 Consent of Moss Adams LLP. (28)
27.1 Financial Data Schedule. (28)
- --------------
(1) Subject to confidential treatment. Omitted confidential information was
filed separately with the Securities and Exchange Commission.
(2) Incorporated by reference to the Company's Annual Report on Form 10-KSB for
the year ended May 31, 1995.
(3) Incorporated by reference to Amendment No. 1 to the Company's Registration
Statement on Form SB-2 filed on June 19, 1996.
(4) Incorporated by reference to the Company's Annual Report on Form 10-KSB for
the year ended May 31, 1996.
(5) Incorporated by reference to the Company's Current Report on Form 10-QSB
for the quarterly period ended November 30, 1996.
(6) Incorporated by reference to the Company's Current Report on Form 8-K filed
on December 12, 1996, reporting the reincorporation merger.
(7) Incorporated by reference to the Company's Registration Statement of
Certain Successor Issuers on Form 8-B filed on February 6, 1997.
(8) Incorporated by reference to the Company's Current Report on Form 8-K filed
on March 12, 1997, reporting the Series A Preferred Stock offering.
(9) Incorporated by reference to the Company's Annual Report on Form 10-KSB for
the fiscal year ending May 31, 1997.
(10) Incorporated by reference to the Company's Registration Statement on Form
S-8 filed on June 11, 1997.
97
<PAGE>
(11) Incorporated by reference to the Company's Definitive Proxy Statement for
its 1997 Annual Shareholders Meeting, filed on August 28, 1997.
(12) Incorporated by reference to the Post-Effective Amendment No. 1 to Form
SB-2, filed on November 3, 1997.
(13) Incorporated by reference to the Company's Quarterly Report on Form 10-QSB
for the quarterly period ending November 30, 1997.
(14) Incorporated by reference to the Company's Registration Statement on Form
S-3 filed on December 3, 1997.
(15) Incorporated by reference to the Company's Quarterly Report on Form 10-QSB
for the quarterly period ending February 28, 1998.
(16) Incorporated by reference to the Company's Current Report on Form 8-K/A,
filed on May 1, 1998.
(17) Incorporated by reference to the Company's Current Report on Form 8-K filed
on July 10, 1998.
(18) Incorporated by reference to the Company's Current Report on Form 8-K filed
on August 14, 1998.
(19) Incorporated by reference to the Company's Registration Statement on Form
S-8 filed on November 7, 1997.
(20) Incorporated by reference to the Company's Annual Report on Form 10-K for
the fiscal year ending May 31, 1998.
(21) Incorporated by reference to the Company's Definitive Proxy Statement filed
on September 1, 1998.
(22) Incorporated by reference to the Company's Quarterly Report on Form 10-Q,
and Form 10-Q/A, for the quarterly period ending August 31, 1998.
(23) Incorporated by reference to the Company's Registration Statement on Form
S-1 filed on October 30, 1998.
(24) Incorporated by reference to the Company's Quarterly Report on Form 10-Q
for the quarterly period ending November 30, 1998.
(25) Incorporated by reference to Registration Statement on Form S-4 filed on
November 25, 1998.
(26) Incorporated by reference to Amendment No. 1 to Registration Statement on
Form S-4 filed on January 20, 1999.
(27) Incorporated by reference to the Company's Quarterly Report on Form 10-Q
for the quarterly period ending February 28, 1999.
(28) Filed with this report.
(b) Reports on Form 8-K.
(i) The Company filed a Current Report on Form 8-K on July 10, 1998
reporting the ESC acquisition. This Form 8-K was amended by Form 8-K/A
(Amendment No. 1) filed on August 26, 1998 and Form 8-K/A (Amendment No. 2)
filed on September 21, 1998, which included ESC financial statements for the
year ended March 31, 1997 and the nine months ended December 31, 1997.
(ii) The Company filed a Current Report on Form 8-K on August 14, 1998
reporting the Aeromet acquisition, which included Aeromet financial statements
for the two years ended December 31, 1996 and 1997.
98
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Date: August 27, 1999.
PACIFIC AEROSPACE & ELECTRONICS, INC.
By /s/ DONALD A. WRIGHT
-------------------------------------
DONALD A. WRIGHT
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the registrant and in the following capacities on August 27, 1999.
Signatures Title
/s/ DONALD A. WRIGHT President, Chief Executive Officer, and
- ----------------------------- Chairman of the Board
DONALD A. WRIGHT (Principal Executive Officer)
/s/ NICK A. GERDE Vice President Finance, Chief Financial
- ----------------------------- Officer, Treasurer, and Assistant Secretary
NICK A. GERDE (Principal Financial and Accounting Officer)
/s/ WERNER HAFELFINGER Director, Vice President Operations and
- ----------------------------- Chief Operating Officer
WERNER HAFELFINGER
/s/ ALLEN W. DAHL Director
- -----------------------------
ALLEN W. DAHL
/s/ DALE L. RASMUSSEN Director
- -----------------------------
DALE L. RASMUSSEN
/s/ WILLIAM A. WHEELER Director
- -----------------------------
WILLIAM A. WHEELER
/s/ ROBERT M. STEMMLER Director
- -----------------------------
ROBERT M. STEMMLER
99
OPERATING AGREEMENT
THIS AGREEMENT is entered into as of April 23, 1999, by and between PACIFIC
AEROSPACE & ELECTRONICS, INC., a Washington corporation ("PA&E) and NOVA-TECH
ENGINEERING, INC. (the "Company").
RECITALS
A. On November 18, 1998, PA&E, the Company, and Hans and Karl Herrmann
entered into a non-binding letter of intent (the "Letter of Intent"), relating
to the proposed acquisition of the Company by a wholly owned subsidiary of PA&E.
The proposed purchase is subject to, among other things, the satisfactory
completion of due diligence investigations, the preparation and signing of a
definitive purchase agreement (the "Purchase Agreement"), and the application
for and receipt of an IRS ruling regarding certain issues related to the
Company's ESOP.
B. Pending the closing of the proposed acquisition, PA&E and the Company
have agreed that PA&E will assist in, consult with, and oversee the operations
and management of the Company, which PA&E is willing to do on the terms set
forth in this agreement.
C. The parties wish to provide for a mechanism for adequately compensating
PA&E for its assistance in the event that PA&E does not acquire the Company.
AGREEMENT
In consideration of the mutual promises and agreements contained in this
Agreement, the parties agree as follows:
1. Consultation and Assistance. From the date of this Agreement through the
Termination Date (as defined in Section 8 below), PA&E will consult with the
Company's management and provide certain personnel who will assist and consult
with the Company's management regarding the operations of the Company. As part
of the services to be provided under this Agreement, PA&E agrees to make
available to the Company personnel to be designated by PA&E, at reasonable times
and upon reasonable notice. All such personnel will be employees or agents of
PA&E throughout the term of this Agreement. The parties agree that, in carrying
out its duties under this Agreement, PA&E, at its election, may do any of the
following:
(a) Operations. PA&E may review the Company's books and records and
business operations and consult with the Company's management on the conduct of
the Company's business, its operating plans and budgets, and its organizational
structure;
(b) Strategic Planning. PA&E may consult with the Company's management
regarding strategic planning;
(c) Sales. PA&E or its agent may participate in marketing planning and
in the sales activities of the Company;
1
<PAGE>
(d) Customers and Suppliers. PA&E may participate with the Company's
management in meetings and other dealings with customers and suppliers, and may
review and comment on communications, contracts and commitments with customers
and suppliers;
(e) Products. PA&E may assist in and comment on product and service
development, pricing, and improvements;
(f) Employees. PA&E may participate with the Company's management in
meetings and other dealings with employees, review and comment on communications
and contracts with and commitments to employees, and assist the Company with
decisions related to employees, including decisions regarding hiring, firing,
and compensation;
(g) Accounting. PA&E may review and comment on the Company's
accounting system and may review and comment on preparation of the Company's
financial statements and reports;
(h) Management Meetings. PA&E may appoint one or more persons to
participate in management meetings of the Company;
(i) Board Meetings. PA&E may appoint one or more persons to attend and
participate in meetings of the Company's Board of Directors, but not to vote;
and
(j) PA&E Personnel. PA&E may locate personnel at the Company's
facilities, either full-or part-time, to enable PA&E to perform its duties under
this Agreement.
2. Retention of Authority by the Company. Throughout the term of this
Agreement, the Board of Directors of the Company shall retain authority over the
business, policies, operations and assets of the Company in accordance with the
Company's Articles of Incorporation and Bylaws. By entering into this Agreement,
the Company does not delegate to PA&E any powers, duties, and responsibilities
vested in the Company's Board of Directors by law or by the Company's Articles
of Incorporation or Bylaws.
3. Compliance with Recommendations. Notwithstanding Section 2, above, the
Company agrees that it will not take any action or fail to take any action
within its control that would cause it to deviate materially from advice or
recommendations made by PA&E without the prior written consent of PA&E. If the
Company deviates materially from such recommendations or advice, PA&E may
terminate this Agreement upon giving written notice to the Company and five days
to cure the deviation.
4. Prohibited Actions. Notwithstanding any other provision of this
Agreement, PA&E may not do any of the following:
(a) Borrowings and Encumbrances. PA&E may not borrow any money in the
name of or on behalf of the Company, mortgage or encumber any assets of the
Company, or in any way pledge the credit of the Company;
(b) Expenditures. PA&E may not make expenditures of any kind on behalf
of the Company;
2
<PAGE>
(c) Contracts. PA&E may not execute any lease, contract or other
agreement in the name of or on behalf of the Company;
(d) Assets. PA&E may not sell any assets of the Company; and
(e) Other Actions. PA&E may not otherwise act on behalf of or in the
name of the Company, except as expressly authorized.
5. Duty to Cooperate. The parties acknowledge that their mutual cooperation
is critical to the ability of PA&E to perform its duties hereunder successfully
and efficiently. Accordingly, each party agrees to cooperate with the other
fully in the performance of this Agreement.
6. Compensation. If this Agreement is terminated for any reason other than
the acquisition of the Company by PA&E, the Company will pay PA&E on the
Termination Date a consulting fee (the "Consulting Fee") of $10,000 for each
calendar month from the date of this Agreement through the Termination Date. The
Consulting Fee is intended to compensate PA&E for all direct and indirect costs
incurred in carrying out its duties under this Agreement. The parties agree that
the Consulting Fee fairly reflects the costs and expenses incurred and to be
incurred by PA&E.
7. Discretionary Financing. PA&E may from time to time extend loans to the
Company as PA&E, in the exercise of its sole discretion and with approval from
its Board of Directors and the Board of Directors of the Company, determines may
be necessary.
(a) Terms. The Company understands and agrees that any loans that may
be made by PA&E to the Company would be made on terms mutually acceptable to the
parties at or about the time the loan is to be made. This may include, at PA&E's
option, the ability to convert the outstanding principal and interest upon
maturity or earlier termination to common stock of the Company. Any loans would
be secured by all of the assets of the Company, subject to the security interest
held by Sterling Savings Bank, and would be conditioned on execution of loan
documentation in form and substance acceptable to PA&E. Any loans would be
payable no later than the earlier of (i) the due date stated in the applicable
loan documents or (ii) 120 days after the Termination Date.
(b) Payment Due on Termination. Unless expressly provided otherwise in
this Agreement, the applicable loan documents, or a written agreement signed by
PA&E, any loans extended to the Company by PA&E shall become due and payable in
full 120 days after termination of this Agreement for any reason.
(c) No Commitment. The Company acknowledges and agrees that PA&E has
made no agreement or commitment to provide any loans or extend any credit to the
Company.
(d) Statutory Notice. ORAL AGREEMENTS OR ORAL COMMITMENTS TO LOAN
MONEY, EXTEND CREDIT, OR TO FOREBEAR FROM ENFORCING REPAYMENT OF DEBT ARE NOT
ENFORCEABLE UNDER WASHINGTON LAW.
3
<PAGE>
8. Termination Date. The "Termination Date" shall be the earliest of: (i)
the date on which PA&E acquires the Company; (ii) the termination of the Letter
of Intent prior to execution of a Purchase Agreement; (iii) the termination of
the Purchase Agreement prior to closing of an acquisition; (iv) the date on
which this Agreement is terminated by written agreement of PA&E and the Company;
(v) the date on which this Agreement is terminated as the result of the
Company's violation of Section 3, above; or (vi) December 31, 1999.
9. Representations of the Company. Each party represents and warrants to
the other party that: (i) it is a corporation duly organized and validly
existing under the laws of the State of Washington; (ii) it has full power,
authority and legal right to enter into this Agreement and to perform its
obligations hereunder; (iii) this Agreement is the valid and binding obligation
of the party making the representation, enforceable in accordance with its
terms, and does not breach or cause a default under any other agreement by which
the party is bound or by which any of its assets are affected; and (iv) the
execution and delivery of this Agreement by the party and performance of its
obligations hereunder do not require the consent or authorization of any person
or entity that has not been obtained and do not violate any obligations,
regulations, or other restrictions by which the party or any of its assets is
bound.
10. Indemnification. Except to the extent caused by PA&E's willful
misconduct or recklessness, the Company shall indemnify and hold PA&E and its
affiliates, shareholders, directors, officers, employees, agents, and
consultants harmless against and from all claims, damages, obligations,
liabilities, losses, and expenses, including without limitation attorneys' fees
and costs (together, "Losses"), which may arise from or in connection with the
provisions of this Agreement, the operation or management of the Company, or any
act or omission by any employee, agent or other personnel of the Company. PA&E
shall indemnify and hold the Company and its affiliates, shareholders,
directors, officers, employees, agents, and consultants harmless against and
from all Losses to the extent caused by PA&E's willful misconduct or
recklessness in connection with the responsibilities of PA&E under this
Agreement. The provisions of this Section 10 shall survive the termination of
this Agreement if termination is for any reason other than PA&E's acquisition of
the Company.
11. Governing Law. The construction and terms of this Agreement are
governed by the laws of the State of Washington.
12. No Waiver of Breach. No failure of PA&E or the Company to insist upon
the strict performance of any covenant, agreement, term or provision of this
Agreement, or to exercise any right or remedy available upon a breach thereof,
shall constitute a waiver of any such breach or any subsequent breach of such
covenant, agreement, term or provision. No waiver of any breach shall affect or
alter this Agreement, but each and every covenant, agreement, term and provision
of this Agreement shall continue in full force and effect with respect to any
other then existing or subsequent breach thereof.
13. Assignment; Benefit. No party may voluntarily or involuntarily assign
its interest under this Agreement without the prior written consent of the other
party. Subject to the foregoing, this Agreement shall be binding upon and shall
inure to the benefit of the parties an their respective successors and assigns.
4
<PAGE>
14. Amendment; Waiver. The provisions of this Agreement, or of any
agreement or document executed in connection with this Agreement, may be amended
or waived only in writing by the party against which enforcement of such
amendment or waiver is sought.
15. Severability. If any portion of this Agreement is held to be invalid by
a court of competent jurisdiction, the remaining terms of this Agreement shall
remain in full force and effect to the extent possible.
16. No Partnership or Joint Venture. Nothing contained in this Agreement
shall constitute or be construed to be or create a partnership, joint venture or
similar relationship between the Parties.
17. Entire Agreement. This Agreement and the documents executed in
connection with this Agreement contain the entire agreement of the parties, and
supersede any and all prior agreements, written or oral, relating to their
subject matter.
18. Attorneys' Fees. The prevailing party in any arbitration or litigation
concerning the Agreement is entitled to reimbursement of its reasonable
attorneys' fees and expenses from the non-prevailing party, including costs and
expenses incurred on appeal or in bankruptcy proceedings.
19. Counterparts. This Agreement may be executed in one or more
counterparts, each of which will be deemed an original but all of which together
will constitute the same instrument.
IN WITNESS WHEREOF, the Company and PA&E have executed this Agreement on
the day and year first above written.
NOVA-TECH ENGINEERING, INC.
By /s/ HANS H. HERRMANN 4-23-99
--------------------------------------
Hans Herrmann, President
PACIFIC AEROSPACE & ELECTRONICS, INC.
By /s/ DONALD A. WRIGHT 4-23-99
--------------------------------------
Donald A. Wright, President & CEO
5
DEMAND PROMISSORY NOTE
Principal: $1,500,000.00 Edmonds, WA
April 26, 1999
1. Promise to Pay. FOR VALUE RECEIVED, NOVA-TECH ENGINEERING, INC., a
Washington corporation ("Borrower"), unconditionally promises to pay to the
order of PACIFIC AEROSPACE & ELECTRONICS, INC., a Washington corporation
("Lender"), at 430 Olds Station Road, Wenatchee, Washington 98801, or at
such other place as the holder hereof from time to time may designate in
writing, the principal sum of ONE MILLION FIVE HUNDRED THOUSAND DOLLARS
($1,500,000.00), or so much thereof as may be advanced by Lender to
Borrower and outstanding from time to time, plus interest on the unpaid
outstanding principal balance of each advance and such other sums as are
payable under the terms of this Note.
2. Payments. All unpaid outstanding principal, interest and other sums owing
under this Note shall be due and payable on demand. Borrower may completely
or partially prepay this Note at any time or from time to time without
penalty. Payments shall be applied first to accrued interest, costs and
expenses payable under this Note and then to principal. Demand will not be
made before December 15, 1999.
3. Interest. Interest shall accrue on the unpaid principal balance of this
Note from the date hereof at the rate of seven and one-half percent (7.5%)
per annum until the date on which Lender demands payment ("Demand Date").
If Borrower fails to pay all amounts due under this Note on the Demand
Date, then interest shall accrue thereafter on the unpaid principal balance
at the rate of twelve percent (12%) per annum until this Note is paid in
full.
4. Security. This Note is secured by a security interest in all Borrower's
tangible and intangible assets, according to a security agreement (the
"Security Agreement") of even date herewith, executed by Borrower in favor
of Lender and a UCC-1 Financing Statement filed with the Secretary of State
of the State of Washington in connection therewith. Additional rights and
obligations of Lender and Borrower are set forth in the Security Agreement.
5. Default; Acceleration. Borrower shall be in default under this Note if (i)
Borrower fails to pay all amounts due hereunder on the Demand Date or (ii)
if an event of default occurs under the terms of the Security Agreement.
Upon an event of default under the Security Agreement, unless and until
cure has been accomplished within time allowed for cure (if any), at the
option of the holder of this Note and without notice to the Borrowers of
the default, the entire indebtedness represented by this Note shall become
immediately due and payable and interest shall thereafter accrue on the
unpaid balance of principal due under this Note at the rate of twelve
percent (12%) per annum. Upon
-1-
<PAGE>
default under this Note, Lender may exercise any rights available to it
under the Security Agreements or by applicable law.
6. Attorneys' Fees. If any action, judicial or nonjudicial, is brought on this
Note, or if it is placed in the hands of an attorney for collection or
advice following the expiration of the cure period (if any) for any
default, then Borrower promises to pay all of Lender's costs and expenses
in connection therewith, including without limitation reasonable attorneys'
fees incurred and paid by holder in connection herewith through any appeal
or in bankruptcy. All such costs and attorneys' fees shall bear interest
from the date incurred until paid at the default interest rate.
7. Waivers. Borrower, all endorsers, and all persons liable or to become
liable on this Note hereby waive presentment, demand, protest and notice of
demand, protest and nonpayment, and any defense or claim that resort must
first be had to any security or to any other person, and authorize the
holder of this Note, without affecting its liability hereunder, from time
to time, to renew, extend, or change the time for payment or the other
terms of this Note, to take and hold security for the payment of this Note,
to release or exchange the security therefor, to apply any such security to
such obligations as the holder may determine in its sole discretion, and to
release, substitute, or add to those liable or to become liable on this
Note.
8. Authorization. Borrower and the officer signing below on its behalf
represent and warrant to Lender that: (a) Borrower is a corporation duly
organized and validly existing under the laws of Washington; (b) Borrower
has taken all corporate action necessary to authorize execution and
delivery of this Note and performance of its obligations under this Note
and the Security Agreement; (c) Borrower has duly executed and delivered
this Note to Lender; and (d) this Note is the valid and binding obligation
of Borrowers in accordance with its terms.
9. Governing Law. This Note shall be governed by and construed in accordance
with the laws of the State of Washington, United States of America, without
regard to conflict of laws rules.
10. Successors and Assigns. The provisions of this Note shall inure to the
benefit of and be binding on any successor to Borrower and shall extend to
any holder hereof.
BORROWER:
NOVA-TECH ENGINEERING, INC.
By /s/ HANS H. HERRMANN
--------------------------------------
Its President
----------------------------------
-2-
DEMAND PROMISSORY NOTE
Principal: $1,000,000.00 Edmonds, WA
August 5, 1999
1. Promise to Pay. FOR VALUE RECEIVED, NOVA-TECH ENGINEERING, INC., a
Washington corporation ("Borrower"), unconditionally promises to pay to the
order of PACIFIC AEROSPACE & ELECTRONICS, INC., a Washington corporation
("Lender"), at 430 Olds Station Road, Wenatchee, Washington 98801, or at
such other place as the holder hereof from time to time may designate in
writing, the principal sum of ONE MILLION DOLLARS ($1,000,000.00), or so
much thereof as may be advanced by Lender to Borrower and outstanding from
time to time, plus interest on the unpaid outstanding principal balance of
each advance and such other sums as are payable under the terms of this
Note.
2. Payments. All unpaid outstanding principal, interest and other sums owing
under this Note shall be due and payable on demand. Borrower may completely
or partially prepay this Note at any time or from time to time without
penalty. Payments shall be applied first to accrued interest, costs and
expenses payable under this Note and then to principal. Demand will not be
made before December 15, 1999.
3. Interest. Interest shall accrue on the unpaid principal balance of this
Note from the date hereof at the rate of seven and one-half percent (7.5%)
per annum until the date on which Lender demands payment ("Demand Date").
If Borrower fails to pay all amounts due under this Note on the Demand
Date, then interest shall accrue thereafter on the unpaid principal balance
at the rate of twelve percent (12%) per annum until this Note is paid in
full.
4. Security. This Note is secured by a security interest in all Borrower's
tangible and intangible assets, according to a security agreement (the
"Security Agreement") dated April 26, 1999, executed by Borrower in favor
of Lender and a UCC-1 Financing Statement filed with the Secretary of State
of the State of Washington on May 11, 1999, in connection therewith.
Additional rights and obligations of Lender and Borrower are set forth in
the Security Agreement.
5. Default; Acceleration. Borrower shall be in default under this Note if (i)
Borrower fails to pay all amounts due hereunder on the Demand Date or (ii)
if an event of default occurs under the terms of the Security Agreement.
Upon an event of default under the Security Agreement, unless and until
cure has been accomplished within time allowed for cure (if any), at the
option of the holder of this Note and without notice to the Borrowers of
the default, the entire indebtedness represented by this Note shall become
immediately due and payable and interest shall thereafter accrue on the
unpaid balance of principal due under this Note at the rate of twelve
percent (12%) per annum. Upon
-1-
<PAGE>
default under this Note, Lender may exercise any rights available to it
under the Security Agreements or by applicable law.
6. Attorneys' Fees. If any action, judicial or nonjudicial, is brought on this
Note, or if it is placed in the hands of an attorney for collection or
advice following the expiration of the cure period (if any) for any
default, then Borrower promises to pay all of Lender's costs and expenses
in connection therewith, including without limitation reasonable attorneys'
fees incurred and paid by holder in connection herewith through any appeal
or in bankruptcy. All such costs and attorneys' fees shall bear interest
from the date incurred until paid at the default interest rate.
7. Waivers. Borrower, all endorsers, and all persons liable or to become
liable on this Note hereby waive presentment, demand, protest and notice of
demand, protest and nonpayment, and any defense or claim that resort must
first be had to any security or to any other person, and authorize the
holder of this Note, without affecting its liability hereunder, from time
to time, to renew, extend, or change the time for payment or the other
terms of this Note, to take and hold security for the payment of this Note,
to release or exchange the security therefor, to apply any such security to
such obligations as the holder may determine in its sole discretion, and to
release, substitute, or add to those liable or to become liable on this
Note.
8. Authorization. Borrower and the officer signing below on its behalf
represent and warrant to Lender that: (a) Borrower is a corporation duly
organized and validly existing under the laws of Washington; (b) Borrower
has taken all corporate action necessary to authorize execution and
delivery of this Note and performance of its obligations under this Note
and the Security Agreement; (c) Borrower has duly executed and delivered
this Note to Lender; and (d) this Note is the valid and binding obligation
of Borrowers in accordance with its terms.
9. Governing Law. This Note shall be governed by and construed in accordance
with the laws of the State of Washington, United States of America, without
regard to conflict of laws rules.
10. Successors and Assigns. The provisions of this Note shall inure to the
benefit of and be binding on any successor to Borrower and shall extend to
any holder hereof.
BORROWER:
NOVA-TECH ENGINEERING, INC.
By /s/ HANS H. HERRMANN
--------------------------------------
Its President
----------------------------------
-2-
SECURITY AGREEMENT
DATED: April 26, 1999
FROM: NOVA-TECH ENGINEERING, INC.
115 Second Avenue North
Edmonds, WA 98020 DEBTOR
TO: PACIFIC AEROSPACE & ELECTRONICS, INC.
430 Olds Station Road
Wenatchee, WA 98801 SECURED PARTY
FOR VALUE RECEIVED, and to secure both the payment of the Indebtedness and
the performance of the obligations owed to Secured Party under this Security
Agreement and the Related Agreements, Debtor grants Secured Party a security
interest in the Collateral, in accordance with the definitions and terms set
forth below:
1. Definitions.
1.1 Indebtedness. "Indebtedness" shall mean all amounts now or
hereafter owed by Debtor to Secured Party, whether or not evidenced by a
promissory note or notes and whether direct, indirect, or contingent.
1.2 Related Agreements. The "Related Agreements" shall mean the
promissory note of even date herewith, in the principal amount of $1,500,000.00,
made by Debtor in favor of Secured Party, and any other present or future
agreement between Debtor and Secured Party evidencing any part of the
Indebtedness.
1.3 Collateral. The "Collateral" shall be all tangible and intangible
property of Debtor, whether now owned or hereafter acquired, whether now
existing or hereafter arising, or in which Debtor now has or hereafter acquires
any rights, including without limitation:
(1) All furniture, leasehold improvements, motor vehicles,
appliances, fixtures, furnishings, tools, machinery and equipment and other
goods of Debtor, now owned or hereafter acquired, and all additions and
accessions thereto and replacements therefor;
(2) All inventory, supplies and materials of Debtor now owned or
hereafter acquired, together with all additions and accessions thereto and
replacements therefor;
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(3) All accounts, accounts receivable, negotiable documents,
notes, drafts, acceptances, claims, lease rights (to the extent they are
assignable without consent of the lessor), securities, instruments, choses in
action, whether in contract or in tort, proceeds of lawsuits, and general
intangibles of Debtor (including, but not limited to goodwill, permits,
licenses, trademarks, trade names and trade secrets), and all other rights of
Debtor to the payment of money, now existing or hereafter arising;
(4) All deposit accounts of Debtor maintained with any bank or
other financial institution;
(5) All records, papers and books of account or other documents
or papers relating to, affecting or describing any of the foregoing Collateral,
in whatever form, including without limitation all computerized records,
diskettes, programs, etc. relating thereto;
(6) All of Debtor?s contract rights and proceeds of insurance
policies;
(7) All of Debtor?s patents and patents pending;
(8) All of Debtor?s stock in and to subsidiaries wholly owned by
Debtor; and
(9) All proceeds of the foregoing Collateral. For purposes of
this Security Agreement, the term "proceeds" includes whatever is receivable or
received when Collateral or proceeds is sold, collected, exchanged or otherwise
disposed of, whether such disposition is voluntary or involuntary, and includes,
without limitation, all rights to payment, including return premiums, with
respect to any insurance relating thereto.
2. Obligations of Debtor. Debtor warrants and covenants:
2.1 Payment and Performance. Debtor shall pay to Secured Party
promptly when due all amounts payment of which is secured by this Security
Agreement and shall strictly perform all obligations imposed upon Debtor by this
Security Agreement and the Related Agreements.
2.2 Perfection of Security Interest. Debtor agrees to execute
financing statements and to take whatever other action is requested by Secured
Party to perfect and continue Secured Party's security interest in the
Collateral. Any certificate of title existing on any of the Collateral will be
endorsed and delivered to Secured Party reciting Secured Party?s security
interest. Debtor hereby appoints Secured Party Debtor's attorney in fact for the
purpose of executing any documents necessary to perfect or continue the security
interest. Secured Party may file copies or reproductions of this Security
Agreement as a financing statement at any time and without further authorization
from Debtor. Debtor will reimburse Secured Party for all expenses incurred in
perfecting or continuing this security interest. Secured Party's interest is
junior to the interest of Sterling Savings Bank as set forth in any and
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<PAGE>
all Security Agreements, including those dated July 1, 1997 and January 25,
1999, between Nova-Tech Engineering, Inc. and Sterling Savings Bank and recorded
as Washington State UCC-1 Number 942060455 (filing date July 25, 1994) and its
continuation 990430160 dated February 12, 1999, which cover all existing and
future indebtedness of Nova-Tech Engineering, Inc. to Sterling Savings Bank
and/or its assigns.
2.3 Removal of Collateral. Debtor warrants that the Collateral is
located at Debtor's address set forth above. Except in the ordinary course of
Debtor's business, Debtor shall not remove the Collateral from its location
without the prior written consent of Secured Party, which shall not be
unreasonably withheld. To the extent the Collateral constitutes vehicles, Debtor
shall not take or permit any action which would require registration of the
vehicles outside of the State of Washington without the prior written consent of
Secured Party.
2.4 Transactions Involving Collateral. Except for inventory sold in
the ordinary course of Debtor's business, Debtor shall not sell, offer to sell,
or otherwise transfer the Collateral. Debtor shall not pledge, mortgage,
encumber, or otherwise permit the Collateral to be subject to any lien, security
interest, or charge, other than the security interest in favor of Secured Party
and those created prior to the date hereof, without the prior written consent of
Secured Party.
2.5 Title. Debtor warrants that it holds good and marketable title to
the Collateral subject only to the lien of this Security Agreement and security
interests created prior to the date hereof and that Debtor has full power and
authority to execute this Security Agreement, to perform Debtor?s obligations
hereunder, and to subject the Collateral to the security interest created
hereby. Debtor shall defend Secured Party's rights against the claims and
demands of all persons.
2.6 Compliance with Laws. Debtor warrants that its use of the
Collateral complies with, and that Debtor will in the future promptly comply
with, all applicable laws, ordinances, and regulations of governmental
authorities.
2.7 Use. Debtor shall maintain the Collateral in good condition and
repair and not use the Collateral for any unlawful purpose or in any way that
would void an effective insurance policy. Debtor will not commit or permit
damage to or destruction of the Collateral or any part of the Collateral.
2.8 Taxes, Assessments, and Liens. Debtor will pay when due all taxes,
assessments, and liens upon the Collateral, its use or operation, upon this
Security Agreement, or upon any promissory notes evidencing the Indebtedness.
Debtor may withhold any such payment or may elect to contest any lien if Debtor
is in good faith conducting appropriate proceedings to contest the obligation to
pay, so long as Secured Party's interest in the Collateral is not jeopardized.
If the Collateral is subjected to a lien which is not discharged within 15 days,
Debtor shall deposit with Secured Party cash, a sufficient corporate surety
bond, or other security satisfactory to Secured Party in an amount adequate to
provide for the discharge of the lien plus any interest, costs, attorneys' fees,
or other charges that could accrue as a result of foreclosure or sale. In any
contest proceedings, Debtor shall defend itself and
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Secured Party and will name Secured Party as an additional obligee under any
surety bond, and Debtor shall satisfy any final adverse judgment before
enforcement against the Collateral.
2.9 Maintenance of Property Damage Insurance. Debtor shall procure and
maintain policies of fire insurance with standard extended coverage endorsements
on a replacement cost basis covering the Collateral, in an amount sufficient to
avoid application of any coinsurance clause and with loss payable to Secured
Party. Policies shall be written in amounts, in form, on terms, and with
companies reasonably acceptable to Secured Party. Upon request, Debtor shall
deliver to Secured Party certificates of coverage from each insurer containing a
stipulation that coverage will not be canceled or diminished without a minimum
of 10 days' written notice to Secured Party.
2.10 Application of Insurance Proceeds. Debtor shall promptly notify
Secured Party of any loss or damage to the Collateral or any portion thereof
having a fair market value in excess of $1,000. Secured Party may make proof of
loss if Debtor fails to do so within 15 days of the casualty. Secured Party may,
at its election, apply the proceeds to the reduction of the Indebtedness or the
restoration and repair of the Collateral. If Secured Party elects to apply the
proceeds to restoration and repair, Debtor shall repair or replace the damaged
or destroyed Collateral in a manner satisfactory to Secured Party. Upon
satisfactory proof of such expenditure, Secured Party shall pay or reimburse
Debtor from the proceeds for the reasonable cost of repair or restoration. Any
proceeds which have not been paid out within 180 days after their receipt and
which Secured Party has not committed to the repair or restoration of the
Collateral shall be used to prepay first accrued interest and then principal of
Debtor's Indebtedness. If Secured Party holds any proceeds after payment in full
of the Indebtedness, such proceeds shall be paid to Debtor.
3. Debtor's Right to Possession. Until in default, Debtor may have
possession of the tangible personal property and beneficial use of all of the
Collateral and may use it in any lawful manner not inconsistent with this
Security Agreement or the Related Agreements.
4. Release on Full Performance. If Debtor pays all of the Indebtedness
when due and otherwise performs all the obligations imposed upon Debtor under
this Security Agreement, Secured Party shall execute and deliver to Debtor
suitable statements of termination of any financing statement on file. The
filing fees shall be paid by Debtor.
5. Default.
5.1 Events of Default. The following shall constitute events of
default:
(1) Failure to pay any portion of the Indebtedness when it is due.
(2) Any warranty, representation, or statement made or furnished to
Secured Party by or on behalf of Debtor proves to have been false in any
material respect when made or furnished.
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(3) Transfer or agreement to transfer any part or interest in the
Collateral without the prior written consent of Secured Party, to the extent
required by this Security Agreement.
(4) Dissolution, termination of existence as a going business,
insolvency on a balance sheet basis or business failure of Debtor; the
commencement by Debtor of a voluntary case under the federal bankruptcy laws or
under any other federal or state law relating to insolvency or debtor's relief;
the entry of a decree or order for relief against Debtor in an involuntary case
under the federal bankruptcy laws or under any other applicable federal or state
law relating to insolvency or debtor's relief; the appointment or the consent by
Debtor to the appointment of a receiver, trustee, or custodian of Debtor or of
any of Debtor's property; an assignment for the benefit of creditors by Debtor;
the making or suffering by Debtor of a fraudulent transfer under applicable
federal or state law; concealment by Debtor of any of its property in fraud of
creditors; the making or suffering by Debtor of a preference within the meaning
of the federal bankruptcy law; the imposition of a lien through legal
proceedings or distraint upon any of the property of Debtor which is not
discharged or bonded in the manner permitted by Section 2.8; or Debtor's failure
generally to pay its debts as such debts become due. The events of default in
this paragraph shall apply and refer to Debtor and to each of the individuals or
entities which are collectively referred to as "Debtor."
(5) Failure of Debtor to perform any other obligation under this
Security Agreement, the Related Agreements or any other present or future
agreement between Debtor and Secured Party evidencing the Indebtedness or
securing the Indebtedness within 10 days after receipt of written notice from
Secured Party specifying the nature of the default. No notice of default and no
opportunity to cure shall be required if during the prior 12 months Secured
Party has already sent a notice to Debtor concerning default in performance of
the same obligation.
6. Rights of Secured Party.
6.1 Rights Prior to Default or Thereafter. Secured Party and its
designated representatives or agents may examine and inspect the Collateral,
wherever located, at all reasonable times.
6.2 Rights Upon Default or Thereafter. Upon the occurrence of any
event of default and at any time thereafter, Secured Party may exercise any one
or more of the following rights and remedies:
(1) Secured Party may, but shall have no obligation to, pay and
discharge any taxes, liens and encumbrances against the Collateral or any part
thereof which Debtor has failed to discharge in a timely fashion, and pay for
any necessary maintenance and preservation of the Collateral.
(2) Secured Party may declare the entire Indebtedness immediately
due and payable, including any prepayment penalty which Debtor would be required
to pay.
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(3) Secured Party may require Debtor to deliver to Secured Party
all or any portion of the Collateral and any and all certificates of title and
other documents relating to the Collateral. Secured Party may require Debtor to
assemble the Collateral and make it available to Secured Party at a place to be
designated by Secured Party which is reasonably convenient to both parties.
Secured Party also shall have full power to enter upon the property of Debtor to
take possession of and remove the Collateral.
(4) Secured Party shall have full power to sell, lease, transfer,
or otherwise deal with the Collateral or proceeds thereof in its own name or
that of Debtor. Secured Party may sell the Collateral at public auction or
private sale. Unless the Collateral threatens to decline speedily in value or is
of the type customarily sold on a recognized market, Secured Party will give
Debtor reasonable notice of the time after which any private sale or any other
intended disposition of the Collateral is to be made. The requirements of
reasonable notice shall be met if such notice is mailed by registered or
certified mail, postage prepaid, to the address of Debtor stated in this
Security Agreement at least 10 days before the time of the sale or disposition.
Debtor shall be liable for expenses of retaking, holding, preparing for sale,
selling, or the like.
(5) Secured Party may have a receiver appointed as a matter of
right. The receiver may be an employee of Secured Party and may serve without
bond. All fees of the receiver and its attorney shall be secured hereby.
(6) Secured Party may revoke Debtor's right to collect Debtor?s
accounts receivable and revenues from the Collateral and may collect the same,
either itself or through a receiver. To facilitate collection, Secured Party
may: (i) notify any account debtors of Debtor to make payments directly to
Secured Party, (ii) demand, collect, settle, and prosecute and discontinue any
suits or proceedings in respect of any or all of the Collateral, in the name of
Debtor or otherwise, (iii) and otherwise take any action which Secured Party may
deem desirable in order to realize on the Collateral.
(7) Secured Party may obtain a judgment for any deficiency
remaining in the Indebtedness due to Secured Party after application of all
amounts received from the exercise of the rights provided in this section.
Debtor shall be liable for a deficiency even if the underlying transaction is a
sale of accounts or chattel paper.
(8) Secured Party shall have and may exercise any or all of the
rights and remedies of a secured creditor under the provisions of the Uniform
Commercial Code, in addition to any other rights or remedies that may be
available at law, in equity, or otherwise.
6.3 Waiver; Election of Remedies. A waiver by either party of a breach
of a provision of this Security Agreement shall not constitute a waiver of or
prejudice the party's right otherwise to demand strict compliance with that
provision or any other provision. Election by Secured Party to pursue any remedy
shall not exclude pursuit of any other remedy, and all remedies of Secured Party
under this Security Agreement are cumulative and not exclusive. An election to
make expenditures or take action to perform an obligation of Debtor
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<PAGE>
shall not affect Secured Party's right to declare a default and exercise its
remedies under this Security Agreement.
6.4 Attorneys' Fees; Expenses. In the event suit or action is
instituted to enforce any of the terms of this Security Agreement, the
prevailing party shall be entitled to recover its reasonable attorneys' fees at
trial and on any appeal, in addition to all other sums provided by law. Whether
or not any court action is involved, all reasonable expenses incurred by Secured
Party that are necessary at any time in Secured Party's opinion for the
protection of its interest or the enforcement of its rights shall become a part
of the Indebtedness payable on demand and shall bear interest from the date of
expenditure until repaid at the same interest rate as provided in Section 7.3.
7. Indemnity. Debtor agrees to defend, indemnify and hold harmless
Secured Party and its officers, employees, and agents against (a) all
obligations, demands, claims and liabilities claimed or asserted by any other
party in connection with the transactions contemplated by this Security
Agreement and (b) all losses or expenses in any way suffered, incurred or paid
by Secured Party as a result of or in any way arising out of, following or
consequential to transactions between Secured Party and Debtor, whether under
this Security Agreement or otherwise (including without limitation, reasonable
attorneys' fees and expenses), except for losses arising from or out of Secured
Party's gross negligence or willful misconduct.
8. Miscellaneous.
8.1 Time of Essence. Time is of the essence of this Security
Agreement.
8.2 Successor Interests. Subject to the limitations on transfer of
Debtor's interest, this Security Agreement shall be binding upon and inure to
the benefit of the parties, their successors and assigns.
8.3 Expenditure by Beneficiary. If Debtor fails to comply with any
provision of this Security Agreement, Secured Party may elect to take the
required action on Debtor's behalf, and any amount that Secured Party expends in
so doing shall be added to the Indebtedness. Amounts so added shall be payable
on demand with interest from the date of expenditure at the rate of 18 percent
(18%) per annum or at the rate the Indebtedness bears, whichever is higher, but
not in any event at a rate higher than the maximum rate permitted by law. Such
action by Secured Party shall not constitute a cure or waiver of the default or
any other right or remedy which Secured Party may have on account of Debtor's
default.
8.4 Notices. Any notice under this Security Agreement shall be in
writing and shall be effective when either delivered in person or, if mailed,
shall be deemed effective when deposited as registered or certified mail,
postage prepaid, addressed to the party at the address stated in this Security
Agreement. Any party may change its address for notices by written notice to the
other.
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8.5 Invalid Provisions to Affect No Others. If any of the provisions
contained in this Security Agreement shall be invalid, illegal, or unenforceable
in any respect, the validity of the remaining provisions shall not be affected.
8.6 Changes in Writing; No Waiver. This Security Agreement and any of
its terms may only be changed, waived, discharged, or terminated by an
instrument in writing signed by the party against which enforcement of the
change, waiver, discharge, or termination is sought. Any agreement subsequently
made by Debtor or Secured Party relating to this Security Agreement shall be
superior to the rights of the holder of any intervening security interest, lien,
or encumbrance. Secured Party shall not by any act, delay, omission or otherwise
be deemed to have waived any of its respective rights or remedies hereunder, nor
shall any single or partial exercise of any right or remedy hereunder on any one
occasion preclude the further exercise thereof or the exercise of any other
right or remedy.
8.7 Applicable Law. This Security Agreement has been executed and
delivered to Secured Party in the State of Washington, and all payments are to
be made to Secured Party in the State of Washington. The law of the State of
Washington shall be applicable for the purpose of construing and determining the
validity of this Security Agreement and, to the fullest extent permitted by the
law of any state in which any of the Collateral is located, determining the
rights and remedies of Secured Party on default.
8.8 Joint and Several Liability. If Debtor consists of more than one
person or entity, the obligations imposed upon Debtor under this Security
Agreement shall be joint and several.
IN WITNESS WHEREOF, Debtor has caused this Security Agreement to be
duly executed as of the day and year first written above.
DEBTOR: NOVA-TECH ENGINEERING, INC.
By /s/ HANS H. HERRMANN
-------------------------------------
Its President
---------------------------------
SECURED PARTY: PACIFIC AEROSPACE & ELECTRONICS, INC.
By /s/ DONALD A. WRIGHT
-------------------------------------
Its President and CEO
---------------------------------
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Exhibit 21.1
LIST OF SUBSIDIARIES
Jurisdiction of
Name Organization
Pacific Coast Technologies, Inc. Washington
Ceramic Devices, Inc. Washington
Northwest Technical Industries, Inc. Washington
Electronic Specialty Corporation Washington
Cashmere Manufacturing Co., Inc. Washington
Aeromet America, Inc. Washington
Seismic Safety Products, Inc. Washington
Skagit Engineering & Manufacturing, Inc. Washington
PA&E International, Inc. Washington
Subsidiary: Pacific A&E Limited United Kingdom
Subsidiary: Pacific Aerospace &
Electronics (UK) Limited United Kingdom
Subsidiary: Aeromet International PLC United Kingdom
EXHIBIT 23.1
Consent of Independent Auditors
Board of Directors
Pacific Aerospace & Electronics, Inc.:
We consent to incorporation by reference in registration statement numbers
333-29007, 333-39799 and 333-66469 on Forms S-8 and registration statement
numbers 333-25177 and 333-41407 on Forms S-3 of Pacific Aerospace & Electronics,
Inc. of our report dated July 16, 1999, except as to note 24 which is as of
August 19, 1999, relating to the consolidated balance sheets of Pacific
Aerospace & Electronics, Inc. as of May 31, 1998 and 1999 and the related
consolidated statements of operations, stockholders' equity, and cash flows for
each of the years in the two-year period ended May 31, 1999, which report
appears in the May 31, 1999 annual report on Form 10-K of Pacific Aerospace &
Electronics, Inc.
/s/ KPMG LLP
Seattle, Washington
August 27, 1999
EXHIBIT 23.2
CONSENT OF INDEPENDENT AUDITORS
We consent to the inclusion in this Annual Report on Form 10-K of Pacific
Aerospace & Electronics, Inc. for the year ended May 31, 1999 and to the
incorporation by reference in Registration Statement Numbers 333-29007,
333-66469 and 333-39799 of Pacific Aerospace & Electronics, Inc. on Forms S-8,
and 333-25177 and 333-41407 of Pacific Aerospace & Electronics, Inc. on Forms
S-3, of our report dated July 2, 1997.
/s/ MOSS ADAMS LLP
Seattle, Washington
August 30, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the audited
financial statements of Pacific Aerospace & Electronics, Inc., and its
subsidiaries for the year ended May 31, 1999, and is qualified in its entirety
by reference to such financial statements
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> MAY-31-1999
<PERIOD-END> MAY-31-1999
<CASH> 8,134,000
<SECURITIES> 0
<RECEIVABLES> 25,347,000
<ALLOWANCES> 355,000
<INVENTORY> 24,616,000
<CURRENT-ASSETS> 60,938,000
<PP&E> 55,574,000
<DEPRECIATION> 10,295,000
<TOTAL-ASSETS> 158,727,000
<CURRENT-LIABILITIES> 22,609,000
<BONDS> 81,498,000
0
0
<COMMON> 19,000
<OTHER-SE> 54,000,000
<TOTAL-LIABILITY-AND-EQUITY> 158,727,000
<SALES> 107,366,000
<TOTAL-REVENUES> 107,366,000
<CGS> 86,094,000
<TOTAL-COSTS> 86,094,000
<OTHER-EXPENSES> 17,308,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 8,672,000
<INCOME-PRETAX> (15,508,000)
<INCOME-TAX> (2,639,000)
<INCOME-CONTINUING> (12,869,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (12,869,000)
<EPS-BASIC> (0.74)
<EPS-DILUTED> (0.74)
</TABLE>
