<PAGE> 1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 0-18387
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Pegasus Aircraft Partners II, L.P.
----------------------------------
(Exact name of registrant as specified in its charter)
Delaware 84-1111757
-------- ----------
(State of organization) (IRS Employer
Identification No.)
Four Embarcadero Center 35th Floor
San Francisco, California 94111
- ------------------------- -----
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code (415) 434-3900
--------------
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 .
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Pegasus Aircraft Partners II, L.P.
Quarterly Report on Form 10-Q for the
Quarter Ended September 30, 1997
Table of Contents
Page
Part I FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited) 2
Balance Sheets - September 30, 1997
and December 31, 1996 2
Statements of Income for the three
months ended September 30, 1997
and 1996 3
Statements of Income for the nine
months ended September 30, 1997
and 1996 4
Statements of Partners' Equity for the
nine months ended September 30, 1997
and 1996 5
Statements of Cash Flows for the nine
months ended September 30, 1997 and
1996 6
Notes to Financial Statements 7
Item 2. Management's Discussion and Analysis
of Financial Condition and Results
of Operations 18
Part II OTHER INFORMATION
Item 1. Legal Proceedings 22
Item 5. Other Events 24
Item 6. Exhibits and Reports on Form 8-K 24
1
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Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
PEGASUS AIRCRAFT PARTNERS II, L.P.
BALANCE SHEETS - SEPTEMBER 30, 1997 AND DECEMBER 31, 1996
(unaudited)
<TABLE>
<CAPTION>
1997 1996
(in thousands, except unit data)
ASSETS
<S> <C> <C>
Cash and cash equivalents $ 6,389 $ 12,831
Restricted cash -- 2,248
Rent and other receivables (Note 4) 635 758
Aircraft, net (Notes 2 and 4) 55,751 56,177
Other assets 35 25
-------- --------
Total Assets $ 62,810 $ 72,039
======== ========
LIABILITIES AND PARTNERS' EQUITY
LIABILITIES:
Lease settlement reserve $ 3,000 $ 3,000
Accounts payable and accrued expenses 124 96
Payable to affiliates (Note 3) 378 636
Maintenance reserves payable (Note 4) 439 2,248
Notes payable 4,751 4,751
Deferred income 2,825 3,779
Distributions payable to partners 3,004 2,989
-------- --------
Total Liabilities 14,521 17,499
-------- --------
COMMITMENTS AND CONTINGENCIES (Notes 3, 4 and 5)
PARTNERS' EQUITY:
General Partners (967) (904)
Limited Partners (7,255,000 units outstanding) 49,256 55,444
-------- --------
Total Partners' Equity 48,289 54,540
-------- --------
Total Liabilities and Partners' Equity $ 62,810 $ 72,039
======== ========
</TABLE>
The accompanying notes are an integral part of these
financial statements.
2
<PAGE> 4
PEGASUS AIRCRAFT PARTNERS II, L.P.
STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996
(unaudited)
<TABLE>
<CAPTION>
1997 1996
---------- ----------
(in thousands, except unit
data and per unit amounts)
<S> <C> <C>
REVENUE:
Rentals from operating leases $ 3,213 $ 3,961
Interest 95 160
---------- ----------
3,308 4,121
---------- ----------
EXPENSES:
Depreciation and amortization 1,900 2,703
Management and re-lease fees (Note 3) 259 268
Interest expense 111 156
General and administrative (Note 3) 69 69
Direct lease 76 59
Provision for bad debts (Note 4) -- 640
Loss in value Kiwi stock (Note 4) -- 119
---------- ----------
2,415 4,014
---------- ----------
NET INCOME $ 893 $ 107
========== ==========
NET INCOME ALLOCATED:
To the General Partners $ 9 $ 1
To the Limited Partners 884 106
---------- ----------
$ 893 $ 107
========== ==========
NET INCOME PER LIMITED
PARTNERSHIP UNIT $ .12 $ .01
========== ==========
WEIGHTED AVERAGE NUMBER OF LIMITED
PARTNERSHIP UNITS OUTSTANDING 7,255,000 7,255,000
========== ==========
</TABLE>
The accompanying notes are an integral part of these
financial statements.
3
<PAGE> 5
PEGASUS AIRCRAFT PARTNERS II, L.P.
STATEMENTS OF INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996
(unaudited)
<TABLE>
<CAPTION>
1997 1996
---- ----
(in thousands, except unit
data and per unit amounts)
<S> <C> <C>
REVENUE:
Rentals from operating leases $ 8,981 $ 11,815
Interest 396 563
---------- ----------
9,377 12,378
---------- ----------
EXPENSES:
Depreciation and amortization 5,219 8,113
Management and re-lease fees (Note 3) 718 850
Interest expense 342 506
General and administrative (Note 3) 251 227
Direct lease 304 246
Provision for bad debts (Note 4) - 640
Loss in value Kiwi stock (Note 4) - 155
---------- ----------
6,834 10,737
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NET INCOME $ 2,543 $ 1,641
========== ==========
NET INCOME ALLOCATED:
To the General Partners $ 25 $ 16
To the Limited Partners 2,518 1,625
---------- ----------
$ 2,543 $ 1,641
========== ==========
NET INCOME PER LIMITED
PARTNERSHIP UNIT $ .35 $ . 22
========== ==========
WEIGHTED AVERAGE NUMBER OF LIMITED
PARTNERSHIP UNITS OUTSTANDING 7,255,000 7,255,000
========== ==========
</TABLE>
The accompanying notes are an integral part of these
financial statements.
4
<PAGE> 6
PEGASUS AIRCRAFT PARTNERS II, L.P.
STATEMENTS OF PARTNERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996
(unaudited)
<TABLE>
<CAPTION>
General Limited
Partners Partners Total
(in thousands)
<S> <C> <C> <C>
Balance, January 1, 1997 $(904) $ 55,444 $ 54,540
Net income 25 2,518 2,543
Distributions to partners declared (88) (8,706) (8,794)
----- -------- --------
Balance, September 30, 1997 $(967) $ 49,256 $ 48,289
===== ======== ========
Balance, January 1, 1996 $(816) $ 64,183 $ 63,367
Net income 16 1,625 1,641
Distributions to partners declared (88) (8,706) (8,794)
----- -------- --------
Balance, September 30, 1996 $(888) $ 57,102 $ 56,214
===== ======== ========
</TABLE>
The accompanying notes are an integral part of these
financial statements.
5
<PAGE> 7
PEGASUS AIRCRAFT PARTNERS II, L.P.
STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996
(unaudited)
<TABLE>
<CAPTION>
1997 1996
-------- --------
(in thousands)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,543 $ 1,641
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 5,219 8,113
Provision for bad debts -- 640
Loss arising from securities received
in a leasing transaction -- 155
Change in assets and liabilities:
Rent and other receivables (139) 684
Other assets (10) 35
Accounts payable and accrued expenses 28 (77)
Payable to affiliates (258) (232)
Interest payable -- (12)
Deferred income and deposits (1,150) (2,346)
Unrestricted maintenance reserves payable 439 --
-------- --------
Net cash provided by operating activities 6,672 8,601
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capitalized aircraft improvements (4,793) (1,913)
Repayment of advances by lessees 262 338
Accounts payable arising from
capitalized aircraft improvements -- 41
-------- --------
Net cash used in investing activities (4,531) (1,534)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Transfers from restricted cash, net 2,275 --
Application of maintenance reserves
payable to restore aircraft (2,275) --
Security deposits 196 --
Repayment of notes payable -- (1,439)
Cash distributions paid to partners (8,779) (8,751)
-------- --------
Net cash used in financing activities (8,583) (10,190)
-------- --------
NET DECREASE IN CASH AND
CASH EQUIVALENTS (6,442) (3,123)
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD 12,831 11,955
-------- --------
CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 6,389 $ 8,832
======== ========
Supplemental schedule of cash flow information:
Interest paid $ 343 $ 518
======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements
6
<PAGE> 8
PEGASUS AIRCRAFT PARTNERS II, L.P.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(unaudited)
1. GENERAL
The accompanying unaudited interim financial statements include all
adjustments (consisting solely of normal recurring adjustments) which are, in
the opinion of the General Partners, necessary to fairly present the financial
position of the Partnership as of September 30, 1997 and the results of its
operations, changes in partners' equity and cash flows for the nine months then
ended.
These financial statements should be read in conjunction with the
Significant Accounting Policies and other Notes to Financial Statements included
in the Partnership's annual audited financial statements for the
year ended December 31, 1996.
Certain amounts in the 1996 financial statements presented herein have
been reclassified to conform to the classifications used in 1997.
2. AIRCRAFT
The Partnership's net investment in aircraft as of September 30, 1997 and
December 31, 1996 consisted of the following (in thousands):
<TABLE>
<CAPTION>
1997 1996
--------- --------
<S> <C> <C>
Aircraft on operating leases $ 103,543 $ 77,189
Less: Accumulated depreciation (52,870) (39,518)
Provision for decline in market
value of aircraft (8,106) (3,339)
--------- --------
$ 42,567 $ 34,332
--------- --------
Aircraft held for lease $ 46,934 $ 68,495
Less: Accumulated depreciation (18,838) (26,971)
Reserve for decline in market value
of aircraft (4,240) (9,007)
Amounts received including value
of aircraft in Lease Settlement accounted
for under the cost recovery method (10,115) (10,115)
Reserves for maintenance (557) (557)
--------- --------
13,184 21,845
--------- --------
Aircraft, net $ 55,751 $ 56,177
========= ========
</TABLE>
7
<PAGE> 9
3. TRANSACTIONS WITH AFFILIATES
Management Fees The General Partners are entitled to receive a quarterly
subordinated base management fee in an amount generally equal to 1.5% of gross
aircraft rentals, net of re-lease fees paid. Of this amount, 1.0% is payable to
the Managing General Partner and 0.5% is payable to the Administrative General
Partner. The General Partners earned $47,000 and $131,000 of base management
fees during the quarter and nine months ended September 30, 1997, respectively.
The General Partners also are entitled to receive a quarterly subordinated
incentive management fee in an amount equal to 4.5% of quarterly cash flow and
sales proceeds (net of resale fees), of which 2.5% is payable to the Managing
General Partner and 2.0% is payable to the Administrative General Partner. The
General Partners earned $130,000 and $364,000 of incentive management fees
during the quarter and nine months ended September 30, 1997, respectively.
Re-lease Fees The General Partners are entitled to receive a quarterly
subordinated fee for re-leasing aircraft or renewing a lease in an amount equal
to 3.5% of the gross rentals from such re-lease or renewal for each quarter for
which such payment is made. Of this amount, 2.5% is payable to the Managing
General Partner and 1.0% is payable to the Administrative General Partner. The
General Partners earned $82,000 and $223,000 of re-lease fees during the quarter
and nine months ended September 30, 1997, respectively.
Accountable General and Administrative Expenses The General Partners are
entitled to reimbursement of certain expenses paid on behalf of the Partnership
which are incurred in connection with the administration and management of the
Partnership. Such reimbursable expenses amounted to $19,000 and $56,000 during
the quarter and nine months ended September 30, 1997, respectively, all of which
was payable to the Administrative General Partner.
In the nine months ended September 30, 1997, the Partnership purchased
certain equipment and parts relating to the C checks performed and the
hushkitting of the 727 non-advanced aircraft and the aircraft cargo conversion
from a company owned by the three directors of the Managing General Partner in
amounts aggregating approximately $2.3 million. Additionally, the Partnership
paid approximately $1.8 million to a licensed maintenance provider in which an
affiliate of the Managing General Partner has an equity interest. An engine
owned by the Partnership was installed on an aircraft owned by an affiliated
partnership during the first quarter and was installed on an aircraft owned by
an affiliate of the Managing General Partner during the second quarter. The
engine generated rent of $42,000 during the nine months ended September 30,
1997. A Partnership engine was installed on an aircraft owned by an affiliate of
the Managing General Partner for a portion of the nine month period and
generated rents of $56,000 Additionally during the nine months ended September
30, 1997, the Partnership accrued $90,000 payable to an affiliate of the
Managing General Partner, with respect to an engine delivered on the aircraft
leased to Falcon Air Express, Inc.
8
<PAGE> 10
4. AIRCRAFT LEASES
CONTINENTAL AIRLINES LEASES During September 1989, the Partnership acquired a
McDonnell Douglas DC-10-10 aircraft for a total purchase price of $18,301,000,
subject to an operating lease with Continental, originally scheduled to expire
on May 31, 1997, with rents of $252,000 per month. Continental also had three
two-year renewal options, with rent payable during the first two such renewal
periods at the lesser of the then fair market rental value or the rental rate
during the initial term, and during the third such renewal period at the then
fair market rental rate. In addition, Continental has a right of first refusal
to purchase or re-lease the aircraft after the last renewal period on the same
terms as those included in any bona fide offer made to the Partnership by a
third party. This lease was modified in 1995 and 1996 as discussed below.
During September 1989, the Partnership acquired a Boeing 727-200
non-advanced aircraft for a total purchase price of $6,116,000, subject to an
operating lease with Continental. This aircraft was returned to the Partnership
during Continental's bankruptcy, remarketed to Kiwi (and recovered from Kiwi,
after Kiwi filed for bankruptcy in late 1996) and was delivered in March 1997 to
Falcon Air Express Inc. (see discussion below).
During August 1990, the Partnership acquired an Airbus Industrie Model
A300-B4-103 ("A-300") aircraft for a total purchase price of $28,070,000,
subject to an operating lease with Continental, originally scheduled to expire
on December 29, 2000 and with monthly, in advance, rentals of $312,000.
In January 1995, Continental announced that it was grounding its fleet of
Airbus A-300 aircraft, including the A-300 aircraft leased to it by the
Partnership, and notified the Partnership of its intention to return the
aircraft to the Partnership. Continental paid $150,000 of the $312,000 monthly
rental payment due in February through May 1995. The Partnership did not accrue
as rental revenue the difference between the amount due and the amount paid by
Continental for such months. Continental took the A-300 out of service in May
1995, and the aircraft was prepared for delivery in June 1995 to a new lessee,
Akdeniz Air Mediterranean, Inc. ("Akdeniz") based in Turkey.
In June 1995, the Partnership executed a lease of the A-300 aircraft to
Akdeniz for a scheduled term of four years, under which Akdeniz defaulted. The
Partnership recovered the A-300 aircraft in late 1995 and is currently
remarketing it. The Partnership estimates that it will spend approximately $2.5
million for a scheduled heavy maintenance check, modifications and FAA mandated
work that will be required prior to delivery of the aircraft to a new lessee.
The Partnership received $557,000 from Continental pursuant to the A-300
Settlement discussed below which will be applied towards such maintenance.
On November 15, 1995, the Partnership reached an agreement with
Continental regarding the settlement for the lease obligations under the A-300
lease ("A-300 Lease Settlement"), which also included a restructuring of the
DC-10-10 Aircraft lease ("DC-10 Restructuring").
9
<PAGE> 11
Under the terms of the A-300 Lease Settlement, the Partnership received a
cash payment of approximately $3,721,000, including approximately $325,000 as
reimbursement for certain integration and transaction expenses for the Akdeniz
remarket, and (i) title to a Boeing 727-200 advanced aircraft subject to lease
with Continental for a term of approximately 26 months at a lease rate of
$85,000 per month and (ii) title to a second Boeing 727-200 advanced aircraft
subject to a lease with Continental for a term of approximately 42 months at a
lease rate of $85,000 per month. Additionally, the Partnership received
approximately $557,000 as an economic settlement in lieu of Continental
performing certain maintenance work and meeting the return conditions required
by the A-300 lease.
Under the DC-10 Restructuring the Partnership received approximately
$3,100,000, the lease expiration date was changed from May 31, 1997 to October
31, 1996 and the monthly lease payments were reduced from $252,000 to $135,000
effective September 15, 1995. All other terms and conditions of the DC-10-10
lease remain unchanged. During 1996, Continental and the Partnership reached an
agreement to extend the lease of the DC-10 aircraft to June 30, 1998 at a lease
rate of $150,000 per month.
Continental filed for Chapter 11 bankruptcy protection on December 3,
1990. The Partnership entered into various lease modifications and financing
arrangements with Continental as a result of the bankruptcy. At September 30,
1997, the Partnership had aircraft modification advances to Continental with a
remaining outstanding balance of $30,000, which was being repaid monthly with
interest.
TRANS WORLD AIRLINES, INC. LEASES. - During December 1989, the Partnership
acquired a McDonnell Douglas MD-82 aircraft for a total purchase price of
$20,763,000, subject to an operating lease with TWA, which was originally
scheduled to expire on April 13, 1993, but was amended and extended until
November 1, 1998 with monthly, in advance, rental payments of $185,000. As
described below, this lease was further extended to November 2004 during TWA's
prepackaged bankruptcy in 1995.
Upon execution of the 1993 lease amendment, the Partnership reimbursed TWA
for $225,000 of capital improvements which were made to the aircraft and
advanced $750,000 to TWA to finance certain major maintenance procedures, which
is being repaid in monthly installments through November 1998 with interest at a
fixed rate of 9.70%. At September 30, 1997, the balance of the receivable was
$180,000. All 1997 repayments of advances have been made by TWA.
During January 1990, the Partnership acquired a Lockheed L-1011 aircraft
for a total purchase price of $17,555,000, subject to an operating lease with
TWA, originally scheduled to expire on June 30, 1993. The lease was amended and
extended to October 1, 1998 with rental payments payable monthly, in advance, at
the rate of $130,000.
Upon execution of the lease amendment, the Partnership reimbursed TWA for
$225,000 of capital improvements which were made to the aircraft and advanced
$550,000 to TWA to finance certain major maintenance procedures, which is being
repaid in monthly installments through October 1998 with interest at 9.68%. At
September 30, 1997, the
10
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balance of the receivable was $124,000. All 1997 repayments of advances have
been made by TWA.
In mid-October 1994, because of operating and financial problems, TWA
announced that it would seek a global restructuring of its capital by offering
common stock for its debt securities, preferred stock obligations and lease
deferrals negotiated with aircraft lessors such as the Partnership ("Exchange
Offer") with the objective of an orderly financial reorganization through a
prepackaged bankruptcy filing. In conjunction with this restructuring, TWA and
the Partnership agreed ("TWA Agreement") to a deferral of 50% of the rent
scheduled for November 1994, and 75% of the rent scheduled from December 1994 to
April 1995 for the MD-82 aircraft (50% of the December 1994 through April 1995
rent with respect to the L-1011 aircraft) followed by a return to the original
payment schedule. All rents deferred during the November 1994 to April 1995
period were repaid with interest at 12% from the date of deferral over an
18-month period which commenced May 1, 1995. Additionally, TWA and the
Partnership agreed to extend the lease of the MD-82 aircraft six years beyond
the scheduled expiration date (to November 2004) at the current lease rate of
$185,000 per month. On June 30, 1995, TWA filed its prepackaged reorganization
plan under Chapter 11 of the US Bankruptcy Code. On August 23, 1995 the
reorganization plan which included the foregoing lease modification was
confirmed by the Bankruptcy Court and TWA emerged from bankruptcy. TWA has made
all rental payments, advance repayments and payments of deferred rent. However,
TWA has continued to incur substantial losses and has reduced liquidity. There
can be no assurance that it will be able to meet its obligations in the future.
In mid-1996, as part of a fleet restructuring, TWA returned the L-1011
aircraft it leased from the Partnership. The lease, which provided for monthly
rentals of $130,000, was originally scheduled to expire in September 1998. In
connection with the return of the L-1011 aircraft TWA paid the Partnership
$2,846,000, which represented rents due under the remaining term of the lease,
discounted at 5% ("L-1011 Lease Prepayment") plus $3,000,000 as an economic
settlement for noncompliance with certain lease return conditions. The lease was
terminated, the aircraft was returned and $5,846,000 was received on October 16,
1996. The Partnership is reviewing alternatives for the use of the proceeds
received, including the use of the economic settlement to purchase an additional
aircraft or engines. It is possible that the Partnership will lease the engines
that were a part of the L-1011 separately and sell the airframe for parts.
The L-1011 aircraft was originally purchased in 1990 for $18,205,000
(including related fees) and had a net book value of approximately $6.1 million
unadjusted for the $3,000,000 economic settlement accounted for as a Lease
settlement reserve on the balance sheets at September 30, 1997 and December 31,
1996. Additionally, the L-1011 Lease Prepayment was accounted for as deferred
income and will be recognized ratably over the original remaining lease term.
AEROMEXICO LEASES During July 1992, the Partnership re-leased two
McDonnell Douglas DC-9-31 aircraft previously leased to Midway Airlines Inc.
("Midway") to Aerovias de Mexico, S.A. de C.V. ("Aeromexico") for terms of
approximately five years. The leases which originally provided for quarterly in
advance rentals of $234,000 and were
11
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scheduled to expire in July 1997 were each extended to January 2000, at a rate
of $75,000 per month.
The DC-9-31 aircraft had originally been acquired in April and March 1990
for purchase prices aggregating $14,295,000. At the time the Partnership
repossessed these two aircraft from Midway, the aircraft were in need of
substantial maintenance work. As a precondition to accepting the aircraft for
lease, Aeromexico required the Partnership to complete the needed maintenance
procedures and also to make certain capital improvements to the aircraft. The
Partnership incurred approximately $5.5 million in completing these maintenance
procedures and capital improvements prior to delivery of the aircraft to
Aeromexico.
KIWI INTERNATIONAL AIR LINES, INC. - BANKRUPTCY In 1993, the Partnership
leased its two Boeing 727-200 aircraft, to Kiwi. The aircraft were originally
purchased in 1989 (Non-advanced) and 1990 (Advanced) for purchase prices of
$6,261,000 and $10,748,000 respectively (including related fees). The leases
were operating leases which required monthly rental payments, in advance, in the
amounts of $60,000 (Non-advanced) and $115,000 (Advanced) (collectively, the
"Kiwi Leases"). The Kiwi Leases were originally scheduled to expire on April 15,
1998 and June 30, 1998, respectively. In 1996, the Kiwi Leases were amended and
extended to December 31, 1999. Kiwi was also obligated to make monthly payments
of $250 per flight hour for maintenance reserve funds administered and held by
the Partnership. An affiliated partnership and affiliates of the Managing
General Partner also own aircraft which were leased to Kiwi.
In connection with the delivery of the aircraft to Kiwi the Partnership
expended $2,228,000 with respect to the 727 Advanced aircraft, of which $971,000
was capitalized and $1,257,000 represented maintenance costs which were paid out
of funds received in a maintenance settlement with the prior lessee. Capitalized
improvements of $743,000 were made with respect to the non-advanced aircraft.
The Partnership also received Kiwi stock and rights to warrants in
connection with these leasing transactions. The Partnership is subject to
significant restrictions on its ability to dispose of these securities. Based
upon the price at which Kiwi sold similar securities to unrelated third parties,
the Partnership originally recorded the securities at a value of $600,000. The
securities were valued at approximately $1,000 at September 30, 1997 and
December 31, 1996. (See Kiwi bankruptcy discussion below).
During 1994, the Partnership funded approximately $633,000 of costs
primarily related to compliance with certain FAA airworthiness directives,
$308,000 of which was scheduled to be repaid by Kiwi over a one-year period. In
March 1996, Kiwi signed a promissory note ("Bellyskin Note") scheduling the
repayment of this amount, with interest from February 1996 at 12% per annum,
over eighteen months which began June 1, 1996.
In August 1996, the Partnership paid $1.9 million to hushkit the
non-advanced 727 aircraft for which Kiwi was to pay an increased lease rate over
an extended lease term. The hushkit purchase price was funded out of cash
reserves previously generated.
12
<PAGE> 14
In June 1996, Kiwi agreed with the FAA to ground 25% of its fleet due to
certain pilot training handbook deficiencies. In August 1996, Kiwi and the FAA
resolved the deficiencies and Kiwi returned to full capacity. In addition to the
FAA grounding, Kiwi's operations were also negatively impacted by the market
reaction to the ValuJet incident and as a result, Kiwi did not meet its
financial goals. In July 1996, an institutional investor contributed $4,000,000
in return for a convertible note, for up to 32% of Kiwi's common stock and two
seats on Kiwi's Board of Directors. The investor had options to invest an
additional $6,000,000 in convertible preferred stock which expired in March
1997. Existing shareholders (including directors and employees) were to be given
the opportunity to make additional investments.
Kiwi requested and was granted by the Partnership a deferral of its August
1996 rental and July 1996 maintenance payments for the advanced aircraft and the
July rental and June maintenance reserves with respect to the non-advanced
aircraft. Kiwi was also unable to make its September rental and August
maintenance payments for each aircraft and was placed in default by the
Partnership.
In late September 1996, Kiwi proposed a restructuring of its obligations
with certain creditors, including the Partnership. On September 30, 1996, Kiwi
filed a voluntary petition for reorganization under Chapter 11 of the Federal
Bankruptcy Code ("Bankruptcy Code") and did not make any subsequent payments.
The Kiwi Leases accounted for approximately 11% of the Partnership's rental
revenue in 1996 and the aircraft had net book values aggregating approximately
$8,100,000 (including the hushkit), at December 31, 1996 (excluding the cost of
the heavy maintenance check being completed prior to delivery to Falcon Air
Express Inc. discussed below). Additionally, the unpaid balance of the Bellyskin
Note, plus interest, was $290,000. On October 15, 1996, Kiwi ceased scheduled
flight operations while still exploring financial alternatives. Kiwi rejected
both leases as of November 15, 1996. The Partnership recovered the two aircraft,
which did not meet return conditions. The Partnership provided an allowance for
bad debts in the amount of $640,000 in respect of amounts due at September 30,
1996. The Partnership recovered the aircraft in late 1996 and prepared them for
delivery to new lessees, Falcon Air Express, Inc. and Capital Cargo
International Airlines, Inc. as discussed below. Kiwi restarted operations in
early 1997 after obtaining debtor-in-possession financing. The Partnership filed
claims in Kiwi's bankruptcy preserving its rights in the Kiwi estate. In April
1997, the Partnership won a summary judgment in Bankruptcy Court permitting the
use of the previously collected maintenance reserves ($2.3 million). The
Partnership reclassified the collected reserves from restricted cash to cash and
cash equivalents and the related maintenance reserve payable was applied
against expenditures made to make the aircraft leaseable. In July 1997, the
Bankruptcy Court approved a proposal submitted by a group that includes certain
of the parties that had provided debtor-in-possession financing to purchase the
assets of Kiwi. Based upon the approved purchase price, it is likely that the
Partnership will have little or no recovery of its bankruptcy claims.
FALCON AIR EXPRESS, INC. LEASE - In December 1996, the Partnership entered
into a lease agreement with Falcon Air Express, Inc. ("Falcon") a charter
airline with respect to the 727-200 non-advanced aircraft formerly leased to
Kiwi. The lease is for a term of 60 months and provides for a monthly rental of
$95,000. Falcon provided a security deposit of $95,000. The lease also requires
Falcon to fund, on a monthly basis, maintenance reserves
13
<PAGE> 15
of $317 per flight hour. In connection with the delivery of the aircraft, the
Partnership completed a heavy maintenance check on the aircraft, including
certain modifications at a cost of approximately $2,000,000, a portion of which
was expended in 1996. The Partnership also purchased an engine at a cost of
$760,000 prior to delivery of the aircraft and spent approximately $200,000 with
respect to maintenance work and committed approximately $400,000 for engine
overhaul. Additionally, the Partnership spent $416,000 in connection with the
overhaul of the other JT8D-9 engine. The aircraft was delivered to Falcon in
March 1997.
CAPITAL CARGO INTERNATIONAL AIRLINES, INC. LEASE - In January 1997, the
Partnership entered into an agreement in principle with Capital Cargo
International Airlines, Inc. ("Capital"), a start-up freight carrier, with
respect to the 727-200 advanced aircraft formerly leased to Kiwi. The
Partnership agreed to finance the conversion of the aircraft to a freighter and
complete a C-check (totaling approximately $2.6 million). The Capital Lease
("Capital Lease") lease is for a term of approximately eight years and provides
for an initial monthly lease rate of $105,000 per month. The Capital Lease
requires the Partnership to hushkit the aircraft on or before its 1999 C check
visit at its own expense (approximately $3 million) at which time the lease rate
increases to $139,000 per month. The Capital Lease requires Capital to fund
maintenance reserves monthly at a rate of $377 per flight hour. Capital provided
a security deposit of $50,000 and is obligated to add $17,000 per month to the
security deposit during the lease term until the deposit totals $220,000. The
lease was executed and aircraft was delivered to Capital in July 1997.
In July 1997, in connection with the delivery of the Boeing 727-200
Advanced aircraft to Capital, the Partnership purchased two JT8D-15 engines from
an unaffiliated third party for cash of $1,550,000 plus two JT8D-15 engine cores
returned with the aircraft by Kiwi. The third engine returned by Kiwi with
respect to the aircraft was serviceable.
5. LITIGATION
In November 1994, a series of purported class actions (the "New York
Limited Partnership Actions") were filed in the United States District Court for
the Southern District of New York ("District Court") concerning PaineWebber
Incorporated sale and sponsorship of various limited partnership investments,
including those offered by the Partnership. The lawsuits were brought against
PaineWebber Incorporated and PaineWebber Group, Inc. (together, "PaineWebber"),
among others, by allegedly dissatisfied partnership investors. In March 1995,
after the actions were consolidated under the title In re: PaineWebber Limited
Partnerships Litigation, the plaintiffs amended their complaint to assert claims
against a variety of other defendants, including Air Transport Leasing, Inc., an
affiliate of PaineWebber and the Administrative General Partner in the
Partnership ("Administrative General Partner").
The amended complaint in the New York Limited Partnership Actions alleged,
among other things, that, in connection with the sale of interests in the
Partnership, PaineWebber and the Administrative General Partner (1) failed to
provide adequate disclosure of the risks involved with the Partnership; (2)
made false and misleading representations about the safety of the investments
and the Partnership's
14
<PAGE> 16
anticipated performance; and (3) marketed the Partnership to investors for whom
such investments were not suitable. The plaintiffs also alleged that following
the sale of the Partnership investments PaineWebber and the Administrative
General Partner misrepresented financial information about the Partnership's
value and performance. The amended complaint alleged that PaineWebber and the
Administrative General Partner violated the Racketeer Influenced and Corrupt
Organizations Act ("RICO") and the federal securities laws. The plaintiffs
sought unspecified damages, including reimbursement for all sums invested by
them in the partnerships, as well as disgorgement of all fees and income derived
by PaineWebber from the limited partnerships. In addition, the plaintiffs also
sought treble damages under RICO.
On May 30, 1995, the District Court certified class action treatment of
the plaintiffs' claims in the New York Limited Partnership Actions.
In January 1996, PaineWebber signed a memorandum of understanding with the
plaintiffs in the class action outlining the terms under which the parties
agreed to settle the case. A definitive settlement was agreed in July 1996 and
in March 1997, the District Court approved the settlement as fair and
reasonable. Under the terms of the settlement PaineWebber agreed to pay $125
million and additional consideration to class members. The investors who had
objected to the settlement have appealed the District Court's approval to the
United States Court of Appeals for the Second Circuit. In July 1997, the U.S.
Court of Appeals for the Second Circuit affirmed the District Court's approval
of the settlement.
In April 1995, two investors in the Pegasus limited partnerships filed a
purported class action in the Circuit Court of the State of Illinois for Cook
County entitled Robert M. Jacobson, et al. v. PaineWebber, Inc. et al., making
allegations substantially similar to those in the New York Limited Partnership
Actions, but limited in subject matter to the sale of the Pegasus partnerships,
and without a RICO claim. The plaintiffs in the Jacobson case simultaneously
remained as participants in the New York Limited Partnership Actions and
challenged the proposed settlement of these cases. Their objections were
overruled when the District Court approved the class action settlement with
respect to the New York Limited Partnership Actions. The Illinois case has been
dismissed.
Three actions were filed in the District Court for Brazoria County, Texas,
relating to the sale and sponsorship of interests in the Partnership and an
affiliated partnership. The complaints made state law claims, specifically,
common law fraud, conspiracy, violations of section 27.01 of the Texas Business
and Commerce Code, fraud in the inducement, negligent misrepresentation,
negligence, breach of fiduciary duty, violations of the Texas Securities Act,
and violations of the Texas Deceptive Trade Practices Act.The plaintiffs sought
unspecified damages, including attorneys' fees, reimbursement for all sums
invested by them in the partnerships, exemplary damages, and treble damages
under the Texas Deceptive Trade Practices Act. All three actions were removed to
federal court and two were transferred to the United States District Court for
the Southern District of New York and consolidated under the title, Mallia vs.
PaineWebber, Inc. The third action was dismissed with the consent of the parties
on the grounds that it was duplicative of the two actions that were before the
federal court in New York.
15
<PAGE> 17
In February 1996, approximately 230 plaintiffs filed an action entitled
Abbate v. PaineWebber Inc. in Sacramento, California Superior Court against
PaineWebber Incorporated and various affiliated entities concerning the
plaintiff's purchase of various limited partnership interests. The complaint
alleged, among other things, that PaineWebber and its related entities committed
fraud and misrepresentation and breached fiduciary duties allegedly owed to the
plaintiffs by selling or promoting limited partnership investments that were
unsuitable for the plaintiffs and by overstating the benefits, understating the
risks and failing to state material facts concerning the investments. The
complaint sought compensatory damages of $15 million plus punitive damages. In
September 1996, the California Superior Court dismissed many of the plaintiff's
claims as barred by the applicable statutes of limitation.
In June 1996, counsel for the Abbate plaintiffs instituted two additional
actions containing allegations nearly identical to those set forth in Abbate.
Bandrowski v. PaineWebber Incorporated, et al. was filed in California Superior
Court and Barstad v. PaineWebber Incorporated, et al. was filed in Arizona
Superior Court. Collectively, the two additional actions were brought by
approximately 50 plaintiffs and sought compensatory damages of approximately $4
million plus punitive damages. In March 1997, all of these actions were settled.
Under certain limited circumstances, pursuant to the Partnership Agreement
and other contractual obligations, PaineWebber and its affiliates, including the
Administrative General Partner were entitled to indemnification from the
Partnership for expenses and liabilities in connection with the above actions.
PaineWebber and its affiliates have agreed to not seek any indemnification from
the Partnership for any amounts payable in connection with the New York Limited
Partnership Actions. The General Partners do not believe that the settlement of
the Abbate, Bandrowski and Barstad actions will have a material effect on the
Partnership's financial statements, taken as a whole.
On September 30, 1996, Kiwi filed a voluntary petition for reorganization
under Chapter 11 of the Federal Bankruptcy Code and the Partnership recovered
the aircraft. The Partnership has a claim against Kiwi for all unpaid items
under the leases as well as rejection damages. The Partnership filed an
adversarial complaint seeking the Bankruptcy Court's authority to use certain
maintenance reserves ($2.3 million) collected from Kiwi. In April 1997, the
Partnership won a summary judgment in Bankruptcy Court permitting the use of the
collected maintenance reserves. The Partnership reclassified the collected
reserves from restricted cash to cash and cash equivalents and a portion of the
maintenance reserve payable was applied against expenditures made to make the
aircraft leasable. In July 1997, the Bankruptcy Court approved a proposal to
purchase the assets of Kiwi submitted by a group that included certain of the
parties that had provided debtor-in-possession financing to Kiwi. Based upon the
approved purchase price, it is likely that the Partnership will have little or
no recovery of its bankruptcy claims.
The Partnership was also involved in litigation within the Kiwi bankruptcy
with the company that acted as Kiwi's engine manager regarding each party's
compliance with a
16
<PAGE> 18
settlement agreement to facilitate the recovery of the aircraft and engines. The
parties achieved a negotiated settlement in May 1997.
17
<PAGE> 19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
The Partnership invests working capital and cash flow from operations
prior to its distribution to the partners in short-term, highly liquid
investments. At September 30, 1997, the Partnership's unrestricted cash and cash
equivalents of $6,389,000 was primarily invested in commercial paper. This
amount was $6,442,000 less than the Partnership's unrestricted cash and
equivalents at December 31, 1996 of $12,831,000. This decrease in unrestricted
cash was attributable to the amount by which cash distributions to partners and
capitalized aircraft improvements exceeded cash generated by operating
activities, collections of advances to lessees, security deposits received and
the unrestricted maintenance reserves, (see Footnote 4, "Aircraft Leases" and
Footnote 5 "Litigation") during the nine months ended September 30, 1997.
Rent and other receivables, net, decreased $123,000 from $758,000 at
December 31, 1996 to $635,000 at September 30, 1997. This was due to the
continued repayment of advances by Continental and TWA.
The Partnership had made advances to Continental aggregating $900,000
under the lease agreements with Continental of which $30,000 remained
outstanding at September 30, 1997. All related payments have been made when due.
The Partnership's leases with TWA for the Lockheed L-1011 and McDonnell
Douglas MD-82 aircraft were modified and extended during April 1993. Upon
execution of the lease amendments, the Partnership advanced $1,300,000 to TWA to
finance certain major maintenance procedures which had been performed on the two
aircraft. TWA agreed to repay these amounts to the Partnership over the
applicable remaining lease terms in equal monthly installments with interest at
a fixed rate of 450 basis points over the equivalent term U.S. treasury
obligations (9.68% and 9.70% for the initial advances). At September 30, 1997,
the balance of the advances to TWA aggregated $304,000.
Other assets increased $10,000 from $25,000 at December 31, 1996 to
$35,000 at September 30, 1997. Such amounts are primarily prepaid expenses.
The payable to affiliates decreased $258,000 to $378,000 at September 30,
1997 from $636,000 at December 31, 1996. The decrease was attributable to the
payment of fees previously accrued but unpaid to the Administrative General
Partner. As part of the class action settlement, the fees and distributions
earned by the Administrative General Partner have been assigned by an affiliate
to an escrow account for the benefit of class action members. (See Footnote 5,
"Litigation").
Deferred rental income and deposits was $2,825,000 at September 30, 1997
as compared to $3,779,000 at December 31, 1997. The decrease was primarily
attributable to the recognition of amounts previously received in connection
with the A-300 Lease Settlement and the L-1011 Lease Prepayment partially offset
by the collection of security deposits.
18
<PAGE> 20
The Partnership continues to actively remarket the A-300 and search for
alternatives relating to the L-1011 aircraft, both of which are currently off
lease. The Partnership expended approximately $7.6 million with respect to
aircraft delivered to Falcon and Capital (including approximately $600,000 spent
in 1996), including $2 million spent in July 1997 for engines. The Partnership
utilized the reserves collected from Kiwi to partially offset these
expenditures.
The amount of each distribution will be determined on a quarterly basis
after an evaluation of the Partnership's operating results and its current and
expected financial position. The distribution for the third quarter of 1997 was
paid on October 24, 1997 at an annualized rate equal to 8.0% of contributed
capital ($.40 per Unit). The Partnership's current cash distribution rate
exceeds the level of cash provided by operating activities. While the
Partnership's liquidation remains strong in the near term, future distributions
could be impacted by the ability to remarket the A-300 and L-1011 aircraft.
Distributions may be characterized for tax, accounting and economic
purposes as a return of capital, a return on capital or both. The portion of
each cash distribution by a partnership which exceeds its net income for the
fiscal period may be deemed a return of capital. Based on the amount of net
income reported by the Partnership for accounting purposes, approximately 70% of
the cash distributions paid to the partners for the three months ended September
30, 1997 (71% for the nine months then ended) constituted a return of capital.
Also, based on the amount of net income reported by the Partnership for
accounting purposes, approximately 81% of the cash distributions paid to the
partners from the inception of the Partnership through September 30, 1997
constituted a return of capital. However, the total actual return on capital
over the Partnership's life can only be determined at the termination of the
Partnership after all cash flows, including proceeds from the sale of the
aircraft, have been realized.
RESULTS OF OPERATIONS
The Partnership's net income was $893,000 and $2,543,000 for the quarter
and nine months ended September 30, 1997 ("1997 Quarter" and "1997 Period",
respectively) as compared to $107,000 and $1,641,000 for the quarter and nine
months ended September 30, 1996 ("1996 Quarter" and "1996 Period",
respectively).
The increase in the Partnership's net income for the 1997 Quarter and 1997
Period was principally due to the fact that the Partnership incurred the
provision for bad debts and loss in value of Kiwi stock which aggregated
$759,000 and $795,000 during the 1996 Quarter and 1996 Period, respectively. No
such amounts were incurred during the 1996 Period. (See "Liquidity and Capital
Resources" and Footnote 4 to the Financial Statements, "Aircraft Leases" for a
discussion of Continental.). The decrease in rental income in the 1997 Quarter
and 1997 Period as compared to the prior year periods was offset by a similar
decrease in depreciation.
Rental income decreased by $748,000 and $2,834,000, or 19% and 24% in the
1997 Quarter and 1997 Period, respectively, as compared to the 1996 Quarter and
1996 Period. The decrease was substantially attributable to the income
recognized during the
19
<PAGE> 21
1996 Quarter and 1996 Period with respect to the DC-10 Restructuring as well as
the fact that the 727 non-advanced aircraft and the 727 advanced aircraft
formerly leased to Kiwi were off lease for part of the 1997 Period prior to
delivery to Falcon and Capital, respectively.
Interest income decreased $65,000 and $167,000, or 41% and 30%, for the
1997 Quarter and 1997 Period, in comparison to the 1996 Quarter and 1996 Period,
respectively. This decrease was primarily attributable to the utilization during
1997 of a portion of the cash reserves held by the Partnership for improvements
in aircraft as well as the reduction (due to repayment) of advances to lessees,
on which interest is earned.
Depreciation and amortization expense decreased $803,000 and $2,894,000,
or 30% and 36%, for the 1997 Quarter and 1997 Period in comparison to the 1996
Quarter and 1996 Period, respectively. The decrease was attributable to the
decrease in depreciation relating to the DC 10-10 aircraft as well as the
reduction in depreciation expense with respect to the A-300 aircraft and the
L-1011 aircraft which were off lease during the 1997 Quarter and 1997 Period
(thus no depreciation was recognized).
Management and re-lease fees for the 1997 Quarter and 1997 Period,
decreased by $9,000 and $132,000 or 3% and 16%, respectively, in comparison to
the 1996 Quarter and 1996 Period primarily because of the decrease in rental
income which serves as the bases upon which certain management and re-lease fees
are calculated. The decrease in the 1997 Period as compared to the 1996 Period
is greater than the decrease in the comparative quarters because the two ex Kiwi
aircraft which were off lease for a portion of the 1997 Period were generating
rents for all or substantially all of the 1997 Quarter. The Partnership provided
an allowance for bad debts with respect to two months of rent generated in the
1996 Quarter by the then Kiwi aircraft, on which no fees were incurred.
Interest expense for the 1997 Quarter and 1997 Period, decreased by
$45,000 and $164,000 or 29% and 32% in comparison to the 1996 Quarter and 1996
Period, primarily because of the December 1996 refinancing which lowered the
amount outstanding and reduced the interest rate.
General and administrative expenses were similar but increased by $24,000
or 0% and 11% during the 1997 Quarter and 1997 Period respectively, as compared
to the 1996 Quarter and 1996 Period which was consistent with the Partnership's
level of operations.
Direct lease expenses increased by $17,000, and $58,000 in the 1997
Quarter and 1997 Period, or 29% and 24% as compared to the 1996 Quarter and 1996
Period, respectively, due primarily to storage costs and technical consulting
costs related to the ex-Kiwi aircraft which were off lease during a portion of
the 1997 Period.
At September 30, 1996 the Partnership provided an allowance for bad debts
in the amount of $640,000 which represented rents, advances (Bellyskin Note) and
related interest due from Kiwi (See Footnote 5, "Kiwi Bankruptcy"). No such
amounts were provided in the 1997 Period and 1997 Quarter.
Additionally, at September 30, 1996, the Partnership recognized a loss of
$155,000 ($119,000 was recognized in the 1996 Quarter) with respect to Kiwi
securities
20
<PAGE> 22
received in prior transactions. The securities are carried at a nominal value
(See Footnote 5, "Kiwi Bankruptcy").
21
<PAGE> 23
Part II. OTHER INFORMATION
Item 1. Legal Proceedings
In November 1994, a series of purported class actions (the "New York
Limited Partnership Actions") were filed in the United States District Court for
the Southern District of New York ("District Court") concerning PaineWebber
Incorporated sale and sponsorship of various limited partnership investments,
including those offered by the Partnership. The lawsuits were brought against
PaineWebber Incorporated and PaineWebber Group, Inc. (together, "PaineWebber"),
among others, by allegedly dissatisfied partnership investors. In March 1995,
after the actions were consolidated under the title In re: PaineWebber Limited
Partnerships Litigation, the plaintiffs amended their complaint to assert claims
against a variety of other defendants, including Air Transport Leasing, Inc., an
affiliate of PaineWebber and the Administrative General Partner in the
Partnership ("Administrative General Partner").
The amended complaint in the New York Limited Partnership Actions alleged,
among other things, that, in connection with the sale of interests in the
Partnership, PaineWebber and the Administrative General Partners' (1) failed to
provide adequate disclosure of the risks involved with the Partnership; (2)
made false and misleading representations about the safety of the investments
and the Partnership's anticipated performance; and (3) marketed the Partnership
to investors for whom such investments were not suitable. The plaintiffs also
alleged that following the sale of the Partnership investments PaineWebber and
the Administrative General Partner misrepresented financial information about
the Partnership's value and performance. The amended complaint alleged that
PaineWebber and the Administrative General Partner violated the Racketeer
Influenced and Corrupt Organizations Act ("RICO") and the federal securities
laws. The plaintiffs sought unspecified damages, including reimbursement for
all sums invested by them in the partnerships, as well as disgorgement of all
fees and income derived by PaineWebber from the limited partnerships. In
addition, the plaintiffs also sought treble damages under RICO.
On May 30, 1995, the District Court certified class action treatment of
the plaintiffs' claims in the New York Limited Partnership Actions.
In January 1996, PaineWebber signed a memorandum of understanding with the
plaintiffs in the class action outlining the terms under which the parties
agreed to settle the case. A definitive settlement was agreed in July 1996 and
in March 1997, the District Court approved the settlement as fair and
reasonable. Under the terms of the settlement PaineWebber agreed to pay $125
million and additional consideration to class members. The investors who had
objected to the settlement have appealed the District Court's approval to the
United States Court of Appeals for the Second Circuit. In July 1997, the U.S.
Court of Appeals for the Second Circuit affirmed the District Court's approval
of the settlement.
In April 1995, two investors in the Pegasus limited partnerships filed a
purported class action in the Circuit Court of the State of Illinois for Cook
County entitled Robert M.
22
<PAGE> 24
Jacobson, et al. v. PaineWebber, Inc. et al., making allegations substantially
similar to those in the New York Limited Partnership Actions, but limited in
subject matter to the sale of the Pegasus partnerships, and without a RICO
claim. The plaintiffs in the Jacobson case simultaneously remained as
participants in the New York Limited Partnership Actions and challenged the
proposed settlement of these cases. Their objections were overruled when the
District Court approved the class action settlement with respect to the New York
Limited Partnership Actions. The Illinois case has been dismissed.
Three actions were filed in the District Court for Brazoria County, Texas,
relating to the sale and sponsorship of interests in the Partnership and an
affiliated partnership. The complaints made state law claims, specifically,
common law fraud, conspiracy, violations of section 27.01 of the Texas Business
and Commerce Code, fraud in the inducement, negligent misrepresentation,
negligence, breach of fiduciary duty, violations of the Texas Securities Act,
and violations of the Texas Deceptive Trade Practices Act.The plaintiffs sought
unspecified damages, including attorneys' fees, reimbursement for all sums
invested by them in the partnerships, exemplary damages, and treble damages
under the Texas Deceptive Trade Practices Act. All three actions were removed to
federal court and two were transferred to the United States District Court for
the Southern District of New York and consolidated under the title, Mallia vs.
PaineWebber, Inc. The third action was dismissed with the consent of the parties
on the grounds that it was duplicative of the two actions that were before the
federal court in New York.
In February 1996, approximately 230 plaintiffs filed an action entitled
Abbate v. PaineWebber Inc. in Sacramento, California Superior Court against
PaineWebber Incorporated and various affiliated entities concerning the
plaintiff's purchase of various limited partnership interests. The complaint
alleged, among other things, that PaineWebber and its related entities committed
fraud and misrepresentation and breached fiduciary duties allegedly owed to the
plaintiffs by selling or promoting limited partnership investments that were
unsuitable for the plaintiffs and by overstating the benefits, understating the
risks and failing to state material facts concerning the investments. The
complaint sought compensatory damages of $15 million plus punitive damages. In
September 1996, the California Superior Court dismissed many of the plaintiff's
claims as barred by the applicable statutes of limitation.
In June 1996, counsel for the Abbate plaintiffs instituted two additional
actions containing allegations nearly identical to those set forth in Abbate.
Bandrowski v. PaineWebber Incorporated, et al. was filed in California Superior
Court and Barstad v. PaineWebber Incorporated, et al. was filed in Arizona
Superior Court. Collectively, the two additional actions were brought by
approximately 50 plaintiffs and sought compensatory damages of approximately $4
million plus punitive damages. In March 1997, all of these actions were settled.
Under certain limited circumstances, pursuant to the Partnership Agreement
and other contractual obligations, PaineWebber and its affiliates, including the
Administrative General Partner were entitled to indemnification from the
Partnership for expenses and liabilities in connection with the above actions.
PaineWebber and its affiliates have agreed to not seek any indemnification from
the Partnership for any amounts payable in connection
23
<PAGE> 25
with the New York Limited Partnership Actions. The General Partners do not
believe that the settlement of the Abbate, Bandrowski and Barstad actions will
have a material effect on the Partnership's financial statements, taken as a
whole.
On September 30, 1996, Kiwi filed a voluntary petition for reorganization
under Chapter 11 of the Federal Bankruptcy Code and the Partnership recovered
the aircraft. The Partnership has a claim against Kiwi for all unpaid items
under the leases as well as rejection damages. The Partnership filed an
adversarial complaint seeking the Bankruptcy Court's authority to use certain
maintenance reserves ($2.3 million) collected from Kiwi. In April 1997, the
Partnership won a summary judgment in Bankruptcy Court permitting the use of the
collected maintenance reserves. The Partnership reclassified the collected
reserves from restricted cash to cash and cash equivalents and a portion of the
maintenance reserve payable was applied against expenditures made to make the
aircraft leasable. In July 1997, the Bankruptcy Court approved a proposal to
purchase the assets of Kiwi submitted by a group that included certain of the
parties that had provided debtor-in-possession financing to Kiwi. Based upon the
approved purchase price, it is likely that the Partnership will have little or
no recovery of its bankruptcy claims.
The Partnership was also involved in litigation within the Kiwi bankruptcy
with the company that acted as Kiwi's engine manager regarding each party's
compliance with a settlement agreement to facilitate the recovery of the
aircraft and engines. The parties achieved a negotiated settlement in May 1997.
Item 5 Other Events
In September 1997, Richard S. Wiley purchased Richard W. Doust's
interest in Pegasus Capital Corporation ("PCC"), the parent of Pegasus
Aircraft Management Corp., the Managing General Partner of the Partnership.
Mr. Wiley now owns a controlling interest in PCC. Mr. Doust retains his
position as a senior officer and director of the Managing General Partner.
Item 6 Exhibits and Reports on Form 8-K
(a) None
(b) The Partnership did not file any Form 8-K during the third quarter
of the fiscal year ending December 31, 1997.
24
<PAGE> 26
SIGNATURE
Pursuant to the requirements 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.
Pegasus Aircraft Partners II, L.P.
(Registrant)
By: Air Transport Leasing, Inc.
A General Partner
Date: November 7, 1997 By: /s/ Joseph P. Ciavarella
------------------------
Joseph P. Ciavarella
Vice President, Treasurer
and Chief Financial
and Accounting Officer
25
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMTION EXTRACTED FROM FORM 10-Q FOR
THE QUARTER ENDED SEPTEMBER 30, 1997 OF PEGASUS AIRCRAFT PARTNERS II, LP AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FORM 10-Q.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> SEP-30-1997
<CASH> 6,389,000
<SECURITIES> 0
<RECEIVABLES> 1,274,000
<ALLOWANCES> (639,000)
<INVENTORY> 0
<CURRENT-ASSETS> 7,051,000
<PP&E> 150,478,000
<DEPRECIATION> (94,727,000)<F3>
<TOTAL-ASSETS> 62,810,000
<CURRENT-LIABILITIES> 9,770,000<F4>
<BONDS> 4,751,000
0
0
<COMMON> 0
<OTHER-SE> 48,289,000<F2>
<TOTAL-LIABILITY-AND-EQUITY> 62,810,000
<SALES> 0
<TOTAL-REVENUES> 9,377,000
<CGS> 0
<TOTAL-COSTS> 6,241,000
<OTHER-EXPENSES> 251,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 342,000
<INCOME-PRETAX> 2,543,000
<INCOME-TAX> 0
<INCOME-CONTINUING> 2,543,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,543,000
<EPS-PRIMARY> .35<F1>
<EPS-DILUTED> 0
<FN>
<F1>REPRESENTS NET INCOME PER LIMITED PARTNERSHIP UNIT OUTSTANDING.
<F2>REPRESENTS AGGREGATE PARTNERSHIP CAPITAL.
<F3>INCLUDES PROVISIONS FOR WRITEDOWNS AND CERTAIN OTHER RESERVES.
<F4>INCLUDES CERTAIN DEFERRED INCOME BEING AMORTIZED INTO OPERATIONS. NO INCOME
TAXES ARE PROVIDED AS THEY ARE THE DIRECT OBLIGATION OF THE PARTNERS
</FN>
</TABLE>
