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, 1999
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________________ to _______________________
Commission file number 0-18387
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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(Exact name of registrant as specified in its charter)
DELAWARE 84-1111757
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(State of organization) (IRS Employer
Identification No.)
Four Embarcadero Center 35th Floor
San Francisco, California 94111
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(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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This document consists of 21 pages.
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PEGASUS AIRCRAFT PARTNERS II, L.P.
QUARTERLY REPORT ON FORM 10-Q FOR THE
QUARTER ENDED SEPTEMBER 30, 1999
TABLE OF CONTENTS
Page
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Balance Sheets - September 30, 1999 and December 31, 1998 3
Statements of Income for the three months
ended September 30, 1999 and 1998 4
Statements of Income for the nine months
ended September 30, 1999 and 1998 5
Statements of Partners' Equity for the nine months
ended September 30, 1999 and 1998 6
Statements of Cash Flows for the nine months
ended September 30, 1999 and 1998 7
Notes to Financial Statements 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 13
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 19
Item 6. Exhibits and Reports on Form 8-K 19
Signature 20
2
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Part I. FINANCIAL INFORMATION
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Item 1. Financial Statements
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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BALANCE SHEETS -- SEPTEMBER 30, 1999 AND DECEMBER 31, 1998
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(unaudited)
1999 1998
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(in thousands, except unit data)
ASSETS
------
Cash and cash equivalents $ 3,111 $ 2,863
Restricted cash 368 --
Rent and other receivables, net 456 491
Aircraft, net (Notes 2, 4 and 6) 44,659 47,258
Other assets 814 811
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Total Assets $ 49,408 $ 51,423
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LIABILITIES AND PARTNERS' EQUITY
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LIABILITIES:
Accrued interest payable $ 99 $ --
Accounts payable and accrued expenses 116 106
Payable to affiliates (Note 3) 740 592
Deferred rental income and deposits 1,917 1,898
Maintenance reserves payable 2,089 1,696
Distributions payable to partners 2,931 2,931
Notes payable (Note 4) 15,310 10,000
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Total Liabilities 23,202 17,223
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COMMITMENTS AND CONTINGENCIES (Notes 4, 5 and 6)
PARTNERS' EQUITY:
General Partners (776) (868)
Limited Partners (7,255,000 units issued
and outstanding) 26,982 35,068
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Total Partners' Equity 26,206 34,200
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Total Liabilities and Partners' Equity $ 49,408 $ 51,423
======== ========
The accompanying notes are an integral part of these financial statements.
3
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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STATEMENTS OF INCOME
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FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
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(unaudited)
1999 1998
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(in thousands, except unit
data and per unit amounts)
REVENUES:
Rentals from operating leases $ 2,873 $ 3,225
Interest 22 49
Other income -- 13
Gain on sale of engines and equipment 173 241
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3,068 3,528
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EXPENSES:
Depreciation and amortization 1,933 2,106
Write-downs -- 97
Management and re-lease fees (Note 3) 246 274
Interest 294 240
General and administrative 79 65
Direct lease 62 76
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2,614 2,858
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NET INCOME $ 454 $ 670
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NET INCOME ALLOCATED:
To the General Partners $ 177 $ 245
To the Limited Partners 277 425
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$ 454 $ 670
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NET INCOME PER LIMITED
PARTNERSHIP UNIT $ 0.04 $ 0.06
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WEIGHTED AVERAGE NUMBER OF
LIMITED PARTNERSHIP UNITS
ISSUED AND OUTSTANDING 7,255,000 7,255,000
========== ==========
The accompanying notes are an integral part of these financial statements.
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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STATEMENTS OF INCOME
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FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
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(unaudited)
1999 1998
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(in thousands, except unit
data and per unit amounts)
REVENUE:
Rentals from operating leases $ 8,909 $ 9,449
Interest 85 145
Other income -- 134
Gain on sale of engines and equipment 173 241
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9,167 9,969
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EXPENSES:
Depreciation and amortization 6,416 6,152
Write-downs -- 477
Management and re-lease fees (Note 3) 730 763
Interest 826 533
General and administrative 228 244
Direct lease 167 223
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8,367 8,392
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NET INCOME $ 800 $ 1,577
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NET INCOME ALLOCATED:
To the General Partners $ 180 $ 254
To the Limited Partners 620 1,323
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$ 800 $ 1,577
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NET INCOME PER LIMITED
PARTNERSHIP UNIT $ 0.09 $ 0.18
========== ==========
WEIGHTED AVERAGE NUMBER OF
LIMITED PARTNERSHIP UNITS
ISSUED AND OUTSTANDING 7,255,000 7,255,000
========== ==========
The accompanying notes are an integral part of these financial statements.
5
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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STATEMENTS OF PARTNERS' EQUITY
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FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
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(unaudited)
General Limited
Partners Partners Total
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(in thousands)
Balance, January 1, 1999 $ (868) $ 35,068 $ 34,200
Net income 180 620 800
Distributions to partners declared (88) (8,706) (8,794)
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Balance, September 30, 1999 $ (776) $ 26,982 $ 26,206
======== ======== ========
Balance, January 1, 1998 $ (1,008) $ 45,078 $ 44,070
Net income 254 1,323 1,577
Distributions to partners declared (88) (8,706) (8,794)
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Balance, September 30, 1998 $ (842) $ 37,695 $ 36,853
======== ======== ========
The accompanying notes are an integral part of these financial statements.
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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STATEMENTS OF CASH FLOWS
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FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
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(unaudited)
1999 1998
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(in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 800 $ 1,577
Adjustments to reconcile net income to net
cash provided by operating activities:
Gain on sale of engines and equipment (173) (254)
Depreciation and amortization 6,416 6,152
Write-downs -- 477
Change in assets and liabilities:
Rent and other receivables 35 (232)
Other assets (3) (1)
Accounts payable and accrued expenses 10 11
Payable to affiliates 148 401
Accrued interest payable 99 79
Deferred rental income and deposits 19 (223)
Maintenance reserves payable 393 908
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Net cash provided by operating activities 7,744 8,895
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CASH FLOWS FROM INVESTING ACTIVITIES:
Deposit for aircraft modifications -- (790)
Capitalized aircraft improvements (3,903) (7,012)
Proceeds from the sale of engines and equipment 259 1,553
Repayment of advances by lessees -- 227
Increase in restricted cash (368) --
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Net cash used in investing activities (4,012) (6,022)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from note payable 5,310 5,249
Cash distributions paid to partners (8,794) (8,823)
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Net cash used in financing activities (3,484) (3,574)
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NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS 248 (701)
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD 2,863 5,705
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CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 3,111 $ 5,004
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SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid $ 720 $ 447
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The accompanying notes are an integral part of these financial statements.
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PEGASUS AIRCRAFT PARTNERS II, L.P.
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NOTES TO FINANCIAL STATEMENTS
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SEPTEMBER 30, 1999
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(unaudited)
1. General
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and in accordance with instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of the General Partners, all adjustments
necessary for a fair presentation have been included. For further information,
refer to the financial statements and footnotes thereto included in the
Partnership's annual report on Form 10-K for the year ended December 31, 1998.
Operating results for the three and nine month periods ended September 30, 1999
are not necessarily indicative of the results that may be expected for the year
ended December 31, 1999.
2. Aircraft
The Partnership's net investment in aircraft as of September 30, 1999
and December 31, 1998 consisted of the following (in thousands):
1999 1998
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Aircraft on operating leases, at cost $106,521 $110,149
Less: Accumulated depreciation (65,043) (62,050)
Write-downs (7,960) (8,058)
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$ 33,518 $ 40,041
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Aircraft held for lease, at cost $ 54,190 $ 46,744
Less: Accumulated depreciation (22,517) (19,093)
Write-downs (10,417) (10,319)
Lease Settlement accounted
for under the cost recovery method (10,115) (10,115)
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11,141 7,217
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Aircraft, net $ 44,659 $ 47,258
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Airbus A-300 Aircraft. In December 1997, the Partnership leased, on a short-term
(six month minimum) basis, one of its General Electric CF6-50C2 engines from the
Airbus A-300 aircraft to Viacao Aerea Sao Paulo S.A. ("VASP"), a Brazilian
carrier, for rents of $2,200 per day, plus maintenance reserves of $225 per
engine hour (subject to adjustment depending on the hour/cycle ratio). The
Partnership and VASP extended the lease first to December 1998 and then to June
1999. In December 1998, the Partnership and VASP entered into an agreement for
the lease of the second engine from the A-300 aircraft, the terms of which are
the same as the first engine lease. Both engine leases expired in June 1999.
Due to arrearages in rent and maintenance reserve payments, VASP was
placed on non-accrual status as of January 1, 1999. VASP made one payment of
$134,635 in the first quarter of 1999. At September 30, 1999, VASP was in
arrears with respect to scheduled rent payments and with respect to maintenance
reserve payments through June 23, 1999 for one engine and September 3, 1999 for
the second engine, the dates the respective engines were returned. Of these
amounts, the Partnership has a receivable for $233,000 of past due rent, is
holding a $400,000 security deposit from VASP and has received $614,000 of
maintenance reserve payments on the first engine.
After being unable to come to an agreement with VASP with respect to a
plan for curing the arrearages, the Partnership filed a lawsuit in Brazil to
recover the equipment from VASP. An additional suit was filed in a Florida Court
to recover the first engine (which was being stored at a Miami based engine
facility) and to recover amounts owed for both engines. As a result of court
orders in Brazil and Florida, the Partnership has regained possession of both
engines. A trial date has been set for December 27, 1999 in the Florida court
action. VASP is resisting pre-trial discovery in Florida and is seeking,
instead, to have the Florida case transferred to Brazil. (see Note 5,
"Litigation", for further discussion).
The Partnership is exploring remarketing options for these engines and
the possible sale of the airframe, which is being stored in Arizona. However,
there can be no assurance as to the ability to do so, the time it would take and
the lease rate or sales price that might be achieved.
Falcon Air Express, Inc. In December 1996, the Partnership entered into
a lease agreement with Falcon Air Express, Inc. ("Falcon"), a charter airline,
with respect to the Boeing 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 of $317 per flight
hour.
Due to its failure to pay rents in the fourth quarter of 1998, Falcon
was placed on non-accrual status beginning October 1, 1998. At September 30,
1999, Falcon was in arrears to the Partnership, with respect to scheduled rent
payments, of $570,000 and $215,000 in arrears with respect to maintenance
reserve payments. Of these amounts, the Partnership has recorded a receivable
for $95,000 of past due rent and is also holding a $95,000 security deposit from
Falcon.
Kitty Hawk Air Cargo, Inc. The Boeing 727-200 aircraft returned by
Continental Airlines in July 1999 is being converted to a freighter and
hushkitted to achieve Stage III noise compliance. It is anticipated that the
aircraft will be delivered to Kitty Hawk in late October. The Partnership has
swapped the three JT8D-15 engines that were returned with the aircraft for three
9
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JT8D-9A engines owned by an affiliate of the Managing General Partner. The
Partnership also received a payment of $259,000 from the affiliate to compensate
the Partnership for the relative value of the engines as determined by a third
party appraiser. Of this amount, $173,000 was booked as a gain on the sale of
engines and equipment in the third quarter of 1999. (See Note 6, "Commitments")
Continental Airlines, Inc. The extended lease on the McDonnell Douglas
DC10-10 with Continental expired on September 15, 1999. Work necessary for the
aircraft to meet the lease return conditions is being done at Continental's
expense at a maintenance facility. Continental will continue to pay rent until
the aircraft achieves the lease requirements for its return. After its return,
the aircraft will be stored until May, 2000 at which time it will enter a
modification facility to be converted to a freighter for Emery Worldwide
Airlines, Inc. (See Note 6, "Commitments")
Aeromexico. The lease for one of the two DC-9's leased to Aeromexico
expires in early November, 1999 and the lease for the second aircraft expires in
February, 2000. The Partnership is in negotiations with Aeromexico on the
extension of both leases and it is anticipated Aeromexico will continue to pay
on a month-to-month basis until the negotiations are completed.
Lockheed L-1011 aircraft. The Partnership continues to market the
aircraft for lease or sale.
3. Transactions With Affiliates
Base 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 a total of $42,000
and $131,000 of base management fees during the three and nine months ended
September 30, 1999, respectively.
Incentive Management Fees: 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 a total of $117,000
and $344,000 of incentive management fees during the three and nine months ended
September 30, 1999, 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 a total of $87,000 and $255,000 of re-lease fees during
the three and nine months ended September 30, 1999, respectively.
All of the above fees are subordinated to the limited partners
receiving an 8% annual non-cumulative return based upon original contributed
capital.
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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. There were no reimbursable expenses during the
three and nine months ended September 30, 1999 payable to the Administrative
General Partner.
During the nine months ended September 30, 1999 the Partnership paid
$85,000 to a maintenance facility affiliated with the Managing General Partner
for work performed on certain aircraft. The Partnership also paid $486,000 for
aircraft parts to a company which is owned by the President and Director of the
Managing General Partner.
The Partnership has swapped the three JT8D-15 engines that were
returned with the Boeing 727-200 aircraft returned by Continental for three
JT8D-9A engines owned by an affiliate of the Managing General Partner. The
Partnership also received a payment of $259,000 from the affiliate to compensate
the Partnership for the relative value of the engines as determined by a third
party appraiser.
4. Notes Payable
The Partnership increased its loan facility from $12.5 million to $19
million and the interest rate was increased from 125 basis points over the
bank's prime rate to 150 basis points over the bank's prime rate. The interest
rate at September 30, 1999 was 9.75%. The increase is primarily for the funding
of the conversion of the Boeing 727 to a freighter for Kitty Hawk. On October
29, 1999, the Partnership borrowed $1.22 million of the increased commitment
amount. The Partnership has provided a mortgage to the bank relative to certain
aircraft and has guaranteed the repayment of the indebtedness. This loan is due
in December, 1999. the Partnership is in discussions with a different lender to
replace the current facility and increase the size of the facility (see Note 6
"Commitments" below). if unable to renegotiate the term or refinance the loan,
the Partnership may need to reduce or suspend distributions.
5. Litigation
As previously reported, the Partnership had filed suit in Brazil for
possession of the two GE CF6-50C2 engines it had leased to VASP. It also filed
suit in Miami-Dade County, Florida for possession of the one engine being stored
in Florida, as well as for unpaid rents, maintenance reserves, engine repair
costs and legal expenses. Through court orders in Florida and Brazil, the
Partnership has regained the possession of both engines. The engine stored in
Florida was damaged during its operation by VASP and is being inspected by an
aircraft engine repair facility to determine the extent of the necessary
repairs. The second engine, which had been stored in Brazil, is being
remarketed. A trial date has been set for December 27, 1999 in the Florida court
action. VASP is resisting pre-trial discovery in Florida and is seeking,
instead, to have the Florida case transferred to Brazil.
As part of the Brazilian Court action, the Partnership posted a bank
guarantee with the Court. To obtain the bank guarantee of 397,469.20 Brazilian
reals (approximately $242,260 USD as of May 11, 1999), the Partnership was
required to obtain a letter of credit, which the bank required, be
collateralized with $364,000 of restricted cash. The current balance at
September 30, 1999, including accrued interest, was $368,000 and is shown as
restricted cash on the Balance Sheet.
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6. Commitments
The extended lease on the McDonnell Douglas DC10-10 with Continental
expired on September 15, 1999. Work necessary for the aircraft to meet the lease
return conditions is being done at Continental's expense at a maintenance
facility. Continental will continue to pay rent until the aircraft achieves the
lease requirements for its return. After its return, the aircraft will be stored
until May, 2000 at which time it will enter a modification facility to be
converted to a freighter for Emery Worldwide Airlines Inc. ("Emery"). The work
scope under the aircraft modification agreement requires the investment of
approximately $11.8 million, subject to price escalation. The Partnership
estimates expending an additional $1.0 million to meet the delivery conditions
under the lease with Emery. The Partnership and Emery have signed an agreement,
which provides for a lease of 84 months with rent of $218,000 per month. The
lease also provides a two-year renewal at $200,000 per month, followed by three
additional two-year renewal options at the then fair market rental. Emery
provided a security deposit of $218,000.
The Boeing 727-200 aircraft recently returned by Continental Airlines
is being converted to a freighter and hushkitted to achieve Stage III noise
compliance. It is anticipated that the aircraft will be delivered to Kitty Hawk
in mid November, 1999 for a lease with Kitty Hawk Air Cargo, Inc. The
Partnership has swapped the three JT8D-15 engines that were returned with the
aircraft for three JT8D-9A engines owned by an affiliate of the Managing General
Partner. The Partnership also received a payment of $259,000 from the affiliate
to compensate the Partnership for the relative value of the engines as
determined by a third party appraiser.
The lease with Kitty Hawk is for 84 months, the lease rate is $112,700
per month and maintenance reserves are to be paid at the rate of $375 per flight
hour, with engine reserves to be increased if the flight hour/cycle ratio falls
below 1.5 to 1. The cargo conversion and hushkitting is estimated to cost
approximately $5.0 million. Kitty Hawk has provided a security deposit of
$225,400.
The Partnership has estimated commitments of $17.8 million in total (of
this amount, $790,000 is on deposit with the DC 10-10 conversion facility, with
the conversion currently scheduled to commence in late May, 2000). The estimated
cost of the DC 10-10 conversion has been increased to $11.8 million from the
previously reported $9.0 million based on the experience of an affiliate of the
Managing General Partner which has recently converted a DC 10-10 to a freighter
with the same third party provider. In September, 1999, the Partnership
increased its line of credit from $12.5 million to $19 million. The Partnership
made a draw under its borrowing facility and the principal balance at September
30, 1999 was $15.3 million. On October 29, 1999, the Partnership borrowed $1.22
million of the increased commitment amount. The principal is due under the
facility in December, 1999. The Partnership is in discussions with a new lender
which would replace the existing lender and would result in an increase to its
borrowing facility providing sufficient funds for the Emery lease requirements.
The Limited Partnership Agreement permits the Partnership to borrow up
to 35% (or $50,785,000) of the original offering proceeds. It is the intent of
the General Partners to obtain financing to fund the conversion to freighter
configuration of the plane and to replace the existing lender. However, if the
12
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Partnership is unable to secure additional borrowing capacity to fund these
commitments the Partnership may elect to sell the DC 10-10 aircraft.
Alternatively, the Partnership may have to utilize cash from operations to
finance such commitments, thus potentially reducing or suspending distributions
to partners.
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
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of Operations
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This report may contain, in addition to historical information,
Forward-Looking Statements that include risks and other uncertainties. The
Partnership's actual results may differ materially from those anticipated in
these Forward-Looking Statements. Factors that might cause such a difference
include those discussed below, as well as general economic and business
conditions, competition and other factors discussed elsewhere in this report.
The Partnership undertakes no obligation to release publicly any revisions to
these Forward-Looking Statements to reflect events or circumstances after the
date hereof or to reflect the occurrence of anticipated or unanticipated events.
Liquidity and Capital Resources
- -------------------------------
The Partnership owns and manages a diversified portfolio of commercial
aircraft and makes quarterly distributions to the partners of net cash flow
generated by operations. In certain situations, the Partnership may retain cash
flow from operations to finance authorized capital expenditures.
The Partnership invests working capital and cash flow from operations
prior to its distribution to the partners in a fund that invests in short-term,
highly liquid investments. At September 30, 1999, the Partnership's unrestricted
cash and cash equivalents of $3,111,000 were primarily invested in such a fund.
This amount was $248,000 more than the Partnership's unrestricted cash and
equivalents at December 31, 1998 of $2,863,000. This increase in unrestricted
cash was equal to the amount by which cash provided by operating activities and
the proceeds from notes payable and the sale of engines and equipment exceeded
the combined total of the quarterly cash distributions paid to the partners and
capitalized expenditures for aircraft during the nine months ended September 30,
1999.
At September 30, 1999 the Partnership was holding $368,000 in
restricted cash, which was required as collateral, to obtain a letter of credit
in connection with legal action against VASP. See Note 5 "Litigation."
Maintenance reserves payable increased by $393,000 from $1,696,000 at
December 31, 1998 to $2,089,000 at September 30, 1999, respectively, due to
increases in maintenance reserve payments received from Capital Cargo, Falcon
and VASP.
Accrued interest payable increased by $99,000 from December 31, 1998 to
September 30, 1999, due to interest accrued but not yet paid on the $15.3
million note payable.
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Rent and other receivables, net, decreased $35,000 from $491,000 at
December 31, 1998 to $456,000 at September 30, 1999. This decrease resulted from
payments of deferred rentals by Capital Cargo.
TWA announced a loss in the third quarter of 1999. While TWA has
recently ratified a major labor agreement and has improved its service and
upgraded its fleet, TWA's ongoing financial losses are of concern. A default or
deferral of lease payments on the part of TWA, or by Falcon, or any other
lessee, may affect quarterly distributions. TWA accounted for 19% of the
Partnership's lease revenue during the first nine months of 1999.
The payable to affiliates increased $148,000 from $592,000 at December
31, 1998 to $740,000 at September 30, 1999, due to management and release fees
being incurred in excess of management fee payments for the nine months ending
September 30, 1999.
Deferred rental income and deposits were $1,917,000 at September 30,
1999 as compared to $1,898,000 at December 31, 1998. The increase was primarily
attributable to the receipt of an additional deposit from Kitty Hawk Air Cargo,
Inc., partially offset by the recognition of amounts previously received in
connection with the A-300 Lease Settlement.
During the three months ended September 30, 1999, the Partnership paid
cash distributions pertaining to the second quarter of $2,931,000. The quarterly
distribution represented an annualized rate equal to 8.0% of contributed capital
($.40 per Unit). 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. A similar distribution for the
third quarter of 1999 was paid on October 27, 1999. The Partnership has utilized
cash generated in prior periods to sustain the current distribution rate.
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 84% of
the cash distributions paid to the partners for the three months ended September
30, 1999 constituted a return of capital. Also, based on the amount of net
income reported by the Partnership for accounting purposes, approximately 84% of
the cash distributions paid to the partners from the inception of the
Partnership through September 30, 1999 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.
The Partnership increased its loan facility from $12.5 million to $19
million and the interest rate was increased from 125 basis points over the
bank's prime rate to 150 basis points over the prime rate. The increase is
primarily for the funding of the conversion of the Boeing 727 to a freighter for
Kitty Hawk. The Partnership has provided a mortgage to the bank relative to
certain aircraft and has guaranteed the repayment of the indebtedness. This loan
is due in December, 1999. the Partnership is in discussions with a different
lender to replace the current facility and increase the size of the facility
(see Note 6 "Commitments" above). if unable to renegotiate the term or refinance
the loan, the Partnership may need to reduce or suspend distributions.
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During the first nine months of 1999, the Partnership invested
$3,903,000 in aircraft capitalized improvements, mainly related to the Boeing
727-200 and DC 10-10 aircraft conversions and the hushkit of the aircraft leased
to Capital Cargo.
In early 1998, Continental Airlines, Inc. ("Continental") returned one
727-200 ADV aircraft the lease of which expired January 31, 1998. The
Partnership and Continental continue discussing each party's obligation with
respect to the return condition of the aircraft under the lease. This aircraft
is currently on lease to TNT.
A second Boeing 727-200 aircraft recently returned by Continental
Airlines is being converted to a freighter and hushkitted to achieve Stage III
noise compliance. It is anticipated that the aircraft will be delivered to Kitty
Hawk in November, 1999. The Partnership has swapped the three JT8D-15 engines
that were returned with the aircraft for three JT8D-9A engines owned by an
affiliate of the Managing General Partner. The Partnership also received a
payment of $259,000 from the affiliate to compensate the Partnership for the
relative value of the engines as determined by a third party appraiser. The
$259,000 was booked as a gain of $173,000 on the sale of engines and equipment
and a decrease of $86,000 in capital investments in the third quarter of 1999.
The lease with Kitty Hawk is for 84 months, the lease rate is $112,700
per month and maintenance reserves are to be paid at the rate of $375 per flight
hour, with engine reserves to be increased if the flight hour/cycle ratio falls
below 1.5 to 1. The cargo conversion and hushkitting is estimated to cost
approximately $5.0 million. Kitty Hawk has provided a security deposit of
$225,400.
The Partnership has estimated commitments of $17.8 million in total (of
this amount, $790,000 is on deposit with the DC 10-10 conversion facility, with
the conversion currently scheduled to commence in late May, 2000). The estimated
cost of the DC 10-10 conversion has been increased from the previously reported
$9.0 million based on the experience of an affiliate of the Managing General
Partner which has recently converted a DC 10-10 to a freighter. In September,
1999, the Partnership increased its line of credit from $12.5 million to $19
million. The Partnership has drawn some of the available funds under its $19
million borrowing facility and the principal balance at September 30, 1999 is
$15.3 million. The Partnership would need to increase its borrowing facility in
order to have sufficient funds for the Emery lease requirements. The Limited
Partnership Agreement permits the Partnership to borrow up to 35% (or
$50,785,000) of the original offering proceeds. It is the intent of the General
Partners to obtain financing utilizing the Emery lease to fund the conversion to
freighter configuration of the plane. However, if the Partnership is unable to
secure additional borrowing capacity to fund these commitments the Partnership
may elect to sell the DC 10-10 aircraft. Alternatively, the Partnership may have
to utilize cash from operations to finance such commitments, thus potentially
reducing or suspending distributions to partners.
Litigation
- ----------
See Note 5 "Litigation" for an update on certain legal proceedings.
15
<PAGE>
Results of Operations
- ---------------------
The Partnership's net income was $454,000 and $800,000 for the quarter
and nine months ended September 30, 1999 (the "1999 Quarter" and "1999 Period"),
respectively, as compared to $670,000 and $1,577,000 for the quarter and nine
months ended September 30, 1998 (the "1998 Quarter" and "1998 Period"),
respectively.
The Partnership's net income for the 1999 Period decreased as compared
to the 1998 Period principally due to a decrease in rental and interest income
and a decreased gain on the sale of engines and equipment, as well as an
increase in interest expense. This was partially offset by decreases in
write-downs and management and re-lease fees. Depreciation expense increased in
the 1999 Period compared to the 1998 Period but decreased in the 1999 Quarter
compared to the 1998 Quarter.
Rental income decreased $540,000 or 6% in the 1999 Period as compared
to the 1998 Period, principally due to decreases in the rental income
attributable to the A-300 engines leased to VASP and the decrease in rental
income related to the Boeing 727 aircraft which is being converted to a
freighter. Also contributing to this decrease was the absence of income related
to the L-1011 deferred income amortization. These were partially offset by an
increase in the rental income from the aircraft leased to Capital Cargo and the
rental income from the aircraft leased to TNT, which was off-lease for most of
the 1998 Period.
Interest income decreased $27,000 and $60,000, or 55%, and 41%,
respectively, for the 1999 Quarter and 1999 Period in comparison to the 1998
Quarter and 1998 Period. The decrease in the 1999 Period was primarily due to
the complete repayment, in 1998, of the advances due from lessees, resulting
from their scheduled repayments. The decrease in the 1999 Quarter was the result
of lower interest income on cash balances.
During the 1998 Period, the Partnership realized a gain of $116,000,
which is included in Other Income, representing the difference between the book
value of the Partnership's claim in the 1991 Continental bankruptcy and the
amount realized. Also during 1998, the Partnership realized a gain of $241,000,
on the sale of an engine that had been dismantled and stored, since the return
of the Boeing 727-200 aircraft by Kiwi in 1996. During the 1999 Period, the
Partnership swapped the three JT8D-15 engines that were returned with the Boeing
727-200 aircraft recently returned by Continental Airlines for three JT8D-9A
engines owned by an affiliate of the Managing General Partner. The Partnership
realized a gain of $173,000 related to the swap in the 1999 Quarter.
Depreciation and amortization expense increased $264,000, or 4%, in the
1999 Period in comparison to the 1998 Period. This was due primarily to the
depreciation associated with the TNT and Capital aircraft (including capitalized
aircraft improvements made in 1999), as well as additional depreciation
associated with the second engine leased to VASP. Partially offsetting this
increase was a decrease in depreciation related to the Boeing 727-200 aircraft
returned by Continental Airlines, currently undergoing a cargo conversion.
Depreciation and amortization expense decreased $173,000, or 8% in the 1999
Quarter compared to the 1998 Quarter. This was due primarily to the depreciation
associated with the Continental 727-200 aircraft returned by Continental.
During the first quarter of 1998, the Partnership provided for a
write-down aggregating $360,000 relating to the value of the L-1011 aircraft.
Additionally, during the second quarter of 1998, the Partnership provided for a
$20,000 write-down in connection with the sale of a JT8D-15 engine from the
16
<PAGE>
Boeing 727-200 advanced aircraft leased to TNT Transport International B.V.
("TNT"). During the third quarter of 1998, the Partnership provided for a
$40,000 write-down in connection with the sale of two JT8D-15 engines. Also
during the third quarter of 1998, due to the conversion of an aircraft to a
freighter, the Partnership wrote-off the remaining net book value of the
interior, determined through a third party appraisal, which resulted in a
write-down of $57,000. There have been no write-downs during 1999.
Management and re-lease fees payable to the General Partners for the
1999 Quarter and 1999 Period decreased $28,000 and $33,000, or 10% and 4%,
respectively, in comparison to the 1998 Period and 1998 Quarter, which was
attributable to lower rental revenue in the 1999 Period and Quarter, which
serves as the basis for certain fees.
Interest expense for the 1999 Quarter and 1999 Period increased by
$54,000 and $293,000 or 23%, and 55%, respectively, in comparison to the 1998
Quarter and 1998 Period due to an increase in the note payable balance and
interest rate.
Direct lease expenses decreased by $14,000 and $56,000 or 18%, and 25%,
respectively, in the 1999 Quarter and 1999 Period as compared to the 1998
Quarter and 1998 Period due primarily to decreases in maintenance and insurance
expenses, partially offset by an increase in LOC and trustee fees.
IMPACT OF YEAR 2000 ISSUE
- -------------------------
The Year 2000 issue is the result of computer programs being written
using two digits rather than four digits to define the applicable year. This
could result in a failure of the information technology systems (IT systems) and
other equipment containing imbedded technology (non-IT systems) in the Year
2000, causing disruption of operation of the Partnership, its lessees or
vendors.
The Partnership does not own its own software, but is reliant upon
software owned by the General Partners or third party vendors. The General
Partners and the third party vendors are currently Year 2000 compliant.
The plan for addressing the third party critical dependencies includes:
identification of third party critical dependencies including lessees and
financial institutions; circulation to all applicable third parties of a written
request for their plans and progress in addressing the Year 2000 issue;
evaluation of responses; and development of contingency plans to address risks
of non-compliance by third parties. The Partnership has completed the
identification of critical dependencies and the circulation for requests for
Year 2000 compliance status and the receipt of responses. The costs to the
Partnership associated with addressing the Year 2000 issue, including developing
and implementing the stated plan will be nominal.
While the Partnership expects to have no interruption of its operations
as a result of internal IT and non-IT systems, uncertainties remain about the
affect of third party critical dependencies who may not be Year 2000 compliant.
The Partnership is not aware of any significant Year 2000 systems
issues with respect to the airworthiness of aircraft, however, should such an
17
<PAGE>
issue result in Airworthiness Directives or other manufacturer recommended
maintenance, the implementation and the majority of the cost of such
implementation would be the responsibility of the aircraft lessee. Any resulting
costs to the Partnership cannot be estimated at this time.
Non-compliance on the part of a lessee could result in lost revenue for
the lessee and an inability to make lease payments to the Partnership.
Non-compliance by the lessee's financial institution could also affect the
ability to process lease payments. The Partnership has attempted to mitigate
such risks by inquiring of each lessee about its Year 2000 plans, including
whether they have addressed the issue with their financial institution.
The Partnership's lessees face the potential risk of non-compliance by
the air traffic control systems throughout the world. A disruption in the
operations of some or all of the air traffic control systems may cause
disruption to the operations of the Partnership's lessees, which may adversely
affect their ability to generate revenue.
While the General Partners believe it is remote, a possible scenario
would be that a number of lessees are unable to operate and generate revenues
and as a result are unable to make lease payments. The Partnership is unable to
estimate the likelihood or the magnitude of the resulting lost revenue at this
time. Should this occur, the Partnership would attempt to repossess aircraft
from non-compliant lessees and place the aircraft with compliant lessees. No
assurances can be given that the Partnership would be able to re-lease such
aircraft at favorable terms or at all. If a significant number of aircraft could
not be re-leased at favorable terms or at all, or their re-lease is delayed, the
Partnership's business, financial condition and results of operations would be
adversely affected.
18
<PAGE>
PART II. OTHER INFORMATION
--------------------------
ITEM 1. Legal Proceedings
-----------------
As previously reported, the Partnership had filed suit in Brazil for
possession of the two GE CF6-50C2 engines it had leased to VASP. It also filed
suit in Miami-Dade County, Florida for possession of the one engine being stored
in Florida, as well as for unpaid rents, maintenance reserves, engine repair
costs and legal expenses. Through court orders in Florida and Brazil, the
partnership has regained the possession of both engines. The engine stored in
Florida was damaged during its operation by VASP and is being inspected by an
aircraft engine repair facility to determine the extent of necessary repairs.
The second engine, which had been stored in Brazil, is being remarketed. A trial
date has been set for December 27, 1999 in the Florida court action. VASP is
resisting pre-trial discovery there and is seeking, instead, to have the Florida
case transferred to Brazil.
As part of the Brazilian Court action, the Partnership posted a bank
guarantee with the Court. To obtain the bank guarantee of 397,469.20 Brazilian
reals (approximately $242,260 USD as of May 11, 1999), the Partnership was
required to obtain a letter of credit, which the bank required be collateralized
with $364,000 of restricted cash. The current balance at September 30, 1999,
including accrued interest, was $368,000 and is shown as restricted cash on the
Balance Sheet.
ITEM 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) None
27. Financial Data Schedule (in electronic format only).
(b) The Partnership filed a Form 8-K on October 5, 1999. The
Partnership increased its line of credit as discussed in Note
4 of the Notes to Financial Statements.
19
<PAGE>
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.
Administrative General Partner
Date: November 10, 1999 By: /s/ CARMINE FUSCO
-----------------
Carmine Fusco
Vice President, Secretary, Treasurer and
Chief Financial and Accounting Officer
20
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FORM 10-Q
FOR THE PERIOD ENDED SEPTEMBER 30, 1999 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-31-1999
<PERIOD-END> SEP-30-1999
<CASH> 3,111,000
<SECURITIES> 0
<RECEIVABLES> 456,000
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 4,749,000
<PP&E> 160,711,000
<DEPRECIATION> 116,052,000 <F3>
<TOTAL-ASSETS> 49,408,000
<CURRENT-LIABILITIES> 7,892,000
<BONDS> 15,310,000
0
0
<COMMON> 0
<OTHER-SE> 26,206,000 <F2>
<TOTAL-LIABILITY-AND-EQUITY> 49,408,000
<SALES> 0
<TOTAL-REVENUES> 9,167,000
<CGS> 0
<TOTAL-COSTS> 7,313,000
<OTHER-EXPENSES> 228,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 826,000
<INCOME-PRETAX> 800,000
<INCOME-TAX> 0
<INCOME-CONTINUING> 800,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 800,000
<EPS-BASIC> 0.09 <F1>
<EPS-DILUTED> 0
<FN>
<F1>REPRESENTS NET INCOME PER LIMITED PARTNERSHIP UNIT OUTSTANDING.
<F2>REPRESENTS AGGREGATE PARTNERSHIP CAPITAL.
<F3>INCLUDES PROVISIONS FOR WRITE-DOWNS AND CERTAIN OTHER RESERVES.
</FN>
</TABLE>
