Item 2. Properties
United States Facilities. Aircraft Braking Systems and Engineered Fabrics operate two manufacturing facilities in the United States which are individually owned except as set forth below under "Akron Facility Arrangements." Aircraft Braking Systems' facility is located in Akron, Ohio, and consists of approximately 770,000 square feet of manfacturing, engineering and office space. Engineered Fabrics' facility is located in Rockmart, Georgia, and consists of approximately 564,000 square feet of manufacturing, engineering and office space. The Company believes that its property and equipment are generally well-maintained, in good operating condition and adequate for its present needs.
Foreign Facilities. The Company occupies approximately 19,000 square feet of leased office and warehouse space in Slough, England, under a lease expiring in 2020. The Company also maintains sales and service offices in Rome, Italy and Toulouse, France.
Akron Facility Arrangements. The manufacturing facilities owned by Aircraft Braking Systems are part of a larger complex formerly owned and operated by Loral Corporation and now owned by Lockheed Martin. Aircraft Braking Systems and Lockheed Martin have various occupancy and service agreements to provide for shared easements and services (including utility, sewer, and steam). In addition to the 770,000 square feet owned by Aircraft Braking Systems, the Company leases approximately 433,000 square feet of space within the Lockheed Martin complex and is subject to annual occupancy payments to Lockheed Martin. During the nine months ended December 31, 1996 and during the fiscal years ended March 31, 1996 and 1995, Aircraft Braking Systems made occupancy payments to Lockheed Martin of $1.2 million, $1.5 million and $1.3 million, respectively. Certain access easements and agreements regarding water, sanitary sewer, storm sewer, gas, electricity and telecommunication are perpetual. In addition, Lockheed Martin and Aircraft Braking Systems equally control Valley Association Corporation, an Ohio corporation, which was formed to establish a single entity to deal with the City of Akron and utility companies concerning governmental and utility services which are furnished to Lockheed Martin's and Aircraft Braking Systems' facilities.
Item 3.
Item 3. Legal Proceedings
On December 15, 1995, the Company's Aircraft Braking Systems subsidiary commenced an action in the Court of Common Pleas, Summit County, Ohio against Hitco Technologies, Inc. after Hitco threatened to breach existing supply contracts unless prices were renegotiated. Hitco has been the principal supplier of the carbon used by Aircraft Braking Systems for its carbon brakes. Hitco claimed that Aircraft Braking Systems breached the supply arrangements by electing to begin to expand its own carbon production facility. The Aircraft Braking Systems' complaint, as amended, seeks damages in excess of $47 million, injunctive relief and specific performance requiring Hitco to perform its obligations pursuant to existing contracts and purchase orders. Hitco has counterclaimed in the matter seeking, among other things, damages up to $130 million for the alleged breach by Aircraft Braking Systems of alleged long-term contracts to purchase carbon. Hitco was enjoined from refusing to perform its obligations pursuant to existing contracts and purchase orders without change in terms. Hitco has sought to have the injunction vacated or modified.
To date, the preliminary injunction has not been vacated or modified, although Hitco argues it expired on December 13, 1996. Through January 1997, Hitco continued to supply carbon to the Company, although Hitco failed to acknowledge certain purchase orders. Aircraft Braking Systems has sought to hold Hitco in contempt of the court's injunction. Hitco has sought an injunction requiring that the Company turn over technology allegedly jointly developed and owned under the prior contractual arrangements. Hearings have been concluded on both the Company's contempt motion and Hitco's motion seeking technology but neither has been decided by the court.
In related actions, a suit filed by Hitco in Superior Court, Los Angeles County, California against Aircraft Braking Systems seeking substantially the same relief as is asserted in the Ohio action, has been stayed. Hitco also filed suit in the Federal District Court in the Northern District of Ohio for damages and injunctive relief against a third party claiming that such party, in supplying certain carbon to Aircraft Braking Systems, has acquired trade secrets of Hitco from Aircraft Braking Systems and has misappropriated trade secrets and technology developed under the same research and development contracts between Hitco and Aircraft Braking Systems which are the subject of the Ohio case and the California case. Aircraft Braking Systems has been granted leave to intervene and the other party has moved to dismiss the Federal action.
Management intends to vigorously advocate its interest in all lawsuits, to seek dismissal of the California action and to proceed in the Ohio case to enforce the preliminary injunction and otherwise to protect Aircraft Braking Systems' carbon supply as well as to seek damages from Hitco. Based upon the proceedings to date, advice of counsel and its own assessment of the matters in dispute, management does not expect the outcome of the litigation to be unfavorable to the Company.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
None.
PART II
Item 5.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
There is no trading market for the Company's common stock. All of the Class A common stock of the Company except one share (which is owned by Chase Capital Partners, an affiliate of The Chase Manhattan Bank) is owned by Bernard L. Schwartz ("BLS"), Chairman of the Company. All of the Class B common stock is owned by Loral Space & Communications Ltd. ("Loral Space"). All of the preferred stock (except 44,999 shares owned by Chase Capital Partners) is owned by four limited partnerships of Lehman Brothers Holdings Inc. ("LBH"). (See "Security Ownership of Certain Beneficial Owners and Management.")
Item 6.
Item 6. Selected Financial Data
The selected financial data has been derived from, and should be read in conjunction with, the related audited consolidated financial statements. The selected financial data for the nine months ended December 31, 1995 is unaudited. Effective December 31, 1996, the Company changed its fiscal year-end from March 31 to December 31.
(a) During the nine months ended December 31, 1996, the Company redeemed $180 million principal amount of the 13 3/4% Senior Subordinated Debentures. In connection therewith, the Company recorded an extraordinary charge of $9.142 million. (See Note 7 to the consolidated financial statements.)
(b) On December 28, 1995, the Company redeemed $30 million principal amount of the 13 3/4% Senior Subordinated Debentures. In connection therewith, the Company recorded an extraordinary charge of $1.913 million. (See Note 7 to the consolidated financial statements.)
(c) The extraordinary charge of $2.477 million relates to the accelerated amortization of unamortized financing costs associated with the prepayment of a senior term loan in fiscal year 1993.
(d) Represents cumulative effect of the change in method of accounting for the discounting of liabilities for workers' compensation losses.
(e) Includes a charge for the cumulative effect of accounting change for Statement of Financial Accounting Standards No. 106 ($77.9 million) and a benefit for the change in method of accounting for certain overhead costs in inventory ($4.4 million).
(f) On September 2, 1994, K & F retired the $65.4 million principal amount of 14 3/4% Subordinated Convertible Debentures, held by Loral Corporation in exchange for $12.76 million in cash and 22.5% of equity. As a result, K & F stockholders' equity was increased by $65.4 million and long-term debt was reduced by an equal amount. (See Note 9 to the consolidated financial statements.)
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
General
Aircraft Braking Systems generates approximately 75% of its revenues through the sale of replacement parts for wheels and braking systems previously manufactured by the Company and its predecessors and installed on over 30,000 commercial, general aviation and military aircraft. As is customary in the industry, Aircraft Braking Systems incurs substantial expenditures to research, develop, design and supply original wheel and brake equipment to aircraft manufacturers at or below the cost of production. Research, development and design expenditures are charged to operations when incurred. Original wheel and brake equipment supplied to aircraft manufacturers at or below the cost of production ("Program Investments") are charged to operations when delivered to the aircraft manufacturers. Since most modern aircraft have a useful life of 25 years or longer and require periodic replacement of certain components of the braking system, the Company typically recoups its initial investment in original equipment and generates significant profits from the sales of replacement parts over the life of the aircraft. The Company has invested and will continue to invest significant resources to have its products selected for use on new commercial airframes, focusing particularly on medium- and short-range aircraft. During the nine months ended December 31, 1996 and during the two years ended March 31, 1996, the Company spent an aggregate of approximately $101 million for research, development, design and Program Investments. The Company has been selected as a supplier of wheels and carbon brakes on the Airbus A-321, the sole supplier of wheels, carbon brakes and anti-skid systems on the MD-90, the sole supplier of wheels and brakes for the Saab 2000, the Canadair Regional Jet, the Lear 60 and as a supplier of wheels and carbon brakes for the Airbus A-330 and A-340. These programs are in the early stages of their life cycles and represent significant future revenue opportunities for the Company.
Results of Operations
Nine Months Ended December 31, 1996 Compared with the Nine Months Ended December 31, 1995
SALES. Sales for the nine months ended December 31, 1996 totaled $212.7 million reflecting an increase of $12.9 million or 6.5% compared with $199.8 million for same period in the prior year. This increase was due to higher commercial sales of wheels and brakes for commercial transport aircraft of $11.8 million, primarily on the DC-9, DC-10, MD-90 and Canadair Regional Jet programs, and higher general aviation sales of $7.4 million primarily on the Beech, Lear and Gulfstream aircraft. Partially offsetting this increase were lower military sales of $6.3 million on various programs.
GROSS MARGIN. The gross margin for the nine months ended December 31, 1996 was 35.7% compared with 31.8% for the same period in the prior year. This increase was primarily due to the overhead absorption effect relating to the higher sales volume and lower shipments of original equipment to airframe manufacturers at or below the cost of production.
INDEPENDENT RESEARCH AND DEVELOPMENT. Independent research and development costs were $8.6 million for the nine months ended December 31, 1996 compared with $6.6 million for the same period in the prior year. This increase was primarily due to higher costs associated with the A-319 and MD-90 programs.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses were $17.3 million for the nine months ended December 31, 1996 compared with $15.4 million for the same period in the prior year. This increase was primarily due to higher performance related incentive compensation and legal fees incurred in connection with the Hitco litigation. (See Note 13 to the consolidated financial statements.)
INTEREST EXPENSE, NET. Interest expense, net was $27.2 million for the nine months ended December 31, 1996 compared with $31.3 million for the same period in the prior year. This decrease was primarily due to a lower average principal balance on the 13 3/4% Senior Subordinated Debentures due 2001 (the "13 3/4% Debentures") and lower interest rates as a result of refinancing the 13 3/4% Debentures with $140 million principal amount of 10 3/8% Senior Subordinated Notes due 2004 (the "10 3/8% Notes") on August 15, 1996, and borrowings under the Amended and Restated Credit Agreement. This decrease was
partially offset by the need to keep both the 13 3/4% Debentures and the 10 3/8% Notes outstanding during the redemption notification period of 30 days. (See Note 7 to the consolidated financial statements.)
Fiscal Year 1996 Compared with Fiscal Year 1995
SALES. Sales for fiscal year 1996 totaled $264.7 million reflecting an increase of $26.0 million or 10.9% compared with the prior year. This increase was due to higher commercial sales of wheels and brakes for commercial transport aircraft of $16.6 million, primarily on the DC-9, DC-10, MD-80, MD-90 and Fo-100 programs, partially offset by lower general aviation sales of $4.7 million on various aircraft. Military sales increased $14.1 million primarily on the program.
GROSS MARGIN. The gross margin for fiscal year 1996 was 31.8% compared with 31.0% for fiscal year 1995. This increase was primarily due to operating efficiencies and the overhead absorption effect relating to the higher sales volume, partially offset by higher shipments of original equipment to airframe manufacturers at or below the cost of production.
INDEPENDENT RESEARCH AND DEVELOPMENT. Independent research and development costs were $9.8 million in fiscal year 1996 compared with $8.4 million in fiscal year 1995 or 3.7% and 3.5% of sales for fiscal years 1996 and 1995, respectively. This increase was primarily due to higher costs relating to carbon research and development.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses increased $3.4 million in fiscal year 1996 compared with fiscal year 1995. This increase was primarily due to a provision made against accounts receivable during fiscal year 1996, higher performance related incentive compensation and foreign tax related expenses. The provision against accounts receivable was primarily for two of the Company's customers (Fokker Aviation and Business Express) who filed for bankruptcy during fiscal year 1996.
INTEREST EXPENSE, NET. Net interest expense decreased $5.2 million in fiscal year 1996 compared with the prior year. This decrease was due to the retirement of the 14 3/4% Subordinated Convertible Debentures (the "Convertible Debentures") on September 2, 1994 (see Note 9 to the consolidated financial statements), and the redemption of $30 million principal amount of the 13 3/4% Debentures on December 28, 1995. (See Note 7 to the consolidated financial statements.)
Liquidity and Financial Condition
The Company expects that its principal use of funds for the next several years will be to pay interest and principal on indebtedness, fund capital expenditures and make Program Investments. The Company's primary source of funds for conducting its business activities and servicing its indebtedness has been cash generated from operations and borrowings under its $70 million revolving loan facility.
On August 14, 1996, the Company entered into an Amended and Restated Credit Agreement (the "Credit Agreement") consisting of a $40 million senior term loan (the "Term Loan") and a $70 million senior revolving loan (the "Revolving Loan"). All borrowings under the Revolving Loan mature August 14, 2001. The Term Loan is a six-year amortizing facility maturing September 30, 2002. In addition to scheduled quarterly principal payments on the Term Loan, 50% of excess cash flow (as defined) must be used to prepay the principal. As a result of the excess cash flow calculation (calculated from August 14, 1996), at December 31, 1996 long-term debt of $2.5 million has been classified as current in addition to the $3.5 million of scheduled payments to be made during 1997.
During the nine months ended December 31, 1996, the Company redeemed the remaining $180 million of 13 3/4% Debentures. The Company used the net proceeds from the $140 million principal amount of 10 3/8% Notes issued on August 15, 1996, together with borrowings under the Credit Agreement, to redeem the remaining 13 3/4% Debentures at a price of 102.5% of the principal amount thereof. In connection therewith, the Company recorded an extraordinary charge of $9.142 million consisting of redemption premiums and the write-off of unamortized financing costs.
The Company's management believes that it will have adequate resources to meet its cash requirements through funds generated from operations and borrowings under its Revolving Loan (with availability determined by reference to a borrowing base of eligible accounts receivable and inventory). At December 31, 1996, the Company had $51.6 million available to borrow under the Revolving Loan. In addition, the refinancing of the 13 3/4% Debentures with lower interest rate debt will enable the Company to save between $5 million and $6 million in annual interest expense, depending on the floating interest rates of the Credit Agreement.
Contingency
Aircraft Braking Systems had been purchasing substantially all of the carbon for its carbon brakes under supply arrangements with Hitco. The contracts and commitments between Aircraft Braking Systems and Hitco are now the subject of litigation. A loss of carbon supply for carbon brakes manufactured by Aircraft Braking Systems would have a material, adverse affect on the Company's business and financial condition. (See Item 3, "Legal Proceedings" and Note 13 to the consolidated financial statements.) In December 1995, Hitco threatened to interrupt deliveries of carbon unless prices were renegotiated. Hitco claimed that Aircraft Braking Systems breached the supply arrangements by electing to begin to expand its own carbon manufacturing facilities. Hitco was enjoined from refusing to supply Aircraft Braking Systems with carbon pursuant to the existing contracts and purchase orders, and Hitco continued to supply carbon during 1996 while disputing various purchase orders and the scope of the injunction. Because of the injunction obtained in the litigation with Hitco, the Company's supply of carbon from Hitco was not interrupted during 1996. Based upon the proceedings to date, advice of counsel and its own assessment of the matters in the dispute, management does not expect the outcome of the litigation to be unfavorable to the Company.
For certain programs, the Company has developed an alternate supplier for carbon. The Company has also commenced a major expansion of its existing carbon manufacturing facility in Akron, Ohio, which will provide a five-fold increase in the Company's own carbon production capacity. Construction of the facility is substantially complete and is expected to be fully operational during the second quarter of calendar year 1997. Aircraft Braking Systems is currently manufacturing carbon on three of the five new densification furnaces to be installed. When fully operational, the Company believes it will have sufficient sources of carbon to meet all of its requirements for carbon brake production at the current level of business.
Capital Expenditures
The Company had additions to fixed assets of $14.1 million, $10.4 million and $2.8 million for the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively. The increase during the nine months ended December 31, 1996 as compared with the fiscal year ended March 31, 1996 was primarily due to the completion of construction of a 21,000 square foot expansion to the carbon manufacturing building at the Company's Akron, Ohio facility which was started in the beginning of fiscal year of 1996. Capital spending for the year ending December 31, 1997 is expected to be approximately $8.0 million.
Inflation
A majority of the Company's sales are conducted through annually established price lists and long-term contracts. The effect of inflation on the Company's sales and earnings is minimal because the selling prices of such price lists and contracts, established for deliveries in the future, generally reflect estimated costs to be incurred in these future periods. In addition, some contracts provide for price adjustments through escalation clauses.
Item 8.
Item 8. Financial Statements and Supplementary Data
See the financial statements, together with the auditors' reports thereon, appearing on pages to hereof.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant
Set forth below are the names, ages and positions of the directors and executive officers of the Company. All directors hold office until the next annual meeting of stockholders of the Company and until their successors are duly elected and qualified, and all executive officers hold office at the pleasure of the Board of Directors. The following executive officers or directors of the Company are related by blood or marriage: Kenneth M. Schwartz is the nephew of Bernard L. Schwartz, Ronald H. Kisner's wife is the niece of Bernard L. Schwartz and John R. Paddock's wife is the daughter of Bernard L. Schwartz. No other executive officer or director of the Company is related by blood, marriage or adoption.
NAME AGE POSITION(S) - ---- --- ----------- Bernard L. Schwartz* 71 Chairman of the Board and Chief Executive Officer Herbert R. Brinberg* 71 Director Ronald H. Kisner* 48 Director John R. Paddock* 43 Director James A. Stern** 46 Director A. Robert Towbin** 61 Director Alan H. Washkowitz** 56 Director Donald E. Fogelsanger 71 President Kenneth M. Schwartz 45 Executive Vice President Dirkson R. Charles 33 Chief Financial Officer
- ----------
* Designated as director by BLS pursuant to the Stockholders Agreement. ** Designated as director by Lehman Brothers Holdings Inc. ("LBH") pursuant to the Stockholders Agreement.
Mr. Bernard L. Schwartz has been Chairman and Chief Executive Officer of the Company since 1989. Mr. Schwartz has been Chairman and Chief Executive Officer of Loral Space & Communications Ltd. since April 1996. From 1972 to April 1996 Mr. Schwartz was Chairman and Chief Executive Officer of Loral Corporation. Mr. Schwartz is Chairman and Chief Executive Officer of Globalstar Telecommunications Limited, Chairman and Chief Executive Officer of Space Systems/Loral, Inc., Chief Executive Officer of Globalstar, L.P., Vice Chairman of the Board of Directors of Lockheed Martin Corporation, a Director of Reliance Group Holdings, Inc. and certain subsidiaries, a Director of First Data Corporation and a Trustee of New York University Medical Center.
Dr. Brinberg has been President and Chief Executive Officer of Parnassus Associates International, a firm of consultants in the field of Information Management, since September 1989. Previously, he was President and Chief Executive Officer of Wolters Kluwer U.S. Corporation, a wholly owned subsidiary of Wolters Kluwer N.V. of the Netherlands, and its predecessor companies since 1978. He is also currently an Adjunct Professor of Management at Baruch College City University of New York.
Mr. Kisner has been a member of the law firm of Chekow & Kisner, P.C., since 1984. From 1973 to 1982, he was Associate General Counsel of APL Corporation, where he held such offices as Secretary, Vice President and Director. From 1982 to 1984, Mr. Kisner was a sole practitioner.
Dr. Paddock is a licensed psychologist who has maintained an independent practice of psychotherapy, assessment and consultation in Atlanta, Georgia since 1982. He has also been President of the Georgia Psychological Association (1993-1994),
Director of Training for the Georgia School of Professional Psychology, Adjunct Associate Professor of Psychology at Emory University, Assistant Professor of Psychology at Kennesaw State College, and Southern Region Coordinator for National Employee Assistance Services. Currently, he is visiting Associate Professor of Psychology at Emory, and holds positions as Adjunct Clinical Assistant Professor in the Department of Psychiatry at Emory, and is Adjunct Professor of Psychology at Georgia Institute of Technology.
Mr. Stern is Chairman of The Cypress Group L.L.C., a private merchant bank. He was a Managing Director of Lehman Brothers from 1984 to 1994. From 1989 to 1994, Mr. Stern was also head of the Merchant Banking Group of Lehman Brothers. He was a Managing Director of Lehman Brothers Kuhn Loeb, Inc. from 1982 to 1984. Mr. Stern is also a director of R.P. Scherer Corp., Noel Group Inc., Lear Corporation, Cinemark USA, Inc. and Amtrol, Inc.
Mr. Towbin joined Unterberg Harris in September of 1995 as a Managing Director. From January 1994 to September 1995, he was President and Chief Executive Officer of the Russian-American Enterprise Fund and Vice Chairman of its successor fund, The U.S. Russia Investment Fund. Mr. Towbin was a Managing Director at Lehman Brothers from January 1987 until January of 1994. Mr. Towbin was Vice Chairman, Member of the Executive Committee and Director of L.F. Rothschild, Unterberg, Towbin Holdings, Inc. from 1986 to 1987 and from 1983 to 1986, Mr. Towbin was Vice Chairman. From 1977 to 1983 he was General Partner of L.F. Rothschild, Unterberg, Towbin and from 1959 to 1977, Mr. Towbin was General Partner of C.E. Unterberg, Towbin Co. Mr. Towbin is also a Director of Bradley Real Estate Inc., Columbus New Millennium Fund, Gerber Scientific, Inc. and Globalstar Telecommunications Limited.
Mr. Washkowitz has been a Managing Director of Lehman Brothers since 1984. He was a Managing Director of Lehman Brothers Kuhn Loeb, Inc. from 1978 to 1984. Mr. Washkowitz began in the Corporate Finance Department of Kuhn Loeb & Co. in 1968 and became a general partner of the firm in 1975. Mr. Washkowitz is also a director of Illinois Central Corporation and Lear Corporation.
Mr. Fogelsanger has been President of the Company since January 1996. From April 1989 to January 1996, Mr. Fogelsanger was the President of Aircraft Braking Systems Corporation. From 1987 to 1989 he was President of Loral Corporation's Aircraft Braking Systems Division. From January 1986 to March 1987 he was Vice President and General Manager of Goodyear Aerospace Corporation's ABS division. From 1980 to 1986 he was General Manager of Goodyear's Aircraft Tire Operations. In 1968, Mr. Fogelsanger directed Goodyear's development of a crash-resistant fuel system for helicopters that was credited with saving hundreds of lives during the Vietnam War. He joined Goodyear in 1951.
Mr. Kenneth M. Schwartz has been Executive Vice President of the Company since January 1996. From June 1989 to January 1996, Mr. Schwartz held the positions of Chief Financial Officer, Treasurer and Secretary. Previously he was the Corporate Director of Internal Audit for Loral Corporation since late 1987. From 1984 to 1987, Mr. Schwartz held the position of Director of Cost and Schedule Administration for Loral Electronic Systems. Prior to 1984, Mr. Schwartz held various other positions with Loral Electronic Systems and the accounting firm of Deloitte & Touche LLP.
Mr. Charles has been Chief Financial Officer of the Company since May 1996. From May 1993 to May 1996, Mr. Charles was the Controller of the Company. Previously he was the Manager of Accounting and Financial Planning. Prior to employment with the Company in 1989, Mr. Charles held various other positions with the accounting firm of Arthur Andersen & Co. LLP, which he joined in 1984.
Executive Officers of Aircraft Braking Systems Corporation and Engineered Fabrics Corporation
Set forth below are the names, ages and positions of the executive officers of Aircraft Braking Systems and Engineered Fabrics. All executive officers hold office at the pleasure of their respective Board of Directors.
Aircraft Braking Systems Corporation ------------------------------------
NAME AGE POSITION ---- --- -------- Ronald E. Welsch 62 President Frank P. Crampton 53 Vice President-Marketing Richard W. Johnson 53 Vice President-Finance and Controller James J. Williams 41 Vice President-Manufacturing
Engineered Fabrics Corporation ------------------------------
NAME AGE POSITION ---- --- -------- Roger C. Martin 59 President Terry L. Lindsey 52 Vice President-Marketing Anthony G. McCann 37 Vice President-Operations John A. Skubina 42 Vice President-Finance
Mr. Welsch has been President of Aircraft Braking Systems Corporation since January 1996. From November 1994 to January 1996, Mr. Welsch held the positions of Executive Vice President and Chief Operating Officer. From September 1993 to November 1994, he was Executive Vice President. Prior to joining Aircraft Braking Systems, Mr. Welsch was General Manager of the GE 90 Commercial Engine program at General Electric Aircraft Engines and held various positions in management, including engineering, product support, marketing, product planning and program management, over the course of 26 years. Mr. Welsch started his aviation career at Douglas Aircraft in 1958 and joined Northrop Corporation in 1961. He entered the U.S. Marine Corp Aviation following graduation from Purdue University.
Mr. Crampton was named Vice President of Marketing at Aircraft Braking Systems in March 1987. He had been Director of Business Development for Goodyear Aerospace Corporation's Wheel and Brake Division since 1985. Prior to that assignment, he was the divisional manager of Program Operations since 1983. Mr. Crampton joined Goodyear in 1967. He became Section Manager in Commercial Sales in 1977, a product marketing manager in 1978 and Divisional Sales Manager in 1979. In August of 1982, he joined manufacturing as the manager of the manufacturing process organization. He also worked for NASA at the Johnson Space Center, Houston, Texas from 1963 to 1966.
Mr. Johnson has been Vice President of Finance and Controller at Aircraft Braking Systems since April 1989. From 1987 to 1989, he was Vice President of Finance and Controller of Loral Corporation's Aircraft Braking Systems Division. Prior to this assignment, he had spent 22 years with Goodyear Aerospace Corporation, including one year as the Controller of the wheel and brake division. Mr. Johnson joined Goodyear Aerospace Corporation in 1966. He became Manager of Accounting in 1979 for the Centrifuge Equipment Division of Goodyear Aerospace Corporation after holding various positions in the Defense Systems Division.
Mr. Williams was named Vice President of Manufacturing at Aircraft Braking Systems in May 1992. He had been Director of Manufacturing since joining Aircraft Braking Systems in September 1989. Previously from April 1985 to August 1989, he was Branch Manager of Refurbishment Operations at United Technologies responsible for the refurbishment process of the Solid Rocket Boosters on the Shuttle Program. Mr. Williams started his aviation career in 1975 in the Air Force as a Hydraulic Systems Specialist. He was Superintendent, Manufacturing at Fairchild Republic Company from 1979 to 1983, followed by Manager, B-1B Manufacturing Operations at Rockwell International Corporation from 1983 to 1985.
Mr. Martin has been President of Engineered Fabrics Corporation since 1987. From June 1984 until 1987, he was General Manager of GAC's Engineered Fabrics Division. Mr. Martin has been continuously employed by Goodyear, GAC, Loral Corporation and K & F for the past 35 years. Other positions Mr. Martin held with Goodyear include General Manager, Program Manager and a number of research positions. He holds a patent for elastomeric protective coating for metal storage reels.
Mr. Lindsey has served as Vice President of Business Development since 1989. He has been with Goodyear Aerospace Corporation, Loral Corporation and K & F since 1977. Prior to this he had 12 years of federal service with the US Army. He joined GAC as Contract Administrator of the Industrial Brake Operation in Berea, Kentucky, and transferred to Engineered Fabrics in 1979 as Manager of Contracts.
Mr. McCann has been Vice President of Operations at Engineered Fabrics Corporation since June 1993. Prior to that, he was Manager of Production Support from April 1990 to June 1993. He joined Engineered Fabrics Corporation in August 1988 as Manager of Production. From January 1984 to August 1988, Mr. McCann worked for Aircraft Braking Systems as Manager of Manufacturing Engineering, Manager of Assembly and as a Manufacturing Engineer.
Mr. Skubina has been Vice President of Finance and Administration since February 1991. Prior to that, he was made Vice President of Finance on April 1, 1990. He joined Engineered Fabrics Corporation in 1988 as Accounting Manager. From 1985 until 1988, Mr. Skubina was the Assistant Controller and Controller of MPD, a division of M/A-Com.
Item 11.
Item 11. Executive Compensation
SUMMARY COMPENSATION TABLE
The following table sets forth the compensation for the nine months ended December 31, 1996 (the "Transition Period") and for the fiscal years ended March 31, 1996 and 1995, paid to the chief executive officer and each of the other four most highly compensated executive officers of the Company and the Company's subsidiaries.
(a) Includes the following: (i) Company contributions to individual 401(k) plan accounts for the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively: Mr. K. Schwartz - $2,414, $3,996 and $3,375; Mr. Fogelsanger - $3,054, $4,050 and $3,475; Mr. Welsch - $3,084, $4,050 and $3,446; Mr. Martin - $3,442, $4,050 and $3,110; (ii) the value of supplemental life insurance programs for the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively: Mr. K. Schwartz - $16,917, $200 and $190; Mr. Fogelsanger - $39,315, $18,779 and $15,967; Mr. Welsch - $22,913, $1,107 and $360; Mr. Martin - $23,787, $7,439 and $7,410; and (iii) $33,376 paid to Mr. Welsch during the fiscal year ended March 31, 1996, for moving expenses incurred in connection with his employment.
(b) The Company has an Advisory Agreement with BLS which provides for the payment of an aggregate of $200,000 per month of compensation to BLS and persons designated by him (including certain other executive officers of Loral Space who are active in the management of the Company) in exchange for acting as directors and providing advisory services to the Company and its subsidiaries. BLS has designated that $100,000 of the aggregate annual advisory fee be paid to Kenneth M. Schwartz, which is included in his salary for all periods shown.
(c) The Company has a bonus plan pursuant to which the Company's Board of Directors awards bonuses to BLS and other advisors ranging from 5% to 10% of earnings in excess of $50 million before interest, taxes and amortization. Bonuses for the nine months ended December 31, 1996 have not yet been determined nor approved by the Company's Board of Directors.
(d) Bonus amounts for the nine months ended December 31, 1996 have not yet been determined nor approved by the Company's Board of Directors. It is expected that these amounts will be in line with prior years.
OPTION GRANTS
There were no grants of stock options by the Company, during the nine months ended December 31, 1996, to the named executive officers.
AGGREGATED OPTION EXERCISES AND YEAR-END OPTIONS VALUES AT DECEMBER 31, 1996
(1) None of the Company's stock is currently publicly traded. All options were granted at book value computed as of April 27, 1989.
LONG-TERM INCENTIVE PLAN AWARDS
Under the Company's long-term incentive plan designed to provide an incentive to encourage attainment of Company objectives and retain and attract key executives of the Company, a limited number of persons participate in a Deferred Bonus Plan. Under the terms of the plan, generally no awards are allocated to any participant unless the Company has achieved at least a 10% growth in earnings before interest, taxes and amortization over the prior fiscal year. Awards vest and are paid (unless deferred by recipient direction) in three equal annual installments starting on January 15th following each fiscal year-end. All amounts not vested are forfeited upon termination of employment for any reason other than death or disability prior to the vesting date. The following awards were earned for the individuals named in the Summary Compensation Table during the fiscal years ended March 31, 1996 and 1995, respectively: Mr. K. Schwartz $45,000 and $40,000; Mr. Fogelsanger $50,000 and $40,000; Mr. Welsch $36,000 and $30,000; and Mr. Martin $27,000 and $25,000. Awards for the nine months ended December 31, 1996 have not yet been determined nor approved by the Company's Board of Directors. It is expected that these amounts will be in line with prior years.
THE RETIREMENT PLAN
The Company established, effective May 1, 1989, as amended, the K & F Industries Retirement Plan for Salaried Employees (the "Company Retirement Plan"), a defined benefit pension plan. The Company has received a favorable determination letter from the Internal Revenue Service that the Company Retirement Plan is a qualified plan under the Internal Revenue Code. The terms of the Company Retirement Plan are as follows: a non-contributory benefit and a contributory benefit. The cost of the former is borne by the Company; the cost of the latter is borne partly by the Company and partly by the participants. Salaried employees who have completed at least six months of service and satisfied a minimum earnings level are eligible to participate in the contributory portion of the Company Retirement Plan; salaried employees become participants in the non-contributory portion on their date of hire. The Plan provides a benefit of $20.00 per month for each year of credited service. For participants who contribute to the Plan, in addition to the benefit of $20.00 per month for each year of credited service, the Plan provides an annual benefit equal to the greater of: 60% of the participant's aggregate contributions; or, average compensation earned (while contributing) during the last 10 years of employment in excess of 90% of the Social Security Wage Base amount multiplied by: (a) 2.4% times years of continuous service up to 10, plus, (b) 1.8% times additional years of such service up to 20, plus, (c)1.2% times additional years of such service up to 30, plus, (d) 0.6% times all additional such service above 30 years.
Effective January 1, 1990, the Plan was amended for eligible employees of K & F Industries and Aircraft Braking Systems to provide an annual benefit equal to (a) the accrued benefit described above as of December 31, 1989, plus (b) a non-contributory benefit for each year of credited service after January 1, 1990, of 0.7% of annual earnings up to the Social Security Wage Base or $288, whichever is greater, plus (c) for each year of continuous service on and after January 1, 1990, a contributory benefit of (i) for 14 years of continuous service or less, 1.05% of annual earnings between $19,800 and the Social Security Wage Base plus 2.25% of annual earnings above the Social Security Wage Base, and (ii) for more than 14 years of continuous service, 1.35% of annual earnings between $19,800 and the Social Security Wage Base plus 2.65% of annual earnings above the Social Security Wage Base. In no event will the amount calculated in (c) above be less than 60% of the participant's aggregate contributions made on and after January 1, 1990. Benefits are payable upon normal retirement age at age 65 in the form of single life or joint and survivor annuity or, at the participant's option with appropriate spouse consent, in the form of an annuity with a term certain. A participant who has (a) completed at least 30 years of continuous service, (b) attained age 55 and completed at least 10 years of continuous service, or (c) attained age 55 and the combination of such participant's age and service equals at least 70 years, is eligible for early retirement benefits. If a participant elects early retirement before reaching age 62, such benefits will be reduced except that the non-contributory benefits of a participant with at least 30 years of credited service will not be reduced. In addition, employees who retire after age 55 but before age 62 with at least 30 years of service are entitled to a supplemental non-contributory benefit until age 62. Annual benefits under the Company Retirement Plan are subject to a statutory ceiling of $120,000 per participant. Participants are fully vested in their accrued benefits under the Company Retirement Plan after five years of credited service with the Company.
The individuals named in the Summary Compensation Table also participate in a supplemental plan which generally makes up for certain reductions in such benefits caused by Internal Revenue Code limitations. Estimated annual benefits upon retirement for these individuals who are participants in the amended plan of K & F and Aircraft Braking Systems and the supplemental plan are $223,000 for Mr. K. Schwartz; $116,000 for Mr. Fogelsanger; and $35,000 for Mr. Welsch. BLS does not participate in either plan. The retirement benefits have been computed on the assumption that (a) employment will be continued until normal retirement at age 65; (b) current levels of creditable compensation and the Social Security Wage Base will continue without increases or adjustments throughout the remainder of the computation period; and (c) participation in the contributory portion of the plan will continue at current levels. The Company has a similar plan at Engineered Fabrics in which Mr. Martin participates. Estimated annual benefits for Mr. Martin are $92,000 using the assumptions in (a), (b) and (c) above.
For purposes of eligibility, vesting and benefit accrual, participants receive credit for years of service with Loral Corporation and Goodyear. At retirement, retirement benefits calculated according to the benefit formula described above are reduced by any retirement benefits payable from The Goodyear Tire & Rubber Company Retirement Plan For Salaried Employees.
COMPENSATION OF DIRECTORS
The Board of Directors held three meetings during the nine months ended December 31, 1996. Non-equity members of the Board of Directors receive annual fees of $12,000 per year. Messrs. Towbin, Washkowitz and Stern (three directors designated by LBH pursuant to the Stockholders Agreement) waived any compensation for services as a director for the nine months ended December 31, 1996. All directors are reimbursed for reasonable out-of-pocket expenses incurred in that capacity.
ADVISORY AGREEMENT
The Company has an Advisory Agreement with BLS which provides for the payment of an aggregate of $200,000 per month of compensation to BLS and persons designated by him (including certain other executive officers of Loral Space who are active in the management of the Company) in exchange for acting as directors and providing advisory services to the Company and its subsidiaries. Such agreement will continue until BLS dies or is disabled or ceases to own at least 135,000 shares of common stock of the Company.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Company has not in the past used a compensation committee to determine executive officer compensation. The payments to BLS, the Company's Chairman and Chief Executive Officer, are paid in accordance with the Advisory Agreement. All other executive compensation decisions are made by BLS in accordance with policies established in consultation with the Board of Directors.
PART IV
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The following table sets forth the ownership of the capital stock of the Company as of December 31, 1996.
*Collectively referred to as the "Lehman Investors."
(a) The preferred stock is convertible into Class A common stock on a one-for-one basis.
(b) Assumes that the preferred stock has been converted into voting common stock.
(c) BLS has granted options to officers and directors of the Company and its subsidiaries, at a per share exercise price of $40, for an aggregate of 30,500 shares of the voting common stock owned by BLS. The agreements pursuant to which such options are issued (i) provide that the option is exercisable in whole or in part at any time prior to the tenth anniversary of the date of such agreement and (ii) restrict the transfer of the option and any shares purchased upon exercise of the option. The option agreements further provide that BLS will retain all voting rights with respect to shares sold to an option holder upon exercise of an option.
(d) LB I Group Inc. is the general partner of the limited partnership and is an indirect wholly owned subsidiary of LBH.
(e) Lehman Brothers Offshore Partners Ltd. is the general partner of the limited partnership and is an indirect wholly owned subsidiary of LBH.
(f) LBH is the general partner of the limited partnership. The limited partnership is a fund for current and former employees of LBH.
Stockholders Agreement
The Company, BLS, the Lehman Investors, Chase Capital Partners and Loral Space (each, a "Stockholder") entered into an Amended and Restated Stockholders Agreement (the "Stockholders Agreement") dated as of September 2, 1994, which contains certain restrictions with respect to the transferability of the Company's capital stock, certain rights granted by the Company with respect to such shares and certain voting and other arrangements. The Stockholders Agreement will terminate at such time as more than 75% of the shares of common stock and shares of common stock issuable upon the exercise of options or rights to acquire common stock or upon conversion of convertible securities ("Common Equivalents") then outstanding have been sold pursuant to one or more public offerings, except that the registration rights
continue as to any common stock held by parties thereto as long as they own their shares, and the voting provisions contained in the Stockholders Agreement terminate on September 2, 2004.
The Stockholders Agreement provides that the Company's Board of Directors be comprised initially of 7 directors. BLS is entitled to (i) appoint a majority of the directors as long as he and his affiliates own at least 135,000 shares of common stock, (ii) three directors as long as he and his affiliates own at least 100,000 shares of common stock, and (iii) one director as long as he and his affiliates own any shares of common stock. The Lehman Investors are entitled to (i) appoint three directors as long as they collectively own at least 100,000 Common Equivalents, (ii) a majority of the directors if (a) they own at least 135,000 shares of common stock and (b) BLS dies or becomes disabled or owns less than 135,000 shares of Common Equivalents, and (iii) one director as long as they own any Common Equivalents. If and for so long as Loral Space and its affiliates own any shares of voting common stock, at the request of Loral Space, the number of members of the Board of Directors shall be increased to 9, Loral Space shall be entitled to designate one member of the Board of Directors, and the remaining member shall be designated by the stockholder which at such time has the right to designate a majority of the Board of Directors. The Company's by-laws provide that the following corporate actions will require the vote of at least one Lehman Investor designated director including (with certain limited exceptions) (i) mergers, consolidations or recapitalization, (ii) issuances of capital stock or preferred stock, (iii) repurchases of and dividends on capital stock, (iv) issuance of employee options representing more than 50,000 shares of common stock, (v) dissolution or liquidation of the Company, (vi) acquisition, sale or exchange of assets in excess of $5,000,000, (vii) the incurrence of debt or liens in excess of $10 million in the aggregate, (viii) the making of loans, investments or capital expenditures in excess of $10 million, (ix) transactions with affiliates and (x) prepayments of or amendments to any amount of financing in excess of $10 million. The Stockholders Agreement provides that the Charter and By-laws of the Company then in effect may not be amended without the consent of the Lehman Investors designated director for so long as the Lehman Investors or its affiliates own at least 100,000 shares of the outstanding capital stock.
The Stockholders Agreement provides each Stockholder with a right of first refusal with respect to certain transfers of Common Stock or Common Equivalents. In addition, subject to certain limitations, if any Stockholder or group of Stockholders proposes to transfer securities representing more than 15% of the Common Equivalents, then each other Stockholder is permitted to transfer to the proposed transferee their pro rata share of Common Equivalents at the price and on the other terms of the proposed transfer.
The Stockholders Agreement provides that either BLS or the Lehman Investors (the "Put Party") may request an appraisal of the value of the capital stock of the Company (the "Appraised Value") and may notify the other party of its desire to sell all of its and its transferee's capital stock for a pro rata share of such Appraised Value. The other party may elect to purchase such capital stock, arrange for the purchase of such capital stock by a third party or notify the Put Party that it does not intend to purchase such capital stock. If such election is made such party must use its best efforts to purchase or arrange for the purchase of such capital stock. If such capital stock is not purchased within a specified period, BLS and the Lehman Investors shall cause the Company to be sold if such sale can be arranged for a price at least equal to the Appraised Value. Any sale of the Company as an entirety shall include all Stockholders and the proceeds thereof shall be allocated among the Stockholders in accordance with their stock ownership.
Stockholders of specified percentages of capital stock may demand registration rights. The Stockholders Agreement also grants the Stockholders incidental registration rights with respect to shares of capital stock held by them; provided that the Stockholders not exercising such rights have the right to purchase the shares which are the subject of such registration rights pursuant to the right of first offer provided in the Stockholders Agreement. The Stockholders Agreement contains customary terms and provisions with respect to such registration rights. Pursuant to the Stockholders Agreement, Stockholders have certain preemptive rights, subject to certain exceptions, with respect to future issuances of shares or share equivalents of capital stock so that such Stockholders may maintain their proportional equity ownership interest in the Company.
Item 13.
Item 13. Certain Relationships and Related Transactions
General
BLS owns 27.12% of the capital stock of the Company and pursuant to the Stockholders Agreement has the right to designate a majority of the Board of Directors of the Company. In addition, BLS serves as Chairman of the Board of Directors and Chief Executive Officer of the Company and devotes such time to the business and affairs of the Company as he deems appropriate. BLS is also Chairman and Chief Executive Officer of Loral Space. Prior to that he was Chairman and Chief Executive Officer of Loral Corporation. Because BLS is Chairman of the Board of Directors and has the right to designate a majority of the Directors to the Board of the Company, he has operating control of the Company.
In May 1996, K & F purchased $343,000 principal amount of the Company's 13 3/4% Debentures from A. Robert Towbin, who is a member of the Board of Directors of the Company, at a price of 103.65% of the principal thereof plus accrued interest. In May 1996, the 13 3/4% Debentures were callable at a price of 103.75% of the principal amount.
The Company pays Ronald H. Kisner, who is a member of the Board of Directors of the Company, a monthly retainer of $6,000 for legal services.
On September 2, 1994, K & F retired the $65.4 million principal amount of Convertible Debentures held by Loral Corporation. (See Note 9 to the consolidated financial statements.)
The Company has an Advisory Agreement with BLS which provides for the payment of an aggregate of $200,000 per month of compensation to BLS and persons designated by him (including certain other executive officers of Loral Space who are active in the management of the Company) in exchange for acting as directors and providing advisory services to the Company and its subsidiaries. Such agreement will continue until BLS dies or is disabled or ceases to own at least 135,000 shares of common stock of the Company.
The Company has a bonus plan pursuant to which the Company's Board of Directors awards bonuses to BLS and other advisors ranging from 5% to 10% of earnings in excess of $50 million before interest, taxes and amortization. Bonuses earned under this plan were $200,000 for the fiscal year ended March 31, 1996 and paid to certain executive officers of Loral Space. BLS did not receive any payments under this plan for the fiscal year ended March 31, 1996. Bonuses for the nine months ended December 31, 1996 have not yet been determined nor approved by the Company's Board of Directors.
Lehman Brothers has from time to time provided investment banking, financial advisory and other services to the Company, for which services Lehman Brothers has received fees. As the beneficial owners of 48.17% of the outstanding capital stock, the Lehman Investors are able to elect three directors to the Company's Board of Directors and have the benefit of certain rights under the Stockholders Agreement and the Company's By-laws. During the nine months ended December 31, 1996, Lehman Brothers received underwriting discounts and commissions of $2.6 million in connection with the offering of the 10 3/8% Notes.
Pursuant to agreements between the Company and Loral Space (which owns 22.5% of the outstanding capital stock), the Company reimburses Loral Space for real property occupancy, benefits administration and legal services. The related charges agreed upon were established to reimburse Loral Space for actual costs incurred without profit or fee. The Company believes the arrangements are as favorable to the Company as could have been obtained from unaffiliated parties. Payments to Loral Space were $0.2 million for the nine months ended December 31, 1996. Included in accounts payable at December 31, 1996 is $0.2 million.
Pursuant to agreements between K & F and Loral Corporation, the parties provided services to each other and shared certain expenses relating to a production program, real property occupancy, benefits administration, treasury, accounting and legal services. The related charges agreed upon by the parties were established to reimburse each party on the actual cost incurred without profit or fee. The Company believes the arrangements with Loral Corporation were as favorable to the Company as could have been obtained from unaffiliated parties. Billings from Loral Corporation were $3.6 million and $3.0 million for the fiscal years ended March 31, 1996 and 1995, respectively. Billings to Loral Corporation were $2.7 million and $0.2 million for the fiscal years ended March 31, 1996 and 1995. Purchases from Loral Corporation
were $2.2 million and $1.9 million for the fiscal years ended March 31, 1996 and 1995. Included in accounts receivable and accounts payable at March 31, 1996 is $3.5 million and $2.3 million.
On April 22, 1996, Lockheed Martin acquired the defense electronics and systems integration businesses of Loral Corporation which included the Akron, Ohio facility. The various occupancy and service agreements affecting the Akron, Ohio facility will remain in full force and effect. K & F will continue to reimburse Lockheed Martin for real property occupancy, and costs relating to shared easements and services. (See Item 2, "Properties.")
Item 14.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) Index to Financial Statements:
Page ---- K & F Industries, Inc. - Consolidated Financial Statements:
Independent Auditors' Report
Consolidated Balance Sheets as of December 31, 1996 and March 31, 1996
Consolidated Statements of Operations for the Nine Months Ended December 31, 1996 and the Years Ended March 31, 1996 and 1995
Consolidated Statements of Stockholders' Deficiency for the Nine Months Ended December 31, 1996 and the Years Ended March 31, 1996 and 1995
Consolidated Statements of Cash Flows for the Nine Months Ended December 31, 1996 and the Years Ended March 31, 1996 and 1995
Notes to Consolidated Financial Statements
All other schedules and separate financial statements are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto. Exhibits 10.04 through 10.09 and 10.11, 10.12 and 10.19 are management contracts or compensation plans.
(b) Reports on Form 8-K: A report on Form 8-K was filed on November 22, 1996 to report the change of the Company's fiscal year-end from March 31 to December 31.
Exhibits: See exhibit index below.
(c) Exhibits
2.01- Agreement for Sale and Purchase of Assets dated March 26, 1989 between Loral Corporation and the Registrant (1)
3.01- Amended and Restated Certificate of Incorporation of the Company (7)
3.02- Amended and Restated By-Laws of the Company (6)
4.01- Indenture dated as of August 15, 1996 for the 10 3/8% Senior Subordinated Notes due 2004 (including the form of Senior Subordinated Notes as Exhibit A thereto) between the Company and Fleet National Bank, as trustee (9)
4.04- Indenture dated as of June 1, 1992 for the 11 7/8% Senior Secured Notes Due 2003 (including the form of Senior Notes) between the Company and the Bank of New York, as trustee (5)
4.07- Pledge Agreement dated as of June 10, 1992 between the Company and the Bank of New York, as collateral trustee (5)
(c) Exhibits (continued):
10.01 - Securities Purchase Agreement dated as of April 27, 1989, among the Company, Bernard L. Schwartz ("BLS") and Lehman Brothers Holdings Inc. ("LBH") (1)
10.02 - Assumption Agreement dated as of April 27, 1989 (1)
10.03 - Shared Services Agreement dated April 27, 1989, among Lockheed Martin, the Company, Aircraft Braking Systems Corporation and Engineered Fabrics Corporation (1)
10.04 - Director Advisory Agreement dated as of April 27, 1989, between the Company and BLS (1)
10.05 - Non-Competition Agreement dated as of April 27, 1989, between the Company and BLS (1)
10.06 - K & F Industries, Inc. Retirement Plan for Salaried Employees (5)
10.07 - K & F Industries, Inc. Savings Plan for Salaried Employees (5)
10.08 - Goodyear Aerospace Corporation Supplemental Unemployment Benefits Plan for Salaried Employees - Plan A (1)
10.09 - The Loral Systems Group Release and Separation Allowance Plan (1)
10.10 - Letter Agreement dated April 27, 1989, between the Company and LBH (1)
10.11 - K & F Industries, Inc. 1989 Stock Option Plan (2)
10.12 - K & F Industries, Inc. Executive Deferred Bonus Plan (2)
10.13 - Securities Purchase Agreement dated as of July 22, 1991 among the Company, BLS and the Lehman Investors (4)
10.14 - Securities Purchase Agreement among the Company, BLS and the Lehman Investors dated September 2, 1994 (6)
10.15 - Amended and Restated Stockholders Agreement dated as of September 2, 1994, By and Among the Company, BLS, the Lehman Investors, Chase Capital Partners and Loral Space (6)
10.16 - Agreement dated as of September 2, 1994, between the Company and Loral Space (6)
10.17 - Amendment of Stockholders Agreement dated November 8, 1994 (6)
10.18 - Securities Conversion Agreement among the Company and the Converting Stockholders, dated November 8, 1994 (6)
10.19 - K & F Industries, Inc. Supplemental Executive Retirement Plan (8)
10.20 - Amended and Restated Credit Agreement dated as of August 14, 1996, among ABS, EFC, the Lenders (as defined therein), Lehman Commercial Paper, Inc., as Documentation Agent and Chase Securities Inc., individually and as agent for the Lenders ("Chase") (9)
10.21 - Amended and Restated Security Agreement dated as of August 14, 1996, between ABS and Chase (9)
10.22 - Amended and Restated Security Agreement dated as of August 14, 1996, between EFC and Chase (9)
(c) Exhibits (continued):
10.23 - Revolving Credit Note dated as of August 14, 1996 executed by each of ABS and EFC in favor of NBD Bank (9)
10.24 - Facility A Notes dated as of August 14, 1996 executed by each of ABS and EFC in favor of NBD Bank (9)
10.25 - Amended and Restated K & F agreement dated as of August 14, 1996, between the Company and Chase (9)
10.26 - Amended and Restated Subordination Agreement dated as of August 14, 1996, between ABS and Chase (9)
10.27 - Amended and Restated Subordination Agreement dated as of August 14, 1996, between EFC and Chase (9)
10.28 - Purchase Agreement dated August 12, 1996 among the Company, Lehman Brothers Inc. and Chase Securities Inc. (9)
10.29 - Registration Rights Agreement dated as of August 15, 1996 among the Company, Lehman Brothers Inc. and Chase Securities Inc. (9)
12.01 - Statement of computations of ratio of earnings to fixed charges (9)
21.01 - Subsidiaries of the Registrant (1)
24.01 - Powers of Attorney (included on signature page)
27.01 - Financial Data Schedule - ----------
(1) Previously filed as an exhibit to the Company's Registration Statement on Form S-1, No. 33-29035 and incorporated herein by reference.
(2) Previously filed as an exhibit to the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 1990 and incorporated herein by reference.
(3) Previously filed as an exhibit to the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 1991 and incorporated herein by reference.
(4) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1991 and incorporated herein by reference.
(5) Previously filed as an exhibit to the Company's Registration Statement on Form S-1, No. 33-47028 and incorporated herein by reference.
(6) Previously filed as an exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1994 and incorporated herein by reference.
(7) Previously filed as an exhibit to the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 1995 and incorporated herein by reference.
(8) Previously filed as an exhibit to the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 1996 and incorporated herein by reference.
(9) Previously filed as an exhibit to the Company's Registration Statement on Form S-4, No. 333-11047 and incorporated herein by reference.
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
K & F INDUSTRIES, INC.
By:/s/KENNETH M. SCHWARTZ ----------------------------- Kenneth M. Schwartz Executive Vice President
Date: March 28, 1997
Pursuant to the requirements of The Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date --------- ----- ----
* Chairman of the Board, Chief March 28, 1997 - ------------------------- Executive Officer and Director Bernard L. Schwartz (principal executive officer)
/s/KENNETH M. SCHWARTZ Executive Vice President March 28, 1997 - ------------------------- Kenneth M. Schwartz
/s/DIRKSON R. CHARLES Chief Financial Officer March 28, 1997 - -------------------------- (principal financial and Dirkson R. Charles accounting officer)
* Director March 28, 1997 - -------------------------- Herbert R. Brinberg
* Director March 28, 1997 - -------------------------- Ronald H. Kisner
* Director March 28, 1997 - -------------------------- John R. Paddock
* Director March 28, 1997 - -------------------------- James A. Stern
* Director March 28, 1997 - -------------------------- A. Robert Towbin
* Director March 28, 1997 - --------------------------- Alan H. Washkowitz
*By: /s/KENNETH M. SCHWARTZ Attorney-in-Fact March 28, 1997 --------------------- Kenneth M. Schwartz
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of K & F Industries, Inc.:
We have audited the accompanying consolidated balance sheets of K & F Industries, Inc. and subsidiaries (the "Company") as of December 31, 1996 and March 31, 1996, and the related consolidated statements of operations, stockholders' deficiency, and cash flows for the nine months ended December 31, 1996 and for each of the two years in the period ended March 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of K & F Industries, Inc. and subsidiaries as of December 31, 1996 and March 31, 1996, and the results of their operations and their cash flows for the nine months ended December 31, 1996 and for each of the two years in the period ended March 31, 1996 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP New York, New York January 23, 1997
K & F INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
See notes to consolidated financial statements.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
See notes to consolidated financial statements.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIENCY NINE MONTHS ENDED DECEMBER 31, 1996 AND YEARS ENDED MARCH 31, 1996 AND 1995
See notes to consolidated financial statements.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Supplemental disclosure of non-cash financing activities: See Note 9 for a discussion of non-cash financing activities.
See notes to consolidated financial statements.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
K & F Industries, Inc. ("K & F") and subsidiaries (collectively, the "Company") is primarily engaged in the design, development, manufacture and distribution of wheels, brakes and anti-skid systems for commercial, military and general aviation aircraft, and the manufacture of materials for fuel tanks, iceguards, inflatable oil booms and various other products made from coated fabrics for military and commercial uses. The Company serves the aerospace industry (which is experiencing some consolidation) and sells its products to airframe manufacturers and commercial airlines throughout the world and to the United States and certain foreign governments. The Company's activities are conducted through its two wholly owned subsidiaries, Aircraft Braking Systems Corporation ("Aircraft Braking Systems"), which generated approximately 90% of the Company's total revenues during the nine months ended December 31, 1996 and Engineered Fabrics Corporation (collectively, the "Subsidiaries"), which generated approximately 10% of the Company's total revenues during the nine months ended December 31, 1996.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Year-End Change - Effective December 31, 1996, the Company changed its fiscal year-end from March 31 to December 31. Accordingly, the accompanying financial statements include audited financial statements for the nine months ended December 31, 1996.
Principles of Consolidation - The consolidated financial statements include the accounts of the Company. All material intercompany accounts and transactions between these entities have been eliminated.
Cash and Cash Equivalents - Cash and cash equivalents consist of cash, commercial paper and other investments that are readily convertible into cash and have original maturities of three months or less.
Revenue and Expense Recognition - Sales are recorded as units are shipped. The Company customarily sells original wheel and brake equipment below cost as an investment in a new airframe which is expected to be recovered through the subsequent sale of replacement parts. These commercial investments (losses) are recognized when original equipment is shipped. For the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, investments were $20.2 million, $29.9 million and $23.9 million, respectively. Losses on U.S. government contracts are immediately recognized in full when determinable.
Inventory - Inventory is stated at average cost, not in excess of net realizable value. In accordance with industry practice, inventoried costs may contain amounts relating to contracts with long production cycles, a portion of which will not be realized within one year.
Property, Plant and Equipment - Property, plant and equipment are stated at cost. Maintenance and repairs are expensed when incurred; renewals and betterments are capitalized. When assets are retired or otherwise disposed of, the cost and accumulated depreciation are eliminated from the accounts, and any gain or loss is included in the results of operations. Depreciation is provided on the straight-line method over the estimated useful lives of the related assets as follows: buildings and improvements - 8 to 40 years; machinery, equipment, furniture and fixtures - 3 to 25 years; leasehold improvements - over the life of the applicable lease or 10 years, whichever is shorter.
Deferred Charges - Deferred charges consist primarily of financing costs ($8.7 million and $7.7 million, which is net of amortization (non-cash interest expense) of $1.3 million and $6.9 million at December 31, 1996 and March 31, 1996, respectively), and program participation costs ($13.9 million and $14.5 million, which is net of amortization of $2.4 million and $1.8 million, at December 31, 1996 and March 31, 1996, respectively) paid in connection with the sole-source award of wheels, brakes and anti-skid equipment on the McDonnell Douglas Corporation's MD-90 twin-jet program. Program participation costs are being amortized on a straight-line method over a period of 20 years. Deferred financing charges are primarily being amortized on an effective interest method over periods of 5 to 8 years.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Cost in Excess of Net Assets Acquired - Cost in excess of net assets acquired is being amortized on the straight-line method over a period of 40 years. The Company reviews the cost in excess of net assets acquired for recoverability on an on-going basis using undiscounted cash flows. Impairments would be recognized in operating results.
Intangible Assets - Intangible assets consist of patents, licenses and computer software which are stated at cost and are being amortized on a straight-line method over periods of 5 to 30 years.
Evaluation of Long-Lived Assets - Long-lived assets are assessed for recoverability on an on-going basis in accordance with Statement of Financial Accounting Standards (SFAS) No. 121. In evaluating the value and future benefits of long-lived assets, their carrying value would be reduced by the excess, if any, of the long-lived asset over management's estimate of the anticipated discounted future net cash flows of the related long-lived asset. There were no adjustments to the carrying amount of long-lived assets during the nine months ended December 31, 1996 and during the fiscal years ended March 31, 1996 and 1995, resulting from the Company's evaluations.
Warranty - Estimated costs of product warranty are accrued when individual claims arise with respect to a product. When the Company becomes aware of such defects, the estimated costs of all potential warranty claims arising from such defects are fully accrued.
Business and Credit Concentrations - The Company's customers are concentrated in the airline industry but are not concentrated in any specific region. The U. S. government accounted for approximately 12%, 16% and 14% of total sales for the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively. No other single customer accounted for 10% or more of consolidated revenues for the nine months and fiscal years then ended, and there were no significant accounts receivable from a single customer, except the U. S. government, at December 31, 1996 and March 31, 1996.
Use of Estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Accounting and Reporting Changes - Effective April 1, 1996, the Company adopted SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." SFAS No. 121 establishes accounting standards for the recognition of an impairment of long-lived assets, certain identifiable intangibles, and goodwill related to those assets to be held and used, and for long-lived assets and certain identifiable intangibles to be disposed of. The adoption of SFAS No. 121 did not have a material effect on the Company's financial position or results of operations.
Effective April 1, 1996, the Company adopted SFAS No. 123, "Accounting for Stock-Based Compensation." SFAS No. 123 encourages (but does not require) adoption of the fair value based method of accounting for stock-based compensation plans. Entities may continue to measure compensation costs for those plans using the intrinsic value based method of accounting, but must make pro forma disclosures of net income (loss) as if the accounting provisions of SFAS No. 123 had been adopted. The Company has elected to continue the intrinsic value method of accounting for stock-based compensation plans and provide the required pro forma disclosures. As a result, the adoption of SFAS No. 123 had no effect on the Company's financial position or results of operations. (See Note 9.)
Reclassifications - Certain amounts in the prior years' financial statements have been reclassified to conform to the current period presentation.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
During the nine months ended December 31, 1996, the Company sold and leased back assets with a net book value of $2,315,000.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
a) Credit Agreement - In August 1996, the Company entered into an Amended and Restated Credit Agreement (the "Credit Agreement") consisting of a $40 million senior term loan (the "Term Loan") and a $70 million revolving loan facility (the "Revolving Loan"). The proceeds from the Revolving Loan were used to repay outstanding indebtedness under the Company's 1992 revolving credit facility. Both loans bear interest at varying interest rates selected at the option of the Company. At December 31, 1996, the interest rate on the Term Loan was 7.875%. At December 31, 1996 and March 31, 1996, the interest rate on the Revolving Loan was 7.875% and 8.37%, respectively. Obligations under the Credit Agreement are secured by a lien on the inventory, accounts receivable and certain other tangible assets. All borrowings under the Revolving Loan mature August 14, 2001. The Term Loan is a six-year amortizing facility maturing September 30, 2002.
Scheduled debt maturities of the Term Loan for the five years subsequent to December 31, 1996 are as follows:
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In addition to scheduled quarterly payments, the net proceeds from certain asset sales, new equity or debt offerings and 50% of excess cash flow (as defined) must be used to prepay the Term Loan. As a result of the excess cash flow calculation (calculated from August 14, 1996), at December 31, 1996 additional long-term debt of $2.5 million has been classified as current.
The Credit Agreement provides for Revolving Loans not to exceed $70 million, with availability determined by reference to a borrowing base of eligible accounts receivable and inventory. The revolving loan facility provides for the issuance of up to $15 million of letters of credit subject to the unused portion of the borrowing base. At December 31, 1996 and March 31, 1996, the Company had $51.6 million and $40.6 million, respectively, available to borrow under the revolving loan facility. At December 31, 1996 and March 31, 1996, the Company had outstanding letters of credit $5.4 million and $5.8 million, respectively.
The Credit Agreement contains certain covenants and events of default, including limitations on additional indebtedness, liens, asset sales, dividend payments, capital expenditures and other distributions from the Subsidiaries to K & F and contains financial ratio requirements including a cash interest coverage ratio, a leverage ratio and maintenance of a minimum adjusted net worth. The Company was in compliance with all covenants at December 31, 1996.
(b) 11 7/8% Senior Secured Notes - On June 10, 1992, the Company issued $100 million of 11 7/8% Senior Secured Notes which mature on December 1, 2003 (the "Senior Notes"). The Senior Notes are not subject to a sinking fund. The Senior Notes may not be redeemed prior to June 1, 1997. On and after June 1, 1997, the Company may redeem the Senior Notes at descending premiums ranging from 5.28% in June 1997 to no premium after June 2001.
(c) 10 3/8% Senior Subordinated Notes - On August 15, 1996, the Company issued $140 million of 10 3/8% Senior Subordinated Notes which mature on September 1, 2004 (the "10 3/8% Notes"). The 10 3/8% Notes are not subject to a sinking fund. The 10 3/8% Notes may not be redeemed prior to September 1, 2000. On and after September 1, 2000, the Company may redeem the 10 3/8% Notes at descending premiums ranging from 5.19% in September 2000 to no premium after September 2003.
(d) 13 3/4% Senior Subordinated Debentures - During the nine months ended December 31, 1996, the Company redeemed the remaining $180 million of the $210 million of 13 3/4% Senior Subordinated Debentures which were to mature on August 1, 2001 (the "13 3/4% Debentures"). The Company used the net proceeds from the 10 3/8% Notes together with borrowings under the Credit Agreement, to redeem the remaining 13 3/4% Debentures at a price of 102.5% of the principal amount thereof. In connection therewith, the Company recorded an extraordinary charge of $9.142 million, consisting of redemption premiums and the write-off of unamortized financing costs.
On December 28, 1995, the Company redeemed $30 million principal amount of the 13 3/4% Debentures at a redemption price of 103.75% of the principal amount thereof. The Company used cash on hand and borrowings from the revolving credit facility to redeem the 13 3/4% Debentures. In connection therewith, the Company recorded an extraordinary charge of $1.913 million, consisting of redemption premiums and the write-off of unamortized financing costs.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amount of all financial instruments reported on the balance sheet at December 31, 1996 and March 31, 1996 approximate their fair value, except as discussed below.
The fair value of the Company's total debt based on quoted market prices or on current rates for similar debt with the same maturities was approximately $308 million and $311 million at December 31, 1996 and March 31, 1996, respectively.
9. CAPITAL STOCK
a. On February 15, 1995, the Board of Directors approved a one-for-ten reverse common stock split for all holders of Class A and Class B common stock on such date.
b. On September 2, 1994, K & F retired the $65.4 million principal amount of 14 3/4% Subordinated Convertible Debentures held by Loral Corporation, in exchange for $12.76 million in cash and 458,994 shares of Class B common stock representing 22.5% of equity. The cash portion of this transaction was funded with the proceeds from the sale of capital stock to K & F's principal stockholders for which stockholders received a total of 68,728 shares of Class A common stock and 127,636 shares of preferred stock. As a result, K & F's stockholders' equity was increased by $65.4 million and long-term debt was reduced by an equal amount, resulting in no gain or loss on the transaction.
c. The preferred stock is convertible into Class A voting common stock on a one-for-one basis. The preferred stock and Class B common stock are entitled to vote on all matters on which the Class A common stock will vote and are entitled to one vote per share.
d. The Company has a Stock Option Plan which provides for the grant of non-qualified or incentive stock options to acquire 50,000 authorized but unissued shares of Class A common stock. The options are exercisable in four equal installments on the second, third, fourth and fifth anniversaries of the date of grant, and shall remain exercisable until the expiration of the option, 10 years from the date of the grant, at an exercise price of $84.60.
Stock option activity is summarized as follows:
The weighted-average remaining contractual life of options outstanding at December 31, 1996 was 2.8 years.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
e. In April 1996, Loral Space (which owns 22.5% of the outstanding capital stock of K & F) granted options to certain officers and employees of K & F to purchase 265,000 shares of Loral Space common stock at $10.50 per share. Such exercise price was equal to the market price at grant date. These options expire ten years from the date of grant and become exercisable ratably over a five year period.
K & F is obligated to pay annual interest at LIBOR plus two percent to Loral Space on the balance of options issued but not exercised, times $10.50. At December 31, 1996, the amount due to Loral Space is $140,000 which has been charged to operations.
As described in Note 2, K & F accounts for its stock-based compensation using the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and its related interpretations. SFAS No. 123, "Accounting for Stock-Based Compensation" requires the disclosure of pro forma net income (loss) had K & F adopted the fair value method as of the beginning of 1995. SFAS No. 123 requires that equity instruments granted to an employee by a principal stockholder be included as part of the disclosure. However, disclosure has been omitted because the pro forma incremental effect of these options on net income (loss) required to be disclosed under SFAS No. 123 is not material to K & F's results of operations.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. EMPLOYEE BENEFIT PLANS
The Company provides pension benefits to substantially all employees through hourly and salaried pension plans. The plans provide benefits based primarily on the participant's years of service. The salaried plan also includes voluntary employee contributions. The Company's funding policy is to contribute at least the minimum amount required by the Employee Retirement Income Security Act of 1974.
Net pension cost included the following:
The table below sets forth the funded status of the plans as follows:
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SFAS No. 87 requires recognition in the balance sheet of an additional minimum pension liability for underfunded plans with accumulated benefit obligations in excess of plan assets. A corresponding amount is recognized as an intangible asset or a reduction of equity. At December 31, 1996, the Company's additional minimum liability was $12,525,000 with a corresponding equity reduction of $10,649,000 and intangible asset of $1,876,000. At March 31, 1996, the Company's additional minimum liability was $12,757,000 with a corresponding equity reduction of $10,572,000 and intangible asset of $2,185,000.
Investments held by the Company's pension plans consist primarily of Fortune 500 equity securities and investment grade fixed income securities.
The assumptions used in accounting for the plans are as follows:
Eligible employees having one year of service also participate in one of the Company's Savings Plans (hourly or salaried). Under one of these plans, the Company matches 45% of a participating employee's contributions, up to 6% of compensation. The employer contributions generally vest to participating employees after five years of service. The matching contributions were $572,000, $687,000 and $532,000 for the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively.
11. POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
The Company provides postretirement health care and life insurance benefits for all eligible employees and their dependents active at April 27, 1989 and thereafter, and postretirement life insurance benefits for retirees prior to April 27, 1989. Participants are eligible for these benefits when they retire from active service and meet the eligibility requirements of the Company's pension plans. The health care plans are generally contributory and the life insurance plans are generally non-contributory.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Net periodic postretirement benefit cost included the following components:
Presented below are the total obligations and amounts recognized in the Company's consolidated balance sheets, inclusive of the current portion:
The assumed annual rate of increase in the per capita cost of covered health care benefits was 11% during the nine months ended December 31, 1996 and will be 10.3% during the fiscal year ending December 31, 1997. The rate was assumed to decrease gradually to 6.5% by fiscal year 2002 and remain at that level thereafter. The health care cost trend rate assumption has a significant effect on the amounts reported. A change in the assumed health care trend rates by 1% in each year would change the accumulated postretirement benefit obligation at December 31, 1996 by $8,000,000 and the aggregate of the service and interest cost components of net postretirement benefit cost for the nine months ended December 31, 1996 by $1,100,000. The weighted average discount rate used in determining the accumulated postretirement benefit obligation as of December 31, 1996 and March 31, 1996 was 7.75% and 7.50%, respectively.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
12. COMMITMENTS
The Company is party to various noncancelable operating leases which are longer than a one-year term for certain data processing, and other equipment and facilities with minimum rental commitments payable as follows:
Rental expense was $3,491,000, $4,758,000 and $4,641,000 for the nine months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively.
13. CONTINGENCIES
In the past, Aircraft Braking Systems had been purchasing substantially all of the carbon for its carbon brakes under supply arrangements with Hitco Technologies, Inc. ("Hitco"). As described below Aircraft Braking Systems and Hitco are in litigation. A loss of carbon supply for the carbon brakes manufactured by Aircraft Braking Systems would have a material, adverse effect on the Company's business and financial condition. However, for certain programs, the Company has developed an alternate supplier and also has commenced a major expansion of its existing carbon manufacturing facility in Akron, Ohio. Construction of the facility is substantially complete and is expected to be fully operational during the second quarter of calendar year 1997. Aircraft Braking Systems is currently manufacturing carbon on three of the five new densification furnaces to be installed. When fully operational, the Company believes it will have sufficient sources of carbon to meet all of its requirements for brake production at the current level of business.
On December 15, 1995, the Company's Aircraft Braking Systems subsidiary commenced an action in the Court of Common Pleas, Summit County, Ohio against Hitco after Hitco threatened to breach existing supply contracts unless prices were renegotiated. Hitco has been the principal supplier of carbon used by Aircraft Braking Systems for its carbon brakes. Hitco claimed that Aircraft Braking Systems breached the supply arrangements by electing to begin to expand its own carbon production facility. The Aircraft Braking Systems' complaint, as amended, seeks damages in excess of $47 million, injunctive relief and specific performance requiring Hitco to perform its obligations pursuant to existing contracts and purchase orders. Hitco has counterclaimed in the matter seeking, among other things, damages up to $130 million for the alleged breach by Aircraft Braking Systems of alleged long-term contracts to purchase carbon. Hitco was enjoined from refusing to perform its obligations pursuant to existing contracts and purchase orders without change in terms. Hitco has sought to have the injunction vacated or modified, and/or a declaratory judgment terminating Hitco's obligation to supply Aircraft Braking Systems at prices previously pertaining. To date, the preliminary injunction has not been vacated or modified, although Hitco argues it expired on December 13, 1996. Through January 1997, Hitco continued to supply carbon to the Company, although Hitco failed to acknowledge certain purchase orders. Aircraft Braking Systems has sought to hold Hitco in contempt of the court's injunction. Hitco has sought an injunction requiring that the Company turn over technology allegedly jointly developed and owned under the prior contractual arrangements. Hearings have been concluded on both the Company's contempt motion and Hitco's motion seeking technology but neither has been decided by the court.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In related actions, a suit filed by Hitco in Superior Court, Los Angeles County, California against Aircraft Braking Systems seeking substantially the same relief as is asserted in the Ohio action has been stayed. Hitco also filed suit in the Federal District Court in the Northern District of Ohio for damages and injunctive relief against a third party claiming that such party, in supplying certain carbon to Aircraft Braking Systems, has acquired trade secrets of Hitco from Aircraft Braking Systems and has misappropriated trade secrets and technology developed under the same research and development contracts between Hitco and Aircraft Braking Systems which are the subject of the Ohio case and the California case. Aircraft Braking Systems has been granted leave to intervene and the other party has moved to dismiss the Federal action.
Management intends to vigorously advocate its interest in all lawsuits, to seek dismissal of the California action and to proceed in the Ohio case to enforce the preliminary injunction and otherwise to protect Aircraft Braking Systems' carbon supply as well as to seek damages from Hitco. Based upon the proceedings to date, advice of counsel and its own assessment of the matters in dispute, management does not expect the outcome of the litigation to be unfavorable to the Company.
There are various lawsuits and claims pending against the Company incidental to its business. Although the final results in such suits and proceedings cannot be predicted with certainty, in the opinion of management, the ultimate liability, if any, will not have a material adverse effect on the Company.
14. INCOME TAXES
The components of the net deferred tax benefit and corresponding valuation allowance is as follows:
SFAS No. 109 requires that a valuation allowance be recorded against tax assets which are not likely to be realized. The Company has established a valuation allowance against the majority of these benefits given the uncertain nature of their ultimate realization. The change in the valuation allowance reflects the extent that taxable income has been projected during the carryforward period.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In the event of future recognition of a 100 percent reduction of the valuation allowance, income tax expense and goodwill would be reduced by $75 million and $56 million, respectively. The realization of these benefits would reduce future income tax payments by $159 million. At December 31, 1996 goodwill has been reduced by $1.1 million as a result of the reduction in the valuation allowance.
The Company's benefit for income taxes for the nine months ended December 31, 1996 consists of:
The Company's effective tax rate of 0.5% benefit for the nine months ended December 31, 1996 differs from the federal statutory rate (benefit of 35%) due to the partial-utilization of tax net operating losses of $3.5 million and the change in the valuation allowance. For the fiscal years ended March 31, 1996 and 1995 the Company's effective tax rate of zero percent differed from the federal statutory rate (benefit of 35%) due to the change in the valuation allowance.
The Company has tax net operating loss carryforwards of approximately $185 million at December 31, 1996. The tax net operating losses expire from 2005 through 2011, with $23 million of carryforwards expiring in 2005.
15. RELATED PARTY TRANSACTIONS
Bernard L. Schwartz ("BLS") owns 27.12% of the common stock of the Company and serves as Chairman of the Board of Directors and Chief Executive Officer. BLS is also Chairman and Chief Executive Officer of Loral Space & Communications Ltd. ("Loral Space"). Prior to that he was Chairman and Chief Executive Officer of Loral Corporation. The Company has an Advisory Agreement with BLS which provides for the payment of an aggregate of $200,000 per month of compensation to BLS and persons designated by him (including certain other executive officers of Loral Space who are active in the management of the Company) in exchange for acting as directors and providing advisory services to the Company and its subsidiaries. Such agreement will continue until BLS dies or is disabled or ceases to own at least 135,000 shares of common stock of the Company.
In May 1996, K & F purchased $343,000 principal amount of the Company's 13 3/4% Debentures from A. Robert Towbin, who is a member of the Board of Directors of the Company, at a price of 103.65% of the principal thereof plus accrued interest. In May 1996, the 13 3/4% Debentures were callable at a price of 103.75% of the principal amount.
The Company pays Ronald H. Kisner, who is a member of the Board of Directors of the Company, a monthly retainer of $6,000 for legal services.
On September 2, 1994, K & F retired the $65.4 million principal amount of Convertible Debentures held by Loral Corporation. (See Note 9.)
The Company has a bonus plan pursuant to which the Company's Board of Directors awards bonuses to BLS and other advisors ranging from 5% to 10% of earnings in excess of $50 million before interest, taxes and amortization. Bonuses earned under this plan were $200,000 for the fiscal year ended March 31, 1996 and paid to certain executive officers of Loral Space. BLS did not receive any payments under this plan for the fiscal year ended March 31, 1996. Bonuses for the nine months ended December 31, 1996 have not yet been determined nor approved by the Company's Board of Directors.
K & F INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Lehman Brothers has from time to time provided investment banking, financial advisory and other services to the Company, for which services Lehman Brothers has received fees. As the beneficial owners of 48.17% of the outstanding capital stock, the Lehman Investors are able to elect three directors to the Company's Board of Directors and have the benefit of certain rights under the Stockholders Agreement and the Company's By-laws. During the nine months ended December 31, 1996, Lehman Brothers received underwriting discounts and commissions of $2.6 million in connection with the offering of the 10 3/8% Notes.
Pursuant to agreements between the Company and Loral Space (which owns 22.5% of the outstanding capital stock), the Company reimburses Loral Space for real property occupancy, benefits administration and legal services. The related charges agreed upon were established to reimburse Loral Space for actual costs incurred without profit or fee. The Company believes the arrangements are as favorable to the Company as could have been obtained from unaffiliated parties. Payments to Loral Space were $0.2 million for the nine months ended December 31, 1996. Included in accounts payable at December 31, 1996 is $0.2 million.
Pursuant to agreements between K & F and Loral Corporation, the parties provided services to each other and shared certain expenses relating to a production program, real property occupancy, benefits administration, treasury, accounting and legal services. The related charges agreed upon by the parties were established to reimburse each party on the actual cost incurred without profit or fee. The Company believes the arrangements with Loral Corporation were as favorable to the Company as could have been obtained from unaffiliated parties. Billings from Loral Corporation were $3.6 million and $3.0 million for the fiscal years ended March 31, 1996 and 1995, respectively. Billings to Loral Corporation were $2.7 million and $0.2 million for the fiscal years ended March 31, 1996 and 1995. Purchases from Loral Corporation were $2.2 million and $1.9 million for the fiscal years ended March 31, 1996 and 1995. Included in accounts receivable and accounts payable at March 31, 1996 is $3.5 million and $2.3 million.
On April 22, 1996, Lockheed Martin acquired the defense electronics and systems integration businesses of Loral Corporation which included the Akron, Ohio facility. The various occupancy and service agreements affecting the Akron, Ohio facility will remain in full force and effect. K & F will continue to reimburse Lockheed Martin for real property occupancy, and costs relating to shared easements and services.
16. COMPARATIVE RESULTS (UNAUDITED)
The following financial information for the nine months ended December 31, 1996 and 1995 and for the 12 months ended December 31, 1996 and 1995 is presented for comparative purposes. The financial information for the nine months ended December 31, 1995 and 12 months ended December 31, 1996 and 1995 is unaudited.