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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K/A

(Amendment No. 4 to Form 10-K/A)

|      |  |                                                                                         
|----- |  | ----------------------------------------------------------------------------------------
|[X]   |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934    
|      |  | For the fiscal year ended May 31, 2001                                                  
|      |  |                                                                                         
|[   ] |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
|      |  | For the transition period from to                                                       

Commission file number 0-26088

PACIFIC AEROSPACE & ELECTRONICS, INC.
(Exact name of registrant as specified in its charter)

|                                                                                                  |  |                                                
|------------------------------------------------------------------------------------------------- |  | -----------------------------------------------
|Washington
(State or other jurisdiction of
incorporation or organization)                         |  | 91-1744587
(I.R.S. Employer
Identification No.)
|                                                                                                  |  |                                                
|430 Olds Station Road, Third Floor
Wenatchee, Washington
(Address of principal executive offices) |  | 98801
(Zip Code)                               

Registrants telephone number, including area code: (509) 667-9600

Securities registered pursuant to Section 12(b) of the Act:



|Title of each class |  | Name of each exchange on which registered
|------------------- |  | -----------------------------------------
|None                |  | None                                     





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Securities registered pursuant to Section 12(g) of the Act:Common Stock, $.001 par value
(Title of class)

Common Stock Purchase Warrants
(Title of class)

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.   Yes   X      No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrants knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K.   x

State the aggregate market value of the voting stock held by non-affiliates,
based on the closing price for the registrants common stock on the Nasdaq
National Market System, as of August 10, 2001: approximately $4,592,180.

Indicate the number of shares outstanding of each of the registrants classes
of common equity, as of August 27, 2001: common stock, $.001 par value:
39,315,309 shares.

Documents Incorporated by Reference:None

Explanation for Amendment

This Form 10-K/A amends in full the registrants Form 10-K/A for the fiscal
year ended May 31, 2001 (the 2001 Form 10-K) and supercedes all other
amendments to the 2001 Form 10-K. This Form 10-K/A includes a revised report
of the registrants independent public accountants containing such accountants
opinion on the registrants audited financial statements for the year ended May
31, 2001 (the 2001 Financials). Additionally, a new footnote regarding
subsequent events relating to the registrant has also been included in the
notes accompanying the 2001 Financials, and the references to the initial
disclaimer of opinion of the registrants independent public accountants





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have been
amended throughout to reflect the revised report and opinion of the registrants
independent public accountants.





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TABLE OF CONTENTS



|                  |                                                                                                |  |  |  |  |  |  | 
|----------------- | ---------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I           
|                  | ITEM 1. DESCRIPTION OF BUSINESS                                                               
|                  | ITEM 2. DESCRIPTION OF PROPERTY                                                               
|                  | ITEM 3. LEGAL PROCEEDINGS                                                                     
|                  | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                   
|PART  II         
|                  | ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS                             
|                  | ITEM 6.  SELECTED FINANCIAL DATA                                                              
|                  | ITEM 7.  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|                  | ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                          
|                  | ITEM 8.  FINANCIAL STATEMENTS                                                                 
|                  | ITEM 8A. SELECTED QUARTERLY FINANCIAL DATA                                                    
|                  | ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE  
|PART III         
|                  | ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY                                      
|                  | ITEM 11. Executive Compensation                                                               
|                  | ITEM 12. Security Ownership of Certain Beneficial Owners and Management                       
|                  | ITEM 13. Certain Relationships and Related Transactions                                       
|                  | ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K                      
|SIGNATURES       
|INDEX TO EXHIBITS
|EXHIBIT 23.1     



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TABLE OF CONTENTS

|                  |            |  |                                                                                       |  |  |      |     |     | 
|----------------- | ---------- |  | ------------------------------------------------------------------------------------- |  |  | ---- | --- | --- | 
|Item of Form 10-K |            |  |                                                                                       |  |  | Page
|                  |            |  |                                                                                       |  |  |     
|PART I            |            |  |                                                                                       |  |  |      | 1   |    
|                  | ITEM 1.    |  | DESCRIPTION OF BUSINESS                                                               |  |  | 1    |    
|                  | ITEM 2.    |  | DESCRIPTION OF PROPERTY                                                               |  |  | 40   |    
|                  | ITEM 3.    |  | LEGAL PROCEEDINGS                                                                     |  |  | 41   |    
|                  | ITEM 4.    |  | SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                   |  |  | 42   |    
|PART II           |            |  |                                                                                       |  |  |      | 43  |    
|                  | ITEM 5.    |  | MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS                              |  |  | 43   |    
|                  | ITEM 6.    |  | SELECTED FINANCIAL DATA                                                               |  |  | 51   |    
|                  | ITEM 7.    |  | MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |  |  | 54   |    
|                  | ITEM 7A.   |  | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                            |  |  | 72   |    
|                  | ITEM 8.    |  | FINANCIAL STATEMENTS                                                                  |  |  | 73   |    
|                  | ITEM 8A.   |  | SELECTED QUARTERLY FINANCIAL DATA                                                     |  |  | 129  |    
|                  | ITEM 9.    |  | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE  |  |  | 131  |    
|PART III          |            |  |                                                                                       |  |  |      | 132 |    
|                  | ITEM 10.   |  | DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY                                       |  |  | 132  |    
|                  | ITEM 11.   |  | EXECUTIVE COMPENSATION                                                                |  |  | 137  |    
|                  | ITEM 12.   |  | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT                        |  |  | 148  |    
|                  | ITEM 13.   |  | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS                                        |  |  | 150  |    
|                  | ITEM 14.   |  | EXHIBITS, FINANCIAL STATEMENT SCHEDULES                                               |  |  | 153  |    
|                  | SIGNATURES |  |                                                                                       |  |  |      |     | 164 | 

(i)



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PART I




ITEM 1. DESCRIPTION OF BUSINESS

Overview

Pacific Aerospace & Electronics, Inc. is an engineering and manufacturing
company with operations in the United States and the United Kingdom. We
design, manufacture and sell components and subassemblies used in technically
demanding environments. Products that we produce primarily for the aerospace
and transportation industries include machined, cast, and formed metal parts
and subassemblies, using aluminum, titanium, magnesium, and other metals.
Products that we produce primarily for the defense, electronics,
telecommunications and medical industries include components such as
hermetically sealed electrical connectors and instrument packages, and ceramic
capacitors, filters and feedthroughs. Our customers include global leaders in
all of these industries. We are organized into three operational groups: U.S.
Aerospace, U.S. Electronics, and European Aerospace. Each of these groups is
composed of a number of operating divisions.

Pacific Aerospace has struggled financially since late 1998, when the
commercial airplane industry suffered a downturn at approximately the same time
that we incurred high-cost, high-yield debt to finance the acquisition of our
European Aerospace Group. We reported a net loss of $75,720,000 for our fiscal
year ended May 31, 2001. This followed net losses of $13,049,000 and
$12,869,000 for our fiscal years ended May 31, 2000 and May 31, 1999,
respectively. Approximately $53.8 million of the net loss reported for fiscal
2001 related to non-cash impairment charges and a write-off of deferred tax
assets. As of May 31, 2001, we had approximately $64 million in principal
amount of 111⁄4% senior subordinated notes and approximately $13.7 million in
principal amount of 18% senior secured debt outstanding.

For our fiscal year ended May 31, 2001, we had net sales of approximately $109
million, with our European Aerospace Group contributing approximately $52
million in net sales. In October 2000, we announced our intention to sell our
European Aerospace Group in order to reduce our outstanding debt. Although we
are actively pursuing the sale of that group, we have not reached an agreement
to date with any prospective purchaser, and we do not know whether we will be
successful in selling the group. If we are successful in selling the group, we
do not know the amount of net proceeds that would be available to reduce our
outstanding debt.

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In March 2001, we announced a plan to restructure our operations by shrinking
our aerospace business through downsizing and divestiture of non-core,
low-margin and unprofitable business units. We have been implementing this
plan to streamline our operations and focus our attention and resources on
growing our technology-based electronics businesses. As part of this plan, we
closed the fabrication operations of our U.S. Aerospace Groups Engineering &
Fabrication Division in Sedro-Woolley, Washington, in April 2001 and sold the
assets related to those operations in May 2001. In addition, we shut down the
Tacoma, Washington, operations of our U.S. Aerospace Groups Casting Division
in November 2000 and sold the assets of the divisions Entiat operation in June
2001. We also sold the relay business of our U.S. Electronics Groups Display
Division in March 2001.

On August 1, 2001, we announced that we did not make an approximately $3.6
million interest payment on our 111⁄4% senior subordinated notes that was due
on that date. Under the indenture governing the 111⁄4% senior subordinated
notes, the Company has a 30-day grace period in which to make the interest
payment before an event of default occurs. We will not be able to make the
payment before expiration of the 30-day grace period on August 31, 2001. We
are currently in negotiations with the holders of approximately 98% of the
111⁄4% senior subordinated notes regarding a possible restructuring of the
Companys debt and equity structure.

References in this Form 10-K to the Company include Pacific Aerospace &
Electronics, Inc., and its subsidiaries. Our headquarters are located at 430
Olds Station Road, Third Floor, Wenatchee, Washington 98801, and our telephone
number is (509) 667-9600.

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Corporate History

We acquired all but one of our divisions in a series of acquisitions that began
in 1990. We accounted for each of the acquisitions as a purchase. The
following chart identifies, as of May 31, 2001, our three operational groups,
the operating divisions that comprise those groups, the year of each
acquisition, and the locations of our operations.

In March 2001, we announced a plan to restructure our operations by shrinking
our aerospace business through downsizing and divestiture of non-core
low-margin and unprofitable business units. We intend to streamline our
operations and focus our attention and resources on growing our
technology-based electronics businesses. As part of this plan, we closed our
fabrication operations in Sedro-Woolley, Washington in April 2001 and sold the
assets related to those operations in May 2001. In addition, we sold the relay
business of our U.S. Electronics Groups Display Division in March 2001, and we
sold the assets of our U.S. Aerospace Groups Casting Division in June 2001.
We have also announced our intention to sell our European Aerospace Group.

This Annual Report on Form 10-K relates to the fiscal year ended May 31, 2001.
The description of the Companys business in this report focuses on the
operations as they were organized during most of 2001.

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|                                   |  |               |  |                                                                  |  |                                                                                                                    |     |  |  |  |  | 
|---------------------------------- |  | ------------- |  | ---------------------------------------------------------------- |  | ------------------------------------------------------------------------------------------------------------------ | --- |  |  |  |  | 
|                                   |  |               |  |                                                                  |  | Location as of                                                                                                     |     |  |  | 
|                                   |  | Year
Acquired |  | May 31, 2001                                                     |  | Recent Changes                                                                                                    
|                                   |  |               |  |                                                                  |  |                                                                                                                   
|U.S. ELECTRONICS GROUP             |  |               |  |                                                                  |  |                                                                                                                    |     |  |  |  |  | 
|Interconnect Division              |  | 1990 and 1998 |  | Wenatchee, Washington                                            |  |                                                                                                                    | N/A | 
|Filter Division                    |  | 1995          |  | Wenatchee, Washington                                            |  |                                                                                                                    | N/A | 
|Bonded Metals Division             |  | 1997          |  | Sequim, Washington                                               |  |                                                                                                                    | N/A | 
|Display Division                   |  | 1998          |  | Vancouver, Washington                                            |  | Being moved to Wenatchee, Washington; target completion date 8/31/01.
Assets of relay business sold in March 2001.
|Applied Technology Division        |  | N/A*          |  | Wenatchee, Washington                                            |  |                                                                                                                    | N/A | 
|U.S. AEROSPACE GROUP               |  |               |  |                                                                  |  |                                                                                                                    |     |  |  |  |  | 
|Casting Division                   |  | 1995 and 1998 |  | Entiat, Washington and Tacoma, Washington                        |  | Entiat assets sold in June 2001.
Tacoma foundry shut down in November 2000.                                       
|Machining Division                 |  | 1994 and 1995 |  | Wenatchee, Washington                                            |  |                                                                                                                    | N/A | 
|Engineering & Fabrication Division |  | 1999 and 2000 |  | Sedro-Woolley, Washington and Edmonds, Washington                |  | Sedro-Woolley operations closed in April 2001 and assets sold in May 2001.                                        
|EUROPEAN AEROSPACE GROUP           |  |               |  |                                                                  |  |                                                                                                                    |     |  |  |  |  | 
|Casting Division                   |  | 1998          |  | Sittingbourne, England
Rochester, England and
Worcester, England |  |                                                                                                                    | N/A | 
|Forming Division                   |  | 1998          |  | Welwyn Garden City, England and Birmingham, England              |  |                                                                                                                    | N/A | 



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|* |  | We formed the Applied Technology Division through internal expansion in
fiscal 2000.
|- |  | ------------------------------------------------------------------------------------

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Business Strengths

Significant Customer Base

We have a strong, diverse international customer base, which includes many of
the worlds leading companies. Our customers over the past year have included
companies such as: Advanced Bionics Corporation, Aeronautical Macchi
Manufacturing Corporation (Aermacchi), Agilent Technologies, Inc., BAE
SYSTEMS plc (BAE Systems), Goodrich Corporations Aerostructures Group
(Goodrich, formerly known as BFGoodrich Company), The Boeing Company
(Boeing), European Aeronautic Defence and Space Company N.V. (EADS), GKN
Westland Aerospace, Inc. (GKN Westland), Honeywell International Inc.
Lockheed Martin Corporation, Northern Telecom Ltd. (Northern Telecom), Vought
Aircraft Industries, Inc. (Vought, formerly Northrup Grumman Corporations
commercial aerostructures group), Paccar Inc. (PACCAR), Parker Hannifan
Corporation, Raytheon Company (Raytheon), Rolls-Royce plc (Rolls-Royce),
and TRW Inc.

Diversity of Product Offerings and Capabilities

We design and manufacture a broad range of precision cast, formed, machined,
finished, and fabricated metal products, as well as a broad range of
specialized electronics components and sub-assemblies. We collaborate with
many of our customers to develop products that meet specific design or
customization requests. We believe that one of our key strengths is our ability
to provide integrated solutions to our customers. We also believe that our
experience and capabilities in providing specialty processes and working with
the changing needs of our customers will be beneficial in allowing us to
respond to changing market trends in the industries that we already serve and
responding to the needs of customers in new markets.

Strong Position in Major Aerospace and Defense Programs

We supply components, parts and assembly tooling to Boeing for each of Boeings
737, 747, 757, 767 and 777 commercial aircraft construction programs and to
members of the Airbus consortium for Airbus A300/310, A318-A321 and A330/340
commercial aircraft construction programs. In addition, we participate in major
defense and military aircraft programs in the U.S. and Europe.

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Strong Technology Position

We utilize specialized manufacturing techniques, advanced materials science,
integrated design, process engineering, and proprietary technologies or
processes in the design and manufacture of our products. Our U.S. Electronics
Group alone owns 23 U.S. patents and has applied for two additional U.S.
patents, and uses a combination of patented technology, trade secrets and other
proprietary technology in the manufacture of state-of-the-art electronic
components and packages. Our U.S. Aerospace Group has a broad base of
expertise in precision machining. The groups Engineering & Fabrication
Division employs a sophisticated group of professional engineers, who
specialize in turn-key design and build, machine designs, engineering research
and development, and total system engineering. Our European Aerospace Group
has specialized expertise in casting aluminum and magnesium products using sand
and investment casting techniques and its licensed Sophia Process casting
technology. The group also has expertise in superplastic forming of titanium
sheet and stretch forming of aluminum sheet. We are continually working to
develop new proprietary technologies, and, in addition to the numerous patents
that we own or have pending, we maintain an ongoing program of evaluating and
protecting our proprietary rights and processes.

Strategies

Our objective is to be a world class manufacturer that generates profitable
growth by integrating manufacturing processes, introducing new products, and
developing new customers in targeted markets. We believe that pursuing the
following business strategies will enable us to increase market penetration,
create operating efficiencies, and enhance our competitive position.

Integrate and Consolidate Operations

During the 2001 fiscal year, we aggressively integrated and consolidated our
operations and, where necessary, shut down and sold unprofitable and non-core
operations. We currently plan to focus our growth efforts internally to
integrate manufacturing processes, develop and refine our proprietary
technologies and new products, expand sales and marketing efforts, and enhance
engineering and value-added processes. By doing so, we expect to reduce costs
and increase operating efficiencies, while providing more complete and faster
solutions to our customers.

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Enhance Sales and Marketing Functions

During the 2001 fiscal year, we evaluated our sales and marketing systems and
performance and determined that changes were required to be able to
successfully accomplish our goals. As a result of this reevaluation, we have
eliminated our centralized marketing department and refocused each of our
divisions on sales and marketing. We coordinate the divisions efforts through
regular meetings to ensure that we have the capability to combine the
technologies and manufacturing abilities of our different divisions to meet our
customers needs for more complete systems.

Offer Complete Solutions

At the same time, we have continued to vertically integrate our manufacturing
processes, with the goal of improving operating efficiencies and increasing
profit margins. A key component of this strategy is to use our expertise in
advanced materials science and in the manufacture and assembly of precision
products to identify new products, services, technologies and markets and to
provide customers with total solutions, from design to assembly. Commercial
aircraft manufacturers, defense contractors, and leading manufacturers in other
industries are continuing to move toward purchasing from a smaller number of
suppliers that can supply more integrated systems and pre-assembled parts. By
producing products that integrate our various areas of expertise, we hope to
improve profit margins and position the Company to capture a larger share of
our customers total product requirements.

Diversify Customer Base

We believe that two keys to our long-term success will be diversification of
our customer base and expansion of our proprietary technologies into new
markets. We have always believed that our proprietary technologies give us
advantages that many of our competitors do not have. We do not just make parts
based on a drawing  we are able to provide design, modeling and prototyping
services to our customers, as well. To further these efforts, we formed our
Applied Technology Division in fiscal 2000. At the same time that our older
divisions, such as the Machining Division, have been expanding outside their
historical roles into new industries, the Applied Technology Division has been
exploring opportunities to supply components to industries such as the fuel
cell and advanced medical products industries. As a result of these efforts,
we plan not only to reduce our reliance on the cyclical aerospace industry, but
also to become an important part of emerging industries.

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Industry Overview

Aerospace

Since 1998, previously favorable trends in the commercial aerospace industry
have been tempered by the Asian financial crisis, efforts by airlines and
airplane manufacturers to reduce costs, and other events, but industry analysts
and aircraft manufacturers still expect overall growth in air traffic patterns
and the demand for new aircraft.

Demand for aerospace components is closely related to delivery and use rates
for commercial aircraft. Delivery and use rates are in turn directly related to
the actual and projected volume of passenger and freight traffic, average
aircraft age, and global fleet size. According to the Boeing 1998 Current
Market Outlook, world air traffic grew 6% from 1996 to 1997, following a 7%
increase in the previous year. However, the Boeing 1999 Current Market Outlook
reported that air travel in 1998 varied from the trend, particularly because of
decreases in Asian air traffic. In 1999, Boeing revised its estimate for the
growth rate of world air travel over the next ten years to a rate of
approximately 4.7% per year. In Boeings 2001 Current Market Outlook, Boeing
estimated growth rate of world air travel over the next 20 years will be
approximately 4.7% per year. Airbus forecasts a similar growth rate, of 4.9%
per year. Boeing has also projected that the world jet fleet will grow to
32,955 passenger and cargo jets in 2020 and that the total market potential for
new commercial airplanes between 2001 and 2020 is 23,460 airplanes.

In 2000, Boeing delivered 489 new commercial aircraft, compared to 620 new
commercial aircraft in 1999 and 563 in 1998. In 2000, Airbus delivered 311 new
commercial aircraft, compared to 294 in 1999 and 229 in 1998. Boeing has
announced that it delivered 305 commercial aircraft through July 31, 2001, as
compared to 275 delivered through July 31, 2000. As of July 31, 2001, Boeing
had received orders in 2001 for 192 commercial aircraft, as compared to orders
for 342 commercial aircraft during the same period of 2000. Total Boeing
orders in 2000 and 1999 were 611 and 391, respectively. As of July 31, 2001,
Airbus had announced orders in 2000 for 318 commercial aircraft. Airbus had
total orders for 520 aircraft in 2000.

As in other transportation segments, aircraft manufacturers and defense
contractors have been aggressively searching for ways to improve the quality
and reduce the cost of their manufactured products. One major area of focus has
been the manner in which they work with their supply base.

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Aircraft manufacturers and defense contractors have increasingly become product
designers and assemblers rather than vertically integrated manufacturers. As a
result, these manufacturers are outsourcing component manufacturing to
independent suppliers, seeking to benefit from an independent suppliers lower
cost structure and specialized manufacturing knowledge. Suppliers that
demonstrate an ability to effectively deliver a high quality product on the
required delivery schedule at a reasonable cost will benefit from this shift.
In addition, commercial aircraft manufacturers are tending, and defense
contractors are being strongly encouraged by the U.S. Department of Defense, to
purchase from suppliers that can supply more integrated systems and
pre-assembled parts. These shifts are leading to a consolidation in the supply
base. Certain segments of the aerospace supply base are already consolidated,
such as engines, avionics and landing gears. Other segments, however, including
structural components and electronics, remain fragmented. The Company believes
that this trend toward consolidation presents an opportunity for suppliers with
the financial and management resources to meet their customers needs.

Electronics

The electronics industry is enjoying growth in the Companys specific sectors,
and researchers expect the sector to continue to grow through at least 2004.
Growth in the high reliability electronics industry has been fueled by several
factors, including the rapid pace of technological advancement and development
of new satellite and telecommunications products. The growth in demand by
these sophisticated customers has induced manufacturers to create more complex
designs of lighter, more efficient configurations and higher levels of
performance. Additionally, international demand for advanced electronics
components is growing rapidly as these new developments enter the arena of
available solutions.

The electronics industry is experiencing a dynamic period of mergers and
acquisitions, with BAE Systems buying a Lockheed Martin Sanders division,
Raytheon acquiring Hughes divisions, Northrop Grumman purchasing Litton
Guidance & Controls, and DRS purchasing Texas Instruments divisions, to list a
few. Each of these transactions offered the Company new opportunities to
experience expanded positive exposure within our technology niche. Many of
these industry leaders are involved with the Company in multi-year programs
that we expect to continue for several years. When balanced against the recent
slowdown and significant reductions in the telecommunications industry, we
expect these opportunities to result in modest growth in the Companys U.S.
Electronics Group.

Products, Processes and Markets

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Our products, manufacturing processes and markets in fiscal 2001, and the
industry segments in which we operated during fiscal 2001, are summarized
below. As noted, we have experienced some changes since the latter part of
fiscal 2001. We sold the relay business of the U.S. Electronics Groups
Display Division in March 2001. We shut down the Tacoma operations of the U.S.
Aerospace Groups Casting Division in November 2000 and sold the assets of its
Entiat operations in June 2001. In addition, we shut down the fabrication
operations of the U.S. Aerospace Groups Engineering & Fabrication Division in
April 2001, and sold its assets in May 2001.

For financial information about operational segments and geographic areas, see
Notes to Consolidated Financial Statements  Note 5 in the Companys
consolidated financial statements for May 31, 2001.

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|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|----------- |  | ---------------- |  | ------------------------------------------------------------------------------------- |  | -------------------------------------------------- |  | ------------------------------------------------------------------------------------------------------------------------
|Segment     |  | Group            |  | Division                                                                              |  | Manufacturing Processes                            |  | Sample Products                                                                                                         
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|ELECTRONICS |  | U.S. Electronics |  | Interconnect                                                                          |  | Design and manufacture                             |  | Electronic connectors, packages
and assemblies with ceramic and
glass hermetic seals                                    
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|            |  |                  |  | Filter                                                                                |  | Design and manufacture                             |  | Ceramic discoidal electromagnetic
filters and capacitors                                                                
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|            |  |                  |  | Bonded Metals                                                                         |  | Explosive bonding and forming
of dissimilar metals |  | Metallurgically welded metals for
use in electronic connectors and
assemblies                                           
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|            |  |                  |  | Display                                                                               |  | Design and manufacture                             |  | Sunlight readable displays; EMI
filters; ruggedized displays; relays
and solenoids
(Relay operations sold in March
2001)
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|            |  |                  |  | Applied Technology                                                                    |  | Design and manufacture                             |  | Medical product components; fuel
cell components                                                                        
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|AEROSPACE   |  | U.S. Aerospace   |  | Casting
(Tacoma foundry shut
down in November 2000)
(Entiat assets sold in
June 2001) |  | Sand; lost foam; and permanent
mold casting        |  | Aircraft and truck parts                                                                                                
|            |  |                  |  |                                                                                       |  |                                                    |  |                                                                                                                         
|            |  |                  |  | Machining                                                                             |  | Precision machining and assembly                   |  | Aircraft parts; medical products;
industrial products                                                                   

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|        |  |                      |  |                                                                                                     |  |                                                                      |  |                                                                                                                                            
|------- |  | -------------------- |  | --------------------------------------------------------------------------------------------------- |  | -------------------------------------------------------------------- |  | -------------------------------------------------------------------------------------------------------------------------------------------
|Segment |  | Group                |  | Division                                                                                            |  | Manufacturing Processes                                              |  | Sample Products                                                                                                                            
|        |  |                      |  |                                                                                                     |  |                                                                      |  |                                                                                                                                            
|        |  |                      |  |                                                                                                     |  |                                                                      |  |                                                                                                                                            
|        |  |                      |  | Engineering & Fabrication
(Fabrication operations
shut down in April 2001;
assets sold in May 2001) |  | Design; metal fabrication                                            |  | Tooling and structures for aircraft
manufacture; aviation tool design;
factory integration and automation;
aircraft flight structure design
|        |  |                      |  |                                                                                                     |  |                                                                      |  |                                                                                                                                            
|        |  | European
Aerospace   |  | Forming                                                                                             |  | Hot and superplastic titanium
forming; cold stretch aluminum
forming |  | Jet engine bulkhead components;
airframe and engine details; aircraft
skin panels; leading edges                                           
|        |  |                      |  |                                                                                                     |  |                                                                      |  |                                                                                                                                            
|        |  | (Currently
for sale) |  | Casting                                                                                             |  | Sand casting; investment casting;
Sophia casting; machining          |  | Aircraft parts; aircraft engine parts; high
performance motorsport engine and
gearbox parts                                                

The following chart shows the percentage of total revenue from each division
for the past three fiscal years.

|            |  |                  |  |                    |  |                     |        |      |  |      |        |  |  |  |       |  
|----------- |  | ---------------- |  | ------------------ |  | ------------------- | ------ | ---- |  | ---- | ------ |  |  |  | ----- | -
|            |  |                  |  |                    |  | Years Ended May 31,
|            |  |                  |  |                    |  |                    
|Segment     |  | Group            |  | Division           |  | 1999                |        | 2000 |  | 2001
|            |  |                  |  |                    |  |                     |        |      |  |     
|ELECTRONICS |  | U.S. Electronics |  | Interconnect       |  |                     | 13.30% |      |  |      | 12.80% |  |  |  | 14.50 | %
|            |  |                  |  |                    |  |                     |        |      |  |      |        |  |  |  |       |  
|            |  |                  |  | Filter             |  |                     | *      |      |  |      | *      |  |  |  | *     |  
|            |  |                  |  |                    |  |                     |        |      |  |      |        |  |  |  |       |  
|            |  |                  |  | Bonded Metals      |  |                     | *      |      |  |      | *      |  |  |  | *     |  
|            |  |                  |  |                    |  |                     |        |      |  |      |        |  |  |  |       |  
|            |  |                  |  | Display            |  |                     | *      |      |  |      | *      |  |  |  | *     |  
|            |  |                  |  |                    |  |                     |        |      |  |      |        |  |  |  |       |  
|            |  |                  |  | Applied Technology |  |                     | N/A    |      |  |      | *      |  |  |  | *     |  

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|          |  |                    |  |                           |  |                     |        |      |  |      |        |  |  |  |       |  
|--------- |  | ------------------ |  | ------------------------- |  | ------------------- | ------ | ---- |  | ---- | ------ |  |  |  | ----- | -
|          |  |                    |  |                           |  | Years Ended May 31,
|          |  |                    |  |                           |  |                    
|Segment   |  | Group              |  | Division                  |  | 1999                |        | 2000 |  | 2001
|          |  |                    |  |                           |  |                     |        |      |  |     
|AEROSPACE |  | U.S. Aerospace     |  | Casting                   |  |                     | 12.60% |      |  |      | 12.80% |  |  |  | *     |  
|          |  |                    |  |                           |  |                     |        |      |  |      |        |  |  |  |       |  
|          |  |                    |  | Machining                 |  |                     | 16.30% |      |  |      | *      |  |  |  | 11.10 | %
|          |  |                    |  |                           |  |                     |        |      |  |      |        |  |  |  |       |  
|          |  |                    |  | Engineering & Fabrication |  |                     | N/A    |      |  |      | *      |  |  |  | *     |  
|          |  |                    |  |                           |  |                     |        |      |  |      |        |  |  |  |       |  
|          |  | European Aerospace |  | Forming                   |  |                     | 25.10% |      |  |      | 24.90% |  |  |  | 21.50 | %
|          |  |                    |  |                           |  |                     |        |      |  |      |        |  |  |  |       |  
|          |  |                    |  | Casting                   |  |                     | 24.10% |      |  |      | 25.60% |  |  |  | 25.70 | %



---

|* |  | Less than 10%
|- |  | -------------

U.S. Electronics Group

Our U.S. Electronics Group develops, designs and produces a diverse array of
components, ranging from tiny implantable medical devices to aircraft cockpit
displays and huge components for the Space Shuttle main engine. Virtually all
of our products are created to withstand the rigors of some hostile
environment. Inter-divisional synergy is very important to the U.S.
Electronics Group, as it permits us to develop and produce unique products and
technologies. For example, the patented application of the groups Bonded
Metals Division is at the very heart of the Interconnect Divisions lightweight
hermetic technology.

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Interconnect Division

In Wenatchee, Washington, our Interconnect Division designs and produces
lightweight, hermetically sealed electronics housings and components for the
space, medical, energy and military markets. Utilizing proprietary sealants
such as our Kryoflex® ceramic and other patented and proprietary technologies,
the division is known as a supplier of some of the most durable products on the
market today. Applications include many high profile projects, such as the
International Space Station, the Javelin Missile, the Longbow Missile, the
F-15, F-18 and F-22 current production military aircraft, the THAD Missile and
the Joint Strike Fighter aircraft.

Utilizing our proprietary and patented ceramic joining technologies, the
Interconnect Division has developed and continues to develop innovative
solutions for components used in a number of medical applications. For
example, we make components for implantable neuro-stimulators for the
management of such maladies as incontinence, epilepsy, Hodgkins disease, loss
of muscle control, and chronic pain. Other medical component applications
include a zirconia/titanium housing for a cochlear implant device, implantable
defibrillator components, a left ventricular assist device, and artificial
heart components.

The state of the art machining capability within the Wenatchee facility
allows us to comply with the very precise tolerances (up to 1/10,000 inch)
needed for the production of satellite, avionics and missile components. When
combined with the application of our proprietary Kryoflex® ceramic sealant,
this capability allows the Company to produce extremely rugged electronic
connectors for applications such as the oil industry where down hole
temperatures exceed 400 degrees Fahrenheit and pressures exceed 30,000 pounds
per square inch. Kryoflex® is available in several formulations that are
selected according to the materials to be joined and conditions to be endured.

With our new (patent granted in 2001) metal matrix composite packaging
technology, we have undertaken projects for the military radar industry, with
current projects in both naval and airborne radar applications. Providing the
required features of light weight, thermal conductivity and hermeticity, these
systems are utilized within the latest Aegis class cruisers, as well as the
F-18 and F-22 aircraft, in preference to the traditional materials, which have
both higher weight and significantly higher cost. Initial market responses
indicate that this new and unique patented technology may provide significant
growth opportunities in the future.

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The Interconnect Division holds a certificate of registration to the ISO 9001
standard. The division has also received a compliance certificate to the AS
9000 standard. The ISO 9001 and the AS 9000 standards are internationally
recognized certifications of quality. AS 9000 is the more demanding aerospace
quality management system standard. The registration process requires a
company to: (1) document and implement a quality management system that meets
or exceeds all of the requirements of the standards, (2) choose an accredited
registrar (in our case, TUV Essen), (3) have a full quality management system
audit conducted by an accredited registrar, and (4) identify and correct any
issues that arise during the audit.

Filter Division

Our U.S. Electronics Groups Filter Division designs and manufactures very
small, specialized multilayer discoidal (round) ceramic capacitors and EMI
(electro-magnetic interference) filters for the electronics industry.
Traditionally specializing in high reliability devices for the military and
aerospace industries, the Filter Division has enjoyed significant recent
success in the telecommunications industry as well. During the past year, the
Filter Division has released to market a series of high current EMI filters
that represent the smallest 25, 50 and 100 amp EMI filters available on the
market today. This is a significant advantage to power applications requiring
high current and high package density. The Filter Division is also producing
components for the heart pacer industry. During the past year, we have made
significant progress in the area of labor reducing automation. Fully automatic
testing stations and computerized numerical control (CNC) turning stations
are in use in our facility today due to this in house development. This
division also produces some very specialized filter components for use by the
Interconnect Division. The division has received a number of military and
industry qualification ratings. The division also holds a certificate of
registration to the ISO 9001 standard and a compliance certificate to the AS
9000 standard.

Bonded Metals Division

Our U.S. Electronics Groups Bonded Metals Division, located in Sequim,
Washington, produces a wide variety of explosively bonded dissimilar metals, as
well as other complex metal forms and conditions. Applications of this
explosively bonded technology range from components for surgical instruments,
such as endoscopes, to sputtering targets utilized for vapor deposition of
exotic metals onto critical surfaces such as semiconductor devices, to mirrors
for medical or spacecraft uses. One major application for these products is in
the marine field, where they provide a solution to the ageless problem of
galvanic

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corrosion. The Bonded Metals Division utilizes explosive metal forming to
produce components for jet aircraft engines, rocket nozzle components for the
Space Shuttle, and complex aircraft chassis components. The Bonded Metals
Division is the only known U.S. source for explosive metal forming at this
time. Shock hardening (a type of work hardening) of metals is another
important product of the Bonded Metals Division. Products include railroad
intersection components that are hardened to extend their service life and
cutting teeth for tunnel boring machines. Future plans for this division
include moving operations to the Wenatchee area to capitalize on the
consolidation of services. We currently plan to proceed with this relocation
process as soon as an acceptable remote blast site is located and secured.

Display Division

Flat Panel Displays.The Display Division designs and manufactures
enhancements for liquid crystal displays (LCDs) intended for use in a wide
variety of hostile environments. Enhancement features include optical filters
to minimize the effect of high ambient light sources, such as direct sunlight,
for improved contrast, EMI filters to protect sensitive electronic instruments
from unwanted electrical interference, and vandal shields to protect the LCD
itself from physical abuse. Other options include heater elements for low
temperature applications (up to -40 Celsius), touch sensors, and high
efficiency backlights. Filter elements and vandal shields consisting of special
technical grade glasses are very carefully bonded directly to the LCD with
characteristically matched and selected epoxies. Applications for these
complex total solution enhancements include such harsh environments as aircraft
cockpit displays, in-flight entertainment systems, air traffic control towers,
all weather outdoor kiosks, emergency vehicles, medical instruments, commercial
trucking, and marine GPS (global positioning satellite) receiver units. The
Display Division has been selected to be a strategic value added partner with
NEC Electronics, Inc., a world leader in display technology. This is a very
prestigious relationship in the LCD community. The divisions operations are
compliant with ISO9002 and AS9000 quality systems.

Relays and Solenoids.Until March 2001, the Display Division designed,
manufactured and marketed electromechanical devices, such as relays, solenoids,
sensors, electronic assemblies, actuators, and time delays used in a wide
variety of satellite, aircraft and military hardware applications. We sold
these operations in March 2001.

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Applied Technology Division

We formed the Applied Technology Division of our U.S. Electronics Group toward
the end of fiscal 2000. The purpose of the division is to apply our
proprietary and patented technologies to provide technical solutions to
difficulties faced by high-tech manufacturers that are challenged by extreme
environmental conditions, primarily in the fuel cell and implantable medical
products industries. The division is focusing on providing solutions in the
areas of diffusion bonding, ceramic/metals joining, exotic metals composites,
interconnect stability, and thermal stress distribution with biocompatible
materials. In the fuel cell area, the division develops and manufactures
processes for the assembly of fuel cells stacks, heat exchangers and fuel
reformers for pem and solid-oxide fuel cells. The division also has applied
our zirconia-metal fusion technology to the manufacture of a solid-oxide
electrolyzer for use in space exploration. Additional research is being
performed on planar fuel cell stacks. The division has also used the
zirconia-metal fusion technology to assist a manufacturer of neurostimulator
devices in overcoming technological barriers. We have produced
titanium-copper-molybdenum composite electronic enclosures and applied for a
patent related to this technology. This technology allows us to produce
lighter, more durable electronics packages with improved thermal conductivity.
The Applied Technology Division is still in its infancy, but our goal is to
expand this division by leveraging and finding new applications for our
existing and new materials science and emerging manufacturing technology
developments.

U.S. Aerospace Group

Machining Division

Our U.S. Aerospace Groups Machining Division operates a precision machine shop
in Wenatchee, Washington that produces precision machined components,
structural parts and assemblies principally from aluminum, titanium, stainless
steel and explosively bonded metals. The Machining Division manufactures
machined and sheet metal parts and assemblies that are used for primary and
secondary flight components within aircraft. The division uses CNC machining
cells to manufacture particularly complex components and assembly housings and
also provides value-added services, such as painting and electroplating. The
division builds its machined products either to customer specifications or
according to an engineering and tooling design developed by the division to
suit a customers particular need. The division is directly linked by computer
to Boeing to allow immediate access to the drawings for Boeing parts. The
division inspects and tests its machined products at various stages of
production using non-

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destructive methods such as X-ray, ultra-sound, manual and computerized
measuring instruments, eddy current, and dyes before the products are passed
for shipment to the customer. The division often supplies its precision
machined parts on a just in time to point of use basis.

The Machining Division has historically supplied nearly all of its products to
the commercial aerospace and defense industries. However, the divisions sales
and profitability are affected significantly by fluctuations in the aerospace
industry. As a result, we believe it is important to reduce the divisions
dependence on aerospace work. During fiscal 2001, the Machining Division began
targeting and receiving orders from other industries that have a need for high
technology precision machining, such as the medical and semiconductor equipment
industries. We are continuing to look for ways to offer our capabilities to
leaders in these new markets.

The divisions operations are DI-9000A Boeing approved. The division has also
been audited and has received its certificate of registration to the ISO 9002
standard and has received its compliance certificate to the AS 9000 standard.
The division has won numerous quality and service awards from customers.

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Engineering & Fabrication Division

Our Engineering & Fabrication Division, located in Mountlake Terrace,
Washington, provides turnkey aerospace design solutions, primarily for the
commercial aerospace and defense markets. Our products include static tooling,
automated manufacturing systems, flight structures, and other related
commodities. Our business niche includes specialized products, such as laser
alignment and positioning systems, industrial transporters, guidance systems,
and automated drilling and fastening systems. In addition, a new business
unit, involving the design and development of aircraft flight structures, has
been added to complement our suite of capabilities. With focus on lean
manufacturing methods and efficient design practice, we believe that this
venture offers high value to our customers and positions us well for strategic
growth. Our engineering staff includes highly experienced mechanical
engineers, electrical engineers, automation engineers, and programmers. We
have extensive CAD design capability (CATIA, UG and Autocad), as well as
advanced virtual simulation competency, using Delmia-Igrip. Our stress
engineers are well versed in the latest Finite Element Analysis software. We
have also developed a staff of trained project managers.

Casting Division

Until June 14, 2001, our U.S. Aerospace Groups Casting Division designed and
manufactured precision cast aluminum parts using permanent mold, sand, and lost
foam casting technologies in Entiat, Washington. In addition, until November
30, 2000, the division designed and manufactured aluminum, bronze, iron, and
steel parts using sand casting technology in Tacoma, Washington. The
divisions cast parts were sold principally to the transportation and aerospace
industries. We closed our Tacoma facility as of November 30, 2000, and we sold
the assets of our Entiat operations on June 14, 2001.

European Aerospace Group

Forming Division

At our Welwyn Garden City and Birmingham facilities in England, our European
Aerospace Groups Forming Division uses hot and cold metal forming technologies
to manufacture titanium and aluminum assemblies and details for the commercial
aerospace and defense industries. The division also performs finishing,
welding, brazing and riveting processes on these parts. Testing of products is
done using non-destructive techniques and in-house X-ray facilities.
Interactive discussions with customers enable the

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division to closely match component design to the most suitable forming
process. The division is approved to the ISO 9002 standard.

Hot and Superplastic Forming of Titanium. Our Welwyn Garden City facility
specializes in hot and superplastic forming of titanium, and we believe it has
the largest independent capability in the European Union for that process.
Unlike most sheet metal materials, titanium and its alloys are extremely
difficult to form in a cold condition. To overcome this, we have developed a
variety of hot forming processes, including hot die forming, hot brake press
forming, superplastic forming, gas blow forming, and hot circular
stretch-forming. These processes maximize weight savings, maintain structural
integrity, minimize cost, and enable the designer to manipulate the developing
alloys into complex shapes. The forming equipment consists of a range of 21
hot forming and superplastic forming presses with tonnage from 150 to 1500
tons. Most forming tools are machined from oxidation resistant nickel chrome
steel castings weighing up to four tons. The division designs the necessary
tooling using its in-house pattern facility. The division also has the
capability to chemically mill three-dimensional components in titanium. We
market the divisions hot-formed titanium products primarily to the commercial
aircraft, helicopter and military aircraft markets. The divisions titanium
products include jet engine Nacelle bulkhead components, airframe and engine
details, and erosion shields for helicopters. The divisions titanium products
are included on the Airbus model A318-321 and A330/340 aircraft, the Boeing
model 737 aircraft, the Dash 8-400 aircraft, the Embraer 135 and 145 aircraft,
and the Dornier 728 aircraft.

Cold Forming of Aluminum Alloys. At our Birmingham facility, our European
Aerospace Groups Forming Division specializes in the stretch and cold forming
of aluminum alloys used for aircraft skin panels, leading edges and acoustic
panel liners. Stretch forming is a process well suited to producing aircraft
skin panels and leading edges. Specialized equipment in the Birmingham facility
has the capability to form sheets up to 8 feet wide and up to 13 feet long,
with stretching loads of up to 700 tons being applied. Most tools are machined
from oxidation-resistant stainless steel castings, and forming dies up to four
tons can be handled. Together with specialist gripper jaws and rotational
platen, this enables the division to stretch-form aluminum alloys into a wide
variety of shapes and sizes. The divisions capabilities extend from design to
completion, including tooling design and manufacture, forming, chemical
milling, trimming, assembly, and quality control. We market the divisions
formed aluminum alloy products primarily to the aerospace market.

Casting Division

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In Rochester, Worcester and Sittingbourne, England, our European Aerospace
Groups Casting Division manufactures aluminum investment castings and aluminum
and magnesium precision sand castings. The division is approved to the ISO
9002 standard.

Precision Investment Casting.At our Worcester, England facility, our
European Aerospace Groups Casting Division manufactures aluminum investment
casting products, including aircraft and defense system components such as
electronic enclosures, aircraft engine outer guide vanes, navigation lights,
wing tip fences, winglet components, duct stators, and heads up display units.
At our Rochester, England facility, the division manufactures aircraft
components such as pressure tight fuel connectors. The versatility, accuracy
and replicability of the investment casting process provides many advantages
over more traditional methods of machining and fabricating metal products from
solid components. The investment casting process uses a metal die manufactured
to required specifications. The divisions precision tooling capabilities
permit production of metal dies that incorporate a variety of details and
features. A die can be reused to produce the required number of parts without
degradation to the original die. The divisions production of the die gives the
customer an incentive to order additional units of the part from the Company.

Sophia Process Investment Casting. The continual pursuit of product
improvement and cost reduction campaigns has led to the installation and
efficient utilization of the licensed Sophia casting process at our Worcester
facility. Our European Aerospace Groups Casting Division is one of only four
licensees of the computerized Sophia Process, which the division uses to
manufacture significantly larger, more complex castings than can be made as a
single part using more traditional investment casting processes. Using this
technology, the division can produce components up to 1.3 cubic meters in one
piece. This process capability, coupled with the development of new and
patented alloys, creates a significant opportunity to provide customers with an
additional and economic choice when selecting between a machined, fabricated,
composite, or cast structure. Parts made with the Sophia Process have
relatively thin wall thickness but have strength and ductility values
comparable to fabricated, forged and machined solid components. The Sophia
Process stringently controls the heat level and process parameters to make
lighter but stronger components that resist fracture and fatigue. The process
reduces machining, fabrication and assembly costs by eliminating both doublers
at material interfaces and the weakness and stress associated with riveted
assemblies. The division uses high strength alloys with good castability to
ensure that the integrity and enhanced properties from one casting are
identical to the next, and to achieve the desired combination of tensile
strength, ductility and elongation. Parts made with the Sophia Process

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are used for the commercial aerospace, defense and transportation industries.
Such applications include civil aircraft, military aircraft, missiles and
underwater weapons applications and applications for the motorsport industry.
Our European Aerospace Group uses the Sophia Process to produce components for
the Airbus A320, A330 and A340 aircraft, such as navigation light housings and
wing tip fences, as a single part, and to produce slat can wing components for
Boeings 737 aircraft.

Sand Casting. At our Sittingbourne, England facility, our European Aerospace
Groups Casting Division manufactures aluminum and magnesium alloy precision
sand castings, including machined and finished parts for the commercial
aerospace, defense and motorsport industries. Sand casting is suitable for
products that are larger than typical investment casting parts. It is also
suitable for products that require heavy wall sections. These products include
aircraft engine heat exchangers and air intakes, aircraft engine fuel pump
housings, aircraft windscreen canopies, and high performance motorsport engine
components and gearboxes. For such customer requirements, sand casting
provides an effective method of producing components with strength and
uniformity. The division has made significant advances in both the process and
materials technology for magnesium and aluminum sand castings. The division
engineers patterns utilizing computer assisted design technologies to achieve
repeatable high casting integrity and enhanced mechanical properties. The
division has complete non-destructive testing and inspection facilities, such
as dye penetrant flaw detection and X-ray testing of components, as required by
the rigorous standards of the aerospace industry.

Machining. Our European Aerospace Group also has a sophisticated machining
center that supports the groups casting and forming operations. The groups
machining facility has the technical capabilities to provide a full range of
machining services for complete production and finishing of components,
including design, pattern production, casting and final machining of a
component. The machining facility also performs specialized machining of small
detail components in steel and titanium.

Proposed Sale. For our fiscal year ended May 31, 2001, we had net sales of
approximately $109 million, with the European Aerospace Group contributing
approximately $52 million in net sales. On October 31, 2000, we announced our
intention to sell our European Aerospace Group in order to reduce our
outstanding debt. As of May 31, 2001, we had approximately $64 million in
principal amount of 111⁄4% senior subordinated notes and approximately $13.7
million in senior secured debt outstanding. Although we are actively pursuing
the sale of the European Aerospace Group, we have not yet reached an agreement
with any prospective purchaser, and we do not know whether we will be
successful in selling that group. If we are successful, we do not know the
amount of net proceeds that would be available to

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reduce our outstanding debt. We are required to pay our senior secured lenders
at least $7.5 million upon the sale of our European Aerospace Group. We have
received several bona-fide preliminary and final offers to purchase the group.
If these offers approximate the final negotiated sales price for the group and
we obtain required consents to the sale, the offers indicate that we have
incurred an impairment loss related to goodwill and equipment of approximately
$37 million. Consequently, we recorded an impairment loss related to our
European Aerospace Group goodwill of $25 million for the quarter ended February
28, 2001, and an additional impairment loss of $12 million related to goodwill
and equipment for the quarter ended May 31, 2001.

Sales and Marketing; Distribution

We market our products using a combination of direct sales and outside sales
representatives. In addition, we maintain internal customer service staff and
engineering capabilities to provide technical support to customers. In the
2001 fiscal year, we transferred responsibilities for sales and marketing to
each of our operating divisions. We also reviewed our outside sales
representative networks and made changes in order to take advantage of
synergies and conduct sales efforts more efficiently and effectively. Our U.S.
Electronics Group markets its products in the United States, Europe and Asia
through a network of manufacturer representatives and resellers, generally
established on a geographic basis. Our U.S. Aerospace Group uses both an
inside sales force and sales representatives focused on particular regions or
customers. This groups marketing efforts have previously focused on the
Western United States. Over the past two years, the group has expanded its
marketing efforts beyond its traditional markets, into other regions of the
United States and internationally. Our European Aerospace Group utilizes its
own employee sales force for sales of its products to customers in the United
Kingdom. This internal sales force is organized into two groups, one group
responsible for sales of precision castings and one group responsible for metal
formed products. The European Aerospace Group also uses independent agents to
market its products to customers in countries other than the United Kingdom,
including the United States. We believe that we have the opportunity to
leverage customer relationships to supply more complete systems by providing
products that combine the technologies and manufacturing abilities of our
different groups. Consequently, we emphasize cross-selling and coordination of
sales and marketing efforts between and among our operating groups.

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Customers

Our top ten customers in terms of revenues during fiscal 2001 were Boeing, BAE
Systems, Aermacchi, Northern Telecom, Rolls-Royce, GKN Westland, PACCAR,
Raytheon, Goodrich, and Vought. Only the top two customers individually
accounted for 5% or more of our revenues, with Boeing at approximately 12.5%,
BAE Systems at approximately 8.8%. Together, our top ten customers accounted
for approximately 50% of our sales during fiscal 2001. In fiscal 2001, we
produced machined and cast metal aircraft components for Boeing and for BAE
Systems. We do not have long-term contracts with most of our major customers,
and our long-term contracts generally permit the customer to cancel their
orders. We depend on our customers continuing to place orders for our
products. Because of the relatively small number of customers for most of our
products, our largest customers can influence product pricing and other terms
of trade. If we were to lose any of our largest customers, or if they reduced
or canceled orders, our business and financial performance could be harmed.

Our U.S. Aerospace and European Aerospace Groups currently serve substantially
different customer bases in similar markets. For example, the U.S. Aerospace
Group supplies components and parts to Boeing for each of Boeings 737, 747,
757, 767 and 777 commercial aircraft construction programs. The European
Aerospace Group supplies components and parts for each of Airbus A300/310,
A320 family, and A330/340 commercial aircraft construction programs. The
Companys sales have historically been divided approximately equally between
the United States and Europe. One of our goals has been to take advantage of
our position in both the United States and European markets to provide access
for our U.S. groups to customers in Europe, and access for our European group
to customers in the U.S. Consequently, we have emphasized cross-marketing
efforts between our European and U.S. groups. One of the outcomes of these
efforts has been the success of our European Aerospace Group in obtaining work
in the U.K. from Boeing.

Backlog

We sell the majority of our products through individual purchase orders. Many
of our customers would have the right to terminate orders by paying the cost of
work in process plus a related profit factor. Historically, we have not
experienced a large number of significant order cancellations. However, from
time to time, customers cancel orders as a result of a program being cancelled
or for other reasons. As of May 31, 2001, we had purchase orders and
contractual arrangements, excluding those at our U.S. Aerospace Groups Casting
Division, evidencing anticipated future deliveries, which we treat as backlog,

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through fiscal year 2003 of approximately $65 million. We expect to deliver
approximately $55 million of this backlog in fiscal year 2002. As of May 31,
2000, we had backlog through fiscal year 2001 of approximately $80 million,
which included backlog of the U.S. Aerospace Groups Casting Division. We may
not be able to complete all of that backlog and book it as net sales, if we
experience cancellations of pending contracts or terminations or reductions of
contracts in progress.

Competition

We have substantial competition in many of the markets that we serve. In the
electronics markets, our competitors include Amphenol Corporation, Hermetic
Seal Corporation, AVX Corporation, and Spectrum Control, Inc. In the hot and
superplastic forming market, our primary competitor is Jet Die Barnes. Our
competitors in the European sand casting market include SFU, Stones, Haleys,
Hitchcock, and Teledyne. In the investment casting market, our competitors
include the Cercast Group, Tital and Tritech. In the precision machining
market, we compete with a number of regional machine shops. Many of these
competitors have greater financial resources, broader experience, better name
recognition and more substantial marketing operations than we have, and they
represent substantial long-term competition for us.

Our competitors can make components and products similar to those we make using
a number of different manufacturing processes. We believe that our
manufacturing processes, proprietary technologies and experience provide
significant advantages to our customers. These advantages include high
quality, more complete solutions, competitive prices, and physical properties
that meet stringent demands. However, competitors can use alternative forms of
manufacturing to produce many of the components and products that we make.
These competing products could be of the same or better quality and price as
those we produce. We expect our competitors to continue making new
developments, and they could develop products that customers view as more
effective or more economical than our products. In addition, our competitors
may introduce automation processes and robotics systems that could lower their
costs of production substantially. If we are not able to compete successfully
against current and future competitors, and respond appropriately to changes in
industry standards, our business could be seriously harmed.

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Raw Materials

Our European Aerospace Group obtains approximately 65% of its titanium from one
supplier and is subject to a lead time of approximately 26 to 33 weeks in
ordering and obtaining titanium. Recently, this lead time was as long as 65
weeks. While the European Aerospace Group generally has managed the ordering
process to obtain titanium when needed, a labor strike at the supplier
negatively affected the groups ability to obtain timely deliveries of titanium
during fiscal 1999 and into the 2000 fiscal year. Although the shortage of
titanium did not have a material adverse effect on our European Aerospace
Groups business or on our overall financial condition, we lost some business
due to customers dual sourcing contracts, and some customer orders that were
expected to be delivered in fiscal 1999 were delayed into fiscal 2000 and 2001.
The effect of the strike emphasizes the fact that a failure to obtain titanium
or other raw materials when we need them, or significant cost increases imposed
by suppliers of raw materials such as titanium or aluminum, could damage our
business and financial performance. We generally have readily available
sources of all raw materials and supplies we need to manufacture our products
and, where possible, we maintain alternate sources of supply. However, we do
not have fixed price contracts or arrangements for all of the raw materials and
other supplies we purchase. We have experienced in the past shortages of, or
price increases for, raw materials and supplies, and shortages or price
increases may occur again in the future. Future shortages or price
fluctuations could have a material adverse effect on our ability to manufacture
and sell our products in a timely and cost-effective manner.

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Proprietary Rights

Significant aspects of our business depend on proprietary processes, know-how
and other technology that are not subject to patent protection. We rely on a
combination of trade secret, copyright and trademark laws, confidentiality
procedures, and other intellectual property protection to protect our
proprietary technology. However, our competitors may still develop or utilize
technology that is the same as or similar to our proprietary technology.

We have 28 U.S. patents, four U.S. patent applications pending (including one
allowed application), one PCT International patent applications pending, three
patent applications pending in non-U.S. jurisdictions, and one European patent
enforceable in the U.K. We can provide no assurance that any of the patent
applications will result in issued patents, that existing patents or any future
patents will give us any competitive advantages for our products or technology,
or that, if challenged, these patents will be held valid and enforceable. Most
of our issued patents expire at various times over the next 15 years, with nine
patents expiring over the next four years. These nine patents, as well as
several other patents that recently expired, relate to products manufactured by
our U.S. Electronics Group and constituted less than 1% of our consolidated
revenue in fiscal 2001. Although we believe that the manufacturing processes
of much of our patented technology are sufficiently complex that competing
products made with the same technology are unlikely, our competitors may be
able to design competing products using the same or similar technology after
these patents have expired.

Despite the precautions we have taken, unauthorized parties may attempt to copy
aspects of our products or obtain and use information that we regard as
proprietary. Existing intellectual property laws give only limited protection
with respect to such actions, and policing violations of these laws is
difficult. The laws of other countries in which our products are or may be
distributed do not protect products and intellectual property rights to the
same extent as do the laws of the United States. We could be required to enter
into costly litigation to enforce our intellectual property rights or to defend
infringement claims by others. Infringement claims could require us to license
the intellectual property rights of third parties, but licenses may not be
available on reasonable terms, or at all.

Environmental Matters

Our facilities are subject to regulations concerning solid waste disposal,
hazardous materials generation, storage, use and disposal, air emissions, waste
water discharge, employee health and other environmental

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matters. A number of the metals, chemicals and other materials used in and
resulting from our manufacturing processes are classified as hazardous
substances and hazardous wastes. If we do not meet permitting and other
requirements of applicable environmental laws, we could be liable for damages
and for the costs of remedial actions. We could also be subject to fines or
other penalties, including revocation of permits needed to conduct our
business. Any permit revocation could require us to cease or limit production
at one or more of our facilities, which could damage our business and financial
performance. We have an ongoing program of monitoring and addressing
environmental matters, and from time to time in the ordinary course of business
we are required to address minor issues of noncompliance at our operating
sites. From time to time, we identify operations or processes that lack
required permits or otherwise are not in full compliance with applicable
environmental laws. Although we believe these items have not been material to
date, we maintain an environmental compliance team, and our policy is to take
steps promptly to remedy any noncompliance.

We have a policy of obtaining environmental assessment reports in connection
with the acquisition of properties at which we believe historical operations
could have caused adverse environmental conditions. We are not aware of any
historical contamination on our properties or involving neighboring activities,
except that until August 2001, we leased property in Tacoma, Washington that is
located within a superfund site that has been the subject of regulatory action
for several years. We have not been named as a potentially liable party for
contamination associated with this superfund site, and we have no reason to
believe that we will be so named.

Environmental laws could become more stringent over time, imposing greater
compliance costs and increasing risks and penalties associated with any
violations. As a generator of hazardous materials, we are subject to financial
exposure with regard to our properties even if we fully comply with these laws.
In addition, we utilize facilities that are located in industrial areas and
have lengthy operating histories. As a consequence, it is possible that
historical or neighboring activities have affected properties we currently own,
and that, as a result, additional environmental issues may arise in the future,
the precise nature of which we cannot now predict. Any present or future
noncompliance with environmental laws or future discovery of contamination
could have a material adverse effect on our results of operations or financial
condition.

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Government Regulation

We manufacture some of our products under contracts with the United States
government. We manufacture other products under contracts with private third
parties who utilize our products to satisfy United States government contracts
to which they are a party. Federal acquisition regulations and other federal
regulations govern these relationships. Some of these regulations relate
specifically to the seller-purchaser relationship with the government, such as
the bidding and pricing rules. Under regulations of this type, we must observe
pricing restrictions, produce and maintain detailed accounting data, and meet
various other requirements. Other regulations relate to the conduct of our
business generally, such as regulations and standards established by the
Occupational Safety and Health Act or similar state laws and relating to
employee health and safety. In particular, regulations governing these
contracts require that we comply with federal laws and regulations, in general,
or face civil liability, cancellation or suspension of existing contracts, or
ineligibility for future contracts or subcontracts funded in whole or in part
with federal funds. In addition, loss of governmental certification (that we
are eligible for government contracted work) could cause some of our customers,
including customers in the defense industry, to reduce or curtail their
purchases from us, which could harm our business.

We have not identified any noncompliance with federal regulations affecting
these government contracts that would be material. We have identified
conditions that require attention or action. For example, as part of our
environmental compliance team efforts discussed in the previous section, we
determined that our written policies and training programs relating to employee
health and safety matters at several of our facilities required updating and
revision to ensure consistency among our United States subsidiaries and
compliance with applicable regulations. We are currently updating and
implementing these written policies and training programs. These actions are
being taken to ensure compliance with applicable laws, and not in response to
any violations identified by regulatory agencies.

Employees

As of May 31, 2001, the Company had approximately 1,041 employees, of whom
approximately 926 were engaged in manufacturing functions, 32 in sales and
marketing functions, 75 in administrative functions, and 8 in executive
functions. Of the employees, approximately 243 were employed by the U.S.
Aerospace Group, 532 by the European Aerospace Group, 229 by the U.S.
Electronics Group, and 37 by the corporate group. As of May 31, 2001, none of
our workforce in the United States is unionized. Certain of the European
Aerospace Groups manufacturing and engineering employees are represented by

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labor unions, although all negotiations are carried out through employee work
committees. We have not experienced any work stoppages, and we believe that
our relationships with our employees are good.

Risk Factors

We have reported net losses for recent periods, and we may continue to incur
net losses, which could jeopardize our operations and decrease our stock value.

We reported a net loss of $12,869,000 for our fiscal year ended May 31, 1999, a
net loss of $13,049,000 for our fiscal year ended May 31, 2000, and a net loss
of $75,720,000, including impairment losses, for our fiscal year ended May 31,
2001. We believe that we will continue to incur net losses into fiscal 2002
and that such losses may be substantial. For our quarters ended February 28,
2001 and May 31, 2001, we recorded impairment losses related to our European
Aerospace Group goodwill and equipment and impairment losses related to other
intangibles and property. We also wrote off substantially all our deferred
income tax assets at February 28, 2001. We can offer no assurance that we will
achieve profitable operations or that any profitable operations will be
sustained. Our ability to achieve a profitable level of operations in the
future will depend on many factors, including our ability to reduce the level
of our debt, to assimilate our recent and potential future acquisitions, to
finance production and to realize acceptable gross profits on the products we
sell. Future profitability will also depend on our ability to develop new
products, the degree of market acceptance of our existing and new products, and
the level of competition in the markets in which we operate. If we continue to
incur net losses, our cash flow position could be further damaged, our
operations could be jeopardized, and our stock price could decrease.

Our inability to generate cash if and when needed could severely impact our
ability to continue as a going concern.

Our consolidated financial statements have been prepared assuming that we will
continue as a going concern. However, our independent auditors in their most
recent report stated that Pacific Aerospace has suffered recurring losses from
operations which raise substantial doubt about our ability to continue as a
going concern. Our consolidated financial statements do not include any
adjustments that might result from the outcome of that uncertainty. If we are
not sufficiently successful in generating cash from operating activities, we
may need to sell additional common stock or other securities, or we may need to
sell assets outside the ordinary course of business. If we need to dispose of
assets outside of the ordinary

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course of business to generate cash, we may not be able to realize the carrying
values of those assets upon liquidation. If we are unable to generate the
necessary cash, we could be unable to continue operations.

We need to raise additional cash or we will not be able to fund our operations
or to make payments on our loans when they are due.

Our existing cash and credit facilities will not be sufficient to meet our
obligations as they become due. Consequently, we will need to obtain
additional cash. Our actual cash needs will depend primarily on the amount of
cash generated from or used by operations and financing activities. We cannot
predict accurately the amount or timing of our future cash needs. We did not
make a semi-annual interest payment of approximately $3.6 million on our
111⁄4% senior subordinated notes that was due on August 1, 2001, and we will
not be able to make that payment before expiration of the 30-day grace period
that expires on August 31, 2001. As a result, we expect an event of default to
occur under those notes. Such an event of default would also cause events of
default under certain of our other debt instruments, including our 18% senior
secured loan. In addition, we may currently be in default under our 18% senior
secured loan for failure to make the August 1, 2001 interest payment on our
111⁄4% senior subordinated notes. To date, our secured lenders have not
exercised any remedies with respect to any possible default, but we can provide
no assurance that they would not exercise their remedies as a result of any
default. Possible remedies include acceleration of the due dates of our debt.
We did not make our February 1, 2001 interest payment on our 111⁄4% senior
subordinated notes until March 2, 2001, which was one day before expiration of
the 30-day grace period. We made the interest payment from the proceeds of an
approximately $13.8 million senior secured loan that closed on March 1, 2001.
The March 1, 2001 loan bears interest at 18% per annum, payable quarterly. To
date, we have made interest payments on the 18% senior secured loan on time.
We have the right to defer and accrue a portion of the quarterly interest
payments, up to 11⁄4% per quarter, for up to a year at the time of any
interest payment. We exercised this right for our interest payments made in
March and June 2001. We do not currently have sufficient cash to make the
September 30, 2001 interest payment on our 18% senior secured loan, and we will
need to raise additional cash to make that payment. We also need to raise
additional cash to make other future payments on our debt and to fund our
operations. If we are unable to obtain sufficient cash when needed to fund our
operations, to make our loan payments, and to pay our other obligations when
due, we may be forced to seek protection from creditors under the bankruptcy
laws. We are currently in negotiations with the holders of approximately 98%
of the 111⁄4% senior subordinated notes regarding a possible restructuring of
the Companys debt and equity structure. We do not currently know whether we
will be

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successful in negotiating a restructuring or whether such a restructuring would
occur inside or outside of bankruptcy.

If we are not able to pay our debt, our lenders could accelerate the principal
owing on our debt, which we do not have the funds to pay.

If we do not generate sufficient cash flow to make our debt payments, we may be
forced to reduce or delay capital expenditures or to dispose of material assets
or operations, potentially at a substantial loss. If we are unable to pay our
debt, we may need to restructure or refinance our debt at potentially higher
rates of interest. Alternatively or in addition, we may need to seek
additional equity capital or exchange debt for substantial amounts of equity,
which would significantly dilute the value of the shares held by our existing
shareholders. We may not be able to choose any of these alternatives or
complete them on satisfactory terms. If we fail to make our debt payments or
default under other terms of our debt, our lenders will be able to declare all
amounts we owe to be immediately due and payable. If our lenders accelerate
our debt, we will not have funds available to us to pay off the debt. If we
cannot repay our secured debt or if we default under other terms of our debt,
our secured lenders could proceed against any collateral securing that debt.
We have been notified by one of our secured lenders that we are not in
compliance with certain covenants of loans that are secured by a first deed of
trust on our headquarters building and other assets. The lender has, to date,
agreed not to exercise its remedies, but we can offer no assurance that the
lender will continue to forebear until we can regain compliance with those
covenants, if at all. The collateral for our secured debt consists of
substantially all of our assets, including receivables, inventories, real
property, personal property, intangible assets, and the stock of all of our
operating subsidiaries. If we are unable to pay our debt or other obligations,
including paying the August 1, 2001 interest payment on our 111⁄4% senior
subordinated notes within the grace period ending on August 31, 2001, we may be
forced to seek protection from creditors under the bankruptcy laws. We will
not be able to make this interest payment before the grace period expires, and
we expect an event of default to occur under those notes. Such an event of
default would also cause events of default under certain of our other debt
instruments, including our 18% senior secured loan. In addition, we may
currently be in default under our 18% senior secured loan for failure to make
the August 1, 2001 interest payment on our 111⁄4% senior subordinated notes.
To date, our secured lenders have not exercised any remedies with respect to
any possible default, but we can provide no assurance that they would not
exercise their remedies as a result of default. We are currently in
negotiations with the holders of approximately 98% of the 111⁄4% senior
subordinated notes regarding a possible restructuring of the Companys debt and
equity structure.

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We do not currently know whether we will be successful in negotiating a
restructuring or whether such a restructuring would occur inside or outside of
bankruptcy.

We do not have revolving lines of credit that would help us fund our
operations.

Our U.S. operating line of credit expired on September 5, 2000, and was
extended through March 5, 2001. Due to our continued losses, our U.S. senior
lender decided not to renew our revolving line of credit and we repaid that
line of credit in full on March 2, 2001, out of the proceeds of our 18% senior
secured loan. Our line of credit in the U.K. expired in November 2000. That
line of credit was subsequently extended, and we repaid it in full on March 7,
2001. We do not plan to request renewal of that line. Our senior secured loan
is a term loan rather than a revolving loan. As a result, if we make payments
of principal before the loans maturity, additional loan proceeds will not
become available, and the loan will not provide an additional source of cash to
fund our operations or to meet our obligations as they become due.

We have significant debt that adversely affects our financial condition.

At May 31, 2001, our total long-term liabilities were approximately $84.0
million, or approximately 104% of our total assets. At May 31, 2001, we had a
total stockholders deficit of $25.1 million. Unless we increase our cash flow
from operations, our total stockholders deficit, coupled with continued
losses, indicates that we will have difficulty satisfying our debt obligations
in the future. We incurred substantial debt and payment obligations to finance
the acquisition of our European Aerospace Group, which was formed when we
acquired Aeromet International PLC in 1998. This debt, which consists of our
senior subordinated notes, currently constitutes $63.7 million of our long-term
debt and bears interest at 11.25% per year. In addition, at May 31, 2001, our
balance sheet includes approximately $5.6 million of deferred financing costs,
which are being charged off to interest expense over the period that the
related debt is expected to be outstanding. We have announced our intention to
sell our European Aerospace Group in order to reduce our outstanding debt. We
do not yet know whether we can sell Aeromet or, if it is sold, the amount of
net proceeds that will be available to reduce our debt. In addition to our
outstanding 111⁄4% senior subordinated notes, we have approximately $13.7
million in senior secured debt that bears interest at 18% per annum. Our debt
could make us unable to obtain additional financing in the future. It could
also divert a significant portion of our cash flow to principal and interest
payments and away from operations and necessary capital expenditures. Our debt
has significantly increased our interest expense and net loss, and we expect
the interest expense to continue to increase our net loss for the foreseeable

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future. Our debt also puts us at a competitive disadvantage in relation to
competitors with less debt and limits our flexibility to adjust to downturns in
our business or market conditions.

We must comply with a number of significant debt covenants that limit our
flexibility.

The agreements that govern our debt, particularly the indenture that governs
our 111⁄4% senior subordinated notes and the loan agreement that relates to
our 18% senior secured notes restrict a number of our activities. Unless we
obtain consent from our lenders, we cannot dispose of or create liens on assets
or create additional indebtedness. We are not permitted to pay dividends to
shareholders or repurchase stock. Our debt covenants restrict our ability to
acquire new businesses or make investments or loans to others. We are also
subject to covenants that limit our ability to make capital expenditures,
change the business we conduct, or engage in transactions with related parties.
In addition, if there is a change of control of our company, we may be
required to repay our debt early. If we breach any of these covenants, the
lenders may be able to declare all amounts we owe to be immediately due and
payable. If this were to occur, we would likely not have funds available to us
to pay off the debt.

We may not be successful if we fail to manage our historically rapid growth.

We have experienced rapid growth from both operations and acquisitions. This
growth has placed and will continue to place significant demands on our
managerial, administrative, financial and operational resources. For example,
both our total number of employees and the number of our operating sites nearly
doubled as a result of acquiring our European Aerospace Group, which was formed
when we acquired Aeromet in July 1998. The size of our European Aerospace
Group has caused and will continue to cause it to have a significant impact on
our future financial results. As we continue to assimilate our post
acquisitions, and as our business operations become more complex, we will need
to be increasingly diligent in our business decisions. To manage our growth
effectively, we must continue to improve our operational, accounting, financial
and other management processes and systems. We must also continue to attract
and retain highly skilled management and technical personnel. If we do not
effectively manage these aspects of our growth, we may not succeed.

Our past and possible future acquisition strategy could negatively impact our
performance.

We have historically pursued an aggressive acquisition strategy. We are
currently focusing substantially all of our attention on existing operations.
However, in the future we may evaluate and pursue potential

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strategic acquisitions. We have incurred substantial losses as a result of
some of our acquisitions and investments, including approximately $46.7 million
in fiscal 2001, approximately $4.6 million in fiscal 2000, and approximately
$12.7 million in fiscal 1999. We need to better manage our acquisition
strategy. This includes accurately assessing the value, strengths and
weaknesses of acquisition candidates, as well as successfully implementing
necessary changes at newly acquired subsidiaries. In the past, our aggressive
acquisition strategy has diverted management attention from our operations,
increased borrowings, disrupted product development cycles and diluted earnings
per share. If we do not successfully manage future acquisitions, if any, our
financial performance could continue to be negatively impacted by acquisitions.

We have experienced asset impairment, and we may experience additional asset
impairment in the future.

We review long-lived assets and intangibles for potential impairment of value
whenever events or changes in circumstances indicate that the carrying amount
of those assets may not be recoverable. An impairment is determined by
totaling the estimated net future cash flows derived from the asset and
comparing that total to the book value of the asset. When the total of the net
future cash flows is lower than the book value, an impairment exists. The
amount of the impairment is the difference between the present value of the net
future cash flows and the book value of the asset. Based upon estimated net
realizable value of certain assets, we recognized the following impairment
charges for the year ended May 31, 2001:



| |  | Within the European Aerospace Group we recognized a $37.0 million
charge to reduce the $33.0 million carrying value of goodwill and
the $13.6 million carrying value of manufacturing equipment
associated with our European Aerospace Group, to the estimated net
realizable value of the manufacturing equipment, $9.6 million.                                                                                                                                                                                                                                                                                     
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | Within the U.S. Aerospace Group, we recognized an impairment
charge of $5.5 million to reduce the $6.4 million carrying value
of property and manufacturing equipment used at the Entiat,
Washington location of the groups Casting Division to net
realizable value, approximately $0.9 million. We also recognized
a $0.8 million impairment charge to reduce the carrying value of
the manufacturing equipment located at the Casting Divisions
Tacoma casting location to zero, the estimated net realizable
value. In addition, we recognized charges of $3.3 million to
reduce the $3.5 million carrying value

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| |  | of goodwill and manufacturing equipment used in the groups
Engineering & Fabrication Division to estimated net realizable
value, $0.2 million.                                                                                                                                                                                                                                                     
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | Within the U.S. Electronics Group, we recognized a charge of $0.6
million to reduce the $1.0 million of manufacturing equipment used
to produce low power relays to net realizable value, $0.4 million.
We also recognized a $320,000 charge to reduce the carrying
value of an unused manufacturing facility of $980,000 to net
realizable value, $660,000.                                        
|
| |  | We also completed an analysis of the estimated future cash flows
of certain other long-lived assets, including goodwill and
patents. Based upon this analysis, we recognized additional
impairment charges of $1.0 million within the U.S. Electronics
Group to reduce goodwill to net realizable value, and $0.3 million
within the U.S. Aerospace Group to reduce patents to net
realizable value.

The Company will continue to analyze long-lived and identifiable intangible
assets in the future to determine possible impairment charges. Future
evaluations could result in additional impairment charges, and those charges
could be material. At May 31, 2001, the carrying value of long-lived assets,
including property, plant and equipment, goodwill, and patents, was $27.8
million.

Our European Aerospace Group has had and will continue to have a significant
impact on our business.

The acquisition of our European Aerospace Group in 1998 doubled the size of our
company. Approximately 43% of our assets and approximately 47% of our revenues
are associated with our operations in the United Kingdom. It is more difficult
for us to manage a business in the United Kingdom than our other businesses,
which are located in Washington State. The reasons for the increased
difficulty include differences in time, distance, business practices and
cultural variations. Our ownership of a business in Europe also subjects us to
regulatory, tax, and trade restrictions that we did not previously face. If we
retain ownership of our European Aerospace Group and do not effectively manage
that group, we may not be successful.

Changes in foreign currency exchange rates could negatively affect our
financial position.

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Because of our European Aerospace Group, we may decide to engage in hedging
transactions to protect against losses caused by changes in the exchange rate
between the U.S. dollar and the British pound sterling. However, we have not
engaged in hedging transactions to date. Since approximately 47% of our
transactions are conducted in foreign currency, the exchange rate risk could be
material. For the fiscal year ended May 31, 2001, we incurred a foreign
currency translation loss of approximately $2.9 million. Even if we were to
engage in hedging transactions, they may not completely offset any such losses.
Our European Aerospace Group has a few contracts that are in European
currencies other than British pounds sterling, or in U.S. dollars.

Future issuances or resales of a significant number of shares of our common
stock could negatively affect the market price of our stock.

Sales of a significant number of shares of common stock in the public market or
the prospect of such sales could adversely affect the market price of our
common stock. As of August 10, 2001, we have reserved 2,295,000 common shares
for issuance under our publicly traded warrants with an exercise price of
$4.6875 per share, 3,605,448 common shares for issuance under options
outstanding under our two stock incentive plans with exercise prices ranging
from $0.22 to $4.6875 per share, 129,137 common shares for issuance under
options outstanding under our independent director stock plan with exercise
prices ranging from $0.9219 to $1.90 per share, and 5,578,202 common shares for
issuance under other warrants with exercise prices ranging from $0.001 to $9.50
per share. We also have an employee stock purchase plan permitting employees
to purchase shares of common stock using payroll deductions, subject to certain
limits. Shares issued upon exercise of our outstanding warrants or options or
pursuant to the employee stock purchase plan would be available for resale in
the public markets, subject in some cases to volume and other limitations. Any
future issuance of a significant number of common shares, or any future resales
by the holders of a significant number of common shares, or the prospect of
such issuances or resales, could negatively affect the market price of our
common stock.

We operate in industries that are subject to cyclical downturns that could
adversely affect our revenues.

We operate in historically cyclical industries. The aerospace, defense and
transportation industries are sensitive to general economic conditions, and
past recessions have adversely affected these industries. In past years, a
number of factors have adversely affected the aerospace industry, including
increased fuel and labor costs, and intense price competition. Recently, the
commercial aircraft industry experienced a

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downturn in the rate of its growth due to changing economic conditions and as a
result of the ongoing financial crisis in Asia, which caused reductions in
production rates for some commercial airline programs. The major aircraft
manufacturers responded, in part, by significantly decreasing their inventory
levels. Although very recently the aerospace industry seems to have been
experiencing better results, we have not yet benefited from the improvements.
Additional cancellations or delays in aircraft orders from customers of Boeing
or Airbus could reduce demand for our products and could have a material
adverse effect on our business and financial performance. Cyclical factors and
general economic conditions could lead to a downturn in demand for our core
products and decrease our revenues.

We may fail to retain our key management and technical personnel, which could
negatively affect our business.

We believe that our ability to successfully implement our business strategy and
to operate profitably depends significantly on the continued employment of our
senior management team, led by our president, Donald A. Wright, and our ability
to retain and hire engineers and technical personnel with experience in the
aerospace and electronics industries. We have key man life insurance policies
on the life of Mr. Wright totaling $8 million. We also have an employment
agreement with Mr. Wright and several other senior managers. However, our
business and financial results could be materially adversely affected if Mr.
Wright, other members of the senior management team, or significant engineers
or technical personnel become unable or unwilling to continue in their present
employment. Our growth and future success will depend in large part on our
ability to retain and attract additional board members, senior managers and
highly skilled technical personnel with experience in the aerospace and
electronics industries. Because our U.S. operations are not located in a large
metropolitan area, we may face more difficulty in acquiring and retaining key
management and technical personnel than our competitors in major cities.
Competition for such individuals is intense, and we may not be successful in
attracting and retaining them, which could interfere with our ability to manage
our business profitably.

If we do not adapt to technological change and develop new products, we could
lose customers and our revenues could decline.

The market for our products in both the aerospace and the electronics
industries is characterized by evolving technology and industry standards,
changes in customer needs, adaptation of products to customer needs, and new
product introductions. Other companies that manufacture components for the
aerospace and electronics industries from time to time may announce new
products, enhancements, or

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technologies that have the potential to replace or render our existing products
obsolete. Our success will depend on our ability to enhance our current
products and develop new products to meet changing customer needs, and achieve
market acceptance of those products. We view our proprietary technology and
our level of technological development as our primary strengths. Because most
of our research and development efforts are funded by customers, it will be
essential for us to continue to respond effectively to our customers needs.
We will also need to anticipate or respond to evolving industry standards and
other technological changes on a timely and cost-effective basis. If we do not
adequately respond to these changes, we could lose customers and our revenues
could decline.

We could be subject to product liability claims and lawsuits for harm caused by
our products.

Many of our customers use our products for applications such as aircraft,
satellites, heavy trucks and other uses in which failure could have serious
consequences. We maintain product liability insurance with a maximum coverage
of $2 million. However, this insurance may not be sufficient to cover any
claims that may arise. A successful product liability claim in excess of our
insurance coverage could have a material adverse effect on our business and
financial performance.

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ITEM 2. DESCRIPTION OF PROPERTY

Our principal executive and administrative offices are located at 430 Olds
Station Road, Wenatchee, Washington. Our headquarters building provides
approximately 18,000 square feet of office space, and is owned by the Company.
We also lease approximately 1,800 square feet of office space in Edmonds,
Washington, for a base rent of $3,260 per month, subject to annual adjustment,
under a lease that expires in October 2001 and will not be renewed. Until July
2001, we also leased approximately 873 square feet of office space in Wichita,
Kansas, for a base rent of $928 per month.

The location, use and approximate size of the principal owned and leased
properties where we conduct our operations as of August 10, 2001 are as
follows:

|                   |  |                       |                               |      |        |        |  |         |       |            |         |         |  |       |      |          |  |      |     |     |  |  |  |  |  | 
|------------------ |  | --------------------- | ----------------------------- | ---- | ------ | ------ |  | ------- | ----- | ---------- | ------- | ------- |  | ----- | ---- | -------- |  | ---- | --- | --- |  |  |  |  |  | 
|                   |  |                       |                               |      |        |        |  | Approx. |       | Own/       |         | Annual  |  | Lease |      | Mortgage
|Group              |  | Location              |                               | Area |        | Lease  |  | Rent    |       | Expiration |         | Balance
|                   |  |                       |                               |      |        |        |  |         |       |            |         |        
|U.S. Electronics   |  | Wenatchee, Washington |                               |      | 54,000 |        |  | Lease   |       | $          | 294,000 |         |  |       | 2007 |          |  |      | N/A |    
|                   |  | Sequim, Washington    |                               |      | 18,355 |        |  | Own     |       |            | N/A     |         |  |       | N/A  |          |  | None
|                   |  | Vancouver, Washington |                               |      | 50,000 |        |  | Lease   |       | $          | 336,000 |         |  |       | 2009 |          |  |      | N/A |    
|U.S. Aerospace     |  | Wenatchee, Washington |                               |      | 42,000 |        |  | Lease   |       | $          | 213,000 |         |  |       | 2007 |          |  |      | N/A |    
|                   |  |                       | Mountlake
Terrace, Washington |      |        | 10,000 |  |         | Lease |            | $       | 217,000 |  |       |      | 2005     |  |      |     | N/A | 
|                   |  | Wenatchee, Washington |                               |      | 41,400 |        |  | Lease   |       | $          | 166,000 |         |  |       | 2001 |          |  |      | N/A |    
|                   |  | Wenatchee, Washington |                               |      | 15,000 |        |  | Lease   |       | $          | 82,000  |         |  |       | 2002 |          |  |      | N/A |    
|European Aerospace |  | Sittingbourne         |                               |      | 54,500 |        |  | Lease   |       | £          | 258,000 |         |  |       | 2018 |          |  |      | N/A |    
|                   |  |                       | Sittingbourne                 |      |        | 7,500  |  |         | Lease |            | £       | 50,000  |  |       |      | 2005     |  |      |     | N/A | 
|                   |  | Rochester             |                               |      | 37,345 |        |  | Lease   |       | £          | 180,000 |         |  |       | 2001 |          |  |      | N/A |    
|                   |  | Worcester             |                               |      | 40,000 |        |  | Lease   |       | £          | 160,000 |         |  |       | 2018 |          |  |      | N/A |    
|                   |  | Worcester             |                               |      | 15,000 |        |  | Lease   |       | £          | 50,000  |         |  |       | 2003 |          |  |      | N/A |    
|                   |  | Welwyn Garden City    |                               |      | 55,000 |        |  | Lease   |       | £          | 333,000 |         |  |       | 2018 |          |  |      | N/A |    
|                   |  | Birmingham            |                               |      | 59,000 |        |  | Lease   |       | £          | 236,000 |         |  |       | 2018 |          |  |      | N/A |    

During the 2001 fiscal year, we also leased properties formerly used by
operations that have been shut down. These include:

|                 |  |            |  |        |        |              |  |            |  |          |  |   |        |  |  |       |      |  |  |                   |  |  |  | 
|---------------- |  | ---------- |  | ------ | ------ | ------------ |  | ---------- |  | -------- |  | - | ------ |  |  | ----- | ---- |  |  | ----------------- |  |  |  | 
|                 |  |            |  |        |        | Approx. Area |  |            |  |          |  |   |        |  |  | Lease |      |  |  |                  
|Group / Division |  | Location   |  | Leased |        | Annual Rent  |  | Expiration |  | Sublease
|                 |  |            |  |        |        |              |  |            |  |         
|U.S. Aerospace   |  | Tacoma, WA |  |        | 21,700 |              |  |            |  |          |  | $ | 80,000 |  |  |       | 2008 |  |  | New tenant signed

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|                                                  |  |                   |  |        |        |              |  |            |  |          |  |   |         |  |  |       |      |  |  |                                                                                                         |  |                                                                  |  | 
|------------------------------------------------- |  | ----------------- |  | ------ | ------ | ------------ |  | ---------- |  | -------- |  | - | ------- |  |  | ----- | ---- |  |  | ------------------------------------------------------------------------------------------------------- |  | ---------------------------------------------------------------- |  | 
|                                                  |  |                   |  |        |        | Approx. Area |  |            |  |          |  |   |         |  |  | Lease |      |  |  |                                                                                                        
|Group / Division                                  |  | Location          |  | Leased |        | Annual Rent  |  | Expiration |  | Sublease
|                                                  |  |                   |  |        |        |              |  |            |  |         
|Casting Division                                  |  |                   |  |        |        |              |  |            |  |          |  |   |         |  |  |       |      |  |  |                                                                                                         |  | lease with
landlord; PA&E lease terminated as of August 14, 2001
|U.S. Aerospace
Engineering & Fabrication Division |  | Sedro-Woolley, WA |  |        | 94,600 |              |  |            |  |          |  | $ | 395,000 |  |  |       | 2003 |  |  | Portion subleased for $7,679 per month until October 31, 2001; seeking additional tenants              
|                                                  |  | Edmonds, WA       |  |        | 10,800 |              |  |            |  |          |  | $ | 155,000 |  |  |       | 2004 |  |  | Negotiating lease termination                                                                          
|                                                  |  | Everett, WA       |  |        | 11,500 |              |  |            |  |          |  | $ | 79,000  |  |  |       | 2003 |  |  | Subleased for $5,731 per month, subject to increase to $6,250 in April 2002; sublease expires July 2003

We are also attempting to sublease the Display Divisions facility in
Vancouver, Washington, as a result of the divisions move to Wenatchee,
Washington that is currently in progress.

As of December, 2000, we sold a building that we owned in Butler, New Jersey,
where part of our U.S. Electronics Groups Interconnect Division was located
until July 1999. Net proceeds from the sale of the building was $660,000, and
we recorded a loss of $320,000 on the sale.

In January 1999, we executed an agreement with the Port of Chelan County,
Washington, giving us an option to purchase three parcels of land at or near
our Wenatchee campus for a total of $5.4 million. We purchased the first
parcel, which was property next to our Wenatchee campus, for $853,000 in cash,
on February 2, 1999. In December, 2000, we resold the parcel to the Port of
Chelan County for approximately $930,000. In July 2001, we executed a
Rescission and Termination Agreement with the Port, which provided for the
termination of our option and the return of a $100,000 deposit.




ITEM 3. LEGAL PROCEEDINGS

From time to time we are involved in legal proceedings relating to claims
arising out of operations in the normal course of business. We are not aware
of any material legal proceedings pending or threatened against the Company or
any of its properties.

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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

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PART  II




ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS

Market Information, Shareholders, and Dividends

Between July 16, 1996 and June 28, 2001, our common stock was traded on the
Nasdaq National Market under the symbol PCTH, and our public warrants were
traded on the same system under the symbol PCTHW. Each public warrant
entitles the holder to purchase one share of common stock at an exercise price
of $4.6875 per share.

The Nasdaq National Market System reported the following range of high and low
sales prices for our common stock and public warrants for each calendar quarter
during the period from January 1999 through May 31, 2001, which covers all of
the calendar quarters within the Companys 2000 and 2001 fiscal years:

|                                      |  |              |       |          |  |      |       |     |  |  |       |  |  |  |       | 
|------------------------------------- |  | ------------ | ----- | -------- |  | ---- | ----- | --- |  |  | ----- |  |  |  | ----- | 
|                                      |  | Common Stock |       | Warrants
|                                      |  |              |       |         
|Calendar Period                       |  | High         |       | Low      |  | High |       | Low
|                                      |  |              |       |          |  |      |       |    
|1999                                  |  |              |       |          |  |      |       |     |  |  |       |  |  |  |       | 
|First Quarter                         |  |              | 2.969 |          |  |      | 1.688 |     |  |  | 0.875 |  |  |  | 0.344 | 
|Second Quarter                        |  |              | 2.188 |          |  |      | 1.500 |     |  |  | 0.594 |  |  |  | 0.375 | 
|Third Quarter                         |  |              | 1.781 |          |  |      | 1.250 |     |  |  | 0.625 |  |  |  | 0.250 | 
|Fourth Quarter                        |  |              | 1.500 |          |  |      | 0.594 |     |  |  | 0.688 |  |  |  | 0.188 | 
|2000                                  |  |              |       |          |  |      |       |     |  |  |       |  |  |  |       | 
|First Quarter                         |  |              | 7.000 |          |  |      | 1.125 |     |  |  | 2.438 |  |  |  | 0.250 | 
|Second Quarter                        |  |              | 3.000 |          |  |      | 1.188 |     |  |  | 1.313 |  |  |  | 0.406 | 
|Third Quarter                         |  |              | 2.656 |          |  |      | 0.781 |     |  |  | 1.063 |  |  |  | 0.250 | 
|Fourth Quarter                        |  |              | 1.438 |          |  |      | 0.313 |     |  |  | 0.563 |  |  |  | 0.094 | 
|2001                                  |  |              |       |          |  |      |       |     |  |  |       |  |  |  |       | 
|First Quarter                         |  |              | 0.906 |          |  |      | 0.219 |     |  |  | 0.313 |  |  |  | 0.094 | 
|Second Quarter (April 1-May 31, 2001) |  |              | 0.313 |          |  |      | 0.180 |     |  |  | 0.160 |  |  |  | 0.080 | 

On June 28, 2001, our securities were delisted from the Nasdaq National Market
and are currently traded on the OTC Bulletin Board.

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As of August 10, 2001, the closing sales price of our common stock on the OTC
Bulletin Board was $0.12 per share, and the closing sales price of our warrants
was $0.01.

We have never declared or paid cash dividends on our common stock. We
currently anticipate that we will retain any future earnings to fund the
operations, and we do not anticipate paying dividends on our common stock in
the foreseeable future. Our agreements with our senior secured lenders and the
indenture governing our 111⁄4% senior subordinated notes restrict our ability
to pay dividends.

Common Stock

As of August 10, 2001, there were 1,078 holders of record of 39,315,309 shares
of common stock outstanding, and 21 holders of record of 2,295,000 public
warrants outstanding, based on the records maintained by our transfer agent.
Each share of outstanding common stock is entitled to participate equally in
dividends as and when declared by the Board of Directors, out of funds legally
available therefor, and is entitled to participate equally in any distribution
of net assets made to our common shareholders in the event of liquidation of
the Company after payment to all creditors of the Company, subject to any
preferences that may be granted to any series of preferred stock as to
dividends or liquidation. There are no preemptive rights or rights to convert
common stock into any other securities. The holders of our common stock are
entitled to one vote for each share held of record on all matters voted upon by
our shareholders and may not cumulate votes for the election of directors.
Thus, the owners of a majority of the shares of our common stock outstanding
may elect all of the directors of the Company, and the owners of the balance of
the shares of the common stock would not be able to elect any directors of the
Company.

Preferred Stock

The Companys Board of Directors has the authority to issue shares of preferred
stock in one or more series and to fix the powers, designations, preferences
and relative, participating, optional or other rights of any series of
preferred stock, including dividend rights, conversion rights, voting rights,
redemption terms, liquidation preferences, sinking fund terms and the number of
shares constituting any series, without shareholder approval, unless such
approval is required by applicable law or by the rules of any stock exchange or
automated quotation system on which securities of the Company may be listed or
traded. The rights of preferred stock could adversely affect the rights of
holders of common stock and the market for the common stock. The Company does
not currently have any preferred stock outstanding.

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Warrants

As of August 10, 2001, we had outstanding exercisable warrants to purchase
common stock as follows:



| |  |  | publicly traded warrants to purchase 2,295,000 shares of common
stock, that (a) were issued as part of the units sold in the Companys
July 1996 registered public offering (Units), (b) have an exercise
price of $4.6875 per share, and (c) expire in July 2003;     
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | warrants to purchase a total of 1,156,224 shares of common stock
issued to several employees and consultants of the Company, that (a)
have exercise prices ranging from $0.4062 to $9.50 per share, and (b)
have expiration dates that range from May 2002 to April 2006;
|
| |  |  | warrants to purchase 385,000 shares of common stock that (a) were
issued in connection with a private placement in July 2000, (b) have an
exercise price of $2.01 per share, and (c) expire in July 2003.
SeeSummer 2000 Private Placement.                           
|
| |  |  | warrants to purchase 4,036,978 shares of common stock that (a) were
issued in connection with a private placement in March 2001, (b) have
an exercise price of $.001 per share, and (c) expire in March 2006.
SeeMarch 2001 Private Placement.                        

The shares of common stock issuable upon exercise of our outstanding warrants
are either registered for issuance or resale, available for resale under Rule 144,
or subject to an obligation to register them for resale. Exercise of
these warrants would increase the number of shares of our common stock
available on the public market and would dilute the interests of existing
shareholders.

Series B Convertible Preferred Stock

Preferred Stock Offering.In May and August 1998, we issued a total of 170,000
shares of Series B Convertible Preferred Stock (the Preferred Stock) and
issued related warrants, for a total price of $17 million, in a private
placement to 17 accredited investors. As of June 26, 2000, all of these shares
had been converted into a total of 10,136,548 shares of common stock. The
issuance of the common stock upon conversion of the Preferred Stock was exempt
from registration under Section 3(a)(9) of the Securities Act because it was an
exchange exclusively with the holders of Preferred Stock where no commission or
other remuneration was paid or given for soliciting the exchange. The former
holders of the Preferred Stock have advised us that they resold all but 77
shares of common stock into the public market, either pursuant to a resale
registration statement or in reliance on Rule 144. The conversion of

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the Preferred Stock and resale of the conversion shares had the effect of
significantly increasing the number of shares of our common stock in the public
market.

Warrants Issued to Preferred Shareholders. The warrants to purchase 236,109
shares of common stock at an exercise price of $7.20 per share that were issued
in connection with the Preferred Stock expired on May 15, 2001.

Summer 2000 Private Placement

Description of Summer 2000 Private Placement.On July 27, 2000, we issued
1,142,860 shares of common stock and warrants to purchase additional shares to
two accredited investors, Strong River Investments, Inc. and Bay Harbor
Investments, Inc., for gross proceeds of $2.0 million. We paid a commission to
Rochon Capital Group, Ltd. comprised of $80,000 in cash and warrants to
purchase 79,150 shares of common stock, at an exercise price of $1.7688 per
share, exercisable through July 27, 2003, for representing Pacific Aerospace in
this transaction. After taking into consideration other expenses related to
the transaction, we received net proceeds at closing of $1,713,000, which we
used to pay down our U.S. credit line.

We also issued to the investors on July 27, 2000, closing warrants to purchase
an aggregate of 385,000 shares of common stock at an exercise price of $2.01
per share, exercisable through July 27, 2003, and adjustable warrants and
vesting warrants to purchase an indeterminate number of shares, as described
below. The vesting dates and expiration dates contained in the warrants and
the numbers of shares issuable upon exercise of the warrants are subject to
anti-dilutive adjustments. The terms of the transaction, including the terms
of the warrants, were determined by arms length negotiations between Pacific
Aerospace and the investors.

The transaction documents also provided that upon effectiveness of the
registration statement within 60 days after the first closing, a second closing
would occur, and the investors would pay an additional $1.5 million and receive
857,140 additional shares of common stock. This condition was not satisfied,
and the investors decided not to waive the condition. As a result, the second
closing did not occur.

The private placement was made pursuant to the exemption from registration
contained in Rule 506 of Regulation D under the Securities Act based on the
sale to accredited investors in a private transaction with the purchasers
acknowledging that the securities cannot be resold unless registered or exempt
from registration under the securities laws.

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Adjustable Warrants.On July 27, 2000, we issued to the investors adjustable
warrants, which permitted the investors to acquire additional shares of common
stock at an exercise price of $.001 per share if the market price of our common
stock did not achieve and maintain a specific price during each of three
vesting periods. On February 15, 2001, Pacific Aerospace and the investors
agreed to amend the adjustable warrants to provide that each of the two
investors, upon exercise in full of its adjustable warrant, would be entitled
to purchase 2,095,243 shares of common stock.

The fixed number of shares specified in the amendment was negotiated to replace
the provisions of the adjustable warrants that would have determined the number
of shares issuable under those warrants based on a formula that depended on the
market price of our common stock during three vesting periods. The vesting
periods would have been the 20 consecutive trading days before the 20th, 40th,
and 60th trading days after the effective date of the registration statement
covering the shares issued to the investors on July 27, 2000. That
registration statement became effective on January 31, 2001. The closing price
of our common stock on February 15, 2001, the date of the amendment, was $.4063
per share. If the adjustable warrants had not been amended and our common
stock price had been $.4063 throughout the three vesting periods, a total of
4,207,666 shares would have been issuable under the adjustable warrants.

On February 15, 2001, the investors exercised the adjustable warrants in full,
as so amended, for the exercise price of $.001 per share. The exercise price
was not changed by the amendment described above. As a result of the exercise,
we delivered to the investors a total of 4,190,486 shares of common stock. The
resale of these shares was covered by a registration statement on Form S-3
(File No. 333-56884) filed on March 12, 2001.

Vesting Warrants.We also issued vesting warrants to the investors on July 27,
2000. The purpose of the vesting warrants was to give Pacific Aerospace an
incentive not to cause any triggering events to occur prior to expiration of
the vesting warrants and an incentive to cure triggering events that occurred,
if they could be cured. On February 15, 2001, Pacific Aerospace and the
investors agreed that the vesting warrants would expire on the fifth business
day after we delivered the shares issuable upon exercise of the adjustable
warrants. We delivered the shares on February 21, 2001, and the vesting
warrants expired on February 28, 2001.

Closing Warrants.On July 27, 2000, we also issued the investors in the
private placement closing warrants to purchase an aggregate of 385,000 shares
of common stock at an exercise price of $2.01 per share. The February 15, 2001
amendment did not amend the terms of the closing warrants. The closing
warrants were exercisable in full on the date of issuance and remain
exercisable until their expiration on July 27, 2003. These warrants are not
subject to any adjustments relating to market price, but the exercise

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price would be adjusted for the issuance of common stock or common stock
equivalents at a price below the warrant exercise price while the warrants are
outstanding. The exercise price can be paid in cash, or the holder can utilize
a cashless exercise provision. The purpose of the closing warrants was to
provide the investors with an opportunity to obtain an additional return on
their investment if our common stock price exceeds $2.01 per share prior to
expiration of the warrants. The resale of the shares issuable upon exercise of
the Closing Warrants was registered on a registration statement on Form S-3
(File No. 333-44686), filed on August 28, 2000.

March 2001 Private Placement

On March 1, 2001, we borrowed approximately $13.8 million from four lenders: B
III Capital Partners, L.P., B III-A Capital Partners, L.P., DDJ Canadian High
Yield Fund and State Street Bank & Trust, as Custodian for General Motors
Employees Global Group Pension Trust. In connection with the secured loan, we
issued warrants to purchase an aggregate of 4,036,978 shares of common stock
with an exercise price of $.001 per share to the four lenders as an incentive
for them to make the loan. The warrants are exercisable through March 1, 2006
and contain weighted average anti-dilution protection in the event we issue
equity securities at a price less than market price determined in the manner
set forth in the Warrant Agreement. The lenders may exercise the warrants at
any time for the exercise price of $.001 per share, whereupon they will receive
up to an aggregate amount of 4,036,978 shares of common stock of the Company.
DDJ Capital Management, LLC, serves as the investment advisor to each such
entity and, accordingly, may be deemed the beneficial owner of the shares of
common stock underlying the warrants received by the lenders. The terms of the
transaction, including the terms of the warrants, were determined by arms
length negotiations between Pacific Aerospace and the lenders. We used
approximately $9.5 million of the loan to repay our revolving line of credit in
the U.S. and to pay the interest payment on our 111⁄4% senior subordinated
notes that was due on February 1, 2001. The remainder of the proceeds were
used to replace our line of credit in the United Kingdom, to pay costs of the
secured loan transaction and to provide working capital. The transaction
documents also provided that we would file a registration statement registering
the shares of common stock underlying the warrants issued to the lenders within
30 days following the closing of the loan. We filed a registration statement
on Form S-3 (File No. 333-58148) on April 2, 2001.

We also paid a commission of approximately $415,000 to First Albany
Corporation, the placement agent that represented us in the transaction, and
issued warrants to purchase up to 692,074 shares of our common stock to the
placement agent, at an exercise price of $.4062 per share. The placement agent
warrants are exercisable at any time through April 9, 2006. The placement
agent warrants were issued pursuant to the exemption from registration
contained in Rule 506 of Regulation D under the Securities

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Act, and neither the warrants nor the shares issuable upon exercise of the
warrants may be resold unless registered or exempt from registration under the
securities laws. The placement agent has piggy-back registration rights with
respect to the shares issuable upon exercise of the warrants.

Registration Rights

We are obligated to register the resale of the following shares:

Continental Capital & Equity Corporation has the right, through April 17, 2003,
to require us to file a resale registration statement with respect to up to
200,000 shares issuable upon exercise by Continental of warrants held by them.

We are obligated to register for resale up to 79,150 shares issuable upon
exercise of warrants held by the placement agent in the Summer 2000 private
placement.

We are obligated to register for resale up to 692,074 shares issuable upon
exercise of warrants held by the placement agent in our March 2001 private
placement.

Nasdaq

Until June 28, 2001, our common stock was quoted on the Nasdaq National Market.
In order to remain listed on this market, we were required to meet Nasdaqs
listing maintenance standards. On March 22, 2001, we received a determination
letter from Nasdaq staff indicating that, absent a successful appeal by the
Company, our securities would be delisted for failure to comply with
Marketplace Rule 4450(a)(5), which requires listed stock to maintain a minimum
bid price of $1.00. Our common stock had traded below $1.00 since November 7,
2000. Subsequent to the notice, we notified Nasdaq that we also failed to
comply with Marketplace Rule 4450(a)(3), which requires an issuer of listed
securities to maintain net tangible assets of at least $4 million. We appealed
the Nasdaq staff determination before a Nasdaq qualification hearings panel on
May 11, 2001, but we were notified on June 27, 2001 that our securities would
be delisted on June 28, 2001, and the delisting occurred on that date. Our
common stock and public warrants are currently traded on the OTC Bulletin
Board.

Indemnification

The Company agreed to indemnify the holders of the Preferred Stock, the
investors in the Summer 2000 private placement, and the holders of the warrants
issued in the March 2001 private placement, and those

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holders and investors agreed to indemnify the Company, against certain
liabilities under the Securities Act. Insofar as indemnification for
liabilities arising under the Securities Act may be permitted directors,
officers and controlling persons of the Company pursuant to the foregoing
provisions, or otherwise, we have been advised that, in the opinion of the SEC,
such indemnification is against public policy as expressed in the Securities
Act and is, therefore, unenforceable.

Anti-Takeover Laws

The Company, as a Washington corporation, is subject to certain provisions of
Washington law regarding significant business transactions and fair price
restrictions. These provisions may have the effect of delaying or deterring a
hostile takeover of the Company.

Washingtons Significant Business Transactions statute (Chapter 23B.19 of the
Washington Business Corporation Act) applies to public companies that are
incorporated under Washington law. The statute prohibits, subject to certain
exceptions, a corporation from entering into any significant business
transactions with an Acquiring Person (defined generally as a person who or
an affiliated group that beneficially owns 10% or more of the outstanding
voting securities of a corporation) for a period of five years after such
person or affiliated group becomes an Acquiring Person unless the transaction
or share acquisition made by the Acquiring Person is approved prior to the
share acquisition by a majority of the target corporations directors. In
addition, this statute prohibits a corporation subject thereto from entering
into a significant business transaction with an Acquiring Person unless the
consideration to be received by the corporations shareholders in connection
with the proposed transaction satisfies the fair price provisions set forth
in the statute.

Transfer Agent and Registrar

The Transfer Agent and Registrar for our common stock and publicly traded
warrants is Interwest Transfer Co., Inc.

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ITEM 6.  SELECTED FINANCIAL DATA

The following selected financial data presents selected historical financial
data of the Company as of and for the years ended May 31, 1997, 1998, 1999,
2000 and 2001, and is derived from the Companys audited financial statements.
This data should be read in conjunction with the Companys Financial Statements
and Notes thereto, the Independent Auditors Report, and Managements
Discussion and Analysis of Financial Condition and Results of Operations. The
independent auditors report contains an explanatory paragraph that states that
the Companys recurring losses from operations raise substantial doubt about
our ability to continue as a going concern. Our consolidated financial
statements and the following selected financial data do not include any
adjustments that might result from the outcome of that uncertainty.

|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |        |  
|----------------------------- | ------------------------------------------------------ | ------- | - | ---------------------------------------------------- | ------ | ---- | - | ------ | ------ | ---- | - | ------- | ------ | - | - | ------- | ------ | - | - | ------- | ------ | -
|                              |                                                        |         |   | Years Ended May 31,                                 
|                              |                                                        |         |   |                                                     
|                              |                                                        |         |   | 1997                                                 |        | 1998 |   | 1999   |        | 2000 |   | 2001   
|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |        
|                              |                                                        |         |   | (in thousands, except percentage and per share data)
|Statement of Operations Data: |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |        
|                              | Net sales(1)                                           |         | $ | 34,175                                               |        |      | $ | 54,099 |        |      | $ | 107,366 |        |   | $ | 112,694 |        |   | $ | 109,288 |       
|                              | Cost of sales                                          |         |   | 25,969                                               |        |      |   | 39,487 |        |      |   | 86,302  |        |   |   | 92,063  |        |   |   | 101,048 |       
|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |       
|                              | Gross profit                                           |         |   | 8,206                                                |        |      |   | 14,612 |        |      |   | 21,064  |        |   |   | 20,631  |        |   |   | 8,240   |       
|                              | Operating expenses                                     |         |   | 6,259                                                |        |      |   | 9,872  |        |      |   | 22,039  |        |   |   | 24,533  |        |   |   | 67,201  |       
|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |       
|                              | Income (loss) from operations                          |         |   | 1,947                                                |        |      |   | 4,740  |        |      |   | (975    | )      |   |   | (3,902  | )      |   |   | (58,961 | )     
|                              | Net interest (expense)                                 |         |   | (384                                                 | )      |      |   | (755   | )      |      |   | (8,140  | )      |   |   | (9,862  | )      |   |   | (10,012 | )     
|                              | Other income (expense)                                 |         |   | 169                                                  |        |      |   | (853   | )      |      |   | (6,393  | )      |   |   | 33      |        |   |   | 201     |       
|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |       
|                              | Income (loss) before taxes and extraordinary item      |         |   | 1,732                                                |        |      |   | 3,132  |        |      |   | (15,508 | )      |   |   | (13,731 | )      |   |   | (68,772 | )     
|                              | Extraordinary item, net of tax                         |         |   |                                                     |        |      |   |       |        |      |   |        |        |   |   | 703     |        |   |   |        |       
|                              | Income taxes benefit (expense)                         |         |   | (50                                                  | )      |      |   | 482    |        |      |   | 2,639   |        |   |   | (21     | )      |   |   | (6,948  | )     
|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |       
|                              | Net income (loss)                                      |         | $ | 1,682                                                |        |      | $ | 3,614  |        |      | $ | (12,869 | )      |   | $ | (13,049 | )      |   | $ | (75,720 | )     
|                              |                                                        |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |        
|                              | Net income (loss) per share:                           |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |       
|                              |                                                        | Basic   |   |                                                      | .18    |      |   |        | .29    |      |   |         | (.74   | ) |   |         | (.59   | ) |   |         | (2.15  | )
|                              |                                                        | Diluted |   |                                                      | .17    |      |   |        | .27    |      |   |         | (.74   | ) |   |         | (.59   | ) |   |         | (2.15  | )
|                              | Shares used in computation of income (loss) per share: |         |   |                                                      |        |      |   |        |        |      |   |         |        |   |   |         |        |   |   |         |       
|                              |                                                        | Basic   |   |                                                      | 9,500  |      |   |        | 12,486 |      |   |         | 17,359 |   |   |         | 21,955 |   |   |         | 35,283 |  
|                              |                                                        | Diluted |   |                                                      | 10,036 |      |   |        | 13,606 |      |   |         | 17,359 |   |   |         | 21,955 |   |   |         | 35,283 |  

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|                      |                                                                 |  |   |                                                      |   |      |   |        |   |      |   |        |   |  |   |        |   |  |   |        |    | 
|--------------------- | --------------------------------------------------------------- |  | - | ---------------------------------------------------- | - | ---- | - | ------ | - | ---- | - | ------ | - |  | - | ------ | - |  | - | ------ | -- | 
|                      |                                                                 |  |   | Years Ended May 31,                                 
|                      |                                                                 |  |   |                                                     
|                      |                                                                 |  |   | 1997                                                 |   | 1998 |   | 1999   |   | 2000 |   | 2001  
|                      |                                                                 |  |   |                                                      |   |      |   |        |   |      |   |       
|                      |                                                                 |  |   | (in thousands, except percentage and per share data)
|Other Financial Data: |                                                                 |  |   |                                                      |   |      |   |        |   |      |   |        |   |  |   |        |   |  |   |       
|                      | Adjusted EBITDA(2)                                              |  | $ | 3,305                                                |   |      | $ | 6,944  |   |      | $ | 10,669 |   |  | $ | 9,004  |   |  | $ | (2,681 | ) 
|                      | Adjusted EBITDA margin(3)                                       |  |   | 9.7                                                  | % |      |   | 12.8   | % |      |   | 9.9    | % |  |   | 8.0    | % |  |   | (2.5   | )%
|                      | Depreciation, amortization, and impairment of long-lived assets |  | $ | 1,358                                                |   |      | $ | 2,204  |   |      | $ | 11,644 |   |  | $ | 12,906 |   |  | $ | 56,280 |   
|                      | Capital expenditures                                            |  |   | 2,739                                                |   |      |   | 10,290 |   |      |   | 8,281  |   |  |   | 4,867  |   |  |   | 3,710  |   

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|                    |                                            |  |                |        |      |  |      |        |      |  |      |         |  |  |   |         |  |  |   |         |  
|------------------- | ------------------------------------------ |  | -------------- | ------ | ---- |  | ---- | ------ | ---- |  | ---- | ------- |  |  | - | ------- |  |  | - | ------- | -
|                    |                                            |  | At May 31,    
|                    |                                            |  |               
|                    |                                            |  | 1997           |        | 1998 |  | 1999 |        | 2000 |  | 2001
|                    |                                            |  |                |        |      |  |      |        |      |  |     
|                    |                                            |  | (in thousands)
|Balance Sheet Data: |                                            |  |                |        |      |  |      |        |      |  |      |         |  |  |   |         |  |  |   |        
|                    | Cash and cash equivalents                  |  | $              | 3,048  |      |  | $    | 11,461 |      |  | $    | 8,134   |  |  | $ | 2,154   |  |  | $ | 4,095   |  
|                    | Working capital                            |  |                | 13,090 |      |  |      | 25,599 |      |  |      | 38,329  |  |  |   | 29,181  |  |  |   | 25,034  |  
|                    | Total assets                               |  |                | 35,752 |      |  |      | 78,580 |      |  |      | 158,727 |  |  |   | 143,582 |  |  |   | 80,816  |  
|                    | Long-term debt (including current portion) |  |                | 4,233  |      |  |      | 11,233 |      |  |      | 83,410  |  |  |   | 70,528  |  |  |   | 82,932  |  
|                    | Shareholders equity (deficit)             |  |                | 25,619 |      |  |      | 56,142 |      |  |      | 54,019  |  |  |   | 49,768  |  |  |   | (25,114 | )



---

|(1) |  | The increases in net sales are attributable to acquisitions by the
Company and internal growth. See Description of Business and
Managements Discussion and Analysis of Financial Condition and Results
of Operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(2) |  | Adjusted EBITDA represents income (loss) from operations plus
depreciation, amortization, and non-cash asset impairment expense.
Adjusted EBITDA should not be construed as an alternative to (i) net
income, as defined by generally accepted accounting principles, as an
indicator of our operating performance or (ii) cash flow, as defined by
generally accepted accounting principles, as a measure of liquidity. We
report Adjusted EBITDA because it is a cash flow capacity measure commonly
used by financial institutions, including holders of our senior
subordinated notes. Generally, we consider Adjusted EBITDA as a measure
of cash flow capacity to fund interest expense, principal payments on
debt, working capital needs and capital expenditures. This measure may
not be comparable to similarly titled measures reported by other
companies. The adequacy and historical trend of Adjusted EBITDA to
support funding requirements is an indication to our management whether
cash sources in addition to Adjusted EBITDA may be required to support
ongoing operations.
|   
|   
|   
|   
|(3) |  | Adjusted EBITDA margin represents Adjusted EBITDA as a percent of net
sales. We use Adjusted EBITDA margin as a measure to evaluate better our
Adjusted EBITDA capacity trends.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

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ITEM 7.  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS






This section and the Description of
Business section of this Form 10-K
contain forward-looking statements. These forward-looking statements are not
guarantees of the Companys future performance. They are subject to risks and
uncertainties related to business operations, some of which are beyond the
Companys control. Any of these risks or uncertainties may cause actual
results or future circumstances to differ materially from the forward-looking
statements set forth in this section under the captions Overview and
Liquidity and Capital Resources, and in Description of Business under each
of the captions in that section.


Overview

Pacific Aerospace & Electronics, Inc., is an engineering and manufacturing
company with operations in the United States and the United Kingdom. We
design, manufacture and sell components and subassemblies used in technically
demanding environments. Products that we produce primarily for the aerospace
and transportation industries include machined, cast, and formed metal parts
and subassemblies, using aluminum, titanium, magnesium, and other metals.
Products that we produce primarily for the defense, electronics,
telecommunications, energy and medical industries include components such as
hermetically sealed electrical connectors and instrument packages and ceramic
capacitors, filters and feed-throughs. Our customers include global leaders in
all of these industries. We are organized into three operational groups: U.S.
Aerospace, U.S. Electronics, and European Aerospace.

For our fiscal year ended May 31, 2001, we had net sales of approximately $109
million, with the European Aerospace Group contributing approximately $52
million in net sales. On October 31, 2000, we announced our intention to sell
our European Aerospace Group in order to reduce our outstanding 111⁄4% senior
subordinated notes. As of May 31, 2001, we had approximately $64 million in
principal amount of 111⁄4% senior subordinated notes outstanding. Because we
are in the process of seeking buyers for our European Aerospace Group, we do
not know whether we will be successful in selling that group and, if
successful, we do not know the amount of net proceeds that would be available
to reduce our 111⁄4% senior subordinated notes or our approximately $13.7
million of 18% senior secured notes. We are required to pay our senior secured
lenders at least $7.5 million upon the sale of our European Aerospace Group.
Although at this time we have not committed to the sale of the group, we have
received several bona-fide preliminary and final offers to purchase the group.
If these offers approximate the final negotiated sales price for the group and
we commit to the sale of the group, the offers indicate that we will incur an
impairment loss related to goodwill and equipment of approximately $37 million.

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Consequently, we recorded an impairment loss related to our European Aerospace
Group goodwill of $25 million for the quarter ended February 28, 2001, and an
additional impairment loss of $12 million related to goodwill and equipment for
the quarter ended May 31, 2001. We have also reviewed all other long-lived
assets and have recorded impairment losses of approximately $1.0 million, $7.4
million and $3.4 million during the quarters ended November 30, 2000, February
28, 2001 and May 31, 2001, respectively.

On March 30, 2001, we announced that we put in place a plan to restructure our
operations. In connection with the plan, our European Aerospace Group has been
placed for sale, and we closed an unprofitable foundry in Tacoma, Washington.
We have also downsized our U.S. Aerospace Groups Engineering & Fabrication
Division by closing our fabrication facilities in Sedro-Woolley, Washington and
we have sold substantially all of the assets related to the fabrication
business. On June 1, 2001, subsequent to our fiscal year end, we completed the
sale of substantially all of the assets of our U.S. Aerospace Groups Casting
operation located in Entiat, Washington. We believe that these asset sales and
closures or sales of business units will help to strengthen and support our
core electronics, engineering and aerospace machining operations.

Results of Operations

For an understanding of the significant factors that influenced our performance
during the past three fiscal years, the following discussion should be read in
conjunction with our consolidated financial statements presented in this Form
10-K.

The following table sets forth certain of our historical statement of
operations data for the periods indicated, expressed in dollars (in thousands)
and as a percentage of net sales.

|                              |  |                     |        |      |  |      |       |      |  |      |        |   |  |  |       |   |  |   |         |   |  |  |       |   |  |   |         |   |  |  |       |    |  |   |         |   |  |  |       |   
|----------------------------- |  | ------------------- | ------ | ---- |  | ---- | ----- | ---- |  | ---- | ------ | - |  |  | ----- | - |  | - | ------- | - |  |  | ----- | - |  | - | ------- | - |  |  | ----- | -- |  | - | ------- | - |  |  | ----- | --
|                              |  | Years Ended May 31,
|                              |  |                    
|                              |  | 1997                |        | 1998 |  | 1999 |       | 2000 |  | 2001
|                              |  |                     |        |      |  |      |       |      |  |     
|Net sales                     |  | $                   | 34,175 |      |  |      | 100.0 | %    |  | $    | 54,099 |   |  |  | 100.0 | % |  | $ | 107,366 |   |  |  | 100.0 | % |  | $ | 112,694 |   |  |  | 100.0 | %  |  | $ | 109,288 |   |  |  | 100.0 | % 
|Cost of sales                 |  |                     | 25,969 |      |  |      | 76.0  |      |  |      | 39,487 |   |  |  | 73.0  |   |  |   | 86,302  |   |  |  | 80.4  |   |  |   | 92,063  |   |  |  | 81.7  |    |  |   | 101,048 |   |  |  | 92.5  |   
|                              |  |                     |        |      |  |      |       |      |  |      |        |   |  |  |       |   |  |   |         |   |  |  |       |   |  |   |         |   |  |  |       |    |  |   |         |   |  |  |       |   
|Gross profit                  |  |                     | 8,206  |      |  |      | 24.0  |      |  |      | 14,612 |   |  |  | 27.0  |   |  |   | 21,064  |   |  |  | 19.6  |   |  |   | 20,631  |   |  |  | 18.3  |    |  |   | 8,240   |   |  |  | 7.5   |   
|Operating expenses            |  |                     | 6,259  |      |  |      | 18.3  |      |  |      | 9,872  |   |  |  | 18.2  |   |  |   | 22,039  |   |  |  | 20.5  |   |  |   | 24,533  |   |  |  | 21.8  |    |  |   | 67,201  |   |  |  | 61.5  |   
|                              |  |                     |        |      |  |      |       |      |  |      |        |   |  |  |       |   |  |   |         |   |  |  |       |   |  |   |         |   |  |  |       |    |  |   |         |   |  |  |       |   
|Income (loss) from operations |  |                     | 1,947  |      |  |      | 5.7   |      |  |      | 4,740  |   |  |  | 8.8   |   |  |   | (975    | ) |  |  | (0.9  | ) |  |   | (3,902  | ) |  |  | (3.5  | )  |  |   | (58,961 | ) |  |  | (54.0 | ) 
|Net interest expense          |  |                     | (384   | )    |  |      | (1.1  | )    |  |      | (755   | ) |  |  | (1.4  | ) |  |   | (8,140  | ) |  |  | (7.6  | ) |  |   | (9,862  | ) |  |  | (8.8  | )  |  |   | (10,012 | ) |  |  | (9.2  | ) 
|Other income (expense)        |  |                     | 169    |      |  |      | 0.5   |      |  |      | (853   | ) |  |  | (1.6  | ) |  |   | (6,393  | ) |  |  | (6.0  | ) |  |   | 33      |   |  |  |      |    |  |   | 201     |   |  |  | 0.2   |   
|Extraordinary item            |  |                     |       |      |  |      |      |      |  |      |       |   |  |  |      |   |  |   |        |   |  |  |      |   |  |   | 703     |   |  |  | 0.6   |    |  |   |        |   |  |  |      |   
|Income tax benefit (expense)  |  |                     | (50    | )    |  |      | (0.1  | )    |  |      | 482    |   |  |  | 0.9   |   |  |   | 2,639   |   |  |  | 2.5   |   |  |   | (21     | ) |  |  |      |    |  |   | (6,948  | ) |  |  | (6.3  | ) 
|                              |  |                     |        |      |  |      |       |      |  |      |        |   |  |  |       |   |  |   |         |   |  |  |       |   |  |   |         |   |  |  |       |    |  |   |         |   |  |  |       |   
|Net income (loss)             |  | $                   | 1,682  |      |  |      | 4.9   | %    |  | $    | 3,614  |   |  |  | 6.7   | % |  | $ | (12,869 | ) |  |  | 12.0  | % |  | $ | (13,049 | ) |  |  | (11.6 | )% |  | $ | (75,720 | ) |  |  | (69.3 | )%
|                              |  |                     |        |      |  |      |       |      |  |      |        |   |  |  |       |   |  |   |         |   |  |  |       |   |  |   |         |   |  |  |       |    |  |   |         |   |  |  |       |   
|Adjusted EBITDA(1)            |  | $                   | 3,305  |      |  |      | 9.7   | %    |  | $    | 6,944  |   |  |  | 12.8  | % |  | $ | 10,669  |   |  |  | 9.9   | % |  | $ | 9,004   |   |  |  | 8.0   | %  |  | $ | (2,681  | ) |  |  | (2.5  | )%
|                              |  |                     |        |      |  |      |       |      |  |      |        |   |  |  |       |   |  |   |         |   |  |  |       |   |  |   |         |   |  |  |       |    |  |   |         |   |  |  |       |   

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---

|(1) |  | Adjusted EBITDA represents income (loss) from operations plus
depreciation, amortization, and non-cash asset impairment expense. Adjusted
EBITDA should not be construed as an alternative to (i) net income, as defined
by generally accepted accounting principles, as an indicator of our operating
performance or (ii) cash flow, as defined by generally accepted accounting
principles, as a measure of liquidity. We report Adjusted EBITDA because it is
a cash flow capacity measure commonly used by financial institutions, including
holders of our senior subordinated notes. Generally, we consider Adjusted
EBITDA as a measure of cash flow capacity to fund interest expense, principal
payments on debt, working capital needs and capital expenditures. This measure
may not be comparable to similarly titled measures reported by other companies.
The adequacy and historical trend of Adjusted EBITDA to support funding
requirements is an indication to our management whether cash sources in
addition to Adjusted EBITDA may be required to support ongoing operations.
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Year Ended May 31, 2001 Compared to Year Ended May 31, 2000

Net Sales.Net sales decreased by $3.4 million, or 3.0%, to $109.3 million for
fiscal 2001 from $112.7 million in fiscal 2000. The European Aerospace Group
contributed $51.6 million, down $5.3 million from the $56.9 million contributed
during the year ended May 31, 2000. Our customers in the European aerospace
market have been initiating lean manufacturing methods and just-in-time
inventory delivery requirements similar to those previously initiated by our
customers in the U.S. aerospace market. These initiatives resulted in
decreased orders for our European Aerospace Group. The European Aerospace
Group is currently being offered for sale, although we have not committed to a
formal plan of disposition. If the sale of European Aerospace Group is
completed the net sales from this group will be substantially reduced during
fiscal 2002 from fiscal 2001. If the sale is not completed, we expect this
groups net sales volumes to remain flat or decrease slightly and for order
backlog to decrease accordingly during fiscal 2002. The lowering of the
exchange rate of the British pound sterling versus the U.S. dollar also
contributed to lower net sales volumes from the European Aerospace Group during
fiscal 2001 and may continue to do so during fiscal 2002. Had the average
exchange rate for fiscal 2001 been equal to the average exchange rate for
fiscal 2000, reported net sales for our European Aerospace Group would have
been approximately $56.0 million, or $4.4 million higher than actual. The U.S.
Aerospace Group contributed $29.1 million during the year ended May 31, 2001,
down $2.4 million from the $31.5 million contributed during the year ended May 31,
2000. The U.S. Aerospace Groups casting businesses experienced an
unanticipated revenue decline ($3.7 million) during the year, due in large part
to lower demand for heavy trucking products, which we believe was primarily a
result of higher fuel costs and a cyclical downturn in the heavy trucking
segment of the transportation market. This decrease in revenue was offset
partially by increased revenue ($1.3 million) from telecommunications companies
in our machining business. During fiscal 2001, we transitioned machining of
telecommunications parts out of the U.S. Aerospace Group into the U.S.
Electronics Group in order to process the orders more efficiently. However, due
to the recent downturn in the telecommunications market, our orders for
machined

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telecommunications parts have been cancelled or deferred by our customers. We
believe that the demand for machined telecommunications parts should return
late in our fiscal year 2002, but we do not expect this to have a significant
impact on net sales during fiscal 2002. As of June 1, 2001, we completed the
sale of substantially all of the assets of the U.S. Aerospace Groups Casting
Division. We have also downsized and sold substantially all of the assets of
the fabrication portion of the U.S. Aerospace Groups Engineering & Fabrication
Division. Because of those sales and downsizing, we expect that net sales
contributed by our U.S. Aerospace Group will be substantially lower in fiscal
2002 than in fiscal 2001. Our U.S. Electronics Group contributed $28.6 million
to net sales during the year ended May 31, 2001, up $4.3 million from the $24.3
million contributed during the year ended May 31, 2000. This increase was
attributable to additional sales by our U.S. Electronics Groups Filter
Division ($0.5 million) of products for telecommunications systems, and sales
of non-ruggedized flat panel displays by our U.S. Electronics Groups Display
Division ($2.2 million). Our U.S. Electronics Groups Interconnect Division
also increased net sales revenue ($1.6 million) related to our core sealing and
materials technologies applied to electronic packaging. We currently expect the
sales volume in our U.S. Electronics Group to increase during fiscal year 2002.

Receivable collection periods, as calculated by dividing ending accounts
receivable balances by sales for the year multiplied by 360 days, decreased to
62.9 days for the year ended May 31, 2001 from 67.8 days for the year ended May
31, 2000. This decrease was due to a concerted effort by operations
management to increase collection efforts.

Gross Profit.Gross profit decreased by $12.4 million, or 60.0%, to $8.2
million for the year ended May 31, 2001, from $20.6 million for the year ended
May 31, 2000. As a percentage of net sales, gross profit decreased to 7.5% for
the year ended May 31, 2001, from 18.3% for the year ended May 31, 2000. The
most significant gross margin decrease occurred in our U.S. Aerospace Group,
which continues to under perform due to the lingering effects on our business
of the downturn in the commercial aerospace industry and the drawn out cyclical
downturn in the heavy trucking transportation industries. Gross margins for
the U.S. Aerospace Group decreased from 6.7% during the year ended May 31, 2000
to negative 21.6% during the year ended May 31, 2001. Effective June 1, 2001,
we completed the sale of substantially all of the assets of the U.S. Aerospace
Groups Casting Division. We have also downsized and sold substantially all of
the assets of the fabrication portion of the U.S. Aerospace Groups Engineering &
Fabrication Division. We believe that these sales and downsizing should
allow our U.S. Aerospace Group to realize positive gross margins in fiscal 2002
if current economic trends do not worsen. Gross margins decreased in our
European Aerospace Group from 13.5% for the year ended May 31, 2000 to

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11.1% for year ended May 31, 2001. This decrease was primarily due to pricing
pressure from customers. We currently expect the gross margins for the
European Aerospace Group to increase during fiscal 2002 due to lean
manufacturing initiatives and cost containment measures. Gross margins
decreased in our U.S. Electronics Group from 44.8% for the year ended May 31,
2000 to 30.8% for the year ended May 31, 2001. This decrease was due to a
different product mix within the group, primarily an increased number of
non-ruggedized flat panel displays, low power relays, and telecommunications
parts, which had the effect of lowering overall gross margins in this group.
We also had a $1.6 million inventory charge during the year related to the
termination of a contract in our U.S. Electronic Groups Display Division.
Without this charge, gross margins would have been 36.4%. We currently expect
gross margins to increase within the U.S. Electronics Group during fiscal year
2002. Overall, we currently expect consolidated gross margins to increase
during fiscal year 2002.

Inventory turnover, as calculated by dividing sales for the year by ending
inventory, increased to 4.7 turns for the year ended May 31, 2001 from 4.0
turns for the year ended May 31, 2000. The increase was due to lower inventory
levels. We currently expect that our inventory turns will continue to increase
during fiscal year 2002.

Operating Expenses.Operating expenses increased by $42.7 million, to $67.2
million for the year ended May 31, 2001 from $24.5 million for the year ended
May 31, 2000. The increase in operating expenses is primarily attributable to
non-cash impairment charges totaling approximately $48.9 million. We review
long-lived assets and identifiable intangibles for potential impairment of
value whenever events or circumstances indicate that the carrying amount of
those assets may not be recoverable. Based upon preliminary and final offers
to purchase our European Aerospace Group, we recognized a $37.0 million charge
to reduce the $33.0 million carrying value of goodwill and the $13.6 million
carrying value of equipment associated with our European Aerospace Group, to
net estimated realizable value, approximately $9.6 million. We are still in
the process of selling the European Aerospace Group and hope to have the sale
finalized during our first or second quarter of fiscal year 2002. We also
recognized an impairment charge of $5.5 million to reduce the $6.4 million
carrying value of property and equipment used at the Entiat, Washington
location of our U.S. Aerospace Groups Casting Division to net realizable
value, approximately $0.9 million. During the year ended May 31, 2001, we
closed a facility located in Tacoma, Washington that was used by our U.S.
Aerospace Groups Casting Division. We recognized a $0.8 million impairment
charge to reduce the carrying value of the equipment located at the Tacoma
location to zero, the estimated net realizable value. Also, included in
operating expenses are non-cash charges of approximately $3.3 million to reduce
the $3.5 million carrying value of goodwill and

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equipment used in the U.S. Aerospace Groups Engineering & Fabrication Division
to estimated liquidation value, approximately $0.2 million. We completed the
sale of substantially all of the assets used in the fabrication portion of the
Engineering & Fabrication Division during the fourth quarter of fiscal year
2001. Within the U.S. Electronic Groups Display Division, we recognized a
non-cash charge of approximately $0.6 million to reduce the $1.0 million of
equipment used to produce low power relays to its net realizable value,
approximately $0.4 million. The equipment, inventory, and intellectual
property used to produce low power relays were sold during the fourth quarter
of fiscal year 2001. Gross proceeds from the sale were $400,000 compared to a
carrying amount of approximately $1.0 million. Operating expenses also include
an approximately $320,000 non-cash charge for the loss on the sale of an unused
building in Butler, New Jersey that was sold during December 2000. Net
proceeds from the sale of the building were approximately $660,000, versus a
carrying amount of approximately $980,000. During the fourth quarter of fiscal
2001 we completed our analysis of the value of certain other long-lived assets,
including goodwill and patents. Based upon this analysis, we recognized
additional impairment charges of approximately $1.0 million to reduce goodwill
to estimated fair value, and approximately $0.3 million to reduce patents to
estimated fair value. We will continue to analyze long-lived and identifiable
intangible assets at the end of each future quarter to determine possible
impairment charges. Although we do not believe it likely, our future
evaluations could result in additional impairment charges and those charges
could be material. At May 31, 2001, the reported value of long-lived assets,
including property, plant and equipment, goodwill, and patents, was $27.8
million.

Without impairment charges during the respective years, operating expenses
decreased by $0.9 million to $18.3 million for the year ended May 31, 2001 from
$19.2 million for the year ended May 31, 2000. This decrease in operating
expenses relates primarily to our cost reduction efforts.

Net Interest Expense. Net interest expense increased $0.1 million to $10.0
million for the year ended May 31, 2001 from $9.9 million for the year ended
May 31, 2000. This increase was primarily due to higher average line of credit
balances for the first three quarters of the year plus the addition of our 18%
senior secured notes and related loan costs during the fourth quarter of the
year. The increase in interest from the above items was offset by lower
average outstanding balance on our 111⁄4% senior subordinated notes during
the year. If our total outstanding senior secured and senior subordinated note
balances do not decrease during fiscal year 2002, our interest expense for
fiscal year 2002 will be substantially higher than the expense for fiscal year
2001.

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Other Income (Expense).Other income (expense) represents non-recurring
and non-operational income and expense for the period. Other income increased
to $201,000 for the year ended May 31, 2001 from $33,000 for the year ended May 31,
2000. Other income in the current year primarily represents rental income
and gain on the sale of certain assets.

Provision for Income Taxes. Income taxes for the year ended May 31, 2001
primarily represent charges to write off deferred tax assets, $4.9 million, to
adjust deferred income tax assets to amounts determined more likely than not to
be realizable in accordance with the guidelines set forth in FAS 109,
Accounting for Income Taxes. In addition, due to a tax assessment in the U.K.
related to interest remitted to Pacific Aerospace, a foreign parent, tax
expense also includes an accrual of approximately $1.7 million. We expect
income tax expense in future periods to be minimal.

Net loss.Net loss increased $62.7 million, to a net loss of $75.7
million for the year ended May 31, 2001 from a net loss of $13.0 million for
the year ended May 31, 2000, primarily as a result of the factors discussed
above.

Adjusted EBITDA. Adjusted EBITDA decreased by $11.7 million to negative $2.7
million for the year ended May 31, 2001 from $9.0 million for the year ended
May 31, 2000. The decrease in adjusted EBITDA was due primarily to negative
adjusted EBITDA generated by the U.S. Aerospace Group, primarily the
Engineering & Fabrication Division and the Casting Division. We have downsized
and sold substantially all of the assets related to our Casting Division and
the fabrication portion of the Engineering & Fabrication Division. Because of
these sales and downsizing, we currently believe that adjusted EBITDA should
improve during fiscal year 2002.

Year Ended May 31, 2000 Compared to Year Ended May 31, 1999

Net Sales.Net sales increased by $5.3 million, or 5.0%, to $112.7 million for
fiscal 2000 from $107.4 million in fiscal 1999. The increase in revenue was
primarily due to a full year of operations in our European Aerospace Group (a
$4.0 million increase) and the addition of our Engineering & Fabrication
Division (a $6.7 million increase), offset by reduced sales volume in our
Machining Division (a $7.1 million decrease). The Machining Division
continues to be affected by decreases in production of certain aircraft models
and inventory minimization initiatives at Boeing, the divisions largest
customer.

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Gross Profit.Our gross profit for the year was 18.3%, compared to 19.6% in
fiscal 1999. This decrease was primarily due to low sales volumes in our
aerospace and transportation production facilities. These facilities
traditionally have a high amount of fixed costs which, when coupled with low
sales volumes cause the gross profit to decrease. Pricing pressure from
customers has also lead to low overall gross profit in the aerospace and
transportation markets.

Operating Expenses.Operating expenses increased $2.5 million, or 11.4%, to
$24.5 million for fiscal 2000 from $22.0 million in fiscal 1999. This increase
in operating expenses is primarily due to a full year of operations in our
European Aerospace Group and the addition of our Engineering & Fabrication
division. Operating expenses include non-cash charges related to the
impairment of long-lived assets, primarily goodwill, of $5.3 million in fiscal
2000 and $4.7 million in fiscal 1999. We review long-lived assets and
identifiable intangibles for potential impairment of value whenever events or
changes in circumstances indicate that the carrying amount of those assets may
not be recoverable. During the fourth quarter of fiscal 2000, due to
continuing losses and continued weakness in the commercial aerospace and
transportation industries, our evaluation resulted in the realization of a
$4.6 million impairment of goodwill and a $600,000 property impairment related
to our U.S. Aerospace Group. We will continue to evaluate the assets in our
U.S. Aerospace Group on a quarterly basis until such time as the divisions in
that group become consistently profitable. Our future evaluations could result
in additional impairment charges for goodwill, property, and equipment values
as well as carrying values of inventories.

Approximately $2.4 million of the $4.6 million goodwill impairment related
directly to goodwill associated with the Nova-Tech Engineering acquisition,
which was acquired by our Engineering & Fabrication Division on May 1, 2000.
In April of 1999 we entered into an operating agreement with Nova-Tech
Engineering, Inc. We provided consultation and assistance with operations,
strategic planning, sales, customers and suppliers, products, employees,
accounting and management. We also entered into two loan agreements with
Nova-Tech under which we loaned $2.5 million to Nova-Tech for working capital.
Periodically, from April 1999 until the acquisition date, May 1, 2000, we
reviewed the collectibility of the amounts due from Nova-Tech. Based upon
projections of future cash flows completed by us in February 2000, we
determined that Nova-Tech would have sufficient future cash flows to repay the
loan amounts due to us however, fees due to us under the operating agreement,
$10,000 per month, were not going to be collectible. We did not record the
income and related bad debt associated with the operating agreement fee, as we
believed the amounts were immaterial. Also, based upon our cash flow
projections completed in February of 2000, we terminated our original purchase
agreement with Nova-Tech, which called for a purchase price of approximately
$7.0 million. We

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renegotiated a purchase price for Nova-Tech of $50,000 plus forgiveness of the
debt owed us. This new purchased price resulted in goodwill being recognized
on the purchase of approximately $3.9 million. Subsequent to acquisition,
during our budgeting process, we prepared a revised forecast based on our
current assessment of Nova-Techs future business prospects. This revised
forecast took into consideration recently cancelled and postponed projects.
The revised forecast estimated future cash flows, undiscounted, of $3.8
million, significantly lower than what we had previously estimated future cash
flows to be. Since this amount was less than our carrying amount of Nova-Tech
goodwill, $3.9 million, an impairment was determined to exist. The revised
forecast estimated the present value of future cash flows to be $1.5 million.
Based upon this, we recognized an impairment charge of $2.4 million to reduce
the carrying value of Nova-Tech goodwill from approximately $3.9 million to
approximately $1.5 million.

Net Interest Expense. Net interest expense increased $1.7 million, or 21.0%,
to $9.9 million for fiscal 2000 from $8.1 million in fiscal 1999. This
increase was primarily due to a full year of interest expense associated with
our 111⁄4% senior subordinated debt, and higher average outstanding balances
on our revolving lines of credit.

Other Income (Expense). Other income (expense) represents non-recurring and
non-operational income and expense for the period. Other expense decreased
$6.4 million from $6.4 million expense in fiscal 1999 to other income of
$33,000 in fiscal 2000. Prior year other expense was primarily composed of a
non-cash charge related to the write down of our investment in the shares of
Orca Technologies, Inc. common stock.

Extraordinary Item. In March 2000, we exchanged an aggregate of $11.3 million
in original principal amount of our 111⁄4% senior subordinated notes for a
total of 2,902,806 shares of common stock. This exchange was accounted for as
an early extinguishment of debt, and as such, a net of tax gain of $703,000 has
been recorded in the accompanying financial statements as an extraordinary
item.

Net Income. Net income decreased $180,000, to a net loss of $13.0
million for fiscal 2000 from a net loss of $12.9 million in 1999, primarily as
a result of the factors discussed above.

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Adjusted EBITDA. Adjusted EBITDA decreased by $1.7, or 15.9%, to $9.0 million
for fiscal 2000 from $10.7 million in fiscal 1999. As a percentage of net
sales, adjusted EBITDA decreased to 8.0% in fiscal 2000 from 9.9% in fiscal
1999. The decrease in adjusted EBITDA as a percentage of net sales during this
period was primarily attributable to the decreased gross profit due to the
decline in commercial aerospace and transportation net sales.

Year Ended May 31, 1999 Compared to Year Ended May 31, 1998

Net Sales. Net sales increased by $53.3 million, or 98.5%, to $107.4 million
for fiscal 1999 from $54.1 million in fiscal 1998. The significant increase in
net sales for fiscal 1999 from fiscal 1998 included a significant net sales
contribution from our European Aerospace Group (a $52.8 million increase),
increase in electronic products in aerospace, satellite and weapons systems (a
$3.5 million increase), offset by a decrease in commercial aerospace and
transportation net sales (a $3.0 million decrease). The commercial aerospace
industry net sales decrease was primarily attributable to decreases in
production of certain aircraft models and inventory minimization initiatives at
Boeing.

We completed the acquisition of our European Aerospace Group in July 1998.
This acquisition expanded our operations to the European aerospace and defense
markets, as well as adding to our core competencies in casting and forming.
Accordingly, net sales for fiscal 1999 also included ten months of operations
of our European Aerospace Group, contributing $52.8 million in net sales.

Gross Profit. Gross profit increased by $6.5 million, or 44.5%, to $21.1
million for fiscal 1999 from $14.6 million in fiscal 1998. As a percentage of
net sales, gross profit decreased to 19.6% in fiscal 1999 from 27.0% in fiscal
1998. This percentage decrease was primarily attributable to three factors.
First, the addition of our European Aerospace Group caused consolidated average
margins to be lower since casting segment gross profits have been historically
lower, generally in the 18% to 22% range (gross profits on our European
Aerospace Groups net sales for fiscal 1999 were 20%). Second, commercial
aerospace net sales decreased during fiscal 1999; and third, we recorded
approximately $2.2 million in adjustments to inventories, which reduced gross
profits 2.1% for fiscal 1999.

Operating Expenses. Operating expenses increased by $12.1 million, or
122.2%, to $22.0 million for fiscal 1999 from $9.9 million in fiscal 1998. The
acquisition of our European Aerospace Group added $2.7 million, corporate
operational costs added $2.5 million, $2.2 million was attributable to general
cost

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increases in operating businesses, and $4.7 million was due to non-cash
impairment of long-lived assets, primarily goodwill.

Net Interest Expense. Net interest expense increased $7.4 million, or 980%,
to $8.1 million for fiscal 1999 from $755,000 in fiscal 1998. This increase
was primarily due to our financing of the Aeromet acquisition of our European
Aerospace Group in July 1998 with the issuance of $75.0 million of 111⁄4%
senior subordinated notes (a $7.7 million increase in interest expense and the
associated amortization of issuance costs).

Other Income (Expense). Other income (expense) represents non-recurring and
non-operational income and expense for the period. Other expense increased to
$6.4 million in fiscal 1999 from $853,000 in fiscal 1998. This increase of
$5.5 million was due principally to a $7.8 million write down of our investment
in shares of Orca Technologies, Inc. common stock.

Net Income. Net income decreased $16.5 million, to a $12.9 million loss for
fiscal 1999 from a $3.6 million profit in 1998, primarily as a result of the
factors discussed above.

Adjusted EBITDA. Adjusted EBITDA increased by $3.7, or 53.6%, to $10.7
million for fiscal 1999 from $6.9 million in fiscal 1998. As a percentage of
net sales, adjusted EBITDA decreased to 9.9% in fiscal 1999 from 12.8% in
fiscal 1998. The decrease in adjusted EBITDA as a percentage of net sales
during this period was primarily attributable to $2.2 million in adjustments to
inventories recorded during the year and the decreased gross profit due to the
decline in commercial aerospace net sales.

Liquidity and Capital Resources

Cash used in operating activities was $1.6 million for the year ended May 31,
2001, compared to cash used in operating activities of $5.2 million for the
year ended May 31, 2000. The change in cash used in operating activities was
primarily a result of decreasing accounts receivable and inventory balances and
increasing accounts payable and accrued liability balances. Our success as a
company will depend heavily on our ability to generate cash from operating
activities in the future. We can offer no assurance that we will achieve
profitable operations or that any profitable operations will be sustained. We
are continuing to focus on initiatives that specifically address the need to
increase cash provided by operating activities. Some of these initiatives have
been completed, such as the closure of our Sedro-Woolley fabrication operations
and the sale of our U.S. casting operations, both of which provided negative
cash

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flow from operating activities. Other initiatives include, but are not limited
to, staff reductions, selling of excess inventory, and general and
administrative cost controls. We continue to reduce staffing at our operating
units to better match revenue levels, and we have significantly reduced staff
at our corporate headquarters to reduce indirect overhead costs. We are
attempting to sublease all or portions of unused facility space. If we are not
successful in increasing cash provided by operating activities, we may need to
sell additional common stock or other securities, or we may need to sell assets
outside of the ordinary course of business in order to meet our obligations.
There is no assurance that we will be able to sell additional equity securities
or that we will be able to sell assets outside the ordinary course of business
for amounts in excess of book value. In that situation, our inability to
obtain sufficient cash if and when needed could have a material adverse effect
on our financial position, the results of our operations, and our ability to
continue as a going concern.

Our existing cash and credit facilities will not be sufficient to meet our
obligations as they become due. Consequently, we will need to obtain
additional cash. Our actual cash needs will depend primarily on the amount of
cash generated from or used by operations and financing activities. We cannot
predict accurately the amount or timing of our future cash needs. We did not
make a semi-annual interest payment of approximately $3.6 million on our
111⁄4% senior subordinated note that was due on August 1, 2001, and we will
not be able to make that payment before expiration of the 30-day grace period
that expires on August 31, 2001. As a result, we expect an event of default to
occur under those notes. Such an event of default would also cause events of
default under certain of our other debt instruments, including our 18% senior
secured loan. In addition, we may currently be in default under our 18% senior
secured loan for failure to make the August 1, 2001 interest payment on our
111⁄4% senior subordinated notes. To date, our secured lenders have not
exercised any remedies with respect to any possible default, but we can provide
no assurance that they would not exercise their remedies as a result of any
default. Possible remedies include acceleration of the due dates of our debt.
We are currently in negotiations with the holders of approximately 98% of our
111⁄4% senior subordinated notes regarding a possible restructuring of the
Companys debt and equity structure. We did not make our February 1, 2001
interest payment on those notes until March 2, 2001, which was one day before
expiration of the 30-day grace period. We made the interest payment from the
proceeds of an approximately $13.8 million senior secured loan that closed on
March 1, 2001. The March 1, 2001 loan bears interest at 18% per annum, payable
quarterly. To date, we have made interest payments on the 18% senior secured
loan on time. We have the option to defer and accrue a portion of the
quarterly interest payments, up to 11⁄4% per quarter, for up to a year at the
time of any interest payment. We exercised this right for our interest
payments made in March and June 2001. We do not currently have sufficient cash
to make the September 30, 2001

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interest payment on our 18% senior secured loan, and we will need to raise
additional cash to make that payment. We have been notified by one of our
secured lenders that we are not in compliance with certain covenants of loans
that are secured by a deed of trust on our headquarters building and other
assets. The lender has, to date, agreed not to exercise its remedies, but we
can offer no assurance that the lender will continue to forbear until we can
regain compliance with those covenants, if at all. We need to raise additional
cash to make future payments on our debt and to fund our operations. If we are
unable to obtain sufficient cash when needed to fund our operations, to make
our loan payments, and to pay our other obligations when due, we may be forced
to seek protection from creditors under the bankruptcy laws.

Cash used in investing activities decreased from $7.7 million for the year
ended May 31, 2000 to $1.5 million during the year ended May 31, 2001. In
fiscal year 2001 we made cash investments for the acquisition of equipment of
$3.7 million offset by $2.3 million of cash from the sale of assets, primarily
an unused building and unused vacant land. We expect to reduce the amount of
capital expenditures in fiscal year 2002 and we do not expect to acquire any
new businesses during fiscal year 2002.

Cash generated from financing activities decreased from $6.8 million during the
year ended May 31, 2000 to $5.3 million during the year ended May 31, 2001.
Financing activities during fiscal 2001 included net proceeds from the issuance
of common stock and warrants, $1.9 million, and borrowing under our 18% senior
secured notes of approximately $13.8 million. Approximately, $9.3 million of
the 18% senior secured notes was used to directly refinance certain short-term
obligations, including our bank line of credit and accrued interest on our
111⁄4% senior subordinated notes.

At May 31, 2000, our primary banking relationships included a revolving line of
credit of up to $6.3 million in the U.S. and a revolving line of credit of up
to approximately $5.0 million (£3.5 million) in the U.K. Both of these credit
facilities have been replaced with a senior secured term loan of $13.8 million
from four institutional lenders. The loan bears interest at 18% per annum,
payable quarterly, and has a two-year term. We have the right to defer and
accrue a portion of the interest on the loan, up to 11⁄4% per quarter, for up
to a year at the time of any interest payment. The loan is secured by our
assets, the assets of our United States subsidiaries, and other intangibles.
This senior secured loan is a term loan rather than a revolving loan. As a
result, if we make payments of principal before the loans maturity, additional
loan proceeds will not become available, and the loan will not provide an
additional source of cash to fund our operations or to meet our obligations as
they become due.

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Our working capital as of May 31, 2001 and May 31, 2000 was $25.0 million and
$29.2 million, respectively. The decrease in working capital was primarily
caused by continued losses, increasing accounts payable and accrued liability
balances, and decreasing accounts receivable and inventory balances. The
working capital decrease was partially offset by the refinancing of certain
short-term obligations, our line of credit, and accrued interest on our
111⁄4% senior subordinated notes, with our 18% senior secured loan, which is
long-term debt. If we are not able to increase our cash from operations,
increase net income, and secure additional long-term financing or sell
additional equity, our working capital will decline during fiscal year 2002.

Our consolidated financial statements have been prepared assuming that we will
continue as a going concern. However, our independent auditors in their report
accompanying our audited consolidated financial statements stated that we have
suffered recurring losses from operations which raise substantial doubt about
our ability to continue as a going concern. Our consolidated financial
statements do not include any adjustments that might result from the outcome of
that uncertainty. If we are not sufficiently successful in generating cash
from operating activities, we may need to sell additional common stock or other
securities, or we may need to sell assets outside the ordinary course of
business. If we need to dispose of assets outside of the ordinary course of
business to generate cash, we may not be able to realize the carrying value of
those assets upon liquidation. If we are unable to generate the necessary
cash, we could be unable to continue operations.

The functional currency of our European Aerospace Group is the British pound
sterling. We translate the activity of our European Aerospace Group into U.S.
dollars on a monthly basis. The balance sheet of the European Aerospace Group
is translated using the exchange rate as of the date of the balance sheet, and
for purposes of the statement of operations and statement of cash flows we use
the average exchange rate for the period. The value of our assets,
liabilities, revenue, and expenses may vary materially from one reporting
period to the next solely as a result of varying exchange rates. During the
year ended May 31, 2001, the foreign currency translation adjustment was
negative $2.9 million. We have not entered into any hedging activity as of May 31, 2001.

Significant Events

Equity Financing  Sale of Common Stock

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In July 2000, we closed the first of two proposed installments of a $3.5
million private placement of common stock to two accredited investors. On that
date, we issued 1,142,860 shares of common stock and certain adjustable,
vesting, and closing warrants to purchase additional shares to the investors
for a gross amount of $2.0 million. We filed a registration statement on Form
S-3 with the Securities and Exchange Commission to register the resale of the
shares of common stock issued at closing and issuable upon exercise of closing
warrants (the Registration Statement). If the Registration Statement had
become effective within 60 days after the first closing a second closing would
have occurred and the investors would have paid an additional $1.5 million and
received 857,140 additional shares of common stock. However, the Registration
Statement did not become effective within 60 days of the first closing and
consequently the second installment did not close. The adjustable warrants
permitted the investors to acquire additional shares of common stock at an
exercise price of $.001 per share if the market price of our common stock did
not achieve and maintain a specific price during each of the three vesting
periods. In February 2001, we negotiated an amendment to the adjustable
warrants, which replaced the variable amount of shares to be acquired with a
fixed number of shares, and the investors exercised the adjustable warrants in
full, as so amended, for the exercise price of $.001 per share. As a result of
the exercise, we delivered to the investors a total of 4,190,486 shares of
common stock. We filed a registration statement on Form S-3 with the
Securities and Exchange Commission to register the common stock so issued. We
believe that all but 77 of these shares were resold into the public market.
The vesting warrants issued under the transaction expired unexercised during
February 2001. The closing warrants that entitle the investors to purchase an
additional 385,000 shares of our common stock at an exercise price of $2.01 per
share remain unexercised and outstanding. The closing warrants expire in July
2003. We paid a commission to the placement agent comprised of $80,000 in cash
and warrants to purchase 79,150 shares of common stock at $1.7688 per share.

Sales of Assets

During our third quarter ended February 28, 2001, we sold our building in
Butler, New Jersey that was previously used as a manufacturing site by our
Interconnect Division. Net proceeds from the sale of the building were
approximately $660,000, versus a carrying amount of approximately $980,000, and
we recorded the resultant loss of $320,000 as an operating expense in our
consolidated financial statements. We also sold a parcel of land located near
our Wenatchee campus. The selling price and carrying value of the land and
improvements were both approximately $930,000. During our fourth quarter ended
May 31, 2001, we sold substantially all of the assets used in the fabrication
portion of our U.S. Aerospaces Groups Engineering & Fabrication Division.
The selling price of the assets was approximately

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$250,000. Within the U.S. Electronic Groups Display Division we sold the
equipment, inventory, and intellectual property used to produce low power
relays during the fourth quarter of fiscal year 2001. Gross proceeds from the
sale were $400,000.

Potential Sale of the European Aerospace Group

On October 31, 2000, we announced our intention to sell our European Aerospace
Group in order to reduce our outstanding 111⁄4% senior subordinated notes.
As of May 31, 2001, we had approximately $64 million in principal amount of
111⁄4% senior subordinated notes outstanding. Because we are in the process
of seeking buyers for our European Aerospace Group, we do not know whether we
will be successful in selling that group and, if successful, we do not know the
amount of net proceeds that would be available to reduce our 111⁄4% senior
subordinated notes or our approximately $13.7 million of 18% senior secured
notes. We are required to pay our senior secured lenders at least $7.5 million
upon the sale of our European Aerospace Group. Although at this time we have
not committed to the sale of the group, we have received several bona-fide
preliminary and final offers to purchase the group. If these offers
approximate the final negotiated sales price for the group and we commit to the
sale of the group, the offers indicate that we will incur an impairment loss
related to goodwill and equipment of approximately $37 million. Consequently,
we recorded an impairment loss related to our European Aerospace Group goodwill
of $25 million for the quarter ended February 28, 2001, and an additional
impairment loss of $12 million related to goodwill and equipment for the
quarter ended May 31, 2001. We are still in the process of selling the
European Aerospace Group and hope to have the sale finalized during our first
or second quarter of fiscal year 2002.

18% Senior Secured Loan

On March 1, 2001, we borrowed approximately $13.8 million from four
institutional lenders. The loan bears interest at 18% per annum, payable
quarterly, and has a two-year term. We have the right to defer and accrue a
portion of the interest on the loan, up to 11⁄4% per quarter, for up to a
year at the time of any interest payment. We exercised this right for our
interest payments made in March and June 2001. The loan is secured by our
assets, the assets of our U.S. subsidiaries, the common stock of all our
operating subsidiaries, and other intangibles. We have used approximately $9.5
million of the proceeds from the loan to repay our revolving line of credit in
the U.S. and to pay the interest payment on our 111⁄4% senior subordinated
notes that was due on February 1, 2001. The remaining portion of the proceeds
from the secured loans has been used to repay other indebtedness, to pay the
costs related to the loan transaction,

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and for general corporate purposes. In connection with the secured loan, we
issued warrants to purchase an aggregate of 4,036,978 shares of our common
stock at an exercise price of $.001 per share to the lenders. The value of
these warrants using the Black Scholes valuation model is $1.6 million at March 1,
2001, and is being amortized over the life of the loan using the straight
line method of amortization, as interest expense. In addition, we paid a
commission of approximately $415,000 to the placement agent that represented us
in the transaction, and we issued warrants to purchase up to 692,074 shares of
our common stock to the placement agent, at an exercise price of $.4062 per
share. The value of the placement agents warrants using the Black Scholes
valuation model is $250,000 and is being amortized over the life of the loan
using the straight line method of amortization, as interest expense.

New Accounting Pronouncements

In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 133, as amended, Accounting for
Derivative Instruments and Hedging Activities. SFAS No. 133 requires the
recognition of all derivatives in the consolidated balance sheet as either
assets or liabilities measured at fair value. We will adopt the provision of
SFAS No. 133 in the first quarter of fiscal year 2002. We do not expect that
the adoption of SFAS No. 133 will have a material impact on our consolidated
financial statements.

In July 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No.
142, Goodwill and Other Intangible Assets.SFAS No. 141 requires that all
business combinations be accounted for under a single method, the purchase
method. Use of the pooling-of-interests method no longer is permitted,
although poolings initiated prior to June 30, 2001 are grandfathered. SFAS No.
141 requires that the purchase method be used for business combinations
initiated after June 30, 2001. SFAS No. 142 requires that intangible assets
with indefinite lives and goodwill no longer be amortized to earnings, but
instead be reviewed for impairment. The amortization of intangible assets with
indefinite lives and goodwill ceases upon adoption of the Statement, which the
Company must adopt by June 1, 2002. Early adoption at June 1, 2001, is
allowed. SFAS No. 142 also requires an evaluation of intangible assets and
their useful lives and a transitional impairment test for certain intangible
assets and goodwill. After transition, the impairment tests are to be
performed annually. As of May 31, 2001, the Company had unamortized costs in
excess of book value of acquired subsidiaries of $351,000 and patents of
$735,000, which will be subject to the transition provisions of SFAS No. 141
and 142. We do not expect that the adoption of SFAS No. 141 and 142 will have
a material impact on our consolidated financial statements.

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Subsequent Event

Effective June 1, 2001, we sold substantially all of the assets of the U.S.
Aerospace Groups Casting Division location in Entiat, Washington to two newly
formed limited liability companies owned by a private company. The purchase
price was approximately $4.6 million, which consisted of approximately $1.5
million in cash (including $160,000 to be paid into escrow by the purchasers
within 120 days after closing and held for possible post-closing adjustments),
a $1.0 million long-term note payable to Pacific Aerospace, units in the newly
created limited liability companies valued by the parties at $1.0 million, and
the assumption of $1.1 million in liabilities. We used the cash proceeds to
retire certain long-term debt related to the Entiat assets and to pay closing
costs related to the transaction. The long-term note bears interest at 7% and
is payable in quarterly installments, interest only for the first year and then
principal and interest for five additional years. Due to the uncertainties of
payment under this note, we have fully reserved against it as of the closing
date and it is not shown as an asset on our balance sheet. The units in the
newly created limited liability companies have certain preferential rights,
including an accumulating preferred return equal to 5% of the par value of then
outstanding units and put rights subject to certain restrictions and
limitations. Due to the inability to accurately estimate the fair market value
of the units, and the uncertainty surrounding any such value, we have assigned
no value to the units for financial statement purposes.

See also Note 24(b) in the Notes to Consolidated Financial Statements contained
in Item 8 for additional subsequent events.

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ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We have financial instruments that are subject to interest rate risk, primarily
debt obligations issued at a fixed rate and variable rates. Our fixed-rate
debt obligations are generally not callable until maturity and therefore market
fluctuations in interest rates will not affect our earnings for the period.
Our variable rate debt obligations represent approximately 2% of our total debt
obligations. Based upon these facts, we do not consider the market risk
exposure for interest rates to be material. The fair value of such instruments
approximates their face value, except for our 111⁄4% senior subordinated
notes, which as of May 31, 2001, we believe were trading on the open market for
approximately 50% of face value.

We are subject to foreign currency exchange rate risk relating to receipts from
and payments to suppliers in foreign currencies. Since approximately 47% of
our transactions are conducted in foreign currency, the exchange rate risk
could be material. During fiscal years 1999, 2000 and 2001, the foreign
currency translation adjustments were losses of $1.1 million, $5.1 million and
$2.9 million, net of tax, respectively. We have not entered into any hedging
activity as of May 31, 2001.

We are exposed to commodity price fluctuations through purchases of aluminum,
titanium, and other raw materials. We enter into certain supplier agreements
that guarantee quantity and price of the applicable commodity to limit the
exposure to commodity price fluctuations and availability concerns. At May 31,
2001, we had purchase commitments for raw materials aggregating approximately
$1.7 million. This amount relates to a titanium supply agreement with a fixed
price. This commitment at May 31, 2001 represented less than 2% of our
consolidated cost of goods sold for fiscal 2001.

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ITEM 8.  FINANCIAL STATEMENTS

INDEPENDENT AUDITORS REPORT

The Board of Directors
Pacific Aerospace & Electronics, Inc.:

We have audited the accompanying consolidated balance sheets of Pacific
Aerospace & Electronics, Inc. as of May 31, 2000 and 2001, and the related
consolidated statements of operations and comprehensive loss, stockholders
equity (deficit) and cash flows for each of the years in the three-year period
ended May 31, 2001. These consolidated financial statements are the
responsibility of the Companys management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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 report dated July 27, 2001, we did not express an opinion on the 2001
consolidated financial statements due to material uncertainties relating to the
Companys ability to continue as a going concern. As disclosed in note 24(b) to
the consolidated financial statements, during March 2002, the Company entered
into a restructuring transaction which exchanged certain debt for new debt with
more favorable terms, preferred stock, and common stock. Accordingly, our
present opinion on the 2001 consolidated financial statements, as presented
herein, is different from our previous report.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Pacific Aerospace &
Electronics, Inc. as of May 31, 2000 and 2001, and the results of their
operations and their cash flows for each of the years in the three-year period
ended May 31, 2001, in conformity with accounting principles generally accepted
in the United States of America.

The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in note 3 to
the consolidated financial statements, the Company has

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suffered recurring losses from operations and has a net capital deficiency at
May 31, 2001, that raise substantial doubt about its ability to continue as a
going concern. Managements plans in regard to these matters are also
described in notes 3 and 24b. The consolidated financial statements do not
include any adjustments that might result from the outcome of this uncertainty.

/s/   KPMG LLP

Seattle, Washington
July 27, 2001, except as to note 24b which is as of May 17, 2002

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES

Consolidated Balance Sheets
May 31, 2000 and 2001

|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |              |             |  
|----------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------ | ----------- | ----------- | ---------- | ---- | ---------- | ------------ | ----------- | -
|                                                |                                                                                                                                                                         |                                      |             | 2000        |            | 2001
|                                                |                                                                                                                                                                         |                                      |             |             |            |     
|Assets                                         
|Current assets:                                 |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                | Cash and cash equivalents                                                                                                                                               |                                      | $           | 2,154,000   |            |      |            | 4,095,000    |            
|                                                | Accounts receivable, net of allowance for doubtful accounts, sales
returns and allowances of $619,000 in 2000 and $451,000 in 2001                                      |                                      |             | 21,210,000  |            |      |            | 19,101,000   |            
|                                                | Inventories                                                                                                                                                             |                                      |             | 27,849,000  |            |      |            | 22,994,000   |            
|                                                | Deferred income taxes                                                                                                                                                   |                                      |             | 872,000     |            |      |            | 115,000      |            
|                                                | Prepaid expenses and other                                                                                                                                              |                                      |             | 1,668,000   |            |      |            | 666,000      |            
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | Total current assets                 |             |             | 53,753,000 |      |            |              | 46,971,000  |  
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|Property, plant and equipment, net              |                                                                                                                                                                         |                                      | 44,076,000  |             |            |      | 26,754,000 |             
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|Other assets:                                   |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                | Costs in excess of net book value of acquired subsidiaries, net of
accumulated amortization of $2,659,000 in 2000 and $202,000 in 2001                                  |                                      |             | 38,291,000  |            |      |            | 351,000      |            
|                                                | Patents, net of accumulated amortization of $509,000 in 2000
and $428,000 in 2001                                                                                       |                                      |             | 1,158,000   |            |      |            | 735,000      |            
|                                                | Deferred financing costs, net of accumulated amortization of
$1,433,000 in 2000 and $2,477,000 in 2001                                                                  |                                      |             | 3,597,000   |            |      |            | 5,597,000    |            
|                                                | Deferred income taxes                                                                                                                                                   |                                      |             | 2,303,000   |            |      |            |             |            
|                                                | Other                                                                                                                                                                   |                                      |             | 404,000     |            |      |            | 408,000      |            
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | Total other assets                   |             |             | 45,753,000 |      |            |              | 7,091,000   |  
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | $                                    | 143,582,000 |             |            |      | 80,816,000 |             
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|Liabilities and Stockholders Equity (Deficit)  |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|Current liabilities:                            |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                | Accounts payable                                                                                                                                                        |                                      | $           | 10,630,000  |            |      |            | 12,639,000   |            
|                                                | Accrued liabilities                                                                                                                                                     |                                      |             | 4,589,000   |            |      |            | 5,209,000    |            
|                                                | Accrued interest                                                                                                                                                        |                                      |             | 2,372,000   |            |      |            | 2,831,000    |            
|                                                | Current portion of long-term debt                                                                                                                                       |                                      |             | 1,098,000   |            |      |            | 929,000      |            
|                                                | Current portion of capital lease obligations                                                                                                                            |                                      |             | 504,000     |            |      |            | 329,000      |            
|                                                | Line of credit                                                                                                                                                          |                                      |             | 5,379,000   |            |      |            |             |            
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | Total current liabilities            |             |             | 24,572,000 |      |            |              | 21,937,000  |  
|Long-term liabilities:                          |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                | Long-term debt, net of current portion                                                                                                                                  |                                      |             | 4,161,000   |            |      |            | 16,969,000   |            
|                                                | Capital lease obligations, net of current portion                                                                                                                       |                                      |             | 1,065,000   |            |      |            | 1,005,000    |            
|                                                | Senior subordinated notes payable                                                                                                                                       |                                      |             | 63,700,000  |            |      |            | 63,700,000   |            
|                                                | Deferred income taxes                                                                                                                                                   |                                      |             |            |            |      |            | 2,077,000    |            
|                                                | Deferred rent and other                                                                                                                                                 |                                      |             | 316,000     |            |      |            | 242,000      |            
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | Total liabilities                    |             |             | 93,814,000 |      |            |              | 105,930,000 |  
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|Stockholders equity (deficit):                 |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                | Series B convertible preferred stock, $0.001 par value, 5,000,000 shares
authorized, 34,529 and no shares issued and outstanding at May 31, 2000
and 2001, respectively |                                      |             |            |            |      |            |             |            
|                                                | Common stock, $0.001 par value, 100,000,000 shares authorized,
30,283,621 and 38,833,151 shares issued and outstanding at
May 31, 2000 and 2001, respectively           |                                      |             | 30,000      |            |      |            | 39,000       |            
|                                                | Additional paid-in capital                                                                                                                                              |                                      |             | 83,173,000  |            |      |            | 86,917,000   |            
|                                                | Accumulated other comprehensive loss                                                                                                                                    |                                      |             | (6,250,000  | )          |      |            | (9,165,000   | )          
|                                                | Accumulated deficit                                                                                                                                                     |                                      |             | (27,185,000 | )          |      |            | (102,905,000 | )          
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | Total stockholders equity (deficit) |             |             | 49,768,000 |      |            |              | (25,114,000 | )
|Commitments, contingencies and subsequent event |                                                                                                                                                                         |                                      |            |             |            |      |           |             
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             
|                                                |                                                                                                                                                                         | $                                    | 143,582,000 |             |            |      | 80,816,000 |             
|                                                |                                                                                                                                                                         |                                      |             |             |            |      |            |             

See accompanying notes to consolidated financial statements.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES

Consolidated Statements of Operations and Comprehensive Loss
Years ended May 31, 1999, 2000 and 2001

|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |             |   |             |  
|------------------------------------------ | ---------------------------- | - | --------------------------------------------------------------- | ---------- | ---- | ----------- | ----------- | ---------- | ---- | ----------- | ----------- | ----------- | - | ----------- | -
|                                           |                              |   |                                                                 |            | 1999 |             | 2000        |            | 2001
|                                           |                              |   |                                                                 |            |      |             |             |            |     
|Net sales                                  |                              | $ | 107,366,000                                                     |            |      |             | 112,694,000 |            |      |             | 109,288,000 |            
|Cost of sales                              |                              |   | 86,302,000                                                      |            |      |             | 92,063,000  |            |      |             | 101,048,000 |            
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           |                              |   | Gross profit                                                    |            |      | 21,064,000  |             |            |      | 20,631,000  |             |             |   | 8,240,000   |  
|Operating expenses                         |                              |   | 22,039,000                                                      |            |      |             | 24,533,000  |            |      |             | 67,201,000  |            
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           |                              |   | Loss from operations                                            |            |      | (975,000    | )           |            |      | (3,902,000  | )           |             |   | (58,961,000 | )
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|Other income (expense):                    |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           | Interest income              |   |                                                                 | 532,000    |      |             |             | 97,000     |      |             |             | 15,000      |  
|                                           | Interest expense             |   |                                                                 | (8,672,000 | )    |             |             | (9,959,000 | )    |             |             | (10,027,000 | )
|                                           | Other                        |   |                                                                 | (6,393,000 | )    |             |             | 33,000     |      |             |             | 201,000     |  
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           |                              |   | Total other expense                                             |            |      | (14,533,000 | )           |            |      | (9,829,000  | )           |             |   | (9,811,000  | )
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           |                              |   | Loss before income tax benefit (expense)
and extraordinary item |            |      | (15,508,000 | )           |            |      | (13,731,000 | )           |             |   | (68,772,000 | )
|Income tax benefit (expense)               |                              |   | 2,639,000                                                       |            |      |             | (21,000     | )          |      |             | (6,948,000  | )          
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           |                              |   | Loss before extraordinary item                                  |            |      | (12,869,000 | )           |            |      | (13,752,000 | )           |             |   | (75,720,000 | )
|Extraordinary item, net of tax of $362,000 |                              |   |                                                                |            |      |             | 703,000     |            |      |             |            |            
|                                           |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           |                              |   | Net loss                                                        |            |      | (12,869,000 | )           |            |      | (13,049,000 | )           |             |   | (75,720,000 | )
|Other comprehensive loss:                  |                              |   |                                                                 |            |      |             |             |            |      |             |             |            
|                                           | Foreign currency translation |   |                                                                 | (1,727,000 | )    |             |             | (4,523,000 | )    |             |             | (2,915,000  | )

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|                                                  |                                            |         |                                |         |            |             |      |          |            |             |   |       |            |             |  
|------------------------------------------------- | ------------------------------------------ | ------- | ------------------------------ | ------- | ---------- | ----------- | ---- | -------- | ---------- | ----------- | - | ----- | ---------- | ----------- | -
|                                                  |                                            |         |                                |         | 1999       |             | 2000 |          | 2001      
|                                                  |                                            |         |                                |         |            |             |      |          |           
|                                                  | Income tax benefit (expense)               |         |                                | 587,000 |            |             |      | (587,000 | )          |             |   |      |           
|                                                  | Valuation of available for sale securities |         |                                | 436,000 |            |             |      |         |            |             |   |      |           
|                                                  |                                            |         |                                |         |            |             |      |          |            |             |   |      
|                                                  |                                            |         | Total other comprehensive loss |         |            | (704,000    | )    |          |            | (5,110,000  | ) |       |            | (2,915,000  | )
|                                                  |                                            |         |                                |         |            |             |      |          |            |             |   |      
|                                                  |                                            |         | Comprehensive loss             |         | $          | (13,573,000 | )    |          |            | (18,159,000 | ) |       |            | (78,635,000 | )
|                                                  |                                            |         |                                |         |            |             |      |          |            |             |   |      
|Net loss per share:                               |                                            |         |                                |         |            |             |      |          |            |             |   |      
|                                                  | Basic                                      |         | $                              | (0.74   | )          |             |      | (0.59    | )          |             |   | (2.15 | )         
|                                                  | Diluted                                    |         |                                | (0.74   | )          |             |      | (0.59    | )          |             |   | (2.15 | )         
|Shares used in computation of net loss
per share: |                                            |         |                                |         |            |             |      |          |            |             |   |      
|                                                  |                                            | Basic   |                                |         | 17,359,491 |             |      |          | 21,955,473 |             |   |       | 35,283,347 |            
|                                                  |                                            | Diluted |                                |         | 17,359,491 |             |      |          | 21,955,473 |             |   |       | 35,283,347 |            

See accompanying notes to consolidated financial statements.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES

Consolidated Statements of Stockholders Equity (Deficit)
Years ended May 31, 1999, 2000 and 2001

|                                                                                                     |  |                             |          |              |  |            |   |        |  |         |            |   |  |   |        |  |  |  |            |  
|---------------------------------------------------------------------------------------------------- |  | --------------------------- | -------- | ------------ |  | ---------- | - | ------ |  | ------- | ---------- | - |  | - | ------ |  |  |  | ---------- | -
|                                                                                                     |  | Series B                    |          |              |  |            |   |        |  |         |            |   |  |  
|                                                                                                     |  | convertible preferred stock |          | Common stock |  | Additional
|                                                                                                     |  |                             |          |              |  | paid-in   
|                                                                                                     |  | Shares                      |          | Amount       |  | Shares     |   | Amount |  | capital
|                                                                                                     |  |                             |          |              |  |            |   |        |  |        
|Balance at May 31, 1998                                                                              |  |                             | 100,000  |              |  | $          |  |        |  |         | 15,395,723 |   |  | $ | 15,000 |  |  |  | 57,830,000 |  
|Issuance of preferred stock, net of issuance
costs of $370,000                                       |  |                             | 70,000   |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  | 6,630,000  |  
|Issuance of common stock for services                                                                |  |                             |         |              |  |            |  |        |  |         | 590,000    |   |  |   | 1,000  |  |  |  | 1,769,000  |  
|Cancellation of warrants                                                                             |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  | (360,000   | )
|Valuation of available for sale securities                                                           |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|Foreign currency translation adjustment, net of tax effect
of $587,000                               |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|Issuance of common stock on conversion of Series B
preferred stock                                   |  |                             | (8,965   | )            |  |            |  |        |  |         | 545,114    |   |  |   |       |  |  |  |           |  
|Issuance of common stock under employee stock
purchase plan, net of related expenses of $4,000       |  |                             |         |              |  |            |  |        |  |         | 41,942     |   |  |   |       |  |  |  | 72,000     |  
|Sale of common stock for cash, net of issuance
costs of $344,000                                     |  |                             |         |              |  |            |  |        |  |         | 2,585,000  |   |  |   | 3,000  |  |  |  | 4,823,000  |  
|Common shares redeemed in connection with a prior
acquisition                                        |  |                             |         |              |  |            |  |        |  |         | (225,000   | ) |  |   |       |  |  |  | (1,488,000 | )
|Net loss                                                                                             |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|                                                                                                     |  |                             |          |              |  |            |   |        |  |         |            |   |  |   |        |  |  |  |            |  
|Balance at May 31, 1999                                                                              |  |                             | 161,035  |              |  |            |  |        |  |         | 18,932,779 |   |  |   | 19,000 |  |  |  | 69,276,000 |  
|Issuance of common stock under employee stock
purchase plan, net of related expenses of $12,000      |  |                             |         |              |  |            |  |        |  |         | 142,696    |   |  |   |       |  |  |  | 163,000    |  
|Sale of common stock for cash, net of issuance
costs of $788,000                                     |  |                             |         |              |  |            |  |        |  |         | 1,598,000  |   |  |   | 1,000  |  |  |  | 4,005,000  |  
|Issuance of warrants                                                                                 |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  | 60,000     |  
|Exercise of warrants for cash, net                                                                   |  |                             |         |              |  |            |  |        |  |         | 25,000     |   |  |   |       |  |  |  | 86,000     |  
|Issuance of common stock in exchange for senior
subordinated notes                                   |  |                             |         |              |  |            |  |        |  |         | 2,902,806  |   |  |   | 3,000  |  |  |  | 9,650,000  |  
|Issuance of common stock on conversion of Series B
preferred stock, net of issuance costs of $60,000 |  |                             | (126,506 | )            |  |            |  |        |  |         | 6,682,340  |   |  |   | 7,000  |  |  |  | (67,000    | )
|Foreign currency translation adjustment, net of
tax effect of $587,000                               |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|Net loss                                                                                             |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|                                                                                                     |  |                             |          |              |  |            |   |        |  |         |            |   |  |   |        |  |  |  |            |  
|Balance at May 31, 2000                                                                              |  |                             | 34,529   |              |  |            |  |        |  |         | 30,283,621 |   |  |   | 30,000 |  |  |  | 83,173,000 |  
|Issuance of common stock under employee stock
purchase plan, net of related expenses of $10,000      |  |                             |         |              |  |            |  |        |  |         | 407,090    |   |  |   | 1,000  |  |  |  | 167,000    |  
|Issuance of common stock on conversion of Series B
preferred stock, net of issuance costs of $18,000 |  |                             | (34,529  | )            |  |            |  |        |  |         | 2,809,094  |   |  |   | 3,000  |  |  |  | (21,000    | )
|Sale of common stock and warrants for cash, net of
issuance costs of $173,000                        |  |                             |         |              |  |            |  |        |  |         | 1,142,860  |   |  |   | 1,000  |  |  |  | 1,712,000  |  
|Exercise of warrants for cash, net                                                                   |  |                             |         |              |  |            |  |        |  |         | 4,190,486  |   |  |   | 4,000  |  |  |  |           |  
|Issuance of warrants                                                                                 |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  | 1,886,000  |  
|Foreign currency translation adjustment                                                              |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|Net loss                                                                                             |  |                             |         |              |  |            |  |        |  |         |           |   |  |   |       |  |  |  |           |  
|                                                                                                     |  |                             |          |              |  |            |   |        |  |         |            |   |  |   |        |  |  |  |            |  
|Balance at May 31, 2001                                                                              |  |                             |         |              |  | $          |  |        |  |         | 38,833,151 |   |  | $ | 39,000 |  |  |  | 86,917,000 |  
|                                                                                                     |  |                             |          |              |  |            |   |        |  |         |            |   |  |   |        |  |  |  |            |  

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|                                                                                                     |  |               |            |             |  |           |              |               |  |  |             |  
|---------------------------------------------------------------------------------------------------- |  | ------------- | ---------- | ----------- |  | --------- | ------------ | ------------- |  |  | ----------- | -
|                                                                                                     |  | Accumulated   |            |             |  |           |              | Total        
|                                                                                                     |  | other         |            |             |  |           |              | stockholders'
|                                                                                                     |  | comprehensive |            | Accumulated |  | equity   
|                                                                                                     |  | loss          |            | deficit     |  | (deficit)
|                                                                                                     |  |               |            |             |  |          
|Balance at May 31, 1998                                                                              |  |               | (436,000   | )           |  |           | (1,267,000   | )             |  |  | 56,142,000  |  
|Issuance of preferred stock, net of issuance
costs of $370,000                                       |  |               |           |             |  |           |             |               |  |  | 6,630,000   |  
|Issuance of common stock for services                                                                |  |               |           |             |  |           |             |               |  |  | 1,770,000   |  
|Cancellation of warrants                                                                             |  |               |           |             |  |           |             |               |  |  | (360,000    | )
|Valuation of available for sale securities                                                           |  |               | 436,000    |             |  |           |             |               |  |  | 436,000     |  
|Foreign currency translation adjustment, net of tax effect
of $587,000                               |  |               | (1,140,000 | )           |  |           |             |               |  |  | (1,140,000  | )
|Issuance of common stock on conversion of Series B
preferred stock                                   |  |               |           |             |  |           |             |               |  |  |            |  
|Issuance of common stock under employee stock
purchase plan, net of related expenses of $4,000       |  |               |           |             |  |           |             |               |  |  | 72,000      |  
|Sale of common stock for cash, net of issuance
costs of $344,000                                     |  |               |           |             |  |           |             |               |  |  | 4,826,000   |  
|Common shares redeemed in connection with a prior
acquisition                                        |  |               |           |             |  |           |             |               |  |  | (1,488,000  | )
|Net loss                                                                                             |  |               |           |             |  |           | (12,869,000  | )             |  |  | (12,869,000 | )
|                                                                                                     |  |               |            |             |  |           |              |               |  |  |             |  
|Balance at May 31, 1999                                                                              |  |               | (1,140,000 | )           |  |           | (14,136,000  | )             |  |  | 54,019,000  |  
|Issuance of common stock under employee stock
purchase plan, net of related expenses of $12,000      |  |               |           |             |  |           |             |               |  |  | 163,000     |  
|Sale of common stock for cash, net of issuance
costs of $788,000                                     |  |               |           |             |  |           |             |               |  |  | 4,006,000   |  
|Issuance of warrants                                                                                 |  |               |           |             |  |           |             |               |  |  | 60,000      |  
|Exercise of warrants for cash, net                                                                   |  |               |           |             |  |           |             |               |  |  | 86,000      |  
|Issuance of common stock in exchange for senior
subordinated notes                                   |  |               |           |             |  |           |             |               |  |  | 9,653,000   |  
|Issuance of common stock on conversion of Series B
preferred stock, net of issuance costs of $60,000 |  |               |           |             |  |           |             |               |  |  | (60,000     | )
|Foreign currency translation adjustment, net of
tax effect of $587,000                               |  |               | (5,110,000 | )           |  |           |             |               |  |  | (5,110,000  | )
|Net loss                                                                                             |  |               |           |             |  |           | (13,049,000  | )             |  |  | (13,049,000 | )
|                                                                                                     |  |               |            |             |  |           |              |               |  |  |             |  
|Balance at May 31, 2000                                                                              |  |               | (6,250,000 | )           |  |           | (27,185,000  | )             |  |  | 49,768,000  |  
|Issuance of common stock under employee stock
purchase plan, net of related expenses of $10,000      |  |               |           |             |  |           |             |               |  |  | 168,000     |  
|Issuance of common stock on conversion of Series B
preferred stock, net of issuance costs of $18,000 |  |               |           |             |  |           |             |               |  |  | (18,000     | )
|Sale of common stock and warrants for cash, net of
issuance costs of $173,000                        |  |               |           |             |  |           |             |               |  |  | 1,713,000   |  
|Exercise of warrants for cash, net                                                                   |  |               |           |             |  |           |             |               |  |  | 4,000       |  
|Issuance of warrants                                                                                 |  |               |           |             |  |           |             |               |  |  | 1,886,000   |  
|Foreign currency translation adjustment                                                              |  |               | (2,915,000 | )           |  |           |             |               |  |  | (2,915,000  | )
|Net loss                                                                                             |  |               |           |             |  |           | (75,720,000  | )             |  |  | (75,720,000 | )
|                                                                                                     |  |               |            |             |  |           |              |               |  |  |             |  
|Balance at May 31, 2001                                                                              |  |               | (9,165,000 | )           |  |           | (102,905,000 | )             |  |  | (25,114,000 | )
|                                                                                                     |  |               |            |             |  |           |              |               |  |  |             |  

See accompanying notes to consolidated financial statements.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES

Consolidated Statements of Cash Flows
Years ended May 31, 1999, 2000 and 2001

|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |             |           |            |            |  
|---------------------------------------------- | --------------------------------------------------------------------------- | ------------ | -------------------------------------------- | ----------------------------------------------------------- | --------- | ---------- | ----------- | ----------- | --------- | --------- | ---------- | ----------- | --------- | ---------- | ---------- | -
|                                               |                                                                             |              |                                              |                                                             |           | 1999       |             | 2000        |           | 2001     
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |          
|Cash flow from operating activities:           |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               | Net loss                                                                    |              | $                                            | (12,869,000                                                 | )         |            |             | (13,049,000 | )         |           |            | (75,720,000 | )        
|                                               | Adjustments to reconcile net loss to net
cash used in operating activities: |              |                                              |                                                             |           |            |             |             |           |           |            |             |          
|                                               |                                                                             |              | Depreciation and amortization                |                                                             |           | 6,705,000  |             |             |           | 7,741,000 |            |             |           | 7,334,000  |           
|                                               |                                                                             |              | Allowance on note receivable and guarantees  |                                                             |           | 2,884,000  |             |             |           |          |            |             |           |           |           
|                                               |                                                                             |              | Impairment of certain long lived assets      |                                                             |           | 3,275,000  |             |             |           | 5,304,000 |            |             |           | 48,946,000 |           
|                                               |                                                                             |              | Writedown of inventories                     |                                                             |           | 2,208,000  |             |             |           |          |            |             |           | 1,600,000  |           
|                                               |                                                                             |              | Realized loss on investment                  |                                                             |           | 4,943,000  |             |             |           | 19,000    |            |             |           |           |           
|                                               |                                                                             |              | Gain on early extinguishment of debt         |                                                             |           |           |             |             |           | (703,000  | )          |             |           |           |           
|                                               |                                                                             |              | Other nonoperating (income) expenses         |                                                             |           | 750,000    |             |             |           | (8,000    | )          |             |           | (144,000   | )         
|                                               |                                                                             |              | Income tax (benefit) expense                 |                                                             |           | (4,287,000 | )           |             |           | 151,000   |            |             |           | 5,844,000  |           
|                                               |                                                                             |              | Changes in operating assets and liabilities: |                                                             |           |            |             |             |           |           |            |             |           |            |           
|                                               |                                                                             |              |                                              | Accounts receivable                                         |           |            | (121,000    | )           |           |           | 3,250,000  |             |           |            | 1,661,000  |  
|                                               |                                                                             |              |                                              | Inventories                                                 |           |            | 543,000     |             |           |           | (3,072,000 | )           |           |            | 2,445,000  |  
|                                               |                                                                             |              |                                              | Prepaid expenses and other current assets                   |           |            | (421,000    | )           |           |           | (137,000   | )           |           |            | (347,000   | )
|                                               |                                                                             |              |                                              | Other assets                                                |           |            | 1,077,000   |             |           |           | (2,307,000 | )           |           |            | (114,000   | )
|                                               |                                                                             |              |                                              | Accounts payable, accrued liabilities and other liabilities |           |            | (5,059,000  | )           |           |           | (2,396,000 | )           |           |            | 6,895,000  |  
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               |                                                                             |              |                                              | Net cash used in operating activities                       |           |            | (372,000    | )           |           |           | (5,207,000 | )           |           |            | (1,600,000 | )
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|Cash flow from investing activities:           |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               | Acquisition of property, plant and equipment                                |              |                                              | (8,040,000                                                  | )         |            |             | (4,867,000  | )         |           |            | (3,710,000  | )        
|                                               | Acquisition of subsidiaries                                                 |              |                                              | (69,752,000                                                 | )         |            |             | (1,350,000  | )         |           |            |            |          
|                                               | Proceeds from sale of property, plant and equipment                         |              |                                              |                                                            |           |            |             |            |           |           |            | 2,254,000   |          
|                                               | Issuance of notes receivable                                                |              |                                              | (1,458,000                                                  | )         |            |             | (1,505,000  | )         |           |            |            |          
|                                               | Other changes, net                                                          |              |                                              | (24,000                                                     | )         |            |             | 49,000      |           |           |            | (20,000     | )        
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               |                                                                             |              |                                              | Net cash used in investing activities                       |           |            | (79,274,000 | )           |           |           | (7,673,000 | )           |           |            | (1,476,000 | )
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|Cash flow from financing activities:           |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               | Net borrowings (repayments) under line of credit                            |              |                                              | (1,511,000                                                  | )         |            |             | 5,218,000   |           |           |            | 319,000     |          
|                                               | Proceeds from long-term debt                                                |              |                                              | 72,160,000                                                  |           |            |             |            |           |           |            | 4,802,000   |          
|                                               | Payments on long-term debt and capital leases                               |              |                                              | (5,752,000                                                  | )         |            |             | (2,603,000  | )         |           |            | (1,698,000  | )        
|                                               | Proceeds from sale of common stock and warrants, net                        |              |                                              | 4,898,000                                                   |           |            |             | 4,169,000   |           |           |            | 1,863,000   |          
|                                               | Proceeds from sale of preferred stock, net                                  |              |                                              | 6,630,000                                                   |           |            |             | (60,000     | )         |           |            |            |          
|                                               | Proceeds from exercise of warrants                                          |              |                                              |                                                            |           |            |             | 86,000      |           |           |            | 4,000       |          
|                                               | Other changes, net                                                          |              |                                              |                                                            |           |            |             | 24,000      |           |           |            |            |          
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               |                                                                             |              |                                              | Net cash provided by financing activities                   |           |            | 76,425,000  |             |           |           | 6,834,000  |             |           |            | 5,290,000  |  
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               |                                                                             |              |                                              | Net increase (decrease) in cash and cash equivalents        |           |            | (3,221,000  | )           |           |           | (6,046,000 | )           |           |            | 2,214,000  |  
|Effect of exchange rates on cash               |                                                                             |              | (106,000                                     | )                                                           |           |            | 66,000      |             |           |           | (273,000   | )          
|Cash and cash equivalents at beginning of year |                                                                             |              | 11,461,000                                   |                                                             |           |            | 8,134,000   |             |           |           | 2,154,000  |            
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|Cash and cash equivalents at end of year       |                                                                             | $            | 8,134,000                                    |                                                             |           |            | 2,154,000   |             |           |           | 4,095,000  |            
|                                               |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|Supplemental cash flow:                        |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               | Cash paid during the year for:                                              |              |                                              |                                                             |           |            |             |             |           |           |            |             |          
|                                               |                                                                             | Interest     |                                              | $                                                           | 5,296,000 |            |             |             | 9,563,000 |           |            |             | 8,524,000 |           
|                                               |                                                                             | Income taxes |                                              |                                                             | 411,000   |            |             |             | 2,232,000 |           |            |             | 295,000   |           
|Acquisition of subsidiaries:                   |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               | Fair value of assets acquired and resulting goodwill, excluding cash        |              |                                              | 86,593,000                                                  |           |            |             | 9,801,000   |           |           |            |            |          
|                                               | Liabilities assumed                                                         |              |                                              | 16,811,000                                                  |           |            |             | 5,814,000   |           |           |            |            |          
|Noncash investing and financing activities:    |                                                                             |              |                                              |                                                             |           |            |             |             |           |           |            |            
|                                               | Seller financed acquisition of property, plant and equipment                |              |                                              | 241,000                                                     |           |            |             |            |           |           |            |            |          
|                                               | Conversion of notes and accrued interest to common stock                    |              |                                              |                                                            |           |            |             | 11,457,000  |           |           |            |            |          
|                                               | Short-term obligations refinanced with long-term debt                       |              |                                              |                                                            |           |            |             |            |           |           |            | 9,306,000   |          
|                                               | Reclassification of property, plant and equipment to other assets           |              |                                              | 1,217,000                                                   |           |            |             |            |           |           |            |            |          
|                                               | Issuance of warrants in connection with debt                                |              |                                              |                                                            |           |            |             |            |           |           |            | 1,886,000   |          

See accompanying notes to consolidated financial statements.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(1) |  | Description of Business and Basis of Presentation
|--- |  | -------------------------------------------------



| | (a) |  | Description of Business                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| | --- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | Pacific Aerospace & Electronics, Inc., headquartered in Wenatchee,
Washington, is an international engineering and manufacturing company
which develops, manufactures and markets high performance electronic
and metal components and assemblies for the aerospace, defense,
electronics, medical, energy, telecommunications, and transportation
industries. The consolidated financial statements include the accounts
of Pacific Aerospace & Electronics, Inc. and its wholly owned
subsidiaries (collectively, the Company).
|
| | (b) |  | Basis of Presentation                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|
| |     |  | These consolidated financial statements are prepared in accordance with
generally accepted accounting principles (GAAP) in the United States of
America (U.S.) and present the financial position, results of
operations and changes in financial position of the Company. All
material intercompany balances and transactions have been eliminated in
consolidation.                                                                                                                                                              
|
| |     |  | Certain 1999 and 2000 amounts have been reclassified to conform with
the 2001 presentation.                                                                                                                                                                                                                                                                                                                                                                                                                                        



|(2) |  | Summary of Significant Accounting Principles
|--- |  | --------------------------------------------



| | (a) |  | Cash and Cash Equivalents                                                                                                                                                                                            
| | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | Cash and cash equivalents consist of cash, demand deposits with banks
and highly liquid investments with maturity dates at purchase of three
months or less.                                                         
|
| | (b) |  | Inventories                                                                                                                                                                                                          
|
| |     |  | Inventories are stated at the lower of cost, primarily determined by
the first-in, first-out method, or market (replacement cost for raw
materials and net realizable value for work in progress and finished
goods).

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (c) |  | Property, Plant and Equipment                                                                                                                                                                                                                                                                                                                                                                                                                
| | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | Property, plant and equipment are stated at cost or fair market value
of the underlying assets. Property, plant and equipment under capital
leases are stated at the lower of the fair market value of the assets
or the present value of minimum lease payments at the inception of the
leases.                                                                                                                                             
|
| |     |  | Depreciation and amortization are calculated using the straight-line
method over the estimated useful lives of the owned assets ranging from
3 years for certain machinery and equipment to 40 years for certain
buildings. Property, plant and equipment held under capital leases are
amortized using the straight-line method over the shorter of the
estimated useful lives of the assets or the lease terms, ranging from 7
to 10 years.
|
| |     |  | Expenditures for maintenance and repairs are charged to expense as
incurred. Upon sale or retirement, the cost and related accumulated
depreciation or amortization is removed from the accounts and any
resulting gain or loss is reflected in other income or expense.                                                                                                                                                                     
|
| | (d) |  | Intangible Assets                                                                                                                                                                                                                                                                                                                                                                                                                            
|
| |     |  | Costs in excess of net book value of acquired subsidiaries are
amortized using the straight-line method over a period ranging from 10
to 40 years from the date of acquisition.                                                                                                                                                                                                                                                              
|
| |     |  | Patents are amortized using the straight-line method over the estimated
useful lives of the patents ranging from 10 to 17 years.                                                                                                                                                                                                                                                                                                             
|
| |     |  | Deferred financing costs were incurred in connection with certain debt
instruments and are being amortized using the straight-line method over
life of the related debt instruments, currently ranging from 2 to 15
years.                                                                                                                                                                                                                   
|
| | (e) |  | Impairment of Long-Lived Assets and Long-Lived Assets to Be
Disposed Of                                                                                                                                                                                                                                                                                                                                                                      
|
| |     |  | Long-lived assets and certain identifiable intangibles are reviewed for
impairment whenever events or changes in circumstances indicate that
the carrying amount of an asset may not be recoverable. Recoverability
of assets to be held and used is measured by a comparison of the
carrying amount of an asset to future net cash flows expected to be
generated by the asset. If such assets are considered                               

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |     |  | to be impaired, the impairment to be recognized is measured by the
amount by which the carrying amount of the assets exceed the fair value
of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | (f) |  | Revenue Recognition                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|
| |     |  | Revenue is primarily recognized when products are shipped to customers
and when services are performed. In certain instances the Company
recognizes revenues from long-term, fixed-price contracts on the
percentage of completion method measured by job progress. Contract
costs for long-term contracts include all direct material and labor
costs related to contract performance. Provisions for estimated losses
on uncompleted contracts are made in the period in which losses are
determined. Changes in job performance, job conditions, and estimated
profitability, including those arising from contract penalty
provisions, and final contract settlements may result in revisions to
costs and income and are recognized in the period in which the
revisions are determined. Profit incentives are included in revenue
when their realization is reasonably assured. When formal customer
approval is necessary, the Company defers revenue recognition until
such approval is received.
|
| | (g) |  | Research and Development                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|
| |     |  | Research and development costs are expensed as incurred and are
included in cost of sales.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|
| | (h) |  | Income Taxes                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|
| |     |  | The Company follows the asset and liability method of accounting for
income taxes. Under the asset and liability method of accounting for
income taxes, deferred tax assets and liabilities are recognized based
on the estimated future tax consequences attributable to differences
between the consolidated financial statement carrying amounts of
existing assets and liabilities and their respective tax bases.
Deferred tax assets and liabilities are measured using enacted tax
rates in effect for the year in which those temporary differences are
expected to be recovered or settled. The effect on deferred tax assets
and liabilities of a change in tax rates is recognized in the period
that includes the enactment date.                                                                                                                                                                                                                                                            

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (i) |  | Stock-Based Compensation                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
| | --- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | The Company follows the provisions of Statement of Financial Accounting
Standards (SFAS) No. 123, Accounting for Stock-Based Compensation.
This statement permits a company to choose either the fair-value method
or the Accounting Principles Board (APB) Opinion No. 25, Accounting for
Stock Issued to Employees, intrinsic-value based method of accounting
for stock-based compensation arrangements. SFAS No. 123 requires pro
forma disclosure of net income (loss) and earnings (loss) per share
computed as if the fair-value based method had been applied in
financial statements of companies that continue to account for such
arrangements under APB Opinion No. 25. The Company has elected to
continue to record stock-based compensation using the APB Opinion No.
25 intrinsic-value-based method and, therefore, the adoption of SFAS
No. 123 has not significantly impacted the Companys financial
positions, results of operations, or liquidity.
|
| | (j) |  | Net Loss Per Share                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|
| |     |  | Basic loss per share is computed using the weighted average number of
common shares outstanding during the period. Diluted loss per share is
computed using the weighted average number of common and dilutive
common equivalent shares outstanding during the period using the
treasury stock method. As the Company had a net loss for the years
ended May 31, 1999, 2000 and 2001, basic and diluted net loss per share
are the same.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|
| | (k) |  | Foreign Currency                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|
| |     |  | The functional currency of the Companys foreign subsidiaries is the
local currency of the country in which the subsidiary is incorporated.
Assets and liabilities of foreign operations are translated into U.S.
dollars using rates of exchange in effect at the end of the reporting
period. Income and expense accounts are translated into U.S. dollars
using average rates of exchange during the reporting period. The net
gain or loss resulting from translation is shown as a foreign currency
translation adjustment and is included in accumulated other
comprehensive income (loss) in stockholders equity. Gains and losses
from foreign currency transactions are included in other income or
expense in the consolidated statements of operations. There were no
significant foreign currency transaction gains or losses for the years
ended May 31, 1999, 2000 and 2001.                                                                             

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (l) |  | Comprehensive Loss                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | The Company follows the provisions of SFAS No. 130, Reporting
Comprehensive Income, which establishes standards for the reporting and
disclosure of comprehensive income and its components (revenues,
expenses, gains and losses) in a full set of consolidated financial
statements. The Companys other comprehensive income (loss) primarily
consists of foreign currency translation adjustments.                                                                                                                                                                                                                                                                                                                                                                                             
|
| | (m) |  | Use of Estimates                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|
| |     |  | The preparation of consolidated financial statements in conformity with
GAAP in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.                                                                                                                                                                                                                                                                                                                            
|
| | (n) |  | New Accounting Pronouncements                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|
| |     |  | In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 133, as amended,
Accounting for Derivative Instruments and Hedging Activities.SFAS No.
133 requires the recognition of all derivatives in the consolidated
balance sheet as either assets or liabilities measured at fair value.
We will adopt the provision of SFAS No. 133 in the first quarter of
fiscal year 2002. The Company does not expect that the adoption of
SFAS No. 133 will have a material impact on the Companys consolidated
financial statements.                                                                                                                                                                                                   
|
| |     |  | In July 2001, the FASB issued SFAS No. 141, Business Combinations, and
SFAS No. 142, Goodwill and Other Intangible Assets.SFAS No. 141
requires that all business combinations be accounted for under a single
method, the purchase method. Use of the pooling-of-interests method no
longer is permitted, although poolings initiated prior to June 30, 2001
are grandfathered. SFAS No. 141 requires that the purchase method be
used for business combinations initiated after June 30, 2001. SFAS No.
142 requires that intangible assets with indefinite lives and goodwill
no longer be amortized to earnings, but instead be reviewed for
impairment. The amortization of intangible assets with indefinite
lives and goodwill ceases upon adoption of the Statement, which the
Company must

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  |  | adopt by June 1, 2002. Early adoption at June 1, 2001, is allowed.
SFAS No. 142 also requires an evaluation of intangible assets and their
useful lives and a transitional impairment test for certain intangible
assets and goodwill. After transition, the impairment tests are to be
performed annually. As of May 31, 2001, the Company had unamortized
costs in excess of book value of acquired subsidiaries of $351,000, and
patents of $735,000, which will be subject to the transition provisions
of SFAS No. 141 and 142. The Company does not expect that the adoption
of SFAS No. 141 and 142 will have a material impact on the consolidated
financial statements.
| |  |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) |  | Going Concern                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|    |  | The Companys consolidated financial statements have been prepared assuming
the Company will continue as a going concern.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   
|    |  | Cash used in operating activities was $1,600,000 for fiscal year 2001
compared to $5,207,000 and $372,000 in fiscal years 2000 and 1999,
respectively. The Companys future success will depend heavily on its
ability to generate cash from operating activities and to meet its
obligations as they become due. The Company is focusing on initiatives
that specifically address the need to increase cash provided by operating
activities. Some of these initiatives include, but are not limited to
possible staff reductions, reduced product line offerings, selling of
excess inventory, and general and administrative cost controls. The
Company has also downsized, closed, sold or is in process of selling
certain of its subsidiaries that have continued to produce negative cash
flow from operations. The Company is also in process of selling its
European Aerospace Group to substantially reduce its debt and corresponding
interest expense. If the Company is not sufficiently successful in
increasing cash provided by operating activities, it may need to sell
additional common stock or sell assets outside of the ordinary course of
business in order to meet its obligations. There is no assurance that the
Company will be able to achieve sufficient cash from operations, to sell
additional common stock, or to sell its assets for amounts in excess of
book value.
|   
|    |  | The Companys existing cash and credit facilities will not be sufficient to
meet its obligations as they become due. Consequently, the Company will
need to obtain additional cash. The Companys actual cash needs will
depend primarily on the amount of cash generated from or used by its
operations and financing activities. The Company cannot predict accurately
the amount or timing of its future cash needs. The Companys semi-annual
interest payment of approximately $3.6 million on its 111⁄4% senior
subordinated                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|    |  | notes was due on August 1, 2001. The Company did not make that payment at
that time and does not currently have sufficient cash to make the interest
payment on its 111⁄4% senior subordinated notes. The Company will also
need to raise additional cash to make future interest payments on the
Senior Notes, as well as other debt instruments, and to fund its
operations. If the Company is unable to obtain sufficient cash when needed
to fund its operations, to make these interest payments, and to pay our
other obligations when due, it may be forced to seek protection from
creditors under the bankruptcy laws.                                                                                                                                                                                                                                                                                                                  
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|    |  | The Companys ability to obtain additional cash if and when needed could
have a material adverse effect on its financial position, results of
operations and its ability to continue in existence. The consolidated
financial statements do not include any adjustments that might result from
the outcome of this uncertainty.
 
See also Note 24(b) for events subsequent
to May 31, 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   
|(4) |  | Impairment of Long-Lived Assets                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   
|    |  | Included in operating expenses in the years ended May 31, 1999, 2000 and
2001 are $4.9 million, $5.3 million, and $48.9 million, respectively, in
non-cash charges related to the impairment of long-lived assets, primarily
goodwill and equipment. The Company reviews long-lived assets and
identifiable intangibles for potential impairment of value whenever events
or changes in circumstances indicate that the carrying amount of those
assets may not be recoverable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   
|    |  | During the year ended May 31, 1999 the Company determined that due to
continued losses related to the U.S. Electronics Groups Displays Division,
a impairment of approximately $4.7 million existed at that division. The
impairment was comprised of goodwill, $3.6 million, and personal property,
$1.1 million. The carrying amount of goodwill was $3.6 million prior to
the impairment charge and $0 after the impairment charge. The carrying
amount of personal property, which consisted of manufacturing equipment,
computer hardware, and office furniture, was $3.5 million before the
impairment charge and $2.4 million after the impairment charge. Also,
during the year ended May 31, 1999 the Company recognized an impairment
charge of $0.2 million to reduce the carrying value, $1.6 million, of
manufacturing equipment used in the Electronics Groups Interconnect
Division to its estimated fair value, $1.4 million.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  | During the year ended May 31, 2000 due to continuing losses, weakness in
the commercial aerospace and transportation industries and cancellation and
postponement of projects by major customers in our Engineering &
Fabrication Division, the Companys evaluation of long-lived assets
resulted in the realization of a $4.6 million impairment of goodwill and a
$600,000 property impairment related to the Companys U.S. Aerospace Group.
The carrying amount of the goodwill was $6.6 million prior to the
impairment charge and $2.0 million after the impairment charge. The
carrying amount of the personal property, which consisted of manufacturing
equipment, was $600,000 prior to the impairment charge and $0 after the
impairment charge.                 
| |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | Based upon estimated net realizable value of certain assets, the Company
recognized the following impairment charges for the year ended May 31,
2001:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|
| |  | Within the European Aerospace Group the Company recognized a $37.0 million
charge to reduce the $33.0 million carrying value of goodwill and the
$13.6 million carrying value of manufacturing equipment associated with
our European Aerospace Group, to the estimated net realizable value of the
manufacturing equipment, $9.6 million.                                                                                                                                                                                                                                                                                                                                                                                                                                   
|
| |  | Within the U.S. Aerospace Group, the Company recognized an impairment
charge of $5.5 million to reduce the $6.4 million carrying value of
property and manufacturing equipment used at the Companys U.S. Aerospace
Groups Casting Divisions Entiat, Washington location to net realizable
value, approximately $0.9 million. The Company recognized a $0.8 million
impairment charge to reduce the carrying value of the manufacturing
equipment located at its Tacoma casting location to zero, the estimated
net realizable value. The Company also recognized charges of $3.3 million
to reduce the $3.5 million carrying value of goodwill and manufacturing
equipment used in the Engineering & Fabrication Division to estimated net
realizable value, $0.2 million.
|
| |  | Within the U.S. Electronic Group, the Company recognized a charge of $0.6
million to reduce the $1.0 million of manufacturing equipment used to
produce low power relays to its net realizable value, $0.4 million. The
Company recognized a $320,000 charge to reduce the carrying value of an
unused manufacturing facility of $980,000 to net realizable value,
$660,000.                                                                                                                                                                                                                                                                                                                                                                                                 

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|    |  | The Company also completed an analysis of the estimated future cash flows
of certain other long-lived assets including goodwill and patents. Based
upon this analysis the Company recognized additional impairment charges of
$1.0 million within the U.S. Electronics Group to reduce goodwill to net
realizable value, and $0.3 million within the U.S. Aerospace Group to
reduce patents to net realizable value.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|    |  | The Company will continue to analyze long-lived and identifiable intangible
assets in the future to determine possible impairment charges. Future
evaluations could result in additional impairment charges and those charges
could be material. At May 31, 2001, the carrying value of long-lived
assets, including property, plant and equipment, goodwill, and patents, was
$27.8 million.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   
|(5) |  | Segment Information and Concentration of Risk                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   
|    |  | The Company is organized into three operational segments, U.S. Aerospace,
European Aerospace, and U.S. Electronics. The Aerospace segments are
primarily comprised of machined, formed and cast metal product operations.
Net sales of the Aerospace segments include sales to customers in the
aerospace, defense and transportation industries. Net sales of the
Electronics segment also include sales to customers in the aerospace and
defense industries. Historically, these segments have been cyclical and
sensitive to general economic and industry specific conditions. In
particular, the aerospace industry, in recent years, has been adversely
affected by a number of factors, including reduced demand for commercial
aircraft, a decline in military spending, postponement of overhaul and
maintenance of aircraft, increased fuel and labor costs, increased
regulations, and intense price competition, among other factors. In
addition, there is no assurance that general economic conditions will not
lead to a downturn in demand for core components and products of the
Company, in each of its operational segments.
|   
|    |  | Presented below is the Companys operational segment information. In
addition, all operational segments identified as U.S. and Corporate are
located within the U.S. while the operations and assets of the European
Aerospace segment are located within the United Kingdom. Identifiable
assets are those assets used in the Companys operations in each segment,
and do not include advances or loans between the business segments.
Corporate assets are identified below, and no allocations were necessary
for assets used jointly by the segments.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   
|    |  | Year ended May 31, 1999:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|                              |  |           |            |           |  |             |            |              |  |       |            |   |  |            |            |   |  |  |             |  
|----------------------------- |  | --------- | ---------- | --------- |  | ----------- | ---------- | ------------ |  | ----- | ---------- | - |  | ---------- | ---------- | - |  |  | ----------- | -
|                              |  |           |            |           |  |             |            |              |  |       |            |   |  | Corporate, |            |   |  | 
|                              |  | U.S.      |            | European  |  | U.S.        |            | other and    |  |       |            |  
|                              |  | Aerospace |            | Aerospace |  | Electronics |            | eliminations |  | Total
|                              |  |           |            |           |  |             |            |              |  |      
|Net sales to customers        |  | $         | 31,096,000 |           |  |             | 52,814,000 |              |  |       | 23,456,000 |   |  |            |           |   |  |  | 107,366,000 |  
|Net sales between segments    |  |           | 239,000    |           |  |             |           |              |  |       |           |   |  |            | (239,000   | ) |  |  |            |  
|Income (loss) from
operations |  |           | 2,148,000  |           |  |             | 7,468,000  |              |  |       | (6,220,000 | ) |  |            | (4,371,000 | ) |  |  | (975,000    | )
|Identifiable assets           |  |           | 26,655,000 |           |  |             | 90,125,000 |              |  |       | 21,735,000 |   |  |            | 20,212,000 |   |  |  | 158,727,000 |  
|Capital expenditures          |  |           | 2,438,000  |           |  |             | 1,679,000  |              |  |       | 2,541,000  |   |  |            | 2,453,000  |   |  |  | 9,111,000   |  
|Depreciation and
amortization |  |           | 1,659,000  |           |  |             | 3,170,000  |              |  |       | 1,684,000  |   |  |            | 192,000    |   |  |  | 6,705,000   |  
|Interest income               |  |           |           |           |  |             | 17,000     |              |  |       | 19,000     |   |  |            | 496,000    |   |  |  | 532,000     |  
|Interest expense              |  |           | 419,000    |           |  |             | 3,516,000  |              |  |       | 202,000    |   |  |            | 4,535,000  |   |  |  | 8,672,000   |  



| |  | Year ended May 31, 2000:
| |  | ------------------------

|                              |  |           |            |           |  |             |            |              |  |       |            |  |  |            |            |   |  |  |             |  
|----------------------------- |  | --------- | ---------- | --------- |  | ----------- | ---------- | ------------ |  | ----- | ---------- |  |  | ---------- | ---------- | - |  |  | ----------- | -
|                              |  |           |            |           |  |             |            |              |  |       |            |  |  | Corporate, |            |   |  | 
|                              |  | U.S.      |            | European  |  | U.S.        |            | other and    |  |       |            | 
|                              |  | Aerospace |            | Aerospace |  | Electronics |            | eliminations |  | Total
|                              |  |           |            |           |  |             |            |              |  |      
|Net sales to customers        |  | $         | 31,483,000 |           |  |             | 56,913,000 |              |  |       | 24,298,000 |  |  |            |           |   |  |  | 112,694,000 |  
|Net sales between segments    |  |           | 351,000    |           |  |             |           |              |  |       |           |  |  |            | (351,000   | ) |  |  |            |  
|Income (loss) from
operations |  |           | (5,820,000 | )         |  |             | 2,628,000  |              |  |       | 6,245,000  |  |  |            | (6,955,000 | ) |  |  | (3,902,000  | )
|Identifiable assets           |  |           | 32,553,000 |           |  |             | 75,585,000 |              |  |       | 23,018,000 |  |  |            | 12,426,000 |   |  |  | 143,582,000 |  
|Capital expenditures          |  |           | 1,518,000  |           |  |             | 1,254,000  |              |  |       | 1,300,000  |  |  |            | 795,000    |   |  |  | 4,867,000   |  
|Depreciation and
amortization |  |           | 2,235,000  |           |  |             | 3,702,000  |              |  |       | 1,367,000  |  |  |            | 437,000    |   |  |  | 7,741,000   |  
|Interest income               |  |           |           |           |  |             | 35,000     |              |  |       |           |  |  |            | 62,000     |   |  |  | 97,000      |  
|Interest expense              |  |           | 353,000    |           |  |             | 4,349,000  |              |  |       | 129,000    |  |  |            | 5,128,000  |   |  |  | 9,959,000   |  

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  | Year ended May 31, 2001:
| |  | ------------------------

|                              |  |           |             |           |  |             |             |              |  |       |            |  |  |            |            |   |  |  |             |  
|----------------------------- |  | --------- | ----------- | --------- |  | ----------- | ----------- | ------------ |  | ----- | ---------- |  |  | ---------- | ---------- | - |  |  | ----------- | -
|                              |  |           |             |           |  |             |             |              |  |       |            |  |  | Corporate, |            |   |  | 
|                              |  | U.S.      |             | European  |  | U.S.        |             | other and    |  |       |            | 
|                              |  | Aerospace |             | Aerospace |  | Electronics |             | eliminations |  | Total
|                              |  |           |             |           |  |             |             |              |  |      
|Net sales to customers        |  | $         | 29,121,000  |           |  |             | 51,597,000  |              |  |       | 28,570,000 |  |  |            |           |   |  |  | 109,288,000 |  
|Net sales between segments    |  |           | 491,000     |           |  |             |            |              |  |       |           |  |  |            | (491,000   | ) |  |  |            |  
|Income (loss) from
operations |  |           | (19,451,000 | )         |  |             | (35,010,000 | )            |  |       | 2,809,000  |  |  |            | (7,309,000 | ) |  |  | (58,961,000 | )
|Identifiable assets           |  |           | 17,177,000  |           |  |             | 34,419,000  |              |  |       | 17,102,000 |  |  |            | 12,118,000 |   |  |  | 80,816,000  |  
|Capital expenditures          |  |           | 713,000     |           |  |             | 2,111,000   |              |  |       | 571,000    |  |  |            | 315,000    |   |  |  | 3,710,000   |  
|Depreciation and
amortization |  |           | 2,204,000   |           |  |             | 3,180,000   |              |  |       | 1,394,000  |  |  |            | 556,000    |   |  |  | 7,334,000   |  
|Interest income               |  |           |            |           |  |             | 8,000       |              |  |       |           |  |  |            | 7,000      |   |  |  | 15,000      |  
|Interest expense              |  |           | 385,000     |           |  |             | 3,976,000   |              |  |       | 138,000    |  |  |            | 5,528,000  |   |  |  | 10,027,000  |  



| |  | The Company had net sales to one customer comprising greater than 10% of
each years net sales, aggregating 12%, 10% and 12.5% in the years ended
May 31, 1999, 2000 and 2001, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | The Company had accounts receivable from one customer comprising greater
than 10% of accounts receivable, aggregating 11% as of May 31, 2000. The
Company had accounts receivable from one customer comprising greater than
10% of accounts receivable, aggregating 10.6% as of May 31, 2001.                                                                                                                                                                                                                                                                                                                                                                      
|
| |  | Credit is extended to customers based on an evaluation of their financial
condition and collateral is generally not required.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|
| |  | The Company currently purchases aluminum and other raw materials from a
limited number of suppliers. Although there are a limited number of
potential suppliers of such raw materials, management believes that other
suppliers could provide these raw materials on comparable terms. A change
in suppliers, however, could cause a delay in manufacturing, increased
costs, and a possible loss of sales, which could have a material adverse
effect on the manufacturing and delivery of the Companys products. The
Company purchased $2,772,000, $2,656,000 and $4,623,000 from one supplier
during the years ended May 31, 1999, 2000 and 2001, respectively.
|
| |  | The Company purchases other raw materials, of lesser significance, which
are available from a limited number of suppliers.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|
| |  | At May 31, 2001, the Company had purchase commitments for raw materials
aggregating $1,722,000.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(6) |  | Business Acquisitions                                                                                                                                                                                                                                   
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|    |  | In July 1998, the Company purchased all of the outstanding stock of Aeromet
International PLC (Aeromet). The purchase price consisted of £42,000,000
(approximately $68,875,000) in cash and acquisition costs of $542,000 for a
total of $69,417,000.
|   
|    |  | The purchase price and related acquisition costs were allocated as follows:                                                                                                                                                                             

|                                 |       |   |             |            | 
|-------------------------------- | ----- | - | ----------- | ---------- | 
|Current assets                   |       | $ | 27,529,000  |           
|Equipment                        |       |   | 18,177,000  |           
|Cost in excess of net book value |       |   | 39,884,000  |           
|Liabilities assumed              |       |   | (16,173,000 | )         
|                                 |       |   |             |           
|                                 | Total |   | $           | 69,417,000 | 
|                                 |       |   |             |           



| |  | Effective for accounting purposes in June 1999, the Company acquired all of
the outstanding stock of Skagit Engineering & Manufacturing, Inc.
(Skagit) for $1,300,000 in cash.
| |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | The purchase price was allocated as follows:                                                                                                                                    

|                                    |       |   |            |           | 
|----------------------------------- | ----- | - | ---------- | --------- | 
|Current assets                      |       | $ | 1,551,000  |          
|Property, plant and equipment       |       |   | 1,369,000  |          
|Cost of in excess of net book value |       |   | 1,683,000  |          
|Liabilities assumed                 |       |   | (3,303,000 | )        
|                                    |       |   |            |          
|                                    | Total |   | $          | 1,300,000 | 
|                                    |       |   |            |          



| |  | Effective for accounting purposes in May 2000, the Company acquired
substantially all of the assets and assumed certain liabilities of
Nova-Tech Engineering, Inc. (Nova-Tech). The purchase price consisted of
$2,500,000 in the forgiveness of a note receivable, intercompany accounts
receivable of $137,000, and $50,000 cash for a total of $2,687,000.
| |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | The purchase price was allocated as follows:                                                                                                                                                                                                                                                                                                                   

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|                                 |       |   |            |           | 
|-------------------------------- | ----- | - | ---------- | --------- | 
|Current assets                   |       | $ | 873,000    |          
|Furniture and equipment          |       |   | 387,000    |          
|Cost in excess of net book value |       |   | 3,938,000  |          
|Liabilities assumed              |       |   | (2,511,000 | )        
|                                 |       |   |            |          
|                                 | Total |   | $          | 2,687,000 | 
|                                 |       |   |            |          



| |  | The business combinations described above have been accounted for using the
purchase method. Accordingly, assets and liabilities have been recorded at
their fair value at acquisition date. Operating results of these acquired
companies are included in the Companys consolidated statements of
operations from the respective acquisition dates. In fiscal year 2001,
costs in excess of net book value of acquired subsidiaries in the amounts
of $33.0 million relating to Aeromet and $1.8 million relating to Skagit,
were written off due to impairment. In fiscal year 2000, subsequent to the
business combinations, costs in excess of net book value of acquired
subsidiaries in the amounts of $1,000,000 relating to Skagit and $2,400,000
relating to Nova-Tech, were written off due to impairment. Amounts written
off are included in operating expense.
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | The following summary, prepared on a pro forma basis, presents the
unaudited consolidated condensed results of operations of the Company, as
if the fiscal year 2000 business acquisitions were made as of the first day
of the immediately preceding fiscal year in which the entities were
acquired. There are no material adjustments which impact the summary.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          

|                     |  |   |                       |   | 
|-------------------- |  | - | --------------------- | - | 
|                     |  |   | (unaudited)Year ended
|                     |  |   | May 31, 2000         
|                     |  |   |                      
|Net sales            |  | $ | 117,965,000           |  
|Loss from operations |  |   | (11,457,000           | )
|Net loss             |  |   | (17,302,000           | )
|Net loss per share:  |  |   |                       |  

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|                                                  |         |  |              |            |  
|------------------------------------------------- | ------- |  | ------------ | ---------- | -
|                                                  |         |  | Year ended  
|                                                  |         |  | May 31, 2000
|                                                  |         |  |             
|                                                  |         |  | (unaudited) 
|                                                  | Basic   |  |              | (0.79      | )
|                                                  | Diluted |  |              | (0.79      | )
|Shares used in computation of net loss per share: |         |  |              |           
|                                                  | Basic   |  |              | 21,955,473 |  
|                                                  | Diluted |  |              | 21,955,473 |  

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|    |  | The pro forma results are not necessarily indicative of the actual results
of operations that would have occurred had the transactions been
consummated as of the date indicated nor are they intended to indicate
results that may occur in the future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(7) |  | Allowance for Doubtful Accounts, Sales Returns and Allowances                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   
|    |  | The Company records a provision for accounts receivable that the Company
believes may not be collectible and for products that may be returned in
the future. Accounts receivable are reported net an allowance for doubtful
accounts, sales returns and allowances on the consolidated balance sheets.
The provision for bad debt expense is included in the operating expenses on
the consolidated statements of operations and comprehensive income (loss),
while net sales are shown net of sales returns and allowances. When
specific accounts are determined to be uncollectable and when inventories
are returned, the Company eliminates the balance from accounts receivable
and reduces the allowance by a corresponding amount. A reconciliation of
the allowance for doubtful accounts, sales returns and allowances is as
follows:

|                                   |  |   |          |  
|---------------------------------- |  | - | -------- | -
|Balance at May 31, 1999            |  | $ | 553,000  |  
|Charged to operating expense       |  |   | 305,500  |  
|Charged to net sales               |  |   | 2,500    |  
|Specific account balance write-off |  |   | (234,000 | )
|Effect of exchange rates           |  |   | (8,000   | )
|                                   |  |   |          |  
|Balance at May 31, 2000            |  |   | 619,000  |  
|Charged to operating expense       |  |   | 3,000    |  
|Specific account balance write-off |  |   | (163,000 | )
|Effect of exchange rates           |  |   | (8,000   | )
|                                   |  |   |          |  
|Balance at May 31, 2001            |  | $ | 451,000  |  
|                                   |  |   |          |  



|(8) |  | Inventories                                    
|--- |  | -----------------------------------------------
|   
|    |  | Inventories at May 31 consist of the following:

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|                 |  |      |            |      |  |  |            | 
|---------------- |  | ---- | ---------- | ---- |  |  | ---------- | 
|                 |  | 2000 |            | 2001
|                 |  |      |            |     
|Raw materials    |  | $    | 7,204,000  |      |  |  | 5,032,000  | 
|Work in progress |  |      | 13,581,000 |      |  |  | 10,990,000 | 
|Finished goods   |  |      | 7,064,000  |      |  |  | 6,972,000  | 
|                 |  |      |            |      |  |  |            | 
|                 |  | $    | 27,849,000 |      |  |  | 22,994,000 | 
|                 |  |      |            |      |  |  |            | 

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(9) |  | Property, Plant and Equipment                                                                                        
|--- |  | ---------------------------------------------------------------------------------------------------------------------
|   
|    |  | Property, plant and equipment, including assets under capital lease
arrangements, at May 31 consist of the following:

|                                               |  |      |            |      |  |  |            | 
|---------------------------------------------- |  | ---- | ---------- | ---- |  |  | ---------- | 
|                                               |  | 2000 |            | 2001
|                                               |  |      |            |     
|Land                                           |  | $    | 2,046,000  |      |  |  | 1,081,000  | 
|Buildings                                      |  |      | 8,687,000  |      |  |  | 5,687,000  | 
|Leasehold improvements                         |  |      | 3,509,000  |      |  |  | 3,693,000  | 
|Machinery and equipment                        |  |      | 52,213,000 |      |  |  | 28,190,000 | 
|Office equipment, furniture and fixtures       |  |      | 2,998,000  |      |  |  | 4,134,000  | 
|                                               |  |      |            |      |  |  |            | 
|                                               |  |      | 69,453,000 |      |  |  | 42,785,000 | 
|Less accumulated depreciation and amortization |  |      | 26,301,000 |      |  |  | 16,071,000 | 
|                                               |  |      |            |      |  |  |            | 
|                                               |  |      | 43,152,000 |      |  |  | 26,714,000 | 
|Construction and purchases in progress         |  |      | 924,000    |      |  |  | 40,000     | 
|                                               |  |      |            |      |  |  |            | 
|                                               |  | $    | 44,076,000 |      |  |  | 26,754,000 | 
|                                               |  |      |            |      |  |  |            | 



| |  | The Company recognized depreciation of property, plant and equipment of
$5,448,000, $5,942,000 and $6,243,000 during the years ended May 31, 1999,
2000 and 2001, respectively.                                         
| |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | The Company includes computer software and hardware within office
equipment, furniture and fixtures. Software is amortized over its
estimated useful life, usually three years.                                         
|
| |  | Included in property, plant and equipment are costs of $5,874,000 and
$2,412,316 and related accumulated amortization of $1,049,000 and
$1,137,515 recorded under capital leases at May 31, 2000 and 2001,
respectively.

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(10) |  | Credit Facility                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | At May 31, 2000, the Companys primary banking relationships included a
revolving line of credit of up to $6.3 million in the U.S. and a revolving
line of credit of up to approximately $5.0 million (£3.5 million) in the
U.K. Both of these credit facilities have been replaced with a senior
secured term loan of $13.8 million from four institutional lenders. The
loan bears interest at 18% per annum, payable quarterly, and has a two-year
term. The Company has the right to defer and accrue a portion of the
interest on the loan, up to 5% per year, for up to a year at the time of
any interest payment. The loan is secured by the Companys assets, the
assets of its United States subsidiaries, and other intangibles. This
senior secured loan is a term loan rather than a revolving loan. As a
result, if the Company makes payments of principal before the loans
maturity, additional loan proceeds will not become available, and the loan
will not provide an additional source of cash to fund the Companys
operations or to meet the Companys obligations as they become due.

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(11) |  | Long-Term Debt                                     
|---- |  | ---------------------------------------------------
|    
|     |  | Long-term debt at May 31 consists of the following:

|                                                                                                                                                                                      |                                        |   |           |           |      |  |            |            | 
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------- | - | --------- | --------- | ---- |  | ---------- | ---------- | 
|                                                                                                                                                                                      |                                        |   | 2000      |           | 2001
|                                                                                                                                                                                      |                                        |   |           |           |     
|Note payable to four institutional lenders, quarterly
interest payments at 18% with 5% deferred up to one
year, with principal balance due in full March 2003                         |                                        | $ |          |           |      |  | 13,731,000 |           
|Industrial revenue bond payable to a bank in monthly
installments of $19,200, including interest at 8.12%,
through July 2004                                                          |                                        |   | 787,000   |           |      |  | 613,000    |           
|Note payable to a bank in monthly installments of
$7,000, including interest at LIBOR plus 2% (6.12% at
May 31, 2001), with the remaining principal balance
due in full in March 2008 |                                        |   | 658,000   |           |      |  | 628,000    |           
|Subordinated note payable to the City of Entiat in
monthly installments of $7,300, including interest at
8%, with the principal balance due in full in May
2001                       |                                        |   | 410,000   |           |      |  | 363,000    |           
|Notes payable to a financing company for certain
equipment in aggregate monthly installments of
$58,000, including interest at 9% to 10.9%, with
maturity dates through 2004          |                                        |   | 1,701,000 |           |      |  | 1,232,000  |           
|Other notes payable for vehicles and certain
equipment in aggregate monthly installments of
$22,000, including interest at 1.9% to 10.5% with
maturity dates through December 2003    |                                        |   | 402,000   |           |      |  | 200,000    |           
|Note payable to a bank in monthly installments of
$10,127, including interest at LIBOR plus 2.25%
(6.43% at May 31, 2001) through June 2008                                           |                                        |   | 1,156,000 |           |      |  | 1,131,000  |           
|Note payable to bank in monthly principal
installments of $5,000 plus interest at the 30-day
commercial paper rate plus 3.25% (9.82% at May 31,
2000) through March 31, 2003          |                                        |   | 145,000   |           |      |  |           |           
|                                                                                                                                                                                      |                                        |   |           |           |      |  |            |           
|                                                                                                                                                                                      |                                        |   | 5,259,000 |           |      |  | 17,898,000 |           
|Less current portion                                                                                                                                                                  |                                        |   | 1,098,000 |           |      |  | 929,000    |           
|                                                                                                                                                                                      |                                        |   |           |           |      |  |            |           
|                                                                                                                                                                                      | Long-term debt, net of current portion |   | $         | 4,161,000 |      |  |            | 16,969,000 | 
|                                                                                                                                                                                      |                                        |   |           |           |      |  |            |           

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  | Subsequent to year end, the industrial revenue bond agreement and the
subordinated note to the City of Entiat, as well as several vehicle and
equipment loans, were repaid in full using proceeds from the sale of the
U.S. Aerospace Groups Casting facility located in Entiat, Washington.                                                                                                                                                                                                                                                                          
| |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | Certain notes payable require, among other items, that the Company maintain
minimum working capital, tangible net worth and debt to tangible net worth
ratios. At May 31, 2001, the Company was not in compliance with these
covenants. Management has received a forbearance letter from the lender
waiving the violations. There can be no assurance that the lender will not
require the amounts immediately due and payable if violations of the
covenants continue. The amount outstanding under these agreements was
approximately $1,800,000 as of May 31, 2001.
|
| |  | Scheduled principal maturities of long-term debt at May 31, 2001 are as
follows for each of the following fiscal year-ends:                                                                                                                                                                                                                                                                                                                                                                                                                                            

|           |  |   |            | 
|---------- |  | - | ---------- | 
|2002       |  | $ | 929,000    | 
|2003       |  |   | 14,586,000 | 
|2004       |  |   | 634,000    | 
|2005       |  |   | 175,000    | 
|2006       |  |   | 181,000    | 
|Thereafter |  |   | 1,393,000  | 
|           |  |   |            | 
|           |  | $ | 17,898,000 | 
|           |  |   |            | 



| |  | Long-term debt is secured by
substantially all assets of the Company. 
 
See
also Note 24(b) for events subsequent to May 31, 2001.
| |  | -----------------------------------------------------------------------------------------------------------------------------------

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(12) |  | Senior Subordinated Notes Payable                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | In July 1998, the Company completed a $75 million debt offering of 111⁄4%
Senior Subordinated Notes (the Notes) due in August 2005 (the
Offering). The Notes are unconditionally guaranteed on a senior
subordinated basis by the Companys U.S. subsidiaries.                                                                                                                                                                                                                                                                                                                                                                       
|    
|     |  | Interest on the Notes is payable semiannually on February 1 and August 1 of
each year. The Notes may be redeemable at the option of the Company, in
whole or in part, on or after August 1, 2003 at the redemption price as
defined in the agreement. In addition, on or before August 1, 2001, the
Company may redeem up to 20% of the Notes at a redemption price of 111.25%
of the principal amount plus accrued and unpaid interest.                                                                                                                                                                                               
|    
|     |  | Under provisions of the indenture applicable to the Notes, the Company is
limited in its ability to incur additional indebtedness or issue
Disqualified Capital Stock, pay dividends or make other distributions,
create certain liens on assets, sell certain assets and stock of
subsidiaries, enter into certain transactions with affiliates, and effect
certain mergers and consolidations. The Company is also subject to certain
restrictive covenants and is required to maintain certain financial ratios
in connection with the Notes. Management believes the Company is in
compliance with these covenants at May 31, 2001.
|    
|     |  | In March 2000, the Company exchanged an aggregate of $11.3 million in
original principal amount of the Notes for a total of 2,902,806 shares of
common stock. This exchange was accounted for as an early extinguishment
of debt, and as such, a net of tax gain of $703,000 was recorded in the
consolidated financial statements as an extraordinary item.                                                                                                                                                                                                                                                                           
|    
|     |  | See also Note
24(b) for events subsequent to May 31, 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(13) |  | Leasing Arrangements
|---- |  | --------------------



| | (a) |  | Capital Leases                                                                                                                                                                                                                                                                                                                                   
| | --- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | The Company leases certain property, plant and equipment under capital
lease agreements that expire at various dates through 2008. Capital
lease obligations are secured by the underlying leased assets.
Aggregate minimum payments to be made under these agreements at May 31,
2001 are as follows for each of the following fiscal year-ends:

|                                                          |                                                        |   |           |           | 
|--------------------------------------------------------- | ------------------------------------------------------ | - | --------- | --------- | 
|2002                                                      |                                                        | $ | 380,000   |          
|2003                                                      |                                                        |   | 338,000   |          
|2004                                                      |                                                        |   | 324,000   |          
|2005                                                      |                                                        |   | 241,000   |          
|2006                                                      |                                                        |   | 155,000   |          
|Thereafter                                                |                                                        |   | 170,000   |          
|                                                          |                                                        |   |           |          
|                                                          |                                                        |   | 1,608,000 |          
|Less amounts representing interest ranging from 6% to 16% |                                                        |   | 274,000   |          
|                                                          |                                                        |   |           |          
|                                                          | Present value of net minimum capital lease obligations |   |           | 1,334,000 | 
|Less current portion                                      |                                                        |   | 329,000   |          
|                                                          |                                                        |   |           |          
|                                                          | Capital lease obligations, less current portion        |   | $         | 1,005,000 | 
|                                                          |                                                        |   |           |          



|(b) |  | Operating Leases                                                                                                                                                                                                                                                                   
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|    |  | The Company leases certain property, plant and equipment under
operating lease agreements that expire at various dates through 2018.
Aggregate minimum rental payments to be made under these agreements at
May 31, 2001 are as follows for each of the following fiscal year-ends:

|     |  |   |           | 
|---- |  | - | --------- | 
|2002 |  | $ | 4,931,000 | 
|2003 |  |   | 4,655,000 | 

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|           |  |   |            | 
|---------- |  | - | ---------- | 
|2004       |  |   | 3,822,000  | 
|2005       |  |   | 3,676,000  | 
|2006       |  |   | 3,271,000  | 
|Thereafter |  |   | 20,619,000 | 
|           |  |   |            | 
|           |  | $ | 40,974,000 | 
|           |  |   |            | 



| | Total rent expense during the years ended May 31, 1999, 2000 and
2001 amounted to $3,356,000, $4,191,000 and $5,917,000, respectively.
Included in rent expense for the year ended May 31, 2001 is an accrual
of approximately $500,000 related to the abandonment of certain
manufacturing facility operating leases.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(14) |  | Common Stock                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | In July 1996, the Company conducted a public offering of 2,250,000 units,
each unit composed of one share of the Companys common stock and a warrant
to purchase a share of the Companys common stock, at a price of $3.125 per
unit. At May 31, 2000 and 2001, all of these public warrants were
outstanding. In May 2000, the Company extended the expiration date of the
public warrants to July 15, 2003. In addition, the Company issued warrants
to two underwriters for the purchase of an additional 225,000 units at
$3.75 per unit. Each unit is composed of one share of the Companys common
stock and a warrant to purchase one share of the Companys common stock.
The warrants entitled the holder to purchase one share of common stock at
$4.6875 per share, exercisable any time through July 2001. No underwriter
warrants were exercised during the years ended May 31, 1999, 2000 and 2001.
|    
|     |  | In November 1998, the Company sold 2,585,000 shares of its common stock in
a private offering to institutional investors. Proceeds from the offering
totaled $5,170,000 before expenses of $344,000.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    
|     |  | In March 2000, the Company sold 1,598,000 shares of its common stock to 26
accredited investors for $4,794,000 before expenses of $788,000. The
Company subsequently filed a registration statement, which was declared
effective, registering for resale the 1,598,000 shares of common stock sold
in the offering.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

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AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|     |  | In July 2000 the Company closed the first of two proposed installments of a
$3.5 million private placement of Common Stock to two accredited investors.
On that date, the Company issued 1,142,860 shares of Common Stock and
warrants to purchase additional shares to the investors for a gross amount
of approximately $2.0 million. The Company filed a registration statement
on Form S-3 with the Securities and Exchange Commission to register the
resale of the shares of Common Stock issued or issuable as a result of the
transaction (the Registration Statement). If the Registration Statement
had become effective within 60 days after the first closing a second
closing would have occurred and the investors would have paid an additional
$1.5 million and received 857,140 additional shares of Common Stock.
However, the Registration Statement did not become effective within 60 days
of the first closing and consequently the second installment did not close.
In addition the Company also issued to the investors certain adjustable,
vesting, and closing warrants to purchase additional shares of the
Companys common stock. The adjustable warrants permitted the investors to
acquire additional shares of common stock at an exercise price of $.001 per
share if the market price of the Companys common stock did not achieve and
maintain a specific price during each of the three vesting periods.
Subsequent to issuance of the adjustable warrants the Company negotiated an
amendment to the adjustable warrants, which replaced the variable
calculation of shares to be acquired with a fixed number of shares. In
February 2001, the investors exercised the adjustable warrants in full, as
so amended, for the exercise price of $.001 per share. As a result of the
exercise, the Company delivered to the investors a total of 4,190,486
shares of common stock. The vesting warrants issued under the transaction
expired unexercised during February 2001. The closing warrants that
entitle the investors to purchase an additional 385,000 shares of our
common stock at an exercise price of $2.01 per share remain unexercised and
outstanding at May 31, 2001. The closing warrants expire in July 2003.
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | See also Note 24(b) for events subsequent to May 31, 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|    
|(15) |  | Convertible Preferred Stock  Series B Convertible Preferred Stock                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|    
|     |  | In May 1998, the Company sold 100,000 shares of Series B convertible
preferred stock (Series B) for $100 per share, and issued warrants to
purchase 138,888 shares of common stock, in a private offering, which
resulted in gross proceeds of $10.0 million, less related offering costs of
$740,000 for net proceeds of $9,260,000. In addition, the purchasers
deposited $7.0 million in an escrow account which, subsequent to the
closing of the purchase of Aeromet, was exchanged by the Company for 70,000
additional shares of                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|     |  | Series B and additional warrants to purchase 97,221 shares of common stock.
Net proceeds to the Company, subsequent to offering costs of $370,000,
were $6,630,000.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | As of May 31, 2000 and 2001, 135,471 and 170,000 shares, respectively, of
Series B have been converted into 7,227,454 and 10,036,548 shares,
respectively, of common stock.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|    
|     |  | See also Note 24(b) for events subsequent
to May 31, 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|    
|(16) |  | Warrants                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    
|     |  | The Company periodically issues warrants to purchase common shares in
connection with common stock, preferred stock, debt and certain consulting
services. When warrants are issued in exchange for consulting or other
services, the warrants are valued using the Black Scholes method or the
fair value of the services received, whichever is more reasonably
determinable. The value of the warrants are recorded as additional paid in
capital and a deferred expense amortizable over the term of the services to
be received. A summary of the Companys warrants, excluding warrants
issued in connection with the public offering in July 1996, is as follows:

|                        |  |          |            |           |  |               |       | 
|----------------------- |  | -------- | ---------- | --------- |  | ------------- | ----- | 
|                        |  |          |            |           |  | Weighted     
|                        |  |          |            |           |  | average price
|                        |  | Warrants |            | of shares
|                        |  |          |            |          
|Balance at May 31, 1998 |  |          | 1,676,388  |           |  | $             | 4.360 | 
|Granted                 |  |          | 97,221     |           |  |               | 7.200 | 
|Exercised               |  |          | (1,290,000 | )         |  |               | 4.620 | 
|                        |  |          |            |           |  |               |       | 
|Balance at May 31, 1999 |  |          | 483,609    |           |  |               | 4.240 | 
|Granted                 |  |          | 200,000    |           |  |               | 6.500 | 
|Canceled                |  |          | (25,000    | )         |  |               | 3.450 | 
|                        |  |          |            |           |  |               |       | 
|Balance at May 31, 2000 |  |          | 658,609    |           |  |               | 4.960 | 
|Granted                 |  |          | 9,383,688  |           |  |               | 0.098 | 
|Exercised               |  |          | (4,190,486 | )         |  |               | 0.001 | 
|Canceled                |  |          | (273,609   | )         |  |               | 6.870 | 
|                        |  |          |            |           |  |               |       | 
|Balance at May 31, 2001 |  |          | 5,578,202  |           |  | $             | 0.471 | 
|                        |  |          |            |           |  |               |       | 

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| |                                                                                                                                               
| | ----------------------------------------------------------------------------------------------------------------------------------------------
| | The following summarizes warrants outstanding, excluding warrants issued in
connection with the public offering in July 1996, at May 31, 2001:

|            |  |                                      |           |             |  |           |      |          |  |   |      | 
|----------- |  | ------------------------------------ | --------- | ----------- |  | --------- | ---- | -------- |  | - | ---- | 
|            |  | Warrants outstanding and exercisable
|            |  |                                     
|            |  |                                      |           |             |  | Weighted  |      |          |  |  
|            |  |                                      |           |             |  | average   |      | Weighted
|Range of    |  |                                      |           |             |  | remaining |      | average 
|Exercise    |  | Number                               |           | contractual |  | exercise 
|prices      |  | outstanding                          |           | life        |  | price    
|            |  |                                      |           |             |  |          
|$0.001-1.99 |  |                                      | 4,808,202 |             |  |           | 4.81 |          |  | $ | 0.03 | 
|2.00-3.99   |  |                                      | 620,000   |             |  |           | 2.31 |          |  |   | 2.19 | 
|4.00-5.99   |  |                                      | 50,000    |             |  |           | 1.92 |          |  |   | 5.50 | 
|6.00-7.99   |  |                                      | 50,000    |             |  |           | 1.92 |          |  |   | 7.50 | 
|8.00-9.99   |  |                                      | 50,000    |             |  |           | 1.92 |          |  |   | 9.50 | 
|            |  |                                      |           |             |  |           |      |          |  |   |      | 
|            |  |                                      | 5,578,202 |             |  |           |      |          |  |   |      | 
|            |  |                                      |           |             |  |           |      |          |  |   |      | 



|(17) |  | Compensation Plans
|---- |  | ------------------



| | (a) |  | Long-Term Investment and Incentive Plan                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | --- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | The Company has two long-term stock investment and incentive plans.
The 1996 Plan awards directors, officers, key employees and other key
individuals with stock options, stock appreciation rights, stock and
cash bonuses, restricted stock, or performance units. Under the 1996
Plan, the exercise price of options issued is not less than fair-market
value at the date of grant. In October 1999, the Company adopted the
1999 Plan which effectively reserved an additional 4,000,000 shares
of common stock for issuance. The 1999 Plan is identical to the 1996
Plan in form with exception to certain provisions stipulating the
expiration of options granted to employees who are subsequently
terminated. Options expire ten years from the grant date under both
plans.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  |  | As of May 31, 2000 and 2001, the Company had not issued any stock
appreciation rights, stock and cash bonuses, restricted stock, or
performance units under either plan.
| |  |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(b) |  | Independent Director Stock Plan                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|    |  | The Company has an Independent Director Stock Plan under which
nonemployee directors of the Company are awarded common stock and stock
options of the Company for serving on its board of directors. The plan
authorizes and reserves for issuance a maximum of 500,000 common
shares. At May 31, 2000 and 2001, 380,804 and 338,304 shares,
respectively, were available for future issuance. During the year
ended May 31, 1999, 600 shares and 56,637 options were issued under the
plan. During the year ended May 31, 2000, 40,000 options were issued
and 10,000 options were canceled under the plan. During the year ended
May 31, 2001, 42,500 options were issued under the plan. Options
issued under the plan during the years ended May 31, 1999 and 2000
vested immediately upon issuance. Of the options issued under the plan
during the year ended May 31, 2001, 2,500 vested immediately and 40,000
were unvested. Included in compensation expense was $89,000 for the
year ended May 31, 1999, resulting from the shares issued. For the
years ended May 31, 1999, 2000 and 2001, 41,942, 86,637 and 129,137
options were outstanding.
|   
|(c) |  | Retirement Plan                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   
|    |  | The Company maintains a 401(k) plan covering all eligible employees who
meet service requirements as provided in the plan. The Companys
contribution to the profit-sharing plan is determined annually by the
Board of Directors. The Company contributed $48,000, $59,000 and
$70,180 to the plan during the years ended May 31, 1999, 2000 and 2001,
respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   
|(d) |  | Employee Stock Purchase Plan                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   
|    |  | The Company implemented an Employee Stock Purchase Plan in 1999 under
which employees are eligible to purchase shares of the Companys common
stock, through payroll deductions, at the lower of 85% of the Companys
stock price on the first day of an offering period or 100% of the
Companys stock price on the last day of an offering period. The first
offering period began in November 1998.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  | During the years ended May 31, 1999, 2000 and 2001, 41,942, 142,696 and
407,090 shares respectively, were purchased by employees under the
plan.                                                                                                                                                                                                                                                                                             
| |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | As the Company applies APB Opinion No. 25 and related interpretations
in accounting for its option plans and employee stock purchase plans,
no compensation costs have been recognized for stock options issued to
employees. Had compensation costs for the stock option and stock
purchase plan been determined consistent with SFAS No. 123, the results
of the Company would have been adjusted to the pro forma amounts
indicated below:

|                                                  |              |         |   |             |            |      |  |             |            |   |  |             |            |  
|------------------------------------------------- | ------------ | ------- | - | ----------- | ---------- | ---- |  | ----------- | ---------- | - |  | ----------- | ---------- | -
|                                                  |              |         |   | 1999        |            | 2000 |  | 2001       
|                                                  |              |         |   |             |            |      |  |            
|Net loss:                                         |              |         |   |             |            |      |  |             |            |   |  |            
|                                                  | As reported  |         | $ | (12,869,000 | )          |      |  | (13,049,000 | )          |   |  | (75,720,000 | )         
|                                                  | Pro forma    |         |   | (14,970,000 | )          |      |  | (14,555,000 | )          |   |  | (75,848,000 | )         
|Net loss per share:                               |              |         |   |             |            |      |  |             |            |   |  |            
|                                                  | As reported: |         |   |             |            |      |  |             |            |   |  |             |           
|                                                  |              | Basic   |   |             | (0.74      | )    |  |             | (0.59      | ) |  |             | (2.15      | )
|                                                  |              | Diluted |   |             | (0.74      | )    |  |             | (0.59      | ) |  |             | (2.15      | )
|                                                  | Pro forma:   |         |   |             |            |      |  |             |            |   |  |             |           
|                                                  |              | Basic   |   |             | (0.86      | )    |  |             | (0.66      | ) |  |             | (2.15      | )
|                                                  |              | Diluted |   |             | (0.86      | )    |  |             | (0.66      | ) |  |             | (2.15      | )
|Shares used in computation
of net loss per share: |              |         |   |             |            |      |  |             |            |   |  |            
|                                                  |              | Basic   |   |             | 17,359,491 |      |  |             | 21,955,473 |   |  |             | 35,283,347 |  
|                                                  |              | Diluted |   |             | 17,359,491 |      |  |             | 21,955,473 |   |  |             | 35,283,347 |  



| |  |  | The fair value of the options granted during the years ended May 31,
1999, 2000 and 2001 is estimated as $474,000, $1,253,000 and $98,000,
respectively, using the Black-Scholes option-pricing model with the
following assumptions on the date of grant: zero percent dividend
yield, expected
| |  |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  |  | volatility from 24% to 148%, risk-free interest rate from 5.5% to 6.6%,
and expected lives ranging from 5 to 10 years.                                                                                                                                            
| |  |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | In December 1998, the Company repriced certain options to purchase
1,466,056 shares to a lower exercise price. The repricing resulted in
additional compensation costs under SFAS No. 123 of $352,000, which is
included in the pro forma amounts disclosed above.
|
| |  |  | Pro forma compensation under the employee stock purchase plan during
the years ended May 31, 1999, 2000, and 2001 is $8,000, $78,000, and
$30,000, respectively.                                                                                                  
|
| |  |  | A summary of the activity under the Companys Long-Term Investment and
Incentive Plans and Independent Director Stock Plan is as follows:                                                                                                                         

|                               |  |                        |            |             |  |               |            |   |  |   |       |  
|------------------------------ |  | ---------------------- | ---------- | ----------- |  | ------------- | ---------- | - |  | - | ----- | -
|                               |  | Shares of common stock |            |             |  |              
|                               |  |                        |            | Weighted   
|                               |  | Available              |            | Options     |  | average price
|                               |  | options                |            | under plans |  | of shares    
|                               |  |                        |            |             |  |              
|Balance at May 31, 1998        |  |                        | 1,211,925  |             |  |               | 2,231,116  |   |  | $ | 5.09  |  
|Shares granted                 |  |                        | (600       | )           |  |               |           |   |  |   | 6.06  |  
|Options granted                |  |                        | (1,861,025 | )           |  |               | 1,861,025  |   |  |   | 2.49  |  
|Options expired                |  |                        | 40,000     |             |  |               | (40,000    | ) |  |   | 1.98  |  
|Options canceled               |  |                        | 1,466,056  |             |  |               | (1,466,056 | ) |  |   | (3.70 | )
|Options terminated             |  |                        | 72,500     |             |  |               | (72,500    | ) |  |   | 6.13  |  
|                               |  |                        |            |             |  |               |            |   |  |   |       |  
|Balance at May 31, 1999        |  |                        | 928,856    |             |  |               | 2,513,585  |   |  |   | 3.29  |  
|Options authorized by new plan |  |                        | 4,000,000  |             |  |               |           |   |  |   |      |  
|Options granted                |  |                        | (950,000   | )           |  |               | 950,000    |   |  |   | 1.62  |  
|Options terminated             |  |                        | 5,000      |             |  |               | (5,000     | ) |  |   | 2.53  |  
|                               |  |                        |            |             |  |               |            |   |  |   |       |  
|Balance at May 31, 2000        |  |                        | 3,983,856  |             |  |               | 3,458,585  |   |  |   | 1.61  |  
|Options granted                |  |                        | (366,500   | )           |  |               | 366,500    |   |  |   | .38   |  
|Options expired                |  |                        | 60,000     |             |  |               | (60,000    | ) |  |   | 2.53  |  

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|                        |  |                        |           |             |  |               |           |   |  |  |      | 
|----------------------- |  | ---------------------- | --------- | ----------- |  | ------------- | --------- | - |  |  | ---- | 
|                        |  | Shares of common stock |           |             |  |              
|                        |  |                        |           | Weighted   
|                        |  | Available              |           | Options     |  | average price
|                        |  | options                |           | under plans |  | of shares    
|                        |  |                        |           |             |  |              
|Options terminated      |  |                        | 30,500    |             |  |               | (30,500   | ) |  |  | 2.14 | 
|                        |  |                        |           |             |  |               |           |   |  |  |      | 
|Balance at May 31, 2001 |  |                        | 3,707,856 |             |  |               | 3,734,585 |   |  |  | 2.42 | 
|                        |  |                        |           |             |  |               |           |   |  |  |      | 



| |  | The following summarizes options from both Long-Term Investment and
Incentive plans and the Independent Director Stock plan outstanding at
May 31, 2001:
| |  | --------------------------------------------------------------------------------------------------------------------------------------------------------

|           |  |                     |           |                     |  |           |      |             |  |          |      |  |  |          |           |  |  |   |      | 
|---------- |  | ------------------- | --------- | ------------------- |  | --------- | ---- | ----------- |  | -------- | ---- |  |  | -------- | --------- |  |  | - | ---- | 
|           |  | Options outstanding |           | Options exercisable
|           |  |                     |           |                    
|           |  |                     |           |                     |  | Weighted  |      |             |  |          |      |  |  |          |           |  |  |  
|           |  |                     |           |                     |  | average   |      | Weighted    |  |          |      |  |  | Weighted
|Range of   |  |                     |           |                     |  | remaining |      | average     |  |          |      |  |  | average 
|exercise   |  | Number              |           | contractual         |  | exercise  |      | Number      |  | exercise
|prices     |  | outstanding         |           | life                |  | price     |      | exercisable |  | price   
|           |  |                     |           |                     |  |           |      |             |  |         
|$0.01-1.99 |  |                     | 1,333,137 |                     |  |           | 8.86 |             |  | $        | 1.27 |  |  |          | 1,288,137 |  |  | $ | 1.28 | 
|2.00-3.99  |  |                     | 1,793,888 |                     |  |           | 6.45 |             |  |          | 2.51 |  |  |          | 1,741,888 |  |  |   | 2.52 | 
|4.00-6.00  |  |                     | 607,560   |                     |  |           | 5.17 |             |  |          | 4.69 |  |  |          | 607,560   |  |  |   | 4.69 | 
|           |  |                     |           |                     |  |           |      |             |  |          |      |  |  |          |           |  |  |   |      | 
|           |  |                     | 3,734,585 |                     |  |           |      |             |  |          |      |  |  |          | 3,637,585 |  |  |   |      | 
|           |  |                     |           |                     |  |           |      |             |  |          |      |  |  |          |           |  |  |   |      | 



|(18) |  | Other Income and Expense                                                                                                                                                                                                                                                                                                                          
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | Included in other income and expense during the year ended May 31, 1999 are
other than temporary unrealized losses related to the Companys investment
in shares of a public company of $4,943,000 as well as allowances totaling
$2,884,000 related to the Companys guarantees of certain debt and a
reserve for an outstanding note receivable.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(19) |  | Income Taxes                                     
|---- |  | -------------------------------------------------
|    
|     |  | Total income tax benefit (expense) is as follows:

|          |         |       |  |   |           |  |      |            |         |   |      |         |            |   |  |            |  
|--------- | ------- | ----- |  | - | --------- |  | ---- | ---------- | ------- | - | ---- | ------- | ---------- | - |  | ---------- | -
|          |         |       |  |   |           |  | 1999 |            | 2000    |   | 2001
|          |         |       |  |   |           |  |      |            |         |   |     
|Current:  |         |       |  |   |           |  |      |            |         |   |      |         |            |   |  |           
|          | Federal |       |  |   |           |  | $    | 262,000    |         |   |      |        |            |   |  |           |  
|          | Foreign |       |  |   |           |  |      | (1,422,000 | )       |   |      | (41,800 | )          |   |  | (1,796,000 | )
|Deferred: |         |       |  |   |           |  |      |            |         |   |      |         |            |   |  |           
|          | Federal |       |  |   |           |  |      | 3,799,000  |         |   |      | (8,000  | )          |   |  | (4,966,000 | )
|          | Foreign |       |  |   |           |  |      |           |         |   |      | 28,800  |            |   |  | (186,000   | )
|          |         |       |  |   |           |  |      |            |         |   |      |         |            |   |  |           
|          |         | Total |  | $ | 2,639,000 |  |      |            | (21,000 | ) |      |         | (6,948,000 | )
|          |         |       |  |   |           |  |      |            |         |   |      |         |            |   |  |           



| |  | The domestic and foreign components of income (loss) before income tax
benefit (expense) were as follows:
| |  | ---------------------------------------------------------------------------------------------------------

|         |                                          |  |   |             |   |      |  |             |   |      |  |             |   |  |  | 
|-------- | ---------------------------------------- |  | - | ----------- | - | ---- |  | ----------- | - | ---- |  | ----------- | - |  |  | 
|         |                                          |  |   |             |   | 1999 |  | 2000        |   | 2001
|         |                                          |  |   |             |   |      |  |             |   |     
|Domestic |                                          |  | $ | (18,992,000 | ) |      |  | (11,421,000 | ) |      |  | (29,564,000 | )
|Foreign  |                                          |  |   | 3,484,000   |   |      |  | (2,310,000  | ) |      |  | (39,208,000 | )
|         |                                          |  |   |             |   |      |  |             |   |      |  |             |   |  |  | 
|         | Loss before income tax benefit (expense) |  | $ | (15,508,000 | ) |      |  | (13,731,000 | ) |      |  | (68,772,000 | )
|         |                                          |  |   |             |   |      |  |             |   |      |  |             |   |  |  | 



| |  | There are no undistributed earnings of the Companys foreign subsidiaries
for which no U.S. income taxes have been provided at May 31, 2000 and 2001.
Current foreign income tax expense during the year ended May 31, 2001,
includes $1.7 million due to the disallowance of previously deducted
interest expense remitted to the U.S. parent corporation.
| |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| |  | A reconciliation of the U.S. federal statutory tax rate of 34% and the
Companys effective tax rates of 17%, 0% and (10)% during the years ended
May 31, 1999, 2000 and 2001, respectively, is as follows:
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                               |  |      |            |      |  |      |            |   |  |  |             |  
|---------------------------------------------- |  | ---- | ---------- | ---- |  | ---- | ---------- | - |  |  | ----------- | -
|                                               |  | 1999 |            | 2000 |  | 2001
|                                               |  |      |            |      |  |     
|Computed expected income tax
benefit (expense) |  | $    | 5,273,000  |      |  |      | 4,669,000  |   |  |  | 23,382,000  |  
|Difference in foreign income tax rate          |  |      |           |      |  |      |           |   |  |  | (1,568,000  | )
|Foreign permanent differences                  |  |      |           |      |  |      |           |   |  |  | (12,353,000 | )
|Change in valuation allowance                  |  |      | (2,200,000 | )    |  |      | (4,119,000 | ) |  |  | (15,750,000 | )
|Other                                          |  |      | (434,000   | )    |  |      | (571,000   | ) |  |  | (659,000    | )
|                                               |  |      |            |      |  |      |            |   |  |  |             |  
|                                               |  | $    | 2,639,000  |      |  |      | (21,000    | ) |  |  | (6,948,000  | )
|                                               |  |      |            |      |  |      |            |   |  |  |             |  



| |  | Deferred tax assets and liabilities are recognized based on the estimated
future tax consequences attributable to differences between the
consolidated financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Based upon the weight of
available evidence, the Company establishes a valuation allowance to reduce
the amount of deferred tax assets to the amount it believes will more
likely than not be realized in future periods. Significant components of
the Companys deferred tax assets (liabilities) at May 31 are as follows:
| |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                     |                                      |  |           |            |   |      |         |             |   | 
|-------------------- | ------------------------------------ |  | --------- | ---------- | - | ---- | ------- | ----------- | - | 
|                     |                                      |  |           | 2000       |   | 2001
|                     |                                      |  |           |            |   |     
|Deferred tax assets: |                                      |  |           |            |   |      |         |            
|                     | NOL carryforward                     |  | $         | 6,493,000  |   |      |         | 11,931,000  |  
|                     | Unrealized capital loss carryforward |  |           | 1,550,000  |   |      |         | 1,557,000   |  
|                     | Goodwill                             |  |           | 2,408,000  |   |      |         | 3,229,000   |  
|                     | Fixed asset write-off                |  |           | 540,000    |   |      |         | 3,507,000   |  
|                     | Inventory reserve                    |  |           | 502,000    |   |      |         | 1,397,000   |  
|                     | Other                                |  |           | 387,000    |   |      |         | 566,000     |  
|                     | Valuation allowances                 |  |           | (6,322,000 | ) |      |         | (22,072,000 | )
|                     |                                      |  |           |            |   |      |         |            
|                     |                                      |  | 5,558,000 |            |   |      | 115,000 |            
|                     |                                      |  |           |            |   |      |         |            

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

|                                         |               |                                    |           |           |           |      |           |           |            |  
|---------------------------------------- | ------------- | ---------------------------------- | --------- | --------- | --------- | ---- | --------- | --------- | ---------- | -
|                                         |               |                                    |           | 2000      |           | 2001
|                                         |               |                                    |           |           |           |     
|Deferred tax liabilities  depreciation: |               |                                    |           |           |           |      |           |          
|                                         | Domestic      |                                    |           | 1,745,000 |           |      |           | 1,227,000 |           
|                                         | International |                                    |           | 638,000   |           |      |           | 850,000   |           
|                                         |               |                                    |           |           |           |      |           |          
|                                         |               |                                    | 2,383,000 |           |           |      | 2,077,000 |          
|                                         |               |                                    |           |           |           |      |           |          
|                                         |               | Net deferred tax asset (liability) |           | $         | 3,175,000 |      |           |           | (1,962,000 | )
|                                         |               |                                    |           |           |           |      |           |          

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|     |  | The Company has net operating loss (NOLs) carryforwards for U.S. federal
income tax purposes of approximately $38.1 million, the benefits of which
expire in the tax year 2002 through the tax year 2021.                                                                                                                                                                                                                                                                
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | The NOLs created by the Companys subsidiaries prior to their acquisition
and the NOLs created as a consolidated group or groups subsequent to a
qualifying tax free merger or acquisition, have limitations related to the
amount of usage by each subsidiary or consolidated group as described in
the Internal Revenue Code. As a result of these limitations, approximately
$2.0 million of the $38.1 million total NOLs at May 31, 2001 will never
become available.
|    
|(20) |  | Net Loss Per Share                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    
|     |  | Basic net loss per share is computed on the basis of the weighted average
number of common shares outstanding. Diluted net loss per share is
computed on the basis of the weighted average number of common shares
outstanding, using the if-converted method, and outstanding stock options
and warrants, using the treasury stock method.                                                                                                                          
|    
|     |  | The components of basic and diluted net loss per share at May 31 were as
follows:                                                                                                                                                                                                                                                                                                                                                                                        

|                                           |               |   |             |       |      |  |             |       |   |  |             |       |  
|------------------------------------------ | ------------- | - | ----------- | ----- | ---- |  | ----------- | ----- | - |  | ----------- | ----- | -
|                                           |               |   | 1999        |       | 2000 |  | 2001       
|                                           |               |   |             |       |      |  |            
|Net loss available for common shareholders |               | $ | (12,869,000 | )     |      |  | (13,049,000 | )     |   |  | (75,720,000 | )    
|                                           |               |   |             |       |      |  |             |       |   |  |             |      
|Average outstanding shares of common stock |               |   | 17,359,491  |       |      |  | 21,955,473  |       |   |  | 35,283,347  |      
|Dilutive effect of:                        |               |   |             |       |      |  |             |       |   |  |             |      
|                                           | Warrants      |   |             |      |      |  |             |      |   |  |             |      |  
|                                           | Stock options |   |             |      |      |  |             |      |   |  |             |      |  
|                                           |               |   |             |       |      |  |             |       |   |  |             |      
|Common stock and common stock equivalents  |               |   | 17,359,491  |       |      |  | 21,955,473  |       |   |  | 35,283,347  |      
|                                           |               |   |             |       |      |  |             |       |   |  |             |      
|Net loss per share:                        |               |   |             |       |      |  |             |       |   |  |             |      
|                                           | Basic         |   | $           | (0.74 | )    |  |             | (0.59 | ) |  |             | (2.15 | )
|                                           | Diluted       |   |             | (0.74 | )    |  |             | (0.59 | ) |  |             | (2.15 | )



| |  | Options, warrants and convertible stock were not included in the
calculation of net loss per share as they are anti-dilutive. The total
number of anti-dilutive options and warrants as of May 31, 2001 was
11,607,787.
| |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(21) |  | Fair Value of Financial Instruments                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|     |  | The Companys financial instruments include cash and cash equivalents,
receivables, accounts payable, accrued liabilities, and short and long-term
borrowings. The fair value of these financial instruments approximates
their carrying amounts based on current market indicators, such as
prevailing interest rates, with the exception of the senior subordinated
notes payable, which are currently trading at approximately 50% of face
value.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|    
|(22) |  | Legal                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|    
|     |  | The Company is currently subject and party to various legal actions arising
in the normal course of business. Management believes the ultimate
liability, if any, arising from such claims or contingencies is not likely
to have a material adverse effect on the Companys results of operations or
financial condition.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|    
|     |  | In the normal course of business, the Company disposes of potentially
hazardous material which could result in claims related to environmental
cleanup. The Company has not been notified of any related claims. The
Company is subject to various other environmental and governmental
regulations. Although the extent of any noncompliance with those
regulations, if any, is not completely ascertainable, management believes
the ultimate liability is not likely to have a material adverse effect on
the Companys results of operations or financial condition.                                                                                                                                                                                                                                                                                                                                                                        
|    
|(23) |  | Consolidating Condensed Financial Statements                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|    
|     |  | The following statements present consolidating condensed financial
information of the Company for the indicated periods. The Companys senior
subordinated notes, which were to finance the Aeroment acquisition in July
1998, have been guaranteed by all of the Companys U.S. wholly owned
subsidiaries. The guarantor subsidiaries have fully and unconditionally
guaranteed this debt on a joint and several basis. This debt is not
guaranteed by the Companys foreign subsidiaries, which consist of Aeroment
and two related holding companies. There are no significant contractual
restrictions on the distribution of funds from the guarantor subsidiaries
to the parent corporation. The consolidating condensed financial
information is presented in lieu of separate financial statements and other
disclosures of the guarantor subsidiaries, as management has determined
that such information is not material to investors.

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (a) |  | Consolidating condensed balance sheet information at May 31, 2000 is as
follows:
| | --- |  | --------------------------------------------------------------------------------

|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |             | 
|------------------------------------ | --------------------------------------------------------------- | --------------------------- | --------- | ----------- | ----------- | ------------ | ---------- | ------------ | ----------- | ------------- | ---------- | ------------ | ---------- |  | - | ------------ | ------------ | - | ---------- | ---------- | ----------- | 
|                                     |                                                                 |                             |           |             |             |              |            | Guarantor    |             | Non-Guarantor |            |              |            |  |   |              |              |  
|                                     |                                                                 |                             |           | Parent      |             | subsidiaries |            | subsidiaries |             | Eliminations  |            | Consolidated
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |             
|Assets                               |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           
|Current assets:                      |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           
|                                     | Cash and cash equivalents                                       |                             | $         | (184,000    | )           |              |            | 58,000       |             |               |            | 2,280,000    |            |  |   |             |              |   |            | 2,154,000  |            
|                                     | Accounts receivable, net                                        |                             |           |            |             |              |            | 9,047,000    |             |               |            | 12,527,000   |            |  |   | (364,000     | )            |   |            | 21,210,000 |            
|                                     | Inventories                                                     |                             |           |            |             |              |            | 17,307,000   |             |               |            | 10,542,000   |            |  |   |             |              |   |            | 27,849,000 |            
|                                     | Other                                                           |                             |           | 895,000     |             |              |            | 1,145,000    |             |               |            | 500,000      |            |  |   |             |              |   |            | 2,540,000  |            
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|                                     |                                                                 | Total current assets        |           |             | 711,000     |              |            |              | 27,557,000  |               |            |              | 25,849,000 |  |   |              | (364,000     | ) |            |            | 53,753,000  | 
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|Property, plant and equipment, net   |                                                                 |                             | 6,340,000 |             |             |              | 22,995,000 |              |             |               | 14,741,000 |              |            |  |  |              |              |   | 44,076,000 |           
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|Other assets:                        |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           
|                                     | Costs in excess of net book value of
acquired subsidiaries, net |                             |           |            |             |              |            | 3,296,000    |             |               |            | 34,995,000   |            |  |   |             |              |   |            | 38,291,000 |            
|                                     | Investment in and loans to subsidiaries                         |                             |           | 111,792,000 |             |              |            | 72,618,000   |             |               |            |             |            |  |   | (184,410,000 | )            |   |            |           |            
|                                     | Other                                                           |                             |           | 5,183,000   |             |              |            | 2,982,000    |             |               |            | (703,000     | )          |  |   |             |              |   |            | 7,462,000  |            
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|                                     |                                                                 | Total other assets          |           |             | 116,975,000 |              |            |              | 78,896,000  |               |            |              | 34,292,000 |  |   |              | (184,410,000 | ) |            |            | 45,753,000  | 
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|                                     |                                                                 | Total assets                |           | $           | 124,026,000 |              |            |              | 129,448,000 |               |            |              | 74,882,000 |  |   |              | (184,774,000 | ) |            |            | 143,582,000 | 
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|Liabilities and Stockholders Equity |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           
|Current liabilities:                 |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           
|                                     | Accounts payable                                                |                             | $         | 667,000     |             |              |            | 3,729,000    |             |               |            | 6,598,000    |            |  |   | (364,000     | )            |   |            | 10,630,000 |            
|                                     | Current portion of long-term debt                               |                             |           | 170,000     |             |              |            | 928,000      |             |               |            |             |            |  |   |             |              |   |            | 1,098,000  |            
|                                     | Line of credit                                                  |                             |           | 5,379,000   |             |              |            |             |             |               |            |             |            |  |   |             |              |   |            | 5,379,000  |            
|                                     | Other                                                           |                             |           | 2,989,000   |             |              |            | 2,898,000    |             |               |            | 1,578,000    |            |  |   |             |              |   |            | 7,465,000  |            
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|                                     |                                                                 | Total current liabilities   |           |             | 9,205,000   |              |            |              | 7,555,000   |               |            |              | 8,176,000  |  |   |              | (364,000     | ) |            |            | 24,572,000  | 
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|Long-term liabilities:               |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           
|                                     | Long-term debt, net of current portion                          |                             |           | 64,928,000  |             |              |            | 2,933,000    |             |               |            |             |            |  |   |             |              |   |            | 67,861,000 |            
|                                     | Intercompany loan payable                                       |                             |           |            |             |              |            | 71,484,000   |             |               |            | 38,957,000   |            |  |   | (110,441,000 | )            |   |            |           |            
|                                     | Other                                                           |                             |           | 125,000     |             |              |            | 706,000      |             |               |            | 550,000      |            |  |   |             |              |   |            | 1,381,000  |            
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|                                     |                                                                 | Total long-term liabilities |           |             | 65,053,000  |              |            |              | 75,123,000  |               |            |              | 39,507,000 |  |   |              | (110,441,000 | ) |            |            | 69,242,000  | 
|                                     |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |            |            
|Stockholders equity (deficit):      |                                                                 |                             |           |             |             |              |            |              |             |               |            |              |            |  |   |              |              |   |            |           

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

| |                                      |                                            |  |             |             |              |  |              |             |               |  |              |            |  |  |             |              |   |  |             |             | 
| | ------------------------------------ | ------------------------------------------ |  | ----------- | ----------- | ------------ |  | ------------ | ----------- | ------------- |  | ------------ | ---------- |  |  | ----------- | ------------ | - |  | ----------- | ----------- | 
| |                                      |                                            |  |             |             |              |  | Guarantor    |             | Non-Guarantor |  |              |            |  |  |             |              |  
| |                                      |                                            |  | Parent      |             | subsidiaries |  | subsidiaries |             | Eliminations  |  | Consolidated
| |                                      |                                            |  |             |             |              |  |              |             |               |  |             
| | Convertible preferred stock          |                                            |  |            |             |              |  |             |             |               |  |             |            |  |  |            |              |   |  |            |            
| | Common stock                         |                                            |  | 30,000      |             |              |  | 56,139,000   |             |               |  | 33,710,000   |            |  |  | (89,849,000 | )            |   |  | 30,000      |            
| | Additional paid-in capital           |                                            |  | 83,173,000  |             |              |  |             |             |               |  |             |            |  |  |            |              |   |  | 83,173,000  |            
| | Accumulated other comprehensive loss |                                            |  | (6,250,000  | )           |              |  |             |             |               |  | (6,250,000   | )          |  |  | 6,250,000   |              |   |  | (6,250,000  | )          
| | Accumulated deficit                  |                                            |  | (27,185,000 | )           |              |  | (9,369,000   | )           |               |  | (261,000     | )          |  |  | 9,630,000   |              |   |  | (27,185,000 | )          
| |                                      |                                            |  |             |             |              |  |              |             |               |  |              |            |  |  |             |              |   |  |             |            
| |                                      | Total stockholders equity (deficit)       |  |             | 49,768,000  |              |  |              | 46,770,000  |               |  |              | 27,199,000 |  |  |             | (73,969,000  | ) |  |             | 49,768,000  | 
| |                                      |                                            |  |             |             |              |  |              |             |               |  |              |            |  |  |             |              |   |  |             |            
| |                                      | Total liabilities and stockholders
equity |  | $           | 124,026,000 |              |  |              | 129,448,000 |               |  |              | 74,882,000 |  |  |             | (184,774,000 | ) |  |             | 143,582,000 | 
| |                                      |                                            |  |             |             |              |  |              |             |               |  |              |            |  |  |             |              |   |  |             |            

(Continued)

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (b) |  | Consolidating condensed balance sheet information at May 31, 2001 is as
follows:
| | --- |  | --------------------------------------------------------------------------------

|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |            |            | 
|---------------------------------------------- | --------------------------------------------------------------- | --------------------------- | ------------------------- | ---------- | ---------- | ---------- | ------------ | ---------- | ------------ | ----------- | ------------- | ---------- | ------------ | ---------- | - | ------------ | ------------ | ------------ | ---------- | ---------- | ---------- | ---------- | 
|                                               |                                                                 |                             |                           |            |            |            |              |            | Guarantor    |             | Non-guarantor |            |              |            |   |              |              |              |           
|                                               |                                                                 |                             |                           |            | Parent     |            | subsidiaries |            | subsidiaries |             | Eliminations  |            | Consolidated
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |             
|Assets                                         |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|Current assets:                                |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|                                               | Cash and cash equivalents                                       |                             | $                         | 1,134,000  |            |            |              | 3,000      |              |             |               | 2,958,000  |              |            |   |             |              |              |            | 4,095,000  |           
|                                               | Accounts receivable, net                                        |                             |                           |           |            |            |              | 6,423,000  |              |             |               | 12,839,000 |              |            |   | (161,000     | )            |              |            | 19,101,000 |           
|                                               | Inventories                                                     |                             |                           |           |            |            |              | 14,326,000 |              |             |               | 8,668,000  |              |            |   |             |              |              |            | 22,994,000 |           
|                                               | Other                                                           |                             |                           | 3,975,000  |            |            |              | 299,000    |              |             |               | 401,000    |              |            |   | (3,894,000   | )            |              |            | 781,000    |           
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|                                               |                                                                 |                             | Total current assets      |            |            | 5,109,000  |              |            |              | 21,051,000  |               |            |              | 24,866,000 |   |              |              | (4,055,000   | )          |            |            | 46,971,000 | 
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|Property, plant and equipment, net             |                                                                 |                             | 5,319,000                 |            |            |            | 11,882,000   |            |              |             | 9,553,000     |            |              |            |  |              |              |              | 26,754,000 |           
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|Other assets:                                  |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|                                               | Costs in excess of net book value of acquired
subsidiaries, net |                             |                           |           |            |            |              | 351,000    |              |             |               |           |              |            |   |             |              |              |            | 351,000    |           
|                                               | Investment in and loans to subsidiaries                         |                             |                           | 41,943,000 |            |            |              | 72,618,000 |              |             |               |           |              |            |   | (114,561,000 | )            |              |            |           |           
|                                               | Other                                                           |                             |                           | 5,699,000  |            |            |              | 1,041,000  |              |             |               |           |              |            |   |             |              |              |            | 6,740,000  |           
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|                                               |                                                                 |                             | Total other assets        |            |            | 47,642,000 |              |            |              | 74,010,000  |               |            |              |           |   |              |              | (114,561,000 | )          |            |            | 7,091,000  | 
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|                                               |                                                                 |                             | Total assets              |            | $          | 58,070,000 |              |            |              | 106,943,000 |               |            |              | 34,419,000 |   |              |              | (118,616,000 | )          |            |            | 80,816,000 | 
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|Liabilities and Stockholders Equity (Deficit) |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|Current liabilities:                           |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|                                               | Accounts payable                                                |                             | $                         | 921,000    |            |            |              | 5,328,000  |              |             |               | 6,551,000  |              |            |   | (161,000     | )            |              |            | 12,639,000 |           
|                                               | Current portion of long-term debt                               |                             |                           | 90,000     |            |            |              | 839,000    |              |             |               |           |              |            |   |             |              |              |            | 929,000    |           
|                                               | Other                                                           |                             |                           | 3,413,000  |            |            |              | 2,351,000  |              |             |               | 6,499,000  |              |            |   | (3,894,000   | )            |              |            | 8,369,000  |           
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|                                               |                                                                 |                             | Total current liabilities |            |            | 4,424,000  |              |            |              | 8,518,000   |               |            |              | 13,050,000 |   |              |              | (4,055,000   | )          |            |            | 21,937,000 | 
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|Long-term liabilities:                         |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|                                               | Long-term debt, net of current portion                          |                             |                           | 78,635,000 |            |            |              | 2,034,000  |              |             |               |           |              |            |   |             |              |              |            | 80,669,000 |           
|                                               | Intercompany loan payable                                       |                             |                           |           |            |            |              | 71,723,000 |              |             |               | 36,957,000 |              |            |   | (108,680,000 | )            |              |            |           |           
|                                               | Other                                                           |                             |                           | 125,000    |            |            |              | 1,880,000  |              |             |               | 1,319,000  |              |            |   |             |              |              |            | 3,324,000  |           
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|                                               |                                                                 | Total long-term liabilities |                           |            | 78,760,000 |            |              |            | 75,637,000   |             |               |            | 38,276,000   |            |   |              | (108,680,000 | )            |            |            | 83,993,000 |           
|                                               |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |            |           
|Stockholders equity (deficit):                |                                                                 |                             |                           |            |            |            |              |            |              |             |               |            |              |            |   |              |              |              |            |           
|                                               | Common stock                                                    |                             |                           | 39,000     |            |            |              | 56,139,000 |              |             |               | 33,709,000 |              |            |   | (89,848,000  | )            |              |            | 39,000     |           

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PACIFIC AEROSPACE &
 ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

| |                                      |  |                                            |              |        |             |              |             |              |             |               |             |              |             |   |            |  |              |   |              |   |             |  
| | ------------------------------------ |  | ------------------------------------------ | ------------ | ------ | ----------- | ------------ | ----------- | ------------ | ----------- | ------------- | ----------- | ------------ | ----------- | - | ---------- |  | ------------ | - | ------------ | - | ----------- | -
| |                                      |  |                                            |              |        |             |              |             | Guarantor    |             | Non-guarantor |             |              |             |   |            |  |              |  
| |                                      |  |                                            |              | Parent |             | subsidiaries |             | subsidiaries |             | Eliminations  |             | Consolidated
| |                                      |  |                                            |              |        |             |              |             |              |             |               |             |             
| | Additional paid-in capital           |  |                                            | 86,917,000   |        |             |              |            |              |             |               |            |              |             |   |           |  |              |   | 86,917,000   |  
| | Accumulated other comprehensive loss |  |                                            | (9,165,000   | )      |             |              |            |              |             |               | (9,165,000  | )            |             |   | 9,165,000  |  |              |   | (9,165,000   | )
| | Accumulated deficit                  |  |                                            | (102,905,000 | )      |             |              | (33,351,000 | )            |             |               | (41,451,000 | )            |             |   | 74,802,000 |  |              |   | (102,905,000 | )
| |                                      |  |                                            |              |        |             |              |             |              |             |               |             |              |             |   |            |  |              |   |              |  
| |                                      |  | Total stockholders equity (deficit)       |              |        | (25,114,000 | )            |             |              | 22,788,000  |               |             |              | (16,907,000 | ) |            |  | (5,881,000   | ) |              |   | (25,114,000 | )
| |                                      |  |                                            |              |        |             |              |             |              |             |               |             |              |             |   |            |  |              |   |              |  
| |                                      |  | Total liabilities and stockholders equity |              | $      | 58,070,000  |              |             |              | 106,943,000 |               |             |              | 34,419,000  |   |            |  | (118,616,000 | ) |              |   | 80,816,000  |  
| |                                      |  |                                            |              |        |             |              |             |              |             |               |             |              |             |   |            |  |              |   |              |  

(Continued)

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (c) |  | Consolidating condensed statement of operations information for the year
ended May 31, 1999 is as follows:
| | --- |  | ----------------------------------------------------------------------------------------------------------

|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |            |             |  
|---------------------------------- | -------------------------------------------- | --------------------------------------- | --------- | ---------- | ----------- | ------------ | ---------- | ------------ | ---------- | ------------- | ------------ | ---------- | ---------- | - | ---------- | ---------- | --------- | - | ----------- | ---------- | ----------- | -
|                                   |                                              |                                         |           |            |             |              |            | Guarantor    |            | Non-guarantor |              |            |            |   |            |            |           |  
|                                   |                                              |                                         |           | Parent     |             | subsidiaries |            | subsidiaries |            | Eliminations  | Consolidated |           
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |           
|Net sales                          |                                              | $                                       |          |            |             |              | 56,675,000 |              |            |               | 52,814,000   |            |            |   | (2,123,000 | )          |           |   | 107,366,000 |           
|Cost of sales                      |                                              |                                         |          |            |             |              | 46,150,000 |              |            |               | 42,275,000   |            |            |   | (2,123,000 | )          |           |   | 86,302,000  |           
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Gross profit                            |           |            |            |              |            |              | 10,525,000 |               |              |            | 10,539,000 |   |            |            |          |   |             |            | 21,064,000  |  
|Operating expenses                 |                                              |                                         | 4,367,000 |            |             |              | 16,194,000 |              |            |               | 3,556,000    |            |            |   | (2,078,000 | )          |           |   | 22,039,000  |           
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Income (loss) from operations           |           |            | (4,367,000  | )            |            |              | (5,669,000 | )             |              |            | 6,983,000  |   |            |            | 2,078,000 |   |             |            | (975,000    | )
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|Other income (expense):            |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   | Parents share of subsidiaries net loss      |                                         |           | (1,800,000 | )           |              |            |             |            |               |              |           |            |   |            | 1,800,000  |           |   |             |           |            
|                                   | Interest expense                             |                                         |           | (8,050,000 | )           |              |            | (622,000     | )          |               |              | (3,516,000 | )          |   |            | 3,516,000  |           |   |             | (8,672,000 | )          
|                                   | Other                                        |                                         |           | (727,000   | )           |              |            | 443,000      |            |               |              | 17,000     |            |   |            | (5,594,000 | )         |   |             | (5,861,000 | )          
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Total other expense                     |           |            | (10,577,000 | )            |            |              | (179,000   | )             |              |            | (3,499,000 | ) |            |            | (278,000  | ) |             |            | (14,533,000 | )
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Income (loss) before income taxes       |           |            | (14,944,000 | )            |            |              | (5,848,000 | )             |              |            | 3,484,000  |   |            |            | 1,800,000 |   |             |            | (15,508,000 | )
|Income tax benefit (expense)       |                                              |                                         | 2,075,000 |            |             |              | 1,986,000  |              |            |               | (1,422,000   | )          |            |   |           |            |           |   | 2,639,000   |           
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Net income (loss)                       |           |            | (12,869,000 | )            |            |              | (3,862,000 | )             |              |            | 2,062,000  |   |            |            | 1,800,000 |   |             |            | (12,869,000 | )
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|Other comprehensive income (loss): |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   | Foreign currency translation, net of tax     |                                         |           | (4,000     | )           |              |            |             |            |               |              | (1,136,000 | )          |   |            |           |           |   |             | (1,140,000 | )          
|                                   | Adjustment for unrealized loss on investment |                                         |           | 436,000    |             |              |            |             |            |               |              |           |            |   |            |           |           |   |             | 436,000    |            
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Total other comprehensive income (loss) |           |            | 432,000     |              |            |              |           |               |              |            | (1,136,000 | ) |            |            |          |   |             |            | (704,000    | )
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           
|                                   |                                              | Comprehensive income (loss)             |           | $          | (12,437,000 | )            |            |              | (3,862,000 | )             |              |            | 926,000    |   |            |            | 1,800,000 |   |             |            | (13,573,000 | )
|                                   |                                              |                                         |           |            |             |              |            |              |            |               |              |            |            |   |            |            |           |   |             |           

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (d) |  | Consolidating condensed statement of operations information for the year
ended May 31, 2000 is as follows:
| | --- |  | ----------------------------------------------------------------------------------------------------------

|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |            |             |  
|------------------------------------------------------------------- | --------------------------------------- | ----------------------------------------------- | ---------- | ---------- | ----------- | ------------ | ---------- | ------------ | ---------- | ------------- | ---------- | ------------ | ---------- | - | ---------- | ----------- | ---------- |  | ----------- | ---------- | ----------- | -
|                                                                    |                                         |                                                 |            |            |             |              |            | Guarantor    |            | Non-guarantor |            |              |            |   |            |             |            | 
|                                                                    |                                         |                                                 |            | Parent     |             | subsidiaries |            | subsidiaries |            | Eliminations  |            | Consolidated
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |             
|Net sales                                                           |                                         | $                                               |           |            |             |              | 58,408,000 |              |            |               | 56,913,000 |              |            |   | (2,627,000 | )           |            |  | 112,694,000 |           
|Cost of sales                                                       |                                         |                                                 |           |            |             |              | 45,433,000 |              |            |               | 49,257,000 |              |            |   | (2,627,000 | )           |            |  | 92,063,000  |           
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    |                                         | Gross profit                                    |            |            |            |              |            |              | 12,975,000 |               |            |              | 7,656,000  |   |            |             |           |  |             |            | 20,631,000  |  
|Operating expenses                                                  |                                         |                                                 | 6,896,000  |            |             |              | 18,036,000 |              |            |               | 5,652,000  |              |            |   | (6,051,000 | )           |            |  | 24,533,000  |           
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    |                                         | Income (loss) from operations                   |            |            | (6,896,000  | )            |            |              | (5,061,000 | )             |            |              | 2,004,000  |   |            |             | 6,051,000  |  |             |            | (3,902,000  | )
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|Other income (expense):                                             |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    | Parents share of subsidiaries net loss |                                                 |            | (7,738,000 | )           |              |            |             |            |               |            |             |            |   |            | 7,738,000   |            |  |             |           |            
|                                                                    | Interest expense                        |                                                 |            | (9,394,000 | )           |              |            | (4,748,000   | )          |               |            | (4,349,000   | )          |   |            | 8,532,000   |            |  |             | (9,959,000 | )          
|                                                                    | Other                                   |                                                 |            | 10,284,000 |             |              |            | 4,394,000    |            |               |            | 35,000       |            |   |            | (14,583,000 | )          |  |             | 130,000    |            
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    |                                         | Total other expense                             |            |            | (6,848,000  | )            |            |              | (354,000   | )             |            |              | (4,314,000 | ) |            |             | 1,687,000  |  |             |            | (9,829,000  | )
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    |                                         | Loss before income taxes and
extraordinary item |            |            | (13,744,000 | )            |            |              | (5,415,000 | )             |            |              | (2,310,000 | ) |            |             | 7,738,000  |  |             |            | (13,731,000 | )
|Income tax expense                                                  |                                         |                                                 | (8,000     | )          |             |              |           |              |            |               | (13,000    | )            |            |   |           |             |            |  | (21,000     | )         
|Extraordinary item, net of tax                                      |                                         |                                                 | 703,000    |            |             |              |           |              |            |               |           |              |            |   |           |             |            |  | 703,000     |           
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    |                                         | Net loss                                        |            |            | (13,049,000 | )            |            |              | (5,415,000 | )             |            |              | (2,323,000 | ) |            |             | 7,738,000  |  |             |            | (13,049,000 | )
|Other comprehensive loss  foreign currency translation,
net of tax |                                         |                                                 | (5,110,000 | )          |             |              |           |              |            |               | (5,110,000 | )            |            |   | 5,110,000  |             |            |  | (5,110,000  | )         
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           
|                                                                    |                                         | Comprehensive loss                              |            | $          | (18,159,000 | )            |            |              | (5,415,000 | )             |            |              | (7,433,000 | ) |            |             | 12,848,000 |  |             |            | (18,159,000 | )
|                                                                    |                                         |                                                 |            |            |             |              |            |              |            |               |            |              |            |   |            |             |            |  |             |           

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



|(e) |  | Consolidating condensed statement of operations information for the year
ended May 31, 2001 is as follows:
|--- |  | ----------------------------------------------------------------------------------------------------------

|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |             |             |  
|------------------------------------------------------- | --------------------------------------- | ------------------------ | ---------- | ----------- | ----------- | ------------ | ---------- | ------------ | ----------- | ------------- | ---------- | ------------ | ----------- | - | ---------- | ----------- | ---------- |  | ----------- | ----------- | ----------- | -
|                                                        |                                         |                          |            |             |             |              |            | Guarantor    |             | Non-guarantor |            |              |             |   |            |             |            | 
|                                                        |                                         |                          |            | Parent      |             | subsidiaries |            | subsidiaries |             | Eliminations  |            | Consolidated
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |             
|Net sales                                               |                                         | $                        |           |             |             |              | 59,943,000 |              |             |               | 51,597,000 |              |             |   | (2,252,000 | )           |            |  | 109,288,000 |            
|Cost of sales                                           |                                         |                          |           |             |             |              | 57,428,000 |              |             |               | 45,872,000 |              |             |   | (2,252,000 | )           |            |  | 101,048,000 |            
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        |                                         | Gross profit             |            |             |            |              |            |              | 2,515,000   |               |            |              | 5,725,000   |   |            |             |           |  |             |             | 8,240,000   |  
|Operating expenses                                      |                                         |                          | 7,336,000  |             |             |              | 25,687,000 |              |             |               | 40,965,000 |              |             |   | (6,787,000 | )           |            |  | 67,201,000  |            
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        |                                         | Loss from operations     |            |             | (7,336,000  | )            |            |              | (23,172,000 | )             |            |              | (35,240,000 | ) |            |             | 6,787,000  |  |             |             | (58,961,000 | )
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|Other income (expense):                                 |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        | Parents share of subsidiaries net loss |                          |            | (65,172,000 | )           |              |            |             |             |               |            |             |             |   |            | 65,172,000  |            |  |             |            |            
|                                                        | Interest expense                        |                          |            | (9,423,000  | )           |              |            | (4,416,000   | )           |               |            | (3,976,000   | )           |   |            | 7,788,000   |            |  |             | (10,027,000 | )          
|                                                        | Other                                   |                          |            | 10,536,000  |             |              |            | 4,247,000    |             |               |            | 8,000        |             |   |            | (14,575,000 | )          |  |             | 216,000     |            
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        |                                         | Total other expense      |            |             | (64,059,000 | )            |            |              | (169,000    | )             |            |              | (3,968,000  | ) |            |             | 58,385,000 |  |             |             | (9,811,000  | )
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        |                                         | Loss before income taxes |            |             | (71,395,000 | )            |            |              | (23,341,000 | )             |            |              | (39,208,000 | ) |            |             | 65,172,000 |  |             |             | (68,772,000 | )
|Income tax expense                                      |                                         |                          | (4,325,000 | )           |             |              | (641,000   | )            |             |               | (1,982,000 | )            |             |   |           |             |            |  | (6,948,000  | )          
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        |                                         | Net loss                 |            |             | (75,720,000 | )            |            |              | (23,982,000 | )             |            |              | (41,190,000 | ) |            |             | 65,172,000 |  |             |             | (75,720,000 | )
|Other comprehensive loss  foreign
currency translation |                                         |                          | (2,915,000 | )           |             |              |           |              |             |               | (2,915,000 | )            |             |   | 2,915,000  |             |            |  | (2,915,000  | )          
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            
|                                                        |                                         | Comprehensive loss       |            | $           | (78,635,000 | )            |            |              | (23,982,000 | )             |            |              | (44,105,000 | ) |            |             | 68,087,000 |  |             |             | (78,635,000 | )
|                                                        |                                         |                          |            |             |             |              |            |              |             |               |            |              |             |   |            |             |            |  |             |            

Continued

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##### Table of Contents



PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (f) |  | Consolidating condensed statement of cash flows information for the year
ended May 31, 1999 is as follows:
| | --- |  | ----------------------------------------------------------------------------------------------------------

|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |   |           |             |  
|----------------------------------------------------------------------------------------- | ------------------------------------------- | ----------------------------------------------------------------- | ------------------------------------------------ | - | --------- | ----------- | ------------ |  | ------------ | ----------- | ------------- | - | ------------ | ---------- | --------- |  | - | ----------- | ---------- | - | --------- | ----------- | -
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  | Guarantor    |             | Non-guarantor |   |              |            |           |  |   |             |           
|                                                                                          |                                             |                                                                   |                                                  |   | Parent    |             | subsidiaries |  | subsidiaries |             | Eliminations  |   | Consolidated
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |             
|Cash flow from operating activities  net cash
provided by (used in) operating activities |                                             | $                                                                 | (7,015,000                                       | ) |           |             | 888,000      |  |              |             | 3,955,000     |   |              |            | 1,800,000 |  |   |             | (372,000   | )
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|Cash flow from investing activities:                                                      |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|                                                                                          |                                             |                                                                   | Acquisition of property, plant and equipment     |   |           | (2,251,000  | )            |  |              | (4,206,000  | )             |   |              | (1,583,000 | )         |  |   |            |            |   |           | (8,040,000  | )
|                                                                                          |                                             |                                                                   | Investment in and loans to subsidiaries          |   |           | (69,752,000 | )            |  |              | (72,618,000 | )             |   |              |           |           |  |   | 72,618,000  |            |   |           | (69,752,000 | )
|                                                                                          |                                             |                                                                   | Other changes, net                               |   |           | (6,401,000  | )            |  |              | 76,000      |               |   |              | (85,000    | )         |  |   | 4,928,000   |            |   |           | (1,482,000  | )
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|                                                                                          |                                             |                                                                   | Net cash used in investing activities            |   |           | (78,404,000 | )            |  |              | (76,748,000 | )             |   |              | (1,668,000 | )         |  |   | 77,546,000  |            |   |           | (79,274,000 | )
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|Cash flow from financing activities:                                                      |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|                                                                                          |                                             |                                                                   | Payments on long-term debt and capital leases    |   |           | (4,154,000  | )            |  |              | (1,548,000  | )             |   |              | (50,000    | )         |  |   |            |            |   |           | (5,752,000  | )
|                                                                                          |                                             |                                                                   | Proceeds from long-term debt                     |   |           | 72,160,000  |              |  |              | 72,618,000  |               |   |              |           |           |  |   | (72,618,000 | )          |   |           | 72,160,000  |  
|                                                                                          |                                             |                                                                   | Proceeds from sale of common stock, net          |   |           | 4,898,000   |              |  |              |            |               |   |              |           |           |  |   |            |            |   |           | 4,898,000   |  
|                                                                                          |                                             |                                                                   | Proceeds from sale of preferred stock, net       |   |           | 6,630,000   |              |  |              |            |               |   |              |           |           |  |   |            |            |   |           | 6,630,000   |  
|                                                                                          |                                             |                                                                   | Other changes, net                               |   |           | (1,715,000  | )            |  |              | 2,765,000   |               |   |              | 4,167,000  |           |  |   | (6,728,000  | )          |   |           | (1,511,000  | )
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|                                                                                          |                                             |                                                                   | Net cash provided by financing
       activities |   |           | 77,819,000  |              |  |              | 73,835,000  |               |   |              | 4,117,000  |           |  |   | (79,346,000 | )          |   |           | 76,425,000  |  
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|                                                                                          |                                             |                                                                   | Net change in cash and cash
       equivalents   |   |           | (7,600,000  | )            |  |              | (2,025,000  | )             |   |              | 6,404,000  |           |  |   |            |            |   |           | (3,221,000  | )
|Cash and cash equivalents at beginning of year                                            |                                             |                                                                   | 9,398,000                                        |   |           |             | 2,063,000    |  |              |             |              |   |              |            |          |  |   |             | 11,461,000 |  
|Effect of exchange rates on cash                                                          |                                             |                                                                   |                                                 |   |           |             |             |  |              |             | (106,000      | ) |              |            |          |  |   |             | (106,000   | )
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|Cash and cash equivalents at end of year                                                  |                                             | $                                                                 | 1,798,000                                        |   |           |             | 38,000       |  |              |             | 6,298,000     |   |              |            |          |  |   |             | 8,134,000  |  
|                                                                                          |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|Supplemental cash flow:                                                                   |                                             |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |  
|                                                                                          | Noncash operating expenses related to:      |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |   |          
|                                                                                          |                                             | Depreciation                                                      |                                                  | $ | 192,000   |             |              |  | 2,970,000    |             |               |   | 2,306,000    |            |           |  |  |             |            |   | 5,468,000 |            
|                                                                                          |                                             | Amortization                                                      |                                                  |   |          |             |              |  | 392,000      |             |               |   | 844,000      |            |           |  |  |             |            |   | 1,236,000 |            
|                                                                                          | Cash paid during the year for:              |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |   |          
|                                                                                          |                                             | Interest                                                          |                                                  |   | 4,870,000 |             |              |  | 413,000      |             |               |   | 13,000       |            |           |  |  |             |            |   | 5,296,000 |            
|                                                                                          |                                             | Income taxes                                                      |                                                  |   | 100,000   |             |              |  |             |             |               |   | 311,000      |            |           |  |  |             |            |   | 411,000   |            
|                                                                                          | Noncash investing and financing activities: |                                                                   |                                                  |   |           |             |              |  |              |             |               |   |              |            |           |  |   |             |            |   |          
|                                                                                          |                                             | Seller financed acquisition of property, plant
and equipment      |                                                  |   |          |             |              |  | 241,000      |             |               |   |             |            |           |  |  |             |            |   | 241,000   |            
|                                                                                          |                                             | Reclassification of property, plant and
equipment to other assets |                                                  |   |          |             |              |  | 1,217,000    |             |               |   |             |            |           |  |  |             |            |   | 1,217,000 |            

(Continued)

123



---



##### Table of Contents



PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (g) |  | Consolidating condensed statement of cash flows information for the year
ended May 31, 2000 is as follows:
| | --- |  | ----------------------------------------------------------------------------------------------------------

|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |            |            |            |  
|----------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------- | ------------------------------------------------ | --------------------------------------------------- | ---------- | ---------- | ---------- | ------------ | - | ------------ | ---------- | ------------- | - | ------------ | ---------- | --------- | - | ----------- | ---------- | ---------- | ---------- | ---------- | ---------- | -
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   | Guarantor    |            | Non-guarantor |   |              |            |           |   |             |            |           
|                                                                                          |                                                                                                       |                                                  |                                                     |            | Parent     |            | subsidiaries |   | subsidiaries |            | Eliminations  |   | Consolidated
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |             
|Cash flow from operating activities  net cash
provided by (used in) operating activities |                                                                                                       | $                                                | (11,649,000                                         | )          |            |            | 1,510,000    |   |              |            | (2,806,000    | ) |              |            | 7,738,000 |   |             |            | (5,207,000 | )         
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|Cash flow from investing activities:                                                      |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|                                                                                          |                                                                                                       | Acquisition of property, plant and equipment     |                                                     |            | (767,000   | )          |              |   | (2,846,000   | )          |               |   | (1,254,000   | )          |           |   |            |            |            |            | (4,867,000 | )         
|                                                                                          |                                                                                                       | Investment in and loans to subsidiaries          |                                                     |            | (1,311,000 | )          |              |   | (39,000      | )          |               |   |             |            |           |   |            |            |            |            | (1,350,000 | )         
|                                                                                          |                                                                                                       | Other changes, net                               |                                                     |            | 2,263,000  |            |              |   | 21,000       |            |               |   | 85,000       |            |           |   | (3,825,000  | )          |            |            | (1,456,000 | )         
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|                                                                                          |                                                                                                       |                                                  | Net cash provided by (used in)
investing activities |            |            | 185,000    |              |   |              | (2,864,000 | )             |   |              | (1,169,000 | )         |   |             | (3,825,000 | )          |            |            | (7,673,000 | )
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|Cash flow from financing activities:                                                      |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|                                                                                          |                                                                                                       | Net borrowings (repayments) under line of credit |                                                     |            | 5,379,000  |            |              |   | (161,000     | )          |               |   |             |            |           |   |            |            |            |            | 5,218,000  |           
|                                                                                          |                                                                                                       | Payments on long-term debt and capital leases    |                                                     |            | (116,000   | )          |              |   | (2,328,000   | )          |               |   | (159,000     | )          |           |   |            |            |            |            | (2,603,000 | )         
|                                                                                          |                                                                                                       | Proceeds from sale of common stock, net          |                                                     |            | 4,169,000  |            |              |   |             |            |               |   |             |            |           |   |            |            |            |            | 4,169,000  |           
|                                                                                          |                                                                                                       | Other changes, net                               |                                                     |            | 50,000     |            |              |   | 3,863,000    |            |               |   | 50,000       |            |           |   | (3,913,000  | )          |            |            | 50,000     |           
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|                                                                                          |                                                                                                       |                                                  | Net cash provided by (used in)
financing activities |            |            | 9,482,000  |              |   |              | 1,374,000  |               |   |              | (109,000   | )         |   |             | (3,913,000 | )          |            |            | 6,834,000  |  
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|                                                                                          |                                                                                                       |                                                  | Net change in cash and cash equivalents             |            |            | (1,982,000 | )            |   |              | 20,000     |               |   |              | (4,084,000 | )         |   |             |           |            |            |            | (6,046,000 | )
|Cash and cash equivalents at beginning of year                                            |                                                                                                       |                                                  | 1,798,000                                           |            |            |            | 38,000       |   |              |            | 6,298,000     |   |              |            |          |   |             |            | 8,134,000  |           
|Effect of exchange rates on cash                                                          |                                                                                                       |                                                  |                                                    |            |            |            |             |   |              |            | 66,000        |   |              |            |          |   |             |            | 66,000     |           
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|Cash and cash equivalents at end of year                                                  |                                                                                                       | $                                                | (184,000                                            | )          |            |            | 58,000       |   |              |            | 2,280,000     |   |              |            |          |   |             |            | 2,154,000  |           
|                                                                                          |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|Supplemental cash flow:                                                                   |                                                                                                       |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |           
|                                                                                          | Noncash operating expenses related to:                                                                |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |            |           
|                                                                                          |                                                                                                       | Depreciation                                     |                                                     | $          | 436,000    |            |              |   | 3,018,000    |            |               |   | 2,721,000    |            |           |   |            |            |            |            | 6,175,000  |           
|                                                                                          |                                                                                                       | Amortization                                     |                                                     |            |           |            |              |   | 475,000      |            |               |   | 981,000      |            |           |   |            |            |            |            | 1,456,000  |           
|                                                                                          |                                                                                                       | Impairment of long-lived assets                  |                                                     |            | 178,000    |            |              |   | 5,097,000    |            |               |   |             |            |           |   |            |            |            |            | 5,275,000  |           
|                                                                                          | Cash paid during the year for:                                                                        |                                                  |                                                     |            |            |            |              |   |              |            |               |   |              |            |           |   |             |            |            |            |           
|                                                                                          |                                                                                                       | Interest                                         |                                                     |            | 8,997,000  |            |              |   | 3,719,000    |            |               |   | 7,900,000    |            |           |   | (11,053,000 | )          |            |            | 9,563,000  |           
|                                                                                          |                                                                                                       | Income taxes                                     |                                                     |            |           |            |              |   |             |            |               |   | 2,232,000    |            |           |   |            |            |            |            | 2,232,000  |           
|                                                                                          | Noncash investing and financing activities 
conversion of notes and accrued interest
to common stock |                                                  |                                                     | 11,457,000 |            |            |              |  |              |            |               |  |              |            |           |  |             |            |            | 11,457,000 |           

(Continued)

124



---



##### Table of Contents



PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001



| | (h) |  | Consolidating condensed statement of cash flows information for the year
ended May 31, 2001 is as follows:
| | --- |  | ----------------------------------------------------------------------------------------------------------

|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |           |            |            |  
|----------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------- | ---------------------------------------------------- | --------------------------------------------------- | --------- | --------- | --------- | ------------ | - | ------------ | ---------- | ------------- | - | ------------ | ---------- | - | - | ------- | ------- | ---------- | --------- | ---------- | ---------- | -
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   | Guarantor    |            | Non-guarantor |   |              |            |   |   |         |         |           
|                                                                                          |                                                                                                    |                                                      |                                                     |           | Parent    |           | subsidiaries |   | subsidiaries |            | Eliminations  |   | Consolidated
|Cash flow from operating activities  net cash provided
by (used in) operating activities |                                                                                                    | $                                                    | (5,824,000                                          | )         |           |           | 2,011,000    |   |              |            | 2,213,000     |   |              |            |  |   |         |         | (1,600,000 | )        
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|Cash flow from investing activities:                                                      |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|                                                                                          |                                                                                                    | Acquisition of property, plant and equipment         |                                                     |           | (458,000  | )         |              |   | (1,141,000   | )          |               |   | (2,111,000   | )          |   |   |        |         |            |           | (3,710,000 | )         
|                                                                                          |                                                                                                    | Proceeds from sale of property, plant and equipment  |                                                     |           | 913,000   |           |              |   | 1,341,000    |            |               |   |             |            |   |   |        |         |            |           | 2,254,000  |           
|                                                                                          |                                                                                                    | Investment in and loans to subsidiaries              |                                                     |           | (12,000   | )         |              |   |             |            |               |   |             |            |   |   | 12,000  |         |            |           |           |           
|                                                                                          |                                                                                                    | Other changes, net                                   |                                                     |           |          |           |              |   | (20,000      | )          |               |   |             |            |   |   |        |         |            |           | (20,000    | )         
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|                                                                                          |                                                                                                    |                                                      | Net cash provided by (used in) investing activities |           |           | 443,000   |              |   |              | 180,000    |               |   |              | (2,111,000 | ) |   |         | 12,000  |            |           |            | (1,476,000 | )
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|Cash flow from financing activities:                                                      |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|                                                                                          |                                                                                                    | Net borrowings under line of credit                  |                                                     |           | 307,000   |           |              |   |             |            |               |   | 12,000       |            |   |   |        |         |            |           | 319,000    |           
|                                                                                          |                                                                                                    | Payments on long-term debt and capital leases        |                                                     |           | (277,000  | )         |              |   | (1,284,000   | )          |               |   | (137,000     | )          |   |   |        |         |            |           | (1,698,000 | )         
|                                                                                          |                                                                                                    | Proceeds from long-term debt                         |                                                     |           | 4,802,000 |           |              |   |             |            |               |   |             |            |   |   |        |         |            |           | 4,802,000  |           
|                                                                                          |                                                                                                    | Proceeds from sale of common stock and warrants, net |                                                     |           | 1,863,000 |           |              |   |             |            |               |   |             |            |   |   |        |         |            |           | 1,863,000  |           
|                                                                                          |                                                                                                    | Other changes, net                                   |                                                     |           | 4,000     |           |              |   | (962,000     | )          |               |   | 974,000      |            |   |   | (12,000 | )       |            |           | 4,000      |           
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|                                                                                          |                                                                                                    |                                                      | Net cash provided by (used in) financing activities |           |           | 6,699,000 |              |   |              | (2,246,000 | )             |   |              | 849,000    |   |   |         | (12,000 | )          |           |            | 5,290,000  |  
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|                                                                                          |                                                                                                    |                                                      | Net change in cash and cash equivalents             |           |           | 1,318,000 |              |   |              | (55,000    | )             |   |              | 951,000    |   |   |         |        |            |           |            | 2,214,000  |  
|Cash and cash equivalents at beginning of year                                            |                                                                                                    |                                                      | (184,000                                            | )         |           |           | 58,000       |   |              |            | 2,280,000     |   |              |            |  |   |         |         | 2,154,000  |          
|Effect of exchange rates on cash                                                          |                                                                                                    |                                                      |                                                    |           |           |           |             |   |              |            | (273,000      | ) |              |            |  |   |         |         | (273,000   | )        
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|Cash and cash equivalents at end of year                                                  |                                                                                                    | $                                                    | 1,134,000                                           |           |           |           | 3,000        |   |              |            | 2,958,000     |   |              |            |  |   |         |         | 4,095,000  |          
|                                                                                          |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|Supplemental cash flow:                                                                   |                                                                                                    |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |          
|                                                                                          | Noncash operating expenses related to:                                                             |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |           |           
|                                                                                          |                                                                                                    | Depreciation                                         |                                                     | $         | 557,000   |           |              |   | 3,236,000    |            |               |   | 2,450,000    |            |   |   |        |         |            |           | 6,243,000  |           
|                                                                                          |                                                                                                    | Amortization                                         |                                                     |           |          |           |              |   | 361,000      |            |               |   | 730,000      |            |   |   |        |         |            |           | 1,091,000  |           
|                                                                                          | Cash paid during the year for:                                                                     |                                                      |                                                     |           |           |           |              |   |              |            |               |   |              |            |   |   |         |         |            |           |           
|                                                                                          |                                                                                                    | Interest                                             |                                                     |           | 7,920,000 |           |              |   | 522,000      |            |               |   | 82,000       |            |   |   |        |         |            |           | 8,524,000  |           
|                                                                                          |                                                                                                    | Income taxes                                         |                                                     |           |          |           |              |   |             |            |               |   | 295,000      |            |   |   |        |         |            |           | 295,000    |           
|                                                                                          | Noncash investing and financing activities  short-term
obligations refinanced with long-term debt |                                                      |                                                     | 9,306,000 |           |           |              |  |              |            |               |  |              |            |   |  |         |         |            | 9,306,000 |           
|                                                                                          | Issuance of warrants in connection with debt                                                       |                                                      |                                                     | 1,886,000 |           |           |              |  |              |            |               |  |              |            |   |  |         |         |            | 1,886,000 |           

(Continued)

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

(i)Inventory information at May 31 is as follows:

|                            |                  |                   |            |           |            |      |            |           |            | 
|--------------------------- | ---------------- | ----------------- | ---------- | --------- | ---------- | ---- | ---------- | --------- | ---------- | 
|                            |                  |                   |            | 2000      |            | 2001
|                            |                  |                   |            |           |            |     
|Guarantor subsidiaries      |                  |                   |            |           |            |      |            |          
|                            | Raw materials    |                   | $          | 5,492,000 |            |      |            | 3,594,000 |           
|                            | Work in progress |                   |            | 5,439,000 |            |      |            | 4,045,000 |           
|                            | Finished goods   |                   |            | 6,376,000 |            |      |            | 6,687,000 |           
|                            |                  |                   |            |           |            |      |            |          
|                            |                  |                   | 17,307,000 |           |            |      | 14,326,000 |          
|                            |                  |                   |            |           |            |      |            |          
|Non-guarantor subsidiaries: |                  |                   |            |           |            |      |            |          
|                            | Raw materials    |                   |            | 1,712,000 |            |      |            | 1,438,000 |           
|                            | Work in progress |                   |            | 8,142,000 |            |      |            | 6,945,000 |           
|                            | Finished goods   |                   |            | 688,000   |            |      |            | 285,000   |           
|                            |                  |                   |            |           |            |      |            |          
|                            |                  |                   | 10,542,000 |           |            |      | 8,668,000  |          
|                            |                  |                   |            |           |            |      |            |          
|                            |                  | Total inventories |            | $         | 27,849,000 |      |            |           | 22,994,000 | 
|                            |                  |                   |            |           |            |      |            |          

(24) Subsequent Events

(a)On June 1, 2001, the Company sold substantially all of the assets of the
U.S. Aerospace Groups Casting Division located in Entiat, Washington to two
newly formed limited liability companies owned by a private company. The
purchase price was approximately $4.6 million, which consisted of approximately
$1.5 million cash, a $1.0 million long-term note payable to the Company, units
in the newly created limited liability companies valued at $1.0 million and the
assumption of $1.1 million in liabilities. The Company used the cash proceeds
to retire certain long-term debt related to the Entiat assets and to pay
closing costs related to the transaction. The long-term note bears interest at
7% and is payable in quarterly installments, interest only for the first year
and then principal and interest for 5 additional years. Due to the
uncertainties of payment under this note, the Company has fully reserved
against it as of the closing date. The units in the newly created limited
liability companies have certain preferential rights including an accumulating
preferred return equal to 5% of the par value of then

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

outstanding units and put rights subject to certain restrictions and
limitations. Due to the inability to accurately estimate and uncertainty
surrounding the fair market value of the units, the Company has assigned no
value to the units for financial statement purposes.

(b)In March 2002, the Company completed the exchange portion of a capital
restructuring (the Exchange). In accordance with an exchange agreement (the
Exchange Agreement), holders (the Noteholders) of all of our then
outstanding 111⁄4% senior subordinated notes due 2005 (the Subordinated
Notes) exchanged $63.7 million aggregate principal amount of the Subordinated
Notes, together with accrued interest thereon, for shares of our common stock,
shares of our Series C Convertible Preferred Stock (the Preferred Stock) and
approximately $15.0 million in aggregate principal amount of 10% pay-in-kind
senior subordinated notes (the PIK Notes). The Preferred Stock will
automatically convert into common stock following shareholder approval of an
increase in the number of our authorized shares of common stock. The Company
has filed a preliminary proxy with the Securities and Exchange Commission (the
Commission) regarding the vote to increase our authorized common stock, among
other matters, and expects to hold a meeting for the approval of such increase
as soon as possible following receipt of clearance from the Commission to do
so. However, as a result of the Exchange, the Noteholders now hold a majority
of the Companys outstanding common stock. In addition, at least a majority of
the Noteholders are expected to vote their shares in favor of the amendment
increasing our authorized common stock; accordingly, the Company anticipates
that the amendment will be approved and that all of the Preferred Stock will be
converted to common stock. By virtue of their common stock and Preferred Stock
received in the Exchange, the Noteholders now beneficially own approximately
97.5% of our outstanding shares of common stock on a fully-diluted,
as-converted basis. In connection with the Exchange, the Companys Board of
Directors was reconstituted to consist of five directors, all of whom were
designated by the Noteholders. Donald A. Wright, the Companys President and
Chief Executive Officer, continues as a member of the Board.

The Company has followed the provisions of SFAS No. 15, Accounting by Debtors
and Creditors for Troubled Debt Restructurings, in recording the exchange
transaction. These provisions require that the carrying value of the PIK Notes
be recorded at the total future cash payments (principal and interest)
specified by the PIK notes, therefore the PIK notes will be classified on our
balance sheet as long-term liabilities and valued at $25.7 million. As a
result, no interest expense related to the PIK Notes will be

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PACIFIC AEROSPACE & ELECTRONICS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000 AND 2001

recognized in future periods. The following table presents the aggregate gain
recognized in the exchange transaction:

|                                                           |                                  |   |             |            | 
|---------------------------------------------------------- | -------------------------------- | - | ----------- | ---------- | 
|Principal amount of Subordinated Notes outstanding         |                                  | $ | 63,700,000  |           
|Unamortized deferred financing costs                       |                                  |   | (2,417,000  | )         
|Accrued interest                                           |                                  |   | 8,115,000   |           
|                                                           |                                  |   |             |           
|                                                           | Carrying value of debt exchanged |   |             | 69,398,000 | 
|Fair value of equity instruments issued to the Noteholders |                                  |   | (21,200,000 | )         
|Maximum future cash payments under the PIK Notes           |                                  |   | (25,739,000 | )         
|Direct expenses of the exchange transaction                |                                  |   | (1,952,000  | )         
|                                                           |                                  |   |             |           
|Aggregate gain on exchange transaction                     |                                  | $ | 20,507,000  |           
|                                                           |                                  |   |             |           

In addition to exchanging our Subordinated Notes as described above, the
Company also issued new senior secured notes (the New Senior Notes) with a
face amount of $36.0 million. The New Senior Notes were issued at a discount
with proceeds of approximately $22.0 million to the Company. The initial
carrying amount of the New Senior Notes will accrete through May 1, 2007 to
$36.0 million and will bear a face interest rate of 5% per annum. The effective
interest rate of the New Senior Notes will approximate 16.6%. The Company may
redeem the New Senior Notes in full or in part at any time prior to their
maturity date at a premium over the accreted value of the New Senior Notes,
which premium declines over time. The Company used $16.2 million of the
proceeds from the New Senior Notes to pay off principal and accrued interest on
the Companys then outstanding 21% senior secured loan (of which $13.7 million
in principal was outstanding at May 31, 2001). The remaining proceeds were used
for working capital, to pay the fees and costs of the restructuring and for
other general corporate purposes. Assuming the New Senior Notes are not
redeemed prior to their maturity date, cash payments will be limited to the 5%
interest rate on the accreted value of the New Senior Notes and the repayment
of the $36.0 million principal amount due on May 1, 2007.

Furthermore, in October 2001, the Company discontinued its efforts to sell its
European Aerospace Group.

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ITEM 8A. SELECTED QUARTERLY FINANCIAL DATA

The following selected quarterly financial data presents selected historical
financial data of the Company as of the quarterly periods ended, as indicated,
and is derived from our unaudited consolidated quarterly financial statements.
This data should be read in conjunction with our Consolidated Financial
Statements and Notes thereto, the Independent Auditors Report, and
Managements Discussion and Analysis of Financial Condition and Results of
Operations. The Independent Auditors Report contains an explanatory paragraph
that states that our recurring losses from operations raise substantial doubt
about our ability to continue as a going concern. Our Consolidated Financial
Statements and the following selected quarterly financial data do not include
any adjustments that might result from the outcome of that uncertainty.

Pacific Aerospace & Electronics, Inc.
Selected Quarterly Financial Data
For the Quarters Ended,
(in thousands, except per share data)

|                                                             |         |   |            |        |              |  |              |        |         |  |            |        |              |  |              |        |         |  |        |        |   |  |        |        |   |  |         |        |   |  |         |        |  
|------------------------------------------------------------ | ------- | - | ---------- | ------ | ------------ |  | ------------ | ------ | ------- |  | ---------- | ------ | ------------ |  | ------------ | ------ | ------- |  | ------ | ------ | - |  | ------ | ------ | - |  | ------- | ------ | - |  | ------- | ------ | -
|                                                             |         |   | August 31, |        | November 30, |  | February 29, |        | May 31, |  | August 31, |        | November 30, |  | February 28, |        | May 31,
|                                                             |         |   | 1999       |        | 1999         |  | 2000         |        | 2000    |  | 2000       |        | 2000         |  | 2001         |        | 2001   
|                                                             |         |   |            |        |              |  |              |        |         |  |            |        |              |  |              |        |        
|Net Sales                                                    |         | $ | 28,571     |        |              |  | 29,000       |        |         |  | 26,501     |        |              |  | 28,622       |        |         |  | 27,643 |        |   |  | 27,437 |        |   |  | 27,068  |        |   |  | 27,140  |       
|Gross profit                                                 |         |   | 6,560      |        |              |  | 5,251        |        |         |  | 5,146      |        |              |  | 3,674        |        |         |  | 4,922  |        |   |  | 3,086  |        |   |  | (925    | )      |   |  | 1,157   |       
|Loss before extraordinary item                               |         |   | (1,506     | )      |              |  | (2,014       | )      |         |  | (1,675     | )      |              |  | (8,557       | )      |         |  | (2,252 | )      |   |  | (4,943 | )      |   |  | (40,341 | )      |   |  | (28,184 | )     
|Net loss                                                     |         |   | (1,506     | )      |              |  | (2,014       | )      |         |  | (1,675     | )      |              |  | (7,854       | )      |         |  | (2,252 | )      |   |  | (4,943 | )      |   |  | (40,341 | )      |   |  | (28,184 | )     
|Net loss per share:                                          |         |   |            |        |              |  |              |        |         |  |            |        |              |  |              |        |         |  |        |        |   |  |        |        |   |  |         |        |   |  |         |       
|                                                             | Basic   |   |            | (0.08  | )            |  |              | (0.10  | )       |  |            | (0.08  | )            |  |              | (0.28  | )       |  |        | (0.07  | ) |  |        | (0.14  | ) |  |         | (1.32  | ) |  |         | (0.73  | )
|                                                             | Diluted |   |            | (0.08  | )            |  |              | (0.10  | )       |  |            | (0.08  | )            |  |              | (0.28  | )       |  |        | (0.07  | ) |  |        | (0.14  | ) |  |         | (1.32  | ) |  |         | (0.73  | )
|Shares used in computation of
loss per share (in thousands): |         |   |            |        |              |  |              |        |         |  |            |        |              |  |              |        |         |  |        |        |   |  |        |        |   |  |         |        |   |  |         |       
|                                                             | Basic   |   |            | 19,108 |              |  |              | 19,992 |         |  |            | 21,043 |              |  |              | 27,634 |         |  |        | 33,114 |   |  |        | 34,292 |   |  |         | 35,020 |   |  |         | 38,692 |  
|                                                             | Diluted |   |            | 19,108 |              |  |              | 19,992 |         |  |            | 21,043 |              |  |              | 27,634 |         |  |        | 33,114 |   |  |        | 34,292 |   |  |         | 35,020 |   |  |         | 38,692 |  

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During the quarter ended May 31, 2000, due to continuing losses and continued
weakness in the commercial aerospace and transportation industries, we realized
a $4.6 million impairment of goodwill and a $600,000 property impairment
related to our U.S. Aerospace Group.

During the quarter ended May 31, 2000, we exchanged an aggregate of $11.3
million in original principal amount of our 111⁄4% senior subordinated debt
for a total of 2,902,806 shares of common stock. This exchange was accounted
for as an early extinguishment of debt and, as such, a net of tax gain of
$703,000 was recorded in the accompanying selected quarterly financial data as
an extraordinary item.

During the quarter ended November 30, 2000, we recognized a $0.7 million
impairment charge to reduce the carrying value of the equipment located at the
Tacoma, Washington location of our U.S. Aerospace Groups Casting Division to
its estimated net realizable value. We also recognized a $320,000 non-cash
charge for the loss on the sale of an unused building in Butler, New Jersey.
Net proceeds from the sale of the building were approximately $660,000, versus
a carrying amount of approximately $980,000.

During the quarter ended February 28, 2001, based upon preliminary and final
offers to purchase our European Aerospace Group, we recognized a $25.0 million
charge to reduce the $33.0 million carrying value of goodwill associated with
our European Aerospace Group to net estimated realizable value. We also
recognized an impairment charge of $3.5 million to reduce the value of property
and equipment used at the Entiat, Washington location of our U.S. Aerospace
Groups Casting Division to net realizable value. We recognized a non-cash
charge of approximately $3.3 million to reduce the carrying value of goodwill
and equipment used in the U.S. Aerospace Groups Engineering & Fabrication
Division to estimated liquidation value. Finally, within the U.S. Electronics
Groups Display Division, we recognized a non-cash charge of approximately $0.6
million to reduce the carrying value of equipment used to produce low power
relays to its net realizable value.

During the quarter ended May 31, 2001, based upon preliminary and final offers
to purchase our European Aerospace Group, we recognized a additional $12.0
million charge to reduce the carrying value of goodwill and equipment
associated with our European Aerospace Group to net estimated realizable value.
We also recognized an additional impairment charge of $2.0 million to reduce
the value of property and equipment used at the Entiat, Washington location of
our U.S. Aerospace Groups Casting Division to its estimated net realizable
value and an additional impairment charge of $0.1 million to reduce the
carrying value of the equipment located at the divisions Tacoma location to
its estimated net realizable value. During the fourth quarter of fiscal 2001,
we also completed our analysis of the value of
certain other long-lived assets, including goodwill and patents. Based upon
this analysis, we recognized additional impairment charges of approximately
$1.0 million to reduce goodwill to estimated fair value, and approximately $0.3
million to reduce patents to estimated fair value.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

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PART III




ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY

Directors and Executive Officers

On August 15, 2001, Nick A. Gerde, who served as Vice President Finance and
Chief Financial Officer of the Company, as well as Treasurer and Assistant
Secretary, left his employment with the Company. Charles A. Miracle, who
previously served as Corporate Controller, took on the role of Interim Chief
Financial Officer and Treasurer of the Company on that date.

The following table sets forth information as of August 27, 2001, regarding the
current directors and those nominated to become directors, and the executive
officers of the Company.

|                        |  |     |    |                       |  |                                                             
|----------------------- |  | --- | -- | --------------------- |  | ------------------------------------------------------------
|Name                    |  | Age |    | Position with Company
|                        |  |     |    |                      
|Donald A. Wright        |  |     | 49 |                       |  | Chairman of the Board, Chief Executive Officer and President
|Werner Hafelfinger      |  |     | 55 |                       |  | Chief Operating Officer, Vice President Operations, Director
|Sheryl A. Symonds       |  |     | 46 |                       |  | Vice President Administration, General Counsel and Secretary
|Dale L. Rasmussen       |  |     | 51 |                       |  | Director                                                    
|Gene C. Sharratt, Ph.D. |  |     | 54 |                       |  | Director                                                    
|Robert M. Stemmler      |  |     | 66 |                       |  | Director                                                    
|William A. Wheeler      |  |     | 67 |                       |  | Director                                                    

Donald A. Wright has been the Chairman of the Board, Chief Executive Officer
and President of the Company since February 1995, and of its predecessors since
1990. Mr. Wright is also an officer and director of each of the Companys
operating subsidiaries.

Werner Hafelfinger has been a director of the Company since August 17, 1998.
Mr. Hafelfinger has been Vice President Operations and Chief Operating Officer
of the Company since March 1999. Mr. Hafelfinger was employed by St. Jude
Medical (Cardiac Rhythm Management Division), a manufacturer of implantable
medical devices, from 1984 until February 1999, where he served as Vice
President of Global Manufacturing.

Sheryl A. Symonds has been the Vice President Administration and General
Counsel of the Company

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since September 1997. Prior to joining the Company, Ms. Symonds was a partner
at Stoel Rives LLP, which provides outside legal counsel services to the
Company. Ms. Symonds joined Stoel Rives LLP in 1985 and became a partner in
1992. Ms. Symonds has been Secretary of the Company since August 1996 and is
also Secretary of each of the Companys operating subsidiaries.

Dale L. Rasmussen has been a director of the Company since June 1997. Mr.
Rasmussen has been employed as the Senior Vice President and Secretary of IMPCO
Technologies, Inc. since 1989.

Dr. Gene C. Sharratt has been a director of the Company since October 10, 2000.
Dr. Sharratt has been Superintendent of the North Central Education Service
District in Wenatchee, Washington since July 1991.

Robert M. Stemmler has been a director of the Company since May 14, 1999. Mr.
Stemmler has been the Chairman, CEO and President of IMPCO Technologies, Inc.
since 1993.

William A. Wheeler has been a director of the Company since June 1997. Mr.
Wheeler retired from Dowty Aerospace Yakima in May 1997, where he served as
President, Chief Executive Officer and Chairman of the Board of Directors since
1979.

Other Significant Employees

Lewis L. Wear, 60, has been President of the U.S. Electronics Group since
August 1996 and President of Pacific Coast Technologies, Inc. since February
1996. He also has been Vice President of Ceramic Devices, Inc. since October
1997, President of Northwest Technical Industries, Inc. since April 8, 1997,
President of Balo Precision Parts, Inc. since February 1998, and President of
Electronic Specialty Corporation since October 1998. Prior to November 1995,
Mr. Wear was Vice President of Operations for Vacuum Atmospheres, a division of
WEMS, Inc.

Duncan Crighton, 65, has been Chief Executive Officer of Aeromet International
PLC (Aeromet) since March 1997 and became President of the Companys European
Aerospace Group upon closing of the Aeromet acquisition. Mr. Crighton served
as Managing Director of Aeromets predecessor, Kent Aerospace Castings plc,
from 1990 through 1995, and as a management consultant to Aeromet from 1995 to
February 1997.

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Board of Directors

Committees. The Board of Directors has a number of committees, as follows:

|                            |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                               |  |                                                        
|--------------------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------------------------------------------
|                            |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                               |  | Members as of                                          
|Committee                   |  | Function                                                                                                                                                                                                                                                                                                                                                                                                                                                      |  | August 27, 2001                                        
|                            |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                               |  |                                                        
|Option Committee            |  | Administers the
Companys Amended and
Restated Stock
Incentive Plan and 1999
Stock Incentive Plan.                                                                                                                                                                                                                                                                                                                                                            |  | Gene C. Sharratt
Dale L. Rasmussen
Robert M. Stemmler  
|                           
|Finance and Audit
Committee |  | Reviews the Companys
accounting policies,
practices, internal
accounting controls and
financial reporting.
Also oversees
engagement of the
Companys independent
auditors and monitors
management
implementation of the
recommendations and
findings of the
Companys independent
auditors                                                                                                                                                                   |  | Dale L. Rasmussen
Robert M. Stemmler
William A. Wheeler
|                           
|Compensation Committee      |  | Establishes salaries,
incentives and other
compensation for the
chief executive
officer, chief
operating officer,
chief financial
officer, general
counsel, subsidiary
presidents and other
key employees of the
Company and its
subsidiaries. Also
administers policies
relating to
compensation and
benefits, including the
Amended and Restated
Independent Director
Stock Plan and the
Employee Stock Purchase
Plan (which was
terminated in August
2001) |  | William A. Wheeler
Gene C. Sharratt
Dale L. Rasmussen  
|                           
|Nominating Committee        |  | Recommends individuals
to be presented to the
shareholders for
election or reelection
to the Board of
Directors                                                                                                                                                                                                                                                                                                                                               |  | Donald A. WrightDale L.
Rasmussen
Robert M. Stemmler   

Tenure. Directors of the Company hold office until the next annual meeting of
the Companys shareholders and until their successors have been elected and
duly qualified. The Board of Directors appoints the Companys executive
officers at the first Board meeting after each annual meeting of shareholders.
Executive officers hold office at the pleasure of the Board of Directors.

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Compensation. Under the Companys Amended and Restated Independent Director
Stock Plan, each non-employee director of the Company receives an initial award
of options to purchase 2,500 shares of common stock when that director is first
elected and an annual award of options to purchase 10,000 shares of common
stock. In addition, non-employee directors receive $1,000 in cash per year for
each committee on which they serve, and an additional $500 in cash per year for
serving as chairperson of a committee. The Board may elect to pay any of the
cash fees in shares of common stock. All directors are reimbursed for
reasonable travel and other out-of-pocket expenses incurred in attending
meetings of the Board of Directors.

Vacancies.Replacement directors for vacancies resulting from an increase in
the size of the Board of Directors or the resignation or removal of a director
may be appointed by the Board of Directors, or may be elected by the
shareholders at a special meeting. Directors so appointed or elected hold
office until the next annual meeting of shareholders and until their successors
are elected and qualified.

Board of Directors Meetings.The Companys Board of Directors met four
times during fiscal 2001. The committees met as follows during fiscal 2001:
Option Committee, two times; Finance and Audit Committee, four times;
Compensation Committee, two times; and Nominating Committee, one time. Each
director attended at least 75% of all meetings of the Board of Directors and
the committees of which the director was a member during the period he was a
director in fiscal 2001. The Board of Directors and the committees also
approved a number of actions by unanimous written consent.

Section 16(a) Beneficial Ownership Reporting Compliance

Based solely on a review of Forms 3, 4 and 5 and any amendments thereto
furnished to the Company pursuant to Rule 16a-3(e) during its most recent
fiscal year, and on written representations of the Companys officers,
directors, or principal shareholders (Reporting Persons) that no other
reports were required, the Company believes that, during the fiscal year ended
May 31, 2001, the Reporting Persons complied in all material respects with all
applicable filing requirements under Section 16(a) of the Exchange Act.

FINANCE AND AUDIT COMMITTEE REPORT TO SHAREHOLDERS

The Committee.The Finance and Audit Committee of the Board of Directors (the
Committee) is composed of three non-employee directors: Dale L. Rasmussen,
Chairman, Robert M. Stemmler, and William A. Wheeler. The Committee has
adopted a written charter, which has been approved by the Board of Directors.

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Audited Financial Statements.The Committee has reviewed and discussed the
Companys audited financial statements with management, which has primary
responsibility for the financial statements. KPMG LLPs initial report on the
Companys consolidated financial statements for the fiscal year ended May 31,
2001, dated July 27, 2001, contained a disclaimer of opinion because of the
significance of the uncertainty about the Companys ability to continue as a
going concern as a result of recurring losses from operations and a net capital
deficiency at May 31, 2001. KPMG LLPs present report on the Company
consolidated financial statements for the fiscal year ended May 31, 2001, dated
July 27, 2001, except as to note 24b which is as of May 17, 2002, expresses
their opinion on those consolidated financial statements and states that the
Company has suffered recurring losses from operations that raise substantial
doubt about the Companys ability to continue as a going concern. The
Committee has discussed with KPMG matters that are required to be discussed by
Statement on Auditing Standards No. 61 (Communication with Audit Committees).

Auditor Independence.KPMG has provided to the Committee the written
disclosures and the letter required by Independence Standards Board Standard
No. 1 (Independence Discussions with Audit Committees). The Committee has
discussed with KPMG that firms independence.

Annual Report on Form 10-K.Based on the Committees review and the
discussions referred to above, the Committee recommended to the Board of
Directors that the audited financial statements be included in the Companys
Annual Report on Form 10-K for fiscal 2001.

Respectfully submitted,

Dale L. Rasmussen, Chairman
Robert M. Stemmler
William A. Wheeler

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ITEM 11. Executive Compensation

The following table sets forth in summary form the compensation paid by the
Company to the Chief Executive Officer and to the Companys three most highly
compensated executive officers (the Named Executives) for services in all
capacities to the Company for the last three fiscal years:

|                        |  |             |      |            |  |                     |         |                  |  |            |           |              |  |  |       |    
|----------------------- |  | ----------- | ---- | ---------- |  | ------------------- | ------- | ---------------- |  | ---------- | --------- | ------------ |  |  | ----- | ---
|                        |  |             |      |            |  | Annual              |         | Long-Term        |  |            |           |             
|                        |  |             |      |            |  | Compensation        |         | Compensation     |  |            |           |             
|                        |  |             |      |            |  |                     |         |                  |  |            |           |             
|                        |  |             |      |            |  |                     |         |                  |  | Securities |           |             
|Name and Principal      |  |             |      |            |  |                     |         |                  |  | Underlying |           | Other Annual
|Position                |  | Fiscal Year |      | Salary ($) |  | Options/SARs(#) (1) |         | Compensation ($)
|                        |  |             |      |            |  |                     |         |                 
|Donald A. Wright        |  |             | 2001 |            |  |                     | 335,809 |                  |  |            | 75,000    |              |  |  | 7,316 | (4)
|CEO and President       |  |             | 2000 |            |  |                     | 292,008 |                  |  |            | 450,000   | (2)          |  |  | 5,800 | (4)
|                        |  |             | 1999 |            |  |                     | 247,551 |                  |  |            | 1,000,000 | (3)          |  |  | 5,547 | (4)
|Werner Hafelfinger      |  |             | 2001 |            |  |                     | 200,000 |                  |  |            | 37,500    |              |  |  | 2,438 | (5)
|COO, V.P. Operations    |  |             | 2000 |            |  |                     | 175,000 |                  |  |            | 100,000   | (2)          |  |  | 2,500 | (5)
|                        |  |             | 1999 | (6)        |  |                     | 33,654  |                  |  |            | 50,000    |              |  |  | 600   | (5)
|Nick A. Gerde (7)       |  |             | 2001 |            |  |                     | 150,000 |                  |  |            | 37,500    |              |  |  | 2,438 | (5)
|Former CFO, VP Finance, |  |             | 2000 |            |  |                     | 140,000 |                  |  |            | 100,000   | (2)          |  |  | 2,500 | (5)
|Treasurer
and Assistant |  |             | 1999 |            |  |                     | 130,000 |                  |  |            | 116,056   | (3)          |  |  | 2,400 | (5)
|Secretary               |  |             |      |            |  |                     |         |                  |  |            |           |              |  |  |       |    
|                        |  |             |      |            |  |                     |         |                  |  |            |           |              |  |  |       |    
|Sheryl A. Symonds       |  |             | 2001 |            |  |                     | 190,473 |                  |  |            | 37,500    |              |  |  |      |    
|V.P. Administration,    |  |             | 2000 |            |  |                     | 176,364 |                  |  |            | 100,000   | (2)          |  |  |      |    
|General Counsel and     |  |             | 1999 |            |  |                     | 160,973 |                  |  |            | 160,000   | (3)          |  |  |      |    
|Secretary               |  |             |      |            |  |                     |         |                  |  |            |           |              |  |  |       |    



---

|(1) |  | Represents options to purchase shares of common stock.                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(2) |  | One-half of these options were granted in June 1999 with respect to
fiscal 1999, and one-half were granted in May 2000, with respect to fiscal
2000.                                                                                                                                                                                                                                                                                                                                                          
|   
|   
|   
|   
|(3) |  | Represents repricing of previously granted options. On December 4, 1998,
the Board of Directors approved the repricing of outstanding options under
the Companys Amended and Restated Stock Incentive Plan. For purposes of
this table, repriced options are considered to be option grants and,
therefore, are required to be included in the table as options granted in
fiscal 1999. Other than repricing of options, no options were granted to
Mr. Wright, Mr. Gerde, or Ms. Symonds during fiscal 1999.

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|(4) |  | Represents estimated value of the personal use of Company vehicles
($4,138 in fiscal 2001; $5,000 in fiscal 2000; $4,800 in fiscal 1999) and
premiums on $2 million of key-man life insurance denoting Mr. Wrights
spouse as beneficiary.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(5) |  | Represents estimated value of the personal use of a Company vehicle.                                                                                                                                                                      
|   
|   
|   
|   
|(6) |  | Represents the compensation received by Mr. Hafelfinger during the three
months he was employed by the Company in fiscal year 1999.                                                                                                       
|   
|   
|   
|   
|(7) |  | Mr. Gerdes employment with the Company terminated on August 15, 2001.                                                                                                                                                                    

Option Grants Table

The following table sets forth information on grants of stock options by the
Company during the year ended May 31, 2001 to the Named Executives:

|                   |  |             |        |            |  |             |      |            |  |             |      |            |  |  |         |  |  |   |        | 
|------------------ |  | ----------- | ------ | ---------- |  | ----------- | ---- | ---------- |  | ----------- | ---- | ---------- |  |  | ------- |  |  | - | ------ | 
|                   |  |             |        |            |  | % of Total  |      |            |  |             |      |            |  |  |         |  |  |  
|                   |  |             |        |            |  | Options     |      |            |  |             |      |            |  |  |         |  |  |  
|                   |  | Securities  |        | Granted to |  |             |      |            |  |             |      |            |  |  |         | 
|                   |  | Underlying  |        | Employees  |  | Exercise or |      |            |  |             |      | Grant Date
|                   |  | Options     |        | in Fiscal  |  | Base Price  |      | Expiration |  | Present    
|Name               |  | Granted (#) |        | Year       |  | ($/Share)   |      | Date       |  | Value(1)($)
|                   |  |             |        |            |  |             |      |            |  |            
|Donald A. Wright   |  |             | 75,000 |            |  |             | 23.1 | %          |  | $           | 0.22 |            |  |  | 5/24/11 |  |  | $ | 16,500 | 
|Werner Hafelfinger |  |             | 37,500 |            |  |             | 11.6 | %          |  | $           | 0.22 |            |  |  | 5/24/11 |  |  | $ | 8,250  | 
|Nick A. Gerde      |  |             | 37,500 |            |  |             | 11.6 | %          |  | $           | 0.22 |            |  |  | 5/24/11 |  |  | $ | 8,250  | 
|Sheryl A. Symonds  |  |             | 37,500 |            |  |             | 11.6 | %          |  | $           | 0.22 |            |  |  | 5/24/11 |  |  | $ | 8,250  | 



---

|(1) |  | Although the Company believes that it is not possible to place a value on
an option, in accordance with the rules of the SEC, the Company has used a
Black-Scholes model of option valuation to estimate grant date present value.
The actual value realized, if any, may vary significantly from the values
estimated by this model. Any future values realized will ultimately depend
upon the excess of the stock price over the exercise price on the date the
option is exercised. The assumptions used to estimate the grant date present
value of this option were: volatility (148.11%); risk-free rate of return (6%);
dividend yield (0%); and time of exercise (remaining life 10 years).
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Aggregated Options and Fiscal Year-End Option Values

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The following table summarizes the aggregate employee stock options and
non-public warrants, and their market values at May 31, 2001, held by the Named
Executives:

|                       |  |                                |           |                      |  |             |   |               |  |  |   |  |  |  |   | 
|---------------------- |  | ------------------------------ | --------- | -------------------- |  | ----------- | - | ------------- |  |  | - |  |  |  | - | 
|                       |  | Number of Securities           |           | Value of Unexercised
|                       |  | Underlying Unexercised Options |           | In-the-Money Options
|                       |  | at FY-end (#)                  |           | at FY-end ($) (1)   
|                       |  |                                |           |                     
|Name                   |  | Exercisable                    |           | Unexercisable        |  | Exercisable |   | Unexercisable
|                       |  |                                |           |                      |  |             |   |              
|Donald A. Wright       |  |                                | 2,307,560 |                      |  |             |  |               |  |  |  |  |  |  |  | 
|Werner Hafelfinger (2) |  |                                | 197,500   |                      |  |             |  |               |  |  |  |  |  |  |  | 
|Nick A. Gerde          |  |                                | 308,556   |                      |  |             |  |               |  |  |  |  |  |  |  | 
|Sheryl A. Symonds      |  |                                | 297,500   |                      |  |             |  |               |  |  |  |  |  |  |  | 



---

|(1) |  | No options or warrants held by the Named Executives had exercise prices
of less than $0.21 per share, the closing price of the common stock on May
31, 2001.                                                          
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(2) |  | Includes options to purchase 10,000 shares granted to Mr. Hafelfinger in
October 1998 under the Amended and Restated Independent Director Stock
Plan, when Mr. Hafelfinger was a non-employee director of the Company.

Employment Agreements

The Company has entered into employment agreements with Mr. Wright, Mr.
Hafelfinger, and Ms. Symonds. The employment agreements employ Mr. Wright
through fiscal 2003, and employ Mr. Hafelfinger and Ms. Symonds through fiscal
2002. The employment agreements provide for an annual salary in fiscal 2002 of
$386,180, $210,000 and $205,710 for Mr. Wright, Mr. Hafelfinger and Ms.
Symonds, respectively. Mr. Wright agreed to forego $50,000 of his fiscal 2002
salary and received 238,095 restricted shares of common stock in lieu of this
amount. Mr. Hafelfinger and Ms. Symonds each agreed to forego $10,000 of their
fiscal 2002 salary and each received 47,619 restricted shares of common stock
in lieu of the foregone salary. The employment agreements also provide for the
annual grant of options to purchase up to 275,000 shares of common stock for
Mr. Wright, and up to 50,000 shares of common stock for Mr. Hafelfinger and Ms.
Symonds. Of these, 50,000 of Mr. Wrights options are fixed, 25,000 of Mr.
Hafelfingers and Ms. Symonds options are fixed, and the remainder are
discretionary. The exercise price of any such options is equal to the fair
market value of the common stock on the date of grant. Each option may contain
vesting and other terms as are approved by the Board of Directors, and will
expire ten years after the date of grant. If a Named Executives employment
with the Company is terminated without cause, or if there is a change of
control, as those terms are defined in
their employment agreements, the Company will be required to make severance
payments equal to, in the

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case of Mr. Wright, twice Mr. Wrights then-current
annual base salary; in the case of Ms. Symonds, one and one-half times her
then-current annual base salary; and in the case of Mr. Hafelfinger, twice his
then-current annual base salary in the event of a change in control or one
times his then-current annual base salary if he is terminated without cause.
Under these employment agreements, Mr. Wright and Mr. Hafelfinger agreed not to
compete with the Company for two years following termination of employment.
The Board of Directors adopted a management incentive compensation program,
which provides for the payment of cash bonuses to the Named Executives, the
group presidents, and certain other senior managers, upon attainment of certain
goals. Under this program, each participant can earn a cash bonus of 10% of
his or her annual salary if the Company achieves both budgeted revenue and
budgeted operating income levels for the year and an additional 5% if the
Company exceeds these budgeted amounts by 10%, for a possible total bonus of
15% of annual salary. The Named Executives did not earn bonuses under this
program for fiscal 2001.

On August 15, 2001, Nick Gerde, who served as Vice President Finance of the
Company, as well as Treasurer and Assistant Secretary, left his employment with
the Company. In accordance with Mr. Gerdes employment agreement and a
separation letter executed by Mr. Gerde and the Company, Mr. Gerde will receive
severance pay of $150,000, which is the equivalent of one years salary. This
severance is payable on regular payroll days over a 12-month period. Mr. Gerde
will also receive medical benefits for one year.

Certain Tax Considerations Related to Executive Compensation

As a result of Section 162(m) of the Code, if the Company pays more that
$1,000,000 in compensation to a covered employee (the chief executive officer
and the next four highest paid employees) in a single year, then the Companys
deduction for such compensation could be limited to $1,000,000.

Compensation Committee Interlocks and Insider Participation

The Compensation Committee is composed of William A. Wheeler, Dale L.
Rasmussen, and Gene C. Sharratt, none of whom are employees or current or
former owners of the Company.

Board Compensation Committee Report on Executive Compensation

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The Committee.The Compensation Committee of the Board of Directors (the
Committee) is composed of three non-employee directors: William A. Wheeler,
Chairman, Dale L. Rasmussen, and Gene C. Sharratt. No member of the
Compensation Committee has a relationship that would constitute an interlocking
relationship with executive officers or directors of another entity. From time
to time officers of the Company attend meetings of the Committee. However, no
officer participates in discussions or deliberations regarding his or her own
compensation.

Responsibilities of the Committee.The Committees purpose is to provide a
compensation environment that will support and assist in fulfilling the
corporate mission and purpose. The Committee is responsible for developing and
making recommendations to the Board with respect to the Companys compensation
policies, reviewing the performance of the Companys Chief Executive Officer,
and determining the level of compensation to be paid to executive officers and
certain other key employees of the Company. The Committee coordinates its
efforts with the Companys Option Committee with respect to the grant of stock
options or other awards to executive officers and key employees under the
Companys Amended and Restated Stock Incentive Plan and 1999 Stock Incentive
Plan (the Stock Incentive Plans). The Committee also administers the
Companys Amended and Restated Independent Director Stock Plan and the
Companys Employee Stock Purchase Plan.

Executive Compensation.The Companys executive compensation program is
designed to support the achievement of Company goals and to ensure that the
interests of executive officers and key employees are aligned with the success
of the Company. Consequently, a significant portion of the compensation of
executive officers and key employees has been through the grant of options
under the Stock Incentive Plans. The Committee believes that tying a
significant portion of executive compensation to the growth of the Companys
stock price helps align the interests of management with those of the Companys
shareholders.

Compensation of the Chief Executive Officer.Mr. Wrights salary increased at
the beginning of fiscal 2001 in accordance with his employment agreement, which
provides for an annual 15% increase. This percentage was set by the Committee
at the end of fiscal 2000, based on a number of criteria, including relevant
data from a third party compensation survey. In using the survey, the
Committee compared the Company to other Northwest publicly-traded manufacturing
companies within the applicable revenue range. Based on the survey
information, the Committee believes that Mr. Wright contractual salary is at
approximately the median in terms of base salary for chief executive officers
of similarly situated Northwest manufacturing companies.

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Annual Salaries.Annual salaries for the executive officers of the Company are
set pursuant to the terms of employment agreements with Mr. Wright, Mr.
Hafelfinger and Ms. Symonds. The president of the Companys U.S. Electronics
Group also has an employment agreement that establishes his annual salary.
Annual salaries under the employment agreements are subject to increase on an
annual basis in accordance with the terms of those agreements. All of these
employment agreements are approved by the Committee when they are first signed.
From time to time, the Committee has also elected to review these contracts
annually. In May 2000, the Committee reviewed Mr. Hafelfingers contract and,
after considering his duties and applicable third-party compensation survey
data, increased his salary for fiscal 2001 by $10,000. In August 2001, Mr.
Gerde left his employment with the Company and the Company agreed to pay
severance in accordance with his employment agreement amounting to $150,000
payable over 12 months and to continue his medical benefits for 12 months.

Adjustment to Annual Salaries for Fiscal 2002.During May 2001, after
reviewing the Companys financial performance and cash position, the Committee
determined that the Named Executives should be requested to accept restricted
common stock of the Company in lieu of some or all of their contractual salary
increases for fiscal 2002. The amount of common stock granted in lieu of
salary increases was calculated by dividing the cash compensation not received
by the fair market value of a share of the Companys common stock. The fair
market value of the Companys common stock was deemed to be the average of the
closing price of the Companys common stock on Nasdaq for the five trading days
prior to June 1, 2001. Mr. Wright agreed to forego $50,000 in salary and
received 238,095 shares of restricted common stock as of June 1, 2001. Mr.
Hafelfinger, Mr. Gerde, and Ms. Symonds each agreed to forego $10,000 in salary
and each received 47,619 shares of restricted common stock as of June 1, 2001.

Incentive Compensation Program.The Company has a management incentive
compensation program, which provides for the payment of cash bonuses to the
executive officers and certain other senior managers, upon attainment of
certain goals. The purpose of the plan is to provide a direct financial
incentive to achieve predetermined levels of Company performance. Under this
program, each of the participants can earn a cash bonus of 10% of their annual
salary upon achieving budgeted revenue and operating income levels for the year
and an additional 5% upon exceeding budgeted revenue and operating income by
10%. The Committee did not consider any of the Named Executives for cash
bonuses for fiscal 2001 because of the Companys financial performance in
fiscal 2001.

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Long-Term Incentive Compensation.The Stock Incentive Plans are long-term
incentive plans for executives, managers, and other employees of the Company.
The objective of the Plans is to align employee and shareholder long-term
interests by creating a strong and direct link between compensation and
shareholder value. The Stock Incentive Plans authorize the Board of Directors,
or a committee of the Board, to award stock options to officers and other
employees of the Company, as well as to directors and consultants. The Board
of Directors has designated the Option Committee to administer the Stock
Incentive Plans, and the Committee works with the Option Committee with respect
to the grant of options to executive officers and key employees. Stock options
are granted at an exercise price not less than 100% of the fair market value of
the Companys common stock on the date of grant. The amount of stock option
grants to an individual depends on the persons level of responsibility in the
Company and the persons job performance. Stock options granted under the
Stock Incentive Plans may contain vesting provisions. All of the Named
Executives received stock option grants at the end of fiscal 2001 as part of
the fiscal 2001 annual option grant program for key employees. The number of
options granted to each of the Named Executives at the end of fiscal 2001 was
reduced from the previous year because of the Companys performance in fiscal
2001.

Deductibility.Section 162(m) of the Internal Revenue Code of 1986, as
amended, limits to $1 million per person the amount that the Company may deduct
for compensation paid to any of its most highly compensated officers unless the
compensation is performance based. The levels of compensation paid by the
Company have not exceeded this limit. Although it may be possible in any given
year for option exercises to cause an officers total compensation for that
year to exceed $1 million, the Committee believes that any options granted
under the Stock Incentive Plan would meet the requirement of being
performance-based and would, therefore not be subject to the $1 million limit
on deductibility.

Respectfully submitted,

William A. Wheeler, Chairman
Dale L. Rasmussen
Gene C. Sharratt

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Performance Graph

The following graph shows a comparison of the cumulative total return on the
Companys common stock, the Standard & Poors (S&P) 500 Index and the S&P
Aerospace/Defense Index, a published industry index, for the period beginning
May 31, 1996 and ending May 31, 2001. The graph assumes that $100 was invested
on May 31, 1996, in the Companys common stock, the S&P 500 Index and the
industry index, and that all dividends were reinvested. The stock price
information shown on the graph below is not necessarily indicative of future
price performance.

(PERFORMANCE GRAPH)

|                                      |  |         |        |         |  |         |        |         |  |         |        |         |  |  |        |  |  |  |        |  |  |  |        | 
|------------------------------------- |  | ------- | ------ | ------- |  | ------- | ------ | ------- |  | ------- | ------ | ------- |  |  | ------ |  |  |  | ------ |  |  |  | ------ | 
|Company /Index Name                   |  | 5/31/96 |        | 5/31/97 |  | 5/31/98 |        | 5/31/99 |  | 5/31/00 |        | 5/31/01
|                                      |  |         |        |         |  |         |        |         |  |         |        |        
|Pacific Aerospace & Electronics, Inc. |  |         | 100.00 |         |  |         | 74.82  |         |  |         | 149.88 |         |  |  | 41.32  |  |  |  | 30.56  |  |  |  | 5.13   | 
|S&P 500                               |  |         | 100.00 |         |  |         | 126.78 |         |  |         | 163.02 |         |  |  | 194.56 |  |  |  | 212.31 |  |  |  | 187.68 | 
|S&P Aerospace                         |  |         | 100.00 |         |  |         | 120.48 |         |  |         | 126.16 |         |  |  | 127.38 |  |  |  | 101.58 |  |  |  | 144.59 | 

1999 Stock Incentive Plan

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The Companys shareholders adopted the Companys 1999 Stock Incentive Plan (the
1999 Plan) in October 1999. The Company has reserved for issuance under the
1999 Plan a maximum of 4,000,000 shares of common stock, subject to certain
adjustments. Under the 1999 Plan, the plan administrator may award incentive
stock options (ISOs) to key employees, and may award non-qualified stock
options (NSOs), stock appreciation rights (SARs), stock and cash bonus
awards, restricted stock, and performance units to employees and certain
non-employees (other than non-employee directors) who have important
relationships with the Company or its subsidiaries. However, no person may
receive options to purchase more than 1,000,000 shares in any one year. As of
May 31, 2001, options to purchase an aggregate of 761,500 shares of common
stock had been granted under the 1999 Plan, of which options to purchase 7,500
shares had been forfeited, leaving 3,246,000 shares available as of May 31,
2001 for future grant under the 1999 Plan. On June 1, 2001, an aggregate of
380,952 shares of restricted stock were issued to the Named Executives under
the 1999 Plan in lieu of salary increases, leaving 2,865,048 shares available
as of June 1, 2001 for future grant under the 1999 Plan.

The 1999 Plan is administered by the Option Committee of the Board of
Directors, which is comprised of disinterested directors in accordance with
Rule 16b-3 under the Exchange Act, and of outside directors under Section
162(m) of the Internal Revenue Code. However, only the Board of Directors may
amend or terminate the 1999 Plan. Unless terminated sooner by the Board of
Directors, the 1999 Plan expires in July 2009. The 1999 Plan provides that, in
general, a vested option would have to be exercised within three months after
the optionees employment or service with the Company or a subsidiary
terminates. However, options would be exercisable within 24 months following
termination of employment because of retirement, disability, or death, and
options would terminate automatically if an optionee were terminated for cause.
Options, SARs, cash and stock bonus awards and performance units are
nonassignable and nontransferable except by will or by the laws of descent and
distribution at the time of the recipients death. On the date an ISO is
granted, the aggregate fair market value of the common stock issuable under
ISOs available for exercise during any calendar year, may not exceed $100,000.
ISOs must expire ten years from the date of grant, and the exercise price must
equal the fair market value of the underlying shares of common stock at the
date of grant. ISOs may not be granted to employees holding more than 10% of
the Companys total voting power unless (a) the exercise price is at least 110%
of the common stocks fair market value on the date of grant, and (b) the
option is not exercisable until five years after the date of grant.

Amended and Restated Stock Incentive Plan

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The Companys shareholders adopted the Companys Amended and Restated Stock
Incentive Plan (the 1996 Plan) in October 1996. The Company has reserved for
issuance under the 1996 Plan a maximum of 3,000,000 shares of common stock,
subject to certain adjustments. As of May 31, 2001, options to purchase an
aggregate of 3,144,448 shares of common stock had been granted under the 1996
Plan, of which options for 25,000 shares had been exercised, and options for
268,000 shares had been forfeited, leaving 123,552 shares available as of May
31, 2001 for future grants under the 1996 Plan. The terms and administration
of the 1996 Plan are substantially similar to those of the 1999 Plan. The
primary differences between the 1999 Plan and the 1996 Plan relate to the
termination provisions for options. Under the 1996 Plan, options would expire
12 months after the termination of employment by reason of death or disability
or within three months after termination for any other reason except for cause.

Independent Director Stock Plan

The Companys shareholders adopted the Companys original Independent Director
Stock Plan in November 1995. Following approval by the shareholders at the
Companys 1998 Annual Meeting, the plan was amended and restated. The Company
has reserved for issuance under the Amended and Restated Independent Director
Stock Plan (the Director Plan) a maximum of 500,000 shares of common stock,
subject to adjustments, issuable to directors who are not employees of the
Company or any of its subsidiaries.

The Director Plan is administered by the Compensation Committee of the Board of
Directors in accordance with Rule 16b-3 adopted under the Exchange Act. No
director may vote on any matter relating to an award held by such director.
Only the Board of Directors may suspend, amend or terminate the Director Plan.
Unless terminated sooner by the Board of Directors, the Director Plan expires
on October 2005.

Under the Director Plan, as amended in 1998, each Independent Director receives
fully-vested, non-qualified options to purchase up to 2,500 shares of common
stock upon election to the Board (the Initial Award). Each time an
Independent Director is elected to the Board (or on the date of each annual
shareholders meeting during terms longer than one year), each Independent
Director receives an option to purchase up to 10,000 shares of common stock
(the Annual Award). Annual Awards vest in full on the first anniversary of
grant (the Vesting Period) if the Independent Director has attended at least
75% of the regularly scheduled Board meetings during the Vesting Period.
Otherwise the Annual Award is forfeited, unless the Board of Directors votes
unanimously to waive or modify the vesting requirement.

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An unvested Annual Award will also be forfeited if the director ceases to be an
Independent Director during the Vesting Period for any reason other than death
or disability unless the Board votes unanimously to waive that requirement.
However, unvested Annual Awards automatically vest (a) if the director is
unable to continue due to disability or death, (b) upon the closing of any
merger, consolidation or plan of exchange in which the Company does not
survive, or (c) upon sale of all or substantially all of the Companys assets.
The exercise price of options granted under the Director Plan is based on the
fair market value of the Companys common stock for the five trading days prior
to the date of determination. No Independent Director may transfer any
interest in unvested Annual Awards to any person other than to the Company.

At May 31, 2001, 32,559 shares of common stock had been issued under the
Director Plan, and options to purchase an additional 139,137 shares of common
stock had been granted, 10,000 of which were forfeited, leaving 338,304 shares
available for issuance under the Director Plan.

Employee Stock Purchase Plan

The Companys shareholders adopted the Companys 1997 Employee Stock Purchase
Plan in October 1997 (the Employee Stock Plan). The Company has reserved for
issuance under the Employee Stock Plan a maximum of 1,000,000 shares of common
stock, subject to certain adjustments, for issuance to eligible employees of
the Company and its subsidiaries. The Company pays all expenses relating to
the Employee Stock Plan except expenses related to the resale of shares
acquired by employees under the plan. The Employee Stock Plan is administered
by the Compensation Committee of the Board of Directors. The plan
administrator designated Salomon Smith Barney, Inc. as the plans custodian to
vote the shares pursuant to the participants instructions, keep the plan
records, and provide periodic statements to participants.

The Companys Board of Directors terminated the Employee Stock Plan on August
24, 2001. Between June 1, 2000 and May 31, 2001, between 100 and 142 employees
participated in the Employee Stock Plan each month, purchasing stock at prices
ranging between $0.1615 per share and $1.5938 per share. During fiscal 2001, a
total of 407,092 shares of common stock were issued under the Employee Stock
Plan, and a total of 591,730 shares had been issued since inception of the
plan, leaving 408,270 shares available for issuance as of May 31, 2001.

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ITEM 12. Security Ownership of Certain Beneficial Owners and Management

Principal Shareholders

The following table shows, to the best of the Companys knowledge based on the
records of the Companys transfer agent and the Companys records on issuances
of shares, as adjusted to reflect changes in ownership documented in filings
with the Securities and Exchange Commission made by certain shareholders and
provided to the Company pursuant to Section 16 of the Exchange Act, and
statements provided to the Company by certain shareholders, the common stock
owned as of August 27, 2001, by (1) each person known by the Company to own
beneficially more than 5% of the outstanding common stock; (2) each of the
Companys current directors; (3) the Named Executives; and (4) all executive
officers and the current directors of the Company as a group. Except as
otherwise noted, the Company believes the persons listed below have sole
investment and voting power with respect to the common stock owned by them.

|                                          |  |                          |           |               |  |  |     |  
|----------------------------------------- |  | ------------------------ | --------- | ------------- |  |  | --- | -
|                                          |  | Amount and Nature of     |           | Percentage of
|Name and Address of Beneficial Owner:     |  | Beneficial Ownership (1) |           | Common Stock 
|                                          |  |                          |           |              
|DDJ Capital Management, LLC(2)            |  |                          | 4,036,978 |               |  |  | 9.3 | %
|141 Linden St. #S-4                       |  |                          |           |               |  |  |     |  
|Wellesley, MA 02482                       |  |                          |           |               |  |  |     |  
|                                         
|Donald A. Wright(3)                       |  |                          | 2,985,705 |               |  |  | 7.1 | %
|c/o Pacific Aerospace & Electronics, Inc. |  |                          |           |               |  |  |     |  
|430 Olds Station Road, Third Floor        |  |                          |           |               |  |  |     |  
|Wenatchee, WA 98801                       |  |                          |           |               |  |  |     |  
|                                         
|Werner Hafelfinger(4)                     |  |                          | 419,760   |               |  |  | *   |  
|c/o Pacific Aerospace & Electronics, Inc. |  |                          |           |               |  |  |     |  
|430 Olds Station Road, Third Floor        |  |                          |           |               |  |  |     |  
|Wenatchee, WA 98801                       |  |                          |           |               |  |  |     |  

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|                                                                         |  |                          |           |               |  |  |     |  
|------------------------------------------------------------------------ |  | ------------------------ | --------- | ------------- |  |  | --- | -
|                                                                         |  | Amount and Nature of     |           | Percentage of
|Name and Address of Beneficial Owner:                                    |  | Beneficial Ownership (1) |           | Common Stock 
|                                                                         |  |                          |           |              
|Dale L. Rasmussen(5)                                                     |  |                          | 30,492    |               |  |  | *   |  
|c/o IMPCO Technologies, Inc.                                             |  |                          |           |               |  |  |     |  
|708 Industrial Drive                                                     |  |                          |           |               |  |  |     |  
|Tukwila, WA 98188                                                        |  |                          |           |               |  |  |     |  
|                                                                        
|Gene C. Sharratt, Ph.D. (6)                                              |  |                          | 2,500     |               |  |  | *   |  
|c/o North Central Educational Service District                           |  |                          |           |               |  |  |     |  
|P.O. Box 1847                                                            |  |                          |           |               |  |  |     |  
|Wenatchee, WA 98807                                                      |  |                          |           |               |  |  |     |  
|                                                                        
|Robert M. Stemmler(7)                                                    |  |                          | 18,137    |               |  |  | *   |  
|c/o IMPCO Technologies, Inc.                                             |  |                          |           |               |  |  |     |  
|16804 Gridley Place                                                      |  |                          |           |               |  |  |     |  
|Cerritos, CA 90703                                                       |  |                          |           |               |  |  |     |  
|                                                                        
|William A. Wheeler(5)                                                    |  |                          | 28,092    |               |  |  | *   |  
|2011 Lombard Lane                                                        |  |                          |           |               |  |  |     |  
|Yakima, WA 98902                                                         |  |                          |           |               |  |  |     |  
|                                                                        
|Sheryl A. Symonds(8)                                                     |  |                          | 352,962   |               |  |  | *   |  
|c/o Pacific Aerospace & Electronics, Inc.                                |  |                          |           |               |  |  |     |  
|430 Olds Station Road, Third Floor                                       |  |                          |           |               |  |  |     |  
|Wenatchee, WA 98801                                                      |  |                          |           |               |  |  |     |  
|                                                                        
|Nick A. Gerde(9)                                                         |  |                          | 398,225   |               |  |  | *   |  
|c/o Pacific Aerospace & Electronics, Inc.                                |  |                          |           |               |  |  |     |  
|430 Olds Station Road, Third Floor                                       |  |                          |           |               |  |  |     |  
|Wenatchee, WA 98801                                                      |  |                          |           |               |  |  |     |  
|                                                                        
|All executive officers and current directors as a group
(7 persons) (10) |  |                          | 3,837,648 |               |  |  | 8.9 | %

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---

|*    |  | Less than 1%.                                                                                                                                                                                                                                                                                                                                                                
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(1)  |  | Shares that a person has the right to acquire within 60 days are treated
as outstanding for determining the amount and percentage of common stock
owned by such person but are not deemed to be outstanding as to any other
person or group.                                                                                                                                 
|    
|    
|    
|    
|(2)  |  | Includes warrants to purchase 4,036,978 shares of common stock at an
exercise price of $.001 per share held by affiliates of DDJ Capital
Management, LLC, as follows: B III Capital Partners, L.P.  1,883,923
shares; DDJ Canadian High Yield Fund  538,263 shares; B III-A Capital
Partners, L.P.  807,396 shares; State Street Bank & Trust, Custodian 
807,396 shares.
|    
|    
|    
|    
|(3)  |  | Includes (a) 4,000 shares issuable upon exercise of public warrants, (b)
100,000 shares issuable upon exercise of another warrant, and (c)
2,207,560 shares issuable upon exercise of vested stock options.                                                                                                                                                                  
|    
|    
|    
|    
|(4)  |  | Includes 197,500 shares issuable upon exercise of vested stock options.                                                                                                                                                                                                                                                                                                      
|    
|    
|    
|    
|(5)  |  | Includes 20,000 shares issuable upon exercise of vested stock options.
Does not include 10,000 shares issuable upon exercise of unvested stock
options.                                                                                                                                                                                                                      
|    
|    
|    
|    
|(6)  |  | Includes 2,500 shares issuable upon exercise of vested stock options.
Does not include 10,000 shares issuable upon exercise of unvested stock
options.                                                                                                                                                                                                                       
|    
|    
|    
|    
|(7)  |  | Includes 16,637 shares issuable upon exercise of vested stock options.
Does not include 10,000 shares issuable upon exercise of unvested stock
options.                                                                                                                                                                                                                      
|    
|    
|    
|    
|(8)  |  | Includes (a) 500 shares issuable upon exercise of public warrants and (b)
297,500 shares issuable upon exercise of vested stock options.                                                                                                                                                                                                                                     
|    
|    
|    
|    
|(9)  |  | Includes (a) 4,000 shares issuable upon exercise of public warrants, (b)
25,000 shares issuable upon exercise of another warrant, and (c) 283,556
shares issuable upon exercise of vested stock options. Mr. Gerdes
employment with the Company terminated on August 15, 2001 and he is not a
current director.                                                             
|    
|    
|    
|    
|(10) |  | Includes currently exercisable warrants and options to purchase up to
2,846,197 shares of common stock.                                                                                                                                                                                                                                                                      




ITEM 13. Certain Relationships and Related Transactions

Employment Agreements. The Company has entered into employment agreements with
Donald A. Wright, Werner Hafelfinger and Sheryl A. Symonds. The Company
terminated an employment agreement with Nick A. Gerde in August 2001 and
entered into a severance arrangement with Mr. Gerde. SeeItem 11  Executive
Compensation  Employment Agreements.

Condominium.In November 1998, the Company entered into a Condominium Purchase
and Sale Agreement (the Condominium Agreement) with Donald A. Wright, the
Companys Chief Executive Officer, President, and Chairman of the Board.
Pursuant to the Condominium Agreement, Mr. Wright agreed to purchase from the
Company a residential condominium unit within the Companys headquarters
building for a total purchase price of $175,000. At the time the Condominium
Agreement was executed, the condominium had not been completed. Upon
completion, the condominium had a value higher than Mr. Wrights purchase
price. As a result, Mr. Wright requested that the purchase be rescinded. The
Board of Directors agreed to rescind the purchase, but amended Mr. Wrights
employment agreement to require Mr. Wright to reside in the condominium unit.
Mr. Wright pays rent on the condominium unit of $750.00 per month. In
addition, the Board approved an Option to Purchase, which grants to Mr. Wright
the right to purchase the condominium unit. The option became exercisable
February 1, 2000. The

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purchase price would be: (i) $300,000 if the option is exercised on or after
February 1, 2001, but prior to February 1, 2002; and (ii) $250,000 if the
option is exercised on or after February 1, 2002. In June 2001, the Board of
Directors voted to decrease the purchase price to $250,000 prior to February 1,
2002 if Mr. Wright would agree to exercise the option, which he has not done to
date. The option terminates ten business days after Mr. Wrights employment
relationship with the Company ceases for any reason other than death.

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NCESD Lease. In August 2001, the Company entered into a lease agreement with
North Central Educational Services District (the NCESD), pursuant to which
the NCESD leased the second floor of the Companys Wenatchee headquarters
building from the Company for $6,183 per month for a term of 24 months. In
authorizing the lease, the Board of Directors determined that the lease was
made for fair market value. Gene C. Sharratt, a director of the Company, is
Superintendent of the NCESD.

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ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)(1) Financial Statements

The following financial statements are included in this Annual Report on Form
10-K/A:

| |                                                                                                             
| | ------------------------------------------------------------------------------------------------------------
| | Independent Auditors Report dated July 27, 2001, except as to Note 24(b)
which is as of May 17, 2002       
|
| | Consolidated Balance Sheets as of May 31, 2000 and 2001                                                     
|
| | Consolidated Statements of Operations and Comprehensive Loss for the
years ended May 31, 1999, 2000 and 2001
|
| | Consolidated Statements of Stockholders Equity (Deficit) for the years
ended May 31, 1999, 2000 and 2001   
|
| | Consolidated Statements of Cash Flows for the years ended May 31, 1999,
2000 and 2001                       
|
| | Notes to Consolidated Financial Statements                                                                  

(a)(2) Financial Schedules

All financial schedules are omitted because the required information is
inapplicable or the information is presented in the consolidated financial
statements or related notes.

(a)(3) Exhibits

|        |  |                                                                                                                                                                                               
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                               
|Number  |  | Description                                                                                                                                                                                   
|        |  |                                                                                                                                                                                               
|2.1     |  | Asset Purchase Agreement between Aeromet America, Inc., Pacific Aerospace & Electronics, Inc., U.S. Castings, LLC, USCRE Properties, LLC,
and Advanced Aluminum, LLC, dated June 14, 2001.(42)
|2.2     |  | Closing Agreement between Aeromet America, Inc., Pacific Aerospace & Electronics, Inc., U.S. Castings, LLC, USCRE Properties, LLC, and
Advanced Aluminum, LLC, dated June 14, 2001.(42)       
|2.3     |  | Asset Purchase Agreement between MCE Technologies Incorporated and Skagit Engineering &                                                                                                       

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|        |  |                                                                                                                                                                                                                       
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                       
|Number  |  | Description                                                                                                                                                                                                           
|        |  |                                                                                                                                                                                                                       
|        |  | Manufacturing, Inc., dated May 4, 2001.(43)                                                                                                                                                                           
|2.4     |  | Agreement for Purchase and Sale of Assets between Teledyne Technologies Incorporated and Electronic Specialty Corporation, dated February
21, 2001.(43)                                                               
|3.1     |  | Articles of Incorporation of Pacific Aerospace & Electronics, Inc.(6)                                                                                                                                                 
|3.2     |  | Amendment to Articles of Incorporation containing Designation of Rights and Preferences of Series A Convertible Preferred Stock, as
corrected.(8)                                                                     
|3.3     |  | Amendment to Articles of Incorporation containing Designation of Rights and Preferences of Series B Convertible Preferred Stock.(20)                                                                                  
|3.4     |  | Bylaws of Pacific Aerospace & Electronics, Inc., as amended.(35)                                                                                                                                                      
|4.1     |  | Form of specimen certificate for common stock.(6)                                                                                                                                                                     
|4.2     |  | Form of specimen certificate for public warrants.(6)                                                                                                                                                                  
|4.3     |  | Form of specimen certificate for the Series A Convertible Preferred Stock.(8)                                                                                                                                         
|4.4     |  | Form of specimen certificate for the Series B Convertible Preferred Stock.(20)                                                                                                                                        
|4.5     |  | Form of common stock Purchase Warrant issued to holders of the Series B Convertible Preferred Stock on May 15, 1998.(20)                                                                                              
|4.6     |  | Warrant Agreement between Interwest Transfer Co., Inc. and PCT Holdings, Inc. dated July 1, 1996.(4)                                                                                                                  
|4.7     |  | Amendment No. 1, dated as of May 26, 2000, to the Warrant Agreement, dated as of July 1, 1996, between Pacific Aerospace & Electronics,
Inc., as successor to PCT Holdings, Inc., and Interwest Transfer Co., Inc.(32)
|4.8     |  | Common Stock Purchase Warrant No. 001 from Pacific Aerospace & Electronics, Inc. to Donald A. Wright dated as of November 30, 1996.(10)                                                                               
|4.9     |  | Common Stock Purchase Warrant No. 002 from Pacific Aerospace & Electronics, Inc. to Nick A. Gerde dated as of November 30, 1996.(10)                                                                                  
|4.10    |  | Common Stock Purchase Warrant No. 003 from Pacific Aerospace & Electronics, Inc. to Edward A. Taylor dated as of November 30, 1996.(10)                                                                               
|4.11    |  | Common Stock Purchase Warrant from Pacific Aerospace & Electronics, Inc. to Gregory K. Smith dated June 3, 1997.(9)                                                                                                   
|4.12    |  | Common Stock Purchase Warrant from Pacific Aerospace & Electronics, Inc. to Nestor Wiegand dated June 3, 1997.(9)                                                                                                     
|4.13    |  | Securities Purchase Agreement, dated May 15, 1998, between Pacific Aerospace & Electronics, Inc. and the purchasers of the Companys
Series B Convertible Preferred Stock.(20)                                        
|4.14    |  | Purchase Agreement dated as of July 23, 1998, between Pacific Aerospace & Electronics, Inc.,                                                                                                                          

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|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|        |  | Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries,
Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and Friedman, Billings, Ramsey & Co., Inc.
and BancBoston Securities Inc.(18)                                                                                                         
|4.15    |  | Indenture dated as of July 30, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing
Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries, Inc., Pacific
Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and IBJ Schroder Bank & Trust Company.(18)                                                        
|4.16    |  | Registration Rights Agreement, dated as of July 30, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc.,
Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical
Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and Friedman, Billings,
Ramsey & Co., Inc. and BancBoston Securities Inc.(18)
|4.17    |  | Form of Global Note by Pacific Aerospace & Electronics, Inc.(18)                                                                                                                                                                                                                                                                                                                                                                                                     
|4.18    |  | Form of Subsidiary Guaranty from the U.S. subsidiaries of Pacific Aerospace & Electronics, Inc.(25)                                                                                                                                                                                                                                                                                                                                                                  
|4.19    |  | Securities Purchase Agreement among Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc., and Bay Harbor Investments,
Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                          
|4.20    |  | Registration Rights Agreement between Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc., and Bay Harbor Investments,
Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                        
|4.21    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                             
|4.22    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                               
|4.23    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                             
|4.24    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                               
|4.25    |  | Vesting Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                     
|4.26    |  | Vesting Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                       
|4.27    |  | Letter agreement among Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc.                                                                                                                                                                                                                                                                                                                                                                         

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|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|        |  | and Bay Harbor Investments, Inc., dated as of
February 15, 2001.(40)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|4.28    |  | Placement Agent Warrant between Pacific Aerospace & Electronics, Inc. and Rochon Capital Group, Ltd., dated as of July 27, 2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|4.29    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.30    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.31    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.32    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.33    |  | Loan Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc., as Borrowers,
Pacific A&E Limited, Pacific Aerospace & Electronics (UK) Limited, Aeromet International PLC, the Foreign Subsidiaries, and DDJ Capital
Management, LLC, as Agent for the Lenders, dated March 1, 2001.(41)
|4.34    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of B III
Capital Partners, L.P., dated March 1, 2001, in the amount of $6,459,361.00.(41)                                                                                                                         
|4.35    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of B
III-A Capital Partners, L.P., dated March 1, 2001, in the amount of $2,768,298.00.(41)                                                                                                                       
|4.36    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E                                                                                                                                                                                                                                                

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|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|        |  | International, Inc. in favor of DDJ
Canadian High Yield Fund, dated March 1, 2001, in the amount of $1,845,531.00.(41)                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|4.37    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of State
Street Bank & Trust, as Custodian for General Motors Employees Global Group Pension Trust, dated March 1, 2001, in the amount of
$2,768,298.00.(41)             
|4.38    |  | Security Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. and DDJ Capital
Management, LLC, as Agent for the Lenders, dated March 1, 2001.(41)                                                                                          
|4.39    |  | Intellectual Property Security Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts,
Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc.,
Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. and
DDJ Capital Management, LLC, as Agent for the Lenders, dated March 1, 2001.(41)                                                                    
|4.40    |  | Pledge Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc., PA&E International, Inc., Pacific A&E
Limited, Pacific Aerospace & Electronics (UK) Limited, Aeromet International PLC, and DDJ Capital Management, LLC, as Agent for the
Lenders, dated March 1, 2001.(41)
|4.41    |  | Warrant Agreement, by and among Pacific Aerospace & Electronics, Inc. and Holders, dated March 1, 2001.(41)                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|4.42    |  | Warrant Certificate, dated March 1, 2001, issued to B III Capital Partners, L.P., exercisable for 1,883,923 shares of Common Stock.(41)                                                                                                                                                                                                                                                                                                                                                                                                                                         
|4.43    |  | Warrant Certificate, dated March 1, 2001, issued to B III-A Capital Partners, L.P., exercisable for 807,396 shares of Common Stock.(41)                                                                                                                                                                                                                                                                                                                                                                                                                                         

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|        |  |                                                                                                                                                                                                         
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                         
|Number  |  | Description                                                                                                                                                                                             
|        |  |                                                                                                                                                                                                         
|4.44    |  | Warrant Certificate, dated March 1, 2001, issued to DDJ Canadian High Yield Fund, exercisable for 538,263 shares of Common Stock.(41)                                                                   
|4.45    |  | Warrant Certificate, dated March 1, 2001, issued to State Street Bank & Trust, as Custodian for General Motors Employees Global Group
Pension Trust, exercisable for 807,396 shares of Common Stock.(41)
|4.46    |  | Equity Registration Rights Agreement, by and among Pacific Aerospace & Electronics, Inc. and Holders, dated March 1, 2001.(41)                                                                          
|4.47    |  | Warrant Agreement by and among Pacific Aerospace & Electronics, Inc. and First Albany Corporation, dated April 9, 2001.(43)                                                                             
|4.48    |  | Warrant Certificate, dated April 9, 2001, issued to First Albany Corporation, exercisable for 692,074 shares of Common Stock.(43)                                                                       
|10.1    |  | Amended and Restated Stock Incentive Plan.(5)                                                                                                                                                           
|10.2    |  | Amendment No. 1 to the Amended and Restated Stock Incentive Plan.(19)                                                                                                                                   
|10.3    |  | Amended and Restated Independent Director Stock Plan.(21)                                                                                                                                               
|10.4    |  | 1999 Stock Incentive Plan (30)                                                                                                                                                                          
|10.5    |  | 1997 Employee Stock Purchase Plan.(11)                                                                                                                                                                  
|10.6    |  | Employment Agreement, dated June 1, 1997, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(9)                                                                                        
|10.7    |  | Amendment No. 1 to Employment Agreement, dated January 29, 1999, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(27)                                                                
|10.8    |  | Amendment No. 2 to Employment Agreement, dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(43)                                                                    
|10.9    |  | Employment Agreement, dated March 1, 1999, between Pacific Aerospace & Electronics, Inc. and Werner Hafelfinger.(27)                                                                                    
|10.10   |  | Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Werner Hafelfinger.(43)                                                                   
|10.11   |  | Employment Agreement, dated June 1, 1997, between Pacific Aerospace & Electronics, Inc. and Nick A. Gerde.(9)                                                                                           
|10.12   |  | Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Nick A. Gerde.(43)                                                                        
|10.13   |  | Separation Letter dated August 15, 2001 from Pacific Aerospace & Electronics, Inc. to Nick A. Gerde.(43)                                                                                                
|10.14   |  | Waiver and Release dated August 17, 2001 from Nick A. Gerde to Pacific Aerospace &
Electronics, Inc.(43)                                                                                                

158



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##### Table of Contents



|        |  |                                                                                                                                                                             
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                             
|Number  |  | Description                                                                                                                                                                 
|        |  |                                                                                                                                                                             
|10.15   |  | Employment Agreement, dated September 1, 1997, between Pacific Aerospace & Electronics, Inc. and Sheryl A. Symonds.(12)                                                     
|10.16   |  | Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Sheryl A. Symonds.(43)                                        
|10.17   |  | Incentive Compensation Program.(35)                                                                                                                                         
|10.18   |  | Promissory Note, dated March 18, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(15)                                                      
|10.19   |  | Security Agreement, dated March 18, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(15)                                                   
|10.20   |  | Loan Agreement, dated September 7, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association.(29)                                                
|10.21   |  | Promissory Note, dated September 22, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(22)                                                  
|10.22   |  | Commercial Security Agreement, dated September 7, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association.(29)                                 
|10.23   |  | Promissory Note, dated September 30, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(22)                                                  
|10.24   |  | Deed of Trust, dated September 30, 1998, between Pacific Aerospace & Electronics, Inc., KeyBank National Association and Land Title
Company, Chelan-Douglas County, Inc.(22)
|10.25   |  | Modification and/or Extension Agreement, dated October 6, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National
Association.(29)                         
|10.26   |  | Modification and/or Extension Agreement, dated September 6, 2000, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(35)                       
|10.27   |  | Modification and/or Extension Agreement, dated November 13, 2000, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(37)                       
|10.28   |  | Modification and/or Extension Agreement dated November 28, 2000, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(37)                        
|10.29   |  | Modification and/or Extension Agreement dated January 5, 2001, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(37)                          

159



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##### Table of Contents



|        |  |                                                                                                                                                                                                   
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                   
|Number  |  | Description                                                                                                                                                                                       
|        |  |                                                                                                                                                                                                   
|10.30   |  | Modification and/or Extension Agreement dated February 7, 2001, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(39)                                               
|10.31   |  | Letter dated April 11, 2001 to Pacific Aerospace & Electronics, Inc. from Special Assets
Group of Key Bank Washington.(43)                                                                        
|10.32   |  | Facility Letter, dated July 30, 1998, from Barclays Bank plc to Aeromet International plc.(20)                                                                                                    
|10.33   |  | Non-Negotiable Promissory Note in the original principal amount of $1,000,000.00, from U.S. Castings, LLC to Pacific Aerospace &
Electronics, Inc., dated June 14, 2001.(42)                      
|10.34   |  | Guarantee by USCRE Properties, LLC to Pacific Aerospace & Electronics, Inc., dated June 14, 2001.(42)                                                                                             
|10.35   |  | Escrow Note in the original principal amount of $160,000.00, from U.S. Castings, LLC and USCRE Properties, LLC to Pacific Aerospace &
Electronics, Inc., dated June 14, 2001.(42)                 
|10.36   |  | U.S. Castings, LLC Limited Liability Company Agreement, dated June 13, 2001.(42)                                                                                                                  
|10.37   |  | First Amendment to U.S. Castings, LLC Limited Liability Company Agreement, dated June 14, 2001.(42)                                                                                               
|10.38   |  | USCRE Properties, LLC Limited Liability Company Agreement, dated June 13, 2001.(42)                                                                                                               
|10.39   |  | First Amendment to USCRE Properties, LLC Limited Liability Company Agreement, dated June 14, 2001.(42)                                                                                            
|10.40   |  | General Terms Agreement No. BCA-65323-0458 dated December 20, 1999 between The Boeing Company and Pacific Aerospace & Electronics, Inc.
(U.S. Aerospace Group and European Aerospace Group).(31)  
|10.41   |  | Special Business Provisions No. POP-65323-0519 December 20, 1999 between The Boeing Company and Pacific Aerospace & Electronics, Inc.
(U.S. Aerospace Group and European Aerospace Group).(1) (31)
|10.42   |  | Option to Purchase, dated January 29, 1999, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(27)                                                                               
|10.43   |  | Real Estate Agreement, dated January 15, 1999, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County.(27)                                                                   
|10.44   |  | Real Estate Purchase and Sale Agreement dated December 29, 2000, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan
County.(37)                                                 
|10.45   |  | Rescission and Termination Agreement, dated July 31, 2001, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County.(43)                                                       
|10.46   |  | Agreement of Sale, dated October 23, 2000 between Balo Precision Parts, Inc. and D&G Group II, LLC, Louis E. and Mary E. Giresi
Grandchildrens Education Trust.(37)                              

160



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##### Table of Contents



|        |  |                         
|------- |  | ------------------------
|Exhibit |  |                         
|Number  |  | Description             
|        |  |                         
|21.1    |  | List of Subsidiaries(43)
|23.1    |  | Consent of KPMG LLP(44) 



---

|(1)  |  | Subject to confidential treatment. Omitted confidential information was
filed separately with the Securities and Exchange Commission.          
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(2)  |  | Incorporated by reference to the Companys Annual Report on Form 10-KSB
for the year ended May 31, 1995.                                       
|    
|    
|    
|    
|(3)  |  | Incorporated by reference to Amendment No. 1 to the Companys
Registration Statement on Form SB-2 filed on June 19, 1996.                      
|    
|    
|    
|    
|(4)  |  | Incorporated by reference to the Companys Annual Report on Form 10-KSB
for the year ended May 31, 1996.                                       
|    
|    
|    
|    
|(5)  |  | Incorporated by reference to the Companys Current Report on Form 10-QSB
for the quarterly period ended November 30, 1996.                     
|    
|    
|    
|    
|(6)  |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on December 12, 1996, reporting the reincorporation merger.        
|    
|    
|    
|    
|(7)  |  | Incorporated by reference to the Companys Registration Statement of
Certain Successor Issuers on Form 8-B filed on February 6, 1997.          
|    
|    
|    
|    
|(8)  |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on March 12, 1997, reporting the Series A Preferred Stock offering.
|    
|    
|    
|    
|(9)  |  | Incorporated by reference to the Companys Annual Report on Form 10-KSB
for the fiscal year ending May 31, 1997.                               
|    
|    
|    
|    
|(10) |  | Incorporated by reference to the Companys Registration Statement on Form
S-8 filed on June 11, 1997.                                          
|    
|    
|    
|    
|(11) |  | Incorporated by reference to the Companys Definitive Proxy Statement for
its 1997 Annual Shareholders Meeting, filed on August 28, 1997.      
|    
|    
|    
|    
|(12) |  | Incorporated by reference to the Post-Effective Amendment No. 1 to Form
SB-2, filed on November 3, 1997.                                       
|    
|    
|    
|    
|(13) |  | Incorporated by reference to the Companys Quarterly Report on Form
10-QSB for the quarterly period ending November 30, 1997.                  
|    
|    
|    
|    
|(14) |  | Incorporated by reference to the Companys Registration Statement on Form
S-3 filed on December 3, 1997.                                       
|    
|    
|    
|    
|(15) |  | Incorporated by reference to the Companys Quarterly Report on Form
10-QSB for the quarterly period ending February 28, 1998.                  
|    
|    
|    
|    
|(16) |  | Incorporated by reference to the Companys Current Report on Form 8-K/A,
filed on May 1, 1998.                                                 

161



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##### Table of Contents



|(17) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on July 10, 1998.                                                                       
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(18) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on August 14, 1998.                                                                     
|    
|    
|    
|    
|(19) |  | Incorporated by reference to the Companys Registration Statement on Form
S-8 filed on November 7, 1997.                                                            
|    
|    
|    
|    
|(20) |  | Incorporated by reference to the Companys Annual Report on Form 10-K for
the fiscal year ending May 31, 1998.                                                      
|    
|    
|    
|    
|(21) |  | Incorporated by reference to the Companys Definitive Proxy Statement
filed on September 1, 1998.                                                                   
|    
|    
|    
|    
|(22) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q,
and Form 10-Q/A, for the quarterly period ending August 31, 1998.                         
|    
|    
|    
|    
|(23) |  | Incorporated by reference to the Companys Registration Statement on Form
S-1 filed on October 30, 1998.                                                            
|    
|    
|    
|    
|(24) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending November 30, 1998.                                         
|    
|    
|    
|    
|(25) |  | Incorporated by reference to Registration Statement on Form S-4 filed on
November 25, 1998.                                                                         
|    
|    
|    
|    
|(26) |  | Incorporated by reference to Amendment No. 1 to Registration Statement on
Form S-4 filed on January 20, 1999.                                                       
|    
|    
|    
|    
|(27) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending February 28, 1999.                                         
|    
|    
|    
|    
|(28) |  | Incorporated by reference to the Companys Annual Report on Form 10-K
filed on August 30, 1999.                                                                     
|    
|    
|    
|    
|(29) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending August 31, 1999.                                           
|    
|    
|    
|    
|(30) |  | Incorporated by reference to the Companys Definitive Proxy Statement
filed on September 1, 1999.                                                                   
|    
|    
|    
|    
|(31) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending February 29, 2000.                                         
|    
|    
|    
|    
|(32) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on May 31, 2000.                                                                        
|    
|    
|    
|    
|(33) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on August 8, 2000.                                                                      
|    
|    
|    
|    
|(34) |  | Incorporated by reference to the Companys Annual Report on Form 10-K
filed on August 28, 2000.                                                                     
|    
|    
|    
|    
|(35) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending August 31, 2000.                                           
|    
|    
|    
|    
|(36) |  | Incorporated by reference to the first amendment on Form 10-K/A to the
Companys Annual Report for the fiscal year ended May 31, 2000, as filed
on October 13, 2000.
|    
|    
|    
|    
|(37) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending November 30, 2000.                                         

162



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##### Table of Contents



|(38) |  | Incorporated by reference to the second amendment on Form 10-K/A to the
Companys Annual Report for the fiscal year ended May 31, 2000, as filed
on January 18, 2001.
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(39) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on February 9, 2001.                                                                     
|    
|    
|    
|    
|(40) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on February 21, 2001.                                                                    
|    
|    
|    
|    
|(41) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on March 7, 2001.                                                                        
|    
|    
|    
|    
|(42) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on June 27, 2001.                                                                        
|    
|    
|    
|    
|(43) |  | Incorporated by reference to the Companys Annual Report on Form 10-K for
the fiscal year ended May 31, 2001, as filed on August 29, 2001.                           
|    
|    
|    
|    
|(44) |  | Filed with this report.                                                                                                                                              

(b)  Reports on Form 8-K.Current reports filed during the last quarter of
fiscal 2001 were as follows:

(i) The Company filed a Current Report on Form 8-K on March 7, 2001,
reporting the closing of a senior secured loan in the approximate original
principal amount of $13.8 million on March 1, 2001.

(ii) The Company filed a Current Report on Form 8-K on March 26, 2001,
reporting the receipt on March 22, 2001 of a Nasdaq determination letter
regarding the proposed delisting of the Companys securities.

(iii) The Company filed a Current Report on Form 8-K on April 2, 2001,
reporting third quarter losses and restructuring plans.

163



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##### Table of Contents






SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this amended report to be signed on
its behalf by the undersigned, thereunto duly authorized.

Date: July 12, 2002



| |                                       |                                                                              
| | ------------------------------------- | -----------------------------------------------------------------------------
| | PACIFIC AEROSPACE & ELECTRONICS, INC.
|
| | By                                    | /s/    DONALD A. WRIGHTDONALD A. WRIGHT
President and Chief Executive Officer

164



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##### Table of Contents






INDEX TO EXHIBITS

|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                              
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|2.1     |  | Asset Purchase Agreement between Aeromet America, Inc., Pacific Aerospace & Electronics, Inc., U.S. Castings, LLC, USCRE Properties, LLC,
and Advanced Aluminum, LLC, dated June 14, 2001.(42)                                                                                                                                                                                                                                                           
|2.2     |  | Closing Agreement between Aeromet America, Inc., Pacific Aerospace & Electronics, Inc., U.S. Castings, LLC, USCRE Properties, LLC, and
Advanced Aluminum, LLC, dated June 14, 2001.(42)                                                                                                                                                                                                                                                                  
|2.3     |  | Asset Purchase Agreement between MCE Technologies Incorporated and Skagit Engineering & Manufacturing, Inc., dated May 4, 2001.(43)                                                                                                                                                                                                                                                                                                                      
|2.4     |  | Agreement for Purchase and Sale of Assets between Teledyne Technologies Incorporated and Electronic Specialty Corporation, dated February
21, 2001.(43)                                                                                                                                                                                                                                                                                                  
|3.1     |  | Articles of Incorporation of Pacific Aerospace & Electronics, Inc.(6)                                                                                                                                                                                                                                                                                                                                                                                    
|3.2     |  | Amendment to Articles of Incorporation containing Designation of Rights and Preferences of Series A Convertible Preferred Stock, as
corrected.(8)                                                                                                                                                                                                                                                                                                        
|3.3     |  | Amendment to Articles of Incorporation containing Designation of Rights and Preferences of Series B Convertible Preferred Stock.(20)                                                                                                                                                                                                                                                                                                                     
|3.4     |  | Bylaws of Pacific Aerospace & Electronics, Inc., as amended.(35)                                                                                                                                                                                                                                                                                                                                                                                         
|4.1     |  | Form of specimen certificate for common stock.(6)                                                                                                                                                                                                                                                                                                                                                                                                        
|4.2     |  | Form of specimen certificate for public warrants.(6)                                                                                                                                                                                                                                                                                                                                                                                                     
|4.3     |  | Form of specimen certificate for the Series A Convertible Preferred Stock.(8)                                                                                                                                                                                                                                                                                                                                                                            
|4.4     |  | Form of specimen certificate for the Series B Convertible Preferred Stock.(20)                                                                                                                                                                                                                                                                                                                                                                           
|4.5     |  | Form of common stock Purchase Warrant issued to holders of the Series B Convertible Preferred Stock on May 15, 1998.(20)                                                                                                                                                                                                                                                                                                                                 
|4.6     |  | Warrant Agreement between Interwest Transfer Co., Inc. and PCT Holdings, Inc. dated July 1, 1996.(4)                                                                                                                                                                                                                                                                                                                                                     
|4.7     |  | Amendment No. 1, dated as of May 26, 2000, to the Warrant Agreement, dated as of July 1, 1996, between Pacific Aerospace & Electronics,
Inc., as successor to PCT Holdings, Inc., and Interwest Transfer Co., Inc.(32)                                                                                                                                                                                                                                   
|4.8     |  | Common Stock Purchase Warrant No. 001 from Pacific Aerospace & Electronics, Inc. to Donald A. Wright dated as of November 30, 1996.(10)                                                                                                                                                                                                                                                                                                                  
|4.9     |  | Common Stock Purchase Warrant No. 002 from Pacific Aerospace & Electronics, Inc. to Nick A. Gerde dated as of November 30, 1996.(10)                                                                                                                                                                                                                                                                                                                     
|4.10    |  | Common Stock Purchase Warrant No. 003 from Pacific Aerospace & Electronics, Inc. to Edward A. Taylor dated as of November 30, 1996.(10)                                                                                                                                                                                                                                                                                                                  
|4.11    |  | Common Stock Purchase Warrant from Pacific Aerospace & Electronics, Inc. to Gregory K. Smith dated June 3, 1997.(9)                                                                                                                                                                                                                                                                                                                                      
|4.12    |  | Common Stock Purchase Warrant from Pacific Aerospace & Electronics, Inc. to Nestor Wiegand dated June 3, 1997.(9)                                                                                                                                                                                                                                                                                                                                        
|4.13    |  | Securities Purchase Agreement, dated May 15, 1998, between Pacific Aerospace & Electronics, Inc. and the purchasers of the Companys
Series B Convertible Preferred Stock.(20)                                                                                                                                                                                                                                                                           
|4.14    |  | Purchase Agreement dated as of July 23, 1998, between Pacific Aerospace & Electronics, Inc.,
Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries,
Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and Friedman, Billings, Ramsey & Co., Inc.
and BancBoston Securities Inc.(18)





---



##### Table of Contents



|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|4.15    |  | Indenture dated as of July 30, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc., Cashmere Manufacturing
Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical Industries, Inc., Pacific
Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and IBJ Schroder Bank & Trust Company.(18)                                                                                                                                                                                                            
|4.16    |  | Registration Rights Agreement, dated as of July 30, 1998, between Pacific Aerospace & Electronics, Inc., Balo Precision Parts, Inc.,
Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Morel Industries, Inc., Northwest Technical
Industries, Inc., Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., PA&E International, Inc. and Friedman, Billings,
Ramsey & Co., Inc. and BancBoston Securities Inc.(18)                                                                                                                                                    
|4.17    |  | Form of Global Note by Pacific Aerospace & Electronics, Inc.(18)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|4.18    |  | Form of Subsidiary Guaranty from the U.S. subsidiaries of Pacific Aerospace & Electronics, Inc.(25)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.19    |  | Securities Purchase Agreement among Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc., and Bay Harbor Investments,
Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                              
|4.20    |  | Registration Rights Agreement between Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc., and Bay Harbor Investments,
Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                            
|4.21    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|4.22    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|4.23    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|4.24    |  | Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|4.25    |  | Vesting Warrant between Pacific Aerospace & Electronics, Inc. and Strong River Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|4.26    |  | Vesting Warrant between Pacific Aerospace & Electronics, Inc. and Bay Harbor Investments, Inc., dated as of July 27, 2000.(33)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|4.27    |  | Letter agreement among Pacific Aerospace & Electronics, Inc., Strong River Investments, Inc.
and Bay Harbor Investments, Inc., dated as of
February 15, 2001.(40)                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|4.28    |  | Placement Agent Warrant between Pacific Aerospace & Electronics, Inc. and Rochon Capital Group, Ltd., dated as of July 27, 2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|4.29    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.30    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.31    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.32    |  | Common Stock Purchase Warrant between Pacific Aerospace & Electronics, Inc. and Continental Capital & Equity Corporation, dated April 17,
2000.(34)                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|4.33    |  | Loan Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc., as Borrowers,
Pacific A&E Limited, Pacific Aerospace & Electronics (UK) Limited, Aeromet International PLC, the Foreign Subsidiaries, and DDJ Capital
Management, LLC, as Agent for the Lenders, dated March 1, 2001.(41)





---



##### Table of Contents



|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Number  |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|4.34    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of B III
Capital Partners, L.P., dated March 1, 2001, in the amount of $6,459,361.00.(41)                                                                                
|4.35    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of B
III-A Capital Partners, L.P., dated March 1, 2001, in the amount of $2,768,298.00.(41)                                                                              
|4.36    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc.
in favor of DDJ
Canadian High Yield Fund, dated March 1, 2001, in the amount of $1,845,531.00.(41)                                                                                
|4.37    |  | Term Loan Note, executed by Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. in favor of State
Street Bank & Trust, as Custodian for General Motors Employees Global Group Pension Trust, dated March 1, 2001, in the amount of
$2,768,298.00.(41)             
|4.38    |  | Security Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. and DDJ Capital
Management, LLC, as Agent for the Lenders, dated March 1, 2001.(41)                                                                                          
|4.39    |  | Intellectual Property Security Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts,
Inc., Cashmere Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc.,
Pacific Coast Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc. and PA&E International, Inc. and
DDJ Capital Management, LLC, as Agent for the Lenders, dated March 1, 2001.(41)                                                                    
|4.40    |  | Pledge Agreement, by and among Pacific Aerospace & Electronics, Inc., Aeromet America, Inc., Balo Precision Parts, Inc., Cashmere
Manufacturing Co., Inc., Ceramic Devices, Inc., Electronic Specialty Corporation, Northwest Technical Industries, Inc., Pacific Coast
Technologies, Inc., Seismic Safety Products, Inc., Skagit Engineering & Manufacturing, Inc., PA&E International, Inc., Pacific A&E
Limited, Pacific Aerospace & Electronics (UK) Limited, Aeromet International PLC, and DDJ Capital Management, LLC, as Agent for the
Lenders, dated March 1, 2001.(41)





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##### Table of Contents



|        |  |                                                                                                                                                                                                         
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                         
|Number  |  | Description                                                                                                                                                                                             
|        |  |                                                                                                                                                                                                         
|4.41    |  | Warrant Agreement, by and among Pacific Aerospace & Electronics, Inc. and Holders, dated March 1, 2001.(41)                                                                                             
|4.42    |  | Warrant Certificate, dated March 1, 2001, issued to B III Capital Partners, L.P., exercisable for 1,883,923 shares of Common Stock.(41)                                                                 
|4.43    |  | Warrant Certificate, dated March 1, 2001, issued to B III-A Capital Partners, L.P., exercisable for 807,396 shares of Common Stock.(41)                                                                 
|4.44    |  | Warrant Certificate, dated March 1, 2001, issued to DDJ Canadian High Yield Fund, exercisable for 538,263 shares of Common Stock.(41)                                                                   
|4.45    |  | Warrant Certificate, dated March 1, 2001, issued to State Street Bank & Trust, as Custodian for General Motors Employees Global Group
Pension Trust, exercisable for 807,396 shares of Common Stock.(41)
|4.46    |  | Equity Registration Rights Agreement, by and among Pacific Aerospace & Electronics, Inc. and Holders, dated March 1, 2001.(41)                                                                          
|4.47    |  | Warrant Agreement by and among Pacific Aerospace & Electronics, Inc. and First Albany Corporation, dated April 9, 2001.(43)                                                                             
|4.48    |  | Warrant Certificate, dated April 9, 2001, issued to First Albany Corporation, exercisable for 692,074 shares of Common Stock.(43)                                                                       
|10.1    |  | Amended and Restated Stock Incentive Plan.(5)                                                                                                                                                           
|10.2    |  | Amendment No. 1 to the Amended and Restated Stock Incentive Plan.(19)                                                                                                                                   
|10.3    |  | Amended and Restated Independent Director Stock Plan.(21)                                                                                                                                               
|10.4    |  | 1999 Stock Incentive Plan(30)                                                                                                                                                                           
|10.5    |  | 1997 Employee Stock Purchase Plan.(11)                                                                                                                                                                  
|10.6    |  | Employment Agreement, dated June 1, 1997, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(9)                                                                                        
|10.7    |  | Amendment No. 1 to Employment Agreement, dated January 29, 1999, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(27)                                                                
|10.8    |  | Amendment No. 2 to Employment Agreement, dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(43)                                                                    
|10.9    |  | Employment Agreement, dated March 1, 1999, between Pacific Aerospace & Electronics, Inc. and Werner Hafelfinger.(27)                                                                                    
|10.10   |  | Amendment No. 1 to Employment Agreement dated June 1, 2001,
between Pacific Aerospace & Electronics, Inc. and Werner Hafelfinger.(43)                                                                   
|10.11   |  | Employment Agreement, dated June 1, 1997, between Pacific Aerospace & Electronics, Inc. and Nick A. Gerde.(9)                                                                                           
|10.12   |  | Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Nick A. Gerde.(43)                                                                        
|10.13   |  | Separation Letter dated August 15, 2001 from Pacific Aerospace & Electronics, Inc. to Nick A. Gerde.(43)                                                                                                
|10.14   |  | Waiver and Release dated August 17, 2001 from Nick A. Gerde to Pacific Aerospace &
Electronics, Inc.(43)                                                                                                
|10.15   |  | Employment Agreement, dated September 1, 1997, between Pacific Aerospace & Electronics, Inc. and Sheryl A. Symonds.(12)                                                                                 





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##### Table of Contents



|        |  |                                                                                                                                                                                  
|------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                  
|Number  |  | Description                                                                                                                                                                      
|        |  |                                                                                                                                                                                  
|10.16   |  | Amendment No. 1 to Employment Agreement dated June 1, 2001, between Pacific Aerospace & Electronics, Inc. and Sheryl A. Symonds.(43)                                             
|10.17   |  | Incentive Compensation Program.(35)                                                                                                                                              
|10.18   |  | Promissory Note, dated March 18, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(15)                                                           
|10.19   |  | Security Agreement, dated March 18, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(15)                                                        
|10.20   |  | Loan Agreement, dated September 7, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association.(29)                                                     
|10.21   |  | Promissory Note, dated September 22, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(22)                                                       
|10.22   |  | Commercial Security Agreement, dated September 7, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National Association.(29)                                      
|10.23   |  | Promissory Note, dated September 30, 1998, from Pacific Aerospace & Electronics, Inc. to KeyBank National Association.(22)                                                       
|10.24   |  | Deed of Trust, dated September 30, 1998, between Pacific Aerospace & Electronics, Inc., KeyBank National Association and Land Title
Company, Chelan-Douglas County, Inc.(22)     
|10.25   |  | Modification and/or Extension Agreement, dated October 6, 1999, between Pacific Aerospace & Electronics, Inc. and KeyBank National
Association.(29)                              
|10.26   |  | Modification and/or Extension Agreement, dated September 6, 2000, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(35)                            
|10.27   |  | Modification and/or Extension Agreement, dated November 13, 2000, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(37)                            
|10.28   |  | Modification and/or Extension Agreement dated November 28, 2000, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(37)                             
|10.29   |  | Modification and/or Extension Agreement dated January 5, 2001, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(37)                               
|10.30   |  | Modification and/or Extension Agreement dated February 7, 2001, between Pacific Aerospace &
Electronics, Inc. and KeyBank National Association.(39)                              
|10.31   |  | Letter dated April 11, 2001 to Pacific Aerospace & Electronics, Inc. from Special Assets
Group of Key Bank Washington.(43)                                                       
|10.32   |  | Facility Letter, dated July 30, 1998, from Barclays Bank plc to Aeromet International plc.(20)                                                                                   
|10.33   |  | Non-Negotiable Promissory Note in the original principal amount of $1,000,000.00, from U.S. Castings, LLC to Pacific Aerospace &
Electronics, Inc., dated June 14, 2001.(42)     
|10.34   |  | Guarantee by USCRE Properties, LLC to Pacific Aerospace & Electronics, Inc., dated June 14, 2001.(42)                                                                            
|10.35   |  | Escrow Note in the original principal amount of $160,000.00, from U.S. Castings, LLC and USCRE Properties, LLC to Pacific Aerospace &
Electronics, Inc., dated June 14, 2001.(42)
|10.36   |  | U.S. Castings, LLC Limited Liability Company Agreement, dated June 13, 2001.(42)                                                                                                 
|10.37   |  | First Amendment to U.S. Castings, LLC Limited Liability Company Agreement, dated June 14, 2001.(42)                                                                              
|10.38   |  | USCRE Properties, LLC Limited Liability Company Agreement, dated June 13, 2001.(42)                                                                                              
|10.39   |  | First Amendment to USCRE Properties, LLC Limited Liability Company Agreement, dated June 14, 2001.(42)                                                                           





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##### Table of Contents



|        |  |                                                                                                                                                                                                   
|------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                   
|Number  |  | Description                                                                                                                                                                                       
|        |  |                                                                                                                                                                                                   
|10.40   |  | General Terms Agreement No. BCA-65323-0458 dated December 20, 1999 between The Boeing Company and Pacific Aerospace & Electronics, Inc.
(U.S. Aerospace Group and European Aerospace Group).(31)  
|10.41   |  | Special Business Provisions No. POP-65323-0519 December 20, 1999 between The Boeing Company and Pacific Aerospace & Electronics, Inc.
(U.S. Aerospace Group and European Aerospace Group).(1) (31)
|10.42   |  | Option to Purchase, dated January 29, 1999, between Pacific Aerospace & Electronics, Inc. and Donald A. Wright.(27)                                                                               
|10.43   |  | Real Estate Agreement, dated January 15, 1999, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County.(27)                                                                   
|10.44   |  | Real Estate Purchase and Sale Agreement dated December 29, 2000, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan
County.(37)                                                 
|10.45   |  | Rescission and Termination Agreement, dated July 31, 2001, between Pacific Aerospace & Electronics, Inc. and the Port of Chelan County.
(43)                                                      
|10.46   |  | Agreement of Sale, dated October 23, 2000 between Balo Precision Parts, Inc. and D&G Group II, LLC, Louis E. and Mary E. Giresi
Grandchildrens Education Trust.(37)                              
|21.1    |  | List of Subsidiaries(43)                                                                                                                                                                          
|23.1    |  | Consent of KPMG LLP.(44)                                                                                                                                                                          



---

|(1)  |  | Subject to confidential treatment. Omitted confidential information was
filed separately with the Securities and Exchange Commission.          
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(2)  |  | Incorporated by reference to the Companys Annual Report on Form 10-KSB
for the year ended May 31, 1995.                                       
|    
|    
|    
|    
|(3)  |  | Incorporated by reference to Amendment No. 1 to the Companys
Registration Statement on Form SB-2 filed on June 19, 1996.                      
|    
|    
|    
|    
|(4)  |  | Incorporated by reference to the Companys Annual Report on Form 10-KSB
for the year ended May 31, 1996.                                       
|    
|    
|    
|    
|(5)  |  | Incorporated by reference to the Companys Current Report on Form 10-QSB
for the quarterly period ended November 30, 1996.                     
|    
|    
|    
|    
|(6)  |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on December 12, 1996, reporting the reincorporation merger.        
|    
|    
|    
|    
|(7)  |  | Incorporated by reference to the Companys Registration Statement of
Certain Successor Issuers on Form 8-B filed on February 6, 1997.          
|    
|    
|    
|    
|(8)  |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on March 12, 1997, reporting the Series A Preferred Stock offering.
|    
|    
|    
|    
|(9)  |  | Incorporated by reference to the Companys Annual Report on Form 10-KSB
for the fiscal year ending May 31, 1997.                               
|    
|    
|    
|    
|(10) |  | Incorporated by reference to the Companys Registration Statement on Form
S-8 filed on June 11, 1997.                                          
|    
|    
|    
|    
|(11) |  | Incorporated by reference to the Companys Definitive Proxy Statement for
its 1997 Annual Shareholders Meeting, filed on August 28, 1997.      
|    
|    
|    
|    
|(12) |  | Incorporated by reference to the Post-Effective Amendment No. 1 to Form
SB-2, filed on November 3, 1997.                                       
|    
|    
|    
|    
|(13) |  | Incorporated by reference to the Companys Quarterly Report on Form
10-QSB for the quarterly period ending November 30, 1997.                  





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##### Table of Contents



|(14) |  | Incorporated by reference to the Companys Registration Statement on Form
S-3 filed on December 3, 1997.                                                            
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(15) |  | Incorporated by reference to the Companys Quarterly Report on Form
10-QSB for the quarterly period ending February 28, 1998.                                       
|    
|    
|    
|    
|(16) |  | Incorporated by reference to the Companys Current Report on Form 8-K/A,
filed on May 1, 1998.                                                                      
|    
|    
|    
|    
|(17) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on July 10, 1998.                                                                       
|    
|    
|    
|    
|(18) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on August 14, 1998.                                                                     
|    
|    
|    
|    
|(19) |  | Incorporated by reference to the Companys Registration Statement on Form
S-8 filed on November 7, 1997.                                                            
|    
|    
|    
|    
|(20) |  | Incorporated by reference to the Companys Annual Report on Form 10-K for
the fiscal year ending May 31, 1998.                                                      
|    
|    
|    
|    
|(21) |  | Incorporated by reference to the Companys Definitive Proxy Statement
filed on September 1, 1998.                                                                   
|    
|    
|    
|    
|(22) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q,
and Form 10-Q/A, for the quarterly period ending August 31, 1998.                         
|    
|    
|    
|    
|(23) |  | Incorporated by reference to the Companys Registration Statement on Form
S-1 filed on October 30, 1998.                                                            
|    
|    
|    
|    
|(24) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending November 30, 1998.                                         
|    
|    
|    
|    
|(25) |  | Incorporated by reference to Registration Statement on Form S-4 filed on
November 25, 1998.                                                                         
|    
|    
|    
|    
|(26) |  | Incorporated by reference to Amendment No. 1 to Registration Statement on
Form S-4 filed on January 20, 1999.                                                       
|    
|    
|    
|    
|(27) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending February 28, 1999.                                         
|    
|    
|    
|    
|(28) |  | Incorporated by reference to the Companys Annual Report on Form 10-K
filed on August 30, 1999.                                                                     
|    
|    
|    
|    
|(29) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending August 31, 1999.                                           
|    
|    
|    
|    
|(30) |  | Incorporated by reference to the Companys Definitive Proxy Statement
filed on September 1, 1999.                                                                   
|    
|    
|    
|    
|(31) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending February 29, 2000.                                         
|    
|    
|    
|    
|(32) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on May 31, 2000.                                                                        
|    
|    
|    
|    
|(33) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on August 8, 2000.                                                                      
|    
|    
|    
|    
|(34) |  | Incorporated by reference to the Companys Annual Report on Form 10-K
filed on August 28, 2000.                                                                     
|    
|    
|    
|    
|(35) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending August 31, 2000.                                           
|    
|    
|    
|    
|(36) |  | Incorporated by reference to the first amendment on Form 10-K/A to the
Companys Annual Report for the fiscal year ended May 31, 2000, as filed
on October 13, 2000.
|    
|    
|    
|    
|(37) |  | Incorporated by reference to the Companys Quarterly Report on Form 10-Q
for the quarterly period ending November 30, 2000.                                         





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##### Table of Contents



|(38) |  | Incorporated by reference to the second amendment on Form 10-K/A to the
Companys Annual Report for the fiscal year ended May 31, 2000, as filed
on January 18, 2001.
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(39) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on February 9, 2001.                                                                     
|    
|    
|    
|    
|(40) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on February 21, 2001.                                                                    
|    
|    
|    
|    
|(41) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on March 7, 2001.                                                                        
|    
|    
|    
|    
|(42) |  | Incorporated by reference to the Companys Current Report on Form 8-K
filed on June 27, 2001.                                                                        
|    
|    
|    
|    
|(43) |  | Incorporated by reference to the Companys Annual Report on Form 10-K for
the fiscal year ended May 31, 2001, as filed on August 29, 2001.                           
|    
|    
|    
|    
|(44) |  | Filed with this report.