**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

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FORM 10-Q

| x                                                                                                                                                             | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------|---------------------------------------------------------------------------------------------------------|
| **For the quarterly period ended June 30,  2005**                                                                                                        |
| o                                                                                                                                                             | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
| **For the transition period  from          to          ** |

 

**Commissionfile number 1-8533**

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**DRSTechnologies, Inc.**

(Exact name of registrantas specified in its charter)

| **Delaware**                                                    | **13-2632319**                     |
|-----------------------------------------------------------------|------------------------------------|
| (State or other  jurisdiction of incorporation or organization) | (IRS Employer  Identification No.) |

 

**5Sylvan Way, Parsippany, New Jersey 07054**(Address of principalexecutive offices)

**(973) 898-1500**(Registrant’s telephone number, including areacode)

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Indicate by check mark whetherthe registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities and Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days. Yes x No o

Indicate by check mark whether the Registrant is anaccelerated filer (as defined in Exchange Act Rule 12b-2). Yes x No o

As of August 4, 2005,27,893,503 shares of DRS Technologies, Inc. $0.01 par value common stockwere outstanding.

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES**

**Indexto Quarterly Report on Form 10-QFor the Quarter Ended June 30, 2005**
|                                             | ** ** | ** **                                                                                        | ** ** | **Page** |   |
|---------------------------------------------|------------|---------------------------------------------------------------------------------------------------|------------|----------|--------|
| **PART I—FINANCIAL  INFORMATION** |       |                                                                                              |       |     |
| Item 1.                                     |       | Financial  Statements (unaudited)                                                                 |       |     |   |   |
|                                        |       | Consolidated  Balance Sheets—June 30, 2005 and March 31, 2005                      |       |     | 1      |   |
|                                        |       | Consolidated Statement of Earnings—Three Months Ended  June 30, 2005   and 2004         |       |     | 2      |   |
|                                        |       | Consolidated Statement of Cash Flows—Three Months  Ended June 30, 2005   and 2004       |       |     | 3      |   |
|                                        |       | Notes  to Consolidated Financial Statements                                                       |       |     | 4      |   |
| Item 2.                                     |       | Management’s  Discussion and Analysis of Financial Condition and Results of Operations  |       |     | 26     |   |
| Item 3.                                     |       | Quantitative  and Qualitative Disclosure about Market Risk                                        |       |     | 37     |   |
| Item 4.                                     |       | Controls and  Procedures                                                                          |       |     | 37     |   |
| **PART II—OTHER  INFORMATION**    |       |                                                                                              |       |     |
| Item 1.                                     |       | Legal Proceedings                                                                                 |       |     | 38     |   |
| Item 6.                                     |       | Exhibits                                                                                          |       |     | 39     |   |
| Signatures                                  |       |                                                                                              | 40         |     |
|                                             |            |                                                                                                   |            |          |        |  |  |  |  |  |

 

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**PART I—FINANCIAL INFORMATION**

**Item 1. Financial Statements**

**DRS TECHNOLOGIES, INC. AND SUBSIDIARIESConsolidated Balance Sheets(in thousands, except share data)(Unaudited)**
| ** **                                                                                                                                                                        | ** ** | **June 30, 2005** | ** **                                       | **March 31, 2005** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|--------------------------------------------------|------------------------------|------------|
| **Assets**                                                                                                                                                                        |       |                        |                                             |                         |       |   |   |   |   |
| Current assets                                                                                                                                                                    |       |                        |                                             |                         |       |   |   |   |   |
| Cash and cash equivalents                                                                                                                                                         |       |                        | $  223,652                             |                         |       |   | $  306,852 |   |   |
| Accounts receivable, net of allowances for doubtful  accounts of $2,933 and $2,659 as of June 30, 2005 and March 31,  2005, respectively                                |       |                        | 244,685                                          |                         |       |   | 237,912 |   |   |
| Inventories, net                                                                                                                                                                  |       |                        | 221,447                                          |                         |       |   | 208,141 |   |   |
| Prepaid expenses, deferred income taxes and other  current assets                                                                                                                 |       |                        | 48,798                                           |                         |       |   | 42,134 |   |   |
| Total current assets                                                                                                                                                              |       |                        | 738,582                                          |                         |       |   | 795,039 |   |   |
| Property, plant  and equipment, less accumulated depreciation of $109,189 and $101,335 at  June 30, 2005 and March 31, 2005, respectively                               |       |                        | 142,137                                          |                         |       |   | 143,264 |   |   |
| Acquired  intangible assets, net                                                                                                                                                  |       |                        | 105,478                                          |                         |       |   | 100,030 |   |   |
| Goodwill                                                                                                                                                                          |       |                        | 851,536                                          |                         |       |   | 815,407 |   |   |
| Other noncurrent  assets                                                                                                                                                          |       |                        | 32,281                                           |                         |       |   | 32,901 |   |   |
| **Total assets**                                                                                                                                                                  |       |                        | $ 1,870,014                                 |                         |       |   | $ 1,886,641 |   |   |
| **Liabilities and Stockholders’ Equity**                                                                                                                                     |       |                        |                                             |                         |       |   |   |   |   |
| Current  liabilities                                                                                                                                                              |       |                        |                                             |                         |       |   |   |   |   |
| Current installments of long-term debt                                                                                                                                            |       |                        | $       2,606 |                         |       |   | $       2,652 |   |   |
| Accounts payable                                                                                                                                                                  |       |                        | 123,542                                          |                         |       |   | 111,222 |   |   |
| Accrued expenses and other current liabilities                                                                                                                                    |       |                        | 259,684                                          |                         |       |   | 301,361 |   |   |
| Total current liabilities                                                                                                                                                         |       |                        | 385,832                                          |                         |       |   | 415,235 |   |   |
| Long-term debt,  excluding current installments                                                                                                                                   |       |                        | 716,698                                          |                         |       |   | 727,611 |   |   |
| Other liabilities                                                                                                                                                                 |       |                        | 76,620                                           |                         |       |   | 72,367 |   |   |
| **Total liabilities**                                                                                                                                                             |       |                        | 1,179,150                                        |                         |       |   | 1,215,213 |   |   |
| Commitments and  contingencies (Notes 2, 7 and 14)                                                                                                                                |       |                        |                                             |                         |       |   |   |   |   |
| Stockholders’ equity                                                                                                                                                         |       |                        |                                             |                         |       |   |   |   |   |
| Preferred stock, no par value. Authorized 2,000,000  shares; none issued at June 30, 2005 and March 31, 2005                                                            |       |                        | —                                           |                         |       |   | — |   |   |
| Common Stock, $.01 par value per share. Authorized  50,000,000 shares; issued 27,729,694 and 27,472,495 shares at June 30, 2005  and March 31, 2005, respectively  |       |                        | 277                                              |                         |       |   | 275 |   |   |
| Additional paid-in capital                                                                                                                                                        |       |                        | 474,310                                          |                         |       |   | 467,027 |   |   |
| Retained earnings                                                                                                                                                                 |       |                        | 213,113                                          |                         |       |   | 199,924 |   |   |
| Accumulated other comprehensive earnings                                                                                                                                          |       |                        | 4,840                                            |                         |       |   | 6,198 |   |   |
| Unamortized stock compensation                                                                                                                                                    |       |                        | (1,676                                           | )                            |       |   | (1,996 | ) |   |
| **Total stockholders’ equity**                                                                                                                                               |       |                        | 690,864                                          |                         |       |   | 671,428 |   |   |
| **Total  liabilities and stockholders’ equity**                                                                                                                              |       |                        | $ 1,870,014                                 |                         |       |   | $ 1,886,641 |   |   |

 

See accompanying Notes to the Consolidated Financial Statements.

1

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIESConsolidated Statementsof Earnings(in thousands, except per-share data)(Unaudited)**
| ** **                                                                     | ** ** | **Three Months Ended** | ** ** |
|--------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                     | ** ** | **June 30,**                | ** ** |
| ** **                                                                     | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| Revenues                                                                       |       | $                                | 338,459    |   | $ | 291,151 |   |
| Costs and  expenses                                                            |       | 303,401                          |       | 262,651 |   |
| Operating income                                                               |       | 35,058                           |       | 28,500 |   |
| Interest income                                                                |       | 1,877                            |       | 129 |   |
| Interest and  related expenses                                                 |       | 12,211                           |       | 8,994 |   |
| Other income  (expense), net                                                   |       | 25                               |       | (60 | ) |
| Earnings from continuing operations before minority  interest and income taxes |       | 24,749                           |       | 19,575 |   |
| Minority interest                                                              |       | 580                              |       | 397 |   |
| Earnings from continuing operations before income  taxes                       |       | 24,169                           |       | 19,178 |   |
| Income taxes                                                                   |       | 10,151                           |       | 8,207 |   |
| Earnings from continuing operations                                            |       | 14,018                           |       | 10,971 |   |
| Earnings from  discontinued operations, net of income taxes                    |       | —                           |       | 800 |   |
| Net earnings                                                                   |       | $                                | 14,018     |   | $ | 11,771 |   |
| **Net  earnings per share of common stock:**                                   |       |                             |       |   |   |
| Basic earnings  per share:                                                     |       |                             |       |   |   |
| Earnings from continuing operations                                            |       | $                                | 0.51       |   | $ | 0.41 |   |
| Earnings from discontinued operations, net of income  taxes                    |       | $                                | —     |   | $ | 0.03 |   |
| Net earnings                                                                   |       | $                                | 0.51       |   | $ | 0.44 |   |
| Diluted earnings  per share:                                                   |       |                             |       |   |   |
| Earnings from continuing operations                                            |       | $                                | 0.49       |   | $ | 0.40 |   |
| Earnings from discontinued operations, net of income  taxes                    |       | $                                | —     |   | $ | 0.03 |   |
| Net earnings                                                                   |       | $                                | 0.49       |   | $ | 0.43 |   |
| **Dividends  per common share**                                                |       | $                                | 0.03       |   | $ | — |   |

 

See accompanying Notes to the Consolidated Financial Statements.

2

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIESConsolidated Statementsof Cash Flows(in thousands)(Unaudited)**
| ** **                                                                        | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                        | ** ** | **June 30,**                | ** ** |
| ** **                                                                        | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| **Cash Flows from Operating Activities**                                          |       |                             |       |   |   |
| Earnings from continuing  operations                                              |       | $                                | 14,018     |   | $ | 10,971 |   |
| Adjustments to reconcile earnings from continuing  operations                     |       |                             |       |   |   |
| to cash flows from  operating activities of continuing operations:                |       |                             |       |   |   |
| Depreciation and  amortization                                                    |       | 10,417                           |       | 9,920 |   |
| Stock-based compensation                                                          |       | 245                              |       | 330 |   |
| Deferred income taxes                                                             |       | (522                             | )          | (915 | ) |
| Inventory reserve and  provision for doubtful accounts                            |       | 946                              |       | 551 |   |
| Amortization and  write-offs of deferred financing fees                           |       | 952                              |       | 915 |   |
| Other, net                                                                        |       | 77                               |       | 354 |   |
| Changes in assets and liabilities, net of effects  from business combinations:    |       |                             |       |   |   |
| (Increase) decrease in  accounts receivable                                       |       | (2,453                           | )          | 29,014 |   |
| (Increase) decrease in  inventories                                               |       | (7,991                           | )          | 6,956 |   |
| Increase in prepaid  expenses and other current assets                            |       | (4,102                           | )          | (463 | ) |
| Increase (decrease) in  accounts payable                                          |       | 10,450                           |       | (5,645 | ) |
| Decrease in accrued  expenses and other current liabilities                       |       | (30,320                          | )          | (22,237 | ) |
| Decrease in customer  advances                                                    |       | (7,207                           | )          | (8,485 | ) |
| Other, net                                                                        |       | 944                              |       | (600 | ) |
| **Net  cash (used in) provided by operating activities of continuing operations** |       | (14,546                          | )          | 20,666 |   |
| **Net  cash provided by operating activities of discontinued operations**         |       | —                           |       | 4,210 |   |
| **Net  cash (used in) provided by operating activities**                          |       | (14,546                          | )          | 24,876 |   |
| **Cash Flows from Investing Activities**                                          |       |                             |       |   |   |
| Capital expenditures                                                              |       | (6,336                           | )          | (7,411 | ) |
| Payments pursuant to  business combinations, net of cash acquired                 |       | (52,350                          | )          | — |   |
| Other, net                                                                        |       | (206                             | )          | 679 |   |
| **Net  cash used in investing activities of continuing operations**               |       | (58,892                          | )          | (6,732 | ) |
| **Net  cash used in investing activities of discontinued operations**             |       | —                           |       | (207 | ) |
| **Net  cash used in investing activities**                                        |       | (58,892                          | )          | (6,939 | ) |
| **Cash Flows from Financing Activities**                                          |       |                             |       |   |   |
| Net borrowings of  short-term debt                                                |       | —                           |       | 389 |   |
| Return of advanced  interest on senior subordinated notes                         |       | (1,986                           | )          | — |   |
| Debt issuance costs                                                               |       | (120                             | )          | — |   |
| Repayment of long-term  debt                                                      |       | (10,674                          | )          | (10,762 | ) |
| Proceeds from stock  option exercises                                             |       | 4,175                            |       | 241 |   |
| Dividends paid                                                                    |       | (829                             | )          | — |   |
| **Net  cash used in financing activities of continuing operations**               |       | (9,434                           | )          | (10,132 | ) |
| **Net  cash used in financing activities of discontinued operations**             |       | —                           |       | (8 | ) |
| **Net  cash used in financing activities**                                        |       | (9,434                           | )          | (10,140 | ) |
| **Effect of exchange rates on  cash and cash equivalents**                        |       | (328                             | )          | (366 | ) |
| **Net (decrease) increase in cash  and cash equivalents**                         |       | (83,200                          | )          | 7,431 |   |
| **Cash  and cash equivalents, beginning of period**                               |       | 306,852                          |       | 56,790 |   |
| **Cash  and cash equivalents, end of period**                                     |       | $                                | 223,652    |   | $ | 64,221 |   |

 

See accompanying Notes to the Consolidated Financial Statements

3

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Unaudited)**

**1. Basis of Presentation**

The accompanying unaudited Consolidated FinancialStatements of DRS Technologies, Inc., its wholly-owned subsidiaries and apartnership of which DRS owns an 80% controlling interest (hereinafter, DRS orthe Company) have been prepared in accordance with accounting principlesgenerally accepted in the United States of America and with the instructions toForm 10-Q and Article 10 of Regulation S-X. In the opinion of theCompany, the interim consolidated financial information provided hereinreflects all adjustments (consisting of normal and recurring adjustments)necessary for a fair presentation of the Company’s consolidated financialposition as of June 30, 2005, the results of its operations for thethree-month periods ended June 30, 2005 and 2004, and its cash flows forthe three-month periods ended June 30, 2005 and 2004. The results ofoperations for the three-month period ended June 30, 2005 are notnecessarily indicative of the results to be expected for the full year. Certainfiscal 2005 amounts have been reclassified to conform to the fiscal 2006presentation. These interim Consolidated Financial Statements should be read inconjunction with the Consolidated Financial Statements of the Company for thefiscal year ended March 31, 2005, included in the Company’s filing on Form 10-K,for the year ended March 31, 2005.

On March 10, 2005 theCompany completed the sale of two of its operating units—DRS Weather Systems, Inc.(DRS Weather) and DRS Broadcast Technology (DRS Broadcast). The operating unitswere acquired in connection with the Company’s fiscal 2004 acquisition ofIntegrated Defense Technologies, Inc. (IDT). As a result of the divestiture,DRS Weather’s and DRS Broadcast’s results of operations for the three months endedJune 30, 2004 are included in the Consolidated Statements of Earnings as “Earningsfrom discontinued operations.” The cash flows of the discontinued operationsalso are presented separately in the Consolidated Statements of Cash Flows forthe three months ended June 30, 2004. All corresponding footnotes reflectthe discontinued operations presentation.

**2. Acquisitions and Divestitures**

***Acquisitions***

On April 15, 2005, DRS acquired Codem Systems, Inc.(Codem) in a stock purchase transaction for approximately $31.6 million in cash(subject to a working capital adjustment), with additional considerationpayable of up to $5.0 million upon achievement of certain annual bookingstargets for a period of three years.  Inaddition to the purchase price the Company recorded approximately $0.4 millionfor acquisition-related costs. The results of Codem’s operations have beenincluded in the Company’s financial statements since the date of acquisition.

Codem is located in Merrimack, New Hampshire, and is aprovider of signals intelligence (SIGINT) systems, network interface modules,and high-performance antenna control systems. As a supplier of SIGINT products,Codem focuses on solutions for communications and surveillance applicationssupporting the intelligence, military and homeland security markets. Managementbelieves that the addition of Codem will further enhance DRS’s existingintelligence product base. Codem is being managed as a part of the Company’sCommand, Control, Communications, Computers and Intelligence (C4I) Group.

The Company is in the process of reviewing thethird-party valuation of certain acquired assets (including acquired intangibleassets), as well as performing its own internal assessment of certain other 

4

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

acquired assets andliabilities; thus the preliminary allocation of the purchase price may change. Basedon preliminary purchase price allocations, the Company has estimated goodwillto be $24.8 million, which has been allocated to the C4I Group, and acquiredintangible assets to be $7.5 million. Acquired intangible assets of $1.9million and $5.6 million were allocated to technology-based andcustomer-related intangibles, respectively, which are both being amortized overperiods of 10 years. The Company expects to complete its purchase priceallocation in the third quarter of fiscal 2006.

On June 27, 2005, DRS acquired WalkAbout ComputerSystems (WalkAbout) in a stock purchase transaction for approximately $13.8million in cash (subject to a working capital adjustment), with additionalconsideration payable of up to $5.0 million upon achievement of certain revenuetargets for a period of two and a half years.  In addition to the purchase price the Companyrecorded approximately $0.3 million for acquisition-related costs. The results ofWalkAbout have been included in the Company’s financial statements since thedate of acquisition.

WalkAbout is located in West Palm Beach, Florida andis a manufacturer of several lines of rugged, mobile tablet PCs, serving industrial,municipal, military and government markets. Management believes that theacquisition of WalkAbout will enhance DRS’s position in the tactical computersystems business by broadening its product offerings. WalkAbout is beingmanaged as part of the Company’s C4I Group.

The Company is in the process of obtaining athird-party valuation of certain assets (including acquired intangible assets),as well as performing its own internal assessment of certain other acquiredassets and liabilities; thus the preliminary allocation of the purchase pricewill change, and such change could be significant. Based on preliminarypurchase price allocations, the Company has estimated goodwill to be $12.0 millionand has allocated the goodwill to the C4I Group. No amounts have been allocatedto acquired intangible assets pending receipt of the third-party valuation. TheCompany expects to complete its purchase price allocation in the third quarterof fiscal 2006.

During the three monthsended June 30, 2005, the Company paid $6.7 million in consideration tosatisfy an earn-out obligation on its acquisition of DKD, Inc. (nowoperating as a component of Infrared Technologies L.P.). The earn-out wasrecorded as an increase to goodwill during the fourth quarter of fiscal 2005.

***Divestitures***

On March 10,2005, the Company completed the sale of DRS Weather and DRS Broadcast. Asummary of the results of discontinued operations for the three months ended June 30,2004 follows:
| ** **                             | ** ** | **(in thousands)** | ** ** |
|----------------------------------------|------------|-------------------------|------------|
| Revenues                               |       |                    | $          | 9,578 |   |   |
| Earnings before  taxes                 |       |                    | $          | 1,293 |   |   |
| Income tax  expense                    |       |                    | 493        |   |   |
| Earnings from  discontinued operations |       |                    | $          | 800 |   |   |

 

**3. Stock-Based Compensation**

The Company has one stock-based compensation plan, the1996 Omnibus Plan (Omnibus Plan). Under the terms of the Omnibus Plan, stockoptions and restricted stock may be granted to key employees, 

5

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

directors and consultantsof the Company. The Company accounts for stock options granted to employees anddirectors under the recognition and measurement principles of AccountingPrinciples Board Opinion No. 25, ‘‘Accounting for Stock Issued toEmployees’’ and related interpretations. Compensation expense for stock optionsgranted to an employee or director is recognized in earnings based on theexcess, if any, of the quoted market price of DRS common stock at the date ofthe grant, or other measurement date, over the amount an employee or directormust pay to acquire the common stock. When the exercise price of the optiongranted to an employee or director equals or exceeds the quoted market price ofDRS common stock at the date of grant, the Company does not recognizecompensation expense. Compensation cost for restricted stock is recorded basedon the quoted market price of DRS common stock on the date of grant.

The Company elected not to adopt the fair-value-basedmethod of accounting for stock-based employee compensation, as permitted byStatement of Financial Accounting Standards (SFAS) No. 123, ‘‘Accountingfor Stock-Based Compensation,’’ as amended by SFAS No. 148, ‘‘Accountingfor Stock-Based Compensation—Transition and Disclosure—an amendment of SFAS No. 123.’’Had the Company adopted the fair-value-based method provisions of SFAS No. 123,it would have recorded a non-cash expense for the estimated fair value of thestock options that the Company had granted to its employees and directors.

Thetable below compares the ‘‘as reported’’ net earnings and earnings per share tothe ‘‘pro forma’’ net earnings and earnings per share that the Company wouldhave reported if it had elected to recognize compensation expense in accordancewith the fair value-based method of accounting of SFAS No. 123. Forpurposes of determining the pro forma effects of SFAS No. 123, theestimated fair value of options granted was calculated using the Black-Scholesoption pricing valuation model.
| ** **                                                                                                           | ** ** | **Three Months Ended  June 30,**           | ** ** |
|----------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                                                                                           | ** ** | **2005**                                                  | ** ** | **2004** | ** ** |
| ** **                                                                                                           | ** ** | **(in thousands,  except per-share data)** | ** ** |
| Net earnings, as  reported                                                                                           |       | $                                                         | 14,018     |   | $ | 11,771 |   |
| Add: Stock-based  compensation expense included in reported net earnings, net of taxes                               |       | 148                                                       |       | 196 |   |
| Less: Total  stock-based compensation expense determined under fair-value-based method for  all awards, net of taxes |       | (1,427                                                    | )          | (1,272 | ) |
| Pro forma net  earnings                                                                                              |       | $                                                         | 12,739     |   | $ | 10,695 |   |
| Earnings per share:                                                                                                  |       |                                                      |       |   |   |
| Basic—as reported                                                                                               |       | $                                                         | 0.51       |   | $ | 0.44 |   |
| Basic—pro forma                                                                                                 |       | $                                                         | 0.46       |   | $ | 0.40 |   |
| Diluted—as reported                                                                                             |       | $                                                         | 0.49       |   | $ | 0.43 |   |
| Diluted—pro forma                                                                                               |       | $                                                         | 0.45       |   | $ | 0.39 |   |

 

In December 2004, the FASB issued SFAS No. 123(revised 2004), “Share-Based Payment” (SFAS No. 123R), which replaces SFASNo. 123 and supercedes APB Opinion No. 25. SFAS No. 123Raddresses the accounting for transactions in which an enterprise receivesemployee services in exchange for (a) equity 

6

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

instruments of theenterprise or (b) liabilities that are based on the fair value of theenterprise’s equity instruments or that may be settled by the issuance of suchequity instruments. SFAS No. 123R requires all share-based payments toemployees, including grants of employee stock options and restrictive stockgrants and units, to be recognized as a compensation cost based on their fairvalues. The pro forma disclosures previously permitted under SFAS No. 123no longer will be an alternative to financial statement recognition. Under SFASNo. 123R, the Company must determine the appropriate fair value model tobe used for valuing share-based payments, the amortization method forcompensation cost and the transition method to be used at date of adoption. Thetransition methods include prospective and retroactive adoption options. Underthe retroactive option, prior periods may be restated either as of thebeginning of the year of adoption or for all periods presented. The prospectivemethod requires that compensation expense be recorded for all unvested stockoptions and restricted stock at the beginning of the first quarter of adoptionof SFAS No. 123R, while the retroactive methods would record compensationexpense for all unvested stock options and restricted stock beginning with thefirst period restated. The Company is evaluating the requirements of SFAS No. 123Rand expects that the adoption of SFAS No. 123R will have a material impacton the Company’s consolidated results of operations and earnings per share. TheCompany has not yet determined the method of adoption or the effect of adoptingSFAS No. 123R, and it has not determined whether the adoption will resultin amounts that are similar to the current pro forma disclosures under SFAS No. 123included above.

On April 15, 2005,the SEC issued Release No. 33-8568, Amendment to Rule 4-01aof regulation S-X regarding the compliance date for SFAS No. 123R,(Revised 2004). The SEC Release amends the effective date for compliance withSFAS 123R to the beginning of the first fiscal year following June 15,2005, which is the fiscal year beginning on April 1, 2006 for DRS. On March 29,2005, the SEC issued Staff Accounting Bulletin (SAB) No. 107, “Share-BasedPayment” (SAB 107). SAB 107 provides guidance to assist registrants in theinitial implementation of SFAS 123R. SAB 107 includes, but is not limitedto, interpretive guidance related to share-based payment transactions withnonemployees, valuation methods and underlying expected volatility and expectedterm assumptions, the classification of compensation expenses and accountingfor the income tax effects of share-based arrangements upon adopting theSFAS 123R. The Company currently is assessing the guidance provided in SAB107 in connection with its implementation of SFAS 123R.

7

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**4. Inventories**

Inventoriesare summarized as follows:
| ** **                                             | ** ** | **June 30,**       | ** ** | **March 31,** | ** ** |
|--------------------------------------------------------|------------|-------------------------|------------|--------------------|------------|
| ** **                                             | ** ** | **2005**                | ** ** | **2005**           | ** ** |
| ** **                                             | ** ** | **(in thousands)** | ** ** |
| Work-in-process                                        |       | $                       | 252,589    |               | $          | 211,914 |   |
| General and  administrative costs                      |       | 47,509                  |       | 47,365             |       |
| Raw material and  finished goods                       |       | 37,664                  |       | 33,127             |       |
|                                                   |       | 337,762                 |       | 292,406            |       |
| Less: Progress  payments and certain customer advances |       | 108,634                 |       | 75,541             |       |
| Inventory reserve                                      |       | 7,681                   |       | 8,724              |       |
| Total                                                  |       | $                       | 221,447    |               | $          | 208,141 |   |

 

Inventoried contract costs for the Company’sbusinesses that are primarily government contractors include certain generaland administrative (G&A) costs, including internal research and developmentcosts (IRAD) and bid and proposal costs (B&P). G&A, IRAD and B&Pcosts are allowable, indirect contract costs under U.S. Government regulations.The Company allocates these costs to government contracts and accounts for themas product costs at the majority of the Company’s operating units, not asperiod expenses.

The table below presents a summary of G&A, IRADand B&P costs included in inventoried contract costs and changes to them,including amounts used in the determination of costs and expenses.

Thecost data in the table below does not include the G&A, IRAD and B&Pcosts for the Company’s lines of businesses that are not primarily contractedwith the U.S. government, which are expensed as incurred.
| ** **                               | ** ** | **Three Months  Ended June 30,** | ** ** |
|------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                               | ** ** | **2005**                                        | ** ** | **2004** | ** ** |
| ** **                               | ** ** | **(in thousands)**                         | ** ** |
| Balance in  inventory at March 31,  |       | $                                               | 47,365     |   | $ | 37,854 |   |
| Add: Incurred costs                      |       | 53,178                                          |       | 53,809 |   |
| Less: Amounts included in costs of sales |       | (53,034                                         | )          | (51,582 | ) |
| Balance in inventory at  June 30,   |       | $                                               | 47,509     |   | $ | 40,081 |   |

 

Total expenditures forIRAD amounted to approximately $9.2 million and $8.3 million for thethree-month periods ended June 30, 2005 and 2004, respectively.

8

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**5. Goodwill and Intangible Assets**

Thefollowing disclosure presents certain information regarding the Company’sacquired intangible assets as of June 30, 2005 and March 31, 2005.All acquired intangible assets are being amortized over their estimated usefullives, as indicated below, with no estimated residual values.
| **Acquired Intangible Assets** | ** ** | ** **              | ** ** | **Weighted  Average  Amortization  Period** | ** ** | **Gross  Carrying  Amount** | ** ** | **Accumulated**

**Amortization** | ** ** | **Net Balance** | ** ** |
|------------------------------------------|------------|-------------------------|------------|---------------------------------------------|------------|-----------------------------|------------|-----------------------------------|------------|----------------------|------------|
| ** **                               | ** ** | **(in thousands)** | ** ** |
| **As of June 30, 2005**             |       |                    |       |                                        |       |                        |       |                              |       |                 |       |   |   |   |   |
| Technology-based intangibles             |       |                    | 19 years   |                                        |       | $                           | 47,861     |                              |       | $                    | (11,881    | ) |   |   | $ | 35,980 |   |   |
| Customer-related intangibles             |       |                    | 17 years   |                                        |       | 81,190                      |       |                              | (11,692    | )                    |       |   | 69,498 |   |   |
| Total                                    |       |                    |       |                                        |       | $                           | 129,051    |                              |       | $                    | (23,573    | ) |   |   | 105,478 |   |   |
| **As of March 31, 2005**            |       |                    |       |                                        |       |                        |       |                              |       |                 |       |   |   |   |   |
| Technology-based intangibles             |       |                    | 19 years   |                                        |       | $                           | 45,961     |                              |       | $                    | (11,172    | ) |   |   | $ | 34,789 |   |   |
| Customer-related intangibles             |       |                    | 17 years   |                                        |       | 75,590                      |       |                              | (10,349    | )                    |       |   | 65,241 |   |   |
| Total                                    |       |                    |       |                                        |       | $                           | 121,551    |                              |       | $                    | (21,521    | ) |   |   | 100,030 |   |   |

 

The aggregate acquired intangible asset amortizationexpense for the three-month periods ended June 30, 2005 and 2004 was $2.1million and $1.7 million, respectively. The estimated acquired intangibleamortization expense, based on gross carrying amounts at June 30,****2005, is estimated to be $8.5 million peryear for fiscal 2006 through fiscal 2009 and $8.3 million for fiscal 2010.

Thetable below reconciles the change in the carrying amount of goodwill byoperating segment for the period from March 31, 2005 to June 30,2005.
| ** **                               | ** ** | **C4I  Group**          | ** ** | **SR  Group** | ** ** | **Total** | ** ** |
|------------------------------------------|------------|-------------------------|------------|---------------|------------|-----------|------------|
| ** **                               | ** ** | **(in thousands)** | ** ** |
| Balance as of  March 31, 2005       |       | $                       | 447,631    |          | $          | 367,776   |       | $ | 815,407 |   |
| Codem acquisition                        |       | 24,820                  |       | —        |       | 24,820    |       |
| WalkAbout  acquisition                   |       | 11,972                  |       | —        |       | 11,972    |       |
| Foreign currency  translation adjustment |       | (663                    | )          | —        |       | (663      | )          |
| Balance as of  June 30, 2005        |       | $                       | 483,760    |          | $          | 367,776   |       | $ | 851,536 |   |

 

9

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**6. Product Warranties**

Productwarranty costs are accrued when the covered products are delivered to thecustomer. Product warranty expense is recognized based on the terms of theproduct warranty and the related estimated costs, considering historical claimsexpense. Accrued warranty costs are reduced as these costs are incurred and asthe warranty period expires and may be otherwise modified as specific productperformance issues are identified and resolved. The table below presents thechanges in the Company’s accrual for product warranties for the three monthsended June 30, 2005 and 2004, which are included in accrued expenses andother current liabilities.
| ** **                                                | ** ** | **Three  Months Ended June 30,** | ** ** |
|-----------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                | ** ** | **2005**                              | ** ** | **2004** | ** ** |
| ** **                                                | ** ** | **(in thousands)**               | ** ** |
| Balance at March  31,                                     |       | $                                     | 21,839     |   | $ | 23,279 |   |
| Acquisitions  during the period                           |       | 2,661                                 |       | — |   |
| Accruals for  product warranties issued during the period |       | 1,665                                 |       | 2,459 |   |
| Settlements made  during the period                       |       | (2,942                                | )          | (2,901 | ) |
| Other                                                     |       | (27                                   | )          | 1,614 |   |
| Balance at June 30,                                       |       | $                                     | 23,196     |   | $ | 24,451 |   |

 

**7. Debt**
| ** **                                                                                                                           | ** ** | **June 30,  2005** | ** ** | **March 31,  2005** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|--------------------------|------------|
| ** **                                                                                                                           | ** ** | **(in thousands)** | ** ** |
| Senior  subordinated notes, including bond premium of $9,434 and $9,716 at  June 30, 2005 and March 31, 2005, respectively |       |                    | $          | 559,434                  |       |   |   | $ | 559,716 |   |   |
| Term loan                                                                                                                            |       |                    | 156,870    |                     |       |   | 167,460 |   |   |
| Other obligations                                                                                                                    |       |                    | 3,000      |                     |       |   | 3,087 |   |   |
|                                                                                                                                 |       |                    | 719,304    |                     |       |   | 730,263 |   |   |
| Less:                                                                                                                                |       |                    |       |                     |       |   |   |   |   |
| Current installments of long-term debt                                                                                               |       |                    | 2,606      |                     |       |   | 2,652 |   |   |
| Total long-term debt                                                                                                                 |       |                    | $          | 716,698                  |       |   |   | $ | 727,611 |   |   |

 

On October 30, 2003, the Company issued $350.0million aggregate principal amount of 67¤8% SeniorSubordinated Notes, due November 1, 2013 (the Notes).  The Notes were issued under an indenture withThe Bank of New York (the Indenture). Subject to a number of exceptions, theIndenture restricts the Company’s ability and the ability of its subsidiariesto incur more debt, make certain investments, repurchase stock, create liens,enter into transactions with affiliates, enter into sale lease-backtransactions, merge or consolidate, and transfer or sell assets. The Notes areunconditionally guaranteed, jointly and severally, by DRS’s current and future wholly-owneddomestic subsidiaries. The foreign subsidiaries and certain domesticsubsidiaries of DRS do not guarantee the Notes. See Note 15, ‘‘Guarantor andNon-guarantor Financial Statements’’ for additional disclosures.

10

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

On December 23, 2004, the Company issued anadditional $200.0 million aggregate principal amount of 67¤8%Senior Subordinated Notes due November, 2013. The notes were offered asadditional debt securities under the Indenture with identical terms and sameguarantors as the existing Notes. The new notes were priced at 105% of theprincipal amount, reflecting an effective interest rate of approximately 6.13%.The net proceeds of the offering were approximately $208.3 million (including$2.0 million of advanced interest on the new notes that had accrued from November 1,2004 to December 23, 2004), after deducting $3.7 million in commissionsand other costs related to the debt issuance. On May 1, 2005, the advancedinterest of $2.0 million was repaid in conjunction with the semi-annualinterest payments on the Notes.

The book value and fair value of the seniorsubordinated debt at June 30, 2005 was approximately $559.4 million and$569.3 million, respectively.

The Company has a $411.0 million credit facility (theCredit Facility), consisting of a $175.0 million senior secured revolving lineof credit and a $236.0 million senior secured term loan, and have the abilityto borrow up to two additional term loans totaling $100.0 million at any timeprior to maturity. As of June 30, 2005 and March 31, 2005, theCompany had $156.9 million and $167.5 million, respectively, of term loansoutstanding against the Credit Facility. The Credit Facility is guaranteed bysubstantially all of DRS’s domestic subsidiaries. In addition, it iscollateralized by liens on substantially all of the assets of the Company’ssubsidiary guarantors’ and certain of DRS’s other subsidiaries’ assets and by apledge of certain of the Company’s non-guarantor subsidiaries’ capital stock.The term loan and the revolving credit facility will mature in November 2010and November 2008, respectively. The weighted average interest rate on theCompany’s term loans was 5.1% as of June 30, 2005 (4.4% as of March 31,2005), excluding the impact of  theamortization of debt issuance costs. As of June 30, 2005, the Company had$142.3 million available under its revolving line of credit. There were noborrowings under the Company’s revolving line of credit as of June 30,2005 and March 31, 2005.

During the three months ended June 30, 2005, theCompany repaid $10.0 million of its term loan, at its discretion, and recordeda $0.2 million charge to interest and related expenses for the relatedwrite-off of a portion of the debt issuance costs. On July 29, 2005 theCompany prepaid an additional $10.0 million of its term loan at its discretionand recorded a $0.2 million charge to interest and related expenses.

From time to time, the Company enters into standbyletter-of-credit and bank guarantee agreements with financial institutions andcustomers, primarily relating to the guarantee of its future performance oncertain contracts to provide products and services and to secure advancepayments it has received from its customers. As of June 30, 2005, $37.4million was contingently payable under letters of credit and bank guarantees.Approximately $3.8 million and $0.9 million in letters of credit and bankguarantees as of June 30, 2005 were issued outside of the Credit Facilityand by a bank agreement for the Company’s U.K. subsidiary, respectively, andare not considered when determining the availability under the Company’srevolving line of credit.

The Company has a mortgage note payable that issecured by a lien on its facility located in Palm Bay, Florida, and bearsinterest at a rate equal to the one-month LIBOR plus 1.65%. In the thirdquarter of fiscal 2005, the Company terminated an interest rate swap relating tothe mortgage that qualified for hedge accounting. The balance of the mortgageas of June 30, 2005 and March 31, 2005 was $2.9 million and $3.0million, respectively. Monthly payments of principal and interest totalingapproximately $34 thousand will continue through December 1, 2016.

11

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

During fiscal 2005, theCompany had two interest rate swap agreements, each in the amount of $25.0million, with Wachovia Bank, N.A. and Bank of America Corporation (the Banks),both of which had expiration dates of September 30, 2008. These swapagreements were accounted for as cash flow hedges, and as such, changes in thefair values of the swap agreements were recorded as adjustments to accumulatedother comprehensive earnings. On January 18, 2005, the Company terminatedthe two swap agreements. As a result of the termination, the Company received$1.8 million in cash and the related unrealized gain in other comprehensiveincome, net of taxes, is being credited to interest expense over the remaininglife of the Company’s term loan.

**8. Earnings per Share**

Basicearnings per share (EPS) is computed by dividing net earnings by the weightedaverage number of shares of common stock outstanding during each period. Thecomputation of diluted earnings per share includes the effect of shares from theassumed exercise of dilutive stock options, restricted stock and restrictedstock units. The following table presents the components of basic and dilutedearnings per share:
| ** **                                                  | ** ** | ** **                                      | ** ** |
|-------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                  |       | **Three Months Ended  June 30,** |       |
| ** **                                                  |       | **2005**                                        | ** ** | **2004** |   |
| ** **                                                  |       | **(in thousands, except per-share data)**       |       |
| **Basic EPS computation**                                   |       |                                            |       |   |   |
| Earnings from continuing operations                         |       | $                                               | 14,018     |   | $ | 10,971 |   |
| Earnings from discontinued operations, net of income  taxes |       | —                                          |       | 800 |   |
| Net earnings                                                |       | $                                               | 14,018     |   | $ | 11,771 |   |
| Weighted average common shares outstanding                  |       | 27,479                                          |       | 26,936 |   |
| Basic earnings  per share                                   |       |                                            |       |   |   |
| Earnings from continuing operations                         |       | $                                               | 0.51       |   | $ | 0.41 |   |
| Earnings from discontinued operations, net of income  taxes |       | $                                               | —     |   | $ | 0.03 |   |
| Net earnings                                                |       | $                                               | 0.51       |   | $ | 0.44 |   |
| **Diluted EPS computation**                                 |       |                                            |       |   |   |
| Earnings from continuing operations                         |       | $                                               | 14,018     |   | $ | 10,971 |   |
| Earnings from discontinued operations, net of income  taxes |       | —                                          |       | 800 |   |
| Net earnings                                                |       | $                                               | 14,018     |   | $ | 11,771 |   |
| Diluted common  shares outstanding:                         |       |                                            |       |   |   |
| Weighted average common shares outstanding                  |       | 27,479                                          |       | 26,936 |   |
| Stock options and restricted stock                          |       | 922                                             |       | 537 |   |
| Diluted common  shares outstanding                          |       | 28,401                                          |       | 27,473 |   |
| Diluted earnings per  share                                 |       |                                            |       |   |   |
| Earnings from continuing operations                         |       | $                                               | 0.49       |   | $ | 0.40 |   |
| Earnings from discontinued operations, net of income  taxes |       | $                                               | —     |   | $ | 0.03 |   |
| Net earnings                                                |       | $                                               | 0.49       |   | $ | 0.43 |   |

 

12

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

At June 30, 2005, alloutstanding options are included in the diluted EPS calculation. At June 302004, there were 1,167,270 options outstanding that were excluded from thediluted EPS calculation because their inclusion would have had an antidilutiveeffect on EPS.

**9. Comprehensive earnings**

Thecomponents of comprehensive earnings for the three-month periods ended June 30,2005 and 2004 consisted of the following:
| ** **                                                                                | ** ** | **Three Months Ended  June 30,** | ** ** |
|-------------------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                                                | ** ** | **2005**                                        | ** ** | **2004** | ** ** |
| ** **                                                                                | ** ** | **(in thousands)**                         | ** ** |
| Net earnings                                                                              |       | $                                               | 14,018     |   | $ | 11,771 |   |
| Other comprehensive  earnings:                                                            |       |                                            |       |   |   |
| Foreign currency translation adjustments                                                  |       | (1,312                                          | )          | (1,093 | ) |
| Unrealized net gains on hedging instruments arising  during the period, net of income tax |       | —                                          |       | 1,284 |   |
| Amortization of unrealized gain on terminated hedging  instruments, net of income taxes   |       | (46                                             | )          | — |   |
| Comprehensive earnings                                                                    |       | $                                               | 12,660     |   | $ | 11,962 |   |

 

**10.Pensions and Other Employee Benefits**

Thefollowing table summarizes the components of net periodic benefit cost for theCompany’s pension and postretirement benefit plans for the three-month periodsended June 30, 2005 and 2004. These plans are more fully described in Note12 to the Company’s Consolidated Financial Statements for the year ended March 31,2005.
| ** **                                       | ** ** | ** **                      | ** ** | ** **                             | ** ** | ** **            | ** ** | ** ** | ** ** | **Unfunded  Supplemental** | ** ** |
|--------------------------------------------------|------------|---------------------------------|------------|----------------------------------------|------------|-----------------------|------------|------------|------------|----------------------------|------------|
| ** **                                       | ** ** | **Funded  Pension Plans**  | ** ** | **Postretirement  Benefit Plans** | ** ** | **Retirement  Plans** | ** ** |
| ** **                                       | ** ** | **Three Months Ended June 30,** | ** ** |
| ** **                                       | ** ** | **2005**                        | ** ** | **2004**                               | ** ** | **2005**              | ** ** | **2004**   | ** ** | **2005**                   | ** ** | **2004** | ** ** |
| ** **                                       | ** ** | **(in thousands)**              | ** ** |
| Service cost                                     |       | $                               | 988        | ** **                             | $          | 961                   | ** ** | $          | 150        | ** **                 | $          | 134 |   | $ | 136 |   | $ | 104 |   |
| Interest cost                                    |       | 1,511                           | ** ** | 1,455                                  | ** ** | 241                   | ** ** | 238        |       | 279                        |       | 241 |   |
| Expected return  on plan assets                  |       | (1,769                          | **)**      | (1,600                                 | **)**      | (42                   | **)**      | (23        | )          | —                     |       | — |   |
| Amortization of  unrecognized loss (gain)        |       | 43                              | ** ** | 32                                     | ** ** | (2                    | **)**      | 23         |       | 42                         |       | 1 |   |
| Amortization of  transition obligation           |       | —                          | ** ** | —                                 | ** ** | 27                    | ** ** | 9          |       | —                     |       | — |   |
| Amortization of  unrecognized prior-service cost |       | 1                               | ** ** | 1                                      | ** ** | —                | ** ** | —     |       | 194                        |       | 194 |   |
| Net periodic benefit  cost                       |       | $                               | 774        | ** **                             | $          | 849                   | ** ** | $          | 374        | ** **                 | $          | 381 |   | $ | 651 |   | $ | 540 |   |

 

The Company expects tocontribute $4.1 million and $1.8 million to its pension and postretirementplans, respectively, during the fiscal year ended March 31, 2006, of which$0.2 million and $0.1 million were contributed during the three months ended June 30,2005, respectively.

13

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**11. Operating Segments**

The Company’s two principal operating segments, on thebasis of products and services offered, are: the Command, Control,Communications, Computers and Intelligence (C4I) Group and the Surveillance andReconnaissance (SR) Group. All other operations are grouped in Other. Duringthe second quarter of fiscal 2005, DRS Data and Imaging Systems Ltd. wasconsolidated into C4I Group’s DRS Tactical Systems Ltd. operating unit toachieve certain operating synergies. DRS Data and Imaging Systems Ltd.previously had been managed as a part of the SR Group. Prior-year balances andresults of operations for both the C4I Group and SR Group have been restated toreflect this management reporting change.

The C4I Group is comprised of the following businessareas: Command, Control and Communications (C3), which includes naval displaysystems, ship communications systems, radar systems, technical support,electronic manufacturing and system integration services, and secure voice anddata communications; Power Systems, which includes naval and industrial powergeneration, conversion, propulsion, distribution and control systems;Intelligence Technologies, which includes signals intelligence, communicationsintelligence, data collection, processing and dissemination equipment; andTactical Systems, which includes battle management tactical computer systems andperipherals.

The Surveillance and Reconnaissance Group is comprisedof the following business areas: Reconnaissance, Surveillance and TargetAcquisition (RSTA), which develops and produces electro-optical sighting,targeting and weapon sensor systems, high-speed digital data and imagingsystems, aircraft weapons alignment systems, mission and flight recorders andimage intensification night vision, combat identification and laseraimers/illuminator products, and provides electronic manufacturing services;Training and Control Systems, which develops and produces air combat training,electronic warfare and network systems and unmanned vehicles; and Test &Energy Management, which develops and produces electronic test, diagnostics andvehicle electronics.

14

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

Otherincludes the activities of DRS Corporate Headquarters and certain non-operatingsubsidiaries of the Company. Information about the Company’s operating segmentsfor the three-month periods ended June 30, 2005 and 2004 is as follows:
| ** **                           | ** ** | **C4I Group**      | ** ** | **SR Group** | ** ** | **Other** | ** ** | **Total** | ** ** |
|--------------------------------------|------------|-------------------------|------------|-------------------|------------|-----------|------------|-----------|------------|
| ** **                           | ** ** | **(in thousands)** | ** ** |
| **Three Months Ended June 30, 2005** |       |                    |       |              |       |      |       |      |       |
| Total revenues                       |       | $                       | 191,030    |              | $          | 148,523   |       | $         | —     |   | $ | 339,553 |   |
| Intersegment revenues                |       | (539                    | )          | (555              | )          | —    |       | (1,094    | )          |
| External revenues                    |       | $                       | 190,491    |              | $          | 147,968   |       | $         | —     |   | $ | 338,459 |   |
| Operating income (loss)              |       | $                       | 19,488     |              | $          | 15,788    |       | $         | (218       | ) | $ | 35,058 |   |
| Total assets                         |       | $                       | 860,689    |              | $          | 736,019   |       | $         | 273,306    |   | $ | 1,870,014 |   |
| Depreciation and  amortization       |       | $                       | 3,436      |              | $          | 6,074     |       | $         | 907        |   | $ | 10,417 |   |
| Capital expenditures                 |       | $                       | 2,303      |              | $          | 3,418     |       | $         | 615        |   | $ | 6,336 |   |
| **Three Months Ended June 30, 2004** |       |                    |       |              |       |      |       |      |       |
| Total revenues                       |       | $                       | 158,946    |              | $          | 134,622   |       | $         | —     |   | $ | 293,568 |   |
| Intersegment revenues                |       | (363                    | )          | (2,054            | )          | —    |       | (2,417    | )          |
| External revenues                    |       | $                       | 158,583    |              | $          | 132,568   |       | $         | —     |   | $ | 291,151 |   |
| Operating income (loss)              |       | $                       | 15,120     |              | $          | 13,426    |       | $         | (46        | ) | $ | 28,500 |   |
| Assets of continuing  operations     |       | $                       | 745,924    |              | $          | 683,965   |       | $         | 93,987     |   | $ | 1,523,876 |   |
| Depreciation and  amortization       |       | $                       | 2,842      |              | $          | 6,424     |       | $         | 654        |   | $ | 9,920 |   |
| Capital expenditures                 |       | $                       | 2,155      |              | $          | 4,555     |       | $         | 701        |   | $ | 7,411 |   |

 

Thetable below provides a reconciliation of total consolidated assets to totalassets of continuing operations presented above:
| ** **                         | ** ** | **June 30,**       | ** ** |
|------------------------------------|------------|-------------------------|------------|
| ** **                         | ** ** | **2004**                | ** ** |
| ** **                         | ** ** | **(in thousands)** | ** ** |
| Assets of continuing  operations   |       |                    | $          | 1,523,876 |   |   |
| Assets of discontinued  operations |       |                    | 40,195     |   |   |
| Total assets                       |       |                    | $          | 1,564,071 |   |   |

 

**12.Supplemental Cash Flow Information**
| ** **                                                                           | ** ** | **Three Months Ended  June 30,** | ** **                   |
|--------------------------------------------------------------------------------------|------------|-------------------------------------------------|------------------------------|
| ** **                                                                           | ** ** | **2005**                                        | **    ** | **2004** | ** ** |
| ** **                                                                           | ** ** | **(in thousands)**                         | ** **                   |
| Cash paid for:                                                                       |       |                                            |                         |   |   |
| Income taxes                                                                         |       | $                                               | 10,732                       |   | $ | 2,549 |   |
| Interest                                                                             |       | $                                               | 18,704                       | * | $ | 14,149 |   |
| Supplemental disclosure of significant non-cash investing  and financing activities: |       |                                            |                         |   |   |
| Acquisition costs for business combinations                                          |       | $                                               | 335                          |   | $ | — |   |

----

*       Excludesthe advanced interest of $2.0 million that was repaid in conjunction withthe semi-annual interest payments on the notes. See Note 7, “Debt.”

15

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES  Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**13.Cash Dividends on DRS Common Stock**

On May 13, 2005, the Boardof Directors declared a $0.03 per common share cash dividend, paid on June 30,2005 to stockholders of record as of June 15, 2005. Cash dividends paid in thefirst quarter of 2005 were $0.8 million. On August 4, 2005, the Board ofDirectors declared a $0.03 per common share cash dividend, payable on September30, 2005 to stockholders of record as of September 15, 2005.

**14.Contingencies and Related Party Transactions**

**Contingencies**   TheCompany is party to various legal actions and claims arising in the ordinarycourse of its business. In the Company’s opinion, the Company has adequatelegal defenses for each of the actions and claims.

Various legal actions, claims, assessments and othercontingencies arising in the normal course of the Company’s business, includingcertain matters described below, are pending against the Company and certain ofits subsidiaries. These matters are subject to many uncertainties, and it ispossible that some of these matters could be ultimately decided, resolved orsettled adversely. The Company has recorded accruals for losses related tothose matters that it considers to be probable and that can be reasonablyestimated. Although the ultimate amount of liability at June 30, 2005 thatmay result from those matters for which the Company has recorded accruals isnot ascertainable, the Company believes that any amounts exceeding the Company’srecorded accruals should not materially affect the Company’s financialcondition or liquidity; however, such amounts, if any, could be significant tothe results of operations of a reporting period.

On October 3, 2001, a lawsuit was filed byMiltope Corporation and IV Phoenix Group, Inc., against DRS Technologies, Inc.,DRS Electronic Systems, Inc. and a number of individual defendants,several of whom had been employed by DRS Electronic Systems, Inc. Theplaintiffs’ claims against DRS related generally to the activities of certainformer employees of IV Phoenix Group and the hiring of some of those employeesby the Company. On May 4, 2005, DRS entered into a settlement agreement,pursuant to which the Company agreed to pay $7.5 million to the plaintiffs, andlitigation involving the parties was resolved to their satisfaction, with theelimination of all outstanding claims. A charge of $6.5 million was recorded inthe fourth quarter of fiscal 2005 to increase the Company’s accrual for thematter to $7.5 million as of March 31, 2005. The settlement payment wasmade on May 5, 2005.

Some environmental laws, such as the ComprehensiveEnvironmental Response, Compensation and Liability Act of 1980 (also known asCERCLA or the Superfund law) and similar state statutes, can impose liabilityfor the entire cost of the clean up of contaminated sites upon any of thecurrent or former site owners or operators (or upon parties who send waste tothese sites), regardless of the lawfulness of the original activities that ledto the contamination. In July 2000, prior to its acquisition by IDT, andprior to DRS’s acquisition of IDT, Tech-Sym Corporation received a Section 104(e) Requestfor Information from the National Park Service (NPS), pursuant to CERCLA,regarding a site known as the Orphan Mine site in the Grand Canyon NationalPark, Arizona, which is the subject of an NPS investigation regarding thepresence of residual radioactive materials and contamination. A corporation ofwhich Tech-Sym is an alleged successor operated this uranium mine from 1956 to1967. In 1962, the land was sold to the U.S. government and the allegedpredecessor of Tech-Sym was given a 25-year mining lease.  In 1967, the mining rights were transferred toa third party by a trustee in bankruptcy, and the Company believes that themine was operated by such third party until approximately 1969. The Companyunderstands that there 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES  Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

are other companies in thechain of title to the mining rights subsequent to Tech-Sym’s allegedpredecessor, and, accordingly, that there are other potentially responsibleparties (PRPs) for the environmental conditions at the site, including the U.S.government as owner, operator and arranger at the site. During its period ofownership, IDT retained a technical consultant in connection with this matter,who conducted a limited, preliminary review of site conditions and communicatedwith the NPS regarding actions that may be required at the site by all of thePRPs. The initial remediation estimate for the CERCLA related cleanup of theOperable Unit 1 (the upper mine area) site was $0.8 million and a second,independent evaluation estimated remediation costs at $1.0 million. On February 6,2005, the NPS sent the Company an Engineering Evaluation/Cost Analysis WorkPlan under CERCLA (CERCLA Letter) with regards to Operable Unit 1 (the upper minearea) of the Orphan Mine site. In the Company’s view, this CERCLA Letterincluded additional cleanup not covered by CERCLA. The CERCLA Letter alsorequested (a) payment of $0.5 million for costs incurred by the NPSrelated to the Orphan Mine, and (b) a ‘‘good faith offer’’ to conduct theresponse activity outlined by the NPS and to reimburse the NPS for futurecosts. The NPS advised that a similar letter has been sent to another PRP. TheCompany has initiated discussions with such other PRP and with NPS, and hasengaged a technical consultant to evaluate the existing documentation and thesite in depth. As of June 30, 2005, the Company had approximately $1.3million accrued in connection with the potential remediation effort at theOrphan Mine site. In the event of remediation, the Company may incur charges inexcess of that amount and/or may have its liability reduced to the extent thatother PRPs are required to participate in the remediation effort. The Companywill continue to evaluate its estimate to the extent additional informationarises.

On November 24, 2004, a lawsuit was filed in theUnited States District Court for the District of Colorado by ITT Industries, Inc.,a corporation of the State of Indiana, against DRS Tactical Systems, Inc.The plaintiff alleges DRS breached a subcontract between DRS and ITT and seeksdamages in excess of $5.0 million. The claim generally relates to theperformance by DRS and its predecessors, DRS Tactical Systems (West), Inc.and Catalina Research, Inc., under a subcontract for a component being suppliedto ITT under ITT’s prime contract with the U.S. Army. On February 14,2005, DRS Tactical Systems, Inc. filed its answer, affirmative defensesand counterclaims. The counterclaims allege breach of contract and breach ofduties of good faith and fair dealing and seek damages of no less than $1.8million. The Company and ITT have agreed to conduct nonbinding mediation. On April 13,2005, the District Court of Colorado granted the parties’ joint motion to staythe scheduling order until September 1, 2005 to allow for such mediation.The Company continues to believe that it has meritorious defenses andcounterclaims and does not believe the action will have a material adverseeffect on its financial position, results of operations or liquidity.

**Related Party Transactions  **TheCompany currently leases a building in Oakland, New Jersey, owned by LDR RealtyCo., a partnership that was wholly owned in equal amounts by David E. Gross,DRS’s cofounder and the former President and Chief Technical Officer, and thelate Leonard Newman, DRS’s cofounder and the former Chairman of the Board,Chief Executive Officer and Secretary and the father of Mark S. Newman, theCompany’s current Chairman of the Board, President and Chief Executive Officer.The lease agreement with a monthly rental of $21.2 thousand expires on April 30,2007. Following Leonard Newman’s death in November 1998, Mrs. RuthNewman, the wife of Leonard Newman and the mother of Mark S. Newman, succeededto Leonard Newman’s interest in LDR Realty Co.

Skadden, Arps, Slate, Meagher & Flom LLP, alaw firm to which a member of our Board is of counsel, provided legal servicesto DRS during the three months ended June 30, 2005 and 2004. Fees paid 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES  Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

to Skadden, Arps, Slate,Meagher & Flom LLP for the three months ended June 30, 2005 and2004 were not material.

Kronish Lieb Weiner &Hellman LLP, a law firm of which Alison Newman, sister of Mark S. Newman, is apartner, provided legal services to DRS during the three months ended June 30,2005. There were no fees paid to Kronish Lieb Weiner & Hellman LLP forthe three months ended June 30, 2005 and 2004.

**15.Guarantor and Non-Guarantor Financial Statements**

As furtherdiscussed in Note 7, ‘‘Debt,’’ at June 30, 2005, the Company has $550.0million of 67¤8%Senior Subordinated Notes outstanding. The Notes are fully and unconditionallyguaranteed, jointly and severally, by the Company’s wholly-owned domesticsubsidiaries (the Guarantor Subsidiaries). The foreign subsidiaries and certaindomestic subsidiaries of DRS (the Non-Guarantor Subsidiaries) do not guaranteethe Notes. The following condensed consolidating financial information presentsthe Condensed Consolidating Balance Sheets as of June 30, 2005 and March 31,2005, the Condensed Consolidating Statements of Earnings for the three-monthperiods ended June 30, 2005 and 2004, and the Condensed ConsolidatingStatements of Cash Flows for the three months ended June 30, 2005 and 2004for:

a)     DRSTechnologies, Inc. (the Parent),

b)     theGuarantor Subsidiaries,

c)     theNon-guarantor Subsidiaries, and

d)     DRSTechnologies, Inc. on a consolidated basis

The information includes elimination entries necessaryto consolidate the Parent with the Guarantor and Non-guarantor Subsidiaries.

The Guarantor and Non-guarantor Subsidiaries are presentedon a combined basis. The principal elimination entries eliminate investments insubsidiaries and intercompany balances and transactions. Separate financialstatement information for each of the Guarantor and Non-guarantor Subsidiariesare not presented because management believes such financial statements wouldnot be meaningful to investors.

18

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**CondensedConsolidating Balance SheetAs of June 30, 2005(in thousands)**
| ** **                                           | ** ** | **Parent  Company** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|------------------------------------------------------|------------|---------------------|------------|-----------------------------|------------|---------------------------------|------------|------------------|------------|------------------|------------|
| **Assets**                                           |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |
| **Current assets**                                   |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |
| Cash and cash equivalents                            |       | $                   | 209,998    |                        | $          | (3,402                          | )          |             | $          | 17,056           |       |   |   | $ | — |   |   |   | $ | 223,652 |   |   |
| Accounts receivable, net                             |       | 4                   |       | 212,885                     |       |                            | 31,796     |             |       |             | —     |   |   |   | 244,685 |   |   |
| Inventories, net                                     |       | —              |       | 181,893                     |       |                            | 39,554     |             |       |             | —     |   |   |   | 221,447 |   |   |
| Prepaid expenses and other current assets            |       | 6,712               |       | 39,692                      |       |                            | 2,394      |             |       |             | —     |   |   |   | 48,798 |   |   |
| Intercompany  receivables                            |       | 423,396             |       | 8,193                       |       |                            | 53,544     |             |       |             | (485,133   | ) |   |   | — |   |   |
| **Total current assets**                             |       | 640,110             |       | 439,261                     |       |                            | 144,344    |             |       |             | (485,133   | ) |   |   | 738,582 |   |   |
| Property, plant  and equipment, net                  |       | 11,781              |       | 124,243                     |       |                            | 6,113      |             |       |             | —     |   |   |   | 142,137 |   |   |
| Acquired  intangibles, net                           |       | —              |       | 105,478                     |       |                            | —     |             |       |             | —     |   |   |   | 105,478 |   |   |
| Goodwill                                             |       | 24,093              |       | 805,095                     |       |                            | 22,348     |             |       |             | —     |   |   |   | 851,536 |   |   |
| Deferred income  taxes and other noncurrent assets   |       | 28,914              |       | 4,015                       |       |                            | 2,000      |             |       |             | (2,648     | ) |   |   | 32,281 |   |   |
| Investment in  subsidiaries                          |       | 403,911             |       | 49,635                      |       |                            | —     |             |       |             | (453,546   | ) |   |   | — |   |   |
| **Total assets**                                     |       | $                   | 1,108,809  |                        | $          | 1,527,727                       |       |             | $          | 174,805          |       |   |   | $ | (941,327 | ) |   |   | $ | 1,870,014 |   |   |
| **Liabilities and Stockholders’ Equity**        |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |
| **Current liabilities**                              |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |
| Current installments of long-term debt          |       | $                   | 2,360      |                        | $          | 246                             |       |             | $          | —           |       |   |   | $ | — |   |   |   | $ | 2,606 |   |   |
| Accounts payable                                     |       | 4,220               |       | 100,049                     |       |                            | 19,273     |             |       |             | —     |   |   |   | 123,542 |   |   |
| Accrued expenses and other current liabilities       |       | 12,541              |       | 224,785                     |       |                            | 22,358     |             |       |             | —     |   |   |   | 259,684 |   |   |
| Intercompany  payables                               |       | (36,001             | )          | 521,320                     |       |                            | 45,747     |             |       |             | (531,066   | ) |   |   | — |   |   |
| Total current liabilities                            |       | (16,880             | )          | 846,400                     |       |                            | 87,378     |             |       |             | (531,066   | ) |   |   | 385,832 |   |   |
| Long-term debt,  excluding current installments      |       | 713,944             |       | 2,754                       |       |                            | —     |             |       |             | —     |   |   |   | 716,698 |   |   |
| Other liabilities                                    |       | 9,233               |       | 55,808                      |       |                            | 14,227     |             |       |             | (2,648     | ) |   |   | 76,620 |   |   |
| **Total liabilities**                                |       | 706,297             |       | 904,962                     |       |                            | 101,605    |             |       |             | (533,714   | ) |   |   | 1,179,150 |   |   |
| **Total stockholders’ equity**                  |       | 402,512             |       | 622,765                     |       |                            | 73,200     |             |       |             | (407,613   | ) |   |   | 690,864 |   |   |
| **Total  liabilities and stockholders’ equity** |       | $                   | 1,108,809  |                        | $          | 1,527,727                       |       |             | $          | 174,805          |       |   |   | $ | (941,327 | ) |   |   | $ | 1,870,014 |   |   |

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**Condensed Consolidating Balance Sheet**

**As of March 31,2005**

**(inthousands)**
| ** **                                           | ** ** | **Parent  Company** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|------------------------------------------------------|------------|---------------------|------------|-----------------------------|------------|---------------------------------|------------|------------------|------------|------------------|------------|
| **Assets**                                           |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |
| **Current assets**                                   |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |
| Cash and cash equivalents                            |       | $                   | 300,788    |                        | $          | (8,272)                         |       |             | $          | 14,336           |       |   | $ | — |   |   | $ | 306,852 |   |   |
| Accounts receivable, net                             |       | 4                   |       | 202,517                     |       |                            | 35,391     |             |       | —           |       |   | 237,912 |   |   |
| Inventories, net                                     |       | —              |       | 165,036                     |       |                            | 43,105     |             |       | —           |       |   | 208,141 |   |   |
| Prepaid expenses and other current assets            |       | 4,645               |       | 35,180                      |       |                            | 2,309      |             |       | —           |       |   | 42,134 |   |   |
| Intercompany  receivables                            |       | 412,641             |       | 23,269                      |       |                            | 49,876     |             |       | (485,786)        |       |   | — |   |   |
| **Total current assets**                             |       | 718,078             |       | 417,730                     |       |                            | 145,017    |             |       | (485,786)        |       |   | 795,039 |   |   |
| Property, plant  and equipment, net                  |       | 12,073              |       | 125,422                     |       |                            | 5,769      |             |       | —           |       |   | 143,264 |   |   |
| Acquired  intangibles, net                           |       | —              |       | 100,030                     |       |                            | —     |             |       | —           |       |   | 100,030 |   |   |
| Goodwill                                             |       | 24,093              |       | 768,303                     |       |                            | 23,011     |             |       | —           |       |   | 815,407 |   |   |
| Deferred income  taxes and other noncurrent assets   |       | 30,068              |       | 3,803                       |       |                            | 1,679      |             |       | (2,649)          |       |   | 32,901 |   |   |
| Investment in  subsidiaries                          |       | 397,168             |       | 49,635                      |       |                            | —     |             |       | (446,803)        |       |   | — |   |   |
| **Total assets**                                     |       | $                   | 1,181,480  |                        | $          | 1,464,923                       |       |             | $          | 175,476          |       |   | $ | (935,238) |   |   | $ | 1,886,641 |   |   |
| **Liabilities and   Stockholders’ Equity**      |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |
| **Current liabilities**                              |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |
| Current installments of long-term debt               |       | $                   | 2,360      |                        | $          | 292                             |       |             | $          | —           |       |   | $ | — |   |   | $ | 2,652 |   |   |
| Accounts payable                                     |       | 3,146               |       | 85,922                      |       |                            | 22,154     |             |       | —           |       |   | 111,222 |   |   |
| Accrued expenses and other current liabilities       |       | 26,108              |       | 257,029                     |       |                            | 18,193     |             |       | 31               |       |   | 301,361 |   |   |
| Intercompany  payables                               |       | 18,978              |       | 465,948                     |       |                            | 46,772     |             |       | (531,698)        |       |   | — |   |   |
| Total current liabilities                            |       | 50,592              |       | 809,191                     |       |                            | 87,119     |             |       | (531,667)        |       |   | 415,235 |   |   |
| Long-term debt,  excluding current installments      |       | 724,817             |       | 2,794                       |       |                            | —     |             |       | —           |       |   | 727,611 |   |   |
| Other liabilities                                    |       | 8,967               |       | 51,916                      |       |                            | 14,131     |             |       | (2,647)          |       |   | 72,367 |   |   |
| **Total liabilities**                                |       | 784,376             |       | 863,901                     |       |                            | 101,250    |             |       | (534,314)        |       |   | 1,215,213 |   |   |
| **Total stockholders’ equity**                  |       | 397,104             |       | 601,022                     |       |                            | 74,226     |             |       | (400,924)        |       |   | 671,428 |   |   |
| **Total  liabilities and stockholders’ equity** |       | $                   | 1,181,480  |                        | $          | 1,464,923                       |       |             | $          | 175,476          |       |   | $ | (935,238) |   |   | $ | 1,886,641 |   |   |

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**Condensed Consolidating Statements of EarningsThree Months Ended June 30, 2005 (in thousands)**
| ** **                                         | ** ** | **Parent  Company** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------|------------|---------------------|------------|-----------------------------|------------|---------------------------------|------------|------------------|------------|------------------|------------|
| **Revenues**                                       |       |                | $          | —                      |       |                            |       | $                | 287,462    |             |       |   | $ | 55,604 |   |   |   | $ | (4,607 | ) |   |   | $ | 338,459 |   |   |
| Cost and expenses                                  |       |                | 218        |                        |       |                            | 255,227    |             |       |             | 52,563     |   |   |   | (4,607 | ) |   |   | 303,401 |   |   |
| Operating income                                   |       |                | (218       | )                           |       |                            | 32,235     |             |       |             | 3,041      |   |   |   | — |   |   |   | 35,058 |   |   |
| Interest income                                    |       |                | 1,774      |                        |       |                            | 38         |             |       |             | 65         |   |   |   | — |   |   |   | 1,877 |   |   |
| Interest and  related expense                      |       |                | 12,169     |                        |       |                            | 38         |             |       |             | 4          |   |   |   | — |   |   |   | 12,211 |   |   |
| Other (expense)  income, net                       |       |                | 36         |                        |       |                            | 7          |             |       |             | (18        | ) |   |   | — |   |   |   | 25 |   |   |
| Management fees                                    |       |                | 520        |                        |       |                            | (480       | )                |       |             | (40        | ) |   |   | — |   |   |   | — |   |   |
| Royalties                                          |       |                | 523        |                        |       |                            | —     |             |       |             | (523       | ) |   |   | — |   |   |   | — |   |   |
| Intercompany  interest                             |       |                | 6,254      |                        |       |                            | (6,349     | )                |       |             | 95         |   |   |   | — |   |   |   | — |   |   |
| Earnings before minority interest and income taxes |       |                | (3,280     | )                           |       |                            | 25,413     |             |       |             | 2,616      |   |   |   | — |   |   |   | 24,749 |   |   |
| Minority interest                                  |       |                | —     |                        |       |                            | —     |             |       |             | 580        |   |   |   | — |   |   |   | 580 |   |   |
| Earnings before income taxes                       |       |                | (3,280     | )                           |       |                            | 25,413     |             |       |             | 2,036      |   |   |   | — |   |   |   | 24,169 |   |   |
| Income taxes                                       |       |                | (1,378     | )                           |       |                            | 10,674     |             |       |             | 855        |   |   |   | — |   |   |   | 10,151 |   |   |
| **Net  earnings**                                  |       |                | $          | (1,902                      | )          |                            |       | $                | 14,739     |             |       |   | $ | 1,181 |   |   |   | $ | — |   |   |   | $ | 14,018 |   |   |

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**Condensed Consolidating Statements of EarningsThree Months Ended June 30, 2004**(in thousands)
| ** **                                                  | ** ** | **Parent  Company** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-------------------------------------------------------------|------------|---------------------|------------|-----------------------------|------------|---------------------------------|------------|------------------|------------|------------------|------------|
| **Revenues**                                                |       |                | $          | —                      |       |                            |       | $                | 251,165    |             |       |   | $ | 43,507 |   |   |   | $ | (3,521 | ) |   |   | $ | 291,151 |   |   |
| Cost and expenses                                           |       |                | 45         |                        |       |                            | 224,496    |             |       |             | 41,655     |   |   |   | (3,545 | ) |   |   | 262,651 |   |   |
| Operating income                                            |       |                | (45        | )                           |       |                            | 26,669     |             |       |             | 1,852      |   |   |   | 24 |   |   |   | 28,500 |   |   |
| Interest income                                             |       |                | 105        |                        |       |                            | 12         |             |       |             | 12         |   |   |   | — |   |   |   | 129 |   |   |
| Interest and  related expense                               |       |                | 8,917      |                        |       |                            | 42         |             |       |             | 35         |   |   |   | — |   |   |   | 8,994 |   |   |
| Other (expense)  income, net                                |       |                | 55         |                        |       |                            | (302       | )                |       |             | 187        |   |   |   | — |   |   |   | (60 | ) |   |
| Management fees                                             |       |                | 413        |                        |       |                            | (378       | )                |       |             | (35        | ) |   |   | — |   |   |   | — |   |   |
| Royalties                                                   |       |                | 368        |                        |       |                            | —     |             |       |             | (368       | ) |   |   | — |   |   |   | — |   |   |
| Intercompany  interest                                      |       |                | 7,075      |                        |       |                            | (6,760     | )                |       |             | (315       | ) |   |   | — |   |   |   | — |   |   |
| Earnings before minority interest and income taxes          |       |                | (946       | )                           |       |                            | 19,199     |             |       |             | 1,298      |   |   |   | 24 |   |   |   | 19,575 |   |   |
| Minority interest                                           |       |                | —     |                        |       |                            | —     |             |       |             | 397        |   |   |   | — |   |   |   | 397 |   |   |
| Earnings before income taxes                                |       |                | (946       | )                           |       |                            | 19,199     |             |       |             | 901        |   |   |   | 24 |   |   |   | 19,178 |   |   |
| Income taxes                                                |       |                | (405       | )                           |       |                            | 8,216      |             |       |             | 386        |   |   |   | 10 |   |   |   | 8,207 |   |   |
| Earnings from  continuing operations                        |       |                | (541       | )                           |       |                            | 10,983     |             |       |             | 515        |   |   |   | 14 |   |   |   | 10,971 |   |   |
| Earnings from  discontinued operations, net of income taxes |       |                | —     |                        |       |                            | 800        |             |       |             | —     |   |   |   | — |   |   |   | 800 |   |   |
| **Net  earnings**                                           |       |                | $          | (541                        | )          |                            |       | $                | 11,783     |             |       |   | $ | 515 |   |   |   | $ | 14 |   |   |   | $ | 11,771 |   |   |

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**Condensed Consolidating Statements of Cash FlowsThree Months Ended June 30, 2005(in thousands)**
| ** **                                                            | ** ** | **Parent  Company** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------------------------------|------------|---------------------|------------|-----------------------------|------------|---------------------------------|------------|------------------|------------|------------------|------------|
| **Net  cash (used in) provided by operating activities**         |       | $                   | (24,817    | )                           |       | $                               | (1,003     | )                |       |             | $          | 11,274 |   |   |   | $ | — |   |   |   | $ | (14,546 | ) |   |
| **Cash  Flows from Investing Activities**                             |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |   |   |
| Capital expenditures                                                  |       | (615                | )          |                        | (5,148     | )                               |       |             | (573       | )                |       |   | — |   |   |   | (6,336 | ) |   |
| Payments pursuant to business                                         |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |   |   |
| combinations, net of cash acquired                                    |       | (52,350             | )          |                        | —     |                            |       |             | —     |             |       |   | — |   |   |   | (52,350 | ) |   |
| Other investing activities                                            |       | (191                | )          |                        | 241        |                            |       |             | (256       | )                |       |   | — |   |   |   | (206 | ) |   |
| **Net cash used in investing activities**                             |       | (53,156             | )          |                        | (4,907     | )                               |       |             | (829       | )                |       |   | — |   |   |   | (58,892 | ) |   |
| **Cash  Flows from Financing Activities**                             |       |                |       |                        |       |                            |       |             |       |             |       |   |   |   |   |   |   |   |   |
| Return of advanced interest on senior subordinated  notes             |       | (1,986              | )          |                        | —     |                            |       |             | —     |             |       |   | — |   |   |   | (1,986 | ) |   |
| Debt issuance costs                                                   |       | (120                | )          |                        | —     |                            |       |             | —     |             |       |   | — |   |   |   | (120 | ) |   |
| Repayment of long-term debt                                           |       | (10,591             | )          |                        | (83        | )                               |       |             | —     |             |       |   | — |   |   |   | (10,674 | ) |   |
| Proceeds from exercise of stock options                               |       | 4,175               |       |                        | —     |                            |       |             | —     |             |       |   | — |   |   |   | 4,175 |   |   |
| Dividends paid                                                        |       | (829                | )          |                        |       |                            |       |             | —     |             |       |   | — |   |   |   | (829 | ) |   |
| Other, net                                                            |       | (3,466              | )          |                        | 10,863     |                            |       |             | (7,397     | )                |       |   | — |   |   |   | — |   |   |
| **Net cash (used in) provided by  financing activities**              |       | (12,817             | )          |                        | 10,780     |                            |       |             | (7,397     | )                |       |   | — |   |   |   | (9,434 | ) |   |
| **Effects  of exchange rates on cash and cash equivalents**           |       | —              |       |                        | —     |                            |       |             | (328       | )                |       |   | — |   |   |   | (328 | ) |   |
| **Net (decrease) increase in cash and cash  equivalents**             |       | (90,790             | )          |                        | 4,870      |                            |       |             | 2,720      |             |       |   | — |   |   |   | (83,200 | ) |   |
| **Cash  and cash equivalents, beginning of period**    |       | 300,788             |       |                        | (8,272     | )                               |       |             | 14,336     |             |       |   | — |   |   |   | 306,852 |   |   |
| **Cash and cash equivalents, end  of period**                         |       | $                   | 209,998    |                        |       | $                               | (3,402     | )                |       |             | $          | 17,056 |   |   |   | $ | — |   |   |   | $ | 223,652 |   |   |

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**Condensed Consolidating Statements of Cash FlowsThree Months Ended June 30, 2004(in thousands)**
| ** **                                                                          | ** ** | **Parent  Company** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor**

**Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-------------------------------------------------------------------------------------|------------|---------------------|------------|-----------------------------|------------|-------------------------------------|------------|------------------|------------|------------------|------------|
| **Net  cash (used in) provided by operating activities of continuing operations**   |       | $                   | (20,605    | )                           |       | $                                   | 37,935     |             |       |             | $          | 3,336 |   |   |   | $ | — |   |   |   | $ | 20,666 |   |   |
| **Net  cash (used in) provided by operating activities of discontinued operations** |       | —              |       |                        | 4,210      |                                |       |             | —     |             |       |   | — |   |   |   | 4,210 |   |   |
| **Net  cash (used in) provided by operating activities**                            |       | (20,605             | )          |                        | 42,145     |                                |       |             | 3,336      |             |       |   | — |   |   |   | 24,876 |   |   |
| **Cash Flows from Investing  Activities**                                           |       |                |       |                        |       |                                |       |             |       |             |       |   |   |   |   |   |   |   |   |
| Capital expenditures                                                                |       | (701                | )          |                        | (5,941     | )                                   |       |             | (769       | )                |       |   | — |   |   |   | (7,411 | ) |   |
| Other investing activities                                                          |       | 84                  |       |                        | (10,540    | )                                   |       |             | 11,135     |             |       |   | — |   |   |   | 679 |   |   |
| **Net  cash used in investing activities of continuing operations**                 |       | (617                | )          |                        | (16,481    | )                                   |       |             | 10,366     |             |       |   | — |   |   |   | (6,732 | ) |   |
| **Net  cash used in investing activities of discontinued operations**               |       | —              |       |                        | (207       | )                                   |       |             | —     |             |       |   | — |   |   |   | (207 | ) |   |
| **Net  cash used in investing activities**                                          |       | (617                | )          |                        | (16,688    | )                                   |       |             | 10,366     |             |       |   | — |   |   |   | (6,939 | ) |   |
| **Cash Flows from Financing  Activities**                                           |       |                |       |                        |       |                                |       |             |       |             |       |   |   |   |   |   |   |   |   |
| Net borrowings of short-term debt                                                   |       | —              |       |                        | 1          |                                |       |             | 388        |             |       |   | — |   |   |   | 389 |   |   |
| Repayment of long-term debt                                                         |       | (10,590             | )          |                        | (172       | )                                   |       |             | —     |             |       |   | — |   |   |   | (10,762 | ) |   |
| Proceeds from exercise of stock  options                                            |       | 241                 |       |                        | —     |                                |       |             | —     |             |       |   | — |   |   |   | 241 |   |   |
| Other, net                                                                          |       | 39,424              |       |                        | (22,825    | )                                   |       |             | (16,599    | )                |       |   | — |   |   |   | — |   |   |
| **Net cash provided by (used in) financing activities  of continuing operations**   |       | 29,075              |       |                        | (22,996    | )                                   |       |             | (16,211    | )                |       |   | — |   |   |   | (10,132 | ) |   |
| **Net cash provided by (used in) financing activities  of discontinued operations** |       | —              |       |                        | (8         | )                                   |       |             | —     |             |       |   | — |   |   |   | (8 | ) |   |
| **Net cash provided by (used in) financing activities**                             |       | 29,075              |       |                        | (23,004    | )                                   |       |             | (16,211    | )                |       |   | — |   |   |   | (10,140 | ) |   |
| **Effects  of exchange rates on cash and cash equivalents**                         |       | —              |       |                        | (1,266     | )                                   |       |             | 900        |             |       |   | — |   |   |   | (366 | ) |   |
| **Net increase  (decrease) in cash and cash equivalents**                           |       | 7,853               |       |                        | 1,187      |                                |       |             | (1,609     | )                |       |   | — |   |   |   | 7,431 |   |   |
| **Cash  and cash equivalents, beginning of period**                                 |       | 55,342              |       |                        | (5,630     | )                                   |       |             | 7,078      |             |       |   |   |   |   |   | 56,790 |   |   |
| **Cash and cash equivalents, end  of period**                                       |       | $                   | 63,195     |                        |       | $                                   | (4,443     | )                |       |             | $          | 5,469 |   |   |   | $ | — |   |   |   | $ | 64,221 |   |   |

 

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**DRS TECHNOLOGIES, INC. AND SUBSIDIARIES Notes to the Consolidated Financial Statements (Continued) (Unaudited)**

**16.Recently Issued Accounting Pronouncements**

In November 2004,the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43,Chapter 4.”  SFAS No. 151 clarifiesthat abnormal inventory costs, such as costs of idle facilities, excess freightand handling costs, and wasted materials (spoilage), are required to berecognized as current period charges. Additionally, SFAS No. 151 requiresthat the allocation of fixed production overheads to the costs of conversion bebased on the normal capacity of the production facility. The provisions of SFASNo. 151 are effective for the fiscal year beginning April 1, 2006.The Company currently is evaluating the provisions of SFAS No. 151 anddoes not expect that the adoption will have a material impact on the Company’sconsolidated financial position or results of operations.

In December 2004, the FASB issued SFAS No. 153,‘‘Exchanges of Nonmonetary Assets—An Amendment of APB Opinion No. 29,Accounting for Nonmonetary Transactions’’ (SFAS No. 153). SFAS No. 153eliminates the exception from fair value measurement for nonmonetary exchangesof similar productive assets in paragraph 21(b) of APB Opinion No. 29,‘‘Accounting for Nonmonetary Transactions,’’ and replaces it with an exceptionfor exchanges that do not have commercial substance. SFAS No. 153specifies that a nonmonetary exchange has commercial substance if the futurecash flows of the entity are expected to change significantly as a result ofthe exchange. SFAS No. 153 is effective for nonmonetary exchangesoccurring in fiscal periods beginning after June 15, 2005 and is requiredto be adopted by the Company in the quarter beginning on July 1, 2005. TheCompany currently is evaluating the effect that the adoption of SFAS No. 153will have on its consolidated results of operations and financial condition,but does not expect SFAS No. 153 to have a material impact.

The U.S. enacted the American Jobs Creation Act of2004 (the American Jobs Creation Act) in October 2004 which contains manyprovisions affecting corporate taxation. The American Jobs Creation Act phasesout the extraterritorial income (ETI) exclusion benefit for export sales andphases in a new tax deduction for income from qualified domestic productionactivities (QPA) over a transition period beginning in 2005. In December 2004,the FASB issued FASB Staff Position 109-1 (FSP 109-1), whichprovides guidance that the QPA deduction should be treated as a special incometax deduction in the period earned and not as a tax-rate reduction. As such,QPA has no impact on our deferred tax assets or liabilities existing as of theenactment date. The Company will recognize a reduction in its provision forincome taxes for the QPA deduction in the period(s) in which the Company iseligible for the deduction. The Company has completed its preliminaryevaluation of the net impact of the American Jobs Creation Act, and has determinedthat the benefit from the phase-in of the QPA deduction will slightly exceedthe lost benefit from the phase-out of the ETI exclusion. The Company alsodetermined that the other provisions included in the American Jobs Creation Actwill not have a significant impact on the Company’s financial position, resultsof operations or cash flows.

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**Item2. Management’s Discussion and Analysis of Financial Condition and Results ofOperations**

We begin the Management’sDiscussion and Analysis of Financial Condition and Results of Operations(MD&A) of DRS Technologies, Inc. and subsidiaries and a partnership ofwhich DRS owns an 80% controlling interest (hereinafter, we, us, our, theCompany or DRS) with a discussion of business combination and disposal activityand a Company overview, followed by summaries of defense industryconsiderations and other business considerations to provide context forunderstanding our business. This is followed by a discussion of the criticalaccounting estimates that we believe are important to understanding theassumptions and judgments incorporated in our reported financial results, whichwe discuss under ‘‘Results of Continuing Operations.’’ We then provide ananalysis of cash flows and discuss our financial commitments under ‘‘Liquidityand Capital Resources’’ and ‘‘Contractual Obligations,’’ respectively. ThisMD&A should be read in conjunction with the consolidated financialstatements and related notes contained in our March 31, 2005 Form 10-K.

**Forward-Looking Statements**

The following discussionand analysis contains forward-looking statements, within the meaning of Section 27Aof the Securities Act of 1933, as amended, and Section 21E of theSecurities Exchange Act of 1934, as amended, that are based on management’sbeliefs and assumptions, current expectations, estimates and projections. Suchstatements, including statements relating to the Company’s expectations forfuture financial performance, are not considered historical facts and areconsidered forward-looking statements under the federal securities laws. Thesestatements may contain words such as ‘‘believes,’’ ‘‘anticipates,’’ ‘‘plans,’’ ‘‘expects,’’‘‘intends,’’ ‘‘estimates’’ or similar expressions. These statements are notguarantees of our future performance and are subject to risks, uncertaintiesand other important factors that could cause our actual performance orachievements to differ materially from those expressed or implied by theseforward-looking statements and include, without limitation: the effect of ouracquisition strategy on future operating results, including our ability toeffectively integrate acquired companies into our existing operations; theuncertainty of acceptance of new products and successful bidding for newcontracts; the effect of technological changes or obsolescence relating to ourproducts and services; and the effects of government regulation or shifts ingovernment priorities (including changes in priorities in response to the waron terrorism and to homeland security), as they may relate to our products andservices; and other risks or uncertainties detailed in the Company’s Securitiesand Exchange Commission filings. Given these uncertainties, you should not relyon forward-looking statements. The Company undertakes no obligations to updateany forward-looking statements, whether as a result of new information, futureevents or otherwise.

**BusinessCombinations and Disposals**

On April 15, 2005, we acquired Codem Systems, Inc.(Codem) in a stock purchase transaction for approximately $31.6 million in cash(subject to a working capital adjustment), with additional consideration payableof up to $5.0 million upon achievement of certain annual bookings targets for aperiod of three years.  In addition tothe purchase price, we recorded approximately $0.4 million foracquisition-related costs. The results of Codem’s operations have been includedour financial statements since the date of acquisition.

Codem located in Merrimack, New Hampshire, is aprovider of signals intelligence (SIGINT) systems, network interface modules,and high-performance antenna control systems. As a supplier of SIGINT products,Codem focuses on solutions for communications and surveillance applicationssupporting the intelligence, military and homeland security markets. We believethat the addition of Codem will further enhance our existing intelligenceproduct base. Codem is being managed as a part of our Command, Control,Communications, Computers and Intelligence (C4I) Group.

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On June 27, 2005, we acquired WalkAbout ComputerSystems (WalkAbout) in a stock purchase transaction for approximately $13.8million in cash (subject to a working capital adjustment), with additionalconsideration payable of up to $5.0 million upon achievement of certain revenuetargets for a period of two and a half years. In addition to the purchase pricewe recorded approximately $0.3 million for acquisition-related costs. Theresults of WalkAbout have been included in our financial statements since thedate of acquisition.

WalkAbout, located in West Palm Beach, Florida, is amanufacturer of several lines of rugged, mobile tablet PCs, serving industrial,municipal, military and government markets. We believe that the acquisition ofWalkAbout will enhance our position in the tactical computer systems business bybroadening its product offerings. WalkAbout is being managed as part of our C4IGroup.

On December 14, 2004, we acquired certain assetsand liabilities of Night Vision Equipment Co., Inc. and Excalibur ElectroOptics, Inc. (collectively referred to as NVEC hereinafter), a privatelyheld business headquartered in Allentown, Pennsylvania. The purchase price was$47.2 million in cash, including a $4.7 million working capitaladjustment paid in the fourth quarter of fiscal 2005, with additionalconsideration of up to a maximum of $37.5 million payable upon achievingcertain annual revenue targets for a period of three years. In addition to thepurchase price, we recorded approximately $0.3 million foracquisition-related costs. The results of NVEC’s operations have been includedin our financial statements since the date of the acquisition.

NVEC is a manufacturer and marketer of night visionproducts and combat identification systems. The company focuses on the rapiddevelopment and delivery of lightweight, affordable image intensification nightvision, uncooled thermal imaging, reflective combat identification andlaser-based products for U.S. and international militaries and paramilitaryorganizations. The acquisition of NVEC has enhanced DRS’s position in theuncooled infrared sensor and thermal imaging systems market, and has providedincreased access to and participation in homeland defense efforts at thefederal, state and local levels. NVEC is being managed as part of the Company’sSurveillance and Reconnaissance (SR) Group.

On March 10, 2005, wecompleted the sale of DRS Weather Systems, Inc. and DRS BroadcastTechnology. We have restated our financial statements, related financialstatement data and discussions in this MD&A to present the operatingresults of these operating units as discontinued operations. Both companiesoperated as a part of our C4I Group.

**Company Overview**

DRS is primarily a supplier of defense electronicproducts and systems. We provide high-technology products and services to allbranches of the U.S. military, major aerospace and defense prime contractors,government intelligence agencies, international military forces and industrialmarkets. We are a leading provider of thermal imaging devices, combat displayworkstations, electronic sensor systems, power systems, battlefielddigitization systems, air combat training systems, mission recorders anddeployable flight incident recorders.

Our C4I Group is comprised of the following businessareas: Command, Control and Communications (C3), which includes naval displaysystems, ship communications systems, radar systems, technical support,electronic manufacturing and system integration services, and secure voice anddata communications; Power Systems, which includes naval and industrial power generation,conversion, propulsion, distribution and control systems; IntelligenceTechnologies, which includes signals intelligence, communications intelligence,data collection, processing and dissemination equipment; and Tactical Systems,which includes battle management tactical computer systems and peripherals.

Our SR Group is comprised of the following businessareas: Reconnaissance, Surveillance and Target Acquisition (RSTA), whichdevelops and produces electro-optical sighting, targeting and weapon sensorsystems, high-speed digital data and imaging systems, aircraft weaponsalignment systems, mission and 

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flight recorders and imageintensification (night vision, combat identification and laseraimers/illuminator) products, and provides electronic manufacturing services;Training and Control Systems, which develops and produces air combat training,electronic warfare and network systems and unmanned vehicles; and Test &Energy Management, which develops and produces electronic test, diagnostics andvehicle electronics.

During the second quarter of fiscal 2005, DRS Data andImaging Systems Ltd. was consolidated into our C4I Group’s DRS TacticalSystems Ltd. operating unit to achieve certain operating synergies. DRSData and Imaging Systems Ltd. previously had been managed as a part of ourSR Group. Prior-year balances and results of operations for both the C4I Groupand SR Group have been restated to reflect this management reporting change.

The substantial majority of our sales are generatedusing written contractual arrangements. These contracts require us to design,develop, manufacture, modify, test and/or integrate complex defense electronicequipment and systems, and to provide related engineering and technical servicesaccording to specifications provided to us by our customers. Our primary ‘‘end-use’’customer is the U.S. Department of Defense (DoD).

The markets for defense and related advancedtechnology systems for fiscal 2006 and beyond will continue to be affected bythe global war on terrorism, through the continued need for military missionsand reconstruction efforts in Iraq and Afghanistan. The war on terrorism hasfocused greater attention on homeland security and better communication andinterplay between local, state and federal government agencies and U.S.military services. Our nation’s overall defense posture continues to movetoward a more capabilities-based structure, which creates the ability for amore flexible response with greater force mobility, stronger spacecapabilities, missile defense, and improved information systems capability andsecurity.

DoD budgets have experienced increased focus oncommand, control, communications, computers intelligence, surveillance andreconnaissance (C4ISR), precision-guided weapons, unmanned aerial vehicles(UAVs), network-centric communications, Special Operations Forces (SOF) andmissile defense. In addition, the DoD philosophy has focused on atransformation strategy that balances modernization and recapitalization (orupgrading existing platforms), while enhancing readiness and joint operations.As a result, defense budget program allocations continue to favor advancedinformation technologies related to command, control, communications, andcomputers, (C4) and Intelligence, Surveillance and Reconnaissance (ISR).Furthermore, the DoD’s emphasis on system interoperability, force multipliersand providing battlefield commanders with real-time data is increasing theelectronic content of nearly all major military procurement and researchprograms.

Our strategy is designed to capitalize on the breadthof our technology and extensive expertise in order to meet the evolving needsof our customers. We intend to expand our share of existing programs andparticipate in new programs by leveraging the strong relationships that we havedeveloped with the DoD, several other U.S. government agencies and all of themajor U.S. defense prime contractors. We expect to continue to benefit from theoutsourcing of subsystems, components and products by prime contractors. Weplan to continue to align our research and development, manufacturing and newbusiness efforts to complement our customers’ requirements and to providestate-of-the-art products. We plan to maintain a diversified and broad businessmix with limited reliance on any single program, a significant follow-onbusiness and an attractive customer profile.

A significant component ofour strategy has been to enhance our existing product base through selectiveacquisitions that add new products and technologies in areas that complementour present business base. We intend to continue acquiring select publicly andprivately held companies, as well as defense businesses of larger companiesthat (i) exhibit significant market position(s) in their businessareas, (ii) offer products that complement and/or expand our productofferings and (iii) display growing revenues, and positive operatingincome and cash flow prospects.

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**Other Business Considerations**

As a government contractor, we are subject to U.S. governmentoversight. The Government may ask about and investigate our business practicesand audit our compliance with applicable rules and regulations. Dependingon the results of those audits and investigations, the Government could makeclaims against us. Under Government procurement regulations and practices, anindictment of a government contractor could result in that contractor beingfined and/or suspended from being able to bid on, or be awarded, new governmentcontracts for a period of time. A conviction could result in debarment for aspecific period of time. Similar Government oversight exists in most othercountries where we conduct business.

We are party to various legal actions and claimsarising in the ordinary course of our business. In our opinion, we haveadequate legal defenses for each of the actions and claims, and we believe thattheir ultimate disposition will not have a material adverse effect on ourconsolidated financial position, results of operations or liquidity (see Part II.Other Information, Item 1. Legal Proceedings).

Our future operatingresults depend on our ability to successfully compete in a highly competitiveindustry that is characterized by rapid technological change and to effectivelyintegrate acquired companies into our existing operations. Continuation of ourrecent revenue growth rate depends primarily on our ability to identify andacquire suitable acquisition targets, as well as our ability to increasenon-acquisition related revenues. We have participated successfully in thedefense industry consolidation through strategic business acquisitions and bystreamlining our existing operations; however, we cannot guarantee that we willhave sufficient funds available to us to continue investing in businessacquisitions. Our debt arrangements restricts our ability and the ability ofour subsidiaries to incur more debt, make certain investments, repurchasestock, create liens, enter into transactions with affiliates, enter into salelease-back transactions, merge or consolidate, and transfer or sell assets.

**Critical Accounting Policies**

Our consolidated financialstatements and accompanying notes are prepared in accordance with accountingprinciples generally accepted in the United States of America. Preparingconsolidated financial statements requires us to make estimates and assumptionsthat affect the reported amounts of assets, liabilities, revenues and expenses,and disclosures of contingent assets and liabilities. These estimates andassumptions are affected by the application of our accounting policies. Oursignificant accounting policies are described in Note 1 to the ConsolidatedFinancial Statements included in our March 31, 2005 Form 10-K.There were no significant changes in the Company’s critical accounting policiesduring the three months ended June 30, 2005. Critical accounting policiesare those that require application of management’s most difficult, subjectiveor complex judgments, often as a result of the need to make estimates about theeffects of matters that are inherently uncertain and may change in subsequentperiods. Critical accounting policies for us include revenue recognition oncontracts and contract estimates, valuation of goodwill and acquired intangibleassets, pension plan and postretirement benefit plan obligations, accountingfor income taxes and other management estimates.

**Results of Continuing Operations**

Our operating cycle is long-term and involves varioustypes of production contracts and varying production delivery schedules.Accordingly, operating results of a particular period, or year-to-yearcomparisons of recorded revenues and earnings, may not be indicative of futureoperating results.

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Members of our senior management team regularly reviewkey performance metrics and the status of operating initiatives within ourbusiness. These key performance indicators are primarily revenues, operatingincome and bookings. We review this information on a monthly basis through extensiveoperating segment reviews which include, among other operating issues, detaileddiscussions related to significant programs, proposed investments in newbusiness opportunities or property, plant, and equipment and integration andcost reduction efforts. The following table presents a summary comparison ofthe key performance metrics, other significant financial metrics andsignificant liquidity metrics monitored by senior management of the Company.
| ** **                               | ** ** | **Three Months Ended** | ** ** | ** **  | ** ** |
|------------------------------------------|------------|----------------------------------|------------|-------------|------------|
| ** **                               | ** ** | **June 30,**                | ** ** | **Percent** | ** ** |
| ** **                               | ** ** | **2005**                         | ** ** | **2004**    | ** ** | **Change** | ** ** |
| ** **                               | ** ** | **(in thousands)**          | ** ** | ** **  | ** ** |
| **Key  performance metrics**             |       |                             |       |        |       |   |   |
| Revenues                                 |       | $                                | 338,459    |        | $          | 291,151 |   | 16.2 | % |
| Operating income                         |       | $                                | 35,058     |        | $          | 28,500 |   | 23.0 | % |
| Bookings                                 |       | $                                | 520,504    |        | $          | 343,251 |   | 51.6 | % |
| **Other  significant financial metrics** |       |                             |       |        |       |   |   |
| Interest and related  expenses           |       | $                                | 12,211     |        | $          | 8,994 |   | 35.8 | % |
| Income taxes                             |       | $                                | 10,151     |        | $          | 8,207 |   | 23.7 | % |
| **Significant  liquidity metrics(A)**    |       |                             |       |        |       |   |   |
| Free cash flow                           |       | $                                | (20,882    | )           | $          | 13,255 |   | (257.5 | )% |
| EBITDA                                   |       | $                                | 44,920     |        | $          | 37,963 |   | 18.3 | % |

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(A)       SeeLiquidity and Capital Resources and Use of Non-GAAP Financial Measures foradditional discussion and information.

*Three-Month PeriodEnded June 30, 2005, Compared with the Three-Month Period Ended June 30,2004*

**Revenues and operating income  **Consolidatedrevenues and operating income for the three month period ended June 30,2005 increased $47.3 million and $6.6 million, respectively, to $338.5 millionand $35.1 million, respectively, as compared with the corresponding period inthe prior year. The increase in revenues was largely driven by increasedshipments of rugged computer systems, combat display workstations, and securecommunications equipment. Also contributing to the overall increase in revenueswas our December 14, 2004 acquisition of NVEC and our April 15, 2005acquisition of Codem, which contributed incremental (current quarter overcorresponding prior-year quarter) revenues of $20.8 million. Partiallyoffsetting the overall increase in revenues were decreased ship propulsionengineering volume and lower shipments of certain ground-based electro-opticaltargeting and fire control subsystems and surveillance receivers.

The growth in operating income in the first quarter offiscal 2006, as compared with the corresponding prior year period, was dueprimarily to the overall increase in revenues and strong margins from certainrugged computer systems and secure communication equipment. The two acquiredoperating units, NVEC and Codem, contributed $4.7 million to operating income forthe three-month period ended June 30, 2005.

**Bookings  **Wedefine bookings as the value of contract awards received from the U.S. government,for which the U.S. government has appropriated funds, plus the value ofcontract awards and orders received from customers other than the U.S. government.Bookings for the three months ended June 30, 2005 increased $177.3million, versus the same period in the prior year, to $520.5 million. Theprimary drivers of the increase were stronger bookings for ground-basedelectro-optical sighting and targeting systems, ground-based vehicle diagnosticsystems, combat display workstations and rugged computer systems. Our NVEC andCodem acquisitions also contributed combined bookings of $24.3 million.

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**Interest and related expenses  **Increased$3.2 million for the three-month period ended June 30, 2005, as compared withthe same period in the prior year, to $12.2 million. The increase in interestand related expenses is primarily the result of an increase in our averageborrowings outstanding for the three-month period ended June 30, 2005, ascompared with the corresponding period in the prior-year, due to our December 23,2004, issuance of  $200 million of 67¤8%senior subordinated notes (see Liquidity and Capital Resources below). We hadno borrowings outstanding under our revolving credit facility at June 30,2005 and 2004.

**Incometaxes  **The provision for income taxes from continuingoperations for the three-month period ended June 30, 2005, reflects anestimated annual effective income tax rate of approximately 42.0%, as comparedwith 42.8% in the same period last year. Factors contributing to the decreasein our effective tax rate include the impact of certain non-deductible expensesand certain new tax deductions, and the expected improvement in profitabilityat C4I Group’s U.K. operation.

***Operating Segments***

Thefollowing table sets forth, by operating segment, revenues, operating incomeand operating margin, and the percentage increase or decrease of those items,as compared with the corresponding prior-year period:
| ** **       | ** ** | **Three Months Ended  June 30,**            | ** ** | **Percent Changes** | ** ** |
|------------------|------------|------------------------------------------------------------|------------|--------------------------|------------|
| ** **       | ** ** | **2005**                                                   | ** ** | **2004**                 | ** ** | **2005 vs. 2004** | ** ** |
| ** **       | ** ** | **(in thousands, except for  percentages)** | ** ** | ** **               | ** ** |
| **C4I Group**    |       |                                                       |       |                     |       |   |   |   |   |
| Revenues         |       | $                                                          | 190,491    |                     | $          | 158,583 |   |   | 20.1 | % |   |
| Operating income |       | $                                                          | 19,488     |                     | $          | 15,120 |   |   | 28.9 | % |   |
| Operating margin |       | 10.2                                                       | %          | 9.5                      | %          |   | 7.3 | % |   |
| **SR Group**     |       |                                                       |       |                     |       |   |   |   |   |
| Revenues         |       | $                                                          | 147,968    |                     | $          | 132,568 |   |   | 11.6 | % |   |
| Operating income |       | $                                                          | 15,788     |                     | $          | 13,426 |   |   | 17.6 | % |   |
| Operating margin |       | 10.7                                                       | %          | 10.1                     | %          |   | 5.9 | % |   |
| **Other**        |       |                                                       |       |                     |       |   |   |   |   |
| Operating loss   |       | $                                                          | (218       | )                        | $          | (46 | ) |   | (373.9 | )% |   |

 

*Three-Month PeriodEnded June 30, 2005, Compared with the Three-Month Period Ended June 30,2004*

**C4I Group  **Revenuesincreased $31.9 million, or 20.1%, to $190.5 million for the three-month periodended June 30, 2005, as compared with the corresponding prior-year period.Operating income increased $4.4 million, or 28.9%, to $19.5 million. Theincrease in revenue was largely attributable to increased shipments of ruggedcomputer systems, combat display workstations, secure communications equipmentand surveillance tuners, and a power conversion system for the U.S. Navy. Our April 15,2005 acquisition of Codem contributed incremental revenues of $5.8 million tothe three-month period ended June 30, 2005. Partially offsetting theoverall increase in revenues were decreased ship propulsion engineering volumeand lower shipments of certain surveillance receivers.

The increase in operating income for the three-monthperiod ended June 30, 2005, as compared to the corresponding period in theprior year, was primarily driven by the overall increase in revenues, as well asthe $1.4 million incremental operating income contribution from our acquisitionof Codem. Operating income for the three months ended June 30, 2004 wasunfavorably impacted by $0.8 million in severance-related charges and $0.6million of inventory write-offs on certain rugged computer programs.

**SR Group  **Revenuesincreased $15.4 million, or 11.6%, to $148.0 million for the three-month periodended June 30, 2005, as compared with the corresponding prior-year period.Operating income increased 

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$2.4 million, or 17.6%, to$15.8 million. The increase in revenues was primarily attributable to our December 14,2004 acquisition of NVEC which contributed incremental revenues of $15.0million. Revenues were also favorably impacted by increased shipments ofunmanned threat simulation devices and flight range test and evaluationequipment, increased shipments of satellite-based focal plane arrays andcertain vehicle modernization and diagnostics kits. Partially offsetting theoverall increase in revenues were lower shipments of a certain ground-basedelectro-optical target acquisition and fire control subsystems.

The increase in operating income for the three-monthperiod ended June 30, 2005, as compared with the corresponding period inthe prior year, was primarily driven by our acquisition of NVEC, whichcontributed $3.3 million of operating income, as well as strong margins on acertain infrared assemblies and formation flying systems. The increase inoperating income was partially offset by decreased margins on a mobile launchsystem. The corresponding period in the prior year was unfavorably impacted bya $1.0 million inventory write-down related to uncooled infrared projects.

**Other  **Theoperating loss in Other consists of certain non-allocable general andadministrative expenses at DRS corporate.

**Results of Discontinued Operations**

Aconsolidated summary of the operating results of the discontinued operationsfor the three-month period ended June 30, 2004 is as follows: 
| ** **                             | ** ** | **(in thousands)** | ** ** |
|----------------------------------------|------------|-------------------------|------------|
| Revenues                               |       |                    | $          | 9,578 |   |   |
| Earnings before  taxes                 |       |                    | $          | 1,293 |   |   |
| Income tax  expense                    |       |                    | 493        |   |   |
| Earnings from  discontinued operations |       |                    | $          | 800 |   |   |

 

**Liquidityand Capital Resources**
| ** **                                                                    | ** ** | **Three Months Ended  June 30,** | ** ** |
|-------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                                    | ** ** | **2005**                                        | ** ** | **2004** | ** ** |
| ** **                                                                    | ** ** | **(in thousands)**                         | ** ** |
| Net cash (used  in) provided by operating activities of continuing operations |       | $                                               | (14,546    | ) | $ | 20,666 |   |
| Net cash (used  in) provided by operating activities                          |       | $                                               | (14,546    | ) | $ | 24,876 |   |
| Net cash used in  investing activities of continuing operations               |       | $                                               | (58,892    | ) | $ | (6,732 | ) |
| Net cash used in  investing activities                                        |       | $                                               | (58,892    | ) | $ | (6,939 | ) |
| Net cash used in  financing activities of continuing operations               |       | $                                               | (9,434     | ) | $ | (10,132 | ) |
| Net cash used in  financing activities                                        |       | $                                               | (9,434     | ) | $ | (10,140 | ) |

 

**Operating activities**   Duringthe three months ended June 30, 2005, we used $14.5 million of operatingcash flow, $39.4 million more than the $24.9 million of operating cash flowgenerated in the same period in the prior year. Earnings from continuingoperations increased $3.0 million to $14.0 million. Non-cash adjustments toreconcile net earnings to cash flows from operating activities increased $1.0million over the corresponding prior fiscal period. These non-cash adjustmentsprimarily consist of depreciation and amortization of fixed assets and acquiredintangible assets, stock-based compensation, changes in deferred income taxes,non-cash adjustments to inventory reserves and provision for doubtful accounts,amortization and write-offs of deferred financing fees, which are recognized asa component of interest and related expenses, and minority interest. Theprimary drivers of the increase in these non-cash adjustments were thedepreciation of fixed assets, related to increased capital investments in thecurrent and prior periods, a net increase in inventory reserves and provisionfor doubtful accounts, and changes in deferred taxes.

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Changes in assets and liabilities, net of effects frombusiness combinations, used $40.7 million for the three months ended June 30,2005. Accounts receivable and inventories used $2.5 million and $8.0 million ofcash, respectively, for the three months ended June 30, 2005. Increasedinventories in certain of our electro-optical infrared sighting and targetingbusinesses, power distribution control businesses and signal intelligencebusinesses were off-set, in part, by decreased inventories in certain of ourcombat display workstations and training and test systems. Accounts payableincreased $10.5 million. Purchases required to build inventories exceededrelated payments. Accrued expenses and other current liabilities used $30.3 millionof cash during the quarter. The cash used by these accounts primarily resultedfrom interest payments on the 67¤8% seniorsubordinated notes due 2013, certain compensation payments and the settlementof the Miltope litigation. Net liquidations in customer advances used $7.2million in cash.

**Investing activities  **Wepaid $6.3 million for capital improvements during the three months ended June 30,2005, as compared with $7.4 million in the corresponding prior-year period. Weexpect our capital expenditures to range between $35.0 million to $45.0 millionin fiscal 2006, as we continue to upgrade our facilities and integrate recentacquisitions into our existing businesses. Payments pursuant to businesscombinations, net of cash acquired, totaled $52.4 million in connection withour acquisitions of Codem and Walkabout and included $6.7 million of additionalconsideration paid to satisfy an earn-out obligation related to our acquisitionof DKD, Inc. (now operating as a component of DRS Infrared TechnologiesL.P.)

Our long-term growth strategy includes a disciplinedprogram of acquiring companies that are both strategic to our business andexpected to be accretive to our earnings. Continuation of our acquisitionprogram will depend, in part, on the availability of financial resources at acost of capital that is acceptable to us. We would expect to utilize cashgenerated by operations, as well as cash available under our Credit Facility,which also may include the renegotiation of our credit limit to finance suchacquisitions. Other sources of capital could include proceeds from a sale ofour common stock and the placement of debt. We continually evaluate the capitalmarkets climate and may access such markets when the circumstances appearfavorable to us. We believe that sufficient capital resources will be availableto us from one or several of these sources to finance future acquisitions thatwe determine to be strategic and accretive to our net earnings. However, noassurances can be made that such financing will be available and at a cost thatis acceptable to us, that we will identify acceptable acquisition candidates,or that such acquisitions will be accretive to earnings.

**Financing Activities**   Forthe three months ended June 30, 2005, financing activities used $9.4million in cash. Payments on long-term debt included $10.7 million of paymentson our term loan, $10.0 million of which was paid at our discretion. Ourdiscretionary term loan payments caused us to record a $0.2 million charge tointerest and related expenses for the write-off of a portion of the relateddebt issuance costs. We repaid $2.0 million in advanced interest that wereceived in connection with the new notes issued on December 23, 2004 (seebelow). On June 30, 2005, we paid cash dividends of $0.8 million tostockholders of record as of June 15, 2005. These payments were partiallyoffset by cash received from the exercise of stock options.

On October 30, 2003, we issued $350.0 millionaggregate principal amount of 67¤8% SeniorSubordinated Notes, due November 1, 2013 (the Notes).  The Notes were issued under an indenture withThe Bank of New York (the Indenture). Subject to a number of exceptions, theIndenture restricts our ability and the ability of our subsidiaries to incurmore debt, make certain investments, repurchase stock, create liens, enter intotransactions with affiliates, enter into sale lease-back transactions, merge orconsolidate, and transfer or sell assets. The Notes are unconditionallyguaranteed, jointly and severally, by DRS’s current and future wholly-owneddomestic subsidiaries. The foreign subsidiaries and certain domesticsubsidiaries of DRS do not guarantee the Notes. See Note 15, ‘‘Guarantor andNon-guarantor Financial Statements’’ for additional disclosures.

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On December 23, 2004, we issued an additional$200.0 million aggregate principal amount of 67¤8% SeniorSubordinated Notes due November, 2013. The notes were offered as additionaldebt securities under the Indenture with identical terms and same guarantors asthe existing Notes. The new notes were priced at 105% of the principal amount,reflecting an effective interest rate of approximately 6.13%. The net proceedsof the offering were approximately $208.3 million (including $2.0 million ofadvanced interest on the new notes that had accrued from November 1, 2004to December 23, 2004), after deducting $3.7 million in commissions andother costs related to the debt issuance. On May 1, 2005, the advancedinterest of $2.0 million was repaid in conjunction with the semi-annualinterest payments on the Notes.

The book value and fair value of the seniorsubordinated debt at June 30, 2005 was approximately $559.4 million and$569.3 million, respectively.

We have a $411.0 million credit facility (the CreditFacility), consisting of a $175.0 million senior secured revolving line ofcredit and a $236.0 million senior secured term loan, and have the ability toborrow up to two additional term loans totaling $100.0 million at any timeprior to maturity. As of June 30, 2005 and March 31, 2005, we had$156.9 million and $167.5 million, respectively, of term loans outstandingagainst the Credit Facility. The Credit Facility is guaranteed by substantiallyall of our domestic subsidiaries. In addition, it is collateralized by liens onsubstantially all of the assets of our subsidiary guarantors’ and certain ofour other subsidiaries’ assets and by a pledge of certain of our non-guarantorsubsidiaries’ capital stock. The term loan and the revolving credit facilitywill mature in November 2010 and November 2008, respectively. Theweighted average interest rate on our term loans was 5.1% as of June 30,2005 (4.4% as of March 31, 2005), excluding the impact of the amortizationof debt issuance costs. As of June 30, 2005, we had $142.3 millionavailable under our revolving line of credit. There were no borrowings underour revolving line of credit as of June 30, 2005 and March 31, 2005.

From time to time, we enter into standbyletter-of-credit and bank guarantee agreements with financial institutions andcustomers, primarily relating to the guarantee of our future performance oncertain contracts to provide products and services and to secure advancepayments we have received from our customers. As of June 30, 2005, $37.4million was contingently payable under letters of credit and bank guarantees.Approximately $3.8 million and $0.9 million in letters of credit and bankguarantees as of June 30, 2005 were issued outside of the Credit Facilityand by a bank agreement for our U.K. subsidiary, respectively, and are notconsidered when determining the availability under our revolving line ofcredit.

We have a mortgage note payable that is secured by alien on our facility located in Palm Bay, Florida, and bears interest at a rateequal to the one-month LIBOR plus 1.65%. The balance of the mortgage as of June 30,2005 and March 31, 2005 was $2.9 million and $3.0 million, respectively. Monthlypayments of principal and interest totaling approximately $34 thousand willcontinue through December 1, 2016.

Based upon our anticipated level of future operations,we believe that our existing cash and cash equivalents balances and our cashgenerated from operating activities, together with available borrowings underour amended and restated facility, will be adequate to meet our anticipatedrequirements for working capital, capital expenditures, commitments, researchand development expenditures, contingent purchase prices, program and otherdiscretionary investments, and interest and principal payments for theforeseeable future. There can be no assurance, however, that our business willcontinue to generate cash flow at current levels. If we are unable to generatesufficient cash flow from operations to service our debt, we may be required tosell assets, reduce capital expenditures, refinance all or a portion of ourexisting debt or obtain additional financing. Our ability to make scheduledprincipal payments or to pay interest on or to refinance our indebtednessdepends on our future performance and financial results, which, to a certainextent, are subject to general conditions in or affecting the defense industryand to general economic, political, financial, competitive, legislative andregulatory factors beyond our control. There can be no assurance thatsufficient funds will be available to enable us to service our indebtedness,make necessary capital expenditures or to make discretionary investments.

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**Free Cash Flow**   Freecash flow represents net cash provided by operating activities of continuingoperations less capital expenditures. Free cash flow for the three months endedJune 30, 2005 was a deficit of $20.9 million, or $34.2 million less than$13.3 million in the corresponding period in the prior year. See ‘‘Use ofNon-GAAP Financial Measures’’ below for additional discussion and information.

**EBITDA**   Earningsfrom continuing operations before net interest and related expenses (primarilythe amortization of debt issuance costs), income taxes, depreciation andamortization (EBITDA) for the three month period ended June 30, 2005 was$44.9 million, or $6.9 million greater than the $38.0 million in thecorresponding period in the prior year. See ‘‘Use of Non-GAAP FinancialMeasures’’ below for additional discussion and information.

**ContractualObligations**   Our contractual obligations and commitmentsprincipally include obligations associated with our outstanding indebtedness,future minimum operating lease obligations, acquisition earn-outs and purchaseobligations as set forth in the table below:
| ** **                     | ** ** | **As of June 30, 2005** | ** ** |
|--------------------------------|------------|---------------------------------------------|------------|
| ** **                     | ** ** | **Payments Due by Period**   | ** ** |
| ** **                     | ** ** | **Total**                                   | ** ** | **Less than   1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than   5 years** | ** ** |
| ** **                     | ** ** | **(in thousands)**                     |       |
| Long-term debt                 |       | $                                           | 709,870    |   | $ | 2,606 |   | $ | 5,133 |   | $ | 150,266 |   | $ | 551,865 |   |
| Operating lease  commitments   |       | 106,475                                     |       | 24,015 |   | 33,970 |   | 24,232 |   | 24,258 |   |
| Acquisition  earn-outs(A)      |       | 42,221                                      |       | 15,441 |   | 20,547 |   | 6,233 |   | — |   |
| Purchase  obligations(B)       |       | 25,145                                      |       | 20,722 |   | 4,423 |   | — |   | — |   |
| Total contractual  obligations |       | $                                           | 883,711    |   | $ | 62,784 |   | $ | 64,073 |   | $ | 180,731 |   | $ | 576,123 |   |
|                                |            |                                             |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

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(A)  Represents contingent purchase price payments or “earn-outs”for certain of our acquisitions that are contingent upon the receipt ofpost-acquisition revenues or orders at those acquired businesses. Any amountthat we pay for the earn-outs will be reported as cash paid for acquisition ofbusiness within investing activities on the Consolidated Statement of CashFlows and will be recorded as an increase to goodwill for the acquisition. Thelast earn-out period expires on December 31, 2009.

(B)   Includes amounts under legally enforceableagreements for goods and services with defined terms as to quantity, price andtiming of delivery. Excludes purchase orders for products and services underfirm government contracts for which we have full recourse under normal contracttermination clauses.

Weenter into standby letter-of-credit agreements and bank guarantees withfinancial institutions and customers primarily relating to the guarantee of ourfuture performance on certain contracts to provide products and services and tosecure advance payments we have received from certain international customers. AtJune 30, 2005, we had contingent liabilities on outstanding letters ofcredit and bank guarantees as follows:
| ** **                 | ** ** | **Contingent Payments Due by Period** | ** ** |
|----------------------------|------------|-----------------------------------------------------------|------------|
| ** **                 | ** ** | **Total**                                                 | ** ** | **Less than   1 year** | ** ** | **1-3 years** | ** ** | **More   than 3   years** | ** ** |
| ** **                 | ** ** | **(in thousands)**                                   | ** ** |
| Standby letters  of credit |       | $                                                         | 36,516     |   |   | $ | 24,006 |   |   | $ | 12,510 |   |   | $ | — |   |   |
| Bank guarantees            |       | $                                                         | 945        |   |   | $ | 901 |   |   | $ | 44 |   |   | $ | — |   |   |

 

**Backlog**   Fundedbacklog represents products or services that our customers have committed bycontract to purchase from us. Due to the general nature of defense procurementand contracting, the operating cycle for our military business typically hasbeen long term. Military backlog currently consists of various production andengineering development contracts with varying delivery schedules and projecttimetables. Our backlog also includes a significant amount of commercialoff-the-shelf (COTS)-based 

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systems for the military,which have shorter delivery times. Accordingly, revenues for a particularperiod, or year-to-year comparisons of reported revenues and related backlogpositions, may not be indicative of future results. Backlog at June 30,2005 was $1.49 billion, as compared with $1.3 billion at March 31, 2005.We booked $520.5 million in new orders for the three months ended June 30,2005.

**Internal Research and Development**   Inaddition to customer-sponsored research and development, we also engage ininternal research and development. These expenditures reflect our continuedinvestment in new technology and diversification of our products. Expendituresfor internal research and development for the three-month periods ended June 30,2005 and 2004 was $9.2 million and $8.3 million, respectively.

**Useof Non-GAAP Financial Measures**   Certain disclosures inthis document include ‘‘non-GAAP (Generally Accepted Accounting Principles) financialmeasures.’’ A non-GAAP financial measure is defined as a numerical measure of acompany’s financial performance that excludes or includes amounts so as to bedifferent than the most directly comparable measure calculated and presented inaccordance with GAAP in the Consolidated Balance Sheets, Statements ofEarnings, or Statements of Cash Flows of the Company. The components of EBITDAand a reconciliation of EBITDA and ‘‘free cash flow’’ with the most directlycomparable GAAP measure follows:
| ** **                                                                    | ** ** | **Three Months Ended  June 30,** | ** ** |
|-------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                                    | ** ** | **2005**                                        | ** ** | **2004** | ** ** |
| ** **                                                                    | ** ** | **(in thousands)**                         | ** ** |
| Earning from  continuing operations                                           |       | $                                               | 14,018     |   | $ | 10,971 |   |
| Income taxes                                                                  |       | 10,151                                          |       | 8,207 |   |
| Interest income                                                               |       | (1,877                                          | )          | (129 | ) |
| Interest and  related expenses                                                |       | 12,211                                          |       | 8,994 |   |
| Depreciation and  amortization                                                |       | 10,417                                          |       | 9,920 |   |
| EBITDA(a)                                                                     |       | 44,920                                          |       | 37,963 |   |
| Income taxes                                                                  |       | (10,151                                         | )          | (8,207 | ) |
| Interest income                                                               |       | 1,877                                           |       | 129 |   |
| Interest and  related expenses                                                |       | (12,211                                         | )          | (8,994 | ) |
| Deferred income  taxes                                                        |       | (522                                            | )          | (915 | ) |
| Changes in assets  and liabilities, net of effects from business combinations |       | (40,679                                         | )          | (1,460 | ) |
| Other, net                                                                    |       | 2,220                                           |       | 2,150 |   |
| Net cash (used in) provided by operating activities                           |       | (14,546                                         | )          | 20,666 |   |
| Capital  expenditures                                                         |       | (6,336                                          | )          | (7,411 | ) |
| Free cash flow  (deficit)(b)                                                  |       | $                                               | (20,882    | ) | $ | 13,255 |   |

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(a)    We define EBITDA as net earnings from continuingoperations before net interest and related expenses (principally amortizationof debt issuance costs), income taxes, depreciation and amortization. The tableabove presents the components of EBITDA and a reconciliation of EBITDA to netcash (used in) provided by operating activities of continuing operations.EBITDA is presented as additional information because we believe it to be auseful indicator of our debt capacity and our ability to service our debt.EBITDA is not a substitute for operating income, net earnings or cash flowsfrom operating activities of continuing operations, as determined in accordancewith GAAP. EBITDA is not a complete net cash flow measure because EBITDA is ameasure of liquidity that does not reflect cash flows from discontinuedoperations, and does not include reductions for cash payments for an entity’sobligation to service its debt, fund its working capital, businessacquisitions, and capital expenditures and pay its income taxes. Rather, EBITDAis one potential indicator of an entity’s ability to fund these cashrequirements. EBITDA also is not a complete measure of an entity’sprofitability because it does not include costs and expenses for depreciationand amortization, interest 

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and related expenses andincome taxes, and it also does not include the results of operations ofdiscontinued operations. EBITDA, as we define it, may differ from similarlynamed measures used by other entities and, consequently, could be misleadingunless all entities calculate and define EBITDA in the same manner.

(b)   Free cash flow is defined asnet cash provided by operating activities of continuing operations less capitalexpenditures. We disclose free cash flow (deficit) because we believe that itis useful in evaluating our financial performance and measuring cash flowsgenerated that are available for investing and financing activities. We believethat the most directly comparable GAAP financial measure to free cash flow isnet cash (used in) provided by operating activities of continuing operations.Free cash flow represents cash generated after paying for interest onborrowings, income taxes, capital expenditures and changes in working capital,but before repaying outstanding debt, investing cash to acquire businesses andmaking other strategic investments, and it does not reflect cash flows ofdiscontinued operations. Thus, key assumptions underlying free cash flow arethat the Company will be able to refinance its existing debt when it matureswith new debt and that the Company will be able to finance any new acquisitionsit makes by raising new debt or equity capital. We also use free cash flow as aperformance measure as a component of our management incentive compensationprogram. Free cash flow, as we define it, may differ from similarly namedmeasures used by other entities and, consequently, could be misleading unlessall entities calculate and define free cash flow in the same manner.

**Item3. Quantitative and Qualitative Disclosures About Market Risk**

**Market Risk**

See Part II, Item 7A,‘‘Qualitative and Quantitative Disclosures About Market Risk,’’ of the Company’sAnnual Report on Form 10-K for the fiscal year ended March 31,2005 for a discussion of the Company’s exposure to market risks. There havebeen no significant changes in those risks since the filing of the abovementioned Annual Report.

**Item4. Controls and Procedures**

(a)    Disclosure Controls and Procedures. The Company’smanagement, with the participation of the Company’s Chief Executive Officer andChief Financial Officer, has evaluated the effectiveness of the Company’sdisclosure controls and procedures (as such term is defined in Rules 13a-15(e) and15d-15(e) under the Securities Exchange Act of 1934, as amended (the‘‘Exchange Act’’)) as of the end of the period covered by this report. Based onsuch evaluation, the Company’s Chief Executive Officer and Chief FinancialOfficer have concluded that, as of the end of such period, the Company’sdisclosure controls and procedures are effective in recording, processing,summarizing and reporting, on a timely basis, information required to bedisclosed by the Company in the reports that it files or submits under theExchange Act.

(b)   Internal Control Over Financial Reporting. Therehave not been any changes in the Company’s internal control over financialreporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) underthe Exchange Act) during the three months ended June 30, 2005 that havematerially affected, or are reasonably likely to materially affect, the Company’sinternal control over financial reporting.

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**PART II. OTHER INFORMATION**

**Item 1. Legal Proceedings**

We are party to various legal actions and claimsarising in the ordinary course of its business. In our opinion, we haveadequate legal defenses for each of the actions and claims.

Various legal actions, claims, assessments and othercontingencies arising in the normal course of our business, including certainmatters described below, are pending against us and certain of itssubsidiaries. These matters are subject to many uncertainties, and it is possiblethat some of these matters could be ultimately decided, resolved or settledadversely. We have recorded accruals for losses related to those matters that weconsider to be probable and that can be reasonably estimated. Although theultimate amount of liability at June 30, 2005 that may result from thosematters for which we have recorded accruals is not ascertainable, we believethat any amounts exceeding our recorded accruals should not materially affectour financial condition or liquidity; however, such amounts, if any, could besignificant to the results of operations of a reporting period.

On October 3, 2001, a lawsuit was filed byMiltope Corporation and IV Phoenix Group, Inc., against DRS Technologies, Inc.,DRS Electronic Systems, Inc. and a number of individual defendants,several of whom had been employed by DRS Electronic Systems, Inc. Theplaintiffs’ claims against DRS related generally to the activities of certainformer employees of IV Phoenix Group and the hiring of some of those employeesby us. On May 4, 2005, DRS entered into a settlement agreement, pursuantto which we agreed to pay $7.5 million to the plaintiffs, and litigationinvolving the parties was resolved to their satisfaction, with the eliminationof all outstanding claims. A charge of $6.5 million was recorded in the fourthquarter of fiscal 2005 to increase our accrual for the matter to $7.5 millionas of March 31, 2005. The settlement payment was made on May 5, 2005.

Some environmental laws, such as the ComprehensiveEnvironmental Response, Compensation and Liability Act of 1980 (also known asCERCLA or the Superfund law) and similar state statutes, can impose liabilityfor the entire cost of the clean up of contaminated sites upon any of thecurrent or former site owners or operators (or upon parties who send waste tothese sites), regardless of the lawfulness of the original activities that ledto the contamination. In July 2000, prior to its acquisition by IDT, andprior to DRS’s acquisition of IDT, Tech-Sym Corporation received a Section 104(e) Requestfor Information from the National Park Service (NPS), pursuant to CERCLA,regarding a site known as the Orphan Mine site in the Grand Canyon NationalPark, Arizona, which is the subject of an NPS investigation regarding the presenceof residual radioactive materials and contamination. A corporation of whichTech-Sym is an alleged successor operated this uranium mine from 1956 to 1967.In 1962, the land was sold to the U.S. government and the alleged predecessorof Tech-Sym was given a 25-year mining lease.  In 1967, the mining rights were transferred toa third party by a trustee in bankruptcy, and we believe that the mine wasoperated by such third party until approximately 1969. We understand that thereare other companies in the chain of title to the mining rights subsequent toTech-Sym’s alleged predecessor, and, accordingly, that there are otherpotentially responsible parties (PRPs) for the environmental conditions at thesite, including the U.S. government as owner, operator and arranger at thesite. During its period of ownership, IDT retained a technical consultant inconnection with this matter, who conducted a limited, preliminary review ofsite conditions and communicated with the NPS regarding actions that may be requiredat the site by all of the PRPs. The initial remediation estimate for the CERCLArelated cleanup of the Operable Unit 1 (the upper mine area) site was $0.8million and a second, independent evaluation estimated remediation costs at$1.0 million. On February 6, 2005, the NPS sent us an EngineeringEvaluation/Cost Analysis Work Plan under CERCLA (CERCLA Letter) with regards toOperable Unit 1 (the upper mine area) of the Orphan Mine site. In our view,this CERCLA Letter included additional cleanup not covered by CERCLA. TheCERCLA Letter also requested (a) payment of $0.5 million for costsincurred by the NPS related to the Orphan Mine, and (b) a ‘‘good faithoffer’’ to conduct the response activity outlined by 

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the NPS and to reimbursethe NPS for future costs. The NPS advised that a similar letter has been sentto another PRP. We have initiated discussions with such other PRP and with NPS,and have engaged a technical consultant to evaluate the existing documentationand the site in depth. As of June 30, 2005, we had approximately $1.3million accrued in connection with the potential remediation effort at theOrphan Mine site. In the event of remediation, we may incur charges in excessof that amount and/or may have our liability reduced to the extent that otherPRPs are required to participate in the remediation effort. We will continue toevaluate our estimate to the extent additional information arises.

On November 24, 2004,a lawsuit was filed in the United States District Court for the District ofColorado by ITT Industries, Inc., a corporation of the State of Indiana,against DRS Tactical Systems, Inc. The plaintiff alleges DRS breached asubcontract between DRS and ITT and seeks damages in excess of $5.0 million.The claim generally relates to the performance by DRS and its predecessors, DRSTactical Systems (West), Inc. and Catalina Research Inc., under asubcontract for a component being supplied to ITT under ITT’s prime contractwith the U.S. Army. On February 14, 2005, DRS Tactical Systems, Inc.filed its answer, affirmative defenses and counterclaims. The counterclaimsallege breach of contract and breach of duties of good faith and fair dealingand seek damages of no less than $1.8 million. We and ITT have agreed toconduct nonbinding mediation. On April 13, 2005, the District Court ofColorado granted the parties’ joint motion to stay the scheduling order until September 1,2005 to allow for such mediation. We continue to believe that we havemeritorious defenses and counterclaims and do not believe the action will havea material adverse effect on our financial position, results of operations orliquidity.

**Item 6. Exhibits**

(a)          Exhibits
| Exhibit No. | ** ** | **Description**                                                                                                                                   |
|------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.1*            |       | Amendment No. 2 to  the DRS Technologies, Inc. Amended and Restated 1996 Omnibus Plan, Effective  July 6, 2005.                         |
| 10.2*            |       | Form of Stock Option Agreement relating to options  granted under the DRS Technologies, Inc. Amended and Restated 1996 Omnibus Plan               |
| 10.3*            |       | Form of Restricted Stock Agreement relating to restricted  stock granted under the DRS Technologies, Inc. Amended and Restated 1996  Omnibus Plan |
| 10.4*            |       | Form of Restricted Stock Option Agreement relating  to restricted stock units granted under the DRS Technologies, Inc. 1996 Omnibus  Plan         |
| 31.1*            |       | Certification of Chief Executive Officer pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002                                          |
| 31.2*            |       | Certification of Chief  Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of  2002                                         |
| 32.1*            |       | Certification of Chief  Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of  2002                                         |
| 32.2*            |       | Certification of Chief  Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of  2002                                         |

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*                    Filed herewith

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.
|                            | DRS  TECHNOLOGIES, INC.  Registrant           |
|----------------------------|-----------------------------------------------|
| Date: August 8,  2005 | /s/ RICHARD A. SCHNEIDER                      |
|                       | Richard A. Schneider*Chief Financial Officer* |

 

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