<PAGE>   1


                                  UNITED STATES

                       SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549

                                    FORM 10-K

[ ]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934 OR

[X]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM APRIL 1, 1996 TO
     DECEMBER 31, 1996

                         Commission file number 33-29035

                             K & F Industries, Inc.
             (Exact name of registrant as specified in its charter)

                  Delaware                                    34-1614845
              State or other jurisdiction of               (I.R.S. Employer
              incorporation or organization               Identification Number)

                      600 Third Avenue, New York, NY 10016
                  ----------------------------------- --------
               (Address of principal executive offices) (Zip Code)

     Registrant's telephone number, including area code: (212) 297-0900

     Securities registered pursuant to Section 12(b) of the Act: None

     Securities registered pursuant to Section 12(g) of the Act: None

     Indicate by check mark whether the registrant (1) has filed all reports
     required to be filed by Section 13 or 15(d) of the Securities Exchange Act
     of 1934 during the preceding 12 months (or for such shorter period that the
     registrant was required to file such report(s)), and (2) has been subject
     to such filing requirements for the past 90 days.

     Yes X  No
        ---   ---
     Indicate by check mark if disclosure of delinquent filers pursuant to Item
     405 of Regulation S-K is not contained herein, and will not be contained,
     to the best of registrant's knowledge, in definitive proxy or information
     statements incorporated by reference in Part III of this Form 10-K or any
     amendment to this Form 10-K. [X]

     There is no trading market for the Company's common stock. As of March 1,
     1997, there were 553,344 shares of Class A common stock outstanding and
     458,994 shares of Class B common stock outstanding.

     Documents Incorporated by Reference: None


<PAGE>   2



PART I

Item I.  Business

General

K & F Industries, Inc. ("K & F" or the "Company") was incorporated in Delaware
on March 13, 1989. K & F, through its wholly owned subsidiary, Aircraft Braking
Systems Corporation ("Aircraft Braking Systems"), is one of the world's leading
manufacturers of aircraft wheels, brakes and anti-skid systems for commercial
transport, general aviation and military aircraft. K & F sells its products to
virtually all major airframe manufacturers and most commercial airlines and to
the United States and certain foreign governments. During the nine months ended
December 31, 1996, approximately 90% of the Company's total revenues were
derived from sales made by Aircraft Braking Systems. In addition, K & F through
its wholly owned subsidiary, Engineered Fabrics Corporation ("Engineered
Fabrics"), believes it is the leading worldwide manufacturer of aircraft fuel
tanks, supplying approximately 90% of the worldwide general aviation and
commercial transport market and over one-half of the domestic military market.
Engineered Fabrics also manufactures and sells iceguards and specialty coated
fabrics used for storage, shipping, environmental and rescue applications for
commercial and military uses. During the nine months ended December 31, 1996,
approximately 10% of the Company's total revenues were derived from sales made
by Engineered Fabrics.

Aircraft Braking Systems and its predecessors have been leaders in the design
and development of aircraft wheels, brakes and anti-skid systems, investing
significant resources to refine existing braking systems, develop new
technologies and design braking systems for new airframes. The Company has
carefully directed its efforts toward expanding Aircraft Braking Systems'
presence in the commercial and general aviation segments of the aircraft
industry, focusing particularly on medium- and short-range commercial aircraft.
These aircraft typically make more frequent landings than long-range commercial
aircraft and correspondingly require more frequent replacement of brake parts.

The Aircraft Wheel and Brake Industry

Aircraft manufacturers are required to obtain regulatory airworthiness
certification of their commercial aircraft by the FAA, by the United States
Department of Defense in the case of military aircraft, or by similar agencies
in most foreign countries. This process, which is both costly and time
consuming, involves testing the entire airframe, including the wheels and
braking system, to demonstrate that the airframe in operation complies with
relevant governmental requirements for safety and performance. Generally,
replacement parts for a wheel and brake system which has been certified for use
on an airframe may only be provided by the original manufacturer of such wheel
and brake system. Since most modern aircraft have a useful life of 25 years or
more and require replacement of certain components of the braking system at
regular intervals, sales of replacement parts are expected to provide a long and
steady source of revenues for the manufacturer of the braking system.

Due to the cost and time commitment associated with the aircraft certification
process, competition among aircraft wheel and brake suppliers most often occurs
at the time the airframe manufacturer makes its initial installation decision.
Generally, competing suppliers submit proposals in response to requests for bids
from manufacturers. Selections are made by the manufacturer on the basis of
technological superiority, conformity to design criteria established by the
manufacturer and pricing considerations. Typically, general aviation aircraft
manufacturers will select one supplier of wheels and brakes for a particular
aircraft. In the commercial transport market, however, there will often be "dual
sourcing" of wheels and brakes. In such case, an airframe manufacturer may
approve and receive FAA certification to configure a particular airframe with
equipment provided by two or more wheel and brake manufacturers. Where two
suppliers have been certified, the aircraft customer, such as a major airline,
will designate the original equipment to be installed on the customer's
aircraft. Competition among two certified suppliers for that airline's initial
installation decision generally focuses on such factors as the system's
"cost-per-landing," given certain assumptions concerning the frequency of
replacements required and the impact that the weight of the system has on the
airline's ability to load the aircraft with passengers, freight or fuel, and the
technical operating performance characteristics of the wheel and brake systems.
Once selected, airlines infrequently replace entire wheel and brake systems
because of the expense.


                                        2

<PAGE>   3


In accordance with industry practice in the commercial aviation industry,
aircraft wheel and brake suppliers customarily sell original wheel and brake
equipment below cost in order to win selection of their products by airframe
manufacturers and airlines. These investments are typically recouped through
sale of replacement parts. Recovery of pricing concessions and design costs for
each airframe's wheels and brakes is contingent on a number of factors but
generally occurs prior to the end of the useful life of the particular aircraft.
Price concessions on original wheel and brake equipment are not customary in the
military market. Although manufacturers of military aircraft generally select
only one supplier of wheels and brakes for each model, the government has
approved at times the purchase of specific component replacement parts from
suppliers other than the original supplier of the wheel and brake system.

Products

AIRCRAFT BRAKING SYSTEMS. Aircraft Braking Systems is one of the world's leading
manufacturers of wheels, steel and carbon brakes and anti-skid systems for
commercial transport, general aviation and military aircraft. Aircraft Braking
Systems' strategic focus is on high-cycle, medium- and short-range commercial
aircraft. These aircraft typically make frequent landings and correspondingly
require more frequent replacement of brake parts. The braking systems produced
by Aircraft Braking Systems are either carbon or steel-based. While steel-based
systems typically are sold for less than carbon-based systems, such systems
generally require more frequent replacement because their steel brake pads tend
to wear more quickly. The Company's commercial transport fleet continued to grow
during the nine months ended December 31, 1996, due to an increase in the number
of new aircraft entering service, as well as a slower than expected retirement
rate of older aircraft. Airlines have responded to recent FAA regulatory noise
abatement requirements by outfitting their older DC-9 fleets with engine
hushkits and aircraft structural overhauls which effectively add fifteen years
of service life to the aircraft. The Company expects to produce replacement
parts for these refurbished aircraft over this period. Airlines such as
Northwest Airlines and Continental Airlines have opted for DC-9 life extension
refurbishment programs, to meet capacity needs, in lieu of buying replacement
aircraft new. Other airlines are expected to follow similar strategies, as the
economics generally are more favorable.

Approximately 75% of Aircraft Braking Systems' revenues are derived from the
sale of replacement parts. As of December 31, 1996, the Company's products had
been installed on over 30,000 commercial transport, general aviation and
military aircraft . Commercial transport aircraft include the DC-9, DC-10,
Fokker Fo-100, Fokker F-28, Canadair Regional Jet and Saab 340 on all of which
Aircraft Braking Systems is the sole-source supplier. In addition, the Company
supplies spare parts for the MD-80 program on a dual-source wheel and brake
program.

Aircraft Braking Systems has been successful in having its wheels and brakes
selected for use on a number of new high-cycle airframe designs. These aircraft
that are just beginning to enter service include the McDonnell Douglas Corp.
('McDonnell Douglas") MD-90, Airbus A-321, Saab 2000, Lear 60 and Fairchild 
Metro 23. Most recently, Aircraft Braking Systems has been successful in
winning the RJ-700 continuing our sole-source position on the Regional Jet. The
RJ-700 is a 70 passenger plane which is a stretch version of the 50 passenger
Canadair Regional Jet. In addition, the Company is a supplier of wheels and 
carbon brakes for the Airbus A-330 and A-340 wide-body jets.

Aircraft Braking Systems is the sole supplier for wheels, carbon brakes and
anti-skid equipment on the new McDonnell Douglas MD-90 twin-jet. The MD-90 adds
new performance characteristics to a product line that began as the DC-9 model
jet that first flew in 1965 and evolved later into the popular MD-80 series also
furnished with Aircraft Braking Systems' wheels and brakes. A technologically
innovative design, the MD-90 is equipped with an advanced turbofan engine that
complies with the FAA's restrictive Stage III noise restrictions, offering fuel
savings over competing engines. Delta Airlines, the launch customer, has taken
delivery of 16 MD-90s out of a total order of 31. Other customers for the MD-90
include Japan Air System and Saudi Arabia which announced orders for 29 of these
aircraft. McDonnell Douglas has booked orders for over 143 MD-90 aircraft.

Aircraft Braking Systems is a basic supplier of wheels and carbon brakes on the
Airbus A-321, the European consortium's new 186-seat "stretch" version of its
popular A-320 standard body twin-jet. Airbus has booked orders for over 195
A-321 aircraft. Of the 54 aircraft delivered to date, Aircraft Braking Systems
has provided wheels and brakes for 41 of these aircraft.


                                        3

<PAGE>   4


Aircraft Braking Systems' anti-skid systems, which are integrated into a braking
system, are designed to minimize the distance required to stop an aircraft by
utilizing sensors, mounted in the axle and driven by the wheel to maximize the
braking force while also preventing the wheels from locking and skidding. Of the
three principal competitors in the wheel and brake industry, Aircraft Braking
Systems is the only significant manufacturer of anti-skid systems. Because of
the sensitivity of anti-skid systems to variations in brake performance, the
Company's management believes that the ability to control the design and
performance characteristics of the strut, brakes and its integrated anti-skid
system gives Aircraft Braking Systems a competitive advantage over its two
largest competitors. Other products manufactured by the Company include
helicopter rotor brakes and brake temperature monitoring equipment for various
types of aircraft.

The following table shows the distribution of sales of aircraft wheels, brakes
and anti-skid systems to total sales of the Company:

<TABLE>
<CAPTION>
                                                              Fiscal Years Ended
                                           Nine Months Ended        March 31,
                                              December 31,    ------------------
                                                 1996           1996     1995
                                                ------         ------   ------
<S>                                              <C>             <C>      <C>
Wheels and brakes .........................      81%             80%      80%
Anti-skid systems .........................       9%              8%       7%
                                                -----          -----     -----
                  Total ...................      90%             88%      87%
                                                =====          =====     =====
</TABLE>

ENGINEERED FABRICS. Engineered Fabrics is the largest aircraft fuel tank
manufacturer in the world, serving approximately 90% of the worldwide general
aviation and commercial transport market and over half of the domestic military
market. Recent programs awarded to Engineered Fabrics include new production or
replacement parts programs for the U.S. Navy's F-18 C/D and E/F aircraft and
F-15, F-16 and C-130 aircraft. Engineered Fabrics has been selected by the U.S.
Army to equip its new stealth RAH-66 Comanche helicopter with fuel tanks and by
McDonnell Douglas to supply fuel tanks for the MD-600 program. Engineered
Fabrics has also been awarded the Bell/Boeing V-22 Osprey program. During the
nine months ended December 31, 1996, approximately 10% of the Company's total
revenues were derived from sales made by Engineered Fabrics.

Fuel tanks, manufactured by combining multiple layers of coated fabrics and
adhesives, are sold for use in commercial transport, military and general
aviation aircraft. During the nine months ended December 31, 1996, sales of fuel
tanks accounted for approximately 68% of Engineered Fabrics' total revenues. For
military helicopter applications, Engineered Fabrics' fuel tanks feature
encapsulated layers of rubber which expand in contact with fuel thereby sealing
off holes or gashes caused by bullets or other projectiles penetrating the walls
of the fuel tank. The Company uses this "self-sealing" technology to manufacture
crash-resistant fuel tanks for helicopters, military aircraft and race cars that
significantly reduce the potential for fires, leaks and spilled fuel following a
crash. Engineered Fabrics is the only known supplier of polyurethane fuel tanks
for aircraft, which are substantially lighter and more flexible than their metal
or nitrile counterparts and therefore cost-advantageous. Engineered Fabrics also
competes in the nitrile-designed fuel tank market and won a three-year
requirements contract in 1996 to supply nitrile fuel tanks to the U.S. Navy for
its F- 14 aircraft.

In addition to fuel tanks, Engineered Fabrics produces iceguards, which are
heating systems made out of layered composite materials that are applied on
engine inlets, propellers, rotor blades and tails. Encapsulated in the material
are heating elements which are connected to the electrical system of the
aircraft and, when activated by the pilot, the system provides the protection.


                                       4

<PAGE>   5


Engineered Fabrics also produces a variety of products utilizing coated fabrics
such as oil containment booms, towable storage bladders, heavy lift bags and
pillow tanks. Oil containment booms are air-inflated cylinders that are used to
confine oil spilled on the high seas and along coastal waterways. Towable
storage bladders are used for storage and transportation of the recovered oil
after removal from the water. Heavy lift bags, often used in emergency
situations, are inserted into tight spaces and inflated to lift heavy loads
short distances. Pillow tanks are collapsible rubberized containers used as an
alternative to steel drums and stationary storage tanks for the storage of
liquids.

Sales and Customers

K & F sells its products to more than 175 airlines, airframe manufacturers,
governments and distributors within each of the commercial transport, general
aviation and military aircraft markets. Sales to the U.S. government represented
approximately 12%, 16% and 14% of total sales for the nine months ended December
31, 1996 and for the fiscal years ended March 31, 1996 and 1995, respectively.
No other customer accounted for more than 10% of sales.

The following table shows the distribution of total Company revenues by
respective market, as a percentage of total revenues:

<TABLE>
<CAPTION>
                                                              Fiscal Years Ended
                                        Nine Months Ended         March 31,
                                            December 31,      ------------------
                                               1996            1996         1995
                                               ----            ----         ----
<S>                                            <C>             <C>          <C>
Commercial transport ...................        63%             61%          61%
Military (U.S. and foreign) ............        18%             23%          19%
General aviation .......................        19%             16%          20%
                                               ----            ----         ----
       Total ...........................       100%            100%         100%
                                               ====            ====         ====
</TABLE>


COMMERCIAL TRANSPORT. Customers for the Company's products in the commercial
transport market include most airframe manufacturers and major airlines. The
Company's products are used on a broad range of large commercial transports (60
seats or more) and commuter aircraft (20 to 60 seats). Where multiple braking
systems are certified for a particular aircraft, it is generally the airline and
not the airframe manufacturer that decides which of the approved wheel and brake
suppliers will originally equip such airline's fleet. Some of the Company's
airline customers include American Airlines, Delta Air Lines, Alitalia, Japan
Air Systems, Lufthansa, Swissair, Northwest Airlines, United Airlines, US
Airways and Continental Airlines. The Company provides replacement parts for
certain aircraft designed by The Boeing Company ("Boeing") including the Boeing
707, but does not produce products for any commercial aircraft currently
manufactured by Boeing. Aircraft Braking Systems supplies products to McDonnell
Douglas, which has announced a proposed merger with Boeing.

MILITARY. The Company is the largest supplier of wheels, brakes and fuel tanks
to the U.S. military and also supplies the militaries of certain foreign
governments. The Company's products are used on a variety of fighters, training
aircraft, transports, cargo planes, bombers and helicopters. Some of the
military aircraft using these products are the F-2 (formerly the FS-X), F-4,
F-14, F-15, F-16, F-18, F-117A, A-10, B-1B, B2 and the C-130. Substantially all
of the Company's military products are sold to the Department of Defense,
foreign governments or to airframe manufacturers including the Lockheed Martin
Corporation ("Lockheed Martin"), McDonnell Douglas, Boeing, Sikorsky, Bell, Saab
and AIDC. In March 1996 the Company commenced wheel and brake deliveries to
Lockheed Martin for the upgraded C-130J aircraft. Brake control systems
manufactured for the military are used on the F-16, F-117A, B-2, Panavia
Toronado, British Aerospace Hawk, JAS-39 Jaguar and IDF aircraft.


                                        5


<PAGE>   6


GENERAL AVIATION. The Company believes it is the industry's largest supplier of
wheels, brakes and fuel tanks for general aviation aircraft. This market
includes personal, business and executive aircraft. Customers include airframe
manufacturers, such as Gulfstream, Raytheon Aircraft, Learjet, Canadair, Cessna,
Dassault and distributors, such as Aviall. Anti-skid systems are supplied by the
Company to Gulfstream, Canadair, Dassault and a variety of other aircraft
manufacturers. General aviation aircraft using the Company's equipment
exclusively include the Beech Starship and Beech 400 A/T series of aircraft, the
Lear series 20, 30, 31A, 50 and 60 and the Gulfstream G-I, G-II and G-III.

Foreign Customers

The Company supplies products to a number of foreign aircraft manufacturers,
airlines and foreign governments. The following table shows sales of the Company
to both foreign and domestic customers:

<TABLE>
<CAPTION>
                                                              Fiscal Years Ended
                                         Nine Months Ended       March 31,
                                            December 31,     -------------------
                                              1996           1996          1995
                                              ----           ----           ----
<S>                                           <C>            <C>            <C>
Domestic sales ....................            57%            59%            62%
Foreign sales .....................            43%            41%            38%
                                              ----           ----           ----
       Total ......................           100%           100%           100%
                                              ====           ====           ====
</TABLE>

Independent Research and Development

The Company employs scientific, engineering and other personnel to improve its
existing product lines and to develop new products and technologies in the same
or related fields. At December 31, 1996, the Company employed approximately 160
engineers (of whom 31 held advanced degrees); approximately 28 of such engineers
(including 14 holding advanced degrees) devoted all or part of their efforts
toward a variety of projects including refining carbon processing techniques to
create more durable braking systems, upgrading existing braking systems to
provide enhanced performance, and developing new technologies to improve the
Company's products.

The costs incurred relating to independent research and development for the nine
months ended December 31, 1996 and for the fiscal years ended March 31, 1996 and
1995 were $8.6 million, $9.8 million and $8.4 million, respectively.

Patents and Licenses

The Company has a large number of patents related to the products of its
subsidiaries. In addition, the Company has pending a substantial number of
patent applications and is licensed under several patents of others. While in
the aggregate its patents are of material importance to its business, the
Company believes no single patent or group of patents is of material importance
to its business as a whole.

Competition

The Company faces substantial competition from a few suppliers in each of its
product areas. Its principal competitors that supply wheels and brakes are
Allied Signal's Aircraft Landing Systems Division and the B.F. Goodrich Company.
Both significant competitors are larger and have greater financial resources
than the Company. The principal competitor for anti-skid systems is the
Hydro-Aire Division of Crane Co. The principal competitors for fuel tanks are
American Fuel Cell & Coated Fabrics Company and Aerazur of France, both are
owned by Zodiac S.A., a French Company.


                                        6

<PAGE>   7


Backlog

Backlog at December 31, 1996 and 1995 amounted to approximately $167.0 million
and $160.4 million, respectively. Backlog consists of firm orders for the
Company's products which have not been shipped. Approximately 84% of total
Company backlog at December 31, 1996 is expected to be shipped during the fiscal
year ending December 31, 1997, with the balance expected to be shipped over the
subsequent two-year period. No significant seasonality exists for sales of the
products manufactured by the Company.

Of the total Company backlog at December 31, 1996, approximately 27% was
directly or indirectly for end use by the U. S. Government (the "Government"),
substantially all of which was for use by the Department of Defense. For certain
risks associated with Government contracts, see "Government Contracts" discussed
below.

Government Contracts

For the nine months ended December 31, 1996 and for the fiscal years ended March
31, 1996 and 1995, approximately 12%, 16%, and 14%, respectively, of the
Company's total sales were made to agencies of the Government or to prime
contractors or subcontractors of the Government.

All of the Company's defense contracts are firm, fixed-price contracts under
which the Company agrees to perform for a predetermined price. Although the
Company's fixed-price contracts generally permit the Company to keep unexpected
profits if costs are less than projected, the Company does bear the risk that
increased or unexpected costs may reduce profit or cause the Company to sustain
losses on the contract. All domestic defense contracts and subcontracts to which
the Company is a party are subject to audit, various profit and cost controls
and standard provisions for termination at the convenience of the Government.
Upon termination, other than for a contractor's default, the contractor will
normally be entitled to reimbursement for allowable costs and to an allowance
for profit. Foreign defense contracts generally contain comparable provisions
relating to termination at the convenience of the government. To date, no
significant fixed-price contract of the Company has been terminated.

Companies supplying defense-related equipment to the Government are subject to
certain additional business risks peculiar to that industry. Among these risks
are the ability of the Government to unilaterally suspend the Company from new
contracts pending resolution of alleged violations of procurement laws or
regulations. Other risks include a dependence on appropriations by the
Government, changes in the Government's procurement policies (such as greater
emphasis on competitive procurements) and the need to bid on programs in advance
of design completion. A reduction in expenditures by the Government for aircraft
using products of the type manufactured by the Company, or lower margins
resulting from increasingly competitive procurement policies, or a reduction in
the volume of contracts or subcontracts awarded to the Company or substantial
cost overruns would have an adverse effect on the Company's cash flow and
results of operations.

Supplies and Materials

The principal raw materials used in the Company's wheel and brake manufacturing
operations are steel, aluminum forgings and carbon compounds. The Company
purchases steel and aluminum forgings from several sources. In the past,
substantially all of the Company's carbon has been purchased from Hitco
Technologies, Inc. ("Hitco") pursuant to supply arrangements. The Company is in
litigation with Hitco concerning the respective obligations of the Company and
Hitco under supply contracts and purchase orders. (See Item 3, "Legal
Proceedings" and Note 13 to the consolidated financial statements.) The Company
is in the process of expanding its existing carbon manufacturing facility and
has developed an alternative supplier such that the Company believes adequate
supplies of carbon will be available to meet demand despite termination of the
Hitco contract. The principal raw materials used by Engineered Fabrics to
manufacture fuel tanks and related coated fabric products are nylon cloth,
forged metal fittings and various adhesives and coatings, whose formulae are
internally developed and proprietary. The Company has not experienced any
shortage of raw materials to date.


                                        7

<PAGE>   8


Personnel

At December 31, 1996, the Company had 1,235 full-time employees, of which 872
were employed by Aircraft Braking Systems (407 hourly and 465 salaried
employees) and 363 were employed by Engineered Fabrics (242 hourly and 121
salaried employees). All of Aircraft Braking Systems' hourly employees are
represented by the United Auto Workers' Union and all of Engineered Fabrics'
hourly employees are represented by the United Textile Workers' Union.

Engineered Fabrics has entered into a three-year contract with its union that
expires on February 5, 1998. Aircraft Braking Systems' three-year contract with
the United Auto Workers' Union expired on August 10, 1991. Aircraft Braking
Systems has not had a ratified collective bargaining agreement since August 10,
1991, but has operated under Company implemented terms and conditions of
employment.

Item 2.   Properties

United States Facilities. Aircraft Braking Systems and Engineered Fabrics
operate two manufacturing facilities in the United States which are individually
owned except as set forth below under "Akron Facility Arrangements." Aircraft
Braking Systems' facility is located in Akron, Ohio, and consists of
approximately 770,000 square feet of manfacturing, engineering and office space.
Engineered Fabrics' facility is located in Rockmart, Georgia, and consists of
approximately 564,000 square feet of manufacturing, engineering and office
space. The Company believes that its property and equipment are generally
well-maintained, in good operating condition and adequate for its present needs.

Foreign Facilities. The Company occupies approximately 19,000 square feet of
leased office and warehouse space in Slough, England, under a lease expiring in
2020. The Company also maintains sales and service offices in Rome, Italy and
Toulouse, France.

Akron Facility Arrangements. The manufacturing facilities owned by Aircraft
Braking Systems are part of a larger complex formerly owned and operated by
Loral Corporation and now owned by Lockheed Martin. Aircraft Braking Systems and
Lockheed Martin have various occupancy and service agreements to provide for
shared easements and services (including utility, sewer, and steam). In addition
to the 770,000 square feet owned by Aircraft Braking Systems, the Company leases
approximately 433,000 square feet of space within the Lockheed Martin complex
and is subject to annual occupancy payments to Lockheed Martin. During the nine
months ended December 31, 1996 and during the fiscal years ended March 31, 1996
and 1995, Aircraft Braking Systems made occupancy payments to Lockheed Martin of
$1.2 million, $1.5 million and $1.3 million, respectively. Certain access
easements and agreements regarding water, sanitary sewer, storm sewer, gas,
electricity and telecommunication are perpetual. In addition, Lockheed Martin
and Aircraft Braking Systems equally control Valley Association Corporation, an
Ohio corporation, which was formed to establish a single entity to deal with the
City of Akron and utility companies concerning governmental and utility services
which are furnished to Lockheed Martin's and Aircraft Braking Systems'
facilities.

Item 3.   Legal Proceedings

On December 15, 1995, the Company's Aircraft Braking Systems subsidiary
commenced an action in the Court of Common Pleas, Summit County, Ohio against
Hitco Technologies, Inc. after Hitco threatened to breach existing supply
contracts unless prices were renegotiated. Hitco has been the principal supplier
of the carbon used by Aircraft Braking Systems for its carbon brakes. Hitco
claimed that Aircraft Braking Systems breached the supply arrangements by
electing to begin to expand its own carbon production facility. The Aircraft
Braking Systems' complaint, as amended, seeks damages in excess of $47 million,
injunctive relief and specific performance requiring Hitco to perform its
obligations pursuant to existing contracts and purchase orders. Hitco has
counterclaimed in the matter seeking, among other things, damages up to $130
million for the alleged breach by Aircraft Braking Systems of alleged long-term
contracts to purchase carbon. Hitco was enjoined from refusing to perform its
obligations pursuant to existing contracts and purchase orders without change in
terms. Hitco has sought to have the injunction vacated or modified.


                                        8


<PAGE>   9


To date, the preliminary injunction has not been vacated or modified, although
Hitco argues it expired on December 13, 1996. Through January 1997, Hitco
continued to supply carbon to the Company, although Hitco failed to acknowledge
certain purchase orders. Aircraft Braking Systems has sought to hold Hitco in
contempt of the court's injunction. Hitco has sought an injunction requiring
that the Company turn over technology allegedly jointly developed and owned
under the prior contractual arrangements. Hearings have been concluded on both
the Company's contempt motion and Hitco's motion seeking technology but neither
has been decided by the court.

In related actions, a suit filed by Hitco in Superior Court, Los Angeles County,
California against Aircraft Braking Systems seeking substantially the same
relief as is asserted in the Ohio action, has been stayed. Hitco also filed suit
in the Federal District Court in the Northern District of Ohio for damages and
injunctive relief against a third party claiming that such party, in supplying
certain carbon to Aircraft Braking Systems, has acquired trade secrets of Hitco
from Aircraft Braking Systems and has misappropriated trade secrets and
technology developed under the same research and development contracts between
Hitco and Aircraft Braking Systems which are the subject of the Ohio case and
the California case. Aircraft Braking Systems has been granted leave to
intervene and the other party has moved to dismiss the Federal action.

Management intends to vigorously advocate its interest in all lawsuits, to seek
dismissal of the California action and to proceed in the Ohio case to enforce
the preliminary injunction and otherwise to protect Aircraft Braking Systems'
carbon supply as well as to seek damages from Hitco. Based upon the proceedings
to date, advice of counsel and its own assessment of the matters in dispute,
management does not expect the outcome of the litigation to be unfavorable to
the Company.

Item 4. Submission of Matters to a Vote of Security Holders

None.


                                        9

<PAGE>   10




PART II

Item 5. Market for Registrant's Common Equity and 
        Related Stockholder Matters

There is no trading market for the Company's common stock. All of the Class A
common stock of the Company except one share (which is owned by Chase Capital
Partners, an affiliate of The Chase Manhattan Bank) is owned by Bernard L.
Schwartz ("BLS"), Chairman of the Company. All of the Class B common stock is
owned by Loral Space & Communications Ltd. ("Loral Space"). All of the preferred
stock (except 44,999 shares owned by Chase Capital Partners) is owned by four
limited partnerships of Lehman Brothers Holdings Inc. ("LBH"). (See "Security
Ownership of Certain Beneficial Owners and Management.")


                                       10

<PAGE>   11


Item 6. Selected Financial Data

The selected financial data has been derived from, and should be read in
conjunction with, the related audited consolidated financial statements. The
selected financial data for the nine months ended December 31, 1995 is
unaudited. Effective December 31, 1996, the Company changed its fiscal year-end
from March 31 to December 31.


<TABLE>
<CAPTION>
                                                       Nine Months Ended              
                                                         December 31,                 
                                                 -------------------------
                                   
                                                    1996             1995             
                                                 ---------       ---------
                                                                 (Unaudited)
                                                                                      
<S>                                              <C>             <C>      
Income Statement Data:
  Net sales ..................................   $ 212,703       $ 199,784
  Cost of sales ..............................     136,813         136,277
                                                 ---------       ---------
  Gross Margin ...............................      75,890          63,507
  Independent research and development .......       8,623           6,610
  Selling, general and administrative expenses      17,297          15,378
  Amortization ...............................       7,810           7,813
                                                 ---------       ---------
  Operating income ...........................      42,160          33,706
  Interest expense, net ......................      27,197          31,288
                                                 ---------       ---------
  Income (loss) before income taxes,
    extraordinary charge and cumulative effect
    of  accounting changes ...................      14,963           2,418
  Income tax benefit .........................          81            --   
  Extraordinary charge .......................      (9,142)(a)      (1,913)(b)
  Cumulative effect of accounting changes ....        --              --   
                                                 ---------       ---------
  Net income (loss) ..........................   $   5,902       $     505
                                                 =========       =========

Balance Sheet Data (at end of period):
  Working capital ............................   $  34,189       $  38,938
  Total assets ...............................     419,115         412,028
  Long-term debt (a)(b)(f) ...................     287,000         293,000
  Stockholders' deficiency (e)(f) ............     (33,306)        (34,327)
Other Data (for the period):
  Capital expenditures .......................      14,091           3,343
  Depreciation and amortization ..............      14,644          14,260

<CAPTION>
                                                                  For the Years Ended                                
                                                                       March 31,                                      
                                                 ------------------------------------------------------

                                                    1996             1995        1994            1993                
                                                 ---------       ---------    ---------       ---------

                                                        (In Thousands)                                               
Income Statement Data:
<S>                                              <C>             <C>          <C>             <C>      
  Net sales ..................................   $ 264,736       $ 238,756    $ 226,131       $ 277,107
  Cost of sales ..............................     180,435         164,697      159,751         199,002
                                                 ---------       ---------    ---------       ---------
  Gross Margin ...............................      84,301          74,059       66,380          78,105
  Independent research and development .......       9,767           8,363       12,858          11,417
  Selling, general and administrative expenses      22,564          19,208       22,421          24,154
  Amortization ...............................      10,415          10,411       10,884          10,258
                                                 ---------       ---------    ---------       ---------
  Operating income ...........................      41,555          36,077       20,217          32,276
  Interest expense, net ......................      41,048          46,250       51,953          53,486
                                                 ---------       ---------    ---------       ---------
  Income (loss) before income taxes,
    extraordinary charge and cumulative effect
    of  accounting changes ...................         507         (10,173)     (31,736)        (21,210)
  Income tax benefit .........................        --              --           --              --
  Extraordinary charge .......................      (1,913)(b)        --           --            (2,477)(c)
  Cumulative effect of accounting changes ....        --              --         (2,305)(d)     (73,540)(e)
                                                 ---------       ---------    ---------       ---------
  Net income (loss) ..........................   $  (1,406)      $ (10,173)   $ (34,041)      $ (97,227)
                                                 =========       =========    =========       =========

Balance Sheet Data (at end of period):
  Working capital ............................   $  36,327       $  48,025    $  53,091       $  70,028
  Total assets ...............................     416,037         429,074      446,880         489,968
  Long-term debt (a)(b)(f) ...................     294,000         310,000      381,421         379,478
  Stockholders' deficiency (e)(f) ............     (39,701)        (34,748)     (90,355)        (51,868)
Other Data (for the period):
  Capital expenditures .......................      10,418           2,824        3,127           4,670
  Depreciation and amortization ..............      18,921          18,843       20,527          19,862
</TABLE>


(a)  During the nine months ended December 31, 1996, the Company redeemed $180
     million principal amount of the 13 3/4% Senior Subordinated Debentures. In
     connection therewith, the Company recorded an extraordinary charge of
     $9.142 million. (See Note 7 to the consolidated financial statements.)

(b)  On December 28, 1995, the Company redeemed $30 million principal amount of
     the 13 3/4% Senior Subordinated Debentures. In connection therewith, the
     Company recorded an extraordinary charge of $1.913 million. (See Note 7 to
     the consolidated financial statements.)

(c)  The extraordinary charge of $2.477 million relates to the accelerated
     amortization of unamortized financing costs associated with the prepayment
     of a senior term loan in fiscal year 1993.

(d)  Represents cumulative effect of the change in method of accounting for the
     discounting of liabilities for workers' compensation losses.

(e)  Includes a charge for the cumulative effect of accounting change for
     Statement of Financial Accounting Standards No. 106 ($77.9 million) and a
     benefit for the change in method of accounting for certain overhead costs
     in inventory ($4.4 million).

(f)  On September 2, 1994, K & F retired the $65.4 million principal amount of
     14 3/4% Subordinated Convertible Debentures, held by Loral Corporation in
     exchange for $12.76 million in cash and 22.5% of equity. As a result, K & F
     stockholders' equity was increased by $65.4 million and long-term debt was
     reduced by an equal amount. (See Note 9 to the consolidated financial
     statements.)


                                       11


<PAGE>   12



Item 7. Management's Discussion and Analysis of Financial Condition and Results
        of Operations

General

Aircraft Braking Systems generates approximately 75% of its revenues through the
sale of replacement parts for wheels and braking systems previously manufactured
by the Company and its predecessors and installed on over 30,000 commercial,
general aviation and military aircraft. As is customary in the industry,
Aircraft Braking Systems incurs substantial expenditures to research, develop,
design and supply original wheel and brake equipment to aircraft manufacturers
at or below the cost of production. Research, development and design
expenditures are charged to operations when incurred. Original wheel and brake
equipment supplied to aircraft manufacturers at or below the cost of production
("Program Investments") are charged to operations when delivered to the aircraft
manufacturers. Since most modern aircraft have a useful life of 25 years or
longer and require periodic replacement of certain components of the braking
system, the Company typically recoups its initial investment in original
equipment and generates significant profits from the sales of replacement parts
over the life of the aircraft. The Company has invested and will continue to
invest significant resources to have its products selected for use on new
commercial airframes, focusing particularly on medium- and short-range aircraft.
During the nine months ended December 31, 1996 and during the two years ended
March 31, 1996, the Company spent an aggregate of approximately $101 million for
research, development, design and Program Investments. The Company has been
selected as a supplier of wheels and carbon brakes on the Airbus A-321, the sole
supplier of wheels, carbon brakes and anti-skid systems on the MD-90, the sole
supplier of wheels and brakes for the Saab 2000, the Canadair Regional Jet, the
Lear 60 and as a supplier of wheels and carbon brakes for the Airbus A-330 and
A-340. These programs are in the early stages of their life cycles and represent
significant future revenue opportunities for the Company.

Results of Operations

Nine Months Ended December 31, 1996 Compared with the Nine Months Ended December
31, 1995

SALES. Sales for the nine months ended December 31, 1996 totaled $212.7 million
reflecting an increase of $12.9 million or 6.5% compared with $199.8 million for
same period in the prior year. This increase was due to higher commercial sales
of wheels and brakes for commercial transport aircraft of $11.8 million,
primarily on the DC-9, DC-10, MD-90 and Canadair Regional Jet programs, and
higher general aviation sales of $7.4 million primarily on the Beech, Lear and
Gulfstream aircraft. Partially offsetting this increase were lower military
sales of $6.3 million on various programs.

GROSS MARGIN. The gross margin for the nine months ended December 31, 1996 was
35.7% compared with 31.8% for the same period in the prior year. This increase
was primarily due to the overhead absorption effect relating to the higher sales
volume and lower shipments of original equipment to airframe manufacturers at or
below the cost of production.

INDEPENDENT RESEARCH AND DEVELOPMENT. Independent research and development costs
were $8.6 million for the nine months ended December 31, 1996 compared with $6.6
million for the same period in the prior year. This increase was primarily due
to higher costs associated with the A-319 and MD-90 programs.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses were $17.3 million for the nine months ended December
31, 1996 compared with $15.4 million for the same period in the prior year. This
increase was primarily due to higher performance related incentive compensation
and legal fees incurred in connection with the Hitco litigation. (See Note 13 to
the consolidated financial statements.)

INTEREST EXPENSE, NET. Interest expense, net was $27.2 million for the nine
months ended December 31, 1996 compared with $31.3 million for the same period
in the prior year. This decrease was primarily due to a lower average principal
balance on the 13 3/4% Senior Subordinated Debentures due 2001 (the "13 3/4%
Debentures") and lower interest rates as a result of refinancing the 13 3/4%
Debentures with $140 million principal amount of 10 3/8% Senior Subordinated
Notes due 2004 (the "10 3/8% Notes") on August 15, 1996, and borrowings under
the Amended and Restated Credit Agreement. This decrease was 


                                       12


<PAGE>   13

partially offset by the need to keep both the 13 3/4% Debentures and the 10 3/8%
Notes outstanding during the redemption notification period of 30 days. (See
Note 7 to the consolidated financial statements.)

Fiscal Year 1996 Compared with Fiscal Year 1995

SALES. Sales for fiscal year 1996 totaled $264.7 million reflecting an increase
of $26.0 million or 10.9% compared with the prior year. This increase was due to
higher commercial sales of wheels and brakes for commercial transport aircraft
of $16.6 million, primarily on the DC-9, DC-10, MD-80, MD-90 and Fo-100
programs, partially offset by lower general aviation sales of $4.7 million on
various aircraft. Military sales increased $14.1 million primarily on the F-16
program.

GROSS MARGIN. The gross margin for fiscal year 1996 was 31.8% compared with
31.0% for fiscal year 1995. This increase was primarily due to operating
efficiencies and the overhead absorption effect relating to the higher sales
volume, partially offset by higher shipments of original equipment to airframe
manufacturers at or below the cost of production.

INDEPENDENT RESEARCH AND DEVELOPMENT. Independent research and development costs
were $9.8 million in fiscal year 1996 compared with $8.4 million in fiscal year
1995 or 3.7% and 3.5% of sales for fiscal years 1996 and 1995, respectively.
This increase was primarily due to higher costs relating to carbon research and
development.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased $3.4 million in fiscal year 1996 compared with
fiscal year 1995. This increase was primarily due to a provision made against
accounts receivable during fiscal year 1996, higher performance related
incentive compensation and foreign tax related expenses. The provision against
accounts receivable was primarily for two of the Company's customers (Fokker
Aviation and Business Express) who filed for bankruptcy during fiscal year 1996.

INTEREST EXPENSE, NET. Net interest expense decreased $5.2 million in fiscal
year 1996 compared with the prior year. This decrease was due to the retirement
of the 14 3/4% Subordinated Convertible Debentures (the "Convertible
Debentures") on September 2, 1994 (see Note 9 to the consolidated financial
statements), and the redemption of $30 million principal amount of the 13 3/4%
Debentures on December 28, 1995. (See Note 7 to the consolidated financial
statements.)

Liquidity and Financial Condition

The Company expects that its principal use of funds for the next several years
will be to pay interest and principal on indebtedness, fund capital expenditures
and make Program Investments. The Company's primary source of funds for
conducting its business activities and servicing its indebtedness has been cash
generated from operations and borrowings under its $70 million revolving loan
facility.

On August 14, 1996, the Company entered into an Amended and Restated Credit
Agreement (the "Credit Agreement") consisting of a $40 million senior term loan
(the "Term Loan") and a $70 million senior revolving loan (the "Revolving
Loan"). All borrowings under the Revolving Loan mature August 14, 2001. The Term
Loan is a six-year amortizing facility maturing September 30, 2002. In addition
to scheduled quarterly principal payments on the Term Loan, 50% of excess cash
flow (as defined) must be used to prepay the principal. As a result of the
excess cash flow calculation (calculated from August 14, 1996), at December 31,
1996 long-term debt of $2.5 million has been classified as current in addition
to the $3.5 million of scheduled payments to be made during 1997.

During the nine months ended December 31, 1996, the Company redeemed the
remaining $180 million of 13 3/4% Debentures. The Company used the net proceeds
from the $140 million principal amount of 10 3/8% Notes issued on August 15,
1996, together with borrowings under the Credit Agreement, to redeem the
remaining 13 3/4% Debentures at a price of 102.5% of the principal amount
thereof. In connection therewith, the Company recorded an extraordinary charge
of $9.142 million consisting of redemption premiums and the write-off of
unamortized financing costs.


                                       13

<PAGE>   14


The Company's management believes that it will have adequate resources to meet
its cash requirements through funds generated from operations and borrowings
under its Revolving Loan (with availability determined by reference to a
borrowing base of eligible accounts receivable and inventory). At December 31,
1996, the Company had $51.6 million available to borrow under the Revolving
Loan. In addition, the refinancing of the 13 3/4% Debentures with lower interest
rate debt will enable the Company to save between $5 million and $6 million in
annual interest expense, depending on the floating interest rates of the Credit
Agreement.

Contingency

Aircraft Braking Systems had been purchasing substantially all of the carbon for
its carbon brakes under supply arrangements with Hitco. The contracts and
commitments between Aircraft Braking Systems and Hitco are now the subject of
litigation. A loss of carbon supply for carbon brakes manufactured by Aircraft
Braking Systems would have a material, adverse affect on the Company's business
and financial condition. (See Item 3, "Legal Proceedings" and Note 13 to the
consolidated financial statements.) In December 1995, Hitco threatened to
interrupt deliveries of carbon unless prices were renegotiated. Hitco claimed
that Aircraft Braking Systems breached the supply arrangements by electing to
begin to expand its own carbon manufacturing facilities. Hitco was enjoined from
refusing to supply Aircraft Braking Systems with carbon pursuant to the existing
contracts and purchase orders, and Hitco continued to supply carbon during 1996
while disputing various purchase orders and the scope of the injunction. Because
of the injunction obtained in the litigation with Hitco, the Company's supply of
carbon from Hitco was not interrupted during 1996. Based upon the proceedings to
date, advice of counsel and its own assessment of the matters in the dispute,
management does not expect the outcome of the litigation to be unfavorable to
the Company.

For certain programs, the Company has developed an alternate supplier for
carbon. The Company has also commenced a major expansion of its existing carbon
manufacturing facility in Akron, Ohio, which will provide a five-fold increase
in the Company's own carbon production capacity. Construction of the facility is
substantially complete and is expected to be fully operational during the second
quarter of calendar year 1997. Aircraft Braking Systems is currently
manufacturing carbon on three of the five new densification furnaces to be
installed. When fully operational, the Company believes it will have sufficient
sources of carbon to meet all of its requirements for carbon brake production at
the current level of business.

Capital Expenditures

The Company had additions to fixed assets of $14.1 million, $10.4 million and
$2.8 million for the nine months ended December 31, 1996 and for the fiscal
years ended March 31, 1996 and 1995, respectively. The increase during the nine
months ended December 31, 1996 as compared with the fiscal year ended March 31,
1996 was primarily due to the completion of construction of a 21,000 square foot
expansion to the carbon manufacturing building at the Company's Akron, Ohio
facility which was started in the beginning of fiscal year of 1996. Capital
spending for the year ending December 31, 1997 is expected to be approximately
$8.0 million.

Inflation

A majority of the Company's sales are conducted through annually established
price lists and long-term contracts. The effect of inflation on the Company's
sales and earnings is minimal because the selling prices of such price lists and
contracts, established for deliveries in the future, generally reflect estimated
costs to be incurred in these future periods. In addition, some contracts
provide for price adjustments through escalation clauses.

Item 8. Financial Statements and Supplementary Data

See the financial statements, together with the auditors' reports thereon,
appearing on pages F-1 to F-19 hereof.

Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 

None.


                                       14


<PAGE>   15


PART III

Item 10. Directors and Executive Officers of the Registrant

Set forth below are the names, ages and positions of the directors and executive
officers of the Company. All directors hold office until the next annual meeting
of stockholders of the Company and until their successors are duly elected and
qualified, and all executive officers hold office at the pleasure of the Board
of Directors. The following executive officers or directors of the Company are
related by blood or marriage: Kenneth M. Schwartz is the nephew of Bernard L.
Schwartz, Ronald H. Kisner's wife is the niece of Bernard L. Schwartz and John
R. Paddock's wife is the daughter of Bernard L. Schwartz. No other executive
officer or director of the Company is related by blood, marriage or adoption.

NAME                                AGE            POSITION(S)
----                                ---            -----------
Bernard L. Schwartz*                71             Chairman of the Board
                                                   and Chief Executive Officer
Herbert R. Brinberg*                71             Director
Ronald H. Kisner*                   48             Director
John R. Paddock*                    43             Director
James A. Stern**                    46             Director
A. Robert Towbin**                  61             Director
Alan H. Washkowitz**                56             Director
Donald E. Fogelsanger               71             President
Kenneth M. Schwartz                 45             Executive Vice President
Dirkson R. Charles                  33             Chief Financial Officer

----------

*    Designated as director by BLS pursuant to the Stockholders Agreement.
**   Designated as director by Lehman Brothers Holdings Inc. ("LBH") pursuant to
     the Stockholders Agreement.

Mr. Bernard L. Schwartz has been Chairman and Chief Executive Officer of the
Company since 1989. Mr. Schwartz has been Chairman and Chief Executive Officer
of Loral Space & Communications Ltd. since April 1996. From 1972 to April 1996
Mr. Schwartz was Chairman and Chief Executive Officer of Loral Corporation. Mr.
Schwartz is Chairman and Chief Executive Officer of Globalstar
Telecommunications Limited, Chairman and Chief Executive Officer of Space
Systems/Loral, Inc., Chief Executive Officer of Globalstar, L.P., Vice Chairman
of the Board of Directors of Lockheed Martin Corporation, a Director of Reliance
Group Holdings, Inc. and certain subsidiaries, a Director of First Data
Corporation and a Trustee of New York University Medical Center.

Dr. Brinberg has been President and Chief Executive Officer of Parnassus
Associates International, a firm of consultants in the field of Information
Management, since September 1989. Previously, he was President and Chief
Executive Officer of Wolters Kluwer U.S. Corporation, a wholly owned subsidiary
of Wolters Kluwer N.V. of the Netherlands, and its predecessor companies since
1978. He is also currently an Adjunct Professor of Management at Baruch College
City University of New York.

Mr. Kisner has been a member of the law firm of Chekow & Kisner, P.C., since
1984. From 1973 to 1982, he was Associate General Counsel of APL Corporation,
where he held such offices as Secretary, Vice President and Director. From 1982
to 1984, Mr. Kisner was a sole practitioner.

Dr. Paddock is a licensed psychologist who has maintained an independent
practice of psychotherapy, assessment and consultation in Atlanta, Georgia since
1982. He has also been President of the Georgia Psychological Association
(1993-1994),


                                       15


<PAGE>   16


Director of Training for the Georgia School of Professional Psychology, Adjunct
Associate Professor of Psychology at Emory University, Assistant Professor of
Psychology at Kennesaw State College, and Southern Region Coordinator for
National Employee Assistance Services. Currently, he is visiting Associate
Professor of Psychology at Emory, and holds positions as Adjunct Clinical
Assistant Professor in the Department of Psychiatry at Emory, and is Adjunct
Professor of Psychology at Georgia Institute of Technology.

Mr. Stern is Chairman of The Cypress Group L.L.C., a private merchant bank. He
was a Managing Director of Lehman Brothers from 1984 to 1994. From 1989 to 1994,
Mr. Stern was also head of the Merchant Banking Group of Lehman Brothers. He was
a Managing Director of Lehman Brothers Kuhn Loeb, Inc. from 1982 to 1984. Mr.
Stern is also a director of R.P. Scherer Corp., Noel Group Inc., Lear
Corporation, Cinemark USA, Inc. and Amtrol, Inc.

Mr. Towbin joined Unterberg Harris in September of 1995 as a Managing Director.
From January 1994 to September 1995, he was President and Chief Executive
Officer of the Russian-American Enterprise Fund and Vice Chairman of its
successor fund, The U.S. Russia Investment Fund. Mr. Towbin was a Managing
Director at Lehman Brothers from January 1987 until January of 1994. Mr. Towbin
was Vice Chairman, Member of the Executive Committee and Director of L.F.
Rothschild, Unterberg, Towbin Holdings, Inc. from 1986 to 1987 and from 1983 to
1986, Mr. Towbin was Vice Chairman. From 1977 to 1983 he was General Partner of
L.F. Rothschild, Unterberg, Towbin and from 1959 to 1977, Mr. Towbin was General
Partner of C.E. Unterberg, Towbin Co. Mr. Towbin is also a Director of Bradley
Real Estate Inc., Columbus New Millennium Fund, Gerber Scientific, Inc. and
Globalstar Telecommunications Limited.

Mr. Washkowitz has been a Managing Director of Lehman Brothers since 1984. He
was a Managing Director of Lehman Brothers Kuhn Loeb, Inc. from 1978 to 1984.
Mr. Washkowitz began in the Corporate Finance Department of Kuhn Loeb & Co. in
1968 and became a general partner of the firm in 1975. Mr. Washkowitz is also a
director of Illinois Central Corporation and Lear Corporation.

Mr. Fogelsanger has been President of the Company since January 1996. From April
1989 to January 1996, Mr. Fogelsanger was the President of Aircraft Braking
Systems Corporation. From 1987 to 1989 he was President of Loral Corporation's
Aircraft Braking Systems Division. From January 1986 to March 1987 he was Vice
President and General Manager of Goodyear Aerospace Corporation's ABS division.
From 1980 to 1986 he was General Manager of Goodyear's Aircraft Tire Operations.
In 1968, Mr. Fogelsanger directed Goodyear's development of a crash-resistant
fuel system for helicopters that was credited with saving hundreds of lives
during the Vietnam War. He joined Goodyear in 1951.

Mr. Kenneth M. Schwartz has been Executive Vice President of the Company since
January 1996. From June 1989 to January 1996, Mr. Schwartz held the positions of
Chief Financial Officer, Treasurer and Secretary. Previously he was the
Corporate Director of Internal Audit for Loral Corporation since late 1987. From
1984 to 1987, Mr. Schwartz held the position of Director of Cost and Schedule
Administration for Loral Electronic Systems. Prior to 1984, Mr. Schwartz held
various other positions with Loral Electronic Systems and the accounting firm of
Deloitte & Touche LLP.

Mr. Charles has been Chief Financial Officer of the Company since May 1996. From
May 1993 to May 1996, Mr. Charles was the Controller of the Company. Previously
he was the Manager of Accounting and Financial Planning. Prior to employment
with the Company in 1989, Mr. Charles held various other positions with the
accounting firm of Arthur Andersen & Co. LLP, which he joined in 1984.

Executive Officers of Aircraft Braking Systems 
Corporation and Engineered Fabrics Corporation

Set forth below are the names, ages and positions of the executive officers of
Aircraft Braking Systems and Engineered Fabrics. All executive officers hold
office at the pleasure of their respective Board of Directors.


     Aircraft Braking Systems Corporation
     ------------------------------------

                NAME              AGE                     POSITION
                ----              ---                     --------
          Ronald E. Welsch        62                     President
          Frank P. Crampton       53              Vice President-Marketing
          Richard W. Johnson      53       Vice President-Finance and Controller
          James J. Williams       41            Vice President-Manufacturing


                                       16

<PAGE>   17


     Engineered Fabrics Corporation
     ------------------------------

                NAME              AGE                     POSITION
                ----              ---                     --------
          Roger C. Martin         59                      President
          Terry L. Lindsey        52               Vice President-Marketing
          Anthony G. McCann       37              Vice President-Operations
          John A. Skubina         42                Vice President-Finance

Mr. Welsch has been President of Aircraft Braking Systems Corporation since
January 1996. From November 1994 to January 1996, Mr. Welsch held the positions
of Executive Vice President and Chief Operating Officer. From September 1993 to
November 1994, he was Executive Vice President. Prior to joining Aircraft
Braking Systems, Mr. Welsch was General Manager of the GE 90 Commercial Engine
program at General Electric Aircraft Engines and held various positions in
management, including engineering, product support, marketing, product planning
and program management, over the course of 26 years. Mr. Welsch started his
aviation career at Douglas Aircraft in 1958 and joined Northrop Corporation in
1961. He entered the U.S. Marine Corp Aviation following graduation from Purdue
University.

Mr. Crampton was named Vice President of Marketing at Aircraft Braking Systems
in March 1987. He had been Director of Business Development for Goodyear
Aerospace Corporation's Wheel and Brake Division since 1985. Prior to that
assignment, he was the divisional manager of Program Operations since 1983. Mr.
Crampton joined Goodyear in 1967. He became Section Manager in Commercial Sales
in 1977, a product marketing manager in 1978 and Divisional Sales Manager in
1979. In August of 1982, he joined manufacturing as the manager of the
manufacturing process organization. He also worked for NASA at the Johnson Space
Center, Houston, Texas from 1963 to 1966.

Mr. Johnson has been Vice President of Finance and Controller at Aircraft
Braking Systems since April 1989. From 1987 to 1989, he was Vice President of
Finance and Controller of Loral Corporation's Aircraft Braking Systems Division.
Prior to this assignment, he had spent 22 years with Goodyear Aerospace
Corporation, including one year as the Controller of the wheel and brake
division. Mr. Johnson joined Goodyear Aerospace Corporation in 1966. He became
Manager of Accounting in 1979 for the Centrifuge Equipment Division of Goodyear
Aerospace Corporation after holding various positions in the Defense Systems
Division.

Mr. Williams was named Vice President of Manufacturing at Aircraft Braking
Systems in May 1992. He had been Director of Manufacturing since joining
Aircraft Braking Systems in September 1989. Previously from April 1985 to August
1989, he was Branch Manager of Refurbishment Operations at United Technologies
responsible for the refurbishment process of the Solid Rocket Boosters on the
Shuttle Program. Mr. Williams started his aviation career in 1975 in the Air
Force as a Hydraulic Systems Specialist. He was Superintendent, Manufacturing at
Fairchild Republic Company from 1979 to 1983, followed by Manager, B-1B
Manufacturing Operations at Rockwell International Corporation from 1983 to
1985.

Mr. Martin has been President of Engineered Fabrics Corporation since 1987. From
June 1984 until 1987, he was General Manager of GAC's Engineered Fabrics
Division. Mr. Martin has been continuously employed by Goodyear, GAC, Loral
Corporation and K & F for the past 35 years. Other positions Mr. Martin held
with Goodyear include General Manager, Program Manager and a number of research
positions. He holds a patent for elastomeric protective coating for metal
storage reels.

Mr. Lindsey has served as Vice President of Business Development since 1989. He
has been with Goodyear Aerospace Corporation, Loral Corporation and K & F since
1977. Prior to this he had 12 years of federal service with the US Army. He
joined GAC as Contract Administrator of the Industrial Brake Operation in Berea,
Kentucky, and transferred to Engineered Fabrics in 1979 as Manager of Contracts.


                                       17

<PAGE>   18


Mr. McCann has been Vice President of Operations at Engineered Fabrics
Corporation since June 1993. Prior to that, he was Manager of Production Support
from April 1990 to June 1993. He joined Engineered Fabrics Corporation in August
1988 as Manager of Production. From January 1984 to August 1988, Mr. McCann
worked for Aircraft Braking Systems as Manager of Manufacturing Engineering,
Manager of Assembly and as a Manufacturing Engineer.

Mr. Skubina has been Vice President of Finance and Administration since February
1991. Prior to that, he was made Vice President of Finance on April 1, 1990. He
joined Engineered Fabrics Corporation in 1988 as Accounting Manager. From 1985
until 1988, Mr. Skubina was the Assistant Controller and Controller of MPD, a
division of M/A-Com.


                                       18


<PAGE>   19


Item 11.   Executive Compensation

                           SUMMARY COMPENSATION TABLE

The following table sets forth the compensation for the nine months ended
December 31, 1996 (the "Transition Period") and for the fiscal years ended March
31, 1996 and 1995, paid to the chief executive officer and each of the other
four most highly compensated executive officers of the Company and the Company's
subsidiaries.


<TABLE>
<CAPTION>
                                                             ------------------------------    -----------------------
                                                                         Annual                       Long-Term
                                                                      Compensation                   Compensation
------------------------------------------------------------------------------------------------------------------------------------
                                                   Tran-                                                                   All other
                                                  sition                                        Options       LTIP          Compen-
                                                  Period*        Salary              Bonus      Granted      Payouts       sation(a)
 Name and Principal Position                        or             ($)                ($)         (#)          ($)            ($)
                                                  Fiscal
                                                   Year
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                <C>         <C>                  <C>           <C>         <C>             <C>  
Bernard L. Schwartz                                1996*       1,477,426(b)             (c)       --              --              --
Chairman of the Board and                          1996        1,770,500(b)              --       --              --              --
Chief Executive Officer                            1995        1,779,500(b)              --       --              --              --
------------------------------------------------------------------------------------------------------------------------------------
Kenneth M. Schwartz                                1996*         274,231(b)             (d)       --          28,333          19,331
Executive Vice President of                        1996          321,815(b)         115,000       --          13,333           4,196
K & F Industries, Inc.                             1995          283,600(b)         105,000       --              --           3,565
------------------------------------------------------------------------------------------------------------------------------------
Donald E. Fogelsanger                              1996*         170,769                (d)       --          30,000          42,369
President of  K & F Industries,                    1996          196,000            125,000       --          13,333          22,829
Inc.                                               1995          198,538            120,000       --              --          19,442
------------------------------------------------------------------------------------------------------------------------------------
Ronald E. Welsch                                   1996*         145,308                (d)       --          22,000          25,997
President of Aircraft Braking                      1996          172,000             70,000       --          10,000          38,533
Systems Corporation                                1995          162,769             78,000       --              --           3,806
------------------------------------------------------------------------------------------------------------------------------------
Roger C. Martin                                    1996*         109,757                (d)       --          17,333          27,229
President of Engineered Fabrics                    1996          136,674             55,000       --           8,333          11,489
Corporation                                        1995          132,767             55,500       --              --          10,520
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

(a)  Includes the following: (i) Company contributions to individual 401(k) plan
     accounts for the nine months ended December 31, 1996 and for the fiscal
     years ended March 31, 1996 and 1995, respectively: Mr. K. Schwartz -
     $2,414, $3,996 and $3,375; Mr. Fogelsanger - $3,054, $4,050 and $3,475; Mr.
     Welsch - $3,084, $4,050 and $3,446; Mr. Martin - $3,442, $4,050 and $3,110;
     (ii) the value of supplemental life insurance programs for the nine months
     ended December 31, 1996 and for the fiscal years ended March 31, 1996 and
     1995, respectively: Mr. K. Schwartz - $16,917, $200 and $190; Mr.
     Fogelsanger - $39,315, $18,779 and $15,967; Mr. Welsch - $22,913, $1,107
     and $360; Mr. Martin - $23,787, $7,439 and $7,410; and (iii) $33,376 paid
     to Mr. Welsch during the fiscal year ended March 31, 1996, for moving
     expenses incurred in connection with his employment.

(b)  The Company has an Advisory Agreement with BLS which provides for the
     payment of an aggregate of $200,000 per month of compensation to BLS and
     persons designated by him (including certain other executive officers of
     Loral Space who are active in the management of the Company) in exchange
     for acting as directors and providing advisory services to the Company and
     its subsidiaries. BLS has designated that $100,000 of the aggregate annual
     advisory fee be paid to Kenneth M. Schwartz, which is included in his
     salary for all periods shown.


                                       19


<PAGE>   20


(c)  The Company has a bonus plan pursuant to which the Company's Board of
     Directors awards bonuses to BLS and other advisors ranging from 5% to 10%
     of earnings in excess of $50 million before interest, taxes and
     amortization. Bonuses for the nine months ended December 31, 1996 have not
     yet been determined nor approved by the Company's Board of Directors.

(d)  Bonus amounts for the nine months ended December 31, 1996 have not yet been
     determined nor approved by the Company's Board of Directors. It is expected
     that these amounts will be in line with prior years.


                                  OPTION GRANTS

There were no grants of stock options by the Company, during the nine months
ended December 31, 1996, to the named executive officers.

                           AGGREGATED OPTION EXERCISES
                AND YEAR-END OPTIONS VALUES AT DECEMBER 31, 1996

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------
                                                                                    Value of
                                                                   Number of      Unexercised
                                                                  Unexercised     In-the-Money
                                                                   Options at       Options at
                                                                   FY-End (#)     FY-End ($)(1)
                                                                -------------------------------
                                      Shares
                                    Acquired on     Value        Exercisable/     Exercisable/
      Name                          Exercise (#) Realized ($)   Unexercisable    Unexercisable
-----------------------------------------------------------------------------------------------
<S>                                      <C>         <C>         <C>                 <C>
Bernard L. Schwartz                      0           0                   0           0/0
Kenneth M. Schwartz                      0           0           1,313/187           0/0
Donald E. Fogelsanger                    0           0           2,375/125           0/0
Ronald E. Welsch                         0           0           250/250             0/0
Roger C. Martin                          0           0           1,375/125           0/0
-----------------------------------------------------------------------------------------------
</TABLE>

(1)  None of the Company's stock is currently publicly traded. All options were
     granted at book value computed as of April 27, 1989.


                                       20


<PAGE>   21


LONG-TERM INCENTIVE PLAN AWARDS

Under the Company's long-term incentive plan designed to provide an incentive to
encourage attainment of Company objectives and retain and attract key executives
of the Company, a limited number of persons participate in a Deferred Bonus
Plan. Under the terms of the plan, generally no awards are allocated to any
participant unless the Company has achieved at least a 10% growth in earnings
before interest, taxes and amortization over the prior fiscal year. Awards vest
and are paid (unless deferred by recipient direction) in three equal annual
installments starting on January 15th following each fiscal year-end. All
amounts not vested are forfeited upon termination of employment for any reason
other than death or disability prior to the vesting date. The following awards
were earned for the individuals named in the Summary Compensation Table during
the fiscal years ended March 31, 1996 and 1995, respectively: Mr. K. Schwartz
$45,000 and $40,000; Mr. Fogelsanger $50,000 and $40,000; Mr. Welsch $36,000 and
$30,000; and Mr. Martin $27,000 and $25,000. Awards for the nine months ended
December 31, 1996 have not yet been determined nor approved by the Company's
Board of Directors. It is expected that these amounts will be in line with prior
years.

THE RETIREMENT PLAN

The Company established, effective May 1, 1989, as amended, the K & F Industries
Retirement Plan for Salaried Employees (the "Company Retirement Plan"), a
defined benefit pension plan. The Company has received a favorable determination
letter from the Internal Revenue Service that the Company Retirement Plan is a
qualified plan under the Internal Revenue Code. The terms of the Company
Retirement Plan are as follows: a non-contributory benefit and a contributory
benefit. The cost of the former is borne by the Company; the cost of the latter
is borne partly by the Company and partly by the participants. Salaried
employees who have completed at least six months of service and satisfied a
minimum earnings level are eligible to participate in the contributory portion
of the Company Retirement Plan; salaried employees become participants in the
non-contributory portion on their date of hire. The Plan provides a benefit of
$20.00 per month for each year of credited service. For participants who
contribute to the Plan, in addition to the benefit of $20.00 per month for each
year of credited service, the Plan provides an annual benefit equal to the
greater of: 60% of the participant's aggregate contributions; or, average
compensation earned (while contributing) during the last 10 years of employment
in excess of 90% of the Social Security Wage Base amount multiplied by: (a) 2.4%
times years of continuous service up to 10, plus, (b) 1.8% times additional
years of such service up to 20, plus, (c)1.2% times additional years of such
service up to 30, plus, (d) 0.6% times all additional such service above 30
years.

Effective January 1, 1990, the Plan was amended for eligible employees of K & F
Industries and Aircraft Braking Systems to provide an annual benefit equal to
(a) the accrued benefit described above as of December 31, 1989, plus (b) a
non-contributory benefit for each year of credited service after January 1,
1990, of 0.7% of annual earnings up to the Social Security Wage Base or $288,
whichever is greater, plus (c) for each year of continuous service on and after
January 1, 1990, a contributory benefit of (i) for 14 years of continuous
service or less, 1.05% of annual earnings between $19,800 and the Social
Security Wage Base plus 2.25% of annual earnings above the Social Security Wage
Base, and (ii) for more than 14 years of continuous service, 1.35% of annual
earnings between $19,800 and the Social Security Wage Base plus 2.65% of annual
earnings above the Social Security Wage Base. In no event will the amount
calculated in (c) above be less than 60% of the participant's aggregate
contributions made on and after January 1, 1990. Benefits are payable upon
normal retirement age at age 65 in the form of single life or joint and survivor
annuity or, at the participant's option with appropriate spouse consent, in the
form of an annuity with a term certain. A participant who has (a) completed at
least 30 years of continuous service, (b) attained age 55 and completed at least
10 years of continuous service, or (c) attained age 55 and the combination of
such participant's age and service equals at least 70 years, is eligible for
early retirement benefits. If a participant elects early retirement before
reaching age 62, such benefits will be reduced except that the non-contributory
benefits of a participant with at least 30 years of credited service will not be
reduced. In addition, employees who retire after age 55 but before age 62 with
at least 30 years of service are entitled to a supplemental non-contributory
benefit until age 62. Annual benefits under the Company Retirement Plan are
subject to a statutory ceiling of $120,000 per participant. Participants are
fully vested in their accrued benefits under the Company Retirement Plan after
five years of credited service with the Company.


                                       21


<PAGE>   22



The individuals named in the Summary Compensation Table also participate in a
supplemental plan which generally makes up for certain reductions in such
benefits caused by Internal Revenue Code limitations. Estimated annual benefits
upon retirement for these individuals who are participants in the amended plan
of K & F and Aircraft Braking Systems and the supplemental plan are $223,000 for
Mr. K. Schwartz; $116,000 for Mr. Fogelsanger; and $35,000 for Mr. Welsch. BLS
does not participate in either plan. The retirement benefits have been computed
on the assumption that (a) employment will be continued until normal retirement
at age 65; (b) current levels of creditable compensation and the Social Security
Wage Base will continue without increases or adjustments throughout the
remainder of the computation period; and (c) participation in the contributory
portion of the plan will continue at current levels. The Company has a similar
plan at Engineered Fabrics in which Mr. Martin participates. Estimated annual
benefits for Mr. Martin are $92,000 using the assumptions in (a), (b) and (c)
above.

For purposes of eligibility, vesting and benefit accrual, participants receive
credit for years of service with Loral Corporation and Goodyear. At retirement,
retirement benefits calculated according to the benefit formula described above
are reduced by any retirement benefits payable from The Goodyear Tire & Rubber
Company Retirement Plan For Salaried Employees.

COMPENSATION OF DIRECTORS

The Board of Directors held three meetings during the nine months ended December
31, 1996. Non-equity members of the Board of Directors receive annual fees of
$12,000 per year. Messrs. Towbin, Washkowitz and Stern (three directors
designated by LBH pursuant to the Stockholders Agreement) waived any
compensation for services as a director for the nine months ended December 31,
1996. All directors are reimbursed for reasonable out-of-pocket expenses
incurred in that capacity.

ADVISORY AGREEMENT

The Company has an Advisory Agreement with BLS which provides for the payment of
an aggregate of $200,000 per month of compensation to BLS and persons designated
by him (including certain other executive officers of Loral Space who are active
in the management of the Company) in exchange for acting as directors and
providing advisory services to the Company and its subsidiaries. Such agreement
will continue until BLS dies or is disabled or ceases to own at least 135,000
shares of common stock of the Company.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

The Company has not in the past used a compensation committee to determine
executive officer compensation. The payments to BLS, the Company's Chairman and
Chief Executive Officer, are paid in accordance with the Advisory Agreement. All
other executive compensation decisions are made by BLS in accordance with
policies established in consultation with the Board of Directors.


                                       22


<PAGE>   23


PART IV

Item 12. Security Ownership of Certain Beneficial Owners and Management

The following table sets forth the ownership of the capital stock of the Company
as of December 31, 1996.


<TABLE>
<CAPTION>
                                                                                                       Number of
                                                               Number of Shares    Number of Shares     Shares         Percentage
                                                                  of Class A          of Class B      of Preferred    Ownership of
                                                                 Common Stock       Common Stock       Stock(a)     Capital Stock(b)
                                                                 ------------       ------------       --------     ----------------
<S>                                                              <C>                   <C>          <C>                      <C>   
 Bernard L. Schwartz .....................................       553,343(c)                 --             --                 27.12%
*Lehman Brothers Merchant
    Banking Portfolio Partnership L.P. ...................            --                    --        478,387(d)              23.45
*Lehman Brothers Offshore
    Investment Partnership L.P. ..........................            --                    --        129,745(e)               6.36
*Lehman Brothers Offshore
    Investment Partnership - Japan L.P. ..................            --                    --         49,348(e)               2.42
* Lehman Brothers Capital Partners  
    II, L.P. .............................................            --                    --        325,156(f)              15.94
 Chase Capital Partners ..................................             1                    --         44,999                  2.21
 Loral Space & Communications Ltd. .......................            --               458,994             --                 22.50
                                                                ----------         ------------     -----------         ------------
                                                                 553,344               458,994      1,027,635                100.00%
                                                                ==========         ============     ===========         ============
</TABLE>

*Collectively referred to as the "Lehman Investors."

(a)  The preferred stock is convertible into Class A common stock on a
     one-for-one basis.

(b)  Assumes that the preferred stock has been converted into voting common
     stock.

(c)  BLS has granted options to officers and directors of the Company and its
     subsidiaries, at a per share exercise price of $40, for an aggregate of
     30,500 shares of the voting common stock owned by BLS. The agreements
     pursuant to which such options are issued (i) provide that the option is
     exercisable in whole or in part at any time prior to the tenth anniversary
     of the date of such agreement and (ii) restrict the transfer of the option
     and any shares purchased upon exercise of the option. The option agreements
     further provide that BLS will retain all voting rights with respect to
     shares sold to an option holder upon exercise of an option.

(d)  LB I Group Inc. is the general partner of the limited partnership and is an
     indirect wholly owned subsidiary of LBH.

(e)  Lehman Brothers Offshore Partners Ltd. is the general partner of the
     limited partnership and is an indirect wholly owned subsidiary of LBH.

(f)  LBH is the general partner of the limited partnership. The limited
     partnership is a fund for current and former employees of LBH.

Stockholders Agreement

The Company, BLS, the Lehman Investors, Chase Capital Partners and Loral Space
(each, a "Stockholder") entered into an Amended and Restated Stockholders
Agreement (the "Stockholders Agreement") dated as of September 2, 1994, which
contains certain restrictions with respect to the transferability of the
Company's capital stock, certain rights granted by the Company with respect to
such shares and certain voting and other arrangements. The Stockholders
Agreement will terminate at such time as more than 75% of the shares of common
stock and shares of common stock issuable upon the exercise of options or rights
to acquire common stock or upon conversion of convertible securities ("Common
Equivalents") then outstanding have been sold pursuant to one or more public
offerings, except that the registration rights


                                       23

<PAGE>   24


continue as to any common stock held by parties thereto as long as they own
their shares, and the voting provisions contained in the Stockholders Agreement
terminate on September 2, 2004.

The Stockholders Agreement provides that the Company's Board of Directors be
comprised initially of 7 directors. BLS is entitled to (i) appoint a majority of
the directors as long as he and his affiliates own at least 135,000 shares of
common stock, (ii) three directors as long as he and his affiliates own at least
100,000 shares of common stock, and (iii) one director as long as he and his
affiliates own any shares of common stock. The Lehman Investors are entitled to
(i) appoint three directors as long as they collectively own at least 100,000
Common Equivalents, (ii) a majority of the directors if (a) they own at least
135,000 shares of common stock and (b) BLS dies or becomes disabled or owns less
than 135,000 shares of Common Equivalents, and (iii) one director as long as
they own any Common Equivalents. If and for so long as Loral Space and its
affiliates own any shares of voting common stock, at the request of Loral Space,
the number of members of the Board of Directors shall be increased to 9, Loral
Space shall be entitled to designate one member of the Board of Directors, and
the remaining member shall be designated by the stockholder which at such time
has the right to designate a majority of the Board of Directors. The Company's
by-laws provide that the following corporate actions will require the vote of at
least one Lehman Investor designated director including (with certain limited
exceptions) (i) mergers, consolidations or recapitalization, (ii) issuances of
capital stock or preferred stock, (iii) repurchases of and dividends on capital
stock, (iv) issuance of employee options representing more than 50,000 shares of
common stock, (v) dissolution or liquidation of the Company, (vi) acquisition,
sale or exchange of assets in excess of $5,000,000, (vii) the incurrence of debt
or liens in excess of $10 million in the aggregate, (viii) the making of loans,
investments or capital expenditures in excess of $10 million, (ix) transactions
with affiliates and (x) prepayments of or amendments to any amount of financing
in excess of $10 million. The Stockholders Agreement provides that the Charter
and By-laws of the Company then in effect may not be amended without the consent
of the Lehman Investors designated director for so long as the Lehman Investors
or its affiliates own at least 100,000 shares of the outstanding capital stock.

The Stockholders Agreement provides each Stockholder with a right of first
refusal with respect to certain transfers of Common Stock or Common Equivalents.
In addition, subject to certain limitations, if any Stockholder or group of
Stockholders proposes to transfer securities representing more than 15% of the
Common Equivalents, then each other Stockholder is permitted to transfer to the
proposed transferee their pro rata share of Common Equivalents at the price and
on the other terms of the proposed transfer.

The Stockholders Agreement provides that either BLS or the Lehman Investors (the
"Put Party") may request an appraisal of the value of the capital stock of the
Company (the "Appraised Value") and may notify the other party of its desire to
sell all of its and its transferee's capital stock for a pro rata share of such
Appraised Value. The other party may elect to purchase such capital stock,
arrange for the purchase of such capital stock by a third party or notify the
Put Party that it does not intend to purchase such capital stock. If such
election is made such party must use its best efforts to purchase or arrange for
the purchase of such capital stock. If such capital stock is not purchased
within a specified period, BLS and the Lehman Investors shall cause the Company
to be sold if such sale can be arranged for a price at least equal to the
Appraised Value. Any sale of the Company as an entirety shall include all
Stockholders and the proceeds thereof shall be allocated among the Stockholders
in accordance with their stock ownership.

Stockholders of specified percentages of capital stock may demand registration
rights. The Stockholders Agreement also grants the Stockholders incidental
registration rights with respect to shares of capital stock held by them;
provided that the Stockholders not exercising such rights have the right to
purchase the shares which are the subject of such registration rights pursuant
to the right of first offer provided in the Stockholders Agreement. The
Stockholders Agreement contains customary terms and provisions with respect to
such registration rights. Pursuant to the Stockholders Agreement, Stockholders
have certain preemptive rights, subject to certain exceptions, with respect to
future issuances of shares or share equivalents of capital stock so that such
Stockholders may maintain their proportional equity ownership interest in the
Company.


                                       24

<PAGE>   25



Item 13. Certain Relationships and Related Transactions

General

BLS owns 27.12% of the capital stock of the Company and pursuant to the
Stockholders Agreement has the right to designate a majority of the Board of
Directors of the Company. In addition, BLS serves as Chairman of the Board of
Directors and Chief Executive Officer of the Company and devotes such time to
the business and affairs of the Company as he deems appropriate. BLS is also
Chairman and Chief Executive Officer of Loral Space. Prior to that he was
Chairman and Chief Executive Officer of Loral Corporation. Because BLS is
Chairman of the Board of Directors and has the right to designate a majority of
the Directors to the Board of the Company, he has operating control of the
Company.

In May 1996, K & F purchased $343,000 principal amount of the Company's 13 3/4%
Debentures from A. Robert Towbin, who is a member of the Board of Directors of
the Company, at a price of 103.65% of the principal thereof plus accrued
interest. In May 1996, the 13 3/4% Debentures were callable at a price of
103.75% of the principal amount.

The Company pays Ronald H. Kisner, who is a member of the Board of Directors of
the Company, a monthly retainer of $6,000 for legal services.

On September 2, 1994, K & F retired the $65.4 million principal amount of
Convertible Debentures held by Loral Corporation. (See Note 9 to the
consolidated financial statements.)

The Company has an Advisory Agreement with BLS which provides for the payment of
an aggregate of $200,000 per month of compensation to BLS and persons designated
by him (including certain other executive officers of Loral Space who are active
in the management of the Company) in exchange for acting as directors and
providing advisory services to the Company and its subsidiaries. Such agreement
will continue until BLS dies or is disabled or ceases to own at least 135,000
shares of common stock of the Company.

The Company has a bonus plan pursuant to which the Company's Board of Directors
awards bonuses to BLS and other advisors ranging from 5% to 10% of earnings in
excess of $50 million before interest, taxes and amortization. Bonuses earned
under this plan were $200,000 for the fiscal year ended March 31, 1996 and paid
to certain executive officers of Loral Space. BLS did not receive any payments
under this plan for the fiscal year ended March 31, 1996. Bonuses for the nine
months ended December 31, 1996 have not yet been determined nor approved by the
Company's Board of Directors.

Lehman Brothers has from time to time provided investment banking, financial
advisory and other services to the Company, for which services Lehman Brothers
has received fees. As the beneficial owners of 48.17% of the outstanding capital
stock, the Lehman Investors are able to elect three directors to the Company's
Board of Directors and have the benefit of certain rights under the Stockholders
Agreement and the Company's By-laws. During the nine months ended December 31,
1996, Lehman Brothers received underwriting discounts and commissions of $2.6
million in connection with the offering of the 10 3/8% Notes.

Pursuant to agreements between the Company and Loral Space (which owns 22.5% of
the outstanding capital stock), the Company reimburses Loral Space for real
property occupancy, benefits administration and legal services. The related
charges agreed upon were established to reimburse Loral Space for actual costs
incurred without profit or fee. The Company believes the arrangements are as
favorable to the Company as could have been obtained from unaffiliated parties.
Payments to Loral Space were $0.2 million for the nine months ended December 31,
1996. Included in accounts payable at December 31, 1996 is $0.2 million.

Pursuant to agreements between K & F and Loral Corporation, the parties provided
services to each other and shared certain expenses relating to a production
program, real property occupancy, benefits administration, treasury, accounting
and legal services. The related charges agreed upon by the parties were
established to reimburse each party on the actual cost incurred without profit
or fee. The Company believes the arrangements with Loral Corporation were as
favorable to the Company as could have been obtained from unaffiliated parties.
Billings from Loral Corporation were $3.6 million and $3.0 million for the
fiscal years ended March 31, 1996 and 1995, respectively. Billings to Loral
Corporation were $2.7 million and $0.2 million for the fiscal years ended March
31, 1996 and 1995. Purchases from Loral Corporation


                                       25


<PAGE>   26


were $2.2 million and $1.9 million for the fiscal years ended March 31, 1996 and
1995. Included in accounts receivable and accounts payable at March 31, 1996 is
$3.5 million and $2.3 million.

On April 22, 1996, Lockheed Martin acquired the defense electronics and systems
integration businesses of Loral Corporation which included the Akron, Ohio
facility. The various occupancy and service agreements affecting the Akron, Ohio
facility will remain in full force and effect. K & F will continue to reimburse
Lockheed Martin for real property occupancy, and costs relating to shared
easements and services. (See Item 2, "Properties.")


                                       26


<PAGE>   27


Item 14. Exhibits, Financial Statement Schedules,
          and Reports on Form 8-K

(a)  Index to Financial Statements: 

                                                                          Page
                                                                          ----
K & F Industries, Inc. - Consolidated Financial Statements:

 Independent Auditors' Report                                              F-1

 Consolidated Balance Sheets as of December 31, 1996 and March 31, 1996    F-2

 Consolidated Statements of Operations for the Nine Months Ended 
 December 31, 1996 and the Years Ended March 31, 1996 and 1995             F-3

 Consolidated Statements of Stockholders' Deficiency for the Nine
 Months Ended December 31, 1996 and the Years Ended March 31, 1996 
 and 1995                                                                  F-4

 Consolidated Statements of Cash Flows for the Nine Months Ended
 December 31, 1996 and the Years Ended March 31, 1996 and 1995             F-5

 Notes to Consolidated Financial Statements                                F-6

All other schedules and separate financial statements are omitted because they
are not applicable or the required information is shown in the financial
statements or notes thereto. Exhibits 10.04 through 10.09 and 10.11, 10.12 and
10.19 are management contracts or compensation plans.

(b)  Reports on Form 8-K: A report on Form 8-K was filed on November 22, 1996 to
     report the change of the Company's fiscal year-end from March 31 to
     December 31.

     Exhibits: See exhibit index below.

(c)  Exhibits

        2.01-   Agreement for Sale and Purchase of Assets dated March 26, 1989
                between Loral Corporation and the Registrant (1)

        3.01-   Amended and Restated Certificate of Incorporation of the Company
                (7)

        3.02-   Amended and Restated By-Laws of the Company (6)

        4.01-   Indenture dated as of August 15, 1996 for the 10 3/8% Senior
                Subordinated Notes due 2004 (including the form of Senior
                Subordinated Notes as Exhibit A thereto) between the Company and
                Fleet National Bank, as trustee (9)

        4.04-   Indenture dated as of June 1, 1992 for the 11 7/8% Senior
                Secured Notes Due 2003 (including the form of Senior Notes)
                between the Company and the Bank of New York, as trustee (5)

        4.07-   Pledge Agreement dated as of June 10, 1992 between the Company
                and the Bank of New York, as collateral trustee (5)


                                       27

                
<PAGE>   28


(c)  Exhibits (continued):

        10.01 - Securities Purchase Agreement dated as of April 27, 1989, among
                the Company, Bernard L. Schwartz ("BLS") and Lehman Brothers
                Holdings Inc. ("LBH") (1)

        10.02 - Assumption Agreement dated as of April 27, 1989 (1)

        10.03 - Shared Services Agreement dated April 27, 1989, among Lockheed
                Martin, the Company, Aircraft Braking Systems Corporation and
                Engineered Fabrics Corporation (1)

        10.04 - Director Advisory Agreement dated as of April 27, 1989, between
                the Company and BLS (1)

        10.05 - Non-Competition Agreement dated as of April 27, 1989, between
                the Company and BLS (1)

        10.06 - K & F Industries, Inc. Retirement Plan for Salaried Employees
                (5)

        10.07 - K & F Industries, Inc. Savings Plan for Salaried Employees (5)

        10.08 - Goodyear Aerospace Corporation Supplemental Unemployment
                Benefits Plan for Salaried Employees - Plan A (1)

        10.09 - The Loral Systems Group Release and Separation Allowance Plan
                (1)

        10.10 - Letter Agreement dated April 27, 1989, between the Company and
                LBH (1)

        10.11 - K & F Industries, Inc. 1989 Stock Option Plan (2)

        10.12 - K & F Industries, Inc. Executive Deferred Bonus Plan (2)

        10.13 - Securities Purchase Agreement dated as of July 22, 1991 among
                the Company, BLS and the Lehman Investors (4)

        10.14 - Securities Purchase Agreement among the Company, BLS and the
                Lehman Investors dated September 2, 1994 (6)

        10.15 - Amended and Restated Stockholders Agreement dated as of
                September 2, 1994, By and Among the Company, BLS, the Lehman
                Investors, Chase Capital Partners and Loral Space (6)

        10.16 - Agreement dated as of September 2, 1994, between the Company
                and Loral Space (6)

        10.17 - Amendment of Stockholders Agreement dated November 8, 1994 (6)

        10.18 - Securities Conversion Agreement among the Company and the
                Converting Stockholders, dated November 8, 1994 (6)

        10.19 - K & F Industries, Inc. Supplemental Executive Retirement Plan
                (8)


        10.20 - Amended and Restated Credit Agreement dated as of August 14,
                1996, among ABS, EFC, the Lenders (as defined therein), Lehman
                Commercial Paper, Inc., as Documentation Agent and Chase
                Securities Inc., individually and as agent for the Lenders
                ("Chase") (9)

        10.21 - Amended and Restated Security Agreement dated as of August 14,
                1996, between ABS and Chase (9)

        10.22 - Amended and Restated Security Agreement dated as of August 14,
                1996, between EFC and Chase (9)


                                       28


<PAGE>   29


(c)  Exhibits (continued):

10.23 - Revolving Credit Note dated as of August 14, 1996 executed by each of
        ABS and EFC in favor of NBD Bank (9)

10.24 - Facility A Notes dated as of August 14, 1996 executed by each of ABS
        and EFC in favor of NBD Bank (9)

10.25 - Amended and Restated K & F agreement dated as of August 14, 1996,
        between the Company and Chase (9)

10.26 - Amended and Restated Subordination Agreement dated as of August 14,
        1996, between ABS and Chase (9)

10.27 - Amended and Restated Subordination Agreement dated as of August 14,
        1996, between EFC and Chase (9)

10.28 - Purchase Agreement dated August 12, 1996 among the Company, Lehman
        Brothers Inc. and Chase Securities Inc. (9)

10.29 - Registration Rights Agreement dated as of August 15, 1996 among the
        Company, Lehman Brothers Inc. and Chase Securities Inc. (9)

12.01 - Statement of computations of ratio of earnings to fixed charges (9)

21.01 - Subsidiaries of the Registrant (1)

24.01 - Powers of Attorney (included on signature page)

27.01 - Financial Data Schedule
----------

(1)  Previously filed as an exhibit to the Company's Registration Statement on
     Form S-1, No. 33-29035 and incorporated herein by reference.

(2)  Previously filed as an exhibit to the Company's Annual Report on Form 10-K
     for the fiscal year ended March 31, 1990 and incorporated herein by
     reference.

(3)  Previously filed as an exhibit to the Company's Annual Report on Form 10-K
     for the fiscal year ended March 31, 1991 and incorporated herein by
     reference.

(4)  Previously filed as an exhibit to the Company's Quarterly Report on Form
     10-Q for the quarter ended June 30, 1991 and incorporated herein by
     reference.

(5)  Previously filed as an exhibit to the Company's Registration Statement on
     Form S-1, No. 33-47028 and incorporated herein by reference.

(6)  Previously filed as an exhibit to the Company's Quarterly Report on Form
     10-Q for the quarter ended September 30, 1994 and incorporated herein by
     reference.

(7)  Previously filed as an exhibit to the Company's Annual Report on Form 10-K
     for the fiscal year ended March 31, 1995 and incorporated herein by
     reference.

(8)  Previously filed as an exhibit to the Company's Annual Report on Form 10-K
     for the fiscal year ended March 31, 1996 and incorporated herein by
     reference.

(9)  Previously filed as an exhibit to the Company's Registration Statement on
     Form S-4, No. 333-11047 and incorporated herein by reference.


                                       29


<PAGE>   30

                                   SIGNATURES


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


         K & F INDUSTRIES, INC.

         By:/s/KENNETH M. SCHWARTZ
            -----------------------------
            Kenneth M. Schwartz
            Executive Vice President

            Date:   March 28, 1997

Pursuant to the requirements of The Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.

   Signature                         Title                            Date
   ---------                         -----                            ----

          *                    Chairman of the Board, Chief       March 28, 1997
-------------------------      Executive Officer and Director 
Bernard L. Schwartz            (principal executive officer)              
                                                                          
/s/KENNETH M. SCHWARTZ         Executive Vice President           March 28, 1997
-------------------------
 Kenneth M. Schwartz

/s/DIRKSON R. CHARLES           Chief Financial Officer           March 28, 1997
--------------------------      (principal financial and 
 Dirkson R. Charles             accounting officer) 

          *                     Director                          March 28, 1997
--------------------------
Herbert R. Brinberg

          *                     Director                          March 28, 1997
--------------------------
 Ronald H. Kisner

          *                     Director                          March 28, 1997
--------------------------
John R. Paddock

          *                     Director                          March 28, 1997
--------------------------
James A. Stern

          *                     Director                          March 28, 1997
--------------------------
 A. Robert Towbin

          *                     Director                          March 28, 1997
---------------------------
Alan H. Washkowitz

*By: /s/KENNETH M. SCHWARTZ    Attorney-in-Fact                   March 28, 1997
     ---------------------
     Kenneth M. Schwartz


                                       30

<PAGE>   31


INDEPENDENT AUDITORS' REPORT


To the Board of Directors and Stockholders of 
K & F Industries, Inc.:

We have audited the accompanying consolidated balance sheets of K & F
Industries, Inc. and subsidiaries (the "Company") as of December 31, 1996 and
March 31, 1996, and the related consolidated statements of operations,
stockholders' deficiency, and cash flows for the nine months ended December 31,
1996 and for each of the two years in the period ended March 31, 1996. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of K & F Industries, Inc. and
subsidiaries as of December 31, 1996 and March 31, 1996, and the results of
their operations and their cash flows for the nine months ended December 31,
1996 and for each of the two years in the period ended March 31, 1996 in
conformity with generally accepted accounting principles.

DELOITTE & TOUCHE LLP
New York, New York
January 23, 1997


                                       F-1


<PAGE>   32


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

                           CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                                                  December 31,             March 31,
                                                                                                       1996                 1996
                                                                                                 -------------        -------------
                                                              ASSETS
Current Assets:
<S>                                                                                              <C>                  <C>          
   Cash and cash equivalents .............................................................       $   1,508,000        $   2,412,000
   Accounts receivable, net ..............................................................          36,032,000           35,228,000
   Inventory .............................................................................          68,334,000           63,332,000
   Deferred tax asset ....................................................................           1,411,000                   --
   Other current assets ..................................................................             586,000              832,000
                                                                                                 -------------        -------------
                  Total current assets ...................................................         107,871,000          101,804,000
                                                                                                 -------------        -------------

Property, Plant and Equipment - Net ......................................................          69,986,000           65,044,000

Deferred Charges - Net of amortization of $3,741,000 and
   $9,452,000 ............................................................................         24,674,000           24,082,000

Cost in Excess of Net Assets Acquired - Net of amortization
   of $46,839,000 and $42,257,000 ........................................................         196,446,000          202,119,000

Intangible Assets - Net of amortization of $26,576,000
   and $24,035,000 .......................................................................          20,138,000           22,988,000
                                                                                                 -------------        -------------
Total Assets .............................................................................       $ 419,115,000        $ 416,037,000
                                                                                                 =============        =============

                                             LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current Liabilities:
    Accounts payable .....................................................................       $  11,253,000        $  12,485,000
    Current portion of long-term debt ....................................................           6,000,000                   --
    Interest payable .....................................................................           6,689,000            8,217,000
    Other current liabilities ............................................................          49,740,000           44,775,000
                                                                                                 -------------        -------------
                  Total current liabilities ..............................................          73,682,000           65,477,000
                                                                                                 -------------        -------------

Postretirement Benefit Obligation Other Than Pensions ....................................          75,439,000           75,390,000

Other Long-Term Liabilities ..............................................................          16,300,000           20,871,000

Long-Term Debt ...........................................................................         287,000,000          294,000,000
Commitments and Contingencies (Notes 12 and 13)
Stockholders' Deficiency:
  Preferred stock, $.01 par value - authorized, 1,050,000 shares; issued and
     outstanding, 1,027,635 shares (liquidation preference of
     $60,110,000) ........................................................................              10,000               10,000
  Common stock, Class B, $.01 par value - authorized, 460,000
     shares; issued and outstanding, 458,994 shares (liquidation
     preference of $26,848,000) ..........................................................               5,000                5,000
  Common stock, Class A, $.01 par value - authorized, 2,100,000 shares;
     issued and outstanding, 553,344 shares ..............................................               6,000                6,000
  Additional paid-in capital .............................................................         155,350,000          155,350,000
  Deficit ................................................................................        (178,147,000)        (184,049,000)
  Adjustment to equity for minimum pension liability .....................................         (10,649,000)         (10,572,000)
  Cumulative translation adjustment ......................................................             119,000             (451,000)
                                                                                                 -------------        -------------
                  Total stockholders' deficiency .........................................         (33,306,000)         (39,701,000)
                                                                                                 -------------        -------------

Total Liabilities and Stockholders' Deficiency ...........................................       $ 419,115,000        $ 416,037,000
                                                                                                 =============        =============
</TABLE>

                 See notes to consolidated financial statements.

                                       F-2


<PAGE>   33


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
                                                                             Years Ended
                                                      Nine Months Ended        March 31,
                                                         December 31,  ------------------------------
                                                            1996            1996              1995
                                                      -------------    -------------    -------------
<S>                                                   <C>              <C>              <C>          
Net sales .........................................   $ 212,703,000    $ 264,736,000    $ 238,756,000

Cost of sales .....................................     136,813,000      180,435,000      164,697,000
                                                      -------------    -------------    -------------
Gross margin ......................................      75,890,000       84,301,000       74,059,000

Independent research and development ..............       8,623,000        9,767,000        8,363,000

Selling, general and administrative expenses ......      17,297,000       22,564,000       19,208,000

Amortization ......................................       7,810,000       10,415,000       10,411,000
                                                      -------------    -------------    -------------

Operating income ..................................      42,160,000       41,555,000       36,077,000

Interest expense, net of interest income of
    $787,000, $722,000 and $374,000 ...............      27,197,000       41,048,000       46,250,000
                                                      -------------    -------------    -------------

Income (loss) before income taxes and extraordinary
    charge ........................................      14,963,000          507,000      (10,173,000)

Income tax benefit ................................          81,000               --               --
                                                      -------------    -------------    -------------

Income (loss) before extraordinary charge .........      15,044,000          507,000      (10,173,000)

Extraordinary charge from early extinguishment
    of debt .......................................      (9,142,000)      (1,913,000)              --
                                                      -------------    -------------    -------------
Net income (loss) .................................   $   5,902,000    $  (1,406,000)   $ (10,173,000)
                                                      =============    =============    =============
</TABLE>

                See notes to consolidated financial statements.



                                       F-3


<PAGE>   34


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

               CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIENCY
                     NINE MONTHS ENDED DECEMBER 31, 1996 AND
                       YEARS ENDED MARCH 31, 1996 AND 1995


<TABLE>
<CAPTION>
                                                              Class B             Class A          
                                      Preferred Stock        Common Stock        Common Stock      
                                      ---------------        ------------        ------------      
                                                                                                   
                                                                                                   
                                     Shares               Shares               Shares              
                                     Issued     Amount    Issued     Amount    Issued      Amount  
                                 ----------  ----------   -------    -------   --------    ------- 
<S>            <C>                  <C>         <C>                   <C>      <C>         <C>     
Balance, April 1, 1994 ..........   899,999     $9,000        --      $  --    484,616     $5,000  
  Net loss ......................                                                                  
  Conversion of subordinated
     convertible debentures......                         458,994     5,000                        
  Issuance of preferred stock....   127,636      1,000                                             
  Issuance of common stock.......                                               68,728      1,000   
  Pension adjustment.............                                                                   
  Cumulative translation
    adjustment ..................                                                                   
                                 ----------  ----------   -------    -------   --------    ------- 
Balance, March 31, 1995.........  1,027,635     10,000    458,994     5,000    553,344      6,000  
  Net loss .....................                                                                   
  Pension adjustment ...........                                                                   
  Cumulative translation
    adjustment................                                                                   
                                 ----------  ----------   -------    -------   --------    ------- 
Balance, March 31, 1996.........  1,027,635     10,000    458,994     5,000    553,344      6,000  

  Net income ...................                                                                   
  Pension adjustment ...........                                                                   
  Cumulative translation
    adjustment..................                                                                    
                                 ----------  ----------   -------    -------   --------    ------- 
Balance, December 31, 1996        1,027,635    $10,000    458,994    $5,000    553,344     $6,000  
                                 ----------  ----------   -------    -------   --------    ------- 

<CAPTION>
                                                                             Adjustment                             
                                                                           to Equity for                            
                                          Additional                          Minimum         Cumulative            
                                            Paid-in                           Pension         Translation           
                                            Capital        Deficit           Liability        Adjustment            
                                        -------------   --------------     -------------   ------------             
<S>                                      <C>            <C>                 <C>              <C>                    
Balance, April 1, 1994 ..........        $89,986,000    $(172,470,000)      $(7,467,000)     $(418,000)             
  Net loss ......................                         (10,173,000)                                              
  Conversion of subordinated                                                                                      
    convertible debentures......          52,602,000                                                                
  Issuance of preferred stock...          10,799,000                                                                
  Issuance of common stock......           1,963,000                                                                
  Pension adjustment............                                                275,000                             
  Cumulative translation                                                                                          
    adjustment .................                                                               134,000              
                                        -------------   --------------     -------------   ------------             
Balance, March 31, 1995.........         155,350,000     (182,643,000)       (7,192,000)      (284,000)             
  Net loss .....................                           (1,406,000)                                              
  Pension adjustment ...........                                             (3,380,000)                            
  Cumulative translation                                                                                            
    adjustment..................                                                              (167,000)             
                                        -------------   --------------     -------------   ------------             
Balance, March 31, 1996.........         155,350,000     (184,049,000)      (10,572,000)      (451,000)             
                                                                                                                    
  Net income ...................                            5,902,000                                               
  Pension adjustment ...........                                                (77,000)                            
  Cumulative translation                                                                                             
    adjustment..................                                                               570,000              
                                        -------------   --------------     -------------   ------------             
Balance, December 31, 1996              $155,350,000    $(178,147,000)     $(10,649,000)      $119,000              
                                        -------------   --------------     -------------   ------------             
</TABLE>







                          See notes to consolidated financial statements.




                                                F-4




<PAGE>   35




                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                         Nine Months Ended                 Years Ended
                                                                            December 31,                    March 31,
                                                                                                    ---------------------------
                                                                              1996                 1996                  1995
                                                                        -------------        -------------        -------------
<S>                                                                        <C>                 <C>                 <C>          
Cash Flows From Operating Activities:
  Net income (loss) .............................................       $   5,902,000          $(1,406,000)        $(10,173,000)
  Adjustments to reconcile net income (loss) to net cash
    provided by operating activities:
       Depreciation .............................................           6,834,000            8,506,000            8,432,000
       Amortization .............................................           7,810,000           10,415,000           10,411,000
       Non-cash interest expense-convertible debentures .........                  --                   --            3,950,000
       Non-cash interest expense-amortization of deferred
          financing charges .....................................           1,101,000            1,561,000            1,482,000
       Provision for losses on accounts receivable ..............               2,000            1,548,000               63,000
       Extraordinary charge from early extinguishment of debt ...           9,142,000            1,913,000                   --
       Deferred tax benefit .....................................            (320,000)                  --                   --
       Changes in assets and liabilities:
            Accounts receivable .................................            (552,000)          (3,296,000)            (767,000)
            Inventory ...........................................          (4,686,000)          (1,664,000)           5,919,000
            Other current assets ................................             246,000              274,000               90,000
            Accounts payable ....................................          (1,232,000)           2,140,000            1,317,000
            Interest payable ....................................          (1,528,000)            (554,000)             (47,000)
            Other current liabilities ...........................           4,965,000            7,002,000            2,791,000
            Postretirement benefit obligation other than pensions              49,000           (2,327,000)          (2,433,000)
            Other long-term liabilities .........................          (4,339,000)          (1,811,000)          (3,682,000)
                                                                        -------------        -------------        -------------

            Net cash provided by operating activities ...........          23,394,000           22,301,000           17,353,000
                                                                        -------------        -------------        -------------

Cash Flows From Investing Activities:
     Capital expenditures .......................................         (14,091,000)         (10,418,000)          (2,824,000)
     Deferred charges ...........................................            (250,000)            (538,000)            (363,000)
                                                                        -------------        -------------        -------------

             Net cash used in investing activities ..............         (14,341,000)         (10,956,000)          (3,187,000)
                                                                        -------------        -------------        -------------

Cash Flows From Financing Activities:
     Payments of senior revolving loan ..........................         (49,000,000)          (9,000,000)         (20,000,000)
     Borrowings under senior revolving loan .....................          48,000,000           23,000,000           10,000,000
     Borrowings under senior term loan ..........................          40,000,000                   --                   --
     Proceeds from issuance of senior subordinated notes ........         140,000,000                   --                   --
     Payments of senior subordinated debentures .................        (180,000,000)         (30,000,000)                  --
     Premiums paid on early extinguishment of debt ..............          (4,500,000)          (1,126,000)                  --
     Deferred charges - financing costs .........................          (6,772,000)            (300,000)                  --
     Payment of subordinated convertible debentures .............                  --                   --          (12,764,000)
     Proceeds from issuance of common and preferred stocks ......                  --                   --           12,764,000
     Proceeds from sale and lease back transaction ..............           2,315,000                   --                   --
                                                                        -------------        -------------        -------------

             Net cash used in financing activities ..............          (9,957,000)         (17,426,000)         (10,000,000)
                                                                        -------------        -------------        -------------

Net (decrease) increase in cash and cash equivalents ............            (904,000)          (6,081,000)           4,166,000

Cash and cash equivalents, beginning of period ..................           2,412,000            8,493,000            4,327,000
                                                                        -------------        -------------        -------------

Cash and cash equivalents, end of period ........................       $   1,508,000        $   2,412,000        $   8,493,000
                                                                        =============        =============        =============

Supplemental Information:
     Interest paid during the period ............................       $  28,411,000        $  40,763,000        $  41,239,000
                                                                        =============        =============        =============

     Income taxes paid during the period ........................       $     344,000        $          --        $          --
                                                                        =============        =============        =============
</TABLE>

Supplemental disclosure of non-cash financing activities:
  See Note 9 for a discussion of non-cash financing
       activities.

                See notes to consolidated financial statements.


                                       F-5


<PAGE>   36


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.   DESCRIPTION OF BUSINESS

     K & F Industries, Inc. ("K & F") and subsidiaries (collectively, the
     "Company") is primarily engaged in the design, development, manufacture and
     distribution of wheels, brakes and anti-skid systems for commercial,
     military and general aviation aircraft, and the manufacture of materials
     for fuel tanks, iceguards, inflatable oil booms and various other products
     made from coated fabrics for military and commercial uses. The Company
     serves the aerospace industry (which is experiencing some consolidation)
     and sells its products to airframe manufacturers and commercial airlines
     throughout the world and to the United States and certain foreign
     governments. The Company's activities are conducted through its two wholly
     owned subsidiaries, Aircraft Braking Systems Corporation ("Aircraft Braking
     Systems"), which generated approximately 90% of the Company's total
     revenues during the nine months ended December 31, 1996 and Engineered
     Fabrics Corporation (collectively, the "Subsidiaries"), which generated
     approximately 10% of the Company's total revenues during the nine months
     ended December 31, 1996.

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     Year-End Change - Effective December 31, 1996, the Company changed its
     fiscal year-end from March 31 to December 31. Accordingly, the accompanying
     financial statements include audited financial statements for the nine
     months ended December 31, 1996.

     Principles of Consolidation - The consolidated financial statements include
     the accounts of the Company. All material intercompany accounts and
     transactions between these entities have been eliminated.

     Cash and Cash Equivalents - Cash and cash equivalents consist of cash,
     commercial paper and other investments that are readily convertible into
     cash and have original maturities of three months or less.

     Revenue and Expense Recognition - Sales are recorded as units are shipped.
     The Company customarily sells original wheel and brake equipment below cost
     as an investment in a new airframe which is expected to be recovered
     through the subsequent sale of replacement parts. These commercial
     investments (losses) are recognized when original equipment is shipped. For
     the nine months ended December 31, 1996 and for the fiscal years ended
     March 31, 1996 and 1995, investments were $20.2 million, $29.9 million and
     $23.9 million, respectively. Losses on U.S. government contracts are
     immediately recognized in full when determinable.

     Inventory - Inventory is stated at average cost, not in excess of net
     realizable value. In accordance with industry practice, inventoried costs
     may contain amounts relating to contracts with long production cycles, a
     portion of which will not be realized within one year.

     Property, Plant and Equipment - Property, plant and equipment are stated at
     cost. Maintenance and repairs are expensed when incurred; renewals and
     betterments are capitalized. When assets are retired or otherwise disposed
     of, the cost and accumulated depreciation are eliminated from the accounts,
     and any gain or loss is included in the results of operations. Depreciation
     is provided on the straight-line method over the estimated useful lives of
     the related assets as follows: buildings and improvements - 8 to 40 years;
     machinery, equipment, furniture and fixtures - 3 to 25 years; leasehold
     improvements - over the life of the applicable lease or 10 years, whichever
     is shorter.

     Deferred Charges - Deferred charges consist primarily of financing costs
     ($8.7 million and $7.7 million, which is net of amortization (non-cash
     interest expense) of $1.3 million and $6.9 million at December 31, 1996 and
     March 31, 1996, respectively), and program participation costs ($13.9
     million and $14.5 million, which is net of amortization of $2.4 million and
     $1.8 million, at December 31, 1996 and March 31, 1996, respectively) paid
     in connection with the sole-source award of wheels, brakes and anti-skid
     equipment on the McDonnell Douglas Corporation's MD-90 twin-jet program.
     Program participation costs are being amortized on a straight-line method
     over a period of 20 years. Deferred financing charges are primarily being
     amortized on an effective interest method over periods of 5 to 8 years. 



                                      F-6

<PAGE>   37


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)



     Cost in Excess of Net Assets Acquired - Cost in excess of net assets
     acquired is being amortized on the straight-line method over a period of 40
     years. The Company reviews the cost in excess of net assets acquired for
     recoverability on an on-going basis using undiscounted cash flows.
     Impairments would be recognized in operating results.

     Intangible Assets - Intangible assets consist of patents, licenses and
     computer software which are stated at cost and are being amortized on a
     straight-line method over periods of 5 to 30 years.

     Evaluation of Long-Lived Assets - Long-lived assets are assessed for
     recoverability on an on-going basis in accordance with Statement of
     Financial Accounting Standards (SFAS) No. 121. In evaluating the value and
     future benefits of long-lived assets, their carrying value would be reduced
     by the excess, if any, of the long-lived asset over management's estimate
     of the anticipated discounted future net cash flows of the related
     long-lived asset. There were no adjustments to the carrying amount of
     long-lived assets during the nine months ended December 31, 1996 and during
     the fiscal years ended March 31, 1996 and 1995, resulting from the
     Company's evaluations.

     Warranty - Estimated costs of product warranty are accrued when individual
     claims arise with respect to a product. When the Company becomes aware of
     such defects, the estimated costs of all potential warranty claims arising
     from such defects are fully accrued.

     Business and Credit Concentrations - The Company's customers are
     concentrated in the airline industry but are not concentrated in any
     specific region. The U. S. government accounted for approximately 12%, 16%
     and 14% of total sales for the nine months ended December 31, 1996 and for
     the fiscal years ended March 31, 1996 and 1995, respectively. No other
     single customer accounted for 10% or more of consolidated revenues for the
     nine months and fiscal years then ended, and there were no significant
     accounts receivable from a single customer, except the U. S. government, at
     December 31, 1996 and March 31, 1996.

     Use of Estimates - The preparation of financial statements in conformity
     with generally accepted accounting principles requires management to make
     estimates and assumptions that affect the reported amounts of assets and
     liabilities, and disclosure of contingent assets and liabilities at the
     date of the financial statements, and the reported amounts of revenues and
     expenses during the reporting period. Actual results could differ from
     those estimates.

     Accounting and Reporting Changes - Effective April 1, 1996, the Company
     adopted SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets
     and for Long-Lived Assets to Be Disposed Of." SFAS No. 121 establishes
     accounting standards for the recognition of an impairment of long-lived
     assets, certain identifiable intangibles, and goodwill related to those
     assets to be held and used, and for long-lived assets and certain
     identifiable intangibles to be disposed of. The adoption of SFAS No. 121
     did not have a material effect on the Company's financial position or
     results of operations.

     Effective April 1, 1996, the Company adopted SFAS No. 123, "Accounting for
     Stock-Based Compensation." SFAS No. 123 encourages (but does not require)
     adoption of the fair value based method of accounting for stock-based
     compensation plans. Entities may continue to measure compensation costs for
     those plans using the intrinsic value based method of accounting, but must
     make pro forma disclosures of net income (loss) as if the accounting
     provisions of SFAS No. 123 had been adopted. The Company has elected to
     continue the intrinsic value method of accounting for stock-based
     compensation plans and provide the required pro forma disclosures. As a
     result, the adoption of SFAS No. 123 had no effect on the Company's
     financial position or results of operations. (See Note 9.)

     Reclassifications - Certain amounts in the prior years' financial
     statements have been reclassified to conform to the current period
     presentation. 


                                      F-7


<PAGE>   38




                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

<TABLE>
<CAPTION>
3. ACCOUNTS RECEIVABLE
                                                                                            December 31,                March 31,
                                                                                               1996                       1996
                                                                                            ------------               ------------
<S>                                                                                         <C>                        <C>         
Accounts receivable, principally from commercial
  customers ..................................................................              $ 34,086,000               $ 32,704,000

Accounts receivable on U.S. government and other
  long-term contracts ........................................................                 2,359,000                  4,136,000

Allowances ...................................................................                  (413,000)                (1,612,000)
                                                                                            ------------               ------------

                  Total ......................................................              $ 36,032,000               $ 35,228,000
                                                                                            ============               ============

4. INVENTORY

                                                                                            December 31,                March 31,
                                                                                               1996                       1996
                                                                                            ------------               ------------

Raw materials and work-in-process ............................................              $ 46,742,000               $ 39,656,000

Finished goods ...............................................................                10,821,000                 11,364,000

Inventoried costs related to U.S. ............................................
  government and other long-term contracts ...................................                10,771,000                 12,312,000
                                                                                            ------------               ------------
                                                                                            $ 68,334,000               $ 63,332,000
                                                                                            ============               ============

5. PROPERTY, PLANT AND EQUIPMENT

                                                                                            December 31,                March 31,
                                                                                               1996                       1996
                                                                                            ------------               ------------

Land .........................................................................              $    661,000               $    661,000
Buildings and improvements ...................................................                33,961,000                 29,148,000
Machinery, equipment, furniture and fixtures .................................               102,278,000                 95,315,000
                                                                                            ------------               ------------

                  Total ......................................................               136,900,000                125,124,000

Less accumulated depreciation and amortization ...............................                66,914,000                 60,080,000
                                                                                            ------------               ------------

                  Total ......................................................              $ 69,986,000               $ 65,044,000
                                                                                            ============               ============
</TABLE>

     During the nine months ended December 31, 1996, the Company sold and leased
     back assets with a net book value of $2,315,000.


                                       F-8


<PAGE>   39


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

<TABLE>
<CAPTION>
6. OTHER CURRENT LIABILITIES

                                                                                             December 31,                March 31,
                                                                                                1996                        1996
                                                                                            ------------               ------------

<S>                                                                                         <C>                        <C>         
   Accrued payroll costs .....................................................              $ 15,170,000               $ 15,756,000
   Accrued taxes .............................................................                 6,504,000                  7,783,000
   Accrued costs on long-term contracts ......................................                 5,744,000                  5,195,000
   Accrued warranty costs ....................................................                 6,695,000                  8,023,000
   Customer credits ..........................................................                 7,483,000                  3,230,000
   Postretirement benefit obligation other than pensions .....................                 2,000,000                  2,000,000
   Other .....................................................................                 6,144,000                  2,788,000
                                                                                            ------------               ------------

                  Total ......................................................              $ 49,740,000               $ 44,775,000
                                                                                            ============               =============

7. LONG-TERM DEBT
                                                                                             December 31,                March 31,
                                                                                                1996                        1996
                                                                                            ------------               ------------
   Senior revolving loan (a) .................................................              $ 13,000,000               $ 14,000,000
   Senior term loan (a) ......................................................                40,000,000                         --
   11 7/8% Senior Secured Notes due 2003 (b) .................................               100,000,000                100,000,000
   10 3/8% Senior Subordinated Notes due 2004 (c) ............................               140,000,000                         --
   13 3/4% Senior Subordinated Debentures due 2001 (d) .......................                        --                180,000,000
                                                                                            ------------               ------------

                  Total ......................................................               293,000,000                294,000,000

   Less current maturities (a) ...............................................                 6,000,000                         --
                                                                                            ------------               ------------
                  Total ......................................................              $287,000,000               $294,000,000
                                                                                            ============               ============
</TABLE>

a)   Credit Agreement - In August 1996, the Company entered into an Amended and
     Restated Credit Agreement (the "Credit Agreement") consisting of a $40
     million senior term loan (the "Term Loan") and a $70 million revolving loan
     facility (the "Revolving Loan"). The proceeds from the Revolving Loan were
     used to repay outstanding indebtedness under the Company's 1992 revolving
     credit facility. Both loans bear interest at varying interest rates
     selected at the option of the Company. At December 31, 1996, the interest
     rate on the Term Loan was 7.875%. At December 31, 1996 and March 31, 1996,
     the interest rate on the Revolving Loan was 7.875% and 8.37%, respectively.
     Obligations under the Credit Agreement are secured by a lien on the
     inventory, accounts receivable and certain other tangible assets. All
     borrowings under the Revolving Loan mature August 14, 2001. The Term Loan
     is a six-year amortizing facility maturing September 30, 2002.

     Scheduled debt maturities of the Term Loan for the five years subsequent to
     December 31, 1996 are as follows:

<TABLE>
<CAPTION>
            Year ending December 31,      Amount
            ------------------------      ------
                       <S>            <C>                  
                       1997           $3,500,000
                       1998            6,000,000
                       1999            6,500,000
                       2000            8,000,000
                       2001            8,500,000
</TABLE>

                                       F-9



<PAGE>   40


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

     In addition to scheduled quarterly payments, the net proceeds from certain
     asset sales, new equity or debt offerings and 50% of excess cash flow (as
     defined) must be used to prepay the Term Loan. As a result of the excess
     cash flow calculation (calculated from August 14, 1996), at December 31,
     1996 additional long-term debt of $2.5 million has been classified as
     current.

     The Credit Agreement provides for Revolving Loans not to exceed $70
     million, with availability determined by reference to a borrowing base of
     eligible accounts receivable and inventory. The revolving loan facility
     provides for the issuance of up to $15 million of letters of credit subject
     to the unused portion of the borrowing base. At December 31, 1996 and March
     31, 1996, the Company had $51.6 million and $40.6 million, respectively,
     available to borrow under the revolving loan facility. At December 31, 1996
     and March 31, 1996, the Company had outstanding letters of credit $5.4
     million and $5.8 million, respectively.

     The Credit Agreement contains certain covenants and events of default,
     including limitations on additional indebtedness, liens, asset sales,
     dividend payments, capital expenditures and other distributions from the
     Subsidiaries to K & F and contains financial ratio requirements including a
     cash interest coverage ratio, a leverage ratio and maintenance of a minimum
     adjusted net worth. The Company was in compliance with all covenants at
     December 31, 1996.

(b)  11 7/8% Senior Secured Notes - On June 10, 1992, the Company issued $100
     million of 11 7/8% Senior Secured Notes which mature on December 1, 2003
     (the "Senior Notes"). The Senior Notes are not subject to a sinking fund.
     The Senior Notes may not be redeemed prior to June 1, 1997. On and after
     June 1, 1997, the Company may redeem the Senior Notes at descending
     premiums ranging from 5.28% in June 1997 to no premium after June 2001.

(c)  10 3/8% Senior Subordinated Notes - On August 15, 1996, the Company issued
     $140 million of 10 3/8% Senior Subordinated Notes which mature on September
     1, 2004 (the "10 3/8% Notes"). The 10 3/8% Notes are not subject to a
     sinking fund. The 10 3/8% Notes may not be redeemed prior to September 1,
     2000. On and after September 1, 2000, the Company may redeem the 10 3/8%
     Notes at descending premiums ranging from 5.19% in September 2000 to no
     premium after September 2003.

(d)  13 3/4% Senior Subordinated Debentures - During the nine months ended
     December 31, 1996, the Company redeemed the remaining $180 million of the
     $210 million of 13 3/4% Senior Subordinated Debentures which were to mature
     on August 1, 2001 (the "13 3/4% Debentures"). The Company used the net
     proceeds from the 10 3/8% Notes together with borrowings under the Credit
     Agreement, to redeem the remaining 13 3/4% Debentures at a price of 102.5%
     of the principal amount thereof. In connection therewith, the Company
     recorded an extraordinary charge of $9.142 million, consisting of
     redemption premiums and the write-off of unamortized financing costs.

     On December 28, 1995, the Company redeemed $30 million principal amount of
     the 13 3/4% Debentures at a redemption price of 103.75% of the principal
     amount thereof. The Company used cash on hand and borrowings from the
     revolving credit facility to redeem the 13 3/4% Debentures. In connection
     therewith, the Company recorded an extraordinary charge of $1.913 million,
     consisting of redemption premiums and the write-off of unamortized
     financing costs.


                                      F-10



<PAGE>   41


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8.   FAIR VALUE OF FINANCIAL INSTRUMENTS

     The carrying amount of all financial instruments reported on the balance
     sheet at December 31, 1996 and March 31, 1996 approximate their fair value,
     except as discussed below.

     The fair value of the Company's total debt based on quoted market prices or
     on current rates for similar debt with the same maturities was
     approximately $308 million and $311 million at December 31, 1996 and March
     31, 1996, respectively.

9. CAPITAL STOCK

     a.   On February 15, 1995, the Board of Directors approved a one-for-ten
          reverse common stock split for all holders of Class A and Class B
          common stock on such date.

     b.   On September 2, 1994, K & F retired the $65.4 million principal amount
          of 14 3/4% Subordinated Convertible Debentures held by Loral
          Corporation, in exchange for $12.76 million in cash and 458,994 shares
          of Class B common stock representing 22.5% of equity. The cash portion
          of this transaction was funded with the proceeds from the sale of
          capital stock to K & F's principal stockholders for which stockholders
          received a total of 68,728 shares of Class A common stock and 127,636
          shares of preferred stock. As a result, K & F's stockholders' equity
          was increased by $65.4 million and long-term debt was reduced by an
          equal amount, resulting in no gain or loss on the transaction.

     c.   The preferred stock is convertible into Class A voting common stock on
          a one-for-one basis. The preferred stock and Class B common stock are
          entitled to vote on all matters on which the Class A common stock will
          vote and are entitled to one vote per share.

     d.   The Company has a Stock Option Plan which provides for the grant of
          non-qualified or incentive stock options to acquire 50,000 authorized
          but unissued shares of Class A common stock. The options are
          exercisable in four equal installments on the second, third, fourth
          and fifth anniversaries of the date of grant, and shall remain
          exercisable until the expiration of the option, 10 years from the date
          of the grant, at an exercise price of $84.60.

Stock  option  activity is summarized as follows:
<TABLE>
<CAPTION>                                                       Years Ended
                                       Nine Months Ended         March 31,
                                            December 31,   --------------------
                                              1996           1996         1995
                                             -------       -------      -------
<S>                                           <C>           <C>          <C>   
Outstanding at beginning of year ......       11,500        11,500       12,000
Granted ...............................           --            --           --
Canceled ..............................         (250)           --         (500)
                                             -------       -------      -------
Outstanding at end of year ............       11,250        11,500       11,500
                                             =======       =======      =======

Exercisable options outstanding .......       10,375         9,625        8,938
                                             =======       =======      =======

Available for future grant ............       38,750        38,500       38,500
                                             =======       =======      =======
</TABLE>
  
          The weighted-average remaining contractual life of options outstanding
          at December 31, 1996 was 2.8 years.

                                      F-11


<PAGE>   42

                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

e.   In April 1996, Loral Space (which owns 22.5% of the outstanding capital
     stock of K & F) granted options to certain officers and employees of K & F
     to purchase 265,000 shares of Loral Space common stock at $10.50 per share.
     Such exercise price was equal to the market price at grant date. These
     options expire ten years from the date of grant and become exercisable
     ratably over a five year period.

     K & F is obligated to pay annual interest at LIBOR plus two percent to
     Loral Space on the balance of options issued but not exercised, times
     $10.50. At December 31, 1996, the amount due to Loral Space is $140,000
     which has been charged to operations.

     As described in Note 2, K & F accounts for its stock-based compensation
     using the intrinsic value method in accordance with Accounting Principles
     Board Opinion No. 25, "Accounting for Stock Issued to Employees" and its
     related interpretations. SFAS No. 123, "Accounting for Stock-Based
     Compensation" requires the disclosure of pro forma net income (loss) had K
     & F adopted the fair value method as of the beginning of 1995. SFAS No. 123
     requires that equity instruments granted to an employee by a principal
     stockholder be included as part of the disclosure. However, disclosure has
     been omitted because the pro forma incremental effect of these options on
     net income (loss) required to be disclosed under SFAS No. 123 is not
     material to K & F's results of operations.


                                      F-12


<PAGE>   43


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


10.  EMPLOYEE BENEFIT PLANS

     The Company provides pension benefits to substantially all employees
     through hourly and salaried pension plans. The plans provide benefits based
     primarily on the participant's years of service. The salaried plan also
     includes voluntary employee contributions. The Company's funding policy is
     to contribute at least the minimum amount required by the Employee
     Retirement Income Security Act of 1974.

     Net pension cost included the following:

<TABLE>
<CAPTION>
                                                                            Nine Months Ended                Years Ended
                                                                            December 31,                       March 31
                                                                                                  ----------------------------------
                                                                               1996                 1996                  1995
                                                                            -----------           -----------           -----------
<S>                                                                         <C>                   <C>                   <C>        
Service cost-benefits earned during the
  period .........................................................          $ 1,521,000           $ 1,562,000           $ 1,590,000
Interest cost on projected benefit obligation ....................            3,980,000             4,901,000             4,224,000
Actual (return) loss on plan assets ..............................           (5,439,000)           (9,940,000)              954,000
Net amortization and deferral ....................................            2,512,000             6,988,000            (3,869,000)
                                                                            -----------           -----------           -----------

                  Net pension cost ...............................          $ 2,574,000           $ 3,511,000           $ 2,899,000
                                                                            ===========           ===========           ===========
</TABLE>


     The table below sets forth the funded status of the plans as follows:

<TABLE>
<CAPTION>
                                                                                            December 31,                 March 31,
                                                                                                1996                        1996
                                                                                           ------------                ------------
<S>                                                                                        <C>                         <C>         
Actuarial present value of benefit obligation:
  Vested benefit obligation ................................................               $ 70,371,000                $ 65,642,000
                                                                                           ============                ============

  Accumulated benefit obligation ...........................................               $ 70,496,000                $ 65,987,000
  Effect of projected future salary increases ..............................                  2,624,000                   2,113,000
                                                                                           ------------                ------------

  Projected benefit obligation .............................................                 73,120,000                  68,100,000
Plan assets at fair market value ...........................................                 63,268,000                  55,100,000
                                                                                           ------------                ------------

Unfunded projected benefit obligation ......................................                  9,852,000                  13,000,000
Unrecognized prior service cost ............................................                 (1,876,000)                 (2,185,000)
Unrecognized net loss ......................................................                (13,273,000)                (12,685,000)
Adjustment for minimum liability ...........................................                 12,525,000                  12,757,000
                                                                                           ------------                ------------

Accrued pension cost recognized in the  
  consolidated balance sheet................................................               $  7,228,000                $ 10,887,000
                                                                                           ============                ============
</TABLE>
  

                                      F-13


<PAGE>   44

                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

     SFAS No. 87 requires recognition in the balance sheet of an additional
     minimum pension liability for underfunded plans with accumulated benefit
     obligations in excess of plan assets. A corresponding amount is recognized
     as an intangible asset or a reduction of equity. At December 31, 1996, the
     Company's additional minimum liability was $12,525,000 with a corresponding
     equity reduction of $10,649,000 and intangible asset of $1,876,000. At
     March 31, 1996, the Company's additional minimum liability was $12,757,000
     with a corresponding equity reduction of $10,572,000 and intangible asset
     of $2,185,000.

     Investments held by the Company's pension plans consist primarily of
     Fortune 500 equity securities and investment grade fixed income securities.

     The assumptions used in accounting for the plans are as follows:
<TABLE>
<CAPTION>
                                                                  Years Ended
                                            Nine Months Ended      March 31,
                                                  December 31,   --------------
                                                     1996       1996       1995
                                                     ----       ----       ----
<S>                                                  <C>        <C>        <C>  
Discount rate .................................      7.75%      7.50%      8.50%
Rate of increase in compensation levels .......      4.50       4.50       4.50
Expected long-term rate of return on assets ...      9.50       9.50       9.50
</TABLE>


     Eligible employees having one year of service also participate in one of
     the Company's Savings Plans (hourly or salaried). Under one of these plans,
     the Company matches 45% of a participating employee's contributions, up to
     6% of compensation. The employer contributions generally vest to
     participating employees after five years of service. The matching
     contributions were $572,000, $687,000 and $532,000 for the nine months
     ended December 31, 1996 and for the fiscal years ended March 31, 1996 and
     1995, respectively.


11. POSTRETIREMENT BENEFITS OTHER THAN PENSIONS

     The Company provides postretirement health care and life insurance benefits
     for all eligible employees and their dependents active at April 27, 1989
     and thereafter, and postretirement life insurance benefits for retirees
     prior to April 27, 1989. Participants are eligible for these benefits when
     they retire from active service and meet the eligibility requirements of
     the Company's pension plans. The health care plans are generally
     contributory and the life insurance plans are generally non-contributory.


                                      F-14


<PAGE>   45


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

     Net periodic postretirement benefit cost included the following components:

<TABLE>
<CAPTION>
                                                                                  Years Ended
                                                         Nine Months Ended          March 31,
                                                            December 31,        ------------------
                                                             1996            1996         1995
                                                             ----            ----         ----
<S>                                                      <C>            <C>            <C>        
Service cost-benefits attributed to service during the
  period .............................................   $   873,000    $   619,000    $   400,000
Interest cost on accumulated postretirement benefit
  obligation .........................................     3,176,000      3,474,000      3,543,000
Net amortization and deferral ........................    (2,442,000)    (4,332,000)    (3,732,000)
                                                         -----------    -----------    -----------

Net periodic postretirement benefit cost .............   $ 1,607,000    $  (239,000)   $   211,000
                                                         ===========    ===========    ===========
</TABLE>

     Presented below are the total obligations and amounts recognized in the
     Company's consolidated balance sheets, inclusive of the current portion:

<TABLE>
<CAPTION>
                                                             December 31,       March 31,
                                                                 1996             1996
                                                                 ----             ----
<S>                                                          <C>             <C>         
Accumulated postretirement benefit obligation:
    Retirees .............................................   $ 34,042,000    $ 30,172,000
    Fully eligible active plan participants ..............      2,247,000       2,838,000
    Other active plan participants .......................     22,558,000      16,304,000
                                                             ------------    ------------
Total accumulated postretirement benefit obligation ......     58,847,000      49,314,000
Unrecognized net loss ....................................    (20,081,000)    (14,105,000)
Unrecognized prior service cost related to plan amendments     38,673,000      42,181,000
                                                             ------------    ------------
Accrued postretirement benefit costs .....................   $ 77,439,000    $ 77,390,000
                                                             ============    ============
</TABLE>

     The assumed annual rate of increase in the per capita cost of covered
     health care benefits was 11% during the nine months ended December 31, 1996
     and will be 10.3% during the fiscal year ending December 31, 1997. The rate
     was assumed to decrease gradually to 6.5% by fiscal year 2002 and remain at
     that level thereafter. The health care cost trend rate assumption has a
     significant effect on the amounts reported. A change in the assumed health
     care trend rates by 1% in each year would change the accumulated
     postretirement benefit obligation at December 31, 1996 by $8,000,000 and
     the aggregate of the service and interest cost components of net
     postretirement benefit cost for the nine months ended December 31, 1996 by
     $1,100,000. The weighted average discount rate used in determining the
     accumulated postretirement benefit obligation as of December 31, 1996 and
     March 31, 1996 was 7.75% and 7.50%, respectively.


                                      F-15


<PAGE>   46




                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

12.  COMMITMENTS

     The Company is party to various noncancelable operating leases which are
     longer than a one-year term for certain data processing, and other
     equipment and facilities with minimum rental commitments payable as
     follows:

<TABLE>
<CAPTION>
                         Year Ending December 31,       Amount
                         ------------------------       ------

                               <S>                    <C>       
                                  1997                $4,707,000
                                  1998                 4,810,000
                                  1999                 4,823,000
                                  2000                 4,352,000
                                  2001                 1,745,000
                               Thereafter              6,565,000
</TABLE>

     Rental expense was $3,491,000, $4,758,000 and $4,641,000 for the nine
     months ended December 31, 1996 and for the fiscal years ended March 31,
     1996 and 1995, respectively.

13.  CONTINGENCIES

     In the past, Aircraft Braking Systems had been purchasing substantially all
     of the carbon for its carbon brakes under supply arrangements with Hitco
     Technologies, Inc. ("Hitco"). As described below Aircraft Braking Systems
     and Hitco are in litigation. A loss of carbon supply for the carbon brakes
     manufactured by Aircraft Braking Systems would have a material, adverse
     effect on the Company's business and financial condition. However, for
     certain programs, the Company has developed an alternate supplier and also
     has commenced a major expansion of its existing carbon manufacturing
     facility in Akron, Ohio. Construction of the facility is substantially
     complete and is expected to be fully operational during the second quarter
     of calendar year 1997. Aircraft Braking Systems is currently manufacturing
     carbon on three of the five new densification furnaces to be installed.
     When fully operational, the Company believes it will have sufficient
     sources of carbon to meet all of its requirements for brake production at
     the current level of business.

     On December 15, 1995, the Company's Aircraft Braking Systems subsidiary
     commenced an action in the Court of Common Pleas, Summit County, Ohio
     against Hitco after Hitco threatened to breach existing supply contracts
     unless prices were renegotiated. Hitco has been the principal supplier of
     carbon used by Aircraft Braking Systems for its carbon brakes. Hitco
     claimed that Aircraft Braking Systems breached the supply arrangements by
     electing to begin to expand its own carbon production facility. The
     Aircraft Braking Systems' complaint, as amended, seeks damages in excess of
     $47 million, injunctive relief and specific performance requiring Hitco to
     perform its obligations pursuant to existing contracts and purchase orders.
     Hitco has counterclaimed in the matter seeking, among other things, damages
     up to $130 million for the alleged breach by Aircraft Braking Systems of
     alleged long-term contracts to purchase carbon. Hitco was enjoined from
     refusing to perform its obligations pursuant to existing contracts and
     purchase orders without change in terms. Hitco has sought to have the
     injunction vacated or modified, and/or a declaratory judgment terminating
     Hitco's obligation to supply Aircraft Braking Systems at prices previously
     pertaining. To date, the preliminary injunction has not been vacated or
     modified, although Hitco argues it expired on December 13, 1996. Through
     January 1997, Hitco continued to supply carbon to the Company, although
     Hitco failed to acknowledge certain purchase orders. Aircraft Braking
     Systems has sought to hold Hitco in contempt of the court's injunction.
     Hitco has sought an injunction requiring that the Company turn over
     technology allegedly jointly developed and owned under the prior
     contractual arrangements. Hearings have been concluded on both the
     Company's contempt motion and Hitco's motion seeking technology but neither
     has been decided by the court.


                                      F-16


<PAGE>   47


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

     In related actions, a suit filed by Hitco in Superior Court, Los Angeles
     County, California against Aircraft Braking Systems seeking substantially
     the same relief as is asserted in the Ohio action has been stayed. Hitco
     also filed suit in the Federal District Court in the Northern District of
     Ohio for damages and injunctive relief against a third party claiming that
     such party, in supplying certain carbon to Aircraft Braking Systems, has
     acquired trade secrets of Hitco from Aircraft Braking Systems and has
     misappropriated trade secrets and technology developed under the same
     research and development contracts between Hitco and Aircraft Braking
     Systems which are the subject of the Ohio case and the California case.
     Aircraft Braking Systems has been granted leave to intervene and the other
     party has moved to dismiss the Federal action.

     Management intends to vigorously advocate its interest in all lawsuits, to
     seek dismissal of the California action and to proceed in the Ohio case to
     enforce the preliminary injunction and otherwise to protect Aircraft
     Braking Systems' carbon supply as well as to seek damages from Hitco. Based
     upon the proceedings to date, advice of counsel and its own assessment of
     the matters in dispute, management does not expect the outcome of the
     litigation to be unfavorable to the Company.

     There are various lawsuits and claims pending against the Company
     incidental to its business. Although the final results in such suits and
     proceedings cannot be predicted with certainty, in the opinion of
     management, the ultimate liability, if any, will not have a material
     adverse effect on the Company.

14.  INCOME TAXES

     The components of the net deferred tax benefit and corresponding valuation
     allowance is as follows:

<TABLE>
<CAPTION>
                                                    December 31,      March 31,
                                                       1996             1996
                                                  -------------    -------------

<S>                                               <C>              <C>          
Tax net operating loss carryforwards ..........   $  71,051,000    $  68,233,000
Temporary differences:
     Postretirement and other employee benefits      33,708,000       35,861,000
     Intangibles ..............................      55,124,000       58,997,000
     Program participation costs ..............      (6,109,000)      (6,348,000)
     Other ....................................       6,802,000        7,165,000
                                                  -------------    -------------
Deferred tax benefit ..........................     160,576,000      163,908,000
Valuation allowance ...........................    (159,165,000)    (163,908,000)
                                                  -------------    -------------

Net deferred tax asset ........................   $   1,411,000    $          --
                                                  =============    =============
</TABLE>

     SFAS No. 109 requires that a valuation allowance be recorded against tax
     assets which are not likely to be realized. The Company has established a
     valuation allowance against the majority of these benefits given the
     uncertain nature of their ultimate realization. The change in the valuation
     allowance reflects the extent that taxable income has been projected during
     the carryforward period.


                                      F-17


<PAGE>   48


                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

     In the event of future recognition of a 100 percent reduction of the
     valuation allowance, income tax expense and goodwill would be reduced by
     $75 million and $56 million, respectively. The realization of these
     benefits would reduce future income tax payments by $159 million. At
     December 31, 1996 goodwill has been reduced by $1.1 million as a result of
     the reduction in the valuation allowance.

     The Company's benefit for income taxes for the nine months ended December
     31, 1996 consists of:

<TABLE>
<S>                                                            <C>        
    Current domestic provision .............................   $ 1,330,000
    Foreign provision ......................................       170,000
    Domestic utilization of net operating loss carryforwards    (1,581,000)
                                                               -----------
    Income tax benefit .....................................   $   (81,000)
                                                               ===========
</TABLE>

     The Company's effective tax rate of 0.5% benefit for the nine months ended
     December 31, 1996 differs from the federal statutory rate (benefit of 35%)
     due to the partial-utilization of tax net operating losses of $3.5 million
     and the change in the valuation allowance. For the fiscal years ended March
     31, 1996 and 1995 the Company's effective tax rate of zero percent differed
     from the federal statutory rate (benefit of 35%) due to the change in the
     valuation allowance.

     The Company has tax net operating loss carryforwards of approximately $185
     million at December 31, 1996. The tax net operating losses expire from 2005
     through 2011, with $23 million of carryforwards expiring in 2005.

15.  RELATED PARTY TRANSACTIONS

     Bernard L. Schwartz ("BLS") owns 27.12% of the common stock of the Company
     and serves as Chairman of the Board of Directors and Chief Executive
     Officer. BLS is also Chairman and Chief Executive Officer of Loral Space &
     Communications Ltd. ("Loral Space"). Prior to that he was Chairman and
     Chief Executive Officer of Loral Corporation. The Company has an Advisory
     Agreement with BLS which provides for the payment of an aggregate of
     $200,000 per month of compensation to BLS and persons designated by him
     (including certain other executive officers of Loral Space who are active
     in the management of the Company) in exchange for acting as directors and
     providing advisory services to the Company and its subsidiaries. Such
     agreement will continue until BLS dies or is disabled or ceases to own at
     least 135,000 shares of common stock of the Company.

     In May 1996, K & F purchased $343,000 principal amount of the Company's 13
     3/4% Debentures from A. Robert Towbin, who is a member of the Board of
     Directors of the Company, at a price of 103.65% of the principal thereof
     plus accrued interest. In May 1996, the 13 3/4% Debentures were callable at
     a price of 103.75% of the principal amount.

     The Company pays Ronald H. Kisner, who is a member of the Board of
     Directors of the Company, a monthly retainer of $6,000 for legal services.

     On September 2, 1994, K & F retired the $65.4 million principal amount of
     Convertible Debentures held by Loral Corporation. (See Note 9.)

     The Company has a bonus plan pursuant to which the Company's Board of
     Directors awards bonuses to BLS and other advisors ranging from 5% to 10%
     of earnings in excess of $50 million before interest, taxes and
     amortization. Bonuses earned under this plan were $200,000 for the fiscal
     year ended March 31, 1996 and paid to certain executive officers of Loral
     Space. BLS did not receive any payments under this plan for the fiscal year
     ended March 31, 1996. Bonuses for the nine months ended December 31, 1996
     have not yet been determined nor approved by the Company's Board of
     Directors.


                                      F-18


<PAGE>   49



                     K & F INDUSTRIES, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

     Lehman Brothers has from time to time provided investment banking,
     financial advisory and other services to the Company, for which services
     Lehman Brothers has received fees. As the beneficial owners of 48.17% of
     the outstanding capital stock, the Lehman Investors are able to elect three
     directors to the Company's Board of Directors and have the benefit of
     certain rights under the Stockholders Agreement and the Company's By-laws.
     During the nine months ended December 31, 1996, Lehman Brothers received
     underwriting discounts and commissions of $2.6 million in connection with
     the offering of the 10 3/8% Notes.

     Pursuant to agreements between the Company and Loral Space (which owns
     22.5% of the outstanding capital stock), the Company reimburses Loral Space
     for real property occupancy, benefits administration and legal services.
     The related charges agreed upon were established to reimburse Loral Space
     for actual costs incurred without profit or fee. The Company believes the
     arrangements are as favorable to the Company as could have been obtained
     from unaffiliated parties. Payments to Loral Space were $0.2 million for
     the nine months ended December 31, 1996. Included in accounts payable at
     December 31, 1996 is $0.2 million.

     Pursuant to agreements between K & F and Loral Corporation, the parties
     provided services to each other and shared certain expenses relating to a
     production program, real property occupancy, benefits administration,
     treasury, accounting and legal services. The related charges agreed upon by
     the parties were established to reimburse each party on the actual cost
     incurred without profit or fee. The Company believes the arrangements with
     Loral Corporation were as favorable to the Company as could have been
     obtained from unaffiliated parties. Billings from Loral Corporation were
     $3.6 million and $3.0 million for the fiscal years ended March 31, 1996 and
     1995, respectively. Billings to Loral Corporation were $2.7 million and
     $0.2 million for the fiscal years ended March 31, 1996 and 1995. Purchases
     from Loral Corporation were $2.2 million and $1.9 million for the fiscal
     years ended March 31, 1996 and 1995. Included in accounts receivable and
     accounts payable at March 31, 1996 is $3.5 million and $2.3 million.

     On April 22, 1996, Lockheed Martin acquired the defense electronics and
     systems integration businesses of Loral Corporation which included the
     Akron, Ohio facility. The various occupancy and service agreements
     affecting the Akron, Ohio facility will remain in full force and effect. 
     K & F will continue to reimburse Lockheed Martin for real property 
     occupancy, and costs relating to shared easements and services.

16.  COMPARATIVE RESULTS (UNAUDITED)

     The following financial information for the nine months ended December 31,
     1996 and 1995 and for the 12 months ended December 31, 1996 and 1995 is
     presented for comparative purposes. The financial information for the nine
     months ended December 31, 1995 and 12 months ended December 31, 1996 and
     1995 is unaudited.

<TABLE>
<CAPTION>
                                                              Nine Months Ended                         Twelve Months Ended
                                                                 December 31,                               December 31,
                                                     ---------------------------------------    ------------------------------------
                                                              1996                 1995                 1996                 1995

<S>                                                      <C>                  <C>                  <C>                  <C>         
Net sales ......................................         $212,703,000         $199,785,000         $277,655,000         $263,451,000
Operating income ...............................           42,160,000           33,706,000           50,009,000           44,077,000
Income before income taxes and
 extraordinary charge ..........................           14,963,000            2,418,000           13,052,000            2,189,000
Net income .....................................            5,902,000              505,000            3,991,000              276,000
</TABLE>


                                      F-19