**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**FORM 10-K**

 

**ANNUAL REPORT PURSUANT TO SECTION 13OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934**

** **

**FOR THEFISCAL YEAR ENDED DECEMBER 31, 2004**

 

**COMMISSION FILE NUMBER 000-22371**

 

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**DECRANE AIRCRAFT HOLDINGS, INC.**

(Exact name of registrant as specified in its charter)

 
| **Delaware**                                                    | ** ** | **34-1645569**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or Other Jurisdiction of  Incorporation or Organization) |       | (I.R.S. Employer  Identification No.) |

 

**8425 Pulsar Place, Suite 340Columbus, Ohio 43240(614) 848-7700**

(Address and Telephone Number of Principal Executive Offices)

 

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 reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Actof 1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. ý YES  o NO

 

Indicateby check mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-K is not contained herein, and will not be contained, to the bestof registrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-K or any amendment tothis Form 10-K. o

 

Indicateby check mark whether the registrant is an accelerated filer (as defined inRule 12b-2 of the Act). o YES  ý NO

 

Statethe aggregate market value of the voting and non-voting common equity held bynon-affiliates computed by reference to the price at which the common equitywas last sold, or the average bid and asked price of such common equity, as ofthe last business day of the registrant’s most recently completed second fiscalquarter: Nil

 

Thenumber of shares of Common Stock outstanding on March 25, 2005 was 100.

 

**DOCUMENTS INCORPORATED BY REFERENCE:**

None.

 

 

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**Tableof Contents**

 
| **Part I**                                                          |                                                                                                                |   |
|---------------------------------------------------------------------|---------------------------------------------------------------------------------------------------------------------|--------|
| Item 1.                                                             | Business                                                                                                            |   |
| Item  2.                                                            | Properties                                                                                                          |   |
| Item 3.                                                             | Legal Proceedings                                                                                                   |   |
| Item  4.                                                            | Submission  of Matters to a Vote of Security Holders                                                                |   |
|                                                                |                                                                                                                |   |
| **Part II**                                                         |                                                                                                                |   |
| Item  5.                                                            | Market  for Registrant’s Common Equity, Related Stockholder Matters and Issuer  Purchases of Equity Securities |   |
| Item 6.                                                             | Selected Financial Data                                                                                             |   |
| Item 7.                                                             | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                         |   |
| Item  7A.                                                           | Quantitative  and Qualitative Disclosures About Market Risk                                                         |   |
| Item  8.                                                            | Financial  Statements and Supplementary Data                                                                        |   |
| Item  9.                                                            | Changes  In and Disagreements With Accountants On Accounting and Financial Disclosure                               |   |
| Item 9A.                                                            | Controls and  Procedures                                                                                            |   |
| Item 9B.                                                            | Other Information                                                                                                   |   |
|                                                                |                                                                                                                |   |
| **Part III**                                                        |                                                                                                                |   |
| Item  10.                                                           | Directors  and Executive Officers of the Registrant                                                                 |   |
| Item 11.                                                            | Executive Compensation                                                                                              |   |
| Item  12.                                                           | Security  Ownership of Certain Beneficial Owners and Management and Related Stockholder  Matters                    |   |
| Item  13.                                                           | Certain  Relationships and Related Transactions                                                                     |   |
| Item  14.                                                           | Principal  Accounting Fees and Services                                                                             |   |
|                                                                |                                                                                                                |   |
| **Part IV**                                                         |                                                                                                                |   |
| Item  15.                                                           | Exhibits  and Financial Statement Schedules                                                                         |   |
|                                                                |                                                                                                                |   |
| **Signatures**                                                      |                                                                                                                |
|                                                                |                                                                                                                |   |
| **Index to Financial Statements and Financial  Statement Schedule** |                                                                                                                |

 

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*All statements other than statements of historical factsincluded in this report are considered forward-looking statements within themeaning of the Private Securities Litigation Reform Act of 1995.  These forward-looking statements are subjectto known and unknown risks, uncertainties and other factors, which aredifficult to predict.  Changes in suchfactors could cause actual results to differ materially from those contemplatedin such forward-looking statements as we describe in “Item 7.  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations—Forward-Looking Statements andRisk Factors.”  Although we believe thatthe expectations reflected in such forward-looking statements are reasonable,we can give no assurance that such expectations will prove to be correct.  We undertake no obligation to releasepublicly any revisions to these forward-looking statements to reflect events orcircumstances after the date hereof or to reflect the occurrence ofunanticipated events.*

 

**PART I**

** **

**ITEM 1.**                                         BUSINESS

** **

**Company Overview**

** **

DeCraneAircraft Holdings, Inc., a Delaware Corporation, was founded in 1989, and is aprovider of integrated assemblies, sub-assemblies and component parts to theaerospace industry.  Since our founding,we have experienced both internal and external growth by identifyingfragmented, high-growth niche segments within the aerospace industry andacquiring market-leading companies in those niches.  Today we have product capability within twospecific segments of the aerospace industry: cabin interiors and systemsintegration services, including auxiliary fuel tank systems, retrofit andaircraft completion services.  Thesesegments serve customers which manufacture business, VIP and head-of-stateaircraft as well as repair and modification centers.  In addition, our customers include suppliersto the defense industry.

 

**Our Operating Groups**

** **

We areorganized into two operating groups, consistent with the segments in which weoperate: Cabin Management and Systems Integration.  Through our operating groups, we offer acomplete line of cabinetry, galleys, seating and cabin management systems forbusiness, VIP and head-of-state aircraft, as well as systems integrationservices.  Historical financialinformation for our operating groups is presented in Note 18 accompanying ourconsolidated financial statements included in this report.

 

**Cabin Management Group**

** **

DeCrane’sCabin Management Group contributed approximately 73% of our revenues during theyear ended December 31, 2004.

 

***Business Description***

*** ***

OurCabin Management Group is a leading independent provider of cabin products,with a primary focus on serving the business, VIP and head-of-state aircraftmarket.  Since 1997, our Cabin ManagementGroup has acquired nine companies involved in the engineering, manufacturingand assembly of the key components for the interior of a business, VIP andhead-of-state aircraft, including cabin interior furnishings, veneer, cabinmanagement systems, seating and composite components.  Our Cabin Management Group serves majormanufacturers of business, VIP and head-of-state aircraft, including BoeingBusiness Jet, Bombardier, Cessna, Dassault, Gulfstream and Raytheon.

 

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TheCabin Management Group introduced the concept of modularity to the business,VIP and head-of-state aircraft market by offering integrated interiorproducts.  In our view, one of thegreatest challenges facing the industry’s aircraft manufacturers is minimizingthe production cycle time necessary to complete an unfinished “green”aircraft.  We believe our distinctiveapproach of delivering assemblies and sub-assemblies addresses this challengeby providing our customers with pre-engineered, pre-wired and pre-plumbedmodular cabin interiors and sub-systems ready for final integration into theaircraft.  We believe our integratedassemblies and sub-assemblies and enable our customers to reduce their leadtimes, supplier base and overall costs.

 

TheCabin Management Group is guided by our overall strategy to gain market leadershippositions in high-growth segments of the aerospace industry by building morerelated product capabilities than any other company in the industry.  To that end, our Cabin Management Group hasfocused on pursuing two, closely related, strategic imperatives:

 

•                  *Building Critical Mass in CabinInterior Furnishings, Cabin Management Systems and Seating for the Business,VIP and Head-of-State Aircraft Markets.*  Our CabinManagement Group is aggressively focused on broadening and deepening itsproduct offerings to the business, VIP and head-of-state aircraft markets.  As a result of this strategy, we haveincreased revenue content per plane with our existing customer base and havesuccessfully attracted new customers.

 

•                  *Developing Capabilities to ProvideModular “Total Cabin Solutions” to the Business, VIP and Head-of-State AircraftMarket. *Consistent with our overall corporate strategy tobuild integrated system solutions, the Cabin Management Group is focused onaggregating its capabilities to provide partial or fully assembled modularbusiness, VIP and head-of-state aircraft cabin interiors to its customers.

 

***Products and Services***

*** ***

OurCabin Management Group designs, engineers and manufactures a full line ofcustomized, pre-fit products and provides related services.  Approximately 53% of our Cabin ManagementGroup’s revenues in 2004 were from two customers, Textron and Bombardier.  Our products and services are in four broadcategories, as summarized below.

 

*Interior Furnishings*

•                  entertainment and refreshment centers

•                  conference tables

•                  hi-low dining and coffee tables

•                  end tables

•                  cabinets

•                  arm and side ledges

•                  galleys

•                  lavatories

•                  vanities

•                  room enclosures

•                  cabinetry refurbishment services

•                  veneers

 

*Seating*

•                  executive track and swivel seats

•                  jump-seats

•                   divans, including models that convert to beds orcontain storable tables

•                  upholstery services

 

*Cabin Management Systems*

•                  in-flight entertainment systems

•                   in-flight data network and communication systems

•                  cabin controls

•                  switches, controls and lighting

 

*Composite Components*

•                  sound-dampening side walls and headliners

•                  passenger service units

•                  environmental (HVAC) ducting

•                  closets

 

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Ourinterior furnishings products and services provided approximately 45% of ourconsolidated revenues during 2004, 36% during 2003 and 47% during 2002.  Seating provided approximately 11% of ourconsolidated revenues during 2004, 13% during 2003 and 10% during 2002.

 

***Competition***

*** ***

Themarkets served by our Cabin Management Group are fragmented, with severalcompetitors offering similar products and services.  Due to the global nature of the aerospaceindustry, competition comes from both U.S. and foreign companies.  Our Cabin Management Group generally faces competitionfrom a group of smaller companies and enterprises, except for the business, VIPand head-of-state aircraft manufacturers and independent completioncenters.  We believe that the principalcompetitive factors in the markets we serve are quality, price, timelydeliveries and overall customer service. Our principal competitors are summarized below.

 

*Interior Furnishings*

•                  BE Aerospace

•                  C & D Interiors

•                   Fischer Advanced Composite Components (Austria)

•                  Global Technology

•                  Hiller Aircraft

•                  The Nordam Group

•                  Independent completion centers

•                   Business, VIP and head-of-state aircraft manufacturersand completion centers

 

*Seating*

•                  BE Aerospace

•                  Fisher (Germany)

•                  IPECO

 

*Cabin Management Systems*

•                  DPI Labs

•                  Honeywell Cabin Management Systems and Services

•                  IEC, International

•                  Rockwell Collins / Airshow

 

*Composite Components*

•                  AAR

•                  Fibre Art

•                   Fischer Advanced Composite Components (Austria)

•                  Plastic Fab

•                  Scale Composite Works

•                  The Nordam Group

** **

**Systems Integration Group**

** **

DeCrane’sSystems Integration Group contributed approximately 27% of our revenues duringthe year ended December 31, 2004.

 

***Business Description***

*** ***

OurSystems Integration Group provides a range of aircraft retrofit, completion andrefurbishment services, from conceptual design to Federal AviationAdministration certification, including engineering, manufacturing andinstallation.  One of our largestbusinesses in this group is the design, production and installation ofauxiliary fuel systems, which extend the range of an aircraft.  We are presently the sole-source provider ofauxiliary fuel systems to Boeing Business Jet (“BBJ”) for the BBJ, a Boeing737-700IGW, and the BBJ2, a Boeing 737-800, and are one of only four world-wideapproved BBJ/BBJ2 service centers. During 2004, we delivered our third aircraft interior completion on aBBJ aircraft and started our fourth, which we expect to deliver mid-2005.

 

Wealso focus on regulatory authority safety mandates and believe we are a majorsupplier of integration kits for cockpit door video surveillance and terrainawareness warning systems including acquisition of FAA certification of thosemodifications before returning an aircraft to service.

 

Theaerospace industry is highly regulated in the United States by the FAA andsimilar regulatory agencies abroad, such as the European Joint AviationAuthorities (commonly referred to as the JAA), to

 

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ensure that aviation products and services meetstringent safety and performance standards. There are approximately 35 companies world-wide that have the necessaryDesignated Alteration Station authorization to offer aircraft certification onbehalf of the FAA.  One company withinour Systems Integration Group is authorized to provide the full spectrum ofservices, from design to FAA certification, needed for timely retrofitting andcompletion of an aircraft, thus providing a significant competitive advantage.

 

OurSystems Integration Group has adopted a two-pronged strategic approach tomanaging its operations:

 

•                  *Develop the Most ComprehensiveIntegrated Retrofit Offering. *For the last fourteen years, our SystemsIntegration Group has focused on developing the capabilities necessary toprovide a fully integrated offering with respect to aircraft refurbishing andaircraft retrofitting with FAA mandated changes and technologicalinnovations.  We believe we havedeveloped the most comprehensive offering in retrofitting aircraft withauxiliary fuel systems in the industry.

 

•                  *Target Development of SpecialtyProducts and Services Relating to Regulatory Authority Mandates.* Consistent with its first strategic imperative, our Systems IntegrationGroup is also growing its capabilities in providing solution “kits” in responseto FAA and JAA mandated aircraft upgrades. Our Systems Integration Group has demonstrated the ability to identifyand quickly respond to probable new regulatory authority mandates.  For example, many domestic commercialairlines believe the FAA will eventually issue a safety mandate requiringcockpit door video surveillance on most commercial aircraft traveling in U.S.domestic airspace.  In response, weconsulted with commercial airlines and developed what we believe to be alow-cost, high quality cockpit door video surveillance system.  Our Sentry OneTM system is based on anin-house developed camera control unit with integral power supplies and iscombined with state-of-the-art extreme low light cameras and a variety of videomonitors.  Some airlines are voluntarilyelecting to install surveillance systems on their aircraft prior to theexpected FAA mandate.  We have receivedFAA approval for our Sentry OneTM system on Boeing 737-Classics, 737-400,737-NG, 747, 747-400, 767 and 777 aircraft as well as Embraer 135, 140 and 145and Airbus 300 aircraft.  We also haveFAA approvals pending for MD 80 and 90 aircraft as well.  We believe we will be successful in obtainingFAA approval for our system on these and other types of aircraft as well.

 

***Products and Services***

*** ***

OurSystems Integration Group provides auxiliary fuel systems, auxiliary powerunits and system integration services, including engineering, kitmanufacturing, installation and certification. Customers include Boeing (Boeing Business Jet, Boeing’s CommercialAirplane Group and Boeing Integrated Defense Systems), Bombardier, Cessna,Gulfstream, Honeywell, Raytheon and Rockwell Collins as well as major airlinesincluding All Nippon Airways, Astar Air Cargo (DHL), FedEx and JapanAirlines.  Approximately 32% of ourSystems Integration Group’s revenues in 2004 were from Boeing.  The products and services we provide aredescribed below.

 

*Auxiliary Fuel Systems and Power Units.* We design, engineer, manufacture and install auxiliary fuel systems forbusiness, VIP, head-of-state and commercial aircraft.  Our unique design and construction have madeus a leader in the auxiliary fuel system market.  We also manufacture auxiliary power units,which provide ground power to corporate jets made by Bombardier, Cessna,Gulfstream, Learjet and Raytheon.  Theseproducts and services provided approximately 16% of our consolidated revenuesduring 2003 and 15% during 2002.

 

*Cabin and Flight Deck Systems Integration.* We have designed and patented avionics support structures we sell underthe Box-MountTM name.  These structuresare used to support and

 

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environmentally cool avionics equipment, includingnavigation, communication and flight control equipment.  These support structures are sold to aircraftand related electronics manufacturers, airlines and major modificationcenters.  In addition, these products areessential components of the installation kits used in our systems integrationoperations.

 

*Aircraft Completion and Modification Services. *We are one of only four world-wide approved BoeingBusiness Jet Service Centers providing extensive completion, modification andintegration services to the business, VIP and head-of-state aircraft market.

 

*Retrofit and Refurbishment Services.* We also provide retrofit and refurbishment services, includingengineering, kit manufacturing, installation and certification, to bothcommercial and business, VIP and head-of-state aircraft customers.

 

***Competition***

*** ***

Themarkets served by our Systems Integration Group are fragmented with severalcompetitors offering similar products and services.  Due to the global nature of the aerospaceindustry, competition comes from both U.S. and foreign companies.  Our Systems Integration Group generally facescompetition from a group of smaller companies and enterprises, except for thebusiness, VIP and head-of-state aircraft manufacturers and independentcompletion centers.  We believe that theprincipal competitive factors in the markets we serve are quality, price,timely deliveries and overall customer service. Our principal competitors are summarized below.

 

*Auxiliary Fuel Systems and Power Units*

•                  Marshalls (United Kingdom)

•                  Pfalz Flugewerke (Germany)

 

*Auxiliary Power Units (Integration Only)*

•                  Honeywell

•                  Sundstrand

 

*Aircraft Modification Services*

•                  Associated Air Center 

•                  Jet Aviation (United States and Switzerland)

•                  Lufthansa Technik (Germany)

 

*Cabin and Flight Deck Systems Integration and**Retrofit and Refurbishment Services*

•                  ARINC

•                  Aviation Sales

•                  Boeing Aircraft Services

•                  Electronic Cable Systems

•     In-houseengineering departments of commercial airlines

•     Numerousindependent airframe maintenance and modification companies

** **

**Other Information**

** **

**Acquisitions and Dispositions**

** **

***Disposition of the Specialty Avionics Group***

*** ***

In2003 we also had a third strategic business, our Specialty Avionics Group.  On May 23, 2003, we consummated the sale ofour equity interests in the companies comprising this business to WingsHoldings, Inc., an affiliate of Odyssey Investment Partners, LLC. for $140.0million in cash.  We used $130.7 millionof the proceeds from the sale to repay borrowings under our first-lien creditfacility, as amended.  The SpecialtyAvionics Group consisted of Avtech Corporation of Seattle, Washington,Aerospace Display Systems, LLC of Hatfield, Pennsylvania, and Tri-StarElectronics International, Inc. of El Segundo, California.

 

Thesale of the Specialty Avionics Group has not affected the operations of ourremaining operating groups and is reflected as a discontinued operation in thisreport.  See “Item 7. Management’sDiscussion and Analysis of Financial Condition and Results of Operations” foradditional information.

 

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***Companies Acquired by DeCrane Aircraft***

*** ***

Duringthe five years ended December 31, 2004, DeCrane Aircraft has acquired thestock or assets of two significant businesses, as such term is defined bySecurities and Exchange Commission rules. On May 11, 2002, our Cabin Management Group acquired substantially allof the assets of Carl F. Booth & Co., an Indiana-based manufacturer of woodveneer panels primarily used in aircraft interior cabinetry.  On June 30, 2000, the Cabin ManagementGroup also acquired all of the common stock of ERDA, Inc. (subsequently renamedDeCrane Aircraft Seating Co., Inc.), a Wisconsin-based designer andmanufacturer of aircraft seating.

 

Bothacquisitions were accounted for as purchases. We have used the acquired assets to manufacture products similar tothose previously manufactured by the companies prior to their acquisition.  Our financial statements reflect the acquiredcompanies subsequent to their respective acquisition dates.

 

**Customers**

** **

Weestimate that our Cabin Management Group currently sells its products andservices to approximately 800 customers and our Systems Integration Group sellsits products and services to approximately 200 customers.  Our primary customers include manufacturersof business, VIP and head-of-state aircraft, airlines and aircraft repair andmodification companies as well as defense contractors.

 

Thefollowing customers accounted for 10% or more of our consolidated revenuesduring the year ended December 31, 2004. Historical data for the three years ended December 31, 2004 ispresented in Note 18 accompanying our consolidated financial statementsincluded in this report.

 
| **Significant Customers**            | ** ** | **Cabin****Management  Group** | ** ** | **Systems****Integration  Group** | ** ** | **Consolidated  Total** | ** ** |
|--------------------------------------|------------|--------------------------------|------------|-----------------------------------|------------|-------------------------|------------|
|                                 |       |                           |       |                              |       |                    |       |
| *Percent  of consolidated revenues:* |       |                           |       |                              |       |                    |       |
| Year ended December 31,  2004:  |       |                           |       |                              |       |                    |       |
| Textron (1)                          |       | 20.3                           | %          | 0.1                               | %          | 20.4                    | %          |
| Bombardier                           |       | 18.5                           |       | 1.3                               |       | 19.8                    |       |
| Boeing (2)                           |       | 0.7                            |       | 8.9                               |       | 9.6                     |       |
| Consolidated  revenues               |       | 39.5                           | %          | 10.3                              | %          | 49.8                    | %          |
|                                 |       |                           |       |                              |       |                    |       |
| Year ended December 31,  2003:  |       |                           |       |                              |       |                    |       |
| Textron (1)                          |       | 16.2                           | %          | 0.1                               | %          | 16.3                    | %          |
| Bombardier                           |       | 11.0                           |       | 1.6                               |       | 12.6                    |       |
| Boeing (2)                           |       | 2.4                            |       | 15.1                              |       | 17.5                    |       |
| Consolidated  revenues               |       | 29.6                           | %          | 16.8                              | %          | 46.4                    | %          |
|                                 |       |                           |       |                              |       |                    |       |
| *Percent  of group revenues (3):*    |       |                           |       |                              |       |                    |       |
| Year ended December 31,  2004:  |       |                           |       |                              |       |                    |       |
| Textron (1)                          |       | 27.9                           | %          | 0.1                               | %          |                    |       |
| Bombardier                           |       | 25.3                           |       | 5.0                               |       |                    |       |
| Boeing (2)                           |       | 1.0                            |       | 32.4                              |       |                    |       |
| Group  revenues                      |       | 54.2                           | %          | 37.5                              | %          |                    |       |
|                                 |       |                           |       |                              |       |                    |       |
| Year ended December 31,  2003:  |       |                           |       |                              |       |                    |       |
| Textron (1)                          |       | 23.2                           | %          | 0.1                               | %          |                    |       |
| Bombardier                           |       | 15.7                           |       | 5.3                               |       |                    |       |
| Boeing (2)                           |       | 3.4                            |       | 50.1                              |       |                    |       |
| Group  revenues                      |       | 42.3                           | %          | 55.5                              | %          |                    |       |

 

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(1)                      PrincipallyCessna.

 

(2)                      Reflectsonly our direct revenues from Boeing. Our Systems Integration Group’s revenues from Boeing relate to sales ofauxiliary fuel systems for the Boeing Business Jet and certain defenseprograms.

 

(3)                      Inter-grouprevenues are eliminated against the group originating the sale.

 

OurSystems Integration Group’s revenues from Boeing, as a percentage of totalconsolidated revenues and group revenues, decreased during the year ended December 31,2004 compared to our revenues during the prior year.  The decrease is caused by lower production ofauxiliary fuel systems for the Boeing Business Jet.

 

Boeing has exercised its option to convert thesupply contract to a “requirements” contract, from a guaranteed “take-or-pay”contract, commencing January 1, 2005. Production under the “take-or-pay” portion of the contract was completedduring the second quarter of 2004.  Wehave received purchase orders for auxiliary fuel systems under the “requirements”contract to be manufactured and delivered in fiscal 2005.  During the year ended December 31, 2004,auxiliary fuel systems revenues were $13.8 million compared to $24.1 millionfor the same period last year.

 

Significantportions of our revenues from our major customers are pursuant to contractsthat may include a variety of terms favorable to the customer.  Such terms may include our agreement to oneor more of the following:

 

•                  the customer is not required to make purchases, and may terminate suchcontract at any time;

 

•                  we make substantial expenditures to develop products for customers thatwe may not recoup if we do not receive sufficient orders;

 

•                  on a prospective basis, we must extend to the customers any reductionsin prices or lead times that we provide to other customers;

 

•                  we must match other suppliers’ price reductions or delete the affectedproducts from the contract; and

 

•                  we must grant irrevocable non-exclusive worldwide licenses to use ourdesigns, tooling and other intellectual property rights to products sold to acustomer if we default, or suffer a bankruptcy filing, or transfer ourmanufacturing rights to a third party.

 

**Backlog**

** **

As of December 31,2004, we had an aggregate sales order backlog of $90.9 million compared to$58.0 million as of December 31, 2003, as follows:

 
| ** **           | ** ** | **December 31,** | ** ** |
|----------------------|------------|-----------------------|------------|
| **(In  thousands)**  | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                 |       |                  |       |   |   |
| Cabin  Management    |       | $                     | 47,462     |   | $ | 33,679 |   |
| Systems  Integration |       | 41,388                |       | 24,323 |   |
| Consolidated  totals |       | $                     | 88,850     |   | $ | 58,002 |   |

 

Ordersare usually filled within twelve months; however, backlog totaling $3.8 millionas of December 31, 2004 is scheduled for delivery in 2006 and beyond asfollows: Cabin Management –$2.2 million; and Systems Integration – $1.6million.  Orders may be subject tocancellation by the customer prior to shipment. The level of unfilled orders at any given date will be materiallyaffected by when we receive orders and how fast we fill them.  Period-to-period comparisons of backlogfigures may not be meaningful.  For thatreason, our backlogs do not necessarily accurately predict actual shipments orsales for any future period.

 

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Asdescribed in “Item 7. Management’s Discussion and Analysis of FinancialCondition and Results of Operations—Industry Overview and Trends,” ongoingthreats of global terrorism, military conflicts, health epidemics and weakglobal economic conditions have all adversely impacted the aerospace industry.

 

Webelieve our backlog increase during 2004 reflects the improvement in the globaleconomy resulting in the strengthening demand for business, VIP, andhead-of-state aircraft and the products and services we provide.  We also believe this strengthening willcontinue into 2005 and beyond.  However,our beliefs are based on the assumptions that the global economic recoverycontinues and that there are no negative geo-political developments affectingour industry.

 

**Employees**

** **

As of December 31,2004, we had 1,529 employees: 1,293 in our Cabin Management Group; 226 in ourSystems Integration Group; and 10 in our corporate office.  None of our employees is subject to acollective bargaining agreement, and we have not experienced any materialbusiness interruption as a result of labor disputes.  We believe that we generally have a goodrelationship with our employees.

 

**Research and Development**

** **

Wecontinually evaluate opportunities to improve our product offerings and developnew products that incorporate new technologies to meet the demands of ourcustomers and the FAA.  Total researchand development expense was $8.0 million for the year ended December 31,2004, $10.4 million for the year ended December 31, 2003 and $0.1 millionduring the year ended December 31, 2002.

 

CommencingJanuary 1, 2003, we elected to change our accounting policy anddiscontinued the use of program accounting, which resulted in productdevelopment costs now being expensed as incurred and reflected as research anddevelopment expense.  Prior to January 1,2003, such costs were deferred and charged to cost of sales over the expectedproduction cycle of the program.  If thenew accounting policy was in effect during 2002, total research and developmentexpense would have been $5.0 million for the year ended December 31, 2002.

 

**Financial Information About Geographic Areas**

** **

Financialinformation about our revenues and assets by geographic area are included inNote 18 accompanying our financial statements included in this report.

 

**Seasonality**

** **

Ourbusinesses generally are not seasonal in nature.

 

**Sales and Marketing**

** **

OurCabin Management Group has designated relationship managers who are responsiblefor maintaining and cultivating relationships with customers.  In addition, a dedicated sales force isutilized for some of our products and services.

 

OurSystems Integration Group has a dedicated sales force that handles most of itssales activities.

 

We arecontinuously seeking opportunities to combine our sales efforts across all ofour operating groups in order to ensure that all sales opportunities areexplored and that we maximize our revenue content per plane.  We may also assign marketing and salesresponsibilities for key customers to one of our senior corporate executives.

 

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**Raw Materials and Component Parts**

** **

Thecomponents we manufacture require the use of various raw materials includingaluminum, hardwoods and plastics.  Theavailability and prices of these materials may fluctuate.  The cost of such raw materials is asignificant component in, and part of, the sales price of many of ourproducts.  Although some of our contractshave prices tied to raw materials prices, we cannot always recover raw materialprice increases in our product sale price. Unrecoverable raw material price increases were not significant during2004.  We also purchase a variety ofmanufactured sub-component parts from various suppliers.  Raw materials and component parts aregenerally available from multiple suppliers at competitive prices.  However, any delay in our ability to obtainnecessary raw materials and component parts may affect our ability to meetcustomer production needs.

 

**Intellectual Property and Proprietary Information**

** **

Wehave various trade secrets, proprietary information, trademarks, tradenames,patents, copyrights and other intellectual property rights we believe areimportant to our business in the aggregate, but not individually.

 

**Government Regulation**

** **

***Federal Aviation Administration***

*** ***

Theaerospace industry is highly regulated in the United States by the FederalAviation Administration and in other countries by similar agencies to ensurethat aviation products and services meet stringent safety and performancestandards.  In addition, many of ourcustomers impose their own compliance and quality requirements on us.  The FAA prescribes standards and licensingrequirements for aircraft components, issues designated alteration stationauthorizations, and licenses private repair stations.  We hold various FAA approvals and licenses,which may only be used by our subsidiary obtaining such approval.  If material FAA or customer authorizations orapprovals were revoked or suspended, our operations could be adverselyaffected.

 

TheFAA can authorize or deny authorization of many of the services and products weprovide.  Any such denial would precludeour ability to provide the pertinent product or service.  If we failed to comply with applicable FAAstandards or regulations, the FAA could exercise a wide range of remedies,including a warning letter, a letter of correction, a civil penalty action, andemergency or non-emergency suspension or revocation of a certificate orapproval.

 

Eachtype of aircraft operated by airlines in the United States must possess an FAAtype certificate, generally held by the aircraft manufacturer, indicating thatthe type design meets applicable airworthiness standards.  When someone else develops a majormodification to an aircraft already type-certificated, that person must obtainan FAA-issued Supplemental Type Certificate for the modification.  Historically, we have obtained severalhundred of these Supplemental Type Certificates, most of which we obtained onbehalf of our customers as part of our systems integration services.  Some of these certificates we obtain were, oreventually will be, transferred to our customers.  As of December 31, 2004, we own and/ormanage on behalf of our customers approximately 300 Supplemental TypeCertificates.  Many are multi-aircraftcertificates, which apply to all of the aircraft of a single type.  We foresee the need to obtain additionalSupplemental Type Certificates so that we can expand the services we provideand the customers we serve and believe we will be able to obtain suchcertificates as the need arises.

 

SupplementalType Certificates can be issued for proposed aircraft modifications directly bythe FAA, or on behalf of the FAA by a Designated Alteration Station.  The FAA designates what types of SupplementalType Certificates can be issued by each Designated Alteration Station.  One subsidiary within our Systems IntegrationGroup is an FAA-authorized Designated Alteration Stations and can

 

9

----

 

directly issue many of the Supplemental TypeCertificates our customers and we require for our systems integrationoperations.

 

Afterobtaining a Supplemental Type Certificate, a manufacturer must apply for aParts Manufacturer Approval from the FAA, or a supplement to an existing PartsManufacturer Approval, which permits the holder to manufacture and sellinstallation kits according to the approved design and data package.  We have six Parts Manufacturer Approvals andapproximately 100 supplements to those approvals.  In general, each initial Parts ManufacturerApproval is an approval of a manufacturing or modification facility’sproduction quality control system.  EachParts Manufacturer Approval supplement authorizes the manufacture of aparticular part in accordance with the requirements of the correspondingSupplemental Type Certificate.  Weroutinely apply for and receive such Parts Manufacturer Approvalsupplements.  In order to perform theactual installations of a modification, we are also required to have FAAapproval.  This authority is containedeither in our Parts Manufacturer Approvals and related supplements, or in ourrepair station certificates.  In orderfor a company to perform most kinds of repair, engineering, installation orother services on aircraft, its facility must be designated as an FAA-authorizedrepair station.  As of December 31,2004, we had six authorized repair stations and employed approximately 100 FAAcertified representatives.

 

***Occupational Safety and Health Administration***

*** ***

Ourmanufacturing operations in the United States are subject to a variety ofworker and community safety laws.  TheOccupational Safety and Health Act of 1970 mandates general requirements forsafe workplaces for all employees.  Inaddition, OSHA provides special procedures and measures for the handling ofhazardous and toxic substances and has established specific safety standardsfor workplaces engaged in the treatment, disposal or storage of hazardouswaste.  We believe that our operationsare in material compliance with OSHA’s health and safety requirements.

 

**Environmental Matters**

** **

Ourfacilities and operations are subject to various federal, state, local, andforeign environmental laws and regulations, including those relating todischarges to air, water, and land, the handling and disposal of solid andhazardous waste, and the cleanup of properties affected by hazardoussubstances.  In addition, someenvironmental laws, such as the federal Comprehensive Environmental Response,Compensation and Liability Act, as amended (“CERCLA”) and similar state laws,impose strict liability upon persons responsible for releases or potentialreleases of hazardous substances.  Thatliability generally is retroactive, and may create “joint and several”liability among multiple parties who have some relationship to a site or asource of waste, such as a current or former owner or operator of real propertyor a party who arranges to transport wastes to a third-party site.  We have sent waste to treatment, storage, ordisposal facilities that have been designated as National Priority List sitesunder CERCLA or equivalent listings under state laws.  We have received CERCLA requests forinformation or allegations of potential responsibility from the EnvironmentalProtection Agency regarding our use of several of those sites.  In addition, some of our operations are locatedon properties that may be contaminated to varying degrees.

 

Wehave not incurred, nor do we expect to incur, liabilities in any significantamount as a result of the foregoing matters because in most of these casesother entities have been held primarily responsible, the levels ofcontamination are sufficiently low so as not to require remediation, or we areindemnified against such costs.  However,in a few cases, we do not have sufficient information to assess our potentialliability, if any.  In addition, it ispossible, given the potentially retroactive nature of environmental liability,that we will receive additional notices of potential liability relating tocurrent or former activities.

 

10

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Webelieve that we have no liabilities under environmental laws and regulations,except for liabilities which we do not expect would likely have a materialadverse effect on our business, financial position, results of operations orcash flows.  However, some risk ofenvironmental liability is inherent in the nature of our business, and we mightin the future incur material costs to meet current or more stringentcompliance, cleanup, or other obligations pursuant to environmental laws andregulations.

 

Inconnection with the sale of the Specialty Avionics Group, we have agreed toindemnify the buyer for all pre-closing releases of hazardous materials at anyof Avtech’s facilities up to a maximum amount of $5.0 million.

 

**ITEM 2.**                                         PROPERTIES

** **

Weoperate in a number of manufacturing, engineering and office facilities in theUnited States and abroad.  We utilizeapproximately 900,000 square feet of floor space, approximately 95% of which islocated in the United States.  We believethat our facilities are in good condition and are adequate to support ouroperations for the foreseeable future. Our operating groups’ facilities are summarized below.

 
| **(In thousands of square feet)**   | ** ** | **Leased** | ** ** | **Owned**  | ** ** | **Total**  | ** ** |
|-------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cabin  Management                   |       | 441        |       | 204        |       | 645        |       |
| Systems  Integration                |       | 88         |       | 150        |       | 238        |       |
| Corporate                           |       | 6          |       | —     |       | 6          |       |
| Total in use                        |       | 535        |       | 354        |       | 889        |       |
|                                |       |       |       |       |       |       |       |
| Not in use,  available for sublease |       | 83         |       | —     |       | 83         |       |
| Not in use,  subleased to others    |       | 96         |       | —     |       | 96         |       |
| Total                               |       | 714        |       | 354        |       | 1,068      |       |

 

**ITEM 3.**                                         LEGAL PROCEEDINGS

** **

RaytheonAircraft Company (“Raytheon”) had filed a complaint against us and one of oursubsidiaries in the state court of Kansas with respect to alleged productliability related to certain aircraft seats our subsidiary sold toRaytheon.  In the fourth quarter of 2004we entered into a settlement agreement with Raytheon.  The settlement did not require a charge tooperations and did not have a material adverse effect on our financial positionor cash flows.

 

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

** **

None.

 

11

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**PART II**

 
| **ITEM 5.** | **MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED  STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES** |
|-------------|------------------------------------------------------------------------------------------------------------------------|

** **

**Market Information**

** **

Thereis no established public trading market for our shares.

 

**Holders**

** **

As of March 25,2005, DeCrane Holdings is our only common stockholder.

 

**Dividends**

** **

Wehave not paid any dividends to date on our common stock and do not anticipatepaying any cash dividends in the foreseeable future.  The terms of our first-lien credit facility,second-lien term notes and the senior discount notes and subordinated notesindentures restrict our ability to pay dividends if we do not meet certainfinancial criteria.

 

**Recent Sale of Unregistered Securities**

** **

On March 29,2005 we sold 26,425 additional shares of our Senior Redeemable ExchangeablePreferred Stock due 2008 to a group of investors for its liquidation value of$189.21 per share.  The approximately $5.0million of cash proceeds from the sale was used to fund working capitalneeds.  Such issuances were made inreliance upon an exemption from the registration provision of the Act set forthin Section 4(2) thereof relative to issuances by an issuer not involvingany public offering or the rules and regulations thereunder.  The investors, who are listed in the tablebelow, are the principal stockholders of DeCrane Holdings Co., our parentcompany.

 
| ** **                                | ** ** | **No. of  Shares of  Preferred  Stock  Purchased** | ** ** |
|-------------------------------------------|------------|----------------------------------------------------|------------|
| ** **                                | ** ** | ** **                                         | ** ** |
| DLJ Merchant Banking Partners II, L.P.    | ** ** | 16,646                                             | ** ** |
| MBP II Plan  Investors                    |       | 6,567                                              |       |
| DLJ  Diversified Partners, L.P.           |       | 973                                                |       |
| DLJ Offshore  Partners II, C.V.           |       | 819                                                |       |
| DLJ Merchant  Banking Partners II-A, L.P. |       | 663                                                |       |
| DLJ  Diversified Partners-A, L.P.         |       | 361                                                |       |
| DLJ  Millennium Partners, L.P.            |       | 269                                                |       |
| DLJ EAB  Partners, L.P.                   |       | 75                                                 |       |
| DLJ  Millennium Partners-A, L.P.          |       | 52                                                 |       |
| Total                                     |       | 26,425                                             |       |

 

**Issuer Purchases of Equity Securities**

** **

None.

 

12

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**ITEM 6.**                                         SELECTED FINANCIAL DATA

** **
| ** **                                                          | ** ** | **Year Ended December 31,  (1)** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------------|------------|
| **(In thousands)**                                                  | ** ** | **2004**                              | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Statement  of Operations Data:**                                  |       |                                  |       |   |   |   |   |   |   |   |   |
| Revenues                                                            |       | $                                     | 213,686    |   | $ | 170,109 |   | $ | 229,841 |   | $ | 272,112 |   | $ | 236,501 |   |
| Cost of  sales (2)                                                  |       | 169,160                               |       | 131,539 |   | 164,175 |   | 196,866 |   | 155,134 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Gross profit                                                        |       | 44,526                                |       | 38,570 |   | 65,666 |   | 75,246 |   | 81,367 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Selling,  general and administrative expenses (3)                   |       | 29,697                                |       | 28,310 |   | 46,572 |   | 44,731 |   | 31,730 |   |
| Research and  development expenses (4)                              |       | 8,003                                 |       | 10,440 |   | 56 |   | 698 |   | 1,615 |   |
| Impairment  of goodwill (5)                                         |       | —                                |       | 34,000 |   | — |   | 8,583 |   | — |   |
| Amortization  of intangible assets (6)                              |       | 3,650                                 |       | 3,651 |   | 3,540 |   | 12,436 |   | 10,628 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Operating  income (loss)                                            |       | 3,176                                 |       | (37,831 | ) | 15,498 |   | 8,798 |   | 37,394 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Interest  expense (7)                                               |       | 37,146                                |       | 26,219 |   | 25,376 |   | 29,645 |   | 27,181 |   |
| Mandatorily  redeemable preferred stock dividends (8)               |       | 4,011                                 |       | — |   | — |   | — |   | — |   |
| Loss on debt  extinguishments and preferred stock restructuring (9) |       | 3,898                                 |       | 1,439 |   | — |   | — |   | — |   |
| Other  expenses, net                                                |       | 544                                   |       | 945 |   | 505 |   | 634 |   | 277 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Income  (loss) from continuing operations before income taxes       |       | (42,423                               | )          | (66,434 | ) | (10,383 | ) | (21,481 | ) | 9,936 |   |
| Income tax  (provision) benefit (10)                                |       | (100                                  | )          | 13,496 |   | 3,621 |   | 3,933 |   | (4,607 | ) |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Income  (loss) from continuing operations                           |       | (42,523                               | )          | (52,938 | ) | (6,762 | ) | (17,548 | ) | 5,329 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Income  (loss) from discontinued operations, net of tax (11)        |       | —                                |       | (6,621 | ) | (41,396 | ) | 3,546 |   | (1,727 | ) |
| Cumulative  effect of changes in accounting principles (12)         |       | —                                |       | (13,764 | ) | (17,828 | ) | — |   | — |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net income  (loss)                                                  |       | $                                     | (42,523    | ) | $ | (73,323 | ) | $ | (65,986 | ) | $ | (14,002 | ) | $ | 3,602 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net income  (loss) applicable to common stockholder (8)             |       | $                                     | (42,523    | ) | $ | (80,077 | ) | $ | (71,827 | ) | $ | (19,063 | ) | $ | 1,328 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Other  Financial Data:**                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| Restructuring,  asset impairment and other related charges (13)     |       | $                                     | 8,615      |   | $ | 41,886 |   | $ | 17,255 |   | $ | 25,834 |   | $ | — |   |
| Depreciation  and amortization (14)                                 |       | 9,738                                 |       | 9,781 |   | 10,612 |   | 20,364 |   | 15,086 |   |
| Capital  expenditures:                                              |       |                                  |       |   |   |   |   |   |   |   |   |
| Paid in cash                                                        |       | 3,252                                 |       | 4,797 |   | 4,356 |   | 10,191 |   | 20,193 |   |
| Financed  with capital lease obligations                            |       | 42                                    |       | 14 |   | 67 |   | 4,376 |   | 105 |   |
| Ratio of  earnings to fixed charges (15):                           |       |                                  |       |   |   |   |   |   |   |   |   |
| Ratio                                                               |       | —                                |       | — |   | — |   | — |   | 1.4 | x |
| Deficiency  of earnings to fixed charges                            |       | $                                     | 42,423     |   | $ | 66,434 |   | $ | 10,383 |   | $ | 21,481 |   | $ | — |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Other  Operating Data:**                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| Bookings  (16)                                                      |       | $                                     | 244,534    |   | $ | 161,306 |   | $ | 197,128 |   | $ | 252,800 |   | $ | 238,546 |   |
| Backlog at  end of period (17)                                      |       | 88,850                                |       | 58,002 |   | 66,805 |   | 99,518 |   | 118,830 |   |

 
| ** **                              | ** ** | **As of December 31, (1)** | ** ** |
|-----------------------------------------|------------|---------------------------------|------------|
| **(In thousands)**                      | ** ** | **2004**                        | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
|                                    |       |                            |       |   |   |   |   |   |   |   |   |
| **Balance  Sheet Data:**                |       |                            |       |   |   |   |   |   |   |   |   |
| Cash and  cash equivalents              |       | $                               | 979        |   | $ | 6,936 |   | $ | 12,421 |   | $ | 9,478 |   | $ | 7,706 |   |
| Working  capital (18)                   |       | 36,906                          |       | 37,904 |   | 196,176 |   | 81,656 |   | 61,398 |   |
| Total assets  (18)                      |       | 299,993                         |       | 303,876 |   | 548,967 |   | 645,711 |   | 664,254 |   |
| Total debt  (19)                        |       | 293,154                         |       | 269,406 |   | 381,017 |   | 399,268 |   | 381,513 |   |
| Mandatorily  redeemable securities (20) |       | 47,303                          |       | 40,835 |   | 34,081 |   | 28,240 |   | 23,179 |   |
| Stockholder’s  equity (deficit)    |       | (87,507                         | )          | (45,181 | ) | 34,951 |   | 102,390 |   | 121,442 |   |
|                                         |            |                                 |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

See accompanying Notes to Selected FinancialData.

 

13

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----

**Notes to Selected Financial Data:**

 

(1)                      Reflectshistorical selected consolidated financial data derived from the auditedconsolidated financial statements and related notes for the periods,reclassified to reflect the Specialty Avionics Group as a discontinuedoperation.

 

Also reflects the results of operations andfinancial position of Carl F. Booth & Co., which we acquired on May 11,2000, and DeCrane Aircraft Seating Co. (formerly ERDA), which we acquired on June 30,2000, for all periods subsequent to their respective acquisition dates.

 

(2)                      Includescharges to reflect our restructuring activities as follows:

 

•                  a $2.8 million noncash inventory write-down, a $3.1 million chargerelated to lease terminations and related expenses and $1.1 million of otherrestructuring-related charges during the twelve months ended December 31,2004;

 

•                  a $4.2 million charge related to lease terminations and relatedexpenses and a $3.1 non-cash inventory write-down during the twelve monthsended December 31, 2003;

 

•                  a $6.9 million noncash inventory write-down, a $2.6 million charge forestimated losses on uncompleted long-term contracts and $1.2 million of otherrestructuring-related charges during the twelve months ended December 31,2002; and

 

•                  a $1.8 million noncash inventory write-down, a noncash write-off of$7.9 million of curtailed product development costs and charges totaling $3.9million for the realignment of production programs between facilities duringthe twelve months ended December 31, 2001.

 

(3)                      Includescharges to reflect our restructuring activities as follows:

 

•                  $1.6 million during the year ended December 31, 2004, principallyfor severance and relocation costs;

 

•                  $0.6 million during the year ended December 31, 2003;

 

•                  $6.5 million during the year ended December 31, 2002, $3.9 millionof which was a noncash asset impairment write-down; and

 

•                  $3.7 million during the year ended December 31, 2001, $1.3 millionof which was a noncash asset impairment write-down.

 

(4)                      Reflectsresearch and development expenses and, commencing January 1, 2003,includes product development costs.  In2003, we elected to change our accounting policy and discontinue the use ofprogram accounting, which resulted in product development costs being expensedas incurred.  See “Item 7. Management’sDiscussion and Analysis of Financial Condition and Results of Operations” foradditional information.

 

(5)                      Reflectsnoncash goodwill impairment charges, including charges resulting from ourrestructuring activities.

 

(6)                      For the fiveyears ended December 31, 2004, reflects the amortization of identifiableintangible assets.  For periods prior to January 1,2002, also reflects the amortization of goodwill as follows: 2001 – $9.1million; and 2000 – $7.8 million. Starting January 1, 2002, goodwill is no longer amortized butinstead subject to annual impairment testing with a loss charged to operationsin the period in which impairment occurs, as required by SFAS No. 142, “Goodwilland Other Intangible Assets.”

 

(7)                      Excludesinterest expense attributable to the Specialty Avionics Group, which isclassified as a component of the income or loss from discontinued operations,as described in Note 11 below.

 

14

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(8)                      On January 1,2004 we adopted the provisions of SFAS No. 150, “Accounting for CertainFinancial Instruments with Characteristics of both Liabilities and Equity.”  As a result of adoptingSFAS No. 150, the quarterly 16% mandatorily redeemable preferredstock dividends (which are paid in-kind) are reflected as charges againstpre-tax income.  In periods prior to January 1,2004, these charges were deducted in arriving at the net income or lossapplicable to our common stockholder. See “Item 7. Management’s Discussion and Analysis of Financial Conditionand Results of Operations” for additional information.

 

(9)                      Reflectsnoncash write-offs of:

 

•                  $2.2 million of unamortized issuance discounts associated with therestructuring of our 16% preferred stock and $1.7 million of deferred financingcosts associated with $65.0 million of senior subordinated notes exchanged fornew senior discount notes during 2004; and

 

•                  $1.4 million off of deferred financing costs associated with debtrepaid during 2003.

 

(10)                Includes a $14.7million charge in 2004 and a $19.5 million charge in 2003 resulting fromestablishing a net deferred tax asset valuation allowance.  Excluding the effect of the valuationallowances, the provision for income taxes differs from the amount determinedby applying the applicable U.S. statutory federal rate to the income beforeincome taxes primarily due to the effects of state income taxes andnon-deductible expenses, principally preferred stock dividends commencing January 1,2004, goodwill impairment charges and, for periods prior to January 1,2002, amortization of goodwill.  Thedifference in the effective tax rates between periods is mostly a result of therelationship of non-deductible expenses to the loss before income taxes.

 

(11)                Reflects the netincome or loss of the Specialty Avionics Group, which was sold on May 23, 2003and therefore classified as a discontinued operation during the periods.  Includes charges to reflect:

 

•                  a $39.4 million noncash charge during the year ended December 31,2002 to reflect the cumulative effect of the change in accounting principle forthe impairment of goodwill upon adoption of SFAS No. 142 on January 1,2002; and

 

•                  interest expense attributable to the Specialty Avionics Group asfollows:

 
| ** **                                                | ** ** | **Year Ended December 31,** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                        | ** ** | **2003**                         | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
|                                                      |       |                             |       |   |   |   |   |   |   |
| Interest  expense associated with:                        |       |                             |       |   |   |   |   |   |   |
| First-lien  credit facility debt required to be repaid    |       | $                                | 3,297      |   | $ | 7,720 |   | $ | 8,439 |   | $ | 13,337 |   |
| Debt  obligations assumed by the buyer                    |       | 270                              |       | 798 |   | 917 |   | 1,105 |   |
| Interest expense  attributable to discontinued operations |       | 3,567                            |       | $ | 8,518 |   | $ | 9,356 |   | $ | 14,442 |   |
|                                                           |            |                                  |            |  |  |  |  |  |  |  |  |  |  |

 

Interest expense on first-lien creditfacility debt required to be repaid reflects allocated interest expenseattributable to the debt required to be repaid with the proceeds from thesale.  The allocation is based upon$130.7 million of debt repaid and the historical interest rates charged duringeach of the periods.  Interest expensefor 2003 is through May 23, 2003, the date of sale.

 

(12)                As more fullydescribed in “Item 7. Management’s Discussion and Analysis of FinancialCondition and Results of Operations–Changes in Accounting Principles,”reflects:

 

•                  a $13.8 million noncash charge to reflect the cumulative effect onprior years of changing our accounting policy and discontinuing the use ofprogram accounting; and

 

•                  a $17.8 million noncash charge, net of $0.9 million tax benefit, forthe impairment of goodwill upon adoption of SFAS No. 142 on January 1,2002.

 

15

----

 

(13)                Reflects the totalrestructuring, asset impairment and other related charges incurred during theperiods related to our restructuring activities.

 

(14)                Reflectsdepreciation and amortization of plant and equipment, goodwill (for periodsprior to the January 1, 2002 adoption of SFAS No. 142) and otherintangible assets.  Excludes amortizationof deferred financing costs, which are classified as a component of interestexpense.

 

(15)                For the purposesof calculating the ratio of earning to fixed charges, earnings represent netincome or loss from continuing operations before income taxes, extraordinaryitems and fixed charges.  Fixed chargesconsist of:

 

•                  interest;

 

•                  amortization of debt expense and discount or premium relating to anyindebtedness; and

 

•                  one-third of rental expenses under operating leases which is consideredto be a reasonable approximation of the interest portion of such expense.

 

(16)                Bookings representthe total invoice value of purchase orders received during the period.

 

(17)                Backlog representsthe total invoice value of unfilled purchase orders at the end of theperiod.  Orders may be subject tocancellation by the customer prior to shipment. The level of unfilled orders at any given date during the year will bematerially affected by the timing of our receipt of orders and the speed withwhich those orders are filled.

 

(18)                Includes amountsattributable to the Specialty Avionics Group, which is reflected as adiscontinued operation, as follows:

 
| ** **               | ** ** | **As of December 31,** | ** ** |
|--------------------------|------------|-----------------------------|------------|
| **(In thousands)**       | ** ** | **2003**                    | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **               | ** ** | ** **                  | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Working  capital:        |       |                        |       |   |   |   |   |   |   |
| Continuing  operations   |       | $                           | 37,904     |   | $ | 55,363 |   | $ | 39,862 |   | $ | 20,480 |   |
| Discontinued  operations |       | —                      |       | 140,813 |   | 41,794 |   | 40,918 |   |
| Total  working capital   |       | $                           | 37,904     |   | $ | 196,176 |   | $ | 81,656 |   | $ | 61,398 |   |
|                     |       |                        |       |   |   |   |   |   |   |
| Total  assets:           |       |                        |       |   |   |   |   |   |   |
| Continuing  operations   |       | $                           | 303,876    |   | $ | 388,226 |   | $ | 423,272 |   | $ | 429,812 |   |
| Discontinued  operations |       | —                      |       | 160,741 |   | 222,439 |   | 234,442 |   |
| Total assets             |       | $                           | 303,876    |   | $ | 548,967 |   | $ | 645,711 |   | $ | 664,254 |   |

 

(19)                Total debt isdefined as long-term debt, including current portion.

 

(20)                Reflectsmandatorily redeemable preferred stock.

 

16

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| **ITEM 7.** | **MANAGEMENT’S DISCUSSION AND ANALYSIS OF  FINANCIAL CONDITION AND RESULTS OF OPERATIONS** |
|-------------|-------------------------------------------------------------------------------------------------|

 

Thefollowing discussion should be read in conjunction with our financialstatements and accompanying notes included in this report.

 

**Industry Overview and Trends**

** **

Wecompete in the aircraft products and services market of the aerospaceindustry.  The market for our productsand services is largely driven by demand in the three civil aircraft markets:(1) business, VIP and head-of-state aircraft and, to a lesser extent, (2)commercial and (3) regional aircraft.  Inaddition, we provide aircraft products for the defense markets, generally as asecond tier supplier.  Weak globaleconomic conditions, which were exacerbated by the September 11, 2001terrorist attack on the United States, ongoing concerns about global terrorismand health epidemics, and the current Middle Eastern military conflicts haveall adversely impacted the civil aerospace industry which led to a decrease indemand for aircraft and consequently the products and services we provide.  These adverse conditions caused us toimplement a series of restructuring activities designed to reduce expenses andconserve working capital.  See “—Restructuring,Asset Impairment and Other Related Charges” below for additional information.

 

During2004 the markets we serve began to reflect the improvement in the generaleconomy as the demand for business, VIP, and head-of-state aircraft began toshow increased strength.  We believe thisstrengthening will continue into 2005 and beyond.  Our beliefs are based on the assumptions thatthe global economic recovery continues and that there are no negativegeo-political developments affecting our industry.

 

**Results of Operations**

** **

**Performance Measures**

** **

Thefollowing discussion of our results of operations includes discussions offinancial measures and operating statistics that we use to evaluate theperformance of, and trends in, our businesses. We believe the presentation of these measures and statistics arerelevant and useful to investors because it allows them to view performance andtrends in a manner similar to the methods we use.  These measures and statistics, and why theyare important to us and could be of interest to you, are described below.

 

**AdjustedEBITDA.**  Our discussion of the results of operationsincludes discussions of financial measures determined in accordance withaccounting principles generally accepted in the United States of America (“GAAP”)as well as the financial measure Adjusted EBITDA, which excludes certaincharges reflected in our GAAP basis financial statements.  Our presentation of Adjusted EBITDA is inaccordance with the GAAP requirements of SFAS No. 131, “Disclosures aboutSegments of an Enterprise and Related Information,” which requires us to reportthe primary measure of segment performance we use to evaluate and manage our businesses.

 

Weutilize more than one measurement to evaluate segment performance and allocateresources among our operating segments; however, we consider Adjusted EBITDA,as defined below, to be the primary measurement of overall operating segmentcore economic performance and return on invested capital.  We also use Adjusted EBITDA in the annualbudgeting and planning for future periods, as one of the decision-makingcriteria for funding discretionary capital expenditure and product developmentprograms and as the measure for determining the value of acquisitions anddispositions.  Our board of directorsuses Adjusted EBITDA as one of the performance metrics for determining theamount of bonuses awarded pursuant to the cash incentive bonus plan and as an indicatorof enterprise value used in

 

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determining the exercise price of stock optionsgranted and the acceleration of stock option vesting pursuant the incentivestock option plan.

 

Wedefine Adjusted EBITDA as earnings, determined using program accounting forproduct development costs, before interest, income taxes, depreciation andamortization, restructuring, asset impairment and other related charges,acquisition related charges not capitalized and other noncash and nonoperatingcharges.  We believe the presentation ofthis measure is relevant and useful to investors because it allows investorsand analysts to view group performance in a manner similar to the method weuse, helps improve their ability to understand our core segment performance,adjusted for items we believe are unusual, and makes it easier to compare ourresults with other companies that have different financing, capital structuresand tax rates.  In addition, we believethese measures are consistent with the manner in which our lenders andinvestors measure our overall performance and liquidity, including our abilityto service debt and fund discretionary capital expenditure and productdevelopment programs.

 

Ourmethod of calculating Adjusted EBITDA may not be consistent with that of othercompanies and should be viewed in conjunction with measurements that arecomputed in accordance GAAP, such as net income (loss), the nearest comparableGAAP financial measure.  Adjusted EBITDAshould not be viewed as substitutes for or superior to net income (loss), cashflow from operations or other data prepared in accordance with GAAP as ameasure of our profitability or liquidity. The notes to our financial statements include information about ouroperating segments, including Adjusted EBITDA, and should be read inconjunction with the discussions presented herein.  The notes to our financial statements alsoinclude a reconciliation of Adjusted EBITDA to net income (loss) to clarify thedifferences between these financial measures.

 

**Bookingsand Backlog.**  Bookings and backlog are operating statisticswe use as leading trend indicators of future demand for our products andservices.  Bookings and backlog are basedupon the value of purchase orders received from our customers, which willresult in revenues, if and when such orders are filled.

 

Bookingsrepresent the total invoice value of purchase orders received during the periodand backlog represents the total invoice value of unfilled purchase orders asof the end of a period.  Orders may besubject to change or cancellation by the customer prior to shipment.  The level of unfilled orders at any givendate during the year will be materially affected by the timing of our receiptof orders and the speed with which those orders are filled.

 

**Changes in Accounting Principles**

** **

Ourresults of operations have been affected by the following changes in accountingprinciples during the three years ended December 31, 2004 which affect thecomparability of our reported results of operations between periods.

 

**Adoptionof SFAS No. 150 in 2004. **Effective January 1, 2004, weadopted SFAS No. 150, “Accounting for Certain Financial Instruments withCharacteristics of both Liabilities and Equity.”  SFAS No. 150 establishes standards for theclassification and measurement of certain financial instruments withcharacteristics of both liabilities and equity. SFAS No. 150 requires classification of financial instruments within itsscope as a liability, including financial instruments issued in the form ofshares that are mandatorily redeemable, because those financial instruments aredeemed to be, in essence, obligations of the issuer.  As a result of adopting SFAS No. 150 on January 1,2004, the 16% mandatorily redeemable

 

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preferred stock was reclassified as a liability andthe quarterly dividend and redemption value accretion are reflected as chargesagainst pre-tax income.  In periods priorto January 1, 2004, these charges were deducted in arriving at the netincome or loss applicable to our common stockholder.

 

Thefollowing table summarizes the results of operations for the years ended December 31,2003 and 2002 as if SFAS No. 150 had been in effect as of the beginning of2002.

 
| ** **                       | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------|------------|----------------------------------|------------|
| ** **                       | ** ** | **2003**                         | ** ** | **2002** | ** ** |
| **(In millions)**                | ** ** | **As Reported**                  | ** ** | **Pro Forma** | ** ** | **As Reported** | ** ** | **Pro Forma** | ** ** |
|                             |       |                             |       |   |   |   |   |   |   |
| Loss from  continuing operations |       | $                                | (52.9      | ) | $ | (59.7 | ) | $ | (6.8 | ) | $ | (12.6 | ) |
| Net loss                         |       | (73.3                            | )          | (80.1 | ) | (66.0 | ) | (71.8 | ) |
|                                  |            |                                  |            |  |  |  |  |  |  |  |  |  |  |

 

Thepro forma data reflects preferred stock dividends and redemption valueaccretion totaling $6.8 million for year ended December 31, 2003 and $5.8million for the year ended December 31, 2002 as charges against incomeduring the periods.

 

**Change inAccounting for Product Development Costs in 2003. **Inventories are stated at the lower of cost ormarket.  Costs include materials, labor,including direct engineering labor, tooling costs and manufacturingoverhead.  As described below,measurement of the costs of inventories associated with products manufacturedfor delivery under production-type contracts in prior periods was made pursuantto the use of program accounting.  Assuch, the cost of inventories included certain deferred program costs, whichwere principally comprised of engineering costs.

 

Becauseof the changing economic conditions affecting the markets we serve, demand forour products has exhibited an increased degree of volatility.  The ability to make reliable estimates offuture demand for these products is critical to the use of program accountingand the deferral of engineering and production costs.  Under program accounting, certain productdevelopment costs incurred in connection with specific contracted programs weredeferred and charged to cost of sales when revenues from the sale of productsrelated to the program were recorded.  Inorder to improve the reliability of our financial reporting we decided todiscontinue the use of program accounting which requires us to make long-termestimates of future sales for each program. Therefore, product development costs not specifically reimbursablethrough contractual terms or recoverable through firm orders are no longerdeferred and included in inventory.

 

Thischange in accounting policy was made after concluding the 2003 fiscal year buthas been applied retroactively to the beginning of the year, January 1,2003, as required by generally accepted accounting principles.  As a result of the change, program-relatedproduct development costs are now classified as a component of research anddevelopment expenses in the consolidated financial statements for 2003 ratherthan classified as a component of inventory cost.  The effect of this accounting change was toincrease our 2003 net loss by $17.9 million through a charge for the cumulativeeffect of a change in accounting principle of $13.8 million and increase by$4.2 million the reported loss from continuing operations.

 

Thefollowing pro forma data summarizes the results of operations for the yearsended December 31, 2002 as if the new accounting policy had been in effectduring that year.

 
| ** **                       | ** ** | **Year Ended  December 31, 2002** | ** ** |
|----------------------------------|------------|----------------------------------------|------------|
| **(In millions)**                | ** ** | **As Reported**                        | ** ** | **Pro Forma** | ** ** |
|                             |       |                                   |       |   |   |
| Loss from  continuing operations |       | $                                      | (6.8       | ) | $ | (9.7 | ) |
| Net loss                         |       | (66.0                                  | )          | (69.0 | ) |
|                                  |            |                                        |            |  |  |  |  |

 

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**Adoptionof SFAS No. 142 in 2002. **Effective January 1, 2002, weadopted SFAS No. 142, “Goodwill andOther Intangible Assets.”  As required bySFAS No. 142, we conducted transitional impairment testing of the goodwillrecorded as of that date and the results indicated that the carryingvalue was impaired.

 

Inaccordance with the transitional provision of SFAS No. 142, we recorded a $17.8million noncash write-down of goodwill (net of $878,000 income tax benefit) asof January 1, 2002 as a cumulative effect of a change in accountingprinciple.  An additional $39.4 millionnoncash write-down of goodwill pertained to the Specialty Avionics Group and isincluded in the loss from discontinued operations.

 

**Restructuring, Asset Impairment and Other Charges**

** **

Ourresults of operations during the three years ended December 31, 2004 havealso been affected by restructuring, impairment and other related chargesrelating to a series of restructuring activities.  These charges, which further affect thecomparability of our reported results of operations between periods, are morefully described in “—Restructuring, Asset Impairment and Other Related Charges”and “—Goodwill Impairment Charges” below.

 

**Year Ended December 31, 2004 Compared to YearEnded December 31, 2003**

** **

**Revenues.* ***Revenues increased $43.6 million, or 25.6%, to $213.7million for the year ended December 31, 2004 from $170.1 million for theyear ended December 31, 2003.  Bysegment, revenues changed as follows:

 
| ** **                           | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|--------------------------------------|------------|------------------------------------|------------|
| **(In millions)**                    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                                 |       |                               |       |   |   |
| Cabin  Management                    |       | $                                  | 39.6       |   | 33.3 | % |
| Systems  Integration                 |       | 6.3                                |       | 12.2 |   |
| Increase in  inter-group elimination |       | (2.3                               | )          |   |   |
| Total                                |       | $                                  | 43.6       |   |   |   |

 

*Cabin Management. *Revenues increased by $39.6 million, or33.3% compared to the prior year due to a higher volume of business, VIP andhead-of-state jet production by aircraft manufacturers.  The increase consisted of the following:

 

•                  a $33.6 million increase in aircraft furniture and related productsrevenues;

 

•                  a $4.9 million increase in cabin management and entertainment systemsrevenues; and

 

•                  a $3.6 million increase in seating products revenues; offset by

 

•                  a $2.5 million decrease in other product and services revenues.

 

*Systems Integration.*  Revenuesincreased by $6.3 million, or 12.2% compared to the prior year, due to:

 

•                  a $17.0 million increase in completion and service center revenues; and

 

•                  a $1.9 million increase in revenues from integration kits and relatedservices for commercial aircraft; offset by

 

•                  a $12.6 million decrease resulting from lower production of auxiliaryfuel systems pursuant to our supply contract with Boeing Business Jet (“BBJ”).

 

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BBJ has exercised its option to convert the supplycontract to a “requirements” contract, from a guaranteed “take-or-pay”contract, commencing January 1, 2005. Production under the “take-or-pay” portion of the contract was completedduring the second quarter of 2004.  Wehave received purchase orders for auxiliary fuel systems under the “requirements”contract to be manufactured and delivered in fiscal 2005.  During the year ended December 31, 2004,auxiliary fuel systems revenues were $13.8 million compared to $24.1 millionfor the same period last year.

 

**Gross profit.**  Gross profitincreased $5.9 million, or 15.4%, to $44.5 million for the year ended December 31,2004 from $38.6 million for the same period in the prior year.  By segment, gross profit changed as follows:

 
| ** **           | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | 12.6       |   | 67.9 | % |
| Systems  Integration |       | (6.7                               | )          | (33.6 | ) |
| Total                |       | $                                  | 5.9        |   |   |   |

 

*Cabin Management.*  Gross profitincreased by $12.6 million, or 67.9% compared to the prior year, primarily dueto:

 

•                  a $5.1 million increase related to higher volume in aircraft furnitureand related products revenues;

 

•                  a $5.3 million decrease in restructuring charges incurred in 2004compared to those incurred during the same period in 2003 related to ourfurniture and seating operations;

 

•                  a $3.5 million increase in gross profit related to higher volume forour cabin management and entertainment systems; and

 

•                  a $1.4 million increase in gross profit related to other products;offset by

 

•                  $2.7 million of start-up and unusual production costs related to amajor contract for an integrated interior for a customer’s recently introducednew model aircraft; a portion of these costs is considered nonrecurring.

 

*Systems Integration.*  Gross profitdecreased by $6.7 million, or 33.6% compared to the prior year, primarily dueto:

 

•                  a $4.9 million increase in restructuring charges incurred in 2004compared to those incurred during the same period in 2003 related to thereorganization of our manufacturing operations; and

 

•                  a $4.9 million decrease resulting from reduced auxiliary fuel systemrevenues; offset by

 

•                  a $1.6 million increase resulting from the increase in revenues fromintegration kits and related services for commercial aircraft; and

 

•                  a $1.5 million increase resulting from increased air center servicesand other aircraft modification activities.

 

**Selling, general and administrative expenses.** Selling, general and administrative expenses increased $1.4 million, or4.9%, to $29.7 million for the year ended December 31, 2004, from $28.3million for the same period in the prior year. By segment, SG&A expenses changed as follows:

 

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| ** **           | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | 2.7        |   | 20.8 | % |
| Systems  Integration |       | (1.1                               | )          | (13.0 | ) |
| Corporate            |       | (0.2                               | )          |   |   |
| Total                |       | $                                  | 1.4        |   |   |   |

 

*Cabin Management. *SG&A expenses increased by $2.7 million, or 20.8%compared to the prior year due to:

 

•                  a $2.1 million increase in SG&A spending in support of higherproduction levels and new programs;

 

•                  a $0.4 million increase in restructuring charges incurred in 2004versus the same period last year; and

 

•                  a $0.2 million of non-recurring program start-up costs related to theinterior of a customer’s recently introduced new model aircraft.

 

*Systems Integration. *SG&A expenses decreased by $1.1 million, or 13.0%compared to the prior year, due to lower labor and employee benefit costsresulting from workforce reductions as well as other cost reduction efforts,offset by an increase in sales and marketing activities associated with theaircraft completion portion of our business.

 

*Corporate. *SG&A expenses decreased by $0.2 million comparedto the prior year due to a $0.9 million decrease resulting from cost reductionmeasures, offset by $0.7 million of 2004 restructuring charges.

 

**Research and development expenses. **Research and developmentexpenses decreased $2.4 million, or 23.3%, to $8.0 million for the year ended December 31,2004 compared to $10.4 million in the prior year.  By segment, research and development expenses changedas follows:

 
| ** **           | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | (3.7       | ) | 46.4 | % |
| Systems  Integration |       | 1.3                                |       | 57.6 |   |
| Total                |       | $                                  | (2.4       | ) |   |   |

 

*Cabin Management. *R&Dexpenses decreased $3.7 million, or 46.4% compared to the prior year.  The decrease is primarily related to the nearcompleted development of our new single-design seat technology and the designand engineering of new interior furnishing components for a customer’s recentlyintroduced new model aircraft.

 

*Systems Integration. *R&D expenses increased $1.3 million, or 57.6%compared to the prior year.  The increaseis principally due to the ongoing development of our cockpit door videosurveillance system for different models of commercial aircraft and a designmodification to an existing product.

 

**Depreciation and amortization of intangibles.** Depreciation and amortization expense decreased $0.1 million to $9.7million for the year ended December 31, 2004 from $9.8 million for thesame period in the prior year. Depreciation and amortization changed as follows:

 

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| ** **                                   | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|----------------------------------------------|------------|------------------------------------|------------|
| **(In millions)**                            | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                                         |       |                               |       |   |   |
| Depreciation  charged to:                    |       |                               |       |   |   |
| Cost of  sales                               |       | $                                  | 0.2        |   | 6.0 | % |
| Selling,  general and administrative expense |       | (0.3                               | )          | (13.0 | ) |
| Amortization  of intangible assets           |       | 0.0                                |       |   |   |
| Total                                        |       | $                                  | (0.1       | ) |   |   |

 

**Adjusted EBITDA. **We define Adjusted EBITDA as earnings,determined using program accounting for product development costs, beforeinterest, income taxes, depreciation and amortization, restructuring, assetimpairment and other related charges, acquisition related charges notcapitalized and other noncash and nonoperating charges.  Asdescribed above in “—Performance Measures–Adjusted EBITDA,” we use thisfinancial measure to evaluate the core economic performance of our operatingsegments.  The notes to our financialstatements include additional information about Adjusted EBITDA, and should beread in conjunction with the discussions presented herein.  The notes to our financial statements alsoinclude a reconciliation of Adjusted EBITDA to net income (loss), a GAAPfinancial measure, to clarify the differences between these two measures.

 

*Cabin Management. *Adjusted EBITDA increased by $5.3 million, or 31.0%,to $22.4 million for the year ended December 31, 2004 compared to $17.1million for the same period in the prior year. Adjusted EBITDA as a percent of revenues declined to 14.1 % for the yearended December 31, 2004 compared to 14.4% for the same period lastyear.  The $5.3 million increase iscomprised of:

 

•                  a $5.7 million increase resulting from a 33.3% revenue increase; offsetby

 

•                  a $0.4 million decrease resulting from the change in margins betweenperiods.

 

Our furniture and seating operations contributed $2.4million of the increase; our cabin management and entertainment systemscontributed $1.6 million of the increase and our other products and servicescontributed $1.3 million of the increase.

 

*Systems Integration. *Adjusted EBITDA decreased by $1.0 million, or 7.4%, to$12.3 million for the year ended December 31, 2004 compared to $13.3million for the same period in the prior year. Adjusted EBITDA as a percent ofrevenues declined to 21.3 % for the year ended December 31, 2004 comparedto 25.8% for the same period last year. The $1.0 million decrease is comprised of:

 

•                  a $2.6 million decrease resulting from the change in margin betweenperiods; offset by

 

•                  a $1.6 million increase resulting from a 12.2% revenue increase.

 

The decline in margin is attributable to a change inproduct delivery mix, principally resulting from auxiliary fuel systemsrevenues being replaced with revenues from lower margin products andservices.  A $4.9 million decline inauxiliary fuel tank, service center and aircraft completion margins waspartially offset by a $1.7 million increase in the margins for integration kitsand related services for commercial aircraft.

 

**Impairment of goodwill. **During the year ended December 31,2003, a $34.0 million charge was recorded to reflect the impairment of goodwillin connection with the impairment testing provision of SFAS No. 142, “Goodwilland Other Intangible Assets.”  See “—Restructuring,Asset Impairment and Other Related Charges.”

 

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**Operating income(loss).** Operating income increased $41.0 million, or 108.4%, to income of $3.2million for the year ended December 31, 2004, compared to a loss of $37.8million for the same period in the prior year. By segment, the operating loss changed as follows:

 
| ** **           | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | 47.8       |   | 124.2 | % |
| Systems  Integration |       | (7.0                               | )          | (92.8 | ) |
| Corporate            |       | 0.2                                |       |   |   |
| Total                |       | $                                  | 41.0       |   |   |   |

 

*Cabin Management. *The operating income increased by $47.8million, or 124.2% compared to the prior year, primarily due to:

 

•                  a $34.0 million decrease in goodwill impairment charges;

 

•                  a $5.1 million increase in gross profit, primarily due to higherrevenues related to our furniture and seating operations;

 

•                  a $4.9 million decrease in restructuring charges incurred in 2004 ascompared to 2003;

 

•                  a $3.7 million decrease in research and development expenses;

 

•                  a $3.5 million increase in gross profit related to higher volume forour cabin management and entertainment systems; and

 

•                  a $1.4 million increase in gross profit related to other products andservices; offset by

 

•                  $2.9 million of nonrecurring start-up and unusual production costsrelated to a major contract for an integrated interior for a customer’srecently introduced new model aircraft;

 

•                  a $2.1 million increase in SG&A spending.

 

*Systems Integration. *The operating income decreased by $7.0 million, or92.8% compared to the prior year, primarily due to:

 

•                  a $4.9 million increase in restructuring charges incurred in 2004compared to last year;

 

•                  a $3.2 million decrease resulting from reduced gross profit; and

 

•                  a $1.3 million increase in research and development expenses; offset by

 

•                  a net $1.5 million increase resulting from the conversion of a majorcustomer supply contract to a requirements-only contract; and

 

•                  a $1.1 million decrease in SG&A spending.

 

**Interest expense.**  Interestexpense increased $10.9 million, or 41.7%, to $37.1 million for the year ended December 31,2004 compared to $26.2 million for the same period in the prior year.  The increase is attributable to:

 

•                  a $11.8 million increase attributable to $80.0 million of second-lienterm debt issued in December 2003;

 

•                  a $1.3 million net increase in interest expense resulting from theexchange of $65.0 million of 12% senior subordinated notes for 17% seniordiscount notes;

 

•                  a $0.7 million increase in other interest expense; and

 

•                  a $0.4 million increase in amortization of deferred financing costsprimarily related to our second-lien term debt issued in December 2003;offset by

 

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•                  a $3.3 million decrease in our first-lien interest expense due to lowerprincipal balances outstanding resulting from the repayment with the proceedsfrom our second-lien debt financing in December 2003, offset, in part, bya 1.5% increase in interest rate margins charged by our lenders based on ourconsolidated debt leverage ratio.

 

**Mandatorilyredeemable preferred stock dividends. **Dividends on our 16% mandatorilyredeemable preferred stock totaled $4.0 million for the year ended December 31,2004.  As more fully described in “—Changesin Accounting Principles” above, effective January 1, 2004 we adopted SFASNo. 150, “Accounting for Certain Financial Instruments with Characteristics ofboth Liabilities and Equity.”  As aresult of adopting SFAS No. 150, the 16% quarterly preferred stock dividendsare reflected as a charge against pre-tax income.  In periods prior to January 1, 2004,preferred stock dividends were deducted in arriving at the net income or lossapplicable to our common stockholder and amounted to $6.8 million for the yearended December 31, 2003.  The $2.8million decrease in dividends between the periods is a result of an amendmentto the terms of the preferred stock.

 

Duringthe third quarter of fiscal 2004, the terms of the 16% preferred stock wereamended to provide that further preferred stock dividends, if any, accrue atrates dependent on a specified financial ratio or if certain triggering eventsoccur.  Future preferred stock dividends,if any, are dependent, in part, upon a defined leverage ratio achieved as ofeach quarterly testing date.  Dependingon the ratio achieved, and provided certain triggering events have notoccurred, dividends for the succeeding quarter accrue at a 0%, 4% or 16% annualrate.  If certain triggering eventsoccur, dividends accrue at a 16% annual rate. Based upon the leverage ratio achieved as of September 30 and December 31,2004, no dividends will accrue on the preferred stock from the amendment datethrough March 31, 2005, the next quarterly testing date.  See “—Liquidityand Capital Resources–Debt andPreferred Stock Restructuring” for additional information.

 

**Loss on debt and preferred stock restructuring. **The loss on debt andpreferred stock restructuring of $3.9 million for the year ended December 31,2004 reflects the write-off of deferred financing costs attributable to the$65.0 million of 12% senior subordinated notes exchanged for 17% seniordiscount notes and the write-off of the remaining unamortized original issuancediscount related to our 16% preferred stock. See “—Liquidityand Capital Resources–Debt andPreferred Stock Restructuring” for additional information.

 

**Income tax (provision) benefit.** The provision for income taxes is comprised of the following:

 
| ** **                                     | ** ** | **Year ended  December 31,** | ** ** |
|------------------------------------------------|------------|-----------------------------------|------------|
| **(In millions)**                              | ** ** | **2004**                          | ** ** | **2003** | ** ** |
|                                           |       |                              |       |   |   |
| Income  benefit based on reported pre-tax loss |       | $                                 | 14.6       |   | $ | 33.0 |   |
| Net deferred  tax asset valuation allowance    |       | (14.7                             | )          | (19.5 | ) |
| Net  provision for income (taxes) benefit      |       | $                                 | (0.1       | ) | $ | 13.5 |   |

 

Forthe year ended December 31, 2003, the provision for income taxes, based onthe reported consolidated pre-tax loss, differs from the amount determined byapplying the applicable U.S. statutory federal rate to the pre-tax lossprimarily due to the effects of state and foreign income taxes andnon-deductible expenses, principally the non-deductible portion of goodwillimpairment charges.

 

Forthe year ended December 31, 2004, the provision for income taxes, based onthe reported consolidated pre-tax loss, differs from the amount determined byapplying the applicable U.S. statutory federal rate to the pre-tax lossprimarily due to the effects of state and foreign income taxes andnon-deductible expenses, principally mandatorily redeemable preferred stockdividends due to the adoption of SFAS No. 150 effective January 1, 2004,as described above.

 

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As of December 31,2003, there were net deferred tax asset of $19.5 million fully offset by avaluation allowance of the same amount. Based upon the results of operations for the year ended December 31,2004, we determined that an additional $14.7 million valuation allowance wasrequired as of that date.

 

**Loss fromcontinuing operations.**  The loss from continuingoperations decreased $10.4 million to a loss of $42.5 million for the yearended December 31, 2004 compared to a loss of $52.9 million for the sameperiod in the prior year, primarily due to:

 

•                  a $41.0 million operating income increase; offset by

 

•                  a $13.6 million decrease in income tax benefit;

 

•                  a $10.5 million increase in interest and other expenses (net);

 

•                  $4.0 million of preferred stock dividends resulting from the adoptionof SFAS No. 150, “Accounting for Certain Financial Instruments withCharacteristics of both Liabilities and Equity,” as described above; and

 

•                  a $2.5 million increase in charges recorded in 2004 related to our debtand preferred stock restructuring over the amount incurred in 2003 for our debtrestructuring.

 

**Loss fromdiscontinued operations. **The loss from discontinued operations was$6.6 million for the year ended December 31, 2003 and reflects the resultsof operations of our Specialty Avionics Group for the period from January 1,2003 through May 22, 2003, the date on which it was sold.

 

**Cumulativeeffect of changes in accounting principles.**  As more fullydescribed in “—Changes in Accounting Principles” above, the $13.8 millioncharge in 2003 was to reflect the cumulative effect of the change in accountingfor product development costs as of January 1, 2003.

 

**Net loss.**  Net loss decreased$30.8 million to a net loss of $42.5 million for the year ended December 31,2004 compared to a net loss of $73.3 million for the same period in the prioryear.  The decrease is attributable to:

 

•                  a $13.8 million decrease in cumulative effect of changes in accountingprinciple;

 

•                  a $10.4 million decrease in the loss from continuing operations; and

 

•                  a $6.6 million decrease in the loss from discontinued operations.

 

**Net loss applicable to common stockholder.** Net loss applicable to DeCrane Holdings, our common stockholder,decreased $37.6 million to a net loss of $42.5 million for the year ended December 31,2004 compared to a net loss of $80.1 million for the same period in the prioryear.  The decrease in the net lossapplicable to our common stockholder is attributable to:

 

•                  a $30.8 million decrease in our net loss; and

 

•                  a $6.8 million decrease in preferred stock dividends and redemptionvalue accretion resulting from the January 1, 2004 adoption of SFAS No.150 which requires preferred stock dividends be deducted from the net income orloss for the period.

 

**Bookings and Backlog. **Bookings increased $83.2 million, or 51.6%,to $244.5 million for the year ended December 31, 2004 compared to $161.3million for the same period in the prior year. Backlog increased $30.9 million, or 53.2%, to $88.9 million as of December 31,2004 compared to $58.0 million as of December 31, 2003.  By segment, bookings and backlog changed asfollows:

 

26

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| ** **           | ** ** | **Increase (Decrease)  From 2003** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Bookings:            |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | 49.0       |   | 40.7 | % |
| Systems  Integration |       | 34.2                               |       | 83.6 |   |
| Total                |       | $                                  | 83.2       |   |   |   |
|                 |       |                               |       |   |   |
| Backlog:             |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | 13.8       |   | 40.9 | % |
| Systems  Integration |       | 17.1                               |       | 70.2 |   |
| Total                |       | $                                  | 30.9       |   |   |   |

 

CabinManagement’s bookings and backlog increase results from the increase in ourcustomers’ aircraft production schedules during the period.  Systems Integration’s bookings and backlogincrease is a result of booking an order for an aircraft completion as well asan increase in orders for our cockpit door video surveillance system.

 

Webelieve these improvements are caused by the overall improvement of generaleconomic conditions during 2004 which resulted in a strengthening of themarkets we serve and therefore an increase in demand for our products andservices.  Although we cannot be certaindue to factors beyond our control, we believe this upward trend will continueinto 2005 and beyond.  See “—IndustryOverview and Trends” for additional information.

 

**Year Ended December 31, 2003 Compared to YearEnded December 31, 2002**

** **

**Revenues.* ***Revenues decreased $59.7 million, or 26.0%, to $170.1million for the year ended December 31, 2003 from $229.8 million for theyear ended December 31, 2002.  Bysegment, revenues changed as follows:

 
| ** **               | ** ** | **Increase (Decrease)  From 2002** | ** ** |
|--------------------------|------------|------------------------------------|------------|
| **(In millions)**        | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                     |       |                               |       |   |   |
| Cabin  Management        |       | $                                  | (53.8      | ) | (31.1 | )% |
| Systems  Integration     |       | (6.4                               | )          | (11.0 | ) |
| Inter-group  elimination |       | 0.5                                |       |   |   |
| Total                    |       | $                                  | (59.7      | ) |   |   |

 

*Cabin Management. *Revenues decreased by $53.8 million, or31.1% compared to the prior year.  Thedecrease, which is across substantially all of our product and servicescategories, is caused by the ongoing adverse impact of weak global economic conditionswhich reduces the affordability of business, VIP and head-of-state aircraft andtherefore demand for the products and services we provide.  As a result, the manufacturers of theseaircraft have experienced a decrease in orders for new aircraft which, in turn,reduces the orders our customers place with us. The 2003 decrease consists of:

 

•                  a $50.9 million decrease in aircraft furniture and related productsrevenues;

 

•                  a $3.4 million decrease in cabin management and entertainment systemsrevenues; and

 

•                  a $0.5 million decrease in seating products revenues; offset by

 

•                  a $1.0 million increase in other product and services revenues.

 

The revenue decrease was caused by lower order volume(as described above) from our customers as opposed to a loss of customers orprice reductions.

 

27

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Revenues from Textron and Bombardier, our principalcustomers, decreased $44.6 million compared to the prior year as a result ofthe decrease in orders and resulting lower production of aircraft they areexperiencing during the economic downturn. Both companies temporarily suspended production of various aircraftmodels for several weeks during fiscal 2003 in response to their low orderbacklog.  We also experienced similarvolume decreases from our other customers during the period.

 

*Systems Integration.*  Revenuesdecreased by $6.4 million, or 11.0% compared to the prior year, due to:

 

•                  a $8.6 million decrease resulting from reduced demand for almost all ofour products and services as a result of reduced production and delivery ofbusiness, VIP and head-of-state aircraft; offset by

 

•                  a $0.1 million increase in the commercial aircraft systems integrationengineering services; and

 

•                  a $2.1 million increase resulting from revenue pursuant to the “take-or-pay”provisions of a major supply contract.

 

**Gross profit.**  Gross profitdecreased $27.1 million, or 41.3%, to $38.6 million for the year ended December 31,2003 from $65.7 million for the same period in the prior year.  By segment, gross profit changed as follows:

 
| ** **           | ** ** | **Increase (Decrease)  From 2002** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | (20.2      | ) | (52.2 | )% |
| Systems  Integration |       | (6.9                               | )          | (25.8 | ) |
| Total                |       | $                                  | (27.1      | ) |   |   |

 

*Cabin Management.*  Gross profitdecreased by $20.2 million, or 52.2% compared to the prior year, primarily dueto:

 

•                  a $20.1 million decrease resulting from lower volume for our business,VIP and head-of-state aircraft furniture and seating products; and

 

•                  a $1.2 million decrease in gross profit related to lower volume for ourcabin management and entertainment systems; offset by

 

•                  a $1.1 million increase from our other products and services.

 

*Systems Integration.*  Gross profitdecreased by $6.9 million, or 25.8% compared to the prior year, primarily dueto:

 

•                  a $9.9 million decrease resulting from lower revenues and unfavorableoverhead absorption as a result of lower production and a change in productdelivery mix; and

 

•                  a $0.3 million decrease in the commercial aircraft systems integrationengineering services provided; offset by

 

•                  a $3.3 million decrease in restructuring charges incurred in 2003 ascompared to those recorded in 2002 for our restructuring activities.

 

**Selling, general and administrative expenses.** Selling, general and administrative expenses decreased $18.3 million, or39.2%, to $28.3 million for the year ended December 31, 2003, from $46.6million for the same period in the prior year. By segment, SG&A expenses changed as follows:

 

28

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| ** **           | ** ** | **Increase (Decrease)  From 2002** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | (11.2      | ) | (46.2 | )% |
| Systems  Integration |       | (5.7                               | )          | (40.8 | ) |
| Corporate            |       | (1.4                               | )          |   |   |
| Total                |       | $                                  | (18.3      | ) |   |   |

 

*Cabin Management. *SG&A expenses decreased by $11.2million, or 46.2% compared to the prior year, due to:

 

•                  a $6.0 million decrease in restructuring charges incurred in 2003 ascompared to those recorded in 2002 related to our restructuring activities; and

 

•                  a $5.2 million decrease in expenses resulting from cost reductionmeasures implemented in response to lower sales volume resulting from the weakdemand for our products and services.

 

*Systems Integration. *SG&A expenses decreased by $5.7 million, or 40.8%compared to the prior year, due to one time costs associated with an ERPsystems implementation in the prior year as well as labor and workforcereductions.

 

**Research and development expenses. **Research and development expenses were $10.4 millionfor the year ended December 31, 2003 compared to $0.1 million in the prioryear.  As more fully described in “—Changein Accounting Principle,” we elected to change our accounting policy forproduct development costs incurred for long-term programs after concluding the2003 fiscal year but retroactively applied the change to the beginning of theyear, January 1, 2003.  Commencing January 1,2003, such costs are classified as a component of research and developmentexpenses.  Expenses would have been $5.0million in 2002 if the new accounting policy had been in effect during thatyear.

 

*Cabin Management. *R&Dexpenses were $8.1 million for the year ended December 31, 2003,principally incurred for the development of our new single-design seattechnology and new interior furnishing components for a major customer’s newmodel of aircraft they recently introduced.

 

*Systems Integration. *R&D expenses were $2.3 million for the year ended December 31,2003, principally for development of several new products.

 

**Impairment of goodwill. **During the year ended December 31, 2003, a $34.0million charge was recorded to reflect the additional impairment of goodwill inconnection with the impairment testing provision of SFAS No. 142, “Goodwill andOther Intangible Assets.”  The additionalimpairment results from continuing weak global economic conditions whichreduces the affordability of business, VIP and head-of-state aircraft andtherefore demand for the products and services we provide.  The impairment charge pertains to our furnituremanufacturing reporting unit within our Cabin Management Group.  See “—Goodwill Impairment Charges” below foradditional information.

 

**Depreciation and amortization of intangibles.** Depreciation and amortization expense decreased $0.8 million to $9.8million for the year ended December 31, 2003 from $10.6 million for thesame period in the prior year, primarily resulting from reduced capitalexpenditures and a lower depreciable base resulting from impairment chargesrecorded during 2002 as follows.

 

29

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| ** **                                   | ** ** | **Increase (Decrease)  From 2002** | ** ** |
|----------------------------------------------|------------|------------------------------------|------------|
| **(In millions)**                            | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                                         |       |                               |       |   |   |
| Depreciation  charged to:                    |       |                               |       |   |   |
| Cost of  sales                               |       | $                                  | (0.3       | ) | (6.6 | )% |
| Selling,  general and administrative expense |       | (0.6                               | )          | (26.2 | ) |
| Amortization  of intangible assets           |       | 0.1                                |       | 3.1 |   |
| Total                                        |       | $                                  | (0.8       | ) |   |   |

 

**Adjusted EBITDA. **We define Adjusted EBITDA as earnings,determined using program accounting for product development costs, beforeinterest, income taxes, depreciation and amortization, restructuring, assetimpairment and other related charges, acquisition related charges notcapitalized and other noncash and nonoperating charges.  Asdescribed above in “—Performance Measures–Adjusted EBITDA,” we use thisfinancial measure to evaluate the core economic performance of our operating segments.  The notes to our financial statements includeadditional information about Adjusted EBITDA, and should be read in conjunctionwith the discussions presented herein. The notes to our financial statements also include a reconciliation ofAdjusted EBITDA to net income (loss), a GAAP financial measure, to clarify thedifferences between these two measures.

 

*Cabin Management. *Adjusted EBITDA decreased by $15.5 million, or 47.6%,to $17.1 million for the year ended December 31, 2003 compared to $32.6 millionfor the same period in the prior year. Adjusted EBITDA as a percent of revenues declined to 14.4 % for the yearended December 31, 2003 compared to 18.9% for the same period lastyear.  The $15.5 million decrease iscomprised of:

 

•                  a $10.2 million decrease resulting from a 31.1% revenue decline; and

 

•                  a $5.3 million decrease resulting from the change in margins betweenperiods.

 

*Systems Integration. *Adjusted EBITDA decreased by $4.7 million, or 26.3%,to $13.4 million for the year ended December 31, 2003 compared to $18.1million for the same period in the prior year. Adjusted EBITDA as a percent of revenues declined to 25.8% for the yearended December 31, 2003 compared to 31.2% for the same period lastyear.  The $4.7 million decrease is comprisedof:

 

•                  a $2.0 million decrease resulting from a 11.0% revenue decline; and

 

•                  a $2.7 million decrease resulting from the change in margins betweenperiods.

 

The decline in margin is attributable to a change inproduct delivery mix, principally resulting from auxiliary fuel systemsrevenues being replaced with revenues from lower margin products and services.

 

**Operating income (loss).**  Operatingincome decreased $53.3 million to a loss of $37.8 million for the year ended December 31,2003, from operating income of $15.5 million for the same period in the prioryear.  By segment, operating incomechanged as follows:

 
| ** **           | ** ** | **Increase (Decrease)  From 2002** | ** ** |
|----------------------|------------|------------------------------------|------------|
| **(In millions)**    | ** ** | **Amount**                         | ** ** | **Percent** | ** ** |
|                 |       |                               |       |   |   |
| Cabin  Management    |       | $                                  | (51.2      | ) | (401.8 | )% |
| Systems  Integration |       | (3.6                               | )          | (32.3 | ) |
| Corporate            |       | 1.5                                |       |   |   |
| Total                |       | $                                  | (53.3      | ) |   |   |

 

*Cabin Management. *Operating income decreased by $51.2million, or 401.8% compared to the prior year, due to:

 

•                  a $34.0 million goodwill impairment charge in 2003;

 

30

----

 

•                  a $20.1 million decrease in gross profit, primarily due to lowerrevenues related to our furniture and seating operations; and

 

•                  an $8.1 million increase in research and development expenses; offsetby

 

•                  a $6.0 million decrease in restructuring charges incurred in 2003 ascompared to those recorded in 2002 related to our restructuring activities; and

 

•                  a $5.0 million decrease in expenses resulting from cost reductionmeasures implemented in response to lower sales volume resulting from the weakglobal economic conditions.

 

*Systems Integration.*Operating income decreased by $3.6million, or 32.3% compared to the prior year, due to:

 

•                  a $7.0 million decrease in gross profit resulting from lower revenuesand unfavorable overhead absorption as a result of lower production and achange in product delivery mix;

 

•                  a $2.3 million increase in research and development expenses; and

 

•                  a $0.3 million decrease in gross profit in the commercial aircraftsystems integration engineering services provided; offset by

 

•                  a $3.0 million decrease in restructuring charges incurred in 2003 ascompared to those recorded in 2002 related to our restructuring activities; and

 

•                  a $3.0 million decrease in expenses resulting from cost reductionmeasures implemented in response to lower sales volume resulting from the weakglobal economic conditions.

 

**Interest expense.**  Interestexpense increased $0.8 million, or 3.3%, to $26.2 million for the year ended December 31,2003 compared to $25.4 million for the same period in the prior year.  The increase is attributable to a 1.5%increase in interest rate margins charged by our lenders pursuant to the March 28,2003 first-lien bank credit facility amendment, partially offset by lowerprincipal balances outstanding during 2003 compared to the prior year.

 

**Loss onextinguishment of debt. **Loss on extinguishment of debt was $1.4million for the year ended December 31, 2003 and reflects the write-off ofdeferred financing costs attributable to debt repaid during the year.

 

**Income tax (provision) benefit.** The provision for income taxes is comprised of the following:

 
| ** **                                         | ** ** | **Year Ended  December 31,** | ** ** |
|----------------------------------------------------|------------|-----------------------------------|------------|
| **(In millions)**                                  | ** ** | **2003**                          | ** ** | **2002** | ** ** |
|                                               |       |                              |       |   |   |
| Income tax  benefit based on reported pre-tax loss |       | $                                 | 33.0       |   | $ | 2.9 |   |
| Net deferred  tax asset valuation allowance        |       | (19.5                             | )          | — |   |
| Net income  tax benefit                            |       | $                                 | 13.5       |   | $ | 3.6 |   |

 

Theprovision for income taxes, based on the reported consolidated pre-tax loss,differs from the amount determined by applying the applicable U.S. statutoryfederal rate to the pre-tax loss primarily due to the effects of state andforeign income taxes and non-deductible expenses, principally thenon-deductible portion of goodwill impairment charges.

 

As of December 31,2003, we had net deferred tax assets of $19.5 million, prior to recording avaluation allowance; net deferred tax liabilities existed in priorperiods.  The change to a net assetposition was primarily caused by the $34.0 million goodwill impairment chargerecorded during fiscal 2003.  SFAS No.109, “Accounting for Income Taxes,” requires the recognition of a deferred taxasset for the future income tax benefit of goodwill deductions that will betaken for income tax purposes (i.e. the

 

31

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goodwill that has been written off in the financialstatements for book purposes will continue to be amortized and deducted for taxpurposes and, accordingly, represents a new deferred tax asset).

 

Asrequired by SFAS No. 109, we evaluated our deferred assets for expectedrecoverability based on the nature of the item, the associated taxingjurisdictions, the applicable expiration dates and future taxable incomeforecasts that would impact utilization. Since there is no loss carry back potential and we do not have any taxplanning strategies to assure recoverability, the only possibility for recoveryof the net deferred assets is future taxable income.  Since there have been prior year losses, webelieve it is not prudent to rely on future income as the means to support thecarrying value of the net assets.  As aresult of our evaluation, we recorded a $19.5 million valuation allowance,eliminating the net deferred asset, as of December 31, 2002.

 

We hadnet deferred tax liability of $16.6 million as of December 31, 2002.  The full realization of the deferred assetswas achieved through the reversal of the deferred tax liabilities in futureperiods.  As a result, a valuationallowance was not required for periods ending on or prior to December 31,2003.

 

**Loss fromcontinuing operations.**  The loss from continuingoperations increased $46.1 million to a loss of $52.9 million for the yearended December 31, 2003 compared to a loss of $6.8 million for the sameperiod in the prior year, primarily due to:

 

•                  a $53.3 million decrease in operating income resulting, in part, from a$34.0 million goodwill impairment charge;

 

•                  a $1.4 million increase in loss on extinguishment of debt; and

 

•                  a $1.3 million increase in interest and other expenses (net); offset by

 

•                  a $9.9 million increase in income tax benefit.

 

**Loss fromdiscontinued operations.**  Loss from discontinuedoperations decreased $34.8 million, to a loss of $6.6 million for the yearended December 31, 2003 compared to a loss of $41.4 million for the sameperiod in the prior year.  The decrease isprimarily due to:

 

•                  a $39.4 million charge in 2002 to reflect the cumulative effect ondiscontinued operations of the change in accounting principle associated withinitial adoption of SFAS No. 142, “Goodwill and Other Intangible Assets” asdescribed below; offset by

 

•                  the result of operations of the Specialty Avionics Group through May22, 2003 compared to a full year of operating results included in the prioryear.

 

**Cumulativeeffect of changes in accounting principles.**  The $13.8million charge during the year ended December 31, 2003 was to reflect thecumulative effect on continuing operations of the change in accounting forproduct development costs.

 

The $17.8 million charge in 2002 to reflect thecumulative effect on continuing operations of the change in accountingprinciple was a result of transitional goodwill impairment charges recognizedupon initial adoption of SFAS No. 142, “Goodwill and Other Intangible Assets.”  Including the $39.4 million charged todiscontinued operations, the total charge to reflect the cumulative effect ofthe change in accounting principle was $57.2 million.

 

See “—Changesin Accounting Principles” for additional information.

 

32

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**Net loss.**  Net lossincreased $7.3 million to a net loss of $73.3 million for the year ended December 31,2003 compared to a net loss of $66.0 million for the same period in the prioryear.  The decrease is attributable to:

 

•                  an increase in loss from continuing operations of $46.1 million; offsetby

 

•                  a decrease in loss from discontinued operations of $34.8 million; and

 

•                  a decrease in cumulative effect of change in accounting principle of$4.0 million.

 

**Net loss applicable to common stockholder.** Net loss applicable to DeCrane Holdings, our common stockholder,increased $8.3 million to a net loss of $80.1 million for the year ended December 31,2003 compared to a net loss of $71.8 million for the same period in the prioryear.  The increase in the net lossapplicable to our common stockholder is attributable to:

 

•                  a $7.3 million increase in our net loss; offset by

 

•                  a $1.0 million increase in accrued 16% mandatorily redeemable preferredstock dividends resulting from the quarterly compounding of accrued dividends.

 

**Bookings. **Bookings decreased $35.8 million, or18.2%, to $161.3 million for the year ended December 31, 2003 compared to$197.1 million for the same period in the prior year.  The decrease in bookings for 2003 is due todecreases in orders for all of our business segments.

 

**Backlog at end of period.**  Backlogdecreased $8.8 million to $58.0 million as of December 31, 2003 comparedto $66.8 million as of December 31, 2002.

 

Asdescribed in “—Industry Overview and Trends,” the acts and ongoing threats ofglobal terrorism, the current military conflicts, health epidemics and weakglobal economic conditions are having an adverse impact on our business,resulting in the decrease in bookings during 2003.  In addition, we believe that some of ourcustomers have substantially reduced their order lead times which may haveadversely affected bookings during the period.

 

We arenot able to predict the continuing impact these events will have on bookingsand backlog in future periods.  However,given the magnitude of these events, the adverse impact could be material.

 

33

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**Restructuring, Asset Impairment and Other RelatedCharges**

 

Thefollowing discussion should be read in conjunction with Note 2 accompanying ourfinancial statements included in this report.

 

Duringthe three years ended December 31, 2004, we recorded restructuring, assetimpairment and other related pre-tax charges, principally relating to ourrestructuring activities.  These chargesare summarized below.

 
| ** **                                                                 | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In millions)**                                                          | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                       |       |                             |       |   |   |   |   |
| Nature of  charges:                                                        |       |                             |       |   |   |   |   |
| Operational  Realignment and Facilities Consolidation                      |       | $                                | 8.2        |   | $ | — |   | $ | — |   |
| Seating  Product Line and Furniture Manufacturing Facilities Restructuring |       | —                           |       | 7.1 |   | — |   |
| Asset  Realignment Restructuring                                           |       | —                           |       | — |   | 6.9 |   |
| Seat  Manufacturing Facilities Restructuring                               |       | —                           |       | — |   | 6.3 |   |
| Goodwill,  asset impairment and other charges                              |       | 0.4                              |       | 42.3 |   | 12.0 |   |
| Total  pre-tax charges                                                     |       | $                                | 8.6        |   | $ | 49.4 |   | $ | 25.2 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Business  segment recording the charges:                                   |       |                             |       |   |   |   |   |
| Cabin  Management                                                          |       | $                                | 2.2        |   | $ | 41.1 |   | $ | 13.2 |   |
| Systems  Integration                                                       |       | 5.7                              |       | 0.8 |   | 4.0 |   |
| Corporate                                                                  |       | 0.7                              |       | — |   | — |   |
| Total  charged to continuing operations                                    |       | 8.6                              |       | 41.9 |   | 17.2 |   |
| Discontinued  operations (Specialty Avionics)                              |       | —                           |       | 7.5 |   | 8.0 |   |
| Total  pre-tax charges                                                     |       | $                                | 8.6        |   | $ | 49.4 |   | $ | 25.2 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Charged to  operations:                                                    |       |                             |       |   |   |   |   |
| Cost of  sales                                                             |       | $                                | 7.0        |   | $ | 7.3 |   | $ | 10.7 |   |
| Selling,  general and administrative expenses                              |       | 1.6                              |       | 0.6 |   | 6.5 |   |
| Impairment  of goodwill                                                    |       | —                           |       | 34.0 |   | — |   |
| Total  charged to operations                                               |       | 8.6                              |       | 41.9 |   | 17.2 |   |
| Charged to  discontinued operations (Specialty Avionics)                   |       | —                           |       | 7.5 |   | 8.0 |   |
| Total  pre-tax charges                                                     |       | $                                | 8.6        |   | $ | 49.4 |   | $ | 25.2 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Components  of charges:                                                    |       |                             |       |   |   |   |   |
| Cash charges                                                               |       | $                                | 5.6        |   | $ | 4.2 |   | $ | 5.8 |   |
| Noncash  charges                                                           |       | 3.0                              |       | 37.7 |   | 11.4 |   |
| Total  charged to continuing operations                                    |       | 8.6                              |       | 41.9 |   | 17.2 |   |
| Charged to  discontinued operations                                        |       | —                           |       | 7.5 |   | 8.0 |   |
| Total  pre-tax charges                                                     |       | $                                | 8.6        |   | $ | 49.4 |   | $ | 25.2 |   |

 

**OperationalRealignment and Facilities Consolidation**

** **

Duringthe second quarter of fiscal 2004, we adopted plans to restructure theoperations of our Cabin Management and Systems Integration groups.  The restructuring plan for Cabin Managementinvolves the realignment of production between its manufacturing facilities andthe relocation and consolidation of the group’s headquarters to Wichita,Kansas.  The plan for Systems Integrationinvolves combining the manufacturing activities of two facilities into a singlefacility and eliminating some product offerings and service capabilitiesresulting in a partial downsizing of certain operations.  These actions are designed to reduceengineering, production and inventory carrying costs by supporting fewermanufacturing locations and product offerings. In addition, as a result of the Cabin Management

 

34

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realignment and sale of the Specialty Avionics Group,we also decided to relocate our corporate office to Columbus, Ohio to be incloser proximity to our operating companies and customers.

 

Inconnection with these actions, we recorded pre-tax charges to operationstotaling $8.2 million through December 31, 2004, of which $3.0 millionwere noncash charges.  The charges arecomprised of lease termination and related charges, the write-off of excess andobsolete inventory, severance and other compensation costs and relocationcosts.  During 2004, we paid $2.5 millionof costs related to this restructuring in cash and a $2.8 million restructuringreserve remained as of December 31, 2004 for lease termination, severanceand other related costs.  In addition, weexpect to incur an additional $2.7 million in 2005 to complete the plans.  Future cash payments, which will extend to2013 because of lease termination costs, will be funded from existing cashbalances and internally generated cash from operations.

 

**Seating Product Line and Furniture ManufacturingFacilities Restructuring**

** **

Duringthe second quarter of fiscal 2003, we consolidated our seating product lineofferings and adopted a restructuring plan to down-size a furnituremanufacturing facility in response to continuing weakness in the business, VIPand head-of-state aircraft market.  Theseactions were designed to reduce engineering, production and inventory carryingcosts by supporting fewer product offerings and achieve profitability at thefurniture manufacturing facility based on its lower production levels.  In connection with these actions, we recordedpre-tax charges to operations totaling $7.1 million during the second quarterof fiscal 2003, of which $3.7 million were noncash charges.  The charges are comprised of the write-off ofexcess and obsolete inventory costs related to the discontinued productofferings, lease termination and related charges, and severance and othercompensation costs.  These restructuringactivities were completed by the end of fiscal 2003.

 

**Asset Realignment Restructuring**

** **

Inresponse to the adverse impact on the aerospace industry resulting from the September 11thterrorist attack and its aftermath, as well as the weakening of global economicconditions, we announced and implemented a restructuring program in December 2001designed to reduce costs and conserve working capital.  This program included permanently closing onemanufacturing facility and idling a second facility for an indefinite period,curtailing several product development programs and instituting workforcereductions.  Due to the ongoing weaknessof the business, VIP and head-of-state aircraft market, we decided during thesecond quarter of fiscal 2002 to permanently close the temporarily idledmanufacturing facility.  In connectionwith this decision, we recorded pre-tax charges to operations totaling $6.9million during the year ended December 31, 2002, of which $3.8 millionwere noncash charges, for restructuring, asset impairment charges and otherrelated expenses.  This restructuringprogram was completed during the fourth quarter of fiscal 2002 and theremaining lease termination and other related costs were paid during 2003.  There are no remaining future cash paymentobligations related to this program. This program primarily affected our Cabin Management group.

 

**Seat Manufacturing Facilities Restructuring**

** **

In2002, we announced we would consolidate the production of four seating andrelated manufacturing facilities into two, resulting in the permanent closure oftwo facilities.  This program wasdesigned to improve manufacturing efficiencies and to further reduce costs andconserve working capital.  In connectionwith these restructuring activities, we recorded pre-tax charges to operationstotaling $6.3 million during the year ended December 31, 2002, of which$3.6 million were noncash charges, for restructuring, asset impairment andother related restructuring charges.

 

Therestructuring, asset impairment and other related expenses are comprised ofcharges for current asset write-downs, the impairment of long-lived assets,severance and lease termination costs and other

 

35

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restructuring-related expenses pertaining to FAAretesting and recertification, moving, transportation and travel costs andshutdown and startup costs.  Theserestructuring activities were substantially completed during the second quarterof fiscal 2002.

 

**Goodwill, Asset Impairment and Other Charges**

** **

Goodwill,asset impairment and other related charges include the following:

 
| ** **                                      | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|
| **(In millions)**                               | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                            |       |                             |       |   |   |   |   |
| Goodwill  impairment charges                    |       | $                                | —     |   | $ | 41.5 |   | $ | 7.7 |   |
| Inventory  impairment charges                   |       | —                           |       | — |   | 4.3 |   |
| Adjustments  of previous restructuring charges: |       |                             |       |   |   |   |   |
| Product  warranty obligations                   |       | 0.4                              |       | — |   | — |   |
| Lease  termination costs                        |       | —                           |       | 0.8 |   | — |   |
| Total  pre-tax charges                          |       | $                                | 0.4        |   | $ | 42.3 |   | $ | 12.0 |   |

 

**Goodwill and InventoryImpairment Charges. **During 2003, we recorded $41.5 million of goodwill impairment charges.  Impairment charges totaling $34.0 millionpertained to goodwill impairment testing pursuant to SFAS No. 142 and werecharged to continuing operations.  Theremaining $7.5 million pertained to the sale of the Specialty Avionics Groupand was charged to discontinued operations.

** **

During2002, we recorded a pre-tax charge of $12.0 million for additional assetimpairments.  Of this amount, $7.7million related to our annual goodwill impairment testing pursuant to SFAS No.142 and $4.3 million related to inventories and was charged to cost of goodssold.  Charges totaling $8.0 millionpertained to discontinued operations.

 

**Adjustments of Previous RestructuringCharges. **Theadjustments consist of the following.

** **

*ProductWarranty Obligations.*  As a result of the SeatManufacturing Facilities and Seating Product Line restructurings, themanufacturing of certain seats was moved to a different facility and seatdesigns were modified to accommodate the new manufacturing environment.  These actions resulted in product warrantycosts exceeding typical levels during the transition process.  As a result, we recorded an additional $0.4million charge during 2004 to reflect the additional product warrantyobligation related to the seats manufactured during these transition periods.

 

*LeaseTermination Costs. *In 1999 we initiated a plan to reorganizeand restructure the operations of two of our subsidiaries within the SystemsIntegration Group.  The restructuring wasa result of a management decision to exit the manufacturing business at thesesubsidiaries and consolidate and relocate operations into one facility to moreefficiently and effectively manage the business and be more competitive. Inconnection with these restructuring activities, we provided for leasetermination costs expected to be incurred over the remaining term of theexisting long-term lease at the facility being vacated. The expected costs werereduced by estimated sublease income which was based on estimated future marketrates and anticipated sublease rental periods.

 

During2003, the initial sublease was canceled and we entered into a new subleaseagreement.  Due to the deterioration inmarket rates since 1999, the terms of the new sublease were less favorable thanthe initial lease.  As a result, we determinedthat the remaining accrual for lease termination costs was insufficient tocover the net costs expected to be incurred over the remaining lease term.  Consequently, an additional $0.8 million wascharged to operations during 2003 for these additional costs.  A payment obligation totaling $0.5 millionremains as of December 31, 2004. The future cash payments will be funded from internally generated cashfor operations.

 

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**Goodwill Impairment Charges**

** **

Thefollowing discussion should be read in conjunction with Notes 2 and 7accompanying our financial statements included in this report.

 

Ourresults of operations have been affected by the adoption of SFAS No. 142, “Goodwilland Other Intangible Assets,” and goodwill impairment charges.  The table below summarizes the changes ingoodwill during the three years ended December 31, 2004.

 
| ** **                                 | ** ** | **Continuing Operations**    | ** ** | **Discontinued  Operations**    | ** ** |
|--------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| **(In millions)**                          | ** ** | **Cabin  Management  Group** | ** ** | **Systems  Integration  Group** | ** ** | **Corporate** | ** ** | **Total** | ** ** | **Specialty  Avionics  Group** | ** ** |
| ** **                                 | ** ** | ** **                   | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Balance, December 31, 2001            |       | 178.7                        |       | 28.3                            |       | 3.9 |   | 210.9 |   | 126.5 |   |
| Adoption of  SFAS 141 and 142:             |       |                         |       |                            |       |   |   |   |   |   |   |
| Reclassification  of intangible assets (a) |       | 3.1                          |       | 0.4                             |       | 0.1 |   | 3.6 |   | 1.3 |   |
| Transitional  impairment charge (b)        |       | (8.5                         | )          | (7.9                            | )          | (2.3 | ) | (18.7 | ) | (39.4 | ) |
| Contingent  consideration earned           |       | 0.6                          |       | —                          |       | — |   | 0.6 |   | — |   |
| Impairment  charge (c)                     |       | —                       |       | —                          |       | — |   | — |   | (7.7 | ) |
| Balance, December 31,  2002           |       | 173.9                        |       | 20.8                            |       | 1.7 |   | 196.4 |   | 80.7 |   |
|                                       |       |                         |       |                            |       |   |   |   |   |   |   |
| Impairment  charge (c)                     |       | (34.0                        | )          | —                          |       | — |   | (34.0 | ) | (7.5 | ) |
| Sale of  Specialty Avionics Group          |       | —                       |       | —                          |       | — |   | — |   | (73.2 | ) |
| Balance, December 31,  2003 and 2004  |       | $                            | 139.9      |                            | $          | 20.8 |   | $ | 1.7 |   | $ | 162.4 |   | $ | — |   |
|                                            |            |                              |            |                                 |            |  |  |  |  |  |  |  |  |  |  |  |

 

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(a)                      Reflects thereclassification of intangible assets relating to acquired assembled workforcesnot meeting the criteria for recognition apart form goodwill in accordance withSFAS No. 142.

 

(b)                     Reflects agoodwill impairment charge recorded (before $0.9 million of income tax benefit)during the year ended December 31, 2002 as the cumulative effect of changein accounting principle in accordance with the transitional provisions ofadopting SFAS No. 142, “Goodwill and Other Intangible Assets.”

 

(c)                      Reflectsgoodwill impairment charges to operations and reflected as a component of our restructuring,asset impairment and other related charges. See “—Restructuring, Asset Impairment and Other Related Charges” above.

 

EffectiveJanuary 1, 2002, we adopted SFAS No. 142, “Goodwill and Other IntangibleAssets.”  As required by SFAS No. 142, during2002 we completed the transitional impairment testing of goodwill recorded asof January 1, 2002.  Fair value ofeach reporting unit was determined using a discounted cash flow approach takinginto consideration projections based on the individual characteristics of thereporting units, historical trends, market multiples for comparable businessesand independent appraisals.  Our CabinManagement Group consists of three reporting units, our Systems Integration Groupconsists of two and the Specialty Avionics consists of three.  Unallocated goodwill was allocated to thereporting units for impairment testing purposes.  The results indicated that the carrying valueof goodwill was impaired at one of the reporting units within each of ouroperating groups.  The resultingimpairment was primarily attributable to a change in the evaluation criteriafor goodwill utilized under previous accounting guidance to the fair valueapproach stipulated in SFAS No. 142.  Inaccordance with the transitional provision of SFAS No. 142, we recorded a $17.8million noncash write-down of goodwill (net of $0.9 million income tax benefit)as of January 1, 2002 as a cumulative effect of a change in accountingprinciple.  An additional $39.4 millionnoncash write-down of goodwill pertained to the Specialty Avionics Group and isincluded in the loss from discontinued operations.

 

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Duringthe fourth quarter of fiscal 2002, we performed our annual impairment testingand recorded an additional $7.7 million impairment charge related to one of thereporting units within the Specialty Avionics Group.  The charge was primarily the result of adecrease in fair value caused by using lower cash flow forecasts for thecommercial aircraft portion of our business, which experienced further weaknessduring 2002.  This charge is included asa component of income (loss) from discontinued operations.

 

In March 2003we entered into a definitive agreement to sell our equity interests in thesubsidiaries comprising the Specialty Avionics Group.  Based upon the fair value of the groupimplied in the definitive agreement, we determined that the carrying value ofthe group’s net assets was not fully recoverable.  As a result, we recorded a goodwill impairmentcharge of $7.5 million to reduce the carrying value to estimated net realizablevalue.

 

As aresult of the continuing weakness in the business, VIP and head-of-stateaircraft market and our decision to down-size a furniture manufacturingfacility in the second quarter of fiscal 2003, we determined that we shouldreevaluate the carrying value of goodwill prior to the annual October 31sttesting date.  Accordingly, we performedan impairment test of the goodwill associated with the furniture manufacturingreporting unit for recoverability and found the goodwill to be impaired.  As a result, we recorded a pre-tax charge tooperations of $34.0 million during the three months ended June 30,2003.  The charge was primarily a resultof a decrease in fair value caused by using lower cash flow forecasts based onthe most recently reduced industry estimates of aircraft deliveries resultingfrom overall industry weakness.  Theannual impairment test on October 31, 2003 and 2004 indicate that noadditional impairment has occurred.

 

**Liquidity and Capital Resources**

** **

Ourprincipal cash needs are for debt service, working capital, capitalexpenditures and strategic acquisitions, as well as to provide DeCrane Holdingswith cash to finance its needs, which consists primarily of the redemption ofits preferred stock in 2009.  Ourprincipal sources of liquidity are expected to be cash flow from operations,potential capital market transactions and third party borrowings, principallyunder our first-lien credit facility.

 

**Cash Flows During the Year Ended December 31,2004**

** **

Netcash used by operating activities was $16.9 million for the year ended December 31,2004 and consisted of $10.8 million of cash used by operations after addingback noncash charges for depreciation, amortization, long-term debt interestaccretion, preferred stock dividend accretion, restructuring and assetimpairment charges and other noncash items and $7.2 million used for workingcapital, offset by a $1.1 million increase in other liabilities.  Our cash flows from operations continued in2004 to be insufficient to cover our expenses. The following factors contributed to the $7.2 million working capitalincrease:

 

•                  a $11.1 million increase in inventories commensurate with higherproduction levels and order backlog; and

 

•                  a $3.9 million increase in accounts receivable commensurate with thehigher revenues; offset by

 

•                  a $7.2 million increase in accounts payable and accrued expensescommensurate with higher inventories and production levels; and

 

•                  a $0.6 million net increase in other working capital items.

 

Net cash used by investing activities was $3.2 millionfor the year ended and consisted primarily of capital expenditures.  We anticipate spending approximately $4.0 to$6.0 million for capital expenditures in 2005.

 

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Netcash provided by financing activities was $14.2 million for the year ended December 31,2004 and consisted of:

 

•                  $12.6 million of net borrowings under our revolving line of credit; and

 

•                  $5.0 million of proceeds from the issuance of 13.5% senior unsecuredpromissory notes; offset by

 

•                  $1.2 million of other secured long-term debt repayments; and

 

•                  $2.1 million of financing costs paid related to our debt and preferredstock restructuring.

 

**Debt and Preferred Stock Restructuring**

 

Duringthe third quarter of 2004, holders of $65.0 million of our 12% seniorsubordinated notes due September 30, 2008 (the “existing notes”) exchangedtheir notes for new 17% senior discount notes due September 30, 2008 (the “newnotes”).  The new notes do not bear cashinterest and have an initial accreted value equal to the principal amount ofthe notes exchanged.  The new notesaccrete in value at a 17% annual rate and will have a $128.8 million aggregateaccreted principal value at maturity. The new notes are senior unsecured obligations and are guaranteed by oursubsidiaries.  Except for the changes inthe interest rate and payment and ranking described above, the new notes haveterms substantially similar to those contained in the existing notes, althoughcovenants limiting the incurrence of indebtedness, the granting of liens andthe making of restricted payments are more restrictive.  The exchange will help conserve workingcapital by reducing our cash interest expense by $7.7 million annually through September 2008.

 

Concurrentwith the note exchange, we amended the terms of our 16% senior preferredstock.  DeCrane Holdings, our parent,also amended the terms of its 14% preferred stock as well.  The amended terms provide that furtherdividends do not accrue on the preferred stock, except if a leverage ratio (asdefined) falls below certain specified levels or if certain triggering eventsoccur, such as failure to discharge any mandatory redemption obligations orcomply with certain restrictive covenants. Depending upon the future leverage ratio achieved, and provided thatcertain triggering events have not occurred, dividends accrue at a 0%, 4% or16% annual rate on the 16% preferred stock and 0%, 3.5% or 14% on the 14%preferred stock.  If certain triggeringevents occur, dividends accrue at the 16% and 14% annual rates.  Based upon the leverage ratio achieved as of September 30,2004, no dividends will accrue on either the 16% or 14% preferred stock from theamendment dates through December 31, 2004.

 

Alldividends accrued through the amendment date and future dividends, if any, arenot payable until redemption.  Theamendment for the 16% preferred stock accelerates the mandatory redemption datefrom March 31, 2009 to December 31, 2008 while the September 30,2009 mandatory redemption date for the 14% preferred stock remainedunchanged.  The amendment to the 16%preferred stock also adds several restrictive covenants.  The holders of the 16% preferred stock wereissued 348,945 shares of DeCrane Holdings common stock in connection with theamendment.

 

**Promissory Notes**

 

In September 2004,we received the proceeds from the issuance of 13.5% senior unsecured promissorynotes in the aggregate principle amount of $5.0 million to DLJ Merchant BankingPartners II, L.P. and affiliated funds, our principal investors (see Note 17accompanying our financial statements included in this report for additionalinformation on the related party relationship). We used the proceeds to help fund short-term working capital needs.  The notes contain covenants identical tothose in the new 17% notes.  The notes,which were due on March 17, 2005 plus accrued interest, were extended in March 2005and are now due on March 31, 2006 with interest payable on December 31,2005 and at maturity.  See “—Recent 2005Developments” below for additional information.

 

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**Debt Obligations and Capital Resources as of December 31,2004**

 

As of December 31,2004, first-lien credit facility borrowings and second-lien term debt totaling$103.4 million are at variable interest rates based on defined margins over thecurrent prime rate or LIBOR.  We also had$72.2 million of 15% second-lien term debt, $69.9 million of 17% seniordiscount notes, $35.0 million of 12% subordinated notes, $7.7 million of othersecured indebtedness, and $5.0 million of 13.5% senior unsecured promissorynotes outstanding as of December 31, 2004. The total annual maturities of all of our indebtedness outstanding as ofDecember 31, 2004 are as follows: 2005 – $1.3 million; 2006 – $25.7million; 2007 – $74.4 million; 2008 – $187.9 million; 2009 – $0.4 million; and2010 and thereafter – $3.5 million.  Inaddition, our 16% mandatorily redeemable preferred stock, which hascharacteristics of both a liability and equity and is redeemable in 2009, had a$47.3 million mandatorily redemption value as of December 31, 2004.

 

As of December 31,2004, we had $36.9 million of working capital and $11.2 million of borrowingsavailable under our $24.0 million revolving line of credit, which expires in March 2006.  We were in compliance with all loan agreementcovenants during the year ended December 31, 2004.

 

**Recent 2005 Developments**

 

DuringMarch 2005, we completed a series of transactions and amendments to existingagreements with DLJ Merchant Banking Partners II, L.P. and affiliated funds,our principal investors.  First, thematurity date of the existing $5.0 million of 13.5% senior unsecured promissorynotes was extended.  The notes are nowdue on March 31, 2006 and interest, which has accrued since December 12, 2004,is payable on December 31, 2005 and at maturity.  Second, we entered into a loan agreementwhich provides for up to $5.0 million of additional borrowings at rates andwith terms identical to the existing 13.5% senior unsecured promissory notes,as amended.  We have borrowed $2.5million pursuant to this agreement and borrowing of the remainder, if needed,will be subject to customary conditions including absence of a material adversechange in our business.  And third, wereceived approximately $5.0 million of proceeds from the sale of 26,425additional shares of our Senior Redeemable Exchangeable Preferred Stock due2008.  The $7.5 million of cash receivedfrom these transactions will be used to fund working capital needs.

 

**Financial Condition and Liquidity**

 

During2003, the first-lien credit facility was amended twice and $80.0 million ofsecond-lien debt was issued with the proceeds thereof used to repay first-lienindebtedness.  These actions, among otherthings, resulted in the extension of debt maturities and debt covenants beingrelaxed.  In 2004, $65.0 million of 12%senior subordinated notes, with interest payable semi-annually, were exchangedfor 17% senior discount notes, which accrete in value, essentially deferringthe payment of interest until the notes mature on September 30, 2008.  In 2005, we received an aggregate $7.5million in proceeds from the sale of preferred stock and from the issuance ofpromissory notes to our principal investors. We also received commitments from those investors that up to $2.5million of additional promissory notes may be issued, if needed.  All of these events provided us withincreased liquidity resources.  We werein compliance with all debt financial covenants during 2004 and are incompliance through the date of this report.

 

On March 31,2006, our first-lien credit facility will expire and any borrowings outstandingon that date will become due and payable ($12.6 million was borrowed as of December 31,2004).  In addition, on that date we arealso required to make principal payments in the amount of $4.3 million on ourfirst-lien term debt and repay $7.5 million of promissory notes to our principalinvestors, unless further extended by the investors.  While we believe the noteholders wouldfurther extend the notes beyond the current due date if requested, they areunder no obligation to do so.  We areexploring various alternatives for the restructuring or replacement of thefirst-lien credit facility as well as additional debt and/or equitytransactions that would further improve liquidity.  We have not entered into any commitments todo so and cannot be assure you that we will be successful in our efforts.

 

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However,we believe expected operating cash flows, together with borrowings under thefirst-lien credit facility ($11.2 million of which was available as of December 31,2004, the commitment for which expires in March 2006), the proceeds fromthe recent $7.5 million investment made by our principal investors and theircommitment to provide an additional $2.5 million of loans, will be sufficientto meet operating expenses, working capital requirements, capital expendituresand debt service obligations up to March 31, 2006.  However, our ability to comply with debtfinancial covenants, pay principal or interest and satisfy or refinance our March 31,2006 debt obligations will depend on our future operating performance as wellas competitive, legislative, regulatory, business and other factors beyond itscontrol.  Although we cannot be certain,we expect to be in compliance with the financial covenants through the end ofthe year based on our current operating plan. See “—Forward-Looking Statements and Risk Factors.”

 

**Disclosure of Contractual Obligations and Commitments**

** **

Thefollowing table summarizes our known contractual obligations to make futurecash payments as of December 31, 2004, as well an estimate of the periodsduring which these payments are expected to be made.

 
| ** **                                      | ** ** | **Years Ending December 31,** | ** ** |
|-------------------------------------------------|------------|------------------------------------|------------|
| **(In millions)**                               | ** ** | **Total**                          | ** ** | **2005** | ** ** | **2006  and  2007** | ** ** | **2008  and  2009** | ** ** | **2010  and  Beyond** | ** ** |
|                                            |       |                               |       |   |   |   |   |   |   |   |   |
| Long-term  debt (a):                            |       |                               |       |   |   |   |   |   |   |   |   |
| First-lien  credit facility (b):                |       |                               |       |   |   |   |   |   |   |   |   |
| Term debt                                       |       | $                                  | 80.5       |   | $ | — |   | $ | 80.5 |   | $ | — |   | $ | — |   |
| Revolving  line of credit                       |       | 12.6                               |       | — |   | 12.6 |   | — |   | — |   |
| Second-lien  term debt (c)                      |       | 82.5                               |       | — |   | — |   | 82.5 |   | — |   |
| 17% senior  discount notes (d)                  |       | 69.9                               |       | — |   | — |   | 69.9 |   | — |   |
| 13.5% senior  unsecured promissory notes (e)    |       | 5.0                                |       | — |   | 5.0 |   | — |   | — |   |
| 12%  subordinated notes (f)                     |       | 35.0                               |       | — |   | — |   | 35.0 |   | — |   |
| Capital  lease obligations (g)                  |       | 3.0                                |       | 0.5 |   | 0.8 |   | 0.4 |   | 1.3 |   |
| Other  indebtedness (g)                         |       | 4.7                                |       | 0.8 |   | 1.2 |   | 0.5 |   | 2.2 |   |
| Total  long-term debt                           |       | 293.2                              |       | 1.3 |   | 100.1 |   | 188.3 |   | 3.5 |   |
| Other  long-term liabilities                    |       | 6.7                                |       | — |   | 1.8 |   | 4.6 |   | 0.3 |   |
| Operating  lease obligations                    |       | 12.0                               |       | 2.6 |   | 4.0 |   | 1.9 |   | 3.5 |   |
| Mandatorily  redeemable preferred stock (h)     |       | 47.3                               |       | — |   | — |   | 47.3 |   | — |   |
| Total  obligations as of December 31, 2004 |       | $                                  | 359.2      |   | $ | 3.9 |   | $ | 105.9 |   | $ | 242.1 |   | $ | 7.3 |   |

 

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(a)                      Generallyexcludes interest payments, which are described in the following notes.

 

(b)                     Thefirst-lien credit facility bears interest at variable rates and therefore theamount of future interest payments are uncertain.  The debt bears interest based on a marginover, at our option, the prime rate or LIBOR. As of December 31, 2004, the current prime rate was 5.00% and thecurrent LIBOR was 2.01%.  The marginsapplicable to portions of amounts borrowed vary depending on our consolidateddebt leverage ratio.  Currently, theapplicable margins are 4.00% to 4.75% for prime rate borrowings and 5.25% to6.00% for LIBOR borrowings.  Theweighted-average interest rate on all first-lien debt was 7.68% as of December 31,2004.

 

(c)                      Thesecond-lien term debt is comprised of $70.0 million of fixed rate debt and$10.0 million of variable rate debt.  Thefixed rate debt bears interest at 15%; 12% payable quarterly in cash and 3%pay-in-kind or “accreted” interest, payable at maturity.  The variable rate debt bears cash interest,at

 

41

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our option, at the prime rate plus 7.5% orLIBOR plus 8.5%, plus 3% pay-in-kind interest payable at maturity.  The weighted-average interest rate on allsecond-lien debt was 14.82% as of December 31, 2004.  All of the second-lien debt matures on June 30,2008, at which time the cash payment obligation will be $91.7 million,including the 3% pay-in-kind interest obligation.

 

(d)                     The 17%senior discount notes do not bear cash interest expense but instead accrete invalue at a 17% annual rate until maturity on September 30, 2008.  The notes will have a $128.8 millionaggregate accreted principal value at maturity.

 

(e)                      Excludesinterest of $0.9 million payable at maturity.

 

(f)                        Intereston the 12% subordinated notes is payable semiannually.

 

(g)                     Interest isgenerally payable monthly.

 

(h)                     Dividends donot accrue on the preferred stock unless a defined leverage ratio falls belowcertain specified levels as of each quarterly testing date or if certaintriggering events occur.  Depending onthe future leverage ratio achieved, and provided certain triggering events havenot occurred, dividends accrue at a 0%, 4% or 16% annual rate for thesucceeding quarter.  If certaintriggering events occur, such as failure to discharge any mandatory redemptionobligations or comply with certain restrictive covenants and the like,dividends accrue at a 16% annual rate. Based on the leverage ratio achieved as of December 31, 2004, nodividends will accrue on the preferred stock during the three months ending March 31,2005, the next quarterly testing date. Future dividends, if any, are not payable until redemption.  The mandatory redemption date is December 31,2008.  Our debt instruments restrict ourability to make payments on our preferred stock.

 

**Disclosure About Off-Balance Sheet Commitments andIndemnities**

** **

We area wholly-owned subsidiary of DeCrane Holdings, whose capital structure alsoincludes mandatorily redeemable preferred stock.  Since we are DeCrane Holdings’ only operatingsubsidiary and source of cash, we may be required to fund DeCrane Holdings’dividend and redemption obligations in the future, subject to significantlimitations contained in our first-lien credit agreement, second-lien termnotes and the senior discount notes and subordinated notes indentures.

 

Dividendsdo not accrue on the preferred stock unless a defined leverage ratio fallsbelow certain specified levels as of each quarterly testing date or if certaintriggering events occur.  Depending onthe future leverage ratio achieved, and provided certain triggering events havenot occurred, dividends accrue at a 0%, 3.5% or 14% annual rate for thesucceeding quarter.  If certaintriggering events occur, such as failure to discharge any mandatory redemptionobligations or comply with certain restrictive covenants and the like,dividends accrue at a 14% annual rate. Based on the leverage ratio achieved as of December 31, 2004, nodividends will accrue on the preferred stock during the three months ending March 31,2005, the next quarterly testing date. Future dividends, if any, are not payable until redemption.  The DeCrane Holdings preferred stock has atotal redemption value of $77.2 million as of December 31, 2004 and ismandatorily redeemable on September 30, 2009.

 

Duringour normal course of business, we have entered into agreements containingindemnities pursuant to which we may be required to make payments in thefuture.  These indemnities are inconnection with facility leases and liabilities for specified claims arisingfrom investment banking services our financial advisors provide to us.  The duration of these indemnities,commitments and guarantees varies, and in certain cases, is indefinite.  Substantially all of these indemnitiesprovide no limitation on the maximum potential future payments we could beobligated to make and is not quantifiable. We have not recorded any liability for these indemnities since no claimshave been asserted to date.

 

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Inconnection with the sale of the Specialty Avionics Group, we made indemnitiesto the buyer with respect to a number of customary, and certain other specific,representations and warranties.  Ourindemnities with respect to some of these matters are limited in terms ofduration with the maximum of potential future payments capped at $14.0 millionand our indemnities with respect to specified environmental matters will expirenot later than October 2010 and provides for a maximum liability of $5.0million, while others will have no limitations.

 

As of December 31,2004, we also had irrevocable standby letters of credit in the amount of $0.3million issued and outstanding under our first-lien credit facility.

 

**Critical Accounting Policies and Estimates**

** **

Ourdiscussion and analysis of our financial condition and results of operationsare based upon our consolidated financial statements, which are prepared inaccordance with accounting principles generally accepted in the United Statesof America.  Our preparation of thesefinancial statements requires us to make estimates and judgments that affectthe reported amounts of assets, liabilities, revenues and expenses, and relateddisclosure of contingent assets and liabilities.

 

Weevaluate our estimates on an on-going basis. We base our estimates on historical experience and on variousassumptions that are believed to be reasonable under the circumstances, theresults of which form the basis for making judgments about the carrying valuesof assets and liabilities that are not readily apparent from othersources.  Actual results could differfrom these estimates under different assumptions or conditions.  We believe the following critical accountingpolicies affect our more significant estimates and judgments used in thepreparation of our financial statements.

 

**Allowance for uncollectible accounts receivable.** Accounts receivable are reduced by an allowance for amounts that aredeemed uncollectible.  The estimatedallowance for uncollectible amounts is based primarily on our evaluation of thefinancial condition of each of our customers and their payment history.  We also provide an allowance based on the ageof all receivables for which we have not established a customer-specificallowance.  Generally, we do not requirecollateral or other security to support accounts receivable, however, undercertain circumstances, we require deposits or cash-on-delivery terms.  While our losses have been within ourexpectations, a deterioration of our customers’ financial condition may requirethat we provide additional allowances, reducing our operating income in futureperiods.  Our customers operate in thebusiness, VIP and head-of-state and commercial aircraft industry throughout theworld and are being adversely impacted by the acts and ongoing threats ofglobal terrorism, the current military conflicts, health epidemics and weakglobal economic conditions.  Accountsreceivable of $26.0 million is reduced by an allowance for uncollectibleaccounts of $0.6 million as of December 31, 2004.

 

**Allowance for excess and obsolete inventory. **Inventories are reduced by an allowance for estimatedexcess and obsolete inventory.  Theallowance is the difference between the cost of the inventory and its estimatedmarket value.  Our market value estimatesare based upon existing order backlog, our assumptions about market conditions,including future orders and market pricing. While our products are not subject to rapid technological obsolescence,we also consider this factor in determining our market value estimates.  If our customers cancel existing orders oractual market conditions, including future orders, are less favorable than weprojected, we may provide additional allowances, reducing our gross profit infuture periods.  Inventories of $58.2million were reduced by an allowance for excess and obsolete inventory of $6.9million as of December 31, 2004.

 

**Goodwill impairment.**  On January 1, 2002, we began accountingfor goodwill under Statement of Financial Accounting Standards No. 142, “Goodwilland Other Intangible Assets.”  SFAS No.142 requires an impairment-only approach to accounting for goodwill.  Because of our history of acquisitions,goodwill constitutes a significant portion of our long-term assets.

 

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The SFAS No. 142 goodwill impairment model is atwo-step process.  First, it requires acomparison of the book value of net assets to the fair value of the reportingunits that have goodwill assigned to them. If the fair value is determined to be less than book value, a secondstep is performed to compute the amount of the impairment.  In this process, a fair value for goodwill isestimated, based in part on the fair value of the reporting unit used in thefirst step, and is compared to its carrying value.  The amount by which carrying value exceedsfair value represents the amount of goodwill impairment.  SFAS No. 142 requires goodwill to be tested forimpairment annually at the same time every year, and when an event occurs orcircumstances change such that it is reasonably possible that impairment mayexist.  We have selected October 31stas our annual testing date.

 

We estimate the fair values of our reporting unitsusing a discounted cash flow approach, taking into consideration projections based on theindividual characteristics of the reporting units, historical trends, marketmultiples for comparable businesses and independent appraisals.  The forecastsof future cash flows are based on our best estimate of future revenues andoperating costs, based primarily on existing backlog, expected future bookingsbased on our estimate of aircraft deliveries and general market conditions.  Changes in these forecasts could cause aparticular reporting unit to either pass or fail the first step in the goodwillimpairment mode, which could significantly change the amount of impairmentrecorded.  Since we began testing goodwillfor impairment in 2002, we have recorded impairment charges totaling $107.3million, which includes $41.5 million recorded during 2003.

 

Goodwill with an aggregate book value of $162.4million remains as of December 31, 2004 and will be subject to impairmenttesting in October 2005, or sooner, if additional events occur orcircumstances change such that it is reasonably possible that furtherimpairment may exist.

 

**Valuation of long-lived assets and other intangibleassets. **In accordance with SFAS No. 144, “Accounting for theImpairment or Disposal of Long-Lived Assets,” we review long-lived assets andother identifiable intangible assets for impairment when events or changes incircumstances indicate that the carrying value of an asset may not berecoverable.  Factors we consider important,which could trigger an impairment review, include significant:

 

•                  underperformance relative to expected future operating results;

 

•                  changes in the manner of our use of the acquired assets;

 

•                  changes in our business strategy; or

 

•                  negative aerospace industry or global economic conditions.

 

Ourimpairment review consists of comparing the sum of the expected undiscountedfuture cash flows resulting from the use of the asset to the carrying value ofthe assets.  When we determine that thecarrying value may not be recoverable, we record an impairment loss equal tothe excess of the asset’s carrying value over its fair value.  We measure fair value based on a projecteddiscounted cash flow method using a discount rate we believe to be commensuratewith the risk inherent in our current business model.  Net long-lived assets and intangible assets,excluding goodwill, amounted to $53.3 million as of December 31, 2004.

 

**Accounting for income taxes.**  As part of theprocess of preparing our financial statements, we are required to estimate ourincome taxes in each of the jurisdictions in which we operate.  This process involves estimating our actualcurrent tax exposure together with assessing permanent and temporary differencesresulting from differing treatment of items, such as amortization of assets andother nondeductible expenses, for tax and accounting purposes.  These differences result in deferred taxassets and liabilities, which are included within our statement of financialposition.  We must then assess thelikelihood that our deferred tax assets will be recovered from future taxableincome and, to the extent we believe that recovery is not likely, we mustestablish a valuation allowance which increases our provision for income taxesin our statement of operations.

 

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Wehave a $34.2 million net deferred tax asset as of December 31, 2004compared to a $19.5 million net asset as of the end of the prior year.  As required by SFAS No. 109, weevaluate each deferred asset for expected recoverability based on the nature ofthe item, the associated taxing jurisdictions, the applicable expiration datesand future taxable income forecasts that would impact utilization.  Since there is no loss carry back potentialand we do not have any tax planning strategies to assure recoverability, theonly possibility for recovery of the net deferred assets is future taxableincome.  Since there have been prior yearlosses, we believe it was not prudent to rely on future income as the means tosupport the carrying value of the net asset. As a result of the evaluation, we recorded a $19.5 million valuationallowance as of December 31, 2003 and increased it by $14.7 million during2004 to $34.2 million as of December 31, 2004, eliminating the netdeferred asset as of the end of each period.

 

If wecreate additional deferred taxes in future periods while continuing to incurtaxable losses, we would need to establish additional valuation allowances inthose future periods, which would increase our provision for income taxesthrough the non-recognition of the benefit of net operating loss carryforwardswhich are used to reduce future taxable income.

 

**Revenue and profit recognition under long-termcontracts. **Because of relatively long productioncycles, a portion of our revenues and profits are recognized underpercentage-of-completion method of accounting using total contract price,actual costs incurred to date and an estimate of the completion costs for eachcontract.  We use this method becausereasonably accurate estimates of the revenue and costs applicable to thevarious stages of a contract can be made. Recognized revenues and profits on each contract are subject torevisions as the contract progresses towards completion.  Revisions to revenue and profit estimates aremade in the period in which the facts that give rise to the revision becomeknown.  Provisions for estimated losseson uncompleted contracts are fully recognized in the period in which suchlosses are determined.  Approximately19.7% of our revenues and 31.5% of our gross profit during the year ended December 31,2004 was recognized under the percentage-of-completion method of accounting.

 

**Restructuring of our businesses.** As described in “—Restructuring, Asset Impairment and Other RelatedCharges,” we have recorded charges totaling $83.2 million during the threeyears ended December 31, 2004 in response to the adverse aerospaceindustry impact the acts, and ongoing threats, of global terrorism and thecurrent weak global economic conditions are having on our businesses.  These charges are based on our presentestimates of the impact these events are having on our businesses and thefuture recovery of the aerospace industry. Actual results and future recovery could differ from these estimates,potentially resulting in further restructuring, asset impairment and otherrelated charges.

 

**Recently Issued Accounting Pronouncements**

** **

**SFASNo. 151**

** **

In November 2004,the Financial Accounting Standards Board issued SFAS No. 151, “Inventory Costs– an amendment of ARB No. 43, Chapter 4.” SFAS No. 151 clarifies the accounting for abnormal amounts of idlefacility expense, freight, handling costs, and wasted material, and requiresthat such items be recognized as current-period charges regardless of whetherthey meet the “so abnormal” criterion outlined in ARB No. 43.  SFAS No. 151 also introduces the concept of “normalcapacity” and requires the allocation of fixed production overhead to inventorybased on the normal capacity of the production facilities.  Unallocated overhead must be recognized as anexpense in the period incurred.  SFAS No.151 is effective for inventory costs incurred during fiscal years beginningafter June 15, 2005.  While we arestill evaluating the impact of this statement, we do not currently believe itwill have a material impact on our financial position or results of operations.

 

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**SFASNo. 153**

** **

In December 2004,the Financial Accounting Standards Board issued SFAS No. 153, “Exchanges ofNonmonetary Assets – an amendment of APB Opinion No. 29.”  SFAS No. 153 amends the guidance in APBOpinion No. 29, “Accounting for Nonmonetary Transactions,” which is based onthe principle that exchanges of nonmonetary assets should be measured based onthe fair value of the assets exchanged, with certain exceptions.  SFAS No. 153 amends APB Opinion No. 29 toeliminate the exception for nonmonetary exchanges of similar productive assetsand replaces it with a general exception for exchanges of nonmonetary assetsthat do not have commercial substance.  Anonmonetary exchange has commercial substance if the future cash flows of theentity are expected to change significantly as a result of the exchange.  The provisions of SFAS No. 153 are effectivefor nonmonetary asset exchanges occurring in fiscal periods beginning after June 15,2005.  While we are still evaluating theimpact of this statement, we do not currently believe it will have a materialimpact on our financial position or results of operations.

 

**SFASNo. 123 (Revised 2004)**

** **

In December 2004,the Financial Accounting Standards Board issued SFAS No. 123 (revised 2004), “Share-basedPayment,” which replaces the prior SFAS No. 123, “Accounting for Stock-BasedCompensation,” and supersedes APB Opinion No. 25, “Accounting for Stock Issuedto Employees.”  SFAS No. 123 (revised2004) (“SFAS No. 123 (2004)”) requires that compensation cost relating toshare-based payment transactions be recognized in financial statements.  That cost will be measured based on the fairvalue of the equity or liability instruments issued.  When SFAS No. 123 was initially issued in1995, it permitted entities the option, which the Company elected to follow, ofcontinuing to apply the guidance in APB Opinion No. 25, as long as the notes tothe financial statements disclosed what net income would have been had thepreferable fair-value-based method been used.

 

Wewill be required to apply the provisions of SFAS No. 123 (2004) commencing withthe fiscal year beginning January 1, 2006. Adoption of SFAS No. 123 (2004) will result in the recording ofcompensation expense for stock options or other equity-based grants over thevesting period.  We believe thisstatement will not have a material impact on our financial position or resultsof operations.

 

**Forward-Looking Statements and Risk Factors**

** **

**Special Note Regarding Forward-Looking Statements**

** **

Allstatements other than statements of historical facts included in this report,including statements about our future performance and liquidity and futureindustry performance, are considered forward-looking statements within themeaning of the Private Securities Litigation Reform Act of 1995.  These statements are subject to known andunknown risks, uncertainties and other factors, which are difficult topredict.  Some of those risks arespecifically described below, but we are also vulnerable to a variety ofelements that affect many businesses, such as:

 

•                  fuel prices and general economic conditions that affect demand foraircraft and air travel, which in turn affect demand for our products andservices;

 

•                  acts, and ongoing threats, of global terrorism, military conflicts andhealth epidemics that affect demand for aircraft and air travel, which in turnaffect demand for our products and services;

 

•                  our reliance on large projects, where unanticipated needs to incurdevelopment costs and acquire inventory or delays in payment could increase ourworking capital needs;

 

•                  inflation, and other general changes in costs of goods and services;

 

•                  price and availability of raw materials, component parts and electricalenergy;

 

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•                  liability and other claims asserted against us that exceeds ourinsurance coverage;

 

•                  the ability to attract and retain qualified personnel;

 

•                  labor disturbances;

 

•                  changes in operating strategy, or our acquisition and capitalexpenditure plans; and

 

•                  the risks described below.

 

Changesin such factors could cause our actual results to differ materially from thoseexpressed or implied in the forward-looking statements contained in thisreport.  Although we believe that theexpectations reflected in such forward-looking statements are reasonable, wecan give no assurance that such expectations will prove to be correct.  We undertake no obligation to releasepublicly any revisions to these forward-looking statements to reflect events orcircumstances after the date hereof or to reflect the occurrence of unanticipatedevents.  You should not rely on ourforward-looking statements as if they were certainties.

 

**Risk Factors**

** **

**SubstantialLeverage.**  Our substantial levels of debt couldadversely affect our financial health and prevent us from fulfilling ourobligations under the debt agreements.

 

As of December 31,2004, we had total consolidated indebtedness of approximately $293.2 millionand we had $11.2 million of additional revolving line of credit borrowingsavailable under our first-lien credit facility, subject to customary fundingconditions.  We also had $47.3 million ofmandatorily redeemable preferred stock as of December 31, 2004.  The first-lien credit facility, second-lienterm debt and the indentures under which our senior discount and seniorsubordinated notes are issued each also permit us to incur a limited amount ofadditional debt above our revolving line of credit to finance capitalexpenditures or to refinance existing debt and to secure that debt with some ofour assets.

 

Theamount of debt we carry could have important consequences:

 

•                  It limits the cash flow available for general corporate purposes andacquisitions.  Interest payments on ourdebt were $26.5 million for the year ended December 31, 2004.  Earnings from continuing operations wereinsufficient to cover fixed charges by $42.4 million for the year ended December 31,2004 and we used $10.8 million of cash for operations in 2004.

 

•                  It may limit our ability to obtain additional debt financing in thefuture for working capital, capital expenditures or acquisitions.

 

•                  It may limit our flexibility in reacting to competitive and otherchanges in the industry and economic conditions generally.

 

•                  It exposes us to increased interest expenses, when interest ratesfluctuate, because some of our borrowing may be, and in recent years most of ithas been, at variable “floating” rates.

 

•                  It may limit our ability to respond to changes in our markets orexploit business opportunities.

 

**RestrictiveCovenants.**  Our operations and those of our subsidiariesare restricted by the terms of our first-lien credit facility, second-lien termdebt and the senior discount and senior subordinated notes indentures.

 

Ourfirst-lien credit facility and the indentures under which our notes are issuedlimit our flexibility in operating our businesses, including our ability andthe ability of our subsidiaries to:

 

•                  incur debt;

 

•                  issue preferred stock;

 

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•                  repurchase capital stock or subordinated debt;

 

•                  enter into transactions with affiliates;

 

•                  enter into sale and leaseback transactions;

 

•                  create liens or allow them to exist;

 

•                  pay dividends or other distributions;

 

•                  make investments;

 

•                  sell assets; and

 

•                  enter into mergers and consolidations.

 

Inaddition, our first-lien credit facility requires that we satisfy several testsof financial condition, including minimum levels of EBITDA and interest andfixed charges coverage and maximum permitted levels of leverage and seniordebt.  Our ability to do so can be affectedby events beyond our control, and we cannot be sure that we will meet thosetests.  Our failure to do so could resultin a default under our loan agreements, which would permit the lenders toterminate their commitments and accelerate all debt including the subordinatednotes indenture.  Although we were incompliance with these covenants as of December 31, 2004, we have requiredamendments on several occasions in recent years to avoid potential defaults andwe may not be able to comply with these tests in the future.

 

Thefirst-lien credit facility and second-lien term loans are secured bysubstantially all our material assets. If we default under our debt agreements, the lenders could choose todeclare all outstanding amounts immediately due and payable, and seekforeclosure of the assets we granted to them as collateral.

 

**PotentialInability to Service Debt.**  We willrequire a significant amount of cash to service our debt and to fund ouroperations and planned capital expenditures. Our ability to generate cash depends on cash flows from our subsidiariesand many factors beyond our control.

 

Wewill be required to repay $27.1 million of debt through 2006 and substantialamounts thereafter.  See “Management’sDiscussion and Analysis of Financial Condition and Results ofOperations—Liquidity and Capital Resources and —Disclosure of ContractualObligations and Commitments” for additional information.  Our ability to satisfy our debt obligationsand to fund our operations and planned capital expenditures will depend on ourability to generate cash in the future and access to our revolving creditfacility, which will terminate in March 2006.  During 2004, we used $16.9 million of cashfor operations.  Our ability to generatecash in the future will, to an extent, be subject to general economic, financial,competitive, legislative, regulatory and other factors that are beyond ourcontrol.

 

Wecannot assure you that we will generate operating cash flow at all, or that ouroperating cash flow will be sufficient to meet our anticipated future operatingand capital expenditures and debt payments as they become due or that futureborrowings will be available to us for such purposes. Our ability togenerate operating cash flows is principally dependent upon two factors: (i)our ability to increase revenues at a pace faster than the growth in expenses;and (ii) our ability to manage working capital levels.  As our revenues and backlog have increasedduring the last year, our inventory and accounts receivable have increased,which has increased our working capital needs. Because we rely on large projects for a substantial portion of ourrevenue, unanticipated needs to incur development costs or acquire inventory,or unexpected delays in payments from customers, could increase our workingcapital needs.  In addition, we aredependent upon several large customers for a substantial portion of ourrevenues, and any difficulty we have in collecting from such customers couldalso negatively impact our working capital needs. If our cash flow in future periods is lower than weexpect, we might be forced to reduce or delay acquisitions or capitalexpenditures, sell assets and/or reduce operating expenses in order to make allrequired debt service payments.  Areduction in our operating expenses might reduce important efforts, such asselling and marketing programs, management information system upgrades and newproduct development.  Also, it is likelywe will need to refinance all or a portion of our debt on or before maturity.  At that time, we may not be able to refinanceour debt on commercially reasonable terms or at all.

 

Wereported a net loss of $42.5 million for the year ended December 31, 2004,$73.3 million for the year ended December 31, 2003 and $66.0 million forthe same period in 2002.  The 2004 lossincludes $8.6 million of pre-tax restructuring charges we recorded resultingfrom our restructuring activities.  The2003 loss includes $13.8 million as a result of a cumulative effect of changein accounting principle, a

 

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$6.6 million loss attributable to discontinuedoperations and $49.4 million of pre-tax restructuring and long-lived assetimpairment charges we recorded resulting from our restructuringactivities.  The 2002 loss includes $17.8million as a result of a cumulative effect of change in accounting principle, a$41.4 million loss attributable to discontinued operations and $17.2 million ofpre-tax restructuring and long-lived asset impairment charges we recordedresulting from our restructuring activities. Our restructuring activities were implemented in response to the adverseimpact the events described in “—Aerospace Industry Risks” below are having onour business.

 

**AerospaceIndustry Risks.**  The aerospace industry is cyclical andaffected by many factors beyond our control, including geo-political and globaleconomic conditions.

 

Wecompete in the aircraft products and services market of the aerospaceindustry.  The market for our productsand services is largely driven by demand in the civil aircraft markets,principally for business, VIP and head-of-state aircraft and, to a lesserextent, commercial and regional aircraft. The September 11, 2001 terrorist attack on the United States,ongoing concerns about global terrorism, the current Middle-Eastern militaryconflicts, health epidemics and weak global economic conditions all adverselyimpact the aerospace industry and our business.

 

Thebusiness, VIP and head-of-state aircraft portion of our business experiencedweakness throughout 2003 as evidenced by various manufacturers’ temporarilysuspension of production at various times throughout the year in response tothe weak demand for new aircraft.  During2004 the markets we serve began to reflect the improvement in the generaleconomy as the demand for business, VIP, and head-of-state aircraft began toshow increased strength.  While webelieve this strengthening may continue into 2005 and beyond, our beliefs arebased on the assumptions that the global economic recovery continues and thatthere are no negative geo-political developments affecting our industry andother factors beyond our control.

 

Factorscausing decreases in demand for new business, VIP and head-of-state andcommercial aircraft, as well as related component parts (which occur for avariety of reasons, including those described above), would result inadditional decreases in demand for our products and services, and,correspondingly, our revenues, thereby adversely affecting our financialcondition.  In addition, furtherdeterioration or prolonged decreases in demand could result in furtherrestructurings of our business.

 

**Concentrationof Key Customers.**  We receive a significant portion of ourrevenues from a small group of key customers, and we are vulnerable to changesin their economic condition and purchasing plans.

 

Asignificant decline in business from any one of our key customers could have amaterial adverse effect on our business. Our three largest customers accounted for 49.8% of our consolidatedrevenues for the year ended December 31, 2004 as follows: Textron (whichincludes Cessna) – 20.4%; Bombardier – 19.8%; and Boeing – 9.6%.  Some of our customers also have the in-housecapabilities to perform the services and provide many of the products we offerand, accordingly, could discontinue outsourcing their business to us.

 

Inaddition, significant portions of our revenues from our major customers arepursuant to contracts that may include a variety of terms favorable to thecustomer.  Such terms may include ouragreement to one or more of the following:

 

•                  the customer is not required to make purchases, and may terminate suchcontracts at any time;

 

•                  we make substantial expenditures to develop products for customers thatwe may not recoup if we do not receive sufficient orders;

 

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•                  on a prospective basis, we must extend to the customers any reductionsin prices or lead times that we provide to other customers;

 

•                  we must match other suppliers’ price reductions or delete the affectedproducts from the contract; and

 

•                  we must grant irrevocable non-exclusive worldwide licenses to use ourdesigns, tooling and other intellectual property rights to products sold to acustomer if we default, or suffer a bankruptcy filing, or transfer ourmanufacturing rights to a third party.

 

**IntangibleAsset Impairment.**  Our total assets include a substantial amountof intangible assets.  The write-off of asignificant portion of intangible assets would negatively affect our results ofoperations.

 

As of December 31,2004, goodwill and other intangible assets represented approximately 61.4% ofour total assets.  Intangible assetsconsist of goodwill and other identifiable intangible assets associated withour acquisitions, representing the excess of cost over the fair value oftangible assets we have acquired.  We maynot be able to realize the value of these assets.  Since our January 1, 2002 adoption ofSFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill is not amortizedbut is instead subject to annual testing for impairment.  Identifiable intangible assets with finitelives are amortized over their individual useful lives and are also subject toannual impairment testing.  Simplystated, if the carrying value of the asset exceeds the estimated undiscountedfuture cash flows from the operating activities of the related business,impairment is deemed to have occurred. In this event, the asset is written down accordingly.  Under current accounting rules, this wouldresult in a charge against income from operations.  Sincewe began testing goodwill for impairment in 2002, we have recorded impairmentcharges totaling $107.3 million, which includes $41.5 million recorded during2003.

 

Anyfuture impairment testing resulting in the write-off of a significant portionof goodwill or identifiable intangible assets will have an adverse impact onour results of operations and total capitalization, the effect of which couldbe material.

 

**Competition. **We operate in a highly competitive industry andcompete against a number of companies, some of which have significantly greaterfinancial, technological and marketing resources than we do.

 

Weoperate in highly competitive markets within the aerospace industry.  Our competitors include business aircraftmanufacturers, independent completion and modification companies and otherindependent service organizations, including some of our customers, many ofwhom may have significantly greater financial, technological, manufacturing andmarketing resources than we do.  Theniche markets within the aerospace industry that we serve are relativelyfragmented, with several competitors offering the same products and services weprovide.  Due to the global nature of theaerospace industry, competition comes from both U.S. and foreign companies.

 

Webelieve our ability to compete depends on high product performance, shortlead-time and timely delivery, competitive pricing, superior customer serviceand support and continued certification under customer quality requirements andassurance programs.  There can be noassurance that we will be able to compete successfully with respect to thesefactors in the future.

 

**GrowthStrategy.**  Our acquisition of other companies may posecertain risks.

 

Weconsider and take advantage of selected opportunities to grow by acquiringother businesses whose operations or product lines complement our existingbusinesses.  Our ability to implementthis growth strategy will depend on finding suitable acquisition candidates atacceptable prices and obtaining the required financing.  Any acquisition we may make in the futurecould be subject to a number of risks, including:

 

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•                  our ability to integrate the operations and personnel of the acquiredcompany;

 

•                  our failure to identify liabilities of the acquired company for whichwe may be responsible as a successor owner or operator;

 

•                  the loss of key personnel in the acquired company; and

 

•                  the impact on our financial position, results of operations and cashflows resulting from additional acquisition indebtedness.

 

Ourinability to adequately manage these or other risks could have an adverseeffect on our business.

 

**FAA Regulation.** The FAA closely regulates many of our operations.  If we fail to comply with its many standards,or if those standards change, we could lose installation or certification capabilities,which are important to our business.

 

Theaerospace industry is highly regulated in the United States by the FederalAviation Administration to ensure that aviation products and services meetstringent safety and performance standards. The FAA prescribes standards and licensing requirements for aircraftcomponents, issues designated alteration station authorizations, and licensesprivate repair stations.  We hold variousFAA authorizations and licenses, including a Designated Alteration Stationauthorization, which gives one of our subsidiaries the authority to certifysome aircraft design modifications on behalf of the FAA.  Our business depends on our continuing accessto, or use of, these FAA authorizations and licenses, and our employment of, oraccess to, FAA-certified individual engineering professionals.

 

We cannotassure you that we will continue to have adequate access to thoseauthorizations, licenses and certified professionals, the loss orunavailability of which could adversely affect our operations.  The FAA could also change its policiesregarding the delegation of inspection and certification responsibilities toprivate companies, which could adversely affect our business.

 

**EnvironmentalRisks and Regulation.**  Some of our operations andfacilities generate waste or have done so in the past, which may result inunknown future liabilities for environmental remediation.

 

Environmentallaws, particularly the federal Comprehensive Environmental Response,Compensation and Liability Act (“CERCLA”), may impose strict, retroactive andjoint and several liability upon persons responsible for releases or potentialreleases of hazardous substances and other parties who have some relationshipto a site or a source of waste, such as a current or former owner or operatorof real property or a party who arranges to transport wastes to a third-partysite.  We have sent waste to treatment,storage or disposal facilities that have been designated as National PriorityList (more commonly known as Superfund) sites under CERCLA or equivalentlistings under state laws.  We have receivedrequests for information or allegations of potential responsibility from theU.S. Environmental Protection Agency regarding our use of several of thesesites.  Given the potentially retroactivenature of environmental liability, it is possible that we will receiveadditional notices of potential liability relating to current or formeractivities.  We may incur costs in thefuture for prior waste disposal by us or former owners of our subsidiaries orour facilities.  Some of our operationsare also located on properties that may be contaminated to varyingdegrees.  We may incur costs in thefuture to address existing or future contamination.  If we incur significant costs in connectionwith these or other environmental issues, our business and financial conditioncould be adversely affected.

 

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**Governanceand Disclosure Regulations. **Evolving regulation of corporategovernance and public disclosure may result in additional expenses.

 

Changinglaws, regulations and standards relating to corporate governance and publicdisclosure, including the Sarbanes-Oxley Act of 2002 and new SEC regulationsare impacting companies such as ours. The application of these new or changed laws, regulations and standardsare subject to varying interpretations in many cases due to their lack ofspecificity, and as a result, their application in practice may evolve overtime as new guidance is provided by regulatory and governing bodies, whichcould result in higher costs necessitated by ongoing revisions to disclosureand governance practices.  We arecommitted to maintaining high standards of corporate governance and publicdisclosure.  As a result, we intend toinvest resources to comply with evolving laws, regulations and standards, andthis investment may result in increased general and administrative expenses anda diversion of management time and attention from revenue-generating activitiesto compliance activities.  If our effortsto comply with new or changed laws, regulations and standards differ from theactivities intended by regulatory or governing bodies due to ambiguitiesrelated to practice, our reputation may be harmed.

 

**ExcessLoss Risks.**  We could sustain losses in excess of ourinsurance for liability claims.

 

Ourbusiness exposes us to possible claims for damages resulting from themanufacture, installation and use of our products.  Many factors beyond our control could lead tosuch claims, such as the failure of an aircraft on which our products have beeninstalled, the reliability and skill of the operators of such aircraft and themaintenance performed on such aircraft. We carry aircraft products and grounding liability insurance for thispurpose, but we cannot assure you that our insurance coverage will be adequateto cover claims that may arise or that we will be able to renew our coverage inthe future at commercially reasonable rates.

 

**Industryand Market Data. **We cannot guarantee the accuracy andcompleteness of the industry and market data and trends we describe in thisreport and rely upon in preparing our operating forecasts.

 

Theindustry and market data we use in this report is based on the good faithestimates of our management, which estimates are based primarily upon internalmanagement information and, to the extent available, independent industrypublications and other publicly available information.  However, the nature of the aerospace industryand competition in our markets results in limited availability of reliable,independent data.  Although we believethat the sources we have used are reliable, we do not guarantee, and have notindependently verified, the accuracy and completeness of the information.

 

**Dependenceon Key Personnel.**  We need to retain the services of our keyemployees.

 

Oursuccess and growth depends in large part on the skills and efforts of ourmanagement team and on our ability to attract and retain qualified personnelexperienced in the various operations of our business.  The loss of key personnel, including our founder,R. Jack DeCrane, combined with the failure to attract additional qualifiedpersonnel for whatever reason, could delay implementation of our business planor otherwise adversely affect our operations. We do not have employment contracts with our key personnel, other thanMr. DeCrane.  We do not carry key manlife insurance on any members of our management team.

 

**ITEM 7A.**                                QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKETRISK

** **

We areexposed to various market risks, including interest rates and changes inforeign currency exchange rates.  Marketrisk is the potential loss arising from adverse changes in prevailing marketrates and prices.  From time to time, weuse derivative financial instruments to manage and reduce risks

 

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associated with these factors.  We do not enter into derivatives or otherfinancial instruments for trading or speculative purposes.

 

**InterestRate Risk.**  A significant portion of our capitalstructure is comprised of long-term variable and fixed-rate debt.

 

Marketrisk related to our variable-rate debt is estimated as the potential decreasein pre-tax earnings resulting from an increase in interest rates.  The interest rates applicable tovariable-rate debt are, at our option, based on defined margins over thecurrent prime rate or LIBOR.  As of December 31,2004, the current prime rate was 5.00% and the current LIBOR was 2.01%.  Based on $103.4 million of variable-rate debtoutstanding as of December 31, 2004, a hypothetical one percent rise ininterest rates, to 6.00% for prime rate borrowings and 3.01% for LIBORborrowings, would reduce our pre-tax earnings by $1.0 million annually.

 

Theestimated fair value of our recently issued 17% fixed-rate long-term seniordiscount notes approximates its $69.9 million carrying value as of December 31,2004.  Market risk related to ourfixed-rate debt is deemed to be the potential increase in fair value resultingfrom a decrease in interest rates.  Forexample, a hypothetical ten percent decrease in the interest rates, from 17.0%to 15.3%, would increase the fair value of our 17% fixed-rate debt byapproximately $4.0 million.

 

Theestimated fair value of our $35.0 million of 12% fixed-rate long-term seniorsubordinated notes increased $5.2 million, or 32.9%, to approximately $21.0million as of December 31, 2004 from $15.8 million as of December 31,2003.  Although we cannot be certain, webelieve the increase may be a result of the recovery of the business, VIP andhead-of-state aircraft market in 2004 and the exchange of $65.0 million of 12%notes for 17% senior discount notes with interest payable at maturity.  Market risk related to our fixed-rate debt isdeemed to be the potential increase in fair value resulting from a decrease ininterest rates.  For example, ahypothetical ten percent decrease in the interest rates, from 12.0% to 10.8%,would increase the fair value of our 12% fixed rate notes by approximately $1.3million.

 

**ForeignCurrency Exchange Rate Risk.**  Our foreigncustomers are located in various parts of the world, primarily Canada, the Farand Middle East and Western Europe, and we have a subsidiary with manufacturingfacilities in Mexico.  To limit ourforeign currency exchange rate risk related to sales to our customers, ordersare almost always valued and sold in U.S. dollars.  We have entered into forward foreign exchangecontracts in the past, primarily to limit the Specialty Avionics Group’sexposure related to foreign inventory procurement and operating costs.  While we have not recently entered into anysuch contracts, we may do so in the future depending on the volume of non-U.S.dollar denominated transactions and our assessment of future foreign exchangerate trends.

 

**ITEM 8.**                                         FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

** **

Ourconsolidated financial statements, supplementary financial information andfinancial statement schedules are included in a separate section at theend of this report.  The financialstatements, supplementary information and schedules are listed in the index onpage F-1 of this report and are incorporated herein by reference.

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

** **

None.

 

53

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**ITEM 9A.**                                CONTROLS AND PROCEDURES

** **

Themanagement of DeCrane Aircraft Holdings, Inc. (the “Company”), under thesupervision and with the participation of the Company’s Chief Executive Officerand Chief Financial Officer, conducted an evaluation of the Company’s “disclosurecontrols and procedures” (as defined in Exchange Act Rules 13a-15(e) or15d-15(e)) as of the end of the period covered by this report.  Based on that evaluation, the Chief ExecutiveOfficer and Chief Financial Officer concluded that the Company’s disclosurecontrols and procedures were effective as of the end of the period covered bythis report.

 

Therewas no change in the Company’s internal control over financial reportingidentified in connection with the evaluation required by paragraph (d) ofExchange Act Rules 13a-15 or 15d-15 that occurred during the Company’s lastfiscal quarter that has materially affected, or is reasonably likely tomaterially affect, the Company’s internal control over financial reporting.

 

**ITEM 9B.**                                OTHER INFORMATION

** **

In December 2004DeCrane Aircraft entered into change of control agreements with two executiveofficers and a severance agreement with one executive officer.  See “Item 11. Executive Compensation—Changeof Control Agreements and —Severance Agreement” for additional information.

 

54

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**PART III**

** **

**ITEM 10.**                                  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

** **

**Directors and Executive Officers**

** **

Thefollowing table sets forth certain information concerning each person who iscurrently a director or executive officer of DeCrane Aircraft and its parentcompany, DeCrane Holdings.

 
| **Name**                        | ** ** | **Age** | ** ** | **DeCrane Aircraft**                                                               | ** ** | **DeCrane Holdings**                                                 |
|---------------------------------|------------|---------|------------|------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------|
|                            |       |    |       |                                                                               |       |                                                                 |
| R. Jack DeCrane (1)             |       | 58      |       | Director and Chief Executive Officer                                               |       | Vice Chairman of the Board of Directors and  Chief Executive Officer |
|                            |       |    |       |                                                                               |       |                                                                 |
| Richard J. Kaplan (2)           |       | 62      |       | Director, Senior Vice President, Chief  Financial Officer, Secretary and Treasurer |       | Director, Chief Financial Officer and  Assistant Secretary           |
|                            |       |    |       |                                                                               |       |                                                                 |
| James E. Mann                   |       | 52      |       | Vice President, Tax and SEC  Compliance                                            |       | —                                                               |
|                            |       |    |       |                                                                               |       |                                                                 |
| Robert G. Martin                |       | 67      |       | Senior Vice President and  Group President                                         |       | —                                                               |
|                            |       |    |       |                                                                               |       |                                                                 |
| Donald G. Zerbe                 |       | 58      |       | Senior Vice President and  Group President                                         |       | —                                                               |
|                            |       |    |       |                                                                               |       |                                                                 |
| Thompson Dean                   |       | 46      |       | Chairman of the Board of Directors                                                 |       | Chairman of the Board of Directors                                   |
|                            |       |    |       |                                                                               |       |                                                                 |
| Susan C. Schnabel (1)  (2) |       | 43      |       | Director                                                                           |       | Director                                                             |
|                            |       |    |       |                                                                               |       |                                                                 |
| Albert E. Suter (1)  (2)   |       | 69      |       | Director                                                                           |       | Director                                                             |

 

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(1)                      Member ofthe Compensation Committee; Ms. Schnabel serves as the committee’s chairperson.

 

(2)                      Member ofthe Audit Committee; Ms. Schnabel serves as the committee’s chairperson.

 

*R. Jack DeCrane* is the founder of DeCrane Aircraft.  Mr. DeCrane served as President from the timeDeCrane Aircraft was founded in December 1989 until April 1993, whenhe was elected to the newly created office of Chief Executive Officer.  In August 2002, Mr. DeCrane was alsoappointed Chief Executive Officer of DeCrane Holdings.  He has served on the board of directors ofDeCrane Aircraft and DeCrane Holdings since their inceptions.

 

*Richard J. Kaplan* has been the Senior Vice President, Chief FinancialOfficer, Secretary and Treasurer of DeCrane Aircraft and Assistant Treasurerand Assistant Secretary (principal accounting officer) of DeCrane Holdingssince March 1999.  In August 2002,Mr. Kaplan was appointed Chief Financial Officer and Assistant Secretary ofDeCrane Holdings.  From April 1998to March 1999, he served as Executive Vice President and Chief OperatingOfficer of Developers Diversified Realty Corporation.  From 1977 to 1998, he was a partner withPrice Waterhouse LLP, having joined the firm in 1964.  He became a director of DeCrane Aircraft andDeCrane Holdings in 2000.

 

55

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*James E. Mann* has been our Vice President, Tax and SEC Compliancesince January 2000.  During 1999,Mr. Mann was an independent consultant engaged by DeCrane Aircraft to assistwith various tax and SEC compliance matters. From 1992 through 1998, Mr. Mann severed in various capacities withDeCrane Aircraft, most recently as Vice President, Corporate Controller.  Mr. Mann is expected to resign from DeCraneAircraft in April 2005 in connection the relocation of our corporateheadquarters.

 

*Robert G. Martin* has been our Senior Vice President and President ofthe Systems Integration Group since October 1999.  Mr. Martin also served as President of PATSsince we acquired it in January 1999 through December 2002 and asPresident of Aerospace Display Systems from September 1992 until October 1999.

 

*Donald G. Zerbe* has been our Senior Vice President and President ofthe Cabin Management Group since May 2004. Mr. Zerbe also serves as Chairman of Precision Pattern and has done sosince we acquired it in April 1999.

 

*Thompson Dean* has been a director of DeCrane Aircraft and DeCraneHoldings since 1998.  Mr. Dean alsoserved as President of DeCrane Holdings from its inception in 1998 through August 2002.  Mr. Dean has also been the Managing Partnerof DLJ Merchant Banking, Inc. since November 1995.  In November 2000, Credit Suisse First Boston,Inc. acquired Donaldson, Lufkin & Jenrette, Inc.  As a result, DLJ Merchant Banking, Inc.became an indirect affiliate of Credit Suisse First Boston, Inc. and CreditSuisse Group.  Mr. Dean serves as adirector of American Ref-Fuel Company LLC, Merrill Corporation, Mueller Group,Inc., and Visant Holding Corporation.

 

*Susan C. Schnabel* has been a director of DeCrane Aircraft and DeCraneHoldings since 1998.  Ms. Schnabel hasalso been a Managing Director of DLJ Merchant Banking, Inc. since January 1998.  In November 2000, Credit Suisse FirstBoston, Inc. acquired Donaldson, Lufkin & Jenrette, Inc.  As a result, DLJ Merchant Banking, Inc. andDonaldson, Lufkin & Jenrette Securities Corporation became indirectaffiliates of Credit Suisse First Boston, Inc. and Credit Suisse Group.  Ms. Schnabel serves as a director ofEnvironmental Systems Products Holdings, Inc. and Rockwood Holdings, Inc.

 

*Albert E. Suter* has been a director ofDeCrane Aircraft and DeCrane Holdings since May 2002.  Mr. Suter is a Senior Advisor and RetiredVice Chairman and Chief Operating Officer of Emerson Electric Co., amanufacturer of electrical, electromechanical and electronic products andsystems.  Mr. Suter has served Emerson invarious capacities since 1989.  Mr. Suterserves as a director of Furniture Brands International, Inc. and TK Aluminum,Ltd.

 

**Audit Committee Financial Expert**

** **

Ms.Schnabel, Mr. Suter and Mr. Kaplan have been appointed by the board ofdirectors to serve on the audit committees of both DeCrane Aircraft and DeCraneHoldings.  The board of directors hascarefully considered the definition of “audit committee financial expert”adopted by the United States Securities and Exchange Commission and hasdetermined that Mr. Kaplan is an audit committee financial expert.  Mr. Kaplan is not independent under Rule10a-3.

 

**Code of Ethics**

** **

DeCraneAircraft and DeCrane Holdings has adopted a Code of Ethics applicable to itsChief Executive Officer, Chief Financial Officer and all employees performingaccounting functions.  A copy of the Codeof Ethics is available, without charge, upon written request to the ChiefFinancial Officer of DeCrane Aircraft at 8425 Pulsar Place, Suite 340,Columbus, Ohio 43240.  Since adopting thecode, there have been no amendments or waivers of any provision for the benefitof any individual.

 

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**ITEM 11.**                                  EXECUTIVE COMPENSATION

** **

**Summary Compensation Table**

** **

Thefollowing table describes all annual compensation awarded to, earned by or paidto our Chief Executive Officer and the four most highly compensated executiveofficers other than the Chief Executive Officer for the three years ended December 31,2004.  Columns and tables have beenomitted, as permitted by Securities and Exchange Commission rules, becausethere has been no compensation awarded to, earned by or paid to any of thenamed executive officers required to be reported in the omitted column or tableduring any of the years in the three year period ended December 31, 2004.

 
| ** **                         | ** ** | ** ** | ** ** | ** **              | ** ** | **All Other Compensation** | ** ** |
|------------------------------------|------------|------------|------------|-------------------------|------------|----------------------------|------------|
| ** **                         | ** ** | ** ** | ** ** | ** **              | ** ** | ** **                 | ** ** | **Securities** | ** ** | ** ** | ** ** |
| ** **                         | ** ** | ** ** | ** ** | **Annual Compensation** | ** ** | **Underlying**             | ** ** | ** ** | ** ** |
| **Name**                           | ** ** | **Year**   | ** ** | **Salary**              | ** ** | **Bonus**                  | ** ** | **Options (1)** | ** ** | **Other (2)** | ** ** |
| ** **                         | ** ** | ** ** | ** ** | ** **              | ** ** | ** **                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| R. Jack DeCrane (3)                |       | 2004       |       | $                       | 371,406    |                       | $          | 175,000 |   | — |   | $ | 18,548 |   |
| *Chief Executive Officer and*      |       | 2003       |       | 355,144                 |       | —                     |       | — |   | 13,533 |   |
| *Director*                         |       | 2002       |       | 355,144                 |       | 750,000                    |       | — |   | 19,477 |   |
|                               |       |       |       |                    |       |                       |       |   |   |   |   |
| Richard J. Kaplan (4)              |       | 2004       |       | 222,389                 |       | 85,000                     |       | — |   | 7,938 |   |
| *Senior Vice President, Chief*     |       | 2003       |       | 212,200                 |       | —                     |       | — |   | 4,649 |   |
| *Financial Officer and Director*   |       | 2002       |       | 212,200                 |       | 330,000                    |       | — |   | 9,029 |   |
|                               |       |       |       |                    |       |                       |       |   |   |   |   |
| James E. Mann (5)                  |       | 2004       |       | 154,685                 |       | 20,000                     |       | — |   | 3,389 |   |
| *Vice President, Tax and SEC*      |       | 2003       |       | 146,200                 |       | 20,000                     |       | — |   | 671 |   |
| *Compliance*                       |       | 2002       |       | 146,200                 |       | 33,000                     |       | — |   | 4,583 |   |
|                               |       |       |       |                    |       |                       |       |   |   |   |   |
| Robert G. Martin (6)               |       | 2004       |       | 231,933                 |       | 85,000                     |       | — |   | 12,823 |   |
| *Senior Vice President and Group*  |       | 2003       |       | 222,789                 |       | —                     |       | — |   | 9,434 |   |
| *President*                        |       | 2002       |       | 222,789                 |       | 300,000                    |       | — |   | 6,500 |   |
|                               |       |       |       |                    |       |                       |       |   |   |   |   |
| Jeffrey A. Nerland (7)             |       | 2004       |       | 219,989                 |       | —                     |       | — |   | 4,163 |   |
| *Former Senior Vice President and* |       | 2003       |       | 210,000                 |       | —                     |       | — |   | 1,044 |   |
| *Group President*                  |       | 2002       |       | 210,000                 |       | 250,000                    |       | — |   | 6,507 |   |
|                               |       |       |       |                    |       |                       |       |   |   |   |   |
| Donald G. Zerbe (8)                |       | 2004       |       | 203,846                 |       | 85,000                     |       | — |   | 3,670 |   |
| *Senior Vice President and Group*  |       | 2003       |       | 191,538                 |       | —                     |       | — |   | 612 |   |
| *President*                        |       | 2002       |       | 200,000                 |       | 74,000                     |       | — |   | 3,487 |   |
|                                    |            |            |            |                         |            |                            |            |  |  |  |  |  |  |  |

 

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(1)                      Number ofshares of common stock of DeCrane Holdings issuable upon exercise of optionsgranted pursuant to our management incentive plan during the applicable fiscalyear.

 

(2)                      Comprised oflife insurance premiums and matching contributions to the Company’s 401(k)Retirement Plan.

 

(3)                      Mr. DeCranealso serves as Vice Chairman of the Board of Directors of DeCrane Holdings andwas appointed its Chief Executive Officer in August 2002.

 

(4)                      Mr. Kaplanalso served as Assistant Treasurer and Assistant Secretary (principalaccounting officer) of DeCrane Holdings from March 1999 until August 2002when he was appointed its Chief Financial Officer and Assistant Secretary.

 

(5)                      Mr. Mann hasserved as our Vice President, Tax and SEC Compliance, since January 1,2000.

 

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(6)                      Mr. Martinserved as President of PATS since we acquired it in January 1999 through December 2002.  In December 2001, Mr. Martin was alsoappointed President of our Systems Integration Group.

 

(7)                      Mr. Nerlandserved as a Senior Vice President and President of our Cabin Management Groupuntil May 2004.  Salary and othercompensation includes $133,900 of severance compensation paid during 2004.  No further severance payment obligationremains as of December 31, 2004.

 

(8)                      Mr. Zerbehas served as Chairman of Precision Pattern since we acquired it in April 1999.  In May 2004, Mr. Zerbe was alsoappointed Senior Vice President and President of our Cabin Management Group.

 

**Stock Option Grants in Last Fiscal Year**

** **

Duringthe fiscal year ended December 31, 2004, no options to purchase shares ofDeCrane Holdings common stock were granted pursuant to the management incentiveplan.  See “—Employment Agreements andCompensation Arrangements–Incentive Plans.”

 

**Aggregated Option Exercises in Last Fiscal Year andFiscal Year-End Option Values**

** **

Nostock options were exercised by our executive officers during the year ended December 31,2004.  The following table sets forthinformation about the stock options held by the executive officers named belowas of December 31, 2004.

 
| **Name**                                            |   | **Number of  Securities Underlying  Unexercised Options  Exercisable / Unexercisable** |   | **Value of Unexercised  In-the-Money Options  at Fiscal Year End (1)  Exercisable / Unexercisable** |                  |
|-----------------------------------------------------|--------|----------------------------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------------|-----------------------|
|                                                |   |                                                                                   |   |                                                                                                |                  |
| R. Jack  DeCrane  Exercisable at $23.00 per share   |   | 36,253 /  73,605                                                                       |   | $                                                                                                   |  — / — |   |
| Richard J.  Kaplan  Exercisable at $23.00 per share |   | 9,840 /  19,976                                                                        |   | — / —                                                                                     |                  |
| Exercisable at $35.00 per share                     |   | 972 / 1,974                                                                            |   | — / —                                                                                     |                  |
| James E.  Mann  Exercisable at $23.00 per share     |   | 644 / 1,306                                                                            |   | — / —                                                                                     |                  |
| Exercisable at $35.00 per share                     |   | 330 / 670                                                                              |   | — / —                                                                                     |                  |
| Robert G.  Martin  Exercisable at $23.00 per share  |   | 5,954 /  12,088                                                                        |   | — / —                                                                                     |                  |
| Exercisable at $35.00 per share                     |   | 990 / 2,010                                                                            |   | — / —                                                                                     |                  |
| Donald G.  Zerbe  Exercisable at $23.00 per share   |   | 9,414 /  9,413                                                                         |   | — / —                                                                                     |                  |
|                                                     |        |                                                                                        |        |                                                                                                     |                       |  |

 

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(1)                      Allunexercised options had an exercise price above fair market value as of December 31,2004.  Since the common stock of DeCraneHoldings is privately-held, there is no established public trading market forits shares.  The Board of Directorsdetermines the fair value of stock options granted and the fair value of thecommon stock as of any given period-end date based on the aggregate enterprisevalue of DeCrane Holdings.  Enterprisevalue is computed based upon a multiple of Adjusted EBITDA, as reflected in ourfinancial statements, and the multiple is based upon comparable data from otherpublicly-held companies as well as publicly available information onprivately-held companies.  The Board ofDirectors did not determine the specific fair value of the common stock as of December 31, 2004,but did conclude that fair value was below $23.00 per share, the lowestexercise price of any options granted.

 

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**Compensation Committee Interlocks and InsiderParticipation**

** **

TheCompensation Committee of our Board of Directors makes decisions regardingofficer compensation.  Jack DeCrane,chief executive officer of DeCrane Aircraft and DeCrane Holdings, participatesin those discussions as a member of the Committee.

 

**Employment Agreements and Compensation Arrangements**

** **

**R. Jack DeCrane**

** **

On July 17,1998, the Compensation Committee of our Board of Directors approved athree-year employment agreement between DeCrane Aircraft and R. JackDeCrane.  Mr. DeCrane’s employmentagreement was amended on May 5, 2000 to provide for a term through June 30,2001, which term shall automatically extend for additional one year periodsunless terminated by either party giving the other party notice of terminationprior to April 1st of the year prior to the year in which the agreementwould otherwise terminate.  As a result,the contract has been extended to June 30, 2006.  Mr. DeCrane’s employment agreement providesfor various benefits, including an initial salary of $310,000, which is subjectto annual review and increase, but not a decrease, and an annual bonus,currently determined pursuant to the performance-based cash incentive bonusplan.

 

Theemployment agreement also provides that if specified change-of-control eventsoccur, and Mr. DeCrane’s employment is terminated by us for any reason otherthan for cause or as a result of his death or disability, or by Mr. DeCrane for“good reason,” as defined in the agreement, then we will pay Mr. DeCrane a lumpsum in cash within fifteen days.  Theamount of that payment will be $1.00 less than three times the sum of Mr.DeCrane’s average base salary plus bonus for the five calendar years precedinghis termination date and accrued but unpaid salary and bonus through thetermination date.  Mr. DeCrane will alsoreceive other specified benefits, including continued coverage under ourwelfare plans for up to two years; a lump sum payment in cash equal to anyunvested portions of our contributions to him under specified savings plans,plus two times the amount of our annual contributions on his behalf to thoseplans; a lump sum payment in cash equal to our matching contributions underthose savings plans that Mr. DeCrane would have received had he continuedmaximum participation in the plans until the earlier of two years following histermination and December 31 of the year he turns 65, plus the vested andunvested amounts credited to him under any of our deferred compensation plansand the amount required to be credited during the year of his termination; andoutplacement consulting services to aid Mr. DeCrane with re-employment.  We will reduce these payments to the extentnecessary to ensure deductibility for tax purposes.

 

**Change of Control Agreements**

** **

In December 2004,we entered into change of control agreements with Mr. Kaplan and Mr. Martin.  The agreements, which replaced earlieragreements which expired, provide that, for a term of two years from theeffective date, should a change of control, as defined, occur during the termof the agreement and the executive officer’s employment shall be involuntarilyterminated for any reason on a date which is less than two years after the dateof the change of control, other than for cause, death or disability orterminated by the officer for good reason, DeCrane Aircraft is required to paysuch executive a lump sum equal to his then salary plus average annual bonusover the last five years, equal to twenty four months compensation less thenumber of months elapsed from the date of the change of control to theemployment termination date.

 

**Severance Agreement**

** **

During2004 DeCrane Aircraft decided to relocate its corporate office to Columbus,Ohio.  Mr. Mann has elected to notrelocate and therefore his employment with DeCrane Aircraft will end on

 

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April 15, 2005. On December 8, 2004, Mr. Mann entered into a severance agreementwith DeCrane Aircraft.  Under the termsof the severance agreement, if Mr. Mann elects to remain employed by DeCraneAircraft through April 15, 2005, he will be entitled to receive severancecompensation ranging between $78,000 and $163,000, provided certain otherconditions are met.

 

**401(k) Retirement Plan**

** **

Substantiallyall of our full-time employees are eligible to participate in one of the 401(k)retirement plans we sponsor.  The 401(k)plans allow employees as participants to defer, on a pre-tax basis, a portionof their salary and accumulate tax deferred earnings, as a retirementfund.  The plans generally provide for adiscretionary Company match of a percentage of the employee contribution up toa specified percentage of the employee’s salary.  The full amount vested in a participant’saccount will be distributed to a participant following termination ofemployment, normal retirement or in the event of disability or death.

 

**Incentive Plans**

** **

Ourmanagement incentive plan provides for the issuance of options to purchase thecommon stock of DeCrane Holdings as incentive compensation to designatedexecutive personnel and other key employees of DeCrane Aircraft and itssubsidiaries.  The Compensation Committeeof the Board of Directors of DeCrane Holdings administers the managementincentive plan.  The plan provides forthe granting of options to purchase 356,257 common shares and expires in2009.  Substantially all of the optionsawarded become fully vested and exercisable eight years from the date of grantbut vesting and exercise can be accelerated based upon future attainment ofdefined performance criteria.  As of December 31,2004, 37% of the options granted pursuant to the plan are vested andexercisable.  We believe the per shareexercise price of the options granted approximated the fair market value of theunderlying common stock on each of the grant dates.

 

Fromtime-to-time, we have permitted designated executive personnel and other keyemployees to purchase shares of common stock of DeCrane Holdings.  Prior to the July 30, 2002 enactment ofthe Sarbanes-Oxley Act of 2002, a portion of the purchase price was in certaininstances, loaned to the participants by DeCrane Aircraft.  This arrangement was made available topersons and in amounts determined by the Compensation Committee of the Board ofDirectors.  In December 1999,management purchased 171,295 shares of DeCrane Holdings common stock for $23.00per share.  The total purchase price was$3.9 million, of which one-half was paid in cash and one-half was loaned tomanagement by DeCrane Aircraft with interest at applicable federal rates.  During 2000, an additional 19,707 shares ofDeCrane Holdings common stock was purchased by employees at $23.00 per share,which was paid in cash.  Subsequent tothe July 30, 2002 enactment of the Sarbanes-Oxley Act, we havediscontinued making new loans to participants as mandated by the Act.  Loans originated prior to and outstanding asof the effective date of the Act will be repaid in accordance with their terms,as permitted by the Act.

 

Upontermination of employment of any purchaser by us without cause, DeCraneHoldings has the right to purchase, and the purchaser has the right to causeDeCrane Holdings to purchase, such purchased stock at its then fair marketvalue or, if we terminate the purchaser with cause or the purchaser terminatesemployment, the purchase price is the lower of $23.00 per share or its thenfair market value.

 

Duringthe years ended December 31, 2003 and 2004, several DeCrane Aircraftmanagement employees surrendered 152,882 shares.  In accordance with the terms of notesevidencing the loans, DeCrane Aircraft canceled the notes.

 

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Ourcash incentive bonus plan provides for the allocation of a bonus pool each yearfor incentive compensation to designated executive personnel and certain otheremployees of DeCrane Aircraft and its subsidiaries.  The bonus pool, which is approved by thecompensation committee, is adjusted each year based on the achievement ofcertain financial measures, including Adjusted EBITDA, as defined, generated bythe company and/or the relevant participant’s operating unit.  Bonus are not paid until subsequent to theend of the year or period to which they pertain.

 

**Directors**

** **

**Selection of Directors and Term of Office**

** **

DLJMerchant Banking Partners II, L.P. is entitled to select all members of theBoard of Directors of DeCrane Holdings and DeCrane Aircraft as described in “CertainRelationships and Related Transactions—Investors’ Agreement.”  At least one of such directors selected byDLJ Merchant Banking on each board must be an independent director as definedin the agreement.  Mr. Suter is an independentdirector.  All directors hold officeuntil their successor is designated and qualified.

 

**Directors’ Compensation**

** **

Thedirectors of DeCrane Holdings and DeCrane Aircraft generally do not receiveannual fees or fees for attending meetings of the Board of Directors orcommittees thereof.  However, Albert E.Suter, an independent director not affiliated with any investor in DeCraneHoldings, receives a director’s fee of $50,000 per year, plus reimbursement forout-of-pocket expenses.  In addition, theBoard of Directors of DeCrane Holdings authorized the issuance of options topurchase 7,500 shares of DeCrane Holdings common stock to Mr. Suter under thesame terms as the management incentive plan. See “Certain Relationships and Related Transactions—Transactions withManagement and Others–Recent Transactions” for additional information.  We expect to continue these policies.

 
| **ITEM 12.** | **SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND  MANAGEMENT AND RELATED STOCKHOLDER MATTERS** |
|--------------|-----------------------------------------------------------------------------------------------------|

** **

**Security Ownership of Certain Beneficial Owners andManagement**

** **

**DeCrane Aircraft**

** **

As of March 15,2005, DeCrane Aircraft has the following securities issued and outstanding:

 

•                  100 shares of common stock, which are owned by one stockholder; and

 

•                  250,000 shares of non-voting Senior Redeemable Exchangeable PreferredStock Due 2008, which are owned by seven stockholders.

 

Thefollowing table sets forth the beneficial ownership of DeCrane Aircraft’svoting and non-voting securities as of March 15, 2005 by its principalowners and its executive officers and directors.

 
| ** **                                  | ** ** | **Common Stock (2)**               | ** ** | **Senior Redeemable Exchangeable** | ** ** |
|---------------------------------------------|------------|------------------------------------|------------|------------------------------------|------------|
| ** **                                  | ** ** | **Number**                         | ** ** | ** **                         | ** ** | **Preferred Stock Due 2008** | ** ** |
| **Name of Beneficial Owner (1)**            | ** ** | **of Shares,  Partially  Diluted** | ** ** | **Percentage**                     | ** ** | **Number  of  Shares** | ** ** | **Percentage** | ** ** |
|                                        |       |                               |       |                               |       |   |   |   |   |
| DeCrane  Holdings Co.                       |       | 100                                |       | 100.0                              | %          | — |   | — |   |
| c/o DLJ  Merchant Banking Partners II, L.P. |       |                               |       |                               |       |   |   |   |   |
| Eleven  Madison Avenue, New York, NY 10010  |       |                               |       |                               |       |   |   |   |   |

 

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| ** **                                                             | ** ** | **Common Stock (2)**               | ** ** | **Senior Redeemable Exchangeable** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------|------------|------------------------------------|------------|
| ** **                                                             | ** ** | **Number**                         | ** ** | ** **                         | ** ** | **Preferred Stock Due 2008** | ** ** |
| **Name of Beneficial Owner (1)**                                       | ** ** | **of Shares,  Partially  Diluted** | ** ** | **Percentage**                     | ** ** | **Number  of  Shares** | ** ** | **Percentage** | ** ** |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| DLJ Merchant  Banking Partners II, L.P. affiliates (3)                 |       | —                             |       | —                             |       | 200,000 |   | 80.0 | % |
| Eleven  Madison Avenue, New York, NY 10010                             |       |                               |       |                               |       |   |   |   |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Thompson  Dean (4)                                                     |       | —                             |       | —                             |       | — |   | — |   |
| c/o Credit  Suisse First Boston                                        |       |                               |       |                               |       |   |   |   |   |
| Eleven  Madison Avenue, New York, NY 10010                             |       |                               |       |                               |       |   |   |   |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Susan C.  Schnabel (4)                                                 |       | —                             |       | —                             |       | — |   | — |   |
| c/o Credit  Suisse First Boston                                        |       |                               |       |                               |       |   |   |   |   |
| Eleven  Madison Avenue, New York, NY 10010                             |       |                               |       |                               |       |   |   |   |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Putnam  Investment Management, Inc. and affiliates (5)                 |       | —                             |       | —                             |       | 29,000 |   | 11.6 | % |
| One Post  Office Square, Boston, MA 02109                              |       |                               |       |                               |       |   |   |   |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Neon Capital  Limited                                                  |       | —                             |       | —                             |       | 21,000 |   | 8.4 | % |
| c/o Deutsche  Bank (Cayman) Limited                                    |       |                               |       |                               |       |   |   |   |   |
| P.O. Box  1984, George Town                                            |       |                               |       |                               |       |   |   |   |   |
| Cayman  Islands, British West Indies                                   |       |                               |       |                               |       |   |   |   |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Albert E.  Suter                                                       |       | —                             |       | —                             |       | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| R. Jack  DeCrane                                                       |       | —                             |       | —                             |       | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Richard J.  Kaplan                                                     |       | —                             |       | —                             |       | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| James E.  Mann                                                         |       | —                             |       | —                             |       | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Robert G.  Martin                                                      |       | —                             |       | —                             |       | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Donald G.  Zerbe                                                       |       | —                             |       | —                             |       | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| All  directors and named executive officers as a group (eight persons) |       | —                             |       | —                             |       | — |   | — |   |

 

----

(1)                      Each personwho has the power to vote and direct the disposition of shares is deemed to bea beneficial owner of those shares.

 

(2)                      The commonstock columns reflect the number of shares owned and the total percentageownership in the manner required by Securities and Exchange Commissionrules.  The entries for each holderassumes, if applicable, that the particular holder, and no one else, fullyexercises all rights under warrants to purchase common stock and common stockwhich may be acquired upon the exercise of stock options and which areexercisable, or will be exercisable, prior to 60 days from March 15, 2005.

 

(3)                      Reflectspreferred stock held by the following investors affiliated with DLJ MerchantBanking Partners II, L.P.:

 

•                  DLJ Investment Partners, L.P.

•                  DLJ Investment Partners II, L.P.

•                  DLJIP II Holdings, L.P.

 

The address of each of the investors isEleven Madison Avenue, New York, New York 10010.

 

62

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(4)                      Mr. Dean andMs. Schnabel are officers of DLJ Merchant Banking, Inc., an affiliate of DLJMerchant Banking Partners II, L.P. and directors of DeCrane Holdings Co.  The DLJ entities are affiliates of, andcommonly collectively referred to as, Credit Suisse First Boston.  See “Item 13. Certain Relationships andRelated Transactions—Transactions with Management and Others” for additionalinformation.  The share data shown forthese individuals excludes shares shown as held by the DLJ affiliates andDeCrane Holdings Co. separately listed in this table; Mr. Dean and Ms. Schnabeldisclaim beneficial ownership of those shares.

 

(5)                      Reflectspreferred stock held by the following investors related to Putnam InvestmentManagement, Inc.:

 
| •                  Putnam Fund Trust - Putnam High Yield Trust II         |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| •                  Putnam High Yield Trust                                |
| •                  Putnam Variable Trust – Putnam VT High Yield Fund |

 

The address of each of the investors is OnePost Office Square, Boston, MA 02109.

 

**DeCrane Holdings**

** **

As of March 15,2005, DeCrane Holdings has the following securities issued and outstanding:

 

•                  4,312,690 shares of common stock, which is owned by 39 stockholders;and

 

•                  342,417 shares of non-voting Senior Redeemable Exchangeable PreferredStock Due 2009, which is owned by 18 stockholders.

 

Thefollowing table sets forth the beneficial ownership of DeCrane Holdings’ votingand non-voting securities as of March 15, 2005 by its principal owners andits executive officers and directors.

 
| ** **                                                 | ** ** | **Common Stock (2)**               | ** ** | **Senior Redeemable Exchangeable** | ** ** |
|------------------------------------------------------------|------------|------------------------------------|------------|------------------------------------|------------|
| ** **                                                 | ** ** | **Number**                         | ** ** | ** **                         | ** ** | **Preferred Stock Due 2009** | ** ** |
| **Name of Beneficial Owner (1)**                           | ** ** | **of Shares,  Partially  Diluted** | ** ** | **Percentage**                     | ** ** | **Number  of  Shares** | ** ** | **Percentage** | ** ** |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| DLJ Merchant  Banking Partners II, L.P. and affiliates (3) |       | 4,458,686                          |       | 97.4                               | %          | 340,000 |   | 99.3 | % |
| Eleven  Madison Avenue, New York, NY 10010                 |       |                               |       |                               |       |   |   |   |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| Thompson  Dean (4)                                         |       | —                             |       | —                             |       | — |   | — |   |
| c/o Credit  Suisse First Boston                            |       |                               |       |                               |       |   |   |   |   |
| Eleven  Madison Avenue, New York, NY 10010                 |       |                               |       |                               |       |   |   |   |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| Susan C.  Schnabel (4)                                     |       | —                             |       | —                             |       | — |   | — |   |
| c/o Credit  Suisse First Boston                            |       |                               |       |                               |       |   |   |   |   |
| Eleven  Madison Avenue, New York, NY 10010                 |       |                               |       |                               |       |   |   |   |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| Putnam  Investment Management, Inc. and affiliates (5)     |       | 68,349                             |       | 1.6                                | %          | — |   | — |   |
| One Post  Office Square, Boston, MA 02109                  |       |                               |       |                               |       |   |   |   |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| Neon Capital  Limited                                      |       | 29,311                             |       |                               | *          | — |   | — |   |
| c/o Deutsche  Bank (Cayman) Limited                        |       |                               |       |                               |       |   |   |   |   |
| P.O. Box  1984, George Town                                |       |                               |       |                               |       |   |   |   |   |
| Cayman  Islands, British West Indies                       |       |                               |       |                               |       |   |   |   |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| Albert E.  Suter (6)                                       |       | 11,204                             |       |                               | *          | — |   | — |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| R. Jack  DeCrane (7)                                       |       | 36,253                             |       |                               | *          | — |   | — |   |
|                                                       |       |                               |       |                               |       |   |   |   |   |
| Richard J.  Kaplan (8)                                     |       | 11,959                             |       |                               | *          | — |   | — |   |

 

63

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| ** **                                                             | ** ** | **Common Stock (2)**               | ** ** | **Senior Redeemable Exchangeable** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------|------------|------------------------------------|------------|
| ** **                                                             | ** ** | **Number**                         | ** ** | ** **                         | ** ** | **Preferred Stock Due 2009** | ** ** |
| **Name of Beneficial Owner (1)**                                       | ** ** | **of Shares,  Partially  Diluted** | ** ** | **Percentage**                     | ** ** | **Number  of  Shares** | ** ** | **Percentage** | ** ** |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| James E. Mann  (9)                                                     |       | 974                                |       |                               | *          | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Robert G.  Martin (10)                                                 |       | 7,173                              |       |                               | *          | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| Donald G.  Zerbe (11)                                                  |       | 10,217                             |       |                               | *          | — |   | — |   |
|                                                                   |       |                               |       |                               |       |   |   |   |   |
| All  directors and named executive officers as a group (eight persons) |       | 77,780                             |       | 1.8                                | %          | — |   | — |   |

 

----

*                             Lessthan 1.0%

 

(1)                      Each personwho has the power to vote and direct the disposition of shares is deemed to bea beneficial owner of those shares.

 

(2)                      The commonstock columns reflect the number of shares owned and the total percentageownership in the manner required by Securities and Exchange Commissionrules.  The entries for each holderassumes, if applicable, that the particular holder, and no one else, fullyexercises all rights under warrants to purchase common stock and common stockwhich may be acquired upon the exercise of stock options and which areexercisable, or will be exercisable, prior to 60 days from March 15, 2005.

 

(3)                      Reflects4,192,200 shares of common stock, warrants to purchase an additional 266,486shares of common stock and preferred stock held directly by DLJ MerchantBanking Partners II, L.P. and the following affiliated investors:

 

•                  DLJ Diversified Partners, L.P.

•                  DLJ Diversified Partners-A, L.P.

•                  DLJ EAB Partners, L.P.

•                  DLJ ESC II, L.P.

•                  DLJ First ESC L.P.

•                  DLJ Investment Partners, L.P.

•                  DLJ Investment Partners II, L.P.

•                  DLJ Merchant Banking Partners II, L.P.

•                  DLJ Merchant Banking Partners II-A, L.P.

•                  DLJ Millennium Partners, L.P.

•                  DLJ Millennium Partners-A, L.P.

•                  DLJ Offshore Partners II, C.V.

•                  DLJIP II Holdings, L.P.

•                  DLJMB Funding II, Inc.

•                  MBP II Plan Investors

•                  UK Investment Plan 1997 Partners, Inc.

 

The address of each of the investors isEleven Madison Avenue, New York, New York 10010.

 

(4)                      Mr. Dean andMs. Schnabel are officers of DLJ Merchant Banking, Inc., an affiliate of DLJMerchant Banking Partners II, L.P. and directors of DeCrane Aircraft.  The DLJ entities are affiliates of, andcommonly collectively referred to as, Credit Suisse First Boston.  See “Item 13. Certain Relationships andRelated Transactions—Transactions with Management and Others” for additionalinformation.  The share data shown forthese individuals excludes shares shown as held by the DLJ affiliatesseparately listed in this table; Mr. Dean and Ms. Schnabel disclaim beneficialownership of those shares.

 

(5)                      Reflects40,478 shares of common stock, warrants to purchase an additional 27,871 sharesof common stock held directly by the following investors related to PutnamInvestment Management, Inc.:

 
| •                  Putnam High Yield Trust                                |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| •                  Putnam Variable Trust – Putnam VT High Yield Fund |

 

The address of each of the investors is OnePost Office Square, Boston, MA 02109.

 

64

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(6)                      Includes7,500 shares that may be acquired upon the exercise of stock options that areexercisable or will become exercisable prior to 60 days from March 15,2005.

 

(7)                      Includes36,253 shares that may be acquired upon the exercise of stock options that areexercisable or will become exercisable prior to 60 days from March 15,2005.

 

(8)                      Includes10,812 shares that may be acquired upon the exercise of stock options that areexercisable or will become exercisable prior to 60 days from March 15,2005.

 

(9)                      Includes 974shares that may be acquired upon the exercise of stock options that are exercisableor will become exercisable prior to 60 days from March 15, 2005.

 

(10)                Includes 6,944shares that may be acquired upon the exercise of stock options that areexercisable or will become exercisable prior to 60 days from March 15,2005.

 

(11)                Includes 9,414shares that may be acquired upon the exercise of stock options that areexercisable or will become exercisable prior to 60 days from March 15,2005.

 

**Securities Authorized for Issuance Under EquityCompensation Plans**

** **

Wehave a Management Incentive Stock Option Plan under which shares of DeCraneHoldings common stock are authorized for issuance to employees and directors inexchange for their services.  In 1999, wealso granted DeCrane Holdings incentive common stock options to non-employeesin exchange for consulting and advisory services.  Our Management Incentive Stock Option Planand the stock options awarded to non-employees are approved by our securityholders.  The following table providesaggregate information regarding the shares of DeCrane Holdings common stockthat may be issued upon the exercise of the options as of December 31,2004.

 
| **Plan Category**                                           | ** ** | **Number of  Securities to be Issued  Upon Exercise of  Outstanding Options,  Warrants and Rights** | ** ** | **Weighted-Average  Exercise Price of  Outstanding Options,  Warrants and Rights** | ** ** | **Number of  Securities Remaining  Available for Future  Issuance Under Equity  Compensation Plans  (Excluding Securities  Reflected in Column (1))** | ** ** |
|-------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
|                                                        |       |                                                                                                |       |                                                                               |       |                                                                                                                                                  |       |
| Equity  compensation plans approved by security holders:    |       |                                                                                                |       |                                                                               |       |                                                                                                                                                  |       |
| Management  Incentive Stock Option Plan                     |       | 223,483                                                                                             |       | $                                                                                  | 23.97      |                                                                                                                                                  | 123,522    |   |
| Incentive  stock options granted to non-employees           |       | 44,612                                                                                              |       | 23.00                                                                              |       | —                                                                                                                                                |       |
| Equity  compensation plans not approved by security holders |       | —                                                                                              |       | —                                                                             |       | —                                                                                                                                                |       |
| Total                                                       |       | 268,095                                                                                             |       | 23.81                                                                              |       | 123,522                                                                                                                                               |       |
|                                                             |            |                                                                                                     |            |                                                                                    |            |                                                                                                                                                       |            |  |

 

The provisionsof our Management Incentive Stock Option Plan and the terms of the optionsgranted to non-employees are described in Note 16 accompanying our financialstatements included in this report.

 

65

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**ITEM 13.**                                  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

** **

**Transactions with Management and Others**

** **

**Arrangements with Other CSFB / DLJ Affiliates**

** **

CreditSuisse First Boston, as successor to DLJ Capital Funding, Inc., receivescustomary fees and reimbursement of expenses in connection with thearrangement, syndication and administration of our first-lien credit facility,second-lien debt and as lenders thereunder. In addition, DeCrane Aircraft is obligated to pay CSFB LLC an annualadvisory fee, currently in the amount of $350,000 per year.  We may from time to time enter into otherinvestment banking relationships with CSFB LLC or one of its affiliatespursuant to which they will receive customary fees and will be entitled toreimbursement for all reasonable disbursements and out-of-pocket expensesincurred in connection therewith.  Weexpect that any such arrangement will include provisions for theindemnification of CSFB LLC against liabilities, including liabilities under thefederal securities laws.

 

**Investors’ Agreement**

** **

Investorsowing 96.8% of DeCrane Holdings’ issued and outstanding common stock and commonstock warrants and options, all of DeCrane Holdings’ preferred stock and all ofDeCrane Aircraft’s preferred and common stock, have entered into an Amended andRestated Investors’ Agreement, initially dated October 6, 2000 and amendedthrough Amendment No. 2 dated July 23, 2004, among DeCrane Holdings Co.,DLJ Merchant Banking Partners II, L.P. and affiliated funds and entities,Putnam Investment Management, Inc. and affiliated funds and entities, NeonCapital Limited and all management investors. Investors who own DeCrane Holdings’ warrants to purchase 159,794 sharesof common stock are not parties to the Investors’ Agreement.  The agreement provides that:

 

•                  The parties to the agreement shall vote their shares to cause DLJMerchant Banking Partners, II, L.P. to select all members of the Board ofDirectors of DeCrane Holdings and DeCrane Aircraft and at least one of suchdirectors on each board shall be an independent director.

 

•                  Transfers of the shares by the parties to the agreement are restricted.

 

•                  Parties to the agreement may participate in some specific kinds ofsales of shares by DLJ affiliates.

 

•                  DLJ affiliates may require the other parties to the agreement to sellshares of DeCrane Holdings’ common stock in some cases should the DLJaffiliates choose to sell any such shares owned by them.

 

•                  The DLJ affiliates may request six demand registrations with respect toall or any of the DeCrane Holdings common stock, preferred stock and Class Awarrants to purchase 155,000 common shares held by those affiliates, which areimmediately exercisable subject to customary deferral and cutback provisions.

 

•                  The holders of Class B warrants to purchase 139,357 shares of DeCraneHoldings common stock may request two demand registrations together with all orany common stock held by them, which are immediately exercisable subject tocustomary deferral and cutback provisions.

 

•                  The parties to the agreement are entitled to unlimited piggybackregistration rights, subject to customary cutback provisions, and excludingregistrations of shares issuable in connection with any employee stock options,employee benefit plan or an acquisition.

 

•                  DeCrane Holdings will indemnify the stockholders against someliabilities and expenses, including liabilities under the Securities Act.

 

66

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•                  Any person acquiring shares of common stock or preferred stock who isrequired by the terms of the Investors’ Agreement or any employment agreementor stock purchase, option, stock option or other compensation plan to become aparty thereto shall execute an agreement to become bound by the Investors’Agreement.

 

EachDeCrane Holdings’ Class A Warrant entitles the holder to purchase one share ofcommon stock at an exercise price of not less than $0.01 per share subject tocustomary antidilution provisions and other customary terms.  The warrants are exercisable at any timeprior to 5:00 p.m. New York City time on August 28, 2009, subject toapplicable federal and state securities laws.

 

EachDeCrane Holdings’ Class B Warrant entitles the holder to purchase one share ofcommon stock at an exercise price of not less than $0.01 per share subject tocustomary antidilution provisions and other customary terms.  The warrants are exercisable at any timeprior to 5:00 p.m. New York City time on June 30, 2010, subject toapplicable federal and state securities laws.

 

**Transactions During 2004 and 2005**

** **

Securitiesand Exchange Commission rules require we briefly describe transactions, orseries of similar transactions, with specified persons (as defined in therules) and involving amounts exceeding $60,000, which have occurred since January 1,2004, the beginning of our most recent fiscal year.  These transactions are briefly describedbelow and are also described in the notes accompanying our financial statementsincluded in this report.

 

#### ***Year Ended December 31, 2004***

#### ** **

On September 14,2004, DeCrane Aircraft received the proceeds from the issuance of 13.5% seniorunsecured promissory notes in the aggregate principal amount of $5.0 million toDLJ Merchant Banking Partners II, L.P. and affiliated funds and entities.  The noteholders earned and were paid $142,000of interest on December 14, 2004.

 

Inaddition, Credit Suisse First Boston or affiliated entities earned fees inconnection the following transactions that occurred during the year ended December 31,2004:

 

•                  DeCrane Aircraft restructured $65 million of its 12% seniorsubordinated notes and both DeCrane Aircraft and DeCrane Holdings amended theterms of their mandatorily redeemable preferred stock.  CSFB LLC served as DeCrane Aircraft’sfinancial advisors for the restructuring and received customary fees and reimbursementof expenses in connection with the transaction.

 

•                  Credit Suisse First Boston was paid an annual fee for serving asadministrative agent for the first-lien credit facility and second-lien termdebt.

 

•                  CSFB LLC earned, but was not paid, an annual advisory fee.  The amount earned is payable to CSFB LLC asof the date of filing this report.

 

CSFBand affiliated funds and entities earned an aggregate of $2.1 million inconnection with the above transactions, $1.7 million of which has been paid todate.

 

DonaldG Zerbe, a DeCrane AircraftSenior Vice President and Group President, and his spouse are 50.25%owners of Maize Avenue, Inc., the remaining interest is owned by another memberof Mr. Zerbe’simmediate family.  Two of DeCraneAircraft’s subsidiarieslease real property from Maize Avenue. For the year ended December 31, 2004, these subsidiaries paid a total of$865,196 in lease payments to Maize Avenue.

 

67

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#### ***January 1, 2005 to thePresent***

#### ** **

Thefollowing transactions occurred during the period from January 1, 2005 tothe date of this report:

 

•      DeCraneAircraft entered into a loan agreement with DLJ Merchant Banking Partners II,L.P. and affiliated funds and entities which provides for up to $5.0 million ofadditional borrowings at rates and with terms identical to the existing 13.5%senior unsecured promissory notes, as amended, issued during 2004.  The Company has borrowed $2.5 millionpursuant to this agreement.

 

•                  DeCrane Aircraft sold 26,425 additional shares of its Senior RedeemableExchangeable Preferred Stock due 2008 to a DLJ Merchant Banking Partners II,L.P. and affiliated funds and entities for $189.21 per share.

 

•                  CSFB LLC earned, but was not paid, $87,500 of its annual advisoryfee.  The amount earned is payable toCSFB LLC as of the date of filing this report.

 

**Indebtedness of Executive Officers and Directors**

** **

Securitiesand Exchange Commission rules require we disclose indebtedness owed to us byour executive officers and directors that individually exceeded $60,000 at anytime during the year ended December 31, 2004.

 

Allindebtedness set forth below results from purchases of DeCrane Holdings commonstock in transactions consummated prior to the July 30, 2002 enactment ofthe Sarbanes-Oxley Act of 2002 and was payable to DeCrane Aircraft.  Beginning July 30, 2002, we no longerprovide loans to directors or executive officers as mandated by the Act.  The indebtedness, plus accrued interest, iscollateralized by shares of DeCrane Holdings stock.  On December 23, 2004, the executiveofficer listed in the table surrendered the shares of stock collateralizing theloan.  In accordance with the terms ofnotes evidencing the loan, DeCrane Aircraft canceled the note.  See “Item 10. Directors and ExecutiveOfficers of the Registrant” for information regarding each individual’srelationship with DeCrane Aircraft and DeCrane Holdings.

 

Thetable sets forth the maximum amount of indebtedness during the year ended December 31,2004.  None of the indebtedness remainsas of December 31, 2004.

 
| **Name**           | ** **   | **Number** | ** **                                        | ** ** | ** **       | **Maximum Indebtedness to DeCrane  Aircraft** | ** ** |
|--------------------|--------------|------------|---------------------------------------------------|------------|------------------|-----------------------------------------------|------------|
| **of Shares**      | ** **   | ** ** | **During the Year Ended December 31,  2004** |
| **Held as**        | **Interest** | ** ** | ** **                                        | ** ** | **Accrued**      | ** **                                    | ** ** |
| **Collateral (1)** | **Rate (2)** | ** ** | **Principal (3)**                                 | ** ** | **Interest (4)** | ** **                                    | **Total**  |
|               |         |       |                                              |       |             |                                          |       |   |   |   |   |
| Donald G.  Zerbe   |         | 15,217     |                                              | 5.74       | %                | $                                             | 174,996    |   | $ | 56,730 |   | $ | 231,726 |   |
|                    |              |            |                                                   |            |                  |                                               |            |  |  |  |  |  |  |  |

 

----

(1)                      Reflects thenumber of shares of DeCrane Holdings common stock held by DeCrane Aircraft ascollateral for the loans.

 

(2)                      Reflects theapplicable federal rate of interest charged on the loans.  Interest is compounded annually.

 

(3)                      Reflects theoriginal principal amount of the loans.

 

(4)                      Reflectsaccrued interest payable through December 23, 2004, the date the stock wassurrendered.

 

68

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**ITEM 14.**                                  PRINCIPAL ACCOUNTING FEES AND SERVICES

 

**Principal Audit and Non-Audit Fees and Services**

 

Theaggregate fees billed by PricewaterhouseCoopers LLP (“PWC”), our independentaccountants, in fiscal years 2004 and 2003 were as follows:

 
| ** **              | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------|------------|----------------------------------|------------|
| **(In thousands)**      | ** ** | **2004**                         | ** ** | **2003** | ** ** |
|                    |       |                             |       |   |   |
| Audit fees  (1)         |       | $                                | 333        |   | $ | 383 |   |
| Audit  related fees (2) |       | 18                               |       | 358 |   |
| Tax fees (3)            |       | 420                              |       | 479 |   |
| All other  fees (4)     |       | 306                              |       | — |   |
| Consolidated  totals    |       | $                                | 1,077      |   | $ | 1,220 |   |

 

----

(1)                      Reflectsfees for the audits of the annual financial statements included in our Form10-K’s and the review of the quarterly financial statements included in ourForm 10-Q’s.

 

(2)                      Includesfees for due diligence related to acquisitions, stand-alone audits ofacquisition targets and companies sold, employee benefit plan audits andconsents related to SEC filings.

 

(3)                      Reflectsfees for federal, state, local and foreign tax compliance, advisory (includingdue diligence related to acquisitions and matters related to companies sold)and planning services.

 

(4)                      Reflectsadvisory services fees for feasibility studies concerning shared accountingservices and information technology enhancements.

 

TheAudit Committee has concluded the provision of the non-audit services iscompatible with maintaining the independence of PricewaterhouseCoopers LLP.

 

**Pre-approval Policies and Procedures**

** **

Theaudit committee has adopted policies and procedures for pre-approving allnon-audit work performed by PWC. Specifically, the policies and procedures prohibit PWC from performingany services for the Company or its subsidiaries without the prior approval ofthe audit committee, except that the audit committee pre-approved the use ofPWC for tax related matters.

 

All ofthe services provided by PWC in 2004 were approved by the audit committeepursuant to the approval policies described above.  None of such services were approved pursuantto the procedures described in Rule 2-01(c)(7)(i)(C) of Regulation S-X, whichwaives the general requirement for pre-approval in certain circumstances.

 

69

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**PART IV**

** **

**ITEM 15.**                                  EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

** **

**(a)**                                  List of Documents Filed as Part of this Report

** **

**1.**                                      Financial Statements

** **

Our consolidated financial statements filed with thisreport are included in a separate section at the end of this report andare listed in an index on page F-1.

 

**2.**                                      Financial Statement Schedules

** **

Our consolidated financial statement schedules filedwith this report are included in a separate section at the end of thisreport and are listed in an index on page F-1.

 

**3.**                                      Exhibits

** **

The following exhibits are filed as part of thisreport.

 
| **Exhibit   Number** | ** ** | **Filing   Reference** | ** ** | **Exhibit Description**                                                                                                     |
|----------------------|------------|------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------|
|                 |       |                   |       |                                                                                                                        |
| 3.2.1                |       | (1)                    |       | Certificate of Incorporation of DeCrane  Aircraft Holdings, Inc.                                                            |
|                 |       |                   |       |                                                                                                                        |
| 3.2.1.1              |       | (12)                   |       | Certificate of Amendment of Certificate of  Incorporation of DeCrane Aircraft Holdings, Inc. dated October 17, 2001    |
|                 |       |                   |       |                                                                                                                        |
| 3.2.1.2              |       | (18)                   |       | Certificate of Amendment of Certificate of  Incorporation of DeCrane Aircraft Holdings, Inc. dated July 23, 2004       |
|                 |       |                   |       |                                                                                                                        |
| 3.2.2                |       | (17)                   |       | Bylaws of DeCrane Aircraft Holdings, Inc.,  as amended on February 2, 2004                                        |
|                 |       |                   |       |                                                                                                                        |
| 3.3.1                |       | (1)                    |       | Articles of Incorporation of Audio  International, Inc.                                                                     |
|                 |       |                   |       |                                                                                                                        |
| 3.3.2                |       | (1)                    |       | Amended & Restated Bylaws of Audio  International, Inc.                                                                 |
|                 |       |                   |       |                                                                                                                        |
| 3.4.1                |       | (1)                    |       | Articles of Incorporation of Hollingsead  International, Inc.                                                               |
|                 |       |                   |       |                                                                                                                        |
| 3.4.2                |       | (1)                    |       | Bylaws of Hollingsead International Inc.                                                                                    |
|                 |       |                   |       |                                                                                                                        |
| 3.5.1                |       | (17)                   |       | Certificate of Formation and Certificate of  Merger for  PATS Aircraft, LLC                                            |
|                 |       |                   |       |                                                                                                                        |
| 3.5.2                |       | (17)                   |       | Limited Liability Company Operating  Agreement for  PATS Aircraft, LLC                                                 |
|                 |       |                   |       |                                                                                                                        |
| 3.7.1                |       | (3)                    |       | Articles of Incorporation of Precision  Pattern, Inc.                                                                       |
|                 |       |                   |       |                                                                                                                        |
| 3.7.2                |       | (3)                    |       | Bylaws of Precision Pattern, Inc.                                                                                           |
|                 |       |                   |       |                                                                                                                        |
| 3.9.1                |       | (4)                    |       | Articles of Incorporation of PCI Newco,  Inc. (formerly PCI Acquisition Co., Inc.)                                          |
|                 |       |                   |       |                                                                                                                        |
| 3.9.1.1              |       | (13)                   |       | Certificate of Amendment of Articles of  Incorporation of PCI Acquisition Co., Inc. (changing its name to PCI Newco,  Inc.) |
|                 |       |                   |       |                                                                                                                        |
| 3.9.2                |       | (4)                    |       | Bylaws of PCI Newco, Inc. (formerly PCI  Acquisition Co., Inc.)                                                             |
|                 |       |                   |       |                                                                                                                        |
| 3.13.1               |       | (6)                    |       | Certificate of Formation and Certificate of  Amendment of Carl F. Booth & Co., LLC                                      |
|                 |       |                   |       |                                                                                                                        |
| 3.13.2               |       | (6)                    |       | Limited Liability Company Agreement of Carl  F. Booth & Co., LLC                                                        |
|                 |       |                   |       |                                                                                                                        |
| 3.14.1               |       | (8)                    |       | Restated Articles of Incorporation of ERDA,  Inc.                                                                           |

 

70

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| **Exhibit   Number** | ** ** | **Filing   Reference** | ** ** | **Exhibit Description**                                                                                                                                                                                                                                                                    |
|----------------------|------------|------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 3.14.1.1             |       | (14)                   |       | Articles of Amendment amending the Restated  Articles of Incorporation of ERDA, Inc. (changing its name to DeCrane  Aircraft Seating Company, Inc.)                                                                                                                                        |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 3.14.2               |       | (8)                    |       | Bylaws of ERDA, Inc. (formerly ERDA  Acquisition Co., Inc.)                                                                                                                                                                                                                                |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 3.16.1               |       | (17)                   |       | Certificate of Incorporation of DeCrane  Cabin Interiors – Canada, Inc.                                                                                                                                                                                                               |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 3.16.2               |       | (17)                   |       | Bylaws of DeCrane Cabin Interiors – Canada,  Inc.                                                                                                                                                                                                                                     |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1                  |       | (1)                    |       | Indenture dated October 5, 1998  between DeCrane Aircraft and State Street Bank and Trust Company                                                                                                                                                                                     |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1.1                |       | (17)                   |       | Supplemental Indenture dated December 11,  2003 among PATS Aircraft, LLC, the other guarantors under the Indenture,  DeCrane Aircraft and State Street Bank and Trust Company                                                                                                         |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1.2                |       | (2)                    |       | Supplemental Indenture dated April 23,  1999 among PPI Holdings, Inc., Precision Pattern, Inc., the other guarantors  under the Indenture, DeCrane Aircraft and State Street Bank and Trust Company                                                                                   |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1.4                |       | (9)                    |       | Supplemental Indenture dated October 6,  1999 among PCI Acquisition Co., Inc. d/b/a PCI Newco, Inc., the other  guarantors under the Indenture, DeCrane Aircraft and State Street Bank and Trust  Company                                                                             |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1.6                |       | (9)                    |       | Supplemental Indenture dated May 11, 2000  among Booth Acquisition, LLC, the other guarantors under the Indenture,  DeCrane Aircraft and State Street Bank and Trust Company                                                                                                               |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1.7                |       | (9)                    |       | Supplemental Indenture dated June 30,  2000 among ERDA, Inc., the other guarantors under the Indenture, DeCrane  Aircraft and State Street Bank and Trust Company                                                                                                                     |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.1.9                |       | (17)                   |       | Supplemental Indenture dated January 1,  2004 among DeCrane Cabin Interiors – Canada, Inc., the other guarantors under  the Indenture, DeCrane Aircraft and State Street Bank and Trust Company                                                                                  |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.2                  |       | (1)                    |       | A/B Exchange Registration Rights Agreement  among DeCrane Aircraft Holdings, Inc., the subsidiary guarantors, and DLJ  Securities Corporation                                                                                                                                              |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.5                  |       | (1)                    |       | Form of DeCrane Aircraft 12% Senior  Subordinated Notes due 2008                                                                                                                                                                                                                           |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.5.1                |       | (18)                   |       | DeCrane Aircraft Holdings, Inc. 17% Senior  Discount Notes Due 2008 (Note No. 1 dated July 23, 2004)                                                                                                                                                                                  |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.5.1.1              |       | (18)                   |       | DeCrane Aircraft Holdings, Inc. 17% Senior  Discount Notes Due 2008 (Note No. 2 dated September 9, 2004)                                                                                                                                                                              |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.6                  |       | (8)                    |       | Certificate of Designations, Preferences  and Rights of 16% Senior Redeemable Exchangeable Preferred Stock due 2009                                                                                                                                                                        |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.6.1                |       | (9)                    |       | Amendment to the Certificate of  Designations, Preferences and Rights of 16% Senior Redeemable Exchangeable  Preferred Stock due 2009 dated October 5, 2000                                                                                                                           |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                       |
| 4.6.2                |       | (18)                   |       | Certificate of Amendment to Certificate of  Designations, Preferences and Rights of 16% Senior Redeemable Exchangeable  Preferred Stock Due 2009 (now designated as Senior Redeemable Exchangeable  Preferred Stock Due 2008) of DeCrane Aircraft Holdings, Inc. dated July 23,  2004 |

 

71

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| **Exhibit   Number** | ** ** | **Filing   Reference** | ** ** | **Exhibit Description**                                                                                                                                                                                                                      |
|----------------------|------------|------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 4.7                  |       | (8)                    |       | Senior Preferred Stock Registration Rights  Agreement dated as of June 30, 2000 among DeCrane Aircraft  Holdings, Inc. and the Holders of Senior Preferred Stock                                                                   |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 4.7.1                |       | (9)                    |       | Amendment No. 1 to the Senior Preferred  Stock Registration Rights Agreement dated as of June 30, 2000 among  DeCrane Aircraft Holdings, Inc. and the Holders of Senior Preferred Stock  dated October 6, 2000                     |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 4.7.2                |       | (18)                   |       | Amendment No. 2 to the Senior Preferred  Stock Registration Rights Agreement dated as of June 30, 2000 among  DeCrane Aircraft Holdings, Inc. and the holders of Senior Preferred Stock  dated July 23, 2004                       |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 4.8                  |       | (18)                   |       | Indenture dated July 23, 2004 between  DeCrane Aircraft Holdings, Inc. and U.S. Bank National Association for 17%  Senior Discount Notes Due 2008                                                                                       |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 4.8.1                |       | (18)                   |       | First Supplemental Indenture dated September 9,  2004 between DeCrane Aircraft Holdings, Inc. and U.S. Bank National  Association for 17% Senior Discount Notes Due 2008                                                                |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.1                 |       | (8)                    |       | Securities Purchase Agreement dated as of June 30,  2000 among DeCrane Aircraft Holdings, Inc., DeCrane Holdings Co. and the  purchasers named therein                                                                                  |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.2                 |       | (9)                    |       | Amended and Restated Investors’ Agreement  dated as of October 6, 2000 by and among DeCrane Holdings Co., DeCrane  Aircraft Holdings, Inc. and the stockholders named therein                                                      |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.2.1               |       | (18)                   |       | Amendment No. 1 to the Amended and Restated  Investors’ Agreement dated as of October 6, 2000 by and among DeCrane  Holdings Co., DeCrane Aircraft Holdings, Inc. and the stockholders named  therein dated December 31, 2001 |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.2.2               |       | (18)                   |       | Amendment No. 2 to the Amended and Restated  Investors’ Agreement dated as October 6, 2000 by and among DeCrane  Holdings Co., DeCrane Aircraft Holdings, Inc. and the stockholders named  therein dated July 23, 2004        |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.5                 |       | (1)                    |       | Tax Sharing Agreement dated March 15,  1993 between DeCrane Aircraft and several subsidiaries                                                                                                                                           |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.6 **              |       | (1)                    |       | Employment Agreement dated July 17,  1998 between DeCrane Aircraft Holdings, Inc. and R. Jack DeCrane                                                                                                                                   |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.6.1 **            |       | (10)                   |       | First Amendment to Employment Agreement  dated May 5, 2000 between DeCrane Aircraft Holdings, Inc. and R. Jack DeCrane                                                                                                                       |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.7 **              |       | (1)                    |       | 401(k) Salary Reduction Non-Standardized  Adoption Agreement dated April 30, 1992 between the Company and The  Lincoln National Life Insurance Company                                                                             |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.8                 |       | (1)                    |       | Form of Subscription Agreement for DeCrane  Holdings Co. common and preferred stock by certain members of Global  Technology Partners LLC                                                                                                    |
|                 |       |                   |       |                                                                                                                                                                                                                                         |
| 10.10                |       | (7)                    |       | Third Amended and Restated Credit Agreement  dated as of May 11, 2000 among DeCrane Aircraft Holdings, Inc., the lenders  listed therein, DLJ Capital Funding, Inc., as syndication agent, and Bank One  NA, as administrative agent         |

 

72

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| **Exhibit   Number** | ** ** | **Filing   Reference** | ** ** | **Exhibit Description**                                                                                                                                                                                                                                                                                                                                  |
|----------------------|------------|------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.1              |       | (9)                    |       | First Amendment to the Third Amended and  Restated Credit Agreement dated as of June 30, 2000 among DeCrane  Aircraft Holdings, Inc., the lenders listed therein, DLJ Capital Funding,  Inc., as syndication agent, and Bank One NA, as administrative agent                                                                                        |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.2              |       | (11)                   |       | Increased Commitments Agreement, dated as  of April 27, 2001, pursuant to Third Amended and Restated Credit  Agreement, dated as of May 11, 2000, as amended by the First Amendment to the  Third Amended and Restated Credit Agreement, dated as of June 30, 2000                                                                             |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.3              |       | (13)                   |       | Second Amendment to the Third Amended and  Restated Credit Agreement dated as of March 19, 2002 among DeCrane  Aircraft Holdings, Inc., the lenders listed therein, Credit Suisse First  Boston (as successor to DLJ Capital Funding, Inc.) as syndication agent, and  Bank One NA, as administrative agent                                         |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.4              |       | (15)                   |       | Third Amendment to the Third Amended and  Restated Credit Agreement dated as of March 31, 2003 among DeCrane  Aircraft Holdings, Inc., the lenders listed therein, Credit Suisse First  Boston (as successor to DLJ Capital Funding, Inc.) as syndication agent, and  Bank One NA, as administrative agent                                          |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.5              |       | (17)                   |       | Fourth Amendment to the Third Amended and  Restated Credit Agreement dated as of December 10, 2003 among DeCrane  Aircraft Holdings, Inc., the lenders listed therein and Credit Suisse First  Boston (as successor to DLJ Capital Funding, Inc.), as syndication and  administrative agent for the lenders                                         |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.6              |       | (18)                   |       | Fifth Amendment to the Third Amended and  Restated Credit Agreement dated as of June 9, 2004 among DeCrane  Aircraft Holdings, Inc., the lenders listed therein and Credit Suisse First  Boston, acting through its Cayman Islands Branch (successor to DLJ Capital  Funding, Inc.), as syndication agent and administrative agent for the lenders  |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.10.7              |       | (18)                   |       | Sixth Amendment to the Third Amended and  Restated Credit Agreement dated as of July 16, 2004 among DeCrane  Aircraft Holdings, Inc., the lenders listed therein and Credit Suisse First  Boston, acting through its Cayman Islands Branch (successor to DLJ Capital  Funding, Inc.), as syndication agent and administrative agent for the lenders |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.11                |       | (1)                    |       | General Terms Agreement between The Boeing  Company and PATS, Inc. dated February 17, 1998                                                                                                                                                                                                                                                          |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.11.1              |       | (1)                    |       | Special Business Provisions between The  Boeing Company and PATS, Inc. dated February 17, 1998                                                                                                                                                                                                                                                      |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.11.2              |       | (1)                    |       | Letter Agreement between The Boeing Company  and DeCrane Aircraft Holdings, Inc. dated January 15, 1999                                                                                                                                                                                                                                             |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.11.3              |       | (16)                   |       | Addendum 6-5723-03-064 to the Special  Business Provisions between The Boeing Company and PATS, Inc. dated April 16,  2003                                                                                                                                                                                                                          |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                     |
| 10.12                |       | (17)                   |       | Credit Agreement dated as of December 22,  2003 among DeCrane Aircraft Holdings, Inc., the lenders listed therein and  Credit Suisse First Boston (acting through its Cayman Islands Branch), as  syndication and administrative agent for the lenders                                                                                              |

 

73

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| **Exhibit   Number** | ** ** | **Filing   Reference** | ** ** | **Exhibit Description**                                                                                                                                                                                                                                                                                                                                      |
|----------------------|------------|------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.12.1              |       | (18)                   |       | First Amendment to the Credit Agreement  dated as of December 22, 2003 among DeCrane Aircraft Holdings, Inc., the  lenders listed therein and Credit Suisse First Boston, acting through its  Cayman Islands Branch (successor to DLJ Capital Funding, Inc.), as  syndication agent and administrative agent for the lenders dated June 9,  2004   |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.12.2              |       | (18)                   |       | Second Amendment to the Credit Agreement  dated as of December 22, 2003 among DeCrane Aircraft Holdings, Inc., the  lenders listed therein and Credit Suisse First Boston, acting through its  Cayman Islands Branch (successor to DLJ Capital Funding, Inc.), as  syndication agent and administrative agent for the lenders dated July 16,  2004 |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.13                |       | (18)                   |       | Exchange Agreement dated as of July 23,  2004, among DeCrane Aircraft Holdings, Inc., the affiliates of DeCrane  Aircraft set forth on the signature pages hereto as Guarantors, and certain  holders of DeCrane Aircraft’s 12% Senior Subordinated Notes due 2008 (the “Old  Notes”) set forth on the signature pages hereto            |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.13.1              |       | (18)                   |       | Exchange Agreement dated as of September 9,  2004, among DeCrane Aircraft Holdings, Inc., the affiliates of DeCrane  Aircraft set forth on the signature pages hereto as Guarantors, and certain  holders of DeCrane Aircraft’s 12% Senior Subordinated Notes due 2008 (the “Old  Notes”) set forth on the signature pages hereto        |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.14                |       | (18)                   |       | 16% Senior Preferred Stock Amendment  Agreement dated as of July 23, 2004, among DeCrane Aircraft Holdings,  Inc., DeCrane Holdings Co., and the other persons set forth on the signature  pages hereto                                                                                                                                                 |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.19 **             |       | (5)                    |       | Amended Management Incentive Stock Option  Plan                                                                                                                                                                                                                                                                                                              |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.20 **             |       | (5)                    |       | Amended Stock Subscription Agreement                                                                                                                                                                                                                                                                                                                         |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.21 **             |       | (5)                    |       | Amended Incentive Bonus Plan                                                                                                                                                                                                                                                                                                                                 |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 10.23 **             |       | *                      |       | Form of Change of Control Agreements  between DeCrane Aircraft Holdings, Inc. and certain executives dated December 8,  2004                                                                                                                                                                                                                            |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 12.1                 |       | *                      |       | Computation of Earnings to Fixed Charges  Ratios                                                                                                                                                                                                                                                                                                             |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 21.1                 |       | (18)                   |       | List of Subsidiaries of Registrant                                                                                                                                                                                                                                                                                                                           |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 31.1                 |       | *                      |       | Chief Executive Officer Certification  Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                        |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 31.2                 |       | *                      |       | Chief Financial Officer Certification  Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                        |
|                 |       |                   |       |                                                                                                                                                                                                                                                                                                                                                         |
| 32                   |       | *                      |       | Chief Executive Officer and Chief Financial  Officer Certifications Pursuant to Section 906 of the Sarbanes-Oxley Act  of 2002                                                                                                                                                                                                                          |

 

----

*                             Filedherewith.

 

**                      Denotesmanagement contracts and compensatory plans and arrangements required to befiled as exhibits to this report.

 

(1)                      Filed as anexhibit to our Registration Statement (Registration No. 333-70365) on Form S-1(Amendment No. 1) filed with the Commission on March 3, 1999.

 

(2)                      Filed as anexhibit to our Registration Statement (Registration No. 333-70365) on Form S-1(Amendment No. 2) filed with the Commission on April 23, 1999.

 

74

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(3)                      Filed as anexhibit to our Registration Statement (Registration No. 333-70365) on Form S-1(Amendment No. 3) filed with the Commission on May 6, 1999.

 

(4)                      Filed as anexhibit to our Form 8-K dated August 5, 1999 filed with the Commission on October 19, 1999.

 

(5)                      Filed as anexhibit to our Form 8-K dated December 17, 1999 filed with the Commissionon December 31, 1999.

 

(6)                      Filed as anexhibit to our Form 8-K dated May 11, 2000 filed with the Commission onMay 25, 2000.

 

(7)                      Filed as anexhibit to our Form 8-K (Amendment No. 1) dated May 11, 2000 filed with theCommission on June 16, 2000.

 

(8)                      Filed as anexhibit to our Form 8-K (Amendment No. 1) dated June 30, 2000 filed withthe Commission on August 2, 2000.

 

(9)                      Filed as anexhibit to our Form 10-Q dated September 30, 2000 filed with theCommission on November 14, 2000.

 

(10)                Filed as anexhibit to our Form 10-K dated December 31, 2000 filed with the Commissionon March 30, 2001.

 

(11)                Filed as anexhibit to our Form 10-Q dated March 31, 2001 filed with the Commission onMay 14, 2001.

 

(12)                Filed as anexhibit to our Form 10-Q dated September 30, 2001 filed with theCommission on November 13, 2001.

 

(13)                Filed as anexhibit to our Form 10-K dated December 31, 2001 filed with the Commissionon March 27, 2002.

 

(14)                Filed as anexhibit to our Form 10-Q dated March 31, 2002 filed with the Commission onMay 13, 2002.

 

(15)                Filed as anexhibit to our Form 10-K dated December 31, 2002 filed with the Commissionon April 15, 2003.

 

(16)                Filed as anexhibit to our Registration Statement (Registration No. 333-106381) on Form S-1(Amendment No. 1) filed with Commission on August 12, 2003.

 

(17)                Filed as anexhibit to our Form 10-K dated December 31, 2003 filed with the Commissionon March 29, 2004.

 

(18)                Filed as anexhibit to our Form 10-Q dated September 30, 2004 filed with theCommission on November 12, 2004.

 

**(b)**                                  Item 601 Exhibits

** **

Reference is made to the exhibit index listed at Item15(a)(3) of this report.

 

**(c)**                                  Other Financial Statements

** **

There are no financial statements required to be filedby Regulation S-X which are excluded from this report by Rule 14 a-3(b)(1).

 

75

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**SIGNATURES**

** **

Pursuantto the requirements of Section 15(d) of the Securities Exchange Act of1934, the registrant has duly caused this report to be signed on its behalf bythe undersigned, thereunto duly authorized.

 

**DECRANE AIRCRAFT HOLDINGS, INC. (Registrant)**

 

 
| By:    | /S/  R. JACK DECRANE |   | By:                              | /S/  RICHARD  J. KAPLAN           |
|--------|---------------------------|--------|----------------------------------|----------------------------------------|
|   | R. Jack DeCrane           |   |                             | Richard J. Kaplan                      |
|   | Chief Executive Officer   |   |                             | Senior Vice President, Chief Financial |
|   |                      |   | Officer, Secretary and Treasurer |

 

Date:                    March 31,2005

 

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed by the following persons on behalf of the registrant and in thecapacities and on the dates indicated.

 
| By:    | /S/   THOMPSON DEAN           |   | By:    | /S/   R. JACK DECRANE |
|--------|------------------------------------|--------|--------|----------------------------|
|   | Thompson Dean                      |   |   | R. Jack DeCrane            |
|   | Chairman of the Board of Directors |   |   | Director                   |

 

 
| By:    | /S/   RICHARD J. KAPLAN |   | By:    | /S/   SUSAN C. SCHNABEL |
|--------|------------------------------|--------|--------|------------------------------|
|   | Richard J. Kaplan            |   |   | Susan C. Schnabel            |
|   | Director                     |   |   | Director                     |
|   |                         |   |   |

 

 
| By:    | /S/   ALBERT E. SUTER |   |   |   |
|--------|----------------------------|--------|--------|--------|
|   | Albert E. Suter            |   |   |   |
|   | Director                   |   |   |   |

 

Date:                    March 31,2005

 

76

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**Index to Consolidated Financial Statementsand Financial Statement Schedule**

 
| **Consolidated Financial Statements**                                                                                     |   |
|---------------------------------------------------------------------------------------------------------------------------|--------|
|                                                                                                                      |   |
| Report of Independent Registered Public  Accounting Firm                                                                  |   |
|                                                                                                                      |   |
| Consolidated Balance Sheets as of December 31, 2004 and 2003                                                         |   |
|                                                                                                                      |   |
| Consolidated Statements of Operations for  the years ended December 31, 2004, 2003 and 2002                          |   |
|                                                                                                                      |   |
| Consolidated Statements of Stockholder’s  Equity (Deficit) for the years ended December 31, 2004, 2003 and 2002 |   |
|                                                                                                                      |   |
| Consolidated Statements of Cash Flows for  the years ended December 31, 2004, 2003 and 2002                          |   |
|                                                                                                                      |   |
| Notes to Consolidated Financial Statements                                                                                |   |
|                                                                                                                      |   |
|                                                                                                                      |   |
| **Consolidated Financial Statement Schedule**                                                                             |   |
|                                                                                                                      |   |
| For the years ended December 31, 2004,  2003 and 2002:                                                               |   |
|                                                                                                                      |   |
| II – Valuation and Qualifying Accounts                                                                               |   |

 

Allother schedules are omitted because they are either not applicable or therequired information is shown in the consolidated financial statements or notesthereto.

 

F-1

----

 

**REPORT OF INDEPENDENT REGISTERED PUBLICACCOUNTING FIRM**

 

To the Board of Directors and Stockholder of

DeCrane Aircraft Holdings, Inc.

 

 

In ouropinion, the consolidated financial statements listed in the accompanying indexpresent fairly, in all material respects, the financial position of DeCraneAircraft Holdings, Inc. and its subsidiaries at December 31, 2004 and2003, and the results of their operations and cash flows for each of the threeyears in the period ended December 31, 2004 in conformity with accountingprinciples generally accepted in the United States of America.  In addition, in our opinion, the financialstatement schedule listed in the accompanying index presents fairly, inall material respects, the information set forth therein when read inconjunction with the related consolidated financial statements.  These financial statements and financialstatement schedule are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements andfinancial statement schedule based on our audits.  We conducted our audits of these statementsin accordance with the standards of the Public Company Accounting OversightBoard (United States).  Those standardsrequire that we plan and perform the audit to obtain reasonable assurance aboutwhether 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,assessing the accounting principles used and significant estimates made bymanagement, and evaluating the overall financial statement presentation.  We believe that our audits provide areasonable basis for our opinion.

 

Asdiscussed in Note 1, in 2004 the Company adopted Statement of FinancialAccounting Standards No. 150, “Accounting for Certain Financial Instrumentswith Characteristics of both Liabilities and Equity.”

 

Asdiscussed in Note 1, the Company discontinued the use of program accounting forthe costs of products manufactured for delivery under production-type contractsin 2003.

 

Asdiscussed in Note 1, in 2002 the Company adopted Statement of FinancialAccounting Standards No. 142, “Goodwill and Other Intangible Assets.”

 

TheCompany’s revolving line of credit and $4.3 million of its long-term debtmature on March 31, 2006. Management’s plans to refinance these debt agreements are described inNote 1.

 

 

PRICEWATERHOUSECOOPERS LLP

Los Angeles, California

 

March 29, 2005

 

F-2

----

** **

**DECRANE AIRCRAFT HOLDINGS, INC. AND SUBSIDIARIES**

** **

**Consolidated Balance Sheets**

 
| ** **                                                                                                                          | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands, except share data)**                                                                                               | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                                                                                                                                |       |                  |       |   |   |
| **Assets**                                                                                                                          |       |                  |       |   |   |
|                                                                                                                                |       |                  |       |   |   |
| Current  assets:                                                                                                                    |       |                  |       |   |   |
| Cash and  cash equivalents                                                                                                          |       | $                     | 979        |   | $ | 6,936 |   |
| Accounts  receivable, net                                                                                                           |       | 25,367                |       | 21,455 |   |
| Inventories                                                                                                                         |       | 51,253                |       | 42,981 |   |
| Prepaid  expenses and other current assets                                                                                          |       | 944                   |       | 1,082 |   |
| Total  current assets                                                                                                               |       | 78,543                |       | 72,454 |   |
|                                                                                                                                |       |                  |       |   |   |
| Property and  equipment, net                                                                                                        |       | 27,565                |       | 30,900 |   |
| Goodwill                                                                                                                            |       | 162,430               |       | 162,430 |   |
| Other  assets, principally intangibles, net                                                                                         |       | 31,455                |       | 38,092 |   |
| Total assets                                                                                                                        |       | $                     | 299,993    |   | $ | 303,876 |   |
|                                                                                                                                |       |                  |       |   |   |
| **Liabilities,  Mandatorily Redeemable Preferred Stock and Stockholder’s Deficit**                                             |       |                  |       |   |   |
|                                                                                                                                |       |                  |       |   |   |
| Current  liabilities:                                                                                                               |       |                  |       |   |   |
| Current  portion of long-term debt                                                                                                  |       | $                     | 1,314      |   | $ | 1,198 |   |
| Accounts  payable                                                                                                                   |       | 16,666                |       | 15,462 |   |
| Accrued  liabilities                                                                                                                |       | 23,657                |       | 17,890 |   |
| Total  current liabilities                                                                                                          |       | 41,637                |       | 34,550 |   |
|                                                                                                                                |       |                  |       |   |   |
| Long-term  debt                                                                                                                     |       | 291,840               |       | 268,208 |   |
| Mandatorily  redeemable preferred stock                                                                                             |       | 47,303                |       | — |   |
| Other  long-term liabilities                                                                                                        |       | 6,720                 |       | 5,464 |   |
|                                                                                                                                |       |                  |       |   |   |
| Commitments and  contingencies (Note 14)                                                                                            | ** ** | ** **            | ** ** | ** ** | ** ** |
|                                                                                                                                |       |                  |       |   |   |
| Mandatorily  redeemable preferred stock                                                                                             |       | —                |       | 40,835 |   |
|                                                                                                                                |       |                  |       |   |   |
| Stockholder’s  deficit:                                                                                                        |       |                  |       |   |   |
| Common  stock, $.01 par value, 1,000 shares authorized and 100 shares issued and  outstanding as of December 31, 2004 and 2003 |       | —                |       | — |   |
| Additional  paid-in capital                                                                                                         |       | 112,269               |       | 112,987 |   |
| Notes  receivable for shares sold                                                                                                   |       | (621                  | )          | (1,268 | ) |
| Accumulated  deficit                                                                                                                |       | (199,155              | )          | (156,632 | ) |
| Accumulated  other comprehensive loss                                                                                               |       | —                |       | (268 | ) |
| Total  stockholder’s deficit                                                                                                   |       | (87,507               | )          | (45,181 | ) |
| Total  liabilities, mandatorily redeemable preferred stock and stockholder’s deficit                                           |       | $                     | 299,993    |   | $ | 303,876 |   |

 

The accompanying notes are an integral partof the consolidated financial statements.

 

F-3

----

 

**DECRANE AIRCRAFT HOLDINGS, INC. AND SUBSIDIARIES**

 

**Consolidated Statementsof Operations**

 
| ** **                                                      | ** ** | **Year Ended December 31,** | ** ** |
|-----------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                              | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                            |       |                             |       |   |   |   |   |
| Revenues                                                        |       | $                                | 213,686    |   | $ | 170,109 |   | $ | 229,841 |   |
| Cost of  sales                                                  |       | 169,160                          |       | 131,539 |   | 164,175 |   |
|                                                            |       |                             |       |   |   |   |   |
| Gross profit                                                    |       | 44,526                           |       | 38,570 |   | 65,666 |   |
|                                                            |       |                             |       |   |   |   |   |
| Operating  expenses:                                            |       |                             |       |   |   |   |   |
| Selling,  general and administrative expenses                   |       | 29,697                           |       | 28,310 |   | 46,572 |   |
| Research and  development expenses                              |       | 8,003                            |       | 10,440 |   | 56 |   |
| Impairment  of goodwill                                         |       | —                           |       | 34,000 |   | — |   |
| Amortization  of intangible assets                              |       | 3,650                            |       | 3,651 |   | 3,540 |   |
| Total  operating expenses                                       |       | 41,350                           |       | 76,401 |   | 50,168 |   |
|                                                            |       |                             |       |   |   |   |   |
| Income  (loss) from operations                                  |       | 3,176                            |       | (37,831 | ) | 15,498 |   |
|                                                            |       |                             |       |   |   |   |   |
| Other  expenses:                                                |       |                             |       |   |   |   |   |
| Interest  expense                                               |       | 37,146                           |       | 26,219 |   | 25,376 |   |
| Mandatorily  redeemable preferred stock dividends               |       | 4,011                            |       | — |   | — |   |
| Loss on debt  extinguishments and preferred stock restructuring |       | 3,898                            |       | 1,439 |   | — |   |
| Other  expenses, net                                            |       | 544                              |       | 945 |   | 505 |   |
|                                                            |       |                             |       |   |   |   |   |
| Loss from  continuing operations before income taxes            |       | (42,423                          | )          | (66,434 | ) | (10,383 | ) |
| Income tax  (provision) benefit                                 |       | (100                             | )          | 13,496 |   | 3,621 |   |
|                                                            |       |                             |       |   |   |   |   |
| Loss from  continuing operations                                |       | (42,523                          | )          | (52,938 | ) | (6,762 | ) |
|                                                            |       |                             |       |   |   |   |   |
| Loss from  discontinued operations, net of tax                  |       | —                           |       | (6,621 | ) | (41,396 | ) |
| Cumulative  effect of changes in accounting principles          |       | —                           |       | (13,764 | ) | (17,828 | ) |
|                                                            |       |                             |       |   |   |   |   |
| Net loss                                                        |       | (42,523                          | )          | (73,323 | ) | (65,986 | ) |
|                                                            |       |                             |       |   |   |   |   |
| Accrued  preferred stock dividends                              |       | —                           |       | (6,286 | ) | (5,373 | ) |
| Preferred  stock redemption value accretion                     |       | —                           |       | (468 | ) | (468 | ) |
|                                                            |       |                             |       |   |   |   |   |
| Net loss  applicable to common stockholder                      |       | $                                | (42,523    | ) | $ | (80,077 | ) | $ | (71,827 | ) |

 

The accompanying notes are an integral partof the consolidated financial statements.

 

F-4

----

 

**DECRANE AIRCRAFT HOLDINGS, INC. AND SUBSIDIARIES**

 

**Consolidated Statementsof Stockholder’s Equity (Deficit)**

** **
| ** **                                                                                                                                        | ** ** | ** **       | ** ** | ** **  | ** ** | ** **     | ** ** | **Notes**       | ** ** | ** **        | ** ** | **Accumulated** | ** ** | ** ** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|-------------|------------|----------------|------------|-----------------|------------|-------------------|------------|-----------------|------------|------------|------------|
| ** **                                                                                                                                        | ** ** | ** **       | ** ** | ** **  | ** ** | **Additional** | ** ** | **Receivable**  | ** ** | ** **        | ** ** | **Other**       | ** ** | ** ** | ** ** |
| ** **                                                                                                                                        | ** ** | **Common Stock** | ** ** | **Paid-in** | ** ** | **For Shares** | ** ** | **Accumulated** | ** ** | **Comprehensive** | ** ** | ** **      | ** ** |
| **(In thousands, except share data)**                                                                                                             | ** ** | **Shares**       | ** ** | **Amount**  | ** ** | **Capital**    | ** ** | **Sold**        | ** ** | **Deficit**       | ** ** | **Loss**        | ** ** | **Total**  | ** ** |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Balance, December 31,  2001                                                                                                                  |       | 100              |       | $           | —     |           | $          | 122,469         |       | $                 | (2,668     | )               | $          | (17,323    | )          | $ | (88 | ) | $ | 102,390 |   |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Comprehensive  loss:                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Net loss                                                                                                                                          |       | —           |       | —      |       | —         |       | —          |       | (65,986           | )          | —          |       | (65,986    | )          |
| Unrealized  loss on interest rate swap contract                                                                                                   |       | —           |       | —      |       | —         |       | —          |       | —            |       | (273            | )          | (273       | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       | (66,259    | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Capital  contribution                                                                                                                             |       | —           |       | —      |       | 5,000          |       | —          |       | —            |       | —          |       | 5,000      |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Return of  capital in connection with the repurchase of common stock, net of related  note receivable repaid and tax benefit of options exercised |       | —           |       | —      |       | (554           | )          | 200             |       | —            |       | —          |       | (354       | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Accrued  preferred stock dividends                                                                                                                |       | —           |       | —      |       | (5,373         | )          | —          |       | —            |       | —          |       | (5,373     | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Preferred  stock redemption value accretion                                                                                                       |       | —           |       | —      |       | (468           | )          | —          |       | —            |       | —          |       | (468       | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Compensatory  stock option expense                                                                                                                |       | —           |       | —      |       | 138            |       | —          |       | —            |       | —          |       | 138        |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Notes  receivable interest accrued                                                                                                                |       | —           |       | —      |       | —         |       | (123            | )          | —            |       | —          |       | (123       | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Balance, December 31,  2002                                                                                                                  |       | 100              |       | —      |       | 121,212        |       | (2,591          | )          | (83,309           | )          | (361            | )          | 34,951     |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Comprehensive  income (loss):                                                                                                                     |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Net loss                                                                                                                                          |       | —           |       | —      |       | —         |       | —          |       | (73,323           | )          | —          |       | (73,323    | )          |
| Unrealized  gain on interest rate swap contract                                                                                                   |       | —           |       | —      |       | —         |       | —          |       | —            |       | 93              |       | 93         |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       | (73,230    | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Common stock  (collateral) surrendered and cancellation of the related notes                                                                      |       | —           |       | —      |       | (1,471         | )          | 1,471           |       | —            |       | —          |       | —     |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Accrued  preferred stock dividends                                                                                                                |       | —           |       | —      |       | (6,286         | )          | —          |       | —            |       | —          |       | (6,286     | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Preferred  stock redemption value accretion                                                                                                       |       | —           |       | —      |       | (468           | )          | —          |       | —            |       | —          |       | (468       | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Notes  receivable interest accrued                                                                                                                |       | —           |       | —      |       | —         |       | (148            | )          | —            |       | —          |       | (148       | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Balance, December 31,  2003                                                                                                                  |       | 100              |       | —      |       | 112,987        |       | (1,268          | )          | (156,632          | )          | (268            | )          | (45,181    | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Comprehensive  income (loss):                                                                                                                     |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Net loss                                                                                                                                          |       | —           |       | —      |       | —         |       | —          |       | (42,523           | )          | —          |       | (42,523    | )          |
| Unrealized  gain on interest rate swap contract                                                                                                   |       | —           |       | —      |       | —         |       | —          |       | —            |       | 268             |       | 268        |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       | (42,255    | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Common stock  (collateral) surrendered and cancellation of the related notes                                                                      |       | —           |       | —      |       | (722           | )          | 722             |       | —            |       | —          |       | —     |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Capital  contribution                                                                                                                             |       | —           |       | —      |       | 4              |       | —          |       | —            |       | —          |       | 4          |       |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Notes receivable  interest accrued                                                                                                                |       | —           |       | —      |       | —         |       | (75             | )          | —            |       | —          |       | (75        | )          |
|                                                                                                                                              |       |             |       |        |       |           |       |            |       |              |       |            |       |       |       |
| Balance, December 31,  2004                                                                                                                  |       | 100              |       | $           | —     |           | $          | 112,269         |       | $                 | (621       | )               | $          | (199,155   | )          | $ | — |   | $ | (87,507 | ) |

 

The accompanying notes are an integral partof the consolidated financial statements.

 

F-5

----

 

**DECRANE AIRCRAFT HOLDINGS, INC. AND SUBSIDIARIES**

**Consolidated Statementsof Cash Flows**

 
| ** **                                                                                   | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                                                           | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                         |       |                             |       |   |   |   |   |
| **Cash  flows from operating activities of continuing operations:**                          |       |                             |       |   |   |   |   |
| Net loss                                                                                     |       | $                                | (42,523    | ) | $ | (73,323 | ) | $ | (65,986 | ) |
| Adjustments  to reconcile net loss to net cash provided by (used for) operating  activities: |       |                             |       |   |   |   |   |
| Cumulative  effect of changes in accounting principles                                       |       | —                           |       | 13,764 |   | 17,828 |   |
| Net loss  from discontinued operations                                                       |       | —                           |       | 6,621 |   | 41,396 |   |
| Loss on debt  extinguishments and preferred stock restructuring                              |       | 3,898                            |       | 1,439 |   | — |   |
| Noncash  portion of restructuring, asset impairment and other related charges                |       | 2,978                            |       | 37,664 |   | 11,456 |   |
| Depreciation  and amortization                                                               |       | 12,892                           |       | 12,589 |   | 13,304 |   |
| Mandatorily  redeemable preferred stock dividends                                            |       | 4,011                            |       | — |   | — |   |
| Preferred  stock redemption value accretion                                                  |       | 264                              |       | — |   | — |   |
| Long-term  debt interest accretion                                                           |       | 7,354                            |       | 67 |   | — |   |
| Deferred income  taxes                                                                       |       | —                           |       | (11,461 | ) | 690 |   |
| Other, net                                                                                   |       | 346                              |       | 264 |   | 110 |   |
| Changes in  assets and liabilities:                                                          |       |                             |       |   |   |   |   |
| Accounts  receivable                                                                         |       | (3,912                           | )          | 4,899 |   | 14,969 |   |
| Inventories                                                                                  |       | (11,128                          | )          | (518 | ) | (4,792 | ) |
| Prepaid  expenses and other assets                                                           |       | 289                              |       | 241 |   | 155 |   |
| Accounts  payable                                                                            |       | 1,204                            |       | 2,407 |   | (1,458 | ) |
| Accrued  liabilities                                                                         |       | 6,035                            |       | (13,496 | ) | (16,418 | ) |
| Income taxes  payable                                                                        |       | 269                              |       | (1,079 | ) | 438 |   |
| Other  long-term liabilities                                                                 |       | 1,085                            |       | 834 |   | 28 |   |
| Net cash  provided by (used for) operating activities                                        |       | (16,938                          | )          | (19,088 | ) | 11,720 |   |
|                                                                                         |       |                             |       |   |   |   |   |
| **Cash  flows from investing activities of continuing operations:**                          |       |                             |       |   |   |   |   |
| Net cash  proceeds from sale of Specialty Avionics Group                                     |       | —                           |       | 132,223 |   | — |   |
| Proceeds  from sale of property and equipment                                                |       | 18                               |       | 3,208 |   | — |   |
| Capital  expenditures                                                                        |       | (3,252                           | )          | (4,797 | ) | (4,356 | ) |
| Cash paid  for acquisitions                                                                  |       | —                           |       | (606 | ) | (5,890 | ) |
| Net cash  provided by (used for) investing activities                                        |       | (3,234                           | )          | 130,028 |   | (10,246 | ) |
|                                                                                         |       |                             |       |   |   |   |   |
| **Cash  flows from financing activities of continuing operations:**                          |       |                             |       |   |   |   |   |
| Debt borrowings:                                                                             |       |                             |       |   |   |   |   |
| Promissory  notes                                                                            |       | 5,000                            |       | — |   | — |   |
| Revolving  line of credit, net                                                               |       | 12,550                           |       | — |   | — |   |
| Second-lien  term debt                                                                       |       | —                           |       | 80,000 |   | — |   |
| Other  secured long-term debt                                                                |       | —                           |       | — |   | 1,145 |   |
| Capital  contribution                                                                        |       | —                           |       | — |   | 5,000 |   |
| Debt  repayments:                                                                            |       |                             |       |   |   |   |   |
| Revolving  line of credit, net                                                               |       | —                           |       | (6,000 | ) | (6,000 | ) |
| First-lien  term debt                                                                        |       | —                           |       | (183,679 | ) | (11,506 | ) |
| Other  secured long-term debt                                                                |       | (1,198                           | )          | (1,876 | ) | (2,028 | ) |
| Deferred  financing costs                                                                    |       | (2,137                           | )          | (6,614 | ) | (1,656 | ) |
| Return of  capital in connection with shares repurchased                                     |       | —                           |       | — |   | (368 | ) |
| Net cash  provided by (used for) financing activities                                        |       | 14,215                           |       | (118,169 | ) | (15,413 | ) |
|                                                                                         |       |                             |       |   |   |   |   |
| Net cash  provided by discontinued operations                                                |       | —                           |       | 1,744 |   | 16,882 |   |
|                                                                                         |       |                             |       |   |   |   |   |
| Net increase  (decrease) in cash and cash equivalents                                        |       | (5,957                           | )          | (5,485 | ) | 2,943 |   |
| Cash and  cash equivalents at beginning of period                                            |       | 6,936                            |       | 12,421 |   | 9,478 |   |
| Cash and  cash equivalents at end of period                                                  |       | $                                | 979        |   | $ | 6,936 |   | $ | 12,421 |   |

 

The accompanying notes are an integral partof the consolidated financial statements.

 

F-6

----

 
| ** **                                                    | ** ** | **Year Ended December 31,** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                            | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                          |       |                             |       |   |   |   |   |
| **Net cash  provided by (used for) discontinued operations:** |       |                             |       |   |   |   |   |
| Operating  activities                                         |       | $                                | —     |   | $ | 3,310 |   | $ | 18,598 |   |
| Investing  activities                                         |       | —                           |       | (902 | ) | (1,073 | ) |
| Financing  activities                                         |       | —                           |       | (649 | ) | (815 | ) |
| Net  (increase) decrease in cash and cash equivalents         |       | —                           |       | (13 | ) | 125 |   |
| Effect of  foreign currency translation on cash               |       | —                           |       | (2 | ) | 47 |   |
| Net cash  provided by discontinued operations                 |       | $                                | —     |   | $ | 1,744 |   | $ | 16,882 |   |
|                                                          |       |                             |       |   |   |   |   |
| **Paid in  cash:**                                            |       |                             |       |   |   |   |   |
| Interest                                                      |       | $                                | 26,496     |   | $ | 25,973 |   | $ | 27,619 |   |
| Income taxes  paid (refunded), net                            |       | (169                             | )          | (225 | ) | (91 | ) |

 

The accompanying notes are an integral partof the consolidated financial statements.

 

F-7

----

 

**DECRANE AIRCRAFT HOLDINGS, INC. AND SUBSIDIARIES**

 

**Notes to ConsolidatedFinancial Statements**

 

**Note 1.**                                  Summary of Significant Accounting Policies

 

**Descriptionof the Business**

 

DeCraneAircraft Holdings, Inc. and subsidiaries (the “Company” or “DeCrane Aircraft”)is a provider of products and services to the business, VIP and head-of-stateaircraft market within the aerospace industry. The Company’s businesses are organized into two separate operatinggroups: Cabin Management and Systems Integration.  The Company also had a third strategicbusiness, its Specialty Avionics Group, which it sold in 2003 (Note 3).  The Company is a wholly-owned subsidiary ofDeCrane Holdings Co. (“DeCrane Holdings”).

 

**Basisof Presentation**

 

Theconsolidated financial statements include the accounts of the Company and allwholly-owned subsidiaries.  Allintercompany accounts and transactions have been eliminated.  Certain reclassifications have been made toprior years’ financial statements to conform to the current year presentation.

 

Preparationof these consolidated financial statements in conformity with accountingprinciples generally accepted in the United States of America requires theCompany to make estimates and judgments that affect the reported amounts ofassets, liabilities and disclosure of contingent assets and liabilities at thedate of the consolidated financial statements and the reported amounts ofrevenues and expenses during the reporting periods.  Actual results could differ from thoseestimates.

 

**FinancialCondition and Liquidity**

** **

During2003, the first-lien credit facility was amended twice and $80,000,000 ofsecond-lien debt was issued with the proceeds thereof used to repay first-lienindebtedness.  These actions, among otherthings, resulted in the extension of debt maturities and debt covenants beingrelaxed.  In 2004, $65,000,000 of 12%senior subordinated notes, with interest payable semi-annually, were exchangedfor 17% senior discount notes, which accrete in value, essentially deferringthe payment of interest until the notes mature on September 30, 2008.  In 2005, the Company received an aggregate$7,500,000 in proceeds from the sale of preferred stock and from the issuanceof promissory notes to its principal investors (Note 20).  The Company also received commitments fromthose investors that up to $2,500,000 of additional promissory notes may beissued, if needed.  These events providedthe Company with increased liquidity resources.

 

On March 31,2006, the Company’s first-lien credit facility will expire and any borrowingsoutstanding on that date will become due and payable ($12,550,000 was borrowedas of December 31, 2004).  Inaddition, on that date the Company is also required to make principal paymentsin the amount of $4,266,000 on its first-lien term debt and repay $7,500,000 ofpromissory notes to its principal investors, unless further extended by theinvestors.  The Company is exploringvarious alternatives for the restructuring or replacement of its first-liencredit facility as well as additional debt and/or equity transactions thatwould further improve liquidity.  TheCompany has not entered into any commitments to do so and cannot be assuredthat it will be successful in its efforts.

 

F-8

----

 

However,management believes expected operating cash flows, together with borrowingsunder the first-lien credit facility ($11,187,000 of which was available as of December 31,2004, the commitment for which expires in March 2006) and the proceedsfrom the recent investment made by the Company’s principal stockholders, willbe sufficient to meet operating expenses, working capital requirements, capitalexpenditures and debt service obligations up to March 31, 2006.  However, the Company’s ability to comply withdebt financial covenants, pay principal or interest and satisfy or refinanceits March 31, 2006 debt obligations will depend on its future operatingperformance as well as competitive, legislative, regulatory, business and otherfactors beyond its control.

 

**Changesin Accounting Principles**

** **

***SFAS No. 150 Adopted January 1, 2004***

** **

EffectiveJanuary 1, 2004, the Company adopted SFAS No. 150, “Accounting for CertainFinancial Instruments with Characteristics of both Liabilities and Equity.”  SFAS No. 150 establishes standards for theclassification and measurement of certain financial instruments withcharacteristics of both liabilities and equity. SFAS No. 150 requires classification of financial instruments within itsscope as a liability, including financial instruments issued in the form ofshares that are mandatorily redeemable, because those financial instruments aredeemed to be, in essence, obligations of the issuer.  As a result of adopting SFAS No. 150 on January 1,2004, the 16% mandatorily redeemable preferred stock was reclassified as aliability and the quarterly dividends and redemption value accretion arereflected as charges against pre-tax income. In periods prior to January 1, 2004, these charges were deducted inarriving at the net income or loss applicable to the Company’s commonstockholder.

 

Thefollowing table summarizes the results of operations for the years ended December 31,2003 and 2002 as if SFAS No. 150 had been in effect as of the beginning of2002.

 
| ** **                       | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------|------------|----------------------------------|------------|
| ** **                       | ** ** | **2003**                         | ** ** | **2002** | ** ** |
| **(In thousands)**               | ** ** | **As Reported**                  | ** ** | **Pro Forma** | ** ** | **As Reported** | ** ** | **Pro Forma** | ** ** |
|                             |       |                             |       |   |   |   |   |   |   |
| Loss from  continuing operations |       | $                                | (52,938    | ) | $ | (59,692 | ) | $ | (6,762 | ) | $ | (12,603 | ) |
| Net loss                         |       | (73,323                          | )          | (80,077 | ) | (65,986 | ) | (71,827 | ) |
|                                  |            |                                  |            |  |  |  |  |  |  |  |  |  |  |

 

Thepro forma data reflects preferred stock dividends and redemption valueaccretion totaling $6,754,000 for year ended December 31, 2003 and$5,841,000 for the year ended December 31, 2002 as charges against incomeduring those periods.

 

***Discontinued Use of Program AccountingCommencing January 1, 2003***

** **

Inventoriesare stated at the lower of cost or market. Costs include materials, labor, including direct engineering labor,tooling costs and manufacturing overhead. As described below, measurement of the costs of inventories associatedwith products manufactured for delivery under production-type contracts inperiods prior to January 1, 2003 was made pursuant to the use of programaccounting.  As such, the cost ofinventories included certain deferred program costs, which were principallycomprised of engineering costs.

 

F-9

----

 

Becauseof the changing economic conditions affecting the Company’s markets, demand forthe Company’s products has exhibited an increased degree of volatility.  The ability to make reliable estimates offuture demand for these products is critical to the use of program accountingand the deferral of engineering and production costs.  Under program accounting, certain productdevelopment costs incurred in connection with specific contracted programs weredeferred and charged to cost of sales when revenues from the sale of productsrelated to the program were recorded.  Inorder to improve the reliability of its financial reporting the Company decidedto discontinue the use of program accounting which requires it to makelong-term estimates of future sales for each program.  Therefore, product development costs notspecifically reimbursable through contractual terms or recoverable through firmorders are no longer deferred and included in program inventory commencing January 1,2003.

 

As aresult of the change, program-related product development costs are classifiedas a component of research and development expenses in the consolidatedfinancial statements commencing January 1, 2003 rather than classified asa component of inventory cost.  A chargeof $13,764,000 was recorded in 2003 to reflect the cumulative effect of achange in accounting principle.  Thefollowing table summarizes the results of operations for the year ended December 31,2002 as if the new accounting policy had been in effect during that year.

 
| ** **                       | ** ** | **Year Ended**             | ** ** |
|----------------------------------|------------|----------------------------|------------|
| ** **                       | ** ** | **December 31, 2002** | ** ** |
| **(In thousands)**               | ** ** | **As Reported**            | ** ** | **Pro Forma** | ** ** |
|                             |       |                       |       |   |   |
| Loss from  continuing operations |       | $                          | (6,762     | ) | $ | (9,738 | ) |
| Net loss                         |       | (65,986                    | )          | (68,962 | ) |
|                                  |            |                            |            |  |  |  |  |

 

*SFAS No.142 Adopted January 1, 2002*

 

EffectiveJanuary 1, 2002, the Company adopted SFAS No. 142, “Goodwill and OtherIntangible Assets” and, as required by SFAS No. 142, conducted transitionalimpairment testing of goodwill recorded as of that date.

 

Fairvalue of each reporting unit was determined using a discounted cash flowapproach taking into consideration projections based on the individualcharacteristics of the reporting units, historical trends, market multiples forcomparable businesses and independent appraisals.  Unallocated goodwill was allocated to thereporting units for impairment testing purposes.  The results indicated that the carrying valueof goodwill was impaired.  The resultingimpairment was primarily attributable to a change in the evaluation criteriafor goodwill utilized under previous accounting guidance to the fair valueapproach stipulated in SFAS No. 142.  Inaccordance with the transitional provision of SFAS No. 142, the Companyrecorded a $17,828,000 noncash write-down of goodwill (net of $878,000 incometax benefit) as of January 1, 2002 as a cumulative effect of a change inaccounting principle.  An additional$39,322,000 noncash write-down of goodwill pertained to the Specialty AvionicsGroup and is included in the loss from discontinued operations.

 

F-10

----

 

**Inventories**

** **

Inventoriesare stated at the lower of cost, as determined under the first-in, first-out (“FIFO”)method, or market.  Costs includematerials, labor, including direct engineering labor, tooling costs andmanufacturing overhead.  Costs alsoinclude product development costs specifically reimbursable through contractualterms or recoverable through firm orders.

 

**Propertyand Equipment**

** **

Propertyand equipment for companies acquired are stated at fair value as of the datethe acquisition occurred and at cost for all subsequent additions.  Property and equipment are depreciated usingthe straight-line method over their estimated useful lives.  Useful lives for machinery and equipmentprimarily range from three to ten years. Building and building improvements are depreciated using thestraight-line method over their estimated useful lives of forty years.  Leasehold improvements are amortized usingthe straight-line method over their estimated useful lives or remaining leaseterm, whichever is less.  Expendituresfor maintenance and repairs are expensed as incurred.  The costs for improvements arecapitalized.  Upon retirement ordisposal, the cost and accumulated depreciation of property and equipment arereduced and any gain or loss is recorded in income or expense.

 

**OtherAssets**

** **

Identifiablefinite-lived intangible assets are amortized on a straight-line basis overtheir estimated useful lives, ranging from three to fifteen years.  Deferred financing costs are amortized usingeither the straight-line or effective interest method, over the term of therelated debt.

 

**Impairmentof Goodwill**

** **

TheCompany tests goodwill for impairment in accordance with SFAS No. 142, “Goodwilland Other Intangible Assets” on October 31st of each year, orwhen events or changes in circumstances indicate the carrying amount may not berecoverable.  The goodwill impairmentmodel is a two-step process.  First, itrequires a comparison of the book value of net assets to the fair value of therelated reporting units that have goodwill assigned to them.  If the fair value is determined to be lessthan book value, a second step is performed to compute the amount of theimpairment.  In this process, a fairvalue for goodwill is estimated, based in part on the fair value of theoperations used in the first step, and is compared to its carrying value.  The amount by which carrying value exceedsfair value represents the amount of goodwill impairment.  As a result of this impairment testing, theCompany recorded pre-tax charges in 2003 of $34,000,000 relating to its CabinManagement Group and $7,500,000 relating to the sale of its Specialty AvionicsGroup.  In 2002, the Company recordedpre-tax charges of $7,672,000 relating to its Specialty Avionics Group.

 

F-11

----

 

**Impairmentof Long-Lived Assets and Other Intangible Assets**

** **

TheCompany reviews long-lived assets held for use and intangible assets, otherthan goodwill, for impairment when events or changes in circumstances indicatethe carrying amount of an asset may not be recoverable.  In the event the sum of the expectedundiscounted future cash flows resulting from the use of the asset is less thanthe carrying value of the asset, an impairment loss equal to the excess of theasset’s carrying value over its fair value is recorded.  Long-lived assets deemed held for sale arestated at the lower of cost or fair value. As a result of a restructuring program conducted during 2002, theCompany recorded pre-tax charges of $3,931,000 during 2002 to reflect theimpairment of long-lived assets; no impairment charges were recorded during2003 or 2004.  The impairment losses aredescribed in Note 2.

 

**ProductWarranty Obligations**

** **

TheCompany sells some products to customers with various repair or replacementwarranties.  The terms of the warrantiesvary according to the customer and/or product involved.  The most common warranty periods aregenerally one to five years from the earlier of the date of delivery to thecustomer or six to twelve months from the date of manufacture.

 

Provisionsfor estimated future warranty costs are made in the period corresponding to thesale of the product and are charged to cost of sales.  Except for warranty costs associated withproduct lines discontinued in prior years in connection with restructuringprograms, warranty costs have been within management’s expectations.  Classification between current and long-termwarranty obligations is estimated based on historical trends.

 

**IncomeTaxes**

** **

Deferredincome taxes are determined using the liability method.  A deferred tax asset or liability isdetermined based on the difference between the financial statement and taxbasis of assets and liabilities as measured by the enacted tax rates that willbe in effect when these differences reverse. Deferred tax expense is the result of changes in the deferred tax assetor liability.  If necessary, valuationallowances are established to reduce deferred tax assets to their expectedrealizable values.

 

**FairValue of Financial Instruments**

** **

Allfinancial instruments are held for purposes other than trading.  The estimated fair value of the Company’slong-term debt is based on either quoted market prices or current rates forsimilar issues for debt of the same remaining maturities.  While there is no established market for theCompany’s $35,000,000 of $12% senior subordinated notes, the Company estimatesthat their fair value was approximately $21,000,000 as of December 31,2004.  The estimated fair value of theCompany’s $100,000,000 subordinated debt was approximately $45,000,000 as of December 31,2003.  All other non-derivative financialinstruments as of December 31, 2004 and 2003 approximate their carryingamounts either because of the short maturity of the instrument, or based ontheir effective interest rates compared to current market rates for similarlong-term debt or obligations.

 

F-12

----

**RevenueRecognition**

** **

Revenuesfrom the sale of manufactured products, except for products manufactured underlong-term contracts, are recognized upon shipment of product to the customerprovided that the Company has received a signed purchase order, the price isfixed, title has transferred, collection of the resulting receivables isreasonably assured and there are no remaining significant obligations.

 

Revenuesfor products manufactured under long-term contracts are recognized under thepercentage-of-completion method using total contract price, actual costsincurred to date and an estimate of the completion costs for eachcontract.  Costs include all directmaterial and labor costs and those indirect costs related to contractperformance, such as indirect labor, supplies, tools, repairs, anddepreciation.  Selling, general, andadministrative costs are charged to expense as incurred.

 

Percentage-of-completionis measured using an estimate of either total costs or labor hours incurred todate to total expected costs or labor hours for each contract.  This method is used because managementconsiders total costs expended to be the best available measure of progress onthese contracts.  Provisions forestimated losses on uncompleted contracts are made in the period in which suchlosses are determined.  Managementbelieves that the Company will not incur any losses on uncompleted contracts asof December 31, 2004.

 

Measuringa contract’s percentage-of-completion requires management to makeestimates.  As a result, it is reasonablypossible that factors may cause management to change its revenue and costestimates, thereby altering estimated profitability.  These factors include, but are not limitedto, changes in contract scope, material and labor efficiencies, contractpenalty provisions, if any, and final contract settlements.  Revisions to revenue and profit estimates aremade in the period in which the facts that give rise to the revision becomeknown.

 

Theasset “Costs and estimated earnings in excess of billings” represents revenuesrecognized in excess of amounts billed on uncompleted contracts and isreflected as a component of inventory. Conversely, the liability “Billings in excess of costs and estimatedearnings” represents billings in excess of revenues recognized on uncompletedcontracts and is reflected as an accrued liability.  Unbilled revenues are expected to be billedand collected during the succeeding twelve-month period.

 

**Researchand Development Costs**

** **

Researchand development costs are expensed as incurred. Commencing January 1, 2003, the Company changed its accountingpolicy for product development costs incurred for long-term programs and suchcosts are also reflected as research and development.  See “—Change in Accounting Principle” for additionalinformation.

 

F-13

----

 

**StockOption Plan**

** **

TheCompany has one stock-based employee compensation plan, which is more fullydescribed in Note 16.  As permitted underSFAS No. 123, “Accounting for Stock-Based Compensation,” the Company measurescompensation expense related to the employee stock option plan utilizing theintrinsic value method as prescribed by Accounting Principles Board Opinion No.25, “Accounting for Stock Issued to Employees,” and relatedinterpretations.  No stock-based employeecompensation cost is reflected in net income (loss), as all options grantedunder the plan had an exercise price equal to the value of the underlyingcommon stock on the date of grant.

 

Thefollowing table illustrates the effect on net income if the Company had appliedthe fair value recognition provisions of SFAS No. 123 to stock-based employeecompensation.

 
| ** **                                                                                                                                     | ** ** | **Year Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                                                                                                             | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                                                           |       |                             |       |   |   |   |   |
| Net loss, as  reported                                                                                                                         |       | $                                | (42,523    | ) | $ | (73,323 | ) | $ | (65,986 | ) |
| Less total  stock-based employee compensation expense determined under the fair value  based method for all awards, net of related tax effects |       | (306                             | )          | (324 | ) | (376 | ) |
| Pro forma  net loss                                                                                                                            |       | $                                | (42,829    | ) | $ | (73,647 | ) | $ | (66,362 | ) |

 

Theeffect of applying SFAS No. 123 may not be representative of the pro formaeffect in future years since additional options may be granted during thosefuture years.  The assumptions underlyingthe computations of the fair value of the options are described in Note 16.

 

**Statementsof Cash Flows**

** **

Forpurposes of the statements of cash flows, cash equivalents include short-term,highly liquid investments with maturities of three months or less at the timeof purchase.

 

**RecentAccounting Pronouncements**

** **

***SFAS No. 151***

** **

In November 2004,the Financial Accounting Standards Board issued SFAS No. 151, “Inventory Costs –an amendment of ARB No. 43, Chapter 4.” SFAS No. 151 clarifies the accounting for abnormal amounts of idlefacility expense, freight, handling costs, and wasted material, and requiresthat such items be recognized as current-period charges regardless of whetherthey meet the “so abnormal” criterion outlined in ARB No. 43.  SFAS No. 151 also introduces the concept of “normalcapacity” and requires the allocation of fixed production overhead to inventorybased on the normal capacity of the production facilities.  Unallocated overhead must be recognized as anexpense in the period incurred.  SFAS No.151 is effective for inventory costs incurred during fiscal years beginningafter June 15, 2005.  While theCompany is still evaluating the impact of this statement, it does not currentlybelieve it will have a material impact on its financial position or results ofoperations.

 

F-14

----

 

***SFAS No. 153***

** **

In December 2004,the Financial Accounting Standards Board issued SFAS No. 153, “Exchanges ofNonmonetary Assets – an amendment of APB Opinion No. 29.”  SFAS No. 153 amends the guidance in APBOpinion No. 29, “Accounting for Nonmonetary Transactions,” which is based onthe principle that exchanges of nonmonetary assets should be measured based onthe fair value of the assets exchanged, with certain exceptions.  SFAS No. 153 amends APB Opinion No. 29 toeliminate the exception for nonmonetary exchanges of similar productive assetsand replaces it with a general exception for exchanges of nonmonetary assetsthat do not have commercial substance.  Anonmonetary exchange has commercial substance if the future cash flows of theentity are expected to change significantly as a result of the exchange.  The provisions of SFAS No. 153 are effectivefor nonmonetary asset exchanges occurring in fiscal periods beginning after June 15,2005.  While the Company is stillevaluating the impact of this statement, it does not currently believe it willhave a material impact on its financial position or results of operations.

 

***SFAS No. 123 (Revised 2004)***

** **

In December 2004,the Financial Accounting Standards Board issued SFAS No. 123 (revised 2004), “Share-basedPayment,” which replaces the prior SFAS No. 123, “Accounting for Stock-BasedCompensation,” and supersedes APB Opinion No. 25, “Accounting for Stock Issuedto Employees.”  SFAS No. 123 (revised2004) (“SFAS No. 123 (2004)”) requires that compensation cost relating toshare-based payment transactions be recognized in financial statements.  That cost will be measured based on the fairvalue of the equity or liability instruments issued.  When SFAS No. 123 was initially issued in1995, it permitted entities the option, which the Company elected to follow, ofcontinuing to apply the guidance in APB Opinion No. 25, as long as the notes tothe financial statements disclosed what net income would have been had thepreferable fair-value-based method been used.

 

TheCompany will be required to apply the provisions of SFAS No. 123 (2004)commencing with its fiscal year beginning January 1, 2006.  Adoption of SFAS No. 123 (2004) will resultin the Company recording compensation expense for stock options or otherequity-based grants over the vesting period. The Company believes this statement will not have a material impact onits financial position or results of operations.

 

F-15

----

 

**Note 2.**                                  Restructuring, Asset Impairment and Other RelatedCharges

 

Duringthe three years ended December 31, 2004, the Company recordedrestructuring, assets impairment and other related charges as follows:

 
| ** **                                                                 | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                                         | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                       |       |                             |       |   |   |   |   |
| Nature of  charges:                                                        |       |                             |       |   |   |   |   |
| Operational  Realignment and Facilities Consolidation                      |       | $                                | 8,215      |   | $ | — |   | $ | — |   |
| Seating  Product Line and Furniture Manufacturing Facilities Restructuring |       | —                           |       | 7,132 |   | — |   |
| Asset  Realignment Restructuring                                           |       | —                           |       | — |   | 6,901 |   |
| Seat  Manufacturing Facilities Restructuring                               |       | —                           |       | — |   | 6,294 |   |
| Goodwill,  asset impairment and other charges                              |       | 400                              |       | 42,254 |   | 12,048 |   |
| Total  pre-tax charges                                                     |       | $                                | 8,615      |   | $ | 49,386 |   | $ | 25,243 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Business  segment recording the charges:                                   |       |                             |       |   |   |   |   |
| Cabin  Management                                                          |       | $                                | 2,201      |   | $ | 41,132 |   | $ | 13,195 |   |
| Systems  Integration                                                       |       | 5,726                            |       | 754 |   | 4,060 |   |
| Corporate                                                                  |       | 688                              |       | — |   | — |   |
| Total  continuing operations                                               |       | 8,615                            |       | 41,886 |   | 17,255 |   |
| Discontinued  operations (Specialty Avionics)                              |       | —                           |       | 7,500 |   | 7,988 |   |
| Total  pre-tax charges                                                     |       | $                                | 8,615      |   | $ | 49,386 |   | $ | 25,243 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Charged to  operations:                                                    |       |                             |       |   |   |   |   |
| Cost of  sales                                                             |       | $                                | 7,007      |   | $ | 7,327 |   | $ | 10,676 |   |
| Selling,  general and administrative expenses                              |       | 1,608                            |       | 559 |   | 6,579 |   |
| Impairment  of goodwill                                                    |       | —                           |       | 34,000 |   | — |   |
| Discontinued  operations (Specialty Avionics)                              |       | —                           |       | 7,500 |   | 7,988 |   |
| Total  pre-tax charges                                                     |       | $                                | 8,615      |   | $ | 49,386 |   | $ | 25,243 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Components  of charges:                                                    |       |                             |       |   |   |   |   |
| Continuing  operations:                                                    |       |                             |       |   |   |   |   |
| Cash charges                                                               |       | $                                | 5,637      |   | $ | 4,222 |   | $ | 5,799 |   |
| Noncash  charges                                                           |       | 2,978                            |       | 37,664 |   | 11,456 |   |
| Total  continuing operations                                               |       | 8,615                            |       | 41,886 |   | 17,255 |   |
|                                                                       |       |                             |       |   |   |   |   |
| Discontinued  operations (Specialty Avionics):                             |       |                             |       |   |   |   |   |
| Noncash  charges                                                           |       | —                           |       | 7,500 |   | 7,988 |   |
| Cash charges                                                               |       | —                           |       | — |   | — |   |
| Total  discontinued operations                                             |       | —                           |       | 7,500 |   | 7,988 |   |
| Total  pre-tax charges                                                     |       | $                                | 8,615      |   | $ | 49,386 |   | $ | 25,243 |   |

 

F-16

----

 

**OperationalRealignment and Facilities Consolidation**

** **

During the second quarter of fiscal 2004, the Companyadopted plans to restructure the operations of its Cabin Management and SystemsIntegration groups.  The restructuringplan for Cabin Management involves the realignment of production between itsmanufacturing facilities and the relocation and consolidation of the group’sheadquarters to Wichita, Kansas.  Theplan for Systems Integration involves combining the manufacturing activities oftwo facilities into a single facility and eliminating some product offeringsand service capabilities resulting in a partial downsizing of certain operations.  These actions are designed to reduceengineering, production and inventory carrying costs by supporting fewermanufacturing locations and product offerings. In addition, as a result of the Cabin Management realignment and sale ofthe Specialty Avionics Group, the Company also decided to relocate itscorporate office to Columbus, Ohio to be in closer proximity to its operatingcompanies and customers.  In connectionwith these actions, the Company recorded pre-tax charges to operations totaling$8,215,000 through December 31, 2004 comprised of the following:

 

•                  *Lease Termination and RelatedCharges. *Lease termination and other related charges arecomprised of the net losses expected to be incurred under the existinglong-term lease agreements for facilities permanently vacated.  The losses have been reduced by the expectedsublease income.  These expected losseswere based on estimated current market rates and anticipated dates that thesefacilities are subleased.  If marketrates decrease or should it take longer than expected to sublease thesefacilities, the actual loss could exceed these estimates.  Otherrelated charges include the write-off of leasehold improvements related to thevacated facilities.

 

•                  *Write-Down of SurplusInventory. *Inventory waswritten down to reflect its net realizable value for quantities on handexceeding current and forecast order backlog requirements related to the curtailed product offerings.

 

•                  *Severance and OtherCompensation Costs. *The Company’stotal workforce was reduced by 25 employees, or 2%, from December 31, 2003levels.

 

•                  *Relocation Costs. *Relocation costs arecomprised of moving and related costs incurred in connection with therelocation of the corporate and group headquarters as well as the manufacturingfacility consolidation.

 

•                  *Other Restructuring Charges.* Other charges pertain to legal and travel costs.

 

TheCompany expects to incur additional restructuring-related expenses ofapproximately $2,700,000 during 2005 to complete the restructuring plans.  These expenses, which are primarilyrelocation, severance and travel costs, will be expensed as incurred.

 

F-17

----

 

Thecomponents of the restructuring, asset impairment and other related charges areas follows:

 
| ** **                                          | ** ** | ** **  | ** ** | ** **           | ** ** | ** **            | ** ** | **Balance at** | ** ** |
|-----------------------------------------------------|------------|-------------|------------|----------------------|------------|-----------------------|------------|----------------|------------|
| ** **                                          | ** ** | **Total**   | ** ** | **Amounts Incurred** | ** ** | **December 31,** | ** ** |
| **(In thousands)**                                  | ** ** | **Charges** | ** ** | **Noncash**          | ** ** | **Cash**              | ** ** | **2004**       | ** ** |
|                                                |       |        |       |                 |       |                  |       |           |       |
| Lease  termination and other related charges        |       | $           | 3,098      |                 | $          | (102                  | )          | $              | (595       | ) | $ | 2,401 |   |
| Excess  inventory write-downs                       |       | 2,811       |       | (2,811               | )          | —                |       | —         |       |
| Severance  and other compensation costs             |       | 713         |       | —               |       | (538                  | )          | 175            |       |
| Relocation  costs expensed as incurred              |       | 672         |       |                 |       | (672                  | )          | —         |       |
| Other  restructuring charges                        |       | 921         |       | (65                  | )          | (653                  | )          | 203            |       |
| Total                                               |       | 8,215       |       | $                    | (2,978     | )                     | $          | (2,458         | )          | $ | 2,779 |   |
|                                                |       |        |       |                 |       |                  |       |           |       |
| Other  restructuring-related charges to be incurred |       | 2,700       |       |                 |       |                  |       |           |       |
| Total  expected restructuring charges               |       | $           | 10,915     |                 |       |                  |       |           |       |   |

 

Futurecash payments, which will extend to 2013 because of lease termination costs,will be funded from existing cash balances and internally generated cash fromoperations.

 

**SeatingProduct Line and Furniture Manufacturing Facilities Restructuring**

** **

Duringthe second quarter of fiscal 2003, the Company consolidated its seating productline offerings and adopted a restructuring plan to down-size a furnituremanufacturing facility in response to continuing weakness in the business, VIPand head-of-state aircraft market.  Theseactions were designed to reduce engineering, production and inventory carryingcosts by supporting fewer product offerings and achieve profitability at thefurniture manufacturing facility based on its lower production levels.  In connection with these actions, the Companyrecorded pre-tax charges to operations totaling $7,132,000, comprised of thefollowing:

 

•                  *Lease Termination andRelated Charges. *Leasetermination charges reflect lease cancellation costs for the facilities vacatedand possession returned to the lessor in connection with down-sizing afurniture manufacturing facility.  Otherrelated charges include the write-off of leasehold improvements related to thevacated facilities.

 

•                  *Excess and ObsoleteInventory Write-Downs. *Inventory waswritten down by $3,073,000 to reflect its net realizable value for quantitieson hand exceeding current and forecast order backlog requirements and obsoleteinventory related to the curtailed seating product offerings.

 

•                  *Severance and OtherCompensation Costs. *The Companyreduced its total workforce at the down-sized facility by 49 employees, or 37%,from December 31, 2002 levels.

 

F-18

----

** **

Thecomponents of the restructuring, asset impairment and other related charges areas follows:

 
| ** **                                   | ** ** | ** **  | ** ** | ** **           | ** ** | ** **            | ** ** | **Balance at** | ** ** |
|----------------------------------------------|------------|-------------|------------|----------------------|------------|-----------------------|------------|----------------|------------|
| ** **                                   | ** ** | **Total**   | ** ** | **Amounts Incurred** | ** ** | **December 31,** | ** ** |
| **(In thousands)**                           | ** ** | **Charges** | ** ** | **Noncash**          | ** ** | **Cash**              | ** ** | **2003**       | ** ** |
|                                         |       |        |       |                 |       |                  |       |           |       |
| Lease  termination and other related charges |       | $           | 3,876      |                 | $          | (591                  | )          | $              | (3,285     | ) | $ | — |   |
| Excess and  obsolete inventory write-downs   |       | 3,073       |       | (3,073               | )          | —                |       | —         |       |
| Severance  and other compensation costs      |       | 183         |       | —               |       | (183                  | )          | —         |       |
| Total                                        |       | $           | 7,132      |                 | $          | (3,664                | )          | $              | (3,468     | ) | $ | — |   |

 

Therestructuring activities were completed during 2003.

 

**AssetRealignment Restructuring**

** **

Inresponse to the adverse impact on the aerospace industry resulting from the September 11thterrorist attack and its aftermath, as well as the weakening of global economicconditions, the Company announced and implemented a restructuring program in December 2001designed to reduce costs and conserve working capital.  This program included permanently closing onemanufacturing facility and idling a second facility for an indefinite period,curtailing several product development programs and instituting workforcereductions.  Due to the ongoing weaknessof the business, VIP and head-of-state aircraft market, the Company decidedduring the second quarter of fiscal 2002 to permanently close the temporarilyidled manufacturing facility.  Thisprogram primarily affected the Company’s Cabin Management.

 

Therestructuring, asset impairment and other related charges are comprised of thefollowing:

 

•                  *Severance and Other CompensationCosts.*  Since the September 11thterrorist attack, the Company reduced its total workforce by approximately 500employees, or 18.5%, as of December 2002, of which approximately 260employees had separated as of December 31, 2001.

 

•                  *Lease Termination and Other RelatedCosts.*  Lease termination and other related costs arecomprised of the net losses incurred under the existing long-term leaseagreements for facilities permanently vacated, reduced by the expected subleaseincome.

 

•                  *Impairment of Property andEquipment.*  The decision in 2002 to permanently close theadditional manufacturing facility resulted in an additional impairment ofproperty and equipment and, accordingly, these assets were written down totheir estimated net realizable value in 2002.

 

•                  *Excess Inventory Write-Downs. *Inventory was written down to net realizable value forquantities on hand exceeding current and forecast order backlog requirements.

 

•                  *Other Asset Impairment Related Charges.*  Otherrestructuring-related charges pertain to provisions for estimated losses onuncompleted long-term contracts aggregating $2,577,000 and other relatedcharges expensed as incurred.

 

F-19

----

 

Thecomponents of the restructuring, assets impairment and other related chargesare as follows:

 
| ** **                                 | ** ** | **Balance at**        | ** ** | ** **  | ** ** | ** **           | ** ** | ** **            | ** ** | **Balance at** | ** ** |
|--------------------------------------------|------------|-----------------------|------------|-------------|------------|----------------------|------------|-----------------------|------------|----------------|------------|
| ** **                                 | ** ** | **December 31,** | ** ** | **Total**   | ** ** | **Amounts Incurred** | ** ** | **December 31,** | ** ** |
| **(In thousands)**                         | ** ** | **2001**              | ** ** | **Charges** | ** ** | **Noncash**          | ** ** | **Cash**              | ** ** | **2002**       | ** ** |
|                                       |       |                  |       |        |       |                 |       |                  |       |           |       |
| *Year  ended December 31, 2002:*      |       |                  |       |        |       |                 |       |                  |       |           |       |
|                                       |       |                  |       |        |       |                 |       |                  |       |           |       |
| Severance  and other compensation costs    |       | $                     | 1,185      |        | $          | —               |       | $                     | —     |           | $          | (1,185 | ) | $ | — |   |
| Lease  termination and other related costs |       | 424                   |       | —      |       | —               |       | (334                  | )          | 90             |       |
| Impairment  of property and equipment      |       | —                |       | 2,557       |       | (2,557               | )          | —                |       | —         |       |
| Excess  inventory write-downs              |       | —                |       | 1,265       |       | (1,265               | )          | —                |       | —         |       |
| Total                                      |       | $                     | 1,609      |        | 3,822      |                 | $          | (3,822                | )          | $              | (1,519     | ) | $ | 90 |   |
|                                       |       |                  |       |        |       |                 |       |                  |       |           |       |
| Other  restructuring-related charges       |       |                  |       | 3,079       |       |                 |       |                  |       |           |       |
| Total  pre-tax charges                     |       |                  |       | $           | 6,901      |                 |       |                  |       |           |       |   |

 

Thisrestructuring program was completed during the fourth quarter of fiscal 2002and the remaining $90,000 of lease termination and other related costs werepaid during 2003.  There are no futurecash payment obligations remaining related to this program.

 

**SeatManufacturing Facilities Restructuring**

** **

Duringthe first quarter of fiscal 2002, the Company announced it would consolidatethe production of four seating and related manufacturing facilities into two,resulting in the permanent closure of two facilities.  This program was designed to improvemanufacturing efficiencies and to further reduce costs and conserve workingcapital.  In connection with thisrestructuring program, the Company recorded pre-tax charges to operationstotaling $6,294,000 during 2002 for restructuring, asset impairment and otherrelated charges.  The charges arecomprised of the following:

 

•                  *Inventory and Accounts ReceivableWrite-Downs.*  In connection with the consolidation ofall production, the Company will discontinue manufacturing certain products,principally those which overlap. Inventory and certain receivables related to the discontinued productswere written down to net realizable value.

 

•                  *Impairment of Long-Lived Assets.* The restructuring program resulted in the impairment of property andequipment and, accordingly, these assets were written down to their netrealizable value.

 

•                  *Severance and Other CompensationCosts.*  Approximately 115 employees were terminatedin connection with the permanent closure of the manufacturing facilities.

 

•                  *Lease Termination and Other RelatedCosts.*  Lease termination and other related costs arecomprised of the net losses expected to be incurred under existing long-termlease agreements for the facilities being permanently vacated.  The losses have been reduced by the expectedsublease income.  These expected losseswere based on estimated current market rates and anticipated dates that thesefacilities are subleased.  Ifmarket-rates decrease or should it take longer than expected to sublease thesefacilities, the actual loss could exceed these estimates.

 

F-20

----

 

•                  *Other Asset Impairment RelatedExpenses.*  Other restructuring-related expenses pertainto FAA retesting and recertification of products manufactured at a differentfacility, moving, transportation and travel costs and shutdown / startupcosts.  Such costs were charged toexpense as incurred.

 

Thecomponents of the restructuring, assets impairment and other related chargesare as follows:

 
| ** **                                        | ** ** | ** **  | ** ** | ** **           | ** ** | ** **            | ** ** | **Balance at** | ** ** |
|---------------------------------------------------|------------|-------------|------------|----------------------|------------|-----------------------|------------|----------------|------------|
| ** **                                        | ** ** | **Total**   | ** ** | **Amounts Incurred** | ** ** | **December 31,** | ** ** |
| **(In thousands)**                                | ** ** | **Charges** | ** ** | **Noncash**          | ** ** | **Cash**              | ** ** | **2002**       | ** ** |
| ** **                                        | ** ** | ** **  | ** ** | ** **           | ** ** | ** **            | ** ** | ** **     | ** ** |
| Restructuring  and assets impairment charges:     |       |        |       |                 |       |                  |       |           |       |
| Inventory  and accounts receivable write-downs    |       | $           | 2,200      |                 | $          | (2,200                | )          | $              | —     |   | $ | — |   |
| Impairment  of property and equipment             |       | 1,374       |       | (1,374               | )          | —                |       | —         |       |
| Severance  and other compensation costs           |       | 450         |       | —               |       | (450                  | )          | —         |       |
| Lease  termination and other related costs        |       | 300         |       | —               |       | (236                  | )          | 64             |       |
| Total  restructuring and asset impairment charges |       | 4,324       |       | $                    | (3,574     | )                     | $          | (686           | )          | $ | 64 |   |
|                                              |       |        |       |                 |       |                  |       |           |       |
| Other  restructuring-related expenses             |       | 1,970       |       |                 |       |                  |       |           |       |
| Total  pre-tax charges                            |       | $           | 6,294      |                 |       |                  |       |           |       |   |

 

Thisrestructuring program was completed during the second quarter of fiscal 2002and the remaining $64,000 of lease termination and other related costs werepaid during 2003.  There are no remainingfuture cash payment obligations related to this program.

 

**Goodwill,Asset Impairment and Other Charges**

** **

Goodwill,asset impairment and other related charges include the following:

 
| ** **                                      | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                              | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                            |       |                             |       |   |   |   |   |
| Goodwill  impairment charges                    |       | $                                | —     |   | $ | 41,500 |   | $ | 7,672 |   |
| Inventory  impairment charges                   |       | —                           |       | — |   | 4,376 |   |
| Adjustments  of previous restructuring charges: |       |                             |       |   |   |   |   |
| Product  warranty obligations                   |       | 400                              |       | — |   | — |   |
| Lease  termination costs                        |       | —                           |       | 754 |   | — |   |
| Total  pre-tax charges                          |       | $                                | 400        |   | $ | 42,254 |   | $ | 12,048 |   |

 

***Goodwill and Inventory Impairment Charges***

 

Duringthe year ended December 31, 2003, the Company recorded $41,500,000 ofgoodwill impairment charges.  Impairmentcharges totaling $34,000,000 pertained to goodwill impairment testing pursuantto SFAS No. 142 and were charged to continuing operations.  The remaining $7,500,000 pertained to thesale of the Specialty Avionics Group and was charged to discontinued operations(Notes 3 and 7).

 

F-21

----

 

In thefourth quarter of fiscal 2002 the Company recorded a pre-tax charge of$12,048,000 for additional asset impairments.  Of this amount, $7,672,000 related to theCompany’s annual goodwill impairment testing pursuant to SFAS No. 142 and$4,376,000 related to inventories and was charged to cost of goods sold.  Charges totaling $7,988,000 pertained todiscontinued operations.

 

***Adjustments of Previous RestructuringCharges***

** **

*ProductWarranty Obligations.*  As a result of the SeatManufacturing Facilities and Seating Product Line restructurings, themanufacturing of certain seats was moved to a different facility and seatdesigns were modified to accommodate the new manufacturing environment.  These actions resulted in product warrantycosts exceeding typical levels during the transition process.  As a result, the Company recorded anadditional $400,000 charge during 2004 to reflect the additional productwarranty obligation related to the seats manufactured during these transitionperiods.

 

*LeaseTermination Costs. *In 1999 the Company initiated a plan toreorganize and restructure the operations of two of its subsidiaries within theSystems Integration Group.  Therestructuring was a result of a management decision to exit the manufacturingbusiness at these subsidiaries and consolidate and relocate operations into onefacility to more efficiently and effectively manage the business and be morecompetitive.  In connection with theserestructuring activities, the Company provided for lease termination costsexpected to be incurred over the remaining term of the existing long-term leaseat the facility being vacated. The expected costs were reduced by estimatedsublease income which was based on estimated future market rates andanticipated sublease rental periods.

 

During2003, the initial sublease was canceled and the Company entered into a newsublease agreement.  Due to the deteriorationin market rates since 1999, the terms of the new sublease were less favorablethan the initial lease.  As a result, theCompany determined that the remaining accrual for lease termination costs wasinsufficient to cover the net costs expected to be incurred over the remaininglease term.  Consequently, an additional$754,000 was charged to operations during 2003 for these additional costs.  A payment obligation totaling $459,000remains as of December 31, 2004. The future cash payments will be funded from internally generated cashfor operations.

 

F-22

----

 

**Note 3.**                                  Disposition of Specialty Avionics Group

** **

Duringthe fourth quarter of fiscal 2002 the Company assessed its long-term businessstrategies in light of condition of the aerospace industry at the time.  The Company believes that as the aerospaceindustry recovers, the demand for its Cabin Management and Systems IntegrationGroups’ products and services for business, VIP and head-of-state aircraft willreturn to historical levels and, accordingly, the Company decided to focus itsresources in these market segments.  Toaccomplish this objective, the Company embarked on a plan to sell its SpecialtyAvionics Group, which is highly dependent on the commercial airline industry.

 

On March 14,2003, the Company entered into a definitive agreement to sell its equityinterests in the subsidiaries comprising its Specialty Avionics Group to WingsHoldings, Inc., an affiliate of Odyssey Investment Partners, LLC, for$140,000,000 in cash.  The sale wasconsummated on May 23, 2003.  Proceedsfrom the sale of $130,723,000 were used to repay first-lien credit facilityborrowings (Note 10).  The sale ofthe Specialty Avionics Group is not expected to affect the operations of theCompany’s remaining operating groups.

 

Basedupon the fair value of the group implied in the definitive agreement, theCompany determined that the carrying value of the group’s net assets was notfully recoverable.  As required by SFASNo. 142, the Company recorded a goodwill impairment charge of $7,500,000 in2003 to reduce the carrying value to the estimated net realizable valueestablished by the definitive agreement. The Company recorded a modest $72,000 loss on the sale, based on theactual financial position of the group on the date of sale.

 

As aresult of the sale, the Specialty Avionics Group is presented as a discontinuedoperation in the accompanying consolidated financial statements.  The financial statements for prior periodshave been reclassified to segregate the group’s assets and liabilities, resultsof operations and cash flows for all periods.

 

Inaccordance with the Financial Accounting Standards Board’s Emerging Issues TaskForce Issue No. 87-24, “Allocation of Interest to Discontinued Operations,” asamended, interest expense includes interest on debt that is to be assumed bythe buyer as well as interest on the $130,723,000 of debt that was required tobe repaid as a result of the sale. Interest expense was based on the historical interest rates chargedduring each of the periods.  In addition,and also in accordance with EITF 87-24, costs and expenses of the SpecialtyAvionics Group exclude the allocation of general corporate overhead.

 

F-23

----

 

Thefollowing tables summarize the results operations of the Specialty AvionicsGroup.

 
| ** **                                            | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                    | ** ** | **2003 (1)**                     | ** ** | **2002** | ** ** |
| ** **                                            | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Results of  Operations:                               |       |                             |       |   |   |
| Revenues                                              |       | $                                | 36,595     |   | $ | 95,789 |   |
|                                                  |       |                             |       |   |   |
| Operating  expenses:                                  |       |                             |       |   |   |
| Costs and  expenses                                   |       | 30,128                           |       | 75,031 |   |
| Impairment  of goodwill                               |       | 7,500                            |       | 7,672 |   |
| Amortization  of goodwill and other intangible assets |       | 878                              |       | 2,228 |   |
| Total  operating expenses                             |       | 38,506                           |       | 84,931 |   |
|                                                  |       |                             |       |   |   |
| Income  (loss) from operations                        |       | (1,911                           | )          | 10,858 |   |
|                                                  |       |                             |       |   |   |
| Other  expenses:                                      |       |                             |       |   |   |
| Interest  expense:                                    |       |                             |       |   |   |
| Debt  required to be repaid with proceeds from sale   |       | 3,297                            |       | 7,720 |   |
| Debt  obligations assumed by the buyer                |       | 270                              |       | 798 |   |
| Other  expenses, net                                  |       | 153                              |       | 439 |   |
|                                                  |       |                             |       |   |   |
| Pre-tax  income (loss)                                |       | (5,631                           | )          | 1,901 |   |
| Provision  for income taxes                           |       | (918                             | )          | (3,975 | ) |
|                                                  |       |                             |       |   |   |
| Loss before  change in accounting principle           |       | (6,549                           | )          | (2,074 | ) |
| Cumulative  effect of change in accounting principle  |       | —                           |       | (39,322 | ) |
| Loss from  operations                                 |       | (6,549                           | )          | (41,396 | ) |
| Loss on sale,  net of tax                             |       | (72                              | )          | — |   |
|                                                  |       |                             |       |   |   |
| Net loss  from discontinued operations                |       | $                                | (6,621     | ) | $ | (41,396 | ) |

 

----

(1)                      Reflects the results of operationsthrough May 23, 2003, the date of sale.

 

F-24

----

 

**Note 4.**                                  Accounts Receivable

 

TheCompany is potentially subject to concentrations of credit risk as the Companyrelies heavily on customers operating in the domestic and foreign business, VIPand head-of-state aircraft industries. Generally, the Company does not require collateral or other security tosupport accounts receivable subject to credit risk.  Under certain circumstances, deposits orcash-on-delivery terms are required.  TheCompany maintains allowances for doubtful accounts and generally, such losseshave been within management’s expectations.

 

Accountsreceivable are net of an allowance for doubtful accounts of $608,000 as of December 31, 2004and $1,268,000 as of December 31, 2003.

 

**Note 5.**                                  Inventories

 

Inventoriesare comprised of the following as of December 31, 2004 and 2003:

 
| ** **                                                                   | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                                           | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                                                                         |       |                  |       |   |   |
| Raw  materials                                                               |       | $                     | 29,421     |   | $ | 30,414 |   |
| Work-in-process                                                              |       | 18,345                |       | 6,817 |   |
| Finished  goods                                                              |       | 1,461                 |       | 1,693 |   |
| Costs and  estimated earnings in excess of billings on uncompleted contracts |       | 2,026                 |       | 4,057 |   |
| Total  inventories                                                           |       | $                     | 51,253     |   | $ | 42,981 |   |

 

Totalcosts and estimated earnings on all uncompleted contracts as of December 31,2004 and 2003 are comprised of the following:

 
| ** **                                                                    | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                                            | ** ** | **2004**              | ** ** | **2003** | ** ** |
| ** **                                                                    | ** ** | ** **            | ** ** | ** ** | ** ** |
| Costs  incurred on uncompleted contracts                                      |       | $                     | 20,083     |   | $ | 71,824 |   |
| Estimated  earnings recognized                                                |       | 12,015                |       | 77,782 |   |
| Total costs  and estimated earnings                                           |       | 32,098                |       | 149,606 |   |
| Less  billings to date                                                        |       | (34,263               | )          | (145,661 | ) |
| Net                                                                           |       | $                     | (2,165     | ) | $ | 3,945 |   |
|                                                                          |       |                  |       |   |   |
| Balance  sheet classification:                                                |       |                  |       |   |   |
| Asset –  Costs and estimated earnings in excess of billings              |       | $                     | 2,026      |   | $ | 4,057 |   |
| Liability –  Billings in excess of costs and estimated earnings (Note 9) |       | (4,191                | )          | (112 | ) |
| Net                                                                           |       | $                     | (2,165     | ) | $ | 3,945 |   |

 

F-25

----

 

**Note 6.**                                  Property and Equipment

 

Propertyand equipment includes the following as of December 31, 2004 and 2003:

 
| ** **                                               | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                       | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                                                     |       |                  |       |   |   |
| Land,  buildings and leasehold improvements              |       | $                     | 22,610     |   | $ | 22,251 |   |
| Machinery  and equipment                                 |       | 16,781                |       | 16,430 |   |
| Computer  equipment and software, furniture and fixtures |       | 16,195                |       | 15,700 |   |
| Tooling                                                  |       | 1,023                 |       | 1,001 |   |
| Total cost                                               |       | 56,609                |       | 55,382 |   |
| Accumulated  depreciation and amortization               |       | (29,044               | )          | (24,482 | ) |
| Net property  and equipment                              |       | $                     | 27,565     |   | $ | 30,900 |   |

 

Propertyand equipment under capital leases included above consists of the following asof December 31, 2004 and 2003:

 
| ** **                                               | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                       | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                                                     |       |                  |       |   |   |
| Land,  buildings and leasehold improvements              |       | $                     | 4,785      |   | $ | 4,785 |   |
| Machinery  and equipment                                 |       | 385                   |       | 385 |   |
| Computer  equipment and software, furniture and fixtures |       | 1,793                 |       | 1,756 |   |
| Total cost                                               |       | 6,963                 |       | 6,926 |   |
| Accumulated  depreciation and amortization               |       | (3,536                | )          | (3,065 | ) |
| Net property  and equipment                              |       | $                     | 3,427      |   | $ | 3,861 |   |

 

Depreciationof property and equipment under capital leases is included in depreciationexpense in the consolidated financial statements.

 

**Note 7.**                                  Goodwill

 

Thetable below summarizes the changes in the carrying amount of goodwill, bybusiness segment (Note 18), during the two years ended December 31, 2004.

 
| ** **                                | ** ** | **Continuing Operations** | ** ** | **Discontinued** | ** ** |
|-------------------------------------------|------------|---------------------------|------------|------------------|------------|
| ** **                                | ** ** | **Cabin**                 | ** ** | **Systems**      | ** ** | ** ** | ** ** | ** ** | ** ** | **Specialty** | ** ** |
| ** **                                | ** ** | **Management**            | ** ** | **Integration**  | ** ** | ** ** | ** ** | ** ** | ** ** | **Avionics** | ** ** |
| **(In thousands)**                        | ** ** | **Group**                 | ** ** | **Group**        | ** ** | **Corporate** | ** ** | **Total** | ** ** | **Group** | ** ** |
|                                      |       |                      |       |             |       |   |   |   |   |   |   |
| Balance, December 31,  2002          |       | $                         | 173,934    |             | $          | 20,782 |   | $ | 1,714 |   | $ | 196,430 |   | $ | 80,722 |   |
|                                      |       |                      |       |             |       |   |   |   |   |   |   |
| Impairment  charge                        |       | (34,000                   | )          | —           |       | — |   | (34,000 | ) | (7,500 | ) |
| Sale of  Specialty Avionics Group         |       | —                    |       | —           |       | — |   | — |   | (73,222 | ) |
| Balance, December 31,  2003 and 2004 |       | $                         | 139,934    |             | $          | 20,782 |   | $ | 1,714 |   | $ | 162,430 |   | $ | — |   |

 

Asdescribed in Note 3, on March 14, 2003, the Company entered into adefinitive agreement to sell its equity interests in the subsidiariescomprising its Specialty Avionics Group. Based upon the fair value of the group implied in the definitiveagreement, the Company determined that the carrying value of the group’s netassets was not fully recoverable.  As aresult, the Company recorded a goodwill impairment charge of $7,500,000 toreduce the carrying value to estimated net realizable value.

 

F-26

----

As aresult of weakness in the business, VIP and head-of-state aircraft market andthe Company’s decision to down-size a furniture manufacturing facility in thesecond quarter of fiscal 2003, the Company determined that it should reevaluatethe carrying value of its goodwill prior to the annual October 31sttesting date.  Accordingly, the Companyperformed an impairment test of the goodwill associated with its furnituremanufacturing reporting unit for recoverability and found the goodwill to beimpaired.  As a result, the Companyrecorded a pre-tax charge to operations of $34,000,000 during the three monthsended June 30, 2003.  The charge wasprimarily a result of a decrease in fair value caused by using lower cash flowforecasts based on the most recently reduced industry estimates of aircraftdeliveries resulting from overall industry weakness.  The annual impairment test on October 31,2003 and 2004 indicate that no additional impairment has occurred.

 

**Note 8.**                                  Other Assets, Principally Intangibles

** **

Otherassets are comprised of the following as of December 31, 2004 and 2003:

 
| ** **                                               | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                       | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                                                     |       |                  |       |   |   |
| Identifiable  intangible assets with finite useful lives |       | $                     | 21,805     |   | $ | 25,455 |   |
| Deferred  financing costs                                |       | 9,094                 |       | 11,812 |   |
| Other  non-amortizable assets                            |       | 556                   |       | 825 |   |
| Total other  assets                                      |       | $                     | 31,455     |   | $ | 38,092 |   |

 

Inconnection with the exchange of 12% senior subordinated notes for 17% seniordiscount notes described in Note 10, the Company recorded a noncash charge of$1,705,000 during the year ended December 31, 2004 to write-off deferredfinancing costs associated with the portion of the notes exchanged.

 

**Identifiable Intangible Assets with Finite UsefulLives**

** **

Identifiableintangible assets with finite useful lives are comprised of the following as ofDecember 31, 2004 and 2003:

 
| ** **                      | ** ** | **December 31, 2004** | ** ** | **December 31, 2003** | ** ** |
|---------------------------------|------------|----------------------------|------------|----------------------------|------------|
| ** **                      | ** ** | ** **                 | ** ** | **Accumulated**            | ** ** | ** ** | ** ** | ** ** | ** ** | **Accumulated** | ** ** | ** ** | ** ** |
| **(In thousands)**              | ** ** | **Cost**                   | ** ** | **Amortization**           | ** ** | **Net** | ** ** | **Cost** | ** ** | **Amortization** | ** ** | **Net** | ** ** |
|                            |       |                       |       |                       |       |   |   |   |   |   |   |   |   |
| FAA  certifications             |       | $                          | 22,272     |                       | $          | (7,707 | ) | $ | 14,565 |   | $ | 22,272 |   | $ | (6,222 | ) | $ | 16,050 |   |
| Engineering  drawings           |       | 7,645                      |       | (2,795                     | )          | 4,850 |   | 7,645 |   | (2,286 | ) | 5,359 |   |
| Other  identifiable intangibles |       | 11,345                     |       | (8,955                     | )          | 2,390 |   | 11,345 |   | (7,299 | ) | 4,046 |   |
| Total  identifiable intangibles |       | $                          | 41,262     |                       | $          | (19,457 | ) | $ | 21,805 |   | $ | 41,262 |   | $ | (15,807 | ) | $ | 25,455 |   |

 

Identifiableintangible assets with finite useful lives are amortized on a straight-linebasis over their estimated useful lives as follows: FAA certifications – 15years; engineering drawings – 15 years; and other identifiable intangibles –principally 7 to 12 years.  Estimatedannual amortization expense for all identifiable intangible assets with finiteuseful lives for the five-year period ending December 31, 2009 is asfollows: 2005 – $3,466,000; 2006 – $2,275,000; 2007 – $2,175,000; 2008 –$2,171,000; and 2009 – $2,164,000.

 

F-27

----

 

**Note 9.**                                  Accrued Liabilities

 

Accruedliabilities are comprised of the following as of December 31, 2004 and2003:

 
| ** **                                                                   | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                                           | ** ** | **2004**              | ** ** | **2003** | ** ** |
|                                                                         |       |                  |       |   |   |
| Salaries,  wages, compensated absences and payroll related taxes             |       | $                     | 5,043      |   | $ | 4,017 |   |
| Accrued  interest                                                            |       | 4,922                 |       | 4,969 |   |
| Billings in  excess of costs and estimated earnings on uncompleted contracts |       | 4,191                 |       | 112 |   |
| Current  portion of accrued product warranty obligations                     |       | 2,445                 |       | 2,064 |   |
| Customer  advances and deposits                                              |       | 1,992                 |       | 3,147 |   |
| Other  accrued liabilities                                                   |       | 5,064                 |       | 3,581 |   |
| Total  accrued liabilities                                                   |       | $                     | 23,657     |   | $ | 17,890 |   |

** **

**AccruedProduct Warranty Obligations**

 

Thefollowing table reflects the changes in the accrued product warranty obligationduring the three years ended December 31, 2004.

 
| ** **                                                     | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                             | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                           |       |                             |       |   |   |   |   |
| Accrual  activity during the year:                             |       |                             |       |   |   |   |   |
| Accrual at  beginning of the year                              |       | $                                | 3,584      |   | $ | 3,686 |   | $ | 2,642 |   |
| Accruals for  warranties issued during the period              |       | 2,102                            |       | 369 |   | 763 |   |
| Change in  accrual estimate related to pre-existing warranties |       | (220                             | )          | 518 |   | 481 |   |
| Settlements  made (in cash or in-kind) during the period       |       | (1,728                           | )          | (989 | ) | (200 | ) |
| Accrual at  end of the year                                    |       | $                                | 3,738      |   | $ | 3,584 |   | $ | 3,686 |   |
|                                                           |       |                             |       |   |   |   |   |
| Classification at end of the year:                             |       |                             |       |   |   |   |   |
| Current  liability                                             |       | $                                | 2,445      |   | $ | 2,064 |   | $ | 2,801 |   |
| Long-term  liability                                           |       | 1,293                            |       | 1,520 |   | 885 |   |
| Total                                                          |       | $                                | 3,738      |   | $ | 3,584 |   | $ | 3,686 |   |

 

F-28

----

 

**Note 10.**                           Long-Term Debt

 

Long-termdebt is comprised of the following amounts as of December 31, 2004 and2003:

 
| ** **                                                                   | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                                                           | ** ** | **2004**              | ** ** | **2003** | ** ** |
| First-lien  credit facility:                                                 |       |                  |       |   |   |
| Term debt                                                                    |       | $                     | 80,521     |   | $ | 80,521 |   |
| Revolving  line of credit                                                    |       | 12,550                |       | — |   |
| Second-lien  term debt                                                       |       | 82,526                |       | 80,067 |   |
| 17% senior  discount notes                                                   |       | 69,895                |       | — |   |
| 13.5% senior  unsecured promissory notes payable to related parties          |       | 5,000                 |       | — |   |
| Capital  lease obligations and other debt, secured by property and equipment |       | 7,662                 |       | 8,818 |   |
| 12% senior  subordinated notes                                               |       | 35,000                |       | 100,000 |   |
| Total  long-term debt                                                        |       | 293,154               |       | 269,406 |   |
| Less current  portion of long-term debt                                      |       | (1,314                | )          | (1,198 | ) |
| Long-term  debt, less current portion                                        |       | $                     | 291,840    |   | $ | 268,208 |   |

 

**First-LienCredit Facility**

** **

Thefirst-lien credit facility provides, through a syndicate of lenders, for termdebt borrowings in the initial principal amount of $290,000,000 and a revolvingline of credit for working capital and to finance acquisitions.  The revolving line of credit commitment is$24,000,000 as of December 31, 2004 and all borrowings under the revolvingfacility must be repaid by March 31, 2006. Term debt principal payments are due in increasing amounts commencing January 2006and continue through December 2007.

 

Loansunder the credit facility generally bear interest based on a margin over, atthe Company’s option, prime rate or LIBOR. The margins applicable to portions of amounts borrowed vary dependingupon the Company’s consolidated debt leverage ratio.  Currently, the applicable margins are 4.00%to 4.75% for prime rate borrowings and 5.25% to 6.00% for LIBORborrowings.  The weighted-averageinterest rate on all first-lien credit facility borrowings outstanding was7.68% as of December 31, 2004. Borrowings under this credit facility are secured by a first lien onsubstantially all of the assets of the Company. The Company is subject to certain commitment fees under the facility aswell as the maintenance of certain financial ratios, cash flow results andother restrictive covenants, including the payment of dividends in cash.  The Company was in compliance with all covenantsduring the year ended December 31, 2004.

 

As of December 31,2004, the Company had an irrevocable standby letter of credit in the amount of$263,000 issued and outstanding under the credit facility, which reducesborrowings available under the $24,000,000 revolving line credit.

 

In2003, as a result of first-lien credit facility debt repayments with the netproceeds from the sale of the Specialty Avionics Group and issuance ofsecond-lien term debt, the Company recorded noncash charges of $3,494,000 toreflect the write-off of deferred financing costs associated with thefirst-lien debt repaid.  In connectionwith debt repaid with the proceeds from the sale of the Specialty AvionicsGroup, $2,055,000 of such debt issuance costs were written off and arereflected in the loss from discontinued operations in 2003; the remaining$1,439,000 is reflected as a loss on the extinguishment of debt in 2003.

 

F-29

----

 

**Second-LienTerm Debt**

** **

Thesecond-lien debt, which is comprised of $70,000,000 of fixed rate debt and$10,000,000 of floating rate debt, matures on June 30, 2008.

 

Thefixed rate debt bears interest at 15%; 12% payable quarterly in cash and 3%pay-in-kind or “accreted” interest, payable at maturity.  The variable rate debt bears cash interest,at the Company’s option, at prime rate plus 7.5% or LIBOR plus 8.5%, plus 3%pay-in-kind interest.  The second-liendebt has an $82,526,000 accreted principal value and a weighted-averageinterest rate of 14.82% as of December 31, 2004.  The term debt is secured by a second lien onsubstantially all of the assets of the Company. The Company is subject to customary fees under the agreement as well asthe maintenance of certain financial ratios, cash flow results and othercovenants which are similar, but somewhat less restrictive than the covenantsin the first-lien credit facility.  TheCompany was in compliance with all covenants during the year ended December 31,2004.

 

**17%Senior Discount Notes**

** **

During2004, holders of $65,000,000 of the Company’s 12% senior subordinated notes dueSeptember 30, 2008 (the “existing notes”) exchanged their notes for new17% senior discount notes due September 30, 2008 (the “new notes”).  The new notes do not bear cash interest andhave an initial accreted value equal to the principal amount of the notesexchanged.  The new notes accrete invalue at a 17% annual rate and have a $69,895,000 accreted principal value asof December 31, 2004.  The new noteswill have a $128,772,000 aggregate accreted principal value at maturity.  The new notes are senior unsecuredobligations of the Company and are guaranteed by its subsidiaries.  Except for the changes in the interest rate,payment and ranking described above, the new notes have terms substantiallysimilar to those contained in the existing notes, although covenants limitingthe incurrence of indebtedness, the granting of liens and the making ofrestricted payments are more restrictive.

 

**13.5%Senior Unsecured Promissory Notes**

** **

In September 2004,the Company received the proceeds from the issuance of 13.5% senior unsecuredpromissory notes in the aggregate principal amount of $5,000,000 to a group ofrelated party investors (Note 17).  Thenotes were amended in March 2005 to extend the maturity date and are nowdue on March 31, 2006 with interest payable on December 31, 2005 and atmaturity (Note 20).  The notes containcovenants identical to those in the 17% senior discount notes.

 

F-30

----

 

**12%Senior Subordinated Notes**

** **

Thesenior subordinated notes mature on September 30, 2008 and interest ispayable semi-annually on March 30, and September 30, of eachyear.  The subordinated notes areunsecured general obligations of the Company and are subordinated in right ofpayment to substantially all existing and future senior indebtedness of theCompany, including the first-lien credit facility and second-lien termindebtedness and the 17% senior discount notes. Prior to maturity, the Company may redeem all or some of thesubordinated notes at defined redemption prices, which may include apremium.  In the event of a change incontrol, the holders may require the Company to repurchase the subordinatednotes for a redemption price that may also include a premium.  The Company is subject to restrictivecovenants, including the payment of dividends in cash.

 

**AggregateMaturities**

** **

Thetotal annual maturities of long-term debt outstanding as of December 31,2004 are as follows:

 
| **(In thousands)**            | ** ** | ** ** | ** ** | ** ** |
|-------------------------------|------------|------------|------------|------------|
|                          |       |       |       |       |
| Year ending December 31, |       |       |       |       |
| 2005                          |       | $          | 1,314      |       |
| 2006                          |       | 25,738     |       |
| 2007                          |       | 74,370     |       |
| 2008                          |       | 187,911    |       |
| 2009                          |       | 344        |       |
| 2010 and  thereafter          |       | 3,477      |       |
| Total  aggregate maturities   |       | $          | 293,154    |       |

 

See “Note 1 - Financial Condition and Liquidity” for information on theCompany’s plans for restructuring or replacing its first-lien credit facility.

 

F-31

----

 

**Note 11.**                           Mandatorily Redeemable Preferred Stock

 

Asmore fully described in “Note 1—Changes in Accounting Principles,” on January 1,2004 the Company adopted the provisions of SFAS No. 150, “Accounting forCertain Financial Instruments with Characteristics of both Liabilities andEquity.”  As a result of adopting SFASNo. 150, the 16% mandatorily redeemable preferred stock was reclassified as aliability and the quarterly dividends and redemption value accretion arereflected as charges against pre-tax income. In periods prior to January 1, 2004, these charges were deducted inarriving at the net income or loss applicable to the Company’s commonstockholder.

 

Thetable below summarizes mandatorily redeemable preferred stock issued during thethree years ended December 31, 2004.

 
| ** **                                                | ** ** | **Number** | ** ** | **Mandatory**  | ** ** | **Unamortized** | ** ** | **Net**   | ** ** |
|-----------------------------------------------------------|------------|------------|------------|----------------|------------|-----------------|------------|-----------|------------|
| ** **                                                | ** ** | **of**     | ** ** | **Redemption** | ** ** | **Issuance**    | ** ** | **Book**  | ** ** |
| **(In thousands, except share data)**                     | ** ** | **Shares** | ** ** | **Value**      | ** ** | **Discount**    | ** ** | **Value** | ** ** |
|                                                      |       |       |       |           |       |            |       |      |       |
| Balance, December 31,  2001                          |       | 250,000    |       | $              | 31,633     |            | $          | (3,393    | )          | $ | 28,240 |   |
|                                                      |       |       |       |           |       |            |       |      |       |
| Accrued  dividends and redemption value accretion         |       | —     |       | 5,373          |       | 468             |       | 5,841     |       |
| Balance, December 31,  2002                          |       | 250,000    |       | 37,006         |       | (2,925          | )          | 34,081    |       |
|                                                      |       |       |       |           |       |            |       |      |       |
| Accrued  dividends and redemption value accretion         |       | —     |       | 6,286          |       | 468             |       | 6,754     |       |
| Balance, December 31,  2003                          |       | 250,000    |       | 43,292         |       | (2,457          | )          | 40,835    |       |
|                                                      |       |       |       |           |       |            |       |      |       |
| Accrued  dividends and redemption value accretion         |       | —     |       | 4,011          |       | 264             |       | 4,275     |       |
| Write-off of  unamortized discount                        |       | —     |       | —         |       | 2,193           |       | 2,193     |       |
| Balance, December 31,  2004                          |       | 250,000    |       | $              | 47,303     |            | $          | —    |       | $ | 47,303 |   |
|                                                      |       |       |       |           |       |            |       |      |       |
| Per share  liquidation value as of December 31, 2004 |       |       |       |           |       |            |       | $         | 189.21     |   |

 

Priorto July 23, 2004, the Company was authorized to issue 700,000 shares of16% Senior Redeemable Exchangeable Preferred Stock Due 2009, $.01 parvalue.  On July 23, 2004, the termsof the preferred stock were amended and the 700,000 shares were re-designatedSenior Redeemable Exchangeable Preferred Stock due 2008, $.01 par value.  Upon the occurrence of a change in control,as defined, each holder has the right to require the Company to redeem all orpart of such holder’s shares at a price equal to 101% of the liquidationpreference, plus accrued and unpaid cash dividends.  The preferred stock is non-voting.

 

Inperiods prior to July 23, 2004, holders of the preferred stock wereentitled to receive dividends at a rate equal to 16% per annum.  Since the preferred stock issuance date on June 30,2000, the Company has not declared or paid any preferred stock dividends.  As a result, the unpaid dividends accreted tothe mandatory redemption value of the preferred stock.  On July 23, 2004 the terms of thepreferred stock were amended to provide that further preferred stock dividends,if any, accrue at rates dependent on a specified financial ratio or if certaintriggering events occur as described in more detail below.  All dividends accrued through the amendmentdate and future dividends, if any, are not payable until redemption.  The amendment accelerated the mandatoryredemption date from March 31, 2009 to December 31, 2008 and alsoadds several restrictive covenants.

 

F-32

----

 

Theholders of the preferred stock were issued 348,945 shares of DeCrane Holdingscommon stock in connection with the amendment. The common stock had a nominal fair market value on the issuance dateand was therefore recorded at its $0.01 per share par value as a capitalcontribution from DeCrane Holdings.  Inconnection with preferred stock restructuring, the Company recorded a noncashcharge of $2,193,000 in 2004 to write-off the unamortized issuance discountassociated with the initial issuance of the preferred stock.

 

Futurepreferred stock dividends, if any, are dependent, in part, upon a definedleverage ratio the Company achieves as of each quarterly testing date.  Depending on the ratio achieved, and providedcertain triggering events have not occurred, dividends for the succeedingquarter accrue at a 0%, 4% or 16% annual rate. If certain triggering events occur, such as failure to discharge anymandatory redemption obligations or comply with certain restrictive covenants,dividends accrue at a 16% annual rate. Based upon the leverage ratios achieved as of the September 30 and December 31,2004 quarterly testing dates, no dividends have or will accrue on the preferredstock from the amendment date through March 31, 2005, the next quarterlytesting date.

In March 2005,the Company sold 26,425 additional shares for its $189.21 per share liquidationvalue (Note 20).

 

**Note 12.**                           Income Taxes

 

Thecomponents of the loss before income taxes and cumulative effect of change inaccounting principle are as follows:

 
| ** **                                | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                        | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Reported by:                              |       |                             |       |   |   |   |   |
| Continuing  operations                    |       | $                                | (42,423    | ) | $ | (66,434 | ) | $ | (10,383 | ) |
| Discontinued  operations                  |       | —                           |       | (5,631 | ) | 1,901 |   |
| Total                                     |       | $                                | (42,423    | ) | $ | (72,065 | ) | $ | (8,482 | ) |
|                                      |       |                             |       |   |   |   |   |
| Taxed under  the following jurisdictions: |       |                             |       |   |   |   |   |
| Domestic                                  |       | $                                | (42,423    | ) | $ | (71,657 | ) | $ | (7,381 | ) |
| Foreign                                   |       | —                           |       | (408 | ) | (1,101 | ) |
| Total                                     |       | $                                | (42,423    | ) | $ | (72,065 | ) | $ | (8,482 | ) |

 

F-33

----

 

Theprovisions for income taxes (benefit) are as follows:

 
| ** **                      | ** ** | **Year Ended December 31,** | ** ** |
|---------------------------------|------------|----------------------------------|------------|
| **(In thousands)**              | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                      | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Current:                        |       |                             |       |   |   |   |   |
| U.S. federal                    |       | $                                | —     |   | $ | (1,548 | ) | $ | — |   |
| State and  local                |       | 100                              |       | 295 |   | 255 |   |
| Foreign                         |       | —                           |       | (82 | ) | 67 |   |
| Total  current                  |       | 100                              |       | (1,335 | ) | 322 |   |
|                            |       |                             |       |   |   |   |   |
| Deferred:                       |       |                             |       |   |   |   |   |
| U.S. federal                    |       | —                           |       | (6,112 | ) | (144 | ) |
| State and  local                |       | —                           |       | (5,131 | ) | 463 |   |
| Foreign                         |       | —                           |       | — |   | (287 | ) |
| Total  deferred                 |       |                             |       | (11,243 | ) | 32 |   |
|                            |       |                             |       |   |   |   |   |
| Total  provision:               |       |                             |       |   |   |   |   |
| U.S. federal                    |       | —                           |       | (7,660 | ) | (144 | ) |
| State and  local                |       | 100                              |       | (4,836 | ) | 718 |   |
| Foreign                         |       | —                           |       | (82 | ) | (220 | ) |
| Total  provision                |       | $                                | 100        |   | $ | (12,578 | ) | $ | 354 |   |
|                            |       |                             |       |   |   |   |   |
| Allocation  of total provision: |       |                             |       |   |   |   |   |
| Continuing  operations          |       | $                                | 100        |   | $ | (13,496 | ) | $ | (3,621 | ) |
| Discontinued  operations        |       | —                           |       | 918 |   | 3,975 |   |
| Total  provision                |       | $                                | 100        |   | $ | (12,578 | ) | $ | 354 |   |

 

Theprovision for income taxes differs from the amount of income tax determined byapplying the applicable U.S. statutory federal rate to the income (loss) beforeincome taxes and cumulative effect of change in accounting principle as aresult of the following differences:

 
| ** **                                                                                                    | ** ** | **Year Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                                                                            | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                                                                    | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Income tax  (benefit) at U.S. statutory rates                                                                 |       | $                                | (14,848    | ) | $ | (25,223 | ) | $ | (2,969 | ) |
| Tax effect  of increases (decreases) resulting from:                                                          |       |                             |       |   |   |   |   |
| Book benefit  not provided for operating loss carryforwards                                                   |       | 14,701                           |       | 12,402 |   | — |   |
| Amortization  of assets, preferred stock dividends and other expenses not deductible for  income tax purposes |       | 1,571                            |       | 3,422 |   | 2,927 |   |
| State income  taxes, net of federal benefit                                                                   |       | (671                             | )          | (3,143 | ) | 467 |   |
| Other, net                                                                                                    |       | (653                             | )          | (36 | ) | (71 | ) |
| Income tax  (benefit) at effective rates                                                                      |       | $                                | 100        |   | $ | (12,578 | ) | $ | 354 |   |

 

F-34

----

 

Deferredtax assets and (liabilities) are comprised of the following as of December 31,2004 and 2003:

 
| ** **                                     | ** ** | **December 31,** | ** ** |
|------------------------------------------------|------------|-----------------------|------------|
| **(In thousands)**                             | ** ** | **2004**              | ** ** | **2003** | ** ** |
| ** **                                     | ** ** | ** **            | ** ** | ** ** | ** ** |
| Gross  deferred tax assets:                    |       |                  |       |   |   |
| Loss  carryforwards                            |       | $                     | 38,458     |   | $ | 23,471 |   |
| Accrued  liabilities                           |       | 5,448                 |       | 3,670 |   |
| Inventory                                      |       | 3,160                 |       | 2,920 |   |
| Other                                          |       | 1,065                 |       | 1,165 |   |
| Gross  deferred tax assets                     |       | 48,131                |       | 31,226 |   |
|                                           |       |                  |       |   |   |
| Gross  deferred tax (liabilities):             |       |                  |       |   |   |
| Intangible  assets                             |       | (13,598               | )          | (10,902 | ) |
| Other                                          |       | (304                  | )          | (796 | ) |
| Gross  deferred tax (liabilities)              |       | (13,902               | )          | (11,698 | ) |
|                                           |       |                  |       |   |   |
| Net deferred  asset before valuation allowance |       | 34,229                |       | 19,528 |   |
| Net deferred  tax asset valuation allowance    |       | (34,229               | )          | (19,528 | ) |
| Net deferred  tax liability                    |       | $                     | —     |   | $ | — |   |

 

As of December 31,2004, the Company had a net deferred tax asset of $34,229,000, prior torecording the valuation allowance.  Asrequired by SFAS No. 109, the Company evaluated its deferred assets forexpected recoverability based on the nature of the item, the associated taxingjurisdictions, the applicable expiration dates and future taxable incomeforecasts that would impact utilization. Since there is no loss carry back potential and the Company does nothave any tax planning strategies to assure recoverability, the only possibilityfor recovery of the net deferred assets is future taxable income.  Since there have been prior year losses, theCompany believes it is not prudent to rely on future income as the means tosupport the carrying value of the net asset. As a result of the evaluation, the Company increased its valuationallowance by $14,701,000 during the year ended December 31, 2004,eliminating the net deferred asset, as of December 31, 2004.

 

TheCompany had a net deferred tax liability of $16,556,000 as of December 31,2002.  The full realization of thedeferred tax assets was achieved through the reversal of the deferred tax liabilitiesin future periods.  As a result, avaluation allowance was not required for periods ending on or prior to December 31,2002.

 

As of December 31,2004, the Company has total loss carryforwards of approximately $94,834,000 forfederal income tax purposes and $74,653,000 for state income tax purposes.  The loss carryforwards are not subject tolimitations on their annual utilization (“Section 382 limitation,” asdefined in the Internal Revenue Code) and therefore are available forutilization in 2004 and future periods. The federal and state loss carryforwards expire in varying amountscommencing in 2012 and continuing through 2024.

 

F-35

----

 

**Note 13.**                           Capital Structure

** **

**CommonStock**

** **

DeCraneAircraft has 100 shares ($.01 par value) issued and outstanding as of December 31,2004 and 2003.  All of the shares areowned by DeCrane Holdings, DeCrane Aircraft’s parent company.

 

During2002, DeCrane Aircraft received additional cash capital contributions from DeCraneHoldings aggregating $5,000,000 resulting from DeCrane Holdings’ sale ofcapital stock.  The proceeds were used tofund working capital requirements.  Alsoduring 2002, DeCrane Holdings repurchased and canceled 18,743 common sharesfrom former members of the Company’s management.  The former management members also elected toexercise 9,252 vested stock options on a cashless basis.  The $14,000 income tax benefit associatedwith the stock options exercised was also credited to additional paid-incapital.  In connection with therepurchase, a note receivable collateralized by the repurchased common stockwas repaid.  The Company returned$368,000 of paid-in capital to DeCrane Holdings to fund its cash requirementsfor these transactions.

 

Inconnection with the 2004 DeCrane Aircraft preferred stock amendment (Note 11),DeCrane Holdings issued shares of its common stock to the preferredstockholders.  The common stock had anominal fair market value on the issuance date and was therefore recorded atits $0.01 per share par value by DeCrane Holdings; the issuance is reflected asa capital contribution from DeCrane Holdings.

 

**NotesReceivable for Shares Sold**

** **

During1998 and 1999, DeCrane Holdings sold mandatorily redeemable preferred andcommon stock in three transactions in which one-half of the purchase price waspaid in cash and one-half was loaned to the purchasers by DeCrane Aircraft,with interest at the then applicable federal rates.  The loans bear interest at rates rangingbetween 4.33% and 5.74%.  The loans, plusaccrued interest, are payable upon the sale of the stock and are collateralizedby such stock.  The resulting notesreceivable, plus accrued interest, are classified as a reduction of stockholder’sequity in the consolidated statement of financial position.

 

Thethree transactions, which were based on the fair market value of the underlyingsecurities as determined by the Board of Directors, resulted in loans forone-half of the total purchase price, were as follows:

 

•                  in December 1998, a group of related party investors (Note 17)purchased mandatorily redeemable preferred and common stock for $704,000;

 

•                  in October 1999, the same group of investors purchased additionalshares of common stock for $250,000; and

 

•                  in December 1999, DeCrane Aircraft management employees purchasedcommon stock for $3,940,000.

 

During2002, a note receivable totaling $200,000, plus accrued interest, was repaid inconnection with the repurchase of the common stock collateralizing the notereceivable.  During 2003 and 2004,several DeCrane Aircraft management employees surrendered 152,882 shares ofcommon stock.  In accordance with theterms of the notes evidencing the loans, the Company canceled the notes.  The cancellation of the notes, whichaggregated $1,471,000 in 2003 and $722,000 in 2004, including accrued interest,was charged to additional paid-in capital.

 

F-36

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**Note 14.**   Commitments and Contingencies

 

**Litigation**

 

The Company and its subsidiaries are involvedin routine legal and administrative proceedings incident to the normal conductof business.  Management believes theultimate disposition of all such matters will not have a material adverseeffect on the Company’s business, consolidated financial position, results ofoperations or cash flows.

 

**LeaseCommitments**

 

The Company leases some of its facilities andequipment under capital and operating leases. Some of the leases require payment of property taxes and includeescalation clauses.  Future minimumcapital and operating lease commitments under non-cancelable leases are asfollows as of December 31, 2004:

 
| **(In  thousands)**                            | ** ** | **Capital****Leases** | ** ** | **Operating****Leases** | ** ** |
|------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|
|                                           |       |                  |       |                    |       |
| Year ending December 31,                  |       |                  |       |                    |       |
| 2005                                           |       | $                     | 789        |                    | $          | 2,629 |   |
| 2006                                           |       | 695                   |       | 2,291                   |       |
| 2007                                           |       | 531                   |       | 1,711                   |       |
| 2008                                           |       | 386                   |       | 927                     |       |
| 2009                                           |       | 311                   |       | 948                     |       |
| 2010 and  thereafter                           |       | 1,311                 |       | 3,533                   |       |
| Total  minimum payments required               |       | 4,023                 |       | $                       | 12,039     |   |
| Less amount  representing future interest cost |       | (1,072                | )          |                    |       |
| Recorded  obligation under capital leases      |       | $                     | 2,951      |                    |       |   |

 

Total rental expense charged to operations was$2,347,000 for the year ended December 31, 2004, $2,911,000 for the yearended December 31, 2003 and $3,083,000 for the year ended December 31,2002.

 

**Fundingof DeCrane Holdings Preferred Stock Obligations**

 

The Company is a wholly owned subsidiary of DeCraneHoldings whose capital structure also includes mandatorily redeemable preferredstock.  Since the Company is DeCraneHoldings’ only operating subsidiary and source of cash, the Company may berequired to fund DeCrane Holdings’ preferred stock dividend and redemptionobligations in the future.

 

Preferred stock dividends, if any, are dependent uponthe leverage ratio (as defined) achieved as of each quarterly testingdate.  Depending on the ratio achieved,dividends for the succeeding quarter accrue at a 0%, 3.5% or 14% annualrate.  Based upon the leverage ratio asof December 31, 2004, no dividends will accrue on the preferred stockduring the three months ending March 31, 2005, the next quarterly testingdate.  All future dividends, if any, arenot payable until September 30, 2009, the mandatory preferred stockredemption date.  The DeCrane Holdingspreferred stock has a total redemption value of $77,172,000 as of December 31,2004, including accumulated dividends.

 

F-37

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**Note 15.**   Consolidated Statements of Cash Flows

 

Thefollowing information supplements the Company’s consolidated statements of cashflows.

 
| ** **                                                                           | ** ** | **Year Ended December 31,** | ** ** |
|--------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In  thousands)**                                                                  | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                 |       |                             |       |   |   |   |   |
| Components  of cash paid for acquisitions:                                           |       |                             |       |   |   |   |   |
| Contingent  consideration paid for previously completed acquisitions                 |       | $                                | —     |   | $ | 600 |   | $ | 5,826 |   |
| Additional  acquisition related expenses                                             |       | —                           |       | 6 |   | 64 |   |
| Total cash  paid for acquisitions                                                    |       | $                                | —     |   | $ | 606 |   | $ | 5,890 |   |
|                                                                                 |       |                             |       |   |   |   |   |
| Noncash  investing and financing transactions:                                       |       |                             |       |   |   |   |   |
| 12% senior  subordinated notes redeemed by the issuance of 17% senior discount notes |       | $                                | 65,000     |   | $ | — |   | $ | — |   |
| Interest  accrued during the period:                                                 |       |                             |       |   |   |   |   |
| Long-term  debt interest accretion                                                   |       | 7,354                            |       | 67 |   | — |   |
| Loans to  stockholders for the purchase of capital stock                             |       | 75                               |       | 148 |   | 123 |   |
| Mandatorily  redeemable preferred stock:                                             |       |                             |       |   |   |   |   |
| 16%  preferred stock dividends accreted to liquidation value                         |       | 4,011                            |       | 6,286 |   | 5,373 |   |
| Redemption  value accretion                                                          |       | 264                              |       | 468 |   | 468 |   |
| Capital  expenditures financed with capital lease obligations                        |       | 42                               |       | 14 |   | 67 |   |
| Additional  acquisition contingent consideration earned and recorded as a liability  |       | —                           |       | — |   | 600 |   |

 

In years prior to the year ended December 31,2002, companies were acquired in transactions in which the sellers wereentitled to contingent consideration payments based upon their respectivelevels of attainment of defined performance criteria.  Contingent consideration earned, if any, waspayable during the first quarter of the following year.  Based upon the levels of attainment of thedefined performance criteria during the year ended December 31, 2002, theCompany recorded contingent consideration payable of $600,000 in 2002 resultingin a corresponding increase in goodwill. There are no further contingent consideration payment obligationsremaining.

 

F-38

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**Note 16.**   Employee Benefit Plans

 

**StockBased Incentive Compensation**

 

*ManagementIncentive Stock Option Plan*

* *

DeCrane Holding’s Board of Directors has approved amanagement incentive plan which provides for the issuance of options topurchase the common stock of DeCrane Holdings as incentive compensation todesignated executive personnel and other key employees of the Company and itssubsidiaries.  The Compensation Committeeof the Board of Directors of DeCrane Holdings administers the plan and makes adetermination as to any options to be granted. The plan provides for the granting of options to purchase a maximum of356,257 common shares prior to expiration in 2009.  The options are granted at fair market valueat the date of grant.  Substantially allof the options awarded become fully vested and exercisable eight years from thedate of grant but vesting can be accelerated based upon future attainment ofdefined performance criteria.  Inaddition, the Compensation Committee may authorize alternate vestingschedules.  The plan also provides forthe acceleration of vesting upon the occurrence of certain events, including,under certain circumstances, a change of control.

 

During 2002, options to purchase 15,000 shares, withvesting over a three year period from the grant date, were granted under theplan and no additional shares from prior year grants vested based on therequired year 2002 performance criteria. During 2003 and 2004, no options were granted under the plan and no additionalshares from prior year grants vested based on the required year 2003 and 2004performance criteria.

 

The per share exercise price of the options grantedwas equal to the fair market value of the common stock on each of the grantdates and, accordingly, no compensation expense was recognized during the threeyears ended December 31, 2004.

 

*IncentiveStock Options Granted to Others*

* *

In July 1999, a group of related party investors,including two individuals who were then serving as directors, were grantedoptions as compensation for consulting services.  Options were granted to purchase 44,612shares of DeCrane Holdings common stock at an exercise price of $23.00 pershare, equal to the fair market value of the common stock on the grantdate.  The options, which vested over athree-year period, are fully vested as of December 31, 2004 and expire in2009.

 

F-39

----

 

*Summaryof All Stock Options*

* *

The following table summarizes all stock optionactivity during the three years ended December 31, 2004.

 
| ** **                                    | ** ** | **Year Ended December 31,** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|
| ** **                                    | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                    | ** ** | **Number  of  Shares**           | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Number  of  Shares** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Number  of  Shares** |   | **Weighted-  Average  Exercise  Price** |   |
|                                          |       |                             |       |   |   |   |   |   |   |   |   |   |   |
| Options  outstanding at beginning of the year |       | 284,127                          |       | $ | 23.97 |   | 338,073 |   | $ | 24.37 |   | 363,353 |   | $ | 24.82 |   |
| Granted                                       |       | —                           |       |   |   | — |   | — |   | 15,000 |   | 27.00 |   |
| Exercised                                     |       | —                           |       |   |   | — |   | — |   | (9,252 | ) | 23.00 |   |
| Canceled                                      |       | (16,032                          | )          | 26.74 |   | (53,946 | ) | 26.45 |   | (31,028 | ) | 31.32 |   |
| Options  outstanding at end of the year       |       | 268,095                          |       | 23.81 |   | 284,127 |   | 23.97 |   | 338,073 |   | 24.37 |   |
|                                          |       |                             |       |   |   |   |   |   |   |   |   |   |   |
| Options  exercisable at end of the year       |       | 122,394                          |       | 23.50 |   | 125,185 |   | 23.56 |   | 138,546 |   | 23.66 |   |
|                                               |            |                                  |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

As of December 31, 2004, options to purchase123,522 common shares remained available for grant under the ManagementIncentive Stock Option Plan.  Thefollowing table summarizes information about stock options outstanding andstock options exercisable as of December 31, 2004.

 
| ** **                 | ** ** | **All Options Outstanding**                           | ** ** | **Number  of Shares  Exercisable  as of  December 31,  2004** | ** ** |
|----------------------------|------------|-------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| ** **                 | ** ** | **Number  of Shares  as of  December 31,  2004** | ** ** | **Weighted-Average  Remaining  Contractual Life**                  |
|                       |       |                                                  |       |                                                               |       |   |   |
| Per share  exercise price: |       |                                                  |       |                                                               |       |   |   |
| $23.00                     |       | 245,049                                               |       | 4.93 years                                                         |       | 113,989 |   |
| $27.00                     |       | 7,500                                                 |       | 7.34 years                                                         |       | 5,000 |   |
| $35.00                     |       | 15,546                                                |       | 5.93 years                                                         |       | 3,405 |   |
| Total                      |       | 268,095                                               |       | 5.05 years                                                         |       | 122,394 |   |

 

For compensatory stock options granted tonon-employees, the Company recognized compensation expense of $138,000 for theyear ended December 31, 2002.

 

For non-compensatory stock options granted toemployees, the Company uses APB Opinion No. 25 to account for stock-basedcompensation and, accordingly, no compensation expense was recognized duringthe three years ended December 31, 2004. The Company has adopted the disclosure-only provisions of SFASNo. 123, as amended by SFAS No. 148 (Note 1).  For the purposes of the pro forma disclosurepresented in Note 1, the estimated fair value of the options is amortized overthe options’ vesting period.  The effectof applying SFAS No. 123 may not be representative of the pro forma effectin future years since additional options may be granted during those futureyears.

 

F-40

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The fair value of the options was determined using thefollowing assumptions:

 
| ** **                                                        | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|-------------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
|                                                              |       |     |       |     |       |     |       |
| Compensatory  options (1):                                        |       |     |       |     |       |     |       |
| Risk free  interest rates                                         |       | —   |       | —   |       | 5.13     | %          |
| Expected  dividend yield                                          |       | —   |       | —   |       | —   |       |
| Expected  life                                                    |       | —   |       | —   |       | 10 years |       |
| Expected  stock price volatility                                  |       | —   |       | —   |       | —   |       |
|                                                              |       |     |       |     |       |     |       |
| Non-compensatory  options granted to employees and directors (2): |       |     |       |     |       |     |       |
| Risk free  interest rates                                         |       | —   |       | —   |       | —   |       |
| Expected  dividend yield                                          |       | —   |       | —   |       | —   |       |
| Expected  life                                                    |       | —   |       | —   |       | —   |       |
| Weighted-average  fair value of options granted (per share)       |       | $        | —     |     | $          | —   |       | $ | 10.96 |   |
|                                                                   |            |          |            |          |            |          |            |  |  |  |

 

----

(1)                                  Using the Black Scholes option valuationmodel.

 

(2)                                  Using the minimum value method.

 

The Black-Scholes option valuation model was developedfor use in estimating the fair value of traded options that have no vestingrestrictions and are fully transferable. In addition, option valuation models require the input of highlysubjective assumptions including the expected stock price volatility.  Because the Company’s employee stock optionshave characteristics significantly different from those of traded options, andbecause changes in the subjective input assumptions can materially affect thefair value estimate, in management’s opinion, the existing models, as well asthe minimum value method, do not necessarily provide a reliable single measureof its employee stock options.  TheCompany determines the fair value of its common shares as of any givenperiod-end date based on the aggregate enterprise value of DeCrane Holdings.  Enterprise value is computed based upon a multipleof Adjusted EBITDA, as reflected in its financial statements, and the multipleis based upon comparable data from other publicly-held companies as well aspublicly available information on privately-held companies.

 

The minimum value method, which is an acceptablemethod for non-public companies, excludes stock price volatility.

 

**401(k)Retirement Plan**

 

Substantially all domestic employees are eligible toparticipate in one of the 401(k) retirement plans the Company sponsors, whichare defined contribution plans satisfying the requirements of the EmployeeRetirement Income Security Act of 1974. The Company’s expense related to its matching contributions to theseplans totaled $492,000 for the year ended December 31, 2004 and $1,007,000for the year ended December 31, 2002. No matching contributions were made during the year ended December 31,2003.

 

F-41

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**Note 17.**   Related Party Transactions and Investors’ Agreement

 

**RelatedParty Transactions**

 

The Company’s transactions with related partiesincluded in the consolidated financial statements are summarized in the tablebelow.

 
| ** **                                                        | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In  thousands)**                                               | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                              |       |                             |       |   |   |   |   |
| CSFB / DLJ:                                                       |       |                             |       |   |   |   |   |
| 13.5% senior  unsecured promissory notes:                         |       |                             |       |   |   |   |   |
| Principal  amount borrowed and payable at end of period           |       | $                                | 5,000      |   | $ | — |   | $ | — |   |
| Interest  earned during the period                                |       | 178                              |       | — |   | — |   |
| Interest  accrued and payable at end of the period                |       | 36                               |       | — |   | — |   |
| Transaction  and advisory fees and expenses                       |       | 1,738                            |       | 9,375 |   | 1,627 |   |
| Management  fees:                                                 |       |                             |       |   |   |   |   |
| Charged to  operations during the period                          |       | 350                              |       | 350 |   | 350 |   |
| Payable as  of period end                                         |       | 350                              |       | — |   | 125 |   |
|                                                              |       |                             |       |   |   |   |   |
| Global  Technology Partners, LLC:                                 |       |                             |       |   |   |   |   |
| Promissory  notes receivable as of period end, including interest |       | 621                              |       | 594 |   | 567 |   |
|                                                              |       |                             |       |   |   |   |   |
| DeCrane  Aircraft Senior Vice President:                          |       |                             |       |   |   |   |   |
| Lease payments for  facilities                                    |       | 865                              |       | 859 |   | 842 |   |
| Each related party is described below                             |       |                             |       |   |   |   |   |
|                                                                   |            |                                  |            |  |  |  |  |  |  |  |

 

*CSFB/ DLJ*

* *

DLJ Merchant Banking Partners II, L.P. and affiliatedfunds own 96.8% of DeCrane Holdings common stock and 99.3% of its preferredstock as well as 80.0% of DeCrane Aircraft’s preferred stock, all on a fullydiluted basis.  DLJ Merchant BankingPartners II, L.P. and affiliated funds are indirect affiliates of Credit SuisseFirst Boston.

 

DLJ is represented on the Board of Directors of bothDeCrane Holdings and DeCrane Aircraft. CSFB is paid fees for serving as the syndication agent and, commencingin 2003, administrative agent for the lenders providing DeCrane Aircraft’sfirst-lien credit facility and second-lien term debt.  CSFB also received customary fees andreimbursement of expenses for serving as DeCrane Aircraft’s financial advisorsfor the sale of the Specialty Avionics Group in 2003 and the restructuring ofits 12% senior subordinated notes and preferred stock in 2004.

 

*GlobalTechnology Partners, LLC*

* *

Members of Global Technology own 0.7% of DeCraneHoldings common stock and 0.7% of its preferred stock, all on a fully dilutedbasis, and had two members on the Company’s Board of Directors from August 1998through July 2000.  DeCrane Aircraftloaned one-half of the purchase price for such shares to the members at ratesranging between 4.33% and 5.44%.  Theloans, plus accrued interest, are payable from the proceeds from the sale ofthe stock and are collateralized by such stock.

 

 

F-42

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** **

*DeCraneAircraft Senior Vice President*

 

Donald GZerbe, a DeCrane Aircraft Senior Vice President and Group President, and hisspouse are 50.25% owners of Maize Avenue, Inc., the remaining interest is ownedby another member of Mr. Zerbe’s immediate family.  Two of DeCrane Aircraft’s subsidiaries leasereal property from Maize Avenue.

** **

**Investors’Agreement**

 

Investors owing 96.8% of DeCrane Holdings’ issued andoutstanding common stock and common stock warrants and options, all of DeCraneHoldings’ preferred stock and all of DeCrane Aircraft’s preferred and commonstock, have entered into an Amended and Restated Investors’ Agreement, dated October 6,2000, among DeCrane Holdings Co., DLJ Merchant Banking Partners II, L.P. andaffiliated funds and entities, Putnam Investment Management, Inc. andaffiliated funds and entities and all management investors.  Investors who own DeCrane Holdings’ warrantsto purchase 159,794 shares of common stock are not parties to the Investors’Agreement.  The agreement provides that:

 

•                  The parties to the agreement shall vote their shares to cause DLJMerchant Banking Partners, II, L.P. to select all members of the Board ofDirectors of DeCrane Holdings and DeCrane Aircraft, thereby giving them controlover the Company’s operations.  At leastone of such directors on each board shall be an independent director.

 

•                  Transfers of the shares by the parties to the agreement are restricted.

 

•                  Parties to the agreement may participate in some specific kinds ofsales of shares by DLJ affiliates.

 

•                  DLJ affiliates may require the other parties to the agreement to sellshares of DeCrane Holdings’ common stock in some cases should the DLJaffiliates choose to sell any such shares owned by them.

 

•                  The DLJ affiliates may request six demand registrations with respect toall or any of the DeCrane Holdings common stock, preferred stock and Class Awarrants to purchase 155,000 common shares held by those affiliates, which areimmediately exercisable subject to customary deferral and cutback provisions.

 

•                  The holders of Class B warrants to purchase 139,357 shares of DeCraneHoldings common stock may request two demand registrations together with all orany common stock held by them, which are immediately exercisable subject tocustomary deferral and cutback provisions.

 

•                  The parties to the agreement are entitled to unlimited piggybackregistration rights, subject to customary cutback provisions, and excludingregistrations of shares issuable in connection with any employee stock options,employee benefit plan or an acquisition.

 

•                  DeCrane Holdings will indemnify the stockholders against someliabilities and expenses, including liabilities under the Securities Act.

 

•                  Any person acquiring shares of common stock or preferred stock who isrequired by the terms of the Investors’ Agreement or any employment agreementor stock purchase, option, stock option or other compensation plan to become aparty thereto shall execute an agreement to become bound by the Investors’Agreement.

 

F-43

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**Note 18.**   Business Segment Information

 

TheCompany supplies products and services to the business, VIP and head-of-stateaircraft market within the aerospace industry. The Company’s subsidiaries are organized into two groups, each of whichis a strategic business that develops, manufactures and sells distinct productsand services.  The groups and a descriptionof their businesses are as follows:

 

•                  *Cabin Management –* manufactures interior cabin components,including cabin interior furnishings, cabin management systems, seating andcomposite components;

 

•                  *Systems Integration –* manufactures auxiliary fuel systems andauxiliary power units, provides system integration services, provides aircraftcompletion and refurbishment services and is a Boeing Business Jet authorizedcompletion and service center.

 

In prior periods, the Company’s Specialty AvionicsGroup was a third strategic business for which segment information wasprovided.  As a result of the sale of theSpecialty Avionics Group, this group is reflected as a discontinued operationand segment information for prior periods has been restated to exclude thegroup.

 

Management utilizes more than one measurement toevaluate group performance and allocate resources; however, managementconsiders Adjusted EBITDA, as defined, to be the primary measurement of a group’soverall core economic performance and return on invested capital.  Management also uses Adjusted EBITDA in theCompany’s annual budget and planning process for future periods, as one of thedecision-making criteria for funding discretionary capital expenditures andproduct development programs and as the measure in determining the value ofacquisitions and dispositions.  The boardof directors uses Adjusted EBITDA as one of the performance metrics fordetermining the amount of bonuses awarded pursuant to the Company’s cashincentive bonus plan and as an indicator of enterprise value used indetermining the exercise price of stock options granted and the acceleration ofstock option vesting pursuant to the Company’s incentive stock option plan.

 

Management defines Adjusted EBITDA as earnings, determinedusing program accounting for product development costs, before interest, incometaxes, depreciation and amortization, restructuring, asset impairment and otherrelated charges, acquisition related charges not capitalized and other noncashand nonoperating charges.  Managementbelieves the presentation of this measure is relevant and useful to investorsbecause it allows investors and analysts to view group performance in a mannersimilar to the method used by management, helps improve their ability tounderstand the Company’s core segment performance, adjusted for itemsmanagement believes are unusual, and makes it easier to compare the Company’sresults with other companies that have different financing, capital structuresand tax rates.  In addition, managementbelieves these measures are consistent with the manner in which its lenders andinvestors measure the Company’s overall performance and liquidity, includingits ability to service debt and fund discretionary capital expenditure andproduct development programs.

 

F-44

----

 

The financial measure Adjusted EBITDA, as defined,excludes certain charges reflected in the Company’s financial statements whichare prepared in accordance with accounting principles generally accepted in theUnited States of America (“GAAP”). However, the Company’s presentation of Adjusted EBITDA is in accordancewith the GAAP requirements of SFAS No. 131, “Disclosures about Segments of anEnterprise and Related Information,” which requires the Company to report theprimary measure of segment performance used by management to evaluate andmanage its businesses.  The Company’smethod of calculating Adjusted EBITDA may not be consistent with that of othercompanies and should be viewed in conjunction with measurements that arecomputed in accordance GAAP, such as net income (loss), the nearest comparableGAAP financial measure.  A reconciliationof Adjusted EBITDA to net income (loss) is included herein to clarify thedifferences between these financial measures.

 

The accounting policies of the groups aresubstantially the same as those described in the summary of significantaccounting policies (Note 1).  Sometransactions are recorded at the Company’s corporate headquarters and are notallocated to the groups, such as most of the Company’s cash and cashequivalents, debt and related net interest expense, corporate headquarterscosts and income taxes.

 

**Summaryof Business by Segment**

 
| ** **                                | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------|------------|----------------------------------|------------|
| **(In  thousands)**                       | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                      |       |                             |       |   |   |   |   |
| Revenues:                                 |       |                             |       |   |   |   |   |
| Cabin  Management                         |       | $                                | 158,607    |   | $ | 119,000 |   | $ | 172,832 |   |
| Systems  Integration                      |       | 57,997                           |       | 51,687 |   | 58,051 |   |
| Inter-group  elimination (1)              |       | (2,918                           | )          | (578 | ) | (1,042 | ) |
| Consolidated  totals                      |       | $                                | 213,686    |   | $ | 170,109 |   | $ | 229,841 |   |
|                                      |       |                             |       |   |   |   |   |
| Revenues  from significant customers (2): |       |                             |       |   |   |   |   |
| Cabin  Management                         |       | $                                | 84,408     |   | $ | 50,297 |   | $ | 94,014 |   |
| Systems  Integration                      |       | 21,723                           |       | 28,508 |   | 35,388 |   |
| Consolidated  totals                      |       | $                                | 106,131    |   | $ | 78,805 |   | $ | 129,402 |   |
|                                      |       |                             |       |   |   |   |   |
| Adjusted  EBITDA (as defined):            |       |                             |       |   |   |   |   |
| Cabin  Management                         |       | $                                | 22,412     |   | $ | 17,102 |   | $ | 32,644 |   |
| Systems  Integration                      |       | 12,346                           |       | 13,336 |   | 18,084 |   |
| Corporate  (3)                            |       | (5,509                           | )          | (5,488 | ) | (6,072 | ) |
| Inter-group  elimination (4)              |       | 3                                |       | 110 |   | 9 |   |
| Consolidated  totals                      |       | 29,252                           |       | 25,060 |   | 44,665 |   |
| Reconciling  items (5)                    |       | (71,775                          | )          | (98,383 | ) | (110,651 | ) |
| Net loss                                  |       | $                                | (42,523    | ) | $ | (73,323 | ) | $ | (65,986 | ) |
|                                      |       |                             |       |   |   |   |   |
| Depreciation  and amortization:           |       |                             |       |   |   |   |   |
| Cabin  Management                         |       | $                                | 6,466      |   | $ | 6,335 |   | $ | 6,695 |   |
| Systems  Integration                      |       | 2,879                            |       | 2,770 |   | 2,956 |   |
| Corporate                                 |       | 393                              |       | 676 |   | 961 |   |
| Consolidated  totals (6)                  |       | $                                | 9,738      |   | $ | 9,781 |   | $ | 10,612 |   |

 

----

The notes appear on the next page.

 

F-45

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**Summaryof Business by Geographical Area**

 
| ** **                                                 | ** ** | **Year Ended December 31,** | ** ** |
|------------------------------------------------------------|------------|----------------------------------|------------|
| **(In thousands)**                                         | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                       |       |                             |       |   |   |   |   |
| Total assets  (as of period end):                          |       |                             |       |   |   |   |   |
| Cabin  Management                                          |       | $                                | 231,822    |   | $ | 224,116 |   | $ | 281,655 |   |
| Systems  Integration                                       |       | 56,115                           |       | 58,395 |   | 62,437 |   |
| Corporate  (7)                                             |       | 12,095                           |       | 21,456 |   | 44,247 |   |
| Inter-group  elimination (8)                               |       | (39                              | )          | (91 | ) | (113 | ) |
| Continuing  operations                                     |       | 299,993                          |       | 303,876 |   | 388,226 |   |
| Discontinued  operations (Specialty Avionics)              |       | —                           |       | — |   | 160,741 |   |
| Consolidated  totals                                       |       | $                                | 299,993    |   | $ | 303,876 |   | $ | 548,967 |   |
|                                                       |       |                             |       |   |   |   |   |
| Capital  expenditures:                                     |       |                             |       |   |   |   |   |
| Cabin Management                                           |       | $                                | 2,622      |   | $ | 4,216 |   | $ | 3,829 |   |
| Systems  Integration                                       |       | 578                              |       | 555 |   | 478 |   |
| Corporate                                                  |       | 52                               |       | 26 |   | 49 |   |
| Consolidated  totals (9)                                   |       | $                                | 3,252      |   | $ | 4,797 |   | $ | 4,356 |   |
|                                                       |       |                             |       |   |   |   |   |
| Consolidated  net revenues to unaffiliated customers (10): |       |                             |       |   |   |   |   |
| United  States                                             |       | $                                | 206,183    |   | $ | 159,052 |   | $ | 222,401 |   |
| Mexico                                                     |       | 7,503                            |       | 11,057 |   | 7,440 |   |
| Consolidated  totals                                       |       | $                                | 213,686    |   | $ | 170,109 |   | $ | 229,841 |   |
|                                                       |       |                             |       |   |   |   |   |
| Consolidated  long-lived assets (11):                      |       |                             |       |   |   |   |   |
| United  States                                             |       | $                                | 25,920     |   | $ | 28,786 |   | $ | 34,420 |   |
| Mexico                                                     |       | 1,645                            |       | 2,114 |   | 1,719 |   |
| Consolidated  totals                                       |       | $                                | 27,565     |   | $ | 30,900 |   | $ | 36,139 |   |

 

----

**Notes**

 

(1)                                  Inter-groupsales are accounted for at prices comparable to sales to unaffiliatedcustomers, and are eliminated in consolidation.

 

(2)                                  Twocustomers each accounted for more than 10% of the Company’s consolidatedrevenues during 2004 while three customers each accounted for more than 10%during 2003 and 2002 as shown in the table below.  Complete loss of any of these customers couldhave a significant adverse impact on the results of operations expected infuture periods.

 
| ** **           | ** ** | **Year Ended December 31,** | ** ** |
|----------------------|------------|----------------------------------|------------|
| **(In  thousands)**  | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                 |       |                             |       |   |   |   |   |   |   |   |
| Textron              |       | $                                | 43,483     |   | $ | 27,578 |   | $ | 54,017 |   |
| Bombardier           |       | 42,309                           |       | 21,412 |   | 39,958 |   |
| Boeing               |       | 20,339                           |       | 29,815 |   | 35,427 |   |
| Consolidated  totals |       | $                                | 106,131    |   | $ | 78,805 |   | $ | 129,402 |   |
|                      |            |                                  |            |  |  |  |  |  |  |  |  |

 

All operating groups derived revenues fromeach of the customers during each of the years in the three years ended December 31.2003.  Boeing exceeds 10% for 2002 and2003; 2004 data is included for comparability.

 

(3)                                  Reflectsthe Company’s corporate headquarters costs and expenses not allocated to thegroups.

 

F-46

----

 

(4)                                  Reflectselimination of the effect of inter-group profits in inventory.

 

(5)                                  AdjustedEBITDA (as defined) excludes the following charges reflected in the Company’sfinancial statements which are prepared in accordance with generally acceptedaccounting principles:

 
| ** **                                                                                                             | ** ** | **Year Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In  thousands)**                                                                                                    | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                                   |       |                             |       |   |   |   |   |   |   |   |
| Depreciation  and amortization of long-lived assets (6)                                                                |       | $                                | 9,738      |   | $ | 9,781 |   | $ | 10,612 |   |
| Restructuring,  asset impairment and other related charges                                                             |       | 8,615                            |       | 41,886 |   | 17,255 |   |
| Adjustment  to reflect program costs as research and development expenses and  nonrecurring program start-up costs (a) |       | 7,635                            |       | 10,440 |   | — |   |
| Other cash  and noncash charges                                                                                        |       | 88                               |       | 784 |   | 1,300 |   |
| Interest  expense                                                                                                      |       | 37,146                           |       | 26,219 |   | 25,376 |   |
| Mandatorily  redeemable preferred stock dividends                                                                      |       | 4,011                            |       | — |   | — |   |
| Loss on  extinguishment of debt                                                                                        |       | 3,898                            |       | 1,439 |   | — |   |
| Other  expenses, net                                                                                                   |       | 544                              |       | 945 |   | 505 |   |
| Income tax  provision (benefit)                                                                                        |       | 100                              |       | (13,496 | ) | (3,621 | ) |
| Loss from  discontinued operations, net of tax                                                                         |       | —                           |       | 6,621 |   | 41,396 |   |
| Cumulative  effect of change in accounting principle                                                                   |       | —                           |       | 13,764 |   | 17,828 |   |
| Total  reconciling items                                                                                               |       | $                                | 71,775     |   | $ | 98,383 |   | $ | 110,651 |   |
|                                                                                                                        |            |                                  |            |  |  |  |  |  |  |  |  |

 

----

(a)                      Under program accounting, which theCompany is required to use for determining covenant compliance under its creditagreements, certain product development and nonrecurring program start-up costsincurred in connection with specific contracted programs are deferred andcharged to cost of sales as revenues related to the program arerecognized.  For financial reportingpurposes, these costs are charged to expense as incurred.  This adjustment reflects the net differencebetween these two methods of accounting.

 

As more fully described in “Note 1—Changes inAccounting Principles,” the Company elected to discontinue the use of programaccounting for financial reporting purpose effective January 1, 2003.  Since program accounting was used forfinancial reporting purposes for the year ended December 31, 2002, noadjustment is required for that year.

 

(6)                                  Reflectsdepreciation and amortization of long-lived assets, other intangible assets anddeferred financing costs, which are classified as a component of interestexpense, as follows:

 
| ** **                                          | ** ** | **Year Ended December 31,** | ** ** |
|-----------------------------------------------------|------------|----------------------------------|------------|
| **(In  thousands)**                                 | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                |       |                             |       |   |   |   |   |   |   |   |
| Depreciation  and amortization of long-lived assets |       | $                                | 9,738      |   | $ | 9,781 |   | $ | 10,612 |   |
| Amortization  of deferred financing costs           |       | 3,154                            |       | 2,808 |   | 2,692 |   |
| Consolidated  depreciation and amortization         |       | $                                | 12,892     |   | $ | 12,589 |   | $ | 13,304 |   |
|                                                     |            |                                  |            |  |  |  |  |  |  |  |  |

 

(7)                                  Reflectsthe Company’s corporate headquarters assets, excluding investments in and notesreceivable from subsidiaries.

 

(8)                                  Reflectselimination of inter-group receivables and profits in inventory as of periodend.

 

F-47

----

 

(9)                                  Reflectscapital expenditures paid in cash. Excludes capital expenditures financed with capital lease obligations of$14,000 for the year ended December 31, 2003 and $67,000 for the yearended December 31, 2002; no capital expenditures were financed withcapital lease obligations during 2004.

 

(10)                            Allocatedon the basis of the location of the subsidiary originating the sale.

 

(11)                            Allocatedon the basis of the location of the subsidiary and consists of the Company’sproperty and equipment.  Corporatelong-lived assets are included with the United States assets.

 

**Note 19.**   Supplemental Condensed Consolidating FinancialInformation

 

In conjunction with the 12% subordinated notesdescribed in Note 10, the following condensed consolidating financialinformation is presented segregating the Company, as the issuer, and theguarantor and non-guarantor subsidiaries. The accompanying financial information in the guarantor subsidiariescolumn reflects the financial position, results of operations and cash flowsfor those subsidiaries guaranteeing the notes. The non-guarantor subsidiaries are companies within the SpecialtyAvionics Group which was sold in May 2003 and therefore are classified as acomponent of discontinued operations.

 

The guarantor subsidiaries are wholly-ownedsubsidiaries of the Company and their guarantees are full and unconditional ona joint and several basis.  There are norestrictions on the ability of the guarantor subsidiaries to transfer funds tothe issuer in the form of cash dividends, loans or advances.  Separate financial statements of theguarantor subsidiaries are not presented because management believes that suchfinancial statements would not be material to investors.  Investments in subsidiaries in the followingcondensed consolidating financial information are accounted for under the equitymethod of accounting.  Consolidatingadjustments include the following:

 

(1)                      Eliminationof investments in subsidiaries.

 

(2)                      Eliminationof intercompany accounts.

 

(3)                      Eliminationof equity in earnings of subsidiaries.

 

F-48

----

**Balance Sheets**

 
| ** **                                        | ** ** | **December 31, 2004** | ** ** |
|---------------------------------------------------|------------|----------------------------|------------|
| **(In  thousands)**                               | ** ** | **Issuer**                 | ** ** | **Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** | ** ** |
| ** **                                        |       |                       |       |   |   |   |   |   |   |
| **Assets**                                        |       |                       |       |   |   |   |   |   |   |
|                                              |       |                       |       |   |   |   |   |   |   |
| Current  assets:                                  |       |                       |       |   |   |   |   |   |   |
| Cash and  cash equivalents                        |       | $                          | 622        |   | $ | 357 |   | $ | — |   | $ | 979 |   |
| Accounts  receivable, net                         |       | —                     |       | 25,367 |   | — |   | 25,367 |   |
| Inventories                                       |       | —                     |       | 51,253 |   | — |   | 51,253 |   |
| Other  current assets                             |       | 33                         |       | 911 |   | — |   | 944 |   |
| Total  current assets                             |       | 655                        |       | 77,888 |   | — |   | 78,543 |   |
|                                              |       |                       |       |   |   |   |   |   |   |
| Property and  equipment, net                      |       | 746                        |       | 26,819 |   | — |   | 27,565 |   |
| Other  assets, principally goodwill               |       | 10,694                     |       | 183,191 |   | — |   | 193,885 |   |
| Investments  in subsidiaries                      |       | 77,758                     |       | — |   | (77,758 | )(1) | — |   |
| Intercompany  receivables                         |       | 223,068                    |       | 55,307 |   | (278,375 | )(2) | — |   |
| Total assets                                      |       | $                          | 312,921    |   | $ | 343,205 |   | $ | (356,133 | ) | $ | 299,993 |   |
|                                              |       |                       |       |   |   |   |   |   |   |
| **Liabilities  and Stockholder’s Deficit**   |       |                       |       |   |   |   |   |   |   |
|                                              |       |                       |       |   |   |   |   |   |   |
| Current  liabilities:                             |       |                       |       |   |   |   |   |   |   |
| Current  portion of long-term debt                |       | $                          | 48         |   | $ | 1,266 |   | $ | — |   | $ | 1,314 |   |
| Other  current liabilities                        |       | 8,932                      |       | 31,391 |   | — |   | 40,323 |   |
| Total  current liabilities                        |       | 8,980                      |       | 32,657 |   | — |   | 41,637 |   |
|                                              |       |                       |       |   |   |   |   |   |   |
| Long-term  debt, less current portion             |       | 285,538                    |       | 6,302 |   | — |   | 291,840 |   |
| Mandatorily  redeemable preferred stock           |       | 47,303                     |       | — |   | — |   | 47,303 |   |
| Intercompany  payables                            |       | 55,307                     |       | 223,068 |   | (278,375 | )(2) | — |   |
| Other  long-term liabilities                      |       | 3,300                      |       | 3,420 |   | — |   | 6,720 |   |
|                                              |       |                       |       |   |   |   |   |   |   |
| Stockholder’s  deficit:                      |       |                       |       |   |   |   |   |   |   |
| Paid-in  capital                                  |       | 111,648                    |       | 151,492 |   | (151,492 | )(1) | 111,648 |   |
| Accumulated  deficit                              |       | (199,155                   | )          | (73,734 | ) | 73,734 | (1) | (199,155 | ) |
| Total stockholder’s  deficit                 |       | (87,507                    | )          | 77,758 |   | (77,758 | ) | (87,507 | ) |
| Total  liabilities and stockholder’s deficit |       | $                          | 312,921    |   | $ | 343,205 |   | $ | (356,133 | ) | $ | 299,993 |   |

 

F-49

----

 
| ** **                                                                                | ** ** | **December 31, 2003** | ** ** |
|-------------------------------------------------------------------------------------------|------------|----------------------------|------------|
| **(In  thousands)**                                                                       | ** ** | **Issuer**                 | ** ** | **Guarantor  Subsidiaries** | ** ** | **Consolidated  Adjustments** | ** ** | **Consolidating  Total** |   |
| ** **                                                                                |       |                       |       |   |   |   |   |   |   |
| **Assets**                                                                                |       |                       |       |   |   |   |   |   |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| Current  assets:                                                                          |       |                       |       |   |   |   |   |   |   |
| Cash and  cash equivalents                                                                |       | $                          | 6,540      |   | $ | 396 |   | $ | — |   | $ | 6,936 |   |
| Accounts  receivable, net                                                                 |       | —                     |       | 21,455 |   | — |   | 21,455 |   |
| Inventories                                                                               |       | —                     |       | 42,981 |   | — |   | 42,981 |   |
| Other  current assets                                                                     |       | 254                        |       | 828 |   | — |   | 1,082 |   |
| Total  current assets                                                                     |       | 6,794                      |       | 65,660 |   | — |   | 72,454 |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| Property and  equipment, net                                                              |       | 1,047                      |       | 29,853 |   | — |   | 30,900 |   |
| Other  assets, principally goodwill                                                       |       | 13,615                     |       | 186,907 |   | — |   | 200,522 |   |
| Investments  in subsidiaries                                                              |       | 85,668                     |       | — |   | (85,668 | )(1) | — |   |
| Intercompany  receivables                                                                 |       | 261,631                    |       | 100,642 |   | (362,273 | )(2) | — |   |
| Total assets                                                                              |       | $                          | 368,755    |   | $ | 383,062 |   | $ | (447,941 | ) | $ | 303,876 |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| **Liabilities,  Mandatorily Redeemable Preferred Stock and Stockholder’s Deficit**   |       |                       |       |   |   |   |   |   |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| Current  liabilities:                                                                     |       |                       |       |   |   |   |   |   |   |
| Current  portion of long-term debt                                                        |       | $                          | 11         |   | $ | 1,187 |   | $ | — |   | $ | 1,198 |   |
| Other  current liabilities                                                                |       | 8,532                      |       | 24,820 |   | — |   | 33,352 |   |
| Total current  liabilities                                                                |       | 8,543                      |       | 26,007 |   | — |   | 34,550 |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| Long-term  debt, less current portion                                                     |       | 260,654                    |       | 7,554 |   | — |   | 268,208 |   |
| Intercompany  payables                                                                    |       | 100,642                    |       | 261,631 |   | (362,273 | )(2) | — |   |
| Other  long-term liabilities                                                              |       | 2,994                      |       | 2,470 |   | — |   | 5,464 |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| Mandatorily  redeemable preferred stock                                                   |       | 40,835                     |       | — |   | — |   | 40,835 |   |
|                                                                                      |       |                       |       |   |   |   |   |   |   |
| Stockholder’s  deficit:                                                              |       |                       |       |   |   |   |   |   |   |
| Paid-in  capital                                                                          |       | 111,719                    |       | 151,492 |   | (151,492 | )(1) | 111,719 |   |
| Accumulated  deficit                                                                      |       | (156,632                   | )          | (65,824 | ) | 65,824 | (1) | (156,632 | ) |
| Accumulated  other comprehensive loss                                                     |       | —                     |       | (268 | ) | — |   | (268 | ) |
| Total  stockholder’s deficit                                                         |       | (44,913                    | )          | 85,400 |   | (85,668 | ) | (45,181 | ) |
| Total  liabilities, mandatorily redeemable preferred stock and stockholder’s deficit |       | $                          | 368,755    |   | $ | 383,062 |   | $ | (447,941 | ) | $ | 303,876 |   |

 

F-50

----

 

**Statements of Operations**

 
| ** **                                        | ** ** | **Year Ended December 31, 2004** | ** ** |
|---------------------------------------------------|------------|---------------------------------------|------------|
| **(In  thousands)**                               | ** ** | **Issuer**                            | ** ** | **Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** | ** ** |
|                                              |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Revenues                                          |       | $                                     | —     |   | $ | 213,686 |   | $ | — |   | $ | 213,686 |   |
| Cost of  sales                                    |       | —                                |       | 169,160 |   | — |   | 169,160 |   |
|                                              |       |                                  |       |   |   |   |   |   |   |
| Gross profit                                      |       | —                                |       | 44,526 |   | — |   | 44,526 |   |
|                                              |       |                                  |       |   |   |   |   |   |   |
| Operating  and other expenses (income):           |       |                                  |       |   |   |   |   |   |   |
| Selling,  general and administrative expenses     |       | 6,678                                 |       | 23,019 |   | — |   | 29,697 |   |
| Research and  development expenses                |       | —                                |       | 8,003 |   | — |   | 8,003 |   |
| Amortization  of intangible assets                |       | —                                |       | 3,650 |   | — |   | 3,650 |   |
| Interest  expense                                 |       | 36,407                                |       | 739 |   | — |   | 37,146 |   |
| Mandatorily  redeemable preferred stock dividends |       | 4,011                                 |       | — |   | — |   | 4,011 |   |
| Loss on  extinguishment of debt                   |       | 3,898                                 |       | — |   | — |   | 3,898 |   |
| Intercompany  charges                             |       | (22,038                               | )          | 22,038 |   | — |   | — |   |
| Equity in  loss of subsidiaries                   |       | 7,910                                 |       | — |   | (7,910 | )(3) | — |   |
| Other  expenses, net                              |       | 436                                   |       | 108 |   | — |   | 544 |   |
| Income tax  provision (benefit)                   |       | 5,221                                 |       | (5,121 | ) | — |   | 100 |   |
| Total  operating and other expenses, net          |       | 42,523                                |       | 52,436 |   | (7,910 | ) | 87,049 |   |
|                                              |       |                                  |       |   |   |   |   |   |   |
| Net loss                                          |       | $                                     | (42,523    | ) | $ | (7,910 | ) | $ | 7,910 |   | $ | (42,523 | ) |

 

F-51

----

 
| ** **                                           | ** ** | **Year Ended December 31, 2003** | ** ** |
|------------------------------------------------------|------------|---------------------------------------|------------|
| **(In  thousands)**                                  | ** ** | **Issuer**                            | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** | ** ** |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Revenues                                             |       | $                                     | —     |   | $ | 170,109 |   | $ | — |   | $ | — |   | $ | 170,109 |   |
| Cost of  sales                                       |       | —                                |       | 131,539 |   | — |   | — |   | 131,539 |   |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Gross profit                                         |       | —                                |       | 38,570 |   | — |   | — |   | 38,570 |   |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Operating  and other expenses (income):              |       |                                  |       |   |   |   |   |   |   |   |   |
| Selling,  general and administrative expenses        |       | 6,948                                 |       | 21,362 |   | — |   | — |   | 28,310 |   |
| Research and  development expenses                   |       | —                                |       | 10,440 |   | — |   | — |   | 10,440 |   |
| Impairment  of goodwill                              |       | —                                |       | 34,000 |   | — |   | — |   | 34,000 |   |
| Amortization  of intangible assets                   |       | —                                |       | 3,651 |   | — |   | — |   | 3,651 |   |
| Interest  expense                                    |       | 25,708                                |       | 511 |   | — |   | — |   | 26,219 |   |
| Loss on  extinguishment of debt                      |       | 1,439                                 |       | — |   | — |   | — |   | 1,439 |   |
| Intercompany  charges                                |       | (25,819                               | )          | 25,819 |   | — |   | — |   | — |   |
| Equity in  loss of subsidiaries                      |       | 41,640                                |       | 218 |   | — |   | (41,858 | )(3) | — |   |
| Other  expenses, net                                 |       | 466                                   |       | 479 |   | — |   | — |   | 945 |   |
| Income tax  provision (benefit)                      |       | 9,177                                 |       | (22,673 | ) | — |   | — |   | (13,496 | ) |
| Loss from  discontinued operations                   |       | —                                |       | 6,403 |   | 218 |   | — |   | 6,621 |   |
| Cumulative  effect of change in accounting principle |       | 13,764                                |       | 13,764 |   | — |   | (13,764 | ) | 13,764 |   |
| Total  operating and other expenses, net             |       | 73,323                                |       | 93,974 |   | 218 |   | (55,622 | ) | 111,893 |   |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Net loss                                             |       | $                                     | (73,323    | ) | $ | (55,404 | ) | $ | (218 | ) | $ | 55,622 |   | $ | (73,323 | ) |

 

F-52

----

 
| ** **                                           | ** ** | **Year Ended December 31, 2002** | ** ** |
|------------------------------------------------------|------------|---------------------------------------|------------|
| **(In  thousands)**                                  | ** ** | **Issuer**                            | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** | ** ** |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Revenues                                             |       | $                                     | —     |   | $ | 229,841 |   | $ | — |   | $ | — |   | $ | 229,841 |   |
| Cost of  sales                                       |       | —                                |       | 164,175 |   | — |   | — |   | 164,175 |   |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Gross profit                                         |       | —                                |       | 65,666 |   | — |   | — |   | 65,666 |   |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Operating  and other expenses (income):              |       |                                  |       |   |   |   |   |   |   |   |   |
| Selling,  general and administrative expenses        |       | 11,206                                |       | 35,366 |   | — |   | — |   | 46,572 |   |
| Research and  development expenses                   |       | —                                |       | 56 |   | — |   | — |   | 56 |   |
| Amortization  of intangible assets                   |       | —                                |       | 3,540 |   | — |   | — |   | 3,540 |   |
| Interest  expense                                    |       | 20,583                                |       | 4,793 |   | — |   | — |   | 25,376 |   |
| Intercompany  charges                                |       | (24,309                               | )          | 24,309 |   | — |   | — |   | — |   |
| Equity in  loss of subsidiaries                      |       | 39,489                                |       | 9,535 |   | — |   | (49,024 | )(3) | — |   |
| Other  expenses, net                                 |       | 495                                   |       | 10 |   | — |   | — |   | 505 |   |
| Income tax  provision (benefit)                      |       | 694                                   |       | (4,315 | ) | — |   | — |   | (3,621 | ) |
| Loss from  discontinued operations                   |       | —                                |       | 31,861 |   | 9,535 |   | — |   | 41,396 |   |
| Cumulative  effect of change in accounting principle |       | 17,828                                |       | 16,344 |   | — |   | (16,344 | ) | 17,828 |   |
| Total  operating and other expenses, net             |       | 65,986                                |       | 121,499 |   | 9,535 |   | (65,368 | ) | 131,652 |   |
|                                                 |       |                                  |       |   |   |   |   |   |   |   |   |
| Net loss                                             |       | $                                     | (65,986    | ) | $ | (55,833 | ) | $ | (9,535 | ) | $ | 65,368 |   | $ | (65,986 | ) |

 

F-53

----

 

**Statements of Cash Flows**

 
| ** **                                            | ** ** | **Year Ended December 31,  2004** | ** ** |
|-------------------------------------------------------|------------|----------------------------------------|------------|
| **(In  thousands)**                                   | ** ** | **Issuer**                             | ** ** | **Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** | ** ** |
| ** **                                            |       |                                   |       |   |   |   |   |   |   |
| **Cash  flows from operating activities:**            |       |                                   |       |   |   |   |   |   |   |
| Net loss                                              |       | $                                      | (42,523    | ) | $ | (7,910 | ) | $ | 7,910 | (3) | $ | (42,523 | ) |
| Noncash  adjustments:                                 |       |                                   |       |   |   |   |   |   |   |
| Equity in  loss of subsidiaries                       |       | 7,910                                  |       | — |   | (7,910 | )(3) | — |   |
| Other  noncash adjustments                            |       | 18,990                                 |       | 12,753 |   | — |   | 31,743 |   |
| Changes in  working capital                           |       | (5,638                                 | )          | (520 | ) | — |   | (6,158 | ) |
| Net cash  provided by (used for) operating activities |       | (21,261                                | )          | 4,323 |   | — |   | (16,938 | ) |
|                                                  |       |                                   |       |   |   |   |   |   |   |
| **Cash  flows from investing activities:**            |       |                                   |       |   |   |   |   |   |   |
| Capital  expenditures                                 |       | (52                                    | )          | (3,200 | ) | — |   | (3,252 | ) |
| Proceeds  from sale of property and equipment         |       | —                                 |       | 18 |   | — |   | 18 |   |
| Net cash  used for investing activities               |       | (52                                    | )          | (3,182 | ) | — |   | (3,234 | ) |
|                                                  |       |                                   |       |   |   |   |   |   |   |
| **Cash  flows from financing activities:**            |       |                                   |       |   |   |   |   |   |   |
| Debt  borrowings:                                     |       |                                   |       |   |   |   |   |   |   |
| Promissory  notes                                     |       | 5,000                                  |       | — |   | — |   | 5,000 |   |
| Revolving  line of credit, net                        |       | 12,550                                 |       | — |   | — |   | 12,550 |   |
| Debt  repayments:                                     |       |                                   |       |   |   |   |   |   |   |
| Other  secured long-term debt                         |       | (18                                    | )          | (1,180 | ) | — |   | (1,198 | ) |
| Deferred  financing costs                             |       | (2,137                                 | )          | — |   | — |   | (2,137 | ) |
| Net cash  provided by (used for) financing activities |       | 15,395                                 |       | (1,180 | ) | — |   | 14,215 |   |
| Net increase  (decrease) in cash and equivalents      |       | (5,918                                 | )          | (39 | ) | — |   | (5,957 | ) |
| Cash and  equivalents at beginning of period          |       | 6,540                                  |       | 396 |   | — |   | 6,936 |   |
|                                                  |       |                                   |       |   |   |   |   |   |   |
| Cash and  equivalents at end of period                |       | $                                      | 622        |   | $ | 357 |   | $ | — |   | $ | 979 |   |

 

F-54

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| ** **                                                          | ** ** | **Year Ended December 31, 2003** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------------|------------|
| **(In  thousands)**                                                 | ** ** | **Issuer**                            | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** | ** ** |
| ** **                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| **Cash  flows from operating activities of continuing operations:** |       |                                  |       |   |   |   |   |   |   |   |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net loss                                                            |       | $                                     | (73,323    | ) | $ | (55,404 | ) | $ | (218 | ) | $ | 55,622 | (3) | $ | (73,323 | ) |
| Noncash  adjustments:                                               |       |                                  |       |   |   |   |   |   |   |   |   |
| Cumulative  effect of change in accounting principle                |       | 13,764                                |       | 13,764 |   | — |   | (13,764 | ) | 13,764 |   |
| Loss from  discontinued operations                                  |       | —                                |       | 6,403 |   | 218 |   | — |   | 6,621 |   |
| Equity in  loss of subsidiaries                                     |       | 41,640                                |       | 218 |   | — |   | (41,858 | )(3) | — |   |
| Other  noncash adjustments                                          |       | (6,835                                | )          | 47,397 |   | — |   | — |   | 40,562 |   |
| Changes in  working capital                                         |       | 3,441                                 |       | (10,153 | ) | — |   | — |   | (6,712 | ) |
| Net cash  provided by (used for) operating activities               |       | (21,313                               | )          | 2,225 |   | — |   | — |   | (19,088 | ) |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Cash  flows from investing activities of continuing operations:** |       |                                  |       |   |   |   |   |   |   |   |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net proceeds  from sale of Specialty Avionics Group                 |       | 132,223                               |       | — |   | — |   | — |   | 132,223 |   |
| Proceeds  from sale of property and equipment                       |       | 855                                   |       | 2,353 |   | — |   | — |   | 3,208 |   |
| Capital  expenditures                                               |       | (26                                   | )          | (4,771 | ) | — |   | — |   | (4,797 | ) |
| Cash paid  for acquisitions                                         |       | (606                                  | )          | — |   | — |   | — |   | (606 | ) |
| Net cash  provided by (used for) investing activities               |       | 132,446                               |       | (2,418 | ) | — |   | — |   | 130,028 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Cash  flows from financing activities of continuing operations:** |       |                                  |       |   |   |   |   |   |   |   |   |
| ** **                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| Debt  borrowings:                                                   |       |                                  |       |   |   |   |   |   |   |   |   |
| Second-lien  term debt                                              |       | 80,000                                |       | — |   | — |   | — |   | 80,000 |   |
| Debt  repayments:                                                   |       |                                  |       |   |   |   |   |   |   |   |   |
| Revolving  line of credit, net                                      |       | (6,000                                | )          | — |   | — |   | — |   | (6,000 | ) |
| First-lien  debt                                                    |       | (183,679                              | )          | — |   | — |   | — |   | (183,679 | ) |
| Other  secured long-term debt                                       |       | (643                                  | )          | (1,233 | ) | — |   | — |   | (1,876 | ) |
| Deferred  financing costs                                           |       | (6,614                                | )          | — |   | — |   | — |   | (6,614 | ) |
| Net cash  used for financing activities                             |       | (116,936                              | )          | (1,233 | ) | — |   | — |   | (118,169 | ) |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net cash  provided by discontinued operations                       |       | —                                |       | 1,744 |   | — |   | — |   | 1,744 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net increase  (decrease) in cash and equivalents                    |       | (5,803                                | )          | 318 |   | — |   | — |   | (5,485 | ) |
| Cash and  equivalents at beginning of period                        |       | 12,343                                |       | 78 |   | — |   | — |   | 12,421 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Cash and  equivalents at end of period                              |       | $                                     | 6,540      |   | $ | 396 |   | $ | — |   | $ | — |   | $ | 6,936 |   |

 

F-55

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|                                                                |       | **Year Ended December 31, 2002** |       |
|---------------------------------------------------------------------|------------|---------------------------------------|------------|
| **(In  thousands)**                                                 | ** ** | **Issuer**                            | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-Guarantor  Subsidiaries** | ** ** | **Consolidating  Adjustments** | ** ** | **Consolidated  Total** |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Cash  flows from operating activities of continuing operations:** |       |                                  |       |   |   |   |   |   |   |   |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net loss                                                            |       | $                                     | (65,986    | ) | $ | (55,833 | ) | $ | (9,535 | ) | $ | 65,368 | (3)  | $ | (65,986 | ) |
| Noncash  adjustments:                                               |       |                                  |       |   |   |   |   |   |   |   |   |
| Cumulative  effect of change in accounting principle                |       | 17,828                                |       | 16,344 |   | — |   | (16,344 | ) | 17,828 |   |
| Loss from  discontinued operations                                  |       | —                                |       | 31,861 |   | 9,535 |   | — |   | 41,396 |   |
| Equity in  loss of subsidiaries                                     |       | 39,489                                |       | 9,535 |   | — |   | (49,024 | )(3) | — |   |
| Other  noncash adjustments                                          |       | 4,058                                 |       | 21,502 |   | — |   | — |   | 25,560 |   |
| Changes in  working capital                                         |       | 28,171                                |       | (35,249 | ) | — |   | — |   | (7,078 | ) |
| Net cash  provided by (used for) operating activities               |       | 23,560                                |       | (11,840 | ) | — |   | — |   | 11,720 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| **Cash  flows from investing activities of continuing operations:** |       |                                  |       |   |   |   |   |   |   |   |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Cash paid  for acquisitions, net of cash acquired                   |       | (5,890                                | )          | — |   | — |   | — |   | (5,890 | ) |
| Capital  expenditures                                               |       | (49                                   | )          | (4,307 | ) | — |   | — |   | (4,356 | ) |
| Net cash  used for investing activities                             |       | (5,939                                | )          | (4,307 | ) | — |   | — |   | (10,246 | ) |
| ** **                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| **Cash  flows from financing activities of continuing operations:** |       |                                  |       |   |   |   |   |   |   |   |   |
| ** **                                                          |       |                                  |       |   |   |   |   |   |   |   |   |
| Capital  contribution, net                                          |       | 5,000                                 |       | — |   | — |   | — |   | 5,000 |   |
| Debt  borrowings:                                                   |       |                                  |       |   |   |   |   |   |   |   |   |
| Other  secured long-term debt                                       |       | —                                |       | 1,145 |   | — |   | — |   | 1,145 |   |
| Debt  repayments:                                                   |       |                                  |       |   |   |   |   |   |   |   |   |
| First-lien  debt                                                    |       | (11,506                               | )          | — |   | — |   | — |   | (11,506 | ) |
| Revolving  line of credit, net                                      |       | (6,000                                | )          | — |   | — |   | — |   | (6,000 | ) |
| Other  secured long-term debt                                       |       | (389                                  | )          | (1,639 | ) | — |   | — |   | (2,028 | ) |
| Deferred  financing costs                                           |       | (1,656                                | )          | — |   | — |   | — |   | (1,656 | ) |
| Return of  capital                                                  |       | (368                                  | )          | — |   | — |   | — |   | (368 | ) |
| Net cash  used for financing activities                             |       | (14,919                               | )          | (494 | ) | — |   | — |   | (15,413 | ) |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net cash  provided by discontinued operations                       |       | —                                |       | 16,882 |   | — |   | — |   | 16,882 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Net increase  in cash and equivalents                               |       | 2,702                                 |       | 241 |   | — |   | — |   | 2,943 |   |
| Cash and  equivalents at beginning of period                        |       | 9,641                                 |       | (163 | ) | — |   | — |   | 9,478 |   |
|                                                                |       |                                  |       |   |   |   |   |   |   |   |   |
| Cash and  equivalents at end of period                              |       | $                                     | 12,343     |   | $ | 78 |   | $ | — |   | $ | — |   | $ | 12,421 |   |

 

F-56

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**Note 20.**   Subsequent Events

 

DuringMarch 2005, the Company completed a series of transactions and amendmentsto existing agreements with DLJ Merchant Banking Partners II, L.P. andaffiliated funds (Note 17).

 

First,the maturity date of the existing $5,000,000 of 13.5% senior unsecuredpromissory notes (Note 10) was extended. The notes are now due on March 31, 2006 and interest, which has accruedfrom December 12, 2004, is payable on December 31, 2005 and at maturity.  As a result of the extended maturity date,the notes are classified as long-term liabilities as of December 31, 2004.  Second, the Company entered into a loanagreement which provides for up to $5,000,000 of additional borrowings at ratesand with terms identical to the existing 13.5% senior unsecured promissorynotes, as amended.  The Company has borrowed$2,500,000 pursuant to this agreement and borrowing of the remainder, ifneeded, are subject to customary conditions including absence of a materialadverse change in the Company’s business.  Andthird, the Company received approximately $5,000,000 of proceeds from the saleof 26,425 additional shares of its Senior Redeemable Exchangeable PreferredStock due 2008 (Note 11).

 

The$7,500,000 of cash received from these transactions will be used to fundworking capital needs.

 

F-57

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**DECRANE AIRCRAFT HOLDINGS, INC. AND SUBSIDIARIES**

 

**Consolidated FinancialStatement Schedules**

 

**Schedule II –Valuation and Qualifying Accounts**

 
| **(In thousands)**                                                     | ** ** | **Balance at  Beginning of  Period** | ** ** | **Charged to  Cost and  Expense** | ** ** | **Charged to  Other  Accounts** | ** ** | **Deductions** | ** ** | **Balance at  End of  Period** | ** ** |
|------------------------------------------------------------------------|------------|--------------------------------------|------------|-----------------------------------|------------|---------------------------------|------------|----------------|------------|--------------------------------|------------|
| **Year  Ended December 31, 2004**                                 |       |                                 |       |                              |       |                            |       |           |       |                           |       |
| Allowance  for doubtful accounts                                       |       | $                                    | 1,268      |                              | $          | 227                             |       | $              | —     |                           | $          | (887 | ) | $ | 608 |   |
| Reserve for  excess, slow moving and potentially obsolete material (1) |       | 5,214                                |       | 2,385                             |       | —                          |       | (674           | )          | 6,925                          |       |
| Deferred tax  asset valuation allowance                                |       | 19,528                               |       | 14,701                            |       | —                          |       | —         |       | 34,229                         |       |
|                                                                   |       |                                 |       |                              |       |                            |       |           |       |                           |       |
| **Year  Ended December 31, 2003 (2)**                             |       |                                 |       |                              |       |                            |       |           |       |                           |       |
| Allowance  for doubtful accounts                                       |       | $                                    | 1,205      |                              | $          | 670                             |       | $              | —     |                           | $          | (607 | ) | $ | 1,268 |   |
| Reserve for  excess, slow moving and potentially obsolete material (1) |       | 3,759                                |       | 3,199                             |       | —                          |       | (1,744         | )          | 5,214                          |       |
| Deferred tax  asset valuation allowance                                |       | —                               |       | 19,528                            |       | —                          |       | —         |       | 19,528                         |       |
|                                                                   |       |                                 |       |                              |       |                            |       |           |       |                           |       |
| **Year  Ended December 31, 2002 (2)**                             |       |                                 |       |                              |       |                            |       |           |       |                           |       |
| Allowance  for doubtful accounts                                       |       | $                                    | 2,108      |                              | $          | 843                             |       | $              | —     |                           | $          | (1,746 | ) | $ | 1,205 |   |
| Reserve for  excess, slow moving and potentially obsolete material (1) |       | 2,986                                |       | 3,553                             |       | —                          |       | (2,780         | )          | 3,759                          |       |

 

----

(1)                      Excludesasset impairment-related charges resulting from restructuring programs of$2,811,000 in 2004, $3,073,000 in 2003 and $7,241,000 in 2002.

 

(2)                      Excludesamounts attributable to the Specialty Avionics Group which is classified asdiscontinued operation.

 

F-58

----