**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

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FORM 10-K

**(Mark One)**

**x**                              AnnualReport Pursuant to Section 13 or 15(d) of the Securities Exchange Actof 1934

**Forthe fiscal year ended January 2, 2005**

**o**                                 TransitionReport Pursuant to Section 13 or 15(d) of the Securities Exchange Act of1934

**Forthe transition periodfrom                          to                          **

**CommissionFile No. 000-50593**

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Cherokee International Corporation

(Exact name of Registrantas specified in its charter)

| **Delaware**                                                                                             | **95-4745032**                           |
|----------------------------------------------------------------------------------------------------------|------------------------------------------|
| (State or Other  Jurisdiction of  Incorporation of Organization)                                         | (I.R.S. Employer  Identification Number) |
| **2841 Dow Avenue  Tustin, California**                                                                  | **92780**                                |
| (address of the  principal executive offices)                                                            | (zip code)                               |
| Registrant’s  telephone number, including area code **(714) 544-6665**                              |
| Securities  registered pursuant to Section 12(b) of the Act:**None**                           |
| Securities  registered pursuant to Section 12(g) of the Act:**Common Stock, $0.001 par value** |

 

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

Indicate by check mark ifdisclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, andwill not be contained, to the best of registrant’s knowledge, indefinitive proxy or information statements incorporated by reference in Part IIIof this Form 10-K orany amendment to this Form 10-K.  o

Indicate by check markwhether the registrant is considered an accelerated filer as defined in Rule 12b-2of the Exchange Act. Yes  o  No  x

The aggregate market valueof the voting stock held by non-affiliates of the registrant as of the last business day ofthe registrant’s most recently completed second fiscal quarter (June 27,2004) was approximately $144,758,205 million.

As of February 27,2005, 19,206,207 shares of the registrant’s common stock, $0.001 par value,were outstanding.

**DOCUMENTSINCORPORATED BY REFERENCE**

Portionsof our definitive proxy statement to be filed with the Securities and ExchangeCommission pursuant to Regulation 14A for our 2005 Annual Meeting ofStockholders are incorporated by reference into Part III hereof.

 

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**CHEROKEE INTERNATIONAL CORPORATIONAnnual Report on Form 10-KFor the Fiscal Year Ended January 2, 2005**
|                   | ** **                                                                                                          | **Page** |
|-------------------|---------------------------------------------------------------------------------------------------------------------|----------|
| **PART I**   |                                                                                                                |     |   |   |
| Item 1.           | Business                                                                                                            |     |   | 1 |   |
| Item 2.           | Properties                                                                                                          |     |   | 17 |   |
| Item 3.           | Legal Proceedings                                                                                                   |     |   | 18 |   |
| Item 4.           | Submission of Matters to a  Vote of Security Holders                                                                |     |   | 18 |   |
| **PART II**  | ** **                                                                                                          |     |   |   |   |
| Item 5.           | Market for Registrant’s  Common Equity, Related Stockholder Matters and Issuer Purchases of Equity  Securities |     |   | 19 |   |
| Item 6.           | Selected Financial Data                                                                                             |     |   | 20 |   |
| Item 7.           | Management’s Discussion and  Analysis of Financial Condition and Results of Operations                         |     |   | 22 |   |
| Item 7A.          | Quantitative and Qualitative  Disclosures about Market Risk                                                         |     |   | 34 |   |
| Item 8.           | Financial Statements and  Supplementary Data                                                                        |     |   | 34 |   |
| Item 9.           | Changes in and Disagreements  with Accountants on Accounting and Financial Disclosure                               |     |   | 60 |   |
| Item 9A.          | Controls and Procedures                                                                                             |     |   | 60 |   |
| Item 9B.          | Other Information                                                                                                   |     |   | 60 |   |
| **PART III** | ** **                                                                                                          |     |   |   |   |
| Item 10.          | Directors and Executive  Officers of the Company                                                                    |     |   | 61 |   |
| Item 11.          | Executive Compensation                                                                                              |     |   | 61 |   |
| Item 12.          | Security Ownership of  Certain Beneficial Owners and Management and Related Stockholder Matters                     |     |   | 61 |   |
| Item 13.          | Certain Relationships and  Related Transactions                                                                     |     |   | 61 |   |
| Item 14.          | Principal Accountant Fees  and Services                                                                             |     |   | 61 |   |
| **PART IV**  | ** **                                                                                                          |     |   |   |   |
| Item 15.          | Exhibits and Financial  Statement Schedules                                                                         |     |   | 62 |   |
|              | Signatures                                                                                                          |     |   | 64 |   |

 

*ThisAnnual Report on Form 10-K includes “forward-looking statements” withinthe meaning of the*Private Securities Litigation Reform Actof 1995. The words “believe,” “anticipate,” “intend,” “estimate,”“expect” and similar expressions, or the negative of such words andexpressions, are intended to identify forward-looking statements, although notall forward-looking statements contain such words or expressions. Theseforward-looking statements generally relate to our plans, objectives andexpectations for future operations. However, these statements are subject toknown and unknown risks and uncertainties affecting our business. You shouldread this report completely and with the understanding that actual futureresults may be materially different from what we expect as a result of theserisks and uncertainties and other factors. In particular, please see “RiskFactors” and “Management’s Discussion and Analysis of Financial Condition andResults of Operations.”  The informationcontained in this report should be read together with other reports anddocuments that we file with the Securities and Exchange Commission (the “SEC”)from time to time, including Forms 10-Q and 8-K, which may supplement, modify,supersede or update those risk factors. Except as required by law, we undertakeno obligation to update any forward-looking statements, even though oursituation may change in the future.

*Unlessthe context indicates otherwise, all references herein to “CherokeeInternational Corporation,” “the Company,” “we,” “us,” and “our” refercollectively to Cherokee International Corporation and its subsidiaries.*

*Our fiscal years 2004, 2003 and 2002 ended on January 2,2005, December 28, 2003 and December 29, 2002, respectively. Forconvenience, our discussion in this Annual Report on Form 10-K shows allfiscal quarters and fiscal years as ending on the last day of the calendarmonth.*

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**PART I**

**ITEM 1.**                BUSINESS

**Overview**

We are a designer andmanufacturer of power supplies for original equipment manufacturers (“OEMs”).Our advanced power supply products are typically custom designed into mid- tohigh-end commercial applications in the computing and storage, wirelessinfrastructure, enterprise networking, medical and industrial markets. Ourpower supply products are differentiated from those used in lower-endelectronics, such as personal computers and mobile phones, by their high levelof engineering and reliability. We are often the sole source provider of powersupplies for OEM products into which our power supplies have been designed. Westrive to distinguish ourselves from our competitors with sophisticatedengineering, design flexibility, innovative solutions, rapid prototypedevelopment and efficient, low-cost manufacturing.

Our principal executiveoffices are located at 2841 Dow Avenue, Tustin, California 92780, and ourtelephone number is (714) 544-6665. We also maintain a website at *www.cherokeepwr.com.* Our annual reports on Form 10-K,quarterly reports on Form 10-Q, current reports on Form 8-K, and allamendments to those reports filed or furnished pursuant to Section 13(a) or15(d) of the Securities Exchange Act of 1934, as amended (the “ExchangeAct”) are available free of charge on our website or upon written request to2841 Dow Avenue, Tustin, California 92780, Attention: Investor Relations assoon as reasonably practicable after the Company electronically files suchmaterials with the SEC. The contents of our website are not incorporated byreference in this Annual Report on Form 10-K and shall not be deemed “filed”under the Exchange Act.

We were founded in 1978 asa small manufacturing entity serving local California markets. Since that time,we have evolved into a company serving customers worldwide. Over our 25-yearhistory, we have expanded our business and customer base. To meet these needs,we opened facilities in Bombay, India and Guadalajara, Mexico, and acquiredCherokee Europe, our European subsidiary, which added a manufacturing facilityin Wavre, Belgium. Since November 1987, our main office and principalmanufacturing facility has been located in Tustin, California. On November 26,2002, we reorganized from a California limited liability company into aDelaware corporation by merging Cherokee International, LLC with and intoCherokee International Corporation.

We completed our initialpublic offering of 6,600,000 shares of our common stock on February 25,2004. The net proceeds from the offering were $86.5 million. We usedapproximately $73.2 million of the net proceeds to repay certain outstandingindebtedness and accrued interest. In connection with the offering, we issued6,283,796 shares of our common stock upon conversion of the original principalamount of our outstanding senior convertible notes, and issued 4,071,114 sharesof common stock upon exercise of our outstanding warrants.

**Our Industry**

*Background*

Power supplies are anessential element in the supply, regulation and distribution of electricalpower in electronic equipment. Generally, power supplies convert alternatingcurrent, or AC, from a primary power source, such as a utility company, into aprecisely controlled direct current, or DC. Virtually every electronic devicethat plugs into an AC wall socket requires some type of AC/DC power supply.DC/DC converters modify one DC voltage level to other DC levels to meet thedistinct power needs of various electronic subsystems and components. Powersupplies are also used to regulate and monitor voltages to protect electroniccomponents from surges or drops in voltage, to perform functions that preventelectronic equipment from being damaged by internal malfunction and to provideback-up power in the event that a primary power source fails.

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*Need for HighlyReliable Power in Critical Commercial Applications*

Power supplies are normally embedded in an OEM’sproduct and deliver power critical to the function of that product. Althoughthe power supply typically constitutes less than 5% of the cost of the endproduct, it must efficiently and reliably convert power from the electricutility grid into the precise form and quality of power required by complexelectronic equipment, such as workstations, enterprise servers, routers,wireless base stations, ultrasound machines and industrial processingequipment, which require a precise and constant supply of electrical power,significantly more refined than the power provided by the electric utilitygrid.

On average, the electricutility grid supplies quality power, free from surges, spikes or sags 99.9% ofthe time. However, this still results in the equivalent of nine hours per yearof unavailable power. These nine hours of downtime often occur in many isolatedinterruptions of very short duration. In lower-end consumer electronicsapplications, a brief interruption of power only interrupts operation for thetime that the power is actually unavailable. In commercial applications,however, interruption in the power supply or an inability to regulate anddistribute the precise amount of power within the commercial application couldcause the entire end product to fail, resulting in extensive downtime. Thisdowntime could cause the OEM to lose revenue due to customer dissatisfactionand may cause financial and operational damage to the end user of the OEM’sproduct. As a result, OEMs are very selective in their choice of a powersupply vendor and place a high degree of importance on the vendor’sreliability, emphasizing the quality of the products as well as thesophistication of the vendors’ engineering capabilities.

*Power Supply—MarketSegments*

Thecommercial power supply market can be segmented by power type, AC/DC or DC/DC,and power output. A summary of these power supply market segmentations isdemonstrated in the following table.
| Power  Type | ** ** | ** **                  | ** ** | **Primary End  Market(1)** | ** ** | **Power  Range**                                                                                                                         | ** ** | **Typical Characteristics**                                                                                                  | ** ** | **Representative Applications** | ** ** | **% of Commercial  AC/DC Market(2)** |
|-------------|------------|-----------------------------|------------|----------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------|------------|-------------------------------------------|
| **AC/DC**   | ** ** | **Commercial**              | ** ** | **High**                   |       | ·  More  than 750 Watts

                                                                                                 |       | ·  Enterprise  Servers and  Higher-end Routers                                                                     |       |                            | 27         | %                                         |
|             | ** ** | ** **                  | ** ** | ** **                 |       | ·  Higher  Technology                                                                                                          |       | ·  Communication  Switches                                                                                         |       |                            |       |                                      |
|             | ** ** | ** **                  | ** ** | ** **                 |       | ·  Lower  Volume                                                                                                               |       | ·  Industrial  Process Control                                                                                     |       |                            |       |                                      |
|             | ** ** | ** **                  | ** ** | ** **                 |       | ·  Higher  Margin                                                                                                              |       | ·  RF  Amplifiers and  Ultrasound Equipment                                                                        |       |                            |       |                                      |
| **AC/DC**   | ** ** | **Commercial**              | ** ** | **Mid**                    |       | ·  151-750  Watts

·  Higher  Technology

·  Moderate  Volume

·  Higher Margin                  |       | ·  Routers,  Hubs

·  Workstations

·  Communications  Base  Stations                          |       |                            | 56         | %                                         |
| **AC/DC**   | ** ** | **Commercial**              | ** ** | **Low**                    |       | ·  Up  to 150 Watts

·  Lower Technology

·  Higher Volume

·  Lower Margin                      |       | ·  Storage  Area Networks

·  Retail POS  Equipment

·  Industrial  Applications               |       |                            | 17         | %                                         |
| **DC/DC**   | ** ** | **Commercial and Consumer** | ** ** | **All**                    |       | ·  5-150  Watts

·  Higher  Technology

 

·  Higher Volume

 

·  Low- to Mid-Margins |       | ·  Storage  Area Networks

·  Communications  Base  Stations

·  Automated  Testing  Equipment |       |                            | N/A        |                                      |

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(1)*         *Cherokeeoperates only in the commercial end market, not the consumer end market.

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(2)*         *Basedupon 2002 sales in the North American and European AC/DC market. Source:Venture Development Corporation (“VDC”).

*PowerSupply—Custom, Modified Standard and Standard*

Power supplies aredesigned for an OEM based on the needs of the specific customer application.Each of these applications may require a standard, modified standard or customdesigned power supply.

·       Custom power supplies aretypically sold directly to a manufacturer and necessitate a strong workingrelationship between the OEM and the power supply vendor. OEMs purchasecustom power supplies to provide maximum design flexibility to meet the exactrequirements for their specific application. These custom products have low- tomid-production volumes but higher margins and are typically provided by a solesource supplier. Once a custom power supply is designed into an OEM’s product,it is difficult, time consuming and costly for the OEM to switch vendors.

·       Modified standard powersupplies use standard products with a minimal degree of modification. Theseproducts are characterized by (1) shorter lead times; (2) lowerup-front engineering costs; (3) higher volume production; and (4) increasedpricing pressure, compared to the custom products.

·       Standard power supplies aredesigned to appeal to a wide range of customers for use in a variety ofdifferent applications. These products are sold directly to manufacturers andthrough third-party distributors. Standard power supplies offer benefits to theOEM because they have limited up-front engineering requirements, are readilyavailable from multiple sources and facilitate a faster time-to-marketfor new product development. This type of product is also significantly moreprice competitive.

***Current Industry Characteristics***

*Large, GrowingAC/DC Market*

We believe theglobal market for third-party AC/DC power supply products is over $4 billionand growing. The principal factors contributing to continued growth in thismarket include:

·       Increasing demand fromOEMs due to improving sales and new product development;

·       Increasing spending forinformation technology and communications equipment (especially wireless); and

·       Increasing demand forelectronic equipment and systems in Asia and other emerging markets.

*Growing,Complementary DC/DC Market*

The global market for third-party DC/DC converters isexpected to be over $2.0 billion. This market is also growing principally dueto the proliferation of portable electronic communication devices that requirelower DC voltages at higher currents.

DC/DC converterscomplement our existing AC/DC power supply business. While a customer’s endproduct may have only one AC/DC power supply, multiple DC/DC converters may beneeded to distribute and regulate power to the various components within thecustomer’s application.

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*Reduction of Approved Vendors Benefits Quality PowerSupply Companies*

Toimprove operating efficiencies and shorten the cycle time required to introducenew products, OEMs are relying on a smaller number of approved vendors,including power supply vendors. We believe OEMs are selecting theirreduced number of power supply vendors based on:

·       Broad product offeringincluding custom design capabilities and engineering expertise;

·       Ability to meet rapidtime-to-market requirements;

·       Product quality,reliability and competitive pricing; and

·       Superior supplychain management to resolve global supply, sourcing and delivery issues.

**CompetitiveStrengths**

We believe that we benefitfrom the following competitive strengths:

*Focused Provider of Custom Solutions*

We specialize in providingAC/DC custom power supplies. We have a talented team of engineers withextensive experience designing custom, high-quality and reliable power supplysolutions. We believe this engineering expertise and our database of customdesigns provides us with a competitive advantage.

*Distinctive Combination of Local Engineering withLow-Cost Manufacturing*

We provide our customerswith the benefits of local design and engineering coupled with competitivepricing. Local engineering support close to our customers’ design facilities isimportant because of the need for frequent interaction throughout the designand testing process. With primary design centers in the United States andEurope, we can more efficiently respond to our customers’ needs during thedesign and prototype development phase.

At the same time, we offercompetitively priced products by using our sophisticated, efficient, low-costmanufacturing facilities located in Guadalajara, Mexico and Bombay, India.These facilities allow us to provide low-cost manufacturing solutions for thoseaspects of our production process that are more labor intensive. Most of ourproducts can be manufactured in multiple facilities. This improves ourproduction efficiency and provides us with greater flexibility to meet ourcustomers’ changing production requirements.

*Efficient Operations Generate High Margins*

We believe our efficientoperations have enabled us to generate strong operating margins. Although ouroperating margin during the recent industry downturn declined to 4.1% in 2003, ouroperating margin improved significantly during 2004 to 12.4%.

Wehave achieved strong margins by:

·       Focusing on designing andmanufacturing mid- to high-end custom power supplies;

·       Using common componentry inour products to achieve lower cost of materials;

·       Purchasing substantiallyall of our raw materials directly from manufacturers, rather than distributors;

·       Utilizing our lower-costmanufacturing facilities in Mexico and India for specified higher volume andlabor-intensive production requirements; and

·       Effectively managing costsand capacity utilization.

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*Strong Partnerships with Blue Chip OEM Customers*

We provide products to anumber of leading OEMs. We believe our customers continue to seek long-termpower-solution partners to act as an extension of their own internalengineering team and support their global manufacturing product needs over longproduct lifecycles. We have assembled a team of engineers focused on customdesign with close relationships to our customers’ engineering staffs. Webelieve these engineering relationships have allowed us to strengthen ouroverall relationships with our customers.

*Sole Provider for Programs Comprising a Majority ofOur Sales*

We believe, due to thecustom nature of our products, we are the sole source provider on programs thatgenerate a substantial majority of our net sales. Our products are generallyused for the entire life cycle of a customer’s end product, providing a base ofrecurring sales from year to year during that cycle. This life cycle can rangeanywhere from two to five years in computing, storage and communicationsapplications and up to seven to fifteen years in industrial and medicalapplications. We have found that OEMs generally do not change vendors oncea power supply has been designed into their product.

*Reputation for Quality and Service in an IncreasinglyDemanding Environment*

We use advanced qualitycontrol methods to monitor our design and manufacturing process. In addition,we test 100% of our finished products using automated equipment and customer-approvedtests. Our reputation for quality and service has been recognized by Frost &Sullivan, a market research consulting firm, which awarded us its 2003 MarketEngineering Customer Service Innovation Award. We were the only power supplycompany to receive this award in 2003.

*Rapid Prototype Lead Times and Time-to-Production*

Prototypelead-time is a critical factor in a customer’s selection of a power supplymanufacturer. On average, we deliver custom product prototypes within 10 to 12weeks of design win. This rapid prototyping capability along with our effort toreduce production time helps our customers meet their commitment dates and beattheir competition to market. We provide our customers with short prototype leadtimes and fast time-to-production by:

·       Employing experiencedengineers dedicated to design and development, who communicate directly withour customers’ engineers throughout the design process;

·       Setting up ourmanufacturing lines to run custom products efficiently; and

·       Leveraging our common componentryand extensive database of designs.

*Experienced Management Team*

Jeffrey Frank, ourPresident and Chief Executive Officer, joined Cherokee in 2001 and has over 18 yearsof electronics industry experience. Supporting Mr. Frank is an equallyexperienced senior management team.

**Business Strategy**

Our objective is to growour business profitably by being the power supply partner of choice for selectindustry-leading OEMs who require sophisticated power solutions. Keyelements of our strategy include:

*Increase Sales to Our Existing Customers*

Over the past few years,we have made a significant effort to enhance the processes and systems used inour interaction with customers. These enhancements include the addition ofsales administration and 

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programmanagement personnel to provide expanded customer service support, theimplementation of a global account strategy to coordinate the sales efforts ofour North American and European operations for customers that require a globalpurchasing solution, and software system modifications to improve theefficiency of our order entry process. We believe these changes have resultedin increased sales to many of our existing customers. We intend to leverage ourcompetitive strengths, in-depth knowledge of our customers’ needs and expandedproduct line to continue to increase sales to our existing customers. Inaddition, as OEMs reduce the number of power supply vendors with whom theywork, we are focused on increasing our share of their power supply spending.

*Expand Our Customer Base Through Increased Sales andMarketing Efforts*

We intend to continue toincrease our direct and indirect sales and marketing efforts to OEMs in ourtarget markets. After Jeffrey Frank joined us as Chief Executive Officer in2001, we increased spending on direct sales and marketing. We also addedindependent sales representatives who had existing sales relationships with ourtargeted customer base. As a result, as of December 31, 2004, we had 12direct salespeople and a network of over 150 independent sales representativesin North America, compared to 5 direct salespeople and 13 independent salesrepresentatives in 2001.

*Increase Sales from Complementary DC/DC ProductOfferings*

In 2003, we entered therapidly growing DC/DC market by introducing complementary DC/DC products andgenerated 12 design wins, mostly from our existing customers. In 2004, wegenerated 36 design wins for our DC/DC products. We continue to focus onselling our DC/DC products to existing AC/DC customers, as we believe there is increaseddemand for such products. As a result, we expect to sell more DC/DC products inthe future, for which we expect to achieve margins similar to those achievedfor our AC/DC products.

*Expand and Cross-Sell Product Offerings*

We plan to continue tobroaden our existing product line and cross-sell products on a global basis toattract new customers and to capture a larger portion of our existing customers’business. We intend to leverage our portfolio of standard and modified standardproducts and to market these products on a private label and branded basisthrough available sales channels. In addition, we believe we have opportunitiesto market custom products developed for one customer on a custom, modifiedstandard or standard basis for others.

*Expand Our International Manufacturing Presence*

We plan to expand ourmanufacturing presence in lower-cost manufacturing countries outside of theUnited States to better serve our customers who are relocating their ownmanufacturing to such countries. By locating our manufacturing facilities closeto our customers’ own facilities, we are able to offer products at a lowercost, increase production flexibility and decrease the lead times of ourproducts. We are currently in the process of establishing operations in China. Weplan to construct a 100,000 square foot facility near Shanghai, most of whichwill be dedicated to manufacturing. We expect our China facility to be inoperation by early 2006.

*Leverage Infrastructure to Improve Margins*

Operating costs of ourexisting manufacturing facilities and related administrative expenses arerelatively fixed, and should increase at a slower rate than sales as salesimprove. In addition, we have the opportunity to leverage our engineering andsales staff for higher revenue programs without significant increases instaffing and related costs. The relatively fixed cost structure of our businessmodel should allow us to realize higher margins on incremental revenue. Webelieve that our available manufacturing 

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capacity,combined with our planned manufacturing facility in China, will be sufficientto accommodate significant future growth. Additionally, we intend to furtherdrive efficiencies in manufacturing, and minimize labor, supply andmanufacturing costs, through the utilization of our existing and plannedfacilities in countries outside of the United States.

*Pursue Selected Acquisitions*

The power supply industryis highly fragmented worldwide. We intend to evaluate acquisition opportunitiesthat we believe are complementary to our operations and will improve ourgeographic reach or strengthen our customer base.

**Competitiveand Business Challenges**

*Relatively Lower Net Sales*

The design, manufactureand sale of power supplies is highly competitive, and some of our competitorshave substantially greater net sales, resources and geographic presence than wedo. In addition, cancellations, reductions or delays in customers’ orders orcommitments or an increase in warranty product returns could have a greatereffect on us than some of our competitors because of our lower level of netsales.

*Dependence on Small Group of Customers*

Although we believe wehave strong relationships with our customers, we are dependent upon sales to arelatively small group of customers. Our top ten customers accounted forapproximately 58% of our net sales during 2004 compared to approximately 61% ofour net sales during 2003, with sales to one customer in 2004 and two customersin 2003 exceeding 10% of our net sales.

*Fixed Operating Costs*

Operating costs of ourexisting manufacturing facilities and related administrative expenses arerelatively fixed and therefore cannot be easily reduced if our sales decline.

*Unpredictable End Markets*

As a provider of powersupplies to OEMs in the electronic equipment industries, our sales are dependentupon the success of these end markets and the underlying products of which ourpower supplies are a component. We have no control over and cannot alwaysaccurately predict the demand in our customers’ end markets. During 2001, 2002and to a lesser extent during 2003, our operating results were negativelyaffected by unfavorable economic conditions and reduced capital spending bycommunication providers that purchase our customers’ end products.

*International Operations*

A significant portion ofour business is conducted internationally. Operating internationally subjectsus to risks that we would not otherwise face, such as political and economicinstability, terrorism and civil unrest, and difficulties in staffing andmanaging these operations.

**Product Line**

Our products cover a broadrange of applications in the commercial end-market, from low to high power,ranging from 10 to 27,000 watts. Our power supplies are self-contained units,range in weight from one half of a pound to thirty pounds and are normallyincorporated inside our customers’ end products.

Most of our power supplies are custom made, althoughwe also produce some modified standard and standard products. We focus ondesigning and manufacturing mid- to high-end custom commercial power 

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supplies because theytypically have the highest margins. Due to our large database of custom andmodified standard products, we benefit from the opportunity to incorporate ourexisting engineering and designs to expedite design and time to market.

We have a complementaryline of DC/DC products in the commercial market to take advantage of thegrowing DC/DC market. Our DC/DC converters range from 20 to 300 watts. We willcontinue to focus on selling our DC/DC products to existing AC/DC customers aswe believe there is an increased demand for these products.

**Customers**

Our base of OEM customersis in diverse markets such as wireless infrastructure, networking, medical,high-end workstations (excluding PCs), industrial process controls, and otherelectronic equipment industries. Most of these OEMs are Fortune 500 companiesand leaders in their respective industries. Our top ten customers accounted forapproximately 58% of our net sales during 2004 and approximately 61% of our netsales during 2003. Nortel Networks accounted for more than 10% of our net salesduring each of the last three years ended December 31, 2004, andHewlett-Packard accounted for more than 10% of our net sales during 2003. Wederived approximately 46% of our net sales in 2002, 48% of our net sales in2003, and 41% of our net sales during 2004 from customers in the United States.The remainder of our net sales for such periods was to customers outside of theUnited States, with the majority of these remaining net sales derived fromsales to customers in Europe. For the dollar amount of net sales attributableto customers located inside and outside the United States, please refer to Note13 in our consolidated financial statements included elsewhere in this report.

**Sales and Marketing**

We market our products and services in North Americathrough an integrated sales approach involving account managers and independentsales representatives with active support from design, engineering andproduction personnel. Our in-house account managers supervise customerrelationships and oversee a nation-wide network of commission-based independentsales representatives whose main purpose is to identify new opportunities. Wemarket our products in Europe using a combination of a local direct sales team,independent sales representatives and in-house account managers.

We focus our efforts on expanding relationships withexisting customers and aggressively targeting emerging OEM industry leaderswith whom the opportunity exists to provide products and services across anumber of product families and through successive product generations. We focusour resources on markets that are growing relatively quickly and have thepotential for significant profit margins. Potential customers are assigned toour in-house account managers who evaluate the customer against our customerselection criteria.

On an ongoing basis, ourengineering personnel provide technical support to customers in the areas ofproduct design changes, field performance and testing. Our collaborativerelationships allow us to gain valuable knowledge about an existing customerand its processes, which we believe gives us an advantage in obtaining futurebusiness from that customer.

**Backlog**

We generally sell ourproducts pursuant to purchase orders rather than long-term contracts, andcustomers may generally cancel, reduce or postpone orders or commitments.Backlog consists of purchase orders received for which we have not shippedproduct. A variety of conditions, both specific to the individual customer andgenerally affecting the customer’s industry, may cause customers to cancel,reduce or delay orders or commitments that were previously made or anticipated.At any time, a significant portion of our backlog may be subject tocancellation or postponement. Our backlog was approximately 

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$35.7million at February 28, 2005, and $37.3 million at February 28, 2004.We have also entered into certain warehousing arrangements with some of ourcustomers, whereby we have agreed to bear the risk and cost of carryinginventory. Under these arrangements, we deliver the power supplies ordered bysuch customers to a third-party warehouse location, permit these customers totake delivery of the power supplies within a specified time period after ourdelivery of the products, and invoice these customers for the products onlyafter they have taken ultimate delivery and title has passed. We expect asubstantial majority of our backlog to be shipped within the next 12 months.

**ManufacturingProcess and Quality Control**

A typical power supply consists primarily of one ormore printed circuit boards, electronic and electromagnetic components and asheet metal chassis. The production of our power supplies entails the assemblyof structural hardware combined with a sophisticated assembly of circuit boardsencompassing highly automated surface mount technology, or SMT.

In response to market demands for increased qualityand reliability, design complexity, and sophisticated technology, we haveautomated many electronic assembly and testing processes which weretraditionally performed manually and we have standardized our manufacturingprocesses to efficiently utilize our resources and optimize our capacities. Ourmanufacturing facilities are designed to quickly produce a broad range ofproducts at a low cost. We have nine SMT lines located throughout ourfacilities. SMT permits reduction in board size by eliminating the need forholes in the printed circuit boards and by allowing components to be placed onboth sides of a board. Each SMT line is capable of placing as many as 40,000parts per hour, with each machine hour equating to approximately 50 laborhours.

In addition to increasing automation of ourfacilities, we have standardized our operations to include self-containedcontinuous flow manufacturing lines, which incorporate flow solder machines, incircuit test machines, highly advanced computer controlled burn-in equipment,automated final test machines, ongoing reliability test equipment, standardizedprocesses and measurements on all lines. Furthermore, manufacturing processes,quality systems, data collection and documentation are standardized across allfacilities for smooth transition among locations to accommodate optimalcapacity utilization.

Most of our customers require that their powersupplies meet or exceed established international safety and quality standards.In response to this need, we design and manufacture power supplies inaccordance with the certification requirements of many international agencies,including Underwriters Laboratories Incorporated (UL) and Telcordia/Belcore inthe United States; the Canadian Standards Association (CSA) in Canada;Technischer Uberwachungs-Verein (TUV) and Verband Deutscher Electrotechniker(VDE), both in Germany; the British Approval Board for Telecommunications(BABT) in the United Kingdom; the European Telecommunications StandardInstitute (ETSI) and International Electrotechnical Committee (IEC), bothEuropean standards organizations. We have most recently received certificationfrom the China Compulsory Product Certification (CCC), Belgian Safety (CEBEC)and Taiwan’s Bureau of Standards, Metrology and Inspection (BSMI)organizations.

Quality and reliability are emphasized in both thedesign and manufacture of our products. In addition to testing throughout thedesign and manufacturing process, we test 100% of our finished products usingautomated equipment and customer-approved tests. Prototypes are reviewed toensure that they can be efficiently manufactured and an additional out-of-boxtest or pre-ship audit is performed on randomly selected units, which are readyfor shipment, further ensuring manufacturing quality and integrity.

All of our facilities inCalifornia, Mexico and India are currently ISO 9001: 2000 certified, while ourBelgium facility is already certified to the higher ISO 14000 standard. We expectto achieve ISO 14000 (Environmental Management System) certification for ourCalifornia and Mexico facilities and OHSAS (Occupational Health and SafetyAssessment System) certification for our Mexico facility by mid-2005.

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**Suppliers**

Our high-quality products and ability to provide suchproducts in a relatively short time-to-market are in part the result of a wellmanaged supply chain network. We typically design products using commoncomponents, thereby increasing our purchasing power and reducing inventoryrisk. Most of our raw materials, including electronic and other components,sheet metal, transistors, mechanical parts and electrical wires, are readilyavailable from several sources. Although some of our raw materials are sourcedfrom only one manufacturer, they are generally available in large quantitiesfrom a number of different suppliers.

Through centralizedpurchasing, we have negotiated a number of volume discount purchase agreementsto realize economies of scale at each facility. We generally purchase rawmaterials and components directly from manufacturers and not from distributorsto get the most current materials at a lower available cost, thereby furtherreducing our overall cost of production. We view our suppliers as long-termpartners with whom we strive to develop strong relationships. In ourexperience, the repeat business and confidence that these relationships offerour suppliers often lead to a lower cost of materials.

**Competition**

The power supply manufacturing industry is highlyfragmented and characterized by intense competition. According to Micro-TechConsultants, in 2002 there were more than 1,000 third-party AC/DC and DC/DCpower supply manufacturers worldwide. No single company dominates the overallpower supplies market and our competitors vary depending upon the particularpower conversion product category. Our competitors include ArtesynTechnologies, Astec Power, Delta Electronics, Magnetek, Power One, TycoInternational, Vicor, and many smaller companies.

We believe that theprincipal competitive factors in our targeted markets are length of time-to-market,manufacturing flexibility, technical knowledge, quality and cost. We believethat, compared to our competition, we sell products with comparable or betterquality characteristics at comparable prices.

**Engineeringand Product Development**

Our engineering and product development activities areprincipally directed to the improvement of existing products and thedevelopment of new power supplies to satisfy customer needs. As part of thecollaborative relationships established by us with our key customers, we workclosely with our customers to develop new products. Product development isperformed by a group of design engineers and technicians located primarily inTustin, California and Wavre, Belgium.

Our total expenditures forengineering and product development were $9.1 million, $8.9 million and $7.0million for the years ended December 31, 2004, 2003 and 2002,respectively.

**Intellectual Property Matters**

Historically, intellectualproperty rights have not been a significant competitive factor in the powersupply industry. Accordingly, we have not expended significant efforts toobtain trademark registrations or other forms of intellectual propertyprotection covering our brands and technologies. However, there is no guaranteethat intellectual property rights will not become more significant in thefuture, or that our competitors will not try to assert intellectual propertyrights to obtain a competitive advantage. Indeed, from time to time we havereceived notices of alleged infringement and/or invitations to take licensesfrom third parties, as described more fully in “Risk Factors—Risks Relating toOur Company and Industry—We may be sued by third parties for allegedinfringement of their proprietary rights.”

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**Employees**

At December 31,2004, we employed approximately 1,405 full-time employees at our facilities inthe following capacities:
| ** **                       | ** ** | **Location** | ** ** |
|----------------------------------|------------|--------------|------------|
| **Function**                     | ** ** | ** **   | ** ** | **U.S.** | ** ** | **Belgium** | ** ** | **Mexico** | ** ** | **India** | ** ** | **Total** | ** ** |
| Manufacturing                    |       | 249          |       |   | 212 |   |   |   | 256 |   |   | 466 |   | 1,183 |   |
| Engineering (including  R&D) |       | 44           |       |   | 38 |   |   |   | 3 |   |   | 11 |   | 96 |   |
| Quality Control                  |       | 14           |       |   | 11 |   |   |   | 7 |   |   | 2 |   | 34 |   |
| Marketing                        |       | 12           |       |   | 23 |   |   |   | 1 |   |   | — |   | 36 |   |
| General Administration           |       | 18           |       |   | 23 |   |   |   | 8 |   |   | 7 |   | 56 |   |
| Total                            |       | 337          |       |   | 307 |   |   |   | 275 |   |   | 486 |   | 1,405 |   |
|                                  |            |              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

None of our domesticemployees are represented by a labor organization. Most employees working inour Guadalajara, Mexico facility do have union representation as required underMexican law. Additionally, some employees in our Wavre, Belgium facility arealso represented by a union and work subject to a collective bargainingagreement. We believe that we have good relations with our employees, includingour employees in our Mexico and Belgium facilities.

**RISK FACTORS**

*The following risk factors, among others, could causeour financial performance to differ significantly from the goals, plans,objectives, intentions and expectations expressed in this Annual Report on Form10-K. If any of the following risks and uncertainties or other risks anduncertainties not currently known to us or not currently considered to bematerial actually occur, our business, financial condition or operating resultscould be harmed substantially.*

**RisksRelating to Our Company and Industry**

**Weare substantially dependent upon sales to a relatively small group ofcustomers. The loss of one or more major customers, or the discontinuation ormodification of these customers’ products, could materially and adverselyaffect the results of our operations.**

Our top ten customersaccounted for approximately 58% of our net sales during 2004 and approximately 61%of our net sales during 2003. Net sales to Nortel Networks accounted for morethan 10% of our net sales during 2004, and net sales to Hewlett-Packard andNortel Networks each accounted for more than 10% of our net sales during 2003.The loss of any of our major customers could have a material adverse effect onour financial condition or results of operations. We do not have long-termcontracts with our customers, and our customers use alternative power supplyproviders for some or all of their products. We may not be able to maintain ourcustomer relationships, and our customers may reduce the volume of or cancelpurchase orders, purchase power supplies elsewhere or develop relationshipswith additional providers of power supplies, any of which could adverselyaffect our financial condition or results of operations. A significant changein the liquidity or financial position of any of these customers could alsohave a material adverse effect on the collectibility of our accounts receivables,our liquidity and our future operating results. Prior to, or at the end of, aproduct’s life cycle, any of our customers may decide to discontinue or modifyany of its products. In that event, the customer may no longer have a need forour products or may choose to integrate a competitor’s power supplies into thecustomer’s new or modified product. The resulting loss of revenues could alsoadversely affect our financial condition or results of our operations.

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**Failureby our customers or us to keep up with rapid technological change in theelectronic equipment industries could result in reduced sales.**

Many of our existingcustomers are in the electronic equipment industries, especially wirelessinfrastructure and networking, and produce products that are subject to rapidtechnological change, obsolescence and large fluctuations in world-wide productdemand. These industries are characterized by intense competition and end-userdemand for increased product performance at lower prices. We may not be able toproperly assess developments in the electronic equipment industries or identifyproduct groups or customers with the potential for continued and future growth.Factors affecting the electronic equipment industries, in general, or any ofour major customers or their products, in particular, could have a materialadverse effect on our financial condition or results of operations. Forinstance, as a provider of power supplies to OEMs in the electronic equipmentindustries, our sales are dependent upon the success of the underlying productsof which our power supplies are a component. We have no control over the demandfor or success of these products. If our customers’ products are notwell-received by, or if demand for their products fail to develop among, end-users,our customers may discontinue or modify the product or reduce the production ofthe product. Any of these events could lead to the cancellation or reduction oforders for our power supplies that were previously made or anticipated, whichcould materially adversely affect our financial condition or results ofoperation. See ‘‘—Cancellations, reductions or delays in customers’ orders orcommitments or an increase in the number of warranty product returns could havea material adverse impact on our financial condition and results of operations’’for more information. The markets for our products are characterized by rapidlychanging technologies, increasing customer demands, evolving industrystandards, frequent new product introductions and shortening product lifecycles. Generally, our customers purchase our power supplies for the life cycleof a product, which can range anywhere from two to fifteen years. Thedevelopment of new, technologically advanced products is a complex anduncertain process requiring high levels of innovation and cost, as well as theaccurate anticipation of technological and market trends. As the life cycle ofour customers’ products shorten, we will be required to bid on contracts forreplacement or next generation products to replace revenues generated fromdiscontinued products more frequently. These bids may not be successful. Evenif we are successful, we may not be able to successfully develop, introduce ormanage the transition of new products. Any failure or delay in anticipatingtechnological advances or developing and marketing new products that respond toany significant technological change or significant changes in customer demandcould have a material adverse effect on our financial condition or results ofoperations.

**Weface significant competition, including from some competitors with greaterresources and geographic presence than us. Our failure to adequately competecould have a material adverse effect on our business.**

The design, manufactureand sale of power supplies is highly competitive and characterized byincreasing customer demands for product performance, shorter manufacturingcycles and lower prices. Our competition includes numerous companies throughoutthe world, some of which have advantages over us in terms of labor andcomponent costs and technology. Our principal competitors are ArtesynTechnologies, Astec Power, Delta Electronics, Magnetek, Power One, TycoInternational and Vicor. Some of our competitors have substantially greater netsales, resources and geographic presence than we do. Competition from existingcompetitors or new market entrants may increase at any time. We also facecompetition from current and prospective customers that may design andmanufacture their own power supplies. In times of an economic downturn, or whendealing with high-volume orders, price may become a more important competitivefactor, forcing us to reduce prices and thereby adversely affecting ourfinancial results. Some of our major competitors have also consolidated throughmerger and acquisition transactions. Consolidation among our competitors islikely to create companies with increased market share, customer bases,proprietary technology and marketing expertise, and an expanded sales force. Thesedevelopments may adversely affect our ability to compete.

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**Cancellations,reductions or delays in customers’ orders or commitments or an increase in thenumber of warranty product returns could have a material adverse impact on ourfinancial condition and results of operations.**

We do not obtain long term purchase orders orcommitments from our customers, and customers may generally cancel, reduce orpostpone orders or commitments. A variety of conditions, both specific to theindividual customer and generally affecting the customer’s industry, may causecustomers to cancel, reduce or delay orders or commitments that were previouslymade or anticipated. At any time, a significant portion of our backlog may besubject to cancellation or postponement. Substantially all of our $33.4 millionbacklog as of December 31, 2004 was subject to cancellation upon thepayment by our customers of cancellation fees that vary depending on individualpurchase orders. For example, in 2001 we experiencedcancellations of approximately $14.0 million as a result of unfavorableeconomic conditions and reduced capital spending by communication providersthat purchased our customers’ end products. Cancellations in 2002, 2003 and2004 were not significant. During those same periods, the rate of customerwarranty returns was less than 1%. We also enter into certain warehousingarrangements with some of our customers, whereby we agree to bear the risk andcost of carrying inventory. Under these arrangements, we deliver the powersupplies ordered by such customers to a third-party location, permit thesecustomers to take delivery of the power supplies within a specified time periodafter our delivery of the products, and invoice these customers for theproducts only after they have taken ultimate delivery. We may not be able toreplace cancelled, delayed or reduced orders or commitments in a timely manneror at all and in some instances may need to write-off inventory. Significant ornumerous cancellations, as well as reductions or delays in orders orcommitments, including as a result of delays in or the failure to take deliveryof products that are subject to such arrangements, by a customer or group ofcustomers, could materially adversely affect our financial condition or resultsof operations.

We also offer ourcustomers a warranty for products that do not function properly within alimited time after delivery. We regularly monitor and track warranty productreturns and record a provision for the estimated amount of future warrantyreturns based on historical experience and any notification we receive ofpending warranty returns. We may not continue to experience the same warrantyreturn rates that we have in the past. Any significant increase in productfailure rates and the resulting warranty credit returns could have a materialadverse effect on our operating results for the period or periods in whichthose warranty returns occur.

**Ourinternational manufacturing operations and our international sales subject usto various risks associated with, among other things, foreign laws, policies,economies and exchange rate fluctuations.**

We havemanufacturing operations located in Mexico, Belgium and India, and we plan tohave a manufacturing facility in China by early 2006. We may expand ouroperations into other foreign countries in the future. In addition,international sales have been, and are expected to continue to be, an importantcomponent of our total sales. International sales represented 59% of our netsales in 2004 and 52% of our net sales in 2003. Our manufacturing operationsand international sales are subject to inherent risks, all of which could havea material adverse effect on our financial condition or results of operations.For example, our European restructuring, which took place in June 2003,was significantly impacted by local labor laws and union labor negotiations,and required one-time termination benefits of approximately $4.5 million to bepaid through 2010. See ‘‘Management’s Discussion and Analysis of FinancialCondition and Results of Operations—Results of Operations.’’ Other risksaffecting our international operations include:

·       differencesor unexpected changes in regulatory requirements;

·       politicaland economic instability;

·       terrorismand civil unrest;

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·       workstoppages or strikes;

·       interruptionsin transportation;

·       restrictionson the export or import of technology;

·       difficultiesin staffing and managing international operations;

·       variationsin tariffs, quotas, taxes and other market barriers;

·       longerpayment cycles;

·       problemsin collecting accounts receivables;

·       changesin economic conditions in the international markets in which our products aresold; and

·       greaterfluctuations in sales to customers in developing countries.

Although we transactbusiness primarily in U.S. dollars, a portion of our sales and expenses,including labor costs, are denominated in the Mexican peso, the Indian rupee,the Euro and other European currencies. For 2004 and 2003, net sales in Europeaccounted for 42% and 43% of our net sales, respectively. Fluctuations in thevalue of the U.S. dollar relative to the Euro impacted our revenue, cost ofgoods sold and operating margins for these periods and resulted in foreigncurrency translation gains and losses. Foreign currency translation gainsrecorded in other comprehensive income, a component of equity, in 2004 and 2003were $1.6 million and $1.1 million, respectively. Historically, we have notactively engaged in substantial exchange rate hedging activities and do notintend to do so in the future.

**Aninterruption in delivery of component supplies could lead to supply shortagesor a significant increase in our cost of materials.**

We are dependent on oursuppliers for timely shipments of components, including components manufacturedby us in our India facilities. We typically use a primary source of supply foreach component used in our products. Changing suppliers or establishingalternate primary sources of supply, if needed, could take a significant periodof time, which in turn could result in supply shortages and increased prices.In some cases, we source components from only one manufacturer. Substantiallyall of our revenues are derived from the sale of products that includecomponents that we source from only one manufacturer. In addition, many of oursuppliers are located outside of the United States, and timely delivery fromthese suppliers may not occur due to interruptions in transportation,import-export controls, tariffs, quotas, taxes and other market barriers, andpolitical and economic stability in the country in which the components used inour products are produced or the surrounding region. An interruption in supplycould have a material adverse affect on our operations. Any shortages ofparticular components could increase product delivery times and costsassociated with manufacturing, thereby reducing gross margins. Additionally,these shortages could cause a substantial loss of business due to shipmentdelays. Any significant shortages or price increases of components could have amaterial adverse effect on our financial condition or results of operations. 

**Ourquarterly sales may fluctuate while our expenditures remain relatively fixed,potentially resulting in lower gross margins and volatility in our stock price.**

Our quarterlyresults of operations have fluctuated in the past and may continue to fluctuatein the future. For example, sales to one of our largest customers in the secondquarter of 2004 were $7.6 million, and decreased 53% to $3.6 million in thethird quarter of 2004 driven by fluctuations in demand from that customer.Fluctuations in customer needs, cancellations, reductions and delays in ordersand commitments may cause our quarterly results to fluctuate. See ‘‘—Cancellations,reductions or delays in customers’ orders or commitments or an increase in thenumber of warranty product returns could have a material 

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adverseimpact on our financial condition and results of operations.’’ Variations involume production orders and in the mix of products sold by us have alsosignificantly affected sales and gross profit. Sales are generally impacted bya combination of these items and may also be affected by other factors. Thesefactors include:

·       thereceipt and shipment of large orders or reductions in these orders (includingthe impact of any customer warehousing arrangements);

·       rawmaterial availability and pricing;

·       productand price competition; and

·       thelength of sales cycles.

Many of these factors areoutside of our control. In addition, a substantial portion of our sales in agiven quarter may depend on obtaining orders for products to be manufacturedand shipped in the same quarter in which those orders are received. As a resultof this and other factors described above, sales for future quarters aredifficult to predict and our financial condition or results of operations in agiven quarter may be below our expectations and our gross margins may decrease.Our expense levels are relatively fixed and are based, in part, on expectationsof future revenues. If revenue levels are below expectations, the market priceof our common stock could fall substantially, and our financial condition orresults of operations could be materially adversely affected.

**Ourability to successfully implement our business strategy is dependent on ourability to retain and attract key personnel.**

Our ability tosuccessfully implement our business strategy depends to a significant degree onthe efforts of Jeffrey M. Frank, President and Chief Executive Officer, VanHolland, Chief Financial Officer and Clark Hickock, Executive Vice President,Global Operations along with other members of our senior management team. Wehave no employment agreements with our key management executives and do notmaintain key person life insurance for any of our executive officers. Webelieve that the loss of service of any of these executives could have amaterial adverse effect on our business. In addition, we depend on highlyskilled engineers and other personnel with technical skills that are in highdemand and are difficult to replace. As a result, our ability to maintain andenhance product and manufacturing technologies and to manage any future growthalso depends on our success in attracting and retaining personnel with highlytechnical skills. The competition for these qualified technical personnel maybe intense if the relatively limited number of qualified and available powerengineers continues. We may not be able to attract and retain qualifiedtechnical personnel.

**Changesin government regulations or product certification could result in delays inshipment or loss of sales.**

Our operations are subjectto general laws, regulations and government policies in the United States andabroad. Additionally, our product standards are certified by agencies invarious countries, including, among others, the United States, Canada, Germanyand the United Kingdom. Changes in these laws, regulations, policies orcertification standards could negatively affect the demand for our products,result in the need to modify our existing products, increase time-to-productionor affect the development of new products, each of which may involvesubstantial costs, or loss of or delayed sales and could have a materialadverse effect on our financial condition or results of operations.

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**Environmentalcompliance could require significant expenditures and failure to so complycould result in fines or revocation of licenses or permits, any of which couldmaterially and adversely affect our financial condition or results ofoperations.**

We are subject to federal,state and local environmental laws and regulations (in both the United Statesand abroad) that govern the handling, transportation and discharge of materialsinto the environment, including into the air, water and soil. Environmentallaws could become even more stringent in the future, imposing greatercompliance costs and increasing risks and penalties associated with theirviolation or the contamination of the environment. Should there be anenvironmental accident or violation related to our operations, our financialcondition or results of operations may be adversely affected. We could be heldliable for significant penalties and damages under environmental laws and couldalso be subject to a revocation of licenses or permits, which could materiallyand adversely affect our financial condition or results of operations. 

**Ouroperations are vulnerable to interruption by fire, earthquake, power loss,telecommunications failure and other events beyond our control.**

Our operations arevulnerable to interruption by earthquakes, fires, electrical blackouts, powerlosses, telecommunications failures and other events beyond our control. Ourexecutive offices and key manufacturing and engineering facilities are locatedin Southern California. Because the Southern California area is located in an earthquake-sensitivearea, we are particularly susceptible to the risk of damage to, or totaldestruction of, our facilities in Southern California and the surroundingtransportation infrastructure, which could affect our ability to make andtransport our products. Furthermore, the State of California experienceddeficiencies in its power supply in 2002, which resulted inoccasional rolling black-outs and caused us two-to-four hour power supplyinterruptions over the course of a few days. In addition, California continuesto face periodic shortages in its power supply. If rolling blackouts or otherdisruptions in power occur, our business and operations would be disrupted, andour business would be adversely affected. In January 2004, weexperienced a fire in part of our facility in Belgium, which destroyed certaininventory, property and equipment. Our business interruption insurance maynot be sufficient to compensate us for losses that may occur and would notcompensate us for the loss of consumer goodwill due to disruption of service.

**Wemay be sued by third parties for alleged infringement of their proprietaryrights.**

We have received, fromtime to time, notices of alleged infringement and/or invitations to takelicenses from third parties asserting that they have patents (or otherintellectual property rights) that are relevant to our present or contemplatedbusiness operations. There is no guarantee that we will be able to avoidincurring litigation costs related to such assertions. Intellectual propertyclaims could be successfully asserted against us, preventing us from usingcertain of our technologies, or forcing us to modify our technology or to paylicense fees for use of that technology. Such additional engineering expensesor licensing costs could have an adverse effect on the results of ouroperations. In addition, we could incur substantial expenses in defendingagainst these claims, whether or not we ultimately prevailagainst these claims. 

**Ourbusiness operations will be restricted by provisions of the agreementsgoverning our debt.**

At December 31, 2004, wehad $46.6 million of 51¤4%senior notes outstanding, and we had in place a $20.0 million senior revolvingcredit facility (with no amounts outstanding) that is subject to a borrowing basecomprised of eligible accounts receivable and inventory. Our outstandingindebtedness, including our 51¤4%senior notes and any debt incurred pursuant to the senior revolving creditfacility, is secured by substantially all of our assets. In addition, we mayneed to incur additional debt in the future as we continue to grow our business.The agreements governing our debt contain a number of covenants that 

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restrictour business operations, including covenants limiting our ability to makeinvestments, enter into mergers or acquisitions, dispose of assets, incuradditional debt, grant liens, enter into transactions with affiliates, redeemor repurchase our capital stock, repay other debt and pay dividends. As ofMarch 31, 2003, we were not in compliance with certain of our financialcovenants set forth in the agreements governing our then-existing senior creditfacilities and second lien notes, which noncompliance was waived by therequisite lenders under the existing senior credit facilities and the requisitenumber of holders of the second lien notes. Our ability to comply withcovenants under agreements governing our debt may be affected by events thatare beyond our control, including prevailing economic, financial and industryconditions. Our failure to comply with the covenants or restrictions containedin agreements governing our debt could result in an event of default underthese agreements, which could result in our debt, together with accrued andunpaid interest, being declared immediately due and payable. 

**Creditrisks could materially and adversely affect our operations and financialcondition.**

Negative or decliningeconomic conditions can increase our exposure to our customers’ credit risk andthe risk that our customers will not be able to fulfill their paymentobligations to us. In particular, sales to larger customers are sometimes madethrough contract manufacturers that do not have the same resources as thosecustomers. Additionally, if one of our major customers experienced financialdifficulties, losses could be in excess of our current allowance. At December 31,2004 and 2003, one of our customers accounted for approximately 13% and 41% ofour total net receivables, respectively. For the periods ended December 31,2004 and 2003, our accounts receivable write-offs amounted to less than 1% ofour net accounts receivable balance. In the event our customers or thosecontract manufacturers experience financial difficulties and fail to meet theirfinancial obligations to us, or if our recorded bad debt provisions withrespect to receivables obligations do not accurately reflect future customerpayment levels, we could incur additional write-offs of receivables that are inexcess of our provisions, which could have a material adverse effect on ouroperations and financial condition. In addition, we depend on the continuingwillingness of our suppliers to extend credit to us to finance our inventorypurchases. If suppliers become concerned about our ability to generate cash andservice our debt, they may delay shipments to us or require payment in advance.

**ITEM 2.**                PROPERTIES

Our headquarters are located in Tustin, California. Weown two manufacturing facilities, both of which are outside of the UnitedStates, and lease four other manufacturing facilities. In addition, we leasesatellite offices located in England, France, Germany and the Netherlands,which serve as sales offices. Our facilities in Bombay, India are leased bycertain of our subsidiaries. These facilities manufacture labor-intensivemagnetic sub-assemblies that are distributed to our other facilities forincorporation into our final products.

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Theleases are generally short-term, with the exception of the lease for ourheadquarters, which has approximately four years of its present term remainingwith one five-year renewal option. All of our short-term leases have renewaloptions as indicated in the following table. We believe that our leasedlocations are adequate for our immediate needs and that additional orsubstitute space is available, if needed, to accommodate future growth andexpansion, or relocation. Please refer to Note 13 to our consolidatedfinancial statements included elsewhere in this report for the amount of ourlong-lived assets outside the United States.
| **Facilities**      | ** ** | ** **                                | ** ** | **Primary  Activity** | ** ** | **Approximate  Square Footage** | ** ** | **Owned/  Leased** | ** ** | **Lease  Expiration Date** | ** ** | **Renewal Option**            |
|---------------------|------------|-------------------------------------------|------------|-----------------------|------------|---------------------------------|------------|--------------------|------------|----------------------------|------------|-------------------------------|
| Tustin, California  |       | Manufacturing  Engineering Administrative |       |                  | 86,000     |                            |       | Leased             |       | April 30, 2009        |       | One five-year renewal         |
| Tustin, California  |       | Warehousing                               |       |                  | 10,000     |                            |       | Leased             |       | April 30,  2009       |       | One three-year  renewal       |
| Irvine, California  |       | Manufacturing  Engineering                |       |                  | 31,000     |                            |       | Leased             |       | April 30,  2009       |       | One one-year  renewal         |
| Wavre, Belgium      |       | Manufacturing  Engineering Administrative |       |                  | 178,000    |                            |       | Owned              |       | Not applicable             |       | Not applicable                |
| Guadalajara, Mexico |       | Manufacturing                             |       |                  | 35,000     |                            |       | Owned              |       | Not applicable             |       | Not applicable                |
| Bombay, India       |       | Manufacturing                             |       |                  | 14,000     |                            |       | Leased             |       | June 28,  2004 *      |       | Unlimited  five-year renewals |
| Bombay, India       |       | Manufacturing                             |       |                  | 17,000     |                            |       | Leased             |       | January 10, 2005 *    |       | Unlimited five-year  renewals |

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*                    Leases are month-to-monthuntil renewal negotiations are completed with local authorities.

We are currently in theprocess of constructing a 100,000 square foot production facility in Shanghai,China, which is scheduled for completion in early 2006.

**ITEM 3.**                LEGAL PROCEEDINGS

During the year ended December 31,2004, we were not a party to any material legal proceedings. We areoccasionally a party to lawsuits relating to routine matters incidental to ourbusiness. As with all litigation, we can provide no assurance as to the outcomeof any particular lawsuit, and we note that litigation inherently involvessignificant costs.

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

None.

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**PART II**

**ITEM 5.**                MARKET FORREGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OFEQUITY SECURITIES

(a)   Our common stock is listed on the NASDAQ andis traded under the symbol “CHRK”. The following table sets forth, for thequarterly periods indicated, the range of high and low closing sale prices forour common stock. Prior to February 20, 2004, there was no established publictrading market for shares of our common stock.
| ** **     | ** ** | **Year ended  December 31,  2004** | ** ** |
|----------------|------------|----------------------------------------------|------------|
| ** **     | ** ** | **High**                                     | ** ** | **Low** | ** ** |
| First Quarter  |       | 16.84                                        |       | 14.10 |   |
| Second Quarter |       | 15.22                                        |       | 11.09 |   |
| Third Quarter  |       | 12.71                                        |       | 6.99 |   |
| Fourth Quarter |       | 9.61                                         |       | 6.42 |   |

 

As of March 16, 2005, there were 1,023 holders ofour common stock.

We have not paidany cash dividends on our common stock and do not anticipate paying dividendsin the foreseeable future.

(b)   On February25, 2004, we closed the sale of 6,600,000 shares of our common stock at a priceof $14.50 per share in a firm commitment underwritten initial public offering.The offering was effected pursuant to a Registration Statement on Form S-1(File No. 333-110723), which the SEC declared effective on February 19, 2004.

Of the $95.7million in gross proceeds raised by us in the offering:

1.                approximately $6.7million was paid to the underwriters in connection with the underwritingdiscount;

2.                approximately $2.5million was paid by us in connection with offering fees and expenses;

3.                approximately$73.2 million was used to repay principal and interest on our outstandingindebtedness;

4.                approximately $5.3million has been used as of December 31, 2004, for general corporatepurposes; and

5.                approximately $8.0million has been retained by us for general corporate purposes and is includedin cash and cash equivalents and short-term investments.

(c)   None.

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**ITEM 6.**                SELECTED FINANCIALDATA

The selected consolidatedfinancial data as of December 31, 2002, 2001 and 2000 and for the yearsended December 31, 2001 and 2000 have been derived from our auditedconsolidated financial statements that are not included in this report. Theselected consolidated financial data as of December 31, 2004 and 2003 andfor the years ended December 31, 2004, 2003 and 2002 are derived from ouraudited consolidated financial statements that appear elsewhere in this report.No per share information is available prior to November 2002, when weconverted from a California limited liability company to a Delaware corporation.You should read the following financial information together with theinformation under “Management’s Discussion and Analysis of Financial Conditionand Results of Operations” and our consolidated financial statements and therelated notes appearing elsewhere in this report.
| ** **                                                                                   | ** ** | **Years Ended December 31,**                           | ** ** |
|----------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|
| ** **                                                                                   | ** ** | **2004**                                                              | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000(1)** | ** ** |
| ** **                                                                                   | ** ** | **(in thousands, except per share amounts)** | ** ** |
| **Consolidated Statement of  Operations Data:**                                              |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Net sales                                                                                    |       | $                                                                     | 148,511    |   | $ | 111,943 |   | $ | 96,293 |   | $ | 121,994 |   | $ | 143,175 |   |
| Cost of sales                                                                                |       | 104,140                                                               |       | 79,397 |   | 70,598 |   | 91,243 |   | 97,961 |   |
| Gross profit                                                                                 |       | 44,371                                                                |       | 32,546 |   | 25,695 |   | 30,751 |   | 45,214 |   |
| Operating  expenses                                                                          |       | 25,704                                                                |       | 22,522 |   | 18,150 |   | 20,236 |   | 17,082 |   |
| Restructuring  costs                                                                         |       | —                                                                |       | 4,474 |   | — |   | — |   | — |   |
| Stock  compensation expense                                                                  |       | 243                                                                   |       | 990 |   | — |   | — |   | — |   |
| Operating income                                                                             |       | 18,424                                                                |       | 4,560 |   | 7,545 |   | 10,515 |   | 28,132 |   |
| Interest expense                                                                             |       | (5,234                                                                | )          | (17,028 | ) | (14,801 | ) | (16,470 | ) | (16,779 | ) |
| Debt  restructuring costs                                                                    |       | —                                                                |       | — |   | (3,204 | ) | — |   | — |   |
| Other income  (expense), net                                                                 |       | 47                                                                    |       | 1,187 |   | (431 | ) | (270 | ) | 342 |   |
| Income (loss) before income taxes and cumulative  effect of a change in accounting principle |       | 13,237                                                                |       | (11,281 | ) | (10,891 | ) | (6,225 | ) | 11,695 |   |
| Provision for  income taxes                                                                  |       | 2,796                                                                 |       | 1,151 |   | 120 |   | 268 |   | 32 |   |
| Net income (loss) before cumulative effect of a change  in accounting principle         |       | 10,441                                                                |       | (12,432 | ) | (11,011 | ) | (6,493 | ) | 11,663 |   |
| Cumulative effect  of a change in accounting principle: goodwill impairment                  |       | —                                                                |       | — |   | (34,600 | ) | — |   | — |   |
| Net income (loss)                                                                            |       | $                                                                     | 10,441     |   | $ | (12,432 | ) | $ | (45,611 | ) | $ | (6,493 | ) | $ | 11,663 |   |
| Net income (loss)  per share:                                                                |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Basic                                                                                        |       | $                                                                     | 0.62       |   | $ | (5.83 | ) |   |   |   |   |   |   |
| Diluted                                                                                      |       | 0.62                                                                  |       | (5.83 | ) |   |   |   |   |   |   |
| Weighted average  shares outstanding:                                                        |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Basic                                                                                        |       | 16,761                                                                |       | 2,132 |   |   |   |   |   |   |   |
| Diluted                                                                                      |       | 18,639                                                                |       | 2,132 |   |   |   |   |   |   |   |
| **Other  Financial Data:**                                                                   |       |                                                                  |       |   |   |   |   |   |   |   |   |
| Cash flow  provided by (used in) operating activities                                        |       | $                                                                     | 3,979      |   | $ | (4,805 | ) | $ | 5,161 |   | $ | 17,009 |   | $ | 6,730 |   |
| Capital  expenditures                                                                        |       | 4,925                                                                 |       | 1,962 |   | 1,027 |   | 1,745 |   | 4,873 |   |
| Depreciation and  amortization                                                               |       | 3,207                                                                 |       | 3,594 |   | 3,445 |   | 6,694 |   | 4,827 |   |

 

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| ** **                            | ** ** | **As of December 31,** | ** ** |
|---------------------------------------|------------|---------------------------------------|------------|
| ** **                            | ** ** | **2004**                              | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                            | ** ** | **(in thousands)**               | ** ** |
| **Consolidated Balance Sheet  Data:** |       |                                  |       |   |   |   |   |   |   |   |   |
| Cash and cash  equivalents            |       | $                                     | 14,585     |   | $ | 4,887 |   | $ | 8,504 |   | $ | 2,592 |   | $ | 853 |   |
| Working capital                       |       | 50,244                                |       | 18,626 |   | 15,585 |   | 1,169 |   | 10,337 |   |
| Total assets                          |       | 99,812                                |       | 77,215 |   | 63,944 |   | 103,645 |   | 137,020 |   |
| Total debt                            |       | 46,630                                |       | 172,435 |   | 157,972 |   | 158,061 |   | 169,133 |   |
| Stockholders’ equity  (deficit)  |       | 22,134                                |       | (129,968 | ) | (119,611 | ) | (76,132 | ) | (69,061 | ) |
|                                       |            |                                       |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

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(1)          Includes the results ofCherokee Europe (formerly ITS) from the period June 16, 2000 to December 31,2000. We acquired Cherokee Europe on June 15, 2000.

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**ITEM 7.**                MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

**Forward-looking statements**

*You should read the following discussion and analysisof our results of operations, financial condition and liquidity in conjunctionwith our consolidated financial statements and the related notes thereto.Statements in this report containing the words “believe,” “anticipate,” “intend,”“estimate,” “expect,” and similar expressions, or the negative of such words orexpressions, and any other statements which may be construed as a prediction offuture performance or events, constitute “forward-looking statements” withinthe meaning of the Private Securities Litigation Reform Act of 1995. Theseforward-looking statements are based upon our current expectations andprojections about future events. Such forward-looking statements involve knownand unknown risks, uncertainties, and other factors that may cause our actualresults, performance, or achievements, or industry results, to be materiallydifferent from any future results, performance, or achievements expressed orimplied by such forward-looking statements. Such factors include, among others,(1) changes in general economic and business conditions, domestically andinternationally, (2) reductions in sales to, or the loss of, any of oursignificant customers or in customer capacity generally, (3) changes inour sales mix to lower margin products, (4) increased competition in ourindustry, (5) disruptions of our established supply channels, (6) ourlevel of debt and restrictions imposed by our debt agreements, and (7) theadditional risk factors identified in Part I, Item 1 of this document. Exceptas required by law, we undertake no obligation to update any forward-lookingstatements even though our situation may change in the future.*

**Overview**

We are a designer and manufacturer of power suppliesfor OEMs. Our advanced power supply products are typically custom designedinto mid- to high-end commercial applications in the computing and storage,wireless infrastructure, enterprise networking, medical and industrial markets.

We operate worldwide and have facilities in OrangeCounty, California; Bombay, India; Guadalajara, Mexico; and Wavre, Belgium. Wewere founded in 1978 in Orange County, California. As we expanded our businessand customer base, we opened facilities in Bombay, India and in Guadalajara,Mexico. In June 2000, we acquired Cherokee Europe, which added amanufacturing facility in Wavre, Belgium and enabled us to better serve the Europeanmarket.

We generate a significant portion of our sales fromOEMs in the communications and computing market segment, particularly thewireless infrastructure and networking sectors. During 2001, 2002 and the firstquarter of 2003, our operating results were negatively affected by unfavorableeconomic conditions and reduced capital spending by communication serviceproviders that purchase our customers’ products. Although we saw improvement inthese economic conditions throughout the balance of 2003 and into 2004, theseimprovements may not continue or may not be sustainable. If improved conditionsdo not continue, or instead deteriorate, our operating results and financialcondition could be adversely affected.

We experienced somewhat lower sales during the secondhalf of 2004 compared to the first half of 2004 primarily due to weakness indemand from one of our largest customers. Gross margins in the second half of2004 reflect a shift in our sales mix during that period, with increased salescoming from certain programs with higher material cost, combined with increasedrevenues from new programs.

On January 19, 2004 we experienced a fire in partof our facility in Belgium, which destroyed some inventory, property andequipment. We were fully insured at the replacement value for the destroyeditems, subject to a $5,000 deductible, and the facility returned to fullproduction the next day. See further discussion in Note 15 to the accompanyingconsolidated financial statements.

We completed our initial public offering of 6,600,000shares of our common stock on February 25, 2004. The net proceedsfrom the offering were $86.5 million. We used approximately 

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$73.2 million of thenet proceeds to repay outstanding indebtedness and related interest. In connectionwith the offering, we issued 6,283,796 shares of our common stock uponconversion of the original principal amount of our then outstanding seniorconvertible notes, and issued 4,071,114 shares of common stock upon exercise ofoutstanding warrants.

In addition, in connection with the offering, weamended and restated our existing senior revolving credit facility with GeneralElectric Capital Corporation. The amended facility (the “Credit Facility”)provides for borrowings of up to $20.0 million that are subject to a borrowingbase comprised of eligible accounts receivable and inventory, which was $12.9million at December 31, 2004. Please refer to “Liquidity and CapitalResources” below for additional information regarding our outstandingindebtedness.

During 2005 and early 2006,we plan to establish operations in China by constructing a 100,000 square footfacility near Shanghai, which will result in capital expenditures in 2005 beingsignificantly higher than previous years’ levels.

**Basis of Reporting**

***Net Sales***

Net sales consist of salesduring the period presented, net of returns. Revenue is recognized from productsales at the time of shipment and passage of title.

***Cost of Sales***

The principal elementscomprising cost of sales are raw materials, labor and manufacturing overhead.Raw materials account for a large majority of costs of sales. Raw materialsinclude magnetic sub-assemblies, sheet metal, electronic and othercomponents, mechanical parts and electrical wires. Direct labor costs includecosts of hourly employees. Manufacturing overhead includes salaries, and thedirect expense and allocation of costs attributable to manufacturing for leasecosts, depreciation on property, plant and equipment, utilities, property taxesand repairs and maintenance.

***Operating Expenses***

Operating expenses includeengineering costs, selling and marketing costs and general and administrativeexpenses. Engineering costs primarily include salaries and benefits ofengineering personnel, safety approval and quality certification fees,depreciation on equipment and subcontract costs for third-party contractingservices. Selling and marketing expenses primarily include salaries andbenefits to account managers and commissions to independent salesrepresentatives. Administrative expenses primarily include salaries andbenefits for certain management and administrative personnel, professional feesand information system costs. Operating expenses also include the directexpense and allocation of costs attributable to these departments for leasecosts, depreciation on property, plant and equipment, utilities, property taxesand repairs and maintenance.

**Critical Accounting Policies**

We prepare ourconsolidated financial statements in conformity with accounting principlesgenerally accepted in the United States. As such, we are required to makecertain estimates, judgments and assumptions that we believe are reasonablebased upon the information currently available. These estimates and assumptionsaffect the reported amounts of assets and liabilities at the date of thefinancial statements and the reported amounts of revenues and expenses duringthe periods presented. Any future changes to these estimates and assumptionscould have a material effect on our reported amounts of 

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revenue,expenses, assets and liabilities. The significant accounting policies that webelieve are the most critical to aid in fully understanding and evaluating ourreported financial results include the following:

***Revenue Recognition***

We recognize revenue fromproduct sales at the time of shipment and passage of title. We also offer ourcustomers the right to return products that do not function properly within alimited time after delivery. We monitor and track product returns and record aprovision for warranty based on historical experience, which has beeninsignificant to our financial condition and results of operations. Anysignificant increase in product failure rates could have a material adverseeffect on our operating results for the period or periods in which thosereturns materialize.

***Accounts Receivable***

We perform ongoing creditevaluations of our customers and adjust credit limits based upon paymenthistory, the customer’s current credit worthiness and various other factors, asdetermined by our review of their current credit information. We continuouslymonitor collections and payments from our customers and maintain a provisionfor estimated credit losses based upon our historical experience and anyspecific customer collection issues that we have identified. While creditlosses have historically been within our expectations and the provisionsestablished, we may not continue to experience the same credit loss rates thatwe have in the past. A significant portion of our accounts receivable areconcentrated in a small number of customers. A significant change in theliquidity or financial position of any one of these customers could have amaterial adverse effect on the collectibility of our accounts receivable, ourliquidity and our future operating results. During 2004 and 2003, our top tencustomers accounted for approximately 58% and 61% of our net sales,respectively.

***Inventories***

We value our inventory atthe lower of the actual cost to purchase and/or manufacture the inventory andthe current estimated market value of the inventory using the weighted averagecost method. We regularly review inventory quantities on hand and record aprovision for excess and obsolete inventory based primarily on our historicalusage data and estimates of future demand. Our industry is characterized byrapid technological change, frequent new product development, and rapid productobsolescence that could result in an increase in the amount of obsoleteinventory quantities on hand. As demonstrated during the past five years,demand for our products can fluctuate significantly. A significant increase inthe demand for our products could result in a short-term increase in the costof inventory purchases while a significant decrease in demand could result inan increase in the amount of excess inventory quantities on hand. In addition,our estimates of future product demand may prove to be inaccurate, in whichcase we may have understated or overstated the provision required for excessand obsolete inventory. In the future, if our inventory is determined to beovervalued, we would be required to recognize additional expense in our cost ofgoods sold at the time of such determination. Likewise, if our inventory isdetermined to be undervalued, we may have over reported our costs of goods soldin previous periods and would be required to recognize additional operatingincome at the time such inventory is sold. Therefore, although we make everyreasonable effort to ensure the accuracy of our estimates of future productdemand, any significant unanticipated changes in demand or technologicaldevelopments could have a material effect on the value of our inventory and ourreported operating results.

***Deferred Taxes***

We recognize deferred taxassets and liabilities based on the differences between the financial statementcarrying values and the tax bases of assets and liabilities. We regularlyreview our deferred tax assets for recoverability and establish a valuationallowance based on historical taxable income, projected 

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futuretaxable income, and the expected timing of the reversals of existing temporarydifferences. If our future taxable income is significantly higher than expectedand/or we are able to utilize our tax credits, we may be required to reverseall or a significant part of our valuation allowance against such deferred taxassets which could substantially reduce our effective tax rate for such period.Therefore, any significant changes in statutory tax rates or the amount of ourvaluation allowance could have a material effect on the value of our deferredtax assets and liabilities, and our reported financial results.

**Goodwill and Long Lived Assets**

We review the recoverability of the carrying value ofgoodwill on an annual basis or more frequently when an event occurs or circumstanceschange to indicate that an impairment of goodwill has possibly occurred. Thedetermination of whether any potential impairment of goodwill exists is basedupon a comparison of the fair value of the reporting unit to the accountingvalue of its net assets.

We also review therecoverability of the carrying value of long-lived assets whenever events orchanges in circumstances indicate that the carrying amount of an asset may notbe recoverable. Recoverability of these assets is determined based upon theforecasted undiscounted future net cash flows from the operations to which theassets relate, utilizing our best estimates, appropriate assumptions andprojections at the time. These projected future cash flows may varysignificantly over time as a result of increased competition, changes intechnology, fluctuations in demand, consolidation of our customers andreductions in average selling prices. If the carrying value is determined notto be recoverable from future operating cash flows, the asset would be deemedimpaired and an impairment loss would be recognized to the extent the carryingvalue exceeded the estimated fair market value of the asset.

**Results of Operations**

Thefollowing table sets forth selected items from our statements of operations asa percentage of our net sales for the periods indicated:
| ** **                                                                                       | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                       | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net sales                                                                                        |       | 100.0                                       | %          | 100.0 | % | 100.0 | % |
| Cost of sales                                                                                    |       | 70.1                                        |       | 70.9 |   | 73.3 |   |
| Gross profit                                                                                     |       | 29.9                                        |       | 29.1 |   | 26.7 |   |
| Operating  expenses                                                                              |       | 17.3                                        |       | 20.1 |   | 18.9 |   |
| Restructuring  costs                                                                             |       | —                                      |       | 4.0 |   | — |   |
| Stock  compensation expense                                                                      |       | .2                                          |       | .9 |   | — |   |
| Operating income                                                                                 |       | 12.4                                        |       | 4.1 |   | 7.8 |   |
| Interest expense                                                                                 |       | (3.5                                        | )          | (15.2 | ) | (15.4 | ) |
| Debt  restructuring costs                                                                        |       | —                                      |       | — |   | (3.3 | ) |
| Other income  (expense), net                                                                     |       | —                                      |       | 1.0 |   | (0.5 | ) |
| Net income (loss) before income taxes and cumulative  effect of a change in accounting principle |       | 8.9                                         |       | (10.1 | ) | (11.4 | ) |
| Provision for  income taxes                                                                      |       | 1.9                                         |       | 1.0 |   | 0.1 |   |
| Net income (loss) before cumulative effect of a  change in accounting principle             |       | 7.0                                         |       | (11.1 | ) | (11.5 | ) |
| Cumulative effect  of change in accounting principle: goodwill impairment                        |       | —                                      |       | — |   | (35.9 | ) |
| Net income (loss)                                                                                |       | 7.0                                         | %          | (11.1 | )% | (47.4 | )% |

 

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

*Net Sales*

Net sales increased by approximately 32.7%, or$36.6 million, to $148.5 million for the year ended December 31,2004 from $111.9 million for the year ended December 31, 2003.

This increase wasprimarily attributable to an increase in sales volume to a broad base ofcustomers in the datacom, telecom and industrial end markets, due to economicimprovements in the end markets in which they operate. Our sales increaseincluded sales from several new customers we have engaged in recent quarters. Salesto three new customers accounted for $12.2 million of the increase insales during 2004. A favorable foreign currency exchange rate effect of$5.1 million due to a stronger Euro also contributed to the net increasein sales.

*Gross Profit*

Gross profit increased by 36.3%, or$11.8 million, to $44.4 million for the year ended December 31, 2004from $32.5 million for the year ended December 31, 2003. Gross marginfor the year ended December 31, 2004 increased to 29.9% from 29.1% in theprior year.

Of the $11.8 million increase in gross profit,$10.6 million was attributable to higher sales volume and the remainingportion was attributable to increased gross margin. The increase in gross marginwas due primarily to a reduction in direct labor and factory overhead costs asa percentage of sales of 0.6% and 1.8%, respectively, and was partially offsetby a 1.6% increase in material cost as a percentage of sales. For the yearended December 31, 2004, direct labor and factory overhead costs as apercentage of sales at Cherokee Europe improved significantly, reflectingincreased efficiencies due to higher production volumes, as well as a lowermanufacturing cost structure resulting from the restructuring plan implementedin June 2003, as described below. These decreases in direct labor andoverhead costs as a percentage of sales were partially offset by an increase inmaterial costs as a percentage of sales in both Europe and North America,resulting from a change in product mix primarily during the second half of2004. This mix included programs with higher material content than the prioryear, as well as increased revenues from new programs, which typically havehigher material and labor costs in the early stages of production.

*Operating Expenses*

Operating expenses for the year ended December 31,2004 decreased by $2.1 million, or 7.3%, to $25.9 million from$28.0 million for the year ended December 31, 2003. As a percentageof sales, operating expenses decreased significantly to 17.5% from 25.0% in theprior year.

The net decrease inoperating expenses of $2.1 million was primarily due to one-time CherokeeEurope restructuring costs of $4.5 million recorded in June 2003(described below) and a decrease in stock compensation expense of $0.7 million.These decreases were partially offset by increases in engineering anddevelopment, selling and marketing, and general and administrative expenses of$0.2 million, $1.6 million and $1.4 million, respectively. These increasedexpenses were incurred primarily to support the significantly higher salesvolume and related business activities compared to a year ago, as well as theadditional expenses associated with being a public company. Of these increases,approximately $1.0 million was attributable to a stronger Euro versus the yearended December 31, 2003, $0.5 million was attributable to higher salescommissions, $0.5 million was attributable to increased insurance costsprimarily for directors and officers liability, and $0.4 million wasattributable to professional fees and public company expenses. Increases inpayroll and related costs were substantially offset by decreases in incentivecompensation in 2004.

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*Restructuring Costs*

During 2003, we implemented a restructuring planinvolving the elimination of a number of operational and administrativepositions at the Cherokee Europe facility in Belgium due to unfavorable economicconditions in that market. Pursuant to the restructuring plan, we recorded acharge for restructuring costs of $4.5 million for the year ended December 31,2003. The restructuring costs were comprised entirely of one-time terminationbenefits to be paid through 2010. We believe our remaining accrual of $1.8million will be sufficient to cover any remaining liabilities associated withthis restructuring plan.

Thefollowing is a breakdown of the Cherokee Europe restructuring accrual for theperiod January 1, 2003 through December 31, 2004 (in thousands):
| Balance as of  January 1, 2003   |   | $      | — |   |
|---------------------------------------|--------|--------|--------|--------|
| Provision                             |   | 4,474  |   |
| Payments                              |   | (1,942 | )      |
| Foreign exchange rate change          |   | 282    |   |
| Balance as of  December 31, 2003 |   | 2,814  |   |
| Provision                             |   | (54    | )      |
| Payments                              |   | (1,122 | )      |
| Foreign exchange rate change          |   | 129    |   |
| Balance as of  December 31, 2004 |   | $      | 1,767  |   |

 

*Stock CompensationExpense*

Stock compensation expense for the year ended December 31,2004 decreased $0.8 million, or 75.4%, to $0.2 million from$1.0 million for the year ended December 31, 2003.

In 2004, we recorded stockcompensation expense of $0.2 million primarily in connection with theretirement of our former Chairman. In 2003, we issued 140,677 shares ofcommon stock to management for services rendered. In addition, we issued 12,824shares of common stock to the management of Cherokee Europe for achievingspecified financial performance targets during the second half of 2003, and sharesrelated to the achievement of these performance targets were issued in 2004. Asa result, we recorded stock compensation in the year ended December 31,2003 of $1.0 million, which represented the estimated fair value of theseshares as of the historical or proposed issuance date.

*Operating Income*

As a result of the factorsdiscussed above, operating income increased by approximately 304.0%, or$13.9 million, to $18.4 million for the year ended December 31,2004 from $4.6 million for the year ended December 31, 2003.Operating margin increased to 12.4% from 4.1% in the prior year. Operatingincome for the year ended December 31, 2003 included the effect of theCherokee Europe restructuring costs of $4.5 million and stock compensationexpense of $1.0 million.

*Interest Expense*

Interest expense for theyear ended December 31, 2004 was $5.2 million compared to$17.0 million for the year ended December 31, 2003. The $11.8 milliondecrease in interest expense was due to the repayment of $73.2 million ofcertain outstanding indebtedness and accrued interest, and the conversion toequity of our senior convertible notes, in connection with our initial publicoffering in February 2004.

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*Other Income, Net*

Other income, net for theyear ended December 31, 2004 was $0.05 million compared to $1.2 millionfor the year ended December 31, 2003. Other income, net for the year endedDecember 31, 2003 included a gain on the sale of land of $0.4 million andforeign currency exchange gains of $0.6 million.

*Income Taxes*

Provision for income taxesfor the year ended December 31, 2004 increased by $1.6 million to $2.8 million,compared to $1.2 million for the year ended December 31, 2003.

Provision for income taxesof $2.8 million for the year ended December 31, 2004 reflects an effectivetax rate of 21.1%. The increase in both the provision for income taxes andeffective tax rate from 2003 was due largely to shifts in the geographical mixof income for 2004 and reflects taxable income in Belgium as we no longer hadnet operating losses available in Belgium in 2004. Income generated in theUnited States during 2004 was fully offset by the utilization of deferred taxassets, resulting in the relatively low effective tax rate for the year. Seefurther discussion of the income tax provision and net operating losscarryforwards in Note 14 to the accompanying consolidated financial statements.Provision for income taxes for the year ended December 31, 2003 of $1.2million was primarily due to an accrual for an estimated tax liability relatingto an audit assessment by the India tax authorities for previous years.

*Net Income (Loss)*

As a result of the factorsdiscussed above, we recorded net income of $10.4 million for the yearended December 31, 2004, compared to a net loss of $12.4 millionduring the year ended December 31, 2003.

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

*Net Sales*

Net sales increased byapproximately 16.3%, or $15.7 million, to $111.9 million for the yearended December 31, 2003 from $96.3 million for the year ended December 31,2002.

This sales increase wasprimarily due to sales to three new customers aggregating $12.0 millionduring the current year, mainly in the computing and storage market, and afavorable foreign currency exchange rate effect of $7.3 million due to astronger Euro, partially offset by lower sales of $7.2 million related toa fixed quantity project for a customer of Cherokee Europe that was completedin November 2002.

*Gross Profit*

Gross profit increased byapproximately 26.7%, or $6.9 million, to $32.5 million for the yearended December 31, 2003 from $25.7 million for the year ended December 31,2002. Gross margin for the year ended December 31, 2003 increased to 29.1%from 26.7% in the prior year.

Of the $6.9 millionincrease in gross profit, $4.2 million was attributable to the highersales level and the remaining portion was attributable to the increased grossmargin. The increase in gross margin was primarily due to lower material anddirect labor costs as a percentage of sales. Material costs as a percentage ofsales decreased by 1.4%, which resulted primarily from negotiated pricedecreases with suppliers and lower costs of material due to efforts to redesignproducts and standardize components.

*Operating Expenses*

Operating expenses for theyear ended December 31, 2003, excluding Cherokee Europe restructuringcosts of $4.5 million and stock compensation expense of $1.0 million,increased by approximately 24.1%, or $4.4 million, to $22.5 millionfrom $18.2 million for the year ended December 31, 2002. As apercentage of sales, operating expenses increased to 20.1% from 18.8% in theprior year.

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The increase in operatingexpenses was primarily attributable to the foreign currency exchange rateeffect of $1.6 million due to a stronger Euro in 2003, and to increases inengineering and development expenses of $1.3 million and selling andmarketing expenses of $0.7 million, which increases were primarily to supportthe higher sales levels, additional design wins and new product introductions.

*Restructuring Costs*

During 2003, weimplemented a restructuring plan involving the elimination of 61 operationaland administrative positions at the Cherokee Europe facility in Belgium due tounfavorable economic conditions in that market. As of September 30, 2003we completed all of these terminations. Pursuant to the Cherokee Europerestructuring plan, we recorded a charge for restructuring costs of$4.5 million for the year ended December 31, 2003. The restructuringcosts are comprised entirely of one-time termination benefits to be paidthrough 2010, and were determined by local labor laws and union labornegotiations. We paid $1.9 million of these costs through December 31,2003.

*Stock CompensationExpense*

In July 2003, weissued 140,677 shares of common stock to management for services rendered. Inaddition, we issued 12,824 shares of common stock to the management of CherokeeEurope for achieving specified financial performance targets during the secondhalf of 2003. We recorded stock compensation expense for the achievement ofboth of these performance targets in the year ended December 31, 2003 of$1.0 million, which represents the estimated fair value of these shares as ofthe issuance date.

*Operating Income*

As a result of the factorsdiscussed above, operating income decreased by approximately 39.6%, or$3.0 million, to $4.6 million for the year ended December 31,2003 from $7.5 million for the year ended December 31, 2002.Operating margin decreased to 4.1% from 7.8% in the prior year. Excluding theeffect of the Cherokee Europe restructuring costs of $4.5 million andstock compensation expense of $1.0 million recorded in 2003, operating incomeincreased by approximately 32.8%, or $2.5 million, to $10.0 millionfor the year ended December 31, 2003, and the operating margin was 9.0%.

*Interest Expense*

Interest expense for theyear ended December 31, 2003 was $17.0 million compared to$14.8 million for the year ended December 31, 2002. The$2.2 million increase in interest expense was primarily due to higher debtlevels compared to the prior year and the effect of higher interest ratesresulting from the Restructuring Transactions.

*Income Taxes*

The provision for incometaxes for the year ended December 31, 2003 was $1.2 million comparedto $0.1 million for the year ended December 31, 2002. The increasedtax provision reflects the accrual of an estimated tax liability relating to anaudit assessment by the India tax authorities for previous years.

*Goodwill Impairment*

In compliance with therequirements of SFAS No. 142, we completed our transitional impairmenttest as of January 1, 2002. Based on discounted cash flow and industrymarket multiple valuation methodologies, we determined the carrying value ofCherokee Europe exceeded its fair value. Based on this valuation, andunfavorable economic trends in the industries in which Cherokee Europeoperates, we concluded that goodwill in the amount of $34.6 million wasimpaired. Accordingly, we recorded a non-cash 

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chargeof $34.6 million to reduce the carrying value of our goodwill. Suchimpairment charge is reflected as the cumulative effect of a change inaccounting principle as of January 1, 2002.

*Net Loss*

As a result of the factorsdiscussed above, we recorded a net loss of $12.4 million for the yearended December 31, 2003, compared to a net loss of $11.0 millionbefore the cumulative effect of a change in accounting principle for goodwillimpairment. Net loss including the cumulative effect of a change in accountingprinciple was $45.6 million for the year ended December 31, 2002.

**Liquidity and Capital Resources**

We expect our liquidity requirements will be primarilyfor working capital and capital expenditures. We have historically financed ourcapital needs with cash from operations supplemented by borrowings from creditfacilities and debt issuances. As of December 31, 2004, we had cash andcash equivalents of $14.6 million, short-term investments of $4.2 millionand borrowing availability of $12.9 million under our existing revolving creditfacility. We believe these amounts, together with cash flow from operations,are sufficient to meet our cash requirements for at least the next twelvemonths.

We completed our initial public offering of 6,600,000shares of our common stock on February 25, 2004. The net proceeds from theoffering were $86.5 million. We used approximately $73.2 million of the netproceeds to repay outstanding indebtedness, including certain term loans, ourold revolving credit facility, our second lien notes, related interest on theseobligations, as well as accrued interest and interest added to the principalamount of our senior convertible notes. The remainder of the net proceeds isheld in cash and cash equivalents and short-term investments, and is reflectedin our cash and cash equivalents increase of $9.7 million for the year ended December 31,2004.

Net cash provided by operating activities for the yearended December 31, 2004 was $4.0 million. For the year ended December 31,2003, net cash used in operating activities was $4.8 million, and for the yearended December 31, 2002, net cash provided by operating activities was$5.2 million. This increase in net cash provided by operating activities forthe year ended December 31, 2004 was primarily due to our $10.4 million innet income, which reflected a significant increase in sales and businessactivity from the prior year. This amount was partially offset by increases inaccounts receivable and inventories, which were also the result of theincreased sales and business activity compared to the prior year, a decrease inaccrued liabilities and accrued restructuring costs due mainly to payments forprofessional fees and restructuring costs, a decrease in accrued compensationand benefits due primarily to a reduction in incentive compensation for 2004compared to the prior year, and a decrease in accrued interest payable andother long-term obligations due to the payment of accrued and paid-in-kindinterest with a portion of the net proceeds from our initial public offering. The decrease incash provided by operating activities for the year ended December 31, 2003primarily reflected a higher loss due to the restructuring of Cherokee Europe,as well as an increase of accounts receivable and inventories as a result ofincreased business activity compared to the prior year.

Net cash used in investing activities for the yearsended December 31, 2004, 2003 and 2002 was $9.0 million,$0.8 million and $0.6 million, respectively. The increase in 2004compared to prior years primarily reflects increased purchases of short-terminvestments, increased investments in manufacturing machinery and equipment,and the construction at Cherokee Europe related to the portion of the buildingdestroyed by fire in 2004. The Company was fully insured at the replacementvalue for the destroyed items, subject to a $5,000 deductible. See additionaldisclosure in Note 15 to our accompanying consolidated financial statements.

Net cash provided byfinancing activities was $13.9 million in 2004, $2.2 million in 2003, and$0.5 million in 2002. In February 2004, we completed our initialpublic offering, which generated net 

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proceedsafter debt repayment and expenses of approximately $13.3 million. Net cashprovided by financing activities for the year ended December 31, 2003reflects net borrowings on our revolving line of credit.

Capital expenditures forthe years ended December 31, 2004, 2003 and 2002 were $4.9 million,$2.0 million and $1.0 million respectively. Our capital expenditures haveresulted primarily from investments in equipment to increase our manufacturingcapacity and improve manufacturing efficiencies, and the replacement andconstruction of one of our buildings in Belgium destroyed in the fire. Seeadditional disclosure in Note 15 to our accompanying consolidated financialstatements. We expect capital expenditures to be between $8.0 million and$9.0 million in 2005, primarily as a result of our investment in amanufacturing facility and equipment in China.

*Contractual Obligations*

As of December 31,2004, our borrowings consisted of approximately $46.6 million of senior notesbearing interest at 5.25% annually, and no borrowings under the Credit Facility.We are required to make semi-annual interest payments to holders of the seniornotes.

We have operating leaseobligations relating to our facilities in Tustin and Irvine, California, andBombay, India.

We have purchasecommitments primarily with vendors and suppliers for the purchase of inventory,and for other goods, services, and equipment as part of the normal course ofbusiness. These commitments are generally evidenced by purchase orders that mayor may not include cancellation provisions. Based on current expectations, wedo not believe that any cancellation penalties we incur under these obligationswould have a material adverse effect on our financial condition or results ofoperations.

Thematurities of our long-term debt, including capital leases, and future paymentsrelating to our operating leases and other obligations as of December 31,2004 are as follows (in thousands):
| **Contractual Obligations** | ** ** | ** ** | ** ** | **2005** | ** ** | **2006** | ** ** | **2007** | ** ** | **2008** | ** ** | **2009** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
|----------------------------------|------------|------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------------|------------|-----------|------------|
| Long-term debt                   |       | $          | —     |     | $          | —   |       | $        | —     |     | $          | 46,630   |       | $              | —     |      |       | $ | — |   |   | $ | 46,630 |   |
| Operating leases                 |       | 1,456      |       | 1,502    |       | 1,513    |       | 1,482    |       | 497      |       |     | —     |           |       | 6,450     |       |
| Purchase order  commitments      |       | 22,557     |       | 228      |       | —   |       | —   |       | —   |       |     | —     |           |       | 22,785    |       |
| European restructuring           |       | 259        |       | 255      |       | 228      |       | 203      |       | 197      |       |     | 625        |           |       | 1,767     |       |
| Long service  award              |       | 20         |       | 54       |       | 107      |       | 208      |       | 330      |       |     | 1,358      |           |       | 2,077     |       |
| Deferred  compensation           |       | —     |       | —   |       | —   |       | —   |       | —   |       |     | 701        |           |       | 701       |       |
| Total                            |       | $          | 24,292     |     | $          | 2,039    |       | $        | 1,848      |     | $          | 48,523   |       | $              | 1,024      |      |       | $ | 2,684 |   |   | $ | 80,410 |   |

 

Long-term debt includes our senior notes, which matureon November 1, 2008. Interest on the senior notes is payable in cash on May 1and November 1 of each year. The senior notes are secured by asecond-priority lien on substantially all of our domestic assets and by apledge of 65% of the equity of certain of our foreign subsidiaries.

In connection with ourinitial public offering, we amended our existing senior revolving creditfacility with General Electric Capital Corporation. The Credit Facilityprovides for borrowings of up to $20.0 million, subject to a borrowing basecomprised of eligible accounts receivables and inventory, which was $12.9million at December 31, 2004. We plan to use funds available under thiscredit facility to finance working capital and other cash requirements asneeded. The credit facility matures in August 2008 and bears interest, atour option, at a rate per annum equal to LIBOR plus 2.5% or the agent bank’sbase rate plus 1.0%. In addition to paying interest on outstanding principal,we are required to pay a commitment fee to the lenders under the creditfacility in respect of the average daily balance of unused loan commitments ata rate of 0.5% per annum. The Credit Facility is our senior obligation andranks equal in right of payment with our existing and future permitted seniordebt (including our senior notes), and 

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seniorin right of payment to our future permitted subordinated debt. The CreditFacility is secured by a first-priority lien, subject to permittedencumbrances, on substantially all of our domestic assets and by a pledge of65% of the equity of certain of our foreign subsidiaries.

The agreements governingthe Credit Facility and our senior notes contain covenants that restrict ourbusiness operations, including covenants limiting our ability to makeinvestments, enter into mergers or acquisitions, dispose of assets, incuradditional debt, grant liens, enter into transactions with affiliates, redeemor repurchase our capital stock, repay other debt and pay dividends, andcontains a financial ratio test based on senior leverage. They also containcustomary events of default, including defaults in the payment of principal orinterest, defaults in the compliance with the covenants contained in the agreementsgoverning our debt, cross defaults to other material debt and bankruptcy orother insolvency events.

As of December 31,2004, we were in compliance with all of the financial covenants set forth inthe principal agreements governing our debt. Based on our present expectations,we believe that our existing cash and cash equivalents, working capital andavailable borrowing capacity at December 31, 2004 will be sufficient tomeet our anticipated cash requirements for the next twelve months, includingoperating requirements, contractual obligations, planned capital expendituresand debt service.

**Inflation**

We do not believe thatinflation has had a material impact on our financial position or results ofoperations.

**New AccountingPronouncements**

In January 2003, theFASB issued FIN 46, “Consolidation of Variable Interest Entities.” In general,a variable interest entity is a corporation, partnership, trust or any otherlegal structure used for business purposes that either (a) does not haveequity investors with voting rights or (b) has equity investors that donot provide sufficient financial resources for the entity to support itsactivities. FIN 46 requires a variable interest entity to be consolidated by acompany if that company is subject to a majority of the risk of loss from thevariable interest entity’s activities or entitled to receive a majority of theentity’s residual returns or both. The consolidation requirements of FIN 46apply immediately to variable interest entities created after January 31,2003. With respect to variable interest entities created before January 31,2003, in December 2003 the FASB issued FIN 46R which, among other things,revised the implementation date to first fiscal years or interim periods endingafter March 15, 2004, with the exception of Special Purpose Entities (“SPE”).The consolidation requirements apply to all SPE’s in the first fiscal year orinterim period ending after December 15, 2003. As we determined that wedid not have any variable interest entities to which these interpretationsapply, we adopted FIN 46R in the first quarter of 2004, and such adoption didnot have a material impact on our financial statements.

In December 2003, theFASB released a revised Statement of Financial Accounting Standard No. 132R(“SFAS No. 132R”), “Employer’s Disclosure about Pensions and OtherPostretirement Benefits”. The revised standard provides required disclosure forpensions and other postretirement benefit plans and is designed to improvedisclosure transparency in financial statements. It also requires new interimdisclosure regarding certain aspects of a company’s plans. The standard iseffective for domestic plans for fiscal years ending after December 15,2003 and for interim periods beginning after December 15, 2003. It waseffective for foreign plans for fiscal years ending after June 15, 2004and interim periods beginning after December 15, 2003. We have adopted thestandard and have included the required disclosures in Note 12 to theconsolidated financial statements.

In November 2004, theFASB issued SFAS No. 151, “Inventory Costs—an amendment of ARB No. 43,Chapter 4”. This statement amends the guidance in ARB No. 43, Chapter 4,“Inventory Pricing,” to clarify the accounting for abnormal amounts of idlefacility expense, freight, handling costs, and wasted 

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material(spoilage). Abnormal amounts of these costs should be recognized as currentperiod charges rather than as a portion of inventory costs. In addition, SFAS151 requires that allocation of fixed production overheads to the costs ofmanufacturing be based on the normal capacity of the production facilities. Theprovisions of SFAS 151 are effective for inventory costs incurred during fiscalyears beginning after June 15, 2005. We are currently evaluating theeffect that the adoption of this new standard may have on our consolidatedfinancial position and results of operations.

In December 2004, theFASB issued SFAS 123R (Revised 2004), “Share-Based Payment”, which requiresthat the compensation cost relating to share-based payment transactions berecognized in financial statements based on the fair value of the award on thedate of grant. The cost will be recognized over the period during which theemployee is required to provide service in exchange for the award (usually thevesting period). We currently disclose pro forma compensation expense quarterlyand annually. Upon adoption, the pro forma disclosures previously permittedunder SFAS 123 will no longer be an alternative to financial statementrecognition. The provisions of SFAS 123R are effective as of the beginning ofthe first interim or annual reporting period that begins after June 15,2005. We are currently evaluating the method of adoption and the effect thatthe adoption of SFAS 123R will have on our consolidated financial position andresults of operations.

In December 2004, the FASB issued SFAS No. 153,“Exchanges of Nonmonetary Assets”—anamendment of APB Opinion No. 29. The amendments eliminate theexception to fair value accounting for nonmonetary exchanges of similarproductive assets and replace it with a broader exception for exchanges ofnonmonetary assets that do not have commercial substance. Under APB 29,accounting for an exchange of a productive asset for a similar productive assetor an equivalent interest in the same or similar productive asset is to bebased upon the recorded amount of the asset relinquished (carryover basis withno gain or loss recognition). The transaction will now be accounted for basedupon the fair value of the assets exchanged. The Statement is effective forexchanges occurring in fiscal years beginning after June 15, 2005 and isto be applied prospectively. The adoption of this SFAS 153 is not expected tohave a material impact on our consolidated financial position and results ofoperations.

**Quarterly Financial Data**

**QUARTERLYFINANCIAL DATA FOR THE2004 AND 2003 QUARTERS (unaudited)**(in thousands, except per share amounts)
| ** **                                   | ** ** | **2004 Quarter Ended,** | ** ** | **2003 Quarter Ended,** | ** ** |
|----------------------------------------------|------------|-----------------------------------|------------|-----------------------------------|------------|
| ** **                                   | ** ** | **Mar. 31**                  | ** ** | **Jun. 30**                  | ** ** | **Sept. 30** | ** ** | **Dec. 31** | ** ** | **Mar. 31** | ** ** | **Jun. 30** | ** ** | **Sept. 30** | ** ** | **Dec. 31** | ** ** |
| Net sales                                    |       | $                                 | 36,832     |                              | $          | 38,622 |   | $ | 36,375 |   | $ | 36,682 |   | $ | 21,041 |   | $ | 27,649 |   | $ | 30,130 |   | $ | 33,123 |   |
| Gross profit                                 |       | 11,923                            |       | 12,352                            |       | 9,941 |   | 10,155 |   | 4,821 |   | 8,063 |   | 9,216 |   | 10,446 |   |
| Operating  income(loss)                      |       | 5,675                             |       | 6,003                             |       | 3,127 |   | 3,619 |   | (9 | ) | (1,956) | (a) | 2,795 |   | 3,730 |   |
| Net income (loss)                            |       | 2,160                             |       | 4,369                             |       | 1,689 |   | 2,223 |   | (3,330 | ) | (6,397 | ) | (2,404 | ) | (301 | ) |
| Basic net income  (loss) per share           |       | $                                 | .23        |                              | $          | .23 |   | $ | .09 |   | $ | .12 |   | $ | (1.61 | ) | $ | (3.09 | ) | $ | (1.11 | ) | $ | (.14 | ) |
| Diluted net income  (loss) per share(b) |       | $                                 | .20        |                              | $          | .22 |   | $ | .09 |   | $ | .11 |   | $ | (1.61 | ) | $ | (3.09 | ) | $ | (1.11 | ) | $ | (.14 | ) |

 
| ** **               | ** ** | **2004 Quarter Ended,** | ** ** | **2003 Quarter Ended,** | ** ** |
|--------------------------|------------|-----------------------------------|------------|-----------------------------------|------------|
| ** **               | ** ** | **Mar. 31**                  | ** ** | **Jun. 30**                  | ** ** | **Sept. 30** | ** ** | **Dec. 31** | ** ** | **Mar. 31** | ** ** | **Jun. 30** | ** ** | **Sept. 30** | ** ** | **Dec. 31** | ** ** |
| Net sales                |       |                              | 100.0      | %                                 |       |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |
| Gross profit             |       |                              | 32.4       |                              |       |   | 32.0 |   |   |   | 27.3 |   |   |   | 27.7 |   |   |   | 22.9 |   |   |   | 29.2 |   |   |   | 30.6 |   |   |   | 31.5 |   |   |
| Operating income  (loss) |       |                              | 15.4       |                              |       |   | 15.5 |   |   |   | 8.6 |   |   |   | 9.9 |   |   |   | 0.0 |   |   |   | (7.1 | ) |   |   | 9.3 |   |   |   | 11.3 |   |   |
| Net income (loss)        |       |                              | 5.9        |                              |       |   | 11.3 |   |   |   | 4.6 |   |   |   | 6.1 |   |   |   | (15.8 | ) |   |   | (23.1 | ) |   |   | (8.0 | ) |   |   | (0.9 | ) |   |

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(a)     Includesthe impact of $4.5 million of restructuring costs pursuant to the CherokeeEurope restructuring plan. See “Results of Operations—*Year Ended December 31, 2003 Compared to YearEnded December 31, 2002—Restructuring Costs*.”

(b)    The diluted loss per share calculation for each quarter in theyear ended December 31, 2003 excludes the dilutive effect of stock optionsand warrants since the impact is anti-dilutive.

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**ITEM 7A.**        QUANTITATIVE ANDQUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk relating to our operations resultsprimarily from changes in foreign currency exchange rates and short-terminterest rates. We did not have any derivative financial instruments at December 31, 2004.

We had no variable rate debt outstanding at December 31,2004. However, any debt we incur under the Credit Facility will bear interestat a variable rate. We cannot predict market fluctuations in interest rates andtheir impact on any variable rate debt we may incur in the future, nor canthere be any assurance that fixed rate long-term debt will be available to usat favorable rates, if at all.

The functional currencyfor our European operations is the Euro. We are, therefore, subject to acertain degree of market risk associated with changes in foreign currencyexchange rates. This risk is mitigated by the fact that our revenues andexpenses are generally both recorded in Euros, thereby reducing the risk offoreign currency translations on our European operations. The effect of foreigncurrency exchange rate fluctuations on our operating results as of and for theyear ended December 31, 2004, was not material. Historically, we have notactively engaged in exchange rate hedging activities.

**ITEM8.**                FINANCIALSTATEMENTS AND SUPPLEMENTARY DATA
|                                                                                                                                                              | **Page** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------|----------|
| Report of  Independent Registered Public Accounting Firm                                                                                                     | 35       |
| Consolidated Balance Sheets as of December 31, 2004 and 2003                                                                                            | 36       |
| Consolidated Statements of Operations for the years ended  December 31, 2004, 2003 and 2002                                                        | 37       |
| Consolidated  Statements of Stockholders’ Equity (Deficit) and Comprehensive Operations for  the years ended December 31, 2004, 2003 and 2002 | 38       |
| Consolidated Statements of Cash Flows for the years ended  December 31, 2004, 2003 and 2002                                                        | 39       |
| Notes to  Consolidated Financial Statements                                                                                                                  | 40       |
| Schedule  II: Valuation and Qualifying Accounts                                                                                                              | 59       |
|                                                                                                                                                              |          |  |  |

 

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**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTINGFIRM**

To the Board of DirectorsofCherokee International CorporationTustin, California

We have audited the accompanying consolidated balancesheets of Cherokee InternationalCorporation  and subsidiaries (the“Company”) as of December 31, 2004 and 2003, and the related consolidatedstatements of operations, stockholders’ equity (deficit) and comprehensiveoperations, and cash flows for each of the three years in the period ended December 31,2004. Our audits also included the financial statement schedule listed in theIndex at Item 15(a)(2). These financial statements and the financial statementschedule are the responsibility of the Company’s management. Our responsibilityis to express an opinion on these financial statements and the financialstatement schedule based on our audits.

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States). Thosestandards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement. The Company is not required to have, nor were we engaged toperform, an audit of its internal control over financial reporting. Our audit includedconsideration of internal control over financial reporting as a basis fordesigning audit procedures that are appropriate in the circumstances but notfor the purpose of expressing an opinion on the effectiveness of the Company’sinternal control over financial reporting. Accordingly, we express no suchopinion. An audit also includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements, assessing theaccounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation. We believethat our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statementspresent fairly, in all material respects, the financial position of Cherokee International Corporationand subsidiaries as of December 31, 2004 and 2003, and the results oftheir operations and their cash flows for each of the three years in the periodended December 31, 2004, in conformity with accounting principlesgenerally accepted in the United States of America. Also, in our opinion, suchfinancial statement schedule, when considered in relation to the basicconsolidated financial statements taken as a whole, presents fairly, in all materialrespects, the information set forth therein.

Asdiscussed in Note 3 to the consolidated financial statements, the Companychanged its method of accounting for goodwill and other intangible assetsduring 2002 as a result of adopting Statement of Financial Accounting StandardsNo. 142, “Goodwill And Other Intangible Assets.”
| /s/ DELOITTE & TOUCHE LLP |
|------------------------------------|
| Costa Mesa, California             |
| March 30, 2005                |

 

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**CONSOLIDATED BALANCE SHEETS(In Thousands, Except Shares)
| ** **                                                                                                                                                                             | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                             | ** ** | **2004**              | ** ** | **2003** | ** ** |
| **ASSETS**                                                                                                                                                                             |       |                  |       |   |   |
| **CURRENT ASSETS:**                                                                                                                                                                    |       |                  |       |   |   |
| Cash and cash  equivalents                                                                                                                                                             |       | $                     | 14,585     |   | $ | 4,887 |   |
| Short-term investments                                                                                                                                                                 |       | 4,178                 |       | 91 |   |
| Accounts receivable, net  of allowance for doubtful accounts of $124 and $134 at December 31,  2004 and 2003, respectively                                                   |       | 27,929                |       | 25,579 |   |
| Inventories, net                                                                                                                                                                       |       | 28,278                |       | 24,932 |   |
| Prepaid expenses and  other current assets                                                                                                                                             |       | 2,056                 |       | 1,842 |   |
| Total current assets                                                                                                                                                                   |       | 77,026                |       | 57,331 |   |
| Property and equipment,  net                                                                                                                                                           |       | 15,028                |       | 12,781 |   |
| Deposits and other  assets                                                                                                                                                             |       | 965                   |       | 250 |   |
| Deferred financing  costs, net of accumulated amortization of $104 and $298 at December 31,  2004 and 2003, respectively                                                     |       | 476                   |       | 536 |   |
| Goodwill                                                                                                                                                                               |       | 6,317                 |       | 6,317 |   |
|                                                                                                                                                                                   |       | $                     | 99,812     |   | $ | 77,215 |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY (DEFICIT)**                                                                                                                                |       |                  |       |   |   |
| **CURRENT LIABILITIES:**                                                                                                                                                               |       |                  |       |   |   |
| Accounts payable                                                                                                                                                                       |       | $                     | 12,803     |   | $ | 12,854 |   |
| Accrued liabilities                                                                                                                                                                    |       | 6,733                 |       | 7,819 |   |
| Accrued compensation and  benefits                                                                                                                                                     |       | 6,987                 |       | 7,346 |   |
| Accrued restructuring  costs                                                                                                                                                           |       | 259                   |       | 1,144 |   |
| Revolving line of credit                                                                                                                                                               |       | —                |       | 6,132 |   |
| Current portion of  long-term debt                                                                                                                                                     |       | —                |       | 2,562 |   |
| Current portion of  capital lease obligations                                                                                                                                          |       | —                |       | 848 |   |
| Total current  liabilities                                                                                                                                                             |       | 26,782                |       | 38,705 |   |
| Long-term debt, net of  current portion                                                                                                                                                |       | 24,485                |       | 48,992 |   |
| Long-term debt payable  to affiliates                                                                                                                                                  |       | 22,145                |       | 113,901 |   |
| Total long-term debt                                                                                                                                                                   |       | 46,630                |       | 162,893 |   |
| Other long-term  obligations                                                                                                                                                           |       | 4,266                 |       | 5,585 |   |
| Commitments and contingencies (Note 10)                                                                                                                                                |       |                  |       |   |   |
| **STOCKHOLDERS’ EQUITY (DEFICIT):**                                                                                                                                               |       |                  |       |   |   |
| Common stock: $0.001 par  value; 60,000,000 shares authorized; 19,206,207 and 2,213,754 shares  issued and outstanding at December 31, 2004 and 2003, respectively |       | 19                    |       | 2 |   |
| Paid-in capital                                                                                                                                                                        |       | 183,713               |       | 43,710 |   |
| Accumulated deficit                                                                                                                                                                    |       | (165,666              | )          | (176,107 | ) |
| Accumulated other  comprehensive income                                                                                                                                                |       | 4,068                 |       | 2,427 |   |
| Net stockholders’ equity  (deficit)                                                                                                                                               |       | 22,134                |       | (129,968 | ) |
|                                                                                                                                                                                   |       | $                     | 99,812     |   | $ | 77,215 |   |

 

See notes to consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**CONSOLIDATED STATEMENTS OF OPERATIONS(In Thousands, Except Per Share Amounts)
| ** **                                                                                        | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                        | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net sales                                                                                         |       | $                                           | 148,511    |   | $ | 111,943 |   | $ | 96,293 |   |
| Cost of sales                                                                                     |       | 104,140                                     |       | 79,397 |   | 70,598 |   |
| Gross profit                                                                                      |       | 44,371                                      |       | 32,546 |   | 25,695 |   |
| Operating Expenses:                                                                               |       |                                        |       |   |   |   |   |
| Engineering and development                                                                       |       | 9,082                                       |       | 8,905 |   | 6,997 |   |
| Selling and marketing                                                                             |       | 7,896                                       |       | 6,253 |   | 5,171 |   |
| General and administrative                                                                        |       | 8,726                                       |       | 7,364 |   | 5,982 |   |
| Restructuring costs                                                                               |       | —                                      |       | 4,474 |   | — |   |
| Stock compensation expense                                                                        |       | 243                                         |       | 990 |   | — |   |
| Total operating expenses                                                                          |       | 25,947                                      |       | 27,986 |   | 18,150 |   |
| Operating income                                                                                  |       | 18,424                                      |       | 4,560 |   | 7,545 |   |
| Interest expense                                                                                  |       | (5,234                                      | )          | (17,028 | ) | (14,801 | ) |
| Debt restructuring costs                                                                          |       | —                                      |       | — |   | (3,204 | ) |
| Other income (expense), net                                                                       |       | 47                                          |       | 1,187 |   | (431 | ) |
| Income (loss) before income taxes and cumulative  effect of a change in accounting principle |       | 13,237                                      |       | (11,281 | ) | (10,891 | ) |
| Provision for income taxes                                                                        |       | 2,796                                       |       | 1,151 |   | 120 |   |
| Net income (loss) before cumulative effect of a  change in accounting principle              |       | 10,441                                      |       | (12,432 | ) | (11,011 | ) |
| Cumulative effect of a change in accounting  principle: goodwill impairment                       |       | —                                      |       | — |   | (34,600 | ) |
| Net income (loss)                                                                                 |       | $                                           | 10,441     |   | $ | (12,432 | ) | $ | (45,611 | ) |
| Net income (loss)  per share                                                                      |       |                                        |       |   |   |   |   |
| Basic                                                                                             |       | $                                           | 0.62       |   | $ | (5.83 | ) |   |   |
| Diluted                                                                                           |       | $                                           | 0.62       |   | $ | (5.83 | ) |   |   |
| Weighted average  shares outstanding                                                              |       |                                        |       |   |   |   |   |
| Basic                                                                                             |       | 16,761                                      |       | 2,132 |   |   |   |
| Diluted                                                                                           |       | 18,639                                      |       | 2,132 |   |   |   |

 

See notes to consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**CONSOLIDATED STATEMENTS OFSTOCKHOLDERS’ EQUITY (DEFICIT) AND COMPREHENSIVE OPERATIONS(In Thousands, Except Shares)
| ** **                                                                                      | ** ** | **Class A** | ** ** | **Class B** | ** **                | **Common Stock** | ** ** | **Paid-In** | ** ** | **Accumulated**                                         | ** ** | **Accumulated  Other  Comprehensive** | ** ** | **Net  Stockholders’  Equity** | ** **    | **Comprehensive** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|------------------|------------|------------------|---------------------------|-----------------------|------------|-------------|------------|---------------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|---------------|-------------------|------------|
| ** **                                                                                      | ** ** | **Units**        | ** ** | **Amount**       | ** **                | **Units**             | ** ** | **Amount**  | ** ** | **Shares**                                              | ** ** | **Amount**                            | ** ** | **Capital**                         | ** **    | **Deficit**       | ** ** | **Income (Loss)** | ** ** | **(Deficit)** | ** ** | **Operations** | ** ** |
| **BALANCE,  December 31, 2001**                                                            |       | 89,146           |       |             | $ 354                |                  |       | 9,239,760   |       | $ 37,038                                           |       | —                                |       |                                | $ — |              |       | $   5,330 |   |   | $ (118,064 | ) |   |   | $ (790 | ) |   |   | $ (76,132 | ) |   |   |   |   |   |
| Components of comprehensive income (loss):                                                      |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss for  period January 1, 2002 to November 27, 2002                             |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   | (42,200 | ) |   |   |   |   |   |   | (42,200 | ) |   |   | $ (42,200 | ) |   |
| Foreign currency  translation for the period January 1, 2002 to November 27, 2002     |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   | 1,941 |   |   |   | 1,941 |   |   |   | 1,941 |   |   |
| Recapitalization                                                                                |       | (89,146          | )          |             | (354                      | )                     |       | (9,239,760  | )          | (37,038                                                 | )          | 2,073,077                             |       |                                | 2             |              |       | 37,390 |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss for  period   November 28, 2002 to December 31, 2002                         |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   | (3,411 | ) |   |   |   |   |   |   | (3,411 | ) |   |   | (3,411 | ) |   |
| Foreign currency  translation for the period November 28,   2002 to December 31, 2002 |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   | 191 |   |   |   | 191 |   |   |   | 191 |   |   |
| **BALANCE,  December 31, 2002**                                                            |       | —           |       |             | —                    |                  |       | —      |       | —                                                  |       | 2,073,077                             |       |                                | 2             |              |       | 42,720 |   |   | (163,675 | ) |   |   | 1,342 |   |   |   | (119,611 | ) |   |   | $ (43,479 | ) |   |
| Issuance of common  stock                                                                       |       |             |       |             |                      |                  |       |        |       |                                                    |       | 140,677                               |       |                                |          |              |       | 990 |   |   |   |   |   |   |   |   |   |   | 990 |   |   |   |   |   |   |
| Components of  comprehensive income (loss):                                                     |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss                                                                                        |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   | (12,432 | ) |   |   |   |   |   |   | (12,432 | ) |   |   | $ (12,432 | ) |   |
| Foreign currency  translation                                                                   |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   | 1,085 |   |   |   | 1,085 |   |   |   | 1,085 |   |   |
| **BALANCE,  December 31, 2003**                                                            |       | —           |       |             | —                    |                  |       | —      |       | —                                                  |       | 2,213,754                             |       |                                | 2             |              |       | 43,710 |   |   | (176,107 | ) |   |   | 2,427 |   |   |   | (129,968 | ) |   |   | $ (11,347 | ) |   |
| Issuance of common  stock                                                                       |       |             |       |             |                      |                  |       |        |       |                                                    |       | 12,821                                |       |                                |          |              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of common  stock in connection with initial public offering                            |       |             |       |             |                      |                  |       |        |       |                                                    |       | 6,600,000                             |       |                                | 7             |              |       | 86,463 |   |   |   |   |   |   |   |   |   |   | 86,470 |   |   |   |   |   |   |
| Conversion of  senior convertible debt into common stock                                        |       |             |       |             |                      |                  |       |        |       |                                                    |       | 6,283,796                             |       |                                | 6             |              |       | 53,364 |   |   |   |   |   |   |   |   |   |   | 53,370 |   |   |   |   |   |   |
| Exercise of  warrants                                                                           |       |             |       |             |                      |                  |       |        |       |                                                    |       | 4,071,114                             |       |                                | 4             |              |       | 4 |   |   |   |   |   |   |   |   |   |   | 8 |   |   |   |   |   |   |
| Issuance of common  stock under employee stock plans                                            |       |             |       |             |                      |                  |       |        |       |                                                    |       | 24,722                                |       |                                |          |              |       | 172 |   |   |   |   |   |   |   |   |   |   | 172 |   |   |   |   |   |   |
| Components of  comprehensive income (loss):                                                     |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                                                                      |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   | 10,441 |   |   |   |   |   |   |   | 10,441 |   |   |   | $ 10,441 |   |   |
| Foreign currency  translation                                                                   |       |             |       |             |                      |                  |       |        |       |                                                    |       |                                  |       |                                |          |              |       |   |   |   |   |   |   |   | 1,641 |   |   |   | 1,641 |   |   |   | 1,641 |   |   |
| **BALANCE,  December 31, 2004**                                                            |       | —           |       |             | $   — |                  |       | —      |       | $        — |       | 19,206,207                            |       |                                | $ 19     |              |       | $ 183,713 |   |   | $ (165,666 | ) |   |   | $ 4,068 |   |   |   | $   22,134 |   |   |   | $ 12,082 |   |   |

 

See notes to consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**CONSOLIDATED STATEMENTS OF CASH FLOWS(In Thousands)
| ** **                                                                                               | ** ** | **Years Ended December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                               | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| **CASH FLOWS FROM OPERATING ACTIVITIES:**                                                                |       |                                        |       |   |   |   |   |
| Net income (loss)                                                                                        |       | $                                           | 10,441     |   | $ | (12,432 | ) | $ | (45,611 | ) |
| Adjustments to reconcile net income (loss) to net  cash provided by (used in) operating activities: |       |                                        |       |   |   |   |   |
| Depreciation and  amortization                                                                           |       | 3,207                                       |       | 3,594 |   | 3,445 |   |
| Amortization of deferred  financing costs                                                                |       | 150                                         |       | 311 |   | 1,125 |   |
| Stock-based compensation                                                                                 |       | 243                                         |       | 990 |   | — |   |
| Pay-in-kind interest  converted to debt                                                                  |       | —                                      |       | 12,099 |   | — |   |
| (Gain) loss on sale /  disposition of fixed assets                                                       |       | 2                                           |       | (367 | ) | — |   |
| Gain on debt  restructuring                                                                              |       | —                                      |       | — |   | (2,116 | ) |
| Write-off of deferred  financing costs                                                                   |       | 224                                         |       | — |   | 2,482 |   |
| Cumulative effect of a change in accounting  principle:                                                  |       |                                        |       |   |   |   |   |
| Goodwill impairment                                                                                      |       | —                                      |       | — |   | 34,600 |   |
| Deferred income taxes                                                                                    |       | 37                                          |       | (18 | ) | 316 |   |
| Other, net                                                                                               |       | —                                      |       | (19 | ) | — |   |
| Net change in operating assets and liabilities:                                                          |       |                                        |       |   |   |   |   |
| Accounts receivable, net                                                                                 |       | (1,150                                      | )          | (7,249 | ) | 2,628 |   |
| Inventories, net                                                                                         |       | (2,693                                      | )          | (7,936 | ) | 6,896 |   |
| Prepaid expenses and  other current assets                                                               |       | (142                                        | )          | (681 | ) | 151 |   |
| Deposits                                                                                                 |       | (715                                        | )          | 291 |   | (183 | ) |
| Accounts payable                                                                                         |       | (674                                        | )          | 4,624 |   | (1,680 | ) |
| Accrued liabilities and  restructuring                                                                   |       | (2,067                                      | )          | (1,700 | ) | 3,267 |   |
| Accrued compensation and  benefits                                                                       |       | (988                                        | )          | 1,592 |   | (642 | ) |
| Accrued interest payable                                                                                 |       | (296                                        | )          | (1,527 | ) | 58 |   |
| Other long-term  liabilities                                                                             |       | (1,600                                      | )          | 3,623 |   | 425 |   |
| Net cash provided by  (used in) operating activities                                                     |       | 3,979                                       |       | (4,805 | ) | 5,161 |   |
| **CASH FLOWS FROM INVESTING ACTIVITIES:**                                                                |       |                                        |       |   |   |   |   |
| Additions to  property and equipment                                                                     |       | (4,925                                      | )          | (1,962 | ) | (1,027 | ) |
| Net sales  (purchases) of short-term investments                                                         |       | (4,087                                      | )          | 672 |   | 392 |   |
| Proceeds from sale  of land                                                                              |       | —                                      |       | 516 |   | — |   |
| Net cash used in  investing activities                                                                   |       | (9,012                                      | )          | (774 | ) | (635 | ) |
| **CASH FLOWS FROM FINANCING ACTIVITIES:**                                                                |       |                                        |       |   |   |   |   |
| Borrowings on  revolving lines of credit                                                                 |       | 11,301                                      |       | 70,638 |   | 8,003 |   |
| Payments on  revolving lines of credit                                                                   |       | (17,433                                     | )          | (64,572 | ) | (21,596 | ) |
| Payments on  obligations under capital leases                                                            |       | (893                                        | )          | (1,363 | ) | (1,216 | ) |
| Payments on  long-term debt                                                                              |       | (65,519                                     | )          | (2,537 | ) | (28,317 | ) |
| Borrowings on  long-term debt                                                                            |       | —                                      |       | — |   | 44,490 |   |
| Deferred financing  costs                                                                                |       | (249                                        | )          | — |   | (834 | ) |
| Net proceeds from  sale of common stock                                                                  |       | 86,470                                      |       | — |   | — |   |
| Proceeds form  exercise of warrants, options and employee stock purchases                                |       | 180                                         |       | — |   | — |   |
| Net cash provided by  financing activities                                                               |       | 13,857                                      |       | 2,166 |   | 530 |   |
| Cash effect of  exchange rate changes                                                                    |       | 874                                         |       | (204 | ) | 856 |   |
| Net increase  (decrease) in cash and cash equivalents                                                    |       | 9,698                                       |       | (3,617 | ) | 5,912 |   |
| Cash and cash  equivalents, beginning of period                                                          |       | 4,887                                       |       | 8,504 |   | 2,592 |   |
| Cash and cash  equivalents, end of period                                                                |       | $                                           | 14,585     |   | $ | 4,887 |   | $ | 8,504 |   |
| **SUPPLEMENTAL INFORMATION**                                                                             |       |                                        |       |   |   |   |   |
| Cash paid during  the year for interest                                                                  |       | $                                           | 5,156      |   | $ | 3,433 |   | $ | 13,617 |   |
| Cash paid during  the year for income taxes                                                              |       | $                                           | 2,782      |   | $ | 254 |   | $ | 302 |   |
| Conversion of senior convertible notes into common  stock                                                |       | $                                           | 53,370     |   | $ | — |   | $ | — |   |

 

See notes to consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**NOTES TO CONSOLIDATED FINANCIAL STATEMENTSYEARS ENDED DECEMBER 31, 2004, 2003 AND 2002

**1.   ORGANIZATION**

Cherokee InternationalCorporation reorganized from a California limited liability company and consummateda debt restructuring (the “Restructuring”) through a series of transactionscollectively referred to as the “Transactions” in November 2002. On November 26,2002, Cherokee International, LLC, a California limited liability company (the “LLC”),merged with and into Cherokee International Corporation, a Delaware Corporation(the “Company”), with the Company as the surviving entity pursuant to theAgreement and Plan of Merger (“Merger Agreement”). References herein to “Cherokee”and “the Company” refer to Cherokee International, LLC and its consolidatedsubsidiaries prior to the reorganization and Cherokee International Corporationand its consolidated subsidiaries after the reorganization, and all referencesto common stock for periods before the reorganization mean our then-issued andoutstanding membership interests. As a result of the Transactions, the formerunit holders of the LLC became stockholders of the Company, with each of themreceiving a number of shares based on their percentage ownership in the LLC.Prior to this exchange, the Company had no operating assets or liabilities andhad not yet conducted any operations. On November 27, 2002, as part of theTransactions, the Company amended its previous credit facility, issued$41.0 million of Second Lien Notes, and completed an exchange offer withrespect to $100.0 million of its 101⁄2% Senior Subordinated Notes for $53.4million of 12% Pay-In-Kind Senior Convertible Notes, $46.6 million of 5.25%Senior Notes and warrants to purchase shares of the Company’s common stock.

**2.   GENERAL**

**Line of Business**

Cherokee InternationalCorporation (the “Company”) is a designer and manufacturer of power suppliesfor original equipment manufacturers (OEMs). Its advanced power supply productsare typically custom designed into mid- to high-end commercial applications inthe computing and storage, wireless infrastructure, enterprise networking,medical and industrial markets.

**Initial Public Offering**

The Company completed itsinitial public offering of 6,600,000 shares of its common stock, par value$0.001 per share (“Common Stock”), on February 25, 2004, at a price of$14.50 per share. The net proceeds to the Company from this offering after paidand accrued offering costs of $9.2 million were $86.5 million. The Company usedapproximately $73.2 million of the net proceeds to repay certain outstandingindebtedness and accrued interest. Immediately prior to the consummation of theoffering, the Company completed a 1-for-3.9 reverse stock split of itsoutstanding Common Stock. All share, per share and conversion amounts relatingto common stock, Class A units, Class B units, warrants and stockoptions included in the accompanying consolidated financial statements andfootnotes have been restated to reflect the reverse stock split for all periodspresented. Also in connection with the offering, the Company issued 6,283,796shares of Common Stock upon conversion of the original principal amount of itsoutstanding senior convertible notes of $53.4 million, and issued 4,071,114 sharesof Common Stock upon the exercise of outstanding warrants.

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**3.   SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES**

**Basis of Presentation**

The accompanyingconsolidated financial statements have been prepared in accordance withaccounting principles generally accepted in the United States of America.

**Principles of Consolidation**

The consolidated financialstatements include the financial statements of the Company and its wholly-ownedsubsidiaries, Cherokee Europe SCA and related entities (“Cherokee Europe”),Cherokee Electronica, S.A. DE C.V. (“Electronica”), Cherokee India Pvt. Ltd.(“India”), and Powertel India Pvt. Ltd. (“Powertel”). Intercompanyaccounts and transactions have been eliminated.

**Use of Estimates**

The preparation offinancial statements in accordance with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent liabilities at the date of the financial statementsand the amounts of revenues and expenses during the reporting period. Actualresults could differ from such estimates.

**Fiscal Year**

The Company’s fiscal years2004, 2003 and 2002 ended on January 2, 2005, December 28, 2003, and December 29,2002, respectively. For convenience, the accompanying consolidated financialstatements have been shown as ending on December 31st. The fiscal yearending January 2, 2005 includes 53 weeks, while the years endedDecember 28, 2003 and December 29, 2002 consist of 52 weeks.

**Translation of Foreign Currencies**

Foreign subsidiary assetsand liabilities denominated in foreign currencies are translated at theexchange rate on the balance sheet date. Revenues, costs and expenses aretranslated at the average exchange rate during the period. Transaction gainsand losses are included in results of operations and have not been significantfor the periods presented. The functional currency of Cherokee Europe is theEuro. The functional currency of Electronica, India and Powertel is the U.S.dollar, as the majority of transactions are denominated in U.S. dollars. Translationadjustments related to Cherokee Europe are reflected as a component ofstockholders’ equity (deficit) in other comprehensive operations.

**Cash and Cash Equivalents**

All highly liquid debtinstruments purchased with an original maturity date of three months or lessare considered to be cash equivalents.

**Short-Term Investments**

Short-term investmentsconsist principally of bank certificates of deposit and auction rate securitieswith original maturity dates of approximately three to twelve months. Theseinvestments are available-for-sale and all unrealized gains and losses areinsignificant for all periods presented.

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**Inventories**

Inventoriesare valued at the lower of weighted average cost or market. Inventory costsinclude the cost of material, labor and manufacturing overhead and consist ofthe following amounts, net of reserves for obsolescence (in thousands):
| ** **      | ** ** | **December 31,  2004** | ** ** | **December 31,  2003** | ** ** |
|-----------------|------------|-----------------------------|------------|-----------------------------|------------|
| Raw material    |       |                        | $          | 20,788                      |       |   |   | $ | 16,244 |   |   |
| Work-in-process |       |                        | 4,741      |                        |       |   | 4,662 |   |   |
| Finished goods  |       |                        | 2,749      |                        |       |   | 4,026 |   |   |
|            |       |                        | $          | 28,278                      |       |   |   | $ | 24,932 |   |   |

 

As of December 31,2004 and December 31, 2003, the reserve for inventory obsolescence was$4.5 million and $4.2 million, respectively.

**Property and Equipment**

Depreciationand amortization of property and equipment are provided using the straight-linemethod over the following estimated useful lives:
| Buildings and  improvements                          |   | 5-20 years                       |   |
|------------------------------------------------------|--------|----------------------------------|--------|
| Machinery and  equipment                             |   | 5-10 years                       |   |
| Dies, jigs and  fixtures                             |   | 3 years                          |   |
| Computers, software,  office equipment and furniture |   | 3-5 years                        |   |
| Automobiles and  trucks                              |   | 5 years                          |   |
| Leasehold improvements                               |   | Lesser of 5 years  or lease term |   |

 

**Deferred Financing Costs**

The Company capitalizes costs directly related tofinancing agreements and certain qualified debt restructuring costs, andamortizes these costs as additional interest expense over the terms of therelated debt.

Netdeferred financing costs are comprised of the following as of December 31,2004 and December 31, 2003 (in thousands):
| ** **                     | ** ** | **December 31,  2004** | ** ** | **December 31,  2003** | ** ** |
|--------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| Deferred  financing costs      |       |                        | $          | 580                         |       |   |   | $ | 834 |   |   |
| Accumulated  amortization      |       |                        | (104       | )                           |       |   | (298 | ) |   |
| Deferred  financing costs, net |       |                        | $          | 476                         |       |   |   | $ | 536 |   |   |

 

During the year ended December 31,2004, the Company wrote-off unamortized deferred financing costs of $0.2million and fully amortized deferred financing costs of $0.3 million, as aresult of the repayment of outstanding indebtedness in connection with theinitial public offering.

**Goodwill**

The Company adopted SFAS No. 142, “Goodwill AndOther Intangible Assets”, effective January 1, 2002. SFAS No. 142requires that goodwill and other intangible assets with indefinite useful livesno longer be amortized, but instead be tested for impairment annually, or morefrequently, when events or 

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circumstances indicatethat their carrying value may be impaired. The Company performs its impairmenttest annually at the end of the third quarter.

In compliance with the requirements of SFAS No. 142,the Company has determined that its reporting units consist of two operatingsegments, which are Cherokee North America consisting of the United States,Mexico, and India operations and Cherokee Europe. All goodwill has beenassigned to the Cherokee Europe reporting unit. The Company completed itstransitional impairment test as of January 1, 2002. In performing thetransitional impairment test, management considered a number of factors,including an independent valuation utilizing discounted cash flow and industrymarket multiple valuation methodologies, and concluded that the carrying valueof the Cherokee Europe reporting unit exceeded its fair value. Based on theabove, which were impacted by unfavorable economic conditions and reducedcapital spending, particularly in the information technology and communicationsequipment industries in which Cherokee Europe operates, macroeconomic factorsparticular to Europe and unfavorable global economic conditions, the Companyconcluded that goodwill in the amount of $34.6 million was impaired.Accordingly, the Company recorded a non-cash charge of $34.6 million toreduce the carrying value of its goodwill to $6.3 million. Such impairmentcharge was reflected as the cumulative effect of a change in accountingprinciple as of January 1, 2002. Based on management’s assessment ofimproving conditions in the European marketplace and independent valuationsutilizing discounted cash flow and industry market multiple valuationmethodologies, there were no events or circumstances for the years ended December 31,2004 and 2003 that indicated additional impairment, and no further impairmentwas recorded.

Thechanges in carrying amount of goodwill for the years ended December 31,2004, 2003 and 2002 are as follows (in thousands):
| Balance as of  December 31, 2001                |   | $       | 40,917 |   |
|------------------------------------------------------|--------|---------|--------|--------|
| Impairment loss                                      |   | (34,600 | )      |
| Balance as of  December 31, 2004, 2003 and 2002 |   | $       | 6,317  |   |

 

**Long-Lived Assets**

The Company accounts forthe impairment and disposition of long-lived assets in accordance with SFAS No. 144,“Accounting for Impairment or Disposal of Long-Lived Assets”. In accordancewith SFAS No. 144, long-lived assets to be held are reviewed for events orchanges in circumstances, which indicate that their carrying value may not berecoverable. There was no impairment of the value of such assets for the yearsended December 31, 2004, 2003 and 2002.

**Fair Value of Financial Instruments**

The amounts recorded for cashand cash equivalents, short-term investments, accounts receivable, accountspayable and accrued expenses approximate their fair values based on theirshort-term nature. The amounts recorded for long-term debt, borrowings underrevolving lines of credit and capital lease obligations approximate fair value,as interest is tied to or approximates market rates.

**Income Taxes**

The Company accounts for income taxes in accordancewith SFAS No. 109, “Accounting for Income Taxes.” In accordance with SFAS No. 109,deferred tax assets and liabilities are recorded for the estimated future taxeffects of temporary differences between the carrying value of assets andliabilities for financial reporting and their tax basis, and carryforwards tothe extent they are realizable. A deferred tax provision or benefit resultsfrom the net change in deferred tax assets and liabilities during the period. Adeferred tax asset valuation allowance is recorded if it is more likely thannot that all or a portion of the recorded 

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deferred tax assets willnot be realized. As of December 31, 2004, deferred tax assets include$38.5 million relating to a tax basis step up from a recapitalizationtransaction in 1999 and $15.0 million of net operating loss carryforwards. TheCompany has recorded a full valuation allowance against its deferred taxassets.

The provision for incometaxes of $2.8 million for the year ended December 31, 2004 reflectsestimated taxable income in Belgium after fully using available net operatinglosses relating to Belgium in 2004. Income generated in the United Statesduring 2004 is expected to be fully offset by available net operating losses,resulting in the relatively low effective tax rate for the year.

**Revenue Recognition**

Revenues from product sales are recognized uponpassage of title and shipment of products to customers, in accordance with theshipping terms specified in the arrangement with the customer (i.e. FOBshipping point).

The Company has enteredinto arrangements with certain customers whereby products are delivered to athird party warehouse location and customers take delivery of these productswithin a specified time period. Revenues from these sales are recognized uponultimate delivery of the products to the customer and when title has passed.The Company offers a one year warranty for defective products. Warranty chargeshave been insignificant during the periods presented.

**Credit Risk**

The Company performsongoing credit evaluations of its customers and generally does not requirecollateral. The Company maintains reserves for estimated credit losses.

**Stock-Based Compensation**

As permitted by SFAS No. 123, “Accounting forStock-Based Compensation,” the Company accounts for its employee stock-basedcompensation plan using the intrinsic value method under APB Opinion No. 25,“Accounting for Stock Issued to Employees”, and provides the expandeddisclosures specified in SFAS No. 123, as amended by SFAS No. 148, “Accountingfor Stock-Based Compensation—Transition and Disclosure”.

Thetable below reconciles net income (loss) as reported and pro forma net income(loss) had compensation expense been determined using the provisions of SFAS No. 123for the three years ended (in thousands except per share amounts):
| ** **                                                                                                                | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                                                | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net income  (loss), as reported                                                                                           |       | $                                           | 10,441     |   | $ | (12,432 | ) | $ | (45,611 | ) |
| Stock-based  employee compensation related to stock options included in net income (loss),  net of tax               |       | 243                                         |       | — |   | — |   |
| Total stock-based  employee compensation expense determined under the fair value based method  for all awards, net of tax |       | (853                                        | )          | (161 | ) | (426 | ) |
| Net income (loss)—pro  forma                                                                                         |       | $                                           | 9,831      |   | $ | (12,593 | ) | $ | (46,037 | ) |
| Net income (loss)  per share, as reported:                                                                                |       |                                        |       |   |   |   |   |
| Basic                                                                                                                     |       | $                                           | 0.62       |   | $ | (5.83 | ) |   |   |
| Diluted                                                                                                                   |       | $                                           | 0.62       |   | $ | (5.83 | ) |   |   |
| Pro forma net income  (loss) per share:                                                                                   |       |                                        |       |   |   |   |   |
| Basic                                                                                                                     |       | $                                           | 0.59       |   | $ | (5.91 | ) |   |   |
| Diluted                                                                                                                   |       | $                                           | 0.58       |   | $ | (5.91 | ) |   |   |

 

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For purposes of computing pro forma net income (loss),the Company estimates the fair value of each option grant on the date of grantusing the Black-Scholes option-pricing model. The Black-Scholes option-pricingmodel was developed for use in estimating the value of traded options that haveno vesting restrictions and are fully transferable, while the options issued bythe Company are subject to both vesting and restrictions on transfer. Inaddition, option-pricing models require the input of highly subjectiveassumptions including expected stock price volatility. The Company calculatesvolatility and estimates the expected life of its stock options based uponhistorical data.

The weighted average assumptions used to value optiongrants during year ended December 31, 2004 were: expected stock price volatilityof 53%; risk-free interest rate of 3.49%; no dividends; and expected lives offive years. The assumptions used for the year ended December 31, 2003were: expected stock price volatility of zero; risk-free interest rate of2.73%; no dividends; and expected lives of five years.

Since its inception onFebruary 16, 2004, 400,000 shares of common stock had been reserved forissuance under the 2004 Employee Stock Purchase Plan (“ESPP”). Under the termsof the ESPP, our employees, nearly all of whom are eligible to participate, canchoose to have up to a maximum of 15% of their eligible annual base earningswithheld, subject to an annual maximum of $25,000 or 2,100 shares per offeringperiod, to purchase our common stock. The purchase price of the stock is 85% ofthe lower of the closing price at the beginning of each six-month offeringperiod or at the end of each six-month offering period. The Company accountsfor its ESPP under APB Opinion No. 25 and does not recognize compensationcost related to employee purchase rights under this plan.

**Segment Information**

The Company is a designerand manufacturer of power supplies for OEMs in the computing and storage,wireless infrastructure, enterprise networking, medical and industrial markets.Operating segments are defined as components of the Company’s business forwhich separate financial information is available that is evaluated by theCompany’s chief operating decision maker (its CEO) in deciding how to allocateresources and assessing performance. The Company’s operating segments consistof the United States, Mexico, and India operations of Cherokee North Americaand Cherokee Europe. These operating segments have been aggregated into asingle reporting segment based on their similar economic characteristics andcommon operating characteristics, including comparable gross profit margins andcommon products, production processes, customers, distribution channels andregulatory requirements.

**Reclassifications**

Certain items in the priorperiod consolidated financial statements have been reclassified to conform tothe current period presentation.

**Recent Accounting Pronouncements**

In January 2003, the FASB issued FIN 46, “Consolidationof Variable Interest Entities.” In general, a variable interest entity is acorporation, partnership, trust or any other legal structure used for businesspurposes that either (a) does not have equity investors with voting rightsor (b) has equity investors that do not provide sufficient financialresources for the entity to support its activities. FIN 46 requires a variableinterest entity to be consolidated by a company if that company is subject to amajority of the risk of loss from the variable interest entity’s activities orentitled to receive a majority of the entity’s residual returns or both. Theconsolidation requirements of FIN 46 apply immediately to variable interestentities created after January 31, 2003. With respect to variable interestentities created before January 31, 2003, in December 2003 the FASBissued FIN 46R which, among other things, revised the implementation date tofirst fiscal years or interim periods ending after March 15, 2004, withthe exception of Special Purpose Entities (“SPE”). The consolidationrequirements apply to all SPE’s in the first fiscal year or interim 

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period ending after December 15,2003. As the Company determined that it did not have any variable interestentities to which these interpretations apply, the Company adopted FIN 46R inthe first quarter of 2004, and such adoption did not have a material impact onits financial statements.

In December 2003, the FASB released a revisedStatement of Financial Accounting Standard No. 132R (“SFAS No. 132R”),“Employer’s Disclosure about Pensions and Other Postretirement Benefits”. Therevised standard provides required disclosure for pensions and otherpostretirement benefit plans and is designed to improve disclosure transparencyin financial statements. It also requires new interim disclosure regardingcertain aspects of a company’s plans. The standard is effective for domesticplans for fiscal years ending after December 15, 2003 and for interimperiods beginning after December 15, 2003. It was effective for foreignplans for fiscal years ending after June 15, 2004 and interim periodsbeginning after December 15, 2003. The Company has adopted the standardand has included the required disclosures in Note 12 to the consolidatedfinancial statements.

In November 2004, the FASB issued SFAS No. 151,“Inventory Costs”—an amendment of ARB No. 43, Chapter 4, “InventoryPricing”. SFAS 151 amends the guidance in ARB No. 43 to clarify theaccounting for abnormal amounts of idle facility expense, freight, handlingcosts, and wasted material (spoilage). Abnormal amounts of these costs shouldbe recognized as current period charges rather than as a portion of inventorycosts. In addition, SFAS 151 requires that allocation of fixed productionoverheads to the costs of manufacturing be based on the normal capacity of theproduction facilities. The provisions of SFAS 151 are effective for inventorycosts incurred during fiscal years beginning after June 15, 2005.Management is currently evaluating the effect that the adoption of this newstandard may have on our consolidated financial position or results ofoperations.

In December 2004, the FASB issued SFAS 123R(Revised 2004), “Share-Based Payment”, which requires that the compensationcost relating to share-based payment transactions be recognized in financialstatements based on the fair value of the award on the date of grant. The costwill be recognized over the period during which the employee is required to provideservice in exchange for the award (usually the vesting period). The Companycurrently discloses pro forma compensation expense quarterly and annually. Uponadoption, the pro forma disclosures previously permitted under SFAS 123 will nolonger be an alternative to financial statement recognition. The provisions ofSFAS 123R are effective as of the beginning of the first interim or annualreporting period that begins after June 15, 2005. Management is currentlyevaluating the method of adoption and the effect that the adoption of SFAS 123Rwill have on our financial position and results of operations.

In December 2004, theFASB issued SFAS No. 153, “Exchangesof Nonmonetary Assets”—an amendment of APB Opinion No. 29. Theamendments eliminate the exception to fair value accounting for nonmonetaryexchanges of similar productive assets and replace it with a broader exceptionfor exchanges of nonmonetary assets that do not have commercial substance.Under APB 29, accounting for an exchange of a productive asset for a similarproductive asset or an equivalent interest in the same or similar productiveasset is to be based upon the recorded amount of the asset relinquished(carryover basis with no gain or loss recognition). The transaction will now beaccounted for based upon the fair value of the assets exchanged. The Statementis effective for exchanges occurring in fiscal years beginning after June 15,2005 and is to be applied prospectively. This statement is not expected to havea material impact on the Company.

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**4.    PROPERTYAND EQUIPMENT**

Propertyand equipment consists of the following (in thousands):
| ** **                                           | ** ** | **December 31,** | ** ** |
|------------------------------------------------------|------------|-----------------------|------------|
| ** **                                           | ** ** | **2004**              | ** ** | **2003** | ** ** |
| Land                                                 |       | $                     | 1,930      |   | $ | 1,806 |   |
| Buildings and  improvements                          |       | 5,791                 |       | 5,525 |   |
| Machinery and equipment                              |       | 22,096                |       | 18,739 |   |
| Dies, jigs and fixtures                              |       | 534                   |       | 448 |   |
| Computers, software, office  equipment and furniture |       | 2,672                 |       | 2,139 |   |
| Automobiles and trucks                               |       | 207                   |       | 192 |   |
| Leasehold improvements                               |       | 4,626                 |       | 4,364 |   |
| Construction in progress                             |       | 1,158                 |       | 29 |   |
|                                                 |       | 39,014                |       | 33,242 |   |
| Less accumulated  depreciation and amortization      |       | (23,986               | )          | (20,461 | ) |
|                                                 |       | $                     | 15,028     |   | $ | 12,781 |   |

 

As of December 31,2004, there were no assets under capital lease agreements and all such assetshad been fully amortized. As of December 31, 2003, included in property andequipment are assets under capital leases of $5.5 million and accumulatedamortization of $4.8 million. Depreciation expense, including amortizationof assets under capital lease agreements, for the years ended December 31,2004 and 2003 was $3.2 million and $3.6 million, respectively.

**5.   NET INCOME(LOSS) PER SHARE**

In accordance with SFAS No. 128,“Earnings Per Share,” basic earnings income (loss) per share is based upon theweighted average number of common shares outstanding. Diluted income (loss) pershare is based upon the weighted average number of common and potential sharesof common stock for each period presented. Potential common shares include thedilutive effect of stock options and warrants under the treasury stock methodand senior convertible notes under the if-converted method. For purposes of thediluted earnings per share calculation for the year ended December 31,2004, the senior convertible notes are assumed to have been converted at thebeginning of the period, and as a result, net income has been increased by $1.0million for the reduction in interest expense related to the senior convertiblenotes. The diluted loss per share calculation for the year ended December 31,2003 excludes the dilutive effect of stock options and warrants since theimpact is anti-dilutive.

Thefollowing table sets forth the computation of basic and diluted net income(loss) per share (in thousands, except per share amounts):
| ** **                                                   | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                   | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net income (loss)                                            |       | $                                           | 10,441     |   | $ | (12,432 | ) | $ | (45,611 | ) |
| Adjustment for interest  expense on senior convertible notes |       | 1,036                                       |       | — |   | — |   |
| Net income (loss),  adjusted                                 |       | $                                           | 11,477     |   | $ | (12,432 | ) | $ | (45,611 | ) |
| Shares:                                                      |       |                                        |       |   |   |   |   |
| Weighted-average common  shares outstanding—basic       |       | 16,761                                      |       | 2,132 |   |   |   |
| Effect of dilutive securities:                               |       |                                        |       |   |   |   |   |
| Senior convertible notes  and warrants                       |       | 1,479                                       |       | — |   |   |   |
| Outstanding stock  options                                   |       | 399                                         |       | — |   |   |   |
| Weighted-average common  shares outstanding—diluted     |       | 18,639                                      |       | 2,132 |   |   |   |
| Net income (loss) per share:                                 |       |                                        |       |   |   |   |   |
| Basic                                                        |       | $                                           | 0.62       |   | $ | (5.83 | ) |   |   |
| Diluted                                                      |       | $                                           | 0.62       |   | $ | (5.83 | ) |   |   |

 

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**6.    DEBT**

Long-termdebt consists of the following at December 31, 2004 and 2003 (inthousands):
| ** **                                  | ** ** | **December 31,  2004** | ** ** | **December 31,  2003** | ** ** |
|---------------------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| Term loans                                  |       |                        | $          | —                      |       |   |   | $ | 12,463 |   |   |
| 14.5% second lien  notes                    |       |                        | —     |                        |       |   | 46,652 |   |   |
| 5.25% senior  notes                         |       |                        | 46,630     |                        |       |   | 46,630 |   |   |
| 12% senior  convertible notes               |       |                        | —     |                        |       |   | 59,774 |   |   |
|                                        |       |                        | 46,630     |                        |       |   | 165,519 |   |   |
| Less debt  discount                         |       |                        | —     |                        |       |   | (64 | ) |   |
| Total long-term  debt, net of debt discount |       |                        | 46,630     |                        |       |   | 165,455 |   |   |
| Less current  portion                       |       |                        | —     |                        |       |   | (2,562 | ) |   |
| Total long-term debt                        |       |                        | $          | 46,630                      |       |   |   | $ | 162,893 |   |   |

 

Presentedbelow is the Company’s long-term debt and long-term debt payable to affiliatesat December 31, 2004 and 2003 (in thousands):
| ** **                                  | ** ** | **December 31,  2004** | ** ** | **December 31,  2003** | ** ** |
|---------------------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| Long-term debt:                             |       |                        |       |                        |       |   |   |   |   |
| Current                                     |       |                        | $          | —                      |       |   |   | $ | 2,562 |   |   |
| Non-current                                 |       |                        | 24,485     |                        |       |   | 48,992 |   |   |
| Long-term debt payable  to affiliates:      |       |                        |       |                        |       |   |   |   |   |
| Current                                     |       |                        | —     |                        |       |   | — |   |   |
| Non-current                                 |       |                        | 22,145     |                        |       |   | 113,901 |   |   |
| Total long-term debt,  net of debt discount |       |                        | $          | 46,630                      |       |   |   | $ | 165,455 |   |   |

 

As of December 31, 2004, all of the Company’slong-term debt is scheduled to be repaid in 2008.

In connection with the Company’s initial publicoffering, the Company amended and restated its existing senior revolving creditfacility with General Electric Capital Corporation. The amended facility (the “CreditFacility”) provides for borrowings of up to $20.0 million that are subject to aborrowing base comprised of eligible accounts receivable and inventory, whichwas $12.9 million at December 31, 2004. The Credit Facility matures in August 2008and borrowings bear interest, at the Company’s option, at a rate per annumequal to LIBOR plus 2.5% or the agent bank’s base rate plus 1.0%. In additionto paying interest on outstanding principal, the Company is required to pay acommitment fee to the lenders under the credit facility in respect of theaverage daily balance of unused loan commitments at a rate of 0.5% per annum. TheCredit Facility is secured by a first-priority lien, subject to permittedencumbrances, on substantially all of the Company’s domestic assets and by apledge of 65% of the equity of certain of the Company’s foreign subsidiaries. TheCredit Facility contains restrictive covenants requiring the Company to, amongother things, maintain certain senior leverage ratios. As of December 31,2004, there were no borrowings outstanding under the Credit Facility, and theCompany was in compliance with all of the covenants under the Credit Facility.

As of December 31, 2004, the Company was incompliance with all of the covenants set forth in the principal agreementsgoverning the 5.25% senior notes.

Cherokee Europe maintainsa working capital line of credit of approximately $4.1 million with a Belgianbank, BBL, which is denominated in Euros, is collateralized by a pledge infirst and second rank over a specific amount of business assets, which requiresCherokee Europe to maintain a certain specific 

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minimumsolvency ratio and is cancellable at any time. As of December 31, 2004,Cherokee Europe had no outstanding borrowings under the line of credit and wasin compliance with all covenants.

**7.   OTHERLONG-TERM LIABILITIES**

Otherlong-term liabilities consist of the following (in thousands):
| ** **                                                                            | ** ** | **December 31,** | ** ** |
|---------------------------------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                                            | ** ** | **2004**              | ** ** | **2003** | ** ** |
| Long-term portion  of European restructuring cost liabilities                         |       | $                     | 1,508      |   | $ | 1,670 |   |
| Long service  award liabilities                                                       |       | 2,057                 |       | 1,515 |   |
| Interest payable  related to the Second Lien Notes and Senior Convertible Notes  |       | —                |       | 2,400 |   |
| Deferred  compensation                                                                |       | 701                   |       | — |   |
|                                                                                  |       | $                     | 4,266      |   | $ | 5,585 |   |

 

Estimatedpayments required under other long-term obligations as of December 31, 2004 areas follows (in thousands):
| ** **           | ** ** | **European  Restructuring** | ** ** | **Long Service  Award** | ** ** |
|----------------------|------------|-----------------------------|------------|------------------------------|------------|
| 2005                 |       |                        | $          | 259                          |       |   |   | $ | 20 |   |   |
| 2006                 |       |                        | 255        |                         |       |   | 54 |   |   |
| 2007                 |       |                        | 228        |                         |       |   | 107 |   |   |
| 2008                 |       |                        | 203        |                         |       |   | 208 |   |   |
| 2009                 |       |                        | 197        |                         |       |   | 330 |   |   |
| Thereafter           |       |                        | 625        |                         |       |   | 1,358 |   |   |
| Subtotal             |       |                        | 1,767      |                         |       |   | 2,077 |   |   |
| Less current portion |       |                        | (259       | )                            |       |   | (20 | ) |   |
|                 |       |                        | $          | 1,508                        |       |   |   | $ | 2,057 |   |   |

 

The timing of paymentsrequired under deferred compensation is not determinable.

**8.   DEBTRESTRUCTURING COSTS**

During the year ended December 31,2002, the Company recorded debt restructuring costs of approximately $3.2million. This amount is comprised of the following (i) the write-off ofpreviously capitalized financing costs of $2.5 million as a result of theTransactions in November 2002 and (ii) costs of $2.8 million incurredin restructuring the Company’s debt as part of the Transactions that did notqualify to be capitalized. These amounts were partially offset by approximately$2.1 million of a gain on the debt restructuring.

**9.   CHEROKEEEUROPE RESTRUCTURING**

In June 2003, theCompany received approval for a restructuring plan (the “European Restructuring”)of its operations in Europe from the Workers Union and the appropriategovernmental authorities in Belgium. The European Restructuring involved theelimination of 61 operational and administrative positions at the CherokeeEurope facility in Belgium due to unfavorable economic conditions in thatmarket. All of the terminations were completed in 2003. Pursuant to theEuropean Restructuring, the Company recorded a restructuring charge of $4.5million in operating expenses in the consolidated statement of operations forthe year ended December 31, 2003. The European Restructuring costs arecomprised entirely of one-time termination benefits to be paid through 2010. TheCompany paid 

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$1.1million  and $1.7 million in benefitsduring the years ended December 31, 2004 and December 31, 2003 respectively, under the EuropeanRestructuring plan.

Areconciliation of the European Restructuring accrual for the year ended December 31,2004 is as follows (in thousands):
| Balance as of  January 1, 2003  |   | $      | — |   |
|--------------------------------------|--------|--------|--------|--------|
| Provision                            |   | 4,474  |   |
| Payments                             |   | (1,942 | )      |
| Foreign exchange rate effect         |   | 282    |   |
| Balance as of December 31, 2003 |   | $      | 2,814  |   |
| Provision                            |   | (54    | )      |
| Payments                             |   | (1,122 | )      |
| Foreign exchange rate effect         |   | 129    |   |
| Balance as of December 31, 2004 |   | 1,767  |   |
| Less current  portion                |   | (259   | )      |
| Due after one year                   |   | $      | 1,508  |   |

 

**10.   COMMITMENTS AND CONTINGENCIES**

The Company leases certain of its manufacturingfacilities under non-cancelable operating leases through 2009. One of themanufacturing facilities is leased from an entity controlled by a formerdirector of the Company. Rental expense for the years ended December 31,2004, 2003 and 2002 totaled approximately $1.4 million, $1.4 million and $1.2million ($1.1 million, $1.0 million and $1.0 million to an entity controlled bya former director), respectively.

As of December 31,2004, the Company no longer has any capital lease contracts. A summary of theCompany’s operating lease commitments as of December 31, 2004 is asfollows (in thousands):
| **Year ending December 31:** |   |   |   |
|-----------------------------------|--------|--------|--------|
| 2005                              |   | $      | 1,456  |   |
| 2006                              |   | 1,502  |   |
| 2007                              |   | 1,513  |   |
| 2008                              |   | 1,482  |   |
| 2009                              |   | 497    |   |
| Thereafter                        |   | — |   |
| Total minimum  lease payments     |   | $      | 6,450  |   |

 

As of December 31,2004, total future minimum payments for operating leases aggregated $6.5million, of which $4.7 million is payable to an entity controlled by a formerdirector of the Company.

**Guarantees and Indemnities**

The Company has agreed to indemnify the former ownersof Cherokee Europe for product liability, environmental hazard and employmentpractice claims relating solely to post-acquisition business. The Company alsoindemnifies its directors and officers to the maximum extent permitted underthe laws of the State of Delaware, and various lessors in connection withfacility leases for certain claims arising from such facility or lease. Themaximum amount of potential future payments under such indemnifications is notdeterminable.

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The Company has notincurred significant amounts related to these guarantees and indemnifications,and no liability has been recorded in the consolidated financial statements forguarantees and indemnifications as of December 31, 2004.

**11.   STOCKHOLDERS’ EQUITY (DEFICIT)**

**Capitalization**

In July 2003, the Company issued 140,677 sharesof Common Stock to management, with an estimated fair value of $5.85 per shareas of the date of issuance, for services rendered. In addition, the Companyissued 12,824 shares of Common Stock, with an estimated fair value of $13.00per share as of the issuance date, to the management of Cherokee Europe forachieving specified financial performance targets during the second half of2003. As a result, the Company recorded stock compensation expense of $1.0million in 2003, representing the estimated fair value of these shares.

On February 25, 2004,the Company closed the sale of 6,600,000 shares of our Common Stock at a priceof $14.50 per share in a firm commitment underwritten initial public offering.The offering was effected pursuant to a Registration Statement on Form S-1(File No. 333-110723), which the Securities and Exchange Commissiondeclared effective on February 19, 2004. Also in connection with ourinitial public offering, the Company issued 10,354,910 shares in connectionwith the conversion of senior convertible notes into Common Stock.

**2002 Stock OptionPlan**

In July 2003, theCompany adopted the Cherokee International Corporation 2002 Stock Option Plan (“the2002 Stock Option Plan”) under which up to 1,410,256 shares of the Company’sCommon Stock may be issued pursuant to the grant of non-qualified stock optionsto the directors, officers, employees, consultants and advisors of the Companyand its subsidiaries. In connection with the adoption of the 2002 Stock OptionPlan, the company granted 1,087,327 stock options thereunder. The optionstypically vest over a four-year period, have a 10 year contractual lifeand ranged in exercise price from $5.85 to $10.34 per share and were grantedwith exercise prices at or above fair value as determined by Cherokee’s Boardof Directors based on income and market valuation methodologies. In February 2004,the Company granted options to purchase 328,320 shares of common stock at anexercise price of $14.50 and will no longer be granting options pursuant to the2002 Stock Option Plan. As of December 31, 2004, 6,056 shares have beenissued under the 2002 Stock Option Plan.

**2004 Omnibus StockIncentive Plan**

On February 16, 2004, the Company adopted the2004 Omnibus Stock Incentive Plan (the ‘‘2004 Plan’’). The 2004 Plan providesthat a total of 800,000 shares of the Company’s Common Stock are reserved forissuance under the 2004 Plan, plus an annual increase to be added on the firstday of the Company’s fiscal year (beginning 2005) equal to the lesser of (i) 450,000shares or (ii) 2% of the number of outstanding shares on the last day ofthe immediately preceding fiscal year. Any officer, director, employee,consultant or advisor of the Company is eligible to participate in the 2004Plan. The 2004 Plan provides for the issuance of stock-based incentive awards,including stock options, stock appreciation rights, restricted stock, deferredstock, and performance shares. During 2004 the Company granted options topurchase 199,000 shares of common stock under the 2004 Plan, which included60,000 options issued as partial compensation to non-employee directors. As of December 31,2004 no shares have been issued under the 2004 Plan.

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Informationwith respect to stock option activity and stock options outstanding under bothstock option plans is as follows:
| ** **                                                                  | ** ** | **Number of  Shares** | ** ** | **Option  Exercise  Price  Per Share**                                                             | ** **         | **Weighted  Average  Exercise  Price  Per Share** | ** ** |
|-----------------------------------------------------------------------------|------------|----------------------------|------------|---------------------------------------------------------------------------------------------------------|--------------------|--------------------------------------------------------|------------|
| Options outstanding,  January 1, 2003                                  |       | —                     |       | $       —          |               |                                                   | $          | — |   |   |
| Options granted  (weighted average fair value of $0.59 per share) |       | 1,087,327                  |       | $                                                                                                       | 5.85 –  10.34 |                                                   |       | $ | 6.74 |   |   |
| Options exercised                                                           |       | —                     |       | —                                                                                                  |               |                                                   | —     |   |   |
| Options forfeited                                                           |       | (6,410                     | )          | $                                                                                                       | 5.85 –  10.34 |                                                   |       | $ | 6.75 |   |   |
| Options  outstanding, December 31, 2003                                |       | 1,080,917                  |       | $                                                                                                       | 5.85 –  10.34 |                                                   |       | $ | 6.78 |   |   |
| Options granted  (weighted average fair value of $6.57 per share) |       | 527,320                    |       | $                                                                                                       | 6.96 –  14.50 |                                                   |       | $ | 13.32 |   |   |
| Options exercised                                                           |       | (6,056                     | )          | $                                                                                                       | 5.85 –  10.34 |                                                   |       | $ | 6.42 |   |   |
| Options forfeited                                                           |       | (167,417                   | )          | $                                                                                                       | 5.85 –  14.50 |                                                   |       | $ | 7.72 |   |   |
| Options outstanding, December 31, 2004                                 |       | 1,434,764                  |       | $                                                                                                       | 5.85 – 14.50  |                                                   |       | $ | 9.05 |   |   |
| Options  exercisable at December 31, 2004                              |       | 500,143                    |       | $                                                                                                       | 5.85 –  10.34 |                                                   |       | $ | 7.12 |   |   |

 
| ** **                          | ** ** | **Options Outstanding** | ** ** | **Options Exercisable** | ** ** |
|-------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| **Range of  Exercise  Prices** | ** ** | ** **                   | ** ** | **Number of  Shares**   | ** ** | **Weighted Average  Remaining  Contractual Life  in Years** | ** ** | **Weighted Average  Exercise Price** | ** ** | **Number of  Shares** | ** ** | **Weighted Average  Exercise Price** | ** ** |
| $  5.85  –  8.07     |       | 784,543                      |       |                         | 8.66       |   |   |   | $ | 5.96 |   |   | 358,908 |   |   | $ | 5.85 |   |   |
| $10.34                              |       | 191,401                      |       |                         | 8.58       |   |   |   | $ | 10.34 |   |   | 141,235 |   |   | $ | 10.34 |   |   |
| $11.31 – 12.37                 |       | 105,000                      |       |                         | 9.50       |   |   |   | $ | 11.36 |   |   | — |   |   | $ | — |   |   |
| $14.50                              |       | 353,820                      |       |                         | 9.13       |   |   |   | $ | 14.50 |   |   | — |   |   | $ | — |   |   |
|                                |       | 1,434,764                    |       |                         | 8.83       |   |   |   | $ | 9.05 |   |   | 500,143 |   |   | $ | 7.12 |   |   |
|                                     |            |                              |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**2004 Employee Stock Purchase Plan**

On February 16, 2004,the Company adopted the 2004 Employee Stock Purchase Plan (the ‘‘ESPP’’). TheESPP provides that a total of 400,000 shares of Common Stock are reserved forissuance under the plan, plus an annual increase to be added on the first dayof the Company’s fiscal year (beginning 2005) equal to the lesser of (i) 250,000shares or (ii) 1% of the number of outstanding shares on the last day ofthe immediately preceding fiscal year. The ESPP, which is intended to qualifyas an ‘‘employee stock purchase plan’’ under Section 423 of the Code, isimplemented utilizing six-month offerings with purchases occurring at six-monthintervals, with a new offering period commencing on the first trading day on orafter May 15 (beginning in the year 2005) and November 15 (beginningin the year 2004) and ending on the last trading day on or before November 14or May 14, respectively. The Company’s Compensation Committee of the Boardof Directors oversees the ESPP administration. Employees are eligible toparticipate if they are employed for at least 20 hours per week and more than 5months in a calendar year by the Company, subject to certain restrictions asdefined. The ESPP permits eligible employees to purchase Common Stock throughpayroll deductions, which may not exceed 15% of an employee’s compensation. Theprice of Common Stock purchased under the ESPP will be 85% of the lower of thefair market value of the Common Stock at the beginning of each six-monthoffering period or on the applicable purchase date. Employees may end theirparticipation in an offering at any time during the offering period, andparticipation ends automatically upon termination of employment. The Company’sCompensation Committee may at any time amend or terminate the ESPP, except thatno such amendment or termination 

52

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mayadversely affect shares previously granted under the ESPP. As of December 31,2004, 18,666 shares have been issued under the ESPP.

**DeferredCompensation Plan**

On February 16, 2004, the Company adopted twoexecutive deferred compensation plans for the benefit of certain designatedemployees and non-employee directors of the Company. The plans allowparticipating employees and non-employee directors to make pre-tax deferrals ofup to 100% of their annual base salary and bonuses and retainer fees andmeeting fees, respectively. The plans allow the Company to make matchingcontributions and employer profit sharing credits at the sole discretion of theCompany. A participant’s interest in each matching contribution and employerprofit sharing credits, if any, vests in full no later than after 3 years. Asof December 31, 2004, the Company has recorded a liability of $0.7 millionfor employee and non-employee director contributions and investment activity todate, which is recorded in other long-term liabilities, and the Company hasprovided no matching contributions for the year ended December 31, 2004.

53

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**12.   RETIREMENT PLANS**

CherokeeEurope maintains a pension plan for certain levels of staff and management thatincludes a defined benefit feature. The following represents the amountsrelated to this defined benefit plan (in thousands):
| ** **                                                                                        | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                                        | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| **Change in Benefit Obligation:**                                                                 |       |                                        |       |   |   |   |   |
| Benefit obligation,  beginning of period                                                          |       | $                                           | 4,596      |   | $ | 3,556 |   | $ | 2,756 |   |
| Benefits paid                                                                                     |       | (13                                         | )          | (654 | ) | (64 | ) |
| Effect of exchange rate  changes                                                                  |       | 539                                         |       | 676 |   | 524 |   |
| Service cost                                                                                      |       | 138                                         |       | 123 |   | 92 |   |
| Plan participant’s  contributions                                                            |       | 114                                         |       | 93 |   | 85 |   |
| Interest cost                                                                                     |       | 244                                         |       | 213 |   | 163 |   |
| Actuarial loss                                                                                    |       | 368                                         |       | 589 |   | — |   |
| Benefit obligation, end  of period                                                                |       | $                                           | 5,986      |   | $ | 4,596 |   | $ | 3,556 |   |
| **Change in Plan Assets:**                                                                        |       |                                        |       |   |   |   |   |
| Fair value of plan  assets, beginning of period                                                   |       | $                                           | 2,997      |   | $ | 2,659 |   | $ | 1,993 |   |
| Benefits paid                                                                                     |       | (13                                         | )          | (654 | ) | (64 | ) |
| Effect of exchange rate  changes                                                                  |       | 335                                         |       | 470 |   | 387 |   |
| Actual return on plan  assets                                                                     |       | 60                                          |       | 285 |   | 122 |   |
| Employer contribution                                                                             |       | 205                                         |       | 143 |   | 136 |   |
| Plan participants’  contributions                                                            |       | 114                                         |       | 94 |   | 85 |   |
| Fair value of plan  assets, end of period                                                         |       | $                                           | 3,698      |   | $ | 2,997 |   | $ | 2,659 |   |
| Unfunded status                                                                                   |       | $                                           | (2,288     | ) | $ | (1,599 | ) | $ | (897 | ) |
| Unrecognized net  actuarial gain (loss)                                                           |       | 886                                         |       | 359 |   | (117 | ) |
| Accrued pension  liability                                                                        |       | $                                           | (1,402     | ) | $ | (1,240 | ) | $ | (1,014 | ) |
| **Information for pension plans with accumulated  benefit obligations in excess of plan assets:** |       |                                        |       |   |   |   |   |
| Projected benefit  obligation                                                                     |       | $                                           | 5,986      |   | $ | 4,596 |   | $ | 3,556 |   |
| Accumulated benefit  obligation                                                                   |       | 4,589                                       |       | 3,463 |   | 3,018 |   |
| Fair value of assets                                                                              |       | 3,698                                       |       | 2,997 |   | 2,659 |   |
| **Components of Net Periodic Benefit Cost:**                                                      |       |                                        |       |   |   |   |   |
| Service cost                                                                                      |       | $                                           | 138        |   | $ | 123 |   | $ | 92 |   |
| Interest cost                                                                                     |       | 244                                         |       | 213 |   | 163 |   |
| Expected return on plan  assets                                                                   |       | (143                                        | )          | (154 | ) | (122 | ) |
| Net periodic benefit cost                                                                         |       | $                                           | 239        |   | $ | 182 |   | $ | 133 |   |

 
| ** **                                                          | ** ** | **Years Ended December 31,** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                          | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| **Weighted average assumptions used :**                             |       |                                        |       |   |   |   |   |
| For determining benefit obligations at  December 31:           |       |                                        |       |   |   |   |   |
| Discount rate                                                       |       | 4.50                                        | %          | 5.25 | % | 5.25 | % |
| Salary increase                                                     |       | 3.50                                        | %          | 3.45 | % | 3.45 | % |
| For determining net periodic cost for year ended  December 31: |       |                                        |       |   |   |   |   |
| Discount rate                                                       |       | 5.25                                        | %          | 5.25 | % | 5.25 | % |
| Salary increase                                                     |       | 3.45                                        | %          | 3.45 | % | 3.45 | % |
| Expected return on  assets                                          |       | 4.50                                        | %          | 4.50 | % | 5.50 | % |
| **Pension plan assets :**                                           |       |                                        |       |   |   |   |   |
| Guaranteed insurance contracts                                      |       | 100                                         | %          | 100 | % | 100 | % |

 

54

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All plan funds are invested with Fortis AG, an insurancecompany in Europe, which guarantees the plan a fixed rate of return based onrates in effect at time of deposit. Returns may be higher than the fixed ratesdue to a profit sharing provision and dependent on the overall investmentresults of Fortis AG. In general, the assets of the insurance contract areprimarily invested in Euro bonds with only a small portion in equities.

TheCompany expects to contribute approximately $230,000 to the pension plan infiscal 2005.
| **Estimated future pension  benefit payments (in thousands):** |   |   |   |
|----------------------------------------------------------------|--------|--------|--------|
| 2005                                                           |   | $      | 53     |   |
| 2006                                                           |   | 57     |   |
| 2007                                                           |   | 61     |   |
| 2008                                                           |   | 65     |   |
| 2009                                                           |   | 305    |   |
| Years 2010 – 2014                                         |   | 2,902  |   |
|                                                                |        |        |        |  |

 

The Company maintains aretirement plan (the “401(k) Plan”) in which substantially all domesticemployees are eligible to participate after completing six months ofemployment. The 401(k) Plan allows participating employees to contributeup to 15% of the employee’s pretax compensation, with the Company makingdiscretionary matching contributions. Company contributions fully vest and arenon-forfeitable after the participant has completed five years ofservice. For the years ended December 31, 2004 and 2003, the Companyelected to contribute approximately $296,000, and $253,000, respectively, tothe 401(k) Plan. Contributions are generally made after the calendar yearend. Administrative costs associated with the 401(k) Plan are paid byparticipants.

**13.   CONCENTRATIONS**

TheCompany recorded revenues of greater than 10% of total revenues from thefollowing customers:
| ** **   | ** ** | **Years Ended December 31,** | ** ** |
|--------------|------------|---------------------------------------------|------------|
| **Customer** | ** ** | ** **                                  | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
| A            |       |                                        | 17         | % |   |   | 22 | % |   |   | 20 | % |   |
| B            |       |                                        | —     |   |   |   | 10 | % |   |   | — |   |   |
|              |            |                                             |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

TheCompany recorded accounts receivable balances of greater than 10% of total netreceivables from the following customers:
| ** **   | ** ** | **As of December 31,** | ** ** |
|--------------|------------|---------------------------------------|------------|
| **Customer** | ** ** | ** **                            | ** ** | **   2004   ** | ** ** | **   2003   ** | ** ** |
| A            |       |                                  | 13         | % |   |   | 41 | % |   |
|              |            |                                       |            |  |  |  |  |  |  |  |  |

 

Although not anticipated, a decision by a majorcustomer to decrease the amount purchased from the Company or to ceasepurchasing the Company’s products could have an adverse effect on the Company’sfinancial position and results of operations.

55

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TheCompany sells its power supply products to OEMs in the computing and storage,wireless infrastructure, enterprise networking, medical and industrial markets.These activities are managed as a single business and have been aggregated intoa single reportable operating segment. For the years ended December 31,2004, 2003 and 2002, net sales by region were as follows (in thousands):
| ** **    | ** ** | **Years Ended December 31,** | ** ** |
|---------------|------------|---------------------------------------------|------------|
| ** **    | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| United States |       | $                                           | 61,211     |   | $ | 53,628 |   | $ | 44,425 |   |
| Europe        |       | 62,042                                      |       | 47,947 |   | 49,746 |   |
| Asia          |       | 12,695                                      |       | 1,301 |   | — |   |
| Other         |       | 12,563                                      |       | 9,067 |   | 2,122 |   |
|          |       | $                                           | 148,511    |   | $ | 111,943 |   | $ | 96,293 |   |

 

The Company’s long-livedassets located outside of the United States were $11.9 million and $10.3million as of December 31, 2004 and 2003, respectively.

**14.   INCOME TAXES**

Income(loss) before income taxes consists of the following components (in thousands):
| ** **    | ** ** | **Years Ended December 31,** | ** ** |
|---------------|------------|---------------------------------------------|------------|
| ** **    | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| United States |       | $                                           | 10,171     |   | $ | (6,675 | ) | $ | (9,045 | ) |
| Foreign       |       | 3,066                                       |       | (4,606 | ) | (1,846 | ) |
|          |       | $                                           | 13,237     |   | $ | (11,281 | ) | $ | (10,891 | ) |

 

Theprovision for current and deferred income taxes consists of the following (inthousands):
| ** **      | ** ** | **Years Ended December 31,** | ** ** |
|-----------------|------------|---------------------------------------------|------------|
| ** **      | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Current:        |       |                                        |       |   |   |   |   |
| Federal         |       | $                                           | —     |   | $ | — |   | $ | — |   |
| State           |       | 1                                           |       | 1 |   | 2 |   |
| Foreign         |       | 2,758                                       |       | 1,168 |   | 118 |   |
| Total current   |       | 2,759                                       |       | 1,169 |   | 120 |   |
| Deferred:       |       |                                        |       |   |   |   |   |
| Federal         |       | —                                      |       | — |   | — |   |
| State           |       | —                                      |       | — |   | — |   |
| Foreign         |       | 37                                          |       | (18 | ) | — |   |
| Total deferred  |       | 37                                          |       | (18 | ) | — |   |
| Total Provision |       | $                                           | 2,796      |   | $ | 1,151 |   | $ | 120 |   |

 

As described in Note 3, prior to the Restructuring,the Company was a limited liability company under the provisions of the federaland state tax codes. Under federal laws, taxes based on income of a limitedliability company are payable by the Company’s individual members. Accordingly,no provision for federal income taxes is included in the accompanyingconsolidated financial statements relating to the periods prior to thereorganization. Provisions for California franchise tax and fees are notsignificant for any period presented. The Company’s operations in Mexico, Indiaand Belgium are subject to income taxes on earnings generated in thosecountries.

56

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TheCompany’s effective tax rate differs from the federal statutory rate of 35% asfollows (in thousands):
| ** **                                             | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                             | ** ** | **2004**                                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| Worldwide pre-tax  income (loss) at 35%                |       | $                                           | 4,633      |   | $ | (3,948 | ) | $ | (15,823 | ) |
| U.S. income not  subject to federal tax                |       | —                                      |       | — |   | 2,216 |   |
| Foreign income  not subject to U.S. tax (benefit)      |       | (4,082                                      | )          | (1,584 | ) | — |   |
| Foreign taxes                                          |       | 2,795                                       |       | 1,150 |   | 175 |   |
| Reduction in  foreign net operating loss carryforwards |       | —                                      |       | 4,095 |   | — |   |
| Goodwill  amortization and impairment                  |       | —                                      |       | — |   | 12,110 |   |
| Change in  valuation allowance                         |       | (633                                        | )          | 1,224 |   | 1,216 |   |
| Other                                                  |       | 83                                          |       | 214 |   | 226 |   |
| Total                                                  |       | $                                           | 2,796      |   | $ | 1,151 |   | $ | 120 |   |

 

In the opinion of management, it is more likely thannot that deferred tax assets will not be realized in the foreseeable future.Accordingly, management determined that a full valuation allowance was requiredas of December 31, 2004 and 2003 for all the deferred tax assets.

TheCompany’s deferred income taxes are comprised of the following (in thousands):
| ** **                                    | ** ** | **Years Ended December 31,**                                      | ** ** |
|-----------------------------------------------|------------|----------------------------------------------------------------------------------|------------|
| ** **                                    | ** ** | **      2004      ** | ** ** | **      2003      ** | ** ** |
| **Net current deferred income  taxes**        |       |                                                                             |       |   |   |
| Employee benefit  accrual                     |       | $                                                                                | —     |   | $ | (275 | ) |
| Inventories                                   |       | (842                                                                             | )          | (210 | ) |
| Other reserves  and credits                   |       | 923                                                                              |       | 766 |   |
|                                          |       | 81                                                                               |       | 281 |   |
| **Net  non-current deferred income taxes**    |       |                                                                             |       |   |   |
| Net operating loss carryforwards              |       | 15,009                                                                           |       | 12,484 |   |
| Fixed assets                                  |       | 181                                                                              |       | 526 |   |
| Tax basis step up  from 1999 recapitalization |       | 38,545                                                                           |       | 42,733 |   |
| Other                                         |       | 247                                                                              |       | — |   |
|                                          |       | 53,982                                                                           |       | 55,743 |   |
| Valuation allowance                           |       | (54,118                                                                          | )          | (56,042 | ) |
| Net deferred tax liability                    |       | $                                                                                | (55        | ) | $ | (18 | ) |

 

The deferred tax liability is included in accruedliabilities in the accompanying consolidated financial statements. Federal andstate net operating loss carryforwards at December 31, 2004 were $28.6 millionand $18.8 million, respectively. Federal net operating losses begin expiring in2022 and state losses begin expiring in 2014. Foreign net operating losscarryforwards were $13.2 million at December 31, 2004.

The Company believes ithas adequately provided for income tax issues not yet resolved with federal,state and foreign tax authorities. At December 31, 2004, $1.5 million wasaccrued for such federal, state and foreign matters and is included in accruedliabilities. Although not probable, the most adverse resolution of thesefederal, state and foreign issues could result in additional charges toearnings in future periods in addition to the $1.5 million currentlyprovided. Based upon a consideration of all relevant facts and circumstances,the Company does not believe the ultimate resolution of tax issues for all opentax periods will have a materially adverse effect upon its results ofoperations or financial condition.

57

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**15.   CHEROKEE EUROPE FIRE**

On January 19, 2004, the Company experienced afire in part of its facility in Belgium, which destroyed certain inventory,property and equipment. The Company was fully insured for the replacement valueof the destroyed items, subject to a $5,000 deductible, and the facilityreturned to full production the next day. As of December 31, 2004, theCompany received $3.4 million in insurance proceeds to date. Negotiationsregarding the remaining insurance receivable for the destroyed assets are inthe final stages. Cherokee has agreed to a final proposal, which is pendingapproval by the insurance company.

Withinoperating expenses for the year ended December 31, 2004, the Companyrecorded a loss related to the destroyed inventory, property and equipment.This loss has been fully offset by proceeds received to date and a portion ofexpected recoveries from the insurance company, which have been recorded in prepaidexpenses and other current assets. The following amounts were recorded in ourconsolidated financial statements for the year ending December 31, 2004(in thousands):
| **Write-off of destroyed assets:**       |   |   |   |
|------------------------------------------|--------|--------|--------|
| Inventory                                |   | $      | 2,437  |   |
| Warehouse and  equipment, net book value |   | 158    |   |
| Supplies and  other expenses             |   | 1,203  |   |
| Total destroyed assets                   |   | $      | 3,798  |   |
| **Insurance  proceeds and receivable:**  |   |   |   |
| Proceeds to date                         |   | $      | (3,385 | ) |
| Insurance  receivable                    |   | (413   | )      |
| Total recoveries                         |   | $      | (3,798 | ) |

 

58

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**CHEROKEE INTERNATIONAL CORPORATION**SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS(in thousands)
| ** **                                         | ** ** | **Balance At  Beginning  of Period** | ** ** | **Charged  to  Cost And  Expenses** | ** ** | **Deductions** | ** ** | **Balance At  End  of Period** | ** ** |
|----------------------------------------------------|------------|------------------------------------------------|------------|------------------------------------------|------------|----------------|------------|------------------------------------------|------------|
| ALLOWANCE  FOR DOUBTFUL   ACCOUNTS: |       |                                           |       |                                     |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Year ended  December 31, 2002                 |       |                                           | $          | 237                                      |       |           |       | $                                        | 51         |   |   |   | $ | (114 | ) |   |   | $ | 174 |   |   |
| Year ended  December 31, 2003                 |       |                                           | 174        |                                     |       |           | 50         |                                     |       |   | (90 | ) |   |   | 134 |   |   |
| Year ended  December 31, 2004                 |       |                                           | 134        |                                     |       |           | 60         |                                     |       |   | (70 | ) |   |   | 124 |   |   |
| RESERVE FOR  INVENTORY OBSOLESCENCE:               |       |                                           |       |                                     |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Year ended  December 31, 2002                 |       |                                           | $          | 3,576                                    |       |           |       | $                                        | 960        |   |   |   | $ | (184 | ) |   |   | $ | 4,352 |   |   |
| Year ended  December 31, 2003                 |       |                                           | 4,352      |                                     |       |           | 660        |                                     |       |   | (794 | ) |   |   | 4,218 |   |   |
| Year ended  December 31, 2004                 |       |                                           | 4,218      |                                     |       |           | 1,026      |                                     |       |   | (787 | ) |   |   | 4,457 |   |   |

 

59

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

None.

**ITEM 9A.**        CONTROLS AND PROCEDURES

*Disclosure Controlsand Procedures*

Our management, with theparticipation of our Chief Executive Officer and Chief Financial Officer, hasevaluated the effectiveness of our disclosure controls and procedures (as suchterm is defined in Rules 13a-15(e) and 15d-15(e) under the Securities ExchangeAct of 1934, as amended (the “Exchange Act”)) as of the end of the periodcovered by this report.  The evaluationincluded certain control areas in which we have made, and are continuing tomake, changes to improve and enhance controls. Based on such evaluation, our Chief Executive Officer and ChiefFinancial Officer have concluded that, as of the end of such period, our disclosurecontrols and procedures were not effective because of the material weaknessesdiscussed below.

*Internal ControlOver Financial Reporting*

A material weaknessis a condition in which the design or operation of one or more of the internalcontrol components does not reduce to a relatively low level the risk thatmisstatements caused by error or fraud in amounts that would be material inrelation to the financial statements being audited may occur and not bedetected within a timely period by employees in the normal course of performingtheir assigned functions.

We did not maintainsufficient documentation of the design or operation of our computer programchange control process relating to database software, systems software, networksoftware, and in certain circumstances did not maintain adequate user accesscontrols.  Subsequent to our evaluation,we have engaged third party consultants to assist us in designing andimplementing appropriate procedures and controls over computer program changesas well as user access.

We also did notmaintain documentation supporting certain inventory reserves and did notanalyze, reconcile and adjust certain accounts in our consolidation on a timelybasis.  None of these deficienciesresulted in any material misstatements of our consolidated financialstatements. We have established new procedures to ensure that inventoryreserves are properly documented and our consolidation accounts are analyzedand adjusted on a timely basis.

To address thesematerial weaknesses, management performed additional analysis and otherprocedures to ensure that the consolidated financial statements included hereinfairly present in all material respects the Company’s financial position,results of operations and cash flows for the periods presented.

Except as noted above,there have not been any changes in our internal control over financialreporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under theExchange Act) during our fourth fiscal quarter that have materially affected, orare reasonably likely to materially affect, our internal control over financialreporting.

**ITEM 9B. OTHERINFORMATION**

None.

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**PART III**

**ITEM 10.**         DIRECTORS AND EXECUTIVEOFFICERS OF THE COMPANY

The informationunder the headings “Information Concerning the Nominees and Members of theBoard of Directors,” “Executive Officers of the Company” and “Compliance with Section 16(a) ofthe Securities and Exchange Act” contained in our proxy statement relating toour 2005 Annual Meeting of Stockholders is incorporated herein by reference.

The informationregarding Cherokee’s Audit Committee and Audit Committee financial expert setforth under the headings “Board Committees” and “Report of the Audit Committee”contained in our proxy statement relating to our 2005 Annual Meeting ofStockholders is incorporated herein by reference.

On May 4,2004, Cherokee’s Board of Directors adopted a Code of Business Conduct andEthics (the “Code of Ethics”). The Code of Ethics is applicable to all ofCherokee’s employees, including our principal executive officer, principalfinancial officer and principal accounting officer. A copy of the Code ofEthics is available on the Investor Relations section of Cherokee’s web site at*www.cherokeepwr.com.*

**ITEM 11.**         EXECUTIVE COMPENSATION

Theinformation under the heading “ Executive Compensation” contained in our proxystatement, relateding to our 2005 Annual Meeting of ShareStockholders, isincorporated herein by reference.

**ITEM 12.**         SECURITY OWNERSHIP OFCERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The information under theheading “Security Ownership of Certain Beneficial Owners and Management”contained in our proxy statement relating to our 2005 Annual Meeting ofstockholders is incorporated herein by reference.

**ITEM 13.**         CERTAIN RELATIONSHIPS ANDRELATED TRANSACTIONS

The information under theheading “Certain Relationships and Related Transactions” contained in our proxystatement relating to our 2005 Annual Meeting of stockholders is incorporatedherein by reference.

**ITEM 14.**         PRINCIPAL ACCOUNTING FEESAND SERVICES

Theinformation under the heading “Principal Accounting Fees and Services”contained in our proxy statement relating to our 2005 Annual Meeting ofstockholders is incorporated herein by reference.

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**PART IV**

**ITEM 15.**         EXHIBITSAND FINANCIAL STATEMENT SCHEDULES

(a)(1)       ConsolidatedFinancial Statements

Thefollowing documents are contained in Part II, Item 8 of this Annual Reporton Form 10-K:
|                                                                                                                                                              | **Page** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------|----------|
| Report of Independent  Registered Public Accounting Firm                                                                                                     | 35       |
| Consolidated  Balance Sheets as of December 31, 2004 and 2003                                                                                           | 36       |
| Consolidated  Statements of Operations for the years ended December 31, 2004, 2003  and 2002                                                       | 37       |
| Consolidated Statements of  Stockholders’ Equity (Deficit) and Comprehensive Operations for  the years ended December 31, 2004, 2003 and 2002 | 38       |
| Consolidated  Statements of Cash Flows for the years ended December 31, 2004, 2003  and 2002                                                       | 39       |
| Notes to Consolidated Financial  Statements                                                                                                                  | 40       |

 

(a)(2)       FinancialStatement Schedules

Thefollowing financial statement schedule is filed as a part of this Annual Reporton Form 10-K and is incorporated herein by reference:
|                                                 | **Page** |
|-------------------------------------------------|----------|
| Schedule II: Valuation and  Qualifying Accounts | 59       |

 

(a)(3)       Exhibits

Exhibitsnot incorporated by reference are filed herewith. The remainder of the exhibitshave heretofore been filed with the SEC and are incorporated herein byreference. Management contracts or compensatory plans or arrangements aremarked with an asterisk.
| 3.1   |   | Restated Certificate of Incorporation of Cherokee  International Corporation.(1)                                                                                                                                                                                                    |
|-------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.2   |   | Amended and Restated  By-Laws of Cherokee International Corporation.(1)                                                                                                                                                                                                             |
| 4.1   |   | Specimen certificate for  shares of common stock, par value $0.001 per share.(4)                                                                                                                                                                                                    |
| 4.2   |   | Indenture, dated as of  November 27, 2002, between Cherokee International Corporation, as  issuer, and U.S. Bank, N.A., as trustee, relating to the 51⁄4% Senior Notes due  2008.(2)                                                                                        |
| 4.3   |   | Form of 51⁄4% Senior  Notes due 2008.(2)                                                                                                                                                                                                                                    |
| *10.1 |   | Cherokee International  Corporation 2004 Omnibus Stock Incentive Plan.(3)                                                                                                                                                                                                           |
| *10.2 |   | Form of 2004 Stock  Option Agreement.(3)                                                                                                                                                                                                                                       |
| *10.3 |   | Form of Officer and  Director Indemnification Agreement.(4)                                                                                                                                                                                                                    |
| *10.4 |   | Executive Deferred  Compensation Plan (and related schedule).(3)                                                                                                                                                                                                                    |
| 10.5  |   | Amended and Restated  Credit Agreement, dated as of February 25, 2004, by and between Cherokee  International Corporation and General Electric Capital Corporation, in its  individual capacity and as agent (the “Agent”) for all of the lenders named  therein.(5) |
| 10.6  |   | Amended and Restated  Revolving Note, dated as of February 25, 2004, issued by Cherokee  International Corporation.(5)                                                                                                                                                         |

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| 10.7   |   | Amended and Restated  Security Agreement, dated as of February 25, 2004, by and between  Cherokee International Corporation and the Agent.(5)                                                                                                                                                                                                                                   |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.8   |   | Registration Rights  Agreement, dated as of February 25, 2004, by and among Cherokee  International Corporation and the Securityholders party thereto.(6)                                                                                                                                                                                                                       |
| 10.9   |   | Security Agreement,  dated as of November 27, 2002, between Cherokee International  Corporation and U.S. Bank, N.A., as agent (relating to the 51⁄4% Senior Note  Indenture).(2)                                                                                                                                                                                             |
| 10.10  |   | Trademark Security  Agreement, dated as of November 27, 2002, between Cherokee International  Corporation and U.S. Bank, N.A., as agent (relating to the 51⁄4% Senior Note  Indenture).(2)                                                                                                                                                                                   |
| 10.11  |   | Pledge Agreement, dated  as of November 27, 2002, between Cherokee International Corporation and  U.S. Bank, N.A., as agent (relating to the 51⁄4% Senior Note Indenture).(2)                                                                                                                                                                                                |
| 10.12  |   | Pledge Agreement, dated  as of November 27, 2002, between Cherokee Netherlands I B.V. and U.S.  Bank, N.A., as agent (relating to the 51⁄4% Senior Note Indenture).(2)                                                                                                                                                                                                       |
| *10.13 |   | Cherokee International  Corporation 2002 Stock Option Plan.(2)                                                                                                                                                                                                                                                                                                                       |
| *10.14 |   | Form of 2002 Stock  Option Agreement.(2)                                                                                                                                                                                                                                                                                                                                             |
| *10.15 |   | Severance Agreement,  dated as of March 31, 2005, between Cherokee International Corporation and  Jeffrey M. Frank.                                                                                                                                                                                                                                                                  |
| 10.16  |   | Lease Agreement, dated  as of April 30, 1999, by and between Ganpat I. Patel and Manju G. Patel,  Trustees of the Patel Family Trust dated July 17, 1987, as to an undivided  two-thirds interest, and Kenneth O. King and Arlene King, husband and wife as  joint tenants, as to an undivided one-third interest, as tenants in common,  and Cherokee International Corporation.(2) |
| 21.1   |   | Subsidiaries of the  Registrant.                                                                                                                                                                                                                                                                                                                                                     |
| 23.1   |   | Consent of Independent  Registered Public Accounting Firm.                                                                                                                                                                                                                                                                                                                           |
| 31.1   |   | Certification of Chief  Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.                                                                                                                                                                                                                                                                           |
| 31.2   |   | Certification of Chief  Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.                                                                                                                                                                                                                                                                           |
| 32.1   |   | Certification of CEO and CFO Pursuant to 18 U.S.C.  Section 1350, as Adopted Pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                   |

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(1)          Incorporatedby reference from the Registration Statement on Form S-8, filed bythe Registrant on March 16, 2004.

(2)          Incorporatedby reference from the Registration Statement on Form S-1 (File No. 333-110723),filed by the Registrant on November 25, 2003.

(3)          Incorporatedby reference from Amendment No. 2 to the Registration Statement on Form S-1(File No. 333-110723), filed by the Registrant on February 4,2004.

(4)          Incorporatedby reference from Amendment No. 4 to the Registration Statement on Form S-1(File No. 333-110723), filed by the Registrant on February 15,2004.

(5)          Incorporatedby reference from the Quarterly Report on Form 10-Q, filed by theRegistrant on May 12, 2004.

(6)          Incorporatedby reference from the Quarterly Report on Form 10-Q, filed by theRegistrant on August 9, 2004.

 

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**SIGNATURES**

Pursuantto the requirements of Section 13 or 15(d) of the Securities ExchangeAct of 1934, the registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized, on this 1st day of April,2005.
|   | CHEROKEE INTERNATIONAL CORPORATION |
|--------|------------------------------------|
|   | By:                                | /s/ JEFFREY M. FRANK |   |
|   |                               | Jeffrey M. Frank |
|   |                               | *President and Chief Executive Officer* |

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed below by the following persons on behalf of the registrant, and inthe capacities indicated, on this  1stday of April, 2005.
| /s/ JEFFREY M. FRANK        |   | President, Chief Executive Officer and Director   |
|-----------------------------|--------|---------------------------------------------------|
| Jeffrey M. Frank            |   | (Principal Executive Officer)                     |
| /s/  VAN HOLLAND            |   | Chief Financial Officer  (Principal Financial and |
| Van Holland                 |   | Accounting Officer)                               |
| /s/  KENNETH KILPATRICK     |   | Chairman of the Board                             |
| Kenneth  Kilpatrick         |   |                                              |
| /s/  ANTHONY BLOOM          |   | Director                                          |
| Anthony Bloom               |   |                                              |
| /s/  CHRISTOPHER BROTHERS   |   | Director                                          |
| Christopher  Brothers       |   |                                              |
| /s/  CLARK MICHAEL CRAWFORD |   | Director                                          |
| Clark Michael  Crawford     |   |                                              |
| /s/  RAYMOND MEYER          |   | Director                                          |
| Raymond Meyer               |   |                                              |
| /s/  IAN SCHAPIRO           |   | Director                                          |
| Ian Schapiro                |   |                                              |

 

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